Personal Finance Guide: A Review

Recently, my wife and I began to put together our first real budget.  We have paid all of our debt and we would like to begin saving a substantial amount of money so that we can one day put down a large down payment on a house.

Since we have been focused on finances recently, we have both been doing research.  My wife is reading a book written by "America's Cheapest Family," in order to get ideas on how to reduce our grocery bills and to write a great yearly budget.  I on the other hand continue to listen to one of my favorite radio shows on NPR, Market Place Money(if you haven't listened to this show you have to podcast it! [ www.marketplace.org ]), but I've also started looking into other sources of great information on the web.  One the recent finds that I really like is a blog titled, Personal Finance Guide:  Professional Guide to Your Personal Finance, and you can find it here:  http://www.personal-finance-guide.org

 The site is very easy to navigate and if you are having any financial problems or questions, it has very direct answers that are easily understandable to the average layman.  The blog covers a wide variety of topics.  Things like loans, bankruptcy, real estate, dealing with college financially, investing, and how to save money.  One of the things that I really liked was that it broke down different types investment strategies into simple terms.  For instance, I was reading about the basics of stock trading (a dirty business if you ask me and one I equate to white collar gambling, but my wife says I can use the money we have in our Scott Trade account and play with it) and also the basics of bonds.  I knew very little about bonds before reading the explanation there, but I feel a little more comfortable with the concept now.

If you are interested in financial matters,  The Personal Finance Guide is an excellent place to find answers.    http://www.personal-finance-guide.org/ 

Cat on a Hot Tin Pan Alley Roof

Everywhere you look there's more hurt for the music industry. Rather, more hurt for large recording labels. A recent article from Encore refers to a lawsuit by Eminem's publishing company, FBT Productions, against Universal Music Group in regards to unpaid royalties from digital downloads. The $1.6 million sum is rather unimpressive as far as industry lawsuits go. What matters it the resounding effects of the lawsuit's outcome. The debate is whether digital downloading falls under licensing or distribution royalties. Being that (legal) digital downloading is relatively new there has yet to be any clear definition on the subject, but one of the things you will notice about the above article is how Steve Jobs pops into the picture. Jobs' presence in music lawsuits is ominous yet comforting, much like witnessing a vision of the virgin mother in your taco platter from Burrito Boy. Jobs has been using Apple's sway to control the flow of royalties in the music business for a few years now. Jobs hotly contested a motion to increase iTunes royalties paid to publishing companies by $.06 per song, a number Apple contests would render iTunes a liability rather than an asset. Another important influence he's had is the controlled rate of download at $.99 per song. This is a number that the RIAA has been contesting for years and yet is still a number that Jobs fails to budge upon.

What does this mean? When the hottest artist in the businss, Justin Timberlake, disappoints with first week sales of 700,000 instead of immediate platinum status, it convinces people just how prevalent digital downloading has become. When the RIAA announces that it can no longer support litigation costs against downloaders and has thus decided to drop all such lawsuits it means that circumstances have spun out of the RIAA's control, and that the public has loudly resounded popular music is not worth paying for (a sentiment hotly contested with the mixed results of Radiohead's In Rainbows release). Consider that the recording industry has no control over how much to charge over this new consumption idiom and we see how the traditional music industry model is spiraling out of control. Sadly, the recession-proof entertainment industry is feeling the hurt like the rest of us. After years of legislation and contract models favoring the big business practices of record companies we are now coming to a point where it will become less and less profitable to maintain a major record label. With tools like MySpace, Garage Band, iTunes, ReverbNation, and a host of other digital DIY services you too can become a successful performing artist, and without giving the majority of your earnings to big business. I hope this ushers in a new era of the working artist, where musicians can support themselves by doing what musicians have done best all along: performing to the masses. Look for new and innovative ways musicians choose to market themselves, as it will likely be the means with which new popularity is established.

Sign of the Times

Selling the Bailout

It is clear that, barring a complete overhaul of the Paulson Plan, the bill currently floundering in congress is not going to attract the votes of the stalwart members of Congress (which, it turned out yesterday, are in the majority). Representatives and their constituents are concerned about the philosophical nature of the plan (a drift towards socialism, that bogeyman of American politics); the perception that it rewards greedy and unwise Wall Street managers at the expense of average folk; and the political ramifications of all of this. Clearly, therefore, what we are dealing with here is a PR problem on a massive scale.

Of course, Paulson isn't helping on this front. When his original draft of the bill is three pages long and basically gives him complete, unfettered control over a chunk of money that is larger than the entire GDP of India, he didn't make too many friends. Among the American people especially. The fear that this ex-Goldman Sachs CEO is enriching his friends at our expense really is a valid concern: recent revisions to the bill, however, have softened the original proposal considerably, complete with provisions to limit executive compensation and an equity stake in the companies themselves (plus a vague guarantee that the Treasury is repaid within a certain set period of time). This should calm all those anxious heads (like mine) out there that balked at the original plan.

Something tells me that if Americans truly understood the extent of the problem, there would be more public support for this plan. The problem is that our financial system has spiralled so out of control over the last twenty years (and especially in the last 8) that it is now too exceedingly complex to grasp. Even top Wall Streeters don't understand the depth of this crisis, where all these toxic mortages were bundled off to, how the $60+ trillion derivitives markets (Buffett's "financial weapons of mass destruction") will respond to the fact that there is suddenly less money in the world, etc. They are on tenderhooks just like we are. The media has been doing a truly commendable job explaining global finance over the last two weeks, but some of this stuff is closer to quantum physics than it is to simple supply-demand macroeconomic models we've all learned in high school. Expecting Americans to "understand" what's going on might be too much to ask when nobody seems to get it.

However, this much now seems clear: if we don't act, we face certain financial disaster. The problem here, again, is one of abstraction. I imagine lots of people out there are picturing all the towers in lower Manhattan with "For Sale" signs out front and a lot of guys in Gucci suits waiting in line for some bread. They don't picture themselves in the same situation; after all, it was Wall Street that messed up, right? And despite all the turbulence on the markets these last couple weeks, the majority of Americans still have their jobs, drive to work, plan for retirement, and do everything they were doing before the financial hurricane hit. So why should they bail out Wall Street tycoons? Let them suffer a little bit for their greed.

The problem with this understanding of the situation is that it assumes one can keep away from the tangled mess of Wall Street, could simply open up accounts in banks that are completely independent from the asset-backed securities market, etc. Of course, our financial system don't work this way, and it really is impossible to stay out of the meltdown. Your job security, your ability to buy a new car, your 401(k): all of these are tied to the vageries of the markets. So before we adopt an attitude of Schadenfreude towards the tycoons, we need to understand that, like it or not, we are all bedpartners with Wall Street.

