But do we know what we don't know?

Learning to Keep Learning By:Thomas L. Friedman December 13,2006

I recently attended an Asia Society education seminar in Beijing, during which we heard Chinese educators talk about their “new national strategy.” It’s to make China an “innovation country” — with enough indigenous output to advance China “into the rank of innovation-oriented countries by 2020,” as Shang Yong, China’s vice minister of science and technology, put it.

I listened to this with mixed emotions. Part of me said: “Gosh, wouldn’t it be nice to have a government that was so focused on innovation — instead of one that is basically anti-science.” My other emotion was skepticism. Oh, you know the line: Great Britain dominated the 19th century, America dominated the 20th and now China is going to dominate the 21st. It’s game over.

Sorry, but I am not ready to cede the 21st century to China yet.

No question, China has been able to command an impressive effort to end illiteracy, greatly increasing its number of high school grads and new universities. But I still believe it is very hard to produce a culture of innovation in a country that censors Google — which for me is a proxy for curtailing people’s ability to imagine and try anything they want. You can command K-12 education. But you can’t command innovation. Rigor and competence, without freedom, will take China only so far. China will have to find a way to loosen up, without losing control, if it wants to be a truly innovative nation.

But while China can’t thrive without changing a lot more, neither can we. Ask yourself this: If the Iraq war had not dominated our politics, what would our last election have been about? It would have been about this question: Why should any employer anywhere in the world pay Americans to do highly skilled work — if other people, just as well educated, are available in less developed countries for half our wages?

If we can’t answer this question, in an age when more and more routine work can be digitized, automated or offshored, including white-collar work, “it is hard to see how, over time, we are going to be able to maintain our standard of living,” says Marc Tucker, who heads the National Center on Education and the Economy.

There is only one right answer to that question: In a globally integrated economy, our workers will get paid a premium only if they or their firms offer a uniquely innovative product or service, which demands a skilled and creative labor force to conceive, design, market and manufacture — and a labor force that is constantly able to keep learning. We can’t go on lagging other major economies in every math/science/reading test and every ranking of Internet penetration and think that we’re going to field a work force able to command premium wages. Freedom, without rigor and competence, will take us only so far.

Tomorrow, Mr. Tucker’s organization is coming out with a report titled “Tough Choices or Tough Times,” which proposes a radical overhaul of the U.S. education system, with one goal in mind: producing more workers — from the U.P.S. driver to the software engineer — who can think creatively.

“One thing we know about creativity is that it typically occurs when people who have mastered two or more quite different fields use the framework in one to think afresh about the other,” said Mr. Tucker. Thus, his report focuses on “how to make that kind of thinking integral to every level of education.”

That means, he adds, revamping an education system designed in the 1900s for people to do “routine work,” and refocusing it on producing people who can imagine things that have never been available before, who can create ingenious marketing and sales campaigns, write books, build furniture, make movies and design software “that will capture people’s imaginations and become indispensable for millions.”

That can’t be done without higher levels of reading, writing, speaking, math, science, literature and the arts. We have no choice, argues Mr. Tucker, because we have entered an era in which “comfort with ideas and abstractions is the passport to a good job, in which creativity and innovation are the key to the good life” and in which the constant ability to learn how to learn will be the only security you have.

Economics is not like war. It can be win-win. We, China, India and Europe can all flourish. But the ones who flourish most will be those who develop the best broad-based education system, to have the most people doing and designing the most things we can’t even imagine today. China still has to make some very big changes to get there — but so do we.

Refusing to learn

Dismal Science

By WILLIAM EASTERLY November 15, 2006; Page A18

Scientific American, in its November 2006 issue, reaches a "scientific judgment" that the great Nobel Prize-winning economist Friedrich Hayek "was wrong" about free markets and prosperity in his classic, "The Road to Serfdom." The natural scientists' favorite economist -- Prof. Jeffrey Sachs of Columbia University -- announces this new scientific breakthrough in a column, saying "the evidence is now in." To dispel any remaining doubts, Mr. Sachs clarifies that anyone who disagrees with him "is clouded by vested interests and by ideology."

This sounds like one of those moments in which the zeitgeist of mass confusion about national poverty, world poverty and prosperity comes together in one mad tragicomic brew.

Hayek: Sachs appeal

First, Mr. Sachs disses the great Hayek by repeating the old canard that Hayek thought any attempt at taxpayer-funded social insurance would put us all on the "Road to Serfdom." This is an especially strange charge, since Hayek (while certainly opposed to the social engineering that proponents of a full-blown welfare state usually have in mind) himself calls for some form of taxpayer-funded social insurance against severe physical deprivation on pages 133-134 of "The Road to Serfdom." Mr. Sachs, who is currently best known for his star-driven campaign to end world poverty, has apparently spent more time studying the economic thinking of Salma Hayek than that of Friedrich.

Second, if he had studied (Friedrich) Hayek, Mr. Sachs would realize what "The Road to Serfdom" is really about, and how it is of great relevance to Mr. Sachs's own current work, which has ironically little to do with what he wrote about in Scientific American. Hayek's great book is all about the dangers of large-scale state economic planning, courageously written in 1944 when Soviet central planning, technocratic socialism and administrative control of the wartime economy appealed as a peacetime model to many New Dealers, celebrity economists and policy wonks of all stripes.

The countries that are now rich subsequently listened enough to Hayek and to common sense to avoid the road to serfdom. Yet today, Mr. Sachs (in his book "The End of Poverty") is peddling his own administrative central plan -- 449 steps in all -- to end world poverty. In his plan, the U.N. secretary-general (to whom he is an adviser) would supervise and coordinate thousands of international civil servants and technocratic experts to solve the problems of every poor village and city slum everywhere. Mr. Sachs is not in favor of central planning as an economic system, but he offers it as a solution, anyway, to the multifold problems of the world's poorest people. If you want the best analysis of why the approach of Mr. Sachs and his confreres in Hollywood and the U.N. will fail to end world poverty this time (as similar efforts failed over the past six decades), you can find it in Hayek.

Third, Mr. Sachs's attempt to make the case for his best possible society, the Scandinavian welfare state, is a little shaky. If this is what passes for the scientific method in Scientific American, American science is in even worse shape than we thought. Economics is usually about the incentives that cause people to solve their own or other peoples' problems, but to Mr. Sachs, problem-solving seems always to be about raising more public money for whatever cause he is concerned with at the moment. (To give the celebrity economist his due, he does successfully raise the profile of genuinely tragic problems which compassionate people everywhere would like to see alleviated.)

Mr. Sachs's empirical analysis purports to show that Nordic welfare states are outperforming those states that follow the "English-speaking" tradition of laissez-faire, like the U.K. or the U.S. Poverty rates are indeed lower in the Nordic countries, although the skeptical reader (probably an ideologue) might wonder if the poverty outcome in, say, the U.S., with its tortured history of a black underclass and its de facto openness to impoverished but upwardly mobile immigrants, is really comparable to that of Nordic countries.

Then there is the big picture, where those laissez-faire Anglophones in, first, the U.K. and, then, the U.S., just happened to have been the leaders of the ongoing global industrial revolution that abolished far more poverty over the past two centuries than a few modest Scandinavian redistribution schemes. Mr. Sachs apparently thinks the industrial revolution was led by IKEA. Lastly, let's hear from the Nordics themselves, who have been busily moving away from the social welfare state back toward laissez-faire. According to the English-speaking ideologues that composed the Heritage Foundation/Wall Street Journal Index of Economic Freedom, Denmark, Finland and Sweden were all included in the 20 countries classified as "free" in 2006 (with Denmark actually ranked ahead of the U.S.). Only Norway missed the cut -- barely.

Mr. Sachs is wrong that Hayek was wrong. In his own global antipoverty work, he is unintentionally demonstrating why more scientists, Hollywood actors and the rest of us should go back and read "The Road to Serfdom" if we want to know what will not work to achieve "The End of Poverty." Hayek gave the best exposition ever of the unpopular ideas of economic freedom that somehow triumph anyway, alleviating far more national and global poverty than more fashionable Scandinavia-envy and grandiose plans to "make poverty history."

