Journal graphics in a bygone era - Barokong
To illustrate MV = PY. (It was MV=PT then.) In Irving Fisher, "The Equation of Exchange 1896-1910," The American Economic Review Vol. 1, No. 2 (June, 1911), pp. 296-305, via JSTOR.
Showing posts with label Economists. Show all posts
Showing posts with label Economists. Show all posts
7 Sept 2020
1 Sept 2020
Lessons of the ELB - Barokong
I gave a short presentation on monetary policy at the Nobel Symposium run by the Swedish House of Finance. It was an amazing conference, and I'll post a blog review as soon as they get the slides up of the other talks. Offered 15 minutes to summarize what I know about the zero bound, as well as to comment on presentations by Mike Woodford and Stephanie Schmitt-Grohé, here is what I had to say. There is a pdf version here and slides here. Novelty disclaimer: Obviously, this involves a lot of recycling and digesting older material. But simplifying and digesting is a lot of what we do.
Update: video of the presentation here. Or hopefully the following embed works:
Lessons of the long quiet ELB
(effective lower bound)
We just observed a dramatic monetary experiment. In the US, the short-term interest rate rate was stuck at zero for 8 years. Reserves rose from 10 billion to 3,000 billion. Yet inflation behaved in this recession and expansion almost exactly as it did in the previous one. The 10 year bond rate continued its gentle downward trend unperturbed by QE or much of anything else.
Europe's bound is ongoing with the same result.
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| Source: Stephanie Schmitt-Grohé |
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| Source: Stephanie Schmitt-Grohé |
Inflation stayed quiet and slightly negative the whole time. 23 years of the Friedman rule?
Our governments set off what should have been two monetary atomic bombs. Almost nothing happened. This experiment has deep lessons for monetary economics.
Stability Lessons
We learned that inflation can be stable and quiet--the opposite of volatile--in a long-lasting period of immobile interest rates, and with immense reserves that pay market interest.
The simplest theoretical interpretation is that inflation is stable under passive policy or even an interest rate peg. Alternative stories--it's really unstable but we had 23 years of bad luck--are really strained.
Stability is the central concept in my remarks today, and I emphasize it with the cute picture. If inflation is unstable, a central bank is like a seal balancing a ball on its nose. If inflation is stable, the bank is like Professor Calculus swinging his pendulum. Watching inflation and interest rates in normal times you cannot tell the seal from the Professor. Asking the professor might not help. Tintin fans will remember that the Professor, perhaps like the Fed, thought he was following the pendulum, not the other way around.
But if you hold still the seal's nose, or the professor's hand, you find out which is the case.
We just ran that experiment. The result: Inflation is stable. Many hallowed doctrines fall by the wayside.
Quantity lessons
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| The optimal quantity of money |
Interest rate lessons
The lessons for interest rate policy are even deeper.
\begin{align} x_t &= E_t x_{t+1} - \sigma(i_t - E_t\pi_{t+1} + v^r_t) \label{IS}\\ \pi_t &= E_t\pi_{t+1} + \kappa x_t \label{NK}\\ i_t &= \max\left[ i^\ast + \phi(\pi_t-\pi^\ast),0\right] \label{TR} \end{align} \begin{equation} (E_{t+1}-E_t) \pi_{t+1} = (E_{t+1}-E_t) \sum_{j=0}^\infty m_{t,t+j} s_{t+j}/b_t .\label{FTPL} \end{equation}
A common structure unites all the views I will discuss: An IS relation linking the output gap to real interest rates; a Phillips curve; a policy rule by which interest rates may react to inflation and output; and the government debt valuation equation, which states that an unexpected inflation or deflation, which changes the value of government bonds, must correspond to a change in the present value of surpluses
The equations are not at issue. All models contain these equations, including the last one. The issues are, How we solve, use, and interpret these equations? What is nature of expectations--adaptive, rational, or in between? How do we handle multiple equilibria? And what is the nature of fiscal/monetary coordination? Preview: that last one is the key to solving all the puzzles.
Adaptive Expectations / Old-Keynesian
The deflation spiral did not happen. This theory is wrong.
Rational Expectations / New-Keynesian I
But the new-Keynesian model only ties down expected inflation. Unexpected inflation can be anything. There are multiple stable equilibria, as indicated by the graph from Stephanie's famous JPE paper. This view predicts that the bound--or any passive policy--should feature sunspot volatility.
For example, Clarida Galà and Gertler famously claimed that passive policy in the 70s led to inflation volatility, and active policy in the 1980s quieted inflation. A generation of researchers worried that Japan's zero bound, and then our own, must result in a resurgence of volatility.
It did not happen. Inflation is also quiet, and thus apparently determinate, at the bound. This theory is wrong--or at least incomplete.
New-Keynesian II Selection by future active policy
Another branch of new-Keynesian thinking selects among the multiple equilibria during the bound by expectations of future active policy.
To illustrate, this graph presents inflation in the simple new Keynesian model. There is a natural rate shock from time 0 to 5, provoking a zero bound during that period. There are multiple stable inflation equilibria.
The lower red equilibrium is a common choice, featuring a deep deflation and recession. To choose it, authors assume that after the bound ends, the central bank returns to active policy, threatening to explode the economy for any but its desired inflation target, zero here. Working back, we choose that one equilibrium during the bound.
Forward guidance
In this view small changes in expectations about future inflation work backwards to large changes at earlier times. Therefore, if the central bank promised inflation somewhat above target at the end of the bound, that promise would work its way back to large stimulus during the bound. Forward guidance offers strong stimulus.
One of Mike's main points today is that a price level target can help to enforce such a commitment. Stephanie's policy of raising rates to raise inflation at the end of the bound can similarly work its way back in time and stimulate during the the bound, perhaps avoiding the bound all together.
Forward guidance puzzles
Second, as we make prices less sticky, dynamics happen faster. So, though price stickiness is the only friction, making prices less sticky makes deflation and depression worse. The frictionless limit is negative infinity, though the frictionless limit point is small inflation and no recession. These problems are intrinsic to stability, and thus very robust: stable forward is unstable backward.
