econlife - How a Sock Puppet Created a Bubble by Elaine Schwartz

Several years ago we asked why markets and bubbles always seem to find each other. Then we looked at tulip bulbs, Beanie Babies, and bowling. Today let’s add the Pets.com sock puppet and a 1920s Florida housing boom.

Where are we going? To what they all have in common.

The Pets.com Bubble

Let’s start with a sock puppet who was the Pets.com “spokesdog.”

In 1998, an online pet store was a new idea. But they got millions in venture capital funding (even from Amazon) and called themselves Pets.com. With their cute and clever sock puppet, Super Bowl ads, and a Macy’s Thanksgiving Day Parade float, they created buzz and spent a lot of money. Its former CEO explains that it was tough to do internet business then. Imagine no plug and play and no cloud computing. You needed to do it all yourself. Then, to attract customers and offset high shipping costs, they had to discount below cost.

The firm went public in February 2000. By November it was in “doggy heaven.” Through their initial public offering (selling stock to you and me) and venture capital they raised hundreds of millions of dollars. At the end the stock was selling for 22 cents, down from its IPO high of $11.

At the same time, other e-tailers were experiencing a similar demise. Few of us remember MotherNature.com, Garden.com, Drkoop.com. You can see the downdraft after the March 3, 2000 high. Dominated by sick tech, the Nasdaq composite more than halved:

A Florida Bubble

Like selling pet supplies online, a Florida vacation was once a new idea. Before 1920, Miami Beach, Coral Gables and Tampa—indeed, most of the Florida we know today—did not even exist. But then the auto created unheard of mobility and a swarm of developers transformed one huge expanse of swampland into a vacation wonderland … or what was supposed to become one.

In 1925, two thousand Miami real estate agents were reputedly selling acreage. Entire communities were planned and sold long before the first bulldozers appeared. Across the state people were moving tons of sand, paving streets, and building houses and hotels. Without even counting vacationers, Miami’s population jumped from 30,000 in 1920 to 75,000 five years later.

The rise and fall took close to five years.

The Florida boom collapsed in 1926. At first people began to default on payments for land on which they had left a binder. It was said that one gentleman who had sold some property for $12 an acre experienced regret because the land was resold repeatedly, at first for $17, then $30, and finally $60 an acre. The gentleman had cause for further regret. Because no one in the sequence of transactions had paid what was due, once Florida’s economic decline began, the property moved backward from hand to hand. The story ends with him repossessing his land.

Compounding the economic contraction in Florida were the other calamities that followed. Two hurricanes struck. A September 18, 1926, storm targeted Miami. It left hundreds dead and roofs, autos, yachts, and other assorted debris strewn haphazardly in its wake. The next step was for the banks to fail. With everyone needing more money and few having it, the number of Florida’s bank collapses steadily climbed. From 31 in 1928 to 57 in 1929, the number was destined to rise even further. The final blow was struck when the Mediterranean fruit fly destroyed the 1929 citrus crop. Because of the nationwide decline, there was no one to pick up the pieces in Florida.

Our Bottom Line: Speculative Manias

Like Pets.com and Florida real estate, all bubbles start with something new that captivates the market. As euphoria builds, so too do demand driven price increases. Then, with speculative purchases escalating, prices move even higher. But always, the euphoria switches to panic, sellers multiply, and the market crashes. On the way up, participants like to say “This time it’s different.” They have relatively easy access to money. They enjoy irrational exuberance and believe puffed up growth stories. Inject all of that with a dose of moral hazard that obscures your risk and you get your bubble.

My sources and more: This WSJ quiz and this week’s stock market plunge started me thinking about market manias. WSJ was also ideal for the Pets.com story. As for Florida, I’ve copied an excerpt from my Econ 101 1/2.

Several sentences from this post’s Bottom Line were in a previous econlife.

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

Genius Hour by Mike Siekkinen

My team did a Genius Hour program earlier this school year and it was both fun and educational for the students.

Genius Hour is an approach to learning built around student curiosity, self-directed learning, and passion-based work. In traditional learning, teachers map out academic standards, and plan units and lessons based around those standards. In Genius Hour, students are in control, choosing what they study, how they study it, and what they do, produce, or create as a result.

As a learning model, it promotes inquiry, research, creativity, and self-directed learning. Students spend time working on projects they’re interested in and passionate about. The study and work is motivated intrinsically, not extrinsically. Genius Hour provides students freedom to design their own learning during a set period of time during school. It allows students to explore their own curiosity. A distinction compared to more open, self-directed learning and user-generated learning experiences is that within a “Genius Hour” framework, this student-centered approach is only used a portion of the schedule, providing students a choice in what they learn and how they learn it during a set period of time within a school day.

We used an hour a day for a three week period as our time frame. Without teachers “packaging” content that frames and scaffold content, students are left to design their own learning experiences. Through surveying possibility, navigation of unfiltered content, gathering information, and narrowed research, students make sense of ideas that are important to them. This navigation and survey of possibility then leads to more narrow inquiry and research.

