Thursday, May 31, 2012

Random Tired Comments

 A long exhausting day, so not much posting tonight.  But I want to post a link to this, which gives some data supporting the fact that we as a country, looking at all levels of government, have not by any means been stimulating the economy in a Keynesian fashion; in fact it is pretty breathtaking how contractionary our overall spending policies have been. 

I also want to point to this and this, largely because I'm  a fan of the Noahpinion blog, but also because I noticed a kind of intellectual dislocation between these two posts.  In the first he talks about economics without math, and even without models, economics as a kind of storytelling art.  In this view of economics, we all choose which story to believe (ie, balancing our budgets are good and create long term prosperity, or the free market price mechanism allocates all resources to their best use).   He examines the claim that the math doesn't add that much new information, and has been spectacularly unsuccessful in turning economics into a testable science---or at least that it hasn't made it more testable than the stories without the math.   For example, one story is that price inflation is a direct result of increasing the supply of money; in fact there are people who simply use those two interchangeably, and claim that inflation is defined as an increase in the supply of money.  But those people claimed 4 years ago, when the Fed started pumping money into the economy as a furious pace, that we would experience hyperinflation within a short time.  That's the directional result their story told.  We have not experienced hyperinflation, or even much of any inflation since then, which seems to provide some evidence that their story is wrong.  What additional evidence would we have had if we had worked from math models, whose parameters could be manipulated to yield any of a wide range of outcomes?

He comes out more or less defending the modeling-and-math process, on the grounds that even if we haven't yet provided real laboratory level proof that one macro model is better than another by using math, the mathematical precision at least provides a template that might someday provide that kind of proof.  His words:

“In other words, the basic, fundamental problem with macro, as things stand, is that it's not scientific. Making it less formalized, or less mathematical, doesn't get around that problem. And it seems pretty likely to me that if macro ever does come up with a way to tell if models are right, it's going to require that those models be of the formal mathematical type.”

So he goes for the math version rather than the plain story version.  But in the second post, he tells a story with no math, the story that private equity (ie, leveraged buy-out) firms increase efficiency in the firms they conquer, and as a result in the whole society in which they exist, and he shows a lot of circumstantial data that, to him, supports the story.   I doubt the security of the support he feels, and when I’m more rested I’ll try to respond to him.  But it’s interesting that he is using the story approach, instead of the math-and-model approach, to make this particular argument.

Monday, May 28, 2012

Bush/Obama/Generic Spending Binges

Once again Ezra Klein has cut through the poke-and-response political positioning between the parties, and written the obvious truth about the “Obama spending binge”, which does and does not exist.  And he has correctly pointed out that deciding whether it exists or not is a premeditated act of pugilistic political fantasy, not an effort to find any truth.   Everyone who is talking about this on either side should now make their way to the exit of the conversation, shuffling their feet and mumbling to themselves in embarrassment.  They won’t, but they should.  

Here’s the issue: Obama inherited the 2009 budget, which was passed in 2008, under Bush but by a Congress controlled by the Democrats.  And since the 2009 fiscal year, federal spending has actually declined slightly in real terms: under Obama, but in the last two years lashed to lower spending by a Tea-Party House and a Senate largely controlled by filibuster.  So who gets the credit, or blame, for 2009, which was largely executed by Obama but passed under Bush?   Here’s Klein’s response to that:

“I’d point out that this entire conversation is nonsense. So far, we haven’t mentioned the only fact that really matters, which is that the economy began to collapse in late-2008, and continued to crater through much of 2009. Or, as Donald Marron, director of the Tax Policy Center, puts it, ‘the real issue is that 2009 is an anomaly driven by crisis.’”

Yes.  And we have been driven by crisis ever since, too; the recession officially ended June of 2009, but the recovery is nothing like complete.  We are still grinding through hard times.  

There is a real debate to have on this topic: not how high the deficit has been, or how much spending has taken place, but how much should have taken place, and how much should take place in the future.  I’ve been arguing for a long time that spending was high in 2009 but should have been much higher, then and since.  And it should still be higher.  We should be borrowing money at near-zero interest rates, or taxing the wealthy, to spend money restoring and extending our infrastructure; this would not only alleviate unemployment (and reduce our unemployment-insurance payments), but would be a great investment for the country’s future.  We should be doing this on a massive scale.  That’s my view, and there are many respected economists who agree.  There are also many respected economists who strongly disagree.  It’s a debate worth having.

There’s a debate to have on who created the recession, too; I don’t really think that either Bush or Obama should be blamed for it.  Obama certainly should not be blamed for the initial collapse, since it began more than a year before he took office, and shouldn’t (in my opinion) be blamed for the length of the recession either, since he’s been fighting tooth and nail with an obstructionist Republican-dominated Congress to find a path out.  But Bush shouldn’t really be blamed either, or at least not alone.  What did he do that created it?  The tax cuts did not create the boom that Bush promised, but they also did not create this recession.  In my opinion it was created at least in part by decades of undersaving by the public, which was depending on rising housing prices to create the wealth on which they would retire.   When those housing prices collapsed the self-perceived wealth and security of those who had depended on them collapsed too.   And it was created in part by decades of increasingly lax regulation of banks, including the repeal of Glass-Steagall by a Republican Congress but under, and signed by, Democratic President Bill Clinton.  There are respected economists who agree on both of those, particularly the latter, and there are other respected economists who disagree. It’s a debate worth having.

But we can’t have that debate publicly, because this poking, dancing, posturing, sound-bite nonsense is crowding out any possible clarity about this.  Neither side is willing to discuss the real issues.

