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    The Top 19

    Mar 10 • Economic History, Money and Monetary Policy, Regulation • 295 Views

    Are 19 banks “too big to fail?” Listening to Bloomberg radio, I heard that four banking firms control close to 50 percent of their industry’s assets, that the top 19 control 85 percent, and that the bottom 8000 control 15 per cent.  An FDIC report from 2006 described a similar trend.

    In a recent econtalk podcast, Gary Stern, past head of the Minneapolis Fed said that “too big to fail” distorts markets.  Explaining why, he said that once creditors expect that an institution will be rescued, no matter how risky its behavior, its demand curve shifts lower than it should be for that institution’s securities.  The result is “mispricing”.  With borrowing less expensive, risky behavior is fueled with funds.  Place that fund supply on steroids as before the 2007 panic and you have the potential for a “systemic” calamity.  And, going full circle, if systemic calamity is possible, than those big enough to cause it, cannot fail.  The challenge is to stop that cycle. 

    Is the solution smaller financial institutions?  As happened during the late 1970s, when banks were prohibited from competing and growing freely, other financial firms took away the banks’ business with a better deal–a higher return and new financial products– for their customers.  As a result, the attempt to preserve healthy institutions wound up threatening their survival.  Today, we have an international financial community ready to offer “better deals” if we limit our banks.  And, we also have an industry where new products, that regulators never imagined, surface daily. Is the solution new regulations?  Enforce existing regulations better? Permit failure and let the market take care of itself? Your comments?

    The Economic Lesson

    Whenever banking is discussed, someone always refers to Glass-Steagall as a benchmark.  Passed in 1933, Glass-Steagall is primarily associated with creating the FDIC and requiring banks to spin off their investment banking activities as separate firms. Repealed in 1999, actually, Glass-Steagall had gradually been unraveling since 1980.  

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    Euro Matters

    Mar 9 • Thinking Economically • 296 Views

    Said to have been one of the least-prepared countries to transition to euro cash, Greece was an original participant in the euro launch on January 1, 2002.  In the first major euro robbery, in Athens, a gunman ran off with 76,000 euros ($68,400).  During the early days of the launch, in Greece, only 50,000 of 300,000 businesses had been supplied with the new currency.  By contrast, in Denmark,  where “there were big queues at cash machines but it was very jolly with champagne,” the transition was virtually flawless and universal. 12 countries in all, amazingly, accomplished the massive task of circulating 6 billion euro notes and 40 billion coins.

    But why?  We could say that it all came down to transaction costs.  Moving from country to country meant switching from escudos (Portugal), to francs, to guilders, to 12 currencies in all if we just look at the countries that initially pooled their monetary lives.  While tourists found it daunting, businesses had even more trouble.  Uniformity would not only stimulate travel and commerce, it also presented the potential for a world currency to rival the dollar. 

    In a recent NPR Planet Money podcast, we hear how the creation of a single currency made sense but also created problems.  When acting alone, a country with fiscal problems might see its own currency decline in value internationally.  The decline served as a self-correcting mechanism that could ultimately solve the original fiscal difficulty.  Now, with 16 different fiscal policies and 16 different economies BUT ONE currency, the self-correcting mechanism is gone.

    Perhaps all of this just returns us once again to opportunity cost.  Whether looking at the creation of the eurozone or its preservation, the benefits far exceed the costs for its members.

    The Economic Life

    Governments can influence economic activity through monetary policy.  Focusing on the supply of money and credit, the goal of monetary policy in the United States is stable prices, steady growth, and low unemployment. 

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  • Taxing Issues

    Mar 8 • Thinking Economically • 258 Views

    How much should government spread the wealth?  In a recent speech, Harvard economics professor Gregory Mankiw gives an answer by focusing on two issues.

