Wednesday, April 20, 2011
The editors at MoneyWatch asked for a reaction to Vladimir Putin's claim that US monetary policy is "hooliganism":
Comments on this poll showing that Americans want government services, but don't want to pay for them? About the only thing people agree about is raising taxes on the wealthy (though the wealthy themselves are less enthusiastic about this option):
Poll shows Americans oppose entitlement cuts to deal with debt problem, by Jon Cohen and Dan Balz: Despite growing concerns about the country’s long-term fiscal problems and an intensifying debate in Washington about how to deal with them, Americans strongly oppose some of the major remedies under consideration, according to a new Washington Post-ABC News poll. ...
The Post-ABC poll finds that 78 percent oppose cutting spending on Medicare as a way to chip away at the debt. On Medicaid — the government insurance program for the poor — 69 percent disapprove of cuts.
There is also broad opposition to cuts in military spending to reduce the debt, but at somewhat lower levels (56 percent).
In his speech last week, the president renewed his call to raise tax rates on family income over $250,000... At this point, 72 percent support raising taxes along those lines, with 54 percent strongly backing this approach. ... Only among people with annual incomes greater than $100,000 does less than a majority “strongly support” such tax increases.
An across-the-board tax increase is decidedly less popular, at least when coupled with benefit reductions. ...
Kash follows up on a post from yesterday:
Why US Multinationals Expand Abroad, The Street Light: Mark Thoma points us to an article by David Wessel, who points out that new data from the BEA indicates that US-based multinational corporations (MNCs) decreased employment in the US while increasing employment outside the US:Big U.S. Firms Shift Hiring AbroadI would like to sound a note of extreme caution when interpreting such data. It's easy to jump to the conclusion that this data indicates that MNCs are shifting jobs overseas, and that foreign employment growth is coming at the expense of jobs in the US. However, that is probably not what's going on here.
U.S. multinational corporations, the big brand-name companies that employ a fifth of all American workers, have been hiring abroad while cutting back at home, sharpening the debate over globalization's effect on the U.S. economy.
The vast majority of employment and sales by the foreign affiliates of US-based MNCs are serving the local market. When GE, or Microsoft, or Coca-Cola, or American Express expand their operations overseas, it is almost always with the primary goal of satisfying local demand, rather than replacing workers in the US. Yes, of course some offshore outsourcing does happen (though much less over the past few years than happened in the early 2000s), but really that's not what's driving the dramatic difference in employment patterns of US MNCs within the US compared to outside the US. ...
The point is not to argue that offshoring never happens. It does. But the pattern of international trade, particularly when it comes to the activity of MNCs, is much more complex and nuanced than that. And the clearest implication of this data is that the primary motivation for MNCs to expand their operations outside the US is not to produce stuff more cheaply there to be sold to the US. Rather, MNCs expand overseas mainly to service overseas markets.
Dan Klein says you shouldn't do what most of us try to do when we enter the classroom -- leave politics and ideology behind -- instead, ideological openness should be embraced:
In Praise of Ideological Openness, by Daniel B. Klein: Many people, some conservatives included, say we need to get ideology out of the college classroom. Some professors say proudly, “my students never come to know where I stand.”
I practice an opposite approach. I tell students that I am a free-market economist, a classical liberal or libertarian. And I am not suggesting that it is wrong to be ideologically reserved. Different styles suit different professors.
And of course some professors go much too far in pressing their ideological judgments and requiring conformity, even forms of activism. But we should not fall into simplistic ideals of neutrality and objectivity. ... One can open up about ideology without falling into intemperance. Here I meditate on some merits of being open about your own ideology, even somewhat outspoken, when teaching a college course. ...
Alan Blinder explains why the Ryan budget plan is the worst game in town. But I don't think it's even worthy of comparison:
Paul Ryan's Reverse Robin Hood Budget, by Alan Blinder, Commentary, WSJ: Why do I oppose Rep. Paul Ryan's plan for reducing the federal budget deficit, the one House Republicans approved overwhelmingly last week? ...
Worst things first. The plan threatens to eviscerate Medicare by privatizing it—with vouchers that, absent some sort of cost-control miracle, would fall further and further behind the rising cost of health insurance. And to make that miracle even less likely, House Republicans want to repeal every cost-containment measure enacted in last year's health-reform legislation. ...
Then there's Medicaid, which is a lifeline for the poor. House Republicans want to turn it into a block grant, underfund it, and let the 50 states figure it out. Make your own judgment about how well your state would cope. ...
The sums involved are huge. ... According to the Center on Budget and Policy Priorities, about two-thirds of Mr. Ryan's so-called courageous budget cuts would come from programs serving low- and moderate-income Americans, while the rich would gain from copious tax cuts. That's courage?
This reverse-Robin Hood redistribution is bad enough in the abstract. ... But was such class warfare necessary...? Absolutely not. Both President Obama's plan and the Bowles-Simpson plan achieve comparable deficit reduction without further gilding the New Gilded Age. ...
The Ryan plan has received vastly too much praise from people who should know better. For a while, it was even celebrated as "the only game in town," which it never was. It was preceded by both the Bowles-Simpson and Domenici-Rivlin plans, which are vastly superior in every respect. Within days of Mr. Ryan's announcement, President Obama chimed in with his own ideas on deficit reduction—another huge improvement over the Ryan plan. Now we await the Senate Gang of Six's entry.
No, the House Republican plan is not the only game in town. It's only the worst.
So far, I'm not all that happy with any of the plans.
Tuesday, April 19, 2011
I hope this is a slip up as opposed to a slip of the Freudian variety:
... “Both Democrats and Republicans agree that we should reduce the deficit,” Mr. Obama said at a town hall at the Northern Virginia Community College in Annandale. “ In fact, there is general agreement that we need to cut spending by about $4 trillion over the medium term. And when folks in Washington agree on anything, that’s a good sign. So the debate isn’t about whether we reduce our deficit. The debate is about how we reduce our deficit.”
The problem is, there actually isn’t an agreement in Washington to cut spending by $4 trillion. ...
The other problem is that it isn't just about how, it's also about when. I agree we need to tackle this problem, but not before the economy is standing on sturdy legs. Obama does say "medium term," I just wish his actions were consistent with that qualification. Austerity during the initial part of a recovery is not the answer to our long-run debt problem.
One of the best ways to combat the debt problem would be to get the millions who are still unemployed working productively and paying taxes. If some outside agency were to grade the government's response to the employment problem, it certainly wouldn't be AAA.
Large firms are moving jobs to other countries:
Big U.S. Firms Shift Hiring Abroad, by David Wessel, Commentary, WSJ: U.S. multinational corporations, the big brand-name companies that employ a fifth of all American workers, have been hiring abroad while cutting back at home, sharpening the debate over globalization's effect on the U.S. economy.
