Tuesday, November 29, 2011

I now work for the Sol Price School of Public Policy as well as the Marshall School of Business at USC

The Price Family gave a $50 million gift for the USC School of Policy, Planning and Development to be remained the USC Sol Price School of Public Policy.  Mr Price was an alum of USC, as is his grandson.

Mr. Price was the force behind Price Club, which later merged with Costco.  He was known for paying his workers well, treating his customers well, and not overpaying his executives.  He was ahead of his time with respect to racial integration and urban renewal.  Sometimes I feel an internal tension, because I admire both success in business and care a lot about social justice.  If all successful people in business were like Mr. Price, I would feel no such tension.  His obituary in the San Diego Jewish World contained the following:
“Most of life is luck,” he said in an 1985 newspaper interview. “Obviously you have to have the will and intensity, and in my case discipline and idealism had a lot to do with it. But if you move back a step, even that is luck."
I can't think of a better way to look at life.  And whether you need mustard or Johnny Walker Black, there is no better place to go than Costco.  I am proud to now work at a school named for him.

Why I think Raphael Bostic is more likely right about FHA than Joe Gyourko/AEI/WSJ

A healthy debate has taken place between HUD Assistant Secretary Raphael Bostic and Wharton Professor Joe Gyourko on the financial future of FHA.  While FHA is thinly capitalized, Raphael argues that will likely survive, while Joe thinks a large taxpayer finance bailout is looming.  In the interest of full disclosure, I should note that Raphael is a colleague of mine at USC, but Joe invited me to be a visiting faculty member at Wharton for a semester.  I think highly of them and am grateful to them both.

I have two reasons to bet on Raphael's view:

(1)  At the time the dumbest mortgage business was being done, FHA was out of the picture.  While FHA's market share is typically in the neighborhood of 12-15 percent, during the period 2003-2007, its market share ranged from 3.77 to 9.66 percent.    FHA did not lower its underwriting standards to that of the shadow banking sector (a sector that was not subject to the Community Reinvestment Act, by the way) in order to keep market share--the government insurance program was far more disciplined than the private sector.

FHA's market share increased dramatically in 2009 and 2010, in large part because the private sector abandoned the low downpayment market.  In 2010 in particular, FHA gained market share despite raising its prices and tightening its underwriting.    FHA was also ramping up its market share after house prices collapsed.  While house prices have not been robustly rising since late 2008, they have not been falling precipitously either.  One could argue that the private sector has been backward looking, while the public sector has been more forward looking.

(2) The second reason I have is more speculative, and is something that I am currently in the middle of researching, but I want to put it out there as a hypothesis (and a hunch).  I suspect that there is such a thing as "burn-out" in default--if a household goes through a difficult time without defaulting, it becomes decreasingly likely to default.  Part of the reason for this is amortization, but that is a small reason.  More important, people who refuse to default even when their measured characteristics suggest that they should have revealed that they are "different," and in a manner that is unobservable.  

Now again, in the interest of full disclosure, I should note that I did not forecast the size of GSE losses, so maybe I shouldn't be taken that seriously.  But I think my first argument will stand up, and as I do more research, I will know more about the second.

Saturday, November 26, 2011

Does slowing people down slow down the economy?

As my family and I were traveling back to LA from my parents' place in Arizona this weekend, we had to stop at three checkpoints.  Each stop delayed us--I would guess the average delay was 5-10 minutes.  One check point bragged that it had arrested around 100 people--about 70 for immigration violations and 30 for crimes--over the course of 2011.

According to this web site, one of the highways I travelled on carries 10,000 cars per day.  Let's say the average stop takes five minutes, the average car has 1.3 people in it, and the value of people's time averages $15 per hour.  This means that each arrest costs a little under $60,000; perhaps there is a deterrent effect as well.  Is this worth it?  I really don't know.

But I can't help but notice that over the last ten years, the US, as a matter of security policy, has really gummed up the ability of people to get easily from one place to another. Is it a coincidence that the economy has underperformed over this time?  Perhaps.  I can't think of a way to run a regression to test the relationship between ease of travel and economic performance--but that doesn't mean that someone else can't.

