Free Our Markets

by Howard Baetjer Jr

  Notes to Chapter 6 “Market Forces Regulate”

  The quoted passage about Automotive Service Excellence (ASE) comes from “Auto Service Goes High-Tech,” accessed July 31, 2012 at http://www.ase.com/News-Events/Publications/Car-Care-Articles/Auto-Service-Goes-High-Tech.aspx.

  The article about food industry self-regulation is Andrew Martin’s “To Fill Food Safety Gap, Processors Pay Inspectors,” New York Times, April 16, 2009. Accessed June 26, 2009, at http://www.nytimes.com/2009/04/17/business/17leafy.html?_r=3&hp.

  Data on Underwriters Laboratories comes from “About UL” at Underwriters Laboratories’ website, accessed July 1, 2009 at http://www.ul.com/global/eng/pages/corporate/aboutul/.

  For more information on the alleged bribery at the Gemological Institute of America see “Leading diamond appraiser in bribery inquiry,” by Patrick McGeehan, New York Times, December 21, 2005. It is available at http://www.nytimes.com/2005/12/21/business/worldbusiness/21iht-nydiamond.html.

  Searching the web nine years later, I see that both the Gemological Institute of America and the European Gemological Laboratory are highly regarded.

  Thalidomide was a drug that, among other desired effects, relieved the symptoms of morning sickness in pregnant women. Tragically, it also caused terrible birth defects, though that consequence was not understood for many years. Thousands of deformed children were born in Europe as a consequence of wide use of the drug there. In the United States, only seventeen children were born with thalidomide-caused deformities because the FDA refused to allow its use in the U.S. until more testing was done.

  For my understanding of the problems with the FDA’s authority to ban drugs I am indebted to Professors Dan Klein and Alexander Tabarrok of George Mason University. This discussion draws extensively on their FDAReview.org, a fine source of information on the FDA and alternatives.

  Another fine discussion of the FDA is in Milton and Rose Friedman’s Free to Choose, in a chapter entitled “Who Protects the Consumer?”, pp. 203-210. On the related topic of the licensing of physicians, see Milton Friedman’s discussion in Free to Choose, “Who Protects the Worker?” pp. 230-241, and Shirley Svorny’s “Licensing Doctors: Do Economists Agree?” in the online journal, Econ Journal Watch, Vol. 1, No. 2 (August 2004) available at http://econjwatch.org/articles/licensing-doctors-do-economists-agree.

  The quotation from Henry I. Miller is from his 2000 book, To America’s Health: A Proposal to Reform the Food and Drug Administration (Stanford, Calif.: Hoover Institution Press, pp. 42-43), as quoted in Klein and Tabarrok’s, “Why the FDA Has an Incentive to Delay the Introduction of New Drugs,” available at http://www.fdareview.org/incentives.shtml.

  The examples in Table 6.1 come from Noel D. Campbell’s “Replace FDA Regulation of Medical Devices with Third-Party Certification,” Cato Institute Policy Analysis No. 288 (November, 1997) available at http://www.cato.org/pubs/pas/pa-288es.html. The sources Campbell cites are, for thrombolytic therapy and Misoprostol, Sam Kazman, “Deadly Overcaution: FDA’s Drug Approval Process,” Journal of Regulation and Social Costs, No. 1 (August, 1990): pp. 43 and 44; for Interleukin-2 and the AmbuCardioPump, Alexander Volokh, “Clinical Trials—Beating the FDA in Court,” Reason, May, 1995, p. 23; for the home HIV test, Robert Goldberg, “The Kessler Legacy at the FDA,” IPI Insights, January-February 1997, p. 1.

  My source for the statement that estimates of the annual number of preventable deaths attributable to FDA over-caution range in the tens of thousands every year is “Theory, Evidence and Examples of FDA Harm,” in Klein and Tabarrok’s FDA Review at http://www.fdareview.org/harm.shtml. Klein and Tabarrok summarize studies of the U.S. experience over time and also studies that contrast the U.S. experience with that of Europe, where drugs are approved much faster than in the U.S. As to the former, they conclude that “The number of victims of Elixir Sulfanilamide tragedy and of all other drug tragedies prior to 1962 [when the FDA’s restrictions were much lighter] is very small compared to the death toll of the post-1962 FDA.” As to the latter, they conclude, “There is no evidence that the U.S. drug lag [behind Europe] brings greater safety.” Those interested in recommendations of what to do about the problem of FDA overregulation might find interesting Dan Klein’s low-tech but persuasive video on The Davos Question, at http://www.youtube.com/watch?v=8N_-IHM00cc.