Collapse is an abstract phenomenon until it actually happens. But you don't have to dig too deep to unearth evidence that collapse was imminent two weeks ago (as it might be right now). On Sept. 16, for example, we actually experienced a near seize-up of the credit market. For a day or so, trading in commercial paper - that simple money-market instrument that allows businesses to take large, short-term loans with low interest rates - ground to a halt. Since businesses often don't have the money on-hand to make significant investments, commercial paper is essential to a well-functioning economy. It is the oil that keeps the machine running smoothly. If this market would have remained out of commission for another few days, it would have been ruinous.

Paulson, Bush, Bernanke, Barney Frank, and all the other important parties in the bailout deliberations have talked up the potential for disaster here. But the American public isn't buying it. Our legistators are losing the PR battle, and they're going to need to retool quickly to pull this bill away from certain doom. Here are a couple of PR suggestions to make this bill go down a little easier with regular Americans:

1) Stop using the word "bailout." Yes, that's essentially what it is, but it minimizes the importance to everyone of getting something passed. "Bailout" makes it sounds too contained, like the financial sector exists in isolation from the rest of the US economy and the pocketbooks of Everyman. It also puts the emphasis on saving the asses of a lot of fat cats who, most Americans would agree, don't deserve saving.

2) Ramp up the language. Bush has talked about how "this sucker could go down"; others have said that the consequences of doing nothing "could spell disaster for the economy." Let's cut the qualifiers out here. Bush needs to be saying that unless we act, this sucker will go down. There is a time for communicative nuance and hedging, but now is not it. Our leaders need to be direct and urgent with their message. I'm not suggesting that they fear-monger ("The Depression is coming for your children!!"), but the language needs to be unequivocal.

3) Stop blaming each other. I know that many top pols have talked about the need for bipartisanship here, but who's actually doing it in Washington? McCain "suspends" his campaign to put "country over politics" only to insert himself into a huge partisan circus, holds up the deliberations, and then - gallingly - blames Obama and the Democrats for failure of leadership. Like Paulson getting on his knee in front to Nancy Pelosi, there is a belief here that Democrats are somehow responsible for the actions of House Republicans. The blame game goes the other way. In an act of supreme stupidity, Nancy Pelosi chided the Republicans right before taking a vote on the bailout. (Although it should be noted here that the Republican claims that Pelosi's speech doomed the vote is risably ludicrous.) Our politicians talk the bipartisan talk, but when the rubber hits the road, everything turns rancorous, arguments spill into the Capitol halls, and politics once again reasserts itself as the dominant force. In addition to the financial crisis, our leaders are creating a political crisis in Washington, further eroding confidence in the American system around the globe and domestically. Reps in the House need to stop blaming each other and start working together: we can only handle one major crisis at a time.

Something needs to change quickly in the way Washington is handling the Paulson Plan, for it's not just the fat cats bankers who will be hurting when "this sucker goes down."

Down in Flames

Today was indeed a momentous day in the ongoing financial crisis. With the House rejecting the new-and-improved Paulson Plan and the Dow falling 777 points, its biggest one-day loss in 20 years, once again our economic future is teetering on the edge of disaster. Congressional leaders need to regroup quickly to patch up the dam before it bursts: the Paulson Plan is covered in warts, and it is in no way a permanent solution to our unsustainable financial culture of debt and irresponsible leveraging, but inaction has the potential to be far more devastating than action.

This really is a microcosm of the global warming argument circulated widely on the web: the risks of doing nothing far outweight the potential waste of doing something that's not necessary. Of course, many House Republicans, who voted 133 to 65 against the bill, believe that the bailout plan isn't worth the expense because it probably won't work anyway. This is the equivalent of saying, "our climate is changing too rapidly for us to do anything about it anyway, so trying to stop it is like throwing ice cubes at the sun." Although according to most sources House members are united in the belief that something must be done urgently, the collapse of the bill puts the entire endeavor in jeopardy. Pelosi will call another vote; but why should we expect a different outcome when the nay-sayers are voting primarily on principle and politics, not on the specifics of the bill?

First the principles of the matter. The GOP-suggested provision to the bill - that the bailout basically be treated as a large insurance plan - never made it into the final version. Yet, by most accounts, this is not what's holding up the fractured GOP House members. The primary issue here is one of principle, namely that a bailout of this magnitude is tantamount to an un-American socialist coup. Jeb Hensarling, a Texas Republican, fears “the slippery slope to socialism.” In remark after remark by many of the House GOP minority, similar sentiments are expressed. Now, we can all be sympathetic to these comments - very few people in the country actually look forward to putting down their hard-earned money to get liquidity flowing through our markets again. But a time for emergency action based on the facts is not a good time for ideological arguments. Many House Republicans are not just rejecting the bill because they don't think it will work, a legitimate reason; they are rejecting it because it goes against every free-market fiber of their being. Ideology trumps action.

Another divisive issue in the bailout vote today had to do with the contentious politics involved. As soon as this thing passes/crashes, congressmen and women will be returning to their districts to campaign. The fact of the matter is that a majority of Americans are still hostile towards the Paulson Plan (although the margin has been shrinking). Supporting an unpopular bill a month before an election is never good politics. Furthermore, the future political dividends on a bailout vote are complex: if the bill passes and the economy stabilizes, people will still go on criticizing it simply because they never experienced how bad it could have gotten. Republicans, therefore, could argue that they fought against wasteful, socialistic Democrats in the House (net effect - the GOP wins). It is sad to think that in the best case scenario, those who vote for a bailout will probably not get any credit for averting disaster - after all, potential disaster is still an abstract concept. If the bailout passes but then fails to staunch the bleeding and the economy dives into a recession anyway, the GOP's view will be born out and voting "no" shows prescience and wisdom (the GOP wins). On the other hand, if the GOP effectively blocks this bill and the credit markets seize up, lending stops, businesses falter, employees are laid off, foreign central banks reconsider the security of their US treasury bonds in the face of a plummeting dollar that is tied of the plummeting cost of oil, and the ripple continues on down until every American is affected, then I think we could safely say that the Republican party is done for. In fact, David Brooks did come out and say that the other day (if this happens, "the GOP will cease to exist").

Again, getting back to risk assessment: provided the economy is able to creak along and nothing serious happens here, the GOP wins (although, we should remember, John McCain supported the bill today). The dissenters in the House have staked their political careers on this premise. But if our economy starts to go down in flames in the next couple weeks because of congressional inaction, the GOP will be at the center of it.