Here’s Klein’s conclusion:

“Properly understood, the fact that inflation-adjusted spending has fallen since fiscal year 2009 is the result of Republican obstruction in Congress. That Democrats are now crowing about these numbers -- the DNC is e-mailing them around -- and that Republicans are now viciously disputing them is an embarrassment to both sides. You could as easily imagine Democrats lamenting these numbers as evidence of our failed policies and Republicans celebrating them as evidence of their congressional successes.

But Republicans don’t want to admit that they bear substantial responsibility for the economic policy of the last few years. If they did, then it would be hard to argue that the economy’s performance in 2010 and 2011 is all Obama’s fault. And the Obama administration doesn’t want to clearly say that we should have been spending more in recent years, even if that’s what they believe, and what they proposed, because it polls poorly. And so here we are.”

Yep. Here we are, and here we will be for the duration of the campaign, and probably after that forever.

Saturday, May 26, 2012

Ben E. King, Bertrand Russel, Keynes and the classical German austerians


Dreams are odd.  I woke up this with the dimmest recollection of a vision of a dingy roadside bar at night with a single lamp, a closed door and something a little frightening outside; inside there was an old jukebox dropping a 45 onto the turntable, and from the jukebox came a crackly recording of Ben E. King singing “Stand By Me”.  Ok, it’s a great song.  But why?  Something else was there underneath.  There had to be.  My dreams in the last few years have generally been a lot darker than that.  What are the words to that song?  The song is upbeat, uplifting…well, wait.  Skies are crumbling in that song.  Aren’t they?  Yeah.  And mountains are being washed to the sea.  So there is some darkness.   And the theme in the background was a bit of Bertrand Russel that Craig (my brother in law) had once sent to me.

It took me hours of puzzling to unravel it, to get back to where that all came from.  It was the title of this post backwards.  You don’t believe me?  I’ll go through it.

First the austerians: Guido Westerwelle, the German Foreign Minister, wrote an op-ed column in the Washington Post yesterday.  I read through the whole thing, but the truth is that my heart wasn’t really in it after I got past the paragraphs saying that the solution to the depressions created by austerity was more austerity, long, patient, enduring austerity until morale improves.  He’s sympathetic with the poor unemployed youth of Spain, but…well, here are his words:

“The real causes of the economic crisis are the massive debts incurred over many years and the lack of competitiveness in certain countries. The consistent, long-term continuation of budget consolidation is an indispensable precondition for recovery. The Group of Eight leaders subscribed to this approach last weekend when they committed to “sustainable fiscal consolidation policies.” That is why the European Union’s fiscal compact — the agreement to keep deficits in Europe permanently under control — must not be renegotiated now…

The countries caught in crisis have already decided to make important reforms. We have great respect for the difficulties faced by many in those nations. But given how considerably some countries’ economies have shrunk and the alarmingly high unemployment rates among youth, the reforms that have been launched are the only chance for getting back on track to sustainable growth. Patience is needed: It will be a while until the reforms take effect. But the experience in Germany, Poland and the Baltic states indicates that they will succeed.”

Patience is needed…yes.  Long, hard patience, I thought.  And it’s true; in the long run, the long long run, all will be well again, as I’ve said before in this blog.  In the course of a long recession debts are reduced by bankruptcies, by economizing on household investments of all kinds from washing machines to college educations, and once those household obligations have been eliminated over the terrible years required to do that, the members of the households are free to work at much lower wages.  Banks fail because they bet on prosperity and got depression instead; businesses fail because there is no demand for their product.   But in the end when the deflation has completed its destruction the “ocean is flat again”.   And then, it's true, new businesses will grow, and new banks will be established.  Nothing lasts forever, good or bad.

The “ocean is flat”---that’s Keynes, the next link in the chain.   Westerwelle is telling us that in the long run it will work out.  But one of Keynes’s most famous quotes was this: “The long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is past the ocean is flat again.”

In the long run, I thought, global warming will turn the planet into a wasteland, but you needn’t worry about it: when, through hunger, war and desease, the human population of the earth has been reduced enough so that the earth can heal itself, the tiny remaining human economy will have plenty of room to grow for a while.  Of course in the longer run the earth will boil away as the exploding sun expands past Earth’s orbit and devours us all. In the longer run the universe will become a thin molecular mist and then, yes, then all will be peaceful again.  From Bertrand Russell (next link in the title’s backward chain):

“That Man is the product of causes which had no prevision of the end they were achieving; that his origin, his growth, his hopes and fears, his loves and his beliefs, are but the outcome of accidental collocations of atoms; that no fire, no heroism, no intensity of thought and feeling, can preserve an individual life beyond the grave; that all the labours of the ages, all the devotion, all the inspiration, all the noonday brightness of human genius, are destined to extinction in the vast death of the solar system, and that the whole temple of Man's achievement must inevitably be buried beneath the debris of a universe in ruins--all these things, if not quite beyond dispute, are yet so nearly certain, that no philosophy which rejects them can hope to stand. Only within the scaffolding of these truths, only on the firm foundation of unyielding despair, can the soul's habitation henceforth be safely built.”

That, I thought, is what Westerwelle is telling us.  Only on the foundation of unyielding despair can Europe’s economic redemption be built.

Well, on the foundation of Spanish despair, and Portuguese despair, and Greek despair.  I worry about unemployment in this country, I worry about my own children, but in Spain unemployment among the young is 50%.  A whole generation of Spanish young people are falling behind in every part of life, and the statistics I’ve heard say that most young people who start life in a recession, whether here or in Spain or in Portugal or Greece, will never regain the time or the income they are losing now.  Westerwelle has “great respect for the difficulties faced by many in those nations”---at a distance.  Unemployment in Germany is down near 7%.  Germany’s doing fine.

