DRI-172 for week of 7-5-15: How and Why Did ObamaCare Become SCOTUSCare?

An Access Advertising EconBrief:

How and Why Did ObamaCare Become SCOTUSCare?

On June 25, 2015, the Supreme Court of the United States delivered its most consequential opinion in recent years in King v. Burwell. King was David King, one of various Plaintiffs opposing Sylvia Burwell, Secretary of Health, Education and Welfare. The case might more colloquially be called “ObamaCare II,” since it dealt with the second major attempt to overturn the Obama administration’s signature legislative achievement.

The Obama administration has been bragging about its success in attracting signups for the program. Not surprisingly, it fails to mention two facts that make this apparent victory Pyrrhic. First, most of the signups are people who lost their previous health insurance due to the law’s provisions, not people who lacked insurance to begin with. Second, a large chunk of enrollees are being subsidized by the federal government in the form of a tax credit for the amount of the insurance.

The point at issue in King v. Burwell is the legality of this subsidy. The original legislation provides for health-care exchanges established by state governments, and proponents have been quick to cite these provisions to pooh-pooh the contention that the Patient Protection and Affordable Care Act (PPACA) ushered in a federally-run, socialist system of health care. The specific language used by PPAACA in Section 1401 is that the IRS can provide tax credits for insurance purchased on “exchanges run by the State.” That phrase appears 14 times in Section 1401 and each time it clearly refers to state governments, not the federal government. But in actual practice, states have found it excruciatingly difficult to establish these exchanges and many states have refused to do so. Thus, people in those states have turned to the federal-government website for health insurance and have nevertheless received a tax credit under the IRS’s interpretation of statute 1401. That interpretation has come to light in various lawsuits heard by lower courts, some of which have ruled for plaintiffs and against attempts by the IRS and the Obama administration to award the tax credits.

Without the tax credits, many people on both sides of the political spectrum agree, PPACA will crash and burn. Not enough healthy people will sign up for the insurance to subsidize those with pre-existing medical conditions for whom PPACA is the only source of external funding for medical treatment.

To a figurative roll of drums, the Supreme Court of the United States (SCOTUS) released its opinion on June 25, 2015. It upheld the legality of the IRS interpretation in a 6-3 decision, finding for the government and the Obama administration for the second time. And for the second time, the opinion for the majority was written by Chief Justice John Roberts.

Roberts’ Rules of Constitutional Disorder

Given that Justice Roberts had previously written the opinion upholding the constitutionality of the law, his vote here cannot be considered a complete shock. As before, the shock was in the reasoning he used to reach his conclusion. In the first case (National Federation of Independent Businesses v. Sebelius, 2012), Roberts interpreted a key provision of the law in a way that its supporters had categorically and angrily rejected during the legislative debate prior to enactment and subsequently. He referred to the “individual mandate” that uninsured citizens must purchase health insurance as a tax. This rescued it from the otherwise untenable status of a coercive consumer directive – something not allowed under the Constitution.

Now Justice Roberts addressed the meaning of the phrase “established by the State.” He did not agree with one interpretation previously made by the government’s Solicitor General, that the term was an undefined term of art. He disdained to apply a precedent established by the Court in a previous case involving interpretation of law by administration agencies, the Chevron case. The precedent said that in cases where a phrase was ambiguous, a reasonable interpretation by the agency charged with administering the law would rule. In this case, though, Roberts claimed that since “the IRS…has no expertise in crafting health-insurance policy of this sort,” Congress could not possibly have intended to grant the agency this kind of discretion.

No, Roberts is prepared to believe that “established by the State” does not mean “established by the federal government,” all right. But he says that the Supreme Court cannot interpret the law this way because it will cause the law to fail to achieve its intended purpose. So, the Court must treat the wording as ambiguous and interpret it in such a way as to advance the goals intended by Congress and the administration. Hence, his decision for defendant and against plaintiffs.

In other words, he rejected the ability of the IRS to interpret the meaning of the phrase “established by the State” because of that agency’s lack of health-care-policy expertise, but is sufficiently confident of his own expertise in that area to interpret its meaning himself; it is his assessment of the market consequences that drives his decision to uphold the tax credits.

Roberts’ opinion prompted one of the most scathing, incredulous dissents in the history of the Court, by Justice Antonin Scalia. “This case requires us to decide whether someone who buys insurance on an exchange established by the Secretary gets tax credits,” begins Scalia. “You would think the answer would be obvious – so obvious that there would hardly be a need for the Supreme Court to hear a case about it… Under all the usual rules of interpretation… the government should lose this case. But normal rules of interpretation seem always to yield to the overriding principle of the present Court – the Affordable Care Act must be saved.”

The reader can sense Scalia’s mounting indignation and disbelief. “The Court interprets [Section 1401] to award tax credits on both federal and state exchanges. It accepts that the most natural sense of the phrase ‘an exchange established by the State’ is an exchange established by a state. (Understatement, thy name is an opinion on the Affordable Care Act!) Yet the opinion continues, with no semblance of shame, that ‘it is also possible that the phrase refers to all exchanges.’ (Impossible possibility, thy name is an opinion on the Affordable Care Act!)”

“Perhaps sensing the dismal failure of its efforts to show that ‘established by the State’ means ‘established by the State and the federal government,’ the Court tries to palm off the pertinent statutory phrase as ‘inartful drafting.’ The Court, however, has no free-floating power to rescue Congress from their drafting errors.” In other words, Justice Roberts has rewritten the law to suit himself.

To reinforce his conclusion, Scalia concludes with “…the Court forgets that ours is a government of laws and not of men. That means we are governed by the terms of our laws and not by the unenacted will of our lawmakers. If Congress enacted into law something different from what it intended, then it should amend to law to conform to its intent. In the meantime, Congress has no roving license …to disregard clear language on the view that … ‘Congress must have intended’ something broader.”

“Rather than rewriting the law under the pretense of interpreting it, the Court should have left it to Congress to decide what to do… [the] Court’s two cases on the law will be remembered through the years. And the cases will publish the discouraging truth that the Supreme Court favors some laws over others and is prepared to do whatever it takes to uphold and assist its favorites… We should start calling this law SCOTUSCare.”

Jonathan Adler of the much-respected and quoted law blog Volokh Conspiracy put it this way: “The umpire has decided that it’s okay to pinch-hit to ensure that the right team wins.”

And indeed, what most stands out about Roberts’ opinion is its contravention of ordinary constitutional thought. It is not the product of a mind that began at square one and worked its way methodically to a logical conclusion. The reader senses a reversal of procedure; the Chief Justice started out with a desired conclusion and worked backwards to figure out how to justify reaching it. Justice Scalia says as much in his dissent. But Scalia does not tell us why Roberts is behaving in this manner.

If we are honest with ourselves, we must admit that we do not know why Roberts is saying what he is saying. Beyond question, it is arbitrary and indefensible. Certainly it is inconsistent with his past decisions. There are various reasons why a man might do this.

One obvious motivation might be that Roberts is being blackmailed by political supporters of the PPACA, within or outside of the Obama administration. Since blackmail is not only a crime but also a distasteful allegation to make, nobody will advance it without concrete supporting evidence – not only evidence against the blackmailer but also an indication of his or her ammunition. The opposite side of the blackmail coin is bribery. Once again, nobody will allege this publicly without concrete evidence, such as letters, tapes, e-mails, bank account or bank-transfer information. These possibilities deserve mention because they lie at the head of a short list of motives for betrayal of deeply held principles.

Since nobody has come forward with evidence of malfeasance – or is likely to – suppose we disregard that category of possibility. What else could explain Roberts’ actions? (Note the plural; this is the second time he has sustained PPACA at the cost of his own integrity.)

Lord Acton Revisited

To explain John Roberts’ actions, we must develop a model of political economy. That requires a short side trip into the realm of political philosophy.

Lord Acton’s famous maxim is: “Power corrupts; absolute power corrupts absolutely.” We are used to thinking of it in the context of a dictatorship or of an individual or institution temporarily or unjustly wielding power. But it is highly applicable within the context of today’s welfare-state democracies.

All of the Western industrialized nations have evolved into what F. A. Hayek called “absolute democracies.” They are democratic because popular vote determines the composition of representative governments. But they are absolute in scope and degree because the administrative agencies staffing those governments are answerable to no voter. And increasingly the executive, legislative and judicial branches of the governments wield powers that are virtually unlimited. In practical effect, voters vote on which party will wield nominal executive control over the agencies and dominate the legislature. Instead of a single dictator, voters elect a government body with revolving and rotating dictatorial powers.

