Coming Soon: The Invisible Handcuffs: How Market Tyranny Stifles the Economy by Stunting Workers.

I am happy to report that Monthly Review has announced that the Invisible Handcuffs will appear next January. I am going over Michael Yates excellent copyedits now. Here is the announcement.

http://www.monthlyreview.org/books/invisiblehandcuffs.php

Brief Notes from China

We are getting ready to leave Shanghai. The timing of the trip was fascinating because China seems to be ready to move to a new stage of development.

For example, just today I read that the government is instituting a 5% energy tax in the remote Xinjiang province. The response to the Honda strike and the string of suicides at the Foxconn factory were critical of management. Of course, the ownership of these plants was not Chinese; even so, the China Daily has pushing the line that it’s time to leave the low-wage economy behind. China is also beginning to take more control over the strategic minerals, of which it has large share of the world’s production.

The taxes levied on real estate knocked the Shanghai stock market down quite a bit. The papers have also been taking a critical attitude towards the wanton demolition of neighborhoods to make way for expensive commercial projects.

All of these moves are consistent with intelligent social democratic principles, but I have difficulty in seeing socialism here. At the same time, virtually everybody we encountered treated the Chinese economy and socialist.

I tried to get a feel for the real estate bubble. Real estate construction in Shanghai seems to have calmed down a bit since I was here a few months ago, but the rate of construction Suzhou and Hangzhou was phenomenal.

Manufacturing Discontent

The World Association for Political Economy gave 8 awards for outstanding achievement in political economy in the 21st century. My book, Manufacturing Discontent, received one of them. Here is the brief note, which I wrote for the occasion:

Manufacturing Discontent is a study of social relations, not Marx’s social relations of production, but the social relations — real or imagined — of the people who live and work under the yoke of capitalism. In this sense, the book is meant as a modest supplement to Kapital, which was a deep analysis of the social relations of the extraction of surplus value from the working class.

A longstanding project of capital is to shape virtually every aspect of people’s lives in order to meet its needs. For example, as part of the management of the interaction of social relations inside and outside the workplace, spokesmen of capital tell workers that they should identify themselves as consumers instead of as workers. Rebellion against degrading and debilitating exploitation at the workplace is foolish; instead, intelligent workers should embrace their jobs, by identifying their work as a welcome opportunity to enjoy the benefits of consumption. In effect, the circuits of consumption and reproduction become harnessed to the social relations of production.

These social relations also help to determine the quantity of surplus value. For example, one dimension of this process is the management of the burdens of risk. Today we are reminded that when crises break out, out the same workers are told that their wages, their consumption, or their pensions are problems that must be corrected.

Do All 222 of These Economists Think the Multiplier for Changes in Government Spending is Negative?

John Boehner uses Twitter to claim that economists think reductions in government spending will lead to an economic recovery. He has cited this letter signed by 222 economists as the basis for his absurd claim. Let’s just say this is an opportunity for each of the 222 economists to either distance himself from Congressman Boehner’s absurd remark or to explain why they think the multiplier is negative.

Mandatory Arithmetic

I propose that no one should be allowed to comment on current budget issues, or at least be taken seriously, unless they explicitly deal with the fundamental arithmetic, which looks like this:

GDP * (fiscal balance / GDP + net private deficit or savings / GDP) ≡ Current account surplus or deficit

I don’t care whether you say prayers to Friedrich Hayek before going to sleep at night, or whether you wake up at 3 am to make an offering at your hidden shrine to Chairman Mao, this simple identity has to hold. It is true continuously at each moment and also over any time span of interest.

Suppose your country is running a fiscal deficit, as most are right now. There are calls to reduce it. In order to have an intelligent response, you need to view the situation in light of the compulsory arithmetic. Do you see a way to reduce the current account deficit? Are you assuming that GDP will fall? Or are you expecting, or forcing, private borrowing to increase? You can’t fiddle with one term in an identity without dealing with the consequences for the other terms.

I would now puff up my chest and demand that reporters, politicians and everyone else reacquaint themselves with Econ 101, except, of course, that Econ 101, which say almost nothing about this identity or how it applies in real life, is itself a big part of the problem.

What’s a Flexible Labor Market?