The companies cut their work forces in the U.S. by 2.9 million during the 2000s while increasing employment overseas by 2.4 million, new data from the U.S. Commerce Department show. That's a big switch from the 1990s, when they added jobs everywhere... [graph]
The data ... underscore the vulnerability of the U.S. economy, particularly at a time when unemployment is high and wages aren't rising. Jobs at multinationals tend to pay above-average wages and, for decades, sustained the American middle class. ...
While small, young companies are vital to U.S. economic growth, big multinationals remain a major force. A report by McKinsey Global Institute ... estimates that multinationals account for 23% of the nation's private-sector output and 48% of its exports of goods.
These companies are more exposed to global competition than many smaller ones, but also more capable of taking advantage of globalization by shifting production, and thus can be a harbinger of things to come. ...
Government spending and government debt across countries:
To spend is to owe?, by Lane Kenworthy: A high level of government spending doesn’t necessarily produce heavy government debt. Nor does low spending guarantee low debt. Debt levels are a function of government expenditures and revenues and economic growth.
Monday, April 18, 2011
The Room for Debate asks:
What does the S.&P. move say about the economy and deficit fears? Or is it, as Obama administration officials contend, largely a political judgment that doesn't go beyond what we know?
- Ignore the Raters: L. Randall Wray
- Don't Expect Predictability: Arnold Kling
- Reflecting the Market's Fears: Barry Eichengreen
- S.&P. Should Be Embarrassed: Yves Smith
- No Real Risk of Default: Barry Ritholtz
- No Need to Rush: Mark Thoma
- Politicians Won't Hear a Thing: Tyler Cowen
This headline from the WSJ -- "Gang of Six Sees S&P Move as Sign to Act Soon on Budget Plan" -- is related to my response:
No Need to Rush: I am not as worried about the ability of the political process to deal with our long-run debt problem as S.&P. appears to be. One way or the other, the process will resolve this, especially since the public is demanding action.
I am more worried about who will be asked to pay the costs of reducing the long-run debt to a more manageable level. Will we balance the books on the backs of those least able to pay and least able to defend themselves in the political process -- the sick, the poor, the elderly and children? Or will we ask those higher up on the income and wealth ladders to pay a significant part of the bill?
The main worry about the debt is that, at some point in the future, interest rates will rise as the world becomes reluctant to lend more to us. A rise in interest rates would lead to reduced investment, growth and employment. So far, however, bond markets show little sign of worry and interest rates remain low. And, as Times columnist Paul Krugman points out, interest rates did not rise in Japan even after the S.&P. downgrade of Japanese debt in 2002. So it's not inevitable that a downgrade -- or the threat of one -- will be followed but an increase in interest rates. That's reassuring, but it doesn't mean we should do nothing.
We do have a long-run debt problem, and this announcement will increase the pressure on politicians to take action. However, we have time -- the S.&P. worry is about what will happen in 2013, not tomorrow. Thus, we should be careful that this doesn't create a push by those with wealth and power for a quick solution that allows them to avoid paying a large share of the costs of bringing the books into better balance. We have the time to take on and overcome these vested interests, and we should not be rushed into a less than equitable solution.
I was going to highlight this statement from Alan Greenspan today, but Brad DeLong beat me to it:
Greenspan Steps Up Call to End Bush-Era Tax Cuts - Washington Wire - WSJ: Former Fed Chairman Alan Greenspan is stepping up his call for Congress to let the Bush-era tax cuts lapse. In an appearance Sunday on ABC’s “Meet the Press,” Mr. Greenspan used his strongest words yet to urge lawmakers to let them expire. The risk of a U.S. debt crisis, he said, is just too big. Mr. Greenspan, who retired from the Federal Reserve in 2006, had endorsed the cuts back in 2001 championed by then-President George W. Bush. “This crisis is so imminent and so difficult that I think we have to allow the so-called Bush tax cuts all to expire. That is a very big number,” he said, referring to how much the U.S. government could save from letting income taxes go back up to levels last seen under former President Bill Clinton.
Mr. Greenspan was talking about re-imposing the taxes for all Americans. The Treasury has estimated that a permanent extension of all the Bush tax cuts would cost $3.6 trillion over the next decade. Allowing taxes to increase on those in the top income brackets would take the cost to the government down to $2.9 trillion, according to White House estimates...
Of course, the crisis isn't imminent: it looks to me like it is more than a decade away. But it is not too soon to start trying to avoid it.
I am not the type who wakes up cheerful. Not by a long shot. Before I'd finished my first cup of coffee this morning, I tweeted:
MarkThoma It's depressing that any dumb-ass with enough money can have so much influence on elections.
I've been surprised at how may times this has been retweeted. Makes me think that waiting until the morning crabiness wears off before writing might be the wrong approach.
At MoneyWatch, I have a few comments on the the S&P’s threat that there's a one in three chance it will have to downgrade US Debt -- it cites political gridlock as the problem -- but the post is mainly comprised of extracts of comments from others:
Giorgio Topa, Wilbert van der Klaauw, Olivier Armantier, and Basit Zafar of the NY Fed's Liberty blog attempt to disentangle the forces behind recent increases in inflationary expectations. It appears to be oversensitivity to food and energy prices:
What Is Driving the Recent Rise in Consumer Inflation Expectations?, by Giorgio Topa, Wilbert van der Klaauw, Olivier Armantier, and Basit Zafar, NY Fed: The Thomson Reuters/University of Michigan Survey of Consumers (the “Michigan Survey” hereafter) is the main source of information regarding consumers’ expectations of future inflation in the United States. The most recent release of the Michigan Survey on March 25 drew considerable attention because it showed a large spike in year-ahead expectations for inflation: as shown in the chart below, the median rose from 3.4 to 4.6 percent and the other quartiles of responses showed similar increases. ... In this post, we draw upon the findings of an ongoing New York Fed research project to shed some light on the possible sources of the recent increase and to gauge its significance. While our research spans both short- and medium-term inflation expectations, this blog post discusses movements in short-term measures only...
Inflation expectations are a key consideration in the conduct of modern monetary policy. ... To this end, central banks not only look at market-based measures of inflation expectations and surveys of professional forecasters and businesses, but also track surveys of consumers’ inflation expectations, including the widely followed Michigan Survey. ...
Our research shows that ... the wording of the Michigan question induces mixed interpretations, with many people thinking about the specific prices they pay in their everyday purchases, and especially those prices that undergo large changes, such as food and gasoline prices. As a result, the Michigan measure appears to reflect expectations of food and gasoline price increases to a much larger extent than is suggested by their share in household expenditures and in measures of overall inflation such as the consumer price index. ...
With this background information, we now return to our initial question: What factors could explain the recent large spike in short-term inflation expectations observed in the Michigan Survey? One possible explanation is that the observed rise in inflation expectations is tied to an expected increase in nominal wages. ... As the chart below indicates, year-ahead median wage growth expectations have remained muted since February 2009. While this is a troubling sign for wage earners’ incomes, it suggests that concerns about wages exerting second-order effects on inflation are not founded at present.
