Microfinance

An example of a microloan (a little does quite a lot): A young man named Abhijit lives in Kolkata. He has saved up Rs 400 to buy small area rugs to sell on the streets. The wholesaler's warehouse is one hour by bus from the place this young man has found to sell these rugs. The cost of the trip one way is Rs10. He figures, correctly as it turns out, that he can sell an average of 10 such rugs an hour. He sells them from about 12 noon until about 8 in the evening. Each day but Sunday Abhijit leaves home at 10:00, reaches the supplier's warehouse at about 11:00. He then quickly buys his day's supply of rugs and hurries back to start selling by noon. The rugs cost him Rs5 apiece and he is able to sell his rugs for an average of Rs5.5. At the end of the day he has sold 80 rugs at Rs5.5 a rug and so has earned Rs440 total or about$55 U.S. This leaves him with Rs400 to buy a fresh supply of rugs tomorrow and Rs20 to cover his bus fare round trip. In the end , he makes about Rs20 a day or about the equivalent of $2.50 U.S. The week's net income, if all goes well, is therefore Rs20*6 or RS120 (about $15). If Abhijit could stock up and buy three days' worth of inventory at one go he could manage to save 8 hours of the time lost to travel each week. This would require however a total of Rs1400 that he does not have. Although the equivalent of about $175 U.S. with an uncertain weekly income of $15 (Rs120) this is far beyond Abhijit's resources. The supplier, better off than Abhijit, is far from wealthy enough to risk three days worth of inventory and hesitates extending this sort of trade credit to Abhijit out of fear that others will ask for the same. Abhijit is trapped in this situation, limited by his own meagre financial resources . He learns of a MFI (microfinance institution) and is contacted by one of their representatives. He discusses with this representative his idea of buying a three day supply of rugs. He thinks that he has the capacity to twice a week carry the 280 rugs on the bus that 3 day's inventory represents and to safely store the ones he hasn't sold . The total cost of Rs1400 is lent to him at a rate of 100% interest. No longer having to travel each day to pick up his inventory, over the course of 30 days or so (from Monday July 30th to Saturday September 1st) he saves a tremendous amount of time and money; 40 hours of travel time or Rs400. The average saving of Rs80 a week means Rs4160 saved over the course of the entire year. The total payments made on this one year loan, even at 100%, are "only" Rs2268. Abhijit's annual net income as a result is Rs1892 higher than the RS6240 it otherwise would have been (i.e. 30% higher). (For a similar real world versions of this story click here and here.) The beauty of microfinance is found in examples like this one. Several questions naturally arise: (1) Although the present example illustrates that even at exceedingly high rates of interest microfinance loans are profitable, why do the rates charged on micro loans tend to be so high? (2) where do the funds to finance such loans come from? (3) would financial resources channelled into microloans be better used improving woefully substandard infrastructure and funding education? High rates of interest. Microloans typically are short term and the track record of the majority of borrowers is very good. Therefore microloans carry little interest rate risk or default risk. The principle reason rates are so high is that the adminstrative expenses are enormous. These expenses include first the costs of identifying and assessing the creditworthiness of clients. With little or no collateral and little or no established credit history this is a very time consuming -and therefore expensive- part of microfinance. This is followed by the costs of processing a loan. These costs will tend to be the same regardless of the size of the loan. That is to say, whether it is a $100 loan or a $1 million loan the amount paperwork involved will be very much the same. After these two already substantial expenses comes the process of first turning over the funds being lent to the borrower and then collecting payment. One study estimated that in India each personal contact with a borrower, such as meeting them to collect payment, costs $0.25. This may not seem like much but consider $1 million lent $100 at a time. This means loans to 10,000 borrowers who must be contacted monthly to collect payment. Over the year, at $0.25 a visit, this adds up to $30,000. (For more details on the pricing in microloans click here, here , or here.) The last component of adminstrative expenses may be considerable even if ultimately the default rate is low. This cost is the added cost of following up with those borrowers who are late making payments on their loans. Disappointing sales, illness, or interuption of supply all may hamper a particular borrower's ability to pay on time in a give month. The MFI's representative may have to return a few more times to collect payment and to offer advice. Anyone with firsthand experience of the difficulties that often are encountered when trying to contact someone or trying to travel in an economically poorer country will understand another very concrete reason why payments may be delayed. If the borrower is not facing difficulty but simply isn't there when the first visit is made means that follow-up visits will be necessary. Say that these five elements represents $3 each in administrative expenses on a $100 loan. The borrower must then pay $15 just to cover these costs. Now add on to this a nominal rate of 10% for the funds raised and a 1% premium to cover the risk of default and the rate to be charged is already at 26%. How successful a microloan is depends on a variety of factors including how small the amount to be borrowed is. A corrolary of the idea that borrowers are not especially senstive to the interest rate charged on microloans is that beyond the initial loans made it is hard to identify further investments unless the interest rates charged are significantly lower. For example, while it might be more efficient for Abhijit to buy and cary home the entire week's inventory even at 26% this would not be feasible. He would sell Rs440 worth of rugs the first day followed by Rs3,300 over the following five days. This would require a loan of of Rs3400 (the cost of goods sold= 8 hours day 1 times sales of ten an hour times the cost per rug of Rs5 plus 10 hours days 2 to 6 times sales of ten rugs an hour times costs per rug of Rs5) . With cost savings of only Rs100 a month and a loan of Rs3400 at 26% annual interest, Abhijit faces monthly payments of Rs324.80 (or about Rs135 more in added debt payments each month). The added costs per month of servicing his debt clearly would wipe out the benefits of this added debt (the reduction in travel expenses). In short, while initially the gross marginal returns on small investments might be high enough that the loans to fund them might be profitable for both borrowers and lenders alike, the marginal returns fall off quite quickly for many borrowers. Abhijit's investment demand schedule, while initially quite interest inelastic, very quickly becomes interest elastic. However it is safe to assume that there are many more potential borrowers like Abhijit who if offered credit, even at fairly high rates of interest, will be more than ready to borrow. Therefore the sharp kink in individual investment demand curves emerges much more slowly in the aggregate. To the degree that MFIs have an increasingly easier time identifying and orginating microcredit and the pool of potential borrowers remains large the overall costs of providing microcredit should be kept in check. In the case of a nonrenewable resource overall costs are made up of exploration costs and extraction costs. The former with experience have declined over time while the latter, extraction costs, as more and more coal or oil is pulled out of the ground, have risen over time. What has kept costs of coal and oil from rising has been the fact that when certain areas have been completed mined or pumped dry it has been relatively easy to open up new areas. With MFIs even if the additional benefits to an individual borrower are quickly reached there are many more borrowers to move on to who have as yet not been touched. Alternatives to microloans: This leads to the question of priorities and the relative benefits of microloans for poor merchants such as Abhijit compared to the same financial resources being used elsewhere. For example, the funds could have been channeled into Kolkata's transportation system, into its utilities or into its public schools. Improvements in Kolkata's transportation infrasctructure might cut the travel time from Abhijit's market to his supplier and back again by half an hour and reduced fares by Rs2 for each trip. This would result in a cost savings each week of Rs48 or over the five weeks from July 30th to September 1st a reduction in Rs240. All this without Abhijit's degree of combined leverage (the sensitivity of his net profits to changes in sales) worsening as it would with a fixed commitment to pay Rs189 a month servicing debt. Of course, the two in combination or, better still, microfinance loans and infrastructural investment combined with more resources invested in education would be even more desirable. The latter would mean that while Abhijit toils away in the market each day his children are acquiring the skills that would increase their options once they enter the labor force. Whatever the details, the point is that the small investments made possible through microloans should not be considered a substitute for other, more major investments. Microloans should be considered as highly complementary to these other investments. And if financial resources are scarce, there is a very real question of whether the highest returns, long-term, come from micro loans. Financial resources are far from scarce: Potential funding is available to do much more than currently is being done. Unitus estimates that 80% of the world's most desperately poor families living on $2 or less a day (2.4 billion souls and, assuming an average family size of six people, 400 milion families) have limited or no access to microcredit. Without access to microcredit, the vast majority of the world's poor families are therefore forced to rely on their own resources, if they have any to speak of, or what can be borrowed from moneylenders. Unitus and other organizations promote the idea that private capital markets need to be tapped to