Economist's View

The Weak Link Between Genes and Longevity

[This is supposed to post automatically.]

This surprised me. The correlation between genetics and longevity may be a lot weaker than you think, with "only 3 percent of how long you live compared to the average person ... explained by how long your parents lived":

Live Long? Die Young? Answer Isn’t Just in Genes, by Gina Kolata, NY Times: Josephine Tesauro never thought she would live so long. At 92, she is straight backed, firm jawed and vibrantly healthy... Mrs. Tesauro does, however, have a living sister, an identical twin. But she and her twin are not so identical anymore. Her sister is incontinent, she has had a hip replacement, and she has a degenerative disorder that destroyed most of her vision. She also has dementia. “She just does not comprehend,” Mrs. Tesauro says. Even researchers who study aging are fascinated by such stories. How could it be that two people with the same genes, growing up in the same family, living all their lives in the same place, could age so differently?

The scientific view of what determines a life span or how a person ages has swung back and forth. First, a couple of decades ago, the emphasis was on environment, eating right, exercising, getting good medical care. Then the view switched to genes, the idea that you either inherit the right combination of genes that will let you eat fatty steaks and smoke cigars and live to be 100 or you do not. And the notion has stuck, so that these days, many people point to an ancestor or two who lived a long life and assume they have a genetic gift for longevity.

But recent studies find that genes may not be so important in determining how long someone will live... — except, perhaps, in some exceptionally long-lived families. That means it is generally impossible to predict how long a person will live based on how long the person’s relatives lived.

Is Worker Insecurity a Myth?

Greg Mankiw posts a link to a paper with the introduction "Economist Ann Huff Stevens punctures another media myth." The paper implies  that workers shouldn't feel insecure about their economic prospects since the data don't support their perceptions of insecurity. But as I said back in December when I posted the abstract and part of the introduction to the Stevens' paper:

There is other research, e.g. see here, showing that measures of insecurity such as the variance of income have risen in recent years. Thus, even if these results hold up to further scrutiny, they do not prove that worker's perception of increasing economic insecurity is illusory.

If you look at some of the other statistics Ann Huff Stevens has produced, you get a different impression about economic security:

In fact, what happened in the Ryans' case -- an economic implosion triggered by a succession of layoffs for John and a medical crisis for Kim -- has become increasingly common among the nation's working families during the last 25 years. Setbacks such as job losses and prolonged illnesses have always taken their toll, of course. But they haven't always packed the economic punch they now do. Since the 1970s, the odds that a family will see its income chopped in half when hit by this kind of shock have nearly doubled to more than 20%, according to statistics generated by The Times in cooperation with researchers at UC Davis. "Working families stand a good chance of sustaining big blows to their incomes even from fairly commonplace events," said UC Davis economist Marianne E. Page, who with colleague Ann Huff Stevens helped The Times with its analysis. "The odds of suffering a sizable setback have grown considerably in recent years."

And when you ask people on the front lines how they feel rather than looking at data to see how they should feel, you get a different answer as shown in three new opinion polls. Contrary to what is implied above, workers perceptions of insecurity are not a myth:

Three Polls Find Workers Sensing Deep Pessimism, by Steven Greenhouse, NY Times: Three new opinion polls released yesterday found deep pessimism among American workers, with most saying that wages were not keeping pace with inflation and that workers were worse off in many ways than a generation ago.

The Pew Research Center found in a survey of 2,003 adults completed last month that an overwhelming majority said workers had less job security and faced more on-the-job stress than 20 or 30 years ago.

The nonpartisan Pew center, said, “The public thinks that workers were better off a generation ago than they are now on every key dimension of worker life — be it wages, benefits, retirement plans, on-the-job stress, the loyalty they are shown by employers or the need to regularly upgrade work skills.”

In a poll of 803 registered voters commissioned by the A.F.L.-C.I.O., Peter D. Hart Research found that 55 percent said their incomes were not keeping up with inflation, 33 percent said their incomes were keeping even and 9 percent said their incomes were outpacing inflation. ...

A poll of 800 nonsupervisory workers released yesterday by Lake Research Partners found that 51 percent said the next generation would be worse off economically, 27 percent said the next generation would fare about the same and 18 percent said it would be better off.

The poll, for Change to Win, the coalition of unions that left the A.F.L.-C.I.O., found that 63 percent of respondents said the economy was on the wrong track and 28 percent said it was going in the right direction. ...

The Pew survey found that 69 percent said there was more on-the-job stress than a decade ago, 62 percent said there was less job security and 59 percent said Americans had to worker harder to earn decent livings. Thirteen percent said they did not have to work as hard, and 26 percent said they work about the same.

One factor increasing anxiety is the corporate trend to send job overseas. The Pew poll found that 31 percent of respondents said it would be possible for their employer to hire someone outside the country for their job...

To be successful this fall, I think the GOP should keep telling workers their perceptions of insecurity are mythical.

[I'll be on the road all day and won't be able to do any updates until tonight - Mark].

Update: Greg Mankiw emails:

Your post on worker insecurity seems to conflate employment volatility and income volatility, as if they were the same thing. There is no question that there has been a big increase in income inequality over this period. So, even if job changes have the same frequency they had in the past, it seems possible that a job change has a bigger impact on a family's income. In other words, employment stability can remain the same while income volatility rises.

Greg

Thanks Greg - I was trying to avoid people drawing the conclusion that constant job duration implies constant economic security, so, that was one of the points I was trying to make. As Greg notes, just because employment duration hasn't changed doesn't mean the the cost of being unemployed remains constant. If the variance of income increases, which the evidence suggests it has, or if job changes or layoffs become more costly for other reasons, then the increase in the cost of being unemployed will cause workers to feel more insecure even if employment duration is constant.

What Inning Are We In?

Nouriel Roubini rebuts the positive spin surrounding the GDP revision of 0.4%:

Revised Q2 GDP Figures: Much Worse Than the Headline…Beware of the Spin Doctors, by Nouriel Roubini: The revised Q2 figures are out and the headline figure – 2.9% growth – is better than the initial advance estimate of 2.5%.  Right after the publication of these revised figures today the spin doctors have been in a frenzy to use this number to prove that the economy is fine. First in the line among these spin doctors is “Eighth Inning” Dallas Fed President Richard Fisher – yes the same Fisher who firmly predicted in June 2005 that we were at the “eighth inning” of the Fed tightening cycle and then went on voting another nine times for a Fed Funds raise. An hour after the release of the new Q2 figures he stated in a speech:

"We are slowing down, but this number may help us keep it in perspective," Federal Reserve Bank of Dallas President Richard Fisher said today after a speech in Dallas. "We could not have kept growing at the rate we were growing in the first quarter." He called the figures today "pretty healthy,"

This is also the same Fisher who – in a previous speech – called me and other realists who are worried about housing and the economy an Eeyore.

Beware of these spin doctors. Behind the headline figure, the numbers in the revised Q2 figures are much worse than the initial estimate.

Are Taxes on Interest Income Unconstitutional?

Bruce Bartlett looks for legal loopholes in the government's ability to levy income taxes:

Tax ruling with portent?, by By Bruce Bartlett, Commentary, Washington Times: Last week, a federal appeals court in Washington handed down an important decision relating to the definition of income for tax purposes. What is important is the decision is the first one in decades saying the Constitution itself limits what the government may tax. If upheld by the Supreme Court, it could significantly alter tax policy and possibly open the door to radical reform.

In the case, a woman named Marrita Murphy was awarded a legal settlement that included compensation for physical injury and emotional distress. The former has always been tax-exempt, just as insurance settlements are. Obviously, it makes no sense to tax as income the payment for a loss that only makes one whole again. One is not made better off, so there is no income. But under current law, compensation for nonphysical injuries are taxed.

Ms. Murphy argued that just as compensation for physical injuries only makes one whole after a loss, the same is true of awards for emotional distress. In short, it is not income within the meaning of the 16th Amendment to the Constitution. The appeals court agreed and ruled her award for emotional distress is not income and therefore not taxable.

Tax experts immediately recognized the far-reaching implications for other areas of the tax law. Tax protesters have long argued that the 16th Amendment did not grant the federal government power to tax every single receipt it deems to be income. Yet in practice, that is what the Internal Revenue Service does.

The very concept of income itself has never been defined in the tax law. It is pretty much whatever the IRS says it is. ...

One area where I would like to see the court go further has to do with whether interest constitutes income. To economists, some portion of the interest we receive on our saving is merely compensation for loss of the immediate enjoyment we would receive if we consumed our income today instead of saving it.

Think of it this way. Would you be satisfied receiving your paycheck a year from now instead of on payday? Of course not. You would suffer a real loss if you had to wait a year to get paid for your work. But if you were offered, say, 10 percent more in a year, you might say that was OK. Collectively, our willingness to put off consumption today for greater consumption in the future is what determines the pure rate of interest.

But in the view of many great economists, such as John Stuart Mill, the future interest is merely compensation for the loss of immediate satisfaction. Therefore, it is not income but more like an insurance settlement that simply makes us whole.

Now, obviously, market interest rates are more than simply a discount between present and future, as my example implies. A lot represents a return to risk and an adjustment for expected inflation. But in principle, some portion of interest is compensation for loss and therefore not income.

Given the logic of the Murphy decision, it is quite possible the risk-free, inflation-adjusted rate of interest could also be excluded from taxation on constitutional grounds. Following through that logic consistently would revolutionize taxation and eventually lead to a pure consumption tax, which most economists today favor.

I'm not predicting the Supreme Court will follow this logic. But it does open an interesting possibility that tax analysts will follow with interest.

Why can't wage income also be viewed as making a person whole for the sacrifice of working all day, or, in the language of the article, as a reward for delaying leisure (you can't go to the beach today if you work)? Being made whole for giving up consumption is not fundamentally different from being made whole for working, i.e. for giving up leisure.

Historically, arguing that interest income was the reward for a sacrifice allowed interest to be viewed as justified and provided a defense against the charge that interest income was unearned or undeserved. That is, the argument that giving up consumption involves a sacrifice in the same way that labor does was an attempt to show interest income was just like labor income - both involved a sacrifice and therefore both required compensation - it was not an attempt to distinguish interest income from labor income.

My guess is that Bruce Bartlett would say no problem, the more income taxes that are unconstitutional because they are compensation for sacrifice, the better. But, like him, I doubt the courts will find, nor do I think they should find, that interest or wages (or rents and profits where similar arguments can be made) cannot be taxed because "it is not income but more like an insurance settlement that simply makes us whole."

Update: PGL at Angry Bear also discusses Bartlett's article and in a similarly titled post notes, as I did only implicitly (his post came before mine), that this would shift the tax burden from capital income to labor income. He also notes this is consistent with an ongoing conservative agenda to eliminate taxes on capital income.

Update: Bernard Yomtov, in comments, adds:

[T]here is an additional flaw in Bartlett's "reasoning." Interest is not "compensation for loss" at all. It is part of a voluntary transaction in which the recipient exchanges cash now for more cash later. This is exactly like selling some physical object. If a car dealer makes, say, $1000 profit on the sale of a car this is not "compensation for the loss of the car," it is income.

Ms. Murphy's transaction was not voluntary. She did not choose to sell her emotional wellbeing. The compensation she received did not include a profit component.

If someone steals your car, and you get it back (or its cash equivalent), that is not income. The court ruling extends this principle to loss of emotional well-being.

