Cato Op-Eds

Individual Liberty, Free Markets, and Peace
Subscribe to Cato Op-Eds feed

Today’s essay for Cato’s Online Forum on the Transatlantic Trade and Investment Partnership comes from Berkeley Political Science Professor Vinod K. Aggarwal, who explains the growing popularity of trade liberalization outside the WTO, and discusses how third countries might react to a TTIP agreement between the United States and European Union.

This essay and this forum are associated with an upcoming TTIP conference at Cato on October 12.

Desperately searching for an establishment Republican who can block Donald Trump, many observers are ignoring the strong and politically astute performance of Rand Paul in Wednesday night’s Republican debate. A classic example this morning is Michael Gerson, the big-government Republican who has written for George W. Bush and the Washington Post and is the most anti-libertarian pundit this side of Salon. Recognizing the need for the Republican party to reach new audiences, especially “with minorities, with women, with younger voters, with working-class voters in key states,” Gerson writes:

The relatively rare moments of economic analysis and political outreach in the second Republican debate — Chris Christie talking about income stagnation, or Marco Rubio lamenting the “millions of people in this country living paycheck to paycheck,” or Ben Carson admitting the minimum wage might require increasing and fixing, or Jeb Bush setting out the necessary goal of accelerated economic growth, or John Kasich calling for a “sense of hope, sense of purpose, a sense of unity” — served only to highlight the opportunity cost of the Trump summer.

What’s missing? Well, Rand Paul talked about marijuana reform, an issue that is far more popular than the Republican Party, especially among younger voters. And criminal justice and incarceration, an issue of special concern to minorities. And especially about our endless wars in the Middle East, at a time when 63 percent of Republicans and 79 percent of independents say that the Iraq war was not worth the costs, and when 52 percent of Americans say the United States “should mind its own business internationally and let other countries get along the best they can on their own.” (Not the best formulation, as noninterventionists are not opposed to international activity, just to imprudent military action. But you go to print with the polls you have, not the polls you wish you had.) Those are attempts to reach new audiences that a fair-minded debate watcher would have noticed.

Fortunately, not everyone was deaf to Paul’s arguments. Even at the Washington Post people noticed:

Eugene Robinson: Rand Paul seems to have become a libertarian again, sticking up for individual rights. And unlike the others on the stage, he spoke out for peace rather than war.

Charles Lane: For my money, Paul has delivered the two pithiest critiques of Trump of anyone so far in the debates.

In Cleveland, he pointed at Trump, who actually boasts about his promiscuous political donations, and declared, with complete accuracy, “I mean, this is what’s wrong. He buys and sells politicians of all stripes.”

Last night, Paul was also spot-on regarding Trump’s over-the-top rudeness: “Do we want someone with that kind of character? With that kind of careless language? I think there’s a sophomoric quality about Mr. Trump… about his visceral response to attack people on their appearance, short, tall, fat, ugly.” He added: “Do we really want someone in charge of our nuclear arsenal who goes around basically using the insults of a junior high or a sophomore in high school?” Lately, Paul’s stump speeches hammer on these themes, too.

And in the conservative media:

Tim Carney of the Washington Examiner: Rand Paul just gave the smartest comments on foreign policy from a GOP debate stage in decades.

Guy Benson of Fox News and Townhall: Rand Paul making case that Iraq war didn’t make us safer… which most Americans agree with.

And in the heartland of America, John Kass at the Chicago Tribune:

Rand Paul won the Republican presidential debate.

It wasn’t even close….

Paul, the senator from Kentucky, spoke like a thoughtful grown-up, overshadowing them all on foreign policy, explaining that intervening in Middle East civil wars is a recipe for disaster….

“Sometimes both sides of the civil war are evil, and sometimes intervention sometimes makes us less safe,” Paul said. “This is the real debate we have to have in the Middle East….

There is no buzz to such rhetoric, no bloody gusto, no King Leonidas abs of steel, no Joan of Arc with a sword.

It’s just grown-up talk, and so, quite likely, not entertaining at all.

Right now 50 percent of Republicans tell pollsters they support two candidates who have never before sought or held public office, and who are highly unlikely to succeed in this race. That means the race is still wide open. As Rand Paul said Wednesday night, “If you want boots on the ground, and you want them to be our sons and daughters, you got 14 other choices.” Millions of Republicans believe in free enterprise, smaller government, less punitive drug laws, and a more cautious approach to military intervention. If Paul can convince them that he’s the only candidate who shares their perspective, he has every opportunity to move up sharply in the polls. But there’s powerful Establishment resistance to new ideas and new policies.

We had our second debate of the primary season on Wednesday, a grueling five hour affair pitting fifteen Republican hopefuls against each other in two debate sessions. When CNN’s hosts weren’t asking inane questions – i.e., whether candidates had considered their Secret Service nickname or whether they would trust Donald Trump with the nuclear codes – they did find some time to focus on foreign policy issues. I have a piece over at the National Interest discussing the debate, and highlighting some of the misleading narratives underlying much of the GOP debate.

Though there were some factual errors, the bigger problem was the reliance of most candidates on fundamental ideas which are effectively untrue, like the idea that the U.S. military is weak or small compared to that of other nations:

Ben Carson noted that “our Air Force is incapable of doing the same things that it did a few years ago. Carly Fiorina argued that “we need the strongest military on the face of the planet,” while Marco Rubio noted that “… we are eviscerating our military.” Such claims are entirely false: the U.S. military is among the world’s largest, spending more than the next 13 countries combined in 2013 (including China and Russia)!  Today, the United States makes up 38.4% of all global military spending, and spends substantially more on the military than it did on average during the Cold War.

Many candidates also expressed support for the idea that it is U.S. absence from conflicts which creates problems, rather than U.S. intervention itself. Again, this narrative has proven to be demonstrably false in the last ten years, as examples from Libya, Iraq and elsewhere show:

Jeb Bush noted that “when we pull back, voids are created. We left Iraq… and now we have the creation of ISIS.” Again, this narrative is convenient for many candidates, allowing them to blame President Obama’s troop withdrawals, rather than the initial disastrous decision to invade Iraq, for the rise of ISIS. Unfortunately, it is similarly false: Iraq’s sectarian problems existed long before the U.S. withdrawal of troops in 2011, and the rise of ISIS is at least partly a result of the Bush administration’s decision to disband the Iraqi army.

When we base our foreign policy debates on such misleading ideas, candidates will present policy options which are unworkable or even counterproductive. Voters deserve a better debate, one which acknowledges the nuance and complexity of foreign affairs. You can read the whole piece here

Pope Francis asked all Catholics to pray for those “who seek a home where they can live without fear” but went further by actually praising those who help refugees.  In arguing for the admission of more Syrian refugees, he said the goal should be “to give them a concrete hope, and not just to tell them: ‘Have courage, be patient!’”  No doubt the Pope would go further than many of us in arguing for welfare for refugees even though merely getting the governments of the way to stop hurting refugees is enough, but his full-throated support for granting them refuge is commendable.

But Pope Francis didn’t just talk about refugees fleeing violence, he also discussed those fleeing poverty:

We see these refugees, these poor people who are escaping from war, escaping from hunger, but that’s the tip of the iceberg.  But underlying that is the cause, and the cause is a socio-economic system that is bad, unjust, because within an economic system, within everything, within the world, speaking of the ecological problem, within the socio-economic society, in politics, the person always has to be the center.  And today’s dominant economic system has removed the person from the center, and at the center is the god of money.  [Emphasis added]

The Pope is correct that free-markets are to blame for immigration, but not in the way he thinks.  The prosperity of free-market countries attracts large numbers of immigrants from less-free ones.  Economists Maryam Naghsh Nejad and Andrew T. Young recently found that improving economic freedom is a huge attraction for immigrants.  Fortunately that movement does not decrease economic freedom in receiving nations and may actually increase it according to this paper, but the lesson is that people who vote with their feet prefer relatively freer economic systems.

The Pope is deeply and rightly concerned with poverty but he should consider that immigration is an excellent way to fight it.  Migration is one of the most successful strategies the World Bank has developed to fight poverty – raising the wages of Tongan migrants in this example almost 10-fold in a short period of time.  No other development project has shown such dramatic improvements and the improvements are scalable.  Crucially, as economist Michael Clemens pointed out, that increase in Tongan wealth also made New Zealand a wealthier nation through the benefits of mutually voluntary exchange.

