Author: WSJ.com: Real Time Economics

Veteran economist Martin Feldstein, of Harvard University, is not sure the U.S. economy will escape a second trip back into recession in the new year. Feldstein, who is also the emeritus president of the business cycle dating organization the National Bureau of Economic Research, tied this risk of a renewed downturn after the worst recession in decades to a poorly conceived government stimulus effort. “I supported the idea we needed to have a fiscal stimulus, somewhat to the dismay of my conservative friends,” Feldstein said Sunday at a meeting of the American Economic Association in Atlanta. But the design of the stimulus was put in the hands of congress and it was poorly done, which meant it “delivered much less” in actual stimulus than its nearly $800 billion price tag suggested it should. While the stimulus has helped push the economy out of recession so far, other negative forces still at play raise questions about the effort’s ultimate durability. “There is a significant risk the economy could run out of steam sometime in 2010,” Feldstein warned. In his comments, Feldstein was also worried about the longer run U.S. fiscal situation, which contains a rising and worrisome tide of U.S. debt. But his worry was countered by James Galbraith, of the University of Texas-Austin. The academic agreed with Feldstein that the fiscal stimulus had underdelivered, but said the remedy to that was to do even more government stimulus. Galbraith downplayed the budget implications of this new borrowing. “You pay too much attention to those voices” who worry about rising debt-to-GDP ratios. “Those numbers are financial artifacts,” and “the problem to focus on is the 14 million unemployed,” Galbraith said. He noted that the debt-to-GDP ratio hit 100% of GDP after World War II, and that period was followed by a huge period of U.S. economic growth. In a later session, Joseph Stiglitz, the Nobel laureate. warned against “deficit fetiishism,” and said government spending could go to productivity-improvement investments, such as environmental technology. But Olivier Blanchard, chief economist of the International Monetary Fund, countered that prospective investments in green projects were too small to have a macro-economic impact.

As scientists struggle to predict exactly how global climate change will affect our environment, economists are grappling with another question: How well can humans adapt?

Judging from the history of wheat production in North America, the answer is very well, says Paul Rhode of the University of Michigan. In a paper done together with Alan Olmstead of the University of California-Davis, which he presented Sunday at the annual meeting of the American Economic Association, Mr. Rhode looks at how wheat production fared between the mid-1800s and the late 1900s, as production moved into parts of North America with harsher climates. The conclusion: Production adapted successfully as farmers introduced new strains that grew well in the new climates.

“We’ve been there and done that in terms of adjusting wheat production to new climates,” he said.

According to the paper, production proved resilient to temperature changes of as much as two to five degrees centigrade — similar to the changes scientists expect to occur over the next 90 years as a result of the proliferation of greenhouse gases.

To be sure, the results don’t demonstrate that humans as a whole can be better off in a warmer world, and don’t suggest that measures to combat global warming are unnecessary.  For one, the data are limited to wheat production and to North America, where the impact of climate change on agriculture is likely to be less severe than in developing nations such as India. Beyond that, the changes in wheat production happened over a very long period. Farmers and seed breeders could have a much harder time adjusting to more rapid changes in climate.

Still, Mr. Rhode says the research suggests adaptability is a factor “that should not be discounted.”

Goldman Sachs chief economist Jan Hatzius, in a year end note to clients, predicts sluggish economic growth in 2010 — too slow to keep unemployment from rising further — and says the Fed will keep its key interest-rate target near zero for the whole year.

Here are 10 questions he says are looming over the economy, and his bottom line on each.

1. Have house prices bottomed?

Probably not yet, but we are quite uncertain.

2. Will banks become more willing to lend?

Probably yes.

3. Will small-business activity pick up?

It should, but so far we are not seeing it.

4. Will hiring revive?

Yes, but we expect the rate of job creation to reach only about 100,000 per month by the second quarter, not enough to push the unemployment rate down in a meaningful way.

5. Does the savings rate have further to rise?

Yes, we think so.

6. Will inflation fall further?

Very likely yes.

7. Does the dollar pose an inflation risk?

Only to a very limited degree.

8. Will Congress pass more fiscal stimulus?

Yes.

9. How will the Fed “sequence the exit”?

In 2010, the main form of “exit” is likely to be an end to asset purchases. … We expect neither a hike in the funds rate nor outright sales of assets on the Fed’s balance sheet in 2010 (or for that matter in 2011).

10. Will the end to the [Fed’s] asset purchases tighten financial conditions?

Possibly, although the degree is highly uncertain.

A third to a half of college students drop out, and many of them still have hefty student loans once they’re no longer enrolled. Offering insurance to protect students from the financial cost of failure could keep some of them in school, says a new paper released by the Federal Reserve Bank of Philadelphia.