Update: This cogent analysis of the political crisis that yesterday's no vote represents was published by David Brooks this morning.

Newt for President?

I think we are all a bit shell-shocked by the whirl of events, which makes it hard to know what to think. Add to an already complex financial conundrum, the various policy issues at play and, now, high political theater and it almost boggles the mind.

Looking over the recent posts, I am both impressed with the quality of commentary and relative paucity of posts/comments, which may reflect the complexity and speed of events. We are still trying to synthesize it all. Major ‘credit’ goes to Zach, for his cogent, thorough and innovative thinking on the crisis. But he is also a hard act to follow...

Pulling together my own thoughts (and with goodly prodding from others, including Zach), I’ve had a hard time believing that the very people who helped to get us into a very large mess (from ex-Goldman CEO Paulson to Rep. Barney Frank and Senator Christopher Dodd to Ben Bernanke’s weak dollar and negative real interest rates) will miraculously devise a solution. Talk about the fox in charge of the chicken coop!

As Zach wisely points out, a drastic government bailout should be the last option, not the first. As Zach also mentions, Alan Greenspan doubts whether $700b would be the end of it, once we start (no, continue) going down the government takeover parade route. (Our government now owns/runs, though AIG and Freddie and Fannie, what is it? half of the insurance market and half of the nation’s mortgages?) Chris Bailly, in his equally wise series of questions to my last post, brought up the huge question of moral hazard which, after Paulson’s and Bernanke’s shoot-from-the-hip recent interventions, may already be too far out of the barn to ever get back in – despite Paulson’s belated attempt to restore a bit of real-life hazard by letting Lehman fail.

So the question arises, what if $700b is just a drop in the bucket? (Apparently the wet finger number in the air comes from 5% of total US mortgages.) And once every US and foreign bank which rashly bought ‘toxic’ mortgage backed securities is taken care of, who and what else will get in the bailout line, the large garage sale of Clean Your Balance Sheet Now, care of the US Gov’t? How about the credit card companies? Or all those shaky car loans and leases? While we are at it, why not an even more massive bailout (apparently $30b for Detroit was already slipped into a recent spending bill) for our failing car manufacturers? Once Washington gets into the French-specialty business of supporting national champions and trying to keep every bad business, including many banks, afloat, where does it all end? With a massive flight from the dollar (as Chris points out) that could end its position as the world’s reserve currency? In national bankruptcy? (OK, OK, that’s hyperbole.)

Call me crazy, but I’m starting to listen to people like Ron Paul and Newt Gingrich who have opposed the boondoggle from the start. Gingrich, perhaps sagaciously, recommends scraping the ill-advised bailout (which House Republicans, complaining of tsunami waves of phone calls opposed, are ready to bail on) and taking some different steps. First, change the inane ‘mark to market’ accounting rule which caused the downward spiral in balance sheets to occur and change it to a three year moving average for these toxic assets. (So instead of immediately reducing the mortgage securities to fire sale values of 10-15%, forcing companies to urgently raise capital, you take the slow road, allowing the market to work out the values over time.) Second, instead of buying these impossible-to-fairly-value assets, offer preferred debt loans at better than market rates to help these companies raise the capital that Zach points out is the second, economist-preferred means for correcting these lopsided balance sheets. (I might take issue with Zach’s suggestion of Uncle Sam’s outright purchase of equity in all these companies: do we really want the Federal Gov’t, with all its political and mischievous ways, to take ownership? Senior debt might not give the taxpayers such a high upside, but it would maintain an arm’s length at least.)

So, while I’m far from an economist, and even further from being a lawyer, couldn’t a more incremental deal along these lines be hammered out – before insisting on going the equivalent of financial nuclear?

No doubt our financial sector is going to have to shrink some. (By virtue of morphing back into commercial banks, leverage ratios will drop from 30 to 1 to 10 to 1 for these former investment banks, with high capital reserve requirements.) But shouldn’t we at least let the markets try to sort things out – with help from Uncle Sam to avoid the worst of accounting distortions and provide credit when needed as a consequence of the temporarily frozen credit markets – before short-circuiting everything?

News flash: new home sales in Southern Florida ticked up for the first time last month. Could it be we aren’t that far from the bottom of the real estate market?

Nigerian Scam?

The following email has been circulating around during these tense days of bailout deliberations. We've all seen something like this before....


Dear American:

I need to ask you to support an urgent secret business relationship with a transfer of funds of great magnitude.

I am Ministry of the Treasury of the Republic of America. My country has had crisis that has caused the need for large transfer of funds of 800 billion dollars US. If you would assist me in this transfer, it would be most profitable to you.

I am working with Mr. Phil Gram, lobbyist for UBS, who will be my replacement as Ministry of the Treasury in January. As a Senator, you may know him as the leader of the American banking deregulation movement in the 1990s. This transactin is 100% safe.

This is a matter of great urgency. We need a blank check. We need the funds as quickly as possible. We cannot directly transfer these funds in the names of our close friends because we are constantly under surveillance. My family lawyer advised me that I should look for a reliable and trustworthy person who will act as a next of kin so the funds can be transferred.

Please reply with all of your bank account, IRA and college fund account numbers and those of your children and grandchildren to wallstreetbailout@treasury.gov so that we may transfer your commission for this transaction. After I receive that information, I will respond with detailed information about safeguards that will be used to protect the funds.

Yours Faithfully, Minister of Treasury Paulson

The $700 Billion Question

It is too urgent a decision for congress to delay. We must act now or face certain disaster. Extreme times call for extreme measures. Come on, do-nothing Congress - let's move!

No, this isn't a recap of the hasty congressional putsch that whipped and shamed the legislative branch into authorizing the Iraq War. This is what's going on right now in Washington in an effort to get Congress to sign off on the proposed $700 federal toxic mortgage buyout proposed by Ben Bernanke and Henry Paulson before the legislative session ends. Once again, the Congress - and the American people, by proxy - are being asked to sign away unprecedented powers to the administration with little to no oversight on the way our money is being put to use. Back in 2002, we were bamboozled into a disasterous war; now, we might just be bamboozled into a bailout plan that will cost just as much as another Iraq War.

There is something deeply wrong about a plan that socializes all risk associated with these bad mortgages while not giving taxpayers a stake in the potential profits brought in by major commercial banks, insurance companies, and investment banks. But, contrary to the run-up to our Iraq fiasco, there may just be some congressional opposition this time around. Today in Washington, Paulson and Bernanke held a hearing to pitch their 3-page plan, and leaders in Congress - from both sides of the political spectrum - voiced overwhelming concern. Chris Dodd called the plan "stunning and unprecedented in its scope and lack of detail"; Republican Jim Bunning commented: "It's financial socialism, and it's un-American." In The Nation yesterday, William Greider wrote: “If Wall Street gets away with this, it will represent an historic swindle of the American public — all sugar for the villains, lasting pain and damage for the victims.” Bernanke and Paulson received quite a grilling indeed.

