Why You Should Oppose (Same-sex and Opposite-Sex) Marriage

The Only Relevant Question

     There is a raging debate in the US regarding same-sex marriage. Who supports it, who doesn’t? We hear from one side that the government should allow gay marriage. We hear from the other side that the government should not allow gay marriage. However, very few are asking the only relevant question: Why is the government involved in marriage at all?

     

     Marriage is a mutually agreed upon relationship between two consenting individuals. It can be a beautiful thing, and I look forward to getting married. However, there is absolutely no reason for the government to be involved in this decision. Marriage doesn’t affect anyone except those involved, and therefore should neither be rewarded nor punished by governments.

The Military Behind Your Marriage

     Remember what government is: power backed by force. So, do I support gay marriage? Absolutely not, nor do I support heterosexual marriage. By that I mean that I do not support any government giving ANY benefits to married people, whether they be same-sex, opposite sex, intra-racial, interracial, interspecies, etc.

     Married couples today receive numerous financial benefits from federal, state, and local governments. They get tax breaks, tax credits, social security benefits, etc. Therefore, governments subsidize marriage. There are several problems with this. First of all, this incentivizes couples to get married, some of whom otherwise wouldn’t. Do we want people to be getting married because of government-granted benefits? On that same note, is anyone looking at the statistics? The divorce rate is approaching 50% in the United States. We are very close to effectively subsidizing divorce.

     Think about what happens when the government subsidizes marriage. A 22-year-old unmarried couple graduates from college with a combined $50,000 in debt (due to government "subsidization" of education). If they are lucky enough to land a job, they pay taxes on their income. Some of those taxes, either directly or indirectly, pay for the benefits of married couples, some of whom may have millions in the bank. Let me ask you this: why is it that a pair 22 year-olds, struggling to pay their bills, are forced to give money to a retired couple living comfortably? It makes absolutely zero economic or moral sense.

The Constitution Does Not Mention Marriage

     The Constitution enumerates the powers of the federal government. This means that if the Constitution does not specifically grant the federal government a specific power, then the federal government does not have the right to wield such a power. If you want to argue that the federal government can do this or that, then you have to point to words of the Constitution that specifically grant this power. Nowhere in the Constitution does it say that the federal government can grant benefits to married people, let alone some married people and not others, and that's not by accident of omission.

     Now, the Constitution does not restrict the states or local governments from doing so.  That is also not by accident. To the extent that a state makes the mistake of subsidizing or otherwise giving benefits to married couples, then same-sex couples should be given the same rights as heterosexual couples, in a moral sense (not necessarily legal). The reason is simple: individuals consent to marry, and this doesn’t affect the freedom of others. No laws should ever be passed that restrict the freedom of individuals, unless that freedom abrogates the freedom of others. If two men or women marry, you may find it repulsive, gross, unnatural, disgusting, etc. Your delicate sensibilities are irrelevant: their marriage does not affect you any more than their choice of shoes. The government should not use force (which is all it has at its disposal) to take freedoms away from some that don’t affect the freedom of others.

States Can Make the Mistake of Getting Involved in Marriage

     States do have the legal right to restrict the rights of gay couples and grant rights to straight couples. The beauty of the Constitution is that states are forced to compete. If a state decides to ban gay marriage and subsidize heterosexual marriage, then anyone who doesn’t approve of this can vote with their feet, and move to a state that doesn’t do so. If a state turns enough people off, they lose revenue, and are forced to change their laws. This why we are the “United States of America,” referred to as plural in the early days of our country, but referred to erroneously, though unsurprisingly, in the singular nowadays (ie, “the Unites States of America welcome others”…vs. “The United States of America welcomes others…”). The danger is when the federal government makes such laws: there’s no escape except to leave the country. That’s precisely why the Constitution prohibits the federal government from making any laws that impinge on individual freedom, and allows the states to do so. But we don’t pay attention to that old, arcane document anymore.

Ignorance Regarding the Biology of Homosexuality

     Now I’d like to talk about arguments against homosexuality in general, given all of the ignorance regarding it.

It is unnatural, it goes against evolution, and you can’t be born gay, etc.

     If you know basic human biology, you know that we have 46 chromosomes. The difference between a man and a woman is ONE chromosome, and it’s the smallest one. Men are XY, and women are XX. It is entirely possible that whatever genetic program dictates sexual orientation is altered in homosexuals. Therefore, to argue that you can’t be “born gay” is entirely moronic. Why couldn’t you be born gay? We don’t even know what makes us straight yet! By sheer probability, some people will be born gay if this happens, and there’s no reason to think that this doesn’t happen.

