• As long as countries have good credit, perpetual debt is okay.

    The Benefits of Perpetual Federal Debt

    Nov 4 • Demand, Supply, and Markets, Developing Economies, Economic History, Economic Thinkers, Financial Markets, Government, International Trade and Finance, Macroeconomic Measurement, Money and Monetary Policy • 245 Views

    Sometimes countries take longer than we might expect to pay back a debt.

    Like the United States…

    Perpetual Bonds

    Faced with a federal debt from the Revolutionary War that the country could not afford, in 1790, Secretary of the Treasury Alexander Hamilton had to figure out how to avoid defaulting. His solution was to delay some interest and principal payments by funding most of the debt. The funding involved immediately covering our obligations to the French, Dutch and Spanish who had loaned us money. Meanwhile though, domestic bondholders had a menu of choices Including new bonds that were redeemable at the government’s discretion, annuities and even western lands valued at 20 cents an acre. With no maturity date, some of those bonds were not retired until 1835, the only year the U.S. government has had no debt.

    As you can see below, the amount owed was daunting. It is amazing that Hamilton not only funded the federal debt but created a credit worthy United States.

    The beginning of the U.S. federal debt.

    From: Hamilton’s Report on the Public Credit

     

    It took the United States 45 years to completely retire its Revolutionary War debt. Creating perpetual bonds, the British government has taken much longer.

    Just now, the British government said it will repay some—not all—of its National (First World) War Bonds sold in 1917 and refinanced by selling new securities (like Hamilton’s) that became “perpetual bonds” because they had no redemption date. Set at 3.5 percent, the interest has been paid since their inception.

    But the story gets better.

    Those bonds, though, were really perpetual. Some of them refinanced debt that dates back to the South Sea Bubble fiasco in 1720. Rather than describing a complicated financial tale, we can just say that the British government took over some of the obligations of the South Sea Company and has been paying interest on perpetual bonds ever since.

    Our Bottom Line: The Value of Good Credit

    Perpetual debt does not matter if the financial world knows you have good credit.

    In 2011, the United States’s S&P Triple A credit rating on long-term sovereign credit was reduced to AA+. As for Great Britain’s perpetual bonds, having sustained interest payments for centuries surely supports their “top notch” S&P Triple-A credit rating.

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  • Everyday economics and the opportunity cost of Daylight Saving Time is too high.

    The Unintended Consequences of Daylight Saving Time

    Nov 3 • Behavioral Economics, Economic Debates, Economic History, Economic Humor, Economic Thinkers, Environment, Government, Households, Labor, Regulation, Thinking Economically • 235 Views

    Surely with a smile, Ben Franklin explained in a 1784 letter to the Journal of Paris a new discovery that would have great utility. First expressing the previous night’s dinner conversation about the excessive expense of the oil used for lighting, he then says he went home…

    Ben Franklin’s New Discovery

    “…and to bed, three or four hours after midnight, with my head full of the subject. An accidental sudden noise waked me…when I was surprised to find my room filled with light; …rubbing my eyes, I perceived the light came in at the windows. I got up and looked out to see what might be the occasion of it, when I saw the sun just rising above the horizon, from whence he poured his rays plentifully into my chamber…

    “I looked at my watch which goes very well, and found that it was but six o’clock; and still thinking it something extraordinary that the sun should rise so early,.. Your readers, who with me have never seen any signs of sunshine before noon…will be as much astonished as I was, when they hear of his rising so early, and especially when I assure them that he gives light as soon as he arises…One cannot be more certain of any fact. I saw it with my own eyes. And, having repeated this observation the three following mornings, I found always precisely the same result.”

    A bit later in his letter, Franklin gets to the opportunity cost of sleeping until noon:

    “…I considered that, if I had not been awakened so early in the morning, I should have slept six hours longer by the light of the sun, and, in exchange have lived six hours the following night by candle-light; and, the latter being a much more expensive light than the former, my love of economy induced me to muster up what little arithmetic I was master of, and make some calculations…”

    His calculations took him to the immense savings created by early risers. In just 183 nights, Parisians would demand 64,050,000 less pounds of wax. All someone needed was a tax on shutters or a cannon that fired at sunrise, and then, having awakened earlier, “… it is more than probable he will go willingly to bed at eight in the evening; and, having had eight hours sleep, he will rise more willingly at four in the morning following.

