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"We are all in it together," and benefits taxes, by Richard Green: Tyler
Cowen says that the Republican Party should
propose raising taxes on everyone because, "we are all in it together."
To some extent, this is a benefits tax view--a view that we should pay to
society our fair share of what we get from society. But the implication of
this is not necessarily that everyone should sacrifice in order to put us
all on a sustainable fiscal path.
With Ronald Reagan's election in 1980, the US saw a sea change in tax and
regulatory policy. While the policy was suppose to benefit everyone, it
clearly hasn't. For the bottom quintile of the income distribution, income
has risen about 5 percent since 1982 (the first year in which Reagan's
policies bit); for the next quintile, it has risen 8 percent; for the next,
11 percent, for the next, 20 percent, and for the highest, 45 percent. But
most of the highest quintile didn't do so well--the top 5 percent has seen
average household income rise by 68 percent.
These data are before tax, and come from the
US Census, Table H-3. Before anyone suggests that this means that
everyone has benefited, I should point out that average income in the lowest
quintile of the income distribution is $11,239, which is right at the
Federal Poverty Level
for a single person household. In a benefits tax view of the world,
people who haven't sufficient income to live should not be taxed (they are
living at subsistence levels as it is, and taxing them makes thing worse).
So let's begin by holding the bottom quintile harmless in doing any kind of
deficit reduction. But what of the remaining quintiles? If we look at the
share of income growth by quintile (excluding the meager income growth of
the bottom quintile), we find that 3 percent went to the second quintile
from the bottom; 7 percent to the next; 18 percent to the next, and 73
percent to the top quintile. So little has gone to the second and third
quintile from the bottom that one could make a case that they should be left
along as well.
The fourth quintile, though, has seen a material improvement in incomes, so
it is probably OK to ask this group for something--this includes people who
nearly everyone would consider middle class. Nevertheless, the lion's share
of the benefits of the policy changes of the early 1980s has appeared to go
to the top quintile, and so the top quntile should pay the most to put us on
a sustainable fiscal path.
One last calculation--the top 5 percent got 57 percent of the income growth
within its quintile.
It is true that households move in and out of quintiles, but as
Dalton Conley shows, not as much as we would like to think, In any
event, we have not been all in it together when it has come to benefitting
from the policies of the past 30 years.
Posted by Mark Thoma on Monday, December 31, 2012 at 10:08 AM in Economics, Income Distribution, Taxes |
Some well-funded groups are trying to "exploit the fiscal cliff to push a benefit-cutting agenda":
Brewing Up Confusion, by Paul Krugman, Commentary, NY Times: Howard
Schultz, the C.E.O. of Starbucks,... posted an
letter urging his employees to promote fiscal bipartisanship by writing
“Come together” on coffee cups. ... In the letter, Mr. Schultz warned that
elected officials “have been unable to come together and compromise to solve
the tremendously important, time-sensitive issue to fix the national debt,”
and suggested that readers further inform themselves at the Web site of the
organization Fix the Debt. Let’s parse that, shall we?
First of all,... the fiscal cliff ... doesn’t reflect a failure to “fix the
debt” by reducing the budget deficit — on the contrary, the danger is that
we’ll cut the deficit too fast.
How could someone as well connected as Mr. Schultz get such a basic point
wrong? By talking to the wrong people — in particular, the people at Fix the
Debt... For example,... Maya MacGuineas, the organization’s public face,...
was trying to confuse readers on that point, and she apparently confused Mr.
Schultz too. More about Fix the Debt in a moment..., let’s move on to Mr.
Schultz’s misdiagnosis of the political problem we face.
Look, it’s true that elected politicians have been unable to “come together
and compromise.” But ... implying a symmetry between Republicans and
Democrats, isn’t just misleading, it’s actively harmful. The reality is that
President Obama has made huge concessions. ... In return, the Republicans
have offered essentially nothing. ... Given that reality,... when people
like Mr. Schultz respond by blaming both sides equally ... they’re ...
rewarding intransigence and extremism...
I’m willing to believe that Mr. Schultz doesn’t know what he’s doing. The
same can’t be said, however, about Fix the Debt. You might not know it
reading some credulous reporting, but Fix the Debt isn’t some kind of new
gathering of concerned citizens..., it’s ... the usual suspects ... backed
by an impressive amount of corporate cash.
Like all the Peterson-funded groups, Fix the Debt seems much more concerned
with cutting Social Security and Medicare than with fighting deficits in
general... What’s happening now is that all the Peterson-funded groups are
trying to exploit the fiscal cliff to push a benefit-cutting agenda that has
nothing to do with the current crisis, using artfully deceptive language —
as in that MacGuineas letter — to hide the bait and switch.
Mr. Schultz apparently fell for the con. But the rest of us shouldn’t.
Posted by Mark Thoma on Monday, December 31, 2012 at 12:24 AM in Budget Deficit, Economics, Media |
Japan Follow-Up, by Tim Duy: Some follow up to
last week's piece on Japanese monetary policy:
First, I think there are some obvious implications for US policymakers: The
Federal Reserve has all but given fiscal policymakers the green light to
accelerate debt issuance to support stimulus efforts. Matthew
O'Brien at the Atlantic points out that while the Fed is willing to tolerate
inflation slightly as high as 2.5%, the Fed's forecast remains at 2.0% or below
through 2015. So the Fed is willing to tolerate higher inflation, but not
willing - or able - to generate higher inflation. The ball is thus passed to
fiscal policymakers to do the job. Fiscal policymakers, however, have fumbled
the ball. Badly. Even while the Treasury can borrow for 10 years at well below
2%, Washington is prepared to drop an austerity bomb on the economy. Austerity
looks to be a done deal; it is only the level of austerity that is at issue.
Second, a thread is making the rounds claiming that Japanese Prime Minister
Shinzo Abe is all bark, no bite. Joshua
Wojnilower argues that Abe is a closet austerian, thus ultimately the actual
stimulus enacted will be of the short-term, low-power variety. Noah
Smith is less diplomatic, pointing out that Abe's first time at the helm was
something of a disaster because Abe fundamentally has a narrow focus:
I of course don't mean to imply that Abe's cultural conservatism makes
him unlikely to experiment with monetary policy (unlike in America, in Japan
"hard money" is less of a conservative sacred cow). Instead, what I mean is
that Abe really just does not care very much at all about the economy. I
mean, of course he wants Japan to be strong, and of course he doesn't want
his party kicked out of power. But his overwhelming priority is erasing the
legacy of World War 2, with the economy a distant, distant second.
This is why Abe allows himself to be surrounded by corrupt and incompetent
people. He is entirely focused on his cultural conservative quest. The other
day Abe called Obama "Bush". He just deeply, truly, does not care about
stuff that does not involve boosting Japanese nationalism.
Smith has a theory:
So why is Abe making all this noise about revoking central bank
independence, setting hard inflation targets, etc.? I have a hypothesis: He
is talking down the yen.
There is a
long history of Japanese policymakers talking down the Yen; who could ever
forget former Finance Minister Eisuke Sakakibara, AKA Mr. Yen? That said, if Abe
wants a sustained depreciation, is is going to take something more than just talk.
After all, look at what has been accomplished over the past ten years:
If the goal of all the talk was a weak Yen, policymakers have failed miserably.
And If Abe can't follow through with a real policy change, talking alone will
continue to fail, and the recent decline in the Yen will prove ephemeral.
This leads me to my third thought, that the level of intervention required to
change the economic outcome is much, much higher than most anticipate. You
can't just dabble in monetization; you need to commit to it. Case in point:
Switzerland. Floyd Norris, the author of
the original NYT piece that prompted my initial post, seems to argue that
raising inflation is not all that hard:
“At this point, moving to a 2 percent target would not be such a giant
step,” said Kenneth Rogoff, a Harvard economist who has suggested inflation
targeting in the United States as well as in Japan. “They have to pursue it
vigorously until we have inflation expectations firmly higher. No one knows
how much they would have to do to accomplish that.”
The Bank of Japan has in the past been hesitant to really try to
establish that credibility...
To establish the credibility, the central bank would have to show a
readiness to create credit at a rapid rate. It would probably also need to
take steps to hold down the value of the yen, a move that would no doubt
cause concern in the United States.
It is, however, very doable, as Switzerland has shown. When the euro
zone debt crisis was at its worst, Switzerland became a safe haven for
European investors worried that the euro might blow up. That drove up the
value of the Swiss franc versus the euro and damaged Switzerland’s ability
to compete. The Swiss government responded by announcing that the euro
would not be allowed to fall below 1.2 Swiss francs. If necessary, the
government would simply sell francs to meet any demand.
That has been necessary, and the Swiss have accumulated a huge portfolio
of foreign currency. So, too, could the Japanese if they chose to announce
that the dollar would henceforth be worth at least 100 yen, a level not seen
Rogoff is correct; no one really knows what is necessary. I don't think that
100 yen is a meaningful target; aside from a couple of energy-price induced
Japan has not had meaningful inflation since the early 1990's. The Yen has
fluctuated between 80 and 160 during that time. Shoot for 160 and it might be
interesting. And how does this relate to Switzerland? Although Norris holds it
out as an example, look at inflation in that economy:
And nominal GDP:
The Swiss National Bank appears to be struggling to stave off deflation and
stabilize the path of nominal GDP. So how exactly is this a lesson in
establishing inflation target credibility? Despite all the efforts of the Swiss
National Bank, their work still fall short.
Norris is certainly right on the political implications. I think the extent
of direct currency depreciation necessary to by itself meet a 2% inflation
target in Japan would be unacceptable to Japan's trade partners. Monetary
policy to support domestic demand - monetization of deficit spending - would be
much more tolerable, perhaps even welcome.
Bottom Line: Economic policy in Japan is never boring.
Posted by Mark Thoma on Monday, December 31, 2012 at 12:15 AM in Economics, Fed Watch, Monetary Policy |
Posted by Mark Thoma on Monday, December 31, 2012 at 12:06 AM in Economics, Links |
Longish travel day today, but hope to have internet access along the way.
Anyway, another quick one before heading out:
Greg Mankiw says middle class taxes are going to go up unless we make large cuts to social services:
Too Much Wishful Thinking on Middle-Class Tax Rates
Dean Baker responds:
Greg Mankiw Says We Have to Tax the Middle Class More
Posted by Mark Thoma on Sunday, December 30, 2012 at 10:18 AM in Economics, Taxes |
Following up the post below this one, Paul Krugman explains why it's important to realize that deficit reduction is not the true goal of Republicans, it's just a means to bring about tax cuts for the wealthy and pay for them with cuts to social services such as Medicare and Social Security:
...Remember, George W. Bush campaigned on the basis that the surplus of the
late Clinton years meant that we needed to cut taxes — and Alan Greenspan
provided crucial support, telling Congress that the biggest danger we faced
was that we might pay off our debt too fast. Now Greenspan is helping groups
like Fix the Debt.
And as Duncan
Black points out, the Bush
experience tells us something important about fiscal policy: namely, that
when Democrats get obsessed with deficit reduction, all they do is provide a
pot of money that Republicans will squander on more tax breaks for the
wealthy as soon as they get a chance. Suppose Romney had won; do you have
even a bit of doubt that all the supposed deficit hawks of the GOP would
suddenly have discovered that unfunded tax cuts and military spending are
The point is that the whole focus of budget discussion is based on a
combination of bad economics and bad (and fundamentally dishonest) politics.
We’re looking not so much at a Grand Bargain as at a Great Scam.
Posted by Mark Thoma on Sunday, December 30, 2012 at 10:15 AM in Budget Deficit, Economics, Politics |
finally figuring it out?:
“They [Republicans] say that their biggest priority is making sure that we
deal with the deficit in a serious way, but the way they’re behaving is that
their only priority is making sure that tax breaks for the wealthiest
Americans are protected,” he said.
“That seems to be their only overriding, unifying theme.”
Seems to be?
Posted by Mark Thoma on Sunday, December 30, 2012 at 09:41 AM in Budget Deficit, Economics, Politics, Taxes |
Posted by Mark Thoma on Sunday, December 30, 2012 at 12:06 AM in Economics, Links |
Why Next to No Political Reaction to the Second Gilded Age?, by Brad DeLong:
...During the Gilded Age of the 1890s and 1900s you had strong political movements
saying "something is going remarkably wrong with this, this isn’t the country we
thought we were going to live in"...
Brad DeLong: ...As a result in the First Gilded Age you had two political movements. The
Democratic, left, farmer, labor, semi-socialist, Populist Movement on the
one hand. The mixed bipartisan Democratic and Republican, urban, Progressive
Movement on the other. Both of them were desperately eager to change
America, to repair the flaws of the Gilded Age, to reduce inequality, to
make the economy work for everybody--or at least for every white guy--and
even to grant women the vote.
They wanted this so much so that someone like Republican President Theodore
Roosevelt--as aggressively a partisan an animal as you would ever see--would
place his loyalty to the Republican cause second to his loyalty to his
progressive principles for American reform. He was happy denouncing
Democrats as communist anarchists, but equally happy denouncing rich
republicans as "malefactors of great wealth" who desperately needed to be
Theodore Roosevelt wove his political career out of being head of the
Republican party and head of the Progressive Movement. And at the end
non-Progressive Republican President Taft simply offended him one time too
many, and Roosevelt decided to blow up the Republican Party and hand the
presidency to Woodrow Wilson from 1912-1920.
That was the history of America from 1880-1920 or so. After 1920 you do get
a Republican Gilded Age resurgence under Harding, Coolidge, Hoover--very
corrupt, especially under Harding. But by the late 1920s Progressivism is
rising again--even Hoover is running as a Progressive. Then when the Great
Depression comes Franklin Roosevelt comes in and he takes the entire
progressive agenda off the shelf and promptly begins to implement it.
We haven’t had anything like that over the past thirty years.
And here I’m simply going to throw up my hands and say that I don't know
It’s in a great mystery to me. As an economic historian I like to look at
political economic patterns from the past and to say we should learn from
these and generalize them and take them as providing some insight into the
present and the future. In general, we economic historians are
extraordinarily successful. There are lots of lessons to be drawn from the
first age of globalization for the second. There are lots of lessons to be
drawn from the high school-ization of America for the college-ization of
America and for education elsewhere in the world. There are lots and lots of
lessons to be drawn from the Great Depression for today.
But the political economy of Gilded Ages? Why the first Gilded age produces
a Populist and a Progressive reaction and the second, so far, does not?
There I throw up my hands and say that my economic historian training
betrays me. I have no clue as to what is going on here.
(This is speculative, but I'll give it a shot) I would certainly start by noting the different levels of initial national
wealth -- we started from a much higher base this time -- and the presence of
social insurance. If we didn't have food stamps, unemployment compensation, and
other private and public social backstops to help people through tough times, and a relatively high level of initial wealth
to rely upon, the effects would have been much more severe and the response to the Great Recession might have been more like the response to the Great Depression. But as Brad notes, it wasn't just the reaction to the Great Depression that produced a populist movement, it existed before the Great Depression hit. I think you can see elements of a populist movement in recent decades, but it's nowhere as strong as prior to the Great Depression. Again, I think part of this is different levels of initial wealth and the existence of a large middle class, but maybe there is something else too.
I think it matters a lot whether we think of inequality as arising from a problem in the system as a whole, or as the result of individual failures. When people think it's the system as a whole -- the rich and powerful are scheming to hold everyone else down (e.g. robber barons) -- mass movements are more likely than when it is viewed as simply the failings of individuals. I think many people viewed the last few decades as a time of great opportunity. If you weren't rich, or at least doing very well, it was because you hadn't tried hard enough. Anyone who wanted a decent job could get one if they were willing to put out the requisite effort. The Great Recession changed that somewhat, but even now many people want to blame our problems on the poor decisions of individuals, some even try to cast blame for the recession on the decisions of low income households to try to buy houses, rather than some inherent failure within the capitalist system.
Let me back up. Prior to the Great Depression, there was a battle between those who believed the system was at fault (and hence pushed populist remedies) versus those who thought some people were simply less capable and destined to be poor no matter what we did to help them -- it was the duty of the head of the household to provide for their family, and those who didn't were looked down upon. They must not be trying hard enough, they were lazy, etc. But the Great Depression made it clear that trying hard wasn't always sufficient. People who had been able to support their families their whole lives, and were determined to do so during the depression no matter what it took, couldn't. It wasn't a matter of individual effort, or how hard one tried, these was simply no work to be found for great numbers of "upstanding" citizens.
If the people who were known to be willing to do whatever it took to provide for their families could not, then it must be the system, not the individual that was a fault and this was a key idea that allowed social insurance to be passed after the Great Depression. The money wasn't going to no good, lazy people who didn't deserve it, it was going to people who deserved to be helped when the capitalist system, which was known to cycle ruthlessly through booms and busts, let them down. People needed insurance against events that were out of their individual control.
This time around, it came as a bit of a shock that they system could still let us down. Many people thought we were beyond Great Depressions/Recessions -- hence the claim above that most failings prior to our recent troubles were viewed as individual rather than the fault of the system. But even though people began to realize it wasn't always a matter of individual effort and ability, since we already have many social insurance protections in place the outcry this time isn't to produce a bunch of new social insurance programs to protect the vulnerable as it was after the Great Depression. Instead, it led to a renewed realization of the value of social insurance (at least I hope this is true) and the fight presently is to maintain or expand what we already have versus scaling back our social protections. I think that, without the Great Recession, our social insurance programs would be even more vulnerable than they are presently. Thus, unlike Brad, I think there have been noticeable effects in shoring up "populist" support for these types of programs. But where I agree, and what I see as puzzling, is why the reaction from those who depend upon these programs hasn't been even stronger. Why are these programs vulnerable at all?
