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December 26, 2004

Not a Good Sign. Not a Good Sign at All...

Michael Kinsley writes:

washingtonpost.com: If It's Right, It's Wrong: Privatization, in other words, rests on persuading Americans to accept a theory [that stocks are underpriced] that must be widely disbelieved in order to be true. It's like Tinker Bell in reverse: If too many people are convinced that the theory is right, it's wrong. And the White House is campaigning hard to convince everyone the theory is true. If the campaign succeeds, the theory fails. Where am I wrong here? Gregory Mankiw, outgoing chairman of the Council of Economic Advisers, sent me a polite e-mail saying now was not the best time "to engage in an on-the-record debate . . . on the validity of your economic theorems." He also sent excerpts from a speech on Social Security reform that may help explain why he is outgoing, because he declared, "There are no free lunches here."...

How can it be the case that now is not the best time for the Council of Economic Advisors to go on-the-record explaining the economic rationale behind George W. Bush's non-proposals? Isn't that just another way of saying that there is no credible economic rationale behind George W. Bush's non-proposals?

Posted by DeLong at December 26, 2004 10:57 AM

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Tracked on December 27, 2004 05:00 AM

Comments

Privatization, in other words, rests on persuading Americans to accept a theory [that stocks are underpriced]

You do not need inefficiency for the rate of return on one asset to be better than another - just longer horizon.

Posted by: a at December 26, 2004 11:27 AM


All right, let's all put "ceteris paribus" in every sentence from now on. The point, a, is that large numbers of people with the same time horizons -- because they are equidistant from retirement -- must accept the theory that stocks are underpriced in order for their private accounts to achieve higher returns than from bonds. And once large numbers of people of convinced of this, the price of stock will rise accordingly and stocks will no longer be underpriced.

Posted by: jr at December 26, 2004 12:46 PM


Brad, does Mankiw have even a shred of self-respect left? I mean, this is a guy who's spent his time in the administration making statements directly contradicted by his own textbooks. Is there such a thing as professional responsibility that might compel him to have a serious discussion of Bush's "plan"?

Posted by: Chad at December 26, 2004 12:50 PM


Sorry, Brad. If Election 2004 did not convince you -- and everyone with a brain morans -- that reality is what those in power choose it to be, not what it is, there is no help for you.

This is truly a tough time for those in the reality-based community. The more you bring principled, credentialed, thoughtful and peer-reviewed critique to the Bush administration to bear, the more legions of gibbering four-feet-good-two-feet-bad Bush voters will rise up to vote against you and even their self-interest. The very fact that you are right and they are wrong is enough to get them to vote against you -- the elite stuffy intellectual professors that think they know better than them.

Why do you think Paul Krugman's concise, on-the-mark explanations built with nothing but short words don't have any visible effect?

Posted by: Alan at December 26, 2004 12:51 PM


I disagree with Kinsley. If there is a risk premium in equities, then there is an excess return. And for many people, the existence of that excess return might justify an increased allocation to equities if the rules governing the allocation of retirement savings were relaxed to allow it.

I think Delong is right that the social security "package" is being promoted with lies and half truths. But Kinsley's criticism is not as air tight logically as he lets on.

Separately, it is weird how quickly people joining the Bush Admin lose their integrity. I was previously under the impression that Greg Mankiw was a serious guy. But his "polite" letter to Dr. Delong seems to imply otherwise. I refuse to believe he is a liar or cheat, but I cannot figure what is going on.

Posted by: Gerard MacDonell at December 26, 2004 02:20 PM


jr: The point, a, is that large numbers of people with the same time horizons -- because they are equidistant from retirement -- must accept the theory that stocks are underpriced in order for their private accounts to achieve higher returns than from bonds.

What in the world is "underpricing"? The market prices assets based on risk/reward. Are you saying there is an asset with the same risk but higer reward? It is certainly not stocks and Treasuries. You can argue that the effect of moving a portion of Social Security into stocks will be cheaper (higher yield) Treasuries and more expensive (higher P/E) stocks. It does not mean that Treasuries are "overpriced" and stocks "underpriced" now.

Posted by: a at December 26, 2004 02:31 PM


Faith-based retirement planning: pray that you're not due to retire the week after huge numbers of people discover that stocks are wildly overvalued.

Posted by: Brian Boru at December 26, 2004 02:59 PM


Government subsidization of the Stock Market, what took them so long?

Posted by: Ken Melvin at December 26, 2004 03:04 PM


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7. CHRISTIANITY

I believe that the ideas expressed in these 30 second recordings will resonate with anyone who values fair play and good government. And to repeat, they are available to anyone. My one condition for use is that any spot must be played in its entirety, other than that; I offer them for public use.

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We are in a war of ideas, and fair play is a potent idea.

