Topic: Government and Politics

How “the Party of Limited Government” Abets Its Opponents

I’m sitting at the 5th annual World Health Care Congress listening to George Shultz and others debate the merits of the presidential candidates’ health care reform plans. 

Rep. Jim Cooper (D-TN), speaking for Sen. Barack Obama’s (D-IL) plan, noted that Sen. Hillary Clinton’s (D-NY) plan would not get a single Republican co-sponsor because it includes an individual mandate. 

Speaking for Sen. Clinton’s plan, former (Bill) Clinton health policy advisor Christoper Jennings responded that there are plenty of Republicans on the individual-mandate bill sponsored by Sens. Ron Wyden (D-OR) and Bob Bennett (R-UT).  And not just Republicans, but conservative Republicans.

So much for that talking point.

McCain on Judges

Cato scholars have increasingly been evaluating the respective policies of John McCain, Hillary Clinton, and Barack Obama. The trade shop understandably prefers McCain (see my colleague Sallie James’s new paper), as does, cautiously, our director of health and welfare studies, Michael Tanner. The foreign policy shop, meanwhile, doesn’t like McCain because he is ”wedded to perpetual war” and generally given to neoconservative tendencies.

On judges, I’ll go with the trade and health care folks: While John McCain’s views on  the First Amendment are unacceptable to freedom-lovers of any stripe, he has at least promised to nominate Supreme Court justices in the mold of John Roberts and Sam Alito (who have ruled against campaign finance restrictions). Obama and Clinton, meanwhile, are in the John Paul Stevens camp of relying on empathy, international opinion, and “my own experience” as a basis for constitutional interpretation.

Indeed, while defending his vote against Chief Justice Roberts’s confirmation, Obama explained that his standard for a justice must be “one’s deepest values, one’s core concerns, one’s broader perspectives on how the world works, and the depth and breadth of one’s empathy.”

As Jonah Goldberg says in a devastating column, “Now that is a pure expression of the principle of judicial fiat.”

Supreme Court justices take an oath to “administer justice without respect to persons, and do equal right to the poor and to the rich, and that I will faithfully and impartially discharge and perform all the duties incumbent on me as a justice of the Supreme Court of the United States under the Constitution and laws of the United States, so help me God.” Any contention that justices must tilt toward any particular type of party — the downtrodden (or privileged), the politically unpopular (or popular), the ethnic minority (or majority) — is an argument for judicial dictatorship instead of the rule of law.

As Roberts said when Senator Richard Durbin (D-IL) asked him whether he would be “for the little guy,” if the law says the little guy wins, then the little guy should win — and if the law says the big guy wins, then it would be a miscarriage of justice to rule for the little guy. And those who don’t like that result should complain to their elected officials and get the law changed.

The Housing Crisis: Maybe We Should Do Nothing?

Two weeks ago, the Senate passed legislation ostensibly intended to address home foreclosures. That legislation is now being criticized as little more than a handout to corporate interests. The criticism is legit; the bill is largely a package of tax breaks for developers (and other struggling industries, including those that have nothing to do with housing), along with tax credits for the purchasers of foreclosed homes (a provision that has its own criticisms) and grant money to local governments that want to play Flip This House.

Across Capitol Hill, the House is considering different foreclosure legislation that would give tax credits to first-time homebuyers and developers of lower-cost housing (proposals that are subject to some of the same criticisms now being lobbed at the Senate bill). House and Senate committees are also considering additional legislation that would permit the Federal Housing Authority to underwrite as much as $300 billion in mortgages for borrowers who are at risk of falling behind on their payments.

Lawmakers’ interest in combating the mortgage problem is understandable: default and foreclosure are painful for homeowners, clusters of vacant houses are hard on communities, and the struggling homebuilding industry is a significant contributor to the nation’s overall economic malaise. (Another factor that makes it understandable: this is an election year.)