As the power of government has grown, the power at stake in elections has grown commensurately. This explains the burgeoning amounts of money spent on elections. It also explains the growing rancor between opposing parties, since ordinary citizens perceive the loss of electoral dominance to be subjugation akin to living under a dictatorship. But instead of viewing this phenomenon from the perspective of John Q. Public, view it from within the brain of a policymaker or decisionmaker.

For example, suppose you are a completely fictional Chairman of a completely hypothetical Federal Reserve Board. We will call you “Bernanke.” During a long period of absurdly low interest rates, a huge speculative boom has produced unprecedented levels of real-estate investment by banks and near-banks. After stoutly insisting for years on the benign nature of this activity, you suddenly perceive the likelihood that this speculative boom will go bust and some indeterminate number of these financial institutions will become insolvent. What do you do? 

Actually, the question is really more “What do you say?” The actions of the Federal Reserve in regulating banks, including those threatened with or undergoing insolvency, are theoretically set down on paper, not conjured up extemporaneously by the Fed Chairman every time a crisis looms. These days, though, the duties of a Fed Chairman involve verbal reassurance and massage as much as policy implementation. Placing those duties in their proper light requires that our side trip be interrupted with a historical flashback.

Let us cast our minds back to 1929 and the onset of the Great Depression in the United States. At that time, virtually nobody foresaw the coming of the Depression – nobody in authority, that is. For many decades afterwards, the conventional narrative was that President Herbert Hoover adopted a laissez faire economic policy, stubbornly waiting for the economy to recover rather than quickly ramping up government spending in response to the collapse of the private sector. Hoover’s name became synonymous with government passivity in the face of adversity. Makeshift shanties and villages of the homeless and dispossessed became known as “Hoovervilles.”

It took many years to dispel this myth. The first truthteller was economist Murray Rothbard in his 1962 book America’s Great Depression, who pointed out that Hoover had spent his entire term in a frenzy of activism. Far from remaining a pillar of fiscal rectitude, Hoover had presided over federal deficit spending so large that his successor, Democrat Franklin Delano Roosevelt, campaigned on a platform of balancing the federal-government budget. Hoover sternly warned corporate executives not to lower wages and officially adopted an official stance in favor of inflation.

Professional economists ignored Rothbard’s book in droves, as did reviewers throughout the mass media. Apparently the fact that Hoover’s policies failed to achieve their intended effects persuaded everybody that he couldn’t have actually followed the policies he did – since his actual policies were the very policies recommended by mainstream economists to counteract the effects of recession and Depression and were largely indistinguishable in kind, if not in degree, from those followed later by Roosevelt.

The anathematization of Herbert Hoover drover Hoover himself to distraction. The former President lived another thirty years, to age ninety, stoutly maintaining his innocence of the crime of insensitivity to the misery of the poor and unemployed. Prior to his presidency, Hoover had built reputation as one of the great humanitarians of the 20th century by deploying his engineering and organizational skills in the cause of disaster relief across the globe. The trashing of his reputation as President is one of history’s towering ironies. As it happened, his economic policies were disastrous, but not because he didn’t care about the people. His failure was ignorance of economics – the same sin committed by his critics.

Worse than the effects of his policies, though, was the effect his demonization has had on subsequent policymakers. We do not remember the name of the captain of the California, the ship that lay anchored within sight of the Titanic but failed to answer distress calls and go to the rescue. But the name of Hoover is still synonymous with inaction and defeat. In politics, the unforgivable sin became not to act in the face of any crisis, regardless of the consequences.

Today, unlike in Hoover’s day, the Chairman of the Federal Reserve Board is the quarterback of economic policy. This is so despite the Fed’s ambiguous status as a quasi-government body, owned by its member banks with a leader appointed by the President. Returning to our hypothetical, we ponder the dilemma faced by the Chairman, “Bernanke.”

Bernanke only directly controls monetary policy and bank regulation. But he receives information about every aspect of the U.S. economy in order to formulate Fed policy. The Fed also issues forecasts and recommendations for fiscal and regulatory policies. Even though the Federal Reserve is nominally independent of politics and from the Treasury department of the federal government, the Fed’s policies affect and are affected by government policies.

It might be tempting to assume that Fed Chairmen know what is going to happen in the economic future. But there is no reason to believe that is true. All we need do is examine their past statements to disabuse ourselves of that notion. Perhaps the popping of the speculative bubble that Bernanke now anticipates will produce an economic recession. Perhaps it will even topple the U.S. banking system like a row of dominoes and produce another Great Depression, a la 1929. But we cannot assume that either. The fact that we had one (1) Great Depression is no guarantee that we will have another one. After all, we have had 36 other recessions that did not turn into Great Depressions. There is nothing like a general consensus on what caused the Depression of the 1920s and 30s. (The reader is invited to peruse the many volumes written by historians, economic and non-, on the subject.) About the only point of agreement among commentators is that a large number of things went wrong more or less simultaneously and all of them contributed in varying degrees to the magnitude of the Depression.

Of course, a good case might be made that it doesn’t matter whether Fed Chairman can foresee a coming Great Depression or not. Until recently, one of the few things that united contemporary commentators was their conviction that another Great Depression was impossible. The safeguards put in place in response to the first one had foreclosed that possibility. First, “automatic stabilizers” would cause government spending to rise in response to any downturn in private-sector spending, thereby heading off any cumulative downward movement in investment and consumption in response to failures in the banking sector. Second, the Federal Reserve could and would act quickly in response to bank failures to prevent the resulting reverse-multiplier effect on the money supply, thereby heading off that threat at the pass. Third, bank regulations were modified and tightened to prevent failures from occurring or restrict them to isolated cases.

Yet despite everything written above, we can predict confidently that our fictional “Bernanke” would respond to a hypothetical crisis exactly as the real Ben Bernanke did respond to the crisis he faced and later described in the book he wrote about it. The actual and predicted responses are the same: Scare the daylights out of the public by predicting an imminent Depression of cataclysmic proportions and calling for massive government spending and regulation to counteract it. Of course, the real-life Bernanke claimed that he and Treasury Secretary Henry O’Neill correctly foresaw the economic future and were heroically calling for preventive measures before it was too late. But the logic we have carefully developed suggests otherwise.

Nobody – not Federal Reserve Chairmen or Treasury Secretaries or California psychics – can foresee Great Depressions. Predicting a recession is only possible if the cyclical process underlying it is correctly understood, and there is no generally accepted theory of the business cycle. No, Bernanke and O’Neill were not protecting America with their warning; they were protecting themselves. They didn’t know that a Great Depression was in the works – but they did know that they would be blamed for anything bad that did happen to the economy. Their only way of insuring against that outcome – of buying insurance against the loss of their jobs, their professional reputations and the possibility of historical “Hooverization” – was to scream for the biggest possible government action as soon as possible. 

Ben Bernanke had been blasé about the effects of ultra-low interest rates; he had pooh-poohed the possibility that the housing boom was a bubble that would burst like a sonic boom with reverberations that would flatten the economy. Suddenly he was confronted with a possibility that threatened to make him look like a fool. Was he icy cool, detached, above all personal considerations? Thinking only about banking regulations, national-income multipliers and the money supply? Or was he thinking the same thought that would occur to any normal human being in his place: “Oh, my God, my name will go down in history as the Herbert Hoover of Fed chairmen”?

Since the reasoning he claims as his inspiration is so obviously bogus, it is logical to classify his motives as personal rather than professional. He was protecting himself, not saving the country. And that brings us to the case of Chief Justice John Roberts.

Chief Justice John Roberts: Selfless, Self-Interested or Self-Preservationist?

For centuries, economists have identified self-interest as the driving force behind human behavior. This has exasperated and even angered outside observers, who have mistaken self-interest for greed or money-obsession. It is neither. Rather, it merely recognizes that the structure of the human mind gives each of us a comparative advantage in the promotion of our own welfare above that of others. Because I know more about me than you do, I can make myself happier than you can; because you know more about you than I do, you can make yourself happier than I can. And by cooperating to share our knowledge with each other, we can make each other happier through trade than we could be if we acted in isolation – but that cooperation must preserve the principle of self-interest in order to operate efficiently.

Strangely, economists long assumed that the same people who function well under the guidance of self-interest throw that principle to the winds when they take up the mantle of government. Government officials and representatives, according to traditional economics textbooks, become selfless instead of self-interested when they take office. Selflessness demands that they put the public welfare ahead of any personal considerations. And just what is the “public welfare,” exactly? Textbooks avoided grappling with this murky question by hiding behind notions like a “social welfare function” or a “community indifference curve.” These are examples of what the late F. A. Hayek called “the pretense of knowledge.”

