Turn on the news on any given day, and you're likely to hear about the Dow Jones industrial average. It is the most frequently checked, and cited, proxy of U.S. economic health. But a lot of people — maybe most — don't even know what it is. It's just the stock prices of 30 big companies, summed up and roughly averaged. That's it.

And what does the daily movement of this number have to do with the lives of most Americans? Not much.

 

"In 2011, we had days where it would go up several hundred points, and the next day it would go down several hundred points," says John Prestbo, editor and executive director of Dow Jones Indexes. "You can't really argue that the mood and outlook of the entire country was changing that rapidly."

Prestbo doesn't even check the Dow every day.

He says the Dow Jones average is great for a very specific purpose: to get a long-term sense of how the leading U.S. companies are doing. But its moment-by-moment, even day-by-day movements are meaningless. It wasn't designed to be used that way.

In fact, Charles Dow, who created the Dow Jones average in 1896, didn't bother to comment on his own metric more than once a month.

So what happened? How did we develop this 24-hour fixation on the Dow? Blame the Panic of 1907.

This was a severe recession. Banks were collapsing. Everyone was trying to make sense of a disastrous economy. They wanted some handy metric that could tell what each day's news meant.

"So they looked around," Prestbo says, "and they found the Dow Jones industrial average. It took on a life of its own, shall we say."

Newspapers started referring to it. Then, during the Great Depression, it became a daily requirement.

Now, of course, we can follow it every second of the day. We are confused and want to know what the latest scary or hopeful economic news means. So, we look around, and there's still this one thing available. It always has an answer for us, even if the answer doesn't actually mean anything.

An update and a warning:

Update: An archive of Planet Money podcasts going all the way back to June of '09 is now available on iTunes. Enjoy!

Warning: If your iTunes is set to "download all" for the Planet Money podcast, you may suddenly find you are downloading 301 Planet Money podcasts. Beware!

To check this setting, go to your podcasts in iTunes, and click the "settings" button at the bottom of the page. Make sure you're set to "Download the most recent one."

Here's a screen grab:

Thanks, and sorry for any inconvenience.

Below is an excerpt from Adam Davidson's latest New York Times Magazine column, "Why Do We Still Care About the Dow?" Read all of Davidson's Times Magazine columns here.

Why do we still care so much about the Dow? It remains not only a rough measure of stock performance but also the most frequently checked, and cited, proxy of U.S. economic health...

The Dow average, drawn out to two decimal places, may seem like some perfectly scientific number, but it's far from it. A small committee selects 30 big companies — I.B.M., G.E., McDonald's, Disney and so forth — and then adds up the price of their stocks. Then the analysts divide it by the Dow Divisor, a misleadingly precise-seeming number formulated to account for things like dividends and splits that right now is, well, about 0.132129493. The resulting figure is repeated throughout the country...

 

Yet the Dow's biggest flaw, perhaps, is that it doesn't help us to make sense of an increasingly interconnected global economy — one in which what's good for G.M. isn't always good for the country. G.E., I.B.M and Intel, for example, all make more than half their profits in other countries. And while this may be great for their shareholders, it means little for most Americans.

None of these criticisms will come as news to finance professionals, most of whom use far more precise measures — like the S&P 500 or the Wilshire 5,000, which cover more companies more precisely — when making investing decisions. In fact, they might not even surprise Charles Dow, who created the Industrial Average in 1896. Dow observed his own index infrequently, says John Prestbo, the editor and executive director of Dow Jones Indexes, who also happens to play the role of in-house historian. Prestbo says the average investor should observe the Dow once a quarter or, at most, once a month. He also cautions against drawing broad conclusions about the overall health of the economy from any narrowly focused stock average. This is particularly true when, for the first time in a while, the economy is truly worth worrying about. And it's even more true when a twitchy financial system is being monitored by a twitchy index perfectly suited to a 24-hour news cycle. One thing is obvious: Charles Dow would have made a terrible cable-news editor.

Read the full column here.

Can we have a banking system that provides good services to people at reasonable rates? A banking system that doesn't bring down the global economy every few decades?

Anat Admati thinks we can. She's a finance professor at Stanford, but she never paid much attention to banks until the financial crisis. (This is not unusual in the superspecialized world of academia.)

After the crisis hit, Admati started reading up on banks. And, in a basic banking textbook, she came upon a single line that changed her career.

