Richard Epstein on Regulation
Sep 20 2010

Richard Epstein of New York University and Stanford University's Hoover Institution talks with EconTalk host Russ Roberts about the current state of the economy, particularly the regulatory climate. Epstein argues the current level of regulation is producing unusually high costs. He digs more deeply into the pharmaceutical industry and discusses various regulations and alternative ways to encourage drug safety and innovation.

Sam Peltzman on Regulation
Sam Peltzman of the University of Chicago talks about his views on safety, regulation, unintended consequences and the political economy of bad regulation. The focus is on his pioneering studies of automobile safety and FDA pharmaceutical regulation and the perverse...
Richard Epstein on the Constitution
Richard Epstein of New York University and Stanford University's Hoover Institution talks with EconTalk host Russ Roberts about the U.S. Constitution. Topics covered in this wide-ranging conversation include how the interpretation of the Constitution has changed over time, the relationship...
Explore audio transcript, further reading that will help you delve deeper into this week’s episode, and vigorous conversations in the form of our comments section below.


Sep 20 2010 at 8:59am

luv u econtalk…great podcast. epstein is always an awesome guest for the current scene (ie changing regulatory scene)

couple quick complaints though…i was surprised to hear epstein say the US (and japan) is in “stagFLation” more than once.

the US is not in stagflation. perhaps he meant “stagNation”. inflation (a necessary component of stagflation) is nowhere to b scene in the US (nor has it been in japan since the ‘lost decade’ began).

inflation is certainly a risk in the future, but to say that the US is currently in stagflation (ie currently having high unemployment AND inflation) is simply wrong.

very surprised by this- but it couldve been just a slip- eventhough this slip ocured more than once and in different contexts (ie commenting on US and japan).

also….the stimulus or recovery act efficacy. u need need more private sector people to weigh in on this.

u should get JAN HATZIUS on the show to discuss this (and other things). in the meantime, just search around for goldman sachs research and u’ll find that their conclusion is that but for the recovery act GDP/employment would’ve sank deeper and stabilized slower.

hatzius is the chief north american economist at GS. his research/analysis is likely among the finest money can buy.

anyway…great show but i really wish would have on much more private sector economists/investors to discuss these things (like hatzius) rather than (what seems like) strictly academics.

luv u!

Sep 20 2010 at 11:17am

As always, a 2 for 1 day with Richard Epstein as guest.

In your discussion of the developing regulatory quagmire, I thought there was a better analogy than Japan: the pre-1990 Indian License Raj, or License Kingdom. To be sure, politicians and regulators intend to develop a risk-free society, but their actions are leading us down the path to economic stagnation brought on by an American version of the License Raj.

Another analogy. With all our czars, we are employing more an more people to construct Potemkin Villages.

Sep 20 2010 at 12:13pm

Epstein points out the dangers of legislation bundling. My proposed solution. A constitutional amendment placing a limit of 1,500 words on new legislation.

Sep 20 2010 at 1:17pm


think the “word limit” or “too many pages” argument for legislation is flawed. if reasoning is sound, then y not apply it to private sector contracts.

for instance, credit card agreements r over 7000 words(just look at urs)

how many pages do we think the tiger woods pre-nup contract was? or the contract when JPM bought bear stearns?

these r simple 2 party agreements compared to regulating industries as large as those found in the US economy.

i just think this argument is biased bc length seems to b a concern only in the public sector.

if length really is a problem, then it should b a problem in the private sector as well- else the logic is faulty.

i have no opinion on length of contracts/legislation….but wish everything was simpler in those regards.

Mads Lindstrøm
Sep 20 2010 at 1:42pm

I think there is an error in the transcript, as the transcript stops at the minute 42, even though the interview is well over an hour.

Mads Lindstrøm
Sep 20 2010 at 1:54pm

I never read any Keynes, so I may be flat wrong here, but I thought the interior maximum of the Keynesian model, was when the stimulus was big enough to get full employment (or some goal close to full employment). If you push it past full employment you overheat the economy, with inflation and bubbles. I am not saying the Keynesian model is correct, but it do seem to have a interior maximum.

Russ Roberts
Sep 20 2010 at 2:17pm

Mads Lindstrom,

Full highlights coming soon!


Sep 20 2010 at 5:41pm

Loved listening to Epstein. I sincerely hope you have him on again (and soon!). What a wonderful guest!

Sep 20 2010 at 7:00pm

Richard Epstein is a fusion of a brain and a machine gun–always pointed where it can do the most damage! More seriously, I lived in Japan for years and he’s dead on. Unlike the U.S., Japan has no classical liberal/libertarian tradition; on the contrary, the East Asian tradition is deference to authority. That means fewer “checks and balances” to oppose one more regulation, often with the explicit justification that “too much competition confuses the consumer.” Stagnation is the inevitable result. By the way, that’s one reason people’s fears of China are exaggerated. Many of the China-bashing arguments were made against Japan, i.e., if we don’t contain them double-quick they’ll soon own everything. Yeah right.

Sep 20 2010 at 8:59pm

The modern product liability system started as a market solution.

If you make the manufacturer pay for exacty the damage its product does, then the manufacturer will put in just the right amount of safety, trading off the cost of safety and the cost of paying damages, to the perfect optimum.

What happened is that courts in addition to actual damages awarded damages to “send a message” about unsafety, which completely wiped out the point of the system.

There is no safety tradeoff in the picture in modern courts.

Sep 20 2010 at 9:11pm


There are many differences between private contracts and public legislation. The first one that comes to mind is that the former are voluntary whilst the latter is compulsory. I don’t think it unreasonable to view parties that enter into a contract voluntarily as having represented their own competence in terms of understanding the agreement. Also, the sheer scope of application of legislation, presumably applying to the entire populace, should caution against excessive complexity. If we can’t expect someone to understand the agreement, but we literally force them to accept it anyway, do we really have a moral leg to stand on when it comes to enforcing the terms?

Sep 20 2010 at 11:22pm


It seems to me there is a problem with the unemployment insurance=higher unemployment argument in the current economic condition. I have not heard any employers complain that they do not have enough applicants for their positions, or that the worker pool is too small to chose from (if you have evidence such as this I would be interested to see it).

In fact it seems the opposite is true, the few openings available seem to get swamped with qualified (or even vastly over-qualified) applications of people seeking jobs. So in this situation I do not see the logic of saying the unemployment rate is effected by unemployment insurance, even if it DOES cause some to not seek employment… there are plenty more applicants to choose from.

This might also be changed if there was no minimum wage as jobs could theoretically drop below unemployment pay and not be worth pursuing, but again that is not the environment we are in, am I wrong?

Sep 20 2010 at 11:39pm

Great podcast as always with Epstein. (I’ve said it before, but he and Munger can’t be beat.)

I confess I haven’t really thought this out, and may soon regret asking, but what about a podcast discussing a parliamentary system for the US?

Sep 21 2010 at 1:04am


I have not heard that criticism on Keynesian economics before. I’d love to hear or read more about it.

It never tells you where it is that you’re supposed to quit. Take something like unemployment benefits. If 52 weeks are better than 26 weeks and 99 weeks are better than 52 weeks, are we going to say 200 weeks are better than 99 weeks?

I think those are great questions: When do we turn it off? When do we move unemployment back to 26 weeks? If I were an enterprising reporter or debate question writer, I might think these would be very good questions to ask.

Sep 21 2010 at 1:18am


Why does there have to be a simplistic answer to the unemployment insurance question? Why can’t it be extended when the ratio of jobless to jobs is very high and reduced when it is not in order to avoid ill effects.

I know a common response is that it will be hard to remove the benefit than it was to put it in place… I frankly think that is a matter of political will, if you were to judge libertarian policies based on how easy they are to implement than very few would be a “good idea,” luckily most people don’t calculate based on that criteria in my opinion.

Sep 21 2010 at 9:29am

I listened to about 10 minutes and then pretty much had it. A professor from NYU telling us the tax cuts and the general milieu of 10 years ago as a better situation then we now face? Then blaming regulation and debt as the problems for recovery. Can he really not see that the crash followed the tax cuts and the Wall Street deregulation. His preferred milieu got us financial instruments that leveraged the housing market with some $500 trillion dollars to 1 with opaque free market created products that still contaminate the economy. Yet the resultant secondary debts from falling receipts and the post -crash legislation is apparently the problem.

He complains about the stock market not taking in the fact it was down 30% from his preferred milieu of 10 years ago and up now 25% since the new administration took office but apparently because it’s not back to the “bubble levels” of 14,000 something must be wrong with the NEW regime? It was a bubble professor…. there was nothing of value in those CDO’s except their ability to steal wealth from the real productive people of society.

The professor complains about over-regulation as socialist Germany and communist China pass us by… aren’t they a little more regulated and planned?

The conversation doesn’t past muster as anything thoughtful and intellectual but merely a spree of ideology that has reached it’s limits.

The fact as I see it professor is that the economy will not improve until the underlying factors that create such massive financial inequality are addressed. There is no way to preserve the American standard of living if we expect the American worker to compete with communist Chinese workers with NO protections while a small per cent of those in advantageous position reap ungodly fortunes and power greater than any Czar, Despot King or other tyrant ever held.

The fact is our strong post FDR economy has been brought to the brink by Chicago Boys polices. It had lots of built in buffers coming into the era of Reagonomics but those foundations that provided such buffers are eroded away. Any further push in the professors preferred direction will only sink the middle class and the over all economy that much further into oblivion.

