What is a renter?

Richard Florida, among others, has suggested that the United States overindulges in homeownership, and that rental housing gives flexibility to people such that they become more creative. I have no quarrel with the idea that homeownership has been oversold. A paper I wrote with Shelley White that showed that owning could be good for children has gotten cited a lot; a paper I wrote with Dean Gatzlaff and David Ling (that I thought was just as good as the paper with Shelley) that suggests owners maintain their homes no better than landlords has barely gotten cited at all.

But a lot of the story about why renting is great involves New York City. There can be no doubt that New York is an innovative and creative place, and that it has a lot of renters by national standards. But about 2/3rds of rental units in New York City are rent controlled or rent stabilized. If one occupies a rent controlled or stabilized apartment, he gets a lot of the benefits of owner-occupancy: reduced housing cost risks, and security of tenure. Renters in New York share far more of the bundle of rights than renters in most parts of the country; they are almost like owners expect for the possibility of capital appreciation. San Francisco, San Jose and Los Angeles, three other cities one might count as innovative, also have some form of rent control (what's more, property tax law in California encourages owners to move less than they otherwise would).

The point is that the owner-renter dichotomy is really a false one, as there are shades of tenure in between. These shades might matter a lot.

Silliness

I keep running across pieces saying that urban farming can "save" Detroit. Agriculture makes up 1.3 percent of GDP for the United States, and there is a reason why it doesn't take place in cities--it is a low intensity land use. If Detroit really reverts to farming, it will only show that its economy really is gone forever.

One reason why Steven Slater might have lost it

I was listening to the inimitable Larry Mantle on KPCC this morning. The topic was spectacular job-quitting moments, and was, of course, inspired by Steve Slater's colorful departure from a jetBlue flight.

Because I fly a fair amount, I chat with flight attendants from time-to-time, and I have a few flight attendant friends who I met through other friends. They have been getting hammered: their wages, which were low before, are even lower, and many of the benefits they were counting on, such as pensions, have been severely reduced. At the same time, airplanes are getting more full, which means that the probability of encountering a rude passenger has gone up. It is no wonder people in the business feel more stress.

But it is not just flight attendants: it is workers in general. No matter how one looks at it, workers' share of the economic pie has been shrinking. The graph below is the ratio of total compensation to national income (data is from the BEA):

 

Note that the ratio peaked in 1980, and has been on a downward trend since.  Even more pronounced is the downward trend in the wage to national income ratio:

For those jobs (such as flight attendant) where benefits have gotten worse over time, the wage-to-national income data may be more relevant. Note that in 2006 this ratio fell to its lowest level in the post-World War II era.

Two stories in this morning's papers and the future of house prices

Firserve says that house prices will not regain their previous peaks in the sand state until 2025, and it will be even longer in places like Stockton.

This could well be right, except that I infer that Fiserv is looking at nominal house prices, whose dynamics are driven in part by the underlying general price level. As the New York Times notes this morning, Jan Hatzius predicts falling general price levels; Richard Berner says they will rise--if Hatzius is correct, it will of course take longer for house prices to return to the past peak; if Berner is right, it will take less time.

Pithiness from Chicago

Diane Swonk is good at summarizing:

Moreover, government interventions (most notably regulation and austerity programs) are more likely to suppress growth than promote financial stability, which means we have learned very little from the crisis itself. The G-20 has been particularly bad at fostering coordination across country borders now that the crisis has passed. Financial reforms, in particular, are being implemented on a piecemeal basis, which could encourage--rather than discourage--the kind of regulatory arbitrage that got us into this mess in the first place.

The last point is important. While we still don't know the most important source of the crisis, regulatory arbitrage between shadow banks and regulated banks was almost surely a major contributor.

David Oser's take on Fannie and Freddie

The opening paragraph and closing paragraphs of his stimulating piece:

Some mistakes are so egregious and yet so uncorrectable that no one is willing to admit them. On Sunday September 7, 2008, US Treasury Secretary, Henry M. Paulson, made just such a mistake. He ordered Fannie Mae and Freddie Mac placed into “conservatorship,” an ambiguous category of quasi-receivership that still defies precise definition. To see why Paulson’ decision was so unwise, we’ll start by deconstructing a financial instrument that most people assume they understand perfectly well: the 30-year home mortgage....

....Here’s the bottom line. Before September 7, 2008, we had a mortgage system that, while rickety and obscured by smoke and mirrors, worked. It worked not because of an effective business model but because everybody—investors, lenders, and borrowers—realized it was in their best interest for it to work. Then Henry Paulson said, “Look, the emperor has no clothes,” as if that were news instead of common knowledge. Paulson chose conservatorship for Fannie and Freddie because it meant the Treasury only owned 79.9% of the two companies. One tenth more and their assets and liabilities would have gone into the federal balance sheet. That would have meant the federal government was explicitly guaranteeing all $5 trillion of Fannie and Freddie’s securitized mortgages and other debt. And that would have meant that the federal government was guaranteeing both sides of the consumer’s balance sheet: her bank accounts through FDIC insurance and now her mortgage.

If we were really Big Boys, we’d say, “Sorry. We messed up. We’re going to try to put it back the way it was.” But we aren’t that big and, as someone said to me recently, “Fannie and Freddie have become the third rail of American politics.” Instead, we’re going to let Fannie and Freddie totter along. In the words of Wall Street Journal editorialist Brian M. Carney, Fannie and Freddie are “money-losing zombie financial companies in the bosom of the federal government.” Maybe that criticism would be fair if Carney had a solution, but he doesn’t and neither does any one else. I don’t know that there is a solution. Fannie Mae, the older of the two companies, was created during the Depression when the typical mortgage had a five-year term with all the principal due at the end. Maybe that’s what we’ll go back to, so that only those who don’t really need a mortgage can get one.

I need to think about this a little. One thing, though, is that the Home Owners Loan Corporation and then Fannie Mae were the entities (along with FHA) that gave us the long-term, fixed rate mortgage. The HOLC mortgages generally had 15 years terms.

Add Metros to the Chinese List

From Planetizan:

With 420km of network, Shanghai's metro overtook the London Underground, which has a total of 402km. But the rate of expansion is more impressive: the first line was constructed in only 1995 and it is still expanding.

By 2020 Shanghai, "intends to have added over 350km in new lines and extensions, almost doubling its network length."

However, "there is no suburban commuter rail system in Shanghai that compares with those in cities like London, Paris and Tokyo, where the railway network is essentially operated as a secondary rapid transit system with longer station intervals than the subway, generally with an interchangeable fare system."

Chinese cities have 8-10 times the density of our densest cities, and so metros make lots of economic sense there.

Chinese Highways

China now has about 65,000 kilometers of freeway criss-crossing the country. In 1989, the number of kilometers was zero. To get a sense of the magnitude of this achievement, the Interstate Highway system is about 75,000 kilometers long and took about 40 years to complete.

This does not mean the US should go on a freeway building spree (the marginal productivity of length almost surely decreases in length); it is just one measure of explaining how China has developed so rapidly.

There they go again

I enjoy David Brooks. From everything I can tell, he is smart and has a good heart. I would guess he is a terrific dinner companion. So I was disappointed when I read in his column this morning:

What we have is not just a cycle but a condition. We could look back on the period between 1980 and 2006 as the long boom ...

Sorry, David, but 1980 to 2006 was not a long boom. Consult the National Income and Product Accounts tables, and you will find that real GDP over that time grew about 3.1 percent per year. In the "awful" Nixon-Ford-Carter 1970s, growth was 3.2 percent per year; in the 60s 4.2 percent; in the 50s 3.5 percent, and in the 40s 5.6 percent.