Posted by Mark Thoma on Saturday, December 29, 2012 at 02:43 PM in Economics, Income Distribution, Politics, Social Insurance |
Simon Wren-Lewis continues the conversation on the state of academic
Is academic macroeconomics flourishing?, by Simon Wren-Lewis: How do you
judge the health of an academic discipline? Is macroeconomics
flourishing? ...[A]cademic macroeconomics appears all over the place, with
strong disputes between alternative
Is this because the evidence in macroeconomics is so unclear that it becomes
very difficult to judge different theories? I think the
nature of economics is a necessary condition for the lack of an academic
consensus in macro, but it is not sufficient. (Mark Thoma has a recent
post on this.) Consider monetary policy. I would argue that we have made
great progress in both the analysis and practice of monetary policy over the
last forty years. One important reason for that progress is the existence of a
group that is often neglected - macroeconomists working in central banks.
Unlike their academic counterparts, the primary goal of these economists is not
to innovate, but to examine the evidence and see what ideas work. The framework
that most of these economists find most helpful is the New NeoClassical
Synthesis, or equivalently New Keynesian theory. As a result, it has become the
dominant paradigm in analyzing monetary policy.
That does not mean that every macroeconomist looking at monetary policy has to
be a New Keynesian, or that central banks ignore other approaches. It is
important that this policy consensus should be continually questioned, and part
of a healthy academic discipline is that the received wisdom is challenged.
However, it has to be acknowledged that policymakers who look at the evidence
day in and day out believe that New Keynesian theory is the most useful
framework currently around. I have no problem with academics saying ‘I know this
is the consensus, but I think it is wrong’. However to say ‘the jury is still
out' on whether prices are sticky is wrong. The relevant jury came to a verdict
It is obvious that when it comes to using fiscal policy in short term
macroeconomic stabilization there can be no equivalent claim to progress or
consensus. The policy debates we have today do not seem to have advanced much
since when Keynes was alive. From one perspective this contrast is deeply
puzzling. The science of fiscal policy is not inherently more complicated. ...
What has been missing with fiscal policy has been the equivalent of central bank
economists whose job depends on taking an objective view of the evidence and
doing the best they can with the ideas that academic macroeconomics provides.
This group does not exist because the need to use fiscal policy for short term
macroeconomic stabilization is occasional either in terms of time (when the Zero
Lower Bound applies) or space (countries within the Eurozone). As a result, when
fiscal policy was required to perform a stabilization role, policymakers had to
rely on the academic community for advice, and here macroeconomics clearly
failed. Pretty well any outside observer would describe its performance as
The contrast between monetary and fiscal policy tells us that this failure is
not an inevitable result of the paucity of evidence in macroeconomics. I think
it has a lot more to do with the influence of ideology, and the importance of
what I have
called the anti-Keynesian school that is a legacy of the New Classical
revolution. The reasons why these influences are particularly strong when it
comes to fiscal policy are fairly straightforward.
Two issues remain unclear for me. The first is how extensive this ideological
bias is. Is the
over dominance of the microfoundations approach related to the fact that
different takes on the evidence have an unfortunate Keynesian bias? Second, is
the degree of ideological
bias in macro generic, or is it in part contingent on the particular
historical circumstances of the New Classical revolution? These questions are
important in thinking how this bias can be overcome.
When people ask if evidence matters in economics, I often point to the debate
over the New Classical model's prediction that only unexpected changes in
monetary policy matter for economic activity. These models, with their
prediction that expected changes in monetary policy are neutral, cleverly
allowed New Classical economists to explain the correlations between money,
output, and prices in the data without admitting that systematic policy
mattered. Thus, these models supported the ideological convictions of many on
the right -- government intervention can make things worse, but not better.
(Unexpected policy shocks push the economy away from the optimal outcome, so the
key was to minimize unexpected policy shocks. This led to things like the
push for transparency so that people would anticipate, as much as possible,
actual policy moves.)
At first, the evidence seemed to support these models (e.g. Barro's empirical
work), but as the evidence accumulated it eventually became clear that this
prediction was wrong. Mishkin provided key evidence against these models through
his academic work (see, for example, his book A Rational Expectations
Approach to Macroeconometrics: Testing Policy Ineffectiveness and
Efficient-Markets Models), so I am not as convinced as Simon Wren-Lewis
that the difference between monetary and fiscal policy is due solely to the
existence of technocratic, mostly non-ideological central bank economists
letting the evidence take them where it may. That certainly mattered, but is
seems there was more to it than this.
The evidence that Mishkin and others provided was a key reason these models
were rejected (it was also difficult to simultaneously explain the magnitude and
duration of business cycles with unexpected monetary shocks as the sole driving
force), but when it comes to fiscal policy, as noted above, evidence has not
trumped ideology to the same degree. One of the reasons for this, I think, is
that it's difficult to find clear fiscal policy experiments in the data to
evaluate. And when we do (e.g. wars), it's difficult to know if the results will
hold at other times. But I can't really disagree with the hypothesis that if an
institution like the Fed existed for fiscal policy, there would be a much bigger
demand for this information, and that demand would have produced a much larger
supply of evidence.
But I am not so sure the difference is
"central bank economists whose job depends on taking an objective view of the
evidence" so much as it is that these institutions produce a demand for this
type of research, and academics respond by supplying the information that central banks need. So the
question for me is whether it's the lack of ideology of central bank economists
(many of whom are academics), or the fact that their existence creates a large
demand for this type of information. Maybe it's both.
Posted by Mark Thoma on Saturday, December 29, 2012 at 02:36 PM in Economics, Macroeconomics, Methodology, Politics |
Posted by Mark Thoma on Saturday, December 29, 2012 at 12:06 AM in Economics, Links |
One of the big, current, passionate debates within monetary policy is the relative
effectiveness of Taylor Rules versus nominal GDP targeting (e.g. see here). Which of the two does a better
job of stabilizing the economy?
If you want to argue against nominal GDP targeting, David Altig of the
Atlanta Fed has some ammunition for you. Here's his conclusion:
Nominal GDP Targeting: Still a Skeptic, macroblog: ... To summarize my concerns, the Achilles' heel of nominal GDP targeting is that it
provides a poor nominal anchor in an environment in which there is great
uncertainty about the path of potential real GDP. As I noted in my earlier post,
historical justification for that concern.
Basically, anyone puzzling through
how demographics are affecting labor force participation rates,
how technology is changing the dynamics of job creation, or
how policy might be altering labor supply should feel some humility about
where potential GDP is headed. For me, a lack of confidence in the path of real
GDP takes a lot of luster out of the idea of a nominal GDP target.
Taylor rule skeptics can turn to David Andolfatto of the St. Louis Fed:
On the perils of Taylor rules. macromania: In the Seven
Faces of "The Peril" (2010), St. Louis Fed president Jim Bullard speculated
on the prospect of the U.S. falling into a Japanese-style deflationary outcome.
His analysis was built on an insight of Benhabib, Schmitt-Grohe, and Uribe
(2001) in The Perils of
These authors (BSU) showed that if monetary policy is conducted according to a
Taylor rule, and if there
is a zero lower bound (ZLB) on the nominal interest rate, then there are
generally two steady-state equilibria. In one equilibrium--the "intended"
outcome--the nominal interest rate and inflation rate are on target. In the
other equilibrium--the "unintended" outcome--the nominal interest rate and
inflation rate are below target--the economy is in a "liquidity
As BSU stress, the multiplicity of outcomes occurs even in economies where
prices are perfectly flexible. All that is required are three
(non-controversial) ingredients:  a
Fisher equation; 
a Taylor rule; and  a ZLB.
Back in 2010, I didn't take this argument very seriously. In part it was because
the so-called "unintended" outcome was more efficient than than the "intended"
outcome (at least, in the version of the model with flexible prices). To put
things another way, the
Friedman rule turns out to be good policy in a wide class of models. I
figured that other factors were probably more important for explaining the
events unfolding at that time.
Well, maybe I was a bit too hasty. Let me share with you my tinkering with a
simple OLG model... Unfortunately, what follows is a bit on the wonkish side...
[My comments on this topic are highlighted in the first link, i.e. the one to David
Altig's post at macroblog.]
Posted by Mark Thoma on Friday, December 28, 2012 at 03:49 PM in Economics, Macroeconomics, Monetary Policy |
Jason Saving, a senior research economist and advisor in the Research Department of the Federal Reserve Bank of Dallas, discusses the
consequences of going over the
fiscal cliff (see also
Over the Cliff We Go for Brad DeLong's views on this issue). After detailing
the components of the cliff and noting they amount to $560 billion in
budget cuts or tax increases for 2013 alone (though they wouldn't all kick in at
once), he notes:
... Interestingly, the various components of the fiscal cliff don’t contribute
equally to these negative economic impacts. For example, it might appear that
letting the 2001/03 tax cuts expire would have a large impact because this
component is among the biggest fiscal cliff budget items, as detailed in Chart
2. However, the cuts are estimated to have the fourth-largest impact, behind the
sequester, labor-market provisions and AMT patch.
The reason is that, in the short run, different fiscal policies can have a
very different “bang for the buck” (often referred to in economic shorthand as a
fiscal “multiplier”). When the government reduces its purchases and lays off
workers, as would occur under the sequester, there is an immediate and sizable
reduction in demand that feeds back into the overall economy — that’s why the
impact of the sequester on GDP is so large. Marginal rate cuts have the smallest
multiplier because they flow disproportionately to higher-income individuals,
who make the “wrong” choice from a short-run point of view and save those funds
instead of spending and pumping them back into the broader economy.
He concludes with:
In fiscal policy as in monetary policy, it’s necessary to carefully weigh
short-term gain against long-term pain, often when no unambiguously optimal
options are available. Many have suggested that the best strategy may be
visible, loose fiscal policy today, coupled with strongly worded promises to
embark upon fiscal consolidation as soon as it becomes reasonable to do so. But
what’s reasonable is not always apparent, making such proposals easier said than
Perhaps the real question today is whether we have entered an era of
permanently greater polarization in Congress and permanently higher fiscal
policy uncertainty. If that’s the case, today’s fiscal cliff may be a harbinger
of what’s to come.
Posted by Mark Thoma on Friday, December 28, 2012 at 10:33 AM
How important is the digital revolution?
Is Growth Over?, by Paul Krugman, Commentary, NY Times: The great bulk
of the economic commentary you read in the papers is focused on the short
run: the effects of the “fiscal cliff” on U.S. recovery, the stresses on the
euro, Japan’s latest attempt to break out of deflation. This focus is
understandable... But... What do we know about the prospects for long-run
prosperity? The answer is: less than we think.
The long-term projections produced by official agencies, like the
Congressional Budget Office, generally make two big assumptions. One is that
economic growth over the next few decades will resemble growth over the past
few decades. ... On the other side, however, these projections generally
assume that income inequality, which soared over the past three decades,
will increase only modestly looking forward. ...
Yet this conventional wisdom is very likely to be wrong on one or both
Recently, Robert Gordon ... created a stir by arguing that economic growth
is likely to slow sharply — indeed, that the age of growth that began in the
18th century may well be drawing to an end. ...
It’s an interesting thesis... And while I don’t think he’s right, the way in
which he’s probably wrong has implications equally destructive of
conventional wisdom. For the case against Mr. Gordon’s techno-pessimism
rests largely on the assertion that the big payoff to information
technology, which is just getting started, will come from the rise of smart
If you follow these things, you know that the field of artificial intelligence
has for decades been a frustrating underachiever... Lately, however, the
barriers seem to have fallen... So machines may soon be ready to perform many tasks that currently require large
amounts of human labor. This will mean rapid productivity growth and, therefore,
high overall economic growth.
But — and this is the crucial question — who will benefit from that growth?
Unfortunately, it’s all too easy to make the case that most Americans will
be left behind, because smart machines will end up devaluing the
contribution of workers, including highly skilled workers whose skills
suddenly become redundant. The point is that there’s good reason to believe
that the conventional wisdom embodied in long-run budget projections —
projections that shape almost every aspect of current policy discussion — is
What, then, are the implications of this alternative vision for policy?
Well, I’ll have to address that topic in a future column.
Posted by Mark Thoma on Friday, December 28, 2012 at 12:24 AM in Economics, Productivity, Technology |
Posted by Mark Thoma on Friday, December 28, 2012 at 12:06 AM in Economics, Links |
Many development economists argue that "the foundation of economic growth is
in political and economic institutions." This research argues that "vector-borne
and parasitic diseases" are just as important as "crime or government
corruption" in explaining the global distribution of income. This is not my
area, so I won't comment on the quality of this research, but hoping development
economists will chime and explain the degree to which these results should be
noted or ignored:
Disease burden links ecology to economic growth, EurekAlert: A new
study, published December 27 in the open access journal PLOS Biology,
finds that vector-borne and parasitic diseases have substantial effects on
economic development across the globe, and are major drivers of differences
in income between tropical and temperate countries. The burden of these
diseases is, in turn, determined by underlying ecological factors: it is
predicted to rise as biodiversity falls. This has significant implications
for the economics of health care policy in developing countries, and
advances our understanding of how ecological conditions can affect economic
According to conventional economic wisdom, the foundation of economic growth
is in political and economic institutions. "This is largely Cold War
Economics about how to allocate property rights—with the government or with
the private sector," says Dr Matthew Bonds, an economist at Harvard Medical
School, and the lead author of the new study. However, Dr Bonds and
colleagues were interested instead in biological processes that transcend
such institutions, and which might form a more fundamental economic
The team was intrigued by the fact that tropical countries are generally
comprised of poor agrarian populations while countries in temperate regions
are wealthier and more industrialized. This distribution of income is
inversely related to the burden of disease, which peaks at the equator and
falls along a latitudinal gradient. Although it is common to conclude that
economics drives the pattern of disease, the authors point out that most of
the diseases that afflict the poor spend much of their life-cycle outside
the human host. Many cannot even survive outside the tropics. Their
distribution is largely determined by ecological factors, such as
temperature, rainfall, and soil quality.
Because of the high correlations between poverty and disease, determining
the effects of one on the other was the central challenge of their
statistical analysis. Most previous attempts to address this topic ignored
disease ecology, argue Bonds and colleagues. The team assembled a large data
set for all of the world's nations on economics, parasitic and infectious
vector-borne diseases, biodiversity (mammals, birds and plants) and other
factors. Knowing that diseases are partly determined by ecology, they used a
powerful set of statistical methods, new to macroecology, that allowed
variables that may have underlying relationships with each other to be
The results of the analysis suggest that infectious disease has as powerful an effect on a nation's economic health as governance, say the authors. "The main asset of the poor is their own labor," says Dr Bonds. "Infectious diseases, which are regulated by the environment, systematically steal human resources. Economically speaking, the effect is similar to that of crime or government corruption on undermining economic growth."
This result has important significance for international aid organizations, as it suggests that money spent on combating disease would also stimulate economic growth.
... The research sets the stage for a number of future analyses that need to lay bare the relationship between health care funding and economic development.
Posted by Mark Thoma on Thursday, December 27, 2012 at 05:07 PM in Development, Economics, Health Care |
wonders if macroeconomists will ever be able to agree:
The part I can't figure out is why there's so much contention even within
the field. In physics and climate science, the cranks are almost all
nonspecialists with an axe to grind. Actual practitioners agree pretty broadly
on at least the basics. But in macroeconomics you don't have that. There are
still polar disagreements among top names on some of the most basic questions.
Even given the complexity of the field, that's a bit of a mystery. It's
understandable that economics is a more politicized field than physics, but in
practice it seems to be almost 100 percent politicized, with the battles fought
out by streams of Greek letters demonstrating, as Matt says, just about
anything. I wonder if this is ever likely to change? Or will changes in the real
world always outpace our ability to build consensus on how the economy actually
a shot at answering this in April 2011:
... Why can’t economists tell us what happens when government spending goes up or
down, taxes change, or the Fed changes monetary policy? The stumbling block is
that economics is fundamentally a non-experimental science, particularly in the
realm of macroeconomics. Unlike disciplines such as physics, we can't go into
the laboratory and rerun the economy again and again under different conditions
to measure, say, the average effect of monetary and fiscal policy. We only have
one realization of the macroeconomy to use to answer important policy questions,
and that limits the precision of the answers we can give. In addition, because
the data are historical rather than experimental, we cannot look at the
relationships among a set of variables in isolation while holding all the other
variables constant as you might do in a lab and this also reduces the precision
of our estimates.
Because we only have a single realization of history rather than laboratory data
to investigate economic issues, macroeconomic theorists have full knowledge of
past data as they build their models. It would be a waste of time to build a
model that doesn't fit this one realization of the macroeconomy, and fit it
well, and that is precisely what has been done. Unfortunately, there are two
models that fit the data, and the two models have vastly different implications
for monetary and fiscal policy. ... [This leads to passionate debates about
which model is best.]
But even if we had perfect models and perfect data, there would still be
uncertainties and disagreements over the proper course of policy. Economists are
hindered by the fact that people and institutions change over time in a way that
the laws of physics do not. Thus, even if we had the ability to do controlled
and careful experiments, there is no guarantee that what we learn would remain
valid in the future.
Suppose that we somehow overcome every one of these problems. Even then,
disagreements about economic policy would persist in the political arena. Even
with full knowledge about how, say, a change in government spending financed by
a tax increase will affect the economy now and in the future, ideological
differences across individuals will lead to different views on the net social
value of these policies. Those on the left tend to value the benefits higher,
and place less weight on the costs than those on the right and this leads to
fundamental, insoluble differences over the course of economic policy. ...
