Bacon's Rebellion

  • Forget FOREX, VRS’ problem is with active management

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    Norm Leahy

    by Norm Leahy

    The headline news is that Virginia and Florida are suing Bank of New York Mellon for “…cheat[ing] pension funds in those states by choosing improper prices for currency trades the bank processed for the funds.

    But the real headline story that, so far, I’ve only seen posted here, is how Virginia’s public employee retirement system is paying handsomely — with retirees’ money — for investing in actively managed funds:

    The Virginia Retirement System, or VRS, pays millions to Wall Street, as well as highly-paid internal managers, to oversee its $55 billion fund. The state paid $125 million more to fund managers in 2010 than it did in 2005, when the system first embraced a “more active” investment strategy. The strategy yielded results in 2011, as the fund grew nearly 20 percent, still $3.4 billion short of its pre-recession high.

    The fund needs a 49 percent gain to make up for recession losses.

    “The reason the fees are so high is because 89 to 90 percent of our investments are under active management,” VRS Director Bob Schultze said. “We have to go to outside firms that put out all of these results.”

    This feeds into an old debate: whether actively-managed funds perform better over the long term than index funds:

    The VRS could achieve similar long-term investment gains with an index fund, a computer generated investment scheme designed to react to market trends, according to Andrew Biggs, a retirement scholar at the conservative American Enterprise Institute.

    “The whole point of active management is to try and outsmart the market,” he said. “But 75 percent of the time, active managers don’t beat the index funds. You can’t outsmart the market.”

    Some large index funds have been able to churn out results similar to the system’s performance.

    I remember having a long-running argument argument with the retirement fund managers at a former employer. They weren’t keen on index funds, preferring to stick with actively-managed funds that carried higher fees.

    So I asked for information on the active funds’ holdings. When that data was provided, it was not surprising to find that funds which, by their names alone, would seem to have vastly different investment goals also tended to own shares in the same companies. But we could only see what the top ten holdings were — in the past. A complete list of current holdings was unavailable, nevermind how long those holdings had been in the portfolio. And tax considerations? Fuggedaboutit.

    So what did active management provide? The promise of greater returns, but rarely greater than the index used as a benchmark. And at a far higher price, with less diversity, than those same benchmark index funds. But the idea that smart people were watching the market like a hawk every day, as opposed to a dumb index that just sat there, gave some of my colleagues great comfort.

    It’s the same with the VRS. The state’s retirement plan took a huge hit coming out of the 2008-2009 market swoon. They turned to active management to try to cover the losses because they believed the smartest guys in the room would give them an edge. But that move has cost them a great deal — arguably, far more than the monies in question in the suit pending against Bank of New York Mellon.

    So why does the VRS stick with active managers that cost a heckuva lot more? Sen. Roscoe Reynolds offers the classic response:

    “If something went wrong, could you imagine the response from the public if we were relying on a computer? I can tell you it wouldn’t be good.”

    Is SkyNet running the Russell 2000? Or the Wilshire 5000? Not yet. But there’s also no indication that the bright minds behind active investment strategies — and the costs they bring — do any better than the far cheaper, and in many ways far smarter, index approach.

  • Drunk On Debt

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    James A. Bacon

    U.S. Senate candidate Jamie Radtke asked for an opportunity to respond to Peter Galuszka’s recent column, “Drunk on Tea.” I figured, sure, why not? It’ll make Peter’s day when he gets back from the beach! Here’s what she has to say. — JAB

    Peter Galuszka entitled his recent post / article about me and the Tea Party, “Drunk on Tea.” (He posted it on WashingtonPost.com, and at Bacon’s Rebellion, and got it into Style Weekly magazine – now that’s initiative, if not exclusivity.)

    As evidence of our impairment, Mr. Galuszka offered that the Tea Party movement (and I), “cheered on freshmen Republicans in the House of Representatives to do everything they could to thwart a compromise.”

    Well, we got a ‘compromise’ and ended up with the worst of three worlds: trillions more in debt, no real spending cuts in the near future, and a downgrade of our credit rating. If one option is steering clear of an iceberg and the other option is running straight into the iceberg, a “compromise” that crashes half of the ship into the iceberg is still not a good plan.

    Within days of Washington politicians’ making it clear that they were not committed to serious spending cuts and long term structural spending reform, the Dow dropped more than 1,100 points, S&P downgraded the U.S. to AA+, and we added $250 billion to the debt (bringing total U.S. debt to more than the entire Gross Domestic Product of the United States).

    Furthermore, our largest foreign creditor, China, demanded, “international supervision over the issue of U.S. dollars… and a new, stable and secured global reserve currency may also be an option to avert a catastrophe caused by any single country.”

    In other words, half the ship hit the iceberg.