rapidly expand the funds available. This is one avenue of funding certainly worth pursuing. However, one could also note that if the U.S. federal government were to divert only .5% of our nation's total earnings to funding MFIs this would provide about $55 billion or about $137.5 per family in this cohort of 400 million that Unitus estimates do not have access to microcredit at present These families could then make the sorts of relatively small and simple changes that Abhijit did in our earlier example. (for Unitus's webpage click here .) (see also the Basic Facts About Microfinance.) Could such a sacrifice be made? When the economic standard of living was considerably lower than it is now the U.S. lent the U.K. a similar amount (when adjusted for inflation) for an entire 60 year period at 2% interest. (click here and here). Not that I advocate this particular method of raising the $55 billion but it could be raised by increasing federal corporate income taxes by 16% over what they were last year or increasing federal individual income taxes by a little over 5%. Although it is politically naive to consider either one as likely, my point is that the sacrifice is not so great that it couldn't be done. And indeed, through growth in the U.S. economy federal tax revenues grew by $353 billion between 2003 and 2006 . Simply skimming off 16% or so of the increase in payments (or well under the increase in revenues for just one of these years) would accomplish the goal of making over $100 a year available to families throughout the world currently without access to microcredit. (click here for more details on recent federal income tax revenue collection.) Private capital markets are there as an alternative to bridge the gap between what we are truly capable of doing and what we are willing to do. However, even if half of the 57 million households who in 2006 earned above median family income were to invest $1,500 a year in MFIs the total amount of funding available for microloans would fall far short of the $55 billion needed to provide the $100 + per family that currently does not have access to microcredit. If one quarter of wealthier American households were to invest $800 a year then each of these 14.25 million households could provide some funding to 82.94 million more families than are being served right now The binding constraints are economic as opposed to financial resources:Even this more modest goal may not be too practical in that there are 10,000 MFIs with an average of $700,000 per MFI in loans outstanding. For the average MFI to take in and effectively lend $1.14 million more over and above the current $700,000 in loans they are originating now may be asking for far too much in the short run. Even Kiva, a remarkable organization that has helped to originate $9-10 million in loans with what appears to be a fulltime staff of 20 is -because of the way that it is structured- uniquely positioned to directly absorb such funds. But it would face difficulties. For example, if one-tenth of the money we are thinking about here were to go to Kiva and even if Kiva lent unusually large sums of money to individual borrowers of $1,000 each this would still mean originating over 150 loans a day each day per staff member! In short, the current size of the pipe appears to be too small to absorb significant increases in a short amount of time. Much more would need to be done if we were to accomplish a net decrease of even about 25% in the number of families currently without access to microcredit. In the preceding, I have not considered what governments, business, and individuals in Japan, the newly industrialized countries, the European Union, Canada, New Zealand, and Australia could contribute which would make some of this seem less daunting. At the same time, I have assumed quite unrealistically that the number of families living in dire economic poverty does not grow. Just because the job is enormous and microcredit is not "THE" answer to ending much poverty as quickly as we can (of course, unfortunately nothing is "THE" answer to this) I hasten to note that not only have MFIs done a great deal to help millions of economically poorer families the potential is great to still more, especially if we are aware of the obstacles in the way. Other references: Blondeau, Nicholas "Microfinance An Instrument of Sustainable Development"? "Microfinance Interest Rates as a Function of Transaction Costs" Guinnane, Timothy "A Failed Institutional Transplant: Raiffeisens' Credit Cooperative in Ireland, 1894-1914" Hollis, Aidin "Microcredit in Prefamine Ireland" World Development, forthcoming Aidin Hollis and Arthur Sweetman, "Microfinance and Famine: The Irish Loan Funds during the Great Famine", World Development, forthcoming. Morduch,Jonathan, "The Microfinance Promise", Journal of Economic Literature, 1999, 37, 4, 1569-1614. Wikipedia on microfinance, microcredit and the early history of microcredit in what is now Bangladesh

the insanity of college rankings

The very best book to read on the subject is Paul Boyer's College Rankings Exposed. It should be available right next to copies of U.S. News and World Reports annual College Rankings issue (what those at USNWR refer to as their swimsuit issue.) In a recent AP piece (Colleges Struggle to Quit the Rankings Habit) Brian Kelly, editor of USNWR, is quoted as saying that its annual rankings of colleges and universities simply provide "consumers" -hungry for hard data- with the same sort of rankings offered for cars, refrigerators, and the like. This is very telling. Are the families who enroll their students in college really consumers? There is a great deal of data on marriage and the sort of characteristics that contribute to a man becoming a good marriage partner. Weddings are, like college, a major expense. USNWR could rank cities across the U.S. according to the quality of its me. Part of these rankings could be based on what thsoe performing marriage ceremonies in other cities have heard about men in a particular city. In the case of some cities they might have direct knowledge -current or not-while in others they may have little or no information at all. We could then place a great deal of weight on these scores regardless. Families with these rankings in hand could make a much more informed decision about what city is the best one to go to if you wish to locate a husband. Einstein is quoted as saying that "everything that can be counted does not necessarily count; everything that counts cannot necessarily be counted". And this is at root the point. Just as there is not one universally valid criteria for selecting someone with whom you will share your life with there is not a universally valid criteria for selecting a college or university. While we can all agree on a fairly limited list of factors that make one big screen TV better than another or, similarly, one set of tires better than another how on Earth can it be argued that there is a relatively finite list of factors that determine waht constututes a good school? Consider also that when it comes to rankings that the most elite schools are so because they serve, as they always have, the elite. Socioeconomic status is a powerful deteminant of academic achievement. Highly ranked schools are largely populated by students from "highly ranked families"; the well-to-do and the powerful. Wealthy alumni can afford to make large contributions. Large contributions together with tuition revenues mean that such schools are able to recruit and retain faculty at relatively high salaries. It also allows them to ask faculty to carry light enough teaching loads that permits success in both teaching and research. Finally having already completed their primary and secondary education at exceedingly good schools, students come far readier for the rigors of higher education. To have completed one's undergraduate career at a highly ranked college or university is more often than not symptomatic of an exceedingly advantaged background rather than having achieved some thing spectacular through hard work, perseverence or exceptional intellectual gifts. For "lesser" institutions to climb the summit means drawing students from such backgrounds. The likelihood of their being able to attract a critical mass of students from such advantaged backgrounds to materially change their fortunes is small at best. Especially for small liberal arts colleges -modelled after top liberal arts colleges from the east coast- founded over a hundred years ago by immigrant communities throughout the U.S. the chances are small. The alternative is to encourage their faculties to develop a more national profile (and, via slick marketing to make these acheivements known to a wider national audience.) in the hopes of raising the heavily weighted peer review in thge USNWR rankings. The fact is that the top ranked schools, thriving in a very different environment, are unlikely to pay much attention. (Check out this story from NPR's Morning Edition September 15 2006, "Marketing Higher Education Gets Sophisticated" ) And as the following illustrates, deans and presidents of competing institutions are unlikely to be swayed by suchinformation no matter how impressive it might actually be. Say that you have two Deans of two colleges, A and B, who are asked by USNWR to rank one another. A can given B a rank of one (a low ranking), a five (a high ranking) or give B a rank of three. B has the same set of choices as far as A is concerned. The deans of colleges A and B may dismiss out of hand the notion of giving their competitor a rank of one. Both Dean reconginize that truly miraculous things are happening at the other college and so briefly consider giving the other college a ranking of 5. What stops either from doing so is the following. Consider college A. If its Dean gives B the ranking it deserves and B does not reciprocate but instead gives A a ranking of 3 (the rank it received in last year's USNWR) then A will drop relative to B in the rankings. Of course if B gives A a rank of 5 then, relative to B, A's position is unchanged. A family whose student is considering both colleges A and B will note that A and B are both highly ranked if the latter happens and that A has a much lower rank if the former happens. Regardless of what B does then, the worst thing that can happen to A if its Dean gives B a ranking of 3 is that its relative ranking will remain unchanged. However , if A's Dean gives college B the ranking that she feels it truly deserves and B does not return the favor the worst thing that can happen is