Bitcoin, Cybercurrencies and Blockchain

What would we do without money/currency? Money is the unit in which we express prices (making it easer to compare the relative cost of things) and the asset with which we pay for our purchases and debts. A good currency has a stable value relative to goods and services (low or zero inflation) and is universally (or very widely) accepted in payment. The U.S. dollar receives high marks by these criteria. Bitcoin, however, fails miserably in all of these respects.

Why would anyone want to hold a highly volatile “currency” whose value one year ago was $1,230, then rose to $19,343 on December 16, 2017, dropped to $6,915 February 5 of this year and is now $9,364 (March 10, 2018). In addition, bitcoin is not accepted in payment almost anywhere? See my earlier explanation of bitcoin: “Cryptocurrencies-the bitcoin phenomena”

Bitcoin is better characterized as a security – an investment asset. It’s sort of like an option on a lottery, except that a lottery promises to pay something to the lucky person(s) holding the ticket. Bitcoin doesn’t promise to pay out anything to anyone. Its value is simply what you can get someone else to pay you for a bitcoin you want to sell. Buying bitcoin is a bet that its value will rise for some reason while you own it. Its ideological appeal for some is that it exists and functions totally independent of government; and its economic appeal is that it allows the transfer of funds (illegally gained or not) without much chance of being detected. For an excellent review of these points see Peter Morici’s: “Bitcoin-investors-have-reason-to-worry”.

Even if bitcoin had a well-behaved value and was widely accepted, the engine for maintaining and delivering it, a permissionless distributed public ledger of all bitcoin transactions linked together in blocks attached to an ever growing chain (blockchain), is deeply flawed. Records of who owns bitcoins and all transactions involving them are maintained in a database (ledger) copied to everyone with a bitcoin address (account). The system is open to everyone (permissionless) and not dependent on trusting any participants. Each bitcoin transaction is directly between the seller (or payer) and the buyer (payee) peer-to-peer without passing through a central registry such as would be maintained by a bank. Given the ease with which electronic data can be copied, preventing the spending of the same money multiple times when it openly exists in thousands of copies one as official as the other (the so-called double spending problem) in an environment where no one is trusted by design is the main challenge that blockchain ledgers need to overcome.

The majority of payments today are made by digitally transferring the ownership of digital records of money, i.e. electronic transfers of bank deposits. Our deposits of money with banks, which are a bit over half of so-called narrow money in the U.S. (M1= Currency outside of banks + demand deposits in banks), exist as digital records in each bank’s central deposit registry. Banks are so called trusted third parties responsible for insuring that our deposits are not touched and moved without our permission and are responsible for resolving any disputes or problems with regard to our deposits.

If we are paying money to someone who has their account in the same bank, we can go on line and transfer the money from our account to theirs in a millisecond without a service charge. These central registries are fortified with very robust protocols that insure their safety. The process is a bit more complicated if we are making a payment to someone whose account is in a different bank and there is scope for the speed, efficiency and cost of such interbank payments to be improved.

Blockchain’s claim to eliminate the need for trusted third parties by transferring ownership (e.g. of bank balances) directly peer to peer and publishing copies of the ledger containing the record of our transactions and resulting ownership in hundreds of nodes (our computers) around the world. The objective of a system that eliminates the need to trust anyone to safeguard your money from double spending necessitates some very complex and costly operations to substitute for a trusted third party.

For bitcoin, so called, miners are given increasingly difficult mathematical problems to solve to establish that the latest blockchain transaction is unique rather than a copy. The first miner to solve the problem cryptographically stamps the digital transaction record as genuine (in effect notarizes it) adding a new block of transactions to the chain and distributes it publically to all nodes. The winning miner is rewarded with new bitcoin (for as long as they continue to be created). Not only is the manpower and computer capacity required for this competition enormous, but the electricity consumed in bitcoin mining is now greater than is consumed in all of Ireland.

It takes around ten minutes to confirm the authenticity of a bitcoin transaction on average. Ten minutes standing at the check out counter waiting for your payment to be confirmed is an unacceptable eternity. “A familiar critique of Bitcoin is that “it does not scale” in the sense that, as it is currently implemented, the network is not capable of supporting a global payments system that requires many thousands of transactions per second. At the moment, this is true; Bitcoin can support up to 7 transactions per second as compared to the 2,000 transactions per second typically processed by Visa (with the potential to scale to an estimated 56,000 per second).” “The-bitcoin-scaling-debate”

Moreover, most bitcoin users don’t have the IT sophistication to operate and manage their own copy of the blockchain and thus deposit their bitcoins (or other cyptocurrencies) with exchanges that manage transactions for them. These trusted third parties in all but name are in effect banks (though they do not lend your bitcoins to others while waiting for you to use them). “Every-disadvantage-has-its-advantage-reviewing-blockchain”

To participate in the bitcoin system (to buy, use or sell bitcoin, to take the example of the best known cybercurrency) you must register to obtain an address (account). It is a closed system in that you can only deal in bitcoin with other registrants (account holders). If a central bank, for example, issued a digital version of its currency, it would also be a closed system in the same way. Participants would need to be registered with it (i.e. open accounts with it) in order to participate and could only use this Central Bank Digital Currency (CBDC) with other account holders.

