by the Sandwichman
Sixty-seven years ago, Michal Kalecki nailed it. The economics of full employment is not rocket science. It's the politics, stupid.
"That is not to say that people who advance them [politically-motivated doctrine advanced as economic arguments] do not believe in their economics, poor though this is. But obstinate ignorance is usually a manifestation of underlying political motives."
"Political Aspects of Full Employment" was published in The Political Quarterly (!) in 1943 and was based on a lecture delivered at Cambridge in the spring of 1942. Sandwichman will post it to EconoSpeak in 14 installments.
Next
Thursday, May 7, 2009
Monday, May 4, 2009
Meltzer: Fire Keynes, Replace Him with Friedman
Readers of today’s New York Times Op-Ed page can enjoy the spectacle of two economists side-by-side, one warning of deflation, the other of inflation. The Cassandra of inflation is Allan Meltzer, a monetarist of the fundamentalist variety and founding father of the Shadow Open Market Committee, a Fed watchdog group that barks at the first glimmer of monetary loosening. On the face of it, railing against inflation in the midst of incipient debt deflation is madness, but I happen to think that Meltzer has a point, just not for the reasons given.
Meltzer goes on a long detour about the rise and fall of US inflation during the 1970s that ignores the actual economic record (growth was pretty good) and dismisses the disastrous consequences of the ensuing disinflation (especially the developing country debt debacle) in a few flippant words:
But let’s get to the point: are we setting the stage today for a massive resurgence of inflation down the road? Meltzer says yes, for three reasons: too much money creation, too much deficit spending, too little investment in productivity. None of these is actually documented; it is all anecdote and assertion, but let’s give him the benefit of the doubt.
Money creation? Well, it depends on what definition of the money supply you want to use. M1, the monetary base beloved of paleo-Friedmanites, is through the roof, but this is because of the massive buildup of excess reserves held by member banks at the Fed. A more meaningful measure is M2, which includes checkable deposits, and here the growth is in the high single-digits. Is that a lot? Apparently the velocity of money (how rapidly it turns over), which is cyclically volatile, is depressed, since nominal GDP (the value of output at current prices) is falling—which it seldom does. The Fed is leaning against this monetary friction by pushing a bit harder on the supply side. As long as its policy is reversible, it is not inflationary.
Deficit spending? The US is on track to boost its public debt to about 80% of GDP by the outer years of the (first) Obama presidency. This is in the middle of the peleton as far as industrialized countries are concerned, and well below the level reached in 1945 after fifteen years of depression and war. There is no reason to believe this debt is not sustainable. Nearly all economists agree that the US has the fiscal space to run the deficits it is programming, a luxury available to relatively few other nations.
Productivity? To begin with, it is odd for an arch conservative like Meltzer to look to the government for investments in productivity growth, but let’s follow his line of argument: is the stimulus being spent in ways that will boost future productivity? Not surprisingly, the answer is yes and no, but more yes than Meltzer is willing to acknowledge. He makes a couple of major errors:
Aside from the throw-away tone of the opening phrase, his dismissal of the productivity effects of health care investments is contradicted by a mountain of research. At both the individual and social levels, health is a significant determinant of productivity; add to this the fact that the US has a notoriously inefficient health care sector whose cost trajectory is unsustainable, and you have a clear case for productivity-enhancing investment. Meanwhile, Meltzer’s comments about energy demonstrate he is unaware of the energy efficiency gap, whose closing would be a big contribution in both economic and ecological terms.
In the end, however, I think an inflationary surge is entirely possible, for reasons that Meltzer doesn’t address. The first is the potential for a future run on the dollar once the private demand for Treasuries eases up. The low inflation environment of the last two decades was founded on an over-strong dollar; a rapid depreciation would turn this around. The second risk has to do with the unprecedented role of unconventional assets in the Fed’s balance sheet. Traditionally, the Fed conducted open market operations by buying and selling Treasury obligations—the “bonds” in your macro textbook. It could expand the money supply by buying bonds and, if it wanted to disinflate, reverse course by selling them. Under the banner of bailing out the financial system, the Fed is now injecting money by buying toxic assets, but what happens if the Fed wants to soak up money instead? It has unloaded all its stash of public debt, and the assets it holds are not marketable. This asymmetry in Fed policy should be a real source of worry for the Meltzers of this world, and even irresponsible economic populists like myself.
In a nutshell, the fiscal and monetary initiatives undertaken to support the bailout present significant inflationary risks. True, resisting deflation is the immediate task, but there are better and worse ways to do this. Using the US central bank to trade cash for trash is a dangerous path.
Meltzer goes on a long detour about the rise and fall of US inflation during the 1970s that ignores the actual economic record (growth was pretty good) and dismisses the disastrous consequences of the ensuing disinflation (especially the developing country debt debacle) in a few flippant words:
And the anti-inflation policy continued until the unemployment rate rose above 10 percent, many savings and loan institutions faced bankruptcy, and most Latin American countries defaulted on their debt. These were the unavoidable side effects of the public’s gradual adjustment to the new economic environment.
But let’s get to the point: are we setting the stage today for a massive resurgence of inflation down the road? Meltzer says yes, for three reasons: too much money creation, too much deficit spending, too little investment in productivity. None of these is actually documented; it is all anecdote and assertion, but let’s give him the benefit of the doubt.
Money creation? Well, it depends on what definition of the money supply you want to use. M1, the monetary base beloved of paleo-Friedmanites, is through the roof, but this is because of the massive buildup of excess reserves held by member banks at the Fed. A more meaningful measure is M2, which includes checkable deposits, and here the growth is in the high single-digits. Is that a lot? Apparently the velocity of money (how rapidly it turns over), which is cyclically volatile, is depressed, since nominal GDP (the value of output at current prices) is falling—which it seldom does. The Fed is leaning against this monetary friction by pushing a bit harder on the supply side. As long as its policy is reversible, it is not inflationary.