Jackson Hole Symposium Papers and Discussion

Here are links to the papers and discussion presented at the Jackson Hole Symposium (the highlighted names are links to papers):

The New Economic Geography: Effects and Policy Implications, A Symposium Sponsored by The Federal Reserve Bank of Kansas City, August 24-26, 2006:

• OPENING REMARKS, Ben S. Bernanke, Chairman, Board of Governors of the Federal Reserve System
• SHIFTS IN ECONOMIC GEOGRAPHY AND THEIR CAUSES
  • Author: Anthony J. Venables, Professor, London School of Economics, Paper: Shifts in Economic Geography and Their Causes
  • Discussant: Douglas A. Irwin, Professor, Dartmouth College
• CONSEQUENCES FOR PRODUCTION AND PRICES, EMPLOYMENT AND WAGES
  • Authors: Gene M. Grossman, Professor, Princeton University and Esteban Rossi-Hansberg, Professor, Princeton University , Paper: The Rise of Offshoring: It's Not Wine for Cloth Anymore
  • Discussant: John B. Taylor, Professor, Stanford University
• CONSEQUENCES FOR FINANCIAL MARKETS AND GLOBAL SAVING AND INVESTMENT
  • Author: Raghuram G. Rajan, Economic Counsellor and Director of Research, International Monetary Fund, Paper: Foreign Capital and Economic Growth
    
  • Discussant: Susam M. Collins, Professor, Georgetown University and Senior Fellow, Brookings Institution
• LUNCHEON ADDRESS
  • Stanley Fischer, Governor, Bank of Israel
• STRATEGIES FOR GROWTH
  • Panelists: T. N. Srinivasan, Professor, Yale University; Jan Svejnar, Professor, University of Michigan; Paul Collier, Professor, Oxford University
• IMPLICATIONS FOR MONETARY POLICY
  • Author: Kenneth S. Rogoff, Professor, Harvard University, Paper: Impact of Globalization on Monetary Policy
  • Discussant: Charles Bean, Executive Director and Chief Economist, Bank of England
    
• OVERVIEW PANEL
  • Panelists: Martin Feldstein, President and Chief Executive Officer, National Bureau of Economic Research; Arminio Fraga, Chief Executive Officer, Gavea Investimentos; Rakesh Mohan, Deputy Governor, Reserve Bank of India

VA Hospitals vs. Private Sector Hospitals

Time compares hospitals in the private sector to VA hospitals and finds that VA hospitals do better than their private sector counterparts according to a variety of measures of cost and quality:

How VA Hospitals Became The Best, by Douglas Waller, Time: ...Until the early 1990s, care at VA hospitals was so substandard that Congress considered shutting down the entire system and giving ex-G.I.s vouchers for treatment at private facilities. Today it's a very different story. The VA runs the largest integrated health-care system in the country... And by a number of measures, this government-managed health-care program ... is beating the marketplace.

Economic Performance in the U.S. and Europe

Alberto Alesina gives explanations for the difference in economic performance between the U.S. and Europe. He also discusses the success of the EU and the euro at enhancing economic outcomes in European countries:

Europe, by Alberto Alesina, NBER Reporter: Per capita income in Continental Western Europe (in short, Europe) was catching up with the United States from the end of the Second World War until the mid-1980s; from 1950 to about 1975, we speak of a European miracle. Then, something changed. The United States re-emerged from the difficult decades of the 1970s with a renewed political energy that led to deregulation, increased competition, reduction of marginal tax rates, and restructuring of corporations, which later facilitated the immediate adoption of the innovations from the information revolution. Europe, instead, seemed "stuck:" incapable of gathering sufficient energy to reform itself. This was especially the case for the largest countries: Germany, France, Italy, and Spain.

What Happened? Let's start with the basics.

Hoisted from Comments

This is from "How It's Playing Out" in the the Washington Post's Outlook section: 

Home Sweet Home, by Rachel Dry: Outlook went house hunting this weekend and the real estate market was not pretty. Michael Grunwald's article about the increasingly elusive dream of home-ownership and the new realities of who qualifies for affordable housing caused some online readers to say its time to ditch that original dream. At Economistsview, one commenter said: “It's time for America to re-imagine the dream of home ownership, and start thinking about smaller, better-made houses close to urban centers…It makes me ill to go to the rural community I grew up in and see miles of land once used for horse farms crowded now with cheaply-made "McMansions."...

"Unarmed Men in a Battle of Wits"

Brad DeLong sets the record straight as he reviews claims in a new book on the use of economic statistics. His conclusion? Two thumbs down for Econospinning:

"Mix and Match", by Brad DeLong: Gene Epstein of Barrons writes, asking:

I wish Brad DeLong would ... open my book [Econospinning] ... to the 12 pages that make up the second chapter... The chapter recounts a garden-variety case of econospinning by New York Times columnist Paul Krugman. My version of the story is that Krugman not only confused one set of employment data with another to make a point about the job outlook in a May 2004 column. A year later, when Krugman was given the chance to correct the error by then-Public Editor Daniel Okrent, he denied he had made it. DeLong also weighed in, ostensiby to defend Krugman, but only succeeded in compounding the confusion.

OK. There is a certain horrifying fascination in watching the right wing's minions and useful idiots in the press attempt to attack Paul Krugman on matters of economic substance. The Mickey Kauses, the Andrew Sullivans, the Donald Luskins, the Danny Okrents--all seem unarmed men in a battle of wits, or perhaps an air assault by a circular firing squad of flying attack monkeys.

Our story so far:

Disappointing News on Income, Poverty, Health Insurance, and the Earnings of College Graduates

Some disappointing news in today's income data from Census. The NY Times sets the table:

Downward Mobility, Editorial, NY Times: If you’re still harboring the notion that the economy is “good,” prepare to be disabused...

On to the news:

Young College Grads in Free Fall, by Michael Mandel, Economics Unbound: Today's income release from Census was filled with all sorts of interesting numbers. Real median household income rose for the first time since 1999. But it turns out that all of the gain came from foreign-born households--immigrants in other words. The income of native households remained "statistically unchanged." That will give both the pro-immigrant and anti-immigrant forces plenty to talk about.

More disturbingly, the numbers show that young college grads face a steadily worsening future of falling wages. The real earnings of workers aged 25-34 with a BA dropped by 3.3% in 2005. All told, the earnings of young college grads are down by almost 8% since 2002.

Isn't this a horrible looking graph?

The Center on Budget and Policy Priorities (CBPP) examines income and poverty statistics:

Poverty Remains Higher, and Median Income for Non-Elderly is Lower, Tthan When Recession Hit Bottom, CBPP: Summary Overall median household income rose modestly in 2005, while the poverty rate remained unchanged.  For the first time on record, poverty was higher in the fourth year of an economic recovery, and median income no better, than when the last recession hit bottom and the recovery began.

In addition, the 1.1 percent increase in median income in 2005, which was well below the average gain for a recovery year, was driven by a rise in income among elderly households. Median income for non-elderly households (those headed by someone under 65) fell again in 2005, declining by ... 0.5 percent.  Median income for non-elderly households was $2,000 (or 3.7 percent) lower in 2005 than in 2001.

In a related development, the median earnings of both male and female full-time workers declined in 2005.  Median earnings for men working full time throughout the year fell for the second straight year, dropping ... 1.8 percent, after adjusting for inflation.  The median earnings of full-time year-round female workers fell for the third straight year, declining by ... 1.3 percent.

Furthermore, the poverty rate, at 12.6 percent, remained well above its 11.7 percent rate in 2001, while median household income was $243 lower than in 2001 (not a statistically significant difference).  In addition, both the number and the percentage of Americans who lack health insurance climbed again and remained much higher than in 2001.  Four million more people were poor, and 5.4 million more were uninsured, than in 2001.  The percentage of children who are uninsured rose in 2005 for the first time since 1998.

The Poor Become Poorer

The poor also became poorer.  The amount by which the average person who is poor fell below the poverty line ($3,236) in 2005 was the highest on record, as was the share of the poor who fell below half of the poverty line....

Results Disappointing for this Stage of an Economic Recovery “Four years into an economic recovery, the country has yet to make progress in reducing poverty, raising the typical family’s income, or stemming the rise in the ranks of the uninsured...” Center executive director Robert Greenstein said. “It is unprecedented in recoveries of the last 40 years,” he noted, “for poverty to be higher, and the typical working-age household’s income lower, four years into a recovery...”

FOMC Meeting Minutes

The meeting minutes for the last FOMC meeting were released today. It's a pretty busy day, so I haven't had time to wade through them, but here's a few reactions from the Wall Street Journal, Financial Times, and Bloomberg. [Upate: William polley too.] First, the Wall Street Journal:

Franchises and Sluggish Adjustment

Why GM cannot simply drop brands like Buick and Pontiac even if it is in GM's best interest to do so:

Dealer'sChoice, by James Surowiecki, The New Yorker: When General Motors was the biggest and most profitable auto manufacturer in the world, its strategy was to provide “a car for every purse and purpose.” G.M. offered a panoply of distinctive brands, each targeted at a particular category of buyer—Buick for the successful but conservative driver, Cadillac for the wealthier and more flamboyant, and so on. This was a tremendously successful strategy in the days when G.M.’s domination was unchallenged. But now, with G.M. losing billions of dollars a year and struggling to restructure, ...[w]hen analysts talk about how to turn G.M. around, most start with the need to slim down the company and get rid of less popular brands. (Buick and Pontiac are perennial nominees.) It’s an eminently sensible approach, but it’s unlikely to happen anytime soon, because it would challenge the interests of some of the most powerful players in today’s auto industry—car dealers.

Car dealers ... seem like the archetypal small businessmen, and it’s hard to believe that they could sway the decisions of global corporations like G.M. and Ford. But, collectively, they have enormous leverage. Dealers are not employees of the car companies—they own local franchises, which, in every state, are protected by so-called “franchise laws.” These laws do things like restrict G.M.’s freedom to open a new Cadillac dealership a few miles away from an old one. More important, they also make it nearly impossible for an auto manufacturer to simply shut down a dealership. If G.M. decided to get rid of Pontiac and Buick, it ... would have to get them to agree to close up shop, which in practice would mean buying them out. When, a few years ago, G.M. actually did eliminate one of its brands, Oldsmobile, it had to shell out around a billion dollars to pay dealers off—and it still ended up defending itself in court against myriad lawsuits. As a result, dropping a brand may very well cost more than it saves, since it’s the dealers who end up with a hefty chunk of the intended savings.

You’d think that what’s bad for G.M. would also be bad for the people who sell its cars. But G.M. makes money (when it does) on new cars and on the financing of loans. Dealers, by contrast, make most of their money on servicing old cars and selling used ones. So dealers can thrive even when the automaker languishes. And at the state level they often have more political influence than automakers do. In the late nineties, for instance, local dealers were challenged by companies that wanted to sell cars over the Internet. In response, some states, including Texas, actually passed laws making it illegal to have a business selling cars online (unless you already owned a local dealership)... When Ford itself started experimenting with online sales, dealers’ vigorous objections (along with legal challenges) caused the manufacturers to quickly retreat. ...