When problems arise or views differ on whether and what changes might be desirable in the permissionless blockchain world, there is no one responsible to address it. There is no trusted third party to take responsibility. The bitter disputes among bitcoin “leaders” and its several hard forks (breaking off different versions of bitcoins) illustrate the seriousness of this problem.

The claim is often made that even if blockchain-DLT systems are fatally flawed as the vehicle for making payments, the blockchain technology may have revolutionizing uses for other public records such as property ownership and its transfers. However, the blockchain has so many serious disadvantages that even this more limited claim is very doubtful. “Blockchain Demystified”

To address or minimize these serious drawbacks of Distributed Ledger Technology, cryptocurrencies (there haven’t been any other applications of blockchain after ten years talking about it) have been rapidly moving away from the purer, permissionless, Proof of Work version used by bitcoin to more restricted and limited permissioned, Proof of Stake approaches. None of these to date are as efficient and secure as centralized ledges of the sort used by our banks. “What-if-blockchain-is-useless?”  “Ten-years-in-nobody-has-come-up-with-a-use-case-for-blockchain”

This is not to say that exciting things aren’t happening in the ownership registry area. Digitizing ownership records introduces dramatic economies in tracking ownership and transfers of ownership. Automating many or all of the steps involved in real estate sales with the use of digitized smart contracts can significantly shorten the time and cost of the many steps (mortgage loan agreement and disbursement, collateral confirmation, settlement, title transfer, etc.). “A-pioneer-in-real-estate-blockchain-emerges-in-Europe.” In addition, a number of central banks are considering issuing digital versions of their currencies. These will probably use central registries rather than blockchains. “Central Bank Digital Currency: Bordo-Levin.” But does blockchain technology have any advantages to outweigh the many disadvantages that can’t be achieved quicker, cheaper and more securely with central registries operated by trusted third parties. Probably not. Project Jasper of the Bank of Canada concluded that: “the versions of distributed ledger currently available may not provide an overall net benefit when compared with existing centralized systems for interbank payments.  Core wholesale payment systems function quite efficiently.”    “SWIFT says blockchain not ready”

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The shriveling of U.S. influence

Today in Chile 11 of the original 12 countries that had signed the Trans-Pacific Partnership (TPP) multilateral trade agreement on February 4, 2016 are signing the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP or TPP-11 for short, i.e., the TPP minus the U.S.). Upon taking office President Trump promptly withdrew the United States from the agreement saying that it was “a bad deal”. In fact it modernized and raised the level toward U.S. standards in the areas of e-commerce, intellectual property protection, and dispute resolution. Though the agreement provided significant benefits to the U.S. and despite the U.S. withdrawal, the remaining participants (Australia, Brunei, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore and Vietnam) preserved the basic provisions of the original agreement while freezing 22 provisions of particular interest to the United State to facilitate its rejoining at a latter time should it return to its senses.  China and other Pacific Rim countries are also welcome to join if and when they meet the agreement’s high standards. This will not be easy for China should it chose to return to its earlier efforts to integrate into the rules of the world trading system.

The U.S. Congressional Research Service summarized the key provisions of the TPP as follows:

“The TPP would provide several principal trade liberalization and rules based outcomes for the United States. These include the following:

  • lower tariff and non tariff barriers on U.S. goods through eventual elimination of all tariffs on industrial products and most tariffs and quotas on agricultural products;
  • greater service sector liberalization with enhanced disciplines, such as nondiscriminatory and minimum standard of treatment, along with certain exceptions;
  • additional intellectual property rights protections in patent, copyrights, trademarks, and trade secrets; first specific data protection provisions for biologic drugs and new criminal penalties for cybertheft of trade secrets;
  • investment protections that guarantee nondiscriminatory treatment, minimum standard of treatment and other provisions to protect foreign investment, balanced by provisions to protect a state’s right to regulate in the public interest;
  • enforceable provisions designed to provide minimum standards of labor and environmental protection in TPP countries;
  • commitments, without an enforcement mechanism, to avoid currency manipulation, provide transparency and reporting concerning monetary policy, and engage in regulatory dialogue among TPP parties;
  • digital trade commitments to promote the free flow of data and to prevent data localization, except for data localization in financial services, alongside commitments on privacy and exceptions for legitimate public policy purposes;
  • enhanced regulatory transparency and due process provisions in standards setting; and
  • the most expansive disciplines on state owned enterprises ever in a U.S. FTA or the WTO, albeit with exceptions, to advance fair competition with private firms based on commercial considerations.”

No trade agreement (yet) is perfect and the TPP represented a significant improvement for the U.S. and its trading partners of existing agreements.