Beginning in the 1950s, the “public choice” school of economics and political science was founded by James Buchanan and Gordon Tullock. This school of thought treated people in government just like people outside of government. It assumed that politicians, government bureaucrats and agency employees were trying to maximize their utility and operating under the principle of self-interest. Because the incentives they faced were radically different than those faced by those in the private sector, outcomes within government differed radically from those outside of government – usually for the worse.

If we apply this reasoning to members of the Supreme Court, we are confronted by a special kind of self-interest exercised by people in a unique position of power and authority. Members of the Court have climbed their career ladder to the top; in law, there are no higher rungs. This has special economic significance.

When economists speak of “competition” among input-suppliers, we normally speak of people competing with others doing the same job for promotion, raises and advancement. None of these are possible in this context. What about more elevated kinds of recognition? Well, there is certainly scope for that, but only for the best of the best. On the current court, positive recognition goes to those who write notable opinions. Only Judge Scalia has the special talent necessary to stand out as a legal scholar for the ages. In this sense, Judge Scalia is “competing” with other judges in a self-interested way when he writes his decisions, but he is not competing with his fellow judges. He is competing with the great judges of history – John Marshall, Oliver Wendell Holmes, Louis Brandeis, and Learned Hand – against whom his work is measured. Otherwise, a judge can stand out from the herd by providing the deciding or “swing” vote in close decisions. In other words, he can become politically popular or unpopular with groups that agree or disagree with his vote. Usually, that results in transitory notoriety.

But in historic cases, there is the possibility that it might lead to “Hooverization.”

The bigger government gets, the more power it wields. More government power leads to more disagreement about its role, which leads to more demand to arbitration by the Supreme Court. This puts the Court in the position of deciding the legality of enactments that claim to do great things for people while putting their freedoms and livelihoods in jeopardy. Any judge who casts a deciding vote against such a measure will go down in history as “the man who shot down” the Great Bailout/the Great Health Care/the Great Stimulus/the Great Reproductive Choice, ad infinitum.

Almost all Supreme Court justices have little to gain but a lot to lose from opposing a measure that promotes government power. They have little to gain because they cannot advance further or make more money and they do not compete with J. Marshall, Holmes, Brandeis or Hand. They have a lot to lose because they fear being anathematized by history, snubbed by colleagues, picketed or assassinated in the present day, and seeing their children brutalized by classmates or the news media. True, they might get satisfaction from adhering to the Constitution and their personal conception of justice – if they are sheltered under the umbrella of another justice’s opinion or they can fly under the radar of media scrutiny in a relatively low-profile case.

Let us attach a name to the status occupied by most Supreme Court justices and to the spirit that animates them. It is neither self-interest nor selflessness in their purest forms; we shall call it self-preservation. They want to preserve the exalted status they enjoy and they are not willing to risk it; they are willing to obey the Constitution, observe the law and speak the truth but only if and when they can preserve their position by doing so. When they are threatened, their principles and convictions suddenly go out the window and they will say and do whatever it takes to preserve what they perceive as their “self.” That “self” is the collection of real income, perks, immunities and prestige that go with the status of Supreme Court Justice.

Supreme Court Justice John Roberts is an example of the model of self-preservation. In both of the ObamaCare decisions, his opinions for the majority completely abdicated his previous conservative positions. They plumbed new depths of logical absurdity – legal absurdity in the first decision and semantic absurdity in the second one. Yet one day after the release of King v. Burwell, Justice Roberts dissented in the Obergefell case by chiding the majority for “converting personal preferences into constitutional law” and disregarding clear meaning of language in the laws being considered. In other words, he condemned precisely those sins he had himself committed the previous day in his majority opinion in King v. Burwell.

For decades, conservatives have watched in amazement, scratching their heads and wracking their brains as ostensibly conservative justices appointed by Republican presidents unexpectedly betrayed their principles when the chips were down, in high-profile cases. The economic model developed here lays out a systematic explanation for those previously inexplicable defections. David Souter, Anthony Kennedy, John Paul Stevens and Sandra Day O’Connor were the precursors to John Roberts. These were not random cases. They were the systematic workings of the self-preservationist principle in action.

DRI-177 for week of 1-11-15: ‘Je Suis Charlie?’ Not If We Use Our Brains

An Access Advertising EconBrief: 

‘Je Suis Charlie?’ Not If We Use Our Brains

The terrorist assault on the Paris satirical magazine “Charlie Hebdo” was nothing if not predictable. For over a decade, European depictions of the prophet Mohammed have met with murderous response. Earlier, in 1989, the novelist Salmon Rushdie’s Satanic Verses earned one of history’s worst reviews – a fatwa calling on every Muslim to kill its author. The book’s translator was killed in the wake of that decree. In 2004, a television film by Dutch director Theo van Gogh criticized the Islamic religion – van Gogh was killed because of it. Prior to this assault, Charlie Hebdo cartoonists had been attacked in 2011 for daring to satirize Islam.

By recent standards, the human toll of this terrorist attack was relatively modest – the 12 magazine employees and police who were killed by the raid, the four additional hostages and one policewoman who died in the aftermath and, of course, the terrorists who died in the attack or were later hunted down and killed. Compare that to the butcher’s bill of 2,000 villagers, mostly children and elderly, who died at the hands of the Boko Haram terrorists in Nigeria at about the same time. Apparently, the public visibility of a satirical literary magazine and the sacred cause of free speech invoked in its name – as if mass murder alone were not enough to provoke outrage – give Charlie Hebdo pride of place.

It seems we are fated to react emotively rather than cerebrally to these events. Hence the professions of shock and disbelief in official circles and the public resort to the finger-waving slogan “Je Suis Charlie” (I am Charlie). Displays of false bravado, after the fact, ignore the issues raised by the attack and – even more to the point – those raised by the actions that led to it. The ballyhooed rally attended by officials of numerous governments, from which a U.S. representative was conspicuously absent, will prove equally ineffectual as a counterweight to terrorism.

Is Free Speech a Free Good?

By all accounts, the issue of “Charlie Hebdo” objected to by terrorists and Muslims fundamentalists in general treated the prophet Mohammed irreverently. The attitude taken by the publishers was, and is, that religion deserves to be treated with healthy disrespect. As it happens, this has proved controversial, even after the terrorist attack.

In some quarters, not merely theological, it has been suggested that the magazine’s producers brought their fate on themselves by the coarseness and insensitivity of their actions. In turn, these suggestions have provoked indignant rebuttals that bad taste by cartoonists did not merit a death sentence. The one thread running through mainstream reaction to the attack has been that our embrace of free speech demands a defense of the magazine and its actions.

But is that true? Or, more precisely, in what sense or to what extent is it true?

The word “free” means different things in political philosophy and economics. A person is free to act in the philosophic sense if he is not subject to external constraint. A free good differs from an economic good in being costless; that is, in lacking a foregone alternative in its production or creation. “Free speech” is a political concept, not an economic one. All too often, alas, the lack of constraint on speech has been conflated with the ability to escape all adverse consequences of speech. In other words, the freedom to speak as one chooses has been confused with the power to control reactions to one’s speech.

A movie star is free to publicly disparage the foreign-policy views of her fan base, but if her free-speech exercise causes fans to shun her movies, she lacks the power to compel them. An employee is free to publicly ascribe his company’s falling net income to the CEO’s incompetence, but his right to free speech won’t secure his job thereafter.

Strictly speaking, the Charlie Hebdo attack does not raise any questions of free speech. There is no doubt of the magazine’s right – or rather, its employees’ right – to formulate and publish opinions that are uncongenial and even hateful to others. The question is: What follows from the probable reactions to the exercise of that free speech right?

In this case, it was a foregone conclusion that the offending issue would bring physical violence down upon the magazine. Indeed, employees had already been attacked after publication of previous issues. Does this mean that the magazine should not have published the offending issue?

No. But it does mean that the terrorist attack should have been treated like any other cost of doing business – factored into the decision-making of the firm. That implies that the firm should have been responsible for financing its own security against terrorist attack rather than relying on government protection. Press reports say that “light police protection” was afforded the magazine in response to previous attacks on employees and threats of future attacks. Clearly, this level of official protection was inadequate. What was needed was sufficient force to cope with terrorists trained in military methods and armed accordingly. And the security setup should have been designed to kill terrorists before they could reach the employees of the magazine.

Requiring Charlie Hebdo to pay its own security bill would have changed the terms of the decision faced by the magazine. What commentators glorify as “free speech” is really a literary product – let us call it “satirical humor” – created to serve the economic purposes of pleasing readers and attracting advertisers. Only if the potential marginal revenue from this product exceeds the marginal cost of production – which should properly include the cost of security – will the issue actually be created and published.

