I am a Democrat. Some people who are close to me are not. They they are not has always been something of a mystery to me; as a railroad worker and an executive secretary, they would surely benefit from Democratic policies relative to Republican policies. But I think the sub-prime crisis has given me some insight into why they are Republicans.
This couple, while not affluent, have always been financially responsible. As such, it is not difficult for them to find credit at a cheap price. They would also never think to sign a piece of paper that represented their income to be something other than what it actually was.
Let me stipulate that among sub-prime borrowers, there are many who were harmed by unscrupulous lenders who engaged in deceptive practices. We know, for instance, that many sub-prime borrowers would have qualified for prime mortgages. That they did not receive such mortgages is a problem that need to be remedied. Policy should make it easy for them to refinance out of their subprime mortgages into something more favorable.
But there are also borrowers in the sub-prime market who speculated on the housing markets, and there are borrowers who misrepresented their income and assets. For many of those of have followed the rules, anything that might smack of of a bail-out of those who speculated or borrowed fraudulently will induce anger. My friends are such people, and they believe that the Democratic Party has long been in the vanguard of diverting resources away from them toward those who don't, in Bill Clinton's phrase, "play by the rules." As we seek to solve this problem, and to remedy that harm that was done to those who were victimized by truly bad actors, we Democrats need to remember those who have always played by the rules.
Wednesday, September 12, 2007
Best article title I have seen in some time
Repugnance as a Constraint on Markets, by Alvin Roth, Journal of Economic Perspectives, Summer 2007.
Monday, September 10, 2007
Tyler Cowen on Economics Education
"Teaching economics. Give students open-ended problems, no answer, want students to struggle, argue with their classmates, write them up on their own. But many don't, and are comforted when they just hear the answer in class. Hard to get students—and ourselves—to do the hard work necessary to learn. Generally, teaching that way is not popular. Painful to have to defend your own propositions in the face of being challenged. We don't understand very well how education works. Can you replace teachers with DVDs of the great lecturers? Probably wouldn't work, but why not? What makes education effective? Reading a blog may be as good a way to learn economics as reading a book. Hearing people chat, tell stories. Talking about each other's ideas is intrinsically valuable, valuable to be part of a small discoursing community. Emulates the dinner table. Anecdote: Alfred Marshall was teaching a class, and Pigou was only student. Pigou sits down, Marshall just reads his lecture notes."
A long interview with him is at:
http://www.econtalk.org/archives/2007/09/cowen_on_your_i.html
A long interview with him is at:
http://www.econtalk.org/archives/2007/09/cowen_on_your_i.html
Housing and the Business Cycle
Ten years ago, I wrote this: |
| RICHARD K. GREEN George Washington University REAL ESTATE ECONOMICS, Vol. 25 No. 5, Summer 1997 |
| Abstract: This paper examines the effect of different kinds of investments on the business cycle. Specifically, it examines whether residential and non-residential investment Granger cause GDP, and whether GDP Granger causes each of these types of investments. The paper uses quarterly National Income and Products Data for the period 1959 to 1992. Under a wide variety of time-series specifications, residential investment causes, but is not caused by GDP, while non-residential investment does not cause, but is caused by GDP. Thus, housing leads and other types of investment lag the business cycle. The results also suggest that policies designed to funnel capital away from housing into plant and equipment could produce severe short-run dislocations. About a month ago, Ed Leamer wrote this: http://www.kc.frb.org/publicat/sympos/2007/PDF/2007.08.03.Leamer.pdf Where he showed that declines in the housing cycle are remarkably strong predictors of recessions. I have a ($1) bet with my boss, Susan Phillips, about whether we are heading into recession this year: I say yes and she says no. She was a Fed Governor, and so has insight that I don't begin to have. I would also prefer to lose the bet. By after last Friday's jobs numbers, I like my chances. |
Joe Morello
Joe Morello never ceases to amaze me. Listen to how he keeps the 5/4 signature alive through is complicated solo.
Friday, September 07, 2007
Why Private Equity?
Last month, Hamid Moghadam, CEO of AMB, spoke to my Wharton West class. He was a remarkable speaker.
AMB is an industrial REIT that has a private subsidiary whose existence is a puzzle to me. The REIT and the subsidiary share profits until the subsidiary reaches a return target, after which the public company gets the lion's share of the profit. In other words, the public and private companies split the risk, but the public company has more upside potential. This makes no sense in a Modigliani-Miller world (or any reasonable world, for that matter).
The benefit of the private company in this context is that it is not priced every day. Managers of institutional portfolios like this, because they don't have to report losses until they are realized. With stocks, managers can be measured on a minute-to-minute basis. Chris Mayer at Columbia, who knows more about this stuff than I, confirms that this can be a motivator for how fund managers choose their investments.
AMB is an industrial REIT that has a private subsidiary whose existence is a puzzle to me. The REIT and the subsidiary share profits until the subsidiary reaches a return target, after which the public company gets the lion's share of the profit. In other words, the public and private companies split the risk, but the public company has more upside potential. This makes no sense in a Modigliani-Miller world (or any reasonable world, for that matter).
The benefit of the private company in this context is that it is not priced every day. Managers of institutional portfolios like this, because they don't have to report losses until they are realized. With stocks, managers can be measured on a minute-to-minute basis. Chris Mayer at Columbia, who knows more about this stuff than I, confirms that this can be a motivator for how fund managers choose their investments.
Wednesday, September 05, 2007
How big is the Subprime mess?
Let's figure this out. Subprime and Alt-A Mortgage Debt outstanding is something like $1.5 trillion. Let's say 20 percent default (double the default rate during the great depression). That is $300 billion in bad loans. If the loss that is 70 percent (probably an overestimate), that leaves $210 billion to clean up.
The S&L Crisis cost around $150 billion in present value terms (see http://www.erisk.com/Learning/CaseStudies/USSavingsLoanCrisis.asp). But the economy in 1995, which was pretty much when the clean-up ended, was half the size in nominal terms as it is now. So in the context of its economy, the subprime crisis is smaller than the S&L crisis, which was one of a number of events that led to a relatively mild, short-lived recession.
But there is an important difference. This crisis appears to have done serious reputational harm to rating agencies, which is turn means that lenders have less confidence about their ability to get repaid. This is turn means that non-residential lending is being affected by the subprime crisis. How much these spillovers matter will determine how much the crisis matters to the macroeconomy.
Professor John Taylor of Stanford presented a graph at Jackson Hole that suggested that the spillover from the subprime market to US credit markets was large, but that credit markets in other countries have to this point been immune from contagion. Let's hope this continues abroad, and that the non-subprime debt market in the US returns to normal reasonably soon.
The S&L Crisis cost around $150 billion in present value terms (see http://www.erisk.com/Learning/CaseStudies/USSavingsLoanCrisis.asp). But the economy in 1995, which was pretty much when the clean-up ended, was half the size in nominal terms as it is now. So in the context of its economy, the subprime crisis is smaller than the S&L crisis, which was one of a number of events that led to a relatively mild, short-lived recession.
But there is an important difference. This crisis appears to have done serious reputational harm to rating agencies, which is turn means that lenders have less confidence about their ability to get repaid. This is turn means that non-residential lending is being affected by the subprime crisis. How much these spillovers matter will determine how much the crisis matters to the macroeconomy.
Professor John Taylor of Stanford presented a graph at Jackson Hole that suggested that the spillover from the subprime market to US credit markets was large, but that credit markets in other countries have to this point been immune from contagion. Let's hope this continues abroad, and that the non-subprime debt market in the US returns to normal reasonably soon.
Tuesday, September 04, 2007
The paper I have with Wachter at the Jackson Hole Symposium
http://www.kc.frb.org/publicat/sympos/2007/PDF/2007.08.21.WachterandGreen.pdf
Still needs a little cleaning up, but it is basically what we will submit for the symposium issue.
Still needs a little cleaning up, but it is basically what we will submit for the symposium issue.
Monday, September 03, 2007
The Theme that runs through the Bourne movies
Is it me, or does it sound an awful lot like the prelude to Die Walkure?
BTW, if you like action movies at all, The Bourne Ultimatum is about as good as it gets.
BTW, if you like action movies at all, The Bourne Ultimatum is about as good as it gets.
Sunday, September 02, 2007
An Interesting Idea from Andrew Samwick and Dean Baker
http://www.projo.com/opinion/contributors/content/CT_baker31_08-31-07_8G6SA6I.1c1d9dc.html
Allow those who defaulted stay in their homes at fair market rent. Only houses at less than median value would qualify. This is an interesting idea. I'll need to think it through at greater length...
Allow those who defaulted stay in their homes at fair market rent. Only houses at less than median value would qualify. This is an interesting idea. I'll need to think it through at greater length...
House Price Indices: Case-Shiller and OFHEO
Two house price indices came out this week--the Case-Shiller and the OFHEO. Case-Shiller is down, while OFHEO is flat (quarter-to-quarter). It is natural enough to wonder why.
The two indices have three principal differences:
OFHEO has only houses financed with conforming mortgages (those with balances of less than $417,000). CS uses all sales.
OFHEO includes appraised values for refinance loans. CS looks only at sales.
OFHEO includes houses that may have been substantially improved from one sale to the next. CS throws those houses out.
In short, CS is better. The only advantage OFHEO has is that it covers the whole country--CS only covers the 20 largest metropolitan areas.
The two indices have three principal differences:
OFHEO has only houses financed with conforming mortgages (those with balances of less than $417,000). CS uses all sales.
OFHEO includes appraised values for refinance loans. CS looks only at sales.
OFHEO includes houses that may have been substantially improved from one sale to the next. CS throws those houses out.
In short, CS is better. The only advantage OFHEO has is that it covers the whole country--CS only covers the 20 largest metropolitan areas.
You know you're travelling too much when
You actually look forward to getting the Lemon-pepper Tuna in the $5 United snack box.
I know people hate United, but I don't think they are any worse than any other US airline (save one), and if you fly them a lot, you get seats with more legroom. You also get to listen to Air Traffic Control, and they have the tasty tuna.
Lots of people seem to love Southwest--I am not sure why. But Jetblue is really great. They just don't go enough places yet.
I know people hate United, but I don't think they are any worse than any other US airline (save one), and if you fly them a lot, you get seats with more legroom. You also get to listen to Air Traffic Control, and they have the tasty tuna.
Lots of people seem to love Southwest--I am not sure why. But Jetblue is really great. They just don't go enough places yet.
Jim Hamilton writes from Jackson Hole about GSEs
One of the (many) great things about getting to participate in the Jackson Hole conference was getting to meet Jim Hamilton, along with his wife, Marjorie Flavin, both of whose work I have admired for some time.
Jim makes a connection between the GSEs and the current mortgage crisis.
http://www.econbrowser.com/cgi-bin/mt-tb.cgi/633
The problem is that we really need the GSEs to step in and help right now (I think Jim's comments suggests that he agrees with this), but we don't want to write a big fat check to Fannie and Freddie.
Perhaps the thing to do is embodied in a comment I wrote on a paper by the USC gang for a Brookings Volume:
"The United States has idiosyncratic institutions whose purpose is to provide capital to mortgage markets while not originating loans. Two of these institutions, Fannie Mae and Freddie Mac, are among the largest financial intermediaries in the world, with assets of about $800 billion each.[i] Each company guarantees well over $1 trillion of off-balance-sheet mortgages.[ii]
Beyond being large, both of these companies are highly profitable, with typical book returns on equity of 25 percent.[iii] Critics of the firms argue that, on a risk-adjusted basis, they are too profitable.[iv] Specifically, they argue that shareholders whose debts are implicitly guaranteed by the U.S. government should not earn such large returns.