It is not that 1980-2006 was bad, just hardly a boom relative to the previous 40 years.

Steve Malpezzi is not happy

He blogs:

When I first heard of HAUP, I was excited, but my excitement quickly turned to disappointment. Among other problems, it requires that unemployed homeowners go through a fairly bureaucratic procedure to apply for what is (more or less) three months forbearance. And that' s merely the application; forbearance may or may not be granted for the 3 months. Remember, at the present time, the AVERAGE duration of unemployment is 9 months and rising.

(The fine print says you can extend beyond 3 months, but it's not clear that will happen, and will certainly not be clear to potential applicants).

The website's FAQs does not even tell people if the differences between the original payments and the reduced payments, are forgiven, or wrapped into the loan. (When I inquired of the experts in Washington, it turns out part of the loan is forborne, adding to the loan amount, but it’s amazing that they ask people to apply without clearly explaining such a key element of the program!)

What if your unemployment lasts more than three months (which is true for most unemployed today?) After two months you are given an application for HAMP, the dog that won't hunt. As far as I can tell, most unemployed will still not qualify for HAMP after they fill out this application.

There are other details that limit the program’s scope, and hence its effectiveness at halting the skid in housing prices. Homeowners can't get relief on the second liens. And if I read it right, HAUP does nothing for the unemployed not receiving unemployment insurance.

My bottom line: Treasury is still spitting on the fire and leaving the hoses coiled up.

David Leonhardt writes that Kindergarten matters

From the encouraging article:

On Tuesday, Mr. Chetty presented the findings — not yet peer-reviewed — at an academic conference in Cambridge, Mass. They’re fairly explosive.

Just as in other studies, the Tennessee experiment found that some teachers were able to help students learn vastly more than other teachers. And just as in other studies, the effect largely disappeared by junior high, based on test scores. Yet when Mr. Chetty and his colleagues took another look at the students in adulthood, they discovered that the legacy of kindergarten had re-emerged.

Students who had learned much more in kindergarten were more likely to go to college than students with otherwise similar backgrounds. Students who learned more were also less likely to become single parents. As adults, they were more likely to be saving for retirement. Perhaps most striking, they were earning more.

All else equal, they were making about an extra $100 a year at age 27 for every percentile they had moved up the test-score distribution over the course of kindergarten. A student who went from average to the 60th percentile — a typical jump for a 5-year-old with a good teacher — could expect to make about $1,000 more a year at age 27 than a student who remained at the average. Over time, the effect seems to grow, too.

The economists don’t pretend to know the exact causes. But it’s not hard to come up with plausible guesses. Good early education can impart skills that last a lifetime — patience, discipline, manners, perseverance. The tests that 5-year-olds take may pick up these skills, even if later multiple-choice tests do not.

Two really important points here: (1) early education does seem to matter; (2) the multiple choice tests we give older students may be deeply flawed. This is particularly problematic if these later tests are the foundation for evaluating our educational system.

The Hidden Leverage of Mortgage Securitization

Ed Glaeser has a nice piece about the debate over whether securitization should get the blame for the subprime mess. But it doesn't address one of the problems created by securitization: hidden leverage.

When banks (commercial and investment) sold off mortgage backed securities, they got them off their balance sheets, and so there was a pretense that they were no longer liabilities. But in order to sell the MBS, the lenders had to offer repurchase agreements, which said that if there was something materially wrong with the loan underwriting, the investor could return the mortgage backed security to the lender at par. Lenders also often kept residual positions of mortgage backed securities, meaning that to reassure investors, the lenders (i.e., the sellers of the securities) would take first loss positions.

Both repurchase agreements and residuals effectively increased the leverage taken on by lenders. Let me illustrate: suppose a lender has an whole asset and capital of ten percent, and the asset loses one percent of its value. The lender takes a ten percent hit against capital, because it is levered at 10 to one. But now suppose it takes a first loss position of ten percent on residuals, and the mortgage underlying the residuals lose one percent of value. The residual loses ten percent of its value, which means it wipes out the capital that is implicitly backing it. The combination of ten percent capital and a ten percent first loss position implies actual leverage of [updated: 100 to 1].

Ironically, the fact that financial institutions ate some of their own cooking--something that should have mitigated moral hazard--made them more vulnerable.

Raphael Bostic on housing tenure policy

From Newsweek:

Another senior HUD official was more direct in an interview with the Washington Post recently: "In previous eras, we haven't seen people question whether homeownership was the right decision. It was just assumed that's where you want to go. You're not going to hear us say that."

That official was Raphael Bostic, a leading scholar on home finance [rg note: and USC professor] and key policy adviser. An NPR report on Thursday morning said senior officials have acknowledged that their HAMP plan was largely a failure, and were leaning toward policy goals that promoted renting rather than buying. As a result, the report said, Fannie and Freddie might be entirely liquidated.

No people with memory loss in my back yard

In the midst of doing research on how NIMBYs fight facility for housing the elderly, I came across this story from last March in the Minneapolis Star Tribune:

When a released sex offender plans to move in next door, or a drug-treatment center is scoping sites for a new halfway house, a neighborhood's red flags invariably follow.

Now, the list of objectionable neighbors is growing.

In the face of overwhelming opposition from residents in an upscale community called Stonemill Farms in eastern Woodbury, plans for a 45-unit assisted-living facility for people with Alzheimer's disease and other forms of dementia have been put on hold.

The Alzheimer's facility is the latest in a growing list of projects across the metro that are meeting resistance from neighbors who perceive a threat to their communities or fear their property values will erode.

A decision on whether to recommend the Woodbury project for approval was to go before the city's Planning Commission on April 5, but the developer on Wednesday asked for more time to address issues, including concerns raised by neighbors, said Eric Searles, associate planner for Woodbury.

The move follows nearly a month of intensive protests and petitions by neighbors who mainly object to locating the facility in a failed retail site near a day care center and across the street from an elementary school. Many have also expressed a sense of betrayal that the original plans for the community never envisioned an assisted-living facility.

The facility would go into a dead retail center: turning vacant space into useful space usually improves neighborhoods. The idea that Alzheimer's patients pose a risk to children is beyond preposterous. I understand having land use controls so that property owners don't have to deal with genuine nuisances, such as oil refineries. But what kind of people seek to deny the infirm a decent place to live? One hopes that once these neighbors are stricken with Alzheimer's, they retain enough of their long term memory to remember how badly they behaved.

As I read the Washington Post "Top Secret America" series...

...I can't help but wonder how much deadweight loss this is all creating. The theatrics one encounters in airports also seems like it creates frictions that must have an impact on the economy--the ability to travel freely matters to economic productivity, and we travel less freely than we did ten years ago.

Fans of Ronald Reagan maintain that he got the Soviets to destroy themselves by making them spend so much on their defense (I think containment might have also had something to do with it). While as a fraction of GDP, our defense, security and intelligence spending is much smaller than the Soviet defense apparatus, the "invisible" impact of this stuff on the economy must be material. I some days wonder if we are doing exactly what Osama bin Laden wants us to do.

How Economics is better than Nassim Taleb says it is

The Black Swan is a great book, and deserves the hype it has received. It also features lots of nasty comments about economics, most of which the profession deserves.

But economics training (or at least my Wisconsin economics training) teaches empirical skepticism (something Taleb advocates) all the time. We worry about mis-measurement of variables, omitted variables, selection, reverse causality, and distributions all the time. We think hard about things we don't observe--in my context, when I think about measuring house prices, I worry about the fact that we only observe houses that actually sell. We do non-parametric statistics, and we reject the assumption of normality on a regular basis.

