Let’s start the new year on an upbeat note:

When we focus on the day’s headlines, or get caught up in the petty frustrations of everyday life, it’s easy to overlook how dramatically the world has changed for the better in the last decade or two.

We get frustrated when a call gets dropped on the cell phone, forgetting that mobile phones were a luxury until the mid-1990s. I got my first phone–no texting! no photos! no maps! no web access!–in 2001.

We don’t like to wait in line for cappuccino, forgetting that few Americans had the chance to enjoy such brews until recently.  Hard as it may to believe, there were a mere 165 Starbucks’ stores in this great land of ours when the company went public in 1992. Today, there are more than 11,000. We forget, too, the magic that goes into the making of a cappuccino.

More importantly, we worry–as well we should–about the state of the U.S. economy, but we overlook the happier news that about half a billion people have emerged from poverty in China since 1990. Well, that’s China, you says, but even here in the U.S. — despite legitimate concerns about income inequality and declining social mobility — Americans are demonstrably wealthier, healthier and more free than we were at any time in our history.

Declinism–the idea that things are getting worse–has a long history, and it remains fashionable on the left and on the right.

But if history is any guide, and it is, there’s overwhelming evidence that life on this planet, and in this country, is, in the words of Lennon & McCartney, “getting better all the time.”

I’m feeling unfashionably upbeat at the moment because I’ve been reading The Rational Optimist (Harper Collins, $26.99) by Matt Ridley, a sweeping history that attempts to explain how prosperity evolves.  The book is controversial, especially around the issue of climate–here’s an attack by George Monbiot, and Ridley’s response–but its core argument is persuasive: That prosperity is driven by man’s unique ability to trade, specialize and innovate. (“The propensity to truck, barter and exchange one thing for another” is the way Adam Smith put it.) Ridley’s claim that the world is richer, healthier and kinder seems to me to be unassailable, based as it is on both statistical and anecdotal evidence:

Ridley writes:

In 2005, compared with 1955, the average human being on Planet Earth earned nearly three times as much money (corrected for inflation), ate one-third more calories of food, buried one-third as many of her children and could expect to live one-third longer….She was more likely to be literate and to have finished school. She was more likely to own a telephone, a flush toilet, a refrigerator and a bicycle. All this during a half-century when the world population has more than doubled, so that far from being rationed by population pressure, the goods and services available to the people of the world have expanded. It is, by any standard, an astonishing human achievement.

They had it right: It is getting better all the time.

He goes on to say:

The availability of almost everything a person could want or need has been going rapidly upwards for 200 years and erratically upwards for 10,000 years before that: years of lifespan, mouthfuls of clean water, lungfuls of clean air, hours of privacy, means of travelling faster than you can run, ways of communicating farther than you can shout. This generation of human beings has access to more calories, watts, lumen-hours, square feet, gigabytes, megahertz, light years, nanometres, bushels per acre, miles per gallon, food miles, air miles and, of course, cash than any that went before. They have more Velcro, vaccines, vitamins, shoes, singers, soap operas, mango slicers, sexual partners, tennis rackets, guided missiles and anything else they could even imagine needing.

Ridley’s book is an intellectually ambitious, touring 10,000 years of human history and building upon the insights of Smith and Charles Darwin. (The prologue is called “when ideas have sex.”) How prosperity evolves is through trade–simply put, the idea that people are always working for one another, whether they know it or not. Trade is among the most boring of journalistic topics, but if you set aside the back-and-forth about negotiations with Columbia or Korea, it is a marvelous thing.

The cappuccino, for instance, is unimaginable without trade, as the economist Tim Harford writes in the introduction to his book, The Underground Economist. As he explained on a recent Planet Money podcast, no one can make a cappuccino: You have to grow the coffee, raise the cows for the milk, produce steel and manufacture a machine (the ones in my favorite coffee shop come from Italy), and we haven’t even considered how the electricity to run the machine is generated, who fabricates the chairs and tables in the shop, and so forth.

A famous 1958 essay called I, Pencil — the autobiography of an Eberhard pencil by an economist called Leonard Read — makes a similar point, as does Ridley when he writes about Louis XIV, who had 498 people devoted to preparing his meals at Versailles in 1700. Yet the supermarket shopper or restaurant goer in suburban Washington (or LA or Paris or Warsaw) has more dining options than the Sun King ever did.

Fresh Alaskan salmon? Frozen pizza? Chinese take-out? Yes, yes and yes.

“Never before this generation,” Ridley writes, “has the average person been able to afford to have somebody else prepare his meals…My point is that you have far, far more than 498 servants at your immediate beck and call. Of course, unlike the Sun King’s servants, these people work for many other people too, but from your perspective, what is the difference?”

Think about it–it’s remarkable that whatever it is that you have chosen to do has enough value in the market (or at least I hope it does) to provide you with access to the products and services made by literally millions of people who do what they do. Ridley makes this point nicely in an entertaining podcast with my friend, the economist Russ Roberts, at EconTalk.

Now — I am not at all persuaded by Ridley’s last chapter, and certainly not by his argument that the threats we face from climate change are overblown. (His blog links to Bjorn Lonborg and Anthony Watts of Watts Up With That, neither of them climate scientists.) Having said that, he doesn’t advocate ignoring the problem; to the contrary, he says that the best way to promote alternatives to fossil fuels (or encourage geonengineering schemes) is to “enact a heavy carbon tax and cut payroll taxes.” That would discourage carbon emissions and encourage employment. I couldn’t agree more.

