Monday, September 22, 2008

Fermi question and the credi crisis - how much will everyone have to pay?

An important skill in physics is the ability to approximate or to provide for a back of the envelope calculation. The game of trying to make these rough approximations is often referred to as a Fermi question and is a game played by many scientists to test their computational reasoning skills. For example, a simple Fermi question would be to determine what are the number of hairs on the scalp of an average head or how much pizza in square feet is consumed each year? 

It would be natural to start thinking about the Wall Street bailout as a Fermi question. How much will each person in the US owe for this bail-out problem? Assume this will cost the US $1 trillion and we have 300 million citizens, the cost of the bailout does not seem that large, about $3300 per person; however, if you divided that number by the number of taxpayers and then by the number who are expected to see their taxes rise, the numbers start to look grim. 

 The constraints on taxes and who can pay will bind the government and determine what will be possible over the next four years. If you assume that tax revenues should decline in a recession, the choices become even more constrained. One of the few choices for paying this debt is through inflating prices and debasing the nominal value of the debt. The only problem is that many of the key buyers of government debt are foreign investors who have choices. The biggest loser may then be the dollar.

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