…and the author points out that just a decade ago our experts thought the U.S. would have perpetual shortages of natural gas and yet today we have a more than a hundred-year supply and the U.S. is on track to be one of the worlds largest exporters of liquid natural gas. Also, just 7 years ago (in 2008) the fear of running out of oil was pervasive and yet today U.S. oil production has doubled and there is a worldwide supply glut. Given how wrong these “expert predictions” were about gas and oil supplies, how do we know our “experts” who predict doom and gloom re. global warming (a far more complex subject, I think?) are right? Also, doesn’t this article present a strong buy case for the coal stocks once the Obama administration stops attacking them? Seems to me that we just have to keep working this very long-term path of energy innovation and not panic, as some would have us do.”, Mike Perry

The Power Revolutions

Natural gas, solar power and data-driven efficiency are making big gains, but history shows that the shift away from coal and oil won’t be fast or neat

The Crescent Dunes Solar Energy Project, a 110-megawatt solar thermal power facility, near Tonopah, Nev., June 26, 2014. Officials with the project say they expect it to start generating electricity this October Photo: Jamey Stillings

By Daniel Yergin

Energy innovation and energy “transition” are today’s hot topics. President Barack Obama aims to have 20% of U.S. electricity come from wind and solar by 2030. Presidential candidate Hillary Clinton has gone one better: A few weeks ago, she pledged that, within 10 years of her taking office, there would be enough renewable electricity to power every home in America. That would certainly be a sprint, given that wind and solar now account for less than 6% of our electricity.

Some are more cautious about such prospects. Bill Gates recently committed $2 billion to “breakthrough” energy innovation because he is convinced that current technologies can reduce carbon-dioxide emissions—and the human contribution to climate change—only at costs that he has called “beyond astronomical.”

One thing is certain: Over the next few months, with the approach of December’s big climate-change conference in Paris—more than 190 countries are expected to attend—the discussion will grow more intense over how quickly the planet can move away from coal, oil and natural gas and toward a low-carbon future.

Such energy transitions are nothing new. They have been going on for more than two centuries. They have been transformative and undoubtedly will be again—but if history teaches anything, it is that they don’t happen fast.

In 1824, a young French scientist and engineer named Sadi Carnot published a paper on “the motive force of fire.” His aim was to explain the workings of an amazing half-century-old invention: James Watt’s steam engine. His explanation—the “Carnot cycle”—is still taught to engineers. Carnot was convinced that this new technology was a critical factor in Britain’s defeat of France in the Napoleonic wars, and he wanted to ensure that his countrymen could gain the same technological mastery.

But Carnot also saw in the steam engine “a great revolution” in human civilization—the harnessing of energy on a scale that would transform the world. Indeed, the steam engine set off the first major transition in world energy. Instead of relying on biomass—wood, agricultural residue and waste—as it had done for more than 400,000 years, humanity began to move to coal.

We think of the 19th century as the era of coal, but as the distinguished Canadian energy economist Vaclav Smil has pointed out, coal only reached 5% of world energy supply in 1840, and it didn’t get to 50% until about 1900.

The modern oil industry began in 1859, but it took more than a century for oil to eclipse coal as the world’s No. 1 source. “The most important historical lesson,” Dr. Smil says, is that “energy resources require extended periods of development.”

A no less important lesson is that, even as newer sources overtake older ones, they also overlay them; the older hardly go away. Oil may have overtaken coal as the world’s top energy source in the 1960s, but since then, global coal consumption has tripled.

Previous transitions have occurred because of new technology and applications, changing costs and prices, and concerns about energy security. Today it is climate-change policy that is pushing the transition, seeking to replace lower-cost energy with what is, at least for now, higher-cost energy. The cost gap is currently being closed by a host of subsidies, incentives and regulations and by advances in technology and manufacturing.

Two big innovations are now playing out across this new energy landscape. One of them is renewable: solar energy. The other is conventional: shale gas and shale oil. Both demonstrate what the physicist Steven Koonin, who served in the Obama administration as undersecretary of energy for science, calls the “Rule of Energy Inertia.”

As he explains, “The energy system evolves much more slowly than other technology-dependent sectors” because of its “sheer scale…and its ubiquity throughout our society.” Also, he adds, because of “the amount of capital that is invested, the fact that infrastructure like power plants lasts so long, and the interconnectedness and interdependence of the whole system.”

Both shale and solar provide proof for Dr. Koonin’s rule. The shale revolution might seem to have burst on the energy scene almost overnight, but it was actually a long time in the making. It largely began as the conviction of one man, a Houston natural-gas producer named George P. Mitchell. In the early 1980s, Mr. Mitchell became convinced that commercial natural gas could be produced from dense shale rock. Hardly anyone believed him.

It wasn’t until the late 1990s and early 2000s that the concept was proved with the successful yoking together of hydraulic fracturing (more famously known as fracking) and horizontal drilling, whose development went back to the 1980s.

Instead of the permanent shortage of natural gas that was assumed a decade ago, it is now thought that the U.S. holds a supply that will last more than a century. Indeed, the U.S. is on track to become one of the world’s largest exporters of liquefied natural gas.

The Ivanpah Solar Electric Generating System in the Mojave Desert in California in March 2014. I Photo: Jacob Kepler/Bloomberg News

The same new techniques have been applied to oil as to shale, with transformative results. In 2008, the fear of running out of oil was pervasive. In 2015, just seven years later, U.S. oil production has almost doubled. This surge, combined with increasing Saudi and Iraqi supply, does much to explain the current oil-price collapse.

The roots of the solar revolution go back even further, to a paper that Albert Einstein wrote in 1905 on the “photoelectric effect,” for which he was awarded the Nobel Prize. It took more than a half-century for Einstein’s theoretical insight to be applied. Functioning solar cells were hastily developed in the late 1950s to supply reliable electricity for U.S. satellites in the space race with the Soviet Union, but the cells were fantastically expensive.

If solar energy was to become a practical terrestrial source of electricity, the cells needed to be cheaper—much cheaper. One of the pioneers in that effort was a chemist named Peter Varadi. In 1973, he and fellow Hungarian refugee Joseph Lindmayer launched a company called Solarex in Rockville, Md.

When they started, there was hardly a market for photovoltaic cells. Then customers began to emerge, mainly for applications in remote locations, off the grid. The U.S. Coast Guard bought solar cells to power its buoys. The oil industry did the same for offshore platforms. Illicit marijuana producers needed a lot of power for their greenhouses but also wanted to avoid getting fingered by the police because of oversize electric bills.

But it seemed like the solar business would never reach sufficient scale. Solarex was profitable but short of capital, and Dr. Varadi and Dr. Lindmayer ended up selling it in 1983. Exxon, the other early entrant in the field, got out in 1984 because it couldn’t see a significant market ahead in any reasonable time frame. By the beginning of the 1990s, the Economist was calling the solar industry “a commercial graveyard for ecologically minded dreamers.” For struggling solar (and wind) entrepreneurs, the decade became known as the “valley of death.”

But then, at the beginning of this century, solar came back to life. The reason was Germany. In pursuit of a low-carbon future, the country launched its Energiewende (energy transition), which provided rich subsidies for renewable electricity.

A fractionator tower is lifted in place at a natural gas processing complex in Mont Belvieu, Texas, on March 8, 2013. Photo: Erich Schlegel/Corbis

The biggest beneficiary of Germany’s solar policy turned out to be not German industry, as had been expected, but China. Chinese companies rapidly built up low-cost manufacturing facilities and captured the German market, driving Q-Cells, the leading German company, into bankruptcy.

The resulting overcapacity of Chinese factories pushed down costs, as did the falling price of silicon, the raw material that goes into solar cells. As a result, the cost of a solar cell has fallen by as much as 85% since 2006. Installation costs have also come down, though not to the same extent.

With declining costs and expanding capacity, and with government subsidies and regulations, photovoltaics have taken off. Global sales of solar modules in 2014 were 70 times greater than in 2003. By the end of last year, the installed capacity of photovoltaics added up to nearly 200 gigawatts. In terms of actual generation, that matches the output of about 40 one-gigawatt nuclear reactors, since a nuclear plant produces power steadily while the output of solar panels requires daylight and varies from sunny days to cloudy ones.

Solar is compelling in hot, sunny regions. Even there, it needs backup generation for times when it cannot operate. In many other locations, however, solar isn’t competitive without subsidies and incentives of one kind or another. But a great deal of effort is going into technological innovation aimed at improving the efficiency of cells and lowering installation costs. And new financing mechanisms are emerging to facilitate adoption of the technology.