Please forward this message,
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Posted by: Robert Millman at December 26, 2004 04:09 PM


I think some clarification is necessary. Correct me if I am wrong, but Brad has said there are definitely some merits to partial privatization of the system. So it's not as if Bush is wrong on the surface about what he wants to do. Assuming he wants to improve what he feels are problems with the system and not actually destroy it, he's not wrong to propose it. What's irrational and not even remotely credible is the claim that now is not the time for an on-the-record debate. It's as if Bush and the rest of the Republicans aren't in the mood to actually make a decision that might offend some part of the electorate that might vote for them, as hard as that may seem.

What's even more appalling is the series of mixed signals we are getting about what ideas have been tossed around. Do they have a plan, or don't they? Didn't Bush say a week or two ago that they had no firm plans? If that's the case, then why did he campaign as if he did?

Posted by: Brian at December 26, 2004 04:39 PM


Kinsley is being too smart by halves. Not that I disagree, my long term motto (since 1997) has been: "If Privatization is Necessary it Won't be Possible, if Privatization is Possible it Wont' be Necessary", which would seem to jibe with Kinsley's "Privatization is only Possible if we can Reconcile the Current P/E for Stocks with a Plan to Invest Social Security Funds in Equities given Current Rates of Economic Performance and Their Effects on that Stock Price over the Long Run".

But mine is simpler. We don't need elaborate models, we just need one to one comparisons about predicted productivity vs reported productivity. The Intermediate Cost Alternative predicted 2.7% for 2004, the Low Cost predicted 2.8%, the economy returned 4.0%. We (or you guys how actually know numbers, which may or may not include Mike Kinsley) can calculate the exact impacts this has on the shortfall and exhaustion dates of the Trust Fund. But based on past performance on the models in past years in similar instances it is going to be big. The date will be pushed back. And given Bush Administration predictions of 3.5% in 2005 (compared with 2.1% (Low Cost) and 1.8% (accepted model Intermediate Cost) we can suspect the cumulative effect will be quite large indeed.

It seems to me that the last thing we need is a debate on P/E here. We have a simpler measure, one that can be understood by non-experts and to this non-expert's knowledge has nothing to be said against it: if US productivity exceeds the predictions of the Intermediate Cost Alternative, the date of Trust Fund exhaustion gets pushed back. If US productivity exceeds the predictions of the Low Cost Alternative, the Trust Fund never goes negative.

Because when you boil it right down to it the issue is not whether investing in stocks with associated administrative costs will give you a better return than an investments in Treasuries with essentially zero costs, but whether we need to embark on this course at all to guarantee future benefits. Because the political calculus totally changes once you remove "crisis" from the equation.

Is it in "crisis"? Give me a first-order answer and then we can embrace second-order questions.

Posted by: Bruce Webb at December 26, 2004 04:40 PM


Come on, what Kinsley is saying is not rocket science.

What I imagine will happen is pretty much what happened in the 80's and especially the 90's. Let's recall that story: a wave of 401k money flooded into the market, driven by people who's sole knowledge of finance was a half hour seminar that told them that historically stocks have done better than bonds. And, no surprise, stock prices rose to unrealistic heights, until a (very mild) dose of reality set in.

It is obvious that stocks in the US are still overpriced. It is also obvious that what maintains that price is the (quite realistic) hope that another vast round of suckers is about to enter the market, courtesy of GWB.
What is interesting, of course, is what happens five or ten years from now when the game of pass-the-parcel stops and it is quite clear that there are no suckers left, and that there's no mechanism left for manufacturing new ones.

Posted by: Maynard Handley at December 26, 2004 05:09 PM



The issue isn't that Kinsley misses that investing in the long run mitigates the short run risk -- it is that a very famous economist who has had an outstanding career has fallen so low that he is incapable of telling Kinsley this simple issue without the permission of his handlers.

Posted by: cb at December 26, 2004 05:43 PM


I believe the market is overvalued. Look at dividend yields, P/E ratios, and Tobin’s Q. I think we will be lucky to see average nominal return, of even 5% over the next 20 years. I’m sorry I didn’t buy a lot TIPS a few years ago when they were reasonable. I’m afraid that a lot of people are not going to be able to retire even in their early 60’s. Investors who lived through the 1970s will appreciate might happen over the next 20 years.

Posted by: A. Zarkov at December 26, 2004 05:56 PM


In addition to committing themselves to the defense and preservation of social security, why don't Democrats also propose a separate "universal IRA" program in which *all* workers would have the option of setting aside a portion of their income every year in savings and investment accounts beginning with the filing of their first W2 or tax return? While there is no social security crisis (yet), there is very clearly a savings crisis in this country, and as it stands a majority of those who take advantage of IRAs (not to mention 401ks) are white, and college educated, which is to say that there is a de facto class impediment to these things. A universal program of savings and investment accounts, combined with traditional social security, would help to ensure that a majority of Americans would have a good shot at a reasonably comfortable retirement, and would likely be a political winner for Democrats. Unless your aim is to destroy capitalism, a program that brought most Americans into the investment fold, while not being a stalking horse for the destruction of social security, seems like an obviously good idea to me.