Ford and G.M. always sold their cars through independent dealers... They could have owned the dealerships themselves... Instead, they preferred to give dealers franchises, and work with them as partners. And, historically, the automakers were not good partners. In 1920, for instance, the U.S. economy went into a deep recession. But Henry Ford kept his factories running at full tilt, and forced thousands of Ford dealers around the country to buy new cars that they had little chance of selling. The dealers knew that if they said no they’d never see a Model T again, so they ate the inventory. A decade later, when the Great Depression hit, Ford and G.M. used the same strategy to help keep the production lines going. They turned their dealers into a cushion against hard times.

In the long term, this was a disastrous tactic, because it inspired mistrustful dealers to look to the government for help. (The first franchise law was passed in 1937.) Dealers recognized that much about their businesses was always going to be out of their control—automakers not only decide what cars get made but also dictate sales strategies and incentive plans. So they decided to protect what they could, using laws to insulate themselves from competition and from the risk of being dropped by the manufacturer. And that’s what has made life so hard for the automakers today.

The irony in all this is that G.M. and Ford adopted the dealer system because they thought it would make their lives easier. A dealer who owned his own business would work harder than a mere employee, the thinking went, and would not require a lot of outside monitoring. But the benefits that the car companies reaped from franchising cost them a lot in terms of control and flexibility. There are now many things that G.M. can’t do (like shut down Buick) that it could do easily if it owned its own dealers. Car companies might like to change this—in the late nineties, both G.M. and Ford tried to start buying up dealerships. But, at this point, the system is self-protecting; dealers revolted, state regulators started nosing about, and the automakers gave up. They made a devil’s bargain some eighty years ago, and now they’re stuck with it...

"Historical Aspects of U.S. Trade Policy"

What happens when the U.S. closes its doors to trade? Does protectionism help infant industries? Does protectionism impact economic growth? Douglas Irwin looks to the past to answer these and other questions about international trade:

Historical Aspects of U.S. Trade Policy, by Douglas A. Irwin, NBER Reporter: While international trade and trade policy continue to be as controversial as ever, the United States has been committed for more than half a century to maintaining an open market. It was not always that way. For most of U.S. history, the United States imposed fairly substantial barriers to imports in an effort to protect domestic producers from foreign competition.

For the past several years, I have been investigating the historical aspects of U.S. trade policy as part of the NBER's research on international trade and the development of the American economy. The purpose of this research has been to study the economic effects of past trade policies on the U.S. economy and understand the political and economic forces that have shaped those policies.

Early American Trade Policy ...[H]istorical data ... from early government documents ... reveal that tariffs started out at relatively low levels, about 15 percent in the 1790s, but rose thereafter to generate additional revenue and help finance the War of 1812. ...

One of the classic, early statements on U.S. trade policy is Alexander Hamilton's Report on Manufactures in 1791. This report called for government support of manufacturing through subsidies and import tariffs... Although Hamilton's proposals for bounties (subsidies) failed to receive support, ... Congress adopted virtually every tariff recommendation put forward in the report by early 1792. These tariffs were not highly protectionist duties, because Hamilton feared discouraging imports, the critical tax base on which he planned to fund the public debt. Indeed, because his policy toward manufacturing was one of limited encouragement and not protection, Hamilton was not as much of a protectionist as he is often made out to be. Hamilton's moderate tariff policies found support among merchants and traders, the backbone of the Federalist Party. But disappointed domestic manufacturers shifted their political allegiance to the Republican Party, led by Thomas Jefferson and James Madison, both of whom were willing to consider much more draconian trade policies aimed at Britain.

Indeed, as president, Jefferson was responsible for one of the most unusual policy experiments in the history of U.S. trade policy. At his request, Congress imposed a nearly complete embargo on international commerce from December 1807 to March 1809. The Jeffersonian trade embargo provides a rare opportunity (or natural experiment) to observe the effects of a nearly complete (albeit short-lived) elimination of international trade. Economists usually describe the gains from international trade by comparing welfare at a free-trade equilibrium with welfare at an autarky equilibrium. In practice, such a comparison is almost never feasible because the autarky equilibrium is almost never observed, except in unique cases such as this one. By mid-1808, the United States was about as close to being fully shut off from international commerce as it has ever been during peacetime.

Monthly price data allow us to observe the dramatic impact of the embargo: the export-weighted average of the prices of raw cotton, flour, tobacco, and rice, which accounted for about two-thirds of U.S. exports in the United States, fell by one third within a month or two of the embargo. The price of imported commodities rose by about a third as the number of ships entering U.S. ports fell to a trickle and imports became increasingly scarce. According to my calculations, the static welfare cost of the embargo was about 5 percent of GDP. Thus, the embargo inflicted substantial costs on the economy during the short period that it was in effect.

The embargo, along with the dramatic reduction in trade as a result of the War of 1812, is commonly believed to have spurred early U.S. industrialization by promoting the growth of nascent domestic manufacturers.

A Monetary Rule for China

Ronald McKinnon argues that China's revaluation of the yuan over the past year was needed to maintain price stability in light of the surprisingly high rate of inflation in the U.S. This leads to a monetary rule for China where any change in the value of the monetary anchor - i.e. changes in the inflation rate in the U.S. - is offset with changes in the exchange rate between the dollar and the yuan:

The Yuan and the Greenback, by Ronald McKinnon, Commentary, Wall Street Journal: China's central bank anchored the national price level from 1994 to Sept. 21, 2005, by keeping its currency, the yuan, fixed at 8.28 yuan to the U.S. dollar. The policy was a great success: Over that period, China's consumer price inflation dropped to around 1% to 2%, from more than 25%, and inflation-adjusted GDP grew at a healthy 9% to 10% clip per year.

Today, however, the U.S. monetary anchor isn't as stable as it once was. U.S. inflation is spiraling up, with consumer prices rising to 4.1% and producer prices to 4.2% on a year-on-year basis through last July. Clearly, China's foreign monetary anchor is slipping. Worse, the Federal Reserve Bank has been indecisive about caging the inflation dragon, leaving the interbank federal funds rate at just 5.25% -- an unduly stimulatory level -- at its August meeting...

The initial motive for unhooking China's peg to the dollar was probably to defuse -- or confuse -- misguided American political pressure to appreciate the yuan's value versus the greenback. The premise of such arguments, that yuan appreciation would reduce China's large and growing trade surplus, is widely held but wrong. The trade imbalance between China and the U.S. results from China's high savings combined with the opposite tendency in the U.S., neither of which is predictably affected by changing the yuan-dollar exchange rate.

China's inflation is, however, predictably affected by sustained exchange-rate changes. Although unhooking the yuan-dollar exchange rate to reduce China's trade surplus was wrongly motivated, the subsequent small appreciation has had a positive effect: It's helped to insulate China from surprisingly high U.S. inflation. ...

China's consumer price inflation registered just 1% over the year through last July, while the U.S. rate hit 4.1%. This inflation differential of 3.1 percentage points was consistent with the yuan's appreciation of 3.3% year over year, as the chart nearby shows. That the inflation differential mimicked the appreciation so closely is partly a statistical coincidence, and probably unlikely to happen again. Nevertheless, cause and effect are ... important. ...

This reasoning leads to a new monetary rule for China: Pick some target rate for annual inflation in China's CPI, say 1% ..., then see how much higher American inflation, say 4.1%, is above China's internal target rate. The difference, in this case 3.1%, then becomes the planned annual gradual appreciation of the yuan rate against the dollar. ...

Floating the yuan, which would lead to a large initial appreciation, would be a major policy mistake. China's trade surplus would continue unabated, with a continued accumulation of dollar claims by the private sector that would force successive appreciations of the yuan until the central bank was again forced to intervene and stabilize the rate at a much appreciated level. By then, expectations of ongoing appreciation and deflation in China would be firmly in place. That scenario could mimic what happened to Japan with its ever higher yen in the 1980s through the mid-1990s -- a deflationary slump, coupled with a zero interest liquidity trap and its "lost" decade of the '90s.

The bottom line is that China's central bank must carefully watch inflation and interest rates in the U.S. when formulating its own exchange-rate-based monetary strategy. Any exchange-rate changes against the dollar should be tightly controlled and gradual -- as with the appreciation over the past year.

A simple way to think about this is to use the long-run purchasing power parity (PPP) condition. This condition states that in the long-run the exchange rate is the ratio of the price level in each country, or E = P/P* where P is the U.S. price level, P* is China's price level, and E is the $/yuan exchange rate (a larger E is a depreciation in the dollar and an appreciation in the yuan, and yes, I know that there are problems with PPP).

Now, if E is fixed the U.S. can export its monetary policy to China. To see this, suppose that the U.S. inflation rate, i.e. the rate of increase in P, is 4%. Then P* must increase by 4% as well to keep E constant. Thus, the U.S. monetary policy of a 4% inflation rate must be adopted by China to maintain the fixed exchange rate and the U.S. has exported its policy to China. If China wants a zero inflation rate, then it must abandon a fixed exchange rate and let E  increase by 4% a year (which is an appreciation in the yuan of 4% per year) to match the increase in P. In that case P* = P/E would be constant.

Can't Go Home Again

Robert Reich wonders if he is being too cynical:

Katrina: Another Shameful Anniversary, by Robert Reich: Here's another story the press seems intent on disregarding, as does everyone else. Even though the national economy keeps growing, the number of impoverished Americans also keeps growing. About one out of four New Yorkers, for example, is living in poverty...

Before Katrina hit, about one in four residents of New Orleans was also living in poverty. Today, New Orleans’ poverty rate is much lower. But that’s not because it did anything New York or any other city should try to emulate. New Orleans lowered its poverty rate by having a flood that wiped out the homes of its poor, and then made it hard for them to ever come back.

More than half of the people who lived in New Orleans before Katrina have still not returned. The poor have no place to return to. Their former houses are in rubble. ... Poor neighborhoods ... are still devastated. Inexpensive housing, even rental housing, is hard to find.

It’s an old story, really. Areas of any town or city where the infrastructure is most ignored – like the Industrial Canal levee that burst on the morning of August 29 a year ago – have the lowest property values. So that’s where the poor live. When there’s a flood or a leak of toxic wastes or any other calamity, these places are the first to become uninhabitable. Which means, the poor often have to leave. Then the political and moral question is whether anyone cares enough to help them return and rebuild.

Sometimes cities actively try to get rid of their poorest citizens. Not long ago officials in Fall River, Massachusetts, tried to raze a low income housing project and not replace it with any other affordable housing. Other cities have been known to give the poor one-way bus tickets out of state.

But more often it’s a matter of simply doing nothing. Last September, President Bush promised more than sixty billion dollars for the first stages of getting New Orleans back on its feat. But he made that money contingent of the city of New Orleans developing a recovery plan. The mayor of New Orleans appointed a commission to do that, but nothing came of it. The congressman who represents New Orleans came up with a proposal but the White House rejected it. The New Orleans City Council tried to do something but it's been deadlocked. The governor of Louisiana appointed her own commission but it hasn’t come up with a plan, either.

A year after Katrina and there’s no plan to redevelop its poorest neighborhoods, no housing for the displaced, barely a trickle of money to help them. Could it be that there's no plan to bring back the poor to New Orleans because no one in power wants to bring them back? Or am I being too cynical?

Since the poor who used to live in New Orleans don’t have their own money to rebuild there, they’ll probably stay where they are now – in Houston or Dallas or Birmingham or Jackson, Mississippi. At least until those cities figure out how to reduce their own poverty rates and send the poor somewhere else.

