2010 May 31 Monday
WPost Sees Problem With Public Employee Unions

Montgomery County Maryland has a big financial problem compared to neighboring Fairfax Virginia.

MONTGOMERY COUNTY has just completed a nightmarish budget year. Stressed, squabbling and besieged elected officials savaged services and programs and jacked up taxes to eliminate an eye-popping deficit of almost $1 billion in a $4.3 billion spending plan. Meanwhile, across the Potomac River in Fairfax County, all was sweetness and light by comparison. With a budget roughly equal to Montgomery's, Fairfax officials erased a deficit a quarter as large with relative ease and far less drama.

Click thru and read the details. Montgomery County Maryland voters basically get less service for the money.

Why the difference? Unions. Maryland allows collective bargaining by government employee unions while Virginia does not allow government employees to organize. Keep that in mind when choosing where to live.

Virginia law denies public employees collective bargaining rights; that's helped Fairfax resist budget-busting wage and benefit demands. As revenue dipped two years ago, Fairfax officials froze all salaries for county government and school employees with little ado. By contrast, Montgomery leaders were badly equipped to cope with recession. County Executive Isiah Leggett took office proposing fat budgets and negotiating openhanded union deals after he succeeded Mr. Duncan. Then, as economic storm clouds gathered, he shifted gears and cut spending -- while still trying to appease the unions.

Notoriously, one such deal guaranteed almost $300 million in pension benefits over 40 years to thousands of employees based on salary increases they never received. The giveaway became known as "Phantom COLAs," for the cost-of-living raises that were never paid. And even when Montgomery's teachers agreed to give up cost-of-living raises last year, about two-thirds of them continued to receive step increases of up to 4 percent.

Public employee unions spend big on elections. Elected officials become tools of the unions. The voters mostly do not understand what's going on and naively think that endorsements by firemen, police, and teachers mean that a candidate is for keeping houses safe from fires, the streets safe from criminals, and good teachers in classrooms. But in reality what voters are voting for is more money for less work for employees of government agencies.

Since I'm expecting economic contraction due to a peak in world oil production the ability of governments to cut costs rapidly is going to become far more important than it already is. For jurisdictions where government workers can form unions what's needed are better laws for handling government bankruptcies. Governments are going to need ways to dump liabilities quickly and efficiently so that they can continue to deliver needed services.

Anyone know a good list of which states allow unions to do collective bargaining for government employees? I wonder how strong the correlation is between states with large unfunded pension liabilities and states that allow collective bargaining. Do any states allow collective bargaining but manage to avoid ruinous labor contracts due to very rightward-leaning electorates?

By Randall Parker 2010 May 31 06:03 PM  Economics Sovereign Crises
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ING Bank To Feed Australia Housing Bubble

Having seen how well housing bubbles worked out in the US and Ireland the time has come to innovate in Australia.

ING Direct, Australia's fifth largest lender, is preparing to sell loans that have no fixed term and no requirement to repay any capital along the way.

At current rates, the interest-only loans would cut repayments on a $300,000 mortgage by $5000 a year.

Repayments would be kept to a minimum, allowing borrowers to benefit from capital growth in their property.

This insanity is needed because prices are too high. Of course this will keep prices going up by making it easier for more to buy. That'll make housing too expensive even with no principal paid on the mortgages. So then it'll be time for another innovation.

"People are needlessly being denied the chance to buy a property while prices spiral rapidly out of their reach" ING Direct CEO Don Koch said.

Have they tried teaser rates yet? Are they going to this no principal payment idea because they've already copied all the innovations that helped make the US housing bubble such a smashing success?

ING Direct is bringing out this type of mortgage at a time when Australia is still in a housing price bubble.

THE average Sydney house is more expensive than its equivalents in London and New York, a comparison of real estate in the world's biggest cities has found.

Residex figures show the median cost of a Sydney house is $651,500 - almost $190,000 ahead of London, where the median price for a two- to three-bedroom house is $462,000.

A two-bedroom, free-standing house in the New York City metropolitan area (not including Manhattan) is about $180,000 less.

But isn't Sydney a nicer place to live than London or NYC? I've always wanted to visit Australia or even live there for a while.

By Randall Parker 2010 May 31 05:40 PM  Economics Housing
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America's Military Too Powerful

I hold this truth to be self evident: America's military is too powerful for America's ruling class to handle responsibly. America's ruling class is just not up to the task of handling such a powerful instrument of force.

I wish the truth were otherwise. But I write this blog to examine ugly truths. The shortcomings of America's elites, evident in their use of the US military since the Soviet Union collapsed, have become too glaring to ignore.

By Randall Parker 2010 May 31 11:10 AM  Elites Betrayal And Incompetence
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2010 May 30 Sunday
Miami And Antioch Headed For Bankruptcy?

An NBC Miami news video reports that Marc Sarnoff, a commissioner in Miami's government, is pondering the possibility of bankruptcy for the city of Miami. He does not think elected officials can make the decisions needed (primarily take on the public employees unions) to get the city's finances back in balance. He says they either need to renegotiate union contracts or lay off 800 employees. He does not think the voters will accept tax increases.

Sarnoff sounds like he's lost his faith in democracy: "You no longer have 5 people making political solutions. You now have one person who is looking after the best interest of the taxpayer of the city of Miami, without any politics getting into his or her way." One of the results of so many local governments falling under the heavy influence of public employee unions is this loss of faith in democracy as a way to run governments. Our voters are, for the most part, too dumb to see that the election advertisements run by fire, police, and other public employee unions amount to (quite successful) attempts to trick the voters into lowering their own living standards in order to raise the living standards of government employees.

In Miama the average city employee makes $76k per year versus the average Miami resident making only $29k per year. The ruling class definitely knows how to feed itself. Pension costs have rising from $16 million in 2000 to $70 million in 2009. With a population of about 390k that works out to city government pension costs of about $180 per capita. Those costs will rise as more employees retire.

20% of city property taxes will go to retirees this year. The city is trying to modify its contract with the firefighters' union and they are fighting it in court. Click thru and read the details. These stories show you what you'll eventually see closer to home.

At the end of this budget year, Miami will have to shell out more than $100 million to make the city's pensions whole. That means 20 cents of every dollar Miami takes in from property taxes goes to the retirement of city workers.

Antioch California also joins the list of municipal bankruptcy candidates. Vallejo led the way. Antioch might follow.

Antioch's leaders earlier this month said bankruptcy could be an option for the cash-strapped city of roughly 100,000 on the eastern fringe of the San Francisco Bay area.

Some other local governments are at much higher risk of going bankrupt. Detroit is on that list. I am surprised it has avoided bankruptcy for this long. Harrisburg PA is probably going under due to some bad infrastructure investment decisions. Jefferson County Alabama is in similar straits. But these 3 aren't typical of the new breed of failing governments. The new breed is in trouble mainly due to fat union retirement benefits combined with the bursting of the real estate bubble.

This is just a trickle before the flood. At bad as city, county, and state finances are now (and they are pretty bad) once world oil production starts declining each year any government already remotely near bankruptcy will get shoved hard into insolvency.

Some retired public employees are in fat city.

At his office in Burbank, Calif., Richman navigates to his group's Web site, where he's posted a list of retired public employees in California who receive six-figure pensions. Number one is Bruce Malkenhorst, a retired city manager near Los Angeles who collects a half-million dollars a year. Next on the list is Joaquin Fuster, who gets $296,000. And James Stahl, who was with the Los Angeles County Sanitation District, receives $265,000.

There are more than 5,000 Californians on this list. These six-figure pensions make up only one percent of retired public workers, but many others still have a sweet deal. Take cops and firefighters, for example: If they retire, say, after 30 years of service, they make 90 percent of their top salary each year — guaranteed — until they die.

Update: The governor of New York doesn't appear to have what it takes to go up against the NY state government employee unions. This illustrates why states need Congress to pass laws regulating state-level bankruptcy. Elected officials are too weak and lame to responsibly handle state finances.

Its Apr. 1 budget deadline long past, New York's dysfunctional legislature remains divided over a $9.2 billion deficit. Democratic Governor David Paterson says he's "virulently opposed" to issuing new debt to close the gap, though he may cave in the face of resistance from public sector unions to education and health-care cuts.

By Randall Parker 2010 May 30 03:19 PM  Economics Sovereign Crises
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2 Australians Look At European Economic Crisis

John Clarke gets interviewed by Brian Dawe on Australia's ABC News on the hot political and economic topics of the day. Clarke and Dawe discuss the large amounts of money which European countries owe each other. Since the building financial disaster seems unavoidable at this point it should at least be funny.

Since Peak Oil is going to cause plunging tax revenues these European nations who hold each others' debt are going to fall down like so many dominoes. Might as well laugh about it since there's nothing you can do to stop it.

Back in October 2008 Clarke and Dawes explained how credit and banking work.

Still timely today, back in November 2008 Clarke and Dawe presented a practical guide for riding out the economic storm.

They take on the worthless credit ratings agencies.

By Randall Parker 2010 May 30 10:40 AM  Elites Betrayal And Incompetence
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2010 May 29 Saturday
High Price Colleges Lead Students Deep Into Debt

Higher education is a fraud.