     Also, the hormonal environment in the womb may be responsible for the homosexuality of some. I did an internship at Harvard and worked with zebrafish. Zebrafish mate when a male pursues a female. The female releases eggs, and the male fertilizes them with his sperm. There is one study (I will try to find the link) in which the researchers altered the hormonal environment of developing female zebrafish by exposing them to male-specific hormones. When the females developed, they displayed "lesbian" behavior: they pursued other females the way a male zebrafish would. This raises the question: isn’t it possible that this could happen in humans? Isn’t it possible that the hormonal environment in the womb could alter the neural circuitry in the fetal brain such that sexual orientation is reversed? Again, by sheer probability, this is bound to happen in some individuals if it can indeed happen. There is absolutely no reason to think that it couldn’t happen.

      Also, for all we know, homosexuality may be part of our evolution. To think that we understand all of the intricacies of evolution at this point, when we eat grains/carbs the way we do, is comically absurd. Homosexuality may be partly designed by evolution to curb population growth. They could serve the evolutionary purpose of caring for those whose parents died or otherwise can’t care for their own children. This would not be that much different than patriots who are willing to die for their country in their prime of life. Homosexuality very well could be part of our evolution.

As Usual, Government: Get Out of Marriage 

     Marriage can be wonderful, and it could be argued that it is the bedrock of a happy family, a happy life, and a happy society. That being said, there is nothing wrong with choosing not to get married, as that choice does not affect anyone else. Those who choose not to marry should not be punished by the government, which is the case if marriage is subsidized. The bottom line is that the government, especially the federal government, should make no laws regarding heterosexual or homosexual marriage. In fact, it is illegal for the federal government to do so, as it violates the Constitution.

    If someone doesn't support same-sex marriage, that's fine: their opinion does not matter if the government isn't behind them. The government is supposed to protect individual freedom, not subsidize or supress it. This means that it should protect the rights of people to marry whomever they please, with no benefit and no punishment for doing so. A church, or any group not powered by government, should have the right the ban or shun homosexuals if they so wish. The federal government does not and should not have this right. States can choose as they please, but, in my not-so-humble opinion, they should choose to support individual freedom, not any specific group. If we actually followed the Constitution on this issue, then we wouldn’t have the Supreme(ly Incompetent) Court and entire federal government worrying about Stan marrying Steve when they should be worrying about terrorist attacks, the way the Constitution intended.

The Nature of a Global Economy

     I often hear that China benefits from our consumption. They get jobs making stuff, we buy it, and everyone wins, right? Without our voracious appetite for cheap clothes and toys, those poor Asians wouldn’t have anything to do all day, right?

     In a normal global economy, a country would be able to afford cheap goods because it exports goods. Let’s say that country A discovers oil and had no oil previously. The businessman who discovered the oil can make a profit only by charging less than whatever the foreign competitors are charging. The citizens of this country can now get cheaper oil. The foreign citizens also partly benefit because this places competitive pressure on existing foreign oil businesses. This discovery of oil is bad only for existing foreign oil businesses, and good for everyone else.

Steve Jobs Liked Dollars, not Yuan.

     This process also affects the purchasing power of the currencies involved in the exchange. When a country discovers a new resource, or creates a new product for which there is consumer demand, this strengthens the currency of that country. The reason for this is because if a foreigner wants this product, the currency he uses is eventually converted to the currency of the producer. If there is demand for iPhones in China, for example, then the Chinese retailer must first convert his currency to US dollars in order to pay the producer, Apple. Or, Apple may accept Chinese yuan, but it will convert those yuan to dollars in order to pay its employees, pay its debts, hold reserves, etc. So, there is higher demand for dollars, and decreased demand for yuan. Banks will have more yuan on reserve, and less dollars. Higher demand and lower supply equals higher value. The dollar has gained purchasing power, because more people want it, and there are less of them available. The yuan has lost purchasing power because less people want it, and there are more available.

Is a Strong Currency Good or Bad?

     A stronger currency is quite obviously a good thing (at least to those who haven’t been brainwashed) for the citizens of the country in which the currency is used. You can buy more stuff with your money. Your savings can actually gain value (purchasing power) without gaining interest! Each time you go to the store, your money can buy more stuff!

     According to our economic “experts” and central bankers (the people running the economy), this is a disaster! A stronger currency means that it’s harder for foreigners to buy our stuff. That means it’s harder to start a business here, because your product will be expensive for foreigners, and a foreign company making the same product will be able to make it for cheaper. But this is not a disaster: this is the economy adjusting. This is an unavoidable side effect of having a strong currency, just as high interest rates is a side effect of high spending. If demand for the US dollar gets too high, then foreigners will stop buying stuff from us, and our citizens will start buying foreign products, thereby weakening the dollar. If this goes too far the other way, then the opposite will occur. An equilibrium is reached, and the economy is stable.