Will the Boat Sink the Water?

When I post things about the economic, political, and social conditions in China, I'm often not sure I know enough to frame the article properly, i.e. whether it's an accurate description of China, an exaggerated account from some group for political purposes, a government controlled message, or what, and it makes it hard to evaluate what is written. I've never been there, only read and talked to people about it, so I have to trust I've chosen credible sources and rely on what I read and what people tell me. Because of that uncertainty, sometimes I just post things and hope to learn from the comments. What's your reaction? How general and accurate is this rather pessimistic description of life and the potential for progress in rural China?:

Tales from China’s farming frontline, by Richard McGregor, Book Review, Financial Times:

Will the Boat Sink the Water? The Life of China’s Peasants By Chen Guidi and Wu Chuntao translated by Zhu Hong Public Affairs, Perseus Books, New York

China’s national audit office announced a new code of conduct after a macabre incident last week, when one of its auditors died of “excessive drinking and eating” at banquets hosted by the local electricity bureau whose books he was screening. ... At first glance, this tragicomic scandal has little to do with China’s long-suffering farmers...

Chen and Wu’s book is a graphic exposé of the deprivations of rural communities, told through three years of research in Anhui, one of China’s poorest and most populous provinces. A series of hair-raising case studies features a cast of brutal, bullying officials who enrich themselves by stealing land and grain, and imposing ever more ridiculous taxes on already impoverished citizens. ...

Every tax must be paid down to the last penny. People who resist are beaten, arrested and imprisoned, sometimes for months without charge. One psychotic official, who was made village chief while on probation for embezzlement and rape, savagely murders a group of peasants who refused to bend to his will.

Villagers take their complaints to the police and to more senior levels of government... Some even make the expensive, risky journey to Beijing to petition, in time-honoured fashion, the imperial centre. Their efforts have little impact, which underlines the central point of the book.

The horrors of the countryside are not new in China; nor are promises from on high to remedy them. But as with the drunken accountant partying himself to death on the tab of his audit target, the real failure is the absence of accountability.

In Chen and Wu’s story, Beijing comes across as a centre of relatively enlightened officialdom, struggling not just to impose its will on the rowdy countryside but even to find out what is happening there in the first place.

China’s leaders have long acknowledged the deprivation of rural communities. Hu Jintao and Wen Jiabao, the present leadership duo, have made the issue a priority of their administration, abolishing with a flourish all agricultural taxes.

In this respect, Chen and Wu’s tales from the farming frontline are singularly on-message. But the accountability issue perhaps also explains how reaction to the book played out in Beijing in late 2003, when it was published in Chinese to great acclaim and then peremptorily banned.

After all, accountability cuts both ways. If local officials were to be held to independently enforced standards of governance and elections, the same strictures should surely apply to the higher-ups in Beijing.

China’s policymakers, however, need much more than just a dose of democracy to manage the immense challenges of the countryside. How, for example, do you peacefully and equitably move hundreds of millions of rural residents off the land and into cities, which is what China will have to do over coming decades?

About two-thirds of China’s 1.3bn people live in rural communities but for decades they have effectively been treated as second-class citizens, with their rights to move to urban areas sharply curtailed.

Then there is the issue of land ownership. Unlike in the cities, farmers cannot buy or sell their properties, only lease them. But officials can capitalise the value of rural land if they rezone it for commercial use, giving them a huge financial incentive to drive farmers from their properties.

Chen and Wu focus on another, less talked-about cause of the farmers’ woes – the multiple levels of government. They show how the decision to create township governments in the 1980s and give them the power to raise taxes has bred bloated and viciously self-interested bureaucracies.

Telling the truth about such injustices in all their horror is still not easy in today’s China. Chen and Wu recount the tale of one upright official who delivers bad news up the line about the parlous state of the local economy only to be consistently rebuffed.

Most grassroots officials survive and prosper by painting a rosy picture. They have a simple, survivalist credo – “No lies, nothing accomplished”. Chen and Wu express little optimism that the incentives that foster such chicanery will change in the near future.

More Wal-Mart

Here's a couple of follow-up items to the post about Wal-Mart. Both are from Ezra Klein at Tapped. His view is two-fold. First, it's not Wal-Mart, but what Wal-Mart represents that is the problem. Second, what Wal-Mart represents is a firm with excessive market power in input markets and it is using that power to suppress wages and payments to its suppliers. Because of its size and influence, that spills over to other sectors of the economy resulting in low wages and benefits generally, and difficult conditions for firms supplying goods to Wal-Mart or for firms trying to compete against it:

Wal-Mart: Round 2, by Ezra Klein, Tapped: Sebastian Mallaby's obtuse column about anti-Wal-Mart sentiment among Democrats offers me an opportunity to expand on some comments I made last week. Then, referring to a Jonah Goldberg column on the same subject, I said that "how to handle Wal-Mart is among the two or three most important issues facing the country." ...

Expensive Wal-Mart Flip-Flops

Sebastian Mallaby wonders why centrist Democrats have shifted their stance on globalization:

Shopping for Support Down the Wrong Aisle, by Sebastian Mallaby, Commentary, Washington Post: Once upon a time, smart Democrats defended globalization, open trade and the companies that thrive within this system. ... Then dot-bombs and Enron punctured corporate America's prestige, and Democrats bolted. Rather than hammer legitimately on real instances of corporate malfeasance -- accounting scandals, out-of-control executive compensation and the like -- Democrats swallowed the whole anti-corporate playbook.

To see the difference between then and now, just look at the Clintons. In the late 1980s and early 1990s, Hillary Clinton sat on Wal-Mart's board; and when Sam Walton died in 1992, Bill Clinton lauded him as "a wonderful family man and one of the greatest citizens in the history of the state of Arkansas.'' Campaigning in the New Hampshire primary that year, Bill Clinton came proudly to the rescue of a local company called American Brush Co. by helping it become a Wal-Mart supplier.

Times change. Last year Hillary Clinton returned a campaign contribution from Wal-Mart... The nation's most successful retailer, which has seized the opportunities created by globalization ... is now seen as too toxic to touch. ... Clinton is not alone... Joe Lieberman, who holds fast to his principles on the Iraq war, recently abandoned his centrist economic credentials by appearing at an anti-Wal-Mart rally. No matter that Lieberman once served as chairman of the business-friendly Democratic Leadership Council. ...

After Lieberman ... stepped down as chairman of the DLC, he was succeeded by Sen. Evan Bayh of Indiana. Well, Bayh recently showed up at an anti-Wal-Mart rally, too, as has Iowa Gov. Tom Vilsack, who is the current DLC chairman. ... Harry Reid, the Democrats' Senate leader, appeared at an anti-Wal-Mart event on Saturday, and Sen. Joe Biden and Gov. Bill Richardson popped up at earlier stops. ...

How can supposedly centrist Democrats defend this betrayal of their principles? Some claim that their beliefs are consistent, but that the company has changed: The Wal-Mart of the early 1990s mainly bought American, whereas today's irresponsible monster buys cheap stuff from China. But this argument merely illustrates how far Democrats have come. Since when did the party's centrists believe that trading with China is evil? It was the Clinton administration that brought China into the World Trade Organization.

Other Democrats reaffirm their centrist credentials while calling upon Wal-Mart to pay workers more. ... But the idea that Wal-Mart pays below-market wages is false. Otherwise nobody would work there. Hillary Clinton and Sen. John Kerry have attacked Wal-Mart for offering health coverage to too few workers. But Kerry's former economic adviser, Jason Furman of New York University, concluded in a paper ... that Wal-Mart's health benefits are about as generous as those of comparable employers. Moreover, Clinton and Kerry know perfectly well that market pressures limit the health coverage that companies can provide. After all, both senators have proposed expansions in government health provision precisely on the premise that the private sector can't pay for all of it.

The truth is that none of these Democrats can resist dumb economic populism. ...[T]he DLC crowd is pandering shamelessly to the left of the party... For a party that needs the votes of Wal-Mart's customers, this is a questionable strategy. But there is more than politics at stake. According to a paper for the National Bureau of Economic Research by Jerry Hausman and Ephraim Leibtag, neither of whom received funding from Wal-Mart, big-box stores led by Wal-Mart reduce families' food bills by one-fourth. Because Wal-Mart's price-cutting also has a big impact on the non-food stuff it peddles, it saves U.S. consumers upward of $200 billion a year, making it a larger booster of family welfare than the federal government's $33 billion food-stamp program.

How can centrist Democrats respond to that? By beating up Wal-Mart and forcing it to focus on public relations rather than opening new stores, Democrats are harming the poor Americans they claim to speak for.

I think the answer to the question of why centrist Democrats have shifted their stance on globalization is straightforward - the gains from globalization have not been shared equally. The claims made in the 1990s about the benefits of globalization have not been realized and it's no longer wise politically to assert that globalization will benefit typical households. With stagnant real wages and other economic problems such as declining health care coverage, Wal-Mart is an obvious and glaring symbol to many of the failed promises of globalization, and lower priced imported goods do not overcome the failed promises the symbol represents.

I continue to support global economic integration, I am not a Wal-Mart basher, and I think the anti Wal-Mart campaign is misplaced (though I do have concerns about the extent to which it exploits its market power in input markets). But I also think it is important for Democrats to acknowledge their role in pushing for globalization in the past, and show they understand that the very unequal benefits that globalization has brought about requires us to rethink how to protect the most vulnerable from its effects.

Paul Krugman: Broken Promises

Paul Krugman looks at the rebuilding effort in New Orleans, such as it is, one year later:

Broken Promises, by Paul Krugman, A Year Later Commentary, NY Times: Last September President Bush stood in New Orleans, where the lights had just come on for the first time since Katrina struck, and promised "one of the largest reconstruction efforts the world has ever seen." Then he left, and the lights went out again.

What happened next was a replay of what happened after Mr. Bush asked Congress to allocate $18 billion for Iraqi reconstruction. In the months that followed, congressmen who visited Iraq returned with glowing accounts of all the wonderful things we were doing there, like repainting schools and, um, repainting schools.

But when the Coalition Provisional Authority ... closed up shop nine months later, it turned out that only 2 percent of the $18 billion had been spent, and only a handful of the projects ... had even been started. In the end, America failed to deliver even the most basic repair of Iraq's infrastructure...

And so it is along our own Gulf Coast. The Bush ... plans a public relations blitz to persuade America that it's doing a heck of a job aiding Katrina's victims. But ... so far the administration has done almost nothing to make good on last year's promises. ...[E]ven the cleanup remains incomplete: almost a third of the hurricane debris in New Orleans has yet to be removed. And the process of going beyond cleanup to actual reconstruction has barely begun.

For example, although Congress allocated $17 billion ... primarily to provide cash assistance to homeowners, as of last week the department had spent only $100 million. The first Louisiana homeowners finally received checks ... just three days ago... Local governments, which were promised aid in rebuilding facilities such as fire stations and sewer systems, have fared little better... 

Apologists for the administration will doubtless claim that blame for the lack of progress rests not with Mr. Bush, but with the inherent inefficiency of government bureaucracies. That's the great thing about being an antigovernment conservative: even when you fail at the task of governing, you can claim vindication for your ideology.

But bureaucracies don't have to be this inefficient. The failure to get moving on reconstruction reflects lack of leadership at the top.

