Month: March 2005

Post for capital theory geeks

Bryan’s central argument is the following:

In the modern world, the typical person gets richer in the typical year. Once again, this gives even perfectly patient people a reason to increase their demand for current consumption. Imagine you are going to inherit $1,000,000 next year. According to the law of diminishing marginal utility, you would want to increase your consumption now when the marginal utility is high, and pay for it by cutting back your consumption in the future when the marginal utility is low. No time preference story need apply.

I would put it differently.  The argument for positive interest rates does not require "pure time preference," but it does require assumptions about the intertemporal substitutability of consumption. Diminishing marginal utility, in the classic sense, is defined at a single point in time. But how do differing marginal utilities of consumption vary across time? How does my two millionth dollar next year compare to my one millionth dollar today (Steve Miller asks the same)? This variable is distinct from either classic time preference or classic diminishing marginal utility. For Caplan’s argument to work, we must assume that consumption tomorrow is a relatively close substitute for consumption today. 

So the Austrians are correct that we must consider "preferences across time" as a broad category behind the phenomenon of interest.  That being said, the intertemporal substitutability of consumption is closer to Irving Fisher’s notion of time preference as a marginal allocation than it is to Mises. 

Why does all this matter?  There is no quick, easily bloggable explanation.  But to race ahead to the conclusion, this extra dimension of preferences offers us some hope in explaining apparent anomalies in equity returns and market pricing of debt securities (though here is one critique).  And here are some implications for the conduct of monetary policy

Intertemporal consumption involves local complements, not substitutes, when habit formation (this link is for Bryan) is sufficiently strong.  If you would like a fun exercise, try to figure out what this implies for the term structure of interest rates in a world with zero time preference… 

And if you don’t already understand what this post is about, don’t bother trying to learn.

Markets in everything

How many times have you had a deer head ready to go and then realize it had a pair of feet to go with it? Well now, with Van Dyke’s freeze dried deer feet you can always have a few on hand and ready to go. Keep a few mounted on a panel in your show room and make a little extra income without all the work. These beautiful whitetail feet come ready to go. Simply install a piece of 1/4" threaded rod and attach to any panel. Available in three sizes, these will certainly be a real timesaver and moneymaker for your shop!

Here is the link, with photo, and thanks to Elizabeth Childs for the pointer.  Try this one too.

Eggbeaters

If the transformation of eggs by heat seems remarkable, consider what beating can do!  Physical agitation normally breaks down and destroys structure. but beat eggs and you create structure.  Begin with a single dense, sticky egg white, work it with a whisk, and in a few minutes you have a cupful of snowy white foam, a cohesive structure that clings to the bowl when you turn it upside down, and holds its o wn when mixed and cooked.  Thanks to egg whites we’re able to harvest the air, and make it an integral part of meringues and mousses, gin fizzes and souffles and sabayons.

The full foaming power of egg white seems to have burst forth in the early 17th century.  Cooks had noticed the egg’s readiness to foam long before then, and by Renaissance times were exploiting it in two fanciful dishes: imitation snow and the confectioner’s miniature loaves and biscuits.  But in those days the fork was still a novelty, and twigs, shreds of dried fruits, and sponges could deliver only a coarse froth at best.  Sometime around 1650, cooks began to use more efficient whisks of bundled straw, and meringues and souffles start to appear in cookbooks.

That is from Harold McGee’s superb On Food and Cooking: The Science and Lore of the Kitchen.  Imagine the writing and expository skills of a Richard Dawkins, but applied to applied chemistry in the kitchen, and maintained at a consistent and gripping level for 809 pages.  The only problem with this book is that the magnitude of the quantity and quality is simply overwhelming.

Dan Klein and I used to have a saying: "You so much learn the whole book."  In marked contrast is Roger Penrose’s The Road to Reality: A Complete Guide to the Laws of the Universe.  Penrose remains a brilliant scientist and writer.  But never before have I seen a book that so clearly consists of material that I either a) already know, or b) will never know.

Musical protectionism

The French police are arresting symphony orchestra musicians from Eastern Europe.  Why?

The reason for importing musicians
from the east to play in countries like France is simple: money. "The
tour would’ve been too expensive with French musicians, so there
wouldn’t have been a tour at all," Mr. Miller argues. While a company
like the one conducted by Mr. Miller might charge about €15,000
($20,055) for a show, a French orchestra would probably cost three
times that amount, Mr. Miller reckons–pricing them out of the 300- to
800-seat venues they were playing, typically in towns of less than
100,000 people. "I don’t feel at all that I’m taking work away from a
French musician," Mr. Miller told me. Musicians like the Bulgarians he
was conducting, meanwhile, "need the work, they don’t hold out for very
high fees and they play well." "Artistically," he added, "the tour was
a great success."