Now that countries like Greece and Spain are being asked to engineer an internal devaluation of 20% or more, a scenario that is quasi-apocalyptic in terms of the implicit fall incomes and rise in unemployment it would entail, we may have occasion to mourn the absence of centralized wage bargaining, as in, say, Austria. Once upon a time economists denounced such systems as “inflexible”, because they didn’t reflect, with pinpoint accuracy, the shifting conditions in each firm. Now, however, it is hard to miss the point that they provide flexibility on an economy-wide level that makes adjustment less excruciating. Just mentioning.

A Political Economy Moment

This is a critical moment for economic policy in the industrialized countries. After a year and a half of emergency rescue, with large fiscal deficits and rock-bottom interest rates, governments are beginning to pull back. Especially in countries with large current account deficits, stimulus spending is being withdrawn, and central banks are under pressure to begin raising rates and tightening money. The threat of deflation and cascading insolvencies in the financial system are so yesterday; today’s threat is said to be inflation and sovereign default.

If you survey the center-to-left economics blogs, including this one—economists who see the world at least in part through Keynesian eyes—you will find howls of protest. It is simply irrational, we say, to allow this slump to run its course. There is no threat of inflation at all, which is actually a problem, since a bit of inflation would be medicine against effectively high nominal interest rates at the zero lower bound. And every indication is that the recovery under way owes its feeble pulse to the lingering effects of last year’s stimulus.

But is this just a problem of economic analysis? Is it only that New, Post and other Keynesians haven’t been persuasive enough? Does economic argument and evidence drive policy?

In a sense yes: those who make the decisions summon economic arguments to justify their actions. But who gets to make the decisions and what arguments they find appealing is not the outcome of academic seminars. What got us into this mess in the first place, and what now threatens to throw us back into the maelstrom, is the political hegemony of the “finance perspective”, the interests and outlook of those whose main concern is maximizing (and now simply protecting) the value of their financial assets.

Within the world of elite interests, this is almost a mass constituency. While the bulk of such assets are held by an infinitesimal few, perhaps the top 10-20% of the population in the industrialized countries have significant financial wealth and actively monitor their returns. Their understanding of how economies work and what priorities policy-makers should adhere to follow from their personal position. Inflation is a constant threat to asset-holders. They fear the laxity of central banks as well as the buildup of government debt, which can serve as an incentive to future inflation. They want their portfolios to have a component of absolutely risk-free government securities, and the very whisper of sovereign default chills them to the core. They believe in the inherent reasonableness of financial markets and believe that anyone who wishes to borrow from them should demonstrate their prudence and fiscal rectitude. They were willing to relax their principles temporarily during the panic, but now that they have caught their breath they want to see a return to “sound” practices. Governments will bend to their wishes not because they have better arguments, but because they hold power.

Don’t get me wrong. I am not making the crude claim that policy is driven directly by interests. In fact, I believe that, if they get their way, holders of financial assets will suffer along with the rest of us. (Not as much, of course: succumbing to a haircut because of debt deflation cannot be compared to losing one’s job and not being able to meet basic needs.) The process is more complicated: where one sits in society and the kinds of problems one typically has to solve leads to a way of thinking, and this manner of thinking then informs politics. For centuries, the finance perspective has played a central role in economic theorizing, and there is ordinarily a body of research to support it. What I am proposing is this: economic orthodoxy is regaining control over policy because it reflects the outlook of those who occupy the upper reaches of government and business.

Up to this point, the Great Economic Event we are passing through has not caused even a hint of political realignment, and that is why policy is returning to the old normal.

The Role of Home Equity Extraction

Daniel Cooper of the Boston Fed has posted a summary of his recent study of household consumption and its relationship to home equity extraction. He uses the Panel Study on Income Dynamics (PSID), because it has detailed information on all the relevant household financial information. What Cooper wants to know is, to what extent did households use their rising home values during the bubble years to finance higher levels of consumption? His study is useful in many ways but ultimately doesn’t answer the question he is asking. The shortcomings are instructive.

First the results. The summary can be seen in this table, a condensed version of Table 8 in Cooper’s original paper.