The size and profitability of the companies are likely the reason that they are required to meet affordable housing goals. The original charters of the companies were silent on the issue of affordability. Rather, they emphasized stability, liquidity, and ubiquity.[v] It was not until 1992, with passage of the Federal Housing Enterprises Financial Safety and Soundness Act, that Fannie Mae and Freddie Mac faced a regulatory requirement to target mortgage funding to “low- and moderate-income” borrowers, to “underserved” census tracts, and to “very low-income” borrowers or low-income borrowers in “low-income” areas. It is not a stretch to think that Congress felt that, in light of the companies’ special status and profitability, they had a special obligation to help those at the margins of the housing market. These targets became known as the “affordable housing goals.”
The paper by An, Bostic, Deng, and Gabriel asks a very simple question: Did the regulatory requirements put in place in 1992 work...
...[An, Bostic, Deng, and Gabriel’s] results taken as a whole imply that the affordable housing goals have accomplished little in terms of directing mortgage capital to the “underserved.” One could look at the goals as a classic outcome predicted by the public choice literature, which argues that government attempts to cure distortions that it created itself with other distortions.[i] In this particular case, regulators are trying to “cure” a distortion that arises from the existence of Fannie Mae and Freddie Mac: an unnaturally high return on equity to the shareholders of these two companies. This distortion arises from the perceived backing that the two companies receive from the federal government.[ii]
The purpose of the goals is to tax the companies and send shareholder benefits to underserved borrowers and neighborhoods. Structured as they are, however, the goals may simply shift profits from Fannie and Freddie shareholders to mortgage originators. An unusually explicit example of this happened in 2003, when Freddie Mac paid Washington Mutual $6 billion to “borrow” mortgages for goal-counting purposes.[iii] This transaction did nothing to add liquidity to the mortgage market anywhere and yet was a perfectly rational reaction by both parties to the goals.
The problem with the goals is that they do not tackle the distortion created by the existence of Fannie Mae and Freddie Mac in a head-on manner. The companies earn large profits because they are allowed to borrow at low risk-adjusted interest rates. Moody’s, for example, notes that it gives Freddie Mac an Aaa rating in part because of “dependence between Freddie Mac and the U.S. government.”[iv] In fact, Moody’s states that the default risk of Freddie Mac’s portfolio is at the level of an Aa1-rated financial institution. This is an excellent credit rating and reflects well on the management of the company, but it is still lower than Aaa: the company thus borrows at a lower rate than its credit characteristics warrant.
Congress could tackle this problem directly in one of two ways. It could raise the capital requirements for both companies, or it could follow the suggestion of Glaeser and Jaffee or Jaffee and Quigley and tax Fannie Mae’s and Freddie Mac’s issuance of new debt.[v] The second solution is particularly appealing, because it preserves the ability of Fannie and Freddie to guarantee mortgages—something that has been good for mortgage consumers in the United States—while reducing, if not completely eliminating, the ability of the companies to arbitrage their favorable borrowing position. The money raised via a debt tax could, in turn, be funneled into the Section 8 rental voucher program and, as such, could directly assist those facing the greatest housing needs.
To make this concrete, consider the impact of a 20-basis-point fee on the issuance of new debt. If the companies have at any one time $1.5 trillion in debt outstanding and turn debt over every three years, such a fee would produce $1 billion in revenue each year. This would allow for a $2,000 housing subsidy for 500,000 low-income renter families. Compared to what is currently in place, this is surely a more effective and efficient policy.
[i]. Neither Fannie Mae nor Freddie Mac has issued current financial statements. According to their most recent restated financial statements, each of the companies has more than $800 billion in assets on its balance sheet. For Freddie Mac’s consolidated financial statement for 2006, see freddiemac.com/investors/ar/ [March 2007]. For Fannie Mae’s 2003 consolidated financial statement, see www.fanniemae.com/ir/annualreport/index.jhtml?s=Annual+Reports+%26+Proxy+Statements [March 2007]. [ii]. For Freddie Mac, see freddiemac.com/investors/volsum/pdf/0107mvs.pdf [March 2008]. For Fannie Mae, see www.fanniemae.com/ir/pdf/monthly/2007/013107.pdf [March 2007].[iii]. The current five-year average return on equity is 24.1 percent for Freddie Mac and 28.9 percent for Fannie Mae. For Freddie Mac, see finapps.forbes.com/finapps/jsp/finance/compinfo/Ratios.jsp?tkr=FRE [March 2007]. For Fannie Mae, see finapps.forbes.com/finapps/jsp/finance/compinfo/Ratios.jsp?tkr=FNM [March 2007].[iv]. See, for example, Frame and White (2005).[v]. For the text of Freddie Mac’s original 1970 charter, see www.freddiemac.com/governance/pdf/charter.pdf [March 2007]. For the text of Fannie Mae’s original charter, see www.fanniemae.com/global/pdf/aboutfm/understanding/charter.pdf [March 2007].
[i]. See Tullock (1965) for the classic argument.
[ii]. I have argued that, on balance, this backing has been a good thing, because it creates liquidity in the market for conventional conforming mortgages. See Green (2005).
[iii]. See Berenson (2004a).
[iv]. Moody’s Investor Services (2006).
[v]. Glaeser and Jaffee (2006) and the paper by Jaffe and Quigley in this volume.
Jim makes a connection between the GSEs and the current mortgage crisis.
http://www.econbrowser.com/cgi-bin/mt-tb.cgi/633
The problem is that we really need the GSEs to step in and help right now (I think Jim's comments suggests that he agrees with this), but we don't want to write a big fat check to Fannie and Freddie.
Perhaps the thing to do is embodied in a comment I wrote on a paper by the USC gang for a Brookings Volume:
"The United States has idiosyncratic institutions whose purpose is to provide capital to mortgage markets while not originating loans. Two of these institutions, Fannie Mae and Freddie Mac, are among the largest financial intermediaries in the world, with assets of about $800 billion each.[i] Each company guarantees well over $1 trillion of off-balance-sheet mortgages.[ii]
Beyond being large, both of these companies are highly profitable, with typical book returns on equity of 25 percent.[iii] Critics of the firms argue that, on a risk-adjusted basis, they are too profitable.[iv] Specifically, they argue that shareholders whose debts are implicitly guaranteed by the U.S. government should not earn such large returns.
The size and profitability of the companies are likely the reason that they are required to meet affordable housing goals. The original charters of the companies were silent on the issue of affordability. Rather, they emphasized stability, liquidity, and ubiquity.[v] It was not until 1992, with passage of the Federal Housing Enterprises Financial Safety and Soundness Act, that Fannie Mae and Freddie Mac faced a regulatory requirement to target mortgage funding to “low- and moderate-income” borrowers, to “underserved” census tracts, and to “very low-income” borrowers or low-income borrowers in “low-income” areas. It is not a stretch to think that Congress felt that, in light of the companies’ special status and profitability, they had a special obligation to help those at the margins of the housing market. These targets became known as the “affordable housing goals.”
The paper by An, Bostic, Deng, and Gabriel asks a very simple question: Did the regulatory requirements put in place in 1992 work...
...[An, Bostic, Deng, and Gabriel’s] results taken as a whole imply that the affordable housing goals have accomplished little in terms of directing mortgage capital to the “underserved.” One could look at the goals as a classic outcome predicted by the public choice literature, which argues that government attempts to cure distortions that it created itself with other distortions.[i] In this particular case, regulators are trying to “cure” a distortion that arises from the existence of Fannie Mae and Freddie Mac: an unnaturally high return on equity to the shareholders of these two companies. This distortion arises from the perceived backing that the two companies receive from the federal government.[ii]
The purpose of the goals is to tax the companies and send shareholder benefits to underserved borrowers and neighborhoods. Structured as they are, however, the goals may simply shift profits from Fannie and Freddie shareholders to mortgage originators. An unusually explicit example of this happened in 2003, when Freddie Mac paid Washington Mutual $6 billion to “borrow” mortgages for goal-counting purposes.[iii] This transaction did nothing to add liquidity to the mortgage market anywhere and yet was a perfectly rational reaction by both parties to the goals.
The problem with the goals is that they do not tackle the distortion created by the existence of Fannie Mae and Freddie Mac in a head-on manner. The companies earn large profits because they are allowed to borrow at low risk-adjusted interest rates. Moody’s, for example, notes that it gives Freddie Mac an Aaa rating in part because of “dependence between Freddie Mac and the U.S. government.”[iv] In fact, Moody’s states that the default risk of Freddie Mac’s portfolio is at the level of an Aa1-rated financial institution. This is an excellent credit rating and reflects well on the management of the company, but it is still lower than Aaa: the company thus borrows at a lower rate than its credit characteristics warrant.
Congress could tackle this problem directly in one of two ways. It could raise the capital requirements for both companies, or it could follow the suggestion of Glaeser and Jaffee or Jaffee and Quigley and tax Fannie Mae’s and Freddie Mac’s issuance of new debt.[v] The second solution is particularly appealing, because it preserves the ability of Fannie and Freddie to guarantee mortgages—something that has been good for mortgage consumers in the United States—while reducing, if not completely eliminating, the ability of the companies to arbitrage their favorable borrowing position. The money raised via a debt tax could, in turn, be funneled into the Section 8 rental voucher program and, as such, could directly assist those facing the greatest housing needs.
To make this concrete, consider the impact of a 20-basis-point fee on the issuance of new debt. If the companies have at any one time $1.5 trillion in debt outstanding and turn debt over every three years, such a fee would produce $1 billion in revenue each year. This would allow for a $2,000 housing subsidy for 500,000 low-income renter families. Compared to what is currently in place, this is surely a more effective and efficient policy.
[i]. Neither Fannie Mae nor Freddie Mac has issued current financial statements. According to their most recent restated financial statements, each of the companies has more than $800 billion in assets on its balance sheet. For Freddie Mac’s consolidated financial statement for 2006, see freddiemac.com/investors/ar/ [March 2007]. For Fannie Mae’s 2003 consolidated financial statement, see www.fanniemae.com/ir/annualreport/index.jhtml?s=Annual+Reports+%26+Proxy+Statements [March 2007]. [ii]. For Freddie Mac, see freddiemac.com/investors/volsum/pdf/0107mvs.pdf [March 2008]. For Fannie Mae, see www.fanniemae.com/ir/pdf/monthly/2007/013107.pdf [March 2007].[iii]. The current five-year average return on equity is 24.1 percent for Freddie Mac and 28.9 percent for Fannie Mae. For Freddie Mac, see finapps.forbes.com/finapps/jsp/finance/compinfo/Ratios.jsp?tkr=FRE [March 2007]. For Fannie Mae, see finapps.forbes.com/finapps/jsp/finance/compinfo/Ratios.jsp?tkr=FNM [March 2007].[iv]. See, for example, Frame and White (2005).[v]. For the text of Freddie Mac’s original 1970 charter, see www.freddiemac.com/governance/pdf/charter.pdf [March 2007]. For the text of Fannie Mae’s original charter, see www.fanniemae.com/global/pdf/aboutfm/understanding/charter.pdf [March 2007].
[i]. See Tullock (1965) for the classic argument.
[ii]. I have argued that, on balance, this backing has been a good thing, because it creates liquidity in the market for conventional conforming mortgages. See Green (2005).
[iii]. See Berenson (2004a).
[iv]. Moody’s Investor Services (2006).
[v]. Glaeser and Jaffee (2006) and the paper by Jaffe and Quigley in this volume.
Tuesday, August 28, 2007
Off to Jackson Hole on Thursday
I am going to this year's Kansas City Fed symposium, where I am giving a paper with Susan Wachter called the Housing Finance Revolution. I have pretty much wanted to do something like this since I was a kid (I know, I'm a strange kid).
Preliminary Syllabus for Finance 397
Finance 397
Applied Microeconomic for Business
Professor Richard K. Green
Office: 507 Funger
Keynesian.richard@gmail.com
202-994-2377
202-994-9141
301-467-3582
Office Hours: 1-3 Tuesday or by Appointment
This is a course in the application of microeconomic theory to academic business disciplines. As such, it is not a traditional graduate microeconomics course, such as Economics 301. All business disciplines—even management and marketing—contain some economic theory in their literatures. For example, papers in marketing are often applications of industrial organization theory, and papers in management often deal with principal-agency and asymmetric information issues.
