The Student Debt Cancer: For-Profit Universities

Today, I want to discuss the level of student debt and the debt cancer known as “for-profit education”.   Recently, I read a Kansas City Fed paper, “Student Loans: Overview and Issues” written by Kelly D. Edmiston, Lara Books and Steven Shepelwich.  Here’ the link.  This paper is the basis of these comments, although I have updated some of the numbers (last week the NY Fed released more recent debt numbers).  Here’s what you should know:

1. Outstanding student debt is $956 billion.  In the last seven years, this has grown at (approximately) a 14% CAGR!

2. The percent of student loan balances that are 90 days delinquent is 11%.

3. The delinquency rate is grossly understated – it is probably closer to 22%!  I’ll quote a footnote from the NY Fed’s Quarterly Report on Household Debt and Credit.  It said, “As explained in a recent blog post, these delinquency rates for student loans are likely to understate actual delinquency rates because almost half of these loans are currently in deferment or in grace periods and therefore temporarily not in the repayment cycle.  This implies that among loans in the repayment cycle delinquency rates are roughly twice as high.”   (Emphasis added)  In other words, if you’re in school, you can’t be delinquent because you don’t have to pay yet (and this artificially lowers the delinquency rate).

4. For the first time ever, the percentage of student loan balances that are 90 days delinquent is higher than the percentage of balances of credit card loans that are delinquent (and we’re using the bogus 11% delinquency rate here).

5. While 50% of students at four-year colleges received federal student loans in 2009 – 2010, 86% of students at for-profit institutions received federal loans.

6. Compared to public four-year colleges, for-profit institutions are more expensive!  Of course, this seems strange since you don’t have expensive faculty or as many amenities (like the rec centers, college sports, student centers, etc.).  Of course, telemarketers, oops, I mean admission counselors, have to be paid.

7. Public university students had a 5.2% default rate in 2009 (the most recent statistics we have), private (non-profit) university students had a 4.5% default rate and for-profit institution students had a 15.4% default rate!

8. From 2000-2010, there was a 30% increase in enrollment in traditional colleges and universities.  Enrollment in for-profit universities increased nearly 450% during that time period!  See KC Fed chart below.

Enrollment growth

9. Six-year completion rates are 65% for private (non-profit) schools, 56% for public universities and 28% for for-profit colleges and universities.

10. Quoting from the KC Fed paper, “Graduates from for-profit institutions also are more likely to be unemployed and tend to make lower incomes upon leaving than do those from more traditional institutions, whether or not they have graduated.”

Let me be clear…there are some very good for-profit private institutions.  They tend to specialize in training students with a particular skill.  In addition, people argue that these institutions are attracting students who don’t have access to other schools.

With that said, the numbers I have presented make some general conclusions about these for-profit schools very clear.  These schools are in business to take federal dollars and turn them into profits. In order to do this, they attract and admit students who will not graduate.  Virtually all of their students obtain federal loans.  Even if they do graduate, they will earn less money than graduates of public universities.  Yet, these for-profit schools charge more than public universities.  When someone takes on student debt (which usually can not be discharged in bankruptcy) and they don’t get any additional income (because they didn’t graduate or their degree is worthless), we are simply selling them a future that is not much different than a debtor’s prison.  And remember, to the extent that these loans are never repaid, it’s taxpayers who have lost – because we’re the ones who are making these loans.  To make matters worse, these for-profit institutions are growing at a much faster rate than traditional universities.

Lets Go Off the Cliff (And Football Too!)

First, the fiscal cliff and then some football comments…

Here are four reasons why I think we should go off the cliff with respect to individual income taxes – in other words, let everyone’s tax rates increase:

1. Our tax code is already progressive.

Here’s a chart (from the CBO) that shows that the top 20% of earners received approximately 50.8% of the income and they paid approximately 67.9% of the taxes.