The 11 signers, in addition to embracing standards that will promote economic growth in their own countries in the long run also sought originally to enhance America’s role and leadership in the Asian Pacific area (i.e., as a counterbalance to the rising strength of China). With or without the U.S. more countries are expected to join the CPTPP after the governments of the current 11 have ratified it. At the top of this list are Taiwan, Thailand, South Korea, the Philippines, and Sri Lanka.

President Trump has chosen to retreat from American leadership in setting and helping to oversee the rules of international cooperation and trade. It seems unlikely that Wilbur Ross and Peter Navarro will give up their fixation on protecting a hand full of inefficient, uncompetitive American industries, so Congress should take back its constitutionally given authority over trade policy delegated to the President in the Trade Act of 1974.

China’s misbehavior can be better addressed using the rules and provision of the WTO in ways that would strengthen the rule based international order rather than weakening it as Trump is now doing with the use of the national security provision. If China is selling its aluminum below cost, i.e., dumping it, we should impose a tariff on China under WTO rules against dumping. The use of the national security provision of the WTO is laughable on the face of it and would weaken rather than strengthen the rule of law in the trade area.

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Econ 101—Trade in very simple terms

Trade allows people and firms to specialize in what they produce. This enables them to be more productive. This raises the income (standard of living) of both the seller and the buyer (who must also sell something in order to buy something)—i.e. both the exporter and importer.

So what does Trump’s steel and aluminum tariff do?

The American economy is now fully employed (ok, maybe some of those who left the labor market in recent years, not all of whom are old, can be coaxed to return). Thus if high tariffs on steel and aluminum make previously non competitive and inefficient American steel and aluminum producers competitive again, where will the workers come from to do that work? They must be attracted away from what ever they are producing now—lets call it good A. So we will produce less of good A, which was competitive without taxpayer subsidies or regulatory favoritism, in order to produce more steel and aluminum, which was not competitive before given tariff protection. Add it up and our overall income goes down. The economy over all will be less efficient, less productive, and our overall incomes and standard of living will be reduced.

This reallocation of our resources from more productive to less productive products will make owners of steel and aluminum companies and property owners around closed foundries happy. Trump-may-prosper-from-tariffs-even-if-this-faded-port-town-doesnt/2018/03/02/. But what about those who buy steel and aluminum made more expensive by the tariffs? What about Boeing and other aircraft manufacturers who are the fourth largest American exporters, whose products will now be more expensive and less competitive with Airbus, etc.? When steel tariffs were imposed in the year 2002, 200,000 Americans in steel using industries lost their jobs. That is more than the total of around 150,000 workers in the steel industry! “If-the-US-steel-industry-employs-150000-people-then-how-can-imports-threaten-500,000-jobs?”

Subsidizing inefficient industries with tariffs hurts consumers, who will have to pay the higher prices of aluminum beer cans, etc., as well as exporters like Boeing. We will all (except steel and aluminum producers) pay the cost of this increased inefficiency. Commerce secretary Wilbur Ross thinks we should just get over these modest increases in the costs of our purchase of goods that include steel and aluminum for the greater good of American steel and aluminum producers and the 150,000 people who work for them. In case there are children listening I am withholding what I would like to say to Mr. Ross.

Only 2.2% of our steel and aluminum imports come from China while Canada (hardly a security threat to the U.S.) provides 16.1% of our imports of these products: The rest of the world will not roll over and play dead. The EU is already preparing counter measures to punish American exporters to Europe. “EU-vows-to-hit-back-against-trump-in-trade-war”

Following the end of WWII the world, lead by the U.S., has built up mechanisms for promoting fair trade (first the General Agreement on Trade and Tariffs—GATT—now called the World Trade Organization—WTO). Where countries violate these rules, and China frequently does, they should be addressed via the WTO. American interests, and the world’s interests more generally, are served by strengthening the WTO not weakening it. Trump’s unilateral tariffs do not serve our interests. Not only has he persistently undermined free markets with his misplaced attack on bilateral trade deficits but he has systematically undermined the WTO and the international rule of law. Please, Mr. President, stop this nonsense before it gets even worse.

Trade wars are never good, and no one wins in the end. Instead we should be enforcing and improving the rules of trade via the WTO, which has helped left millions of people out of poverty and raised the standard of living of the average person.


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Better Gun Control?

The nation morns the senseless murder of 17 mostly young students at Marjory Stoneman Douglas High School in Florida. Everyone would like to find ways to make such attacks less likely in the future. Though we can understand the sentiments of the surviving students demanding “never again”, we know that that is impossible, just as we know that we cannot end death on our highways. In 2016 37,461 people died in the United States in car accidents while 15,094 died from guns, of which over 60% were suicides and 383 were from mass shootings.

Many things have been done to make automobiles and roads safer (car deaths per 100,000 dropped from 26.4 in 1969 to between 10 and 11 in recent years) but no one has proposed outlawing cars. What can be done to make America safer from guns?