Hopefully our elected officials (as opposed to the Bush-appointed heads of the Treasury and the Fed) continue to put the pressure on. We can all acknowledge that we are in dire times right now, but rushing into an ill-conceived and extravagantly expensive bailout plan is a reckless way to spend public funds. (And Alan Greenspan thinks it will cost a lot more than $700 billion.) Add to this the fact that Treasury will have virtually unfettered power to do with our money as they see fit, and you have a recipe for a disaster. This plan is somehow being framed as the only way to avert catastrophe, but is that really the case?

The fundamental problem here is that firms have too much debt relative to their assets. Credit is frozen because an institute can't go out and make big promises when they don't have the assets/collateral to back up their loans. Therefore, in order to avoid a seizure of credit, either the bad assets need to disappear or the firms need to acquire new capital to invest. (A great, simple explanation of this can be found here.) The Paulson plan follows the first idea: we buy up bad mortgages to relieve firms of their toxic assets so they can go out and start lending again. Many economists, however, suggest the second option: through major government investments in the firms themselves, taxpayers won't simply be saddled with subprime mortgages - we will in essence be given a piece of the companies that invested stupidly in the first place. Profits down the road, therefore, would be shared with the investors (us).

Firms now need capital, that much is not in doubt. But there are more ways for them to recapitalize than simply having all their bad paper bought up (so-called "cash for trash"). Firms could seek money from sovereign wealth funds. They could ask their shareholders to pony up additional money to get the capital flowing through their veins again. A government bailout should be the last possible option, reserved in case all other plans fail. Yet this is essentially the first solution we're running to.

(Warren Buffett's recently announced $5 billion investment in Goldman Sachs is a case in point: funds don't have to come from the taxpayer.)

When many readers see the $700 billion pricetag, their eyes glaze over. This is a truly abstract amount of money. But let's put this into a little perspective here: 700 billion is roughly the same as the entire US defense budget; it represents 5% of our GDP; it is approximately the same size as the entire economy of Brazil, India, Russia, or South Korea. It makes you want to cry when you see the Earth Policy Institute's projected costs for sweeping global warming-related social programs and earth restoration goals - $190 billion. For less than 1/3 of these bailout expenses, we could achieve global universal primary education, universal health care, adult literacy, protection of forested land, stabilization of our water tables, restoration of fisheries and biological diversity, etc. etc. Think how significantly we could bite into global carbon emissions with $700 billion.

Yes, we're in the middle of a crisis. But we need to think long and hard before ceding so much money and such sweeping powers to Mr. Paulson (who was Goldman Sachs's CEO before taking this gov't gig, as the revolving door has it). From what I understand of the situation right now, this bailout is a disastrous idea.

To be continued...

[Please join the point-counterpoint of economic posts by Ben Batchelder and I by contributing your comments and impressions about this mess.]

Flog the Pols

N.B. Zach asked that I comment and, based on some of our conversations, will not be surprised that I take a somewhat different view. Here it is:

I’m afraid our fearless blogmeister is flogging misdirected fear when he likens our situation to a house of cards in the below entry. He raises many valid concerns about the $700 billion sweetheart deal, but may be getting some of the fundamentals wrong. First off, to liken the entire world of financial risk evaluation as a shell game is to misinterpret finance’s fundamental role in a healthy economy – which is the efficient allocation of capital. In an open, capitalist economy there are surely excesses which we can all agree about, but to call them indicative could well turn into a disastrous own-goal. Yes, during a crisis we all tend to look for scapegoats, but is it really helpful to throw the proverbial baby out with the bath water?

It is an old canard, and even somewhat retro, to lament the flight of US manufacturing to foreign shores. Before then, we probably lamented the loss of farm jobs to manufacturing ones. The competitive advantages of nations, as suggested in Adam Smith’s ground-breaking The Wealth of Nations and elucidated in Michael Porter’s The Competitive Advantage of Nations (1990) is just as valid as it was in the 18th century: as we become more innovative and creative, we as a nation are marching irreversibly into service jobs. Think of the technology sector: would we really want to still be manufacturing computer boxes instead of dreaming up the software, games, uses and frustrations that go in them? Or physically make the internet switchers instead of having brought forth the world wide web itself? Whether it is Bear Stearns or, for that matter, Disney or Dreamworks, does it matter that there are few physical assets when you turn out the lights? No, because in a country which most unleashes human initiative and creativity, the primary ‘assets’ are us, the people. (And speaking of Lehman’s 22,000 employees, let’s not cry crocodile-shoe tears for them: Nomura is in the process of buying Lehman’s Asian operations and most of Lehman’s ‘assets’, its people, will quickly find work in other financial firms – perhaps at slightly less elevated salaries, amen.)

This gets to the fallacy that Wall Street doesn’t create real value. Of course it does! By taking companies public, creating innovative debt instruments, financing bold new ideas, and myriad other activities, Wall Street, arguably, is the most important creator of value after entrepreneurs and employees themselves. An efficient distribution of capital is what turbo charges our robust economy, still the envy of the world. That financial services represent a fifth of our economy is not a red flag at all: broaden your parameters and it is a fraction of the word’s economy that is driven by the US’s enviable leadership of such an all-important sector.

Yet, sadly but inevitably, even Masters of the Universe are fallible. Even worse, add to the very human attributes of greed, avarice and lemming tendencies the vanity and power hunger of politicians, now THAT’s a real crisis. While I couldn’t agree more that reform is needed, I couldn’t disagree more with the understandable if erroneous reaction that more and ‘stricter’ regulation is needed. (Sarbane-Oxley and ‘mark-to-market’ accounting rules are two examples of counterproductive, perhaps disastrous ‘stricter’ regulations.) By my view, it was the nexus of political patronage with the politically mandated do-goodsim (i.e. mortgages to people who couldn’t afford them) of Fanny and Freddie – a truly rampaging elephant created by politicians for the ultimate benefit of politicians and therefore given a semi- (and now total) government guarantee – that was truly innovative.