Tax income

Of course, the idea of raising taxes on couples making more than $250K (or individuals making more than $200K) really involves the top 2% – 4%.  So, let’s look at the tax progressivity of the top 1% of earners.  If you look at the amount of income that was earned by the top 1% and the taxes that they paid from 2007 – 2009, you’ll find:

2007 – earned 18.7% of income and paid 26.7% of taxes

2008 – earned 16% of income and paid 25% of taxes

2009 – earned 13.4% of income and paid 22.3% of taxes

Two things to think about with this: (1) The decreasing percentages are natural in a recession.  Income inequality declines due to smaller bonuses, fewer capital gains and fewer profits.  (2) Most Americans favor progressivity.  We can argue about wanting more or less, but we certainly have some progressivity at the top.   In sum, I would say that we really don’t have any compelling evidence that the taxpayers in the top 1% are not paying their fair share.

2. Raising taxes on couples making more than $250K will not make a dent in our problem.

In a separate CBO report (than the one mentioned above), they examined how much we need to cut from the budget in order to stop our debt-to-GDP ratio from continuing to rise.  They looked at a single year (2020) and estimated that we would need an additional $750 billion in taxes to reach this goal (or we could cut spending by that amount).

If we raise taxes solely on the high-income earners and we extend all other tax benefits that came during the past twelve years (Presidents Bush and Obama), we would raise an additional $110 billion in 2020.  We’d still be $640 billion short.  In other words, we’ll accomplish nothing.

If we let all of the tax cuts expire (so everyone who pays taxes would pay more), the estate tax and gift tax provisions enacted in 2010 would expire as planned and we don’t index the AMT for inflation, we’ll raise an additional $550 billion.  In other words, we’d be approximately 70% of our way to where we need to be.  (The CBO did not break out how much came from the AMT, the estate and gift taxes or the increase in the tax rate of everyone below the highest earners.)  See exhibit below.

3. If we all feel the pain, maybe we’ll finally address the real issue.

 If everyone is paying more taxes, we can have a real discussion.  Do we want to pay more taxes or do we want to cut some parts of the entitlement programs?  No one is going to be totally happy with the solution, but we’ll all have a vested interest.  We’ll either be paying for what we hope to receive or we’ll decide that we don’t want to pay for it and we’ll cut the programs.  But, it’s ludicrous to continue the promises without paying for them.  How do you make a reasonable decision when you’re receiving benefits (or you’re being promised benefits) and you’re not paying full price for them?  Of course, no one wants to cut entitlements under those circumstances.

4. If we eventually need to raise taxes again (and if we just raise taxes on the top income earners, I promise that we will have to raise taxes again), what will we do then? 

Will we again go back to the highest income earners?  In other words, we’re just setting ourselves up for future problems.

In my opinion, this is not the time to discuss the issue of income inequality.  (I’m very uncertain that taxes are the solution to that problem.  Instead, we are dealing with the problem of an unfunded liability.)  We need to decide as a nation whether we want to fund these programs or we want to cut them.  But, we’ll have the best discussion if we’re all feeling the pain – so we can decide whether the pain is worth it or not.

Some Football Comments

Quick comments:

1. Wow!  What a game.  I can’t believe that Alabama just won their third national championship in four years.  (Just kidding all you Notre Dame fans.)

2. Before the game, I said to several Alabama fans that if we lose, there’s no coach that I’d rather lose to than Mark Richt.  Everyone agreed.

3. There is a TREMENDOUS amount of luck involved with winning a national championship.  Obviously, Georgia can talk about the final play of the game (as well as other events).  If we lost, Alabama fans would have talked about whether the pass was tipped (negating an interference call and the next play resulted in a blocked field goal and touchdown for Georgia).  Notre Dame detractors will talk about Pitt missing the field goal in overtime.  Oregon had one simple missed block against Stanford that might have changed the game.  I could go on and on with little things that happened to Florida, Texas A&M and plenty of other schools.

4. Since some Notre Dame fans think that I’ve been derogatory toward their team, I thought that this would be a good time to say some nice things about them.  Unfortunately, I couldn’t think of anything nice to say.

5. Just kidding.  How about this: regardless of what other people may say, I think that if Notre Dame played in the SEC, they would still be bowl-eligible.  Did that help soothe your feelings?

6. Finally, let me say to all you Notre Dame fans, you need to realize that this is all fun and games.  Don’t take any of it seriously.  It’s important that you really enjoy this experience.  It only happens once every 25 years for you.

