Nobel Economics: The Sublime and the Ridiculous

This morning's CNBC Squawkbox program has featured three Nobel Economics laureates- Joseph Stiglitz (2001), Robert Engle (2003), Edmund Phelps (2006) and Robert Shiller, a Yale economics professor and author who has written about housing and financial markets.

I admit that it is interesting to see such an assemblage of economic talent in one place, and for that, I give CNBC credit. This part was sublime.

Of course, then they spoiled it by having their own resident senior economic idiot, Steve Liesman, share the air time with these other, professionally-trained economist PhDs.

Yes, that was the ridiculous part.

Generally speaking, Stiglitz, Engle and Phelps, along with Shiller, provided some simple, reasonable and insightful comments on various financial market topics.

For example, they noted that today's commodity price inflation is based upon real demand increases pitted against supply constraints, in the short run. Therefore, they cautioned against the folly of central bank rate increases to try to contain inflation. All agreed that this cure would simply kill the patient by throttling business growth.

Instead, they argued for allowing market signals to bring more supply onto the market, including the role of speculators. Rather than rail against those who, through derivatives, bet on commodity price increases, they note that these investors are taking risk with respect to a top in commodity prices, while providing added signaling power to suppliers of grains and energy commodities.

Their discussion of the housing market was rather more curious. To a person, especially including Shiller, they all argued for some form of Federal intervention, including Shiller's plea for some new governmental housing authority/lender of first resort.

Shiller contended that some nationalized mortgage bank needed to be created to lend and hold mortgages in a state of 'permanent workout,' was, I believe, the phrase he used, or something very near to that.

In effect, the Nobel economists, and Shiller, held that housing is so important to the US economy and its citizens that it is 'too important' to be left to markets. That private mortgage lenders engaged in overly-risky behaviors that have hurt us all.

Thus, in their considered opinion, we must now lodge all of this risk-assessment in a civil-service populated governmental entity.

Yeah. Right. And while we're at it, let's go find Russia's last seven year plan and try to emulate that, too.

But, to his credit, Stiglitz characterized the no-downpayment mortgages to poor people as essentially free options, because they were allowed to buy an asset with virtually no equity interest, betting on price appreciation. He noted that banks don't usually just give free equity options to financially shaky customers.

There aren't very many conservative economists, although some have won Nobel prizes. At least three of these economists- Stiglitz, Shiller and Engle- are pretty obviously liberals. Stiglitz served in Clinton's administration.

I think financial risk taking and mechanisms related to that is where economists part company with financial market theorists. For example, Steve Ross, currently at MIT, is both an economist and a finance professor. In an after-dinner speech at an MIT alumni function last year, he described the difference. There is one.

The assemblage of economic talent this morning on CNBC sort of self-organized into a stampede calling for more governmental oversight, regulation, pre-emptive action, etc., in the area of financial risk taking. I have to say, I think they all strayed on this topic pretty far from their actual area of expertises.

When viewer email questions were read aloud to be answered by the Nobel laureates, the first one involved who would be the best economic President among the current candidates.

On this point, you really saw politics and self-interest rear their ugly heads. Stiglitz and one of the other laureates quickly backed Obama. Arguments like his being 'new and open to new ideas,' and alleging that 'things are different now than in 1992, so Hillary won't be as appropriate' were the tone of their responses.

How disingenuous. Stiglitz worked for the Clintons, is a liberal Democrat, and probably sees the writing on the wall regarding Hillary's likely demise. If he's to snare another administration post, leading to more book sales down the road, what better way than to publicly provide Obama with his unsolicited endorsement on a nationally-watched, prominent business news program?

The most thought-provoking element of this morning's discussion amongst these economic literati, though, was the one about housing finance.

While I may disagree with Shiller's insistence on some ironclad uber-management of the function, in order to completely stamp out any sort of market 'failures' in the future, his arguments illustrate something important.

As my friend B has held for a decade, the eventual structure of the US financial services sector has seemed to be five or fewer gigantic utilities, along the lines of the current Citigroup, BofA, Chase and Wachovia. These firms, plus, perhaps, a few weaker investment banks added to them, have morphed into slowly growing, ponderous financial titans incapable of much growth.

B's idea was to eventually separate all of the truly core, insurable financial services activities, such as DDA accounts and transactions businesses- clearing, settlement, etc.- into government-insured, low-yielding utility-like entities.

Perhaps the ultimate solution for housing finance, along the lines of Shiller's suggestions, is to move residential home lending into a government-insured utility, too.

If housing is to be a major component of our economy, and we also wish to insulate borrowers against predation, interest-rate risk, and even asset value risk, perhaps we just need to remove the sector from the for-profit arena.

The last few decades saw significant private mortgage finance options grow to compete with Fannie and Freddie. Jumbo loans and low-doc, no-doc loans appeared, were offered and securitized. Now, it seems, the wisdom of that final step, and probably the earlier ones, was doubtful.

The effects of those mistakes, pulling housing prices down in the locales which also experienced such rampant appreciation, has soured many Americans on the idea of leaving this sector to private capital.

If, in their collective wisdom, citizens-cum-voters decide that they must punish private lenders, and themselves, indirectly, by prohibiting any more freewheeling privately-owned housing finance providers from behaving as they did in the prior housing cycle, so be it. In effect, Americans will have chosen to simply limit risk-taking in this sector, along with growth.

What the economists all failed to note, however, is the scream that would have arisen from liberals, had much of the private enterprise housing finance shut off credit to lower-income Americans. Charges of discrimination and redlining would have abounded.

Maybe, a la Shiller's solution, we'll just settle the argument once and for all by draining the profit-making incentive right out of housing finance, and returning it to its stodgier, less-risky roots in pre-1980s finance.