As a result of all this, economics has actually helped us understand certain things better, at least within the realm of applied microeconomics. One a lighter note, let me state an untestable hypothesis--of all the "silent" music that has been written, none has been better than J.S. Bach's.

Yves Smith on the Default of the Rich

She writes about this morning's story in the New York Times:

Another message here is that high income borrowers aren’t taking the Freddie/Fannie/bank bluster about strategic defaults seriously. Recall that the latest threat was that they would pursue deficiency judgments, as in sue borrowers who defaulted where the proceeds from the sale of the home, net of expenses, did not cover the mortgage debt. Now in some states that is not permitted (purchase money mortgages in many states are non-recourse, but refis never are). But independent of that, it is expensive to pursue defaulting borrowers, and if the borrower really is broke (say he had medical emergency, a business failure, or a costly divorce) litigation is just a costly wild goose chase. The most obvious group to pursue, nevertheless, would be defaulted owners of big ticket homes in affluent areas. They clearly regard the odds of legal action as low.

She slips in an important sentence--that refinanced mortgages lose their non-recourse status. Refinancings swamped purchase money mortgages in 2004 and were a substantial share of the market in 2005-2006. It would be interesting to see an estimate of the share of mortgage debt outstanding in "non-recourse" states that actually now come with recourse--I would imagine it is well over 50 percent. One might think that "sophisticated" investors are more likely to refinance than the general public (I did a paper with Lacour-Little some time ago that suggested that this was true), and so that "strategic" default could be particularly costly for this group. Certainly, if I were a lender and observed a borrower with a $1 million plus loan with recourse, I would go after the borrower for a deficiency judgment.

There is a broader point here as well. I have been reading arguments that America got itself into trouble because it is too borrower friendly, and that countries that avoided trouble, such as Canada and Germany, did so because of recourse. But the fact is that for all intents and purposes, the US is a recourse country too.

Two more thoughts about The Big Short

(1) One of Hayek's most compelling arguments for the virtues of markets over government is that markets (via prices) reflect the constantly shifting preferences of millions of agents, and as such are both efficient and democratic. But the market for Collateralized Debt Obligations and Credit Default Swaps did not reflect the preferences of millions--they reflected the views of a very small number of people, some of whom had enormous market power (for awhile, anyway). A takeaway from the book is how large institutions could rig prices of over-the-counter investments for long enough periods to do substantial damage.

(2) While I loved the book, and will indeed use it in class, it may suffer a bit from ex-post thinking. The heroes of the book, Michael Burry, Steve Eisman, Greg Lippman, bet early and often against subprime mortgages, and made lots of money as a result. Ex post, their bets seem obvious, and perhaps ex ante, they should have seemed obvious. My strong suspicion is that Burry--who went to the bother of actually reading and analyzing offering circulars--really did know that he had a positive NPV bet ex ante. And loan originators surely knew they were underwriting junk, because documentation was so week. But perhaps not even Burry knew how big his pay-off would actually be.

Steve Malpezzi's Reading for Life

It is on the Wisconsin Real Estate blog:

13. Ahamed, Liaquat. Lords of Finance: The Bankers Who Broke the World. Penguin Press, 2009.

12. Akerlof, George A. and Robert J. Shiller. Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism. Princeton Unversity Press, 2009.

11. Bartik, Timothy J. Who Benefits from State and Local Economic Development Policies? Kalamazoo: W.E. Upjohn Institute for Employment Research, 1991.

10. Cronon, William. Nature's Metropolis: Chicago and the Great West. W.W. Norton, 1991.

9. Gomez-Ibanez, Jose A., William B. Tye and Clifford Winston (eds.). Essays in Transportation Economics and Policy: A Handbook in Honor of John R. Meyer. Brookings, 1999.

8. Green, Richard and Stephen Malpezzi, A Primer on U.S. Housing Markets and Policy. The Urban Institute Press for the American Real Estate and Urban Economics Association, 2003.

7. Hulme, Mike. Why We Disagree About Climate Change: Understanding Controversy, Inaction and Opportunity. Cambridge University Press, 2009.

6. Lewis, Michael. The Big Short: Inside the Doomsday Machine. W.W. Norton, 2010.

5. Reinhardt, Carmen M. and Kenneth S. Rogoff. This Time Is Different: A Panoramic View of Eight Centuries of Financial Crises. Princeton University Press, 2009.

4. Slemrod, Joel and Jon Bakija. Taxing Ourselves: A Citizen's Guide to the Debate over Taxes. MIT Press, 2008.

3. Tufte, Edward R. The Visual Display of Quantitative Information. Chesire, Connecticut: Graphics Press, 1983.

2. Wessel, David. In Fed We Trust: Ben Bernanke's War on the Great Panic. Crown Business, 2009.

1. http://wisconsinviewpoint.blogspot.com/

Ken Rogoff thinks the BP spill might produce a groundswell for a carbon tax...

...but Mark Thoma is not so sure [Rogoff's take is here].

I am actually more inclined to agree with Rogoff on this one. When environmental problems are easily visible, they seem to generate political consensus for action. The air quality in Los Angeles, which was obviously awful 30 years ago, is much better currently--the vast majority of days are quite clear now(although we still have the problem of invisible small particulates). The 1952 smog disaster led to major policy changes in the UK. The BP disaster could similarly mobilize policy.

Mark could still be right about this--I just hope he is not.

I am putting Michael Lewis' The Big Short on my FBE 589 reading list for this fall

So many great lines. Perhaps my favorite (from pp 151-152):

The only interested parties missing from the conference were the ultimate borrowers, the American home buyers, but even they, in a way, were on hand, serving drinks, spinning wheels, and rolling dice. "Vegas was booming," said Danny. "The homeowners were at the f**king tables."

A couple of thoughts. First, I would bet (forgive the word) that gambling habits would be a good underwriting variable for predicting mortgage default. If lenders could know whether someone gambled more than one percent of their annual income in casinos, at the race track, or on lottery tickets, it might say something about propensity to repay a mortgage [full disclosure, I bet $18 once or twice a year at Santa Anita].

Second, I do remember being mystified at what happened to house prices on my street in Bethesda, Maryland. When my wife and I moved there in 2002, we thought it was awfully expensive, but decided that the schools and proximity to metro made it worth while. We swallowed hard and got a mortgage where our mortgage payments + property taxes were about 20 percent of our gross income. My wife was an attending physician at a large medical center, and I was a finance professor at George Washington.

By 2005 or so, the price of houses on our street had increased by about 2/3 (because all houses were 30s vintage colonials, every sale we observed was a good comp). The mysterious part was the buyers were young one-earner households. I wondered how on earth they were "affording" their houses. Now we know.

I don't blame Goldman Sachs for taking 100 cents on the dollar of its Credit Default Swaps from AIG....

....I blame the government for offering it. I understand that there was a need to keep Goldman stable, but jeez.

Justice

On Wed, I am having the screening procedure that Katie Couric so vividly demonstrated some years ago. Basically the story is that if you have this procedure at age 50, any colon cancer that might be detected will be at a sufficiently early stage for it to be quite curable. So because I have good health insurance, I can be sure I will not die of colon cancer.

Those without insurance are not so fortunate. Such patients can only get the screening if they pay out of pocket ($2000-$3000) or, if they are patients at places like the LA County hospital, if they are symptomatic, which means the cancer might not be caught early. For the median family, $2000 is a lot of money; for those who occupy the netherworld of having too much money to get medicaid but not enough to afford health insurance, it is even more so.

I hope the new health care system rectifies this. Under the old system, this difference in service delivery was unjust.

[Updates: First, I misspelled "colon," which shows that I should never write things while being reflective at midnight. Second, it is worth saying something about cost benefit analysis and screening--according to this source, the cost per life year is about $45,000, which seems like a good deal to me].

