Friday, July 11, 2008

Reports of Capitalism’s Demise Are Greatly Exaggerated

It has been suggested that neo-liberalism has failed because of current economic problems. It may have a black eye because of bad choices by the political party that claims it, but the Left has yet to prove that their policies at the time would have worked better or were less expensive. Let's walk back in time and remember how things were.

In 1998, I was walking on the campus of my Alma Mater, Texas A&M, where there is a tower called the Richardson Petroleum Engineering Building. In the front is a bronze statue of a roughneck working the drill floor of a rig. As I walked by, I thought to myself, “What kind of moron majors in petroleum engineering?”

At the time, oil was $11 a barrel. Besides the brief period during the first Gulf War the price had been declining since 1981. My family had lived through the oil bust in Houston during which my father was laid off several times. I knew a number of people who had to quit their oil careers and switch to something else. Houston in the ‘80s was the Detroit of today. The oil industry was dieing and the city was desperate to tout rare exceptions like Compaq Computers from the embarrassing dependence on oil companies. In the late ‘90s, oil majors were hemorrhaging losses while the rest of the country soared with the booming tech industry. Oil was still needed, but Big Oil was dead.

Back then economics professors showed how real prices for almost every commodity inevitably declined. Virtually every new power plant in the United States was going to natural gas. Hybrids and fuel cells were right around the corner. People were going to move back into the city and were going to use mass transit. Everything pointed down for the future of the oil industry.

For housing too, there were few warning signs of our recent problems. Before 2006, there had been no nationwide home price decline since the early deflationary years of the Great Depression. Since the mortgage industry came to dominate home buying, no nationwide decline had ever occurred. So, when mortgage securities, tranches, and other derivatives were created no one ever thought about the possibility of prices plunging and foreclosures exploding. We had a real estate boom during the 1970’s, but at the end, there was no bust, so why would this time be any different?

Today those on the Left are claiming victory because the free market and its proponents have failed to perform with omniscient clairvoyance, beseeching us to pitch the whole philosophy. They are taking their turns playing Monday morning quarterback with economic history to nail Republican leaders back to Ronald Reagan as responsible for today’s crises by not foreseeing the inevitability of today’s problems. The nakedness of their argument is exposed when you look at the realties a decade ago. Big Oil was ailing and mortgage backed securities were doing fine.

It would be helpful to know exactly what policies were promoted by Democrats before 2006 that would have avoided the housing crisis? Did anyone support legislation to alter the way financial service companies value mortgage backed securities? Legislation is slow and cumbersome and cannot be written to prevent a risk before the market is even aware that a problem exists. By the time errors and abuses were well known it was already too late. The only legislative prescription would have been a Luddite resistance against new financial instruments.

Similar complaints have been raised about the free market approach to the energy policy approximated by Republicans. Ten years ago, no one knew exactly when supply constraints would be a problem. Yes indeed, politicians could have gone against public sentiment and the evidence of downward trending oil prices to pass some unpopular measures and force more conservation and research on alternative fuels. However, to substantially change consumption patterns the policies would have had to have been draconian. Blithe claims that government funded alternative fuel research would have quickly found these mythic new carbon friendly energy resources are mostly wishful thinking. If we can’t produce them in high quantity at $148 oil, the research grants would have to be astronomical to be successful. Today’s higher prices are encouraging the very behaviors they would have legislated. Their policies were unpopular, unnecessary and would not have been any less painful than high gas prices.

Using the sophist argument that Republican principles are Free Market principles glosses over the broad evidence that the market is the best mechanism ever conceived to discover information and allocate resources. The correlation between free markets and high living standards is proved over and over again around the world. While free market skeptics like to cherry pick historical evidence they have still not proved that a few people can plan an economy better than individuals.

As for the morons at Texas A&M choosing to become Petroleum Engineers; they are averaging first year salaries of $78,000 a year with a bachelor’s degree. Fortunately, I was not allowed to plan their futures.

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