The class will contain four requirements: two exams (25 percent each), an 8-10 page critical review paper (30 percent), and a 15 minute presentation, such as one would give at an academic meeting (20 percent).
Texts: (*)-ed readings are required.
1. Introduction to Economic Analysis, by R. Preston McAfee, (an open source principles text downloadable from http://www.introecon.com/). (*)
2. Game Theory for Applied Economists, by Robert Gibbons, Princeton University Press (1992, paperback). ISBN 0-691-00395-5. (*)
3. Identification Problems in the Social Sciences, by Charles F. Manski, Harvard University Press, (1995, paperback). ISBN 0-674-44284-9.(*)
4.
Week 1: Introduction to Optimization and the Robinson Crusoe Economy
http://www.econ.iastate.edu/classes/econ500/hallam/documents/Opt_Simple_Multi_000.pdf
http://www.econ.iastate.edu/classes/econ500/hallam/documents/opt_con_gen_000.pdf
http://www.econ.ucla.edu/doepke/teaching/resources/e102ch1.pdf
Week 2: Optimization and Theory of the Firm
McAfee Chapter 4 and 6
Griliches, Zvi and Jacques Mairesse (1995) Production Functions: The Search for
Identication, NBER Working Paper No.w5067.
Week 3: Industrial Organization I
http://www.econ.iastate.edu/classes/econ501/Hallam/documents/Competition_000.pdf
Borenstein, Severin, Hubs and High Fares: Dominance and Market Power in
the
Week 4: Theory of the Consumer
McAfee Chapter 5
http://www.econ.iastate.edu/classes/econ501/Hallam/documents/FunctionalForms.pdf
Laurits R. Christensen; Dale W. Jorgenson; Lawrence J. Lau, Transcendental Logarithmic Utility Functions, The American Economic Review, Vol. 65, No. 3. (Jun., 1975), pp. 367-383
Week 5 Industrial Organization II
http://www.econ.iastate.edu/classes/econ501/Hallam/documents/Oligopoply.pdf
.
Zettelmeyer, Florian, Fiona Scott Morton, and Jorge Silva-Risso (2005) Cowboys
or Cowards: Why are Internet Car Prices Lower?
The Quarterly Journal of Economics, Vol. 84, No. 3. (Aug., 1970), pp. 488-500
Week 6 Topics in Game Theory I
Gibbons Chapter 1
McAfee Chapter 7
Week 7 Exam I
Week 8 Topics in Game Theory II
Gibbons Chapter 2
Shapley, L. S. and M. Shubik (1972) The Assignment Game I: The Core, Interna-
tional Journal of Game Theory, 1: 111-130.
Week 9 Adverse Selection
Gibbons Chapters 3 and 4.
Week 10 Moral Hazard
Week 11 Identification I
Manski 1,2
James J. Heckman (2000) Causal Parameters and Policy Analysis In Economics:
A Twentieth Century Retrospective, The Quarterly Journal of Economics, 115(1),
45-97.
Week 12 Identification II
Manski 3-7
Week 13 Student Presentations of Applied Microeconomic Papers (choose from list)
Week 14 Exam II
Papers to choose from for presentation
Avery, Christopher, Mark Glickman, Caroline Hoxby and Andrew Metrick, A Revealed Preference Ranking of US Colleges and Universities, Working Paper.
Borenstein, Severin and Andrea Shepard (1996) Dynamic Pricing in Retail Gasoline
Markets, Rand Journal of Economics, 27(Autumn): 429-51.
Donohue, J.J. and Steven Levitt, The Impact of Legalized Abortion on Crime." Quarterly Journal of Economics, 2001, 116(2), pp. 379-420.
Gandal, Neil, M. Kende and Rafael Rob (2000) The Dynamics of Technological
Adoption in Hardware/Software Systems: The Case of Compact Disk Players, Rand
Journal of Economics, 31(1): 43-61.
Graddy, K. (1995) Testing for Imperfect Competition at the
Rand Journal of Economics, 26 (Spring): 75-92.
Green RK and MJ White, Measuring the Benefits of Homeowning: Effects on Children, Journal of Urban Economics,
Krugman, Paul, Scale Economies, Product Differentiation, and the Pattern of Trade
The American Economic Review, Vol. 70, No. 5. (Dec., 1980), pp. 950-959.
Mankiw, G and D Weil, The Baby Boom, the Baby Bust and the Housing Market, Regional Science and Urban Economics
Monday, August 27, 2007
If you want to be scared about subprime...
Read this:
http://bigpicture.typepad.com/comments/2007/08/cdo-insiders-we.html
The story I heard from a bond trader is that the Chinese were willing to buy paper at very low spreads just to keep the RMB from appreciating. I have no idea whether this is really true, but it makes for a good story.
http://bigpicture.typepad.com/comments/2007/08/cdo-insiders-we.html
The story I heard from a bond trader is that the Chinese were willing to buy paper at very low spreads just to keep the RMB from appreciating. I have no idea whether this is really true, but it makes for a good story.
Sunday, August 26, 2007
Subprime--I was probably wrong
I long have taken a caveat emptor view about mortgage lending. I assumed borrowers understood that loan brokers where in sales, and they would therefore try to get as much money out of borrowers as possible. Just as one should be wary with a car salesman, so too should he be wary of a mortgage saleman.
The problem is that borrowers did not understand what the sales people where selling them. Loans are complicated--even the "sticker price," the APR, doesn't really tell the story. And so borrowers, particularly those without any financial training, are at a disticnt disadvantage when dealing with lenders.
I am not sure what to do about this. I have long thought that the sub-prime market could give borrowers access to cheaper credit than they would get elsewhere; nevertheless, the market also led people to make what were clearly bad decisions. I am not sure how reasonable it was to expect borrowers to understand how bad their decisions would turn out to be.
And so we must figure out a mechanism for helping borrowers navigate the mortgage waters better. I am not sure what that is. One possibility: tie loan broker compensation not just to loan origination, but loan performance. They don't get fully paid until the loan is fully paid. This would reduce the incentive for them to make loans that will turn into defaults.
The problem is that borrowers did not understand what the sales people where selling them. Loans are complicated--even the "sticker price," the APR, doesn't really tell the story. And so borrowers, particularly those without any financial training, are at a disticnt disadvantage when dealing with lenders.
I am not sure what to do about this. I have long thought that the sub-prime market could give borrowers access to cheaper credit than they would get elsewhere; nevertheless, the market also led people to make what were clearly bad decisions. I am not sure how reasonable it was to expect borrowers to understand how bad their decisions would turn out to be.
And so we must figure out a mechanism for helping borrowers navigate the mortgage waters better. I am not sure what that is. One possibility: tie loan broker compensation not just to loan origination, but loan performance. They don't get fully paid until the loan is fully paid. This would reduce the incentive for them to make loans that will turn into defaults.
Teaching and Research Again
I just read the introduction to Richard Feynman's Six Not So Easy Pieces. In it is a wonderful exposition of how great research can lead to great teaching.
Wednesday, August 22, 2007
Dhaka's getting worse
Students are protesting continuing military rule in Bangladesh. The military took power last January, allegedly in order to prepare the country for unrigged elections. Alas, this has not happened. http://news.bbc.co.uk/2/hi/south_asia/6958206.stm
When I visited Dhaka in 2004, it was a place of unspeakable poverty, and according to Transparency International, had among the world's worst corruption. But so far as I could tell, people could move, speak and organize reasonably freely. The press was certainly vigorous and regularly criticized the government. It was hardly a paragon of human rights. To me, human rights include the right to have enough to eat and the right of all children to go to school. But among all the world's poor countries, its human rights record was not too bad.
Still, I left Dhaka thinking that life would get better there. It has actually shown itself capable of competing in the textile business in the absence of the multifibre agreement. The people there were also remarkably gracious. I thought there was a chance for corruption to be reduced, and for the middle-class to grow. I hope that I will someday be proved correct, but today I don't have a lot of hope.
When I visited Dhaka in 2004, it was a place of unspeakable poverty, and according to Transparency International, had among the world's worst corruption. But so far as I could tell, people could move, speak and organize reasonably freely. The press was certainly vigorous and regularly criticized the government. It was hardly a paragon of human rights. To me, human rights include the right to have enough to eat and the right of all children to go to school. But among all the world's poor countries, its human rights record was not too bad.
Still, I left Dhaka thinking that life would get better there. It has actually shown itself capable of competing in the textile business in the absence of the multifibre agreement. The people there were also remarkably gracious. I thought there was a chance for corruption to be reduced, and for the middle-class to grow. I hope that I will someday be proved correct, but today I don't have a lot of hope.
Monday, August 20, 2007
How does the NFL get away with charging for the Preseason?
I've spent the past three days writing, and needed to zone out, so I turned on the Colts-Bears pre-season game. It absolutely stunk, and after the first quarter most of the starters were gone.
As it happens, a student of mine, Jason Berkowitz, did some regressions of how well the preseason predicted the real season. The answer is that it doesn't--a team's winning percentage in the preseason has almost no predictive power of regular season fortunes.
So the question is--why do fans pay full ticket prices to see these fake games? It is not like spring training in baseball, when going to games in in part an excuse to get away from the cold north. I know this is not the most important issue facing the NFL today, but after watching that game, I just had to wonder....
As it happens, a student of mine, Jason Berkowitz, did some regressions of how well the preseason predicted the real season. The answer is that it doesn't--a team's winning percentage in the preseason has almost no predictive power of regular season fortunes.
So the question is--why do fans pay full ticket prices to see these fake games? It is not like spring training in baseball, when going to games in in part an excuse to get away from the cold north. I know this is not the most important issue facing the NFL today, but after watching that game, I just had to wonder....
Tuesday, August 14, 2007
Sub-prime returns.
I just did a little experiment on a 2-28 with the following assumptions:
Five year life (stiff prepayment penalties before year five), after which everyone who survives refinances.
Coupon rate starts at 6 for two years, goes to 9 for a year and then 12 for two years.
10 percent default rate over five years with 70 percent loss severity.
Mortgage is tranched into two pieces. Piece A gets the first 80 percent of the equity and a six percent coupon; Piece B gets all the rest.
The IRR on this set up fro the B-piece comes in around 9 percent. Not great, given the risk, but not bad either. It should be enough to pay any leverage taken on to buy it. So...where am I going wrong? I will be happy to share the spreadsheet with anyone who can help me out.
Five year life (stiff prepayment penalties before year five), after which everyone who survives refinances.
Coupon rate starts at 6 for two years, goes to 9 for a year and then 12 for two years.
10 percent default rate over five years with 70 percent loss severity.
Mortgage is tranched into two pieces. Piece A gets the first 80 percent of the equity and a six percent coupon; Piece B gets all the rest.
The IRR on this set up fro the B-piece comes in around 9 percent. Not great, given the risk, but not bad either. It should be enough to pay any leverage taken on to buy it. So...where am I going wrong? I will be happy to share the spreadsheet with anyone who can help me out.
Monday, August 13, 2007
The Jumbo Market and House Prices
Spreads on Jumbo mortgages rose about 50 basis points in the past week. This is likely a market over-reaction: 80 percent LTV loans to borrowers with high FICO scores remain low risk mortgages.
But the impact on prices could be serious. Consider what happens when the cost of capital increases quickly by 50 basis points, from 6.5 to 7 percent. The cost of capital has gone up 7.7 percent. But lets say that expectations are for 2 percent house value growth. Then the cap rate for houses goes from 4.5 percent to 5 percent--an 11.1 percent increase. This translates into a ten percent decline in house prices (CF/5)/(CF/4.5) =4.5/5 = .9.
But this phenomenon could change expectations about futue house price expectations. As expectations worsen, the cap rate will rise further, and house prices will fall further. The next few months might be pretty ugly for the coasts.
