A million foreclosures

John Quiggin26 Comments

The news that over a million homes went into foreclosure in the US in 2007, affecting about 1 per cent of all households or around 3 million people, supports the view that foreclosure has taken over from bankruptcy as the primary mode of financial catastrophe.

As with bankruptcy, however, the high frequency of financial distress is partly offset by the fact that US law and standard contractual arrangements are more friendly than in other countries. Compared to those in other places (at least in Australia) US mortgage contracts have commonly favored borrowers in two important ways. First, they have been fixed rate contracts with no, or limited penalties, for early repayment. That means that borrowers can stick with their fixed rate if market rates rise, but can refinance at lower cost of market rates fall.

Second, most mortgages are non-recourse, meaning that the lender can take the house but cannot recover the debt from the borrowers income or other assets. That means that once the value of the house falls below the amount owing (equity becomes negative) the borrower can walk away from the house and the debt. As Felix Salmon notes, the difficulty of pursuing deficiency payments means that most loans are non-recourse in practice even if the contract says otherwise

In the jargon of financial assets, the standard contract gives borrowers both a put option on the house (the ability to walk away) and a call option on the debt (the ability to pay early). Both of these make the contract more valuable to borrowers and less valuable to lenders. There’s quite a good discussion of all this from Tanta at Calculated Risk, though the author makes heavy weather of the put option and seems to me to be unreasonably exercised about the fact that households are now treating their debts to banks with the same calculating attitude that corporations have long shown to their workers and other creditors, paying them if it is profitable to do so and defaulting otherwise.
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Suharto dead

John Quiggin41 Comments

I don’t imagine many readers will be shedding tears at the death of former Indonesian dictator Suharto, and certainly I won’t be. The bloody massacres in which he rode to power amid the collapse of the Sukarno regime, and the brutal invasion and occupation of East Timor, not to mention his spectacular corruption, mark him down among the worst political criminals of a terrible century, and have coloured Australian attitudes to Indonesia in the decade since his fall from power.

Now that he’s gone, I hope Australians will begin to recognise the immense progress Indonesia has made against daunting odds

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Get well

John Quiggin30 Comments

A slightly belated get well to Tim Blair, one of the pioneers of Australian blogging, who recently underwent surgery for cancer. Tim and I have had our differences, to put it mildly, but this is a time to put such things aside. I’m sure everyone here will join me in hoping for a full and rapid recovery.

Reviewing the Stern Review

John Quiggin87 Comments

The Productivity Commission has just released a paper called The Stern Review: an assessment of its methodology (the full paper is a 1.3Mb PDF). It’s very good, I think, giving a balanced presentation to the Review, its supporters and critics and those who fit into neither category. Here’s the summary:

The Productivity Commission today released a staff working paper titled The Stern Review: an assessment of its methodology. This technical paper contains a detailed examination of key elements of the Review’s analytical approach. Originally prepared as an internal research memorandum following release of the Stern Review’s report, the paper is being made more widely available given its ongoing relevance in light of Australia’s Garnaut Review.

The staff paper finds that the Stern Review made some important analytical advances. The Review sought to move beyond analysis based on the mean expected outcome to one that incorporates low probability, but potentially catastrophic, events at the tail of probability distributions. The Review also attempted a more comprehensive coverage of damage costs than most previous studies.

The paper also finds that value judgements and ethical perspectives in key parts of the Stern Review’s analysis led to estimates of future economic damages being substantially higher, and abatement costs lower, than most previous studies. The paper notes that the report could usefully have included more sensitivity analysis to highlight to decisionmakers the consequences of alternative assumptions or judgements.

Looking at the way debate has evolved both within and outside the economics profession, a few points have emerged

* No-one credible now disputes the view that a well-designed set of policies could greatly reduce CO2 emissions at very low cost. The Stern Review is marginally lower than average at 1 per cent of GDP, but it would be hard to find any serious analyst claiming costs much higher than 3 per cent. These are once off changes in levels corresponding to a once-off loss of between a few months and one year of improvements in material living standards. It’s intuitively hard to see how risking the worst case outcomes of climate change to avoid such a small economic cost could possibly be justified.

* While there is still plenty of dispute about the economic costs of doing nothing, relative to stabilisation, the median estimate has been revised sharply upwards following the Stern Review. On the issue of discount rates, the (still controversial) choice of a low rate by the Stern Review pointed up the dependence of earlier estimates on rates that now look implausibly high. And on the treatment of risk and damage to the natural environment, Stern’s look at these issues points up how badly neglected they were in the past. If anything, subsequent discussion has suggested that Stern was too conservative.