     Our central bankers purposely, yes PURPOSELY devalue our currency (aka our earnings and savings). Why? A cheaper currency means it’s easier to create jobs because it’s easier for foreigners to buy our stuff. JOBS JOBS JOBS, right? This helps corporations in the short term, but hurts everyone in the long run. Our short-sighted politicians push these policies out of a combination of ignorance and selfishnesses. Politicians hire economists from universities. So, guess what they teach in higher in education in the US? Talk about crony capitalism!

     When the exchange of currencies is made, a foreigner can get more of the devalued currency, and therefore will be able to pay more for the domestic products. This may seem good to the domestic producer in the short run, but the longterm economic reality is that we get the labor (aka jobs), and the foreigner gets the goods. The devaluation of the currency isn’t realized by the market immediately, but ends up getting priced in eventually. So, along with the labor (jobs), we also get a paycheck that won’t be able to buy as much. It’s a lose-lose situation. We have to toil all day, and don’t get to buy as much with our paychecks. Even the country getting the cheap goods loses, because once the producing country figures out that they’re getting a raw deal, it will stop selling to the consuming country (beware USA). This is fixed only by a painful restructuring of the economy for BOTH countries. China and the USA are in a race to see who can devalue their currency, and hence destroy their economy, the fastest. Mitt Romney said in a presidential debate that he would label China as a "currency manipulator" on day one of his presidency. He hilariously never mentioned what he would do with our own Federal Reserve.

Bernanke and Greenspan vs Economic Logic

     In the US, our Fed Chairmen have tried to fight this conundrum of a strong currency by financing our consumption with debt, (just as they stupidly fight low spending with low interest rates). So, we devalue our currency to artificially create demand for our goods (aka “create” jobs), while simultaneously borrowing money from foreigners to buy the goods whose labor we deem to be below our sense of decency (that's what those Asians are for, right?). So, we have fake jobs, making products that most people can’t actually afford, a rapidly depreciating currency, unsustainable debts, and a trade deficit that is going to blow up in our faces, all because we don’t understand the simple fundamental concepts of global economics that an average 8th grader could grasp.

  

     Say’s law holds true: products are paid for with products. There is no way around this simple economic fact.

8 Simple Ways to be Healthier

     You don't need lots of time and effort to feel and become healthier. There are some easy things you can do to shrink that belly, feel more energized, and live a longer, better life. Here are some easy changes that almost anyone could make.

8. Go for a walk. You don’t need to go to the gym and pump iron for 2 hours everyday to become noticeably healthier and leaner. Just take a walk around the block. A short walk everyday can make a world of difference. Humans were made to walk, not to run marathons. It's a great, easy, quick paleo exercise.

7. Take something out of your diet. Don’t try to take out your favorite treat, or something that you’re not sure you could deal without. If you NEED your bagel in the morning (ahhh!! Gluten!!!), then don’t make yourself miserable. You’ll resent the concept, likely cheat, and then feel dejected if you do cheat. So take out something that you don’t need, and cut it for a week or two. It will give you some confidence in your willpower. See how you look, feel, and perform. The decide if the change is permanent.

6. Put something IN to your diet. Again, don’t add spinach to your diet if it makes you sick just thinking about it. Don’t mind broccoli, kale, or asparagus? Throw it in with your lunch or dinner for a couple weeks and see if you notice any differences.

5.  Stretch. I don’t stretch enough. I have a bad back, so I should stretch MORE than the average person, not less. Stretching relaxes your muscles, which increases blood flow, and can lower blood sugar levels. (For all you fellow dorks out there, I think skeletal muscle is the key tissue for insulin sensitivity, and therefore myriad diseases). It also improves your posture, which is good for your muscles and bones.

4. Watch less TV, and make it productive. I’m always shocked at how many shows people watch. With DVR, I feel as though the hours spent in front of the TV has increased. When you do watch TV, stretch or do some sit-ups/push-ups while you watch. Buy some dumb bells and do some curls while you indulge in the fake lives of people you’ll never meet. Better yet, go to the gym to watch TV: most gyms have plenty of TVs nowadays. Walk on the treadmill while you watch.

3. Read something relaxing. Reading celebrity gossip magazines and news stories can be depressing: infidelity, divorce, murder, etc. Read something nice that makes you feel good, like Economics in One Lesson! (Kidding, though that’s serious for me). It will lower your stress levels, which is great all around for your body.

2. Write. Keep a journal, and write in it every once in a while. Writing can be therapeutic. It allows you to get everything out of your system, and enables you to confront anything that’s bothering you on your own terms. It will lead to lower stress, which is always good. Write a letter or an email to a boyfriend or girlfriend or spouse or parent. My girlfriend and I write random emails every once in a while. It’s always nice to get an unexpected surprise when you open your email in the morning, too.

