9/29/2008

Ed Leamer's thoughts on the Bailout Bill

Ed Leamer was one of my professors at UCLA in graduate school, someone who I learned a lot from. For those interested, here are his thoughts on the current bailout problems. It is well worth the read.

Thanks to Craig Newmark for pointing to this piece.

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posted by John Lott at 7:15 PM

3 Comments:

Blogger Dad29 said...

Interesting paper.

Since the professor is from SoCal, he sees "housing" as the principal underlying problem. It is ONE of the problems.

Jim Sensenbrenner was just on local radio and suggested that the CRA (and mark-to-market) are far more significant problems than housing, pure.

9/30/2008 11:35 AM  
Anonymous Anonymous said...

Like many other economists with no detectable experience with capital markets, Prof Leamer doesn't seem to find it plausible that certain markets aren't working right now. The right price is and always is the market price. Doesn't matter of it's a no-bid market, that's just how it goes. Thus, if the govt buys no-bid mortgage securities for more than 20 cents on the dollar or so, they're necessarily overpaying.

Question: why does it seem to be impossible for such economists to think about a world where, most of the time, the market price is the best price and is generally tied in someway to economic fundamentals. But, very rarely, extreme changes in risk aversion can cause a market to have no ties to economic fundamentals. I'd argue we've been seeing such a market for many credit-related securities for some time now, with prices falling off a cliff as buyers have evaporated.

Seems to me very clear from looking at various actions in the credit markets that there is an extreme level of risk aversion now, with hardly anyone willing to do anything but stick cash under mattresses. So long as this persists, there will be various negative real consequences. As a result, it seems obvious that a (maybe the) main objective to any plan to get us out of this bad equilibrium ought to be something that causes a change in investor risk aversion. Only such a change will cause money markets to start working again, and eventually bring more rationality to the prices of all things credit-related.

9/30/2008 12:19 PM  
Anonymous Anonymous said...

The professor’s $700 billion plan:
1. Immediate relief for homeowners who don’t like the price the market is offering:
Have Uncle Sam do the buying. (If that sounds ridiculous, think again about the
Paulson Plan.)
2. A tax rebate for the purchase of new homes commencing in January this year.
3. A temporary tax rebate for first-time buyers of either new or existing homes that
is timed differently in different regions of the US.

My Plan:
1. Immediate relief for homeowners by offering a Federal assistance with loan payments. The Govt. becomes part owner (first tier above the homeowners and lenders in bankruptcy proceedings) to the extent of its payments. The workout is that the homeowner would have to go through debt counseling and the counselor and the Govt. would determine the ability of the homeowner to repay. The property would be sold if necessary.
2. An immediate but temporary 15% tax credit for purchasing of one of the distressed homes, and a 10% tax credit for purchasing a new home.
3. A temporary relaxation of the mark-to-market rule. Reevaluate once the market calms.
4. A temporary relaxation of the reserving rules for banks with respect to these distressed financial instruments. Reevaluate once the market calms.
5. Permanent elimination of the Capital Gains tax. This will spur the economic growth necessary to power out of the economic slump, renew interest in home ownership and create real wealth in the lower economic strata which will permit these disadvantaged people to buy homes the old fashioned way.
6. Elimination of the Corporate Tax. This is just a regressive pass through tax on individuals, which allows congress to shower favored companies with corporate welfare; kill it to level the playing field, and reduce pork.

Actually, the Capital Gains cut alone would probably fix the problem, but without more it would not be considered by the Dems.

Mark

9/30/2008 7:11 PM  

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