U.S. Department of State Releases Fourth Annual Report to Congress on Water and Sanitation Strategy in Developing Countries
US State Dept, Washington, DC, June 27, 2009
On June 26, 2009, the U.S. Department of State released the 2009 Senator Paul Simon Water for the Poor Act of 2005 Report to Congress (PDF) describing U.S. Government efforts to expand access to safe drinking water and sanitation, improve water resources management and increase water productivity in developing countries.
This report is required by Section 6 of the Senator Paul Simon Water for the Poor Act of 2005. The Act makes the provision of safe water and sanitation services in developing countries a component of U.S. foreign assistance. It requires the Secretary of State, in consultation with USAID, to develop and implement a strategy to support this goal within the context of sound water resource management. This is the Fourth Report to Congress.
In FY 2008, the United States obligated more than $1 billion for water- and sanitation-related activities in developing countries (excluding Iraq). Of that amount, over $820 million was obligated in 95 countries worldwide to improve access to safe drinking water and sanitation and promote hygiene. Investments in Sub-Saharan Africa rose to $646 million in FY 2008.
The United States remains one of the largest bilateral donors to water and sanitation activities in developing countries, accounting for 10 percent of all official assistance to the water and sanitation sector in 2006–2007. The United States also remains one of the largest donors to several multilateral development banks and intergovernmental organizations, which are significant contributors to water and sanitation projects. More important are the results we are achieving. As a result of USAID investments, more than 7.7 million people received improved access to safe drinking water and more than 6.2 million received improved access to sanitation. Of these, more than 4.6 million received first-time access to an improved drinking water source and more than 2.1 million to improved sanitation.
This year’s report includes – for the first time – country specific plans for achieving U.S. goals and objectives along with measurable indicators to track progress and report results. The report also highlights the work of U.S. agencies and departments to build partnerships, improve science and technology capacity, and increase the political will among developing and donor countries to address water and sanitation challenges.
We believe these are significant steps that represent a growing commitment by the United States to make water a core element of our foreign assistance. This and previous reports in response to the Act can be found at www.state.gov/g/oes/water.
PRN: 2009/650
Saturday, June 27, 2009
The Washington Post Discovers the Problems with Energy Subsidies
The Washington Post Discovers the Problems with Energy Subsidies.
Institute for Energy Research, Jun 24, 2009
From the Washington Post editors:
"Uncertainties abound: What if the costs of clean coal don’t come down enough to make it economical relative to other measures? If clean coal turns out to be less than its advocates envision, can Congress ever work up the political will to kill the subsidy program? Subsidies are set to phase out after 10 years of paying for operating costs, but won’t powerful coal-state lawmakers fight to keep them going? And even if it does work, won’t members of Congress insist that big carbon repositories not be located in their districts?"
Institute for Energy Research, Jun 24, 2009
From the Washington Post editors:
"Uncertainties abound: What if the costs of clean coal don’t come down enough to make it economical relative to other measures? If clean coal turns out to be less than its advocates envision, can Congress ever work up the political will to kill the subsidy program? Subsidies are set to phase out after 10 years of paying for operating costs, but won’t powerful coal-state lawmakers fight to keep them going? And even if it does work, won’t members of Congress insist that big carbon repositories not be located in their districts?"
Friday, June 26, 2009
Obama, the Neocons and Iran
Obama, the Neocons and Iran. By Robert McFarlane
The president's new foreign policy will be judged on this crisis.
WSJ, Jun 26, 2009
The president's new foreign policy will be judged on this crisis.
WSJ, Jun 26, 2009
Thursday, June 25, 2009
The Dangers of Fannie Mae Health Care - A public plan would have certain advantages. That's precisely the problem
The Dangers of Fannie Mae Health Care. By JOHN E. CALFEE
A public plan would have certain advantages. That's precisely the problem.
The Wall Street Journal, Jun 26, 2009, p A15
President Obama and most congressional Democrats say they want to preserve private health insurance. They also want to add a "public plan" to compete with private insurance plans. Their basic argument is that a public plan would offer needed competition, save money through low administrative costs and zero profits, realize greater economies of scale, and be a superior negotiator of the prices of medical services and technology.
The first three arguments are bogus. The fourth argument is only half-bogus -- but the half that isn't reveals a great danger: If a public plan is inserted into private insurance markets, the American health-care system could rapidly evolve into a single-payer system, which would have devastating effects on R&D for new medical technology.
The first argument, that we need a public plan to spur competition, just isn't plausible. Hundreds of health insurance plans already exist, and employer benefit managers can choose among numerous alternatives. There is no lack of firms willing to compete to provide health insurance.
As to the second argument, what is to be saved by avoiding profits? Nonprofit health insurance firms are common, including many of the Blue Cross-Blue Shield plans. Nonprofit status has not proved to be a reliable source of efficiency and cost-saving. The addition of new nonprofit cooperatives and the like -- as a bipartisan group of senators has proposed -- would make little difference, unless the new plans are given the power to set prices and take on extra risk supported by government subsidies.
Would a public plan have lower administrative costs? Well, how often are public enterprises run more efficiently than private ones? Why did practically all economically advanced nations dismantle their public airlines, phone companies, and so on, invariably obtaining lower administrative costs and consumer prices?
As Stanford University health economist Victor Fuchs has pointed out, what "insurance" firms actually sell to large employers -- which account for the single largest segment of the entire health-care market -- is usually administrative services, not actual insurance. (Large companies are not insured; they pay benefits directly.) There is no reason to expect a Medicare-like public plan to match the administrative efficiency of Aetna, Blue Cross-Blue Shield, Cigna, UnitedHealth Group, and WellPoint. Medicare doesn't even try. It outsources most administrative services to the private sector.
Turning to public plans like Medicare and Medicaid for more efficient administration is a fool's errand.
What about economies of scale? Aetna currently serves about 18 million subscribers, UnitedHealth Care serves between 25 million and 30 million, and WellPoint more than 35 million. That is more than is served by the health-care monopoly of Canada (population 33.6 million), and more than the entire health-care systems of most European nations. Once a plan reaches a few million subscribers, there may not be a lot of economies of scale left that can enable public plans to provide lower prices.
Finally, there is the crucial task of negotiating prices for doctors, hospitals, clinics, drugs, devices and thousands of other items essential to modern health care. Here, there are really two arguments for a public plan. The first is about bargaining skill and the firm size, basic ingredients in any negotiating environment.
There is no reason to think the administrators of a public plan will possess skills superior to those honed by private plan personnel during years of negotiations under the pressure of competition. Nor is there any reason to think that mere size would help.
True enough, relatively small European nations routinely obtain better drug prices than are achieved by mammoth American pharmacy benefit managers such as Express Scripts (50 million patients) and Medco (60 million patients), each of whose numbers exceed the entire citizenry of all but the largest European nations. Even sparsely populated New Zealand (population four million) gets better prices than the giant drug-price negotiators in the American private market.
Their success is due to what economists call "monopsony power." Monopsony occurs when a single buyer negotiates prices with several competing sellers (as opposed to monopoly, where there are many buyers but one seller).
Thus, if you want to sell your branded drug in New Zealand, your prices are negotiated with PharMac, a branch of the government. Much the same is true when selling to Canada, Germany, the Netherlands, and essentially the entire developed world save the United States. The negotiating power of these government entities results from monopsony, not superior skill.
For example, the various sellers of cholesterol drugs (Lipitor, Crestor, and so on) have to compete with one another while they all face a single government negotiator. If one seller balks at government prices, it leaves competitors to pick up more sales. The same is true for most other drug classes and most medical devices. This uneven battle ensures that negotiated prices will be well below those in a competitive market.
But here is where the huge risks of creating a "public plan" to compete with private insurance firms come into focus. Foremost among these risks are the effects of monopsony power in the purchase of medical technology.
The U.S. is unique because it alone is the source of half of world-wide profits that provide the payoff for the complex, lengthy, and expensive process of developing new treatments. When other nations construct their health-care systems, they ignore the impact of their pricing policies on R&D incentives. As the dominant R&D funding wellhead, we do not have that option.
Competitive markets have generated the prices and the profits necessary to induce a steady flow of medical innovation in this country. A public plan option would tend to dismantle that system. The people in charge will not know how to set reimbursement levels to motivate reasonable R&D efforts, and there is no reason to expect them to try. In public plans, the tried-and-true method is to push the prices of suppliers down until something gives -- too few doctors willing to take on Medicare patients, for example -- and then to ease up. That is a destructive approach to medical technology R&D.
Who knows what drugs will not be developed if reimbursement levels for a new multiple-sclerosis treatment are too measly? In virtually every advanced economy but our own, pricing authorities simply make sure prices are high enough so that existing drugs continue to be made available. We can expect a public plan here to do the same. The inevitable result is to drastically under-incentivize R&D.
This problem would not matter if a public plan remained small -- but it would likely grow into a monster. Monopsony negotiating power will generate lower prices, so many consumers will switch to a public plan. Employers eager to offload health-care costs will also dump unwilling employees into the public plan. That is the basis for the Lewin Group's much-cited prediction that a public plan would come to dominate any market in which it is allowed to compete.
Bargaining power, however, is far from the only potential source of below-market prices for public plans. In the home mortgage market, the public plans -- known as Fannie Mae and Freddie Mac -- were for years viewed by investors as less risky because they would be bailed out by the federal government if they took on too much risk. That translated into lower prices (the interest rates paid by borrowers), which eventually translated into extraordinary and unseemly growth, culminating in bankruptcy and a federal bailout.
The lesson for health insurance is clear. All insurance plans -- especially in health-care markets -- have to take on risk. Prudent planning, including the maintenance of reasonable financial reserves, is necessary. That increases costs. It would be all too easy for a public plan to gain a competitive advantage by taking on extra risk while keeping prices low because everyone would expect the federal government to take care of financial surprises down the road.
In sum, a public plan would possess formidable and perhaps overwhelming competitive advantages -- generated not by efficiency but by the artificial advantages of "public" status. This would have two disastrous consequences. The first will be to cause most Americans now covered by private insurance to move to public insurance -- one step away from single-payer health care. The second will be to undermine incentives to develop more of the immensely valuable medical technology that is central to all of health care.
Mr. Calfee is a resident scholar at the American Enterprise Institute.
A public plan would have certain advantages. That's precisely the problem.
The Wall Street Journal, Jun 26, 2009, p A15
President Obama and most congressional Democrats say they want to preserve private health insurance. They also want to add a "public plan" to compete with private insurance plans. Their basic argument is that a public plan would offer needed competition, save money through low administrative costs and zero profits, realize greater economies of scale, and be a superior negotiator of the prices of medical services and technology.
The first three arguments are bogus. The fourth argument is only half-bogus -- but the half that isn't reveals a great danger: If a public plan is inserted into private insurance markets, the American health-care system could rapidly evolve into a single-payer system, which would have devastating effects on R&D for new medical technology.
The first argument, that we need a public plan to spur competition, just isn't plausible. Hundreds of health insurance plans already exist, and employer benefit managers can choose among numerous alternatives. There is no lack of firms willing to compete to provide health insurance.
As to the second argument, what is to be saved by avoiding profits? Nonprofit health insurance firms are common, including many of the Blue Cross-Blue Shield plans. Nonprofit status has not proved to be a reliable source of efficiency and cost-saving. The addition of new nonprofit cooperatives and the like -- as a bipartisan group of senators has proposed -- would make little difference, unless the new plans are given the power to set prices and take on extra risk supported by government subsidies.
Would a public plan have lower administrative costs? Well, how often are public enterprises run more efficiently than private ones? Why did practically all economically advanced nations dismantle their public airlines, phone companies, and so on, invariably obtaining lower administrative costs and consumer prices?
As Stanford University health economist Victor Fuchs has pointed out, what "insurance" firms actually sell to large employers -- which account for the single largest segment of the entire health-care market -- is usually administrative services, not actual insurance. (Large companies are not insured; they pay benefits directly.) There is no reason to expect a Medicare-like public plan to match the administrative efficiency of Aetna, Blue Cross-Blue Shield, Cigna, UnitedHealth Group, and WellPoint. Medicare doesn't even try. It outsources most administrative services to the private sector.
Turning to public plans like Medicare and Medicaid for more efficient administration is a fool's errand.
What about economies of scale? Aetna currently serves about 18 million subscribers, UnitedHealth Care serves between 25 million and 30 million, and WellPoint more than 35 million. That is more than is served by the health-care monopoly of Canada (population 33.6 million), and more than the entire health-care systems of most European nations. Once a plan reaches a few million subscribers, there may not be a lot of economies of scale left that can enable public plans to provide lower prices.
Finally, there is the crucial task of negotiating prices for doctors, hospitals, clinics, drugs, devices and thousands of other items essential to modern health care. Here, there are really two arguments for a public plan. The first is about bargaining skill and the firm size, basic ingredients in any negotiating environment.
There is no reason to think the administrators of a public plan will possess skills superior to those honed by private plan personnel during years of negotiations under the pressure of competition. Nor is there any reason to think that mere size would help.
True enough, relatively small European nations routinely obtain better drug prices than are achieved by mammoth American pharmacy benefit managers such as Express Scripts (50 million patients) and Medco (60 million patients), each of whose numbers exceed the entire citizenry of all but the largest European nations. Even sparsely populated New Zealand (population four million) gets better prices than the giant drug-price negotiators in the American private market.
Their success is due to what economists call "monopsony power." Monopsony occurs when a single buyer negotiates prices with several competing sellers (as opposed to monopoly, where there are many buyers but one seller).
Thus, if you want to sell your branded drug in New Zealand, your prices are negotiated with PharMac, a branch of the government. Much the same is true when selling to Canada, Germany, the Netherlands, and essentially the entire developed world save the United States. The negotiating power of these government entities results from monopsony, not superior skill.
For example, the various sellers of cholesterol drugs (Lipitor, Crestor, and so on) have to compete with one another while they all face a single government negotiator. If one seller balks at government prices, it leaves competitors to pick up more sales. The same is true for most other drug classes and most medical devices. This uneven battle ensures that negotiated prices will be well below those in a competitive market.
But here is where the huge risks of creating a "public plan" to compete with private insurance firms come into focus. Foremost among these risks are the effects of monopsony power in the purchase of medical technology.
The U.S. is unique because it alone is the source of half of world-wide profits that provide the payoff for the complex, lengthy, and expensive process of developing new treatments. When other nations construct their health-care systems, they ignore the impact of their pricing policies on R&D incentives. As the dominant R&D funding wellhead, we do not have that option.
Competitive markets have generated the prices and the profits necessary to induce a steady flow of medical innovation in this country. A public plan option would tend to dismantle that system. The people in charge will not know how to set reimbursement levels to motivate reasonable R&D efforts, and there is no reason to expect them to try. In public plans, the tried-and-true method is to push the prices of suppliers down until something gives -- too few doctors willing to take on Medicare patients, for example -- and then to ease up. That is a destructive approach to medical technology R&D.
Who knows what drugs will not be developed if reimbursement levels for a new multiple-sclerosis treatment are too measly? In virtually every advanced economy but our own, pricing authorities simply make sure prices are high enough so that existing drugs continue to be made available. We can expect a public plan here to do the same. The inevitable result is to drastically under-incentivize R&D.
This problem would not matter if a public plan remained small -- but it would likely grow into a monster. Monopsony negotiating power will generate lower prices, so many consumers will switch to a public plan. Employers eager to offload health-care costs will also dump unwilling employees into the public plan. That is the basis for the Lewin Group's much-cited prediction that a public plan would come to dominate any market in which it is allowed to compete.
Bargaining power, however, is far from the only potential source of below-market prices for public plans. In the home mortgage market, the public plans -- known as Fannie Mae and Freddie Mac -- were for years viewed by investors as less risky because they would be bailed out by the federal government if they took on too much risk. That translated into lower prices (the interest rates paid by borrowers), which eventually translated into extraordinary and unseemly growth, culminating in bankruptcy and a federal bailout.
The lesson for health insurance is clear. All insurance plans -- especially in health-care markets -- have to take on risk. Prudent planning, including the maintenance of reasonable financial reserves, is necessary. That increases costs. It would be all too easy for a public plan to gain a competitive advantage by taking on extra risk while keeping prices low because everyone would expect the federal government to take care of financial surprises down the road.
In sum, a public plan would possess formidable and perhaps overwhelming competitive advantages -- generated not by efficiency but by the artificial advantages of "public" status. This would have two disastrous consequences. The first will be to cause most Americans now covered by private insurance to move to public insurance -- one step away from single-payer health care. The second will be to undermine incentives to develop more of the immensely valuable medical technology that is central to all of health care.
Mr. Calfee is a resident scholar at the American Enterprise Institute.
The Albany-Trenton-Sacramento Disease
The Albany-Trenton-Sacramento Disease. WSJ Editorial
How three liberal states got into deep trouble with 'progressive' ideas.
The Wall Street Journal, Jun 2009, p A14
President Obama has bet the economy on his program to grow the government and finance it with a more progressive tax system. It's hard to miss the irony that he's pitching this change in Washington even as the same governance model is imploding in three of the largest American states where it has been dominant for years -- California, New Jersey and New York.
A decade ago all three states were among America's most prosperous. California was the unrivaled technology center of the globe. New York was its financial capital. New Jersey is the third wealthiest state in the nation after Connecticut and Massachusetts. All three are now suffering from devastating budget deficits as the bills for years of tax-and-spend governance come due.
These states have been models of "progressive" policies that are supposed to create wealth: high tax rates on the rich, lots of government "investments," heavy unionization and a large government role in health care.
Here's a rundown on the results:
Government spending as economic stimulus. State-local spending per capita is $12,505 in New York (second highest after Alaska), $10,136 per person in California (fourth) and $9,574 in New Jersey (seventh).
Has all this public sector "investment" translated into jobs? Not quite. California had the nation's third highest jobless rate in May (11.5%). New Jersey and New York had below average unemployment rates in May compared to the national average of 9.4%, but one reason is that so many discouraged workers have left those states. From 1998-2007, which included two booms on Wall Street, New York and New Jersey ranked 36th and 31st in job creation. From 2000 to 2007, the New Jersey Business & Industry Association calculates that nine out of 10 new Garden State jobs were in the government.
