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July 31, 2007
Ticket scalping legal in Minnesota as of August 1
"It gets rid of the stigma that surrounds our business a little bit," [ticket broker Michael] Nowakowski said of the law change. "I just think for years people in Minnesota have been taught that buying or selling tickets at over face value is very similar to buying and selling drugs."
Prosecutions of ticket scalpers have been on the decline for the last few years.
Records kept by the state courts system show only a small number of cases resulted from the scalping law. In Hennepin and Ramsey counties, where the pro sports venues are located, there have been 104 cases carrying a scalping charge since 2002. The most was 35 in 2003; this year saw only two.
Posted by William Polley at 01:37 PM | Comments (2) | TrackBack
Today would have been Milton Friedman's 95th birthday
Baseball, Free Markets, and Milton Friedman (Mackinac Center for Public Policy)
Wall Street Journal Op-ed by Thomas F. Siems
Posted by William Polley at 12:01 AM | Comments (0) | TrackBack
July 30, 2007
China raises the required reserve ratio
In my macro courses, I point out that the required reserve ratio is seldom changed in the U.S. It is a blunt instrument for conducting monetary policy. In a stable and well-regulated monetary system, there really isn't much reason to touch it. However in systems marked by tremendous change and growth raising the reserve ratio can be an effective way to attempt to restrain the growth of credit and prevent inflation pressures. Hence, China has raised their required reserve ratio five times already this year.
Make that six. Effective August 15, the required reserve ratio for most large banks will be 12 percent, a half-percent increase. From China Daily:
The central government has vowed to prevent the economy from overheating; and the central bank said the hike in the reserve requirements was aimed at "strengthening management of liquidity in the banking system and control excessive growth in money supply and credit".
The broad measure of money supply, or M2, grew by 17.1 percent year on year in June, which was higher than the target of 16 percent set by the central bank for this year.
The latest step follows the raising of benchmark interest rates by 0.27 percentage point on July 20 and cutting the tax on interest income from 20 percent to 5 percent in a coordinated move to reduce liquidity and stabilize the blistering economy.
"The liquidity situation has become more and more serious," said Zhao Xijun, finance professor at Renmin University of China.
Indeed. The expectation is that the required reserve ratio will need to be increased even further just to keep up with the growth of liquidity resulting from their large trade surplus.
Posted by William Polley at 11:45 PM | Comments (0) | TrackBack
Charles Evans to lead Chicago Fed
Michael Moskow is stepping down from his post as president of the Chicago Fed at the end of August. Next week will be his last FOMC meeting. He's been at the helm at the Chicago Fed for almost as long as I've been following the Fed's activities. We wish him well in his retirement.
Today it was announced that Charles Evans, currently the Chicago Fed's director of research will succeed Mr. Moskow. Quoting from the press release:
CHICAGO- (July 30, 2007) - The Federal Reserve Bank of Chicago today announced that Charles L. Evans will become the bank's ninth president and CEO effective September 1, 2007.
Evans, 49, will replace Michael H. Moskow, who will retire August 31 after 13 years as president. The announcement was made by Miles D. White, CEO of Abbott Laboratories and chairman of the bank's board of directors. White chaired the board's search committee responsible for the selection of the new president.
Evans is currently senior vice president and director of research at the Federal Reserve Bank of Chicago. He also oversees the bank's Office of Consumer and Community Affairs and its Office of Public Affairs. He joined the Chicago Fed in 1991 and has been director of research since 2003. In that capacity he coordinates all monetary policy support for the president and the board of directors, with responsibility for research into the conduct of monetary policy and the structure of the macroeconomy.
Evans is well respected for his research on inflation, financial market prices and measuring the effects of monetary policy on U.S. economic activity. His research has been published in the Journal of Political Economy, American Economic Review, Journal of Monetary Economics, Quarterly Journal of Economics, and the Handbook of Macroeconomics.
"After a comprehensive search in which we interviewed several excellent candidates, we decided that Charlie is best qualified to lead the Federal Reserve Bank of Chicago," White said. "He has excellent leadership skills, knows the Federal Reserve System well, and has participated at the highest level of the monetary policy-making process."
I live in the Chicago Fed district and am involved with their Fed Challenge (judge for the HS competition and WIU's coach for the college competition), so I take a special interest in this one. I think Evans is a great choice for the position and look forward to more quality work coming from Chicago.
Posted by William Polley at 11:00 PM | Comments (0) | TrackBack
July 29, 2007
Opportunity cost in the firm
So many good Dilbert comic strips deal with opportunity costs within the firm. Saturday's made me laugh. Non-economists probably laughed at the punch line. I laughed at the set-up.
Posted by William Polley at 02:35 AM | Comments (1) | TrackBack
July 27, 2007
Trading in binary Fed options
After reading the latest GDP news, I went poking around the CBOT website to see how things were going on the futures market for fed funds. One thing caught my eye. Shortly before noon today, there was a posting of a trade of 500 Fed Binary Options for December 07. Specifically, they were call options with a strike price of 94750. The trade was completed at a price of 41 ($410 per contract). That is the only open interest on that contract so far.
