Saturday, November 01, 2008

Intervention and the Swerving Economy

Interesting op-ed in the Wall Street Journal last week (10/27/08) titled “The Age of Prosperity is Over” written by Arthur B. Laffer. CNN-Headline news mentioned it on one of their late morning shows but I only caught bits and pieces because the TV was in commercial evasion-mode. You know, when every three minutes the commercials come on and you mute the TV, get focused on something else and then suddenly notice the show is back. But I caught enough to get curious about why Laffer thought the Age of Prosperity is over. The title invokes such a drastic picture. So I ran down to the hotel lobby and picked up a copy of the paper and read it.

Laffer brings up some interesting points but what I got in the end was another plug for the free market as you might suspect just from his opening paragraphs where he says “Financial panics if left alone, rarely cause much damage to the real economy, output, employment or production” and from his closing paragraph where he says “Whenever people make decisions when they are panicked, the consequences are rarely pretty.” In other words, intervention is a bad idea.

In support of his later closing statement he reminds us of several examples of bad decisions made in the throes of economic panic but interestingly is entire editorial is void of any examples to support his opening claim. To me this reflects a one-sided point of view that I find typical among proponents of free market. After reading the article, I decided to take a shower and think the editorial over in my head. As I did I was reminded of a car accident I had a few years ago.

I was in the fast lane and a truck passed me along the right, pulled in front of me and then slammed his brakes on. I had little choice but to slam my brakes on too, but that wasn’t enough, I had to swerve to avoid crashing into his tail gate. Now the car I was driving was a rental, a Chevy Impala (which for those of you who don’t know drives like a boat). The combination of the panic caused by the truck in front of me and my unfamiliarity with the car I was driving resulted in my over steering, I probably swerved about five times, each time resulting in a wider arc requiring more drastic compensation, each time I over estimated and gradually I lost control entirely and smashed the car into the center divider, totaling the car, almost dislocating my shoulder and ripping a patch of skin off the back of my hand.

The point is that my panic and resulting over reactions on the I-77 that day is a perfect analogy to the panic driven decisions that Laffer was describing in his editorial. But my analogy also brings up another important consideration that Laffer’s one-sided perspective doesn’t acknowledge, that simply letting go of the steering wheel wouldn’t have helped me either. In fact anytime you drive your car, even when driving in a straight line in perfect conditions with your mind drifting off into the clouds, your hands are constantly saving your life, by steering. I remember when I was a kid in the back seat watching my dad’s hands on the wheel as he drove us along a long and straight two-lane highway through the California desert. I noticed his hands were never still, they we always moving ever so slightly in either direction. If he were to suddenly commit to taking his hands off the wheel we would have wound up plowed into a Joshua tree in no time.

While I agree with Laffer that decisions made to fix the economy while in a panic because the economy is swerving all over the highway rarely wind up looking pretty, I don’t agree that the answer is to simply take our hands off the wheel. I think we need a steady hand on the wheel at all times so that the economy doesn’t swerve in the first place. It doesn’t have to be heavy handed, just even handed, that’s all. As they say, an ounce of prevention is worth a pound of cure, so if you don’t want a lot of-over-the-top intervention then invest in a moderate dose of sensible intervention before the economy get’s out of hand.

Indeed, we should note that while we can criticize all the intervention being proposed by our government today, with confidence that most of it will fall short of fixing the swerving economy, we shouldn’t forget that it was the lack of intervention that caused the economy to swerve in the first place.