Does this seem improbable? It shouldn’t. The post-attack issue of Charlie Hebdo has already sold out two huge press runs totaling some five million copies, so the possibility that this kind of satire could actually be self-financing is not so unlikely after all. But whether improbable or not, these are the conditions under which it is appropriate to wave a red flag in front of bullheaded terrorists. They are economic, not moral or philosophical or political, criteria.

The Deterrent Effect

Actually, the economic arguments are not the only ones in support of this stance, even though they are decisive on their own merits. Terrorists have one thing in common with solitary mass shooters: they are undeterred by the threat of death. Both kinds of murderers are prepared to die. They are afraid only of failure. Thus, thwarting terrorists by killing them before they can strike not only spares immediate victims but also is the only potential deterrent to future terrorism.

The actual raid on Charlie Hebdo was a success from a terrorist perspective, since it achieved its tactical goals and the killers escaped the scene to claim credit for their crime. The perpetrators were eventually caught, to be sure, but that is something that terrorists accept and plan for. Each tactical success and the shocked, anguished reaction it generates wins new converts to the cause – that is what gives terrorism its name.

When the political right of free speech is exercised in the form of satiric magazine content, it becomes an economic good – and at that point it is subject to judgment on those terms. If it creates enough value to offset the costs of its production, it is a good thing. If not, it is better foregone.

Je Suis Charlie? Non

Readers of this space know that businesses are entities used by people as intermediaries; they do things for us that we cannot do for ourselves by ourselves. But they do not exist as living entities; all actions affecting and effected by businesses impact individual human beings. “Je Suis Charlie” has it backwards; the reverse is true, at least to the extent that the speaker is a consumer, employee or owner of Charlie Hebdo.

By making Charlie Hebdo’s costs of security part of its cost of doing business, we ensure that the people who pay the costs are the same ones as those who reap the benefits from its operations – specifically, from its exercise of free speech. If the money is raised from magazine sales, then consumers are paying the freight – which means in turn that the benefits they get from the satire exceed the costs of paying to protect the authors. Alternatively, maybe a financial angel considers the artistic principle worth defending with his cash – in which case, he benefits on net balance from subsidizing the firm’s security bill.

But there is no case for forcing uninvolved parties, who may be unaware of Charlie Hebdo’s existence or who may even disapprove of its activities, to pony up tax money on the firm’s behalf.

The mere fact that it is possible to poke fun at the prophet Mohammed does not make it a sacred obligation to do so, nor is every exercise of that right defensible in economic terms. If the authors have to rely on people who do not benefit from the value created by their exercise of free-speech rights to protect them from the predictable consequences of their own actions, then they are like children who make mischief, then seek the protection of their parents.

Of course, security tight enough to withstand a terrorist onslaught is expensive. But clever, incisive satire can attract a large audience and finance the fixed costs of a secure facility. Moreover, a single wealthy donor can substitute for a large subscriber base or red-hot newsstand sales. Throughout history, patrons have subsidized the cause of art straightforwardly – now we may have reached the point where the martial arts are called upon to sustain the pacific ones.

The point, then, is that free political speech is not free in the economic sense. Free political speech is an economic product that has costs and benefits, as do all other economic goods, and is judged by their comparison.

Is Protecting Charlie Hebdo a National-Defense Obligation? 

Every introductory economics textbook informs its readers that provision of national defense if properly a function of the national government. This job cannot be profitably undertaken by private business because it is a public good. Public goods fail the test of exclusion; private businesses cannot produce them because they cannot collect the money to pay the costs of production. By producing national defense for one citizen, a private firm or firms must necessarily provide it for all, thus enabling people to refuse to pay for it once it is produced and deployed. (This type of refusal is called free riding behavior.) At any rate, that is the standard argument used to justify monopolization of national defense by government.

But that argument does not apply in this case. We are not proposing to defend an entire nation against sudden, unprovoked attack. Instead, one business has placed itself in danger through its own deliberate actions and now provision must be made for its safety. There is no prospect of free riding behavior to discourage, only the matter of how best to provide the necessary security.

Private provision is efficient in the economic sense because it encourages the business, which is in the best position to gauge the benefits and costs, to indulge in the risky behavior only if the likely benefits exceed the costs of security. It is also efficient in the practical sense, since a federal government has a bad track record in combatting terrorism and is willing to provide security to individuals only in the form of witness-security type programs. (It appears that Salman Rushdie has survived for years under this type of regime.) Local police are typically willing to provide security only to witnesses in court proceedings. Thus, private security is the obvious choice not only be default but by preference.

As a useful comparison, compare this to a situation in which (say) a newspaper prints an editorial critical of (say) North Korea, who launches a missile attack on the U.S. Now the nation is under attack without provocation by a foreign government. This is a true act of war – a legitimate exercise of the national-defense function of the federal government.

Time to Re-Start the War on Terror?

A popular response to the Charlie Hebdo assault has been to call for resumption of hostilities in the War on Terror. The U.S.’s protracted military withdrawal from Iraq and Afghanistan had essentially wound that war to a close. As with every war, we are left holding the bag of accreted accumulations of federal-government power inflicted on the citizenry on the pretext of wartime necessity – visualize yourself standing shoeless in an airport check-in line. Now the clarion calls to arms are sounding once more.

It is axiomatic that every failure of government leads to a call for … more and bigger government. In no other sphere of human conduct is failure rewarded to reflexively and lavishly. Here, the Paris police failed miserably to protect the staff of Charlie Hebdo even though it was obvious to the world that an attack was on the cards. We have also learned that the French federal government dropped its surveillance of the presumed perpetrators. (The standard excuse of budget cuts is advanced.) So what do commentators demand? An escalation of the size and scope of government intervention, of course – as if government intervention itself were a given and we were arguing only about its nature and magnitude.

In the largest terrorist incident in recent human history, the 9/11 airline-crash-suicide assault on the World Trade Center towers in New York City, we have a case study in the relative effectiveness of government and the private sector. At the highest level of government, different agencies within the federal government had advance knowledge of the attacks (or their likelihood) but could not or would not coordinate their knowledge to prevent them. Once the attacks were underway, a military establishment massive enough to patrol the world, devastate the world with nuclear bombs and man a defensive cordon around the United States could nevertheless not stop three commercial airliners piloted by amateur foreigners from flying halfway across the U.S. and (1) twice crashing into two of the world’s tallest buildings in our most populous city, then (2) crashing into and damaging the military’s own Pentagon headquarters. By contrast, a few civilian passengers on the fourth hijacked airliner, who were completely unarmed, unwarned and untrained, nevertheless managed to overcome the armed hijackers and nearly gain control of the plane before their captors deliberately crashed it short of its target. This unorganized handful of private citizens succeeded where their multibillion-dollar military and security establishment failed – they prevented the tactical attainment of the hijackers’ goal, which was the destruction of the White House.

The history of terrorism relates one tactical success after another owing to the incompetence of government. Either the terrorists succeed or they are thwarted by their own incapability, but they are never stopped in their tracks by government. Yet with each success, promoters of the War on Terror raise the interventionist stakes by proposing ever more and greater government as the antidote.

Having lost the element of secrecy associated with the NSA phone-surveillance collation of phone conversations, government now recognizes the need to “use it or lose it.” The U.S. government will either have to prove both the safety and efficacy of NSA surveillance or see it go away. The national-security establishment cannot afford to let the Charlie Hebdo crisis go to waste; it must use it as the pretext for NSA surveillance.

Public commentators play a role formerly labeled that of “useful idiot” in the days of Communist infiltration of American society. They insist that we can no longer afford to pretend that the NSA is a threat to liberty and must now acknowledge its effectiveness as a terror-fighting tool. In fact, it has no demonstrated effectiveness whatever; it is merely assumed to be effective because government intervention is the knee-jerk, default response to all problems in the wish-fulfillment world of public commentary.

The word “irony” is hardly adequate to this occasion. If there was ever a time not to rely on NSA-type macro surveillance tools, the Charlie Hebdo case is it.

The Needle and the Haystack 

Consider the rationale behind the NSA program of surveillance. It is designed to determine which terrorists will act and when and where they will strike. To learn this information, the U.S. government monitors the aggregate phone traffic of the United States – not listening to individual conversations but merely checking ISP addresses against each other. A useful metaphor for this technique would be the needle in the haystack. In order to locate the rare terrorist event (the “needle”), the government sifts through billions of unrelated (non-terrorist) conversations (the “haystack”).