The Affordable Care Act (ACA) — Rombamacare

I guess I haven’t been receiving enough hate mail recently.  There’s no other logical reason why I’d write about the ACA.  So, let me start by disclosing my bias.  I recently spent some time studying the ACA (primarily reading some papers on both sides of the issues).  Ultimately, I’m in favor of the ACA.

I’m not writing in an attempt to convince you to support the ACA.  I believe that most of us have political or personal beliefs that result in us supporting or opposing this law.  (If you don’t believe this, ask why the Supreme Court justices could have different opinions on these issues.)  I think that my support for the ACA comes down to my twelve years of Catholic school that led me to judge issues by how they affect the weak and the poor.   These are my personal beliefs that affect my political beliefs.  I understand that many of you have personal and political beliefs that may lead you to oppose this law.

So then…what is the purpose of today’s blog?  In addition to generating hate mail, I want to give you some basic thoughts and I want to tell you some of the good and bad about the law.  Realize that this is a short piece – it is not intended to be a treatise that covers all of the issues.

The Basics of the ACA

The ACA is premised on three key ideas:

1. Insurers cannot turn anyone down or exclude people with pre-existing conditions.

2. Everyone must have health insurance (“the individual mandate”).

3. The government will subsidize health insurance for people who will struggle to afford it.  People who have income up to 400% of the poverty level will receive partial subsidies.

The Economic Reason for the Individual Mandate

Without the individual mandate, the ACA would likely fail.  Since insurers are not allowed to turn anyone down, healthy people could stay uninsured until they become sick (if there is no individual mandate).  Once they become sick, they would buy insurance (because they can’t be turned down).

If this is what happens, the pool of people who are being insured will be the “sick pool” and will not include the healthy people (who choose to stay uninsured until they actually need insurance).  If an insurer is only selling insurance to the “sick”, the cost will be high.  At that point, many people won’t be able to afford insurance and the system will fail.

The Individual Mandate Is a Republican Idea!

In the early-to-mid 1990s, the Republicans were opposed to the Clinton health plan.  One alternative was proposed by a Republican Senator and a Democratic Senator.  It included an individual mandate.  It was supported by 19 Republican senators (including Bob Dole).  If you don’t believe me about this, read this piece by PolitiFact.  Obviously, the Massachusetts plan (signed by then-Governor Romney) also has an individual mandate.

The Single Best Thing About Universal Health Insurance

Regardless of whether you support or are opposed to the ACA, there’s one thing that we should all be able to agree on.  The ability to obtain health insurance (without working for a large employer) will allow a larger number of people to take the risk of an entrepreneurial venture.  In other words, if I can obtain health insurance on my own, I’m more likely to take the risk of starting a business.   Hopefully, we can all agree that we want to support entrepreneurial activity.  We can argue about the cost of this law, but this benefit is great.

Other Reasons That I Like the ACA

1. We will insure approximately 32 million people who don’t currently have insurance.

2. Many of the people who are currently uninsured are still receiving treatment.  Unfortunately, much of this treatment is through emergency rooms – a very expensive way to get treatment.  We’re all paying for this already.  The hospitals and service providers ultimately pass these costs on to us.  We need to find a way to treat these people in a cheaper way.

3. The majority of people who will gain insurance are the working poor.  In other words, these are people who are working in jobs that don’t offer insurance or they are people who have previously made the decision to not participate in insurance.

4. A very similar plan has been successful in Massachusetts.  The “uninsured” rate is 2.6% (lowest in the nation) and they have kept costs low.  (This plan was developed under Governor Romney.)

5. The exchange (think of this as a simple, online market) will make it much easier to compare health plans.  It will also mean that people who are not obtaining insurance through their employer will be able to get affordable insurance that is more than just “catastrophic” insurance.

Reasons to Be Concerned About the ACA

1. Many of the cost assumptions are likely to be wrong.  We assume that we’re going to reduce payments to Medicare providers, that a review board will allow us to reduce costs, that tax laws will remain in place forever, etc.

2. In addition, we have already started collecting some of the ACA tax revenue even though most of the costs start in 2014.  That leads to distrust about the ten-year estimates (to reduce the deficit).  (In other words, as an exaggeration, if we collect revenue for ten years, but offer services for one year, it’s hard to say that this is reducing our deficit.  In the future, we’ll have ten years of revenue and ten years of costs.)  The flip side of this complaint is that estimates are that the second ten years will be more beneficial (to our budget) than the first ten years.