Pope Francis is generally supportive of liberalizing immigration policy and reducing poverty around the world, but he should realize that free-markets and the migration of poor people to them is the cheapest and fastest way to alleviate much human suffering.

Last week, the Department of Justice announced a new policy regarding its approach to corporate criminal investigations.  Instead of focusing first on the company and, having resolved that portion of the investigation, turning to the task of identifying potential individual criminal suspects, prosecutors are now directed to build their cases against individual wrong doers from the start.  Media coverage of this policy statement has focused on criticism levied against the administration for being too soft on Wall Street and too cozy with corporate donors.  The New York Times trotted out the old complaint that no one went to jail in the wake of the financial crisis (even though, to my knowledge, no one has ever identified a criminal law the violation of which caused any part of the crisis).  While the administration’s rhetoric about equal justice before the law is admirable, the policy memo and its surrounding coverage have a distressing whiff of scapegoating about them. 

Deputy Attorney General Sally Yates asserted that the DOJ would not simply “accept…a company’s cooperation when they just offer up the vice president in charge of going to jail.”  Yet the incentives inherent in the new policy risk provoking just that response.  It is clearly the intent of the new policy to procure more criminal charges against individuals.  Prosecuting attorneys will therefore be under pressure to find individuals to charge.  Additionally, the first principle stated in the memo is “To be eligible for any cooperation credit, corporations must provide to the Department all relevant facts about the individuals involved in corporate misconduct.”   Companies therefore will be highly incentivized to identify at least one individual and provide as much information as possible, as quickly as possible, to the DOJ on that person’s conduct.  Despite the memo’s insistence that the company identify all individuals involved in the alleged misconduct, “regardless of their position, status or seniority,” company management, knowing that at least one individual is likely to face criminal charges, will be motivated to point fingers at anyone but themselves.  The more quickly their accusations can coalesce around one individual – the Chief Going to Jail Officer – the more quickly the DOJ may end its “send individuals to prison” phase and turn to settling up with the corporation itself.  As the memo acknowledges, corporate criminality is difficult to prove, especially “[i]n large corporations, where responsibility can be diffuse and decisions are made at various levels[.]”  In these circumstances, “it can be difficult to determine if someone possessed the knowledge and criminal intent necessary to establish their guilt beyond a reasonable doubt.”  All the more reason, if management is convinced someone is headed to prison, to ensure the arrows all point at one culpable and easily convictable individual, saving the skins of everyone else. 

It may be, however, that the incentives of criminal prosecution will always include finger-pointing and scape-goating.  As I said, the argument that “[t]he public needs to have confidence there is one system of justice and it applies equally regardless of whether that crime occurs on a street corner or in a boardroom” is a compelling one.  I would add, however, that we should also have confidence that the laws apply equally whether the boardroom is a large expensive one or a shabby little one.  Companies facing a government investigation will often hire a law firm to complete an internal investigation on the company’s own dime.  The investigation, yes, may be ordered to fulfill the directors’ duty to the company and to compliance with the law, but is also almost always intended to help smooth the company’s negotiations with the government.  These investigations therefore occupy an uneasy space.  First, they encourage the corporation to, in effect, inform against itself.  Second, they provide the opportunity for a better settlement for the companies wealthy enough to afford the investigation.  Internal investigations are not cheap.  To be effective, they must be thorough and thoroughness is expensive.  It requires a large quantity of attorney hours to ensure that the investigation is conducted methodically, carefully documented, and that all leads are run to ground.  When the DOJ says that “providing all relevant facts” is the “threshold requirement” for eligibility to have its cooperation considered as a mitigating factor and that cooperation credit will be assessed based on factors such as “timeliness…diligence, thoroughness, and speed,” it suggests that companies with the money to pay for a high caliber firm to conduct the investigation is likely to get the best deal.  While this is not anything new, it nonetheless contradicts the stated purpose of the new policy: ensuring equal treatment under the law.

Charging executives individually may well encourage them to exercise more diligence in keeping on the right side of the law.  However, it would be irresponsible to ignore the potential side-effects of any policy whose intent is to put more individuals behind bars.  This is especially true when the policy appears to have been developed in reaction to public clamor that “someone” needs to pay.  No just law was ever written to placate witch hunters. 

The African Intellectual Property Organization (OAPI) has reportedly accepted the registration of “Scotch” as a geographical indication for whisky “made in Scotland from water, cereals and yeast, and matured for at least three years.”  It’s unclear what if any commercial consequences this move will have considering that the 17 West African countries of the OAPI are not major consumers of Scotch.  However, it does have significant importance as a step forward in the attempt to use GI protection to secure excessive privileges for Old World producers in foreign markets.

Perhaps the word “Scotch” does indeed refer only to whisky made in Scotland.  The Scottish producers of scotch certainly think so.  In no uncertain terms, the spokesperson of the Scotch Whisky Association says that GI registration will protect consumers from “fakes.” 

But the purpose of GI protection is generally not to fight against fakes (fraud is already illegal everywhere) but to prevent the use of place names as generic descriptions of products.  Scottish producers want to make sure that no where on earth are consumers allowed to think that “Scotch” simply means whisky made according to the methods historically used in Scotland. 

Consider the example of Champagne.   To some, champagne is a word that means bubbly white wine.  To others, it is a name for wine made near Epernay, France according to traditional methods.  French champagne producers have been fighting long and hard to claw back the word and prohibit its use as a generic term.

But there are many, many geographic words that are used as generic descriptors.  Consider Belgian waffles, French fries, Philly cheesesteak, or even Valencia oranges.  Despite being the names of places, these words tell you what the product is like, not where it came from.  

There are two big policy questions surrounding GIs: (1) whether a geographic term deserves protection and (2) what actions are prohibited once a GI is protected.  Let’s consider the second question for now.

Whenever a government decides to control the use of language to protect commercial interest, it runs the risk of overprotecting that interest at the expense of the public.  This is a basic problem for trademark law, where to prevent excessive protection, trademarks are not protected if they are merely descriptive terms, and the test for infringement of protected marks hinges on whether there is a likelihood of confusion as to the source of a product.  In the United States, GIs are generally protected under trademark law.

The OAPI’s GI protection laws are modeled after the European system, which does not employ those kinds of limitations.  Consider this provision of the OAPI’s GI rules:

it shall be unlawful to use, for commercial purposes, a registered geographical indication, or a similar designation, with respect to the products specified in the Register or similar products, even if the true origin of the products is indicated or if the geographical indication is in the form of a translation or is accompanied by terms such as “kind”, “type”, “make”, “imitation” or the like. [emphasis added]

In other words, use of the word “Scotch” is now illegal even if there is zero possibility that a consumer would think the whisky comes from Scotland because the bottle says “Pecos Bill’s Scotch-style Texas Whisky.”  This kind of rule does not benefit consumers in any way at all, but it does further the interests of Scottish whisky makers at the expense of common, accurate speech.

Why should this matter to anyone outside of Scotland and West Africa?  Because it is part of a very troubling movement within international economic policy. The European Union is using free trade agreements to pressure countries to adopt this excessive form of GI protection and to protect a list of specific GIs even if they are generic terms in that country.  These include wine names like champagne, port, and sherry as well as numerous generic cheese names like parmesan, asiago, feta, and gorgonzola. 

As the United States negotiates the Transatlantic Trade and Investment Partnership with the EU, it’s important for American policymakers to understand that Europe’s approach to GIs is protectionist and incompatible with the goal of free trade in a globalized economy.  This is true even if you think “Scotch” can only be made in Scotland.

At The National Interest, I write about Rand Paul’s clear and forceful presentation of his noninterventionist views at last night’s Republican debate:

Rand Paul found his voice last night. He’s a sincere noninterventionist in foreign policy. If he can get that message across, there’s a Republican constituency for it, and even broader support among independents.

Coincidentally or not, Paul’s standing in the polls has fallen as he seemed to move away from the noninterventionist positions associated with his father, congressman and presidential candidate Ron Paul. He called for a declaration of war with ISIS, more military spending, and rejection of President Obama’s Iran deal.