1. Get more sleep. I know that most people would LOVE to get more sleep. But I think most could achieve this with some planning. Cut back on TV time. Cook dinners ahead of time (I like to cook several meals for the week on Sunday). Take that vacation day when you need it in order to catch on sleep.

     None of these changes require much effort or major lifestyle changes, but would make a noticeable difference in your health.

     Do you have any suggestions for the rest of us? Did I miss an easy one? Please share!

"Raise My Taxes, Nothing Will Change in My Life:" That's Precisely the Point, Mr. Langone!

     Raising taxes on the rich seems like a great idea politically, socially, morally, and economically. Our country has huge debts, failing social programs, and a slowing economy. So, it seems only fair and reasonable that we should get help from those who can afford it: rich people, right? Wrong.

Source: NYUlocal.com

      Ken Langone, the CEO of Home Depot, said on CNBC, “raise my taxes, go ahead. Nothing will change in my life...”THAT’S PRECISELY THE POINT!!! His life won’t change, but someone’s will. The question is: whose life will change? 

Life Will Change for the Less Fortunate

     Life will change for the people who depend on the capital that Mr. Langone saves and invests: entrepreneurs and small businesses. If you want to borrow money to start or expand your business, or to buy a home, you borrow from a bank or lender who attained their capital from a rich person. If you tax rich people more, they don’t spend less (duh!): they save and invest less. That makes borrowing money harder for the little guys because banks have that much less capital to lend out. So Mr. Langone is half-way to the right answer, but then veers in the wrong direction.

      Langone proved my point when he said this: “In reality I don’t believe people making a million dollars a year are gonna do anything different in how they spend money if they pay more taxes. A person making a million dollars will pay the higher tax and will still spend as much money.”

      Again, he's right, and that’s PRECISLEY the point. Rich people will spend the same amount, but save and invest less (Rand Paul failed to make this point in response to that comment in the video above). Mr. Langone is obviously economically challenged (like everyone else). And we understand here at HNW that saving and investing (in capital projects) drive the economy, not borrowing and spending (on consumption).

     When rich people, like Mr. Langone, put their money in banks (lending institutions) and investments, entrepreneurs and small businesses attempt to make products for which there is future consumer demand. This leads to a higher standard of living for everyone. This means cheaper toilets, cheaper cell phones, cheaper healthcare, and cheaper everything. If you tax Langone more the way we tax today, he won't cut expenses, and his taxes will be paid from money that otherwise would have been saved and invested. So, his life doesn't change, but borrowing costs will be higher for everyone.  

     The more we incentivize spending, the worse off we are, because we're incentivizing the current (relatively expensive) way of doing things. We should wish for rich people to keep producing, keep underconsuming (rather than lavishly spending on useless things like yachts), and keep making life better for everyone else by saving and keeping their money in the hands of those willing to lend it out for profit. That means we should tax their spending, not their savings. A higher tax on income/investments merely taxes those who depend on the capital of rich people, which is everyone else.

"But the Government Will Put That Money to Good Use!"

     Some will argue, with a straight face, that even though taxing the rich means less money to be lent out to entrepreneurs, it's all OK because the government will spend that money on much-needed programs: social security, medicare, etc. A rebuttal of this argument will get its own post here, so I'll just say that fortunately, the general public and even some politicians are beginning to understand that these programs are unsustainable because they incentivize detrimental economic behavior.

Thanks, Mr. Langone!

     So, while Mr. Langone can pat himself on the back and sleep well at night, he's actually advocating a policy (taxing the rich) that would hurt the poor, and the overall economy. The rest of us suffer because he is a moron, like most others, including our politicians and policy-makers, when it comes to basic economics. Hopefully people like him, who were smart enough to make their money in the first place, are smart enough to eventually come to their common senses. We can only hope.

     

Does Consumer Spending Drive the Economy? (Hint: No.)

    A few of my other posts have touched on this, but I want to tackle it head on. Our country, our politicians, our economists, and our citizens believe that consumer spending drives the economy. However, that line of false logic is merely analogous to putting the cart before the horse.

     I’m going to steal an example from Peter Schiff. Imagine that there are five people stranded on an island: four Asians and one American. They get together and divvy up the work that needs to be done for survival. One of the Asians will fish so as to provide food. Another Asian will build a fire to cook the food. Another Asian will build shelter. The last Asian will forage for vegetation.

     The American will be given the role of eating, and living in the shelter structure.

     A modern economist, politician, average citizen, etc. would look at this situation and say, “Well the American is the key to this whole system. Without his demand, his appetite, the Asians wouldn’t have any jobs! They wouldn’t have anything to do all day!

