free lunches and the rule of law

"Nothing is free in this world."  That is one of the quotes I heard growing up on almost a daily basis.  Usually it was from my father, once again reminding me of something that I needed to do.  However, there may be no more of an apt quote to describe wealth creation in our society.  Contracts and business relationships are based on a symbiotic relationship between two parties: each offers something the other desires, and the parties offer to provide something the counter-party desires in return.  At the end of the day, each side is better off as they receive a benefit that they could not provide to themselves, and in order for the transaction to occur that benefit must at least be equal to the value of the payment in the mind of each party.  Hence, these transactions are often wealth generating, as each party is in a position they think that they are better off, and therefore more wealthy, than they were prior to the transaction.

In my opinion the Obama Administration does not recognize the market as a wealth creation mechanism or at the very least underestimates its importance.  Private transactions are the engines of economic growth, and if Obama were truly interested in turning around the job market and reinvigorating the economy he would put into place polices that further increase the incentives to do business such as lowering marginal tax rates, reorganizing and simplifying federal agencies in order to decrease complexity in industry and lower the barriers to entry, and begin addressing long term budgetary issues no so that markets will be reaffirmed in their belief of the long term solvency of the federal government (keeping low the cost of credit).

However, all of these policies have tradeoffs, be it decreased federal revenue, loss of some services or decreased payouts to those receiving entitlement payments (although it is worth to note that most of these savings would be at the expense of future benefits, not those currently on social security and medicare).  Many countries are already taking such measures, and they aren't your traditional list of unfettered capitalists: the United Kingdom, Germany and even partially France.  However, back in the good old U.S. Obama has made federal government spending in the form of jobless benefits, stimulus, and other spending programs the key to his economic development strategy.  According to Obama and the neo-Kenyesians who push this strategy, the U.S. economy's main problem is lack of demand, and that by pouring money into the system in the form of government contacts and welfare, demand will be boosted and the economy will grow.  This is partly the policy justification for the stimulus back in 2009, the continued extensions of jobless benefits and the current push to provide bailouts to that state governments so that they are not forced to make tough political decisions such as whether to fire teachers or raise taxes.  Obama continually dismisses the negative effect this spending has on the budget (which is completely financed through borrowing as the deficit is in the trillions of dollars) claiming that the extra debt is hardly a drop in the bucket compared to our total liabilities.  Therefore Obama is basically selling the position that the spending is all gain and no pain: we will experience growth now and the cost will be little more than interest payments down the road.

This brings me back to the adage, "Nothing in this world is free." Obama's policies seem to run afoul of this rule, and luckily more and more people are beginning to notice it.  Despite the administrations claim that the stimulus has created around 2.5 million jobs, which it has no way of supporting or justifying, there is little sign that it has had an overall positive effect on he economy.  The administration prefers these types of policy choices, whereby they can tout benefits immediately and push any potential liability down the road.  Well by this logic, why do we ever stop stimulating the economy? If wealth can be created simply by government spending, we should have government spend as much money as possible.  It's the elusive free lunch! The truth is that this type of spending dose little to encourage long term investment - the engine of wealth creation - and its adverse effects are simply kicked down the road.  This is endemic in many of Obama's policy choices: the healthcare bill, extension of jobless benefits, and all the other debt financed spending.  You know the day of reckoning for this debt is coming when even Western Europe is getting serious about fiscal restraint. Mr. Obama, there is a reason your European colleagues have rejected you calls for a new round of stimulus: even they no longer buy the hype that you can spend your way to growth.