The absurdity of reliance on this technique in the Charlie Hebdo case is clear. We already possess the needle or, rather, two-thirds of it. Even before publication of the offending issue, it was a foregone conclusion that terrorists would strike against Charlie Hebdo, just as they intended to do against Salmon Rushdie, just as they did against Theo van Gogh and just as they already did against Charlie Hebdo for less provocative behavior in the past. True, we didn’t know who would attack, but knowing the target and its fixed location was more than enough. In any case, even if the identities of the culprits had been known in advance, it might not have been sufficient to forestall the attack. What was called for was an ironclad defense – either an impenetrable security perimeter to discourage an attack or force deadly enough to kill the terrorists before they reached Charlie Hebdo itself.

Refusal to deploy this security and relying instead on some sort of NSA-type surveillance to detect the threat is a ridiculous strategy. It is tantamount to possessing the needle, but hiding it in a field the size of a large county and then ordering an army of government bureaucrats wielding magnets to walk around the field until they got it back via magnetic attraction.

“Defending” Free Speech But Losing Freedom

Inefficiency in fighting terrorism is bad enough. But that is just one side of the false coin minted by rejuvenated terror warriors who call for vesting anti-terrorism powers in comprehensive surveillance by central governments. The citizenry must take it on faith that the government will not use its surveillance powers to acquire unauthorized information about law-abiding citizens and will not misuse any such information that it does acquire.

Readers will indignantly interject that safeguards are in place to prevent abuse of surveillance powers. The problem is that the same government that does the surveillance also administers the safeguards. In practice, this guarantees that the safeguards are not safe and do not guard. The actual experience of the NSA to date, based on documented testimony, proves that abuses have already occurred. Government is the locus classicus of the old saw that insanity is defined by the practice of making the same mistakes over and over again but expecting the outcome to be different.

Free markets incorporate learning from mistakes because the profit motive creates a positive feedback loop. No such mechanism exists for government – elections provide no definite corrective link between specific errors and electoral penalty and, in any case, the correction comes too late to be of any consistent value. An election is one single discrete event and there are hundreds or thousands of political decisions that require feedback from the public. Markets provide feedback on virtually every relevant decision and action; governments seldom do. Markets work; governments fail. At most, governments and the public communicate through the filter of the news media, which distorts the flow of information and the resulting decision process.

Thus, we are on the verge of losing freedom on the pretext of defending free speech.

DRI-266 for week of 10-13-13: Don’t Raise the Debt Limit

An Access Advertising EconBrief:

[The following was completed one day before the debt-limit deal between Congressional leaders was announced on Wednesday, October 16, 2013.]

Don’t Raise the Debt Limit

The political melodrama now unspooling in Washington, D.C. is unique because it is playing on split screen. Our point of focus is the government shutdown – or rather, the partial shutdown, since somehow we just can’t seem to get the federal government shut down no matter how hard we try. Somebody can always find an excuse to fire up the machinery of government, cut checks, get them signed and sent out for some ostensibly vital purpose.

Meanwhile, up in the corner of our field of vision, always distracting our attention even though not occupying it fully, there is the debt-limit crisis. October 17 is the deadline for Congressional approval on raising the limit on the total volume of federal-government debt, thereby clearing the way for Treasury borrowing to finance expenditures in excess of revenue collections. The party line has it that failure to increase the debt limit by that date will put the U.S. government in “default” of its financial obligations to holders of its debt. The implication is that we have to borrow more money to pay the interest on the money we have already borrowed.

And what happens if we default on our debt? Well, opinions vary. They vary from “financial disaster” to “the end of life on earth.” According to Warren Buffet, the threat of default “should be like nuclear bombs… it should never be used.” Lloyd Blankfein of Goldman Sachs declares gravely that default would be “magnitudes worse” than the current shutdown in its effects. Perhaps sensing a need for escalation, former Treasury official and current BUP Paribas SA executive Tim Bitsberger ups the ante by stating that default “…blows Lehman out of the water” in its potential effects, implying that the 2008 financial crisis would be dwarfed in comparison.

Alternative to Default: Sales of Federal-Government Assets

If we’re not to default, what are we to do? En masse, the Democrat Party wants to simply raise the debt limit enough to get by the current fiscal year. That is what Congress has been doing for decades. That is what has enabled the culture of tax-and-borrow-and-spend – a culture that has made Washington, D.C. and environs the most prosperous, recession-proof habitation in the nation. Gradually, the Republican Party has evolved into a go-along-to-get-along enabler to this culture. They have tolerated vocal dissenters among their ranks because that provides convenient cover for the tacit collusion of the majority with the Democrats.

The recent emergence of the Tea Party and current mutiny led by Sen. Rand Paul and Congressman Ted Cruz has discomfited veteran Republicans almost as much as it has their opposition. But the mood of the general public – on both the political right and the left – is so dissatisfied with the status quo that the pols are bent on preserving that they are reluctantly contemplating the need for some sort of change. At the moment, though, the problem is getting past the immediate crisis.

That is now the motif of the governing process: a calendar dotted by scheduled crises and spotted by unscheduled ones. Its momentum is best characterized as a stagger from one crisis point to the next.

On the one hand, the Establishment – consisting of most of Congress and the entire Executive branch, plus all the bureaucrats, rank and file employees, lobbyists, contractors and news media – maintains that the only option is to raise the debt limit. They say this because the increase is the only option that would keep their world intact – at least for awhile. The alternatives would shake its foundations or topple them.

The general public is largely unaware of any third option beyond increasing the debt-limit and default. That is by design. The Establishment views any option averse to the current spending culture the way a vampire views the dawn.

Yet there is such a third option. It sticks out a mile. It is the option customarily exercised by private businesses overburdened with debt.

The federal government owns a huge portfolio of assets, both liquid and non-liquid. Its total value can only be estimated, but it is only modestly less than the estimated value of privately owned U.S. assets. The most cogent approach to the immediate – debt-limit – crisis is to begin selling off those assets to fund government operations. Government assets are more than ample to support annual operations, particularly due to the sequester’s success in temporarily reducing the deficit for this fiscal year.

Every year, some private companies work their way out of trouble this way. The key is acknowledging the company is in trouble, then taking steps to dig it out of its hole, rather than doing business as usual and hoping for miracles. Today, the federal government (along with many state governments) is in trouble. Like many corporate conglomerates, it is bloated and over-extended. It needs to stick to its core businesses and sell off its conglomerate holdings to those who can preserve them and make them pay off.

Over the course of this fiscal year, branches and agencies of the federal government can concentrate on raising revenue by selling liquid and non-liquid holdings. Meanwhile, Congress can tackle the job of cutting spending – a task too time-consuming to consummate prior to October 17.

And speaking of October 17 – the date itself has very little meaning once it becomes known that the government is selling assets and revenue is assured. Creditors – even bondholders – are more than willing to wait for a payment they know is coming, as opposed to a situation when everybody knows that incoming revenue is insufficient and somebody will inevitably get stiffed. That is why the option of asset sales is a viable way of rejecting a debt-limit increase.

The last thing Republicans should do is to raise the debt limit. This is an act of surrender to the spending culture, a can-kicking capitulation to the Establishment. It is not the failure to raise the debt limit that is irresponsible; it is the act of raising it that throws responsibility to the winds.

Estimates of the Federal Government’s Assets

At various times, estimates have been made of the federal government’s financial and tangible assets, both liquid and non-liquid. Despite the fact that they were often made when annual deficits were higher than the one projected for the coming fiscal year, the estimates invariably found that assets sales could easily support annual government operations.

Using mostly Treasury and Federal Reserve data from 2011, economist Robert Murphy identified federal government liquid assets of about $1.6 trillion. In June, 2011, the Treasury reported “international reserve assets” of $144.2 billion. They consisted of gold, securities, foreign-currency deposits of euros and yen, Special Drawing Rights [an international asset provided to governments by the International Monetary Fund] and IMF reserves. (The IMF assets were developed specifically to provide liquidity in emergencies like this one.) The official valuation is distorted, since the government’s 261.5 million troy ounces of gold was valued at a par value of $42.2 per ounce rather than its then-current market value of $1500 per ounce.

We can update Murphy’s numbers with some back-of-the-envelope calculations. Adjusting the numbers using a current gold price leaves non-gold assets of approximately $133 billion and a true valuation of roughly $337 billion in gold, yielding liquid assets of $470 billion+. Subsequently, gold has declined while the yen and euro have fluctuated in value. A current estimate of $450 billion would be conservative.

The Strategic Petroleum Reserve held about 726 billion barrels of recoverable oil. At today’s price nearing $100 per barrel, that would be worth about $72 billion. But since the oil is actually buried in salt caverns, Murphy suggested a discount of 25% to reflect recovery costs and time. Tack on another $58 billion to our current liquid-asset total, then.