Whether students “make,” publish, design, act, or do, “creating” is core to Genius Hour. There is always a visible product or function of the learning as an end product. Students connect with teachers to plan, peers to produce, and experts and community members to establish a sense of purpose for their work. The only guidelines we gave students were the components of the project (a prototype, a written explanation and a presentation they needed to do presenting their ideas). The assignment was they had to make something that will help another person. The products students produced were excellent. The ideas they had and what they came up with were really outstanding. Along with this, students enjoyed the assignment making learning fun!

Dr. Mike Siekkinen, a retired U.S. Navy submariner, became a teacher as a second career. He teaches history at St Marys Middle School as well as Adult and Career Education at Valdosta State in Georgia.

econlife - The Six Facts That We Need To Know About the Federal Reserve by Elaine Schwartz

Our story begins in lower Manhattan during October 1907.

Anxious depositors could be seen camping overnight as they waited for the banks to open. Stuck for hours, they got food from friends and numbers from the police to establish their place in line. Meanwhile bank tellers were told to count out the money very, very slowly.

A failed attempt to corner the shares of United Copper had started the problems. When the news spread, depositors rushed to withdraw their money from the Knickerbocker Trust because it had provided funding for the disastrous maneuver. Fearing the bank’s insolvency, they hastened it by trying to withdraw more than the bank could give them. Soon, the fear moved beyond Knickerbocker to more banks and to less industrial production.

A good solution did not exist. The Knickerbocker and other ailing financial institutions had no way to get a cash infusion from the banks that were healthy because there was no central authority that connected them. There was only J.P. Morgan. As a banking superpower, he gathered the resources that ended the panic.

The next part of our story takes place three years later.

At an elite and inaccessible club in Georgia, six leading financiers and bankers secretly met during November 1910. They were even told to arrive separately at a private train in NJ that took them to more than a week of non-stop work.

The club where they met:

Knowing panics could be controlled by a nationwide banking system, the Jekyll Island group sought to create one. Their goal was an elastic currency and a system of interest rates that could respond to financial crises. The result was a proposal that was passed by the Congress and signed by President Wilson during December 1913. It became the Federal Reserve System.

Six Facts About the Federal Reserve

1. The Federal Reserve is a central bank.

Its main job is to regulate the U.S. supply of money and credit. As an independent agency within the federal government, the Fed is protected from political influence. So yes, the President with the “advice and consent” of the Senate appoints the Chair of the Federal Reserve for a four-year term. Afterwards though, that Chair (with the other Fed officials) independently makes monetary policy decisions.

2. The Fed’s structure extends around the United States.

Although its home is in Washington D.C., the Fed is composed of 12 regional banks. Each one keeps an eye on its own location. In addition, the NY Fed plays a special role as the place that implements FOMC (Federal Open Market Committee) decisions. It’s the job of the FOMC to oversee the securities that the Fed buys and sells.

The Fed’s structure:

3. When it buys and sells securities, the Fed targets the interest rates that influence economic activity.

I tell my class “buy/boost” and “sell/sink.” By buying securities like Treasury bills from banks, businesses, and governments, the Fed tries to increase the money supply and lower interest rates. Oversimplifying, we can just say those purchases place money in the sellers’ bank accounts. Then the banks have more money and rates can drop. When the Fed sells securities to the private sector and governments, then the Fed gets the money and the banks have less.

4. Fed Policy has three basic goals.

The Federal Reserve is supposed to maintain low inflation, low unemployment, and healthy economic growth. If the Fed is concerned about unemployment and slow growth then it lowers interest rates. To end the Great Recession, the Fed resorted to Quantitative Easing through which it flooded the banks with money from purchased securities. However, when inflation is a threat and the price level could rise too much (2% or so has been a target), then the Fed needs its sell/sink policy tools. You can see that the two policy tools are contradictory. The former propels the economy while the latter constrains it.

5. Recent interest rate policy increases have been controversial.

A former head of the Fed said, “The Federal Reserve… is in the position of the chaperone who has ordered the punch bowl removed just when the party was really warming up.” Because this Fed role involves precautionary action that prevents excessive inflation, politicians, consumers, and businesses are rarely happy. They don’t like higher rates that could slow economic exuberance.

When rates started skyrocketing in 1980, they were supposed to attack 13.5% inflation. You can see below how the rhythm of rates parallels the onset and disappearance of recessions:

6. The Fed’s monetary policy matters.

The supply of money and credit and the nation’s production of goods and services relate to each other. It’s like Goldilocks. The country needs the right amount of money and credit for whatever it produces. When there is too much money and credit, we have inflation. Too little, and we wind up with a recession. Just right, and the economy functions smoothly.

