Author: George Papaioannou

On November 6, Americans will cast their votes in the midterm elections.  Many have called these elections the most important in our lifetime.  The question is “important in regards to what?”  Is it in order to declare our approval or disapproval of the president’s policies and executive style and the Republican’s legislative actions, including their Supreme Court appointments?  Is it in order to restore checks and balances with respect to how the US government is conducted?  Or is it to reaffirm certain fundamental American values?

To different people all or only one of these reasons may matter.  I will argue the third is the most important.   First, and with regards to checks and balances, let’s clarify that party dominance in designing and enacting policies is not what was foremost in the minds of the framers of the American Constitution.  After all, most parliamentary democracies bestow this privilege to the governing party, which usually controls the executive as well as the legislative branch.  The reason checks and balances were written into the American constitution – by recognizing all three branches as co-equal – was to prevent the president from becoming an autocrat and tyrant in the mold of the much hated, at the time, British king.

It seems that fortuitously or for some underlying reason, Americans have heeded the framers’ concern and, with few exceptions, have produced bi-partisan governments. I have found that over the past one hundred years one-party dominance (by that I mean all three branches are controlled by the same party) has happened five times.  The Democrats have held full control sometime in the years 1937-45 (during the FDR era) and in 1961-69 (under JFK and Johnson); whereas the GOP has had control sometime in the years 1927-33 (under Hoover) and in 2001-07 (under G. W. Bush), and again since 2016 under Donald Trump.

In reviewing President Trump’s first nine months in office, an article in the October 2017 issue of the otherwise liberal Atlantic concluded that despite Trump’s breaking established norms, threats, and mean-spirited style, institutions had held pretty well, and, hence, one-party dominance had not done a serious damage to the constitutional order.  A year later, another article in the October 2018 issue of The Atlantic again arrived at the same conclusion.  Despite the realignment of Congressional Republicans under the Trump banner, the judicial branch has held up, though bruised by the relentless attacks from the president.   Attorney General Sessions is still in the Department of Justice and special counselor Mueller continues to do his investigation.  So, if your standard for judging the endurance and strength of checks and balances is one out of three branches doing its job, then we are not yet in crisis territory.  But the current state in this particular area is not reassuring for the future.  Should Republicans hold on to the House and the Senate, their loyalty to President Trump, who has assiduously campaigned on their behalf, will compel them even more to shield him from any check.  Given his inclination and habit to run all things as his personal interests dictate as well as his fondness to cultivate a personality cult (the antithesis of what a democratic leader ought to do), there is no guaranty what the quality of American democracy will be at the end of his tenure.

If still these concerns do not rise to the point that a bi-partisan government is needed, what about the possible erosion of fundamental American values?  Abraham Lincoln once said that the Constitution and Law were supposed to be America’s political religion.  As president, Trump might have not damaged the Constitution and the justice system by action but he has certainly attacked the ideas on which the Constitution and Law were founded.  He has questioned the objectivity of a federal judge because of his ethnic background, has called upon the DOJ to prosecute his political opponents, and has threatened to take executive action against the birthright of citizenship granted by the 14^th Amendment.  He has attacked the freedom of speech by declaring the press to be the enemy of the people; and he has done pretty much the same in regards to his political opponents.  He has been divisive from the start of his presidency by catering only to the political spirits and politics of his base and has called those who demonstrate against him to be a mob.  Thus, he has failed to act as the president of all Americans.

The Constitution does not discriminate on the basis of ethnicity, race, color, or religious background as to who is or can be an American.  Moreover, the confidence of this Republic in its capacity to take in people from foreign lands and turn them into loyal citizens is such that we can demonstrate our Jewish, Greek, Irish, Italian and any other ethnic affiliation and still be considered American patriots.  And yet, Donald Trump has demonized and dehumanized Latin American and Muslim people and has offended them as unfit to join this country.  Furthermore, his rhetoric, willingly or not, has given voice to white nationalism and has emboldened fringe groups that stand for hate and an illiberal order.

Under any other administration, a caravan of hungry, destitute and desperate migrants would have been handled by the appropriate authorities as a matter of law and order with very little said by the president.  Instead, the leader of a country of immigrants chooses to name these people invaders and a danger to the country.  And for no other purpose but to manipulate public sentiment through fear mongering he has ordered the military to intervene in a clearly civilian matter of law enforcement.  If that’s how he understands the purpose of the military, what other uses is he likely to have in mind? I don’t need to remind anyone that once the military is called out of the barracks to intervene in domestic affairs, we have entered a slippery slope toward suppression.

Despite all its flaws, America is a unique experiment in making a nation out of people of all kinds of different backgrounds.  The national motto is still E Pluribus Unum, “out of many one.”

One party’s economic policies can make us prosperous or may give us judges that rule in favor of our partisan values.  If we lose, however, the foundational values that have inspired and guided this country, none of these gains will matter.

So, to my initial question as to what these elections are all about, my answer is: In order to re-affirm the fundamental values this republic has set in its best moments.