Meanwhile, hawkish conservative pundits consistently underestimate the extent of non interventionist and war-weary sentiment in the Republican party….

Standing in front of Reagan’s Air Force One, he embraced Reaganism:

“I’m a Reagan Conservative. I’m someone who believes in peace through strength, and I would try to lead the country in that way knowing that our goal is peace, and that war is the last resort, not the first resort. And, that when we go to war, we go to war in a constitutional way, which means that we have to vote on it, that war is initiated by congress, not by the president.”

And most particularly in electoral terms, he set up the alternatives for voters:

“If you want boots on the ground, and you want them to be our sons and daughters, you got 14 other choices. There will always be a Bush or Clinton for you, if you want to go back to war in Iraq.”

That’s Paul’s best path to the top of the polls. All the other candidates supported the Iraq war (except Donald Trump) and threaten more military action today….

Guy Benson of Townhall and Fox News tied his comments to politics: “Rand Paul making case that Iraq war didn’t make us safer…which most Americans agree with.”

I wrote more about noninterventionism at National Review in May, drawing on arguments from The Libertarian Mind.

Two very recent episodes involving basic constitutional rights demonstrate the power of an informed and active citizenry successfully confronting government fear-mongering and overreach.

The first happened this week in Irving, Texas, where 14-year-old Ahmed Mohamed was arrested after bringing a homemade clock to school to show his engineering teacher.  Government officials insisted that Ahmed’s clock might have been a bomb.

Distressingly, Ahmed claims that his interrogation occurred despite the fact that he asked to see his parents before answering any questions.  Police allegedly refused, and continued the interrogation anyway.  Ahmed was subsequently and inexplicably handcuffed, arrested, and transferred to a juvenile detention facility, still without access to his parents.

The public reaction against Ahmed’s treatment was swift and voluminous. Facebook and Google executives offered the aspiring engineer trips to their offices.  MIT representatives extended similar opportunities.  Even President Obama got in on the act, inviting Ahmed to bring his clock to the White House. #IStandWithAhmend quickly became the cause of the day on social media.

Government officials only fed the frenzy by issuing defenses such as “He kept maintaining it was a clock, but there was no broader explanation,” and that officials had “followed protocol.”  The school even sent home a letter defending itself for protecting students and assuring parents that their children were safe from a threat that never was.

When asked to explain why police refused to allow Ahmed to speak with his parents or a lawyer during his interrogation, police chief simply said that he “[didn’t] have answers.”

That answer isn’t good enough.

A minor child should not be interrogated by police in the absence of some adult who can protect him.  And no person, regardless of age, should be interrogated after requesting the assistance of adult counsel, whether it’s a parent (who is treated as a legal representative of a minor child in a great many contexts) or a lawyer.

School officials and police clearly have an interest in protecting the safety of the children under their supervision, but public officials also have an obligation to respect the Constitutional rights of everyone under their authority. Even under the most charitable interpretation of the facts, the interrogation was out of bounds.  Once it became obvious that there was no bomb and the investigation shifted to whether the whole thing was either a hoax or a misunderstanding, any conceivable threat had evaporated.

In some areas of the law, policy against allowing minors to waive their rights is so absolute as to produce absurdity, such as when age of consent laws are used to prosecute sexting teenagers for production and possession of child pornography (to wit: pictures of themselves).

Yet when it comes to protecting minor children from the immense power of the police and prosecutorial machinery of the state, children are routinely left defenseless. No child should have to face the government alone.

The government’s behavior throughout this case invites allegations of racial profiling, but profiling isn’t doing all of the work here.  Students of all ethnicities and faiths have been subjected to violations of their rights in school settings by government officials.  From strip searches for ibuprofen to suspensions over pop tarts shaped like guns, to random, warrantless searches, American school students are routinely at risk of having their rights violated by overly broad policies or overzealous government officials.

The Supreme Court once said that public school students do not “shed their rights … at the schoolhouse gate,” but all too often school officials and police officers use tactics designed for hardened criminals to circumvent the rights of students.

Given the tremendous outpouring of support, it’s likely that Ahmed Mohamed will be made whole from this experience.  The same cannot necessarily be said for the great many other students who have fallen victim to overzealous school policies and law enforcement.

Ahmed’s case does, however, highlight the value of an informed and activist citizenry willing to hold government officials accountable when the legal system will not.

The second episode happened yesterday, when the Lebanon, New Hampshire Library Board of Trustees rejected attempts by the Department of Homeland Security and the local police department to convince the library overseers to shut down a Tor node created in the Kilton Library as part of the Library Freedom Project. As the White River Junction, Vermont Valley News reported

The Lebanon Library Board of Trustees let stand its unanimous June decision to devote some of the library’s excess bandwidth to a node, or “relay,” for Tor, after a full room of about 50 residents and other interested members of the public expressed their support for Lebanon’s participation in the system at a meeting Tuesday night.

“With any freedom there is risk,” library board Chairman Francis Oscadal said. “It came to me that I could vote in favor of the good … or I could vote against the bad.

“I’d rather vote for the good because there is value to this.”

Other libraries in the region may follow Kilton’s example

Reading (Vt.) Public Library Trustee Mildred Waterfall came to Lebanon for Tuesday’s meeting and said the Reading board will discuss hosting a Tor relay at its next meeting.

A former teacher, Waterfall likened the idea of taking Tor away to prevent the criminal activity of a few to a new teacher punishing the entire class for one student’s bad behavior.

“That’s what it feels like,” she said before the meeting.

The experience of Kilton Library employee  Maria Ortiz in her native Columbia gave her a special appreciation for the Lebanon Library Board of Trustees decision

“Democracy in South America is very powerful on paper, but in America it’s powerful not only on paper,” Ortiz said.

She said the library’s support for freedom of speech “made me proud to be here.”

This local victory for free speech and technological innovation is part of the larger national debate between those like FBI Director James Comey who want to compromise privacy and encryption in the name of “national security” and those who argue that strong encryption and privacy safeguards are our best defense against malicious actors, whether individuals or foreign powers. The latter argument may at last be gaining some ground with senior Obama administration officials.

It’s terrific that President Obama is going to host Ahmed at the White House. That meeting would be all the more powerful if he also invited the sponsors of the Library Freedom Project so they can talk to Ahmed about his constitutional rights in the digital age. It’s possible that the President might learn something too. 

In mid-2013, the Transatlantic Trade and Investment Partnership negotiations were launched to great fanfare with a pledge from its architects to conclude a deal within one year on a “single tank of gas.” Nearly two and a half years and 10 negotiating rounds later, a final TTIP deal is nowhere in sight. Well, if there is anything that trade policy observers should know by now to be an ironclad law of physics, it’s that deadlines for concluding negotiations are never respected.

Concluding trade agreements can be a long and arduous process, especially if the United States or the European Union is a party to the negotiations.  So when the United States and the European Union (who are used to dictating the terms of trade deals to smaller economies) are both party to a negotiation, it probably makes sense to budget in a little extra time for refueling – and perhaps even a new set of tires.

With that in mind, on October 12 the Cato Institute’s Herbert A. Stiefel Center for Trade Policy Studies will host a conference titled: Will the Transatlantic Trade and Investment Partnership Live Up to Its Promise? Featuring 30-35 international trade and investment policy experts from academia, think tanks, business, and government, the conference will examine the economics, geopolitics, and architecture of the TTIP during a full day of panel presentations, interviews, and debates. The program is open to the public and you are encouraged to attend.

Among the many questions that will be raised during the conference are:

  • What are the prospects for reaching a comprehensive trade and investment deal between the United States and the European Union?
  • What exactly is under negotiation, and what is the strategy for advancing those negotiations?
  • Would it make sense to exclude sacred-cow issues that will only bog down the negotiations?
  • Is it wise to continue pursuing a single comprehensive deal for all issues on the table, or is it better to aim for a sequence of smaller agreements?
  • Should a deal include other closely integrated countries, such as Canada, Mexico, and Turkey?
  • How will TTIP affect the multilateral trading system, relations with the BRICS countries, and prospects for developing countries?
  • Where are the biggest potential gains for U.S. and European businesses?  For consumers and taxpayers?
  • What are the major domestic political impediments?