But the impact on prices could be serious. Consider what happens when the cost of capital increases quickly by 50 basis points, from 6.5 to 7 percent. The cost of capital has gone up 7.7 percent. But lets say that expectations are for 2 percent house value growth. Then the cap rate for houses goes from 4.5 percent to 5 percent--an 11.1 percent increase. This translates into a ten percent decline in house prices (CF/5)/(CF/4.5) =4.5/5 = .9.
But this phenomenon could change expectations about futue house price expectations. As expectations worsen, the cap rate will rise further, and house prices will fall further. The next few months might be pretty ugly for the coasts.
Wednesday, August 01, 2007
Can Las Vegas Keep Building Apartments?
Metropolitan Las Vegas has about .6 percent of the US population. Last year, about 2.9 percent of units in buildings with more than five units built in the US were built in Las Vegas. The pace has slowed considerably this year, but it suggests an interesting question: how much growth does Las Vegas have left in it?
The answer is: a lot. The basic industry is, of course, accomodation. Las Vegas has around 140,000 hotel rooms (http://cber.unlv.edu/stats.html) with an cccupany rate in excess of 90 percent. Hotels are profitable at occupancy rates of around 65 percent, meaning that Las Vegas could support something like 50,000 more hotel rooms with no increase in demand.
Let's cut that to 25,000 rooms to be conservative. There are roughly two jobs in the hotel business for every room in Las Vegas, meaning that 25,000 rooms will directly create about 50,000 jobs.
Economic base analysis (http://faculty.washington.edu/krumme/350/econbase.html) for Las Vegas predicts that every basic job produces an additional 2.5 non-basic jobs. So the Las Vegas market has room for another 175,000 jobs over the near-to-medium term (say 5 years).
The ratio of jobs to population in Las Vegas is .47; let's round and say population growth produced by hotel room growth will be 350,000. The average Household Size is a little more than 2.5 (census) and about 35 percent of households live in multifamily buildings (again, census). Put this all together, and there will be demand for about 50,000 multi-family units over the medium term--again assuming no growth in demand for hotel rooms. Vacancy rates for apartments in Las Vegas is a little less than 7 percent--this is close to a natural vacancy rate, meaning that the market is currently in equilibrium. The fact that inflation adjusted rents have risen by a bit more than inflation in the past year also indicates that the apartment market is not oversupplied. Assuming hotel developers respond to demand, there should be strong demand for apartments for some years to come.
There are issues, of course, not the least of which is water (although if people would stop watering their lawns, there would be plenty of water for awhile). But it is remarkable how much Las Vegas' strong population growth (and therefore demand for housing construction) is grounded in fundamentals.
The answer is: a lot. The basic industry is, of course, accomodation. Las Vegas has around 140,000 hotel rooms (http://cber.unlv.edu/stats.html) with an cccupany rate in excess of 90 percent. Hotels are profitable at occupancy rates of around 65 percent, meaning that Las Vegas could support something like 50,000 more hotel rooms with no increase in demand.
Let's cut that to 25,000 rooms to be conservative. There are roughly two jobs in the hotel business for every room in Las Vegas, meaning that 25,000 rooms will directly create about 50,000 jobs.
Economic base analysis (http://faculty.washington.edu/krumme/350/econbase.html) for Las Vegas predicts that every basic job produces an additional 2.5 non-basic jobs. So the Las Vegas market has room for another 175,000 jobs over the near-to-medium term (say 5 years).
The ratio of jobs to population in Las Vegas is .47; let's round and say population growth produced by hotel room growth will be 350,000. The average Household Size is a little more than 2.5 (census) and about 35 percent of households live in multifamily buildings (again, census). Put this all together, and there will be demand for about 50,000 multi-family units over the medium term--again assuming no growth in demand for hotel rooms. Vacancy rates for apartments in Las Vegas is a little less than 7 percent--this is close to a natural vacancy rate, meaning that the market is currently in equilibrium. The fact that inflation adjusted rents have risen by a bit more than inflation in the past year also indicates that the apartment market is not oversupplied. Assuming hotel developers respond to demand, there should be strong demand for apartments for some years to come.
There are issues, of course, not the least of which is water (although if people would stop watering their lawns, there would be plenty of water for awhile). But it is remarkable how much Las Vegas' strong population growth (and therefore demand for housing construction) is grounded in fundamentals.
Tuesday, July 31, 2007
Are the Average SATs for your school really that high?
Have you ever wondered how so many Universities can have such intimidatingly high SAT scores? Well, perhaps they can't. I was reading one of the many brochures colleges are sending to my kids nowadays, and I noticed that the SAT range it presented was for those who were admitted, not for those that matriculated. So I looked at another. And another. And what I found was that in their literature, almost all schools report SATs of admitted students.
Self-sorting on the part of students should mean that in general, average scores for matriculants will be lower than average scores for admits.
If you really want to know how students who enter a university performed on the SAT, look to see whether it publishes a "Common Data Set" (here is University of Nebraska-Lincoln: http://irp.unl.edu/pdfs/CDS2006-07.pdf). It reports only scores of entering degree candidates.
Self-sorting on the part of students should mean that in general, average scores for matriculants will be lower than average scores for admits.
If you really want to know how students who enter a university performed on the SAT, look to see whether it publishes a "Common Data Set" (here is University of Nebraska-Lincoln: http://irp.unl.edu/pdfs/CDS2006-07.pdf). It reports only scores of entering degree candidates.
Understanding the Mortgage Interest Deduction
Homeowners get a tax advantage relative to rents. But those with mortgage are not at an advantage relative to those who finance with equity. From an article I wrote for the Encyclopedia of Tax Policy (Cordes and Gravelle, eds.):
In the popular press, the mortgage interest deduction
is often characterized as being the principal tax
benefit accruing to homeowners. This is certainly
not correct. First, fewer than 50 percent of homeowners
itemize on their tax returns; the remainder
use the standard deduction. This is because the value
of itemized deductions for low- to moderate-income
homeowners in states with low marginal tax rates
will almost certainly be less than the value of the
standard deduction, which in 2003 was $9,500 for
married couples filing jointly. Also, according to tabulations from
the Survey of Consumer Finances, many households
with elderly heads own their homes entirely with
equity (i.e., do not have mortgages), and for these
households, the mortgage interest deduction has no
value.
Second, even for those who do itemize, the
mortgage interest deduction does not necessarily
produce the largest tax benefit arising from owning.
The imputed rent that households earn from their
owner-occupied housing (i.e., the rents that households
are not required to pay anyone else because
they own) goes untaxed. This rent is therefore
favored relative to most other types of income,
including ordinary income, taxable bond income,
dividend income, and capital gains income, which,
while favored and deferrable, is still generally taxed.
The average loan-to-value ratio in the United States
is less than 50 percent. Thus, even if all owners with
mortgages itemized on their tax returns, the value of
the nontaxation of imputed rent would be larger than
that of the mortgage interest deduction.
Effect of the benefit on choice of financing
One could argue that the effect of the mortgage interest
deduction is to put debt on a level playing
field with equity as a way to finance housing. This
contrasts with the tax treatment of corporate income,
where interest is deductible and the opportunity cost
of equity capital is not. Many analysts have shown
that the U.S. tax system encourages corporations to
take on debt. Capozza et al. (1996) have shown
how the combination of nontaxation of imputed rent
and the absence of a mortgage interest deduction
would discourage households from financing housing
with debt. In Australia, imputed rent is not taxed
and mortgage interest is not deductible, and households
there generally pay off their mortgages more
Friday, July 27, 2007
Fixed rate mortgages vs ARMS
Floyd Norris's NYT column today is good:
http://select.nytimes.com/2007/07/27/business/27norris.html
I have long held a view that hosueholds should look at themselves as financial intermediaries, and match the duration of assets and liabilities. Houses are an asset of long duration, and as such, have values that are sensitive to changes in interest rates. Thus people who plan on living in a house for a long time should match it with a liability that has long duration--a long-term fixed rate mortgage.
If people know they will be in a house for five years, a hybrid 5 year ARM is fine. But it all cases, households should make sure they can afford a house based on a long-term mortgage before they buy. If the only thing that gets them into the house is a variable rate interest only loan, they are looking for trouble (FWIW, these thoughts occured to me at the time Chairman Greenspan was recommending ARMs to people in 2004).
http://select.nytimes.com/2007/07/27/business/27norris.html
I have long held a view that hosueholds should look at themselves as financial intermediaries, and match the duration of assets and liabilities. Houses are an asset of long duration, and as such, have values that are sensitive to changes in interest rates. Thus people who plan on living in a house for a long time should match it with a liability that has long duration--a long-term fixed rate mortgage.
If people know they will be in a house for five years, a hybrid 5 year ARM is fine. But it all cases, households should make sure they can afford a house based on a long-term mortgage before they buy. If the only thing that gets them into the house is a variable rate interest only loan, they are looking for trouble (FWIW, these thoughts occured to me at the time Chairman Greenspan was recommending ARMs to people in 2004).
Thursday, July 26, 2007
Means and medians
The popular press seems to have a hard time understanding when a median (the 50th percentile) is better, and when to use a mean (the sum of everything in a population divided by the size of the population) is better. Both are measures of central tendency.
If one worries about large mistakes exponentially more than small mistakes, means are better. To give one example, if one is underwriting an 80 percent loan-to-value ratio loan, a small mistake in valuation matters little, but a big mistake matters a lot. Predicting house values based on a mean (likely a conditional mean, i.e., a mean based on knowlege about the characteristics of this house) thus makes more sense for underwriting than predicting house values based on a median. But if one just wants to know what someone in the middle of the homebuying pack would pay, the median is far better.
Median income is a much better reflection of middle class living standards than mean income. Reporters seem to have a hard time understanding this. But then so do some business school professors I know...
If one worries about large mistakes exponentially more than small mistakes, means are better. To give one example, if one is underwriting an 80 percent loan-to-value ratio loan, a small mistake in valuation matters little, but a big mistake matters a lot. Predicting house values based on a mean (likely a conditional mean, i.e., a mean based on knowlege about the characteristics of this house) thus makes more sense for underwriting than predicting house values based on a median. But if one just wants to know what someone in the middle of the homebuying pack would pay, the median is far better.
Median income is a much better reflection of middle class living standards than mean income. Reporters seem to have a hard time understanding this. But then so do some business school professors I know...
Trigger events
During past mortgage default spikes, having an "in-the-money" default option (that is, having a house that was worth less than the mortgage balance) was not always sufficient to bring about default. Usually, households that defaulted had also faced a "trigger event:" a job loss, a divorce, or a serious health issue. The high default rates in Michigan and Ohio in the late 1970s and in Texas in the mid-1980s were a function of both falling house prices and high unemployment.
The open question is whether people have become more ruthless about default. We'll know for sure after the next few years...
The open question is whether people have become more ruthless about default. We'll know for sure after the next few years...
Tuesday, July 24, 2007
Brad Delong channels Jared Bernstein who channels Timothy Egan
http://delong.typepad.com/sdj/2007/07/the-minimum-wag.html
I was eating at the bar of a restaurant in San Francisco a few weeks ago. The bartender, a Russian, had moved from New York to SF. I asked her why she moved (and figured she would say something about weather). She said it was because the minimum wage in California was higher. I wondered then and there whether this anecdote revealed anything about the larger economy. Perhaps it does.
I was eating at the bar of a restaurant in San Francisco a few weeks ago. The bartender, a Russian, had moved from New York to SF. I asked her why she moved (and figured she would say something about weather). She said it was because the minimum wage in California was higher. I wondered then and there whether this anecdote revealed anything about the larger economy. Perhaps it does.
What is it with these people?
I happened upon a poll on CNN last night. 79 percent of say they are Americans are OK with a woman president, 86 percent (I think) say they are OK with a black president. This means that somewhere between 21 and 35 percent of Americans think race or sex is a disqualification for President. Who are these people????