New Keynesian Solutions
The new-Keynesian literature is ripping itself apart to fix these paradoxes. Mike, Xavier Gabaix, and others abandon rational expectations. Alas even that step does not fix the problem.
Mike offers a k-step induction. It is complex. I spent over a month trying to reproduce a basic example of his method, and I failed. You have to be a lot smarter or more patient than me to use it. Moreover, it only reduces the magnitude of the backward explosion, not its fundamental nature.
If we go back to adaptive expectations, as Xavier and others do--after a similar hundred pages of difficult equations--then we're back to stable backward but explosive forward. Stable backward solves the forward guidance puzzle--but the lack of a spiral just told us inflation is stable forward. Also, you have to modify the model to the point that eigenvalues change from less to greater than one. It takes a discrete amount of irrationality to do that.
Fiscal theory of monetary policy
For example, an unexpected deflation can only happen if the government will raise taxes or cut spending to pay a windfall to bondholders. (Or, if discount rates raise the present value of surpluses, which is important empirically.) For example, if there is no fiscal news, we pick the equilibrium with the big red square at zero.
This is not some wild new theory. It is just a wealth effect of government bonds. We're replaying Pigou vs. Keynes, with much better equations.
The result is a model that is simple, stable, and solves all the puzzles.
Instantly, we know why the downward deflation jump did not happen. The great recession was not accompanied by a deflationary fiscal tightening!
Tying down the left end of the graph, promises further in the future have less effect today and there is a smooth frictionless limit. Tying down the left end of the graph stops backward explosions. You don't have to pick a particular value. The limits are cured if you just bound the size of fiscal surprises, and thus keep the jump on the left hand side from growing.
We can maintain rational expectations. This is not a religious commandment. Some irrational expectations are a fine ingredient for matching data and real-world policy; introducing some lags in the Phillips curve for example. But Mike's and others' effort to repair zero bound puzzles by irrational expectations is not such an epicycle. It asserts that the basic properties of monetary policy depend on people never catching on. It implies that all of economics and all of finance must abandon rational expectations even as rough approximations. Just to solve some murky paradoxes of new Keynesian models at the lower bound? For example, Andrei Shleifer, earlier today, argued for irrational expectations. But even he build on the efficient market rational expectation model, suggesting deviations from it. He did not require irrational expectations to begin to talk about asset pricing, or require that all of economics must adopt his form of irrational expectations.
I did not think the day would come that I would be defending the basic new-Keynesian program -- construct a model of monetary policy that plays by Lucas rules, or at least is a generalization of a model that does so -- and that Mike Woodford would be trying to tear it down. Yet here we are. Promote the fiscal equation from the footnotes and you can save the rest.
Neo-Fisherism
Neo-Fisherism is an unavoidable consequence of stability. If inflation is stable at a peg, then raising the interest rate and keeping it there must lead to higher inflation.
The standard new-Keyensian model, as illustrated in Harald and Marty's slides seems to achieve a temporary negative sign. However it only does so by marrying a fiscal contraction ("passively,'' but still there) to the monetary policy shock. It also requires an AR(1) policy disturbance -- beyond the AR(1) there is no connection between the permanence of the shock and the rise or decline of inflation.
Can we produce a negative sign from a pure monetary policy shock -- a rise in interest rates that does not coincide with fiscal tightening?
FTMP, long-term debt and a negative short run response
The fiscal theory of monetary policy can deliver that temporary negative effect with long term debt. The graph presents the price level, in a completely frictionless economy consisting only of a Fisher equation and the valuation equation. When nominal interest rates rise, the market value of debt on the left declines. (First line below graph.) If surpluses on the right do not change, the price level on the left must also decline. Then, the Fisherian positive effect kicks in.
FTMP, long-term debt, sticky prices and a realistic response
If you add sticky prices, then a rise in interest rates results in a smoothed out disinflation. This is a perfectly reasonable--but long-run Fisherian--response function.
Neofisherism?
In sum, the long-run Fisherian result is an inescapable consequence of stability.
The fiscal theory can give a temporary negative sign, but only if the interest rate rise is unexpected, credibly persistent, and there is long-term debt. Those considerations amplify Stephanie's call for gradual and pre-announced interest rate rises to raise inflation.
The contrast between the US, that followed Stephanie's advice and is now seeing a rise in inflation, with Japan and Europe, is suggestive.
The negative sign in the standard new-Keynesian model comes by assuming a fiscal contraction coincident with the monetary policy shock.
Beware! These arguments do not mean that high inflation countries like Brazil, Turkey, and Venezuela can simply lower rates to lower inflation. Everything here flows from fiscal foundations, and absent fiscal foundations and commitment to permanently lower rates, inflation is inevitable.
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I promised that the ELB was an experiment that would deliver deep implications for monetary policy. Think of the hallowed doctrines that have been overturned in the last 15 minutes.
- "The New-Keynesian Liquidity Trap'' December 2017 Journal of Monetary Economics92, 47-63.
- "Michelson-Morley, Fisher, and Occam: The Radical Implications of Stable Inflation at the Zero Bound" Macroeconomics Annual 2017.
- "Stepping on a Rake: the Fiscal Theory of Monetary Policy'' January 2018. European Economic Review 101, 354-375.
What I've said today, and the graphs, are in these references. They go on to show you how the fiscal theory of monetary policy provides a simple unified framework for interest rate policy, quantitative easing, and forward guidance, that works even in frictionless models, though price stickiness is useful to produce realistically slow dynamics.
19 Aug 2020
Lottery Winners Don't Get Healthier - Barokong
Alex Tabarrok at Marginal Revolution had a great post last week, Lottery Winners Don't get Healthier (also enjoy the url.)
Wealthier people are healthier and live longer. Why? One popular explanation is summarized in the documentary Unnatural Causes: Is Inequality Making us Sick?
