Cato Op-Eds

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

Trade has enriched humanity, continuously providing cheaper and better goods while dramatically decreasing global poverty. Extreme poverty’s end is now in sight. A Gallup poll released recently shows that 58 percent of Americans view trade as an opportunity rather than a threat, and this belief has been rising. Yet we seldom hear of the incredible benefits of exchange. The 2016 presidential election has brought with it an increased interest in U.S. trade with China, with political figures like Donald Trump prominently focusing on the alleged “harm” done by China to the United States. Here are the three main arguments that trade-skeptics use regarding China and reasons why those arguments are wrong. 

1) Trade-skeptics often claim that trade with China is “taking American jobs.” However, in most cases American and Chinese workers are not competing for the same jobs because they do different kinds of work.   

Comparative advantage and specialization play an important role in every trade relationship. China has the comparative advantage in light manufacturing and heavy industry, while the United States has an advantage in areas involving a high degree of human capital like technology, education, and precision industrial manufacturing

Fewer and fewer Americans work in grueling areas like traditional manufacturing and agriculture, both of which are still common in China. The fall in traditional manufacturing and agriculture employment has been more than offset by a rise in the caring professions and in creative and knowledge-intensive careers, which are safer, more intellectually stimulating, and help improve the standard of living in the United States. 

For example, the number of physicians per person has risen in the United States, and there are also more teachers per student. The graph below shows that, while manufacturing employment has decreased, total non-agricultural employment has soared.

2)Many people are concerned about China’s so-called currency manipulation. China, they claim, is keeping the value of the yuan artificially low relative to the U.S. dollar. That means that Americans pay less for Chinese goods. As board member Mark J. Perry puts it

[T]he “manipulation” of China’s currency is actually to the distinct advantage of millions of American consumers (especially low-income Americans) and U.S. businesses buying products and inputs made in China. Those two groups certainly aren’t complaining about low-priced Chinese products, and in fact would be made worse off if China were forced to revalue its currency and in the process make its products more expensive for Americans.
So if neither American consumers nor U.S. import-buying businesses would benefit from a stronger yuan and a reduction in China’s “foreign aid” to America, who would really benefit? The same group that always benefits from protectionist, mercantilist trade policies: domestic producers who compete against foreign rivals in China and elsewhere … Unfortunately, the costs to consumers from protectionism are greater than the benefits to producers, resulting in a net economic loss for the country and a reduction in its standard of living.

In other words, while a few industries would benefit, the vast majority of Americans would be made poorer by America’s imposition of protectionist policies or penalties on China. 

3) China trade-skeptics often claim that trade leads to the exploitation of Chinese laborers and makes them worse off. However, as Cato’s Johan Norberg wrote

Western activists rail against “sweatshops,” but among researchers and economists from left to right there is a consensus that these jobs are the stepping stones out of poverty

Lest we forget, the United States and Europe had their own sweatshops during the Industrial Revolution. Work was often dangerous and difficult—though not as much as the drudgery of agricultural subsistence. Yet, as a result of the industrial revolution, life expectancy and GDP per capita shot up while poverty fell rapidly. Since economic liberalization, life expectancy in China has skyrocketed, nearing the U.S. level, and hundreds of millions of Chinese have escaped from extreme poverty. That represents the greatest reduction in poverty the world has ever seen. 

As prosperity has increased, gender inequality has diminished, and a smaller share of the population suffers from food inadequacy. If the trade-skeptics genuinely care about the wellbeing of the poor in China, they should support the most successful anti-poverty program of all time: economic freedom, including freedom to trade internationally. 


Over at Cato’s Police Misconduct web site, we have identified the worst case for the month of February.  It was from Champaign, Illinois and involves several incidents regarding Officer Matt Rush.

Last month Precious Jackson filed a lawsuit against Rush and the City of Champaign for excessive force when Rush arrested her.  According to the lawsuit, Rush’s actions caused Jackson to lose her unborn baby.  Jackson also says that she begged to be taken to a hospital but that Rush and the other officers on the scene ignored her pleas and took her to the jail instead.

Local news agencies report that the City of Champaign has settled several similar lawsuits involving Rush to the tune of $320,000.  In 2014, Police Chief Anthony Cobb actually fired Rush for lies in police reports and omitting important details in the incidents he was involved in.

A labor arbitrator overturned the police chief’s discipline and reinstated Rush to his job.  

At this point, it may not be appropriate to compare anyone to Donald Trump. In terms of overheated rhetoric, he is in a (low) class by himself. Nevertheless, I am struck by the parallels between Bernie Sanders and Trump on trade policy. Of all the remaining presidential candidates, these two are the most strongly opposed to international trade and to international trade agreements. While most of the candidates have something negative to say about trade, Sanders and Trump go the furthest in this regard, and, unfortunately, their views seem to appeal to a lot of people.

As we all know, Trump has been inflammatory on the subject of immigration and trade, which could be taken as a general dislike for and distrust of non-Americans, with a few particular groups demonized. Sanders is a little different. He’s not generally negative about foreigners, but now and then he says things in a way that makes me wonder if he is trying to tap into the same group of voters that Trump has in his camp. For example, in last night’s debate, Sanders said this:

… Look, I was on a picket line in early 1990s against NAFTA because you didn’t need a Ph.D. in economics to understand that American workers should not be forced to compete against people in Mexico making 25 cents an hour.

Obviously, if Sanders had a Ph.D. in economics, he would be a free trader. But putting that aside, what exactly does Sanders have against people in Mexico? Yes, they are, on average, not as wealthy as Americans. But why does that mean they should not be allowed to sell their goods and services to Americans? Clearly, it would make them better off if they could (and their income has risen a lot since NAFTA was signed). Why should the U.S. government take action (protectionism) to keep them poor?

No doubt Sanders would say that this isn’t about keeping Mexicans poor, but rather about making Americans better off. Now, in fact, protectionism does not make Americans better off, so he’s actually hurting everyone. But regardless, even if he did believe his policies would make Americans better off, that wouldn’t change the fact that his policies would help keep Mexicans poor. Those are two sides of the same coin.

Overall, it is pretty clear that Sanders is no Trump. But still, the way his policies treat poor foreigners–and how that appeals to some of his supporters–leaves a bad taste in my mouth.

Like the apocryphal story of the state legislature that passed a law dictating that pi equals 3, the Oregon state legislature has passed two laws that pretend the laws of supply & demand don’t exist. The difference is that, in reality, no state legislature ever did pass a law saying that pi equals 3, but Oregon’s legislature is totally ignoring basic economic principles.

First, earlier this week, the legislature passed a new minimum wage law increasing the minimum to as high as 14.75 per hour in the Portland area by 2022 (with lower minima for other parts of the state). This will supposedly be the highest in the nation, but only in the unlikely event that no other state raises its minimum wage in the next six years. However, after adjusting for the cost of living, Oregon’s new minimum wage probably is the highest in the nation even before 2022.

Proponents claim the minimum-wage law will improve Oregon’s economy by putting more money in the hands of its residents that they will spend in Oregon businesses. The new minimum wage “is going to be good for Oregon families and is going to add to consumer purchasing power that will benefit our small businesses,” Oregon’s labor commissioner told a reporter. That’s like warming the bed by cutting off one end of a blanket and sewing it on to the other end. If increasing the minimum wage does so much good, why not increase it to $15 right away? Or $50? Or $500?

The reality is that a minimum wage law is a balancing act for politicians. They have to have the wage be just high enough to create a constituency for the wage that will support them but not so high that people who actually vote will lose their jobs. As a Congressional Budget Office study concluded, for every two people who benefit from a minimum wage law, one is put out of work. That’s okay if the people who are out of work don’t vote.

The Oregon situation is complicated by threats by higher wage advocates to use the initiative petition process put a $15 wage on the November ballot. The legislature hopes its bill can forestall that without causing the economic damage that an immediate $15 wage would do.

Buoyed by its success, the legislature yesterday passed a law legalizing inclusionary zoning, that is, forcing homebuilders to sell a certain percentage of their products below cost. This will also lead them to build fewer homes and to sell the market-rate homes they do build for higher prices to offset their losses on the “affordable” homes. In other words, this law relies on the counterintuitive notion that making housing more expensive will make it more affordable.

Once again, the legislature is playing a balancing game. A few people will get–and be very grateful for–more affordable housing. Every other homebuyer and renter will end up paying more, but not enough more for them (the legislature hopes) to complain about it.

The Oregonian, for example, accompanied my article criticizing the urban-growth boundary with a photo of a man who enjoys “affordable” housing provided by the city of Bend that was funded by taxing all other new homes in the city. Where are the photos of the people having to pay higher taxes or who can’t afford to buy a new home because of that tax?

Are the legislators who voted for these laws really really trying to promote their political careers by cynically benefitting a few at everyone else’s expense? Or are they just ignorant of simple economic principles? Either way, their votes demonstrate the flaws in a society that believes it can get rich by robbing some people and giving it to others.

Earlier this week, Buzzfeed unearthed a 2005 blog post in which Donald Trump explained the economic benefits of outsourcing jobs overseas.  The piece flatly contradicts the boisterously protectionist rhetoric of Trump’s presidential campaign.  No doubt it will be added to the many arguments for why Trump can’t be trusted, but there’s really nothing special about Trump’s flip-flop on trade.  It is an exceedingly common tactic among politicians.

In this election cycle alone, we’ve see Hillary Clinton oppose the Trans-Pacific Partnership, which she once heralded as the “gold standard in trade agreements.”  And Ted Cruz did a full 180 in opposing trade promotion authority last year after he eloquently praised the bill in the Wall Street Journal.

One of the most impressive trade flip-floppers in recent memory was Mitt Romney in the 2012 presidential campaign.  Prior to running for office, Romney properly criticized protectionist tariffs the Obama administration imposed on Chinese tires as an economically harmful sop to labor unions. 

But then the Obama campaign started accusing Romney of being the “outsourcer-in-chief” for helping companies invest abroad during his time at Bain Capital.  In response, Romney struck a very confrontational tone against China, accusing them of cheating while criticizing Obama for being too soft on Chinese trade.

Four years later, Romney is back to talking sense about trade.  In his recent speech warning Republicans about Trump, Romney directly addressed Trump’s signature trade policy proposal:

[Trump’s] proposed 35% tariff-like penalties would instigate a trade war that would raise prices for consumers, kill export jobs, and lead entrepreneurs and businesses to flee America.

Peter Suderman at Reason points to Romney’s duplicity in a scathing indictment of the GOP establishment he claims have enabled Trump’s candidacy:

Romney, like many Republican elites, has now changed his tune, and he deserves credit for speaking unequivocally about Trump’s many serious flaws. But Romney and others in the party played Trump’s game, and talked Trump’s language, for long enough that they helped legitimize it, and allowed it, even encouraged it, to fester and grow.