Mr. Easterly, professor of economics at New York University, is the author of "The White Man's Burden: Why the West's Efforts to Aid the Rest Have Done So Much Ill and So Little Good" (Penguin, 2006).

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Effective tax systems

Tax Epiphany November 13, 2006; Page A16

A bright light descended from the sky last week and shone upon the world's economic planners. It came courtesy of the World Bank, of all unlikely places; its toiling economists have discovered that simplified tax systems promote economic growth.

In a report titled "Paying Taxes -- The Global Picture," the World Bank and its co-authors at PricewaterhouseCoopers make the case for simplifying business taxes. Burdensome rules and multiple levies, they argue, promote tax evasion even when individual corporate tax rates are low. Make the system transparent and simple, and the private sector will pony up. It's an argument that could be made for personal income taxes, too.

Released as an elaboration of the Bank's broader and valuable "Doing Business Report," the survey examines the tax regimes of 175 countries between April and July this year. It looks at the administrative tax burden that a hypothetical, limited liability company with 60 employees would face.

The Bank's findings echo that of the flat-tax camp; namely, simple tax regimes promote compliance and efficiency. By "simple," the Bank doesn't just mean unifying rates; it includes making the forms easy to read, understand and file. World-wide it takes an average of 332 hours a year for businesses to comply with tax requirements, ranging from 2,600 hours in Brazil to 325 in the U.S. to 68 in Switzerland. There's no reason a tax form can't fit on a few pages, as in Hong Kong, or be filed over the Internet, as in Singapore.

Tax simplification also means trimming the tax regime itself. The Bank found that corporate income taxes compose only 36%, on average, of businesses' annual tax burden. Property, dividend, capital gains, municipal, and social security taxes, among others, make up the rest -- not to mention the various loopholes carved out for certain industries. Countries such as Egypt, which unified its corporate tax rates and eliminated about 3,000 corporate exemptions and tax holidays last year, saw tax filings double. Russia implemented a flat tax in 2004 and saw tax revenues soar.

The Bank pulls no punches for its main clientele: poor countries that have trouble raising funds. Many make the mistake of setting high tax rates. By doing so, they tacitly encourage tax evasion and create opportunities for corruption. Little wonder that the bottom 30 countries in the "Doing Business" survey "are twice as likely as those in the top 30 to report that bribery is a problem."

If only the high-tax prophets at the International Monetary Fund were paying attention. In a recent working paper, three Fund economists -- writing in a "personal" capacity -- put out an anti-flat tax screed. We don't have the space to dissect the entire paper here, but in essence they wave away the experience of Hong Kong and Russia and argue that the pro-market signals flat taxes send won't do any good for developed nations.

We never thought we'd say this, but perhaps the World Bank can lend the Fund a few economists for some re-education assistance. The IMF bias has long been to elevate balanced budgets as the highest fiscal priority, with tax levels and tax incidence as secondary matters. The Bank business tax survey implicitly exposes the error of the Fund's ways. Combined with President Paul Wolfowitz's long-needed campaign against corruption, the tax report also marks a welcome turn at the Bank in a pro-growth direction.

The Bank's report should also inspire a more thoughtful debate over the virtue of value-added taxes, or VATs. More than 130 countries have adopted VATs, with the IMF pushing hard for its implementation in places like Hong Kong. The VAT is a highly efficient tax and in that way has an advantage over a corporate income tax regime with high rates but many loopholes. But that very efficiency also makes a VAT dangerous as an engine of bigger government because its incidence tends to be hidden and politicians are tempted to raise the rate whenever they want a little more revenue. Some built-in restraint on that political impulse is needed.

The overriding goal of any tax system should be to raise the revenue that governments need for public purposes with the least amount of economic distortion and evasion. The lesson of the World Bank report is that the more transparent and simple a tax scheme, the more it will achieve that purpose.

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Failing to get it right!

See a Good Idea. See It Run Into Trouble.

By PAUL BESTON November 9, 2006; Page D6

In 1991, a New York State teacher of the year, John Taylor Gatto, wrote an op-ed for The Wall Street Journal in which he announced his departure from public school teaching after 30 years. He was no longer willing to "hurt kids" in a broken system where political pressure snuffed out worthy efforts for change. By now, he wrote, "even reformers can't imagine school much different."

Indeed, the first priority of education reformers is often not success but the preservation of methods with which they are already comfortable. As Harold Henderson writes in "Let's Kill Dick and Jane," the American educational establishment possesses "an uncanny ability to transform golden ideas for change -- from left, right, or center -- into a leaden sludge." Mr. Henderson, a longtime staff writer for the Chicago Reader, describes the fate of one textbook company -- Illinois-based Open Court -- as it tried to bring its share of golden ideas to a resistant school system.

Some teachers, complained a consultant, had 'all the spirit and excitement of baked halibut.'

The book's title refers to the basal readers that were once a mainstay in American schools: Dick and Jane, created by advocates of the "Look-Say" theory of reading instruction in which children were taught to memorize the appearance of words at the expense of phonetic understanding. The theory has since been discredited, at least in part by the publication in 1955 of Rudolf Flesch's best-selling "Why Johnny Can't Read," which urged a return to phonics instruction.

Blouke Carus and his wife, Marianne, Americans with strong German roots and a familiarity with the exacting standards of the German gymnasium, read Flesch's book and formed Open Court in 1962. Together with a small band of dedicated educational theorists and consultants, they created innovative materials with the goal of educating the American masses as rigorously as the elites of Europe. Providing both a history of this remarkable company and a withering portrait of the education culture, Mr. Henderson's book is more compelling than any lay reader could reasonably expect.

The vision of Open Court was to break down what Mr. Henderson calls "the false dichotomy between traditionalist 'skills' and progressivist 'meaning'" and focus simply on what worked. Incorporating the traditionalist emphasis on skills (particularly phonics) and the progressive insight that different children learned differently, the company managed to attract opposition from both sides.

But the most vigorous objections came from progressive advocates of Whole Language. This theory rejected specific skill instruction in favor of "meaningful contexts" for reading. Some of its practitioners believed that reading could be learned as easily as talking; others feared that a systematic focus on skills was somehow akin to cultural and economic oppression. Dismissing these chimeras, Open Court argued that depriving children of such skills was the true act of oppression in a society where the boundaries of opportunity were drawn mostly by ignorance.

A recurring theme of "Let's Kill Dick and Jane" is the anti-intellectual rigidity of the educational establishment, which continually resisted the research-based methods that Open Court employed. The effectiveness of Open Court's pedagogy, to the extent that it was measured, indicated that Blouke and Marianne Carus knew what they were doing. The overt resistance of professional educators lessened somewhat over time, only to take on more subtle forms. Even when the educational system seemed ready to respond to cries for reform, as in California in the 1980s -- where Open Court's materials were found to be the only ones that met the state's promising new standards -- bureaucracy and the status quo ultimately prevailed.

The publishing company was eventually worn down by organizational and financial difficulties. It never commanded more than a small percentage of the textbook market and was finally sold, in 1996, to McGraw-Hill, which has doubled the sales of its materials. But the question of what might have been lingers. For all of the challenges the company faced, perhaps the most insurmountable was securing the commitment of teachers: They were often too deeply attached to their established routines, which were much less demanding than what Open Court was asking of them.

Their resistance, Mr. Henderson stresses, was caused more by inertia than ideology: "They have all the spirit and excitement of baked halibut," complained one Open Court consultant on a school visit. Contrast this dull conformity with the passion of consultants and creators of Open Court, one of whom says simply: "If you teach a child to read, you never have to do another right thing in your life."

And therein lies a fundamental dilemma. In the U.S., such dedication is more typically associated with those who work in business or the more lucrative professions. Despite decades of reforms, an unanswered question hangs over the education debate: how to find enough spirited, and gifted, people to do vital work that does not pay especially well and that has none of the glamour bestowed by success in the private sector.

The American education culture, Mr. Henderson concludes, "can assume a veneer of progressivism or traditionalism as the times dictate, but its routines lie deeper than ideology." The founders of Open Court, and education reformers before and since, can testify to the truth of those words.