Another possible explanation for the Michigan Survey reading is that short-term inflation expectations may be responding to concerns about accelerating growth in government debt. In our survey, we also ask respondents about their expectations for the year-ahead change in the level of government debt. We find that these expectations have actually declined in recent months, as shown in the chart below. Therefore, the recent rise in inflation expectations does not seem to be tied to an expected increase in the growth of government debt.
Finally, our experimental survey also asks respondents about expected price changes for specific items. The last chart reports year-ahead inflation expectations for gasoline, food, medical costs, and housing costs. The survey responses point to increases in inflation expectations for food and housing costs, as well as an especially large increase in expectations for gasoline inflation. ...
In sum, our research shows that expectations of higher nominal wage growth or concerns about increased growth of nominal government debt are unlikely to be behind the recent increase in short-term inflation expectations reported in the Michigan Survey. Instead, we suggest that this rise in inflation expectations reflects two factors: (1) sharp expected increases in food and especially gasoline prices and (2) the use of a survey question (“prices in general”) that results in reported expectations being more sensitive to these types of price change. An important open question concerns the extent to which households act on their expectations of overall inflation as well as on their expectations of specific price changes. As noted earlier, one significant area in which inflation expectations may influence consumer behavior is in the wage negotiation process, but thus far neither the “prices in general” nor the “rate of inflation” measure appears to be feeding into increases in expected future wage growth. We hope to return to this open question in a future post.
Chart data 13 kb
The views expressed in this post are those of the author(s) and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System. Any errors or omissions are the responsibility of the author(s).
Democrats should "make the 2012 election a clear choice between visions":
Let’s Not Be Civil, by Paul Krugman, Commentary, NY Times: Last week, President Obama offered a spirited defense of his party’s values — in effect, of the legacy of the New Deal and the Great Society. Immediately thereafter, as always happens when Democrats take a stand, the civility police came out in force. The president, we were told, was being too partisan; he needs to treat his opponents with respect; he should have lunch with them, and work out a consensus.
That’s a bad idea. Equally important, it’s an undemocratic idea. ...
For what it’s worth, polls suggest that the public’s priorities are nothing like those embodied in the Republican budget. Large majorities support higher, not lower, taxes on the wealthy. Large majorities — including a majority of Republicans — also oppose major changes to Medicare. Of course, the poll that matters is the one on Election Day. But that’s all the more reason to make the 2012 election a clear choice between visions.
Which brings me to those calls for a bipartisan solution. Sorry to be cynical, but right now “bipartisan” is usually code for assembling some conservative Democrats and ultraconservative Republicans — all of them with close ties to the wealthy, and many who are wealthy themselves — and having them proclaim that low taxes on high incomes and drastic cuts in social insurance are the only possible solution.
This would be a corrupt, undemocratic way to make decisions about the shape of our society even if those involved really were wise men with a deep grasp of the issues. It’s much worse when many of those at the table are the sort of people who solicit and believe the kind of policy analyses that the Heritage Foundation supplies.
So let’s not be civil. Instead, let’s have a frank discussion of our differences. In particular, if Democrats believe that Republicans are talking cruel nonsense, they should say so — and take their case to the voters.
Sunday, April 17, 2011
A relatively optimistic view of the battle for new ways of thinking:
Washington: real change if not a new consensus, by Andrew Watt: In Washington last week I attended an interesting debate at the Brookings Institution between IMF chief Dominique Strauss-Kahn, ITUC General Secretary Sharan Burrow, Nobel-winning economist George Akerlof and Stephen Pursey from the ILO. A video and a summary (with transcript) are available.
The event was notable not least for DSK cuddling up to the ITUC, the ILO and a critical macroeconomist. His closing words, moreover, were:
Stability depends on a strong middle class that can propel demand. We will not see this if growth does not lead to decent jobs, or if growth rewards the favored few over the marginalized many. Ultimately, employment and equity are building blocks of economic stability and prosperity, of political stability and peace. This goes to the heart of the IMF’s mandate.
Have we maybe died and gone to heaven, as one commentator joked?
Doubts are, of course, in order... Certainly institutional change is a lengthy process. (It is not too much of an exaggeration to say, echoing Thomas Kuhn, that it normally requires some people, if not actually to pass away, then at least to retire.) My sense is that many on the political Left and Keynesian economists are rather too negative in assessing the knock-on effects of the crisis.
In the face of destructive austerity policies and electroral setbacks for the centre-left this is understandable. Still, there have been notable shifts in the consensus or establishment view, to the left politically and towards Keynesian economics. DSKs speech would have been unthinkable from the IMF head at any time since the mid-1980s. It is easy to forget that the term aggregate demand was the equivalent of a four-letter word, not to be used in polite society, for a generation. No longer. In Europe, key elements of the Maastricht architecture have been thrown overboard. IMF studies argue that inequality caused the crisis, while an OECD analysis (not yet published) identifies labour market deregulation as the prime cause of … guess what? (growing inequality.)
This is not a call for complacency. These are examples, not an overwhelming and irreversible trend. The biggest crisis since the 1930s should surely have led to much bigger changes. There is stand-still in some areas and a roll-back in others. Nevertheless, there are big risks in oneself falling into an ideological Great Depression. Where battles have been won, it is good for morale to say so openly. The struggle for the influential policymaking institutions is still open and can still be won. ... We are a long way from a new, progressive Washington Consensus, but it remains a feasible goal.
On may occasions, I have made the point that one of the problems with macroeconomic theory prior to the financial crisis is that the models did not have the necessary connections between financial intermediation and the real sector built into them. Thus, when the financial sector crashed, the models had no effective way of translating that into a prediction about what would happen to the real economy, and little to offer in terms of advice about how to minimize the effects of the financial crash on employment and output. There are many reasons for this, including the difficulties associated with modeling the financial sector in a representative agent framework, but it's not quite correct to say that these models did not exist at all.
They did exist, e.g. the Bernanke, Gertler, and Gilchrist financial accelerator models, but when economists tested these models against the data, they did not seem to explain much of the variation in output over time. Thus, they were deemed empirically irrelevant and largely set aside in favor of other pursuits.
That was a mistake, but what is the lesson? One is that we should not necessarily ignore something just because it cannot be found in the data. Much of the empirical work prior to the crisis involved data from the early 1980s to the present (due to an assumption of structural change around that time), sometimes the data goes back to 1959 (when standard series on money end), and occasionally empirical work will use data starting in 1947. So important, infrequent events like the great Depression are rarely even in the data we use to test our models. Things that help to explain this episode may not seem important in limited data sets, but we ignore these possibilities at our own peril.
But how do we know which things to pay attention to if the data isn't always the best guide? We can't just say anything is possible no matter what the data tell us, that's not much of a guide on where to focus our attention.
The data can certainly tell us which things we should take a closer look at. If something is empirically important in explaining business cycles (or other economic phenomena ), that should draw our attention.
