Bloggers Mugged by Regulators
The FTC wants to police book reviews on Twitter.

By L. GORDON CROVITZ

There's a saying that a neoconservative is a liberal who has been mugged by reality. We've now learned that bloggers mugged by regulators become economic libertarians.

Earlier this month, the Federal Trade Commission issued its "Guides Concerning the Use of Endorsements and Testimonials in Advertising," last updated in 1980. These rules historically regulated what celebrity endorsers can say and how advertisers can use research claims.

This time the agency decided that regulations covering "endorsements and testimonials" should apply to people commenting on product or services, such as reviewing the latest gadgets or fashions, through blogs, Facebook posts and Twitter updates. The blogosphere erupted.

The guidelines require people to disclose online if they have what the FTC vaguely defines as "material connections" with the sellers of a product or service. This could include getting free samples on which they base comments or reviews. Bloggers objected to the double standard that exempts traditional media from the rules—many newspapers, magazines and broadcasters accept free books and other products for their reviewers.

Bloggers are for more transparency—it's only ethical to disclose products provided free—but argue that their activities are squarely in the realm of speech, not commerce. The guidelines are "an attack on markets and free speech, based on a 20th Century notion of media and advertising that simply doesn't map to the new era," Dan Gillmor posted on his technology blog. "The advertising of the past was a one-to-many system. Call it broadcasting. The Internet is a many-to-many system. Call it conversation. They are not the same."

Or as blogger Jeff Jarvis posted, "For the FTC to go after bloggers and social media—as they explicitly do—is the same as sending a government goon into Denny's to listen to the conversations in the corner booth and demand that you disclose that your Uncle Vinnie owns the pizzeria whose product you endorsed."

There are also practical objections. For example, if you get a free copy of a book and then post a comment about it on Twitter, how many of the permitted 140 characters must be dedicated to the disclosure? Do employees of a company have to disclose the fact of their employment every time they comment on its products through their personal Facebook accounts?

The reaction to the regulations was so strong that last week the FTC tried to step back. The agency said it planned to bring actions against companies as advertisers, not against bloggers or individuals. But the draft rules cover anyone who comments on products and fails to disclose a relationship, even getting a free CD or music download and then commenting on the song.

Randall Rothenberg, head of the Interactive Advertising Bureau, wrote a cheeky open letter to FTC head Jon Leibowitz titled "Chairman Leibowitz, Tear Down This Blogger Wall!" He said the regulations are based on a view that "opinions published by individuals have less protection than speech promulgated by large corporations; that 'traditional' distribution channels deserve more protection than innovative online channels; and, finally, that the Internet, the cheapest, freest, most accessible communications medium ever invented, should have less freedom than other media."

There should be more disclosure, but the Web is different from earlier media in ways that make government regulation less relevant and practical. The Web has its own self-regulatory mechanisms. Failing to disclose interests sullies one's reputation online, and reputation harm travels faster and lasts longer than it did before the Web.

There's also greater need for caveat emptor online, because there is no practical way that any government agency can monitor the world's bloggers and posters. There will always be people who post comments about products and services that are self-serving in one way or another, at least by someone's definition.

This is why independent brands that stand for objectivity continue to flourish. ConsumerReports.org has more than three million paying subscribers even with—especially with?—the many free product reviews posted by consumers online. Many of the most consistently popular bloggers have likewise earned reputations for operating with full transparency, which contributes to their popularity.

Instead of trying to extend analog-era regulations onto the Web, the FTC should encourage readers to be vigilant about assessing for themselves the independence of sources online. At least we now know the biggest fraudulent claim so far on the Web: It's been committed by regulators claiming there can be a government stamp of approval on everything anyone posts anywhere on the Web.

Galleon Group, the hedge-fund firm at the center of the biggest insider-trading case in decades, pushed its traders so hard to get market-moving information that those who failed were frequently berated or pushed out, former employees and people familiar with Galleon said.

Co-founded by Raj Rajaratnam, Galleon is among Wall Street's biggest traders and has a web of contacts among technology and health-care executives, some of whom have been investors in the firm's hedge funds.