Progress in economics may someday narrow the partisan divide over economic
policy, but even perfect knowledge about the economy won’t eliminate the
ideological differences that are the source of so much passion in our political
A follow-up post in February empahsizes the point that it is not at all clear that the
strong divides in economics can be settled with data, but it's not completely hopeless:
...the ability to choose one model over the other is not quite as hopeless as
I’ve implied. New data and recent events like the Great
Recession push these models into unchartered territory and provide a way to
assess which model provides better predictions. However, because of our reliance
on historical data this is a slow process – we have to wait for data to
accumulate – and there’s no guarantee that once we are finally able to pit one
model against the other we will be able to crown a winner. Both models could
I think the Great recession has, for example, provided evidence that the NK
model provides a better explanation of events than its competitors, but it is
far from a satisfactory construction and it would be hard to call its
forecasting and explanatory abilities a success.
post from the past (Sept. 2009) on this topic:
... There is no grand, unifying theoretical structure in economics. We do not
have one model that rules them all. Instead, what we have are models that are
good at answering some questions - the ones they were built to answer - and not
so good at answering others.
If I want to think about inflation in the very long run, the classical model and
the quantity theory is a very good guide. But the model is not very good at
looking at the short-run. For questions about how output and other variables
move over the business cycle and for advice on what to do about it, I find the
Keynesian model in its modern form (i.e. the New Keynesian model) to be much
more informative than other models that are presently available (as to how far
this kind of "eclecticism" will get you in academia, I'll just note that this is
exactly the advice Mishkin gives in his textbook on monetary theory and policy).
But the New Keynesian model has its limits. It was built to capture "ordinary"
business cycles driven by price rigidities of the sort that can be captured by
the Calvo model model of price rigidity. The standard versions of this model do
not explain how financial collapse of the type we just witnessed come about,
hence they have little to say about what to do about them (which makes me
suspicious of the results touted by people using multipliers derived from DSGE
models based upon ordinary price rigidities). For these types of disturbances,
we need some other type of model, but it is not clear what model is needed.
There is no generally accepted model of financial catastrophe that captures the
variety of financial market failures we have seen in the past.
But what model do we use? Do we go back to old Keynes, to the 1978 model that
Robert Gordon likes, do we take some of the variations of the New Keynesian
model that include effects such as financial accelerators and try to enhance
those, is that the right direction to proceed? Are the Austrians right? Do we
focus on Minsky? Or do we need a model that we haven't discovered yet?
We don't know, and until we do, I will continue to use the model I think gives
the best answer to the question being asked. The reason that many of us looked
backward for a model to help us understand the present crisis is that none of
the current models were capable of explaining what we were going through. The
models were largely constructed to analyze policy is the context of a Great
Moderation, i.e. within a fairly stable environment. They had little to say
about financial meltdown. My first reaction was to ask if the New Keynesian
model had any derivative forms that would allow us to gain insight into the
crisis and what to do about it and, while there were some attempts in that
direction, the work was somewhat isolated and had not gone through the thorough
analysis that is needed to develop robust policy prescriptions. There was
something to learn from these models, but they really weren't up to the task of
delivering specific answers. That may come, but we aren't there yet.
So, if nothing in the present is adequate, you begin to look to the past. The
Keynesian model was constructed to look at exactly the kinds of questions we
needed to answer, and as long as you are aware of the limitations of this
framework - the ones that modern theory has discovered - it does provide you
with a means of thinking about how economies operate when they are running at
less than full employment. This model had already worried about fiscal policy at
the zero interest rate bound, it had already thought about Says law, the paradox
of thrift, monetary versus fiscal policy, changing interest and investment
elasticities in a crisis, etc., etc., etc. We were in the middle of a
crisis and didn't have time to wait for new theory to be developed, we needed
answers, answers that the elegant models that had been constructed over the last
few decades simply could not provide. The Keyneisan model did provide answers.
We knew the answers had limitations - we were aware of the theoretical
developments in modern macro and what they implied about the old Keynesian model
- but it also provided guidance at a time when guidance was needed, and it did
so within a theoretical structure that was built to be useful at times like we
were facing. I wish we had better answers, but we didn't, so we did the best we
could, and the best we could involved at least asking what the Keynesian model
would tell us, and then asking if that advice has any relevance today. Sometimes
if didn't, but that was no reason to ignore the answers when it did.
Part of the disagreement is over the ability of this approach -- using an
older model guided by newer insights (e.g. that expectations of future output
matter for the "IS curve") -- to deliver reliable answers and policy
More on this from
another past post (March 2009):
Models are built to answer questions, and the models economists have been using
do, in fact, help us find answers to some important questions. But the models
were not very good (at all) at answering the questions that are important right
now. They have been largely stripped of their usefulness for actual policy in a
world where markets simply break down.
The reason is that in order to get to mathematical forms that can be solved, the
models had to be simplified. And when they are simplified, something must be
sacrificed. So what do you sacrifice? Hopefully, it is the ability to answer
questions that are the least important, so the modeling choices that are made
reveal what the modelers though was most and least important.
The models we built were very useful for asking whether the federal funds rate
should go up or down a quarter point when the economy was hovering in the
neighborhood of full employment ,or when we found ourselves in mild, "normal"
recessions. The models could tell us what type of monetary policy rule is best
for stabilizing the economy. But the models had almost nothing to say about a
world where markets melt down, where prices depart from fundamentals, or when
markets are incomplete. When this crisis hit, I looked into our tool bag of
models and policy recommendations and came up empty for the most part. It was
disappointing. There was really no choice but to go back to older Keynesian
style models for insight.
The reason the Keynesian model is finding new life is that it specifically built
to answer the questions that are important at the moment. The theorists who
built modern macro models, those largely in control of where the profession has
spent its effort in recent decades,; did not even envision that this could
happen, let alone build it into their models. Markets work, they don't break
down, so why waste time thinking about those possibilities.
So it's not the math, the modeling choices that were made and the inevitable
sacrifices to reality that entails reflected the importance those making the
choices gave to various questions. We weren't forced to this end by the
mathematics, we asked the wrong questions and built the wrong models.
New Keynesians have been trying to answer: Can we, using equilibrium models with
rational agents and complete markets, add frictions to the model - e.g. sluggish
wage and price adjustment - you'll see this called "Calvo pricing" - in a way
that allows us to approximate the actual movements in key macroeconomic
variables of the last 40 or 50 years.
Real Business Cycle theorists also use equilibrium models with rational agents
and complete markets, and they look at whether supply-side shocks such as shocks
to productivity or labor supply can, by themselves, explain movements in the
economy. They largely reject demand-side explanations for movements in macro
The fight - and main question in academics - has been about what drives
macroeconomic variables in normal times, demand-side shocks (monetary policy,
fiscal policy, investment, net exports) or supply-side shocks (productivity,
labor supply). And it's been a fairly brutal fight at times - you've seen some
of that come out during the current policy debate. That debate within the
profession has dictated the research agenda.
What happens in non-normal times, i.e. when markets break down, or when markets
are not complete, agents are not rational, etc., was far down the agenda of
important questions, partly because those in control of the journals, those who
largely dictated the direction of research, did not think those questions were
very important (some don't even believe that policy can help the economy, so why
put effort into studying it?).
I think that the current crisis has dealt a bigger blow to macroeconomic theory
and modeling than many of us realize.
Here's yet another past post (August 2009) on the general topic of the
usefulness of macroeconomic models, though I'm not quite as bullish on the
ability of existing models to provide guidance as I was when I wrote this. The point is that although many people use forecasting ability as a metric to measure the usefulness of models (because where the economy is headed is the most improtant question to them), that's not the only use of these models:
Are Macroeconomic Models Useful?: There has been no shortage of effort
devoted to predicting earthquakes, yet we still can't see them coming far enough
in advance to move people to safety. When a big earthquake hits, it is a
surprise. We may be able to look at the data after the fact and see that certain
stresses were building, so it looks like we should have known an earthquake was
going to occur at any moment, but these sorts of retrospective analyses have not
allowed us to predict the next one. The exact timing and location is always a
Does that mean that science has failed? Should we criticize the models as
No. There are two uses of models. One is to understand how the world works,
another is to make predictions about the future. We may never be able to predict
earthquakes far enough in advance and with enough specificity to allow us time
to move to safety before they occur, but that doesn't prevent us from
understanding the science underlying earthquakes. Perhaps as our understanding
increases prediction will be possible, and for that reason scientists shouldn't
give up trying to improve their models, but for now we simply cannot predict the
arrival of earthquakes.
However, even though earthquakes cannot be predicted, at least not yet, it would
be wrong to conclude that science has nothing to offer. First, understanding how
earthquakes occur can help us design buildings and make other changes to limit
the damage even if we don't know exactly when an earthquake will occur. Second,
if an earthquake happens and, despite our best efforts to insulate against it
there are still substantial consequences, science can help us to offset and
limit the damage. To name just one example, the science surrounding disease
transmission helps use to avoid contaminated water supplies after a disaster,
something that often compounds tragedy when this science is not available. But
there are lots of other things we can do as well, including using the models to
determine where help is most needed.
So even if we cannot predict earthquakes, and we can't, the models are still
useful for understanding how earthquakes happen. This understanding is valuable
because it helps us to prepare for disasters in advance, and to determine
policies that will minimize their impact after they happen.
All of this can be applied to macroeconomics. Whether or not we should have
predicted the financial earthquake is a question that has been debated
extensively, so I am going to set that aside. One side says financial market
price changes, like earthquakes, are inherently unpredictable -- we will never
predict them no matter how good our models get (the efficient markets types).
The other side says the stresses that were building were obvious. Like the
stresses that build when tectonic plates moving in opposite directions rub
against each other, it was only a question of when, not if. (But even when
increasing stress between two plates is observable, scientists cannot tell you
for sure if a series of small earthquakes will relieve the stress and do little
harm, or if there will be one big adjustment that relieves the stress all at
once. With respect to the financial crisis, economists expected lots of little,
small harm causing adjustments, instead we got the "big one," and the "buildings
and other structures" we thought could withstand the shock all came crumbling
Whether the financial crisis should have been predicted or not, the fact that it
wasn't predicted does not mean that macroeconomic models are useless any more
than the failure to predict earthquakes implies that earthquake science is
useless. As with earthquakes, even when prediction is not possible (or missed),
the models can still help us to understand how these shocks occur. That
understanding is useful for getting ready for the next shock, or even preventing
it, and for minimizing the consequences of shocks that do occur.
But we have done much better at dealing with the consequences of unexpected
shocks ex-post than we have at getting ready for these a priori. Our equivalent
of getting buildings ready for an earthquake before it happens is to use changes
in institutions and regulations to insulate the financial sector and the larger
economy from the negative consequences of financial and other shocks. Here I
think economists made mistakes - our "buildings" were not strong enough to
withstand the earthquake that hit. We could argue that the shock was so big that
no amount of reasonable advance preparation would have stopped the "building"
from collapsing, but I think it's more the case that enough time has passed
since the last big financial earthquake that we forgot what we needed to do. We
allowed new buildings to be constructed without the proper safeguards.
However, that doesn't mean the models themselves were useless. The models were
there and could have provided guidance, but the implied "building codes" were
ignored. Greenspan and others assumed no private builder would ever construct a
building that couldn't withstand an earthquake, the market would force them to
take this into consideration. But they were wrong about that, and even Greenspan
now admits that government building codes are necessary. It wasn't the models,
it was how they were used (or rather not used) that prevented us from putting
safeguards into place. ...
I'd argue that our most successful use of models has been in cleaning up after
shocks rather than predicting, preventing, or insulating against them through
pre-crisis preparation. When despite our best effort to prevent it or to
minimize its impact a priori, we get a recession anyway, we can use our models
as a guide to monetary, fiscal, and other policies that help to reduce the
consequences of the shock (this is the equivalent of, after a disaster hits,
making sure that the water is safe to drink, people have food to eat, there is a
plan for rebuilding quickly and efficiently, etc.). As noted above, we haven't
done a very good job at predicting big crises, and we could have done a much
better job at implementing regulatory and institutional changes that prevent or
limit the impact of shocks. But we do a pretty good job of stepping in with
policy actions that minimize the impact of shocks after they occur. This
recession was bad, but it wasn't another Great Depression like it might have
been without policy intervention.
Whether or not we will ever be able to predict recessions reliably, it's
important to recognize that our models still provide considerable guidance for
actions we can take before and after large shocks that minimize their impact and
maybe even prevent them altogether (though we will have to do a better job of
listening to what the models have to say). Prediction is important, but it's not
the only use of models.
Posted by Mark Thoma on Thursday, December 27, 2012 at 10:45 AM in Economics, Macroeconomics, Methodology |
Posted by Mark Thoma on Thursday, December 27, 2012 at 12:06 AM in Economics, Links |
Bruce Bartlett argues conservatives should support the welfare state:
A Conservative Case for the Welfare State, by Bruce Bartlett, Commentary, NY
Times: At the root of much of the dispute between Democrats and Republicans
over the so-called fiscal cliff is a deep disagreement over the welfare state.
Republicans continue to fight a long-running war against Social Security,
Medicare, Medicaid and many other social-welfare programs that most Americans
support overwhelmingly and oppose cutting. ...
This is foolish and reactionary. Moreover, there are sound reasons why a
conservative would support a welfare state. Historically, it has been
conservatives like the 19th century chancellor of Germany, Otto von Bismarck,
who established the welfare state in Europe. They did so because masses of poor
people create social instability and become breeding grounds for radical
In postwar Europe, conservative parties were the principal supporters of
welfare-state policies in order to counter efforts by socialists and communists
to abolish capitalism altogether. The welfare state was devised to shave off the
rough edges of capitalism and make it sustainable. Indeed, the conservative icon
Winston Churchill was among the founders of the British welfare state.
American conservatives, being far more libertarian than their continental
counterparts, reject the welfare state for both moral and efficiency reasons. It
creates unhappiness, they believe, and inevitably becomes bloated, undermining
incentives and economic growth.
One problem with this conservative view is its lack of an empirical foundation.
Research by Peter H. Lindert of the University of California, Davis, shows
clearly that the welfare state is not incompatible with growth while providing a
superior quality of life to many of those left to sink or swim in America. ...
There are many ... ways ... in which what the conservatives call bloated
European welfare states are actually very efficient. ...
American conservatives routinely assert that the people of Europe live in
virtual destitution because of their swollen welfare states. But according to a
commonly accepted index of life satisfaction, many heavily taxed European
countries rank well above the United States...
If conservatives want to support the welfare state out of the desire to
defend capitalism from "socialists and communists" -- to defend it against the instability that high degrees of inequality cause -- no problem, though it's
interesting that they would acknowledge that the system itself can lead to
societal inequities that are so dangerous the government needs to intervene to
fix them. I prefer the efficiency argument (which is not to say that the other argument has no merit, it does). When there are substantial market
failures -- the type that exist in retirement and health markets for example --
the government can make these markets work better through rules, mandates, and
other regulatory interventions, or it can provide the services itself. Whether a
heavily regulated private market will work better than the government providing
services itself in the presence of substantial market failures is something that can be debated, and in general the lines
aren't always clear. But for health and retirement markets it does appear that
direct government provision works better than heavily regulated markets (i.e. "privatization"). In any
case, the broader point is that the government provision of social insurance
either directly or indirectly can be justified on an efficiency argument, i.e.
as a means of overcoming market failures that prevent the private sector from
providing these important goods and services in sufficient quantities at the lowest possible price.
Posted by Mark Thoma on Wednesday, December 26, 2012 at 11:40 AM in Economics, Market Failure, Regulation, Social Insurance |
Missing The Big Japan Story, by Tim Duy: The potential exists for groundbreaking changes in Japanese economic policy - and I sense that Western journalists, caught up in the current celebration of central bankers, are missing the bigger story. In my opinion, a higher inflation target by the Bank of Japan is not particularly interesting. After all, the Bank of Japan can't hit the current "goal" of 1 percent inflation. I don't have much faith that renaming the "goal" a "target" and increasing it to 2 percent will be like waving a magic wand. But something much more significant is afoot - the possibility of explicit cooperation, albeit perhaps forced cooperation, between fiscal and monetary authorities. The loss of the Bank of Japan's independence to force the direct monetization of deficit spending is the real story.
Floyd Norris at the New York Times begins a recent article on Japanese monetary policy with a quote from then-Federal Reserve Governor Ben Bernanke:
...under a paper-money system, a determined government can always generate higher spending and hence positive inflation.
Now we may find out if Mr. Bernanke was right. Japan appears to be ready to do whatever it takes to end its long run of falling prices. The Bank of Japan took limited action on Thursday, and more is expected in the new year.
Norris then proceeds with a generic review of Bernanke's point that monetary policymakers are not without tools even at the zero bound. Norris includes mention of Bernanke's "helicopter drop" reference, but fails to put it in proper context. The proper context is in terms of the cooperation between fiscal and monetary policy. This is my central complaint; that reporters have a tendency to not carefully read this speech.
Notice that Bernanke does not say a "determined monetary authority." He says a determined "government." Bernanke clarifies this earlier in the speech:
Indeed, under a fiat (that is, paper) money system, a government (in practice, the central bank in cooperation with other agencies) should always be able to generate increased nominal spending and inflation, even when the short-term nominal interest rate is at zero.
The problem, in my opinion, is that reporters tend to report this speech without explicitly (or even implicitly) defining the importance of fiscal policy. And we know that Bernanke himself does not believe that monetary policy can stabilize the economy in any and all times. From the most recent post-FOMC press conference:
For example, I hope it won’t happen but if the fiscal cliff occurs, as I’ve said many times, I don’t think the Federal Reserve has the tools to offset that event and, in that case, we obviously have to temper our expectations about what we can accomplish.
What does this have to do with Japan? Norris acknowledges the political pressure change on the Bank of Japan:
This week the Liberal Democratic Party, which had ruled Japan for nearly its entire postwar history until it was swept from power three years ago, won a landslide victory. Shinzo Abe, the prime minister from 2006 to 2007, will get another chance.