"I sat in my office and I thought, 'Something is really wrong in banking.' "

On today's show, Admati tells us what she thinks is wrong in banking — and how she thinks we can fix it.

Subscribe to the podcast. Music: The Pains Of Being Pure At Heart's "Belong." Find us: Twitter/ Facebook/ Spotify.

The economists who predicted the housing crisis tend to be a gloomy bunch, as Adam Davidson notes in his latest Times Magazine column. Dean Baker is the rare exception. In the following guest post, he explains why he has parted ways with the economic pessimists.

For more than five years before the recession began in December of 2007, I was one of the leading economic pessimists, warning of the housing bubble and the damage that its collapse would do to the economy. I based this pessimism on my analysis of the housing market, not a genetic disposition to pessimism. Given the economy's current situation, I find the warnings of the pessimists – the double-dip gang – to be wrongheaded and seriously counterproductive.

First to the economy's near-term prospects: the economy is growing and will in all probability continue to grow. Economies do generally grow. We see new investment, leading to more employment and higher productivity, which leads to higher profits and higher wages.

 

In the past when the economy has fallen into a recession it has been the result of plunges in house sales and car sales. Neither possibility seems plausible at the moment, primarily because both remain at extraordinarily low levels that leave little room for them to fall further. Even if they did fall, it would have only a limited impact since current demand is already so depressed.

It's difficult to see what else could cause another recession at this point. Cutbacks in government spending have been a drag on the economy the last two years. But state and local governments have largely adjusted to the plunge in tax revenues caused by the recession. There will be further cuts in many places, but they will likely be much smaller than the ones we have seen thus far.

Similarly, the federal budget deficit will fall through some mix of spending cuts and higher taxes. But this adjustment is unlikely to be so rapid as to raise any risk of recession, barring a very large political shake-up in the next election.

There is the possibility of a major event abroad causing a recession in the U.S. The two most-often mentioned candidates are a collapse of the euro or a collapse of the housing bubble in China and a meltdown of the Chinese economy.

While either of these events could cause huge disruptions to the U.S. financial system, both are highly unlikely. The European Central Bank and major European powers understand the risks of a disorderly default by Greece or another troubled European country. At the moment, they are playing games to extract as many concessions as possible, but there is little doubt that they would move aggressively if it appeared that things were unwinding.

Similarly, some of the people who are projecting a meltdown in China have been making such predictions for more than a decade. China's government has shown a remarkable ability to manage its economy through an enormous amount of economic turbulence.

In short, there seems little prospect that the U.S. economy will crater on its own. And the foreign events that could lead to a recession in the United States seem highly unlikely.

But it does matter hugely that the people putting forward the double-dip warnings are being taken seriously.

The problem is that if a double-dip recession is viewed as a serious possibility, even weak growth looks good by comparison. That is certainly what we saw in the second half of 2011, when the economy grew 1.8 percent in the third quarter, and 2.8 percent in the fourth quarter. Both reports were treated as good news since the economy was avoiding the dreaded double-dip recession.

In reality, this rate of growth is dismal for an economy that has been through a bad recession and is operating far below its potential. Following less severe downturns in 1974-75 and 1981-82, we saw several years in which the economy grew by more than 5 percent per year. The economy grew by 8 percent from the first quarter of 1983 to the first quarter of 1984.

In order for the economy to get back near its potential and to return to something resembling full employment in a reasonable period of time, we need much more than 2 to 3 percent growth. This sort of weak growth will needlessly condemn tens of millions of workers to unemployment or underemployment.

But if people think there's a high risk of a double-dip recession, then the public will end up being grateful for any growth whatsoever. And that would be the pessimists' fault.

A while back, the MIT economist Andrew Lo set out to review a couple books about the financial crisis. Those books led to a couple more books, which led — you see where this is going — to 17 more books.

Now, Lo is about to publish "Reading About The Financial Crisis: A 21-Book Review" (PDF).

Reading 21 books about the financial crisis does not sound, on its face, like a fun experience. After you talk to Lo, it sounds even worse.

 

"After each book, I felt like I knew less," he told me. "For an academic, that's a pretty frustrating feeling."

Lo read widely. Idea books by economists, newsy books by journalists. An 800-year history of financial crises. (The full list is on pp. 4-5 of the review.)