Sep 21 2010 at 10:13am

AHBritton is right to point out the obvious: welfare HAS undergone reform that was deemed impossible. Benefits have been removed. Epstein’s view is one-sided. He is an ideologue and that’s his right. He nonetheless gave me food for thought.

Interestingly, many of the quasi-Socialist countries of continental Europe limit awards in tort cases in all kinds of ways. The democratically elected governments of those countries have consistently held the reasoning that freedom to sue for limitless amounts increases the overall costs of the health-care systems they are trying to run, ones where 97% of the population has decent coverage.

In the long term, tort reform will probably leave behind enormous and expensive new slabs of bureaucracy at the FDA: insurance regulators, financial analysts, etc.

On the internal limit of Keynesianism:
Inflation will drive the political process all the way to revolution if needed, but then the outcome is uncertain, and often ugly for the vast majority. But there is another limit you hit way before that: the market. Try borrowing at an attractive rate if all we can see in your country is a huge overpaid unproductive government workforce gumming everything up. I am not a great reader of Keynes, but I don’t think he believed that you could outrun the market forever.

Trent Whitney
Sep 21 2010 at 10:32am

One of the most powerful podcasts of the year…very high on the “wow” factor. And a powerful ending about not quite knowing where to begin to confront this emerging tsunami.

The discussion of Keynesian economics was particularly insightful in light of either not knowing when (or not having the politicial will) to turn off the stimulus spigot – similar analogy as to not knowing when to turn off the protectionist spigot when it comes to regulation. That has always seemed to me to be the huge weakness in Keynesian theory, yet I haven’t heard it argued much in the ongoing debate the past few years. Perhaps it’s because when you start talking about how the structural deficit is being increased, people’s eyes start to glaze over…

Sep 21 2010 at 11:29am


i was thinking about that counter argument as i typed: there is a big diff b/t public & private contracts. it’s a good one.

yet what’s the danger of super complicated contracts? stiglitz might say it’s “asymetric info” (or “competency”).

anyway…in either sphere (pub or priv) the length/complexity is used to gain advantage (rightly or wrongly, known or unknown to both sides).

when a contract imposes almost no limits on the actions of one party (relative to the other) and heavy limits on the other, it’s difficult to say there is a contract (in the commonly understood sense). hence the asymetry and opportunity for deception/misdirection…

it’s tough…kinda think a limit on length is a good principle- just think it should b applied equally- despite the diffs in the spheres (cuz the assumption of “competency” is not confirmed by making the agreement).

Sep 21 2010 at 11:37am

to a 1st approximation, epstein claimed the major problem w/ the housing/financial crisis was fannie/freddie distorting the the market so that rational players (the banks) can make “rational decisions that r suboptimal”

i think that’s a fair reiteration of one of his points.

yet, what about hedgies? they were in the same distorted environment, but didnt suffer so much by making so many “rational but suboptimal” decisions.

this strongly suggests that the dominant distortion was not subsidized housing. it was implicit guarantee the banks had (and hedgies dont) and the principal/agent problem (ie hedgies risk their own capital).

think epstein has performed better, but even at half speed he’s enlightening.

please bring on private sector market participants and analysts.

Richard W. Fulmer
Sep 21 2010 at 12:48pm

Please explain the mechanics of how the Bush tax cuts led to our current financial problems. Thanks.

Sep 21 2010 at 1:24pm


You made a lot of assertions but provided no facts or evidence to back them up.

You imply tax cuts and deregulation caused “the crash”. Explain how the tax cuts contributed to the crash. Exactly what regulatory changes contributed to the crash? Explain how the housing market became over-leveraged and the term “opaque free market”. You imply policies of the current administration are responsible for the recent rise in the US stock market, please explain which policies are responsible and why. Please explain what are the “underlying factors that create such massive financial inequality”. WHat “protections” would you enact to enable US workers to compete with the Chinese? What were the “built-in buffers” in the “post FDR economy” that were eliminated by the era of “Reaganomics” Would you consider the state of the economy during the 70’s to have been better than the 80’s?

[Comment edited to correct misspelling of another commenter’s name. Please afford respect to other EconTalk commenters by spelling their names correctly.–Econlib Ed.]

Sep 21 2010 at 1:58pm

Here another example of the limited thinking here. The FDA is apparently a big problem here but not for Europe and Canada.

The professor makes my point. The issue is not more versus less regulation. The issue is good versus bad regulation. You guys are so stuck on LESS REGULATION the end result is policy chalked with compromised and poor regulation.

I honestly believe the libertarian position has lots to offer but only when they wake up to the silliness of less and less regulation being superior to the idea of good regualtion.

A set free deregualted Wall Street in charge of allocating resources and minimizing risk creating ON ITS OWN WITH NO GOVERNMENTAL OVERSIGHT finanical products of mass destruction leveraging $600 trillion dollars on bogus parasitic instraments should bring one a little realization like a cold splash of ice water in the face that you are not being rational when you claim the cause of the collapse is “so uncertain and so complicated to discern” and you are NOT being rational asking for more of the same.

You claim you are frustrated into unreason with the trends as if Galbraith was the model for poliy since the 1980’s and not Friedmann… give me a break.

Sep 21 2010 at 2:28pm

I have been listening and enjoying this podcast for many months, but recently it has lost some of its appeal to me because it has lost its sense of balance: what happened to its commitment to discussing different takes and perspectives on the same topic?

Richard Epstein’s monologue might be appealing to people who agree with his libertarian views, but certainly lacked any debate on its arguments.

I hope this is not happening because of the upcoming elections…

Sep 21 2010 at 4:30pm

Richard W. Fulmer writes:
Please explain the mechanics of how the Bush tax cuts led to our current financial problems. Thanks.

Google: “Two Santa Clauses”

In short; Tax cuts to the rich leave idle dollars looking for investment in low demand economies. Speculation always results along with bubble economies. The bubble expands, the wealhy skim the bubble pops and HERE… WE… ARE… AGAIN.

Now you explain to me why there was NO comparable CRASH between 1933 and 1980 when top rate were as high as 90%. How could that possibly be?

Sep 21 2010 at 4:50pm

@ muirgeo:

I’d like to hear your definition of a good regulation vs. a bad one. By what criteria?
How would you quantify the amounts of good or bad in a regulation? Who gets to decide which is which?

I don’t believe the professor made your point by illustrating how a regulation transitions from bad to good depending on the position of the observer whose product went through the regulatory approval and is shield (perhaps for time being) from competition.
I don’t believe the total deregulation is the way to go either as it could, in my view, increase the cost of business. Seems to me, the question becomes; how do we look for this elusive and ever moving “equilibrium”?

Sep 21 2010 at 6:26pm

kinda feel like it’s useful to go back and listen to podcasts just after the crisis.

start here (FEB 09)

nothing clears the mind like fear…nothing clutters it like relief.

y is it so hard to accept that private actors have captured the regulatory apparatus. this is y regulation failed.

just need honest cops…not no cops at all.

Sep 21 2010 at 9:03pm


Since when has government oversight and regulation eliminated crises? Give us a specific example of government oversight or regulation that you think has prevented trouble.

It is government that gave the financial firms the comfort to be reckless. These firms knew government would cover their losses if things went bad because gov’t had done so in the past. If we take gov’t out of the equation, then firms will not be so reckless because they will have to absorb the losses.

[Comment edited to correct misspelling of another commenter’s name. Please afford respect to other EconTalk commenters by spelling their names correctly.–Econlib Ed.]

Sep 21 2010 at 9:25pm

Thanks so much. What a beautiful mind. A great scholar as well as a great deal of personal experience to draw upon.

Hope to hear more from persons of Epstein’s quality. Or just hear more from Epstein. and Mike Munger.

Scott Packard
Sep 21 2010 at 10:32pm

+1 on Richard Epstein being a very good guest. I definitely have to listen to the podcast at least two times to digest all the points he makes.

Sep 21 2010 at 11:01pm


Would the so called “great moderation” count? Many people, including libertarians such as Milton Friedman, heralded the federal reserve’s actions during that period as being largely responsible for the longest period of general economic stability in history.

Sep 21 2010 at 11:22pm

Epstein/Russ/anyone else,

I also notice a slight inconsistency in Epstein’s argument in regards to the stimulus, etc. (although I admit as time goes on it could become stronger).

Epstein claims that unemployment going up is empirical proof of the stimulus’s failure.

The problem I have with this, and other’s arguments about the administration saying the unemployment rate would not excede 8% is that at the time of the stimulus actually passing the unemployment rate had ALREADY EXCEDED 8%. Now if you assume (which I don’t think any reasonable person can) that the stimulus should be instantaneously effecting, then the measure would begin at the +8% range… if you are at all reasonable you must admit that AT LEAST a few months would have to pass before any empirical data could really be drawn.

This leaves things in the 9.5% range, hardly the dramatic empirical shift that Epstein and other’s claim. On top of this from the Keynesian view the stimulus was too small making it a poor test… either way I don’t think it can be argued that the stimulus created of failed to present at least 9.5% of the current unemployment, although it could be argued it has hurt the economy this is poor ground to stand on in my opinion.

Am I right?

Sep 22 2010 at 8:11am

I never thought about this until this podcast but to the extent that Sarbox compress margins in underwriting small companies it pushed investment banks into more securitization and indirectly contributed to the financial crisis.

Sep 22 2010 at 9:14am

DM writes:
@ muirgeo:

I’d like to hear your definition of a good regulation vs. a bad one. By what criteria?
How would you quantify the amounts of good or bad in a regulation? Who gets to decide which is which?