David Hogg, one of the student survivors of the shooting said on CBS’s Face the Nation: “We’ve seen a government shutdown, we’ve seen tax reform, but nothing to save our children’s lives,…’’ Michael Udine, a county commissioner in Broward County, stated that: “Any politician who is coming to just talk or just to give their thoughts and prayers, that’s not needed,” Udine said. “Thoughts and prayers are not good enough anymore.” “The student activists repeatedly expressed optimism and hope for constructive conversations and changes to U.S. gun laws, “ but at this point the newspapers are not reporting the specifics of what those changes in gun laws should be. “Florida-students-plea-with-congress-its-about-the-guns

“Teenage survivors of the shooting, propelled by their haunting experience, announced the creation of “March For Our Lives” and what they hope will be a huge demonstration in Washington on March 24. On its new website, the group’s mission statement says: ‘Not one more. We cannot allow one more child to be shot at school.’ The more adult Priti Kothari, a child and adolescent psychiatrist based in nearby Boca Raton, stated that “The adolescent brain is searching for meaning, and these funerals offer a way for them to ask, ‘How can I be of service?’ ” Kothari said. “How does this anger turn into something that’s productive?” “Funeral after funeral…” Washington Post. This is the serious, non-partisan question that we are all asking.

E. J. Dione, Jr., presumable an adult, stated that: “ it’s a mark of political corruption when unaccountable cliques block solutions that enjoy broad support and force their selfish interests to prevail over the common good. On gun violence, the United States has become a corrupt failed state.” Mr. Dione’s rant illustrates just who difficult it is to have a serious discussion of this issue. “On-gun-violence-we-are-a-failed-state”

Gun laws must respect the second amendment of our constitution and should actually contribute to reducing gun violence. Thus we should start by examining the evidence on what actually has or might work to reduce gun violence.

Serious studies of the effectiveness of popular control measure have found little evidence that they would or have helped. “Gun-control-solutions-supported-by-experts”. Dan Mitchell has provided a series of articles summarizing some of these studies under the title “another honest liberal debunks gun control.” “Now-there-are-four-another-honest-liberal-debunks-gun-control”

Dan’s most recent in that series (linked above) quotes passages from Leah Libresco’s must-read column in the Washington Post.

“Before I started researching gun deaths, gun-control policy used to frustrate me. I wished the National Rifle Association would stop blocking common-sense gun-control reforms such as banning assault weapons, restricting silencers, shrinking magazine sizes and all the other measures that could make guns less deadly….

My colleagues and I at FiveThirtyEight spent three months analyzing all 33,000 lives ended by guns each year in the United States, and I wound up frustrated in a whole new way. We looked at what interventions might have saved those people, and the case for the policies I’d lobbied for crumbled when I examined the evidence.” “A-cure-for-mass-shootings-doesn’t-exist”

Part of the problem is that most of us don’t understand what differences between weapons are important and what are not. The term “assault weapon” is a meaningless one invented by gun control advocates. There is no coherent definition of such a weapon. The AR-15 used in Florida by Nikolas Cruz is a semi-automatic rifle (it shots one bullet every time you pull the trigger) with pretty much the same fire capacity as most any other hunting rifle. “An-assault-weapon-ban-won’t-stop-mass-shootings”

Maybe more stringent background checks of those wanting to buy guns would reduce the number of dangerous people getting them? Maybe, but will enforcement be rigorous enough? The FBI failed to follow up on trouble signs reported to it about Nikolas Cruz. The Florida mass shooter passed his background check. A waiting period would have made no difference as he bought his AR-15 semiautomatic rifle a year before his attack. “Florida-shooter-Nikolas-Cruz-bought-AR-15-legally” However, most gun deaths in the U.S. are suicides and restricting ownership is correlated with fewer suicides.

It also doesn’t help when politicians lie about the facts. The Washington Post’s fact checker gave Sen. Bernie Sanders four Pinocchios for repeating the lie that because guns can be sold at gun shows without background checks (not true) “Forty percent of the guns in this country are sold without any background checks.” “Though Sanders referred to the “gun show loophole,” not a single person surveyed said they obtained a weapon at a gun show without a background check.” “Bernie-sanders-resurrects-a-zombie-claim-on-gun-sales-without-background-checks” Nor is it true as claimed by former President Obama after the November 27, 2015 Planned Parenthood attack that the U.S. has the worst record of mass shootings. Obama claimed:  “I say this every time we’ve got one of these mass shootings: This just doesn’t happen in other countries.” The ten countries with a significantly worse record than the U.S. include Norway, France, Switzerland, Belgium, and Finland. “Comparing-death-rates-from-mass-public-shootings-in-the-us-and-europe”

If none of the restrictions on gun ownership or the types of guns that may be owned have demonstrated effectiveness in reducing gun deaths, especially mass shootings, what can be done that might be more effective? As with medical doctors, the first principle should be DO NO HARM.

One proposition, explored by Jeff Goldberg in the Dec. 2012 issue of The Atlantic, is to encourage a better-armed public to counter shooters. “Today, the number of concealed-carry permits is the highest it’s ever been, at 8 million, and the homicide rate is the lowest it’s been in four decades—less than half what it was 20 years ago.

