The Capital Letter: Week of January 11

Ten months after the coronavirus crisis decimated the labor market, the resurgent pandemic keeps sending shock waves through the American economy.

Though more than half of the 22 million jobs lost last spring have been regained, a new surge of infections has prompted shutdowns and layoffs that have hit the leisure and hospitality industries especially hard, dealing a setback to the recovery.

The latest evidence came on Thursday when the Labor Department reported that initial claims for state unemployment benefits rose sharply last week, exceeding one million for the first time since July.

Just days earlier, the government announced that employers had shed 140,000 jobs in December, the first net decline in employment since last spring, with restaurants, bars and hotels recording steep losses.

U.S. consumers cut back on retail spending at the height of the holiday season as the country confronted a surge in coronavirus infections.

Retail sales, a measure of purchases at stores, restaurants and online, declined a seasonally adjusted 0.7% in December from the prior month, the Commerce Department said Friday. That marked the third consecutive month of declines, and November’s retail sales were revised lower to a 1.4% drop, after a stretch of growth last spring and summer.

Stephen Stanley, chief economist at Amherst Pierpont Securities LLC, said December retail sales were “an absolute disaster.” Still, he said that “no matter how far we fall in the short run, the assumption in financial markets is that we’ll recover once the pandemic ends.”

Mr Biden’s $1.9tn plan, which will be entirely financed by new borrowing, includes a new payment of $1,400 to most Americans, supplementing the $600 cheques recently received by individuals earning less than $75,000 per year. That would bring the total value of recent direct payments to $2,000, the level backed by both Mr Trump and Mr Biden in recent months.

It includes a $400 per week extension of emergency unemployment benefits until September, preventing a cliff-edge in support for the jobless that would have happened in March.

There will also be a $350bn cash infusion for budget-strapped state and local governments to prevent lay-offs of public sector workers, a priority for Democrats that has been long-resisted by Republicans.

A further $50bn will be set aside for grants and loans to struggling small businesses, on top of the Paycheck Protection Program established during the pandemic to prevent small business failures, which was recently replenished by Congress.

A big component of Mr Biden’s rescue plan is $400bn of new spending to tackle coronavirus, including $160bn for testing and tracing, as well as a national vaccination programme that could help the administration meet its goal of inoculating 100m people within its first hundred days.

Also in the mix is $130bn to accelerate school reopenings across the country.

The US Chamber of Commerce, America’s largest business lobby group, was broadly supportive. “We applaud the president-elect’s focus on vaccinations and on economic sectors and families that continue to suffer as the pandemic rages on,” it said, adding: “We look forward to working with the new administration and Congress on the details and in ensuring that any additional economic assistance is timely, targeted, and temporary.”

Mr Biden is also expected to call for Congress to increase the federal minimum wage to $15 per hour, a Democratic priority for many years that is backed by labour unions.

And he will push for an expansion of the child tax credit, an extension of a federal moratorium on evictions and foreclosures until September, while providing $30bn in assistance for Americans struggling with rental and utility payments.

Some elements of the plan — particularly those that fight the virus directly — are at least worth debating. The vaccine rollout has not been as fast as anyone would hope, for example, and Biden would like to pump some money and manpower into improving it. But according to Biden’s own outline, only $160 billion in spending is targeted “to mount a national vaccination program, expand testing, mobilize a public health jobs program, and take other necessary steps to build capacity to fight the virus.”

Remember the whole kerfuffle about $2,000 checks to most Americans, regardless of whether they’ve been financially harmed by COVID-19? Well, that’s back. Biden wants to send another $1,400 out to complement the previous bill’s $600 checks.

Then there’s unemployment. The previous bill, quite justifiably, added $300 per week to the normal unemployment payouts until mid-March. As I argued at the time, this will pay some people more than they made while working, but it’s reasonable under the circumstances, and it should help the economy as it’s spent. Biden, however, wants to bring those bonuses up to $400 and continue them through September, adding that he’ll “work with Congress on ways to automatically adjust the length and amount of relief depending on health and economic conditions so future legislative delay doesn’t undermine the recovery and families’ access to benefits they need.”

By September, the vaccines should have been widely available for months, and the economy should be in far better shape. Why pass such a long-lasting measure now, rather than waiting to see how things go?

The US rental market is comprised of two different kinds of owners: the large institutional owner and the independent owner. Of the 44 million rental units in the US, independent landlords own the majority with a total of 24 million units. There are 8 million independent landlords across the country.

By one estimate, after 10 months of record job losses and business shutdowns, rental arrears in the U.S. may be closer to $70 billion.