3. Massachusetts is different than the US.  They started with a much lower rate of uninsured people than the U.S. (8% vs. 15%), they have higher income than the U.S. (so more of the bill could be put on the citizens rather than the government), they had resources (from a federal government plan) that were used to fund their insurance law and (most importantly) their law had bipartisan support.

4. This law does a little to “bend the cost curve”, but not a lot.

Conclusion

Again, my goal is not to convince anyone of anything…and this is not intended to be a treatise.  This is a difficult issue and we have no idea of how the numbers will turn out.  But, regardless of how you feel about it, the politics should bother you.  The partisanship is absurd.  We have a problem – we pay more for health care than all other developed countries, we have higher mortality rates than most developed countries and we have less access to healthcare for a larger percentage of our citizens.  The Democrats took a Republican solution and now the Republicans are being forced to argue against it.  This is really “Romneycare” not “Obamacare.”  Maybe we can all get along and call it “Rombamacare.”

More on Student Loans

There continues to be more discussion about student debt.  There was a great article a week ago in Barron’s, titled “What a Drag!”  Below, I’ve listed some of the key numbers and ideas (taken straight from the article).  The big takeaway seems to be that the amount of debt is large, it’s impacting the lives of graduates, but it’s unlikely to blow up like mortgages did.  It will be a hindrance on our economy and the lives of the debtors – it’s like having a second car loan (and for some people…it’s a really big, fancy car loan).  Here’s what the article said:

SIZE OF DEBT

  1. The Fed stated that there is $870 billion of student loans carried by 37 million people.  This is greater than total auto loans.  It’s also greater than credit card debt.
  2. The Consumer Financial Protection Bureau asserts that the debt is over $1 trillion when you include interest that has been capitalized (added to the outstanding balance).
  3. Two-thirds of the college seniors who graduated in 2010 had student loans averaging $25,250.
  4. Student debt borrowing by the 34-to-49 age range has soared by more than 40% over the past three years (the fastest of any age group).  This may be due to bad economic times that prompted many to seek more training.
  5. The 30-to-39 age group owes more than any other age decile, with a per-borrower debt load of $28,500.  The 40-to-49 age decile is next with a balance of $26,000.
  6. Loans to parents have increased 75% since the 2005-06 school year, to an estimated $100 billion in federally backed loans.
  7. Pell grants allow students to borrow up to $5,550 per year.  Federal undergraduate loans are capped at an aggregate of $57,500.

RISING TUITION

  1. There is research that argues that tuition has increased as a result of the availability of these loans.
  2. Private four-year college tuition and fees have increased 181% over the past 30 years.  Public four-year college tuitions have risen by 268%.
  3. In-state tuition at public universities averages $8,244.  Private tuition averages $28,500.
  4. Ivy League schools led the increase in prices during the 1980s.  They knew that there was demand for a limited number of seats.  There was also a signaling effect.
  5. State governments know that there is a large gap between private and public tuition.  This may mean that state governments will continue to cut appropriations to schools.
  6. For-profit schools derive 90% of their revenues from government loans (and the GI bill).
  7. For-profit schools account for 40% – 50% of all student-loan defaults.
  8. Schools often lack cost controls and have to pay for high-salaried professors, expensive presidents and provosts, huge administrative bureaucracies and lavish physical plants.

OTHER PROBLEMS

  1. Delinquencies are reported at 10% but may be double that when you properly account for things like loan-payment deferrals.
  2. Tuition is rising and income is stagnant.  That means that people need to borrow more (and that it’s harder to pay back).  Tuition and fees at four-year schools increased 300% from 1990 – 2011.  Over the same period, overall inflation was 75% and health care costs increased 150%.
  3. High debt levels (and weak job prospects) make graduates reluctant to buy cars, homes or spouses.  Weak family formation is not a promising sign for the housing market.