Tuesday, November 22, 2011

Remembering the date

In the long history of the world, only a few generations have been granted the role of defending freedom in its hour of maximum danger. I do not shrink from this responsibility—I welcome it. I do not believe that any of us would exchange places with any other people or any other generation. The energy, the faith, the devotion which we bring to this endeavor will light our country and all who serve it—and the glow from that fire can truly light the world.

Monday, November 21, 2011

More four year degrees won't solve the current problem

David Brooks and Thomas Friedman have recently taken to arguing that the solution to our income distribution woes is to encourage and enable more people to go to college.  I want to leave aside for a second the fact that our educational problems are much deeper than that--that our high school graduation rate is declining is to me the most alarming education statistic.

Rather, it is worth looking at what has happened to earnings by educational attainment over the past eight years.  The census has put out data for 2002-2010, and here is what it (Table A-6) shows:

Median earnings for men with a high school degree fell 12.1 percent between 2002-2010; earnings for women with a high school diploma fell 8.5 percent between 2002-2010; for men with college degrees, it was a fall of 8.0 percent; for women with college degrees it was flat.  So yes, education is increasing income inequality in that those with college degrees are losing less than those with high school diplomas.

I am the sort of person who would be fine with a GINI of .5 (a number the reflects lots of inequality) if it meant that the people who are materially worst off can live at a decent standard of living.  But currently, those who play by the rules (and I mean really play by the rules) are seeing their living standards erode.  Homilies about sending more people to college are at the moment pretty much beside the point.

Saturday, November 19, 2011

Raphael Bostic takes on Joe Gyourko

The Assistant Secretary of PDR (and USC colleague) writes:

This week, HUD released its annual report to Congress on the financial status of the Federal Housing Administration (FHA) Mutual Mortgage Insurance (MMI) Fund.  The report demonstrates the long-term strength of the Fund while not shying away from the challenges it faces in the near-term due to ongoing stresses in the housing market.  While the independent actuary reports older books of business underwritten during the bubble years of 2000-2008 are expected to produce losses of more than $26 billion, it also finds that FHA has a very strong platform going forward, with insurance on loans booked since January 2009 posting an estimated net economic value of $18 billion. Indeed, the actuary reports that the Fund still retains positive capital, and that it should be able to rebuild capital to the statutory requirement of two percent of insurance-in-force very quickly once housing markets across the county exhibit sustained growth.

Notwithstanding findings of the independent actuary that the FHA MMI Fund retains positive capital four years into the worst housing crisis since the Great Depression, a report commissioned by the American Enterprise Institute (AEI) suggests that FHA both lacks an actuarially sound program and is in current need of a significant capital infusion. 

Read the whole thing. It has actually stunned me how well FHA says done relative to AEI's paragon of virtue, the private market.  Of course, it was the private labels security market that drove down FHA's market share during the worst of the lending market. FHA loans actually always required underwriting; underwriting in the private sector often disappeared.

Thursday, November 17, 2011

Read CRL on Disparities in Mortgage Lending

The Center for Responsible Lending's research team of Carolina Reid (who has been working tirelessly at developing data on subprime mortgages for some time now), Roberto Quercia, We Li and Debbie Grunstein Bocian has produced Lost Ground, 2011: Disparities in Mortgage Lending and Foreclosures. They argue
1) The nation is not even halfway through the foreclosure
crisis. Among mortgages made between
2004 and 2008, 6.4 percent have
ended in foreclosure, and an additional 8.3 percent are
at immediate, serious risk.

(2) Foreclosure patterns are strongly
linked with patterns of risky
The foreclosure rates are consistently
worse for borrowers who received high-risk loan products
that were aggressively marketed
before the housing crash, such as
loans with prepayment penalties,
hybrid adjustable-rate mortgages
(ARMs), and option
Foreclosure rates are highest in
neighborhoods where these
loanswere concentrated.

(3)The majority of people affected
by foreclosures have been
white families. However, borrowers of
color are more than twice as
likely to lose their home as
white households. These higher
rates reflect the fact that African
Americans and Latinos were
consistently more likely to receive
high-risk loan products, even
after accounting for income and
credit status.
It is really striking how African-Americans and Hispanics were steered into crappy loans, even controlling for income and credit history. Beyond all this, the web site accompanying the report has really nicely organized data on severely delinquent loans and loans in foreclosure by state, race, ethnicity and MSA.