Parts of that network appear to have turned on the billionaire investor. Three former colleagues of Mr. Rajaratnam secretly are bolstering the government's probe, say people familiar with the criminal investigation.

ObamaCare's Tax on Work

Middle-income families will face a big marginal rate increase.

None of the new distortions that the Senate health-care bill will layer onto the already-distorted tax code have received the attention they deserve, but in particular its effects on marginal tax rates could use scrutiny. Incredibly, for those with lower incomes, ObamaCare will impose a penalty as high as 34% on . . . work.

Central to Max Baucus's plan—assuming the public option stays dead—is an insurance "exchange," through which individuals and families could choose from a menu of standardized policies offered at heavily subsidized rates, provided that their employers do not offer coverage. The subsidies are distributed on a sliding scale based on income, and according to the Congressional Budget Office 23 million people will participate a decade from now, at a cost to taxpayers of some $461 billion.

Think about a family of four earning $42,000 in 2016, which is between 150% and 200% of the federal poverty level. CBO says a mid-level "silver" plan will cost about $14,700 in premiums, of which the family will pay $2,600—since the government would pay the other $12,100. If the family breadwinner (or breadwinners, because the subsidies are based on combined gross income) then gets a raise or works overtime and wages rise to $54,000, the subsidy drops to $9,900. That amounts to an implicit 34% tax on each additional dollar of income.

Or consider a single worker earning $20,600 and buying an individual "silver" policy with a premium at $5,000. Again according to CBO, if his income rises to $26,500, his subsidy plummets to $2,700 from $4,400 (including a cost-sharing subsidy that goes away). This is a 29% marginal tax; moving to other income levels yields increases in the neighborhood of 20% to 23% for both individuals and families. Jim Capretta, a fellow at the Ethics and Public Policy Center, calculates that when combined with other policies like the Earned Income Tax Credit that also phase out, the effective marginal rate would rise to nearly 70% at twice the poverty level.

The incentives for low-wage workers are especially perverse. The exchanges give them a huge break and then take it away gradually as their income goes up. Usually such phase-outs are used to make sure "the rich" don't benefit from IRS dispensations, but here they will have a giant effect on decisions about whether and how much to work, since each additional hour worked reduces the subsidy.

As CBO noted in a July health brief, "Higher [marginal] tax rates also reduce people's incentive to raise their income in other ways, such as working harder in the hope of winning raises; accepting new positions or responsibilities with higher compensation; or investing in their future earning capacity through education, training or other means." This disincentive effect will be especially hard on workers in the middle of their careers and who may not see the same potential for upward mobility as younger workers, but who could earn more through work and effort.

These marginal rate "cliffs" are also a sneaky way for Congress to lower the "scorable" cost of the bill without appearing to do so, because diminishing these rate hikes would boost the total cost of the subsidy. For the same reason, the subsidy is only extended to certain favored people, making it deeply unfair to those not allowed into the exchanges. Families earning identical amounts of money could pay wildly different taxes—a family earning $42,000 and getting insurance through an employer wouldn't receive close to $12,100 from the current tax exclusion for employer-sponsored coverage—while some families earning more money than others will pay significantly lower taxes.

This is an equity catastrophe waiting to happen—and senior Democrats know it. They're laying a political booby-trap that will transfer even more health spending to government after ObamaCare passes.

A far better and cleaner alternative would be to extend the same tax exclusions to individuals that employees receive if they get coverage from their employers. The current bias for one type of insurance has persisted for decades despite its unfairness and irrationality. But ObamaCare will keep all that, while in the process creating many new problems.

Russia Worries About the Price of Oil, Not a Nuclear Iran

The Obama administration's foreign-policy goodwill has yet to be repaid in kind.

GARRY KASPAROV

Last Wednesday in Moscow, the remaining illusions the Obama administration held for cooperation with Russia on the Iranian nuclear program were thrown in Secretary of State Hillary Clinton's face. Stronger sanctions against Iran would be "counterproductive," said Russian Foreign Minister Sergei Lavrov, just days after President Dmitry Medvedev said sanctions were likely inevitable. This apparent inconsistency should remind us that Mr. Medvedev is little more than a well-placed spectator, and that Prime Minister Vladimir Putin, who discounted sanctions in a statement from Beijing, is still the voice that matters.