“Solar is growing fantastically,” says Dr. Varadi, who chronicles solar’s rise in his new book, “Sun Above the Horizon.” “Something like this requires time. Shale oil and shale gas had a ready market. When we started, we had no market at all, zero. And the industry had to get to mass production to bring down costs.”

Over the last six years, the contribution of photovoltaic solar to global electricity has increased tenfold. It is now up to 1% of world electricity, which is about 0.2% of total world energy. Scenarios developed by IHS (my own firm) show it getting up to 4% to 9% of total global electricity by 2040.

Solar is growing rapidly in the U.S. and could account for nearly 1% of total electric generation by the end of the year. The amount of electricity from the other “new” renewable—wind—is currently much larger, almost 5% of total U.S. electricity.

Like solar, modern wind power got its start during the energy crisis of the 1970s, which led to the “California wind rush” of the early 1980s. The industry was born from the marriage of sturdy Danish wind turbines with California tax credits and energy policies.

Wind turbines at a wind farm near Kilkis, Greece, on Jan. 3, 2015. Photo: Athanasios Gioumpasis/Getty Images

Today, wind is on a growth path. In the past few years, manufacturing improvements and new designs have brought down costs, but wind, like solar, still needs incentives and subsidies to be competitive in most places. Wind now generates 3.5% of world electricity. According to scenarios developed by IHS, it could reach 9% to 13% of the global total by 2040.

What could speed up solar and wind? The development of batteries that can store renewable electricity for those times when the sun isn’t shining or the wind isn’t blowing. A lot of investment and effort is going into meeting the challenge. Meanwhile, innovation with batteries is already having an impact on transportation with the emergence of the electric car.

Here, too, there is a very long provenance. More than a century ago, Thomas Edison poured a substantial amount of his own money into trying to launch an electric car. He was absolutely convinced, he said, that “more electricity will be sold for electric vehicles than light.” But in that race, he lost out to Henry Ford and his Model T.

The introduction of the Tesla Model S in 2012 was a very impressive engineering and marketing feat. But the rechargeable lithium-ion battery that powers the car was originally invented in an Exxon laboratory during the energy crisis of the 1970s, when it was thought that oil was about to run out.

The purpose, as M. Stanley Whittingham, the lead scientist on the project, wrote in the journal Science in 1976, was to develop batteries “for electric vehicle propulsion and for the storage of off-peak and solar power.” But oil prices went down, and the “electrics” never arrived.

Lithium batteries languished commercially until Sony began to use the technology in the 1990s to power video cameras, and then lithium became ubiquitous for a whole host of small portable products, including PCs and smartphones. Tesla has brought the lithium battery full circle, back to its original purpose of “electric vehicle propulsion.”

Another frontier for energy innovation gets less attention because it is less dramatic and certainly less visual: using energy more efficiently and thus using less of it. But the potential in this realm is very great.

The U.S. is more than 2½ times more energy efficient today than it was in the 1970s, when oil crises catapulted energy to the forefront of national politics. But there is still a great deal of slack in the system. By combining information technology, the Internet, and sophisticated monitoring and control tools, large buildings (for instance) can reduce their electricity consumption by 30% or more.

Dr. Koonin, who is now at New York University, is working on these applications. His current research is in “urban informatics”—sensing, collecting and analyzing the enormous amount of “big data” generated by city life.

“Demand technology, whether based on informatics or better light bulbs, doesn’t require massive investment or time. And it’s shorter to demonstrate,” says Dr. Koonin.

“One of the things you want to do in a city is make it more efficient, whether in delivery of services, the flow of traffic, picking up trash or energy use in buildings. If you want to optimize, you need to know what is happening at a high level of granularity in terms of time and space. What’s happening with traffic on 52nd Street right now? Or what is the load on the grid right now?”

What innovation will power the next revolution in human civilization? It may well be something, as Bill Gates suggests, that we can’t see clearly now. But when the breakthrough occurs, the chances are that it will have been 20, 30 or even 40 years in the making. Or maybe longer.

Dr. Yergin is the author of “The Quest: Energy, Security and the Remaking of the Modern World” and “The Prize,” for which he received the Pulitzer Prize. He is vice chairman of IHS, a research and information company.

…The only way to return the assessment of risk to something resembling normalcy is to stop the manipulation. That requires nothing less than serious intestinal fortitude from the Fed and a willingness to raise interest rates in the face of determined opposition from Wall Street.”, William D. Cohan, “Show Some Spine, Federal Reserve”, The New York Times, August 29, 2015

The Opinion Pages

Show Some Spine, Federal Reserve

By WILLIAM D. COHAN

THE financial markets and the Federal Reserve Board have been playing out a tragicomedy in three acts. Here’s how it works: Initially, a flurry of news stories appear about how, a few months hence, the Fed intends to raise short-term interest rates for the first time in years. Second, the predictable market swoon, as Wall Street traders ponder the fact that the morphine drip of free money that they have been enjoying since the aftermath of the 2008 financial crisis might be pulled out of their arms. Finally, the Fed backs away from its much-overdue policy change, causing traders to rejoice and the artificially stimulated bull market in both stocks and bonds to continue. The curtain comes down, and the audience roars its approval.

A similar drama occurred in the spring of 2013, during what has been called the Taper Tantrum. And now it’s happening again.

Some background: At the end of 2008, the Fed dropped its benchmark short-term interest rate to around zero. It also began a program with the Orwellian name of quantitative easing — buying huge sums of bonds to suppress long-term interest rates and stimulate lending and spending. Thanks to Q.E., the cost of borrowing money was pushed to next to nothing. This was a bonanza for those who make money from money — hedge-fund managers, private-equity moguls, banks — and a disaster for savers, retirees and anyone on a fixed income. (Have you checked the interest your bank pays you on your savings account? Mine: .06 percent per year.)

The Taper Tantrum began in May 2013, when Ben S. Bernanke, then chairman of the Federal Reserve, announced in congressional testimony that later in the year the Fed would most likely start slowing — hence, “tapering” — its monthly bond buying. On June 19, in a news conference, Mr. Bernanke reaffirmed that decision: The Fed, he said, “currently anticipates that it would be appropriate to moderate the monthly pace of purchases later this year.” Before the afternoon was out, the Dow Jones industrial average had fallen more than 200 points, or 1.4 percent, and the bond market tanked as the yield on the 10-year Treasury bond rose to 2.36 percent, its highest level since March 2012. The Fed quickly backed down and the rallies in the stock and bond markets resumed.

The third round of quantitative easing ended last fall. And all of this year, the markets have been chattering about an expected announcement that the Fed will finally — after nine years — raise short-term interest rates in September, by a modest 0.25 percentage points.

Yes, it would be a little painful to start having to pay a little more for short-term borrowing and, yes, the net worth of Wall Street billionaires might increase at a slightly lower rate, but it looks as if the moment is at hand to end the morphine drip.

The case for raising rates is straightforward: Like any commodity, the price of borrowing money — interest rates — should be determined by supply and demand, not by manipulation by a market behemoth. Essentially, the clever Q.E. program caused a widespread mispricing of risk, deluding investors into underestimating the risk of various financial assets they were buying.

The only way to return the assessment of risk to something resembling normalcy is to stop the manipulation. That requires nothing less than serious intestinal fortitude from the Fed and a willingness to raise interest rates in the face of determined opposition from Wall Street.

Sadly, the Fed, under Mr. Bernanke’s successor, Janet L. Yellen, seems to be caving. The worsening economic news from China, combined with uncertainty about the Fed’s plans, contributed to the recent sharp declines in stock markets around the world.

All too predictably, the powerful advocates of the Fed’s zero-interest-rate policy have raced to its defense. Under the headline “The Fed looks set to make a dangerous mistake,” Lawrence H. Summers, the former Harvard president and Treasury secretary, wrote in The Financial Times, “At this moment of fragility, raising rates risks tipping some part of the financial system into crisis, with unpredictable and dangerous results.” He then tweeted, “It is far from clear that the next Fed move will be a tightening” (a raising of rates).

Around then came a leaked note to clients from Ray Dalio, founder of Bridgewater Associates, one of the world’s largest hedge funds, agreeing with Mr. Summers’s assessment. He warned that the Fed might be so wedded to its “highly advertised tightening path that it will be difficult for them to change to a significantly easier path if that should be required.”