The lives of a CEO, a lab supervisor, a janitor, and an unemployed mother illustrate how class shapes opportunities for good health. Those on the top have the most access to power, resources and opportunity – and thus the best health. Those on the bottom are faced with more stressors – unpaid bills, jobs that don’t pay enough, unsafe living conditions, exposure to environmental hazards, lack of control over work and schedule, worries over children – and the fewest resources available to help them cope.
The net effect is a health-wealth gradient, in which every descending rung of the socioeconomic ladder corresponds to worse health.If this were true, then increasing the wealth of a poor person would increase their health. That does not appear to be the case. In important new research David Cesarini, Erik Lindqvist, Robert Ostling and Bjorn Wallace look at the health of lottery winners in Sweden (75% of winnings within the range of approximately $20,000 to $800,000) and, importantly, on their children. Most effects on adults are reliably close to zero and in no case can wealth explain a large share of the wealth-health gradient:
In adults, we find no evidence that wealth impacts mortality or health care utilization.... Our estimates allow us to rule out effects on 10-year mortality one sixth as large as the crosssectional wealth-mortality gradient.The authors also look at the health effects on the children of lottery winners. There is more uncertainty in the health estimates on children but most estimates cluster around zero and developmental effects on things like IQ can be rejected (“In all eight subsamples, we can rule out wealth effects on GPA smaller than 0.01 standard deviations”). (My emphasis above)
Alex does not emphasize the most important point, I think, of this study. The natural inference is,The same things that make you wealthy make you healthy. The correlation between health and wealth across the population reflect two outcomes of the same underlying causes.
We can speculate what those causes are. (I haven't read the paper, maybe the authors do.) A natural hypothesis is a whole set of circumstances and lifestyle choices have both health and wealth effects. These causes can be either "right" or "left" as far as the evidence before us: "Right:" Thrift, hard work, self discipline and clean living lead to health and wealth. "Left:" good parents, good neighborhood, the right social connections lead to health and wealth.
Either way, simply transferring money will not transfer the things that produce money, and produce health.
Perhaps the documentary was right after all: "class shapes opportunities for good health." But "class" is about more than a bank account.
Also, Alex can be misread as a bit too critical: "If this were true." It is true that health and wealth are correlated. It is not true that more wealth causes better health. The problem is not just "resources available to help them cope."
Why a blog post? This story is a gorgeous example of the one central thing you learn when doing empirical economics: Correlation is not causation. Always look for the reverse possibility, or that the two things correlated are both outcomes of something else, and changing A will not affect B. We seldom get an example that is so beautifully clear.
Update: Melissa Kearney writes,
"Bill Evans and Craig Garthwaite have an important study [AER] showing that expansions of EITC benefits led to improvements in self-reported health status among affected mothers.
Their paper provides a nice counterpoint to the Swedish lottery study, one that is arguably more relevant to the policy question of whether more income would causally improve the health of low-income individuals in the U.S.
Thanks Melissa for pointing it out. This is interesting, but I'd rather not get in to a dissection of studies here -- just who takes advantage of EITC benefits, how instruments and differences do and don't answer these problems. The main point of my post is not to answer once and for all the question -- how much does showers of money improve people's heath -- but to point out with this forceful example for non-economists the possibility that widely reported correlations - rich people are healthier -- don't automatically mean that money showers raise health.
Syverson on the productivity slowdown - Barokong
Chad Syverson has an interesting new paper on the sources of the productivity slowdown.
Background to wake you up: Long-term US growth is slowing down. This is a (the!) big important issue in economics (one previous post). And productivity -- how much each person can produce per hour -- is the only source of long-term growth. We are not vastly better off than our grandparents because we negotiated better wages for hacking at coal with pickaxes.
Why is productivity slowing down? Perhaps we've run out of ideas (Gordon). Perhaps a savings glut and the zero bound drive secular stagnation lack of demand (Summers). Perhaps the out of control regulatory leviathan is killing growth with a thousand cuts (Cochrane).
Or maybe productivity isn't declining at all, we're just measuring new products badly (Varian; Silicon Valley). Google maps is free! If so, we are living with undiagnosed but healthy deflation, and real GDP growth is actually doing well.
Chad:
First, the productivity slowdown has occurred in dozens of countries, and its size is unrelated to measures of the countries’ consumption or production intensities of information and communication technologies ... Second, estimates... of the surplus created by internet-linked digital technologies fall far short of the $2.7 trillion or more of “missing output” resulting from the productivity growth slowdown...Third, if measurement problems were to account for even a modest share of this missing output, the properly measured output and productivity growth rates of industries that produce and service ICTs [internet] would have to have been multiples of their measured growth in the data. Fourth, while measured gross domestic income has been on average higher than measured gross domestic product since 2004—perhaps indicating workers are being paid to make products that are given away for free or at highly discounted prices—this trend actually began before the productivity slowdown and moreover reflects unusually high capital income rather than labor income (i.e., profits are unusually high). In combination, these complementary facets of evidence suggest that the reasonable prima facie case for the mismeasurement hypothesis faces real hurdles when confronted with the data.
An interesting read throughout.
[Except for that last sentence, a near parody of academic caution!]
17 Aug 2020
NYT on zoning - Barokong
Conor Dougherty in The New York Times has a good article on zoning laws,
a growing body of economic literature suggests that anti-growth sentiment... is a major factor in creating a stagnant and less equal American economy.
...Unlike past decades, when people of different socioeconomic backgrounds tended to move to similar areas, today, less-skilled workers often go where jobs are scarcer but housing is cheap, instead of heading to places with the most promising job opportunities according to research by Daniel Shoag, a professor of public policy at Harvard, and Peter Ganong, also of Harvard.