A general example of good regulation “milieu” was that which we had between 1933 and 1980 when we saw unprecedented shared prosperity and growth. Banking institutions followed strict lending standards and could not invest peoples money in speculative ventures.

A specific example was taking the student loan program out of the hands of private banks and offering them directly to students. This makes college more affordable AND saves the taxpayers $50 billion over 10 years. There are plenty more… like the legislation to develop catalytic convertors or the legislation that opened up the internet to private enterprise.

Dustin Klang
Sep 22 2010 at 1:17pm

In a recent econtalk podcast, Dr. Kling made a keen observation with respect to the how humans seek and trust the certain voice, while the honest Academic, who admits to ignorance, is not pleasant or appealing to many ears. As Bertrand Russell pointed out in Philosophy for the Laymen, “The demand for certainty is one which is natural to man, but is nevertheless an intellectual vice.”

Surely, then, if one can avoid the cost of sleepless nights It seems unfortunately rational to indulge in demagoguery; as Dr. Kling pointed out, the certain Economist is the one who is heard. Shame, although not easily quantifiable, being a powerful motivator, stops many five year, decimal point bearing GDP growth predictions from being made.

Psychiatrists and Economists seem to face a similarly unfortunate structure of incentives.

Sally takes her eight year old son Johnny to a psychiatrist (we’ll call him Dr. No) because she confuses “healthy” for “hyperactive”. The Psychiatrist tells Sally that the sophisticated biological system that is her son is far too complex to “fix” in the normative meaning.
Dr. No tells her that she should find constructive outlets for Johnny energy (sunshine, sports, less x-box etc). He explains that she should set up a framework of rules to further Johnny’s future, but that children (being complex, semi-unpredictable biological systems) are not calculus equations and behavior that Sally considers undesirable is not necessarily unexpected, and may, in fact, be optimal for Johnny’s development.
He would insist that injecting stimulants, (SSRI’s etc) into the mix will only work (if they work at all) as long as the pharmaceuticals are continued: This breed, he tells her, of artificial meddling is not well understood and may very well be detrimental and certainly lead to unintended consequences.

If Dr. No followed his financial incentives (as opposed to his morality) he might have told her that there were these magic green and white pills which could make him more manageable, and some blue pills to help his grades, and some little white pills for slumber. Better living through chemistry and all of that.
Without having to actually spend time playing with, helping Johnny study, or reading him bedtime stories, Sally could be free to enjoy lunch or any other non-parental activity… without consequence of course.

The FDA’s black-box warnings may be unfortunate for patients in need of Phenergan, but any regime change which brings about a reduction in the number of prescriptions for SSRI’s, amphetamines, or other psychoactives (Prozac, Adderall Ritalin etc) seems to be fortunate, especially for teens and younger children.

Sep 22 2010 at 4:14pm

Why does there have to be a simplistic answer to the unemployment insurance question? Why can’t it be extended when the ratio of jobless to jobs is very high and reduced when it is not in order to avoid ill effects.” -AHBritton

Not sure why you included the word ‘simplistic’.

An answer would do. Has any politician indicated that they’ll shrink the length of unemployment benefits once the ratio comes down? I may have missed it.

if you were to judge libertarian policies based on how easy they are to implement than very few would be a “good idea,”

I’m not judging it based on the political will that will make it hard to reverse it. I’m judging based on whether the politicians who voted for it now ever even considered whether it would make sense to reduce it once things get better.

Sep 22 2010 at 4:49pm

AHBritton –

comments on a couple things you said earlier:

This might also be changed if there was no minimum wage as jobs could theoretically drop below unemployment pay and not be worth pursuing, but again that is not the environment we are in, am I wrong?

First off, there are some people I know personally who have turned down positions specifically because the unemployment pay was higher than the pay for working. I think an argument could be made for decreasing the amount of benefits provided on unemployment, while maintaining a longer duration. The incentive to find and accept work increases, while the ability for someone to sustain themselves for a long time in between work can be achieved to some degree. Personally, I don’t see as much problem with current welfare levels as with Social Security and institutional deficit problems needing to be re-balanced, so adjusting these unemployment levels may be a waste of our time for the few people that abuse the current system.

either way I don’t think it can be argued that the stimulus created of failed to present at least 9.5% of the current unemployment, although it could be argued it has hurt the economy this is poor ground to stand on in my opinion.

I completely agree with this sentiment. One argument of Keynes that I have not been able to shake is essentially the notion of barrier to entry that presents a problem to recovery from a deep recession. When the economy slides, things re-adjust (wages decrease, innovation increases, etc) to re-employ the population and grow production and the economy at large. If, however, things decrease beyond a certain point (where this is may be an object of contention), there are new barriers to rebuilding, rather than factories re-hiring workers, etc. If, in the public sector, the economy dips to the point of decreasing education, police, fire, and all other sectors paid by taxes, don’t we risk actual destruction of capital by crime, fire, and other means, all of which needs to be overcome just to get back to a low start-point? Can governmental deficit spending be justified to avoid infrastructure destruction? Similarly, if a large number of factories close, and the capital equipment rusts and decays rather than being sold off, isn’t it far more expensive to build new equipment than it would have been to maintain the old over some interim period? The risk of the interest payments are the deterrent to reckless use of this tool, but in some cases, I feel Keynesian spending can definitely be justified.

Sep 22 2010 at 9:24pm

Long time listener, first time commenter. Also, this was the first time I gave up mid-podcast.

I agree with the point made by Giovanni that this episode lacked balance. Sir, you serve both your guests and your audience best when you challenge your guests to prove their case. Prof Epstein presented his opinions as a political monologue, including along the way “facts” that are at minimum under dispute (e.g. “the Bush tax cuts increased revenue” – I have read elsewhere that this is not correct.)

This has been a problem in some past Munger podcasts as well, unfortunately.

Sep 23 2010 at 10:49am


I see you are trying to come to the rescue of muirgeo.

No, I don’t think the so called “great moderation” prevented any crisis, at best, it simply postponed it. Alan Greenspan has already admitted he and the Federal Reserve were major contributing factors to the current crisis. Is an extended period of “moderation” followed by an extraordinarily severe recession a success?

[Comment edited to correct misspelling of another commenter’s name. Please afford respect to other EconTalk commenters by spelling their names correctly.–Econlib Ed.]

Scott Packard
Sep 23 2010 at 4:29pm

> “the Bush tax cuts increased revenue” – I have read elsewhere that this is not correct.

I guess that would be Paul Krugman, 2003?
Krugman, Paul. The Great Unraveling: Losing Our Way in the New Century. New York: Norton, 2003. An attack on the fiscal policy (and other aspects) of the George W. Bush administration.

Please let us know what your source is. One thing I’ve noticed is there is usually a source, then a lot of people are paraphrasing from the source.

Sep 23 2010 at 5:37pm

I’m with Miles. It seemed like one long monologue telling a just-so story while Russ threw out the occasional straw man. There wasn’t much examination, explanation, or questioning but instead, a lot of assertions cobbled together and not a lot of critical thinking.

Ralph Buchanan
Sep 23 2010 at 8:40pm

When the government can’t be trusted to maintain objectivity in refereeing private markets it’s best to limit its influence. Subsidiarity is likely the best defense – keep control close to home where winners and losers will be rapidly obvious.

Limited Government is the cure for corruption from top down: Politicians too often become players in the game rather than referees, creating regulatory influence that can be bought by corporations, unions etc. Limited Government is also the cure for corruption from the bottom up: where there is no influence to buy, there is no rent-seeking by unions, corporations etc.

Sometimes federal intervention may be necessary:
What is the government’s role? I like the idea of justifying legislation with a specific appeal to constitutional authority on each bill – cite the passage that gives the authority for that piece of legislation. Not only would that limit congress, it would also provide the judicial system with a starting point for checks/balances. They don’t have to be experts in the field, just on the constitution, which, after all, is their job. It also helps limit the power of the Judicial branch to its stated role and helps prevent legislating from the bench.

Concerning limits to unemployment compensation:
If you broaden and extend government taxation and transfers as benefits during times of high unemployment how will you reach the full employment that turns off the spigot? By extension of that logic, we can reach full employment by giving everyone unemployment compensation – we’d all work for the government. Didn’t they used to call that socialism?

Sep 24 2010 at 12:57am


I actually find muirgeo’s argumentation somewhat weak and poorly thought out, no offense muirgeo…. it is possible you are simply not presenting your fuller argument clearly enough.

Personally I don’t consider myself to have a very strong opinion on such… most things seem too complex for me to understand in this world :), but I do like to test arguments to see what other’s opinions are and where strengths and weaknesses in certain arguments might be.

I don’t necessarily think the Federal Reserve did a great job either, just thought as a libertarian you might be sympathetic to Friedman. Although I still think it is an open question whether the longest and most stable financial period in US history is a good thing if it leads to a great recession.

I wonder, what do you think about regulating deep water drilling? It is an industry that to me seems to obviously have major negative externalities that are not fully accounted for in a free market system.

[Comment edited to correct multiple misspellings of another commenter’s name. Please afford respect to other EconTalk commenters by spelling their names correctly.–Econlib Ed.]

Sep 24 2010 at 1:15am

Scott Packard,

I know I have better resources in PDF form somewhere for all the data but if you look here it does appear that revenue did decrease federally following the 2001 Bush tax cuts, do you have evidence to the contrary?