From the moment Donald Trump entered the race for the 2016 presidential election, the press and TV media have been flummoxed by the type of personal character and tactics he has introduced to American politics.  The fascination has mostly centered around the question of what explains the man’s behavior.  What kind of an American politician could display personal traits, communication language and political tactics that would have eliminated any other candidate, past or present, and expect to win?  Only belatedly some commentators have also started to deal with the really important question of why despite all that Trump succeeded in attracting enough votes to win and has since maintained a solid loyal base of around 30 to 35 percent.  As unique (and I don’t mean this in a positive light) as Trump appears to be, trying to explain his appeal to voters is a lot more important for our political system than his psychological profile and motivations

Prior to the 2016 election, I thought the aggressive and bullying style was Trump’s way to shake republican voters away from established politicians.  While researching for a finance project, I had come across a reference to two ways professionals and businesses use to build reputation.  One is called type reputation and is used by newcomers to a field, who need to signal how well and aggressively they will meet the clients’ needs.  Trump’s abrasive tactics had the purpose to convince conservatives he would be their warrior.  The other type of reputation is behavioral reputation and comes into play once one has established the type reputation.  Behavioral reputation is built on actions that satisfy mainstream standards.  Without using this terminology, some commentators had estimated that, once in the White House, Trump would change his approach to garnering reputation and esteem by reverting to the standard mainstream behavior of previous presidents.  We now know we were all clearly wrong.  So, the question remains what explains the appeal.

Most of the analysis regarding Trump’s appeal is based on survey results that show rising white nationalism, economic insecurity of working-class people and anti-immigrant feelings among conservatives.  If it were the policies only, though, that mattered for people’s choices, was it rational for such voters to prefer Trump – given his offensive, hurtful and inflammatory tactics – over other very conservative and more seasoned candidates, like, say, Ted Cruz?  Trump’s appeal was missed because of our misguided adherence to the belief that rationality drives, or should drive, human decisions, including political choices.

Genes and brains, however, are not made to serve rational behavior.  Instead they are made to serve survival by replication and through adaptability to changing environments.  Morality as well is formed to help humans successfully navigate complex social environments in order to survive.  Similar to cognition, morality is intuitive and innate to our nature.   For cognitive functions, scientists use the terms fast and slow thinking.  Or more generally, system 1 and system 2, respectively.  For morality, Jonathan Haidt* uses the terms Elephant for innate morality (passed on by genes and influenced by the cultural environment) and Rider for reasoned morality.  Faced by various moral choices, we first respond automatically according to our innate morality.  This is the elephant that moves us through moral choices.  Our rider tries to steer our elephant toward more nuanced and reasoned moral choices but not always successfully.  It often works to validate our innate moral choices.  That’s why we talk of confirmation bias.  Therefore, if you wish to change another person’s morality try to talk to the elephant, not to the rider.  It is interesting that these recent advances in our understanding of human behavior had been foretold by the Enlightenment philosopher David Hume who proposed that humans are motivated more by sentiment than reason and rationality.

I think we have a better chance to understand the Trump phenomenon in light of the above arguments.  Trump consistently speaks to the sentiments of conservatives; that is, he addresses their elephant.  Surveys and casual observation show that conservatives hold very strong beliefs about loyalty (to family, social institutions, country), authority and order, and sanctity.  According to Haidt, loyalty, authority, and sanctity are three of the five pillars of Moral Foundations, the other two being care and fairness.  Conservativism coincides with moral innateness (or intuition) that primarily favors loyalty, authority and sanctity; whereas liberalism coincides with moral innateness that primarily favors care and fairness.

Trump never addresses his supporters by appealing to reasoned arguments.  Should he do that, their views about matters of national interest, immigration policy, religious versus secular rights and other issues would cause them to temper their views and be more inclined to consider policies advocated by the less conservative or liberal opponents of Trump.  Instead, by speaking to their elephant, Trump keeps his voters firmly away from the influence of any reasoned rider they may have.

And by speaking exclusively to like-minded people, Trump avoids accountability.  The psychologist Phil Tetlock suggests that accountability comes into play when (a) one knows he/she will be held accountable, (b) the audience’s views are unknown and (c) one believes the audience is well-informed.  These are exactly the conditions – especially the first two – that do not hold in Trump’s rallies.  Hence, Trump has no interest to use reason and arguments as opposed to what we call “raw meat.”

Now, in case those of us who abhor Trump’s methods start to feel too righteous, let’s be reminded that we are as susceptible to our liberal elephant as Trump’s supporters are to their conservative elephant.  Should our own Trump-like warrior emerge to appeal to our innate liberal morality, we could very well descend to the frenzy and hurtful level of Trump’s rally crowds.

Let’s hope this will not happen so that we can continue to fight the politics of divisiveness and misplaced patriotism with reason and humanity.

*Jonathan Haidt, “The Righteous Mind: Why Good People Are Divided By Politics and Religion”

A baker has struck again.  This time in Belfast, in North Ireland.  As reported by the New York Times, a Belfast baker refused to bake a cake with a message celebrating same-sex marriage back in 2014.  Two years earlier, the owner of the Masterpiece Cakeshop in Colorado had also refused to bake a wedding cake for a gay couple.  If this trend spreads, I am afraid, bakeries soon will spoon out more bitterness than sweetness.  I am also concerned about an old acquaintance who had the habit to have untimely wishes written on cakes.  For example, he would come to a Fourth of July party with a cake wishing us “Merry Christmas.”  Luckily, back then he lived in Long Island, which, as part of the Northeastern US, is, in general, more lax about religious etiquette.  But he now lives in Florida, where such pranks may not be received as kindly.  I wonder whether a baker down there has put an end to his habit.

In the Masterpiece Cakeshop case, the US Supreme Court ruled that the baker’s religious beliefs had not been considered by a Colorado Commission when the case was referred to it.  In the Belfast case, the British Supreme Court went much further by ruling that the baker’s refusal was not related to the identity of the customer as gay but rather to the content of the message which the baker had the right not to reproduce in accordance with his religious beliefs.

