Political Economy : Adam Smith Through Tomorrow

Markets Down Hard, Debt, and Obamanomics

2011-08-04T20:43:00.000-07:00

I haven't written here in my blog in a long time. But I've been watching the economic scene. And as you might imagine I've been quite unhappy with our President, his administration, and the results of their economic policies. Here in California the effect is magnified and made even worse.

I see these factors holding back the U.S. economy:

Debt
The effects of some misguided corporate rescues
Market and corporate uncertainty caused by government actions, discussions and personnel appointments
Present and expected future avalanches of regulations

After U.S. markets closed today, after the 512-point Dow drop and 60-point S&P drop, I watched a clip of Obama in 2008 or 2009, in which he said the economy should be much better 3 years out, or his presidency will be a single term. Well, here we are, it seems. I'll soon hoist a martini to his single term.

The pundits' observations I thought most valuable were that the market's fall is not about the U.S. debt deal, but about Euro-zone debt worries, and the growing perception that the U.S. economy is not growing fast and may actually fall into a "double-dip" recession. We'll see what actually happens, but though I've searched and listened to truckloads of commentary, I don't see a catalyst for U.S. growth. Yes, there are some sectors that should grow, and yes, the middle classes may be growing in China and India. But in our present trade environment we can't take proper advantage of it.

Obama said one correct thing, as far as the basic concept. He said Congress should approve the 3 or 4 international trade agreements in its queue. Now the agreements are forgotten and Congress has flown out of town for a month. The trade agreements would be one small catalyst for growth.

Hedge fund manager Phil Falcone was interviewed today on CNBC, mostly about his LightSquared network. In it he said that innovation was the only way for the U.S. economy to get going and grow again. I agree with him.

And what stands in the way of that innovation, or would foster the economic growth we all want (well, everyone except a few Luddites of various stripes)? In short, Obamanomics stands in the way of the innovation Falcone mentioned. Instead, for growth we should be repealing the laws, throwing out, simplifying, and rationalizing the regulations, and basically undoing all we can of the four factors listed above.

As an aside, during the Reagan administration, he said that he would reduce government employees by a significant amount. One evening I was looking up at the federal office building in West Los Angeles and doubted anything would happen. A very few years later the building was 40 or 50% vacant, if I recall correctly. I was very happy to see that Reagan did what he said he would do. Today the size of government employment has grown past any nightmare Reagan ever had. It's time to slim down again. The regulations and other scribblings of the bureaucrats are not needed. In fact, they're harmful.

Again, the bottom line is "back to free markets" to create the growth and jobs we need.

No Public Option for Healthcare Insurance!!

2009-09-30T08:54:00.000-07:00

It's been fun watching the healthcare reform circus as the months have rolled by. It's also been disappointing. I view the notion that the government can "compete" with private companies in any market as preposterous. Ridiculous. Nonsense.

Government "competition" with private industry is not within the definition of a free market, and therefore a free-market optimum result or equilibrium cannot be attained. However the public-option proponents imagine things will play out, I can guarantee it won't happen that way. That's because they are basically hoping for an outcome that contradicts human nature, and the fundamental mathematics of markets and incentives systems. To me it looks as ridiculous as expecting water to run uphill.

We can refer to my earlier post about market regulation and the ice rink analogy. As applied here, medical insurance companies are the skaters and the government is the rink owner. The goverment can define the playing surface in a proper, free market, but it can't "compete", by definition. That's because if the rink owner plays, it will always win. It controls the game.

Or imagine a football game where one team includes the referees and the stadium owner, and millions of dollars are at stake. Oh, and the refs can change the rules anytime during the game. Who will win? I'll bet on the team with the refs. Do you want to take the other side of the bet?

In the medical insurance market, the government specifies the market parameters, has infinite resources, is subject to massive political incentives from the electorate (who are also insurance customers) and has the power to tax all of the other insurance companies. Again I ask "who will win?"

At the very best, as an outlier case one could imagine the federal government running its public option as a wise, benevolent despot. That is, it would undermine the private insurance options just enough to squeeze profits a little and force increases in efficiencies, and then stop. In this scenario it would be self-limiting, and forbear on many actions it could take. This won't happen. Please take an honest and critical look at any other program the government has undertaken. The contitutional limits on government exist for reasons based in experience and wisdom.

What might a market-oriented prescription for health care reform look like?

2009-08-10T13:34:00.000-07:00

Introduction

If the supposedly best legislative minds elected to the greatest deliberative body in the greatest country in the world can’t produce anything better than the rotten sausage in parts of HR3200, then I say “Long Live King Deadlock!”

I’ll use that entree to make a short speech about forbearance and governance. The Founding Fathers of this country are lauded as tall men in part because of what they gave up, what they did not do, and what they did not take. Of these, George Washington may be the greatest example. Today, legislators seem to grovel before their special interests. But I hope they will strive to increase in stature as they work through the rest of the health care reform initiative, whether or not any new law is created. The effects of this effort will be with us long past the legislative careers of all of the participants.

This post grew into a small paper as I wrote it. The Objectives section attempts to show that there is quite a bit in common among the high-level objectives for reform across the political spectrum. The rub is, of course, in how to implement them. The Necessary Features section shows what I think must be addressed to implement an effective reform. Desirable Features shows the nice-to-have features, and those that I think would be extremely difficult to implement effectively in the present political environment. (I'm sure the necessary features will be difficult enough!) Discussion expands on some of the Features and points to papers that I found helpful in exploring the subject, and recommended reading. That's followed by References, which is self-explanatory.

Objectives of Health Care Reform

These are the broad goals for health care reform we see now on the political stage. If you observe that some of these seem to be at cross purposes you’re not alone. That’s what makes consideration of American health care such a profound and interesting problem.

Coverage for more people
Reduced healthcare costs, whether to individual buyers, companies, the government, or as a percentage of GNP. The current popular phrase for this is “Bends health care cost curve down”
Increased quality and efficacy of care, or at least not a reduction in care quality and not a decrease of choices
Avoiding increased wait times for services
Avoiding the rationing of care. Rationing, remember, is a way of saying that some care is simply not available to some people who need it some percentage of the time.

Here are my additional goals, for the purposes of this writing:

A decrease in market distortions, where possible
Increases in efficiency in the delivery of healthcare
An increase in competition in markets where oligopoly or monopoly are found
Reductions of the government’s role in health care delivery to the extent possible

This next set was copied from a web page. Sorry, I lost the reference, but it could be one of the President’s official pages. I got a chuckle from “eight specific” protections, which include six. Well, how inflammatory are the other two? I don’t have any huge disagreements with these six as they are, so I find myself agreeing with the Obamas twice here, as you’ll see.

“The White House said Obama would outline eight specific consumer protections he thinks are needed. They include:

no discrimination for preexisting conditions
only reasonable out-of-pocket expenses
no dropping of coverage for serious illness
no gender discrimination
no annual or lifetime caps
extended coverage for young adults” (this one puzzled me on first reading. It means that young people can be covered under parent’s or guardian’s plan until age 26 or so, up from the current age 18 or 22 or so.)

Objectives from the Senate’s Healthy Americans Act

Bends health care cost curve down
New system could pay for itself
Creates competitive market for health insurance
Individual consumers can choose the best values
Cuts administrative costs
Spreads risk across large pools of consumers

And lastly here are a couple more of mine, tailored for small businesses and individual purchasers:

Equalize the tax treatment for small business or individual purchasers of health insurance versus large business plans.
Reduce the mandates and restrictions on plans that insurance companies can offer the “small group” market. (These reductions are exclusive of the Minimum Health Insurance Coverage Definition, discussed below). The reductions should be combined with allowing more multiple state pooling and competition for insurance business across state lines. This will achieve reasonable actuarial risks and reasonable rates and coverage for the insured.

Necessary features in a reform initiative

Competition in the Health Insurance Market
The consolidation in the health insurance industry over the last 20 years must be reviewed. Consolidation in the market to less than 7 carriers in a state, combined with state insurance coverage regulation results in oligopolistic market behavior. This must be addressed as the keystone in containing costs.

Minimum Health Insurance Coverage Definition
Rules for minimum health insurance coverage can be defined and not harm competition in the market. It simply constrains the boundaries of the market battleground away from what are essentially partial coverage plans.

Rescissions in coverage must be ended. It is simply changing the terms of a contract after it is entered.
No pre-existing condition exclusions
No dropping coverage for expensive illnesses after coverage is started.
No exclusions for specific illnesses or genetic test results
No ceilings on coverage. This will make the insurance companies deal with one of the key reasons health care insurance exists in the first place – to insure against catastrophic loss on the part of the insured. Insurance companies may need insurance for themselves. In other types of insurance products, this is known as reinsurance.
Standard information, metadata and field definitions must be decided upon, and then enforced for the insurance industry. This is to support electronic documentation interchange.
Long Term Care should be considered in the minimum definition

No Maximum Health Insurance Coverage Definition
Avoid defining maximum coverage or contract terms for health insurance. Let the market decide that.

No Public Health Insurance Option
This should not be included in any legislation. I discuss this below.