“It is also illogical for campuses to advertise themselves as “gun-free.” Someone bent on murder is not usually dissuaded by posted anti-gun regulations. Quite the opposite—publicly describing your property as gun-free is analogous to posting a notice on your front door saying your home has no burglar alarm. As it happens, the company that owns the Century 16 Cineplex in Aurora in which 12 people were killed and 70 were injured by one gunman in 2012 had declared the property a gun-free zone.” “The-case-for-more-guns”

A powerful statement was made to a congressional committee by Suzanna Gratia Hupp who watched her parents shot to death by a madman and was angry that the law in Texas had required her to leave her hand gun in her car:

We still do not know the specific motive of Nikolas Cruz. But he was clearly emotionally “challenged” for which he had been receiving care. It is not possible to predict when one of the millions of American suffering emotional problems of one sort or another might turn mass murderer. When someone does, the only “remedy” at that moment is to shoot back as Goldberg and Ms. Hupp argue. Dan Mitchell has an excellent discussion and another real life example of this point. “Law-abiding-texans-gun-ownership-and-saving-lives”

What besides self-defense (confronting shooters with a gun) might be done that might offer some prospect of effectiveness?

David French in National Review presents the case for Gun Violence Restraining Orders (GVRO) that can be sought by members of the family or those close to the targeted individual on the bases of evidence (seeing or hearing something). “As with Felons, the dangerously mentally ill, perpetrators of domestic violence — these people have not only demonstrated their unfitness to own a weapon, they’ve been granted due process to contest the charges or claims against them. There is no arbitrary state action. There is no collective punishment. There is, rather, an individual, constitutional state process….” “Gun-control-republicans-consider-GVRO”

Another measure that builds on the same legal foundation of due process has been introduced by Republican Senator Jeff Flack and Democratic Senator Martin Heinrich. The bill would ensure that anyone convicted of domestic violence in military court couldn’t legally purchase a firearm, thus matching the existing prohibition for anyone so convicted in a civil court. “Flake-heinrich-introduce-bill-to-permanently-close-gun-loophole-used-by-texas-shooter” If neither of these measure make much of a positive contribution to reducing gun violence, at least they DO NO HARM.

Those who grow up in gun homes normally are taught to respect and use guns carefully. But are there other messages that might go in the other direction that we should be concerned about?

Mass shootings by young adults or children have a quite remarkable common theme that began appearing in the late 1980’s.  Children shooting other children began to increase and it was almost always in the head. Columbine was the first schoolyard mass shooting.  Almost all of the victims were shot in the head.  Shootings by children at schools or anywhere else were exceedingly rare until the introduction of first-person shooter video games. “Video-games-desensitize-to-real-violence”

The above and subsequent studies argued that the first person shooter video games greatly desensitized the player to violence.  While that, in and of itself is a problem, the effect is more profound on those with a spectrum of mental disorders. The impact is especially profound in those children with disassociative disorders as they are mentally able to disconnect their actions from the consequences.

The same studies on what creates or nurtures addictive behavior are being used by the scientists behind game makers to create just such experiences in video games.  Those with some forms of mental disorders, such as disassociative disorders, can lose themselves in a video gaming world.

It is note worthy that in most first person shooter video games you earn the most points with headshots. As we all know guns do not cause violence – people do.  And creating games that foster and nurture violent dissociative behavior in people and especially children can have real, quite undesirable consequences. Parents beware.

In many respects our problem with mass murderers is similar to our problem with highway deaths. It is not practical to ban cars any more than to ban guns for both legal and practical reasons. We are left looking for practical ways to diminish or mitigate the risks without throwing out the baby with the bath water. “Yes-this-is-a-good-time-to-talk-about-gun violence”

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Feeding the Swamp

During his filibuster leading to last week’s brief government shutdown, Sen. Rand Paul (R-Ky.) stated that: “When Republicans are in power, it seems there is no conservative party…. The hypocrisy hangs in the air and chokes anyone with a sense of decency or intellectual honesty.” He was protesting the compromise two-year budget just passed by the Senate and awaiting passage in the House. This budget, now signed into law by President Trump, adds over $300 billion in additional government spending this year alone on top of the $1 trillion dollar deficit created by the recently passed tax cut. “Why-did-the-GOP-vote-for-a-budget-busting-spending-bill-because-voters-dont-seem-to-care”

A few congressmen reacted with more principle. “’I’m not only a ‘no.’ I’m a ‘hell no,’ ” quipped Rep. Mo Brooks (R-Ala.), one of many members of the Tea Party-aligned Freedom Caucus who left a closed-door meeting of Republicans saying they would vote against the deal.