Mr. Bush could have moved quickly... But he didn't. As months dragged by with little sign of White House action, all urgency about developing a plan for reconstruction ebbed away.

Mr. Bush could have appointed someone visible and energetic to oversee the Gulf Coast's recovery, someone who could act as an advocate for families and local governments... But he didn't. How many people can even name the supposed reconstruction "czar"?

Mr. Bush could have tried to fix FEMA, the agency ... he destroyed through cronyism and privatization. But he didn't. FEMA remains a demoralized organization, unable to replenish its ranks: it currently has fewer than 84 percent of its authorized personnel.

Maybe the aid promised to the gulf region will actually arrive some day. But by then it will probably be too late. Many former residents and small-business owners, tired of waiting for help that never comes, will have permanently relocated elsewhere; those businesses that stayed open, or reopened after the storm, will have gone under for lack of customers. In America as in Iraq, reconstruction delayed is reconstruction denied - and Mr. Bush has, once again, broken a promise.

_________________________
Previous (8/25) column: Paul Krugman: Housing Gets Ugly
Next (9/1) column: Paul Krugman: The Big Disconnect

Flying Globalized Geese and Lumpy Golden Eggs

More from Jackson Hole on attempts to better understand the forces and consequences of globalization:

Policymakers fear ‘lumpy’ growth may not benefit all, by Krishna Guha, Financial Times: ...This year no fewer than 20 central bank governors, ... plus other senior officials ..., made the pilgrimage to the Fed’s annual Jackson Hole gathering. ...[T]he ... group discussed the defining force of our time: globalisation.

Like businesspeople and investors, central bankers are struggling to keep pace with rapid changes in global economic activity. They listened as some of the world’s leading academic economists presented research offering insights into how globalisation works. But even those speaking admitted that the process, its likely outcomes and its demands on policy remain imperfectly understood.

Should the Fed Focus on Core Inflation or Headline Inflation?

Charles Bean says central banks are mistaken to focus on core inflation rather than headline inflation in their policy deliberations:

BoE hits at US inflation measure, by Krishna Guha in Jackson Hole, Financial Times: The US Federal Reserve is wrong to focus on core measures of inflation that exclude energy prices, Charles Bean, chief economist at the Bank of England, has suggested.

It should focus instead on headline inflation, which is much higher... Including energy and food costs, US consumer price inflation is running at an annual rate of 4.1 per cent, against 2.7 per cent for core inflation.

Kudlow Needs Help with the Phillips Curve

Cactus, writing at Angry Bear, takes on Kudlow's latest at the NRO and his claims about tax cuts and the budget deficit. It's the usual from the NRO crowd, cut taxes and the world will be wonderful. Cactus notes

Kudlow ends his post with the words: “I don’t get it.” Well, I agree with him about something.

Separately in an email PGL, who is busy today (update: he found some time), notes the following statement from Kudlow and encouraged me to comment:

Let's start with the Fed's goofy sacrifice ratio, which basically refers to how much unemployment has to go up in order to bring inflation down. I call this economic garbage the "Phillips curve in drag," because over the last 25 years, unemployment and inflation have actually moved in tandem and they have both moved down. In other words, as inflation slows, unemployment comes down because the economy is strong. (If you look at their relationship during the 1970s, you would see unemployment and inflation both moving higher.) The fact is, strong growth coexists rather nicely with low inflation. And since inflation is too much money chasing too few goods, then if you're producing more goods that absorb the money supply, especially with low tax rates to produce more goods, then why should we fear growth?"

Okay, I'll bite.

Affordable Housing

A downside of high housing prices - unaffordable housing for low and middle class families:

The Housing Crisis Goes Suburban, by Michael Grunwald, Washington Post: ...Seventy years after President Franklin D. Roosevelt declared that the Depression had left one-third of the American people "ill-housed, ill-clothed and ill-nourished," Americans are well-clothed and increasingly overnourished. But the scarcity of affordable housing is a deepening national crisis, and not just for inner-city families on welfare. The problem has climbed the income ladder and moved to the suburbs, where service workers cram their families into overcrowded apartments, college graduates have to crash with their parents, and firefighters, police officers and teachers can't afford to live in the communities they serve.

Homeownership is near an all-time high, but the gap is growing between the Owns and the Own-Nots -- as well as the Owns and the Own-80-Miles-From-Works. One-third of Americans now spend at least 30 percent of their income on housing, the federal definition of an "unaffordable" burden, and half the working poor spend at least 50 percent of their income on rent, a "critical" burden. The real estate boom of the past decade has produced windfalls for Americans who owned before it began, but affordable housing is now a serious problem for more low- and moderate-income Americans... Yet nobody in national politics is doing anything about it -- or even talking about it.

For most of the past 70 years, housing was a bipartisan issue. In recent decades, its association with urban poverty made it more of a Democratic issue. But now it is simply a nonissue. The current crunch falls hardest on renters in Democratic-leaning cities and metropolitan areas, but Democrats have ignored the issue as resolutely as Republicans. ...

"Even 10 years ago, that would have been unimaginable," says Ron Utt of the conservative Heritage Foundation. "But now the problems are so much worse, and nobody cares. . . . I find myself on panels where I'm the token conservative, and I'm the one asking: Doesn't anyone care about affordable housing?" ...

Overall, the number of households receiving federal aid has flatlined since the early 1990s, despite an expanding population and a ballooning budget. ... Today, for every one of the 4.5 million low-income families that receive federal housing assistance, there are three eligible families without it. ... It sounds odd, but the victims of today's housing crisis are not people living in "the projects," but people who aren't even that lucky. ...

The root of the problem is the striking mismatch between the demand for and the supply of affordable housing -- or, more accurately, affordable housing near jobs. ... [W]orkers are enduring increasingly long commutes from less expensive communities, a phenomenon known as "driving to qualify."... This creates all kinds of lousy outcomes -- children who don't get to see their parents, workers who can't make ends meet when gas prices soar, exurban sprawl, roads clogged with long-distance commuters emitting greenhouse gases. ...

Moderate-income families aren't able to buy Lamborghinis or Armani, but they can buy cars and clothes. So while it's obvious why they can't afford McMansions, it's not so obvious why they can't afford decent housing. They demand it. Shouldn't the market supply it?

The answer is yes. But in many communities, local regulations have stifled multifamily housing and even modest single-family housing. Minimum lot requirements, minimum parking requirements, density restrictions and other controls go well beyond the traditional mission of the building code and end up artificially reducing the development of safe, affordable housing.

The unfashionable but accurate term for these restrictions is "snob zoning." Suburbanites use them to boost property values by keeping out riffraff -- even the riffraff who teach their kids, police their streets and extinguish their fires. Urbanites are susceptible to the same NIMBY impulses, often couched as opposition to "traffic congestion" or "overdevelopment" or protection of the neighborhood's "character." It's easy to support affordable housing in someone else's neighborhood...

Los Angeles is considering a bond issue that would create 1,000 units of affordable housing -- small comfort to those 620,000 families in overcrowded apartments. Economist Christopher Thornberg notes that California's private market added 120,000 urban rental units in 1987; in the first half of 2006, the total was just 232. The main obstacle, Thornberg concludes, is "the intransigence of local zoning boards."

In other words, the best thing local officials can do to promote affordable housing is to get out of the way -- stop requiring one-acre lots and two-car garages, and stop blocking low-income and high-density projects.

Washington politicians ... have the federal budget at their disposal. But Congress hasn't supported new construction since the Low-Income Housing Tax Credit of 1986, which creates nearly 100,000 units of affordable housing a year, enough to replace half the units that are torn down or converted to market rents. Bush proposed a home-ownership tax credit during his 2000 and 2004 campaigns, but it turned out to be the rare tax cut he didn't pursue. ... The only affordability ideas with any traction at the national level are not really housing ideas; for example, one way to make housing more affordable to workers would be to raise their incomes -- through higher minimum wages, lower payroll taxes or an expanded Earned Income Tax Credit. ...

Eventually, politicians may rediscover housing -- not as an urban poverty issue, but as a middle-class quality-of-life issue, like gas prices or health care. Homeownership is often described as the American dream, but these days many workers would settle for a decent rental that won't bankrupt their families.

Cheers to Jeers

The cheerleading for the administration is mostly over. The Washington Times reviews recent statements on the budget, employment, and wages that undermine the administration's credibility:

The budget (credibility) gap, Editorial, Washington Times: Ever since the White House Office of Management and Budget (OMB) issued its Mid-Session Review last month, the administration has been doing cartwheels celebrating the fact that the budget deficit for fiscal 2006 ... will be less than $300 billion. ...

Notes from Jackson Hole

The Wall Street Journal's Washington Wire reports from the annual Fed symposium at Jackson Hole:

Policy and Income Inequality

Dean Baker weighs in on the dispute over the sources of income inequality  (original Krugman article, follow up email, DeLong summary, Mankiw response) :

Income Inequality: Missing Mechanisms, by Dean Baker: There has been a raging blog debate, following in the wake of some recent Paul Krugman columns, as to whether the rise in income inequality is due to policy or the natural workings of the economy. While Krugman indicated that he believed the policy view (promising details later), many of the economists weighing in have said that they don't see any policy mechanism(s) that could explain the rise in inequality.

Perhaps I have different eyes (or maybe I don't have sufficient training in economics), but I see the mechanisms almost everywhere. There is a nice example in the news today. A judge ruled that Northwest's flight attendants can't go on strike to oppose the wage cuts that the airline is unilaterally imposing following in the wake of its bankruptcy.

In other words, a U.S. judge is telling workers that they will go to jail if they refuse to work for the wages that Northwest wants to pay them. (I know, I'm skipping some steps here.) Judges don't have to threaten workers with jail for refusing to agree to employers' demands. This is a policy decision.

For those who find the labor-management framework difficult to understand, imagine that Northwest purchased flight attendant services from the Flight Attendant Services Corporation (FASC), which is a corporation wholly owned by the workers it employs. Suppose that FASC tells Northwest that it will not provide services for the lower fee it is now offering. Would any judge threaten FASC with jail if it didn't agree to offer its services on Northwest's terms?

There are many other examples of rulings that have gone against labor in the last quarter century. For practical purposes, it is now legal to fire workers for organizing a union (the penalties are a joke). This is not the whole policy story; I have much more in my book, The Conservative Nanny State. It's short and free (and the summary is even shorter), so you have no excuse not to read it, unless you want to remain as ignorant as an NPR reporter your whole life.

Update: If "My sense" is a valid econometric estimator, then Brad DeLong believes 40% (one fifth plus two tenths) of income inequality is attributable to changes in policy and power relationships:

I agree with Dean: this is a bad decision. ... This is a judge who is not doing his job properly. But in a big country this is a (relatively) little decision. My sense (and it is just a guess) is that declining unionization and union power might account for perhaps a fifth of the widening in income inequality; that reductions in the value of the minimum wage might account for a tenth; and that legal changes that have shifted the balance of power within the corporation toward CEOs might account for another tenth. I have a hard time finding other policy changes that have a big impact--and only a portion of declining unionization and union power is due to changes in government policy since the 1970s.

Brad says "it is just a guess," so, with "My sense" plus or minus two wetware standard errors, my sense is that this could account well over half of the variation in income inequality.

Update: An email talks about the econometric evidence that does exist:

I'd add that estimates based on the union-nonunion wage differential, or on the time series effects of local changes in union density, aren't reliable ways of inferring the effects of a change from an economy in which unions are marginal to one in which they're dominant and back again.