He knew going in that there was still disagreement over the finer points of the crisis. But reading all those books showed him that the debate runs much deeper than he thought.

"If you got five economists in a room and you asked them what caused the crisis, you'd probably get eight different opinions," he says.

For Lo, this is a problem. His dream is for economists to look at the crisis the way climatologists look at climate change.

You have ... hundreds of scientists who have a number of varying perspectives. They're fiercely independent. They've got huge egos. And yet they all seem to be able to come together around the data about climate change. At this point, I don't think there's any dispute in the academic world about whether or not global warming is a fact.

Lo knows that there aren't "laws of physics that will govern all economic behavior." Still, he says, economists ought to be able to agree on a basic set of facts about what caused the crisis.

And for all of his worry over the debate, Lo does offer his own, broad account of what went wrong in the crisis. On the surface, he says, it looks a lot like most crises. It starts with an economic boom.

In that kind of a climate of prosperity, people begin to lose fear. They begin to become much more relaxed in much the same way that somebody who has a little bit too much to drink becomes a lot more relaxed ... After a while we get lulled into false sense of safety, security and prosperity. And we begin to start cutting corners. ... we start building up the kind of risks that end in financial crises.

The difference this time, Lo says, is that the combination of technology and new financial products allowed a larger buildup of risk around the world.

"If you're drunk and you're playing around with a [hand] saw, there's not a whole lot of damage you can do," he says. "But if you're drunk and you're playing around with a chainsaw, that's another matter."

This is what it's like to host the Super Bowl: For one weekend, your city is the focus of the sporting universe. Fans flock in droves. They eat at your restaurants and sleep in your hotels. They buy the "I ♥ [your city]" t-shirts.

The NFL estimates that hosting the country's premier sporting event will give the local economy a $300-500 million jolt.

Economist Victor Matheson of the College of Holy Cross doesn't buy it.

In today's podcast, co-hosted from Indianapolis by NPR's Mike Pesca, Matheson presents the case against hosting the Super Bowl.

He argues hosting the Super Bowl pushes out the economic activities that occur on normal, non-Super Bowl hosting weekends. No conventions are held. Museums are closed. Local residents do not come downtown simply because it's too crowded.

What's more, Matheson says, the majority of the money that's shelled out by out-of-towners does not even stay in the city. It flows to the big, national hotel companies and restaurant chains.

"More money than average is being spent in hotels and restaurants, but is then immediately leaving town...you have lots of dollars changing hands but it's really money being sucked out of people's hands and disappearing, rather than money that goes to build the local economy or repay a big stadium subsidy."

Subscribe to the podcast. Music: Johnny Pearson's "Heavy Action" and Faith Hill's "Waiting For Sunday Night." Find us: Twitter/ Facebook/ Spotify.

Ron Silver, the owner of Bubby's restaurant in Brooklyn, recently put a word on his menu you don't often see anymore: lard. The white, creamy, processed fat from a pig. And he didn't use the word just once.

For a one-night-only "Lard Exoneration Dinner", Silver served up lard fried potatoes. And root vegetables, baked in lard. Fried chicken, fried in lard. Roasted fennel glazed with lard sugar and sea salt. Pies, with lard inside and out. All from lard he made himself in the kitchen.

"It seems funny," Silver says, "but for thousands of years this was the thing that people cooked with.

A century ago, lard was in every American pantry and fryer. These days, lard is an insult.

"The word lard has become this generally derogatory term associated with fat and disgustingness," says Dan Pashman who hosts a food podcast called The Sporkful. "Think about Lard-ass, the character from the movie Stand By Me. I mean, he didn't want to be called Lard-ass."

How did this delicious, all-natural fat from a pig become an insult? Who killed lard?

Lard didn't just fall out of favor. It was pushed. It was a casualty of a battle between giant business and corporate interests.

 

A hundred years ago, lard was big money. The lard-industrial complex was based out of slaughterhouses in Chicago.

* For more on the business of food, see "Rethinking The Oreo For Chinese Consumers." *

"These people when they packed their pork, they had a lot of lard left over," says William Shurtleff, an expert on the history of oils and fats who works at the SoyInfo center. The lard sold well, he says. Nobody thought twice about buying it.

That changed Upton Sinclair wrote The Jungle.

So we have our first suspect in the killing of lard: Upton Sinclair.