This slap comes after repeated concessions—canceling the deployment of missile defenses in Eastern Europe, muted criticism of Russia's sham regional elections—from the White House. Washington's conciliatory steps have given the Kremlin's rulers confidence they have nothing to fear from Mr. Obama on anything that matters.

And nothing matters more to Mr. Putin and his oligarchs than the price of oil. Even with oil at $70 a barrel, Russia's economy is in bad straits. Tension in the Middle East, even an outbreak of war, would push energy prices higher. A nuclear-armed Iran would, of course, be harmful to Russian national security, but prolonging the crisis is beneficial to the interests of the ruling elite: making money and staying in power.

The Obama administration's foreign policy has directed a great deal of optimism and good will toward friends and foes. Such a cheery outlook is commendable as long as it does not clash with reality. Unfortunately, there were several clashes in the past week.

On Wednesday, a top Russian security chief, Nikolai Patrushev, said in an interview in Izvestia, one of the main Kremlin propaganda papers, that Russia was planning to reshape its policies on nuclear force to allow for pre-emptive strikes and use in regional conflicts. Since it cannot be a coincidence that this news leaked while Mrs. Clinton was still in Moscow, it can be considered a response to Mr. Obama's talk of a world without nuclear weapons and rescinding the deployment of missile defenses.

Also last week, Lt. Gen. Vladimir Shamanov was cleared of wrongdoing for dispatching a squad of his paratroopers to interfere with the criminal investigation of a firm owned by his son-in-law. Transcripts of the general's phone calls demonstrating his involvement were published in Novaya Gazeta newspaper, the last print outlet critical of the Kremlin. But this was not enough to cause trouble for this idol of the second Chechen war, where his forces were repeatedly accused by Human Rights Watch and other organizations of atrocities against civilians.

Then there was the spectacle of Russia's regional elections. They were as fraudulent and superfluous as every election under Mr. Putin's reign, with real opposition candidates barred and the ruling United Russia party receiving its predetermined majority. This time the fraud was too blatant even for Kremlin-allowed opposition party leaders Alexander Zhirinovsky and Gennady Zyuganov, who loudly protested results that have moved Russia to the verge of a one-party dictatorship. Mr. Medvedev asserted that the elections had gone perfectly well. Meanwhile, the U.S. statement expressed the usual concerns and quoted President Medvedev's own words on the importance of free and fair elections—as if he would be shamed by them.

From the shameless expect no shame. And from a corrupt and criminal regime, expect no changes unless real consequences are put on the table. With Russia, this would mean going after Mr. Putin's coterie of oligarchs and hitting them where it hurts: their privileges and their pocketbooks. If the European Union and the U.S. started canceling visas and prying into finances, they would find the Kremlin far more interested in sanctions against Iran. Mr. Putin has used human rights and democracy as bargaining chips because these things matter to the West and not to him. Until the game is played for stakes with value to the Kremlin, it's a one-sided contest.

If the U.S. is serious about preventing Iran from getting a nuclear weapon, then Mr. Obama must get to the point and state the penalties unequivocally. Repeating over and over that it is "unacceptable" has become a joke. For more than 10 years a nuclear North Korea was also "unacceptable." If Mr. Obama says the U.S. will do whatever it takes to prevent Iran from attaining a nuclear weapon, then we will see if Tehran blinks. At a minimum, the White House should publicly promise that any attack on Israel with weapons of mass destruction will be treated as an attack on American soil and urge NATO to make a similar commitment.

Like many Russians, I was encouraged by Mr. Obama's inspirational speech in Moscow last July, but he must know there is more to statesmanship than printing money and making speeches. Inflated rhetoric, like inflated currency, can lead to disaster. The goodwill bubble Mr. Obama is creating will burst unless there are real results soon.

Mr. Kasparov, leader of The United Civil Front, is a contributing editor of The Wall Street Journal.

The Insider Trading Arrests

Prosecutors suggest they're treating hedge funds like the mob.