    The bond rating agencies and investors in our markets say we must cut spending. Foreign countries say we must cut spending. Tea Party advocates say we must cut spending. A majority of Americans say we must cut spending. Only Washington Politicians (along with Mr. Galuszka) could have the audacity to claim that that the majority view is stubborn and that we should submit to their business-as-usual destructive ways. To better understand their minority worldview, perhaps we should all remember these are the same politicians and pundits who define “spending cut” as “reducing the rate of spending increases.”

    It seems to me that Mr. Galuszka’s disagreement with the Tea Party comes down to two things: 1) He wants to spend more. We don’t. 2) He wants to elect Tim Kaine. We don’t.

    But perhaps he’s right on one point. Perhaps there is something in our tea (versus whatever it is the Washington crowd is drinking). Unlike the Washington Establishment, Americans can see the world LOGICALLY. We can do simple math and understand that spending $1.5 trillion of money we don’t have EVERY YEAR (and borrowing money from China to feed that spending addiction) cannot continue without severe consequences.

    I wonder how much of that tea we’d need to get all of Congress into that state of mind?

  • When Does a Deal Become a “Side Deal”?

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    James A. Bacon

    Albemarle County Supervisor Rodney Thomas takes issue with my characterization in the story, “Gentleman’s Agreement,” of the access-management agreement reached with the Virginia Department of Transportation as a “side deal.” He was so upset by the article that he asked me to never contact him again. I tried to explore how he would describe the understanding but he refused to talk anymore.

    For the record, I did not mean to imply anything secret or underhanded by describing the understanding as a “side deal.”  I didn’t know how else to describe it. I invite readers to give their reaction. Did I blow it? Was I unfair? If so, I’ll publicly apologize to Mr. Thomas.

    By way of context, the original deal was one that Thomas and fellow Albemarle Supervisor Duane Snow reached with Transportation Secretary Sean Connaughton: If the two supervisors helped overturn a previous Albemarle County vote to oppose the Charlottesville Bypass, Connaughton would come up with the money to pay for the Bypass and smaller, high-priority projects in the U.S. 29 Corridor (as well as rebuilding the Belmont Bridge in Charlottesville). Thomas and Snow made good on their end of that deal, and Connaughton partly made good on his end, getting Commonwealth Transportation Board approval for the Bypass plus a widening of a stretch of U.S. 29. However, the CTB did not address the status of the other projects.

    Before the Bypass project could be approved, Thomas and Snow, who also sat on the regional Metropolitan Planning Organization (Thomas is chairman) had to reverse an earlier MPO vote opposing the Bypass. That was trickier. The Southern Environmental Law Center had put them on the spot by publicly distributing a letter to the Albemarle board asking it to get concrete commitments from Connaughton. “It is essential that the County have clear, firm, and legally enforceable conditions in place as part of any vote to amend the Metropolitan Planning Organization’s transportation plans to allow funding for the bypass,” the letter said.

    Whether motivated by the SELC letter or not, Connaughton wrote a letter to the MPO board specifying precisely what he was willing to do to advance the priority road projects, including the Berkmar Drive Extension, the Hillsdale Drive project, the Best Buy ramp and the Belmont Bridge. He also stated his expectation that the MPO would cooperate in curtailing direct access to U.S. 29 by developers and property owners in accordance with the state’s Corridor of Statewide Significance policy. In a Friday interview with me, he described that condition as a “quid pro quo” and expressed his desire to make Charlottesville-Albemarle a “test bed” for the state’s access management policies.

    That condition was not part of the original deal with Thomas and Snow, at least not as the two supervisors publicly described it. But Connaughton’s letter was vague about what he expected from the MPO and Albemarle County. Those expectations were clarified, at least to some degree, in a meeting that Thomas had with VDOT Commissioner Gregory Whirley yesterday. Thomas shared those details of the conversation with me, and I wrote the article yesterday.

    In my article, I variously described the access-management arrangement as a “side deal,” a “handshake deal,” and an “informal understanding.” What else could you call it? Thomas and VDOT had reached an understanding separate from the original agreement. This one stemmed from the original deal but it was distinct from it and it addressed a totally different topic: access management.

    If readers believe that by “side deal” I conveyed the impression that it was reached in secret or was in any way sinister, then I apologize to Mr. Thomas.

    It has since occurred to me that Thomas may have participated in the meeting with Whirley in the company of other Albemarle or MPO officials. When I interviewed him, he never mentioned that anyone else was in the meeting with him, so I mentioned only him in the article. Readers may have drawn the conclusion that Thomas met with Whirley alone. A more astute reporter would have clarified that point and also would have made clear whether Thomas was acting in his capacity as an Albemarle supervisor or as chairman of the MPO. I don’t know the answers. For those oversights, I beg readers’ forgiveness.