The Jungle was technically fiction, but it's hard to forget the section on the men who cooked the lard.

They worked in tank rooms full of steam, and in some of which there were open vats near the level of the floor.... their peculiar trouble was that they fell into the vats; and when they were fished out, there was never enough of them left to be worth exhibiting,—sometimes they would be overlooked for days, till all but the bones of them had gone out to the world as Durham's Pure Leaf Lard!

"He definitely wanted people to be grossed out by the entire meat-packing industry," Shurtleff says.

Sinclair had the motive and the opportunity to kill lard, but he couldn't do it alone. People didn't have much of a choice of cooking fats that were stable and you could keep on a shelf. Lard would survive until there was alternative for frying or baking.

For that, we have to turn our investigation to two other suspects: a candle-maker and a soap-maker named William Procter and James Gamble.

A hundred years ago, the company they founded had a problem. Procter & Gamble owned a bunch of cottonseed oil factories that produced oil for use in soap and candles. But with the invention of the light bulb, the candle business wasn't looking so hot. What to do with all that extra oil?

The company's problems were solved by a mysterious visitor. Eyes on Tomorrow, a history of the company, tells this story.

In 1907, a German chemist, E.C. Kayser, showed up at Procter & Gamble headquarters in Cincinnati with a marvelous invention. It was a ball of fat. It looked like lard. It cooked like lard. But there was no pig involved. It was hydrogenated cottonseed oil.

"You can draw a clear line between the invention of hydrogenation and Crisco," Shurtleff says.

Crisco (vegetable shortening) was designed in a lab for one purpose: to replace lard.

People were already queasy about the meat industry after Upton Sinclair's novel, but Procter & Gamble had some work to do. Unlike lard, Crisco was made in a lab by scientists, not necessarily an appetizing idea back then.

Procter & Gamble turned all that to its advantage. It launched an ad campaign that made people think about the horrible stories of adulterated lard. The ads touted how pure and wholesome Crisco was. The company packaged the product in white and claimed "the stomach welcomes Crisco."

Procter & Gamble perfected the modern art of branding with Crisco. It sent out cookbooks touting how good Crisco made you feel. It shipped samples to hospitals and schools, then bragged about how those institutions trusted Crisco. It rushed onto the newly invented radio waves, sponsoring cooking programs, that featured, what else, Crisco.

Poor lard didn't stand a chance.

In the 1950s, scientists piled on, saying that saturated fats in lard caused heart disease. Restaurants and food manufacturers started to shun lard.

It's only been in the last 20 years that nutritionists have softened their view on saturated fats like butter and lard. They say that some of it in moderation is fine.

And those health claims by Crisco and other makers of partially hydrogenated fats turned out to be exaggerated. The products contained trans-fats that we now think contribute to the clogging of the arteries. (Crisco, by the way, no longer contains trans-fats.)

Now that science has backed off, and new food laws prevent the horrors of The Jungle, is there a chance for lard to return?

At the Lard Exoneration Dinner, Bubby's owner Ron Silver says its time to bring it back. Lard is showing up at high end restaurants, drizzled on potatoes and layered onto coal-fired pizzas. Silver says it's intimidating after 100 years of bad press to put the word back on the menu, but he's embracing it.

"I'm proud of it. I'm waving my lard flag," he says.

Just try the pie crusts, he says. Then decide.

Correction: An earlier version of this post misspelled "Procter." Thanks to the reader who pointed out the error.

Today's big jobs report is full of good news. A few key details:

* The U.S. added 243,000 jobs last month. Manufacturing, the sector that got hit hardest during the recession, added 50,000 jobs. Construction, which also got walloped, added 21,000 jobs.

* The unemployment rate fell to 8.3 percent — the lowest since February, 2009.

* A broader measure of unemployment fell to 15.1 percent. This measure includes those who have given up looking for work over the past year as well as those working part time because they can't find a full-time job.

In absolute terms, the job market is still in bad shape: Before the recession, an unemployment rate of 8.3 percent would have been viewed as a disaster. There are five million fewer U.S. jobs today than there were five years ago.

But the trend over the past few months is very promising. Not only is the economy adding jobs; the rate of job growth is accelerating. The job market is getting better, faster.