In conjunction with the conference, each participant has been asked to write an essay of approximately 1,500 words on any aspect of the TTIP that he or she finds interesting, important, or compelling.  Those essays will be published and stored in this space – one or two per day – beginning today and running through the week following the conference, when the 11th Round of TTIP negotiations will be taking place in Miami. I hope you will peruse, if not closely read these essays, which represent a broad range of views from experts with different opinions about the importance, propriety, scope, and specific contents of the TTIP. Your feedback is welcome and encouraged.

With that background, the first essay is from Jim Kolbe of the German Marshall Fund of the United States, who gives a solid overview of the stakes and potential benefits of TTIP, while describing the formidible obstacles the negotiators will need to surmount.

For all the ink spilled on TARP — the bailout package authorizing the Treasury to purchase or insure up to $700 billion of “troubled assets” during the financial crisis — that program is dwarfed by another market intervention that occurred around the same time. In fact, the Government Accountability Office estimates that the Federal Reserve lent more than $16 trillion to financial firms between December 2007 and July 2010 — a figure that comes close to matching the entire, annual gross domestic product of the United States.

On Wednesday, Cato’s Center for Monetary and Financial Alternatives hosted a two-part discussion of the Federal Reserve’s emergency lending power, and the legislative efforts underway to reform it. The first panel saw the Washington Post’s Ylan Mui interview Phillip Swagel, a former Treasury official turned University of Maryland professor, Marcus Stanley, the policy director at Americans for Financial Reform, and Mark Calabria, Cato’s own director of financial regulation studies. United States Senators Elizabeth Warren (D-MA) and Richard Vitter (R-LA) joined us for the second panel, during which they outlined their proposed “Bailout Prevention Act of 2015,” as well as their broader, bipartisan quest to end “too big to fail.”

As the participants in our first panel explained, the Fed’s emergency lending is governed by Section 13(3) of the Federal Reserve Act. At the time of the financial crisis, this gave the Fed broad authority to lend to “any individual, partnership or corporation” in “unusual and exigent circumstances” so long as “other banking institutions” were not prepared to pony up the cash. The Dodd-Frank Act of 2010 tried to temper this unbridled discretion, introducing a sensible requirement that the Fed only lend to solvent institutions as part of a broad-based program of market support. Alas, the devil proved to be in the detail — or, rather, the lack thereof.

The legislative intent in Dodd-Frank was clear enough: the Fed should intervene when a lack of market liquidity imperils otherwise viable firms, but it shouldn’t be in the business of bailing out specific, failing institutions. And yet, as several of our panelists explained, the Fed’s subsequent rulemaking took a far looser view: as far as the central bank is concerned, a program is “broad-based” as long as more than one firm receives support, and a firm is insolvent only if it has already entered bankruptcy proceedings. In other words: the Fed can continue to do more-or-less as it pleases.

Why is this a problem? Enter Senators Warren and Vitter. As they both pointed out, the goal of their proposed legislation is not simply to tie the Fed’s hands in a crisis. Rather, their overriding concern is that the very existence of these broad powers to bail out financial institutions encourages risk, leverage, and cavalier management in the banking industry, while simultaneously undermining any incentive lenders and investors have to supervise the financial firms into which they put their money. As Warren explained,

If you advertise to the market that the Fed is here, and no need for any large financial institution ever to have to go to the bankruptcy court house or declare itself insolvent, but instead there will be trillions of dollars available to back up these giant institutions, I think that changes fundamentally the behavior of the big banks themselves, the behavior of those who lend them money, the behavior of those who invest in them. And I’ve got to say, in all three cases: “not for the better,” because it encourages riskier behavior knowing that there is an option available.

Warren and Vitter went on to point out that this whole dynamic distorts the market over time, tilting the playing field in favor of the biggest banks — for whom implicit government guarantees mean a lower cost of capital — and eroding the competitiveness of smaller financial institutions, who know they are not too big to fail. This leads, in Warren and Vitter’s view, to greater market concentration and more systemic risk — the very things that financial regulation seeks to avoid.

Accordingly, the senators’ proposed “Bailout Prevention Act” would significantly tighten the rules surrounding the Fed’s 13(3) emergency lending, as amended by Dodd-Frank. First, it would define “broad-based” to mean that at least five firms must participate in any emergency lending program. Second, it would require that those participating firms certify that the value of their assets exceeds their liabilities. Third, it would insist that any emergency lending be offered at a penalty rate five percentage points above that on Treasury Bills. As Mark Calabria put it, “part of this should be making the Fed actually a lender of last resort, rather than a rescuer of first resort.” It certainly seems like a good start — even if some of us would prefer that there was no lender of last resort at all.

The full discussion, which also touches on the best way to approach financial regulation going forward, is available below.

[Cross-posted from]

Senator Elizabeth Warren (D-MA) and Sen. David Vitter (R-LA) came to the Cato Institute on Wednesday to call for stricter limits on the Federal Reserve’s ability to prop up large financial institutions with loans guaranteed by taxpayer dollars—which Warren characterized as “shoveling money out the back door.”

Warren noted that, during the financial crisis, most of the focus fell on TARP. “But what a lot fewer people were talking about was how the Fed was shoveling money out the back door in a very quiet way, not to support the financial system overall, but to support very targeted financial institutions. $9 trillion—your money, tax dollars, went out the door, to just three financial institutions.” 

Vitter joked that he and Warren are “the Odd Couple” of Congress, but added, “I think the fact that we’re here working on this together illustrates how broad and legitimate the concern across America is with ‘too big to fail,’ and the fact that it is, unfortunately, alive and well.”

“Left right and middle, I think it’s a very broad concern,” he said. The senators have proposed a bill that would forbid the Fed from lending money to insolvent institutions, and would place a high interest rate on the loans.

Warren mocked the Fed’s current standard of “insolvency” for financial institutions, which they define as not yet having filed for bankruptcy. “The way I read that, they said ‘What we’re going to do is set up a little cart, right in front of the bankruptcy courthouse, and when institutions come to file their papers…we’ll just intercept and say, ‘Would you like a trillion dollars from us instead?’”

Warren argued that giving large institutions a free government guarantee unfairly pushes smaller institutions out of the market.

“The question is, will the insiders control the game—those who’ve got the lobbyists, those who’ve got a lot of money on the table, but a very small, insular group, that, frankly, wants to enhance its profits at the expense of the public,” she said. “You’re driving one set of competitors out of business, and advantaging another set of competitors.” 

“’Too big to fail’ is not over,” she said, “And it is our responsibility in the United States Senate and the United States House of Representatives to do everything we can to turn the rules in the direction of taking away the advantages that the ‘too big to fail’ banks enjoy in this marketplace and in this political system.”

Global warming theory predicts increased mortality due to global warming, but observations frequently suggest the opposite. The newest case-in-point comes from a study by Chau and Woo (2015).

Setting the stage for their enlightening new study, the pair of researchers note there is a growing concern about the potential impacts of global warming on human mortality, where some researchers estimate future increases in heat-related deaths will outnumber future decreases in cold-related deaths. In a test of this hypothesis, the two Chinese scientists examined summer (June-August) versus winter (December-February) excess mortality trends among the older population (65 years and older) of Hong Kong citizens over the 35-year period 1976-2010. This was accomplished through the performance of statistical analyses that searched for relationships between various measures of extreme meteorological data and recorded deaths due to cardiovascular and respiratory-related causes. And what did those analyses reveal?

With respect to the weather, Chau and Woo report there was an average rise in mean temperature of “0.15°C per decade in 1947–2013 and an increase of 0.20°C per decade in 1984–2013.” They also note that over the 35-year period of their analysis “winter became less stressful” with fewer extreme cold spells. Summers, on the other hand, became “more stressful as the number of Hot Nights in summer increased by 0.3 days per year and the number of summer days with very high humidity (daily relative humidity over 93%) increased by 0.1 days per year.” Given such observations it would be expected—under global warming theory—that cold-related deaths should have declined and heat-related deaths should have increased across the length of the record. But did they?