Again it has been a little bit since I looked into it, so I will have to go back through the data, but last I looked into it the evidence for and actual INCREASE in revenue following recent tax cuts is scant. Remember the Laffer curve has 2 sides and one side has revenue decrease simply at a slower rate than would be expected from shear numbers.

Oh… and when I looked into it before it WAS NOT based on Paul Krugman, it was largely based on looking directly at the numbers myself (which I ALWAYS recommend) as well as reading many mainstream (and otherwise) economists. It is hardly a fringe Liberal claim to say that tax cuts can lead to decreased revenue… I would guess most economists are on this side… at least until you get to the tail end of the Laffer.

If you have good info let me know.

I hope that helps.

Sep 24 2010 at 4:57pm

Ralph –

If you broaden and extend government taxation and transfers as benefits during times of high unemployment how will you reach the full employment that turns off the spigot? By extension of that logic, we can reach full employment by giving everyone unemployment compensation – we’d all work for the government.

I agree this principle sounds somewhat ominous, but in a society where unemployment pays only a fraction of what working pays, the incentive for anyone wishing for a higher quality of life will be to get back to work. Based both on purely monetary standards and on the “mastery and fulfillment” desires of workers discussed on a recent podcast with Daniel Pink as the guest, people will overwhelmingly want to work.

I know one or two people that are an exception to this rule, but as for myself and the vast majority of people I know personally, people hold their personal value closely tied with their ability to work and to contribute to society in some way. Extending unemployment benefits does not change human nature.

I see government’s role in this regard in a couple ways:
– Provide rules to a system to allow people who want to work to be able to work. This includes protecting property rights, maintaining fair civil courts, establishing stable laws, etc. It also includes establishing regulation only as necessary not to impose too many barriers to entry for new workers and entrepreneurs desiring to enter the market.
– Second, I believe that government can and should act for the common good, allowing philanthropic efforts and providing some services to those temporarily unemployed. This has some cost to it, but it also provides a great social good. Keeping people healthy and safe to a basic degree during unemployment allows them to more quickly rejoin the workforce, adding to the community’s productivity, not burdening it with unnecessary costs.

In this way, an unemployment benefit can provide for its own obsolescence. Providing a temporary (extended, but still temporary) benefit does not imply that the desire nor the necessary end is state-employment and socialism.

Ralph Buchanan
Sep 25 2010 at 4:38am

I’m not arguing against a social net to catch those in need, I’m just saying that the cure for high unemployment is not the dole. “Put them on unemployment” is not the knee-jerk response our leaders should have when faced with the consequences of their actions.

“On the margin,” subsidizing unemployment will increase unemployment. It doesn’t have to be the recipients’ desire: wouldn’t you feel better about laying off employees knowing they have good unemployment payments coming? It encourages employers to be less loyal to their employees. Most employers are small businessesmen who know their employees – no one wants to be the bad guy.

The government does have a role in refereeing the ‘playing field’ for markets, but that is precisely what has been abused by the Politicians. The cure for government excess is not more government, it is decreasing governments’ presence on the playing field. I played soccer as a kid: If your passes keep hitting the ref, the ref needs to get out of the way – he’s hindering the game.

The encouragement of private sector markets by lowering barriers such as income and capital gains taxes and regulation is the appropriate first response. Maintaining low tax rates for the EMPLOYERS and those employed, as well as decreasing the cost of start-ups and new investment (deregulation) will create jobs and encourage competition/innovation in the market. It is the response most appropriate to the governments’ role in the market.

Ak Mike
Sep 25 2010 at 2:30pm

Re federal revenues following 2001 tax cuts:

Total government receipts, in millions of dollars:

2002 1,853,149
2003 1,782,321
2004 1,880,126

2005 2,153,625
2006 2,406,876
2007 2,568,001

Looks like an increase to me.

Eric Hosmann
Sep 25 2010 at 7:29pm

Another great one, Russ. Professor Epstein is always a treat. Listening to him is like hearing a manuscript being dictated.

I take issue with his point that desired order on highways requires some kind of government.

Private enterprise is certainly as capable, if not more so, of running toll roads. The fact that tolls reduce congestion is not proof that government is needed to impose them, but proof that people respond to price incentives. And prices that emerge organically are just fine at allocating resources.

Along those lines, I think your next guest should be David Friedman!

Sep 26 2010 at 12:09am

At least when I read Krugman, I get opinion backed up with data.

Sep 26 2010 at 12:53am

Ak Mike,

Those don’t look like they are inflation adjusted, that is definitely something to check for first with data. You will notice by that reasoning that federal receipts increase almost continuously regardless of tax rate and/or change on that table.

If you check back later I will try to post a link or some information from what I have looked up in the past… I’m sorry I don’t have the time right this minute.

Thanks for the resource though.

Sep 26 2010 at 1:14am

Ak Mike,

I found it quicker than I thought:

It is the OMB numbers and I personally find these some of the best tables I’ve seen out there.

To summarize here are the federal receipts in inflation adjusted billions of dollars for:

2001 – 1,991.4
2002 – 1,853.4
2003 – 1,782.5
2004 – 1,880.3
2005 – 2,153.9
2006 – 2,407.3
2007 – 2,568.2

Some fluctuations, decreases and then a steady increase for a few years. A bit different from the picture presented by your numbers however.

Just for comparison here are the numbers from around the Clinton tax hike:

1992 – 1,091.3
1993 – 1,154.5
1994 – 1,258.7
1995 – 1,351.9
1996 – 1,453.2
1997 – 1,579.4
1998 – 1,722.0

This is a steady increase… not to mention I think (correct me if I’m wrong) the Clinton administration presided over a greater increase in jobs than both the Bush and Reagan administrations combined.

Zane Rockenbaugh
Sep 26 2010 at 12:50pm

Eptsein had some good points and insight, but threw a lot of completely unsubstantiated and absurdly broad assertions out there that should have been challenged far more strongly and more consistently.

He’s obviously a smart guy, and I would guess actually pretty rational, but his rhetorical style demands a stronger counterweight. This episode really got out of hand and caused me to lose a little faith in the show.

Russ Roberts
Sep 28 2010 at 11:36am

You can’t evaluate the Bush tax cuts (or the Clinton tax increases) by looking at what happened to revenue. Correlation is not causation. Other things were happening at the same time. Yes, revenue rose as time passed during the Bush administration. But was that because of the tax cuts or because the economy recovered from the recession of 2001? Some argue that the cuts themselves ended the recession. Possible, but how do you know? Maybe the recession’s end was due to other forces.

My real disagreement with Epstein (and I did not have a chance to push him on this–wish I had) is that decreases in tax rates in the face of higher spending is just a delayed tax INCREASE. The real measure of taxation is government spending, not current tax rates.

Sep 28 2010 at 11:50am

Ak Mike,

A quick correction. I just wanted to apologize because after looking at the numbers you posted, they are the 2010 dollar adjusted numbers. I was a little confused because I was looking at various numbers… 2010 adjusted, 2000 adjusted, etc.

“my bad” I guess is what I’m suppose to say 🙂

THAT being said, if you look at the 2001-2007 numbers as compared to the 1992-1998 numbers, how does Epstein argue that the increased revenue in the first case is CAUSED by the tax cut, yet the increase in the second case is DESPITE a tax HIKE!

Sep 28 2010 at 12:34pm

For those who are interested, here is Krugman’s critique of the Austrian theory of the business cycle:

Sep 28 2010 at 2:20pm

That’s a tremendous podcast. I’m amazed by Epstein really.

Several years ago, Econtalk did a podcast with Esptein on happiness. I’ve gone back and listened to that podcast several times – Honestly, it’s really helped me sort out my own views a great deal.

I hope he continues to get a periodic appearance.

Scott Packard
Sep 29 2010 at 12:12pm

>The real measure of taxation is government spending, not current tax rates.

I’ve stared at that for awhile, thinking it was a profound statement, but it is missing something: the cost of regulation compliance.

So, I offer (and feel free to disagree):
The real measure of taxation is government spending + regulation compliance, not current tax rates.

Sep 29 2010 at 12:48pm

Thanks Russ! I do wish you had gotten a chance to probe him more on some of his assertions!

I personally don’t deny the internal logic of the Laffer curve, I simply think it is more useful at the margins (obviously as you approach 0% taxation & 100% revenue will drop off) and we never know what an “optimal” taxation rate is… in fact it may depend on other macroeconomic factors as well.

Epstein’s assertion that it has basically been settled that the tax cuts lead to increased revenue is the epitome of the hubris you so often denounce… not to mention his seeming offense at the assertion that maybe the libertarian side partakes in the same post hoc story telling that others do 🙂 My favorite moment by far!

Oct 1 2010 at 11:17pm

Scott Packard,

“The real measure of taxation is government spending + regulation compliance, not current tax rates.”

Unless, that is, the regulation is helping to prevent some unaccounted for negative externality of economic drain.

Oct 14 2010 at 4:15pm


What would be an example of regulation “helping to prevent some unaccounted for negative externality of economic drain?”

Oct 17 2010 at 1:26pm


Just to clarify, that was supposed to be “or” economic drain.

Obviously any example I might give in support or against a real or hypothetical regulation is open to debate and speculation as to what an alternate universe with or without that regulation would be. That being said , I’ll give my best shot.

It is at least theoretically possible that regulation could have been adopted (as does exist in some areas) that could have prevented the Deep Horizon oil spill. This would most likely result in some additional cost (sorry I do not have off hand estimates of the potential costs of say retrofitting drill sites with additional emergency shut-off valves as other nations require).