Deficit spending? The US is on track to boost its public debt to about 80% of GDP by the outer years of the (first) Obama presidency. This is in the middle of the peleton as far as industrialized countries are concerned, and well below the level reached in 1945 after fifteen years of depression and war. There is no reason to believe this debt is not sustainable. Nearly all economists agree that the US has the fiscal space to run the deficits it is programming, a luxury available to relatively few other nations.
Productivity? To begin with, it is odd for an arch conservative like Meltzer to look to the government for investments in productivity growth, but let’s follow his line of argument: is the stimulus being spent in ways that will boost future productivity? Not surprisingly, the answer is yes and no, but more yes than Meltzer is willing to acknowledge. He makes a couple of major errors:
Better health care adds to the public’s sense of well-being, but it adds only a little to productivity. Subsidizing cleaner energy projects can produce jobs, but it doesn’t add much to national productivity.
Aside from the throw-away tone of the opening phrase, his dismissal of the productivity effects of health care investments is contradicted by a mountain of research. At both the individual and social levels, health is a significant determinant of productivity; add to this the fact that the US has a notoriously inefficient health care sector whose cost trajectory is unsustainable, and you have a clear case for productivity-enhancing investment. Meanwhile, Meltzer’s comments about energy demonstrate he is unaware of the energy efficiency gap, whose closing would be a big contribution in both economic and ecological terms.
In the end, however, I think an inflationary surge is entirely possible, for reasons that Meltzer doesn’t address. The first is the potential for a future run on the dollar once the private demand for Treasuries eases up. The low inflation environment of the last two decades was founded on an over-strong dollar; a rapid depreciation would turn this around. The second risk has to do with the unprecedented role of unconventional assets in the Fed’s balance sheet. Traditionally, the Fed conducted open market operations by buying and selling Treasury obligations—the “bonds” in your macro textbook. It could expand the money supply by buying bonds and, if it wanted to disinflate, reverse course by selling them. Under the banner of bailing out the financial system, the Fed is now injecting money by buying toxic assets, but what happens if the Fed wants to soak up money instead? It has unloaded all its stash of public debt, and the assets it holds are not marketable. This asymmetry in Fed policy should be a real source of worry for the Meltzers of this world, and even irresponsible economic populists like myself.
In a nutshell, the fiscal and monetary initiatives undertaken to support the bailout present significant inflationary risks. True, resisting deflation is the immediate task, but there are better and worse ways to do this. Using the US central bank to trade cash for trash is a dangerous path.
California Fiscal Bait and Switch
I'm not an expert in fiscal policy. I don't even play one on television. With that caveat, I would like to comment on the upcoming California special election.
Prior to the ratification of Proposition 13 in 1978, Gov. Jerry Brown was building up a rainy day fund to prepare for fiscal emergencies. Republicans argued that the state had no right to hoard "the people's money."
A number of other factors are used to explain why Californians ratified Proposition 13. The most common culprit was the Serrano decision that was supposed to break the link between local property taxes and school funding, which was intended to reduce inequalities between school districts. Many people resented having to pay property taxes to support poor or minority kids. Also, there were some scandals with County tax assessors, but my recollection was that the rainy day fund rhetoric was the loudest.
Proposition 13 changed the political landscape of California. Besides limiting increases in property taxes over and above a fixed formula, this constitutional amendment required a two thirds majority of both houses of the legislature, meaning either party would be unlikely to muster enough votes to raise taxes. After a marathon of political wrangling to finally pass a very late budget, a literal handful of Republicans agreed to vote for the budget on the condition that the state put a number of awful amendments on the ballot.
Bait and switch number one: Today, California's preparing to constitutionally limit spending in order to build up a rainy day fund, which I assume will be a juicy target for future tax cutters.
Bait and switch number two: Another amendment will securitize the lottery, which was initially passed as a way to help fund education, given the constraints of Proposition 13. To make the lottery money more attractive to prospective bondholders, the link between the lottery and education will be broken.
Prior to the ratification of Proposition 13 in 1978, Gov. Jerry Brown was building up a rainy day fund to prepare for fiscal emergencies. Republicans argued that the state had no right to hoard "the people's money."
A number of other factors are used to explain why Californians ratified Proposition 13. The most common culprit was the Serrano decision that was supposed to break the link between local property taxes and school funding, which was intended to reduce inequalities between school districts. Many people resented having to pay property taxes to support poor or minority kids. Also, there were some scandals with County tax assessors, but my recollection was that the rainy day fund rhetoric was the loudest.
Proposition 13 changed the political landscape of California. Besides limiting increases in property taxes over and above a fixed formula, this constitutional amendment required a two thirds majority of both houses of the legislature, meaning either party would be unlikely to muster enough votes to raise taxes. After a marathon of political wrangling to finally pass a very late budget, a literal handful of Republicans agreed to vote for the budget on the condition that the state put a number of awful amendments on the ballot.
Bait and switch number one: Today, California's preparing to constitutionally limit spending in order to build up a rainy day fund, which I assume will be a juicy target for future tax cutters.
Bait and switch number two: Another amendment will securitize the lottery, which was initially passed as a way to help fund education, given the constraints of Proposition 13. To make the lottery money more attractive to prospective bondholders, the link between the lottery and education will be broken.