    The first issue involves the facts:  Beginning with a Warren Buffett story, Dr. Mankiw then shares some recent data.  Although Warren Buffett pays a 17.7 percent tax rate while his assistant’s 30 percent rate exceeds his own, Dr. Mankiw challenges Mr. Buffett’s conclusion that our system is insufficiently progressive.  As support, he cites the following average tax rates in the United States:

    The poorest quintile pays a 4.5 percent rate (average income of $15,400). The middle quintile pays a 13.9 percent rate (average income of $56,200).  The top quintile pays a 25.1 percent rate (average income of $207,200). The top one percent pays a 31.1 percent tax rate (average income of $1,259,700.)  Qualifying, Dr. Mankiw does point out that the rate for the top quintile includes 9.1 percent in corporate taxes.  As for Mr. Buffett, Dr. Mankiw wonders whether his rate is relatively low because of the dominance of capital gains income which has a 15 percent rate. 

    The second issue is more philosophical:  We have to decide who should pay more by considering what we believe is fair to everyone and what we believe is best for everyone.

    Indeed, millions of people will feel that it is both fair and better for society to have those with higher incomes pay a lot more than they now pay. Those who have less will get more, society will be more egalitarian, and no one will live beneath a certain standard. 

    But, on the other hand, as Dr. Mankiw asks, “Is it good for all to have a few pay a lot?”  Will overall well-being diminish if we penalize the affluent?

    Mankiw does say that if the affluent enjoy more services from society, perhaps they should pay in return.  If the affluent harm society in any way, perhaps they owe compensation.  But still he wonders whether it can ever be fair for people to pay over a third of their earnings in taxes.

    The answers?  We won’t all agree.  But…building from accurate facts about who currently pays what, and knowledgeable opinions about why, each of us can wisely decide how much government should spread our wealth.

    The Economic Life

    Contemplating taxes takes us to three approaches: Progressive taxation takes a higher percent from those who have higher incomes.  Regressive taxation takes a higher percent from those with lower incomes.  Proportional taxation takes the same percent from all.  Our current income tax approach is progressive while a sales tax is regressive.

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    The Economic Significance of BRIs

    Mar 7 • Thinking Economically • 225 Views

    When slicing a bagel, most people use a knife.  Others prefer the bagel guillotine or the Brooklyn Bagel Slicer.  With annual sales near 80,000, the bagel guillotine has been described as “history’s most successful bagel-controlling device” by its inventor.

    In fact, during 2008, 1,979 bagel-related injuries (BRIs) landed people in the ER according to our government’s National Electronic Injury Surveillance System.  (At 3,464, chicken-related injuries are most common while wedding cake cuts, at less than 100, are rare.) Worried that litigious eaters would slice a finger, Lender’s pre-slices their frozen bagels.

    In so many ways, bagel slicers take us to basic economics. We could begin with incentive propelling invention in a market economy.  We could go to the GDP and see that a bagel slicer adds to the value of goods and services we produce each year.  And, we can look at the federal budget for the cost of running the National Electronic Injury Surveillance System.

    Indeed, all of this relates to Adam Smith and the potential of a market system.

    The Economic Life

    The GDP has four components: Consumption Expenditures, Gross Investment, Government Spending, Exports minus Imports.  When we buy a bagel guillotine, it gets added to the consumption category.  If a bagel store or the government buys one, the cost is added to those components.  And finally, if any are sold beyond U.S. borders, it would appear in exports.

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    The Impact of an Asteroid

    Mar 6 • Thinking Economically • 240 Views

    From our “Economics is Everywhere” file:  Reviewing 20 years of research, a panel of 41 experts concluded that the asteroid that struck Mexico (at Chicxulub–chick-shoo-loob), 65 million years ago, extinguished the dinosaur population.  The impact would have been so colossal that it resulted in a global winter because of the debris catapulted into the atmosphere.
    Not convinced?  You could look at What Bugged the Dinosaurs: Insects, Disease, and Death in the Cretaceous from Princeton University Press for an alternative theory.

    Reading about asteroids soon took me to our the FY2011 federal budget to see what we are doing now.  And sure enough, I discovered that asteroid research funds increased under NASA’s budget.  Among the multiple asteroid programs is one that NASA has established with Saudi Arabia.

    The Economic Life
    Our federal budget is dominated by defense and entitlements which include social security, Medicare, and Medicaid spending.  Receiving $19 billion from a budget totaling close to $4 trillion, NASA spending is relatively small.  Anyone worried about the burgeoning deficit would see that austerity for asteroid research would have little impact as would cuts in most discretionary spending.

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