for college A's relative position to fall 2 points. Now, a student who might have considered college A or B will see a ranking of 3 for A and of 5 for B and choose B. It follows from this that both Deans will choose to award a rank of 3 to the other college. In fact, if you look at peer rankings for liberal arts colleges in last year's USNWR -outside the top fifty schools- peer rankings do indeed cluster around three. The end result is a tremendous amount of effort and time are expended to change a situation that look at the problem strategically is unlikely to change. And the peer ranking is important. It is given a great deal of weight in USNWR's overall ranking. In frustration, colleges respond by putting more resources into encouraging students and faculty to perform specatacular feats as well as trying to tweak other numbers that would also help push the overall rankings higher. The most infamous such strategy has been the practice of sending rejection letters to students who appear to have included a given school as a back-up school. (See "Glass Floor: Colleges Reject Top Applicants,Accepting Only the Students Likely to Enroll" by Daniel Golden, WALL STREET JOURNAL, May 29, 2001.) When students either failed to make the cut at their preferred school but were also turned down by the "lesser" school or worse still, they were accepted at their preferred school but turned down by the "lesser" school it became readily apparent that admissions policy was in part being driven by the desire to lower that college's acceptance rate, and, to a degree, bolster its USNWR rankings. Passing over students with perhaps greater potential but with lower ACT/SAT scores (fn1), putting money into campaigns to boost alumni contributions and failing to accept students probably heading elsewhere anyway all have been done in an effort to boost rankings. Silly as these things are, it is quite impossible for a college to unilaterally opt out. To do so would be suicidal. That is what is so heartening about the agreement reached earlier this summer by the Annapolis group. As with all such agreements the risk of defection is high. However, the only way out of such a bad situation is through such a cooperative agreement. While I am sympathetic to the notion that families and their students need help in making the decision about where they are going to go to school. It is not an easy choice. What Vasaar College's President Catherine Bond Hill suggest as an alternative to USNWR's rankings is an online database where students and families would have access to data and could construct school rankings whose value would be based on weights that they choose (see "A Better Way to Rank Colleges" .) One of the key things one should understand to their maerrow after graduating from any institution of higher learning that is worth its salt is that there is seldom one universally valid answer to important questions. Perhaps that lesson should start with the college selection process itself. fn1: See "Paving a Path for Poor Students' College Dreams" where reporter Wendy Kaufman notes that tuition has continued to rise and financial aid and scholarship money has not even more schools seeeling to boost rankings "...are emphasizing schoalrships based on high grades and test scores, not financial need")

personal savings, consumer debt and subprime mortgages

I have been trying over the last several days to come to grips with the current subprime mortgage "crisis". We Americans are exceedingly fond of beating ourselves up for not saving enough, for carrying excessive amounts of debt, and for taking too many risks. The numbers, as they are reported, seem to confirm these things. Consumer debt is at record levels, our personal savings rate is negative, and there are a number of families who, having bought homes over the last few years, cannot make payments on their mortgages (a , b,c,d). Some very fundamental questions present themselves. Is it really the case that Americans spend too much and save too little? Do we really carry too much debt? Are we too willing to take risks? (Of course there are too many of us and we consumer far too much of the planet's resources than we have any right to but that is another matter. Environmental concerns be damned in what follows and let's focus on the question of savings, debt, and what can be refered to as "financial fragility". ) The personal savings rate. Imagine a young couple who last year earned good salaries and, after paying their taxes, paid all of the interest due on their student loans, credit card debt, and car loans. With the balance they paid rent, bought food, paid for entertainment, bought electronics, and paid for a variety of services. They will have not saved a dime by the reckoning of the BEA (the Bureau of Economic Analysis, the agency that reports the personal savings rate each month.) This despite the fact that they have given up spending on goods and services now to pay the interest they owe on the their financial obligations. Imagine a family that has a home that has gone up in value by quite a lot. Their 18 year old daughter is off to her first year of college. They refinance their mortgage at a lower rate of interest and take cash out of their home. The cash taken out of their home and the money freed up by lower mortgage payments are used to help fund their daughter's first year in college and to make improvements in their home. Despite the fact that they are spending money on their daughter's education and are protecting the investment already made in their home the personal savings rate will decline as a result of what they have done. Imagine someone who bought shares of stock last year for $10,000 and then sells them this year for $40,000. The net capital gain let's say is $20,000 and they spend it. The $10,000 they pay in taxes and the $20,000 they spend will be counted as $30,000 pulled out of past savings and reduce personal savings by $30,000. Despite the fact that what has happened is qualitatively quite different from having put $30,000 in the bank last year and then drawing on those savings this year it will be treated in exactly the same way. All statistics are flawed but the personal savings rate has several. (See also a). When stocks are being sold to realize capital gains and the money from this is spent personal savings decline. When mortgages are being refinanced and cash is taken out to do the sorts of things described in the above example personal savings fall. When families take a sizeable portion of their earnings and use it to pay interest on debt, if it is not interest paid on mortgages, personal savings drop. In short, any economy in which financial values are rising and in which the value of new and existing homes are rising, interest rates are falling and refinancing is common you should expect to see this number fall. While we responsibly pay for the privilege of enjoying goods and services sooner rather than later by making car loan payments and payments on out credit cards, as we put money into our children's education and our homes and as we enjoy the good fortune of having made financial investments that have gone up in value we are told that we are spendthrifts. Taking the personal savings rate at face value, we fell as guilty as someone who takes the family's meagre paycheck and spends it all at the corner bar on drink and betting. The investment ratio: A considerably more meaningful figure can be calculated from statistics reported quarterly by the BEA, the investment ratio. The investment ratio is the ratio of gross private domestic investment to total production. It measures how much of total production in a quarter has been devoted to maintaining or expanding our stock of physical capital. Indirectly, it measures how much of the resources we choose to employ that are used to produce machines, tools, build buildings, spend on computer software and hardware and so on. It is the nature of the beast that this number fluctuates quite a bit. Not surprisingly the lowest it has been was during the Great Depression of the 1930s (1932 the investment ratio was under 2%). Even with the extremely low figures for the 1930s included we have devoted an average of over 11% of our productive efforts each year to investment. Last year in 2006 it was 17%. If we broaden our focus to include not only private investment but include as well investment carried out by state and local governments and the federal government the share of production devoted to maintaining or expanding our stock of physical capital was a little under 19% last year (with an average since January-March of 1988 to the second quarter of this year of 17.52%) . Therefore as a nation, last year we devoted a little under one-fifth of our efforts to providing for our future. This is not at all bad. And this number does not include the share of our produtive energies devoted to educating ourselves, keeping ourselves healthy, and keeping ourselves safe.

Consumer credit:

Isn't it still true that the average American family carries massive amounts of debt? Without question we do. Looking at figures from 1953 to the present the ratio of household liabilities to personal income has grown significantly. But this simply means that we spend now and save later. Our savings take the form of interest payments and payment of principal on the funds we have already borrowed. We save ex post (after the fact) not ex ante (before the fact). This debt is part of the price we pay for enjoying goods and services sooner rather than later and it does carry with it certain risks. Our ability to retire this debt is senstive to the rate of interest charged, the total amount we have borrowed, and what happens to our earnings. If I use my credit card to make major purchases, the more I charge to this card, the higher the interest rate attached to this credit and the lower my income is as I pay back this debt, the larger the share of my earnings I must commit to paying interest and the original amount charged if I am to retire this debt any time soon. The temptation to delay this final day of reckoning and the almost inevitable need to so as unexpected expenses come up means that for many individual families the burden can grow to be considerable. We may in fact long for the mythical days when to buy something one had to build up cash reserves over time. In this case, in the event of a broken windshield and $100 deductible to cover or hundreds of dollars in plumbing bills, one could draw on these balances and simply delay further the major purchase originally planned.