Saturday, May 2, 2009
GROAT! (it rhymes with bloat)
by the Sandwichman
The "concept of growth" concedes too much emotional appeal to a notion that is actually more about delusions of grandeur and bloating than it is about the kinds of organic processes we associate with children, grass, trees and gardens.
Economic growth becomes an oxymoron when it is orchestrated by elected officials for the sake of their incumbency with the rules of the game dictated by career investment bankers serving out their revolving-door appointments. Such a concept doesn't deserve to be called growth with all of that term's positive connotations. What's growth got to do with it, anyway?
After pondering for several days about a substitute for the word growth, I stumbled across "groat". It sounds like how growth might be pronounced in some dialects. A groat, though, is an English four-penny coin, introduced in the 13th century. Similarly named coins had been introduced earlier in the same century in Venice (grosso, meaning large or thick), Holland (groot, meaning great or large) and France (gros tournois).
The names of the coins referred to the fact that they were thick silver coins in contrast to the thin pennies or deniers already in circulation. A higher denomination coin is a response to debasement of the currency. To the extent that coins were the currency in the 13th century, economic growth became the public policy "coin of the realm" in the second half of the 20th century. And successive governments globally have predictably debased that currency by parlaying the GDP into Gross Domestic Ponzi-schemes in which debt-fueled economic growth is supposed to generate the tax revenues to perpetually service the accumulated debt.
Debasing coinage is what governments do. Gresham's law: bad money drives out good. Grass grows. Trees grow. Children grow. Governments debase money.
Another feature recommending groat as a critical terminological substitute for growth is the fact that the coin evolved into an exclusively ceremonial token, given out by the sovereign as symbolic alms to the poor each year on Maundy Thursday (and, of course, groat rhymes with bloat and with gloat).
Peter Victor's chapter on the history of the idea of economic growth relies heavily on H.W. Arndt's Rise and Fall of Economic Growth: a study in contemporary thought. A pivotal element in the evolution of thinking about economic policy was the argument put forward by R. Harrod in 1939 and E. Domar in 1946 that economic growth, defined as annual increase in national income, was indispensable to maintaining full employment.
Although Harrod's and Domar's argument is commonly misrepresented as "Keynesian", Keynes himself viewed government growth stimulus policies as only one of the possible strategies for addressing with the problem full employment and one that was only applicable for a limited period of time (Keynes estimated a best-by date on the growth stimulus policy of about 15 years after the end of the World War II). The "ultimate solution", Keynes stated in a 1943 Treasury Department memorandum and again in a 1945 letter to T.S. Eliot was "working less".
John R. Hicks – whose 1937 mathematical 'interpretation' of Keynes (featuring his famous "IS/LM curve") was crucial to Harrod's and Domar's efforts – subsequently (1975) repudiated that earlier contribution as too static and unhistorical. Similarly, Simon Kuznets, who developed the national income accounts relied on to measure economic growth, warned "The welfare of a nation can scarcely be inferred from a measurement of national income... Goals for 'more' growth should specify of what and for what."
Economic growth is thus today thoroughly debased and effaced from its original conception. To continue to call it growth is to circulate a counterfeit. Let's call it economic groat.
The "concept of growth" concedes too much emotional appeal to a notion that is actually more about delusions of grandeur and bloating than it is about the kinds of organic processes we associate with children, grass, trees and gardens.
Economic growth becomes an oxymoron when it is orchestrated by elected officials for the sake of their incumbency with the rules of the game dictated by career investment bankers serving out their revolving-door appointments. Such a concept doesn't deserve to be called growth with all of that term's positive connotations. What's growth got to do with it, anyway?
After pondering for several days about a substitute for the word growth, I stumbled across "groat". It sounds like how growth might be pronounced in some dialects. A groat, though, is an English four-penny coin, introduced in the 13th century. Similarly named coins had been introduced earlier in the same century in Venice (grosso, meaning large or thick), Holland (groot, meaning great or large) and France (gros tournois).
The names of the coins referred to the fact that they were thick silver coins in contrast to the thin pennies or deniers already in circulation. A higher denomination coin is a response to debasement of the currency. To the extent that coins were the currency in the 13th century, economic growth became the public policy "coin of the realm" in the second half of the 20th century. And successive governments globally have predictably debased that currency by parlaying the GDP into Gross Domestic Ponzi-schemes in which debt-fueled economic growth is supposed to generate the tax revenues to perpetually service the accumulated debt.
Debasing coinage is what governments do. Gresham's law: bad money drives out good. Grass grows. Trees grow. Children grow. Governments debase money.
Another feature recommending groat as a critical terminological substitute for growth is the fact that the coin evolved into an exclusively ceremonial token, given out by the sovereign as symbolic alms to the poor each year on Maundy Thursday (and, of course, groat rhymes with bloat and with gloat).
Peter Victor's chapter on the history of the idea of economic growth relies heavily on H.W. Arndt's Rise and Fall of Economic Growth: a study in contemporary thought. A pivotal element in the evolution of thinking about economic policy was the argument put forward by R. Harrod in 1939 and E. Domar in 1946 that economic growth, defined as annual increase in national income, was indispensable to maintaining full employment.
Although Harrod's and Domar's argument is commonly misrepresented as "Keynesian", Keynes himself viewed government growth stimulus policies as only one of the possible strategies for addressing with the problem full employment and one that was only applicable for a limited period of time (Keynes estimated a best-by date on the growth stimulus policy of about 15 years after the end of the World War II). The "ultimate solution", Keynes stated in a 1943 Treasury Department memorandum and again in a 1945 letter to T.S. Eliot was "working less".
