Sunday, October 05, 2008

Bailouts, Commons and Muntzing the Economy

I, like most people I know, have been following the progress of the Bailout package as it went through various changes before final passage. Needless to say I'm not happy. In the end, though I think Chris Gibbons summed up the situation in the analogy posted in an economic gardening message group on Yahoo.

" This one might be called the Irresponsible Forest Owner.  If I live in the forest together with my neighbor and he is very careless about fire - what is my response when he sets fire to his property?  My instincts are "You need to live and learn from your own mistakes.  If your house burns to the ground, perhaps you will be more careful next time.  This is the natural consequence of your actions."

But then I watch the fire getting ready to spread into the rest of the forest including my property and so I reluctantly go to his rescue. I am angry, I have violated my principles of self responsibility but my only other choice was to watch the entire forest go up in flames.

I sense the great majority of Americans are against the bail-out. But I also sense that the great majority of Americans don't believe that the "fire" has any possibility of spreading to them.

So ultimately it gets down to whether a person believes credit will dry up because of the fear created by this sleazy affair. Let me relate a conversation I had the other day with our local banker who chaired my advisory committee. He said simply--people are pulling their money out and taking it home. He is a profitable bank but now he is less liquid and less able to meet his legal requirements. He doesn't want to but now he cannot make as many future loans and is starting to call in current loans. Did the far away fire on Wall Street spread to his property simply through fear?
He goes on with some more observations but this captures the essence of the problem in a very understandable way.

We all share this vast economic forest which has grown over the centuries until it covers the earth. As it has grown, certain fire breaks, barriers, and supports were added to help stop the spread of dangerous conflagrations. Recently, there has been a lot of tinkering with these safety mechanisms. Some of this has been necessitated by new technologies like computers and instant communications. Some is a desire to "increase efficiency." Much of it is just old fashioned greed. Most of this tinkering appears to be random and inconsistent. The more I read about it, the more I had a strange sense of De Ja Vu.

In the early days of commercial television, there was a self taught engineer by the name of Earl Muntz who was the first to offer a TV for under $100. He did this by using a technique that is now called Muntzing. He would take a standard, working TV and start clipping out components until it stopped working. He would put that component back in and move on to another section, and keep this up until nothing else could be removed. He would then make copies of that TV and sell them for budget prices. His televisions were cheap, but they were also unstable, insensitive, and had a hard time lasting to the end of the warranty. All those components put in there to keep the TV working as components aged or the voltage varied had been removed, so Muntz's sets were frequently operating on the verge of failure. Because everything was operating right on the edge, when something broke in a Muntz TV, lots of components went out and the TV was not worth repairing.

We have been Muntzing the economy for decades. Pull a regulation here. Change an accounting requirement there. Favor a special interest over there. Muntz the interest rates. Muntz the reserve requirements. Muntz business models. Muntz the risk analysis. Clip and tweak economic components hither and yon until something breaks and maybe put that back. This random, uncoordinated, poorly planned tinkering has left us with with a system that is always on the edge of being unstable.

We have been lucky. Economies are remarkably self correcting over the long term. That is unless someone is in there Muntzing them.


  1. The day after the '29 market crash, while FDR according to Joe Biden was searching for a TV to speak to America on, one thing that really did happen; J P Morgan, the Warren Buffet of that day, walked onto the trading floor. Once he had been recognized and the pits fell silent, Morgan loudly announced he was buying 100,000 shares of US Steel, at the time the bluest of blue chip stocks.

    This caused an uptick of the market that lasted, oh, maybe 2 hours.

    My classic case of market "bubbles" is the tulip market a few centuries back. Everybody had gone nuts over tulip bulbs, which at the peak, were selling for more than the cost of a home. Then one day, the whole market woke up and asked, "What are these flowers really worth?"

    This market is entirely different. The houses on which the mortgage instruments are based have not vanished, and people may have decided they could live without tulips, but most of us prefer to live in a house rather than under a bridge.

    Like it or not, I understand the forest fire analogy JWT put forth. The short credit market is close to "frozen", banks aren't even lending to one another. Retailers who are having to move cash into payroll accounts, cannot purchase the usual holiday season goods on the shelf. Factory orders are down, jobs from manufacturing to transportation of goods not being ordered are at risk, and certainly not expanding.

    "Bailout" is a term that never should have been used. The Trillion dollars (Excuse me but I have to capitalize the word "Trillion") is, at least as planned, a purchase of assets, not free money.

    Short term, those devalued assets go off the banks' books, giving us a huge liquidity boost. Remember the S&L "bailout" of the late 80s? Over 1,600 banks failed then without crashing the economy. BTW, just by holding the assets the treasury bought, long-term the gov't, or we the people, actually turned a profit on the deal. Naturally, the gov't spent it all before we the people saw a dime of it, but that's another column.

    My Libertarian soul tells me, "Let them go down in flames, they deserve it". Unfortunately, I, and most of you, are passengers on the plane.

    If this does serve to reassure, we might see a 500 point up day Monday, as people go back to equity investment, God knows, bond rates really suck rocks right now, a little better than stuffing cash under the mattress, but not much.

    Hard to say, this is unprecedented. Watching the DOW fall and a devalued dollar, while at the same time commodities from crude oil to gold and silver fall, and global investors flock back to the dollar (well really, where is an investor to go; Chinese currency, it's backed by US treasury bonds!) and away from the new Euro; never seen it, and I'm older than most of you. The post WWII Bretton Woods meetings were a walk in the park by comparison, all they had to pay off was a global armed conflict.

    How long could you live on the food in your cabinet?

  2. Jim,

    Maybe the point here is that we all need to learn our lesson. Most Americans have become way too liberal in their usage of the short credit market you describe. Maybe in doing so they got too close to the fire zone...

    Maybe we need to learn to use money more like our great grandparents did: don't spent what you don't have. Not so good for the JP Morgans of the world, but oh well...

    Perhaps if folks didn't buy a car, or a house, a big screen, or a blackberry until they had the money to do so, we would see the price of these things come down to an affordable and cash accessible level. Perhaps we'd also see a lot less junk in our landfills as well.

    It seems a truly "free market" would fix its self in this way...

    Seems to me it wouldn't be such a bad deal to "depress" the economy a bit. If we have come to a place where credit is necessary to obtain most of our needs, we're going to get burned one way or another.

  3. Well, I called Monday wrong, we saw the Dow free-fall by 800 points, then come back up 350 points in the last 90 minutes of trading.

    An NPR program today had one person make the point that a particularly hard-hit industry was eateries, in hard times, one of the easiest things to give up is eating out. Another panelist, a many-letters-after-his name economist cackled, and the moderator asked him what was so funny.

    He replied that Monday when the markets went nuts, for the first time in his memory EVERY company on the S&P exchange dropped in value with a single exception: Campbells Soup went up! Maybe this is the new gold standard; non-perishable canned food.

    I don't know where this is going, but I'm very happy that our household could, if needed, lock the doors and live for a month on the canned goods in the cabinet.