However, before Congress puts taxpayers (most of whom are also paying mortgages or renting their homes) on the hook for billions of dollars in grants, tens of billions in tax breaks, and guarantees for hundreds of billions of dollars in mortgages, three points should be acknowledged:

  1. The bailout proposals are as much a benefit to lenders as borrowers.
  2. The homebuyers who are to be rescued are not the victims of “raw deals” (unless they were deceived or defrauded).
  3. The bailout could make the nation’s overall economic condition worse.

The housing market turmoil is the product of two related factors:

  • a decline in house prices in several geographic areas that were super-heated in recent years, and
  • the discovery that many mortgage borrowers are higher-risk than lenders had previously realized.

As long as house prices were rising, the risky borrowers were not a problem. Borrowers who fell behind in their payments could sell their houses (and usually reap capital gains). But when the market reversed, this “escape hatch” closed and defaults and foreclosures ensued.

The home loans at the heart of the mortgage meltdown are “subprime” loans — loans made to borrowers with less-than-stellar credit and/or little money down. Though subprimes constitute only 12.7 percent of all outstanding mortgages, they comprise 55.2 percent of mortgages that are in foreclosure. (Mortgage figures are calculated using data from the most recent National Delinquency Survey.)

The fact that subprime loan defaults are (literally) breaking the investment banks indicates that lenders were charging subprime borrowers too little — that subprime borrowers’ mortgage payments weren’t sufficient to cover their risk of default. That’s why investment banks are suffering severe write-downs (and in the case of Bear Stearns, near collapse) and brokerage firms have needed capital infusions. Those firms would benefit greatly from many of the proposed government interventions, even if they have to take a “haircut” on their loans. Hence, claims that bailout legislation is intended to “help Main Street, not Wall Street” should be taken with grains of salt.

Further, consider that 73.3 percent of the subprime loans in foreclosure are adjustable rate mortgages (ARMs). ARM borrowers not only paid lower rates than what their default risk merited, but they also paid even-lower introductory rates for the first few years of their mortgages. In essence, the borrowers entered into “lease-to-buy” contracts, with the “buy” provision kicking in when the ARMs reset to higher rates. The increased foreclosures can be understood as borrowers deciding not to exercise the “buy” portion of the contract, either because the terms are relatively unaffordable or because the house is no longer worth the contracted amount.

Commentators err when they describe these borrowers as being irresponsible or foolish for signing such contracts. The borrowers simply made a risky but reasonable decision to try to buy a house, on very generous terms given their default risk, in a market that was experiencing tremendous appreciation. They are now making a reasonable decision to bail on their contracts and go back to renting in the wake of the housing market downturn. Of course, the borrowers feel pain when they lose their homes. But, unless they were deceived or defrauded, they were not the victims of raw deals.

Moreover, for the overwhelming majority of subprime loans, the borrowers’ original decision to buy has worked out nicely — more than 80 percent of subprime loans (and just under 80 percent of subprime ARMs) are currently in good standing. Moreover, many of the people who have used subprime loans, ARMs, and other oft-denigrated “exotic vehicles” over the past decade have realized significant capital gains, even with the recent decline in house prices. If some so-called “consumer advocates” get their wish and regulation is implemented to curtail or prohibit the use of subprime loans and ARMs, higher-risk would-be homebuyers as a group will be harmed.

Another worry is that the bailout and other interventions could make overall economic matters worse. The United States’ current economic malaise is partly the product of the housing market collapse and the associated mortgage woes, but it is also partly the product of higher energy prices. Put simply, current conditions indicate that market actors need to shift their investment and risk-taking away from housing and toward energy development and conservation.

However, government and Federal Reserve efforts to combat the housing crunch and the financial crisis could dampen the incentives to make that necessary investment switch. Ready money makes it easier to delay painful but necessary changes.

Economic corrections are always painful, but as GMU economist Alex Tabarrok and WaPo columnist Robert Samuelson each recently wrote, the pain is increased if the correction process is drawn out. Tabarrok’s NYT column compares the recent U.S. housing experience with Japan’s dramatic boom-and-bust cycle of 1985–2000. We should be mindful of Japan’s broader experience over the 1990s: the government struggled mightily to blunt the pain of a correction, resulting in an agonizing decade of economic stagnation.

