Amen and Hallelujah

Jeffrey Miron:

Bankruptcy does not mean the company disappears; it is just owned by someone new (as has occurred with several airlines). Bankruptcy punishes those who took excessive risks while preserving those aspects of a businesses that remain profitable.

In contrast, a bailout transfers enormous wealth from taxpayers to those who knowingly engaged in risky subprime lending. Thus, the bailout encourages companies to take large, imprudent risks and count on getting bailed out by government. This "moral hazard" generates enormous distortions in an economy's allocation of its financial resources.

Thoughtful advocates of the bailout might concede this perspective, but they argue that a bailout is necessary to prevent economic collapse. According to this view, lenders are not making loans, even for worthy projects, because they cannot get capital. This view has a grain of truth; if the bailout does not occur, more bankruptcies are possible and credit conditions may worsen for a time.

Talk of Armageddon, however, is ridiculous scare-mongering. If financial institutions cannot make productive loans, a profit opportunity exists for someone else. This might not happen instantly, but it will happen.

Further, the current credit freeze is likely due to Wall Street's hope of a bailout; bankers will not sell their lousy assets for 20 cents on the dollar if the government might pay 30, 50, or 80 cents.

The costs of the bailout, moreover, are almost certainly being understated. The administration's claim is that many mortgage assets are merely illiquid, not truly worthless, implying taxpayers will recoup much of their $700 billion.

If these assets are worth something, however, private parties should want to buy them, and they would do so if the owners would accept fair market value. Far more likely is that current owners have brushed under the rug how little their assets are worth.

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Economic laws of conservation

I do not have detailed knowledge of this situation, but I am pretty familiar with what might be called "economic laws of conservation", and the bailout violates several of these.

When some crackpot inventor claims that he has created a perpetual motion machine or similar impossible device, and he has a long, detailed argument as to how and why this machine works, you have two choices:

1) You can spend the next several hours or days of your life going through his argument to see whether it is correct. You are likely to get this wrong, because the errors in a long argument, especially one which fooled the inventor, may be subtle and easy to miss.

2) You can point out that a perpetual motion machine violates fundamental physical principles. One example I've seen is a machine which violates the law of conservation of momentum. The inventor claimed that his machine managed to accelerate without pushing back on anything or throwing anything back, which is a straightforward violation of the law of conservation of momentum. Another law which is likely violated by any perpetual motion machine is the law of entropy, the second law of thermodynamics.

One of the economic broad principles that I am familiar with is that, while the market can be wrong, you (whoever you are) are almost certainly unable reliably to do better than the market. Claims that the government will probably recoup its investment and even profit violate this principle.

Another of the economic broad principles that I am familiar with is that the market works by no other means than rewarding wise investment and punishing foolish investment. That is how it works. A more general broad principle, upon which this relies, is that you get more of what you reward. The bailout violates this principle as well. Miron appeals to this principle when he writes:

In contrast, a bailout transfers enormous wealth from taxpayers to those who knowingly engaged in risky subprime lending. Thus, the bailout encourages companies to take large, imprudent risks and count on getting bailed out by government. This "moral hazard" generates enormous distortions in an economy's allocation of its financial resources.

One can go on.

Miron, and other economists who have spoken out against the bailout, have tended to make arguments that I find comprehensible and persuasive, because they appeal to broad economic principles that I am familiar with and have long since accepted. Those who have spoken out in favor of the bailout - well, for one thing, rather than see actual arguments from them I have seen appeals to authority, appeals to hidden knowledge, sky-is-falling warnings that have no actual content but serve merely to shift the reader into panic mode, and the like. I've seen glimpses, here and there, amidst the ocean of invalid argumentation, of something that looks like an actual argument, but what I have seen has displayed that narrow focus, that missing-the-forest-for-the-trees aspect, which I remember from arguments of the inventors of perpetual motion machines.

Good economics since Bastiat has been largely about noticing "that which is unseen" - i.e., noticing the forest while the rest of the world obsesses over the trees. The arguments against the bailout have that look to them. The arguments for, the ones that I have seen, do not.

Post this as separate post

I'll frontpage it

I was about to say the same

I was about to say the same thing. Great post, Constant.

Those who have spoken out in favor of the bailout - well, for one thing, rather than see actual arguments from them I have seen appeals to authority, appeals to hidden knowledge, sky-is-falling warnings that have no actual content but serve merely to shift the reader into panic mode, and the like.

The parallels to the Iraq war and terrorism couldn't be more striking.

I added one

In the frontpaged version I added:

vehement attacks on those who disagree

The inventor claimed that

The inventor claimed that his machine managed to accelerate without pushing back on anything or throwing anything back, which is a straightforward violation of the law of conservation of momentum.

Not necesseraly, a nuclear reaction could decrease the mass of the machine making it accelerate. Or the movement could come from store magnetic momentum. Just saying :)

Another law which is likely violated by any perpetual motion machine is the law of entropy, the second law of thermodynamics.

Not always, but it always violate the first law if it is used to power anything.

Just nitpicking hey :) Your argument is good. I've seen it used against libertarianism though.

Example?

Your argument is good. I've seen it used against libertarianism though.

How so? But let me guess: my guess is that they cite "principles" with which I would take exception.

Found it :

Found it : http://sethf.com/essays/major/libstupid.php

Can you explain to me how this is an example?

Briefly skimming it, my first thought is that I might actually agree with this as a critique of a particular way of formulating libertarianism. It is not, however, a critique of libertarianism itself, but only a critique of a particular way of presenting it. But even if that's the case, I'm not sure I see how it's a re-application of my own approach.

I'm not sure I see how it's

I'm not sure I see how it's a re-application of my own approach

Did you read the 2+2=5 part ? It's essentially your argument... Judge the soundness of the overall conclusion without trying to disprove the details of the demonstration.

I see

Well, the overall conclusion of 2+2=5 is disprovable by an alternative brief but rigorous route, without examining the supposed proof. Emphasis on rigorous. And similarly, the two principles that I mentioned - that it is very hard to beat the market, and that you get more of what you reward - are well-established principles. Ask any economist about the difficulty of beating the market. If he knows his subject matter, he can explain and defend that point pretty thoroughly. And the principle that you get more of what you reward (closely related to "incentives matter") also has plenty of scientific research backing it up (look up "operant conditioning").

Contrast all this with Seth Finkelstein's argument. Where are the well-established principles that he contrasts with libertarian conclusions? Isn't he, in fact, not appealing to any such thing at all, but rather to mere conventional wisdom? Seems to me that's what he does.

Perpetual Motion

"Not necesseraly, a nuclear reaction could decrease the mass of the machine making it accelerate."

So what direction will it move with the decrease in mass? Do you think the radiated energy and the remaining mass all head off in the same direction? Methinks you forgot something. It does "push" something.

"Not always, but it always violate the first law if it is used to power anything."

I'm afraid he's right on this one too. If the machine increases entropy then it isn't a perpetual motion machine. It's using stored energy of some sort and it has to stop sometime.

That is, unless you have found a way to have a closed system that decreases entropy. In which case you've solved the problem of shutting people up about global warming. I'm willing to invest in that.

(No subject)

So many examples!

I don't know where to start. :)