What Went Wrong

At Big Think, a consortium of bloggers (including me) have been invited to submit questions for use in video interviews with major players in the financial crisis. I posed a question to Mark Zandi, the chief economist at Moody’s, who had recently said this:

“It’s no coincidence that the great recession ended just as the stimulus package began providing its maximum economic benefit.”

My question was:

How do you know?

Here, from the video, is Mr. Zandi’s answer:

Well, it’s a good question. I mean, we can look at individual aspects of the stimulus package and then look at the parts of the economy to which that stimulus would have an impact. So for example, the Cash for Clunkers, we know that that had a huge effect on vehicle sales and helped turn around vehicle production and employment in the vehicle sector. The First Time Homebuyer Tax Credit, the housing market stabilized this summer. Housing prices actually have risen a little bit in the last few months. Now there are many reasons for that, all of them policy related, but one of the key policy aspects that helped the market was the First Time Homebuyer Credit.

This is, to put it mildly, ridiculous. Everyone knows that the Cash for Clunkers program diverted resources to the car industry—and therefore away from other industries. We got more cars, and less of something else. How does Mark Zandi know that more cars plus less of something else equals more stuff? That was my question, and he didn’t answer it.

Scott Sumner, who is always worth reading, makes the same point in a larger context.


29 Responses to “What Went Wrong”

  1. 1 1 Mogden

    The same thing happens in a lot of Krugman articles. There’s complete coverage of one side of the argument, and no attention paid to the trade-offs or hidden costs.

  2. 2 2 Tolerant

    What puzzles me is why the people who are most convinced that they understand how the World works are the same ones who can’t understand something so utterly frackin’ simple as a tub overflow drain. Maybe you would have better luck at particle physics?

  3. 3 3 Snorri Godhi

    Actually, it’s Zandi’s second example that I find most inane. Suppose that Cash for Clunkers had made cars slightly more expensive, so that fewer Americans could afford a better car. Presumably, Zandi would not claim that as a success. Yet, when housing becomes more expensive, so that fewer Americans can afford a better home, he claims THAT is a success.

  4. 4 4 Revyloution

    Im no economist, but I’ve been operating on the assumption that currency by fiat has no real value. Its value is based solely on the assumption that others consider it valuable.

    When car prices, house prices, and bread prices are valued in imaginary units, then the prices of those actual commodities declines. If the government creates a stimulus package to boost the economy, it will work as long as enough people believe it will work.

    Only barter economies value products appropriately, currency markets require consumer confidence.

  5. 5 5 Josh

    Perhaps what was going through his mind was that this sort of activity by our government got people to buy something..regardless of what it was but it just happened to be cars and houses. You know…get money flowing again. Of course maybe after way too much money flow in the last decade perhaps we need less and not more. Also remember who he works for…I’m sure he knows what he’s supposed to say. Perhpas I’m too cynical.

  6. 6 6 Izzydog

    Tolerant – LOL!

    Okay so here’s how it stands at least as I understand it. Protectionism always equals bad. Bedrock principle. Check.

    When a political economy (China) produces a cheaper camera, this is good for everybody. Remember in China there is not a strict separation of public and private, government can and does intervene (made this point on the other thread, no response, you’re busy, I understand, no worries).

    When a political economy (USA) produces a cheaper car (via Cash for Clunkers), this is also bad because now you decide to ask the question:

    “This is, to put it mildly, ridiculous. Everyone knows that the Cash for Clunkers program diverted resources to the car industry—and therefore away from other industries. We got more cars, and less of something else.” This is the exact question I asked you on the other thread.

    But, at least I think I get it. Protectionism = Always Bad. Bedrock principle. Even claimed it was xenophobic in an article once. But the fine print on that bedrock principle is we must also assume:

    1) Economic actors are rational actors (not really).
    2) Things are always made exactly the same way (never happens).
    3) No externalities (sure, no incentive to explot those).
    4) Strict separation of public and private sectors (not in China, and not in America when it comes to Cash for clunkers).

    Of course, this world only exists on the pages of an economic textbook, and works best on an overhead projector. But hey, within the confines of the textbook, at least the logic is consistent. I can see why you would make this a bedrock principle.