But things that do not appear important in data since, say, 1980 should not necessarily be ignored. This is where history plays a key role in directing our attention. If we believe that a collapse of financial intermediation was important in the Great Depression (or in other collapses in the 1800s), then we should ask how that might occur in our models and what might happen if it did. You may not find that the Bernanke, Gertler, Gilchrist model is important when tested against recent data, but does it seem to give us information that coincides with what we know about these earlier periods? We can't do formal tests in these cases, but there is information and guidance here. Had we followed it -- had we remembered to test our models not just against recent data but also against the lessons of history -- we might have been better prepared theoretically when he crisis hit.
There are important lessons in the historical record that cannot be found in FRED. We would do well to remember that.
I have a question. Given that:
Barack Obama may still be President and Senator Harry Reid may still be Senate Majority Leader, but Republicans across the nation have been treating 2011 like one extended ideological victory lap. For them, the 2010 elections were not the result of a frustrated electorate upset with slow progress on the economy and frustration with the perceived effectiveness of Democratic rule. Instead, heedless of the consecutive wave elections that swept them out of control of the Congress and then the Presidency, Republicans apparently chose instead to believe that their entire ideology had finally prevailed in the minds of the public and now was the time to implement it.
[Click on question to answer, and remember that you are limited to one response.]
Saturday, April 16, 2011
Alan Krueger likes the "trigger" Obama discussed in his speech on the budget:
A Shot at a Sane Budget, by Alan Krueger, Commentary, NY Times: President Obama has been criticized as too slow to engage in major debates and too timid to make difficult decisions. ... In one important respect, however, Mr. Obama’s deficit speech disproves the caricature, and contains a bold, serious and timely proposal. ...
What I have in mind is his endorsement of a trigger that would automatically kick in to reduce spending and tax expenditures if Congress and the administration fail to bring the debt under control. ... In essence, Mr. Obama proposed a rule that will ... provide predictability and certainty to the federal budget.
Economists prefer rules over discretion when parties can choose to reverse themselves as tough decisions arise. ... Rules can commit individuals or groups to a predetermined path. ...
Although rules are often flouted, they have helped trim budgets in the past.
The so-called pay-go rule in the Budget Enforcement Act of 1990 — which required increases in spending or decreases in revenue to be offset by other spending cuts or revenue increases — helped lead to the surpluses that arose in the late 1990s. We’ve also run the experiment in reverse: After the pay-go rules expired in 2002, increased spending ... and two rounds of tax cuts caused the deficit to soar. ...
Discretion is hard for politicians to give up...
Rules can provide political cover for unpleasant choices, bind groups to a common baseline, and so on, but I'm not as convinced as he is that this will have a dramatic effect.
...I have had intensive economic-policy discussions with Prime Minister Meles Zenawi [of Ethiopia]. ... I have no illusions about Meles’ commitment to democracy – or lack thereof. But I also believe that he is trying to develop his economy, and I offer policy advice because I believe it may benefit ordinary Ethiopians. ...
But choosing an action for the greater good does not absolve us from moral culpability. Our hands do become dirty when we help a terrorist or a dictator. ... In the end, an adviser to authoritarian leaders cannot escape the dilemma. ... But when the adviser believes his work will benefit those whom the leader effectively holds hostage, he has a duty not to withhold advice.
Even then, he should be aware that there is a degree of moral complicity involved. If the adviser does not come out of the interaction feeling somewhat tainted and a bit guilty, he has probably not reflected enough about the nature of the relationship.
With large consulting fees at stake, it would be easy to convince yourself that the advice will benefit a large segment of the population, i.e. that it is not "engagement only to legitimize" the position of the rulers. In cases where such moral questions are present, it might be best to refuse compensation for offering advice. That would help to ensure that the person giving the advice really does believe that it is in the best interests of ordinary citizens rather than what's best for the individual's pocketbook. On the other hand, the quantity of advice given would be smaller without compensation, and that might, on net, hurt those we'd like to help. Thus, another way to guard against individuals convincing themselves that it is morally correct to take the money would be to leave the decision to a relatively neutral third party.
How would you make this choice?
The point made below that it's difficult to have a civil discussion between Republicans and Democrats when "the two parties have both utterly different goals and utterly different views about how the world works," is what I was trying to say here. These are important issues, there are fundamental ideological differences, and we should expect passionate debate. But the debate should also be refereed by the press in a way that exposes falsehoods, misleading statements, budgets that don't add up, and the like, and it should apply to bothe sides equally. But that's no what happens. Instaed, the response is asymmetrical. The Republicans seem free to make whatever outrageous claims they want, from death panels to tax cuts paying for themselves, without being called on it by the press. But if Democrats return fire, or criticize Republicans at all, if they say anything, the media jumps all over them. How can we possibly get a deal on anything if Democrats won't move toward intransigent, unbending, will-not-move-an-inch Republicans. Of course it's Democrat's fault. So I'm very glad to see this point being made, and I wish (without hope) that the press would take it to heart:
Civility is the Last Refuge of Scoundrels, by Paul Krugman: At the beginning of last week, the commentariat was in raptures over the Serious, Courageous, Game-Changing Ryan plan. But now that the plan has been exposed as the cruel nonsense it is, what we’re hearing a lot about is the need for more civility in the discourse. President Obama did a bad thing by calling cruel nonsense cruel nonsense; he hurt Republican feelings, and how can we have a deal when the GOP is feeling insulted? What we need is personal outreach; let’s do lunch!
The easy, and perfectly fair, shot is to talk about the hypocrisy here; where were all the demands for civility when Republicans were denouncing Obama as a socialist, accusing him of creating death panels, etc..? Why is it OK for Republicans to accuse Obama of stealing from Medicare, but not OK for Obama to declare, with complete truthfulness, that those same Republicans are trying to dismantle the whole program?
Beyond that, are we dealing with children here? Is one of our two major political parties run by people so immature that they will refuse to do what the country needs because the president hasn’t been nice to them?
But the main point is, what are we supposed to have a civil discussion about? The truth is that the two parties have both utterly different goals and utterly different views about how the world works.
It’s not nice to say this (but the truth is rarely nice): whatever they may say, Republicans are not concerned, above all, about the deficit. In fact, it’s not clear that they care about the deficit at all; they’re trying to use deficit concerns to push through their goal of dismantling the Great Society and if possible the New Deal; they have stated explicitly that they want to reduce taxes on high incomes to pre-New-Deal levels. And it’s an article of faith on their part that low taxes have magical effects on the economy.
Obama believes that the major social insurance programs are a good thing, and has extended them with health reform. Some of the best-known research by his chief economist is his work debunking claims that tax cuts for the rich pay for themselves. See here and here (both pdfs).
So what is there to talk about?