But what about his argument that Germany’s experience in the last decade is proof that austerity works? The view promoted by Westerwelle, and by conservatives here, is that these countries were fiscally profligate, or that they had massively generous social service budgets that had to be “reformed”---by which they mean cut.  Westerwelle’s column, cited above, claims that “the real causes of the economic crisis are the massive debts incurred over many years”.

But that’s nothing like true.  Germany’s public social spending was about as big as Italy’s in 2007, before the current problems, and was far higher than Spain’s, Portugal’s, or Greece’s.  And while Germany did run a smaller deficit than Italy and much smaller than Greece in the decade before the crisis, over those same years Portugal ran a smaller deficit than Germany as a percent of its GDP, and Spain, on average over those years, had a budget surplus.  

It should be clear by now that I’m skeptical of that view of how Germany turned around.  I’ll make this brief, since this is a long post already.  Here’s my guess, and it matches the guesses of many others---I don’t doubt that I came to it by reading those others, but it makes sense.  Early in the lifetime of the Euro capital flowed south, into countries like Spain, Portugal and Italy.  Prices rose in those countries compared to the prices in Germany, and as a result German goods looked cheaper by comparison.  But, you would ask, wouldn’t low prices mean that German exports would grow, and their payment balances would be strongly in their favor, strongly stimulative to the German economy?  Well, yes.  And that’s just what happened.  And exactly the opposite happened in Greece, Italy, Portugal and Spain (sometimes called the GIPS).  Paul Krugman has had several blog posts about this, like this one, which has a great graph that shows exactly this phenomenon.  Here’s the graph from Krugman’s blog:

My own view of what has happened in the last decade is that prices rose in the GIPS, which induced a large current account surplus in Germany, boosting their economy.  Now that the reverse must take place---rising prices in Germany to boost the economies of the GIPS---Germany will simply not allow it.  Inflation, even modest levels of inflation, is not acceptable in Germany, in their view.  But that is exactly what must happen to solve this problem without breaking up the Euro.  Germany’s prices must rise or Spain’s must fall, and that is a much, much harder process to endure.  Still, Germans would much rather watch Greece and Portugal struggle, watch investments in the GIPS dwindle and businesses collapse, watch the young in Spain lose all the opportunities for growth that should take place in their early years, than permit even modest inflation at home.

And that brings us to the last link in the title, the link to Ben E. King.  It’s not really fair to Mr. King, or to his meaning when he sang the words, but groggy connections made in dreams are not always fair.

I have a vision of Guido Westerwelle and Angela Merkel and the leaders of the European Central Bank standing together, steadfast against all critics, calling to each other: stand by me, stand by me!  They call.  If the sky in Spain should crumble and fall, and their mountains should wash to the sea, I won’t  cry, they tell each other;  I won’t cry, I won't cry, no I won’t shed a tear, just as long as you stand by me.

A comment on Pelosi's million-dollar-a-year middle class.

A quick word on Nancy Pelosi’s recent letter to John Boehner on the subject of the Bush tax cuts.  In it she suggested that Boehner and the Republicans should agree to allow those cuts to expire for the wealthy and continue them for the less-than-wealthy, which is the proposal they have rejected in the past.  But she sweetened the deal that Obama has been proposing by suggesting that the definition of wealthy could be raised to include only those whose annual income is over $1 million. 

Jared Bernstein, in his blog,  offered a big endorsement of the basic idea of extending them for the middle class and lower and ending them for the rich, but objected to the change in the dividing line.  In other words, he endorsed the straight Obama position on this.  Bernstein said:

“Congress should vote now to extend the Bush tax cuts on the middle class but not those on upper income households.  There is no political constituency against this extension—it is not contested ground.”

But about the move from $250K to $1 million:

“That is a very big, very bad deal.  It’s also a weird bargaining strategy, but I’ll leave that to the game theorists.  Fiscally, it loses something like 40% of the revenue according to the (indispensable) Citizens for Tax Justice—CTJ also points out that about half the benefits of this higher threshold accrue to—wait for it—millionaires, who would, under this plan, pay the lower Bush rates on their earnings from $250K-1mil.

But it also redefines “middle class” in this debate as going up to $1 million.  There is less than one-half of one-percent of American households with incomes above that threshold.”

Some guy named “Stuart” posted a response in Bernstein’s blog,  and since he probably can’t say it any better here than he did there, here’s the quote:

“Just for the record, there is a constituency—possibly a constituency of one—which believes that Obama and Pelosi and every other Democrat should stop trying to extend the Bush tax cuts for anyone. This lonely constituency is for simply letting all of the Bush tax cuts expire. That’s not because we have no sympathy with the working class, or that we don’t understand the negative consequences for the economy; it’s that letting the tax cuts expire is the only option that is really possible, because it’s the only option that doesn’t require some cooperation from Republicans.

The Republicans will never, ever compromise on this, and they will never, ever accept an extension of only a portion of the sacred Bush tax cuts. The idea that somehow we can divide the Bush tax cuts into segments, no matter where you put the dividing line, is a dead issue, a non-starter, deceased, demised, passed on, expired and gone to meet its maker, it has joined the choir invisible. I think we need to admit that even though its plumage is still beautiful, it’s an ex-idea.