    Of course I have a bedrock principle too: Everybody knows exactly what a unicorn looks like. Search your heart professor, you know it’s true. It’s just a tiny detail that unicorns only exist on the pages of fantasy books (like your principle with all its caveats) and not in the real world, rendering the truth nearly useless.

    I’m no fan of protectionism as a general rule, but perhaps a more mature approach would be to examine particular situations at hand, rather than consistently spread the dangerous economic fundamentalist gosphel: Protectionism = Bad. Sometimes, maybe not.

  7. 7 7 Silas Barta

    Good point. Of course, this is embedded within the larger fallacy, one level up: say that aggregate spending doesn’t go up. People don’t spend more on cars, or anything else. So ****ing what! We just move to a different quasiequilibrium with lower production and consumption and (maybe) more saving.

    Why do all the macro variables absolutely have to be at their ’05 levels, as pretty much every proposed “solution” assumes?

  8. 8 8 Al V.

    Re. Cash for Clunkers, we did two things: borrowed money and gave it to people to buy cars. What did that accomplish? Break the action into the two parts:
    - We borrowed money from our future selves to spend today. Presumably there was some stimlative effect on the economy, at the cost of a future supression of the economy. It’s too early to tell whether it was worth it, because we don’t know the state of the economy when we have to pay the money back.
    - We gave that money to specific individuals to buy cars. That was good for the people who got cars, and good for the people who sold cars. Not so good for me, since I didn’t buy or sell a car, but I do have to pay back the loan. I suspect that most of the people who bought cars would have done so eventually, we just gave them money so they would do it today, instead of at some point in the future.

    Net/net, we transferred future money from everyone who pays taxes to a few individuals. I don’t see how this is more stimulative than simply giving every taxpayer a tax credit with borrowed money.

  9. 9 9 Al V.

    Izzydog, I think there is a difference between government interference in the economy in China and in the U.S. Or rather, a difference in the impact on me.

    When the U.S. government acts to aid or stimulate some sector of the economy, they do so by taking money away from me (via currrent or future taxes) and giving it to someone else. If I’m not a participant in that part of the economy (for example, I don’t sell cars or houses), then I only benefit as much as the entire economy is stimulated, but I have to pay my share. A little math says that the cost to me exceeds the benefit I receive, while those that directly benefit get more benefit than their share of the cost. In aggregate, we all approximately break even, but a few people benefit whie most people pay.

    If China does the same thing to reduce the cost of a product manufactured in China, the same thing happens, with one difference. I get a cheaper phone, and someone in China is footing the cost of my savings. Of course, there is probably some limited impact on me, in that the Chinese taxpayer’s ability to purchase a product from the U.S. is reduced, but in this instance the impact on me is less than the benefit I receive from a cheaper phone.

    I think both situations are equal from the global economic perspective, but from the perspective of a U.S. consumer, I pay when the U.S. government redistributes money, and I benefit when other governments redistribute money – I think.

  10. 10 10 thedifferentphil

    Everything becomes more complicated when the economy is producing less than capacity. For example, suppose that the cars produced for cash for clunkers were bought by people who would have bought them anyway in the next year or two and they were produced by people who otherwise would have been laid off in 2009. Now suppose that the economy is back to full capacity production in a year or two when these people would be buying the cars. The aggregate economy can now produce more non-car goods and services, because we will still have the (fairly) new cars without having to use as much future labor as we would if we had not used the currently slack labor to make them now. Lots of other variables can complicate the total outcome, such as the impact of public debt growth and repayment, but the diversion of resources is not the same as if we were currently at full resource use.

  11. 11 11 Izzydog

    Al V.

    Excellent posts. I’m not an economist, and I don’t play one on TV, so anything I write about it is probably wrong. To be honest, I don’t know how I feel about Cash for Clunkers. I grew up in Detroit, but I have no love for the product they’ve produced for a long time. In the grand scheme of things, I suspect Cash for Clunkers is much adieu about nothing.