Again it is debatable the cost of this as compared to the real, and/or unrealized, cost of the oil spill on the economy as a whole. I do think, however (again without significant research) that a VERY good case could be made that the spill was much more costly economically and environmentally.

Just one anecdotal comment to from an individual standpoint. I live in the gulf-coast region and LOVE seafood. The oil spill created an unexpected and very rapid rise in the cost of seafood with unknown long-term effects (fisheries effected by the Exxon Valdez spill have been argued to be still only in the middle of recovering). And I am not a fisherman or related to the industry as anything but a consumer. Now is this sudden rise in seafood prices offset for me by the savings I’ve potentially had at the pump do to no such regulation, I doubt it but I’d be happy to hear arguments to the effect.

Even if it is the case that the regulation would offset the economic costs of the spill, it still would have a much different dispersion in the population with larger oil prices being largely dispersed across the entire population, as opposed to the oil spill dramatically effecting specific people and industries… which gets into a much more complex ethical discussion so I won’t bother.

Is this argument at all convincing to you?

undercover economist (Godfrey)
Oct 18 2010 at 12:22pm

I would like to particularly thank Richard Epstein for his intellectual and meaningful contribution.

I live in South Africa and feel to contribute. One of key good governance indicators is social justice. How far the custodians of the new regulation did have a discourse analysis with the American people before its implementation? Does it consider the minority or majority? The federal administration should consider the exponential growth of people like Richard before taking any action.

Oct 19 2010 at 4:01pm


Just to make a contrary argument…

If regulation allowed shallow water drilling the perils of deep water drilling could be mitigated. A shallow leak could be capped and contained immediately. So, one could argue that regulation created an environment in which a Deep Horizon disaster is possible. Add on top of that the negative economic impact of further regulation through moratorium.

Scott Packard’s formula may be onto something.

Oct 20 2010 at 1:02am


Thanks for the reply. Two comments however. “regulation created an environment in which a Deep Horizon disaster is possible.” This is obviously not true, as I see nothing about shallow drilling that would make deep water drilling “impossible.” Now if you meant to say “improbable,” I would be interested to know if there are resources that back that assumption up? That deep shore drilling would be so far behind its current state that it would “naturally” relieve the possibility of deep drilling catastrophes. I’m not saying it is not the case, just wondering if there is evidence.

Finally, this argument, even if true, does not negate my argument. My proposition was that increased safety regulations could have a beneficial economic impact outweighing its burden. If removal of other regulations would also be beneficial economically it does not remove the economic benefits of the regulation I proposed. It simply means that both your and my proposal would have a beneficial impact from the current state (or pre-horizon state).