It appears that at no time was the mortgage ATM machine used to finance more than twenty cents per dollar of equity extraction. This seems to suggest that the housing bubble played a minor role in financing the consumption boom of the 00's, and that the deflation of this bubble should be having little effect on consumer demand during the current period.

There are two significant problems. One is on the household level: Cooper’s analysis tries (not entirely successfully, but that is another matter) to control for the endogeneity of the equity extraction decision—the impact that changes in household income have on the decision of households to pull money out of their homes via refinancing. The idea is to isolate the role of equity extraction as an “independent” decision. From a macroeconomic standpoint, however, this is not appropriate. Even if equity extraction is simply a conduit for economic influences originating elsewhere, its role is still significant. After all, it is the bubble that opened this channel and the deflation of the bubble that is shutting it down.

The bigger problem, however, is that the significance of equity extraction for aggregate consumption cannot be determined by adding up each household separately. Home repairs are a direct component of aggregate demand, for example, and indirectly stimulate the demand of those who get jobs in that line of work. Also, if one household saves the income it extracts from its rising home equity, and if this money is used to finance the consumption of another household, macroeconomically it’s all the same. (As mother used to say when you tried to separate the food on your plate, it all mixes in your stomach.)

The Cooper exercise is interesting from a sociological point of view. His more detailed work uses PSID data to get at the differences in equity extraction across different income groups and according to other demographic criteria. I learned a lot. Nevertheless, it doesn’t alter the systemic significance of the rise and fall of equity extraction for financing domestic demand during a period of aggregate net borrowing (global imbalances).

Protect the Free Market From Consumer Choice

Not content to keep the tyrannical hands of government off Medicare, the Tea Party now wants to keep the private spending decisions of consumers out of the Free Market. So we hear in a report on a rally held in Phoenix in support of Arizona’s new immigration law:

“We are doing this to crush any boycott against the free market,” said Tina Loudon, a Tea Party member from St. Louis who helped organize the rally. “Arizona has a sovereign right to enforce immigration laws on the books.”

I guess the campaign against statism changes course when the state goes after people the TPers don’t like. And whatever you do, don’t let rock stars or other private individuals challenge government decisions through the nefarious methods of supply and demand.

Deficit Dementia

Across the industrialized world, governments have responded to the economic crisis by running enormous fiscal deficits, rediscovering a deep, previously unacknowledged love for the legacy of John Maynard Keynes. Now there seems to be a gathering consensus that these deficits are unsustainable and have to be cut as quickly as possible. This seems to be the word from the Group of 30, the OECD, the EU, Obama’s deficit commission and the US Congress.

Genuine Keynesians have to be worried. If so many governments simultaneously decide to withdraw stimulus, the combined effect could well be to tip the world into a second round of economic tailspin. Just for starters, assume a multiplier of one; then the average reduction in fiscal deficits as a percentage of combined GDP has to be deducted from projected growth rates. Given plausible numbers on both sides, the result could well be negative. A multiplier greater than one, particularly in light of trade spillover effects, pushes us further into the red.

But the economic myopia is, if anything, even more fundamental. The deficit hawks seem to have forgotten, if they ever learned, the granddaddy of all accounting identities: a country’s current account is equal to the sum of its domestic budget positions. If you hold the CA constant, a reduced fiscal deficit is feasible only if it is offset by a corresponding increase in the indebtedness of households and firms. Of course, it was the inability of the private sector to sustain its borrowing that led to the crisis, and the runup in fiscal red ink, in the first place.

Notice that the biggest pressure to cut government spending is being felt in the countries running current account deficits, like the US, the UK and the peripheral members of the eurozone. This is not surprising, since, according to the laws of arithmetic, they must also have the biggest domestic budget deficits. If squeezing the public sector could produce expenditure-switching, so that countries on a fiscal diet would also find their way to external balance without economic collapse, that would be the proper medicine. Unfortunately, there is no evident channel by which this can happen. The US and the UK are unlikely to see a substantial devaluation as a result of their fiscal rectitude, and the folks in the eurozone can’t devalue at all. If there is to be rebalancing as a result of these cuts, it will happen only through shrinkage of incomes and employment.