    The root metaphor for Cash for Clunkers was jobs. I’m not sure what the current statistics are, but at one time something like 1 out of 10 people employed in the USA were tied to the Auto industry — By the companies themselves, or by suppliers, or suppliers to the suppliers etc. Add on top of that all the restaurants and dry cleaners that serve the people serving the companies, and you get an idea of why Detroit has always had an outsized influence relative to its population. In the US, it’s actually pretty hard to be completely sheltered from the Auto Industry.

    I think Cash for Clunkers cost $3B (but you should check me on that). If that number is right, and assuming there are 300M people in the US, the program cost everybody $10. Was it worth it? I don’t know. Presumably it kept some people off unemployment (which would have cost each of us something as well as reduced tax revenue into the government). It got some money moving. It provided a psychological boost at a time when we needed it. And, presumbably it got some polluting/guzzling vehicles off the road. My future self will be able to sleep.

    In terms of the much bigger bailout loans made, there is something about justice that bothers me, but at the same time, everybody agreed we were on the brink and I personally think intervention was a necessary evil with no good outcomes. As it turns out, the recipients like BofA are starting to pay those loans back, so perhaps our future selves will be fine there too. Who knows? The question is: Are we going to learn anything to prevent this from happening again, because if we don’t change something, it will.

    Keep an eye on jobs. All the experts will tell you it’s a lagging indicator, but have them explain to you how that can be in an economy that is now supposedly 70% service. Don’t be fooled by any short term upticks – which will be the reason cited for no more job stimulus. Professor Landsburg will tell you I’m nuts. But he’s tenured. He can’t lose his job, so he has no empathy for the true cost of unemployment. He’ll tell you his tenure is a voluntary contract, but that sounds a lot like the arguments Wall St. Executives make for their bonuses in an industry that we the people bailed out. It’s so infused in the culture, they can’t see it for what it is. Professor’s rational actor economic models tell him that since markets always produce equilibrium (The model is a unicorn — I don’t believe anybody has ever actually proven that markets always produce equilibrium), rising unemployment simply reflects a decision by workers to choose leisure rather than work for less. Ask an unemployed guy in a bar sometime how he’s enjoying his extended vacation, and you may have asked your last question…

  12. 12 12 Steve Landsburg

    Izzy: As I’ve said before, it’s not enough to point that models are different from reality; that’s what makes them models. You’ve also got to point to some important and relevant way in which those differences could affect the conclusions. “Protectionism is bad” is not a principle; rather, “protectionism lowers wealth” is the conclusion of a robust argument.

  13. 13 13 Benkyou Burito

    I will play devil’s advocate a bit if you please.
    Steven said this:
    “. Everyone knows that the Cash for Clunkers program diverted resources to the car industry—and therefore away from other industries. We got more cars, and less of something else.”

    If I have the argument right then, you are saying that the gov. diverted money being spent by consumers on stuff, through the taxation system, and then into the automobile industry. The net effect being a wash because C-4-C’s just took money that was being spent on something else and made it get spent on cars.

    I’m calling this a Krugmanian moment in Steven’s writing if that is his argument. The reason being is that it diverted money, through the taxation system that was NOT being spent on other stuff. That’s what a recession is, people not spending and employment and production falling as a result.

    So the clunker program diverted cash that was not being spent on anything into an particular industry. I would accept that the same dollars could have been diverted to any consumer industry and have a similar effect, but if not cars, then what?

  14. 14 14 Izzydog


    I’ve already agreed that your logic is reasonable, protectionism lowers wealth, within the limited set of circumstances you supplied:

    1) Economic actors are rational actors (not really).
    2) Things are always made exactly the same way (never happens).
    3) No externalities (sure, no incentive to explot those).
    4) Strict separation of public and private sectors (not in China, and not in America when it comes to Cash for clunkers).

    If you change some of these assumptions, then the answer is not so fast. I’ve already provided several examples where people are not rational actors and it leads to bad decsion making and pricing (401K’s and real estate bubbles), pointed out that no two companies make things the same way (some employ child labor), listed several externalities that must figure into any real discussion (pollution), and provided examples of where the blurring of public and private sectors can lead to predatory pricing (Huawei, the publishing of your book in China). Not sure what else you need here.

