Apple, Taxes, and Bad Arguments

I've recently acquired a kind of masochistic hobby--subjecting myself to the economic journalism at the progressive media outlet, The Intercept. I'm not entirely sure why I do it. But whatever the reason, every once in a while I come across some delightfully infuriating gems. Today was one of those days.

Unsubtly titled "Paying Taxes Is A Lot Better Than Phony Corporate Courage, Apple", the piece was prompted by Apple's fall product conference, which The Intercept aptly described as a "quasi-pagan" ritual for Mac lovers. But as the title implies, the real focus of the piece was on criticizing Apple's thorough tax avoidance. Apparently, Apple's CEO used the word "courage" during the day's event, and The Intercept is humbly implying that paying taxes would be a much more courageous act for them than whatever they're doing now.

We have previously touched on the Apple-EU tax feud, and won't rehash the details here. However, the piece is still striking for at least two reasons:

• It shows the ease with which progressive-leaning commentators can simultaneously acknowledge the existence of incentives and disregard their implications.
• It assumes, without evidence, that increased tax revenues mean better government services, specifically in the realm of education

On the first point, the relevant section from The Intercept reads as follows (emphasis in original):

[Apple's] official corporate position is now effectively We’ll pay what we want, and you’ll deal with it; Tim Cook himself has said Apple will only repatriate its vast billions to the U.S. if it’s at a rate he considers “fair.”

Now, the writer uses scare quotes to denote the apparent absurdity of Apple's position. But the implication should still be relatively clear. If the tax rates were lower (fairer, in Apple's verbiage), Apple wouldn't bother with intricate and onerous tax planning strategies to avoid them. In other words, if the incentive to avoid taxes was lower, companies and people would be less likely to avoid taxes.

This idea should be obvious at a moment's contemplation. But in The Intercept's telling, this fact is not even worth considering. Instead, we're stuck in a world rich in platitudes and poor in reasoning. The reader is left to conclude Apple is just a greedy corporation, but if they were courageous, they'd pay taxes to help the children. Who needs cause and effect when you have bulletproof logic like that?

Second, The Intercept makes much ado about Apple's marketing emphasis on education. Apple's apparent contribution to this worthy cause is an improvement to their collaborative office software, iWork. Of course, one wonders how helpful it will be given that Google Docs has existed for years and happens to be free.

The Intercept happens to share my skepticism about Apple's iWork plan, but they offer a questionable remedy:

It seems unlikely this will make a substantial difference in the quality of education for children around the world — particularly in countries where public schools are underfunded because companies like Apple deliberately avoid paying taxes.

Again, the takeaway is clear. If Apple and others like them would pay more taxes, public education wouldn't be as bad as it is. This seems reasonable on the surface--the idea that if more money were spent on public schools, the quality would go up. In practice, however, the relationship is not so clear. Indeed, many studies have shown that, at least in developed countries like the US or the EU countries which have been allegedly cheated of tax revenues by Apple, the effect of increasing spending on public education on educational outcomes is negligible. The nature of statistics being what it is, I have no doubt you could find studies suggesting the opposite. But the point here is that the question is very much in dispute.

This odd phenomenon stems from the very unique way we assess problems in governmental institutions relative to the way we assess problems in private institutions. If you went to a store and had a poor experience, what would you think of that business? Depending on the details, you might think they were lazy or incompetent or rude, or some combination thereof. Most likely, your first instinct would not be this:

You know, they probably just don't have enough money. I'm going to keep going back to that store and insist on giving them extra money to help them get on track.

Of course, you wouldn't think that way because it's silly. And yet, that is the default response most of us have when it comes to failures of government. We don't assume that the managers of the government institutions are incompetent and lazy. Instead, we implicitly assume they are blameless in the whole affair and they just need more funding. In some cases, that might be true. But it is clearly unreasonable to assume so by default.

Unfortunately, The Intercept doesn't heed this warning. Instead, the reader is treated to an improbable understanding as a way to criticize Apple.
Assumption 1: Public schools perform badly because they lack funding.
Assumption 2: Public education lacks funding because companies like Apple dodge taxes.
Therefore: Apple could help solve the public education problem if only they paid more taxes.

Both of the supporting assumptions are extremely dubious, but they sound true until you dig deeper. In this way, it's a microcosm for many economic notions advanced under the banner of progressivism--superficially plausible but unable to withstand basic scrutiny.

Summing Up

Obviously, there are many things that are more newsworthy for our purposes than the dimensions Apple's latest iPhone. However, The Intercept's take is fascinating because it shows how many dubious economic assumptions can be subtly baked into an argument without readers, and perhaps without even the author himself, realizing it.

*Also, for what it's worth, I'll have you know I'm not an Apple fanatic by any means. Quite the opposite really. In my adult life, I've bought exactly one Apple device, and in that case, I did so begrudgingly, and as a gift. I don't have any special reason for opposing Apple; their products (and prices) just don't do it for me. On the topic of courage, however, I will say my opinion of Apple rose considerably when they stood up to the FBI last winter on encryption. Paying taxes probably doesn't require much courage; standing up for civil liberties to the most powerful government in the world, on the other hand, most certainly does.

EpiPen Price Hikes Are a Product of Government Failure, Not Market Failure

The EpiPen price hike story is tailor-made for political outrage. It involves a large for-profit corporation, a life-saving device, triple-digit price hikes, and as usual, poor people and their children are the ones that suffer the most.

For many people, it's a textbook example of market failure that demands government intervention.

In fact, it's a perfect example of government failure, and the best solution will be found in freer markets, not increased regulation.

Background
Before we get to the economics of it, it's worth rehashing the basics of this scandal.

The EpiPen is used to treat life-threatening allergic reactions on the spot. It works by delivering a preset dose of the drug epinephrine. The tool is simple enough that even people who are panicking during an allergic reaction can self-administer the medication they need. It's a great idea, and it's been around since the 1970s. Epinephrine has also been around for some time, and is available in cheap generic forms today.

The problem is that one company, Mylan, owns the rights to the EpiPen device, and it has had a near-monopoly on the market. Thus, depending on where you read it, the price of the EpiPen has increased by 400 or 500 percent since around 2007. Given the critical nature of the device for people with serious allergies, these price hikes have not been too popular.

Economics
But this is where economics comes into play. Companies don't raise prices in a vacuum, and precious few could manage a four-fold increase and live to tell about it. If companies are raising prices dramatically and still making money, one of the following must be true:

1. Their product is perceived to be so much better than the competition that their customers are willing to pay more. (Think Apple vs. PC.)
2. Their product, and the underlying resources are in very short supply, and all companies in the industry are being forced to raise prices as a result. (For instance, this can happen for building materials after a natural disaster takes place.)
3. Or more commonly, the company has little to no competition. And the government is keeping the competition out.

This last scenario is what accounts for the EpiPen's meteoric price rise.

In particular, the Food and Drug Administration has to approve any competing product before it can be sold in the US. And getting products approved by the FDA is a notoriously time-consuming and expensive process. As Reason notes, many companies are trying to compete in the epinephrine injection market, and the FDA has blocked most of them.

Meanwhile, the one product that has been approved by the FDA, Adrenaclick, has also been subtly sabotaged as a meaningful substitute. How? The FDA made it illegal for pharmacists to substitute a different version of the epinephrine injector for the EpiPen unless explicitly called for by the prescribing physician.

In other words, there's a reason that Mylan has been able to raise the price of a life-saving technology by 400 percent over the past decade. And that reason is government, not capitalism.

The Story and the Snapshot

The EpiPen is a new story, but in some ways, it's just a new version of the same story. It goes something like this:

The government steps in to regulate the market in order to protect consumers. 

These regulations have unintended consequences, and serve to restrict the amount of competition and supply in the market. 

Prices rise as a result.

Consumers complain about the price increases, and government introduces subsidies or other programs to offset the cost. Invariably, some consumers will fall through the cracks and find themselves without any access to the product they want or need. 

Even if we assume the best, purest intentions of government at every step of the way, the above story is still the likely result. The government starts with a good intention and ends up harming the very people it aimed to help. Of course, if we assume any corruption exists, the result deteriorates further.

It is near the last stage in the process above that these stories go viral, with politicians and everyday people starting to take note. 