     This is essentially the system we have today. In a later post, I’ll address how a global economy is supposed to work, and dissect this further. But here, I’ll stick to dispelling the false idea that consumer spending drives the economy.

Consumer Spending = Eating

     I like to think about consumer spending like eating. Eating is great, it's the fun part, and being hungry sucks. Food is delicious. The reason why I’ll toil in the kitchen for an hour is to be able to eat a nice fat steak. When we look at world hunger, no one thinks that lack of the desire to eat is the problem. We recognize that it’s lack of food, and lack of the means to acquire and produce food. However, in economics, we look at this situation and think that people just aren’t eating enough.

     Consumer spending is the equivalent of eating. Eating is the end game. You go out and hunt that animal, gather those berries, build that fire, and cook that meal so that you can eat. Once you eat that food, it’s gone. Likewise, you go to your job, you earn, and then you consume. You buy a dress, or a cruise, or a car. That money, that capital, once it’s spent, is gone. The goods or services you bought were already paid for by the producer. Sure the producer gets his money back, with profit (preferably). But those profits, if spent on consumption (like a yacht for the CEO of the cruise company), eventually get consumed as well. If you save or invest what you don’t consume, ,or if the cruise company CEO does the same, then entrepreneurs use that saved capital in order to build better products, all in the paradigm of satisfying a consumer demand.

     Again, our governments think there’s an eating problem: people just aren’t eating enough! We need people to eat more! Aggregate demand for food is down!, they’ll say. What our politicians, policy makers, and citizens don’t understand is that spending is the end game. Anyone can eat. If you print a bunch of money and make borrowing money easier by lowering interest rates, you’ll increase spending, sure! That’s easy! People will always spend free money. They'll eat free food if you put it in front of them, too. But all that does is make people eat food that’s already been hunted, cooked, and prepared. The hard part is finding the food. It’s saving the food: producing and underconsuming. It’s going out there, hunting for it, and then not eating all of it, saving it up for winter. If the government incentivizes everyone to eat more, it just means we’re running out of food that we had already gathered and saved for later consumption.

The More Food You Can Save, the Better

     The capital that we save, that we don’t consume, that we plow into new businesses and new products, is what drives the economy. It makes borrowing easier and cheaper for entrepreneurs. It leads to new efficiencies that make products cheaper, and hence more affordable to everyone (like cell phones), and to the satisfaction of novel consumer demands (like a cure for cancer). Saving and underconsumption accelerate this process.

     Sure, you need to eat in order to be able to have the energy hunt, just like you need to hunt in order to eat. But people will always spend enough to survive. They’ll always hunt for what they need: rent, food, insurance, etc. The more we don’t consume, the more we save, the better off we are. Just as I explained in the last post, people won’t suddenly stop spending on items that they can afford and enjoy (like indoor plumbing, a car to get to work, even cell phones). So, when politicians, economists, and policy-makers worry that people will suddenly stop spending, it’s silly, nonsensical, and leads to destructive legislation and policies, like low interest rates and money-printing.

     Sometimes, people are forced to stop spending because, say, they were spending the equity in their home on consumer goods. But, that’s because it wasn’t real in the first place. When spending falls in these cases, it’s because of previous artificial extension of credit, and not because people stop wanting houses and SUVs. This should be an argument AGAINST incentivizing borrowing and spending, not and argument for it. Unfortunately, we learn all of the wrong and contradictory lessons from our own misdeeds.

Politicians Economists, and Policy-Makers Have It All Backward

     Our politicians and policy makers are constantly trying to get us to spend more (eat more). Spend more, save less. Eat all of that food that we all saved. Our economic indicators are largely based on spending, and specifically on consumption-based spending. We think a rise in consumer spending, even a rise in borrowing, means the economy is improving. The truth is, a rise in consumer spending and borrowing COULD be a REFLECTION of a healthy economy, but it DOES NOT HELP the economy. In a normal economy, it would mean that people had saved up, and are now spending what they had previously saved. Great! We're finally being rewarded for our production and underconsumption. However, when consumer spending is artificially induced, ie by lowering interest rates or printing money, all it means is that both consumers and entrepreneurs are squandering all of the food that we had gathered and saved, all under the false illusion that consumers will have more to spend in the future. We’re eating more, but didn’t hunt or gather any more food. It leads to squandering of resources, misallocations of capital, painful corrections, and our “experts” learning all the wrong lessons and making the problem worse in a vain attempt to fix it.

How Much Longer Can This Last?