Economists Satyajit Chatterjee of the Philadelphia Fed and Felicia Ionescu of Colgate University look at data on college enrollment, dropout and completion rates of students and analyze whether a student loan program can offer insurance against the risk of college failure. According to the Fed’s Survey of Consumer Finances, on average about 47% of non-students with a student loan report that they don’t have a two-year or four-year college degree. Those non-students who have loans but no degree also have a significantly higher burden of education debt more than a decade after taking out the loan.

“The financial risk of taking out a student loan but being unable to complete college may discourage some people from taking out a loan and enrolling in college,” the economists write. “Thus, even though prospective students may not be credit constrained, a mechanism to share the risk of failing to complete college — college failure risk — might improve the welfare of enrolled students and encourage more people to enroll and complete college.”

They find that “optimal” insurance in case of non-completion ranges between 10% and 45% of total college costs. Insurance would raise the enrollment rate by 3.5 percentage points, the fraction receiving a degree by 3.8 percentage points and student welfare by 2.7% on average, their paper concludes.

“Students with relatively low scholastic ability and a high failure probability benefit the most from failure insurance,” the paper says. “Since these students are typically from low-income backgrounds and most in need of loans to finance the expense of a college education, our results suggest that insurance against college failure risk will be particularly useful to students from low-income backgrounds.”

The International Monetary Fund took months to launch its much anticipated latest round of gold sales, but its better-than-expected profit of $4.7 billion makes the timing look impeccable.

In June, before gold prices began climbing in the autumn, the IMF estimated it would garner $850 for each ounce of gold sold to central banks and other official holders. After having sold just more than half of its planned sale of 403.3 metric tons, however, the fund has averaged $1,049 an ounce.

“Obviously, it’s a good price relative to the original assumptions,” a senior IMF official said last month.

The fund in the past three months has announced sales of 212 metric tons of gold, with the sales going to India, Sri Lanka and Mauritius. The sales have generated an estimated profit of $4.7 billion, the fund said last week in a midyear review of its own financial position.

Inflation worries, a depreciating U.S. dollar and seasonal factors have been pushing prices higher. When the IMF made its estimate in June, the front month price of gold on the Comex division of the New York Mercantile Exchange was well above $900 an ounce, and it hit a high of $1,226.40 on Dec. 3. It’s currently
trading around $1,097.50 an ounce.

“There’s a real seasonal pattern to gold. It’s best to be selling in the fall,” said Frank Holmes, chief executive and chief investment officer at U.S. Global Investors, a firm specializing in gold, natural resource, emerging market and infrastructure investments.

Gold prices typically slide during the summer months before rebounding in the autumn, he said.

The IMF’s executive board in mid-September approved the sale of one-eighth of the funds total gold holdings. It announced in November an off-market deal to sell 200 metric tons to India–its first such sale in nine years.

The IMF is selling the gold in order to “put the financing of the IMF on a sound long-term footing,” IMF Managing Director Dominique Strauss-Kahn said earlier this year. It plans to create an endowment with profits from the sales that could be used as a source of funding for the IMF.

Emerging market countries such as India and China were expected to be among those lining up to buy the IMF’s gold. The IMF still has 191 million tons it is approved to sell.

“Emerging countries that have surplus dollars are just being prudent in diversifying,” Holmes said. “You can’t just have euros, pound sterling and U.S. dollars.”

While Scott Licamele, the director of Red Star Asset Management, is expecting the U.S. dollar to rally in the first quarter of 2010, he sees the currency depreciating over the longer term. “Central banks are adjusting to that new reality,” he said.

A roundup of economic news from around the Web.

As the first decade of the 21st century comes to a close, the Census Bureau projects that on Jan. 1, 2010, the total U.S. population will be 308,400,408. This would represent an increase of 2,606,181, or 0.9%, from New Year’s Day 2009.

In January 2010, one birth is expected to occur every eight seconds in the United States and one death every 12 seconds.

Meanwhile, net international migration is expected to add one person every 37 seconds to the U.S. population in January 2010. Combined with births and deaths, that means an increase in the total U.S. population of one person every 14 seconds.

Close to the end of the new decade, in July 2019, the Census Bureau projects the U.S. head count will have risen to 338,190,000.

The global economic downturn spurred declines in physical immigration — the movement of people across borders — in 2008 and 2009. But a new Federal Reserve Bank of Dallas report says “virtual” immigration — moving the work rather than the workers — continued to grow.