And at this stage, all that gets reported is a snapshot--prices are extravagant, consumers are suffering, and usually, some corporation is making a lot of profit off all of it. And in that snapshot, capitalism really does look like it's at fault. Calling for more government intervention is the default response--after all, capitalism failed right?

But when we look beyond the snapshot, we see that capitalism is just the scapegoat for failed government policies. And if government intervention got us here in the first place, it's not likely a new intervention is going to provide the cure.

How Political Incentives Ensure a Pension Collapse

The State of Illinois just offered a wonderfully explicit example of how political incentives can lead to financial ruin.

The topic at hand was one of the state's numerous government pension funds--the Teachers' Retirement System (TRS). And like most, if not all, government pension programs, this one is deeply underfunded. As it stands, the pension fund's assets are estimated to cover just 42% of its obligations.

In essence, this means that under current assumptions about workers' life expectancy, future benefit payments, future investing returns on the pension assets, and future government contributions to the pension fund, the plan would have to start paying 42 cents on the dollar to pensioners right now in order to be sustainable in the long term. That gives you some sense of how bad things are.

But in reality, however, things are actually much worse.

The problem is that at least one of the assumptions used to calculate the pension's status is entirely implausible. The TRS assumes that they will earn an average 7.5% investing return on its funds. But the Federal Reserve's aggressive monetary stimulus efforts have pushed interest rates and bond yields to extremely low levels. And rates have stayed that way for years on end. For example

All of this has severe negative ramifications if you're a pension fund that invests in bonds to provide a safe and reliable return. As of this writing, even long-term US government debt like the 30-year Treasury yields a mere 2.24% return, and corporate debt doesn't offer much higher returns. Thus, in the current environment, pensions can no longer count on earning a 7.5% return with an acceptably low level of risk. But when the pension accountants go to calculate just how deep in the hole they are, this reality is forgotten. The accounting assumes the fund pension will continue to make 7.5% in spite of the fact that it has no realistic chance of doing so.

And this is where politics come into play. A growing number of analysts and observers are starting to note the obvious--that it is clearly absurd for pensions to assume a 7.5% return. Some have suggested a more modest figure like 4% would be much more credible and achievable, and honest, for anyone who cares about that.

But if this reality were acknowledged for a pension like the TRS, then the government would be obligated to contribute dramatically more funds to the pension to try to make it sustainable. This means higher tax rates or less spending in other areas--neither of which are going to be politically popular.

Thus, the governor of Illinois, Bruce Rauner, is trying to do everything in his power to kick disaster down the road, and presumably beyond his tenure as governor. There's nothing especially novel about a politician trying to ignore reality and delay negative consequences. But this case is still exceptional for just how bluntly they are willing to explain this rationale.

As Reuters reports, a senior adviser wrote a memo on the TRS pension situation, which included the following:

If the (TRS) board were to approve a lower assumed rate of return, taxpayers will be automatically and immediately on the hook for potentially hundreds of millions of dollars in higher taxes or reduced services.

And so, Illinois' Senate Minority Leader Christine Radogno proposed a bold political solution. Just kidding. Here's what she said:

This issue is important enough at the very least to put the TRS board on notice [that] we don’t want them taking any action that could cost taxpayers $200 to $300 million without appropriate scrutiny.

In other words, the TRS needs to continue to pretend that all is well with its investments, so that Illinois isn't forced to take action to address the problem now.

Of course, a compelling case could be made that the pensions in Illinois are already well-beyond saving. But what this latest exchange shows us is that even if they could be saved, mathematically and economically, it will always be impossible to save them politically.

Faced with the current pension crisis, the right response economically is to start acknowledging and addressing the problem as soon as possible. That would allow the financial pain, to pensioners and/or taxpayers, to be spread out over a longer time frame and could avoid an outright collapse. But the right response politically is to deny a problem exists to avoid causing voters any pain until the problem is too big to ignore (or fix).

In a case where rational long-term decision-making could produce a softer landing for the pension problem, politically motivated decision-making all but ensures the problem will end in full-on collapse.

It's true for Illinois and it's true for Social Security. It's not because the politicians are bad or stupid (though they may be). It's just that their incentives are wrong.

We can't trust people with short-term incentives to make good long-term decisions, yet that's what government pension programs ultimately require. Thus, we should not be surprised to see them slowly, tragically crumbling all around us.

(For readers interested to read more about this story and additional context on the Illinois pension crisis, this summary from Zero Hedge offers an excellent analysis.)

How Government Helps Perpetuate Poverty

Poverty may be the worst thing that conservatives and progressives agree on.

It's not on policy, mind you. But their policy proposals are both motivated by same basic assumption about what causes poverty--namely, the ignorance and incompetence of poor people themselves.

Some may surely bristle at this description, so it's useful to see how this concept is evident in the ideas that are explicitly advanced by both conservatives and progressives.

Conservatives tend to assume that poor people are poor because they make bad life choices. Maybe drugs, maybe having sex and getting pregnant too early, or maybe just spending more than they can afford to. And from this, conservatives often conclude we need not use government policy to help poor people. After all, they brought it on themselves, so how can we hope to save them from their own bad choices?

As appalling that position may sound, the progressive take is not really much better. Painting with a broad brush, progressives generally believe poor people are poor because an array of systemic forces stand in their way of a better life. They aren't wrong about this, but they are wrong about what those forces are.

Usually, progressives view the poor as a victim of the capitalist system, and every business they interact with is hellbent on exploiting them. Employers want to pay them too little, landlords want to charge them too much, and grocery stores probably want to sell them junk food--culminating in the relatively new issue of food deserts.

But notice what the progressive story also entails. In a capitalist system, people can't be (legally) exploited without their consent. What progressives are often ultimately saying about poor people is that they don't know what's really in their best interest.

Splitting a flat with another family might be necessary to save on the cost of rent. But it would be too degrading to their dignity so it shouldn't be allowed; city planning codes can make it illegal to solve this problem. This may make housing too expensive, no matter. No matter, we'll have the government depress interest rates and build affordable housing to fill the void.

Working overtime might help poor people make ends meet. But as we know from Mr. Sanders, progressives believe that if you work 40 hours a week, you should earn enough to not be in poverty. Thus, employers should be punished for making anyone work more than that and they are--in particular, employers have to pay time and a half for every hour above 40 per week. This seems like a benefit to the worker, but in practice, it serves to eliminate choice and flexibility. If the 41st hour of the week costs 50% more than other labor, employers will be reluctant to pay for it. So poor people who need to work more than 40 hours to get by may need to find a second job instead, since working overtime has become artificially expensive for employers and that much harder to find.

Not to worry, this has a solution too. If working 40 hours isn't enough to get by right now, then we just need to raise the minimum wage. And so on, and so forth.

Each progressive intervention creates problems that warrant new interventions to solve them. But the root cause in all of it is the same. Poor people are not smart enough to make good decisions for themselves--what wage is appropriate, how much they should work, how they should live, etc. Instead it's up to the high-minded and selfless progressive to craft policy to make certain unsavory choices illegal--thereby preventing the poor from being exploited.

Thus we see that, while the motivations and policy prescriptions may differ markedly, the fundamental assumption about poor people is the same for many conservatives and progressives alike: poor people are poor because they don't act in their own best interest. For conservatives, this is a justification for doing nothing at all, a defense of the status quo. For progressives, it's a justification for an endless series of interventions in the economy designed to help the poor, without regard for likely consequences.

Libertarians take a different approach.

Broadly speaking, we agree with progressives that there are a myriad of systemic forces that exist today that help keep people in poverty. The problem is that we believe most of those forces are the creation of government, not of capitalism.

We believe that poor people are in the best position to decide what is right for themselves. And each intervention that restricts their choices, no matter how well-intentioned, is likely to make them worse off.

To see exactly how this phenomenon manifests in practice, we recommend this excellent article from Charles Johnson at the Foundation for Economic Education. In it, Johnson shows how well-meaning policies on everything from housing to food safety have created a world where it is extremely difficult for poor people to get ahead or even get by. It's an essential read for anyone who cares about these issues.

Here's the link:

Scratching by: How Government Creates Poverty As We Know It

Obamacare Meltdown Shows the Importance of Profits

Let me tell you a story.

Ever with good intentions, Congress passes a law to further regulate a market that was already heavily regulated beforehand.

Private businesses try to participate in this market, only to find that they continuously lose money, year after year.

Said private businesses cease participating in this market in order to stop losing money, and focus their efforts elsewhere.