This elite pas de deux reached a crescendo on Wednesday when William C. Dudley, the president of the powerful Federal Reserve Bank of New York, said that, upon reflection, September was not the time for the Fed to raise short-term interest rates. The argument for doing so, he said, seemed “less compelling to me than it was a few weeks ago,” noting that “international developments have increased the downside risk to U.S. economic growth somewhat.” Once the news of Mr. Dudley’s words got out, the markets rocketed upward. Crisis averted?

Thursday was also the first day of the annual central-banker retreat in Jackson Hole, Wyo. The gathering’s theme is the boring-sounding “Inflation Dynamics and Monetary Policy,” but it’s the perfect setting for these supposedly brilliant economists to figure a way out of this perennial Catch-22 once and for all. The right answer is self-evident: End the easy-money addiction, raise rates in September and begin the healing.

William D. Cohan is the author of three books on Wall Street.

A version of this op-ed appears in print on August 29, 2015, on page A19 of the New York edition with the headline: Show Some Spine, Federal Reserve.

…Equally nervous may be the legions of traditional savers who felt compelled to buy equities to generate a viable yield on their investments. “The multigenerational low in interest rates has driven a lot of people into stocks who would not normally be there,” Mr. Stack said. “That money could exit the markets quickly once rates start to normalize.”…As an active fund manager who buys shares of companies with established operations and genuine earnings, Mr. Gannon says he is eager for a market in which investors behave more rationally. Distinct market shifts are visible only in hindsight, of course. Still, it’s probably not a bad idea to be watchful for them and for the profits — and losses — they may bring.”, Gretchen Morgenson, “Doubt Start Chipping Away at the Market’s Mind-Set”, The New York Times, August 16, 2015

Business Day

Doubt Starts Chipping Away at the Market’s Mind-Set

Traders outside the New York Stock Exchange. The bull market is showing its age, analysts say. Credit Andrew Renneisen for The New York Times

By GRETCHEN MORGENSON

In the stock market, until recently, just about any news was good news.

Company earnings stumbled? Investors shrugged them off, sending shares higher. Economic growth was disappointing? So what.

But now that is changing.

Consider the recent trading in Apple, the world’s most valuable public company and a certifiable stock market darling. Apple announced third-quarter results on July 21 that were “amazing,” according to Tim Cook, its chief executive. Revenue rose 33 percent over the same period last year, and earnings per share were up 45 percent.

But investors seized on the fact that demand for the iPhone and the company’s new smartwatch didn’t meet expectations. Apple’s shares have lost 11.3 percent since then.

“I thought the break in Apple was a pretty big deal,” said Bill Fleckenstein, a veteran money manager at Fleckenstein Capital in Seattle. “They made all the numbers, but units were light. Maybe that is a precursor to what the entire tape is going to show us.”

The reaction to China’s devaluation was even more telling. Instead of viewing it as a competitive tool to lift exports and stimulate growth — as was the case when Japan took steps to devalue the yen — global investors were rattled, fearing that it meant the Chinese government was convinced that its economy was in much worse shape than conveyed by official statistics.

As investors absorb the meaning of these moves, they also seem to be opening their eyes to other market wonders that may prove ephemeral. The question is, Are we seeing signs of a sea change in investors’ attitudes?

Another example is the recent rout in shares of Keurig Green Mountain, the maker of specialty coffee and single-cup brewing systems. A former highflier that traded as high as $137 in January, the stock collapsed after the company warned on Aug. 5 that sales and earnings would decline this year. The shares lost 30 percent the following day and are down 62 percent year-to-date.

Trying to plumb the mind-set of investors is always a tricky exercise, of course. But when one investment assumption is questioned — a perpetually strong Chinese economy, say — other bits of conventional wisdom go under the microscope too.

Doubts may be creeping into the notion that companies with no earnings should trade at sky-high valuations. Some are starting to wonder whether corporate profits are being artificially elevated by share buybacks or other tactics.

Then there’s the biggest assumption of them all — that the Federal Reserve will always be there to save the day.

An aging bull market often coincides with investors’ starting to question these kinds of assumptions, strategists say.

That’s the view of James Stack, president of InvesTech Research, a money manager in Whitefish, Mont., who publishes a highly ranked investment newsletter.

“This is the third-longest bull market in 80 years, and we are starting to see some deterioration develop,” Mr. Stack said in a telephone interview on Wednesday. “If you look at market breadth, the number of stocks participating has been narrowing.”

Even as the Nasdaq was reaching new highs this year, for example, other indexes, including those made up of transportation stocks or utilities, were trading well off their highs. This divergence is not the sign of a healthy market, Mr. Stack said.

Francis Gannon, co-chief investment officer at Royce Funds, which specializes in small-cap stocks, also thinks we are at an inflection point. The upside-down market — where untested companies’ shares vastly outperform those of more solid companies — may be in the process of righting itself, he said.

Mr. Gannon noted that fully one-third of the companies in the Russell 2000 stock index do not earn any profits, the highest percentage in a nonrecessionary period. And through the second quarter, a majority of the performance in the Russell 2000 index came from companies that lost money before interest, taxes, depreciation and amortization, he said.

“The laws of finance have been suspended for quite some time,” Mr. Gannon told me last week. “Now this is starting to crack. I think we are on a road to normalization.”

If market sentiment is indeed changing, Mr. Stack is concerned that many investors may be quick to sell their shares in a swoon, amplifying a downturn. He’s especially worried about two groups: investors who have bought shares on margin, using borrowed money, and those who have been pushed into the market in search of returns because of low interest rates.

Certainly the use of leverage to buy stocks is very near its peak. According to the New York Stock Exchange, margin debt stood at $505 billion in June, the most recent figure available. That’s down just a bit from the April peak of $507 billion, but up 9 percent from the same period last year.

“Money borrowed to buy stocks tends to be nervous money,” Mr. Stack said.

Equally nervous may be the legions of traditional savers who felt compelled to buy equities to generate a viable yield on their investments. “The multigenerational low in interest rates has driven a lot of people into stocks who would not normally be there,” Mr. Stack said. “That money could exit the markets quickly once rates start to normalize.”

As an active fund manager who buys shares of companies with established operations and genuine earnings, Mr. Gannon says he is eager for a market in which investors behave more rationally.

“This particular cycle has been affected by the actions of the Fed and the many unintended consequences of what the Fed has done,” Mr. Gannon said. “We think we are at a point where that is beginning to change.”

Distinct market shifts are visible only in hindsight, of course. Still, it’s probably not a bad idea to be watchful for them and for the profits — and losses — they may bring.

A version of this article appears in print on August 16, 2015, on page BU1 of the New York edition with the headline: Doubts Start to Chip Away at Mind-Set of Markets.

…As graduate-school enrollment swelled over the past decade, the number of Americans owing at least $100,000 in student debt more than quintupled to 1.82 million as of Jan. 1, New York Federal Reserve data show. The number of all student borrowers nearly doubled to 43.34 million…..The promise of forgiveness is “the only reason I would have ever considered” amassing so much debt to attend Tulane University Law School, says Ms. Murphy, 45 years old. She earns $56,500 a year as an assistant public defender in West Palm Beach. “What we’re doing is randomly subsidizing lots of people without careful thought,” says Sandy Baum of the Urban Institute think tank, who has advised Hillary Clinton’s campaign. “That’s just really problematic.””, Josh Mitchell, “Grad-School Loan Binge Fans Debt Worries”, The Wall Street Journal, August 19, 2015

U.S. Education

Grad-School Loan Binge Fans Debt Worries

Graduate students account for 40% of borrowing; many seek federal forgiveness

Virginia Murphy, an assistant public defender in West Palm Beach, Fla., has $256,000 in student debt. Photo: Scott Wiseman for The Wall Street Journal

By Josh Mitchell

Virginia Murphy borrowed a small fortune to attend law school and pursue her dream of becoming a public defender. Now the Florida resident is among an expanding breed of American borrower: those who owe at least $100,000 in student debt but have no expectation of paying it back.

Ms. Murphy pays just $330 a month—less than the interest on her $256,000 balance—under a federal income-based repayment program that has become one of the nation’s fastest-growing entitlements. She plans to use another federal program to have her balance forgiven in about seven years, a sum set to swell by then to $300,000.

The promise of forgiveness is “the only reason I would have ever considered” amassing so much debt to attend Tulane University Law School, says Ms. Murphy, 45 years old. She earns $56,500 a year as an assistant public defender in West Palm Beach.