“Most likely, the difference stems from the jobs the two types of immigrants typically do,” authors Michael Cox, Richard Alm and Justyna Dymerska write in the Dallas Fed’s Economic Letter. “Physical immigrants work in construction and other highly cyclical industries. Virtual immigrants are more likely to work in the services economy. It has traditionally been less sensitive than goods to cyclical fluctuations, largely because services aren’t subject to the kind of inventory bulges that make goods production unstable.”

Still, virtual immigration increased at a slower pace during the downturn. “Hard times might pressure companies to cut costs, quickening offshoring’s pace,” they write. “At the same time, companies might pull back on offshoring because of cuts in IT budgets and plentiful labor close to home.”   For instance, India’s exports in software and IT services are forecast to continue expanding. But the projected growth rate of 17% for 2009 is less than half the pace of the prior four years.

The authors walk through data on labor flows during the latest wave of globalization that began in 1980 — as developing nations entered the global marketplace, transportation costs fell and information technology advanced — and into the recent downturn. As the world recovers from the recession, “the long-term factors supporting cross-border integration of trade, finance and labor are likely to reemerge, although it may take time to fully restore globalization’s momentum,” they write. “The outlook could change if hard times linger and countries succumb to protectionist temptations, setting off a destructive process of deglobalization.”

After 51 years –- that’s not a typo — Alice Williams, executive assistant to the chairman of the White House Council of Economic Advisers, is retiring from the federal government this week. Williams has been something of a permanent fixture at the CEA as members of the three-member council came and went as the presidency changed hands.

Williams was hired during the Eisenhower administration by a precursor of the U.S. Agency for International Development. She signed on to the CEA staff in 1970 in the Nixon years when Paul McCracken was the chairman.

A retirement party earlier this month drew five CEA chairs -– the current one, Christina Romer, and predecessors Charles Schultz (Carter), Joseph Stiglitz (Clinton), Martin Baily (Clinton) and Edward Lazear (George W. Bush) –- as well as one-time CEA wanna-be Lawrence Summers, the former Treasury secretary and now Obama economic adviser.

“I remember when I got there and thinking, ‘I know nothing, she knows everything — and thank goodness that she does!’ She was the matriarch of the institution,” said Lazear, now back at Stanford. “Always professional, she served presidents and chairs from both parties without the slightest hint of partisanship. Alice was a constant. A truly remarkable woman, she was our voice, our institutional memory, and she taught all of us how to do our jobs. “

Baily, now at the Brookings Institution in Washington, echoed that: “She was the glue that held CEA together through administrations with very different political persuasions and through chairs with very different personalities, most of whom were extremely demanding. Even after many, many years at CEA she worked incredibly hard and maintained a real enthusiasm for the life and role of the institution, getting us into meetings and helping us be part of the important economic decisions.”

Williams, a competitive ball room dancer, plans to keep dancing and to travel in retirement.

 UPDATE: Joseph Stiglitz, another former CEA chair, adds: “We were academics, and for most of us, this was our first experience with government or bureacracy.  She really made the CEA work.  Got us into meetings.  (You have to be in meetings to have your voice heard!)  Had her ear to the ground–always knowing what was going on.  She also had a big effect on the ‘culture”–the good spiritedness that market the CEA across administrations.  She was one of the reasons that it was always fun and enjoyable to come to work every day–in spite of the “battles” that were to be fought (and somtimes lost).  For those of us who believe that government can play an important role in our society, she provides proof that government can work:  a dedicated civil servant, someone who worked tirelessly and selflessly for decades, across Administrations–including long hours into the night. On a more personal note, the particular challenge of managing my office–an inflow of papers vastly greater than an outflow meant that finding the papers I needed for a particular meeting on short notice was not always easy.  Somehow, she managed it all.”

A roundup of economic news from around the Web.

• Grading the First Year: Berkeley professor Brad DeLong reviews the Obama economic policy team and gives this grade: exceeds expectations (or a solid B+/A-). DeLong, who served in the Clinton Treasury Department, also highlights (and critiques) a column by Bloomberg’s Al Hunt that says the Obama economic team features poor coordination, faulty communication and an inability to convey an overarching policy.
• Lobbying and Bailouts: At the Big Picture, Barry Ritholtz looks at a paper by International Monetary Fund economists on lobbying and the financial crisis, calling it “yet another indictment of the nexus between Wall Street and Washington.” He writes: “We know from previous reports that the lobbying of the most aggressive, freest spending banks led to the greatest return in bailout monies. The IMF shows that it also led to riskier lending with less supervision and regulation.”
• Forces of Joblessness: At Econbrowser, Menzie Chinn looks at structural unemployment in the latest downturn. “Secular structural unemployment is likely to have risen. But it is not clear to me that an increase in structural unemployment constitutes the largest portion of the increase in unemployment.”