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Podcast Episode Highlights
0:36Intro. [Recording date: August 30, 2010.] Topic: modest one of the state of the world; sure we will narrow it. Thoughts on what is happening that is happening in the economic and in the wider nexus on what is happening between politics and legislation--what we may call political economy? Start with the economy. Prognosis, not novel to anybody: so-called efforts at major recovery seem to have failed. First thing to notice is this is a market in which if you stand still, you fall behind. Population in the United States is still increasing. If you have a labor force no bigger this year than last year, you are going to increase either the number of people who have given up--dropped out of the work force--or have a higher rate of unemployment. Treading water in this market; for most people that tends to be the dominant indicator. Not the only indicator. Stock market--it, too, is treading water; around 10,000, a little above; the high was a little over 14,000, already three years ago. Indicates the capital values have not increased commensurate with what you would hope to be a normal level of growth. If you try to look forward to the prospects, we will see a systematic shift from production to compliance as the kind of general political ethic of our time. One of more frightening features is that all of the increase seems to be on the government side; almost none of it seems to be on the private sector side. Means since much of the private sector employment is an effort to beef up your compliance, the number of productive workers you see in the United States as opposed to their political overseers is going down. Augurs badly for growth of production in the United States. Regulation has two costs: direct cost of administration from the government side and compliance from the private industry side. In addition, it has huge incentive effects in terms of the way people look at risk of various kinds. The upside is going to be captured by government rules and regulations; if you do something wrong there may be a penalty or fine. Leads people to pull back. What you see today in the United States is no ambition, consolidations that result in shut-downs of various activities. Recent acquisition, Pfizer, decision to shut down the New London plant in order to comply with Kelo--classic example of how two companies come together and one research facility disappears. If you want to ask yourself what the overall picture is, there is, I think, no bright light on this particular horizon. Won't be any until there is change in political organization.
4:00Challenge that. No disputing the malaise in the labor market, and why is particularly related to your points about regulation. This isn't an economy where employers are eager to take on new costs--certain costs with uncertain benefits. Employers very worried about consumer behavior in the future, the tax burden, the regulatory burden. But: is there any evidence that the regulatory burden and this compliance issue you raise is any different than last 30 or 40 years? Steady increase in government's role in productive decision-making, some well-intentioned, some not, designed to benefit certain groups at the expense of others, often sold with the idea that it's good for the environment, safety, financial security, good for honesty in the case of Sarbanes-Oxley. Business world typically responds in a prudent and wise way: they often specialize. Firms get created that are really good at compliance. Resources do get wasted in that effort, but it's a speed bump, not major change in growth or risk-taking. Wonder if some of your pessimism is really a short-run pessimism as opposed to a sea-change. I think it's a long-term issue. This is about the fourth major run of regulation we've had in the United States in the last 40 years, 100 years rather. First, Progressive Era, 1914, no big deal perhaps; then the New Deal, then the Johnson-Nixon era. What happens is the marginal cost of additional regulation start to increase very rapidly and the marginal benefits of getting this stuff out of the system become very small. Level of regulation at a detailed level of specificity is far beyond anything we've seen before. Health Care Bill is close to 3000 pages. That doesn't capture the difficulties of it because there are probably 300-400 mandates for regulation about which nobody knows anything. The laws haven't been written. Keeps on going in in short phases. Right now, huge fights over what is the definition of this elusive term known as a "medical loss ratio" on the question of just what percentage of your fees in a business can be "administrative" before you have to start giving rebates to customers even if you are losing money. Never been anything like that in the earlier bills. Medicare: had a formula which made doctors extraordinarily rich and made everybody else relatively poor. But these are statutes which, if put into effect, will be confiscatory in their nature; and it will be exceedingly difficult to unravel them by virtue of counter-judicial action. Same true with Dodd-Frank , financial reform, bill--read 10 pages, require 25 mandates which nobody can understand. After you absorb three, can you absorb four is a different question from if you have none, can you absorb one. These things have had sharp effects in two ways. One is general malaise: extension of unemployment benefits to 99 weeks, which WSJ wrote this morning surely has changed the composition of the unemployed pool. Get a long immediate time for which people remain unemployed, and then in addition you get a large number of outliers who remain unemployed for a very long time indeed. The whole curve shifts to the right. In addition, you have things like the taxes, where if you are gambling that there's going to be some kind of major reform between now and 2011, you don't know if it's going to increase the level of productivity or do something to tamp it down. Two kinds of large things hanging over the economy, but it's more than that. This is a death of a thousand cuts. Have--in virtually industry in which I work and I work in a lot in one way or another--there is not a single movement toward deregulation. Kinds of regulations you see now are more comprehensive--the regulators are more skillful--and more thorough. Could take the Food and Drug Administration (FDA): ratcheting up the kind of restrictions it imposes. Enforcement of the Civil Rights Acts through the EOC [Educational Opportunity Centers?]--ramping up their enforcement as well even without legislation. Look in various labor markets and all you can find are low-level administrative concessions in favor of organized labor. One reported in the WSJ this morning: proxy rules in the SEC, bargaining chip for unions in an effort to keep the slate off. So on down the line. Really are seeing a bigger change than you make it out to be. We know the percentage of direct revenues devoted to the Federal government or taxes in general is moving up by 3-4%, which is a huge shift from 20-21% to 24-25% on the other. But it's worse than that. The money is being spent in counterproductive ways. Double-whammy, likely to put us in one of these sorts of Japanese sorts of long-term stagflation in which nothing much is going to happen. Nobody is crazy enough to regulate to the point where we are out on the streets starving in droves, but they all seem to think that somehow or other the incremental effect of regulation is not going to have that kind of effect. Sector by sector you see the same kind of thing going on. Can't think of any of these bills with a section that begins: Section xyz repeals.... Just don't see that any more. Piling this stuff up; got to the point where the decline is very, very steep.
11:12Would you have said anything differently ten years ago? Yes. Why? For one thing you had the Bush tax cuts. They increased revenue very substantially. But they couldn't keep pace with the spending. From 1990-2000, moderate amelioration. Tariff reforms of the Clinton period, as opposed to the Obama period, all kinds of covert methods to shut back on free trade overseas, Colombia and Panama being the most notable illustrations. Series of tax cuts in the Reagan period; 2001 you get them again. I would have said that the situation is basically in politically equilibrium, some things bad, some things good. Until we get an election in 2010 which radically changes Congress. Everything in the last two years has basically been in one direction. Bad. And much of the Bush legislation was bad as well. Sarbanes-Oxley, making it very difficult for companies that are small to go public. Tend to get bought out by larger companies in order to avoid those costs. Net effect of that is you get traditional, settled management managing new vibrant corporations, and they don't grow or behave in the same way. What you really want is not Google being folded into Microsoft; you want it coming up as an independent company. And the next Google will be bought by the current Google; impact sharply diminished because people will not be taking these companies public at the frequency they used to be done. One of many things. Number of foreign immigrants coming into the United States, high level positions sharply down. Quotas are not filled. People find it better to stay at home rather than coming here. So the Microsofts and the Googles in this world will build their plants in India instead of trying to bring their engineers to the United States. Jingoism, bad effects in both long and short term. Intensity of the regulation; fact that all the macro indicators are being badly handled; all of the sector stuff is universally in the wrong direction. Running everything in the wrong way; got to be very careful about that in terms of the way businesses going to be run. Take the Republican Party. When they opposed the Health Care bill, that's fine. When they opposed it on the grounds that we had to keep Medicare strong, what they are doing is showing their great allegiance to the dominant huge transfer payments over the new generation of huge transfer payments. Nobody saying these things are not sustainable. One illustration of it: when they did their annual trustees report in 2010, what they said was the Health Care bill has extended the solvency of Medicare by 10-12 years. And then the Chief Actuary wrote a separate report at the end of this document: I'm required to price these things on the assumption that physicians' fees are going down 30% and that Congress will never restore them, but going back for the last 11 years or so whenever this has been done, they've always restored them. Do the correct numbers and the day of reckoning comes closer. Quite pessimistic. What passes for general economics in the world at large--more pessimistic. Macroeconomic wisdom that you can control all this by interest rates or by stimulus packages simply ignores the fundamental chaos in the regulatory system which to my mind is far more important.
15:37Stick with the regulation for the minute. The other view--not yours, not mine either--is the exact opposite. The reason we're in this mess is we had a 25-year period of deregulation, a trust in the marketplace. All the things you are complaining about are necessary palliatives to fix the excesses of the market. We had a financial sector that blew up, so we had to have this reform. Fraud, shenanigans, that's why we needed Sarbanes-Oxley. Could go down the line in other areas. Necessary to redress the balance of power between government and the market and you want to go back to the good old days, but they weren't so good. I do want to go back not to the good old days because before Sarbanes-Oxley, much of the conduct which is now condemned by Sarbanes-Oxley was already criminal and the people were punished with the actions. Perspective: 2,000 listed companies, one or another exchanges; four of them start to blow up with various kinds of frauds. Let's just assume--which is false--that all of those were attributable to private misconduct and none to other forms of government regulation. Why do you want to put onerous reporting and notice requirement on the boards of directors of the other 1,996 companies which have done nothing wrong at all? Real question is not whether or not you regulate or don't regulate. Nobody who believes in laissez faire believes fraud is something you should condone. The question is whether or not prophylactic relief in the ex-ante state of the world is better than ex-post punishment with respect to the wrong-doing. No automatic rule in that regard. 1934 Securities and Exchange Act had all sorts of disclosure statements, most of which turned out to be relatively useless, which were in the antecedent stage. They've simply got overboard with respect to the ratio in question. Never ask how many of these sorts of things are created by government programs which make it possible for you to engage in various kinds of trades that would not otherwise have taken place. For example, if you want to figure out what's the source of the meltdown with regard to the financial markets, it's really a very complicated question. But one of the things one has to do is never neglect the role of Fannie Mae and Freddie Mac in terms of the way in which they bought mortgages which should not be issued. How do private firms behave when faced with incentives? They respond rationally, even if it's sub-optimal. How does that happen? The government announces: you sell paper to various kinds of individuals who are not credit-worthy and we will buy it from you. If you know you can sell it at face value even though it's worth far less, the rational guy would say, Hey, I'm going to sell this stuff and let the government worry about it. That initial decision by Freddie and Fannie seems to be ignored even though it ignites everything that goes on. Another reform: idea that you have to run to a mark-to-market system in order to explain to your customers exactly what the values are. This works fine when you have publicly traded shares, values there; thick markets, get same market price. But in a world where concoctions you create are difficult to value, what mark-to-market does is to force a run on the bank. Nobody knows what these things are worth; government gives you a very conservative markdown; you have to sell. But nobody will buy under these circumstances because everybody knows that once this guy is pegged to a particular set of prices, other companies are going to have to mark to market; so why buy now when you could buy later? Whole market starts to run down under a system where you are demanding a kind of precision which can't take place. If you have something other than compulsory sales, to allow some of these banks which are cash-flow positive to wait out the storm, you may have never had these kinds of difficulties. Would never buy into a narrative which says you are trying to buy into how these things start to operate on whether or not you've got difficulties. Second, much of this regulation is stopping problems which do not exist. Done work on the Durbin Amendment. There's no crisis with respect to credit cards and debit cards. There's an expanding market in the debit card market, which has none of the problems associated with bankruptcy because you don't have to worry about uninsured risk. Dick Durbin speaks to somebody: I pay a lot of money in interchange fees; why don't you just cut them out? You have a market system which essentially says, in a market where consumers need the banks, and the merchants need the banks, if the market allocates the cost on one side, what we're going to do is shift 98% of that cost back on the other side--or 95%, we don't know what the final number will be. There's no problem to fix! You create a system in which you have very sharp regulations, and to make it worse: some banks will have to forfeit perhaps as much as 85-95% of their revenue; other banks, under $10 billion out from under. Government guys are out from under it as well. Credit card guys are out from under it as well. Single unitary payers, like American Express, which functions as its own bank, are out from under it. So you getting "crazy" regulation which will wreck a market which is in no demonstrable form of market failure whatsoever. The definition of market failure these particular days is when you have a commodity for which someone must pay a positive price which is less than the benefit he receives for the services in question. If that is the definition, every market fails. Don't agree with this particular narrative; don't want to sound reasonable under these circumstances; think the responses to admitted failures has been wildly prophylactic, and then there are all sorts of things that aren't failures which get powerful responses. Another example: higher financial prices; passed the Wellstone stuff, which essentially requires in health care plans parity for all sorts mental illnesses. Which, from an insurance point of view is an extremely difficult thing to carry out. Why, in the midst of a financial reform, would you want to add a health care reform which is going to create huge compliance costs and continue to drive people out of the voluntary market? Once you get an opportunity to do this stuff, an astute person in Congress can hold up an entire piece of legislation in order to get some preferred bill through; bundling allows legislators to say: Hey, you got a surplus of $10,000 in this bill; put my bill through even at a surplus of even $7,000 and I get things I want as well. Hold up is enormously powerful tool which allows things to be put into a single package, some of which may do a modicum of good but others are unrelated and unambiguously harmful.