"This is not a garden-variety insider trading case," said U.S. Attorney Preet Bharara on Friday about his arrest of five men and a woman for insider trading. Yet that is precisely what it appears to be, albeit involving more money and more prominent executives than is usually the case. The evidence released so far most closely resembles the Ivan Boesky scam of two decades ago, in which the model for Gordon Gekko profited from insider information. This is not another Madoff fraud perpetrated on innocent and unsuspecting investors.

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Associated Press

Raj Rajaratnam, billionaire founder of the Galleon Group, is led in handcuffs from FBI headquarters in New York Friday, Oct.16, 2009.

The most arresting part of the case is the prominence of the alleged conspirators, led by fund manager Raj Rajaratnam, and including executives at a well known hedge fund and employees at Intel, IBM and McKinsey. (A tipster from Moody's is mentioned in the complaint but hasn't been charged). Mr. Rajaratnam founded the Galleon Group and made himself rich as he became a leading technology investor.

Why a purported billionaire would want to risk all of that for insider trades that prosecutors say yielded some $20 million in total gains is a mystery that we assume further evidence will explain. Perhaps it is as simple as trying to maintain high returns for his fund, though it's worth noting that the allegedly illegal trades go back to 2006, when markets were still buoyant. Mr. Rajaratnam's lawyer says his client is innocent.

Mr. Bharara made much of the fact that the case was broken with the help of wiretaps, which are more typically used against the mob or terrorists. The U.S. attorney's implication is that Wall Street ought to watch out because prosecutors are now treating hedge funds like the mafia. This will play well politically given the public's anti-Wall Street mood, yet probable cause to justify the wiretaps seems to have been provided thanks to the oldest method in law enforcement—a so far unidentified informant who once worked at Galleon.

As is often the case with such charges, the snippets of wiretapped conversations released by prosecutors certainly look incriminating. Danielle Chiesi, one of the defendants and a portfolio manager at the New Castle Partners LLC hedge fund, is alleged to have told an unnamed alleged co-conspirator that "I swear to you in front of God . . . You put me in jail if you talk." People who have nothing to hide typically don't say they'll be "dead if this leaks."

Information is the lifeblood of professional stock trading, and the kind that most people exchange is entirely legal. We will be looking in particular to see in the coming weeks how intimately the men from Intel, IBM and McKinsey were involved in the alleged conspiracy. We remember from the Boesky case that prosecutors weren't above interpreting ambiguous statements as proof of criminal intent.

A longstanding and highly successful IBM executive such as Robert Moffat—said to be a possible CEO candidate—has far more to lose from participating in such a trading ring than the modest profits he might have made. The legal definition of insider trading has also proven to be elastic and ambiguous over the years, which is another reason that the details in this case bear scrutiny. While the Boesky prosecution became part of Wall Street legend due to the Oliver Stone movie, some of the original indictments were later dropped.

Another curiosity about this case is that Galleon had voluntarily chosen to register as a hedge fund with the Securities and Exchange Commission. Yet the SEC did not say in its statement on Friday whether its audits of Galleon had anything to do with the alleged fraud's detection. The pattern in such cases is that fraud is rarely, if ever, detected by regulators unless someone participating in the fraud comes forward and starts singing.

When Wall Street and business are as politically unpopular as they are now, the media temptation is to chalk up every indictment to "greed" and assume prosecutors are always right. In this case they may be right, but when political calls for scalps are in the air is precisely when the rest of us should reserve judgment until they prove it in court.

Mexico's Calderón Takes on Big Labor
Its state-owned electricity company was bleeding the national treasury dry.

By MARY ANASTASIA O'GRADY

Big Labor is the big reason Barack Obama is in the White House. And from new import tariffs on tires made in China to the government's restructuring of Chrysler that put the union ahead of senior creditors, the shop bosses already have a nice return on their investment. Even so, all indications are that this first nine months' work is merely a down payment.

One sign that there is more to come is the administration's decision to bulk up on corporatists—those central planners who see a "pact" among business, labor and government as the final solution to the riddle about how to divide up society's pie. For proof that Mr. Obama is now channeling his inner peronista, look no further than his decision to bring Ron Bloom, a labor lawyer for the United Steel Workers, into the White House to run "manufacturing policy."