Harvard economist Jeremy Stein has seen the sausage factory of policy-making from the inside. From February to July of 2009, he worked as an adviser to the U.S. Treasury during its struggle to rescue the country’s banking system.

Mr. Stein spoke with The Wall Street Journal about the future of American-style capitalism in the wake of the worst financial crisis since the Great Depression — and at the end of a decade in which the U.S. turned in its worst economic performance in at least 60 years.

Has the decade of the 2000s — with the downfall of Enron, the bursting of the Internet bubble and the Great Panic — discredited the U.S. model of capitalism?

The risk is that the U.S. model will be discredited more broadly than it ought to be. The lesson that we learn is that we need to do certain things to reform financial markets, but we don’t want to throw out the whole model. Our labor markets are less constrained than European labor markets, we have more IPOs per capita than most other countries. A lot of that stuff remains a strength of the United States.

What elements are crucial to the functioning of the U.S. model? Are there benefits to unfettered financial innovation and allowing banks to use borrowed money –- or leverage — to boost returns?

Even if derivatives vanished off the face of the earth, I would say that there’s still a lot of the distinctive U.S. model that remains. And if you think of a lot of the really great innovative stuff that drives economic growth -– stuff like technology startups — I don’t think limiting financial institution leverage impinges on that all that much.  A lot of real innovation is not very heavily involved with leverage.

How can we get rid of the parts of the U.S. model we don’t want while keeping the parts we do?

You’d want to monitor leverage creation and margins –- the “down payment” investors have to put up when they buy things such as homes and asset-backed securities. The lesson that the Federal Reserve has learned is that it should not be an aggressive bubble-popper in all cases, but that it should be very careful about those bubbles that involve leverage.

How does that change the mission of the Fed?

I think it’s quite likely we’ll have a somewhat different model of central banks a decade from now. I could imagine it would involve broader powers but somewhat less independence. If you think that the Federal Reserve has to be involved in cyclical leverage policy, then it also has to be more deeply involved in supervising the banks. With all those powers, it may be politically harder to sustain complete independence from the government.

Economists and others weigh in on the latest Case-Shiller report on home prices.

• One in four mortgages are currently underwater. Foreclosure and delinquency rates, which hit a record high at the end of the third quarter of 2009, are therefore likely to continue to rise, perhaps sharply. In addition to this, the inventory of homes for sale remains near record highs. … Despite the recent positive reports on housing prices, we believe that prices have further to fall—about another 5%-10%. — Patrick Newport, IHS Global Insight
• We would not be surprised to see some weakening in prices through the winter months, when demand is generally low and as distressed properties continue to get dumped onto the market. However, with every passing month it looks like the bottom in home prices has been put in. That said, we expect the upturn in home prices will be extremely muted (underperforming income growth) for the next year or two. — Michelle Girard, RBS
• When the Case-Shiller index began increasing in the summer, there were concerns that exaggerated seasonal patterns were an important driver, as trends had briefly improved in the summer of 2008 as well. However, while some seasonality does appear to have been present, the fact that the Case-Shiller home price index is continuing to increase is good news. We still believe that home prices could fall a bit over the course of 2010, but the majority of the price adjustment has probably already occurred. — Abiel Reinhart, J.P. Morgan Chase
• This report provides further confirmation that the long-awaited U.S. housing market recovery is well upon us, bolstered in large part by the very favourable home buying conditions and the hugely successful “fist-time home buyers’ tax credit program”. In the months ahead, with the recovery in the U.S. economy likely to gain further traction, we expect the pick-up in the U.S. housing market to be sustained.  — Millan L. B. Mulraine, TD Securities
• There are still many issues facing the housing market. While the existing home market has improved considerably, the new home market remains challenged. Inventories in the existing home market, while improved, remain elevated and the always present threat of shadow inventory continues to loom. As such, it is more than likely that prices have a bit further to fall which should help continue supply/demand rebalancing and help fix the ongoing issues in the housing market. — Dan Greenhaus, Miller Tabak

The S&P/Case-Shiller 20-city home-price index, a closely watched gauge of U.S. home prices, rose a seasonally adjusted 0.4% in October from September. But it was flat on an unadjusted basis as the monthly gains seen earlier in the year faded.

The index declined 7.3% from a year earlier. For the 19th straight month, no area in the 20-city index posted a year-over-year price gain.

“Coming after a series of solid gains, these data are likely to spark worries that home prices are about to take a second dip,” said David M. Blitzer, chairman of the Index Committee at Standard & Poor’s. But he added that sales of existing homes have been strong in recent months.

Just seven of the 20 areas saw monthly price gains in October. Phoenix posted the largest gain at 1.3% followed by San Francisco at 1.2%. Tampa fared the worst with a 1.6% drop.