Holmen Jenkins makes me spit out my coffee this morning.

He spins this scenario:

Take this case: Workers in a rail yard see men in suits prowling around. Rumors fly the company is being sold. One worker buys call options on his employer's stock and, because the rumors turn out to be right, is hauled up on insider-trading charges. Had the rumors been wrong, had the worker lost money, had the men in suits been federal railroad inspectors, think the feds would have filed a case?
The natural lesson we draw from this little piece of fiction: if Spencer Bachus buys a short position after he meets with Ben Bernanke, it's ok.

Tuesday, November 15, 2011

Sometimes you have to hold your nose

Reporter Jim Puzzanghera  of the LA Times asked me today whether I would restore conforming loan limits in certain high cost areas to their pre-October 1 729,250 level.  He wrote:

Although he'd like to see more data, Green thinks it's probably a smart move to increase the loan limits. And he agreed that the move was unlikely to hurt the FHA's finances. 
"My gut answer is, I'd probably raise it back right now," Green said. "The downside of not raising it is potentially pretty bad."
I really dislike the idea of subsidizing mortgages that only households earning more than $200,000 per year can afford.  At the same time, however, Nick Timiraos last week wrote:

Potentially more revealing is this data point from California, which has a higher share of markets affected by the declines: applications for purchase loans with balances between $625,500 and $729,750 were down by 25% from September and by 33% from one year ago. By contrast, overall purchase-loan applications in California were down by just 12% and 3%, respectively.
Housing is still very weak and many borrowers are underwater.  I wanted to see if lowering loan limits would lead the private sector to step in--I am not seeing any evidence that it is.  Beyond the data cited in the Timiraos story, flow of funds data show that private lending in other sectors of the economy remains moribund.

Maybe it is worth waiting for another month of data before the old limits are restored.  But it is not worth worsening things in the market to make a point.

Harry Frankfurt and Herman Cain

The Washington Post sends me to a Milwaukee Journal-Sentinal interview with Herman Cain on Libya.

Watching the cringe inducing answers reminded me of one of may favorite books of the last decade or so: Harry Frankfurt's On Bullshit. I am writing this from my house, and my copy of the book is in my office, so let me pull a quote from the book that is featured in a Slate review:

Both in lying and in telling the truth people are guided by their beliefs concerning the way things are. These guide them as they endeavor either to describe the world correctly or to describe it deceitfully. For this reason, telling lies does not tend to unfit a person for telling the truth in the same way that bullshitting tends to. ...The bullshitter ignores these demands altogether. He does not reject the authority of the truth, as the liar does, and oppose himself to it. He pays no attention to it at all. By virtue of this, bullshit is a greater enemy of the truth than lies are.

I am not naive. Among my favorite presidents, three--FDR, LBJ, and Bill Clinton--were excellent liars. They were not, however, bullshitters. Herman Cain is.

Monday, November 14, 2011

David Barker writes that Congress is indeed subject to insider trading laws

He points me to a paper by Donna Nagy.  I will be curious to see if a prosecutor does anything with it.

Why on earth is Congress exempt from insider trading rules?

Just asking.

Tyler Cowen channels Mr Potter

Tyler Cowen writes about how more income inequality will lead to more hard work and discipline.

Mr. Potter agrees.

Sunday, November 13, 2011

The Prescience of Rudiger Dornbusch

As events have unfolded in Europe over the past year, I keep thinking back to an article written by Rudiger Dornbusch in Foreign Affairs.  The summary:

The battle for the common currency may be remembered as one of the more useless in Europe's history. The euro is hailed as a solution to high unemployment, low growth, and the high costs of welfare states. But the deep budget cuts required before integration are already causing pain and may trigger severe recessions. If the European Monetary Union goes forward, a common currency will eliminate the adjustments now made by nominal exchange rates, and the central bank will control money with an iron fist. Labor markets will do the adjusting, a mechanism bound to fail, given those markets' inflexibility in Europe.

He wrote the piece in 1996. It is now behind a pay-wall, but if you have access to a university library, you can probably get access to the piece.