Here's what this means. A long position in this contract receives $1000 per contract if the fed funds target is less than 5.25% (the prevailing rate today) on the day after the December 2007 FOMC meeting. Essentially, two parties were able to agree on a bet that effectively indicates a subjective probability of a rate cut by December at 41%.
In case you're interested, the latest prices for similar options maturing in August, September, and October are 9, 20, and 28 respectively.
The more traditional 30 day futures on fed funds were broadly higher as well, though yesterday's moves in light of the continued housing difficulties were larger. Today's GDP numbers seemed to reinforce yesterday's news. September contracts on the IEM have not started to move much yet. We'll keep in eye on that.
It will indeed be interesting to watch the binary options on the CBOT in the coming weeks. Keep it tuned right here for the coverage.
Posted by William Polley at 03:54 PM | Comments (2) | TrackBack
GDP growth 3.4% in 2nd quarter (Chart)
Click to enlarge the chart.
Real GDP grew at a rate of 3.4% in the 2nd quarter of 2007, according to the Bureau of Economic Analysis. The Wall Street Journal has an article as well as reaction on their economics blog. Behind the headline number, which sounds pretty good (most of us would regard 3 to 3.5 percent as being consistent with the growth of potential GDP), there are a couple of areas of concern. Foremost in the minds of many economists is the fact that personal consumption, which accounts for 70% of GDP only grew at a 1.3% rate. In the last 3 years, only the 4th quarter of 2005 was lower (1.2%). The weakness in the housing market likely accounts for some of the drop in the growth of consumption, which causes many to worry that soft consumption growth could continue for the rest of 2007.
Also, for the first time since 2003, imports decreased for the quarter. At a very basic level, imports can be an important indicator. In the 3rd quarter of 2000, imports began to fall and did not turn up again until the first quarter of 2002. The 2003 drop seemed to be a one off event that did not presage a recession. Hence, this drop does not immediately set the recession alarms ringing. However, if we had two consecutive quarters of imports falling, I would be much more concerned.
Government contributed 0.82% to GDP growth, which is on the high side of where it has been for the last few quarters.
The strength of the economy right now is clearly in the non-residential investment market. I see evidence of this anecdotally wherever I go as well. Spending on non-residential structures increased at a 22% rate--the highest in years. That pushed overall investment spending to its highest growth rate since the first quarter of 2006--even while the housing slump was putting downward pressure on the number. Neither the government spending, nor non-residential investment spending are likely to continue at this rate for an extended time. Unless there is a tremendous bounce-back in consumption, GDP growth for the rest of 2007 is likely to be below 3%, probably in the high 1's or low 2's.
I always find the chart at the top of this post useful. It shows the contributions of the various components of GDP to the overall growth rate. For the first time in a long time, every major component was on the plus side. That doesn't happen often, and some aspects of it do not bode well. My subjective probability for a rate cut by the end of 2007 just increased considerably. More on that later.
UPDATE: James Hamilton is thinking along the same lines. He also does a chart of the contributions to GDP. His includes residential investment as a category. His recession probability index is up to 26.2%, even with the relatively strong overall GDP number. All of this just goes to show that it's not just the overall number. You've got to look at the individual components. It's 3.4%, but it's a pretty ugly 3.4%.
Posted by William Polley at 02:08 PM | Comments (8) | TrackBack
July 23, 2007
China raises interest rates
This is old news, but here it is anyway. On Friday, China announced an increase in their benchmark interest rate. Via the Wall Street Journal:
From Saturday, the benchmark one-year lending rate will rise by 0.27 percentage point to 6.84%, while the benchmark one-year deposit rate will rise by the same margin to 3.33%, the People's Bank of China said. The changes will help "regulate and stabilize inflation expectations, and maintain stability in the price level," the central bank said.
While that language was broadly similar to statements the central bank made announcing rate increases in March and May, the reference to controlling inflationary expectations is new. That may show the central bank wants to prevent the recent surge in food prices from causing broader inflationary pressures, such as a demand by workers for higher wages to compensate for higher food prices.
In addition, the Chinese government cut a tax on interest which increases the effective rate of return experienced by depositors.
Two observations are in order. First, this will not be the end of the rate increases. The temptation to use a phrase like "measured pace" is hard to ignore. Second, as the Chinese continue to slowly let the yuan appreciate and move toward freer capital markets these pronouncements from the People's Bank of China will become as important and interesting for the global economy as press conferences from the ECB and statements from the Fed.
Posted by William Polley at 08:52 PM | Comments (0) | TrackBack
July 19, 2007
Fed links
I don't have a lot of time to comment on these today, but here are the links to Chairman Bernanke's testimony, the full report to Congress from the Board, and the most recent minutes of the FOMC.