The doubling of student debt since the recession, to $1.19 trillion, has stoked a national discussion over how to rein in college costs and debt and is becoming a major issue in the 2016 presidential race. Little noted in the outcry is the disproportionate role played by postgraduate borrowers, who now account for roughly 40% of all student debt but represent just 14% of students in higher education.

Propelling the surge in grad-school debt is a welter of federal programs that make it easy for students to borrow large amounts, then to have substantial chunks of those debts eventually forgiven. Critics of the system say it makes it easier for graduate schools to raise tuition, and for some high-earning graduates such as doctors to escape debts they can afford to repay.

“What we’re doing is randomly subsidizing lots of people without careful thought,” says Sandy Baum of the Urban Institute think tank, who has advised Hillary Clinton’s campaign. “That’s just really problematic.”

Federal programs allow grad students to borrow essentially unlimited amounts—whatever their schools charge—while requiring only a scant credit check and no assessment of their ability to repay. Other government loan programs, such as those for undergraduate students and home buyers, set loan limits to prevent borrowers from getting too deep into debt. Undergraduates are capped at $57,500 total in federal loans.

As graduate-school enrollment swelled over the past decade, the number of Americans owing at least $100,000 in student debt more than quintupled to 1.82 million as of Jan. 1, New York Federal Reserve data show. The number of all student borrowers nearly doubled to 43.34 million.

Seeking relief

As payments come due, droves of graduate borrowers are seeking relief under income-based repayment plans. Enrollment in the plans, which lower borrowers’ bills at taxpayer cost, has more than doubled in the past two years to 3.8 million Americans. About half of all debt from one of the main loan programs for graduate students, called Grad PLUS, is now covered under the plans.

The Obama administration defends the loose credit policy, pointing out that grad students generally are good credit risks because they typically become society’s wealthiest earners, and that income-based repayment is designed as a safety net during tough times.

“The Obama administration is committed to keeping a higher education within reach for all Americans,” says Denise Horn, a Department of Education spokeswoman.

The federal student-loan programs are designed to generate revenue for taxpayers, and they do. But surging enrollment in the debt-forgiveness programs recently prompted the government to increase by $22 billion its estimate of the long-term costs of the provisions. And a recent move to expand the most generous repayment program to millions more borrowers will cost an estimated $15.3 billion.

Critics say offering unlimited loans to students, with the prospect of forgiveness, creates a moral hazard by allowing borrowers to amass debts they have little hope or intention of repaying, all while enriching institutions and leaving taxpayers to pick up the tab.

Sen. Lamar Alexander (R., Tenn.), chairman of the committee overseeing education, has proposed reinstating loan limits for grad students as part of an overhaul of education policy that could face votes later this year.

The typical college student who borrowed owed about $27,000 upon graduation in 2012, according to an analysis of federal data from the New America Foundation, a centrist think tank. Those earning a master’s typically owed between $50,000 and $60,000; law degrees, $141,000; and medical degrees, $162,000.

Very few undergraduates owe six figures. In 2012, the most recent year for data, just 0.3% of undergrads owed six-figure debts, according to research by Mark Kantrowitz, publisher of information website Edvisors.com. But among graduate and professional-school students, 15% owed at least $100,000 upon graduation—more than double the share just four years earlier.

Many borrowers describe a system that allowed them to engage in a spiral of borrowing, often piling one loan on top of another while struggling to keep abreast of interest payments.

Bonnie Kurowski-Alicea, 40 years old, owes almost $209,000 in student debt after earning a doctorate in industrial organizational psychology at Capella University, a for-profit school.

After borrowing to earn her bachelor’s, Ms. Kurowski-Alicea says, her main motivation for earning a master’s and then a doctorate was to postpone repaying her student loans, which she said were too high for her minimum-wage income at the time. The government doesn’t require payments while students are in school.

“There’s no way to pay it afterward. It’s a continuous cycle,” says Ms. Kurowski-Alicea, of Clermont, Fla.

She filed for bankruptcy in 2008, the year she earned her last degree. She said the filing came after a car crash prevented her from working for six months. Federal student loans cannot be discharged in bankruptcy.

Ms. Kurowski-Alicea has repeatedly been allowed by the government to postpone repaying her loans, but the balance has grown due to interest. She now earns $80,000 as a self-employed contractor in corporate training, but her debt has grown so high she says she doesn’t think she’ll ever be able to pay it off.

She pays $1,060 a month but plans to take advantage of the administration’s latest proposal to allow borrowers with older loans to set payments at 10% of discretionary income.

“I’ll be the retiree that’s getting Social Security garnished” because of student loans, says Ms. Kurowski-Alicea, whose husband is unemployed and owes $75,000 in student debt.

Before 2006, grad students generally could borrow up to $138,500 total—including any undergraduate debt—from the government’s main loan program, Stafford loans. If they needed more, they would have to go to private lenders.

In 2005, Congress lifted the limit by creating Grad PLUS loans, which cover any expenses after graduate students hit the Stafford ceiling. The measure helped students bypass private lenders, which student advocates said charged high interest rates and did too little to protect borrowers who fell on hard times.

The program also helped lawmakers in their quest to cut the federal deficit, because the government charges grad students higher interest rates than undergraduates. Grad PLUS was included in a deficit-reduction package passed by the Republican-controlled Congress in 2005 and signed by President George W. Bush in 2006.

“With budget constraints and concerns about spending, we have created an environment where the federal government is making money off of the graduate lending” to subsidize college students, says Elizabeth Baylor, head of postsecondary education at the left-leaning Center for American Progress.

But after creating the Grad PLUS program, lawmakers passed additional measures that have begun cutting into the revenue stream from the grad loans.

Debt forgiveness

A 2007 measure created a debt-forgiveness program to encourage grad students to become teachers, public defenders and other public-service positions that don’t pay well but are deemed to benefit society. Under the program, borrowers working full time for a government agency or nonprofit employer can have their remaining debts forgiven if they make 120 monthly payments—10 years worth—on time.

Under a separate law, private-sector workers can generally have balances forgiven after 20 years.

Many borrowers are planning to combine debt-forgiveness programs with income-based repayment plans, the most generous of which was championed by President Barack Obama and passed by Congress in 2012. That plan, known as Pay As You Earn, caps borrowers’ monthly payments at 10% of their discretionary income—defined as any adjusted gross income in excess of one-and-a-half times the poverty line.

Mr. Obama pitched the plan as a way to stem defaults and help cash-strapped Americans who couldn’t afford to make payments on a standard repayment scheme. A 1993 program was seldom used, largely because the terms—capping payments at 15% of discretionary income—weren’t generous enough to significantly lower borrowers’ payments.

The collection of incentives—passed in separate measures over several years—weren’t intended to work together to help so many grad borrowers. The Obama administration is taking steps that it says will better target borrowers who need help the most, such as new rules to extend the repayment period from 20 to 25 years for grad borrowers on income-based repayment.

The effects of loosened credit are most evident among graduates of medical and law schools, the biggest users of Grad PLUS, whose debt burdens have skyrocketed in the past decade. As of 2012, more than half of all law-school borrowers and 30% of medical-school students use Grad PLUS, according to the Department of Education.

Emily Van Kirk and her husband owe a combined $692,000 in federal student debt from their time at American University of the Caribbean School of Medicine, in St. Maarten.

A big chunk of their debt covered living expenses such as rent and food, amounts set by the school. She now wishes she would have been more disciplined and borrowed less. “No one gives you guidance about this,” says Ms. Van Kirk, 30 years old. “Everyone assumes, ‘Oh, you should take out the maximum amount of money that they’re going to give you.’ ”

Ms. Van Kirk, who specialized in internal medicine, just finished her residency and is about to start a permanent position at the hospital making roughly $200,000 a year. Her husband is serving as chief resident and next year will seek to become a doctor in critical-care medicine, a position that would likely pay well into the six figures

Each has been paying about $400 a month under income-based repayment, instead of the more than $3,000 they would each be paying under a standard repayment plan. “I would be living in a box and eating salt crackers” without income-based repayment, Ms. Van Kirk says. “It just wouldn’t be financially possible.”

She says she and her husband plan to pay down their debt as much as possible now that she is earning more. But they also are planning to search for jobs at a nonprofit hospital so that they can have their student-loan balance forgiven in 10 years under the program designed to steer borrowers into public-service jobs. Their current employer is owned by a corporation.

The typical medical-school graduate owed $161,772 in student debt at graduation in 2012, according to the New America Foundation. That figure rose an inflation-adjusted 31% over eight years.