I know this makes me elitist, but...

...people running for president should actually know stuff.  Jon Huntsman does, which seems to disqualify him immediately.

Friday, November 11, 2011

What's the real difference between Brookings and AEI?

With Brookings, I need to read the study to know how it turns out.

With AEI, I don't need to read the study to know how it turns out. 

Wednesday, November 09, 2011

Do Richwine and Briggs show that, on average, teachers are overpaid? I don't think so. (Warning: a little wonky)

A recent study by John Richwine and Andrew Biggs of the Heritage Foundation and the American Enterprise Institute purports to show that teachers are on average overpaid.   I do not find their evidence convincing, and the reasons have less to do with their affilitations than the technical nature of their work.  My problems with their paper are:

(1) They estimate a reduced form, which means it is difficult to interpret the meaning of their coefficients.

(2) Even if we accept their reduced form, there are issues in how the authors specify their explanatory variables.

(3) The authors' specification has a serious selectivity problem and

(4) Most disturbingly, they ignore their most convincing spefication, a specification that supports the idea that teachers get paid 10 percent less in wages than those in other professions.

Let's turn to each problem in turn:

(1) Underlying any wage equation is a supply curve for labor and a demand curve for labor.  Let's write these out:

L(s) = a + bw +cX1+ e1
L(d) =d - fw +gX2 + e2

X1 and X2 are vestors of explanatory variables, e1 and e2 are residuals from a regression equation. 

Let's say one of the elements in X2 is years of education--the demand for labor goes up in years of education after controlling for wages.  The coefficient g that is multiplied by years of education is thus easy to interpret--it is a wage premium associated with education.

The problem is that the authors estimate a reduced from,  where they put L(s)=L(d).  The resulting equation they arrive at is

w = d/(b+f)+gX2/(b+f)+e2/(b+f)-a/(b+f)-cX1/(b+f)-e1/(b+f)

If  X2 is education, and is in both the supply and deman equation, the reduced form wage equation reduces to:
w=(d-a)/(b+f) +(g-c)X1/(b+f)+(e2-e1)/(b+f)

So the coefficient on X1 is (g-c)/(b+f). This coefficient helps with prediction of wages, but it does not allow us to disintangle the stuctural foundation of wages.  This why why when we are trying to determine the impact of policy on outcomes, reduced forms are problematic.

(2) The authors assume that wages are linear in years of education.  This is clearly not true--the impact of  education on wages tends to fall into "buckets;" < 12 years, 12-15 years, 16 years, and > 16 years.  You get the idea.  Their mis-specification of the educational variable could bias their other findings.

(3) People who select themselves into teaching might have skills that do not show up in educational levels or on aptitude tests.  I have lots of education and do well on aptitude tests, but I think I would be at sea teaching second graders and REALLY at sea teaching middle schoolers.  Teaching students at these levels requires patience, insight and social skills that are not measured by aptitude tests.

The authors point to the interesting fact that people generally make less money when they move from teaching to non-teaching jobs.  There are alternative interpretations to there.  One is that teaching is a hard job, and so people willingly leave at lower wages.  The second is that those who select out of teaching are those who have decided they are not very good at it.

(4) The most disturbing part of the paper is this:

"Table 2 shows how teacher salaries change depending on whether education or AFQT is included in the regression. The first row is the "standard" regression based on our CPS analysis in the previous section: Years of education are controlled for, but AFQT is not. The standard regression shows a teacher salary penalty of 12.6 percent.

The second row includes both education and AFQT in the same regression. The impact on teacher wages is small: The penalty decreases by less than two percentage points. The third row again includes AFQT but now omits education. With this specification, the change is dramatic: The teaching penalty is gone, replaced by a statistically insignificant premium.

How to interpret these results? On the one hand, the difference in IQ between teachers and other college graduates

by itself has only a small effect on estimates of the teacher penalty. As the second row indicates, teachers with both the same education and AFQT score as other workers still receive 10.7 percent less in wages.