The majority of . . . [the landlords who responded] are between 30-59 years old. They have full-time jobs and manage their rental on the side. They tend to own one unit with the goal of buying more properties. Their ideal portfolio size is 2-5 units.

Not all the provisions even have an obvious connection to the COVID-19 crisis. For good measure, Biden also tosses in a $15 minimum wage, which is above the median wage in some parts of the country, especially poor rural areas. In fact, $15 was the median wage, to the cent, for the state of Mississippi as a whole in 2019.

If Mr. Biden’s proposal is enacted, it would, along with $900 billion in December and previous measures, add $5.3 trillion to deficits, according to the Committee for a Responsible Federal Budget. That’s a staggering 25% of gross domestic product.

Though the economy is in bad shape, it may not need help on the scale Mr. Biden is proposing. GDP is now about 3%, or $700 billion annualized, below its normal, potential level, according to the Congressional Budget Office. The last round of stimulus could eliminate most of that gap, weakening the macroeconomic case for more . . .

Mr. Biden would push the national debt well over 100% of GDP, perhaps to a historic high. Yet parts of his plan—as outlined—aren’t well targeted either to reduce unemployment or help the needy. Boosting stimulus checks to $2,000 per adult from $600 will cost an estimated $464 billion. But 58% of the money will go to households earning more than $50,000, including some earning more than $200,000, according to the Tax Policy Center, a think tank. Most of these households aren’t holding back on spending because they have no cash, but because of Covid-19 restrictions. The $350 billion Mr. Biden proposes for state and local governments is much more than the revenue hit they have sustained.

Why was this lease offering so poorly received? For starters, there is too much oil on the pandemic-ravaged global market. Earlier this week, Saudi Arabia pledged to take 1 million barrels a day off the global market in an effort to convince OPEC members and partners to sustain cuts that could provide higher prices in coming months. This behavior is a clear signal that the value of additional oil on the market today is small, if not negative.

As I pointed out previously, this is a bad time to offer oil leases. But there are other factors at play. The expected change in regulatory oversight under the Biden administration likely played a role. So too did the recalcitrance of many banks to underwrite development of leases in this politically sensitive area. Any of the tracts east of Kaktovik are an awfully long way from any market, and the cost of bringing those tracts into commercial production will be especially high. America is literally awash in oil, and finding more in the top-right corner of Alaska is not that high of a priority, especially with strings attached.

Three things will happen now. First, the pace of the global recovery from the pandemic will determine the price of oil. The slower the recovery, the lower the price, and the less attractive North Slope development will be. Second, the incoming Biden administration has signaled opposition to any new leases and may make developing these leases more complicated and expensive. How legal challenges to the leases and regulation of development planning unfold could render the leases worthless. Third, the successful bidders will need to figure out how to get a return on their investments, most likely by partnering with oil producers. This is not unusual — less than 10 percent of federal oil and gas leases ever produce. The long-term return to the federal and Alaska Treasuries depends on receiving lucrative royalties, but a willing private partner with capacity to develop the remote leases will need to be rewarded for their efforts.

The CDC delayed testing for about two months. While it dithered, it blocked private parties from testing. University labs, for example, were blocked from making and conducting their own tests. During those two months, someone could sell you a thermometer to detect a COVID-19 fever, but if someone tried to sell you anything more effective, the FDA would stop them. Once it finally approved paper-strip tests in November, the FDA insisted that $5 paper-strip tests require a prescription and be bundled with an app, driving the cost to $50. Rapid testing that lets people who are sick isolate, and lets businesses ensure that employees are healthy, is only just becoming widely available, held back for six months by the FDA.

Let’s imagine that the government had not prohibited free-market activities. This is not anarchy, just a lightly regulated sensible market on top of whatever the government wants to do.

Private companies would have developed tests quickly and would have worked to make them faster, better, and cheaper. Why? To make money! Lots of people, businesses, schools, and universities are willing to pay for good, fast testing. Medical companies, knowing they could make a lot of money so long as they beat the competition, would have raced to develop and sell tests. We would have had $5 or less at-home paper-strip tests by late spring. And that would have enabled much of the economy to reopen.

Why does the FDA forbid businesses from telling you what’s inside your own body? Unlike a drug, a test result cannot harm you. Sure, the test might not be perfect, but it would be a lot better than relying on thermometers. Even if you catch only half of the sick people, you can cut the virus’s reproduction rate in half and end its spread. Sure, companies and the FDA should evaluate tests and disclose their false-positive and negative rates. But why forbid companies to make and sell us tests?

Would it be perfect? No. People might ignore positive results and go out anyway. People might not take tests. But did the government do better than the market would have done? Not by a long shot. “The market is not perfect” does not mean “the government is better”!