Debt growth was even sharper among law-school graduates. The typical student who borrowed left law school owing $140,616 in 2012, up 59% from eight years earlier.

Debt forgiveness was intended to ease the debt burdens of workers such as Ms. Murphy, the Florida public defender, to encourage them to stay in the public sector rather than leaving for higher-paying private-sector jobs.

But a number of recent studies show the benefits are largely going to people who need them the least—doctors and many lawyers who will end up making six-figure salaries. The benefits are less meaningful for undergraduate borrowers, because their average debt burden is roughly $30,000 and income-based repayment plans aren’t likely to lower their bills by much.

Of the 5,686 hospitals in the U.S., 73% are nonprofits or government owned, according to the American Hospital Association, thus qualifying their employees to have loan balances forgiven after 10 years.

Josh Lantz, a financial adviser whose clients are mainly doctors, says student debt is “one of the biggest things on a mind of a younger physician.”

The quest to get rid of that debt as swiftly as possible through federal loan forgiveness, Mr. Lantz says, “is one of the major factors in which they make their decision” on where to work.

…By the idiotic standard her critics apply, John Chambers is the worst CEO in history, since in 15 years he never made back the wealth Cisco lost in the crash.”, Holman W. Jenkins Jr., “CEO Fiorina Fought the Good Fight”, The Wall Street Journal, August 19, 2015

Opinion

CEO Fiorina Fought the Good Fight

No big-tech chief executive created value between 1999 and 2005. And Carly was one of them.

The Republican presidential candidate at the Iowa State Fair, Aug. 17. Photo: Andrew Harrer/Bloomberg News

By Holman W. Jenkins, Jr.

If you’re a Republican-leaning voter, you might prefer Jeb Bush, a calm, shrewd, practiced decision maker, for the challenges ahead. If, in its death throes, the Putin regime tries to grab the Baltic states. If an opportunity presents itself to plug away at America’s long-term competitiveness problems: its tax code, its entitlement system, its health-care system.

But a reason not to reject Carly Fiorina is her mixed-bag tenure at Hewlett-Packard, which has lately been subjected to formulaic scorn by Donald Trump and business pundits.

People get the wrong idea about CEOs, mostly from the media. CEOs are supposed to be magical persons who transform opportunities invisible to the rest of us into unlimited wealth. If only GM, some pundits moaned at the time of GM’s bankruptcy, had a Steve Jobs who could combine steel, plastic and glass in a way that would perform all the functions of an automobile yet liberate its maker from the tyranny of costs and intense price competition with other manufacturers of automobiles.

This kind of thinking is nuts. Companies that were important in the PC age and earlier aren’t important now: Gateway, Data General, DEC. You could add Microsoft, Intel and IBM, which like HP are still alive but have been moved off center-stage by the Internet and mobile revolutions.

Big tech companies become big by birthing technology revolutions, but the next revolution usually comes from somewhere else. Google didn’t invent Facebook, Facebook didn’t invent Spotify, etc. Don’t make an expectation out of Steve Jobs’s improbable second act. His story only proves that, in our infinitely rich world, you can find one example of almost anything that isn’t proscribed by the laws of physics.

What’s reasonable to expect is something else: CEOs who make conscientious choices and diligently execute them, knowing that superlative results will happen only if a lot of things beyond their control fall into place too. Look at HP’s stock chart under Ms. Fiorina, who had the misfortune to arrive eight months before the tech bubble burst: It’s indistinguishable from Microsoft, Intel, Oracle, Cisco, etc. By the idiotic standard her critics apply, John Chambers is the worst CEO in history, since in 15 years he never made back the wealth Cisco lost in the crash.

Ms. Fiorina’s claim to infamy will always be the merger of HP and Compaq, two of the biggest companies in the then-important PC market, both of which saw PC margins shrinking, both of which hoped to follow IBM in developing a service offering to manage other companies’ increasingly complex PC networks, and both of which would be blindsided by the emergence of consumer electronics as tech’s cutting edge.

In the end, the HP-Compaq deal did not turn tin into gold. Most mergers don’t. HP survives and remains a big player, but its stock performance has made no one rich, and the company’s strategic wanderings, board chaos and legal travails have hardly been less under the two tech superstars, Mark Hurd and Meg Whitman, who’ve run the place after Ms. Fiorina was booted out in 2005.

But then the HP-Compaq merger she promoted was wildly controversial even at the time—with Wall Street, with shareholders, with the board.

What’s notable in this context is the grit with which she forged ahead. She was opposed by major charities that would have been the horror of any financial planner, over-concentrated in HP stock and freely admitting that their appetite for risk was less than a normal shareholder’s.

She was opposed by board member Walter Hewlett, who voted for the deal then became its chief critic. His ally of convenience was Wall Street, which long favored spinning off HP’s absurdly lucrative (because of ink refills) printer business to free it from the dragging tech conglomerate, a strategic option already rejected by HP’s board and many large shareholders.

Only belatedly and unconvincingly did Mr. Hewlett align himself with the printers-first alternative. But he didn’t nominate himself or any other likely candidate to lead the breakup. In the end, Ms. Fiorina prevailed not because investors thought she had all the answers, but because a plan (and CEO) beats no plan (and no CEO).

Still the shareholder vote was bitterly fought, though Ms. Fiorina managed to keep the battle just short of vitriolic. And her final gambit would have done LBJ proud: Deutsche Bank had voted no on behalf of its fiduciary clients but switched when she hinted that nonsupport would be remembered when future banking business was being doled out.

In politics, victory is often a form of disaster delayed. We mentioned LBJ: His great triumphs, Medicare and Medicaid, are now propelling the nation toward bankruptcy unless a conservative conservative like Jeb Bush or Carly Fiorina can set them on a sustainable path.

By conservative conservative, we mean not given to unrealistic dreams of a libertarian America. Everyone, Democratic and Republican, knows the problems. A way forward is better than no way forward. Missing has been leadership willing to tackle the challenge. In that sense, the HP battle ought to be seen as an argument in favor of Ms. Fiorina, not against her.

…It would likely raise the dollar’s value relative to foreign currencies, making U.S. goods and services less attractive to households and firms here and abroad. Prices of homes and other assets would also feel downward pressure under higher interest rates. All of these changes would likely discourage spending and create a drag on U.S. economic activity and employment growth.”, Narayana Kocherlakota, CEO of the Federal Reserve Bank of Minneapolis and FOMC Participant, “Raising Rates Now Would Be a Mistake”, The Wall Street Journal, August 19, 2015

“Could it be any clearer that the Fed deliberately fosters inflation expectations, which encourages asset speculation, creates (asset) bubbles and also encourages artificially high levels of consumer and commercial borrowing (both pre and post crisis)?”, Mike Perry, former Chairman and CEO, IndyMac Bank

Opinion

Raising Rates Now Would Be a Mistake

With inflation so low, higher rates will push the economy away from the Fed’s price and employment goals.

By Narayana Kocherlakota

I participate in the meetings of the Federal Open Market Committee, the monetary policy-making arm of the Federal Reserve. In that capacity, I’m often asked by members of the public about the biggest danger facing the economy. My answer is that monetary policy itself poses the biggest danger.

Many observers have called for the FOMC to tighten monetary policy by raising interest rates in the near term. But such a course would create profound economic risks for the U.S. economy.

Why would a near-term tightening of monetary policy be so problematic? Because given the prevailing economic conditions, higher interest rates would push the economy away from the FOMC’s economic goals, not toward them.

The US Federal Reserve Building in Washington, D.C. Photo: Agence France-Presse/Getty Images

Congress has mandated that the Fed promote price stability and maximum employment. The FOMC has translated its price-stability mandate into a target 2% inflation rate, as measured by the personal consumption expenditures price index. Inflation has run consistently below that objective for more than three years and is currently at 0.3%.

The outlook is for more of the same. Most private forecasters do not see inflation reaching 2% for the next two years. Government bond yields are consistent with that same subdued inflation outlook. In June the FOMC’s own staff forecast was that inflation would remain below the committee’s 2% target until the 2020s.

The U.S. inflation outlook thus provides no justification for policy tightening at this juncture. Given that outlook, the FOMC should ease, not tighten, monetary policy by, for example, buying more long-term assets or by reducing the interest rate that it pays on excess reserves held by banks. Along these lines, the board of directors of the Minneapolis Fed has for the past few months been recommending a reduction in the interest rate that the Federal Reserve charges banks for discount window loans.