  The quotation from Sam Kazman is from his “Deadly Overcaution: FDA’s Drug Approval Process,” Journal of Regulation and Social Costs, No. 1 (August 1990): p. 43; quoted in Noel D. Campbell, “Replace FDA Regulation of Medical Devices with Third-Party Certification,” Cato Institute Policy Analysis No. 288, November, 1997.

  Notes to Chapter 7 “Special Interests versus Democracy”

  Information on the Milk Income Loss Contract Program was available as of August, 2012, at http://www.apfo.usda.gov/FSA/webapp?area=home&subject=prsu&topic=mpp-mi, on federal milk marketing orders at http://www.ams.usda.gov/AMSv1.0/FederalMilkMarketingOrders, and on the Dairy Product Price Support Program at http://www.fsa.usda.gov/Internet/FSA_File/dpd_bulletin_090105.pdf.

  Figures on the costs and benefits of the dairy programs come from Joseph V. Balagtas, “Milking Consumers and Taxpayers, the Folly of US Dairy Policy,” American Enterprise Institute, 2011, at http://www.aei.org/files/2011/07/15/Final-Balagtas.pdf.

  For general information about the dairy industry from the US Department of Agriculture, consult http://www.ers.usda.gov/briefing/dairy/background.htm and “Changes in the Size and Location of U.S. Dairy Farms” at http://www.ers.usda.gov/publications/err47/err47b.pdf.

  For commentary on and criticism of the dairy programs, see Chris Edwards, “Milk Madness,” Cato Institute Tax and Budget Bulletin No. 47 (July, 2007), at http://www.cato.org/pubs/tbb/tbb_0707_47.pdf and Sallie James, “Milking the Customers: The High Cost of U.S. Dairy Policies” at http://www.cato.org/pub_display.php?pub_id=6764.

  Twenty cents a gallon is the saving created for consumers by Hein Hettinga, the subject of a truly illuminating look at the disgusting politics behind the dairy programs, and the politicians’ total disregard for consumers’ welfare, “Dairy Industry Crushed Innovator Who Bested Price-Control System,” http://www.washingtonpost.com/wp-dyn/content/article/2006/12/09/AR2006120900925.html, by staff writers Dan Morgan, Sarah Cohen and Gilbert M. Gaul for the Washington Post, Dec. 10, 2006.

  Part III: “The Housing Boom and Financial Crisis”

  Notes to Part III “Introduction”

  The quotation from Peter Wallison is from his “Wall Street’s Gullible Occupiers,” Wall Street Journal, October 12, 2011, p. A21. The quotation from Paul Samuelson is from his “Don’t Expect Recovery Before 2012—With 8% Inflation,” an interview by Nathan Gardels, New Perspectives Quarterly, January 16, 2009. Available online at http://www.digitalnpq.org/articles/economic/331/01-16-2009/paul_samuelson.

  Notes to Chapter 8 “Mortgage-Making in a Free Market”

  For a very interesting discussion of different kinds of mortgages, the difference between mortgages in the U.S. and Canada, and the way government intervention into housing has shaped the U.S. mortgage market, I recommend the EconTalk podcast of July 5, 2010, with Arnold Kling, available at http://www.econtalk.org/archives/2010/07/kling_on_the_un.html. For example, 30-year fixed rate mortgages, which Americans consider standard, are rarely used in other countries. They seem to be a problematical consequence of well-intentioned but misguided New Deal policy.

  In the section “Not Enough Investable Resources,” I say that “Corresponding to the limited supply of investable resources available at any time is a limited supply of loanable funds.” Some readers might question this statement. After all, it is possible for monetary authorities to create brand new money, of course, just by running the printing press or writing new deposits to bank accounts. Clearly new loanable funds can be created easily, even if new investable resources cannot. Although that is certainly true, it is a very bad idea to create new loanable funds indiscriminately. As we discuss in Chapter 11, when
monetary authorities do lend new money into existence when there are no corresponding new investable resources nor any increased desire on the part of the public to hold money in their wallets and checking accounts, damaging inflation results. For now it is sufficient to observe that in an economy where the monetary authorities do not indiscriminately produce new money, banks have only limited amounts of money to lend. Those limited loanable funds correspond to—they represent, in effect—the investable resources that are necessarily limited at any point in time.