One reason they’re not migrating to places with better job prospects is that rich cities like San Francisco and Seattle have gotten so expensive that working-class people cannot afford to move there. Even if they could, there would not be much point, since whatever they gained in pay would be swallowed up by rent.Stop and rejoice. This is, after all, the New York Times, not the Cato Review. One might expect high housing prices to get blamed on developers, greed, or something, and the solution to be government-constructed housing, "affordable" housing mandates, rent controls, low-income housing subsidies (which protect incumbent low-income people, not those who want to move in to get better jobs) and even more restrictions.
No. The Times, the Obama Administration, California Governor Gerry Brown, have figured out that zoning laws are to blame, and they're making social stratification and inequality worse.
In response, a group of politicians, including Gov. Jerry Brown of California and President Obama, are joining with developers in trying to get cities to streamline many of the local zoning laws that, they say, make homes more expensive and hold too many newcomers at bay.
.. laws aimed at things like “maintaining neighborhood character” or limiting how many unrelated people can live together in the same house contribute to racial segregation and deeper class disparities. They also exacerbate inequality by restricting the housing supply in places where demand is greatest.
“You don’t want rules made entirely for people that have something, at the expense of people who don’t,” said Jason Furman, chairman of the White House Council of Economic Advisers.This could be a lovely moment in which a bipartisan consensus can get together and fix a real problem.
The article focuses on Boulder Colorado, where
.. the university churns out smart people, the smart people attract employers, and the amenities make everyone want to stay. Twitter is expanding its offices downtown. A few miles away, a big hole full of construction equipment marks a new Google campus that will allow the company to expand its Boulder work force to 1,500 from 400.Actually, The reason Google and Twitter are in Boulder is that things are much, much worse in Palo Alto! A fate Boulder may soon share:
“We don’t need one more job in Boulder,” Mr. Pomerance said. “We don’t need to grow anymore. Go somewhere else where they need you.”
16 Aug 2020
How to step on a rake - Barokong
How to step on a rake is a little note on how to solve Chris Sims' stepping on a rake paper.
This is mostly of interest if you want to know how to solve continuous time new-Keneysian (sticky price) models. Chris' model is very interesting, combining fiscal theory, an interest rate rule, habits, long term debt, and it produces a temporary decline in inflation after a rise in nominal interest rates.
Federalization of Labor - Barokong
We are getting a good hint that a centerpiece of economic policy in the Hillary Clinton administration will be an increase in Federal control over labor markets.
The news here is that serious economists are advocating these policies, not just to transfer income from one to another, reduce inequality, help specific groups, or enhance some sense of social justice, at the expense of dynamism and growth, but that more Federal control of the labor market will increase wages, productivity and economic growth for everyone!
Alan Blinder's cogent Aug 2 Wall Street Journal opinion piece gives a good sense of the language and logic,
... Hillary Clinton has presented an extensive list of policies that would raise wages, starting with a higher minimum wage. ...
Mrs. Clinton also advocates widespread profit-sharing as a way to put more money into workers’ pockets. She would promote that goal both by using the presidential bully pulpit and by providing tax incentives for businesses that share profits. Since the scholarly evidence suggests that profit-sharing raises productivity, such tax breaks will partly pay for themselves.
Increased vocational training and apprenticeships for the non-college-bound are also major Clinton policies....The U.S. can increase its productivity and reduce inequality by ensuring that the right people get vocational training and apprenticeships.
And then there is what may be the surest way to raise wages over the long run: providing pre-K education for all American children.... Labor market intervention is getting wrapped up in "stimulus," as reported in an excellent Bloomberg column by Brendan Greeleyhere,
"It’s really simple," she said at a rally in June in Ohio. "Higher wages leads to more demand, which leads to more jobs, which leads to higher wages." ...
When Clinton uses the word "demand" on the stump, she’s blowing a dog whistle. (Economists have them, too.) Increase demand, she’s saying, and you get growth.... Bob Gordon signs on reluctantly,
"I think it’s a very marginal way of promoting economic growth," says Robert Gordon, economist at Northwestern University who specializes in the subject. Like Summers, he prefers a massive investment in infrastructure. But he does agree that a shift in business income away from profits and toward salaries would create growth. Workers are more likely to buy things from their paychecks than businesses are to invest out of their profits.Alan Krueger ["former chairman of the Council of Economic Advisers and an informal adviser to the Clinton campaign," and candidate for vice-president of the American Economic Association] agrees wholeheartedly:
... "I think the time could be right for a more virtuous growth model," he said, "which is driven by stronger wage growth...more consumption, more demand, creating more jobs."Novel rationalizations for decades-old policies are always suspect. And the usual passive or verb-less sentences hiding the heavy hand of Federal government always invites skepticism.
But let's take it seriously. How much sense do these analyses make?
Without rehashing the whole minimum-wage fight, it is worth asking, if the Federal Government forces businesses to raise some people's wages, but others become unemployed as a result, whether that really count as raising wages overall?
The words "presidential bully pulipit" has poor overtones in the current age. The bully pulpit means the DOJ, EEOC, IRS, NLRB, EPA and who knows even the fish and wildlife service may come calling if you don't do what the president wants. Schoolyard bully, not Teddy Roosevelt's jolly-good pulpit.
"The scholarly evidence indicates that profit-sharing raises productivity.." That's a new twist on the abominable "studies show" argument by reference to vague authority. But even "scholarly evidence" has to make some sense.
It does make sense that firms which study the question and choose profit-sharing plans can thereby raise productivity, either by giving their employees better incentives or by attracting different and more productive employees. They would not do it otherwise.
But this classic subject-free sentence is about Federal Regulations to force profit-sharing that "puts money into workers' pockets" on all firms. It does not follow that such a mandate will have the same effect. This is the classic, "rich guys drive BMWs, so if we force BMW to give cars away we'll all get rich."
To belabor the obvious, that some firms choose it because they see it will work does not mean that the Federal Government forcing it on all firms will work. That profit sharing which increases workers' incentives can work does not mean that reducing profits and paying lump sums to workers will work. That profit sharing accompanied by greater selection of productive workers works does not mean that forced profit sharing will work for everyone -- someone employs the less productive, I hope.