The moral virtues of delayed graitifaction aside, the real advantage of "saving-up" for something then is the flexibility is provides. The temptation of simply putting off payment, the risk of rising rate being charged on balances you still owe and the financially precarious position one faces having amassed such debt if their earnings decline are the real reaons to be concerned about consumer credit. The personal advanatges of controlling spending and using this money to make extra payments on the mortgage, on car loans, and on credit cards are very real. And a shift from the buy now/pay later mentality that easy access to consumer credit makes possible would provide the sort of freedom of manouevre already discussed. However, these actions will weaken the financial position of businesses accustomed to the trade of such familes. As their revenues fall, given costs, profits and cash flow will decline. It is this a very fundamental fallacy to reason from the individual advantages of higher savings that it will be socially advantageous. Reduced spending will free resources that could be used for more investment. However, since saving in the aggregate will not increase -increased personal saving leads to reduced business saving- the rate of interest will not fall. And the degree to which these businesses rely on cash flow to honr their debts, any belt tightening by households will simply push the burden on to the business sector. At any rate, although we obviously save today so that we will have the power to spend sometime in the future we have only the vaguest ideas of what form exactly this spending will takeor when it will take place. As a result, assuming they could somehow raise the funds to employ investible resources, businesses contemplating investment are left to themselves to decide what fraction of the resources available they should employ and in what direction they should employ them. Subprime mortgages: It is interesting to go back to comments made by Greenspan in 2004 regarding what we now refer to as the subprime market. He pointed to advances in computer technology that made it easier to identify good credit risks out of the pool of low income borrowers. In particular he was referring to the automated underwriting systems such as Freddie Mac's Loan Prospector (see a, b, c, d). These systems promised to make it possible to extend credit to many who otherwise might be denied mortgage credit under traditional underwriting. With automatic underwriting systems to screen applicants (and separate the wheat from the chaff high credit risk borrowers from lower risk ones) Freddie Mac claimed in 1996 to have reduced such costs by on average $350 to $600 per loan (a) (For claims made more recently that it is has been reduced by over $900 see b). As a result of such technologies, lenders- anxious to mine a previously untapped vein of borrowers and to tap a market where the rates charged typically were 2% points higher than a prime mortgage for the same amount would be- aggressively begain issuing mortgages to economically poorer families with less of an estiablished credit history in more depressed areas. Banks increasingly originated variable rate mortgages to low income families to purchase modest homes. According to one source, last year in 2006 20% of all mortgages granted were to subprime borrowers. The social benefits of subprime lending are that home ownership rates have risen from 65% of the population to 69% with 12 million new homeowners and approximaltely half from racial minorities (see a and b) Greater competition among banks for the business of higher income families with proven credit histories and buying expensive homes meant that potentially greater returns could be obtained by those moving into the subprime market. The securitization of such mortgages meant that there was money to be made through fees paid to the banks that originated these mortgages and the pooling of such loans into firms specializing in subprime mortgages meant that the risks could be spread out among a large number of investors. Lending to lower income families at variable rates of interest is one thing when jobs are relatively plentiful and market interest rates are low. It is quite another matter when higher interest rates are targetted and weakness in the overall economy (or specific sectors such as construction and the automobile industry) and the housing market caused in part by higher interest rates are coupled with competition from abroad, immigrant labor and computerization reduce employment opportunities and growth in earnings. Also, unlike prime mortgages, subprime mortgages more often than not carry substantial prepayment penaltie. Typically they were set up in such a way that they were more than viable in an economy with low interest rates, easy refinancing, and rising house prices but carried, as we can now see, a considerable amount of downside risk. Were lenders who originated these mortgages, the companies that bought them, and the borrowers blind to these risks? Probably in the case of many borrowers yes. Less financially savvy, eager to buy their own home, and trusting the authority of bankers and mortgage brokers they have workers with, they focused on the initial terms of the mortgage and were reassured that later on they had little to worry about. What is chilling is how little attention is being paid to 1 million plus families who are expected to go into default this year and therefore who will face foreclosure. Equally chilling is that the many families who were misled, given the complexities and layering of these securitized mortgages, have a far more daunting task if they wish to complain of consumer fraud than if this were a more traditional mortgage both issued and held by the bank that set up the mortgage(See Kiff and Mills). In the case of the bankers, mortgage brokers, and investors who provided the demand for subprime mortgages, rather than being blind to these downside risks they have rightly assumed that downside risks would be shared and, if lucky, the lion's share of the burden would be borne by others. Many involved in the formerly lucrative business of originating subprime mortgages are leaving both the families they lent money to and the investors who bought these mortgages from them to twist in the wind. That the focus has been on the latter group and the much more economically and financially significant repercussion of their difficulties is shameful. The real victims are those who have lost their homes and suffered the embarassment of default. Should the Fed and other central banks intervened as they have? Consider what the root causes of this crisis are. Many subprime mortgages start with the first two, three, or five years at low fixed rates and then change over to variable rate loans. The rates charged on variable rate loans may be a high as a full five percent over LIBOR. In addition to income and a borrower's debt service ratio, the feasibility of refinancing will depend on the ratio of the amount of money that must be borrowed to retire the old debt and convert it into a new mortgage relative to the value of the home. With prepayment penalities and stagnant or falling home prices the amount to be borrowed climbs as well as the loan to value ratio rises. First lax regulation by the Fed and other regulatory bodies allowed banks to become increasingly cavalier about credit risk. Second, Fed policy since 2004 has been to tighten credit and push interest rates higher. The fed funds rate stands over 4% points higher than it was in June 2004. Fed monetary restraint, whatever the intention, in turn has contributed to the fall in the U.S. housing market. All of this has made payment of existing mortgages or refinancing difficult if not impossible for subprime borrowers. This crisis, like the foreign/Latin American debt crisis of the 1980s or the Dot.com bust of the late 1990s, is therefore due to no small degree to shifts in Fed policy. Since the current crisis is in part the Fed's doing, it is only right therefore that the Fed do something. I am little concerned that specualtors will come to expect the Fed to bail out markets when they falter significantly and therefore become more reckless still. It seems few involved with Fed policy understand how often in recent years they are simply being forced to offset the harmful effects of the sort of stop/go cycle that constitutes modern monetary policy. If Fed officials fail to discern this pattern why should one expect private investors, with a much narrower and a shorter time horizon, to see one? Since Hyman Minksy, inspired by Irving Fisher and Michal Kalecki, wrote about these issues in the 1960s and 1970s we have understood that the price we pay for a robust growing economy is the sort of excesses that we are seeing now. The Fed has again shown its incredible knack for tapping on the brakes just as we are starting to climb up a very steep hill. What is regrettable is how little attention is given to the low income homeowners being crushed under the wheels of our economic machine as it rolls backwards.

An appreciation of Chapter 17 of Keynes's General Theory

This link is to a draft I have had a bit of time to work on recently. Obviously it is uncertainty that creates the need for liquid stores of value, a place to store one's wealth that can be drawn on whatever the reason. In chapter 17 Keynes argued that what makes a store value liquid is, in part, its low price elasticity of demand (i.e. its "low elasticity of substitution"). What I argue is that (1) this implies a low price elasticity of demand for money which (2) in turn makes the aggregate demand curve relatively price inelastic. In doing this, I draw a more direct link between the argument Keynes presents in chapter 17 of the General Theory (on the essential properties of interest and money) and chapter 19 (on the efficacy of wage cuts) than I believe has been made before. A relatively price inelastic aggregate demand curve implies that the real balance effect WILL BE relatively speaking weak. And, the weaker the real balance effect is, the more difficult it is for wage cuts to return an economy to full employment once pushed below this point by a negative demand shock.

Ester Boserup (Density neutrality and the ahistorical nature of textbook growth theory)

The dominant model (i.e. explanation) of economic growth is the Solow model. To many it represents a powerful and flexible tool. Whatever its merits as a basic framework for analysis, many have sought to introduce modifications necessary to bring Solow closer to reality. My own view is that among the least acceptable assumptions in Solow is that there are neither costs nor benefits to be associated with increased population density. This assumption – as I shall argue implicit in the model and which I will refer to as the assumption of density neutrality – stands in the way of its being of much use in either historical analysis (the model, because of density neutrality, is ahistorical) or in an ecologically informed discussion of modern economic development and growth. In what follows I will compare Solow to the much richer and nuanced model of economic growth developed by Ester Boserup in her 1981 book Population and Technological Change. Boserup argues that density plays a central role in economic growth and development. Its role being a positive or a negative one depending on the relative size of costs and benefits of increased density. A brief proof of the density neutrality of Solow The following presumes a certain degree of familiarity with the Solow model. In Solow, once an economy’s “steady state” level of real per capita income is reached, given its state of technology, the depreciation rate, the investment ratio and the rate of population growth, this level of real per income and the capita-labor ratio implied by the production function will remain in equilibrium at these levels. Of course, continuous population growth within a given area means increasing levels of population density yet, by assumption, this does not impact steady state equilibrium. For this to be true one of the following must also be true: (1) that there are neither costs nor benefits to be associated with increasing population within an area. (2) that, following a neoclassical environmental view, the rate of technological progress is positive and just happens to be sufficient to offset the costs of increased density (3) that the benefits of increased density are just enough to offset its increased costs (4) that as population grows, new territory is opened up The fourth assumption listed has merit if one is thinking of hunter-gatherers or long-fallow agriculturalists. With relatively little capital per worker needed to sustain a tolerable standard of