By October the 10-city index was down 29.8% from its mid-2006 peak, while the 20-city was down 29%. Home prices nationwide had returned to levels similar to the fall of 2003.

• See the full S&P/Case-Shiller report.
• Read the full story.

Below, see data from the 20 metro areas Case-Shiller tracks, sortable by name, level, monthly change and year-over-year change — just click the column headers to re-sort.

(About the numbers: The Case Shiller indices have a base value of 100 in January 2000. So a current index value of 150 translates to a 50% appreciation rate since January 2000 for a typical home located within the metro market.)

Home Prices, by Metro Area

Metro Area	October 2009	Change from September	Year-over-year change
Atlanta	110.12	-1.0%	-8.1%
Boston	154.70	-0.6%	-2.8%
Charlotte	119.05	-0.7%	-7.0%
Chicago	130.78	-1.0%	-10.1%
Cleveland	104.97	-0.7%	-3.5%
Dallas	119.90	-0.6%	-0.6%
Denver	128.91	-0.4%	-0.1%
Detroit	73.07	0.2%	-15.1%
Las Vegas	104.70	-0.1%	-26.6%
Los Angeles	168.43	0.3%	-6.3%
Miami	149.09	-0.4%	-14.0%
Minneapolis	124.51	-0.5%	-8.4%
New York	175.01	0.0%	-7.7%
Phoenix	110.71	1.3%	-18.1%
Portland	149.88	0.1%	-9.9%
San Diego	155.37	0.4%	-2.4%
San Francisco	135.81	1.2%	-2.6%
Seattle	149.26	0.2%	-12.4%
Tampa	140.27	-1.6%	-15.2%
Washington	179.71	-0.4%	-2.8%

Source: Standard & Poor’s and FiservData

Growing budget deficits are prompting some state and local governments to consider a four-day work week for government workers, and in some cases even for school kids.

Utah is the only state in the nation with the four-day work week, but governors in Iowa and Washington have started touting the idea as a way to save money. Legislators in New York have floated a similar idea while Mesa, Ariz. –- profiled in this WSJ story on cities grappling with budget problems –- has already switched to the four-day, 10-hour workday.

Here’s the idea: By having employees work four days instead of five, cities and states save on energy and building maintenance costs. (Utah implemented its four-day work week two years ago to offset rising gas prices.) Commuting traffic is reduced, less gas is consumed and in Utah the program has been shown to reduce overtime because few employees want to stick around after an already long day.

Across the country, several school districts are trying the four-day school week, which has gotten mixed reviews from students that have already moved to the less frequent schedule.

A roundup of economic news from around the Web.

• As Stimulus Fades: A third of the $787 billion stimulus will be spent after the middle of 2010, but it won’t keep boosting the pace of growth.  At Econbrowser, Menzie Chinn says critics of stimulus often neglect to highlight that “even as the stimulus subtracts from growth starting in the second half of 2010, the level of GDP is still higher than what would be the case in the absence of the stimulus package.” Paul Krugman follows up with his own example. “You can see why I and many others are worried about the second half of next year,” Krugman says.
• Municipal Strains: As cities face long-term cutbacks from the downturn, The American Prospect posts its first 2010 issue on “The Post-Boom City” looking at the decline of cities and factories and efforts to revitalize them. “Together, manufacturing and urban development created the foundation for the middle-class nation that emerged after World War II,” the magazine’s editor writes. “When once-prosperous industries and cities decline, so too does the vitality of our collective life.”
• Monetary Aggregates: “The monetary base is exploding,” Greg Mankiw writes. “So what?” Mankiw takes on the view held by some investors that a surge in the monetary base will be inflationary by increasing bank lending, which would then increase broad monetary aggregates such as M2 and lead to inflation in the long run. The Fed’s ability to pay interest on reserves should lead banks to hold onto those reserves, he writes. “The bottom line is that when reserves pay interest, the monetary base is a pretty uninteresting economic statistic.”

The Federal Reserve, not surprisingly, figures in a number of non-fiction accounts of the financial crisis. Now comes the fiction: Union Atlantic, a first novel by short-story writer Adam Haslett, 39, to be published in late January, that revolves around a bank that figures it is “too big too fail.”

Set outside Boston, home of a huge bank called Union Atlantic, the plot features — among other things — the president of the Federal Reserve Bank of New York, widower Henry Graves, and his increasingly crazy sister.  After some badly conceived trades put the survival of Union Atlantic at risk, its CEO comes face to face with Graves (even though a Boston bank ordinarily would be the province of the Boston Fed).

“Let me start by saying,” Graves tells the banker, “that if you or your board is under the impression that Union Atlantic is to big to fail, you’re mistaken. There’s no question here of a bailout. If you go under, the markets will take a substantial hit, but with enough liquidity in the system we can cut you loose, I hope you understand that.”