    Protectionism lowers wealth is not the conclusion of a robust argument, but rather a narrow set of assumptions that never occurs in the real world. Everybody knows what a unicorn looks like, unfortunately there are no unicorns (my model of your model aka the unicorn metamodel).

    Approach protectionism with trepedation? Sure. Point made.

    Protectionism always lowers wealth and is therefore an inappropriate response? Not a chance.

  15. 15 15 Al V.

    Benyou – I disagree, slightly. Cash for Clunkers diverted money, that would have been spent on something else, someday, into spending on cars. We borrowed the money for the program from our future selves. I’m ignoring the Chinese in this equation, who we actually borrowed the money from. However, if you put them back in the middle, then the money we borrowed from them would otherwise have been invested somewhere else. The Chinese weren’t likely to spend it – they would have leant it to Dubai or somewhere else.

  16. 16 16 Benkyou Burito

    Al V.-
    The question though is, then, is the money we borrowed from our future selves worth more than the cost of a worsening recession?

    And what else was China going to do with their .5 trillion USD reserves?

  17. 17 17 Joe Z

    Izzydog writes:

    “As it turns out, the recipients like BofA are starting to pay those loans back, so perhaps our future selves will be fine there too.”

    I’m under the impression these banks are indeed paying back the loans while also receiving huge tax breaks, so what net effect? Not-so-distant future self should be concerned.

  18. 18 18 Izzydog

    Joe Z writes:

    Izzydog writes:

    “As it turns out, the recipients like BofA are starting to pay those loans back, so perhaps our future selves will be fine there too.”

    “I’m under the impression these banks are indeed paying back the loans while also receiving huge tax breaks, so what net effect? Not-so-distant future self should be concerned.”

    But let’s back the camera up. Izzydog actually wrote: “…I personally think intervention was a necessary evil with no good outcomes. As it turns out, the recipients like BofA are starting to pay those loans back, so perhaps our future selves will be fine there too. Who knows?…”

    You left out terms like: Necessary evil. No good outcomes. Who knows? Big difference in meaning don’t you think?

    I don’t know the details around BofA payback. There might be taxbreaks. Noted. Future self worried.

    How would future self be feeling if all of the companies that received bailouts really had failed?

  19. 19 19 Izzydog

    Joe Z,

    I wish there was an editor on this thing. I accidentally hit submit before I intended. I want you to know, future self IS worried about all of this and whether or not we can find a wise path out of it.

  20. 20 20 Snorri Godhi

    Izzydog: I don’t understand your reasoning [in your comment of Jan 5, 6:38 pm]. You claim that economic theory is not to be trusted without empirical evidence, and I completely agree. However, in the specific case of free trade vs protectionism, you do not discuss the empirical evidence for and against free trade. All what you discuss is the empirical evidence against the assumptions behind economic theory. The fact is, economic theory can be completely wrong and its conclusions still be correct in some specific cases [and vice versa, economic theory can be almost completely correct and yet its conclusions completely wrong in some specific cases]. In other words: absence of evidence is not evidence of absence. Your argument, against the economists’ justification for free trade, is not a valid argument against free trade.

  21. 21 21 Izzydog


    Hmmm. I think I am a stranger in a strange land here. First, let me assure you and the professor that I know models by definition simplify (and that “the word is not the thing”). It’s just that where I come from, and most places for that matter, the generally accepted adage is “garbage in, garbage out.” It’s pretty well accepted that bad assumptions lead to bad conclusions.

    Economic models tend to work well…until they don’t. I think the recent history of economic modelling supports me on this. Ask the nobel prize winning economists that started Long Term Capital Management how things worked out for them – It went great, until it didn’t. Ask portfolio managers about the Dot Com bubble and the impossible % of GDP targets they assumed the hi tech industry would absorb. Ask the guys who created CDO’s how well their assumptions about risk proved to be.