living, with scarce labor, and with leisure highly valued if land is relatively abundant some will strike off into new territory once the costs of increased density, here increased pressure on the natural resource base, begin to be felt. The term noncircumscribed has been applied to describe the tendency of hunter-gatherers and slash and burn agriculturalists to open new territories rather than adapt more labor or capital intension technologies. I will reject the first assumption listed out of hand. There are obviously, given the stock of natural resources, very real costs to increased density as the exploited stock of renewable resources are used at levels that are not sustainable and as the stock of exhaustible resources are depleted. This leaves the second,third, and fourth assumptions still to be considered. Because Boserup has much to say about these matters, especially about the benefits of increased density, I would like to first discuss her model. A brief summary of Boserup: "to starve or not to starve: that is the question". Boserup begins by flatly rejecting the Malthusian notion that growing numbers press against an economy’s natural resources without society fighting against this. In the struggle for survival, we have repeatedly risen to the challenge by inventively squeezing more from the resources we have. Plows replace hoes, seed-drills replace broadcast seeding, land is worked annually or even more often, it is weeded and fertilized, meat dairy and wool are replaced by cotton and fish. In general more capital and labor intensive techniques are employed to recover the ground lost as numbers increase. (See p.181 of Boserup. These themes are also the focus of her book The Conditions of Agricultural Growth and Change.) Whether it is more correct to refer to the changes brought about by the pressure created by increased density as induced changes in technique rather than induced technological change per se, the Malthusian model of population encourages us to gloss over all that preindustrial societies were able to accomplish in the face of the pressure population growth and increased density created. Despite diminishing marginal returns to labor, the Malthusian demon of diminishing marginal returns to land, rising rents, and the positive checks a population of famine and starvation are held at bay. The preceding, of course, describes not the benefits that flow from increased density but rather points to what must be done if higher levels of population density are to be sustainable. What possible benefits could large numbers of people crowded into a given area provide? The benefits of higher density: infrastructural investment, division of labor and urbanization. In an era of high rates of population growth in already densely settled areas (most notably India and China) and urban overcrowding throughout the developing world one tends to think of population density only in terms of costs. It is a challenge to think in terms of benefits. This is why it is important to make a clear distinction between the rate of approach to a certain population size (the rate of population growth) and population density itself. The more densely settled an area already is, the more fragile its environment, and less likely it is that the benefits of increased population and therefore increased density will be felt. Before the twentieth century we see a positive correlation between economic power and population. Although by modern standards, real per capita income was quite low throughout the world, what set what can be thought of as economically more powerful areas were (1) a much sharper division of labor than found elsewhere, (2) a better developed infrastructure and (3) a higher degree of urbanization. Following Boserup I will argue that these hallmarks of economic “power” are more the consequences than the causes of increased density. Social overhead capital: infrastructural investment The importance of infrastructural investment, especially transportation facilities, is emphasized by all economic historians but it is often overlooked that such facilities require a certain density of population. (Boserup, 1981, p.68) Assume that there are a series of projects that could be carried out to significantly increase an economy’s stock of social overhead capital, its infrastructure. Further assume that through the sort of induced technological changes already discussed that real per capita income is constant and that as density and aggregate output grow the costs of completing these projects, both in terms of resources required and in monetary costs are constant as well. In short, assume an economy with a series of infrastructural projects that will cost less and less in per capita terms. As the per person costs go down, the likelihood of individual benefits exceeding costs one is being asked to bear rises. Even if the benefits to the average person are quite small, the more widely construction and maintenance costs are shared the less likely any one individual or group of individuals might be to oppose these projects. This does not mean that there will not be resistance to infrastructural investment. However, the way will be far easier the larger the numbers are because the burden per person becomes lighter as numbers grow. The Division of Labor Smith emphasized the role an economy’s geography plays in determining the extent of the market and therefore the scope for specialization, i.e. a greater division of labor. However, the rise in numbers and aggregate output in a given area that can follow higher population density (assuming that real per capita income does not fall) make further specialization or division of labor possible. In part, this is due to the build-up of infrastructure I have just discussed. As roads and canals are built, harbors made deeper, docks and public squares finished the costs of transport and exchange will be lowered. Assuming that food supply systems have successfully adjusted to increased density, the first force leading to an increased division of labor will be played out on the stage set via increased infrastructural investment. Although aided immensely by the build-up of infrastructure, increased density increases the likelihood of someone being able to find full-time employment if they are to specialize. In his book the Great Divergence Ken Pomeranz notes “…one cannot generally support oneself doing certain tasks that each person needs done only occasionally unless there are many people in one’s market area”. (Pomeranz, p. 27) In other words, it is only as numbers grow that the general homebuilder is able to shift from being a part-time carpenter, mason, painter, plumber, and electrician – jack of all trades, master of none – to being able to focus her talents on one of these areas or focus on coordinating and supervising these activities. Boserup points out that “…the areas in Europe which first developed manufacturing were the ones with the highest population density”. (Boserup, 1981, p. 102) Echoing this, E. A. Wrigley emphasizes that premodern growth was “specialization growth” and that this was – to a point - intimately connected to population density. (see his Continuity, Chance, and Change) Urbanization The third and final benefit of increased density Boserup highlights is increased urbanization. Her point is that in pre-industrial societies, agricultural households are at best capable of giving up only a small fraction of their output to feed, clothe, and shelter an urban population. As a result, all else being equal, growing numbers in the surrounding countryside, higher rural densities, make large urban centers possible. Lack of coastline, an unreliable and a relatively poor system of navigable rivers or a mountainous terrain all raise the costs of transporting goods to market. In such a situation, to support a city of a given size, agricultural density must be even higher in the area immediately outside it. If the surrounding countryside is successful in supporting an urban area long enough, economies of agglomeration for both physical and human capital are at the very least possible. Costs of higher density The costs of higher density – as suggested earlier – are far easier to enumerate than its benefits. Stress on natural resources, congestion and pollution are all easily understood costs of crowding more and more people into a given area. With these costs in mind, the process of premodern economic growth – here defined as growth in aggregate output and population but without significant growth in real per capita income – can be viewed as a rough balance being struck between the costs and benefits of increased density. Despite stagnant and relatively low levels of real per capita income, in the premodern world what were considered prosperous economies (what I earlier referred to as economic powers) all exhibited extensive division of labor, well-developed infrastructure, and relatively high rates of urbanization. More sparsely settled areas are the ones that failed to achieve high level of urbanization, division of labor, and infrastructural development. And in turn, sparse settlement was largely a function of geography, geography having stacked the deck against these areas. Their climate and terrain simply could not produce the food, fiber, fodder, fuel, and building materials needed to sustain larger numbers. What emerges from Boserup is then a much richer explanation of the steady state than that found in Solow. Before the advent of the modern era, numbers and aggregate output grew with painfully little advance in the standard of living. This was because it was difficult in the extreme to do much more than offset the costs of increased density with specialization, infrastructure, and urbanization. In areas where a population’s ‘back was to the wall’, where new lands were not open, where mountains, deserts, oceans and other boundaries stood in the way of movement more and more people had to be supported in a given area and the sort of development we have described here, based on what Arnold Pacey has referred to as survival technology, came into play if possible. Only where the development of such technologies was not possible and population was hemmed in was the Matthusian model relevant. Much of Sub-Saharan Africa stands as an example of this case. “This region had a small and scattered population whose main centers were cut off from one another by vast areas of desert and impenetrable forest, so the diffusion of technology was so slim…the density areas near the West African coast were sparsely inhabited and there were few crops which could be grown in the very humid climate until bananas and Asian yams were introduced after A.D. 500. (Pacey, p. 38)) Europe was far from hemmed in until relatively recently. As Boserup described Europe’s geography: “The European continent is a large open area with good conditions for agriculture nearly everywhere. The temperate, humid climate permits the growth of one crop per year without irrigation; most of the territory consists of large plains or gently sloping hillsides; and surface water for drinking and other purposes is available nearly everywhere. So when population increased, it was easy for the population to disperse without any need to adopt other types of food or change the way of life. (Boserup, 1981, p. 57) Looked at in this way, Europe’s dark ages may at least in part be due to its ability to avoid the sting of higher numbers by replicating itself in new areas rather than taking the higher cost route of adaptation and change. In contrast to Europe, Asia – particularly China but India, Japan, and parts of western and southeastern Asia as well - bumped up against progressively more and more constraints that it could, with added effort, overcome. Areas such as southern China, Japan, and the eastern region of India had relatively high density thanks to wet sub-tropical and tropical climates that permitted the harvesting of rice and cotton for calories and cloth and fish for protein. Squeezing more from the land and water by more labor-intensive techniques was far easier than in the wool-wheat-dairy-linen and leather economies of the west. Although cotton is quite hard on the soil, drains the water table, and requires much moisture when planting and growing but a hot dry climate when maturing, rice can be sown more than once a year, does not deplete the soil, and requires about a third of the land that wheat does to support someone on a 2400 calorie diet. Up to a point at least, the superior capacity of rice and cotton economies to support a dense population meant that more of the benefits outlined above could be enjoyed. The dominant position of Asia historicall was due to its ability to more readily absorb ever increasing numbers. Highly