If it's about incentives, then there should be a widespread Federal initiative to promote piece-work, commissions rather than salaries, independent contractors rather than employees... Hmm, we're headed the other way.
As economists, we are supposed to start with a problem. What is the market failure that stops companies form putting in productivity enhancing profit sharing programs? Or are they just too dumb and need the benevolent hand of the "bully pulpit" to educate them?
"Increased vocational training and apprenticeships for the non-college-bound," are more Orwellian subject-less sentences. Who is going to do this increasing and how? What is the market failure? Do we need to have triple digit numbers of Federal Job-training programs?
"Providing pre-k education" is another subject-free sentence. I presume he does not mean reducing regulations and union requirements so more pre-k schools can start up! That might actually be effective. But perhaps it is technically correct: a large Federal subsidy for pre-k education, funneled through the public school systems and teacher's unions will raise someone's wages. The "scholarly evidence" is not that it will be the kids.
The idea that forcing companies to pay out greater wages is the key to "stimulus," and that demand-side "stimulus" is the key to long-run growth is...er... even more novel economics.
In classic Keynesian stimulus, there is something about the government borrowing money and spending it, or giving it to consumers to spend, that causes people to forget that the borrowed money must be paid back someday. Not here -- this is directly the claim that taking from Peter and giving to Paul is the key to prosperity. And not just temporary stimulus, but long run growth.
One of many fallacies at work here is the notion that companies face a choice between "paper" investment and "real" investment; that by piling up cash reserves they are somehow diverting resources that could be "real demand" into "paper investments." But every paper asset is a paper liability, so this possible truth about an individual company makes no sense for an economy as a whole.
And let's follow the logic. If this works for stimulus and growth, force companies to give away cash to consumers. Consumers are, well, people who like to consume. Force them to give cash away to thieves. They consume quickly. If this is a bad idea.. well then maybe the whole "stimulus" thin is a bit of bunk as well.
Gordon at least has the decency to belittle the idea. And on "a shift in business income [another subjectless sentence -- this shift is forced by the Federal Government!] away from profits and toward salaries would create growth" because "Workers are more likely to buy things from their paychecks than businesses are to invest out of their profits," one can hope that a statement which violates basic accounting is a misquotation.
Krueger has less defense: "a more virtuous growth model,...which is driven by stronger wage growth...more consumption, more demand, creating more jobs" is a direct quote. It may be "virtuous" to feel this way, but the classic criticism of Democratic economic policy is doing things that make you feel good but don't work.
Well maybe, maybe not. Economics is a work in progress. But it is certainly brand-new, made-up-on-the spot economics, designed to buttress policies decided on for other reasons.
A last grumpy comment. The WSJ titled Blinder's oped, "Only one candidate can make wages grow again." Actually I agree with the sentence Like most media they forgot there are more than two candidates!
15 Aug 2020
A Look in the Mirror - Barokong
Tyler Cowen and Alex Tabarrok have written a splendid article, "A Skeptical View of the National Science Foundation’s Role in Economic Research" in the summer Journal of Economic Perspectives. Many of their points apply to research support in general.
The article starts with classic Chicago-style microeconomics: What are the opportunity costs -- money may be helpful here, but what else could you do with it? What are the unexpected offsetting forces -- if the government subsidizes more, who subsidizes less? What is the whole picture -- how much public and private subsidy is there to economics research without the NSF? Too many good economists just say "economic research is a public good, the government should subsidize it."
They go on to ask deeper questions, "Are NSF Grants the Best Method of Government Support for Economic Science?" The NSF largely supports mainstream research by established economists at high-prestige universities. Are there better "public goods," undersupported by other means, for it to support?
Yes. Among others, replication and data. There are few current rewards for replication, and much economics research is not replicable. We live in the age of big data, but it's expensive and hard to access. The NSF has done commendable work here -- and other government agencies including the Census, Bureau of Labor Statistics, Federal Reserve, etc. provide huge public goods by collecting and disseminating good data. Without data we would not exist. That strikes me as the single most underfunded public good in the economics sphere.
I'm less a fan of their proposal to support "far out" research, naming "post-Keynesians, econo-physicists, or the Austrians." While they cite popular authors and a "gadfly'" sensational claims for the end of macroeconomics in 2009, in fact Macroeconomics is not all that much changed since the crisis and recession, and none of these claims -- nor the wackier approaches -- have in fact borne any fruit. Yes, it's easy to support mediocre incremental research, but government agency that must appear impartial can too quickly end up subsidizing crank research, of which there is plenty in economics (see my inbox!)
They ask a great question. If the government wants to subsidize economic research, why hand out grants, rather than hire people directly?
I think there are good answers here. Another big subsidy to economics research which they do not mention are the legions of government employees already doing it. The Federal Reserve, Treasury, OFR, CEA, SEC, CFTC, HHS, EPA and hundreds of other agencies employ thousands of PhD economists who spend considerable if not full time on "research," and are expected to write academic journal articles. Make up your own mind about the value of this effort. The success of the research university I think points to an important externality between doing research, teaching it, and evaluating it through service to the profession. Also, research coming out of government agencies always seems to find just how wonderful those agencies' policies are. However, replication and data production, or other more easily guided research seems a good fit.
Also not mentioned is the danger that government subsidized research ends up being politicized, or at least ends up calling for more government.
One of the main methods of NSF support is "summer support." Universities pay academics on a 9 month basis. If you get an NSF grant it pays for 2 months of "summer support." This is, of course, a fiction. In fact, most universities chop up the "9 month" salary into 12 pieces anyway. And most academics are not about to go work elsewhere in the summer -- it's the only time to really focus on research, and as Alex and Tyler point out the rewards to publishing are huge. By and large the NSF does not (or did not when I last looked in to it) buy off teaching or other duties, the one thing that might free up some marginal research time. Alex and Tyler mention low labor supply elasticities as a reason to be cautious about the effectiveness of support. They don't mention this system, practically guaranteed to be a pure transfer rather than induce more research.