The Mexican Union of Electricians protests the government's decision to liquidate the state-owned electricity company in Mexico City.

If Mr. Obama succeeds in turning the U.S. economy over to organized labor, the American dream is going the way of the dodo. But don't take my word for it. Just look at countries that have been there and done that and are now struggling to go in the opposite direction because they are tired of being poor.

Eight days ago, just after midnight on a Sunday morning, Mexican President Felipe Calderón instructed federal police to take over the operations of the state-owned electricity monopoly, Luz y Fuerza del Centro (LyFC), which serves Mexico City and parts of surrounding states. The company's assets will stay in the hands of the government but will now be run by the Federal Electricity Commission (CFE), a national state-owned utility and the major supplier of LyFC's energy.

The net effect of the move is to dethrone 42,000 members of the Mexican Union of Electricians, which had won benefits over the decades to make Big Three auto workers in Detroit blush. When the liquidation is complete, it is expected that the company will employ about 8,000. To appreciate the magnitude of Mr. Calderón's decision, think of Ronald Reagan's firing of the air traffic controllers—only bigger. As one internationally renowned Mexican economist remarked on Sunday, it is "the most important act of government in 20 years."

Why is it such a big deal? For starters, because the Mexican political system, since the Revolution of 1910, has been dominated by the power of organized labor. In Mexico's corporatist theology, the people are taught to worship the State, and the State bows to the union bosses, who symbolize economic nationalism.

Somewhere in this idealism is the promise to elevate workers, as Diego Rivera envisioned in his anticapitalist murals featuring masses of clenched fists. Yet all Mexican corporatism ever did was make the country poorer. The most famous example of this is the state-owned oil monopoly, which thanks to union rule is incapable of monetizing the millions of barrels of black gold it sits on. LyFC is an equally good example of how unionism has been destroying Mexico's future.

The union at LyFC is one of Mexico's oldest and politicians have long understood that they must never, ever touch its privileges. Yet its reputation for inefficiency, waste and corruption is legendary. In the mid-1970s, President Luis Echeverría tried to liquidate the company and put its assets under the control of its supplier, CFE, but organized labor defeated him. After that no president dared—until last week.

What drove Mr. Calderón to take such radical action is not hard to fathom. LyFC losses were mounting because the union's productivity is a fraction of that of CFE and because the company balance sheet has been hemorrhaging due to technical problems as well as electricity theft. Its costs were twice its revenues, and this year the treasury (Hacienda) would have had to subsidize it to the tune of $3.5 billion to keep it above water. Hacienda points out that CFE operates without any subsidy and with the same rates for customers.
The Americas in the News

Get the latest information in Spanish from The Wall Street Journal's Americas page.

What is more, LyFC has become a power fiasco. The company is infamous for service interruptions and voltage irregularity, and it has not been able to meet rising demand. Mexican hopes for improving living standards depend on new business investment. That's not going to come if the electricity infrastructure is stuck in the mid-20th century.

The union was out in the street in full force last week, and it says it will fight the liquidation in court. The administration contends that the company was founded by executive decree and can be extinguished the same way. But Mr. Calderón may also find popular support for his decision. The union had become so powerful that it won an agreement to have pensions go up at twice the rate of salary increases.

Politicians undoubtedly found such generosity to be the path of least resistance. But now the bill has come due, and the rest of the country doesn't want to pay it. There's a lesson here somewhere for Mr. Obama.

Obama to Negotiate With Wildfire

October 13, 2009 by Mike ·

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Hat tip Dean Esmay.

Boudreaux Wins Szasz Award

by Sheldon Richman

Freeman columnist and George Mason University economics professor Donald Boudreaux has won the 2009 Thomas Szasz Award for Contributions to the Cause of Civil Liberties. The Szasz Award committee recognized Boudreaux for his many years of promoting freedom in all its aspects through his writing and lecturing.

Boudreaux, who was FEE’s president from 1997 to 2001, won the general award. This year’s winner of the professional award is Thomas Greening, PhD, a longtime associate of Szasz and promoter of his work.

The winners receive a plaque and $1,000.