Soak the rich. Mr. Obama plans to pay for his government investments through higher tax rates on the top 1% and 2% of taxpayers. Our troika of liberal states are champions at soaking the rich. The state-local income tax burden, according to the Tax Foundation, is the highest in the nation in New York, second highest in California and sixth in New Jersey. New York City boasts the highest business tax rate, 17.6%, according to a study by the American Legislative Exchange Council. Seven of the 10 highest property tax counties in America are located in New Jersey.
Instead of balanced budgets, these high taxes have produced record red ink. California's deficit for 2010 is projected at $33.9 billion, New Jersey's $7 billion and New York's $17.9 billion, despite multiple tax increases this decade. The Manhattan Institute finds that three-quarters of the loss in revenues this year in Albany is a result of reduced income tax payments by rich people even though the state keeps raising taxes on high earners.
California's debt burden has multiplied so fast that it now has the worst bond rating of any state, and Governor Arnold Schwarzenegger and state legislators are pleading with Washington to command the other 49 states to pay off its IOUs. The interest rates on Golden State bonds have nearly tripled in the last two years.
Powerful unions. Mr. Obama believes union power is a ticket to the middle class. The middle class is getting creamed in all three of these "progressive" states, where organized labor is king. The unionized share of the workforce is 20% in California, 19% in New Jersey and 27% in New York compared to 13% across the country. All three are non-right-to-work states, have super-minimum wage requirements and provide among the nation's most generous public-employee pensions.
Workers in these paradises are indeed uniting -- by leaving. New York ranks first, California second and New Jersey third in moving vans leaving the state. A study by the National Institute for Labor Relations Research found that over the past decade these and other high-union states (mostly in the Northeast) had one-third the job growth of states with low union penetration.
Government health care. New York, New Jersey and California are among the leading states in government spending on and intervention into the medical market. A 2008 study by the Pacific Research Institute ranked the states on the basis of government regulation of health care and found that New York is most regulated, while New Jersey ranks sixth and California seventh. "New York," the report declares, "suffers from government health programs that are out of control, a grossly overregulated private insurance market and almost completely uncompetitive provider markets."
Have government controls and Medicaid expansions ("the public option") lowered costs? Here is what the American Health Insurance Plans found. For family coverage annual premiums in 2006-07, the national median cost was roughly $5,300; in California it was $5,884, in New Jersey $10,398, and in New York $12,254. New York's coverage mandates cause families to pay more than twice what they do in other states for insurance.
As a result, California and New York have more than one-third of their residents uninsured or in Medicaid -- much higher than the national average of 25%. More government involvement in health care in California, New Jersey and New York has raised costs and often reduced private coverage. That's hardly a model for the nation.
* * *
So goes the real-life experience of progressive governance, with heavy tax burdens financing huge welfare states, and state capitals dominated by public-employee unions. Formerly rich states, they are now known for job losses, booming deficits and debt, wage stagnation, out-migration and laughing-stock legislatures. At least Americans have the ability to flee these ill-governed states for places that still welcome wealth creators. The debate in Washington now is whether to spread this antigrowth model across the entire country.
How three liberal states got into deep trouble with 'progressive' ideas.
The Wall Street Journal, Jun 2009, p A14
President Obama has bet the economy on his program to grow the government and finance it with a more progressive tax system. It's hard to miss the irony that he's pitching this change in Washington even as the same governance model is imploding in three of the largest American states where it has been dominant for years -- California, New Jersey and New York.
A decade ago all three states were among America's most prosperous. California was the unrivaled technology center of the globe. New York was its financial capital. New Jersey is the third wealthiest state in the nation after Connecticut and Massachusetts. All three are now suffering from devastating budget deficits as the bills for years of tax-and-spend governance come due.
These states have been models of "progressive" policies that are supposed to create wealth: high tax rates on the rich, lots of government "investments," heavy unionization and a large government role in health care.
Here's a rundown on the results:
Government spending as economic stimulus. State-local spending per capita is $12,505 in New York (second highest after Alaska), $10,136 per person in California (fourth) and $9,574 in New Jersey (seventh).
Has all this public sector "investment" translated into jobs? Not quite. California had the nation's third highest jobless rate in May (11.5%). New Jersey and New York had below average unemployment rates in May compared to the national average of 9.4%, but one reason is that so many discouraged workers have left those states. From 1998-2007, which included two booms on Wall Street, New York and New Jersey ranked 36th and 31st in job creation. From 2000 to 2007, the New Jersey Business & Industry Association calculates that nine out of 10 new Garden State jobs were in the government.
Soak the rich. Mr. Obama plans to pay for his government investments through higher tax rates on the top 1% and 2% of taxpayers. Our troika of liberal states are champions at soaking the rich. The state-local income tax burden, according to the Tax Foundation, is the highest in the nation in New York, second highest in California and sixth in New Jersey. New York City boasts the highest business tax rate, 17.6%, according to a study by the American Legislative Exchange Council. Seven of the 10 highest property tax counties in America are located in New Jersey.
Instead of balanced budgets, these high taxes have produced record red ink. California's deficit for 2010 is projected at $33.9 billion, New Jersey's $7 billion and New York's $17.9 billion, despite multiple tax increases this decade. The Manhattan Institute finds that three-quarters of the loss in revenues this year in Albany is a result of reduced income tax payments by rich people even though the state keeps raising taxes on high earners.
California's debt burden has multiplied so fast that it now has the worst bond rating of any state, and Governor Arnold Schwarzenegger and state legislators are pleading with Washington to command the other 49 states to pay off its IOUs. The interest rates on Golden State bonds have nearly tripled in the last two years.
Powerful unions. Mr. Obama believes union power is a ticket to the middle class. The middle class is getting creamed in all three of these "progressive" states, where organized labor is king. The unionized share of the workforce is 20% in California, 19% in New Jersey and 27% in New York compared to 13% across the country. All three are non-right-to-work states, have super-minimum wage requirements and provide among the nation's most generous public-employee pensions.
Workers in these paradises are indeed uniting -- by leaving. New York ranks first, California second and New Jersey third in moving vans leaving the state. A study by the National Institute for Labor Relations Research found that over the past decade these and other high-union states (mostly in the Northeast) had one-third the job growth of states with low union penetration.
Government health care. New York, New Jersey and California are among the leading states in government spending on and intervention into the medical market. A 2008 study by the Pacific Research Institute ranked the states on the basis of government regulation of health care and found that New York is most regulated, while New Jersey ranks sixth and California seventh. "New York," the report declares, "suffers from government health programs that are out of control, a grossly overregulated private insurance market and almost completely uncompetitive provider markets."
Have government controls and Medicaid expansions ("the public option") lowered costs? Here is what the American Health Insurance Plans found. For family coverage annual premiums in 2006-07, the national median cost was roughly $5,300; in California it was $5,884, in New Jersey $10,398, and in New York $12,254. New York's coverage mandates cause families to pay more than twice what they do in other states for insurance.
As a result, California and New York have more than one-third of their residents uninsured or in Medicaid -- much higher than the national average of 25%. More government involvement in health care in California, New Jersey and New York has raised costs and often reduced private coverage. That's hardly a model for the nation.
* * *
So goes the real-life experience of progressive governance, with heavy tax burdens financing huge welfare states, and state capitals dominated by public-employee unions. Formerly rich states, they are now known for job losses, booming deficits and debt, wage stagnation, out-migration and laughing-stock legislatures. At least Americans have the ability to flee these ill-governed states for places that still welcome wealth creators. The debate in Washington now is whether to spread this antigrowth model across the entire country.
Tax Credits, Not Vouchers, Are Keeping School Choice a Viable Option
Tax Credits, Not Vouchers, Are Keeping School Choice a Viable Option. By Adam B. Schaeffer Culpeper Star-Exponent on June 25, 2009.
Many school choice supporters are discouraged after having suffered a series of setbacks on the voucher front, ranging from the loss of Utah's nascent voucher program last year to the recent death sentence handed to the D.C. Opportunity Scholarship program. A rambling and inaccurate article in the normally supportive City Journal got the chorus of naysayers rolling more than a year ago with the cry "school choice isn't enough."
The bright spot for vouchers in recent years has been the success of special-needs programs. Yet the Arizona Supreme Court ruled recently that school vouchers for disabled and foster children violate the state constitution, which forbids public money from aiding private schools.
Naturally, the pessimists and opponents of choice are forecasting the death of the voucher movement. They're wrong, because there never was a voucher movement to begin with. It has always been movement for educational freedom, and it is still going strong.
Over the past several years, there has been a gradual shift in focus from vouchers to an alternative mechanism: education tax credits. Illinois, Minnesota and Iowa already provide families with tax credits to offset the cost of independent schooling for their own kids. Florida, Pennsylvania, Arizona and three other states provide tax credits for donations to nonprofit scholarship organizations that subsidize tuition for lower-income families.
The fundamental difference between these programs and vouchers is that while vouchers use public money, credits do not. Credits are targeted tax cuts, and no public dollars are spent with them. That single distinction is the reason Arizona's Supreme Court struck down two voucher programs in March, but upheld the state's scholarship donation tax credit program in 1999.
In fact, tax credit programs have withstood every lawsuit raised against them. Since 1995, seven tax credit programs have been passed and all are still in operation. Four voucher programs (in Florida, Colorado and now two in Arizona) have been struck down by the courts in that same time.
This does not mean that credits are invulnerable. Arizona credits just received a temporary setback from the 9th Circuit Court of Appeals that is sure to be reversed by the U.S. Supreme Court, as is the case with so many other 9th Circuit Court decisions. Vouchers have certainly enjoyed some important legal victories, but vouchers' use of government funds opens them up for attacks to which credits are far less susceptible.
Credit programs have not simply survived, they have thrived. Scholarship donation programs now support more than three times as many low-income children as do voucher programs, though they are generally of more recent vintage. Direct K-12 education tax credits are benefiting hundreds of thousands of families, albeit in more modest dollar amounts.
However, these are not the only reasons that supporters of educational freedom have increasingly begun to favor credits over vouchers. Credits better preserve the autonomy of independent schools, and they extend choice and accountability to taxpayers as well as parents. Taxpayers get to choose to participate in credit programs as well as pick the recipient organization for their funds if they do. In addition, credits command increasingly bipartisan political support.
So while advocates of educational freedom regret that vouchers have been under heavy fire in many states, tax credit programs can be created or expanded to accommodate the children formerly served by vouchers.
Adam B. Schaeffer is a policy analyst at the Cato Institute's Center for Educational Freedom and an adjunct senior fellow with the Education Reform Initiative at the Virginia Institute for Public Policy.
Many school choice supporters are discouraged after having suffered a series of setbacks on the voucher front, ranging from the loss of Utah's nascent voucher program last year to the recent death sentence handed to the D.C. Opportunity Scholarship program. A rambling and inaccurate article in the normally supportive City Journal got the chorus of naysayers rolling more than a year ago with the cry "school choice isn't enough."
The bright spot for vouchers in recent years has been the success of special-needs programs. Yet the Arizona Supreme Court ruled recently that school vouchers for disabled and foster children violate the state constitution, which forbids public money from aiding private schools.
Naturally, the pessimists and opponents of choice are forecasting the death of the voucher movement. They're wrong, because there never was a voucher movement to begin with. It has always been movement for educational freedom, and it is still going strong.
Over the past several years, there has been a gradual shift in focus from vouchers to an alternative mechanism: education tax credits. Illinois, Minnesota and Iowa already provide families with tax credits to offset the cost of independent schooling for their own kids. Florida, Pennsylvania, Arizona and three other states provide tax credits for donations to nonprofit scholarship organizations that subsidize tuition for lower-income families.
The fundamental difference between these programs and vouchers is that while vouchers use public money, credits do not. Credits are targeted tax cuts, and no public dollars are spent with them. That single distinction is the reason Arizona's Supreme Court struck down two voucher programs in March, but upheld the state's scholarship donation tax credit program in 1999.
In fact, tax credit programs have withstood every lawsuit raised against them. Since 1995, seven tax credit programs have been passed and all are still in operation. Four voucher programs (in Florida, Colorado and now two in Arizona) have been struck down by the courts in that same time.
This does not mean that credits are invulnerable. Arizona credits just received a temporary setback from the 9th Circuit Court of Appeals that is sure to be reversed by the U.S. Supreme Court, as is the case with so many other 9th Circuit Court decisions. Vouchers have certainly enjoyed some important legal victories, but vouchers' use of government funds opens them up for attacks to which credits are far less susceptible.
Credit programs have not simply survived, they have thrived. Scholarship donation programs now support more than three times as many low-income children as do voucher programs, though they are generally of more recent vintage. Direct K-12 education tax credits are benefiting hundreds of thousands of families, albeit in more modest dollar amounts.
However, these are not the only reasons that supporters of educational freedom have increasingly begun to favor credits over vouchers. Credits better preserve the autonomy of independent schools, and they extend choice and accountability to taxpayers as well as parents. Taxpayers get to choose to participate in credit programs as well as pick the recipient organization for their funds if they do. In addition, credits command increasingly bipartisan political support.
So while advocates of educational freedom regret that vouchers have been under heavy fire in many states, tax credit programs can be created or expanded to accommodate the children formerly served by vouchers.
Adam B. Schaeffer is a policy analyst at the Cato Institute's Center for Educational Freedom and an adjunct senior fellow with the Education Reform Initiative at the Virginia Institute for Public Policy.
WSJ Editorial Page: Democrats off-loading economics to pass climate change bill
The Cap and Tax Fiction. WSJ Editorial
Democrats off-loading economics to pass climate change bill.
The Wall Street Journal, page A14
House Speaker Nancy Pelosi has put cap-and-trade legislation on a forced march through the House, and the bill may get a full vote as early as Friday. It looks as if the Democrats will have to destroy the discipline of economics to get it done.
Despite House Energy and Commerce Chairman Henry Waxman's many payoffs to Members, rural and Blue Dog Democrats remain wary of voting for a bill that will impose crushing costs on their home-district businesses and consumers. The leadership's solution to this problem is to simply claim the bill defies the laws of economics.
Their gambit got a boost this week, when the Congressional Budget Office did an analysis of what has come to be known as the Waxman-Markey bill. According to the CBO, the climate legislation would cost the average household only $175 a year by 2020. Edward Markey, Mr. Waxman's co-author, instantly set to crowing that the cost of upending the entire energy economy would be no more than a postage stamp a day for the average household. Amazing. A closer look at the CBO analysis finds that it contains so many caveats as to render it useless.
For starters, the CBO estimate is a one-year snapshot of taxes that will extend to infinity. Under a cap-and-trade system, government sets a cap on the total amount of carbon that can be emitted nationally; companies then buy or sell permits to emit CO2. The cap gets cranked down over time to reduce total carbon emissions.
To get support for his bill, Mr. Waxman was forced to water down the cap in early years to please rural Democrats, and then severely ratchet it up in later years to please liberal Democrats. The CBO's analysis looks solely at the year 2020, before most of the tough restrictions kick in. As the cap is tightened and companies are stripped of initial opportunities to "offset" their emissions, the price of permits will skyrocket beyond the CBO estimate of $28 per ton of carbon. The corporate costs of buying these expensive permits will be passed to consumers.
The biggest doozy in the CBO analysis was its extraordinary decision to look only at the day-to-day costs of operating a trading program, rather than the wider consequences energy restriction would have on the economy. The CBO acknowledges this in a footnote: "The resource cost does not indicate the potential decrease in gross domestic product (GDP) that could result from the cap."
The hit to GDP is the real threat in this bill. The whole point of cap and trade is to hike the price of electricity and gas so that Americans will use less. These higher prices will show up not just in electricity bills or at the gas station but in every manufactured good, from food to cars. Consumers will cut back on spending, which in turn will cut back on production, which results in fewer jobs created or higher unemployment. Some companies will instead move their operations overseas, with the same result.
When the Heritage Foundation did its analysis of Waxman-Markey, it broadly compared the economy with and without the carbon tax. Under this more comprehensive scenario, it found Waxman-Markey would cost the economy $161 billion in 2020, which is $1,870 for a family of four. As the bill's restrictions kick in, that number rises to $6,800 for a family of four by 2035.
Note also that the CBO analysis is an average for the country as a whole. It doesn't take into account the fact that certain regions and populations will be more severely hit than others -- manufacturing states more than service states; coal producing states more than states that rely on hydro or natural gas. Low-income Americans, who devote more of their disposable income to energy, have more to lose than high-income families.
Even as Democrats have promised that this cap-and-trade legislation won't pinch wallets, behind the scenes they've acknowledged the energy price tsunami that is coming. During the brief few days in which the bill was debated in the House Energy Committee, Republicans offered three amendments: one to suspend the program if gas hit $5 a gallon; one to suspend the program if electricity prices rose 10% over 2009; and one to suspend the program if unemployment rates hit 15%. Democrats defeated all of them.
The reality is that cost estimates for climate legislation are as unreliable as the models predicting climate change. What comes out of the computer is a function of what politicians type in. A better indicator might be what other countries are already experiencing. Britain's Taxpayer Alliance estimates the average family there is paying nearly $1,300 a year in green taxes for carbon-cutting programs in effect only a few years.
Americans should know that those Members who vote for this climate bill are voting for what is likely to be the biggest tax in American history. Even Democrats can't repeal that reality.
Democrats off-loading economics to pass climate change bill.
The Wall Street Journal, page A14
House Speaker Nancy Pelosi has put cap-and-trade legislation on a forced march through the House, and the bill may get a full vote as early as Friday. It looks as if the Democrats will have to destroy the discipline of economics to get it done.
Despite House Energy and Commerce Chairman Henry Waxman's many payoffs to Members, rural and Blue Dog Democrats remain wary of voting for a bill that will impose crushing costs on their home-district businesses and consumers. The leadership's solution to this problem is to simply claim the bill defies the laws of economics.
Their gambit got a boost this week, when the Congressional Budget Office did an analysis of what has come to be known as the Waxman-Markey bill. According to the CBO, the climate legislation would cost the average household only $175 a year by 2020. Edward Markey, Mr. Waxman's co-author, instantly set to crowing that the cost of upending the entire energy economy would be no more than a postage stamp a day for the average household. Amazing. A closer look at the CBO analysis finds that it contains so many caveats as to render it useless.