So that’s what the arithmetic tells us: fiscal cuts must equal the sum of increased private indebtedness plus decreased external deficits, where the latter are driven by economic contraction. Lovers of historical irony will note that this is exactly the circumstance Keynes was responding to in the 1930s, informed by his prior analysis of the imbalance-generating Treaty of Versailles. His insistence on the need for symmetry in adjustment was directed against the foolhardy insistence that deficit countries must shrink and shrink, dragging down the surplus countries as well.

U.Va Fights Back Against AG Cuccinelli Attack On Academic Freedom

Today's Washington Post metro section reports in "U-Va begins court fight of subpoena by Cuccinelli" that initially their Board was going to go along with his request for emails and records of climatologist and former Environmental Sciences prof, Michael Mann, father of the "hockey stick" diagram. However, piles of petitions from academics across the country, including critics of the scientific work of Mann, pushed them and U-Va prez John Casteen to change their stance and resist the demand by their supposed attorney. After all, the state attorney general is supposedly the attorney of state agencies like the University of Virginia, so it is a bit odd for them to be in a court against each other.

Quite aside from the matter of political attacks on academic freedom involved here, Cuccinelli seems not to have much of a leg to stand on regarding even the trival legal issues. So, he is acting on the basis of an anti-fraud statute passed in 2002 that is to catch people engaging in fraud with state funds. Mann got five grants for his research, but four of them were federal grants, and the only one that was a state grant was granted in 2001, the year before the statute was passed.

Now there are people defending this outrageous nonsense, such as Sheldon Steinbach, "a lawyer who represented the American Council of Education for 37 years," who defended Cuccinelli. "Sometimes upon more detailed explanation you might determine people have, indeed, cooked the books." Let us be clear. This is not a matter of Mann "cooking the books" to waste state funds on prostitutes in Las Vegas. Cuccinelli is hoping to find something like the "use a trick" quote from the East Anglia climategate emails, which is not a matter of "cooking books" but simply a reference to using better statistical methods, as anybody who knows anything about this knows. Apparently Steinback is not among them.

In any case, I applaud the Board and the President at the University of Virginia for standing up to this utterly indefensible assault on academic freedom by the Commonwealth's Attorney General. More power to them, and may the courts rule in their favor. As it is, President Casteen has accurately stated that, "The attorney general's order has sent a chill throught the Commonwealth's colleges and universities."

Senator Mitch Herbert Hoover McConnell

Real state and local government purchases (2005$) had fallen from $1543.7 billion per year as of 2007QIV to $1537 billion per year as of 2009QIV and then dropped to $1521.7 billion last quarter. Economists understand the problem with state governments needing to annually balance their budgets and one of the big concerns is that such pro-cyclical fiscal policy could undermine much of the Federal fiscal stimulus – a phenomena known as 50 little Herbert Hoovers. We also have a remedy for this problem known as Federal revenue sharing if those in Washington, DC have the wisdom and courage to adopt such a sensible move.

While such wisdom and courage has been in short supply, Christina Romer makes the case for an emergency spending bill that prevent the layoff of school teachers:

The emergency spending bill before the House would address the education crisis facing communities across America -- and the jobs of hundreds of thousands of teachers are at stake. Because of continued high unemployment, state and local budgets are stressed to the breaking point. Many states and localities are drastically cutting education spending. This year school districts in Hawaii went to only four days of instruction a week. In many other districts, officials are ending the school year early to save money. Most worrisome, hundreds of thousands of public school teachers are likely to be laid off over the next few months. As many as one out of every 15 teachers could receive a pink slip this summer, the White House Council of Economic Advisers estimates. These layoffs would be spread throughout the country -- in urban, rural and suburban districts. Such layoffs are terrible for teachers, for communities and, most important, for students. For the families directly affected, layoffs mean not only lost wages but often lost homes and postponed dreams. Because unemployed teachers have to cut back on spending, local businesses and overall economic activity suffer. And the costs of decreased learning time and support for students will be felt not just in the next year or two but will reduce our productivity for decades to come. Additional federal aid targeted at preventing these layoffs can play a critical role in combating the crisis.

Alas, the leader of the party of no has the following concern:

"This is fiscal recklessness. And that's why even some Democrats are starting to revolt," Senate Minority Leader Mitch McConnell (R-Ky.) said in a speech on the Senate floor. "Far from doing anything about our own looming debt crisis, Democrats only seem interested in making it worse."