For more than five decades, Szasz, also a Freeman columnist, has distinguished himself as the preeminent defender of individual rights in the fields of psychiatry and psychology. He has remained a steadfast champion of the classical-liberal values of voluntary interaction, the rule of law, and an open society. His struggle on behalf of civil liberties has been indefatigable, sustained despite intense opposition over a lifetime of brilliant intellectual accomplishment.

On the ‘Asian Miracle’

by Don Boudreaux

Here’s a letter that I sent yesterday to a local D.C. radio station:

After your report on Thursday afternoon on the continuing growth of Chinese exports, you interviewed an ‘expert’ who asserted that East Asian economic success of the past several decades is the result of “pragmatic industrial and trade policies” pursued by governments in that region. This gentleman added that America would experience similar success were it not for our “stubborn free-market ideology” whose proponents “ignore facts.”

I see. Perhaps the quotation below is from one of those fact-ignoring free-marketeers:

“The realities of East Asian growth suggest that we may have to unlearn some popular lessons. It has become common to assert that East Asian economic success demonstrates the fallacy of our traditional laissez-faire approach to economic policy and that the growth of these economics shows the effectiveness of sophisticated industrial policies and selective protectionism. Authors such as James Fallows have asserted that the nations of that region have evolved a common ‘Asian system,’ whose lessons we ignore at our peril. The extremely diverse institutions and policies of the various newly industrialized Asian countries, let alone Japan, cannot really be called a common system. But in any case, if Asian success reflects the benefits of strategic trade and industrial policies, those benefits should surely be manifested in an unusual and impressive rate of growth in the efficiency of the economy. And there is no sign of such exceptional efficiency growth.”

These words were written by that infamous apostle of Milton Friedman, Paul Krugman.*

Sincerely,
Donald J. Boudreaux

* Paul Krugman, “The Myth of Asia’s Miracle,” Foreign Affairs, Nov./Dec. 1994; reprinted in Paul Krugman, Pop Internationalism (MIT Press, 1996), pp. 167-187. The quotation in the letter is on page 184. (By the way, I highly recommend this Krugman book; it is superb on many counts.)

The Real Jobs Threat

A Stimulus for Hill Democrats' Fortunes?

GEORGE WILL

As Harvard's president, Larry Summers, economist and former Treasury secretary, was a lion in a den of Daniels. The faculty Daniels, their tender feelings hurt by his occasional testiness, cowered together and declared him a meanie. Facing a faculty vote of no confidence, he resigned.

Now he is Barack Obama's principal economic adviser. So, weary of John Boehner, leader of House Republicans, dwelling on rising unemployment, Summers sent him a letter. In it he said, as Obama and his minions so consistently do, something that may be the text of this year's White House Christmas card: At least we are not George Bush, so there.

Summers said Obama "is committed to not repeating the fiscal mistakes of the last eight years." The letter, like its author, is trenchant and intelligent. He notes that job creation was much better during the eight Clinton years -- an average of 225,000 per month -- than between November 2001, the end of the last recession, and December 2007, the beginning of this one, when the monthly average was just 94,000. And Summers tartly reminds Boehner that in 2003 the Republican-controlled Congress passed a prescription drug entitlement "that was not offset by either spending cuts or tax increases" and that in its first decade will cost more than $1 trillion, including interest on the necessary borrowing.

But speaking of unfunded medical entitlements: The furrowed Washington brows that currently express faux puzzlement about how the health-care entitlement -- aka "reform" -- will be paid for are theatrical. There is no mystery. The new entitlement will be paid for, to a significant extent, the way much of government is paid for -- by borrowing from China.

Republicans are operatic when they pretend to take seriously, in order to wax indignant about, the Democrats' professed plan to partially pay for Sen. Max Baucus's version of reform by cutting at least $400 billion from Medicare. Supporters of the Baucus bill are guilty of many things but not, regarding such cuts, of sincerity. Congress regularly vows to make Medicare cuts, and as regularly defers them.