THIS IS NOT THE MORTGAGE MARKET

  1. Student loans are just one-tenth of the size of the home-mortgage market.  Subprime mortgages (including alt-A and option ARMs) were bundled into $2.5 trillion worth of securitizations at their peak.  In addition, all of this was amplified by credit default swaps.
  2. The bulk of the student debt is guaranteed by the federal government.
  3. The government has particularly strong collection powers.  They can garnish wages, take income-tax refunds or Social Security payments.
  4.  Student debt is generally not dischargeable in bankruptcy.
  5. The government claims to recover 85 cents on the dollar from defaulters.  Contrast this with credit card recoveries that tend to be closer to ten cents on the dollar.

Some Quotes and Stats

A few quotes and stats that I came across during the past week and found interesting…

The other 12%?  According to the Americans for Secure Retirement, 88% of surveyed Americans said that they are concerned about their ability to maintain a comfortable standard of living throughout their retirement years.  One year ago, the number was 73%.

Unfunded liabilities.  Actuarial firm Milliman Inc. says that traditional defined benefit pension plans are only 72.8% funded.  This is the second worst quarterly result in their index’s 11 year history.

 Democrats on the hot seat.   In the 2012 elections, there will be 33 Senate seats up for grabs.  Democrats control 23 of them and Republicans only 10.

 Romney – so close, yet so far.  A recent Iowa poll showed Romney trailing Cain 23% to 22%.  But, here’s the more interesting number…in the survey, they asked respondents if they were likely to participate in the caucus.  Of those respondents who definitely intend to caucus (38 percent of those polled), Romney is the first choice of only 10 percent of them. Cain has 27% of this group’s vote.  This probably makes sense – the more conservative Republicans are more likely to caucus and they don’t like Romney.

We hate everyone.  Former Republican Senator Pete Domenici, said lawmakers who refuse to consider tax increases, as well as those who rule out cutting safety-net programs, “are both complicit in letting America destroy itself.”

A few great quotes from Dallas Fed President Richard Fisher. (Here’s the link  to the speech.)

1. I am going to do just that: I am going to suggest that our nation has a crying need for public leadership to correct what is wrong with our economy; that the Federal Reserve has provided the leadership required of it; that monetary policy cannot do it alone and must be complemented by responsible fiscal policy—policy that is exclusively the responsibility of those whom we elect to represent us in Washington; that rather than posturing for political expediency and positioning for victory at the polls in November 2012, our nation’s political leaders need to actually “buy a ticket” and put themselves at risk, right now and without delay. Each passing day they fail to do so further jeopardizes our economic stability and our nation’s future.

 2. The parties involved must stop the hemorrhaging without inducing cardiac arrest; they must solve the long-run debt and deficit problem without, in the short run, pushing the economy back into recession, creating still more unemployment. And they not only must confront their addiction to debt and spending beyond their means, but also reorganize the tax system, redirect the money they spend and rewrite the regulations they create so as to be competitive in a world that wants to beat us at our own game.

 3. I personally don’t care which party is in the White House or controls Congress. All I know is that the “honorable” members of Congress, Republicans and Democrats alike, have conspired over time, however unwittingly, to drive fiscal policy into the ditch. They purchased their elections and reelections with popular programs so poorly funded that they now threaten the economic well-being of our children and our children’s children. Instead of passing the torch on to the successor generation of Americans, the Congress is simply passing them the bill. This is the opposite of honorable, and it must stop.

What I’m thinking about.  Finally, as we head to the weekend, one final quote from me…ROLL TIDE!!!

Seven Billion!

There was a really interesting op-ed piece published in The NY Times about ten days ago.  It was written by Joel E. Cohen, a mathematical biologist who heads the Laboratory of Populations at Rockefeller University and Columbia University.  The piece was titled, “Seven Billion.” 

Here are some of the really interesting numbers.

The UN estimates that our world population reached seven billion at the end of October.

Our world population has doubled in the past 50 years.  We had three billion in 1959, four billion in 1974, five billion in 1987 and six billion in 1998.

 The UN anticipates 8 billion people by 2025, 9 billion by 2043 and 10 billion by 2083.  India will have more people than China shortly after 2020.  Before 2040, sub-Saharan Africa will have more people than India.

 In 1950, there were nearly three times as many Europeans as sub-Saharan Africans.  By 2010, there were 16% more sub-Saharan Africans than Europeans.  By 2100, there will be nearly five sub-Saharan Africans for every European.

