ArticleIP_1937.txt

   
   
      
         
            Baby-Sitting the Economy

            Twenty years ago I read a
story that changed my life. I think about that story often; it helps me to stay
calm in the face of crisis, to remain hopeful in times of depression, and to
resist the pull of fatalism and pessimism. At this gloomy moment, when Asia's
woes seem to threaten the world economy as a whole, the lessons of that
inspirational tale are more important than ever.

            The story
is told in an article titled "Monetary Theory and the Great Capitol Hill
Baby-Sitting Co-op Crisis." Joan and Richard Sweeney published it in the
Journal of Money, Credit, and Banking in 1978. I've used their story in
two of my books, Peddling Prosperity and The Accidental Theorist ,
but it bears retelling, this time with an Asian twist.

            The Sweeneys tell the story of--you guessed it--a
baby-sitting co-op, one to which they belonged in the early 1970s. Such co-ops
are quite common: A group of people (in this case about 150 young couples with
congressional connections) agrees to baby-sit for one another, obviating the
need for cash payments to adolescents. It's a mutually beneficial arrangement:
A couple that already has children around may find that watching another
couple's kids for an evening is not that much of an additional burden,
certainly compared with the benefit of receiving the same service some other
evening. But there must be a system for making sure each couple does its fair
share.

            The
Capitol Hill co-op adopted one fairly natural solution. It issued scrip--pieces
of paper equivalent to one hour of baby-sitting time. Baby sitters would
receive the appropriate number of coupons directly from the baby sittees. This
made the system self-enforcing: Over time, each couple would automatically do
as much baby-sitting as it received in return. As long as the people were
reliable--and these young professionals certainly were--what could go
wrong?

            
Well, it turned out that there was a small
technical problem. Think about the coupon holdings of a typical couple. During
periods when it had few occasions to go out, a couple would probably try to
build up a reserve--then run that reserve down when the occasions arose. There
would be an averaging out of these demands. One couple would be going out when
another was staying at home. But since many couples would be holding reserves
of coupons at any given time, the co-op needed to have a fairly large amount of
scrip in circulation.

            Now what
happened in the Sweeneys' co-op was that, for complicated reasons involving the
collection and use of dues (paid in scrip), the number of coupons in
circulation became quite low. As a result, most couples were anxious to add to
their reserves by baby-sitting, reluctant to run them down by going out. But
one couple's decision to go out was another's chance to baby-sit; so it became
difficult to earn coupons. Knowing this, couples became even more reluctant to
use their reserves except on special occasions, reducing baby-sitting
opportunities still further.

            In short, the co-op had fallen into a recession.

            Since most
of the co-op's members were lawyers, it was difficult to convince them the
problem was monetary. They tried to legislate recovery--passing a rule
requiring each couple to go out at least twice a month. But eventually the
economists prevailed. More coupons were issued, couples became more willing to
go out, opportunities to baby-sit multiplied, and everyone was happy.
Eventually, of course, the co-op issued too much scrip, leading to
different problems ...

            
If you think this is a silly story, a waste of
your time, shame on you. What the Capitol Hill Baby-Sitting Co-op experienced
was a real recession. Its story tells you more about what economic slumps are
and why they happen than you will get from reading 500 pages of William Greider
and a year's worth of Wall Street Journal editorials. And if you are
willing to really wrap your mind around the co-op's story, to play with it and
draw out its implications, it will change the way you think about the
world.

            For
example, suppose that the U.S. stock market was to crash, threatening to
undermine consumer confidence. Would this inevitably mean a disastrous
recession? Think of it this way: When consumer confidence declines, it is as
if, for some reason, the typical member of the co-op had become less willing to
go out, more anxious to accumulate coupons for a rainy day. This could indeed
lead to a slump--but need not if the management were alert and responded by
simply issuing more coupons. That is exactly what our head coupon issuer Alan
Greenspan did in 1987--and what I believe he would do again. So as I said at
the beginning, the story of the baby-sitting co-op helps me to remain calm in
the face of crisis.