  Notes to Chapter 9 “Boom, Bust, and Turmoil”

  Data on which the figures in this chapter are based, along with source information, are available at this book’s website, www.freeourmarkets.com.

  The quotation from Johan Norberg is from Financial Fiasco, Cato Institute, 2009, pp. 8-9.

  The data on “shaky” mortgages represented in Figure 9.3 come from www.census.gov/compendia/statab/2011/tables/11s1193.xls. The mortgages I call “sound” are those designated in the figures as “prime conventional loans,” and those I call “shaky” are those designated in the figures as “subprime conventional loans.” It appears that Alt-A loans are split between the “prime” and “subprime” categories. Here is the relevant statement from the data source:

  While the NDS [National Delinquency Survey] does not identify or track Alt-A loans explicitly, conversations with survey participants have established that Alt-A loans are divided between the prime and subprime groups. Thus, Alt-A loan performance is captured in the delinquency and foreclosure rates estimated in the NDS.”

  The distinction between “prime” and “subprime” also seems to vary by institution:

  The prime and subprime criteria used in the NDS are based on survey participants’ reporting of what they consider to be their prime or subprime servicing portfolio. Different servicers may make different determinations regarding the grade of their portfolios. Participants who service both prime and subprime loans report the results of each separately for maximum precision in the classification. (http://www.mbaa.org/files/Research/Flyers/NDSFAQ.pdf)

  It is worth noting here that as housing boomed and attracted people trying to make easy money, there seems to have been some carelessness and dishonesty in the categorization of loans, and many loans that were not technically “subprime” were still pretty dodgy.

  Notes to Chapter 10 “Why Housing Boomed”

  For a short (fifteen-page), clear explanation of the government’s role in the housing boom and bust and the Great Recession, I recommend “The House That Uncle Sam Built,” by Peter Boettke and Steven Horwitz, Foundation for Economic Education, December, 2009. It’s available online at http://www.fee.org/files/docLib/HouseUncleSamBuiltBooklet.pdf. A good book-length discussion is Thomas Woods’s Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse, Washington, DC: Regnery, 2009.

  For an interesting scholarly discussion of the housing boom and bust, asset bubbles in general, and the possible consequences of the Taxpayer Relief Act, see Steven Gjerstad and Vernon L. Smith, “Monetary Policy, Credit Extension, and Housing Bubbles, 2008 and 1929,” in Critical Review Vol. 21, Nos. 2-3 (2009). They write, “We think that the upward turn in housing prices that began in 1997 was probably sparked by rising household income (beginning in 1992), combined with a very popular bipartisan political decision in 1997 to eliminate taxes on capital gains of up to a half a million dollars for residences.”

  The data on which Figure 10.1 is based, along with source information, are available at this book’s website, www.freeourmarkets.com.

  My source for the statement that as of July, 2011, Standard and Poor’s estimates “the total taxpayer cost to keep the GSEs [government-sponsored enterprises] solvent at about $280 billion” is “Fannie Mae and Freddie Mac Update: Recent Weak Performance Hasn’t Changed Our Taxpayer Cost Estimate,” accessed August 6, 2011, at http://www.standardandpoors.com/ratings/articles/en/us/?assetID=1245314207570, available as of June 2013 at http://www.researchandmarkets.com/reports/1929807/fannie_mae_and_freddie_mac_update_recent_weak.

  My source for the statement that “in the housing boom Fannie and Freddie typically could sell their bonds paying interest rates a bit less than half a percentage point lower than their private sector counterparts did” is page 11 of Friedman and Kraus’s Engineering the Financial Crisis. They write that Fannie and Freddie “typically paid a 0.45 percent lower interest rate than did privately-issued mortgage-backed bonds.” In private correspondence with Mr. Friedman, I verified that they mean that Fannie and Freddie’s interest rate was 0.45 percentage points lower.

  Quotations from Russell Roberts are from his monograph “Gambling With Other People’s Money,” Mercatus Center, May, 2010, p. 25. This very useful article, to which I refer extensively in the second part of Chapter 11, is available online at http://mercatus.org/publication/gambling-other-peoples-money.

  Apropos of Congressman Barney Frank’s statement that “I want to roll the dice a little bit more in this situation towards subsidized housing,” the Wall Street Journal has a darkly entertaining collection entitled, “What They Said About Fan and Fred” at http://online.wsj.com/article/SB122290574391296381.html. It will make you shake your head unless you have lower expectation of Congress even than I do.

