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Should New Keynesian models include a specific role for money (over and above
specifying the interest rate as the policy variable)? This is a highly wonkish, but mostly accessible explanation from Bennett
The Role of Money in New-Keynesian Models, by Bennett T. McCallum, Carnegie
Mellon University, National Bureau of Economic Research, N° 2012-019 Serie de
Documentos de Trabajo Working Paper series Octubre 2012
Here's the bottom line:
...we drew several conclusions supportive of the idea that a central bank that
ignores money and banking will seriously misjudge the proper interest rate
policy action to stabilize inflation in response to a productivity shock in the
production function for output. Unfortunately, some readers discovered an error;
we made a mistake in linearization that, when corrected, greatly diminished the
magnitude of some of the effects of including the banking sector. There seems
now to be some interest in developing improved models of this type. Marvin
Goodfriend (MG) is working with a PhD student in this topic. At this point I
have not been able to give a convincing argument that one needs to include M.
There is one respect in which it is nevertheless the case that a rule for the
monetary base is superior to a rule for the interbank interest rate. In this
context we are clearly discussing the choice of a controllable instrument
variable—not one of the "target rules" favored by Svensson and Woodford, which
are more correctly called "targets." Suppose that the central bank desires for
its rule to be verifiable by the public. Then it will arguably need to be a
non-activist rule, one that normally keeps the instrument setting unchanged over
long spans of time. In that case we know that in the context of a standard NK
model, an interest rate instrument will not be viable. That is, the rule will
not satisfy the Taylor Principle, which is necessary for "determinacy." The
latter condition is not, I argue, what is crucial for well-designed monetary
policy, but LS learnability is, and it is not present when the TP is not
satisfied. This is well known from, e.g., Evans and Honkapohja (2001), Bullard
and Mitra (2002), McCallum (2003, 2009). ...
Posted by Mark Thoma on Wednesday, October 31, 2012 at 12:56 PM in Economics, Macroeconomics, Methodology |
Jim Hamilton on the economic damage from hurricane Sandy:
... One parallel to consider is the devastation from Hurricane Katrina in 2005.
In addition to the short-run dislocations, this ended up causing
lasting damage to offshore oil-producing infrastructure. An optimist might
have thought this would create all kinds of new jobs trying to rebuild. The
actual experience was not so cheerful.
Seasonally adjusted nonfarm employment in Louisiana, 2004:M1 - 2007:M12, in
thousands of workers. Vertical line marks Hurricane Katrina in August 2005. Data
Wall Street Journal reports that IHS estimates that Hurricane Sandy could
reduce the 2012:Q4 U.S. real GDP growth rate by 0.6 percentage points at an
annual rate. I'm not sure how one comes up with that kind of number. But I am persuaded this was not a good thing for the U.S. economy.
Posted by Mark Thoma on Wednesday, October 31, 2012 at 12:32 PM
Romney continues to disrespect the mainstream press -- he appears to have no fear that they can expose
blatant falsehoods in a way that might cost him votes:
The ignominious return of the welfare lie, by Steve Benen: For much of
August, Mitt Romney proudly embraced as obvious a lie as has ever been heard in
presidential politics. The Republican insisted -- in speeches, interviews, and
ads -- that President Obama had "gutted the work requirement" in welfare law. He
blatantly lying, but didn't care.
Over the last month or so, Romney moved on to different lies, most notably
about the auto industry, but in the campaign's closing days, the
racially-charged welfare lie has made a comeback. ...
This unannounced attack ad, running
in several key states,... argues at the outset that Obama "gutted the work
requirement for welfare." This isn't just another lie; it's presidential
politics at its most disgusting.
What's more, Romney isn't relying on misleading technicalities, or hiding in
some ambiguous gray area between fact and fiction. This is just a demonstrable,
racially-inflammatory lie -- and the candidate knows it. ... And yet, Romney
keeps repeating it. ...
With this ad, Romney is once again carefully extending his middle finger in
reality's face. He doesn't care about getting caught -- his campaign has already
said, "[W]e're not going to let our campaign be dictated by fact checkers" -- he
just cares about what he can get away with as part of his quest for power.
This is the national political scandal of 2012, whether the political world
wants to admit it or not.
Posted by Mark Thoma on Wednesday, October 31, 2012 at 11:27 AM in Economics, Politics |
It's been interesting to watch people like Steven Williamson turn on Narayana
Kocherlakota because he no longer agrees with their views on monetary policy. The
"economics should be a science" people like Williamson resort to the oh so
scientific technique of name-calling, e.g. "goofy," "flimsy-excuse guy," e.g. see
latest (interesting that he chose to emphasize the name-calling rather than
the economics in his title for the post). But to me the most notable thing about
this is not Kocherlakota's change of heart. As Yglesias notes today, that's how
science should proceed -- if the evidence is against you, change your views. No,
the most interesting thing to me begins with statements such as
from Williamson two years ago:
the fact is that reserves are leaving banks in the form of currency as we can
see in this chart. ... Note in particular that reserves have recently been
leaving banks at a more rapid rate. It's possible that we would get more
inflation even without QE2.
around the same time:
I think it is quite possible that we will look back on QE2 as a severe error. In
spite of the talk from some quarters about the intervention being too small,
this is a very large-scale asset purchase for the Fed, on top of a previous very
large purchase of mortgage-backed securities and agency securities. One
possibility is that economic growth picks up, of its own accord, reserves become
less attractive for the banks, and inflation builds up a head of steam. The Fed
may find this difficult to control, or may be unwilling to do so. Even worse is
the case where growth remains sluggish, but inflation well in excess of 2%
starts to rear its ugly head anyway. Bernanke is telling us that he "has the
tools to unwind these policies," but if the inflation rate is at 6% and the
unemployment rate is still close to 10%, he will not have the stomach to fight
My concern here is that, given the specifics of the QE2 policy that was
announced, the FOMC will be reluctant to cut back or stop the asset purchases,
even if things start looking bad on the inflation front. Once inflation gets
going, we know it is painful to stop it, and we don't need another problem to
He was worried that economic growth would pick up soon (it didn't -- his model
misled him, or he didn't use a model in which case I have to wonder about his
"science") and inflation would become a problem. He supported this with charts, etc., and he also said inflation could be aproblem
even if economic growth didn't pick up.
Well, it didn't happen. We didn't get the economic growth his model had him worried about, and we didn't get the inflation his model predicted. His argument may be that it just hasn't happened yet, but that was two years ago (Nov. 6, 2010), and whatever
model was being used to worry about growth and inflation was wrong.
Very wrong. If we listen to Williamson, we forego two years of more aggressive
policy based upon a fear of inflation that doesn't materialize. Now, he says more aggressive
policy has no real effects so it's useless anyway (so why risk the inflation), but
theory and evidence disagree on this point. Most current work shows it did,
indeed, have modest effects (another failed prediction of his model).
And this is just funny:
So the Kocherlakota of 2 1/2 years ago had some worries about the potential for
inflation. Maybe he changed his mind for good reason? I don't think so. ...
Yes, all that inflation we've had should have validated his fears.
Williamson's complaint appears to be that Kocherlakota predicted something two
and a half years ago, it didn't happen, and he has the gall to use the fact that
his prediction failed to change his mind? He changed his mind based upon
evidence? He looked at evidence and did science??? How goofy is that? Doesn't he know -- as Williamson
apparently knew years ago -- that inflation is just around the corner (according
to his wonderfully scientific model)?
Williamson was wrong then, but right now because higher growth does look
likely in the near future, is that the argument? Why should we believe his model
of inflation and growth now now if it was wrong before? Or will inflation happen even without
higher growth like he said could happen two years ago? What should we believe
his model now if it was wrong before?
Look, I'm all for science, but that has to include changing your mind when
your model is wrong. After two years of running around telling everyone the sky is about to fall, perhaps Williamson will understand why people are more likely to listen to the evidence based views of Narayana and others than to him.
Posted by Mark Thoma on Wednesday, October 31, 2012 at 11:08 AM in Economics, Monetary Policy |
Disasters and Politics: ...let me just take a moment to flag an issue others
have been writing about: the weird Republican obsession with killing FEMA.
Kevin Drum has the goods: they just keep doing it. George Bush the elder
turned the agency into a dumping ground for hacks, with bad results; Clinton
revived the agency; Bush the younger ruined it again; Obama revived it again;
and Romney — with everyone still remembering Brownie and Katrina! — said that he
wants to block-grant and privatize it. (And as far as I can tell, even TV news
isn’t letting him Etch-A-Sketch the comment away).
There’s something pathological here. It’s really hard to think of a public
service less likely to be suitable for privatization, and given the massive
inequality of impacts by state, it really really isn’t block-grantable. Does the
right somehow imagine that only Those People need disaster relief? Is the whole
idea of helping people as opposed to hurting them just anathema?
It’s a bit of a mystery, calling more for psychological inquiry than policy
analysis. But something is going on here.
from Tod Kelly (via):
One of the hard lessons one learns in risk management is that no one funds
for catastrophic losses unless they are required by an outside agency to do so.
In many cases this is because it is not feasible to do so; but even in those
cases where it is feasible, no one does.
Were FEMA to be dismantled, for example, there would be no financial
resources from which to quickly rebuild from disasters like Hurricane Sandy.
Conservatives might argue that private insurers could provide such protection,
and this is certainly correct – on paper. However, one of the axioms from my
industry is that there is no such thing as an uninsurable risk, there are just
risks people aren’t willing to pay enough premium for.
This is absolutely true for natural disasters. If your insurance provider
offered you or your business coverage that would protect you from disasters like
Sandy, you would not be willing to pay the premium required. You might disagree
with that statement, but history shows that it is true. In fact, it is almost
universally true. Governmental disaster insurance schemes didn’t appear
magically in a vacuum; they were created because prior no one was willing to pay
enough money in premiums to allow insurance companies to properly fund for them,
and as a result the inevitable losses were uncovered.
That's true of government social insurance sprograms as well. They appeared for
a reason, and generally the reason is the inability of the private market to
provide adequate protection due to market failures or other causes. Pretending
that those problems no longer exist -- that privatization would somehow be
different this time -- is wishful thinking.
Posted by Mark Thoma on Wednesday, October 31, 2012 at 10:17 AM in Economics, Market Failure, Social Insurance |
Is there a link between climate change and hurricane Sandy?:
Did Climate Change Cause Hurricane Sandy?, by Mark Fischetti, Scientific
American: If you’ve followed the U.S. news and weather in the past 24 hours
you have no doubt run across a journalist or blogger explaining why it’s
difficult to say that climate change could be causing big storms like Sandy.
Well, no doubt here: it is.
The hedge expressed by journalists is that many variables go into creating a big
storm, so the
size of Hurricane Sandy, or any specific storm, cannot be attributed to
climate change. That’s true, and it’s based on good science. However, that
statement does not mean that we cannot say that climate change is making storms
bigger. It is doing just that—a statement also based on good science, and one
that the insurance industry is embracing, by the way. (Huh? More on that in a
Scientists have long taken a similarly cautious stance, but more are starting to
drop the caveat and link climate change directly to intense storms and other
extreme weather events, such as the warm 2012 winter in the eastern U.S. and the
frigid one in Europe at the same time. They are emboldened because researchers
have gotten very good in the past decade at determining what affects the
variables that create big storms. Hurricane Sandy got large because it wandered
north along the U.S. coast, where ocean water is still warm this time of year,
pumping energy into the swirling system. But it got even larger when a cold
Jet Stream made a sharp dip southward from Canada down into the eastern U.S.
The cold air, positioned against warm Atlantic air, added energy to the
atmosphere and therefore to Sandy, just as it moved into that region, expanding
the storm even further.
Here’s where climate change comes in. ... [more] ...
Posted by Mark Thoma on Wednesday, October 31, 2012 at 12:24 AM in Economics, Environment, Science |
Posted by Mark Thoma on Wednesday, October 31, 2012 at 12:06 AM in Economics, Links |
Dan Little is a philosopher of social science:
The philosophy of economics, by Dan Little: The philosophy of economics
intersects with several different areas of philosophy, including the philosophy
of science, ethics, and social philosophy. (Dan Hausman is the leading expert in
the philosophy of economics. His
The Inexact and Separate Science of Economics is a recent contribution.) The
field is concerned with methodology, values, and substance.
The primary focus of the field is on issues of methodology and epistemology—the
methods, concepts, and theories of economists. What kind of knowledge is
provided by the discipline of economics? How is economic knowledge justified or
confirmed? How does it relate to other social sciences and the bodies of
knowledge contained in those disciplines?
Second, philosophy of economics is concerned with values—the values of human
welfare, social justice, and the tradeoffs among priorities that economic
choices require. Economic reasoning has implications for justice and human
welfare; more importantly, economic reasoning often makes inexplicit but
significant ethical assumptions that philosophers of economics have found it
worthwhile to scrutinize.
Finally, the philosophy of economics is concerned with substance—what might be
called the ontology and theoretical space of economics. Here philosophers have
expressed interest in the institutions and structures through which economic
activity and change take place, and have turned a critical eye to the
assumptions economists often make about institutions and social processes. Are
there alternative institutions through which modern economic activity can
proceed? What are some of the institutional variants that exist within the
general framework of a market economy? What are some of the roles that the state
can play within economic development so as to promote efficiency, equity,
productivity, and growth?