Posted by William Polley at 03:56 PM | Comments (0) | TrackBack
July 17, 2007
It's the real rate of return that matters
David Leonhardt explains why records are made to be broken and why one must always adjust for inflation. (NY Times)
The S.& P. 500, which is a much better measure than the Dow, closed yesterday at 1,549, just 1.4 percent higher than the peak it reached in March 2000. Think about what that means. While the price of nearly everything has risen over the least seven years — while the price of bread has increased almost one-third, for instance — stocks have barely budged. They have only marginally outperformed cash sitting in a bureau drawer. So if we are going to talk about a stock market record, we should be doing the same for a whole lot of other things: Loaves of Bread Surge to New Highs
Posted by William Polley at 10:50 PM | Comments (11) | TrackBack
David Altig named Research Director at the Atlanta Fed
Congratulations, David! Via the Real Time Economics blog at the Wall Street Journal. (Hat tip: Mark Thoma)
Economics blogging can be good for your career. David Altig, author of the Macroblog has just been named research director of the Federal Reserve Bank of Atlanta.
Mr. Altig is currently associate research director at the Federal Reserve Bank of Cleveland and also teaches at the University of Chicago Graduate School of Business. His blog postings reflect a mainstream Fed view on key macroeconomic questions of the day.
In an interview, Mr. Altig said he doesn’t know if the blog will continue in his new job. “I‘ve been at it for a while, and I enjoy it but I have to take the lay of the land there and see whether my responsibilities are consistent with keeping it up or not.” A start date hasn’t been announced.
David's blog is one of the best when it comes to macro and monetary policy. At the moment, I have more of his posts saved in my feedreader than from any other blog. That says something. His blog started up about the same time as mine, and he was one of the first in the economics wing of the blogsphere to notice this little blog.
His analysis often includes a statement of the conventional wisdom with a healthy dose of reality. His post yesterday is another good one in that tradition.
I wish David the very best in his new position, and I hope that his blog will continue, even if it is in a less frequent form.
Posted by William Polley at 04:28 PM | Comments (0) | TrackBack
Norman Borlaug receives Congressional Gold Medal
Iowa's native son receives the nation's highest civilian honor. Here is a post from last year about Borlaug. Read the entire presentation by the President. Here are the first few paragraphs.
United States Capitol
10:53 A.M. EDT
THE PRESIDENT: Thank you, all. Madame Speaker, thank you. Madame Speaker, Mr. Leader, members of the congressional leadership, members of the Iowa delegation, fighting Texas A&M Aggies, Dr. Borlaug and his family:
All around us are testaments to our republic's young and storied history. Yet sometimes it takes a ceremony like this to remind us what a special place America is.
Ours is a land of hope and promise and compassion. And we see that compassion and promise in the man we honor today -- a farm boy, educated in a one-room schoolhouse, who left the golden fields of Iowa to become known as "The man who fed the world."
Many have highlighted Norman Borlaug's achievements in turning ordinary staples such as wheat and rice into miracles that brought hope to millions. I particularly appreciated the story about a former Vice President, and fellow Iowan, named Henry Wallace, who once came to observe Norman's grain experiments up close. The Vice President looked around, and then asked why a good Iowa boy like Norman wasn't working on something to do with corn. (Laughter.)
For more on Borlaug, see today's Wall Street Journal.
And this from RadioIowa.
The honor for Dr. Borlaug is well deserved.
Posted by William Polley at 02:53 PM | Comments (0) | TrackBack
July 16, 2007
How much can Beijing do to make our pet food safe?
James Pethokoukis asks Minxin Pei about recent problems with the quality of Chinese goods. Here is one question and answer that speaks volumes.
Pethokoukis:
The average American probably thinks of China as having an all-powerful authoritarian government. How easily can it institute changes that would improve product quality?
Pei:
China has a strong, authoritarian central government only in name. In reality, power in China is diffuse and decentralized. Beijing can issue orders, but it cannot expect its orders to be carried out by local officials. At the local level, officials with real power are often connected with manufacturers through family ties or economic connections. Producers of shoddy, fake, or outright dangerous goods are often protected by local officials whom they have bribed or given shares in their firms.
China is also so large that enforcing strict quality rules requires a much larger bureaucracy. Therefore, it is not easy for Beijing to impose changes that would improve product quality very quickly. However, crisis can spur action. Right now , Beijing feels it is under siege, so it is taking steps to address the quality issue. The real challenge is to introduce durable reforms. Otherwise, the quality problem will be back in two or three years.
Go read the rest.
Posted by William Polley at 09:29 PM | Comments (0) | TrackBack
On the calendar this week
Federal Reserve Chair Ben Bernanke testifies before both houses of Congress this week. He goes to the House Financial Services Committee on Wednesday at 10am EDT. Their web site says that they will webcast the hearing. On Thursday at 9:30am EDT, he goes to the Senate Banking Committee. No webcast information is available at this time (at least that I can find).
Posted by William Polley at 02:51 AM | Comments (0) | TrackBack
Roll out the barrel
First it was copper pipe. Now this... (MSNBC-Associated Press)
With metal prices rising, beer makers say they expect to lose hundreds of thousands of kegs and millions of dollars this year as those stainless steel holders of brew are stolen and sold for scrap.