Monday, July 23, 2007
The Excellent Ken Small on Transportation Policy
Thursday, July 19, 2007
Research and Teaching
A smart colleague of mine, James Bailey, argues that teaching excellence and research excellence are uncorrelated. Specifically, he cites work that shows that research productivity is not a good predictor of teaching evaluations or peer review. That doesn't particularly surprise me. But I do think there is both reason behind and evidence for the idea that a research environment produces a richer intellectual environment for students.
For starters, those who do research are being kept honest on a regular basis. When one sends a paper off to be refereed or presents a paper at a conference, he is exposing himself to the possibility of getting beaten up intellectually. But if one's ideas can survive scrutiny, and have foundation in evidence (there I am, going all positivist on you), then one is probably reasonably well qualified to teach.
Second, research almost forces one to keep current. I am not saying that everyone needs to print a refereed paper every year--but one every five years is not unreasonable, and would help people stay current (BTW, my mother was an English professor at a "comprehensive" teaching university, and she still managed to crank out an article every now and then. She wasn't particularly rewarded for doing so, it was just important to her.)
Third, I don't think it is an accident that the greatest University in England was home to Newton and Keynes, among others; nor is it an accident that MIT, Stanford, Berkeley, Chicago, etc. attract the best motivated and brightest students from all over the world.
So I am curious about what the (likely small number of) people who look at this blog think. Do (did) they get a better classroom experience from faculty who produce research. Or at least from those that produce well-known research?
For starters, those who do research are being kept honest on a regular basis. When one sends a paper off to be refereed or presents a paper at a conference, he is exposing himself to the possibility of getting beaten up intellectually. But if one's ideas can survive scrutiny, and have foundation in evidence (there I am, going all positivist on you), then one is probably reasonably well qualified to teach.
Second, research almost forces one to keep current. I am not saying that everyone needs to print a refereed paper every year--but one every five years is not unreasonable, and would help people stay current (BTW, my mother was an English professor at a "comprehensive" teaching university, and she still managed to crank out an article every now and then. She wasn't particularly rewarded for doing so, it was just important to her.)
Third, I don't think it is an accident that the greatest University in England was home to Newton and Keynes, among others; nor is it an accident that MIT, Stanford, Berkeley, Chicago, etc. attract the best motivated and brightest students from all over the world.
So I am curious about what the (likely small number of) people who look at this blog think. Do (did) they get a better classroom experience from faculty who produce research. Or at least from those that produce well-known research?
Wednesday, July 18, 2007
It's the ARMS, stupid
Aleablog cites the Fed:
http://www.aleablog.com/?p=329
Prime mortgages are doing fine; fixed-rate subprime mortgages are doing fine. ARMS with rate resets are not. Many 2/28 and 3/27 ARMs, that started with low teaser rates, have prepayment penalties, meaning borrowers can't get themselves out of trouble by refinancing into a FRM. Prepayment penalities are, in principle, fine--they allow borrowers to get mortgages with lower coupon rates. But in current practice, they may be a leading source of a lot of problems in the next few years...
http://www.aleablog.com/?p=329
Prime mortgages are doing fine; fixed-rate subprime mortgages are doing fine. ARMS with rate resets are not. Many 2/28 and 3/27 ARMs, that started with low teaser rates, have prepayment penalties, meaning borrowers can't get themselves out of trouble by refinancing into a FRM. Prepayment penalities are, in principle, fine--they allow borrowers to get mortgages with lower coupon rates. But in current practice, they may be a leading source of a lot of problems in the next few years...
The Great Divide
I liked this piece in Slate:
http://www.slate.com/id/2170561/nav/tap3/
I was struck by the divide while in San Francisco last weekend (I was there teaching in the Wharton Executive MBA program). One the one hand I talked to a waitress who had moved to California because of its (relatively) high minimum wage and a bartender who was extolling the virtues of an employer who paid $15 per hour before tips. On the other hand, I was at a party where a woman was saying how her mother would find it hard to get by on a nest-egg of $3-4 million. If I were more creative, I could weave these vignettes into a novel about contemporary America.
http://www.slate.com/id/2170561/nav/tap3/
I was struck by the divide while in San Francisco last weekend (I was there teaching in the Wharton Executive MBA program). One the one hand I talked to a waitress who had moved to California because of its (relatively) high minimum wage and a bartender who was extolling the virtues of an employer who paid $15 per hour before tips. On the other hand, I was at a party where a woman was saying how her mother would find it hard to get by on a nest-egg of $3-4 million. If I were more creative, I could weave these vignettes into a novel about contemporary America.
Monday, July 16, 2007
Cap Rates and the Ten-year Treasury Rate
The current 10 years treasury rate is 5.1 percent; Cap Rates on San Francisco office buildings are running around 5.5 percent.
On the one hand, rents rise, meaning that the expected IRR on a San Francisco office building is higher than 5.5; on the other hand, buildings depreciate and need to be recapitalized, meaning that net stablized net cash flow growth will be less than market rent growth. While office rents in San Francisco rose smartly last year, they had been stagnant for serveral years before, and office buildings always have the potential for substantial vacancy. So would I buy an office building at a 40 basis point spread over Treasuries? I don't think so...
On the one hand, rents rise, meaning that the expected IRR on a San Francisco office building is higher than 5.5; on the other hand, buildings depreciate and need to be recapitalized, meaning that net stablized net cash flow growth will be less than market rent growth. While office rents in San Francisco rose smartly last year, they had been stagnant for serveral years before, and office buildings always have the potential for substantial vacancy. So would I buy an office building at a 40 basis point spread over Treasuries? I don't think so...
Friday, July 13, 2007
The Savior of Capitalisim, or its End?
Marx argued for the tendency of the rate of profit to fall:
The progressive tendency of the general rate of profit to fall is, therefore, just an expression peculiar to the capitalist mode of production of the progressive development of the social productivity of labour. This does not mean to say that the rate of profit may not fall temporarily for other reasons. But proceeding from the nature of the capitalist mode of production, it is thereby proved logical necessity that in its development the general average rate of surplus-value must express itself in a falling general rate of profit. Since the mass of the employed living labour is continually on the decline as compared to the mass of materialised labour set in motion by it, i.e., to the productively consumed means of production, it follows that the portion of living labour, unpaid and congealed in surplus-value, must also be continually on the decrease compared to the amount of value represented by the invested total capital. Since the ratio of the mass of surplus-value to the value of the invested total capital forms the rate of profit, this rate must constantly fall. - Karl Marx, Capital Volume 3, chapter 13.
At the Wynn Hotel in Macao, the rooms have a copy Wynn magazine, which gives evidence that Marx was wrong about profits. Exhibit A was an advertisement for a pair of $700 Puma sneakers.
I will confess to liking nice things. I am, for examble, the rare Ph.D. economist who likes neckties, and I own way too many of them (my only defence is that I only buy them when they are on sale, but even so). But there are things that are just grotesque in their conspicuousness. It is hard to believe such things are good for social stability.
The progressive tendency of the general rate of profit to fall is, therefore, just an expression peculiar to the capitalist mode of production of the progressive development of the social productivity of labour. This does not mean to say that the rate of profit may not fall temporarily for other reasons. But proceeding from the nature of the capitalist mode of production, it is thereby proved logical necessity that in its development the general average rate of surplus-value must express itself in a falling general rate of profit. Since the mass of the employed living labour is continually on the decline as compared to the mass of materialised labour set in motion by it, i.e., to the productively consumed means of production, it follows that the portion of living labour, unpaid and congealed in surplus-value, must also be continually on the decrease compared to the amount of value represented by the invested total capital. Since the ratio of the mass of surplus-value to the value of the invested total capital forms the rate of profit, this rate must constantly fall. - Karl Marx, Capital Volume 3, chapter 13.
At the Wynn Hotel in Macao, the rooms have a copy Wynn magazine, which gives evidence that Marx was wrong about profits. Exhibit A was an advertisement for a pair of $700 Puma sneakers.
I will confess to liking nice things. I am, for examble, the rare Ph.D. economist who likes neckties, and I own way too many of them (my only defence is that I only buy them when they are on sale, but even so). But there are things that are just grotesque in their conspicuousness. It is hard to believe such things are good for social stability.
When agglomeration makes things worse
I have just returned from the Asian Real Estate Society conference in Macao. The conference was very good, as was the food. The small, historic center of Macao, is very beautiful.
But Macao is largely about gambling--the claim is that it has higher gambling revenue than Las Vegas. There are already lots of glitzy casino-hotels. The conference venue was at one of them--the Wynn. Given the construction cost of the place and the posted room rates, it must be the case that it makes its money on the casino.
I have a (small) libertarian streak in me; that streak tells me it is none of my business is people want to blow their money on gambling. I myself go to Santa Anita every other year or so and bet as much as $18 on horse races. But there is a well established literature (http://scholar.google.com/scholar?hl=en&lr=&q=addictive+gambling) that there are gambling addicts--and it is here that there is an agglomeration problem.
Around the casinos of Macao, one finds large numbers of two kinds of retail outlets: pawn shops, and ATM machines. This makes complete business sense--if people need to feed the gambling beast, places that provide money should cluster near casinos. The problem is that it is like putting free booze into the hands of an alcoholic. Even worse is the fact that some casinos have ATM machines on the premises.
I have no illusions about the possibility of eliminating problem gambling, but it might be worthwhile to make it a little less easy to do. Limiting the number of ATM machines and banning pawn shops within a certain radius of a casino might be a start.
But Macao is largely about gambling--the claim is that it has higher gambling revenue than Las Vegas. There are already lots of glitzy casino-hotels. The conference venue was at one of them--the Wynn. Given the construction cost of the place and the posted room rates, it must be the case that it makes its money on the casino.
I have a (small) libertarian streak in me; that streak tells me it is none of my business is people want to blow their money on gambling. I myself go to Santa Anita every other year or so and bet as much as $18 on horse races. But there is a well established literature (http://scholar.google.com/scholar?hl=en&lr=&q=addictive+gambling) that there are gambling addicts--and it is here that there is an agglomeration problem.
Around the casinos of Macao, one finds large numbers of two kinds of retail outlets: pawn shops, and ATM machines. This makes complete business sense--if people need to feed the gambling beast, places that provide money should cluster near casinos. The problem is that it is like putting free booze into the hands of an alcoholic. Even worse is the fact that some casinos have ATM machines on the premises.
I have no illusions about the possibility of eliminating problem gambling, but it might be worthwhile to make it a little less easy to do. Limiting the number of ATM machines and banning pawn shops within a certain radius of a casino might be a start.
Monday, July 02, 2007
Brad Delong on Academic Blogging
The hope of all of us who blog is that we will become smarter, do more useful work, be happier and more productive, and will also impress our deans so they will raise our salaries. The first three hopes are clearly true: Academics who blog think more profound thoughts, have a bigger influence on the world — both the academic and the broader worlds — and are happier for it. Are we more productive in an academic sense? Maybe. We will see when things settle down.
Are our deans impressed? Not so far, but they should be. A lot of a university's long-run success depends on attracting good undergraduates. Undergraduates and their parents are profoundly influenced by the public face of the university. And these days, a thoughtful, intelligent, well-informed Web logger like Juan Cole or Dan Drezner is an important part of a university's public face. Michigan gains in reputation and mindshare from having a Cole on its faculty. Yale loses from not having an equivalent.
A great university has faculty members who do a great many things — teaching undergraduates, teaching graduate students, the many things that are "research," public education, public service, and the turbocharging of the public sphere of information and debate that is a principal reason that governments finance and donors give to universities. Web logs may well be becoming an important part of that last university mission.
Are our deans impressed? Not so far, but they should be. A lot of a university's long-run success depends on attracting good undergraduates. Undergraduates and their parents are profoundly influenced by the public face of the university. And these days, a thoughtful, intelligent, well-informed Web logger like Juan Cole or Dan Drezner is an important part of a university's public face. Michigan gains in reputation and mindshare from having a Cole on its faculty. Yale loses from not having an equivalent.
