A low volume, high quality source from the demand side perspective.The podcast is produced weekly. A transcript is posted on the day of.

Sunday, October 28, 2007

Economic Performance by President

The economy has done better under Democrats. Surprised?

To be completely upfront, it is not our contention that Democrats have exercised a superior economic theory to achieve these results. While the theory may be better, it is more likely a function of the fact that Democrats have supported a broad constituency, Republicans have supported a narrower constituency, and the economy does better the broader the support.

The first chart, employment growth, is simply the average annual percentage growth in the number of jobs in the non-farm economy. The most interesting thing about this, to us, is that the weak job growth under Bush II has not translated into a corresponding rise in the official unemployment rate. (See sidebar.) This is because the participation rate, the denominator in the unemployment rate calculation, has been shrinking.

Shrinkage can occur from several causes, more people choosing college than the job market, retirement of workers, or workers dropped into the black hole called "discouraged workers." The last category comprises those who have given up looking. The unemployment rate counts only those who are actively looking for work. Another category which began to grow in the 1990s is the disabled, with a marked increase in people applying for Social Security Disability.

The second chart, growth in net real GDP, displays a measure that takes into account the federal deficit, including that amount borrowed from the entitlement trust funds -- Social Security and Medicare. Net Real GDP subtracts government borrowing from GDP. If deficits are justified as a stimulant to the economy, priming the pump, as it were, it makes no sense to count the amount used to prime as a product of the pump. Deficits are not a product of the current economy, they are a borrowing from the future economy.
It probably does not surprise you, sadly, that politicians for all their alarm about the fate of Social Security and Medicare have been moving money from these entitlements into the operating budget as fast as it is deposited. Thus, when the baby boomers reach for their social security checks, the operating side of the federal budget will have to start borrowing more or taxing more.
A final note: An expanded look at these and other measures of economic performance by president will be up on the web site in two weeks. Tomorrow on the podcast, we'll be looking at the measure of GDP itself. What does it measure? What are the weaknesses? Are there other measures?

Thursday, October 25, 2007

Forecast: Inflation and Recession

We are already in recession.
The various prognosticators trying to see over the horizon by jumping up and down on their statistical trampolines will not get the official word for another three months. But without housing employment, the US would have been in at best a stagcession over the past three years. Now there is no housing employment, and the consumer spending derived from home equity is gone.
Inflation is guaranteed by the bidding up of commodity prices and the flip side, the falling dollar. Very likely the Fed will panic again, this time to the upside. The same matrons screaming at their husbands during the credit crunch will be screaming just as loud for rate hikes when they see their dollars eroded by the very cut they demanded in the first place.

(Beware, I have learned my lesson, and I'm not calling for a precipitous drop in the dollar that would be indicated by the fundamentals, just the current slide. There are plenty of players with powerful positions who will do all they can to stem the tide. They may be successful for as long as eighteen months.)

Be that as it may. Tomorrow's Forecast Index on the web site will be a review of the past, in a probably futile effort to gain credibility by showing we've been right before. But I did want to get in ahead of the pack, or most of the pack, on this one.

Recession and Inflation

Crisis will be deepened by Fed action.

Tuesday, October 23, 2007

AWOL - Where is the political angst when you need it?

Listening to the first part of the House Financial Services Committee hearing on predatory lending and financial sector packaging is tedious. The consensus is, "Let's get the money flowing like it was before, but protect the borrowers from getting fleeced."

The money will not flow in a healthy mortgage sector in the same amounts, because those amounts were based on too low interest rates and packaging of mortgages to sell in shady CDOs upstream. Lots of cheap money leads directly to this kind of bubble and bust, it is the leverage that makes that kind of volatility possible.

Inflating home prices made people feel good, and lets them think that they are financial geniuses and promotes spending and so on, but in the end saddles people with debt they don't want and undermines the security of their financial assets and breaks their nest eggs.