Today, Washington routinely speaks of trillions, as in: This year's trillion-dollar deficit. And the $9 trillion in projected deficits over 10 years. And the upwards of $1.8 trillion that Baucus's "$829 billion plan" would actually cost in the first 10 years (2014-23) in which its provisions would be fully operational. But the number from which Washington flinches is precisely 999,999,999,997 less than a trillion. It is: 3.

Many Democrats believe that rising unemployment means the nation needs a "second" stimulus -- but one they could call something other than a stimulus because it would be the third. The first was passed in February 2008, two months after the recession began. Its $168 billion tax rebate failed to stimulate because overleveraged Americans perversely saved much of it.

Admitting that the first stimulus existed would complicate the task of justifying a third one, given that the second one -- the $787 billion extravaganza that galloped through Congress in February -- has not been the success its advocates said it would be. The administration predicted that if Stimulus II were passed, unemployment would not go above 8.5 percent. On CNN on Feb. 9, Summers was asked how soon Americans would "feel results, the creation of jobs." Summers answered, "You'll see the effects begin almost immediately," starting with "layoffs that otherwise would have happened." Summers's formulation resembled various presidential statements, such as his goal "to create or save" 600,000 jobs in 100 days and up to 4 million jobs by 2010, and the statement that as of June, Stimulus II had "created and saved" 150,000 jobs.

Assertions that things would be much worse if Stimulus II had not been passed cannot be refuted because they are based on bald claims about numbers of jobs "saved." Because those cannot be quantified, the assertions are unfalsifiable and analytically unhelpful. They are, perhaps, helpful to the administration by blurring the awkward fact that since Stimulus II was passed, the unemployment rate has risen from 8.1 percent to 9.8 percent and probably soon will pass 10 percent.

But one-quarter of Stimulus II will be spent this year. Another quarter will be spent in 2011. Half will be spent in 2010, an election year. Which suggests that Stimulus II is, and Stimulus III would be, primarily designed to save a few dozen jobs -- those of Democratic members of the House and Senate.

2009 federal deficit surges to $1.42 trillion

(AP) Graphic shows federal debt held by public as percentage of GDP
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WASHINGTON (AP) - What is $1.42 trillion? It's more than the total national debt for the first 200 years of the Republic, more than the entire economy of India, almost as much as Canada's, and more than $4,700 for every man, woman and child in the United States.

It's the federal budget deficit for 2009, more than three times the most red ink ever amassed in a single year.

And, some economists warn, unless the government makes hard decisions to cut spending or raise taxes, it could be the seeds of another economic crisis.

Treasury figures released Friday showed that the government spent $46.6 billion more in September than it took in, a month that normally records a surplus. That boosted the shortfall for the full fiscal year ending Sept. 30 to $1.42 trillion. The previous year's deficit was $459 billion.

As a percentage of U.S. economic output, it's the biggest deficit since World War II.

"The rudderless U.S. fiscal policy is the biggest long-term risk to the U.S. economy," says Kenneth Rogoff, a Harvard professor and former chief economist for the International Monetary Fund. "As we accumulate more and more debt, we leave ourselves very vulnerable."

Forecasts of more red ink mean the federal government is heading toward spending 15 percent of its money by 2019 just to pay interest on the debt, up from 5 percent this fiscal year.

President Barack Obama has pledged to reduce the deficit once the Great Recession ends and the unemployment rate starts falling, but economists worry that the government lacks the will to make the hard political choices to get control of the imbalances.

Friday's report showed that the government paid $190 billion in interest over the last 12 months on Treasury securities sold to finance the federal debt. Experts say this tab could quadruple in a decade as the size of the government's total debt rises to $17.1 trillion by 2019.

Without significant budget cuts, that would crowd out government spending in such areas as transportation, law enforcement and education. Already, interest on the debt is the third-largest category of government spending, after the government's popular entitlement programs, including Social Security and Medicare, and the military.

As the biggest borrower in the world, the government has been the prime beneficiary of today's record low interest rates. The new budget report showed that interest payments fell by $62 billion this year even as the debt was soaring. Yields on three-month Treasury bills, sold every week by the Treasury to raise fresh cash to pay for maturing government debt, are now at 0.065 percent while six-month bills have fallen to 0.150 percent, the lowest ever in a half-century of selling these bills on a weekly basis.