Today, however, Ms. Munna, a 26-year-old graduate of New York University, has nearly $100,000 in student loan debt from her four years in college, and affording the full monthly payments would be a struggle. For much of the time since her 2005 graduation, she’s been enrolled in night school, which allows her to defer loan payments.

When will the education bubble burst? When will kids start figuring out that for most of them higher education isn't worth it unless they go for economically valuable skills?

Get this: the foolish girl racked up $100k in debt to get a degree in religious and women's studies.

Cortney could move someplace cheaper than her current home city of San Francisco, but she worries about her job prospects, even with her N.Y.U. diploma.

She recently received a raise and now makes $22 an hour working for a photographer. It’s the highest salary she’s earned since graduating with an interdisciplinary degree in religious and women’s studies. After taxes, she takes home about $2,300 a month. Rent runs $750, and the full monthly payments on her student loans would be about $700 if they weren’t being deferred, which would not leave a lot left over.

Even if she wasn't paying interest it would take her 12 years to pay back the debt. But if her interest rate is 6% then she's looking at over 19 years of payments. For what? The ability to work a job that she could have gotten sooner without the degree. What the hell are people thinking when they go to college to get a degree in some "studies" major? I can see it if you were born rich and just want to intellectually entertain yourself and hang out at college parties. But what if you really need to make a living once you leave school?

Colleges and universities like NYU are peddling a fraud to prospective students. Spend big bucks to attend their over-priced institutions of higher learning and the door to wealth and success will be opened. The Left's constant chanting that education is the answer sets up each new generation of youths to be easy marks for what the colleges are selling.

By Randall Parker 2010 May 29 05:17 PM  Education
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2010 May 26 Wednesday
Ezra Klein Labels Rand Paul Extremist

Kentucky Republican Senatorial candidate and libertarian Rand Paul expressed unhappiness with the way the 1964 Civil Rights Act restricted right of free association in the private sector. This served as the occasion for lots of left-leaning commentators to call Paul racist and other names. Ezra Klein says Rand Paul is not a racist but he is an extremist.

Over at Right Now, Dave Weigel offers up the generous and, I think, correct interpretation of Paul's opposition to the parts of the Civil Rights Act that desegregated private businesses. "Paul believes, as many conservatives believe, that the government should ban bias in all of its institutions but cannot intervene in the policies of private businesses." And Weigel is right that this is not an unknown belief among conservatives: I've had this argument with some of my libertarian friends, and libertarians occasionally have this argument among one another.

So I take Paul at his word that he's not a racist. What he is, however, is an ideological extremist. He is so categorically opposed to public regulation of private enterprise that he cannot even bring himself to say that the Woolworth lunch counter should've been desegregated. Instead, he falls back on the remedies of the market: "I wouldn't attend, wouldn't support, wouldn't go to," a private institution that discriminates, he told Rachel Maddow. But he would let them discriminate. And in the segregated South, that would've been a perfectly viable business model for many, many very important institutions.

Let us be clear here: According to Ezra Klein if you support a right to free association as strong as, say, a right to free speech then you are an ideological extremist. Not just an extremist but an ideological extremist.

Once upon a time (say, for most of American history) a right of free association was considered a basic right. Clubs and companies could and did exclude applicants on any number of ethnic, racial, religious, class, and other characteristics of birth or achievement or belief. But since that was considered to be racist this right was greatly cut back starting in the 1960s, at least for some (mostly white) people. Not all rights of free association were curtailed. Certainly some groups can restrict memberships without getting called names or labeled extremists. But a substantial fraction of the populace can't.

While the people who sought to reduce unfairness based on race had some pretty laudable intentions that hardly makes libertarians who favor a right of free association into extremists. An extremist is someone who takes positions beyond the norm. But that automatically opens up the question of whose norm? Ezra Klein would like to make his norm (and those of other liberals who dominate the press) into the norm. Certainly from where he sits the left-liberal consensus among the press and academics seems like the norm. People who take views in opposition to the left-liberal consensus are quite effectively marginalized on a large assortment of subjects, free association just being one of them.

But just because a group dominates the press and academia that does not mean that they are representative of the populace as a whole. In fact, what's most notable about the press and academia is the extreme (ha!) degree to which they do not present the norm. For example, in academia Democrats outnumber Republicans 7 to 1 in social sciences and humanities. Among anthropologists Democrats outnumber Republicans 21 to 1. One might raise questions about whether this makes anthropologists extremists and whether they therefore have views that should be discounted.

The same sort of extremism found among academics is found among reporters with a trend toward more Democrats than Republicans as reporters with that trend hitting extremes in recent decades and with greater extremes among the media elite.

The Left has marginalized a very large sector of the American public. Then, adding insult to injury, the Left now labels rational reasonable people as extremists. You gotta admire their audacity.

By Randall Parker 2010 May 26 07:14 PM  Cultural Wars Western
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2010 May 23 Sunday
Home Libraries Speed Child Learning

Is a big home library as good as having educated parents for a child's intellectual development?

RENO, Nev. – Whether rich or poor, residents of the United States or China, illiterate or college graduates, parents who have books in the home increase the level of education their children will attain, according to a 20-year study led by Mariah Evans, University of Nevada, Reno associate professor of sociology and resource economics.

For years, educators have thought the strongest predictor of attaining high levels of education was having parents who were highly educated. But, strikingly, this massive study showed that the difference between being raised in a bookless home compared to being raised in a home with a 500-book library has as great an effect on the level of education a child will attain as having parents who are barely literate (3 years of education) compared to having parents who have a university education (15 or 16 years of education). Both factors, having a 500-book library or having university-educated parents, propel a child 3.2 years further in education, on average.

If I could change my own childhood via a time machine visit I'd send myself a very high quality pile of books. I was an obsessive reader. But in retrospect the books I had to read were far from ideal.

I doubt that a 500 book library would provide as big of a benefit as college educated parents if the books were added into households of parents who do not normally read. The 500 book libraries are really indicators of smarter and more curious parents - even if the parents didn't achieve high levels of education themselves. I bet the kids growing up in houses with big libraries were smarter on average and inherited that smarts from their parents. Until social science research starts controlling for genetic factors research such as that reported above won't tell us the real causes of observed differences.

By Randall Parker 2010 May 23 10:28 PM  Education
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US Government Big Regulatory Spending Surge

George W. Bush and Barack Obama pushed up regulatory spending by 75% to $59 billion.

Over the last decade, annual budget outlays for regulatory activities increased by more than 75 percent, according to a federal regulatory spending study conducted by The George Washington University Regulatory Studies Center and the Weidenbaum Center at Washington University in St. Louis.

The FY 2011 Budget of the United States Government calls for fiscal regulatory expenditures of more than $59 billion, the largest federal regulatory budget to date. Contributing to this increase is the number of full-time federal regulatory staff, which is also expected to reach an all-time high of almost 284,000 employees in 2011, up by more than 7,000 employees in 2010.

Obama hasn't had time to accomplish a 75% spending increase for regulatory agencies. So Republican George W. Bush was the agent of most of the increase. That doesn't fit with the stereotype of Republicans opposed to regulation and Democrats in favor of regulation. Bush was a big spender even on regulatory matters.

By Randall Parker 2010 May 23 09:54 PM  Economics Government Costs
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Poorer Kids Not Getting Good Return From College

Kevin Carey of Washington DC think tank Education Sector argues that a lot of kids aren't getting their money's worth from college educations.

What the encomiums to Pell failed to mention is that his grants have been, in all the ways that matter most, a failure. As any parent can tell you, colleges are increasingly unaffordable. Students are borrowing at record levels and loan default rates are rising. More and more low-income students are getting priced out of higher education altogether. The numbers are stark: When Pell grants were named for the senator in 1980, a typical public four-year university cost $2,551 annually. Pell Grants provided $1,750, almost 70 percent of the total. Even private colleges cost only about $5,600 back then. Low-income students could matriculate with little fear of financial hardship, as Pell intended. Over the next three decades, Congress poured vast sums into the program, increasing annual funding from $2 billion to nearly $20 billion. Yet today, Pell Grants cover only 33 percent of the cost of attending a public university. Why? Because prices have increased nearly 500 percent since 1980. Average private college costs, meanwhile, rose to over $34,000 per year.

Increased demand caused increased prices. Why keep your prices down if demand won't go down when you raise prices? The US government helped colleges and universities raise their prices.

If the US government really wanted to play a constructive role in higher education it would fund the creation of a series of tests of competency on a long list of objective scientific, mathematical, engineering, and technical skills. One should be able to go to a web site, sign up for a calculus test (or linear algebra or organic chemistry or basic accounting), take the test, and then see if one knows the subject well enough. If one passes then one should be able to sign up to take a proctored test in person so that your identity can be verified when you take the test. So then you take the test at a testing center (which could be a high school class room used for this at night or it could be a community college or university class room). Then you get certified as having passed this test. One should be able to earn the better part of a college degree just by taking tests. The ability to do this cheaply with standardized tests would enable students to avoid colleges that cost tens of thousands of dollars per year.

Too many of the students who go to college do not learn much. But he ignores the real reasons for this.

But the biggest problem with American higher education isn’t that too many students can’t afford to enroll. It’s that too many of the students who do enroll aren’t learning very much and aren’t earning degrees. For the average student, college isn’t nearly as good a deal as colleges would have us believe.