Mr. Beston is a writer in Beacon, N.Y.

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Vouchers and choice

Vouchers in Black and White November 8, 2006; Page A22

One frequent, and nasty, argument against school vouchers is that they will end up resegregating public schools. It's all the nastier because the truth is the opposite, as some new evidence shows.

The liberal Urban League has charged that school vouchers -- which go mostly to minority families -- would "subsidize segregation." And the theme has been picked up by no less than Senator Hillary Rodham Clinton, who according to Newsday explained her opposition to school choice this way to liberal activists in the Bronx earlier this year: "First family that comes and says 'I want to send my daughter to St. Peter's Roman Catholic School,' and you say, 'Great, wonderful school, here's your voucher.' Next parent that comes and says, 'I want to send my child to the school of the Church of the White Supremacist . . .'"

Yes, she really said that. We doubt many inner-city black and Latino families that benefit from vouchers are demanding that their kids attend white supremacy schools, even if there were such schools. Come to think of it, what specific schools is Mrs. Clinton referring to? She and her husband of course sent their daughter to one of Washington, D.C.'s most elite, and mostly white, private schools.

She can't mean the schools in Milwaukee and Cleveland, where a new study by Greg Foster of the Milton and Rose Friedman Foundation finds that vouchers have allowed students to move to more racially integrated private schools. The Friedman Foundation favors school choice, but its data here seem unassailable and the Foundation is challenging anyone to refute it. The study finds that in 2003 private voucher schools in Milwaukee were 13% more racially diverse, and the Cleveland voucher schools 18% more diverse, than their public school counterparts.

America's inner-city public schools remain highly segregated primarily because the neighborhoods and school districts are themselves divided by race or ethnicity. The public urban schools, Mr. Foster finds, tend to "reproduce the segregation that arises from housing patterns." Vouchers increase racial mixing in schools, the study concludes, because "they break down geographic barriers, drawing together students across neighborhood boundaries in a way the government school monopoly cannot match even when it tries to do so."

In the 50 years since Brown v. Board of Education, educators have thought that if they could integrate the schools, even using such detested strategies as forced busing, school quality would improve. It hasn't. School vouchers give inner-city and other kids a chance to escape failing public schools, and it's a nice bonus to know that this choice will produce classrooms that, to borrow a famous phrase, look like America.

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The not-so-jobless recovery

The Worker Rally October 9, 2006; Page A18

The Labor Department released its September jobs report on Friday, and some wags are calling it the "whoops" report. The "whoops" is a reference to the upward revision of 810,000 previously undetected jobs that Labor now says were created in the U.S. economy in the 12 months through March 2006.

So instead of 5.8 million new jobs over the past three years, the U.S. economy has created 6.6 million. That's a lot more than a rounding error, more than the number of workers in the entire state of New Hampshire. What's going on here?

Our hypothesis has been that, due to the changing nature of the U.S. economy, the Labor Department's business establishment survey has been undercounting job creation from small businesses and self-employed entrepreneurs. That job growth has been better captured in Labor's companion household survey, which reported 271,000 new jobs in September after 250,000 new jobs in August, and a very healthy total of 2.54 million new jobs in the past year.

The household survey is what is used to determine the unemployment rate, which fell in September to 4.6%, the lowest level in five years. The establishment survey, meanwhile, is used to announce the monthly "new jobs" numbers. Every year the Labor Department revises its job estimates from the previous year, in essence reconciling the figures from the two surveys, and the missing 810,000 jobs was the result through March 2006.

Getting out of the statistical weeds, the news here is that the U.S. has a very tight labor market -- which is now translating into significant wage gains. Over the past 12 months wages have climbed by 4%, which is the biggest gain since 2001 and which economist Brian Wesbury points out is higher than the 3.3% average annual wage growth of the last 25 years.

Most of the media has ignored all this and instead focused on the disappointing 51,000 "new jobs" number from the establishment survey for September. But even in that survey, the jobs number for August was revised upward by 62,000 and the U.S. jobs machine continues to roll out an average of about 150,000 additional hires each month. Even the loss of residential construction jobs in September, due to the housing market slowdown, was nearly matched by payroll gains in commercial construction.

This boom in employment started in August of 2003, roughly coincident with the economy's growth acceleration in the wake of the Bush Administration's 2003 tax cuts on dividends, capital gains and in the top marginal income rate on the highest earners. Yet on the same day that the Labor Department discovered 810,000 new jobs, Nancy Pelosi promised that if she becomes Madam Speaker next year, within 100 hours of taking the gavel the House will vote to repeal those tax cuts and raise the minimum wage. Never underestimate the ways that Washington politicians can do economic harm.

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Net Payments - but what does it really mean?

U.S. Foreign Debt Shows Its Teeth As Rates Climb

Net Payments Remain Small But Pose Long-Term Threat To Nation's Living Standards

By MARK WHITEHOUSE September 25, 2006; Page A1

Over the past several years, Americans and their government enjoyed one of the best deals in international finance: They borrowed trillions of dollars from abroad to buy flat-panel TVs, build homes and fight wars, but as those borrowings mounted, the nation's payments on its net foreign debt barely budged.

Now, however, the easy money is coming to an end. As interest rates rise, America's debt payments are starting to climb -- so much so that for the first time in at least 90 years, the U.S. is paying noticeably more to its foreign creditors than it receives from its investments abroad. The gap reached $2.5 billion in the second quarter of 2006. In effect, the U.S. made a quarterly debt payment of about $22 for each American household, a turnaround from the $31 in net investment income per household it received a year earlier.

The gap is still small within the context of the $13 trillion American economy. And the trend could reverse if U.S. interest rates decline. But economists say America's emergence as a net payer illustrates an important point: In years to come, a growing share of whatever prosperity the nation achieves probably will be sent abroad in the form of debt-service payments. That means Americans will have to work harder to maintain the same living standards -- or cut back sharply to pay down the debt.

"Our net international obligations are coming home to roost," says Catherine Mann, a senior fellow at the Institute for International Economics. "It's as if on our personal MasterCards we have run up large obligations and never had to make payments. You can't believe that's going to last forever."

If the trend persists, it could also raise concerns about the nation's creditworthiness, putting pressure on the U.S. currency. "It's an additional challenge for the dollar," says Jim O'Neill, chief economist at Goldman Sachs in London. "Economists have been warning about this for so long that people have gotten bored, but now we're starting to see the deterioration."

Since the end of 2001, when the current economic expansion began, the nation's consumption, investment and other outlays have exceeded income by a cumulative $2.9 trillion -- the largest gap on record. That current-account deficit contributes directly to the nation's total foreign debt, the value of all the U.S. stocks, bonds, real estate, businesses and other assets owned by non-U.S. residents. As of the end of 2005, total U.S. foreign debt stood at $13.6 trillion -- or about $119,000 per household. Net foreign debt, which excluded the $11.1 trillion value of U.S.-owned foreign assets, was $2.5 trillion.

Exactly how the U.S. has managed to load on so much debt without seeing its net payments rise remains something of a mystery. Even in the second quarter, the U.S., in effect, was paying only a 0.4% annualized interest rate on its net debt. "It's still quite a good deal," says Pierre-Olivier Gourinchas, an economics professor at the University of California, Berkeley.

In a recent paper, Harvard economists Ricardo Hausmann and Federico Sturzenegger went so far as to suggest that the U.S. might not be a net debtor at all. Instead, they surmised, the U.S. might actually have income-producing assets abroad, such as know-how transferred to foreign subsidiaries, that have evaded measurement -- assets they call "dark matter," after a similarly elusive quarry in physics. Mr. Sturzenegger says the latest data haven't changed his view.

Most economists, however, see a more prosaic explanation: Foreigners have been willing to accept a much lower return on relatively safe U.S. investments than U.S. investors have earned on their assets abroad. Take, for example, China, which since 2001 has invested some $250 billion in U.S. Treasury bonds yielding around 5% or less -- part of a strategy to boost its exports by keeping its currency cheap in relation to the dollar.