A great university has faculty members who do a great many things — teaching undergraduates, teaching graduate students, the many things that are "research," public education, public service, and the turbocharging of the public sphere of information and debate that is a principal reason that governments finance and donors give to universities. Web logs may well be becoming an important part of that last university mission.
Sunday, July 01, 2007
You know you're a mortgage geek when...
You are taking a walk with your wife on a beautiful Sunday morning:
You: deep sigh
Wife: what's the matter?
You: just thinking about the subprime market
Wife: geez--from that sigh I thought something was wrong with one of the girls...
You: deep sigh
Wife: what's the matter?
You: just thinking about the subprime market
Wife: geez--from that sigh I thought something was wrong with one of the girls...
A really awful SCOTUS decision
The decision overturning the Seattle and Louisville desegregation plans, plans that used race as a tiebreaker after many other considerations for school assignments, reflected a naiveté about the state of residential segregation in the United States that is appalling.
In Seattle, nearly 60 percent of black households would need to move for the community to be integrated; in Louisville, the percentage is nearly 70 percent. (see http://www.censusscope.org/us/m4520/chart_dissimilarity.html for details, which come from the fine work of Frey and Myers).
Moreover, the best evidence we have is that these patterns of segregation arise from continuing discrimination in the housing market (John Yinger, Marge Turner and Reynolds Farley do the heavy lifting on demonstrating continuing discrimination). Given that SCOTUS has ruled out the ability of school districts to remedy the fact that housing discrimination leads to school segregation, the only way to move forward is to enforce fair housing laws far more rigorously--sending rental agents and Realtors who discriminate to jail for a Paris Hilton type sentence might not be the worst way to start. Not that I expect to see this anytime soon...
At least when people of my generation and older are dead and gone, things should get better. A Pew poll on attitudes toward race shows that Gen Xers are far more enlightened than the rest of us--91 percent think inter-racial dating is OK, while only 77 percent of my generation (boomers) think so (who are those other 23 percent?) . Those older than I are are even less likely to think it is OK.
In Seattle, nearly 60 percent of black households would need to move for the community to be integrated; in Louisville, the percentage is nearly 70 percent. (see http://www.censusscope.org/us/m4520/chart_dissimilarity.html for details, which come from the fine work of Frey and Myers).
Moreover, the best evidence we have is that these patterns of segregation arise from continuing discrimination in the housing market (John Yinger, Marge Turner and Reynolds Farley do the heavy lifting on demonstrating continuing discrimination). Given that SCOTUS has ruled out the ability of school districts to remedy the fact that housing discrimination leads to school segregation, the only way to move forward is to enforce fair housing laws far more rigorously--sending rental agents and Realtors who discriminate to jail for a Paris Hilton type sentence might not be the worst way to start. Not that I expect to see this anytime soon...
At least when people of my generation and older are dead and gone, things should get better. A Pew poll on attitudes toward race shows that Gen Xers are far more enlightened than the rest of us--91 percent think inter-racial dating is OK, while only 77 percent of my generation (boomers) think so (who are those other 23 percent?) . Those older than I are are even less likely to think it is OK.
Friday, June 29, 2007
Why some classes are harder (and better) than others
One excerpt from the profile on Hoffman:
Hoffmann once asked Richardson, who has studied the 1956 Suez crisis in depth, to suggest some relevant readings because he was preparing a lecture that dealt with it. “I recommended five books,” she recalls. “And he read all five!—even though the Suez crisis was only a small piece of the lecture. Stanley takes scholarship and teaching very seriously. He reads an extraordinary amount.”
In true European style, he is also happy to ask his students to do the same, and compiled impressively long reading lists for full-year courses like “War,” which had three lectures per week, plus a section. War and Peace could be the assigned text for just one of those lectures. When asked if that was unreasonable, and if an excerpt from Tolstoy’s magnum opus might not suffice, Hoffmann asked, “Which part of War and Peace summarizes the themes?”
A Nice Profile of Stanley Hoffman
Go here:
http://www.harvardmagazine.com/2007/07/le-professeur.html
Hoffman was among my two very favorite professors in college (my Shakespeare professor, G.B. Evans, was the other) and this article does a nice job of capturing him.
Everyone in my vocation should aspire to be as good as Hoffman, and nearly everyone will fail to do so.
http://www.harvardmagazine.com/2007/07/le-professeur.html
Hoffman was among my two very favorite professors in college (my Shakespeare professor, G.B. Evans, was the other) and this article does a nice job of capturing him.
Everyone in my vocation should aspire to be as good as Hoffman, and nearly everyone will fail to do so.
Wednesday, June 27, 2007
Reading we alluded to in Business Institute today
On college and future success:
http://www.irs.princeton.edu/pubs/pdfs/409.pdf
http://www.irs.princeton.edu/pubs/pdfs/409.pdf
Tuesday, June 26, 2007
I have rarely heard such a famous economist be so modest...
From today's Washington Post:
When Edward P. Lazear, chairman of the White House Council of Economic Advisers, broached the idea of limiting the popular mortgage tax deduction, he said he quickly dropped it after Cheney told him it would never fly with Congress. "He's a big timesaver for us in that he takes off the table a lot of things he knows aren't going to go anywhere," Lazear said.
Lazear, who is otherwise known as a fierce advocate for his views, said that he may argue a point with Cheney "for 10 minutes or so" but that in the end he is always convinced. "I can't think of a time when I have thought I was right and the vice president was wrong."
hmmmm...
Wednesday, June 20, 2007
Why Rent-to-Price ratios vary
I was talking to my colleague Tony Yezer yesterday about measuring rent-to-price ratios for different zip codes for Washington. It got me thinking about why rent-to-price ratios vary so much from place to place.
First is expected growth in prices. Places that are losing population (Detroit, Cleveland) will not see prices go up, because they have excess supply of housing, and will for the foreseable future. They must therefore have igh rent-to-price ratio (or low Price-Earning ratios for housing). Places that are gaining population but have no brakes on development will also not see prices go up, because house prices will not rise above replacement cost. For example, when house prices in Dallas go up a little bit, developers rush in to supply the market until prices fall back to construction cost. The only exception are places like the Park Cities, which have excellent schools that are not easily reproducible. Because prices don't go up in Dallas, the rent-to-price ratio is high.
Conversely, San Francisco and Maui are not replacable, so while they are somewhat volatile, the underlying house price trends are upward. As Gyourko, Sinai and Mayer point out, as people in the upper reaches of the income distribution get richer, they outbid each other for these unusual places: they can be viewed as the Monets of real estate. But these places are unusual.
The other thing that can influence rent-to-price ratios is the tax code. Because mortgage interest is deductible, owning is relatively more valuable in places with high federal and state marginal tax rates (i.e., Cailfornia, New York, New Jersey, Maryland). The large place with the highest combined Federal and State Tax Rate is likely San Jose; that with the lowest is El Paso. Sure enough, rent-to-price ratios in San Jose are very low; in El Paso they are very high.
First is expected growth in prices. Places that are losing population (Detroit, Cleveland) will not see prices go up, because they have excess supply of housing, and will for the foreseable future. They must therefore have igh rent-to-price ratio (or low Price-Earning ratios for housing). Places that are gaining population but have no brakes on development will also not see prices go up, because house prices will not rise above replacement cost. For example, when house prices in Dallas go up a little bit, developers rush in to supply the market until prices fall back to construction cost. The only exception are places like the Park Cities, which have excellent schools that are not easily reproducible. Because prices don't go up in Dallas, the rent-to-price ratio is high.
Conversely, San Francisco and Maui are not replacable, so while they are somewhat volatile, the underlying house price trends are upward. As Gyourko, Sinai and Mayer point out, as people in the upper reaches of the income distribution get richer, they outbid each other for these unusual places: they can be viewed as the Monets of real estate. But these places are unusual.
The other thing that can influence rent-to-price ratios is the tax code. Because mortgage interest is deductible, owning is relatively more valuable in places with high federal and state marginal tax rates (i.e., Cailfornia, New York, New Jersey, Maryland). The large place with the highest combined Federal and State Tax Rate is likely San Jose; that with the lowest is El Paso. Sure enough, rent-to-price ratios in San Jose are very low; in El Paso they are very high.
Saturday, June 16, 2007
My Hard Drive Failed about a week ago...
On a Sony Vaio PCG-V505EX. I really like the machine, so I am currently making recovery disks (using safe mode) and hoping I can get the thing running again. If anyone has been through this, and managed to recover their system, I would love to hear about it.
Friday, June 15, 2007
Sweeney Todd - London National Theatre Cast
This is how imagine Victorian London--I think Dickens would love it.
Wednesday, June 13, 2007
Robert Waldmann on Redistribution
This is worth reading (and is relevant to our discussion today in the GW Business Institute).
http://rjwaldmann.blogspot.com/2007/06/possible-efficiency-gains-due-to-taxes.html
http://rjwaldmann.blogspot.com/2007/06/possible-efficiency-gains-due-to-taxes.html
Saturday, June 09, 2007
Francois Ortalo-Magne is on the front page of the NYT
I just saw yesterday's story, which is about a study Francois did with two Northwestern colleagues on whether houses sold through MLS command a premium over houses sold through FSBOMadison.com, a low fee-for-service Web site for do-it-your-selfers. The answer is, in the case of Madison anyway, no. I saw an early version of this paper (one that only discussed methods, rather than results), and it is extremely well done. It is also noteworthy how generous the MLS in Madison and FSBOMadison.com were in sharing data.
The story is of interest to me for its own sake, but also because I brought Francois to Madison when I was Chair of the Real Estate Department there. It was one of the smartest things I ever did.
The story is of interest to me for its own sake, but also because I brought Francois to Madison when I was Chair of the Real Estate Department there. It was one of the smartest things I ever did.
Tuesday, June 05, 2007
Commercial Mortgage Lending and the Macro economy
This is something I wrote some years ago, and have revised a bit. It light of recent events in the commercial lending market, I thought it worth resuscitating.
Mera and Renaud (2000) demonstrate that the phrase “Asian Financial Crisis” was misleading. Green’s (2001) review of the book noted[1]:
[Asian Financial Crisis] suggests homogeneity: that “Asia” is one place, and that the financial crises faced by various countries there in the late 1990s were fundamentally similar. The fact that so many countries that were geographically close faced crises that were temporally close makes it easy to conclude that the crises had common roots.
Nevertheless, real estate did have a role in many of the countries that experienced a crisis, and the size of that role likely explains differences in the relative magnitudes of the crisis. In Japan, crises resulted in part from changing demographics and central bank regulatory and monetary policy, but also because of poor commercial real estate underwriting.
In Taiwan, land prices rose and then stabilized, and never crashed as they did in other Asian Economies. In Hong Kong, land prices fell, but because of the lending system there, which required property investors to use substantial equity funding, real estate had little effect on the overall health of the economy. The Chinese office market became badly overbuilt—especially in Shanghai—but the economy there continues to chug along, at least for now. But in Indonesia and Thailand, poor understanding of real estate fundamentals, along with collapsing currencies, caused real estate markets to fail. In contrast, Korea’s crisis arose largely from an unsustainable system of corporate lending. Real estate likely played a fairly small role in Korea’s crisis, and the country recovered almost immediately. It is worth spending a little time talking about the large real estate crises in Japan, Thailand and Indonesia, as well as the ability of Korea to avoid such a crisis.
Edelstein and Paul (2000) explain the sources of the extraordinary run-up in land prices in Japan in the 1980s, and the government’s response to that crisis. They maintain that the run-up in land prices from 1984 to 1991 was not the product of a speculative bubble, but rather of fundamentals of the Japanese economy. As Mera (2000) points out, Japan managed to survive many challenges to its economy quite well, including the second oil shock and the Plaza accords of 1986, which caused the yen to appreciate substantially and thus rendered Japanese exports less competitive. At the same time that Japanese incomes were rising sharply, interest rates in the country remained quite low. If we think about the Gordon Growth Model, i.e. R = i-g, where R is the capitalization rate, i is the discount rate and g is the growth rate, we would expect rents to be capitalized into high property values.