     I can’t say for how much longer the fallacy that consumer spending drives the economy will remain, but based on how often I see and hear that phrase, I think it will be a long time. Even when the US economy crashes, I believe that we’re still not going to realize that it was too much spending and borrowing that brought on the crash. We didn’t learn it from the housing bubble. We blamed greedy bankers and lack of regulation instead, ironically enough. I think we’re first going to blame Europe, or Japan, and claim that the fact that their economies crashed is the reason why ours did too (which will be partly right, but the essence of the reasoning will be wrong). We’ll think we need more stimulus, more government, and more spending, ie more alcohol.

     I don’t know what the end point will be. But the path to that point is going to be hell, because the US isn’t the only country operating under this premise that spending drives an economy. Our world is teetering on the brink of economic collapse precisely because of this idiocy, and we have only ourselves to blame.

     Stay tuned for an explanation of how a global economy is supposed to work, and how ours is actually “working.”

     Am I crazy? Is the world fine? Any Keynesians out there to tell me how dumb I am? I’d love to hear from all of you!

Inside the Housing Bubble

     At this point, you know that I'm obsessed with the housing bubble, and you’ve probably heard about the investments that were part of the it: subprime mortgages, CDOs, CDSs, adjustable rates, etc. Nonetheless, let’s take a look at exactly how these financial instruments led to the housing bubble. (Or, you could just watch Peter Schiff explain it before it actually happened).

     We know that the government provided the seeds and the showers for the housing bubble. So how did the investment world pump this bubble?
   
Moral Hazard Galore  

     Normally, when a bank issues a mortgage, the bank is on the hook if the buyer defaults. So, when a bank sends an appraiser to a home before underwriting the mortgage, the bank wants an accurate appraisal because if the buyer defaults, the bank wants to know that the house is worth what the bank is lending. However, if the bank can sell the mortgage to a third party, then the bank no longer cares if the loan is repaid, and hence wants the appraiser to assign a higher value to the homes, so that the loans would be worth more. Therefore, the responsibility of making sure the loan will be repaid and that the appraisal is accurate is effectively passed along to the third party. This is fine as long as the third party does its homework. For a while, during the 1980s and 1990s, house prices rose steadily with inflation. The third parties generally knew what the value of a home would be, which therefore would keep banks honest and assure that the securitized mortgages were secure.

Dot-Com to Housing

      When the dot-com bubble burst, Fed Chairman Alan Greenspan attempted to re-inflate the NASDAQ bubble by lowering interest rates. He was also attempting to inflate the housing market, at the urging of Paul Krugman, in order to keep the economy from going into a tailspin. Well, we know he did a fantastic job! Anyway, these low interest rates caused home prices to rise. All of the phony money from the dot-com stocks, and then some, made its way into the housing market.

      When home prices started to rise, investor demand for mortgages increased, and demand for owning homes increased because it seemed like an easy way to get rich. Investment bankers decided to package these mortgages into complex financial instruments. They called them collateralized debt obligations (CDOs). Investors no longer cared if the appraisal was accurate, or if the borrower stated their income, or if the borrower could afford the adjusted rates: they thought home prices would rise forever.

More Loans Please!

     So, banks and lenders were incentivized to make as many loans as possible because investor appetite for them was insatiable. Anyone could buy a home with nothing down because the banks could sell the loans to eager investors. The epitome of the stupidity of the entire mortgage crisis was the issuance of interest-only, negative amortizing mortgages to subprime borrowers with no proof of income. “Interest-only” means that the buyer pays all of the interest first, and then the equity (awful deal for the borrower). “Negative amortizing” means that any missed payments simply get added back to the principal price of the mortgage (awful again). There were also adjustable rate mortgages, meaning the interest rate adjusts after a certain period of time (2 years or 5 years, etc.). The initial rates on these mortgages were really low, known as teaser rates. People were maxing out their ability to pay even the teaser rates because everyone, including the lenders, thought that home prices would just keep going up. In fact, the ONLY reason why either the lender or the borrower would agree to loans like these is because they think the value of the home will go up. Who cares if they don’t make payments if the appreciation outpaces the negative amortization? We're going to sell it to someone else anyways!  And the borrower will be fine, because he can just sell or refinance after the rates go up, right?

      To make things worse, these awful mortgages were packaged in with relatively “good mortgages” (even the good ones went bad). These became the CDOs. The CDOs were usually made up of $1 billion worth of mortgages, and they were subdivided into tranches. The lowest tranche, usually $1 million worth, was made up of subprime mortgages. Now, it was stipulated in the CDOs that the lower tranches would take the losses of the other tranches first. So, even if borrowers from a different tranche defaulted on their payments, the losses would go to the subprime tranche. This made betting against the lower tranches that much more attractive for those savvy enough to see what was happening.

Give Me That 7% Yield!