The $700-1000 billion bailout (including this summer’s $300 b mortgage stop gap bill) is scary not because it is fueling another house of cards. (Technically speaking, it is to buy up the ‘bad’ mortgage paper of house loans that should never have been made in the first place.) What is scary is that our political class has no interest in getting to the root of the crisis, their own power-hungry patronage plays. Even today, Barney Frank (D-MA, Chair House Financial Services Committee), the congressman with the dubious record of having blocked most meaningful reform of his favorite, pet semi-governmental companies in recent years, has no interest in scaling back Fannie and Freddie’s future activities. The most meaningful reform bill, which from the Senate in 2005 was set to rein in Freddie and Fannie via bank regulator-like powers, was opposed by all Finance Committee Democrats and never allowed to come to a full vote. Yet the blame can easily be spread around: the Fed’s dangerously low (real negative) interest rates fueled the bubble real estate market, and the Administration’s weak dollar policy fueled inflation in that and all markets. In the end, once again, we, the duped taxpayers, are being called in to clean up after the consequences of the political class’s malfeasance – which shows no capacity for self-correction or -policing.

Who’s to blame then? We, after all, elect the politicians who legislate the incentives that Wall Street responds to. Despite the ‘greed is good’ caricature of Wall Street, it is the woeful ignorance of most of the DC political class when it comes to how our wildly successful economy works that most scares me. The Depression was not caused by the stock market crash, but by the entirely ill-advised policy reactions of our political savior saints. Let’s hope we avoid a repeat, not of the Depression (which I believe unlikely), but of the 14 years of lost growth in the Japanese economy, once believed (as China is now) to be the dragon breathing down our door. The dragon, it so happens, is already inside.

We are in perilous times and I would put politicians, not bankers, at the center of it.

Setting Thine House of Cards in Order

For those of us who grew up in the boom years of the 1990s, the idea of an economic depression was something for the history books, not the newspapers. From the collapse of the Soviet Union to 9/11, America was an island of relative peace and prosperity, even as much of the world was falling into chaos. Wealth flowed from indefatigable Wall Street; a feeling of stasis set in. Like cigar-smoking socialites in Jazz Age Manhattan, we never recognized the maelstrom that was developing just over the horizon.

The economic storm that's been quietly generating strength for years is now coming ashore, and it's official: last week was a Category 5 disaster for the American (and global) financial sector. Reputable, highly respected economists went on the record using the word "depression"; suddenly and irrevocably, the whole fragile network of our economy seemed on the verge of falling to pieces for a few tense days. The failures are by now well-known. Fannie Mae and Freddie Mac, mortgage giants with total loan obligations of 4 trillion dollars (making it the biggest company in human history and second only to the United States itself in total assets) were brought in under the umbrella of the US Treasury (read: taxpayer). Lehman Bros., a company with a hallowed 158 year history, went under, erasing much of their $600 billion investment pool as well as 20,000 employees. AIG, the world's biggest insurance company, followed in the path of government takeover. In a far less bloody but in many ways more real way than 9/11, American capitalism was placed under existential red alert, where it remains now.

It's stunning how quickly the events of the last two weeks have transpired. We have just witnessed the biggest government socialization of a private financial sector ever, yet most of us are too shocked and awed to question the profound ramifications of the continuing crisis. The fear is so palpable on both Wall St. and Main St. that we've essentially ceded huge powers to Hank Paulson at Treasury and Ben Bernanke at the Fed - investors have whisked their money away into the safest possible investments (CDs, gold, bonds) and handed these two men the sword with which to go off and kill the dragon. They'll open their eyes when the battle is over.

Over the weekend, our two beleagured and desperate saviors met with congressional leaders to hash out a far more radical and comprehensive approach to the widening crisis. The plan: throw $700 billion at bad mortgages, effectively taking the yoke of bad loans off the financial service sector's shoulders and placing them on those of the American taxpayer. Paulson expressed great grief over this prospect in interview after interview as he made his Sunday morning talk show rounds just like a presidential candidate: "It pains me that the taxpayer had to get involved in this, but it's better than the alternative." This notion has widespread bipartisan support: something must be done, and congress is prepared to act. But, as Paul Krugman points out, the new plans raises many more questions than it answers: are we going to buy these mortgages at a fair, real price or are we going to buy them up for inflated prices just to get some liquidity back into the credit markets? If we get them for fair, market prices, we leave much of the financial sector in dire trouble; if we overpay, we're essentially throwing money back into the hands of the institutions that so stupidly and greedily led us into this disaster to begin with ("cash for trash"). There is no win-win endgame here. If these pieces of paper are valueless - and nobody really knows how much they're worth - then we'll be throwing our money into a black hole. (And, by the way, $700 billion comes out to around $2,000 for each American.)

Like the earlier buyouts, this is a palliative measure. Injecting some liquidity into markets might have the desired short-term effect of freeing up credit so the economic juggernaut can keep churning away to face our crises another day. But will it solve the problem? Many people talk about the concomitant reforms that must accompany the bailout: in the future, we must have stricter regulations to ensure that "irrational exuberance" (or, in layman terms, avarice leading to idiocy) is kept at bay. This is indeed true - twenty plus years of hands-off, neo-liberal economic policy have knocked all regulation and accountability from the dark corners of the so-called "shadow economy" (all these complicated new financial instruments that have been developed to help rich firms get something for nothing). However, this isn't going to be enough. Even the vast sums of (borrowed) money, even the reforms - there is a systemic problem here. I'm no economist (although I do read the magazine), but I'm aware enough to understand that there's an elephant in the room here. Lately, more and more of us have started to address the pachyderm, however inconvenient a truth it may be.

Let's ignore all the smoke and mirrors of complex derivatives, credit-default swaps, bundled securities, and all the other arcane products of the finance world for a second here. Here's the fundamental question: What in an economy creates real value? This is something right out of a high school Econ text, but I feel our Masters of the Universe on Wall Street need to take a step back and contemplate this question for a moment. Real value, of course, comes in the form of real things: products, technologies, innovative ideas, houses, services, etc. At one point in the 20th century, America was the undisputed world leader in all of these things: we produced the world's cars, its electronics, its cutting edge concepts, etc. We CREATED value, in other words.

What's the difference now? Well, starting in the late 1960s and leading to the present, our economy underwent a profound transformation. The "Empire of Production" (historian Charles Maier's term) made way for the "Empire of Consumption." Our economy shifted to services, manufacturing jobs fled to China - this is all well known and it continues to be a major political bugbear. But what is often overlooked, however, is the rise of the financial services sector during this period, especially in the last 25 years or so. As value-creating areas of the American economy disappeared, investment banks and hedge funds moved in to take their place at the table of American wealth.