John R. Hicks – whose 1937 mathematical 'interpretation' of Keynes (featuring his famous "IS/LM curve") was crucial to Harrod's and Domar's efforts – subsequently (1975) repudiated that earlier contribution as too static and unhistorical. Similarly, Simon Kuznets, who developed the national income accounts relied on to measure economic growth, warned "The welfare of a nation can scarcely be inferred from a measurement of national income... Goals for 'more' growth should specify of what and for what."
Economic growth is thus today thoroughly debased and effaced from its original conception. To continue to call it growth is to circulate a counterfeit. Let's call it economic groat.
Friday, May 1, 2009
A Krugman Contradiction on Carbon Caps
As the vast army of loyal readers of this blog knows, I’m a strong proponent of capping carbon emissions. But I also think it is extremely important to be honest and accurate about the economic burdens a cap would generate so we can minimize, accommodate and distribute them fairly. Along those lines, I am happy to see that Paul Krugman is relaying the important research message that the income effects of a carbon cap would be minimal for at least the next several decades. Opponents of forceful measures to slow down climate change want us to confuse the transfers induced by a cap (which would be large) with the economic costs (small), so we need to get the message out at every opportunity that action is affordable.
On the capital stock front, though, Krugman is missing half the story. He says
Yes but: the flip side of this new investment demand is accelerated depreciation (i.e. devaluation) of existing capital. This is not a minor matter. The capital stock we have in the present is the result of decades of systematic mispricing of scarce environmental goods, including the capacity of the global carbon cycle. If we correct those prices, many existing assets will have to be written down. The new-technology story is disingenuous: technological breakthroughs typically spur net investment because they create far more opportunities than they destroy, but the purpose of a carbon cap is above all to reduce the use of many existing technologies, and innovation is a (hopefully) mitigating byproduct. If you want a better analogy, think of what happened to the capital stock of eastern European countries in the years immediately following 1989. Suddenly their economies were open to international trade, and they were loaded with production facilities that cranked out goods that no one would buy any more. The result was a massive writeoff that plunged millions into unemployment.
It doesn’t have to be this way here. Certainly less of our capital stock is at risk from a carbon cap than in the eastern European case. Even more important is the fact that we are in a position to anticipate the problem; 1989 was a big unexpected shock. But we can’t plan ahead if we don’t see what’s coming. This is why it isn’t helpful to highlight the capital-replacing side of climate mitigation without taking note of the likely hit to existing investments. And to return to the current crisis, we should know by now that there are significant feedbacks from asset values to incomes, employment and even system stability.
On the capital stock front, though, Krugman is missing half the story. He says
Right now, the biggest problem facing our economy is plunging business investment. Businesses see no reason to invest, since they’re awash in excess capacity, thanks to the housing bust and weak consumer demand.
But suppose that Congress were to mandate gradually tightening emission limits, starting two or three years from now. This would have no immediate effect on prices. It would, however, create major incentives for new investment — investment in low-emission power plants, in energy-efficient factories and more.
To put it another way, a commitment to greenhouse gas reduction would, in the short-to-medium run, have the same economic effects as a major technological innovation: It would give businesses a reason to invest in new equipment and facilities even in the face of excess capacity. And given the current state of the economy, that’s just what the doctor ordered.
Yes but: the flip side of this new investment demand is accelerated depreciation (i.e. devaluation) of existing capital. This is not a minor matter. The capital stock we have in the present is the result of decades of systematic mispricing of scarce environmental goods, including the capacity of the global carbon cycle. If we correct those prices, many existing assets will have to be written down. The new-technology story is disingenuous: technological breakthroughs typically spur net investment because they create far more opportunities than they destroy, but the purpose of a carbon cap is above all to reduce the use of many existing technologies, and innovation is a (hopefully) mitigating byproduct. If you want a better analogy, think of what happened to the capital stock of eastern European countries in the years immediately following 1989. Suddenly their economies were open to international trade, and they were loaded with production facilities that cranked out goods that no one would buy any more. The result was a massive writeoff that plunged millions into unemployment.
It doesn’t have to be this way here. Certainly less of our capital stock is at risk from a carbon cap than in the eastern European case. Even more important is the fact that we are in a position to anticipate the problem; 1989 was a big unexpected shock. But we can’t plan ahead if we don’t see what’s coming. This is why it isn’t helpful to highlight the capital-replacing side of climate mitigation without taking note of the likely hit to existing investments. And to return to the current crisis, we should know by now that there are significant feedbacks from asset values to incomes, employment and even system stability.
Thursday, April 30, 2009
If There’s a Difference in Means Among White v. Black – Byron York Thinks the White Mean is the Actual Number
Byron York offended a lot of us with the following:
Goldberg himself was offended by the criticism noting:
No Byron – we were not offended by your noting that there is a difference between the mean responses of blacks v. whites. Let me turn the microphone over to Brad DeLong for an explanation of what offended us:
He later decides to qualify what he was trying to say with this “actually”. Maybe Mr. York should take remedial writing lessons before he is allowed to pen another op-ed.
the president and some of his policies are significantly less popular with white Americans than with black Americans, and his sky-high ratings among African-Americans make some of his positions appear a bit more popular overall than they actually are. Asked whether their opinion of the president is favorable or unfavorable, 49 percent of whites in the Times poll say they have a favorable opinion of Obama. Among blacks the number is 80 percent.
Goldberg himself was offended by the criticism noting:
It seems worthwhile to point that out that there are differences within the group -- something that is done all the time with political polls.
No Byron – we were not offended by your noting that there is a difference between the mean responses of blacks v. whites. Let me turn the microphone over to Brad DeLong for an explanation of what offended us:
For York, "actually" means "what white people think."
He later decides to qualify what he was trying to say with this “actually”. Maybe Mr. York should take remedial writing lessons before he is allowed to pen another op-ed.
