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    Grading a Country

    May 10 • Businesses, Government • 181 Views

    We could say that the graders of sovereign debt use a “rubric” to decide whether a country has a high or a low score. In the classroom, students are given rubrics which specifically describe how a test is graded. A rubric is a list of facts and ideas that compose a high grade or a low one.

    When NPR’s Planet Money visited Standard & Poor’s to find out their “rubric”, they described a two step process. First S & P checks a variety of topics that include the country’s debt, monetary policy, exports, imports, budget, and election results. They look at objective and subjective data, even including what the media is saying. Next, all information is given to a 5 person committee that decides what the rating should be. 

    Recently, The Guardian described what the three major ratings agencies, Standard & Poor’s, Fitch, and Moody’s, do and listed the grades of nations ranging from Albania (B+) to Vietnam (BB). The grades are based on how likely a nation is to pay back its debt fully and on time. Because the United States and Canada, for example, are considered very likely to pay back all that they borrow, they received the highest rating: AAA. The lowest grade is a CCC and maybe even an R.

    Controversial during the subprime crisis, the ratings agencies generate criticism for their sovereign debt ratings also. Bill Gross, a prominent bond investor and the co-founder of PIMCO, questions how Spain, “a country with 20% unemployment… that has defaulted 13 times during the past two centuries” can have AA and AAA ratings.

    The Economic Lesson

    When countries borrow, they most typically issue bonds. Bonds are IOUs that pay interest in exchange for money from the lender for a specific period of time. A lender can be a person, a business, or another country. A country’s loans can be called sovereign debt.

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    Environmental Externalities

    May 9 • Developing Economies, Economic Debates, Environment • 304 Views

    There is oil under Murchison Falls National Park. Home to rare birds, lions, elephants, and giraffes, this Ugandan nature park is a tourist mecca. The Ugandan government, though, prefers oil to tourists as a revenue stream. 

    Thinking as economists, we can identify negative and positive externalities of the decision to let Tullow Oil, PLC explore and drill. On the negative side, wildlife in the park is being adversely affected and villagers’ revenue from tourism is diminished. However, because oil will bring in more money than tourism, Uganda’s economic growth should accelerate and generate a ripple of benefits. 

    Economics is always about cost and benefit. Environmentalists say the choice is money or wildlife. I wonder, though, whether the “money” side involves a better life for many people if the Ugandan government appropriately manages foreign investment. Still, we have an “on the one hand but then on the other” situation–the reason President Harry Truman (1945-1953) said he was searching for a one-handed economist.

    The Economic Lesson

    Whenever a transaction between two parties affects a third, uninvolved individual or group, economists see an externality.

    Comments? Other externalities?

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    A Water Dilemma

    May 8 • Demand, Supply, and Markets • 236 Views

    Last week, the Boston area had undrinkable water for several days. Predictably, bottled water sales soared as did bottled water prices in certain stores.  Equally predictably, politicians condemned the increases. Most economists, though, disagreed.

    As explained by a Boston Globe journalist, price boosters best served the public interest because they had the incentive to supply more water. Yes, price could even double but, as he describes, “…sales of water are slower [than at the cheaper vendor] and there is a lot of grumbling about the high price. But even late arriving customers are able to buy the water they need…” By contrast, the lower priced vendor had “his entire stock cleaned out.”

    The riddle: How can high prices make people happy? 

    The answer: When they preserve the supply of a necessity.

    The Economic Lesson

    Picture a supply curve sloping upward crossed by a demand curve sloping downward. Price is the y-axis and quantity is the x-axis. As price rises, producers are willing and able to create and sell more. Why? Because higher prices mean higher profits. Whenever government steps in and prevents price from naturally rising as the market dictates, shortages result. Do you prefer high or low water prices for Boston?

    Comments? 

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    Deficits and the Tragedy of the Commons

    May 7 • Environment, Government • 202 Views

    Pondering Greece, I wondered about the individual and the state.  Sometimes what is good for one person is bad for all. 

    That took me to a graphic of the federal budget in 2020 in which entitlements, which are good for individuals, are dominant. The Congressional Budget Office projects that Medicare will be 17% of the federal budget, Social Security: 22%, and Medicaid: 8%. The probable result? Burgeoning deficits.

    The Trustees Report for 2009 on Social Security and Medicare corresponds to the surge in entitlement spending. As a pay-as-you-go system, current workers pay current social security benefits. In 2016, because of the baby boomers, the revenue will be insufficient but there is a trust fund. By 2037, the trust fund will have been depleted. For Medicare, 2017 represents the year that the money starts to run out unless current health care reform legislation has an impact.

    Your opinion of this potential tension between individual well being and budgetary crisis?

    The Economic Lesson

    Called the tragedy of the commons, meadows are overgrazed, lounges are messy, and the air is polluted when commonly held resources are bespoiled by individuals pursuing their own self-interest. Perhaps burgeoning deficits are a version of the tragedy of the commons. 

     

     

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    A Contagious Disease

    May 6 • Economic Thinkers, Financial Markets, Government • 205 Views

    Seeing the Bloomberg Businessweek headline, “Greek Contagion Spurs Surge in Portugal, Spanish Debt Swaps,” I started thinking about diagnosing fiscal illness, treating it, and contagion.

    How can we diagnose the illness? The illness seems to be the Greek spending disease. Just like you can identify a risky mortgage by looking at someone’s income, you can identify too much national (sovereign) debt by comparing it to the GDP of that country. As we noted on February 9th, for 2009, Portugal (75%), Italy (116%), Ireland (61%), Greece (108%), and Spain (57%) have debt that is too high a proportion of their national income.  

    How do you treat a fiscal disease? Greece has moved to cut the wages and pensions of public employees and to increase sales taxes. In addition, articles abound about a tax system that needs to diminish fraud. Also, afraid of catching related illnesses, investors are inoculating themselves with credit default swaps. A credit default swap is insurance that relates to risky sovereign debt. In addition, could we say that healthier European nations and the IMF might give Greece a money IV? 

    What is contagious? The contagion sounds rather similar to bank runs during the 1930s before the FDIC was created. Once one person became worried about a bank’s health, the concern spread with many rushing to withdraw their money. In today’s fiscal world, nations need to borrow. The contagion here is refusing to buy a nation’s debt.

    Do you agree? Would you suggest another way to define the contagion? Other medical analogies?

    The Economic Lesson

    In his General Theory on Employment, Interest, and Money, British economist John Maynard Keynes said that nation should borrow during a recession. Then, by using the money to “prime the pump”, fiscal activism stimulates business expansion, the recession ends, government revenue surges, and the debt is repaid.

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