urbanized and technologically-developed economies rich in infrastructure, with a considerable division of labor were the consequence not the cause of higher density. As important as all of this is historically and although it is compatible with Solow it is completely neglected in standard textbook treatments of Solow. In addition to this it diverts attention from the fundamental forces driving modern economic growth and the industrial revolution where, as I argue elsewhere, for the first time the benefits of increased density were more than able to offset the costs of increased density thanks to coal. The difficulty of maintaining balance over time The marginal benefits of increased density could be measured by upward shifts in the production function in y(t) (real output per hour’s worth of labor), k(t) space while marginal costs could be measured by shifts down. I draw the marginal benefits of density curve (MBD) as downward-sloping because the benefits of increased density (increased division of labor, infrastructural investment and economies of agglomeration associated with urbanization, etc.) can be expected to decline as density grows. All else equal, the costs of density will continue to rise so I have drawn the marginal cost of density curve (MCD) as upward sloping. Growth in real per capita income will be maximized when all else equal, D is such that the marginal benefits of density equal the added or marginal costs. Of course density will approach this point and eventually reach D* the optimal level. However, given n, the rate of population growth, D will continue to grow beyond this point. Therefore the speed that density approaches D* and, having crossed it, moves on is significant. The slower the better. The marginal benefits of density take time to emerge. Therefore the faster the approach to D* (the higher n is) the lower overall and the steeper MBD will be. On the other side of D*, once optimal D, has been passed, the likelihood of an economy being able to adapt or innovate rapidly enough falls. The situation far too easily gets out of hand and it becomes quite difficult to bring the costs of density down soon enough, to prevent the marginal costs of density from rising. Geography helps to determine how rapidly the cost of increased density rises. Areas of poor forest reserves, areas with relatively infertile soil, areas with low water tables, and those with limited access to alternate sources of energy for heating, cooking, and for fuel will feel the pressures of higher numbers far more than economies more favorably placed. And it is not too radical a proposition that the less time a system has to adjust to an increasingly difficult situation the more painful adjustment must be. Regions with poor geographic conditions and rapid rates of population growth therefore are doubly cursed. The length of time that benefits if higher density outweighs the costs is extremely short. And the economy continues on, moving away so quickly from D*, that the odds are very small that enough innovation, invention, and adaptation takes place to do much more than gently nudge MCD to the right. Once D* has been passed, a drop in n does no more than give the system breathing room. At least for a short while, a drop in n increases the chances that a gentle nudge to MCD will be sufficient to keep real per capita income stable or slow the rate at which it’s falling. The plight of sub-Saharan Africa and the British industrial revolution: A connection? For every twenty news reports that focus on corruption and other forms of bad governance in various counties in sub-Saharan Africa there may be perhaps one that mentions in passing the region’s very fragile environment: its lack of arable land, poor coastlines, lack of perennial rivers, and tremendously high rates of population growth. In terms of the model I have just presented, the plight of subSaharan Africa arguably has more to do with the impact a fragile environment has on the rate at which the costs of density increase than its does corruption. In terms of the model I have just presented, the plight of sub-Saharan Africa arguably has as much to do with the impact other environmental factors such as a lack of good coastlines, annual rain-fed rivers (dependent on low and highly variable rainfall) have on the total benefits at any level of density and the rate at which these benefits increase. In terms of the model I have just presented, the plight of sub-Saharan Africa arguably has as much to do with the high rate of population growth that push such economies away from D* and therefore push them toward the point where neither new technologies can be created fast enough nor existing areas adapted to local conditions readily enough to do much good. Whatever the steady state level of real per capita income might be, whatever investment ratios or depreciation rates might be, powerful and more fundamental forces are holding this part of the world down. In contrast, England, the home of the industrial revolution, was environmentally in a much more favorable position with more slowly rising costs, much higher and much more gradually falling marginal benefits, and although by historical standards a phenomenal rate of population growth, a far gentler (i.e., more manageable) rate of increase in population than developing countries in the 20th century experienced. Sometimes only implied, at other times very explicitly stated, one encounters the argument that you have to look no further than culture if you wish to understand the differences in economic fortunes both now and in the past. This view resonates well with anyone currently on the top of the economic heap. After all, what it suggests is that economic prosperity is due to a lack of freedom, a lack of respect for the law, a lack of strong work ethic or an inquisitive nature. As a result, the conclusion that the rewards of wealth and freedom are there for any society willing to change its outlook. As proof of this incredibly naive outlook you need look no further than calls for government reform and an opening of trade as an answer to sub-Saharan Africa’s very real and profound problems.

liberal arts and preprofessional studies

Ignorance is bliss Years ago when I began teaching I would hear that one person or another did not properly understand the liberal arts. After 18 years of teaching at a liberal arts institution I am convinced that there are indeed many who have, at best, a rather vague idea of what the term means. What constituted the liberal arts or artes liberales (“works befitting a free man”) at one time was certain: the Trivium (the written work, the spoken word, and logic) and the Quadrivium (arithmetic, geometry, astronomy, and music). What all of these subjects had in common was that they had supposedly no directly practical value. In a world of profound inequality, this meant that only a privileged minority had the luxury (the freedom) to devote significant time to their study. By the late nineteenth century liberal arts in the United States had evolved into the study of Greek, Latin, Philosophy, and Mathematics. Again what set these subjects apart was that they apparently had no practical value. Only those not occupied by the daily concerns of “getting by” had the opportunity to pursue them in depth. Slowly, and in some quarters, reluctantly, the list of topics deemed fit for the liberal arts curriculum expanded. Figures such as Benjamin Rush (see below) took the lead in expanding the liberal arts curriculum here in the U. S. First it was the natural sciences that were allowed in, then modern languages, and then at a relatively late date, the social sciences. Expanding the list of subjects considered worthy of being part of the liberal arts has created a crisis for those who cling to the older, discipline-based definition of the liberal arts. This was because in many areas of the liberal arts curriculum – for example, chemistry, psychology, and economics to name just three- their practical value has increased exponentially over the last 100 to 150 years. A shift in emphasis is discernable. It is increasingly argued that it is not what one studies in a liberal arts curriculum that makes a liberal arts curriculum different but rather it is the approach to learning that differs*. The definition of the liberal arts for many colleges thus revolves more around the quality of learning and teaching that takes place. A good liberal arts education is said to represent thoughtful teaching by skilled professionals to engaged students. The focus on pedagogy: small classes, curricula that more carefully coordinates course offerings to help students see the connections between different courses and different areas of study and carefully guided student research are presented as defining characteristics of a liberal arts education. Liberal arts colleges, with their focus on teaching, more systematically seek to aid students in their journey through Bloom's cognitive domain than research institutions. Research institutions, with their large class sizes and their focus on specialist research (that is often well beyond the grasp of even exceptional undergraduates) cannot hope to compete in this arena.** *At least for the most selective liberal arts colleges there is evidence of a very significant difference in approach. What Braxton and Nordvall found was that the most significant factor that separates highly selective liberal arts colleges from those considered less selective was the focus on the higher level cognitive skills of analysis and synthesis in exams given. As Braxton and Nordvall state in their conclusions, " … questions requiring such higher levels of course understanding as analysis and synthesis are asked more extensively at more selective liberal arts colleges. This difference suggests that the more selective liberal arts colleges are more likely to actively engage students in the process of how to think than do their less selective counterparts" (See p. 550 of Braxton, John M and Robert C Nordvall, "Selective Liberal Arts Colleges: Higher Quality as well as Higher Prestige", The Journal of Higher Education, volume 56, Issue 5 (sept-Oct, 1985), pp. 538-554.) My own college, Augustana, arguably reflects this emphasis on approach. For example, in President Bahls ' "The Role of Liberal Arts in Science Education" he clearly identifies the focus on critical thinking skills and small liberal arts colleges' ability to deliver personalized education as key. (http://www.augustana.edu/president/11-12-2003.php) Herein one finds the dilemma for those who are uncomfortable choosing between a discipline-based definition of the liberal arts and the more open approach-based definition. Their dilemma stems from the fact that many preprofessional studies demand that their students not only know but understand, apply, analyze, evaluate and create ideas, sometimes to an even greater degree than many of the core liberal arts disciplines. Therefore if an approach-based definition is accepted as valid, potentially any area of study – even perhaps nursing and engineering – could be brought into the fold. The very top ranked liberal arts colleges are able to avoid dealing with this issue because of the students they cater to. They are at the very top, they are elite schools because they attract, and have attracted for some time, an economically elite group of students. Academically strong students (strong at least by measures such as SAT/ACT scores) disproportionately come from privileged backgrounds. As McPherson and Shapiro note: "Examination of the data for 1997 makes clear that income is a major determinant of where Americans begin college. Just over half of the students from the richest families enroll at private institutions, while only 19 percent of students from the poorest families do. The likelihood of attending a private four year college also rises with income, although not as sharply as the likelihood of attending a private university. Among highly selective institutions, the relation of attendance to income is even more pronounced, in part because the academic qualifications of high-school graduates are correlated closely with income. Fewer than one in a hundred students from families with incomes below $60,000 begin their undergraduate work at a highly selective four-year college, while students from the richest group are more than six times as likely to do so." (Michael S. McPherson and Morton Owen Schapiro "The Future Economic Challenges for the Liberal Arts Colleges", p. 52) Young men and women from well-connected wealthy backgrounds are truly free to follow their passions, to major in disciplines that are seemingly less practical. They know – or their parents do at least – that connections and the advantages they were