So Obama should explain to Boehner that he understands that no compromise is possible, and so the whole question of extending the Bush tax cuts has been taken off the table, that he will simply let them all expire on schedule—then he should propose an Obama tax cut that makes sense. That way the Republicans have nothing to bargain with, or for, or against. They either vote for a tax cut or they vote against it.”

Yeah.  Exactly. 

Wednesday, May 23, 2012

Comment on Krugman on Dimon and Romney (, whatever.)

First, I apologize for being absent for so long; these last weeks have been hectic and tense.

I have a couple of saved up comments though.

A few days ago Paul Krugman wrote an op-ed in the New York Times about the JPMorganChase event. For those who have lived in a cave for the last week, or were shipwrecked or adrift at sea, the bank lost $2 billion by gambling on hard-to-comprehend derivatives recently, and may be on the way to losing even more---all because of exactly the kind of risky behavior that created the financial cataclysm in 2008, and which Jamie Dimon, CEO of JPMorganChase, has been telling us could never happen again because of the exceptional internal risk mitigation strategies that modern banks have implemented. 

Early in the piece, Krugman cited this quote from President Romney---oh, dang.  That can't be right.  I mean Candidate Romney. Anyway, his response was: “This was a loss to shareholders and owners of JPMorgan and that’s the way America works. Some people experienced a loss in this case because of a bad decision. By the way, there was someone who made a gain.”

Krugman takes him to task, explaining that there is risk involved, and some of that risk is guaranteed by taxpayers, so some of those that may lose in these transactions are not consulted in the decisions that created the loss.

All of that is true.  But I think the part about someone else winning what JP Morgan lost needs some additional commentary.  It's not just that the losses at a big bank are guaranteed by the taxpayers, because the risk involved is not only the risk that the invested money will be lost, or that the bet made by the bank will be a losing bet.  Romney is right that every bet has two sides, and every bet by JPMorgan is matched by an opposite bet by someone else.  When the bet is lost, if that is all that happens, then JPMorgan loses and someone else gains an equal amount, and the world as a whole is no worse off.  And the same thing can be said about the taxpayers money: yes, they lose it, but JP Morgan gets the money the taxpayers have lost, so it's a wash for the economy, according to Romney's logic.  And the taxpayers can complain, as implied in the Krugman article, that they weren't the ones who decided to take a risk---but that's not entirely true.  In fact it's not at all true.  They did decide to take those risks.  They, through their representatives in Congress, decided on a policy of lax bank regulation, which is a decision to run exactly the risks that JPMorgan, or Lehman's or AIG took.  They didn't buy the derivatives themselves, but they voted to allow JPMorgan to buy those derivatives with no or little oversight.  If they want to reduce their exposure to that risk, then they should vote for people who will implement strong oversight and strong bank regulation---otherwise, they should expect to take a loss when banker's risks go wrong.

Above I said that someone loses and someone else gains 'if that is all that happens'---but there's a bigger problem with Romney's remark: that is rarely all that happens.  Reaction to massive financial loss is rarely restricted to the person or institution that faced the loss; there are emotional, financial, and economic externalities to very large risks that lose spectacularly.   When the losses occurred in 2008, for example, they helped induce the biggest recession since the great depression.  And the taxpayers are the least of those hurt when financial chaos creates a recession.  When the economy falls off a cliff---even a small cliff, but certainly when it falls into a deep crevasse, as it has for the last few years--- there is a loss that is not made up by anyone else's gain: the decline into recession creates a gap between what the economy could produce, the potential GDP, and the actual recession GDP.  That gap is a dead loss for the country and for the world; it is production and investment that is lost forever.  All of those who become unemployed or underemployed lose enormously.  Those who must put off their life's ambitions, young people who limp financially for their early lives and never recover, or who must drop out of college because they can no longer afford it, lose enormously.  Older people who lose jobs, or lose pensions, lose enormously.  And no one gains.  There is no one on the other side of these risks that has bet the other way.

This is not a zero sum game, as Romney implies.  The sum is never really zero, and in the case of financial chaos the sum can be massively negative.

Next saved comment: recently we heard the name Gordon Gecko on this blog, and in our email chains.  The context in here was more a defense of capitalism as a system than a defense of Gordon Gecko and leveraged buy-outs, but Krugman's blog post on LBOs is very very worth reading.  It's here.

Activities pursued for the sake of self interest can have widely felt beneficial effects, as Adam Smith pointed out.   But greed---that's taking self interest to another level, and it's not at all clear that greed is always good, or even that greed is ever good.

Maybe we'll explore the distinction between self interest and greed in another post. 

Friday, May 18, 2012

A Greecy Mess

I think it's time for a few words about Greece---and Spain (we could include Italy and Ireland, but let's stick with the Greece/Spain question).

Over the next few months Greece and the European Union will do their best to find a way out of the damnable mess they are in, and to hold Europe and the Euro together.  The austerian intransigence of Germany and the European Central Bank makes success much less likely, but they will try, very hard, because there is already a historical sense of union there, and a sense of pride in belonging to a larger vision.  They will try, and I hope they succeed.   No, not hope---hope is becoming difficult.  But I want them to succeed. 

But I have to admit that I want them to succeed for historic reasons, and for political reasons, not for economic reasons.  If they fail there will be, at least briefly, an opening for some political extremes and for some nationalist extremes that we never want to see again.  But in terms of economics---well, I find that I need a disclaimer before I go on, and it's this: I will defer to Krugman on the facts and deeper theory of international economic issues; he follows them closely, and I don't, really.  I have to work every day on very different things, which means that I don't have time to pursue the details.