How would a reasonable person describe the behavior of the businesses? Rational, prudent, obvious?

How about greedy?

On the economic left, that appears to be a winning explanation for the fact that another major health insurance company has decided to withdraw from more of the Obamacare exchanges. Specifically, Aetna has announced plans to withdraw from 11 of the 15 states they have been participating in.

Senator Bernie Sanders offered a characteristically moderate assessment of the news:

It is disappointing that Aetna has joined other large for-profit health insurance companies in pulling out of the insurance marketplace. Despite the Affordable Care Act bringing them millions more paying customers than ever before, these companies are more concerned with making huge profits then ensuring access to health care for all Americans.

A similar tone was struck by others in the progressive community, as noted in the piece cited above.

So what's Bernie talking about? Is Aetna simply walking away from profits in an effort to smite poor and sick Americans?

No.

In fact, according to Zero Hedge. Aetna is projecting that it will lose $300 million on its Obamacare exchange business in 2016 alone. In context, this would represent 12.5% of Aetna's net income from 2015. So it's not going to bankrupt Aetna, but it is still significant.

Bernie is right that the Affordable Care Act brought in more paying customers; the problem is that those customers aren't free. The average healthcare expenses that came with them, at least in the state exchanges,  were dramatically higher, on average, than the premiums and resulted in substantial losses for Aetna and others. Indeed, there has been a veritable flood of major insurance companies rushing for the exits on the Obamacare exchanges.

Bernie is also right that the health insurance companies are putting profits before ensuring access to health care for all. Of course they are. They are for-profit companies; it's kind of their thing.*

It's easy to blame for-profit companies for Obamacare's downfall, because people love to hate them. But it's not a new story that for-profit companies exist to seek profit. This was true before Obamacare was passed, it's true now, and it will be true in the future. Which leads us to a critical point:

If your healthcare policy requires companies not to pursue profits in order for it to be successful, then it is a terrible policy.

It's the economics equivalent of trying to fly by jumping off a cliff. It would have worked if gravity didn't exist, you say. Maybe so. But gravity does exist, and we know that in advance. Thus, it's a terrible idea, too.

The value of profits
More to the point, it's worth pushing back on the casual assumption that profits are evil. Profits are not evil. In fact, they are essential for a market economy to work. And the Aetna decision illustrates this point very well.

It is beyond the scope of our present discussion to give a full economic explanation of profits. But in the context of the healthcare, profits are a sign of sustainability. I don't mean sustainability in the environmental sense, but in the economic one.

If a business is making profits off providing a service, then chances are, it will continue to provide that service in the future. It's in the business's own self-interest to do so.

In a market-based healthcare system, everyone in the chain of service delivery needs to be able to make money--the doctor, the hospital, the medical supply company, and yes, even the damn health insurance company. Because if any member in this chain is failing to make money, then they are a risk to drop out.

This is precisely what happened with Aetna. It was losing money on the state exchanges, so it stopped participating. In some cases, this might be a minor inconvenience for policyholders who still have several options remaining. In other places, however, it is expected to reduce the highly touted competitive exchanges down to a single provider. So much for choice.

The core problem is that if the service-provider isn't making money, then it ceases to be about economic self-interest and starts becoming an act of charity. There's nothing wrong with charity. It's a wonderful thing. But people (and businesses, in some cases) provide charity when they have the resources and desire to do so. If they encounter financial challenges in their own life, they may have to cut back on giving and take on more profitable work. This obvious reality makes charity far less reliable and enduring than a regular market exchange that is in both parties' interest.

Based on this understanding, Aetna's decision must be viewed in a new light. Aetna's losses may have been due to the new Obamacare requirements, managerial incompetence, or a mixture thereof. In any case, something had to give. If we really want healthcare coverage for all, we probably also want that coverage to continue to exist over time. In other words, it needs to be sustainable.

And for it to be sustainable, it must be profitable--even for that widely-derided fount of evil known as the health insurance companies.

What comes next?

The Common Dreams article cited above suggests that the continued withdrawal of companies from the healthcare exchanges proves that a single-user system is necessary. And at least, that kind of system would not rest on the core structural problem in Obamacare, which all but ensures insurance companies will not be able to break even, as we wrote about previously. A single-payer system does away with the notion of profit and loss entirely, since the government clearly doesn't care if costs exceed revenues (at least for now).

That said, we must recognize that the Affordable Care Act was a substantial expansion of government intervention into the healthcare market. The result has been a very rapid collapse.

In other words, a large government intervention in a market proved to be a huge failure. Yet the proposed remedy is to give that same government even more control of that market. This should give us pause.

*Indeed, the publicly traded companies are actually required by law to attempt to maximize profits; that is, management can be sued by shareholders if they prioritize something besides profits.

Note: Another suggestion put forth to explain Aetna's behavior is that they are trying to use the bad publicity on Obamacare as leverage so that the Department of Justice will permit a major merger to go through. Senator Warren has suggested this, for instance. And the CEO of Aetna actually stated somewhat explicitly that, in the absence of a merger, Aetna might have to withdraw from its remaining states.

Certainly, this is a good negotiating tactic, but the conspiratorial angle is far from compelling. Of course, Aetna wants to pursue a merger that could save costs and further expand their insurance risk pools. That's obviously true, and it's conceivable it could help their bottom line. Fair enough.

But linking the decision to actually leave to their blackmail efforts seems to be a stretch. After all, they would have just given away 11 states worth of leverage without gaining anything in return, if this was the opening bid. So if the whole point of withdrawing was blackmail, then Aetna is awful at it.

Why You Shouldn't Believe the US Jobs Data

Earlier this month, the Bureau of Labor Statistics (BLS) released the latest jobs report data for July, showing that the US economy created 255,000 jobs. This was viewed as great news, and the financial markets and media seemed to breathe a collective sigh of relief.

That's because everyone was afraid it would be a lot worse.

You see, back in May of this year, the jobs report was nothing short of abysmal. After revisions, the number for May came in at just 24,000 jobs. This came on the heels of dramatic market instability in the first quarter of this year and a series of declining jobs reports preceding it:

• February (still normal): 233,000 jobs increase
• March (getting weaker): 186,000 jobs increase
• April (weaker still): 144,000 jobs increase
• May (falls off a cliff): 24,000 jobs increase

This trend seemed to be going in one direction, and it wasn't a good one. Thus, everyone was ecstatic when jobs shot back up in June by 292,000 (after revision). This positive sign was seemingly confirmed in July when the economy added 255,000 more jobs, beating all the expectations. Additionally, the hourly earnings for July were reported to increase by some 2.6% year-over-year.

Assuming all of this is true, these latest data points are certainly great signs for the US economy. But there's good reason to think the jobs data is just wrong.

Why does this matter?

It may not be obvious why anyone should care about the total number of jobs in the economy, provided your own job is still part of the total. As the old saying goes, it's a recession when your neighbor loses his job. It's a depression when you lose yours.

And in a sane world where the government did not take responsibility for managing the economy, the jobs data would not matter. In the world in which we actually live, however, it is one of the most important drivers of US fiscal and monetary policy. If the jobs data is too low, that means more spending by the US government, lower interest rates from the Federal Reserve, or both. Both types of policies have negative long-run consequences.

The jobs figures are also the primary numbers used by politicians to either celebrate or criticize the state of the US economy at any given moment. For this reason, we can expect them to make an appearance in the upcoming presidential debates. Hillary Clinton, running for a de facto third term of President Obama, will highlight the numbers if they remain strong through November. Meanwhile, we should expect Donald Trump to call them out if they weaken significantly.

So what does the other data say?

There are several other data points that point in the opposite direction of the jobs numbers. Here are a few of the most important ones:

GDP is basically stagnant

Gross Domestic Product (GDP) never makes the list of talking points when people want to praise the economic recovery during President Obama's tenure. That's because it's pretty awful by historical standards. Two charts make this point quite well.

First, here's a chart showing annual GDP growth for all years between 1950-2014, ranked from least to greatest. Years under President Obama's leadership are shown in red.

Second, here's a more zoomed in look at just the last several quarters. As you can see, things have recently been even worse than normal:

Now, as economic statistics go, GDP probably gets more emphasis from economists than it deserves. And it surely involves many complex calculations and assumptions to compute it each quarter. That said, it still conveys some information.