Now, this is not to say that increasing the federal-funds rate by a mere quarter of one percentage point, as many advise, would in and of itself have a huge direct impact on the U.S. economy. But even a small change toward tighter policy would send a strong message to financial markets.

If the Fed raises interest rates when inflation is so far below target, market participants and other members of the public could well conclude that the FOMC has implicitly lowered its inflation goal. That, in turn, poses two serious risks to the economy.

The first risk is near-term. Financial decisions depend on real—that is, net-of-inflation—interest rates. If the public believes the Fed has lowered its inflation goal, all real interest rates in the U.S. will be higher.

This will discourage people from borrowing money for homes and autos. It would likely raise the dollar’s value relative to foreign currencies, making U.S. goods and services less attractive to households and firms here and abroad. Prices of homes and other assets would also feel downward pressure under higher interest rates. All of these changes would likely discourage spending and create a drag on U.S. economic activity and employment growth.

The second risk is longer-term. In late 2014 the FOMC ended its asset purchase program, even as the outlook for inflation was sliding further below the 2% goal. Financial markets logically interpreted this step as meaning that the FOMC had tacitly lowered its longer-term inflation objectives from the 2% goal established in January 2012. If the committee were to tighten monetary policy again by raising the federal-funds rate in 2015, when the inflation outlook has changed little since late 2014, markets would likely respond similarly.

Moreover, by again setting policy in a direction opposite its stated goals, the Fed would diminish the credibility of those goals. As we have seen in Japan over the past two decades, when the public comes to doubt a central bank’s commitment to its goals, the economy can land in a permanent low-interest-rate trap. The central bank is then much less able to fight recessions effectively. Unfortunately, as we have also seen in Japan, such traps are extremely difficult to escape.

I am confident that the time will come when economic conditions will be appropriate for the FOMC to raise the federal-funds rate from its current low level. But that time is not now. Tightening monetary policy when inflation is projected to be so low is a step in the wrong direction.

Mr. Kocherlakota is president and CEO of the Federal Reserve Bank of Minneapolis and a participant in the Federal Open Market Committee.

…Most economists would agree that even if unanticipated inflation could reduce unemployment in the short run, any trade-off is tenuous and probably will last no more than a year. In the longer run, once expectations adjust to reality, the unemployment rate will move toward its natural rate, consistent with market forces — and there will be no permanent trade-off between inflation and unemployment. The Fed’s macro-prudential policy and its payment of interest on reserves are plugging up the monetary pipeline. Banks are not lending out the massive reserves that the Fed created out of thin air. The monetary transmission mechanism is broke. That’s why inflation remains low. Yet with ultralow interest rates, the Fed has engineered asset bubbles in the bond and stock markets. When rates start to increase, as they must, those bubbles will begin to deflate. It is time to rethink monetary policy and to banish the Phillips curve to the dustbin of history. To that end, the passage of the Centennial Monetary Commission Act of 2015 by the House Financial Services Committee opens the door for Congress to take up the legislation in September. A bipartisan commission to examine the Fed’s performance and to consider alternatives to pure discretion under a fiat money regime is overdue after more than 100 years.”, James A. Dorn, “The Fed’s Trade-Off between Inflation and Jobs Is a Myth”, Cato Institute, August 13, 2013

COMMENTARY

The Fed’s Trade-Off between Inflation and Jobs Is a Myth

By James A. Dorn

This article appeared on Investor’s Business Daily on August 13, 2015.

The idea that there’s a trade-off between inflation and unemployment seems embedded in the Federal Reserve’s psyche.

The Fed has not increased its benchmark federal funds target rate since 2006. It’s waiting to see if a tighter labor market will push up wages and prices, so the Fed can achieve both full employment and its inflation target of 2%.

The Fed’s adherence to a negatively sloped Phillips curve — predicting lower unemployment obtained by higher inflation — is a flawed model for monetary policy.

Indeed, money doesn’t even enter the analysis, because the implicit assumption is that inflation is caused not by too much money chasing too few goods but by higher wages (caused by a tight labor market) pushing up costs and prices.

“It is time to rethink monetary policy and to banish the Phillips curve to the dustbin of history.”

The Phillips curve mentality is evident in the following statement by Atlanta Federal Reserve President Dennis Lockhart:

“I think a policymaker has to act on the view that the basic (negative) relationship in the Phillips curve … will assert itself in a reasonable period of time as the economy tightens up.” He finds the logic of the Phillips curve “compelling.”

Most economists would agree that even if unanticipated inflation could reduce unemployment in the short run, any trade-off is tenuous and probably will last no more than a year.

In the longer run, once expectations adjust to reality, the unemployment rate will move toward its natural rate, consistent with market forces — and there will be no permanent trade-off between inflation and unemployment.

Hayek And Friedman Saw It

More important, the stagflation of the 1970s gave credence to the idea that the Phillips curve could be positively sloped with inflation and unemployment moving in the same direction. The positively sloped Phillips curve was foreseen by Nobel laureate economist Friedrich Hayek and anticipated by Milton Friedman in his 1976 Nobel lecture.

In 2002, William Niskanen, a former member of President Reagan’s Council of Economic Advisors, constructed a model to test the Phillips curve’s trade-off hypothesis. He found “no trade-off of unemployment and inflation except in the same year” and “in the long term, the unemployment rate is a positive function of the inflation rate.”

His policy recommendation was that “a monetary policy targeted to achieve a steady growth of aggregate demand at a zero inflation rate is also consistent with the lowest possible sustainable unemployment rate.”

If monetary policy is trapped by a false Phillips curve and by a naive belief in cost-push inflation, then the Fed risks significant forecast errors and misguided monetary policy.

With competitive labor markets and zero inflation, increases in productivity lead to higher real wages.

Meanwhile, excess growth of the quantity of money, engineered by the Fed, will lead to inflation and to higher nominal wages, but not to a permanent drop in the rate of unemployment or to a higher standard of living.

Indeed, variable and high inflation is apt to lead to higher unemployment, as it did in the 1970s.

Volcker Weighs In

When Fed Chairman Paul Volcker fought high inflation, he rejected outright the false short-run Phillips curve mentality. In 1981, he warned the Senate Committee on Banking, Housing and Urban Affairs:

“We will not be successful … in pursuing a full employment policy unless we take care of the inflation side of the equation. … I don’t think that we have the choice in current circumstances — the old trade-off analysis — of buying full employment with a little more inflation. We found out that doesn’t work.”

After six years of Fed stimulus, the growth of labor productivity is far below its long-term average, and economic growth is still sluggish. The U.S. needs to look beyond the Fed to create full employment and sustainable economic growth.

The loss of economic freedom — due to increased regulation, higher taxes and restrictions on trade — needs to be addressed along with the Fed’s increased powers following the 2008 financial crisis.

The Fed’s macro-prudential policy and its payment of interest on reserves are plugging up the monetary pipeline. Banks are not lending out the massive reserves that the Fed created out of thin air. The monetary transmission mechanism is broke.

That’s why inflation remains low. Yet with ultralow interest rates, the Fed has engineered asset bubbles in the bond and stock markets. When rates start to increase, as they must, those bubbles will begin to deflate.

It is time to rethink monetary policy and to banish the Phillips curve to the dustbin of history. To that end, the passage of the Centennial Monetary Commission Act of 2015 by the House Financial Services Committee opens the door for Congress to take up the legislation in September.

A bipartisan commission to examine the Fed’s performance and to consider alternatives to pure discretion under a fiat money regime is overdue after more than 100 years.

James A. Dorn is vice president for monetary studies and a senior fellow at the Cato Institute.

…and citizens in the bottom quartile earn less than 1/10^th this amount. I think the United States needs to take immediate steps to stem its decline in human freedom and get a lot higher on this index don’t you? By the way, I didn’t see Cuba on this list (my guess is they would be at or near the bottom), but here are some other countries (that are all well-known to be socialistic and fairly totalitarian/anti-democratic) and where they stand: #111 Russia, #132 China, #144 Venezuela, and in dead last #152 Iran!!!! (Really makes you feel good about negotiating a nuclear deal with a country ranked dead last in freedom, which included The Rule of Law!).” Mike Perry

Cato Headlines

United States Ranks 20th on New Human Freedom Index

The United States ranks 20th on a new index that presents the state of human freedom in the world. The Human Freedom Index (HFI) is the most comprehensive measure of freedom ever created for a large number of countries around the globe. “The
U.S. performance is worrisome and shows that the United Sta
tes can no long
er claim to be the leading bastion of liberty in the world,” said co-author Ian Vasquez. “In addition to the expansion of the regulatory state and drop in economic freedom, the war on terror, the war on drugs and the erosion of property rights due to greater use of eminent domain all likely have contributed to the U.S. decline.”