“This, of course, was a bluff,” Haslett writes, in a first novel that the publisher says was finished during the failure of Lehman Brothers last fall. “Henry had already begun receiving calls from the Treasury Department.”

As in the 1995 Bruce Willis movie, Die Hard: With a Vengeance, the New York Fed’s underground gold vaults make an appearance in the novel, this time as an improbable — though accurately described — backdrop to a conversation between Graves and a whistleblower from the bank. The New York Fed president, though, doesn’t figure in the book’s sex scenes.

Raghuram Rajan, an economist at the University of Chicago Booth School of Business, has built a reputation for prescience. Back in 2005, at a gathering to honor then Federal Reserve Chairman Alan Greenspan, he presented a paper asserting that the financial developments of the past couple decades could lead to disaster. It was an unpopular position that garnered harsh reviews at the time. Now people listen more attentively to what he has to say.

Mr. Rajan, who served as the chief economist of the International Monetary Fund from 2003 to 2006, spoke with The Wall Street Journal about the implications of the U.S.’s dismal economic performance in the 2000s — how it has affected perceptions of the U.S. model of capitalism, and how that model might change as a result.

Has the decade of the 2000s — with the downfall of Enron, the bursting of the Internet bubble and the Great Panic — discredited the U.S. model of capitalism?

The rhetoric has changed considerably. People don’t say that the U.S. is the place to emulate any more. The U.S. used to be pretty good at giving lectures in the past, so now of course other countries are taking the chance to thumb their nose at them.

Some people are concluding that capitalism doesn’t work. The problem is that they don’t have anything reasonable to replace it with. To say that we needed more regulation is not to say that markets don’t work.

You travel around the world advising governments and central banks, many of which have aspired to the U.S. model. How has their attitude changed?

People in other countries are taking this crisis as the opportunity to do something about the threat that American capitalism posed to their cozy existence. The insider economy is gaining ground, with its national champions and various forms of protectionism.

I’ll give you an example. I was in India, chairing a committee on financial-sector reforms. One of our proposals was that we should consider reducing the dominance of national banks in the system. The response was “actually, now we’re ahead of the curve, look how the U.S. has nationalized its banks.”

How do you expect the U.S. model of capitalism to change as a result of the crisis? Can it regain its credibility?

Given the other models that we’ve tried in the past, this one seems to work pretty well. It’s sort of like democracy — the greatest good to the greatest number of people.

The question is how you get the benefits without the excess volatility that’s now in the system. I think that’s what we will tackle over the years. We are going to question whether we need a better safety net, we are going to question whether finance should be as risky as it has been.

We may well want to choose more safety and less risk, but we should go into it with open eyes. We can’t have the dynamism and at the same time expect a lot more security.

Can we know if the tradeoff of which you speak — less dynamism in return for more security — will work? Does the field of economics have any way of forecasting the outcome?

The truth is nobody knows. We’re fiddling around with so many things. You want to keep enough incentive to take risk to get the dynamism, but in practice you’re typically going to make mistakes. This is really the history of how we regulate. Each time the pendulum swings, we get some stuff that we later realize is too much and other stuff that we think is absolutely necessary in a modern economy.

With Christmas less than 24 hours away, we thought it would be a good time to repost this interview with a grumpy economist who wishes everyone would spend less. Wharton professor Joel Waldfogel’s book is called, “Scroogenomics: Why You Shouldn’t Buy Presents for the Holidays.”

Did Scrooge have the right idea? (Getty Images)

Mr. Waldfogel estimates that Americans drop close to $70 billion a year on Christmas shopping for gifts people often don’t want … baggy underwear, ugly sweaters, etc. Society, he says in the book, would be better off if people didn’t spend it.

“Throughout the year, we shop meticulously for ourselves, looking at scores of items before choosing those that warrant spending our own money. The process at Christmas, by contrast, has givers shooting in the dark about what you like… to make matters worse, we do much of this spending with credit, going into hock using money we don’t yet have to buy things that recipients don’t really want.”

He says the deadweight loss to society from all of this frivolous spending — an “orgy of wealth destruction” as he calls it — is about $25 billion. Imagine if that money was given to charity instead? Or how many banks it could have saved! (If it were used to pay down the government’s debt, we might get the whole thing paid off in just a few centuries!)

Mr. Waldfogel has been on this subject for some time. Below are excerpts from a recent interview with the professor:

It sounds like you’ve gotten stiffed on a lot of holidays. What’s the worst present you ever got from anybody?