By contrast, U.S. direct investments abroad -- which would include things like glass maker Corning Inc.'s liquid-crystal display plants in Taiwan or Intel Corp.'s chip-making subsidiary in Ireland -- have returned an average 8% since 2001, according to U.S. Commerce Department data. Meanwhile, U.S. investors in emerging-market stock funds earned an average annual return on their investments of 22.3%, according to financial-research firm Morningstar Inc. (The Commerce Department counts only part of that as income).

Because the U.S. has tended to borrow in bonds and similar interest-bearing instruments while investing in stocks and longer-term foreign projects, it has benefited vastly from the low interest rates of recent years. "The U.S. has been exceptionally lucky," says Goldman's Mr. O'Neill, "It's like the world's biggest hedge fund. It's borrowing cheap money and getting leveraged returns from the things it's investing in."

Foreigners' willingness to lend at low rates has also encouraged Americans and their government to borrow and spend. By buying U.S. Treasurys, foreign investors put up more than four-fifths of the $1.3 trillion the federal government has borrowed since 2001 to help pay for tax breaks, the new Medicare prescription-drug benefit and wars in Afghanistan and Iraq. Over the same period, foreigners put more than $700 billion into various types of U.S. mortgage-backed securities, providing the money for millions of Americans to buy new homes -- or extract cash from their existing homes to spend on goods such as washing machines and Hummers.

Now, the interest-rate picture is changing. Long-term rates remain low, but the Federal Reserve has raised short-term rates to 5.25% from a low of 1% in June 2004. As a result, payments on U.S. government debt, much of which is short-term, have risen. In the second quarter, for example, the government's debt payments to foreigners rose 10% to $36 billion, accounting for most of the change in the balance of income.

The nation's growing debts have made its finances more vulnerable to interest-rate changes. Cedric Tille, an economist at the Federal Reserve Bank in New York, estimates that a mere one-percentage-point rise in the relative return on U.S. foreign debt would increase the country's net debt payments by 1.1% of gross domestic product. Back in 1995, when the U.S.'s foreign liabilities were smaller, the effect would have been only half a percentage point.

Even without any major changes in rates, economists expect the burden of foreign-debt payments to rise. Estimates of that burden 10 years from now range anywhere from 0.5% to 2% of GDP, depending largely on whether the U.S. manages to curb its current-account deficit. If the deficit expands significantly and the U.S. stops earning a premium on its investments abroad, the burden could reach 5% of GDP, according to calculations made by John Kitchen, an economist in the White House's Office of Management and Budget.

The size of the nation's debt payments matters because it represents a share of income that American consumers, companies and government won't be able to spend or save. The higher the debt payments, the harder it will be for the U.S. to prosper.

"Your standard of living is going to be reduced unless you work much harder," says Nouriel Roubini, chairman of Roubini Global Economics. "The longer we wait to adjust our consumption and reduce our debt, the bigger will be the impact on our consumption in the future."

To be sure, by some measures the U.S. foreign debt is still relatively manageable. As a share of GDP, for example, the nation's net debt stood at about 20% at the end of 2005, compared with the 15% average of the 12-nation euro zone. The United Kingdom's net debt is 17% of GDP. Mexico's is 44%.

Among economists' biggest concerns, though, is the fast pace at which the U.S. is accumulating new debt. As that leads to larger interest payments, it will make the current-account deficit harder to control -- a vicious cycle that could accelerate if worried foreign investors demand higher interest rates to compensate for the added risk.

"You end up having to pay more and borrow more," says the University of California's Prof. Gourinchas. "Things could get out of hand very quickly."

Write to Mark Whitehouse at mark.whitehouse@wsj.com¹

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The Future of Freedom

Supply Side 300,000,000

By STEPHEN MOORE October 3, 2006; Page A26

The Census Bureau tells us that some time in the weeks ahead the U.S. population will reach 300 million. This means that there will be roughly three times as many people as there were a century ago, and twice as many as in 1950. Americans have been bringing a new baby into the world roughly every eight seconds and a new immigrant arrives every 30 seconds -- the equivalent of a new Chicago every year.

This demographic milestone is not cause for alarm -- as some prophets of doom would have it. Rather, it is cause for celebration. We 300 million Americans are on balance healthier and wealthier and freer than any population ever: We breathe cleaner air, drink cleaner water, earn higher incomes, have more leisure time, and live in less crowded housing. Every natural resource we depend on -- water, food, copper and, yes, even oil -- is far more abundant today measured by affordability than when our population was 100 million or even 30 million.

Thanks to the rapid pace of technological progress, there's every reason to believe these resources will be still more abundant when our population reaches 400 million -- which should happen about 40 years from now. As the late economist Julian Simon reminded us, thanks to our free market capitalist system, the history of America is one of leaving the storehouse for every successive generation more endowed with wealth, knowledge and natural resources.

Yes, skeptics will ask: What about the inevitable headaches of crowded classrooms, highways and all the other problems associated with more people sharing a finite land area? In the short term, more people can mean more congestion. But anyone who has bothered to look out the window of a plane on a trip from the West to the East Coast knows that America remains a vast, unpeopled land. Texas alone is so large that we could put every U.S. family of four in the state and give them two acres to call their own -- and the rest of the country would be deserted. Our farmers grow about three times as much food on one-third as many acres and a third fewer man-hours as 75 years ago -- and we have the technological capacity to feed a population many multiples of what we have today.

Our population is rising mainly because early childhood death rates in the U.S. have fallen by 90% in the last century, and continue to fall: A child born today in the U.S. is four times more likely to live to adulthood than one born in 1950, and 12 times more likely than one born in 1900. And these children will live longer, as the nearby chart shows. Life expectancy has increased by more than 30 years in the last century.

This good news is an eloquent rejoinder to 40 years of seemingly endless jeremiads issued by neo-Malthusians from Paul Ehrlich to Al Gore. In the early 1970s, when the U.S. head count was one-third less than today, the then-president of the World Bank, Robert McNamara, famously proclaimed that overpopulation was a danger on par with nuclear war. Many highly credentialed demographers actually compared uncontrolled human copulation with the reproduction behavior of Norwegian field mice. School children in the 1960s and '70s were warned that an impending nightmare of geometric population growth would mean standing room only on the globe and the need to wear gas masks to breathe.

Instead, as nations have grown richer over the past 50 years, birth rates around the globe have fallen by half. Human beings don't breed like field mice -- they can and do control their fertility. Ironically, even Thomas Malthus came to realize that humans control their breeding as a result of the "superiority in their reasoning faculties" and a capacity to "calculate distant consequences."

Apocalyptics in the Club of Rome -- who complained that America has the "grossest national product" and whose famous screed, "The Limits to Growth," asserted that economic growth could not continue because of limited natural resources -- were wrong. Growth brought about through the free market isn't a planetary curse at all, but rather the ultimate contraceptive and ecological protector.

Sadly, many policy makers still believe in the science fiction of overpopulation. The alleged threat of "too many Americans" crowding the country is one of the reasons that many in Congress want to build a wall around the U.S. to keep out immigrants. But even with continued immigration, the U.S. population is expected to grow for the next 50 years and then stabilize. By contrast, Japan and many European nations are expected to experience a debilitating absolute decline in their populations by between 10% and 25% over the next 50 years. Fortunately, the combination of immigration and slightly higher birth rates in the U.S. will help us avert that kind of population implosion here.

"Americans are the first best hope for the human race," as the historian Paul Johnson put it. That there are now 300 million of us -- and growing -- suggests that the future of freedom is in good hands.

Mr. Moore is a member of The Wall Street Journal's editorial board.

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Copyright 2006 Dow Jones & Company, Inc. All Rights Reserved

Corruption, but of course!

Is Brazil Nuts -- Or Just the System?

By MARY ANASTASIA O'GRADY September 29, 2006; Page A17

"Corruption is a regular effect of interventionism."

-- Ludwig von Mises "Human Action," 1949

As Brazilians go to the polls on Sunday to elect a president for the next four years, most pundits are hedging their bets as to whether Luiz Inácio "Lula" da Silva of the Workers' Party (PT) can win re-election in the first round of voting.