Nor do I want to leave you with the impression that Ridley’s worldview is in any way an excuse for doing nothing about the world’s great problems. Exactly the opposite: His is a robust optimist, a believer in economic progress, human ingenuity and bold experimentation:

It is precisely because there is so much poverty, hunger and illness that the world must be very careful not to get in the way of the things that have bettered so many lives already — the tools of trade, technology and trust, of specialization and exchange.

So next time you make a call on your cell phone, order a cappuccino or write with a pencil (or on a laptop), take a moment to feel a sense of gratitude–to the millions of people whose ingenuity and interdependence make it all possible.

Some years ago, we decided to cover up a small indoor swimming pool (don’t ask) in our home in Bethesda, Md., and turn it into a sunroom. The cost was about $25,000 and, although I tend to be averse to debt, we applied for a home equity loan to pay for the renovation. We had, by my reckoning, a couple of hundred thousand dollars of equity in the house,  perhaps a bit more. So we asked Bank of America, our mortgage holder, for a home equity line of credit for $25,000.

No problem, said the banker who called me back. We’re giving you $250,000. Assuming that an extra zero had been added to the loan amount by mistake, I told him we’d asked for $25,000. Yes, the banker said, but we’ve qualified you for $250,000, and so the line of credit will be $250,000. You’re under no obligation to use it, he added, unnecessarily.

Is this predatory lending? Carelessness? Rational behavior? Or some mix of all three?

Regardless, we know now that banks across the country were acting the same way–throwing money at some people (like us) who didn’t want it and at others who would soon prove unable to pay it back. I’ve read and thought a lot about how and why this happened; my three favorite accounts are Michael Lewis’s The Big Short, the radio broadcast The Giant Pool of Money by Alex Blumberg and Adam Davidson, of NPR’s Planet Money fame and a paper and podcast from economist Russ Roberts of EconTalk called “Gambling with Other People’s Money: How Perverted Incentives Created the Financial Crisis. All are eye-opening and fascinating–I kid you not.

The housing meltdown is, needless to say, still with us today. It’s the single biggest reason why millions of Americans are unemployed, people aren’t spending and the economy remains choppy, at best. It’s also a cause of what, at the risk of sounding like a fuddy-duddy, looks to me like an erosion of moral values, as many thousands of borrowers simply refuse to pay what they owe.

Under the headline Debts Rise and Go Unpaid, as Bust Erodes Home Equity, The Times reports today that delinquency rates on home equity loans are soaring, in part because people choose not to pay them back:

The delinquency rate on home equity loans is higher than all other types of consumer loans, including auto loans, boat loans, personal loans and even bank cards like Visa and MasterCard, according to the American Bankers Association.

Lenders say they are trying to recover some of that money but their success has been limited, in part because so many borrowers threaten bankruptcy and because the value of the homes, the collateral backing the loans, has often disappeared.

…Lenders wrote off as uncollectible $11.1 billion in home equity loans and $19.9 billion in home equity lines of credit in 2009, more than they wrote off on primary mortgages, government data shows. So far this year, the trend is the same, with combined write-offs of $7.88 billion in the first quarter.

Even when a lender forces a borrower to settle through legal action, it can rarely extract more than 10 cents on the dollar.

According to the Times, borrowers say they can’t or won’t pay for a variety of reasons. The banks were careless lenders. The banks got  government bailouts. Their homes have lost value. And, most of all, they know they don’t have to pay. They threaten to declare bankruptcy–the term of art for this is a “strategic default”–and offer the banks a fraction of what they owe. The paper quotes a Phoenix lawyer named Marc McCain, who represents hundreds of borrowers:

“People want to have some green pastures in front of them,” said Mr. McCain, who recently negotiated a couple’s $75,000 home equity debt into a $3,500 settlement. “It’s come to the point where morality is no longer an issue.”

Yes, it has. Just as it was rational for banks to heedlessly make loans during the housing bubble because they weren’t going to hold onto the loans for long, it’s now rational for borrowers to walk away from their obligations, simply because they can. But being rational doesn’t make it right.

After all, someone will pay because so many loans have gone bad. It may be our children, and other new home-buyers, who will be charged higher mortgage interest rates in the future because the banks anticipate more “strategic defaults.”  It may be small businesses that find it harder to borrow money to expand and create jobs. It may be anyone who wants credit card or an auto loan, and can’t get one as lenders recognize that fewer and fewer people feel obliged to pay what they owe.

Worst of all, it may be American taxpayers who are left holding the bag because of all the money the government has spent propping up the housing market and bailing out failed banks.

This would be the worst outcome because we don’t want to socialize the losses in a profit-and-loss system. Without the fear of losses, after all, there’s no reason for either banks or borrowers to act prudently. They can take risks and know that someone else — namely the taxpayers — will rescue them.

Besides, I don’t mind paying for our sun room–we’re really happy with it–but I hope you understand that I’d rather not pay for yours.