Mr. Abe devoted a decent part of his campaign to criticism of the Bank of Japan, the country’s central bank. He wants the bank to pursue inflation, and to effectively print money until it gets it. At one point during the campaign he spoke of a 3 percent inflation target, although he seems to have cut that back to 2 percent.
Fine, political pressure is interesting, but the inflation target is just one part of the plan, and I would argue not the most important part. From another New York Times reporter, Hiroko Tabuchi:
In his campaign speeches, he [Abe] called on the bank to set an inflation target of 2 to 3 percent and to buy more bonds to finance government stimulus efforts, another facet of his growth strategy. He warned that he would push to amend laws regarding the central bank to allow the government a bigger say in setting monetary policy. [emphasis added]
The implications are clear. From the Financial Times:
Mr Shirakawa, the BoJ governor, has warned that “monetising” government debt could undermine confidence in Japan’s fiscal discipline, resulting in higher interest rates that would make it much harder to finance the deficit.
What would Bernanke say about the impact of joint monetary and fiscal policy? From his 2002 speech:
Each of the policy options I have discussed so far involves the Fed's acting on its own. In practice, the effectiveness of anti-deflation policy could be significantly enhanced by cooperation between the monetary and fiscal authorities. A broad-based tax cut, for example, accommodated by a program of open-market purchases to alleviate any tendency for interest rates to increase, would almost certainly be an effective stimulant to consumption and hence to prices...A money-financed tax cut is essentially equivalent to Milton Friedman's famous "helicopter drop" of money.
...Of course, in lieu of tax cuts or increases in transfers the government could increase spending on current goods and services or even acquire existing real or financial assets.
US monetary policy would have been much more effective if complemented by fiscal policy. Same goes for Europe. Abe appears to be poised to try something along that route:
In an appearance on Fuji TV on Sunday, Mr Abe, who this week is set to become Japan’s seventh prime minister in just more than six years, said a new approach was essential to defeating the deflation dogging the economy.
“It has to be different from the traditional methods – the traditional methods have not been able to defeat deflation for more than a decade. That’s no good,” he said.
And Abe is determined to make it happen - even if it requires stripping the central bank of its independence:
...Mr Abe has already made clear that Mr Shirakawa will be replaced when his current term as governor ends in April and that his successor will be a candidate more willing to push aggressive easing. “We want to have someone who supports our thinking,” he said on Sunday.
Or he will push for legal changes such that the Bank of Japan to once again falls under control of the fiscal authorities.
Japan might very well be heading toward the end-game of permanent zero interest rate policy: Explicit monetizing of deficit spending. That is the real story here - it goes far beyond just inflation targeting.
Bottom Line: Inflation targeting is not the whole story in Japanese monetary policy. It is a facet of a much greater story. A story of a modern central bank stripped of its independence. Of a modern central bank forced to explicitly monetize deficit spending. Ultimately, it is the story of the end game of the permanent zero interest rate policy.
Posted by Mark Thoma on Wednesday, December 26, 2012 at 12:24 AM in Economics, Fed Watch, Monetary Policy |
Posted by Mark Thoma on Wednesday, December 26, 2012 at 12:06 AM in Economics, Links |
Posted by Mark Thoma on Tuesday, December 25, 2012 at 03:33 AM in Miscellaneous |
Posted by Mark Thoma on Tuesday, December 25, 2012 at 12:06 AM in Economics, Links |
Twas The Night Before Christmas:
was the night before Christmas, when all through the house
Not a creature was stirring, not even a mouse;
The stockings were hung by the chimney with care
In hopes that St. Nicholas soon would be there;
he children were nestled all snug in their beds,
While visions of sugar-plums danced in their heads;
And mamma in her kerchief, and I in my cap,
Had just settled our brains for a long winter's nap,
hen out on the lawn there arose such a clatter,
I sprang from the bed to see what was the matter.
Away to the window I flew like a flash,
Tore open the shutters and threw up the sash.
he moon on the breast of the new-fallen snow
Gave the lustre of mid-day to objects below,
When, what to my wondering eyes should appear,
But a miniature sleigh, and eight tiny reindeer,
ith a little old driver, so lively and quick,
I knew in a moment it must be St. Nick.
More rapid than eagles his coursers they came,
And he whistled, and shouted, and called them by name:
ow, Dasher! now, Dancer! now, Prancer and Vixen!
On, Comet! on, Cupid! on, Donder and Blitzen!
To the top of the porch! to the top of the wall!
Now dash away! dash away! dash away all!"
s dry leaves that before the wild hurricane fly,
When they meet with an obstacle, mount to the sky;
So up to the house-top the coursers they flew,
With the sleigh full of Toys, and St. Nicholas too.
nd then, in a twinkling, I heard on the roof
The prancing and pawing of each little hoof.
As I drew in my head, and was turning around,
Down the chimney St. Nicholas came with a bound.
e was dressed all in fur, from his head to his foot,
And his clothes were all tarnished with ashes and soot;
A bundle of Toys he had flung on his back,
And he looked like a peddler just opening his pack.
is eyes—how they twinkled! his dimples how merry!
His cheeks were like roses, his nose like a cherry!
His droll little mouth was drawn up like a bow,
And the beard of his chin was as white as the snow;
he stump of a pipe he held tight in his teeth,
And the smoke it encircled his head like a wreath;
He had a broad face and a little round belly,
That shook when he laughed, like a bowlful of jelly.
e was chubby and plump, a right jolly old elf,
And I laughed when I saw him, in spite of myself;
A wink of his eye and a twist of his head,
Soon gave me to know I had nothing to dread;
e spoke not a word, but went straight to his work,
And filled all the stockings; then turned with a jerk,
And laying his finger aside of his nose,
And giving a nod, up the chimney he rose;
e sprang to his sleigh, to his team gave a whistle,
And away they all flew like the down of a thistle.
But I heard him exclaim, ere he drove out of sight,
"Happy Christmas to all, and to all a good-night."
Posted by Mark Thoma on Monday, December 24, 2012 at 04:05 PM in Miscellaneous |
Greg Mankiw says he is puzzled:
Brad DeLong does the unpuzzling that, as he notes, shouldn't be needed:
In Which Greg Mankiw Pretends to Be Puzzled...
PGL explains what Mankiw should be puzzled about:
Paul Krugman Puzzles Greg Mankiw
Adam Ozimek continues the discussion:
Krugman vs Mankiw on Interest Rates
Paul Krugman with more on the topic:
Bond Vigilantes and the Power of Three
Nothing to add, that pretty much covers it, but I do wonder: When Greg Mankiw asks, relative to 2003, "are circumstances different now?"
just how much eggnog has he had?
Posted by Mark Thoma on Monday, December 24, 2012 at 09:24 AM in Budget Deficit, Economics, Financial System, Unemployment |
Haven't read these papers yet, but looks like I should (I added open links
when I could find them):
First, Sachs and Kotlikoff (anything to keep these two from writing about the
deficit and the accumulated debt is, in my view, a plus):
Smart Machines and
Long-Term Misery, by Jeffrey D. Sachs, Laurence J. Kotlikoff, NBER Working Paper
No. 18629, Issued in December 2012: Are smarter machines our children’s
friends? Or can they bring about a transfer from our relatively unskilled
children to ourselves that leaves our children and, indeed, all our descendants
– worse off?
This, indeed, is the dire message of the model presented here in which smart
machines substitute directly for young unskilled labor, but complement older
skilled labor. The depression in the wages of the young then limits their
ability to save and invest in their own skill acquisition and physical capital.
This, in turn, means the next generation of young, initially unskilled workers,
encounter an economy with less human and physical capital, which further drives
down their wages. This process stabilizes through time, but potentially entails
each newborn generation being worse off than its predecessor.
We illustrate the potential for smart machines to engender long-term misery in a
highly stylized two-period model. We also show that appropriate generational
policy can be used to transform win-lose into win-win for all generations.
Next, Jordi Gali revisits Keynes:
Notes for a New Guide to
Keynes (I): Wages, Aggregate Demand, and Employment, by Jordi Galí, NBER Working
Paper No. 18651, Issued in December 2012 [open
link]: I revisit the General Theory's discussion of the role of wages in
employment determination through the lens of the New Keynesian model. The
analysis points to the key role played by the monetary policy rule in shaping
the link between wages and employment, and in determining the welfare impact of
enhanced wage flexibility. I show that the latter is not always welfare
Finally, Roger Farmer, Carine Nourry, and Alain Venditti on whether
"competitive financial markets efficiently allocate risk" (according to this,
The Inefficient Markets
Hypothesis: Why Financial Markets Do Not Work Well in the Real World, Roger E.A.
Farmer, Carine Nourry, Alain Venditti, NBER Working Paper No. 18647, Issued in
December 2012 [open
link]: Existing literature continues to be unable to offer a convincing
explanation for the volatility of the stochastic discount factor in real world
data. Our work provides such an explanation. We do not rely on frictions, market
incompleteness or transactions costs of any kind. Instead, we modify a simple
stochastic representative agent model by allowing for birth and death and by
allowing for heterogeneity in agents' discount factors. We show that these two
minor and realistic changes to the timeless Arrow-Debreu paradigm are sufficient
to invalidate the implication that competitive financial markets efficiently
allocate risk. Our work demonstrates that financial markets, by their very
nature, cannot be Pareto efficient, except by chance. Although individuals in
our model are rational; markets are not.
Posted by Mark Thoma on Monday, December 24, 2012 at 09:21 AM in Academic Papers, Economics |
A bit late for most of you, but in case it comes up over the next few days:
Real Tree or Artificial Tree, by Tim Taylor: My family always had real Christmas trees when I was growing up. I've
always had real trees as an adult. Living in my own little bubble, it
thus came as a shock to me to learn that, of the households that have
Christmas trees, over 80% use an artificial tree, according to Nielsen survey results commissioned by the American Christmas Tree Association (which
largely represents sellers of artificial trees). But in a holiday
season where the focus is often on whether we are naughty or nice, what
choice of tree has greater environmental impact? ...
Posted by Mark Thoma on Monday, December 24, 2012 at 09:18 AM in Economics, Environment |
When people are "absurdly wrong for years on end," it's time to stop listening to them:
When Prophecy Fails, by Paul Krugman, Commentary, NY Times: Back in the
1950s three social psychologists joined a cult that was predicting the imminent
end of the world. Their purpose was to observe the cultists’ response when the
world did not, in fact, end on schedule. What they discovered ... is that the
irrefutable failure of a prophecy does not cause true believers ... to
reconsider. On the contrary, they become even more fervent, and proselytize even
This insight seems highly relevant as 2012 draws to a close. After all, a lot of
people came to believe that we were on the brink of catastrophe — and these
views were given extraordinary reach by the mass media. As it turned out..., the
predicted catastrophe failed to materialize. But we can be sure that the
cultists won’t admit to having been wrong. No, the people who told us that a
fiscal crisis was imminent will just keep at it, more convinced than ever.
Oh, wait a second — did you think I was talking about the Mayan calendar thing?
Seriously, at every stage of our ongoing economic crisis — and in particular,
every time anyone has suggested actually trying to do something about mass
unemployment — a chorus of voices has warned that unless we bring down budget
deficits now now now, financial markets will turn on America, driving interest
rates sky-high. And ... very few of the prophets of fiscal doom have
acknowledged the failure of their prophecies to come true so far. ...
I and other economists argued from the beginning that ... budget deficits won’t
cause soaring interest rates as long as the economy is depressed —... the
biggest risk to the economy is that we might ... slash the deficit too soon. And
surely that point of view has been strongly validated by events.
The key thing ... to understand, however, is that the prophets of fiscal
disaster ... are at this point effectively members of a doomsday cult. They are
emotionally and professionally committed to the belief that fiscal crisis lurks
just around the corner, and they will hold to their belief no matter how many
corners we turn without encountering that crisis.
So we ... will not persuade these people to reconsider their views in the light
of the evidence. All we can do is stop paying attention. It’s going to be
difficult, because many members of the deficit cult seem highly respectable. But
they’ve been hugely, absurdly wrong for years on end, and it’s time to stop
taking them seriously.
Posted by Mark Thoma on Monday, December 24, 2012 at 12:24 AM in Budget Deficit, Economics |
Posted by Mark Thoma on Monday, December 24, 2012 at 12:06 AM in Economics, Links |
I get in trouble if I blog too much when family is around for the holidays,
so a quick one from David Warsh:
Paradigms, after Fifty Years, Economics Principals: For a book built on a
narrative of, among other things, the history of our understanding of
The Structure of Scientific Revolutions, by
Thomas Kuhn, has
had a remarkable run. It appeared in 1962, and people have been arguing
about it ever since. ... For
Structure is the book that made the word paradigm, meaning a way of
seeing, part of the everyday discourse of nearly everyone who deals with ideas
for a living. ...
Before Kuhn, the philosophy of science was boring and the history of science a
backwater... There was a lot of boilerplate
instruction about the steps of the
logic of scientific discovery (if you’re not wrong, you might be right) to
be found in the first chapters of textbooks, but, as Kuhn wrote at the beginning
of Structure, this was no better than an image of national culture drawn
from a tourist brochure.
After Kuhn, the focus shifted to the social organization of science: to the
textbooks themselves, graduate education, the communities (“invisible colleges”)
in which science was done, and the various nexuses in which results were put to
work, from scientific journals and legal briefs to corporate laboratories and
entrepreneurial start-ups. ...
How does a science get started? According to Kuhn, the story goes
something like this: in the beginning someone contributes a powerful example of
how to think about a set of scientific problems: Aristotle’s Physica,
Ptolemy’s Almagest, Newton’s Principia, Franklin’s Electricity,
Lavoisier’s Chemistry, Lyell’s Geology. The achievements appear,
not out of the blue, but they are transformative. A community forms around
them because they offer not a finished theory but rather a thinking cap, a
pre-analytic way of seeing things and asking questions about them.
This way-of-seeing aspect that each possessed Kuhn designated a paradigm. The
word itself is ancient Greek; he borrowed it from language studies, where it
described the all-but-unconscious pattern by which one learns to conjugate a
verb or decline a noun when learning to speak a language. A successful paradigm
is enabling. It both poses plenty of unanswered questions and suggests means by
which they might be conclusively answered. ...
This is the route to what Kuhn called “normal science.” By that he meant
successful science, rather like filling in the outlines of a hastily drawn map
once a new continent has been discovered. In this metaphor, normal scientists
come in all sorts of guises: trailblazers, pioneers, settlers, sodbusters,
ranchers, developers. Kuhn, unfortunately, chose two other metaphors to describe
the conduct of this phase, and those labels have sometimes caused proud
scientists to rebel at his description. Successful normal scientists were
“puzzle-solvers,” he said, working away at adducing facts, producing theories
and making sure the one dovetailed with the other. Or they were, in essence,
engaged in “mopping up” after a big paradigmatic invasion. ...
Kuhn was a great student of the Copernican revolution, which meant he thoroughly
understood the Ptolemaic system that it overthrew – crystalline spheres arrayed
around an earth at the center of the universe. Ptolemy, and the astronomers who
worked in his tradition for nearly fifteen hundred years, were excellent normal
scientists. They had built a system that cohered; when observation of the
heavens produced a troubling fact (anomalies, Kuhn dubbed such facts), they
added a sphere or two.
But the troubling facts multiplied. Eventually a scientific crisis was at
hand – anomalies with which existing normal science simply could not cope under
any circumstances. At that point, a “revolutionary,” usually a young
scientist, capable, but with little commitment to the old tradition – in
this case, Copernicus – would produce a new paradigm, radically reordering the
old facts, ignoring some and adducing new ones. The new paradigm would be
resisted for a time, science being an inherently conservative enterprise, but
gradually would gain adherents among the young. In time, the new order would be
widely accepted. ...
In Structure, Kuhn went on to make the point that scientific revolutions
didn’t have to be huge events with sweeping cultural ramification, such as the
Copernican, Newtonian or chemical revolutions. The professional groups affected
by them could be far smaller. ...
An especially fascinating aspect of the story has to do with the reception of Structure. A tendency to mildly disparage it has emerged. Hacking, in his
introduction, assures us that science has moved on. The Cold War is over;
physics is no longer “where the action is.” Today, he says, “biotechnology
rules.” Thus Structure, he writes, “may be – I do not say it
is –more relevant to a past epoch in the history of science than it is to the
sciences as they are practiced today.”
David Kaiser, a physicist who is a professor in the history of science at the
Massachusetts Institute of Technology (where Kuhn spent his last seventeen
years), put the case clearly on the eve of a fiftieth-anniversary symposium:
“Kuhn had an ambition with the book, which was common at the time: he really
thought there was a structure, a hidden key that makes science tick. I
think many of my colleagues today in the history and sociology of science would
find that ambition wrong-headed. There is not a single magical key that will
unlock the way science gets done.”
There is another possibility, of course – that, for one reason or another, it is
the historians and philosophers of science, taken as a group, that have got it
wrong. They are, after all, “normal” scientists. For as Daryn Leboux, of
Queens University, and Jay Foster, of Memorial University of Newfoundland, said
in their Science magazine review of the fiftieth anniversary edition,
Structure was a revolution of its own, and revolutions are complicated
things. They can spark backlash as well as assimilation. It is possible, even
likely, that The Structure of Scientific Revolutions is one of those
books, like The Origin of Species, that take more than a generation, even
two or three, to find its level – a real anomaly in the age of blink. I eagerly
look forward to the seventy-fifth anniversary edition.
Posted by Mark Thoma on Sunday, December 23, 2012 at 01:53 PM in Economics, Methodology, Science |
Tyler Cowen on the negotiations over the fiscal thingie:
In the Fiscal Debate, a Little Symbolism Can Go a Long Way, by Tyler Cowen,
Commentary, NY Times: ...We must decide whether to pursue a relatively loose
and stimulative policy, and to trust in our later discipline, or to slam on the
Yet there may be a way to square this circle. When it comes to income tax rates,
we could raise them for virtually everyone, to send a clear message that the
current fiscal situation is unsustainable. ...