    Now, 230 years later we are still following Dr. Franklin’s advice. Switching between Daylight Saving Time (DST) and Standard Time, we are theoretically optimizing daylight hours and saving on energy.

    Yes?

    Maybe not…

    The Unintended Consequences of DST

    In Australia, we accidentally wound up with the perfect experiment. Because of the 2000 summer Olympic Games, for one year, two states implemented DST two months sooner and thereby provided researchers with the opportunity to “isolate the effect of daylight-saving time from any other legislation that changes potential electrical demand…”

    You can see below that DST had little if any impact. Offsetting any saving for less evening demand, energy use increased during the morning:

     

    Opportunity Cost of Daylight Saving Time too great to return to it.

    Then, further challenging the validity of DST, in a 2008 Indiana study based on 7 million “observations,” researchers concluded that DST actually increases individual residential electricity use as well as the social cost of pollution.

    Our Bottom Line: Opportunity Cost

    If indeed, the opportunity cost of Daylight Saving Time is greater than we realize, perhaps, like Arizona and Hawaii, we should remain with Standard Time next March when we are supposed to “spring forward.”

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  • Everyday economics and air conditioning as an innovation

    What It Means to be Cool

    Nov 2 • Behavioral Economics, Businesses, Demand, Supply, and Markets, Economic Growth, Economic History, Entertainment, Households, Innovation, Labor, Lifestyle, Macroeconomic Measurement • 224 Views

    In 1975, on June 20, Jaws opened in movie theaters. Subsequently known as the first summer blockbuster, it never could have become a summer blockbuster without air conditioning.

    For three minutes of movie fun and horror, do watch this Jaws trailer:

    Our story actually begins during May 1880 when New York City had a freak heat wave. With temperatures topping 90 degrees, ticket holders for the one hundredth performance of a play called Hazel Kirke were dreading a sweltering performance. To their surprise, the temperature indoors was 70 degrees because of a $10,000 (close to $245,000 in today’s dollars) state-of-the-art cooling apparatus. Once word of the cool air spread, crowds rushed to see the play.

    So let’s say we have…

    #1: More comfortable theaters

    Fast forward to 1902. The place is a Brooklyn publishing and lithography firm. Known for their high quality color printing, they were having humidity problems. On hot summer days they shut down, missed deadlines and discarded ruined, crinkly paper. Working with an experimental engineer named Carrier, they become the first business to increase productivity with a mechanical air conditioning system.

    #2: Manufacturing productivity

    In NYC, John Jacob Astor IV, the owner of the Hotel Astoria  (that eventually merged with its next door neighbor the Hotel Waldorf), moved onward to a new project with the St. Regis. His idea for the St. Regis was air conditioning. Costing an astronomical $300,000 in 1904, the hotel’s air conditioning provided heretofore unknown comfort during the summer months.

    As for homes, we had to wait until the 1940s. For centuries, higher ceilings, strategically placed windows, and sleeping porches had been architectural necessities. Beginning after World War II, because of AC, air flow was no longer a the same problem.

    #3: At home comfort and productivity

    While department stores could become cooler and less smelly with better ventilation, management resisted—even though customers were fainting from the summer heat. Then, in 1924, Hudson’s allocated $250,000 (more than $3 million today) to the basement level (and soon after all) of its Detroit store. With sales clerks invigorated and customers comfortable, the store’s popularity soared.

    #4: Retail sales

    To our growing list we can add that radio broadcasting studios soon realized AC minimized outside noise, skyscraper architects wanted climate control, chocolate makers could finally prevent melting while pasta needed cool air for drying. In addition, heat producing equipment ranging from AT&T’s original switchboards to contemporary computer servers need cooling. And yes, Southern California, Arizona and Florida became more comfortable.

    We could go on and on, moving from a private firm’s innovation to the ripple of an impact that returns us to Jaws.

    Our Bottom Line: Private and Social Return

    Long ago Edwin Mansfield (1930-1997), a University of Pennsylvania economist, said that a seemingly small technological innovation can have a large impact through its private and social return. While he was referring to inputs like a new kind of thread, air conditioning is the perfect example. The private return might go to Carrier Air Conditioning Company of America and other early producers. But then, the ripple of a considerable social benefit unfolds when other people use the invention as a springboard for saving time and generating knowledge.