Bonus Graphic:

As of the end of last year, unemployment rate for college-educated people in their 30s and 40s was just 3 percent. For people in their early 20s without a high-school degree, the unemployment rate was 20 percent.

Which is to say that the single number usually used to describe the U.S. labor market — the unemployment rate — obscures multitudes.

You can use the chart above to see how the unemployment rate has changed over time for people of all ages and all levels of educational attainment. The chart shows annual averages through 2011. Seasonally-adjusted monthly data aren't available at this level of detail.

American Airlines filed for bankruptcy in November. The company needs $18.5 billion to cover its pension promises to current and former employees, but it has only set aside $8.3 billion.

Taxpayers could wind up on the hook for billions. Here's why.

 

American Airlines is asking the bankruptcy court for permission to drop its pension plans. If the court allows that, the plans will be taken over by the Pension Benefit Guaranty Corp, a government agency that takes over pension plans for failed companies.

The PBGC works like an insurance company. Firms that are backed by the PBGC pay premiums to the agency. Those premiums are supposed to pay for the agency's costs, so taxpayers don't have to pay. But in recent years the premiums haven't been enough — the agency's funding shortfall is currently $26 billion.

President Obama has proposed raising the premiums companies pay to PBGC, to make up the shortfall. But big business groups oppose any increase.

The PBGC, for its part, is pushing back against American's request. Here's a statement from PBGC Director Josh Gotbaum:

"Before American takes such a drastic action as killing the pension plans of 130,000 employees and retirees, it needs to show there is no better alternative. Thus far, they have failed to provide even the most basic information to decide that."

Gotbaum points out that both Northwest and Continental kept their pension plans going after bankruptcy. But not every bankrupt airline has done so.

If the PBGC does wind up on the hook for American Airlines pensions, it would be the largest single claim on the agency since it took over United Airlines pensions plans in 2005.

Below is Adam Davidson's latest New York Times Magazine column, "It Is Safe To Resume Ignoring The Prophets Of Doom...Right?" Read all of Davidson's Times Magazine columns here.

I remember the first time I interviewed a relatively unknown economist named Nouriel Roubini. It was 2005, and as we sat in his New York University office, he laid out his scary vision of the future. Roubini is a specialist in the flow of money around the world and the crises that (sometimes) result. But on that day he wanted to talk about the U.S. housing market.

Homeowners, he said, had become too used to financing their lifestyles with money siphoned from overvalued homes. This housing bubble would pop, he warned, and send the world into a vicious recession, possibly even a depression. I remember leaving his office both stunned and confused. Only after calling a few leading economists was I reassured that this Roubini guy was expressing a fringe view that merited little attention. Like a lot of reporters that year, I turned around a tongue-in-cheek story about Dr. Doom and his scary (but probably best ignored) world view. Oops!

 

A few years later, I interviewed Richard Wolff, who is probably America's most prominent Marxist economist (though it's not a hugely competitive field). Wolff also walked me through his view of the next few years. He explained that the puncturing of the housing bubble, then apparent, would lead to a crisis much deeper than anyone understood: it would fracture American confidence in capitalism; the economy would stay stalled for a long time; and there would be global chaos. This time, I didn't even bother calling other economists to check out Wolff's story. The guy was a Marxist! Days later, Lehman Brothers collapsed.

Once the crisis hit, it became popular to scour the past for apocalyptic predictions that had come true. While many gloomy forecasts came from the left — notably Paul Krugman and Dean Baker — there was one particularly prescient voice from the right. As early as 2004, Peter Schiff, a libertarian investor, was arguing that the housing-fueled economic boom was a bubble waiting to burst.

But these successful prognosticators, among others, didn't just take a bow in 2008. Many predicted that the U.S. economy would worsen or, at best, stall. Perhaps grasping for hope, many smart people, including, apparently, President Obama, spent 2009 thinking those doomsday callers had just been lucky. Maybe they were right about the crisis, but they were surely far too pessimistic about the recovery. Oops again!

For nearly a decade, it turns out, the most accurate forecasts have come from the fringe. So it's upsetting to learn that many of those same Cassandras now believe, for different reasons, that we are on the brink of another catastrophe that may be far worse. Wolff, the Marxist, fears that China may be entering a significant slowdown, which, combined with Europe's all-but-inevitable recession, could send the world into an economic tailspin.