For starters, the CBO estimate is a one-year snapshot of taxes that will extend to infinity. Under a cap-and-trade system, government sets a cap on the total amount of carbon that can be emitted nationally; companies then buy or sell permits to emit CO2. The cap gets cranked down over time to reduce total carbon emissions.
To get support for his bill, Mr. Waxman was forced to water down the cap in early years to please rural Democrats, and then severely ratchet it up in later years to please liberal Democrats. The CBO's analysis looks solely at the year 2020, before most of the tough restrictions kick in. As the cap is tightened and companies are stripped of initial opportunities to "offset" their emissions, the price of permits will skyrocket beyond the CBO estimate of $28 per ton of carbon. The corporate costs of buying these expensive permits will be passed to consumers.
The biggest doozy in the CBO analysis was its extraordinary decision to look only at the day-to-day costs of operating a trading program, rather than the wider consequences energy restriction would have on the economy. The CBO acknowledges this in a footnote: "The resource cost does not indicate the potential decrease in gross domestic product (GDP) that could result from the cap."
The hit to GDP is the real threat in this bill. The whole point of cap and trade is to hike the price of electricity and gas so that Americans will use less. These higher prices will show up not just in electricity bills or at the gas station but in every manufactured good, from food to cars. Consumers will cut back on spending, which in turn will cut back on production, which results in fewer jobs created or higher unemployment. Some companies will instead move their operations overseas, with the same result.
When the Heritage Foundation did its analysis of Waxman-Markey, it broadly compared the economy with and without the carbon tax. Under this more comprehensive scenario, it found Waxman-Markey would cost the economy $161 billion in 2020, which is $1,870 for a family of four. As the bill's restrictions kick in, that number rises to $6,800 for a family of four by 2035.
Note also that the CBO analysis is an average for the country as a whole. It doesn't take into account the fact that certain regions and populations will be more severely hit than others -- manufacturing states more than service states; coal producing states more than states that rely on hydro or natural gas. Low-income Americans, who devote more of their disposable income to energy, have more to lose than high-income families.
Even as Democrats have promised that this cap-and-trade legislation won't pinch wallets, behind the scenes they've acknowledged the energy price tsunami that is coming. During the brief few days in which the bill was debated in the House Energy Committee, Republicans offered three amendments: one to suspend the program if gas hit $5 a gallon; one to suspend the program if electricity prices rose 10% over 2009; and one to suspend the program if unemployment rates hit 15%. Democrats defeated all of them.
The reality is that cost estimates for climate legislation are as unreliable as the models predicting climate change. What comes out of the computer is a function of what politicians type in. A better indicator might be what other countries are already experiencing. Britain's Taxpayer Alliance estimates the average family there is paying nearly $1,300 a year in green taxes for carbon-cutting programs in effect only a few years.
Americans should know that those Members who vote for this climate bill are voting for what is likely to be the biggest tax in American history. Even Democrats can't repeal that reality.
About the Settlements: The U.S. and Israel reached a clear understanding about natural growth
Hillary Is Wrong About the Settlements. By ELLIOTT ABRAMS
The U.S. and Israel reached a clear understanding about natural growth.
The Wall Street Journal, June 25, 2009, p A15
Despite fervent denials by Obama administration officials, there were indeed agreements between Israel and the United States regarding the growth of Israeli settlements on the West Bank. As the Obama administration has made the settlements issue a major bone of contention between Israel and the U.S., it is necessary that we review the recent history.
In the spring of 2003, U.S. officials (including me) held wide-ranging discussions with then Prime Minister Ariel Sharon in Jerusalem. The "Roadmap for Peace" between Israel and the Palestinians had been written. President George W. Bush had endorsed Palestinian statehood, but only if the Palestinians eliminated terror. He had broken with Yasser Arafat, but Arafat still ruled in the Palestinian territories. Israel had defeated the intifada, so what was next?
We asked Mr. Sharon about freezing the West Bank settlements. I recall him asking, by way of reply, what did that mean for the settlers? They live there, he said, they serve in elite army units, and they marry. Should he tell them to have no more children, or move?
We discussed some approaches: Could he agree there would be no additional settlements? New construction only inside settlements, without expanding them physically? Could he agree there would be no additional land taken for settlements?
As we talked several principles emerged. The father of the settlements now agreed that limits must be placed on the settlements; more fundamentally, the old foe of the Palestinians could -- under certain conditions -- now agree to Palestinian statehood.
In June 2003, Mr. Sharon stood alongside Mr. Bush, King Abdullah II of Jordan, and Palestinian Prime Minister Mahmoud Abbas at Aqaba, Jordan, and endorsed Palestinian statehood publicly: "It is in Israel's interest not to govern the Palestinians but for the Palestinians to govern themselves in their own state. A democratic Palestinian state fully at peace with Israel will promote the long-term security and well-being of Israel as a Jewish state." At the end of that year he announced his intention to pull out of the Gaza Strip.
The U.S. government supported all this, but asked Mr. Sharon for two more things. First, that he remove some West Bank settlements; we wanted Israel to show that removing them was not impossible. Second, we wanted him to pull out of Gaza totally -- including every single settlement and the "Philadelphi Strip" separating Gaza from Egypt, even though holding on to this strip would have prevented the smuggling of weapons to Hamas that was feared and has now come to pass. Mr. Sharon agreed on both counts.
These decisions were political dynamite, as Mr. Sharon had long predicted to us. In May 2004, his Likud Party rejected his plan in a referendum, handing him a resounding political defeat. In June, the Cabinet approved the withdrawal from Gaza, but only after Mr. Sharon fired two ministers and allowed two others to resign. His majority in the Knesset was now shaky.
After completing the Gaza withdrawal in August 2005, he called in November for a dissolution of the Knesset and for early elections. He also said he would leave Likud to form a new centrist party. The political and personal strain was very great. Four weeks later he suffered the first of two strokes that have left him in a coma.
Throughout, the Bush administration gave Mr. Sharon full support for his actions against terror and on final status issues. On April 14, 2004, Mr. Bush handed Mr. Sharon a letter saying that there would be no "right of return" for Palestinian refugees. Instead, the president said, "a solution to the Palestinian refugee issue as part of any final status agreement will need to be found through the establishment of a Palestinian state, and the settling of Palestinian refugees there, rather than in Israel."
On the major settlement blocs, Mr. Bush said, "In light of new realities on the ground, including already existing major Israeli populations centers, it is unrealistic to expect that the outcome of final status negotiations will be a full and complete return to the armistice lines of 1949." Several previous administrations had declared all Israeli settlements beyond the "1967 borders" to be illegal. Here Mr. Bush dropped such language, referring to the 1967 borders -- correctly -- as merely the lines where the fighting stopped in 1949, and saying that in any realistic peace agreement Israel would be able to negotiate keeping those major settlements.
On settlements we also agreed on principles that would permit some continuing growth. Mr. Sharon stated these clearly in a major policy speech in December 2003: "Israel will meet all its obligations with regard to construction in the settlements. There will be no construction beyond the existing construction line, no expropriation of land for construction, no special economic incentives and no construction of new settlements."
Ariel Sharon did not invent those four principles. They emerged from discussions with American officials and were discussed by Messrs. Sharon and Bush at their Aqaba meeting in June 2003.
They were not secret, either. Four days after the president's letter, Mr. Sharon's Chief of Staff Dov Weissglas wrote to Secretary of State Condoleezza Rice that "I wish to reconfirm the following understanding, which had been reached between us: 1. Restrictions on settlement growth: within the agreed principles of settlement activities, an effort will be made in the next few days to have a better definition of the construction line of settlements in Judea & Samaria."
Stories in the press also made it clear that there were indeed "agreed principles." On Aug. 21, 2004 the New York Times reported that "the Bush administration . . . now supports construction of new apartments in areas already built up in some settlements, as long as the expansion does not extend outward."
In recent weeks, American officials have denied that any agreement on settlements existed. Secretary of State Hillary Clinton stated on June 17 that "in looking at the history of the Bush administration, there were no informal or oral enforceable agreements. That has been verified by the official record of the administration and by the personnel in the positions of responsibility."
These statements are incorrect. Not only were there agreements, but the prime minister of Israel relied on them in undertaking a wrenching political reorientation -- the dissolution of his government, the removal of every single Israeli citizen, settlement and military position in Gaza, and the removal of four small settlements in the West Bank. This was the first time Israel had ever removed settlements outside the context of a peace treaty, and it was a major step.
It is true that there was no U.S.-Israel "memorandum of understanding," which is presumably what Mrs. Clinton means when she suggests that the "official record of the administration" contains none. But she would do well to consult documents like the Weissglas letter, or the notes of the Aqaba meeting, before suggesting that there was no meeting of the minds.
Mrs. Clinton also said there were no "enforceable" agreements. This is a strange phrase. How exactly would Israel enforce any agreement against an American decision to renege on it? Take it to the International Court in The Hague?
Regardless of what Mrs. Clinton has said, there was a bargained-for exchange. Mr. Sharon was determined to break the deadlock, withdraw from Gaza, remove settlements -- and confront his former allies on Israel's right by abandoning the "Greater Israel" position to endorse Palestinian statehood and limits on settlement growth. He asked for our support and got it, including the agreement that we would not demand a total settlement freeze.
For reasons that remain unclear, the Obama administration has decided to abandon the understandings about settlements reached by the previous administration with the Israeli government. We may be abandoning the deal now, but we cannot rewrite history and make believe it did not exist.
Mr. Abrams, a senior fellow for Middle Eastern Studies at the Council on Foreign Relations, handled Middle East affairs at the National Security Council from 2001 to 2009.
The U.S. and Israel reached a clear understanding about natural growth.
The Wall Street Journal, June 25, 2009, p A15
Despite fervent denials by Obama administration officials, there were indeed agreements between Israel and the United States regarding the growth of Israeli settlements on the West Bank. As the Obama administration has made the settlements issue a major bone of contention between Israel and the U.S., it is necessary that we review the recent history.
In the spring of 2003, U.S. officials (including me) held wide-ranging discussions with then Prime Minister Ariel Sharon in Jerusalem. The "Roadmap for Peace" between Israel and the Palestinians had been written. President George W. Bush had endorsed Palestinian statehood, but only if the Palestinians eliminated terror. He had broken with Yasser Arafat, but Arafat still ruled in the Palestinian territories. Israel had defeated the intifada, so what was next?
We asked Mr. Sharon about freezing the West Bank settlements. I recall him asking, by way of reply, what did that mean for the settlers? They live there, he said, they serve in elite army units, and they marry. Should he tell them to have no more children, or move?
We discussed some approaches: Could he agree there would be no additional settlements? New construction only inside settlements, without expanding them physically? Could he agree there would be no additional land taken for settlements?
As we talked several principles emerged. The father of the settlements now agreed that limits must be placed on the settlements; more fundamentally, the old foe of the Palestinians could -- under certain conditions -- now agree to Palestinian statehood.
In June 2003, Mr. Sharon stood alongside Mr. Bush, King Abdullah II of Jordan, and Palestinian Prime Minister Mahmoud Abbas at Aqaba, Jordan, and endorsed Palestinian statehood publicly: "It is in Israel's interest not to govern the Palestinians but for the Palestinians to govern themselves in their own state. A democratic Palestinian state fully at peace with Israel will promote the long-term security and well-being of Israel as a Jewish state." At the end of that year he announced his intention to pull out of the Gaza Strip.
The U.S. government supported all this, but asked Mr. Sharon for two more things. First, that he remove some West Bank settlements; we wanted Israel to show that removing them was not impossible. Second, we wanted him to pull out of Gaza totally -- including every single settlement and the "Philadelphi Strip" separating Gaza from Egypt, even though holding on to this strip would have prevented the smuggling of weapons to Hamas that was feared and has now come to pass. Mr. Sharon agreed on both counts.
These decisions were political dynamite, as Mr. Sharon had long predicted to us. In May 2004, his Likud Party rejected his plan in a referendum, handing him a resounding political defeat. In June, the Cabinet approved the withdrawal from Gaza, but only after Mr. Sharon fired two ministers and allowed two others to resign. His majority in the Knesset was now shaky.
After completing the Gaza withdrawal in August 2005, he called in November for a dissolution of the Knesset and for early elections. He also said he would leave Likud to form a new centrist party. The political and personal strain was very great. Four weeks later he suffered the first of two strokes that have left him in a coma.
Throughout, the Bush administration gave Mr. Sharon full support for his actions against terror and on final status issues. On April 14, 2004, Mr. Bush handed Mr. Sharon a letter saying that there would be no "right of return" for Palestinian refugees. Instead, the president said, "a solution to the Palestinian refugee issue as part of any final status agreement will need to be found through the establishment of a Palestinian state, and the settling of Palestinian refugees there, rather than in Israel."
On the major settlement blocs, Mr. Bush said, "In light of new realities on the ground, including already existing major Israeli populations centers, it is unrealistic to expect that the outcome of final status negotiations will be a full and complete return to the armistice lines of 1949." Several previous administrations had declared all Israeli settlements beyond the "1967 borders" to be illegal. Here Mr. Bush dropped such language, referring to the 1967 borders -- correctly -- as merely the lines where the fighting stopped in 1949, and saying that in any realistic peace agreement Israel would be able to negotiate keeping those major settlements.
On settlements we also agreed on principles that would permit some continuing growth. Mr. Sharon stated these clearly in a major policy speech in December 2003: "Israel will meet all its obligations with regard to construction in the settlements. There will be no construction beyond the existing construction line, no expropriation of land for construction, no special economic incentives and no construction of new settlements."
Ariel Sharon did not invent those four principles. They emerged from discussions with American officials and were discussed by Messrs. Sharon and Bush at their Aqaba meeting in June 2003.
They were not secret, either. Four days after the president's letter, Mr. Sharon's Chief of Staff Dov Weissglas wrote to Secretary of State Condoleezza Rice that "I wish to reconfirm the following understanding, which had been reached between us: 1. Restrictions on settlement growth: within the agreed principles of settlement activities, an effort will be made in the next few days to have a better definition of the construction line of settlements in Judea & Samaria."
Stories in the press also made it clear that there were indeed "agreed principles." On Aug. 21, 2004 the New York Times reported that "the Bush administration . . . now supports construction of new apartments in areas already built up in some settlements, as long as the expansion does not extend outward."
In recent weeks, American officials have denied that any agreement on settlements existed. Secretary of State Hillary Clinton stated on June 17 that "in looking at the history of the Bush administration, there were no informal or oral enforceable agreements. That has been verified by the official record of the administration and by the personnel in the positions of responsibility."
These statements are incorrect. Not only were there agreements, but the prime minister of Israel relied on them in undertaking a wrenching political reorientation -- the dissolution of his government, the removal of every single Israeli citizen, settlement and military position in Gaza, and the removal of four small settlements in the West Bank. This was the first time Israel had ever removed settlements outside the context of a peace treaty, and it was a major step.
It is true that there was no U.S.-Israel "memorandum of understanding," which is presumably what Mrs. Clinton means when she suggests that the "official record of the administration" contains none. But she would do well to consult documents like the Weissglas letter, or the notes of the Aqaba meeting, before suggesting that there was no meeting of the minds.
Mrs. Clinton also said there were no "enforceable" agreements. This is a strange phrase. How exactly would Israel enforce any agreement against an American decision to renege on it? Take it to the International Court in The Hague?
Regardless of what Mrs. Clinton has said, there was a bargained-for exchange. Mr. Sharon was determined to break the deadlock, withdraw from Gaza, remove settlements -- and confront his former allies on Israel's right by abandoning the "Greater Israel" position to endorse Palestinian statehood and limits on settlement growth. He asked for our support and got it, including the agreement that we would not demand a total settlement freeze.
For reasons that remain unclear, the Obama administration has decided to abandon the understandings about settlements reached by the previous administration with the Israeli government. We may be abandoning the deal now, but we cannot rewrite history and make believe it did not exist.
Mr. Abrams, a senior fellow for Middle Eastern Studies at the Council on Foreign Relations, handled Middle East affairs at the National Security Council from 2001 to 2009.
Wednesday, June 24, 2009
Enron Accounting: CBO and EPA Cooked the Books on Cost Estimates for Waxman-Markey Energy Tax
Enron Accounting: CBO and EPA Cooked the Books on Cost Estimates for Waxman-Markey Energy Tax
IER, June 24, 2009
Later this week, the U.S. House will take up the Waxman-Markey global warming bill, the centerpiece of which is a cap and trade program that advocates argue will reduce U.S. greenhouse gas emissions. The bill features a remarkably aggressive timetable, one that would force businesses to cut emissions by 17% (relative to the 2005 baseline) by the year 2020, and by a cumulative 83% by 2050. On cue, “independent” agencies of the government such as CBO and EPA have announced cost estimates that grossly understate the burden Waxman-Markey will place on most U.S. households.
On June 19, the CBO announced that the cap-and trade program contained in Waxman-Markey would cost households an average of $175 in the year 2020 (measured in today’s dollars). On June 23, in an effort to reassert its green bona fides, the EPA came out with an even lower estimate of $80-$111 per household. But even a cursory examination of the methodologies involved in manufacturing those numbers reveals that even the higher CBO figure is far too optimistic, since it leads citizens to believe that energy prices will only go up modestly because of the new cap and trade program.
In fact, very little related to the consequences of Waxman-Markey can be characterized as “modest.” Households will pay far more than $175 per year due to cap and trade, notwithstanding CBO’s attempts to hide it. The EPA study is misleading in the same fashion, but here we focus on the CBO report which can be read by the layperson and states quite clearly how it comes up with its low cost estimate.
Rags to Riches: How the CBO Transforms a Stealth Tax Into a Phantom Tax Cut
There are several major flaws with the CBO approach, but perhaps the most outrageous example of sleight of hand is the CBO’s focus on after-tax income. Because Waxman-Markey will raise prices more than incomes, households will necessarily become poorer. This will push households into lower tax brackets—and thus have lower tax liabilities to the tune of roughly $8.7 billion. Normal people would consider this to be a downside of Waxman-Markey. CBO is not normal. It considers this $8.7 billion as an addition to total household income—money from heaven!—and goes about celebrating the effect of this policy without saying a thing about the cause.