Friday, April 15, 2011
Dani Rodrik says Martin Wolf is "right on all counts" in his comments about the Doha Round:
Martin Wolf: Doha is weakening the WTO, by Dani Rodrik: I am copying here Martin Wolf's comments on the Doha Round, as expressed on the CUTS-tradeforum. I find them remarkable because Martin simultaneously explodes three myths about the trade regime. First, he dismisses the "bicycle theory" of trade negotiations, which says that the trade regime will fall back into protectionism unless you keep liberalizing it. Second, he states that the fundamental motives behind Doha were political rather than economic. And third, he argues that Doha is doing more damage than good to the multilateral trade regime.
Doha was essentially a political response to 9/11. I supported it then because it indicated the global will to co-operate and sustain globalisation. Its chance of completion was in the first few years. Once the political reasons weakened, as they did, after Iraq and then the obvious fact that globalisation was ongoing, the will to complete this round disappeared. Today, no top-level politician would now use his or her desperately limited political capital to complete this round, which they see (rightly) as a low-level priority. After all, are we really living in an era of collapsing trade? Is protectionism rampant? Given the shocks of the last few years, it is almost astonishingly absent.
Then people will say that the WTO will collapse if we don't keep on doing rounds. I think that's absurd. Do we think the legal system will collapse if we don't go on writing more laws? At some point, we were bound to get to the point when a round failed. At some point, we would have to declare an end to rounds. Before 9/11, I thought we were already there. After 9/11, I thought it made sense to have one more go. I was wrong. Doha is weakening the WTO, not strengthening it.
So what now? Make the WTO work in a world without rounds, that's what. Move on. This is over.
Martin Wolf is right on all counts. And it is truly refreshing to see an economist openly admit to having been wrong.
For my own views on how Doha was misconceived and got off to a wrong start, see this Foreign Affairs piece.
UPDATE: Arvind Subramanian reminds me, correctly, that along with Aaditya Mattoo he has long been pointing to the inadequacies and irrelevance of the Doha agenda and the public denial on this since 2007. See this, this, and this.
The battle of the budget plans has one serious entry, and one combination of mean-spiritedness and fantasy:
Who’s Serious Now?, by Paul Krugman, Commentary, NY Times: Paul Ryan, the chairman of the House Budget Committee, ... unveiled his budget proposal, and the initial reaction of much of the punditocracy was best summed up (sarcastically) by the blogger John Cole: “The plan is bold! It is serious! It took courage! It re-frames the debate! The ball is in Obama’s court! Very wonky! It is a game-changer! Did I mention it is serious?”
Then people who actually understand budget numbers went to work, and it became clear that the proposal wasn’t serious at all. In fact, it was a sick joke. The only real things in it were savage cuts in aid to the needy and the uninsured, huge tax cuts for corporations and the rich, and Medicare privatization. All the alleged cost savings were pure fantasy. ...
On Wednesday, as I said, the president called Mr. Ryan’s bluff: after offering a spirited (and reassuring) defense of social insurance, he declared, “There’s nothing serious about a plan that claims to reduce the deficit by spending a trillion dollars on tax cuts for millionaires and billionaires. And I don’t think there’s anything courageous about asking for sacrifice from those who can least afford it and don’t have any clout on Capitol Hill.” Actually, the Ryan plan calls for $2.9 trillion in tax cuts...
And then Mr. Obama laid out a budget plan that really is serious. The president’s proposal isn’t perfect, by a long shot. ... But the vision was right, and the numbers were far more credible than anything in the Ryan sales pitch. ...
But ... the president’s ... plan isn’t about to become law; neither is Mr. Ryan’s. And given the hysterical Republican reaction, it doesn’t look likely that we’ll see negotiations trying to narrow the difference. That’s a good thing because Mr. Obama’s plan already relies more on spending cuts than it should, and moving it significantly in the G.O.P.’s direction would produce something unworkable and unacceptable.
What happened over the past two weeks, then, was more about staking out positions than about enacting policies. On one side you had a combination of mean-spiritedness and fantasy; on the other you had a reaffirmation of American compassion and community, coupled with fairly realistic numbers. Which would you choose?
From the CPBB, charts showing:
- The United States is a Low-Tax Country
- Federal Income Taxes on Average Families are Historically Low
- Corporate Tax Revenues are Historically Low
- Effective Tax Rates on the Wealthiest People Have Fallen Dramatically
- Bush Tax Cuts Heavily Tilted to the Top
- Rise in Debt Could Be Halted By Letting Bush Tax Cuts Expire
- Tax Expenditures Are Substantial
- Gains at the Top Dwarfed Those of Low- and Middle-Income Households
- Top 1 Percent's Income Share More Than Doubled Over the past Thirty Years
- Most of Budget Goes Toward Defense, Social Security, and Health Programs
On the Logic of Inflation Hawks, by Tim Duy: Richmond Federal Reserve President Jeffrey Lacker:
Businesses thus far have absorbed input price increases, presumably believing that competitors would not follow suit, which suggests that they believe that overall inflation will remain low. The responsibility of the Federal Open Market Committee (FOMC) is to validate these expectations by conducting monetary policy in such a way that inflation does not accelerate. That's not always an easy task at this point in a recovery. In the last cycle, the economy began to grow more rapidly at the end of 2003. Although energy prices showed growth spurts, unemployment had not yet begun to fall and the core inflation measure that excludes energy and food prices was still just 1-½ percent. As a result, many forecasters expected inflation to diminish, and the FOMC kept the funds rate at a very low level well into 2004. Instead of falling, overall inflation soon rose to 3 percent, where it stayed, on average, through the end of the expansion in 2007. Core inflation averaged 2-¼ percent over that horizon. With hindsight, I think it is fair to say that policymakers overestimated the extent to which high unemployment would keep inflation from accelerating, and as a result, waited too long to withdraw monetary stimulus. Four years of 3 percent inflation may not have been the worst of all possible outcomes, but I do not consider it a success. I hope we do better this time. In particular, I believe we need to heed the lesson of the last recovery that inflation is capable of rising even if the level of economic activity has not returned to its pre-recession trend.
Note that Lacker changes the goalpost – rather than focus on core-inflation, he shifts the focus to headline inflation of 3%. Why? Because otherwise he needs to face the fact that core-inflation averaged a mere 25bp above trend over the 2004-2007 period:
Consider that in context of the entire decade to that point:
One could just as easily make the argument that the Fed was allowed core-prices to catch up after a period of inflation that fell 25bp below the upper bound. Lacker, however, does not see it that way. Instead, he would prefer to hold unemployment rates high in order to prevent prices from returning to trend. That’s dangerous thinking, especially if you believe that we should expect a period of higher inflation if output is to converge with potential. With friends like these….
Also note the path of commodity prices during this past decade:
Lacker professes disappointment with inflation results, and would prefer that more people were unemployed to “do better this time.” I would argue just the opposite: Given the upward trend in commodity prices – something the Fed had little if any control over – I think the Fed did a pretty good job maintaining inflation expectations in a period of falling unemployment. And I think it is odd that an insider doesn’t recognize this success.
