Month: September 2007

Personal bankruptcies in the United States have increased dramatically,
rising from 1.4 per thousand working age population in 1970 to 8.5 in
2002.  We use a heterogeneous agent life-cycle model with competitive
financial intermediaries who can observe households’ earnings, age and
current asset holdings to evaluate several commonly offered
explanations.  We find that increased uncertainty (income shocks,
expense uncertainty) cannot quantitatively account for the rise in
bankruptcies.  Instead, the rise in filings appears to mainly reflect
changes in the credit market environment.  We find that credit market
innovations which cause a decrease in the transactions cost of lending
and a decline in the cost of bankruptcy can largely accounting for the
rise in consumer bankruptcy.  We also argue that the abolition of usury
laws and other legal changes are unimportant.

Here is the paper.  Here are non-gated versions.

Following Jon Chait, Matt Yglesias writes:

…the central element of the Republican Party’s tax policy — lower taxes
rates will lead to higher tax revenues — is a discredited crackpot
notion.

Fine, but a more fruitful question which I’d like to see Yglesias, Chait and others grapple with is why discredited, crackpot ideas can become central elements of a winning political party in the world’s most important democracy.   Explain the demand side and give us your policy prescriptions.

Gordon and Dew-Becker refer to "outsized" increases in CEO pay but scant attention is paid to the broader literature or to event studies.  You don’t have to go as far as Jensen and Murphy (1.4 cents received for every $1000 of value created) to see that CEOs don’t capture the full value of their contribution to the corporation, or anything close to it.  Read this survey, pp.33-38 in particular.  That is, even in today’s "Gilded Age" successful CEOs are underpaid relative to their marginal product, or how much they affect the value of the firm.

What about pre-1970?  The obvious interpretation is that "way back when" CEO compensation was held very low, relative to marginal product, by social conventions (and perhaps to some extent by the threat of law, especially in the 1930s and 40s).  Once these social constraints were relaxed, CEO pay rose very broadly in step with the stock market.  The elasticity of CEO pay, with respect to performance, has been rising sharply.

The citation of institutional factors may sound like a criticism of Gabaix and Landier, but nothing in their paper denies the influences of such forces.  They simply point out a recent regularity between the value of what is controlled and how much one gets paid to control it.  It’s a trivial point, but it stops being trivial when people start forgetting it.

We shouldn’t expect the elasticity of CEO pay to market capitalization, over most stretches of time, to be close to one, even if it is close to one for some time periods.  I would expect fairly long lags at times and then lots of catch up, with an elasticity greater than one for those catch-ups; the data seem to show this.  The CEOs, however productive they may be, are reaping rents relative to their leisure, and their ability to capture those collective rents need not fit any particular time path.  (That said, when you do see a 1-1 ratio it makes perfect sense.)  The data do indicate that a regime switch has led to much greater rent capture, bringing compensation closer in line with CEO marginal products but still falling short of marginal products.

So in my view the Gabaix and Landier results holds up quite well, especially if one is willing to admit the central role of cultural factors, pre-1970 or so, in limiting CEO pay.

I’m not persuaded by the Bebchuk-Grinstein result that observable factors explain only about half of CEO pay; in fact I am surprised that the observables explain as much as they do.

Here is more from Mark Thoma.  Here is a post from Ezra Klein on same.

While I disagree with some of their interpretations, the Gordon and Dew-Becker paper is a very useful summary of much of the literature on income inequality.

Climate Care is a carbon offset firm used in an effort to be green by the UK Conservative party leader.  One of Climate Care’s projects pays Indian farmers to substitute human powered pumps for diesel pumps.  Opponents of the conservative party are having a field day:

Climate Care points out that even children can use treadle
pumps: ‘One person – man, woman or even child – can operate the pump by
manipulating his/her body weight on two treadles and by holding a
bamboo or wooden frame for support.’  Feeling guilty about your two-week break in Barbados, when you flew
thousands of miles and lived it up with cocktails on sunlit beaches?
Well, offset that guilt by sponsoring eco-friendly child labour in the
developing world!

Ala Larry Summers, I don’t see the problem.  Westerners pay Indian farmers to produce cotton, why is producing carbon-sinks any different?  It seems that some environmentalists are more interested in producing guilt than in reducing carbon.

Addendum: I am not claiming that carbon offsets work, in some cases the offset would have happened anyway so there is no net gain.  According to some, replenishing human energy creates more carbon than pumping oil.  But these are different objections.

Thanks to Mike Makowsky for the pointer.

In short, you don’t get anything out of a gold standard that you didn’t
bring with you. If your government is a credible steward of the money
supply, you don’t need it; and if it isn’t, it won’t be able to stay on
it long anyway. (See Argentina’s dollar peg). Meanwhile, the
limitations on the government’s ability to respond to fiscal crises,
the necessity of defending against speculative attacks in times of
crises, and the possibility of independent changes in the relative
price of gold, make your economy more unstable. It’s a terrible idea,
which is why there are so few economists willing to raise their voices
in support of it.

Here is more, from Megan McArdle.  I’ll add the related sentence "Who wants a pro-cyclical money supply?", and we don’t know what the new gold/dollar par should be, which means we risk a significant deflation during the transition to a commodity standard.

In the very long run, our monetary standard might be determined by what is least susceptible to counterfeiting or alchemy/nanotechnology.  I doubt if this will help gold, and monetary economics will end up as a special case of a more general theory of encryption.  One day they’ll solve Riemann’s Hypothesis and the price level will just go poof…!