So, what’s with bakers?  Are they stricter in their religious devotion; or more sensitive and protective of their right of free expression and speech?  Could that spread to other business lines?  And what would that mean for society?

Let’s start with the religious argument.  Christian opposition to same-sex marriage is grounded on the New Testament story of the blessing of the wedding at Cana by Jesus, while opposition to same-sex relations is found in various commands in the Hebrew Bible.  This original opposition took more intensity in the early centuries of the Christian Church from Paul to Augustine as Christian Fathers developed a more fundamental aversion – some would say hostility – to all matters of sex.  Some of that aversion reflected a deliberate effort to put more distance between Christian and pagan morals and a larger part was due to putting soul above body as the road to salvation.  There is no reference, though, in the Gospels, as far as I know, that Jesus directly said anything against same-sex love.  After all, Jesus commanded his followers to “Love one another as I love you.”  Jesus also preached tolerance and forgiveness.  He admonished that when we are slapped on one cheek we should turn the other.  The Lord’s Prayer also admonishes “And forgive us our trespasses, as we forgive them that trespass against us.”  Reflecting the spirit against self-righteousness Pope Francis responded “who am I to judge that person?” meaning a gay person.  I wonder, therefore, why these bakers, and possibly other professed Christians who find themselves in similar situations, do not abide by the message of Jesus and the Lord’s Prayer in a show of tolerance toward fellow human beings.  Are they after all free of trespass to disapprove of the trespasses of others?  In “The Evolution of God” Robert Wright makes the case that over millennia of human life, people’s understanding of deity has evolved toward a more inclusive and benevolent Creator.  It is unfortunate that this evolution has eluded a significant segment of Christians as well as the adherents of other religions.

Now let’s turn to the argument made on the basis of one’s right of free speech and expression (a right recognized in the First Amendment to the US Constitution).  As I mentioned above, the US Supreme Court has not yet decided on the right of a business to refuse to reproduce an unacceptable message or symbol.  But the British Supreme Court did.  Having to choose between the right of the party that wishes to express something and the right of the party that must assist in the production of expression, the British Court decided the right of the second party is stronger and should prevail.

Because this decision may also come to pass in the US, it should raise concerns for all of us regardless of our views toward homosexuality.  Suppose I wish to print a book critical of Christianity or another religion (since the refusal right would apply to all religious beliefs), the printer has the right to refuse.  And if this shop is the only one, I have to find printing services elsewhere.  If a consortium of religious organizations raises the capital to buy all the printing presses in a town, or county, or state, or …. , then no newspaper or book deemed offensive can be printed.  Isn’t this what happened in the Dark Ages and even later under the command and influence of the Church?  If those that mediate in the production of speech and expression are granted the right to object on various personal grounds, what is the future of free speech?

I cannot tell how the US Supreme Court will eventually rule in a case involving the refusal of service on religious grounds.  What I do know, however, is that, in the US, there are a couple of much worse cases of violations of the First Amendment when it comes to religious freedom and the separation of church and state.  In the first case, we are forced to transact in a currency that bears the message “In God We Trust.” How does that not violate the right of atheists, agnostics and even religious people who find it offensive to mention God at all or so cavalierly in a government instrument.  The second violation occurs every day when millions of American pupils as well as others on other occasions recite “one nation under God” as part of the Pledge of Allegiance.   Mind you that “under God” was added in 1954 and “In God We Trust” in 1956 as a result of the anticommunism hysteria spawned during the McCarthy era.  Neither of them was found to be necessary or appropriate for the national currency or the pledge in prior times in accordance with the US constitution which entrusts the wellbeing and fate of the nation not on any deity but on the people.

In car factories, robots assemble cars.  In logistical centers and warehouses, robotic machines sort merchandise, bar code it and stack it.  At home, we ask a small box to play a song or list nearby restaurants serving gyro.  On the phone, we exchange information and manage transactions by talking to a bot powered by AI.  The growth of AI applications in a short period of time is already impressive and will become even more pervasive and dominant in the work place in the near and distant future.  Advances in AI will have far reaching implications for jobs and incomes, employment and the nature of work.  Parents with children in elementary school should already be discussing jobs with their children so they don’t end up with dead-end career choices.

To understand the implications of AI on jobs, we can think of it as an example of outsourcing.  The first significant outsourcing of work was to machines and took place after the first industrial revolution.  The second outsourcing of work was to computers.  The third outsourcing of work was to send it abroad, mostly to countries with low labor cost or unique knowledge expertise in some field.  AI is the fourth phase of outsourcing of work, with the difference this outsourcing can go far beyond what is possible with machines and computers.  Beyond doing work that handles hardware and software, AI machines have the potential to learn on the job and execute tasks out of reach to humans.

Even without going into the most far-reaching capabilities of AI, we can ask what jobs are more likely to survive AI and what the consequences might be for human employment.  Based on present estimations, jobs with a good chance to survive are those that require:

• Social intelligence and people skills
• Creativity and coming up with ad hoc solutions
• Working in unpredictable environments

As advances in AI threaten more and more jobs, the question is how AI and human work will co-exit in the future.  There is considerable disagreement about the impact of AI on employment.  One possible and very dire scenario envisages AI machines gradually displacing humans in a growing range of jobs.  The result will be massive unemployment, first in lower-skill jobs and then progressively in higher-skill occupations.  We can call this the substitution scenario.  Under this scenario, AI will destroy human jobs faster than it will create new ones.  Critics of this scenario point to the historical experience from previous industrial advances.  More jobs were created than destroyed.  However, we cannot ignore the fact that old factory jobs that paid very decent wages have already been lost to the machines.  AI is much more potent than previous technological revolutions and as such it precludes reliable projections from past experience.  The alternative scenario is one of a symbiosis between AI and human work.  AI machines work alongside human work and help to expand economic output (GDP) beyond the level possible only with human employment.  We can call this the complementarity scenario.