Thursday, April 14, 2011
This is from Steve Barry ( via Barry Ritholtz's Big Picture):
And they seem to be serious.
Republicans, of course, would never engage in "aggressive partisan attacks," refuse to play unless they get their way, or use other tactics that might poison the well of cooperation.
...In a well-functioning economy, the government and the private sector complement rather than cannibalize each other. No country's private sector will ever get rich without the infrastructure, schools, research, legal system, police, army, etc. that only the government can and will provide in sufficient quantity. Private businesses should usually not try to take over these functions, just as the government should usually not attempt to build factories, dictate bank lending, or refine petroleum. To maintain this balance, one thing we need is a strong free-market ideology that prevents the government from overstepping its bounds.
But we also need high-quality technocrats in the government - technocrats who are dedicated enough or well-paid enough to resist the efforts of rational, self-interested, profit-seeking businessmen to use the government as a cash cow. If you demonize technocrats, all you'll succeed in doing is in making the technocrat profession a disreputable one. And all that will get you is...low-quality, easily corruptible technocrats! And if you try to respond to the existence of low-quality, easily corruptible technocrats by saying "Aw heck, Nozick was right, let's just drown the whole government in the bathtub," you'll just end up impoverishing your country, and then eventually you'll end up with kleptocrats rather than technocrats, and just watch what happens to your liberty under the kleptocrats.
So to people like Will Wilkinson with strong libertarian instincts, I say: Calm down. Put aside your gut reactions and take a cold serious look at the dangers threatening America's political economy. The danger of Marxism is long past. The danger of becoming a failed state is real and big and increasingly immediate. ...
David Cay Johnston:
9 Things The Rich Don't Want You To Know About Taxes, by David Cay Johnston: ...As millions of Americans prepare to file their annual taxes, they do so in an environment of media-perpetuated tax myths. Here are a few points about taxes and the economy that you may not know...:
- Poor Americans do pay taxes.
- The wealthiest Americans don’t carry the burden.
- In fact, the wealthy are paying less taxes.
- Many of the very richest pay no current income taxes at all.
- And (surprise!) since Reagan, only the wealthy have gained significant income.
- When it comes to corporations, the story is much the same—less taxes.
- Some corporate tax breaks destroy jobs.
- Republicans like taxes too.
- Other countries do it better.
(There is more detail on each point in the article.)
Wednesday, April 13, 2011
Style: I liked the way Obama made a case for government at the beginning. I liked the way he accused Republicans of pessimism, of abandoning a hopeful vision of America. Good that he went after the Ryan plan — and good that he went after the cruelty of that plan. If you ask me, too many percentages. Oh, and whichever speechwriter came up with “win the future” should be sent to count yurts in Outer Mongolia.
Substance: Much better than many of us feared. Hardly any Bowles-Simpson — yay!
The actual plan relies on some discretionary spending cuts, this time including defense — good, although I think too much is being cut from domestic spending. It relies on letting the Bush tax cuts for the rich expire — finally! — plus unspecified reductions in tax expenditures.
The main thing, though, is the strengthened role of and target for the Independent Payment Advisory Board. This can sound like hocus-pocus — but it’s not.
As I understand it, it would force the board to come up with ways to put Medicare on what amounts to a budget — growing no faster than GDP + 0.5 — and would force Congress to specifically overrule those proposed savings. That’s what cost-control looks like! You have people who actually know about health care and health costs setting priorities for spending, within a budget; in effect, you have an institutional setup which forces Medicare to find ways to say no.
And when people start screaming about death panels again, remember: you can always buy whatever health care you want; the question is what taxpayers should pay for. And compare this with a voucher system, in which you have insurance company executives, rather than health-care professionals, deciding which care won’t be paid for.
Overall, way better than the rumors and trial balloons. I can live with this. And whatever the pundits may say, it was much, much more serious than the Ryan “plan”.
Obama's Deficit-Reduction Framework..., by Brad Delong: A process to by the end of June reach a bipartisan deal backed by automatic triggers starting in 2014 to cut spending and raise taxes relative to the current-policy baseline over the next twelve years. The targets are:
- Restore high-bracket tax rates to Clinton-era levels: $1T
- Cut tax-expenditure spending through the tax code: $1T
- Cut health care spending: $0.5T
- Cut other mandatory spending by: $0.4T
- Cut security spending: $0.4T
- Cut non-security discretionary spending: $0.8T
- Those reductions will carry with them a reduction in net interest of: $1.2T
Total twelve-year deficit-reduction target of: $5.3T relative to the current-policy baseline...
This framework already includes major, painful concessions relative to the technocratic ideal. Obama has already made these in order to try to start this framework. They include:
- The United States now really needs the government to be spending an extra $3T on infrastructure over the next 12 years--other Pacific nations are planning to do so. Obama is giving up.
- The United States now really needs--and Ben Bernanke recommends--an additional ARRA-sized fiscal stimulus over the next three years of $1T or so. Obama is giving that up.
- The United States really needs failure to meet budget-balance targets to trigger high-bracket tax increases. Obama is giving that up.
- The United States really needs to deal with the greater fiscal needs of an aging America by either (a) opening the borders, or (b) implementing a VAT. Obama is giving that up.
I say this framework would be OK--not ideal, but OK--as a deal. Giving up infrastructure, giving up another full-employment boost, giving up high-bracket triggers, and giving up fixing the long-ran tax base are al very bad for America. We should not give up anything else in addition in "negotiations" but rather insist on hitting the targets. If Republicans want to participate in the process, they need to start by signing on to these targets.
Most of the points I was going to make have been covered, but let me emphasize the degree to which this proposal turns its back on those who are still unemployed. I understand the politics of proposing "an additional ARRA-sized fiscal stimulus over the next three years of $1T or so" are very unfavorable, but that doesn't mean leaving the unemployed to fend for themselves -- especially within a speech emphasizing the need for a social safey net -- is the right course of action.
We now have three markers, this plan, the Ryan plan, and Bowles Simpson. While far, far from perfect, this plan is clearly the best of the three, but it's only a proposal. I'll withhold judgement until we see how this actually turns out. The greatest speech in the world does no good if, in the end, it is all compromised away in the name of making progress (and winning the election).
I was going to write a post saying that there are two separate debates right now that are getting confused. One is over the deficit and how to rein it in, the other is over the size of government. You can have a large government with no deficit, or even a surplus, and a smaller government with a big budget problem. The two are not necessarily related.
But what Republicans have realized is that most people assess whether government is too big or too small using the deficit. If the government is running a deficit year after year, then it must be purchasing more than it can afford.
The problem, I think, is a false analogy with a household. When a household is in deficit month after month after month, it is a sign that the household is overspending relative to its income. And, since in most cases income cannot be changed in the short-run, or even in the long-run, a household in budget trouble has little choice but to work on the spending side of the equation.