And right now, the GDP data is telling us that the US economy is still technically growing, but at a rate that is very weak by historical standards, just 1.2% in the latest quarter. It's not a recession; it's just not very good.

Corporate profits are falling

Even more telling than the GDP data is the dramatic decline in corporate profits over the last several quarters. US stocks may be near all-time highs, but their performance has had no connection with the performance of the underlying companies.

Here's the year-over-year change in corporate profits since 2000. All the data hasn't come in for Q2 2016, so here's how things looked through Q1:

As you can see, corporate profits have actually been declining (below 0 on the above chart) on a year-over-year basis for the past five quarters. This decline is expected to persist through Q2 2016 based on the earnings information that has been reported so far.

US tax receipts are basically flat compared to last year

Another bad sign comes from the tax receipt data from the US Treasury Department. For the first seven months of the year, total tax receipts are essentially flat compared to last year, down roughly $20 billion.

Meanwhile, if we look at receipts from income tax withheld--the amount pulled directly out of your paycheck by your employer--these figures are up just 1% year-to-date. Those gains were offset by declines in corporate taxes as well as other non-withheld income taxes.

Given that US tax policy has not radically changed since 2015, the slight decline in tax receipts seems to be driven by deteriorating economic activity overall.

Back to jobs

Bringing all of this data back together, we have the following:

• GDP growth is hovering around 1%, well below what anyone thinks is a normal level of expansion.
• Corporate profits have declined for 5 going-on 6 consecutive quarters now
• US tax receipts have actually declined slightly for July YTD, relative to the prior year

Of these, the latter two data points are particularly striking because they don't rely heavily on assumptions. Corporate profits are calculated according to established accounting principles and subject to regular audits, and one assumes (hopes?) that the Treasury Department knows how to count up all the money it receives.

All that is left is to ask some obvious questions:

If corporate profits have been steadily declining, is it likely that they are going to be creating a lot of new jobs in the US?

The number of jobs in the economy is increasing each month at an year-over-year rate greater than 1.5%, and hourly wages reportedly increased at more than 2% in the latest report. So officially, more people are working, and on average they are making more money. Given this, and the fact that we have a progressive income tax, how is it possible that income tax withholding is only up 1%?

Simply put, these are facts that do not fit together. At least one of these numbers seems wrong.

And basically, we have three core data points to indict: corporate profits, tax receipts, or the BLS jobs data. 

If corporate profits are the source of our problems, that would mean many corporations have artificially understated their profits. This seems unlikely.

If tax withholding data is wrong, that would mean, in essence, that the Treasury Department hasn't figured out how to use a summation formula. I try not to put much faith in the competence of government officials, but this seems like too much of a stretch.

Or, perhaps the BLS's assumptions for estimating job creation in the economy were wrong. The BLS samples a relatively small number of businesses and relies on survey data. It then uses complex assumptions to extrapolate the results into an estimated figure for the overall economy. Clearly, this is the data point that has the largest chance of error.

And in fact, they've been wrong before. Just last week, they announced major revisions to past estimates of wage increases, causing substantial declines to previously published results. But the July jobs data remained unchanged.

Based on the analysis above, it's our expectation that there will be more dramatic revisions to come in the future. Until that time, it's probably best to treat any and all optimistic pronouncements on the US economy with a very large grain of salt.

Presidential race to the bottom continues as Clinton embraces tariffs

Speaking at a rally in Michigan, Hillary Clinton apparently decided her current economic policies weren't sufficiently destructive. To remedy this, she announced that she now supports using "targeted tariffs" against other countries that "have gamed the system."

This position is mistaken and harmful to the average US worker. What politicians mean, in general, when they accuse foreign entities of gaming the system, is that they managed to sell goods at artificially low prices--prices so low that US companies and workers can't compete. The nefarious way in which they achieved this varies, depending on the politician--maybe currency manipulation (which everyone does), maybe paying workers too low of wages, maybe lax regulations, maybe government subsidies, and so on. But the general contours are the same.

To see why blocking trade is wrong, one only needs to consider the extreme case. What if countries were "gaming the system" so much they actually cut their net costs to zero and they just decided to give their product (let's say, cars) away in the US for free. Surely, no US manufacturer of cars could compete with free, and they would shortly go out of business, leaving their former employees unemployed. These people would struggle in the short-run. But meanwhile, consumers in the economy (including the displaced workers) benefit from free cars. At least in the short-run, a small fraction of people face hardship while the great mass of people benefit.

This exact same dynamic plays out with each new groundbreaking innovation as well. Lightbulbs displaced candlemakers, cars destroyed the horse-drawn carriage industry, and Microsoft Word surely displaced secretaries and typewriter manufacturers alike. Each development also dramatically improved worker productivity as well as the standard of living. International trade often seems like a totally separate economic issue, complete with its own set of jargon--trade deficit, "dumping", tariffs (instead of taxes), etc. But on a fundamental level, the same forces are at work.

The question is whether we should sacrifice the long-term interests of the many to the short-term interests of a few. Opposing international trade and supporting tariffs, means answering this question in the affirmative. And the logical extension of this principle is that our country, if the occasion arose, should refuse free goods and also actively block all technological innovation. This position is as close to self-refuting as they come--and now in the 2016 presidential race, it has bipartisan support.

Of course, given that opposition to trade was a core issue for Bernie Sanders, Clinton's new, stronger opposition to trade is not very surprising. It's also another example of how the political debate between the major party candidates continues spiraling downward. Both candidates have innumerable terrible ideas that could be credibly and persuasively exploited, by anyone that was trying. But instead, the candidates usually attack their opponents on the issues where they aren't quite bad enough. It's not framed that way, but that's the essence of what is happening.

Hillary supports a $15 minimum wage. So Trump, instead of explaining that the minimum wage harms the very people it seeks to help, breaks with Republican orthodoxy and supports an increase. Trump, when he's not calling for the US to murder terrorists' family members, occasionally says halfway noninterventionist things on war. So instead of focusing criticism on Trump's most belligerent remarks--a dovish line one assumes would resonate with her party--the Clinton campaign criticizes Trump for not expressing sufficient hostility with Russia. On nearly every issue where candidates differ, there is a race to be worse, first.

Trade policy appears to be just the latest competition. And regardless of which candidate runs faster, one thing is certain--everyone loses.

The good, the hysterical, and the dangerous of Trump's economic plan

Trump released his new economic plan yesterday, and the contents were pretty predictable. It's essentially a blend of standard Republican ideas on taxation (lower) and regulation (less) combined with Trump's continued insistence on protectionism. They make for strange bedfellows. Because while on the one hand, he proposes lowering income taxes and cutting and/or imposing a moratorium on new regulations, he also frequently talks about having new tariffs, which are just another tax.

There's no particular reason to think Trump would be successful in getting these ideas passed even if he were elected, so we shouldn't put too much stock in the details. Still, it's worth noting that, except for protectionism, the ideas themselves are generally worthy of praise. Reducing regulation and taxes and simplifying the tax code are all good things for an economy. The last is particularly desirable because a complicated tax code only really benefits two groups: tax accountants, and the very wealthy people and corporations that can afford to hire them. A simpler tax code at a lower rate eliminates most of the energy expended on tax compliance and tax avoidance, and would tend to make tax rates more equal across different groups.

That said, simplifying the tax code, is also among the least likely things to happen because there are so many vested interests that would oppose it. But it's a good idea in theory.

While the benefits of these ideas are not hard to understand, not everyone is so pleased. Apparently forgetting that Congress has to (and will not) pass these ideas into law, many were appalled by the proposals.

For example, The New York Times seemed to be particularly incensed by them. After offering some initial biased coverage of Trump's plan, the editorial board also rushed out a hysterical opinion on the matter. Here's the apocalyptic introduction (emphasis mine):

Donald Trump said on Monday that he wanted to usher in “economic renewal,” but most of his proposals would hurt the economy, rack up huge deficits, accelerate climate change and leave the country isolated from the world.

There are two reasons this sort of attack is absurd.

New York Times as Deficit Hawks?
First, the center-left perspective of The New York Times isn't exactly known for their concern about fiscal deficits or the national debt. And to confirm this, we need only look at... The New York Times itself. For example, just one week ago they published a piece on the Democratic and Republican economic programs, noting that both of them are going to run major deficits. But they had a much cheerier outlook on the matter then, all of seven days ago:

More borrowing might actually be healthy, many economists say, at least in the short term, by helping to elevate the economy’s long-depressed growth trajectory.