Moreover, as Edelstein and Paul point out, land in Japan is much scarcer than it is in other places: Japan’s population is a little under half of the United States’, yet its land area is only 4 percent that of the United States, and its habitable land in an even smaller percentage than that. Japan’s population density is thus 25 times larger than the United States’, and its GDP per square mile is 15 times large. Again, this is entirely consistent with Japanese land price levels being substantially higher than in the United States.
The property bust arose, according to both Mera and Edelstein and Paul, because of changing and with government policy.
With respect to fundamentals, we know that the Japanese economy slowed sharply in the 1990s. Part of the reason for this had to do with real estate related problems in the banking system, but part of the reason for this had to do with broader issues facing the Japanese economy. As to the former, Edelstein and Paul note that banks in Japan were allowed to count corporate stock holdings as reserves. This, of course, is the exact opposite of how banking is supposed to operate: reserves are supposed to be assets in which the financial institution has a risk-less position, such as cash and high quality government securities. Instead, Japanese banks counted very risky assets--equity--as reserves. Much of the underlying value of that equity was in the form of real estate, some of which was highly leveraged. Consequently, even a small downward turn in real estate markets had a profound effect on the banking system, which in turn had large repercussions for the financial system as a whole.
Making things worse was the fact that Japanese banks failed to recognize their real estate losses on their balance sheets: non-performing assets effectively drove equity levels in Japanese banks to levels below zero, and consequently created perverse incentives for Japanese bank managers.
At the same time, as the Japanese economy slowed, changes in expectations led to an increase in the underlying capitalization rate for real estate and other assets, and has therefore causes the values of all those assets to decline sharply. The existence of leverage has exacerbated this phenomenon further.
The most spectacular failures in the banking system with respect to real estate: Thailand and Indonesia, and especially Indonesia. Chapters by Bertrand Renaud (on Thailand) and Dominique Fischer (on Indonesia) give us harrowing stories of how poor underwriting, abetted in part by the “unholy alliance” between lenders and developers, can lead to a full fledged financial crisis.
The US has no cause to be smug about this, of course, as it invented the process with the Savings and Loan crisis of the 1980s. Both the Renauld and Fischer stories can be told simply enough: lenders assume rent and property value growth at some extremely high rates, which in turn produces very low capitalization rates. This in turn causes appraisers to assign high values to properties. These high values provide the support lenders need to advance loans, which typically have higher loan-to-value ratios. The high-loan-to-value ratios are justified by the fact that property values “always” rise, and that therefore the equity in the loan will quickly get sufficiently large to discourage default. At the same time, the financial institutions had reason to believe that governments (or NGOs) would prevent them from failing, meaning that the downside risk to the risky loans was attenuated. This led to a classic moral hazard problem, where risk was not appropriately priced.
The problem with this, of course, is that sometimes values and rents stop rising, particularly when building outpaces demand. All that needs to happen is for the real estate sector to grow more rapidly than the economy; at that point, everything can come unglued. And so it did: interruptions in rising rent trajectories caused real estate loans to become delinquent. But then things got even worse. The embryonic financial crisis in Thailand and Indonesia caused foreign, and especially Japanese, capital to flee. This led to currency devaluations. Because real estate loans were often denominated in foreign, rather than home currencies, the debt obligations of borrowers got much larger, which in turn led to more defaults. It was thus the combination of poor underwriting and a lack of understanding of currency risk that contributed to the downfalls of the two economies. In Indonesia, GDP fell by a stunning 15 percent in just one year.
Blogging Brooklyn
This is really nice:
http://builtenvironmentblog.blogspot.com/
The only problem is that while he (quite rightly) mentions Peter Lugar's, he doesn't mention Totonno's Pizza in Coney Island. The Pizza is so good it's worth the trip.
http://builtenvironmentblog.blogspot.com/
The only problem is that while he (quite rightly) mentions Peter Lugar's, he doesn't mention Totonno's Pizza in Coney Island. The Pizza is so good it's worth the trip.
Monday, June 04, 2007
Susan Wachter has a mortgage payment index
It is at http://smartermi.genworth.com/mortgage-index.html. It tries to show borrowers how much trouble they can get into if they use Adjustable Rate or Payment-Option mortgages. Simple but useful.
A Nice Paper for GW Business Institute
By Carol Graham, who has done some of the best work on this stuff.
http://www.nd.edu/~adutt/activities/documents/GrahamInequalityAndHappiness2.pdf
Note that as we discussed in class today, Marriage makes people happy, and unemployment makes people REALLY unhappy. All else being equal, people in Venezuela, Honduras and Costa Rica seem to be the happiest in Latin America, while Peruvian, Ecuadorans, and Bolivians are least happy.
You might want to check out the GINI coefficients for these countries (and also try to find what a GINI coefficient is).
http://www.nd.edu/~adutt/activities/documents/GrahamInequalityAndHappiness2.pdf
Note that as we discussed in class today, Marriage makes people happy, and unemployment makes people REALLY unhappy. All else being equal, people in Venezuela, Honduras and Costa Rica seem to be the happiest in Latin America, while Peruvian, Ecuadorans, and Bolivians are least happy.
You might want to check out the GINI coefficients for these countries (and also try to find what a GINI coefficient is).
One reason to become a parent
I took my daughter Hannah to hear the Philadelphia Orchestra at the Kennedy Center yesterday. We agreed the playing was awesome. But while I found Eschenbach's Brahms 1st fussy, she really liked it a lot, and argued it was consistent with the romantic tradition. I disagree, but it was fun to have the conversation.
Monday, May 28, 2007
George Akerlof's Presidential Address
This is well worth reading:
http://www.aeaweb.org/annual_mtg_papers/2007/0106_1640_0101.pdf
Apparently, a fair number of economists didn't like this, because it states that empirical findings undermine a number of neoclassical totems, such as the Permanent Income Hypothesis. But if we want to be a reality-base profession...
http://www.aeaweb.org/annual_mtg_papers/2007/0106_1640_0101.pdf
Apparently, a fair number of economists didn't like this, because it states that empirical findings undermine a number of neoclassical totems, such as the Permanent Income Hypothesis. But if we want to be a reality-base profession...
C Students
I think C students can be divided into roughly three types.
The first type sees the universe through a different prism than most of us, and often has wonderful insights that do not translate well to the stylized task of exam writing. I am grateful for these C students.
The second type must deliver pizza and clean bathrooms to pay for tuition, and so has compromised time and energy with which to do school work. I am grateful for these C students as well.
The third type is lazy, arrogant and uncaring. I was thinking about this third type while sitting on the lawn at Wolftrap for Prairie Home Companion the other day. Garrison Kieler was reading hellos to service members in Iraq and Afghanistan from their family members in the audience, and I found myself misting up a bit as I listened. The habits of the third type of C student has placed more than 150,000 young men and women in far more danger than they need to be, and those same habits are keeping them in danger longer than necessary.
The first type sees the universe through a different prism than most of us, and often has wonderful insights that do not translate well to the stylized task of exam writing. I am grateful for these C students.
The second type must deliver pizza and clean bathrooms to pay for tuition, and so has compromised time and energy with which to do school work. I am grateful for these C students as well.
The third type is lazy, arrogant and uncaring. I was thinking about this third type while sitting on the lawn at Wolftrap for Prairie Home Companion the other day. Garrison Kieler was reading hellos to service members in Iraq and Afghanistan from their family members in the audience, and I found myself misting up a bit as I listened. The habits of the third type of C student has placed more than 150,000 young men and women in far more danger than they need to be, and those same habits are keeping them in danger longer than necessary.
Friday, May 25, 2007
When is the bottom of the housing market coming?
I don't know--and neither does anyone else. Here are three things to consider, however:
(1) A good harbinger of the housing market is the months supply measure. When the months supply rises beyond six months, it is hard to make a case for house prices going up anytime soon, unless builders stop building altogether. The reason: it takes about six months to build a house in most markets (i.e., to get from the beginning of the permitting process to the finished product). Thus prices have to fall until the inventory is absorbed.
The good news is that homebuilding has slowed down a lot, and that the months supply measure for new homes fell well below six months in April. The bad news is that the months supply of Existing Home Sales continues to rise, and is currently at 8.4 months. The other bad news (in a sense) is that the Existing Sales number is much less prone to revision than the New Sales number, and reflects actual closed sales, instead of sales contracts. Until the Existing Home Sales months supply number turns around, it is hard to see when the bottom will come.
(2) While the national number is important from a macroeconomic and mortgage securitization standpoint, it is not helpful to buyers in local markets. Some markets have supplies of less than six months, and buyers in these markets, particularly those who are planning to live in one place for awhile, just shouldn't worry about short-term price fluctuations. But other markets have huge supply gluts; in these markets, potential first time homebuyers are better off renting for awhile.
(3) Housing markets have substantial intrametropolitan variation. The detached housing market can be considerably different from the Condo market; housing near transportation lines can retain its value better than housing in far-flung suburbs. Moreover, there are some opportunities in weakness. I was looking at the San Diego MLS listings recently. Houses that would have been out of range for a finance professor a few years ago (i.e., houses with ocean views) are now within range. The principal reason to buy a house is the consumption benefit of the house--when an opportunity arises to obtain a great place to live, it is worth considering. Just don't be naive about it--make sure you plan on living in one place for a long time (in which case resale value doesn't matter so much), that you can afford the place with a fixed rate mortgage, and that you don't mind knowing that its price might go down for awhile before starting back up again.
(1) A good harbinger of the housing market is the months supply measure. When the months supply rises beyond six months, it is hard to make a case for house prices going up anytime soon, unless builders stop building altogether. The reason: it takes about six months to build a house in most markets (i.e., to get from the beginning of the permitting process to the finished product). Thus prices have to fall until the inventory is absorbed.
The good news is that homebuilding has slowed down a lot, and that the months supply measure for new homes fell well below six months in April. The bad news is that the months supply of Existing Home Sales continues to rise, and is currently at 8.4 months. The other bad news (in a sense) is that the Existing Sales number is much less prone to revision than the New Sales number, and reflects actual closed sales, instead of sales contracts. Until the Existing Home Sales months supply number turns around, it is hard to see when the bottom will come.
(2) While the national number is important from a macroeconomic and mortgage securitization standpoint, it is not helpful to buyers in local markets. Some markets have supplies of less than six months, and buyers in these markets, particularly those who are planning to live in one place for awhile, just shouldn't worry about short-term price fluctuations. But other markets have huge supply gluts; in these markets, potential first time homebuyers are better off renting for awhile.
(3) Housing markets have substantial intrametropolitan variation. The detached housing market can be considerably different from the Condo market; housing near transportation lines can retain its value better than housing in far-flung suburbs. Moreover, there are some opportunities in weakness. I was looking at the San Diego MLS listings recently. Houses that would have been out of range for a finance professor a few years ago (i.e., houses with ocean views) are now within range. The principal reason to buy a house is the consumption benefit of the house--when an opportunity arises to obtain a great place to live, it is worth considering. Just don't be naive about it--make sure you plan on living in one place for a long time (in which case resale value doesn't matter so much), that you can afford the place with a fixed rate mortgage, and that you don't mind knowing that its price might go down for awhile before starting back up again.
Monday, May 21, 2007
It's been too long
The past two months have passed too quickly. One week I spent teaching finance in Busan. Korea is a remarkable place. When first I visited in 1992, it was clearly a place on the rise, but also one that retained a large number of very poor people, many of whom lived in very poor housing conditions. I have been back three times since then. The extreme poverty seems pretty much gone now, as its per capita GDP has risen from about 1/4 US and Japanese levels in 1990 to 1/2 US and 2/3 Japanese levels today. At the end of the Korean War, per capita GDP was roughly a dollar a day.
Korea is an exilerating place, because it has come so far so quickly, and as such, is an example for poor countries all over the world. It is hard to know the "secret," though, other than the fact that education has been an important part of the culture for a long time, and Korean parents probably care even more than Montgomery County parents about how well their kids do in school.
