Home prices must fall further...

The New York Times today reports the troubled housing market dragging our economy down the toilet - with prices down as much as 30% in a year in places like Phoenix and Las Vegas.

Here's the conundrum: the government will inject money into the system to try and prevent further decline in prices, thus saving those who re-financed their mortgages or bought into bubble. This is an obviously necessary step to prevent more foreclosures which in turn would further ravage the financial firms who foolishly, with an avarice that would make JD Rockefeller blush, sunk their teeth into the CDOs.

But with prices at 2004 levels, perhaps, you'd note that the ratio of median home price to median income is still unhealthy and a dangerous onus on the middle class. 2000 levels are more likely, with some predicting a fall even below that before all is said and done.

Now is the time to replace the GDP

Economics has replaced poker as the armchair game of the day. I look forward to my spot at the World Series of Economics table. I'm all in.

I recently heard a talk by Patrick Yam of Sensei Partners LLC, an early stage venture capital group. Patrick had a lot of data ranging from debt as percentage of GDP measures to house starts in the realty market. I was surprised, actually, by how little new I learned as someone who gets his information from the New York Times, the Economist and a range of blogs brought to prominence via social aggregate sites like Digg and Reddit.

Patrick Yam suggested we embark on a New New Deal featuring infrastructure spending, increased regulation, and injection of liquidity into the financial system. I didn't see anything surprising about these suggestions, as I am sure Bernanke, Obama or even Paulson would speak in the same generics. There was no explicit critique of the Reaganomics that have led us to where we are today unless you count the suggestions of increased government spending and regulation.

But I feel even that would fall short. As an electrical engineer, I often try and frame the problems I am attempting to solve in an optimization framework. For instance, choose the solution which minimizes the probability of error given your observed data and models of class distributions. However, things can go wrong. Your models may be operating on incorrect assumptions. Or worse, you might find that what you are attempting to optimize does not solve your problem.

The entire framework of the modern economy revolves around optimizing the growth in gross domestic product (GDP). Our friends at Wikipedia give us that GDP = consumption + gross investment + government spending + (exports − imports), so essentially we're talking about the flow of capital.

GDP is a critically important measure. A recession is defined as two consecutive quarters of negative growth in GDP. Now optimization does not imply maximization always, but instead economists seek to maintain a stable and healthy amount of growth.

I propose that now is an ideal time to flush GDP optimization down the toilet and replace it instead with an alternative measure that represents the problems facing us today and in the more long-term future. The former kingdom of Bhutan famously incorporated the measure of GNH, Gross National Happiness, reflecting wellness in 7 critical areas ranging from social to ecological.

Let's admit our addiction. Consumerism has caused a wealth of problems that can't be addressed by our current macroeconomic system. Short term business profits have no way of considering sustainability, hence the threat to the world's environment and even to the companies themselves (GM, Ford). Happiness, a universally agreed good, has been famously shown in studies to suffer diminishing returns as a function of income. What if instead of focusing on productivity, we focused on work that increased happiness?

If GNH works for an obscure Himalayan kingdom, why not the world?