Or we could look to the views of economist Paul Krugman, who writes a regular column for the New York Times. Here's what Krugman had to say last fall in an article that was actually titled "Debt is Good". Check the link; I didn't make that up (emphasis added):

Believe it or not, many economists argue that the economy needs a sufficient amount of public debt out there to function well. And how much is sufficient? Maybe more than we currently have. That is, there’s a reasonable argument to be made that part of what ails the world economy right now is that governments aren’t deep enough in debt. 

The precise contours of Krugman's article aren't relevant, but the point should be clear: The New York Times does not give a damn about the debt. They're only pretending to in the most recent piece because they want to engage in some partisan point-scoring against Trump.

Hurt the Economy?
The mainstream Keynesian economic theory, which is shared by the Times, holds that the source of economic woes is fundamentally a lack of spending--by governments, businesses, and consumers. The solution for this is always more spending, and in economic terms, the particular source of that spending is not terribly important. Running government deficits is viewed as beneficial to this end.

But again, in the Keynesian view, it doesn't really matter where the spending comes from so it doesn't matter how the deficit arises. The deficit can come from new federal spending, which is supposed to directly stimulate the economy. Or the deficit may be caused by tax cuts, which also stimulate the economy as consumers with more income left over will tend to spend more. This explains why Congress, acting on this same theory in 2010, implemented a 2% payroll tax cut after the recession.

Thus, the idea that Trump's massive proposed tax cuts are going to hurt the economy really doesn't comport with even the standard Keynesian analysis. Indeed, it's just the Republican-friendly version of the standard deficit stimulus prescription. The Democratic-friendly version involves more government spending instead of tax cuts, but the theoretical economic effect is not fundamentally different.

Now, some economists might argue that Trump's plan would have a greater economic stimulus if more tax cuts were directed at middle-class people--who tend to save less than wealthy people. But again, this is an argument at the margins. The direction of the short-run impact is not in dispute; it would be positive.

The NYT's claim that Trump's plans would hurt the economic is simply not based on economic theory (not even on bad economic theory). Rather, they oppose his policies for other reasons, and are dressing it up as an economic argument for rhetorical effect.

The Real Threat of Trump's Economic Program
The irony in all of this is that the Times is accidentally right on the question of deficits. The debt really does matter. The idea that the United States can endlessly borrow more money with no consequences is absurd--especially in a time when many traditional creditors of the United States, like China and the Gulf States, are struggling themselves.

But neither Clinton nor Trump is going to address the debt problem; both fully intend to run deficits. Only the source of the deficits differs.

On balance, there's good reason to think that, if passed, the Trump program of reduced regulation and taxes would improve the economy somewhat (while protectionism would be harmful). But even if we grant that it would be a net positive effect, it's not going to work miracles. And that's what the economy would need to avoid an outright collapse, given all the precarious warning signs around right now.

And herein lies the most significant economic threat of a Donald Trump presidency. Even though Trump is unlikely to get any of his good ideas passed, and even though protectionism is a direct repudiation of capitalism, the media still paints him as a believer in the free market.

As a result, if and when the economy collapses on his watch, it is undoubtedly the free market that would once again take the fall for a disaster it did not cause.

Economic Populism, America First, and Cheers for Gay People at the RNC

Source: The New York Times

Republican National Convention
We watched the final night of the Republican National Convention (RNC) and Donald Trump's acceptance speech so you didn't have to. Here's what you missed:

First, a Positive Disclaimer
I have a fantastically low bar when it comes to watching the two major parties. In effect, I'm expecting it to be uniformly bad. When it's not, I'm pleasantly surprised and those are the things that stand out to me. Naturally, that's what I emphasize in the analysis below as well. It's not that I don't notice the horrifying parts as well; I just take those as a given. If you'd prefer a more balanced or negative take, there is no shortage of apocalyptic overviews for you to seek out. Like this one.

Cheers for Gay People
One of the most encouraging aspects of the evening came from a risky inclusion in the speaking lineup--billionaire entrepreneur and libertarian-leaning Peter Thiel. You may be asking, what's one more billionaire amongst friends?

Well, Thiel was risky for a Republican convention because he's an openly gay man who was expected to address LGBTQ issues--not exactly the bread-and-butter of the GOP. After raucous disapproval of Ted Cruz the night before, there was a solid chance that Thiel would be greeted with boos when discussing his sexual orientation.

The exact opposite happened.

In the speech, Thiel chastised Republicans for getting distracted by "fake culture wars" in general and worrying about the North Carolina transgender bathroom kerfuffle in particular:

When I was a kid, the great debate was about how to defeat the Soviet Union. And we won. Now we are told that the great debate is about who gets to use which bathroom. This is a distraction from our real problems. Who cares?

Indeed.

Then, in what may have been the highlight of the night, Thiel declared his identity and received a standing ovation:

I am proud to be gay. I am proud to be a Republican. But most of all, I am proud to be an American.

That got loud applause at the RNC. And it was followed by chants of "USA! USA! USA!" It was as beautiful as either of the two major parties can be circa 2016.

A similar moment also occurred during Trump's own remarks after he discussed the Orlando shooting and vowed to protect the LGBTQ community from hateful ideologies. Cheers broke out, and Trump explicitly acknowledged them:

And I have to say, as a Republican, it is so nice to hear you cheering for what I just said. Thank you.

This line wasn't in the original draft of his speech. Apparently, Trump was as relieved as the rest of us that Thiel and the discussion of the LGBTQ community received a surprisingly positive reception.

America First
Trump's foreign policy comments remained predictably inconsistent in his acceptance speech. He vows to defeat ISIS quickly in one breath (implying an invasion of some sort), but then opposes nation-building and regime change. He opposes regime change, but can't stand the most prominent instance where diplomacy was used in lieu of regime change (Iran). He correctly blames Hillary Clinton for advocating the intervention that destroyed Libya, but then blames her--the woman who counted Egypt's former dictator Hosni Mubarak as a family friend--for supporting / engineering the Egyptian dictator's overthrow, which is clearly false. He also criticizes Obama for not drawing a firm "red line" on Syria, but had that "red line" been more firm, it would have meant regime change in Syria--which, again, Trump is supposed to oppose.

You get the idea. He can't help but contradict himself all over the place. Some of it's good, some of it's bad, and it can't all fit together. Given how obvious many of these contradictions are, one wonders how they persist. Do his advisers really not understand this? Or maybe it's just some form of political compromise to the hawkish elements of the party? Tough to say for sure.

What is clear, however, is that Trump is pushing the America First theme. This phrase, or some variant of it, occurred repeatedly in his remarks, as an explanation of his priorities on foreign policy and immigration. The term is historically associated with a prominent antiwar movement, and we have to believe Trump knows this. Whether he truly favors this approach, or is simply using it as a marketing ploy is anyone's guess. But it does bode well for the antiwar cause in the upcoming debates. He may not be consistent, but Trump is setting himself up to take the more peaceful stance relative to Hillary Clinton.

Also worth noting here is another great line from Peter Thiel's speech: "It's time to end the era of stupid wars and rebuild America."

Incredibly, that was an applause line at the RNC. One wonders if similar remarks will be heard at the Democratic National Convention, given their nominee.

Economic Populism and Outreach
Another major theme of the evening was economic populism. Trump may want to cut taxes (at least in this speech), but that shouldn't be confused with him wanting to shrink the size of government. Quite the opposite.

Trump's daughter Ivanka highlighted the (highly misleading) idea of a gender wage gap in her speech, attributing it primarily to challenges faced by working mothers. In response, Trump plans to advocate for an affordable child care system and possibly new employment laws preventing discrimination. While superficially appealing, it's not likely these will work well in practice. Do you want to send your kids to the daycare equivalent of the VA? I didn't think so.

Trump's own speech naturally focused on bad trade deals. Light on details but heavy on emotional appeal, he vowed not to sign another deal that harmed workers, and that American companies who tried to shift jobs overseas would face consequences.

Given this mood, you may not be surprised to learn that Trump was making very direct appeals to the Bernie Sanders voters, by favorably referencing the Democrat's populist candidate multiple times. He also referred to the economic plight of African-Americans and Latinos at a couple places in the speech, emphasizing how his policies would help them and all Americans suffering from the "rigged political and economic" system. Of course, this was a theme that Sanders drove home often as well.