After explaining that some government benefits are indexed to the Consumer Price Index, which means that federal spending will have to increase owing to Waxman-Markey’s energy price hikes, the CBO study points out the silver lining:
Because the federal income tax system is largely indexed to the consumer price index, an increase in consumer prices with no increase in nominal incomes would also reduce federal income taxes. That effect would increase households’ after-tax income but would also add to the federal deficit. In combination, the effect of price changes on the government’s indexed benefit payments and income tax receipts would convey an estimated $8.7 billion to households. (p. 7)
Beyond the absurdity of translating rising prices into a benefit for households—on the basis that poorer people pay less in taxes—the CBO’s treatment of income tax revenues is inconsistent with its treatment of carbon allowance auction receipts. The CBO study acknowledges that households will pay higher energy prices partly because businesses will “pass on” the cost of buying emission allowances. But CBO didn’t include this component as a net cost to households, because the government could spend the auction receipts and thus recycle some of the money back into households.
But if that’s how the CBO wants to do its accounting, then it can’t credit households with a fictitious $8.7 billion “tax cut.” As the quotation above points out, the falling income tax revenues will simply mean a larger budget deficit if the government doesn’t cut other spending. This extra borrowing by the federal government will push up interest rates and transfer $8.7 billion out of the private capital markets. Households will ultimately lose wealth (in the form of greater public debt) that exactly offsets their alleged gain from falling into lower tax brackets.
Impacts on the “Average” Household
The CBO study admits on page 1 that the greenhouse gas (GHG) emission schedule would raise prices for Americans:
This analysis examines the average cost per household that would result from implementing the GHG cap-and-trade program under H.R. 2454….Reducing emissions to the level required by the cap would be accomplished mainly by stemming demand for carbon-based energy by increasing its price…. Those higher prices, in turn, would reduce households’ purchasing power. (p.1)
However, the CBO’s reported annual cost estimate of $175 per household in the year 2020, does not refer to the tallying up of the price hikes acknowledged in the quotation above. The CBO reduces the “gross cost” by mixing in all of the financial benefits that will accrue to “households” from the cap and trade program:
At the same time, the distribution of emission allowances would improve households’ financial situation. The net financial impact of the program on households…would depend in large part on how many allowances were sold (versus given away), how the free allowances were allocated, and how any proceeds from selling allowances were used. That net impact would reflect both the added costs that households experienced because of higher prices and the share of the allowance value that they received in the form of benefit payments, rebates, tax decreases or credits, wages, and returns on their investments. (pp. 1-2)
The problem should be obvious: If the government spends auction revenues, or hands out “free” allowances that possess high market value, to fund alternative energy boondoggles, the CBO study will carefully chalk that money up as flowing back into the pockets of U.S. “households.”
The CBO’s logic makes sense from a certain point of view: A firm that makes solar panels is owned by shareholders who live in houses, right? So when that solar panel firm sees huge profits in the new scheme, the wealth showered on its owners will accrue to households. Even though all electricity consumers will be paying higher prices, the “average” hit will be mitigated to the extent that some of those consumers happen to be on the receiving end of the cap and trade gravy train.
The CBO’s reasoning may be appropriate in some applications, but it is grossly misleading in the current political context. Citizens may come away from the report believing that their annual expenses will rise only $175 because of Waxman-Markey. The real figure is much higher.
The CBO’s Gross Cost
In contrast to the net cost of “$22 billion—or about $175 per household” (p.2), what does the CBO say about the gross cost, meaning the actual reduction in household purchasing power? In other words, how much of a hit will households take in the form of higher prices and lower wages, before the CBO adds back in all the pork spending and other goodies? They tell us on page 4:
According to CBO’s estimates, the gross cost of complying with the GHG cap-and-trade program delineated in H.R. 2454 would be about $110 billion in 2020…or about $890 per household…(p. 4)
We see that the number reported in the press—“$175 per household by 2020”—represents only 20 percent of the CBO’s projected increase in household costs. The other 80 percent of the gross price hikes is transferred away from unlucky consumers and into the pockets of politically-connected beneficiaries. Since this wealth is redistributed, it’s still in “households” (somewhere) and so the CBO doesn’t report the gross figure, which is five times higher than the number bouncing around the press. But that’s not the end of it. CBO didn’t score anything but the “cap and trade” part of the bill…not the renewable energy mandate, not the additional costs of complying with the bureaucratic nirvana of new standards for energy efficiency of lighting for home art and “personal spas,” etc. In some parts of the country, the “You Must Obey” renewable energy mandate could force significantly higher costs on consumers and businesses.
Winners and Losers
The CBO study acknowledges that its estimates are average figures, and that the impacts on particular sectors will be uneven:
The measure of costs described above reflects the costs that would occur once the economy had adjusted to the change in the relative prices of goods and services. It does not include the costs that some current investors and workers in sectors of the economy that produce energy and energy-intensive goods and services would incur as the economy moved away from the use of fossil fuels….Stock losses would tend to be widely dispersed among investors because shareholders typically diversify their portfolios. In contrast, the costs of unemployment would probably be concentrated among relatively few households and, by extension, their communities. (p.8)
In addition to the negative impact on workers in energy-intensive sectors, the Waxman-Markey bill would also hurt energy consumers to different degrees, depending on which region of the country they lived in. The Southern and Midwestern states are much more reliant on coal and other fossil fuels for their electricity production. Consumers in these regions will see their electricity rates jump higher than in other areas of the country.
Conclusion
Make no mistake: Waxman-Markey is a tax that, to work properly, must find a way to drive up energy prices. CBO bends over backwards to try to disguise this fact, but even they admit Waxman-Markey will increase energy prices.
The CBO’s gross cost estimate of $890 per household is also optimistic. Other studies put the figure at $1,500 per family in higher energy costs. That makes the much lower figure of $175 per household extremely misleading.
Bent on disguising the true costs of Waxman-Markey, CBO performed a deeply flawed analysis. They treat lower household income as a good thing because households will be subject to lower tax rates, even though this will increase the budget deficit and help drive up interest rates making economic growth more difficult.
The CBO is also disingenuous in its treatment of free allowances. The financial benefit of the free allowances will go a small subset of the population (and to overseas investors), but CBO merely averages the benefits across the U.S. population. This is deeply disingenuous and misleading. Households are in for much bigger price hikes than the CBO would lead them to believe.
Despite CBO’s heroic attempts to put a nice gloss on Waxman-Markey, cap and trade is what Rep. Dingell said it was—a tax, and a great big one.
IER, June 24, 2009
Later this week, the U.S. House will take up the Waxman-Markey global warming bill, the centerpiece of which is a cap and trade program that advocates argue will reduce U.S. greenhouse gas emissions. The bill features a remarkably aggressive timetable, one that would force businesses to cut emissions by 17% (relative to the 2005 baseline) by the year 2020, and by a cumulative 83% by 2050. On cue, “independent” agencies of the government such as CBO and EPA have announced cost estimates that grossly understate the burden Waxman-Markey will place on most U.S. households.
On June 19, the CBO announced that the cap-and trade program contained in Waxman-Markey would cost households an average of $175 in the year 2020 (measured in today’s dollars). On June 23, in an effort to reassert its green bona fides, the EPA came out with an even lower estimate of $80-$111 per household. But even a cursory examination of the methodologies involved in manufacturing those numbers reveals that even the higher CBO figure is far too optimistic, since it leads citizens to believe that energy prices will only go up modestly because of the new cap and trade program.
In fact, very little related to the consequences of Waxman-Markey can be characterized as “modest.” Households will pay far more than $175 per year due to cap and trade, notwithstanding CBO’s attempts to hide it. The EPA study is misleading in the same fashion, but here we focus on the CBO report which can be read by the layperson and states quite clearly how it comes up with its low cost estimate.
Rags to Riches: How the CBO Transforms a Stealth Tax Into a Phantom Tax Cut
There are several major flaws with the CBO approach, but perhaps the most outrageous example of sleight of hand is the CBO’s focus on after-tax income. Because Waxman-Markey will raise prices more than incomes, households will necessarily become poorer. This will push households into lower tax brackets—and thus have lower tax liabilities to the tune of roughly $8.7 billion. Normal people would consider this to be a downside of Waxman-Markey. CBO is not normal. It considers this $8.7 billion as an addition to total household income—money from heaven!—and goes about celebrating the effect of this policy without saying a thing about the cause.
After explaining that some government benefits are indexed to the Consumer Price Index, which means that federal spending will have to increase owing to Waxman-Markey’s energy price hikes, the CBO study points out the silver lining:
Because the federal income tax system is largely indexed to the consumer price index, an increase in consumer prices with no increase in nominal incomes would also reduce federal income taxes. That effect would increase households’ after-tax income but would also add to the federal deficit. In combination, the effect of price changes on the government’s indexed benefit payments and income tax receipts would convey an estimated $8.7 billion to households. (p. 7)
Beyond the absurdity of translating rising prices into a benefit for households—on the basis that poorer people pay less in taxes—the CBO’s treatment of income tax revenues is inconsistent with its treatment of carbon allowance auction receipts. The CBO study acknowledges that households will pay higher energy prices partly because businesses will “pass on” the cost of buying emission allowances. But CBO didn’t include this component as a net cost to households, because the government could spend the auction receipts and thus recycle some of the money back into households.
But if that’s how the CBO wants to do its accounting, then it can’t credit households with a fictitious $8.7 billion “tax cut.” As the quotation above points out, the falling income tax revenues will simply mean a larger budget deficit if the government doesn’t cut other spending. This extra borrowing by the federal government will push up interest rates and transfer $8.7 billion out of the private capital markets. Households will ultimately lose wealth (in the form of greater public debt) that exactly offsets their alleged gain from falling into lower tax brackets.
Impacts on the “Average” Household
The CBO study admits on page 1 that the greenhouse gas (GHG) emission schedule would raise prices for Americans:
This analysis examines the average cost per household that would result from implementing the GHG cap-and-trade program under H.R. 2454….Reducing emissions to the level required by the cap would be accomplished mainly by stemming demand for carbon-based energy by increasing its price…. Those higher prices, in turn, would reduce households’ purchasing power. (p.1)
However, the CBO’s reported annual cost estimate of $175 per household in the year 2020, does not refer to the tallying up of the price hikes acknowledged in the quotation above. The CBO reduces the “gross cost” by mixing in all of the financial benefits that will accrue to “households” from the cap and trade program:
At the same time, the distribution of emission allowances would improve households’ financial situation. The net financial impact of the program on households…would depend in large part on how many allowances were sold (versus given away), how the free allowances were allocated, and how any proceeds from selling allowances were used. That net impact would reflect both the added costs that households experienced because of higher prices and the share of the allowance value that they received in the form of benefit payments, rebates, tax decreases or credits, wages, and returns on their investments. (pp. 1-2)
The problem should be obvious: If the government spends auction revenues, or hands out “free” allowances that possess high market value, to fund alternative energy boondoggles, the CBO study will carefully chalk that money up as flowing back into the pockets of U.S. “households.”
The CBO’s logic makes sense from a certain point of view: A firm that makes solar panels is owned by shareholders who live in houses, right? So when that solar panel firm sees huge profits in the new scheme, the wealth showered on its owners will accrue to households. Even though all electricity consumers will be paying higher prices, the “average” hit will be mitigated to the extent that some of those consumers happen to be on the receiving end of the cap and trade gravy train.
The CBO’s reasoning may be appropriate in some applications, but it is grossly misleading in the current political context. Citizens may come away from the report believing that their annual expenses will rise only $175 because of Waxman-Markey. The real figure is much higher.
The CBO’s Gross Cost
In contrast to the net cost of “$22 billion—or about $175 per household” (p.2), what does the CBO say about the gross cost, meaning the actual reduction in household purchasing power? In other words, how much of a hit will households take in the form of higher prices and lower wages, before the CBO adds back in all the pork spending and other goodies? They tell us on page 4:
According to CBO’s estimates, the gross cost of complying with the GHG cap-and-trade program delineated in H.R. 2454 would be about $110 billion in 2020…or about $890 per household…(p. 4)
We see that the number reported in the press—“$175 per household by 2020”—represents only 20 percent of the CBO’s projected increase in household costs. The other 80 percent of the gross price hikes is transferred away from unlucky consumers and into the pockets of politically-connected beneficiaries. Since this wealth is redistributed, it’s still in “households” (somewhere) and so the CBO doesn’t report the gross figure, which is five times higher than the number bouncing around the press. But that’s not the end of it. CBO didn’t score anything but the “cap and trade” part of the bill…not the renewable energy mandate, not the additional costs of complying with the bureaucratic nirvana of new standards for energy efficiency of lighting for home art and “personal spas,” etc. In some parts of the country, the “You Must Obey” renewable energy mandate could force significantly higher costs on consumers and businesses.
Winners and Losers
The CBO study acknowledges that its estimates are average figures, and that the impacts on particular sectors will be uneven:
The measure of costs described above reflects the costs that would occur once the economy had adjusted to the change in the relative prices of goods and services. It does not include the costs that some current investors and workers in sectors of the economy that produce energy and energy-intensive goods and services would incur as the economy moved away from the use of fossil fuels….Stock losses would tend to be widely dispersed among investors because shareholders typically diversify their portfolios. In contrast, the costs of unemployment would probably be concentrated among relatively few households and, by extension, their communities. (p.8)
In addition to the negative impact on workers in energy-intensive sectors, the Waxman-Markey bill would also hurt energy consumers to different degrees, depending on which region of the country they lived in. The Southern and Midwestern states are much more reliant on coal and other fossil fuels for their electricity production. Consumers in these regions will see their electricity rates jump higher than in other areas of the country.
Conclusion
Make no mistake: Waxman-Markey is a tax that, to work properly, must find a way to drive up energy prices. CBO bends over backwards to try to disguise this fact, but even they admit Waxman-Markey will increase energy prices.
The CBO’s gross cost estimate of $890 per household is also optimistic. Other studies put the figure at $1,500 per family in higher energy costs. That makes the much lower figure of $175 per household extremely misleading.
Bent on disguising the true costs of Waxman-Markey, CBO performed a deeply flawed analysis. They treat lower household income as a good thing because households will be subject to lower tax rates, even though this will increase the budget deficit and help drive up interest rates making economic growth more difficult.
The CBO is also disingenuous in its treatment of free allowances. The financial benefit of the free allowances will go a small subset of the population (and to overseas investors), but CBO merely averages the benefits across the U.S. population. This is deeply disingenuous and misleading. Households are in for much bigger price hikes than the CBO would lead them to believe.
Despite CBO’s heroic attempts to put a nice gloss on Waxman-Markey, cap and trade is what Rep. Dingell said it was—a tax, and a great big one.
On the Perils of Negotiating with Terrorists
Negotiating with Terrorists. By Andrew C. McCarthy
The Obama administration ignores a longstanding — and life-saving — policy.
National Review Online, June 24, 2009 4:00 AM
The Obama administration ignores a longstanding — and life-saving — policy.
National Review Online, June 24, 2009 4:00 AM
Bank nationalization will soon be back on the agenda unless the economy picks up
Who Owns the Banks, Round Two? By HOLMAN W. JENKINS, JR.
Bank nationalization will soon be back on the agenda unless the economy picks up.
The Wall Street Journal, page A13
The stress tests came and went, but haven't settled the argument over whether anything short of seizing the biggest banks amounts to recapitulating Japan's experience with zombie banks.
That argument remains relevant -- because bank nationalization will soon be back on the agenda unless the economy picks up.
It would be good to get the parallel straight. Japan's problem wasn't so much zombie banks as zombie borrowers, kept alive with new infusions of money because the political class, speaking for Japanese society, wanted to delay and minimize foreclosures, layoffs and asset fire sales to preserve "harmony." An even more important, but unsung, factor in Japan's so-called lost decade was a relentless series of tax hikes.
Letting U.S. banks slide on their capital ratios is not the same as making "zombie banks." Somebody somewhere has to hold bad loans until they're resolved, either because borrowers make repayment or are forced into liquidation. There's no question that the Obama administration has opted for an unspoken policy of regulatory forbearance with respect to various too-big-to-fail banks. But those banks have no natural reason (aside from political pressure) to keep zombie borrowers alive if it would be financially advantageous to foreclose.
For all that, the Obama stress tests have served a confidence-building purpose -- confidence in Washington, not the banks.
It dispensed with the idea that the problem of how to unwind Washington's massive commitment to the financial sector could somehow be solved at the expense of bank shareholders. That idea was always a distraction -- there was not enough market capitalization in the entire banking sector to make a fig's difference, especially while the prospect of nationalization hung over it.
In climbing down, the Fed and the Obama administration did indeed credit future earnings of the banks with solving a big part of their capital problem. Call it fudge: This is a bet on growth, the only decent solution out there, because neither nationalization nor capital raising by banks can get the Federal Reserve off the hook of inflating away the banking system's massive additional losses on consumer, business and housing loans if growth doesn't come back.
As usual, however, there is no coherence in the administration's approach. Even while it counts on surging bank profits, it attacks the banking system's credit card profits, its mortgage profits, its senior-secured lending profits, etc. This is no way to avoid the rightly frightful prospect of having to add Citigroup and Bank of America to the portfolio of companies Washington is running badly.
Meanwhile, Team Obama is periodically tempted by the pro-nationalizers' claim that giving the big banks time to heal can only stifle recovery by retarding their return to lending. The critics underestimate two things: The dynamism of our financial sector, with plenty of healthy banks, start-ups and foreign investors likely to step into any lending gap if real opportunities for profitable loans present themselves (a difference vs. Japan, whose financial system was relatively closed).
They also underestimate the degree to which the problem is demand for loans rather than supply.
It's good to recall the puzzlement of the early Clinton administration over the "jobless recovery" that prevailed after it took office in 1993. The mystery wasn't the mystery the administration liked to pretend: Business refused to hire or expand out of fear of Bill Clinton's then-pending health-care reforms.
Mr. Obama's own initiatives on climate, labor, taxes and health care are the biggest threat to growth -- thus to the success or disaster of the Fed's giant liquidity bet, failure of which could still send us Argentina's way (as the Fed itself no doubt is discussing in its closed meetings today and yesterday).
Here, a happy happenstance for the nation is that our president is an object of craving utterly independent of the policies he pursues. Mr. Obama, therefore, has an unlikely degree of freedom to throw overboard his agenda and go for growth without fear of his public abandoning him.