On a slightly unrelated note, I also wanted to briefly discuss an issue that has become more and more troubling.  Since coming into office President Obama has done more to circumvent the rule of law there perhaps any president since FDR.  First, there was the Chrysler and GM bailouts, where Mr. Obama first "put his boot on the heel"of secured creditors in order to appease his union constituency (I documented it at the time here, here, here, here and here).  The bankruptcy system in this country is the envy of the world, and although it may sound counter-intuitive that is a very good thing.  Banks freely lend to businesses and homeowners because they have a mechanism to have that loan repaid even if the borrower defaults.  Usually this insurance takes the form of a security interest in property, whereby the bank will legally be allowed to take title upon default.  However, the system will only work if security priority rules are objective, straightforward and made prospectively.  Without this type of certainty, the lenders will not have faith in the system, and lending will dry up.  Just ask any entrepreneurs in Africa or Eastern Europe about their access to credit in countries that don't have such rules.  The economic growth of these countries suffers enormously as a result.

The GM and Chrysler bailouts were one example were the rule of law in credit allocation was eroded, and the BP shakedown for a cool $20 billion is another.  First, and let me make clear, it is completely BP's liability to compensate those who were adversely affected by this oil spill.  No one challenges this point.  In order for capitalism to properly function, an negligent or intentionally injured third party must be compensated when another party's actions have caused it economic damage.  This forces companies engaged in risky enterprises to take risk into consideration and price it into any business plan.  Just making BP pay these damages will incentivize other oil companies to either beef up their safety and security measures, purchase more insurance or a combination of both.  This is a good thing and example of the market's ability to absorb new information and price assets accordingly.  However, I absolutely do not agree with the President's choice to force BP to set aside $20 billion for claims to be distributed by a third party.  Although this may have been a smart business decision by BP (showing the public it s serious about its obligations, providing a low overhead way of distributing damages and otherwise forgoing at least part of what will be millions in legal fees by settling with some people quickly), BP's original announcement came after a meeting between its Chairman, Mr. Obama and Attorney General Holder.  I'm sure the threat of criminal investigations didn't come up in that meeting.  No I bet there was no quid pro quo at all.  Why would the Justice Department want to investigate the BP Chairman of the Board at all? How could a swedish director have any type of criminal liability for an explosion that happen in the Middle of the Gulf of Mexico?  The reality is there is no possible way to impose criminal liability on a director for this type of accident, although the threat of such an investigation is one hell of a bargaining tool...


What's more is the fact that Mr. Obama is once again rewriting the rules for creditors in an attempt to put politics ahead of the rule of law.  BP could not possibly come up with $20 billion cash without severely affecting its liquidity and cash flow.  Therefore it is making payment in roughly $1.5 billion quarterly installments.  However, until the total is paid, BP was forced to allow the federal government to put a lien on approximately $20 billion of BP's assets.  This may sound fair, but in reality this is giving the Feds first crack at BP's assets should a bankruptcy occur.  This secured interest is now on par with other secured creditors and I have no doubt that in the event of a bankruptcy the feds would be fully repaid at the expense of older creditors.  Although it may sound innocuous and just for the claims of those who have been damaged by the spill to be given a higher priority than creditors, this is simply not how our system works.  Congress designed the secured credit system as a way to ensure the adequate allocation of credit and it has worked exquisitely over time.  Capital from all over the world flows to the U.S. because of the protections it is provided and the impartiality of the courts that uphold the rules.  By turning the law on its head and giving the damages of tort victims higher priority than creditors, some faith and belief in the system is lost, and the rule of law eroded away.  Although innocuous in the short term, over time this trend will have devastating effects on our financial system.  Creditors will begin to price this uncertainty into the price of credit, making it more expensive.  Politically risky activities will begin to find it harder and harder to find credit at all.  This culture of ignoring the dictates of the rule of law, coupled with our increasing debt will, if let unchecked, eventually destroy credit allocation as we know it in this country.  Don't think the U.S. will be a financial powerhouse for ever, as money is the most fungible of all assets, and the flow in to the U.S. is surely vulnerable if the risk of loss is too high.  To protect against this, we must maintain the rule of law and not succumb to the political allocation of capital and economic rights that is more akin to Iran or Venezuela.