With the exception of tax cuts and a few half-hearted nods to deregulation, Trump's economic policies will turn out poorly. But politically, that does not matter. Last night, Trump committed to branding himself as the candidate of the working man--his policies, his rhetoric, and even the personal anecdotes shared by the other speakers were all designed to convey this message.

The End of #ImWithHer

Trump concluded the evening by coining a response to Hillary's ubiquitous slogan #ImWithHer. Instead, Trump offered a different pledge to the American people: I'm with you.

Love him or hate him, this was brilliant.

In effect, it says that Hillary is in this race to just enhance her own personal power and influence and her supporters are pawns to help her achieve this end. On the other hand, Trump is the candidate who is in the race for selfless reasons, just to fight for the American people. Again, it doesn't matter whether you actually think this is true or not; it's a powerful message that fits his strategy.

And if I was a betting man--that is, if it was not illegal for me to wager large sums of money on political outcomes--I'd bet that Trump's strategy is going to work.

Hate, Rage, and "Others"
Disclaimer in mind, Trump's remarks were more moderate and more positive than I expected. The Hillary campaign already issued its verdict, which is exactly what you'd expect, summarizing it as "more fear, more division, more anger, more hate". 

And to be sure, there was some of that. But not as much as you'd think.

Trump still wants a wall and is still worried about illegal immigration. He also called to stop all immigration from countries where terrorism is rampant. But in both cases, his remarks were less categorical than usual.

On immigration, he was no longer fixated on all ~11 million illegal immigrants estimated to be in the country. Instead, his focus was on some 180,000 who were illegal immigrants that committed crimes. One might question what crimes are included and whether this number is right, but this is clearly an improvement over calling for all illegal immigrants to be deported. Similarly, on the terrorism question, he no longer called for a ban on Muslims as such, he wanted it to be based on country. That position won't win any points with libertarians, but it is certainly better than banning people explicitly based on their religion.

In Trump's worldview, at least as expressed last night, the relevant distinction is not (legal) immigrant or non-immigrant; not black, white, or Latino; not Evangelical Christian or LGBTQ. It is American or not American. And he wants to put Americans first. 

Of course, nationalism has a dark side too. If Trump ultimately wins, we may be reminded just how dark it can be. But last night, nationalism convinced a room full of conservative Republicans to cheer enthusiastically for gay people. I say that's worth celebrating.

The Case for Political Optimism Part II: Donald Trump

Forbes.com

Today, we continue to make the case for political optimism in the 2016 Presidential Election. And yes, that case even extends to possible election of Donald Trump, who was officially confirmed yesterday as the GOP nominee.

The basic premise of our belief is straightforward. The near-term outcomes of US politics may be a tragedy, but in the long-term, they are an opportunity. Yesterday, we discussed the upside of Hillary Clinton; today is Trump's turn.

Evaluating the likely impacts of a Trump Presidency are more challenging than considering Hillary's effects. While Hillary is a known quantity, Donald Trump is anything but. He has been known to express contradictory positions within the same week, and occasionally, even within the same speech. It's not even entirely clear whether he does this on accident or deliberately, which would basically mean taking political posturing to a new level.

With that said, there are still some consistent themes that have emerged. And from a libertarian perspective, they are almost exclusively bad--trade (less of it), free speech (more restrictions and lawsuits), police brutality (less accountability), and immigration (build a wall and deport immigrants already here).

On the question of terrorism and foreign policy, Trump is slightly more complicated. On the one hand, he has taken Islamophobia to new and appalling levels, and his emphasis on national security does not bode well for civil liberties. However, he has also been (at least during the election season) one of the most outspoken and effective critics of US regime change operations overseas. When Donald criticizes US intervention, he's unfortunately not sophisticated enough to make the blowback argument--that these interventions are in fact the dominant motivation for terrorism against Western targets. For Donald, Islam is still the leading explanation of that, which informs his other bad ideas. Still, the fact that the Republican standard bearer is willing to criticize US intervention at all--albeit not consistently and imperfectly--is decidedly new ground. It's also not something we're going to hear from Hillary Clinton on the campaign trail.

Most of the above items were strong strikes against Donald Trump. But as with Hillary, the benefits of a Trump Presidency lie more in his unintentional impacts than his deliberate policy proposals.

Animosity with the Press
The media's loathing of Donald Trump is palpable and unprecedented. Partisan biases in the media are nothing new, but this is something else. Indeed, we recently reported with glee on a particularly enjoyable outburst of antagonism between Trump and the press. You'll recall that this was in regards to a Trump fundraiser where the exact amount of funds raised was being questioned. After being pestered about it for weeks, Trump seems to have called a press conference for the sole purpose of berating the media. And it was an absolute delight:

[Trump] called one reporter "a sleaze", the general group "unbelievably dishonest" , and said they should be "ashamed" of themselves.

In response to the abuse, one of the reporters, apparently shaken, asked if it was always going to be like this.

Reporter: "I think you've set a new bar today for being contentious with the press corps, calling us 'losers' to our faces and all that...[interruptions]...Is this what it's going to be like covering you when you're president?"

Trump: "Yeah. It is...Yeah, it is going to be like this, David."

It's not clear whether our lovable reporter David was hoping for a peace offering or just deciding whether to go into another line of work. But, his question is revealing. As it stands, the press corps typically enjoys a very friendly and pleasant relationship with people in power, including presidents. That's why they have a highly publicized White House Correspondents' Dinner ("Nerd Prom") where everyone enjoys champagne while making light (or ignoring) of all the atrocities the amiable President invariably committed in the past year. It's also why the New York Times sees fit to publish fawning pieces like this one on our current president--Sure he's murdered children, but he has so much integrity and grace when he does it!

In the aftermath of the episode, the good folks at the New York Times (and probably many other places) took it upon themselves to explain the critical role of the press to hold politicians accountable. This was ironic, since it is those same news outlets which have proved fantastically inept (or disinterested) in holding anyone in power accountable--including their own journalists that helped sell America the Iraq War. But I digress.

While other politicians consistently receive favorable, uncritical coverage in the media, Donald Trump does not--not now and not when/if he occupies the Oval Office. So far, most of the critical coverage has been petty and trivial (OMG, one of Trump's forty-seven businesses failed!). But we should assume that if a President Trump ever had a real scandal or tried to implement some of his worst ideas, he would soon find an adversarial press corps to be alive and well--for the first time in years.

Public Outrage
Another positive factor (for all of us, if not for Trump himself), is that Trump seems to spark considerably more outrage among the general public than past Republican politicians. People may not have liked Romney for instance, but they weren't going to move to Canada if Mitt took office.

It's worth debating whether the degree of outrage about Trump is really justified. Our own answer is yes and no. Yes, he's an awful candidate, but no, he's not a uniquely awful candidate:

Trump's real crime is not his ideas or his biases. It's his willingness to express them in explicit ways that should and do make us all uncomfortable. He doesn't support enhanced interrogation techniques; he supports Torture with a capital T. He doesn't just support a "strong national defense"; he wants to go after people's families. Unfortunately, there's little that's new here. But it's not often that all of America's worst ideas are thrown out into the open for all to see. That is Trump's core offense. It's why he's inspiring more passionate opposition than any candidate in recent memory. But if the ideas are really bad, and they are, they should have been opposed all along--no matter what form they took and which party was supporting them.

Right or wrong though, the intense opposition to Donald Trump is healthy and useful. I wish all presidents faced such opposition; we might not be where we are now.

What this unprecedented public opposition means is that, contrary to popular belief, Trump is actually likely to wield far less power than President Obama currently does. There's little doubt that Trump, like Obama and Bush before him, would seek to expand his power. But Trump is going to be watched much more closely, by the media and the public. This is an important constraint.

Moreover, there is a genuine fear of Trump having all the power that is already vested in the President by historical precedent (though not by the constitution). Trump is the perfect combination of arrogant and despised to start a real conversation about the necessary and proper limits of executive power. Undoubtedly, this conversation would be initiated with a primary goal of scoring partisan political points. But it could lead to useful outcomes nevertheless.