Roubini, now one of the world's most visible economic thinkers, has a similar view, though he sees the timing differently, with the worst coming in 2013 or 2014, when China will face a situation like the one the United States experienced in 2008. Its banks, he says, will reveal huge investments in nonsensical bubble projects. The world will question China's solvency, and the subsequent chaos will destroy whatever fragile recovery is under way. Schiff also paints a dire picture, but for essentially the opposite reason, saying America's indebtedness and currency policy will cause another crash.

It's much less lonely being a doomsayer these days. Steve Hanke, an economist at Johns Hopkins, says there's a 50 percent chance of a recession this year. Lakshman Achuthan, of the eerily accurate Economic Cycle Research Institute, predicts a return of double-digit unemployment. They are downright rosy compared to George Soros, who has warned of violent riots throughout the world and a possible total global financial collapse. I really hope these guys are wrong.

After all, they're not infallible. In 2005, Roubini's dark view was fairly vague — something bad was going to happen (either quickly and painfully, or slowly and not so bad) between then and 2025. And one specific aspect of his forecast — that U.S. Treasury-bond interest rates would skyrocket and set off a panic — never actually happened. Schiff and Wolff can't both be right, because their core views pretty much cancel each other out. And anyway, they've all been predicting turmoil for ages.

The economy is so complex that any forecaster must construct a simplified model that is an inexact fit for reality. Some models explain some periods better than others, but no model explains everything correctly. Choosing just one can be like choosing a religion — you ignore the faults in your own belief system and don't pay much attention to the good ideas in someone else's.

The problem is that there's no perfect model. It's clear now that even the mainstream view can be shockingly incompetent. The widely held consensus just before the crisis went something like this: the Fed, through the visionary leadership of Alan Greenspan, had figured out how to get permanent, healthy economic growth without fear of inflation. Globalized trade and finance had spread risk widely. Forget forecasts; we couldn't even nail the present.

The mainstream view now reflects more gloom. The Blue Chip forecast — the average of 50 top economic prognosticators — predicts that the United States and world economies will inevitably recover. But the growth won't necessarily feel like growth — it will be slow, and millions will stay unemployed for many years. The big difference is that in 2006, most were blind to the impending disaster. Now it's all we can see. The most fringe forecaster today might be the relatively unknown economist Ed Yardeni, who says that corporation are about to start spending again and that the economy will start growing at a healthy clip. Let's hope that the fringe is right.

On today's show, we hear how a hobby turns into a lucrative one-man business — and how Apple's App Store is transforming the Internet economy.

The gist is super simple. In fact, it's something that's been going on in the physical world for thousands of years: Giving people a convenient way to buy cheap products.

 

Our guest on the show is Marco Arment, one of the founders of the blogging platform Tumblr. A few years back, Marco launched a little side project called Instapaper.

Instapaper was a Web-based service that solved a small problem Marco had: He would come across long articles on the Web, but wouldn't have time to read them during the day. He wanted a way to save articles to read later on his phone. Instapaper let him do that.

Marco told his friends about Instapaper, it got a few write-ups in the tech press, and pretty soon thousands of people were using it. Marco started running an ad on the Instapaper Web site. The ad generated a few hundred bucks a month.

Then Apple launched its App Store, where developers could sell (and give away) applications for the iPhone and, later, the iPad. Marco started selling an Instapaper app, and his business took off. Marco explains why:

Apple already had everyone's billing information from iTunes ... you could buy things just by typing in your password ... That, for the first time, brought very, very easy payment to the modern software world. That, more than anything, is why there is a business for paid apps... .

By late 2010, sales of the Instapaper app were doing so well that Marco quit his day job. Now he makes a nice living — comfortably into the six figures — just from sales of the app.

...you charge a small amount of money ... and that's it, you're done. You don't need to go seek venture capital money, you don't need to sell out your users' privacy. They're not even your users, they're your customers — for the first time in a decade. It's great.

This super simple-business model — sell a product for a few bucks to ordinary people — allows Marco to run Instapaper as a small business. He's still the only employee. He hasn't taken any outside funding for the company. And he likes it that way.

"My goal has never been to dominate the market," he says. "My goal has always just been to just make a living."

Subscribe to the podcast. Music: Phantogram's "Make A Fist" Find us: Twitter/ Facebook/ Spotify.