One reason college isn't such a good deal is that lots of kids choose to study what interests them rather than what is economically valuable. While petroleum engineers start out at $86k per year out of college by contrast music majors start out at around $34k and fine arts and drama majors start out below $36k. Their mid-career salaries are only $20k higher.

He blames the poor performance of poor kids on low quality of instruction at lower tier colleges. This is nonsense.

Pell Grants do nothing to address that problem. Low-income students are increasingly forced to attend inexpensive but under-resourced, non-selective universities and community colleges, where student results are often astoundingly bad.

Student results are astoundingly bad because the students at lower tier colleges aren't that bright. Half the kids graduating from high school in 2010 are going to attend college this fall. Well, news flash for Kevin Carey: Less than half of all kids are college material.

I'll take white kids to make an example. Among whites average IQ is about 100. Well, it doesn't make sense for kids below 115 IQ to pursue the more difficult college subjects. But only about 16% of white kids have IQs above 115. If the upper 50% of white kids go to college then that means kids with 101 IQ are going to sit in courses where very complex subjects will be taught. They aren't going to understand. Some college subjects are of lower difficulty and there is room for some 110-115 IQ kids in some occupations that are taught in college. But that doesn't get us to near half of all kids going to college.

Lower tier colleges that find it hard to recruit bright students are tempted to lower standards in order to keep their classes and dorms full.

Update: One problem with my analysis: some kids drop out of high school. About 25% of whites drop out of high school. What's the average IQ of whites that graduate from high school? Suppose (though it seems unlikely) that exactly the bottom 25% in IQ drop out of high school. Then if 37.5% of all white 18 year-olds go to college (and I need a better source for a number specific to whites) then we are still reaching down below 110 IQ for white college students.

Update II: Why do some kids get a poor return on investment in higher education? Read about the Voldemort View: the View That Must Not Be Named.

By Randall Parker 2010 May 23 03:00 PM  Education
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Welfare States Headed For Death Spiral?

Robert J. Samuelson sees welfare states in a death spiral.

What we're seeing in Greece is the death spiral of the welfare state. This isn't Greece's problem alone, and that's why its crisis has rattled global stock markets and threatens economic recovery. Virtually every advanced nation, including the United States, faces the same prospect. Aging populations have been promised huge health and retirement benefits, which countries haven't fully covered with taxes. The reckoning has arrived in Greece, but it awaits most wealthy societies.

Americans dislike the term "welfare state" and substitute the bland word "entitlements." Vocabulary doesn't alter the reality. Countries cannot overspend and overborrow forever. By delaying hard decisions about spending and taxes, governments maneuver themselves into a cul-de-sac.

I've been arguing for years that the unfunded entitlements (old age medical care and state-supplied pensions) would finally hit a crisis stage in the 2010s. The real estate bubble and the oil price spike of 2008 have moved up the crisis point in many countries. The creation of the euro zone in 1999 has accelerated the arrival of the crisis in southern Europe by creating a false belief in the fiscal soundness of the PIIGS and therefore enabled them to run up more debt than the markets otherwise would have allowed them to do.

The financial troubles in Greece, California, and other nations and states serve as a warning of what's to come for nations that are not as close to the full maturation of their sovereign debt crises. Therefore the worst off American states (e.g. California, Illinois) and European countries (Ireland, Greece, Portugal) provide us with a view into our future. What we can see so far: cuts in salaries and benefits of public employees, lay-offs of public employees, cuts in welfare state programs that were previously viewed as sacrosanct, higher taxes, and varying degrees of public opposition to taxes as part of the solution.

The most important pattern I've seen so far: So far it looks like cuts in outlays (cuts welfare entitlements and cuts in public employee salaries and staffing) are playing a bigger role than tax increases in attempts balance government budgets. Will this trend continue to hold up as more governments hit the crisis stage in their finances? Cutting compensation of employees will become even more necessary once Peak Oil hits.

A New York Times piece by Steve Erlanger reports on growing realization in Europe that the younger folks are getting shafted by older folks. (not that he used such explicit terminology)

The reaction so far to government efforts to cut spending has been pessimism and anger, with an understanding that the current system is unsustainable.

In Athens, Aris Iordanidis, 25, an economics graduate working in a bookstore, resents paying high taxes to finance Greece’s bloated state sector and its employees. “They sit there for years drinking coffee and chatting on the telephone and then retire at 50 with nice fat pensions,” he said. “As for us, the way things are going we’ll have to work until we’re 70.”

In Rome, Aldo Cimaglia is 52 and teaches photography, and he is deeply pessimistic about his pension. “It’s going to go belly-up because no one will be around to fill the pension coffers,” he said. “It’s not just me; this country has no future.”

Will the younger people in Europe turn against the welfare state as the size of the inter-generational wealth shift from them to older people grows?

Michael Gerson says we are entering a new age of austerity in the United States and Europe. However Obama and the Democratic Congress are still acting like Business As Usual (BAU).

In 2009, the federal government spent $1.67 for every $1 it collected in taxes. The Obama administration's budget proposals would dramatically increase publicly held debt as a percentage of the economy over the next decade, eventually slowing economic growth, fueling inflation and making America more dependent on the kindness of creditors.

How has our political system responded? Congress recently found $60 billion in savings in the federal student-loan program -- and promptly spent most of it on other education projects. President Obama's health-care reform cut more than $350 billion from Medicare spending -- and soaked up all of it and more into new health entitlements.

In Greece it is no longer BAU. In Ireland and Iceland BAU are well past BAU. Spain and Portugal have begun to enter the era of post-BAU. But in spite of record high deficits and persistent high unemployment the mood inside the Washington DC beltway is still very much one of denial and of hanging onto BAU assumptions. The US government is living beyond its means in its foreign policy of war and aid spending and it is living beyond its means in health care spending, old age spending, and educational spending.

Tyler Cowen sees the big crisis for the US still many years into the future. But I am confident that the crisis will hit much sooner when oil production starts declining.

That’s bad, but the American economy probably can manage it, at least if nothing else major goes wrong between now and then. A wealthy, diversified country which can borrow on its own currency, and indeed has the world’s global reserve currency, should still find investors willing to buy its bonds, especially since many other parts of the world face greater fiscal problems. And then there’s what happens after that. Rising health care costs, if they continue, will likely bankrupt the nation over a 20 to 30 year time horizon, most immediately through the Medicare program. It’s not as easy to control those costs as it may seem.

The way I see it BAU has less than 5 years to run in the United States.

By Randall Parker 2010 May 23 11:18 AM  Economics Government Costs
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Ireland Debt Seen Rising To Unsustainable Levels

Out of the PIIGS nations Ireland gets less attention since the crisis in Greece has focused attention on southern Europe. But econ prof Morgan Kelly takes a look at why Ireland is in trouble and finds the government take-over of failed Irish banks was done in a way that assures Ireland's sovereign debt burden will reach levels similar to Greece.

This debt would probably be manageable, had the Irish government not casually committed itself to absorb all the gambling losses of its banking system. If we assume – optimistically, I believe – that Irish banks eventually lose one third of what they lent to property developers, and one tenth of business loans and mortgages, the net cost to the Irish taxpayer will be nearly one third of GDP.

Adding these bank losses to its national debt will leave Ireland in 2012 with a debt-GDP ratio of 115%. But if we look at the ratio in terms of GNP, which gives a more realistic picture of the Ireland’s discretionary tax base, this is a debt-GNP ratio of 140% – above the ratio that is currently sinking Greece. Even if bank losses are only half as large as we expect, Ireland is still facing a debt-GNP ratio of 125%.

When the banks were taken over the Irish government did not just make whole depositors. The government also bailed out bond holders. That seems incredibly foolish. Why'd they do that?

If Kelly is correct then Ireland faces a future where at some point the market will demand far higher interest rates for Irish sovereign debt than the Irish government can afford to pay. At the same time, the bail-out for Greece just kicked the Greek problem into the future by 2 or 3 years.

I am wondering how the European sovereign debt crisis (and the coming US sovereign debt crisis) will resolve itself. Ross Douthat sees expanding state power in the US and Europe. IN Europe in particular the emotional bonds across nations seem much shallower than the emotional bonds across US states. So I see pretty severe limits in the willingness of the Dutch, Germans, and other more affluent and financially sound European states to bail out the other states.

At the same time, the European Central Bank seems unlikely to inflate away all the debt. Inflation has better prospects in America than in Europe. So default still seems like the most likely outcome in Europe. The question then arises: Default in the euro zone or default while exiting the euro zone? Will Greece, for example, default on its debt and yet still remain in the euro? Or will it default and bring back the drachma currency at the same time?

I also wonder in event of default whose decision will it be on whether Greece leaves the euro? Will the Greek government decide? Or will the Germans and some nations allied with them decide to eject a nation that dares to default? Will the Germans see a default as an opportunity to eject a nation which does not share its economic values with regard to currency soundness and public finance?

The avoidance of either default thru inflation or explicit default seems a very remote possibility. European welfare states already face aging populations and over-promises on entitlements.

By Randall Parker 2010 May 23 09:25 AM  Economics Sovereign Crises
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2010 May 18 Tuesday
Western Government Reach Expanding?