To see how this could work, consider this script: Let’s say the Republicans
decide to largely give in to what the President Obama is proposing. There is,
however, a catch: the president has to agree to raise marginal tax rates on all
income classes, not just on the rich. The tax increase would be one-quarter of a
percentage point, or some other arbitrary small amount, with larger increases
possible for higher incomes, as has been discussed. The deal also stipulates
that both the president and Congress must publicly acknowledge that current
plans for government spending can’t be financed unless taxes on most or all
income groups climb further yet, and by some hefty amount.
Given the slow economy, it is undesirable to reverse all or even most of the
Bush tax cuts. A small but publicly trumpeted clawback of some of the cuts would
send the right message to voters, while minimizing the macroeconomic fallout.
The nice thing about symbols — single shots across the bow — is that they often
can suffice. ...
Of course, the notion of tolerating — and especially endorsing — any tax
increase is anathema to many of President Obama’s opponents. But keep in mind
that possible alternatives, like another debt-ceiling debacle or an agreement
that panders to our fiscal illusions, would probably be worse for both the
economy and the longer-term reputation of the Republican Party.
In our country, the typical approach to fiscal deadlines is to kick the can down
the road. But that assumes we are kicking a can, not a grenade. It’s time for at
least one party — and why not the electoral loser? — to do something just a
little shocking. It can give in on much of the negotiations, but insist that
both sides start stressing the fiscal truth.
Maybe I'm just having one of those days and can't see the obvious, a house full of family will do that, but I'm a
bit confused about the spending side of this proposal. Does Tyler mean that the
spending cuts Obama has proposed will remain, but the tax increase will be
moderated for now and replaced by a commitment to increase them further at some
future date? If so (and I may have this wrong), why is the only worry that
"Given the slow economy, it is undesirable to reverse all or even most of the
Bush tax cut"? Why isn't it undesirable to cut spending as well? When all is
said and done, spending cuts plus tax increases, how would the burden be distributed? Is the current situation -- the
baseline from where we start the changes -- fully optimal, or do we also need to correct distortions, inequities in the past distribution of income, etc.? If there are corrections that are needed, and I believe there are, then the share equally notion has much less force.
It's true that “we are all in this together” under Tyler's proposal, but
it is not at all clear that the shares are equitable. In any case, it probably
doesn't much matter since the chances of Republicans agreeing to vote for a tax
increase, no matter how small, is extremely low.
Posted by Mark Thoma on Sunday, December 23, 2012 at 10:18 AM in Budget Deficit, Economics, Politics, Taxes |
Posted by Mark Thoma on Sunday, December 23, 2012 at 12:06 AM in Economics, Links |
Via a Greg Anrig retweet of a tweet from Catherine Crier:
U.S. Letter of Resignation Sent By Bush to Rifle Association. NY Times (1995):
Following is the letter of resignation sent last week by former President George
Bush to the National Rifle Association: May 3, 1995
Dear Mr. Washington,
I was outraged when, even in the wake of the Oklahoma City tragedy, Mr. Wayne
LaPierre, executive vice president of N.R.A., defended his attack on federal
agents as "jack-booted thugs." To attack Secret Service agents or A.T.F. people
or any government law enforcement people as "wearing Nazi bucket helmets and
black storm trooper uniforms" wanting to "attack law abiding citizens" is a
vicious slander on good people. ...
Both John Magaw and Judge Freeh were in office when I was President. They both
now serve in the current administration. They both have badges. Neither of them
would ever give the government's "go ahead to harass, intimidate, even murder
law abiding citizens." (Your words)
I am a gun owner and an avid hunter. Over the years I have agreed with most of
N.R.A.'s objectives, particularly your educational and training efforts, and
your fundamental stance in favor of owning guns.
However, your broadside against Federal agents deeply offends my own sense of
decency and honor; and it offends my concept of service to country. It
indirectly slanders a wide array of government law enforcement officials, who
are out there, day and night, laying their lives on the line for all of us.
You have not repudiated Mr. LaPierre's unwarranted attack. Therefore, I resign
as a Life Member of N.R.A., said resignation to be effective upon your receipt
of this letter. Please remove my name from your membership list. Sincerely, [
signed ] George Bush
Posted by Mark Thoma on Saturday, December 22, 2012 at 05:59 PM in Politics |
Barney Frank argues that, when it comes to defense spending, we should "spend
less, and liberals should not flinch from that position." The essential
point, I think, is that "the major trade-off in putting together a total deficit
reduction package is between the military and health care," and, though he does
note this in a couple of places, I wish that point had been stressed more in the
article (the essay is much, much longer):
The New Mandate on Defense, by Barney Frank, Democracy: There were so many
encouraging signs for liberals in the election results this year that one of the
most significant has been overlooked. For the first time in my memory, a
Democratic candidate for President argued for less military spending against a
Republican candidate who called for great increases—and the Democrat won. ...
Because so much of that spending stems from overreach advocated by those who
believe that America should be the enforcer of order everywhere in the world—and
because we subsidize our wealthy European and Asian allies by providing a
defense for them...—there has been increasing conservative support for reining
in the military budget. Ron Paul, who goes far beyond most liberals in his
eagerness to impose severe military cuts, was a popular figure with a
significant base of GOP support not despite taking this position but in part
because of it.
Earlier this year, for the first time that I can recall, a majority of the House
of Representatives voted to reduce the military appropriation recommended by the
House Appropriations Committee. The cut was only $1.1 billion—less than it
should have been—but it ... passed... with the support of ... a significant
minority of Republicans...
A realistic reassessment of our true national security needs would mean a
military budget significantly lower... That is, by next year, we no longer
should be forced to spend additional funds—close to $200 billion a year at their
peak—in Afghanistan and Iraq. Additionally, we can reduce the base budget by
approximately $1 trillion over a ten-year period ... while maintaining more than
enough military strength...
Even with the revenue increase we can achieve by raising taxes on the wealthy,
serious deficit reduction must come in part from reducing military spending
beyond what the President proposes, unless we make very deep cuts in the
nonmilitary parts of the budget. ... Given the numbers involved, the major trade-off in putting together a total
deficit reduction package is between the military and health care...
To be clear, this is not an argument against America continuing to be the
strongest nation in the world. ... That said, being the strongest nation in the
world can be achieved much less expensively than at current levels. Obama ...
underestimates the extent to which the public is willing to support even further
reductions, and I believe that he may appear to be overly influenced by being
told that as President, he has the duty to continue to lead the indispensable
The United States was indispensable in 1945 and for many years thereafter... But
things have changed. We can no longer afford ... extending a military umbrella
over many allies on whom it is not raining—and who can well afford their own
protective gear if it does. ...
This all means that a major political task going forward for liberals is pushing
for further reductions in military spending, an objective that we now know is
not only socially and economically necessary but also politically achievable.
Important social services versus tax cuts for the rich and military spending.
Those with unmet needs and little social/economic power versus the wealthy and the
military. I suppose in some sense, given who's in this battle, it's remarkable
there's been any headway at all. But there needs to be more progress on
protecting the vulnerable.
Posted by Mark Thoma on Saturday, December 22, 2012 at 10:57 AM in Budget Deficit, Economics, Iraq and Afghanistan, Politics, Social Insurance, Taxes |
Posted by Mark Thoma on Saturday, December 22, 2012 at 12:06 AM in Economics, Links |
This paper, which I obviously think is worth noting, is forthcoming in AEJ
Pitfall with DSGE-Based, Estimated, Government Spending Multipliers, by Patrick
Fève, Julien Matheron, Jean-Guillaume Sahuc, December 5, 2012:
1 Introduction Standard practice in estimation of dynamic stochastic
general equilibrium (DSGE) models, e.g. the well-known work by Smets and Wouters
(2007), is to assume that government consumption expenditures are described by
an exogenous stochastic process and are separable in the households’ period
utility function. This standard practice has been adopted in the most recent
analyses of fiscal policy (e.g. Christiano, Eichenbaum and Rebelo, 2011, Coenen
et al., 2012, Cogan et al., 2010, Drautzburg and Uhlig, 2011, Eggertsson, 2011,
Erceg and Lindé, 2010, Fernández-Villaverde, 2010, Uhlig, 2010).
In this paper, we argue that both short-run and long-run government spending
multipliers (GSM) obtained in this literature may be downward biased. This is so
because the standard approach does not typically allow for the possibility that
private consumption and government spending are Edgeworth complements in the
utility function and that government spending has an endogenous
countercyclical component (automatic stabilizer)... Since, as we show, the GSM increases with the degree of Edgeworth
complementarity,... the standard empirical
approach may ... result in a downward-biased estimate of the GSM.
In our benchmark empirical specification with Edgeworth complementarity and a
countercyclical component of policy, the estimated long-run multiplier amounts
to 1.31. Using the same model..., when both Edgeworth complementarity and the
countercyclical component of policy are omitted,... the estimated multiplier is
approximately equal to 0.5. Such a difference is clearly not neutral if the
model is used to assess recovery plans of the same size as those recently
enacted in the US. To illustrate this more concretely, we feed the American
Recovery and Reinvestment Act (ARRA) fiscal stimulus package into our model. We
obtain that omitting the endogenous policy rule at the estimation stage would
lead an analyst to underestimate the short-run GSM by slightly more than 0.25
points. Clearly, these are not negligible figures. ...
1 We say that private consumption and government spending are Edgeworth
complements/substitutes when an increase in government spending
raises/diminishes the marginal utility of private consumption. Such a
specification has now become standard, following the seminal work by Aschauer
(1985), Bailey (1971), Barro (1981), Braun (1994), Christiano and Eichenbaum
(1992), Finn (1998), McGrattan (1994).
Let me also add these qualifications from the conclusion:
In our framework, we have deliberately abstracted from relevant details... However, the recent literature insists on
other modeling issues that might potentially affect our results. We mention two of them. First, as
put forth by Leeper, Plante and Traum (2010), a more general specification of government spending
rule, lump-sum transfers, and distortionary taxation is needed to properly fit US data. This richer specification
includes in addition to the automatic stabilizer component, a response to government debt
and co-movement between tax rates. An important quantitative issue may be to assess which type of stabilization (automatic stabilization and/or debt stabilization) interacts with the estimated degree of
Edgeworth complementarity. Second, Fiorito and Kollintzas (2004) have suggested that the degree of
complementarity/substitutability between government and private consumptions is not homogeneous
over types of public expenditures. This suggests to disaggregate government spending and inspect how
feedback rules affect the estimated degree of Edgeworth complementarity in this more general setup.
These issues will constitute the object of future researches.
Posted by Mark Thoma on Friday, December 21, 2012 at 01:47 PM in Academic Papers, Economics, Fiscal Policy |
Posted by Mark Thoma on Friday, December 21, 2012 at 12:07 PM
I think Justin Wolfer's claim that there are now three parties, the
Democrats, the Republicans, and the Tea Party, at odds in the House is correct.
That appears to be working in the president's favor, at least for the moment:
Playing Taxes Hold ’Em, by Paul Krugman, Commentary, NY Times: A few years
back, there was a boom in poker television — shows in which you got to watch the
betting and bluffing of expert card players. Since then, however, viewers seem
to have lost interest. But I have a suggestion: Instead of featuring poker
experts, why not have a show featuring poker incompetents — people who fold when
they have a strong hand or don’t know how to quit while they’re ahead?
On second thought, that show already exists. It’s called budget negotiations,
and it’s now in its second episode.
The first episode ran in 2011, as President Obama made his first attempt to cut
a long-run fiscal deal — a so-called Grand Bargain... Mr. Obama was holding a
fairly weak hand... The deal, if implemented, would have been a huge victory for
Republicans... But ... Mr. Boehner and members of his party couldn’t bring
themselves to accept even a modest rise in taxes. And their intransigence saved
Mr. Obama from himself.
Now the game is on again — but with Mr. Obama holding a far stronger hand. ...
Yet earlier this week progressives suddenly had the sinking feeling that it was
2011 all over again, as the Obama administration made a budget offer that ..
involved giving way on issues where it had promised to hold the line... Are we
about to see another round of the president negotiating with himself, snatching
policy and political defeat from the jaws of victory?
Well, probably not. Once again, the Republican crazies ... have saved the day.
... Mr. Boehner had evident problems getting his caucus to support Plan B, and
he took the plan off the table Thursday night; it would have modestly raised
taxes on the really wealthy, the top 0.1 percent, and even that was too much for
many Republicans. ...
As in 2011, then, the Republican crazies are doing Mr. Obama a favor, heading
off any temptation he may have felt to give away the store in pursuit of
And there’s a broader lesson... This is no time for a Grand Bargain, because the
Republican Party, as now constituted, is just not an entity with which the
president can make a serious deal. If we’re going to get a grip on our nation’s
problems ... the power of the G.O.P.’s extremists, and their willingness to hold
the economy hostage if they don’t get their way, needs to be broken. And somehow
I don’t think that’s going to happen in the next few days.
Posted by Mark Thoma on Friday, December 21, 2012 at 12:42 AM in Budget Deficit, Economics, Policy |
Guns, by Stephen
Williamson: Like most of you, I've been thinking about guns for the last few
days. As economists, what do we have to say about gun control? ...
What's the problem here? ... The people who buy the guns and use them seem to
enjoy having them. But there are third parties who suffer. ...
There are also information problems. It may be difficult to determine who is a
hunter, who is temporarily not in their right mind, and who wants to put a
loaded weapon in the bedside table.
What do economists know? We know something about information problems, and we
know something about mitigating externalities. Let's think first about the
information problems. Here, we know that we can make some headway by regulating
the market so that it becomes segmented, with these different types of people
self-selecting. This one is pretty obvious, and is a standard part of the
conversation. Guns for hunting do not need to be automatic or semi-automatic,
they do not need to have large magazines, and they do not have to be small. If
hunting weapons do not have these properties, who would want to buy them for
On the externality problem, we can be more inventive. A standard tool for
dealing with externalities is the Pigouvian tax..., the Pigouvian tax we would
need to correct the externality should be a large one, and it could generate a
lot of revenue. If there are 300 million guns in the United States, and we
impose a tax of $3600 per gun on the current stock, we would eliminate the
federal government deficit. But $3600 is coming nowhere close to the potential
damage that a single weapon could cause. A potential solution would be to have a
gun-purchaser post collateral - several million dollars in assets - that could
be confiscated in the event that the gun resulted in injury or loss of life.
This has the added benefit of mitigating the moral hazard problem - the
collateral is lost whether the damage is "accidental" or caused by, for example,
someone who steals the gun.
Of course, once we start thinking about the size of the tax (or collateral)
needed to correct the inefficiency that exists here, we'll probably come to the
conclusion that it is more efficient just to ban particular weapons and
ammunition at the point of manufacture. I think our legislators should take that
as far as it goes.
Posted by Mark Thoma on Friday, December 21, 2012 at 12:33 AM in Economics, Market Failure, Regulation |
The introduction to this NBER Digest research summary says it well, "[There
is no] compelling evidence that there have been changes in the structure of the
labor market that are capable of explaining the [recent] pattern of persistently
high unemployment rates." I've noted this research before, but it's worth
emphasizing again, particularly since one of the authors, Ed Lazear, was the
Chairman of the President’s Council of Economic Advisers during the Bush
The U.S. Labor Market:
Status Quo or a New Normal?, by Laurent Belsie, NBER Digest: The recession
of 2007 to 2009 caused such high and persistent unemployment that it led many to
conclude that the labor market had undergone structural changes, making it
difficult or impossible to return to pre-recession employment levels. But in The
United States Labor Market: Status Quo or A New Normal? (NBER Working Paper No.
18386), Edward Lazear and James
Spletzer suggest that cyclical, not structural forces, are behind the surge in
unemployment from 4.4 percent in the spring of 2007 to 10 percent in the fall of
2009, and the slow decline since then.
"[T]he current recession does not appear fundamentally different from prior
ones, except that it is worse," they conclude. They fail to find "any compelling
evidence that there have been changes in the structure of the labor market that
are capable of explaining the pattern of persistently high unemployment rates."
Instead, they note that "the evidence points to primarily cyclic factors."
The authors note that there are a number of ongoing, long-term industrial and
demographic shifts in the labor market, but that none of these factors can
explain the recent rise in unemployment. For example, the relative decline in
U.S. manufacturing jobs has been under way for a half century, and the rise in
female employment dates back to the second half of the twentieth century. The
U.S. labor force is also aging, but again this is a long-term trend.
The authors' evidence suggests that long-term trends played a limited role in
the recent recession and other past recessions. For example, in each of the
business cycles between December 1979 and March 2012, the rise or fall in
unemployment can be explained by changes in gender-specific unemployment rates,
not by shifts in the gender composition of the workforce. Similarly, the aging
of the workforce does not correlate very strongly with shifts in the
unemployment rate during business cycle sub-periods. Since November 1982 the
changing age composition of the workforce has lowered the unemployment rate by
eight-tenths of a percentage point. This trend is reinforced by changes such as
the rising education of the workforce and the shift toward service jobs, which
have worked to lower unemployment over the last four decades.
The authors suggest that the rapid rise in unemployment during the 2007-9
recession can be explained almost entirely by the rise in unemployment within
industries. Some industries such as construction, manufacturing, and retail
trade saw unemployment soar. But these were the same industries that saw large
decreases in unemployment during the recovery. The construction sector, for
example, accounted for 19.4 percent of the increase in the national unemployment
rate during the recession; this sector also accounted for 21.5 percent of the
decline in the unemployment rate during the recovery.
The same phenomenon has occurred with mismatch -- the difference between
vacancies and the number of unemployed in an industry, occupation, or location.