One more take on Kartik Athreya's critique of economics bloggers

Athreya is arguing that the blogosphere's various critiques of modern macro are being made by insufficiently expert bloggers using insufficiently rigorous arguments. As is often the case, the best rejoinder comes from Mark Thomaand I suppose I don't have much to add myself. (I would link to the essay, but it seems to be broken right now)

But George Akerlof did [have a lot to add], way back in 2006, during his American Economic Association Presidential Address. which was entitled "The Missing Motivation in Macroeconomics." I remember finding the piece enthralling (I know, we economists aren't supposed to use such emotion laden words), because it made the very simple but devastating case that when the foundations of modern macro (the independence of consumption and current income (given wealth); the independence of investment and finance decisions (the Modigliani-Miller theorem); inflation stability only at the natural rate of unemployment; the ineffectiveness of macro stabilization policy with rational expectations; and Ricardian equivalence) are tested against data, they generally fail the test. I remember at the time that some economists thought that Akerlof had taken leave of his senses (and some friends of mine thought I had taken leave of mine because I so admired the address).

But in the end, we should be respecting evidence more than clever theoretical edifices. And yes, Kartik, while I am not an expert in macro, I did have to slog through lots of OLG models and rational expectation models and real business cycle stuff in graduate school, and pass prelim questions on them, so I have at least some idea of what it is that I find intellectually unsatisfying. Akerlof's view, expressed before we had the financial meltdown, that we really need to start over with modern macro, has, I think, largely been vindicated.

Hard to believe

I was on the radio the other day, discussing the future of Fannie and Freddie, when another guest said that all we had to do was fully privatize the mortgage market for all to be well. I know that I can't expect everyone to be aware of the 1920s, but the period 2002-2006 was a period in which the "pure" private sector took away substantial market share from Freddie-Fannie, and look how well that turned out.

Of course in the end there is no such thing as a pure private market, because when large financial institutions get in trouble, the government comes to the rescue, either through an injection of funds or through extremely low interest rates. We are all GSEs.

Jack Guttentag found that mortgage rates in the 1940s were in the low fours.

Here is the link. [update: of course these were typically 20 year loans, so the comparison is not perfect].

Lisa Schweitzer on time-service quality trade-offs for transit and autos

She writes:

.

..People tend to like to separate travel time and service quality based on the arguments, like Litman uses, that the time in transit or walking is more pleasurable and productive than being in a car. But they are only right for people whose preferences align with theirs. For other segments of the mobility market, they are wrong. Moreover, it’s wrong to assume that these are the only things being traded: yeah, you hate to drive and you’d be happier not driving, but the extra half an hour that transit takes you means a half an hour you’re not with your kids, cooking, drinking wine with your spouse at home, watching the game, or any number of things you can’t do on transit, either. So yeah, I’d prefer to get the exercise walking than driving, but I prefer to spend the time cooking so that my kids aren’t sitting around hungry after school more than I prefer the exercise.

As she wrote this yesterday, I couldn't help thinking about it yesterday during my transit trip home. I take transit in LA every now and then, in part because that it the sort of guilty liberal I am. But yesterday, when all the stars were aligned (I arrived at bus from USC to Union Station at exactly the time in left; I only had to wait a minute or two for the Gold Line connection from Union Station to Pasadena), it took me just less than one hour to get from my office door to my front door. When I drive to work in the morning (at a strategic time), it takes me 20 minutes. When I return home in the afternoon (using surface streets until Hill or Figueroa meets the Pasadena Freeway), it rarely takes more than 35, and never more than 45. So my worst days in the car free up about an hour relative to transit. In case you are wondering, it is 11 miles from home to campus.

But don't I find driving unpleasant? Not really, I can plug my i-pod into my car stereo, or listen to NPR or the BBC, or a CD...In the morning, when traffic is clear, I get pleasure from driving my car at freeway speeds. I do miss the walk that I get when I use transit.

To some extent, the problem is that the street system in Los Angeles, with lots of redundancy, works too well. In Washington DC, Metro was a viable alternative to driving--it would often get me to work faster than taking my car. The street lay-out in Washington, set as it was in the late 18th century, was not designed to keep auto traffic moving. Metro is also very good--when people in DC complain how how awful it is, I want to laugh.

At the same time, I don't think a transportation system whose principal mode is people driving alone is sustainable. We need to think about some system in between driving alone and fixed route transit. It seems eminently doable to me, but it will take some imagination to make it work.

One more point about fixed-rate mortgages

They seem to be safer. From the Mortgage Bankers Association of America:

On a seasonally adjusted basis, the delinquency rate stood at 6.17 percent for prime fixed loans, 13.52 percent for prime ARM loans, 25.69 percent for subprime fixed loans, 29.09 percent for subprime ARM loans, 13.15 percent for FHA loans, and 7.96 percent for VA loans. On a non-seasonally adjusted basis, the delinquency rate fell for all loan types.

The foreclosure starts rate increased for all loan types with the exception of subprime loans. The foreclosure starts rate increased six basis points for prime fixed loans to 0.69 percent, 17 basis points for prime ARM loans to 2.29 percent, 18 basis points for FHA loans to 1.46 percent, and eight basis points for VA loans to 0.89 percent. For subprime fixed loans, the rate decreased nine basis points to 2.64 percent and for subprime ARM loans the rate decreased 39 basis points to 4.32 percent.

Some of this may just be that people who take less risk select themselves into fixed-rate loans, but even so....

Bob Hagerty blogs about Patrick Lawyer on Fixed Rate Mortgages:

He writes, in part:

Allotted only about 10 minutes to share his vision, Mr. Lawler....first made the obligatory statement that he was expressing his own views and not those of his federal agency. Yeah, right, I thought, and reached for my triple espresso.

But then Mr. Lawler launched a frontal assault on the most sacred element in U.S. housing-policy dogma: the 30-year fixed-rate mortgage loan, providing the right to refinance at any time, with no prepayment penalty. If more members of the audience had been fully awake at this moment, I feel sure that their gasps would have been audible.

Now, Americans are very attached to their 30-year fixed-rate freely prepayable mortgages. They like not having to fuss about the possibility of 28% interest rates in 2032, even though most of us will move or die long before then. They love to refinance every time rates drop and then brag to their neighbors about how much they are saving per month.

What they don’t stop to realize often enough is that they are paying a very large price for that privilege– twice.

The context is important.  One of the reasons the 30 year fixed rate mortgage is ubiquitous is the United States may be the existence of Fannie and Freddie.  If we do away with FF, we may also do away with the 30-year fixed rate mortgage.  So let me defend the 30-year fixed a bit with something I wrote about 3 years ago:

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. 

Everything involves real estate: music edition

I went to hear the Concertgebouw Orchestra in the Concertgebouw last Friday night.  There is no experience like it--the hall is remarkably intimate, and the sound washes over listeners without being blurry.  Bass notes in particular both rumble and have great pitch definition.  Not even Symphony Hall in Boston, Orchestra Hall in Minneapolis, or Disney Hall here in LA (all of which are terrific venues) compare.  One of the reasons the orchestra has a consistent and unique sound (beyond, of course, the magnificent players) is its building--real estate creates sound character.

Yet buildings need to be renovated from time to time, otherwise they just wear out.  Yet any change to the Concertgebouw--the upholstery, the wood on the stage, maybe even the paint--has the potential to change those special acoustics.  What does one do to preserve such a place?

p.s., a young woman name Susanna Malkki took over from an ill Jansons.  She was really, really good.  Perhaps I saw an early performance from a future superstar?