Reinsurance
Reinsurance provides a means to further pool risk, beyond the bounds of a single company. A good, meaning undistorted, reinsurance market enforces better standards on insurance companies as they seek reinsurance.

I am not aware of a reinsurance market for health care insurance companies. Maybe there is one. If there is, it should be more visible. What companies provide it? How profitable are they? Is there a competitive market for it? What regulations and laws apply? Do they help or hinder the market? If this information was more visible to the casual observer, greater appreciation for the insurance industry would probably be one result. Also, this information would provide an indicator on the financial efficacy of the healthcare market over time.

Tax Treatment
Tax health care benefits at large companies, or level the tax advantage for all who purchase care. The essential result is a level playing field for individual, small group, and large purchasers on a per-insured person basis.

Information Availability – Health Insurance Exchange
The Health Insurance Exchange idea is in HR3200 and on its face seems to be a good one. It addresses one facet of asymmetrical information between parties, as I mention later.

Information Availability – Electronic Medical Documents and Electronic Interchange
The initial motivation for electronic records interchange is efficiency and cost reduction. It also could be designed to address the asymmetric information problem insurance companies, doctors, and patients. However, proper infrastructure of security, privacy and anonymity rules must be in place first. Once medical records are digitized, the security and privacy challenges get much more difficult. If the rules don’t exist, or are not enforced with criminal prosecutions, we would risk descending into a hellish Orwellian world with consequences of the most personal kind.

Going electronic in a nationally (or internationally) standardized way is still worth it. Filling out endless variations of paper forms is a terrible way to run security. Paper is a great way to remain catastrophically inefficient.

Medical malpractice non-economic awards and Tort reform
Tort reform and the reduction of defensive tests must be a key goal of reform. Watch the tort lawyers and other special interests howl. It doesn’t matter. This ridiculous party must be shut down. The jury system itself is not necessarily the problem; it is the guidelines and limits of awards they get, as well as the amount of medical expertise available to the jury, or included in the jury.

The present jury structure was conceived before Lister and Pasteur were born! Some review and change of the fundamentals is needed to keep outcomes just and fair, and also economically viable for the doctors, companies, medical care industry and society as a whole.

Having said that, award maximums should be indexed to the rate of inflation. The mistake of omitting this is made repeatedly in drafting law. Not indexing creates unintended market, incentive, and legal distortions in the future. The debate over the Alternative Minimum Tax illustrates this repeatedly.

Medicines and Advertizing
At minimum the present rules regarding medical advertising must be reviewed. How does advertizing affect research budgets and pharmaceutical company profits? How does it affect our quality of life? Does drug advertizing have any suggestive affect in making people sicker, not just aware of maladies they already have? If the advertizing is successful (from the companies’ perspective, how does increasing patients’ demand for patented drugs affect overall health care costs?

Patents and the cost of medicine
Patents law in America serves a very useful purpose, to enable inventors and entrepreneurs to recoup their investment costs. It should be easy to show this increases innovation. When twenty-year-old patents are fought over to maintain multi-billion-dollar businesses, the essential point has been lost. If the development of a single drug requires a large revenue stream for twenty years to recoup expenses, it’s an outlier, and probably other solutions should be found. Possible ways to expedite FDA reviews and approvals should be explored.

EMTALA
Modify the EMTALA law so that hospitals and clinics have incentives to treat patients in a rational, economically reasonable way. See the note about Chicago’s success with this in the Discussion section. I believe if average voters knew how much the present implementation of this law is costing them and is distorting the system, they would favor modifying the law.

If EMTALA continues to exist in anything like its present form, then all citizens must have minimum health care insurance coverage. It’s the only way to spread or pool the risk realistically, in my opinion.

Desirable features in a reform initiative

Paying for Healthy Outcomes
It would probably prove valuable to look at compensating some classes of health care providers for healthy patient outcomes instead of the performance of disease treatments. I’m not going to suggest that this should be the case for all providers because I can’t imagine how such a system would actually work, built on the present system. But within a new minimum definition of health care coverage, such a system might work at the General Practitioner level. If the market can find ways to more richly compensate GP doctors, the supply of them should increase.

A “pay for healthy outcomes” provision may be optional or mandatory in the Minimum Health Insurance Coverage Definition, depending on how the definition is implemented. A differentiator may turn out to be the health of patient at the time coverage is initiated. The prime anticipated benefits of such a plan are healthier, better informed patients and lower costs.

Allocation of innovative, expensive treatments to patient pool
The question of how to allocate new, often astronomically expensive, and scarce treatments to the pool of waiting patients should be addressed. The prime function of a free market is to allocate resources. But in this case a free market, in which only the richest or best-insured can afford them early in the treatment’s “product cycle” or possibly at any time, won’t be acceptable by society.

This can be addressed partially by the specification of the Minimum Health Insurance Coverage. And most of these treatments would probably not be covered. Perhaps a special rider on a health insurance policy would give a patient access to such a treatment. This would result in a kind of lottery, where if a patient had purchased the rider and if they got a disease treatable with a new technology, they would get it. What if everyone in the country had to pay mandatory surcharge on top of their mandatory insurance premium? Would $3 a year be enough? $3 multiplied by 300million-plus people equals about $1Billion. But some of these individual machines for new, exotic treatments cost $300million each to build.

Universal Access – Geographic Coverage
By saying Universal Access I do not necessarily mean coverage for all citizens. I mean reasonable geographic access. Charitable efforts are undertaken to provide health care in some extremely rural areas of the US. I cite a video below that’s rather shocking, showing rural people coming to a temporary clinic for health care who seem unable to afford care the rest of the year, and barely able to transport themselves to distant cities if the care was paid for.

Universal Access, then, is similar to that in telecommunications – It’s most expensive to provide in some of the places that can least afford it. A lot has been written and regulated over on the telecommunications side. Universal Access was deemed a worthy societal goal and is supported by a tax regime. The issue of whether rural clinics should be supported at all could be reviewed.

However, all the little pile-on fees, as is done in telecom, should be avoided. In telecom’s case they drive customers away from regulated land lines and toward cellular phones. But anyone’s recent cellular phone bill shows clearly that the regulatory apparatus has caught up and added many taxes and fees to the cellular service cost.

Information Availability – Health Insurance Exchange Extensions
Additional, government sanctioned (but not government provided) Internet resources could include this information for patients and potential patients:

documentation of the basic health coverage plan
reviews of insurance extended features
Physician and hospital patient experience ratings
treatment success records
costs reviews
billing accuracy records
Discussions of treatment alternatives and the treatment innovations
Reviews of medical tourism destinations, including costs and risks

WebMD and similar sites has already changed the equation of asymmetry of information between patients, doctors, and insurance companies. It is a valuable service. One can imagine CNET.com-style reviews of medical subjects. To some extent they already exist.

The Cleveland Clinic, for example, helps provide a website that concentrates information on FMD, a little-known disease. If you or a family member are diagnosed with this disease, this website and the volunteers backing up the site help in understanding the disease, the treatments available for it, the treatment “state of the art”, and even an informed shoulder to cry on, among other information.

Discussion

In the United States health care costs are 2-3 times higher than other industrialized countries as a percentage of GDP. Yet our health statistics such as infant mortalities are not among the leaders. This cost differential has several components, of which these are a few of the largest:

humongous administrative overhead due to the regulatory and legal environment
defensive tests and treatments to mitigate malpractice liability risk
oligopoly profits for health insurance providers
innovative and expensive new drugs, treatments, and medical devices
Transfers of wealth, intentionally or otherwise, to those who cannot or will not purchase health care insurance

Economics, Free Markets, and the Limited Role of Government
When one studies the economics of healthcare one meets the work of Kenneth Arrow. He’s a Nobel-prize winning economist who wrote a seminal piece in the 1963. This work has been used as key input for much writing and research. I’ll quote from Duke University’s Research in Profile piece on the Journal of Health Politics Policy and Law, special issue of October 2001, dedicated to Kenneth Arrow. These areas are applicable today.

“Arrow targets several areas that are closely examined by the issue’s authors:

The proper role of market competition in delivering health care services
The implications of moral hazard—the notion that the widespread availability of health insurance increases the demand for health care services
The uncertainty inherent in health care, from diagnosis to treatment efficacy
The role of non-market social institutions (such as norms, ethics, and professionalism) or nonprofit institutions, as a response to overcoming uncertainty and market failure
The existence of extreme information asymmetry; that is, inequalities of information between the insurer on one hand and the physician and patient on the other, as well as between the doctor and patient
The importance of trust in the doctor-patient relationship, given the existence of Information Asymmetry”

Other than the fundamental importance of free markets and competition wherever it is possible, Kenneth Arrow’s work illuminates an important triangle in health care:

Inequality and asymmetry of information [insurance companies versus doctors and patients; and doctors versus patients]
Moral Hazard – more availability leads to more demand, resulting in inefficiencies in health care markets
Trust between the parties

Highly imperfect information flows between the parties has reduced trust. Each party has armed itself with more administration, insurance, lawyers and other safeguards. Patients are often dissatisfied with the results, to the point where health care reform has become a national priority. Moral hazard causes more services to be demanded inappropriately and further erodes trust.