Republicans’ election-year flirtations with anti-trade populism are especially frustrating, because populist rhetoric doesn’t always have to be anti-market.  You can and should make the case for free trade by railing against the evils of protectionism. 

Every artificial trade barriers is an example of crony rent-seeking.  You don’t have to extol the economic virtues of free trade in order to condemn corporate welfare.   Republicans did a good job of this in their (temporarily successful) fight against the Export–Import Bank. 

Some of Donald Trump’s primary opponents recently took a similar tack when they criticized Trump’s tariff proposal as harmful to consumers.  Tariffs are taxes that raise prices.  This is bad for consumers, especially poor consumers, and bad for U.S. businesses that need low-priced imports to remain competitive in a global market.  By making it more expensive to do business in America, tariffs directly drive away investment and jobs. 

Protectionism benefits big businesses with lobbyists while killing American jobs.  That’s the populist case for free trade.  It may be easier to blame foreign competition and outsourcing for perceived economic ills, but it’s not accurate and it won’t lead to good policies that help the American public.

In the end, elected Republicans shouldn’t be surprised that Trump’s belligerent economic nationalism resonates with voters.  They’ve consistently failed or refused to articulate the broadly compelling case for good economic policy they desperately need at the moment.

The Republican foreign policy establishment is up in arms over Donald Trump’s ascendancy. The prospect that “The Donald” could become The Commander in Chief is simply too much for many of them to stomach.

Take, for example, this “Open Letter on Donald Trump From GOP National Security Leaders” signed by almost 80 members of the Republican foreign policy elite. They warn that a Trump presidency would be dangerous to America’s safety, civil liberties, and international reputation.

I share their concern. But when people ask who is at fault for America’s tragic turn inward, if Trump wins a major party nomination – or, worse, the election – the very GOP foreign policy elite that is now denouncing him should get the lion’s share of the blame for his rise.

We should begin by understanding the people who comprise today’s GOP foreign policy elite, and what motivates them. This is not Dwight Eisenhower’s GOP, or even George H.W. Bush’s. Their bias toward interventionism is not grounded in traditional conservative precepts of order and fiscal discipline. When forced, they will call for higher taxes to fund more military spending. And they are openly disdainful of whatever small government instincts the modern conservative movement draws from libertarianism. 

So no one should be surprised when some neoconservatives speak openly of choosing Hillary Clinton over Donald Trump as many are now doing. If they do ultimately pull the lever for Clinton, they will merely be reaffirming their core beliefs.

After all, some of the older neocons cut their teeth writing policy briefs for the hawkish Democrat Henry M. “Scoop” Jackson. The earlier generation’s intellectual descendants fastened themselves firmly to the GOP, which they saw as the most convenient vehicle for implementing their foreign policy views. But that doesn’t mean that the association was either automatic or permanent.

The neocons would occasionally show their hand, admitting that they would choose foreign policy orthodoxy over party, and threatening to return to their Democratic Party roots. In 2004, for example, Bill Kristol praised the Democratic nominee John Kerry’s proposal to double down on the U.S. military presence in Iraq, at a time when some Republicans were wavering on Iraq. Kristol pointed out in an interview with the New York Times that his magazine The Weekly Standard, “has as much or more in common with the liberal hawks than with traditional conservatives.” In 2014, in a long feature article in the New York Times magazine, Jacob Heilbrunn noted that many putative GOP foreign policy elites would abandon the party if Republican voters nominated a skeptic of U.S. military intervention, such as Kentucky Sen. Rand Paul. The party’s own nominee for president in 2008, John McCain, when asked who he would vote for in 2016 if it came down to Clinton vs. Paul said, with a nervous laugh, “It’s gonna be a tough choice.”

So it should surprise no one that the neoconservatives are in a panic over Trump, and ready and willing to cast their votes for Clinton, if it came to that. In addition to her vote in favor of the Iraq war in 2002, Clinton has pushed many of the neocons’ other foreign policy adventures, including in Libya in 2011. And although The Weekly Standard editors castigated Bill Clinton for his personal foibles, they cheered him when he waged war in the Balkans.

But while Washington elites were also looking for the next dispute to meddle in, public skepticism of such global adventurism lingered below the surface. Americans were unconvinced by arguments that American exceptionalism necessarily meant defending other countries that can and should defend themselves – effectively, forever. More than half thought that the United States was doing too much to try to solve all the world’s problems, while fewer than one in five thought we should be doing more. And a growing number of Americans questioned whether even those interventions sold purely on the basis of advancing U.S. national security – e.g. Iraq in 2003 – actually had that effect. But when the leading candidates of both parties promised them more of the same, they went looking for alternatives. They found Donald Trump.


It didn’t have to be this way. As I’ve watched Trump’s rise, and seen his poll numbers grow after every ugly, xenophobic, and racist comment, I’ve had a passage from my book, The Power Problem, running in the back of my head. I wrote the book in 2008, before Barack Obama’s election, and before the effects of the financial crisis had become clear. It was after the surge in Iraq, but before the surge in Afghanistan. A lot has happened during Obama’s seven years in office. But, back then, I was most concerned about the unwillingness of the bipartisan foreign policy elite to revisit some of the core assumptions that had guided U.S. foreign policy for decades. And I was most troubled by the elite’s utter disregard for the will of the people who actually fight their wars, and pay the bills.

So, here’s what I wrote. I hoped at the time that I would be proved wrong. But I’m afraid that I was right. You decide:

For years, international relations scholars have stressed that the world would resist the emergence of a single global superpower. The fact that we’ve managed to sustain our “unipolar moment” for nearly twenty years does not mean that an alternate path might not have delivered a comparable level of security at far less cost and risk. Even many who celebrate our hegemony admit that their approach is costly. They also admit that it cannot last forever. It was they, not their intellectual opponents, after all, who called it a “unipolar moment.”

The wisest course, therefore, is to adopt policies that will allow us to extricate ourselves from regional squabbles, while maintaining the ability to prevent a genuine threat to the United States from forming. This book has tried to set forth just some of the many reasons for doing this. The strongest reason of all might be that our current strategy doesn’t align with the wishes of the American people. As the costs of our foreign adventures mount, and as the benefits remain elusive, Americans may push with increasing assertiveness for the United States to climb down from its perch as the world’s sheriff.

For now, no clear consensus on an alternative foreign policy has emerged. Polls show that Americans are opposed to using the U.S. military to promote democracy abroad. Similar majorities believe that the costs of the war in Iraq have not been worth the benefits. There is now precious little enthusiasm for launching new military missions, and considerable skepticism that the United States must solve the world’s problems, or even that these problems require solving.

If the trends are moving away from a strategy of primacy, away from the United States as indispensable nation, and away from Uncle Sam as global sheriff, where might a new consensus on foreign policy end up? It is possible that it will coalesce around a strategy that is less dependent on the exercise of U.S. military power and more on other aspects of U.S. influence — including our vibrant culture, and our extensive economic engagement with the world. Another very different consensus could also coalesce, however, and move the country — and possibly the world — in a sad and ugly direction.

Surveying the high costs and dubious benefits of our frequent interventions over the past two decades, many Americans are now asking themselves, “what’s the point?” Why provide these so-called global public goods if we will be resented and reviled — and occasionally targeted — for having made the effort? When Americans tell pollsters that we should “mind our own business” they are rejecting the global public goods argument in its entirety.

As noted in the introduction to this book, the defenders of the status quo like to describe such sentiments as isolationist, a gross oversimplification that has the additional object of unfairly tarring the advocates of an alternative foreign policy — any alternative — with an obnoxious slur. There is, however, an ugly streak to the turn inward by the United States. It appears in the form of anti-immigrant sentiment and hostility to free trade. The policies that flow from these misguided feelings include plans to build high walls to keep unskilled workers out, and calls for mass deportations to expel those already here. And we already have a very different wall built with regulations and arbitrary quotas for skilled workers under the H1-B program.

For the most part, Americans want to remain actively engaged in the world without having to be in charge of it. We tire of being held responsible for everything bad that happens, and always on the hook to pick up the costs. We have grown even more skeptical of our current foreign policies when the primary benefit that they are supposed to deliver, namely greater security, fails to materialize. If “global engagement” is defined as a forward-deployed military, operating in dozens of countries, and if the costs of this military remain very high, then we should expect the public to object. And if the rest of the world looks upon this military power and our propensity to use it as a growing threat, and if Americans gain a fuller recognition that our great power and our willingness to use it increases the risks of terrorism directed against the United States, then many will demand that we change course. But if Washington refuses to do so, or simply tinkers around the margins while largely ignoring public sentiment, then we should not be surprised if many Americans choose to throw the good engagement out with the bad, opting for genuine isolationism, with all of its nasty connotations.

That would be tragic. It would also be dangerous. For to the extent that there is a global war brewing, it will not be won by closing ourselves off from the rest of the world. If Americans reject the peaceful coexistence, trade, and voluntary person-to-person contact that has been the touchstone of U.S. foreign policy since the nation’s founding, the gap between the United States and the rest of the world will grow only worse, with negative ramifications for U.S. security for many years to come.


The latest working paper in the ongoing Social Security Programs and Retirement Around the World project asks whether older people are healthy enough to work more years, and finds that there is a significant amount additional work capacity due to health and mortality gains. While piecemeal reforms like increasing the retirement age or changing how benefits are indexed are not as comprehensive as allowing young workers to invest a portion in personal accounts, they could be part of some comprehensive package to address the program’s shortfall. In a recent AP/NORC poll, 85 percent of respondents said protecting the future of Social Security is extremely or very important, but under current law, the Congressional Budget Office projects the trust fund will be exhausted by 2029 and benefits the following year would need to be cut by 29 percent. Delaying the needed reforms only increases the magnitude of changes that will be needed.  Increases in life expectancy and the additional capacity for work at older ages should be considered when designing those reforms.

In the report, the authors use a few different methods and find that in each scenario, due to gains in health and life expectancy, older people are able to work significantly more than they currently do. In the Milligan-Wise (MW) method, the authors estimate additional work capacity by comparing employment rates for men in 2010 with men at the age with the same mortality rates from previous years. For all age groups, older men have significantly more work capacity, as much as 42 percent for men between ages 65 and 69, for example.

Additional Work Capacity by Age Group, MW Method 2010 vs. 1977


Source: Coile et al. (2016).

In the Cutler et al. (CMR) method, the authors estimate a relationship between employment and health for people between 50 and 54, and then combine this estimation with actual health for older age groups. With this method, they also find significant additional work capacity: 31.4 percent for men between ages 65 and 69, and even more for the older age group. 

Source: Coile et al. (2016).