All of this raises the question: Should government intervene at all in the foreclosure mess? In asking this, I’m not arguing that struggling borrowers should drop dead. But there is much more downside risk and much less justification for intervention than what proponents have acknowledged.

Obama’s Truly Radical Capital Gains Tax Agenda

Every so often, a politician commits the horrible mistake of saying what he really thinks. This happened at the Democratic debate. Barack Obama has a very punitive proposal to nearly double the capital gains rate. When asked by one of the moderators whether this makes sense, especially given the historical evidence of big “Laffer-Curve” effects, Senator Obama dismissed concerns about falling revenue, arguing that a high rate was justified by “fairness.” In other words, Senator Obama is so fixated on punishing success that he is even willing to reduce the amount of tax revenue flowing to Washington that he and his buddies can redistribute. This position is so radical that my Cato colleague Sallie James was distracted from her work on the free trade agreement with Colombia (I’m not a foreign policy person, but that’s apparently a country bordering Nepal and Mauritania) and demanded that I say something about the issue. But let’s first look at what Senator Obama actually said

MR. GIBSON: And in each instance, when the rate dropped, revenues from the tax increased. The government took in more money. And in the 1980s, when the tax was increased to 28 percent, the revenues went down. So why raise it at all, especially given the fact that 100 million people in this country own stock and would be affected?

SENATOR OBAMA: Well, Charlie, what I’ve said is that I would look at raising the capital gains tax for purposes of fairness.

The Senator then proceeded to bash evil rich (sorry for the redundancy) people, so the moderator asked the question again:

MR. GIBSON: But history shows that when you drop the capital gains tax, the revenues go up.

SENATOR OBAMA: Well, that might happen or it might not. It depends on what’s happening on Wall Street and how business is going.

This exchange is particularly revealing since Senator Obama actually admitted that a tax rate increase might lose revenue, but he held firm to his position that the capital gains rate should be increased from 15 percent to 28 percent. This reminds me of a conversation I had years ago with an economics professor from an Ivy League university. He told me that he once asked his left-wing colleagues whether they would support lower tax rates if they knew that tax revenues would rise. Most of them, he said, shared Obama’s viewpoint that punishing success was more important to the statist ideology than increasing revenue for government.

Imagining the Counterfactual

Earlier this week, Matt Yglesias remarked at “the arrogance of the hawks” and expressed his frustration that

In response to 9/11, the hawks launched a war that’s killed more Americans than Osama bin Laden ever could, at the cost of over 1 trillion dollars; they’ve done nothing to impede nuclear proliferation, nothing to build democracies in the Middle East, failed to kill or capture al-Qaeda’s top leadership, made Hamas and Iran more powerful than ever before, and brought American prestige and influence to a new low ebb.

Now obviously a lot of the folks who adhere to the ideas that have brought all this about somehow think they’re right anyway. And fair enough; there’s just no accounting for some people. But the attitude of thoughtless, unreflective scorn that you see from the [Noah] Pollacks and [James] Kirchicks and [Michael] Goldfarbs of the world is like it comes from some weird alternative reality where their ideas have generally been deemed vindicated, rather than one where 178% of the public says we’re on the wrong track.

Today, Andrew Sullivan links to this video chronicling Douglas Feith’s contorted non-apologies and notes “one wonders whether anyone in the Bush establishment actually believes they ever made an error.”

In this vein, it’s worth wondering what things would look like if things had turned out basically the mirror image of what’s happened today…

On landing in Iraq, U.S. forces walked through Saddam’s army swiftly, taking 21 days to defeat them. (This part is real.) But they were stunned when they found an isolated airstrip housing three Tupolev 95s armed with nuclear weapons. They were even more stunned when they discovered detailed coordinates on the bombers for key targets in Manhattan, Washington, and Miami. On interviewing the pilots, the CIA was floored to learn that Saddam had not only acquired several nuclear weapons, but had ordered an attack, in concert with al Qaeda, against American cities with them. Had the invasion not happened, the CIA judged, at a minimum tens of thousands of Americans would have died as a result of the attacks.