EMTALA is the acronym for the Emergency Medical Transfer and Active Labor Act – This is the law under which Emergency Room services must be provided to a patient without inquiring first his or her ability to pay for it. I agree with many commentators that it is a large unfunded mandate. And as EMTALA has been modified and interpreted in court cases, and its implementation has evolved in hospitals, the distortions resulting from its unfunded mandate have increased.

See http://en.wikipedia.org/wiki/EMTALA , and note the comments on California cost shifting.

Free Emergency Room services for some patients has caused a market disaster. The effects of this disaster have rippled through hospitals’ billing regimes, insurance rates, doctor and resident’s experience of ER work and therefore the perception of the medical profession, and ultimately has effected the overall cost of health care.

Addressing this problem set should be part of any solution. EMTALA was enacted as an emotional reaction to a very emotionally loaded situation. I sincerely doubt whether anyone present at its beginning realized or intended all of its consequences.

The current proposed bill from Congress is HR 3200. It’s over 1,000 pages. As of the last visible discussion in the press, the key congress members had not read it. The President proved under press questioning to be uninformed about at least one of key features. Emails have circulated listing what look like terrible features with associated page numbers. I have yet to work my way through all of these, although I have obtained a copy of the bill and am looking around in it.

The Senate has had a health care bill on the table for some time. A blurb about it is at:
http://en.wikipedia.org/wiki/Healthy_Americans_Act

Senators Wyden and Bennett were instrumental in creating the Healthy Americans Act. Their article in support of it is at:
http://www.washingtonpost.com/wp-dyn/content/article/2009/08/04/AR2009080402523.html

State Regulation and the Federal Role
Jeremy Siegel Ph.D., in his opinion piece at http://finance.yahoo.com/expert/article/futureinvest/180476# asks:

“Moreover, why do we have state-run system where each state spends billions of dollars replicating each other's regulations? Why can't we introduce competition into the private insurance system by offering nationwide plans that satisfy a nationally determined set of criteria? It won't be easy, but it would be gutsy if Obama could move against these costly entrenched state bureaucracies.”

Therein lies a fundamental opportunity to reduce costs and increase quality and availability of care.

In a way similar to different states’ formulas for gasoline changing at different times seasonally lead to higher gas prices for everyone, different states’ insurance rules lead to patchwork coverage availability for health insurance and higher coverage. One might assume that there are national standards for health insurance coverage and national availability, but the non-obvious truth is that a lot of coverage options stop at state lines. I have two instances of this in my own personal experience which I won’t detail here.

To be sure, many health insurance companies are multistate, national or international. But they must also get approval for each insurance product in each state. Each state has an insurance commission or regulator, and within that, a section dedicated to health care insurance. With a little thought you can imagine the bureaucratic fun that follows from that. State insurance regulators are fine for now, but labyrinth regulations and product availability maps are not.

The Health Insurance Market
Being a monopolist is great work if you can get it. Being part of an oligopoly isn’t bad either. In both cases profits are higher than in free market competition. But an oligopoly aren’t quite as obvious as a monopoly. This is especially so in the case I’m about to discuss.

It’s clear to everyone that the cost of health insurance coverage is increasing. Large companies also bemoan this fact. But at fist glance, wouldn’t one think that with their formidable negotiating power, they could get good prices for coverage. In a competitive market, the answer is yes. Leemore Dafny, in his 2008 paper Are Health Insurance Markets Competitive? at Northwestern University, has shown that the market is not as competitive as we would expect.

He shows that these factors combine to raise costs for coverage

Market consolidation: In a twenty year trend, health care insurance companies have merged and bought each other to the point where in some markets there are as few four carriers.
Employers are somewhat captive customers, because of all of the administrative connections between the employer and the carrier, the employee’s familiarity with the existing plans features, employees preference for their present doctors and other providers, and other “momentum” factors
Health insurance coverage contracts are customized for each major employer, and are for the most part kept private. In a sense the price is not discoverable by other market participants because the contract terms are not discoverable. Only in a few studies and databases are such data available.
As employer profits rise, they get “stuck” with higher premiums by the carriers. Their profitability is public knowledge. While times are good for a company, management has a difficult challenge selling a carrier switch. In lean times it can be justified as a cost-saving measure.
Downwardly sticky rates – During lean times for a company, or a recession, coverage rates do not go down to the same degree they have risen. Therefore rates for the same coverage tend to ratchet upward.
State boundaries for coverage regulation. In a multinational company I worked for, as an example, California was always a special case for coverage.

Dafny shows that when there are 8 or fewer major carriers in a state market, health insurance rates and costs increase faster than the rate of inflation, consistent with an oligopoly market.

Therefore, enforcing antitrust law in the health insurer market and ensuring that there are at least 9 carriers per state market, rationalizing regulations, and facilitating employers’ ability to switch plans will increase competition, and reduce cost increases.

The Public Option for Health Insurance
The public health insurance option would, I believe, have even greater negative consequences than are widely debated now. Programs of this sort are always more expensive than initially presented. They spawn large bureaucracies that are self-perpetuating. If markets, through the incentives bearing on health insurance companies, do not allocate treatments, than rationing will. Decreed, instead of market-based prices for services and drugs will have unintended effects on American innovation, with consequences worldwide.

The question as to whether the public option is a Trojan horse, with the *intent* of undoing the private insurance industry is not the most important question. The important question is whether market forces and cultural forces in the U.S. will result in a slide down the slope to a single payer system, regardless of the bill’s authors’ intent. I believe it will, because of the public perceptions and current market for health care insurance, combined with current public’s willingness go keep its hand in the public cookie jar, so to speak, combined with the American adversarial environment. This might not be true in certain other countries that have had a public/private coverage blend for some time. If the experiment is done here and the health care insurance industry is destroyed, the experiment cannot easily be undone.

Health Care Providers
It is good to remember that the prime customers of hospitals are actually *doctors*, not *patients*. That is, it is most often the doctor that selects the hospital for a procedure, not the patient, when geographical happenstance doesn’t determine the hospital. A doctor knows the other professionals in the hospital, its procedures, and its equipment, so the relationship is a natural one.

This fact should be reflected in ratings systems and other reviews available to patients on the Internet. This additional information would probably result in an improved hospital experience for patients as hospitals compete.

Doctors, not patients, should be the prime customers of the drug companies. If this is true, drug companies’ large expenditures on marketing to patients is not needed. How much would the elimination of these marketing budgets reduce the costs of the medicines and therefore the overall system? If some companies do market to patients and potential patients, they all must have an incentive to do it. None should do it.

That’s before we get to the idea that a constant message stream about these diseases may increase the suggestibility of the patient population for having diseases they otherwise wouldn’t know about. Are there any analyses of this idea?

Drug company’s marketing to doctors is another area for concern. It has been an issue for several years. The concern is that large amounts of expensive SWAG and fancy trips and other perks for doctors bias what they prescribe at the expense of the patient’s health and the insurer or other payer. There was also concern about an arms race in advertizing and marketing budgets, resulting in meaningful expenses to the pharmaceutical companies and possibly less drug innovation than otherwise.

I would favor a “boring” exchange where the drugs’ technical, efficacy, side effect, interaction and other information is available in a standardized format. The International Organization for Standardization (ISO) has a standard 11.120.10 for Pharmaceutics/Medicaments but not necessarily a standard for information sharing about the medicaments.

Microsoft Corporation has had a medical information interchange initiative going for several years, but I’m not aware now of how well it is received in the health care industry. I believe it was initially it was centered around an XML definition. These have proven fairly difficult to get standardized and adopted. But once they reach a critical mass of adopters the network benefits become clear.

EMTALA and Chicago
At the University of Chicago Medical Center an initiative was undertaken to reduce the costs and burdens associated with EMTALA while still providing the mandated care. It’s now known as Urban Health Initiative, V2. It’s website is http://www.uchospitals.edu/news/uhi/index.html .

Michelle Obama helped to create this program. An initial feature was Emergency Room referrals to accepting clinics. The site indicates that the brief of the program has expanded. Critics of the program have noted on the tax benefits coming to UCMC as a hospital may exceed the value of the payments to the accepting clinics patients. I would submit that that is the idea: to lower expenses. Critics have also decried the program as “patient dumping” but I don’t think it fits the definition. Patients are not dumped, as in escorted out the back door with no chance of treatment at that hospital. They are referred to an approved clinic within a defined network, where they receive appropriate care resulting in a more efficient use of scarce and expensive ER resources.

Rural Medical Care
Turning from urban to rural medical care, I found this video disturbing:
http://www.reuters.com/news/video?videoId=108844
The video is a story about medical volunteers providing a range of medical services once a year to Virginians. Under mandated minimum medical insurance, these patients would be covered, and probably also receive assistance for the premiums. Then they could get ongoing medical services in a more economically sustainable fashion. Judging by some anecdotes in the video, patient outcomes would be better, as well.

New Medical Technologies and Procedures
Brilliant and innovative people are always working on the next new medical procedure for important illnesses. Most of these new treatments share some common traits:

They’re almost always more expensive than existing treatments
They sometimes have uncertain efficacy – that is, how often they have their intended effect is not as well known as that for an established treatment
An exotically expensive new treatment with promising results creates headaches over which patients should receive it.