“It’s a “Christmas tree on steroids,” lamented one of the Freedom Caucus leaders, Rep. Dave Brat (R-Va.).” “Right-revolts-on-budget-deal”

Why should we worry about adding to the public debt? The “deficit” is the shortfall of tax revenue below expenditures in one year. This is now forecast to average about one trillion dollars in each of the next two years. “Bipartisan-budget-act-cements-return-trillion-dollar-deficits”. Each year these annual deficits add to the outstanding U.S. national “debt” currently at $20.6 trillion dollars. Even before the recent tax cuts and last week’s expenditure increases, the Congressional Budget Office projected Federal debt held by the public at $25.5 trillion or 91.5% of GDP by 2027. But that figure omits debt held by the Federal Reserve, Social Security “trust” fund, and other government entities, which must also be serviced and repaid. When these are included as they should be, gross federal debt is projected to be $30.7 trillion or 110% of GDP by 2027 and 150% of GDP in thirty years and climbing. And to repeat, this is before the recent tax cuts and budget increases.

As our economy grows so does the government’s capacity to carry and service (pay the interest on) the debt. But on the basis of existing laws and policies our debt will grow faster than the economy forever. But of course that is impossible. At some point taxes must be increased or expenditures cut, or the government defaults on its debt. In fact the problem is worse than these figures suggest because they fail to include the future taxes or borrowing needed to cover unfunded government liabilities. These are commitments, such as future Social Security pension payments, for which existing financing falls short. For example, Social Security payments already exceed its annual revenue from the wage taxes of current workers and the so-called trust fund will run dry in fifteen years. That will add still more to the deficit and the debt.

Indeed, there are times when deficits are ok and even helpful. When the economy goes into recession the government should allow the deficit that naturally results from falling tax revenue and increasing safety net spending. These are referred to as automatic stabilizers. However, we are currently not now in that phase of the business cycle. We are now at its peak and if the government is to achieve fiscal balance over the cycle it must run budget surpluses at the peak to pay for the deficits during the slumps. The U.S. should now have a budget surplus and not the huge deficit presently experienced and projected. The White House’s announcement today (Monday) that it is giving up on the traditional Republican goal of a balanced budget in ten years is hardly a surprise when we are starting with a large deficit at the peak of the business cycle.–alert-national&wpmk=1

Senator Paul was rightly angry that not only was the need to face and correct this untenable future kicked down the road yet again, but the process of doing so was corrupt. Votes were bought by sticking in special tax and spending breaks for the constituents and friends of individual congressmen—the old earmarks by another name. “Budget-deal-retroactively-extend-several-expired-tax-provisions”. While it is true that the bipartisan budget deal wouldn’t have passed without these bribes, it shouldn’t have passed. Instead of draining the swamp the Republicans have joined with the Democrats to feed it. “In-big-reversal-new-trump-budget-will-give-up-on-longtime-republican-goal-of-eliminating-deficit”. And more repulsive is the fact that these are the same Republicans who rallied against spending during the Obama years. This is the hypocrisy Senator Paul lamented.

Congress has failed yet again to prioritize it’s spending to match the resources that taxpayers are willing to pay. The moral corruption of this way of doing business was reestablished and reinforced. As another example of blatant corruption, Presidents have rewarded (paid off) large contributors with Ambassadorships to nice places like London, Paris, and Rome (to name a few) for decades. This is pure corruption for which the country pays with lower quality representation and diplomacy than would be provided by Foreign Service professionals. Unfortunately we have grown used to it and barely notice it. This is dangerous.

All individual government expenditures and programs look worthwhile to at least some people, but at the expense of what? What do taxpayers or investors or other government programs give up to finance them. These are not easy choices and decisions but it is the job of our representatives to make these judgments in the best interests of the country as a whole. That is probably expecting more than they are capable of delivering, but it is their job. Those of you of Generation X, Y and Z will have to pay for this so you are the ones with an incentive to do something about it. We need more Rand Pauls. “The-5-biggest-losers-from-the-2018-budget-deal-are…”

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Econ 101: What is a strong dollar?

Should the United States seek a strong dollar or a weak dollar? The answer to the previous question appears obvious but what exactly does a strong or weak dollar mean? As I write this the exchange rate of the dollar for the Euro is 0.80 Euros per dollar. Is that strong or weak? Three weeks ago (January 9) a dollar would buy 0.839 Euros. Was that too strong, about right or weak? On what basis should we judge that question? Eleven months ago the rate was 0.95 Euros per dollar. Ten years ago the rate was 0.62 Euro/USD. One thing that is clear is that the rate varies a lot and thus the price of American exports to the rest of the world and of imports by the U.S. from the rest of the world also vary a lot. This makes business planning difficult.

According to Your Dictionary:

“strong dollar – Investment & Finance Definition. A situation in which the U.S. dollar can be exchanged for a relatively large amount of another currency. A strong dollar makes exports relatively expensive because foreign purchasers have to pay more, in their currency, for the goods.” This is a somewhat helpful definition.

According to Investopedia, “strongweakdollar”,

“A strong dollar occurs when the U.S. dollar has risen to a level against another currency that is near historically high exchange rates for the other currency relative to the dollar.” This is a useless definition.