Industrial mismatch rose during the 2007-9 recession, and then declined just as
quickly. Occupational mismatch -- always higher than industrial mismatch and
less sensitive to the business cycle -- rose during the recent recession but has
since fallen below its pre-recession level. "There is no evidence that the
recession resulted in a long-lasting skills gap that would require retraining
experienced workers to work in different industries," the authors conclude.
"Turning unemployed manufacturing and construction workers into nurses and
teachers would not provide those workers with immediate jobs; there is already a
surplus of unemployed even in the low unemployment industries."
There are at least two areas where this recession appears different than
previous ones. First, the long-term unemployed make up a larger share of total
unemployment than in past downturns, even those with comparably high
unemployment rates. Second, there are more vacancies per unemployed person than
even a couple of years ago. This shift of the Beveridge curve -- which measures
the relationship between job openings and the unemployment rate -- may suggest
that some permanent structural change is under way and is keeping the unemployed
from filling the jobs that are available. The authors conclude that the reason
for such a shift, if it has indeed occurred, won't be known until unemployment
returns to normal levels.
On the Beveridge curve, see
Posted by Mark Thoma on Friday, December 21, 2012 at 12:24 AM in Economics, Policy, Unemployment |
Posted by Mark Thoma on Friday, December 21, 2012 at 12:06 AM in Economics, Links |
Here's the second part of the interview with Jamie Galbraith conducted by
Roger Strassburg for
Interview of James Galbraith (Part 2): RS: In the U.S., ever since the firing of the air traffic control
folks, unions have really gone down in the U.S. Do you see any possibility
that that could ever change?
JG: Well, a couple of things about that. I think that the role of
the firing of the Professional Air Traffic Controllers is exaggerated in this
story. PATCO was one of two unions that actually endorsed Reagan in the
1980 election, the other one being the Teamsters. PATCO then turned around
and challenged him in a way that was very ill-advised, and suffered, of course,
But that wasn't the reason why the rest of the labor union went into decline
at that time. And the fact that Reagan appointed anti-labor people to the
National Labor Relations Board also wasn't decisive. What was decisive was
the recession, the huge hit to industrial jobs in the Midwest in '81, '82.
You had a massive collapse of heavy industry in the U.S., bankruptcies all over
the spectrum. I can remember the names of a lot of firms that aren't with
us anymore as a result of that period. And that's when the American
equivalent of IG-Metall suffered its severe reverses. Since that time,
there is at least one part of the union sector which has grown quite rapidly and
that's the Service Employees International Union, the public employees union.
You can see the politics of this in the West, where in 2010, if it had not been
for the unions in the West, the debacle in the midterm elections would have been
complete, and the Democrats would have lost the Senate as well as the House.
They were the firewall, and that's what brought Jerry Brown back to the
governership in California. And the consequence of that is Proposition 30
this year, which basically ends the era of no tax increases in California.
RS: That kills Prop 13.
JG: Prop 13. And you have a Democratic super-majority in the
legislature, and California is a place of enormous political significance.
So I'm not prepared to say the tide is turned, but the tide that was running
against unions in the United States at least ran up against that strong
position, which held. What's happening now is – I could end up next week
disillusioned – one of the most quietly hopeful moments I have experienced in
American politics in a long time.
Three things of significance.
First of all, the banks went for Romney after having been exceptionally
generously treated by the President, by the Treasury Department. They
turned around, and the bastards went for Romney. It showed what kind of
character they actually have. It's not true of every single banker, but it
was the sector as a whole.
And guess what? They lost. They lost, and if the President has
any moxie, and I think he does, I don't think he will forget that. So
that's point number one. And certainly any normal human being, and I think
the President is a normal human being, will hold that card in reserve.
Point number two is that the Senate was supposed to go Republican...
RS: I would have surprised if that had happened, but yeah...
JG: But anyway, the Democrats were supposed to lose ground, and they
didn't, they gained ground. They gained ground, and the situation is such
that – yes, they have exposure in two years – but their position at the moment
is one where you have a sense of the high tide of the Republican party's past.
Why? Because as it becomes more and more extreme it becomes more and
more regional, and as it becomes more and more regional it becomes more and more
extreme. It's hard to reverse that dynamic, and they don't have a good way
of doing it.
Number three: To get reelected as President of the United States, your
place in history is basically secure, unless you, well, misbehave with an intern
or get caught with burglars in the White House. Those kinds of things can
unseat you. Or arms for hostages, etc. etc.: Iran-Contra.
Presidents can discredit themselves in their second term, but none of those
are likely to happen to Barack Obama. So we're looking at a president
who's got four years – and certainly two – where everybody understands he's got
a lot of authority, much more authority than your standard lame duck.
And he has actually used that authority already with sending Tim Geithner to
the Republicans with his bid on the fiscal cliff. What was the
significance of that? The significance of sending Geithner was saying,
“look, this is the deal we're offering, and there isn't a back-channel that's
going to give you a better one”. If he'd sent Jack Lew, if he'd sent Gene
Sperling, people on the other end would say, “you're not the real emissary, I've
got to see what Tim Geithner has to say”. Well, he sent Tim Geithner.
He didn't give them another channel. I think this was a significant fact.
So the Republicans as far as I can tell are reacting with shock and bluster,
indicating they understand they've seen they don't command the same fear that
they did before.
You have two possibilities: One is that this is not that serious, that
it's all posturing and the the President will fold and I will say, “fooled me
once, fooled me twice”. It's possible. And the other possibility is
that we'll go past January 1st, and the President will come back with his
strengthened hand in the Senate, and it will be the Republicans who will have to
basically decide if they want to take the blame for the tax increases and the
spending cuts and everything else that's going to happen. And, you know, I
can't look into the Republican mind, certainly people I talk to say, “they've
caved, actually when you look at it, Republicans have caved every time and
they'll cave again”.
RS: When have they actually caved in the past?
JG: Oh, on quite a few things. At the end the bluster didn't hold
up the debt ceiling, for example. They got it through.
So there's a test of wills going on at the moment, and there's at least the
possibility that the President was right in saying that during his first term
his way to political success was basically “rope-a-dope” strategy, was to take
everything that was coming at him and to continue to offer conciliation and
compromise. And if that's the case, of course, which I hope, it was a
purely tactical, successful tactical decision, then the situation now is very
different. No longer does it prevail.
And the other possibility is that the President was actually doing what he
wanted to do in the first term, and he'll figure out a way to do it again in the
second term. And that would be, of course, a great shame.
But still, three reasons why things might still be a little better in the
RS: But Obama is not really that liberal.
JG: No, but it doesn't matter. The underlying preferences of the
President are really a secondary consideration. I mean, a very nice
example is Lyndon Johnson. Johnson had a lifelong visceral commitment to
civil rights and to the New Deal. But during his entire political rise, he
voted against civil rights bills. He didn't bring one to the floor when he
was majority leader.
He wasn't going to commit political suicide. He had right-wing
supporters in Texas who thought he was a good old white boy just like them.
And they were astonished. He was Richard Russell's “golden boy”.
Russell made Johnson, and when Johnson had the power he turned around and he
told Russell, “I'm going to defeat you on this”, and he did. He didn't ask
for Russell's support, he just said, “I'm going to defeat you”, and he did.
So, the politics of the matter govern.
And what happened in this case, I mean, I'm not saying this is a universal
rule, but what happened in the case, was that you had the financial sector on
one side saying, “you've got to cut Social Security and Medicare and Medicaid”.
And guess what?
Well, so far, the President has said Social Security is not on the table.
Senator Reid has said Social Security is not on the table, we're not going to do
that. And on Medicare – Medicaid so far as I know hasn't been discussed
much, either, but there may be something – what the President has said, is, well
we'll get you some savings, here's the number, 400 billion, and my proposal is
that it's too complicated, we'll work it out next year. Right? And
when the President was asked, are you prepared to cut beneficiaries, he said,
“oh, no. We're going to, you know, cut the cost of some procedures, cut
the cost of some pharmaceuticals and so on”. And there are lots of things
you can do.
There's no question you have to work on the cost of health procedures, but so
long as you're not cutting the services that people actually get, Medicare is
there. And if that's the Democratic position, then Social Security and
Medicare and Medicaid will continue to serve their function no matter what.
And the Republican position is increase the eligibility age for Medicare, which
is privatization, or change the cost of living formula for Social Security,
which is a cut. I can fight that battle til the cows come home, and I'm
not worried for a minute which way the public's going to come down. I
would love to have that on every billboard in the country in two years.
RS: To do that it would require legislation, that's where the Democrats
are in a little bit better position there.
JG: If the Democrats cave and give the Republicans what they want, then
the battle's lost. If the Democrats say, we are not going to cave on these
issues, you're right – the Republicans can't do this by fiat, they have to have
legislation. And they can't get legislation past Harry Reid. If they
can't get it past Harry Reid, they're not going to get it.
RS: You've said not to worry about the fiscal cliff.
JG: Of course the cliff is an artificial deadline. It was
The point there is that while if everything were stretched out for a year and
the taxes went up and spending went down by three or four percent of GDP, that
would probably have an effect. It would be hard to maintain private
spending in the face of a higher withholding and so on. But six weeks
wouldn't matter. First of all, withholding rates wouldn't even be
adjusted, so people's incomes would be the same. And they're not going to
change their spending habits because they know that Congress is going to come in
and fix it. Even if they're uncertain about it, they're not going to
preemptively adjust their spending very much. And anyway, this is January.
This is not the time when people are engaged in discretionary Christmas
So it's not as though you have to make a decision by January 1st – you don't.
The second piece of that particular bit of blackmail was that it was thought
that this would be the last hurrah of a Democratic Senate, and maybe the last
hurrah of President Obama, and that these guys with their backs to the wall
would cut a deal that would be bad, but better than would happen in the next
Well, didn't happen, so the whole incentive to be panicked because of what
the next Congress might do has gone. It's just gone.
RS: The next Congress could go the other way.
JG: The next Congress will certainly be better. than this one.
The House is still Republican, but I actually think that Speaker Boehner's
position is a little stronger because of the thrashing administered to the Tea
Party. But how stable it is is anybody's guess at this point.
RS: Speaking of the Tea Party, how do you think they're going to end
up? Are they quietly going to go away, or they going to continue?
JG: I think it's finished. Of course the people are there, but of
course one of the key movers, Dick Armey, just quit Freedom Works. We
don't know what that's about, but it suggests organizational disarray.
RS: Yeah, it's like a personality problem.
JG: Whatever the reason, sinking ship and certain small rodents jump to
But in any event, the thing about the Tea Party was that it was ginned up to
be a backlash to Obama and to provide a kind of quasi populist cover media
talking point for the 2010 election. By 2012, first of all, it had been
disciplined internally. The Tea Party types all voted for the debt
ceiling, most of them voted for the debt ceiling increase because they were told
they had to. So it was clear that they weren't really an independent
force. They were on a leash, and when the leash chain was jerked, they had
And secondly, their existence, the people they had dredged up from
God-knows-where to run for Senate
In Missouri and in Indiana, these were remarkable specimens, I mean really
scraping off of the murky end of the pool.
RS: Michele Bachmann made it back into the House, I'm beginning to
worry about Minnesota here...
JG: Well, I don't want to speak anything unnecessarily favorable about
her, but in comparison to a guy like Akin, she's at least a tested political
RS: Yeah, that's very faint praise.
JG: Hey, were you expecting more than that?
With Akin these guys had offered up a poster child for discouraging sane
voters from empowering these people.
RS: Well, it's actually a good sign, because, I mean, Republicans get a
lot of votes. It's not like people in general have figured out that these
guys are nuts.
JG: Right, but you know, most people vote on the basis of long-standing
party loyalty. Most of the time, there's a margin in there. I don't
think the independents are a very large force...
RS: …a lot of people say they are...
JG: Yeah, but what you observe is that the electoral divides are really
close one year after the next, and they didn't change all that much. So
what's happened in '08 was the needle shifted just enough so that Indiana and
North Carolina went for Obama. And in 2012 it shifted just enough back so
that those two states stayed with Romney.
RS: That's not terribly surprising, though.
JG: Every other state that Obama won in 2008 he won in 2012.
Decisive electoral college. And then you ask, are there any states where
the Republicans are moving toward a majority? I think the one place that I
would say is a possibility is Iowa.
RS: I worry about Minnesota. It's not as strongly Democratic as
it was when I was there.
JG: Yep, that's certainly true, but Minnesota was not in play this
year. Pennsylvania was not in play...
RS: No, but some people tried to make it seem like it.
JG: Yeah, there was a little bluffing and so on. But I would say
that the you need to ask, are there any states headed in the other direction?
RS: That was a surprise, although I guess that the fact that there's a
lot of business down there, a lot of people have moved in from out of state.
JG: Correct, and the next one is going to be Arizona.
RS: That I'll believe when I see it.
JG: Well, there are two things happening in Arizona, and they are a
very rapid rise in the Hispanic population, and secondly, influx from
California. Arizona was in some polls barely Democratic, barely Republican
Romney won it. One of the things that held up Arizona in the Republican
column, in a way, was, of course, McCain. Anyway, there you are, you've
got a country where, you know, how many national elections' popular votes have
the Republicans won? The answer is, one since 1988, and that was 2004.
And in 2004 they scraped through in the electoral college on one state, which
was also true in 2000. So it's a party which is actually in many ways
barely competitive at the national level.
If the Democrats are smart and continue to nominate strong, appealing,
candidates – I'm not saying liberals, I'm not saying conservatives, but people
who capture the essence of the Democratic message and manage to convey it.
RS: That's pretty much in the center at this point, isn't it?
JG: Whatever it is.
The Obama quality here is – which I think Romney also had, by the way – is
that I'm not ashamed to have the guy as President. There's not something
deeply embarrassing about him, you know, crime, sex, senility, whatever things
repel you, none of those traits. This is a guy who gets up in the morning
and does his job, and everybody can see that. So the Democrats continue to
nominate people who are good at what they do. I have the feeling that
things are moving their way.
RS: Well, this is the first time in a long time that we've had no
scandals whatsoever from the White House...
JG: Just a second on that. I'm not conscious of there having
been, I may be misremembering, a White House scandal in the George W. Bush
administration. Nothing particularly on the personal side.
RS: Not at all there. It was more about financial dealings, I
mean, Bush's involvement with Enron...
JG: Yeah, back history, Bush's back financial history certainly had
some issues. But I was thinking that the major White House scandal of that
period was probably the Valery Plame matter, and so you really have a problem of
Cheney and Scooter Libby and whatever involvement Karl Rove had. But
personal scandals were not Bush's problem.
RS: But who do you think really is a potential star of the Democratic
JG: I think the interesting question is what will be the public
reaction to Hillary Clinton in four years?
RS: Is she going to run?
JG: I would assume. And I think that when you're dealing with
someone who's been on the scene for as long as she has, it's risky, I don't
think it's a sure thing.
RS: I don't think she polarizes as much when she ran as I expected she
JG: Good reputation as Secretary of State. Unquestionably this is
a significant figure, but I think that there will be a tough challenge from
somebody. Who it would be, I don't know yet.
RS: I don't see anybody yet.
JG: There's Andrew Cuomo, you know, there are people out there.
Unfortunately, it in general would be better if it's not a dynastic figure.
RS: Who do you think the Republicans are likely to dig up?
They've got a lot of nut cases that didn't get through this time.
JG: They have a lot of people that didn't run last time. They
have quite an amazingly open field, and unfortunately, well, fortunately, what
happens there is that somebody who is not well known makes a big impression and
turns out to be non-viable. That was the Sarah Palin problem, and, well,
just go through the whole list of the front-runner du jour, the Rick Perry
problem. I think the Republicans have been in a state of complete
RS: Do you think that there's any chance whatsoever of getting stimulus
in this term?
JG: Of Obama getting it? Well, it was in the ask for the fiscal
cliff, along with an extension of the payroll holiday, which surprised me, plus
I guess the short answer is, not very likely, because the President committed
himself to very strict spending limits. What do I think might happen here?
The first thing that has to happen is an ongoing reassessment of what the
underlying economic conditions actually are. And people need to be
disabused even further of the notion that we're on the cusp of some kind of
recovery, that this is being taken care of by itself. To me that's the
project of the next coupled of years. I don't expect much to develop, I
don't expect there to be a great disaster, although if the fiscal cliff
stalemate occurs you could have...
RS: It's a little bit like what Gingrich did in '94, isn't it?
JG: Yeah, but that was just a few-day wonder, when the effect of
closing federal offices was so dramatic that Republicans gave up on that.
Anyway, I anticipate hammering over the next couple of years the need to change
ideas. I don't think that in the bad situation in which there is a
stalemate and the economy reacts badly to it, I don't think that's necessarily
bad for the President politically. It's very clear who's responsible, and
then you look at the last two years of his term. It's not obvious that the
next midterm election is going to go against him.
RS: Not at all.
JG: You have the 1998 precedent where the voters just get fed up, and
just give the President a couple of productive final years, and then we'll see.
So, I've been saying things for a number of days that I feel may be too
optimistic. I have a certain optimistic streak in me at the moment that
I'm having a hard time repressing because it's so rare.
RS: Don't bother repressing it. If you're too optimistic, that'll
happen all by itself.
I'm rather pessimistic at the moment, actually. But that has a lot to
do with what I'm seeing in Europe. I don't see any change there.
JG: I don't see anything, either. And I think the European
situation remains locked into a dynamic of divergence.
Posted by Mark Thoma on Thursday, December 20, 2012 at 07:50 PM in Economics |
Update to the post earlier today about Obama being "Saved
by 'Republican Back-Benchers'
Boehner Sabotaged by Lunatic Wing of Republican Party, by Kevin Drum: Even
after larding up his Plan B bill with lots of goodies, John Boehner apparently
couldn't get his Republican caucus to support it. So he's now pulled the bill
and adjourned the House, promising only to return after Christmas "when needed."