The speed with which the economic debate has evolved has left the political advocates of doing little or nothing stranded. Most of them had no qualifications in climate science, and embraced delusionist arguments against the science because they were opposed on political, economic or culture-war grounds to the kinds of policies needed to stabilise climate. Many of them clearly envisaged a campaign in which they would fight as long as possible on the science before turning to the economics. But the speed of change has left them flatfooted. Rather than being able to make a graceful retreat to a prepared position, they are trying to argue against what is now the mainstream economics position, while still being lumbered with their now-discredited attacks on mainstream science.

Cracks in the foundations

John Quiggin60 Comments

The decision of the US Federal Reserve to cut interest rates by 0.75 per cent is as clear a sign of panic on the part of the monetary authorities as we’ve seen since the 1987 stock market crash. It’s not entirely coincidental that it followed a dreadful week on Wall Street, and a couple of awful days on world stock markets while the US was closed for the long weekend.

Still, stock markets have fluctuated quite a bit in the last 20 years without producing this kind of reaction. The really alarming events have been happening in bond markets and, in retrospect, the most alarming happened just over a month ago.*

That’s when Standard and Poors cut the credit rating of ACA Financial Guaranty Corp from A (strong investment grade) to CCC (just about the worst kind of junk) in one move. This event showed the weakness of two of the most important defences against the kind of credit derivative meltdown that market bears have been worrying about for years.

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How big a disaster ?

John Quiggin110 Comments

The publication of new survey estimates suggesting that there were 150 000 violent deaths in Iraq in the first three years after the invasion, and as many as 400 000 excess deaths (relative to the death rate immediately before the war) has provoked a predictable flurry of blog activity. The main concern has not been the figures themselves, but whether and to what extent these results are consistent with previous, even higher estimates, by Burnham and others, often referred to as the “Lancet survey”. You can read the Crooked Timber view, with which I broadly agree, here and here, and follow links to others on all sides. For an opposing view from Oz, you can go to Harry Clarke.

It seems to me that most of this debate is, like most blog and media wars, is missing the main point. The central fact is that the Iraq war has turned out worse, on almost every count, than even the most pessimistic critics suggested .

As regards war deaths, there were few precise predictions, but suggestions that the death toll would amount to more than a hundred thousand were at the upper limit. Here’s a piece written two years into the war saying that such estimates were way off the mark. If the latest estimate of 150 000 violent deaths in the first three years of war is correct, the pessimists had already been proved right by then, and we’ve had nearly three more bloody years since. Almost certainly, the war has, by now, caused the deaths of well over half a million people who would be alive if the policy prevailing in 2002 (sanctions, but with essential imports of food and medicine permitted under Oil-For-Food) had continued. That includes over 4000 US and Coalition troops killed, along with tens of thousands severely wounded.

The UN suggested war would drive 1 million refugees from Iraq, and internally displace another million. The true figure could be twice as large.

While Treasury Secretary Lawrence Lindsay was sacked for predicting that the war could cost $100 to $200 billion, extreme pessimists like William Nordhaus were projecting a total cost of $1 trillion. It’s already clear that the total cost will be closer to $2 trillion, and it could well be more.

This war has been a disaster for everyone involved*. Quibbling over how large a disaster seems pretty pointless.

* With a handful of exceptions: mercenaries and contractors on the US side, Shia radicals like Sadr in Iraq, and the Iranian government waiting in the wings to pick up the pieces.

Weird (search) Al Gorithms

John Quiggin5 Comments

While I was attending to the long overdue task of cleaning out the spam filter, I came on a comment from reader Malcolm Lambe, whose comment was unsurprisingly caught since it reads (with added asterisks)

Malcolm Lambe welcometowallyworld.com

I don’t understand why this post of yours shows up on the first page of Google under “l*sbian s*x v*deo�? Bizarre. Maybe your webmaster has some explanation?

You can check for yourself and there it is. Sad to say, my attempt to despam didn’t work and this comment, along with a couple of others from Katz and Gerard on more recent posts, was consigned to perdition.

It hardly seems likely that anyone would go to the trouble of Googlebombing this post. Any other explanations?

Other people’s music

John Quiggin15 Comments

A bit belatedly, I’m reposting my piece on the Fin from last week, on background music, a topic we’ve discussed previously.

Also in the Fin Review section (paywalled) a couple of weeks ago was a piece by Andrew Ford which inlcuded an observation I’ve made myself, that contemporary music in the classical tradition often sounds like the soundtrack to a horror/thriller movie, and went on to point out that David Lynch has actually used ‘modern classical’ compositions in this role. He asks why people who are perfectly happy with the music as a soundtrack are totally unwilling to listen to it in concert. I think the potential audience falls into two groups, both small
(i) classical concert-goers who like horror/thriller movies
(ii) horror/thriller fans keen enough to go to a concert performance of the soundtrack

Anyway, here’s the article

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