From the start, he has seemed uniquely detached and noncommittal about his own policy positions, as if he was entertaining them only to see if they might be useful to him. Let's not underestimate this advantage over lesser politicians, who get trapped by their rhetoric. Let's also hope Mr. Obama takes advantage, becoming the "growth" president and saving the big initiatives for his second term. Otherwise, with the AIG disaster before him, he may be remembered as the president who nonetheless blundered into similar disasters trying to manage Citibank et al.
Bank nationalization will soon be back on the agenda unless the economy picks up.
The Wall Street Journal, page A13
The stress tests came and went, but haven't settled the argument over whether anything short of seizing the biggest banks amounts to recapitulating Japan's experience with zombie banks.
That argument remains relevant -- because bank nationalization will soon be back on the agenda unless the economy picks up.
It would be good to get the parallel straight. Japan's problem wasn't so much zombie banks as zombie borrowers, kept alive with new infusions of money because the political class, speaking for Japanese society, wanted to delay and minimize foreclosures, layoffs and asset fire sales to preserve "harmony." An even more important, but unsung, factor in Japan's so-called lost decade was a relentless series of tax hikes.
Letting U.S. banks slide on their capital ratios is not the same as making "zombie banks." Somebody somewhere has to hold bad loans until they're resolved, either because borrowers make repayment or are forced into liquidation. There's no question that the Obama administration has opted for an unspoken policy of regulatory forbearance with respect to various too-big-to-fail banks. But those banks have no natural reason (aside from political pressure) to keep zombie borrowers alive if it would be financially advantageous to foreclose.
For all that, the Obama stress tests have served a confidence-building purpose -- confidence in Washington, not the banks.
It dispensed with the idea that the problem of how to unwind Washington's massive commitment to the financial sector could somehow be solved at the expense of bank shareholders. That idea was always a distraction -- there was not enough market capitalization in the entire banking sector to make a fig's difference, especially while the prospect of nationalization hung over it.
In climbing down, the Fed and the Obama administration did indeed credit future earnings of the banks with solving a big part of their capital problem. Call it fudge: This is a bet on growth, the only decent solution out there, because neither nationalization nor capital raising by banks can get the Federal Reserve off the hook of inflating away the banking system's massive additional losses on consumer, business and housing loans if growth doesn't come back.
As usual, however, there is no coherence in the administration's approach. Even while it counts on surging bank profits, it attacks the banking system's credit card profits, its mortgage profits, its senior-secured lending profits, etc. This is no way to avoid the rightly frightful prospect of having to add Citigroup and Bank of America to the portfolio of companies Washington is running badly.
Meanwhile, Team Obama is periodically tempted by the pro-nationalizers' claim that giving the big banks time to heal can only stifle recovery by retarding their return to lending. The critics underestimate two things: The dynamism of our financial sector, with plenty of healthy banks, start-ups and foreign investors likely to step into any lending gap if real opportunities for profitable loans present themselves (a difference vs. Japan, whose financial system was relatively closed).
They also underestimate the degree to which the problem is demand for loans rather than supply.
It's good to recall the puzzlement of the early Clinton administration over the "jobless recovery" that prevailed after it took office in 1993. The mystery wasn't the mystery the administration liked to pretend: Business refused to hire or expand out of fear of Bill Clinton's then-pending health-care reforms.
Mr. Obama's own initiatives on climate, labor, taxes and health care are the biggest threat to growth -- thus to the success or disaster of the Fed's giant liquidity bet, failure of which could still send us Argentina's way (as the Fed itself no doubt is discussing in its closed meetings today and yesterday).
Here, a happy happenstance for the nation is that our president is an object of craving utterly independent of the policies he pursues. Mr. Obama, therefore, has an unlikely degree of freedom to throw overboard his agenda and go for growth without fear of his public abandoning him.
From the start, he has seemed uniquely detached and noncommittal about his own policy positions, as if he was entertaining them only to see if they might be useful to him. Let's not underestimate this advantage over lesser politicians, who get trapped by their rhetoric. Let's also hope Mr. Obama takes advantage, becoming the "growth" president and saving the big initiatives for his second term. Otherwise, with the AIG disaster before him, he may be remembered as the president who nonetheless blundered into similar disasters trying to manage Citibank et al.
Tuesday, June 23, 2009
Barney Frank telling Fannie Mae to take more credit risk
Barney the Underwriter. WSJ Editorial
Telling Fannie Mae to take more credit risk.
The Wall Street Journal, page A14
Back when the housing mania was taking off, Massachusetts Congressman Barney Frank famously said he wanted Fannie Mae and Freddie Mac to "roll the dice" in the name of affordable housing. That didn't turn out so well, but Mr. Frank has since only accumulated more power. And now he is returning to the scene of the calamity -- with your money. He and New York Representative Anthony Weiner have sent a letter to the heads of Fannie and Freddie exhorting them to lower lending standards for condo buyers.
You read that right. After two years of telling us how lax lending standards drove up the market and led to loans that should never have been made, Mr. Frank wants Fannie and Freddie to take more risk in condo developments with high percentages of unsold units, high delinquency rates or high concentrations of ownership within the development.
Fannie and Freddie have restricted loans to condo buyers in these situations because they represent a red flag that the developments -- many of which were planned and built at the height of the housing bubble -- may face financial trouble down the road. But never mind all that. Messrs. Frank and Weiner think, in all their wisdom and years of experience underwriting mortgages, that the new rules "may be too onerous."
And in a display of the wit for which Mr. Frank is famous, the letter writers slyly point out that higher lending standards won't reduce taxpayer exposure to bad loans because the Federal Housing Administration has even lower standards for condos. "While the underlying goal may be to reduce taxpayer exposure relating to the current conservatorship of the GSEs [government sponsored entities], such a goal would not have such an effect if it merely results in a shifting of loans from the GSEs to the FHA." Tougher lending standards will merely shift market share from one government program to another, so what's the point in being cautious?
Fannie and Freddie have already lost tens of billions of dollars betting on the mortgage market -- with that bill being handed to taxpayers. They face still more losses going forward, because in the wake of their nationalization last year their new "mission" has become to do whatever it takes to prop up the housing market. The last thing they need is lawmakers like Mr. Frank, who did so much to lay the groundwork for their collapse, telling them to play faster and looser with their lending standards.
Fannie and Freddie have always been political creatures under the best circumstances. But we don't remember anyone electing Mr. Frank underwriter-in-chief of the United States.
Telling Fannie Mae to take more credit risk.
The Wall Street Journal, page A14
Back when the housing mania was taking off, Massachusetts Congressman Barney Frank famously said he wanted Fannie Mae and Freddie Mac to "roll the dice" in the name of affordable housing. That didn't turn out so well, but Mr. Frank has since only accumulated more power. And now he is returning to the scene of the calamity -- with your money. He and New York Representative Anthony Weiner have sent a letter to the heads of Fannie and Freddie exhorting them to lower lending standards for condo buyers.
You read that right. After two years of telling us how lax lending standards drove up the market and led to loans that should never have been made, Mr. Frank wants Fannie and Freddie to take more risk in condo developments with high percentages of unsold units, high delinquency rates or high concentrations of ownership within the development.
Fannie and Freddie have restricted loans to condo buyers in these situations because they represent a red flag that the developments -- many of which were planned and built at the height of the housing bubble -- may face financial trouble down the road. But never mind all that. Messrs. Frank and Weiner think, in all their wisdom and years of experience underwriting mortgages, that the new rules "may be too onerous."
And in a display of the wit for which Mr. Frank is famous, the letter writers slyly point out that higher lending standards won't reduce taxpayer exposure to bad loans because the Federal Housing Administration has even lower standards for condos. "While the underlying goal may be to reduce taxpayer exposure relating to the current conservatorship of the GSEs [government sponsored entities], such a goal would not have such an effect if it merely results in a shifting of loans from the GSEs to the FHA." Tougher lending standards will merely shift market share from one government program to another, so what's the point in being cautious?
Fannie and Freddie have already lost tens of billions of dollars betting on the mortgage market -- with that bill being handed to taxpayers. They face still more losses going forward, because in the wake of their nationalization last year their new "mission" has become to do whatever it takes to prop up the housing market. The last thing they need is lawmakers like Mr. Frank, who did so much to lay the groundwork for their collapse, telling them to play faster and looser with their lending standards.
Fannie and Freddie have always been political creatures under the best circumstances. But we don't remember anyone electing Mr. Frank underwriter-in-chief of the United States.
The Pursuit of John Yoo
The Pursuit of John Yoo. WSJ Editorial
Next time the lawsuit may target Obama's advisers.
The Wall Street Journal, page A14
Here's a political thought experiment: Imagine that terrorists stage an attack on U.S. soil in the next four years. In the recriminations afterward, Administration officials are sued by families of the victims for having advised in legal memos that Guantanamo be closed and that interrogations of al Qaeda detainees be limited.
Should those officials be personally liable for the advice they gave President Obama?
We'd say no, but that's exactly the kind of lawsuit that the political left, including State Department nominee Harold Koh, has encouraged against Bush Administration officials. This month a federal judge in San Francisco ruled that a civil suit filed by convicted terrorist Jose Padilla can proceed against former Justice Department lawyer John Yoo for violating the terrorist's rights. Mr. Yoo is one of those who wrote memos laying out the legal parameters for aggressive interrogation of al Qaeda captives. If Mr. Yoo can be sued, why couldn't Obama officials also be held liable for their advice if there's an attack on their watch?
The mention of Mr. Koh is pertinent because the legal outfit suing Mr. Yoo, and other Bush officials in a separate case in South Carolina, is affiliated with Yale Law School. Mr. Koh is the outgoing dean of Yale and has been perhaps the most prominent legal critic of Bush interrogation policies. He once referred to President Bush as the "torturer in chief." Yet now President Obama has nominated Mr. Koh to be State Department legal adviser, who is charged with defending U.S. officials from legal assaults. It's as if Mr. Obama had nominated the AFL-CIO's John Sweeney as U.S. Trade Representative.
At least the Justice Department is still defending Mr. Yoo, as it should since his advice was offered while working for the U.S. government. But that could change if a second part of this exercise in political revenge goes forward. For five years the Justice Department's Office of Professional Responsibility (OPR) has been investigating Mr. Yoo and former Justice lawyers Jay Bybee and Steven Bradbury for alleged misconduct in writing those legal interrogation memos.
Last month, in a leak full of malice aforethought, the press reported that OPR's draft report recommends disciplinary action against the Bush lawyers. If the final report reaches the same conclusion, the left-wing bar will try to have those lawyers disbarred, while liberals in Congress could pursue impeachment against Mr. Bybee, a federal judge on the Ninth Circuit Court of Appeals. In that event, Justice might also stop defending Mr. Yoo in court. A professor at Berkeley Law, Mr. Yoo would have to pay hundreds of thousands of dollars to defend himself.
This is exactly what the anti-antiterror left hopes to accomplish. Having failed to enact their agenda in Congress, or now even via Mr. Obama, their aim is to ruin and bankrupt individuals in the Bush Administration who played key roles in the war on terror. Their goal is to make sure that no one in public life ever again offers advice that disagrees with their view that terrorists should be handled in nonmilitary courts like common burglars.
The May news leak was especially pernicious because it came before the Bush officials or their lawyers had been allowed to respond to OPR's accusations. They are still bound by a pledge of confidentiality. Our guess is that the leak was intended to box in Attorney General Eric Holder, who will ultimately have to sign off on the report.
Mr. Holder knows that former Attorney General Michael Mukasey had rejected the OPR draft in a scathing, 15-page, single-spaced memo. His deputy, Mark Filip, also refused to endorse the OPR draft. Yet OPR lawyers ran out the clock on Mr. Mukasey, hoping that an Obama AG will validate their work.
The leak of a draft report is itself an act of professional irresponsibility worthy of punishment. And the entire exercise is bizarre, since Messrs. Yoo, Bybee and Bradbury were only doing what their superiors and the CIA asked of them. If OPR's lawyers want to claim misconduct, they should target former Attorney General John Ashcroft or President Bush, who personally named Padilla an enemy combatant. But it's so much easier to pick on mid-level officials who lack a platform to fight back. In any case, OPR is supposed to investigate genuine misconduct such as withholding evidence (the Ted Stevens case), not opine on the legal analysis of other, in this case far superior, lawyers.
As for the lawsuit, Padilla's rights were never violated. Mr. Bush's decision to name the so-called "dirty bomber" an enemy combatant was defended in court by executive branch lawyers, who won in the Fourth Circuit. The Bush Administration later transferred Padilla to be tried in a Miami court, and the Supreme Court declined to hear an appeal. Padilla was convicted after receiving every due process protection and is now serving a 17-year prison sentence.
Politics can be vicious, but we have come to a very strange pass when government lawyers acting in good faith can be sued by convicted terrorists and investigated for giving advice solicited by their superiors. Mr. Holder will do the country, and his own colleagues in the Obama Administration, a service if he speaks out against the Padilla lawsuit and puts an end to Justice's part in this nasty exercise.
Next time the lawsuit may target Obama's advisers.
The Wall Street Journal, page A14
Here's a political thought experiment: Imagine that terrorists stage an attack on U.S. soil in the next four years. In the recriminations afterward, Administration officials are sued by families of the victims for having advised in legal memos that Guantanamo be closed and that interrogations of al Qaeda detainees be limited.
Should those officials be personally liable for the advice they gave President Obama?
We'd say no, but that's exactly the kind of lawsuit that the political left, including State Department nominee Harold Koh, has encouraged against Bush Administration officials. This month a federal judge in San Francisco ruled that a civil suit filed by convicted terrorist Jose Padilla can proceed against former Justice Department lawyer John Yoo for violating the terrorist's rights. Mr. Yoo is one of those who wrote memos laying out the legal parameters for aggressive interrogation of al Qaeda captives. If Mr. Yoo can be sued, why couldn't Obama officials also be held liable for their advice if there's an attack on their watch?
The mention of Mr. Koh is pertinent because the legal outfit suing Mr. Yoo, and other Bush officials in a separate case in South Carolina, is affiliated with Yale Law School. Mr. Koh is the outgoing dean of Yale and has been perhaps the most prominent legal critic of Bush interrogation policies. He once referred to President Bush as the "torturer in chief." Yet now President Obama has nominated Mr. Koh to be State Department legal adviser, who is charged with defending U.S. officials from legal assaults. It's as if Mr. Obama had nominated the AFL-CIO's John Sweeney as U.S. Trade Representative.
At least the Justice Department is still defending Mr. Yoo, as it should since his advice was offered while working for the U.S. government. But that could change if a second part of this exercise in political revenge goes forward. For five years the Justice Department's Office of Professional Responsibility (OPR) has been investigating Mr. Yoo and former Justice lawyers Jay Bybee and Steven Bradbury for alleged misconduct in writing those legal interrogation memos.
Last month, in a leak full of malice aforethought, the press reported that OPR's draft report recommends disciplinary action against the Bush lawyers. If the final report reaches the same conclusion, the left-wing bar will try to have those lawyers disbarred, while liberals in Congress could pursue impeachment against Mr. Bybee, a federal judge on the Ninth Circuit Court of Appeals. In that event, Justice might also stop defending Mr. Yoo in court. A professor at Berkeley Law, Mr. Yoo would have to pay hundreds of thousands of dollars to defend himself.
This is exactly what the anti-antiterror left hopes to accomplish. Having failed to enact their agenda in Congress, or now even via Mr. Obama, their aim is to ruin and bankrupt individuals in the Bush Administration who played key roles in the war on terror. Their goal is to make sure that no one in public life ever again offers advice that disagrees with their view that terrorists should be handled in nonmilitary courts like common burglars.
The May news leak was especially pernicious because it came before the Bush officials or their lawyers had been allowed to respond to OPR's accusations. They are still bound by a pledge of confidentiality. Our guess is that the leak was intended to box in Attorney General Eric Holder, who will ultimately have to sign off on the report.
Mr. Holder knows that former Attorney General Michael Mukasey had rejected the OPR draft in a scathing, 15-page, single-spaced memo. His deputy, Mark Filip, also refused to endorse the OPR draft. Yet OPR lawyers ran out the clock on Mr. Mukasey, hoping that an Obama AG will validate their work.
The leak of a draft report is itself an act of professional irresponsibility worthy of punishment. And the entire exercise is bizarre, since Messrs. Yoo, Bybee and Bradbury were only doing what their superiors and the CIA asked of them. If OPR's lawyers want to claim misconduct, they should target former Attorney General John Ashcroft or President Bush, who personally named Padilla an enemy combatant. But it's so much easier to pick on mid-level officials who lack a platform to fight back. In any case, OPR is supposed to investigate genuine misconduct such as withholding evidence (the Ted Stevens case), not opine on the legal analysis of other, in this case far superior, lawyers.
As for the lawsuit, Padilla's rights were never violated. Mr. Bush's decision to name the so-called "dirty bomber" an enemy combatant was defended in court by executive branch lawyers, who won in the Fourth Circuit. The Bush Administration later transferred Padilla to be tried in a Miami court, and the Supreme Court declined to hear an appeal. Padilla was convicted after receiving every due process protection and is now serving a 17-year prison sentence.
Politics can be vicious, but we have come to a very strange pass when government lawyers acting in good faith can be sued by convicted terrorists and investigated for giving advice solicited by their superiors. Mr. Holder will do the country, and his own colleagues in the Obama Administration, a service if he speaks out against the Padilla lawsuit and puts an end to Justice's part in this nasty exercise.
Maine: Finally, a state that cuts tax rates on the rich
Maine Miracle. WSJ Editorial
Finally, a state that cuts tax rates on the rich.
The Wall Street Journal, Jun 23, 2009, p A14
At last, there's a place in America where tax cutting to promote growth and attract jobs is back in fashion. Who would have thought it would be Maine?
This month the Democratic legislature and Governor John Baldacci broke with Obamanomics and enacted a sweeping tax reform that is almost, but not quite, a flat tax. The new law junks the state's graduated income tax structure with a top rate of 8.5% and replaces it with a simple 6.5% flat rate tax on almost everyone. Those with earnings above $250,000 will pay a surtax rate of 0.35%, for a 6.85% rate. Maine's tax rate will fall to 20th from seventh highest among the states. To offset the lower rates and a larger family deduction, the plan cuts the state budget by some $300 million to $5.8 billion, closes tax loopholes and expands the 5% state sales tax to services that have been exempt, such as ski lift tickets.