 Life expectancy is now 70.  The average number of children per woman fell worldwide to 2.5.  It was five in 1950.  The world’s population is growing at 1.1% per year, half the peak rate in the 1960s.

 In 1950, for each person 65 and older, there were more than six children under 15.  By 2070, elderly people will outnumber children under 15 and there will be only three people of working age (15 to 64) for every two people under 15 or 65 and older.  We will have intense pressure to extend the working age beyond 65.

 Nearly half the world lives on $2 per day or less.  In China, the figure is 36%; in India it’s 76%.

 Approximately 850 million to 925 million people experience food insecurity or chronic undernourishment.  In much of Africa and South Asia, more than half the children are stunted (low height for their age) as a result of chronic hunger.

 The world produced 2.3 billion metric tons of cereal grains in 2009-10.  This is enough calories to sustain nine to eleven billion people.  BUT…only 46% of the grain went into human mouths.  Domestic animals got 34% of the crop and 19% went to industrial uses like biofuels, starches and plastics.

 Human demands on the earth have grown enormously.  (Unfortunately, the atmosphere, the oceans and the continents have stayed the same size.)  Already, more than a billion people live without an adequate, renewable supply of fresh water.

About two-thirds of freshwater is used for agriculture.

We’re going to see huge shifts in the geopolitical balance of numbers, further declines in the number of children per woman, smaller but more numerous households, an increasingly elderly population, and growing and more numerous cities.

 Growth in households can be even more important than pure population growth.  Each household has energy demands.

Some Basic Math

This week, I plan on posting a few short blogs.  They’re already (mostly) written, so I actually feel some confidence that this will happen.  On to today’s thought…

Greece, Italy and the United States

Current estimates are that Greece’s debt-to-GDP ratio is around 160%.  The goal is for this to be 120% in 2020.  Currently, Italy’s ratio is 120%.  Reinhart and Rogoff have shown that economic growth starts to slow when the debt-to-GDP ratio of a country exceeds 90%.

You don’t need to know anything about economics to do some basic math.  Here it is…let’s imagine a country with debt-to-GDP of 120%.  Let’s also imagine that the country pays interest of 6% (that’s what Italy is currently paying; Greece is paying much more).  If that’s the case, you’re paying interest that is equivalent to 7.2% of GDP.  (That’s 120% x 6%.)

Italy’s tax revenue is around 22% of GDP.  If one-third of their tax revenue is needed to pay interest, the numbers don’t work out.

Of course, this same math is true for the United States.  Our debt level is not that high yet (our publicly held debt is above 60% of GDP and our total debt is above 90% of GDP).  In addition, our interest rates are very low.   But, if interest rates ever increase, the math will work the same for us as it does for Italy and Greece. One other random thought…I don’t understand why anyone would buy a credit default swap on a sovereign debt.  If Greece’s bailout can be fashioned as a “non-default” (when private investors will “voluntarily” take a 50% haircut), it’s hard to imagine what type of restructuring would actually be considered to be a default.

Career Politicians

I just finished watching President Obama and Speaker Boehner give back-to-back speeches.  To some extent, it was shocking.  With the clock ticking, I would have never expected two such partisan speeches.  There’s not enough time to resolve this partisanship and we made things worse tonight.  It’s all related to today’s blog…

Ultimately, the debt ceiling isn’t the real issue.  Raising the amount we can borrow doesn’t solve our debt problem.  It’s simply like getting our credit limit raised on our credit card.  Most importantly, while I constantly discuss our debt problem as our biggest problem, I don’t even think that’s true.    Our biggest problem is our political system.  This debt ceiling issue has made this even more apparent.  We have politicians who are incapable of compromise and fixing our problem.  This is a structural problem.

It seems obvious that we need term limits.  I would argue that we need extreme term limits – “one and done.”  No more career politicians.  It’s our only hope.

Today’s blog has two parts:

(1) some statistics on the 112th Congress (from “Membership of the 112th Congress: A Profile” by Jennifer E. Manning – here’s the link for the pdf of this paper); and

(2) a summary of arguments about term limits that come from an old (1994) white paper, “Term Limits: The Only Way to Clean Up Congress,” by Dan Greenberg.  Here’s the link.