The first two vaccines were invented in a weekend in January. Then we waited an agonizing 11 months for the drug companies to conduct clinical trials on a small number of volunteers, and for the FDA to grant emergency-use authorizations. Yes, this is the emergency fast track. Approval normally takes years.

In a free market, as soon as the drug is safe, everybody becomes part of the clinical trial. If you want an untested drug, and understand the risks, we won’t put you and the drug company in jail for trying it. We gain experience much more quickly with what works and what doesn’t. In a free market, this pandemic would have been over by midsummer . . .

Huawei’s chief partner in robotics is ABB, the world’s largest maker of industrial robots, with more than 400,000 machines installed worldwide.

Sentient industrial robots that design their own production procedures, robo-surgery by remote control, and augmented-reality mining coal may sound like science fiction, but Huawei and its partners — the heavyweights of the medical technology and robotics world — have already built the technology. If we fell into a coma and woke up ten years from now, we wouldn’t recognize some basic industries.

Huawei is building the world’s biggest Cloud computing capacity and racing to design the world’s fastest artificial-intelligence processors. And behind Huawei stands the Chinese government’s massive commitment to supercomputing, and — most ominously — to quantum computing. The conversation with Huawei’s Paul Scanlan was a blast of cold air. Americans are busy with the valuation of competing providers of streaming video, the relative merits of e-commerce platforms at Amazon and Walmart, and the profitability of the 110th smartphone dating app. The Chinese want to transform the way we live. They do the physics, and we do the apps. We are becoming geeks in a new Roman Empire.

President Trump has made significant and meaningful contributions in regulatory policy. (Indeed, his administration has done much more in this respect than many of his predecessors.)

As we know, regulations have unintended consequences, a famous example of which is the minimum wage. Well-intentioned advocates of a higher minimum wage usually want to give working folks a few extra dollars in their pockets each week. In so doing, however, businesses will invariably hire fewer workers (and fire a few as well). Unfortunately, many who would have otherwise been happy to work for the minimum wage then find themselves in the unemployment line.

While this is hardly what policy-makers intended, the unintended consequences of unemployment are at least reversible. The government can — and indeed does — offer a variety of services to assist individuals facing such straits. When policy consequences entail loss of life, however, there is of course nothing that can be corrected or undone.

Examples of life-threatening policies are more common than you may think. Consider fuel-efficiency regulations, which can increase mortality for several reasons. First, auto companies predictably respond to these rules by making some cars lighter. A lighter vehicle can go farther on the same tank of gas, but is also far more dangerous in the event of a crash.

Second, research also finds that people respond to having a more fuel-efficient car by driving more miles in what is known as the “rebound effect.” In addition to offsetting some of the environmental benefits of fuel-economy standards, this effect also offsets some of the health benefits of reduced air pollution. Indeed, because driving is one of the deadliest activities people engage in on a routine basis, when people drive more miles, some fatalities occur that would not have otherwise.

The Trump administration took the rare step of acknowledging some of these unintended consequences when it finalized new fuel-economy standards last year. While some may disagree with the administration’s exact numbers, few would argue that consideration of such impacts is not a worthwhile exercise when there is hard evidence to back it up.

In fact, economists have long had tools to do just that. Economists and risk analysts long ago developed models for estimating fatalities caused by government-mandated expenditures. As it turns out, most regulations can be expected to increase risk along some dimensions. When resources are spent in one area, they naturally incur an opportunity cost (i.e., the resources aren’t spent in some other area, such as on health and safety).

In a new Mercatus Center research paper, we find that binding federal regulations are associated with higher levels of mortality across the 50 states . . .

Conservatives are getting a little fed up with Big Business. Tech overlords are at the top of the you-know-what list — especially after they worked together to kick our deranged president off the major social-media sites and sideline the fringe alternative Parler. For the past several years, major corporations have made a big show of supporting woke causes in one insufferable commercial after another, while subjecting their employees to tedious, insulting, and ineffective bias training. There have even been calls for banks and credit-card companies to monitor and police Americans’ gun purchases.

We on the right do need to rethink our relationships with the huge corporations that hate us even after all those sweet tax cuts we gave them. But we need to do so carefully, especially when making government policies that could fail, backfire, or violate basic conservative principles in the name of knocking liberals down a peg.

A case in point: The Trump administration’s Office of the Comptroller of the Currency (OCC), in a blitz to finish work before Biden and his minions arrive, is busy finalizing a rule that would force banks to take on customers they do not wish to be associated with, such as by lending to oil and gun companies. The move is legally dubious, unsound as a matter of policy, and a little odd coming from an administration that prides itself on deregulation. It’s what happens when conservatives succumb to that age-old urge of “Why, there oughta be a law!”