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  • The econlife.com Weekly Roundup

    Our Weekly Roundup: From Misery to Chocolate

    Nov 1 • Behavioral Economics, Demand, Supply, and Markets, Developing Economies, Economic Growth, Economic History, Economic Thinkers, Environment, Government, Macroeconomic Measurement, Money and Monetary Policy, Regulation, Sports, Thinking Economically • 219 Views

    Our Posts Roundup

    Everyday economics: A misery index number conveys the potential distress created by unemployment and inflation.Sunday 10.26.14 — The economic definition of misery…more

     

    Everyday Economics: Return on investment is a problem for World Cup and Olympics host nations.Monday 10.27.14 — Why Norway refused the Olympics…more

     

    Everyday Economics: Replacing tradition with government central planning for garbage removal created problems in Cairo, Egypt.Tuesday 10.28.14 — The Egyptian approach to trash…more

     

    Everyday Economics: Displaying a regression to the world mean, China's real economic growth rate might be less than most people expect.Wednesday 10.29.14 — How performance tends toward average…more

     

    Everyday Economics: Changes in supply and demand for many reasons increased the price of chocolate.Thursday 10.30.14 — The connection between Ebola and chocolate…more

     

    Through quantitative easing, Fed Chair Ben Bernanke inserted a new tool in the Fed's policy box.Friday 10.31.14 — The Fed’s $4 trillion helicopter drop…more

    Ideas Roundup

    • Misery Index
    • Sports economics
    • Quantitative easing
    • Monetary policy
    • Supply and demand
    • Regression to the mean
    • Behavioral economics
    • GDP growth rate
    • Economic systems
    • ROI

     

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  • Through quantitative easing, Fed Chair Ben Bernanke inserted a new tool in the Fed's policy box.

    How Does a Helicopter Drop $4 Trillion?

    Oct 31 • Businesses, Demand, Supply, and Markets, Economic Debates, Economic Growth, Economic History, Economic Thinkers, Financial Markets, Government, Labor, Macroeconomic Measurement, Money and Monetary Policy • 179 Views

    The year was 1999 when Princeton Professor Ben Bernanke presented his “helicopter” solution for Japan’s economic problems. Faced with a sluggish economy that rockbottom interest rates would not stimulate, Japan instead could “flood” her population with money. A “helicopter” just had to drop the cash.

    The Helicopter Drop

    Eight years later, that helicopter flew over the U.S. economy. While Professor Bernanke recognized that, “…a helicopter drop of government bonds would not necessarily induce significant extra spending,” still, between 2007 (just with a trickle and no formal name) and 2014, Fed Chairs Ben Bernanke and Janet Yellen dropped more than $4 trillion.

    From: NY Times

    From: NY Times

    Like Japan, in the United States, zirp—a zero interest rate policy (below)—was neither fueling economic growth nor diminishing very much unemployment. So, in 2008, the Federal Reserve decided to transform a trickle of securities purchases into a deluge.

    Zirp monetary policy

    Very simply, the Fed tells banks that it wants their treasury bonds or their mortgage backed securities. A bank says “Yes,” and sells them to the Fed. With more “cash” sitting in its “reserves” (not really tangible  money—all bookkeeping entries) the bank has more of an incentive to let consumers and businesses borrow, especially because loans can generate more revenue than reserves or new securities.

    Four Trillion Dollars Later,  What Were the Results?

    Now that quantitative easing has ended, the results are being debated. Some say the helicopter drop fueled economic growth, diminished unemployment and super-charged stock markets. Others believe it is merely correlation and QE accomplished little.

    And What Will Happen?

    Will interest rates creep upward now? We just need to think about this bottle of suntan lotion.

    “Imagine that the Federal Reserve wants to increase the price of suntan lotion. There are 10 bottles of Hawaiian Tropic for sale at the cabana. The Fed buys one per hour until it owns nine. Each time it acquires one, the price for the remaining bottles rises because people who don’t want to get sunburned are competing for the dwindling supply. Now that just one bottle is left, the Fed stops buying. Would you expect the price of the last bottle to fall suddenly? No—there’s still lots of demand and constricted supply. Same with bonds. The price of bonds should stay high—and yields stay low—as long as the Fed hangs onto its huge inventory.” (Bloomberg).

    Our Bottom Line: The Fed’s Toolbox

    As the source of monetary policy, the Federal Reserve has used three basic tools: the interest rate they charge banks, the size of reserves that banks are required to have on deposits, and buying and selling government securities. The fourth tool is quantitative easing.

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