The beer industry is coupling with the scrap metal recycling industry to let metal buyers know they can’t accept kegs unless they’re sold by the breweries that own them. They’re also pushing for legislation that would require scrap metal recyclers to ask for identification and proof of ownership from would-be sellers.
Some distributors are raising the deposits that they require from customers. How high can they raise the deposits? Certainly a bar owner can put up a few extra dollars per keg, which might encourage them to keep the kegs locked up when not in use. It's the occasional customer buying a keg for a weekend get-together who may be more sensitive to the deposit amount.
What do you think?
Read the whole thing.
Posted by William Polley at 02:15 AM | Comments (0) | TrackBack
July 14, 2007
Boudreaux vs. Rodrik
Don Boudreaux scores the first hit, and it's a beauty.
I suspect that if someone proposed to Dani Rodrik that he explore the wealth-creating potential of state-level protectionism, he would refuse. He would likely (and correctly) say that it's ridiculous on its face to suppose that such protectionism would make the people of Tennessee as a group wealthier over time. If my suspicion is correct, then to what would Rodrik himself attribute his out-of-hand dismissal of the notion that Tennessee tariffs might well make Tennesseeans richer? Would he realize to his chagrin that he is a benighted, faith-based non-scholar? Or would he instead understand that the case for an extensive, market-driven division of labor is so strong -- and that the political border that separates Tennessee from other states is so economically meaningless -- that it would be as pointless for a serious economist to explore the economic potential of Tennessee protectionism as it would be for a serious oncologist to try to cure a patient of cancer by bleeding that patient with leeches.
Let me confirm Boudreaux's suspicion that I would indeed be against imposing intra-state trade restrictions in general (or to be more precise, that I would have a strong presumption against them). So the question he asks is an important one. Why then do I not take an equally strong position against trade restrictions in international trade?
The answer is that the parallel is misleading in this context. The two situations are alike only in the limiting (and counterfactual) case where government-imposed tariffs are the only transaction costs blocking economic exchange across international borders. In reality, national borders demarcate political and legal jurisdictions, which means that there remain plenty of transaction costs which block economic convergence. Capital flows are hindered by sovereign risk and the absence of international regulation and lender-of-last resort functions, which create the kind of syndromes that I often discuss in this blog. Labor mobility is severely restricted. And differences in regulatory regimes impose severe transaction costs (estimated by Jim Anderson and Eric van Wincoop to be of the order of 40% in tariff equivalents) on international trade. In the presence of these transaction costs, free trade in goods (in the sense of zero import tariffs) is in general incapable of achieving rapid economic growth and economic convergence in poorer nations of the world. If you do not believe this, just ask the Mexicans.
Within this U.S., economic convergence is achieved because there is a common constitution, a federal judiciary, nation-wide financial regulation, and free flow of labor. This ensures that a lagging region (such as the South until recently) catches up by a combination of capital coming in and labor moving out. Neither of these channels are operative in a world economy that is divided into nation-states. Removing restrictions on international trade in goods, services, and capital simply does not do it. Trade ends up being too small, and capital flows in the wrong direction (from poor to rich countries).
Integration normally proceeds (e.g. the European Union) from free trade area or customs union, to monetary union, to political union. Europe is trying to make the last step, and it's not an easy one. Here in the U.S., the framers of the constitution were smart enough to establish the fledgling country as a customs union and monetary union. This was in order to form a more perfect political union that that Articles of Confederation was unable to deliver.
Unfortunately, this does not stop the states and localities from pursuing other policies (wooing multinational factories, establishing tax-increment financing districts, etc.) that do with a series of knife cuts a bit of what a tariff would do with a hatchet blow.
Such behavior, when done by all, would result in something that resembles the suboptimal outcome of a prisoner's dilemma. There are, however, probably some asymmetries that would lead to some states winning a tariff war with other states. California vs. Hawaii would probably not be a fair fight, for example. Whether Tennessee has that sort of bargaining power is left to the reader to contemplate.
That there are strong arguments and historical precedent for the usual progression of these economic unions plays into Boudreaux's stand. It would be self-defeating to move backward.
And similarly, Rodrik's position is that where the political (and even monetary) unions do not exist, there is no reason to presume the same prohibition on trade protection you would expect in a political union like the U.S. He can't resist one more jab at Boudreaux.
There is of course the option of global federalism (creating a U.S. or an EU at the global level)--but that does not seem a realistic option anytime soon. I doubt that Don Boudreaux would go for it in any case.
Brad DeLong scores it a knockout for Boudreaux.
The knockout punch, of course, is that Dani Rodrik's country whose "labor force that is producing at low levels of productivity" is doing so because it has lousy political institutions: it lacks the "constitution... judiciary, nation-wide financial regulation, and free flow of labor" that have underpinned economic growth in the rich post-industrial core. The poor country is poor because its government is incompetent, and corrupt.