Don’t overlook the extent the role that regulators are playing (or are about to play) in driving a torrent of cash into (at least nominally) green investments.

I’ve written before about the mission creep by regulators now determined to do their bit (as they see it) to fight off climate change, often (allegedly) on the grounds of risk control, a distinctly dubious proposition on any reasonably balanced consideration (FWIW, when it comes to climate change, I’m a lukewarmer) of what lies ahead in the next five to ten years.

Writing in Real Clear Energy, Rupert Darwall examines in some depth the way that regulators have being using climate risk as a way to expand their mandate, focusing in particular on the CFTC (the Commodity Futures Trading Commission — I wrote about the Commission in this context here), and on the way that it operating in a manner that is — let’s be kind — not altogether trustworthy. The whole article is very well worth reading, but, when thinking about a green stock bubble, I’d flag this (my emphasis added):

“The CFTC makes no secret of seeing its job as finding ways to channel capital toward net-zero investments. When financial regulators and central bankers start playing climate politics under the guise of promoting financial stability, they lose focus on their core responsibility. Markets thrive on diverse, often conflicting, views of the future. They over-heat when a single view predominates. Savage corrections can follow… And therein lies the true threat to financial stability.”

That’s an inconvenient truth that is unlikely to be included in the list of risks compiled by regulators who appear to be ready to allow ideology to trump their prudential responsibilities.

One of the numerous shared characteristics of “socially responsible” investing and the (closely linked) ideology of “stakeholder capitalism” is the way that both are being used to push through a progressive political and social agenda (particularly when it comes to environmental issues and, more specifically, climate change) without going through the usual democratic process.

One way of achieving this is by forcing change through by regulation rather than legislation . . .

President Trump’s departure will likely be as rancorous as Nixon’s, and conceivably even more so. While many policies contributed to the miserable economic path of the 1970s, the turmoil preceding Nixon’s departure tossed the nation into a world of too many unknown unknowns for comfort, to borrow a later phrase. It is feasible enough to think through the possible range of outcomes as, say, a George H. W. Bush is replaced by a Bill Clinton in a peaceful and collegial transition of power. But when Nixon left, it seemed impossible to define the full range of possibilities that could possibly emerge over the following few years. The same may well be the case as Trump departs.

In other words, we have entered a world, as we did back in the 1970s, when economist Frank Knight’s theories suddenly find themselves front and center — a world where uncertainty rather than risk dominates. In his 1921 book Risk, Uncertainty, and Profit, Knight argued that “risk is present when future events occur with measurable probability, uncertainty is present when the likelihood of future events is indefinite or incalculable.” Since the publication of Knight’s great work, economists have developed sophisticated models that distinguish between risk and uncertainty, and when uncertainty is high, the smooth functioning of markets can collapse . . .

With a price-level target, consumers and businesses can judge the Federal Reserve’s credibility by observing the actual price level relative to the targeted trend path. If it is clear that Fed policy is not consistent with the price-level target, causing a growing or persistent gap between the actual data and the target, policy ceases to be credible. This explicit target is also a way to hold the Fed accountable for its policy decisions. However, with average inflation targeting, there is no explicit target and no clear timetable for a return to a trend in the price level. Furthermore, there is no clear pronouncement on the length of time over which the average is calculated. The shorter the time horizon, the more likely misses above or below the target will not be corrected.

The thing about average inflation targeting is that it is quite similar to plain old inflation targeting. Typically, there is some margin of error around an inflation target that is deemed acceptable. A central bank targeting an inflation rate of 2 percent might deem anything between 1.8 percent and 2.2 percent acceptable. Assuming the central bank is successful, it is likely to hit 2 percent on average, over time.

The problem with the Federal Reserve over the last several years is that its inflation target has not been symmetric. It has allowed errors, including pretty significant errors, below 2 percent, but has rarely allowed inflation to rise above 2 percent. The pattern has been so persistent that some argue (here and here) that the Federal Reserve’s inflation target was actually an inflation ceiling. What about this recent experience suggests that the Federal Reserve can commit to symmetrical errors around its inflation target?

Average inflation targeting gives the Federal Reserve greater discretion than a price-level target. The Fed always has the option to let bygones be bygones and does not have to answer to Congress about gaps between the actual price level and its target, because no such explicit target exists. With average inflation targeting, the Federal Reserve is promising not to make the same mistakes as it did in the wake of the financial crisis and is promising to correct for any future policy mistakes. The problem is that there is no clear commitment mechanism. A cynic might say that is the intention.