Both scenarios face a couple of crucial constraints.  The first constraint is related to the purchasing power and size of the economy.  For example, the substitution scenario must explain how an economy will retain its purchasing power to absorb the aggregate output if machines keep displacing more and more human workers, thus destroying incomes.  The complementarity scenario must explain how far an economy can grow in size to accommodate both machines and a fully-employed human labor force.  To the extent economies are constrained in size, cost efficiencies will likely favor the substitution over the complementarity model.

The second constraint relates to availability of a work force possessing skills for a knowledge-driven economy.  Expansion of the usage of machines requires increasing numbers of workers capable of handling robots.  Speaking of the US only, there is currently a significant deficit in this type of workers.  The present state of education in the US, especially in analytical and technology-related fields, can stymie the inroads of AI.

AI has the potential to lead to unusual consolidation of incomes and wealth among a limited number of firms that master superior efficiencies in the use of AI technologies and among fewer workers who master high-level skills.  The result will be lower or no incomes for broad segments of working-class people.  How should then societies respond to this problem?  One proposal is the adoption of UBI (Uniform Basic Income) offered to all and high enough to cover basic needs.  Another proposal is for governments to enhance the purchasing power of workers through subsidies that lower or eliminate the cost of education, health care, raising children and caring for family members, to mention some.  A third, innovative proposal is the Social Investment Stipend (SIS).*  SIS will be paid to those who dedicate their work (work released thanks to AI) to advance socially beneficial goods, like care of others, education and community service.  (I would also add advancement and appreciation of the arts.)  SIS is supposed to be a better solution because it avoids the idleness that goes with UBI.  Work plays an important role in giving people a sense of contributing to society and, hence, a sense of dignity.  Therefore, SIS is a way to reward and incentivize individual engagement in society.

Obviously, the above and other solutions, require decisions that will reflect political choices.  Ignoring the downside risks of AI can spur popular resistance to technological advancement.  Ignoring the right of all people to benefit from the immense benefits AI can bring can very well create a backlash similar to the one we see now regarding international trade.  Sharing common windfall gains is not new to market economies.  Alaska and Norway use oil revenues to fund income-boosting and pension programs.  A rational approach dictates that societies weigh the benefits and costs of alternatives and adopt arrangements that maximize the social good.

* SIS is advocated by Kai-Fu Lee, Chairman and CEO of Sinovation Ventures and former president of Google China; his essay appeared in the WSJ, Sept. 25, 2018.

Besides the book Life 3.0 by Max Tegmark (mentioned in the previous post), other books on AI and jobs are The Future of Work by Darrell M. West and Human + Machine by Paul Daugherty and H. James Wilson.

Until several years ago, I had difficulty to readily recognize that AI stood for artificial intelligence.  Not any more.  References to AI have become quite ubiquitous in the press and books.  The immediate interest in AI is in connection to how it will improve everyday living and how it will impact jobs and employment.  As important as these effects may be, AI is destined to impact human lives in even more profound ways.

AI is part of the fourth industrial revolution that includes nanotechnology, quantum computing, biotechnology and the internet of things.  Just as a reminder, the previous industrial revolutions starting in the 18^th century were associated with the steam engine, electricity and tele-communications, and most recently the digital technology.

AI, however, can be emblematic of a new stage in human development, which the MIT physicist Max Tegmark calls Life 3.0.  Tegmark thinks of life “as a self-replicating information-processing system whose information (software) determines both its behavior and the blueprint for its hardware.”  Life 1.0 was the stage of simple life forms whose hardware (arrangements of atoms) was replicated by information carried in their DNA without any new learning after birth.  The next stage, Life 2.0, emerged from the evolution of the hardware of Life 1.0 that eventually produced species, primarily the human species, that developed the ability to learn after birth and design new software (processing of information) that gave rise to social patterns, culture and advancement of knowledge.  In Life 3.0, humans with the aid of super technology (AI) will become masters of their destiny by being able to redesign both their hardware and software and take control of the evolutionary process.  It is also the stage when AI machines have the potential to become autonomous.

The difference between human intelligence and AI is that humans rely on biological matter to develop intelligence and learning.  In contrast, AI is non-biological.  The big insight that drives the development of more human-like AI machines is that intelligence and learning, whether human or artificial, are the products of physical matter, like atoms, and information which is also collected and analyzed by matter.  In the brain, this is accomplished through the neural networks.  Both matter and information processing obey physical laws.  Therefore, ability to understand and apply the physical laws that underlie the capacity of human brains to develop intelligence and master learning can lead to the design of machines that are also intelligent and capable of learning.  The Google AlphaGo device is already an example of a machine that can learn on its own.  Its prowess in learning was demonstrated when it beat the champion of the Chinese game GO.