Not all the musicians have their papers:

A German conductor, Volker
Hartung, whose Cologne New Philharmonic was also employing some East
European musicians, was arrested as he came out for an encore following
a performance of Ravel’s "Bolero" and Bizet’s "Carmen." After also
being held for two days, Mr. Hartung was released with a warning but,
according to the Guardian newspaper, has been banned from performing in
France "until further notice." This was, according to Gerald Mertens,
director of Deutsche Orchestervereinigung, or the German orchestra
union, the second time Mr. Hartung was arrested in France for
underpaying his musicians and not obtaining proper authorization for
them to perform in France.

After deep reflection and debate, the French musicians’ unions have decided to side with the French police, and not with the Muse.  In fact, some of the arrested musicians blame the unions themselves for the crackdown.

Steve Levitt’s Freakonomics

What five terms in a housing ad correlate with higher prices?

1. Granite

2. State-of-the-Art

3. Corian [read here, I didn’t know what it was either…]

4. Maple

5. Gourmet

And what correlates with lower prices?

1. Fantastic

2. Spacious

3. !

4. Charming

5. Great neighborhood

In economics language, it is the costly signals which carry real value.  You use general words when you have nothing better to say, and remember that for next Valentine’s Day.

The list is from the new Freakonomics: A Rogue Economist Explores the Hidden Side of Everything [you can pre-order, Amazon lists May 1 but it hits the stores April 12], by Steve Levitt and Steven Dubner.  Imagine the best of Levitt put into readable form by an excellent journalist.  When it comes to the popular exposition of contemporary economic research, this book is a milestone.  Why do drug dealers still live with their moms?  How do we know that sumo wrestlers cheat?  Here is Alex’s previous post on Levitt and names and race.  Here is my previous post on Levitt and teacher cheating. 

The bottom line in one sentence: "People lie, numbers don’t."

Public Finance and Public Policy

Public Finance and Public Policy, the new textbook by Jonathan Gruber, is not only the best public finance textbooks I’ve ever read it is one of the best textbooks I’ve read in any field.  Gruber and Worth Publishers have clearly put a huge amount of money and effort into this book – the content is superb and so is the presentation (graphs, organization, supplementary material – e.g. check out these cool powerpoint presentations.).

Gruber is especially good at discussing empirical research.  What is the effect, for example, of social security on private savings, on the living standards of the elderly, on the incentive to retire?  What do we learn from the international evidence?

(Quick answers: Social security crowds out about 35 cents of private savings for every social security dollar.  As a result, social security has reduced the eldery poverty rate although not quite as much as naive trends would suggest.  Social security does reduce the labor force participation rates of the elderly but less so in the United States than in most European countries where there are huge disincentives for working beyond the normal retirement age.  (Get the book or this powerpoint presentation for more details – note you need to view the PP in SlideShow mode to get the full effect.)

Gruber covers all the major programs – education, social security, unemployment insurance, Medicaid and Medicare, the tax system etc. – and in each case he carefully explains the institutional details and then he evaulates the empirical evidence focusing on the most telling pieces of evidence (rather than trying to cover everything that has ever been written as in a review paper).

Gruber is so good on the empirical research that this book would be a useful supplement to an applied econometrics class.  Just flipping through it and reading the boxed Empirical Evidence sections gives a good feel for what the cutting edge questions and techniques are in empirical research. 

Congratulations to Gruber on a tour de force!

The Benefits of Contingency Fees II

I am in Miami for a few days.  My guidebook has this to say:

Miami restaurants are notorious for slow, arrogant service, by the time you finally get your cutting-edge dish of pan-roasted, pan-seared whatever, the trend that created it may well be long over.

I can verify, last night I walked out of two restaurants.  A little while later the guidebook also notes:

…many restaurants top up the bill with a 15-18 percent gratuity …

Also true, as in Europe Miami restaurants tack-on the "gratuity" automatically.  What the guidebook falls to mention is that the latter fact explains the former.

New Econoblog on WSJ.com

Max Sawicky and I square off on taxes and spending, here is the link.  Here is one short bit from Max:

The other connotation of "surrender" here is surrender to the market, or to the fates. It is surrender to amorality, since market outcomes have no positive ethical qualities. Choices are determined by endowments, and endowments — the wealth and social status resulting from the accident of birth — are a matter of pure luck.