While older Americans have more work capacity overall, if the health status of people with lower-educational attainment hasn’t seen any improvement, it’s possible that they would have difficulty working additional years. To examine this question, the authors look at Self-Assessed Health (SAH) and find significant reductions in the percent of men responding that they were in poor or fair health across all education quartiles. The quartile with the lowest educational attainment saw a 22 percent improvement, and the second education quartile enjoyed an almost 44 percent improvement. Older Americans have seen significant gains in self-assessed health across all levels of education. While this is admittedly just one subjective metric, taken with the other findings of the paper, it suggest that older Americans have the capacity to work more than they do now.

Increasing the retirement age is one option to begin to address the program’s shortfall, although a better reform would allow younger workers to choose to divert some of their payroll taxes into some form of personal accounts. Without significant changes, Social Security will be unable to pay all scheduled benefits long before today’s young workers get close to retirement age. Absent reform, this shortfall will require significant tax increases or benefit cuts, and it only gets worse the longer policymakers delay. Due to welcome gains in life expectancy and other health improvements, older Americans can work more, and this should be considered when crafting reform proposals.

This week Howard Dudley was released from prison after serving 23 years.  He was accused of sexually assaulting his 9-year old daughter, but the daughter now recants her testimony from the 1992 trial. When ordering Dudley’s release, the judge said he was convinced that her earlier testimony was false.  Moreover, the government is supposed to provide the defense with evidence in its possession that tends to indicate that the accused is innocent.  (Lawyers call that “Brady material” after the name of a landmark case on the subject.)  In this case, the judge noted that Dudley was never given copies of reports that showed wildly inconsistent and improbable stories of the alleged assault that his daughter related to social services employees.

The problem of innocents behind bars received lots of attention in January and February as a result of the popular Netflix series, Making a Murderer.  The primary reason the documentary grabs your attention is that Steven Avery finds himself accused of an awful crime shortly after he is released from prison for a crime he did not commit.  The police department that conducted a sloppy investigation in the first case is then shown to be sloppy (and perhaps corrupt) in the second case.  In this podcast interview, I discuss Making a Murderer and the problem of innocents behind bars with Shawn Armbrust of the Mid-Atlantic Innocence Project.  (Spolier alert if you have not yet seen the Netflix documentary, which I do think is well worth your time).

In the fall, Federal Appellate Court Judge Alex Kozinski was here at Cato to reiterate his view that there is an epidemic of Brady violations in the U.S. and that there are more innocents behind bars than most people want to believe. 

“Dean Dad” Matt Reed has responded to my rebuttal to him Tuesday, and I appreciate his engaging me in discussion. His main point now: The student loan default problem is not mainly about big total debts, but smaller debts that are hard to pay off because the students dropped out before getting a degree.

I agree. Indeed, that was pretty much the point of my Wall Street Journal article that kicked off the exchange. As I wrote:

Many dropouts have loans, which are much harder to repay when one fails to finish, or gets a worthless degree. Borrowers on the academic margins, who often attend community colleges and for-profit schools, likely struggle the most to repay even though their debts tend to be relatively small. The Federal Reserve Bank of New York found that 34% of borrowers with debts between $1,000 and $5,000 defaulted, versus only 18% with debts in excess of $100,000, a level of debt associated with advanced degrees.

Where the confusion might lie is that I thought in his response to me Reed was suggesting that a major problem for anyone coming out of community college was that the minimum wage was too low and, connected to that, so were the wages of entry-level jobs. This was based on the following:

Why are former students having a hard time paying debt back? Mostly because entry-level jobs don’t pay very well. But McCluskey never addresses either the supply of entry-level jobs, or the minimum wage. 

Knowing that Reed did not mean to include graduates among “former students” makes his comments about low wages less alarming. Still, his solution – raise low wages instead of requiring evidence of college readiness – seems a broad, slow, and dubious way to deal with the debt problem. “Broad” because it calls for, essentially, overhauling a huge part of the economy as opposed to specifically reforming students loans; “slow” because doing that would take a pretty long time; and “dubious” because there is a lot of evidence that raising the minimum wage has substantial negative effects.

In addition to raising the minimum wage, Reed calls for “free (or much less expensive) community college.”

Free community college would probably solve the problem of community college noncompleters leaving with debt, depending on how one accounted for living expenses, but it comes with its own set of troubles. The first is that we would likely still have lots of people not finishing, only the costs would be borne more by taxpayers and less by students. The second is that, unless “free” were somehow focused on the poor, you would have taxpayers subsidizing well-to-do people. Recent data show about 39 percent of dependent undergraduate students at community colleges, and about 54 percent of independent students, are from the upper half of the income distribution.  About 16 and 28 percent are from the highest income quartile. Then there is the question of how to pay for this, especially if making it free leads to even more people enrolling. And will community colleges be able to handle all of the new students, or will they have to ration spots? What will encourage students to complete their studies as quickly as possible?

Then there is this: Taxpayers would have used the money sent to community colleges for their own ends. Maybe for buying food, employing farmers and truck drivers and lots of other people. Or maybe they’d have invested it in businesses, some of which may have employed low-skill labor. Or maybe they’d have bought cars to get their kids back and forth to school, in the process employing autoworkers. Quite simply, there are major opportunity costs to society when we funnel money into community colleges, and it is not at all clear that the more beneficial use of taxpayer dollars is higher education.

One last critique of Reed’s rebuttal: He attacks my proposal that we put student lending in private hands by writing, “I took offense at the prospect of replacing universal access to higher education with screening done by the same people who caused the mortgage crisis.” I’d suggest he reexamine the mortgage crisis. Government “help” – much like student loans – had a lot to do with it.

Reed is certainly right, though, to ask what to do to help unprepared people now, while the loan qualification debate is mainly about not inflicting more harm. Ultimately, a sustainable college preparation solution must come before people reach higher education – and I have strong opinions on how to do that – but what about for people right now who did not get an adequate K-12 education and want a better future?

I’m not sure what the answers are – I’d love to hear suggestions – or even if there are any that are really satisfactory, especially if we want to avoid major, negative, unintended consequences that might go with them. I suspect viable ones might involve options like apprenticeships and quick, specific-skill programs – perhaps provided by community colleges or for-profit schools – or even remedial learning through outlets like the Khan Academy. Indeed, maybe a relatively quick measure – though it would involve changing law – would be Washington putting limits on loan amounts so that they would only cover a few courses, aimed at getting specific skills, or just remediation. What I am pretty sure are not solutions are spending more on community colleges to make them free to students, raising the minimum wage, or giving out loans to pursue degrees for which students are unprepared.

Introducing their work, Stapleton et al. (2016) write that polar bears (Ursus maritimus) are “considered among the most highly sensitive marine mammals to the projected consequences of climate change,” citing Laidre et al. (2008). Indeed, increased sea ice losses projected for mid-century have led to concerns that “polar bears may be extirpated from or substantially reduced across most of the circumpolar Arctic.” As a result, the Arctic polar bear has become the proverbial canary in the coal mine for those seeking proof of climate change impacts in the far northern latitudes of our planet. Efforts have long been under way to study trends in these northern mammals and relate those trends to changes in climate.

The study of Stapleton et al. is no different in this regard. Their objective was to provide an updated analysis of the polar bear population within the Foxe Basin of Canada, a region that spans 1.1 million square kilometers across the Nunavut territory and northern Quebec. Last inventoried in the early 1990s, the Foxe Basin has been identified as a region of concern as climate conditions over the period 1979-2008 have led to a deterioration of the sea ice habitat (Sahanatien and Derocher, 2012) that has long been thought to engender a stable polar bear population. Against this backdrop of potential decline, Stapleton et al. set out to conduct an updated population survey of polar bears in this region to discern whether or not declining sea ice conditions had indeed affected their numbers as model-based projections claimed it would. And to this end, the three researchers conducted a series of aerial surveys in late summer of 2009 and 2010.

So what did their survey reveal?

Following rigorous statistical analysis of their data Stapleton et al. report a current average estimate of 2,585 polar bears in the Foxe Basin, which is similar to the last estimate of 2,200 obtained in 1994.  This new number, along with evidence of “robust cub production,” in the words of the authors, “suggests a stable and healthy population despite deteriorating sea ice conditions.” “In other words,” as Stapleton et al. emphatically conclude, “the deterioration of sea ice habitat has not resulted in a decline in [polar bear] abundance.” Thus, it would appear that this canary of the north has so far been oblivious to alarmist predictions of its demise.


Laidre, K.L., Stirling, I.,Lowry, L.F., Wiig, Ø., Heide-Jørgensen M.P. and Ferguson, S.H. 2008. Quantifying the sensitivity of Arctic marine mammals to climate-induced habitat change. Ecological Applications 18: S97–S125.

Sahanatien, V. and Derocher, A.E. 2012. Monitoring sea ice habitat fragmentation for polar bear conservation. Animal Conservation 15: 397–406.

Stapleton, S., Peacock, E. and Garshelis, D. 2016. Aerial surveys suggest long-term stability in the seasonally ice-free Foxe Basin (Nunavut) polar bear population. Marine Mammal Science 32: 181-201.

Why do countries have different economic policies and political institutions?  One view, oft-expressed, is that people in different countries are different.  For example, back in the early 1990s, many observers believed Russia was not ready for a transition to capitalism because Russians did not understand markets.

Around that time, economists Robert Shiller, Maxim Boycko, and Vladimir Korobov decided to examine this view using surveys of New Yorkers and Moscovites. They found that Russians did have significant misgivings about markets, but so did Americans. In fact, attitudes and understanding were, to a first approximation, the same.

In a recent update, Shiller and Boycko ask whether things have changed:

We repeat a survey we did in the waning days of the Soviet Union … comparing attitudes towards free markets between Moscow and New York. Additional survey questions … are added to compare attitudes towards democracy. Two comparisons are made: between countries, and through time, to explore the existence of international differences in allegiance to democratic free-market institutions, and the stability of these differences. While we find some differences in attitudes towards markets across countries and through time, we do not find most of the differences large or significant. Our evidence does not support a common view that the Russian personality is fundamentally illiberal or non-democratic.

So if underlying differences in attitudes and values do not explain differences in economic policies and political institutions, what does? Many factors presumably play a role, but my bet would be on historical accidents. In some times and places, the indviduals with greatest influence have valued freedom (e.g., the American Revolution), while in others they have cared mainly about their own power (e.g., Putin). 

The broader significance is that claims like, “The citizens of country X will never accept capitlism / democracy,” or “transitions from statism to liberalism must be gradual,” do not seem well-supported by existing evidence.

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.

This week’s collection of not-to-be-missed stories is larger than most—it’s been a busy week!

First up is an examination by Competitive Enterprise Institute’s Marlo Lewis as to whether or not the Paris Climate Agreement is a treaty requiring the assent of two-thirds of the Senate. 