And yet Dani wants--in this situation--to enhance and extend the role and powers of the poor-country government by asking it to implement an active protectionist industrial policy because "there exists a bunch of arguments having to do with learning and (domestic) market failures under which subsidization of tradable activities could speed up your economic growth."
Certainly many countries are poor because their government is incompetent and corrupt. But I find it hard to accept this as a blanket statement. So does Rodrik, who responds:
No, the argument that poor countries are and remain poor because their governments are incompetent and corrupt is one of the absurd reductionisms of the day which I do not believe in and have written against. The point I made was that a poor country would have the real prospect of converging in living standards with rich countries if international economic integration were near-total (involving free labor mobility, truly integrated capital markets, and a transnational set of regulatory, legal and political institutions that underpin this integration). In the absence of these, trade liberalization does not get you there. You are in a second-best world and you need to think appropriately. The idea that developing countries cannot employ industrial policy in such a world to good effect is downright silly.
Here is a thought experiment: does anyone really believe that China would have grown as fast as it did if it had removed all its tariffs and trade restrictions in 1978, instead of liberalizing strategically and sequentially--first in agriculture, than in industry, then on the export side, and only later in the 1990s on the import liberalization side? There are many reasons why the Chinese strategy worked, but one of them is that it protected employment while industrial capabilities were being built up.
Rodrik's notion of the second-best is one that I employ frequently when I think about reasons why protection has been implemented by countries. While I understand the concept and am sympathetic to the notion, my mind always comes back to the fact that it is difficult to remove protection once it is in place--vested interests being what they are. Hence, I am much more disposed to allowing a country to go slowly and deliberately (like China is in many respects) toward a goal of more openness than I am to allowing a country to take steps backward and impose additional protection.
Completely free trade is neither necessary nor sufficient for fast growth initially. Free trade is necessary but not sufficient for broader and deeper economic integration. Those are two different goals, but they are both goals that many countries have for themselves. And both are reasons why free trade should be pursued, but not necessarily in its extreme form right away. Rodrik is correct that unilateral free trade does not make integration happen (not sufficient), but I would have liked him to address the desirability of multilateral free trade for further integration down the road.
Or, to answer Boudreaux (albeit in a way that he probably didn't intend), Tennessee would not do itself any favors by unilaterally abstaining from offering incentives to companies to locate there. But reducing state level competition of that sort would benefit everyone.
There's a big difference between China going slowly towards reform and the U.S. wanting to punish China for going too slowly.
UPDATE: Brad DeLong responds to Dani Rodrik. He's responding to Rodrik's comment about China.
...The fact that China's government had been so bad before 1978 meant that there were enormous problems and enormous opportunities for a government that was both competent and (relatively) benevolent--in the sense of wanting to see the economy grow rapidly if that could be accomplished without endangering its hold on power.
and...
...A lot of human resources and infrastructural capital was wasted becuase Deng Xiaoping did not dare risk the political consequences of the economic process of shifting resources out of the old Soviet-style industrial sector. I think he was right--from his perspective at least--to initially limit market manufacturing to the south. However, the logic is not economic but political.
No and yes. There is no disputing that the political motivation was real. But DeLong also notes the mass unemployment that would have occurred had the breaking down of the Soviet-style industrial sector happened more quickly. I think even a benevolent social planner who was immune to revolution would hesitate to put that in motion. Ultimately, I think this one is both economic and political, but if DeLong's point is that it was the political constraint and not the economic one that was binding I would not disagree. Furthermore, there is no doubt that the second best argument can be abused by governments that don't want to face up to their own shortcomings. DeLong's example of Peron's Argentina would qualify.
Of course now we've moved so far away from Boudreaux's original challenge that anything further deserves a new post. The lesson is that second best considerations can be legitimate, but because industrial policy--whether in five year plans or "temporary" tariffs--are hard to remove once in place, it is important to resist the temptation to apply the argument everywhere. Yet it seems to me that had China gone full-tilt for liberalization in 1978, they would look different today, and I'm not convinced it would be better.
Posted by William Polley at 03:01 AM | Comments (2) | TrackBack
July 12, 2007
In which I contemplate a few of Max Sawicky's "Ten Boxes of Heterodoxy"
Max sounds his "barbaric yawp" over at the TPM Cafe.
Let's look at a few of his positions.
1. Supply and demand, 1. This celebrated and most basic economic model while in principle multidimensional in practice obscures anything interesting that affects market conditions. It bespeaks militant, ideologically-based reductionism. A good illustration is the minimum wage debate. In the usual S&D model, a MW can only reduce employment. Nothing else is logically possible.
We've been over this before. I am reminded of the old quote by Thomas Carlyle that I first heard when I was taking principles of economics, "Teach a parrot the terms 'supply and demand' and you've got an economist." Max's concern that the supply and demand model is taken to a reductionist extreme is nothing new. Unfortunately.
In principle it is multidimensional, but general equilibrium theory is hard to put into the format of a sound bite or an op-ed. The blog medium maybe does a little better at conveying the message because it allows for a more extended and thoughtful discussion.