A serious allegation of fraud inside the Lula campaign has become the main issue in the race over the past two weeks. Added to a host of other corruption charges implicating PT members close to the president in the past year, this latest scandal has the potential to force a run-off.

Lula may well be innocent, as he claims, of any involvement in the plethora of scandals now swirling around his party. But it is also true that if corruption has blind-sided him, he has only his own politics to blame. It has been the life work of Brazilian socialists -- of which the PT are among the most hardcore -- to empower the state, without limits, as an enforcer of "social justice" through the wholesome work of politicians and bureaucrats. Now they are reaping what they've sowed: a system that breeds corruption by its very nature, as von Mises warned more than a half-century ago.

The odds of a run-off remain slim. On Wednesday polling companies Datafolha and IBOPE released polls that suggest, after statistically adjusting for nullified ballots, that Lula will finish with 53% of the vote versus 35% for his next closest challenger, the two-term governor of São Paulo, Geraldo Alckmin. Yet with mud from scandal splashing higher every day, Alckmin supporters are holding onto the hope that Lula will fall short of the 50% plus one needed to avoid a second round.

Even then, an incumbent victory is fully expected. Lula is a charismatic populist who, in his first term, had enough common sense to avoid messing with the macroeconomic stability he inherited from predecessor Fernando Henrique Cardoso. He has also raised the minimum wage and expanded the welfare rolls to solidify his base. Brazil's majority poor heavily favor him.

Yet real damage may have been done to his second term. Even if he wins in the first round, the hard-left PT is expected to lose seats in the congress; if that happens, Lula will likely have to give up cabinet posts to coalition allies. While the PT is not the only party in Brasilia tarnished by charges of gross dishonesty, in recent years it seems to have elevated to an art form sophisticated practices of vote buying in congress, kickbacks on government procurement and, most recently, a fraudulent plan to commission and purchase a fake report designed to frame a political rival.

Brazilian disgust with the political class is widespread these days, but one wonders whether the more profound lesson is being learned. Long before von Mises wrote his masterpiece "Human Action," Founding Father James Madison warned that governments without limits are bound to become abusive. "All men having power ought to be mistrusted," he wrote. "If angels were to govern men, neither external nor internal controls on government would be necessary."

Brazil's runaway corruption is not due to an unusual collection of greedy politicians in Brasilia. Indeed, it is likely that Brazilian politicians, like their American counterparts, fit well within the bell curve when it comes to human frailty. The trouble is that under the 1988 constitution, mere mortals are trusted to behave like angels.

The constitutional project began in 1987 with good intentions. Fundamentally, it was an attempt to right the wrongs of the military government by securing democracy. But when socialist ideologues piled into a room with an untold number of narrow special interests, the outcome was a roadmap to tyranny, no longer with guns but with the "law." As Mr. Cardoso recalled in his memoir, "Brazil was trying to create a welfare state at the precise moment in history when the welfare states of Europe were collapsing."

Slow economic growth and corruption are but two offspring of the monster government in Brasilia that has badly damaged Lula's legacy. Von Mises predicted it: "The advocates of interventionism pretend to substitute for the -- as they assert, 'socially' detrimental -- effects of private property and vested interests the unlimited discretion of the perfectly wise and disinterested legislator and his conscientious and indefatigable servants, the bureaucrats." In the world of the anticapitalists, he explained, "only those on the government's payroll are rated as unselfish and noble."

Von Mises anticipated the outcome: "Unfortunately the office-holders and their staffs are not angelic. They learn very soon that their decisions mean for the businessmen either considerable losses, or -- sometimes -- considerable gains." In other words, buying influence is normal when influence has a cash value. This is what one Brazilian family did when it allegedly paid kickbacks to politicians who helped it secure contracts for medical equipment.

Such simple observations from classical thinkers have been routinely dismissed as "ideological" by both Latin American socialists and fascists -- that is, by the left and right. Yet the wisdom has proven timeless and universal, and there is no shortage of oppressed citizens who can attest to its veracity. At a World Bank panel to discuss corruption last week, Dele Olojede (an award-winning journalist from Nigeria) had this to say about the problem: "We should recognize that in societies where the bureaucracy is vast, the press is weak, the private sector operates under the yolk of government, these are the clearest indications of corrupt societies, and you cannot begin to fight corruption if you have all powerful government in any society."

Whether or not the equality of outcomes sought by the Brazilian Constitution is morally defensible, experience shows that the power required by the state to achieve it produces highly undesirable consequences. Despite all of socialism's moralizing, when those clamoring for justice make their way to the seat of unchecked power, a portion of them turn out to be no better than their predecessors. Do-gooders too have clay feet. It is a lesson Brazil is learning the hard way.

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Humanity's Greatest Achievement

Humanity's Greatest Achievement

By JOHAN NORBERG October 2, 2006; Page A11

Think for a moment about what this morning would have looked like if it were 150 years ago. You wouldn't have had electric light, running water or indoor sanitation. You couldn't have gone to work by car, bus or train. You couldn't have used a computer, which performs calculations in seconds that would take decades with pen and paper. In short, you would probably not have found this morning very comfortable or enjoyable -- if you had been alive to experience it. Back then, the global average for life expectancy was around 30 years.

We tend to take our opportunities for granted, but our ancestors could not have imagined what we now have. In the last 100 years, we have created more wealth than in the 100,000 years before that, and not because we work more. To the contrary: In the last century, work hours have been halved in the Western world. It is because new ideas have made it possible for us to work smarter and find easier ways to satisfy our needs and demands.

The people we should thank are the innovators and entrepreneurs, the individuals who see new opportunities and risk exploring them -- the people who find new markets, create new products, think out new ways to handle commodities commercially, organize work in new ways, design new technology or transfer capital to more productive uses. The entrepreneur is an explorer, who ventures into uncharted territory and opens up the new routes along which we will all be traveling soon enough. Simply to look around is to understand that entrepreneurs have filled our lives with everyday miracles.

Entrepreneurs are serial problem-solvers who search out inefficiencies and find more practical ways of connecting possible supply with potential demand. In that way, they constantly revolutionize our economy, and have made it possible for average people today to live longer and healthier lives, with more access to technology than the kings had in previous generations.

Had this radical improvement of our lives been accomplished by political leaders and central planning, it would have been celebrated as humanity's greatest achievement. But that is not how entrepreneurs are perceived, to say the least. For a hint of how the popular culture thinks of the innovators, take a look at any Hollywood film. Chances are that the villain is either a mad scientist or a greedy businessman. That is slightly ironic, since we would have neither film technology without scientists nor a film industry without businessmen. This is to say nothing of our political culture.

The ingratitude toward those who have given us almost everything seems strange. But perhaps there is a historical explanation. Wealth and innovation are recent phenomena. During about 3,999,800 of the perhaps 400 million years that hominians have existed, life has been a zero-sum game for most people. The invention of new technology was extremely slow and there was no surplus to invest, so the average homo habilis or homo erectus didn't see an increase of wealth during his lifetime. What other tribes hunted or gathered, you lost. If someone gained, it was reasonable to be suspicious of him -- because he probably did it at your expense. Under such circumstances, human nature, our instincts and our attitudes, developed.

Today we live in a very different world. The system of reward in the free market is the complete opposite. You don't gain by stealing from others, but by giving them goods and services that they want. Our suspicion and our envy, however, remain the same. What was once a way to avoid being exploited by brutes, kings and knights now becomes a way of exploiting those who create new value.

So we are probably not well adapted to understand the modern economy. Whenever we see wealth we have gotten used to thinking that someone somewhere else has lost out. The history of socialism can be interpreted in this light. Marx said that the wealth of the capitalists came at the expense of the workers. But even in his lifetime, the average worker in Britain increased his income threefold. Then Lenin saved socialism by saying that the original hypothesis might be wrong, but only because someone else had to pay the price -- poorer countries that were exploited by trade and investments. Today, once again, we know that the opposite is true. Since 1950, extreme poverty has been reduced to 20% from 60% in developing countries. The reduction has been led by the countries that have the most trade and investment links with us, whereas those that have been shut out, such as sub-Saharan Africa, have stagnated.