Wednesday, April 29, 2009
Hail Fellow, Well Met
Oh this is more braggadocio, but what the heck. I have been invited by James Galbraith, Chair of the Board of Directors of Economists for Peace and Security to be one of their Fellows. I have accepted the invitation. They were founded in 1989 originally as Economists Against the Arms Race, with Kenneth Arrow and Lawrence Klein as their original chairs.
While I am blathering about such stuff, one of the founders and still much involved with the group is the Father of Regional Science, Walter Isard. He served on the thesis committee of my major professor, Eugene Smolensky, at Penn. The chair of that committees was the Father of Happiness Studies, Richard Easterlin. He and I have discussed our common "intellectual ancestry." So, his major prof was Simon Kuznets, whose major prof was Wesley Clair Mitchell, whose major prof was Thorstein Veblen, whom I do not mind being intellectually descended from at all. It was only quite recently that he and I sorted this out.
While I am blathering about such stuff, one of the founders and still much involved with the group is the Father of Regional Science, Walter Isard. He served on the thesis committee of my major professor, Eugene Smolensky, at Penn. The chair of that committees was the Father of Happiness Studies, Richard Easterlin. He and I have discussed our common "intellectual ancestry." So, his major prof was Simon Kuznets, whose major prof was Wesley Clair Mitchell, whose major prof was Thorstein Veblen, whom I do not mind being intellectually descended from at all. It was only quite recently that he and I sorted this out.
Final Sales of Domestic Products Fell Dramatically Too
Via Brad DeLong, CNBC gives us a bad news, good news story on the economy:
Brad similarly notes:
To their credit, Brad and CNBC also noted that BEA reported that real final sales of domestic product ,that is GDP less change in private inventories, fell by only 3.4 percent on an annualized basis during the first quarter. The decline during the previous quarter, however, was 6.2 percent. Pardon me – but I don’t see much of a silver lining or a bright sign.
The U.S. economy contracted at a surprisingly sharp 6.1 percent rate in the first quarter as exports and business inventories plummeted. The drop in gross domestic product, reported by the Commerce Department on Wednesday, was much steeper than the 4.9 percent annual rate expected by economists and followed a 6.3 percent decline in the fourth quarter … But the sharp drawdown in inventories is good news as it suggests that manufacturers and retailers have reduced the stock of unsold merchandise to manageable levels and could be instrumental in pulling the economy out of recession.
Brad similarly notes:
That means that production this spring will be a full 3.5% below what it was in the second quarter of last year, when it ought to be 3.0% above. The only bright sign is that so much of the decline was a fall in inventories.
To their credit, Brad and CNBC also noted that BEA reported that real final sales of domestic product ,that is GDP less change in private inventories, fell by only 3.4 percent on an annualized basis during the first quarter. The decline during the previous quarter, however, was 6.2 percent. Pardon me – but I don’t see much of a silver lining or a bright sign.
Tuesday, April 28, 2009
My Problem with Kornai
Actually, he seems like a very nice guy, a scholar in love with economics and with a mild social democratic inclination. As mentioned in a previous post, I have just (belatedly) read his memoirs, By Force of Thought. He went through a fascinating transformation in the years leading up to and following the revolution of 1956 (Hungary), and I’m sympathetic to many of his insights into economic theory and methodology. By any standard, he is a giant within the discipline.
Nevertheless, I also found that his self-examination revealed for me the source of his dogmatism during the crucial transition period of the early 1990s. Readers may recall that Kornai was one of the loudest voices for the view that there could be no middle way, that ex-communist countries had to embrace private enterprise capitalism without holding back, so that one day they might be in a position to soften the edges and introduce the elements of a more mixed economy. As one of those labeled naive by Kornai, I tried to imagine a different path.
Now I understand where he was coming from. The man had fallen out of love with Marx, his teenage crush, but he kept faith all his life with the platonic impulse in Marx—the inclination to see the world as simply the special case of essences like capitalism, socialism, or other overarching orders. Just as Marx wanted us to exit from the universe of capitalism into the alternate realm of socialism, Kornai wants us to go in the other direction. For him there could be no in-between; it is a matter of replacing one mode of production with another.
In my view, this compartmentalist perspective is one of Marx’ most pernicious creations. Before his time, only utopians imagined such ruptures; after Marx it became respectable social science. Here is not the place to dispute it, but I strongly question the premise on which this approach is based; I do not see any fundamental discontinuities between social systems. Lumpiness, yes, but that is the case within as well as between. For me, a public library is a communist institution in a capitalist world. Organize more goods into the form of libraries and you shift the balance between communism and capitalism. I see nothing to be gained from positing that a library in capitalism is a different beast from a library in some other mode of production. I’m not arguing against system-level forces, just against the view that there are just a few predetermined configurations of economic and political life, hardened against the step-by-step alteration of detailed institutions and policies. But Kornai explicitly takes the opposite stance and credits Marx for it.
It’s a shame. He threw out much of the good stuff in Marx, his many insights into production and financial systems earned from long hours at the British Museum, and kept the most questionable. But he seems like someone you would like to discuss this with over a good meal and a bottle of wine.
Nevertheless, I also found that his self-examination revealed for me the source of his dogmatism during the crucial transition period of the early 1990s. Readers may recall that Kornai was one of the loudest voices for the view that there could be no middle way, that ex-communist countries had to embrace private enterprise capitalism without holding back, so that one day they might be in a position to soften the edges and introduce the elements of a more mixed economy. As one of those labeled naive by Kornai, I tried to imagine a different path.