But are Goldman Sachs and AIG really the same as Apple and GM? They all produce billions in profits, have a global reach, trade publically. In ways, both industries are productive: Apple and GM produce things, and the financial sector lubes up the economy and gets them the funds they need to make significant investments. Some financial industries - I think we all can agree - are a good thing for the American economy. But the finance sector has become bloated and obese as a result of its own excesses (much like the American people - see last post). Today, the finance sector (money management, insurance, etc.) is bigger than health care, bigger than energy, bigger than manufacturing. Currently, this area of the economy accounts for over 20% of US GDP: that's right, 1 in every 5 dollars in the American economy is generated here. And what takes place on the computer screens and trading floors of these behemoths? Money and assets are transfered around, and the Masters of the Universe in the firms (what a telling term from the good ol' Reagan years) take a generous cut off the top. They are fundamentally middlemen, yet they account for a whopping percetage of our national economy.

Many analysts go much further in their damning assessment of finance's role in the US economy. More than being the unnecessary but ultimately benign middlemen, it can easily be argued that finance actually subtracts value from the economy. John Bogle (Vanguard Group CEO) estimates that finance takes a stunning $560 billion from the economy every year, money that could be going into research and development, new products, and other value-creating activities. Instead, these funds are going into the padded wallets of major investment firms. In the midst of the mortgage crisis, when Americans were losing their homes, we learned last winter that hedge fund manager John Paulson took home $3.7 billion as a result of betting against the housing sector. Without creating a thing, utilizing a system that completely lacks transparency, Paulson and his ilk fleeced the productive economy of vast fortunes while millions of people were getting booted onto the street. This is perverse and despicable, and it illustrates precisely what's wrong today. As economist Catherine Austin Fitts says, we have a "tapeworm economy."

Now, getting back to the bailout. We can toss all the taxpayer money we want at the problem, but it's not going to create value where there fundamentally is none. In a telling moment, we learned recently that Bear Stearns' biggest real asset at this point is their high-rise headquarters in Manhattan. At the end of the day, when all the smoke cleared, all they really owned was their building. All the files on the computers telling them they had hundred of billions in assets; all the pieces of stock paper - it was all just a house of cards. So what happens if Treasury tosses a lot of money back into this colossal shell game? Does it suddenly, magically make it so that the coin will appear under any of the shells when they are overturned, in essence creating something out of nothing?

The answer, of course, is no. We've been hearing a lot about the "crisis of confidence" lately. This fear is extending far beyond mortgages, even though that's what sparked this whole thing. So why is the entire sector all of a sudden dangerous and unsure of itself?

We are a debter nation - with the addition of all these buyouts, our total federal debt comes to over $14 trillion. Like the government, American people are proligate with their purses, and the average household now saves less than 0% a year: we officially borrow more than we earn. We let foreign countries, particularly China, subsidize our reckless culture of insolvency and living beyond our means. We let others subsidize our disasterous wars. Our trade deficit accounts for 5% of GDP, which essentially means that we consume far more than we create.

On an individual and a collective level, we are a culture living on borrowed time. And perhaps our time has finally run out. America's economic chickens are coming home to roost.


[In addition to the daily paper, information for this post was drawn from the following sources: Andrew Bacevich ("The Limits of Power: The End of American Exceptionalism"); Kevin Phillips ("Bad Money: Reckless Finance, Failed Politics, and the Global Crisis of American Capitalism"); John Bogle ("The Battle for the Soul of Capitalism"); Catherine Austin Fitts (see web citation); the following great interviews here and here; and NPR's new Planet Money podcast - all of these have been invaluable resources in helping me understand this grave situation.]

Bleakonomics (Part 2)

Returning to the topic of the economics of live music...

The Principle of Fun leads to an interesting reality for live musicians: the more money you get paid, the less fun you're expected to have (ie. the more you're supposed to pander to the manager, the audience, etc.); the less money you get paid, the more freedom you have to have fun and play some music. There is thus an inverse relationship between compensation and creativity.

Let's look closer at this. By means of illustration, I'll take the two gigs I played last week: in the first gig (Gig 1), I got paid a fair (not great) Miami market rate of $100 for three hours. In the second gig (Gig 2), I was paid $65, which is low by hopefully any market's standards. (I'm sorry Chris and the rest of you Bostonians!) In the first gig, I showed up expecting to play a sideman job: with those sort of fair wages, it is assumed that you will play exactly what the leader/manager/club owner wants. You are getting paid to work, not to have fun. Predictably, the gig went along according to this rule.

Gig 2, on the other hand, was a different story. Since we weren't getting paid well, there weren't any limitations on what/how we should play. The gig was creative, exploratory, and spontaneous - in a word, fun. Not having to "work" for our money (since we weren't getting a lot), we were free to simply play music. Looking back on the great Sex Mob show, this was probably the dynamic at work that night - Bernstein et al were getting paid barely enough to cover their cab rides, but because of that, they were up there playing creatively, doing the material they wanted, and getting drunk. They were having fun, and so was the audience. No economic imperative weighed down on their shoulders.

Perhaps we can illustrate this principle as two lines on a graph, one dipping down (money) and the other up (fun and creativity). As the money goes down, your freedom as a performer goes up. In the center, where the lines comes together, is the hypothetical "best realistic scenario" - you make decent money and you get to have a decent creative say over the performance. It is a compromise that many musicians shoot for in their gig selections.

Of course, the extremes of this model tip the scale completely (those .01% of musicians referred to earlier). When Radiohead gets up there to perform, for instance, they can essentially do whatever they want and people will eat it up. When an act commands that level of demand, they don't need to pander anymore. Witness Miles Davis's audience-disrespecting antics or Nina Simone's legendary stunts. Artists at this level have broken the scale, but they are by far the exception rather than the rule.

No doubt, astute M&M readers, you have grasped the Catch 22 of live music bleakonomics - the better you play, the less money you make. Of course, there are a million exceptions to this rule, but by and large I've found that it holds in most markets.

Musician-readers, please supply your impressions and stories about this little paradox embedded in the dismal science of live music. And be sure you leave a tip for the band at your favorite club next time.

The Bleakonomics of Live Music

I remember seeing the great downtown jazz group Sex Mob play a show in New York back in 2000. At the time, all the members of the band were well known in the scene, and they completely packed the club (Tonic, R.I.P.) with enthusiastic fans. It was an amazing show: they played with the sort of creative recklessness and playful pomp characteristic of great live jazz, but still not exactly a daily phenomenon. At the end of the show, when leader/trumpeter Steven Bernstein was drunkenly thanking the audience, he opened his mouth and started ranting about the economics of being a (semi-famous) jazz musician. "Do you know how much each of us in the band made tonight? Playing three hours for a full house? Guess... (silence) $40 each." He then proceeded to pull two grimy twenties from his pocket and flash them for the audience.