In thinking about the philosophy of economics it is worthwhile dwelling briefly
on the intellectual role played by philosophy of economics. Philosophers are not
empirical researchers; and on the whole they are not formal theory-builders. So
what constructive role does philosophy have to play in economics? There are
several. First, philosophers are well prepared to examine the logical and
rational features of an empirical discipline. How do theoretical claims in the
discipline relate to empirical evidence? How do pragmatic features of theories
such as simplicity, ease of computation, and the like, play a role in the
rational appraisal of a theory? How do presuppositions and traditions of
research work to structure the forward development of the theories and
hypotheses of the discipline? Further, philosophers are well equipped to
consider topics having to do with the concepts and theories that economists
employ—for example, rationality, Nash equilibrium, perfect competition,
transaction costs, or asymmetric information. Philosophers can offer helpful
analysis of the strengths and weaknesses of such concepts and theories—thereby
helping practicing economists to further refine the theoretical foundations of
their discipline. In this role the philosopher serves as a conceptual clarifier
for the discipline, working in partnership with the practitioners to bring about
more successful economic theories and explanations.
In this aspect philosophers can serve as intelligent critics of the coherence
and empirical and theoretical credibility of the theories and approaches that
economists put forward. In order to accomplish this goal, the philosopher of
economics has a responsibility that is parallel to that of the philosopher of
biology or philosopher of physics: he or she must attain a professional and
rigorous understanding of the discipline as it currently exists. The most
valuable work in the philosophy of any science proceeds from the basis of
significant expertise on the part of the philosopher about the “best practice,”
contemporary debates, and future challenges of the discipline.
So far we have described the position of the philosopher as the “underlaborer”
of the economist. But in fact, the line between criticism and theory formation
is not a sharp one. Economists such as Amartya Sen and philosophers such as
Daniel Hausman have demonstrated that there is a very constructive crossing of
the frontier that is possible between philosophy and economics; and that
philosophical expertise can result in significant substantive progress with
regard to important theoretical or empirical problems within the discipline of
economics. The cumulative contents of the journal Economics and Philosophy
provide clear evidence of the productive engagements that are possible when
philosophy meets economics.
One issue stands out for special philosophical attention -- the role of values
in economics. Economists often portray their science as “value-free”—as a
technical analysis of the demands of rationality in the allocation of resources
rather than a specific set of value or policy commitments. On this
interpretation, the economist wishes to be understood as analogous to the civil
engineer rather than the transportation policy maker: he or she can tell us how
to build a stable bridge, but not where, when, or why to do so. It is for
citizens and policy makers to make the judgments about the public good that are
needed in order to decide whether a given road or bridge is socially desirable;
it is for the technical specialist to provide design and estimate of costs. But
philosophers doubt that economics is in fact value-free, or that it should
aspire to being so. Here is an earlier
post that considers recent thinking about this issue.
Posted by Mark Thoma on Tuesday, October 30, 2012 at 12:11 PM in Economics, Methodology |
Marchionne Weighs In on Jeep Flap, Washington Wire: Fiat/Chrysler Group Chief Executive Sergio Marchionne told company employees in
an email that production of Jeep sport utility vehicles will not be moved from
the U.S. to China, in his first formal response to a controversy ignited last
week when Republican presidential candidate Mitt Romney told a rally in Ohio
that Chrysler was contemplating such a move. ...
The Romney campaign has been told this is false. The response:
Romney expands false Jeep-to-China ad campaign, by Greg Sargent: Mitt
Romney’s new television ad
suggesting that the auto bailout will result in American jeep jobs getting
shipped to China has been widely pilloried by news organizations, both
nationally and in Ohio. The Romney campaign’s response: It is expanding the ad
A Dem source familiar with ad buy info tells me that the Romney campaign has now
put a version of the spot on the radio in Toledo, Ohio — the site of a Jeep
plant. The buy is roughly $100,000, the source says.
The move seems to confirm that the Romney campaign is making the Jeep-to-China
falsehood central to its final push to turn things around in the state. The
Romney campaign has
explicitly said in the past that it will not let fact checking constrain its
messaging, so perhaps it’s not surprising that it appears to be expanding an ad
campaign based on a claim that has been widely pilloried by fact checkers. ...
Steve Benen put it, this episode demonstrates more clearly than any other
yet that Romney “believes we’ve entered a post-truth era and the disincentive
has disappeared — he can repeat falsehoods with impunity without fear of
This falsehood is particularly pernicious — it plays on people’s fears for
their livelihoods. As I
noted earlier today, the president of a United Auto Workers local that
oversees workers at the Jeep plant says that after Romney first claimed Jeep was
moving production to China, the union received a bunch of calls from workers
worried about their jobs.
Ultimately, this may be Romney’s only recourse. ...
The mainstream media is getting dissed big time by the Romney campaign. Romney and company do not appear to have any fear that the media will be able to counter their false assertions (and this is far from the only example). I worry that the media is not up to the task, but nevertheless I hope this one bites back.
Posted by Mark Thoma on Tuesday, October 30, 2012 at 10:47 AM in Economics, Politics, Press |
The Best Political Case Against Romney (Which Obama Hasn't Made):
Probably the election's biggest shocker is the Obama campaign's virtual silence
on what is Democrats' single best issue and, as
this Bloomberg piece explains, the clearest proof that Romney's agenda puts
the wealthy over the middle class.
Bloomberg explains that Romney's Social Security plan puts 10 times the burden
on the middle class than it does on the rich. While all the focus has been on
explicit tax bills, Romney's Social Security plan is like a $1,000 tax hike for
a $45k/year worker, or 2.3% of wages. That's 10 times the implicit 0.23% tax
hike for a $1 million earner.
This goes a long way to explaining why Romney is leading on the economy; Obama
has been so focused on the invisible parts of Romney's agenda, he has never
pointed out the smoking guns that would have -- and still can -- destroy
Romney's credibility as an advocate for the middle class.
Without the wealthy paying their fare share of a Social Security fix, it would
be quite forceful to hit Romney's plan to raise the retirement age to nearly 70,
which is OK for Mitt's banker friends, but not so much for police officers,
miners and those who do physical work.
The kicker is that Ryan said at the VP debate the Romney's Social Security cuts
hit the "wealthy" and Romney says they target higher income workers. This is
simply false. The attached Bloomberg piece linked to above shows that the cuts
would almost certainly hit the top 70% of earners -- as low as $30k/yr. Ryan
made the same "wealthy" claim about his 2010 plan --
here at the 1:15 mark.
Romney's Social Security plan provides the substantive evidence that makes the
rest of his agenda look suspect. Romney's carried interest loophole does the
same thing in a way that is quite powerful: Instead of analyzing his plans, we
can see his actions since he started running for president.
You may recall that when Romney started running in 2007, Democrats began trying
to close this loophole that lets investment managers pay less than half the
regular income tax rate on a big part of their compensation.
Keep in mind that Romney's top economist Greg Mankiw
wrote back in 2007 that preferential tax treatment of carried interest was
unjustified. Further, even 3 out 4 on Wall Street
say it is welfare for millionaires
(Investment pros see Romney's tax break as welfare for the Mitt ).
So we know that Romney has netted millions from this loophole since he started
running for president, while his rich donors have netted billions and it has
cost the government about $15 bil.
Bottom line: Romney calls this deficit a "moral issue" yet he's been receiving
millions in welfare for millionaires while calling for healthcare cuts for the
poor and uninsured and calling for retirement age hikes for Social Security and
Medicare. Though he is personally generous, it is mind-boggling that his moral
compass has been pointing at everyone but himself and his donors.
Next, Romney must be the first presidential candidate in history running on plan
to increase the number of uninsured -- by 45 million, according to a
Commonwealth study. Getting rid of ObamaCare's backstop and hiking Medicare's
retirement age will leave a gaping hole in the safety net that millions in the
middle class will fall through.
When you add this all up and consider that Romney has been running for president
for 6 years but won't reveal details of his tax, deficit, healthcare &
immigration plans, it is clear that his assurances don't count for much.
[Let me add this from pgl at Econospeak:
Social Security: Romney Rehashes Robert Bennett’s Regressive Plan.]
Posted by Mark Thoma on Tuesday, October 30, 2012 at 09:34 AM in Economics, Politics, Social Security |
Posted by Mark Thoma on Tuesday, October 30, 2012 at 12:06 AM in Economics, Links |
Menzie Chinn at Econbrowser:
Romney/Ryan on FEMA and NOAA
But mostly just wanted to say that if you are in the storm's path, I sincerely hope that all is well.
Posted by Mark Thoma on Monday, October 29, 2012 at 07:41 PM in Economics, Politics |
Alan Kirman on how macroeconomics needs to change (I'm still thinking about his idea that the economy should be modeled as "a system which self organizes, experiencing
sudden and large changes from time to time"):
What’s the use of
economics?, by Alan Kirman, Vox EU: The simple question that was raised
during a recent conference organized by Diane Coyle at the Bank of England was
to what extent has - or should - the teaching of economics be modified in the
light of the current economic crisis? The simple answer is that the economics
profession is unlikely to change. Why would economists be willing to give up
much of their human capital, painstakingly nurtured for over two centuries? For
macroeconomists in particular, the reaction has been to suggest that
modifications of existing models to take account of ‘frictions’ or
‘imperfections’ will be enough to account for the current evolution of the world
economy. The idea is that once students have understood the basics, they can be
introduced to these modifications.
A turning point in economics
However, other economists such as myself feel that we have finally reached
the turning point in economics where we have to radically change the way we
conceive of and model the economy. The crisis is an opportune occasion to
carefully investigate new approaches. Paul Seabright hit the nail on the head;
economists tend to inaccurately portray their work as a steady and relentless
improvement of their models whereas, actually, economists tend to chase an
empirical reality that is changing just as fast as their modeling. I would go
further; rather than making steady progress towards explaining economic
phenomena professional economists have been locked into a narrow vision of the
economy. We constantly make more and more sophisticated models within that
vision until, as Bob Solow put it, “the uninitiated peasant is left wondering
what planet he or she is on” (Solow 2006).
In this column, I will briefly outline some of the problems the discipline of
economics faces; problems that have been shown up in stark relief during the
current crisis. Then I will come back to what we should try to teach students of
Entrenched views on theory and reality
The typical attitude of economists is epitomized by Mario Draghi, President
of the European Central Bank. Regarding the Eurozone crisis, he said:
“The first thing that came to mind was something that people said many years
ago and then stopped saying it: The euro is like a bumblebee. This is a mystery
of nature because it shouldn’t fly but instead it does. So the euro was a
bumblebee that flew very well for several years. And now – and I think people
ask ‘how come?’ – probably there was something in the atmosphere, in the air,
that made the bumblebee fly. Now something must have changed in the air, and we
know what after the financial crisis. The bumblebee would have to graduate to a
real bee. And that’s what it’s doing” (Draghi 2012)
What Draghi is saying is that, according to our economic models, the Eurozone
should not have flown. Entomologists (those who study insects) of old with more
simple models came to the conclusion that bumble bees should not be able to fly.
Their reaction was to later rethink their models in light of irrefutable
evidence. Yet, the economist’s instinct is to attempt to modify reality in order
to fit a model that has been built on longstanding theory. Unfortunately, that
very theory is itself based on shaky foundations.
Economic theory can mislead
Every student in economics is faced with the model of the isolated optimizing
individual who makes his choices within the constraints imposed by the market.
Somehow, the axioms of rationality imposed on this individual are not very
convincing, particularly to first time students. But the student is told that
the aim of the exercise is to show that there is an equilibrium, there can be
prices that will clear all markets simultaneously. And, furthermore, the student
is taught that such an equilibrium has desirable welfare properties.
Importantly, the student is told that since the 1970s it has been known that
whilst such a system of equilibrium prices may exist, we cannot show that the
economy would ever reach an equilibrium nor that such an equilibrium is unique.
The student then moves on to macroeconomics and is told that the aggregate
economy or market behaves just like the average individual she has just studied.
She is not told that these general models in fact poorly reflect
reality. For the macroeconomist, this is a boon since he can now analyze the
aggregate allocations in an economy as though they were the result of the
rational choices made by one individual. The student may find this even more
difficult to swallow when she is aware that peoples’ preferences, choices
and forecasts are often influenced by those of the other participants in the
economy. Students take a long time to accept the idea that the economy’s choices
can be assimilated to those of one individual.
A troubling choice for macroeconomists
Macroeconomists are faced with a stark choice: either move away from the idea
that we can pursue our macroeconomic analysis whilst only making assumptions
about isolated individuals, ignoring interaction; or avoid all the fundamental
problems by assuming that the economy is always in equilibrium, forgetting about
how it ever got there.
Exogenous shocks? Or a self-organizing system?
Macroeconomists therefore worry about something that seems, to the uninformed
outsider, paradoxical. How does the economy experience fluctuations or cycles
whilst remaining in equilibrium? The basic macroeconomic idea is, of course,
that the economy is in a steady state and that it is hit from time to time by
exogenous shocks. Yet, this is entirely at variance with the idea that
economists may be dealing with a system which self organizes, experiencing
sudden and large changes from time to time.
There are two reasons as to why the latter explanation is better than the
former. First, it is very difficult to find significant events that we can point
to in order to explain major turning points in the evolution of economies.