Ross Douthat looks at governments and see expansion and concentration of power at higher levels of government.

But look through these anti-establishment theatrics to the deep structures of political and economic power, and suddenly the surge of populism feels like so much sound and fury, obscuring the real story of our time. From Washington to Athens, the economic crisis is producing consolidation rather than revolution, the entrenchment of authority rather than its diffusion, and the concentration of power in the hands of the same elite that presided over the disasters in the first place.

Among the examples he cites is the EU massive bail-out to prevent sovereign debt default. But my sense is that Western governments are overreaching and that their interventions won't succeed. Also in the New York Times Paul Krugman shouts that the wobbly euro zone members need to cut wages 20-30% to regain their competitiveness. They can't hope to grow their economies to pay down their debts when their labor forces (at least those still working) are so overpaid.

WAGES IN THE PERIPHERY NEED TO FALL 20-30 PERCENT RELATIVE TO GERMANY.

This can't be done inside the euro unless the European Central Bank decides (against vehement German opposition) to inflate the euro. If the ECB could do this then Germany and the Netherlands might find it sensible to form their own sound currency union outside the euro.

The European Union's leaders might turn the financial crisis to their advantage and create a real political union with greater central powers. But the market has a say in this. Greece's debt is so large and growing larger that avoidance of default can't be done without taxing citizens of other European countries to pay for Greece's government. I am very skeptical this can be done.

On a similar note, Barack Obama just signed into law a big expansion of medical entitlements. Obama has also continued George W. Bush's policy of large scale military deployments and fighting in Muslim Middle Eastern countries. All this costs big money. But the US government's debt is on a course that runs a very real risk that capital markets will turn against American debt. Again, an overreaching government could be forced into a big retreat - just as has been happening for years in California and more recently in Greece, Spain, and Portugal.

I see the Western nations as coming off a high water mark. Aging populations, huge unfunded entitlements, growing debt, wobbly financial institutions, and the approach of Peak Oil seem very likely to come together and force huge retreats and reductions in scope of what governments do. Simply put, they can't afford the expansive roles they've developed for themselves.

Update: Could governments expand their powers in economies that go into long term contractions? Certainly, the US government expanded its power in the Great Depression. But now the US government many other Western governments have entered into what Bill Gross calls a public debt ring of fire where their existing debt is becoming unsupportable. They can't go on a borrowing binge to fund another expansion in scope of government. The credit markets are going to push back and hard. Legislatures are going to meet Mr. Market and Mr. Market is going to say NO.

The US government spending splurge in response to the financial crisis of 2008 might well be the great expansion of government before a shrinkage that fits the model we see in California, Ireland, Greece, and next Portugal and Spain. The only way the US government can avoid this reckoning is to inflate away its debt. So the key question: Will the US government force the Federal Reserve to inflate away most of the US public sector debt? I am very curious to hear arguments on this question. We should adjust our investment portfolios very drastically one way or another depending on the answer to that question and make career decisions based on it as well.

By Randall Parker 2010 May 18 11:28 PM  Economics Political
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2010 May 17 Monday
White-Black Wealth Gap In America Widens

In spite of racial preferences in favor of blacks the black-white gap in assets widened considerably over a 23 year period. Barack Obama is in favor of more racial preferences. Think more will work? Or will more preferences just rack up bigger costs to the economy?

WALTHAM, Mass. – The wealth gap between white and African-American families increased more than four times between 1984-2007, and middle-income white households now own far more wealth than high-income African Americans, according to an analysis released on Monday by the Institute on Assets and Social Policy (IASP) at Brandeis University.

IASP, in a research brief, also reported that many African Americans hold more debt than assets and at least 25 percent of African-American families had no assets to turn to in times of economic hardship. The fourfold increase in the wealth gap, it said, reflects public policies, such as tax cuts on investment income and inheritances, which benefit the wealthiest and persistent discrimination in housing, credit and labor markets.

"Our study shows a broken chain of achievement. Even when African Americans do everything right -- get an education and work hard at well-paying jobs -- they cannot achieve the wealth of their white peers in the workforce, and that translates into very different life chances," said Thomas Shapiro, IASP director and co-author of the research brief.

If one group more readily saves and another group more readily spends and goes into debt is the first group at fault ? Think about this. How likely is it that discrimination in credit markets contributed to this difference in outcomes? Any group in America denied consumer credit would have an advantage in wealth accumulation because absent credit they'd have a much harder time living beyond their means. Credit cards are more akin to a temptation than a tool for advancement.

During the recent real estate bubble period starting back in the 1990s the US government's national policy was to extend more credit to blacks and Hispanics to counter supposed (but really just imagined) discrimination in the home loan market. But the ability to go into debt to buy a house that is beyond the means of the buyer has been a disaster for blacks. Easy credit means easy losses and burdensome debt. Blacks had their net worths harmed by this easy credit.

If blacks were discriminated against in lending then we should expect to see blacks default at lower rates than whites. Yet a 1992 study by the Boston Fed found that blacks do not have lower default rates. This is prima facie evidence of a lack of discrimination against blacks in lending.

By Randall Parker 2010 May 17 09:52 PM  Economics Inequality
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2010 May 15 Saturday
Felix Salmon: Great Euro Experiment Unwinding

Felix Salmon argues that the scale of a default by itself does not matter. Default matter far more when they are unexpected. The markets were (quite irrationally IMO) treating Greece and other southern European countries as low default risks. Institutions (e.g. banks) that normally only buy high quality credits bought large quantities of sovereign bonds that are now at high risk of default. Salmon sees serious risk to the European political union. I realize this will come across as a statement of the obvious to many well-informed readers. But sometimes the obvious needs stating.

All of which is to say that the great euro experiment seems to be unwinding, the Estonia news notwithstanding, and no one knows where it’s headed over the medium term. If economics and politics become fractious and nationalized across Europe, then within the region only Germany will any longer provide the kind of safety that investors are currently looking for; everybody else is going to start returning to their pre-convergence trade levels, which were a long way away from where we are now.

So anything which threatens the unity of the eurozone or the EU is surely going to have market consequences much worse than a single day drop of a few percentage points on European stock exchanges. And right now it’s far from clear that the political will to keep the union together is going to be sufficient.

Yves Smith makes the point that one big battle over Greece is whether the Greek populace or the lenders pay. You might think the borrowers ought to pay. But if the lenders do not get bailed out by governments (who just shift the costs to a larger set of taxpayers) then lending losses will discipline lenders to not lend money to a country up to the point of well past 100% of GDP. This financial disaster in the making would not have been possible without irresponsible lenders putting up the money in the first place.

I see many things going wrong in Western societies, economies, and politics that are going to cause large, and to the vast majority quite unexpected, discontinuities. While the threat to the euro's existence might seem sudden and unexpected Milton Friedman famously doubted its stability from its founding in 1999 and as recently as 2005 when he was 94 years old.

The euro is going to be a big source of problems, not a source of help. The euro has no precedent. To the best of my knowledge, there has never been a monetary union, putting out a fiat currency, composed of independent states. There have been unions based on gold or silver, but not on fiat money—money tempted to inflate—put out by politically independent entities.

Friedman's comments on a European common currency in 1992 bear reading today. He saw the problems with it and he would not be at all surprised by recent events.

A break-up of the euro in the next few years would probably throw us back into a recession again starting from already high unemployment rates. Could a mechanism for defaults within the euro save the currency? Or is union power and public worker power in southern European states too strong to make their membership in a sound currency workable? Just the labor mobility problem across states with so many different languages alone makes the idea of a common currency seem foolish.

In America the great dumbing down looks on course to go very far. This is totally off the radar screen of what passes for mainstream elite conventional wisdom. But it will depress the US economy in coming decades.

Another really biggie on my radar screen is Peak Oil. See the graph here of world oil discovery and production rates. Production first exceeded discovery around 1981 and the gap between them has grown much bigger. We are now burning thru oil about 3 times faster than new oil is discovered. It is going to get ugly.

Many political divisions that are papered over now with money will rise up into political conflicts. Much larger fraction of populations will be impacted and competition for shrinking pies will intensity. Acrimony over government spending, taxes, and racial preferences systems will become much more intense. I'm expecting street battles by opposing groups of marching protestors.

By Randall Parker 2010 May 15 01:34 PM  Economics Sovereign Crises
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2010 May 14 Friday
Generation Y Kids Feel Entitled

Generation Y are in for a rude awakening as they enter the job market (at least those who manage to get jobs).

As thousands of Generation Y college graduates flood the workforce this spring, the nation’s employers may want to brace themselves for a new crop of entitlement-minded workers.

Research conducted by Paul Harvey, assistant professor of management at the University of New Hampshire, shows that members of Generation Y are more entitlement-minded than older workers. For employers, that means more employees who feel entitled to undeserved preferential treatment, who are more prone to get into workplace conflicts and who are less likely to enjoy their job.

“Managers have reported a lot of problems associated with this – primarily that these employees have unrealistic expectations and a strong resistance toward accepting negative feedback. Basically entitlement involves having an inflated view of oneself, and managers are finding that younger employees are often very resistant to anything that doesn’t involve praise and rewards,” Harvey says.