As shown in the figure below, cold-related death rates did indeed decline (by 49.3%), from approximately 21 deaths per 1,000 persons in 1976 to 10.6 deaths per 1,000 in 2010. Heat-related death rates, however, did not increase. Rather, they too declined, from 13.2 in 1976 to 8.10 in 2010 (a decrease of 38.8%). Thus, despite an average rise in mean temperature of approximately 0.20°C per decade, and counter to global warming theory, both cold- and heat-related death rates declined over the 35-year period of study, which finding lead the two authors of this study to conclude “Hong Kong has not observed an increase in heat-related deaths as predicted in the Western literature.” And that is great news for the elderly population of this famed city who have little to fear about alarmist projections of the future health-related impacts of global warming.

Summer (red line) and winter (blue line) age-standardized mortality rate (per 1,000 population) for adults age 65 and older in Hong Kong over the period 1976-2010. Adapted from Chau and Woo (2015).


Chau, P.H. and Woo, J. 2015. The trends in excess mortality in winter vs. summer in a sub-tropical city and its association with extreme climate conditions. PLoS ONE 10: e0126774. doi:10.1371/journal.pone.0126774.

Tonight, starting at 6:00 p.m. EDT, CNN will host two nationally televised debates featuring candidates for the Republican nomination for the 2016 presidential elections. Though widely regarded as the “second” debate of this election season, those of you who have been following Cato coverage will recognize tonight’s broadcasts as the fourth and fifth debates of Campaign 2016.

Cato scholars will be on hand to live-tweet both debates, bringing insightful commentary and hard-hitting policy analysis to the discussion. Follow tonight’s live-tweeters and join the conversation on Twitter using #Cato2016.

Similar to the Fox debates, the split in candidates will be based on average scores from national poll results spanning a two-month period ending last Thursday, with candidates required to average at least 1 percent support in three polls to qualify.

The first debate will feature Rick Santorum, Bobby Jindal, George Pataki, and Lindsey Graham. Then, at 8:00 p.m. EDT, Donald Trump, Jeb Bush, Scott Walker, Mike Huckabee, Ben Carson, Ted Cruz, Marco Rubio, Rand Paul, Chris Christie, John Kasich, and Carly Fiorina will take the stage.

Although CNN had originally intended only to include the top ten candidates in the later debate, an exception was made for Fiorina, whose performance in the first Fox debate helped her move into the top ten in polls conducted after that broadcast.

Candidates positions on the stage will be based on their overall rankings, with Trump—flanked by Carson and Bush—front and center for the primetime debate.

Former Virginia governor Jim Gilmore, who garnered 1 percent support in only one poll during the two-month window, did not meet the criteria for inclusion.

Join the conversation tonight on Twitter with #Cato2016.


When Pope Francis visits the United States next week, he is expected to meet with prisoners in Philadelphia and to address the criminal justice system in a speech to members of Congress.

Unfortunately, Pope Francis’ past comments in support of the drug war suggest that he will refuse to acknowledge one of the biggest contributors to American injustice and a primary reason why so many people end up in American prisons in the first place: drug prohibition.

In my book, After Prohibition, I quote a Catholic clergyman, Father John Clifton Marquis, who wrote:

Drug laws are a moral issue.  Fifty years of drug legislation have produced the exact opposite effect of what those laws intended: the laws have created a tantalizingly profitable economic structure for marketing drugs. When law does not promote the common good, but in face causes it to deteriorate, the law itself becomes bad and must change …. Moral leaders have no alternative but to choose between authentic morality, which produces good, and cosmetic morality, which merely looks good. Drug laws look good! But the tragic flaw of cosmetic morality, like all other forms of cosmetics, is that it produces no change of substance …. Authentic moral leaders cannot afford the arrogant luxury of machismo, with its refusal to consider not “winning.” Winning, in the case of drug abuse, is finding the direction and methods that provide the maximum amount of health and safety to the whole society without having a cure that is worst then the disease.

Father Marquis’s concern about the dangers of “cosmetic morality” in drug policy has been substantiated in the 25 years since he expressed it. Hundreds of thousands of people are incarcerated in this country for non-violent drug offenses. Countless innocent people, whether suspects, bystanders, or police officers have lost their lives in the name of prohibition.

And America’s drug policies have not just created these negative outcomes in America. Latin America, toward which the Pope has demonstrated a special affinity given his Argentine roots, has been for decades racked in the violence that inevitably attends the prohibition of such a lucrative market.  Take Mexico, for instance.  Although crime reporting is questionable in Mexico, estimates of the number of people killed in Mexican drug violence over the past decade range from 40,000 to more than 100,000 people.  The entire drug corridor from the Andes to the United States has regularly been gripped by unimaginable violence, creating political and economic instability in addition to waves of drug war refugees.

On the other hand, we now have evidence that decriminalization and legalization are not the disasters that drug warriors insist.  Portugal decriminalized all drugs in 2001.  In 2008, Cato published a study of Portugal’s drug policy by Glenn Greenwald that found, in pertinent part, that:

[D]ecriminalization has had no adverse effect on drug usage rates in Portugal, which, in numerous categories, are now among the lowest in the EU, particularly when compared with states with stringent criminalization regimes. Although post-decriminalization usage rates have remained roughly the same or even decreased slightly when compared with other EU states, drug-related pathologies—such as sexually transmitted diseases and deaths due to drug usage—have decreased dramatically. Drug policy experts attribute those positive trends to the enhanced ability of the Portuguese government to offer treatment programs to its citizens—enhancements made possible, for numerous reasons, by decriminalization.

The empirical evidence supports Father Marquis’s position, and invalidates Pope Francis’s calls for the continued prohibition of drugs. Just as it did during the 1920s and 1930s, drug prohibition has proved to be a cure far worse than the disease.

Pope Francis is one of the most influential moral leaders in the world, but he needs to open his eyes to the misguided “cosmetic morality” that brings about so much harm.

When a police SWAT team raided Andrew Cornish’s home in Cambridge, Maryland at 4:30am, the officers were heavily armed, dressed in black, wearing helmets and goggles, and carrying battering rams. (They were investigating small-time drug possession—seriously.) They stormed the residence without announcing themselves and killed Cornish seconds later as he emerged from his bedroom in his underwear.

Cornish’s estate sued the Cambridge police. At trial, Cornish’s estate claimed that the police violated two Fourth Amendment rules. First, the police violated the knock-and-announce rule when they failed to wait more than five seconds for him to answer the door after knocking. Second, the police violated the prohibition on excessive force when they shot him to death. The jury found for Cornish’s estate on the knock-and-announce violation and against him on the excessive force violation, awarding damages to the estate.

The U.S. Court of Appeals for the Fourth Circuit arrogated to itself the role of the jury—the resolution of questions of fact—and determined that because “the Officers’ illegal entry was not the legal cause of Cornish’s death,” the estate was only entitled to nominal damages to “vindicate the depravation of Cornish’s constitutional rights.” Cornish’s estate has now appealed to the Supreme Court.

The knock-and-announce rule is an ancient one rooted in the English common law. In the early 17th century, Lord Coke noted that if a sheriff “break the house when he may enter without breaking it (that is, on request made, or if he may open the door without breaking), he is a trespasser.” That rule continues to this day: “law enforcement officers must announce their presence and provide residents an opportunity to open the door.” Hudson v. Michigan (2006).

The knock-and-announce rule serves to protect the life, limb, and property of both home occupants and police serving a search or arrest warrant. Cornish’s estate should thus be entitled to due compensation for the unconstitutional deprivation of his right to life.

Indeed, this case is particularly troubling because it represents a growing trend of paramilitary policing in America. The over-deployment of SWAT teams radically enhances the threat of harm to both civilians and officers for what should be ordinary police work. SWAT team deployments have increased more than 1,400% since the 1980s. Between 1980 and 2005, the average annual number of domestic paramilitary raids increased from 3,000 to 50-60,000.

SWAT teams and tactical units were originally created to address high-risk situations, such as terrorist attacks and hostage crises. Today, however, these extreme situations account for only a small fraction of SWAT deployments; they’re used primarily to serve low-level drug-search warrants.

Kane v. Lewis represents an excellent case for the Supreme Court to send the important message that lower courts should respect the role of juries in our constitutional structure, not contort the law to avoid holding the police accountable. Accordingly, Cato filed an amicus brief supporting the petition for review on behalf of Cornish’s estate and calling for summary reversal of the Fourth Circuit.