In his New York Times Magazine column, Adam Davidson cited David Boaz of the Cato Institute as an economist who believes that easy money from China exacerbated the housing bubble in the U.S. In fact, Boaz places the blame much closer to home. His clarification is below.

Adam Davidson's citation of me as someone who believes "that all that easy money from China helped make the housing bubble much bigger and last longer, which created a far bigger crisis when the bubble finally burst" took me by surprise. It would be fine without that little prepositional phrase "from China." Easy money, yes. Housing bubble, yes. Pain when bubbles burst, absolutely. But is China to blame? I'd be inclined to point the finger closer to home.

This was a crisis caused by regulation, subsidization, and cheap money. Christopher Hitchens had a point when he wrote, "There are many causes of the subprime and derivative horror show that has destroyed our trust in the idea of credit, but one way of defining it would be to say that everybody was promised everything, and almost everybody fell for the populist bait."

 

There was substantial agreement in Washington for years that home ownership was a good thing and that more home ownership would be even better. Thus Congress and regulators encouraged Fannie, Freddie, and mortgage lenders to extend credit to under-qualified borrowers. To generate more mortgage lending to low and moderate income people, the federal government loosened down-payment standards, pressured lenders to increase their percentages of "affordable" loans, and implicitly guaranteed Fannie and Freddie's dramatic expansion.

All that hard work paid off: The share of mortgages classified as non-prime soared, and the quality of those loans declined. Fannie and Freddie's debt was implicitly backed by the U.S. Treasury – despite many warnings — and they were able to expand their debt and engage in risky transactions. As Lawrence Summers wrote, "Little wonder with gains privatized and losses socialized that the enterprises have gambled their way into financial catastrophe."

Federal Reserve credit expansion, especially in 2001 – 2005, helped to make all this lending possible. "Everybody was promised everything" - cheap money, easy lending, and rising home prices. All that money and all those buyers pushed housing prices up sharply. But all good things - at least all good things based on unsustainable policies - must come to an end. When housing prices started to fall, many borrowers ran into trouble. Financial companies threatened to fall like dominos, and an ever-expanding series of bailouts began issuing from the Treasury department.

But what about China? China was eager to buy our debt, both Treasury bonds and Fannie and Freddie's debt. But it was Congress that ran the deficits, and the Fed that kept interest rates artificially low. We don't need to go to Beijing to find the villains in this piece.

So should we get tough on China? Adam Davidson has a point when he says that, "candidates always talk tough. Presidents opt for a gentle, nudging approach. They know that China, alone, gets to decide." I'd put it a little differently. Presidents usually realize that a trade war between the world's two largest economies is a very bad idea. China's currency is probably artificially low. But economists disagree on just how low. And if we don't know what it "ought" to be, how can we know what to do in response?

The real point of economic activity is not to create jobs but to add value, to create wealth and prosperity and a higher standard of living. Judged by that standard, we should probably be thanking China. If China is keeping its currency artificially low, it is hurting people who hold Chinese currency and subsidizing those of us who buy Chinese products. As the economist Mark J. Perry writes, "In the best of all possible worlds for the United States, China would use its labor and capital to manufacture consumer products like clothing, footwear, furniture, electronics, and appliances and send $300 billion worth of these products to U.S. consumers for free every year as a gift or a form of foreign aid to the American people. In addition, the Chinese would produce and send to America another $100 billion worth of raw materials, parts, industrial supplies, inputs, and natural resources at no charge, as a gift to American manufacturers every year."

They don't do that, of course. But if they're selling us products at a discount, American consumers are benefiting.

Our economy could use plenty of reforms – lower, flatter, simpler taxes; a more stable monetary policy or even a move toward free markets in money; reduced regulatory burdens; the de-monopolization of services from education to mail delivery; and less government spending. In all those cases, the problem and the solution are right here in the USA.

In his latest New York Times Magazine column, Adam Davidson argues that the U.S. should take a stronger stance against China's currency. To continue the discussion, we asked two economists on different sides of the debate to weigh in on the following question:

Should the U.S. take a harder stance on China's currency policy?

Steve Hanke of the Cato Institute responds below. To read the response from Joseph Gagnon of the Peterson Institute, click here.

The United States has a long history of waging currency wars in Asia. We all know the sad case of Japan. The U.S. claimed that unfair Japanese trading practices were behind the ballooning U.S. bilateral trade deficit.