Watching this spectacle was a bit of a slap in the face: I had always assumed that guys like Bernstein, who are popular and well recorded, made good money and lived in medium-sized houses in the suburbs. In fact, their gigs were paying them peanuts, just like the motley ensemble of club dates, restaurant gigs, and corporate shindigs that were sustaining me through college.

It's certainly not easy being a gigging professional musician in the US. In all honestly, it was this experience and others like it that eventually steered me away from a career as a jazz bassist and towards more regular sources of income. As Nolan has chronicled in this blog and a few of our other writers have experienced as well, playing music for money is a strange and frustrating proposition. And the phenomenon of lousy and unpredictable pay isn't limited to jazz either, a genre with admittedly negligible market appeal - indeed, this seems to be a live music universal for 99.99% of American musicians. Barring Madonna, J-Z, Springsteen, and a handful of other leviathans, we're all in the same boat here.

In my experience, I have come to learn a few things about the bleakonomics of live music. Let's begin with the most obvious and simple explanations. On the surface of this equation, of course, are the same market principles that guide any commercial system - the "invisible hand" connects supply and demand. Therefore, each scene is very different. I made far more money playing in Portland than I ever did in NY, and it wasn't because I was that much of a better player during my two year tenure in Oregon (quite the contrary!): New York is flooded with great musicians. Of course, there are also a lot more places to play there than in Portland, and a lot more demand, but still - the scale tips in Portland's favor. That's why musicians from all over the country are flocking to the City of Roses right now. On the opposite end of the spectrum is a city like Boston: with mobs of students scrambling for gigs, the market value for live music is kept really low. There is more supply than demand.

This is the textbook, simplistic look at why we poor musicians get paid so pathetically. But underlying basic supply and demand are a few other principles that can't be reduced to economic modeling (well, I guess this post is an attempt to supply a "bleakonomic" model). And the most important principle here is the Principle of Fun.

Work sucks. That's why it's called work - we perform tasks in order to make money to support our worldly lives. Of course, many people find great reward in what they do, but on the weekends and during their vacations, you can bet they're not doing their jobs. So the principle of labor in many ways is based on exchanging time doing what you don't want to be doing (ie. work) for money that will enable you to do what you want (ie. eating, having a roof over your head, taking trips, drinking whiskey every night to numb the pain, etc.).

Musicians disrupt this labor principle. We have fun playing music, and we voluntarily do it all the time without getting paid. It is a recreational activity. CEOs, the line goes, get paid the big bucks because they are under constant pressure and are micromanaging a million things at once - no "fun" in the traditional definition of the word. Musicians, on the other hand, get paid peanuts because, really, we're just getting up there on stage and having a merry ol' time. Why should the restaurant manager pay us fairly - if not well - when we're having such a good time doing what we're doing while he's running around making sure the shipment of tomatoes came in on time?

I'm going to break this down into two entries lest this turn into one of my obnoxious novels of a post. Stay tuned for more BLEAKONOMICS!

Summer Travel, Or, How I Learned to Stop Worrying and Love the Gas Bomb

On National Public Radio yesterday, there was yet another story about the height of gas prices in the U.S. The result (so the story went) is that the highways have seen a sharp downturn in people who are willing to ride the asphalt in order to reach their summer destinations. But with new costs being added to airline travel daily ("I'm sorry sir, the toilet only accepts exact change, or your debit card."), I wonder how many people are going to choose to forego extended trips altogether. 

And since the polls that I hear about on the radio or television news never seem to include anyone I know (has anyone out there actually been a part of a gallup poll, or known someone who has?), I thought it would be valuable to poll the international Mirth and Matter community.

We now have two ways to do this. First, you can sound off in the comments section as always. Second, if you are a casual reader of M & M, and haven't yet begun posting comments, you can use our new polling feature, which is now posted at the top of the sidebar at right. A third option is to vote, then expand on it in the comments section. Enjoy the experiment, and the valuable thoughts from your peers. The poll will be up for six days only!

Opportunity Costs

The BBC estimates that around $23 billion has been lost, stolen, or unaccounted for in Iraq.

Just for a sense of perspective, some quick and dirty research on wikipedia about our federal budget (2007):

The President's actual budget for 2007 totals $2.8 trillion. Percentages in parentheses indicate percentage change compared to 2006. This budget request is broken down by the following expenditures:

• $586.1 billion (+7.0%) - Social Security
• $548.8 billion (+9.0%) - Defense
• $394.5 billion (+12.4%) - Medicare
• $294.0 billion (+2.0%) - Unemployment and welfare
• $276.4 billion (+2.9%) - Medicaid and other health related
• $243.7 billion (+13.4%) - Interest on debt
• $89.9 billion (+1.3%) - Education and training
• $76.9 billion (+8.1%) - Transportation
• $72.6 billion (+5.8%) - Veterans' benefits
• $43.5 billion (+9.2%) - Administration of justice.
• $33.1 billion (+5.7%) - Natural resources and environment
• $32.5 billion (+15.4%) - Foreign affairs
• $27.0 billion (+3.7%) - Agriculture
• $26.8 billion (+28.7%) - Community and regional development
• $25.0 billion (+4.0%) - Science and technology
• $23.5 billion (+0.8%) - Energy
• $20.1 billion (+11.4%) - General government

So we've lost as much money in Iraq as we spent on energy in a 2007. We've lost almost as much as we spent on science and technology, community and regional development, agriculture, foreign affairs, or natural resources and environment in 2007.

And who does the investigative journalism to give us this story? The BBC.

The Myth of Unlimited Growth

As recession looks more and more likely, you can't open a paper without reading about our "economic slowdown." I've been thinking about the horrible specter of "slowdown" lately, and have come to a certain conclusion. So, without further ado, I'm going to put up my shortest post ever by asking a simple question.

Is economic slowdown really that bad of a thing? Furthermore, isn't the idea that an economy can constantly grow a fundamentally unsustainable fantasy? Growth is the primary goal of nations: success is measured by annual GPD, and every nation is expected to expand. But what is the ultimate goal of all this? Unlimited economic growth complete with unlimited consumption of resources? (after all, resources are the fuel for growth) This is a paradigm that I've often found troubling reading The Economist and other major publications on the topic: while growth is what every nation strives for, economies can't keep growing exponentially. This could only happen if we had unlimited resources. I believe that the fundamentalist view of the economy (that growth is always good and necessary), much like its corollary in religion, is rooted in earlier times when modern knowledge of the world was incomplete. Until we grasped scientifically that the world is billions of years old, what was to keep us from thinking it's just 6,000? Similarly, economic fundamentalism is rooted in a time when resources indeed must have looked inexhaustible. But we stand at a critical juncture: our human population has more than doubled in the last fifty years; we as a species already consume 84 million barrels of oil a day; etc. (I am planning more in-depth posts on this topic in the future) In other words, we can't keep this up. The economic fundamentalist model has to give.