     With home prices appreciating seemingly without end, and with interest rates on treasuries low, investors hunting for yield jumped into these investments. This made their prices go even higher, which further incentivized lenders to find more borrowers and make more loans. It was a vicious cycle. The rating agencies rated these CDOs as AAA, the equivalent of sovereign debt. Obviously, they weren’t worthy of that rating. The subprime tranches were rated BBB- and yielded ~7%. They ultimately went to zero, and yielded only cries for bailouts from mommy and daddy, i.e. the government.

     Also, while home prices were rising, it became really easy to extract the equity. People did this with home equity lines of credit (HELOC), and bought SUVs, second homes, vacations, imported goods, etc. So, Detroit expanded due to the increased demand, along with countless other businesses. The economy became dependent on rising home prices.

     When the music stopped, the party ended, and the hangover began.  All of the money that went into building homes and making gas guzzling SUVs was exposed as being misallocated. Instead of drinking water and resting, the Fed and the government have liquored us with more of the same: government guarantees (currently 90% of the mortgage market is owned by the government), lower interest rates (currently at 0), and more printing. The next hangover will be worse, and we’re running out of alcohol.

Credit Default Swaps

     The savvy investors like John Paulson, Peter Schiff, Mike Burry, Kyle Bass, etc., understood what was happening, and they bought credit default swaps (CDSs) against those subprime tranches. A CDS is a form of insurance in which the insurer pays the full value of the remainder of the loan in the event of default.

     So, when home prices began to fall and home –“owners” began defaulting on their mortgages, these tranches got wiped out because these tranches absorbed the losses first. This triggered the swap, and Paulson et al. made their billions. AIG was one of the morons on the other side of these trades, hence why they needed Uncle Sam to bail them out. Burry had CDSs on AIG and Washington Mutual, but was forced to liquidate his positions before the collapse because his investors sued him!

     Also, please understand how corrupt and/or stupid our economic system is. Goldman Sachs figured out what was going on before most others. So, they began selling the CDOs to their clients while simultaneously betting against those CDOS for the bank itself by buying CDSs. This is certainly a breach of fiduciary duty and outright fraud. Henry Paulson was the CEO during most of this before becoming Treasury Secretary under President Bush in 2006. What was his excuse for not seeing and the housing bubble and doing more to prevent it? Well, he said he only got to the Treasury in 2006! How was he supposed to see it from the other side of the moon while he was at GS? So, he was either an entirely incompetent moron while CEO, or he was utterly corrupt beyond description. I'm not sure which is worse, and it's probably a combination of both. This is briefly explained by Michael Burry at the 2012 UCLA Commencement address speech to Economics Graduates, which I recommend you watch.

The Real Prescience

      I started my other post about the housing bubble with a quote from Henry Hazlitt in Economics in One Lesson (written in 1946, mind you). I'll end this one with another quote from someone else who also predicted the housing bubble decades before it happened: Benjamin Graham, the father of value investing and Warren Buffett's professor at Columbia. This is from his seminal work, Security Analysis (p. 216-217), (written in 1934, mind you):

     "New and Less Conservative Practices Developed. The building boom which developed during the 'new era' was marked by an enormous growth of the real estate mortgage business and the practice of guaranteeing obligations of this kind. New people, new capital, and new methods entered the field...Great emphasis was laid upon the long record of success in the past, and the public was duly impressed—not realizing that the size, the methods, and the personnel were so changed that they were in fact dealing with a different institution. In a previous chapter we pointed out how recklessly unsound were the methods of financing real estate ventures during this period...Hence when the crash came, the value of the properties, the real estate bond company, and the affiliated guarantor company all collapsed together. 

      Evil Effects of Competition and Contagion. The rise of the newer and more aggressive real estate bond organizations had a most unfortunate effect upon the policies of older concerns. By force of competition they were led to relax their lending standards of making loans. New mortgages were granted on an increasingly liberal basis, and when old mortgages matured, they were frequently renewed in a larger sum. Furthermore, the face amount of the mortgages guaranteed rose to so high a multiple of the capital of the guarantor companies that it should have been obvious that the guaranty would afford only the flimsiest of protection in the event of a general decline in values."

     I suggest you read the entire passage, and the entire book. Again, those who do not understand history are condemned to repeat it.  

     Did you see the housing bubble coming at all (I didn't: I was in college)? Did you maybe think that the rise in home prices was unsustainable? What's it like looking back with 20/20 hindsight?

                              

   

   

The Paradox of Thrift - A Keyensian Myth Debunked

     We all know that saving money is good: you can afford that vacation, retire early, fund your kids college education, etc. However, most of us think that saving money is bad for the economy at large. We think that people spending money is ipso facto good for the economy. There is a popular Keynesian concept, based on this premise, that has permeated our culture. It is termed “The Paradox of Thrift.” It can be simply summed up as follows: saving money is good for the individual, but bad for the economy. Spending money is bad for the individual, but good for the economy. Hence the supposed paradox.