They've won so many video games and written and sent so many text messages that after such accomplishments surely they deserve big rewards by now. Of course they feel entitled.

Gen Y could top other generations in their willingness to take credit for the success of others. This bodes poorly for people who really are productive.

According to Harvey, people who feel entitled to preferential treatment more often than not exhibit self-serving attributional styles -- the tendency to take credit for good outcomes and blame others when things go wrong. And people with self-serving attributional styles are less happy in their jobs and more apt to cause conflict in the workplace, especially with their supervisors.

I suspect the movement to boost child self esteem is at least partially responsible for this state of affairs. Teaching kids how wonderful they are even before they've accomplished anything will tend to make the kids think they deserve stuff just for being so great.

Joe Queenan laments the pathetic job market that Gen Y is graduating into. But I see his observations as suggesting an epic clash between generations over demands for entitlements. While Gen Y was growing up the "Greatest Generation" was busy sucking up entitlements money, setting up the country for bankruptcy.

There are three formidable obstacles confronting college graduates today. One, the economy, though improving at a glacial pace, is still a wreck. There are no jobs, and the jobs that do exist aren't the kinds anyone in his right mind would have spent $100,000 to $200,000 to land. Two, nothing in most middle-class kids' lives has prepared them emotionally for the world they are about to enter. Three, the legacy costs that society has imposed on young people will be a millstone around their necks for decades. Who's going to pay for the health care bill? Gen Y. Who's going to pay off the federal deficit? Gen Y. Who's going to fund all those cops' and teachers' and firemen's pensions? Gen Y. Who's going to support Baby Boomers as they suck the Social Security System dry while wheezing around Tuscany? Gen Y.

Even as generations have become accustomed to entitlements the country has become less able to deliver. In the 2010s decades of accumulating debt and entitlements will collide with Peak Oil and demographic deterioration. California and Greece show us what is in store.

By Randall Parker 2010 May 14 05:27 PM  Cultural Wars Generational
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China Turns More Mercantilist

America's elite descended upon Congress during the Clinton Administration to push for China's membership in the World Trade Organization. Chinese WTO membership was supposed to open up Chinese markets to US goods. Ha! Instead, we lowered our trade barriers to China and have been running huge trade deficits with them ever since. China's now shifting even more heavily toward policies that give native companies preferences over foreign companies in winning business. The Chinese elite see us as losers and see our economic system as unworthy of emulation.

This has many multinational executives deeply worried. They say severe recessions and the near collapse of banking systems in many Western countries a year ago, coupled with China’s relatively robust economic performance, have persuaded Chinese policy makers that Western policies of free trade and open markets do not work as well as previously thought, and that new industrial policies are worth trying. “They say, ‘Don’t show us broken models; we’re looking for a completely different way,’ and you see a much greater willingness to experiment with completely untested policies,” said a senior executive at a multinational who insisted on anonymity for fear of retaliation by Chinese regulators.

For example, China is squeezing out foreign wind turbine makers. Western companies license technology to Chinese companies and the technology licensing generates less money than being able to sell products that Western companies build.

While the Chinese pay royalties to the foreign firms, those payments don’t come close to making up for the business the foreign companies are losing in China, according to Emerging Energy Research’s Hays. China’s so-called “buy local” policy steers most state- financed energy contracts to domestic players, said Magued Eldaief, a GE Energy executive who formerly oversaw the Fairfield, Connecticut, company’s Asia Pacific unit. “There’s no question preference is given to Chinese companies,” Eldaief said. “It’s a reality you have to live with.”

Chinese companies are going to challenge Western companies outside of China. This is going to be like Japan's exports in the 1970s and 1980s but on a far larger scale.

By Randall Parker 2010 May 14 05:27 PM  China
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2010 May 13 Thursday
Permanent Job Losses And Long Term Unemployment

A New York Times piece by Catherine Rampell addresses the long term unemployed of workers whose types of jobs aren't coming back.

Sometimes she blames the bad economy in Jacksonville. Sometimes she sees age discrimination. Sometimes she thinks the problem is that she has not been able to afford a haircut in a while. Or perhaps the paper her résumé is printed on is not nice enough.

The problem cannot be that the occupation she has devoted her life to has been largely computerized, she says.

“You can’t replace the human thought process,” she says. “I can anticipate people’s needs. Usually, I give them what they want before they even know they need it. There will never be a machine that can do that.”

The poor woman comforts herself with delusions. Computers can't anticipate people's needs? Sure they can and their ability to do so will steadily increase. The article reports the woman found work as a cashier at Wal-Mart. But Wal-Mart already has self-service check-out lanes. In the longer run will Wal-Mart even continue to employ human greeters? Or will robot greeters become cheaper, more helpful and more entertaining to customers? Surely shelf stocking will be done by robots.

We live in an era where an increasing number of lower IQ jobs are going away and they aren't coming back. It is crazy to have an immigration policy that increases the number of low skilled workers at a time when demand for low skilled workers is on the decline.

The current recession's job losses dwarf every recession since World War II. Expect a slow recovery. Then rising oil prices will choke off the recovery and another recession will begin.

By Randall Parker 2010 May 13 11:22 PM  Economics Labor
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Spain Labor Market Incompatible With Euro

One of my frustrations with the press comes from having to read a large number of news articles to find out the underlying causes of political and economic phenomena. Fundamentals are rarely addressed. Sometimes talented bloggers provide translations of articles that are written within politically correct mental strait jackets. But more often one has to just plow thru enormous numbers of articles to get to the core of a problem. Well, reading thru Op-Ed pieces in the New York Times I came across a short piece by U Maryland economist Gayle Allard who explains a core problem with Spain's economy as a member of the Euro: The country needs periodic bouts of inflation to undo the distortions caused by very powerful unions. This makes Spain's entry into the euro zone an act of enormous political folly for all involved.

While it was doing its fiscal homework, however, Spain overlooked a key requirement for the currency area: staying competitive without a national exchange rate. Spanish labor costs chronically rise much faster than productivity.

Read this and marvel at the absolute madness of adding the southern European countries to the euro zone. Yet a large number of politicians in Europe joined together to implement this madness.

In the past, the government periodically devalued the peseta to restore competitiveness. The euro took this escape valve away, but policymakers neglected the structural reforms that could help Spain compete without an exchange rate.

Spain’s key problem lies in its labor market. Collective bargaining is politicized and far from the realities of the firm. Unemployment benefits are high and easily collected, giving Spaniards incentives not to work and pushing market wages higher. High dismissal costs protect an “aristocracy” of workers from firing, making them immune to pressures to restrain their wages or boost their productivity.

Spain needs bouts of inflation as long as collective bargaining remains highly politicized. A country that needs periodic bouts of inflation should not share a currency with Germany. One doesn't need to be a rocket scientist running complex computer models to figure that out.

What is the most remarkable thing about the current European financial crisis? It was set in motion by the criteria used for choosing euro zone members. The steps that led into the crisis were obviously wrong to anyone who understood the distortions in the labor markets in southern Europe.

Think the Spanish government can fix Spain's economy? To do that involves taking on a huge system of job entitlements. Probably too many voters are in on the game for an elected government to undo it.

Overpaid American public sector workers are like most of Spain's economy. Imagine how much more messed up the United States would be if our problems with government worker unions extended into the entire economy. Overpaid public sector workers in the US are going to end up forcing some governments into bankruptcy.

By Randall Parker 2010 May 13 10:11 PM  Economics Sovereign Crises
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2010 May 12 Wednesday
Spending Cuts And Tax Increases Coming To US

David Leonhardt of the New York Times lays out argument for how the US government budget deficit is so large that neither spending cuts or tax increases alone are likely to be able to balance the US federal budget.

As a rough estimate, the government will need to find spending cuts and tax increases equal to 7 to 10 percent of G.D.P. The longer we wait, the bigger the cuts will need to be (because of the accumulating interest costs).

Seven percent of G.D.P. is about $1 trillion today. In concrete terms, Medicare’s entire budget is about $450 billion. The combined budgets of the Education, Energy, Homeland Security, Justice, Labor, State, Transportation and Veterans Affairs Departments are less than $600 billion.

There's no way to close that gap without reducing consumption. That means lower living standards. The cost of closing that gap will wider with each year that the total government debt grows. Eventually the need to cut and tax will be forced by the market via a sovereign debt crisis where US and foreign investors become unwilling to buy US Treasury bonds. Greece and California both serve as models for what is coming for the United States: A several years long crisis period with increasingly severe cuts and troubles. Even basic services will get cut. Expect much less from your government in the future and you won't be disappointed.

The basic problem is that the American people do not want to admit they are living beyond their means. Even worse, I believe the gap between what we can afford and what we are getting is even bigger than the US federal budget deficit suggests. For example, State and local government pension plans and employee benefits are out of control. State and local governments are therefore accumulating obligations beyond their means to pay.

The US trade deficit is another substantial amount by which Americans are living beyond their means.

At 3.5 percent of GDP, the trade deficit subtracts more from the demand for U.S.-made goods and services than President Obama's stimulus package adds to demand. Moreover, Obama's stimulus is temporary, whereas the trade deficit is permanent and growing again.

When world oil production starts shrinking every year the ensuing financial crisis will be so severe that lots of currently sacrosanct spending programs will get cut. Do not rely on US government entitlements programs for old age. The US government will be forced to make cuts as severe as those made by Greece.