Trump may also help folks on the left rediscover the merits of state's rights / the Tenth Amendment as an invaluable tool to block unwarranted excesses of the federal government. The left (along with libertarians) has already made major progress using the Tenth Amendment strategy in recent years to legalize marijuana. This same approach could be employed to prevent implementation of Trump's controversial deportation policies, just as northeastern states used it prior to the Civil War to resist the appalling federal Fugitive Slave Act of 1850. If things get bad enough, we might even see far-left states like Washington or Vermont begin to contemplate secession as a possible remedy (Vermont already has a group advocating for precisely this). For reasons we won't elaborate on here, this too would probably be a good thing.

Economic Policy
Finally, on economic policy, Trump is likely to prove blandly disappointed. Like Hillary Clinton, Trump's major economic policies--namely, erecting new trade barriers--will be calamitous for the US economy. Unfortunately, because Trump is a businessman and a member of GOP, which has a completely undeserved reputation of promoting free markets, an economic disaster on Trump's watch will probably be blamed on capitalism rather than the policies that caused it. There is a minor chance that Trump himself would be blamed given the previously discussed media hatred for him. But even if this did happen, the blame would probably be placed on Trump and his demeanor rather than particular policies. Thus, it's unlikely a failure under Trump will have the same educational value as a failure under Clinton would.

One possible upside comes from some off-hand and decidedly sensible remarks Trump made with regards to the US debt early on in the campaign season. In essence, Trump acknowledged that US debt would need to be restructured. This was viewed as blasphemous because the media still pretends paying off the debt at par is going to happen (it isn't). And Trump immediately walked the comments back the next day, and tried to pretend he never implied that the US would have to default.

It's not clear if he would make any game-changing decisions on US debt as President. Cutting spending has not figured as a priority in his plans, so it's unlikely he will make progress on the deficit. This, in turn, makes it likely a President Trump would face a debt-ceiling showdown just as Obama did.

Now that Trump has publicly acknowledged that the debt won't be repaid (even if he did retract that comment), this could make the next debt-ceiling crisis far more interesting. If investors perceive a real threat that Trump will allow a default, US debt could finally lose its perceived status as a risk-free investment. And when that happens, all bets are off. Interest rates would adjust sharply higher as investors unload US bonds, and the shock would almost certainly spark the next financial crisis, if it hadn't already occurred by then. But in spite of the short-term pain, this correction is actually a great thing for the long-term stability of the financial markets.

The ever unpredictable President Trump may help accelerate this process by his mere existence. If he does, it be a major step toward getting the economy back on a sustainable course. It will also finally discredit the dominant Keynesian view of economics which holds, in effect, that the US can continue accumulating debt indefinitely with no adverse consequences. Both of those outcomes would be welcome news.

Conclusion
Thus, we find that even a Donald Trump Presidency has serious upsides for the state of US politics four years hence. As with Hillary Clinton, the benefits are derived not from his affirmative policies but by the substantial opposition forces that will be unleashed against him. The strength of the Executive Branch and the federal government might receive overdue scrutiny, and Trump's mistakes will be highlighted by an adversarial mainstream press corps that is finally interested in holding the powerful to account. These forces will slow Trump down at every turn, mitigating the impact of his worst ideas.

Another likely benefit of Donald Trump is that his election would thoroughly shatter the prestige of the President. While that sounds bad at first, it really just means that people will clearly understand that the US President is human like anyone else and deserves at least the same level of skepticism. In a time when each of the last two presidents has claimed the power to prosecute new wars without Congressional approval and assassinate people without any semblance of due process, the unpopularity of Donald Trump could provide a much needed remedy.

And that's why there's no need to be pessimistic in this election cycle. Trump or Clinton will win the election, and they are just as bad as you think. But America will survive their leadership. And the reaction against their failures will pave the way for a better path forward.

The Case for Political Optimism Part I: Hillary Clinton

The Washington Post / Getty Images

Let's face it: July has been a bad news month. It's also about to get worse, as two historically unpopular candidates become the official presidential nominees for their respective parties.

It does not really matter whether you think Clinton is the worst case scenario and Trump is the second worst, or vice versa. Most Americans aren't excited about either candidate, and after July, it will be all but certain that one of them occupy the White House come 2017.

This is cause for concern, of course. But the downside is not nearly as great as many believe. I can't remember the last election that didn't occur at a "historic" and "pivotal" moment in the nation's history. And yet, here we are. America survived the foreign and domestic interventions of George W. Bush, and it survived the foreign and domestic interventions of Barack Obama. It will survive Trump or Clinton too. And there's good reason to believe our politics will emerge in much better shape in four years. This is the case for political optimism.

The Upside of Hillary Clinton
From a libertarian perspective, there's not much to like about Hillary Clinton. Her particular form of centrism is opposed to libertarian principles on nearly every count--drugs (mostly pro-prohibition), war (for it), minimum wage (screw poor people), and so on. Thus, the upside to Hillary lies primarily not in what she will try to do, but in what she will fail to do.

Before getting there, though, it's worth noting there is one area where the winds of political pragmatism may call Clinton to do something helpful intentionally. As we discussed yesterday, Campaign Zero has proposed a slate of generally useful reforms for stopping police brutality. They have also compared the candidates' policy proposals to their core recommendations to identify areas of common ground / obstruction. Clinton comes out favorably on this score. Granted, she supports items that, in our view, are the most watered down and among the least important reforms. And of course, all she's doing is undoing some of the harm caused by the 1994 crime bill that was signed in to law (with her help) by her husband. (Don't worry, the harm was only directed at child "super predators", whom she also likened to dogs.) But with all that said, there's a chance some good will come of it. And given that the police brutality problem is liable to get worse before it gets better, she may consider more drastic (and hopefully helpful) reforms if and when she actually is president.

Foreign Policy
That good news aside, it must be acknowledged that Hillary Clinton is an unmitigated disaster on foreign policy. This doesn't make her all that unique, but she's far worse than most of her party in this area. In essence, she's bad on the same things that President Obama is bad on. She just takes them to new extremes and throws in a few extras for good measure. Some choice examples:

• Vehemently advocated for the disastrous overthrow of Libya
• Called for a no-fly zone over Syria (which also implies regime change)
• Is determined to strengthen US relations with Israel's belligerent prime minister
• Called for new sanctions on Iran immediately after the first sanctions were lifted
• Voted for the Iraq War

I don't have enough time in the day to provide a comprehensive list, but you get the idea. When there's a choice between peace and coercion, Hillary Clinton will choose coercion almost every time.

This is clearly bad news if you're an American concerned about terrorism, civilian casualties, or American soldiers needlessly dying overseas. It's even worse news if you happen to be a civilian in any of the countries that a Hillary Clinton Presidency would probably try to get more involved in.

The only real upside in this area is that Hillary is likely to overplay her hand. Among the few virtues of President Obama has been restraint (by recent American standards, that is). His administration has intervened and bombed seven different countries during his presidency. This included the violent overthrow of Gaddafi in Libya via NATO intervention. But to date, Obama has not backed a full-scale effort to overthrow President Assad in Syria, and the troop redeployments in Iraq number in the thousands currently, rather than the tens of thousands that they did during the occupation. His policies have still been egregious, but he had enough political sense to do it quietly. Rather than send the amount of troops needed to accomplish the stated (if futile) goal of uprooting ISIS, Obama has quietly increased the troop count hundreds at a time to avoid any meaningful debate. Politically this works for him, and it means the resulting policy is less bad than it otherwise would be.

Hillary Clinton's deep-seated hawkishness suggests she is unlikely to exercise the same degree of subtlety and tact. More likely, she will push for major new interventions. Iraq is probably the first candidate for greater intervention, with Syria and Libya following close on its heels. When this happens, it's tough to predict how the politics will play out. It's possible that the Democrats will manage to hold their nose while many Republicans offer wholehearted endorsements of the aggression they have always clamored for from the Oval Office, post 9/11. However, if Hillary pushes far enough, the tolerance of the Democrats is likely to wear thin, and Republicans will realize that attacking Hillary on war is politically effective. We saw this right-left unity briefly coalesce around opposition to bombing Syria back in 2013. There's a small chance that Hillary Clinton could revive it, to the benefit of all of us.

Economic Policy

While there's a chance of positive political effect from foreign policy, the biggest upside to a Clinton Presidency lies in the sphere of economics.