The challenge, a rather scary one, is what happens when through its ability to learn, AI develops into Superhuman AI.  Tegmark envisions a multitude of potential scenarios describing human life with AI.  Here are some interesting scenarios:

• Libertarian utopia: AI machines and humans peacefully coexist in a system that recognizes legal and property rights for both.
• Benevolent dictator: Adverse impact of AI on human welfare is avoided through the abolition of property and the institution of a guaranteed income for all.
• Gatekeeper: AI becomes the regulator of new advances and sets limits; whether they are good to humans depends on the goals of AI.
• Protector god: AI behaves as benevolent supporter of humans.
• Enslaved god: AI is controlled by humans who use it for good or bad ends.
• Conqueror: AI prevails and unbounded gets rid of the now redundant humans.
• Reversion: Humans put an end to technological progress and eliminate AI.

These possibilities beg the question: how will humans manage to deal with the power of AI.  If AI has the potential to learn and develop its own goals, how do we protect ourselves?  The safest way is to design AI with goals that are compatible with ours.  But how do we decide?  Are we going to decide collectively, say, through a UN type arrangement?  What happens if one country adopts a more aggressive AI model that can threaten the wellbeing of other countries?  China’s determination to advance its AI technology belies their apprehension to falling behind in such a critical area.

More importantly, besides forming its own goals, an autonomous AI may acquire the capacity for consciousness.  Those who, on religious or philosophical grounds, believe in the dualism of matter and soul (as two separate entities) will have difficulty reconciling with the idea that AI machines can develop consciousness, that is, ability to sense experience subjectively.  Evolutionary biologists, neuroscientists and analytical philosophers, though, are approaching consciousness as the product of physical processes obeying physical laws.  Theory and experiments already provide support for this.  If consciousness is what information feels when it is processed in certain ways, and the processing follows physical laws, then it could be possible to develop AI with that potential.  If and when AI advances to the point to have consciousness, the line between humans and AI machines will become extremely blurred.

Humans do not have a good record of catching up with the consequences of new technologies and the result has often been anxiety and upheaval.  AI represents yet the most critical challenge humans will have to face.  AI that can learn on its own and form goals may be still many years away or, for now, in the imaginative minds of scientists.  But so were many other advances sometime in the past, like, for example, cloning. Understanding the potential power and the implications of AI is a critical step towards planning and preparing for a human life with AI.

Note: Max Tegmark’s book is titled LIFE 3.0: Being Human in the Age of Artificial Intelligence.  To follow developments in AI relevant to human future go to http://futureoflife.org

My next post will deal with the more immediate concerns arising from AI in regards to jobs, employment, and some possible solutions.

Americans like to talk derisively of European socialist ideas and practices.  The irony is, though, that the American economic landscape has some remarkably important examples of socialist arrangements.  Take, for example, Social Security, Medicare, and Medicaid, instituted by law and very popular with Americans.   And then there are implicit socialist arrangements that are popular with business, principal among them the “too large to fail” doctrine.  It was that doctrine that helped bailout the insurance firm AIG, Citi Group, Wall Street and the auto industry in Detroit. I call these arrangements socialist because, while they allow the private appropriation of profits by shareholders they socialize the risks, meaning they spread them over all taxpayers.

Interestingly, there has been an important socialist experiment in the US directly related to the 2008 crisis.  I don’t know whether you are aware that if you moved to Europe and wanted to finance your new home, you would have difficulty finding a long-term fixed rate mortgage.  And such mortgage would cost you more (after other factors are accounted) than in the US.  Why?  Because the US has applied some innovative socialism in the housing market that Europe never did and still doesn’t.

If a bank gives you a fixed rate mortgage loan for 15 to 30 years it faces the risk the borrower might default on the loan or interest rates might rise in subsequent years.  In the latter case, the bank would have to pay higher rates to attract deposits but wouldn’t be allowed to raise the mortgage rate.

Part of Franklin D. Roosevelt’s initiatives to restore the US economy after the Great Crash, the National Housing Act established the framework through which the US government would promote housing financing.  These institutions are the Government National Mortgage Association (Ginnie Mae), the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Association (Freddie Mac).  These agencies guarantee the interest and principal payments of mortgage loans that conform to their guidelines and gave rise to an innovative financing instrument, the mortgage-backed security (MBS).  An MBS is a bond whose interest and payment are backed by the interest and principal payments on the mortgage loans that back up the MBS.  To issue MBSs, Fannie and Freddie buy thousands of mortgage loans from banks and credit unions and then issue bond as MBSs.  Turning loans into securities is called securitization.  By selling its mortgage loans to these agencies, a bank passes the default (credit) risk and the interest rate risk to the buying agency.  More importantly, the mortgage loan issuer recovers its money and uses it for new mortgage loans while earning fees from the origination and servicing of the mortgage loans.  On top of that, the created MBS can be resold many times in the capital markets and generate trading fees and profits for traders.  Because banks don’t have to commit capital for the long-run and the agencies (Fannie and Freddie) can sell the MBS to others, interest rates on mortgage loans can be lower than absent such an arrangement.  Lower mortgage rates mean more affordable housing to the public.  So, voila.  You have an all-around wonderful win-win innovation for the agencies, the banks, the home buyers and the Wall Street traders who sell and buy MBSs.

So, where is the socialist ingredient in this recipe?  By US law, Ginnie Mae is a Government Agency backed by the full credit and faith of the US government, i.e., backed by the US tax payers!  Fannie Mae and Freddie Mac, which are considered Government Sponsored Enterprises (GSE), do not enjoy the same privilege, but are implicitly assumed to carry the backing of the US government.  The implicit US guarantee was given by the Reagan Administration Treasury Department in a letter to the rating agency S&P in 1982 when Fannie Mae had run into trouble.  The letter said that S&P should consider the special status of Fannie Mae.  Special status? Yes, because Fannie Mae, in 1968, had been turned from a government agency into a publicly traded stock corporation that could potentially go belly up.  That letter was enough to lull investors into the belief that Fannie Mae (and also Freddie Mac) deserved less scrutiny of their assumed risks given the implicit backing of the government.  In capital markets, when investor monitoring and scrutiny decline, expect bad things down the road.