Second, the idea that the economy is sailing on an equilibrium path but is from
time to time buffeted by unexpected storms just does not pass what Bob Solow has
called the ‘smell test’. To quote Willem Buiter (2009),
“Those of us who worry about endogenous uncertainty arising from the
interactions of boundedly rational market participants cannot but scratch our
heads at the insistence of the mainline models that all uncertainty is exogenous
Some teaching suggestions
New thinking is imperative:
- We should spend more time insisting on the importance of coordination as
the main problem of modern economies rather than efficiency. Our insistence
on the latter has diverted attention from the former.
- We should cease to insist on the idea that the aggregation of the
choices and actions of individuals who directly interact with each other can
be captured by the idea of the aggregate acting as only one of these many
individuals. The gap between micro- and macrobehavior is worrying.
- We should recognize that some of the characteristics of aggregates are
caused by aggregation itself. The continuous reaction of the
aggregate may be the result of individuals making simple, binary
discontinuous choices. For many phenomena, it is much more realistic to
think of individuals as having thresholds - which cause them to react -
rather than reacting in a smooth, gradual fashion to changes in their
environment. Cournot had this idea, it is a pity that we have lost sight of
it. Indeed, the aggregate itself may also have thresholds which cause it to
react. When enough individuals make a particular choice, the whole of
society may then move. When the number of individuals is smaller, there is
no such movement. One has only to think of the results of voting.
- All students should be obliged to collect their own data about some
economic phenomenon at least once in their career. They will then get a
feeling for the importance of institutions and of the interaction between
agents and its consequences. Perhaps, best of all, this will restore their
enthusiasm for economics!
Some use for traditional theory
Does this mean that we should cease to teach ‘standard’ economic theory to
our students? Surely not. If we did so, these students would not be able to
follow the current economic debates. As Max Planck has said, “Physics is not
about discovering the natural laws that govern the universe, it is what
physicists do”. For the moment, standard economics is what economists
do. But we owe it to our students to point out difficulties with the structure
and assumptions of our theory. Although we are still far from a paradigm shift,
in the longer run the paradigm will inevitably change. We would all do
well to remember that current economic thought will one day be taught as history
of economic thought.
Buiter, W (2009), “The
unfortunate uselessness of most ‘state of the art’ academic monetary economics”,
Financial Times online, 3 March.
Coyle, D (2012) “What’s
the use of economics? Introduction to the Vox debate”, VoxEu.org, 19
Davies, H (2012), “Economics
in Denial”, ProjectSyndicate.org, 22 August.
Solow, R (2006), “Reflections on the Survey” in Colander, D., The Making of
an Economist. Princeton, Princeton University Press.
Posted by Mark Thoma on Monday, October 29, 2012 at 10:25 AM in Economics, Macroeconomics, Methodology |
Medicaid faces large cuts if Romney is elected:
Medicaid on the Ballot, by Paul Krugman, Commentary, NY Times: There’s a lot
we don’t know about what Mitt Romney would do if he won...; his economic “plan”
is an empty shell.
But one thing is clear: If he wins, Medicaid ... will face savage cuts.
Estimates suggest that a Romney victory would deny health insurance to about 45
million people who would have coverage if he lost, with two-thirds of that
difference due to the assault on Medicaid.
So this election is, to an important degree, really about Medicaid. And this, in
turn, means that you need to know something more about the program. ...
Medicaid is generally viewed as health care for the nonelderly poor... For those
who get coverage through the program, Medicaid is a much-needed form of
financial aid. It is also, quite literally, a lifesaver. Mr. Romney has said
that a lack of health insurance doesn’t kill people in America; oh yes, it does,
and states that expand Medicaid coverage show striking drops in mortality.
So Medicaid does a vast amount of good. But at what cost? There’s a widespread
perception, gleefully fed by right-wing politicians and propagandists, that
Medicaid has “runaway” costs. But the truth is just the opposite. ... Medicaid
is significantly better at controlling costs than the rest of our health care
Is Medicaid perfect? Of course not. Most notably, the hard bargain it drives
with health providers means that quite a few doctors are reluctant to see
Medicaid patients. Yet given the problems facing American health care — sharply
rising costs and declining private-sector coverage — Medicaid has to be regarded
as a highly successful program. It provides good if not great coverage to tens
of millions of people who would otherwise be left out in the cold, and as I
said, it does much right to keep costs down.
By any reasonable standard, this is a program that should be expanded, not
slashed — and a major expansion of Medicaid is part of the Affordable Care Act.
Why, then, are Republicans so determined to do the reverse, and kill this
success story? You know the answers. Partly it’s their general hostility to
anything that helps the 47 percent — those Americans whom they consider moochers
who need to be taught self-reliance. Partly it’s the fact that Medicaid’s
success is a reproach to their antigovernment ideology.
The question — and it’s a question the American people will answer very soon —
is whether they’ll get to indulge these prejudices at the expense of tens of
millions of their fellow citizens.
Posted by Mark Thoma on Monday, October 29, 2012 at 12:33 AM in Economics, Health Care, Politics |
On Coordinated Monetary and Fiscal Policy, by Tim Duy: Note: This began as an effort to tie together various themes in my writing. Unfortunately, short and succinct did not work. So I apologize in advance for the length of this post.
There are certainly trends in my writing. One is that the Federal Reserve spent much of this year behind the curve by failing to adapt their large scale asset purchase program or their communication strategy to the reality of a persistently weak economy. The Federal Reserve effectively dealt with that issue at the last FOMC meeting.
To be sure, I can quibble with some of the specifics, such as a lack of more explicit economic targets and a clear commitment to near term-irresponsibility by allowing inflation to rise above 2 percent when (or if) the economy gathers steam. On the first issue, I am coming around to the thinking that while explicit targets (other than inflation or nominal GDP) might sound good in theory, in practice trying to tie policy to a constellation of price and output targets risks becoming a communications nightmare. The Fed needs to tread very carefully on this point; it may be best for them to fall back on that old adage about pornography. We will know a "sufficient and sustainable" recovery when we see it.
The second issue, a promise to be irresponsible on inflation, remains unlikely as long as the Fed continues to stress it will take actions "in the context of price stability." I don't view a temporary increase in inflation as necessarily undermining neither the Fed's long-term inflation targets nor a nominal GDP target. And I think that the failure to make such a promise could very well disrupt a reversion of the economy to pre-recession trends. This I will discuss further later.
Another trend in my writing is that there needs to be some coordination between fiscal and monetary policy. Putting aside what I believe will be an aberration in the third quarter, authorities are already engaged in some degree of fiscal austerity:
and have effectively promised to do more. Should it even be reached, a compromise to the fiscal cliff will likely still be further austerity. I think that we should be wary about underestimating the impact of such austerity, especially as it is increasingly evident that multipliers are larger than expected at the zero bound. Fiscal austerity would likely be a key factor in maintaining the relatively tepid pace of the recovery into 2013. Moreover, fiscal austerity wastes the opportunity provided by a low interest rate environment. The Federal Reserve has already promised to buy a steady stream of assets from the financial markets. All Congress needs to do is sell debt into that stream. No explicit coordination necessary.
Another issue that I can't run away from is the potentially negative impacts of a sustained zero interest rate environment. It would be a mistake to believe that monetary policy does not have distributional impacts. Low interest rates obviously hurt savers:
Moreover, we should be concerned about distortions to the capital allocation process. Encouraging excessive risk taking now will come back to haunt us later. That said, it is necessary to balance such negative impacts against the positive impacts. Nor is it clear that the Federal Reserve is driving this train; the absence of an aggressive monetary policy might very well weaken the economy such that interest rates fall further. In any event, I am challenged to see how a different monetary policy would be effective; tightening policy at this juncture would likely be disastrous for the economy.
Finally, another issue to which I have already alluded is a belief that the US economy is on a suboptimal path:
This is obviously controversial. For example, St. Louis Federal Reserve President James Bullard has repeatedly said there is only one path, and we are on it. The appropriate monetary and fiscal reaction functions are obviously different in a such a world. In such a world monetary policy leads only to potentially greater inflation with little impact on growth.
Jumbled as it might seem due to the nature of blogging, somewhere in the background I have a framework that ties this altogether. And I was reminded by a colleague that I had seen that framework presented by another colleague, George Evans. The associated paper, "The Stagnation Regime of the New Keynesian Model and Recent US Policy" is here.
Evans begins with a New Keynesian in which expectations are formed by adaptive learning. An outcome of the model is that a sufficiently large negative shock can push the economy into a deflationary trap. Interestingly, agents learn their way into the trap by forming pessimistic expectations of future economic outcomes. My interpretation is that agents learn to live in what is often called the "new normal" and as a consequence make decisions that ensure the the new normal is a stable equilibrium.
The model is subsequently modified to account for nominal wage rigidities such that the low equilibrium trap, the stagnation regime, has an inflation floor. Another characteristic of the regime is low levels of output and consumption in which welfare is potentially much lower than the preferred equilibrium.
How can we break out of the stagnation regime? A temporary increase in government spending that is sufficiently large to allow a self-sustaining process to take over. The economy reaches an escape velocity such that agents learn there way allow a dynamic path to the preferred locally stable, higher equilibrium. At such a point, government spending can revert to normal without threatening a recession.
Monetary policy can also come into play, but Evans is less optimistic that the Federal Reserve is capable of breaking the US economy out of the trap. He notes that even promises of low rates forever may not be enough if the economy has suffered a sufficiently large negative shock. Evans adds that quantitative easing can support the economy via lowering long-term rates and stimulating demand, but also warns:
An additional problem, however, is that there are some distributional consequences that are not benign. Households that are savers, with a portfolio consisting primarily in safe assets like short maturity government bonds, have already been adversely affected by a monetary policy in which the nominal returns on these assets has been pushed down to near zero. A policy commitment at this juncture, which pairs an extended period of continued near zero interest rates with a commitment to use quantitative easing aggressively in order to increase inflation, has a downside of adversely affecting the wealth position of households who are savers aiming for a low risk portfolio.
There is a lot to digest in a short paper, but I encourage making the effort.
Thinking in terms of this model, it is immediately clear that one should be very concerned with impending fiscal austerity unless you believed the economy had already reached escape velocity (I don't). Moreover, you should be concerned about austerity even in context of the evolution of monetary policy into QE3 as it is not clear that the Fed can by itself push the economy to escape velocity. The Fed is literally stuck between a rock and a hard place, with the stimulative force of lower rates for borrowers traded off against lower income for savers, a point that Ed Harrison often makes. And the more we lean on monetary policy, the tighter that space gets. Yet we have little choice with a political environment that favors austerity over stimulus.
In addition, one should be concerned about the fragility of any recovery based upon a Fed-induced effort to achieve escape velocity. This is especially the case if the Fed has not promised (and whether such a promise is credible is another question) to be irresponsible in the transition to the higher equilibrium. Consider that the CBO projection for GDP growth is 4.8% in 2015. This, I suspect, is the kind of number needed to achieve escape velocity. But consider the Fed's reaction function in the face of such growth in the context of 1.) price stability and 2.) internal concerns about the ability to unwind quantitative easing. I think under those circumstance policymakers would error on the of tighter, faster rather than allowing a temporary acceleration of inflation.
The last paragraph brings up an interesting question. Even if the Fed promised to allow inflation to accelerate and did so, eventually they would tighten policy just the same. Which means the same recession, just a year later. 2015 or 2016. 2017 at the latest.
The problem is that the recovery is pretty much held together by debt refinancing, cheap mortgages and higher asset prices; by such measures, monetary policy has been successful! To be sure, there has been some debt reduction on the part of households:
But it is limited in comparison of the ability of households to utilize lower interest rates to reduce the cost of financing that debt:
I think in the near-term those who believe the monetary authority is the only answer will appear correct as the recovery progresses. Indeed, Annie Lowrey at the New York Times reports that household debt is now increasing for the first time since the Great Recession began. From a broad macroeconomic perspective, this is a near-term positive, and creates reason to believe that monetary policy will cushion the impacts of whatever flavor of the fiscal cliff we experience.
But I don't think this will be a stable long-term result. Obviously, I could be wrong, but it seems to me that we are using the same trick we have been using since the mid-1980's - lowering debt financing costs, thus allowing for a greater debt burden. This trick will continue to work as long as there is room to push interest rates further down. Now that we are at the zero bound in short-term rates and the Fed has been forced to move quite far out the yield curve to implement monetary policy, it is likely this is the last time that trick will work. There will not be much room to refinance our way out of trouble the next time around. Hence why I concerned about still being at the zero bound when the next recession hits.
Moreover, I would find it unlikely that we pass through another two or more years of zero interest rates without seeing capital mis-allocations, assets bubbles, and excessive risk taking. In such an environment, I don't think the Fed is going to be particularly successful in moving the economy off the zero bound without triggering a fresh recession.