By Randall Parker 2010 May 12 11:31 PM  Economics Sovereign Crises
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Estonia To Replace Greece In Euro Zone?

As I see it, the Euro currency zone leaders are lining up replacements for those members that will drop out of the euro in order to escape excessive debt burdens. The Euro mandarins might see it differently. But given that continued PIIGS (Portugal, Ireland, Italy, Greece, Spain) membership in the euro is uncertain it makes sense to think of Estonia as a substitute for Greece.

The Baltic republic of Estonia, a country of 1.3 million people, is on course to adopt the euro in January 2011, the European Commission says.

The recommendation still requires the approval of all 27 EU member states, 16 of which are in the eurozone.

What if Greece votes the membership out of sour grapes as Greece leaves? Or maybe Portugal will threaten a veto in order to get bigger loans.

Nouriel Roubini thinks the most heavily indebted euro zone members will be forced to abandon the euro currency in order to escape the unsustainable debt burdens they carry.

May 12 (Bloomberg) -- New York University professor Nouriel Roubini said Greece and other “laggards” in the euro area may be forced to abandon the common currency in the next few years to spur their economies.

A “real depreciation” in the euro is needed to restore competitiveness in nations including Spain, Portugal and Italy, he said in an interview on Bloomberg Television today. The euro will remain the currency for a smaller number of countries that have “stronger fiscal and economic fundamentals,” Roubini said.

Jim Rogers thinks the sovereign debt bail-out will doom the euro by encouraging even more government irresponsibility.

“I was stunned,” Rogers, chairman of Rogers Holdings, said in a Bloomberg Television interview in Singapore. “This means that they’ve given up on the euro, they don’t particularly care if they have a sound currency, you have all these countries spending money they don’t have and it’s now going to continue.

Rogers is raising his young daughters to speak Mandarin because he sees the 21st century as the Chinese century.

By Randall Parker 2010 May 12 10:19 PM  Economics Sovereign Crises
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2010 May 11 Tuesday
Young Americans Unable To Make It On Their Own

Researchers at Oregon State University find that The kids aren't able or willing to achieve independence as fast as they used to.

In the post-World War II boom, high-paying industrial jobs were plentiful, and a prosperous economy enabled workers with high school degrees (or less) and college degrees alike to find secure employment with decent wages and benefits. Since then, downward trends in wages and economic opportunities can be directly linked to young people staying at home longer, returning home later, and postponing or even forgoing marriage and children.

“Having an income that’s adequate to support oneself and a family — or at least the ability to earn one — has always been a precursor to living independently and taking on adult roles, such as marrying and settling down,” he said.

Some key facts from their article include:

  • In 2005, even before the current recession, roughly three in 10 white men (up to age 34) with a high school degree were not in school, in the military or at work. For young black men, the numbers were even higher: More than half were not in school, in the military or at work.
  • Even those who do get an education are not as likely as their counterparts in the 1960s and 1970s to get a good paying job. Young men (25-34 years) with a high school degree or less earned about $4,000 less in 2002 than in 1975 (with earnings adjusted for inflation). Men with some college also lost ground, earning about $3,500 a year less in 2002 than in 1975.
  • Every single group, except those with graduate-level college education, had greater amounts of people earning below poverty level in 2002 than in 1975.
  • In 1969, only about 10 percent of men in their early thirties had wages that were below poverty level. By 2004, the share had more than doubled. Overall, the share of young adults in 2005 living in poverty was higher than the national average.

There are also many differences between now and the early decades of the last century, of course, which Settersten and Ray illustrate. One of the biggest differences is that young people today don’t contribute to the household as they once did. Instead, parents shoulder the burden of launching their children into adulthood.

You have to have sufficient high intelligence (even more than the training received in college) to compete in a job market where automation, an influx of unskilled immigrants (legal and illegal), and the shift of jobs abroad has really gutted the supply of jobs for less intelligent people. This spells much bigger problems for America in the future as the new generation is much less white and has much higher rates of high school drop-out, low achievement in college, higher college drop-out, and otherwise really not up to competing with the Chinese or with robots.

By Randall Parker 2010 May 11 11:59 PM  Economics Labor
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Felix Salmon On Rising Resentment In Europe

The debtors and creditors will resent each other more in the future. This does not bode well for the euro.

So while the EU’s trillion dollars is surely sufficient to prevent any country from having to default in the next few years, I fear that its enormity will only exacerbate tensions between the euro zone countries over the long term. They’re not all partners together anymore: now they’re bifurcating into the rich lenders, on the one hand, and the formerly-profligate debtors, on the other. The mind-boggling sums involved are only going to increase resentments both of the south in the north and of the north in the south.

I expect the latest "shock and awe" bail-out of the PIIGS in Europe will just set up for bigger sovereign defaults further on down the road. This bail-out does not address root causes. It just stops a market stampede.

Charles Hugh Smith points out that net exporting powerhouses and net importers do not fit well together in the same currency zone.

While Germany's exports rose an astonishing 65% from 2000 to 2008, its domestic demand flatlined near zero. Without strong export growth, Germany's economy would have been at a standstill. The Netherlands is also a big exporter (trade surplus of $33 billion) even though its population is relatively tiny, at only 16 million. The "consumer" countries, on the other hand, run large current-account (trade) deficits and large government deficits. Italy, for instance, has a $55 billion trade deficit and a budget deficit of about $110 billion. Total public debt is a whopping 115.2% of GDP.

Spain, with about half the population of Germany, has a $69 billion annual trade deficit and a staggering $151 billion budget deficit. Fully 23% of the government's budget is borrowed.

Although the euro was supposed to create efficiencies by removing the costs of multiple currencies, it has had a subtly pernicious disregard for the underlying efficiencies of each eurozone economy.

The next round of financial disasters will matter more than the most recent crisis of the last few years because the next round will come on top of existing economic weakness. Watch the price of oil. If it goes above $100 then expect another recession, sovereign defaults, and more bank failures.

By Randall Parker 2010 May 11 12:42 AM  Economics Sovereign Crises
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2010 May 09 Sunday
China Buying Up Natural Resources

After reviewing a number of deals where government-backed Chinese oil and mining companies have bought into projects and companies for resource extraction around the world Michael T. Klare argues that the United States and other Western nations are going to be shocked over how much the Chinese are getting control of.

Chinese companies like CNPC, Sinopec, and Chinalco are hardly alone in seeking control of valuable foreign resource assets.  Major Western firms as well as state-owned companies in India, Russia, Brazil, and other countries have also been shopping for such properties.  Few, however, have been as determined or single-minded as Chinese firms in taking advantage of the relatively low prices that followed the global recession, and few have the sort of deep pockets available to such companies, thanks to the willingness of the China Development Bank and other government agencies to offer munificent financial backing. 

When the United States and other Western nations finally recover from the Great Recession, therefore, they will discover that the global resource chessboard has been tilted strongly in China’s favor.  Energy and mineral producers that once directed their production -- and often their political allegiance -- to the U.S., Japan, and Western Europe now view China as a major customer and patron.  In one eye-catching sign of this shift, Saudi Arabia announced recently that it had sold more oil to China last year than to the United States, previously its largest and most pampered customer.  “We believe this is a long-term transition,” said Khalid A. al-Falih, president and chief executive of Saudi Aramco, the state-owned oil giant.  “Demographic and economic trends are making it clear -- the writing is on the wall.  China is the growth market for petroleum.”

China's government is aggressively pushing to get control of the natural resources it needs. By contrast, the United States government's only policy moves toward dealing with Peak Oil are driven by Anthropogenic Global Warming (AGW) fears. I'm not saying that AGW isn't a real problem. But Peak Oil is going to cause an economic depression starting some time in the next 10 years and the US government's suppression of official acceptance of Peak Oil is not helping.

If you doubt there's a big shift in allocation of oil then check out Rembrandt Koppelaar's Oil Watch Monthly for April 2010 (PDF) and look at the graphs for oil consumption trends for China, India and various Western countries. Compare pages 8 and 9 with page 13.

Klare has developed his argument at greater length in his book (which I've just started reading): Rising Powers, Shrinking Planet: The New Geopolitics of Energy.

By Randall Parker 2010 May 09 06:26 PM  China
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Gates Wants Defense Bureaucracy Cut

Defense Secretary Robert M. Gates wants to cut administrative layers in the US military. I say best of luck on that.

Among Gates's apparent targets for major cuts are the private contractors whom the Pentagon has hired in large numbers over the past decade to take on administrative tasks that the military used to handle. The defense secretary estimated that this portion of the Pentagon budget has grown by as much as $23 billion, a figure that does not include the tens of billions of dollars spent on private firms supporting U.S. troops in Afghanistan and Iraq. The defense contractors, who populate new office towers throughout Washington's suburbs and have been a major driver of the local economy, are a significant source of budgetary bloat, Gates said. "We ended up with contractors supervising other contractors -- with predictable results," he said in the speech Saturday. Gates rattled off examples of costly bureaucracy inside the military, as well. A simple request for a dog-handling team in Afghanistan must be reviewed and assessed at multiple high-level headquarters before it can be deployed to the war zone. "Can you believe it takes five four-star headquarters to get a decision on a guy and a dog up to me?" an exasperated Gates said to reporters Friday.