Posted by: Scoop Democrat at December 26, 2004 08:17 PM


"What is interesting, of course, is what happens five or ten years from now when the game of pass-the-parcel stops and it is quite clear that there are no suckers left, and that there's no mechanism left for manufacturing new ones."

To that extent, boomers had best perhaps hope there *is* privatization, because as it stands about half of the nearly 80 million boomers are invested in the stock market, and the generation that succeeds them (generation x) is much smaller (at 30-some million.) Many boomers will likely work past the "traditional" age of retirement, and wait perhaps as long as possible before cashing in their portfolios, but without privatization the pool of likely gen x investors is probably not going to be large enough to hold up valuations. Being an xer myself, I have every intention of waiting on the sidelines for the most part until probably well into the 2010s (perhaps even the 2020s), and the total collapse of equities is finished, before I fully get back in. Sorry all you boomers. Ya shoulda had more kids back in the late 60s and 70s.

Posted by: Kenneth at December 26, 2004 08:58 PM


I'm not sure the recipient or Brad has picked up on the chilling undertone of this message:

"I have been in the belly of the Beast itself. A new age of Crony Aristocracy is dawning. As we have passed the point where it can be turned back, I have regretfully concluded that I cannot risk the position offered me in this new social structure. Those creating this new - or in some ways very old - world take rejection very hard indeed."

Read some of the pre-Civil War letters from southern West Pointers to their northern brethern. Same tone.

This new Civil War is going to take place in the economic sphere, and the battlefield operations are naturally going to be run by economists (and pseudo-economists like Stephen Moore). Mankiw has donned the Grey, he sees Kinsley wearing Blue. Do you think Armistead would have answered an inquiry from his best friend Hancock as to Lee's strategy for the northern incursion?

Posted by: a different chris at December 27, 2004 08:04 AM


All of this talk of market economics as it relates to the social security system is nice, but I don't see anywhere any mention of how the market is already massaged and manipulated through the laundering of massive amounts of drug profits through brokerage houses and their private accounts sections. Surely money funneled in here through the NYSE by the Colombian FARC cannot in any way be considered clean or legitimate.

What would happen to the system if this illegal money was removed? It's fine to talk about ceteris paribus qualifiers before all our remarks, but a little reality concerning what's really keeping this falsely inflated market afloat would go a long way to setting things straight in this country.

How about some talk about the Plunge Protection Team set up by Greenspan after the 1987 debacle? Anyone ever wonder how the market stages its miraculous comebacks for no rational reason?

Maybe reality based discussions should enter the realm of how much longer can we allow this charade to continue before we try having any serious discussions of how best to maintain the social security system for future retirees.

Posted by: Matt at December 28, 2004 06:06 PM


"What I imagine will happen is pretty much what happened in the 80's and especially the 90's. Let's recall that story: a wave of 401k money flooded into the market..."

#1: The wave of 401k money flooding into the market was a unique situation where the bubble of the baby boomers had the cash to put into the market and as women increasingly entered the workforce more money was available. This was our growth period and vastly different from today's and the futures picture.

#2: What needs to be considered that has not been mentioned much as yet is that the baby boomers will be removing money from the market that they have saved over their lifetimes (and move it to bonds or alternative "safe" yielding investments). If this occurs without money coming in in some fashion, we will be overwhelmed with selling during the next 20 years. I believe, at least in part, this plan is designed to level the selling that will develop. In short, the younger generation doesn't save...baby boomers retire...market goes "bust". But how this plays out is anyone's guess depending on the overlap and the "phase in" approach. In a perfect world, I believe the best that can be expected is a flat market.

Posted by: Mike at December 28, 2004 08:57 PM


"What I imagine will happen is pretty much what happened in the 80's and especially the 90's. Let's recall that story: a wave of 401k money flooded into the market..."

#1: The wave of 401k money flooding into the market was a unique situation where the bubble of the baby boomers had the cash to put into the market and as women increasingly entered the workforce more money was available. This was our growth period and vastly different from today's and the futures picture.

#2: What needs to be considered that has not been mentioned much as yet is that the baby boomers will be removing money from the market that they have saved over their lifetimes (and move it to bonds or alternative "safe" yielding investments). If this occurs without money coming in in some fashion, we will be overwhelmed with selling during the next 20 years. I believe, at least in part, this plan is designed to level the selling that will develop. In short, the younger generation doesn't save...baby boomers retire...market goes "bust". But how this plays out is anyone's guess depending on the overlap and the "phase in" approach. In a perfect world, I believe the best that can be expected is a flat market.

Mike

Posted by: Mike at December 28, 2004 09:00 PM


Mike, your hypothesis has real explanatory value. It's scary but it could be true: Bush is making a pre-emptive strike against a future market crash. Paid for by our payroll taxes, as usual.

Posted by: Nancy Irving at December 31, 2004 01:33 AM