Monday, June 23, 2014

Mankiw: Let’s Really Piss Off Those Liberals

No one in the econ blogosphere has gone after Greg Mankiw, who did his best to provoke outrage with his latest New York Times column.  “Debunking” Piketty, Mankiw says that rich people save because they are altruistic toward their unfortunate kids, who, because of regression to the mean, won’t be as financially successful as they are.  But the unintended consequence of all this saving is that the capital-labor ratio changes, and the principle of diminishing marginal productivity means that the rate of profit will fall and wages will rise.  Hence Piketty’s patrimonial capitalism is good for the workers!

But let’s put it in Mankiw's inimitable words:
Because capital is subject to diminishing returns, an increase in its supply causes each unit of capital to earn less. And because increased capital raises labor productivity, workers enjoy higher wages. In other words, by saving rather than spending, those who leave an estate to their heirs induce an unintended redistribution of income from other owners of capital toward workers.
The bottom line is that inherited wealth is not an economic threat. Those who have earned extraordinary incomes naturally want to share their good fortune with their descendants. Those of us not lucky enough to be born into one of these families benefit as well, as their accumulation of capital raises our productivity, wages and living standards.
Now let’s just make a list of the assumptions you have to make in order to accept Mankiw's argument (none of which he mentions himself):

1. All resources are fully employed, and the economy is on its production possibility frontier.

2. A decision to save, by lowering the cost of capital, increases the quantity of investment.

3. Financial and real capital are identical, and the return to the first is the return to the second.

4. All savings and investment occur in the same economy; rich people do not earn income from investments elsewhere.

5. All prices represent true social costs and benefits.  There are no profits to be made except by increasing the net wealth of the community.  For instance, transfers and uncompensated externalities play no role whatsoever in profits.

6. There are no monopoly profits, with the exception of self-extinguishing temporary monopolies associated with wealth-creating innovations.

7. But, in partial contradiction to (6), there is no technological change at all, since it would alter the marginal productivities of labor and capital.

8. Production sets are convex everywhere; there are no increasing returns or interactions between resources or activities that would give rise to nonconvexities and multiple equilibria.

On top of all this, it should be pointed out that, if Mankiw is right, the rate of profit—Piketty's r—should fall as the capital-income ratio rises.  But a central argument in Piketty's book is that r is remarkably consistent through relative capital accumulations and decumulations, a steady 4-5%.  There isn't a single dollop of data in Mankiw's little piece that challenges Piketty's finding.

Putting all of this together, it doesn't sound like the sweeping conclusion at the end of Mankiw's column is justified, does it?

But Greg’s a smart guy!  He doesn't really think that his op-ed is summing up the state of scientific knowledge.  He knows everything I've written above.  Some of it is even in his textbook.  Clearly his goal is not to make a defensible economic argument.

To take him seriously is to miss the point.  When he wrote this column Greg had a twinkle in his eye.  He’s thinking to himself, “This is really going to annoy the liberals!”  That’s what the central message of microeconomics is about, after all, once you put aside all the caveats and unlikely assumptions: self-interest is good for everyone, a free market is the optimal form of economic organization, and there is no conflict of interest between the rich and the rest.  In real economics these propositions are hypotheses to be examined and quite often rejected, but in ideological economics they are ammunition to attack the left.

When Mankiw teaches Econ 10 at Harvard, he has many kinds of students scattered through the auditorium.  Some are bored.  Some are intrigued but have lots of questions that intro econ can’t answer.  Some walk out.  But you can be sure there are a few whose eye’s light up when they hear about the virtues of free markets and self interest.  They're the ones who are thinking, “Wow, that must really annoy the liberals!”  A significant chunk of them will decide to become econ majors and then go on to get PhD’s and teach their own Econ 10's.

Of course, most economists aren't like this.  I think a majority are fairly centrist in their politics and moderately skeptical of ideologies that rest on a raft of assumptions and a paucity of data.  But every econ department at a college or university seems to have at least one of the Mankiw spawn, whose greatest pleasure is piss off the do-gooders.  When they populate recruitment committees and journal editorial boards the twinkle becomes a scowl, and ideological rigidity becomes a filter for the rest of the profession.

It’s not all in fun.


julio said...

Nor is it fun when their opinions get cited as authoritative by politicians.

Bud Meyers said...

There's a big difference between "saving" and "hoarding".

Sandwichman said...

Mankiw is a magician. He knows what he is doing is a hoax and that to do it well is to conceal the hoax.

"...most economists aren't like this."

Yes, most economists either "believe in magic" and tie themselves up in knots trying to really pull a rabbit out of a hat without it being a trick (good luck with that) or driving away the crowd with long-winded, boring explanations of how it's all a trick.

Or, worse, they vacillate back in forth between the two modes of impotence. Meanwhile, Mankiw performs his tricks.

Unknown said...

From my understanding of what Mankiw is saying, he is not claiming inequality will decrease because of the above argument.

He is simply saying this is a mechanism by which rich people saving and investing can be useful for raising incomes of everyone - not some magical alien insight to economists?

He is saying given the hierarchy of our values, other things are important like poverty as opposed to inequality! Indeed a central argument of people who have criticised picketty is he merely mantains we should be obsessed about inequality...what would a global wealth tax do to poverty?