    An economist, who can’t predict the price of anything, can confidently say that protectionsism always lowers wealth? Okay, I’ve already agreed that that is true — within a limited set of parameters. Is that adage always true? I thought I provided enough examples of additional things that must be considered before we can say it is right in any specific case (essentially boiling down to “define wealth, and for whom?”). I’m suggestiong that we should exercise caution be before we go screaming from the mountain top that protectionism is always bad. That kind of generic thinking does not serve us. When an industry gets wiped out, it’s gone, lives are disrupted and it rarely comes back. These are long term decisions that deserve real discussion, not slogans.

    Are you looking for mathmatical proof that sometimes protectionism might be an appropriate response? I’m not your guy. An example off the top of my head might be back in the 30′s the Japanese government subsidized the Japanese auto industry and kicked Ford and GM out of the country because the domestics couldn’t compete. That’s a decision that is still playing out 80 years later. Are we better or worse off for it? Are the Japanese? Are the Japanese responsible for making sure we are better off for it? I don’t know, you tell me. Does the simple protectionism lowers wealth argument apply here? If so, to whom? By what math? Bottom line is I suspect the Japanese are pretty happy with it.

    I’ve already provided some current examples and considerations.

    Does this suit what you are looking for?

  22. 22 22 Snorri Godhi

    I’ve already provided some current examples and considerations.

    No you haven’t.

    Does this suit what you are looking for?

    No it doesn’t. You have not provided any clear evidence that protectionism can do good to the country that adopts it. [Let alone to the countries that do not adopt it.] Please stick to my question.

  23. 23 23 Izzydog



    What would I need to provide to you to show that Japan is better off for having protected Toyota? Or better yet, why don’t you show us how they are worse off?

  24. 24 24 Joe Z

    My Friend Izzydog Writes:

    “You left out terms like: Necessary evil. No good outcomes. Who knows? Big difference in meaning don’t you think?”

    Nah. Really didn’t leave those terms out. To me it sounded like you were saying, all is well with the banks who received tarp money cause their paying it back now.

    I was merely pointing out the fact that you can’t trust those banks or their friends on Capital Hill [pun intended]. My skeptical future self thinks [net] they’ll pay nothing back via tax breaks and funky accounting methods.

    My Friend Izzydog also wrote:

    “How would future self be feeling if all of the companies that received bailouts really had failed?”

    Future self thinks when management runs a company into the ground, it should be bailed out by its shareholders, bondholders, management, additional investors, if at all, not with public money. We have excellent BK laws and procedures for this. Also, there was more than sufficient and willing private capital that would have scooped up any remaining assets and customers. In a heartbeat!

  25. 25 25 Izzydog

    It’s a funny thing Joe Z. When I write something is a necessary evil with no good outcomes, and then I go out of my way to follow it up with “my future self is concerned,” I’m not implying that all is well. Why don’t you describe the tax breaks to which you refer, and maybe we can all understand better? My real concern with BofA paying back the loans is I think they are reporting some accounting profits, but some of the fundamentals haven’t actually been addressed and they will be in trouble again soon enough. We’ll see. Who knows?

    As for the bailout, the story for each was fast moving and different for each company. Things were getting better and then turned very bad when Bear Stearns was allowed to go under. So there was some evidence for trepidation. Using AIG as an example, bankruptcy was not really considered an option because they were the ones that backed a lot of the mortgage-backed securities. As the market was spiraling, it was thought that if AIG was out of the picture, there would be a domino effect and everybody else would start to fail. All of the people that had done business would have to face the reality of their own assets and others would also go under. It wasn’t just the $80 million given to AIG, it was the full faith and credit of the US that backed up the estimated $1-2 trillion others would have been out had it come to pass (much more than the market cap of the company). At least that was what I remember the understanding to be at the time.

    We can agree on one thing Joe Z. I don’t trust the banks or their friends in Washington either. The game is rigged and it pisses me off.

    At which point professor, we start to reach some of the limits of Aumanns argument. If both parties are truth seekers, but they perceive each other not to be, they can agree to disagree. If both parties are truth seekers, but one perceives that there really is no “truth” at which the parties can arrive, they can agree to disagree. If both parties are truth seekers and one perceives the value of the truth to be learned is less than the effort required to get to it, they can agree to disagree.