The “real-bills doctrine” was roundly rejected by postwar monetary theorists of both the Chicagoan and the Austrian perspectives (Lloyd Mints 1945, Ludwig von Mises 1949). But George Selgin (1989) was right to warn us that “it would be a mistake to think of the real-bills doctrine as a ‘dead horse’” because “dead horses of economic theory have a habit of suddenly springing back to life again.”

In recent years no less prominent an economist than Thomas Sargent (2011) has declared that in the debate over alternative monetary regimes, “The real bills doctrine is alive and well today.” Most recently the leading young Spanish economist Juan Ramón Rallo of the OMMA business school and the Juan de Mariana Institute in Madrid has defended propositions that he identifies with the real-bills doctrine. Rallo draws on the writings of Antal Fekete, who has been advancing what he calls “Adam Smith’s real bills doctrine” for more than 20 years. I had the pleasure of an on-stage dialogue with Professor Rallo in Madrid this summer, where we discussed aspects of the doctrine. Fortunately, what Rallo actually defends is mostly free of the shortcomings of the usual versions of the real-bills doctrine.

To begin, let’s identify what is a real bill. To use a common example, a miller sells $1000 worth of flour to a baker and presents a bill for $1000 with payment due in 90 days. The baker endorses the bill, pledging to pay $1000 in 90 days. He plans to pay out of income to be made by producing and selling bread from the flour. The miller need not wait 90 days to get paid but can immediately sell the endorsed bill to a bank (one that considers the baker a good credit risk) at its present discounted value, say $980. The bill is “real” in being “backed” by tangible goods in process. Thus real bills are short-term commercial IOUs that finance goods through stages of production. High-quality real bills are low in default risk and liquid (have a thick secondary market with small bid-ask spreads).

It is crucial to distinguish between two different doctrines that refer to real bills.

(1) The first real-bills doctrine is a norm for money issuing. It says that a banking system will automatically issue the right (equilibrium) quantity of monetary liabilities (banknotes and checkable deposits), and will not over-issue no matter what quantity it issues, if it always issues in exchange for real bills offered to it, and never in exchange for other assets (government bonds, ordinary loans). In some versions it doesn’t matter whether the system is dominated by a central bank or whether it is on a gold standard. Thus the British anti-Bullionists claimed that the Bank of England could not have over-issued while off gold 1797-1819 because the Bank only discounted real bills, a claim endorsed by John Fullarton of the Banking School in the 1840s. The Federal Reserve proclaimed a similar doctrine in the 1920s. A monetary policy guide is clearly what Sargent (2011) has in mind when he contrasts the real-bills doctrine to the quantity theory of money. (As David Laidler (1984) showed, however, what Sargent and Wallace (1982) enunciated wasn’t the traditional money-issuing real-bills doctrine. Neither is the position that Sargent (2011) defends.)

The errors of the monetary policy doctrine are well known. (a) It wrongly takes the nominal quantity demanded of a particular type of credit as a reliable guide to the nominal quantity of money the public wants to hold. Not only are these quantities different but, as Henry Thornton noted back in 1802, a central bank can increase the quantity of credit demanded simply by supplying more money, which lowers its discount rate and raises the price level. (b) It wrongly takes the quality of bank assets acquired as a reliable governor of the quantity of monetary liabilities issued. (c) It makes redeemability of bank liabilities (in gold or otherwise) an inessential “fifth wheel” in the process that determines the quantity of money.

The money-issuing norm is what critics of fractional-reserve banking have in mind when they assert (Hülsmann 1996, p. 20) that modern free banking theorists “are nothing but modern advocates of the real-bills doctrine” or (Baeriswyl 2014, p. 13) that our theory “repeats basically the same error as the real bills doctrine.” Such criticism is completely off the mark, because modern free banking theorists (among which I count myself) have consistently rejected the real-bills money-issuing norm. In particular, Selgin (1989) and White (1995, ch. 5) emphasize its errors and show how it differs from our theory of the self-regulating properties of a free banking system.

In a nutshell, our account of the self-regulation of the quantity of bank-issued money (banknotes and checkable deposits, redeemable on demand) in a competitive free banking system centers on the premise that profit-seeking banks must carefully attend to their reserve positions. Running out of reserves and defaulting is costly. A bank that issues an excessive volume of demandable liabilities will soon experience adverse clearings (will lose reserves to other banks). To lower the risk of payment default it will be compelled to reverse its expansion to stop the outflow and rebuild its reserves. Conversely, a bank that issues less than its clientele wants to hold will gain reserves and find it profitable to expand. These responses to adverse or positive clearings will return the quantity of bank-issued money at an individual bank, and economy-wide (where flows of reserves out of and into the system play an important role), to the quantity demanded. This account does not refer to the type of earning assets that any bank holds, whether real bills or otherwise, as central to the self-regulation of the money stock. Thus it does not share any of the errors of the real-bills money-issuing norm.

While not offering a quantitative guide, selling and buying real bills did offer a convenient means for a bank to contract and expand the volume of its demandable liabilities in response to changes in demand (Glasner 1992), as indicated by changes in its reserves. Attention to reserve surpluses and deficits, not any property of the bills themselves (short duration, low default risk, liquidity) automatically guided a bank (and the banking system) to contract and expand appropriately. The maturation of bills of exchange did not as such compel a commercial bank or a central bank to contract (it did not “close a vent,” contrary to the Banking School’s “law of the reflux”). A bank unconcerned about its reserves could always purchase new bills to replace maturing bills.

Nor did a system-wide reduction in the quantity of bills offered to the entire banking system at a given lending rate – even a reduction associated with fewer goods in process – compel the banking system to decrease the overall quantity of monetary bank liabilities by an equivalent amount to maintain monetary equilibrium. A decrease in the demand for credit is not the same as a decrease in the quantity of bank liabilities that the public wants to hold. Though both are correlated with a decrease in output, the correlation is less than 100%, and the coefficient is not one (the demand to hold bank-issued money does not decline 1:1 with the volume of real bills discounted). Normally a system-wide decrease in the demand for credit in the bill market calls for an equilibrating decrease in the market discount rate.

Conversely an increase in the quantity of bills offered at a given lending rate, associated with more goods in process, does not signal that the entire increased volume of bills can be prudently purchased at the previous discount rate. A rise in the rate is called for to ration the scarce supply of funds that the banks have with which to intermediate. Competition for now-scarcer funds implies a concomitant rise in the deposit rate, which will somewhat increase the quantity of deposits demanded, but again not generally 1:1 with the volume of bills discounted. By contrast the money-issuing norm version of the real-bills doctrine calls for accommodating all offers of real bills for discount, presumably at an unchanged interest rate, and is silent on the need for equilibrating changes in interest rates.

(2) The second real-bills doctrine – and the one that Rallo proposes – is a prudent banking norm. Its origins lie in remarks Adam Smith made in The Wealth of Nations. Smith recommended real bills as a safe commercial bank portfolio asset. (Actually both real-bills doctrines are in Smith, including an erroneous money-issuing norm. But Smith also offered a more correct analysis of money-stock self-regulation, noting correction via reserve losses when a bank or a banking system tries to issue more liabilities than the public wants to hold.) A prudent bank should avoid purchasing unreal bills, Treasury bonds, or mortgages.

The prudent-banking real bills doctrine, which is what I take Rallo to be defending, is basically innocuous with respect to monetary theory so long as it does not contend that a bank purchasing only real bills cannot over-issue its liabilities. It is irrelevant to understanding how redeemability and the adverse clearing process regulate the quantity of bank-issued money.

There is much to commend (in my view!) in Rallo’s writings when he rejects mandatory 100% reserves in banking and when he favors free banking over central banking. [All the quoted passages to follow are my Google-aided translations from the original Spanish.] He rightly observes (Rallo 2013a) that a 100% gold reserve requirement “will provoke such economic inefficiencies that it will inevitably be abandoned.” Thus “the real choice is between a free-market monetary and credit system” and an unfree system. He told an interviewer: “Of course society without monopolistic state organs can soundly self-regulate the value of money and credit,” adding that healthy credit “occurs naturally in a competitive market.”