The current hearings notwithstanding, and recognizing Chairman Franks went so far as to clear his calendar, nobody I am aware of is pressing the culpable in the recent financial sector screw-up or reforming the troops around legitimate policies.
  • Bombs are dropping on middle class America with housing prices crumbling. It is not only those losing their homes, but those who are losing equity who are hurt.

  • The bombers are the ludicrous mortgage peddling schemes, but they were sent into the skies by the too low for too long interest rates set by the Fed.

  • Traditional defense have been sabotaged by the same bogus financial actors who force-fed the mortgage peddlers. Bad loans were packaged and gilded with spray paint and sold upstream as gold bricks.

  • Yes, home buyers should have known it was too good to be true. Buyers of packaged debts should have wondered why they were so light. But even if all the naive or purposefully apathetic are punished, many millions of others are innocent victims.

  • Homeowners who were led out into the open by the Fed's low interest rates are being blamed for coming under fire. It's like blaming those in the twin towers for being at work in what they knew was a terrorist target.
The problem is that the generals are chicken hawks. The Fed knows nothing other than the big red interest rate button. The "Easy" button. The Supply Side strategy of the Bush administration never worked and never can work. The SEC has political hacks rather than marshals of the market.

Were the shoe on the other foot, and a Democrat in the White House, the traveling Republican bellows would be touring the talk shows fanning the flames of crisis into full-blown panic. Look what they did with 9-11.

On the other hand, the Democrats are revealing too much about themselves when they are not on top of this. This is not a passing problem. The housing sector has saved the economy during the past six years. Debt for households, debt for government, cheap money, falling dollar.

Interest rates can be low and stable if the credit worthy are the only people able to borrow and if margin requirements on every kind of financial exchange are raised. High.

Have the Democrats bought into market rhetoric? Do they believe the architects of this falling house of cards who seem to say the Market is still prescient, but that it needs to be calmed like an hysterical matron (Jim Cramer?).

To revisit stocks: Be sure, stocks are not up because of strength in their fundamentals or faith in the economy, but because the villas of SIVs and hedge funds got washed away and all that liquidity at the top has only stocks, commodities and currency hedges to run to.

There is no strength.

The dollar has been heading south for years, fleeing Supply Side II and Greenspan Cheap. Now, with Bernanke cutting rates, it's on the run. With it goes the Chinese yuan, being pegged by its government. Look for the rest of the world to try to quarantine the US and China.

Let's put it simply:
  • The Fed under Greenspan held short-term rates under water so long, they expired as a tool of economic policy. (See inverted yield curve. The back end of the yield curve is not responding.)

  • The Bush tax cuts and Fed bailouts and so-called financial innovation have liquidity sloshing around at the top. This is the excess in the financial system that is the source of instability.

  • Bush economic chicken hawks have spared the financial sector from even the most minimal standards. The bad apples have gotten into the barrel. Even Wall Street's less intoxicated voices can be heard calling for hedge fund disclosure and conflict of interest protections. The Bush team is in the bunker and out of earshot.
Dear Democrats: It's the economy, stupid.

Monday, October 22, 2007

Mortgage and predatory lending bill introduced in the House

Policy response is finally on the floor:

A House Financial Services Committee proposal goes part way to closing the barn door after the horses have been rustled.

“The Mortgage Reform and Anti-Predatory Lending Act of 2007” introduced today in the House Financial Services Committee steps up to some of the needed protections for homeowners. Still, those who were force-fed shady loans downstream from Bear Stearns will not fare so well as the befuddled buyers of them upstream. That is, the Fed is not going to bail anybody out with less than a six-figure income.