born with will help them find personally and financially rewarding jobs after college. Also, college is often rightly seen by these students and their families as a step on the way to good graduate programs. However rather than a liberal arts education being excellent preparation for more advanced study, perhaps it is more the case that being born to privilege is an excellent way of first getting into a top ranked liberal arts college, thriving there, and being able to afford graduate school. While the very top ranked liberal arts colleges in the country can continue to work with a discipline-based definition of the liberal arts, other less highly ranked schools are in a more awkward position. The approach-based definition should allow such schools to offer a range of majors that more closely resemble the offerings of the state universities that many prospective students are also considering. At the same time, because of this, it makes it difficult, much more difficult, to define what makes a small liberal arts college different from a university. That is unless they embrace the notion that it is the approach to higher studies that differs. Turnover and the desire for breadth Business leaders frequently express a sincere wish that their new, college-educated, employees were more broadly and better educated (better informed and better able to write, speak and to think critically). College presidents, especially those at liberal arts colleges, are fond of noting how often people will change jobs over the course of their career. However, Derek Bok, following Ernest Pascarella, points out that this in turn means that employee turnover, especially in entry level positions, is quite high. While the business community’s support of liberal arts education (here taken to mean some combination of a discipline-based and an approach-based definition) is laudable their hiring practices are inconsistent with their expressed wishes. Businesses tend to hire college graduates with at least some of the prerequisite background. Not knowing how many employees hired today will be on the job long enough to recover the very real costs of training, they hire in such a way that they are able to minimize training costs. That a CEO might like to hire someone who not only knows how to read a balance sheet and understands the basics of bond valuation but also speaks some Arabic and knows something of Egyptian history is easily understood. What is far less clear is how much weight she might give to the language expertise and historical background compared to more job-specific skills, especially in the short-run. Despite this, many selective liberal-arts colleges confidently assert that being liberally educated is a clear-cut advantage in the world of work. Professional studies I think are viewed with suspicion for principally two reasons: questions of sincerity and depth. For example, no one can question the sincerity of a student who majors in philosophy. The undergraduate degree offers little in the way of clear-cut employment opportunities. One must therefore study Philosophy out of a love for the subject itself, the pursuit of knowledge for knowledge’s sake. Compare this to a student who is taking pre-med classes and who is focused on doing well on her MCATS. She may indeed love biology and chemistry but her goal may just as easily be the salary and esteem that goes with a medical degree. In any preprofessional program the depth of one’s interest is more easily questioned than in liberal arts majors. In some preprofessional programs there is also the question of the depth of the field itself. Is a student majoring in elementary education really learning any more than the tricks of the trade, how to keep order, and clean up spills as you tell your first graders that 2 + 2 = 4? Is a student in finance learning anything other than how to plug numbers into a formula to provide the rest of us with an answer to how much a bond will be worth if it has a certain “face value,” a certain “coupon rate” when “market yields” are a particular level? What one means by “market yields”, how changes in government policies impact them, and to what degree does the trading in bonds promote general welfare at the cost of greater instability however are all questions that can and would be addressed in any finance course worth its salt. And while issues such as maintaining order are discussed in elementary ed classes so too are theories of childhood development and how to not only teach the addition algorithm so that one can get the answer to questions such as what 22 + 59 equals, but more importantly, devoting sufficient time and effort to make sure that a roomful of second graders or third graders understand, truly understand, why the algorithm works. These things are the focus of such classes if they are properly being taught. Characterizing preprofessional courses as lacking depth, as simply passing on to students the tools of the trade is often either entirely baseless or based on someone else’s experiences often decades old. (For example, impressions about the study of Business Adminstration may be based on the experiences of someone who did their graduate studies in the 1960s and 1970s when the 1954 Ford Foundation's call for adding rigour anda greater focus on case studies and economic analysis/quantitative methods was still fresh in their mentors' minds.) A sense of proportion Fewer than 2 out of 100 students attend traditional four year residential liberal arts college. Of the 540 liberal arts colleges – so classified in 1987 by the Carnegie Foundation – only 212 had more than 40% of their graduates concentrating in a “liberal discipline”. Outside traditional liberal arts colleges a substantial proportion of students pursue vocational majors. The question then is why anyone should care about the course work and career choices of the tiny percentage of students who attend liberal arts colleges and pursue what are, at the present time considered liberal arts majors? Perhaps there is no more important reason that that the attitudes most apparent among the faculties and administrations of many liberal arts colleges reflect the attitudes of the broader academic community. Majoring in some vocational area fails to give students a true college-level education might be one way of summarizing this attitude. The question then turns on what we really expect to get from their college education. (1) Discipline, Connections, and Protection of Privilege, (2) Higher order thinking skills, or (3) Breadth? (1) After addressing the degree to which the privileged upper class (the top 20% of the U. S. population) was able to capture over 64% of the available positions in the most elite colleges and universities, Useem and Miller ("Privilege and domination: The role of the upper class in American higher education" Useem and Miller _Social Science Information_1975; 14: 115-145 ) turn to the question of the purpose of higher education for the upper classes of American society. Although this paper was published in 1975 and deals with the controversial issue of privilege and power it is assuredly the case that (1) the majority of students at top liberal arts colleges to which other such institutions aspire and (2) the faculties and administrations of most colleges and universities in the U. S. are still mostly born of privilege. A key point of Useem and Miller was that elite colleges and universities did little to further develop cognitive skills (encourage critical thinking and further students’ intellectual development). Instead these institutions seemed to “… generate and reinforce personality skills and values required by upper class culture and top business positions” (Useem and Miller, 1975, p.136) and to “… generate networks of acquaintanceships among upper class members that are maintained for years after graduation.” (ibid, p. 138) In short, even the most selective colleges and universities simply give students an opportunity to develop a sense of responsibility and discipline and keep young upper class men and women together (and away from others in the lower classes) as they approach maturity and therefore, a time of life that they begin to form families. If correct, colleges and universities seem as little more than incubators that aid in transition from adolescence to adulthood and minimize the odds that the sons and daughters of upper and middle class families date and marry bartenders, cab drivers, and beauticians (or their children). (2) Intellectual development “Countless studies have found that college students, overall, achieve significant gains in critical thinking, general knowledge, moral reasoning, quantitative skills and other competencies” (Bok, p.8) Bok cites Pascarella and Terenzini’s How College Affects Students who nonetheless present a considerably more cautious appraisal. And indeed, later on in his book Bok presents evidence on intellectual development and the development of cognitive skills during the college years that falls far short of the mark. For example, he notes that studies indicate that a majority progress from “ignorant certainty” to “intelligent confusion”. This means progressing from a belief that all questions have definite answers to “… a naïve relativist state, persuaded that many problems have no single correct answer and that none of the possible answers is necessarily better than the others.” (Bok, p. 114)) Bok goes to note that studies such as that of Halloun and Hestenes suggest that students have such a poor understanding of the core material that application of course material to even slightly different situations or contexts is difficult, if not impossible. This is true even of students who've received high grades in their courses. He concludes that although research indicates progress in reasoning and problem-solving that the scale of improvement is less than reassuring. It is questionable then whether college graduates are paid so handsomely solely, or even chiefly, because they are constantly being called to draw on the intellectual skills honed in college. As Bok notes, for the majority these skills are far from being fully developed by graduation. Is a worker who says “I’m not sure what the right answer is. No one seems to know.” really superior to one who replies “I don’t know, I’ll need to ask the boss.”? Outside areas where the “ignorant certainty” of the “first-year” student can be replaced by the “informed certainty” of the graduate – in areas such as accounting and engineering – college must function primarily for employers as a screening device, and function primarily for families as a rite of passage to middle class or upper class life for their children.* Whether or not the potential benefits of higher education are currently realized, they could and should be. Bok very strongly argues that to do so, to better foster intellectual development, would often involve no more than turning to the growing body of research on such matters to actually apply the principles this research. Although none of us want to aid in perpetuating social boundaries, even if colleges and universities did a significantly better job of helping students develop cognitive skills, to grow intellectually, employers would still get the screening that they want. However, the entire enterprise would be far more meaningful for both faculty and students and of long-run benefit to society as a whole. Whatever students sharpen their intellectual teeth on would seem to be of little relevance in this regard. Anything from classical studies (in the way it is at present so narrowly defined) to any number of vocational disciplines, provided they provide sufficient depth, should serve the purpose of fostering intellectual development of higher order thinking skills, the cognitive skills that any well-educated person should have. (3) Breadth In 1940 only about 2 out of every 100 adults had at least a college degree. In 2004 this number had risen to 25 to 30 out of every 100 adults over the age of 25. Along with these changes other significant changes have taken place. First, the percent of students attending and graduating from traditional liberal arts colleges has fallen enormously. Secondly, college enrollments, especially in “less selective” baccalaureate and comprehensive institutions, have skyrocketed both in absolute and relative terms. Thirdly, colleges and universities have been transformed from being places students attend before pursuing advanced degrees to places where the majority receive their bachelors degree and then enter the workforce. Fourth, the percent of those earning a vocational degree has risen from 45% in 1960 to around 60% now. Fifth, a shift in the views of students, a marked shift, has taken place with the majority now feeling that