On the other hand, NSF grants are typically awarded based on a working paper. They already are a "prize" as Tyler and Alex recommend. So perhaps the lump-sum nature of the reward is not such a bad idea, and ends up subsidizing good research rather than more effort.
I stopped applying for NSF grants some time ago. Sometime in the mid-1990s, I was driving through Indiana, and I saw a guy hooking a shiny new boat up to his pickup truck. It occurred to me, my NSF check for that summer was worth about 5 boats. I didn't think I could get out of the car and say with a straight face that he and four neighbors should forego their boats so I could work on unit roots for the summer. I'm not pure either; I still benefit from many government subsidies, not least of which the tax-deductibility of charitable contributions.
A world without cash - Barokong
Max Raskin and David Yermack have a nice WSJ OpEd last week, "Preparing for a world without cash." The oped summarizes their relatedpaper.
What would a government-backed digital currency look like? A country’s central bank would need to become a deposit-taking institution and hold accounts on behalf of citizens and businesses. All of their debits would be tracked on the central bank’s blockchain, a digital ledger resistant to tampering. The central bank would pay interest electronically by adjusting the balances of depositor accounts.I'm a big fan of the idea of abundant interest-bearing electronic money, and that the Fed or Treasury should provide abundant amounts of it. (Some links below.) Two big reasons: First, we then get to live Milton Friedman's optimal quantity of money. If money pays interest, you can hold as much as you'd like. It's like running a car with all the oil it needs. Second, it is a key to financial stability. If all "money" is backed by the Treasury or Fed, financial crises and runs end. As Max and David say,
Depositors would no longer have to rely on commercial banks to hold their checking accounts, and the government could get out of the risky deposit-insurance business. Commercial banks that wished to keep making loans would raise long-term capital in the debt and equity markets, ending the mismatch between demand deposits and long-term loans that can cause liquidity problems.However, there are different ways to accomplish this larger goal. Do we all need to have accounts directly at the Fed, and is a blockchain the best way for the Fed to handle transfers?
The point of the blockchain, as I understand it, is to demonstrate the validity of each "dollar" by keeping a complete encrypted record of its creation and each person who held it along the way.
Its archival blockchain links together all previous transfers of a given unit of currency as a method of authentication. The blockchain is known as a “shared ledger” or “distributed ledger,” because it is available to all members of the network, any one of whom can see all previous transactions into or out of other digital walletsThat, and a limited supply to control its value, was the basic idea of bitcoin. But when we are clearing transactions by transferring rights to accounts at the Fed, the validity of the "dollar" is not in question. It's at the Fed. And, the big advantage relative to bitcoin as I see it, the value of the dollar comes from monetary policy and ultimately the government's demand for "dollars" to be paid in taxes, not from a fixed supply as was the case with gold.
The blockchain also appears to clear transactions more quickly and offer some security advantages. The latter are very attractive -- in my personal life I've recently had the questionable pleasure of spending days enjoying 19th century finance of multi-day clearing times, obtaining notarized signatures and medallion guarantees, and sending pieces of paper around. But not yet ironclad -- The same week of the WSJ has a string of articles on the security ofBitcoin following a recent hack.
The biggest stumbling block in my mind is "all members of the network, any one of whom can see all previous transactions into or out of other digital wallets." Per Max and David, this has pluses and minuses:
Tax collection would become much simpler, and tax evasion and money laundering could become prohibitively difficult.
Yet the centralization of banking under this system would also create a Leviathan with the power to monitor and control the personal finances of every citizen in the country. This is one of the chief reasons why many are loath to give up on hard currency. With digital money, the government could view any financial transaction and obtain a flow of information about personal spending that could be used against an individual in a whole host of scenarios.This really is a big change in how "money" works. Traditional cash has a lovely property, that it has no memory. Its physical properties determine its value in a way independent of its history. It is incredibly efficient, in a Hayek information sense. The economy does not need the memory of every transaction. Blockchains turn this around.
The anonymity of cash makes it enduringly popular -- cash holdings are up, not down in the digital age. The same week of WSJ reading had articles delving into the continuing popularity of cash, and themechanics of handling it, the ongoing fury over theplaneload of cashdelivered by the Obama administration to Iran. It's not hard to figure out why both Iranians and Administration needed to send old-fahshioned bills on an unmarked plane, not a wire transfer.
Indeed creating this Leviathan is a danger, to the economy, and to our political freedom. Our government likes to pass aspirational laws that we don't really mean to enforce. Get rid of cash, and allow the government to see every transaction and enforce every law regarding payment of anything, and 11 million immigrants suddenly can't work at all and become penniless. Rigorous enforcement of all transactions would not only stop your kids lemonade stand and babysitting business, it would wipe out most of the employment opportunities for lower-income America. Many businesses would come to a halt.
The natural response is, well, maybe we shouldn't pass laws we don't really mean to enforce. Good luck with that.
More deeply, "flow of information about personal spending that could be used against an individual in a whole host of scenarios" is truly frightening. I don't think there is a political candidate in the whole country who could not be embarrassed with one purchase at some point in their lives. Consider the brouhaha now over "disclosure" of political contributions -- there is a real fear that disclosure is a way of setting up hit lists for the administration to go after its political enemies. Multiply that by a thousand. Dissenters could easily be silenced if the government can monitor or block every transaction.
The ability to transact with anonymity and privacy has been a central freedom for hundreds of years. It's largely gone already. Losing it entirely and giving the government huge power to enforce any law it passes is not necessarily a good thing.
Mike and David opine
creating and respecting privacy firewalls and rethinking legal-tender laws could mitigate the dangers of monopoly and stifled competition in currency markets.[Subject-free sentences (creating?) are always a sign of trouble!] The dangers are not of monopoly and competition, the dangers are in the vast loss of privacy that the government, and its leakers and hackers knowing all our transactions implies.