Now, it would be easy to take this as criticism of the Federal Reserve. It isn't. The Fed should have moved to open-ended QE long ago to end the problem of arbitrary end dates to policy and needed to clean up its communication strategy to make clear the economic outcomes would define when QE would end. And, probably most importantly, the Fed is compensating for a dysfunctional US political process. I know there is one view (see Raghuram Rajan) that the Fed is simply enabling that process. Perhaps Congress would do the "right" thing if push comes to shove. But what is the "right" thing? If Congress were left to its own devices, would it take us down the road of fiscal stimulus sufficient to spring the economy from the stagnation trap? Or would they continue down the road of additional fiscal stimulus, driving the economy deeper into the trap? My sense is that Congress would find additional austerity to be the path of least resistance. Pete Peterson has won. The Congressional deck is stacked against the economy. And I think Federal Reserve Chairman Ben Bernanke knows this.
Putting all the piece together, I tend to think that neither fiscal nor monetary policy by itself will support a sustained recovery in which the interest rate environment normalizes and fiscal stimulus can be eliminated without fear of renewed recession. The two need to work hand in hand; the Federal Reserve has provided the monetary environment conducive to additional fiscal stimulus. Congress and the Administration now need to take advantage of the environment. Or, alternatively, if the fiscal authorities are not issuing sufficient new financial assets such that there is upward pressure on interest rates, they need to be issuing more.
In conclusion, the above framework both praises the direction of monetary policy without discounting concerns about the dangers of the permanent zero bound policy. A framework that allows for both accepting near-term growth on the back of monetary policy but also concern about the sustainability of that policy. A framework that decisively rejects additional austerity on a simple basis that it will not help normalize the interest rate environment. If nominal rates were 8% then yes, fiscal austerity would help normalize the interest rate environment. But that simply isn't the current situation. Perhaps, if we are lucky, it will be a problem in the future.
I realize that it would probably be easier if I could find myself either advocating the primacy of monetary policy in determining the level of output or deriding the Federal Reserve for the evils of the quantitative easing. Or if I could fully embrace fiscal stimulus as the only solution or austerity as the only solution. Picking one of those quadrant and defending it absolutely would probably make me more friends that straddling all four quadrants at once. But absolute devotion to one quadrant is probably not the right answer. I tend to believe that the right answer is a more complicated mix of monetary and fiscal policy than is currently employed. And don't think we can get to that right mix if we lock ourselves into an ideological box. Hence why I try to avoid such boxes.
Again, sorry for the long post.
Posted by Mark Thoma on Monday, October 29, 2012 at 12:24 AM in Economics, Fed Watch, Monetary Policy |
Posted by Mark Thoma on Monday, October 29, 2012 at 12:06 AM in Economics, Links |
This can't be right -- I don't trust the ranking -- but I can't help but be amused at being ranked ahead of CNN's
Political Ticker (and just behind The Caucus at the NYT). According to the
Technorati Top 100:
Posted by Mark Thoma on Sunday, October 28, 2012 at 06:17 PM in Economics, Weblogs |
White House quells talk of new tax cuts, by James Politi, FT:
The White House has sought to damp speculation it is considering new tax cuts
for the middle class, as it comes under pressure from fellow Democrats to limit
the economic damage from the expiration of the payroll tax cut at the end of the
The expected increase in payroll tax would be one element of the “fiscal cliff”
... that would shrink the disposable income of middle-class American workers.
One option for Barack Obama would be to propose new temporary tax breaks for the
middle class, which would go a long way towards easing those concerns.
However, such a move would probably face resistance from Republicans...
I guess that settles it. There's no way to use the fact that Republicans are proposing tax cuts for the wealthy while resisting a tax cut that helps the middle class to any political advantage. Republicans would resist, so why bother?
Posted by Mark Thoma on Sunday, October 28, 2012 at 03:38 PM in Economics, Fiscal Policy, Politics, Unemployment |
Inequality: Living in the Second Gilded Age, by Brad DeLong: A third of a
century ago, all of us economists confidently predicted that America would
remain and even become more of a middle-class society. The high income and
wealth inequality of the 1870-1929 Gilded Age, we would have said, was a
peculiar result of the first age of industrialization. Transformations in
technology, public investments in education, a progressive tax system, a safety
net, and the continued decline in discrimination on the basis of race and sex
had made late-20th century America a much more equal place than early 20th
century America, and would make early 21st century America even more equal —
even more of a middle-class society — still.
We were wrong.
America today is at least as unequal as, and may be more unequal than, it was
back at the start of the 20th century when Republicans, such as President
Theodore Roosevelt of New York condemned the power wielded by “malefactors of
great wealth,” and Democrats such as perennial losing presidential candidate
William Jennings Bryant of Nebraska denounced shadowy conspiracies that had
somehow manipulated the financial system to rob the typical family of its proper
share in America’s prosperity.
Four major and a host of minor factors have driven rising inequality over the
past third of a century: ...[continue
One complaint: It's more than just economics. In my view, Brad doesn't put
enough emphasis on the changing political tide over the last few decades, and
how that has altered public policy towards
institutions such as unions that were able to help workers get a fair share of
the output they produce (unions aren't even mentioned in the article). The explanation for rising inequality makes it
appear that economics -- factors such as winner-take-all markets in an
increasingly globalized world and skill based technical change -- can fully account for the problem. I don't see it that way. Economics surely contributed to the inequality problem, but the idea that
those at the top haven't received a penny more than they earned, that their incomes can be explained by economics alone, is hard to defend.
Workers incomes have not kept up with productivity -- they did not get a
fair share of the output they produced over the last few decades -- and that means some other group got more than it deserves. Given
the stagnant incomes at lower levels and widening inequality from growth at the
top, it's not hard to think of who that group might be, and it is not the least bit surprising that this just happens to be the group with the largest amount of political influence.
I don't have any problem with the statements made in the article about taxes on the wealthy and educational opportunity for working class households -- we need more of both -- but we also need to reform our institutions so that they work for all of us, not just the (ahem) job creators at the top.
(To be fair, Brad acknowledges that there has been a misallocation of resources with
too much going to finance and health care administration, and not
enough elsewhere, and he also notes that the political power of the wealthy make it hard to change the tax code. But for the most part his argument about rising inequality relies upon economics, and the political and institutional arguments are not emphasized. Again, I am not quarreling with the economics, I just think the political and institutional factors deserve more weight.)
But this is an old debate with Brad DeLong and others on one side, and
Krugman. et. al. on the other, e.g. see
To a good neoclassical economist, the statement that the relative price of a
factor of production--like the labor of the elite top 1% of America's wage and
salary distribution--has risen is the same thing as the statement that the
relative productivity of that factor of production has risen. But we need to
distinguish between these statements in order to make sense of the ongoing
argument between Andrew Samwick on the one hand and Paul Krugman and Mark Thoma
on the other.
In a nutshell: Is the statement that there is a higher return to education today
merely an assertion that the rich today earn more in relative terms than their
counterparts in the past? Or is it also a statement that the rich today are more
productive in relative terms than their counterparts in the past?
Andrew Samwick takes the first definition, and concludes that rising inequality
is the result of a higher return to education. By his lights, he is clearly
Paul Krugman and Mark Thoma take the second definition and conclude that that
rising inequality is not primarily the result of a higher return to
education but instead primarily the result of socio-political factors that have
raised the relative price of what the rich and well-educated do. And they too
have a strong case. Piketty and Saez's
latest numbers estimate that top
13,000 American households have multiplied their relative real incomes nearly
fivefold since the 1970s. Then they received some 0.6% of national income. Now
they receive nearly 2.8% of national income--an average of $25 million each,
compared to roughly $5 million each had the relative income distribution
remained at its 1970s levels. What are the CEOs, CFOs, COOs, elite Hollywood
entertainers, investment bankers, and the very highest levels of professionals
doing differently now in their work lives that makes them, in relative terms,
worth five times as much as their predecessors of a generation and a half ago?...
Posted by Mark Thoma on Sunday, October 28, 2012 at 11:21 AM in Economics, Income Distribution |
Posted by Mark Thoma on Sunday, October 28, 2012 at 12:06 AM in Economics, Links |
Gernot Wagner and Martin Weitzman on the "allure of geoengineering" as a solution to global warming, and the temptation for individual countries to act on their own:
Playing God: ... All it takes is a single actor willing to focus on the purported benefits to
his country or her region to pull the geoengineering trigger. The task with
geoengineering is to coordinate international inaction while the
international community considers what steps should be taken. The fate of the
planet cannot be left in the hands of one leader, one nation, one billionaire.
Fortunately, we are still many years off from the full "free driver" effect
taking hold. There's some time to engage in a serious global governance debate
and careful research: building coalitions, guiding countries and perhaps even
individuals lest they take global matters into their own hands. In fact, that is
where the discussion stands at the moment, with a
convened by the British Royal Society, the Academy of Sciences for the
Developing World, and the Environmental Defense Fund, among other deliberations
guiding how geoengineering research should be pursued.
With time come the "free drivers"
The clock, however, is ticking. A single dramatic climate-related event anywhere
in the world - think Hurricane Katrina on steroids - could trigger the "free
driver" effect. That event need not be global and it need not even be
conclusively linked to global warming. A nervous leader of a frightened nation
might well race past the point of debate to deployment. The "free driver" effect
will all but guarantee that we will face this choice at some point.
"Free riding" and "free driving" occupy opposite poles of the spectrum of
climate action: One ensures that individuals won't supply enough of a public
good. The other creates an incentive to engage in potentially reckless
geoengineering and supply a global bad. It's tough to say which one is
more dangerous. Together, these powerful forces could push the globe to the
Posted by Mark Thoma on Saturday, October 27, 2012 at 11:08 AM in Economics, Environment, Market Failure |
Via an email from Lane Kenworthy, here's more research
contradicting the claim made by Kevin Hassett and Aparna Mathur in the WSJ
that consumption inequality has not increased (here's
my response summarizing additional work contradicting their claim, a claim that is really an attempt to blunt the call to use taxation to address the growing inequality problem):
Inequality of Income and Consumption: Measuring the Trends in Inequality from
1985-2010 for the Same Individuals, by Jonathan Fisher, David S. Johnson, and
Timothy M. Smeeding: I. Introduction: Income and Consumption
The 2012 Economic Report of the President stated: “The confluence of rising
inequality and low economic mobility over the past three decades poses a real
threat to the United States as a land of opportunity.” This view was also
repeated in a speech by Council of Economics Advisors Chairman, Alan Krueger
(2012). President Obama suggested that inequality was “…the defining issue of
our time...” As suggested by Isabel Sawhill (2012), 2011 was the year of
While there has been an increased interest in inequality, and especially the
differences in trends for the top 1 percent vs. the other 99 percent, this
increase in inequality is not a new issue. Twenty years ago, Sylvia Nasar (1992)
highlighted similar differences in referring to a report by the Congressional
Budget Office (CBO) and Paul Krugman introduced the “staircase vs. picket fence”
analogy (see Krugman (1992)). He showed that the change in income gains between
1973 and 1993 followed a staircase pattern with income growth rates increasing
with income quintiles, a pattern that has been highlighted by many recent
studies, including the latest CBO (2011) report. He also showed that the income
growth rates were similar for all quintiles from 1947-1973, creating a picket
fence pattern across the quintiles.
Recent research shows that income inequality has increased over the past
three decades (Burkhauser, et al. (2012), Smeeding and Thompson (2011), CBO
(2011), Atkinson, Piketty and Saez (2011)). And most research suggests that this
increase is mainly due to the larger increase in income at the very top of the
distribution (see CBO (2011) and Saez (2012)). Researchers, however, dispute the
extent of the increase. The extent of the increase depends on the resource
measure used (income or consumption), the definition of the resource measure
(e.g., market income or after-tax income), and the population of interest.
This paper examines the distribution of income and consumption in the US
using data that obtains measures of both income and consumption from the same
set of individuals and this paper develops a set of inequality measures that
show the increase in inequality during the past 25 years using the 1984-2010
Consumer Expenditure (CE) Survey.
The dispute over whether income or consumption should be preferred as a
measure of economic well-being is discussed in the National Academy of Sciences
(NAS) report on poverty measurement (Citro and Michael (1995), p. 36). The NAS
Conceptually, an income definition is more appropriate to the view that what
matters is a family’s ability to attain a living standard above the poverty
level by means of its own resources…. In contrast to an income definition, an
expenditure (or consumption) definition is more appropriate to the view that
what matters is someone’s actual standard of living, regardless of how it is
attained. In practice the availability of high-quality data is often a prime
determinant of whether an incomeor expenditure-based family resource definition
We agree with this statement and we would extend it to inequality
measurement. In cases where both measures are available, both income and
consumption are important indicators for the level of and trend in economic
well-being. As argued by Attanasio, Battistin, and Padula (2010) “...the joint
consideration of income and consumption can be particularly informative.” Both
resource measures provide useful information by themselves and in combination
with one another. When measures of inequality and economic well-being show the
same levels and trends using both income and consumption, then the conclusions
on inequality are clear. When the levels and/or trends are different, the
conclusions are less clear, but useful information and an avenue for future
research can be provided.
We examine the trend in the distribution of these measures from 1985 to 2010.
We show that while the level of and changes in inequality differ for each
measure, inequality increases for all measures over this period and, as
expected, consumption inequality is lower than income inequality. Differing from
other recent research, we find that the trends in income and consumption
inequality are similar between 1985 and 2006, and diverge during the first few
years of the Great Recession (between 2006 and 2010). For the entire 25 year
period we find that consumption inequality increases about two-thirds as much as
income inequality. We show that the quality of the CE survey data is sufficient
to examine both income and consumption inequality. Nevertheless, given the
differences in the trends in inequality, using measures of both income and
consumption provides useful information. In addition, we present the level of
and trends in inequality of both the maximum and the minimum of income and
consumption. The maximum and minimum are useful to adjust for life-cycle effects
of income and consumption and for potential measurement error in income or
consumption. The trends in the maximum and minimum are also useful when
consumption and income alone provide different results concerning the
measurement of economic well-being. ...