The federal government owns offshore oil deposits whose estimated recoverable reserves total some 59 billion barrels. Murphy estimated the royalty income in years 8-38 of recovery at about $14 billion per year. He discounted that income at 5% and came up with $164 billion, which is an estimate of what the government might receive from selling the rights to that revenue for a lump sum.

So far, we have come up with nearly $675 billion. Murphy also found some $786 billion in “credit-market instruments” in Federal Reserve documents. These include $138 billion in agency-backed and GSE-backed securities and $355 billion in student loans. This total is much larger now, since the Fed has been buying mortgage-backed securities in order to support their market prices. He also included $55 billion in corporate (TARP) equities, which have mostly since been sold back into private hands. If we assume the changes cancelled out, we can stick with Murphy’s original $786 billion.

That produces somewhat less than a trillion and a half, far above the anticipated $650 billion deficit. It is reasonable to assume that the mortgage-related securities would be sold slowly over the course of the year and the full holdings might not be depleted, so as not to depress mortgage prices unduly.

We have not yet even touched the federal government’s huge land holdings. The government owns most of the state of Nevada, for example, among its 650 million acres of land. A couple years ago, then-OMB head Peter Orszag estimated that there are some 14,000 “excess” structures and 55,000 un-utilized or under-utilized structures and buildings in the federal government’s portfolio. These could and should be sold. The government’s power-generation facilities and the electro-magnetic spectrum are other lucrative holdings that are ripe for sale and privatization.

If we were to construct a net worth statement for the federal government, the bottom line would probably astound most Americans. Financial analyst John Rutledge has occasionally attempted it and come up with government asset valuations of between $150 and $200 trillion. (He estimates the value of private U.S. assets at $230-$250 trillion.) Thus, the potential for solving our debt problem completely by selling assets is clear. Of course, this would involve various technical and logistical complications. It would unquestionably alter the fundamental character of the federal government as it exists today. But isn’t it about time to do just that?

Arguments Against Selling Federal-Government Assets

The foregoing is persuasive. But it is only natural to wonder what drawbacks might lurk under its surface. In 2010, Treasury Secretary Timothy Geithner responded to calls for asset sales by pooh-poohing the idea. Holding a “fire sale” of government assets would damage “financial markets and the economy and undermine confidence in the United States,” Geithner maintained.

Each of these contentions deserves some scrutiny. It is perfectly correct that when a company starts selling assets, it tells the world that it is in trouble and it runs the risks that this knowledge will have adverse effects. Among other things, the company may now have more trouble borrowing money and its stock price may well decline (assuming the stock trades publicly). But these are not fatal flaws, merely tradeoffs; they have to be weighed against the risks of inaction.

The drawbacks of straightforwardness do not tell nearly as heavily against a country as against a single company. A company can sometimes hide its financial condition from the public and the markets, but a country can’t. We aren’t fooling anybody by sitting on our gigantic stockpile of assets; our credit rating has already been downgraded and our debt and deficit problems are open secrets. Sooner or later, our interest rates are going to rise – the only question is how much debt is weighing us down when they do. The world will have a lot more confidence in a United States that has finally started whittling down its debt than one that has buried its head in the sand while continuing to spend itself silly. This assessment is not merely speculative; two days before the financial equivalent of “Mayan calendar” oblivion, a Wall Street Journal headline reads “Uneasy Investors Sell Billions in Treasurys.” Apparently confidence in the debt-limit-raising approach is not exactly unshakeable.

Geithner’s warning about “damage to the economy” presumably derives from the Keynesian concept that government sales of assets to the public drain money from the circular flow of income and expenditure, thereby reducing income and employment. As Murphy points out, this requires us to believe that people would rather end the year with $650 billion or so of IOUs than $650 billion worth of valuable assets formerly managed (often mismanaged) by the government. How could asset sales “damage the economy” as much as the status quo of wasteful spending and debt accumulation?

There is at least some superficial cogency to Geithner’s concern about financial markets, since some of the liquid assets in the federal portfolio were purchased in the first place to prop up the asset’s price. Clearly, selling will have the opposite effect, especially in quantity. This is why sales of mortgage-backed securities would presumably be strung out over long time periods, although the anticipation of continued sales would have the effect of driving down prices in advance of sales anyway. But the real issue is the legitimacy of the price itself. In effect, Geithner is admitting that the so-called housing “recovery” is really an artifact of government contrivance and will evaporate without it. How long is this supposed to go on, anyway? Is the tail of the housing sector supposed to wag the general economic dog forever? Orderly asset sales would seem the indicated exit strategy for this misguided policy.

Democrat arguments against government-asset sales are a pretext. The sales would represent a turning point in over a century of big-government, “progressive” policy. According to progressive doctrine, government is supposed to accumulate power, control and authority – not cede it.

The ironic thing is that asset sales would leave the skeletal structure of big government intact. The entitlement programs – Social Security and Medicare – would be untouched. Most of the regulatory agencies would be unaffected; only those entrusted with caring for assets that were sold off would be downsized or eliminated. (A major benefit of selling assets would be that the overhead expense of minding them could be offloaded.) Yet this minor impact on the welfare state has little effect on the Democrats’ intractable opposition to the idea. The fact that government does a perfectly terrible job of managing assets is also completely beside the point. Democrat policies are inherently designed to exploit the many for the benefit of the few and this demands not only big government but continually expanding government. Anything that threatens that, threatens their livelihood.

Hole Card?

A recurring theme among reactions to the prospect of default is incredulity that Congressional negotiators (read: Republicans) would be so reckless as to tempt fate by flirting with the debt-limit date. How dare they run even the tiniest risk of default?

For several years, the Federal Reserve has already been doing the unthinkable, more or less in plain sight but without provoking the same sort of outrage from the business and financial community. It has been “monetizing the debt” by buying new issues of federal-government debt directly from the Treasury using newly created money for the purpose. That activity has been technically illegal throughout the Fed’s existence, but the Fed circumvents the intent of the Federal Reserve Act by acquiring new issues directly from the primary dealers who transact directly with the Treasury. This was an important part of the QE (quantitative expansion) policy, which was designed to keep the federal-funds rate (thus, short-term interest rates in general) as low as possible. If the rest of the world was becoming reluctant to take on more and more U.S. debt – why, then, the Fed would just have to step into the breach. After all, it’s not as if the federal government should actually have to cut spending, is it?

Of course, there was the little matter of all that money that the Fed created. Ordinarily, the money would have had a multiple effect on the total money stock. The Fed formerly did its bond buying in the secondary bond market for the express purpose of creating reserves for banks to use as a reserve base for pyramiding loans to businesses and households. (Students will recognize the term “money multiplier,” used to estimate the amount by which the money stock increases based on an initial injection of money.) When the money was spent, this effect produced economic effects extending beyond the initial recipients of the spending. The trillions of dollars the Fed has recently created (some of which has financed U.S. government debt) would be sufficient to kindle hyperinflation when fed through an ordinary market process. Throughout history, this kind of money-creation has been considered strictly “the policy of the desperado,” as F.A. Hayek called it. Allan Meltzer, whose multi-volume history of the Federal Reserve has cemented his reputation as perhaps the world’s leading monetary economist, admits that despite his personal liking for Ben Bernanke, “It’s pretty hard for me to argue that if you have a few trillion dollars of excess reserves in the banking system, you think you’re doing it for the good of the economy.” Once again, though, the Fed has escaped censure for its actions thus far.

Doubtless this general insouciance is explained by the results. The created money and/or its loan potential has mostly sat idle in bank excess reserves, because a law change allowed the Fed to pay interest on money held in excess reserves by its member banks. Meanwhile, the bonds themselves have been quietly added to the Fed’s portfolio, where they have been quietly drawing interest. The Federal Reserve has now become one of the world’s leading holders of U.S. debt.

This raises an interesting possibility. Even though the Federal Reserve is a bank and operates as such, earning profits and suffering losses on individual transactions, it is not an ordinary bank. One quaint feature of its operations as a “quasi-public” institution is that it remits interest earned on its holdings of federal-government bonds to the Treasury. (It does this in spite of the fact that the Federal Reserve System is composed of its member banks and the Fed presumably has a fiduciary responsibility to them.) Thus, when the Fed buys bonds from the Treasury and holds them, that means the Treasury is getting interest-free financing for its deficit expenditures with money the Fed creates.

This raises the possibility that the Obama Administration’s debt-limit hole card may be an arrangement with the Fed that it will buy up all new debt in the coming fiscal year – and maybe more besides. Remember, the Fed was widely expected to end its program of quantitative easing in September, but continued it unabated, confounding markets and the public. Its explanation for this was confused – even normally tame Fed-watchers criticized Bernanke for leaving markets in the lurch. Remember, also, what everybody is most worried about – that default on our debt will take away the U.S. government’s ability to borrow.