My main caution about the supply and demand model in its simplest form is that it assumes homogeneous goods (or factors of production--to use the minimum wage example) and perfect competition. When the basic model is used in cases where those conditions are not satisfied, there is potential for mischief.
2. S&D, 2. The outcome in an S&D model in principle has no inherently attractive qualities, in and of itself, since it depends on the distribution of ability to pay. If Oliver Twist has no money to buy a crust of bread, his zero allotment is "efficient." The lack of any normative foundation is typically glossed over.
Or as I like to say, "No normative judgments, please; we're economists." Deirdre McCloskey as chided the profession with variations of that phrase as well, so that's where I picked that up. Max is right up to a point. The supply and demand model is value free in and of itself, but it can shed light on the effects of imposing alternative policies, and policies are generally based on some set of values or norms. It is true that economists often shy away from doing the latter. There are good reasons for being circumspect about recommending one policy over another, and indeed there is some value in specializing in the positive analysis. But we live in a political world, and our models can deal with that if we let them. There is no reason to suppress the normative discussion. The normative questions are the interesting ones--if we give up on those, our students will lose interest.
3. GDP. Add up all the Qs in the S&D models over the year ("final goods and services") and you get GDP. Solemn assurances that GDP is not synonymous with economic welfare fall easily by the wayside. More GDP (and less leisure time, less environmental quality, a less sustainable economic future) is always better. If terrorists knock down the Empire State Building, GDP could go up. More! Better! Comrade Stalin would approve.
See the broken windows fallacy.
7. Capital fundamentalism. As with reductionism of the S&D model, growth modeling zeroes in on private capital accumulation, even though a) other factors are demonstrably important and beg for attention; and b) private capital accumulation may be a consequence of other factors, rather than a cause and appropriate object for policy. Out of an obsession with this premise, the International Monetary Fund has screwed up a lot of countries too weak to ignore its advice.
Other factors are always important. If a model is simple enough to use, it necessarily leaves out many other factors. Those two fundamental facts are at the heart of more than just this criticism. In some research that a student of mine conducted we found that the relationships between growth, capital and other factors can be notoriously hard to identify. Yet, I think it is important to try. And yes, my confidence interval around theoretical growth models has increased once I started reading more of the empirical papers. Does that make me heterodox? Nah, probably not. But I know enough to know that some fundamental questions haven't been answered yet, and thus a little modesty is in order.
9. The unnatural rate of unemployment. Economists used to say it was 6.0, maybe 5.5. Lower would give rise to ruinous inflation. The huge social benefits of another couple of percentage points less unemployment were -- are -- implicitly discounted. Current rate is 4.5. 'Nuff said.
I think I know what he's getting at here. While I also am no fan of the natural rate concept of the old days, I come at it from a different angle. Max's statement here suggests that the social benefits to having a 4.5% unemployment rate were feasible back when economists thought the natural rate was 6%--and without the inflation we all feared back then. I'm not sure about that. The productivity gains of the 1990s did allow for lower unemployment and lower inflation.
When inflation and unemployment came down together in the 1990s, the Friedman-Phelps version of the natural rate gave way to the NAIRU (non-accelerating inflation rate of unemployment). It was not without its skeptics. Estimating the NAIRU is like finding your way around the room in the dark when someone keeps moving the furniture. It is easier to identify what it was in the past based on your experience, but there is no guarantee that it hasn't changed. Again, in what seems to be a common theme here, that would lead me to exercise caution in using the NAIRU to guide policy. Yet, the practical advantages in doing so carry a lot of weight, and so you use your past experience and hope that the furniture hasn't moved too much. And that means that occasionally you'll stub your toe.
But what mechanism would allow the policymaker to systematically do better?
10. "Power? You want the political science dept." Power looms over economic transactions, except in economic theory. Workers do not hire capitalists. Consumers do not choose merchants. Shareholders do not choose managers. Voters do not choose elected officials.
I have wrestled with this problem in my own models. It becomes difficult to produce clear predictions when you allow variations in power (e.g. bargaining power) to enter the model. It is similar to allowing preference shifts. Suddenly you can explain everything--and therefore you can explain nothing. Yet acknowledging the role of power (of various kinds) makes for a compelling narrative sometimes. It's something of a shame that it often needs to be excised from published research. It gives the impression that we don't care about it. That would, at least in my case, be a wrong impression. Yet at the same time, I believe it is appropriate to keep those power considerations separate from the rest of it, lest we end up with a model where anything goes.
I guess that makes me orthodox. Ultimately, I line up on the neoclassical free-market team more often than not, but I never stop asking many of the questions that Max does. And so I temper my free-market analysis with thoughts like: perfect competition is hard to find, rent-seeking in politics influences outcomes, real time estimates of the NAIRU should have a decent confidence interval, not all $1 transactions have the same social value, and power does matter even if it is hard to measure or even describe.
In some circumstances, those considerations are more important than others. But much of the time, they don't radically alter the main story that incentives matter--a story that the orthodoxy mostly gets right.