All of this concern about “what might have been” was quickly washed away by “what had emerged”: the unanimous gratitude of Iraqis at having been liberated from Saddam’s rule. After mostly incidental collateral damage from the invasion (a few hundred Iraqi casualties, U.S. forces estimated), Iraqi exiles, led by Ahmed Chalabi, quickly assembled a liberal government that recognized the State of Israel just a few weeks later. What no one could have known was what would come next.

The coherence of the Iraqi government allowed U.S. forces to exit swiftly, leaving only a small, residual force behind by the end of 2003. The example that the liberal government had throughout the region was a greater victory than anyone could have imagined, however. A veritable “democratic domino effect” took place, including velvet revolutions in Iran, Syria, and Saudi Arabia within 5 years of the invasion. (Like Iraq’s, these changes of government took place amid minimal violence and quickly led to coherent, effective governance in all three countries. Only 10 years later, a “League of Muslim Democracies” led the rest of the Islamic world in brokering an enduring peace between Israelis and Palestinians.)

On the homefront, however, the political scene did not seem to reflect the strategic masterstroke that the president and his advisers had engineered. John Kerry swept to power in 2004, making the case that President Bush had “committed war crimes” by masterminding the invasion. Opponents of the war in the punditocracy also prospered. Bill Niskanen, Chairman of the libertarian Cato Institute and an early critic of the war, was given a foreign affairs column at the New York Times.

Meanwhile, proponents of the war such as Peter Beinart, Bill Kristol, and Fred Hiatt all lost their prominence in the debate, despite having largely predicted the strategic victory the war would represent. Beinart lost his position at the New Republic, only to take a job as one half of “The Goldberg-Beinart Report,” a right-left talk program which debuted on a Fairfax County public access station. Kristol’s Weekly Standard magazine folded outright, with Kristol reassuming his position as chief-of-staff to Dan Quayle, except this time out of office. Hiatt, meanwhile, was ousted from his position as chief of the Washington Post’s editorial page after Post management issued a scathing denunciation of the “disgraceful, unmitigated disaster of a war that our editorial page somehow endorsed.”

You could go on and on like this, but I’d really like to think that if this had been the way it went down, I’d have the integrity to say “I called this wrong. I apologize, and I pledge to reevaluate how and why I made this mistake, and to attempt to make better judgments in the future.”

Rebate Folly

I was exploring some old CBO reports for information on dynamic budget scoring and I came across this nugget:

If a tax cut—such as a rebate or a higher standard deduction—does not reduce the tax on income from an extra hour of work, the additional income will create an incentive for people to cut back their working hours and spend more time at home. Not everyone will respond, but some people (especially second workers in a family with one full-time earner) may decide to leave the labor force to care for children or aging parents or to pursue other interests.

(Supplement to CBO’s May 9, 2002, Testimony on Federal Budget Estimating May 2002 CONGRESSIONAL BUDGET OFFICE, page 9)

We are about to receive a rebate in May this year as part of the economic stimulus that Congress passed in February. I suppose the folks at the CBO would have pointed out that although a rebate may stimulate consumer spending, it is also likely to reduce labor supply. The net impact, therefore, would not necessarily involve any increase in national output but it would certainly induce stronger inflationary pressures—adding fuel to the inflationary fire the Fed’s apparently stoking by cutting interest rates so rapidly. So it’s perhaps not surprising that the dollar’s value took a nosedive during February this year.

Higher rebate-induced debt and higher inflation implies higher future interest rates and, therefore, increased cost of financing consumer and investment spending. Rebate recipients will benefit today, but everyone will lose in the long-term as the economy becomes more sluggish.

Bottom line: Politicians gain by appearing to be doing something – and most of us lose!