campaign finance: protecting people who can't think for themselves

So I just wanted to say a couple of words about the DISCLOSE Act that is currently being debated in Congress.  According to its authors, the DISCLOSE Act is designed to remedy the so-called problems created by the Supreme Court last year in their landmark Citizens United ruling.  Here is the narrative according to Nancy Pelosi:

The DISCLOSE Act is essential to ensuring that the American people – and our democracy – are not overwhelmed by special interest money and influence in our elections. In its decision in the Citizens United case, the Supreme Court opened the floodgates to unrestricted special interest campaign donations. Congress must act to ensure that the bank accounts of Wall Street and insurance companies will not drown out the voices of America’s voters. This legislation restores transparency and accountability to our campaigns, and ensures that Americans know who is really behind political advertisements. This bill requires corporations to stand by their ads in the same way candidates do, and prevents foreign-owned entities from participating in our elections. It prevents the use of taxpayer dollars to sway elections, and sets high standards for financial disclosure by outside groups seeking to influence our democratic process.

In reality the court in Citizens United said this: the government cannot penalize or prevent a corporation, union or person from spending their own money, independent from any candidate, on television ads, books, articles, movies or any other kind of speech.  The limits on the amount of money people and corporations can contribute directly to a candidate is still valid, and special interests cannot use money to bribe candidates.  All the court said was that if a corporation wished to make a commercial that addressed a particular issue or candidate, then that is their right under the first amendment.  And what is wrong with that?  Shouldn't we encourage the free flow of ideas?  In effect, the Court said that this type of speech, where the corporation is the speaker and the general public is the listener, cannot be attacked by the government.

So in effect the Democrats are scared to death that these corporations are going to have too much influence because they can explain their message directly to YOU!  For this type of communication to be a bad thing, then the dems must assume one thing: that the public is so stupid and easily misled that they cannot be allowed to hear the ads at all, lest they fall under the control of corporate brainwashing!  Seriously, they are so worried by the fact that information about candidates and issues will come from sources other than the politicians themselves that they scrambling to get an ad hoc DISCLOSE bill passed by July 4th.

There is also a great deal of obvious hypocrisy regarding both the Democrats reasoning for needing campaign finance laws and in the proposed implementation of the DISCLOSE Act.  First, Democrats claimed that the Court was flat out wrong in Citizens United and that Congress does indeed have the ability to restrict corporations from using their own funds on political ads.  According to dems, corporations are not persons and have no right to free speech.  Well according to that logic the federal government would be able to censor MSNBC, the New York Times (both owned by corporations) and even other business associations like LLCs, partnerships and closely held corporations.  This logic should be abhorrent to anyone who values the first amendment.  The reason these media companies aren't screaming out loud is that they are currently exempt from the regulations, but that could change on a whim because what Congress giveth, Congress can taketh away.  However, they are perfectly happy right now with their monopoly on reporting and presenting political issues, and want to make sure it stays that way.

Secondly, the DISCLOSE Act does a great deal to hinder who is able to present ads, putting restrictions on corporations who, although incorporated in the U.S., have at least 20% foreign ownership.  This would include thousands of companies including the likes of Verizon and Shell, for instance.  However, foreign unions such as the Service Employees International Union (SEIU) are not blocked out.  They will still be able to say what they want.  Additionally, unions would be exempt from the requirement that anyone who negotiates contracts directly with the federal government from placing ads.  That's right, now the public employees unions, who negotiate directly and often with the government over compensation, work rules and benefits, would still be allowed to place the ads despite this obvious conflict of interest.  Contrast this with a complete ban on spending by corporations who deal directly with the government.  Now personally I would be in favor of letting these groups do what they wish, but the blatant, partisan favoritism shows exactly where the democrats true intentions lie.  They are attempting to use the act for their own advantage, burdening  traditional Republican supporters, while advantaging their own.  A new era of transparency and post-political attitudes indeed.

my boy rand paul

So first of all I haven't updated this thing in over a month, and I have lots of excuses.  I was taking my last few finals in law school, and I also don't currently have a functioning computer.  I am hoping to write several posts in the next week as there is a lot to talk about including potential NCAA football conference realignment, Elena Kagan's upcoming confirmation hearings, and the gulf oil spill has even made some people speculate that the Senate will move on cap and trade this session.  I will address these issues at a different time.