Human Freedom Index, by Ian Vásquez and Tanja Porčnik. Co-published by the Cato Institute, the Fraser Institute in Canada, and the Liberales Institut at the Friedrich Naumann Foundation for Freedom in Germany.

Will the Transatlantic Trade and Investment Partnership Live Up to Its Promise?

The Transatlantic Trade and Investment Partnership (TTIP) negotiations were launched to great fanfare in mid-2013 with the pronouncement that a comprehensive deal would be reached by the end of 2014 on a “single tank of gas.” But after more than two years and 10 rounds of negotiations, an agreement is nowhere in sight and substantive differences remain between the parties. What are the prospects for fulfilling the promise of a comprehensive trade and investment deal between the United States and the European Union?

“Will the Transatlantic Trade and Investment Partnership Live Up to Its Promise?,” Upcoming Cato Conference

Why the Federal Government Fails

Most Americans think that the federal government is incompetent and wasteful. What causes all the failures? A new study from Cato scholar Chris Edwards examines views on government failure, and outlines five key sources of federal failure. Edwards concludes that the only way to substantially reduce failure is to downsize the federal government: “Political and bureaucratic incentives and the huge size of the federal government are causing endemic failure. The causes of federal failure are deeply structural, and they will not be solved by appointing more competent officials or putting a different party in charge.”

“Why the Federal Government Fails,” by Chris Edwards

Going for Broke Michael D. Tanner Going for Broke: Deficits, Debt, and the Entitlement Crisis examines the growing national debt and its dire implications for our future and explains why a looming financial meltdown may be far worse than anyone expects.

The Libertarian Mind By David Boaz The Libertarian Mind is a comprehensive guide to the history, philosophy, and growth of the liberation movement, with incisive analyses of today’s most pressing issues and policies.

The Tyranny of Silence By Flemming Rose When the Danish newspaper Jyllands-Posten published the cartoons of the prophet Muhammad nine years ago, Denmark found itself at the center of a global battle about the freedom of speech. The paper’s culture editor, Flemming Rose, defended the decision to print the 12 drawings, and he quickly came to play a central part in the debate about the limitations to freedom of speech in the 21st century.

A Dangerous World? Threat Perception And U.S. National Security Edited by Christopher Preble and John Mueller The authors examine the most frequently referenced threats, including wars between nations and civil wars within nations, and discuss the impact of rising nations, weapons proliferation, general unrest, transnational crime, and state failures.

Bootleggers & Baptists By Adam C. Smith and Bruce Yandle Economists Bruce Yandle and Adam Smith explain how money and morality are often combined in politics to produce arbitrary regulations benefiting cronies, while constraining productive economic activities by the general public.

Upcoming Cato Events:

September 2, 2015
Race, Housing, and Education

September 9, 2015
Magna Carta and Modern Controversies from Multiculturalism to Political Correctness

September 17, 2015
14th Annual Constitution Day

September 24, 2015 to September 27, 2015
Cato Club 200 Retreat
The Cloister
Sea Island, GA
(By invitation only)

October 2, 2015
Fifty Years after Reform: The Successes, Failures, and the Lessons from the Immigration Act of 1965

October 12, 2015
Will the Transatlantic Trade Investment Partnership Live Up to Its Promise

October 23, 2015
Cato Institute Policy Perspectives 2015
Four Seasons – 2050 University Avenue, East Palo Alto, CA

November 5, 2015
Cato Institute Policy Perspectives 2015
Waldorf-Astoria – New York, 301 Park Avenue, New York, NY

November 12, 2015
33rd Annual Monetary Conference

December 2, 2015
Cato Institute Policy Perspectives 2015
The Drake – 140 East Walton Place, Chicago, IL

…There seemed to be, to take a charitable interpretation, that there were blind spots or confusion or, the most cynical interpretation, there was sort of willful blindness. What’s wrong with banking is that a lot of people are able to take risks and not be fully responsible and accountable for those actions. They can get away with doing things that are really inefficient and dangerous, somehow. And it works for them but it’s dangerous for the rest of us.”, Anat Admati being interviewed by Los Angeles Times reporter Dean Starkman, “Q&A: Anat Admati on ‘What’s Wrong With Banking and What to Do About It’”, August 13, 2015

“This Stanford professor is right. She is not a banking expert. I am though. As Chairman and CEO of IndyMac Bank, I was near the center of the crisis and I would bet that I have read more, studied more, and understood more than this professor has about the financial crisis and “what went wrong.” One thing we agree on, I am also no fan of the Too-Big-to-Fail banks. Let’s get a few things straight here. First, almost no one would take the risks they take in banking or any business for that matter, without the personal protections of the limited liability corporation. Without those protections, managers and owners would be very risk-averse, like most of us are with our own personal finances, and as a result our economy, its vibrancy, and the innovation and jobs it creates would be much smaller. That’s why we have limited liability companies and The Business Judgment Rule Ms. Admati. Ms. Admati is simplistically correct that the more equity that banks hold (as a percent of their assets) and less leverage they have, the safer they are, but she pretends (or maybe she is ignorant, given her lack of banking expertise?) there is no economic cost to this additional equity. That’s just not true. Shareholders of banks are going to demand a certain return on their invested capital (bank equity). Let’s say 8% to 12% or so, after-tax (pre-crisis, it was a lot higher than that). Big banks are struggling to meet these returns, at roughly 10% capital today. So as the requirement for bank equity grows from say 10%, to 20%, to 30% (as she suggests), banks will pay less interest on their deposits and charge more interest on their loans (because no one will invest in banks, if that 8% to 12% return is not maintained). The reality is that consumers and businesses that conduct business with banks will pay the cost of this increased equity capital (tens of billions, maybe a hundred billion or more, in cost every year). Former Federal Reserve Chairman in his 2009 (maybe it was 2010?) paper, The Crisis, said roughly the following: “Banking regulators like the Fed deliberately set pre-crisis bank capital requirements such that federally-insured banks would not have adequate capital to cover the once or twice-in-a-century financial crisis. As a result, the sovereign (the U.S. government) would have to step in and recapitalize its banks during that time.” Why would the U.S. banking regulators like the Fed and their counterparts around the world intentionally set bank capital requirements below the level required to cover the once or twice- in- a-century crisis (“flood”)? I explained why above. Let me say again. Because the federal banking regulators correctly believed that requiring private banks (which operate with federal deposit insurance) to hold capital, all the time, to protect against these very rare events, was too costly for bank borrowers, depositors, economic activity, and employment. That’s the reality Ms. Admati. (I believe I have shown how wrong and misleading Ms. Admati’s views about banks are and would be happy to debate her or anyone who agrees with her, any time.) So what’s the right capital level? My guess is about 10% equity, plus maybe 5% to 10% debt that automatically converts to additional equity (based on certain financial circumstances).” Mike Perry, former Chairman and CEO, IndyMac Bank

Q&A: Anat Admati on ‘What’s Wrong With Banking and What to Do About It’

Stanford professor Anat R. Admati: “The way assets are measured now pretends to be scientific, but the rules are designed in a flawed way.” (Peter DaSilva / For The Times)

By Dean Starkman

Anat R. Admati, a professor of finance and economics at Stanford’s business school, is an unlikely player in Washington’s financial reform scene.

The 58-year-old Israeli-born economist arrived at Stanford in 1983 with an interest in mainstream financial issues and a firm belief that markets — with their unique ability to assign a price to risk and channel capital to its most efficient use — were a powerful force for good.

The 2008 financial crisis upended that faith. She turned her gaze to the industry at the center of the crisis: banking.

Admati made waves on the national financial reform scene in 2013 with the book “The Bankers’ New Clothes: What’s Wrong With Banking and What to Do About It,” coauthored with economist and banking expert Martin Hellwig.

In conversational prose, the book patiently explains basic banking concepts and forcefully argues for a new paradigm of bank regulation, one that looks less at what banks do with their money and more at where their money comes from: Is it borrowed or their own?

She argues that requiring banks to rely more on shareholders’ money instead of borrowing funds would increase stability, harness market forces to deter risky behavior and lead to a smaller, safer system as banks pulled back on bets that didn’t make financial sense.

Her arguments have drawn fierce pushback from the banking industry, but got the attention of financial policymakers. They also earned her appointments to advisory committees to the Federal Deposit Insurance Corp. and the Commodity Futures Trading Commission, as well as an invitation last summer to the White House.

