Monday, January 26, 2009

Even Economists Who Are Mostly Right Still Get It Wrong

John Hussman, Ph.D., runs different mutual funds and has a superior track record. Available on the Web is his Weekly Market Comment. He is one of the best commentators. For example, he is right on with his early comments in his post today: "Okun's Law, Ockham's Razor, and Economic Stimulus". An example:

"For my part, I tend to lean away from the Keynesian view that sees recessions as times of inadequate “aggregate demand.” Rather, recessions are essentially times when there is a mismatch between the mix of goods and services demanded by individuals in the economy, and the mix of goods and services that was previously supplied. The clear area of mismatch here is in housing, as well as various sectors of the economy that have made a business of irresponsibly increasing the debt burden of the nation (including mortgage companies, investment banks, and other purveyors of leverage). Those mismatched sectors are experiencing enormous losses, as they should. The job of economic policy is to ease that transition in a way that reduces the spillover onto the broader economy."

After a discussion most of which I agree with, he concludes:

"In short, the essential problem is not “insufficient aggregate demand” but rather risk-aversion and anticipatory saving triggered by fear of financial instability."

He is correct that there is not a lack of final demand. And if there were, so what? It is not the role of government to "stimulate" any particular level of demand for goods and services. If we want to work on average 1000 hours per year rather than 2000, so be it. There will be fewer miles driven, fewer fatal car crashes, less carbon emission, fewer consumer goods sold, etc. Free
market economics at work. So far, so good.

He is dead wrong when he blames "risk-aversion" as one of the essential problems. Risk-aversion is a good thing. People took too many risks with their capital for too many years. Almost every non-professional investor and many professional money managers have no idea how highly valued common stocks are relative to long periods in the past. The same goes for commercial and residential real estate at today's prices.

Dr. Hussman is also dead wrong when he also blames as the other essential problem "anticipatory saving triggered by fear of financial instability". Most important to his major point, whether saving is "anticipatory" is an irrelevant adjective. There has been a grievous lack of saving in this country, from the Federal Government down to individuals. We need more saving, not less. Calling it "anticipatory" makes no sense. All saving is forward-looking; otherwise we would either work less hard or work as hard as we do now and spend all we earn. I would also quibble with his phrase "fear of financial instability". I suspect he didn't mean to write it the way it came out. Clearly there has been the fact of financial instability, not just a fear of it.

Brilliant economists who mostly got it right, such as John Hussman, still miss the "essential problem" (in his terminology). We need to rout the Merchants of Debt, not criticize "risk-aversion" and "fearful" savers.

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