This is a big income tax cut, especially given that so many other states in the Northeast and East -- Maryland, Massachusetts, New Jersey and New York -- have been increasing rates. "We're definitely going against the grain here," Mr. Baldacci tells us. "We hope these lower tax rates will encourage and reward work, and that the lower capital gains tax [of 6.85%] brings more investment into the state."
These changes alone are hardly going to earn the Pine Tree State the reputation of "pro-business." Neighboring New Hampshire still has no income or sales tax. And last year Maine was ranked as having the third worst business climate for states by the Small Business Survival Committee. Still, no state has improved its economic attractiveness more than Maine has this year.
One question is how Democrats in Augusta were able to withstand the cries by interest groups of "tax cuts for the rich?" Mr. Baldacci's snappy reply: "Without employers, you don't have employees." He adds: "The best social services program is a job." Wise and timely advice for both Democrats and Republicans as the recession rolls on and budgets get squeezed.
Finally, a state that cuts tax rates on the rich.
The Wall Street Journal, Jun 23, 2009, p A14
At last, there's a place in America where tax cutting to promote growth and attract jobs is back in fashion. Who would have thought it would be Maine?
This month the Democratic legislature and Governor John Baldacci broke with Obamanomics and enacted a sweeping tax reform that is almost, but not quite, a flat tax. The new law junks the state's graduated income tax structure with a top rate of 8.5% and replaces it with a simple 6.5% flat rate tax on almost everyone. Those with earnings above $250,000 will pay a surtax rate of 0.35%, for a 6.85% rate. Maine's tax rate will fall to 20th from seventh highest among the states. To offset the lower rates and a larger family deduction, the plan cuts the state budget by some $300 million to $5.8 billion, closes tax loopholes and expands the 5% state sales tax to services that have been exempt, such as ski lift tickets.
This is a big income tax cut, especially given that so many other states in the Northeast and East -- Maryland, Massachusetts, New Jersey and New York -- have been increasing rates. "We're definitely going against the grain here," Mr. Baldacci tells us. "We hope these lower tax rates will encourage and reward work, and that the lower capital gains tax [of 6.85%] brings more investment into the state."
These changes alone are hardly going to earn the Pine Tree State the reputation of "pro-business." Neighboring New Hampshire still has no income or sales tax. And last year Maine was ranked as having the third worst business climate for states by the Small Business Survival Committee. Still, no state has improved its economic attractiveness more than Maine has this year.
One question is how Democrats in Augusta were able to withstand the cries by interest groups of "tax cuts for the rich?" Mr. Baldacci's snappy reply: "Without employers, you don't have employees." He adds: "The best social services program is a job." Wise and timely advice for both Democrats and Republicans as the recession rolls on and budgets get squeezed.
Monday, June 22, 2009
Reviewing the Administration’s Financial Reform Proposals
Reviewing the Administration’s Financial Reform Proposals. By Douglas J. Elliott, Fellow, Economic Studies, Initiative on Business and Public Policy
The Brookings Institution, June 17, 2009
The Obama administration’s financial reform proposals to be announced today are virtually all sensible, necessary reforms. Unfortunately, some bolder steps have been left out, apparently due to the expectation of intense opposition from entrenched interests. The key proposals, as described in leaked “near-final draft” form are:
Regulation has largely focused on ensuring that each financial institution was sufficiently sound in its own right with less attention paid to how the dominos could fall if a major institution fails. Banks and other financial institutions are now so interconnected that problems at one can lead to problems at others which are then magnified throughout the entire system. The level of systemic risk before this crisis was much higher than had been appreciated, spurring the government into significantly more extreme responses than one would have expected to be necessary.
There is a dual response in the proposals to the need for more systemic oversight. First, Treasury will head a new Financial Services Oversight Council (FSOC) whose role will be to identify emerging risks to the system as well as coordinating regulatory activities in general. Second, the Fed will have regulatory power over individual systemically important financial institutions of all types, as discussed later.
This dual approach appears to be a political compromise. The administration’s initial impulse was apparently to give the Fed sole authority over systemic risk regulation, both at the systemwide level and in regard to individual systemically important financial institutions. There would have been the usual consultation with its peers, but nothing like a veto power wielded by the other regulators. However, Congress is not happy with the Fed at the moment. The Fed’s role in the bailouts, especially of AIG, has annoyed many in Congress. This has magnified concerns about the huge financial power of the Fed and its dramatically expanded role in the credit markets, where it operates with little Congressional oversight.
It makes sense to have a regulator responsible for watching over risks to the system as a whole, but there is a real limit to how effective it can be because it would be asked to do something extremely difficult. Ideally, the regulator would spot problems before they spawned bubbles whose bursting would cause great economic pain afterward. However, it is not necessarily easy to spot a bubble in advance, no matter how clear it seems in retrospect. Some things which may appear to be bubbles are not, but rather reflect true long-term changes in the economy. Other trends may be bubbles, but seem as if they were not. For example, what happens if commodity prices go up further and oil reaches $100 a barrel. Is that a commodity bubble or a natural response to tight energy supplies in a recovering world economy? Bubbles almost always start as a reasonable response to changing circumstances – the problem comes when they accelerate beyond reason as investors pile in to a rising market.
The actual powers of the FSOC in practice will matter, as will its approach to using them. At one end of the spectrum, there could effectively be little more than a power to warn about danger, which could be useful, but might not make much difference. At the other end of the spectrum, there would be solid authority to force changes, perhaps by raising capital standards or even limiting certain activities outright. Ironically, the stronger the power, the harder it may be to use. Bubbles grow because there is a widespread belief in the underlying thesis driving the market and investors are profiting from following that belief. Thus, there will be strong resistance to any regulator who argues against the prevailing belief, especially if they are seen as about to destroy a profitable market opportunity that will be argued to be beneficial to society at large. For that reason, there is little risk of the opposite problem, that a systemic regulator will act too strongly or too soon, although this remains a theoretical possibility.
Despite the risks of ineffectiveness, it is better to have a regulator responsible for leaning against the wind when market forces are pushing too hard in a particular direction. Warnings and the threat of specific actions may still help rein in at least some of the excesses associated with bubbles, even if the regulatory actions themselves were to be thwarted. It would be better, however, to have a single regulator play this role rather than a council. The need to win a consensus across all the regulators, with their different views, constituencies, and institutional interests is likely to make it excessively hard to achieve the desired systemic safety.
Higher capital and liquidity requirements
The current crisis has reinforced the importance of a strong level of capital at banks and other key financial institutions. Capital represents the portion of a bank’s assets on which no one has a call except the owners of the bank, whose role is to absorb any losses. Thus, it is available to pay for mistakes and misfortunes, which we have vividly seen are a real possibility in this business. The more capital is held, the greater the level of mistakes and bad luck that can be handled.
The administration supports tougher capital requirements, which are clearly needed. The key will be finding the right balance; tough and effective without overshooting. Capital is not free, for the banks or for society. The investors who provide the capital expect a return on their investment which has to be built into the price of loans and other services or taken out of the rate paid to depositors.
Similarly, the administration supports tougher liquidity requirements, since key financial institutions have been forced to the wall because they allowed themselves to become too exposed to the risk of a “run” by creditors. Within limits, it is a useful economic function for banks to borrow short-term and lend long-term, but it needs to be carefully balanced against the risk that short-term borrowings will run off without new creditors being willing to step in at a reasonable price in a time of trouble.
Tougher regulation of systemically important financial institutions
A newly designated group of Tier 1 Financial Holding Companies (Tier 1 FHCs) would be established by the Fed, in consultation with the FSOC. These entities would be required to hold more capital and perhaps bear additional restrictions not applicable to other financial institutions. The theory is that certain financial institutions are so large or interconnected with other key market players that they cannot be allowed to fail. In practical terms, this means that there is an implicit government guarantee covering those institutions and therefore a potentially large cost to taxpayers if they begin to fail. It is reasonable to take regulatory steps to reduce the risk of failure for those institutions below the risk for less significant ones. Those restrictions may also reduce the temptation for smaller institutions to find a way to become too important to fail and thereby gain the same implicit federal guarantee. Expanded “resolution authority,” discussed next, is a key element of regulation being proposed for Tier 1 FHCs.
Expanded resolution authority
Regulators have available an elaborate set of powers to deal with banks that have fallen into trouble, powers that allow intervention well short of when a bank becomes formally insolvent. There is a regime of “prompt corrective action” steps that regulators can require banks to take once they become undercapitalized or hit other severe problems. Federal regulators have much less authority to deal with troubled financial institutions of other types, with the level of authority falling to zero for insurers or hedge funds.
The administration is proposing to give the Federal Reserve and the FDIC powers over systemically important financial institutions, including bank holding companies and Tier 1 FHCs that are not bank holding companies, that are similar to the prompt corrective action powers already enjoyed by regulators of banks. The Fed would be principally responsible for using these powers while the financial institutions remain solvent, with the FDIC taking over any institutions that actually fail.
This would be a major and controversial change to existing regulation and insolvency laws. It seems clearly necessary in regard to bank holding companies, which are standard corporations covered by regular bankruptcy rules, but which are so bound together with their bank subsidiaries as to form one integral whole. My earlier paper, “Pre-emptive Bank Nationalization Would Face Thorny Problems,” discussed some of the serious difficulties in dealing with a bank and its holding company under different legal bases.
There is also a good case for extending bank-like resolution authority to insurers, finance companies, and securities firms that are affiliated with Tier 1 FHCs, although the answer is not as clear-cut as with bank holding companies. Here the arguments for resolution authority are tied quite closely to the basic premise for tougher regulation of Tier1 FHCs in general. If we establish a separate class of Tier 1 FHCs, they will be implicitly guaranteed by the government, giving the taxpayer a greater stake in their health. We therefore need to optimize the way we deal with such entities if they become insolvent, including, preferably, establishing rules and authorities that make it less likely that they will reach insolvency. The prompt corrective action requirements on banks are a sensible way of doing this.
There are two broad arguments against extending resolution authority, as well as numerous more technical concerns. First, some analysts do not think that the separate status should be established in the first place. In part this is because it makes it more likely in their view that taxpayers will have to subsidize failures and in part because it could give an unfair competitive advantage to the largest competitors, leading them to become bigger still. Second, there are fairness issues involved in changing the insolvency regime for investors who have held bonds of the affected institutions for years under the clear understanding that they would be protected by regular bankruptcy law in the event of an insolvency.
I support extending resolution authority, but it is too complex an issue to fully discuss here. I intend to issue a separate paper in the near future expanding on the brief discussion here.
Consolidation of regulatory functions
There are significantly too many bank regulators in the United States. Different banks and bank-like institutions are regulated by: state regulators; the Office of the Comptroller of the Currency (OCC); the Federal Reserve; the Office of Thrift Supervision; the National Credit Union Administration; and, for certain important purposes, the Federal Deposit Insurance Corporation (FDIC). It appeared earlier that the administration would propose significantly reducing the number of bank regulators, perhaps to as few as a single regulator. This thought appears to have died in the face of intense opposition by many in Congress and elsewhere. No one would design the banking regulatory system the way it is now if they were starting from scratch, but there are many entrenched interests who do not want the present system to change.
The Office of Thrift Supervision is the only regulator who appears to have lacked the institutional support to retain their separate existence. The administration has proposed merging them with, and effectively into, the OCC. This move makes sense, but does not provide nearly the advantages the broader consolidation would have brought. Different regulators will inevitably have different approaches, especially as they are generally given substantial independence in order to reduce the politicization of regulatory decisions. These differing approaches can reduce the effectiveness of systemic regulation, in part by opening up the possibility of “regulatory arbitrage,” where financial groups put their various activities into the affiliates which have the softest regulatory requirements. It is true that tighter regulation of consolidated groups at the holding company level will reduce the ability to arbitrage the regulators, but it is unlikely to entail supervision as detailed as that which will occur at the level of the regulated subsidiaries.
Outside of bank regulation, there are two financial market regulators, the Securities and Exchange Commission (SEC) and the Commodities Futures Trading Commission (CFTC). It makes compelling sense to combine them, but the politics are apparently too difficult. (For one thing, the Agriculture committees of the two houses strongly wish to retain authority over a robust CFTC.) Instead, there will be additional fragmentation as some of the consumer protection functions of the SEC will overlap with that of the new consumer protection regulator discussed later.
New regulations for securitizations and derivatives
Many of the losses by financial institutions and other market players came from problems with securitizations of mortgages and other assets or from problems with derivatives, particularly credit default swaps. The administration proposes greater regulation in both areas, in line with previous statements.
The biggest change to securitizations would be a requirement that the originators of the loans underlying the securities retain at least 5% of the risk. The idea of “keeping some skin in the game” is intuitively appealing and should help. However, it is important not to take excessive comfort from this change. Banks will indeed pay more attention to the quality of the assets they securitize if they retain even a small fraction of them. But, the financial incentives in a bull market for those assets will still push them towards taking greater and greater risks, since they will immediately gain most of the benefits through securitization while only having a future risk on a small fraction of the asset pools. Also, banks are not immune to the euphoria that grips the larger markets during an asset bubble. The banks, to their regret, actually retained much of the mortgage risk from the bubble period, sometimes even buying more in the open market.
The administration is also proposing other positive steps related to securitization, including: greater transparency about the assets backing the securities; clearer guidance from the rating agencies about the differences between asset-backed securities and regular corporate debt; and changes to the compensation structure for the parties involved in securitization.
On the derivatives side, the administration had already indicated that it would push for all standardized derivatives to be traded through an organized exchange or cleared through a clearing house. An exchange is a centrally organized marketplace for the purchase and sale of financial products. The best known is probably the New York Stock Exchange, but there are also several prominent exchanges that do a major business in derivatives already. Exchanges bring a real benefit from transparency about the pricing and volume of trades, as well as making it easier for regulators to track trading positions of major parties. In contrast, much of the trading volume in derivatives now takes place “over the counter,” between two counterparties who are not generally required to report details of the trade and who take each other’s credit risk in regard to the transaction. This credit risk is often mitigated by requiring collateral, but it is clear in retrospect that this process was not well-managed in many cases, leaving a large number of institutions very exposed to the credit risk of AIG, for example.
The major exchanges dealing in derivatives use central clearing houses that act as the counterparty to both sides. If A sells an option to B on the exchange, the clearing house would interpose itself, buying from A and selling the option on to B. The sole purpose of this interposition is to eliminate B’s credit exposure to A. If the option becomes valuable over time, B needs A to make good on its promise. If A doesn’t, the clearing house would make good, protecting B. Such clearing houses can also handle trades that were done off of an exchange, which will be an allowed alternative in certain cases.
It should be noted that using a clearing house does not eliminate counterparty risk altogether. The clearing house could become insolvent itself if enough of its counterparties fail to meet their obligations. This should still represent a diminution of the total credit risk in the system, since clearing houses are well-capitalized and operate in a clearly defined business that is easier to manage than a broader business, but there could be extreme circumstances where a government rescue would be required.
The big controversy with derivatives is what to do about customized derivatives. The use of derivatives to manage risk by sophisticated corporations is pervasive. Sometimes those derivatives are significantly cheaper or more effective if they cover the exact risk rather than using one or more standard derivatives to approximate the desired protection. It would be a great shame to lose those efficiencies altogether by banishing customized derivatives, but there is also a fear that financial firms will deliberately sell slightly non-standard derivatives in order to avoid the tougher rules on standardized ones.
This is another area where the devil is in the details. The trick will be to provide incentives or requirements to use standard derivatives where possible, while leaving the ability to use customized ones where they serve a genuine need. The administration’s proposal attempts to strike this balance. It will be interesting to see what comes out the other end of the legislative process, given the combination of a high degree of public anxiety about derivatives combined with a lack of understanding of this complex topic by many who are voicing opinions about the proper course of action.
Stronger consumer protections
The administration has proposed creating a Consumer Financial Protection Agency (CFPA), responsible for all aspects of regulation of mortgages, credit cards, and other consumer-focused financial products, with a few exceptions, such as mutual funds, which are left with the SEC. This appears to be a fairly powerful agency, with the power to set binding regulations, impose fines, etc. It will specifically be authorized to impose an obligation to offer “plain vanilla” products, such as a standardized 30-year fixed rate mortgage, with the possibility that consumers who wish to make another choice will have to specifically waive their right to have the standardized product.
There have been many bad practices that developed in the bubble period which harmed consumers, especially related to sub-prime mortgages. It will be useful to have a clear regulatory focus on eliminating those problems and avoiding others in the future. The critical issue will be the extent to which the CFPA is able to find the right balance between promoting consumer safety and allowing innovation. Everyone can agree on the need for transparency. What is harder is when there are both risks and rewards to a given product, from the consumer’s viewpoint. How much will the CFPA try to protect consumers from taking risks that might actually be legitimate in light of the potential rewards?
Another key issue that will be determined by a combination of legislative wording and regulatory choices over time is the extent to which the CFPA will move out of products that are clearly consumer products into a wider range of financial products. For example, would the CFPA ever find itself imposing regulations on derivative products, perhaps on the basis that some individuals do invest in them? This appears not to be the intent of the proposal, but there will doubtless be gray areas in practice.
Greater international coordination
Finally, the administration has also highlighted the need for greater international regulatory cooperation. This would indeed be useful, particularly if the United States develops tougher rules in some areas than currently exist elsewhere. However, it is not likely that there will be a large effect on U.S. policy from this international cooperation. As has already been seen with the failure to propose significant regulatory consolidation, financial regulation in the United States is a very parochial affair, with entrenched interests fighting their corner with relatively little regard for what is going on in the rest of the world.
Summary
The proposals are generally quite sensible. The unfortunate aspect is that political constraints have caused the administration to stop short of a full solution in certain areas, most notably in the consolidation of regulatory functions into fewer hands. Nonetheless, the country should be better off if these proposals are passed than if we were to remain as we are now.