This is truly an epic fail. Boehner couldn't even get a piece of obvious
political theater passed. He's completely unable to control the lunatic wing of
his own party. It's hard to say what's next.
What's next, it seems, is the blame game over which party caused us to go over the fiscal cliff, but I think it's pretty clear who should be held responsible.
Posted by Mark Thoma on Thursday, December 20, 2012 at 05:42 PM in Economics, Politics |
I guess Jeff Sachs hasn't gone completely off the rails:
How the Right Is Wrong About Happiness, by Jeff Sachs, Commentary, Huffington
Post: Today's op-ed page of the
Wall Street Journal sheds more light on how conservative elites thoroughly
misunderstand and misrepresent the role of government in a decent society.
Arthur C. Brooks, president of the American Enterprise Institute, a conservative
think tank, makes an empirical claim that government social spending lowers
happiness of the recipients by making them "dependent on unearned resources."
The claim is false because the countries that have the highest spending on
social programs are far and away the happiest. ... They end up with economic
prosperity that is broadly shared, very low poverty, low unemployment, social
fairness, lower health care costs than in the United States, longer vacation
times, guaranteed maternity and paternity leave, better pre-school and many more
benefits that make people happy, and help them to raise happier and healthier
Brooks reports that going on the welfare rolls is correlated with feeling
"inconsolably sad over the past month." Well, duh. Perhaps, Mr. Brooks, their
life has taken a hard turn. If the sadness were merely the result of inscribing
in a welfare program, they wouldn't do it. ...
Second, Brooks terms social programs as unearned income. That's a pretty
grotesque generalization... Social security recipients have ... been making
payroll contributions; the same with Medicare recipients. Unemployed workers
collecting UI ... have been making contributions into the unemployment insurance
system... To deem these programs to be "unearned income" is nasty, false, and
If we were to do a serious look at whose income is unearned, we would surely
start at the top, not at the bottom. CEO salaries, Wall Street bonuses,
lobbyists perks... On this I'm with Brooks. Let's take this unearned income away
from the super-rich through proper taxation and regulation, and to follow
Brooks' logic, help make the rich happier as we close the budget deficit as
Posted by Mark Thoma on Thursday, December 20, 2012 at 02:22 PM in Economics, Politics, Social Insurance |
Republican extremists once again save Obama from himself:
The Eighteenth Brumaire of Barack Obama, by Paul Krugman: These days,
political events occur, as it were, twice — the first time as near-tragedy, the
second time as farce. [For those puzzled, the reference is
In 2011, President Obama very nearly did immense damage to both the social
safety net and the future of his party by offering a disastrous budget deal — a
deal that would have raised the Medicare age, cut deeply into other programs,
all in return for not much revenue and no rise at all in tax rates. Fortunately,
he was saved from himself by what Gail Collins calls the
rabid ferrets — the Republican back-benchers who wouldn’t accept any rise in
taxes on the rich whatsoever, and effectively scuttled the deal.
This time around, Obama holds a much stronger position, yet for a couple of days
there he seemed once again to be negotiating with himself. The offer he made
earlier this week wasn’t nearly as bad as in 2011, and some reasonable
progressives believe that the benefits — extended unemployment benefits,
infrastructure, and extension of some other tax breaks that benefit the poor and
middle class — are worth giving up a full return to pre-Bush taxes on the
wealthy and the cuts in Social Security that would result from changing the
price index. But it was an offer, not a deal — and there was good reason to fear
that Obama, having arguably already given away too much, was getting ready to
give away substantially more.
Rabid ferrets to the rescue! ...
Some alleged experts still think we’ll have a deal before we go over the cliff.
Maybe they know their business, but I don’t see it. And the capitulation we all
feared seems a lot less likely than it did two days ago. Thanks, ferrets!
After all the effort to protect social insurance programs during the Bush administration, it's disappointing to see Obama trying so hard to give it away. I thought the programs would be safe once they were in the hands of Democrats, but that hasn't worked out as well as I thought it would.
Posted by Mark Thoma on Thursday, December 20, 2012 at 11:06 AM in Budget Deficit, Economics, Politics |
More on the macro wars. This is from
Markets: Asset Price Swings, Risk, and the Role of the State, by Roman
Frydman & Michael D. Goldberg
... To be sure, the upswing in house prices in many markets around the country
in the 2000s did reach levels that history and the subsequent long downswings
tell us were excessive. But, as we show in Part II, such excessive fluctuations
should not be interpreted to mean that asset-price swings are unrelated to
fundamental factors. In fact, even if an individual is interested only in
short-term returns—a feature of much trading in many markets—the use of data on
fundamental factors to forecast these returns is extremely valuable. And the
evidence that news concerning a wide array of fundamentals plays a key role in
driving asset-price swings is overwhelming.
Missing the Point in the Economists’ Debate
Economists concluded that fundamentals do not matter for asset-price movements
because they could not find one overarching relationship that could account for
long swings in asset prices. The constraint that economists should consider only
fully predetermined accounts of outcomes has led many to presume that some or
all participants are irrational, in the sense that they ignore fundamentals
altogether. Their decisions are thought to be driven purely by psychological
The belief in the scientific stature of fully predetermined models, and in the
adequacy of the Rational Expectations Hypothesis to portray how rational
individuals think about the future, extends well beyond asset markets. Some
economists go as far as to argue that the logical consistency that obtains when
this hypothesis is imposed in fully predetermined models is a precondition of
the ability of economic analysis to portray rationality and truth.
For example, in a well-known article published in The New York Times Magazine
in September 2009, Paul Krugman (2009, p. 36) argued that Chicago-school
free-market theorists “mistook beauty . . . for truth.” One of the leading
Chicago economists, John Cochrane (2009, p. 4), responded that “logical
consistency and plausible foundations are indeed ‘beautiful’ but to me they are
also basic preconditions for ‘truth.’” Of course, what Cochrane meant by
plausible foundations were fully predetermined Rational Expectations models.
But, given the fundamental flaws of fully predetermined models, focusing on
their logical consistency or inconsistency, let alone that of the Rational
Expectations Hypothesis itself, can hardly be considered relevant to a
discussion of the basic preconditions for truth in economic analysis, whatever
“truth” might mean.
There is an irony in the debate between Krugman and Cochrane. Although the New
Keynesian and behavioral models, which Krugman favors, differ in terms of
their specific assumptions, they are every bit as mechanical as those of the
Chicago orthodoxy. Moreover, these approaches presume that the Rational
Expectations Hypothesis provides the standard by which to define rationality and
Behavioral economics provides a case in point. After uncovering massive evidence
that the contemporary economics’ standard of rationality fails to capture
adequately how individuals actually make decisions, the only sensible conclusion
to draw was that this standard was utterly wrong. Instead, behavioral
economists, applying a variant of Brecht’s dictum, concluded that individuals
To justify that conclusion, behavioral economists and nonacademic commentators
argued that the standard of rationality based on the Rational Expectations
Hypothesis works—but only for truly intelligent investors. Most individuals lack
the abilities needed to understand the future and correctly compute the
consequences of their decisions.
In fact, the Rational Expectations Hypothesis requires no assumptions about the
intelligence of market participants whatsoever (for further discussion, see
Chapters 3 and 4). Rather than imputing superhuman cognitive and computational
abilities to individuals, the hypothesis presumes just the opposite: market
participants forgo using whatever cognitive abilities they do have. The Rational
Expectations Hypothesis supposes that individuals do not engage actively and
creatively in revising the way they think about the future. Instead, they are
presumed to adhere steadfastly to a single mechanical forecasting strategy at
all times and in all circumstances. Thus, contrary to widespread belief, in the
context of real-world markets, the Rational Expectations Hypothesis has no
connection to how even minimally reasonable profit-seeking individuals forecast
the future in real-world markets. When new relationships begin driving asset
prices, they supposedly look the other way, and thus either abjure
profit-seeking behavior altogether or forgo profit opportunities that are in
The Distorted Language of Economic Discourse
It is often remarked that the problem with economics is its reliance on
mathematical apparatus. But our criticism is not focused on economists’ use of
mathematics. Instead, we criticize contemporary portrayal of the market economy
as a mechanical system. Its scientific pretense and the claim that its
conclusions follow as a matter of straightforward logic have made informed
public discussion of various policy options almost impossible.
Doubters have often been made to seem as unreasonable as those who deny the
theory of evolution or that the earth is round. Indeed, public debate is further
distorted by the fact that economists formalize notions like “rationality” or
“rational markets” in ways that have little or no connection to how
non-economists understand these terms. When economists invoke rationality to
present or legitimize their public-policy recommendations, non-economists
interpret such statements as implying reasonable behavior by real people. In
fact, as we discuss extensively in this book, economists’ formalization of
rationality portrays obviously irrational behavior in the context of real-world
Such inversions of meaning have had a profound impact on the development of
economics itself. For example, having embraced the fully predetermined notion of
rationality, behavioral economists proceeded to search for reasons, mostly in
psychological research and brain studies, to explain why individual behavior is
so grossly inconsistent with that notion—a notion that had no connection with
reasonable real-world behavior in the first place.
Moreover, as we shall see, the idea that economists can provide an overarching
account of markets, which has given rise to fully predetermined rationality,
misses what markets really do. ...
16 See Chapters 7-9 for an extensive discussion of the role of fundamentals in
driving price swings in asset markets and their interactions with psychological
17 For example, in discussing the importance of the connection between the
financial system and the wider economy for understanding the crisis and thinking
about reform, Krugman endorses the approach taken by Bernanke and Gertler. (For
an overview of these models, see Bernanke et al., 1999.) However, as pioneering
as these models are in incorporating the financial sector into macroeconomics,
they are fully predetermined and based on the Rational Expectations Hypothesis.
As such, they suffer from the same fundamental flaws that plague other
contemporary models. When used to analyze policy options, these models presume
not only that the effects of contemplated policies can be fully pre-specified by
a policymaker, but also that nothing else genuinely new will ever happen.
Supposedly, market participants respond to policy changes according to the
REH-based forecasting rules. See footnote 3 in the Introduction and Chapter 2
for further discussion.
18 The convergence in contemporary macroeconomics has become so striking that by
now the leading advocates of both the “freshwater” New Classical approach and
the “saltwater” New Keynesian approach, regardless of their other differences,
extol the virtues of using the Rational Expectations Hypothesis in constructing
contemporary models. See Prescott (2006) and Blanchard (2009). It is also widely
believed that reliance on the Rational Expectations Hypothesis makes New
Keynesian models particularly useful for policy analysis by central banks. See
footnote 7 in this chapter and Sims (2010). For further discussion, see Frydman
and Goldberg (2008).
19 Following the East German government’s brutal repression of a worker uprising
in 1953, Bertolt Brecht famously remarked, “Wouldn’t it be easier to dissolve
the people and elect another in their place?”
20 Even Simon (1971), a forceful early critic of economists’ notion of
rationality, regarded it as an appropriate standard of decision-making, though
he believed that it was unattainable for most people for various cognitive and
other reasons. To underscore this view, he coined the term “bounded rationality”
to refer to departures from the supposedly normative benchmark.
The introduction to this book might also be of interest:
Expectations: The Way Forward for Macroeconomics, Edited by Roman Frydman &
Edmund S. Phelps [with entries by Philippe Aghion, Sheila Dow, George W.
Evans, Roger E. A. Farmer, Roman Frydman, Michael D. Goldberg, Roger Guesnerie,
Seppo Honkapohja, Katarina Juselius, Enisse Kharroubi, Blake LeBaron, Edmund S.
Phelps, John B. Taylor, Michael Woodford, and Gylfi Zoega ].
The introduction is here:
Which Way Forward for
Macroeconomics and Policy Analysis?.
Posted by Mark Thoma on Thursday, December 20, 2012 at 12:33 AM in Economics, Macroeconomics, Methodology |
Posted by Mark Thoma on Thursday, December 20, 2012 at 12:06 AM in Economics, Links |
When I was a little kid, I used to go and stay with my grandparents for a
week or two each summer. I thought it was fun, and I liked going there, but I
realized later it was mainly to give my parents a break. So I guess we were all
better off. Except maybe my grandparents by the end of the second week.
For awhile, my grandfather was the watermaster for an area north of Yuba City, CA (around
Tudor if you know the area, the water came from the Feather river near Star
Bend if I remember correctly, and it was used to irrigate crops and orchards). When I visited, I'd sometimes go to work with him and one part of the job was him
riding around in his pickup and checking the height of water in concrete pipes
spread throughout the area he managed (they were taller than he was, and a
couple of feet in diameter -- some were rectangular and much larger). He would then adjust the
water if it was too low or too high (probably
automated today, don't know, he did it, in part, by adjusting the intake from the river). This required him to take a ladder from his pickup, lean it up
against the pipe, look inside and and visually check the water height, and then pack
Like any worker, he preferred the job to be easier rather than harder, so he designed and installed a float system in each pipe that would allow
him to check the water height as he drove by. No more getting out of the truck.
It was simply really, just a float in the pipe attached to a lever on a pivot
with an indicator attached to the other end, but it was a huge timesaver (there's
a really bad depiction of it next to this paragraph). There were also markers on the outside corresponding to water heights (in feet) on the inside.
After he did this, he was able to spend more time at other things (one of which I think was
a nap each day after lunch), and also take on new things that weren't possible before.
Not sure what started me thinking about this, but it makes me wonder how much
innovation on the production floor comes from workers trying to make things
easier for themselves. I think it was a government job -- not completely sure -- doesn't
matter though, the incentive to reduce irksome labor is there profit motive or
not. But even for firms where the profit motive is present -- firms where we think of managers imposing profit-maximizing changes -- how much profit
enhancing innovation is actually due to workers just trying to make their day a little
Posted by Mark Thoma on Wednesday, December 19, 2012 at 06:03 PM in Economics, Productivity |
Yesterday, I meant to post
the first part of an interview with Jamie Galbraith did with Roger
Strassburg for NachDenkSeiten
(followed by the second part today). But I made a mistake and posted the
speech instead (oops). So let me try to rectify the error, in part, by posting
the intended interview [I'll post part 2 tomorrow, but it's
here if you can't wait]:
Interview of James
Galbraith: NachDenkSeiten: What's your impression so far of the conference, the
situation with the IG-Metall?
Galbraith: I was here to give one of the keynote speeches, and my
exposure to the rest of the meetings has really been to listen to several of the
other opening lectures and to participate in a very interesting seminar on the
future of growth following my speech.
As it turned out, my speech paralleled, I think in a quite useful way, the
executive board's statement of the IG-Metall at the end of October on solidarity
in Europe - something actually that I only saw after I had substantially drafted
the speech I was going to give. There was a convergence of views, I think,
that the principles outlined by the union are basically exactly right. You
have to have the significant move toward European solidarity or the European
project is going to be finished. The significance of it is that a change
of view has to come, if it is to have any impact on the European situation, it
has to emerge in Germany. I mean, and you can say that it's extremely
difficult for that to happen...
NachDenkSeiten: It's a long ways away from that.
Galbraith: They're a long ways away from that, but that's where it has
to come from, because, well, the rest of Europe and the countries affected can
protest, and they can even resist. But the change in climate and the
change in perspective cannot come from the weak countries, and unfortunately
there's no sign that it's going to come from France, either.
NachDenkSeiten: I'm disappointed there. Is Hollande caving in?
Galbraith: That's hard for me to judge from a distance, but one
interpretation is that he's essentially the captive of the Treasury, of the high
French bureaucracy in these matters, and one can see how that happens. It
happened also in the United States with President Obama. It's extremely
hard for a president to break out of the mind meld of the top echelons of the
government, no matter what his individual preferences may be. It
doesn't matter, even if the president has well-developed contrary ideas.
The classical case in U.S. history is Kennedy and Vietnam. Government is
set on a certain path, it takes an enormous effort for the president to move it.
NachDenkSeiten: So you're talking about the career bureaucrats as
opposed to appointed people?
Galbraith: In the French case it would be the permanent bureaucrats,
yes. In Kennedy's case it was people he brought in with him, but
nevertheless reflecting the establishment views.
NachDenkSeiten: That seems to be the case with Obama, too, isn't it?
Galbraith: Yes, it was people he chose, but they were people he chose
from within the existing hierarchies.
NachDenkSeiten: With respect to solidarity in Germany, so far, anytime
there's a protest in the south, it just gets people riled up here – sort of a
long the lines of “hey, we're giving you guys money, and now you're protesting
against us, with Nazi signs and this sort of thing”.
Galbraith: Right. People in Germany are not, I think, fully aware
of what's happening on their southern border.
NachDenkSeiten: Well, the German press hasn't really helped that much.
Politicians haven't really helped that much. They've been pretty much
pushing the idea, “hey, you know, we did this right, they should follow our
Galbraith: Right. And of course the reality is that what has been
presented to the German public as a rescue of Greece or Spain is in fact a
rescue of the banks that have lent to Greece and Spain. Add the other
countries in as you wish, but it's essentially the same story everywhere. And
that rescuing process can go along as Signor Draghi wishes to support it, which
he will do because otherwise there's no more euro zone. But it does not
amount to actual support for the, well I won't say that it doesn't amount to any
support for the underlying economies, but it is designed in such a way that
those economies will continue to decline. It's basically a punitive level
NachDenkSeiten: Essentially they have to accept the conditions, which
is austerity, austerity, austerity.
Galbraith: That's right. And the problem is that you've stressed
the institutions which are the infrastructure of an advanced economy to the
point where they're no longer really viable, at least to where they are in
certain cases severely impaired.
NachDenkSeiten: Do you think Greece has a chance at all? I mean,
right now they've cut 14 percent or so of their deficit.
Galbraith: What I've been saying about the Greek situation is that –
and it's not just Greece – that the dynamic has an end state for which there is
a model, and that model is Yugoslavia.
