Repeating incentive failures

November 30th, 2009 — Wordman

My Google news homepage tells me that the U.S. to increase pressure on mortgage industry. According to the article:

The Obama administration said Monday it will crack down on mortgage companies that are failing to do enough to help U.S. borrowers at risk of foreclosure, as part of a broad effort to ramp up participation in its mortgage assistance program. The Treasury Department said it will withhold payments from mortgage companies that aren’t doing enough to make the changes permanent.

I mention this just in case it wasn’t clear that the “Obama administration” has forgotten every economics class it ever took from people who know better.

Remember six months ago? The “Obama administration” doesn’t seem to. Remember when it seemed like all the banks were failing and screwed? Remember how that wasn’t actually true? How some banks were doing just fine, because they didn’t make stupid loans? Remember how those banks were given crappy ratings by the government due their fiscal responsibility? Oh… you don’t?

Well, consider Massachusetts bank East Bridgewater Savings. Back in March, when all the banks were going to hell, East Bridgewater Savings was doing fine:

Bad or delinquent loans?




Money set aside in 2008 for anticipated loan losses?


“We’re paranoid about credit quality,” Petrucelli said. The 62-year-old chief executive has run the bank since 1992.

East Bridgewater Savings ended 2008 with $135 million in assets and deposits of $84 million.

The bank even squeaked out a profit of $87,000. And its Tier 1 risk-based capital ratio was 31.6 percent, or more than three times higher than many community banks in Massachusetts.

In other words, rather than do the “predatory lending” and “sub-prime” shenanigans that the government and media would lead us to believe caused all this trouble, this particular bank only made reasonable loans, and avoided the problems entirely. But, for its trouble, the FDIC “slapped East Bridgewater Savings with a rare ‘needs to improve’ rating after evaluating the bank under the Community Reinvestment Act.”

The CRA is a set of laws that have been revised over the past 30 years to “encourage” banks to lend to local, low- and moderate-income borrowers. Because East Bridgewater Savings judged that giving loans for large houses to low-income families was not worth the risk, the FDIC essentially published a statement saying they were a bad bank.

Now, it is unlikely that the banks pushing subprime loans did so to avoid this FDIC ranking; they probably would have done it anyway. But it certainly is not particularly useful that, should you want to manage risk correctly, the government will tell the world you are an idiot for doing so. It is a totally misdirected incentive.

This current push from the Obama administration works in a similar way, offering incentives to force exactly the wrong kind of behavior.

Roosting chickens

October 19th, 2007 — Wordman

Call me cynical, or maybe godless, but I’ve never really bought into the idea that suicide bombers are in it entirely for the 72 virgins, mercy from sins and eternal life in heaven. Though anathema to me, maybe that really does matter to some of them. I suspect that what matters much more, however, is the large quantities of cash that are promised to their families.

The average life expectancy in, say, Pakistan, is 62 years. If you take out, say, 15 years of that average life where working is nearly impossible (either to old or to young), you get an estimated 47 “working years”. Multiply this by the average yearly income ($690) and you get a loose estimate of lifetime earnings for the average person in Pakistan of $32,430. Given that 32.6% of Pakistanis (~54 million) live below the poverty line and 17% (~28 million) live below $1/day, quite a large number of Pakistanis will make significantly less than $32k over their life. To such people, $25k would be a lot of money, much more than they will ever see. Even to those with average incomes, it’s quite a lot of money. (Figure out how much you might make over you life, and decide what you’d be willing to do if someone offered you 75% of that amount at once.)

I don’t know if bombers are really responding to that financial incentive, but it is fairly powerful. I suspect it is at least a factor in their “vocational choice”, and probably an important one. If this is true, it suggests a method of prevention: make it clear that those who take such money don’t live very long.

By “make it clear”, I don’t mean that politicians should issue sternly worded warnings. I’m talking about assassination, with signs pinned to the body saying “profited from suicide bombing” written in English, Punjabi and Arabic in their own blood, and tapes sent to CNN and Aljazeera. Preferably, in large numbers all at once. If there really are secret satellites that can vaporize human targets from space, fire them up. Perfect targets. At the very least, send special ops to steal the money.

This probably wouldn’t stop all the bombing, but I bet it would help. It doesn’t score high on the morality meter, but it’s much more moral than killing civilians at random or with collateral damage. If you have a better plan, I’d love to hear it.


August 22nd, 2006 — Wordman

A co-worker told me about something he saw last weekend that has to be the most concise illustration of how to properly use incentives to change people’s behavior I’ve ever seen. It was a sign in in a retail store saying:

Unattended children will be given an espresso and a free puppy.