At least some action is being taken:

The bill will reform mortgage practices and improve consumer protection. The proposed legislation
  • Calls for licensing and registration of mortgage originators, including brokers and bank loan officers. It prohibits steering, and establishes "a federal duty of care."
  • Sets a minimum standard for all mortgages, including the condition that "borrowers must have a reasonable ability to repay."
  • Attaches limited liability to secondary market securitizers who package and sell interest in home mortgage loans outside of these standards. (Individual investors in these securities would not be liable.)
  • Expands consumer protections for “high-cost loans” under the Home Ownership and Equity Protection Act.
  • Protects renters of foreclosed homes from being evicted. Lease terms must be honored. Absent a lease, renters have 90 days.
Sponsors are: Reps. Brad Miller (D-NC), Mel Watt (D-NC) and Barney Frank (D-MA). "This bill represents a significant step forward to clean up and prevent a number of the questionable practices that, unfortunately, took hold in the mortgage lending industry in the last several years. I hope the industry will embrace the changes and allow the bill to move forward quickly” said Watt.

This is on the table, but it will be buried under hundreds of thousands of mortgages already signed.

At a minimum, the Feds need to mandate SEC regulation of hedge funds, at least with regard to disclosure. The corrupt repackaging of securities is just part of what is a bigger mess. They have apparently infected money market funds, supposedly safe havens. The reason hundreds of billions in bad paper can be floated so easily is that practices are not open to the public.

Sure, the ratings agencies broke down, but with transparency, objective eyes -- those belonging to non-clients -- would have exposed this stuff.

See our proposals for an effective response at Demand Side Economics Policy Index.

Nobel Prize for Superfluous Economics

I've never been a fan of the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel. Giving it to Milton Friedman at all and to the Chicago School folks 80 times is enough evidence the Nobel committee doesn't have intellectual sobriety. In addition to Friedman, they honored the mathematical sophistry of the authors of the Long-Term Capital Finance debacle, Robert Mundell before he took Argentina into collapse, and various others whose work was apparently incomprehensible enough to seem intelligent. Also honored has been the now-defunct Rational Expectationist school, whose presumption of omniscience on the part of all actors was a remarkable leap in search of the market.

John Kenneth Galbraith, Michal Kalecki, Joan Robinson and others of the first rank have been passed up. Thus I was predisposed to dismissing all Nobel recipients since Tobin until, of all things, they gave it to Joseph Stiglitz in 2001. Muhammad Yunus, the pioneer of micro-lending got a Nobel last year. But it was the Peace Prize.

The Nobel name has been used in general to glorify a market-first economic orthodoxy. The current winners Leonid Hurwicz, Eric Maskin and Roger Myerson, have, as I understand it, concentrated on a form of game theory called mechanism design whereby they attempted to construct models that could generate optimal outcomes in terms of public goods from market-type situations.

This is complicated, since the fact is that markets do not create public goods well. As Paul Samuelson said in 1954, no decentralized system will work for the production of public goods. It was apparently the work of the Nobel winners to try to design one.

Until they get it right and it becomes acceptable to the big guys in the private sector, we need to step back from admiring the intellectual dexterity and realize time is getting short. We need to establish clear rules for markets or they are not going to work. We're going to have unregulated financial markets hurting lots of people and eventually breaking down (unless the Fed steps in to bail them out). Oh.

We need to begin structuring and creating markets that will provide water, food and security to the destitute and environmental stability for the survival of the human race. Markets are powerful, but if they are left to their own devices, they go off in the wrong direction. The most basic game in Game Theory, the Prisoner's Dilemma, demonstrates that self-interest unregulated leads to sub-optimal results.

Against the backdrop of a burning world, the Nobel committee of the Swedish central bank is rewarding academic Nero.

Friday, October 19, 2007

5 Lessons and 7 Remedies for the Mortgage Meltdown and Credit Crunch

The meltdown in mortgages, overbuilding of housing stock and infestation of the world's financial markets by bogus instruments is a failure of the entire financial system: Banks, hedge funds, investment institutions of all types, rating agencies, the Federal Reserve Board and its chairman, local mortgage brokers and loan originators, state regulatory agencies, and individual home buyers. Ultimate responsibility for the order of the market lies with the Federal Reserve.

What are the lessons from the housing debacle that is now unwinding? That is, What are the lessons that should inform policy?

Too much congratulation and not enough corporal punishment is being dealt the Fed.