However, the government's income is different from a households. The government has powers that households do not have, the power to change taxes. An increase in taxes will raise the government's income and help to solve the problem. The right has tried to convince us with Laffer curve nonsense that this margin cannot be adjusted, i.e. the false claim that tax increases will not increase revenues, and they have also made arguments about employment and economic growth. Or they have simply proclaimed, without justification, that tax increases are off the table.
None of those argument withstand closer scrutiny, but they are an easy sell due to the willingness of households to project their own troubles with balancing their budgets onto the government. Deficits mean spending cuts.
But like or or not, tax increases are going to be part of the solution. Spending cuts alone are not going to be sufficient. Right now the Republicans are winning the battle to influence the public's opinion, and their hope is to cut everything they possibly can that they disagree with ideologically -- no small number of programs -- before the realization that tax
cuts increases are needed too becomes clear to the public.
Obama's Plan to Reduce the National Debt: If the reports are correct, President Obama will propose budget cuts in his speech today, and the proposal will involve both increases in taxes and reductions is spending.
There is no doubt that we have a long-run budget problem, and the problem is driven mainly by expected increases in health care costs. Thus, to the extent that the president's proposal focuses on the health care cost growth problem, it will be a step in the right direction.
But there are also worries that come with budget reduction, especially when the economy is struggling to get back on its feet.
First, and foremost, the road back to full employment looks like it will be long and bumpy. Short-run budget cuts -- even cuts that help us address the long-run budget problem -- work against an already highly sluggish recovery. By themselves, the immediate budget cuts are unlikely to send the economy back into a recession. But a slower recovery is entirely possible.
The real danger comes if the economy is hit by a large, unexpected shock. A large oil price shock, for example, that is expected to persist could, along with the budget cuts, certainly be enough to cause the economy to go back into recession. A large financial shock could do the same thing.
Second, the steps needed to address the long-run problem are politically unpopular. No matter how the problem is resolved, one of the two sides of the political divide will be unhappy. In fact, there's a good chance both sides will be unhappy with the result. Thus, there will be a temptation to implement policies that look as though they are making headway on the deficit problem without actually facing the need to make the difficult decisions associated with reducing health care costs. If this type of deceptive avoidance is the outcome, and I expect it will be, the budget reductions will come with the risks above, but have little long-run payoff.
Ideally the president will propose a set of policies that would become effective down the road when the economy can handle it better, and directly address the health care cost issue. But no matter what is proposed the actual budget cuts -- constrained as they are by the political reality that what needs to be done is highly unpopular -- are likely to come too soon, and fall well short of what is needed to make progress on the long-run budget problem.
Q1 Growth Looking Weak – Will it Affect the Fed?, by Tim Duy: In my last post I argued the Fed will tend to look through an transitory inflation increase – especially any that can be traced back to commodity prices – as the economy marches toward potential output, and thus not rush into policy tightening. The string of downgrades to Q1 growth, however, is a reminder there is no guarantee that march will continue in a timely fashion. To what extent will the Fed tolerate growth that falls short of their forecasts? What is the tipping point for QE3?
Start with the most recent Fed economic projections from the January FOMC meeting. Although Q1 is looking weaker than anticipated, I doubt the projections will change much, as most policymakers will try to look through any one number to the underlying trend. The Fed is looking for Q4/Q4 growth in the 3.4-3.9 percent range this year. The longer run projection is 2.5-2.8 percent, a common estimate of potential growth, so the Fed projects closing the output gap by roughly a percentage point this year.
The downgrades to Q1 forecasts arguably place that forecast in jeopardy. Again, I don’t think the Fed will see it that way. I think they will see it as noise, especially if they are not picking up a lot of anecdotal information otherwise – I anticipate today’s Beige Book release to signal the recovery continues, with concern about energy prices eating into consumer spending. Moreover, notice this post from Calculate Risk with two interesting items. The first is from Goldman Sachs analysts, who argue that high frequency data suggest the pace of activity accelerated throughout the quarter, and thus the second quarter will be stronger. The second is a link to a WSJ article describing a shortage of rail cars. Both stories suggest a weak Q1 showing is more of a statistical aberration than anything else. Fed officials will be attracted to this line of reasoning.
I have argued that the pace of job creation suggests growth near or a little above trend, and thus myself have tended to discount a weak Q1 GDP report. Interestingly, the IMF delivered an updated assessment of the world economy, forecasting US growth of 2.8 percent (annual average), just about potential output. In contrast to the Fed, which expects growth to accelerate in 2012 and 2013, the IMF expects growth to be relatively unchanged for the next three years, which suggests little if any closure of the output gap and much higher unemployment than the Fed expects.
The Fed and IMF views are dramatically different. At this point I would add the words of wisdom once offered by a close friend: Always bet against the IMF. I think this stemmed from frequent IMF announcements that the “crisis is contained,” which rarely turned out to be accurate, but always an opportunity to short some emerging market currency. But, that aside, suppose the reality is looking more like the IMF view by the middle of this year, is there room for QE3? This quote (via the WSJ) from New York Federal Reserve President William Dudley suggests not, or at least not immediately:
I’d be very surprised if we didn’t complete QE2 [referring to the Fed’s second round of quantitative easing]. After that, though, the hurdle for QE3 is higher… One reason we embarked on QE2 was we really were worried about the risk of deflation in the U.S… Now the risks of deflation are greatly diminished. So one of the motivations behind QE2 is no longer in place.
The deflation threat was key reason the Fed stepped up the asset purchase program. Now no one is talking about deflation. And unless commodity prices just collapse, nor will they by midyear. Why? I suspect we will still be experiencing some of the pass through from the recent commodity price hikes for the next few months, which will be enough to keep Fed hawks riled up. Even if the economy is limping along near potential, jog growth should be steady if not exciting. I suspect that a touch of inflation coupled with growth, albeit lackluster, would make it difficult to clear the bar for QE3.
One could imagine that situation changing in early to mid-2012 as the transitory effects on inflation fade. And, of course, assuming the IMF is right and the Fed is wrong. If the Fed’s forecast is accurate, by early next year they will be looking to tighten.
Finally, a final interesting quote from Dudley:
It’s important to recognize that even with these commodity price pressures, other measures of inflation are very quiescent… There is no sign of any second round effect. Wages are rising very slowly and unit labor costs are running very very flat.
Watch wages it you are worried the Fed is getting behind the inflation curve, and notice Dudley points specifically to unit labor costs. The core of the Fed will resist panic unless unit labor costs start spiraling upward. Then they will panic.
Bottom line: Weak Q1 GDP is not likely to upset the Fed’s basic outlook. At best it is another nail in the coffin for any argument to pull the plug early on QE2. But even if growth comes in below the Fed’s forecast this year, the hurdle for QE3 is high. I think monetary policymakers would need to see clear evidence that the risks are turning back toward deflation. And unless growth is far weaker than expected, such evidence is unlikely to return until late this year or early next year.