If there is one thing we can learn from the headlines of the past week or so – Market Plunge Baffles Wall Street, Size of Spill in Gulf of Mexico is Larger Than Thought, ‘Amateurish’ Bomb Defused in Times Square—it is that we cannot reliably forecast the future, that the world is bound to surprise us, frequently in unpleasant ways, and that, as the poet Robert Burns wrote, the best laid schemes of mice and men oft go awry.

Shit, as they say, happens.

And yet we keep on devising those well-laid schemes, don’t we? We extrapolate the future based on the past. We imagine that we can make useful economic forecasts (because now we have more data than we did before). We imagine that regulation will protect use from the meltdowns of markets (as well as off-shore oil drilling platforms and nuclear power plants). We imagine that the Department of Energy can lead us to a clean energy future, or that scientists can make geo-engineering safe. We imagine that we understand things better than we do. And we forget the words of that other poet, John Lennon, who wrote that “life is what happens to you while you’re busy making other plans.”

So the timing is excellent for this week’s updated version of The Black Swan: The Impact of the Highly Improbable by Nassim Nicholas Taleb, which includes a new essay called “On Robustness and Fragility.”  I’ve haven’t read the essay yet, but Taleb discussed the book and much more with my friend Russ Roberts, the Hayekian economics professor, at EconTalk. Their 67-minute conversation is never dull.

For those of you who aren’t familiar with The Black Swan, the title refers to the fact that the phrase “black swan” was used for hundreds of years in Europe to describe the impossible or near-impossible–until, that is, a Dutch explorer discovered black swans in western Australia in 1697, at which point the term morphed into the idea that the impossible sometimes happens. In Taleb’s account black swan events are rare, extreme, impossible to foresee and often world-changing. “History does not crawl, it jumps,” he writes. Brilliant and egotistical,  Taleb worried in the book, which was published in 2007, that

Financial Institutions have been merging into a smaller number of very large banks. Almost all banks are interrelated. So the financial ecology is swelling into gigantic, incestuous, bureaucratic banks – when one fails, they all fall.  The increased concentration among banks seems to have the effect of making financial crises less likely, but when they happen they are more global in scale and hit us very hard. We have moved from a diversified ecology of small banks, with varied lending policies, to a more homogeneous framework of firms that all resemble one another. True, we now have fewer failures, but when they occur ….I shiver at the thought.

You know what happened next.

And yet, as he tells Russ, Taleb recently spoke on a panel with a top official of the International Monetary Fund, who began his remarks by offering his economic forecast for the years 2011 through 2014–infuriating Taleb, who thought

Anyone in this room who’s listening to this forecast without asking what his forecasts for 2008 and 2009 were in 2001, 2, 3, 4, 5, 6 and 7 needs to blow up again…

How can people still listen to the No. 2 man of the IMF talking about his forecasts for the future when he never got anything right in the past?

And why are we building systems based on these forecasts?

Some people say having an imperfect forecast is better than having no forecast at all. But of course that’s not so, at least not if we make big decisions based on that imperfect forecast that can impact all of our lives. The banks, remember, bet their future on complex computer models saying that housing prices could never decline by 15 to 20% in a year. Their formulas, they said, reduced the amount of value at risk. Unhappily, the fact that they were so tragically mistaken does not seem to have diminished the supply of hubris at, say, Goldman Sachs.

Now, the problem with wrong-headed forecasts is not that they are wrong-headed; that’s inevitable. The problem comes when our collective well-being depends on them. This, Taleb says in his essay, is why we need to build robust systems and not fragile ones. The global banking system was and is fragile. So was BP’s oil-rig. So, we were reminded last Friday, are stock markets when a “glitch” can cause a 1,000 point drop. So is the economy of Greece, which in an interconnected world, has global repercussions.

Taleb says:

I want to live in a society in which human error doesn’t penalize the multitudes. This is pretty much my mission. To try to figure out how to build a society in which people can make mistakes and mistakes are inconsequential.

One way to do that is to reduce debt. Personal debt, corporate debt and government debt all make borrowers more fragile. Surplus cash makes us more resilient, better able to withstand the unforeseen. (Recall the pre-recession balance sheets of GM and Ford.) Debt is driven, at least in part, by hubris. The shoppers who flock to the mall despite their negative balance sheets, GM, Chrysler, Sam Zell when he bought the Chicago Tribune, Greece or the people in charge at the U.S. Treasury grow overconfident about the future; they make their plans, borrow money and then life gets in the way and the rest of us get stuck with the bill. This can’t go on forever. As Russ put it during the podcast: “We’ll bail out Greece” — he could as easily have said Citi or AIG — “and then we’ll get bailed out by Mars or Neptune.”

Interestingly, western religions have understood hubris and debt for a long time. “All Mediterranean religions had either an explicit or implicit ban on debt,” Taleb notes. “We’ve known about how debt fragilizes systems since the Babylonians.”

So beware of economists bearing forecasts, bankers offering teaser rates and governments when they take on obligations that our children and grandchildren will have to repay. In a fragile and interconnected world, we all pay for their mistakes.

Did the stimulus package jump-start the economy? Will climate regulation create jobs? Are clean energy subsidies an efficient way to curb pollution? Is health-care spending worth it? And how worried, really, should we be about budget deficits?

Those are questions for economists. With those issues in the news, economists are in demand. They’re quoted in the press, invited to conferences, even sought out at cocktail parties. But what, really, do they have to tell us?