His call for fiscal restraint in a time when unemployment is high given weak aggregate demand can be seen as follows – far from doing anything about our weak economy, Republicans only seem interested in making it worse. OK, the Senator from Kentucky might be allowed to have one vote on fiscal policy matters even if his views on fiscal policy as dumb as those we have learned to tag as Hoover economics but why should we allow him to effectively block any action by Congress?

The Stupid!

If you read Mark Thoma's blog, you will have seen his passionate response, called "Modern Macroeconomic Theory and Fiscal Policy" to some self-styled "modern macroeconomic theorist" who claims that people like Brad Delong and Krugman who think that fiscal policy can help us out of a recession when the interest rate is at the zero bound are not modern macrotheorists and so are obviously wrong.

Thoma and Krugman's response has been to cite papers by DSGEers in which a version of the model does allow fiscal policy to work - papers by Eggertson and Woodford and others of that ilk. Read the two comments by Robert Waldman to be reminded of why he- Robert - is a national treasure. Waldman says the DSGEers cannot be presumed to have explained anything about the modern macroeconomy at all, so the idea that we have to reject the idea that fiscal policy is efficacious if a DSGE model can't show it to be is a nonsensical non sequitur.

I've looked at the latest Eggertson paper. They are all -all the fiscal-policy friendly DSGE papers, I mean- alike in making the mechanism by which fiscal policy works in a liquidity trap this: it increases expected inflation. This is not the mechanism by which it works in Keynes. Of course if it works, it increases Y and that will increase inflation and expected inflation chez Phillips/Friedman/Phelps. The expected inflation is consequence, not cause.

The reason that it works in Keynes, of course, is that it increases demand. Period. Put another way: In a liquidity trap, the problem is that the Wicksellian/Keynesian natural rate is below the expected deflation rate (the latter may be a small negative number, as it is now), which latter is the lower bound on the real rate of interest given that nominal rates can't be negative. Fiscal policy in the trap works not, or not necessarily, by reducing the lower bound, but rather by raising the natural rate above the lower bound. But this can't happen in the DSGE models, because the natural rate - what they call the natural rate, which isn't what Keynes and Wicksell meant by it - can never change. That's a fact about their ridiculous models, not a fact about the world.

Palin Attempts To Impale Obama On The Oil Spill

A column in today's Washington Post by Ruth Marcus reports such an incredible quotation from Sarah Palin, that I am simply going to reproduce it without any commentary, other than to note that it was made during a recent speech in favor of a losing tea party candidate in Idaho she favored (where there appear to have been several "tea party" candidates) and to remind one and all that she was the loudest advocate of "drill, baby, drill" back in 2008. So, Sarah Palin.

"The oil companies who have so supported President Obama in his campaign and are supportive of him now -- I don't know why the question can't be asked by the mainstream media and by others if there's any connection with the contributions made to President Obama and his administration and the support by the oil companies to the administration. If there's any connection there to President Obama taking so doggone long to get in there, to dive in there, and grasp the complexity and the potential tragedy that we are seeing here in the Gulf of Mexico."

Another Clumsy Attack On Income Redistribution Policies

This time it was in today's Washington Post Outlook section, although, well, it was a column by the president of the American Enterprise Institute, Arthur G. Brooks, "The New Culture War." This is supposed to be between "statism" and the "free enterprise system," the now-favored term by libertarians over "capitalism" as the latter is not popular among young people, but the former is. Brooks cited a poll showing that 70% of Americans approve of "the free enterprise system" and only 30% believe we would be better off "without free markets at the core of our sysytem."

OK, fine, this is believable. But then Brooks somehow decides that this 70% also believes that "free enterprise brings happiness; redistribution does not," and "that it is 30% coalition, not the 70% majority, that is fundamentally materialistic." Brooks gives no ground for any program at all in any form, whether food stamps, or social security, or medicare, or progressive income taxation, or whatever. They are all bad and not supported by the free-enterprise-loving majority. I guess this would include all those tea partiers who were opposed to Obama's "socialistic" health care reform because it might damage their free market medicare.