Preempting the bond market is not something the Fed would normally be happy to do. U.S. Treasury bonds are traditionally one of the world’s leading fixed-income assets. People line up to buy them. Frustrating this demand would be unprecedented. But recently the Fed has been buying most of the new Treasury debt anyway; Bloomberg estimated that in 2012, the Fed was starving the market for Treasurys by soaking up 90% of new issues. In any case, the prospect of a debt default might be considered a big enough emergency to justify such high-handed action. And the Administration would be willing to consider any alternative to spending cuts or asset sales, as explained above.

The Fed’s actions are so outré and its politicization so apparent that this kind of hidden agenda makes about as much sense as any other explanation for its actions. It isn’t as if Bernanke’s tenure thus far has been squeaky clean and free of any taint of political collusion. Quite the contrary.

And this theory doesn’t argue in favor of raising the debt-limit, either. Thus, the verdict on the debt limit is clear-cut: Don’t raise it.

DRI-312 for week of 9-29-13: Suppose They Gave a Government Shutdown and Nobody Cared?

An Access Advertising EconBrief:

Suppose They Gave a Government Shutdown and Nobody Cared?

Midnight on Tuesday, Oct. 1, 2013 is the deadline for the shutdown of the federal government. That is the start of the new federal fiscal year. The U.S. Constitution specifies that Congress must authorize spending by the executive branch. Strange as it seems to a country by now inured to executive and regulatory high-handedness, the government cannot legally initiate operations by writing checks on its own hook. Fiscal delinquency, delay and deceit have long been the hallmarks of Congressional action, so it seems only fitting that Congress has failed to agree on the spending authorizations for departments that would get the federal government up and running in the New Year. And this year’s calendar offers a special treat, since the Oct. 17 deadline for default looms on the horizon as the next bureaucratic drop-dead date for civilization as we know it.

Amid the breathless media countdown to Armageddon, a sober pause for introspection is in order. How big an emergency is the federal-government shutdown, really? What underlying significance does a government shutdown have? How did we reach this position? Has the underlying economic significance of our situation been correctly conveyed by commentators and news media?

OMG! The Federal Government is About to Shut Down! Oh, Wait, Time for Vacation…

The attitude of Congressional representatives toward the prospect of government shutdown might best be compared to that of college students facing final exams. The exam schedule is announced at the beginning of the semester; indeed, it is printed in the course catalog distributed at registration. The course syllabus carefully explains the importance of the final to the student’s grade. The student knows the format of the exam, its location and exact time of day.

So, having had nearly four months to prepare and all the advance warning anybody could ask for, students are well versed, confident and unruffled in the waning days of the semester, right? On the night before the exam, they spend a short time reviewing basic ideas before retiring to get a good night’s sleep, to arise refreshed and eager to meet their task on final-exam day, don’t they? And they pass the exam with flying colors?

No, students generally seek out any excuse to avoid studying the material – and excuses emerge in profusion. As time passes and the semester ages, the knowledge of their approaching fate weighs on students’ minds, producing a buildup of anxiety and kinetic energy in their bodies. This demands an outlet, and late semester is a popular time for beer busts and other recreational modes of escape. The waning days before the final exam are spent in frantic efforts to complete course work and accomplish several months’ worth of study in a few days. The culmination of this crash program arrives on execution eve, when the students cram as many isolated facts as possible into their brain cells, relying on short-term memory to pinch-hit for solid comprehension. The surprising success rate of this modus operandi is owed less to its inherent effectiveness than to the grade inflation that has overwhelmed higher education in recent decades.

Anybody who expected their Congressional representative to behave in a more mature, sensible fashion than a college underclassman has been bitterly disillusioned by experience. Consider this latest example of budget brinkmanship.

The end of the fiscal year is not a national secret. Congress has known all year it was coming. The issues dividing the two major parties were well-known from the first day; ObamaCare has been a dinosaur-sized-bone of contention since its proposal and passage in 2010 and shocking reaffirmation by the Supreme Court in 2011. There was ample time to resolve differences or remove the legislation as a political roadblock to process.

As the year wound down, it became increasingly clear that opponents were eyeball to eyeball, each waiting for the others to blink. Now it was August, with only two months left in which to stave out a shutdown. When the going get tough, the tough… go on vacation – which was exactly what Congress did, for five weeks.

For the last week, leaders like Senate Majority Leader Harry Reid (D-Nevada) and Republican Ted Cruz have suddenly come alive with frantic last-ditch efforts. Each side has crafted and passed proposals (in the Democrat-controlled Senate and the Republican House) that the other side has torpedoed. At this writing, we are down to the last-minute cramming… but it should not escape notice that Sen. Reid was not too appalled by the prospect of shutdown to leave town the weekend after superintending the defeat of Rep. Cruz’s proposal in the Senate.

A few of the more cynical commentators have observed that we have been down this road before without careening off the highway and down a mountainside into oblivion. One set of talking points refers to this as our third experience with actual shutdown, but this is far from true. In fact, the federal government has survived 19 previous shutdowns – 17 since 1977 alone, according to the Congressional Research Service. Most have lasted a few days; the most recent (and famous) one in 1996 lasted for 21 days. So much for the artificially contrived atmosphere of urgency surrounding this one, which has been another production of political theater brought to you by your national news media.

Is There a Point to the Shutdown? If So, What is It?

It should be obvious that the hype surrounding the shutdown is phony. Even if we make allowances for the timing coincidence of the fiscal-year dividing line and debt-ceiling deadline, the attention paid to the shutdown is out of all proportion to its real effects on American well-being. But even though the shutdown may be relatively innocuous in its effects, that does not make it a good idea. What does it accomplish – ostensibly or actually?

It goes without saying that detractors of the Tea Party and the Republican Congressional leadership foresee nothing good coming of the shutdown. Since these are the people who got America into the mess that now plagues it – or stood by while that happened – we can disregard their opinions.

If there is an overriding goal of those who drove the events leading to the shutdown, it is opposition to ObamaCare. This opposition has taken the form of attempts to “defund” it; that is, to deny the Obama Administration the money necessary to implement the program. Were this successful, the program would remain on the books de jure as law, but would be repealed de facto by the lack of funds to run it. The most direct means taken to achieve this end is by passing a spending authorization bill containing a rider that defunds the Affordable Care Act. The problem with this measure is that the President will never sign this bill; ObamaCare is the signature legislation of his presidency.

Plan B of the defunders has been to replace that defunding rider with one that delays implementation of ObamaCare provisions for individual citizens by one year. This is directly analogous to the delay instituted by the Obama administration itself for businesses; in effect, it simply gives private individuals the same one-year reprieve given to employers by the President himself. This measure not only has the virtue of symmetry but also of fairness and logistical convenience. It is not clear why the bill should be delayed for businesses and not for everybody else. The state exchanges that would enable individuals to acquire health insurance are not up and running anyway in several states, so this would give the system more time to iron out the kinks. And this delay is entirely legal, being instituted by the Congress and submitted for Presidential signature; the business delay was a flagrantly illegal action imposed by Presidential fiat.

But President Obama is not about to agree to this compromise measure, either. He knows that the longer ObamaCare is postponed, the longer opposition will have to build and the longer its defects will have to become manifest. Once in place, a national system this massive and bureaucratic will be almost impossible to dislodge if only due to the inertia that will set in. The President only delayed applying its business provisions out of direst necessity; everybody was so unprepared that imposition would have led to complete fiasco. So Obama wants to get half of ObamaCare going while the going is good – or at least feasible.

Republic Speaker of the House John Boehner is already confronted by panic in the ranks. Republican representatives have hardly faced the first unfriendly fire from the news media – accusing them of irresponsibly jeopardizing the welfare of the nation for their own petty political purposes – before bolting for cover. Boehner’s queries as he gives them the flat of his sword are: What is this all about if not standing on principle against the President’s program? If we can’t work for the repeal of a terrible law as soundly unpopular as ObamaCare, when will we ever oppose the President? If now isn’t the time to stand firm against policies that are spending the country into the ground and destroying the heritage of our children, when will a better time come around? Over 30 years ago, President Ronald Reagan asked: If not now, when? Well, we didn’t do it then. If we don’t reform the budget now, when?