Later, socialists like the economist Robert Heilbroner admitted that capitalism and trade were superior for creating wealth, even for developing countries, but stood by the basic conclusion that someone or something must lose. Heilbroner thought the environment would. Today most people realize that wealth and technology give countries both the will and the means to deal with environmental problems, and that the worst problems are those in poor nonmarket economies -- the fact that five million people die every year from unsafe water, for example.

That the anticapitalists' particular concerns have been proven wrong again and again doesn't help for long, because soon they find a new excuse to condemn free markets. The latest variety is Marx on his head: He said that capitalism is bad because it actually creates poverty and slavery. Today, critics say that capitalism creates wealth and freedom -- but this is bad for well-being because we become stressed up, frustrated by the constant demand to choose, working too hard and consuming too much to keep up with the Joneses.

Don't expect the critics of capitalism to change their minds any time soon. As long as they don't believe in the creative ability of mankind or that the market is a plus-sum game, they will continue to think that someone, somewhere, is victimized whenever and wherever we see growth and innovation. Unless this disparagement of entrepreneurs is tamed, people will allow government, with its arsenal of taxes and regulations, to take their place.

Mr. Norberg, a senior fellow at the Center for the New Europe, is author of "In Defense of Global Capitalism" (Cato, 2003).

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Power of Nature

This post by Gregg Easterbrook is shown below.

Cosmic Thoughts -- Bummer Edition: Recently, I was creeped out by this supernova. Detected Feb. 18 by Swift, a satellite launched to look for gamma-ray bursts, the exploding star already was the 24th supernova discovered at that early point in 2006. As instruments improve, exploding stars appear more common than cosmologists had expected, and that's not the best news we might have heard. Coded GRB 060218, this star detonation began as a gamma-ray burst that lasted 33 minutes -- absolutely stunning because previous gamma-ray bursts from space have lasted a few seconds at the most. The gamma rays came from 470 million light-years away. That was discomfiting because strong gamma-ray bursts usually emanate from what astronomers call the "deep field," billions of light-years distant and thus billions of years back in the past. A distance of 470 million light-years means the GRB 060218 supernova happened 470 million years ago. That is ancient by human reckoning, but many cosmologists had been assuming the kind of extremely massive detonations thought to cause strong gamma-ray busts occurred only in the misty eons immediately after the Big Bang. The working assumption was that since life appeared on Earth, there had been no stellar mega-explosion. Now we know there has.

For several days as the giant dying star GRB 060218 collapsed, this single supernova shined brighter than all 100 billion other suns in its galaxy combined. The detonation was so inexpressibly luminous that, though 470 million light-years distant, it could be seen by telescopes on Earth. And not just fancy telescopes at the tops of mountains: A few days after the Swift satellite detected the gamma-ray surge, an amateur astronomer in the Netherlands sighted the forming supernova through a backyard telescope. The stellar coordinates hit the Web -- it was at RA: 03:21:39.71 Dec: +16:52:02.6 -- and soon amateur astronomers the world over were marveling at the glistening beacon from the cosmic past. This explosion released so much energy that it happened 470 million years ago yet the light could travel for that protracted period, plus pass through the gas and dust of roughly a hundred galaxies along the way, and still illuminate mirrors of backyard telescopes on Earth.

Now here's what creeped me out: had GRB 060218 happened in our galaxy, life on Earth would have ended Feb. 18.

Gamma rays are a deadly form of radiation. Routine gamma-ray bursts course through the Milky Way, our galaxy, all the time, and the threat from them appears small. Recently Krzysztof Stanek, a professor of astronomy at Ohio State and one of the hot names in astronomy -- reader Jim Yrkoski of Warsaw, Poland, notes I missed one "z" in Stanek's name the last time I cited him -- calculates that a regular supernova causing a routine gamma-ray burst would need to detonate within about 3,000 light-years of Earth to expose our world to enough radiation to cause a calamity. Only a small portion of the Milky Way, and none of the larger universe beyond, is within 3,000 light-years of our world.

Extinct, just like the Wing T.

This does not rule out "nearby" gamma-ray bursts as causes of past extinctions. About 340,000 years ago, a supernova called Geminga exploded 180 light-years from Earth, which is much too close. Calculations suggest Geminga was bright enough to rival the full moon; our Homo erectus ancestors must have looked up on it in wonder. The Geminga supernova is believed to have blown off much of the ozone layer, exposing Earth to solar and cosmic radiation that killed many mammals, including many of those ancestors. Another supernova, Vela, about 1,500 light-years away, detonated 11,300 years ago. About the same time, several large mammals of North America and Eurasia fell extinct: among them, the woolly mammoth, the giant sloth and the glyptodon, an armadillo larger than a bear. There's a lively archeological debate about whether these extinctions were triggered by climate change or by people armed with new hunting tools such as bow and arrow. Maybe the extinctions were caused by the supernova bathing Earth in gamma rays.

At any rate, Vela and Geminga were normal supernovas that caused relatively mild gamma bombardments lasting just seconds. If a 33-minute, incredibly powerful gamma-ray burst similar to the one associated with GRB 060218 happened anywhere in the Milky Way or any nearby galaxy, Earth would be sterilized; any life that might exist on other planets in our galaxy and nearby galaxies also would end. Most likely, the gamma radiation from GRB 060218 ended all life in numerous galaxies near the explosion. After GRB 060218, a team of astronomers led by Andrew Fruchter of the Space Telescope Science Institute calculated that the class of extremely massive blue star that caused this mega-supernova probably is not found in the Milky Way. That's some consolation. But February's ultimate supernova tells us nature has a doomsday weapon -- and that creeps me out.

It's the entitlements stupid!