NachDenkSeiten: How do you mean, a downward spiral?
Galbraith: A downward spiral leading to an explosion of violence.
And the thing about violence is that it happens quickly, and that it happens
along very dirty lines, and it can be provoked. Once you start having the
presence of factions that understand the power of violence, it becomes very hard
to control. So I think that, as I said this today, this is something that
Europeans all remember, that they all observed pretty much directly, pretty
close, quite recent, but has been isolated as a historical experience.
It's not considered to be European, but it is European.
NachDenkSeiten: It's still isolated and it's still far away.
Germans do not see it. They see pictures, but here things are pretty much
Galbraith: That's right. However, one can get to Yugoslavia, or
the former Yugoslavia in less than an hour.
NachDenkSeiten: How do see the IG-Metall trying to change its
directions now. It initially has pretty much gone along with the reforms
that have gone on in the last ten years, the Agenda 2010. Are they turning
away from that now, do you think? The SPD isn't yet, but do you think the
union is, or didn't you really get into that?
Galbraith: I haven't spoken with the officials about their attitude
towards the Hartz reforms and so forth, but I think, well, the title of the
conference is “Changing Course”.
NachDenkSeiten: And like I said, they invited you...
Galbraith: Yeah, they invited me. This is the information I have
that bears on it, and I'm encouraged, I think having, let's say, a
highly-respected German institution taking a different position in these matters
would be a significant development.
NachDenkSeiten: I would be, but unions aren't as strong as they used to
Galbraith: That's true. Nevertheless.
NachDenkSeiten: Still, Michael Sommer, the head of the DBG, still
favors a grand coalition in the next parliamentary session. The idea –
what scuttlebutt says essentially is that, the idea is, well, if we cooperate
with Merkel, if we're nice to here, that we can influence her.
Galbraith: I think I should stay away from German politics simply on
the grounds that I'm not an authority on it, but what Europe needs to begin with
is a change of ideas. Without a change of ideas, nothing will happen.
That's the starting point. The most effective way to get a change of ideas
is to open up the dialog with people who have not previously been heard.
And if all you are is an academic voice like me the opportunity to have the
dialog opened up, to be part of that, was a development of note. I'm not
going to claim too much for it. You never know where things are going to
go, but this is how I see how I can be useful.
NachDenkSeiten: What would be your vision of where this could go.
What would you recommend to the European Union if you were to try to propose a
plan to fix the euro zone at this point, given what's happened so far.
Galbraith: I think that the principles laid out in the IG-Metall
document are pretty good to begin with. They're principles of solidarity
and justice and generosity. These are exceptionally important, because
this is not a question of compassion, this is a question of making things work,
and this is the only way you can make things work.
The specifics of this begin with the question of the debt, and recognition
that you cannot adjust your way out of a debt that can't be paid. A debt
that can't be paid won't be paid. The sooner you relieve the burden of
that debt, the better off you are.
Now there are technical ways of doing that which could be done within the
I think the next step is to recognize that you need to have stabilizing
institutions in the euro zone as a whole of the same kind that have existed for
a long time within the northern European countries. Not necessarily the
whole spectrum of them. This is not about having a federal government in
Europe, but there are steps you can take that would help stabilize things.
I spoke today about mechanisms that might be effective.
Yesterday, Jill Rubery, who was one of the other keynoters, suggested that a
European-wide unemployment insurance scheme would be a good idea. I think
this is an excellent idea because it basically says you're going to provide
direct support to the people who are the most immediate victims, wherever they
may be located, the most immediate victims of the crisis. And since those
people are located in the indebted countries to a significant extent, it would
help stabilize their economies. That would be a good thing. I've
suggested the same principle be applied to pensions, and I would apply it to
some of the lowest wage rates in the European Union.
So you can proceed step-by-step, and see that there are ways of doing which
are run in parallel with most of the existing institutions to strengthen and
stabilize them. If there's a will to proceed, there are ways to proceed.
NachDenkSeiten: Would you replace the national pension?
Galbraith: No, not immediately. I think that anything that can be
done by adjustments at the margin should be done that way, because first of all
you want to assure people that the institutions that they are familiar with will
continue. And secondly, you don't want to have an impossible political
battle on your hands every time you try to do something. So I think the
way you would do these various things is by appropriate institutional design,
not all of which I want to do myself.
NachDenkSeiten: Well, certainly one of the reasons that California
isn't Greece is the fact that pensions come from Washington.
Galbraith: Precisely, and therefore California's debt is a small
fraction of Greek debt in relation to California's GDP, which of course is a
very large fraction of Greek GDP, multiple, shall we say, large multiple.
NachDenkSeiten: That would imply, though, that you'd want to have a
European-wide pension system, European-wide unemployment insurance...
Galbraith: But those are things that require really quite a modest
staff and a really powerful computer. We set up Social Security
continent-wide in the United States in 1935, was done on index cards.
NachDenkSeiten: We didn't replace anything there, though. In this
case, there are institutions that are already there.
Galbraith: Right, but we have the capacity to work with the existing
institutions now. I agree with you, Social Security was quite simple, but
still, it is within the skills of a competent programmer to come up with the
right sort of system.
NachDenkSeiten: You mentioned the low wages. Would you try to
have a European-wide minimum wage, considering that right now one of the
problems is the productivity differences.
Galbraith: You want to have the wages more compressed than the
productivity differences. What that does is support purchasing power and
improve productivity where it's weak.
You don't what to impose highly disruptive changes. What you want to do
is to set a direction that provides for gradual narrowing of differences over
time. And the purpose of this is to make it possible for social
institutions to function in the poorer countries, and to stabilize people in
there homes so that they aren't given the same radical incentive to migrate that
they presently have. Basically, you want people who are competent and
skilled to be available in their home communities, and not simply sending checks
home from a high-income city somewhere halfway across the continent.
NachDenkSeiten: It sounds like Greece is emptying out in that respect,
in that the talented people are leaving. A lot of them are coming to
Germany, and Germany is just tickled pink about that.
Galbraith: When you have this kind of disruption, this is the first
group of people that leave, and the Greeks have diasporas also in Australia,
also in the U.S., and of course in...
NachDenkSeiten: Those aren't new, though.
Galbraith: No, they're not new, but it gives a channel for people to
leave, and actually a second place that people can go back to, and there's a lot
of that. And, of course, also capital flight. It's all a sign of the
declining conditions in the edges of the euro zone.
NachDenkSeiten: One of the news items of the past few days is that
American companies are leaving southern Europe – without necessarily intending
to go back.
Galbraith: Yes. You have a situation where companies are going to
leave when they consider the social situation as unstable, when they consider
the medical care is not tenable, and their top employees don't want to stay
there, when the schools aren't any good or it's too stressful for their kids,
all of these things. But it's also just a question of whether there's any
hope for a profit in the markets.
NachDenkSeiten: That's Greece...
NachDenkSeiten: That doesn't seem to be understood here, it's still
kind of the mercantilist idea, keep your labor costs cheap and export.
Galbraith: Right. Greeks could work for free and I think that BMW
would not locate to Thessalonika.
NachDenkSeiten: You said that the debt, as long as the debt is not
repayable, that you should essentially write it off and take a much larger
haircut at this point.
Galbraith: Yes, of course.
NachDenkSeiten: It's fairly controversial among many economists and
politicians. The economist Gustav Horn, for example, says, no, that would
disrupt everything, there'd be a domino effect
Galbraith: All debt crises end in a write-down, all of them. I
don't know of a single example, except maybe when Mexico got a brief reprieve in
1978 when it discovered oil in the Gulf. But that's the only
counterexample I can come up with. They all end that way, because once you've
moved into a crisis, you are in a situation which gets worse as time goes on.
So it's only a question of now or later.
NachDenkSeiten: How would you go about doing that. One idea would
be for the ECB to buy up a lot of the outstanding bonds, and just letting them
sit in the books.
Galbraith: So long as they are in existence at unsustainable interest
rates, they are what an IMF economist in the 1980's described to me as an
unfunded tax liability for the debtor. They just sit there, and they act
as a burden on economic activity. You never know at what point you are
going to have to actually dip into whatever later growth you might have in order
to pay them off. So you have to get rid of them.
NachDenkSeiten: There's considerable confusion here about what happens
if the ECB buys up the bonds and the debts don't get paid off. The general
myth around here is that the taxpayers would have to jump in and feed the ECB
Galbraith: Well the taxpayers don't have the money, the ECB has its own
money, so that's not a logical inference.
NachDenkSeiten: It's a very hard myth to kill, though.
Galbraith: When you talk about the ideas that I've just been laying out
on unemployment insurance, for example, that question is who's paying for it.
What you have to explain is that purchasing power is created by this. What
it does is absorb resources, mostly human labor, which is already unemployed, so
it's moving things from the non-productive to the productive category, that's
how it's being paid for. It's being paid for by work which would otherwise
not get done. Then there is a small amount of extra groceries, maybe the
people are not as cold as they otherwise would be, small comforts that are
achieved by this. But the main benefit is that people who were previously
unemployed do something useful, and they do something in the service of other
people who now have purchasing power to handle it. That's a very useful
NachDenkSeiten: This has been a hard thing to get across, not only
here, but in the U.S., there's a similar problem in the U.S.
Galbraith: Oh, sure. Though I really think that in the U.S.
attitudes are more elastic. People understand that you don't want to leave
a large part of the population without unemployment insurance for a long period
of time. You don't have the same kind of deep resistance to paying those
bills because people have paying them for a very long time and everybody sees
that the world isn't ending as a result of it.
NachDenkSeiten: That sounds awfully Keynesian for Germany. That's
part of the problem. It's very orthodox.
Galbraith: I read some Keynes this morning in my speech. I read
from the Economic Consequences of the Peace.
“If the European civil war is to end with France and Italy abusing their
momentary victorious power to destroy Germany and Austria-Hungary now prostrate,
they invite their own destruction also, being so deeply and inextricably
intertwined with their victims by hidden psychic and economic bonds”
And then there's another passage later in the book which goes, “The policy of
reducing Germany to servitude for a generation, of degrading the lives of
millions of human beings and of depriving a whole nation of happiness should be
abhorrent and detestable – abhorrent and detestable! – even if it were possible,
even if it enriched ourselves, even if it did not sow the decay of the whole
civilized life of Europe.
NachDenkSeiten: That was after World War I.
NachDenkSeiten: And how right he was!
Galbraith: Yes, it's a stunning passage.
It's one of those books that deserves a careful reading – frequently. I
also read something that I like very much, I'll read it for you, too, Lincoln's
message to the Congress in December of 1862:
“We can succeed only by concert. The dogmas of the quiet past are
inadequate to the stormy present. As our case is new, so we must think
anew and act anew. We must dis-enthrall ourselves, and then we shall save
our country. Fellow citizens, we cannot escape history. We will be
remembered in spite of ourselves. No personal significance or
insignificance can spare one or another of us. The trial through which we
pass will light us down in honor or dishonor to the latest generation. We
say we are for the union. The world will not forget that we say this.
We know how to save the union. The world knows that we do know how to save
it. We even we hear we hold the power and bear the responsibility.
The way is plain, peaceful, generous, just, a way, which if followed, the world
will forever applaud.”
This passage in December of 1862 was about emancipation, so it was about
giving freedom to the slaves and preserving it for the free. And there is
a parallel to the relationship between debtors and creditors.
NachDenkSeiten: Yeah, very much – you're not really free if you're a
Galbraith: That's correct.
NachDenkSeiten: That is something that's well understood in Germany,
which is part of the reason Germans have so much against debt., which is very
Galbraith: Now the other piece of this is that it's accounting – if you
have a surplus, somebody else has a deficit.
NachDenkSeiten: That's not quite been understood yet, I don't think.
Galbraith: Every shopkeeper, of course, knows it.
NachDenkSeiten: Heiner Flassbeck is actually more or less resigned and
has said, go southerners, get out of the euro, because it's not going to get any
better for you. Others are saying, of course, no we've got to hold it
Galbraith: I think that the commitment to save the euro zone has to
come from the north. What the southerners should be concentrating on is
developing a coherent alternative. If you broke it up and you had six
distinct new national currencies, Greece, Italy, Spain, Portugal, Ireland,
that's five, and, ok France, maybe. Then first of all you have a lot of
potential for speculative instability. And you could have a competitive
devaluation situation, and that is not a happy scene.
NachDenkSeiten: I don't see this as being happy, either, because, of
course, it's not going to get them out of the debt situation, it'll just make it
worse. Debt is denominated in euros.
Galbraith: Yes, they would have to be defaulting on that.
NachDenkSeiten: Which has precedence.
Galbraith: Of course. I think the essence of it is that you
devalue and you default. But of course you have a lot of private debts
which are denominated in euros, and then there's a whole question of which
courts have jurisdiction and how those matters get resolved. It's not
cheerful. It's very hard to see how the European Union economy survives a
kind of legal donnybrook that a breakup would involve.
NachDenkSeiten: The only thing that could work is the other way around,
actually, is if Germany left the euro.
Galbraith: Right. The other possibility is that other model that
I mention occasionally, which is the Czechoslovak model, which is to say, a
velvet divorce, a negotiated divorce, and into two coherent blocks. And
the only way that happens is if France assumes the leadership of the southern
block, because it's not a coherent block without France. At least I don't
think it is.
NachDenkSeiten: France is in the middle.
Galbraith: France's problem is that it really wants to be with Germany,
but it would be better from a French standpoint for it to be the leading country
of southern Europe.
NachDenkSeiten: It would probably be better for everyone if nobody was
hooked up to Germany, because Germany is going to try to keep the currency
Galbraith: The Dutch and the Austrians are going to try to stay with
Germany on that.
NachDenkSeiten: They can afford to. They have similar economies.
Galbraith: Sure. But if I were in a position to try to influence
developments in the south of Europe, I would be saying you should be thinking
about how to do this, and how to do this in the way which is least likely to
cause the entire system to disintegrate on you, recognizing that there's a
considerable risk of that.
NachDenkSeiten: Do you think it's possible to design something like
Galbraith: It's not obvious to me, but I don't have the range of
knowledge that requires. But I would start assembling working groups to
provide some baseline of knowledge about this.
NachDenkSeiten: I'm not sure what Flassbeck has in mind for how to go
about doing that, but he's saying that the alternative is worse. And there
are people who have let these thoughts run through their heads. Even Paul
Krugman has at times said, well, you know, the alternative might actually be
Galbraith: I have a lot of respect for Heiner, but it's not my
approach. I would say that the thing you need to do is fact-finding, legal
opinions, constitutional opinions. You need to have a much clearer sense
of what is involved before making the move. But the fact is that the move
to determine what is involved itself a very significant political gesture.
And what you do while you are determining what is involved is you remain open to
an offer from the other side. That's how you move toward the Czechoslovak
solution – or reconciliation. That's how you develop a coherent bargaining
position. At the moment the notion that the alternative is that we've got
a hand grenade in our hand, and if we don't get something, we're just going to
let it go off. Well, the hand grenade, it might kill you and it might
Lincoln made a comment in his speech at Cooper Union that the Southern
position was the highwayman who holds you up and says, “stand and deliver or
else I shoot, and then you will be a murderer”.
Posted by Mark Thoma on Wednesday, December 19, 2012 at 09:56 AM in Economics |
On the run today -- guests arriving soon and I am nor yet ready -- so some
quick ones. This one came by email from Fred Moseley, and I haven't had a chance
to give it much (i.e. any) thought. Comments?:
Krugman’s explanation of stagnant real wages: In a recent post on his NYT blog (“Technology
and Wages”) Paul Krugman argued that the reason for stagnant real wages in
the US economy in recent years is that technological change has been
“capital-biased”, in the sense of Hick’s “capital using” technological change.
Unfortunately, Krugman did not explain clearly what he means by “capital biased
technological change” (as several readers complained).
According to Hicks, capital-using technological change (i.e. Krugman’s
capital-biased) increases the marginal product of capital faster than the
marginal product of labor (i.e. ↑MPK > ↑MPL). Krugman concludes that
“we’re seeing new technologies that look, on a cursory overview, as if they’re
My question to Krugman (if I may) is: how do you know that
technological change has been “capital biased”? A “cursory overview” of
what data? What is the empirical evidence for this conclusion? How
are the MPL and MPK estimated, independently of wages and profit? I know
of no way to do this, especially for an aggregate production function.
Furthermore, the MPL (or MPK) is a logically incoherent concept, because the
MPL (a partial derivative of the production function) requires that labor be
increased by one unit and all the other inputs be held constant. But that
is not possible in all goods-producing industries – it is not possible to
increase labor and output without at the same time increasing raw material
inputs (and other intermediate inputs); e.g. it is not possible to produce
another shirt without more cloth, and not possible to produce another car
without more tires, brakes, etc. If a firm hired labor up to the point
where the real wages = MPL, it would lose money, because it would not have taken
into account the extra cost of additional raw materials and other intermediate
inputs. This non-existence of marginal products is not widely recognized,
but it should be.
Another reader made a similar criticism: “The argument depends on the
theory that workers are paid their marginal product. Some people hold to
this old idea, however it is not supported by the empirical evidence.”
For further discussion of criticisms of marginal productivity theory (a two
part paper), see
It is time we stop talking about marginal products and look for other better,
logically consistent and empirically supported theories of the distribution of
I agree with Krugman in a subsequent post
where he stated: “If you want
to understand what’s happening to income distribution in the 21st century, you
need to stop talking so much about skills, and start talking much more about
profits and who owns the capital.”.
But marginal productivity theory is not a coherent way to talk about profits.
Mount Holyoke College
Posted by Mark Thoma on Wednesday, December 19, 2012 at 09:56 AM in Economics, Income Distribution, Productivity, Technology, Unemployment |