So I admit that my view of the events in Europe is a little fuzzy.  But from here it looks like this: because Europe has unified under a common currency, but has not unified in a common economy in any other real sense---no common fiscal union, no common language that would make economic migration of workers easy, and so on---there is no easy mechanism to transmit Germany's relative prosperity to Greece, or to Spain, both of which are now in full depressions.  Here is what should be happening: prices in Germany and France should rise relative to those in Greece and Spain.  That would enable the latter countries to increase their exports to the former; it would tempt German companies to invest in Spain or Greece to take advantage of relatively cheap labor and materials and land.  But Germany will not permit price inflation, which means that the only way to change relative prices is for prices to actively decline in Spain and Greece.  And deflation, particularly wage deflation, is a long, hard, painful process.

Why is it hard?  Why are wages sticky downward?   Peter Kennedy in his book  "Macroeconomic Essentials" lists four reasons for sticky downward wages:

1. Contracts, explicit or implicit;
2. Relative wages (workers are reluctant to lose status relative to others)
3. Temporary recession (both workers and employers may believe the recession is temporary, so it's not worth the internal cost of adjusting salary rates)
4. Efficiency wages: it may be efficient to retain the best workers at higher than market-clearing rates while the recession continues, to reduce the need to train new labor when the recession is over.

When he talks about contracts, I think he is talking only about wage contracts between workers and employers.  But I'll add another reason: the households to which those workers belong also have contracts they have agreed to, and those household contracts constrain them financially.  Households have mortgages to pay, or leases they have signed, or credit card bills or student loan bills or car payments, all at fixed monthly amounts, and unfortunately the average worker's household doesn't have a lot of spare income at the end of the month.  If the worker accepts a cut in pay that means his or her household is at risk of defaulting on one or more of its contracts or possibly all of them.  And it's not just the worker's own pleasure, or own consumption, that is at stake: it's the entire structure of their life and the lives of others around them.  For households it may be much more than an inconvenience, it may be a full-on calamity

There are large costs outside the households in reducing unemployment by decreasing wages: workers will have to renegotiate their mortgages or leases, or they will have to move, and either of these options is costly---costly not only for the worker and his household,  but for the banks that hold the mortgages or the landlords who hold the leases, who may end with a foreclosed house or an empty apartment that, because of social turbulence, collapsing wages and mass unemployment, they can't sell or rent.  

In other words, if wages decline by very much, a huge part of the web of contracts---household contracts, wage contracts, banking contracts, credit contracts----may become fractured.

Now, in the end, it will all resolve itself: bankruptcies will reduce debt, empty houses and apartments will force housing prices down, farmers will accept lower prices for food and will demand lower prices for their inputs, used cars will be plentiful on the market and will command small fractions of their original prices, and so on and so forth.  Banks will fail and others will take their place.  In the long run, when the storm has passed, the ocean is flat again.  But that long process takes time, time, time, and will create decades of pain, lost production, lost opportunities, and lost or blighted lives as the whole population of people, businesses, banks, governments, and other economic creatures, adjusts to a new price structure, and as the price structure adjusts to the new wage levels.  

For independent countries with their own currencies, the solution is much simpler: keep local wages and prices intact, but reduce the exchange value of their currencies.    Internal prices are maintained for a time, and internal contracted payments are maintained, but the wages in that country have been reduced when paid in other countries' currencies.  Of course, this means that over time prices will need to change, because imports are now more costly, but the nation can adjust to that more gradually and with much less trauma.

For example, if a new Drachma were created, initially convertible one-to-one with Euros, and all internal contracts, including both employment contracts, debts, leases, everything, were simply redrawn in Drachmas, initially nothing would have changed.  But if that new Drachma were allowed to float, and it declined against the Euro so that in the end a Euro could buy two Drachmas, then the wage of Greek workers which has not changed in Drachmas, and has not changed relative to his or her contractual obligations, is now half of its former price in Euros.  And not only wages, but everything in Greece would now look cheaper in Euros.  Vacations in Greece would be a bargain.  Local products would be a bargain, and exports would rise.  There would be a period of real discomfort in Greece as they adjusted to the new costs of imports.  Loans and other financial arrangements would be difficult while the Drachma found its level.  But I doubt that would last more than a year.  And after that, Greece would be much, much better off than it is now.

I know that everyone is afraid of breaking up the Euro, and I am not advising it.  As I said at the start of this post, I hope Europe can find a way to stay unified, and to maintain the Euro.  But if I were advising Greece or Spain on what they could do to help themselves, leaving the Euro and establishing their own currency would be near the top of the list of possible actions.  The fact that they have not done it yet is a sign of their dedication to the vision of a unified Europe---or a sign of economic delusion.

Thursday, May 17, 2012

Expressive Prices

I'm writing tonight under the influence of an anonymous Pinot Grigio: we spent the early evening with Sarah at Guapo's.   The dinner and the company were exceptional.  You may rate the wine after the following comments, based on the content and eloquence it induces.

I want to continue yesterday's blog.  More exactly, I want to comment on the quote from Hayek and the vision of the whole price structure across all of space as a sparse communication network: in his example about tin, prices provide exactly the information  each economic atom needs to do exactly the right thing.  When some new desire in a far away country increased demand for tin, or some new calamity reduces its supply, businesses that use tin reduce production or find substitutes, which is exactly what they need to do to accommodate distant events they know nothing about.  When transportation costs rise, businesses substitute local inputs and consumers substitute local products---and not just local products, but products whose production uses local products.  The consumers involved, and the businesses involved, don't need to know what calamity occurred, or what desire erupted, in a distant country: they only need to know that the price they must pay for tin, or for transportation, has risen or has declined, and the price leads them in what Hayek says is the right direction.