Prior to the U.N.’s climate conference held in Paris last December, President Obama was quick to insist that whatever came out of it would not be considered a “treaty” but rather some sort of “executive agreement.” That’s because it would never get the approval of the Senate that is required under the Constitution in order for it to have the force of law.  

Marlo builds the case why the President was unsuccessful and why the Senate should act—now.

He writes:

Far from being toothless, the Paris Agreement is the framework for a multi-decade global campaign of political pressure directed chiefly against Republican leaders, Red State voters, and the fossil fuel industry. Specifically, the treaty is designed to advance three political objectives:

1. Deter the next president, future Congresses, and even courts from overturning the Environmental Protection Agency’s (EPA) so-called Clean Power Plan (CPP) and other climate regulations, including some not yet proposed, by rebranding those policies as “promises” America has made to the world.

2. Pressure future U.S. policy makers to make increasingly “ambitious” emission-reduction pledges—known as Intended Nationally Determined Contributions (INDCs)—every five years starting in 2020, implement those pledges via ever-more stringent regulations, and pony up untold billions in “climate finance”—foreign aid to subsidize “green energy” ventures in developing countries.

3. Make U.S. energy and climate policy increasingly unaccountable to Congress and to the American people, and increasingly beholden to the demands of foreign leaders, multilateral bureaucrats, international pressure groups, and their media allies.

As a result, he emphatically concludes:

To safeguard America’s economic future and capacity for self-government, congressional leaders must expose Obama’s climate diplomacy as an attempted end-run around the Constitution’s treaty-making process. They should do so before the President signs the Agreement on Earth Day, April 22, at a United Nations ceremony in New York.

The centerpiece of this counteroffensive should be a Sense of Congress resolution emphasizing a clear and simple message: The Paris Agreement is a treaty, and therefore, under Article II, Section 2 of the U.S. Constitution, the United States is not a party, and therefore not bound to its terms, unless the Senate ratifies it. Absent Senate approval, Obama’s climate pledges to the United Nations are just administration proposals, not commitments of the United States.

Be sure to check out the entirety of Marlo’s persuasive essay here.

Next up, we want to draw attention to some (less-than-favorable) opinions about various ideas that are floating around as to how the U.S. may attempt to try to achieve the carbon dioxide emissions limits that President Obama has promised to under the Paris Agreement.

First is an update on Congress’s stance on the EPA’s Clean Power Plan which was stayed by the U.S. Supreme Court earlier this month pending the outcome of a case before the U.S. Court of Appeals in Washington DC. From House Speak Paul Ryan’s blog comes this:

Now that legal fight is heating up. The House and Senate joined together to file an amicus brief to support the states in the State of West Virginia et al v. EPA litigation pending in the U.S. Court of Appeals for the District of Columbia. 

We argue that this regulatory onslaught is an illegal, unconstitutional federal power grab. It twists the Clean Air Act to interpret an expansion of federal authority that the law never intended. It usurps the states’ rightful regulatory regimes to accomplish federal ends.

“This move would have stunned both the writers of the Clean Air Act and the founders of our country,” Speaker Ryan, who signed on to the brief along with 171 representatives and 34 senators, said. “It’s a blatant violation of the law of the land—one that will cause a lot of pain around this country. We will not rest until the War on Affordable Energy is stopped.”

Okay, so if things aren’t looking good for the Clean Power Plan, how about a carbon tax? 

As Terence Corcoran explains in this piece for the Financial Post, what’s elegant in theory goes terribly wrong in practice. He describes the situation with Canada’s carbon tax:

Touted by economists as a wondrous market mechanism that will deliver Canada from the evils of climate change, carbon pricing is emerging out of the political swamps as a regulatory nightmare.

Corcoran continues:

The original claim was that carbon tax revenue was to be revenue neutral and given back to consumers. As Philip Cross notes on an oped today, “cash-strapped governments in Alberta, Ontario and Quebec are simply raising carbon taxes with no offsetting tax cuts elsewhere.”

The new objective of the green state is to manage carbon emissions down. Growth, they say, will come if governments plow the carbon tax cash back into government-planned green development to encourage low-carbon growth. That means government controls the nature of the growth, the technology developed, the future of the energy, the future of the economy.

We can’t help but to think the same would be the case in the U.S. Read his whole piece for a devastating indictment of a carbon tax.

And last but certainly not least, we’d be remiss if we didn’t highlight a couple of significant science stories that broke during the past week. Here is a quick run-down of the headlines (and the backstories):

Headline: “Seas Are Rising at Fastest Rate in Last 28 Centuries.”

Backstory: The scientific paper which generated this headline actually represents a significant backing down from previous extreme sea level rise projections made by the same scientists. The “new” findings are completely consistent with what is already in the most recent report (AR5) from the Intergovernmental Panel on Climate Change (IPCC). Roger Pielke Jr. summed it up with this pithy tweet:

Headline: “Top scientists insist global warming really did slow down in the 2000s.”

Backstory: This is apparently news when it’s reported by “top scientists” who are members of the climate science “mainstream.” But we, and other “skeptics” and “lukewarmers” far and wide, have been saying this for close to a decade. We tweeted

Headline: “Decline in U.S. Greenhouse Gas Emissions Overestimated by More Than a Third.”

Backstory: Okay, actually, that was our headline from a couple of weeks ago. But no one seemed to take notice then. But now comes a report  that EPA Administrator Gina McCarthy told an energy conference this week “methane emissions from existing sources in oil and gas sector are substantially higher than we previously understood.” We can’t help but to wonder whether this applies to the trend in U.S. methane emissions as well. If so, add this to the list of other accounting irregularities (pointedly documented here) that are going to doom the US greenhouse gas reduction commitment made by President Obama in Paris. 

That’s all for now, check in again next week, for more stories of which you ought to have a look. If you can’t wait ‘til then, sometimes you can find a bit of foreshadowing (and a lot of other fun stuff) by following us on Twitter: PCKnappenberger, CatoMichaels, and CatoCSS.

UC-Irvine’s Rick Hasen is undoubtedly the leading law professor who advocates restricting money spent on political speech (well, it’s between him and Harvard’s Lawrence Lessig). In an interview with Ron Collins that was posted on the popular legal-academic blog Concurring Opinions this morning, one of Hasen’s comments stuck out:

I would not allow a self-funded candidate to contribute/spend in the aggregate more than $25,000 on his or her own campaign.

This is remarkable. I mean, Hasen’s general approach of overturning Citizens United and restricting how much anyone can donate to any group that engages in election-related speech is par for the course on that side of the debate. As is, unfortunately, the exemption for “bona fide press entities” – whatever that means: I’m sure Hasen has balancing tests that distinguish Sheldon Adelson-owned Las Vegas Review Journal from the blog of Adelson’s Venetian/Palazzo casino – and government-financed campaigns (yes, the solution to the “money-in-politics problem” is to have the government control the money).

But to say that you can’t spend money on promoting yourself for public office… words fail. (This proposal likely wouldn’t even stop Donald Trump, by the way, depending on the specifics of the relevant legislation: most of his personal “contributions” have come in the form of loans that are supposed to be repaid out of the donations that he takes in.)

If the point of campaign-finance “reform” is to prevent corruption, how is it possibly corrupting to spend your own money on yourself?

Moreover, Hasen goes on to endorse overturning “the part of Buckley [v. Valeo, the 1976 case that heralded the modern camapign-finance regime] that rejected individual spending limits.” That means that campaigns would be limited in how much they could spend, regardless of how much money they raise in whatever increments from however many donors.

Unbelieveable. Wouldn’t it be healthier for our democracy just to remove all campaign-donation limits then have instant disclosure of donations beyond a certain threshold? (There needs to be a threshold because of the potential threat of intimidation and harrassment – see, e.g., the fallout from California’s Prop 8 campaign, where disclosure didn’t even make sense in the first place because a referendum initiative can’t be corrupted.)

Let the voters decide how much they care who gets how much funding from what source.

The New York Times reported last week on some of the details of the Obama Administration’s recovery plan for Puerto Rico, and it does not bode well for investors — or for states and municipalities that borrow money.

The island’s government is $72 billion in debt, with billions more in unfunded pension obligations.  It has been in recession for a decade during which time it has never run a balanced budget, and today it is nearly bankrupt.  The government has appealed to the federal government to help, and the Treasury has drawn up a plan.  A major feature of that plan is that it will ignore the law by putting government employee pensions in front of general obligation bondholders in the hierarchy of credits, despite the provision of Puerto Rico’s Constitution that mandates GO bondholders will be paid before all other government obligations.  The rationale for doing so is, essentially, that public sector pension holders are in greater need of the money than the investors (many of whom are retirees and pensioners themselves), so this ex post change is simply a matter of fairness.

The bondholders, naturally, do not like this. After lending money to the Puerto Rican government under the explicit assurance that they would have the highest priority in all payment scenarios, having this promise revoked seems a tad unfair, as well as blatantly illegal.

It isn’t just the Puerto Rican bondholders that should be angry.  The problems with screwing over bondholders in order to protect government pensioners goes farther than its illegality:  Doing so sets a precedent for dealing with other bankrupt states in the future.  While the Administration avers that this in no way sets a precedent, since the fifty states have recourse to use Chapter 9 of the federal bankruptcy code to reorganize, the reality is otherwise.

The Times correctly notes that Chapter 9 makes no provision for the states extricating themselves from their own general obligation debt.  No out was given for a very good reason:  Foreclosing the possibility of a default up front (at least as much as possible) makes it easier and cheaper for states to borrow money.

The Obama Administration’s proposal threatens to upset this equilibrium.  By upending the law and decades of precedent, the Treasury’s plan threatens to make it more difficult for the states and municipalities to borrow money as well, since their lenders see that they too, might get their promise of being first to be repaid pulled out from under them.

This administration has a long history of picking winners and losers in bankruptcy.  In the Chrysler and GM bankruptcies, the secured bondholders took a major hit being reduced to unsecured status while workers and pensioners were elevated to protected status, and the Detroit bankruptcy did the same thing.

While it may seem “fair” to help little old ladies rather than mean old hedge funds, the investors who lost money in these maneuvers weren’t Wall Street plutocrats — they were regular people who invested their money into assets they thought were safe, because the law explicitly said they were. Many of them are retirees and pensioners themselves, and thousands of them will see a reduction in the value of their retirement funds.  CNN recently reported that 45% of Puerto Rico’s debt is held by “middle class Puerto Ricans” and “average Joe Americans.”  Abrogating bankruptcy law isn’t akin to Robin Hood — it’s transferring money from one group of retirees to another.

A Puerto Rico bailout that punishes secured bondholders would represent a short-term political win for the Treasury but at a long-run cost to the rest of the country in the form of higher borrowing rates.  It would be a terrible precedent.  It is hard to conceive of a reason for a Republican Congress to acquiesce to such a thing, or to allow a control board to do such a thing down the road.