(Here I'm out on a limb on my blockchain knowledge, but I gather that one does have to wipe the slate clean occasionally. Otherwise, the blockchain gets ridiculously long. Imagine each dollar, a hundred years from now, attached to a list of everyone who has ever held it! That wiping out process could do a lot for privacy.)
So, back to basics. It is not at all clear to me in their analysis why the Fed has to manage all the accounts. The Fed, Treasury, and the government in general are very good at defining the units of a currency, and providing an easy standard of value -- cash, coins, liquid government debt, reserves. That is their natural monopoly. I don't see that the government has a similar natural advantage in providing low-cost transactions services, especially on monitoring fraud in the use of those services. The Fed got hacked by employees of the central bank of Bangladesh.
So I leave with two big questions -- and these are questions, and this is an invitation to more thought.
Is a blockchain really better than accounts at the Fed, and instructions to flip a switch to send money from my account to your account? What is the best way to get low transactions costs and fraud prevention, given that we don't need authentication of the dollar itself and a supply limitation?
Is it really better for the Fed to handle all transactions directly, rather than for the Fed to provide clearing accounts, and "banks" (narrow!) to provide transactions services between people, using reserves as now for netting and clearing? The latter setup allows competition and innovation in transactions services, and a better hope for an information firewall retaining some privacy and anonymity in transactions.
(Note for readers new to the blog: I've written about some of these issues inA new structure for US Federal Debt, Toward a run-free financial system, A blueprint for effective financial reform and previous blog posts, such as here.)
Summers on growth and stimulus - Barokong
Larry Summers has an important, and 95% excellent, Financial Times column. Larry is especially worth listening to. I can't imagine that if not a main Hilary Clinton adviser he will surely be an eminence grise on its economic policies. He's saying loud and clear what they are, so far, not: Focus on growth.
The title "the progressive case" for growth, is interesting enough. Perhaps Larry now uses the word "progressive" to describe himself. More importantly, Larry's audience here is the Clinton campaign and the Democratic party. He's saying loud and clear: you're not paying enough attention to growth, and growth ought to be at the center of the party, and the new Administration's, economic plans.
...many people, in their eagerness to focus on fairness, neglect the single most important determinant of almost every aspect of economic performance: the rate of growth of total income,Hooray. Not only is this vitally important and factually correct, a growth oriented policy, if sold without the usual demonization, could well attract bipartisan support. That sentence could come from Paul Ryan's a better way
Alas, Larry blows that spirit right off the bat with a sentence that take a gold medal for convoluted calumny and bombastic bulverism:
Because those who champion strategies that centre on business tax-cutting and deregulation and favour the wealthy have placed the most emphasis on growth over the past 35 years, the objective of increasing growth has been discredited in the minds of too many progressives.Translated into something approximating English: because people whose only and base motive was "favoring the wealthy" happened to advocate growth to sell their (as later described) useless tax-cutting and deregulation strategies, the goal of growth has become tarnished in the minds of good progressives.
This is below Larry -- in person I have always known him to recognize that conservatives and free-marketers have exactly the same dispassionate goal, advocate growth primarily to help the less well off, and tax-cutting and deregulation as time-proven policies that improve growth. But, again, his audience is to the left, so perhaps one can excuse some I-hear-you agreeing with common demonizations.
But then he gets to well written and praiseworthy work, so good I must quote it in entirety:
It can hardly be an accident that the decades of maximum growth, the 1960s and 1990s, also saw the most rapid job growth and most rapid increase in middle-class living standards.
Growth provides the wherewithal for increased federal revenue and so encourages the protection of vital social insurance programmes such as Social Security and Medicare....
Tight labour markets are the best social programme, as they force employers to hire and mentor inexperienced people in order to be adequately staffed. Some years ago, I estimated that for each 1 per cent point increase in adult male employment, the employment of young black men rose 7 per cent. More recent research confirms economic growth has an outsized benefit for younger people and minorities.
Rising growth has other benefits, as well. It strengthens the power of the American example in the world. It obviates the need for desperation monetary policies that risk future financial stability. Greater growth also has historically operated to reduce crime, encourage environmental protection and contributes to public optimism about the country that our children will inherit.
The reality is that if American growth continues to have a 2 per cent ceiling, it is doubtful that we will achieve any of our major national objectives.
If, on the other hand, we can boost growth to 3 per cent, interest rates will normalise, middle-class wages will rise faster than inflation, debt burdens will tend to melt away and the power of the American example will be greatly enhanced.
...the vast majority of job creation and income growth comes from the private sector. If the next president is lucky enough to oversee the creation of 10m jobs from 2017-20, more than 8m of them will surely come from businesses hiring in response to profit opportunities.All true, excellent, well-stated, and bipartisan (at least for the pre-Trump era). Jeb Bush's 4%, Paul Ryan's opportunity society agree totally. Heck, even Gary Johnson might find little to quibble with here. If growth could be the mantra for the Hilary Clinton administration, and if Larry can persuade his fellow "progressives," great things could follow.
And now to the remaining 5%:
There is no case for reducing already low corporate taxes or removing regulations unless it can be shown that these have costs in excess of benefits.
What is needed is more demand for the product of business. This is the core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness. No case? Really? The higher taxes, steadily more convoluted tax code, vast expansion of regulation (Dodd-Frank, Obamacare are just the start) that coincided with our epic slow growth, have nothing at all to do with that sorry experience? There is absolutely nothing wrong with the microeconomics of the American economy and its vast administrative, judicial and regulatory state, we just need a bit more "demand?"
Leave aside the last 30 years of growth theory, which is silent on "demand," we can do nothing better than move around 1970s era IS and LM curves, and revive ideas from the 1930s?
Read the second paragraph carefully. "More demand" is the ""core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness."
That "more demand" is the "core of the case" for (The Federal Government to borrow a lot of money and spend it on things labeled as) "public investment" admits up front that the actual value of such investment is at best secondary. Public investment in a great Ice Wall of Westeros on the southern border, or for high-speed trains from Tonopah to Winemucca, do just as well in boosting "demand."