The comment I want to make is that while it may be efficient to transmit only a limited amount of information, while prices may induce behavior that seems economically good, ignorance of causes is not always optimal, and distant unseen causes are not always accidents, and not always benign.

One example: prices are systematically manipulated by almost everyone.  Governments subsidize industries they want to nurture, and the industries and businesses involved in those industries manipulate prices to achieve a desired result.  I'm reminded of a story I heard Chilean economist Manfred Max-Neef tell in this video,   He talks about a breakfast he had at a local hotel,  he was living in the south of Chile, in an area known for the high quality and efficiency of its dairy industry.  In the restaurant there were little packets of butter, wrapped in foil.  The butter was from New Zealand.  New Zealand!  The butter had started as cream from cows halfway around the world from him, when there were dairy farms half a mile away producing butter just as good, and just as efficiently.  Why?  We could chase down the reason, but I haven't.  I have to guess.  There are a thousand possible reasons, from exchange rate peculiarities to transportation subsidies to specialized dairy industry supports in New Zealand that are not available in his locality in Chile.  But this particular oddity was not the result of a worldwide shortage of butter, or a local shortage of butter, or of hyper-efficient production of butter in New Zealand, or of sloppy production of butter in Chile.  It was something else: the price-driven communication system Hayek describes conveys bad information, and manipulated information, as quickly and as completely as it conveys good information.

And there are other things you may want to know about why prices are low or high.  Recently the state of Georgia enacted a severe immigration policy, Georgia House Bill 87.  This had an unintended side effect: Georgia blueberry farmers, among others, suddenly found that they couldn't find field laborers at a price they could afford to pay---or at least a price they wanted to pay---to pick their blueberries.  You can Google all of this, but here's a story about it.  But think about what this means: Georgia farmers were paying rock bottom wages to farm workers to pick blueberries, rock bottom because many of those workers were illegal and so had very limited power to contest those wages.  Farm labor rates in Georgia, it turns out, are the lowest in the country, and as a result the prices of blueberries have for a very long time been lower than they would have been if the farm workers were paid higher wages.   And with this sparse information, seeing only that the price was low, we all ate more blueberries than we would have if the laborers had been paid more.  Is that bad?  Well, not necessarily; increased demand for blueberries actually increases the market power of the farm laborers.  But it is an issue, isn't it?  Doesn't the fact that laborers are being underpaid because they are illegal and have no power to contest their wages have some relevance to us when we buy blueberries?  No matter which side of the immigration issue you are on, this matters.  But the price system tells us nothing whatever about it.

The price system tells us nothing whatever about production externalities: we may want to know that the oceans are dieing or that the planet is warming because of our consumption of things whose production cause environmental damage: even if the prices truly reflected the full costs of production, including the cost of repairing the environmental damage cause in the production process, the system still might not induce us to buy optimal amounts, because the environmental damage will impact future generations and we who are now living are often arrogant about our own importance.

The point is that the price system is a very efficient communication network, as Hayek described.   But it communicates the information it receives, whether that information is good or bad, manipulated or pure, complete or incomplete, true or false, short sighted or visionary.  Saying, as Hayek does, that "The marvel is that in a case like that of a scarcity of one raw material, without an order being issued, without more than perhaps a handful of people knowing the cause, tens of thousands of people whose identity could not be ascertained by months of investigation, are made to use the material or its products more sparingly" does not complete the discussion.  Why there is a scarcity, or why there is a plenitude, actually can matter, if not to an individual consumer or business, then to a country, or to a planet.

Before I sign off for the evening I want to be clear: I'm not slamming the free market system when I  say all of that.  My own belief is that the information dumped into our price-based market communication network is mostly, fuzzily, good, and mostly, fuzzily, true.  I think many on the left are frustrated by the mesmerized adulation of the free market by writers and politicians on the right, and in reaction want to point out all of its flaws.  I am drawn into that reaction too.  But as Dan's comments (in my last blog post) remind us, markets do a great deal of good, they are the world's primary engine of growth and change, and we should not forget that.

We also should not forget the market system's limitations.  They can bite us, and sometimes they do.

Tuesday, May 15, 2012

Yeasty Psychopaths in the Economic Boule

There has been a lively discussion among my email interlocutorship, prankishly initiated by my brother in law Craig, about this May 12th column in the New York Times.   I have many conflicting reactions to this piece, but before I get to them I want to reprint (with permission) the response via email from Craig's son and my nephew Dan.  Here it is, in full, a kind of guest blog here:


"I stopped reading about here:  'and capitalism is predicated on bad behavior.'... I then begrudgingly kept reading but found the rest of the article just as ludicrous.  The market system is not predicated on 'bad' behavior any more than a knife is predicated on stabbing someone, or our social system is predicated on 'winning' the friendship game. Capitalism is a tool, and an extremely effective one at that. In fact, capitalism has been largely successful in providing social mobility and wealth to a massive audience. Unrivaled success in those terms, really.

Real, genuine value, mountains of it, have come out of capitalism. Profit is usually found at the intersection of human desire and possibility. Capitalism has expedited scientific discovery and the battle against poverty. Yes folks, this capitalism includes entrepreneurs and businessmen, so learn to love them. 

I read recently that the role of a manager is to make his employees more productive. If a manager is making 10 people 20% more efficient, then even though he is 'just a manager' (as opposed to those hard working workers who provide the REAL value), he is doing a good thing for everyone. Lots more people can get cheaper goods and more services. More people have jobs. The employees that are now more productive might even get paid more. Capitalism is a beautiful thing.
The stock market and other investment vehicles are there so that investment can flow to good ideas. Good hospitals, that might not have had the capital to expand on their own, can open new offices and take care of more little babies. 