Russ Roberts

“It’s a very funny time to be an economist,” says Russ Roberts, an economics professor at George Mason University and a research fellow at Stanford University’s Hoover Institution. “Our reputation isn’t very good. Probably shouldn’t be very good. We didn’t predict the recession. We don’t have a theory on how to get out. Yet people ask us for guidance. It’s bizarre.”

Russ is an unusual economist because he spends a good deal of time trying to explain his trade to a broad public. He hosts an excellent weekly podcast called EconTalk. He has written “an economic romance” called The Invisible Heart. He blogs at Café Hayek and, most recently, produced a rap video showdown between Frederick A. Hayek and John Maynard Keynes that has amassed an astonishing 500,000 (!!!) views on YouTube.

But when Russ spoke the other day during a  day-long media colloquium at Hoover, where he was joined by John Taylor and Robert Hall, who are distinguished Stanford economists, he titled his talk: “Is Economics a Progressive Discipline?”

By progressive, he didn’t mean left of center. (Not at Hoover!) Instead, he was asking whether economics, like physics, evolves, to develop deeper or more precise knowledge about how the world works. “Do we make any progress?” he asked. His answer, in sum, was not much. Unlike physicists or mathematicians (or even, I daresay, climate scientists), economists today can’t agree on what would seem to be very fundamental questions.

John B. Taylor

That became evidence during my day at Hoover. Prof. Taylor—who invented the “Taylor rule,” a guideline for monetary policy—gave a thoughtful, well-reasoned, data-driven lecture arguing, in essence, that the Obama administration’s $787-billion stimulus package had a very limited effect on the economy in the short run, and will do damage in the long run because “government purchases crowd out other things.” (Here’s a paper he co-authored on the topic.) Too much government spending, Taylor  said, inhibits private investment and consumption because people, quite rationally, fear that government spending (and borrowing) will lead to higher interest rates and taxes. So people and businesses hunker down, undercutting the desired effect of the stimulus.

Robert E. Hall

Prof. Hall, by contrast, argued that without the stimulus, the economy would be in even worse shape, with higher unemployment and slower growth. He produced a surprising statistic—real disposable per capita income of Americans is currently at an all time high. This is so even though the incomes of the rich fell during the Great Recession. “It looks like the middle class is doing better than ever,” Hall said. “You’d never know that from what you read in the press. But that’s what the numbers show.” What’s more, unlike Prof. Taylor, he suggested that the psychological impact of the stimulus would be positive, not negative, because government spending creates an “anticipation effect”—people are less fearful because help is on the way.

Their conclusions differ in part because their models are different, and that’s a key to knowing how economists work. Because an economy is an extraordinarily complex system, with numerous variables, economists often try to tease out cause-and-effect by building models.  There’s no other way to figure out whether a job was “created” or “saved” because of the stimulus. (The government says, with remarkable precision, that 599,108 workers are being paid by funds from the stimulus package.) Nor, really, is there any way to know whether an increase in the minimum wage will helped low income workers, by lifting their pay, or hurt them, because fewer will be hired. Or what effect putting a price on carbon will have on economic growth, all other things being equal, which they never are.

Be especially wary when economists try to project the future. The truth is, they still can’t agree on what happened in the past—not the recent past, i.e., the 2008 financial meltdown, or even the distant past, as Russ noted

“It’s 2010. We haven’t figured out the Great Depression,” Russ said. As for the Great Recession: “We’re going to debate this period for 50 years. People say it was a market failure, People say it was a government failure.”  But nobody knows.

“We really are in two groups,” he said. Quoting the Hayek-Keynes rap, he said: “There’s a group of us that wants to steer markets, and there’s a group that sets them free.” Later, he put it this way: “Our ability to reason is flawed by our emotional baggage.” Russ, for the record, is a libertarian Hayekian economist, i.e., he’d like to set markets free.

None of this, it must be said, is an indictment of economics per se. Russ clearly has a passion for economics; it’s why he’s such a good teacher. I’m a skeptic but I love to read about economics, especially when those doing the writing can communicate to non-elites. (Try Paul Krugman, Nassim Nicholas Taleb, the Freakonomics guys, Cass Sunstein, Richard Thaler, Dan Ariely, David Leonhardt in The Times, Michael Lewis, my friend Justin Fox’s book about markets and others). Economics offers great insights into how and why individuals behave as they do, and it  can be helpful in trying to figure out how the world works.

But the best economists are willing to acknowledge that theirs is, at best, an inexact science and, at worst, a religion. Taylor noted as much in critiquing a Times story with the headline, New Consensus Sees Stimulus Package As a Worthy Step. Nonsense, he said: “There was not, there is not and there never will be a consensus.”

As for the ability of economists to interpret the same facts in different ways, Taylor told us that his wife decided a few years ago to  buy him a new set of high-tech golf clubs with oversized heads that were all but guaranteed to lower the scores of weekend duffers.

Taylor’s scores, alas, didn’t get any better.

“I don’t want to tell my wife that the clubs didn’t have any impact,” he said. “So I say, without those clubs, my game would have gone downhill.”

