November 2012

November 30, 2012 6:31PM

Fed Toys with Ratcheting Up the Credit Crunch

When the Basel I accords, mandating higher capital‐​asset ratios for banks, were introduced in 1988, they were embraced by the administration of President George H.W. Bush. With higher capital‐​asset ratios came a sharp slowdown in the money supply growth rate and—unfortunately for President George H. W. Bush and his re‐​election campaign—a mild recession from July 1990 through March 1991.

Now, we have Basel III and its higher capital‐​asset ratio requirements being imposed on banks in the middle of a weak, drawn‐​out economic recovery. This is one of the major reasons why the recovery is so anemic.

How could this be? Well, banks produce bank money, which accounts for roughly 85% of the total U.S. money supply (M4). Mandated increases in bank capital requirements result in contractions in bank money, and thus in the total money supply.

Here’s how it works:

While the higher capital‐​asset ratios that are required by Basel III are intended to strengthen banks (and economies), these higher capital requirements destroy money. Under the Basel III regime, banks will have to increase their capital‐​asset ratios. They can do this by either boosting capital or shrinking assets. If banks shrink their assets, their deposit liabilities will decline. In consequence, money balances will be destroyed.

So, paradoxically, the drive to deleverage banks and shrink their balance sheets, in the name of making banks safer, destroys money balances. This, in turn, dents company liquidity and asset prices. It also reduces spending relative to where it would have been without higher capital‐​asset ratios.

The other way to increase a bank’s capital‐​asset ratio is by raising new capital. This, too, destroys money. When an investor purchases newly‐​issued bank equity, the investor exchanges funds from a bank account for new shares. This reduces deposit liabilities in the banking system and wipes out money.

We now learn that the Fed, using the cover of the Dodd‐​Frank legislation, is toying with the idea of forcing foreign banks that operate in the United States to hold billions of dollars of additional capital (read: increase their capital‐​asset ratios).

This will make the credit crunch “crunchier” and throw the U.S. economy into an even more vulnerable position. The last thing the Fed should be doing is squeezing the banks and tightening the screws on the production of bank money.

November 30, 2012 5:46PM

NSA’s Marching Orders to Congress: Deceive the Public, Praise NSA Effusively

Blogger Mike Masnick recently came across a series of talking points that the National Security Agency provided its putative "overseers" on the congressional intelligence committees back when it first became known that President George W. Bush had authorized an unlawful warrantless surveillance program.  (These talking points have apparently been publicly available for some time, but have escaped attention.)

Some pieces of NSA's script for its legislative vassals are merely humorous. For instance:

I have personally met the dedicated men and women of the NSA. The country owes them an enormous debt of gratitude for their superb efforts to keep us all secure.

One perk of this sort of ventriloquism, I suppose, is that you can dispense entirely with modesty when heaping praise on yourself.

Other points on the list, however, appear to be outright falsehoods.  For instance:

I can say that the Program must continue. It has detected terrorist plots that could have resulted in death or injury to Americans both at home and abroad.

As best we can tell from the unclassified version of the Inspectors General's Report on the President's Surveillance Program, this is not true.  Rather, while it appears to have had some value, the program "generally played a limited role in the FBI's overall counterterrorism effort," and "was rarely the sole basis for an intelligence success." On the whole, it "was not of greater value than other sources of intelligence," and "most [intelligence] officials had difficulty citing specific instances where [the program] had directly contributed to counterterrorism successes." The classified version of the report apparently discusses several cases in which the warrantless surveillance program "may have contributed" to counterterrorism efforts, but it certainly doesn't sound like they found clear-cut cases where it was the key to foiling an attack. The New York Times had reported as much back in 2006:

The law enforcement and counterterrorism officials said the program had uncovered no active Qaeda networks inside the United States planning attacks. "There were no imminent plots---not inside the United States," the former F.B.I. official said.

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November 30, 2012 5:26PM

Does HHS Have the Authority to Tax Health Premiums in Federal Exchanges?

Remember how an adviser to the federal Department of Health and Human Services said the department would have to “get creative” on funding federal health insurance exchanges, because states were refusing to create their own and ObamaCare provides no source of funding for federal exchanges? Well, HHS released its very creative response in a Friday news dump today, and the answer is "user fees" of 3.5 percent on all health insurance plans sold through federal exchanges.

But is that a little too creative? Does HHS have the authority to tax health premiums in its exchanges? Here's what the department's proposed regulation says:

Federally-facilitated Exchange user fees: Section 1311(d)(5)(A) of the Affordable Care Act contemplates an Exchange charging assessments or user fees to participating issuers to generate funding to support its operations. As the operator of a Federally-facilitated Exchange, HHS has the authority, under this section of the statute, to collect and spend such user fees. In addition, 31 U.S.C. 9701 provides for an agency to establish a charge for a service provided by the agency. Office of Management and Budget Circular A-25 Revised (“Circular A-25R”) establishes Federal policy regarding user fees and specifies that a user charge will be assessed against each identifiable recipient for special benefits derived from Federal activities beyond those received by the general public. In this proposed rule, we establish a user fee for issuers participating in a Federally-facilitated Exchange.

I don’t know anything about 31 U.S.C. 9701 or Circular A-25R. But here’s the Section 1311(d)(5)(A) language upon which they rely:

NO FEDERAL FUNDS FOR CONTINUED OPERATIONS.—In establishing an Exchange under this section, the State shall ensure that such Exchange is self-sustaining beginning on January 1, 2015, including allowing the Exchange to charge assessments or user fees to participating health insurance issuers, or to otherwise generate funding, to support its operations.

