Category: Economics

1. Here are two useful papers on applied econometrics, courtesy of Andrew Gelman.

2. That which does not kill us…

3. The ever-intelligent Timothy Smith writes on what is wrong with Europe.

4. People are spending more on experiences, less on possessions.

5. Emotions interfere with how you form your memories.

Rick Harbaugh and Theodore To offer an abstract:

Is it always wise to disclose good news?  We find that the worst sender with good news has the most incentive to disclose it, so reporting good news can paradoxically make the sender look bad.  If the good news is attainable by sufficiently mediocre types, or if the sender is already expected to be of a relatively high type, withholding good news is an equilibrium.  Since the sender has a legitimate fear of looking to anxious to reveal good news, having a third party disclose the news, or mandating that the sender disclose the news, can help the sender.  The predictions are tested by examining when economics faculty at different institutions use titles such as "Dr" and "Professor" in voicemail greetings and course syllabi.

Here is the paper.  Harbaugh’s home page has many interesting papers, most of all "Too Cool for School," which concerns the underexplored topic of "countersignaling."  He also has a paper on why the favorites save up their effort for the final round, and why status can make you risk-averse in gains but risk-loving in losses.  He is an underappreciated economist, and I thank Robin Hanson for the pointer to his work.

The bottom line: When it comes to titles, if the book lists "Ph.d." after the author’s name, run the other way.  Gregory Stock’s The Book of Questions is one notable exception to this rule.

1. The staff which writes these reports is excellent in quality, and has been so throughout the Bush Administration.

2. What exactly is the function of the report?  To persuade the media?  Congress?  To subtlety redefine the position of the White House, and push it in a more market-oriented direction, perhaps without the White House itself noticing?  Lay out markers for future policy initiatives?  This is a critical question for evaluating the report.

3. The report is heavy on Health Savings Accounts and the Global Savings Glut.  I would have preferred a more forward-looking approach, less tied up in the politics of the day.

4. I am a market-oriented economist who believes that capital income, ideally, should not be taxed.  If I am not persuaded that HSAs are the major way to go for health policy reform, something is wrong.  Furthermore other health care reforms should be considered, such as improving the performance of insurance companies, whether through regulatory or deregulatory means.

5. There is no serious talk of a gas tax, economic preparations for a pandemic, global warming, or research and development.

6. The chapter on copyright reads like someone is tiptoeing around, afraid to offend anybody by speaking the truth and afraid to offend God by writing any falsehood.

Here are Setser and Roubini on the report. Arnold Kling has several posts on the health care section.  DeLong and Sawicky snort and guffaw.

Exercise is statistically correlated with better health, but weight is not.  That suggests you should exercise more.  Furthermore some exercise is much better than no exercise at all, so you can be happy with a modest achievement. 

Why don’t we rely more on markets to force ourselves to exercise?

Post a bond with your friend, your spouse, your exercise partner, or someone you won’t (or can’t) lie to.  You lose the money if you don’t exercise according to a pre-arranged plan with well-defined quantitative goals.  If need be, I will serve in this role and cash your check when it comes in the mail (hey, would you lie to your blogger?).   

Or why not have the gym collect a bigger upfront fee, and they pay you each time you show up and complete an exercise program under their supervision?

What are the problems with these arrangements?

1. The roles of friend or spouse do not mix with that of "Enforcer."  That being said, I bet your spouse is willing to enforce her requirements on you.  And surely she wants you to live longer, so why not extend the scope of her enforcement just a wee bit?

2. The payment, if you lose, is not a real transfer.  You share funds with your spouse and your friend will treat is as a gift to be returned.  Fair enough, but then find a real bastard, a corporation, or an amiable but distant blogger.

3. You enjoy exercise, but not if you feel obliged to do it.  Introducing too many external incentives takes away the possibility of developing internal motivation.  (Similarly, if you pay your kid to do the dishes, she will no longer feel obliged and the total quantity of labor may fall.)  If the exercise arena becomes a regular sphere of money loss and humiliation, you will avoid the exercise idea altogether.  After a while you will stop making these contracts.

4. You don’t really want to exercise more in the first place.

I put most of my money on #3.