Detroit has not had the largest peak-to-trough decline in percentage terms among American large cities

Although it is getting close.  Detroit has lost about 58 percent of its 1950 population; St. Louis has lost about 59 percent.  And Detroit's population is much bigger than it was in 1900; St. Louis has lost about 30 percent of its population since 1900 (just prior to the 1904 World's Fair, when 20 million people visited St. Louis).

Detroit Shrinking

The New York Times has a good story about it this morning.  It reminds me of the Talking Heads song Nothing but Flowers:

Where, where is the town

Now, it's nothing but flowers

The highways and cars

Were sacrificed for agriculture

I thought that we'd start over

But I guess I was wrong

Once there were parking lots

Now it's a peaceful oasis

you got it, you got it

This was a Pizza Hut

Now it's all covered with daisies

you got it, you got it

I miss the honky tonks,

Dairy Queens, and 7-Elevens

you got it, you got it

And as things fell apart

Nobody paid much attention

you got it, you got it

I dream of cherry pies,

Candy bars, and chocolate chip cookies

you got it, you got it

We used to microwave

Now we just eat nuts and berries

you got it, you got it

This was a discount store,

Now it's turned into a cornfield

you got it, you got it

Don't leave me stranded here

I can't get used to this lifestyle

Does The Greatest Trade Ever produce evidence of prospect theory?

There is a statement in Gregory Zuckerman's terrific book that really struck me: he notes that people hate negative carry, and far prefer positive carry (I don't had the book in front of me right now, so I need to paraphrase).  In Paulson's context, he was able to buy credit insurance very cheaply--this limited his downside risk in a way shorting would not, while allowing him to invest consistent his bearish views on the housing market. But it also meant he was paying out cash flow and not gettting anything in return until subprime mortgages and other instruments began failing.

To some extent, there is a discounting issue here: if investors take losses on the negative for several periods, the gains they receive in the future will be discounted.  But still, it is an interesting question whether investors discount negative carry trades too much--whether the typical Wall Street investor sold Paulson insurance that was, under reasonably discounting, an ex ante positive NPV bet for Paulson.  I am not sure how one would go about testing this, though....

A line in Clark Hoyt's final column bothers me

He writes:

There is also no question that The Times, though a national newspaper, shares the prevailing sensibilities of the city and region where it is published. It does not take creationism or intelligent design as serious alternatives to the theory of evolution.

This is not sharing "prevailing sensibilities."   This is simply reporting overwhelming scientific evidence.  It is no more about sharing sensibilities than not taking flat-earthers seriously is about sharing sensibilities.

 

How to punish universities without punishing students

I understand that when universities violate rules (NCAA or otherwise), they need to be punished, so that rules have credibility.  But it seems unfair to punish current students for past misdeeds.  In the current context, a fair sanction would be to allow current students to play in bowl games, but forbid the university from taking any money for them.  Just a thought.

Downtowns

A reporter yesterday asked me to name some keys to successful downtown redevelopment. Two places I have lived provide some clues (Sorry for being a homer).

When I moved to Madison in 1984, the downtown there wasn't much--despite the fact that it has lots of worker density from state government and the University of Wisconsin. But the city--and in particular its chief planner, George Austin--had the sense to see that Euclidean zoning was not compatible with downtown redevelopment. Downtown zoning was essential replaced with Planned Urban Developments. Ironically, I remember some environmentalists--people who want transit oriented development--opposed some of the plans on the grounds they would bring too much density to downtown. Oh well.

In any event, the transformation of downtown Madison has been astonishing. It now has very attractive condos, and a restaurant scene that is remarkably strong (I was going to add the caveat "for a city of Madison's size," but the caveat is actually unnecessary). The area is now lively, with people strolling even in cold that is now, well, beyond my personal limit of tolerance (I have gotten soft since leaving). The city also built a beautiful Frank Lloyd Wright inspired convention center that provides an anchor to the south end of downtown. Unlike many such places, it was designed to be a gathering place for the community, and it has worked magnificently.

When I first saw Pasadena in the early 1980s, it was actually a pretty unattractive place, with dilapidated commercial areas and an under-maintained housing stock. The air quality was terrible--I remember my nostrils stinging the whole time I was there--and I wondered why anyone would live there.

Two important changes have since happened. First, the air quality, while still not good enough, is much, much better. I can see the San Gabriel Mountains pretty much every day now; in the 1980s, it was hard to know that the place even had mountains. My colleague Chris Redfearn maintains that once air quality improved, people began reinvesting in the very beautiful pre-World War II houses that make up a good chunk of Pasadena (more evidence that environmental regulations that target real externalities are economically beneficial).

Second, the city set up a business improvement district in Old Town that operates much like a mall operating agreement. This allowed anchors such as Crate and Barrel to internalize some of the external benefits that they create by being a draw. An advantage regional shopping malls have had over traditional downtowns is that mall operators can create lease structures such that anchors can recover benefits from the traffic they generate for other stores. This is why anchors pay lower rents than in-line stores. In general, local government subsidies to businesses are not wise, but subsidies for anchor department stores may be an exception. Ideally, governments will set up districts in which merchants whose traffic is driven by anchors will subsidize the anchors, but to get downtowns started, governments themselves might need to give the subsidy.

BP Spills Coffee

I get as frustrated as anyone when government performs poorly. But could we please stop the narrative that the private sector always does better?

How New Urbanist Jeff Speck would fit into the Bush Adminstration

My colleague Lisa Schweitzer points me to Jeff Speck's screed against those who would question some of the tenants of the New Urbanist movement.  This line stands out in particular:

To this group [libertarians], which is quite skilled at mustering facts in support of its utterly counterintuitive claims, the only rebuttal is to revert to common sense and a single question: How, by any possible stretch of the imagination, could it be considered efficient, healthy, or even acceptable to have spent the better part of a society’s wealth constructing a national landscape in which most citizens require a one-ton, poison-belching prosthetic device to satisfy their daily needs? (Slap forehead and continue … )

Yes, Jeff, let us ignore facts and respond to them with common sense.  The most recent administration didn't like facts much, and clearly neither do you.  If you don't like the evidence, just ignore it.  Because we all know that like George W Bush, Duany knows all, and can't be bother with facts--such as the fact that people all over the world really, really like their cars.

Why do high income people feel so put upon?

A mystery to me is why households earning $250,000 per year seem to resent being called rich.  This income is roughly five times the median US household income.

So it occurred to me that perhaps the marker basket upon which high earners spend has risen in price more rapidly than the CPI.  So for fun (and only for fun--this is not a systematic price index), I looked at four items: income taxes, the price of a BMW 3-series, houses in Los Angeles, Santa Barbara and New York, and Harvard tuition, all going back to 1988.

It is hard to do an apples-to-apples comparison on taxes, but based on the NBER Taxsim Model, wage income for high earners is taxed at about the same level, and capital income is taxed less relative to 1988.

CPI has not quite doubled since then.  While the BMW 3-series is not the same car as it was in 1988 (it is almost certainly better), its price has not quite doubled.  House prices in the California are about 2.7 times higher than in 1988; in New York they are 2.2 times higher (these are MSAs--Malibu and Manhattan are probably different stories).  Harvard tuition is three times higher.

People really notice how much they are paying for their houses and how much it costs to put their kids through school.  So while I continue to think it is silly for people who earn five times the national median to feel anything other than extremely well off, it is possible that those right at the 250k level perceive their living standards to be no better than they were 20 years ago.

D-Day...Landing On Omaha Beach: Should have posted yesterday

: Should 

When does a regulatory taking become a physical taking?