Posted by Mark Thoma on Saturday, October 27, 2012 at 08:53 AM in Academic Papers, Economics, Income Distribution |
Posted by Mark Thoma on Saturday, October 27, 2012 at 12:06 AM in Economics, Links |
I was supposed to be here today, but a long flight delay made that impossible. (I know better than to route through San
Francisco in the fall -- it is often fogged in all morning -- but I took a
chance and lost the bet.):
National Bureau of Economic Research
Economics Fluctuations & Growth Research Meeting
Paul Beaudry and John Leahy, Organizers
October 26, 2012 Federal Reserve Bank of New York
10th Floor Benjamin Strong Room
33 Liberty Street New York, NY
Thursday, October 25:
6:30 pm Reception and Dinner Federal Reserve Bank of New York (enter at 44 Maiden Lane) 1st Floor Dining Room
Friday, October 26:
8:30 am Continental Breakfast
9:00 am Chang-Tai Hsieh, University of Chicago and NBER Erik Hurst, University
of Chicago and NBER Charles Jones, Stanford University and NBER Peter Klenow,
Stanford University and NBER
The Allocation of
Talent and U.S. Economic Growth Discussant: Raquel Fernandez, New York
University and NBER
10:00 am Break
10:30 am Fatih Guvenen, University of Minnesota and NBER Serdar Ozkan, Federal
Reserve Board Jae Song, Social Security Administration
Nature of Countercyclical Income Risk Discussant: Jonathan Heathcote,
Federal Reserve Bank of Minneapolis
11:30 am Loukas Karabarbounis, University of Chicago and NBER Brent Neiman,
University of Chicago and NBER
Declining Labor Shares and the Global Rise of Corporate Savings Discussant:
Robert Hall, Stanford University and NBER
12:30 pm Lunch
1:30 pm Stephanie Schmitt-Grohe, Columbia University and NBER Martin Uribe,
Columbia University and NBER
Policy for Peggers Discussant: Gianluca Benigno, London School of
2:30 pm Break
3:00 pm Eric Swanson, Federal Reserve Bank of San Francisco John Williams,
Federal Reserve Bank of San Francisco
the Effect of the Zero Lower Bound on Medium- and Longer-Term Interest Rates
Discussant: James Hamilton, University of California at San Diego and NBER
4:00 pm Alisdair McKay, Boston University Ricardo Reis, Columbia University and
NBER The Role of
Automatic Stabilizers in the U.S. Business Cycle Discussant: Yuriy
Gorodnichenko, University of California at Berkeley and NBER
5:00 pm Adjourn
Posted by Mark Thoma on Friday, October 26, 2012 at 09:32 AM in Academic Papers, Economics, Travel |
Obama's economic plan is nothing to get overly excited about, but it's still
a lot better than Romney's:
Pointing Toward Prosperity?, by Paul Krugman, Commentary, NY Times: Mitt
Romney has been barnstorming the country, telling voters that he has a
five-point plan to restore prosperity. And some voters, alas, seem to believe
what he’s saying. So President Obama has now responded with his own plan, a
little blue booklet containing 27 policy proposals. How do these two plans stack
Well, as I’ve said before, Mr. Romney’s “plan” is a sham. It’s a list of things
he claims will happen, with no description of the policies he would follow to
make those things happen. “We will cut the deficit and put America on track to a
balanced budget,” he declares, but he refuses to specify which tax loopholes he
would close to offset his $5 trillion in tax cuts.
Actually, if describing what you want to see happen without providing any
specific policies to get us there constitutes a “plan,” I can easily come up
with a one-point plan that trumps Mr. Romney any day. Here it is: Every American
will have a good job with good wages. Also, a blissfully happy marriage. And a
So Mr. Romney is faking it. ... But what about the man he wants to kick out of
the White House?
Well, Mr. Obama’s booklet comes a lot closer to being an actual plan. ... So, is
Mr. Obama offering an inspiring vision for economic recovery? No... His economic
agenda is relatively small-bore...
But a slow job is better than a snow job. Mr. Obama may not be as bold as we’d
like, but he isn’t actively misleading voters the way Mr. Romney is.
Furthermore, if we ask what Mr. Romney would probably do in practice, including
sharp cuts in programs that aid the less well-off and the imposition of
hard-money orthodoxy on the Federal Reserve, it looks like a program that might
well derail the recovery and send us back into recession.
And you should never forget the broader policy context. Mr. Obama may not have
an exciting economic plan, but, if he is re-elected, he will get to implement a
health reform that is the biggest improvement in America’s safety net since
Medicare. Mr. Romney doesn’t have an economic plan at all, but he is determined
not just to repeal Obamacare but to impose savage cuts in Medicaid. So never
mind all those bullet points. Think instead about the 45 million Americans who
either will or won’t receive essential health care, depending on who wins on
Posted by Mark Thoma on Friday, October 26, 2012 at 12:25 AM in Economics, Politics |
Chris Dillow says he's
surprised a libertarian would even ask this question
Why won't the left acknowledge the difference between deserving poor and
undeserving poor. Why support the feckless, lazy & irresponsible?
I'd answer thusly ...
Posted by Mark Thoma on Friday, October 26, 2012 at 12:15 AM in Economics, Social Insurance |
Posted by Mark Thoma on Friday, October 26, 2012 at 12:06 AM in Economics, Links |
Travel day for me today -- one more quick post before heading to the airport:
Our Debt to Stalingrad, by Brad DeLong, Commentary, Project Syndicate: We
are not newly created, innocent, rational, and reasonable beings. We are not
created fresh in an unmarked Eden under a new sun. We are, instead, the products
of hundreds of millions of years of myopic evolution, and thousands of years of
unwritten and then recorded history. Our past has built up layer upon layer of
instincts, propensities, habits of thought, patterns of interaction, and
On top of this historical foundation, we build our civilization. Were it not for
our history, our labor would not just be in vain; it would be impossible.
And there are the crimes of human history. The horrible crimes. The unbelievable
crimes. Our history grips us like a nightmare, for the crimes of the past scar
the present and induce yet more crimes in the future.
And there are also the efforts to stop and undo the effects of past crimes.
So it is appropriate this month to write not about economics, but about
something else. Seventy-nine years ago, Germany went mad. ...
Posted by Mark Thoma on Thursday, October 25, 2012 at 10:08 AM in Economics, Miscellaneous |
This is by Ethan Kaplan of the University of Maryland (via email):
Does Taxing the Wealthy Hurt Growth?, by Ethan Kaplan: What is
the impact of taxation on growth? In theory, a country without taxation will
have difficulty providing basic public goods such as roads and research
that are fundamental for economic growth. However, many politicians and some
economists argue that once basic public goods are provided for, increases in
taxation have a negative impact on growth. According to this argument, this is
especially true for taxes on the very wealthy, who are likely to save their
income and channel that savings into entrepreneurship or other investment. Much
of the argument over tax policy in the United States is focused on whether the
rich should be taxed at a higher or lower rate than they are today. The argument
in favor of higher rates is that income inequality is at extremely high levels
and the government should focus more on redistribution and also that the rising
national debt is also potentially harmful to growth. The argument against
higher rates is that raising taxes on wealthy would disincentivize the people
most likely to create economic growth and thus jobs. In a climate where jobs are
scarce, the argument goes, this is a particularly bad economic idea.
This debate, however, is largely based on ideology rather than evidence.
Unfortunately, it is quite difficult to figure out the impact of taxation on
growth. Changes to the tax codes usually pass Congress when other things are
happening to the economy. For example, the 1982 tax cuts, which dropped the top
marginal tax rate from 69% to 50%, were passed towards the end of a large
recession. Moreover, the impact of taxes on growth can change over time as the
Nevertheless, looking at the raw correlation between top marginal tax rates and
growth can be helpful for getting a rough sense of the likely impacts of higher
taxation on growth. One
recent paper by Pikkety, Saez, and Stantcheva looks at the correlation
between top marginal tax rates and growth and finds the growth is higher when
top marginal tax rates are higher. I restrict myself to the historical
experience of the United States and go back to 1930. In particular, I took real
chained per capita GDP growth from 1930 to the present from the Bureau of
Economic Analysis' (BEA) website. The correlation over this period between the
top marginal tax rate and output growth is strong and positive as can be seen
A rise in the top marginal tax rate from 0 to 100 percent is correlated with a
rise in per capita growth of 5.85 percentage points per year. One reason that
this simple correlation might overstate the impact of the marginal tax rate on
growth is that the top growth years were in the early 40s when the
government was spending heavily and when the country was finally recovering from
the Great Depression. If we look only at the post war period (after 1946), a
rise from 0 to 100 percent in the top marginal tax rate is associated with an
increase of only 2.69 percentage points of growth. Moreover, the statistical
significance of the relationship becomes marginal, as the p-value rises from
0.017 to 0.122. On the other hand, if we look at the time period encompassing
1960 to the present, a rise in the top rate from 0 to 100 percent is correlated
with a rise in per capita growth of 3.03 percentage points of growth per year,
and the relationship becomes more statistically significant (with a p-value of
0.064 percent). Finally, if we look only at the years since 1980, a rise from 0
to 100 percent in the top marginal tax rate is associated with an increase in
growth of 3.87 percentage points. In this case, the relationship is
statistically insignificant (with a p-value of 0.392 percent), in part because
the sample size is small.
While we cannot say that there is a robust significant positive relationship
between tax rates and growth, it is still interesting that regardless of when we
start the sample, higher top marginal tax rates are associated with higher not
lower growth. Moreover, a narrative reading of postwar US economic history leads
to the same conclusion. The period of highest growth in the United States
was in the post-war era when top marginal tax rates were 94% (under President
Truman) and 91% (through 1963). As top marginal rates dropped, so did growth.
Moreover, except for 1984, a recovery year, the highest per capita growth rates
since 1980 were all in the late 1990s, after the top marginal tax rate had been
increased from 28% under President Reagan to 31% under the first President Bush
and then 39.6% under President Clinton. One possible reaction to this finding is
that what matters more than the top marginal tax rate on income is the capital
gains tax rate but
growth has also been higher when the capital gains tax rate has been higher.
So, what does this tell us? Of course, it would be silly to make the argument
that increasing top marginal rates from 0 to 100 percent increased per capita
growth by almost 6 percentage points per year. No doubt there are other factors
that could confound the relationship between tax rates and growth. However, the
changes in top marginal tax rates over the period are quite large so it seems
likely that if raising top marginal rates did have a large negative impact on
growth, we should be able to see it in the correlations. Thus, it also
seems silly to argue that higher taxes on the rich have a large negative impact
on growth, given that historically growth is, if anything, positively correlated
with the top marginal rate.
What does this mean for public policy? Given the large rise in inequality in the
United States over the past 40 years, if the historical evidence tells us that
it is unlikely that taxing the wealthy has a large negative impact on growth
(and it might even have a positive impact), shouldn't we increase rates on the
wealthy from their current top rates of 35%?
p.s. the data used to analyze the time series is available on my website:
Posted by Mark Thoma on Thursday, October 25, 2012 at 09:08 AM in Economics, Productivity, Taxes |
Still The Scariest Data, by Tim Duy: I tend to view the data as being modestly optimistic in that it has generally surprised on the upside of late, enough to drive away fears that the slow patch this summer would evolve into a recession in the near future. Still, the data has not been sufficiently optimistic to sway me from my general view that underlying growth continues to be slow and steady.
For example, I would like to see initial unemployment claims make another push lower to cement a stronger outlook:
That said, I remain unsettled by the core manufacturing data, which I would say is clearly in recession territory:
I think this is the scariest near-term indicator at the moment. Of course, one piece of data in no way makes a recession. I attribute the decline to three factors. First, expiring tax credits pulled some investment into 2011. Second, the drag from international weakness. Third, uncertainty about the extent of fiscal tightening in 2013. At least the second, and probably the third, of these three factors is weighing on earnings growth, which in turn has brought the bull market in equities to at least a pause. From Neil Irwin at the Washington Post:
The CEO mindset on the fiscal cliff has been evident in a spate of third-quarter earnings announcements in the past two weeks. Almost uniformly, company executives discuss the looming threat to the economy, usually offering only vague comments that it has been a drag on their confidence and that they don’t know exactly what a resolution would look like....
...Some of the gloomiest assessments of economic conditions have come from companies that do extensive business overseas. By many accounts, as troubled as the U.S. economy has been in recent months, it looks better than many of its counterparts.
Yes, sad as it seems, across the globe the US is a bright spot at the moment.
Bottom Line: The core manufacturing data stands out as an aberration. While arguably a recessionary indicator, it also comes at a time of an improving housing market. It would be unusual, to say the least, to experience a recession when housing is trending up. Moreover, I remain skeptical that trade channels are sufficient to trip the economy into recession. Still, I can't discount the recession threat entirely; to do so would be ludicrous in the face of the looming fiscal cliff. On average, Congress and the Administration have tended to limp things along, and hence the median bet should be that they will continue to do so. But all bets wear thin after awhile. Assuming monetary policy remains on hold (which it will), the degree of fiscal austerity in 2013 remains my chief concern.