            Or suppose Greenspan did not respond quickly enough and
that the economy did indeed fall into a slump. Don't panic. Even if the head
coupon issuer has fallen temporarily behind the curve, he can still ordinarily
turn the situation around by issuing more coupons--that is, with a vigorous
monetary expansion like the ones that ended the recessions of 1981-82 and
1990-91. So as I said, the story of the baby-sitting co-op helps me remain
hopeful in times of depression.

            Above all,
the story of the co-op tells you that economic slumps are not punishments for
our sins, pains that we are fated to suffer. The Capitol Hill co-op did not get
into trouble because its members were bad, inefficient baby sitters; its
troubles did not reveal the fundamental flaws of "Capitol Hill values" or
"crony baby-sittingism." It had a technical problem--too many people chasing
too little scrip--which could be, and was, solved with a little clear thinking.
And so, as I said, the co-op's story helps me to resist the pull of fatalism
and pessimism.

            
But if it's all so easy, how can a large part
of the world be in the mess it's in? How, for example, can Japan be stuck in a
seemingly intractable slump--one that it does not seem able to get out of
simply by printing coupons? Well, if we extend the co-op's story a little bit,
it is not hard to generate something that looks a lot like Japan's
problems--and to see the outline of a solution.

            First, we
have to imagine a co-op the members of which realized there was an unnecessary
inconvenience in their system. There would be occasions when a couple found
itself needing to go out several times in a row, which would cause it to run
out of coupons--and therefore be unable to get its babies sat--even though it
was entirely willing to do lots of compensatory baby-sitting at a later date.
To resolve this problem, the co-op allowed members to borrow extra
coupons from the management in times of need--repaying with the coupons
received from . To prevent members from abusing this privilege, however, the
management would probably need to impose some penalty--requiring borrowers to
repay more coupons than they borrowed.

            Under this new system, couples would hold smaller reserves
of coupons than before, knowing they could borrow more if necessary. The
co-op's officers would, however, have acquired a new tool of management. If
members of the co-op reported it was easy to find baby sitters and hard to find
opportunities to baby-sit, the terms under which members could borrow coupons
could be made more favorable, encouraging more people to go out. If baby
sitters were scarce, those terms could be worsened, encouraging people to go
out less.

            In other
words, this more sophisticated co-op would have a central bank that could
stimulate a depressed economy by reducing the interest rate and cool off an
overheated one by raising it.

            
But what about Japan--where the economy slumps
despite interest rates having fallen almost to zero? Has the baby-sitting
metaphor finally found a situation it cannot handle?

            Well,
imagine there is a seasonality in the demand and supply for baby-sitting.
During the winter, when it's cold and dark, couples don't want to go out much
but are quite willing to stay home and look after other people's
children--thereby accumulating points they can use on balmy summer evenings. If
this seasonality isn't too pronounced, the co-op could still keep the supply
and demand for baby-sitting in balance by charging low interest rates in the
winter months, higher rates in the summer. But suppose that the seasonality is
very strong indeed. Then in the winter, even at a zero interest rate, there
will be more couples seeking opportunities to baby-sit than there are couples
going out, which will mean that baby-sitting opportunities will be hard to
find, which means that couples seeking to build up reserves for summer fun will
be even less willing to use those points in the winter, meaning even fewer
opportunities to baby-sit ... and the co-op will slide into a recession even at
a zero interest rate.

            And this is the winter of Japan's discontent. Perhaps
because of its aging population, perhaps also because of a general nervousness
about the future, the Japanese public does not appear willing to spend enough
to use the economy's capacity, even at a zero interest rate. Japan, say the
economists, has fallen into the dread "liquidity trap." Well, what you have
just read is an infantile explanation of what a liquidity trap is and how it
can happen. And once you understand that this is what has gone wrong, the
answer to Japan's problems is, of course, .

            So the story of the
baby-sitting co-op is not a mere amusement. If people would only take it
seriously--if they could only understand that when great economic issues are at
stake, whimsical parables are not a waste of time but the key to
enlightenment--it is a story that could save the world.