REVIEW & OUTLOOK The Entitlement Panic August 22, 2006; Page A12 Will America have to declare Chapter 11 because of $80 trillion in unfunded entitlement promises? That's a question posed recently by Laurence Kotlikoff, an economist at Boston University, in his attention-grabbing essay on Medicare, Medicaid and Social Security entitled: "Is the United States Bankrupt?" Mr. Kotlikoff's answer is perhaps yes: "Nations can go broke, the United States is going broke . . . and radical reform of U.S. fiscal institutions is essential." Mr. Kotlikoff is a first-rate economist, and his gloomy predictions are gaining adherents. Some of them are on the free-market right -- at the Heritage Foundation and Cato Institute -- and among Republicans on Capitol Hill. They've begun to beat the drums for immediate solutions, including in some cases tax increases if that's what it takes to get Democrats to agree to reform. With President Bush still angling for an entitlement superdeal before he leaves office, maybe it's time to put this issue in perspective. The budget math is simple enough: The estimated $80 trillion in unfunded future entitlement liabilities is about six times larger than the U.S. economy and 16 times the federal debt held by the public. Mr. Kotlikoff calculates that future workers would have to pay tax rates from 55% to 80% over their lifetimes to fund these promises. This would indeed be a ticket on the bullet train to European socialism. [America the Bankrupt?] Now, we take a back seat to no one in promoting reforms in Social Security, Medicare and Medicaid. But there are also good reasons to doubt Mr. Kotlikoff's dire scenario, unless our politicians make even more policy blunders. For one thing, the U.S. fiscal "balance sheet" isn't a static ledger and includes assets as well as liabilities. While the U.S. national debt has climbed from $800 billion in 1981 to $5 trillion today, the nation's assets have climbed from $11 trillion to $67 trillion over that same period. (See nearby chart.) Include all private assets and liabilities, and net national wealth has increased by $40 trillion over the same period. Declinists have consistently underestimated American growth, productivity and technological innovation. In only the past four years, U.S. assets have risen by $13 trillion -- much of which will be passed down to the next generation of workers to finance their parents' benefits. Mr. Kotlikoff and allies counter that we can't grow our way out of this mess because the promised benefits are scheduled to rise at the rate of real wage increases. Technically that's right, but it misses a key point. Paying benefits to 75 million baby boomers in 2030 will be a much lighter lift if we have a $25 trillion GDP and net worth of $100 trillion than if slower growth in the interim years leaves us, say, a third less wealthy. The most vital policy imperative is to sustain pro-growth policies, including free trade, free capital flows, low taxes and an education system to train our human capital. Everyone also agrees that the entitlements crisis is driven by demographics, namely fewer young workers to finance more retirees who live much longer. Japan and most European nations with birth rates well below replacement levels are in an especially difficult pickle. In the U.S., however, birthrates are typically higher and we also have the advantage of greater immigration. The Social Security actuaries calculate that the addition of one million immigrants reduces the long-term unfunded liability of Social Security by at least $5 trillion. The biggest false assumption, however, is that the current level of benefits will ever be paid. They won't, for many of Mr. Kotlikoff's reasons. If current politicians are too afraid to reduce future benefits or reform the programs, future politicians will have no choice -- unless they want to raise taxes to confiscatory levels or have no money to spend on other priorities, such as national defense. There's a key legal point here: Entitlement benefits are not a contractual government obligation in the sense that a T-bond is. For the feds to default on the interest of a 10-year note would be a form of national "bankruptcy." But in its landmark 1960 decision, Flemming v. Nestor, the Supreme Court ruled that there is no such legal right to Social Security. Today's Congress can promise future retirees a lifetime golf pass and free trip to the moon, but it can't bind a future Congress. Rarely does a year go by that Congress doesn't already tinker with entitlements in some way, making benefits more or less generous depending on the political mood. It is precisely the unsustainability of these future benefits that will make reform attractive to younger people who realize they have no hope of getting what they're now paying for. A crucial, if little understood, point about personal Social Security accounts is that for the first time they'd give workers an actual property right to their own savings, protecting them from future political whim. By all means let's educate Americans about the financial ditch that Congress is driving toward. But alarmist rhetoric about impending bankruptcy isn't credible, and it only discredits reform advocates. It may even play into the hands of those on the political left who resist reform but would love to impose a vast new source of federal tax revenue, such as a European-style value-added-tax or an increase in payroll taxes. Those policies would put America on a slower growth path and make it even harder to build the wealth to finance future benefits. The national fisc isn't what's going bankrupt. That description better applies to the New Deal and Great Society programs that were designed for another era and long ago became unsustainable. Sooner or later they'll have to be changed, and this is where reformers should focus their political effort. URL for this article: http://online.wsj.com/article/SB115620669096641701.html Copyright 2006 Dow Jones & Company, Inc. All Rights Reserved

New Jersey demonstrates reality

Jon Corzine Florio July 1, 2006; Page A10 Nearly every state in the nation is celebrating the new fiscal year that begins on Monday with record tax revenues. The big exception is New Jersey, which is headed instead for what could be a government shutdown. The political showdown isn't between Republicans and Democrats, but is between Governor Jon Corzine and his fellow Democrats who control the state legislature. On Wednesday, Democrats cursed each other and, according to our eyewitness sources, came close to blows inside the capitol in Trenton. Mr. Corzine is now threatening a government shutdown if his own party doesn't bend to his proposal for a $1.5 billion tax increase. Remarkably, all of this intra-party feuding isn't over whether to raise taxes, merely over how. Mr. Corzine wants to raise the state sales tax to 7% from an already high 6%. Many Democrats in the legislature believe this is political suicide, especially with the Governor low in the polls. But somehow they've convinced themselves that voters will happily swallow new levies on payroll, tobacco, computer services and car rentals instead. Meanwhile, the one promise that Democrats made to voters in last year's election campaign -- lowering what are some of the highest property taxes in the country -- remains conspicuously unfulfilled. A new Quinnipiac poll finds that 47% of voters identify taxes as the biggest problem in the state -- the highest number for any issue the polling firm has ever found in New Jersey. The Garden State has raised taxes nearly every year since 2000 and nearly twice as much per resident as the next highest tax state. Yet, no surprise, Trenton still has the biggest budget crisis outside of the states ruined by Hurricane Katrina. This taxing binge hasn't balanced the budget because state expenditures have ballooned by $8 billion, or about 45%, in six years. Mr. Corzine is nonetheless sticking to his story that state schools and services are underfunded. The real New Jersey story is that a rising cost of living and taxes have spurred an exodus of businesses, high net worth individuals and working families. U.S. Census Bureau data indicate that, in 2004 alone, 60,000 more people left New Jersey than moved in. This outmigration led to a loss of $1 billion per year in the state's personal income, according to IRS statistics analyzed by the Manhattan Institute. Thus New Jersey finds itself in a spiral down: Taxes are raised, more taxpayers flee so the tax base shrinks, the politicians raise taxes again, and the cycle repeats itself. Political history is also repeating itself here. Sixteen years ago Jim Florio was elected Governor and pushed through the largest tax hike in Jersey history. The economy sputtered, and Mr. Florio was dumped by voters in favor of Republican Christine Todd Whitman and a veto-proof GOP legislature. Undeterred, Mr. Corzine is testing the same tax, spend and don't elect theory. Which is why things are getting ugly among Democrats in Trenton. URL for this article: http://online.wsj.com/article/SB115171330801595955.html Copyright 2006 Dow Jones & Company, Inc. All Rights Reserved

Globalization

Don't Fear the Future

The global economy is disorienting, but full of opportunities, too.

By Gordon Brown

Newsweek International

June 19, 2006 issue - In the last year 1 million manufacturing jobs have been lost from America, Europe and Japan, and one quarter of a million service jobs gone offshore. For the first time Asia is outproducing Europe. And driven not just by political uncertainty but by the rising needs of Asia, oil and commodity prices have been rising fast.

These last 12 months have seen the biggest step change in the scale, speed and scope of what is already the biggest industrial and economic restructuring the world has ever seen. And we are seeing not just the ever-faster advance of globalization but of globalization's discontents, too. Last century's interwar years produced protectionist beggar-my-neighbor policies which only intensified the Depression and set nation against nation. Now, in 2006, protectionist forces are on the rise again: "economic patriotism" in Europe, populism in Latin America, anti-immigrant feeling and sullen resistance to change on just about every continent.

Take one example. The European single market aspires to be what it says it is—an open market allowing the free movement of goods, people and capital. But in the last few months, Europe has seen France seek to block Italian utility take-overs, Italy threaten Dutch banking acquisitions, Spain stall German energy bids and Poland resist Italian financial-service mergers. And today an ambitious world-trade deal seems even more elusive than ever, with rich-country protectionism criticized for standing in the way of poor countries' development.

The paradox of today's globalization is that even its winners feel themselves to be losers. Globalization is cutting the price of consumer goods from clothes to electronics, putting what were once luxury goods into the hands of millions of ordinary households. Cheaper products and sometimes services from newly emerging countries create the competition that spurs us on to greater productivity and innovation. And emerging markets are, in fact, expanding markets for us just as we are for them. U.S. and European company brands are emblems all over the world, and their global penetration, as much as homegrown entrepreneurship, is the key to our future success.

Isolationism, partial retreat and protectionism are self-defeating options. By attempting to shelter ourselves—to pick and choose which barriers we raise or lower—we will only fall behind, risk competitiveness and pay a higher price for long-run adjustment. Indeed, the whole success of the American economic experience teaches us that the lifeblood of a market economy is the continuous injection of new competition. It has been the hard work and enterprise of the American people, responding to the new opportunities brought by each successive wave of global economic change, that has been the foundation of American economic progress. And it is when America has shown that same commitment to leading the opening of markets in the rest of the world, such as the dismantling of trade barriers following the second world war, that the conditions are put in place for rising growth and prosperity for all.

So what is the best way of showing a doubting public today that protectionism is no answer to globalization and that, with the global sourcing of goods and services, the world can deliver a far more specialist division of labor and thus a far more efficient allocation of resources to the benefit of all? What will persuade skeptics more concerned about lost jobs that advanced industrial countries can find comparative advantage by moving up the value-added chain and that instead of sheltering our industries, we will all, in the end, benefit by improving their productivity?