  • The Wonk Salon, August 11, 2011

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    James A. Bacon

    And Now, a Good Word for Property Taxes
    Show-Me Institute
    Property taxes are a levy that only policy wonks could love. With property taxes, the public sees the connection between the public services they demand and the tax dollars they pay.

    Latino Youth and Civic Engagement
    Carolina Population Center
    Three out of five Latino high school students report having strong American identities… in North Carolina at least.

    Saving Medicare through Competition
    Heritage Foundation
    If getting insurance companies to compete for Medicare enrollees’ business works for the drug benefit, why wouldn’t it work for Medicare as a whole?

    Saving Marriage in Middle America
    Brookings Institution
    First marriage began eroding among poor Americans. Now it’s eroding in the middle class. Public policy can halt the decline.

  • Gentlemen’s Agreement

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    James A. Bacon

    Rodney Thomas. Photo credit: Charlottesville Tomorrow

    Albemarle County and VDOT have reached an informal agreement on how to approach access management on U.S 29 north of Charlottesville.

    by James A. Bacon

    In a side deal forged to grease the skids for  construction of the $200 million Charlottesville Bypass, the chairman of the regional Metropolitan Planning Organization and member of the Albemarle County Board of Supervisors has agreed to limit private property owners from opening new access points to U.S. 29  north of Charlottesville.

    The specifics of the handshake deal had not been spelled out until today during a meeting between Rodney S. Thomas and Gregory Whirley, commissioner of the Virginia Department of Transportation. In exchange for Albemarle’s approval of the Charlottesville Bypass, the McDonnell administration has committed to fund or assist four smaller projects on the region’s list of priorities. But that help is contingent upon the county’s commitment to the state’s “access management” strategy for U.S. 29.

    In addition to limiting new access to the highway, the County also may buy up “a few driveways” from private property owners, Thomas says, and it will “consider” deleting some median-strip crossovers.

    The informal understanding worked out between Thomas and Whirley brought clarity to a side deal that had been worked out between Thomas and Whirley’s boss, Transportation Secretary Sean Connaughton in negotiations to gain funding and approval for the Charlottesville Bypass.

    Roughly two months ago, Thomas and fellow Albemarle supervisor Duane Snow met with Transportation Secretary Sean Connaughton to discuss funding of priority transportation improvements to Charlottesville and Albemarle County. The supervisors were committed to a handful of modest projects, including four in the U.S. 29 corridor and the replacement of the aging Belmont Bridge in Charlottesville. Connaughton floated the idea of funding the Charlottesville Bypass, a mega-project long considered to be unfundable. The supervisors said they would love it as long as the Bypass wasn’t being funded at the expense of the smaller projects. Connaughton gave them the assurances they were looking for.

    Thomas and Snow then wrung an endorsement of the Bypass from the Albemarle County Board of Supervisors, reversing its previous opposition. Connaughton next won approval from the Commonwealth Transportation Board, finding the funds from pots of money that did not diminish the Six Year Improvement Plan in which the smaller projects were listed. Indeed, he found money for one of those projects, the widening of a stretch of U.S. 29. Finally, Thomas and Snow, who both sit on the Charlottesville-Albemarle County Metropolitan Planning Organization (MPO), reversed that organization’s previous opposition to the Bypass. No more approvals were needed.

    While the Bypass project was a “go,” it was not clear to the public what was included in the side deal. In a letter to the MPO board, Connaughton specified the recommendations he would make to the CTB to advance or accelerate the remaining priority projects. (See “Promises, Promises” for details.) Overlooked in the MPO board discussion of the deal and in subsequent press coverage was the fact that Connaughton had attached what he later described as a “quid pro quo” — the region had to get serious about keeping U.S. 29, a Corridor of Statewide Significance, free from curb cuts, traffic lights and other access points that slowed traffic on the highway. (See “Connaughton to Charlottesville: Implement a Plan to Prevent More U.S. 29 Congestion,” for details.)

    But Connaughton’s letter did not spell out local obligations with any specificity. And when I talked to Thomas yesterday,  he didn’t have the details either. But he said he would know more after his meeting today.

    What emerged from Thomas’ discussion with Whirley could better be described as an informal understanding than a formal agreement. Albemarle, whose previous zoning and design decisions bred the traffic congestion plaguing U.S. 29 today, must restrict future access of developers and property owners to the highway. The county also may have to conduct some remediation, but there is no hard-and-fast agreement. “A few driveways, with some negotiation, may have to be closed up,” Thomas said. The county also will have to “consider deleting some crossovers.” (Crossovers are where intersections cut through the highway median strip.)

    “There is no specific proposal or plan. We don’t have to sign anything,” Thomas said. “It would be nice if we could cooperate with VDOT to improve traffic situations rather than make problems for them.”

    Likewise, Connaughton’s commitment to advance Albemarle’s transportation priorities is an informal one. Thomas says he believes the transportation secretary will deliver. “I trust Sean Connaughton.”