Tuesday, April 12, 2011
Mr. President: Why Medicare Isn’t the Problem, It’s the Solution, by Robert Reich: I hope when he tells America how he aims to tame future budget deficits the President doesn’t accept conventional Washington wisdom that the biggest problem in the federal budget is Medicare (and its poor cousin Medicaid).
Medicare isn’t the problem. It’s the solution.
The real problem is the soaring costs of health care that lie beneath Medicare. They’re costs all of us are bearing in the form of soaring premiums, co-payments, and deductibles.
Americans spend more on health care per person than any other advanced nation and get less for our money. ...
So what’s the answer? For starters, allow anyone at any age to join Medicare. Medicare’s administrative costs are in the range of 3 percent. That’s well below the 5 to 10 percent costs borne by large companies that self-insure. It’s even further below the administrative costs of companies in the small-group market (amounting to 25 to 27 percent of premiums). And it’s way, way lower than the administrative costs of individual insurance (40 percent). It’s even far below the 11 percent costs of private plans under Medicare Advantage, the current private-insurance option under Medicare.
In addition, allow Medicare – and its poor cousin Medicaid – to use their huge bargaining leverage to negotiate lower rates with hospitals, doctors, and pharmaceutical companies. This would help move health care from a fee-for-the-most-costly-service system into one designed to get the highest-quality outcomes most cheaply.
Estimates of how much would be saved by extending Medicare to cover the entire population range from $58 billion to $400 billion a year. More Americans would get quality health care, and the long-term budget crisis would be sharply reduced.
Let me say it again: Medicare isn’t the problem. It’s the solution.
Here's another column:
At my blog at MoneyWatch:
Back to Basics, by Tim Duy: It is worthwhile to construct a simple framework to place into context the various Federal Reserve views on the state of the economy. Via that framework, we can at least keep clear whose bread is buttered on which side.
Begin with a basic AS-AD model:
I illustrated sort-run aggregate supply as kinked, with the horizontal portion reflecting sufficient excess capacity that prices hold constant across a range of output. This is not strictly necessary for a simple framework, but reflects the general impression that the threat of deflation was quickly replaced with inflation concerns. Also, I understand that a model in levels is not exactly ideal for considering inflation dynamics, but I also think we can see through to the general implications for inflation and policy. Consider an increase in aggregate demand:
Whatever you think of the nature of the recovery, there appears to be general agreement that some recovery is in place, what the Fed describes as “firmer footing.” The pace of job creation in the last six months appears consistent growth a little above trend. I think we can consider this improvement as a general increase in aggregate demand.
Note what occurs once demand rises sufficiently to pull output past the “kink” in the short run aggregate supply curve – there is suddenly room for upward pressure on prices. This appears consistnet with the general shift in risk away from deflation toward inflation. The situation could be somewhat more complicated if supply issues, particularly for oil, are putting upward pressure on the long run aggregate supply curve at the same time, but for the reasons given below this also does not need to impact our long run inflation story.
Importantly, we need to expect such pressure to continue as the price level rises until output reaches its potential. In short, the rising prices can coexist with large output gaps. How does this translate into likely the likely path of inflation? The way I think about it is that prices return to their prerecession trend:
Monday, April 11, 2011
Golden Oldies (Wonkish), by Paul Krugman: Mark Thoma jokes that “I’ve learned that new economic thinking means reading old books.” And Brad DeLong says that it’s no joke: the macroeconomics of 1936 — or even of 1873 — is a much better guide to current events and their policy implications than all the macro theory of the past few decades.
All this is very much in line with what I’ve been saying about a Dark Age of macroeconomics. But what happened, really? A few more thoughts.
Economics is basically about incentives and interaction — or, as Schelling put it, micromotives and macrobehavior. You try to think about what people will do in certain circumstances, and you try to understand how individual behavior adds up to an overall result.
What economists have known since Bagehot (with regard to financial markets) and since Keynes (with regard to goods and labor markets) is that under some circumstances seemingly reasonable individual behavior adds up to very unreasonable macro outcomes. ...
But notice that I’ve framed this in terms of “reasonable” behavior; it’s a lot harder to tell these stories in terms of perfectly rational, maximizing behavior.
One response — a pretty good response — is, “So?” After all, maximization isn’t a fact about human behavior, it’s a gadget — an assumption we use to cut through the complexities of psychology and all that, one that can be very useful if it clarifies your thought, but by no means an axiom or a law of nature.
But maximizing models have a special appeal for modern academic economists: they require solving equations! They’re rigorous! They make it easy to show that you’re doing “real research”. And so maximization tends to acquire a bigger importance in economic thought than it deserves.
To be fair, applying maximizing thinking has achieved some major successes even in macroeconomics. ...
But from the 1970s onwards, what happened was that the drive to base everything on maximizing behavior narrowed the profession’s thinking — and, crucially, led first to a de-emphasis, then to a total forgetting, of the great insights about interaction. We created an economics profession which believed that Keynesian economics, and for that matter Bagehotian finance, had been “proved wrong”; whereas all that had really happened was that those things proved hard to model in terms of perfectly rational maximizing agents. Again, so?
And there’s a sense in which even New Keynesian economics was wasted effort, at least from a social point of view, because it was mainly a way of showing New Classical types that we can too ground the concepts we already knew in maximizing models. Actually, I don’t think that’s entirely fair: I find that New Keynesian models, especially on the liquidity trap issue, do deepen my understanding. Still, you can understand why Larry Summers says that none of that stuff proved useful in actual policymaking.
The point, though, is that something went terribly wrong. Put it this way: if all we had known when this crisis struck was 1950-vintage macroeconomics, we would probably have done a better job of responding.
Someone asked me how I came to embrace the need for new economic thinking. The crisis had a loot to do with it. Before that, I was pretty defensive about economics and what it had to offer.
When the crisis hit, I felt I had to say something about what happened, and what we needed to do. But when I reached into the bag of models that had been popular over the last few decades, very few had much to offer, and the standard models were all but useless.
I can remember feeling guilty that I had been teaching my graduate students the wrong things all these years. They needed to know the latest models and latest technical tricks, so I don't mean it was a wasted effort to teach those things, but it wasn't augmented with the things from the past that would help us to understand what happened. Names like Minsky, Kindleberger, and Bagehot to name just a few were nowhere to be found, and because of that the ability to place what was happening in the correct historical context, to understand and evaluate what had been done in the past -- what could we learn and what mistakes should we avoid? But I hadn't introduced my students to any of this, and to be honest in the ten weeks I have with graduate students, every moment is crammed with the mathematics they'll need to do the dynamic optimization discussed above, and there is very little room to include it. So I think separate courses are needed, and as I said yesterday, they should include both history of economic thought and the economic history of the US and other countries (fitting these courses into the curriculum and finding a way to pay for the requisite faculty are big hurdles to doing this).
But here's the thing. The students have to understand that these courses are a crucial part of their education, not something only of interest to historians, and that will require a change in both the sociology and culture of the profession.