However, as we have shown, education is a misleading measure of teacher skills in several ways. In addition to the IQ difference between teachers and non-teachers, the education major is among the least challenging fields of study, and years of education subsequently have little to no effect on teacher quality. This suggests that eliminating education as a control variable and letting AFQT alone account for skills (as in the third row) may provide the most accurate wage estimates.

Replacing education with an objective measure of skills eliminates the observed teacher penalty, indicating that non-teachers with the same education as a typical teacher will likely have more applicable skills. We emphasize that a job is not necessarily less important or less challenging when the credentials for it are easier to obtain. Indeed, effective teachers are highly valuable to society and the economy."

So the authors have a regression with both education (which reflects Spence-type signalling, among other things) and IQ. The reduction in the R-squared when education is dropped suggests that after controlling for IQ, the coefficient on education continues to be statistically different from zero. When both IQ and education are included, teachers suffer a 10 percent wage discount relative to the private sector. Yet the authors ignore this result for the rest of the paper.

(FWIW, I really admire Michelle Rhee).

Thursday, November 03, 2011

Pulling out David Min's Graph from Mike Konczal's piece

Beyond reproducing Mike's post, I want to underline this graph from David Min:

This punches a hole in the argument that Pinto and Wallison make that Fannie and Freddie were making "dangerous loans" when they moved to higher LTV and lower FICO lending.  Their models allowed for offsets--if one had a very low LTV, one could get by with a relatively low FICO, and vice versa.  The private label market allowed for lending standards that were crappy in all dimensions.

Mike Konczal gives Six Reasons not to believe the meme that Fannie and Freddie caused the crisis

Reproduced with his kind permission:

1. Private markets caused the shady mortgage boom: The first thing to point out is that the both the subprime mortgage boom and the subsequent crash are very much concentrated in the private market, especially the private label securitization channel (PLS) market. The Government-Sponsored Entities (GSEs, or Fannie and Freddie) were not behind them. The fly-by-night lending boom, slicing and dicing mortgage bonds, derivatives and CDOs, and all the other shadiness of the mortgage market in the 2000s were Wall Street creations, and they drove all those risky mortgages.
Here’s some data to back that up: “More than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions… Private firms made nearly 83 percent of the subprime loans to low- and moderate-income borrowers that year.”
As Center For American Progress’s David Min pointed out to me, the timing doesn’t work at all: “But from 2002-2005, [GSEs] saw a fairly precipitous drop in market share, going from about 50% to just under 30% of all mortgage originations. Conversely, private label securitization [PLS] shot up from about 10% to about 40% over the same period. This is, to state the obvious, a very radical shift in mortgage originations that overlapped neatly with the origination of the most toxic home loans.”

2. The government’s affordability mission didn’t cause the crisis: The next thing to mention is that the “affordability goals” of the GSEs, as well as the Community Reinvestment Act (CRA), didn’t cause the problems. Randy Krozner summarized one of the better studies on this so far, finding that “the very small share of all higher-priced loan originations that can reasonably be attributed to the CRA makes it hard to imagine how this law could have contributed in any meaningful way to the current subprime crisis.” The CRA wasn’t nearly big enough to cause these problems.
I’d recommend checking out “A Closer Look at Fannie Mae and Freddie Mac: What We Know, What We Think We Know and What We Don’t Know by Jason Thomas and Robert Van Order for more on the GSEs’ goals, which, in addition to explaining how their affordability mission is a distraction, argues that subprime loans were only 5 percent of the GSEs’ losses. The GSEs also bought the highly rated tranches of mortgage bonds, for which there was already a ton of demand.

3. There is a lot of research to back this up and little against it: This is not exactly an obscure corner of the wonk world — it is one of the most studied capital markets in the world. What has other research found on this matter? From Min:
Did Fannie and Freddie buy high-risk mortgage-backed securities? Yes. But they did not buy enough of them to be blamed for the mortgage crisis. Highly respected analysts who have looked at these data in much greater detail than Wallison, Pinto, or myself, including the nonpartisan Government Accountability Office, the Harvard Joint Center for Housing Studies, the Financial Crisis Inquiry Commission majority, the Federal Housing Finance Agency, and virtually all academics, including the University of North Carolina, Glaeser et al at Harvard, and the St. Louis Federal Reserve, have all rejected the Wallison/Pinto argument that federal affordable housing policies were responsible for the proliferation of actual high-risk mortgages over the past decade.
The other side has virtually no research conducted that explains their argument, with one exception that I’ll cover below.