For now I just want to say a few words about my boy Rand Paul.  Anyone who new me during the 2008 election cycle knows that that I was a steadfast Ron Paul supporter.  I obviously knew that he had no chance at obtaining the GOP nomination, but I still thought his campaign did a great job of bringing about a resurgence of the libertarian leaning edge of the republican party.  In fact, I personally credit with Ron Paul for providing at least part of the spark that his given rise to the tea party movement.  Naturally, now that his son (who holds many views that are in tune with his father) is running for Senate in Kentucky, I am fully supporting and following his campaign.

A few weeks ago, Paul committed what many people are calling a huge mistake.  He went on the Rachel Madow Show and said that he did not support portions of the 1964 Civil Rights Law that prohibited discrimination by private individuals and businesses.  He also reaffirmed his belief that the portions of the act that prohibited state and local governments from discriminating based on race (basically prohibiting Jim Crow laws) were necessary, just, and fully appropriate.  Many members of the media jumped on these comments, and although they stopped short of calling him a racist, they claimed the comments showed that he was too radical to hold public office.

First, I must state that I personally agree with what Rand articulated on MSNBC.  I don't believe it is the role of government to mandate who a private actor can or must serve.  However, that does not a racist make.  I believe in letting private actors set their own rules, and allowing the actors to make rational decisions based on the incentives provided to them.  In fact, I think you could make an argument that this would be a better policy.  Not only would individual actors in this scenario have more liberty and freedom, but a public understanding that the government is not the primary tool for eradicating racism could potentially do more to help stop racism than the law itself.

First, let's imagine a scenario where the 1964 Civil Rights Act did not address private discrimination.  Obviously, then any business or restaurant could discriminate an not serve someone based on race.  I believe that a majority of people (including potential customers and suppliers) would find this abhorrent.  In fact, I'm sure many people would not do business with such an institution.  These types of boycotts were already taking place and had been somewhat effective prior to the 1964 Act (for example look at the Montgomery Bus Boycott which nearly bankrupted the line).  Now, after the Act is passed and Jim Crow is dead, it is my belief that that these types of private demonstrations and boycotts would have become even more effective.  With out the state government's racist laws propping up these private discriminators, there would have been far fewer ways for boycotts and sit-ins to be disrupted.  Additionally, I believe far more people would take up the cause of supporting such a cause if they believed that such an action was the only way to remedy the situation.

Now many will argue that racism was so institutionalized in the South that private boycotts would not have been enough.  We needed strong federal intervention to break the spines of the evil racists.  Unfortunately that is an untestable hypothesis as we can't know what would have occurred in that scenario. I don't live in the South (I live in Texas! ha) so I'm not sure how many people are still out there denying black people a seat at the lunch counter, but my general inclination is to say its better than it was.  However, how much is attributable to laws prohibiting private discrimination rather than a shift in attitudes brought about by the fact that these horrors were being put in the lime light is debatable.  Regardless, even if we assume that more discrimination would occur it almost certainly would be limited to smaller business in restaurants that only have one location that serve mostly a racist clientèle.  Obviously it would be unfortunate that people would be denied service in these places based on their race, but are these few disruptions worthy of the long arm of government meddling with the affairs of private actors?  The Civil Rights Act has probably cost billions in attorney's fees and court costs to enforce, and has surely led to many dubious claims over time that burden the justice system and drive up the costs of litigating and of just doing business.  Do the benefits outweigh the costs? Debatable.  But just cause you go one way on that issue does not make extreme, a racist or unfit for office as some of Paul's haters have contended.