Empirical Tests Of Economic Theories

Experience tells us which economic theories are right and which are not, often with unexpected results.

* In theory, a higher minimum wage should greatly increase unemployment. In reality, the effect is almost immeasurable at U.S. levels.

* The evidence from Brexit and from Trump 2.0 and the Smoot-Hawley tariffs demonstrate that globalism is very important for a healthy economy and that departing from free trade does great harm, as does discouraging immigration.

* While a shallow microeconomic analysis would suggest that immigration hurts the job market for native born Americans, experience shows that immigration has the opposite effect, improve the job market and prosperity.

* The evidence from Eastern Europe in the post-Cold War era illustrates that securities laws to reduce the likelihood of things like Ponzi schemes are actually very important even when other protections of property laws and contract laws are in place.

* Economic development studies tend to show that economic development is quite localized and culture driven, rather than being primarily driven by national laws, although national laws do matter quite a bit as shown by comparing the economies of communities on either side of a national boundary where the laws are quite different.

* Notably, lots of the litmus tests for economic development: municipal water quality, roads in good repair, regular trash collection, effective legal enforcement of debts, unambiguous real estate ownership, good quality K-12 education, and the availability of trauma center hospitals, are mostly provided at the local government level, rather than at the regional or national level.

* During the Financial Crisis, two different methods of managing the risk of high loan to value residential loans were compared which have very different regulatory regimes. 

One approach was to make a conventional mortgage at 80% loan to value, and then to have a second mortgage for the next 10-15% of loan to value that was subordinate to the conventional mortgage. This is subject to securities regulation of mortgage backed securities, with risks assessment mostly delegated to thinly regulated and thinly capitalized bond rating agencies (which are basically just credit reporting agencies for the bond market).

The other approach was to issue a single mortgage for the entire loan and to secure mortgage insurance, paid for by the borrower to protect the lender, which covered the lenders' losses if the value of a foreclosed home resulted in a deficiency judgment. This was subject to state insurance regulation.

In the financial crisis, insurance regulation was decisively proven to be superior, with no mortgage insurance firms going out of business, while essentially all of the subprime lenders, mortgage backed securities firms that packaged second mortgages for investors, and investment banks that organized this activity either ceased business entirely, underwent bankruptcy reorganization, or were saved only by bailouts with purchases of the failed firms by healthy large financial companies.