As we have noted previously, the US and global economies are ripe for their next collapse. There are many different indicators that would lead us to believe the current expansion is coming to a close, and there's good reason to believe that the next collapse will be even worse than 2008-2009. Moreover, even if you don't buy these ideas, there's also just the simple matter of time. The current expansionary period, as judged by the stock market, is the second longest on record in the post-World War II period. If it were to survive through the next presidential term, it would be the longest expansion of the era by nearly two years. Given the numerous signs of cracking already, this is unlikely to happen. It's a safe bet that the US economy will undergo some kind of recession under the next president.

This won't actually be Clinton's fault--most of the blame ought to lie with the Federal Reserve. Nevertheless, Clinton, and possibly President Obama, will receive most of the blame for it.

This may not be fair, but it will have great ramifications for US political discourse. It will finally put to bed the claim that Democrats know how to "manage the economy" than Republicans. The point here is not that the Republicans are better; it's that the very idea of either party knowing how to manage the economy is absurd.

Even if the general public fails to grasp this particular point, many other things will still become clear. Most importantly, the next recession is likely to come with at least a few bank failures. From an educational perspective, this will be very useful. When banking failures or economic issues arise under a period of Republican control, the blame is always placed on the excesses and greed of capitalism. But when it occurs under a prolonged period of Democratic control, this will be a difficult pivot to make. After all, some Democrats (and the Fed) have claimed that we have implemented the essential regulations needed to keep capitalism, and especially the financial sector, stable and secure. If some of these firms fail in spite of such useful regulation, only a few conclusions are possible:

1. The market still wasn't regulated enough--which would be awkward since Dodd-Frank was hailed as such a major accomplishment,
2. Maybe regulation isn't the solution after all, and/or
3. Maybe, as libertarians have argued all this time, government regulations and interventions are actually the source of our economic problems, not the solution.

Clinton's response to the economic crisis will be bullish for option #3.

After all, economist Paul Krugman is angling to be her chief economic adviser, and his remedy in the crisis will be more of the usual Keynesian stimulus prescription. An authoritarian Clinton may even take things further. Borrowing inspiration from the Democratic legend of FDR, she may make more detailed interventions in the economy--raising wages, implementing price controls, etc. None of the proposals will prove helpful, and most will actively make matters worse, just as they did during the Great Depression under Hoover and FDR.

In other words, a Clinton Presidency will offer the kind of natural economic experiment that economists are usually denied. She is not an avowed socialist like Bernie Sanders, and in some ways, that's actually better. Domestically, she is the opposite of radical. She is the embodiment of centrist conventional wisdom, so she will pursue the orthodox solutions. When they fail--and they will--it will create an unprecedented opportunity.

Twelve continuous years of Democratic rule means that when the next crisis hits, for once, the free market might not be blamed for the follies of government.

America faces many difficult problems right now and many of them will come to a head in the next four years, regardless of who gets elected. But while the short-term outlook looks bleak, there are real reasons to be excited about the state of US politics on the other side. It may be angrier and more jaded than ever, but it will also be smarter. That is worth looking forward to.

Also, look for our post tomorrow when we discuss the unlikely upside of Donald Trump.

Chief Economist at Germany's Largest Bank Calls for 150 Billion Euro Bailout

More bad news for the EU this week as it continues to grasp for a solution to the ongoing banking crisis. The Chief Economist at Deutsche Bank, the largest bank in Germany, has openly called for 150 billion Euro bailout in an interview with a prominent German newspaper.

Readers will recall that Italy's largest banks have been collapsing in the markets under the weight of an absurd 360 billion euros of nonperforming loans, which account for 18% of their total loan portfolios. Given that nonperforming loans are just a nice way of saying "loans that will probably not be paid back," this constitutes an existential threat to the banks and, by extension, possibly the Italian financial system.

Predictably, this has been blamed on the successful Brexit vote, though the claim made very little sense, as we explained recently.

In response to this newly urgent crisis, Italian Prime Minister Matteo Renzi was pushing for a proper bailout of the banking system. European Union rules, however, technically prevent a full taxpayer-funded bailout, and require what is referred to as a bail-in first.

Given the obvious and justified unpopularity of bank bailouts, an alternative solution would seem preferable. The EU bail-in might prove to be an exception.

What's a Bail-in?
Basically, a bail-in requires that investors, bondholders, and then even uninsured depositors lose part of their money to the bank. While investors and bondholders ought to bear the loss in a failing company, the inclusion of uninsured depositors is a very different animal.

Under this mechanism, the depositors are effectively viewed as creditors. And in a way, this makes sense. After all, when you deposit money at the bank, you are effectively loaning the bank money, and this is why you (used to be able to) get some non-negligible amount of interest for your trouble. In a bail-in, part of this "loan" to the bank is simply waived. Part of the bank's liabilities disappear, improving their balance sheet and their chance of surviving

But while deposits are a loan in some sense, they are generally conceived of as something quite different. A loan is presumed to carry some risk. Meanwhile deposits are generally seen as risk-free, at least in our era of central banking and heavy regulation. The prospect of the bail-in changes this.

Once the first depositors of Europe Proper start having their deposits confiscated to help out an unstable financial institution, this perception of deposits as risk-free will promptly evaporate. If that happens, a bank run will follow, as depositors rushyy to withdraw their funds before any of their deposits suffer the same confiscation. This has the ultimate effect of further destabilizing the very institutions the bail-in was meant to save.

This occurs because no bank can survive a bank run. Under a fractional-reserve system like ours, no bank ever has enough cash on hand to pay off all their depositors' claims because some of the money has been lent out. While this may seem unsavory, there's nothing secret or illicit about it. Take a look at the balance sheet of any bank, and it will be perfectly apparent. For instance, here's a snip of Deutsche Bank's balance sheet as of 12/31/2015.

How this works is that the top three assets listed are all basically liquid and can be readily used to pay depositors. From there, each successive asset becomes more difficult to convert to cash, with some of them being effectively impossible (goodwill).

Thus, we can compare the total of the top three assets (132 billion euros total) to the much larger deposits listed in liabilities (567 billion euros). If a substantial portion of Deutsche Bank customers suddenly began to worry and pull their deposits out, Deutsche Bank (like any other bank) would have to get creative to meet the demands--possibly selling off securities, taking out loans from other banks or the central bank, and if things got really bad, calling in some existing loans and credit lines. If the problem is not confined to Deutsche Bank and many banks experience this panic simultaneously--a likely outcome if the bail-in mechanism is used on the Continent--it becomes even more difficult to resolve. This is the worst case scenario for the EU financial system, and yet as things stand currently, it is also their official remedy for failing banks.

That is, the EU's solution for the banking crisis is, in effect, to induce a larger one.

Deutsche Bank's leadership is now weighing in to try to prevent the catastrophe this would likely unleash in the short-run. Their economist's solution is to do a standard bailout instead, as the US did in the 2008 crisis. Which leads to a useful question...

Is a Bailout Better?
Like most economic questions, the answer to this one is "It depends." And in particular, it depends on your time horizon. Assuming the government itself won't go broke from the initiative, a bailout can likely succeed in minimizing an immediate crisis. However, it doesn't resolve the underlying problems that caused the crisis, and it all but ensures another one will occur in the future. The best case scenario is kicking the can down the road.

For this reason, it is highly attractive politically. Yes, a bailout is effectively corporate welfare for the most reckless and terribly managed institutions. That rarely plays well on the campaign trail. But it plays better than a complete financial crisis. Assuming electoral success or protecting one's legacy are key goals for the decision-makers, bailouts are an excellent idea.

If one's goal is long-term financial stability, not so much.

Each bailout paves the way for the next. Other institutions observe that their peers suffered no consequences from making risky financial bets that lost money. This encourages all of them to take more such bets in the future. If the bets work out, they get to keep the profits. If they do not, the taxpayer bears the losses. Economists refer to this as the problem of moral hazard. People that don't bear the costs of taking risks, tend to take more risks. If those people are bankers, it doesn't end well.

In the long-run, the best approach is to let failing institutions actually fail. Deposits, like Puerto Rican bonds, are never truly risk-free. The banking system will only have a chance at stability when this fact is widely understood--and when banks are forced to compete for customers by showing just how sound and conservative they are, rather than simply pointing to a government guarantee.

What Happens Next?
Deutsche Bank's recent pronouncement should be properly viewed as a recognition of reality. The goal of the EU and the European Central Bank is to prevent a short-term crisis, and the bail-in regulation is unlikely to fulfill this purpose. Since a free market solution is not going to make headway in the EU, a bailout is the default alternative.