Waldfogel: I really haven’t gotten stiffed a lot. It’s more that I first encountered holiday gift giving in a major way after I’d been trained as an economist. Instead of seeing it in the warm filtered way that many people see it through childhood, I just saw it as an orgy of wealth destruction. All of these gifts were being given and the items weren’t being chosen by the ultimate consumers. If microeconomic theory teaches us anything, it is that people do best when they make choices for themselves. Here is all of this consumption where the choices are being made by someone else. Wow. That seems like a real opportunity to allocate resources badly.

You didn’t get any gifts as a kid?

Waldfogel: No, I got gifts. But holiday gift giving was not a big deal in my family.

How do your wife and kids feel about your attitude?

Waldfogel: Initially my wife was put off by it. But I try to be a pretty careful gift giver. Part of the point here is that when you know what people want — the immediate family — those are people where you can do pretty well giving gifts. You know what they like. You know what they have. You care. The situations that are really recipes for disaster are situations where you’ve got an obligation to give, but you don’t know what to give … the nieces, the nephews, the grandchildren, the people you don’t see very often but you have to give them something because there is a custom or obligation. Those are the situations where you run the risk of turning wealth into dross.

Have you ever been in a secret Santa drawing at the office?

Waldfogel: I haven’t. They sound like a method for destroying wealth, but at least each person only has to buy one thing. Suppose there are five people in the office. Everyone could need to buy four gifts and do badly in all four. Instead, you buy one and just do badly on the one. It’s better than buying four that are equally ill-suited.

What does your shopping list look like this year?

Waldfogel: I take a lot of pictures. I like to give people photographs of themselves or their loved ones. It doesn’t’ cost much but it’s something they like. Well, maybe they’re just being polite, more polite than I would be.

How big is the loss? Put it in numbers, this dead weight loss to society you describe.

Waldfogel: My favorite way to do it is to compare what would you be willing pay for stuff that you receive as a gift per dollar spent versus what would you be willing to pay for stuff you bought for yourself per dollar spent. The surveys converge on the idea that it is about 20% less. U.S. holiday spending per year is conservatively about $65 billion. So about 20% of that, something like $13 billion a year, is what’s destroyed through gift giving in the U.S. But it turns out it is by no means limited to the U.S.
You see the same pattern of spending in almost every major western economy, with a big bump in spending in December. You don’t see it in China and you don’t see it in Israel. But you see it in every country that is predominantly Christian, and some that aren’t. Japan also has it in a big way. If you add up that spending in the other major OECD economies you get, instead of $65 billion alone for the U.S., $130 billion (in holiday spending). There’s every reason to believe the dead weight loss is as big elsewhere. That would get you to $25 billion a year around the world in value destroyed through gift giving.

That’s a lot of money. You could recapitalize a bank with money like that.

Waldfogel: No kidding! I think of this as Waldfogel’s half trillion dollar gift. This is a perpetual stream of $25 billion a year. I don’t know what the current discount rate is, but that’s a whole chunk of change if we could stop doing it somehow.

You could get rid of our budget deficit in just a couple of centuries with that kind of money.

Waldfogel: Yeah, we ought to securitize this thing and see what happens. Don’t quote me on that.

You mention China. On Chinese New Year the Chinese hand out cash in little red packets to kids. They’re called lai see packets. Should we adopt that tradition and just ditch the Christmas trees altogether?

Waldfogel: Let me tell you what the data say. A lot of surveys in the U.S. ask people about themselves. There are two groups in U.S. survey samples that give a lot of cash instead of gifts, Jews and Asians. These are Asian Americans. I think it is a reflection of the common practice in China to give cash.
Cash is in general a stigmatized gift. Psychologists have studied this. It would be very awkward for me to give cash to a social peer. It is OK to give cash to a child or a grandchild or a niece or nephew. So we do see a lot of cash giving in those groups. And what we’ve seen in the past fifteen years is astronomical growth of gift cards, which are cash without the stigma. You the recipient get to choose what you want. They appear on the lists of most desired gifts. I don’t have to tell people that they should give cash instead. Just look at the data. Probably on the order of a third of holiday gift giving is now in the form of gift cards. It does look like a response to a concern about destroying value.

It is kind of a cruel irony that the Chinese give each other cash, which is an efficient way of allocating wealth, and then they make all of these toys and appliances that Americans give each other which creates a dead weight loss.

Waldfogel: It is. I wish I’d thought of that.

You’ve got a bunch of proposals for avoiding all of this wasteful spending. What are your two best ideas?