Slate has a piece today on Jay Bybee's 9th circuit opinion that rent control is per se unconstitutional.  The reporters argue that the opinion is silly--that the courts have long upheld the right of municipalities to regulate land use (Euclid v Ambler being the iconic case that enshrined the rights of communities to zone).  But the Supremes have also maintained that when a regulation deprives owners of property of all economic value, it consitutes a taking under the 5th amendment and thus is either impermissible or must be accompanied by compensation to the property owner (Lucas vs South Carolina Coastal Commission).

It is pretty clear that rent control (something that I dislike based on both equity and efficiency grounds) is consistent with the ability of communities to regulate property for a public purpose.  On the other hand, if rent control were set at zero, then it us pretty clear that it would amount to a regulatory taking.  The question is the level at which rent control would require a taking.  For instance, if cities told landlords that they had to cut their rents by 50 percent, I think one could make a pretty good case that the takings rule would apply.  But this is a legal issue and not an economic one--I am not sure whether one could draw a bright line at which a regulation consistutes a taking.

Why most economic forecasts are useless

Worthwhile Canadian Initiative writes:

Suppose instead that the model has a consistent one period lag, so Y(t)=R(X(t-1)). And suppose that Statistics Canada reports all data on X immediately. Now we can use the model for genuine forecasting of the future. Statistics Canada tells us what X is today, and we use the model to tell us what Y will be one period in the future. But the model can tell us nothing about what Y will be two periods in the future, because Statistics Canada can't tell us what X will be one period in the future. And yet I keep hearing about model-based forecasts for one, two, three, four, etc., periods in the future.

Steve Malpezzi, Walter Barnes and I wrote a paper some years ago that tried to come to grips with this very issue.  The context was office market forecasts, and we worked on developing confidence intervals for estimates of future office demand for a number of metropolitan areas.   In developing the confidence interval, we used a technique from a 1971 Martin Feldstein Econometrica paper that takes into account the fact that to forecast Ys, one needs to forecast Xs as well.

To make a long story short, after a couple of quarters, the confidence intervals blow up (I don't have the paper at home, but when I go in to the office this week I will scan some pictures from it), meaning that after a few quarters, metropolitan office demand could be just about anything.  Local office markets are much less complicated than an entire national economy.

Scariest thing I have learned over the past 48 hours.

Sometime within the next five years, half of LA's city budget will go to pensions.

Ugly University Buildings I have Known

I have spent a fair amount of time at six universities as a student or faculty member.  Five have astonishingly ugly buildings.

We begin with Mather Hall (below left) at Harvard: the Robert Taylor Homes of college dorms.  On the right is USC's Hoffman Hall, which was actually designed by a great architect, IM Pei.  It shows we all have bad days.

Next we have the Academic Center at George Washington (below left).   The photo makes it look nicer than it is.  Huntsman Hall at Penn is the new Wharton Building.  It is a little, er, out of scale for the surrounding neighborhood, but if Philadelphia ever returns to an agriculture based economy, it will have a really nice silo.  

Finally we have the Humanities Building at Wisconsin.  My understanding is that this ironically named building will soon be torn down.  That will certainly produce addition from subtraction.




The Indian School of Business was designed by John Portman, and is simply beautiful.

Housing Inventories

The bad news for the US housing market: despite strong resales in April, the country had about 8.2  months of inventory. For real house prices to stay stable, inventories need to be in the four to six month range, and because inflation is nearly non-existent for the moment, downward pressure on real prices means downward pressure on nominal prices as well. This could be a problem for a housing market that had relied so heavily on FHA loans, which have lax downpayment requirements.

Things here in California are better:

The data come from CAR.  Inventory under $500K is pretty thin, meaning that even if there is a shadow inventory that comes on line, California should be able to avoid much in the way of further price declines.  Just as interesting to me is that while the $750K+ inventory is still pretty large, it has shrunk pretty dramatically.  I actually wonder how these houses are getting financed--are there that many affluent buyers with cash?  When I talk with lenders, they are telling me that to get a decent rate at $1 million+, buyers need at least 25 percent down, and sometimes more.

Sarah Ritchie reminds me that today the Brooklyn Bridge is 127 years old.

Every time I visit New York, I am stunned at what a remarkable human accomplishment it is. I think there is a pretty good chance that among the most important contributors to that accomplishment are its bridges and tunnels.

I cannot think of any city in the world with remotely as many impressive bridges. The names roll off the tongue: Brooklyn, Manhattan, Williamsberg, 59th Street, George Washington, Verrazano, Throg's Neck and Whitestone. London, Paris, Rome and Seoul have very nice bridges, too, but because their rivers are so much narrower than the East (yes, I know it's not really a river) and Hudson, the bridges don't quite so stir my imagination. San Francisco's bridges span great distances, but there are only two that are impressive (the San Matao and Dumberton bridges are just strips of pavements on pillars, and the Richmond Bridge is, well, "interesting").

So happy birthday to Brooklyn Bridge, the first of a wonderful family.

Annoying anti-car headline of the day

From Richard Florida's twitter feed, I get:

One Hour Spent Driving = 20 Minutes Lost Life Expectancy:

So let us think what this means for people who drive one hour per day every day for 60 years. Expected life expectancy is reduced by 60 years times 365 days per year times one hour times 1/3 hour of life lost per hour of driving. This all comes to 7227 hours, or about 300 days. So driving every day for one hour means we lose 10 months of life expectancy (move these numbers around as you wish).

But what if we weren't able to drive at all (and buses and shared-rides vans count as forms of driving)? I am guessing we would be much poorer--mobility has at least something to do with our affluence. Maybe we wouldn't be as well nourished. Maybe we would face more economic stress. I can't be certain, but I would be willing to bet that if we stopped driving altogether, our life expectancy would fall.

I have long supported Pigou taxes on the negative externalities created by automobiles. I support subsidies for transit as a matter of social justice. But do I think cars have provided a net benefit to living standards and life expectancy? Sure!

David Barker comments on the growth path of GDP

He writes:

I just did a quick Chow test to see if there is a structural break in per capita GDP growth between 1935 and 2009 and there is not.

This is just a growth over time model (log GDP on time), and I also checked consumption and disposable income. If I did it right, there are no breaks - not even close. So you are right about Wallison, but one can't draw the opposite conclusion either.

I think in general it is difficult to draw casual inferences about macroeconomic data. More specifically, I agree with David that there is not sufficient statistical evidence to ascribe a cause to the relatively weak performance in growth after 1980. I do think rampant deregulation of financial institutions has been on net harmful (we seem to have financial crises more frequently now), but we haven't sufficient numbers of data points to establish that fact scientifically.

But it is also true that what Wallison wrote is demonstrably false. Life was not barren in the pre-Reagan years, and it has not been the land of milk-and-honey since. The evidence, limited thought it may be, is consistent with the idea that the New Deal was a good thing. On the other hand, Wallison wears very nice suits.

Peter Wallison: Opinions without Data

He writes in his screed against financial regulation:

In the rapturous days after Barack Obama's victory and the Democratic congressional sweep that accompanied it, House Financial Services Committee Chairman Barney Frank declared that the new Congress would enact a "new New Deal." Few people really thought at the time that he or his party meant this seriously. After all, the original New Deal—as anyone who has read history knows—failed to revive the economy.

Indeed, the modern era of rapid economic growth commenced after both Democratic and Republican presidents undertook to lift costly and stultifying New Deal regulations.

Using the National Income and Products Account, I looked at real annual GDP growth between 1933 and 1980 (the stultifying years) and 1980 to 2009 (the "rapid economic growth" years). Between 1933 and 1980, GDP grew by about 8-fold, or more than 4 percent per year (actually 4.5 percent per year). Between 1980 and 2009, real GDP did slightly better than doubling, or 2.7 percent per year.