To correct the so-called problem, the U.S. demanded that Japan adopt an ever-appreciating yen policy. The Japanese complied and the yen appreciated against the greenback, from 360 in 1971 to 80 in 1995 (and 77, today). But this didn't close the U.S. trade deficit with Japan. Indeed, Japan's contribution to the U.S. trade deficit reached almost 60 percent in 1991. And, if that wasn't enough, the yen's appreciation pushed Japan's economy into a deflationary quagmire.

 

Today, the U.S. is playing the same blame game with China. And why not? After all, China's contribution to the U.S. trade deficit has surged to 45 percent.

Let's hope China ignores U.S. demands for an ever-appreciating yuan. China's compliance would do little more than attract massive hot money flows into the country and destabilize its economy. This would be bad news for the world economy's main engine of growth.

To appreciate just how dangerous currency wars can be, let's lift a page from the U.S. government's old currency war playbook. During his first term, President Franklin D. Roosevelt delivered on his Chinese currency stabilization "plan." China's yuan was pegged to the price of silver, and it was asserted that higher silver prices would benefit the Chinese by increasing their purchasing power. Congress granted the Roosevelt Administration the authority to buy silver in massive quantities. The administration pushed the price of silver up by 128 percent in the period between 1932 and 1935. As the dollar value of silver went up, so did the value of the yuan.

America's "plan" worked like a charm, but it had consequences that Washington had not quite advertised. The rapid appreciation of the yuan threw China into the jaws of the Great Depression. Between 1932 and 1934, its gross domestic product fell by 26 percent and wholesale prices in the capital city, Nanjing, fell by 20 percent. China officially abandoned the silver standard on November 3, 1935. This spelled the beginning of the end for Chiang Kai-shek's Nationalist government.

China's (as well as the rest of the world's) future lies with stability. Stability requires China to adopt a free-market, fixed exchange-rate system – just like the one in Hong Kong. It's time for China to end Washington's currency war. China can do this by a preemptive strike: adopt a fixed yuan-dollar exchange rate and dump capital controls.

In his latest New York Times Magazine column, Adam Davidson argues that the U.S. should take a stronger stance against China's currency. To continue the discussion, we asked two economists on different sides of the debate to weigh in on the following question:

Should the U.S. take a harder stance on China's currency policy?

Joseph Gagnon of the Peterson Institute responds below. To read the response from Steve Hanke of the Cato Institute, click here.

Federal Reserve Chairman Ben Bernanke recently said that Chinese currency manipulation "is blocking what might be a more normal recovery process." In fact, the problem goes beyond China to include many other emerging economies and even a few advanced economies. All together, governments in these economies are spending about $1.5 trillion per year on currency manipulation.

Currency manipulation occurs when governments purchase foreign currency in order to hold up its value relative to their own currency. Manipulation makes a country's exports cheaper and imports more expensive, artificially raising the trade balance. The evidence suggests that currency manipulators jointly have increased their trade balances by about $1 trillion relative to where they would have been in the absence of manipulation. Europe and the United States have suffered the corresponding decline in trade balances.

 

Prior to the recession of 2008-09, governments in Europe and the United States maintained reasonably full employment despite the actions of currency manipulators by running large budget deficits and keeping interest rates low. The housing bubble, fueled in part by low interest rates, also helped to keep employment high. But, after the bubble burst, even interest rates at zero and record-breaking budget deficits have not been enough to maintain full employment. Based on estimates of the International Monetary Fund, the $1 trillion boost to European and US net exports from the ending of currency manipulation would return these economies to nearly full employment.

The best way to discourage currency manipulation is to tax it heavily. The taxes should apply to all purchases of European and US assets, including bank deposits, by governments that engage in currency manipulation. Unlike trade sanctions, such taxation is allowed under international law, and it also does not cause the economic distortions that trade sanctions cause. As I outlined recently with my colleague Gary Hufbauer, anti-money-laundering procedures now in place can prevent currency manipulators from hiding their investments through third parties.

One consequence of a reduction in currency manipulation would be a sharp drop in the values of the dollar and the euro in terms of the currencies of the manipulators. It is this exchange rate adjustment that would boost US and European exports, thereby generating jobs. Interest rates, as always, would be determined by current and expected future monetary policy. A moderate increase in interest rates as we return to full employment would mark a welcome return to normality.