It is clear that we need a global conversation about both the risks of protectionism and the benefits of globalization. We need to explain that the same globalization that results in the loss of old jobs can create new and better jobs. This conversation matters not just for governments but for business, in whose interests it is to show that the more restricted the flows of capital and the cross-border mergers and acquisitions, the smaller the global market.

Of course, up against this new global competition, each country's strengths—and potential comparative advantages—are different. In the case of Britain and Europe it will require a stronger entrepreneurial culture that encourages new ideas, support for innovation by helping with risk finance, and commercialization of technology that helps disseminate the ideas. And while there will be ever-growing pressure from China and India to compete for more high-skilled jobs, our best course is still to have the confidence to find our comparative advantage by investing in a more highly skilled work force that can respond quickly and flexibly to change. So a globalization that works will mean not only open markets and free trade and flexible labor conditions, but higher investment in innovation and education.

For Europe this also means escalating the pace of economic reform. For Britain in particular it means an emphasis on productivity—persuading people that while we may not be able to stop them losing the last job, we can do a great deal to help them be equipped for the next jobs. And it also means looking at new sources of jobs at home—not least from the environment. In Britain alone we believe we can create more than 100,000 jobs from energy conservation to microgeneration. If nations leave dislocated workers feeling hopeless and forgotten with only the offer of dead-end jobs, they will be increasing the chances that their citizens will fuel the fires of protectionism. But if we expand the opportunities for new skills and then new jobs, make that work pay and invest in strengthening communities, then citizens will be far more likely to see the larger benefits of globalization.

Throughout industrialization, we have been right to say that if people work hard, play by the rules and acquire skills, they will do well and the next generation can aspire to do even better than the last. It is now our task to demonstrate to those who lose jobs to the global economy not only that we are on their side, but that new and good opportunities will be available.

But globalization must mean something more than open markets, free trade and investment in innovation and education: it must also mean a level playing field. Everyone must become as open as each other. Our multilateral rules and institutions, though devised in another era for different challenges, must be made fit for an open, not closed, economy. That is why the IMF's new focus on surveillance —on monitoring both a level playing field and stability and growth risks—is so important. We must also recognize how quickly other countries' problems can become our problems too. Movements of people from poor to rich countries will speed up and extremists will be able to exploit weak states unless we help empower these poorer countries' economic and social development. Encouraging education for all—and removing obstacles to economic development—is, thus, not just a moral cause but a modern strategic and economic imperative.

The starting point—the most powerful anti-protectionist signal we can send—is breaking the world-trade deadlock. The prize is a 50 percent increase in world trade. And the key that will unlock that door is Europe and America offering progress by reducing protectionism in agriculture, and India and Brazil's being willing to respond with liberalization of services and greater market access. Europe should indicate that when it comes to review its budget and its agricultural policies, the essential element of both will be a radical reform of the Common Agricultural Policy and a timetable to end all forms of agricultural protectionism. What better signal could Europe send of its commitment to wider economic reform, to completing the single market and our willingness to rise to the challenges of globalization than a successful reform of agricultural protectionism? And what better signal could Europe and America send than action to break the deadlock in the wider world-trade talks as a demonstration of our determination to fight protectionism and our belief in globalization as a force for prosperity and fairness on a global scale?

The Rt. Hon. Gordon Brown is the United Kingdom's chancellor of the Exchequer.

© 2006 Newsweek, Inc.

Hurricanes and insurance risk

Are Hurricanes Uninsurable?

By HOLMAN W. JENKINS, JR. June 7, 2006; Page A15

It wasn't so long ago that insurers were pronouncing terrorism "uninsurable." But ask any insurer: Aon's Paul Bassett recently noted that the global war on terror had greatly reduced the threat of megaplots on the scale of Sept. 11, 2001.

Yes, suicide bombers and car bombs remain a threat, but not to the industry's capital base. Hurricanes are the new "uninsurable" now.

Here's a complicated story that only begins with warming ocean temperatures thought to justify an expectation of increased hurricanes. One risk modeler, Risk Management Solutions Inc., chucked out 100 years of hurricane data and brought together four climate scientists who probably wouldn't agree about much else but agreed that the next five years would see a higher-than-average number of hurricanes. Presto, a risk model employed by many insurers to set rates suddenly implies a 40% hike for Gulf Coast property owners.

A second factor: More hurricanes meet more people and property. Regionally speaking, Katrina came ashore in a low-rent neighborhood. Florida, a hurricane highway, represents an agglomeration of coastal property worth $2 trillion. New York City and Long Island offer a similar target. The Texas coast represents about $750 billion worth of bowling pins.

These scenic vicinities experienced building booms in the '70s and '80s, when hurricane activity was at low ebb. Beginning in the early 1990s, a series of devastating storms swept through, especially in Florida. Enter factor three: The willingness of the federal government to rush in with rebuilding aid far above even the billions in subsidized flood insurance already provided to coastal homeowners. Coastal development only quickened when it should have slowed.

Upping the ante were 9/11 and Katrina, which demonstrated to high rollers the federal government was incapable of not shelling out infinite sums to ease personal tragedies when bad things happen on a large scale (if you lose your house or loved one in an everyday mishap, of course, you're still on your own).

As anyone might have predicted, this dynamic is now unraveling the insurance industry's ability to help society control its risk-taking by properly pricing risk. Lloyd's Julian James put it this way late last year: "It seems to me that with $400,000 per family [paid out in the wake of the terrorist attacks and Katrina], if the government hands out checks, do people need insurance?"

In olden times, robber barons built their seaside mansions a safe distance from the ocean. Today's yuppies build their palaces right on the beach: FEMA reckons that a quarter of coastal dwellings will be destroyed in the next half century. The solution seems obvious: Restore the incentive for yuppies to behave responsibly like the robber barons.

This assumes two things: Insurers would have to be free to charge realistic rates, which is problematic given that rates in most states are approved by elected or appointed insurance commissioners, most of whom have their eyes on higher office.

It also assumes state courts will uphold insurance contracts -- a principle being tested in Mississippi, where Attorney General Jim Hood likens insurers to "Nazis in lockstep" and is pursuing civil and criminal complaints against them for refusing to pay for flood damage explicitly not covered in the policies they sold to homeowners.

The riskiest assumption of all is that property owners would be willing to pay "actuarially sound" rates rather than just skipping insurance and relying on a federal bailout in the wake of a big storm. Here's the real crux of the claim by some industry watchers that hurricanes have become effectively uninsurable.

In this camp is Robert Litan, a Brookings Institution economist who says bailouts have become politically mandatory and property owners expect them. So the only rational course now is to fund them in advance, with taxes borne mainly by those who benefit. Coming to a similar conclusion is Allstate CEO Ed Liddy, a one-man band who's been trying to drum up enthusiasm for a federal disaster insurance program.

He was a voice alone but lately has acquired allies in the form of State Farm and a few others. Mr. Liddy lays out an approach that, he claims, would tap all business and property owners in Florida who presumably benefit from coastal development even if their own property is inland. Folks in Peoria and Dubuque wouldn't be milked, as they are now, to subsidize the lifestyle of beach dwellers.

He also says his plan would mandate realistic insurance rates and impose damage mitigation measures to reduce the cost of hurricanes and discourage high-risk development.

Don't hold your breath for this part. Federal flood insurance was instituted in 1968 with the same good intentions -- to make property owners bear the cost of their own recurrent bailouts. Instead it became a subsidy to increased risk-taking. That program today is $21 billion in the hole, its shortfalls financed by taxpayers in Peoria and Dubuque.

Where's Al Gore when you need him? Mr. Liddy's plan may be a defensible concession to political realities, i.e., the inevitability of the federal government continuing to pay people to rebuild what storms knock down (see New Orleans). But it also makes an undesirable peace with over-development of coastal areas. The harder road of imposing market insurance rates on coastal property owners and ending taxpayer handouts would mean a lot of coastal development would come to a halt -- as it should.

In any case, all agree the debate won't be settled in an election year, and probably not until another hurricane forces the country to face up to how the rest of us have been taxed again and again to subsidize the high-risk lifestyles of those who plant themselves in the paths of hurricanes.

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