    =============

    This article was reported and written thanks to a sponsorship by the Piedmont Environmental Council.

  • Who’s Getting Hosed?

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    James A. Bacon

    Who’s Getting Hosed?

    by James A. Bacon

    Everywhere I go around Virginia, I encounter a universal sentiment: “We’re not getting our fair share of state transportation dollars.” Northern Virginians take it for granted that the politicians in “Richmond” are short-changing their region, the economic engine of the state. Downstaters are equally convinced that NoVa, with its voracious transportation needs, is hogging more than its fair share.

    Who’s right?

    Sen. Janet Howell, D-Reston, asked the Senate Finance Committee to figure out how much each region of the state pays in transportation taxes and fees and how much money each region gets back. Remarkably, no one had ever made that calculation before, at least not in the 12 years that Jason Powell, the legislative analyst for the SFC tasked with the job, has worked in Richmond. The results he came up with (view here) are surprising — although they must be taken with important caveats.

    First, we can drive a spike through the long-held myth that Virginia’s highway funding formula routinely short-changes Northern Virginia. In truth, NoVa, which accounted for 28% of Virginia’s population in Fiscal 2010 and a like percentage of the state’s annual gas tax revenue, received 33% of all transportation dollars in Fiscal 2012.

    For all the ire that Northern Virginians direct at “Richmond” — as if the inhabitants of the Richmond region were culpable for the transgressions of state government — the Richmond transportation district, with 15% of the state’s population, contributed 16% of all state highway revenues in FY 2010 and got back only 11% in FY 2012!

    Here are the numbers, which I have extracted from Powell’s presentation, ranking the VDOT districts by winners and losers.

    (Click on table for more legible image.)

    Jeff Schapiro, the Times-Dispatch reporter who highlighted the findings in a column this morning, framed the issue from a downstate Virginia perspective:

    When it comes to total state spending, Northern Virginia consistently plays the victim. Its legislators yowl that the region, with its usually robust, federally fed economy, keeps the entire state afloat. That’s a tad hyperbolic. Because personal income in Northern Virginia is higher than the statewide average, the area generates more revenue relative to its percentage of the total population.

    This is what literally makes Virginia a commonwealth: It shares its wealth.

    As for highway finance, Northern Virginia can’t scream poverty. Of nine transportation districts, two — Northern Virginia and Bristol — take out more than they chip in. Bristol, with 4.6 percent of the population, produces 4.8 percent of road revenues, but draws 8.2 percent.

    Schapiro’s analysis may appeal to downstate politicians, but the caveats are important. First, there is no way to know exactly how much tax revenue each transportation districts contributed. Powell made an estimate based upon population, Vehicle Miles Traveled and tax data. His assumptions are reasonable, but they are still assumptions.

    More important, Powell provides only a one-year spending snapshot. While the tax revenue percentages won’t vary much from year to year, he says, the distribution of state transportation dollars will. Indeed, the numbers are already out of date: They do not include $200 million that the Commonwealth Transportation Board recently transferred to the Culpeper District to pay for the Charlottesville Bypass and related improvements.

    The numbers could shift even more — and not in NoVa’s favor — when the McDonnell administration begins spending funds from $3 billion in bond issues on mega-projects such as the Norfolk-Portsmouth Mid-Town Tunnel, U.S. 460 corridor improvements and the Coalfield Expressway.

    “There is year-to-year variability,” Powell told me. “I was just trying to do the most rigorous analysis I could.”

    Will the analysis change anyone’s mind? Probably not. NoVa partisans can argue that FY 2012 is an aberration. And they may be right. We can hope that Powell will update his figures annually. In another 10 or 12 years we might have enough data to settle the debate once and for all.

  • With Warner snub, “super committee” shows it’s hardly super

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    Norm Leahy

    Senator Mark Warner had some small hope of being named to the congressional “super committee” that is supposed to pore over the federal budget and find hundreds of billions of dollars worth of additional savings (or taxes increases, or both) in order to avoid across the board cuts. Those automatic cuts would result in a $600 billion hit to defense spending which could throttle Virginia’s defense-spending dependent economy.

    Before Senate Majority Leader Harry Reid made his “super committee” picks, Warner characterized his chances of being picked, and the committee’s likely Democratic make-up, this way:

    …he doesn’t see much chance of winning one of the three Senate Democratic seats — because he wants to tackle entitlement reform and tax reform on a much broader scope than is envisioned by the new committee.

    “The fact that I’m willing to do that probably means that I’m not actually going to get on the committee,” Warner said on Fox News. “I don’t actually expect to get on the committee. … I also know that chances are that there will be enormous pressure on leadership in both parties to put members that might not be willing to be as bold.”