Now I understand where he was coming from. The man had fallen out of love with Marx, his teenage crush, but he kept faith all his life with the platonic impulse in Marx—the inclination to see the world as simply the special case of essences like capitalism, socialism, or other overarching orders. Just as Marx wanted us to exit from the universe of capitalism into the alternate realm of socialism, Kornai wants us to go in the other direction. For him there could be no in-between; it is a matter of replacing one mode of production with another.
In my view, this compartmentalist perspective is one of Marx’ most pernicious creations. Before his time, only utopians imagined such ruptures; after Marx it became respectable social science. Here is not the place to dispute it, but I strongly question the premise on which this approach is based; I do not see any fundamental discontinuities between social systems. Lumpiness, yes, but that is the case within as well as between. For me, a public library is a communist institution in a capitalist world. Organize more goods into the form of libraries and you shift the balance between communism and capitalism. I see nothing to be gained from positing that a library in capitalism is a different beast from a library in some other mode of production. I’m not arguing against system-level forces, just against the view that there are just a few predetermined configurations of economic and political life, hardened against the step-by-step alteration of detailed institutions and policies. But Kornai explicitly takes the opposite stance and credits Marx for it.
It’s a shame. He threw out much of the good stuff in Marx, his many insights into production and financial systems earned from long hours at the British Museum, and kept the most questionable. But he seems like someone you would like to discuss this with over a good meal and a bottle of wine.
Monday, April 27, 2009
Lower Manhattan Residents “Sensitive” to Planes Flying Over
I had to leave my office at 10:15 this morning and stroll around Battery Park for a while. Reuters explains why:
We are sensitive? Well yea. At least it was a nice day to take a stroll.
An Air Force fighter jet and one of President Barack Obama's official planes on Monday flew low over the Statue of Liberty in an approved photo opportunity that startled some New Yorkers who have memories of the September 11 attacks. New York City officials notified some businesses but not all city agencies or the general public. People in New York remain sensitive to such incidents in lower Manhattan, site of the 2001 attacks involving hijacked airliners that destroyed the Twin Towers of the World Trade Center.
We are sensitive? Well yea. At least it was a nice day to take a stroll.
The Economics of Delusion and the Delusion of Economics
by the Sandwichman
"Mutually Assured Delusion" is a great name for it. Interesting that the paper by Roland Benabou that Peter Dorman cited only mentions climate change in passing:
UPDATE: Maybe we shouldn't be using the word "growth". It's a misleading euphemism, like "national security". When the components of "growth" are divorced from any definite relationship to human well being and conservation of the natural world, then what "grows" is primarily delusion. The more accurate title for the Sustainable Development Commission's report would then have been "Prosperity Without Delusion."
I realize economists like to have it both ways with economic growth. On the one hand, there is "nothing new" in critiques of GDP. They "know it's not perfect." On the other hand, they insist on the serviceability of the measure for estimation and goal setting purposes -- as if there is some 'essence' of utility in the measure that escapes its structural defects. There is no such essence. What grows faster than GDP itself as GDP growth becomes the target of policy is the proportion of GDP that does not contribute to or even detracts from welfare and conservation. That "it's not perfect but it's still useful" dodge fits precisely the definition of cognitive dissonance.
"Mutually Assured Delusion" is a great name for it. Interesting that the paper by Roland Benabou that Peter Dorman cited only mentions climate change in passing:
The types of enterprises that are most prone to collective delusions are thus:Benabou's work, however, offers an intriguing theoretical model to back up Tim Jackson's assertions in Prosperity Without Growth about delusional expectations for a technological fix to climate change:
(a) Those involving new technologies, products, markets or policies that combine a highly profitable upside and a potentially disastrous downside. High-powered incentives, when prevalent throughout the organization (e.g., performance bonuses affected by common market uncertainty) have a similar effect.
(b) Those in which participants have only limited exit options and, consequently, a lot riding on the soundness or folly of other’s judgements. Such dependence typically arises from irreversible or illiquid prior investments: specific human capital, professional reputation or network, company pension plan, etc. Alternatively, it could reflect the large-scale nature of the problem: state of the economy, quality of the government, global warming, etc.
Never mind that decoupling isn’t happening. Never mind that no such economy has ever existed. Never mind that all our institutions and incentive structures continually point in the opposite direction. The dilemma, once recognised, looms so dangerously over our future that we are desperate to believe in miracles. Technology will save us. Capitalism is good at technology. So let’s just keep the show on the road and hope for the best.So, that's the choice: mutually assured delusion or prosperity without growth.
We can’t entirely dismiss the potential for technological breakthroughs. In fact we already have at our disposal a range of technologies that could begin to deliver effective change. But the idea that these will emerge spontaneously by giving free reign to the competitive market is patently false.
This delusional strategy has reached its limits. We stand in urgent need of a clearer vision, more honest policy-making, something more robust in the way of a strategy with which to confront the dilemma of growth.
UPDATE: Maybe we shouldn't be using the word "growth". It's a misleading euphemism, like "national security". When the components of "growth" are divorced from any definite relationship to human well being and conservation of the natural world, then what "grows" is primarily delusion. The more accurate title for the Sustainable Development Commission's report would then have been "Prosperity Without Delusion."
I realize economists like to have it both ways with economic growth. On the one hand, there is "nothing new" in critiques of GDP. They "know it's not perfect." On the other hand, they insist on the serviceability of the measure for estimation and goal setting purposes -- as if there is some 'essence' of utility in the measure that escapes its structural defects. There is no such essence. What grows faster than GDP itself as GDP growth becomes the target of policy is the proportion of GDP that does not contribute to or even detracts from welfare and conservation. That "it's not perfect but it's still useful" dodge fits precisely the definition of cognitive dissonance.