Here’s a treat for those of you, like me, who are interested in economic theory. (I know, I’m a bit of a geek.) My favorite economics teacher, Russ Roberts, who’s at George Mason U. and the Hoover Institution, has put together a rap video with a Spike TV producer named John Papola that, believe it or not, illustrates the debate between free-market economist F.A. Hayek and macro-economist John Maynard Keynes. You may have heard about it on Planet Money or NPR’s All Things Considered. Russ is a multi-media threat–he’s written a “economic romance” novel called The Invisible Heart, he hosts a terrific podcast called EconTalk and now he’s branched into video. Last time I looked, some 250,000 people had watched this on YouTube. Enjoy!

Yesterday I blogged about economist Steve Fazzari and his arguments on behalf of the Obama administration’s $8 billion in loans to automakers Ford, Nissan and Tesla to make electric and fuel-efficient cars. Today, an opposing view comes from Russ Roberts, a libertarian economist who is a professor at George Mason University, a research fellow at Stanford University’s Hoover Institution, the host of the excellent podcast EconTalk and a blogger at www.cafehayek.com.

Steve, Russ and I spent time together recently at a retreat for journalists and economists organized by the Murray Weidenbaum Center on the Economy, Government and Public Policy at Washington University in St. Louis.  What struck me was how smart, thoughtful economists can see the world so differently. If you’d like to delve further into these issues, you can listen to my podcasts with Steve and Russ at The Energy Collective, or listen to an in-depth conversation about Keynesian economics between Russ and Steve here at EconTalk. A correction to my podcast: Although I say that the administration is giving loan guarantees to the automakers, the government in fact is making low-interest loans directly to Ford, Nissan and Tesla—a concept that Russ finds troubling, and not just because Tesla builds $100,000 sports cars for millionaires.

Tesla roadster

The economy’s a mess, Russ Roberts says, in part because the government promoted cheap credit and fueled a housing bubble. The Fed kept interest rates too low for too long, while government-sponsored enterprises Fannie Mae and Freddie Mac poured money into risky mortgages. So, he goes on, “it’s kind of ironic that, as we try to cope with that mess, we continue with the same fundamental idea–let’s try to artificially alter the rate at which people can borrow so they can do more of what appear to be good things.”

“In the past, it was home ownership,” he says. “Now it’s manufacturing and green technology.”

Roberts argues that we’d be better off if we left it to private lenders to set interest rates and decide whether to loan Ford, Nissan and Tesla the billions they want to invest in electric or fuel-efficient cars. “We should encourage people to spend their own money because they tend to be a lot more careful than when they are spending other people’s money,” he says.

Well, sure, but markets aren’t working well right now. Nearly one in 10 Americans is out of work, banks are reluctant to lend and factories sit idle. As I wrote yesterday, Keynesians like Steve Fazzari say government’s role during recessions is to spend money to stimulate the economy, ideally for projects with durable social benefits.

That’s the conventional view, Roberts acknowledges, but he argues that government spending can have the opposite effect, by discouraging private borrowing and investment. “If people are afraid that the government is living beyond its means, borrowing ever larger amounts of money, that’s going to discourage people from going out and creating new businesses and investing their money,” he says.

His other argument against the auto loans (and against other government spending on clean technology) is that the government is unlikely to spend the money wisely. Politics, inevitably, comes into the play. Notice how the opening paragraph of the DOE news release lists all the states where money will be spent:

The loan commitments announced today by the President include $5.9 billion for Ford Motor Company to transform factories across Illinois, Kentucky, Michigan, Missouri, and Ohio to produce 13 more fuel efficient models; $1.6 billion to Nissan North America, Inc. to retool their Smyrna, Tennessee factory to build advanced electric automobiles and to build an advanced battery manufacturing facility; and $465 million to Tesla Motors to to manufacture electric drive trains and electric vehicles in California.

Setting politics aside, Roberts argues that no one—not the smartest, most impartial and dedicated public servant, not the world’s wisest investor—can know which clean technologies will most effectively deal with the threat of climate change or other environmental problems. He says:

When you have the department of energy deciding, you’re always at risk of political forces or influence or that they will make a mistake which, of course, they will. Steven Chu is a very smart man, but high IQ is not close to enough in deciding issues like this. There’s an enormous range of knowledge that needs to be brought to bear on a problem like this, and there’s going to be an immense amount of error that’s been made along the way.

What, then, should the government do about climate change, a problem that markets seem incapable of solving?

Roberts favors a gasoline tax that would capture the external costs of greenhouse gas pollution. “Gas would be more expensive, and there would be an incentive for people to find alternatives, driven by a profit motive, which is why the Prius exists and the Tesla exists,” he says. (Note: Federal subsidies for hybrid-car buyers have spurred sales of the Prius.)

A tax on carbon pollution, he says, would be a way to aggregate the collective knowledge of “people who have a very strong incentive—the profit motive—to find out what the best alternatives are and channel resources into those alternatives.”

Like Roberts, I’m mistrustful of experts and attracted to the idea that we should look for ways to decentralize power and decision-making. We talked briefly about the value of prizes, as a way to stimulate innovation. . “Of course, there’s a prize out there already,” Roberts said. “It’s called profits.” For a mere $10 million, far less than the DOE is spending, the Progressive Automotive X-Prize has attracted more than 100 entries from inventors who think they can build a super-efficient car that gets at least 100 miles per gallon.