Posted by Mark Thoma on Thursday, October 25, 2012 at 09:00 AM in Economics, Fed Watch, Monetary Policy |
... My basic thought ... is that the paradigm college experience is just plain going
to cost a lot. Four years being a full-time student at a residential college,
say. That’s not going to come cheap. We shouldn’t beat our brains out about how
we can do this thing inexpensively... There isn’t some conspiracy to
artificially inflate the cost of college. We could do different things.
That might cost less. ... But there isn’t any reason to think we can do
substantially the same things we already are, just at much lower cost. This is
clearly a source of sincere disagreement... Some people think that the rate at
which college costs have gone up means that there must be some way to
pop the cost bubble and dramatically lower costs back down without sacrificing
quality. There’s some conspiracy of incompetence or venality by the
administrators/teachers. We need to break the back of that, whatever it
is, then things would get better. I don’t really think that’s plausible, but if
you think it’s plausible, go ahead and work out your own solution to the problem
along those lines.
College is a premium product. A costly good. But a valuable one we want people
to have. If the state isn’t going to subsidize its provision, making it
available to all, then how will it go?
Option 1: everyone who isn’t rich goes into serious debt to pay for this costly
but valuable good.
Option 2: we devise a less premium product. It won’t be as good, but it will
I distrust Option 1. In fact, I’m paranoid about it, for reasons
outlined in this article. I
don’t quite drink the full jug of kool-aid. For example, I don’t buy that
tuition has skyrocketed ‘because it can’. That is, there’s just a speculative
bubble, in effect. I don’t think the growth in administration is quite as
sinister as they suggest. It’s largely a function of universities wanting to do
so much for students – so many programs and options and choices – which is a
good thing. But it creates overhead costs.
I do agree that private for-profit outfits like University of Phoenix are, in
effect, trying to get their noses into the huge trough of student loan money.
That’s worrisome. The old are eating their young, leaving them holding the debt
bag [pardon my mixed metaphor]. I am less worried by things like Western
Governors University, which seems genuinely committed to trying to find a way to
Option 2. Which makes me sad, but at least it isn’t some private sector trick to
saddle students with debt. At least it’s an attempt to keep the democratic ideal
of higher education for all alive, even if the dream looks pretty
Western Governors gives up the dream of a well-rounded liberal arts education.
It gives up all the stuff that you can only do hands-on, in person. It gives up
college as a formative social experience. It gives up a lot. But what it
provides is worth something, and it’s not clear they are charging more than it
is worth. It just makes me depressed to look at it, is all. But I can’t really
argue with the logic of it, if the alternative is Option 1..., it might
be the way of the future. ...
Posted by Mark Thoma on Thursday, October 25, 2012 at 12:27 AM in Economics, Universities |
Posted by Mark Thoma on Thursday, October 25, 2012 at 12:06 AM in Economics, Links |
Kevin Hassett and Aparna
Mathur argue that consumption inequality has not increased along with income
inequality. That's not what recent research says, but before getting to that, here's their argument:
Consumption and the Myths of Inequality, by Kevin Hassett and Aparna Mathur,
Commentary, WSJ: In multiple campaign speeches over the past week, President
Obama has emphasized a theme central to Democratic campaigns across the country
this year: inequality. ... To be sure, there are studies of income
inequality—most prominently by Thomas Piketty of the Paris School of Economics
and Emmanuel Saez of the University of California at Berkeley—that report that
the share of income of the wealthiest Americans has grown over the past few
decades while the share of income at the bottom has not. The studies have
problems. Some omit worker compensation in the form of benefits. And economist
Alan Reynolds has noted that changes to U.S. tax rules cause more income to be
reported at the top and less at the bottom. But even if the studies are accepted
at face value, as a read on the evolution of inequality, they leave out too
Let me break in here. Here's what Piketty and Saez say about Reynold's work:
In his December 14 article, “The Top 1% … of What?”, Alan Reynolds casts doubts
on the interpretation of our results showing that the share of income going to
the top 1% families has doubled from 8% in 1980 to 16% in 2004. In this
response, we want to outline why his critiques do not invalidate our findings
and contain serious misunderstandings on our academic work. ...
Back to Hassett and Mathur
Another way to look at people's standard of living over time is by their
consumption. Consumption is an even more relevant metric of overall welfare than
pre-tax cash income, and it will be set by consumers with an eye on their
lifetime incomes. Economists, including Dirk Krueger and Fabrizio Perri of the
University of Pennsylvania, have begun to explore consumption patterns, which
show a different picture than research on income.
Let me break in again and deal with the Krueger and Perri Krueger and Perri (2006)
paper, which followed the related work by Slesnick (2001):
Has Consumption Inequality Mirrored Income Inequality?: This paper by Mark
Aguiar and Mark Bils finds that "consumption inequality has closely
tracked income inequality over the period 1980-2007":
Has Consumption Inequality Mirrored Income Inequality?, by Mark A. Aguiar
and Mark Bils, NBER Working Paper No. 16807, February 2011:
Abstract We revisit to what extent the increase in income
inequality over the last 30 years has been mirrored by consumption inequality.
We do so by constructing two alternative measures of consumption expenditure,
using data from the Consumer Expenditure Survey (CE). We first use reports of
active savings and after tax income to construct the measure of consumption
implied by the budget constraint. We find that the consumption inequality
implied by savings behavior largely tracks income inequality between 1980 and
2007. Second, we use a demand system to correct for systematic measurement error
in the CE's expenditure data. ...This second exercise indicates that
consumption inequality has closely tracked income inequality over the period
1980-2007. Both of our measures show a significantly greater increase in
consumption inequality than what is obtained from the CE's total household
expenditure data directly.
Why is this important? (see also "Is
Consumption the Grail for Inequality Skeptics?"):
An influential paper by Krueger and Perri (2006), building on related work
by Slesnick (2001), uses the CE to argue that consumption inequality has not
kept pace with income inequality.
And these results have been used by some -- e.g. those who fear
corrective action such as an increase in the progressivity of taxes -- to
argue that the inequality problem is not as large as figures on income
inequality alone suggest. But the bottom line of this paper is that:
The ... increase in consumption inequality has been large and of a similar
magnitude as the observed change in income inequality.
So they are citing what is now dated work. They either don't know about the more recent work, or simply chose to ignore it because it doesn't say what they need it to say.
Okay, back to Hassett and Mathur once again. They go on to cite their own
work -- more on that below. One thing to note, however, is that the recent research
in this area says the data they use must be corrected for measurement error or you are
likely to find the (erroneous) results they find. As far as I can
tell, the data are not corrected:
Our recent study, "A New Measure of Consumption Inequality," found that the
consumption gap across income groups has remained remarkably stable over time.
While this stability is something to applaud, surely more important are the real
gains in consumption by income groups over the past decade. From 2000 to 2010,
consumption has climbed 14% for individuals in the bottom fifth of households,
6% for individuals in the middle fifth, and 14.3% for individuals in the top
fifth when we account for changes in U.S. population and the size of households.
This despite the dire economy at the end of the decade.
Should we trust this research? First of all this is Kevin Hassett.
How much do you trust the work once you know that? Second, it's on the WSJ
editorial page. How much does that reduce your trust? I'd hope the answer is
"quite a bit." Third, big red flags when researchers cherry pick start and/or
end dates. Fourth, as already noted, recent research shows that the no growth in consumption inequality result is due to measurement error in the CES data. When the
data are corrected, consumption inequality mirrors income inequality. They don't say a word about correcting the data.
Next, we get the "but they have cell phones!" argument:
Yet the access of low-income Americans—those earning less than $20,000 in real
2009 dollars—to devices that are part of the "good life" has increased. The
percentage of low-income households with a computer rose... Appliances? The
percentage of low-income homes with air-conditioning equipment...,
dishwashers..., a washing machine..., a clothes dryer..., [and] microwave
ovens... grew... Fully 75.5% of low-income Americans now have a cell phone, and
over a quarter of those have access to the Internet through their phones.
Before turning to their conclusion, let me note more new research in this
area from a post earlier this year,
But They Have TVs and Cell Phones!, emphasizing the measurement error problem:
Consumption Inequality Has Risen About As Fast As Income Inequality, by Matthew
Yglesias: Going back a few years one thing you used to hear about America's
high and rising level of income inequality is that it wasn't so bad because
there wasn't nearly as much inequality of consumption. This story
started to fall apart when it turned out that ever-higher levels of private
indebtedness were unsustainable (nobody could have predicted...) but Orazio
Attanasio, Erik Hurst, and Luigi Pistaferri report in a new NBER working paper "The
Evolution of Income, Consumption, and Leisure Inequality in The US, 1980-2010"
that the apparently modest increase in consumption inequality is actually a
They say that the Consumer Expenditure Survey data from which the old-school
finding is drawn is plagued by non-classical measurement error and adopt four
different approaches to measuring consumption inequality that shouldn't be hit
by the same problem. All four alternatives point in the same direction:
"consumption inequality within the U.S. between 1980 and 2010 has increased by
nearly the same amount as income inequality."
Here's Hassett and Mathur's ending:
It is true that the growth of the safety net has contributed to massive
government deficits—and a larger government that likely undermines economic
growth and job creation. It is an open question whether the nation will be able
to reshape the net in order to sustain it, but reshape it we must. ...
After arguing (wrongly) that consumption has kept pace with income, they say
it's only because of the deficit -- but it's not sustainable. So suck it up middle
class America, consumption inequality has increased despite the claims of
denialists like Hassett, and if they get their way and reduce the social safety
net, it will only get worse.
Hassett and company denied that income inequality was growing for years
(notice their attempt to do just that in the first paragraph by citing
discredited research from Alan Reynolds), then when the evidence made it
absolutely clear they were wrong (surprise!), they switched to consumption
inequality. Recent evidence says they're wrong about that too.
Posted by Mark Thoma on Wednesday, October 24, 2012 at 06:46 PM in Academic Papers, Economics, Income Distribution |
[Note: The video starts at the 16:15 mark, and the Krugman and Stiglitz discussion begins at 25:30]
Posted by Mark Thoma on Wednesday, October 24, 2012 at 02:18 PM in Economics, Video |
Rajiv Sethi argues that the abrupt change in the price of presidential
contracts on Intrade was probably due to something other than attempted
manipulation of the market to make Romney look better:
Algorithms, Arbitrage, and Overreaction on Intrade, by Rajiv Sethi: There
were some startling price movements in the presidential contracts on Intrade
What caused this unusual price behavior? There's been some talk of attempted
manipulation, but I have my doubts because the trader who was buying
aggressively over this period was extremely naive. ... Throughout the buying
frenzy, the Obama contract never fell below 57 and there was a substantial block
of bids at or above this price. The trader who was buying Romney at 48 could
have made the same bet for 43 by simply selling the Obama contract at 57. In
fact, he would have obtained a slightly superior contract, which would pay off
if any person other than Obama were to win, including but not limited to Romney.
This fact also explains the oscillations in the Romney price, and the decline to
57 under selling pressure of the Obama price. Any individual who had posted ask
prices in the 43-48 range in the Romney market had these orders met by the
crazed buyer, and could then sell Obama above 57 for an immediate arbitrage
profit. As it happens, there are algorithms active on Intrade that do precisely
If this was not an instance of attempted manipulation, then what was it? I
suspect that it was an overzealous response to
reports of a major announcement
concerning the presidential race, promised by Donald Trump. Further
activity in the presidential and state level markets took place in the
speculation about the nature of the announcement started to spread.
This whole bizarre episode tells us very little about the presidential race, but
does shed some light on how these markets work. Changes in one market spill over
instantaneously to changes in linked markets via arbitrage, some of it executed
algorithmically. And algorithms that work very effectively when rare can end up
with disastrous results if copied. For instance, if two algorithms were to
follow the strategy outlined above, it is possible that only one of them may be
able to complete the second sale since the first mover would have snapped up the
existing bids. This kind of game is currently being played in the world of
high frequency trading, but with much higher stakes and considerably more
serious economic consequences.
Whoever it was lost money, which seems an appropriate outcome for putting one's faith in Donald Trump's crazy ramblings.
Posted by Mark Thoma on Wednesday, October 24, 2012 at 09:18 AM in Economics, Politics |
Four Magic Tricks for Fiscal Conservatives, by Jeffrey Frankel, Commentary, NY
Times: ...Aspiring fiscal conservatives ... might be
interested in learning four tricks that American politicians commonly use when
promising to cut taxes while simultaneously reducing budget deficits. ...
The first ... was coined by Reagan’s budget director, David Stockman..., because the numbers in the 1981 budget
plan did not add up. “We invented the ‘magic asterisk,’” ... Ever since, the
magic asterisk has become a familiar American device. ...
[Second,]... the conjurer ...
resorts to the rosy scenario: since he cannot find enough tax loopholes to
eliminate, he must claim that ... stronger economic growth will bring in the
additional revenue. ..
Right on cue, it is time for the famous Laffer hypothesis – the proposition ...
that reductions in tax rates ... so stimulate economic growth that total tax
revenue ... goes up... One might think that the Romney campaign would not
resurrect so discredited a trick. ...