UPDATE: Max links back. Robert Waldmann also responds. Other blogs covering the topic include Greg Mankiw, Angry Bear and Cafe Hayek.
Posted by William Polley at 12:36 AM | Comments (4) | TrackBack
July 11, 2007
Like a thunderstorm at O'Hare
Everyone knows by now that when a thunderstorm passes through Chicago, it can cause airport delays across the country. Air traffic is all about the flow. Disrupt the flow at one major hub and everyone feels it.
KANSAS CITY, Mo. - Consumers are beginning to pay more at the pump because flooding at a southeast Kansas refinery has reduced fuel supplies and sent wholesale prices soaring, industry experts said.
...
Jon Callen, president of the Kansas Independent Oil and Gas Association, predicted the states most affected by the Coffeyville flooding would be Kansas, Missouri, Arkansas, Oklahoma, Nebraska, Iowa, Minnesota, north Texas and parts of the Dakotas.
"Effectively, the market was balanced before Coffeyville had to shut down. There's now a big hole in the entire market centered in Coffeyville, so the gasoline that Coffeyville was providing the region now is going to want to be made up from other refineries that already have been balanced and had people wanting to buy their gasoline," Callen said.
Posted by William Polley at 12:56 PM | Comments (3) | TrackBack
Reserve growth in the BRICs
In this excellent post, Brad Setser looks at the growth of reserves of foreign central banks, particularly in Brazil, Russia, India, and China (often referred to as the BRICs), and says that they are "simply too big not to matter".
Posted by William Polley at 01:44 AM | Comments (0) | TrackBack
Read any good books lately?
I don't believe I've ever been "tagged" before, but Phil Miller tells us of some of the books that he's read and challenges six others (including me) to do the same. So here goes:
1. Book that changed my life
That's an interesting one to start with. I'd have to say the Bible. Many books have influenced how I think. Isn't that what books are supposed to do? But changed my life? I haven't had that experience from any traditional book.
2. Book that I've read more than once
Quite a few. Two spring to mind. Chaos by James Gleick is a book that I have read a few times over the years. I've also read Capitalism and Freedom by Milton Friedman more than once. I don't have much of a desire to read novels more than once, but two that I have read once that are on my list to read again in the near future would be The Violent Bear it Away by Flannery O'Connor (I've read most of her short stories more than once) and Main Street by Sinclair Lewis.
And now you know how eclectic I can be.
3. Book that I'd want on a deserted island
Well, if it was a deserted island from which there was no hope of rescue and the end was near, I would choose the Bible. If escape from the island was feasible, I would want a "how-to" book on survival skills and raft building. One must be practical.
4. Book that made me laugh
All five in the Hitchhiker's Guide to the Galaxy series.
5. Book that made me cry
One Nation: America Remembers September 11, 2001 from the editors of Life Magazine.
6. Book you wish you had written
If you wish you had written a book that would imply a complete and total agreement with it. There are very few books about which I can say that. If you relax the criteria so that it just means that you agree mostly with it and wish that you had come up with the idea first, well then there are too many to list.
7. Book you wish had not been written
I'm not into suppressing thought and wishing that some things hadn't been written.
8. One book I am currently reading
The Elegant Universe by Brian Greene. Yeah, I know I'm late to the party on this one. This is a book that I have been meaning to read for years but it never popped up to the top of the priority list. I am not sold on string theory. I would like to read some of the criticisms of it as well (e.g. Not Even Wrong by Peter Woit). I've always been intrigued by the history and philosophy of science (e.g. The Copernican Revolution by Thomas Kuhn which I could have also listed in my "read more than once" category.)
9. One book I have been meaning to read
How about two? Why Beauty is Truth: A History of Symmetry by Ian Stewart and I am a Strange Loop by Douglas Hofstadter.
10. Tag 6 people
I'm not going to put anyone on the spot, but rather I invite any of my readers to put your responses in the comments, or if you have a blog, do it on your blog and trackback it to let me know so I can stop by and read it.
Let me add one more category as well. A book that I've recently read that was an absolute page-turner and a fun yet enlightening read would be David Warsh's Knowledge and the Wealth of Nations.
Posted by William Polley at 12:27 AM | Comments (1) | TrackBack
July 04, 2007
My place in the blogosphere
James Hamilton (Econbrowser) did it for his blog. So here goes. (TouchGraph Google Browser)
Click the image to make it larger.
Seems pretty accurate to me.
Happy 4th of July!
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Hidden prices, hidden taxes
If paying for something is as easy as swiping a card or passing under an electronic sensor, will you become desensitized and less likely to notice price or tax increases?
Posted by William Polley at 01:40 AM | Comments (3) | TrackBack
July 02, 2007
Of economists and weathermen
PGL at Angry Bear points us to this TPMCafe piece by Jared Bernstein. They both reference the Barry Schwartz piece I discussed here in my last post.
Bernstein uses the Schwartz article as a springboard for detailing the shortcomings of the economics profession, including forecasting (thus the title of this post). Two of his critiques stand out:
2. Economists are reductionists.... the world doesn’t work like the textbooks say it should.
...