Incremental versus Wholesale Health Care Reform

This discusses the argument that when it comes to health care reform, "things have to get worse before they get better" and whether reform should be incremental:

What Would Lenin Do?, by Maggie Mahr, American Prospect: While some progressives applaud efforts to force employers like Wal-Mart to take on greater responsibility for health care, others argue that our employer-based health care system is a failing relic of the past and that such gambits are actually counterproductive. Rather than trying to shore up our employer-based system, they say, we should seek to capitalize on that system's mounting woes to build support for replacing it with national health insurance. Call it the Leninist road to universal health care -- things have to get worse before they get better.

Chicago’s recent decision to pass a “living wage” ordinance that would require big-box retailers to pay $3 an hour in benefits has revived that debate. Last week, the Prospect's own Ezra Klein offered quotes from labor leader Andy Stern to buttress his own argument against efforts like Chicago's. ... Klein argued that we need wholesale reform -- that is, national health insurance. “Progressives are, or at least should be, engaged in a longer-term project of creating a better, more just society for everyone, regardless of employment status.”

Labor lawyer and blogger Nathan Newman wasn't impressed:

Talk is Cheap, But is it Informative?

Jeremy Piger reviews research on the reaction of financial markets to non-quantitative written and oral Fed communications, and, separately, provides estimates of recession probabilities for the U.S.:

Is All That Talk Just Noise?, by Jeremy Piger, Monetary Trends, August 2006, FRB St. Louis: Announcements by the Federal Reserve regarding its target value for the federal funds rate garner substantial attention from the media and participants in financial markets. Indeed, there is evidence that the “news” in these announcements, or the deviation of the targeted funds rate from market expectations, affects the price of assets traded in various financial markets, most notably those for equities and bonds.

In recent years, however, communication from the Federal Reserve has increasingly included ... many forms of non-quantitative communication: that is, the written statement released following meetings of the Federal Open Market Committee; testimony by Federal Reserve officials, particularly the Chairman, before Congress; and speeches made by Federal Reserve governors and regional Reserve Bank presidents. I discuss ... whether this large amount of written and verbal communication is also deemed important by market participants for valuing financial assets. This would be the case if buyers and sellers believed that Federal Reserve talk was informative about the direction of future policy... In addition, market participants may value Federal Reserve talk if they believe it conveys some new information about the state of the economy.

Drug Law Madness

I agree with this. Our drug policy, marijuana law in particular, is drug law madness:

The Czars’ Reefer Madness, by John Tierney, Commentary, NY Times:  ...White House drug ... czars have ... called Dutch drug policy “an unmitigated disaster,” bemoaning Amsterdam’s “stoned zombies” and its streets cluttered with “junkies.” Anti-pot passion has only increased in the Bush administration, which has made it a priority to combat marijuana. ... The Bush administration can’t even abide it being used for medical purposes by the terminally ill. Why risk having any of it fall into the hands of young people who could turn into potheads, crack addicts and junkies?

But if America’s drug warriors came here, ... [a]nd if they talked to Peter Cohen, a Dutch researcher..., they would discover something... Even though marijuana has been widely available since the 1970’s, enough to corrupt a couple of generations, the Netherlands has not succumbed to reefer madness.

The Dutch generally use drugs less than Americans do, ... (and ... surveys might understate Americans’ drug usage, since respondents are less likely to admit illegal behavior). More Americans than Dutch reported having tried marijuana, cocaine and heroin. Among teenagers who’d tried marijuana, Americans were more likely to be regular users.

In a comparison of Amsterdam with another liberal port city, San Francisco, ... people in San Francisco were nearly twice as likely to have tried marijuana. Cohen isn’t sure exactly what cultural and economic factors account for the different usage patterns..., but he’s confident he can rule out one explanation.

“Drug policy is irrelevant,” says Cohen, the former director of the Center for Drug Research at the University of Amsterdam. ... The good news about drugs, Cohen says, is that the differences between countries aren’t all that important — levels of addiction are generally low in America as well as in Europe. The bad news is that the occasional drug fad get hyped into a crisis that leads to bad laws.

“Prohibition does not reduce drug use, but it does have other impacts,” he says. “It takes up an enormous amount of police time and generates large possibilities for criminal income.”

In the Netherlands, that income goes instead to coffee-shop owners and to the government, which exacts heavy taxes. It also imposes strict regulations ..., including who can be served (no minors) and how much can be sold (five grams to a customer). ...

Raskam [the creator of the award-winning marijuana blend named “Arjan’s Haze,”] sneers at the street products in the United States, which he considers overpriced and badly blended. But he acknowledges there’s one feature in the American market he can’t compete with.

“Drugs are just less interesting here,” he said. “One of my best friends here never smoked cannabis, never wanted to even try my products. Then when she was 32 she went to America on holiday and smoked for the first time. I asked her why, and she said, ‘It was more fun over there. It was illegal.’ ”

The Difference in Saving Rates between China and the U.S.

Robert Shiller explains the difference in saving rates between China and the U.S.:

Growth rate gulf result of opposite approach to saving, by Robert Shiller, Project Syndicate: The saving rate in China is the highest of any major country. China's gross saving rate ..., which includes both public and private saving, is around 50 percent.

By contrast, the saving rate in the United States is the lowest of any major country - roughly 10 percent of GDP. Differences in saving rates must be a major reason that China's annual economic growth rate is a full six percentage points higher than in the US. ... Unfortunately, explaining saving rates is not an exact science.

Ingrained habits probably explain more about China's saving rate. When incomes are growing rapidly, as they are in China, it is easier to save because people are not yet accustomed to a higher standard of living. They also tolerate enterprise or government policies that encourage high saving.

37 Charts – In No Particular Order

Tim Duy wants help with his homework:

37 Charts – In No Particular Order, by Tim Duy David Altig discusses the challenge macroeconomists face as they aggregate a dizzying array of economic data into a coherent story:

To put it straight, I harbor no illusions about the state of the residential housing market. But I am a macroeconomist -- and one primarily engaged in thinking about national economic monetary and fiscal policies at that -- so my tendency is to focus on the trajectory of the entire economy. In the best of times there are some sectors of the economy that struggle, and it is not clear that these are the appropriate objects of policy.

How much emphasis should we place on the housing sector?

Bernanke: A Short History of Global Economic Integration

Ben Bernanke opens the Fed conference at Jackson Hole with a discussion about economic integration. The talk has two sections, the history of economic integration, and the current episode of economic integration. Once conclusion from the history section is that, while economic integration is beneficial overall, the costs are not shared equally:

A third observation is that social dislocation, and consequently often social resistance, may result when economies become more open. An important source of dislocation is that--as the principle of comparative advantage suggests--the expansion of trade opportunities tends to change the mix of goods that each country produces and the relative returns to capital and labor. The resulting shifts in the structure of production impose costs on workers and business owners in some industries and thus create a constituency that opposes the process of economic integration. More broadly, increased economic interdependence may also engender opposition by stimulating social or cultural change, or by being perceived as benefiting some groups much more than others.

His quote of Martin Luther from 1524 is one illustration of this:

Post-War Reconstruction and Reconciliation

This argues, rightly I think, that post-war reconstruction must begin with reconciliation and stabilization as primary goals, it cannot be "development as usual":

The Rules of Reconstruction, by Graciana del Castillo, Project Syndicate: ...[A]ccording to the UN and several independent studies, countries in transition from war to peace face roughly a 50% chance of sliding back into warfare. ...

When wars end, countries confront a multi-pronged transition. Violence must give way to security for inhabitants; lawlessness and political exclusion must give way to the rule of law and participatory government; ethnic, religious, or class/caste polarization must give way to national reconciliation; and ruined war economies must be transformed into functioning market economies that enable ordinary people to support themselves.

These multiple tasks make economic reconstruction fundamentally different from “development as usual.” To succeed, the transition to peace requires demobilization, disarmament and reintegration of former combatants, as well as reconstruction and rehabilitation of services and infrastructure.

Paul Krugman: Housing Gets Ugly

Paul Krugman, like Tim Duy and Calculated Risk, is thinking about Eeyore:

Housing Gets Ugly, by Paul Krugman, Commentary, NY Times: Bubble, bubble, Toll’s in trouble. This week, Toll Brothers, the nation’s premier builder of McMansions, announced that sales were way off, profits were down, and the company was walking away from already-purchased options on land for future development.

Toll’s announcement was one of many indications that the long-feared housing bust has arrived. Home sales are down sharply; home prices ... are now falling in much of the country. The inventory of unsold existing homes is at a 13-year high; builders’ confidence is at a 15-year low.

A year ago, Robert Toll, who runs Toll Brothers, was euphoric about the housing boom... In a New York Times profile ... published last October, he dismissed worries about a possible bust. “Why can’t real estate just have a boom like every other industry?” he asked. “Why do we have to have a bubble and then a pop?”

The current downturn, Mr. Toll now says, is unlike anything he’s seen: sales are slumping despite the absence of any “macroeconomic nasty condition”... He suggests that unease about the direction of the country and the war in Iraq is undermining confidence. All I have to say is: pop!

Now what? Until recently most business economists were predicting a “soft landing” for housing. Even now, the majority opinion seems to be that we’re looking at a cooling market, not a bust. But this complacency looks increasingly like denial, as hard data — which tend ... to lag what’s actually going on ... — start to confirm anecdotal evidence that it is, indeed, a bust.

Why the sudden crackup? ...[W]ith prices falling in many areas, the speculative demand for houses has gone into reverse, as people try to get out with a profit while they still can. There’s now a rapidly growing glut of unsold houses. This is a recipe for a major bust, not a soft landing.

Moreover, it could be both a deep and a prolonged bust. Since 2000, much of the nation has experienced a rise in home prices comparable to the boom in Southern California during the late 1980’s. After that bubble popped, Los Angeles house prices began a slow, grinding deflation, eventually falling 20 percent (34 percent after adjusting for inflation). Prices didn’t begin a sustained recovery until 1996, more than six years after the downturn began.

Now imagine the same thing happening across a large part of the United States. It’s an ugly picture, and not just for people and companies in the construction business. Many homeowners — especially those who bought their houses with interest-only loans or with minimal down payments — will find themselves in financial distress. And the economy as a whole will take a hit.

As far as I know, Nouriel Roubini of Roubini Global Economics is the only well-known economist flatly predicting a housing-led recession in the coming year. Most forecasters consider his call alarmist, and many Federal Reserve officials remain optimistic. Last week, Richard Fisher, the president of the Federal Reserve Bank of Dallas, dismissed “Eeyores in the analytical community” who worry about a possible recession.

Call me Eeyore. While I don’t share Mr. Roubini’s certainty, I see his point: housing has been the main engine of U.S. economic growth over the past three years, and with that engine now going into reverse, it’s hard to see how we can avoid a serious slowdown.

Update: In Money Talks, Krugman adds:

Just a wonkish note about how bad the macroeconomics of all this could be:

If you look at the most leading of the indicators on housing, stuff like new home sales and applications for permits, they're off more than 20 percent from a year ago. If that translates into an equivalent fall in residential investment, we're talking about a fall from 6 percent of the G.D.P. to 4.8 percent. And this may be only the beginning; I wouldn't be surprised to see housing investment drop below its pre-bubble norm of 4 percent of G.D.P., at least for a while.