The need for financial markets to be regulated has been exposed by one crisis after another. The S&L bailout, the Long Term Capital Management fiasco, Enron and World Com and many more in between. Rather than set standards and hold to them, under Greenspan and Bernanke, there has been cheap money at the end. This in spite of a direct mandate from Congress.
  • The Fed is not going to regulate, or indeed, set any standard at all, nor use any tool other than short-term interest rates, no matter what problem confronts it.

  • The Fed is going to bail out the financial sector whenever things go bad for them. This insurance makes a mockery of the "risk" for which they compensate themselves so well. So mortgage holders should stop looking.

  • No other sector will be bailed out, because the Fed is in thrall to the financial sector. When banks moved to broad services over the past four decades, they took their control of the Fed with them.

  • Neither inflation nor recession is as important to the Fed as padding the financial sector. The need for "confidence" in the financial markets, which turns out to be a "confidence game," trumps both inflation and recession in the mind of the Fed. Prediction: As soon as financial firms and hedge funds signal their solvency, the Fed's practice will be to support the value of the dollar for as long as possible. This will be done for the benefit of its financial sector constituents. The announced reason will be to stem inflation pressure, but the inflation will be cost-push from higher commodities and imports, rather than demand-pull, and so higher interest will not touch it.

  • The financial sector controls monetary policy and monetary policy is out of control (see inverted yield curve).
The absence of action by the Fed is the big problem. The policy response MUST do what the Fed has not done and -- of equal importance -- institute a clear civilian control of the financial sector, both in fact and in the minds of the public.

Seven Policy Remedies

  1. Financial transaction tax, a .0025 tax on the value of each financial transaction. This one-quarter of one percent. This will be incidental to most transactions. 25 cents on every one hundred dollars, or 25 dollars on every ten thousand dollars. For transactions with high leverage, this tax is relatively more for the hedge fund, since they will incur the tax on the total no matter that their total is small. That is, if using a million dollars, they leverage another nine million for the transaction, the effective tax on them is 2.5 percent. If money is being moved higgley piggley to take advantage of short-term arbitrage, over a year's time it will be subject to the tax several times. The yield of such a tax would be immense. The cost to the real economy would be negligible. (This is similar to the Tobin Tax, proposed to slow down the mad rush of currency speculation around the globe.)

  2. New top marginal rates on personal income tax, no income source excluded, of 50% on $1 million or more and 90% on $10 million or more. Take the reward out of high risk. Return sobriety to corporate governance. The companies of Europe are winning with executive salaries one-third of those in the U.S. Top hedge fund managers make $1 billion per year.

  3. Reestablish the SEC. William Donaldson, former head of the SEC, whose appointment actually brought confidence in Wall Street back from the grave after the Enron and World Com fiascos, abandoned the post after three years. Partisan hacks returned to the posts. Donaldson has called for "getting tough" on conflict of interests, increasing oversight and closing the loophole that lets hedge funds play in the market without disclosure of their practices.

  4. Windfall profits tax. There are obscene rewards to those who take a company private, do financial slicing and dicing, and sell it back to the public. These and other financial gymnastics are today's replacement for productive work. They do not have to be encouraged in the tax code.

  5. No free lunch on bailouts. Companies and funds who are bailed out with cheap money from the Fed need to be identified individually and dealt with individually. Rather than this upper class welfare, there needs to be a price for liquidity, a share of the firm or specific repayment conditions, that benefit the government and the people who are footing the bill. Stiglitz seconds this suggestion in his piece:
  6. Those in financial markets who believe in free markets have temporarily abandoned their faith. For the greater good of all (of course, it is never for their own selfish interests), they argued a bailout was necessary. While the US Treasury and the IMF warned East Asian countries facing financial crises ten years ago against the risks of bail-outs and told them not to raise their interest rates, the US ignored its own lectures about moral hazard effects, bought up billions in mortgages, and lowered interest rates.