  Notes to Chapter 11 “Why the Boom Got So Big”

  The data on which Figures 11.1 and 11.2 are based, along with source information, are available at this book’s website, www.freeourmarkets.com.

  The world’s money has been completely unredeemable in any underlying commodity since August 15, 1971, when President Richard Nixon severed the last link between the dollar and gold. He took the United States off the last remnants of the gold standard by refusing any longer to pay foreign governments gold for dollars, as the United States had promised to do in the famous Bretton Woods agreement of 1944. The United States had stopped honoring its promises to pay everyday citizens in gold in 1933 under President Franklin Roosevelt. Indeed, in April of that year, with Executive Order 6102, Roosevelt made it illegal for anyone to own more than $100 worth (face value) of monetary gold.

  Readers who wish to study monetary equilibrium further should read Steve Horwitz’s discussion of it in his 2000 book, Microfoundations and Macroeconomics (Routledge, 2009), especially “Monetary Equilibrium as Analytical Framework,” pp. 65-75, 81-2, and 96-103. Another very helpful source is George Selgin’s book, The Theory of Free Banking (Rowman and Littlefield, 1988), available online now at the Liberty Fund’s Online Library of Liberty at http://files.libertyfund.org/files/2307/Selgin_1544_Bk.pdf. Note especially chapter 4, “Monetary Equilibrium.”

  Readers who would like to learn more about free banking should also read Lawrence White’s Free Banking in Britain: Theory, Experience and Debate 1800-1845 (Institute of Economic Affairs, 1995) to get acquainted with the most important historical case of (mostly) free banking. White’s The Theory of Monetary Institutions (Wiley-Blackwell, 1999) would be a good next choice. There is now also a weblog called “Free Banking,” to which White, Selgin, Steven Horwitz, and other outstanding monetary economists such as Kurt Schuler and Kevin Dowd contribute.

  Russell Roberts’s paper, “Gambling With Other People’s Money, How Perverted Incentives Caused the Financial Crisis,” was published by the Mercatus Center at George Mason University in 2010. I recommend it highly. It is available online at http://mercatus.org/publication/gambling-other-peoples-money. Passages I have quoted are from pages 6-12 and 37. Roberts’s source for the statement that “Between 1979 and 1989, 1,100 commercial banks failed. Out of all of their deposits, 99.7 percent, insured or uninsured, were reimbursed by policy decisions,” is Stern and Feldman’s Too Big to Fail, page 12. Roberts notes that Stern and Feldman “do not provide data on what proportion of these deposits was uninsured.”

  Notes to Chapter 12 “Why the Housing Bust Led to a Financial Crisis”

  The data in this chapter are
largely from Jeffrey Friedman and Wladimir Kraus’s insightful study, Engineering the Financial Crisis. Quotations and data are drawn from pages 13, 67, and 79. This book expands on and refines Jeffrey Friedman’s earlier, “A Crisis of Politics, Not Economics,” in Critical Review, Vol. 21, Nos. 2-3 (2009), another source I relied on.

  A persuasive explanation of how the Basel rules helped cause the financial crisis is Arnold Kling’s “Not What They Had In Mind: A History of the Policies that Produced the Financial Crisis of 2008,” Mercatus Center, September, 2009, available at http://mercatus.org/publication/not-what-they-had-mind-history-policies-produced-financial-crisis-2008. The statement from F.A. Hayek that “the curious task of economics is to demonstrate to men how little they really know about what they imagine they can design,” is found in The Fatal Conceit: The Errors of Socialism (University of Chicago Press, 1991), p. 76.

  Some readers will wonder how a mortgage-backed security (MBS) based on subprime or otherwise shaky mortgages can possibly get a AAA (not at all risky) rating. The key is what is called “tranching,” whereby the income from a given pool of mortgages goes to the holders of different MBSs based on that pool in a definite order. The holders of the AAA-rated MBSs get paid first. That is, as the principal and interest payments from all the mortgages in the pool come in each month, the first payments out are made to those investors who have bought AAA-rated tranches (or “slices”) of the mortgage pool. Once all the holders of the AAA MBSs (those in the first tranche) have been paid, the holders of the AA-rated MBSs get paid next, and then, in sequence, the holders of the lower and lower-rated tranches are paid, as long as there are enough principal and interest payments coming in from the mortgages to pay them.