The final trick, “starve the beast,” typically comes later, if and when the
president has enacted his tax cuts and discovers ... tax revenues have not
grown... The audience is now told that losing tax revenue and widening the budget deficit
was the plan all along. The performer explains that the deficit is all the fault
of congress for not cutting spending and that ... “Congress can’t spend money it doesn’t
have.” This trick never works...
By the time the crowd realizes that it has been conned, the magician has already
pulled off the greatest trick of all: yet another audience that came to see the
deficit shrink leaves the theater with the deficit bigger than before.
Posted by Mark Thoma on Wednesday, October 24, 2012 at 12:42 AM in Budget Deficit, Economics, Politics, Taxes |
Posted by Mark Thoma on Wednesday, October 24, 2012 at 12:06 AM in Economics, Links |
A professor of sociology at Berkeley, Claude Fischer, says all the recent talk about
inequality causing a reducing in growth is "old news":
cost of inequality: growth, by Claude Fischer: A recent story in The New
York Times, back in its business section, had important news about
Inequality May Take Toll on Growth.” A couple of economists at the IMF
reported research (here)
showing that, across many countries, periods of greater income inequality tend
to be followed by slow-downs in economic growth. ...
This is, actually, old news. About twenty years ago the research literature
already showed that inequality probably damped the economy (see pp. 126ff
here). But this remains important to repeat – not just because reporting the
baleful effects of inequality now has the imprimatur of the IMF, but also
because so many people still resist the news; they insist instead on believing
the opposite, that inequality stimulates the economy, to the benefit of
everyone. And, of course, this insistence has political implications right now.
To the extent that facts matter in such a politicized debate, it is becoming
increasingly clear that equality rather than inequality is a better policy for
economic growth. ...
Posted by Mark Thoma on Tuesday, October 23, 2012 at 12:46 PM in Economics, Income Distribution, Productivity |
Eliminate boredom at meetings blogging -- quick one -- Bruce Bartlett on Mitt Romney's (silly) claim that the individual mandate for health insurance is unnecessary because people can get the care they need at emergency rooms:
The Health Mandate Romney Still Supports, by Bruce Bartlett, Commentary, NY
Times: Republicans ... are adamantly
opposed to government paying for health care or a mandate requiring people to
buy health insurance. At the same time, they recognize that they cannot say ... that if a dying person shows up at an emergency room without
insurance, that person will be left to die in the street. Thus they support a
little-known mandate requiring hospitals to treat the uninsured, the Emergency
Medical Treatment and Active Labor Act.
Often referred to as Emtala, the bill ... was
signed into law by Ronald Reagan... It was enacted because, previously, people
had in fact been left to die in the street... Since then, Republicans have routinely cited Emtala as a key reason that the
United States already has de facto national health insurance...
In fact, the Emergency Medical Treatment and Active Labor Act isn’t even
remotely a substitute for health insurance... It does not demand that all hospitals care for whoever
walks in, only those who require urgent care to avoid serious injury or
life-threatening consequences. Only hospitals that both participate in Medicare
and have emergency rooms are covered by the law...
new report ... found that hospitals continue to
engage in a practice known as “patient dumping” – turning away uninsured
patients from emergency rooms despite the law. One reason they are able to do so is because in 2003 the George W. Bush
eased the rules regarding Emtala. ...
The ... mandate on hospitals ... is a very inadequate and inefficient
substitute for health insurance – something Mr. Romney
used to acknowledge – and every bit as much a violation of Republican
principles, which oppose unfunded mandates, as the individual mandate that they
Posted by Mark Thoma on Tuesday, October 23, 2012 at 10:01 AM in Economics, Health Care |
I have a bunch of meetings this morning -- you know how those go. That will give me a chance to think about these graphs:
This is a graph of PCE core year-over-year inflation versus unemployment since 2007 (the scatterplot with headline rather than core PCE is a noisier version of this, but the basic pattern remains):
The same graph since 2008 eliminates many of the observations in the upper left part of the graph:
And, since 2009:
Posted by Mark Thoma on Tuesday, October 23, 2012 at 07:47 AM
Here's my contribution to the debate over China bashing:
We Should Stop Blaming China for our Economic Problems: The second
presidential debate featured Mitt Romney and Barack Obama going nose to nose
over who would be tougher on China and other countries over their unfair trade
practices. But by adopting a narrative that places the blame for our problems on
other countries, President Obama is playing into the hands of those who’d like
to make significant cuts to social insurance programs that protect working class
Here's the bottom line:
Blaming our troubles on external causes and implying that all will be well once
these causes are eliminated allows the wealthy winners from globalization to
escape the taxes that are needed to provide the social protections workers need
in the global economy, and to ensure that the gains from globalization are
shared equitably. President Obama needs to make it clear that helping the
working class will take a lot more than just forcing China to change its ways... [It] will require us to look inward at
our own character as a nation instead of blaming others.
Pointing fingers at other countries and demanding change may be politically
effective, but the real change begins at home.
Posted by Mark Thoma on Tuesday, October 23, 2012 at 12:33 AM in China, Economics, Fiscal Times, International Finance, Politics |
Posted by Mark Thoma on Tuesday, October 23, 2012 at 12:06 AM in Economics, Links |
Reinhart and Rogoff take on the claim by "famous economists associated with
the Romney campaign" that the economy is recovering slower than we should
expect. In fact, when the data are examined honestly, " the economy’s
performance is better than expected." Here's the introductory summary and a link
to the article explaining this in detail:
This time is different, again? The US five years after the onset of subprime, by
Carmen M Reinhart, Kenneth Rogoff: The strength of the US recovery has
become a political issue in the presidential election. The US is doing better
than other advanced economies, but famous economists associated with the Romney
campaign claim this is not good enough. The US, they argue, is different. Here,
the masters of the 'this time is different' research genre – Carmen Reinhart and
Ken Rogoff – argue that US historical performance is not different when it is
properly measured, so the economy’s performance is better than expected.
Posted by Mark Thoma on Monday, October 22, 2012 at 10:30 AM in Economics |
One of these recessions is not like the others:
The Secret of Our Non-Success, by Paul Krugman, Commentary, NY Times: The
U.S. economy finally seems to be recovering in earnest... But the news is good,
not great — it will still take years to restore full employment...
Why is recovery from a financial crisis slow? Financial crises are preceded by
credit bubbles; when those bubbles burst, many families and/or companies are
left with high levels of debt, which force them to slash their spending. This
slashed spending, in turn, depresses the economy...
And the usual response to recession, cutting interest rates to encourage
spending, isn’t adequate. Many families simply can’t spend more, and interest
rates can be cut only so far — namely, to zero but not below.
Does this mean that nothing can be done to avoid a protracted slump after a
financial crisis? No, it just means that you have to do more than just cut
interest rates. In particular, what the economy really needs ... is a temporary
increase in government spending, to sustain employment while the private sector
repairs its balance sheet. And the Obama administration did some of that,
blunting the severity of the financial crisis. Unfortunately, the stimulus was
both too small and too short-lived, partly because of administration errors but
mainly because of scorched-earth Republican obstruction.
Which brings us to the politics.
Over the past few months advisers to the Romney campaign have mounted a furious
assault on the notion that financial-crisis recessions are different. For
example,... former Senator
Phil Gramm and Columbia’s R. Glenn Hubbard published an op-ed article
claiming that we should be having a recovery comparable to the bounceback from
the 1981-2 recession, while a
white paper from Romney advisers argues that the only thing preventing a
rip-roaring boom is the uncertainty created by President Obama.
Obviously, Republicans like claiming that it’s all Mr. Obama’s fault... But ...
the Romney team is willfully, nakedly, distorting the record, leading Ms.
Reinhart and Mr. Rogoff — who aren’t affiliated with either campaign — to
protest against “gross
misinterpretations of the facts.” And this should worry you.
Look, economics isn’t as much of a science as we’d like. But when there’s
overwhelming evidence for an economic proposition ... we have the right to
expect politicians and their advisers to respect that evidence. Otherwise,
they’ll end up making policy based on fantasies rather than grappling with
And once politicians start refusing to acknowledge inconvenient facts, where
does it stop? Why, the next thing you know Republicans will start rejecting the
overwhelming evidence for man-made climate change. Oh, wait.
Posted by Mark Thoma on Monday, October 22, 2012 at 12:33 AM in Economics, Politics |
Posted by Mark Thoma on Monday, October 22, 2012 at 12:15 AM in Economics, Links |
Speaking of externalities associated with energy use, Robert Stavins throws cold water on "current enthusiasm about carbon taxes
in the academic and broader policy-wonk community":
Cap-and-Trade, Carbon Taxes, and My Neighbor’s Lovely Lawn,
by Robert Stavins: ...my conclusion in 1998
strongly favored a market-based carbon policy, but was somewhat neutral between
carbon taxes and cap-and-trade. Indeed, at that time and for the
subsequent eight years or so, I remained agnostic regarding what I viewed as the
trade-offs between cap-and-trade and carbon taxes. What happened to change
that? Three words:
The Hamilton Project.
...In 2007, the Project’s leadership asked me to write a paper proposing a U.S.
CO2 cap-and-trade system. ... The Hamilton Project leaders said ... they wanted me to make the best case I
could for cap-and-trade, not a balanced investigation of the two policy
instruments. Someone else would be commissioned to write a proposal for a
carbon tax. (That turned out to be
Professor Gilbert Metcalf of Tufts University ... who did a
splendid job!) Thus, I was made into an
cap-and-trade. It’s as simple as that. ...
In principle, both carbon taxes and cap-and-trade can achieve cost-effective
reductions, and – depending upon design — the distributional consequences of the
two approaches can be the same. But the key difference is that
political pressures on a carbon tax system will most likely lead to exemptions
of sectors and firms, which reduces environmental effectiveness and drives up
costs, as some low-cost emission reduction opportunities are left off the table.
But political pressures on a cap-and-trade system lead to different allocations
of the free allowances, which affect distribution, but not environmental
effectiveness, and not cost-effectiveness.
I concluded that proponents of carbon taxes worried about the propensity of
political processes under a cap-and-trade system to compensate sectors through
free allowance allocations, but a carbon tax would be sensitive to the same
political pressures, and should be expected to succumb in ways that are
ultimately more harmful: reducing environmental achievement and driving up
Of course, such positive political economy arguments look much less
compelling in the wake of the defeat of cap-and-trade legislation in the U.S.
Congress and its successful demonization by conservatives as “cap-and-tax.”
A Political Opening for Carbon Taxes?
Does the defeat of cap-and-trade in the U.S. Congress, the obvious
unwillingness of the Obama White House to utter the phrase in public, and the
outspoken opposition to cap-and-trade by Republican Presidential candidate Mitt
Romney indicate that there is a new opening for serious consideration of a
carbon-tax approach to meaningful CO2 emissions reductions?
First of all, there surely is such an opening in the policy wonk world.
Economists and others in academia, including important Republican economists
such as Harvard’s Greg Mankiw and Columbia’s Glenn Hubbard, remain enthusiastic
supporters of a national carbon tax. And a much-publicized meeting in July at
the American Enterprise Institute in Washington, D.C. brought together a broad
spectrum of Washington groups – ranging from Public Citizen to the R Street
Institute – to talk about alternative paths forward for national climate policy.
Reportedly, much of the discussion focused on carbon taxes.
Clearly, this “opening” is being embraced with enthusiasm in the policy wonk
world. But what about in the real political world? The good news is that
a carbon tax is not “cap-and-trade.” ... But if conservatives were able to tarnish
cap-and-trade as “cap-and-tax,” it surely will be considerably easier to label a
tax – as a tax! Also, note that Romney’s stated opposition and Obama’s silence
extend beyond disdain for cap-and-trade per se. Rather, they
cover all carbon-pricing regimes.
So as a possible new front in the climate policy wars, I remain very
skeptical that an explicit carbon tax proposal will gain favor in Washington, no
matter what the outcome of the election. ...
I would personally be delighted if a carbon tax were politically feasible in
the United States, or were to become politically feasible in the future.
But I’m forced to conclude that much of the current enthusiasm about carbon
taxes in the academic and broader policy-wonk community in the wake of the
defeat of cap-and-trade is – for the time being, at least – largely a
manifestation of the grass looking greener across the street.
Posted by Mark Thoma on Sunday, October 21, 2012 at 12:07 PM in Economics, Environment, Market Failure, Politics |
Reducing oil imports, by Jim Hamilton: ...In 2011, the U.S. imported $462
billion of petroleum and petroleum products, or more than a billion dollars
every day (see
BEA Table 4.2.5). The fact that we import goods from other countries is not
a problem per se. Standard economic theory teaches that if the U.S. imports some
goods and exports others, the country overall will be richer than in the absence
of trade, because the value of what we gain in imports is higher to us than the
value of what we sell as exports. But in the current U.S. situation, our oil
imports aren't balanced by other exports. Last year the U.S. spent $568 billion
more on imported goods and services than we sold to other countries, with
petroleum imports accounting for more than 80% of the total current account
When we import more than we export, we have to pay for the difference either by
selling off some of our assets or by borrowing more from foreigners.