    It may make sense for central banks (or Fannie Mae, America's major government-sponsored mortgage company) to buy mortgage-backed securities in order to help provide market liquidity. But those from whom they buy them should provide a guarantee, so the public does not have to pay the price for their bad investment decisions. Equity owners in banks should not get a free ride.

  7. Mortgage loan disclosure. Surveys, investigations and anecdotal evidence by the boxcar load have shown that many home loan purchasers do not understand the terms of their loans. This is not confined to unsophisticated subprime borrowers. A simple one-page disclosure summary is available that sets things down in black and white. It needs to be mandated for every mortgage.

  8. Strict limits on the type of mortgage instruments. The ARMs promoted by Alan Greenspan are not appropriate. They are speculative instruments. Prepayment penalties are loan shark stuff. Congress must set a strict limit on the types of loan that are eligible for income tax interest deduction.

These are what could be done. The collapse in pother nations' economies undergoing similar stress in the housing sector did not happen. These countries have at least minimal standards for financial institutions and instruments. The rest of the world does not let financial markets regulate themselves.

Thursday, October 18, 2007

Stiglitz had it nailed from the beginning

The housing crash was inevitable . I didn't know how much we agreed until I read Stiglitz' piece today. Joseph Stiglitz is the most competent economist in the country.

Among other things:

There is a macro-story and a micro-story here. The macro-story is simple, but dramatic. Some, observing the crash of the sub-prime mortgage market, say, “Don’t worry, it is only a problem in the real estate sector.” But this overlooks the key role that the housing sector has played in the US economy recently, with direct investment in real estate and money taken out of houses through refinancing mortgages accounting for two-thirds to three-quarters of growth over the last six years.

Booming home prices gave Americans the confidence, and the financial wherewithal, to spend more than their income. America’s household savings rate was at levels not seen since the Great Depression, either negative or zero.

With higher interest rates depressing housing prices, the game is over. As America moves to, say, a 4% savings rate (still small by normal standards), aggregate demand will weaken, and with it, the economy.

Monday, October 15, 2007

How do you make sense of the markets, post housing crash?

ANOTHER Financial Sector binge covered up by the chief enabler -- the Fed.

Investors bidding up commodities, equities and currencies is the same thing -- dumping the dollar.

Look for a serious run on the dollar soon. By election time '08.


Think of the recent Fed bail-out as giving away money to the Financial Sector. Jim Cramer and the other hysterical old ladies of the high rolling investor class dropped their macho risk tolerance facade and started crying just long enough to get Papa Ben Bernanke to give them more money. Now they are busy converting that money into real wealth -- stocks and commodities, oil, gold, wheat -- and into secured financial wealth -- bonds.

The Fed's bailout follows the pattern of 1987 and 1998. Unregulated markets made fools of geniuses, upon which the Fed lent them the financial stability of the country so they could be geniuses again.

Now the market knows. Don't worry about risk. Papa Fed will bail you out. It's no accident that instead of vigorous industry, plant and equipment, we have instead the equivalent of a mammoth video game parlor called Wall Street. Fine for entertainment, but these games have real guns, and those are real people losing homes, families and hope. One of the things those real people don't understand is they are paying the freight

Certain inflation will follow the dollars fall and this bidding up of commodities. Pensions and endowments will lose their real value to that inflation. The financial system is gimmicked and rigged to such an extent the Fed has lost control.

It's not inflation OR recession. It's inflation AND recession.

If the Fed tries to stem the inflation or support the dollar with higher interest rates, it becomes a deep recession.

Why a run? This country's trade deficit over the past thirty years has put trillions of dollars in foreign hands. The money is in the form of securities, because those securities were a good deal with rising values. No longer the case. With the value of the securities fading and the value of the dollar falling, the foreign holders are seeing their investments eroded from two sides. Better get out sooner than later, hence a run.


5 Lessons from the financial meltdown in housing
7 Remedies for the Financial Sector

Friday, October 12, 2007

Caveat Emptor, Economics has been hijacked by pro-business apologists

You need to know: Economics has, in general, been hijacked by pro-business apologists.