24:08FDA. Fascinating that there are two extreme, not-compatible, views of the FDA. One view is that they are so cautious that they withhold--and deter--new drugs coming to market that would be helpful. This view has been espoused by Sam Peltzman, originally; Alex Tabarrok, Dan Klein have written about it. Alternative view: this agency is a pawn of the pharmaceutical industry, do the bidding of the industry, what we need is a more vigilant FDA. Those two views can't be right. Any thoughts on how might adjudicate on those two claims? The political economy of the agency is much more complicated than many people commonly suppose. Any company who has a drug out in the marketplace with FDA approval is now in favor of rather strict restrictions on the introduction of substitute products by rival that might displace it from its market share. What everybody's trying to do is get to a situation of differential advantage, whereby large and experienced company which knows the ropes can get its products through a year or six months faster than somebody who turns out to be less skillful. Anticompetitive benefits: FDA acts as barrier to entry inside the marketplace. At that point, you expect industry behavior inconsistent, no strong drive to abolish the FDA--they benefit too much from it. Look to small entrepreneurs who are brave enough or foolish enough to try to ram a product through the FDA--they are going to be much more focused on the shorter time period. Larger companies, Merck, Pfizer, they always have a portfolio of products, which creates a different situation. Second point: if you are trying to figure out whether the pharmaceutical industry dominates this situation, that has to be wrong. There are too many other groups out there that have very large says in the way in which this thing operates. Take Congress in its oversight of the FDA. I've been involved in proceedings in which John Dingle would call a hearing to examine FDA people and everybody inside the agency would start to quake. What the FDA does, is it understands that if it lets a drug on the market, say, Vioxx, which has some adverse effects, it's going to be absolutely hammered in the political region. On the other hand, if it keeps something like Vioxx off the market and people simple suffer pain, which cannot be attributable to a drug the FDA has approved, they are going escape dangers. Built-in incentive to be extraordinarily cautious in order to escape political implications who make hay out of populist attack. Third, very complicated in this agency because of the interaction between what the FDA lets on the market and approves, and the way in which these drugs are used once they get out there. One very good sign that they are very slow on the uptake is the huge emergence of the off-label drug market which has taken place in the United States, particularly with respect to cancer drugs. Back up for a minute: when the FDA approves a drug, it doesn't say, Here's a kind of drug, just go right ahead and use it the way you want. What it does is approve it for certain uses and dosages, after detailed clinical tests. Once it gets out in the market, the FDA cannot regulate it. The doctors look at the thing, have a patient saying: I don't have a lung tumor, but I'm going to try it anyhow. Talk to patient, send it back to one of these organizations who keep tabs on adverse reactions like the National Comprehensive Cancer Network (NCCN); start seeing it; 85-90% of the uses of some drugs are off-label; certainly have adverse events. But you don't see any decline with respect to the use. What do you want to say to an agency that is in fact so slow on the uptake that 90% of the things that it approves are used for things for which the approvals are not given, and the accumulated information, fairly exhaustively monitored in the private literature, in effect does not leave any reputable positions to back off their use. Only conclusion I can draw from that is they are too slow on the uptake on that stuff; and that nobody wants to bear the cost of a heavy set of clinical trials to get an off-label use on use because it's just not worth it in terms of the way in which this thing is sold. Basically think only one drug taken back for unauthorized use by an authorized label, and it was founded: thalidomide. Now on the market: First used for leprosy; now used with multiple myeloma, deadly condition. Drug approved for use in that kind of condition. Otherwise, goes in different kind of fashion. Last, can count the number of new molecular entities: drugs of a different class that get approved each year, and as waiting periods get longer, the expenses for approval start to get higher. Number of drugs that fall out after the first stage of trials are called Phase 2 or Phase 3 trials. Those that back out tend to be higher. Talking about a billion plus dollars today, half invested in the early stage of the process in order to get some drugs through. These numbers have been moving up consistently over the time. As far as the industry being a pawn of the FDA or the FDA being a pawn of the industry, something known as Physician Drug User Fee Act (PDUFA), in which companies with high value products can pay the FDA for an expedited review. Tom Phillips, careful study--no real change in approval rates that come through PDUFA and no real change in the recall rates in drugs approved by PDUFA, notwithstanding that some have gone faster. Some view PDUFA as original sin; but the evidence is not there in the record. See more money gets things on the market faster; great loss is that therapies widely available elsewhere, Europe, Canada, being kept off out of vigilance in the United States--that translates into so many deaths per year for the want of treatment happening. Not an open question. Last point: Right now there is a ruinous set of developments from the Supreme Court, which is that the FDA, which is on the right side of this issue, cannot issue a warning which will serve drug companies if they get sued for product liability. Basically, no product liability suit today is brought because of product mis-fabricated. All brought because warnings have not been issued. No matter what you tell the FDA or put on the label, there is always somebody who can say it should have been a little clearer, larger, longer, stronger, and this product wouldn't have been used by my client. These cases probably increase to where the cost of marketing some drugs is a thousand-fold over their actual side-effects, given the way the tort law makes every indulgence for plaintiffs to win. Nothing the Supreme Court was willing to do to shut this off at the gate, by announcing that if you meet with the FDA standard then you are fine, and you don't meet with them, you are in trouble--which I think is the appropriate rule. Case in which the prophylactic rule surely beats ad hoc adjudication where you put an odd warning on a product and sometimes you win, sometimes you lose, never know which judge you'll be before or which jury or which state. Don't think this is that close a case. People who want to strengthen the FDA are generally mistaken in what they are looking for. In any large and complicated situation, you are always going to have some adverse events, and the mere fact that you have one doesn't mean you ought to take the extraordinary steps to shut down the event to zero.
34:44Tort issue and side effects. As an economist, no such thing as a 100% safe drug; don't want a 100% safe drug, there are no drugs without side effects. Not going to be very effective, not very strong, not going to help many people. Fascinates people who are not lawyers: how this system emerged, and how little control there is of any kind from the top down. We have a tort system. We have a set of consequences for behavior defined as malfeasance--sometimes not malfeasance, sometimes just bad luck. Often depends on which judge you get, which jury, which state, how teary-eyed the family of the person with the bad luck. How might that system be improved? Other than the occasional broad-based idea of tort-reform, it doesn't make it into the political debate. Rumbles along, and someone says: That's what we get, it must be okay. Someone points out that the legislators who pass the underlying legislation that allow these situations to emerge--they are lawyers, so maybe that's not the best system. What might we do to make that better? In terms of changing the composition of Congress, something not only about drugs but everything else under the sun, long term. But interesting history. Under the Bush Administration, FDA: Dan Troy comes forward with standard approving tough rule, particular product, cannot attack it in court as being inadequate. Case called Wyeth and Levine, U.S. Supreme Court said this is sloppy administrative procedure, so we will not give it any weight; and strike it down. Don't want to criticize them on that. If you didn't have the regulation and didn't have the statute, how would you address the question as to whether or not compliance with a Federal warning should block the court action. My own view is that general principles usually say that if you have a system of regulation that has not fallen asleep at the switch--which this one surely has not, and if anything tends to over-regulate on the warnings in many of these cases--what you do is you say that if you can market a drug with this warning, it's implicit that you don't have to put a stricter warning on this particular product. Therefore you should say that the Federal regulations occupy the particular field in question; and having occupied the field it's not for a bunch of different state courts and juries to go off in their own direction and impose liability. Because what's happened is that the liability that's being imposed bears almost no relationship to anything the drug company has done. What is characteristic of all the modern suits is that you have somebody in the middle who has done something which is so egregious that everybody concedes this to be previous forms of malpractice; and yet they turn out to be the second, rather than the first defendant. So, when Wyeth and Levine, you had a situation with a drug called Phenergan, on the market since about 1955, immensely useful drug for getting rid of pain, but could be administered in two ways: one, low-level drip, riskless procedure with modest effects; other, intractable cases, could switch to putting this stuff into the vein. The warnings on the package made it perfectly clear, don't do this except in intractable cases, and if you do to it, have to be exceedingly careful because paralysis or amputation could result; if you inject it into an artery, you are in deep trouble; too fast, too much. A physician's assistant in the State of Vermont hit an artery, kept pushing even though there was resistance, did twice as much, twice as fast, patient screaming through whole procedure; sure enough, limb was lost. Now sue Wyeth rather than suing the doctor; don't do it that way: sue both. But what happens is the doctor settles, and then testify against Wyeth because of the inadequate warning. Willie Sutton: go where the money is.
40:04Stepping back to more general issue: doesn't seem like a good way to run a market where you want innovation or want people take risks. FDA then responds to the tort suit by putting a black-box warning: the use of this stuff. Not going to see this happen often. But with a drug like Prozac, where it is potentially dangerous even when properly administered, inability to have a safe warning even on a Prozac label means the use of this drug will sharply drop. Already preliminary statistics; I suspect in the fullness of time they will be: with the black box warning, the number of application of Prozac goes down because doctors now fear medical malpractice. With decline in the use of the drug, the number of teenage suicides is a matter of course. So what you end up with is killing people because what you are willing to falsely attribute some of the particular harms to the drug that is being used as opposed to the underlying condition. And then, having made that false attribution, the drug becomes far more costly. Reducing the risk of harm becomes treated through the tort system as if it is increasing the risk of harm. If you get the wrong sign on the variable you are obviously going to go in the wrong way. This is just one of many kinds of things that have happened. Can see the difference between the Bush administration, which fought to block these things, and the Obama administration, under Elena Kagen, who was in the Solicitor General's office, wrote that the last thing we want to do is pre-empt through the FDA's statutes any private rights of action under state law. Very close connection between the trial bar in the Democratic Party and the difference in results between the two administrations on this issue is as bright and as clear as anybody can see. One has to be aware of this.