    I don’t like the bailout either Joe Z. It was structured very badly. I don’t think bankruptcy was an option. You do. How about we agree to disagree?

  26. 26 26 Joe Z

    Izzydog, good comments. I think we’re on the same page ;-)

  27. 27 27 Snorri Godhi

    Izzydog: you need to show me that Japan is better off BECAUSE it has protected Toyota; and you also need to show me that the USA would have been worse off if it had not protected GM, Ford, and Chrysler.

    You would also need to show me that communist Albania would have been worse off if it did not close its borders; and that Hong Kong and Singapore would have been better off if they had been less open to trade.

    Going back in time, you would need to show me that classical Athens would have been better off if it had adopted Sparta’s autarky; that Venice, Florence, Amsterdam, and Victorian Britain would have become even richer without trade. This is just the tip of the iceberg, but it will do to start the discussion.

  28. 28 28 Izzydog


    Sorry, but burden of proof is on you, not me. I’m not the one claiming the model is valid. I simply pointed out some reasons why I’d be real cautious about drawing too many broad conclusions from it.

    I pointed to an example where I think protectionism did not reduce overall wealth. Japan decided it was in its strategic interest to protect Toyota which it did. It is a potection decison that has ramifications that filter down to this day.

    I already know you can’t do the math to cover 80 years and continuing of puts and takes surrounding that decision. It would have to include the business that spawned other busineses, the jump in knowledge of the people leading to even more advanced industries, the value to Japan of the inventory management practices it created and on and on and on.

    But the zeitgeist of it probably supports me. I’m willing to bet that most everybody but a few economic fundamentalists would agree that in the case of Japan and Toyota, protectionism worked and the people were made wealthier for it.

    Since simplication is all the rage and no oversimplifcation is too much, let me provide some simplified examples off the top of my head that might cause one to consider protectionism could be an appropriate policy choice. Assume country A produces product A. Country B produces product B. Assume product B is just good enough and just cheap enough to be a reasonable substitute for product B.

    Could country A potentially choose protectionism as reasonable policy choice if:

    * Product B is manufactured by 6 year old girls chained to their desks 16 hours a day — Because their little fingers allow them to fill wafer boards better?

    * Product B is made out of the tusks of dead elephants?

    * Product B is made through a strip mining technique that causes lethal heavy metals that leech into the local river which just happens to be a major drinking source for country C?

    * Country B is goverened by aparthied?

    * Product B is being subsidized by country B because country B believes the domination of of that market is of long term strategic importance (again, look at cellular 4G right now because it is happening and it will change the landscape for decades)?

    * Relations between countries A and B are getting a little heated. Products B happens to be a bomb country A uses?

    * Product B is produced because of Country B’s illegal invasion of Country C?

    * Product B is the book The Big Questions and the new publisher pays no royalties to the author (don’t believe it, I have a CD purchased in China to give to you)?

    * Product B is stolen software?

    * 80% of the employment of Country A comes from product A, and they need to buy some time to make changes?

    I can go on and on and on. The point is in the real world you can’t just say protectionism lowers wealth because the apparent reduction in wealth isn’t always a real reduction in wealth (ie define wealth and for whom, and for what period of time, or just because something is hard to count doesn’t mean it shouldn’t be counted). I’m sorry the real world gets messy. I wish it were neater.

    As for the history of Athens, Sparta, Venice, Florence, Amsterdam, and Victorian Britan and how they “would have become even richer without trade.” I never made that claim, nor would I.

  29. 29 29 Snorri Godhi

    Sorry, but burden of proof is on you, not me. I’m not the one claiming the model is valid.

    Neither did I. What I was talking about is free trade and protectionism, not “models”. Go back and check.

    In fact, the burden of the proof cannot be on me because I have nothing to prove. I do not claim that free trade is always good and protectionism is always bad. I just don’t know of any clear case in which protectionism is good. Japan appears to me as good an example in favor of free trade as it appears to you in favor of protectionism. Since you appear unwilling to produce a clear case, I am quitting this debate.

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