Every system will be exploitable. Let us not hate on knives, or those who use knives, because of the murderers. Let us say that children cannot use knives, nor can murderers, and let us all decide on these rules together. Which is the real problem after all. Our current lack of voice in the rules being set.

In other words, at the risk of sounding like Gordon Gecko, the profit motive is good. It genuinely does and empirically has create/d opportunity, wealth, value, and lots of other pretty things. It is our decision on how to bridle that motive when it becomes destructive. Yes, we need to fix the political and cultural systems that overlay capitalism. But we sound ridiculous when we try to get rid of murderers by saying we should outlaw knives."


Yes...with some reservations.   My response in the email chain was not nearly that eloquent.  I said this:

"Capitalism is not predicated on any particular kind of behavior, it's just a way of organizing productive activity based on private ownership and control of the physical inputs and outputs of the production process.  I have used the analogy of fire, which is not predicated on burning down people's houses.  It can be either good or bad depending on how it is used and how it is controlled.  And of course there's a long chain of theory and evidence that capitalism's distributed decision process (as opposed to centralized decisions on economic matters) is pretty danged efficient at allocating resources pretty danged well for most kinds of products.  Socialists might not agree with that last sentence, but in the United States both Democrats and Republicans do.   (The interpretation of the phrases 'most kinds of products' and 'how it is controlled' creates all kinds of conflict between our major parties...and these days, at least, there seems to be a complete disconnect between them on whether the resulting income distribution is 'fair')."

and then later:

"And I find myself savoring the flavor of the last quote from Mandeville about how capitalism works: 'Vice is beneficial found, / When it’s by Justice lopt, and bound.'

In other words, capitalism works exceptionally well, and to the general benefit---as long as its harsher tendencies are constrained by law and regulation, and its occasional areas of blindness (such as environmental damage) are corrected by public action."

I have many small agreements and disagreements with both the column and Dan's response to it---for example,  his fable of the manager who makes each of his employees more productive is a great ideal, but we have all known kiss-up, kick-down managers who did just the opposite and yet still managed to rise to great success in the vast bureaucratic heirarchy.  But on the whole he states the defense of capitalism as a system fairly well: it is a mechanism for using widely dispersed individual knowledge and skill to organize economic activity in a way that no central planner can possibly match.

Since we're expressing praise for private enterprise, we should quote one of the masters of this genre.  Here's what Hayek said in a paper in the American Economic Review in 1945:

"The peculiar character of the problem of a rational economic order is determined precisely by the fact that the knowledge of the circumstances of which we must make use never exists in concentrated or integrated form, but solely as the dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess. 


Fundamentally, in a system where the knowledge of the relevant facts is dispersed among many people, prices can act to coordinate the separate actions of different people .... It is worth contemplating for a moment a very simple and commonplace instance of the action of the price system to see what precisely it accomplishes. Assume that somewhere in the world a new opportunity for the use of some raw material, say tin, has arisen, or that one of the sources of supply of tin has been eliminated.
All that the users of tin need to know is that some of the tin they use to consume is now more profitably employed elsewhere, and that in consequence they must economize tin. There is no need for the great majority of them even to know where the more urgent need has arisen, or in favor of what other needs they ought to husband the supply. If only some of them know directly of the new demand, and switch resources over to it, and if the people who are aware of the new gap thus created in turn fill it from still other sources, the effect will rapidly spread throughout the whole economic system and influence not only all the uses of tin but also those of its substitutes and the substitutes of these substitutes, the supply of all the things made of tin , and their substitutes, and so on; and all this without the great majority of those instrumental in bringing about these substitutions knowing anything at all about the original cause of these changes... The mere fact that there is one price for any commodity...brings about the solution which (it is just conceptually possible) might have been arrived at by one single mind possessing all the information which is in fact dispersed among all the people involved in the process.
The marvel is that in a case like that of a scarcity of one raw material, without an order being issued, without more than perhaps a handful of people knowing the cause, tens of thousands of people whose identity could not be ascertained by months of investigation, are made to use the material or its products more sparingly; i.e., they move in the right direction.
The most significant fact about this system is the economy of knowledge with which it operates, or how little the individual participants need to know in order to be able to take the right action."

Yes.  And on the whole, this whole image of a perfectly operating price mechanism finding its perfect level, like water in a vast hydraulic system, works---decently, on the whole.  It works not too badly.  Not so badly that we can just arbitrarily throw it out.  Because there is truly no good substitute: Hayek's first sentence says it.  The knowledge required to make all the optimal individual decisions can never be gathered together in a single centralized place.  It's simply too disparate, too tangled, too inaccessibly buried in the hearts and visions of billions of average people, billions of organizations, large and small.  It is countless insights from countless personal (and local) observations.  It is not even all really knowledge: much of it is personal taste or desire.  So we have no good alternative to letting each person and each organization make local choices within some guiding bounds of custom and law.

But that doesn't mean it all works perfectly, or that there are no externalities (such as environmental damage or workplace risk) that we can mitigate with public actions.  It doesn't mean that there are no natural disasters, or that there is no poverty or sickness, that public action can help resolve, and it certainly does not mean that the fairness of the income distribution is a natural outcome of the capitalist process.  But all of those are topics for other blog entries.  For now, the lesson here is that there are functions that private enterprise performs better than any known alternative system.

An additional interesting historical fact: Mandeville published the Fable of the Bees in 1705, which was 71 years before Adam Smith published the Wealth of Nations.  This conversation has been going on for quite a long time.