Why do you need to know this? Because when economic reporting, economic predictions and economic measures of well-being are skewed toward corporate business, your welfare and the society’s are discounted.

Economics has reverted to a pre-Depression confidence in markets, it operates on a herd impulse and is far behind the curve. We’ll talk about the housing bubble in a later podcast, but here let’s use it for illustration of this point on the irrelevance of current economics.

The run-up in housing was well understood or should have been well understood by economists as a classic asset bubble.

The most prominent economist, Fed Chairman Alan Greenspan, was actually principle author of the bubble. When the economy began to flag in 1999 and 2000, Greenspan attempted to prop it up by bring interest rates down to historic lows. Later he extolled the virtues of adjustable rate mortgages, which kept the bubble rising.

This demonstrates two things.
  • Business and finance sector interests trumped common sense and good economics.
  • Common sense and good economics is in sufficiently short supply that economists of this sort are not hooted off the stage.

The herd.

It is said that if you have five economists in a room, you’ll get at least six different opinions. This joke is quite misleading. The differing opinions rise in large part from the economists need to explain why events are not doing what they ought to be doing. Virtually all economists see the world through the prism of their school’s theory.

The dominant theory in academics today is one or another version of free market knows best. When, for example, the housing debacle points to the fact that unregulated free markets produce chaos, there is among this group a frantic search for scapegoats, not a questioning of the premise.

The patent need for the government to come in and try to clean up the mess, including bailing out the financial sector and mitigating the suffering of millions of homebuyers, is ignored. These government clean-ups are not part of the market. They are “external” to the market. In fact, they are referred to as “externalities. These costs, nor the price of the bailout insurance, are not factored into the economy.

A better, if even more tragic, illustration of the market’s ineptness and the mass myopia of economists on account of pro-market bias is the complete absence of a market response to global warming. Oil, coal, and their attendant poisons are in greater demand than ever. The tidal wave of bad news looms above us, but the market ignores it, assuming perhaps the protection of an invisible force field, perhaps labeled "Free Market."

Tuesday, October 9, 2007

The housing debacle

What are the lessons from the housing debacle that is now unwinding?
First and most important, we were right. We predicted the housing collapse. We'll dig up the links and enter them on the web site treatment on Friday.

We predicted that the low interest policy of the Fed would produce the bubble. Others have talked about how the leverage and corruption of the mortgage brokers was key, but the cycle begins at the beginning -- turning housing into an investment. Speculation fever follows as prices rise. Then the leverage and the corruption.

Too much congratulations and not enough corporal punishment are being dealt the Fed. Under Greenspan and Bernanke, there was low interest at the beginning and bailing out at the end, with absolutely no oversight in the middle (or anywhere, really).

Second, others predicted it as well. Dean Baker is foremost among these. Baker of CEPR and now the American Prospect used a simple historical trend analysis comparing housing rents to home prices over time. It worked. He should be on every talk show in the nation.

Third, the people who didn't see it coming are still the "experts." (Much like in another key blunder, when Thomas Friedman and even the Neocons blew the Iraq analysis, yet are still showing up as experts. Compare this to others -- George McGovern, Joseph Stiglitz -- who offered accurate analysis and peaceful, productive resolutions. They are still on the outside.)

So, fourth, the people who say, "Nobody saw it coming" were and still are listening only to each other.
This debacle continues the ballooning of the financial sector. Henry Kaufman, formerly of Salomon Brothers and now of Henry Kaufman & Co. and hardly a communist, reported that the Finance Sector is now bigger than Health Care and Energy combined. Why not? Too bad some homeowners can't get hold of that "liquidity" and out from under their ARMS. Now is the time to buy stocks in the financial sector, before everybody realizes that -- just like in 1987 and 1998 -- the Fed is bailing them out. They get a hundreds of billions of "too big to fail" insurance for free.