An example of this is proton therapy, which is often used to treat prostate cancer patients. It has the three above traits. And one complexity is a still newer treatment on the scene. Beyond the question of allocating the treatment to patients in the existing proton treatment centers, how many hospitals or clinics should build new ones? If it’s often not a pure business-case decision to build one, how are these decisions made? Are the results of these decisions the most optimal allocation of resources for our economy?

I personally think that drug advertising over the heads of doctors and directly to patients is harmful. I remember fondly the old days before it was legal. I believe it does have a suggestive effect and makes people sicker. I think it successfully increases demand for more expensive drugs. I think it degrades the quality of life in America, especially at dinnertime. If you watch television programs that are financed with advertising, you know what I mean.

References

Kenneth Arrow – Health markets economist who wrote a seminal article on the subject in 1963.

Leemore Dafny, Are Health Insurance Markets Competitive?, Northwestern University, 2008

Milton Friedman – Economist and author of several books. An exponent of free markets, the flat tax and the Negative Income Tax.

A good friend and neighbor of mine is well-connected and influential in the health care industry. He provided many insights for this paper. I’ll maintain his anonymity here, but he may identify himself with a comment if he wishes.

Amid all the noise surrounding American health care, this is a good article to read. In it Uwe E. Reinhardt of Princeton University sets out the 3 basic reform objectives that most parties in the debate agree on. And author’s “three-legged stool” comment on health insurance for individuals or small groups is spot on. See http://economix.blogs.nytimes.com/2009/08/07/lost-in-the-shuffle-the-overarching-goals-of-health-reform/

Robert Nozick – author of Anarchy, State, and Utopia. I’ve read just enough of this book to know what the central argument is. I don’t refer to it directly, but the philosophical bent of the book is baked into the entire paper. Another view is that the entire discussion of government concern with health care is erroneous, illegal on constitutional grounds and wrong on philosophical grounds. But I’ll take that risk because of where we are in the discussion already.

Kill the Health Care Reform bill

2009-07-21T08:35:00.000-07:00

Yes, just kill it. Don't renegotiate, water it down, try to fix it, or try to work in a new philosophy.

I remember the Hillarycare initiative, and I was jumping for joy when it died. This bill is about the same, and I'll be just has happy when it's dead.

The worst and fundamental flaw Congress' approach in the bill is that it ignores free market principles. There is not some special properties box around health care that causes market principles not to apply. Markets exist, and incentives and free will apply, in this area as much as any other.

These markets are substantially distorted now, and have been for a very long time, numbered in decades. But to argue that the fix is having a government behemoth "competing" with private insurance companies, surrounded by other new bureaucracies, is heinously wrong.

I personally am not happy with the health care system as it is. I have many complaints. But this direction is not the correct one.

What do they do with all the money?

2009-07-15T12:18:00.000-07:00

Forgive me for not posting for awhile. I've been alternately busy and having a slight sinus infection. I have written my representative politicians on a couple of issues in the meantime. There's been so much to follow that it makes my head spin, and it's been yanked to the left a lot lately. I'm not pleased.

On hearing that the federal deficit for June was $94.32Billion, I couldn't resist doing a little arithmetic. That equates to $3.144Billion a day, or $2.18Million a minute, or $36,388 a second. It takes real chutzpah to overspend (not just spend) $36,388 a second, every second of a month, wouldn't you say?

And yet most of our stimulus 1.0 money (forget about the Bush stimulus 0.0) sits around in coffee cans somewhere. I favor pulling the money out of the coffee cans and using it for an immediate payroll tax cut, if they can't dispense it any faster than that. Meanwhile President Obama flogs the Congress to pass a gargantuan medical spending bill.

Oh, and the promise of government largess already has distorted the renewable energy market. It seems negotiations on new projects and plants have stopped or slowed, because providers of private capital need to wait to see who gets the government funds, and how much, and under what terms.

This all is definitely change, but not that which I can believe in.

I noticed that the overall movement after the credit debacle started to unfold was called deleveraging. That means that in general entities are moving out of debt. Yet massive government debt dominates the news. Maybe just the owners of the debt have changed. And there are solid signs a commercial real estate debacle lurks in the not-too-distant future. It seems to me the government would be wise to cool it a little so it has some ammo left for that one.

What's the latest in the world of taxes?

2009-05-27T16:30:00.000-07:00

California wanted to cover it's deficit in part with the 1A-1E propositions. The Obama administration wants to cover its universal healthcare project in part with the Cap and Tax (Cap and Trade; sorry!) legislation. And some in Congress are looking at paying for everything else in part with a new national sales tax.

Well, Rahm and Barack didn't waste their crisis, of that we can be sure. Please bear with me while I write only a semi-serious post because I don't have time now for a serious one. All of the scary ideas shown above are for real though. I've seen and heard them from multiple sources in the news.

Now, recall Amy Winehouse' song "Rehab" and its "No, No, No!" refrain. Or if you'd rather, Aflac's commercial in which the goat is eating the paper and saying "Naw, Naw, Naw!". Take your pick of those, but either way, that's what we TEA partiers and the rest of us in the electorate should be saying to new taxes.

Imagine a curve on a graph that rises and then falls somewhat like a bell curve. The X axis shows the amount of taxing and spending, and the Y axis is the number of votes for the pols in question. If this much taxing and spending hasn't bought all the votes they're gonna get, then no additional amount will do it. It's hit a point of diminishing returns. The TEA parties are a first loud manifestation of this. Eventually it will get loud enough that even the dumbest, deafest pol will hear it.

The key test is whether this will occur before or after permanent damage has been done to the American economy, civic environment and way of life.

Oh, and a VAT (Valua Added Tax) such as used in Europe is a somewhat slicker and slier alternative to a new national sales tax. In fact, many economic theorists I've respected over the years have preferred a VAT to both a sales or an income tax. But the question was asked on aTV news show today, "So, could either of the those replace the income tax"? The answer was a resounding "No, it would of course be in *addition* to the our income tax"!

California Election - What Happened?

2009-05-21T08:59:00.000-07:00

California had its election Tuesday May 19th and we've all had a couple of days to digest the results. 1A through 1E failed by hefty margins and 1F passed. 1F is the pay cap for pols in deficit years. My interpretation is that the electorate is angry and just said "No!" to everything in sight but the pay caps. That's a good start. We, the California electorate, should have gotten angry and stayed angrier a long time ago.

Remember Arnold Schwarzennegger's mandate when he won the recall election? It was intended to be a turn toward fiscal responsibility and to cure the ills amplified by the previous governor, Grey Davis. It didn't quite work out that way.

The tax-and-spend liberal machine that owns Sacramento has fought Arnold to a draw and stalemate, at least. Or possibly the machine has won and is rumbling its way over the financial cliff. It's possible that history will show that California was "GM'ed" by the public worker's unions starting a long time ago. I read somewhere that there was a union voting disaster facilitated by Jerry Brown while he was governor. That's going back a long way indeed. But its effects are ongoing. And we should remember that Jerry Brown still lurks in Sacramento as Attorney General, possibly positioning himself for larger office and opportunity.

Lastly I want to call attention to Proposition 1A. It seemed to be an effort to reduce the "pro-cyclicality" of California's spending. That sounded good, until I got to the massive tax hike part. If we in California thought on a more Chinese-style long-term timeframe, 1A might have been written differently.

Calornia Propositions A-F election today, cont.

2009-05-19T11:09:00.000-07:00

As a first follow-up, here's some quick arithmetic. The result is that Proposition 1A wants everyone in California to pay an additional $422 a year, on average.

Here's the breakdown. Proposition 1A's summary/analysis says that state tax revenues would rise by about $16billion a year through the 2012-13 year. So let's look at that number as 16,000,000,000. Wolframalpha.com says that California's population was 36.46 million in 2006, and increases by about 1.267% a year. So we'll take 36,460,000 and multiply by 1.01267 three times to compound to 2009. We get 37.86million, with a little rounding. Or we can write it 37,860,000. We'll cancel out three zeros from each number and divide. 16,000,000 / 37,860 = 422.61.

I think I know how I want to vote. That kind of marginal tax increase is very contractionary, as in the opposite of stimulative. And in California it's about wealth creation and getting the economy going again. Or rather, it should be.

Calornia Propositions A-F election today

2009-05-19T09:13:00.000-07:00

Well, today is our election in California. The date got here fast and I haven't done my research into these propositions. The usual newsprint pamphlet containing the legislative analyses is missing from our house. Either we've misplaced it or we never got it.

I noticed a huge lack of URLs for information about the propositions. The single paragraph blurbs on the ballot don't mean anything. The basically explain nothing about the proposition, except the subject from the 60,000-foot level. And especially in this election, I don't believe what I've heard and seen in the political print ads and on TV. The ads are so slanted that they don't really make sense to me. The marketing program for these propositions basically "stink to high heaven"!