So what’s a bank to do? We recently caught up with Admati, and here’s an excerpt of our talk:

Why did you write “The Bankers’ New Clothes,” a book for the general public and not strictly for scholars?

We thought we had to. There was, I thought, a certain lack of engagement on the part of many academics, and it was disturbing to me that there was not enough serious discussion about what was going on.

I was not a banking expert, but after studying it, I found that a lot of policymakers and people commenting on it didn’t actually know what they were saying or were saying wrong things or misleading things.

There seemed to be, to take a charitable interpretation, that there were blind spots or confusion or, the most cynical interpretation, there was sort of willful blindness.

How did you get so involved in Washington financial policy circles?

From the beginning, I tried very hard to engage with anybody in Washington who would engage with me. It started by being appointed by Sheila Bair [then the FDIC chairwoman] to a committee in the spring of 2011, which just allowed me into the room at all. [Former Fed Chairman] Paul Volcker is on it. [Dartmouth economist] Peter Fisher is on it.

I met Senate staffers, then Sen. Sherrod Brown [D-Ohio] and other senators. Most of the people I met were Democrats, but there were also some Republicans, like David Vitter [of Louisiana]. So, like that. It was just developing, one person to another.

Then after the book came out, other people started paying a little more attention, and that’s how I got even invited to the White House.

So, what’s wrong with banking?

What’s wrong with banking is that a lot of people are able to take risks and not be fully responsible and accountable for those actions. They can get away with doing things that are really inefficient and dangerous, somehow. And it works for them but it’s dangerous for the rest of us.

People need to understand that the biggest banks are really, really big, by any measure. Just how much is a trillion? It’s an enormous number. They are larger than just about any corporation, so it’s not just big. It’s really very, very big.

It’s also the complexity and sort of breathless scope of what they do and just how much of it is opaque. It remains incredibly fragile as a system.

Why is a bank’s equity important?

Equity is like a down payment on a house. It’s money from shareholders, not borrowed, and that’s what most corporations live on primarily. Some corporations don’t borrow at all.

The question is, just how much reliance on debt should banks have?

Is it the same as bank capital, which we usually hear about?

Essentially, yes, but think of equity as the best form of capital. Capital is often misunderstood as a rainy day fund, money that sits on a shelf until it is needed to absorb losses. That’s false.

The word “capital” is one of the world’s most misunderstood words. When we talk about capital we think about machines.

But in banking, and only in banking, the word “capital” is meant to represent where the money comes from. And really what regulatory capital means is essentially money that’s unborrowed.

Capital requirements, boiled down, amount to a few percentage points of a bank’s total assets. What’s the right ratio?

Current requirements are ridiculous by any normal standards. A supposedly “harsh” regulation would be 5% of the total. Corporations just never ever live like that.

I talk about 20%-30% of assets, but what’s really complicated is how you measure assets. The way assets are measured now pretends to be scientific, but the rules are designed in a flawed way. I want simpler measures and for capital to be 20%-30% of the total.

Where would banks get all this capital?

Stop paying dividends, for one thing. If you just invest profits, you immediately have more money. That’s how Warren Buffett lives. He hardly ever pays out and just invests it back in the business.

If they don’t have profits or can’t raise equity by selling stock, then you have to wonder about their business model.

You’ve heard the argument many times from the finance industry: The more capital you require, the more you withhold from lending. It’s money taken out of the economy.

That’s ridiculous. That’s utter nonsense. You’re talking about where the money comes from, not what they can do with it. More capital does not constrain what they do. It just makes what they do safer for the rest of us.

…regulators may find it was too profitable at the expense of some protected minority class or other, as seen in the “disparate impact” crackdown on banks that provide wholesale backing for loans auto dealers make to their customers. If a bank takes on a new client, the bank can be liable if the client engages in a verboten transaction. As part of its settlement with Standard Chartered, the New York regulator insisted on being consulted on every new demand deposit (i.e., checking account) opened by the New York branch. You can bet New York isn’t taking responsibility for culling out worrisome customers but will jump on Standard Chartered with more fines if any turn up after the fact……So the biggest conflict of interest may be between the American people—their notions of freedom, their hopes of prosperity—and a regulatory state that increasingly operates to benefit itself.”, Holman W. Jenkins, Jr., “Willie Sutton Could Have Been a Regulator”, The Wall Street Journal, August 15, 2015

Opinion

Willie Sutton Could Have Been a Regulator

A New York contretemps shows how the war on the banks has become a revenue shakedown.

By Holman W. Jenkins, Jr.

Conflicts of interest are endemic to professional life. How professionals deal with them is what makes them professionals. But that’s just the beginning of a story that has banking circles in New York buzzing. The episode suggests just how much bank bashing has become a fiscal racket.

Did a prominent, politically connected advisory firm, Promontory Financial Group, go easy on its client bank, Britain’s Standard Chartered? Promontory had been hired by the bank’s outside lawyers to help comply with an Iran sanctions-busting investigation. In emails produced by New York regulators, Promontory is seen changing wording of its final report after objections from the bank. One email says “the most important thing is that we get to the end of the project without jeopardizing our relationship” with the client.

Then again, such glimpses inside the sausage factory can be overinterpreted. Standard Chartered was the client; it had a right to be consulted. And, at the end of the day, Promontory’s work did help to produce what would become nearly $1 billion in fines and settlements paid by the bank.

But another kind of conflict of interest may be implicated. New York’s Department of Financial Services was investigating Promontory for two years. Negotiations reportedly broke down over Promontory’s unwillingness—along with paying a penalty—to acknowledge wrongdoing and accept a suspension of its ability to work with New York clients. (Reputation is important to such firms.)

Benjamin Lawsky, former superintendent of the New York State Department of Financial Services. Photo: Mike Groll/Associated Press

That’s when the New York agency issued an official yet informal report citing vague derelictions and effectively banning Promontory from business in New York by prohibiting local banks from sharing non-public documents with the advisory firm. This action came barely one month after the agency’s flamboyant chief, Benjamin Lawsky, who launched the investigation, left to create his own private consulting firm to compete with Promontory.

There’s more: Mr. Lawsky is a protégé of New York’s ambitious Gov. Andrew Cuomo. Mr. Cuomo created the New York Department of Financial Services, appointed Mr. Lawsky to head it, and publicly delighted in the $5 billion revenues Mr. Lawsky’s aggressive enforcement generated.

Promontory is run by Eugene Ludwig, connected to a rival power center in the Democratic Party—he was Bill Clinton’s law-school classmate and a top U.S. bank regulator in the Clinton administration.

Now you know why banking CEOs and lawyers in New York are in full gossip mode. The battle here smacks at least partly of rival networks of Democratic fixers fighting over a regulatory protection racket.

Regulatory actions against banks began in response to public demand for villains after the 2008 financial crisis. Now they have morphed into institutionalized revenue grabs. Every few months seems to come another “settlement” of real or imagined sins, in which billions are transferred from bank shareholders to the federal government and state treasuries. Gov. Cuomo himself has jokingly called the windfalls “a gift from above.”

Along the way, lesser sums land in the pockets of lawyers and revolving-door fixers who attend the racket, not to mention the campaign kitties of influential legislators. Promontory, with its retinue of advisers including Securities and Exchange Commission ex-chiefs Arthur Levitt Jr. and Mary Schapiro, is said to have earned $54.5 million for its work with Standard Chartered. Maybe this figure caught Mr. Lawsky’s eye when he decided to hang out his own shingle.

All this will seem impossibly weedy to some, but banking is risk-taking; without risk-taking, there is no investment and no growth. Bureaucratic overkill inevitably has become a factor in our slow-growth recovery.

If a bank makes a loan and the loan goes bad, regulators may come with charges of fraud. If a bank makes a loan and the loan doesn’t go bad, regulators may find it was too profitable at the expense of some protected minority class or other, as seen in the “disparate impact” crackdown on banks that provide wholesale backing for loans auto dealers make to their customers.

If a bank takes on a new client, the bank can be liable if the client engages in a verboten transaction. As part of its settlement with Standard Chartered, the New York regulator insisted on being consulted on every new demand deposit (i.e., checking account) opened by the New York branch. You can bet New York isn’t taking responsibility for culling out worrisome customers but will jump on Standard Chartered with more fines if any turn up after the fact.

So the biggest conflict of interest may be between the American people—their notions of freedom, their hopes of prosperity—and a regulatory state that increasingly operates to benefit itself.