[Cross-posted from]

With the prospect of a Republican president who could conceivably repeal and replace ObamaCare, it is time for ObamaCare opponents to take a hard look at their “replace” plans. As I have argued elsewhere, expanding health savings accounts – a proposal I call Large HSAs – beats other alternatives like health-insurance tax credits. In short, if opponents succeed in repealing ObamaCare, Large HSAs would take another step in the direction of a market system. Health-insurance tax credits would constitute a step backward, because they would simply resurrect some of ObamaCare’s worst features–including an individual mandate and much of ObamaCare’s government spending and redistribution.

I set off a kerfuffle last week when I wrote that Sen. Marco Rubio’s (R-FL) ObamaCare replacement plan contains an individual mandate in the form of tax credits for health insurance. Rubio supporters and others were none too pleased. 

For those who are interested, here’s my short response to Capretta’s well-taken argument that Large HSAs also involve a mandate:

  1. Unlike tax credits or a standard deduction for health insurance, Large HSAs would consolidate and reduce the burden of all existing health-related tax preferences (i.e., mandates). So while a mandate would remain, it would only be a mandate to contribute to an HSA, where the money could only be saved or spent on health insurance or medical care, or passed on to one’s heirs. Thus, at worst, it would be a mandate to save one’s own money.
  2. The tax preference/mandate that would exist under Large HSAs would therefore be far less restrictive than either the existing smorgasbord of health-care mandates in the tax code, or that smorgasbord with a health-insurance tax credit layered on top.
  3. My preference is to eliminate all health-related tax preferences/mandates in the tax code, because doing so would lead to better health care, particularly for the most vulnerable. Large HSAs would take a huge step in that direction. They would deliver an effective tax cut of nearly $1 trillion per year, and in so doing would greatly facilitate a transition to a tax code with no health-related tax preferences/mandates, because that tax cut would remove the greatest obstacle to that transition.

There’s a lot more to say about tax credits vs. Large HSAs, and I will return to this question soon.

Although it doesn’t get nearly as much attention as it warrants, one of the greatest threats to liberty and prosperity is the potential curtailment and elimination of cash.

As I’ve previously noted, there are two reasons why statists don’t like cash and instead would prefer all of us to use digital money (under their rules, of course, not something outside their control like bitcoin).

First, tax collectors can’t easily monitor all cash transactions, so they want a system that would allow them to track and tax every possible penny of our income and purchases.

Second, Keynesian central planners would like to force us to spend more money by imposing negative interest rates (i.e., taxes) on our savings, but that can’t be done if people can hold cash.

To provide some background, a report in the Wall Street Journal looks at both government incentives to get rid of high-value bills and to abolish currency altogether.

Some economists and bankers are demanding a ban on large denomination bills as one way to fight the organized criminals and terrorists who mainly use these notes. But the desire to ditch big bills is also being fueled from unexpected quarter: central bank’s use of negative interest rates. …if a central bank drives interest rates into negative territory, it’ll struggle to manage with physical cash. When a bank balance starts being eaten away by a sub-zero interest rate, cash starts to look inviting. That’s a particular problem for an economy that issues high-denomination banknotes like the eurozone, because it’s easier for a citizen to withdraw and hoard any money they have got in the bank.

Now let’s take a closer look at what folks on the left are saying to the public. In general, they don’t talk about taxing our savings with government-imposed negative interest rates. Instead, they make it seem like their goal is to fight crime.

Larry Summers, a former Obama Administration official, writes in the Washington Post that this is the reason governments should agree on a global pact to eliminate high-denomination notes.

…analysis is totally convincing on the linkage between high denomination notes and crime. …technology is obviating whatever need there may ever have been for high denomination notes in legal commerce. …The €500 is almost six times as valuable as the $100. Some actors in Europe, notably the European Commission, have shown sympathy for the idea and European Central Bank chief Mario Draghi has shown interest as well.  If Europe moved, pressure could likely be brought on others, notably Switzerland. …Even better than unilateral measures in Europe would be a global agreement to stop issuing notes worth more than say $50 or $100.  Such an agreement would be as significant as anything else the G7 or G20 has done in years. …a global agreement to stop issuing high denomination notes would also show that the global financial groupings can stand up against “big money” and for the interests of ordinary citizens.

Summers cites a working paper by Peter Sands of the Kennedy School, so let’s look at that argument for why governments should get rid of all large-denomination currencies.

Illegal money flows pose a massive challenge to all societies, rich and poor. Tax evasion undercuts the financing of public services and distorts the economy. Financial crime fuels and facilitates criminal activities from drug trafficking and human smuggling to theft and fraud. Corruption corrodes public institutions and warps decision-making. Terrorist finance sustains organisations that spread death and fear. The scale of such illicit money flows is staggering. …Our proposal is to eliminate high denomination, high value currency notes, such as the €500 note, the $100 bill, the CHF1,000 note and the £50 note. …Without being able to use high denomination notes, those engaged in illicit activities – the “bad guys” of our title – would face higher costs and greater risks of detection. Eliminating high denomination notes would disrupt their “business models”.

Are these compelling arguments? Should law-abiding citizens be forced to give up cash in hopes of making life harder for crooks? In other words, should we trade liberty for security?

From a moral and philosophical perspective, the answer is no. Our Founders would be rolling in their graves at the mere thought.

But let’s address this issue solely from a practical, utilitarian perspective.

The first thing to understand is that the bad guys won’t really be impacted. The head the The American Anti-Corruption Institute, L. Burke Files, explains to the Financial Times why restricting cash is pointless and misguided.

Peter Sands…has claimed that removal of high-denomination bank notes will deter crime. This is nonsense. After more than 25 years of investigating fraudsters and now corrupt persons in more than 90 countries, I can tell you that only in the extreme minority of cases was cash ever used — even in corruption cases. A vast majority of the funds moved involved bank wires, or the purchase and sale of valuable items such as art, antiquities, vessels or jewellery. …Removal of high denomination bank notes is a fruitless gesture akin to curing the common cold by forbidding use of the term “cold”.

In other words, our statist friends are being disingenuous. They’re trying to exploit the populace’s desire for crime fighting as a means of achieving a policy that actually is designed for other purposes.

The good news, is that they still have a long way to go before achieving their goals. Notwithstanding agitation to get rid of “Benjamins” in the United States, that doesn’t appear to be an immediate threat. Additionally, according to SwissInfo, is that the Swiss government has little interest in getting rid of the CHF1,000 note.

The European police agency Europol, EU finance ministers and now the European Central Bank, have recently made noises about pulling the €500 note, which has been described as the “currency of choice” for criminals. …But Switzerland has no plans to follow suit. “The CHF1,000 note remains a useful tool for payment transactions and for storing value,” Swiss National Bank spokesman Walter Meier told

This resistance is good news, and not just because we want to control rapacious government in North America and Europe.

A column for Yahoo mentions the important value of large-denomination dollars and euros in less developed nations.

Cash also has the added benefit of providing emergency reserves for people “with unstable exchange rates, repressive governments, capital controls or a history of banking collapses,” as the Financial Times noted.

Amen. Indeed, this is one of the reasons why I like bitcoin. People need options to protect themselves from the consequences of bad government policy, regardless of where they live.

By the way, if you’ll allow me a slight diversion, Bill Poole of the University of Delaware (and also a Cato Fellow) adds a very important point in a Wall Street Journal column. He warns that a fixation on monetary policy is misguided, not only because we don’t want reckless easy-money policy, but also because we don’t want our attention diverted from the reforms that actually could boost economic performance.

Negative central-bank interest rates will not create growth any more than the Federal Reserve’s near-zero interest rates did in the U.S. And it will divert attention from the structural problems that have plagued growth here, as well as in Europe and Japan, and how these problems can be solved. …Where central banks can help is by identifying the structural impediments to growth and recommending a way forward. …It is terribly important that advocates of limited government understand what is at stake. …calls for a return to near-zero or even negative interest rates…will do little in the short run to boost growth, but it will dig the federal government into a deeper fiscal hole, further damaging long-run prospects. It needs to be repeated: Monetary policy today has little to offer to raise growth in the developed world.

Let’s close by returning to the core issue of whether it is wise to allow government the sweeping powers that would accompany the elimination of physical currency.

Here are excerpts from four superb articles on the topic.

First, writing for The American Thinker, Mike Konrad argues that eliminating cash will empower government and reduce liberty.

Governments will rise to the occasion and soon will be making cash illegal.  People will be forced to put their money in banks or the market, thus rescuing the central governments and the central banks that are incestuously intertwined with them. …cash is probably the last arena of personal autonomy left. …It has power that the government cannot control; and that is why it has to go. Of course, governments will not tell us the real reasons.  …We will be told it is for our own “good,” however one defines that. …What won’t be reported will be that hacking will shoot up.  Bank fraud will skyrocket. …Going cashless may ironically streamline drug smuggling since suitcases of money weigh too much. …The real purpose of a cashless society will be total control: Absolute Total Control. The real victims will be the public who will be forced to put all their wealth in a centralized system backed up by the good faith and credit of their respective governments.  Their life savings will be eaten away yearly with negative rates. …The end result will be the loss of all autonomy.  This will be the darkest of all tyrannies.  From cradle to grave one will not only be tracked in location, but on purchases.  Liberty will be non-existent. However, it will be sold to us as expedient simplicity itself, freeing us from crime: Fascism with a friendly face.

Second, the invaluable Allister Heath of the U.K.-based Telegraph warns that the desire for Keynesian monetary policy is creating a slippery slope that eventually will give governments an excuse to try to completely banish cash.

…the fact that interest rates of -0.5pc or so are manageable doesn’t mean that interest rates of -4pc would be. At some point, the cost of holding cash in a bank account would become prohibitive: savers would eventually rediscover the virtues of stuffed mattresses (or buying equities, or housing, or anything with less of a negative rate). The problem is that this will embolden those officials who wish to abolish cash altogether, and switch entirely to electronic and digital money. If savers were forced to keep their money in the bank, the argument goes, then they would be forced to put up with even huge negative rates. …But abolishing cash wouldn’t actually work, and would come with terrible side-effects. For a start, people would begin to treat highly negative interest rates as a form of confiscatory taxation: they would be very angry indeed, especially if rates were significantly more negative than inflation. …Criminals who wished to evade tax or engage in illegal activities would still be able to bypass the system: they would start using foreign currencies, precious metals or other commodities as a means of exchange and store of value… The last thing we now need is harebrained schemes to abolish cash. It wouldn’t work, and the public rightly wouldn’t tolerate it.

The Wall Street Journal has opined on the issue as well.