We hear all this superficial blather about "life being a process."  This is true, but it is less well-recognized that this is a source of institutional failure.  Most good things you do — and I include charity on this list — you do not for the ends themselves, but because you have somehow managed to enjoy the process of regular engagement and self-discipline.  You then deceive yourself into thinking you value the end more than you do.  This creates social order, but it also makes those same commitments fragile.  Whether you are meta-rational or not, you are unlikely to seek brutal market discipline (or advice columnists, for that matter) to enforce your good behavior.  You prefer to play the happy fool, even though you will die earlier and refuse to break up with the creep you are currently dating, no matter how many of your friends tell you he is ultimately a loser.

The alternative methods?: Fantasize about the relationship between exercise and more and better sex, whether or not it is there at the margins you face.  Build fantasy upon fantasy to make the area a source of fun.  Or try self-prophecy.

Addendum: Economist Art DeVany has intricate theories about exercise, based on his understanding of evolutionary biology.  Run sprints, not marathons.  Art reports on his blog how devastated he is from the recent death of his wife; do read this moving tale.

Although Ikea stores have yet to arrive in India, its catalogs are sold by
street hawkers and bookstores in many major cities….

When Arundhati Ray redecorates her home, she picks up an Ikea catalog to
search for that perfect piece of furniture….she clips a photo of the desired item, which typically includes measurements,
and then takes it to a local carpenter.

The welfare economics of Ikea knockoffs in India, like those of pharmaceutical knockoffs, are not clear-cut.  On the surface, Ikea appears to be losing out to design theft but India’s emerging middle class generates media attention far in excess of its numbers.  India is still a very poor country that probably could not currently support the low-price, high volume Ikea model.  Thus, knockoffs allow a few Indian consumers to take advantage of good design and Ikea loses little to nothing.

Thanks to Carl Close for the pointer.

Dan Akst on how best to spend a dollar to help the world.  He suggests micro-finance as the most potent means of charity.

James Hamilton and Mark Thoma and Martin Feldstein on why higher oil prices have not created a recession.

Fatalities from sharks may be falling because people are fighting back and punching the sharks.

Here is a new book on how to fight back if the robots rebel.  Hint: go for its "eyes" (cameras), punching is not the key.  Don’t give them the security codes to your defense computers.

Why email communication is so problematic, and how we overrate how much others understand us in that medium.

Markets in everything, magazine edition, courtesy of Cynical-C blog.

Forbes magazine, short essays on money and happiness.

"I don’t know if Wal-Mart would be good or bad for banking in the long run. But I’ll bet ATM fees would come down pretty quick."

Here is more detail.  Wal-Mart has applied for deposit insurance protection in the state of Utah, so it can open an industrial loan corporation.  Surprise, surprise, American banks don’t like the idea.

My take: Since the New Deal the United States has upheld a legal separation between banking and commerce.  The banking sector receives deposit insurance and access to the Fed as lender of last resort, but is placed under special supervision and must meet capital requirements.  You — especially my libertarian readers — may not like this deal but in the short-run, medium-run and perhaps the long-run as well, it is a fact.

As a first-cut approximation, this deal is for banks a tax in good times but a subsidy in bad times.

So what happens if you let banking and commerce blend too much?  One danger is that you extend Fed subsidies to the commercial sector.  Should we have to bail out banks because their commercial arms have gone under?  (Don’t expect too much of Chinese walls in a crisis.)  What if GM had a bank and the whole concern went under next year?  Widespread chicanery with pension funds is not reassuring in this regard.

A quite different danger is that the less-regulated commercial firms can outcompete  banks.  I suspect Wal-Mart is run much better than most banking firms, which don’t seem to care much about customer service.  But if enough deposits shift to the commercial sector, banks-as-we-know-them might drop like rotten apples.  Creative destruction is all well and fine, but here the taxpayer is holding the bag.  And if traditional banks approach extinction, they might take excess risk as their capitalization falls, as happened with many S&Ls in the 1980s.

How far can we let commerce and banking mix?  The lending arms of automobile companies so far have worked fine.  The old "non-bank banks" — most prominently Sears Roebuck — did not create major troubles for the Fed, although banks hated the lesser regulated competition.  But somewhere along the line, enough stones add up to form a pile.

View one: Wal-Mart is a big enough stone to constitute a pile.  Don’t let it happen.  Greenspan himself was skeptical of the ILC exemption.

View two: Wal-Mart in Utah is just one stone.  This reform will make customers better off, while keeping us on the safe side of the line.

View three: Letting Wal-Mart into banking will force other beneficial banking reforms, such as pricing deposit insurance for risk, or greater reliance on private insurance.