On the road to 2008, other government initiatives, meant to do good, were distorted by political expedience and greed, and turned the arrangements aimed to facilitate home ownership into a destabilizing force.  One such noble initiative was the Community Reinvestment Act (CRA) of 1977.  It came as a result of evidence of neglect of economically depressed neighborhoods by banks.  Banks would take the deposits of these neighborhoods but would not reinvest them locally in home or business loans.  The Act required that a substantial portion of mortgage loans sponsored by Fannie and Freddie come from low-income households.  Later during the Clinton years, the government allowed Fannie and Freddie to extend sponsoring to mortgages of lower (subprime) standards in discharging their CRA obligations.  As it turned out, opening the door to lower standards had unintended consequences.

The government arrangements to help home financing worked with great stability until the early 2000’s.  However, starting in the 1980’s, deregulation had opened the market of mortgage-backed securities (MBS) to private investment banks (like Goldman Sachs) and gradually to commercial banks (like Citi Bank).  In 1999, Clinton signed an Act, enthusiastically backed from both aisles of Congress, that gave commercial banks full powers to act in the securities business just like investment banks.  This deregulation greatly increased competition for the creation/issuance of MBSs for all players, including Fannie and Freddie.  The competitive advantage of private banks was that they could buy and turn into MBSs any type of mortgage loans whereas Fannie and Freddie were restricted to loans conforming to their standards.  The pressure by the shareholders of Fannie and Freddie to produce sufficient returns pushed both agencies to further lower their standards in order to expand the pool of eligible mortgages for purchase and securitization.  At the same time, mortgage loans of good and bad quality were created by mortgage companies and investment and commercial banks at a frenetic rate pushing house prices to unsustainable levels.  Around 2005, the Republican-controlled Congress sensing the impeding housing bubble and disaster attempted but failed to reform Fannie and Freddie and the housing financing market in general.

In 2008, Fannie and Freddie came unravelling.  The US Treasury gave each a life line of $100 billion, fired the top executives and cancelled dividend payments.  It also obtained capital stakes in both agencies. The shareholders of both agencies lost their money, as they should have.  To the surprise of many, by 2017, the government had spent the sum of $191.4 billion backing these agencies but had received back $279.7 billion in dividends.  Not a bad bail out!

Presently, no one knows what to do with Fannie and Freddie.  Some argue they should be converted to fully independent private firms.  Many experts, though, believe that without government backing they will not be able to sustain their mission.  Nonetheless, both sides are very leery of what would happen to home financing and the industries it supports under either alternative.  It is for this reason that private business enthusiasts are not very eager to see these agencies operate as independent private intermediaries without any government backing.  I am tempted to quip there is no government program that businesses don’t like if it lines their pockets.

The lesson is that back in the 1930s and the ensuing years, the US created an innovative – call it a socialist – solution to serve home ownership, but erosion of shareholder scrutiny and underwriting standards, and unregulated (prior to 2008) private firm activity converged to stoke the 2008 crisis.  Also, mixing private ownership and the inherent profit motive with an implicit government guaranty mitigated shareholder exposure to risk and undermined investor vigilance.  And one more thing: don’t let arguing about the housing crisis of 2008 sour your mood toward your Democratic or Republican friends.  Both parties did their best to contribute to it by corrupting good government programs.

In February 2002, in the aftermath of the scandals committed by the executives of Enron, Andersen and other companies, BusinessWeek printed a brief letter to the editor in which I argued that those who had the most to benefit from the function of markets should have the interest and honesty to protect the markets’ integrity.

When I composed the letter, I had in mind the proposition of moral philosophers that human actions ought to be guided by some sense of what is the highest good or summum bonum.  In a political system, a Church, a market economy, or any institution, maintaining the integrity of that entity ought to be the highest good instead of pursuing one’s self-interest.  This ethical obligation is all the more binding for those who profess to believe in the value and mission of the cause they serve.

With this in mind then, how should judge Kavanaugh act?  I start with the premise that he is dedicated to the justice system and its integrity.  He has labored to further the cause of justice and make a personal contribution to this cause.  That he would be loath to allow his personal interests or limitations to sally the integrity of the justice system.

Much more than ordinary citizens, judges inform their decisions by the historical experience of humanity, looking for examples of honesty and honor, and are mindful how their decisions might affect the integrity of institutions and our collective sense of fairness.  I would expect, therefore, judge Kavanaugh to reflect how his actions would affect the institution of justice he serves and how he will measure up to those who before him faced the dilemma of whether to pursue their self-interest or act honorably and stand up for what they considered worth defending.  What could such examples be?  Here is my list, and you may have lots more to suggest.

Socrates refused to escape Athens and spare himself of the death penalty, because, he told his students, his loyalty to his city compelled him to obey its laws even when they turned against him just like he obeyed them when they protected him.

Cicero stood up to Mark Antony and eventually paid with his life for exercising his right to speak critically of a ruler.

Thomas More was beheaded because he upheld his loyalty to the Catholic Church and refused to take the Oath of Supremacy and capitulate to Henry VIII.