Upcoming we'll look closely at tool the world class analysis at the Fed is linked too. It looks a lot like a catapult. The Fed's single blunt instrument is its control over short-term interest rates. It doesn't matter how smart you are, the interest rate is (1) ineffective against inflation, (2) operates with a lag in producing growth and is wildly inferior to fiscal policy for jobs, but (3) is great at bailing out a financial sector.

Outlook for the economy as housing deflates? Which economy?
  • The financial sector will likely bounce back with great new investment opportunities.

  • The wealthiest 20 percent will no doubt wonder what everybody is complaining about.

  • The middle class will watch their home values receding in front of them as they approach retirement.

  • The multiplier will bring down wages.

  • The collapse of housing could create more hysteria in the immigration discussion, as migrants move out of their niche in relatively low-skill residential construction and residential support and compete for other jobs.

  • A huge burden of private debt has been created, for the purpose of building an immense stock of passive housing vs. productive assets. And very little of this building was green. Both the debt and the character of the housing stock will weigh us down.
What a mess.

Friday, October 5, 2007

Why listen to the Market when it is talking gibberish?

Steve Conover at the Skeptical Optimist displays the vagaries of jobs numbers today and wonders what the Market will make of it.

Any Market response to jobs numbers is unintelligible over the sound of investors trampling each other at the exit door of real estate and "alternative" investment vehicles.

As Michael Metz, chief investment strategist at Oppenheimer Holdings said yesterday, the Market has stopped sending rational or intelligible signals.

Rational investors and students ought to see current strength in the stock market as money with no other place to go.

Chaos reigns in currency markets as well.

Strength in stocks in the face of an impending downturn in the domestic economy is, at best, Pig Latin.

see previous Demand Side take: Strong Stock Market, Weak Economy

Wednesday, October 3, 2007

How to create a market for planetary survival

Public policy can establish markets for specific products and unlock the economics of innovation

The market in environmental poisons is booming. Oil is over $80 a barrel.

Approximately zero dollars of that eighty finances mitigation of or adaptation to the direct results of using that oil.

Why no accounting? The cost of the rapid deterioration of the planet as a habitation for people must have some dollar value. This is a puzzle free market apologists don't like. Global warming, they say, is something called an "externality." External to what? Long after the plastic toy is discarded, the gasoline burned and the automobile crushed to scrap, these greenhouse gases will continue to entertain us.

The environmental effects and their costs are external only to the purchase-sale transaction. This transaction is effective extent of the market into the real world. This market failure has driven governments to construct the highly imperfect remedies of carbon trading and carbon taxes, clumsy attempts to have the price include at least a fraction of the cost. It hasn't worked.

The right way to make a market for planetary survival was outlined recently by Dr. Jonathan "Jack" Frost of British fuel cell developer Johnson-Matthey. He spoke at a recent Tyndall Center conference on environmental finance.

In a completely unassuming manner, in twenty minutes of presentation and ten minutes of Q&A, Frost nailed the principles of an economics of innovation to the wall and pointed to it as the way to engage industry in innovation rather than obstruction.

The illustration that convinces is the historic clearing of the smog from the atmosphere, which was sponsored by California's emission-reduction mandates. Cut emissions by half? Technically impossible at any by the most ludicrous price. Can't be done. Then came the catalytic converter. A catalyst on a consumer device was almost unthinkable. But the catalytic converter, a subsequent modification to it, and other technology now leave emissions at .001 (one one-thousandth) of their former level. Normalizing for all factors, its cost in the price of a new car is zero.

Better to listen to the podcast with this link. (The Tyndall Center has a link to a videocast.)

Public policy acting for the public good can create the purchase-sale condition for products of all kinds, not just the power plants and vehicles. The major problem is not the politics. It doesn't cost a fraction of the subsidy programs currently favored. The problem is identifying what we want and enforcing it while being sensitive or at least aware of the supply chains of an industry.

We're getting it together to put up a more extensive discussion of the economics of innovation as outlined by Frost on the web site (demandside.net). Dr. Frost kindly provided some links to research when we prodded him after the conference. None of it is as cogent as the Tyndall presentation.