Clearly Rallo does not want to impose any real-bills requirement by statute or regulation, and he does not view the real-bills doctrine as a set of instructions for central bank policy. Rather, he views (Rallo 2013) the doctrine as a prudent banking norm toward which competition will compel free banks to practice:

A bank without privileges in an environment of freedom is therefore to be prudently managed, which in my view would result in having covered its financing with cash or self-liquidating short-term credits and in counting on abundant capital to absorb losses in relation to the risk assumed in its assets. It is what is known as the Real Bills Doctrine.

Modern free banking theorists would agree that competition in an unprivileged banking system promotes prudent bank management (insolvency and its resolution weed out the imprudent), and everyone can agree that prudence includes adequate liquidity and adequate capital. But I have two concerns about the above statement.

First, contrary to the last sentence quoted and as already noted, a prudent banking norm is not the only or even the main idea known as the real-bills doctrine. Historians of economic thought commonly use the name to refer to the money-issuing norm described above. Free banking theory rejects the real-bills-centered view about the process that regulates the quantity of broad money. Again, Rallo is not defending a money-issuing norm here, but rather talking about prudent bank management.

Second, the concept of “self-liquidating” (autoliquidable in Spanish) credit, which Rallo invokes here and in other writings, is unhelpful to clear thinking. In some authors’ arguments it is part of the magical thinking underlying the notion that real-bills-only discounting will properly regulate the quantity of money.

What does “self-liquidating” mean? Every debt instrument of finite maturity is “self-liquidating” in the sense that it eventually comes due and the borrower ordinarily repays the principal. So that can’t be it. Rallo cannot mean by “self-liquidating” only that the debt will come due soon, because then it would be redundant in the above-quoted phrase “self-liquidating short-term credits.” Instead “self-liquidating” seems to signify an IOU that (like a real bill) finances a batch of goods in process through a stage of production, like the batch of flour in the example above, such that the sale of the goods ordinarily enables repayment of the IOU. (Sometimes “self-liquidating” bills are said to be those financing consumer goods, or goods in high demand.) But business loans of all kinds finance projects that are expected to generate revenues sufficient to repay the loans. Granted, real bills were typically lower-risk assets than ordinary business loans, but of course the repayment of a real bill did not carry zero risk. The bill might not be repaid if for whatever reason the goods were not produced in timely fashion (the flour was not baked into bread within 90 days) or the products did not sell at the expected price.

Rallo has a broader concern about imprudent banking: the danger of banks undertaking “harmful maturity mismatch” by making long-term loans with short-term deposits that might not be rolled over. Holding real bills (or other short-term assets) instead of longer-term loans reduces the mismatch. Maturity mismatch, aka maturity transformation or duration gap, is a practice that does carry risks as well as performing a valued service for which there is normally a reward. The reward for a bank with a positive duration gap (assets longer than liabilities) is that it borrows at a lower rate and lends at a higher rate than with a zero gap in a market where (as usual) long rates are higher than short rates. The risk is capital loss when rates rise. If the bank has to pay unexpectedly higher deposit interest rates to roll over its deposits, before it can roll over its loans, then it suffers a loss in net worth. The US savings banks hugely suffered such losses in the 1980s.

Rallo seems to be of two minds on the extent to which a free banking system would exhibit excessive maturity mismatch. On the one hand he writes (Rallo 2009): “While I can agree with Selgin that a system of free banking would curb credit expansion and tend to remain liquid, I deny that any banking system (free or not) can be kept liquid by borrowing short and investing long. And we should not overlook, however superior free banking is in comparison to central banking monopoly, the risks and trends that exist in the former to artificially inflate credit.” On the other hand, and more accurately I think, Rallo (2012) recognizes that a free banking system will limit undue risk-taking by making imprudent bankers bear the consequences of their own actions:

Fortunately, in a market where the currency and banking develop in freedom and without government privileges, banks have little room for these dangerous operations, because as soon as their creditors stop refinancing them, they fall into receivership. Unfortunately, in our ultra-interventionist and ultra-privileged market, a state institution called the central bank has the monopoly of issuing paper money, allowing it to provide cheap refinancing to private banks that have large maturity mismatches … and perversely to prolong the duration and devastation of economic cycles.”

Note that the US savings banks, which suffered from huge duration gaps when interest rates rose sharply in the early 1980s, were not operating under laissez-faire. They had been specifically compelled by law to keep almost all of their asset portfolios in fixed-rate home mortgages.

To summarize: the characteristic of being backed by goods in process does not endow a bank-owned IOU with any special qualities not equally present in, or make it any more prudent to hold than a differently-backed IOU with equivalent default risk, liquidity, and maturity. An emphasis on real bills as the mark of prudent banking is therefore misplaced, as opposed to an emphasis on the management of default risk, liquidity, and capital risk from duration gap. These properties – not “self-liquidation” or any property of automatically regulating money-issue – explain why prudent banks in a historically competitive system, like Scotland’s held real bills in their asset portfolios.

[Cross-posted at]

The fog of war has removed any sense of certainty regarding developments on the Syrian battlefield. That said, we know that ISIS has captured several towns, and that waves of Syrian refugees are disembarking upon Europe’s shores. But, the picture remains chaotic and hazy.

However, there is one objective indicator of reality in Syria. It is the Syrian pound’s black-market (read: free-market) exchange rate. The Johns Hopkins-Cato Institute Troubled Currencies Project (TCP) tracks and reports this important indicator on a daily basis. With the exception of a plunge in June 2013, the Syrian pound has witnessed an orderly, not chaotic, deterioration. 

From Syria’s black-market exchange, standard economic theory and reliable empirical techniques allow us to produce accurate inflation estimates. Indeed, with the free market exchange-rate data (usually black-market data) reported by the TCP, the inflation rate can be calculated. The principle of purchasing power parity (PPP), which links changes in exchange rates and changes in prices, allows for a reliable inflation estimate, when inflation rates are elevated. To calculate the inflation rate in Syria, all that is required is a rather straightforward application of a standard, time-tested economic theory (read:PPP).

Despite the chaotic battlefield situation, the Syrian economy is, well, less chaotic. It is experiencing a slow and uneventful deterioration. That’s clear. As the charts depict below, both annual and monthly implied inflation rates have been rather stable, aside from the June 2013 hyperinflation scare.

With Russia’s recent ramp-up in Syria, it will be worth paying particular attention to the SYD/USD black-market exchange rate. If the pound stabilizes, or strengthens, we will know that the presence of Russia, from the al-Assad government’s point of view, is paying dividends. 

Growth in the Eurozone has consistently come in under consensus estimates. It missed the mark again in the second quarter of 2015, posting an anemic GDP quarterly growth rate of 0.3%. Europe’s “Big Three”—Germany, France, and Italy—all contributed heavily to the second quarter’s weak performance.

I am not surprised by Europe’s sputtering performance. The growth rate of the broadly determined money supply (M3) is a strong indicator of the economy’s course. Since the collapse of Lehman Brothers Holdings Inc. in September of 2008, the growth of M3 in the Eurozone has been weak. This, in large part, is because of more stringent capital asset requirements for banks (read: Basel III) and new bank regulations. These have held down the growth of bank money, which accounts for the lion’s share of broad money.

Since the ECB adopted quantitative easing (QE) in March of 2015, growth of M3 has accelerated, and the portion of M3 accounted for by state money has expanded, too. In consequence, the future course for Eurozone growth holds some promise. Both state money, as well as bank money are accelerating. This is a positive development.

It is worth reporting that Bulgaria, which is part of the European Union (EU), but not a member of the Eurozone, continue to outperform the average EU member country. This is thanks to its currency board system.

What on earth is Russia doing in Syria? This question has no doubt crossed many minds in recent days, as Russia began to move substantial arms and troops into Syria. There are two possible scenarios: 1) with diplomatic ties at an all time low, and heavy sanctions already in place, Russia has decided it has nothing to lose in defying the West and backing the Assad regime militarily to the bitter end; or 2) Russia is maneuvering to give itself diplomatic leverage in any Syrian settlement by raising the stakes now. Though the latter is more likely, it’s difficult to know which scenario is accurate, further complicating already tortuous US policy towards Syria.