Add to this the likely effect of a housing bust on consumer spending and you've got a direct hit to G.D.P. of, say, 2.5 percent or more. That's bigger than the slump in business investment that led to the 2001 recession. And the main reason the 2001 recession wasn't as deep as some feared was that the Fed was able to engineer... a housing boom. What will the Fed do this time?

Maybe rising business investment and a declining trade deficit will soften the blow. But it's remarkably easy, playing with the numbers, to come up with scenarios in which the unemployment rate rises above 6 percent by the end of 2007. That's not a prediction, but it's well within the range of possibility.

_________________________
Previous (8/21) column: Paul Krugman: Tax Farmers, Mercenaries and Viceroys
Next (8/28) column: Paul Krugman: Broken Promises

Fed Watch: More Data Watching

Tim Duy reviews the latest housing data and the Fed's reaction to it in a Fed Watch:

More Data Watching, by Tim Duy: The recent spate of housing data confirms the anecdotal evidence – while there may be some pockets of resistance, the national housing market is quickly reversing course.  Still, as I noted earlier this week, the Fed’s reaction to date appears to be muted. How long will they maintain such a complacent posture?  In general, I think the answer is:  Longer than you might expect.

The key, of course, is to what extent housing undermines the rest of the economy.  I think there is little debate that the first impact (outside of residential investment) will be on the consumer, although the Wall Street Journal appears to believe we are still kicking this around:

Party Identification by Age

Interesting graph on political party identification by age:

This was posted in response to an article about differing fertility rates for Republicans and Democrats (e.g. see here). More details from the Statistical Modeling, Causal Inference, and Social Science blog here and here (original Pew Center report). The Statistical Modeling blog says:

Peak Republican age is about 46--that's a 1960 birthday, meaning that your first chances to vote were the very Republican years of 1978 and 1980, when everybody hated Jimmy Carter.

Shut Your Eyes and Claim Victory

Robert Reich says welfare reform is not the success you might have heard about. There are serious flaws in the current rules for welfare that have been overlooked or ignored in the rush to praise the reform effort:

Welfare Deform -- A Sad Anniversary, by Robert Reich: I'm baffled by the way the press has covered the tenth anniversary (this week) of Bill Clinton's welfare reform -- full of praise for a policy that has led to more poverty in America among single mothers and their children than before. I keep reading that welfare reform succeeded because welfare rolls were reduced. Of course they were reduced. People were kicked off welfare. How could they not be reduced?

To be sure, the economy of the late 90s was so strong that many who were kicked off found jobs. Remember, between 1995 and 2000, some 14 million new jobs were added to the U.S. economy. That was because Alan Greenspan allowed the economy to grow fast, thereby pushing the official rate of unemployment down below 4 percent. In many cities, employers had to troll for workers -- which meant a lot of people who otherwise could never find or keep a job landed and maintained one, and at a wage above the minimum.

But that was then. Now is now.

Foundations of Productivity

I had to have my water heater replaced today, so I might be overly sympathetic to this message. My house is at that age where the roof, water heater, furnace, etc., that came with it when it was new begin to fail and it takes fairly big investments to replace them.

This article argues that the US is at a similar position in the life of its capital, i.e. that the roads, bridges, power plants, dams, ports, airports, electricity networks, sewage systems, and so on, most of which were built 50-75 years ago, are all showing signs of wear or inadequate capacity and are in need of replacement, expansion, or substantial maintenance. The question is how to summon the political will to address these needs with all the other pressing budget issues:

Things Fall Apart: Fixing America’s Crumbling Infrastructure, by Nicholas Kulish, Commentary, NY Times: Whether it’s the roads we drive on, the pipes carrying our water, or the power lines humming with the electricity..., America’s physical networks are falling apart.

Human Development Trends

From a colleague in response to a discussion on bimodal income distributions in East Asia and South Asia (thanks Shankha), this is an interesting animation on world poverty, income distributions, and health:

Animation on Human Development Trends

If that doesn't work, go to Human Development Reports, then click on the link "HD in Animation" on the RHS column (under HDR2005).

There is all sorts of interesting information, and it's very well done.

The Characteristics of Migrant Workers from Mexico

A Reaction Essay in Cato Unbound on the issue of immigration from Mexico. This is a reaction to this essay (posted here) by Richard Rodriguez:

Seeing Mexican Immigration Clearly, by Douglas S. Massey, Reaction Essay, Cato Unbound: Richard Rodriguez is an essayist in the humanist tradition and thus comments on the cultural meaning of Mexican immigration and the symbolic importance of Mexicans in American society. As a student of culture myself, I concur with his emphasis on cultural meanings and symbols in the current debate. ...

Despite my appreciation for the cultural ramifications of Mexican immigration, I am a social scientist and ultimately believe that accurate understanding needs to be grounded in empirical reality. In 25 years of research on a variety of public policy issues, I have never seen so much misinformation.... Thanks to the media and political entrepreneurs, Mexican immigrants are routinely portrayed as a tidal wave of human beings fleeing an impoverished, disorganized nation who are desperate to settle in the United States, where they will overwhelm our culture, displace our language, mooch our social services...

This profile, however, bears no discernible relationship to the reality that I know as a social scientist.

Locking Up the Social Security Trust Fund

The Washington Times says the public favors Social Security reform to lock up the trust fund by an overwhelming margin:

Social Security reform, by Gary J. Andres, Commentary, Washington Times: Social Security reform ... crashed last year on the rocks of hyper-partisanship... [S]everal important lessons emerged from an otherwise dark cloud of defeat. Doing "something" on the Social Security issue before Congress adjourns could build congressional credibility in this important area of reform...

Fed Watch: Finally – Some FedSpeak

Tim Duy with his latest Fed Watch:

Finally – Some FedSpeak, by Tim Duy: Presumably, the Fed remains data dependent. Market participants, however, largely don’t see it that way. Increasingly, the view is that the Fed is done – as of today, odds for another rate hike in September stand south of 20%, and, with rates on the 10 year Treasury drifting to 4.8%, it looks like the mood has firmly swung to an expectation that the next shift in policy will be a rate cut. I doubt the Fed is ready to admit victory on the inflation front so quickly, last week’s CPI and PPI numbers not withstanding. Nor, as we have seen from recent Fedspeak, are they ready to embrace the recession story. But the slowdown in consumer spending is likely weighing heavily on their thoughts. Heavily enough that they will hold rates steady in September, while still signaling their inflation unease.

Recent Fedspeak is best described as minimal. Last week Dallas Fed President Richard Fisher stepped up to the podium, but revealed little new in Fed thinking, simply noting the tight spot between accelerating inflation and slower growth. The only new information one could glean from his speech was when he described recession-minded analysts as “Eeyores.” Such a dismissive remark can only suggest that the idea of a rate cut is furthest from his mind. That said, Fisher’s “eighth inning” remark lingers in everyone’s minds – perhaps the best strategy is to bet against Fisher, and side with the “Eeyores.” Similarly, Calculated Risk takes on Fisher’s optimistic view of the Texas housing market.

More interesting were Chicago Fed President Michael Moskow’s hawkish sounding remarks on Tuesday. Here there was a clear message: Pause does not mean done. Simply put, Moskow still sees the risks of high inflation as greater than slower growth. I can’t say I find this as a surprise, considering that Moskow sees the evolving slowdown as incredibly mild with growth sliding comfortably back to potential. Also note that he reiterates his view that potential growth is consistent with a monthly NFP gain of just 100k, and that he dismisses signs of weakness in the second quarter GDP report as “due to transitory and one-off events, such as the timing of shipments in transportation and communications equipment.” And he sounds very complacent about housing, much to CR’s displeasure. Like Fisher, Moskow is not ready to buy into the Eeyore story – keep this in mind, as I suspect the Fed will be the last people to believe the economy has turned uncomfortably slow.

On the inflation front, Moskow says something intriguing:

About That Environmental Kuznets Curve...

Andrew Leonard at Salon reviews research raising questions about the environmental Kuznets curve:

Outsourcing pollution The richer they are, the cleaner they get?, by Andrew Leonard, Salon: ...In 1990 Taiwan passed a law requiring catalytic converters on new cars and motorcycles. In the intervening years, concentrations of ... carbon monoxide, NO2, and assorted airborne particulates, have decreased. A loud and vigorous environmental movement, growing in step with Taiwan's thriving economy, has also asserted itself. Accordingly, Taiwan would seem to offer excellent proof of a concept known in economics as the "Environmental Kuznets Curve" or EKC.

The EKC holds that there is a bell-shaped, "inverted U" curve describing the relationship between a society's economic growth and the problem of environmental degradation. Simply put, at early stages of growth, environmental degradation gets worse, but as citizens get richer, things start to get better. ... So if we could just achieve economic growth all over the world, then voilà, environmental despoilation would diminish.

But alas, life doesn't seem to be so simple. The New Economist today highlighted another blog Natural Capital, specializing in environmental economics and written by Robert Metcalfe, a graduate student at the London School of Economics. In his most recent post, Metcalfe summarizes a recent paper that finds evidence for the EKC to be "fragile," if it exists at all.

The new paper states that the validity of the EKC has become the most investigated topic in environmental economics... At first, scads of studies found evidence supporting the EKC relationship. But in recent years the idea has come under concerted assault. A few points stand out.

First, it makes a big difference what pollutants you study. There is clear evidence that airborne particulate matter declines steadily with income growth, and pretty good evidence that pollutants like NO2, carbon monoxide and sulfur dioxide fit neatly into EKC models. But the correlation is much less clear when investigating things like deforestation or carbon dioxide emissions. The quick and dirty rule seems to be that if you can't see it or smell it in your local urban neighborhood, then, no matter how rich you are, you aren't going to do much about it.

Second, the early work demonstrating supposed EKC relationships did not take into account the impact of globalization. The industrialized world may have succeeded in cleaning up its own act (relatively speaking) simply by exporting the dirtiest industries abroad. So, in a global context, nothing really improved: The impact of pollution was simply outsourced. This holds ... true for Taiwan... If there has been improvement in Taipei's air quality over the past decade, it just happened to come at precisely the period during which Taiwan moved most of its nastiest manufacturing industries across the Taiwan Straits to China. ...

It would be nice to hope that new technologies could help China and other nations leapfrog the mistakes that their predecessors made, but such solutions are expensive. The troubling truth may be that ultimately it will be harder for the poorer nations to follow the same trajectory as the developed world, because with nowhere left to export their pollution, they'll have to fix it themselves. And the price won't be cheap.

Learning About Rational Expectations Solutions

This paper by Bennett McCallum extends the work of a colleague, George Evans, on the least-squares learnability of rational expectations solutions. Rational expectations models require agents to understand how to calculate the solution to the model, but that is a very complicated mathematical problem so it is unclear how agents accomplish this task. The question in this work is whether agents can use simple linear learning rules (linear regressions) to learn about the complicated rational expectations solutions.

The paper shows that previous results of Evans and Honkapohja (and others) on the types of models that are learnable pertain to a broad class of models, broader than many might have suspected from the original work. This is important because, as McCallum argues, "learnability (and thus E-stability) should be regarded as a necessary condition for the relevance of a RE equilibrium" and this broadens the class of such models.

Since I don't expect many of you will be interested in wading through the paper which is necessarily technical, or even the introduction, let me highlight the part of the discussion on the relevance of RE equilibria.