4. Conservatives sang a different tune before the crash: Conservative think tanks spent the 2000s saying the exact opposite of what they are saying now and the opposite of what Bloomberg said above. They argued that the CRA and the GSEs were getting in the way of getting risky subprime mortgages to risky subprime borrowers.
My personal favorite is Cato’s “Should CRA Stand for ‘Community Redundancy Act?’” from 2000 (here’s a write-up by James Kwak), which argues a position amplified in its 2003 Handbook for Congress financial deregulation chapter: “by increasing the costs to banks of doing business in distressed communities, the CRA makes banks likely to deny credit to marginal borrowers that would qualify for credit if costs were not so high.” Replace “marginal” with Bloomberg’s “on the cusp” and you get the same idea.

Bill Black went through what AEI said about the GSEs during the 2000s and it is the same thing — that they were blocking subprime loans from being made. In the words of Peter Wallison in 2004: “In recent years, study after study has shown that Fannie Mae and Freddie Mac are failing to do even as much as banks and S&Ls in providing financing for affordable housing, including minority and low income housing.”

5. Expanding the subprime loan category to say GSEs had more exposure makes no sense: Some argue that the GSEs had huge subprime exposure if you create a new category that supposedly represents the risks of subprime more accurately. This new “high-risk” category is associated with a consultant to AEI named Ed Pinto, and his analysis deliberately blurs the wording on “high-risk” and subprime in much of his writings. David Min broke down the numbers, and I wrote about it here. Here’s a graphic from Min’s follow-up work, addressing criticism:
Even this “high risk” category isn’t risky compared to subprime and it looks like the national average. When you divide it by private label, the numbers are even worse. Private label loans “have defaulted at over 6x the rate of GSE loans, as well as the fact that private label securitization is responsible for 42% of all delinquencies despite accounting for only 13% of all outstanding loans (as compared to the GSEs being responsible for 22% of all delinquencies despite accounting for 57% of all outstanding loans).” The issue isn’t this fake “high risk” category, it is subprime and private label origination.
The Financial Crisis Inquiry Commission (FCIC) panel looked carefully at this argument and also ended up shredding it. So even those who blame the GSEs can’t get the numbers to work when they make up categories.

6. Even some Republicans don’t agree with this argument: The three Republicans on the FCIC panel rejected the “blame the GSEs/Congress” approach to explaining the crisis in their minority report. Indeed, they, and most conservatives who know this is a dead end, tend to take a “it’s a whole lot of things, hoocoodanode?” approach.

Peter Wallison blamed the GSEs when he served as the fourth Republican on the FCIC panel. What did the other three Republicans make of his argument? Check out these released FCIC emails from the GOP members. They are really fun, because you can see the other Republicans doing damage control and debating whether Wallison and Pinto were on the take for making this argument — because the argument makes no sense when looking at the data.

There are lots of great quotes: “Re: peter, it seems that if you get pinto on your side, peter can’t complain. But is peter thinking idependently [sic] or is he just a parrot for pinto?”, “I can’t tell re: who is the leader and who is the follower,” “Maybe this email is reaching you too late but I think wmt [William M. Thomas] is going to push to find out if pinto is being paid by anyone.” And then there’s the infamous event where Wallison emailed his fellow GOP member: “It’s very important, I think, that what we say in our separate statements not undermine the ability of the new House GOP to modify or repeal Dodd-Frank.”

The GSEs had a serious corruption problem and were flawed in design — Jeff Madrick and Frank Partnoy had a good column about the GSEs in the NYRB recently that you should check out about all this — but they were not the culprits of the bubble

Wednesday, November 02, 2011

It is time to kill California High Speed Rail

Lisa Schweitzer notes that the cost estimate has been raised to nearly $100 billion (which she says still might understate the cost).

Let's do a little math about this--$100 billion throws off about $5 billion per year. If low income people work 200 250 days a year, and we were to fully subsidize the $5 LA metro day pass (and if I have my zeros right), we could fund 5 4 million people's transit per year.