Addendum: Sawicky says impossible, Greenspan says inevitable.

Addendum II: here is the WSJ.com forever permalink, the one above expires in thirty days.

Will Yellowstone do us in?

Geologists have called for a taskforce to be set
up to consider emergency management in the event of a massive volcanic
eruption, or super-eruption…Experts say such an event would have a colossal impact on a global scale.  A super-eruption is also five to 10 times more likely to happen than an asteroid impact, the report claims.

The effects, say the authors, "could be sufficiently
severe to threaten the fabric of civilisation" – putting events such as
the Asian tsunami into the shade.  The fallout from a super-eruption could cause a "volcanic winter", devastating global agriculture and causing mass starvation…the frequency of equivalent super-eruptions is [at least] about once every 100,000 years.

Here is the full story.  Here is more background information.  Here are some apocalyptic worries of a religious nature.

What are the macroeconomics of depopulation?

Few if any wealthy countries are breeding fast enough to replenish their populations without immigration.  So Matt Yglesias asks about the macroeconomics of population decline: how different would things be?

First we must distinguish between an aging population and a smaller population, although outside of wartime the two usually go together.  Most people who die are old, and most people, when they are born, are quite young (duh).

An aging population brings dissaving, slower growth, less innovation, and a worsening of the government’s fiscal position.  Whether the stock market adjustment means ongoing lower rates of growth, or a one-time adjustment of prices is a complicated issue (I’ll bet on something in between).  The biggest question is whether the economy is throwing off enough surplus to buy off the relevant interest groups and keep growth relatively untrammeled for the next generation.  The Western European economies are running a huge test of this proposition but so far they are failing.

That all being said, we must keep in mind the relevant alternative.  If it is more young people, great.  If it is shorter lifespans, give me aging.

A smaller population will bring lower land prices and lower aggregate values across the board.  I don’t worry much about the transition path, given how slowly the changes usually come; plus monetary policy can make up for some of the nominal rigidities.  When it comes to assets such as land, it is again complicated to what extent we will see ongoing lower rates of return and to what extent we will see one-time adjustments in prices.  (Ask what is anticipated when, how liquid the market is, whether you can
sell short, whether the asset has carrying costs, and whether anyone must own land for consumption reasons in the interim, while prices are falling.)

Small populations can in principle do quite well; just look at Singapore or Ireland.  Free resource movement will allow the region to reap increasing returns at the world level.  That being said, the biggest drawback of a smaller population is the brute fact that you simply have fewer people around.  To me that is a tragedy of foregone opportunity.

The bottom line: At least for countries with reasonably well-functioning institutions, we should be happy when the birth rate is higher.
 

Branding countries

Tony Blair recently established a Public Diplomacy Strategy Board, an outgrowth of his earlier ”Cool Britannia” campaign, to improve perceptions of the country abroad. And in November, the Persian Gulf state of Oman signed a contract with the marketing firm Landor Associates to develop and sell ”Brand Oman.”

”All nations need to compete for a share of the world’s attention and wealth, and that development is as much a matter of positioning as anything else,” Anholt wrote in 2003, ”so it makes perfect sense for governments to do everything possible to ensure consistency of behavior in every area.” He even recommends that countries appoint Cabinet-level branding ministers. ”I’ve visited a great many countries where they have ministers for things that are far less important than branding,” he says.

Read more here.  Here is the excellent Grant McCracken on Nike’s recent "curation" branding.  Alex Wipperfurth’s new Brand Hijack argues that if you are marketing your brand, you must understand how your customers (and others) will take over and control the process.  If you don’t believe him, just ask Kazakhstan

Addendum: Speaking of branding, Yana is in the running for "Neighborhoodies of the Week" (individually customized T-shirts), please vote for her.  It takes but a second, she is second from the left (with the "Do You Hate Me? T-shirt), click here to vote.

Easterly on Sachs

Read Tyler’s post below for more reactions to Sachs’s The End of Poverty.  Here are some key grafs from William Easterly’s review.

The piecemeal reform approach (which his book opposes) would
humbly acknowledge that nobody can fully grasp the complexity of the
political, social, technological, ecological and economic systems that
underlie poverty. It would eschew the arrogance that "we" know exactly
how to fix "them." It would shy away from the hubris of what he labels
the "breathtaking opportunity" that "we" have to spread democracy,
technology, prosperity and perpetual peace to the entire planet.
Large-scale crash programs, especially by outsiders, often produce
unintended consequences. The simple dreams at the top run afoul of
insufficient knowledge of the complex realities at the bottom. The Big
Plans are impossible to evaluate scientifically afterward. Nor can you
hold any specific agency accountable for their success or failure.
Piecemeal reform, by contrast, motivates specific actors to take small
steps, one at a time, then tests whether that small step made poor
people better off, holds accountable the agency that implemented the
small step, and considers the next small step.

