Archive for August 31st, 2010

A Bad Week for Regulation

Nobody reasonably doubts the need for responsible regulation.  It’s for that reason that we need to understand the limits of reasonable regulations, and the risks that come from the temptation to exceed them.

Last week as a bad week for bad regulation.  First, this example of entrenched industries using regulators to further their own interests at the expense of their customers:

The National Association of Broadcasters is lobbying Congress to stipulate that FM radio technology be included in future cell phones.

In exchange, the NAB has agreed that member stations would pay about $100 million in so-called performance fees to music labels and artists. Radio stations would be required to pay performance royalties on a tiered schedule with larger commercial stations paying more than smaller and non-profit stations.

FM radio now has to compete not only with AM, but with all manner of streaming media.  So of course, they want the government to force their competition to pay the freight to expand FM’s market.  The irony is that the regulators writing these rules are just as clueless: my smartphone already includes an app where I can listen to any local FM radio station.

The other lesson is in the risk of politicizing well-established rules.  BP was browbeaten, if you recall, into putting $20 billion into escrow for the executive branch to dispose of as it wishes.  Some of us argued at the time that there were rules for how to deal with liability, and that the courts were a better, non-political venue for doing so.  Even assuming that Kenneth Feinberg were completely incorruptible personally, he would find himself buffeted by political pressures he – or his administration employers – might feel the need to respond to.

The first, most obvious pressure, is to be lenient in disposing of BP’s money.  Feinberg has tried to make it clear that he will, in fact, be far more lenient and timely than the courts would be:

Appearing … before about 300 people in Houma, La., Feinberg lectured, cajoled and asserted that once he takes over Monday, the process will be accessible, fast and fair.

“I will be extremely lenient in documentation,” Feinberg said. “I don’t need reams and reams of stuff. I don’t need a tax return. Do you have something you can show me? Well, the ship captain will vouch for me — fine. Well, my priest will — fine.”

But this hasn’t mollified those who want more:

Kenneth Feinberg’s effort to set the terms for handing out BP PLC’s money to Gulf oil spill victims came under fresh attack Monday from state officials and private lawyers who said he planned to be too restrictive in deciding who gets paid.

“Mr. Feinberg seems to be completely tone-deaf to the concerns of people along the Gulf Coast,” said Alabama Attorney General Troy King, who blasted Mr. Feinberg as a “corporate shill” of the oil giant.

The point here isn’t who’s right.  I certainly don’t know.  The point is that the suspension of normal, well-established processes for recovering economic damages have been suspended in favor of the judgment of a single bureaucrat.  Many will pile on and try to pressure the system in their direction, often through the media, which can’t help but erode public confidence in the system.

The temptation to help a client group, or to solve a problem now is dangerous, and often, if not usually, makes thing worse rather than better.

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Budget Lessons from the Old Dominion

This, from the Wall Street Journal, describes how Virginia managed to close its budget gap:

Here’s something you don’t see often these days: a government running a budget surplus. Governor Robert McDonnell announced last week that Virginia closed fiscal 2010 some $400 million in the black. That’s a radically improved financial picture from a year ago when the state faced a $4.2 billion two-year budget hole.

The usual suspects—the big business lobbies, the Washington Post—thought a major tax increase was needed. So did the previous Governor, Democrat Tim Kaine, who proposed a $2 billion tax hike before he left town, on top of two major Virginia tax increases in the previous eight years.

Mr. McDonnell has proved otherwise. The newly elected Republican put a freeze on hiring and took the knife even to such politically sensitive programs as school aid, police and Medicaid to cut hundreds of millions of dollars. Total state spending has been reset more or less to 2007 levels. If Congress were to do that, the federal deficit could fall by more than $900 billion, or two-thirds.

It’s true that Richmond used too many budget tricks to make the surplus appear larger than it really is. Sales tax payments were accelerated by one month to count in 2010 rather than 2011. Several hundred million dollars were borrowed from the public-employee pension reserve—money the Governor promises to repay by 2013. Most fiscal experts think the real surplus is closer to $87 million. But given the lousy economy, Virginia’s budget achievement is laudable. (Emphasis added)

Virginia does biennial budgeting, so they’ve passed their FY11 and FY12 budgets already.  Virginia’s general fund is about $15.5 billion, and its total budget is about $38 billion, so either way, it’s about twice Colorado’s.  Virginia was facing a $4.2 billion deficit over two years, so it was also roughly proportional to the $1 billion hole we face in FY11-12.

We could begin with a meaningful hiring freeze ourselves.  Despite the Democrats’ claim of a hiring freeze, the Bureau of Labor Statistics tells a different story:

It also makes the urgency of converting PERA from a defined-benefit to a defined-contribution plan even more plain.  (For the basics on public pensions, see this primer.)

In the past, I’ve posted on the difficulty of forecasting, how despite the best intentions and best information, the folks at Legislative Council have a hard time seeing revenue crises before they hit.  Bloomberg  has a fine posting on why this is so:

How do economists fare when it comes to real forecasting, to predicting GDP growth and inflation one year out? About as good as a coin toss, according to Bryan’s research. Less than half the economists did better than the “naive” forecast, which is based on no understanding of the economy and merely assumes next year’s outcome will be the same as this year’s. It’s what you’d expect if the results were purely random….

I want to hear a plausible scenario, based on what we know and what we expect, for how things are going to play out in the U.S. and on the global stage. Getting the number right is a job for an accountant. Putting that number in the context of a larger trend is a job for an economist.

We don’t know when revenue will recover, and we don’t know when the next drop will hit.  As a result, we need to be careful not to build in additional structural spending when times are good.

Unfortunately, we’ve already used up all those gimmicks that make the Virginia surplus look larger than it is.  For us, it’s going to be even more painful, which means it’s going to call for a seriousness that’s been lacking.  It’s going to call for the guts to make difficult cuts, and the courage to defend them before the voters – even in odd-numbered years.

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