If you want to research these, here are some links.
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1a-analysis.pdf
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1b-analysis.pdf
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1c-analysis.pdf
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1d-anaysis.pdf
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1e-analysis.pdf
http://www.voterguide.sos.ca.gov/pdf-guide/props/prop1f-analysis.pdf
Gotta love the one for 1D. I don't know how much stock I should put in an analysis when they can't spell the word.
For other info and .htm presentations of the information, go to http://california.gov/ and search with "proposition 1x legislative analysis", where x is the prop of your choice.

Over the course of the last month, I've noticed that any economic analyst I've considered intelligent has recommended "no" votes on all of these propositions. I'll probably vote "no" myself.

Having said that, are California's political process and budget processes broken? Certainly. They are also wildly pro-cyclical, where spending goes up during good economic times, followed by budget crunches during bad times. This was true since before the defense-related recession in California in the late 80's, the Silicon Valley / dot-com boom-and-bust of the 90's and early 2000's, and so on. So the processes certainly need to be changed. As an aside, the "rainy-day fund", known in the analyses as the "BSF" seems designed to smooth the cyclicality to the upside, with more taxes, instead of forbearance of possible spending during good times!

One glaring, flashing omission from these proposals is discussion spending cuts. There's a lot of rearranging of deck chairs and debt, shall we say, and some sizable tax increases. There is discussion around protecting certain "sacred cow" spending areas. But the whole thing seems built around the idea of "Don't look at the spending behind the curtain!"

Talk with you soon. I'm off to study and Vote!

T.E.A. Party Day

2009-04-15T10:04:00.000-07:00

Hooray for the Tea party organizers. I'm going to my local Tea party today to see what happens.

The stimulus bills and associated pork may have been the catalysts for the Tea party movement. However the larger and longer term issue is the growth of government spending as a percentage of GDP. That is bad, on top of all the other reasons, because a dollar cycled through the government has a lower multiplier than a dollar kept circulating in the private sector. That subject is explored in detail in any good first- or second-year economics course.

For those that don't care about wealth, or want to lower it, the lower multiplier is not a problem. For the rest of us it's a key issue, even if it's not usually argued in those terms.

So I'm off to my local Tea party. Here's an article that surveys the Tea party phenomenon.
http://online.wsj.com/article/SB123975867505519363.html

What To Do About the Cap and Trade Idea?

2009-04-02T19:45:00.000-07:00

What really should be done from a normal free-markets and American perspective? Forget it; it’s nothing but a big market distortion. People willingly buy goods and services that return utility to them – not the right to cause dis-utility to another unidentified and nebulous group. Only a small part of the population would pay into such a fund voluntarily. If they feel better contributing, great. If a Cap and Trade tax program is implemented as the Obama administration has proposed, the only logical place for the revenue is to fund forests and other plants that efficiently convert carbon dioxide back into oxygen. Imagine paying Brazilian rain-forest owners and farmers a fee to recycle carbon dioxide! But that’s not what our environmentalists or the Executive Branch are thinking. They want to use the funds to create further market distortions subsidizing their chosen energy technologies and groups.

What Should be Done About AIG Bonuses?

2009-03-23T08:38:00.000-07:00

Absolutely nothing should be done about the bonuses paid to AIG employees, at least not legislatively. To understand why, please take out a calculator now and do this simple division. Enter 165, to represent the $165 million in bonus compensation. Divide that by 170,000 to represent the $170 billion in bailout money that AIG has received. Look at the result. Adjust your calculator's display to show 5 digits to the right of the decimal point if your calculator doesn't already show them. The number you'll see is 0.00097. What does this mean? It means that the bonus money is less than one one-thousandth of the bailout money going to AIG.

This money, on a percentage basis, is less then the rounding error in many calculations. While $165 million is a huge amount of money to most of us, it's just not meaningful in the scope of AIG's problems or it's bailout, or the problems in the banking system, the government or the economy.

So I watch with sadness and amuzement while the House rants and then passes a bill that is reckless on several levels. It's reckless on constitutional grounds. If the Senate and President pass and sign anything like it, it may get struck down on those grounds in the courts. It's reckless on business grounds because of the perceptions of recklessness, fickleness and inconsistancy it will create for businesspeople. Who'd want Congress as a business partner? And it's reckless on political grounds, if there is a backlash against things going further wrong due to this bill.

This week we seem to be moving past the AIG furor, and focusing on the Geithner plan. That's great. We should forget about the AIG bonus issue and hope the legislation lapses into irrelevancy.

Is getting the bad assets out of the banks the way to go?

2009-03-02T11:07:00.000-08:00

Today Federal Reserve Bank of Boston President Eric Rosengren said about getting the bad assets off the banks' books that it is "desirable to move quickly". I believe even more strongly than that, that it is essential. And that the people and institutions responsible for helping the economy recover are making a strategic mistake if they don't move quickly on it. They may be working on this in the background, and may even be finding problems and making progress. If so, the mistake is then one of communication.

Rosengren's study of the Japanese banks experience points to getting the bad assets out as cucial.

Rosengren points out from almost an organizational studies point of view that while the bad assets are on a bank's books, management stays fixated on the losses and mistakes at the cost of not moving forward into new, good loans. And as a trader, I know that sitting around looking at losses is not helpful in finding and making the next profitable trade. Instead, one should analyze the bad trade, learn what can be learned, and forget about the pain of the loss and move forward.

Getting the bad assets out of the institutions is of course easier said than done. That doesn't affect at all whether doing so is crucial to recovery. As we see with the Citibank bailout effors to date, the sick assets essentially sicken the whole institution. I've listened to many commentators about this, especially over the last three months. And it seems to me that the smart ones are essentially in agreement that paths always lead back to the bad assets in the institutions and their value. Washington and others may want that fact to go away, but it won't.

Neither is the fact that the root cause of the creation of those bad assets was the government's driving the banks to make lousy loans they would not otherwise have made. But I've covered that particular point already in this blog.

Here's a list of issues I've seen regarding the bad assets. Specifically these assets are the CDO's containing subprime loans, and derivatives based on these and other troubled assets, including CDS's.

1) There are losses on derivatives created out of thin air. That is, not just derivatives based on CDO's that actually exist. For the best explanation I've seen of this, see the article "The End" in Portfolio magazine, Dec08/Jan09.

2) The question is how to value assets, and after determining what are they worth. Of course the simple answer is that they *should* be valued by price discovery in an open, regulated, undistorted market. Since that option is not available, some form of modeling must be used.

3) The "taxpayer" has an interest in this. Politicians of any skill at all learned quickly months ago to recite phrases like "protect the taxpayer", "make the investment back" for them, "protect their interest" and the like. Nice to consider, but our situation is so bad that there will just be costs. This situation seems to be worse than the savings and loan debacle, and its relatively successful bailouts. The models for valuing the assets become mechanisms for allocating the losses. Not pretty.

4) The FASB changed an accounting rule earlier in the crisis, known as "mark-to-market" and also "Fair Value Accounting". I feel I understand FASB's basic motivation to make the rule change. A huge theme in accounting is knowing the present value of everything, even things that won't be realized as a financial entry until the distant future. However, this rule change, accompanied by a lack of guidance at the time, did serious but quiet harm to banks and other institutions. This harm is not yet fully discovered. Over-the-counter, unregulated markets and the end of markets and price discovery at all combined with the rule to force banks losses. The get close to declaring the losses; they need the bailouts.

5) The "bad-bank" discussions are about creating containers for the toxic assets outside the instituions. If we had liquid markets for the assets, we wouldn't need the containers. Every few days there's a story about a firm that wants to buy some toxic assets, but learn that they can't. In a sense it's too dangerous to establish a price by selling assets to them. Go figure.

6) In the end, leaving the toxic assets in a fully public "bad bank" wouldn't be as bad as the government nationalizing banks, or almost so. Why? The government can boss the assets around all it wants to, and then sell them later. This will cause less long-term damage to markets and American free enterprise then the government bossing around banks, and creating long-term, heinous market distortions.

President Clinton and Banks' Market Cap

2009-02-05T13:59:00.000-08:00

I'm still amazed that President Clinton has taken not a single shot (that I'm aware of) for his part in the sub-prime mortgage debacle and subsequent credit meltdown. Wasn't Reagan the Teflon president, or was it Clinton? I think they both have that property. I tag Clinton with a lot of the blame for the sub-prime situation. He pushed aggressively for the Carter-era CRA to be strengthened and extended. This is noted elsewhere, including my first entry on this blog.

Also, the cosy, corrupt (IMO), and ultimately very damaging relationship between congressional democrats and Fannie Mae and Freddie Mac was extended and deepened through the Clinton years. And this component of the debacle ultimately makes sense. If a lot lousy mortgages are being created, then some party needs to buy 'em so still more can be created. Only after all this was in motion, did Wall Street firms create the derivatives, swaps, and other instruments that spread the bad-mortgage disease around the world. If President Clinton didn't want the relationship and doings at the GSEs to continue, they wouldn't have.

President Bush knew about it and tried to stop it on a few occasions in his first term. But instead he's tagged with blame in the mortgage problem, to my complete bewilderment. Republicans can be blamed for feeble and ineffective communication - of that I'm sure.