I try to respect people whose points-of-view differ from mine, but who decides to let this guy waste ink?

USC: The Spirit of Transformation

The frustrations of Academic Life

Was about to ship a paper off for journal consideration and discovered a mistake. I am just hoping it turns out not to be material.

A little experiment in house price indexes

Among my favorite web site's is Morris Davis'. One feature of the site is a page of data that Morris and his colleagues have developed: among them is an estimate of land prices in the United States.

This morning, I looked at the change in real land prices in the United States. Between 1980 and 1997, real land prices (as deflated by the CPI) increased by 4.4 percent per year. I chose 1980 because Morris told me the data has some problems previous to that year, and 1997 because that was the year of the first inflection point in the movement of house prices (an even more impressive inflection began around 2002). The 4.4 percent rate is thus almost certainly fundamental, and does not reflect any bubble.

The question I wanted to ask is whether land is now over-valued or under-valued based on a 4.4 percent long-term real growth path. Unfortunately, Morris' data ends with 2007. For land values to have returned to a 4.4 percent long-term growth path, land values would have needed to have fallen about 1/3 since the end of 2007.

Actually, it is plausible that they have fallen more than this. From the end of 2009 to the end of 2009, the Case-Shiller house price index fell by 20 percent. But the value of structure changes very slowly, while the value of land changed quite rapidly. Land makes up about 1/3 of house values, implying that for house prices to fall by 20 percent, land prices must have fallen around 60 percent. Let's say that falling labor costs and commodity prices meant that construction costs fell a little bit, and that land value fell by only 40 percent. This still means that relative to its long term fundamental trend, land values overshot on their way down.

[Update. Morris has more recent data on the Lincoln Institute Web Site. His estimate is that land prices fell by 53 percent just between the end of 2007 and the beginning of 2009. This suggests that relative to long term trends, land prices overshot downward.]

Stunning Overbuilding Fact of the Day

I am listening to a presentation at the Homer Hoyt meetings on the condo meltdown in South Florida. Developers planned on building 95,000 units in the city of Miami between 2002 and 2007. In the 2000 census, the whole city had 163,000 units.

How do you produce a 63 day winning streak?

Here is how I have been trying to figure this out. Suppose we wanted to figure out what a daily winning percentage had to be in order to observe a 50 percent probability of a 63 day winning streak. It would be (.5)^(1/63), because the probability of 63 straight wins would be Pr(one win)^(63). It turns out that (.5)^(1/63)=.989, which I will round to .99.

Now lets say a firm has a proprietary trading model that is correct 51 percent of the time. This means that on the average day, it will come out ahead (suppose all trades are $1 trades). But if a trader makes one trade a day, he will close the day ahead only 51 percent of the time. If he makes 100 trades a day, however, while his winning percentage per trade remains the same, put his winning percentage per day goes up a lot. Specifically, the standard error for a daily outcome goes down by 1/10, from sqrt(.51*.49) to sqrt(.51*.49/100), or from about .25 to .025. The chance of finishing the day losing on average is based on how many standard deviations away .5 is from .51. In this case, it does from .01/.25 (or not far at all) to .01/.025, or .4 standard deviations away. In a normally distributed world, this means there is a 65 percent chance of finishing the day ahead, assuming each trade has a .51 batting average and 100 trades per day.

To get to winning 99 percent of days, we need to get the standard error for the day to be sufficiently low that .5 is more 2.4 standard deviations away from .51, so the standard error needs to be .01/2.4 or about .004. So we need to find X such that sqrt((.49*.51)/X)=.004. or X=.25/(.004^2)=15,625 trades per day.

Three big assumptions go into this calculations. First, it assumes a stable model. Over the course of one quarter, this may be reasonable. Second, it assumes a model with a 51 percent winning percentage. This is a huge assumption (I do not know what a reasonable number might be). Third, it assumes normality. This is probably not too bad; we do know that Chebyshev's Inequality says that (1-1/k^2) share of any distribution must be within k standard deviations of the mean. This means that 99 percent of any distribution is within 10 standards deviations, but that is an extreme outcome.

Virginia AG Cuccinelli is not only trying to kill Academic Freedom, he is trying to kill America's economic advantage

Mark Thoma sends me to Barkley Rosser:

This is in today's daily links, but I think it deserves a bit more notice:

Virginia AG Cuccinelli Out To Kill Academic Freedom, by Barkley Rosser: Friday's WaPo reports that Virginia Attorney General Ken Cuccinelli, following up on his efforts to end efforts by state universities and colleges to avoid discriminating against GLBT folks, has decided to interfere directly in scientific research in a criminal way. In particular, Cuccinelli is claiming that climate scientist, Michael Mann of hockey stick fame, engaged in billing fraud with the state while working on this subject while a professor of environmental sciences at the University of Virginia, where he has not been located for some years (now at Penn State). Cuccinelli is demanding all kinds of emails and other materials from the university, apparently attempting to imitate the climategate gang that did this over at East Anglia, only to end up with no fraud being discovered.

I think that some of the critics of Mann's work were correct, but this is an outrage. There is no evidence at all of fraud (and those claiming the email in which he spoke of using a "trick" as evidence for this do not understand or are willfully misrepresenting how this term is used in these situations) on his part, whatever errors he may have made in his study of the hockey stick (and it really does not matter exactly what the temperature was 1000 years ago; I have posted on this here previously). ...

Beyond the fact that I find Cuccinelli's attacks to be morally repugnant, they are also aiming for the heart of what remains of America's economic advantage: its ability to innovate. One of the reasons we are so good at innovation is because we have a research culture like no other nation, a culture that comes from universities that are, by world standards, intellectually free and well supported. The smartest people from all over the world come to the US for its universities, and then they stay to do research and to start businesses. Does the Ayatolla Cuccinelli really want to undermine this? Wait, don't answer that...

Two items in this morning's LA Times bring out my inner conservatism (small though it may be)

(1) The LA City Council is considering forbidding landlords of rent stabilized property from raising rents at all. I am certainly not a Friedmanite, but all credible evidence suggests to me that rent control leads to under-provision and under-maintenance of rental housing, and is distributionally unjust (Henry Pollakowski has shown that the benefits of rent control in New York accrue largely to high income people). But what LA is contemplating is even worse: to tell landlords that they can expect to be allowed to raise their (well-below-market) rents by 3 percent and then renege sends potential investors in Los Angeles the message that they can't rely on anything the city tells them. It may help explain why the city (as opposed to the region) has been unable to create jobs for a long time now.

(2) Al Gore bought a 6500 square foot vacation house in Montecito. I get why he might need to own one large house--if he uses his house for business purposes and has large receptions at it, he needs the space. I even get why a former Vice-President may not be able to fly commercial--the security problems are just too large. But for Al to own two large houses is just rank hypocracy. One of the reasons I can't take the GOP seriously is that it seems permeated by holier-than-thou hypocrites. Even though I generally agree with Al Gore on policy, he does at times make it hard to take him seriously.

Yet another reason why real estate is so interesting

I was listening to the BBC last night on the general election in the UK. One commentator stated that the reason coalition government wouldn't work in the UK is because of the design of the House of Commons: the government is on one side of the house; the opposition directly across on the other. It is all about the building!

What Milton Friedman got wrong

Friedman had two fundamental problems with business regulation. His first is that the business would capture the regulator, and therefore use regulation to establish monopoly power. My field leads me to find this line of argument compelling: real estate developers love (regulatory) barriers to entry that keep competitors from building.