The risk is that any significant increase in the rates at Treasury auctions could send the government's interest expenses soaring. That could happen several ways - higher inflation could push the Federal Reserve to increase the short-term interest rates it controls, or the dollar could slump in value, or a combination of both.

The Congressional Budget Office projects that the nation's debt held by investors both at home and abroad will increase by $9.1 trillion over the next decade, pushing the total to $17.1 trillion decade under Obama's spending plans.

The biggest factor behind this increase is the anticipated surge in government spending when the baby boomers retire and start receiving Social Security and Medicare benefits. Also contributing will be Obama's plans to extend the Bush tax cuts for everyone except the wealthy.

The $1.42 trillion deficit for 2009 - which was less than the $1.75 trillion that Obama had projected in February - includes the cost of the government's financial sector bailout and the economic stimulus program passed in February. Individual and corporate income taxes dwindled as a result of the recession. Coupled with the impact of the Bush tax cuts earlier in the decade, tax revenues fell 16.6 percent, the biggest decline since 1932.

Immense as it was, many economists say the 2009 deficit was necessary to fight the financial crisis. But analysts worry about the long-term trajectory.

The administration estimates that government debt will reach 76.5 percent of gross domestic product - the value of all goods and services produced in the United States - in 2019. It stood at 41 percent of GDP last year. The record was 113 percent of GDP in 1945.

Much of that debt is in foreign hands. China holds the most - more than $800 billion. In all, investors - domestic and foreign - hold close to $8 trillion in what is called publicly held debt. There is another $4.4 trillion in government debt that is not held by investors but owed by the government to itself in the Social Security and other trust funds.

The CBO's 10-year deficit projections already have raised alarms among big investors such as the Chinese. If those investors started dumping their holdings, or even buying fewer U.S. Treasurys, the dollar's value could drop. The government would have to start paying higher interest rates to try to attract investors and bolster the dollar.

A lower dollar would cause prices of imported goods to rise. Inflation would surge. And higher interest rates would force consumers and companies to pay more to borrow to buy a house or a car or expand their business.

"We should be desperately worried about deficits of this size," says Mark Zandi, chief economist at Moody's Economy.com. "The economic pain will be felt much sooner than people think, in the form of much higher interest rates and much higher rates of inflation."

If all that happened rapidly, it could send stock prices crashing and the economy tipping into recession. It could revive the pain of the 1970s, when the country battled stagflation - a toxic mix of inflation and economic stagnation.

Paul Volcker, then the chairman of the Federal Reserve, responded by raising interest rates to the highest levels since the Civil War in a determined effort to combat a decade-long bout of inflation. His campaign pushed banks' prime lending rate above 20 percent in 1981 and sent the country into what would be the longest post-World War II downturn before the current slump. Unemployment jumped to a postwar high of 10.8 percent in December 1982.

The battle against inflation, though, was won.

Most economists say we have time before any crisis hits. In part, that's because the recession erased worries about inflation for now. In its effort to stimulate the economy, the Fed cut a key interest rate to a record low last December and is expected to keep it there possibly through all of next year. Demand for loans by businesses and consumers is so weak that low rates are not seen as a recipe for inflation.

Some hold out hope that Congress and the administration will act before another crisis erupts.

Robert Reischauer, a former head of CBO, said that in an optimum scenario, Congress will tackle the deficits next year. A package of tax increases and spending cuts could be phased in starting in 2013 and gradually grow over the next decade.

The administration has pledged to include a deficit-reduction plan in its 2011 budget, which will go to Congress in February.

Stanley Collender, a budget expert at Qorvis Communications and a former staff aide to House and Senate budget committees, cautions that unless investors show nervousness about the debt, the budget debate next year could feature more posturing between the two parties than any real action to fix the problems.

But Alan Greenspan, who led the 1983 commission that made changes to avert a crisis in Social Security, said in an interview that he was optimistic that politicians will eventually work out a solution.

"I have always been a great supporter of Winston Churchill's statement about the United States," Greenspan said. "The United States can be counted on to do the right thing, after having tried all other conceivable alternatives."

Sunday, October 18, 2009

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