A net result of all this was discussed today on CNBC. What's really the market cap of the big banks affected by this? Some say it's essentially zero. It's certainly only a fraction of what it was. Where did it go and who owns the spoils? To the degree that the bad loans created a non-wealth bubble, this "bad air" was sucked into the banks and canceled out value. Thanks for the market distortion, President Clinton. Now we public (taxpayers) own a sizable chunk of the banks' remaining market cap.

The entire issue is a cause of serious concern for anyone who cares about undistorted, free markets. I'm angry. Remember Earl Pitts? "Why I'm so angry, I could......"

Obama Starts Down the Dreaded Path

2009-01-30T14:59:00.000-08:00

Here a some beefs I have with President Obama's and the Democratic majority's recent actions and positions.

1) The so-called stimulus bill is full of pork. I'm hearing about more items all the time that sound more like ornaments on a Christmas tree of pork than elements of a well-thought-out and effective stimulus bill.

2) The stimulus bill is too light on tax cuts and too heavy on spending. I'll detail why tax cuts are more effective in a later post.

3) The Columbian Free Trade Agreement isn't passed yet. Remember this? It still matters. The U.S. so far has failed to lock in free trade and economic recovery advantages and the drug war advantages of passing the FTA. Stratfor and other sources have warned about Mexico's dire straits. We need to watch our southern border closely.

4) There's a "buy American" clause in the stimulus bill. It's nonsense to codify that in a bill. If a private party wants to pursue a buy America ad campaign that's fine. But massive sellers of treasury notes and the beacon of democracy and free markets, not to mention chief advocate of free trade, can ill afford to do this. It's stupid and economically wrong.

5) The Obama administration naively stated the obvious about China's handling of its currency relative to the dollar. Of course they manipulate it. It's officially pegged, after all. It doesn't even pretend to float in a free market relative to the dollar. But it was a stupid thing to say so. To do so within a week of the passage of a giant spending bill to be financed by government borrowing was a whopper. The Chinese have good reason to fear sanctions and legal consequences if what they are doing is called what it is. And of course a backlash to those actions would hit us. Hard. Please guys, try to act sophisticated even if you aren't. The U.S. and China are in a dance together and it will take at least another generation to unwind things enough to be free-market rational.

6) The "Card Check" pro-union bill lurks in the halls of congress. The election mechanism is un-American and I would think it would be unconstitutional. I'd have to look. The bill will also advance the government's role from referree to dictator of terms after a set time period of negotiations between a company and a union. That's bad on several levels. More on this later. For some detail see today's editorial page in Investor's Business Daily.

7) Obama signed the "Lilly Ledbetter" bill. That's a bill that sounds appealing to people who think with their hearts instead of their brains. But it sets up some incentives and legal mechanisms which will be abused, to the short-term detriment of businesses and the long term detriment of employees.

8) Closing Gitmo? Dumb. Castro's already making hay, and that's before we've let anybody out! We close Gitmo and celebrate only after we're out of Iraq and Afghanistan, UBL is proven dead, al Queada is discredited and dismantled, Iran has been shorn of nukes, the Isreal-Palestinian question has been resolved to the degree that Palestinians move forward economically instead of work to dismantle the present situation, and Hamas and Hesbollah in their present forms are nothing but bitter memories.

My relief at the perceived quality of Obama's cabinet picks is giving way to the forlorn environment I feared before Obama was elected.

A Skating Rink Guides Regulatory Reform

2009-01-28T20:34:00.000-08:00

The issue of market regulation reform lurks behind the automaker bailouts and the stimulus packages. Social engineering is to regulation reform as pork spending is to stimulus packages. Both social engineering and pork should be avoided.

Contemplating an ice skating rink may help guide the philosophy shaping regulatory reform, especially of financial markets. An ice rink is flat, as a level regulatory playing field or market should be. The rink has walls, which define the limits of the playing surface. The rink doesn't limit how fast skaters can skate. Instead they must suffer any negative consequences of their own risk-taking. No one is preselecting winners or losers in the competition.

To stretch the analogy a large step further, unless someone provides the skating rink, the skaters would be skating out on a parking lot. The irregular surface with no boundaries is not conducive to efficient skating. The lack of boundaries and level playing surface enables skaters to pull dirty tricks on each other with impunity.

This philosophy applied to financial markets regulation suggests tranparency, good reporting, open price discovery, and regulated exchanges for all large markets. Credit Default Swaps and Collateralized Debt Obligations should be regulated this way. That's especially true if the Financial Accounting Standards Board holds to its mark-to-market accounting rule. The mark-to-market accounting rule applied to private, over-the-counter CDS market proved to be a dangerous combination when the markets began to seize up. In fact, some who know more about this than I do posit this as a key cause of the seize-up.

We Shouldn't Bail Out the Big 3 Automakers

2008-12-01T09:15:00.000-08:00

The government should not bail out the car companies. Their business model and their agreements with their workers unions have become non-competitive. A bailout will simply push bankruptcies into the future. And at that time the unfunded obligations will be bigger than today.

I have a deep affection for cars, and high on my list are American muscle cars. I also like vintage American cars, lowriders, and racing cars. I don't own any of these, but I love 'em. I love the sound and power of an American V8. I saw CanAm races at Riverside, and there I heard how engines really sound.

But none of the glorious past changes the sorry state of the industry today. The union agreements and the silly CAFE rules act as a scissors to cut profit out of the industry. The union agreements boost costs, so the big three built trucks and SUVs, which were most profitable. The CAFE rules forced unprofitable fleet allocations. The spike in gasoline prices revealed that the whole arrangement was untenable.

Studying economics in college, I asked whether an antitrust case could be brought against a union that represents workers for an entire industry, encompassing several companies. The answer is no, unions are exempt from antitrust cases, not matter what. I never bought that concept. It always seemed logical to me that a union might represent one of the big 3 automakers, for example, but different unions would have to represent workers in the others. That way, essentially the unions have to compete to make reasonable deals. A company could be taken down, but an industry would be less likely. I've read articles over the years after a new UAW contract is cut with one automaker, in which the dire warning is sounded for the prospects of the other two.

Naturally enough, the Democrats, with their union support, are for the bailout. If anything, their restraint and reasonableness is surprising. But bankruptcy is the best option if cash runs out. Contrary to fearful reports, a bankrupt automaker will not cease to exist. It will reorganize its obligations and carry on. And that is exactly what is needed.

A friend asked me about all the past workers' pensions and health coverage if one goes bankrupt. I said "Exactly." Instead of a person retiring at age 65 and and dying at 72 as in past years, a person may now retire at 55 and live until 82. How can a company be expected to carry that? If the real issue is people who no longer actually work at the Big 3, let's address that directly.

The UAW is now, suddenly, talking about renegotiating some parts of their agreements. It's too late. I say "No Deal." By the way, CAFE requirements should not exist. The fuel efficiency of cars and trucks is something the market should decide.

Please read my first post below. That's where I lay out the basic free-market vs. Socialism logic.

What’s the root cause of the sub-prime and credit debacle?

2008-11-13T19:09:00.000-08:00

In the present housing and credit market problem sets, there has been limited commentary about the root causes and in my view over half of it has been completely distorted. The problem’s root cause is a market distortion caused by the government encouraging the residential real estate industry to get a higher percentage of Americans into home ownership. I recall reading about President Carter’s CRA and later about the ramp-up of this initiative in the 1990s. By 1996 this had resulted in President Clinton’s “National Partners in Homeownership” initiative, and a dramatic strengthening of the CRA.

How would this have worked if viewed from a market perspective? If the residential real estate market was generally at equilibrium before the government started this initiative, then who was there to find to increase the percentage of home ownership? Less credit-worthy borrowers was the only place to look. There was almost certainly not a meaningful percentage of Americans who could easily qualify to buy a house who had chosen instead to rent out of ignorance. The “secret” of the advantages of homeownership was pretty well out by the 1990’s. While financial education and increasing prosperity resulting in more homeownership are laudable goals, I lay root responsibility for the housing debacle on the government. And this is before any discussions of mortgage lending regulations and Freddie Mac and Fannie Mae, and cross-incentives at work between those GSEs and members of Congress.

Others have pointed to Wall Street executives’ and firms’ greed as the root cause. They created the loan instruments and derivatives and sold them. Also blamed are the bankers and brokers who originated the loans. Certainly there was some greed and some money made. But before you can conclude that these parties were the root cause, you must first ask yourself: Are bankers idiots? They most certainly are not. They may not be into charity, but they're not idiots. In undistorted markets they act with meticulously calculated self-interest. They make their profits in a world enumerated in Basis Points, which are 1/100^th (one-one-hundredth) of a percent. So you must ask, what made them start making loans that were idiotic by banker's historical credit standards? And the answer is the incentives and controls in the CRA ratings. And, as has been explored elsewhere, no less than four regulating agencies provided the teeth and force that backed up the CRA and its bank rating system.