Parasitism grows in bureaucracies.

Gates has decided to aim at cutting bureaucracy because he can't cut unneeded weapons systems. He doubts the efficacy of multi-billion dollar aircraft carriers that can be taken out by highly accurate missiles. But the political constituencies protecting aircraft carrier battle groups are too strong for him to go up against. He's only Defense Secretary after all.

The US government is headed for a sovereign debt crisis that will make $15 billion budget cuts seem small. Peak Oil is going to bite heavily and slash tax revenues as economies contract year after year.

By Randall Parker 2010 May 09 11:55 AM  Military Costs
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2010 May 08 Saturday
Cuba Rice Supplies Worsening

The worst days of Cuban hunger after the Soviet Union collapsed might be behind them. But in spite of 20 years to adjust to their own form of "Peak Oil" the communists in Cuba still can't grow enough food for their people.

"We are demanding discipline and order in purchases," state-run Radio Rebelde said during its Friday newscast. "Don't allow, under any circumstances, people to hoard rice so they can later sell it at a higher price."

The communist government subsidizes rice and sells it in government farmer's markets for 3.50 pesos per pound, about $0.17. But rice has become so scarce in recent weeks that "certain unscrupulous people are hoarding," reported the station, which broadcasts across Cuba and is among the most listened to nationwide.

Cuba is a living museum for communism. Cuba exists to remind us in real time that communism fails as an economic system. We should be grateful to the Cubans for playing the role of economic educators with their entire lives. Given that most people know squat about history the existence of a present day reminder serves a useful function.

Cuba's agricultural failures create business for US farmers.

Furthermore, food is not part of the U.S. embargo. For the past several years Cuba has been purchasing food and agricultural products from U.S. producers. The United States has become the largest exporter of food and agricultural products to Cuba.

So Hugo Chavez of Venezuela helps prop up the Castros and then they are able to buy from US farmers. Any country that provides financial aid or oil to Cuba is helping US farmers. Think about it.

After the Soviet Union collapsed and Cuba lost out on USSR oil shipments Cuba went thru its "Special Period" where the economy contracted and food became very scarce. The government's and populace's responses to that period included a return to organic farming and lots of gardening in empty plots even in cities. Basically, Cuba did what the relocalization and transition town movement hopes to do. I think it amounts to reversing the economies of scale and that we can deal with Peak Oil without giving up most of our economies of scale.

By Randall Parker 2010 May 08 12:27 PM  Socialism, Capitalism
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2010 May 05 Wednesday
Germany Wants Bankruptcy Mechanism For EU States

The German government seems to be coming around to the position that bankruptcy with losses by lenders is preferable to bail-outs by wealthier EU states (e.g. Germany). ParaPundit agrees.

“We quite urgently need something for the members of European Monetary Union that we also didn’t have during the banking crisis two years ago,” German Finance Minister Wolfgang Schaeuble told reporters yesterday. “Namely the possibility of a restructuring procedure in the event of looming insolvency that helps prevent systemic contagion risks.”

Is Schaeuble saying that European governments should have established procedures for going bankrupt? Sounds to me like Angela Merkel prefers loan defaults and losses of principal by creditors.

Merkel, who faces elections in Germany’s most populous state on May 9, is seeking to shift focus from the Greek bailout to drawing lessons from the euro’s biggest crisis. An “orderly insolvency” process would ensure that creditors participate in any future rescue, she said on ARD television yesterday.

Merkel's government wants to find a way to keep states as members in the Euro zone without having to periodically bail them out with loans. I think this position makes sense. I doubt that the German voters are going to accept their role as funders of more spendthrift states.

The United States Congress needs to pass legislation that makes it easier for state governments to declare bankruptcy. Government bankruptcy might be the only practical way to close the widening gap between public sector and private sector pay. Parenthetically, that gap really started to widen in 2005 and 2005 just happens to be the year of peak world oil production which wasn't surpassed in the following 4 years.

With the debt loads of other European nations beginning to rattle the markets it is important to appreciate the level of German popular opposition for the Greek bailout which is a close call with the German electorate.

The urgency was evident in Mrs. Merkel’s television blitz on Monday, with a news conference in the afternoon and appearances on three stations in the evening.

“If she’s taking such drastic measures, it means that she fears that if she can’t anchor her version that it will cause real damage,” said Oskar Niedermayer, professor of political sociology at the Free University in Berlin. “It’s still unclear at the moment which view of the Greek crisis will win the upper hand in the minds of the public.”

The German electorate clearly opposes bailing out Greece. That makes bailing out Portugal and Spain even more problematic. The Germans will be even more resentful of bailing out still more countries. Hence the interest in organized ways for states to go bankrupt.

Opinion surveys in Germany have for months shown a sizable majority of the population here opposed to any bailout for Greece, with a constant drumbeat of news media coverage about Greek profligacy helping fuel the discontent.

The market for credit default swaps indicates that Portugal is most likely the next sovereign state to have problems with funding its deficit via bond sales.

Against this backdrop, the spread on Spanish credit default swaps rose 29% to 210 basis points from 163 basis points on Monday, according to Markit. That means it would cost $210,000 a year to insure $10 million of Spanish debt against default, compared to $163,000 on Monday.

The Portuguese CDS spread rose to 350 basis points from 284, while the Irish CDS spread rose 31 basis points to 220, and Italy's was up 18 basis points to 160.

Greece's CDS spreads fell 1 basis point to 725, but still remain at very high levels, according to data from Markit.

So if the Portuguese CDS spread doubles then crisis #2 will hit and then Spain will be teed up to become crisis #3. A sovereign debt ratings downgrade for Spain and Spain's lackadaisical approach to the approaching crisis makes a Spanish debt crisis all the more likely.

Will the Euro members all stay in the monetary union? Stay in and go bankrupt? Or bail from the Euro entirely? There's not a third choice given German voter aversion to subsidizing other Europeans states.

Update: We need fast clear mechanisms of bankruptcy for governments because the financial conditions of governments will deteriorate. Governments are going to be faced with a choice between credit defaults and currency inflation. I would prefer the bankruptcies and shedding of obligations. Inflation, by contrast, will distort markets and deliver much more unfairness.

By Randall Parker 2010 May 05 12:55 AM  Economics Sovereign Crises
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Public Pensions Bankrupting Los Angeles

Richard Riordan, former mayor of Los Angeles, and Alexander Rubalcava, president of an investment advisory firm write in a Wall Street Journal Op-Ed that the city of Los Angeles is headed for bankruptcy. Read the whole thing.

Los Angeles is facing a terminal fiscal crisis: Between now and 2014 the city will likely declare bankruptcy. Yet Mayor Antonio Villaraigosa and the City Council have been either unable or unwilling to face this fact.

According to the city's own forecasts, in the next four years annual pension and post-retirement health-care costs will increase by about $2.5 billion if no action is taken by the city government. Even if Mr. Villaraigosa were to enact drastic pension reform today—which he shows no signs of doing—the city would only save a few hundred million per year.

Los Angeles shows us America's future. The rest of the country will catch up eventually.

The city assumes a ridiculous 8% annual return from its pension funds. The current mayor and city council are tools of the public worker unions. The city is going to keep squandering the taxpayers' money on overpaying public workers. That is part of a much bigger pattern of more rapid compensation increases in the government sector than in the private economy. That pattern is headed for a collision with a solvency crisis for many cities and states.

See Inevitable Bankruptcy Seen For Los Angeles and US States In Deeper Financial Trouble. I expect the sovereign debt problem in the US to hit in full force during the next recession. I expect the next recession to be caused by dwindling reserves of oil. The Deepwater Horizon accident in the Gulf of Mexico is a symptom of how desperately we must now pursue oil under extreme conditions in order to keep our economy going.

By Randall Parker 2010 May 05 12:10 AM  Economics Sovereign Crises
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2010 May 04 Tuesday
West More Sensitive To Oil Price Rise

Talking with Kate Mackenzie of the Financial Times Francisco Blanch, head of global commodities research for Banc of America-Merrill Lynch, says developing countries are less sensitive to the price of oil than developed countries. Developing countries get more utility and economic growth from an additional barrel of oil.

What kind of price level do you see being too high?

I would think that any number above $100 a barrel is going to be difficult to manage [for the western economies].

The emerging economies have a higher threshold.

Can you explain the difference between the emerging and developed countries’ thresholds?

The marginal productivity of oil is higher in emerging markets. If Europe consumes an extra barrel a day, Europe will not generate much extra GDP on the back of that, whereas an emerging economy will be able to generate much more on the back of that.

I agree with this analysis. The demand for oil in China grew thru the recession. China and India continue to displace European and American demand for oil by bidding it up so high that the high prices cause demand destruction in the West. This trend will continue.

Growing emerging market demand is one of the reasons why availability of oil in the West will drop faster than world production once world oil production goes into decline. Prepare yourself to get out of the way of the oil demand building up among a few billion people in Asia and the Middle East. Reduce your dependence on oil while doing so is still a voluntary act on your part and you can adjust less painfully.

Reading retired Princeton U geologist Kenneth Deffeyes makes me think world oil production has already peaked. What matters at this point is the slope of the downhill production curve.