The 112th Congress

I pulled some relevant statistics below.  One thing should jump out at you – that we have career politicians.  This is what they do.  Do you believe that career politicians will solve our problems or do you believe that they ARE the problem?

1. Age – average Representative was 56.7 years old and average Senator was 62.2 years old (at the start of the 112th Congress).

2. Tenure – the average Congressman had been in Congress for 9.8 years; the average Senator had served 11.4 years.  (The committee chairmen, speaker, majority leader and whip normally have MUCH more tenure.  In other words, those who have been in Congress the longest tend to have the most power.)

3. Prior service – 49 Senators had previously served in the House – adding to the time that they were politicians.

4. There are 39 former mayors (29 in the House and 10 in the Senate).

5. There are 11 State Governors (all in the Senate).

6. There are nine Lieutenant Governors (three in the Senate and six in the House).

7. There are 263 State legislators (222 in the House and 41 in the Senate).

8. There are at least 105 former Congressional staffers (21 in the Senate and 84 in the House).

Arguments in Favor of Term Limits

(NOTE: these ideas are lifted straight from Dan Greenberg’s paper (cited above) and some sentences are lifted directly.)

1. Bring new perspectives to Congress.  Over the long-term, the turnover rate for House incumbents who attempt re-election is near 10%.

2. Term limits would reduce the power of lobbyists and special interest groups.  These parties have made long-term investments in politicians.  As a result, these are the people who oppose term limits.

3. Term limits would end entrenchment.  Incumbents have a huge advantage in getting re-elected.  They get free mail, staff salaries, office and travel expenses and continue to receive their salary while campaigning.  They also have name recognition, media access and higher political contributions.

4. Long-serving Congressmen can become enmeshed in a culture that is over familiar with the federal government and insulated from the communities they ostensibly represent.

5. Term limits would result in less pork-barrel spending.  Often, this spending is designed to boost re-election hopes, but it does no good for the country.

6. Term limits end the conflict of voters – where they know the incumbent will have more power in Congress, so they vote for him.

7. Term limits would reduce the disrespect that Americans have for Congress.

8. Term limits would effectively shut down the seniority system.  Committee assignments would be by merit.  As a result, small states would not feel as if they are at a disadvantage (where they need to re-elect the incumbent to maintain power).

9. While some argue that we need “experienced legislators”, this simply speaks to the idea that our system is too complex.  Ultimately, many of us will be willing to make the trade and take “less experience” in the place of the status quo of selling votes to lobbyists.

10. Congressmen would use their staff more efficiently – rather than using them to help ensure re-election.

11. Term limits would cause elected officials to feel time pressure to get to DC, make changes and create their legacy.

A few final thoughts: 

1. Yes, there are plenty of problems with term limits.  But I believe the benefits outweigh the costs.

2. Every time I hear a politician say that something is “politically infeasible,” they are basically saying “we put our re-election ahead of the interests of the nation.”

3. I understand that our current system has lasted 235 years.  While I’ve only been around for 20% of that time, I’m pretty sure that things have changed.  If you were starting a company today, would you expect it to be governed in the same way for the next 235 years?  Do you really think we benefit from career politicians?

Core vs. Headline Inflation

Recently, I was giving a speech and someone asked me what I thought about core inflation (which ignores food and energy) versus headline inflation (which includes everything, including food and energy).  I’ve been asked this question a lot and I don’t really have a problem with the idea of core inflation (but I understand that many people do).  I told him my position.  When he didn’t like that answer, I tried to make it better by offering him some free advice.  I said, “you’ll be fine – just don’t drive, don’t eat and most importantly, don’t drive to eat.”  Suffice it to say that this answer didn’t really help.  One more unsatisfied customer.  I think my work here is done.

Anyway, St. Louis Fed President James Bullard spoke on Wednesday about core inflation versus headline inflation (and he sees the issue differently than I do).  When you look at the chart below, you can see that headline inflation is more volatile:

consumer Pirce Index

President Bullard argued that there are four reasons why we use core inflation and that these reasons are wrong.  The reasons are:

1.     Headline inflation is more volatile than core inflation.

2.     The core predicts headline inflation.

3.     The “relative price” argument.  This says household budgets are fixed, so more money spent on one good must lower the amount spent on another good.