Waldfogel: My two best ideas are both to do with gift cards. One problem with them is that something like 10% doesn’t get redeemed. From a purely economic standpoint, that’s not value destruction, it’s just a transfer because after 36 months or 48 months depending on the company, the escrowed gift card money that doesn’t get redeemed gets recognized as revenue and so it goes to the shareholders of Target or Gap. I don’t think buyers of the gift cards who meant to transfer some satisfaction to the recipients of the card would be happy to know that. They’re only transferring 90% of what they’re giving to the recipients on average.
My proposal is how about encouraging companies to issue gift cards which after 18 months default to charity. The unspent balance goes straight to charity. It would have to be a default, not one of those things where you have to go to a Web site and do it, because we know people are pretty lazy and stupid and wouldn’t do it. That way you would know that either the recipient or some worthy cause is getting his generosity for the holiday.

Is anyone biting on your idea so far?

Waldfogel: Not yet.

What about idea number two?

Waldfogel: It’s another idea related to charity. Let’s say you’ve got to get a gift for your brother-in-law and you don’t know what he likes. How about giving him one of these Charity Navigator ‘Good Cards,’ where the recipient has the right to choose among a long list of charities and allocate the gift to the charity of his choice. If you look at spending data and what people spend more on as they get richer, one thing they spend more on is charity. It is like an aspirational activity. If I were a lot richer, what would I do? I would give to charity. If I give you the ability to give to charity, there is evidence in the data that is the kind of thing you would want to do if you were richer.

One the arguments against your argument is that if people followed your advice and did a lot less spending on Christmas, it would hurt the economy. What’s your retort?

Waldfogel: It is because I need to stick a lot of stuff under the tree I buy all of these underwear I was going to buy you next year anyway. It is not really Christmas that is causing that spending. Christmas is causing it to occur through the gift giving mechanism and you get the wrong size. That’s retort one.
I’m not against spending, I’m just against spending done ignorantly by others.
Retort two is related to retort one. Although George Bush said go out and spend and other folks have exhorted us to spend at times, spending is not really a measure of success or satisfaction. Unwanted and wanted spending are equally good for sellers. But spending is supposed to be good for buyers. When we say it is good for the economy, we can’t just look at the amount of spending, we want to think about the amount of satisfaction that we’re getting from the spending when we think about the economy. Remember, there are hurricanes and we have to spend too, but that’s not good news.

Final question. Who does the holiday shopping in your household.

Waldfogel: As in most households, my wife does more than I do, but I do some.

That’s probably a good choice on your family’s part.

Waldfogel: I like to give. I’m not against giving. I’m just against bad giving.

After rising for a decade, the U.S. homeownership rate peaked at 69 percent in the third quarter of 2006. Over the following two and a half years, as home prices fell in many parts of the country and the unemployment rate rose sharply, the homeownership rate declined by 1.7 percentage points. The current decline in the homeownership rate is approaching in magnitude the 2.3 percentage point decline observed in the early 1980s. How much more will it fall? To address this, a trio of New York Federal Reserve Bank economists — Andrew Haughwout, Richard Peach, and Joseph Tracy — propose the concept of the “homeownership gap” to gauge the downward pressure on the homeownership rate.

They define it as the difference between the official homeownership rate and a recomputed rate – the “effective homeownership rate” that excludes owners who are in a negative-equity position, meaning that the value of their houses is less than their outstanding mortgage balance. Such homeowners are likely to become renters soon, the economists reason.

Their estimate of this gap suggests that the measured homeownership rate will likely experience significant downward pressure in the coming years. “The current severe house price cycle, combined with borrowers who had little or no equity at origination of their mortgages, has led to a dramatic rise in homeowners with negative equity and, therefore, a large gap between the measured and effective homeownership rates. In some of the worst hit metropolitan areas, effective homeownership rates are 25 to 45 percentage points below the measured rate.”

While the recession has battered businesses around the world, it’s been a boon to the International Monetary Fund’s finances.

In its mid-year review for the fiscal year ended April 30, 2010, the IMF increased its estimate of its net operational income by around 50% to $686 million from the $452 million it had estimated in April 2009.

The IMF upped its estimate of loan income by $181 million, while its estimates of expenses declined by $109 million from April. Its earnings from investments and gold sales are also turning out to be higher than anticipated.

It’s hard to recall now, but in 2007, the IMF looked like a loser. Loan demand had evaporated as the global economy boomed. Few countries wanted its advice. The Fund was reviled by many in Asia and Latin America for heavy-handed interventions in the past.

In the year ended April 30, 2008, the IMF had a net operation loss of $117 million, and looked ahead to more red ink. But the world economy tanked, IMF loans jumped and the IMF members agreed the IMF could sell nearly 400 metric tons of gold.

The IMF is turning the proceeds from the gold sales into a kind of endowment. It will use the earnings from the money to fund the IMF even if loans dry up when the global economy finally recovers.