And those are indeed the relevant questions. Most Republicans oppose ObamaCare, all right; they have enough political courage to stand up against a law when the polls proclaim it heavily unpopular. But ObamaCare is merely the tip of the spending iceberg; the entitlement programs lie jutting beneath the surface waiting to scuttle the most unsinkable of reformers. There is no sign of Republicans boarding icebreakers, kissing wives and children goodbye and signing on for the duration of the voyage to clear the sea lanes of entitlements.

And Now for Some Opinion Completely Different

Holman Jenkins of The Wall Street Journal is a commentator not noted for his sunny optimism. Nevertheless, his take on the federal-budget stalemate is decidedly more upbeat than others commonly bruited. “What if, 10 years ago, Greece had made itself a laughingstock, sacrificed its credibility, brought shame on itself – all phrases used against Washington this week – by shutting down its government because certain legislators saw ideological and electoral rewards to be gained from making a fuss over unsustainable spending? Greek TV hosts would have shouted ‘Athens is broken!'”

Instead, as Jenkins knows only too well, Greece went sleepily on its corrupt, lazy, insouciant way, only to collapse in a heap nearly a decade later. Meanwhile, Americans today “all shake a fist at Washington, denouncing its irresponsibility because politicians are ‘playing politics’ with the debt ceiling and government shutdown.” But “then again, politics is how we govern ourselves. It’s better than despotism not because each moment is a model of stately order and reason, because America is a diverse, fractious society. The only way it works is by the endless grinding out of political compromises amid shrieking and making threats and turning blue.”

Jenkins anticipates the typical facile rejoinder. “The usual suspects at this point will be stamping their feet and insisting the U.S. isn’t Greece, as if this is an insight. No country can borrow and spend infinite amounts of money, and no political system is immune to the incentive to keep trying anyway. Herein lies the real point that applies as much to Washington as to Athens.”

“It would be nice if today’s fight were genuinely about the future. Oh, wait, that’s exactly what the ObamaCare fight is about. By trying to stop a brand new entitlement before it gets started, in a country already palpably and indisputably committed to more entitlement spending than it wants to pay for, those radical House Republicans aren’t trying to chop current spending amid a sluggish recovery (however much one begins to doubt that pump-priming from Washington is the solution the economy needs). Those terrible House Republicans aren’t trying to force colleagues to commit painful votes to take away established goodies from established voting blocs – votes that neither Republicans nor Democrats have the slightest yearning to cast.”

“Those disgraceful House Republicans have made the fight exactly about the long term. Where’s the grudging approval from our Keynesian friends who constantly say immediate spending must be protected and reform saved for the long term?” Again, Jenkins knows full well that Keynesian economics is no longer a putatively consistent set of theoretical propositions; it is now a policy admonition in search of a theory and for sale to any political sponsor willing to fork over lucrative, visible jobs to Keynesian economists.

“Not only will there by more such shutdowns,” Jenkins predicts. “What passes for progress each time will be tiny – until it’s not. The 2011 sequester, which caused critics to engage in choruses of disapproval and the S&P to downgrade U.S. debt, set us on a path to today’s modestly smaller current deficits. This week’s peculiar fight may be resolved by a near-meaningless repeal of ObamaCare’s self-defeating medical-device tax – a teensy if desirable adjustment, having no bearing on the deficit tsunami that begins when the baby boomers start demanding their benefits.”

Jenkins’s peroration combines elements of Churchill and Pericles. “We are at the beginning of the beginning. Yet the birth pangs of entitlement reform that will one day inspire the world (as we did with tax reform in ’80s) may be what we’re witnessing.” Hence the title of the column: “Behind the Noise, Entitlement Reform.”

Too Little, Too Late

Holman Jenkins’s vision is seductive, but unconvincing. Its visceral appeal lies in its pragmatism and its familiarity. Pragmatism is the great American virtue. We have grown up learning to accept and adapt to incremental change. Surely the changes necessary to cope with the downsizing of the welfare state will be just one more set of adjustments – painful but bearable. How many times have we heard Cassandras prophesy doom? How many times has it appeared? This is apparently the comforting set of rationalizations that insulates us from the truth of our situation.

Unfortunately, there is no reason to believe that a long series of small changes will be both timely and sufficient to our purpose. Not only has the Obama Administration’s fiscal policies shifted the velocity of fiscal decline to warp speed, but its monetary policies have changed our major problem from financial crisis to monetary collapse. Financial crisis is something that both individual countries and world systems recover from. Monetary collapse can lead to the destruction of a nation’s economy and the end of the civil order. We not only have to change our ways, we must reverse course by 180 degrees. And do it quickly.

It seems that Jenkins envisions entitlement reform from the austere perspective of an actuary contemplating the future of a program like Social Security. Tut-tut, the actuary admonishes, this program will be bankrupt in another 20 years or so. Well, in 20 years, a solid plurality of Wall Street Journal readers will be dead or near death. Quite a few will be financially independent of the program. Most of the rest view 20 years hence as imperceptibly distant – ample time to recover from the financial improvidence of youth.

But the real crisis on our trip planner is not actuarial. Social Security affects it long before it actually becomes insolvent because its unfunded status will be factored into the calculations of bond traders, credit-rating agencies and interest-rate setters. We may or may not be at Jenkins’s “beginning of the beginning,” but we are certainly not standing in the starting blocks in terms of debt. Government at every level is in hock up to its hairline. The private sector has been making a valiant effort to deleverage – and for its pains has caught hell from Keynesian economists who lecture us about the evils of saving in the middle of a recession. (Just prior to the Great Recession, the same people were decrying our “consumption binge” and running public-service ads begging us to save more.) American banks have trillions loitering in excess reserves, just spoiling for the chance to torch the value of the dollar at home and abroad. Foreign holders of dollars and dollar-denominated assets are dying for a convenient chance to unload them. Business forecasters need binoculars to view the upside potential of U.S. interest rates. And when interest rates skyrocket, interest payments on the federal debt will crowd out practically everything else on the docket, making the budget wars of today look like Sunday-school theology debates. The endpoint of this process is monetary collapse, when the U.S. dollar is abandoned as a medium of exchange, unit of account and store of value.

Oh, and just in case the foregoing doesn’t fill you with a sense of dread, there’s the little matter of international “currency war” to ponder. During the Great Depression, many nations used monetary expansion to deliberately trash the value of their own currencies. Their aim was to make their goods look cheap to foreigners, thereby hiking their number and value of their exports and increasing employment in their export industries. Since their depreciated domestic currency would also buy fewer imports, this would supposedly encourage the citizenry to buy fewer goods from abroad, thereby increasing domestic employment in import-competing industries. This game plan is well-known to economic historians as the “beggar thy neighbor” strategy. Its inherent flaw is that it can work if, and only if, only one nation employs it. When all or most nations do it simultaneously, the effects cancel each other out in the currency market and the only result is that international trade evaporates – which is roughly what did happen during the Depression. Since international trade is a good thing which makes practically everybody better off, its virtual elimination was a disaster for everybody. And guess what? The rest of the world, watching Ben Bernanke and the Fed at work creating money like there’s no tomorrow, may well suspect the U.S. of trying just this tactic. Whether they’re right or wrong is beside the point, since it is their belief that will determine whether they retaliate by starting a trade war that mimics the devastation of the 1930s.

It is barely possible that Congress might embark on a program of haphazard, gradual deficit reduction a la Jenkins. But a thoroughgoing reform of the process is not in the cards. Thus, the danger is not a collapse caused by a government shutdown. The danger is a collapse caused by the failure to shut the government down. It is government at all levels that has turned itself into a machine for spending citizens’ money to benefit employees without providing substantial benefits to the citizens. Since there is virtually no competition for government services, there is little or no way to gauge whether any government good or service is worth what we have to pay to get it. So government just keeps rolling along, like Old Man River, carrying us all along with the flow.

The mass delusion afflicting America is cognitive dissonance. Most of us agree with Jenkins that no government can increase spending indefinitely. Yet we do not admit that this requires our government to actually cut spending for the purposes that (we believe) benefit us – or, at least, we do not admit this necessity in our lifetime. The same people who normally consider government to be intrusive, inept and unproductive magically reverse their position 180 degrees and assume that government is efficient and productive when pursuing their pet project, benefitting them and saving the world from their latest hobgoblin. This is the politico-economic equivalent of William Saroyan’s lament that everybody had to die but he had always assumed that an exception would be made in his case.

The dissonance is actually three-sided. We fail to recognize not only its quantitative dimension but also its qualitative side – government’s utter failure to solve problems and produce things of value. Thus, the real entrenched constituency for big government is not its ostensible beneficiaries – the poor, downtrodden, minorities and such. It is the bureaucrats and their minions, who collect paychecks but whose real net contribution to the social product is negative.

Until this dissonance is dispelled, it is idle to blame politicians for acting true to form.