4.     Households may prefer that we focus on a subset of prices.

Bullard had many arguments as to why we should use headline inflation:

1.     The Fed risks losing credibility by ignoring inflation that households and businesses are aware of.

2.     The headline numbers were designed to be the best measures of inflation available.

3.     While the headline number is more volatile, monetary policy can be adjusted to use this.

4.     When policymakers use the core number, they make large changes in policy based on small changes in the core number.

5.     It would be easy to smooth the headline number.  One simple way is to measure the headline inflation for a one-year period (rather than annualizing a one month change).

6.     It is silly to build a model that simply says that core inflation predicts headline inflation.  We need to include other factors such as expected inflation, developments in the real economy, the stance of monetary policy and other variables.  The point is that it’s wrong to say that core inflation (alone) predicts headline inflation.

7.     There is no convincing evidence that a model with core inflation adds special information than other (more full) models.

8.     The idea that core inflation predicts headline inflation is unclear.  You have to decide what the forecast period is, what function of core inflation to use and the measures of core and headline inflation to use.

9.     A trimmed mean inflation measure (such as one calculated by the Dallas Fed, where they exclude the highest and lowest price changes each month) does better than core inflation (where we always exclude the same two factors).

10. If you think of the household budget as fixed, a change in relative price will lead to a change in consumption of that product.  Relative price movements are already accounted for in the existing indexes.  Therefore, when the entire price index rises, it really does mean that there is inflation in the economy.

11.  The Fed does not control any one element, but only has some general control over the entire price index.

12. If people spend more on energy (for example), they spend less on other items and this puts downward pressure on those items.  By ignoring food and energy (when it rises), we understate the true inflation rate.

13. If global demand of energy continues to increase over the long term, prices will increase and we will systematically understate inflation (if we ignore it).

14. You could argue that we care about sticky prices (which do not quickly adjust to supply and demand) and we don’t care about fully flexible prices like oil.  Similarly, we could argue that we focus on the sticky prices in our country and ignore the flexible import prices.  But, these are very academic arguments and not commonly discussed in the real world.

I really like President Bullard and his thoughts, but I actually believe core inflation is important.  I realize that this is probably a minority view and that most people get really frustrated by the idea of “core inflation,” but it scares me to think of making policy based on a volatile headline number.  In addition, food and energy costs are outside of our control in the short term.  To me, the real fear (and what we’re watching) is to see when food and energy inflation has worked its way into the cost of other goods (core inflation).

A Farm Bubble?

Okay, I have to start with sports before I get to my real blog entry.  Have you ever seen such a class-less team as the Lakers?  For those of you who didn’t see it, after winning the last two NBA championships, the Lakers got swept by the Dallas Mavericks.  “Swept” is a great word, since it’s often coupled with the word “trash.”  In the last seven minutes, down 30 points, two Lakers were thrown out of the game for different flagrant fouls that could have seriously hurt Maverick players.  A third Laker was thrown out of game 2 with six seconds left for a similar loser move.  Who would have ever expected a team built around Kobe Bryant to be so classless?  (For those of you who don’t follow sports…that was sarcasm.)  Now, on to the real world…

Some analysts fear that the next bubble might be American farmland.  Last week, we saw crop prices retreat.  As a result, it’s time to start thinking about this issue.  Here are a few ideas:

farmland values have surged

1.     In parts of the Midwest, farmland values rose more than 20% last year.   See chart below (from the KC Fed).

2.     Farm values rose with booming crop values.  In addition, some farm values increased due to higher energy prices which lifted land lease revenues for oil exploration.

3.     America’s farms were valued at $2 trillion+ last year.

4.     There are 1,500 banks and thrifts that specialize in agricultural lending.

5.     According to The Economist, investors now account for 25% of all land purchases in some states.  Life insurance companies, vendor creditors and non-farm investors are active.

6.     If commodity prices fall, this land will lose value.

7.     A rise in capitalization rates (think of that as the discount rate) back to their historic norms would mean that farm prices would fall by a third. 

8. Higher interest rates have lowered farm income in the past. See Fed chart below. It makes sense that lower income would make farmland worth less.

income tend
income tend

9.     Property accounts for 90% of farmers’ wealth.

This is a much smaller issue than the house crisis, but it’s worth keeping an eye on.