42:17So what's a classical liberal to do? Sarbanes-Oxley, existing statutes on the book. Fan of ex-post punishment as a deterrent rather than ex-ante monitoring and compliance. But if the ex-post punishment is capricious and prone to emotional manipulation of juries in states friendly to those kinds of cases, what might we do to make that legal system more effective? In this particular case, there is a solution. There is, with respect to medical devices, a preemption provision, held quite recently to block these private tort suits. The political reaction is to remove preemption from medical devices rather than to add it for medical drugs, where the whole issue is a matter of implication. Have to be able to persuade people that in the end, a pot of gold for one is not going to be sufficient, given the long-term systematic consequences. With all classical liberals theories, what you have to do is think of a particular lawsuit or regulation, not only in terms of the wealth transfers it creates between the immediate parties, but also ask yourself when you take into account third-party effects, whether or not these are likely to be positive or negative. Example: if you allow somebody to sue for aggression, the third-party effects are all positive. If you can stop aggression, then the individuals who were not hit but did business with the parties who were maimed, will in fact be better off as well. The suit between A and B generally increases the high level of confidence you have in a legal system which has taken its stand against violence. On the other hand if you allow A to sue B because of competitive losses in a competitive market, now in effect the better competitor will no longer be able to supply its benefits to its customers, and the third-party effects all turn negative. So when you look at litigation, what you must always ask is not only how it affects the parties, but how it affects the long-term incentive structures. The 19th century judges, who didn't have these formalities down well, seem to do a pretty good job of it. The modern judges are much more inclined to be outraged by conduct they don't understand, rather than figuring out how this ought to be looked at in a more comprehensive framework. Another pessimistic way--my mood this morning--a system of checks and balances is wonderful if it turns out that you have at least one sane actor in the system who will mark [mock?] the kind of legislation. The whole assumption of checks and balances is that legislation is basically a mistake until it's proven to be beneficial. If you have multiple barricades it will make it harder to get things through, consistent with the additional normative assumption. If every branch of government has switched over to the point where they think more regulation means higher social welfare, then what happens is the system starts to break down because none of the checks actually take hold. What happened in the United States government, particularly with both Houses under Democratic control with a highly liberal Democratic President, is that the political stuff is essentially now all in the hands of the same people, so that you can't stop a health care bill, or a reform bill like Dodd-Frank. When you get to the judiciary, the long-term attitude has been: We don't know anything about this stuff, so we're just going to take a back seat; and if Congress can come up with something that looks plausible, we are going to regard the whole statute as Constitutional; don't bother me with any close analysis as to why this thing is bad. What you do is you get all relevant players in the system acquiescing, in a state in which you march to larger regulations. Which means the only kind of feedback you can get is at the polls. That's extremely difficult to do. You've got a general election; you've got people worried about jobs; worried about taxes, mosques. How many are going to spend three seconds on Wyeth and Levine. That's why we're here. Even if it doesn't affect the way the election goes, somebody in Congress will be aware of what's going on and start to break that fundamental equation that in the area of state regulation more is always going to be regarded as better. Gets into rule of law issues. Difficult: entire modern apparatus to some extent imitates what the rule of law requires. Nobody who is in favor of passing these bills is going to say we are not going to give you hearings, not going to have regulations, not going to give you notice or permit comments. They go through the whole apparatus. Turns out what you are doing is using an apparatus in order to implement the bill which has no purpose in being passed in the first place. Cannot challenge the fundamental assumptions during the Notice and Comment period. Judges won't take it upon themselves to regard the whole thing as some kind of mistake. Now going to be more sustained efforts to challenge them judicially; hope of many of the critics is that this particular point the spectre of the mass of dislocation that I tried to paint in the beginning of this talk is accurate enough that some of these judges will try to stand up and take a look at this stuff. May not strike something down but may delay it a little bit for some reassurance of clarification in the rules or that it won't be confiscatory. We don't know which way it will play out. Just as there are wildly different views on the FDA, so it is that there are wildly discordant views on how we ought to think about the use of judicial review with respect to broadly economic regulation. People are all over the map on that issue. Who knows on any particular day on what side of the issue Justice Kennedy will turn out to be? He's more conservative on these things than, say, Sandra Day O'Connor was, so that my sense of the Court or its 5-member majority is at least a little more receptive to these things than they might have been even five years ago. Four very determined people on the liberal side doesn't give you great confidence in your own predictive ability. Think we are in for a very high level of uncertainty. System is aware of the obvious procedural challenges in the name of the rule of law, but it doesn't understand that to the extent you have highly indefinite property rights, which all of these statutes create, that no system of regulation is going to be able to limit the dangers associated with political discretion. So you will start to see the kind of stagflation that we've had today. Continue to generate a modest level of technical improvement, but the regulatory overhang and the judicial response to that overhang remains sufficiently powerful that you cannot jump-start this economy, and it is just frightening to me, when I start reading reasonably smart people like Paul Krugman and Laura Tyson in the NYTimes announcing that the stimulus program has worked because we've managed to constrain the increase in unemployment to only 10% when it was supposed to be under 8%. Wishful thinking. Folks for whom it is not possible to falsify a prediction. A little like us.
51:18I don't think.... The state of macroeconomics is particularly unscientific. Do it the other way. Suppose a set of market reforms happened as the unemployment rate managed to go up 2%. How many people do you think would respond with the benevolent remark: If you hadn't made these reforms it would have gone up by 4%? Could find lots of examples where friends said similar things. Big difference between my friends and their friends is I don't know what their theory is. They have a theory: it's the Keynesian theory of aggregate demand, and since it didn't get better, that just proves you didn't do enough of it. This is what I think is wrong with that particularly theory. It never tells you where you are supposed to quit. Take something like unemployment benefits. If 52 weeks are better than 26 weeks and 99 weeks are better than 52 weeks, are we going to say 200 weeks are better than 99 weeks? Nothing in their particular theory which explains why negatives start to get larger and positives start to get smaller as you go further on. When I try to do government theories, what I'm always trying to do is find where there is an interior maximum. And I don't see that in this particular kind of theory; nor any sense of how they would be able to recognize the situation and then be able to act on the recognition when you've decided we don't need these stimulus benefits any more. Is it really going to be possible to cut the unemployment benefit period back to 26 weeks after you've raised it to 99 weeks? To raise interest rates, inject money into the system by buying various kinds of paper--now, reduce liquidity by selling stuff off? Don't believe the Fed knows when to do that or will have sufficient control over the situation to be able to do it. To my mind, any theory--very true of the Keynesian kind of approach--which doesn't have an interior maximum is going to be wrong. To compare to a famous curve on the other side, the Laffer curve--the reason I like the Laffer curve is, he doesn't tell you exactly what the optimal point of taxation is, and he doesn't prove that the optimal point of taxation to maximize tax revenues maximizes social welfare. But there is obviously an interior solution: you raise tax revenues below that point; beyond that point, you don't. Keynesian solution, everything runs off to extremes. That's what I mean by a bad theory. I don't know, and they don't tell me where to look. We've run interest rates down to zero, we've had a stimulus program; results seem to be negative, and what we're told is no, they really are positive and things would have been worse. The reason why things are worse is the stimulus can't offset the uncertainties associated with taxation and the immediate costs associated with regulation. They don't want to put regulation into their models. They think the only thing that matters is taxation on the one hand, and money supply, interest rates, and stimulus on the other. Too narrow a view of the way an economy works. Not nearly as tolerant on this point. Willing to fight whether the optimal tax rate is flat, slightly progressive, stops at 25%, goes up to 40%. On all those issues you can have a fight. What you need to do in order to make the Keynesian theory work is to have a situation where the theorist can explain by using their own theoretical structure why it is we go this far and no further.
55:38Irony is, I think the most useful part of Keynesianism and the Keynesian model is that part that doesn't lend itself to blackboards and equations, so therefore doesn't get into the academic debate: animal spirits and confidence issue. Though I've been a constant detractor of the view that consumer confidence is a key part of economic activity--and I think it's irrelevant in normal times and also that it's a symptom, not a cause--it remains true that I think the biggest single problem we have today in the economy is anxiety--on the part of investors, executives, employers. And we don't have a theory about what reduces anxiety. I could give you something. Think everybody knows that going into a marketplace when you want to introduce a widget, you run the risk it will just not be demanded by your customers. But at this particular point, the risk of government behavior is such that you just don't know if there is a loan to be repaid whether you are going to be able to foreclose and recover the cash in question or whether someone is going to pull the GM-Chrysler stunt and leave you. Cast a pall over the market. Regulation that defines property rights and ensures enforcement will create the kind of confidence you need in the system. Real estate: every time we do it there's somebody who wants to have some fancy program which will allow people to defer payments, banks renegotiate. Abject failure. Banks renegotiate; the debtors then decide strategically not to pay their loan; they stay in the house as long as they can and when the property is finally recovered, it's suffered a real beat-up. Also have a finance system which lends you money at very low rates and then in effect the Fed will borrow, or Treasury will borrow it, so you take money out on the one side and put it back in on the other side--get a 2% float for doing nothing. Think there are real explanations, but there is absolutely nobody who has confidence in Congress. It's approval ratings are what, 22% now.
58:33You mentioned earlier the potential for a Japanese malaise, lost decade. Europe has got some challenges in its regulatory structure, may not be sustainable. Our regulatory structure not sustainable. But there are elections coming. We don't know what's going to happen. We're talking now in August 2010, the end of the month. Could be that a modest change will occur; the party in power, the Democrats, will stay in power. Or could be really dramatic change, not just the shape of Congress in the sense that the Republicans get a majority, but the type of people who get elected have very different perspective. Of course, once they get elected, they are in office, become politicians. Become acculturated. Odds that they will sustain a philosophical position is always uncertain. Striking, shocking, how much virulent, gut reaction there is to the kind of changes we are talking about. You and I haven't liked the way things have been going for a while. One thing to talk about deregulation--the overall trend over last 30-40 years, sure there are moments when things get repealed, but the overall trend of government's role in business and decision making has gotten much larger. Hard to quantify. There are a lot of people alarmed by unseen consequences. Yet in the American electorate today, there is a hostility to the growth of government that I have never seen in my lifetime. Dwarfs what put Ronald Reagan into office. Changed the second derivative. Rhetoric got more pleasing to me but the overall shape didn't change that much. Right now at a time when the electorate is making noises that is radically different. They know that they want less, and some have concluded therefore that they want none. Difficult to get people to understand, if you want to regulate a system of highways if you don't want to have congestion. Those opposed to taxes on wheat suddenly opposed to tolls on highways. You can't live in a society which is going to run that way. Tea-Party types; have to do exactly the same as you do with the Keynesians: Fear of regulation is not viable; fear of taxation is. Show me why your intermediate points ought to be and what pushes you in that direction. Classical liberal is indeed a moderate, going between those who want all-pervasive control over everything and people on the other side who are so disgusted with the spectre that they may well cut back on government functions that are more essential. Finding that sweet spot is the major challenge. Two huge cultural battles in the last month or two: Fight over Proposition 8 with respect to gay marriage in California, and fight over the location of the Muslim building to be located somewhere near the Twin Towers. Would add immigration to that. What am I supposed to do, don't want to side with anybody if that's the way rhetoric is going to go. Sign that as you see a shrinking economy, fights become more bitter. Fights over losses always more bitter than fights over gains. Ironic: had a Presidential campaign in 2008 that was supposed to be reaching out to the other side as one of the dominant themes. Hasn't played out; less cooperation and consensus. Times when both parties are deeply in error, as for example on much of the health care bill; less so but still on some of the finance bill. Republicans slightly better. As an academic you try to have not too strong a party affiliation. When you vote for political candidates, you have to vote for bundles, but I think on the issues, you have to talk about them separately. Hold my nose when I vote. In simplest terms: people who said about previous regulations, the sky did not fall down, were true. But they ignored the fact that on average the stuff was negative and offset by greater technological improvement. Balances have now shifted. Regulation hurts the technological improvement. Sparks a sort of reaction. Defenders lash out. Krugman vs. Ross Douhat on Tea Party. Reclaim American vision of strong property rights, limited government, individuals who, when they have good fortune, are sensible and compassionate enough to reach out a helping hand to those less fortunate. Got to be done privately. Cannot control government benevolence at the margin. Have to figure out now how to pull back from excesses.

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