The Brookings Institution, June 17, 2009
The Obama administration’s financial reform proposals to be announced today are virtually all sensible, necessary reforms. Unfortunately, some bolder steps have been left out, apparently due to the expectation of intense opposition from entrenched interests. The key proposals, as described in leaked “near-final draft” form are:
- A greater focus on systemic risks
- Higher capital and liquidity requirements for financial institutions, especially the largest
- Tougher regulation of systemically important financial institutions
- Expanded “resolution authority” for regulators to take over troubled financial institutions
- Modest consolidation of regulatory functions
- New regulations for securitizations and derivatives
- Stronger consumer protections led by a new Consumer Financial Protection Agency
- Greater international coordination
Regulation has largely focused on ensuring that each financial institution was sufficiently sound in its own right with less attention paid to how the dominos could fall if a major institution fails. Banks and other financial institutions are now so interconnected that problems at one can lead to problems at others which are then magnified throughout the entire system. The level of systemic risk before this crisis was much higher than had been appreciated, spurring the government into significantly more extreme responses than one would have expected to be necessary.
There is a dual response in the proposals to the need for more systemic oversight. First, Treasury will head a new Financial Services Oversight Council (FSOC) whose role will be to identify emerging risks to the system as well as coordinating regulatory activities in general. Second, the Fed will have regulatory power over individual systemically important financial institutions of all types, as discussed later.
This dual approach appears to be a political compromise. The administration’s initial impulse was apparently to give the Fed sole authority over systemic risk regulation, both at the systemwide level and in regard to individual systemically important financial institutions. There would have been the usual consultation with its peers, but nothing like a veto power wielded by the other regulators. However, Congress is not happy with the Fed at the moment. The Fed’s role in the bailouts, especially of AIG, has annoyed many in Congress. This has magnified concerns about the huge financial power of the Fed and its dramatically expanded role in the credit markets, where it operates with little Congressional oversight.
It makes sense to have a regulator responsible for watching over risks to the system as a whole, but there is a real limit to how effective it can be because it would be asked to do something extremely difficult. Ideally, the regulator would spot problems before they spawned bubbles whose bursting would cause great economic pain afterward. However, it is not necessarily easy to spot a bubble in advance, no matter how clear it seems in retrospect. Some things which may appear to be bubbles are not, but rather reflect true long-term changes in the economy. Other trends may be bubbles, but seem as if they were not. For example, what happens if commodity prices go up further and oil reaches $100 a barrel. Is that a commodity bubble or a natural response to tight energy supplies in a recovering world economy? Bubbles almost always start as a reasonable response to changing circumstances – the problem comes when they accelerate beyond reason as investors pile in to a rising market.
The actual powers of the FSOC in practice will matter, as will its approach to using them. At one end of the spectrum, there could effectively be little more than a power to warn about danger, which could be useful, but might not make much difference. At the other end of the spectrum, there would be solid authority to force changes, perhaps by raising capital standards or even limiting certain activities outright. Ironically, the stronger the power, the harder it may be to use. Bubbles grow because there is a widespread belief in the underlying thesis driving the market and investors are profiting from following that belief. Thus, there will be strong resistance to any regulator who argues against the prevailing belief, especially if they are seen as about to destroy a profitable market opportunity that will be argued to be beneficial to society at large. For that reason, there is little risk of the opposite problem, that a systemic regulator will act too strongly or too soon, although this remains a theoretical possibility.
Despite the risks of ineffectiveness, it is better to have a regulator responsible for leaning against the wind when market forces are pushing too hard in a particular direction. Warnings and the threat of specific actions may still help rein in at least some of the excesses associated with bubbles, even if the regulatory actions themselves were to be thwarted. It would be better, however, to have a single regulator play this role rather than a council. The need to win a consensus across all the regulators, with their different views, constituencies, and institutional interests is likely to make it excessively hard to achieve the desired systemic safety.
Higher capital and liquidity requirements
The current crisis has reinforced the importance of a strong level of capital at banks and other key financial institutions. Capital represents the portion of a bank’s assets on which no one has a call except the owners of the bank, whose role is to absorb any losses. Thus, it is available to pay for mistakes and misfortunes, which we have vividly seen are a real possibility in this business. The more capital is held, the greater the level of mistakes and bad luck that can be handled.
The administration supports tougher capital requirements, which are clearly needed. The key will be finding the right balance; tough and effective without overshooting. Capital is not free, for the banks or for society. The investors who provide the capital expect a return on their investment which has to be built into the price of loans and other services or taken out of the rate paid to depositors.
Similarly, the administration supports tougher liquidity requirements, since key financial institutions have been forced to the wall because they allowed themselves to become too exposed to the risk of a “run” by creditors. Within limits, it is a useful economic function for banks to borrow short-term and lend long-term, but it needs to be carefully balanced against the risk that short-term borrowings will run off without new creditors being willing to step in at a reasonable price in a time of trouble.
Tougher regulation of systemically important financial institutions
A newly designated group of Tier 1 Financial Holding Companies (Tier 1 FHCs) would be established by the Fed, in consultation with the FSOC. These entities would be required to hold more capital and perhaps bear additional restrictions not applicable to other financial institutions. The theory is that certain financial institutions are so large or interconnected with other key market players that they cannot be allowed to fail. In practical terms, this means that there is an implicit government guarantee covering those institutions and therefore a potentially large cost to taxpayers if they begin to fail. It is reasonable to take regulatory steps to reduce the risk of failure for those institutions below the risk for less significant ones. Those restrictions may also reduce the temptation for smaller institutions to find a way to become too important to fail and thereby gain the same implicit federal guarantee. Expanded “resolution authority,” discussed next, is a key element of regulation being proposed for Tier 1 FHCs.
Expanded resolution authority
Regulators have available an elaborate set of powers to deal with banks that have fallen into trouble, powers that allow intervention well short of when a bank becomes formally insolvent. There is a regime of “prompt corrective action” steps that regulators can require banks to take once they become undercapitalized or hit other severe problems. Federal regulators have much less authority to deal with troubled financial institutions of other types, with the level of authority falling to zero for insurers or hedge funds.
The administration is proposing to give the Federal Reserve and the FDIC powers over systemically important financial institutions, including bank holding companies and Tier 1 FHCs that are not bank holding companies, that are similar to the prompt corrective action powers already enjoyed by regulators of banks. The Fed would be principally responsible for using these powers while the financial institutions remain solvent, with the FDIC taking over any institutions that actually fail.
This would be a major and controversial change to existing regulation and insolvency laws. It seems clearly necessary in regard to bank holding companies, which are standard corporations covered by regular bankruptcy rules, but which are so bound together with their bank subsidiaries as to form one integral whole. My earlier paper, “Pre-emptive Bank Nationalization Would Face Thorny Problems,” discussed some of the serious difficulties in dealing with a bank and its holding company under different legal bases.
There is also a good case for extending bank-like resolution authority to insurers, finance companies, and securities firms that are affiliated with Tier 1 FHCs, although the answer is not as clear-cut as with bank holding companies. Here the arguments for resolution authority are tied quite closely to the basic premise for tougher regulation of Tier1 FHCs in general. If we establish a separate class of Tier 1 FHCs, they will be implicitly guaranteed by the government, giving the taxpayer a greater stake in their health. We therefore need to optimize the way we deal with such entities if they become insolvent, including, preferably, establishing rules and authorities that make it less likely that they will reach insolvency. The prompt corrective action requirements on banks are a sensible way of doing this.
There are two broad arguments against extending resolution authority, as well as numerous more technical concerns. First, some analysts do not think that the separate status should be established in the first place. In part this is because it makes it more likely in their view that taxpayers will have to subsidize failures and in part because it could give an unfair competitive advantage to the largest competitors, leading them to become bigger still. Second, there are fairness issues involved in changing the insolvency regime for investors who have held bonds of the affected institutions for years under the clear understanding that they would be protected by regular bankruptcy law in the event of an insolvency.
I support extending resolution authority, but it is too complex an issue to fully discuss here. I intend to issue a separate paper in the near future expanding on the brief discussion here.
Consolidation of regulatory functions
There are significantly too many bank regulators in the United States. Different banks and bank-like institutions are regulated by: state regulators; the Office of the Comptroller of the Currency (OCC); the Federal Reserve; the Office of Thrift Supervision; the National Credit Union Administration; and, for certain important purposes, the Federal Deposit Insurance Corporation (FDIC). It appeared earlier that the administration would propose significantly reducing the number of bank regulators, perhaps to as few as a single regulator. This thought appears to have died in the face of intense opposition by many in Congress and elsewhere. No one would design the banking regulatory system the way it is now if they were starting from scratch, but there are many entrenched interests who do not want the present system to change.
The Office of Thrift Supervision is the only regulator who appears to have lacked the institutional support to retain their separate existence. The administration has proposed merging them with, and effectively into, the OCC. This move makes sense, but does not provide nearly the advantages the broader consolidation would have brought. Different regulators will inevitably have different approaches, especially as they are generally given substantial independence in order to reduce the politicization of regulatory decisions. These differing approaches can reduce the effectiveness of systemic regulation, in part by opening up the possibility of “regulatory arbitrage,” where financial groups put their various activities into the affiliates which have the softest regulatory requirements. It is true that tighter regulation of consolidated groups at the holding company level will reduce the ability to arbitrage the regulators, but it is unlikely to entail supervision as detailed as that which will occur at the level of the regulated subsidiaries.
Outside of bank regulation, there are two financial market regulators, the Securities and Exchange Commission (SEC) and the Commodities Futures Trading Commission (CFTC). It makes compelling sense to combine them, but the politics are apparently too difficult. (For one thing, the Agriculture committees of the two houses strongly wish to retain authority over a robust CFTC.) Instead, there will be additional fragmentation as some of the consumer protection functions of the SEC will overlap with that of the new consumer protection regulator discussed later.
New regulations for securitizations and derivatives
Many of the losses by financial institutions and other market players came from problems with securitizations of mortgages and other assets or from problems with derivatives, particularly credit default swaps. The administration proposes greater regulation in both areas, in line with previous statements.
The biggest change to securitizations would be a requirement that the originators of the loans underlying the securities retain at least 5% of the risk. The idea of “keeping some skin in the game” is intuitively appealing and should help. However, it is important not to take excessive comfort from this change. Banks will indeed pay more attention to the quality of the assets they securitize if they retain even a small fraction of them. But, the financial incentives in a bull market for those assets will still push them towards taking greater and greater risks, since they will immediately gain most of the benefits through securitization while only having a future risk on a small fraction of the asset pools. Also, banks are not immune to the euphoria that grips the larger markets during an asset bubble. The banks, to their regret, actually retained much of the mortgage risk from the bubble period, sometimes even buying more in the open market.
The administration is also proposing other positive steps related to securitization, including: greater transparency about the assets backing the securities; clearer guidance from the rating agencies about the differences between asset-backed securities and regular corporate debt; and changes to the compensation structure for the parties involved in securitization.
On the derivatives side, the administration had already indicated that it would push for all standardized derivatives to be traded through an organized exchange or cleared through a clearing house. An exchange is a centrally organized marketplace for the purchase and sale of financial products. The best known is probably the New York Stock Exchange, but there are also several prominent exchanges that do a major business in derivatives already. Exchanges bring a real benefit from transparency about the pricing and volume of trades, as well as making it easier for regulators to track trading positions of major parties. In contrast, much of the trading volume in derivatives now takes place “over the counter,” between two counterparties who are not generally required to report details of the trade and who take each other’s credit risk in regard to the transaction. This credit risk is often mitigated by requiring collateral, but it is clear in retrospect that this process was not well-managed in many cases, leaving a large number of institutions very exposed to the credit risk of AIG, for example.
The major exchanges dealing in derivatives use central clearing houses that act as the counterparty to both sides. If A sells an option to B on the exchange, the clearing house would interpose itself, buying from A and selling the option on to B. The sole purpose of this interposition is to eliminate B’s credit exposure to A. If the option becomes valuable over time, B needs A to make good on its promise. If A doesn’t, the clearing house would make good, protecting B. Such clearing houses can also handle trades that were done off of an exchange, which will be an allowed alternative in certain cases.
It should be noted that using a clearing house does not eliminate counterparty risk altogether. The clearing house could become insolvent itself if enough of its counterparties fail to meet their obligations. This should still represent a diminution of the total credit risk in the system, since clearing houses are well-capitalized and operate in a clearly defined business that is easier to manage than a broader business, but there could be extreme circumstances where a government rescue would be required.
The big controversy with derivatives is what to do about customized derivatives. The use of derivatives to manage risk by sophisticated corporations is pervasive. Sometimes those derivatives are significantly cheaper or more effective if they cover the exact risk rather than using one or more standard derivatives to approximate the desired protection. It would be a great shame to lose those efficiencies altogether by banishing customized derivatives, but there is also a fear that financial firms will deliberately sell slightly non-standard derivatives in order to avoid the tougher rules on standardized ones.
This is another area where the devil is in the details. The trick will be to provide incentives or requirements to use standard derivatives where possible, while leaving the ability to use customized ones where they serve a genuine need. The administration’s proposal attempts to strike this balance. It will be interesting to see what comes out the other end of the legislative process, given the combination of a high degree of public anxiety about derivatives combined with a lack of understanding of this complex topic by many who are voicing opinions about the proper course of action.
Stronger consumer protections
The administration has proposed creating a Consumer Financial Protection Agency (CFPA), responsible for all aspects of regulation of mortgages, credit cards, and other consumer-focused financial products, with a few exceptions, such as mutual funds, which are left with the SEC. This appears to be a fairly powerful agency, with the power to set binding regulations, impose fines, etc. It will specifically be authorized to impose an obligation to offer “plain vanilla” products, such as a standardized 30-year fixed rate mortgage, with the possibility that consumers who wish to make another choice will have to specifically waive their right to have the standardized product.
There have been many bad practices that developed in the bubble period which harmed consumers, especially related to sub-prime mortgages. It will be useful to have a clear regulatory focus on eliminating those problems and avoiding others in the future. The critical issue will be the extent to which the CFPA is able to find the right balance between promoting consumer safety and allowing innovation. Everyone can agree on the need for transparency. What is harder is when there are both risks and rewards to a given product, from the consumer’s viewpoint. How much will the CFPA try to protect consumers from taking risks that might actually be legitimate in light of the potential rewards?
Another key issue that will be determined by a combination of legislative wording and regulatory choices over time is the extent to which the CFPA will move out of products that are clearly consumer products into a wider range of financial products. For example, would the CFPA ever find itself imposing regulations on derivative products, perhaps on the basis that some individuals do invest in them? This appears not to be the intent of the proposal, but there will doubtless be gray areas in practice.
Greater international coordination
Finally, the administration has also highlighted the need for greater international regulatory cooperation. This would indeed be useful, particularly if the United States develops tougher rules in some areas than currently exist elsewhere. However, it is not likely that there will be a large effect on U.S. policy from this international cooperation. As has already been seen with the failure to propose significant regulatory consolidation, financial regulation in the United States is a very parochial affair, with entrenched interests fighting their corner with relatively little regard for what is going on in the rest of the world.
Summary
The proposals are generally quite sensible. The unfortunate aspect is that political constraints have caused the administration to stop short of a full solution in certain areas, most notably in the consolidation of regulatory functions into fewer hands. Nonetheless, the country should be better off if these proposals are passed than if we were to remain as we are now.
Does the "Smart Grid" Have a Smartest-Guys-in-the-Room Problem?
Does the "Smart Grid" Have a Smartest-Guys-in-the-Room Problem? By Ken Maize
Master Resource, June 19, 2009
[...]
However politically incorrect my conclusion, I’m convinced that the “smart grid” is not smart and even dumb. It diverts attention from what is a more important objective–a strong grid. And it politicizes in the very area where we need more consumer-driven, free-market incentives.
Following the Northeast grid collapse of 2003, the Electric Power Research Institute (EPRI) popped out the smart grid concept, largely the brainchild of then EPRI’s CEO Kurt Yeager. The blueprint was for an interconnected intelligent network reaching from the generating station to your toaster, able to talk up-and-down the line, matching supply and demand seamlessly.
Sounds cool, but doesn’t stand up to analysis in my judgment.
Where Did ‘Smart Grid’ Come From?
The idea of a smart grid has been laying around in bits and pieces for many years. I recall visiting Southern California Edison (SEC) in the 1980s where a group of us energy reporters visited the utility’s “smart house.” It kinda reminded me of the Betty Furness advertisements for Westinghouse kitchens when I grew up in Pittsburgh in the 1950s and 1960s. SCE assured us that the smart house, connected to the utility over phone lines (this was pre-World Wide Web) and through radio signals, would dominate home construction in the coming years. (Enron would have a ’smart house’ a decade later to awe visitors to 1400 Smith Street in Houston, but that’s another story.)
Didn’t happen, for lots of reasons, most of them good. It didn’t make economic sense for consumers (although it did for the utility — remember all-electric “gold medallion” homes?). It was way too technologically optimistic, assuming communications protocols that really didn’t exist, and appliances that weren’t remotely ready to talk to each other and the utility. Heck, this was largely before cell phones were making a big impact in the market.
Fast forward to the 21st Century. The grid has shown that it is in trouble. The Internet has demonstrated the utility of Vint Cerf’s IP communications protocol. EPRI is facing an existential moment (what the heck is our role here?). Presto! The smart grid. It controls power flows, adjusts supply demand on the fly, instantly corrects for frequency and power imbalances. It slices, it dices, it’s the latest, biggest, best Ronco product of all time. We can get Billy Mays (no relation, he spells it differently) to peddle it on late-night cable.
Rescuing Dumb Renewables
The concept of the smart grid (if not the reality) also fits into the allegedly new paradigm of renewables. We want lots of power from the wind and the sun (water doesn’t count). But the places where the winds blows a lot and the sun shines a lot are a long way away from where there are a lot of people.
Hence proposals to build a transcontinental, high-voltage (AC and DC) backbone grid on top of the existing transmission and distribution network (which former energy secretary Bill Richardson famously and erroneously called a “third world” grid following the 2003 grid collapse). What’s a trillion dollars or so to bring unreliable power to market?
So here is the Big Green Grid Dream: tie renewables to consumers, with a smart grid to govern (Big Brother?) usage. We could imbue the entire grid — high-voltage transmission and lower-voltage distribution with smarts, from the generator to the substation to the refrigerator. It’s the Big Rock Candy Mountain–or Dream Green Machine.