Sunday, April 26, 2009
The Tax Debate: Is High Income Due to Effort or Luck?
With hat tip to Mark Thoma, Robert Frank offers us this:
The role that this observation plays in the debate over how progressive the tax system should be was explained by Hal Varian:
Contrary to what many parents tell their children, talent and hard work are neither necessary nor sufficient for economic success. It helps to be talented and hard-working, of course, yet some people enjoy spectacular success despite having neither attribute. (Lip-synching members of boy bands? Money managers who bet clients’ retirement savings on subprime-mortgage-backed securities?) Far more numerous are talented people who work very hard, only to achieve modest earnings. There are hundreds of them for every skilled, perseverant person who strikes it rich — disparities that often stem from random events.
The role that this observation plays in the debate over how progressive the tax system should be was explained by Hal Varian:
In the simplest version of the Mirrlees model, taxpayers differ only in their ability: how much they can produce with a given amount of effort. One striking result of this model is that those at the very top of the income scale should face low marginal rates. This result emerges from a detailed mathematical analysis, but the intuition is not hard to explain. Let us assume, for the sake of argument, that Bill Gates made $1 billion in 2000, an amount larger than any other American taxpayer. Suppose further that despite the best efforts of his accountants, he ended up paying 40 cents of the last dollar he earned to the Internal Revenue Service. Consider the following thought experiment: drop the marginal tax rate from 40 percent to zero for all incomes above a billion dollars. The I.R.S. won't lose any revenue from this reduction, since no one has an income larger than $1 billion. And who knows -- the lower marginal rate might encourage Mr. Gates to work a little harder in 2001, producing new products that would make him, and the rest of us, better off. Of course, the fact that it pays to reduce the marginal tax rate for billionaires doesn't say much about what tax rates should be like for mere millionaires, a point that has been emphasized by Professor Mirrlees himself and confirmed by subsequent researchers, like Peter Diamond of the Massachusetts Institute of Technology and Emmanuel Saez of Harvard. But the intuitive argument presented above is pretty compelling: if income depends only on ability, those at the very top of the income-ability distribution should face low marginal tax rates. But perhaps this model is too simple. One might well argue that Mr. Gates, as productive as he is, doesn't owe his success entirely to ability: there was a lot of luck involved, too. And, if truth be told, that's probably true even for mere millionaires. So let's consider a different model: one in which differences in income are a result only of luck and have nothing to do with ability. In this case, the optimal income tax may well involve taxing billionaires at very high marginal rates. True, aspiring billionaires won't work quite as hard, since the after-tax reward from hitting $1 billion has been reduced. But the chances of becoming a billionaire are pretty low anyway, so taxing billionaires at a high rate won't really discourage much effort by those hoping to become one. Thus a model where luck is the driving force tends to yield a more progressive optimal tax than a model where ability is the driving force. This is about as far as theory can take us, but it highlights the critical question: How much income results from ability and how much from luck?
A Different Housing Crisis
Here is a hint of a different dimension of the crisis -- not a main cause, but something that could be significant.
When we would drive through West Virginia back in the late 50s & early 60s, I was struck by the unemployed coal miners sitting on their porches. Their houses were quite nice, but nobody wanted to buy them because the economy was dead.
Later, my brother moved to Youngstown, Ohio after then steel mills had shut down. I remember when he called me bemoaning that a tornado missed his home by only a few hundred yards. At the time, arson was the most important industry in the town.
Theoretically, we might expect that many people would respond to unemployment by searching for better opportunities. But the steelworkers in Youngstown and the coal miners in West Virginia would take such a large capital loss in selling their homes if they chose to relocate.
Later, I read an article that seemed to validate my intuition.
Andrew Oswald's proposed that home ownership was the most reasonable explanation for differences in unemployment rates between countries. The scatter graph has a very impressive fit.
Oswald, Andrew J. 1999. "The Housing Market and Europe's Unemployment: A Non-Technical Paper."
http://www2.warwick.ac.uk/fac/soc/economics/staff/faculty/oswald/homesnt.pdf
A new census report found that the rate at which people change their residences has declined. Perhaps someone will investigate the interaction between the downturn in mobility and the effect on the pace of recovery.
http://www.census.gov/Press-Release/www/releases/archives/mobility_of_the_population/013609.html
Here is the New York Times' take on the subject.
Roberts, Sam. 2009. "Slump Creates Lack of Mobility for Americans." New York Times (23 April): p. A 1.
http://www.nytimes.com/2009/04/23/us/23census.html?_r=1
"Stranded by the nationwide slump in housing and jobs, fewer Americans are moving, the Census Bureau said Wednesday. The bureau found that the number of people who changed residences declined to 35.2 million from March 2007 to March 2008, the lowest number since 1962, when the nation had 120 million fewer people."
"Experts said the lack of mobility was of concern on two fronts. It suggests that Americans were unable or unwilling to follow any job opportunities that may have existed around the country, as they have in the past. And the lack of movement itself, they said, could have an impact on the economy, reducing the economic activity generated by moves."
"Joseph S. Tracy, research director of the Federal Reserve Bank of New York, said the lack of mobility meant less income for movers and the people they employ and less spending on renovation and on durable goods like appliances. But, Dr. Tracy said, the most troubling prospect is that people were no longer able to relocate for work. "The thing that would be of deeper concern is if job-related moves are getting suppressed and workers are not getting re-sorted to the jobs that best use their skills," he said. "As the labor market started to improve, if mobility stays low, you can worry about the allocation of workers"."