As the finger-pointing continues over our present problems there are plenty of parties to take the blame. The mortgage industry got creative and sold loans to people who shouldn’t have taken them. Home builders make money by building and selling homes, and were happy to fuel the boom. Realtors and real estate commentators fed the frenzy. Buyers can be excused for financial ignorance only so far. The housing market expansion took on a life of its own. We couldn’t have expected a mortgage lender or broker to be happy reporting lower sales numbers in the middle of a boom, even when the supply of reasonable marginal borrowers was getting thin. But I return to the idea that the original instigation was a market distortion started by the government. The initiative to raise the percentage of American homeowners was good as a starting concept, but very harmful when it devolved into putting unqualified buyers into homes who couldn’t afford them in the long term. And we all can see that now.

Lastly, one thing that surprised, amused, and saddened me was the Democratic campaign’s success in painting Republicans and free-market advocates as the root cause of the debacle. If I had run the Democratic campaign, I’d have pursued the same strategy. But if I had run the Republican campaign, I’d have not let that one go. I’d have made a tremendous amount of noise about the history and issues as they are laid out here. I was surprised to hear John McCain attack Wall Street over the issue instead.

Please read my first post below. That's where I lay out the basic free-market vs. Socialism logic.

Why the "Old Fashioned" Title

2008-11-10T15:53:00.000-08:00

This blog's title is as it is half as a joke, and half with serious intent. I recall the famous old Smith Barney ad, in which John Houseman says "“We make money the old-fashioned way. We EARN it.” I thought that was so cool the title just wrote itself. That ad was broadcast so long ago it will probably be very obscure to almost anyone under 40. But hey, I remember it like yesterday.

The point of the ad was that Smith Barney was rooted in the basics, and wasn't going in for all the swingin' financial engineering that was taking customers' money and getting people into trouble. And that was before anyone had heard of the fancy financial instruments that are causing so much trouble now.

The serious side is trying to make the point that the fundamentals of economics and Capitalism may seem old fashioned, but in fact they apply just as well today as ever. It occurred to me after I published that "Old Fashioned" must seem doubly quaint when the winning campaign was dressed in the cloak of newness and change.

I do not believe that anything really new has been proposed. This term will likely be a case of "the more things change, the more they stay the same". If I'm correct those who remember Johnson's Great Society and Carter's malaise will be drawing comparisons. Those who can remember the Great Depression as adults are getting fewer. But we can all hope that as Chairman Bernanke compares the statistics the coming period won't too closely resemble it.

I must be in a bit of a dour mood today. Here's some positive spin. Today I remembered again that a few short weeks ago we were looking squarely into the eyes of a meltdown of the world financial system and possible return to the financial stone age - as least from the perspective of the global economy. Today we're only discussing the length and depth of the recession. How's that for positive?

Congratulations on Election Victory

2008-11-06T10:12:00.000-08:00

It's Thursday and I'm pretty much done crying in my beer about Barack Obama and his team winning the election. I congratulate Mr. Obama and his campaign people. It's clear they ran an effective and organized campaign. If they are as smart in running the executive branch and dealing with the Congress everything will be OK. And that's even from a markets and Capitalism point of view.

It seems to me the election winners would have been the same even if none of the rumored irregularities around the edges with with ACORN and anonymous illegal campaign contributions turn out to be true. But we will only know about this in time, after the research is done, any court cases are settled, and the books come out chronicling the campaigns.

We will also see how deep runs the international affection for President-Elect Obama. He gets his first Presidential level security briefing today. I said to someone before the election that getting that first briefing would probably be an opinion-changing experience for most people. I'll be watching for any changes in what President-Elect Obama has to say about the international scene.

Short Course on Capitalist Economics vs. Socialism

2008-10-30T14:26:00.000-07:00

When I hear the word “Socialist” connected to anything important my blood begins to boil. If it doesn’t for you, I invite you to read my article here. You may not agree with what I say. Or you may thank me later.

This Presidential election is truly important among all presidential elections, as some commentators have said. Joe Biden may be a good old-line Democrat, but Barack Obama is something quite different. You, me, and the rest of the electorate don’t know exactly how different, in my opinion, because Obama’s façade has been so carefully crafted and maintained.

Your vote, if you cast one, is important. Between these presidential candidates we’re making a more profound choice than usual, and we all have to live with the results.

The Republican campaign has trumpeted that Obama’s ideas, positions and associations seem like socialism. It hasn’t had much effect. The surprise to me has been how little effect it’s had. A key problem with this election is that many people, and possibly you, don’t know the fundamentals of why socialism is bad. Many people don’t seem to have the visceral reaction to it they used to. If one doesn’t know why capitalism and free markets are good for a society, it follows that one can’t fully appreciate how socialism is bad for it.

I’m taking on the task of attempting to explain why free markets are important. I apologize in advance for this article being longer than your typical op-ed piece.

Should we Pursue our Enlightened Self-Interest?

In economics, people acting in their “enlightened self-interest” is an important concept. It revolves around being a good citizen in the American Constitutional sense while pursuing economic goals in one’s own self-interest. A market-oriented economics professor can prove to you with numbers that everyone in a society benefits as people do this. And they benefit to a greater degree than under any other economic system.

But aren’t the rich taking from the poor? No, a capitalist economy is not a zero-sum game. Wealth is *created*. It may be intuitively nice to compare haves and have-nots and think “if only those poorer people could have some of what those richer people have”. The non-intuitive truth is that wealth taken from haves and given to have-nots will result in less wealth for everybody. Any rosy outcome will be temporary, followed by less wealth for everybody at some lag. Economics can show clearly why this is true and how it works.

The fact that a capitalist economy is not a zero-sum game is extremely important. To understand why, consider the opposite assertion for a moment. If a capitalist economy *is* a zero-sum game and there’s only a finite amount of wealth in an economy, than for poor people to have any more some will need to be removed from rich people, or the people in the middle. If there’s a finite amount of wealth in an economy, for rich people to get richer someone else has to get poorer. If there’s a finite amount of wealth in an economy, the equality of the outcome (meaning the wealth people have at a given moment) is skewed to become more important than the equality of opportunity – that is, the possibility that people may have more wealth in the future. Many policies, and virtually all of these are well-intentioned, are built on the fallacious assumption that the economy is a zero-sum game.

Where’s That Altruism as We Create Wealth?

In fact, wealth creation is a fundamental purpose of a society, if not of civilization in general. The elemental catch with the notion of “redistributing the wealth” is the incentives, or disincentives, created in that environment. The “richies” have less incentive to work and produce as the wealth is taken away, and the “poories” have less incentive to get out and work as wealth is given to them. Years ago we debated how welfare mothers would get *trapped* into not working at all, because if they did, they lost too much in the way of benefits. There are some ways to reduce the harm done; for those ideas I refer you to Milton Friedman.

Some on the Socialist side talk about the altruism involved in redistributing from rich to the poor. The catch is that most people don’t act all that altruistic most of the time. So the Socialists help things along with “enforced altruism”. In the end a society is pretty much left with just force to accomplish the wealth transfers.

Some economists looking the Microeconomics side of things say there’s really no human altruism at all; it’s just that the incentives people are operating under aren’t properly recognized. The altruism argument can continue – but the bottom line is that capitalism is aligned with human nature to a much greater degree than is Socialism. And it’s hugely more aligned with human nature than Socialism’s more extreme variant, Communism. That’s an essential reason why the capitalist system creates more wealth than the others.

An economically-minded walk through anthropology and history would show the same outlines. Which societies traded? Which societies developed technologies, arts, sciences, and advanced culturally in general? And what freedoms did at least some strata of those societies enjoy? Consider how the merchant classes “got away” from the aristocratic classes in the European Renaissance. They pretty much took economic power through a sort of generations-long accident.

Looking the other way, consider what happens when modern technology is used to control people and restrict freedoms. This can be done very effectively today, but when it is the wealth scenario isn’t pretty. For examples see North Korea, Russia, Venezuela, and some African countries. An old joke about the Soviet Russian economy is “We pretend to work, and they pretend to pay us.” The evolution of markets, or perhaps better called the market anarchy, after the Soviet Union fell is a separate study.

Politics was once known as “Political Economy” and for good reason. One of the government’s top responsibilities is to promote a good economy for the prosperity of its citizens. So we can say that good politics is, or should be, good economics.

For another view of wealth creation consider that American poor people are far richer than many people throughout history, and richer than most poor people throughout the rest of the world today. Why is that? Wealth creation. But that wealth isn’t ordained to continue forever. The “golden goose” of the free market economy must be cared for. For still another view consider Cuba, where poor people are far poorer. And most of the people are poor. In Cuba the disincentives to wealth creation are considerable, and in large part people are outright prevented from wealth-producing activities.

How is Wealth Created?

If someone has some money, they can do two interesting things with it. They can invest it or spend it on consumption. The uninteresting thing they can do with it is to hide it under the proverbial mattress.

If our person invests a dollar it becomes capital for investment. And that’s the main purpose of capital in a capitalist system. Capital is assembled, investments are made, and innovations result. The innovations and efficiency improvements that result from investments are the key to the creation of wealth.

I should note here that for many people the word capitalism is associated with greedy capitalist fat cats sitting in guilded mansions and hording money from the little guys. A capitalist may consume conspicuously. But to dwell on that is to miss the fundamental point. A capitalist invests capital in the hopes of creating wealth and therefore profitable returns or she won’t be a capitalist (with any capital) for long.