…[Sachs] seems unaware that his Big Plan is
strikingly similar to the early ideas that inspired foreign aid in the
1950s and ’60s. Just like Sachs, development planners then identified
countries caught in a "poverty trap," did an assessment of how much
they would need to make a "big push" out of poverty and into growth,
and called upon foreign aid to fill the "financing gap" between
countries’ own resources and needs. …Spending $2.3 trillion (measured in
today’s dollars) in aid over the past five decades has left the most
aid-intensive regions, like Africa, wallowing in continued stagnation;
it’s fair to say this approach has not been a great success. (By the
way, utopian social engineering does not just fail for the left; in
Iraq, it’s not working too well now for the right either.)

Meanwhile, some piecemeal interventions have brought
success. Vaccination campaigns, oral rehydration therapy to prevent
diarrhea and other aid-financed health programs have likely contributed
to a fall in infant mortality in every region, including Africa.

…the broader development successes of recent
decades, most of them in Asia, happened without the Big Plan — and
without significant foreign aid as a proportion of the recipient
country’s income….

Success in ending the poverty trap," Sachs writes, "will be much easier
than it appears." Really? If it’s so easy, why haven’t five decades of
effort gotten the job done? Sachs should redirect some of his outrage
at the question of why the previous $2.3 trillion didn’t reach the poor
so that the next $2.3 trillion does. In fact, ending poverty is not
easy at all.

Can we cure world poverty for $150 billion a year?

Jeff Sachs says yes.  Daniel Drezner offers excellent links, background, and context.  Here is one summary of Sachs’s view:

Africa,
through no fault of its own, is trapped. Held back by geographical
impediments like climate, disease and isolation, it cannot lift itself
out of poverty. What Africa needs, then, is not more scolding from the
West. It needs a ”big push” — a flood of foreign aid — to boost its
prospects and carry it into the developed world.

Sachs’s article in this week’s Time is maddeningly vague — "Commit to the Task" and "Adopt a Plan of Action" count among the policy recommendations.  But how far will $150 billion go?  By Sachs’s own count, over one billion people live in extreme poverty; the next billion up would count as very poor under any Western standard.  Round down grossly to a billion and you have about $150 per head per year to play with.

My take: No way.

I’ll start with two admissions.  I have been an admirer of Sachs, and I don’t think all foreign aid fails.  But $150 billion a year won’t get us very far.

Let’s say you had ten years’ worth of contributions upfront, and invested the whole $1500.  You would be very very lucky to reap 10% a year.  That is a flow of $150 in yearly living standards.  It will buy some fertilizer and mosquito nets but it probably won’t up returns above the ten percent level. When the East Asian countries made beneficial social investments they grew at about ten percent per annum and that is a best case scenario. 

Then come the traditional problems of foreign aid.  Not only is there wastage in aid administration and poor spending patterns, but many essential services simply are not there to be purchased.  Infrastructure requires complementary goods — tractors need roads, and vice versa — which means that the early stages of growth are slow and cumbersome.  Furthermore very poor communities often try to convert their aid into consumption by refusing to perform maintenance on the new capital stock.

I’ll count per capita income of $1000 a year (roughly Guatemala or Morocco) as "no longer very poor."   Given this number, I’ll guesstimate that Sachs’s plan would eliminate severe poverty for about five to ten percent of the one billion very poor, provided the money is spent in concentrated fashion. 

Should I be reminded of James Glassman’s Dow 36,000?  Sooner or later the claim will likely be true.  With (or without?) an extra $150 per capita per year, most poverty will someday end.  But when?

OK, you can’t judge a whole book by a Time magazine summary, especially not when it is by a thinker of Sachs’s caliber.  So I’ve ordered The End of Poverty, and I will pass along any further impressions once it arrives.  In the meantime, it looks as if Sachs is overselling on behalf of a noble cause. 

Whatever we are going to spend fighting international poverty, I would spend on freer immigration, keeping in mind that ongoing remittances will kick in over time.  We also could send a small military mission to Darfur, and focus our aid on one "doable" country or region.  I am a believer in demonstration effects; get it right once, and the world will beat a path to your door.

Addendum: Matt Yglesias offers his views, and William Easterly’s review is very critical of Sach’s policy suggestions.