Back in the gold standard days, the prices (exchange rates) of most currencies for most other currencies were fixed because the value of each currency was fixed to an amount of gold. It was important in those days for the balance of payments between countries (the net inflows and outflows of a country’s currency as a result of its imports and exports and investment flows) to be roughly balanced over the long run. In fixed exchange rate systems (like the gold standard) a balance of payments deficit was paid for by an outflow of the deficit country’s currency (ultimately gold). The resulting reduction in the money supply of the deficit country would reduce domestic prices, making domestic goods and their export prices cheaper and the domestic prices of imported goods relatively more expensive. Thus in deficit countries their now cheaper exports would increase and their now more expensive imports would decrease. These economic adjustments would correct (eliminate) the imbalance of external payments.

The above summary of the adjustment process under a gold or similar fixed exchange rate world draws on two features of prices and exchange rates. The first is that the prices of American goods to the French, for example, depend on the U.S. dollar prices times the exchange rate of the dollar for the Euro. If either the dollar price of a product increases or the exchange rate of dollars for Euros increases (it takes more Euros to buy a dollar), the product becomes more expensive in France. Similarly, under the same circumstances French goods become cheaper in the U.S. Thus the French will buy less from America and Americans will buy more from France. This will reduce any balance of payments surplus in the U.S. or worsen a balance of payments deficit.

The second feature is that other things equal an increase in the money supply in a country tends to reduce its purchasing power, i.e. to increase domestic prices in general (inflation). So a country with an external balance of payments deficit paid for by an outflow of its currency (gold) will reduce the money supply and thus prices in that country and eliminate the external deficit.

While we are at it, it should be clear that the external balance of payments that matters is between each country and the rest of the world. A balance of payments between the United States and Mexico, to take a random example, is totally irrelevant to whether currencies (gold) are flowing in or out of the U.S. on net.

Consider the balance of payments between one household and the rest of the world. The breadwinner or winners have a large balance of payments surplus with her or their employer(s)—their salaries—and a balance of payments deficit with every one else. The deficit with the grocery store will go on forever and simply doesn’t matter as long as all external deficits don’t excess the surplus with her employer (in the long run). President Trump, please take note.

In fixed exchange rate systems, the terms “strong” or “weak” currencies are generally not used. The overall balance of payments is the important thing. However, a strong currency might mean that it is “over valued” and thus producing a balance of payments deficit that will need to be corrected by a domestic deflation. This is what Greece had to do a few years ago within the single currency Euro area to restore its balance of payments equilibrium. A weak currency might mean the opposite—an undervalued currency that produces a balance of payments surplus, which will be eliminated by the domestic inflation resulting from a net currency inflow. Clearly neither a strong nor a weak currency is desirable. The ideal is a goldilocks middle ground of not too hot and not too cold but just right balance of payments balance.

Where currency exchange rates are not fixed to each other but determined in the foreign exchange market by the supply and demand for currencies, the adjustment of balance of payments surpluses or deficits occurs via adjustments in the exchange rate rather than net flows of currency in and out that increase or decrease domestic prices. Market exchange rates are determined not only by the imports and exports of a country (the trade balance) but also by investment motivated currency flows (capital flows). Thus monetary policy and interest rate differentials between countries can influence where investors chose to invest. If the Federal Reserve increases its policy interest rate and raises market interest rates as a result, unless the ECB also increases its interest rates, some interest sensitive investments are likely to move from Europe to the US, increasing the dollar’s exchange rate with the Euro in the process. The risks attached to investments are also important, and financial market disturbances abroad can often precipitate capital flows into the U.S. even with lower U.S. interest rates (the so called safe heaven phenomenon).

Central bank intervention to influence exchange rates for countries with floating rates is considered a violation of the rules of free trade. But when central banks raise or lower their interest rates without coordinating with other central banks this is exactly what happens. This makes it difficult to know whether a country is playing by the rules or not. But this surely pushes what can be learned in Econ 101 to its limits. You might consider Econ 201.

So what does a strong dollar or a weak dollar mean, and is a strong dollar a good thing? There is a sense in which we might speak of a strong dollar as meaning “a favorable terms of trade”. If a country’s international payments balance at prevailing exchange rates, a higher ratio of export prices to import prices enables the country to import more for given exports than when the (real) exchange rate is “weak.” This reflects higher domestic productivity relative to that of foreign competitors and such strength is clearly a good thing. I assume that this is what Secretary Mnuchin meant in his unfortunate discussion of weak and strong dollars at Davos last week.

If you are up to a deeper plunge, take note of the fact that the widespread use of the U.S. dollar in international reserves requires the U.S. to have a balance of payments deficit in order to supply the world with those dollars. This is one of several reasons why a truly international reserve asset such as the IMF’s SDR should replace the dollar in international reserves. See: “Why the World Needs a Reserve Assets with a Hard Anchor”



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Immigrants from Hell

What immigration policies best serve the national interests of the United States?

Every country on the face of the earth has citizens whose intelligence, enterprise, and moral character range from 0 to 10. In poorly governed countries, we might call them “hell hole” countries, their best and brightest (the 8, 9, and 10s) often immigrate to more promising environments. The United States, with our constitution of liberty, has attracted a disproportionally large number of them. This is a dominant factor in the economic success of America and our spirit of individualism and enterprise.