it is very important to be financially well off and only a minority place much stock in acquiring “a meaningful philosophy of life”. These points are often treated as unconnected. However, there is one possible interpretation that allows us to connect many of these facts together (the declining importance of private colleges, especially small residential liberal arts colleges, rising vocationalism, and concern with career and financial success): the expansion since World War II in educational opportunities to the lower and middle classes. According to estimates from the Department of Education, of dependent students entering colleges in 1995/1996 and completing their degrees by 2001 approximately 60% were from families earning less than 70,000 in 1994. In contrast as McPherson and Shapiro point out in 1997, while 6 out of 100 students from richest families enrolled in highly selective four-year liberal arts colleges and over half of students from wealthy families enrolled in private colleges only around 2 out of 100 students from families with incomes less than 60,000 a year enrolled in highly selective four-year colleges. The much decried narrow focus on employment and financial security arguably is neither a failing of higher education or a fundamental change in attitude within society. It may simply reflect the change that has taken place in who attends college. Who can fault a student from a less affluent family, perhaps part of the first generation of her family to attend college, to not be concerned first and foremost with the marketability of her degree? Without questioning for one moment that inherent value of developing a philosophy of life, one can excuse someone of more modest means attaching a great deal more weight to financial security. And arguably the more modest a student’s socioeconomic background, the less politically active their families will have been, the less travel they will have done, the less exposure she will have had to the arts, and, most important, the less aware she may be that to study anything deeply involves far more than simply learning the tricks of the trade.” She has parents who have learned what they know at a time when they too suffered from “ignorant certainty” but were trained to do what they needed on the job. They have, as they’ve put money aside for a home, their retirement and their children’s education, had little extra to pay for private lessons or for trips. Working hard to make ends meet they feel unprepared and too short of time to go to the polls. They simply know that a college degree is, possibly, a key to a better life for their children. The students who are children of college graduates may economically be somewhat better off. Music lessons, art classes, and travel will be more common for these families. However, their parents’ degrees may have left them in the state of intelligent confusion referred to earlier. This coupled with growing up in an environment where reading, writing, and conversation have all declined in importance means that the seeming advantages of “educated” parents and a “good” education leaves the average middle class or upper middle class college student ill-prepared for college level work or to see the need to achieve the breadth that those of us on the other side of the desk would hope she would achieve. And of course there is considerable debate about what breadth entails. Bok describes four more or less competing models of general education: (1) Great Books, (2) survey courses, (3) distribution requirements, and (4) the modes-of-inquiry approach. Nussbaum in her book Cultivating Humanity calls on a liberal education to develop (1) the capacity to critically examine oneself and one’s traditions, (2) a knowledge of other cultures, and (3) a narrative imagination or in essence, a sense of empathy for others. Bok’s discussion of general education centers on personal enrichment while Nussbaum’s discussion of what constitutes a genuine liberal education centers on those things needed to participate fully in a democracy. In 40 or so 3 credit course we promise students all of this and more! We promise personal enrichment, to provide them with the grounding needed to be good citizens, to prepare them for the world of work and to give them what they need to pursue advanced degrees. While admittedly one could argue for some overlap to more often than not accomplish all of this in four short years would seem impossible. In cases where the impossible seems to happen on a more or less consistent basis I think we need to ask how much “value-added” there has been. Astin in his article “How the Liberal Arts College Affects Students” points to the positive effects of attending independent liberal arts colleges. He draws our attention to a myriad of good theories that affectively and cognitively seem to happen in such schools. For example, students from such schools are culturally aware, have participated in protests, attend concerts and recitals and place less stock in the notion that “the principal purpose of college is to increase one’s earning power.” Also Astin points to superior performance on the MCAT exam* (and presumably superior performance on other such exams, GMAT, LSAT OR GRE) and improved writing skills in such schools. While Astin points to the selectivity of these schools and in turn the strong positive correlation between academic promise and “SES” (socioeconomic status) vis-à-vis academic outcomes I would argue that cultural awareness, artistic orientation and the seeming lack of materialism he mentions are strongly related to SES as well. One wonders if the one question referred to above were restated as “One of the main purposes of college is to protect one’s earning power” how the answers would differ. In other four year residential liberal arts colleges it appears that they are far less successful achieving these goals. Liberal arts education in America has its origins in as Lang puts it “… philosophical roots in a tradition that began in New England over three hundred years ago with the establishment of the first enclaves for educating privileged white males” (Lang, p. 134) and was “… modeled after an elite form of undergraduate education exemplified by the colleges of England’s ancient Oxford and Cambridge universities” (Astin, p.79)* Many liberal arts colleges in the Midwest that still maintain their religious affiliation were formed not be established elites but by upwardly mobile immigrants and their clergy. Given the dominance of the liberal arts colleges on the East coast these groups patterned themselves on this model. However, as ethnic and religious groups have mixed and as options open to a growing number of students has increased these schools have been forced to confront the question of what college is for (Preparation for a career, personal enrichment, citizenship-leadership, the development of higher-order thinking skills) than any other type of college or university. And it is in these schools that the record on what Astin refers to as the existential, educational, and fringe benefits of a liberal arts education is far less clear cut. However the most favorable result Astin points to, among all types of liberal arts colleges, (independent or religious, selective or not) relates to existential outcomes. This is perhaps due more to the size of the schools involved than curriculum. All types of liberal arts colleges receive relatively high marks on student satisfaction with faculty, the quality of instruction, and general education requirements. Across all types of such colleges a relatively higher proportion of students believe the school to be “student-oriented” and the greater their odds of completing their degree. (Astin, p. 83) It is interesting to note and perhaps heartening for less selective Midwestern liberal arts colleges that “student orientation” as measured by such factors as those just listed was highest for such schools. For colleges and universities in general there is evidence of a strong negative correlation between student orientation and “research orientation”.* What would I like the reader to consider after having read this essay? First, I would ask all of us who regard ourselves as strong advocates of the liberal arts to draw on our critical thinking skills and open-mindedness to seriously address the question of which definition of the liberal arts – the discipline based one or the approach-based one – we see as the better of the two. I readily grant that one could argue that there is no real need to choose, that there are some disciplines that better encourage the development of the sorts of things we want to see happen to students intellectually during their undergraduate careers. But then I trust we would all agree that we need to explain why a particular discipline does not qualify. In most cases I would assume the agreement would center mostly on the issue of depth. If mastery of a particular area involves largely knowing key terms and procedures without much need to really go beyond this to really grasp or understand the principles involved I would assume it would not qualify. Regardless of how much I might need to know to be considered qualified, if my understanding does not have to be particularly deep, perhaps because the use of the knowledge gained will seldom have to be applied to significantly different circumstances, I would assume that field of study would not qualify. More importantly still if after studying a particular discipline few would expect me to analyze, to evaluate or to create, because what is relevant in this field is fairly set then I would assume that it would not qualify. If valid then clearly History would be included but the study of computer repair would not. There are however a myriad of subjects that don’t so neatly fall on the one side of this line. Not that I expect this to happen in the near future but secondly what would happen to liberal arts curriculum in the U. S. if secondary schools became truly the people’s college? What if high schools were places where the critical thinking skills needed for specialized study and participation in a democracy were developed? What if they were places where personal enrichment, appreciation of the arts and the “life of the mind”, speaking and writing skills and exposure to other cultures were encouraged and developed? In 2005, two-thirds of the U. S. labor force had at most an associates degree. Even if we assumed, incorrectly, that all of us with college degrees or higher possessed the sorts of skills and dispositions a liberal education is supposed to provide an awkward question presents. What does this say about a society, run by the remaining third, that doesn’t seem to care much, if at all, about this other two-thirds?* [I hasten to add that When I read that a college education is supposed to teach one how to think, to teach one how to use her leisure hours, to give the student what she needs to fully participate in our democracy and to live the “life of the mind” ( Have a look at Mike Rose's The Mind at Work) I feel more than a bit uneasy. Without much difficulty I can think of several cases where people lacking a college degree – through experience and self-study – are intellectually and artistically alive as well as the reverse, people who with years of education but who are intellectually bankrupt. What is promised in college brochures consists of good things that all should have access to, and should as is the case more commonly realized outside the U. S. be provided to the majority during the course of their secondary education. (I am thinking, for example, of the Bachillerato in Spain). And if you accept that much of what is done vis-a-vis general education in high school, how can one help but characterize a portion of higher education in this country as anything more than remedial education for the upper-middle class and the wealthy? Finally, I would ask the reader to consider how much of the success that highly selective and somewhat selective liberal arts colleges experience in educating their students, in preparing them for advanced study and for positions of leadership and other achievements of various kinds has to do with who is being taught rather than how or what they are taught? Having graduated from the best private high schools in the country, students at top liberal arts colleges are far less in need of remediation than the majority of entering first years. Their parents have the resources to pay tuition that results in expenditures per student far higher than elsewhere. Their parents further have the resources to help fund graduate study. Parallel to this, families fuel the endowment of their schools, all of which are impressive* and the envy of the administrations of less highly ranked schools.