    As Ken Falkenstein notes, Mr.Warner was passed-over for membership on the committee in favor of the odious John Kerry, Democratic Senate campaign chair Patty Murray and Finance committee chair Max Baucus.

    So give Warner the credit he’s due: he knew Reid would pick those who weren’t interested in sweeping entitlement reform. If anything, the Murray choice ensures just the opposite. In addition to her charge to look after Democrats’ electoral concerns, according to the Wall Street Journal, Murray is also “a vocal supporter of Social Security and Medicare.”

    In that same Journal article, we learn more about why Warner was shut out of the committee — his involvement with the “Gang of Six” — and Harry Reid’s take on entitlements:

    That group irked Mr. Reid by going its own way and trying to influence matters during the recent negotiations on the debt ceiling. In addition, those senators accepted cuts to Social Security at a time when Mr. Reid was strongly rejecting such cuts.

    Hope, change…not on his watch.

    It’s anyone’s guess who will be named to the other spots on the “super committee,” but the snubbing of Mark Warner has made a few things clear:

    * Serious entitlement reform is off the table for Democrats.

    * This and taxes will likely lead to no agreement, meaning the automatic cuts of the debt ceiling could be on their way. Buckle-up, Virginia, it’s about to get bumpy.

    * Warner has been given an additional reason not to make the Senate a long-term career. Terry McAuliffe, you’d best call your office.

  • The Mystery of the Missing Jitneys

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    James A. Bacon

    Precious Ramotswe will need an economics degree to solve the Mystery of the Missing Jitneys

    by James A. Bacon

    The other day, I was watching HBO’s “The No. 1 Ladies Detective Agency” whose main character, Precious Ramotswe, solves mysteries set in Gabarone, the capital of Botswana. The characters are delightful and the story lines entertaining, but, wonk that I am, I began wondering about incidental things such as, how did a once-impoverished, land-locked African country become so prosperous, and how did Grace Makutksi, the Watson to Ramotswe’s Holmes, come to ride to work in a large, comfortable, air-conditioned van?

    Since independence, Botswana has vaulted from one of the poorest countries in the world into the ranks of middle-income nations, a rare feat in Africa. A full explanation is beyond the scope of this blog post, but suffice it to say, Botswana has nurtured its democratic institutions and maintained the freest economy on the African continent, ranking No. 40 (moderately free) in the Index of World Economic Freedom. Which brings us to the issue of public transportation. It appears that Botswana encourages the use of jitneys: vans that offer unscheduled but regular service along a mostly fixed route.

    Now,  I have no way of knowing the extent to which Botswana regulates its jitneys, but clearly it has not banned the entire category of transportation as the United States has nearly done. As a consequence, poor Batswanan (as one refers to the inhabitants of Botswana in the plural) have a transportation option not available to poor Americans in any but a handful of U.S. cities.

    The American political class, ever confident in its ability to regulate the daily affairs of lesser mortals, has created monopolies and/or cartels in taxicab and bus service that have effectively eliminated jitneys as a shared-vehicle transportation mode. Espying a “market failure” — transportation remains exceedingly expensive for poor Americans — lovers of big-government solutions then call for subsidies to cover money-losing bus or mass-transit services. As the world hurtles ever closer to Boomergeddon, however, subsidies for money-losing transit modes is not a fiscally sustainable strategy over the long run.

    That’s why a case studying appearing in a recent report, “Enterprise Programs: Freeing Entrepreneurs to Provide Essential Services for the Poor,” is so timely. Jennifer Dirmeyer, a professor at Virginia’s own Hampden-Sydney College, makes the case for resurrecting jitneys in the U.S. Dirmeyer writes:

    Low-income individuals make up the largest percentage of bus riders and the second largest percentage of taxi riders. This points to the potential for a welfare-enhancing travel alternative that is slightly more expensive than a bus fare yet more “convenient.” However, choosing between taking a taxi and a bus may be somewhat like choosing between a filet mignon and a spam sandwich. …

    Where jitney services have operated, either legally or illegally, consumer-reported benefits fall into three categories: Jitneys are faster than buses, save walking and waiting time, and offer better quality service. On the supply side, jitneys are better able to adjust to changing transportation patterns, respond to the differences in peak and off-peak demand, and they provide moderately more convenient services such as making small detours off route for a lower price than a taxi. These characteristic features explain the persistent popularity of jitney services in urban environments, even where illegal.

    Dirmeyer advocates significant deregulation of taxicabs and jitneys, even to the extent of allowing them to pick up passengers at bus stops. That would create a problem, she acknowledges — it would divert passengers who otherwise would ride buses. Then transit companies, which bear the cost of maintaining the routes and stops, would be put at a competitive disadvantage. She believes that the public benefit is greater than the revenue lost to government enterprises, although the point is probably impossible to prove or disprove.