Please share your thoughts on this: is unlimited economic growth a sustainable concept?

Congestion

I applaud New York City Mayor Bloomberg's attempts to impose a "congestion fee" on drivers entering Manhattan.  Nanny state, you may say? Hardly.  In fact, such forms of regulation help the free market function properly in ways that a total lack of governmental intervention could not achieve.

Transactions and/or the exercise of property rights in the marketplace may produce externalities, or impacts on third parties not involved in the transaction or use itself.  A positive externality is one that confers a benefit to third party for which the parties to the transaction receive no compensation.  For example, you decide to repaint your house and create a beautiful garden.  Your actions, which have costs and benefits to you, may also incidentally raise the value of your neighbors property.  In this case, the property value increase is a positive externality.  In a perfect market, you should be able to knock on your neighbors door and tell them that your actions raised their property value by X amount of dollars, and then bill them for it.  Of course, that never happens, not the least of which is that the third party never consented to being part of the transaction.  Thus, you shoulder 100% of the burden but perhaps receive only 90% of the benefit.

The flip-side to a positive externality is a negative one, and the examples here are quite familiar.  Pollution is a classic example of a negative externality.  Company X opens a factory next to a river which is upstream from a city.  They proceed to dump toxic chemicals into the river as part of their manufacturing process.  Later on, as a result of the pollution, several costs are incurred by third parties.  The citizens who become sick pay for medical treatment, the city pays for clean-up, drinking water is tainted, requiring more treatment, the wildlife in the river dies off, the aesthetics of the city's waterfront deteriorates, etc.  Meanwhile, Company X, in the absence of environmental laws, is laughing all the way to the bank.  They received 100% of the benefit, but perhaps only shoulder 50% (or 10% or 5% or 1%) of the burden.  (To be fair to Company X, their activities may produce several positive externalities, such as employment of the city's workforce, decreased crime and increased taxes due to that employment, etc.  That being said, for the purposes of this post we can just treat Company X as the villain.)

All of this is pretty clear when framed in the examples above.  The trickier question is how to address these issues.  In our polarized political environment, we tend to hear two answers.  One answer is what can be called traditional command-and-control regulation.  In the example of the polluter above, simply outlaw, or limit, dumping pollution into the river.  This is a form of regulation traditionally associated with Democrats, and in many instances it makes a lot of sense.  Other times, it simply corrects the symptoms of the problem, not the cause.  Fuel-efficiency standards do not change the fact that the price of gas does not account for its negative costs to the environment.  During the last decade, demand for inefficient vehicles was not affected by the fuel-efficiency standards.  Only now, as gas prices approach four dollars a gallon, are people seriously considering which car to drive based on fuel efficiency.  Also, as a form of regulation it incurs its own costs.  In the Company X example, you have to monitor the company or test the water in order to ensure compliance.  When command-and-control regulation is applied often and to increasingly narrow issues, larger causes of the problems may remain unaddressed, and the government gets hit with that ugly label, nanny state.

The idea of a "nanny state", of course, sets the stage for the Republican counterattack.  If regulation increases government, increases transaction costs, and creates a nanny state, then the logical answer is of course deregulation of all kinds.  Of course, this approach does not get us anywhere in solving issues of externalities.  Like in the example of Company X, someone has to clean up the river and pay the medical bills and without some form of governmental intervention it won't be Company X.  

For all the libertarians out there who may be screaming at me that I just don't get it, let me say this.  First, I am not equating current Republican philosophy with libertarian philosophy, nor, I hope, would anyone else who has been watching the last eight years.  If at one point they had a common ancestry, they are now different beasts.  Second, for the sake of limiting the scope of this post I won't fully explore the libertarian viewpoint.  But for the reader's interest I should say that there is a school of thought that externalities are a product incompletely specified property rights.  And to the extent that my analysis is predicated on the idea that some property rights simply can't be specified sufficiently for the market to function accurately (such as a property right in clean air), then my views are compatible, or at least not at odds, with the libertarian view.

So, returning to the start of the post, the idea of using a tax, such as a congestion tax, to influence behavior in order to correct a market failure (a pigovian tax) is not new.  However, it is a refreshing reminder of a middle path we can take between command-and-control regulation on one hand and no regulation on the other.

The use of cars is rife with negative externalities.  The true costs of congestion, noise, air pollution, etc. are not really covered by the user of the automobile.  Another post could be written about the hidden costs of free parking alone (Cameron?) but I think we all get the picture.  

So what to do about it?  Well, you could always build more public transportation.  New York has one of the best subway systems in the world, and extensive commuter train networks.  However, this doesn't really solve the problem.  If the problem is that the price to the driver of driving does not take into account the true costs of the activity, then by definition too many people will be on the road.  If the free market is designed to find that perfect balance between supply and demand, when the price is artificially low the demand is artificially high.  By contrast, the true benefits of public transportation are not really allocated to the user.  The benefit of moving people in and out of the city without massive amounts of pollution and congestion are paid, at best, indirectly through tax dollars.  In a sense, those who pay $2 a pop to ride the subway are subsidizing those who drive into the city.

To properly correct the market failure, you need to allocate the costs of those negative externalities to the drivers themselves.  A gas tax/carbon tax is a good way to address the issue of CO2 emissions, due to the quantifiable connection between the amount of gas used and CO2 generated.  Congestion is rather more amorphous.  In either case, it is usually impossible to know with complete accuracy the true cost of something like congestion or air pollution.  You can, however, come up with some reasonable estimates.  And to say that because there is uncertainty we should therefore not even try is disingenuous.

Is $8 to high?  Too low?  It would be hard to tell until the tax is implemented.  Even then, the answer can be gleaned only by studying the effects of the tax, an inherently subjective exercise.  Still, I'm excited by the idea.  Why? Because someone is trying.  And while congestion may be a big problem to New Yorkers, global warming and dependence on foreign oil are big problems to the country and to the world.  Cap-and-trade and carbon taxes are forms of the same type of market-based regulation as the congestion tax.  Both options could significantly decrease CO2 emissions at a relatively low societal cost (more on this in another post).  In our federal system of government, we often rely on cities and states to test drive policies which could then be implemented on a national level.  Let's hope that if a congestion tax is successful in New York, the country will be more willing to adopt a carbon tax nationally.