But since neither markets nor prizes are working well right now, I asked him what he would say to a Ford or Nissan worker who kept his or her job because of the government program–which, incidentally, has another $18 billion in loans to give out.

“They’re going to be enthusiastic about it ,” he admitted. “The people who are going to be hurt by it are going to be much harder to hear.” Some are competitors, who didn’t get the money. Others are people who pay higher taxes or workers who won’t get jobs that would have been created had the money been spent elsewhere. The beneficiaries of these loans are very visible, while the critics, like Roberts, are not. That’s one reason why government spending, and the debt, keep moving in just one direction: up.

Russ Roberts at the Hoover Institution

I’m trying something different this week on the blog, in part because I’m on vacation. Recently, I had the great pleasure of attending a retreat for journalists organized by the Murray Weidenbaum Center on the Economy, Government and Public Policy at Washington University in St. Louis. The event was held on Cape Cod, at the lovely Wianno Club in Osterville, Mass., and while time was set aside for golf, tennis or sightseeing, we engaged in a lot of  learning, discussion and debate with economists and political scientists from the Weidenbaum Center and elsewhere.

I spent time there with a bunch of smart, interesting and lively people, including two economists, Steven Fazzari, who teaches at Wash U.,  and Russ Roberts, who teaches at George Mason and hosts one of my favorite podcasts, EconTalk. Steve is a Keynesian and Russ is a libertarian, so I thought it would he interesting to talk to them about the Obama administration’s aggressive efforts to promote clean energy and create green jobs. We discussed the U.S. Department of Energy’s recent decision to make $8 billion in loans to Ford, Nissan and Tesla “for the development of innovative, advanced vehicle technologies that will create thousands of green jobs while helping reduce the nation’s dangerous dependence on foreign oil.”

Today’s blogpost explains why Steve Fazzari thinks this is a good idea. Tomorrow, we’ll hear from Russ, is pretty sure that it isn’t.

Cape Cod sky photographed by Russ Roberts

Ask Steve Fazzari what he thinks about the government loan program for electric and fuel-efficient cars, and he says:

From my perspective, there are two issues here.  First, do we need “stimulus” in the general sense because the private sector is not operating at a high enough level to fully employ the country’s resources?  Second, is this a good way to direct some of that stimulus?  I would answer yes to both questions.

Like virtually all serious economists, Fazzari is a strong believer in markets. But he says, and it’s hard to argue with him, that markets are not operating well right now. Unemployment is approaching 10 percent. Many factories are underutilized. And while the worse of the credit crunch is behind us, it’s still extremely hard for businesses to get loans. “There is strong evidence that businesses cannot get loans or raise new equity for investment projects that they believe will be profitable,” he says.

In that context, this is the perfect time for government to stimulate the economy either through fiscal policy (more spending, like Obama’s $787-billion stimulus package), tax cuts (part of the stimulus and the Bush package of 2008), monetary policy (cheaper interest rates, already in effect) and other actions, like these DOE loans, which are designed in part to put people back to work.

This is traditional Keynesian thinking. (“Priming the pump” is the phrase that comes to my mind from a long-forgotten econ class.)  Government spending, or in this case these loans, generates economic activity that will ripple through the economy. We talked a lot during the retreat about the “multiplier effect.”

“If you create income that otherwise wouldn’t be there, then that factory worker or research scientist or secretary or maintenance person who otherwise wouldn’t be employed—they are now going to go to the grocery store, or buy a new car, or maybe even build a new house,” Fazzari says. Makes sense to me. Lately, some economists and commentators  have called for a new stimulus package because the economy has been so sluggish. See, for example, Bob Herbert’s column in Saturday’s Times.

As for the DOE  loans to the automakers to produce electric or fuel-efficient cars (which we’ll delve deeper into tomorrow), Fazzari says they create compelling environmental benefits. Carbon emissions that cause global warming are a classic example of what economists call an externality, or a cost not captured by market transactions. “When I drive to work, I put CO2 into the atmosphere,” Fazzari says. “The externality has an impact on everyone on the globe. We know we have a market failure.”

One way to correct for this, of course, is to tax fossil fuels or set up a cap-and-trade system to regulate GHG emissions, as the Waxman-Market bill passed by the House does. An alternative approach is to use the government’s power to stimulate low-carbon technology, as the administration has been doing so aggressively.

Says Fazzari: “There are social benefits of carbon-reducing technologies that are not captured by the market…. So we can subsidize the technologies that reduce carbon.”

I raised two objections to this Keynesian approach, and Fazzari’s responses to both surprised me. First, I argued that stimulus spending or loans that could carry risk, and therefore might default, generate ever increasing government deficits and amount to borrowing from our children and grandchildren to pay for our needs. “Intergenerational transfers,” in the argot of economists.

Fazzari replied that, yes, we are transferring the debt to the future but we are also transferring the asset, i.e., the government bond that will have to be repaid somewhere down the line. “Future generations will get the proceeds, the principal and interest paid on the bonds,” he says. He quickly added that these transfers could have distributional effects–i.e., richer people (or Chinese people) are likely to be holding the bonds, while ordinary taxpayers are left with the debt–but that’s different from saying that we are leaving future generations only with our debt. He also made the more conventional argument that smart spending today could generate long-term benefits, in the form of a cleaner environment or, for that matter, public works like those built during the Depression that we are still enjoying. Check out the bridge below that I often pass when running in Rock Creek Park in Washington.