    I suspect that jitneys can flourish even without free-riding on the investment made by transit companies. People can already download smart-phone apps to find other car poolers. Thus, the means already exists for riders to communicate with jitney operators. Who needs to raid bus stops? Indeed, the inherent flexibility of smart phone-enabled jitneys could revolutionize the shared transportation industry. Taxicabs and transit companies will fight to preserve the status quo but riders, poor riders especially, could be big winners in a world where jitneys were free to operate. Taxpayers could be winners, too, if free jitneys spelled the end to mass transit monopolies and taxpayer subsidies without end.

    Update: Reader “Darrell” sends a link to the following story, “Carpooling a Click away with Online Ride Sharing” about two Seattle start-ups that are connecting riders with car pools.

  • The Wonk Salon, August 9, 2011

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    James A. Bacon

    How to Run Off Rich People in Three Easy Steps
    Mercatus Center
    Sick of all those millionaires and billionaires stinkin’ up your state? Just run them off in three easy steps: (1) Raise personal income tax rates, (2) lower the “high income” threshold for the top rate, and (3) jack up property tax rates.

    Public-Private Partnerships for School Facilities
    American Enterprise Institute
    If you’re not ready to privatize school management, consider privatizing the management of school facilities. Outsource extraneous services such as parking, dining, upkeep and energy maintenance and let the educators focus on their core competencies, educating students.

  • Chart of the Day: Tuition Inflation

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    James A. Bacon

    Recent news articles report that college tuitions are soaring this year… again. Does anyone really believe that the price hikes for higher education at public universities can be fully accounted for by cutbacks in state funding? Let’s take a look at the long-term picture comparing the cumulative change in tuition and fees (for all colleges and universities, not just public ones) to other elements of the Consumer Price Index.

    Source: Moody’s Analytics

    — James A. Bacon

  • The Wonk Salon, August 8, 2011

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    James A. Bacon

    Want to Help the Poor? Get Government Out of the Way
    National Center for Policy Analysis
    Don’t blame market failure for the difficulty poor people have finding affordable transportation, housing, child care, health care and security services. The real culprit: government regulation.

    Introducing the Debt-to-Degree Ratio
    Education Sector
    A new way to measure the performance of an academic institution is to calculate the ratio of how much its students borrow compared to the number of degrees granted. The trends are not favorable.

    Elite “Exam” Schools Provide Little Educational Value Added
    National Bureau of Economic Research
    The frenzied competition to get into elite Boston and New York “exam” schools isn’t justified by the results. An analysis of standardized test scores shows little educational value added.

  • Downgrades, finger pointing and irrational voters

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    Norm Leahy

    by Norm Leahy

    There has been and will be a great deal of finger pointing in the wake of the S&P downgrade of the federal government’s debt. But there’s an old saying, or maybe it was just a Dire Straits lyric — when you point your finger ’cause your plan fell through, you got three more fingers pointin’ back at you. That applies quite nicely to the debt debate.

    Republicans who scream that it’s all the Democrats fault for spending like mad hatters ignore or explain-away the spending excesses of the Bush years. Democrats who wail and gnash their teeth at Republicans who refused to raise taxes forget that under their watch, federal deficits and debt have piled up far faster than they did during the entire Bush tenure.

    This back-and-forth, as cathartic as it is for some, solves nothing. The debt deal that managed to pass congress was their best effort — and the markets and ratings agencies have said it wasn’t good enough. But it was all that could have been expected given the political divide in government, some will charge. Perhaps. But what is the source of that divide?

    You and me. Or at least the you and me who vote. We put people in power who do what we want them to do, whether it’s fight like crazed bobcats against taxes or mount furious charges to expand the size of government. There are precious few Edmund Burkes in Washington, voting their consciences and beliefs over the needs and wants of their constituents. What we are left with, then, are reflections of ourselves. And its not a pretty sight.

    Back in 2007, I wrote a piece for the old Bacon’s Rebellion e-zine about irrational voters, a concept George Mason University Prof. Bryan Caplan advanced in his book of the same name. He discussed how our inherent biases lead us to believe things that simply aren’t true. and when we take those biases into the voting booth, “…socially injurious policies win by popular demand.”

    Sift through the stinking mass that is the federal debt, and you’ll find receipts for all sorts of ill-considered ideas, policies and programs. And each of them was put there because we, through our representatives, demanded it.

  • Quote of the Day: Eric Cantor

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    James A. Bacon

    Image credit: Wall Street Journal

    Eric Cantor nailed the differences between economic liberals and conservatives in a Wall Street Journal interview published today. The “philosophical starting point” of today’s Democrats, as he sees it, is this:

    “[They] believe in a welfare state before they believe in capitalism. They promote economic programs of redistribution to close the gap of the disparity between the classes. That’s what they’re about: redistributive politics. … The assumption … is that there is some kind of perpetual engine of economic prosperity in America that is going to just continue. And therefore they are able to take from those who create and give to those who don’t. We just have a fundamentally different view.”