The infrastructure in Busan is quite remarkable, with a wonderful metro system, good roads, and one of the most beautiful suspension bridges I have ever seen. (The image below is from Slate). The city is the second largest in Korea, and trying to become the financial services center of the country. But it is still off the beaten path--as a Westerner I felt quite conspicuous.
Saturday, March 17, 2007
Casino Royale
Tonight, for the first time, I made myself the drink James Bond creates in Casino Royale:
"Just a moment. Three measures of Gordon’s, one of vodka, half a measure of Kina Lillet. Shake it very well until it’s ice-cold, then add a large slice of lemon-peel. Got it?’”
It is actually very good.
"Just a moment. Three measures of Gordon’s, one of vodka, half a measure of Kina Lillet. Shake it very well until it’s ice-cold, then add a large slice of lemon-peel. Got it?’”
It is actually very good.
Mortgages and Houses
A few years ago, Alan Greenspan suggested that many households would have been better off financing their houses with adjustable rate mortgages. This is because for many years payments on adjustable rate mortgages were lower than on fixed rate mortgages--so after the fact, Greenspan was correct.
The problem with advising people to use adjustable rate mortgages, however, is that ARMs give households liabilities that have short duration--that is, liabilities whose market value remains close to face value at all times. This is because the rates on ARMs by definition change to meet market rates on a regular basis. Houses, on the other hand, are assets with lots of duration. The services they give to homeowners (shelter and a set of amenities) is pretty much invariant to market conditions. Consequently, house values change with market conditions, such as changing interest rates.
Good financial management practice suggests that to minimize risk, the duration of of assets and liabilities for any institution, including households, should be matched. In the case of houses, this means that households looking to minimize risk should use a fixed rate mortgage to finance their house. There are exceptions--if one buys a house and expects to sell it in five years, a five year ARM makes lots of sense, because the duration of the asset (housing services over five years) and the liability would match.
This is not to say there is anything wrong per se with people getting ARMS, so long as they explicitly understand the risk embedded in them. But a principle I have been pushing for years is that if people can't afford a house with a fixed-rate mortgage, they probably shouldn't buy a house. It is one thing to have the option of the FRM, and then decide to take the risk of the ARM anyway. One of the nice things about the United States is that FRMs are easy to come by--this is not true in most countries around the world. It is something else to be forced into taking a risk in order to buy. Under these circumstances, buying probably isn't worth it.
That said, there is probably too much ink being spilled on the downside of home-owning. The Times this morning had a piece that would make one wonder why anyone should own a house. But it is important to remember that renting is risky too--leases are usually only a year long, which means renters are subject to increases in rent or may even be forced to move every year.
Notice that I have not even mentioned the subprime market in this post. That will be for another day (probably tomorrow).
The problem with advising people to use adjustable rate mortgages, however, is that ARMs give households liabilities that have short duration--that is, liabilities whose market value remains close to face value at all times. This is because the rates on ARMs by definition change to meet market rates on a regular basis. Houses, on the other hand, are assets with lots of duration. The services they give to homeowners (shelter and a set of amenities) is pretty much invariant to market conditions. Consequently, house values change with market conditions, such as changing interest rates.
Good financial management practice suggests that to minimize risk, the duration of of assets and liabilities for any institution, including households, should be matched. In the case of houses, this means that households looking to minimize risk should use a fixed rate mortgage to finance their house. There are exceptions--if one buys a house and expects to sell it in five years, a five year ARM makes lots of sense, because the duration of the asset (housing services over five years) and the liability would match.
This is not to say there is anything wrong per se with people getting ARMS, so long as they explicitly understand the risk embedded in them. But a principle I have been pushing for years is that if people can't afford a house with a fixed-rate mortgage, they probably shouldn't buy a house. It is one thing to have the option of the FRM, and then decide to take the risk of the ARM anyway. One of the nice things about the United States is that FRMs are easy to come by--this is not true in most countries around the world. It is something else to be forced into taking a risk in order to buy. Under these circumstances, buying probably isn't worth it.
That said, there is probably too much ink being spilled on the downside of home-owning. The Times this morning had a piece that would make one wonder why anyone should own a house. But it is important to remember that renting is risky too--leases are usually only a year long, which means renters are subject to increases in rent or may even be forced to move every year.
Notice that I have not even mentioned the subprime market in this post. That will be for another day (probably tomorrow).
Friday, March 16, 2007
A few words about urbanization and growth
From a paper I am writing for the World Bank:
Every affluent country in the world is urbanized. Among OECD countries, 77 percent of people live in urban areas, and among World Bank-designated high-income countries, 78 percent of people live in urban areas. The poorest two countries in the OECD,
That urbanization accompanies affluence does not, however, mean that urbanization causes affluence. First, it is worth noting that
One of the most interesting questions in development economics, then, is whether urbanization causes affluence, or whether affluence causes urbanization. Knowing the direction of causation is important, because it will dictate whether policy should encourage urbanization or be neutral with respect to urbanization. Discussion below will outline arguments for both directions.
Principles set forth by Richard Freeman, however, suggests that the evidence is already sufficient to know that policy should not discourage urbanization. Freeman’s three rules of econometrics are: (1) it had better be there in the ordinary-least-squares regression; (2) it had better still be there in the econometrically-sophisticated high-tech instrument procedures; (3) it had better still be there for small technical tweaks to the econometrically-sophisticated procedures. That urbanization has a deleterious effect on affluence is not there in scatter-plots and correlations, and, as we shall see below, is not there in the OLS regressions in the literature.
The fact that there is no evidence that urbanization inhibits development is in itself important. On my visit to
[1]
[2]
Sunday, March 04, 2007
Taking the log out of our own eye
I admire Brad Delong very much: he is a wonderful blogger and scholar. He also is very tough on the Washington Post. I, on the other hand, consider the Post a treasure, and am grateful to have it on my doorstep every morning. To be sure, the paper has stories that I am not crazy about; it also regularly has stories that are breathtakingly good (such as the recent series by Dana Priest and Anne Hull on Walter Reed).
So let us stipulate that that even the best newspapers have reporters who are not particularly good at their jobs. Unfortunately, universities, even the best of them, have professors who are not particularly good at their jobs. Here at George Washington, we have many wonderful, inspiring teachers. We also have people who should be embarrassed to step into a classroom--people who are unprepared, are indifferent, or worse, haven't kept themselves up to date on their supposed area of expertise. Moreover, unlike reporters, who must meet short deadlines, professors have time to reflect on what they are going to say and do in their classrooms.
Some might argue that comparing George Washington with the Post is not really appropriate: the Post is supposed to be one of the greatest newspapers in the country, while GW is rarely listed as one of the greatest universities. OK. When I was an undergraduate at Harvard, I encountered some really horrible teaching (and of course, truly extraordinary teaching, from Gwynn Evans, James Q. Wilson, Stanley Hoffman, Benjamin Friedman, and my Ec. 10 TA. Jeff Wolcowitz, among others). That was between 1976-1980, so perhaps all the bad teachers are gone now, but based on what Derek Bok and Harry Lewis have been writing lately, I doubt it. I am guessing that even Berkeley has bad teachers.
This is not a plea for reducing the emphasis that universities place on research: many unproductive researchers are bad teachers, and the greatest teachers are often the greatest researchers. Gwynn Evans, my Shakespeare professor, was likely the greatest Shakespeare scholar of his time. During my time teaching at Wisconsin, I discerned a strong positive correlation between research productivity and teacher quality. And no wonder: active researchers know their subjects well, and that rubs off on their ability to explain and enlighten.
Nevertheless, we need to do a better job of quality control for teaching. How exactly we do this without compromising academic freedom is not entirely clear to me. Culture probably matters a lot. When I was a visiting Professor at Wharton, it was striking to me that even those who didn't particularly like teaching considered it important to avoid embarrassing themselves; people generally had too much pride to do anything less than well. More generally, I see too much complacency is our business; many professors are content in the knowledge that American universities are the best in the world, and so don't feel any urgency to change. One of my colleagues here at GW gets upset with me for being too self-flagilating.
I actually feel a great deal of pride in being a professor at a reasonably well-known university--I think that it is among the most rewarding things one can do in life. I think in generally our universities are wonderful. But before we go around removing other institutions' specks, we have some of our own timber to clear.
So let us stipulate that that even the best newspapers have reporters who are not particularly good at their jobs. Unfortunately, universities, even the best of them, have professors who are not particularly good at their jobs. Here at George Washington, we have many wonderful, inspiring teachers. We also have people who should be embarrassed to step into a classroom--people who are unprepared, are indifferent, or worse, haven't kept themselves up to date on their supposed area of expertise. Moreover, unlike reporters, who must meet short deadlines, professors have time to reflect on what they are going to say and do in their classrooms.
Some might argue that comparing George Washington with the Post is not really appropriate: the Post is supposed to be one of the greatest newspapers in the country, while GW is rarely listed as one of the greatest universities. OK. When I was an undergraduate at Harvard, I encountered some really horrible teaching (and of course, truly extraordinary teaching, from Gwynn Evans, James Q. Wilson, Stanley Hoffman, Benjamin Friedman, and my Ec. 10 TA. Jeff Wolcowitz, among others). That was between 1976-1980, so perhaps all the bad teachers are gone now, but based on what Derek Bok and Harry Lewis have been writing lately, I doubt it. I am guessing that even Berkeley has bad teachers.
This is not a plea for reducing the emphasis that universities place on research: many unproductive researchers are bad teachers, and the greatest teachers are often the greatest researchers. Gwynn Evans, my Shakespeare professor, was likely the greatest Shakespeare scholar of his time. During my time teaching at Wisconsin, I discerned a strong positive correlation between research productivity and teacher quality. And no wonder: active researchers know their subjects well, and that rubs off on their ability to explain and enlighten.
Nevertheless, we need to do a better job of quality control for teaching. How exactly we do this without compromising academic freedom is not entirely clear to me. Culture probably matters a lot. When I was a visiting Professor at Wharton, it was striking to me that even those who didn't particularly like teaching considered it important to avoid embarrassing themselves; people generally had too much pride to do anything less than well. More generally, I see too much complacency is our business; many professors are content in the knowledge that American universities are the best in the world, and so don't feel any urgency to change. One of my colleagues here at GW gets upset with me for being too self-flagilating.
I actually feel a great deal of pride in being a professor at a reasonably well-known university--I think that it is among the most rewarding things one can do in life. I think in generally our universities are wonderful. But before we go around removing other institutions' specks, we have some of our own timber to clear.
Sunday, February 11, 2007
Best think I have found yet on Youtube
http://www.youtube.com/watch?v=AjnFGk4GTd0
My favorite living pianist playing the most beautiful nine minutes of the 20th Century.
My favorite living pianist playing the most beautiful nine minutes of the 20th Century.
Friday, February 09, 2007
Sub-prime mortgage really are more risky
The Wall Street Journal in the past few days has featured stories about the troubled subprime mortgage industry. There was a particularly telling graph today:
One thing about the graph that leaps out is that under all market conditions, subprime mortgages really are not just riskier and more costly, but substantially riskier and more costly than prime and Alt-A mortgages. While late payments do not necessarily lead to default (most of the time they do not), mortgages with late payment require more servicing, or individual attention, from lenders, and are therefore more expensive.
With the housing market slowing, it is also now more likely that late-payment mortgages will eventually go into default; this is the reason HSBC has had to set aside $10.5 billion reserves for potential sub-prime mortgage losses. To place this in context, HSBC earnings are about $15 billion per year.
Advocates worry that subprime borrowers pay too much for mortgages. While there are doubtless borrowers in the subprime pool who qualify for prime mortgages, and who should be encouraged to use the prime market, as a group, subprime borrowers are riskier. The data from the past few days suggest that it is possible that the mistake some lenders made was not charging too much, but rather not charging enough.
The data also suggest that for many borrowers, the absence of a subprime market would produce an absence of opporuntity for any mortgage.
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