His second, though, is just wrong. He argues that in order to preserve their reputations, businesses will self-regulate. Among other things, this ignores that managers often have short-term horizons. It also ignores that when large businesses implode, they leave victims with whom they never engaged in a transaction in their wake. BP did nothing illegal--how's that reputation thing working out? And having now read a whole lot on Goldman-Abacus (including the SEC complaint, the response on GS's web site, the offering circular, and excellent commentary from James Surowiecki, Yves Smith and others), it is not clear to me that Goldman did anything illegal or actionable (but I could be persuaded to change my mind). It is just that what it did (including investing long in CDS) should be unambiguously illegal and actionable. I can't think of anyone who had a bigger reputation franchise than Goldman.

Could we finally get a Pigou Tax on gasoline now?

Lisa Margonelli in this morning's New York Times.

The Deepwater Horizon spill illustrates that every gallon of gas is a gallon of risks — risks of spills in production and transport, of worker deaths, of asthma-inducing air pollution and of climate change, to name a few. We should print these risks on every gasoline receipt, just as we label smoking’s risks on cigarette packs. And we should throw our newfound political will behind a sweeping commitment to use less gas — build cars that use less oil (or none at all) and figure out better ways to transport Americans.

I think it is safe to say that economists across the political spectrum approve of gasoline taxes. To the extent they are regressive, the revenue they raise could be used to provide better mass transport subsidies for low income people. Maybe now there will be political cover to do something.

Path Dependence?

I am currently in Minneapolis. It is, to me, a great city. My feelings may reflect that it was the large city nearest to me when I was growing up, but they also reflect that it has the attributes of a great city: innovative companies, such as 3M, and Medtronic, wonderful arts, including an orchestra that Alex Ross of the New Yorker wrote,"[sounds] to my ears, like the greatest orchestra in the world," and a vibrant, walkable downtown. The only other Midwestern city with such a jewel of a downtown is Chicago, which is also, of course, a much larger city.

The question is why. Bill Cronon wrote a great book about Chicago, explaining how it became and remains an epic city. The remain part is a function of path dependence--once Chicago made a set of choices about how it would connect with the nature that surrounded it, both physically (through, for instance, railroads) and intellectually (through, for instance, exchanges), it set itself on a self-perpetuating path.

I know of no similar book about the Twin Cities (that doesn't mean it doesn't exist). But it is an interesting question as to why Minneapolis has done so much better than other Midwest metropolitan areas: it terms of educational attainment, income, and population growth, it has substantially outperformed Kansas City, St Louis, Milwaukee, Cleveland, Cincinnati, Toledo, Dayton, Pittsburgh and Buffalo (I could go on, but you get the point). I don't think it is the weather.

Did Arizona just help California's Housing Market?

My colleague Dowell Myers points out that for the housing market in the US to remain healthy, we must "cultivate new immigrant residents." Arizona's new law, which would require immigrants (legal or otherwise) to "carry papers" creates what I would consider to be an atmosphere of hostility to immigrants--all immigrants. I am also awaiting the spectacle of a police officer demanding the "papers" of a native-born Latino.

In any event, people have a propensity to go where they feel welcome, and avoid places where they are not. Hostility to immigrants in general and Latinos in particular seems to be a political loser in California, so Arizona's policies may lead to higher demand for houses in California.

Should Berkshire Hathaway be required to post collateral on underwater positions?

Yes.

(BTW, I own a few Class B shares and am a big fan of Warren Buffett).

A simple financial reform

If an investment instrument has never been through a down-cycle, rating agencies should be forbidden from giving the instrument a grade of BBB (or in Moody's case, Baa) or higher. Instruments that lack history are, by definition, speculative.

Trying to figure out whether synthetic CDOS add value

In principle, I think they could, because they allow investors to invest in a combination of mortgages that are not actually available in the market (the combination, that is), and as such, make markets a bit more complete.

But does the efficiency benefit synthetics create exceed the cost of their opaqueness? Would creating an exchange deliver sufficient transparency to overcome the opaqueness problem?

Bill Wheaton says housing is a sleeping giant that is about to wake up

He says so in a short paper. I think he is right.

What people don't know about household income

I spoke at a Hanley-Wood Conference in Ft.Lauderdale today to a group of Apartment operators. It was a very nice audience.

I asked members of the group to raise their hands when they thought I hit the number at which median income for renters in the US was higher. I started at $60K; nobody raised their hand. But at $50K, a number raised their hands; at $40K, nearly everyone had a raised hand. According to the American Housing Survey from 2007, median income among renters was $28,921. It is possible that number is even lower now. If 30 percent of income paid for rent is "affordable," this means the median renter can afford to pay no more than about $750 per month.

Thoughts from 37,000 Feet

I am on a Virgin America flight that includes, among other things, Wifi. The plane is nicely lit and very clean (because it is new). And it makes me wonder whether the airline business will ever be a sustainable long-term business. There are reasons why it is difficult for the legacies to match the Virgins and Jetblues for amenities.

How many loans are non-recourse?

In California (and other states), purchase money home mortgages are non-recourse loans--if a bank accepts the keys from a borrower, it cannot then go after the borrower for any difference in value between the house and the loan outstanding.

But as I learned from Paul Willen this weekend, once a loan is refinanced, it is no longer a non-recourse loan. For borrowers who have no assets to speak of, the difference doesn't matter much. But for others, the difference is large.

Is it better to model or to converse?

It amuses me when on occasion someone in the real estate business complains that I am "too academic." For starters, given the career I have chosen, I don't exactly consider than an insult.

But it does raise a question: would academics who study real estate be better off spending less time modeling and more time talking to practitioners? As someone who enjoys talking to people in the business, I would say the answer is no. While models have their problems--particularly with respect to precision--well specified models should be free of bias. To give one example, modeling drove me to conclude three years ago that capitalization rates for commercial real estate were unsustainably low. I wasn't sure when they would rise, I was just sure that they would--and as a consequence drive down commercial real estate values. My views were treated with derision by practitioners, who were convinced that we had entered a "new paradigm" wherein cap rates would always stay low and values would forever stay high.

Jim Shilling summed up the issue in his AREUEA Presidential Address. Here is the abstract:

This paper is based on my Presidential Address to the American Real Estate and Urban Economics Association delivered at Washington, D.C., in January 2003. The paper asks whether there is a risk premium puzzle in real estate. I examine this question by reporting on an empirical investigation of real estate investors' expectations over the last 15 years. The results suggest that ex ante expected risk premiums on real estate are quite large for their risk, too large to be explained by standard economic models. Further, the results suggest that ex ante expected returns are higher than average realized equity returns over the past 15 years because realized returns have included large unexpected capital losses. The latter conclusion suggests that using historical averages to estimate the risk premium on real estate is misleading.

I actually do learn a lot by talking to people who do real estate. I just don't learn a lot about future returns.

Small Ironies

I was culling my books over the weekend, and decided to pitch out Milton and Rose Friedman's Free to Choose. This is striking me today as ironic, because I doubt that the West Virginia miners were free to choose much of anything.

At best, they made a choice based on misinformation--they thought they were working at a mine that met safety standards. Those of us who are tenured professors have indeed been free to chose; we can even say whatever we want without fear of losing our jobs. But to think everyone has such freedom is just delusional.

Good Reading

Yannis Ioannides Journal of Economic Literature review of Scott Page's The Difference: How the Power of Diversity Creates Better Groups, Firms, Schools and Choices.

My disappointment with Ted Koppel

I was listening to NPR's Talk of the Nation while driving home tonight: the topic was the federal deficit. They brought in Ted Koppel to talk about it, and he was asked the difference between the national debt and the deficit--and he couldn't answer.

It did not so much disappointment me that he didn't know (although the distinction is pretty easy--the debt is a stock and the deficit is a flow). It disappointed me that given that he knew he didn't know, he still thought he had something worthwhile to say about the issue.