    That quote certainly captures the dialogue that takes place on this blog.

    — James A. Bacon

  • The Updated Boomergeddon Timetable

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    James A. Bacon

    by James A. Bacon

    So, Standard and Poor’s has downgraded the credit rating of the United States from AAA to AA+. There’s no immediate cause for alarm. AA+ is still a high, investment-grade rating and the interest rate differential between the two is miniscule. Interest rates will not go shooting up because of this. The economy will not tank (not for this reason, at least).

    But S&P’s downgrade is symptomatic of fundamental problems that we do need to take very seriously. Here’s what S&P has to say:

    The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics.

    More broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policy making and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011.

    Since then, we have changed our view of the difficulties in bridging the gulf between the political parties over fiscal policy, which makes us pessimistic about the capacity of Congress and the Administration to be able to leverage their agreement this week into a broader fiscal consolidation plan that stabilizes the government’s debt dynamics any time soon.

    So, what comes next? When “Boomergeddon” was published one year ago, I guesstimated that the United States would default on its debt within 15 to 20 years. The very idea seemed ludicrous to some. As it turns out, I was not nearly pessimistic enough. In Chapter 4, I listed a series of “milestones to mayhem” by which we could judge how fast the U.S. was heading to Boomergeddon. “The U.S. won’t go broke all at once,” I wrote. “It will be a long, slow, painful process marked by a thousand steps. We will have years of warning with many milestones to mark our progress. The precise order and timing of these markers is unknowable. But we will pass most of them on our journey to perdition.”

    2011: Slower-than-expected growth. One of the most important assumptions embedded in the 10-year budget forecasts is the rate of economic growth. If the economy grows slower than anticipated, tax revenues will fall short of projections and deficits will be worse. When I was writing, the Obama team was projecting 3.8% growth in 2011. I was skeptical. I was right and the Obamanoids were wrong. The first half growth rate has been less than 1%.

    2013: Failure to cut discretionary spending. The debt-ceiling deal won’t actually bring about cuts in discretionary spending — only a cap on spending, which the Congressional Budget Office expects will save $71 billion in the 2012 and 2013 budgets compared to the “baseline.” Over 10 years, the projected “savings” — spending increases that don’t take place — will amount to $756 billion.

    That’s it? That’s about one-tenth of what we need to cut — not even taking into account the slowing economy. If you consider slower economic growth in combination with the trivial budget cuts, the U.S. will continue to lose ground over the next two years.

    2017: Medicare Part A. crisis. The trust fund for Medicare Part A, which pays for hospitalization, was projected to run dry in 2017. In the past year, the short-term financial situation for Medicare Part A has deteriorated, with revenues falling short of previous projections. The Obama administration maintains that cost controls embedded in Obamacare will extend the life of the trust fund to 2024. Let’s just say I’m skeptical. Come 2017, we’ll see who’s right.

    2017: Currency crisis. At some point in the next few years, the value of the dollar will tank, driving up interest rates. The main thing propping up the dollar right now is the weakness of the euro. The situation is highly volatile, hence difficult to predict. But my timeline allows six years for things to spin out of control.

    2018: The next recession. Obama’s 10-year forecast does not envision the possibility of a recession. If one does occur, revenues will decline and expenses will soar relative to projections. When I wrote “Boomergeddon,” I figured a recession was inevitable by 2018. It may well come sooner… Some say next  year.

    2019: Spreading fears of sovereign default. I figured the European Union would be able to muddle through its sovereign default issues with Greece, Ireland, Portugal, Spain and Italy for several more years before the whole euro experiment collapsed. At this point in time, it looks like I was optimistic. Collapse could come as soon as next year. When it does, watch out. Sovereign debt contagion will spread to other welfare-state democracies, including the U.S., driving up interest rates.

    2020: State defaults. I calculated that California and other stressed-out states might muddle through another business cycle before their state finances collapsed. I’m still thinking that California might make it. But the state is still dysfunctional, and the next recession will be devastating. When big states start defaulting on their debt, investors will demand a higher interest-rate premium on T-bills.

    2022: U.S. credit downgrade. Boy, did I get this wrong. I thought it would take a lot longer before U.S. debt was downgraded. Our slippery  slope is a lot steeper than I’d figured.

    2024: Intensifying capital scarcity: By the 2020s, I wrote, “two gale-force winds will be driving interest rates higher. First, sovereign credit risk will spill over to the financial sector. … Second, as the global financial system shifts from a capital glut to capital scarcity, interest rates will begin a long secular upturn that will last years if not decades.” (Read the book for an explanation why.) Higher interest rates will accentuate the U.S. debt burden while also slowing U.S. economic growth.