Remember that, in RE models, agents are assumed to be able to calculate the solution. Suppose we give agents an ideal learning environment, i.e. they use the correct model, correct estimator, the structure is invariant, and so on. In such an idealized world, if agents cannot learn the RE equilibrium, then it is very unlikely they would be able to learn about it in a more complicated set-up. This helps us determine which models are useful representations of the economy. Models with RE solutions that cannot be learned in an ideal world are generally uninteresting and can be set aside:

The position that learnability (and thus E-stability) should be regarded as a necessary condition for the relevance of a RE equilibrium begins with the presumption that individual agents must somehow learn the magnitudes of parameters describing the economy’s law of motion from observations generated by the economy; they cannot be endowed with such knowledge by magic. Of course any particular learning scheme might be incorrect in its depiction of actual learning behavior.

But in this regard it is important to note that the LS learning process in question assumes that (i) agents are collecting an ever-increasing number of observations on all relevant variables while (ii) the structure is remaining unchanged. Furthermore, (iii) the agents are estimating the relevant unknown parameters (iv) with an appropriate estimator (v) in a properly specified model. Thus if a proposed RE solution is not learnable by the process in question—the one to which the E&H results pertain—then it would seem highly implausible that it could prevail in practice...

While I'm discussing colleagues, I also want to welcome the newest member of our Department, Jeremy Piger, mentioned today by Jim Hamilton in his discussion of the debate over business cycle dating that came in response to a question from Greg Mankiw, among others. I'm pretty happy to have Jeremy as a colleague. Here's the introduction to McCallum's paper:

Economists and Their Values

I haven't posted at Environmental Economics for a while, and this actually reverses the flow by posting their stuff here. Oh well. This discusses a disconnect between the public and economists on public policy issues, environmental policy in particular:

Putting Our Values On The Table, by J.S.: The myriad theories that underlie the ever-expanding field of economics are essentially positive in nature; they are descriptive and subject to hypothesis testing. ...

However, as soon as we enter the world of public policy, economic models and their implications are riddled with normative assumptions. Much of the distrust that many environmentalists have towards economics is based on their belief that economists often hide their value judgments behind highly complex mathematical models, instead of being forthright about their normative assumptions. I think there is some truth to this.

Some examples of areas where normative elements are unavoidable in economic analysis are the following:

Misremembering Welfare's Dismembering

According to Ezra Klein, welfare reform wasn't the bi-partisan cooperative effort that Bill Clinton remembers in his New York Times commentary. Whatever you think of the outcome, it was a battle every step of the way:

Bill's Misremembered Bipartisanship, by Ezra Klein, Tapped: Far be it for me to criticize Bill Clinton ..., but his op-ed today is just nuts. Celebrating welfare reform's better-than-expected results, he generously concludes that "[r]egarding the politics of welfare reform, there is a great lesson to be learned, particularly in today's hyper-partisan environment, where the Republican leadership forces bills through Congress without even a hint of bipartisanship. Simply put, welfare reform worked because we all worked together. The 1996 Welfare Act shows us how much we can achieve when both parties bring their best ideas to the negotiating table and focus on doing what is best for the country."

Wrong. Clinton vetoed the first two welfare reform bills the Republican Congress sent him for their unimaginable cruelty -- they were punitive programs, focused on punishing, not uplifting, poor blacks. The third bill sparked the most acrimonious and intense negotiations of the Clinton White House, with the president proving unable to decide his course till the eleventh hour and 59th minute. That's because the bill was never meant to be signed. Here's how Jason DeParle, The New York Times lead reporter on welfare reform, recounts the maneuverings in his remarkable book American Dream:

Income Inequality Follow-Up

This is an email from Paul Krugman:

Hi guys:

I think it's really important to realize that we have only a modest amount of direct evidence that technological change is driving increased income inequality. That is, while there have been a few studies showing some connection between increased use of IT and changes in the wage structure, very little of the conventional wisdom that technology is the culprit is based on those studies.

So why is technology given the credit? Basically because it's the residual category - and as Bob Solow said about the role of technology in growth, the residual is the measure of our ignorance. We estimate the effects of the stuff whose effects we know how to measure - taxes and globalization, mainly - and then attribute the rest to technology.

The point is that it's all too possible that we're attributing to technology rising inequality that may be largely due to hard-to-quantify political and institutional change.

There are several reasons to think that politics plays a big role. One is the broad correlation between the political climate and trends in inequality, which I pointed out in the Times. (By the way, Larry Bartels in Princeton's politics department shows that there's a strong correlation between party control of the White House and inequality trends even in the short run; see http://www.princeton.edu/~bartels/income.pdf. It's kind of a mysterious result, but worth pursuing.)

Another piece of evidence is the wide difference in inequality trends between the US and to a lesser extent the UK, on one side, and everyone else.

Yet another piece of evidence, which I think is very suggestive, is the discontinuous nature of the Great Compression. If you go back to the original Goldin and Margo paper, http://www.nber.org/papers/W3817, they found that there was a drastic reduction in wage inequality over the course of just 5 or 6 years in the 40s, which then stuck for another 30 years. In the paper, they struggle to reconcile this with a supply-and-demand framework, but it sure looks like a change in norms which had sustained effects on market outcomes.   

So what are the mechanisms? Unions are probably top of the list; I believe that there's a qualitative difference between wage bargaining in an economy with 11 percent of workers unionized, which is what we had in the early 30s, and one with 35 percent unionization, which is what emerged from World War II. That's discontinuous change, partly driven by a change in political regime. And the process went in reverse under Reagan.   

An overall climate of public scrutiny may matter too, especially at the top of the scale.   

And don't forget that some taxes affect the pre-personal-tax distribution of income. Taxes on corporate profits went from a minor inconvenience before FDR, to a major source of revenue under Eisenhower, and back again.   

The bottom line is that the view that rising inequality reflect forces beyond the reach of politicians may sound sensible, but it's actually a supposition based on very little evidence, and there's a lot of evidence on the other side.

Update: Andrew Gelman at the Statistical Modeling, Causal Inference, and Social Science blog reminds me of his excellent discussion of the Bartels paper referenced above. The discussion is at

Larry Bartels on income, voting, and the economy

and at

More on Larry Bartels's analysis of Democrats, Republicans, and the economy.

Adjustable Effort and the Minimum Wage

David Altig answers a question from PGL at Angry Bear:

What did you think of Dr. Thoma's efficiency wage defense for the minimum wage?

David has a very nice follow-up and he explains how a model with variable effort might operate. He says, though:

Be, however, forewarned -- the econgeek rating on this one is pretty high.

He presents it in a way that is easy to understand, complete with graphs to illustrate his points, so that shouldn't be a problem. Interestingly, in such a model:

[V]ariable labor effort seems to undo a good measure of the (bad) effects that might otherwise follow from imposing a wage that is "too high". Might this explain why the data do not speak so clearly on the overall employment effects of the minimum wage?  Maybe.

But he remains skeptical.

Stiglitz: Privatization of Airport Security Makes Us Worse Off

Joseph Stiglitz says that because airports are virtual monopolies, there is no competition to force private security companies to operate efficiently or in the public interest:

Airports debacle worsened by greed and neglect, by Joseph Stiglitz, Commentary, NY Financial Times: Britain’s current airport debacle is the predictable and predicted outcome of ill-conceived airport privatisation. Some things – steel mills for example – can be easily privatised; others cannot, as America’s problems in contracting security arrangements made clear. ...

During the Clinton administration, privatisation of the US air traffic control system was hotly debated... The US Council of Economic Advisers, of which I was a member and then chairman, after careful analysis, expressed strong reservations partly because airports ... are almost inevitably virtual or actual monopolies. It is just too risky to privatise an entity that will not face competition. The UK airports crisis, triggered by the recent discovery of a terrorist plot ..., showed the mismatch between the interests of a private operator and those of users...

Passenger safety and security are of course paramount. The problem has been disappointing management by BAA, the UK airport operator, in normal times, and its disastrous handling of the recent crisis. Flights were cancelled and delayed largely because BAA lacked sufficient trained staff for security checks. If it takes three minutes to X-ray a suitcase, then it takes three minutes whether it is done an hour before a flight is supposed to leave or three hours later. The only reason for delays would be the decision by airport authorities to keep passengers waiting rather than spend money on extra personnel to process them quickly. There is an incompatibility of incentives, and because airports are a monopoly there is no competition to force it to change.

The magnitude of the debacle can be seen...: if the average passenger makes just £10 an hour, and wastes one hour queuing, and if some 68m passengers pass through Heathrow a year, then the value of the lost time is £680m ($1.28bn) – quite a dent in profits if BAA had to compensate passengers for lost time. And it would quickly realise that it could greatly shorten queues by hiring more security personnel and buying more screening devices – at a fraction of that cost.

In an ideal world, a well-designed contract would ... have BAA bear these costs, so it would face appropriate incentives. But in the rush to privatise, too little attention has been paid to these finer points. Without appropriate incentives, a private operator bears the cost of additional personnel and equipment, but gets none of the benefit. The inexorable drive for profit maximisation leads to excessive economisation; BAA’s profits rise at the expense of airline profits and consumer welfare; and society is worse off. The seeming disdain BAA shows for customers and users is what one might expect from a monopolist.

Too often, the debate has centred around two polar institutional arrangements, government ownership versus privatisation. There are alternatives, such as corporatisation with significant ownership by airlines but continuing safety oversight by government. The airlines, as owners, would be sensitive not only to the direct impact on their profits, but the indirect impact as a result of unhappy customers who chose alternative modes of transportation. And the airlines, themselves, would be sensitive to safety – all know what an accident does to air travel.

This blind and simplistic faith in markets was, perhaps, understandable in the Thatcher years; it is less so now. The current crisis should make incontrovertible what has been evident to any user of UK’s airports: something is wrong and must be fixed. ... [U]nless incentives are better aligned, privatisation will continue to be a disappointment.

Too many privatization advocates do not think through whether profit maximization is compatible with the interests of the public (as it would be under pure competition). I don't have a problem with private sector based solutions to market failure problems, I think that's best, but only if there is careful consideration of the underlying economics and steps are taken to ensure that the types of problems Stiglitz is talking about are avoided, something that isn't always possible to accomplish with solutions based in the private sector.

This is an obvious point, of course we want to ensure that firms internalize all costs and benefits so that they respond correctly to economic incentives and act in the public interest as they seek to maximize profit. But this is overlooked far too often as people forget why the good was provided by the public sector to begin with.

I Got, Got, Got, Got No Time...

Unfortunately, I'm not going to get to these:

• Recent Macro Indicators Strongly Reinforce My Recession Call... By Nouriel Roubini
• Does Manufacturing Matter? An Update By Menzie Chinn
• Investment and Recessions By CalculatedRisk
• Not As Good As It Looks By David Altig
• Brighter Sides to Global Warming: More Heat or Light? By Tom Bozzo
• Greg Mankiw : Krugman's a Flip-Flopper! [sound of glass wall breaking] By Jonah B. Gelbach
• Wal-Mart with Chinese characteristics By Simon
• Wal-Mart, Labor Unions, and China By a singapore economist
• Commandeering 'the profit margin puzzle' By true dough
• What market failure does a central bank address? By William Polley
• In Defense of Labor Cost Targeting By knzn