Our Bottom Line: Government Economic Policy

Monetary policy is just one half of the picture. We also have the taxes, spending, and borrowing that the President and the Congress control.  Like monetary policy, taxes and spending can also affect inflation and employment.

My sources and more:  BusinessInsider had a good explanation that goes beyond the Fed basics I’ve presented. In addition, I recommend going to the Federal Reserve for some history and the St. Louis Fed for more about the punch bowl (our featured image).

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - How an Art Heist Is like the Government Shutdown by Elaine Schwartz

An art thief, the U.S. President, and Democratic party leaders could all share the same dilemma.

Let’s take a look.

The Art Heist

On May 20, 2010, a thief called Spiderman stole five paintings from a French museum. After removing a window and avoiding the alarms, he left with works done by Léger, Matisse, Modigliani, Braque, and Picasso. Their value? $70 million or so.

The stolen Léger was “Still Life With Candlestick”:

The thief’s voicemail even said, “If you want to buy paintings or works of art, or exceptional jewelry, do not hesitate to contact me. Among the many paintings, there are five that are extremely expensive.” So yes, months later the police arrested the man who did the heist and the two men who were trying to sell the paintings for him. While one confessed and the others did not, all were convicted. Now serving sentences from 6 to 8 years, they won’t say where to find the stolen loot.

And this is where economic theory enters the picture.

If they all know where the paintings are hidden, it’s to their advantage to act together when they leave prison. However, one cannot be sure what the others will do. If one of the three acts in his own interest first then the others will suffer. But if they wait, they could all benefit. Assuming they cannot coordinate a strategy in jail, each has to decide which course of action is optimal. Each needs to understand game theory.

The Shutdown

December 22, 2018 was the first day that the U.S. government partially shut down. For it to open, politicians need to negotiate an agreement on issues that relate to border security and immigration. Like the art felons, they are figuring out a balance between cooperation and competition.

The length of shutdown negotiations:

Also like the felons, their individual goals differ. Consequently, each has to decide how much to sacrifice for a mutually sought outcome.

Our Bottom Line: Game Theory

Sometimes you have to know what your opponent will do in order to decide how to act. The problem though is that it’s all a prediction. You have to figure out your response before you know what to respond to. What you do can be explained by game theory.

Prison

A classic example of game theory is called the prisoner’s dilemma. When two partners in crime are arrested, one knows that if he confesses and his partner does not, then he will go free. But if both keep quiet, they both go to jail for one year. Because they are questioned separately, no one knows what the other has said. But the results depend on how much the other person admitted.

The dilemma: Keep quiet or confess?

Called the economics of cooperation (or non-cooperation), game theory explains the prisoners’ alternatives. When big businesses compete, game theory provides insight about their pricing strategy. In a soccer game, we can use game theory to understand shootouts.

And, when President Trump, Speaker Pelosi, and Minority Leader Schumer negotiate the end of the shutdown, each one’s strategy relates to game theory.

My sources and more: In an excellent piece, The New Yorker told about the Paris art heist. Meanwhile, in 2014, Quartz focused on soccer shootout game theory and The Economist had a good discussion of how game theory works. But if you just read one article, do look at this John Nash obituary.

Please note that sections of today’s Bottom Line were in a previous econlife post.

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - Top Ten Ways to Sound Like an Economist by Elaine Schwartz

If one of your New Year’s resolutions is to sound like an economist, please remember the following…and do send in your own suggestions.

Top Ten New Year’s Additions:

• When you are at an AMC theater deciding among the 100+ selections in the Coke machine, you might worry about choice fatigue
• Explaining the financial hardship experienced by a furloughed government worker during the shutdown, you can refer to negative externalities.
• When asked why we have done nothing about Medicare’s trust fund running out in 2026, you can reply that Congress’s opportunity cost is too high.
• Knowing that the Dow dropped 6% during the second year (2018) of the Trump presidency–its worst decline in a decade– you can ask if it was correlation or causation.

The Original Top Ten List

1. Whatever the question, always answer, “There’s no such thing as a free lunch.”
2. Defend a decision by declaring, “It was worth the opportunity cost.”
3. Whether you like or dislike government, point to, “The power of the market.”
4. Explain a love of low prices with, “It’s the law of demand.”
5. Explain high prices with, “It’s the law of supply.”
6. Preface a position with, “on the one hand…but on the other…”
7. Justify your Thai T-shirt, Japanese camera, and Sumatran coffee beans by repeating, “comparative advantage, comparative advantage…”
8. When asked, “How are we doing?” just cite the GDP, CPI, and S&P.
9. Know that the size of the pie has nothing to do with food.
10.  And finally, the most dependable way to “think economically” is to remember that, no matter what the topic, “It’s about the economy…”

Here is one I got from Kevin Denny (Thank you!):

• To reject any inconvenient fact, “The econometric evidence is not clear on this.”

 Enjoy and Happy New Year!

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.