…we shouldn’t be surprised that politicians and central bankers are now waging a war on cash. That’s right, policy makers in Europe and the U.S. want to make it harder for the hoi polloi to hold actual currency. …the European Central Bank would like to ban €500 notes. …Limits on cash transactions have been spreading in Europe… Italy has made it illegal to pay cash for anything worth more than €1,000 ($1,116), while France cut its limit to €1,000 from €3,000 last year. British merchants accepting more than €15,000 in cash per transaction must first register with the tax authorities. …Germany’s Deputy Finance Minister Michael Meister recently proposed a €5,000 cap on cash transactions. …The enemies of cash claim that only crooks and cranks need large-denomination bills. They want large transactions to be made electronically so government can follow them. Yet…Criminals will find a way, large bills or not. The real reason the war on cash is gearing up now is political: Politicians and central bankers fear that holders of currency could undermine their brave new monetary world of negative interest rates. …Negative rates are a tax on deposits with banks, with the goal of prodding depositors to remove their cash and spend it… But that goal will be undermined if citizens hoard cash. …So, presto, ban cash. …If the benighted peasants won’t spend on their own, well, make it that much harder for them to save money even in their own mattresses. All of which ignores the virtues of cash for law-abiding citizens. Cash allows legitimate transactions to be executed quickly, without either party paying fees to a bank or credit-card processor. Cash also lets millions of low-income people participate in the economy without maintaining a bank account, the costs of which are mounting as post-2008 regulations drop the ax on fee-free retail banking. While there’s always a risk of being mugged on the way to the store, digital transactions are subject to hacking and computer theft. …the reason gray markets exist is because high taxes and regulatory costs drive otherwise honest businesses off the books. Politicians may want to think twice about cracking down on the cash economy in a way that might destroy businesses and add millions to the jobless rolls. …it’s hard to avoid the conclusion that the politicians want to bar cash as one more infringement on economic liberty. They may go after the big bills now, but does anyone think they’d stop there? …Beware politicians trying to limit the ways you can conduct private economic business. It never turns out well.

Last, but not least, Glenn Reynolds, a law professor at the University of Tennessee, explores the downsides of banning cash in a column for USA Today.

…we need to restore the $500 and $1000 bills. And the reason is that people like Larry Summers have done a horrible job. …What is a $100 bill worth now, compared to 1969? According to the U.S. Inflation Calculator online, a $100 bill today has the equivalent purchasing power of $15.49 in 1969 dollars. …And although inflation isn’t running very high at the moment, this trend will only continue. If the next few decades are like the last few, paper money in current denominations will become basically useless. …to our ruling class this isn’t a bug, but a feature. Governments want to get rid of cash… But at a time when, almost no matter where you look in the world, the parts of it controlled by the experts and technocrats (like Larry Summers) seem to be doing badly, it seems reasonable to ask: Why give them still more control over the economy? What reason is there to think that they’ll use that control fairly, or even competently? Their track record isn’t very impressive. Cash has a lot of virtues. One of them is that it allows people to engage in voluntary transactions without the knowledge or permission of anyone else. Governments call this suspicious, but the rest of us call it something else: Freedom.

Amen. Glenn nails it.

Banning cash is a scheme concocted by politicians and bureaucrats who already have demonstrated that they are incapable of competently administering the bloated public sector that already exists.

The idea that they should be given added power to extract more of our money and manipulate our spending is absurd. Laughably absurd if you read Mark Steyn.

P.S. I actually wouldn’t mind getting rid of the government’s physical currency, but only if the result was a system that actually enhanced liberty and prosperity. Unfortunately, I don’t expect that to happen in the near future.

“Dean Dad” is angry with me. A blogger for Inside Higher Ed and a community college dean, Matt Reed found my argument in yesterday’s Wall Street Journal that the federal government should stop giving student loans to people without regard to their demonstrated ability to do college-level work “as offensive an argument as I’ve seen in major media in a long, long time.”

As I wrote in my piece, I absolutely understand the impetus to give anyone who wants it access to college. Apparently, though, you must be utterly heartless to say maybe we should be concerned about the unintended consequences of related policies, which we see with throngs of unprepared people entering college and never finishing, many with loans they struggle to pay off because they don’t have the necessary credentials to increase their earnings.

Mr. Reed thinks that my view is about “getting tough on the poor and badly prepared.” I suppose that’s one way to spin it. But it is not really about “getting tough” with anyone – it is about first doing no harm by providing an external check on people’s potentially damaging borrowing plans. And it is not about “targeting” the poor or anyone else, but protecting the unprepared. Of course, the poor are disproportionately the ones who are inadequately prepared, and that is something we need to deal with. As I wrote, though, that is something we should do at the K-12 level, not compound the problem with debt and no degree.

Reed next delves a bit into caricature, stating, “When someone in the Wall Street Journal suggests getting tough with the poor for their own good, it is worth asking some questions.”  I’d say it’s worth asking questions whenever people propose things in any outlet, but I would also suggest we assume people have good motives. I don’t doubt that Dean Dad has fine motives – he no doubt does work he finds morally fulfilling – but if he is going to suggest extra suspicion of me because I wrote in the Journal, it is perhaps worth a reminder that he is a community college officer, writing in a higher education outlet, calling, among other things, for more money to go to community colleges.

Thankfully, in the second half of his piece Reed gets into some substantive arguments. For instance, he writes, “Why is student debt increasing? Is it because students abruptly became much less capable around 2008? That’s when debt loads exploded, and yet, McCluskey offers no evidence to suggest that academic ability suddenly nosedived then.” What else happened in 2008? Reed writes that there was a big drop in “state and local appropriations for public higher education.”

I don’t doubt for a moment that cuts in public funding for colleges have had effects on prices, as have lots of factors. And there is certainly a lot more that can be written on this topic than I could fit in the 700-or-fewer words allotted for my piece. Indeed, writing more is happening right now!

Let’s, though, look at some data. According to the first graph below, student debt levels have been rising pretty steadily since well before 2008, and there is no especially severe kink in 2008. And the big increase in the percentage of students with debt, as illustrated in the second graph, seemed to start in the early 1990s. Probably not coincidentally, the federal government hugely expanded student lending in the Higher Education Amendments of 1992.


How about the theory that state and local cutbacks explain tuition increases? They no doubt have an effect, but as I have shown repeatedly, public colleges have raised their prices in both good public funding times and bad. And what, likely, has enabled that? The data and research suggest it is in large part increased availability of student aid, including loans!

Reed next argues that many debts are hard to repay because “entry-level jobs don’t pay very well,” and he laments that “McCluskey never addresses either the supply of entry-level jobs, or the minimum wage.”  Again, you only get so many words in an op-ed, so you simply can’t tackle everything. But Reed’s argument shines a negative light not on me, but what he apparently thinks college prepares many people for: entry-level jobs often paying, he implies, minimum wage. If that’s the case, what is the point, at least economically, of getting a degree? And if it is the case that you now need a degree to get a minimum-wage, entry-level job, does that not at least suggest – even to a non-heartless person – that we are suffering from massive credential inflation spurred by too many people going to college? And is allowing someone to take on substantial debt not a very dangerous proposition if their likely destination is minimum-wage employment?

Alas, Mr. Reed then accuses me of not considering the “aspirations” of low-income students “important.” He concludes, “That’s a moral question, and that’s why I chose the word ‘offensive’ rather than ‘incorrect’” when characterizing my views. But suppose there are lower-income people – or any others – whose aspirations include not entering programs they are unprepared to complete and, in the process, incurring burdensome debt? Is it moral to hand them big bucks and just say “good luck paying that back”?

Yes, Mr. Reed, there can be competing moral goods.

Reed next takes offense at the possible baseline requirements for federal loans I offer in my piece: “To enroll in an associate degree program or higher, perhaps a minimum GPA of 3.0 on a 4.0 scale, and an SAT or ACT score equal to the national average, should be required.” He suggests that by not mentioning that such measures skew against “students of color and low-income students” I am being “dishonest.”

Again, I had limited space, so I could not explore every consequence or consideration stemming from my proposal. But Mr. Reed is absolutely right to question these suggestions. Indeed, I wrote “perhaps” they would be good measures, and in the next paragraph, wrote:

There are, of course, problems with this. Are a 3.0 GPA and 1000 SAT score the right threshold? And it is troubling to have government give some people loans while refusing others, especially since “objective” measures may not tell us everything important about individual borrowers.

Sadly, Reed ends his piece with more caricature – literally – saying that I ultimately call for “tough-minded bankers” to “crack down on the poor,” and he rails that, “Telling the poor they’re too risky to bother educating is not what a civilized society would do,” but instead “sounds like a Dickensian caricature.”

Does that really fit with what I wrote? It is correct that I think truly private lending is part of the solution to the college completion and debt problem, but did I really argue that the poor should be kept out of college “for their own good” and we shouldn’t “bother” educating them? It doesn’t seem that way to me. It seems like I specifically called not for treating the poor as some monolithic group, but as individuals:

All of this is why lending should be in private hands. Private lenders would have strong incentive to work with even the financially poorest, when college-ready, based on the likelihood they will succeed and repay their loans. Private lenders also would be using their own dollars, and so would have a powerful incentive to be honest with unprepared students, telling them, “The loan you want does not make sense for me…or you.” This would all be coupled with the flexibility to consider multiple measures of postsecondary readiness, as well as differing loan terms, and thus to treat potential borrowers as the unique people they are.

The good news, perhaps, is that Mr. Reed does not see me as a lost cause…I think. He concludes, “If your only message to the poor is that lifelong poverty is for their own good, I have nothing to say to you.”

Obviously, Mr. Reed had a lot to say to me. And, of course, I do not think “lifelong poverty” is good for the poor. Indeed, that is a major reason that we should think hard about handing debt to people who will likely not finish the programs they start and will then struggle to pay back their loans. As for what we should do to help the poor – as opposed to not hurt them further – I’d love to discuss solutions with Mr. Reed. But that will take a lot of back-and-forth, and probably a little less caricature.

Over at the Brookings Institution’s education blog, Paul Bruno offers a thoughtful critique of Overregulation Theory (OT), the idea that government regulations on school choice programs can undermine their positive effects. Bruno argues that although OT is “one of the most plausible explanations” of the negative results that two studies of Louisiana’s voucher program recently found, it is not “entirely consistent with the available evidence” and “does not by itself explain substantial negative effects from vouchers.”

I agree with Bruno–and have stated repeatedly–that the studies’ findings do not conclusively prove OT. That said, I believe both that OT is consistent with the available evidence and that it could explain the substantial negative effects (though I think it’s likely there are other factors at play as well). I’ll explain why below, but first, a shameless plug:

On Friday, March 4th at noon, the Cato Institute will be hosting a debate over the impact of regulations on school choice programs featuring Patrick Wolf, Douglas Harris, Michael Petrilli, and yours truly, moderated by Cato’s own Neal McCluskey. If you’re in the D.C. area, please RSVP at this link and join us! Come for the policy discussion, stay for the sponsored lunch!