Finally, I asked Fazzari how much confidence he had that the energy department was picking the right automakers for the $8 billion in loans. The DOE news release says the government will loan

$5.9 billion for Ford Motor Company to transform factories across Illinois, Kentucky, Michigan, Missouri, and Ohio to produce 13 more fuel efficient models; $1.6 billion to Nissan North America, Inc. to retool their Smyrna, Tennessee factory to build advanced electric automobiles and to build an advanced battery manufacturing facility; and $465 million to Tesla Motors to manufacture electric drive trains and electric vehicles in California.

So why Ford, Nissan and Tesla, rather than Honda and Fisker? As I’ve argued before, markets are better than governments at picking winners and losers. Fazzari surprised me by saying that maybe the government shouldn’t. Instead, he suggested, the government might auction the loans–thereby giving them to the automaker most willing to pay for help, and therefore most confident that its technology will produce real results. That’s an interesting and appealing idea.

You can listen to a podcast of my conversation with Steve Fazzari at The Energy Collective, where I’m a member of the blogger board. That’s Steve and me, below, relaxing after a long day of economic theorizing!

Steve Fazzari photo by Russ Roberts

Marc Gunther photo by Russ Roberts

As the battle over climate change legislation heats up, several Big Green groups–the Environmental Defense Fund, the Natural Resources Defense Council and the Sierra Club–are rolling out TV and Internet ads designed to persuade voters that regulating greenhouse gas emissions will create green jobs. David Yarnold, the president of EDF’s Action Fund, sums up the message in an email: “Carbon Caps = Hard Hats.” Clever. Here’s an ad from EDF’s campaign, launched in partnership with the United Steelworkers union and the Blue Green alliance, a group of enviromental groups and unions.
Think of this ad, and the one below, as the “Harry and Louise” ads of the campaign to pass global warming legislation. You remember Harry and Louise, right? They were the couple who turned a devilishly complicated issue, health care reform, into a soundbite (“If we let the government choose, we lose”) and helped kill the 1994 Clinton health plan. These ads take what may be an even more devilishly complicated issue, climate change regulation, and use images of brawny construction workers to turn it into an even shorter soundbite: “Green jobs.” Take a look at this spot from The Blue Green Alliance:

Maybe I missed it, but did you hear an environmental message in either of those ads?

Of course, there’s research to support the claims about green jobs. In the interests of full disclosure, I need to say here that I’ve been doing some freelance work for EDF and NRDC—organizations I admire a great deal. But these claims about green jobs deserve greater scrutiny.

Last June, for example, the Blue Green Alliance, Sierra Club, NRDC and the steelworkers issued a green jobs report from the Political Economy Research Institute (PERI) at the University of Massachusetts, Amherst. It said:

…millions of U.S. workers—across a wide range of familiar occupations, states, and income and skill levels—will benefit from the project of defeating global warming and transforming the United States into a green economy.

A second report from PERI, issued last September under the auspices of the Center for American Progress, got more granular. In my home state of Maryland, for example, the authors project that a $100 billion green economic recovery program would create 36,739 jobs. They would be created in such industries as building retrofitting, mass transit and freight rail, smart grid, wind power, solar power and advanced biofuels.

It sounds great, doesn’t it?

Not according to the four lawyers and economists who produced “7 Myths About Green Jobs,” a 97-page report published by the University of Illinois College of Law.  They argue that “the green jobs literature is rife with internal contradictions, vague terminology, dubious science, and ignorance of basic economic principles.” Studies by conservative think tanks go further, claiming that climate legislation will destroy millions of jobs. A 2008 Heritage Foundation study claimed that passage of last year’s Lieberman-Warner bill would create “extraordinary perils for the American economy” and cause annual job losses of between 500,000 and 1,000,000 after a few years of job gains. (This report was pretty thoroughly discredited by NRDC.) The best thing I’ve read about this debate (and one of the most balanced) is this fine Slate article by Eric Pooley, my former editor at FORTUNE, who finds that there’s an emerging economic consensus that the costs of dealing with climate change are significant but manageable–and that given the risks, those costs are likely worth paying.

My point here is not that economists disagree. My point is that the climate change debate shouldn’t be about green jobs. It’s intellectually dishonest to pretend that we can forecast, with any degree of accuracy, the impact of a complicated government policy on a dynamic global economy decades into the future. Both sides know that their projections are based on a host of assumptions which may or may not come true. What if we decide as a nation to turn to nuclear energy as a source of low-carbon power? That probably won’t create many long-term jobs. What if there’s a breakthrough in the solar PV business in China? That may not bring green jobs here. Are farmers who grow corn for ethanol doing green jobs? That hasn’t turned out so well.

Let’s get real: We can’t predict oil prices 12 months out. Last spring, virtually no one anticipated the global financial crisis of last fall. And we are projecting the number of green jobs that will be created or lost on a state-by-state basis by a law that won’t take effect until 2012? Who are we kidding?