What is needed is a serious negotiation: Fund needed infrastructure investment, but put in serious cost-benefit analysis, buy it at reasonable prices, and so forth. That negotiation should start by abandoning the whole idea that we're doing it to provide "jobs" and "demand." If you're not wiling to do that, at least be honest and state that Mr. Trump's wall provides the same "demand."
Then explain to us how Japan has been at this for 20 years, producing no great shakes of growth.
"policy-approaches to... increasing worker's purchasing power" is another classic hidden-subject clause. I presume it means [The Federal Government, by legislation, regulation, or threat, will force companies to pay workers more, and then control employment to make sure those companies don't just fire workers or select better ones in order to ] increase [some] worker's purchasing power." Gary Johson's program also increases worker's purchasing power, and I don't think that's what Larry has in mind. I'm also curious where in modern economics forced transfers increase employment and long-run growth.
But in context, this is a small complaint. If Larry can persuade Mrs. Clinton and the "progressives" in the Democratic Party to focus on growth, to state goals for growth, and to hold themselves accountable for growth, then we can have an honest and very productive conversation about what's stopping growth and what steps can further it.
14 Aug 2020
Interview, talk, and slides - Barokong
I did an interview with Cloud Yip at Econreporter, Part I and Part II, on various things macro, money, and fiscal theory of the price level. It's part of an interestingseries on macroeconomics. Being a transcript of an interview, it's not as clean as a written essay, but not as incoherent as I usually am when talking.
On the same topics, I will be giving a talk at the European Financial Association, on Friday, titled "Michelson-Morley, Occam and Fisher: The radical implications of stable inflation at the zero bound,"slides here. (Yes, it's an evolution of earlier talks, and hopefully it will be a paper in the fall.)
And, also on the same topic, you might find useful a set of slides for a 1.5 hour MBA class covering all of monetary economics from Friedman to Sargent-Wallace to Taylor to Woodford to FTPL. That too should get written down at some point.
The talk incorporates something I just figured out last week, namely how Sims' "stepping on a rake" model produces a temporary decline in inflation after an interest rate rise. Details here. The key is simple fiscal theory of the price level, long-term debt, and a Treasury that stubbornly keeps real surpluses in place even when the Fed devalues long-term debt via inflation.
Here is really simple example.
Contrast a perpetuity with one period debt, and a frictionless model. Frictionless means constant real rates and inflation moves one for one with interest rates
$$ \frac{1}{1+i_t} = \beta E_t \frac{P_t}{P_{t+1}} $$
The fiscal theory equation, real value of government debt = present value of surpluses, says
$$\frac{Q_t B_{t-1}}{P_t} = E_t \sum \beta^j s_{t+j}$$
where Q is the bond price, B is the number of bonds outstanding, and s are real primary surpluses. For one period debt Q=1 always. (If you don't see equations above or picture below, come back to the original here.)
Now, suppose the Fed raises interest rates, unexpectedly, from \(i\) to \(i^\ast\), and (really important) there is no change to fiscal policy \(s\). Inflation \(P_{t+1}/P_t\) must jump immediately up following the Fisher relation. But the price level \(P_t\)might jump too.
With one period debt, that can't happen -- B is predetermined, the right side doesn't change, so \(P_t\) can't change. We just ramp up to more inflation.
But with long-term debt, any change in the bond price Q must be reflected in a jump in the price level P. In the example, the price of the perpetuity falls to
$$ Q_t = \sum_{j=1}^\infty \frac{1}{(1+i^\ast)^j} = \frac{1+i\ast}{i^\ast}$$
so if we were expecting P under the original interest rate i, we now have
$$\frac{P_t}{P} = \frac{1+i^\ast}{1+i} \frac{i}{i^\ast}$$
If the interest rate rises permanently from 5% to 6%, a 20% rise, the price level jumps down 20%. The sticky price version smooths this out and gives us a temporary disinflation, but then a long run Fisher rise in inflation.
Do we believe it? It relies crucially on the Treasury pigheadedly raising unchanged surpluses when the Fed inflates away coupons the Treasury must pay on its debt, so all the Fed can do is rearrange the price level over time.
But it tells us this is the important question -- the dynamics of inflation following an interest rate rise depend crucially on how we think fiscal policy adjusts. That's a vastly different focus than most of monetary economics. That we're looking under the wrong couch is big news by itself.
Even if the short-run sign is negative, that is not necessarily an invitation to activist monetary policy which exploits the negative correlation. Sims model, and this one, is Fisherian in the long run -- higher interest rates eventually mean higher inflation. Like Friedman's example of adjusting the temperature in the shower, rather than fiddle with the knobs it might be better to just set it where you want it and wait.
13 Aug 2020
Asset Pricing Mooc, Resurrected - Barokong
The videos, readings, slides/whiteboards and notes are all now here on my webpage. If you just want the lecture videos, they are all on Youtube, Part 1 here and Part 2 here.
These materials are also hosted in a somewhat prettier manner on the University of Chicago's Canvas platform. You may or may not have access to that. It may become open to the public at some point.
I'm working on the quizzes, problems, and exams, and also on finding a new host so you can have problems graded and get a certificate. For now, however, I hope these materials are useful as self-study, and as assignments for in-person classes. I found that sending students to watch the videos and then having a more discussion oriented class worked well.
What happened? Coursera moved to a new platform. The new platform is not backward-compatible, did not support several features I used from the old platform, and some of the new platform features don't work as advertised either. Neither the excellent team at U of C, nor Coursera's staff, could move the class to the new platform. And Coursera would not keep the old platform open. So, months of work are consigned to the dustbin of software "upgrades," at least for now.
Obviously, if you are thinking of doing an online course, I do not recommend that you work with Coursera. And make sure to write strong language about keeping your course working in the contract.
Update: The latest version of the class is here