Is the evidence consistent with Overregulation Theory?

Bruno notes that the differences in enrollment trends between participating and non-participating private schools is consistent with OT. Participating schools had been experiencing declining enrollment in the decade before the voucher program was enacted whereas non-participating schools had slightly increasing enrollment on average. This is consistent with the OT’s prediction that better schools (which were able to maintain their enrollment or grow) would be more likely eschew the vouchers due to the significant regulatory burden, while the lower-performing schools (which were losing students) were more desperate for students and funding, and were therefore more willing to jump through the voucher program’s regulatory hoops. However, Bruno calls this evidence into question:

For one thing, the authors of the Louisiana study specifically check to see if learning outcomes vary significantly between schools experiencing greater or lesser prior enrollment declines, and find that they do not. (Bedrick acknowledges this, but doubts there was enough variation in the enrollment trends of participating schools to identify differences.)

We should be skeptical of the explanatory value of the study’s enrollment check. There is no good reason to assume that the correlation between enrollment growth or decline among the small sample of participating schools (which had significantly negative growth, on average) is the same as among all private schools in the state. Making such an assumption is like a blind man holding onto the truck of an elephant and assuming that he’s holding a snake.

The study does not show the variation in enrollment trends among the participating and non-participating schools, but we could imagine a scenario where the enrollment trend among participating schools ranged, say, from -25% to +5% while the range at non-participating schools was -5% to +25%. As shown in the following charts (which use hypothetical data), there may be a strong correlation between enrollment trends and outcomes among the entire population, while there is little correlation in the subset of participating schools.

Enrollment Growth and Performance, Participating Private Schools (Hypothetical)

Enrollment Growth and Performance, All Private Schools (Hypothetical)

In short, looking at the relationship between enrollment growth and performance in the narrow subset of participating schools doesn’t necessarily tell us anything about the relationship between enrollment growth and performance generally. Hence the study’s “check” that Bruno cites does not provide evidence against OT.

Is there evidence that regulations improve performance?

Bruno also cites evidence that regulations can have a positive impact on student outcomes:

Joshua Cowen of Michigan State University also points out that there is previous evidence of positive effects from accountability rules on voucher program outcomes in other states (though regulations may differ in Louisiana).

The Cowen article considers the impact of high-stakes testing imposed on the Milwaukee voucher program during a multi-year study of that program. The “results indicate substantial growth for voucher students in the first high-stakes testing year, particularly in mathematics, and for students with higher levels of earlier academic achievement.” But is this strong evidence that regulations improve performance? One of the authors of both the original Milwaukee study and the cited article, Patrick Wolf of the University of Arkansas (who will be on our panel this Friday), cautions against over-interpreting these results:

Ours is one study of what happened in one year for one school choice program that switched from low-stakes testing to high-stakes testing.  As we point out in the report, it is entirely possible that the surge in the test scores of the voucher students was a “one-off” due to a greater focus of the voucher schools on test preparation and test-taking strategies that year.  In other words, by taking the standardized testing seriously in that final year, the schools simply may have produced a truer measure of student’s actual (better) performance all along, not necessarily a signal that they actually learned a lot more in the one year under the new accountability regime.

If we had had another year to examine the trend in scores in our study we might have been able to tease out a possible test-prep bump from an effect of actually higher rates of learning due to accountability.  Our research mandate ended in 2010-11, sadly, and we had to leave it there – a finding that is enticing and suggestive but hardly conclusive.

It’s certainly possible that the high-stakes test improved actual learning. But it’s also possible–and, I would argue, more probable–that changing the stakes just meant that the schools responded to the new incentive by focusing more on test-taking strategies to boost their scores.

For that matter, even if it were true that the regulations actually improved student learning, that does not contradict Overregulation Theory. Both advocates and skeptics of the regulations believe that schools respond to incentives. Those of us who are concerned about the impact of the regulations don’t believe that they can’t improve performance. Rather, our concern is that regulations imposed from above are less effective at improving performance than the incentives created by direct accountability to parents in a robust market in education, and may have adverse unintended consequences.

To explain: We’re concerned that regulations forbidding the use of a school’s preferred admissions standards or requiring the state test (which is aligned to the state curriculum) might drive away better-performing schools, leaving parents to choose only among the lower-performing schools. We’re concerned that price controls will inhibit growth, providing schools with an incentive only to fill empty seats rather than to scale up. We’re concerned that mandatory state tests will inhibit innovation and induce conformity. None of these concerns rule out the possibility (or, indeed, the likelihood) that over time, requiring private schools to administer the state test and report the results and/or face sanctions based on test performance will improve the participating schools’ performance on that test.

Again: we agree that schools respond to incentives. We just think the results of top-down incentives are likely to be inferior to the results of bottom-up choice and competition, which have proved to be powerful tools in so many other fields for spurring innovation and improving quality.

Can Overregulation Theory alone explain the negative results in Louisiana?

Finally, Bruno questions whether OT alone explains the Louisiana results:

[E]ven if regulation prevented all but the worst private schools from participating, this would explain why students did not benefit from transferring into them, but not why students would transfer into them in the first place.

So Overregulation Theory might be part of the story in explaining negative voucher effects in Louisiana, but it is not by itself sufficient. To explain the results we see in the study, it is necessary to tell an additional story about why families would sort into these apparently inferior schools.

Bruno offers a few possible stories–that parents select schools “that provide unobserved benefits,” that the voucher program “induced families to select inferior schools,” or that parents merely “assume any private school must be superior to their available public schools”–but any of these can be consistent with OT.  Indeed, the second story Bruno offers is practically an extension of OT: if the voucher regulations truncate supply so that it is dominated by low-quality schools, and the government gives false assurances that they have vetted those schools, then it is likely that we will see parents lured into choosing inferior schools.

That’s not to say that there are no other factors causing the negative results. It’s likely that there are. (I find Douglas Harris’s argument that the private schools’ curricula did not align with the state test in the first year particularly compelling, though I don’t think it entirely explains the magnitude of the negative results.) We just don’t have any compelling evidence that OT is wrong, and OT can suffice to explain the negative results.

I will conclude as I began: expressing agreement. I concur with Bruno’s assessment that “it is likely that the existing evidence will not allow us to fully adjudicate between competing hypotheses.” Indeed, it’s likely that future evidence won’t be conclusive either (it rarely is), but I hope that further research will shed more light on this important question. Bruno concludes by calling for greater efforts to “understand how families determine where their children will be educated,” noting that by understanding how and why parents might make “sub-optimal — or even harmful” decisions will help “maximize the benefits of school choice while mitigating its risks.” These are noble goals and I share Bruno’s desire to pursue them. I just hope that policymakers will approach what we learn with a spirit of humility about what they can accomplish.

[A version of this blog post originally appeared at Jay P. Greene’s blog.]

You may recall from my last post that in August 2008 the failure of Lehman Brothers caused sizable losses to a large money-market mutual fund, The Reserve Primary Fund, which held hundreds of millions in Lehman IOUs.  These losses reduced the fund’s asset portfolio value below its total share value at the pegged redemption rate of $1 per share.  For about 24 hours the fund’s management dithered, neither reducing the share claims nor injecting capital to restore the assets.  Alert institutional shareholders saw that there wasn’t enough asset value to pay everyone $1 per share, but the first to redeem could get that much, and so quite rationally ran to redeem.  Belatedly, Reserve Primary “broke the buck” and liquidated at 97 cents on the dollar.  Other “prime” mutual funds experienced heavy redemptions that day and over the next two days, although none broke the buck.  (Many received capital injections from their sponsoring firms.)  On the third day the Treasury stepped in to guarantee the $1 share price of all money market mutual funds.

Many regulators and economic analysts have inferred from these events that money-market mutual funds (MMMFs) are inherently run-prone.  The fact that this was the first run in MMMF history, however, should give us pause.  There is a more plausible reading of the evidence.  Although the Reserve Primary Fund did invite a run by letting its total shareholder claims exceed its total assets in value for a day, MMMFs can be structured and managed so that this never happens.

In a nutshell, the stage is set for a run on a bank or mutual fund when claims can be redeemed on demand, and claimants have reason to believe that their total claims exceed total assets (plus any off-balance-sheet funds) available for paying them.  Bank deposits are debt claims to fixed dollar sums, so a sudden drop in the market value of assets can trigger a run if the bank is so thinly capitalized that market net worth becomes negative.  Mutual fund shares are not fixed-dollar debts, but equity claims to percentages of the asset portfolio, such that total claims are supposed to add up to 100% of the asset portfolio and no more.  (Neglect of the distinction between debt and equity funding, by the way, is embodied in the obfuscatory language according to which MMMFs and hedge funds are part of a “shadow banking” system.)  When assets drop in value, share accounts are to be marked down correspondingly, so that they never over-claim the assets.

Ordinary open-end mutual funds accomplish this by continuously adjusting the “net asset value” or NAV, the dollar price at which one share in the portfolio can be purchased or redeemed.  Money-market mutual funds typically operate with the accounting convention of a fixed $1 NAV.  To keep $1 shares from over-claiming the assets in the event of asset losses, such a MMMF needs only to continuously adjust the total number of shares.  That is, its contractual arrangement with shareholders provides that a proportional number of shares will be immediately subtracted from account balances.

As J. P. Koning has pointed out, this arrangement is not just a conceptual possibility, it has been put in place by some MMMFs in Europe under the rubric of a “reverse distribution” or “share-reduction” mechanism.  In September 2014 reported that “the world’s biggest money manager,” BlackRock Inc., was adopting a share-reduction mechanism as a way of coping with negative yields on money-market instruments.  Or, as a spokesman put it, BlackRock “determined that it is in the best interests of shareholders to implement a form of share-reduction mechanism, which enables a stable NAV to be maintained on days when the net yield on the fund is negative.”

Neglecting this practicable method for run-proofing stable-NAV mutual fund claims, many would-be reformers after 2008 arrived at a diagnosis of inherent run-proneness with systemic negative spillovers, and were inspired to propose additional legal restrictions on MMMFs to make them less fragile.  (“Additional” restrictions because mutual funds were already regulated by the SEC under the Investment Company Act of 1940.)  In a useful recent review of this literature on run-proofing proposals, Harvard finance professors Hanson, Sharfstein, and Sunderam accordingly declare that “MMF regulation should attempt to both reduce the ex ante incentives of MMFs to take excessive risks and increase the ex post ability of MMFs to absorb losses without setting off runs.”  They emphasize three proposals popular in the literature:

  • “requiring MMFs to adopt a floating NAV structure,” that is, outlawing the fixed $1 share value (they oddly characterize this as a way “to subject MMFs more fully to market forces,” it is unclear why they do not recognize a conflict between market forces and legal restrictions);
  • “requiring MMFs to have a 1% capital buffer combined with a “Minimum Balance at Risk” (MBR) provision whereby investors cannot immediately redeem all of their shares,” a proposal from four economists at the Federal Reserve Board and FRB New York; and
  • “requiring MMFs to have a 3% subordinated capital buffer.”