     This seems plausible on the surface. However, think deeper: if people are saving, then that means that those who are saving are creating value for others, and that banks have more money to lend out. The money saved eventually makes its way into the economy. This makes borrowing easier. Then people will be incentivized to buy more, especially things that are normally bought on credit, like houses and cars. So, this system is self-correcting: if people save more, then others will borrow more. If people are spending more, than others will be incentivized to save more. If lenders are liberal with their capital, then returns will decrease, incentivizing more conservatism, and vice versa. An equilibrium is reached, and the economy is steady, people are happy.

     So where does the Paradox go wrong? We have to start with a general premise accepted by proponents of the Paradox of Thrift. They believe that the economy is generally based on aggregate demand, or in other words, the total demand for goods and services. They believe that recessions occur because aggregate demand decreases: that people suddenly stop wanting stuff.

     It should be intuitively obvious that demand does not change much. I want a condo at the Ritz. I want a new car. Most people want a mansion, an education for their children, etc. The problem is that we cannot all afford these things. Our demand for them doesn’t change much.

Here’s what’s really happening: entrepreneurs use the savings of others to create either new products and services to satisfy consumer demand, or they create new efficiencies in the production of existing products and services. When entrepreneurs make new products or services, the resulting goods can be quite expensive at first, and only a select few can afford these luxuries. 

    An historical example is spices. Before the invention of the refrigerator, spices and salts were in high demand in order to preserve and make food more palatable. Only the rich could afford them, but EVERYONE wanted them. Today, I can go to Stop and Shop and buy all the spices I want for just a few bucks!

   A recent example is cell phones. When cells phones first came out in the 1980s, only rich people like celebrities could afford them. Also, they were big, bulky, and didn’t work well. Remember Zack Morris’ gigantic phone that everyone thought was so cool? Over time, cell phones became cheaper and better. This is a natural economic phenomenon: entrepreneurs know that there is huge DEMAND for cell phones, but the problem is that the price is too high, keeping potential customers out of the market. So, the entrepreneurs figure out ways to make the production process more efficient, and therefore cheaper and available to more people. When the price gets low enough, more people will be willing to buy one (or two or three for their kids). The reason why an entrepreneur can make the investments of time and money to figure out these new efficiencies (and the creation of the product itself) is because someone saved enough money to fund the endeavor. Now we all have cell phones (and computers) that are far better and cheaper than those available not long ago.

    

     The point here is that demand doesn’t change much. What changes is the amount of capital (money, land, and labor) needed to make the product or service. The lower the cost, the more people will buy (duh!).

     So, the Paradox of Thrift isn’t a paradox at all. Saving is always good, because it ipso facto requires someone else to spend, and for the seller to underconsume so that more can be consumed in the future (in his own self-interest, mind you). People don’t suddenly decide they don’t need a refrigerator anymore, or that they don’t need plumbing, food, housing, a cell phone, etc. When a product or service is brought down to a certain price level, then demand for that good is PERMANENTLY elevated. In terms of legitimate aggregate demand, new efficiencies that make existing products cheaper, and hence more affordable, permanently raise "aggregate demand."

     Where do the Keynsians get confused? They confuse the effects of artificial extension of credit for a reduction in aggregate demand. Ben Bernanke, a Keynesiand “economist” and Chairman of the Federal Reserve, once said in a speech that “deflation is in almost all cases a side effect of a collapse of aggregate demand.” He is dead wrong. Deflation, at least in modern history, is almost always caused by an artificial extension of credit by central banks. When the debt can’t be repaid, then there is an inevitable contraction of credit, which leads to deflation (think housing 2008). This can seem like a decrease in aggregate demand, but it is in reality a reflection of the fact that people were spending beyond their means of repayment. Subsequent profits then go to repayment of debt that was already consumed, rather than to current or future products.

     The “Paradox of Thrift” is wrong: saving is good for the economy. The more people save, the better, because entrepreneurs will have more capital available to make new products and services, and to make existing products and services cheaper and, hence, available to more people. With more capital available, the new products and efficiencies are therefore cheaper to figure out, resulting in faster increases in the standard of living. If we’re going to incentivize either saving or borrowing, we should incentivize saving: savings are the seeds of economic growth. People will always buy what they need, so incentivizing more spending is detrimental to a healthy economy, as it raises the cost of making new and better goods and services.

     Don’t be fooled by this supposed “paradox:” saving is good, artificial extension of credit is bad. Aggregate demand doesn’t change much, but can appear to when credit is artificially expanded.