I called Russ Roberts, an economist at George Mason University who hosts the fine EconTalk podcast, for some guidance on how to think about green jobs and the economics of climate regulation.  “Creating green jobs is easy,” he told me. “We could employ millions of people picking up litter, and we could make them very good-paying jobs if we want. But of course that would make us poorer as a nation. There’s a cost to providing those jobs that would have to be borne by other people in the economy.”

It’s not just the cost of higher taxes that needs to be factored into the equation, he noted. To the degree that the government makes policy that favors, say, vast construction of wind turbines throughout the upper Midwest, the people doing those jobs will be drawn from somewhere else, maybe even from more productive work. If policy leads to the hiring of  thousands of contractors to do energy efficiency, the cost of building a new home or renovating your basement may go up because many of the good construction workers are busy.

“As voters and citizens and readers, what we want to think about is the big picture—are we moving in the right direction when it comes to environmental policy?” Roberts says. Put another way, are we spending enough money today to head off the threat of global warming in the future? Because if anyone tells you that we can deal with climate change at no cost, they probably shouldn’t be trusted.

Maybe that’s what bothers me about the green jobs ads. They’re like political campaign ads. They promise something for nothing. They treat the voters like children. They’re emotional and not educational. And they’re not helping to build a movement around climate change.

Other than that, they’re fine.

And I do hope they work.

Million-dollar bonuses handed out by failed companies like Merrill Lynch and AIG stir outrage for many reasons—not the least of which is that they are paid, in part, with taxpayer dollars—but they have an added sting right now because, elsewhere in America, not many people are getting raises or bonuses.

Which raises a question: If companies can’t motivate people with money, how can they get the behavior they want from their people?

Here’s one answer: Instead of motivating people or trying to coerce them, companies can inspire them.

So, at least, says my friend Dov Seidman, who is the CEO of a company called LRN.

“We cannot get performance out of people through carrots and sticks,” he says. “We can inspire it in them through values and beliefs.”

It’s not just Dov saying this.

Rosabeth Moss Kanter, the Harvard Business School professor and former editor of the Harvard Business Review, has a book coming out called SuperCorp: How Vanguard Companies Create Innovation, Profits, Growth, and Social Good (Crown, September 2009). She writes about companies like IBM and Procter & Gamble “that have decided to manage through values, principles and a sense of purpose.”

Such talk may sound squishy, but it isn’t. I’ve seen people inspired by a sense of purpose and a desire to serve at a number of companies I’ve covered: They include Southwest Airlines, UPS, Timberland, Google, the theme parks at Disney and Herman Miller.

Dov and Professor Kanter spoke yesterday at LRN’s Knowledge Forum, an event for the company’s clients in Santa Monica, CA. ((Disclosure: LRN is a consulting client of mine. The company helps people do the right thing in the workplace, primarily through online courses about ethics and compliance.)

“This is the moment to turn to things that are more powerful than money. And more sustainable,” Dov said. “Values. Ideas. Optimism. Inspiration.”

He talked about Google and its famous mission—“to organize the world’s information and make it universally accessible and useful.” Now there’s a reason to get up in the morning and go to the office.

It reminded me that Jeff Immelt, CEO of GE, has said that the biggest payoff of GE’s eco-magination effort was that it made people feel better about working for GE.

The trick is to connect people who work at a company–no matter what they do–with the company’s efforts to solve problems that matter.

Kanter told a story about P&G, which developed a product called PUR that was designed to make water safe for drinking in the developing world, where tens of millions of children die each year because they lack access to clean water. PUR was sold in tiny sachets, at a low price but “it was very hard to sell,” she said. People didn’t make the connection between the product and the health of their children. PUR was losing money, she said, but P&G felt an obligation to make it available. So the company set up a nonprofit in cooperation with NGOs like Care and World Vision and with USAID, in an effort to get the PUR packets into the field. You can read the rest of the story  at a terrific website, Children’s Safe Drinking Water.

“These creative partnerships,” Kanter said, “were a result of having a company shaped by purpose, values and principles.”

Here’s a final example of people being inspired by coming together to accomplish something big and important: Wikipedia. Yesterday morning, I took a run along the Pacific Ocean  and listened to a terrific podcast from EconTalk in which the host, Russ Roberts, interviewed a founder of Wikipedia, Jimmy Wales. Wales talked about many things—the Hayekian influence on Wikipedia, whether kids should use it as a research source (yes, so long as they are still in elementary school), its reliability (good) and its growth (slowing a bit).

I came away impressed, more than anything else, by the sheer scale of the volunteer effort that created Wikipedia, which has nearly 2.8 million articles in the English edition alone, all created by people writing without pay.

“It’s been a good ride,” Wales said.

Roberts asked him to elaborate a bit. Wales replied: “Where it hits me most is when I’m traveling. Just last week I was in the Dominican Republic touring community technology centers in the poorest areas… There were kids there using the Internet and they use Wikipedia every day. Kids living in shacks with tin roofs who would otherwise have very little access to knowledge and education. That’s really rewarding.”

Wales, who is 43, started Wikipedia in 2001 after a failed attempt to create an online encyclopedia using a centralized structure in which all the entries were assigned and vetted. By opening up the process—tapping into people’s passions and their desire to make a contribution—he made possible the creation of something bigger and better than anyone could have imagined.

Why don’t more companies generate passion like that from their people? I can’t imagine a more sustainable source of competitive advantage.