Dietrich Bonhoeffer, a German pastor and theologian, was executed because he stood up against Nazism and Hitler in defense of human rights and dignity.

I am sure that judge Kavanaugh was exposed to these historical examples of courage and honor during his studies in the very fine schools he attended.  How should then Judge Kavanaugh convince his American fellow citizens that he is loyal to the cause of justice and he is honorable enough to serve it at its highest level?

He doesn’t have to withdraw his nomination.  What an honorable person would do though is to tell the Judiciary Committee of the Senate that he does not wish his nomination to go forward without a full investigation and vetting and without his accuser being heard properly and not expeditiously.  And, of course, he should tell the truth even if that means confirming the accuser’s story.

There was, in classical Athens, a speech writer who wrote speeches for defendants.  His name was Lysias.  In one of the speeches, Lysias has the defendant start by giving thanks to his accuser for bringing the accusations to the court because this would give him (the defendant) the chance to prove that justice was on his side.  Similarly, judge Kavanaugh, a man of the Courts, should proclaim that he welcomes the opportunity to defend himself and subject himself to full scrutiny just like any of the defendants that sat before him in his court.  That may carry the risk of being disqualified for the Supreme Court but it would secure his place as an honorable servant of the institution of justice.

I may be reaching for a pie in the sky, but it is worth reminding ourselves that courage and honor at the cost of a lot more than a seat on the Supreme Court is humanly possible and part of our historical experience.  Defending one’s honor is not alien to human nature.

Advice from the Past

In 1820, Thomas Jefferson expressed his opposition to the doctrine of judicial review and pointed at the perils of life appointments to the Supreme Court:

You seem … to consider the judges as the ultimate arbiters of all constitutional questions; a very dangerous doctrine indeed, and one which would place us under the despotism of an oligarchy. Our judges are as honest as other men, and not more so. They have, with others, the same passions for party, for power, and the privilege of their corps…. Their power [is] the more dangerous as they are in office for life, and not responsible, as the other functionaries are, to the elective control. The Constitution has erected no such single tribunal, knowing that to whatever hands confided, with the corruptions of time and party, its members would become despots. It has more wisely made all the departments co-equal and co-sovereign within themselves.

Note:  T. Jefferson, the author of the Declaration of Independence, was not one of the writers of the Constitution.  It would be interesting to know his views about the life tenure of SC justices around 1787 and whether he would have recommended for finite terms had he been involved in the framing of the Constitution.

In a previous piece on this blog, I had presented information suggesting that a large part of corporate liquidity freed up by the tax cuts is being directed to stock buybacks.  Today (9/17^th) the WSJ reported that repatriation of foreign profits is proceeding in a slow pace and the bulk of money is used for stock buybacks.  The newspaper estimates the repatriation rate is so slow that puts in doubt the Trump administration’s expectation for the repatriation of $4 trillion.  Siphoning repatriated profits to stock buybacks is consistent with the argument that in a full-employment economy business opportunities for massive new real (factory, equipment, R&D) investments are limited and the best policy is to return the excess cash to shareholders.

The numbers I have in mind are economic performance numbers for the US economy.  One of the cognitive biases supported by behavioral economics is the confirmation bias.  Human brains are wired to seek validation of preconceived notions in observed reality.  Economic numbers represent an observed (through measurement) reality.  Thus, we are more likely to interpret economic numbers as supporting the economic policies of our favored political affiliation, while the reverse is true if we support an opposite party.

Last week, the government published various economic results for 2017. One set of news is below:

• Median household income rose by 1.8% to $61,372 in 2017. This is the third consecutive year of positive growth.
• More people were employed full-time in 2017 than the previous year and people overall worked more hours.
• The poverty rate as percent of the population, declined from 12.7% to 12.3%. The poverty rates for blacks and Hispanics, though still higher than that of whites, dropped to their lowest levels since 1972 (to 21.2% and 18.3%, respectively).  Poverty rates also have declined over the last three years.

Another set of numbers is as follows:

• The 1.8% growth of median household income in 2017 was lower than the growth rates of 5.2% and 3.2% realized in 2015 and 2016.
• The median household income of $61,372 in 2017 was statistically indistinguishable from that of 1999 and 2007 (the latter being the year before the financial crisis erupted in 2008).
• Average annual earnings declined in 2017. Therefore, household incomes have increased because more household members work or the same members work more hours and possibly more jobs.
• Between 2007 and 2017 the GDP increased by 16% (after inflation) but the median household income has not changed. This means the bulk of the economy’s growth has benefited the upper-income people.
• Income inequality persists. Household income at the 90^th percentile rose by 7.5% from 2007 to 2017 while that at the 10^th percentile declined by 4.5%.  (Loosely speaking, a household at the 90^th percentile is part of the top 10% of all households in income terms and a household at the 10^th percentile is part of the bottom 10%.)
• While the median income of black Americans in 2017 is still below that of 2007 by 2.9%, that of white Americans is greater by 1.5%. Hispanics have enjoyed the greatest growth, 6.7%.

So, how would we interpret these results?  Confirmation bias suggests that Republicans and conservative economists will concentrate on the top set of numbers and Democrats and liberal economists on the bottom set.

Predictably, the editorial page in The Wall Street Journal focused on the good numbers of the top set.  The New York Times did not editorialize on the economic numbers but its reporting over several days brought attention to the stagnate earnings of American workers and the persistence of economic inequality.