Notwithstanding, running a current account deficit could still be a way to make
the country richer. If we use the imported goods and borrowed funds to invest in
productive capital and useful infrastructure, we should have plenty of future
resources to pay back all that we borrowed, with more left over for ourselves.
In such a case, a big current account deficit could still be a win-win
But what if we're not investing, and are just using the imports and foreign
borrowing to enjoy a temporarily higher standard of living, leaving it to the
future to pay the bills? That, too, could be economically optimal if what we
most value as a nation is having more consumption spending right now.
But I'm not convinced that's the future that most Americans want. ...
I agree with the position taken by both
President Obama and Governor Romney that presidential decisions need to
encourage more oil production in the United States.
However, I would add that policies that discourage U.S. consumption of petroleum
would also achieve the same goal. For example, trying to
more use of our natural gas resources for transportation is an idea that
should appeal to Americans on both sides of the political spectrum. ...
I retain the hope that, whoever wins the election, they might seize the
opportunity to move the country in a more positive direction by focusing on some
goals and strategies on which both political parties should be able to agree.
Increasing U.S. oil production and decreasing U.S. oil consumption should be two
I see more difference between the candidates on the drill versus conserve
continuum, and I'd guess I tilt more toward the conservation/find new energy
sources end of the spectrum than he does. In addition, I wish the externalities associated with energy use and the need to use some form of regulation to reduce them (e.g. carbon tax, cap and trade, etc.) -- regulation that should discourage consumption -- had been mentioned (a point where the two parties clearly differ -- it matters who is elected).
Posted by Mark Thoma on Sunday, October 21, 2012 at 10:23 AM in Economics, Oil |
Posted by Mark Thoma on Sunday, October 21, 2012 at 12:06 AM in Economics, Links |
The Fiscal Stimulus, Flawed but Valuable, by Christina Romer, Commentary, NY
Times: As a former member of President Obama's economic team, I have a soft
spot for the fiscal stimulus legislation... But I'm also an empirical economist
who's spent a career trying to estimate the effects of monetary and fiscal
policy. So let me put on my empiricist's hat and evaluate what we know about the
legislation's effects. ...
After going through the considerable historical and empirical evidence that
the fiscal stimulus worked, she concludes:
Though the Recovery Act appears to have had many benefits, it could have been
more effective. Most obviously, it was too small. When we were designing it,
most forecasters estimated that the United States would lose around six million
jobs... Compared with this baseline, creating three million jobs would have
filled roughly half of the employment hole. As it turned out,... the correct
no-stimulus baseline was a total employment fall of nearly 12 million. With a
loss that big, creating three million jobs was helpful, but not nearly enough.
A different mix of spending increases and tax cuts might also have been
desirable. ... And I desperately wish we'd been able to design a public
employment program that could have directly hired many unemployed workers,
especially young people.
Finally, there's little question that policy makers — myself included —
should have worked harder to earn the public's support... One frustrating
anomaly is that many of its individual components routinely received favorable
reactions in polls, while the overall act was viewed negatively. ...
Recovery measures work better when they raise confidence — as Franklin D.
Roosevelt understood. ... Recent research suggests that New Deal programs may
actually have had their
primary impact on the economy by influencing consumer and business
expectations of future growth and inflation.
Partly because of fierce political opposition, and partly because of
ineffective communication and imperfect design, the Recovery Act generated
little such rebound in confidence. As a result, it didn't have that extra,
Rooseveltian kick. ...
I believe that as more research occurs and the political rancor fades, the
fiscal stimulus will be viewed as an important step at a bleak moment in our
history. Not the knockout punch the administration had hoped for, but a valuable
effort that improved the lives of many.
That seems to come dangerously close to saying that a "Mr. Awesome" as
president might have made the recovery much better. But not quite, at least not if one has Romney's claims about himself in mind. As Paul
Krugman noted in his last column, Mr. Romney "doesn’t have a plan. ... Mr.
Romney himself asserted that he would give a big boost to the economy simply by
being elected, 'without actually doing anything'..., the true Romney plan is to
create an economic boom through the sheer power of Mr. Romney’s personal
To put it another way, Romney would cure the economy by relying upon a
placebo effect, an effect that somehow works through the powers of his
personality. The Obama cure provided too little medicine, and there was not
enough communication with the patient -- both could have been improved -- but the
medicine it did provide was real, not a placebo, and it did have positive
Posted by Mark Thoma on Saturday, October 20, 2012 at 02:58 PM in Economics, Fiscal Policy |
The entry below this one reminded me of this
old post featuring Brad DeLong on the Robber Barons (he wrote this in 1998, the actual
essay is much, much longer):
Robber Barons, by J. Bradford DeLong, 1998: I. Introduction
"Robber Barons": that was what U.S. political and economic commentator Matthew
Josephson (1934) called the economic princes of his own day. Today we call them
"billionaires." Our capitalist economy--any capitalist economy--throws up such
enormous concentrations of wealth: those lucky enough to be in the right place
at the right time, driven and smart enough to see particular economic
opportunities and seize them, foresighted enough to have gathered a large share
of the equity of a highly-profitable enterprise into their hands, and
well-connected enough to fend off political attempts to curb their wealth (or
well-connected enough to make political favors the foundation of their wealth).
Matthew Josephson called them "Robber Barons". He wanted readers to think
back to their European history classes, back to thugs with spears on horses who
did nothing save fight each other and loot merchant caravans that passed under
the walls of their castles. He judged that their wealth was in no sense of their
own creation, but was like a tax levied upon the productive workers and
craftsmen of the American economy. Many others agreed: President Theodore
Roosevelt--the Republican Roosevelt, president in the first decade of this
century--spoke of the "malefactors of great wealth" and embraced a public,
political role for the government in "anti-trust": controlling, curbing, and
breaking up large private concentrations of economic power.
Their defenders--many bought and paid for, a few not--painted a different
picture: the billionaires were examples of how America was a society of
untrammeled opportunity, where people could rise to great heights of wealth and
achievement on their industry and skill alone; they were public benefactors who
built up their profitable enterprises out of a sense of obligation to the
consumer; they were well-loved philanthropists; they were "industrial
Over the past century and a half the American economy has been at times
relatively open to, and at times closed to the ascension of "billionaires."
Becoming a "billionaire" has never been "easy." But it was next to impossible
before 1870, or between 1929 and 1980. And at other times--between 1870 and
1929, or since 1980--there has been something about the American economy that
opened roads to the accumulation of great wealth that were at other times
Does it matter whether an economy is open to the accumulation of
extraordinary amounts of private wealth? When the economy is more friendly to
the creation of billionaires, is economic growth faster? Or slower? And what
role does politics play? Are political forces generally hostile to great
fortunes, or are they generally in partnership? And when the political system
turns out to be corrupt--to serve as a committee for extracting wealth from the
people and putting it into the pockets of the politically well-connected
super-rich--what is to be done about it? What can be done to curb explicit and
implicit corruption without also reducing the pressure in the engine of capital
accumulation and economic growth?
These are big questions. This essay makes only a start at answering them.
an interesting note:
And this is the third thing ... about the turn of the century robber barons:
even though the base of their fortunes was the railroad industry, they were for
the most part more manipulators of finance than builders of new track. Fortune
came from the ability to acquire ownership of a profitable railroad and then to
capitalize those profits by selling securities to the public. Fortune came from
profiting from a shift--either upward or downward--in investors' perceptions of
the railroad's future profits. It was the tight integration of industry with
finance that made the turn of the twentieth century fortunes possible. ...
The jump in wealth of the founders of these lines of business was intimately
tied up with the creation of a thick, well-functioning market for industrial
securities. And that would turn out to be a source of weakness when Wall Street
came under fire during the Great Depression. ...
Progressives did not believe that the billionaires were just the helpless
puppets of market forces. In 1896 Democratic presidential candidate William
Jennings Bryan called for the end to the crucifixion of the farmer by a gold
standard working in the interests of Morgan and his fellow plutocrats. Fifteen
years later Louis Brandeis warned Morgan partner Thomas Lamont--after whom
Harvard University's main undergraduate library is named-that it was in fact in
Morgan's interest to support the Progressive reform program. If Morgan's
partners did not do so, Brandeis warned, the Progressives would recede. Their
successors on the left wing of American politics would be real anarchists and
real socialists (DeLong, 1991).
Louis Brandeis and company did not much care whether the billionaires of what
they called the "money trust" were in any sense economically efficient. In
Brandeis's mind, they're evil because their interests were large..., size alone
made a billionaire's fortune "dangerous, highly dangerous." ...
Populists from the American midwest found this set of issues a reliable one,
and their senators took turns calling for political and economic changes to
reduce the power exercised by the super-rich. ...
The political debate was resolved only by the Great Depression. The presumed
link between the stock market crash and the Depression left the securities
industry without political defenders. The old guard of Progressives won during
the 1930s what they had not been able to win in the three earlier decades.
Ironically, it was Republican president Herbert Hoover who triggered the
process. Hoover thought that Wall Street speculators were prolonging the
Depression and refusing to take steps to restore prosperity. He threatened
investigations to persuade New York financiers to turn the corner around which
he was sure prosperity waited. Thus, as Franklin D. Roosevelt put it, "the money
changers were cast down from their high place in the temple of our
civilization." The Depression's financial market reforms act broke the links
between board membership, investment banking, and commercial banking-based
management of asset portfolios that had marked American finance before 1930.
Investment bankers could no longer be commercial bankers. Depositors' money
could not be directly used to support the prices of newly-issued securities.
Directorates could not be interlocked: that bankers could not be on the boards
of directors of firms that were their clients.
D. The Drying-Up of the Flow of Billionaires
Whatever else Depression-era financial reforms did (and there are those who
think it crippled the ability of Wall Street to channel finance to new
corporations) and whatever else the New Deal did (and it did a lot to bring
social democracy to the United States and to level the income distribution), one
important--and intended--consequence was that thereafter it was next to
impossible to become a billionaire.
Not that it was ever easy to become a billionaire, mind you, but the channels
through which lucky, skilled, dedicated, and ruthless entrepreneurs had ascended
were largely closed off. ...
The hostility of Roosevelt's New Deal to massive private concentrations
of economic power was effective: the flow of new billionaires dried up, as the
links between finance and industry that they had used to climb to the heights of
fortune were cut.
This is the important question:
Did the hostility of America's political and economic environment to
billionaires between 1930 and 1980 harm the American economy? Did it slow the
rate of economic growth by discouraging entrepreneurship? As an
economist--someone who believes that there are always tradeoffs--I would think
"yes." I would think that there must have been a price paid by the closing off
of the channels of financing for entrepreneurship through which E.H. Harriman,
James J. Hill, George F. Baker, Louis Swift, George Eastman, and others had made
But if so, there are no signs of it in aggregate growth data. ...
V. Tentative Conclusions
So what can Americans expect from their current crop of billionaires? Or
rather what can they expect from the processes that have allowed their creation?
They should be extremely dubious about billionaires' social utility. Their
relative absence from the 1930s to the 1970s did not seem to harm economic
growth in the United States. Their predecessors' claim to much of their wealth
is, to see the least, dubious. And their large-scale presence was associated
with the serious corruption of American politics.
Perhaps those who are going to be industrial statesmen have as reasonable a
chance of truly being industrial statesmen in an environment hostile to
billionaires, as in an environment friendly to their creation: at that level of
operations, after all, money is just how people keep the score in their
competitions against nature and against each other. ...
On the other hand, their personal consumption is only an infinitesimal
proportion of their total wealth. Much less of Andrew Carnegie's fortune from
his steel mills went to his own personal consumption than has gone to his
attempts to promote international peace, or to build libraries to increase
The child who in mid-nineteenth century Scotland painfully learned to read
from the handful of books he had access to in his family's two-room cottage as
they fell closer and closer to the edge of starvation--that child is visible in
the Carnegie libraries that still stand in several hundred cities and towns in
the United States, and is visible around us now. ...
So if there is a lesson, it is roughly as follows: Politics can put curbs on
the accumulation of extraordinary amounts of wealth. And there is a very strong
sense in which an unequal society is an ugly society. I like the distribution of
wealth in the United States as it stood in 1975 much more than I like the
relative contribution of wealth today. But would breaking up Microsoft five
years ago have increased the pace of technological development in software?
Probably not. And diminishing subsidies for railroad construction would not have
given the United States a nation-spanning railroad network more quickly.
So there are still a lot of questions and few answers. At what level does
corruption become intolerable and undermine the legitimacy of democracy? How
large are the entrepreneurial benefits from the finance-industrial development
nexus through which the truly astonishing fortunes are developed? To what extent
are the Jay Goulds and Leland Stanfords embarrassing but tolerable side-effects
of successful and broad economic development?
I know what the issues are. But I do not yet--not even for the late
nineteenth- and early twentieth-century United States--feel like I have even a
firm belief on what the answers will turn out to be.
He's a bit reluctant to take a strong position against the robber barons, they are, perhaps, "tolerable side-effects
of successful and broad economic development." I see more costs and fewer benefits than Brad, so I wouldn't give as much ground here as he does. But this was written before the Great Recession, and I'd be curious to hear if his view of "the entrepreneurial benefits from the finance-industrial development," and the necessity of tolerating these "side-effects" has changed in light of recent events.
Posted by Mark Thoma on Saturday, October 20, 2012 at 11:00 AM in Economics, Equity, Market Failure |