Wednesday, November 19, 2008

Economics and the Auto Industry Bailout

In case you weren't aware (and since I haven't mentioned this on my blog, why would you be?) I am becoming a devotee of Nobel Prize winning economist Paul Krugman. He writes a column over at The New York Times several times a week, and has written several books. He is a self-labeled liberal, as am I, which is somewhat rare amongst high-profile economists, ([Edited 11-21-08: as I am not.]

In addition to his column at the New York Times, he also has a blog over there that I check out several times a week. He usually posts short entries there daily, including links to other sites with good information. That is where the first of two topics I'm going to mention come from.

Johnathan Cohen over at The New Republic has published an article titled Panic in Detroit arguing that we should bail out the big three automakers. His arguments are persuasive: The big three aren't the dinosaurs they used to be--the Chevy Volt, slated to come out in 2010 is a good example. Nothing like it is scheduled to come out of Japan, or any other country on any timescale. He also argues that the big three are coming up with cars of better quality than they have in decades, and according to Consumer Reports, better than the Japanese. In addition he argues that allowing GM to go under means not that they would reorganize, that is unlikely considering their position, but rather that they would be liquidated, meaning a loss of jobs not less than 500 thousand, but probably closer to 1.5-2.5 million, increasing the jobless rate by about a third immediately, and forcing the other two automakers to go to sources outside the U.S. for parts. That's only counting the economic hit for GM and it's parts suppliers, not the surrounding businesses, such as restaurants, hospitals, etc.

I've gone on too long about the article. Check it out for yourself and see if it changes your mind about letting GM go down.

The second topic here is also from the New York Times. It seems that for the first time in recorded history, the U.S. is looking at deflation instead of inflation happening. Jack Healy writes a report titled "Consumer Price Decline Prompts Fear of Deflation." This article is shy of some background information, which I'll try to provide here.

Economists of all stripes consider deflation, the increased value of money, to be more damaging than inflation, the devaluation of a currency. In our case it means that the value of a dollar is increasing, rather than decreasing, as it usually does. Why would this be a problem? If you have a whole lot of dollars stuck in a mattress, it isn't much of one. However, if you are working for a living, or have your money saved in any kind of interest paying instrument, such as a savings account or bonds, it means you will be getting no interest paid on your money, and you are likely to take a pay cut. It also means that there is less investment in the economy. In fact, deflation usually means that the economy is shrinking significantly. In most situations the Federal Reserve could stop deflation by decreasing interest rates and loaning more money, but at this moment the interest rates are already as low as possible. Doubt me? About a month ago yields on U.S. government bonds actually went negative for a short while (interest rates of less than 0%.) An example of negative interest would be buying a bond for $100 that was only worth $97 (these numbers are illustrative only.) That might seem an odd thing to invest in, something you know is going to lose money over the long term, but investors were so worried about the money they were losing anyway that they were willing to lose a small amount over the long term instead of losing their entire fortune immediately.

Now you're ready to read the article. Go ahead and check it out.


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