The WSJ editorial further claimed that the promise of tax cuts and deregulation announced by President Trump in 2017 “unshackled animal spirits while tax reform has boosted capital investment,…”  The problem is that deregulation proceeded incrementally through 2017 and the tax cuts did not become law before the end of 2017.  It is not certain whether it was the initial steps toward deregulation and the prospect of tax cuts or it was the momentum from previous years that powered the economy forward in 2017.  If the driving force were the promises of the Trump administration, how do we explain the decline in the growth of median household income?  Why didn’t the business animal spirits and new investment boost worker’s earnings?  It seems to me there is a selective attribution with regard to the consequences of the current economic policies.

There is also the claim that Obama’s economic policies generated a rather weak growth compared to the higher GDP growth rates observed in 2017 and thus far in 2018. Writing in the NYT, Paul Krugman reminds us, though, that the Republican majority first in one and later in both chambers of Congress in the years after the 2010 mid-term elections refused to support more generous spending (as for example on infrastructure projects) for fear of aggravating the federal deficit.  I checked and found that the budget deficits started to decline after 2012 and, as a result, the government’s stimulus weakened significantly over Obama’s second term.  The budget deficit dropped from over $1 trillion in 2012 to $0.585 trillion in 2016.  Republican preoccupation with federal deficits was, of course, a non-issue in approving tax cuts and increases in the federal budget deficit at the end of 2017.  Therefore, comparing growth rates under the Obama and Trump administrations, each operating with asymmetrical constraints on fiscal policy, is disingenuous.

Furthermore, the faster economic growth powered by public debt is not free of costs and future risks.  As reported by the WSJ, the federal deficit grew by 33% to $898 billion in 2018 over a similar period in 2017.  And, so far, spending is up by 7% while revenue (after some adjustments) is down by 4% (with lower corporate tax revenue being a significant drain).  Eventually the current and future generations will have to pay the debt one way or another.  As they say: “there is no such a thing as a free lunch.”

We all admire the Founding Fathers for the wisdom and foresight they exercised as they laid down the Constitution and the basic rights that, after two centuries, still define political governance in the U.S.   Yet, this system of governance has started to produce outcomes that leave large swaths of U.S. citizens to feel less represented in the various branches of the state.

The Senate over-represents states sparsely populated and under-represents heavily populated states, like California and New York.  The rather moderate differences in population across the founding states that existed at the birth of the Republic have by now become huge.  California’s almost 40 million population is 40 times larger than Montana’s 1 million.  And yet each state sends two senators to Congress.

Since the electoral votes are the sum of the 435 House seats plus the 100 Senate seats, this also skews the electoral congress in favor of less populous states.  No surprise then that it is possible to elect as president the candidate that wins the majority of electoral votes but not the majority of nation-wide votes, as it happened in 2000 and 2016.

The Supreme Court has always been a non-representative body from many standpoints.  Prior to the 20th century the appointment of Catholic jurists was rare in the other-wise Protestant, male and white Court.  The 20th century saw a significant trend toward greater representativeness with the appointment of more Catholics, and for the first time Jewish-Americans, one African-American, and women, all at the expense of Protestant jurists.  The current Supreme Court of eight (excluding Kennedy), consists of 5 men and 3 women of which 4 are Catholic, 3 are Jewish and 1 is Protestant (but raised as Catholic – Neil Gorsuch).  With the likely appointment of Brett Kavanaugh, the number of Catholics will go again up to 5 and that of Christian-affiliated jurists to 6.

Beyond the obvious gender gap, this demographic breakdown is out of sync with present U.S. demographics in relation to religious affiliation.  A survey conducted by Pew Research and cited in a recent article in the Wall Street Journal of Sept. 10, 2018 (“Nonbelievers Seek Increased Political Power”) reveals that by religious affiliation, the U.S. adult population breaks down to about 25% Evangelicals, 21% Catholics, 14% Mainline Protestants, 16% Non-Christians (i.e., Jewish, Muslims, Hindus, others) and 24% Unaffiliated (i.e., atheists, agnostics, and non-denominationals).  Even more important is the trend in these groups.  Whereas the share of all three Christian groups has declined between 2000 and 2014, the share of Unaffiliated has increased by 10% and that of Non-Christians by about 2%.

Related to this growing discrepancy between the composition of the Supreme Court and the general population is the following article posted on CNN: How Brett Kavanaugh will collide with a changing America
CNN Politics.  Read the full story

In an ideal world, candidates for the SC would be selected on the basis of their legal knowledge, experience, and objectivity.  Instead, appointments to the SC have reflected, in the distant past, protestant bias against other religious or ethnic groups, and since Roe v. Wade the opposing views about abortion and, more recently, gay rights.  From the Republican side this leads to a preference for candidates with known religious bona fides and affiliation with denominations that stand opposed to abortion and gay rights and who are likely to favor religious over secular rights.

At the same time, we are witnessing an intensifying and systematic effort by the Christian right (spearheaded by Evangelicals) to erode the separation between church and state established by the First Amendment.  The nomination of one more candidate, like Brett Kavanaugh, who has undeniable strong religious affiliation and feelings, cannot, therefore, meet the rights to representation of those who are part of the 24% of Unaffiliated and the 16% of non-Christian U.S. citizens.  Nor can it meet the views of religious Americans, who, nonetheless, support the separation of church and state. Although it is premature to say how judge Kavanaugh will decide on the above issues, his religious credentials are such that raise justifiable concerns among secular Americans.

Given the life appointments to the SC, it follows that any future realignment of the composition of the SC will lag many years – most likely a whole generation – before currently less-represented or unrepresented segments of Americans find their voice in the Supreme Court.