Wednesday, May 9, 2012

Sorry for all the quiet...

Sorry for the silence for the last few days.  I'm working from a hotel in Hampton Virginia this week, I spend my days on a ship near here.  I get back to the hotel in the evenings very tired, and today more than a little sore from scrambling up and down ladders on the ship all day in a hard hat and steel-toed boots.  This is just one more in a long list of reminders that I am not 25 anymore, or even 45.  sigh...

But the room overlooks a very pretty marina.  I got back in an hour ago, and after a hot shower and a few Advil I am slowly recovering from the day.  I'm looking down at the tops of a lot of boats, mostly sailboats, on a rainy quiet evening.

But the location and the long days make it hard to blog much.  I'll try to catch up once I get home.

Saturday, May 5, 2012

Yesterday's Employment Report

---is not good.  Not horrible, unemployment down a bit, but for the wrong reasons.

Here's what Jared Bernstein said about it:


It doesn’t work here, it doesn’t work in Europe, it doesn’t work for state and local governments.  I’m tempted to ask how many data points we need to recognize this crucial economic truth, but I’m afraid data points don’t have much to do with it.

Another weak jobs report for April, with only 115,000 jobs added—130,000 in the private sector—and a lower-labor-force-induced tick down in unemployment, from 8.2% to 8.1%."

This is the third month in a row in which the number of jobs added is smaller than the month before.  Not yet a truly established trend, but not a report that will bring people into the streets to dance with glee, either.

Bernstein also has the usual graph showing the overall non-farm monthly employment gains over time.  But to support some of my prior comments I wanted to separate out public from private employment, because for most of the last few years public employment with the government has been declining.  Last month, for example, private non-farm employment increased by 130,000 jobs, but government employment declined by 15,000 jobs.  So I spent an hour downloading the historic data from the BLS and reorganizing it in Excel so that I could produce this graph:

The really tall red bar showing a big increase in government employment around May of 2010 was census hiring: the Constitution requires it every ten years.  Those employees were shed fairly quickly over the next few months as the census was completed.

But the thing to notice is that, apart from the census hiring most months since 2009 the red bars representing the change in government employment are below the zero line: government has been shrinking through most of the current recession.  That's just the opposite of what should have been happening: to restore prosperity in a recession the government should grow, not shrink.

And, of course, according to the American Society of Civil Engineers says we have $2.2 trillion of work to do just to repair our existing infrastructure, so there's plenty of work for government hires to do.

Just saying.


Addendum, two hours later: the graph I like to look at as an indicator of where we really are in the recovery.  This is a graph of the number of people working part time "for economic reasons", meaning working part time when they would really like to work full time.  These people are counted as employed in the employment data above.   Numbers in thousands, of course.

You can easily see the recessions in early 1980s, 1990s and 2000s.  The recession that began in 2007 is clearly a lot steeper and a lot higher.  Even now we haven't returned to the levels we experienced at the peaks of those prior recessions.  But our direction is right, in general.  But even that figure ticked up in this last employment report.

Friday, May 4, 2012


This is a brief note on a Paul Krugman blog post from yesterday.  He's once again chiding Jean-Claude Trichet, who is a noted French civil servant who happened to be President of the European Central Bank from 2003 through last year.  Trichet is a big fan of austerity, because he thinks it creates confidence in pretty much everyone.  Here's the quote from Trichet, from 2010, that was cited in the Krugman post:

As regards the economy, the idea that austerity measures could trigger stagnation is incorrect.”
“Yes. In fact, in these circumstances, everything that helps to increase the confidence of households, firms and investors in the sustainability of public finances is good for the consolidation of growth and job creation. I firmly believe that in the current circumstances confidence-inspiring policies will foster and not hamper economic recovery, because confidence is the key factor today.”
 Krugman points out, with a graph showing the data from Europe over the last few years, that austerity has been a disaster.  Unemployment not only has not improved since that Trichet quote, it has, along with the European outlook in general, has seriously deteriorated, and will get even worse in the next few months.  Europe is now in a double dip recession.  Unemployment is over 10% overall, and is over 25% (real Great Depression territory) in Spain.  For Spanish young people, unemployment is over 50%.  And yet the keep on trying the same old austerity, hoping for the "confidence" that never comes.

My problem with the Trichet quote is slightly different from Krugman's.  Trichet says that austerity will "increase the confidence of households, firms and investors" in the sustainability of public finance---but neither he nor anyone else has a clear theory of how that is supposed to happen.  

Expectations-based models, whether rational, adaptive, exogenous or anything else, are at best flaky in their treatment of how humans think, or feel, or behave, particularly of how humans work in hard times.   Why, for example, should any person facing a severe recession be filled with confidence about the future as he or she watches the government doing its damnedest to make the already severe recession even worse?  Why would anyone even believe that doing that would improve the government's financial situation, which depends vitally on having a thriving economy to produce revenues and reduce social needs?  And why does Trichet believe that the average household, the average firm, the average investor, is making immediate personal economic decisions by looking at a extremely unreliable forecasts about a distant and incomprehensible budget created by squabbling legislators?  People, businesses, and investors make individual decisions based on their individual situation, and their individual opportunities, not based on abstract economic theory.   Businesses will not be convinced to invest in the short run by observing their government taking actions that will make it harder to sell their products next month or next year, or in the longer run by watching their nation's infrastructure deteriorate; households will not be convinced to invest in new appliances or cars or vacations, or additions to their houses, by seeing their government implement policies that make their continued employment less likely.