"The American Moving and Storage Association said the number of people changing residences had been dropping for four years and fell 17.7 percent from 2007 to 2008. The first quarter of 2009 is likely to be even worse, the trade group said. "We saw a standstill in new home construction, so there was no domino effect from people moving," John Bisney, a spokesman, said. "People are a little nervous about getting a mortgage. And the recession is so broad-based it's not as if you can pull up stakes and move to a part of the country that's growing." Jed Smith, a research director for the National Association of Realtors, said that on average it took a homeowner 10.5 months to sell a house in 2008 compared with 8.9 months in 2007."
"In its report Wednesday, the Census Bureau said that Americans' mobility rate, which has been declining for decades, fell to 11.9 percent in 2008, down from 13.2 percent the year before and setting a post-World War II record low. Moves between states dropped the most, to half the rate recorded at the beginning of this decade."
When we would drive through West Virginia back in the late 50s & early 60s, I was struck by the unemployed coal miners sitting on their porches. Their houses were quite nice, but nobody wanted to buy them because the economy was dead.
Later, my brother moved to Youngstown, Ohio after then steel mills had shut down. I remember when he called me bemoaning that a tornado missed his home by only a few hundred yards. At the time, arson was the most important industry in the town.
Theoretically, we might expect that many people would respond to unemployment by searching for better opportunities. But the steelworkers in Youngstown and the coal miners in West Virginia would take such a large capital loss in selling their homes if they chose to relocate.
Later, I read an article that seemed to validate my intuition.
Andrew Oswald's proposed that home ownership was the most reasonable explanation for differences in unemployment rates between countries. The scatter graph has a very impressive fit.
Oswald, Andrew J. 1999. "The Housing Market and Europe's Unemployment: A Non-Technical Paper."
http://www2.warwick.ac.uk/fac/soc/economics/staff/faculty/oswald/homesnt.pdf
A new census report found that the rate at which people change their residences has declined. Perhaps someone will investigate the interaction between the downturn in mobility and the effect on the pace of recovery.
http://www.census.gov/Press-Release/www/releases/archives/mobility_of_the_population/013609.html
Here is the New York Times' take on the subject.
Roberts, Sam. 2009. "Slump Creates Lack of Mobility for Americans." New York Times (23 April): p. A 1.
http://www.nytimes.com/2009/04/23/us/23census.html?_r=1
"Stranded by the nationwide slump in housing and jobs, fewer Americans are moving, the Census Bureau said Wednesday. The bureau found that the number of people who changed residences declined to 35.2 million from March 2007 to March 2008, the lowest number since 1962, when the nation had 120 million fewer people."
"Experts said the lack of mobility was of concern on two fronts. It suggests that Americans were unable or unwilling to follow any job opportunities that may have existed around the country, as they have in the past. And the lack of movement itself, they said, could have an impact on the economy, reducing the economic activity generated by moves."
"Joseph S. Tracy, research director of the Federal Reserve Bank of New York, said the lack of mobility meant less income for movers and the people they employ and less spending on renovation and on durable goods like appliances. But, Dr. Tracy said, the most troubling prospect is that people were no longer able to relocate for work. "The thing that would be of deeper concern is if job-related moves are getting suppressed and workers are not getting re-sorted to the jobs that best use their skills," he said. "As the labor market started to improve, if mobility stays low, you can worry about the allocation of workers"."
"The American Moving and Storage Association said the number of people changing residences had been dropping for four years and fell 17.7 percent from 2007 to 2008. The first quarter of 2009 is likely to be even worse, the trade group said. "We saw a standstill in new home construction, so there was no domino effect from people moving," John Bisney, a spokesman, said. "People are a little nervous about getting a mortgage. And the recession is so broad-based it's not as if you can pull up stakes and move to a part of the country that's growing." Jed Smith, a research director for the National Association of Realtors, said that on average it took a homeowner 10.5 months to sell a house in 2008 compared with 8.9 months in 2007."
"In its report Wednesday, the Census Bureau said that Americans' mobility rate, which has been declining for decades, fell to 11.9 percent in 2008, down from 13.2 percent the year before and setting a post-World War II record low. Moves between states dropped the most, to half the rate recorded at the beginning of this decade."
Saturday, April 25, 2009
Cognitive Dissonance and Groupthink
No sooner do I rail against the avoidance of cognitive dissonance theory by behavioral economists than a major paper employing CD in new and powerful ways appears: "Groupthink: Collective Delusions in Organizations and Markets" by Roland Benabou. This paper places CD in a social context, where a club good is being produced, and individual effort depends on estimations of the future, but there is also utility or disutility from the state of expectation (influenced by information). Individuals “choose” to accept or reject new information (or combine the two in mixed strategy form), as in most formalizations of CD. The result is a social process that exhibits less or more CD at the individual level. Here is the abstract:
I develop a model of (individually rational) collective reality denial in groups, organizations and markets. Whether participants’ tendencies toward wishful thinking reinforce or dampen each other is shown to hinge on a simple and novel mechanism. When an agent can expect to benefit from other’s delusions, this makes him more of a realist; when he is more likely to suffer losses from them this pushes him toward denial, which becomes contagious. This general “Mutually Assured Delusion” principle can give rise to multiple social cognitions of reality, irrespective of any strategic payoff interactions or private signals. It also implies that in hierarchical organizations realism or denial will trickle down, causing subordinates to take their mindsets and beliefs from the leaders. Contagious “exuberance” can also seize asset markets, leading to evidence-resistant investment frenzies and subsequent deep crashes. In addition to collective illusions of control, the model accounts for the mirror case of fatalism and collective resignation. The welfare analysis differentiates valuable group morale from harmful groupthink and identifies a fundamental tension in organizations’ attitudes toward free speech and dissent.
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