View four: All the worries are hogwash, full steam ahead.

Right now your risk-averse blogger is hovering between views one and two.  Stay tuned…

Ricardo Caballero & Co. put it so:

Three of the most important recent facts in global macroeconomics — the sustained rise in the US current account deficit, the stubborn decline in long run real estate, and the rise in the share of US assets in global portfolio — appear as anomalies from the perspective of conventional wisdom and models. Instead, in this paper we provide a model that rationalizes these facts as an equilibrium outcome of two observed forces: a) potential growth differentials among different regions of the world and, b) heterogeneity in these regions’ capacity to generate financial assets from real investments. In extensions of the basic model, we also generate exchange rate and FDI excess returns which are broadly consistent with the recent trends in these variables. Unlike the conventional wisdom, in the absence of a large change in (a) or (b), our model does not augur any catastrophic event. More generally, the framework is flexible enough to shed light on a range of scenarios in a global equilibrium environment.

Here is the paper.  Of course this model is jury-rigged, but the whole point is that it can be jury-rigged to yield something other than imminent economic destruction and the United States as the next Argentina. 

Systematically negative real rates of return are rare but possible.  This differs from unexpected negative real rates on debt instruments, due to earlier underestimations of inflation.  True negative real rates of return imply the economy cannot put resources to productive use.  Decay and deterioration rule.  Of course there must be storage costs for goods.  Otherwise people could hold those goods and receive a zero rate of return.  There must be price inflation, otherwise people could hold currency and receive a zero rate of return.

For examples, look to spoilage-vulnerable agricultural economies during times of war and siege.  I also believe they have negative real rates of return in Battlestar Galactica.  That is one reason why neither discretionary monetary nor fiscal policy will improve their lot.

Negative nominal rates of interest on money are harder to come by, but deteriorating paper or risk of theft could in principle do it.  You must prefer to lend out your money at negative return than to hold it at an even more negative return.  I have yet to see an example of this, not even on TV.

Assume that government spends some money today on consumption.  That money could have been spent on a durable bridge, but it wasn’t.  Some current people benefit from the consumption and future generations get nothing.

Above and beyond that effect, do future generations bear the burden of deficit spending?  That it, are they worse off if we finance the consumption with government bonds rather than higher taxes?

Under one scenario, future generations bear no additional burden.  Assume the government bonds are paid off fifty years from now.  Future generations pay the taxes.  But they also inherit the bonds.  Might that be a wash? 

Wealth effects complicate the story.  The old people, who are holding bonds, may spend more in the meantime (spend more relative to a tax increase, that is) and this may pull away some resources from future generations.  If old people just sit on their bonds and make no other expenditure changes, the burden on the future is nil.

If old people spend more today, and John is born thirty years later, how much worse off is John from this extra spending?  And would having saved that same money necessarily have directed resources toward John, as opposed to directing resources toward the later consumption of the elderly?  What if the extra spending doesn’t occasion much in the way of a supply response?  Then it is just a sloshing around of some paper.  To ask an Austrian question, what is the net injection effect here from the bonds?

I don’t know.

Often deficit critics focus on the moral issues.  On average future generations are better off than their parents, at least in a growing economy.  They are less well off if their parents spend more rather than less.  Is this immoral on the part of the parents?

Alternatively, let’s say we pay off the debt in fifteen years’ time.  Furthermore assume that the future elderly (who are now middle-aged) have stopped paying taxes, but they are not yet dead.  They are still holding the government bonds.  Then we must tax the young, who currently are described by the phrase "future generation."  Then, through a different mechanism, future generations will bear a chunk of the tax burden. 

Even then the burden will not be full.  By letting the elderly off the hook, we increase the sizes of their eventual bequests (what is their marginal propensity to bequeath?).  Furthermore a VAT tax, or means-testing of benefits, will keep the elderly paying taxes and diminish the potential burden on future people.

Offsetting bequests, a’ la Robert Barro, makes deficits less relevant rather than more.  If people know their children will pay higher taxes, maybe bequests will go up a bit to make up for that burden.

There is also tax smoothing.  Nominal tax rates can only be so high in each period before a taxation system breaks down.  By postponing tax boosts, we make it harder for future generations to engineer other tax increases for other reasons.  This could make them either worse off or better off, depending on your point of view.

You can put these scenarios together in different combinations and achieve many differing results.