By Randall Parker 2010 May 04 12:59 AM  Economics Energy
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2010 May 03 Monday
Belgium To Ban Full Face Coverings

In the lower house of Belgium's legislature a ban on full face coverings passed overwhelmingly.

Legislators in Belgium voted almost unanimously to ban full face coverings for Muslim women on Thursday. While women will still be allowed to wear the hijab, which only covers their hair, in public places the veil ban will forbid them from wearing any veil or scarf that covers their face and stops them from being identified.

The Christian Science Monitor has previously editorialized against burqa bans.

The burqa does not fit comfortably with Western sentiments. It’s closed; Westerners are open. They want to see people’s faces. It’s also viewed as a prison for women – even if Muslim women are free to choose it. And it symbolizes fundamentalist Islam, which conjures up images of terrorism. That’s perhaps why the Dutch and Austrians are also discussing a burqa ban.

But sentiments shouldn’t be confused with bedrock freedoms, including the right to practice one’s religion. Being uncomfortable with another’s faith or even dress – and encoding that discomfort in law – puts one on the slippery slope to official discrimination. Will Sikh turbans be next?

But here's the problem with this line of reasoning: Western sentiments do not fit comfortably with Islam. In fact, of all the world's major religions Islam is probably the least compatible with Western values and lifestyles.

Some believe the key issue in the debate about Muslim body coverings and marriage practices (e.g. marrying 15 year old cousins) is whether individual Muslims should be accorded full rights to engage in their religious practices and customs: I suspect this attempt to treat Muslims only as individuals is based on a fallacy that all systems of belief are compatible with each other. They aren't. Mix together different groups holding conflicting value systems into the same society and some groups are going to come up losers. What Westerners need to decide is whether they want to gradually lose ground to a belief system that is in many ways inimical to their own.

Some Western thinkers argue that with free speech all views and positions will get a fair hearing, that people can be persuaded by rational argument, and that the many different religious and cultural beliefs can all be blended together in a free society. This is absurd. We already have factions that enforce secular mythologies (e.g. a Harvard law student can sleep with another student's ex-boyfriend and then get trashed in the press as a racist for insisting she was willing to consider genetic explanations for group racial differences. I get the impression she might have been trying to say that she didn't deny the possibility after perhaps arguing against it). Some factions win and enforce narrow bounds for discussion on many topics. They are often rabid about it.

A faction that starts out very small can be seen in the early stages as harmless because its numbers are too small. But we should ask ourselves about each faction just what it would do if it became a large minority or even a majority. If that faction would make us less free when present in larger numbers we should keep from immigrating to our society.

By Randall Parker 2010 May 03 10:15 PM  Immigration Culture Clash
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2010 May 02 Sunday
EU-IMF Greece Bail-Out Delays Reckoning

The 110 billion Euro IMF/EU bail-out for Greece will keep it from defaulting on its debt for 3 years. But The Economist sees the bail-out as an attempt by the EU to convince the market that there's no point in dumping the debt of Spain, Portugal and other financially shaky EU members.

The pattern of the past three months has been a series of gambles by EU leaders. Their bet, each time, has been that a fierce enough political declaration will intimidate markets into backing away from a weak member of the club. This latest announcement looks different but it is not: it is just the biggest and fiercest declaration yet that markets should leave the eurozone alone. The idea is to shock and awe markets with a big number, so that Greece and its toxic public finances are ringfenced behind a wall of European political will. But this, too is a gamble. If markets lose confidence in other members of the club, such as Portugal, the whole scramble for solidarity will begin again.

I do not think the market will be convinced by this move. Why should it? Spain and Portugal need to take more aggressive austerity steps before the market forces them to do it. If they wait too long then the market will insist on an EU bail-out.

Spain has a GDP 3 times the size of Greece and so a bail-out for Spain would cost much more. If the markets decide Spain is too risky then the EU would need to come up with 1 trillion or more Euros and the political will does not exist inside the Euro zone to come up with that amount of money.

Both Greece and Portugal are rather small, moreover. If the markets find good reasons to doubt the long-term sustainability of a much bigger economy, Spain, the cumulative bailout bill for other EU governments quickly reaches a very big number indeed (in Brussels, figures of a trillion euros or more are talked of in queasy tones). In the words of one Brussels official tonight: “the EU can’t afford Spain.”

Greece is a pretty corrupt place. That alone makes me doubt that it will put its financial house in order. When the EU and IMF loans run out in 3 years unless it is enormously improved the market might force it into bankruptcy then. The EU has basically kicked the ball down the court for 3 years - and only for Greece. The sovereign debt crisis will continue.

Since I expect declining oil production due to diminishing returns from drilling for oil which is a result of using up most of the extractable oil reserves (great interview with petroleum geologist Colin Campbell) economic growth will not allow Greece to cut its debt burden. Ditto Spain, Portugal, Ireland, and Iceland. So the Euro zone leaders are either going to have to allow sovereign defaults within the Euro zone or eject some current Euro zone members.

Parenthetically, the US Congress should pass legislation that creates a mechanism for state governments to default on debt.

By Randall Parker 2010 May 02 11:18 PM  Economics Sovereign Crises
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Peggy Noonan: Control The US Border With Mexico

Peggy Noonan argues in a Wall Street Journal op-ed that the first thing that should be done about immigration is border control.

The American president has the power to control America's borders if he wants to, but George W. Bush and Barack Obama did not and do not want to, and for the same reason, and we all know what it is. The fastest-growing demographic in America is the Hispanic vote, and if either party cracks down on illegal immigration, it risks losing that vote for generations.

The Republican Party has no hope of winning the majority of Hispanic voters regardless of what it does about immigration. This is what Republican leaders are too stupid to understand. Why should an ethnic group that earns much lower wages than whites, graduates from high school and college at much lower rates than whites, and benefits from taxing whites to spend on themselves vote for the Republicans? It does not take rocket science to figure out that the Republican Party's catering to Hispanic voters is absolutely futile. Better to go after Indians or Chinese or any other ethnic group with higher incomes.

Noonan says both parties neglect to worry about what's best for America. That means, what is best for Americans. We really are allowed to have best interests and to defend them, all liberal excoriation of the voters of Arizona notwithstanding.

But while the Democrats worry about the prospects of the Democrats and the Republicans about the well-being of the Republicans, who worries about America?

No one. Which the American people have noticed, and which adds to the dangerous alienation—actually it's at the heart of the alienation—of the age.

In the past four years, I have argued in this space that nothing can or should be done, no new federal law passed, until the border itself is secure. That is the predicate, the common sense first step. Once existing laws are enforced and the border made peaceful, everyone in the country will be able to breathe easier and consider, without an air of clamor and crisis, what should be done next. What might that be? How about relax, see where we are, and absorb. Pass a small, clear law—say, one granting citizenship to all who serve two years in the armed forces—and then go have a Coke. Not everything has to be settled right away. Only controlling the border has to be settled right away.

We also need to control the border to keep the heavily armed drug smugglers down in Mexico. Arizona's steps to enforce immigration law should serve as an example for other states to emulate.

By Randall Parker 2010 May 02 09:04 PM  Immigration Border Control
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Saudis Say Oil Production Costs Up Sharply

Saudi Oil Minister Ali al-Naimi says oil extraction costs in Saudi Arabia have gone up sharply.

Costs of keeping that spare capacity have been rising, Naimi said. To develop a barrel of spare capacity at the Kingdom’s Khurais oilfield costs approximately $10,000, Naimi estimated, or double the cost of developing capacity in Saudi Arabia’s Empty Quarter a decade ago.

Meanwhile, costs of developing spare capacity at the offshore field of Manifa are about triple the levels of a decade ago, the oil minister said.

At the same time al-Naimi warns against countries trying to take measures to cut oil imports. Does he want all countries to go down together?

Thomas Friedman thinks Mexico's version of Peak Oil will lead to healthy political reforms that will strengthen the middle class. ParaPundit thinks Mexico's version of Peak Oil along with the world's Peak Oil will impoverish Mexico's middle class. Whether it also leads to a more accountable government and more market forces I can not say.

So here’s my prediction: When Mexico’s steadily falling oil production meets its rising meritocratic middle class, you will see real political/economic reform here. That is when the No’s will no longer have the resources to maintain the status quo, and that is when the Naftas from the Instituto Wisdom will demand the reforms that will enable them to realize their full potential.

The world oil decline might start as early as 2011. I'm hoping it doesn't start until 2015. I want more time to get ready and more time for car companies to bring out electric cars. But reading retired Princeton U geologist Kenneth Deffeyes makes me think we've already peaked.

When Peak Oil slashes government tax revenues severe austerity measures will become inescapable will Mexicans or Americans riot against their government in protest? If so, which cities will see the most severe riots? Which ethnic groups will be the rioters?

ATHENS — Hundreds rioted in Athens yesterday, throwing Molotov cocktails and stones at police, who responded with tear gas at a May Day rally against austerity measures being enacted by the cash-strapped government to secure foreign loans to stave off bankruptcy.

Which societies will respond most adaptively? America's depleted social capital will become a lot more problematic.

By Randall Parker 2010 May 02 07:28 PM  Economics Energy
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