The key property that makes the whole process work is that the new wealth benefits not just the original capitalist but the entire society and economy. That is what the “supply-sider” economists are talking about. For a grossly simple example, companies made money inventing, improving, manufacturing and selling televisions. Everybody has benefited from televisions.

If our person spends a dollar economists can study where that dollar goes. As the dollar goes through various companies’ and people’s hands economists can calculate the rate of travel. They call it the velocity of money. Banks amplify the available money in the system through lending. Economists study banks and the effects their lending has on the money supply. The multiplier effects of the different paths that money can take through an economic system are studied.

If our person chooses to hide money under the mattress that has an economic effect too. It’s easy to see how the velocity of that money is slowed down. Also no new wealth is created, no consumption is enjoyed, and our person can sleep soundly on the mattress until she realizes that inflation has in time eroded the value of her money.

The institutional fear in the present credit crisis has caused banks and other players to do the corporate equivalent of hiding money under their mattresses. And we are observing the contractions in economic activity resulting from those choices. We’re also watching governments scramble to restore confidence so money and economies start moving again.

I’ve really just hinted at huge subject areas within the study of wealth creation. I can only urge you to study the subject, at least a little. Also I invite you to capture your own good ideas and try to make them real. You could create some wealth.

Capitalism provides the incentives and means to create wealth. This is as true for the guy with the idea at his kitchen table it is for the big company investing billions annually in R&D (Research and Development). If either of them or any other company comes up with a product people want, business expands and more people are hired to supply the product. Wealth is created and the virtuous cycle continues.

Capitalism and free markets know no boundaries of race, ethnicity, gender, sexual orientation, language, physical ability or any other human classification you can think of. It works like math and it works for everybody. The boundaries and impediments perceived by people are real, but they are not inherent properties of Capitalism. Therefore their remedies do not lie in tinkering with, or rather distorting, markets.

What’s a Free Market and How are Markets Distorted?

Capitalism is built on free markets. So to truly understand the Capitalism and Socialism discussion, one must understand the basics of a market, and free markets. I’m going to attempt a rudimentary discussion of markets with only text. But it’s better with pictures, or actually with graphs containing supply and demand curves. In college we used an edition of the Paul Samuelson economics book. He’s author of a monumental series of economics textbooks. Weighty tomes to be sure, but to me the “dismal science” of economics gets exciting when it’s applied. Have a look at a Samuelson economics text or any like it for loads of graphs like the ones I discuss here.

First, imagine a garden variety X-Y graph, with a downward-sloping left-to-right demand curve and an upward-sloping left-to-right supply curve. Your X-axis across the bottom is quantity, from zero up to “a lot”. Your Y-axis up the left side is price, from zero up to “a-lot”.

Why are the curves this way? If something is expensive people don’t want to buy very much of it. Quantity is low. If something is cheap, people will take a lot of that! Oh yeah! If something is free people will take it all. Self-interest is certainly visible there, but maybe not all that enlightened. On the other hand if something is very cheap suppliers can’t find a way to supply much of it. So the quantity supplied would be low at that price. But if the price is very high suppliers will be happy to supply it all day! Quantity is high.

In economics, the point where the two curves cross is what the free market will bear. And that’s the most efficient quantity of the product to be supplied and consumed. It’s also the most efficient price. In economics you’d learn all about what happens to quantities supplied and demanded when distortions are inflicted on a market.

During the spike in crude oil and gasoline prices, many commentators, including those who should have known better, said "demand has fallen". That was usually incorrect. When prices rose, the “quantity demanded” fell.

To understand the difference, return to our typical downward-sloping demand curve.
Again, the price rose and people bought less gasoline. Had demand fallen? No, because the demand curve has not moved. Had the price fallen back to where it started people would have bought just as much gas as before. The market was just at a different point on the demand curve then, where the price was higher and the quantity demanded was less.

A few weeks later, people had developed workarounds for the high gas prices. The demand curve had indeed moved, and therefore demand had really fallen. And now the markets are working on discovering new prices given that people have actually changed their preferences and behavior at a given price of gasoline.

So if you were to say "the quantity demanded fell" rather than "demand fell" earlier on that would have been economically correct, if not quite as short and clean a phrase. Why does this matter? Economists need to understand this stuff accurately to make good recommendations. Traders need to understand things accurately to have a chance at making profitable trades. I took you through it all so you’d have a feel for how markets are viewed.

What about a market distortion? Gasoline during the “oil shock” of the 1970s was a classic example. The price went up high, but in that instance the government decided to fix it. Price controls were mandated. The result was that people could buy the gas at the mandated price – if they could find it. Hence the infamous gas lines. Given where the supply curve then was, supplier’s decisions amounted to “well if we can only get that price, then we can only supply that much of it.” They weren’t trying to punish anybody, they were just interested in staying in business.

I’ll leave to you the reader the challenge of researching how to draw this type of market distortion on the graph. A hint is that you’ll see a disturbing gap between the quantity the buyers want and the suppliers supply at the given price. These shortages are painful and inefficient.

This time around with the gas price spike, the government had kind of learned its lesson and decided to forebear on capping the price of gasoline, to its credit. See, we lived through it and prices are coming down. A windfall profits tax on oil and gas producers would have been a whole different type of market distortion.

Market Distortion is a very timely subject as it applies to the credit crisis, sub-prime mortgage debacle and the housing price bubble and bust. For the best and most detailed account of this I refer you to the Thursday October 30 front page article in Investor’s Business Daily (IBD) entitled Why The Mortgage Crisis Happened.

Price Discovery and Where to Look for the Invisible Hand

As we look at markets we come the next key concept in economics, known as the “Invisible Hand”. This was introduced early on by Adam Smith, a very well-known economist in history. The Invisible Hand is just referring to people changing their behavior to react to the realities in the markets in which they participate. Why did a person or company decide to do this or that? The Invisible Hand guided them to do it.

The Invisible Hand guides people in making the most efficient decisions in their “enlightened self-interest” through the mechanism of free markets. The sum total result is the most efficient allocation of resources in the subject economy. That’s another way of saying the most wealth and the highest level of enjoyment, or total utility, for the people in the economy.

When a market is distorted, the player’s decisions in the market are distorted. Politicians sometimes seem to ask “Well can’t we just distort things a little bit? Can’t we just take a little tax or nudge things this way or that?” Sure we can. It’s done all the time. But every time it’s done the outcome is less than optimal, the player’s decisions around price and quantity are changed and the total wealth and “utility” enjoyed by the society are reduced. Don’t just take my word for it, let a market-minded economist prove it to you with numbers.

Free markets, the Invisible Hand, and people’s pursuit of their own Enlightened Self Interest depend on “price discovery”. How can you know what to do with something if you don’t know its price? Ask a person who has just sold a $10,000 piece of art at their garage sale for $10 and learned of their error about price discovery.

Price discovery is an essential outcome of trading and speculation. When the price is discovered it’s usually visible to all. In the recent credit crunch you’ve heard about Credit Default Swaps (CDS). These can be loosely described as insurance policies written against defaults on portfolios of loans. But they’re not traded on an exchange for all to see. They are privately traded “over the counter”. So it emerged in the crisis that the prices of these CDSs were not discoverable or visible. And since their total value was gigantic and owned by companies worldwide, fear set in on a massive scale and a lot of behavior was distorted, to go along with the markets.

Dynamic Analysis and International Trade

A mistake often made by our friends in government is that of static analysis. It’s essentially the assumption that a tax or some other distortion can be introduced into a market and no player will change their behavior. That is, customers will buy and suppliers will supply the same quantities as before. And everyone will stay just where they are, doing the same thing, and all be happy (well, I’m getting a little snide here.)

The governing entity is shocked to learn that the quantities change, markets are sometimes abandoned, industries die, or companies move to different states or offshore entirely. And the government’s revenue gain or intended outcome is quite different than projected in the analysis.

So dynamic analysis rather than static analysis would have been a better way to go. But sadly, governments at all levels get to learn this lesson over and over. Dynamic analysis is harder to do, but not impossible for good economists.

This brings us to international trade. Free trade versus protectionism is also an important subject of contention in this presidential election. The various devices of protectionism are all simply market distortions. And as such they reduce the overall efficiency and wealth creation of the participating countries. A discussion of international trade and countries’ “comparative advantage” is a bit out of scope here. I’ll just offer the by-now-unsurprising comment that you can ask your local free-market economist, who can prove to you with numbers that free trade really is better for overall wealth creation.

The only positive thing to be said for protections is that a grossly uneven trading relationship will have strains. That is, a completely free-trade country trading with a highly protectionist one will suffer some costs. Consider our trading relationship with China versus our trading relationship with Canada as examples. The take-away is that protections sometimes need to be ratcheted down with a partner, rather than unilaterally abandoned, for optimal results.

For more on these subjects I refer you to the Tuesday, October 28th editorial in Investor’s Business Daily (IBD) entitled Defining Problems With Socialism For The Post-Cold War Generation.

Please consider these points as you listen to what the candidates say, however inarticulately or intentionally distorted. I hope you’ve enjoyed at least a line or two in here. Thanks for reading.