The bottom line: We are running large deficits.  The case for boosting taxes today rather than tomorrow lies in the fear that financial markets will get spooked, rather than in intergenerational considerations.  Some time ago I put this spooking at p = 0.2; I have revised that estimate upwards only slightly.

Deirdre McCloskey vs. Kevin Hoover, for tekkies only.

ST.
FRANCIS: You’d better sit down, Lord. The Suburbanites have drawn a new
circle, As soon as the leaves fall, they rake them into great piles
and pay to have them hauled away.

GOD: No. What do they do to protect the shrub and tree roots in the winter and to keep the soil moist and loose?

ST.
FRANCIS: After throwing away the leaves, they go out and buy something
which they call mulch. They haul it home and spread it around in place
of the leaves.

ST. FRANCIS They cut down trees and grind them up to make the mulch.

Here is the link.  The economist cackles and sees a typical confusion between engineering and economic notions of efficiency.  Here is what you must do to turn your leaves into useful mulch.  I need Yana to show me how to work the TiVo.  How am I supposed to "add extra nitrogen" to my leaves?  And get this advice:

The second thing to do to guarantee leaf-composting success is to grind or shred your leaves. We will deal with this in detail later on, but let me tell you right now that it will make things simpler for you in the long run. A compost pile made of shredded material is really fun to work with, because it is so easily controlled and so easy to handle.

I am still laughing.  But wait, I am worse yet.  I don’t even know how to buy or use mulch.  I hire Guatemalan immigrants to perform the entire task for me.  For all I know they are out in my lawn right now, measuring out the nitrogen and adding it to my mulchable leaves, patting them into just the right shapes.  But even at $12 an hour, somehow I don’t think so.

Do recognize that modernity has brought considerable reforestation to the United States.

We had lunch with Eric Helland yesterday, and the talk came around to a standard question: what is the most interesting work in the economics profession today?  Steve Levitt and the improved use of instrumental variables was mentioned.  Shleifer and Acemoglu.  World Bank data sets on corruption and governance.  I added the following:

1. Recent work showing the Industrial Revolution was a more gradual process than had been thought.

2. Neuroeconomics, albeit more on promise than delivery.

3. The work of Abhijit Banerjee and his MIT "lab" on randomized trials for developing economies.

I then grasped for another option and came up with:

4. A better understanding of the importance of peer groups; this is happening mostly outside of the economics profession.  I was thinking of that study which showed how much campus alcoholism can be reduced, simply by spreading information about how disgusting the other students find your drunkenness.

Those were my gut reactions rather than a well-thought out list.  My apologies to the thousands of unjustly excluded economists, some of whom read this blog.  I invite other econ bloggers to take up the same question.

"Capitalism is not much loved," writes Clive Crook in The Atlantic.

Seen a movie lately? Watched television or read a newspaper? The culture that speaks to Americans, and hence to the Western world, radiates suspicion of free enterprise….

The point is not that such movies, or the culture more generally, argue that capitalism is evil. Just the opposite: it is that they so often merely assume, innocently and expecting to arouse no skepticism, that capitalism is evil….

It is difficult to see where any heightened
appreciation of the market system is going to come from. Economists,
presumably, ought to be supplying it. Unfortunately, in most cases,
communicating a sense of wonder is not among their gifts. In some ways,
teachers of economics are probably making matters worse. As practiced
in universities, economics continues to turn inward, with ever more
emphasis on math, quantitative methods, and narrow specialization. You
can make a case for that, but it silences the discipline on the thing
that matters most.

Crook is right of course but his piece would have been a lot better had he mentioned the book Americans found most influential in their lives after the Bible.

Here is their exchange.  An excerpt from Mandel:

It’s a truism among trade economists that whether you run a current
account deficit or a current account surplus matters less than what you
do with the money. In that vein, pessimists have accused the U.S.
economy of importing capital in order to fund consumption.

But according to my argument, that’s not true. We seem to be
importing capital in order to fund an enormous amount in investment in
intangibles, including knowledge, training, brand equity and the like.
Then U.S. companies are using those investments to maintain their
competitive position in the global economy.

It’s a virtuous circle, rather than a vicious one. What’s more, it
has the additional virtue of being consistent with the facts, including
the much faster productivity growth in the U.S., that darned
unwillingness of the dollar to drop, and the continued high rate of
return of U.S. companies overseas.