Just as individuals and companies compete in the market place to maximize the reward for their efforts (those who serve the public best, profit the most), so do the countries of which they are a part. When and if individuals and companies are given the chance to protect themselves from and restrict such competition they generally take it. Free (i.e. competitive) markets rarely offer such opportunities but governments often do. Governments claim to restrict competition to protect consumers or protect jobs from cheap foreign labor, etc. But more often than not government measures to interfere in the market are the result of political pressure to serve and protect special interests, what most of us would call corruption. Examples of government measures to protect companies or individuals from competition include: import tariffs, teachers’ unions that protect the jobs of bad teachers, excessive product safety standards that foreign competitors as well as domestic start-ups find hard to meet, and restrictive professional licensing through which medical doctors (to name just one profession) have limited who and what medical services can be provided.

The government’s regulation of who may immigrate temporarily or permanently is another area heavily influenced by individuals and companies seeking to protect themselves from competition. Subjecting American firms and workers to competition from foreign firms and workers (either from “cheap” foreign labor making it there and exporting to us, or immigrating and making it here), promotes long run economic growth.

Immigrants don’t take existing jobs from Americans; they create new jobs needed to pay for the consumption they add to the economy. While it is true that a firm can profit more with a monopoly by charging more by supplying less, the income of the nation as a whole suffers when supply is monopolized. Thus while worker and firm monopolies (e.g. the United Auto Workers, and uncompetitive steel manufacturers protected by import tariffs on potential competitors) will increase worker and firm incomes in the short run, the country would be poorer than otherwise in the long run. If we closed the border to trade all together, the country’s income would suffer considerably in the long run.

In this note I review a few immigration issues from the perspective of what policies best serve the national interest. By national interest I generally mean policies that best promote broadly shared economic growth. The self-selection of the best and brightest from around the world to immigrate to the U.S. in our earlier history clearly helped make us the prosperous nation that we are today. Our poorest citizens live better than the average citizen in many of the world’s poorer countries.

Attract the best and the brightest. To continue our past history of attracting the best and the brightest from around the world, our immigration policy should favor admitting the most talented and those with the work skills most needed. If we do not continue to attract and admit them they will go elsewhere boosting the economic fortunes of other (competitive) countries. “Immigration-is-practically-a-free-lunch-for-America”

Of the approximately one million foreigners given permanent residency each year about 70% are extended family members of existing permanent residents. These are the parents and grandparents and aunts and uncles of existing citizens or green card holders most of whom do not intent to work and/or do not have skills relevant to our labor markets. From a given total of immigrants the extended family preference crowds out workers. If we want to promote faster economic growth, we should pull the family preference back to the nuclear family (spouse and children) and keep or increase the total number of immigrants allowed each year thus increasing those coming to work.

Attract the best and the brightest. Similarly we should replace the existing green card lottery with merit based selection criteria (i.e. with H-1B visas, which are currently limited to 85,000 per year). The green card lottery, which provides 50,000 immigrant visas per year from countries with a low number of immigrants over the preceding five years, is meant to increase the diversity of countries from which people immigrate. Such country quotas, even if immigrants from each country are accepted on merit rather than luck, diminish the average skill levels from a global total without diversified country quota. A case might be made, however, that America’s interests are served by the good will gained when citizens of a large number of countries have a better chance of immigrating to the United States.

Help those displaced. While increased worker productivity increases our standard of living, it also causes some workers to loose their old jobs and to acquire the new skills needed for the evolving work place. While some of these dislocations come from the competition of global trade, most is the result of improving technologies that increase labor productivity and from changes in consumer tastes. These costs, which fall on a few for the benefit of many, must not be minimized or ignored.

Many of us are no longer such big risk takers as were our ambitious ancestors. We prefer a bit more security at the expense of increases in income. In any event we need to provide an effective and efficient safety net for those of us whose skills are no longer appropriate in the labor market while retraining for the new jobs that replaced the old ones. Very importantly, a public – private partnership should improve the targeting of training of new entrance into the labor force for today’s and tomorrow’s needs and to better support the retraining of those already in the labor force but in no longer needed occupations. This is a reasonable price to pay by the rest of us who benefit from the raising living standards of improving productivity.

Restore the rule of law. There are 11 to 12 million illegal immigrants living in the United States. It is not in our national interest to go on ignoring the law. But it would be devastating to our economy (to the firms that employ them) and to the personal lives and welfare of these people to expel them even if we had the military/police capacity to do so. So the laws defining their status must be changed. There is almost unanimous agreement that the Dreamers (those brought into the country illegally as minors) should be given legal status (permanent residency) but less agreement about citizenship. In my opinion, all illegal immigrants who have been here for more than say five years and have not been convicted of a felony should be granted permanent legal residency. However, to become citizens they should be required to go through the same process and procedures as anyone else applying for citizenship (though from their American residence).

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