Another Problem: Cybersecurity
Another problem with the concept of a smart grid (which most advocates assume will use IP/TCP communications protocols) is cybersecurity. It’s hard to bring down a dumb but strong grid in a cyber attack. The smarter it is, the more vulnerable it becomes. There was a report in the Wall Street Journal not long ago that hackers from China and Russia had successfully penetrated the U.S.”grid,” which was undefined in the article.
I don’t believe it, and no other mainstream media outlet backed up the story. But the “smarter” the grid becomes, the more likely such hacking becomes. That’s a real problem.
The Legacy Problem
The U.S. transmission grid (and I’m talking about the big pipes — 365 kV and above) has clear weaknesses. We don’t have a U.S. grid, but loosely-interconnected regional grids. East and West don’t meet very easily. Texas is an island unto itself. Florida is aspiring to the same. Without strong physical interconnections, it’s impossible to dispatch and control a national grid. So a lot of “smart grid” is putting the cart before the horse.
Color Me Skeptical
I don’t buy any part of it, and it ain’t going to happen. It’s what I have described elsewhere as lemon-meringue pie-in-the-sky. Among other problems, the costs are simply unknown, and who will bear them is also unknown. Most of what I’ve seen implicitly suggests that taxpayers will get the check, since customers would revolt if the costs showed up on their monthly bills.
I’ve tuned into recent FERC discussions about grid issues, and heard what I think is a lot of nonsense about smart grids. I’d rather our regulators and policy makers were focusing on muscle, not brains. It’s heavy lifting we need, not heavy thinking.
—————————————
Ken Maize is executive editor of MANAGING POWER magazine and editor of POWER Blog. He was the founder and editor of Electricity Daily (1993-2006) and a reporter and editor at The Energy Daily for a dozen years, starting on March 28, 1979, the date of the Three Mile Island problem. Contact address: kmaize@hughes.net.
Master Resource, June 19, 2009
[...]
However politically incorrect my conclusion, I’m convinced that the “smart grid” is not smart and even dumb. It diverts attention from what is a more important objective–a strong grid. And it politicizes in the very area where we need more consumer-driven, free-market incentives.
Following the Northeast grid collapse of 2003, the Electric Power Research Institute (EPRI) popped out the smart grid concept, largely the brainchild of then EPRI’s CEO Kurt Yeager. The blueprint was for an interconnected intelligent network reaching from the generating station to your toaster, able to talk up-and-down the line, matching supply and demand seamlessly.
Sounds cool, but doesn’t stand up to analysis in my judgment.
Where Did ‘Smart Grid’ Come From?
The idea of a smart grid has been laying around in bits and pieces for many years. I recall visiting Southern California Edison (SEC) in the 1980s where a group of us energy reporters visited the utility’s “smart house.” It kinda reminded me of the Betty Furness advertisements for Westinghouse kitchens when I grew up in Pittsburgh in the 1950s and 1960s. SCE assured us that the smart house, connected to the utility over phone lines (this was pre-World Wide Web) and through radio signals, would dominate home construction in the coming years. (Enron would have a ’smart house’ a decade later to awe visitors to 1400 Smith Street in Houston, but that’s another story.)
Didn’t happen, for lots of reasons, most of them good. It didn’t make economic sense for consumers (although it did for the utility — remember all-electric “gold medallion” homes?). It was way too technologically optimistic, assuming communications protocols that really didn’t exist, and appliances that weren’t remotely ready to talk to each other and the utility. Heck, this was largely before cell phones were making a big impact in the market.
Fast forward to the 21st Century. The grid has shown that it is in trouble. The Internet has demonstrated the utility of Vint Cerf’s IP communications protocol. EPRI is facing an existential moment (what the heck is our role here?). Presto! The smart grid. It controls power flows, adjusts supply demand on the fly, instantly corrects for frequency and power imbalances. It slices, it dices, it’s the latest, biggest, best Ronco product of all time. We can get Billy Mays (no relation, he spells it differently) to peddle it on late-night cable.
Rescuing Dumb Renewables
The concept of the smart grid (if not the reality) also fits into the allegedly new paradigm of renewables. We want lots of power from the wind and the sun (water doesn’t count). But the places where the winds blows a lot and the sun shines a lot are a long way away from where there are a lot of people.
Hence proposals to build a transcontinental, high-voltage (AC and DC) backbone grid on top of the existing transmission and distribution network (which former energy secretary Bill Richardson famously and erroneously called a “third world” grid following the 2003 grid collapse). What’s a trillion dollars or so to bring unreliable power to market?
So here is the Big Green Grid Dream: tie renewables to consumers, with a smart grid to govern (Big Brother?) usage. We could imbue the entire grid — high-voltage transmission and lower-voltage distribution with smarts, from the generator to the substation to the refrigerator. It’s the Big Rock Candy Mountain–or Dream Green Machine.
Another Problem: Cybersecurity
Another problem with the concept of a smart grid (which most advocates assume will use IP/TCP communications protocols) is cybersecurity. It’s hard to bring down a dumb but strong grid in a cyber attack. The smarter it is, the more vulnerable it becomes. There was a report in the Wall Street Journal not long ago that hackers from China and Russia had successfully penetrated the U.S.”grid,” which was undefined in the article.
I don’t believe it, and no other mainstream media outlet backed up the story. But the “smarter” the grid becomes, the more likely such hacking becomes. That’s a real problem.
The Legacy Problem
The U.S. transmission grid (and I’m talking about the big pipes — 365 kV and above) has clear weaknesses. We don’t have a U.S. grid, but loosely-interconnected regional grids. East and West don’t meet very easily. Texas is an island unto itself. Florida is aspiring to the same. Without strong physical interconnections, it’s impossible to dispatch and control a national grid. So a lot of “smart grid” is putting the cart before the horse.
Color Me Skeptical
I don’t buy any part of it, and it ain’t going to happen. It’s what I have described elsewhere as lemon-meringue pie-in-the-sky. Among other problems, the costs are simply unknown, and who will bear them is also unknown. Most of what I’ve seen implicitly suggests that taxpayers will get the check, since customers would revolt if the costs showed up on their monthly bills.
I’ve tuned into recent FERC discussions about grid issues, and heard what I think is a lot of nonsense about smart grids. I’d rather our regulators and policy makers were focusing on muscle, not brains. It’s heavy lifting we need, not heavy thinking.
—————————————
Ken Maize is executive editor of MANAGING POWER magazine and editor of POWER Blog. He was the founder and editor of Electricity Daily (1993-2006) and a reporter and editor at The Energy Daily for a dozen years, starting on March 28, 1979, the date of the Three Mile Island problem. Contact address: kmaize@hughes.net.
The Potential Gas Committee has raised its gas resource estimate for the US
U.S. Gas Resources: Julian Simon Lives! (Malthus, Hotelling, Hubbert are wrong again). By Michael Lynch
Master Resource, June 22, 2009
The Potential Gas Committee has issued its new biennial gas resource estimate for the United States and once again raised its estimate, this time by 15%, or from 1,321 trillion cubic feet (Tcf) to 1,525 Tcf. This equates to a 70-year domestic cushion, given annual U.S. consumption of 20 Tcf. The evaluation of available shale gas, production of which is now soaring, played a major role in this re-evaluation and potently demonstrates how new technology (aka human ingenuity, what the late Julian Simon called the ultimate resource) creates resources, refuting the static fixity/depletion view of the mineral-resource world.
Few realize that the PGC has been raising the estimates of conventional resources throughout history, even as the United States has consumed large amounts of natural gas. Thus gas has been and is an expanding resource, not a depleting one.
In 1966, the PGC’s estimate of ultimately recoverable resource (i.e., including cumulative production) was 1,283 Tcf, versus the current estimate of approximately 2,600 Tcf, including 1,100 Tcf of cumulative production. While that includes several hundred Tcf of shale gas and coal-bed methane (CBM), conventional gas resources have surpassed 2,000 Tcf and are far beyond even the most optimistic estimates of a quarter century ago.
An excellent summary of those estimates can be found in the Office of Technology Assessment’s U.S. Natural Gas Availability: Conventional Gas Supply Through the Year 2000, which noted that the pessimistic projections for production in 2000 were about 9 Tcf. Total production that year proved to be over twice that amount, at 18.7 Tcf, of which less than 2 Tcf were shale gas and CBM.
In fact, resource estimates from that era have proved wildly pessimistic. A review of URR estimates from 11 different sources, including M. King Hubbert and Richard Nehring, found none that came close to current levels, with the highest at 1,800 Tcf. Indeed, five of the nine estimates of lower-48 remaining undiscovered resources came in below 200 Tcf, whereas production since then has been 500 Tcf.
Against this background, we have any number of pundits decrying the optimists arguments that resources will be sufficient for our needs, pointing to a few years of elevated prices, and encouraging the building of numerous—now idle—LNG import terminals. Even more, arguments that global gas resources are somehow constrained should be put to bed.
Master Resource, June 22, 2009
The Potential Gas Committee has issued its new biennial gas resource estimate for the United States and once again raised its estimate, this time by 15%, or from 1,321 trillion cubic feet (Tcf) to 1,525 Tcf. This equates to a 70-year domestic cushion, given annual U.S. consumption of 20 Tcf. The evaluation of available shale gas, production of which is now soaring, played a major role in this re-evaluation and potently demonstrates how new technology (aka human ingenuity, what the late Julian Simon called the ultimate resource) creates resources, refuting the static fixity/depletion view of the mineral-resource world.
Few realize that the PGC has been raising the estimates of conventional resources throughout history, even as the United States has consumed large amounts of natural gas. Thus gas has been and is an expanding resource, not a depleting one.
In 1966, the PGC’s estimate of ultimately recoverable resource (i.e., including cumulative production) was 1,283 Tcf, versus the current estimate of approximately 2,600 Tcf, including 1,100 Tcf of cumulative production. While that includes several hundred Tcf of shale gas and coal-bed methane (CBM), conventional gas resources have surpassed 2,000 Tcf and are far beyond even the most optimistic estimates of a quarter century ago.
An excellent summary of those estimates can be found in the Office of Technology Assessment’s U.S. Natural Gas Availability: Conventional Gas Supply Through the Year 2000, which noted that the pessimistic projections for production in 2000 were about 9 Tcf. Total production that year proved to be over twice that amount, at 18.7 Tcf, of which less than 2 Tcf were shale gas and CBM.
In fact, resource estimates from that era have proved wildly pessimistic. A review of URR estimates from 11 different sources, including M. King Hubbert and Richard Nehring, found none that came close to current levels, with the highest at 1,800 Tcf. Indeed, five of the nine estimates of lower-48 remaining undiscovered resources came in below 200 Tcf, whereas production since then has been 500 Tcf.
Against this background, we have any number of pundits decrying the optimists arguments that resources will be sufficient for our needs, pointing to a few years of elevated prices, and encouraging the building of numerous—now idle—LNG import terminals. Even more, arguments that global gas resources are somehow constrained should be put to bed.
How to Get The Fed Out Of Its 'Box'
How to Get The Fed Out Of Its 'Box'. By FREDERIC S. MISHKIN
A commitment to fiscal discipline could enable expansionary monetary policy.
The Wall Street Journal, Jun 22, 2009, p A15
When the Federal Open Market Committee meets this Tuesday and Wednesday, the Federal Reserve will face a serious dilemma.
Since the last committee meeting six weeks ago, the 10-year U.S. Treasury yield has risen by around 70 basis points (0.70%), with the result that the interest rate on 30-year mortgages has risen by a similar amount. The rise in long-term interest rates is particularly worrisome, because it has the potential to choke off economic recovery and lead to further deterioration in the housing market. That would put an already weakened financial system under stress. Does the situation call for the Fed to expand its purchases of Treasury bonds to lower long-term interest rates?
To answer this question, we need to look at why long-term interest rates have risen. Here, there is good news and bad news. One cause of the rise in long-term rates is the more positive economic news of the past couple of months, particularly in financial markets. The bad news is that long-term interest rates are higher because of concerns about the deteriorating fiscal situation, with massive budget deficits expected for the indefinite future. To fund these budget deficits, the Treasury has to sell large quantities of bonds both now and in the future, causing bond prices to fall and interest rates to rise. The increased supply of Treasury debt puts pressure on the Fed to buy it up.
Although an expansion of Treasury bond purchases by the Fed would have the benefit of lowering long-term interest rates temporarily to stimulate the economy, in the current environment it could be dangerous for two reasons. First, it might suggest that the Fed is willing to monetize Treasury debt. The Fed does not, and should not, want to make it easy for the Treasury to sell its debt and thereby be an enabler of fiscal irresponsibility. Second, if the Fed loses its credibility to resist pressures to monetize the debt it could cause inflation expectations to shift upward, thereby leading to a serious problem down the road.
The Fed is boxed in. The slack in the economy that is likely to persist for a very long time suggests the need for stimulative monetary policy to lower long-term interest rates through the purchase of Treasurys. The fiscal situation argues against this policy action, because it would weaken the Fed's inflation-fighting credibility.
How can the Fed get out of the box and pursue the expansionary monetary policy that is needed right now? The answer is that the Obama administration and Congress have to get serious about long-run fiscal sustainability. Large budget deficits naturally occur during severe recessions when tax revenue undergoes a substantial decline. In addition, fiscal stimulus to promote economic recovery when the economy is in a severe recession is a sensible prescription.
However, the failure to take steps to get future budgets under control is a recipe for disaster. Not only does it make it difficult for the Fed to take the actions needed to promote economic recovery, but it may even make the fiscal stimulus package less effective. After all, if you know that the government is issuing a lot of debt that has to be paid back someday you can expect to pay much higher taxes in the future. With the prospect of higher taxes, you will be less likely to spend today.
How can the Obama administration and Congress help the Fed do its job and help the fiscal stimulus package work? It needs to address exploding spending on entitlements -- Social Security and particularly Medicare -- which are causing future deficit projections to be so bleak.
One possibility is to establish a nonpartisan commission on entitlement reform, along the lines of the National Commission on Social Security in the early 1980s. It produced recommendations that for a time helped put Social Security on a more solid footing. Another is taxing health-care benefits as part of any package to reform health care. Taxing health-care benefits would not only generate large amounts of revenue. It would also increase the incentive for people to lower the costs of their health care. There are surely many other ways to promote more fiscal responsibility.
The Fed can assist this process. It could indicate that implementing measures that would promote fiscal sustainability will be rewarded with Federal Reserve actions to bring long-term Treasury rates down. Deals like this have been successfully made in the past. In the current extremely difficult economic environment, we surely need such a deal now.
Mr. Mishkin, an economics professor at Columbia University, is a former member of the Board of Governors of the Federal Reserve and the author of "Monetary Policy Strategy" (MIT Press, 2007).
A commitment to fiscal discipline could enable expansionary monetary policy.
The Wall Street Journal, Jun 22, 2009, p A15
When the Federal Open Market Committee meets this Tuesday and Wednesday, the Federal Reserve will face a serious dilemma.
Since the last committee meeting six weeks ago, the 10-year U.S. Treasury yield has risen by around 70 basis points (0.70%), with the result that the interest rate on 30-year mortgages has risen by a similar amount. The rise in long-term interest rates is particularly worrisome, because it has the potential to choke off economic recovery and lead to further deterioration in the housing market. That would put an already weakened financial system under stress. Does the situation call for the Fed to expand its purchases of Treasury bonds to lower long-term interest rates?
To answer this question, we need to look at why long-term interest rates have risen. Here, there is good news and bad news. One cause of the rise in long-term rates is the more positive economic news of the past couple of months, particularly in financial markets. The bad news is that long-term interest rates are higher because of concerns about the deteriorating fiscal situation, with massive budget deficits expected for the indefinite future. To fund these budget deficits, the Treasury has to sell large quantities of bonds both now and in the future, causing bond prices to fall and interest rates to rise. The increased supply of Treasury debt puts pressure on the Fed to buy it up.
Although an expansion of Treasury bond purchases by the Fed would have the benefit of lowering long-term interest rates temporarily to stimulate the economy, in the current environment it could be dangerous for two reasons. First, it might suggest that the Fed is willing to monetize Treasury debt. The Fed does not, and should not, want to make it easy for the Treasury to sell its debt and thereby be an enabler of fiscal irresponsibility. Second, if the Fed loses its credibility to resist pressures to monetize the debt it could cause inflation expectations to shift upward, thereby leading to a serious problem down the road.
The Fed is boxed in. The slack in the economy that is likely to persist for a very long time suggests the need for stimulative monetary policy to lower long-term interest rates through the purchase of Treasurys. The fiscal situation argues against this policy action, because it would weaken the Fed's inflation-fighting credibility.
How can the Fed get out of the box and pursue the expansionary monetary policy that is needed right now? The answer is that the Obama administration and Congress have to get serious about long-run fiscal sustainability. Large budget deficits naturally occur during severe recessions when tax revenue undergoes a substantial decline. In addition, fiscal stimulus to promote economic recovery when the economy is in a severe recession is a sensible prescription.
However, the failure to take steps to get future budgets under control is a recipe for disaster. Not only does it make it difficult for the Fed to take the actions needed to promote economic recovery, but it may even make the fiscal stimulus package less effective. After all, if you know that the government is issuing a lot of debt that has to be paid back someday you can expect to pay much higher taxes in the future. With the prospect of higher taxes, you will be less likely to spend today.
How can the Obama administration and Congress help the Fed do its job and help the fiscal stimulus package work? It needs to address exploding spending on entitlements -- Social Security and particularly Medicare -- which are causing future deficit projections to be so bleak.
One possibility is to establish a nonpartisan commission on entitlement reform, along the lines of the National Commission on Social Security in the early 1980s. It produced recommendations that for a time helped put Social Security on a more solid footing. Another is taxing health-care benefits as part of any package to reform health care. Taxing health-care benefits would not only generate large amounts of revenue. It would also increase the incentive for people to lower the costs of their health care. There are surely many other ways to promote more fiscal responsibility.
The Fed can assist this process. It could indicate that implementing measures that would promote fiscal sustainability will be rewarded with Federal Reserve actions to bring long-term Treasury rates down. Deals like this have been successfully made in the past. In the current extremely difficult economic environment, we surely need such a deal now.
Mr. Mishkin, an economics professor at Columbia University, is a former member of the Board of Governors of the Federal Reserve and the author of "Monetary Policy Strategy" (MIT Press, 2007).
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