    2025: Draw-down of Social Security trust fund. In 2025, Social Security is projected to stop generating a surplus and start drawing down its trust fund, meaning that the Treasury will have to start borrowing money in the open market to repay the debt it owes Social Security. The Obama administration insists that the situation has not deteriorated in the last year. Slow economic growth and prolonged unemployment will change that appraisal in a hurry.

    2026: Attack of the hedge funds. The bond vigilantes eventually will start doing to the U.S. what they’ve been doing to Greece and other “peripheral” European Union nations.

    2027: Failed auctions. In the final phase, investors will totally lose faith in the ability of the U.S. to repay its debt and refuse to buy any more. The only buyer left will be the Federal Reserve. Either the U.S. will default on its debt directly, or it will do so indirectly by allowing the Fed to inject massive liquidity into the money supply, sparking hyper-inflation.

    As Adam Smith said about the massive debts that England accumulated during the American Revolutionary War, “there is a lot of ruin in a nation.” England pulled through that crisis, and then it survived the Napoleonic wars that followed. Will America pull through the crisis of its unaffordable welfare state? Not the way we’re going. Without a dramatic change in course, we could well see Boomergeddon by 2020.

  • How to Run a Profitable Metro System. Build It in Hong Kong.

    Posted on

    by

    James A. Bacon

    Hong Kong's privately owned metro, the MTR
    Hong Kong's privately owned metro, the MTR

    by James A. Bacon

    I’ve been harping a long time on the idea that rail mass transit is hopelessly uneconomical as practiced in the United States. Projects are subject to massive capital cost overruns, and they exact a heavy toll from taxpayers to cover ongoing operating deficits. Some conclude from my withering criticism of the Rail-to-Dulles project that I am simply “anti-rail” or “anti-transit.” Nothing could be further from the truth. To the contrary,  I believe that the only way to ignite a rail renaissance in this country is to find a business model that makes it profitable.

    Making mass transit the preserve of government is a sure-fire loser. Governments have so many stakeholders to satisfy, they don’t know how to run a profitable enterprise. Requiring mass transit to operate with a union workforce creates another drain on productivity and profitability. So does accepting money from the federal government, which imposes all manner of burdensome regulations.

    What I couldn’t do before now is point to a profitable and privately run metro rail system. Now I can, thanks to a column written by Alex Marshall (who got his start covering transportation and land use at the Virginian-Pilot). Writing  in Citiwire.net, Marshall highlights the achievements of Hong Kong’s MTR metro system:

    If you are ever lucky enough to visit Hong Kong, which is Manhattan-like with its narrow streets lined with high rises, you will see that the MTR’s services are excellent. You may ride the gleaming new high-speed rail line from the new airport that takes you into the new central rail station. Or one of the nine rail and subway lines, including the special train that goes to Disneyland Hong Kong.

    What’s amazing about the agency that runs these lines, MTR, is that it actually makes money. So much money that it’s listed on the stock exchange, although the government still owns a majority share.

    What’s the secret? Writes Marshall:

    Hong Kong’s MTR doesn’t let private developers be the only ones that perch next to its stations. It builds its homes, offices and stores. In short, MTR acts as a real estate developer and business company, as well as a train operator. It owns, among other things, 12 shopping malls built around its stations. These properties and businesses produce substantial cash, which keep the transit agency as a whole in the black.

    It’s similar to the way privately financed railroads funded intercontinental railways: The railroads increased the value of land near rail stations, and the railroads made their money selling that land. Later, private streetcar lines did the same thing. In the case of MTR, the company started as a government- owned enterprise and privatized in 2000.

    Here in Virginia, we are dunning taxpayers, toll road commuters and commercial property owners to pay for rail improvements that will create massive windfall profits for a few well-situated landowners. We have handed over management of the enterprise to the Metropolitan Washington Airports Authority, whose board decisions have displayed a startling contempt for fiscal prudence. What if Rail-to-Dulles had been conceived as a profit-making enterprise organized by major landowners who stood to reap billions of dollars in value from their real estate holdings? They would have designed a route and system that struck a balance between (a) keeping system costs down and (b) maximizing utility to passengers and value to landowners.

    But what if such a consortium couldn’t pull it off? What if the numbers didn’t add up? Well, then, if the project can’t generate a competitive return on investment, perhaps it shouldn’t be built.

Now Available

Book cover of 'Dust Mites: A Second American Revolution' by James A. Bacon, featuring astronauts planting a flag with a blue and white emblem on a lunar landscape, with Earth visible in the background.
For sale on Amazon.com

The year: 2075. The American colonies on the Moon are getting restless under Washington’s tyrannical rule….

This second edition of “Dust Mites” has a snazzy new cover, includes helpful lunar maps, and is 5,000 words tighter than the original. The sequel, “Trogs,” is scheduled for publication this summer.

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