Over the last week, various news sources have reported an increase in Russian arms and troops flowing into Syria. On Monday, the Department of Defense confirmed that the Russians are setting up a Forward Operating Base at Latakia, including prefabricated housing and SA-22 anti-aircraft missiles. Open source researchers have found photos of Russian trucks and T-90 tanks near Latakia, increased shipments to Russia’s Syrian base at Tartus, social media posts showing that Russian troops are headed to Syria, and even satellite photos showing massive expansion of the runways, hangers and housing at Latakia.

In short, it seems that Russia is preparing to substantially increase its military presence in Syria, ostensibly to aid the refugee crisis and fight ISIS, but practically in support of the Assad regime. This doesn’t necessarily indicate an intention to commit ground troops, but certainly raises the possibility of Russian air support for Assad. There is no way to prevent this buildup: though NATO members like Bulgaria have closed their airspace to Russian flights, Iranian and Iraqi airspace remains open.

Russian military support for the Assad regime is nothing new: Russia supplies many of the regime’s weapons, and there have long been suspicions that Russian advisors in Syria may play an active role in combat. Yet direct Russian military involvement in Syria is a major escalation. More puzzling is the fact that Russia’s behavior appears to directly contradict the summer’s diplomatic efforts, which saw the first Russian-Saudi meetings in several years and rumored diplomatic attempts by the US, Russia and the Gulf States to find a negotiated settlement for the Syrian crisis.

With the United States engaged in airstrikes against ISIS, active Russian military involvement in Syria complicates the strategic situation. To start with, it inhibits the creation of an ‘ISIS-free zone’ and makes any form of no-fly zone effectively impossible. This is hardly a loss, given the many good reasons to oppose a no-fly zone inside Syria. Russia’s military support will also prevent the Assad regime from falling any time soon. Likewise, this may be less of a negative than it initially appears. Despite the Assad regime’s brutality, its collapse would likely result in further chaos, potentially strengthening ISIS.

Unfortunately, Russian military involvement in Syria also substantially raises the stakes for all involved. Any Russian air campaign runs the risk of direct conflict between U.S. and Russian forces. With U.S. fighters engaged in daily airstrikes against ISIS, Russian air presence could result in accidental clashes. This risk is especially troubling given the current high state of tension between Russia and the U.S., and the lack of military to military channels for de-conflicting Syrian airspace.

Russia’s military buildup is a complicating factor in the ongoing Syrian strategic morass. Though it remains unclear exactly what the Kremlin hopes to achieve with its military buildup, it seems probable that the increasing Russian military involvement in Syria may in fact be intended to enhance the Kremlin’s bargaining position. Ultimately, the risks raised by Russian military intervention strengthen the case for a diplomatic solution in Syria. Unfortunately, they may make it harder to find a diplomatic solution that is palatable here in Washington.  

You Ought to Have a Look is a feature from the Center for the Study of Science posted by Patrick J. Michaels and Paul C. (“Chip”) Knappenberger.  While this section will feature all of the areas of interest that we are emphasizing, the prominence of the climate issue is driving a tremendous amount of web traffic.  Here we post a few of the best in recent days, along with our color commentary.

Over the past couple of days, several articles have caught our eyes that we thought worthy of a mention in these pages.

First up is a pair of papers, one by Swiss researcher Peter Landschützer and colleagues and the other by a team led by University of Colorado’s David Munro, that examined trends in the rate of carbon dioxide uptake in the Southern Ocean.  In each case, the authors report that carbon uptake has been increasing there during the 21st century. This is good news.

Carbon dioxide uptake is basically the opposite of carbon dioxide emissions. As emissions increase and the atmospheric concentration grows, this puts a pressure on some carbon sinks to expand—notably the standing biomass of vegetation (through carbon fertilization) and the carbon content in the oceans (through Henry’s Law). In fact, the proportion of human carbon dioxide emissions that are being taken up by carbon sinks has been pretty constant for the past 150 years—meaning the sinks are expanding to offset a significant portion of our growing emissions.

Even though the behavior found in the new research paper is confirming expectations, it is worth highlighting in that over the past couple of years several papers were published and subsequently rose to prominence suggesting that the rate of carbon dioxide uptake by the Southern Ocean was slowing down and this was an indication that the carbon sink there was saturating.  This had some segments of the climate alarmosphere in a tizzy (google “ocean carbon sink saturating” for some examples). The worry spiral went like this: CO2 emissions were leading to climate changes that were leading to less carbon update by the oceans which was leading to more CO2 in the atmosphere which was leading to more climate change which… you get the point.  Uncontrolled positive feedback.

The new findings pretty much stamp out this overheated concern.

From Landschützer et al.:

Several studies have suggested that the carbon sink in the Southern Ocean—the ocean’s strongest region for the uptake of anthropogenic CO2—has weakened in recent decades. We demonstrated, on the basis of multidecadal analyses of surface ocean CO2 observations, that this weakening trend stopped around 2002, and by 2012 the Southern Ocean had regained its expected strength based on the growth of atmospheric CO2.

And from Munro et al:

Overall, [our results are] suggesting that the Southern Ocean is playing an ever-increasing role in taking up atmospheric CO2.

So it seems that the apparent slowdown in the rate of carbon dioxide uptake in the Southern Ocean was most likely just a passing blip in what is natural variability—the level of which was previously underestimated. No cause for alarm.

Next up is a new paper by hurricane forecasters/researchers Phil Klotzbach, Bill Gray and Chris Fogarty examining the trends and natural variability in a key indicator of Atlantic hurricane behavior.  The Atlantic Multidecadal Oscillation, or AMO, has long been identified as a dominant influence on the frequency of hurricanes that form in the Atlantic Ocean. As its name suggests, the AMO “oscillates” back and forth between its positive and negative states with a time period of several decades. The AMO had been in a “positive” state—one that is conducive for hurricane development–since 1995. In their new paper, Klotzbach and colleagues present evidence that the AMO may have recently switched to a “negative” state—one that tends to hinder hurricane development. This would explain the dearth of hurricanes in the Atlantic Ocean for the past couple of years and would suggest that we are entering a prolonged period of below average activity.

Klotzbach goes into the details of what they found in a great article hosted by Washington Post’s Capital Weather Gang. That article begins:

Floyd, Katrina, Wilma, Ike and Sandy — just a few of the devastating hurricanes we’ve seen in the years since 1995. It’s been an astonishingly active hurricane period of the Atlantic Ocean, costing the U.S. over $500 billion in damages. But there’s evidence to suggest that the painfully memorable, two-decade era that brought some of the most intense hurricanes on record — and some the most active hurricane seasons — is coming to a close.

Not everyone is sold on the idea that the AMO is a real phenomenon and/or that it exerts a major influence on Atlantic hurricane activity. For example, is association with the extremely active hurricane seasons of 2004 and 2005, several research papers were published and subsequently rose to great prominence, that suggested that rising sea surface temperatures caused by human greenhouse gas emissions were the cause of the observed upswing of hurricane activity—with things only to get worse in the future.  The subsequent downturn of hurricane activity, including the on-going (and expanding) record period of time between major hurricane landfalls in the U.S. (which is fast approaching 10 years) has vindicated the AMO and those researchers, like Klotzbach and Gray,  who have identified its influence (although there are still some holdouts, as MIT’s Kerry Emanuel, who told AP reporter Seth Borenstein  in regards to the new study “I think they’re pretty much wrong about this”).

Klotzbach says that time will tell for certain.

And finally, we come across what we think has to be the most unusual suggestions as to how to handle the climate change issue—ask aliens.

Apparently there is something called the Breakthrough Message contest in which a million dollars in prizes will be awarded  for “messages that could be read by an advanced civilization.” The Breakthrough Message sponsors want to “encourage debate about how and what to communicate with possible intelligent beings beyond earth.”   

In response to the contest, a group of U.K. researchers dedicated to the search for extraterrestrial intelligence (SETI) have decided to submit an entry. They have yet to agree on what their message will contain, but the group’s spokesman told the BCC:

“[We] also know that our own civilisation is in a fair bit of trouble. We face some pretty big threats. That means it might be a good idea to gamble, and hope there is someone slightly older and wiser out there. If aliens told us something about how to handle our climate, or artificial intelligence, we might want to listen.”

We resist any comparison to the Papal Encyclical.