Friday, October 23, 2009

If Institutions Create Incentives...

where is the problem? There are a number of articles from various sources that pose an interesting question for your students.

First the question: "If institutions (the rules and regulations of an economic system) create incentives to guide decision-making, what incentives are being given to banks, and how do they align? Are they contradictory or reinforcing?"

Now, take a look at the articles. I will admit to being somewhat selective; but only to the extent that all of these came to my attention over the past few days.

First is this article (free at this writing) in today's edition of The Wall Street Journal. If, for some reason, it becomes subscriber content, search for the title "Fed Hits Banks with Pay Limits". Otherwise, I'm sure you can find other media coverage on the story. Of particular interest to me is the angle that the caps are being instituted to reduce the risky behavior of those targetted. 

Second is this article in City Journal (HT to Mark Perry). It raises a question about the role of legislation in promoting lending to certain borrowers. I wish it did a better job of answering the question. But it still raises some important points.

This brings us to a third article. This is research from the conservative Heritage Foundation. It does an adequate job of pointing out how programs and incentives put in place by administrations both Republican and Democratic, MAY have contributed to the crisis.

Our fourth item for consideration is this story from The Business Insider (HT to Mark Perry, again). It tells the story of a 20-year old with little income buying a home worth $155,000 with 3.5%. She also received an additional loan to help make improvements, boosting the total loan to $183,000. Consequently, she's underwater at the start. While you can make the case that this is anecdotal and anecdotes are not data; others can counter that the plural of anecdote is data.

Finally, we come to this opinion piece by Allan Meltzer. It comes from today's edition of The Wall Street Journal. Meltzer calls for a tighter monetary policy to reduce the risks of future inflation. But the monetary regime he sees currently is one in which banks (those same institutions that are under pay caps for reasons described in the first article) are borrowing at a zero interest rate and lending back to the Treasury.

As someone who is interested in the role the rules and regulations have in our choices, I find the whole thing very curious. I'd be interested in your thoughts and those of your students, as well.

Have a nice weekend.

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