A few thoughts:

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November 30, 2012 5:19PM

Milton Friedman on Marijuana

Tomorrow, Mexico’s president-elect, Enrique Peña Nieto, takes office. In the six years of current President Felipe Calderon’s administration, the disastrous results of its war on drugs have dramatically changed the debate so as to include serious discussion of ending drug prohibition. Calderon has recently called on the United States to explore market alternatives to the drug war, and three days ago Peña Nieto said, “I am in favor of a hemispheric debate on the effectiveness of the drug-war route we’ve been on.”

Times have certainly changed since Milton Friedman visited Mexico in May 1992 to speak at a Cato Institute conference during which he argued in favor of drug legalization. The cartoon below (which appeared in El Economista, May 22, 1992) typified the consensus Mexican reaction:

Translation: “Let’s legalize drugs and once we’re really stoned, let’s privatize the state-owned electricity monopoly, Pemex (the state-oil monopoly), the government palace, the pyramids, the presidential residence…”

Reality has a way of sobering people’s minds, and Friedman’s view is no longer ridiculed in Mexico or in the rest of Latin America. (I predict Mexico will also head toward energy privatization sooner or later.)

November 30, 2012 5:01PM

The White House Does a Gary Bettman

If you’re a hockey fan, you’re probably pretty irritated that the National Hockey League’s owners and players still haven’t reached a deal on a new collective bargaining agreement, and thus the 2012–2013 season remains in limbo. You also probably know that negotiations got off to a rough start after the owners, who are presumed to have the upper hand, made a rather insulting initial offer to the players.

Well, the Obama administration must’ve stolen a page from the NHL owners’ negotiating playbook. Yesterday, Treasury Secretary Tim Geithner—playing the role of NHL Commissioner Gary Bettman—delivered to congressional Republicans the president’s opening proposal to avert the so‐​called “fiscal cliff.” The proposal’s reported contents were too extreme for the GOP, and they should insult anyone who gives a fig about the federal government’s unsustainable budgetary path.

Here are the details as reported by the Wall Street Journal:

  • $1.6 trillion (over 10 years) in tax increases by raising rates on the wealthy and limiting their deductions.
  • $50 billion in new federal spending on infrastructure projects in fiscal 2013. Yep, more “stimulus.”
  • A measly $400 billion (over 10 years) from alleged savings from entitlement programs, and no structural changes.
  • Authority for the president to unilaterally raise the debt ceiling.
  • The scheduled sequestration spending cuts would be postponed for a year.
  • Another extension of unemployment benefits (because, I guess paying people not to work creates economic growth).

In case there was any doubt remaining, this administration has zero intention of trying to get the federal government’s finances in order. Zero. The only good news is that the president’s extreme opening proposal is going nowhere, which the administration apparently expected.

The polls show that Republicans will get most of the blame if Washington goes over the fiscal cliff. If that does happen—and I still don’t think it will—the president will be the guiltier party for having passed up a chance to be a genuine leader (as the pundits like to say), in exchange for scoring some political points with his base.

November 30, 2012 4:02PM

Why the United States Might Never Leave Afghanistan

In autumn 2001, America’s initial purpose in Afghanistan—which made perfect sense—was to destroy or incapacitate al Qaeda and punish the Taliban government that hosted it. This was accomplished 11 years ago. Today, the purpose of the U.S. mission is ill‐​defined, but clearly involves nation building. What the coalition desperately needs is an achievable, realistic endgame, not an indefinite timeline that commits thousands of U.S. troops to Afghanistan until or beyond 2024.

A common argument is that America and its allies must create an effective Afghan state that can rule the country and prevent the return of the Taliban and, by extension, al Qaeda. Aside from the fact that al Qaeda can exist anywhere, from Hamburg to Los Angeles, it’s not at all clear that the coalition can either eradicate the Taliban or come close to creating an effective Afghan state.

As a Department of Defense Report declared earlier this year, “The Taliban‐​led insurgency remains adaptive and determined with a significant regenerative capacity, and retains the capability to emplace substantial numbers of [improvised explosive devices] and conduct isolated high‐​profile attacks that disproportionately field a sense of insecurity.”

Arguments that the coalition must eradicate the Taliban lose sight of what the term “insurgency” actually means. Guerillas typically fight when the opportunity is ripe. They can melt easily into a population, making it difficult for conventional troops to distinguish friend from foe. Combined with the Afghan insurgency’s ability to retreat to sanctuaries in Pakistan, coalition gains can be quickly undone by such systemic factors that make insurgents resilient. Additionally, reporters Dexter Filkins and Kelly Vlahos provide excellent analyses that draw out the ethnic divisions and political factionalism posed by Afghan warlords, many of whom are regrouping and could potentially touch off a civil war in the years ahead.

As for the common contention that America must stay until Afghans can police and govern themselves, the current state of Afghan institutions ensure that it would take a decade or more before coalition forces could withdraw, with little promise of success.

detailed report released last year by the Commission on Wartime Contracting found that the U.S. government contracted for dozens of clinics, barracks, hospitals, and other facilities that exceed Afghan funding capabilities. For instance, the $82 million Afghan Defense University will cost $40 million a year to operate, which is well beyond the Afghan government’s financial capacity to sustain, according to DoD officials. Long‐​term operations, maintenance, and sustainment costs for the Afghan National Security Forces could continue through 2025. Similar findings were uncovered by auditors at the Office of the Special Inspector General for Afghanistan Reconstruction.

The expectation is that the United States will maintain a presence of some 10,000 personnel in Afghanistan after 2014, while the World Bank estimates that Afghanistan will need $3.9 billion a year through 2024 for economic development. Ironically, when foreign policy planners in Washington make clear that they never intend to abandon Afghanistan, it’s their ambition to create a centralized state that will perpetuate that country’s dependency on foreigners.