The authors favor the third type of restriction as a way to “reduce ex ante incentives for risk-taking” while also allowing a MMMF to “maintain the current fixed NAV structure for ordinary MMF investors and thus preserve any transactional benefits those investors reap from the existing system.”  Like most contributors to the literature (an exception is a chapter by Agapova), they do not consider a contractual share-reduction mechanism, let alone note that it allows the transactional benefits of a fixed $1 NAV to be combined with 100% capital financing.  Possibly this oversight is the result of the mechanism having disappeared from use in the United States, simultaneously with American MMMFs (though not European MMMFs) replacing mark-to-market accounting of short-term assets by amortized cost valuation, and mark-to-market accounting of total share value by “penny-rounding” (not until book-value NAV falls below 99.5 cents does the MMMF have to inject capital or break the buck).

Somewhat surprisingly, proposals for these kinds of legal restrictions have come even from some sources that ostensibly favor greater reliance on free markets.  For example, the Shadow Financial Regulatory Committee in February 2012 and again in September 2012 issued a statement that called for outlawing the $1 fixed NAV for MMMFs, with the exception of retail funds whose sponsors provide “an explicit contractual guarantee” to inject enough capital to redeem at par whenever necessary and who meet new “capital and liquidity requirements.”

The SEC has adopted many of the proposals for new restrictions on MMMFs, including one of the least popular.  In the name of reducing liquidity, credit, and interest-rate risks, a set of restrictions adopted in February 2010 imposes a minimum liquidity ratio (cash or Treasuries to total assets), a AAA rating requirement for 97% of assets, a shorter average portfolio maturity than previously required, and periodic stress tests.  In July 2014, the SEC announced additional restrictions, to be phased in over two years.  A few months from now, the new rules will be fully in place.  The most important two new rules are:

  • Institutional prime and tax-free funds, but not institutional government funds, will be required to adopt a variable NAV.  (As a reminder, “prime” funds hold mostly paper issued by multinational banks and other financial firms, but also some short-term Treasuries.  Tax-free funds hold tax-exempt state and municipal bonds; government funds hold only US Treasury and agency bonds.  All three types are divided between retail and institutional versions.  The former are now limited by SEC rules to natural persons.  The latter have higher minimum investments and lower expense per share ratios and thus are favored by institutional investors and cash managers at large corporations.)  There is no good rationale for this requirement given the equally run-proof alternative of a fixed NAV combined with a share-reduction mechanism.
  • Funds are given the discretion, whether they want it or not (they cannot contractually bind themselves not to use it), “to impose liquidity fees or to suspend redemptions temporarily, also known as ‘gate,’ if a fund’s level of weekly liquid assets falls below a certain threshold.” Hanson, Sharfstein, and Sunderam, and many other analysts, rightly reject such “gating rules” as means to diminish runs.  Inability to precommit not to impose a gate can be expected to weaken a MMMF.  Knowing that a gate might be imposed, especially if another fund has just done so, investors will likely become more anxious to redeem now rather than wait and see.

In recent years more than half of the MMMF industry’s assets ($3.085 trillion at the end of 2015) has been held in prime funds.  But the mix is now changing and the total is falling because institutional investors who prefer a fixed NAV free of gates are now compelled to switch out of prime to lower-yielding government funds.  Mutual fund providers have begun to respond to institutional investor preferences by converting entire funds.  For example, in December 2015 the Fidelity group, “to assure shareholders that they will have daily access to funds used primarily for transactions,” converted three funds with shareholder approval.  The Fidelity Cash Reserves fund became Fidelity Government Cash Reserves; VIP Money Market became VIP Government Money Market; and Fidelity Retirement Money Market became Fidelity Retirement Government Money Market II.  Institutional investors are being limited to options they consider inferior, as shown by the drop in the size of institutional prime funds exceeding the gain in institutional government funds.

To criticize most generally the reform strategy of seeking to improve financial institutions by imposing restrictions on them, I suggest that reformers and policy-makers who seek what Cecchetti and Schoenholtz call “the optimal mechanism for securing the safety and soundness of MMMFs” need to consider that we can approach optimal arrangements only through a wide-open market competition among alternatives.  To think that we can derive optimal financial institutions (those that most fully exhaust gains from voluntary trade) by theorizing about them is an unwarranted pretense.  We need to allow different strategies for providing prime MMMFs that are safe (and have other desirable features, which we may trade off against safety) to compete head to head.  To affirm that a “subordinated capital buffer,” for example, is the optimal or efficient arrangement, for example, we must see it pass the market test by out-competing share-reduction mechanisms with fixed $1 share values, and other arrangements, for the favor of investors.  Quite likely, there is no single type of prime MMMF that best serves all potential users, but rather a variety of types would attract customers.  If some well-informed investors prefer a fixed-NAV fund that is not run-proof, because it offers them other advantages, there is a heavy burden of proof to show that such a fund should not be allowed.  The goal of a robust financial system calls for a diverse ecosystem of mutual funds, not a monoculture that is susceptible to a single disease.  Top-down restrictions promote a monoculture.

A case for not allowing free competition among a variety of contractual MMMF arrangements must presumably appeal not just to theoretically possible non-pecuniary externalities from allowing run-prone funds, but to evidence of serious non-pecuniary externalities.  This burden has not been met.  First, it has not been shown that the run on The Reserve Primary Fund was the shock that prompted heavy redemptions at other funds, rather than both being consequences of a common shock, namely the failure of Lehman Brothers and the associated decline in the market value of short-term claims on other financial institutions.  We will never know, because the Treasury quickly intervened, how long the redemptions at other funds would have continued. Second, it is far from clear that run-prone funds, like Reserve Primary under its atypically poor management (the main owner was on vacation, leaving his inexperienced son in charge), would be dangerously common in the financial marketplace emerging from unrestricted institutional competition.

Some proponents of restrictions on MMMFs have argued that the possibility of declining asset prices due to heavy redemptions makes even floating-NAV funds vulnerable to me-first runs. Thus Hanson, Sharfstein, and Sunderam speak of an “impetus to Diamond-Dybvig style runs” arising from the possibility that “MMFs forced to liquidate [illiquid] assets may have to sell them at heavily discounted, ‘fire-sale’ prices.”  Those who wait to redeem will face a lower NAV because early redemptions will push down the value of the fund’s assets.  The Diamond-Dybvig model of a self-justifying bank run, however, depicts an intermediary issuing debt claims whose total always exceeds the liquidation (“fire-sale”) value of its assets during the middle period of its three-period life.  It is not surprising that an insolvent bank is run-prone.  It is hard to see how this scenario is relevant to a MMMF that promptly marks down its total claims to the market value of its portfolio.  As a matter of fact, “Diamond-Dybvig style runs” among uninsured banks (prompted by mutually-validating fears that others will run, causing insolvency via fire-sale losses), as distinct from “bad-news” runs prompted by pre-run insolvency, are very hard to find in the historical record.

If me-first runs due to feared fire-sale losses were an actual problem among MMMFs, a fund could provide safety against over-claiming by valuing the fund’s assets (and correspondingly investor account balances) using its own actually realized sale prices, not observed transaction prices elsewhere.  Thus if selling assets to replenish the fund’s cash buffer after settling a $1000 check costs the fund more than $1000 in book value of assets, it could reduce the customer’s remaining balance accordingly.  This would eliminate any beat-the-crowd dynamic in which shareholder rush to sell because they rationally anticipate declining payoffs from fire-sale losses as other shareholders liquidate.  Whether this mechanism would have more-than-offsetting disadvantages in the eyes of customers, the financial market would show us – provided we leave the market free to operate.

[Cross-posted from]

New IRS reporting requirements force U.S. banks to disclose interest-earning accounts of non-resident aliens to the government. (Apparently this is tax-authority mutual back-scratching: foreign nations are expected to reciprocally report this type of information about U.S. citizens with accounts abroad.) Under this regulation, refusing to disclose non-resident alien accounts results in a fine.

The Florida and Texas Bankers Associations are trying to challenge this regulation, but are being frustrated by interpretative jiggery-pokery that prevents their serious legal arguments from even being heard. While the federal district court allowed this lawsuit to proceed, the U.S. Court of Appeals for the D.C. Circuit reversed course and held that the associations couldn’t challenge the regulation because, under the Anti-Injunction Act (AIA), one can’t challenge a tax until the government has attempted to enforce the allegedly improper law and collect the attendant tax. The D.C. Circuit—seemingly imitating Chief Justice Roberts’s reasoning in NFIB v. Sebelius—held that the penalty triggered by failing to follow the new reporting requirements was a tax, thus subjecting the lawsuit to the AIA.

Cato has banded together with the National Federation of Independent Business to file an amicus brief in support of Supreme Court review. The AIA’s statutory language should be interpreted as the Supreme Court has interpreted the Tax Injunction Act (TIA)—confusing, but not the same law—because they contain almost exactly the same language. Under the TIA, one cannot challenge a regulation that deals with either the “assessment” or “collection” of taxes. Similarly, the AIA only prohibits challenges that have the “purpose” to “restrain” “assessment” or “collection” of a tax. Since the fine at issue is a penalty for regulatory non-compliance, not a tax as properly understood, the AIA shouldn’t bar judicial challenges.

Moreover, with the way in which the D.C. Circuit read the “penaltax,” it created an issue under the Administrative Procedure Act (APA). The APA contains a “strong presumption” of judicial review prior to enforcement of substantive regulations like the one at issue here. Congress intended that all agencies’ substantive regulations would be subject to such review under the APA—not that the IRS would have no accountability before federal courts. People have a right to be sure of a regulation’s meaning before engaging in costly compliance efforts—and that’s exactly what pre-enforcement judicial review provides.

Finally, the APA contains stringent procedural requirements for how regulations are to be promulgated. For example, there must be an adequate explanation of the rule, notice and an opportunity for comment, and publication of proposed rules in the Federal Register. The Treasury Department and IRS frequently ignore these requirements—recall the various Obamacare delays, waivers, rewrites, and suspensions—and these agencies must be reigned in.

The Supreme Court should take up Florida Bankers Association v. U.S. Department of Treasury and reverse the lower court’s dangerous precedent. You shouldn’t need to wait until the government attempts to enforce a penalty against you before being able to challenge it.