3. And one reason for that is, as the NYT oped argues, we misunderstand incentives. To be specific, we exaggerate them.
I have frequently argued (e.g. in this recent post about Iranian gasoline) that the textbook model is not perfect but still useful. In my discussion of the Schwartz op-ed, I conclude that monetary incentives can have nonstandard effects in certain circumstances. We don't completely understand those circumstances and therefore more work is needed. I'm not ashamed to admit that perhaps a little more humility is also needed when considering the possibility of these non-standard effects. But it still remains that the incentive story that drives most economic models is mostly right. The question of whether we exaggerate the magnitude of these effects in our rhetoric (even when we are correct about their existence) is another matter, and I'd be more comfortable if Bernstein didn't lump them together.
I should note also that I have responded to PGL's post in the comments over there. This whole issue of responding to incentives and the usefulness of textbook economics is a worthwhile topic and generates some of the more interesting conversations on the blog. I hope to flesh out some more ideas on this over time.
Posted by William Polley at 10:26 PM | Comments (4) | TrackBack
Does Tiger Woods ever play golf just for fun?
That's the question that popped into my head when I read this op-ed by Barry Schwartz in the NY Times. You may recall that Schwartz is the author of The Paradox of Choice: Why More Is Less. When this was briefly a hot topic a couple of years ago, I was not impressed with his argument that that we have too much choice. My opinion hasn't changed. But let's hear what he has to say about incentives. The op-ed contains many claims and hypotheses, each of which deserves a rebuttal, so here goes. He writes:
NEW YORK CITY has decided to offer cash rewards to some students based on their attendance records and exam performance. Diligent, high-achieving seventh graders will be able to earn up to $500 in a year. The plan is the brainchild of Roland G. Fryer, an economist who has been appointed as “chief equality officer” of the city’s Department of Education.
The assumption that underlies the project is simple: people respond to incentives. If you want people to do something, you have to make it worth their while. This assumption drives virtually all of economic theory.
Let's pause there because I'm already a little nervous. I feel like I'm walking into a set-up. Honestly, I'm not a big fan of paying students for good grades. I suppose I share the same philosophical objection to it that many people would have. I question whether this is where you would get the most "bang for the buck" in education. It's going to take a lot of convincing to get me to think that this is a good idea. But I'm starting to smell a rat. Follow the logic. An economist proposes paying kids for good performance because people respond to incentives. The social outcome of the plan is debatable, therefore the assumption that "drives virtually all of economic theory" might need some rethinking.
Like I said, it feels like a set-up, but let's see where it leads.
Sure, there are already many rewards in learning: gaining understanding (of yourself and others), having mysterious or unfamiliar aspects of the world opened up to you, demonstrating mastery, satisfying curiosity, inhabiting imaginary worlds created by others, and so on. Learning is also the route to more prosaic rewards, like getting into good colleges and getting good jobs. But these rewards are not doing the job. If they were, children would be doing better in school.
Hard to find anything wrong with that paragraph.
The logic of the plan reveals a second assumption that economists make: the more motives the better. Give people two reasons to do something, the thinking goes, and they will be more likely to do it, and they’ll do it better, than if they have only one. Providing some cash won’t disturb the other rewards of learning, rewards that are intrinsic to the process itself. They will only provide a little boost. Mr. Fryer’s reward scheme is intended to add incentives to the ones that already exist.
Ok, you can't see it, but I'm cringing a bit here. I'm not aware of "the more motives the better" as being an assumption that as economists we frequently call upon. Indeed, the canonical economic models reduce everything to one motive (i.e. the maximization of utility or profit). One can, of course, argue that is problematic as well, but let's leave that for another day.
However, when you drill down a bit, you can see a potential objection. A typical model might work something like this. One can derive utility from intrinsic rewards from some activity. One can also derive utility from things you can buy with money (though in the standard model, not from the money itself). If you receive intrinsic and monetary rewards from doing the activity, the standard model would posit no interaction between the intrinsic benefit and the act of receiving a monetary reward and thus more of either (or both) is preferred to less.
Most of the time, this isn't much of a problem. I like what I do for a living. I get intrinsic benefit from it. I also like the fact that someone pays me to do it so that I can buy other things I like. At the margin I would desire to do more of it if (a) my intrinsic benefit went up for some reason or (b) someone paid me more at the margin.
But what if your intrinsic benefit was affected by the very act of being paid for it? Admittedly, our models tend to ignore the possibility. In our defense, I would posit that the vast majority of applications do not exhibit this phenomenon. However, I'm not ready to dismiss it out of hand. Let's get back to the op-ed.
Unfortunately, these assumptions that economists make about human motivation, though intuitive and straightforward, are false. In particular, the idea that adding motives always helps is false. There are circumstances in which adding an incentive competes with other motives and diminishes their impact. Psychologists have known this for more than 30 years.
Well, by that criteria, all our assumptions (and those of all the social sciences) are false. He says that "the idea that adding motives always helps is false." I'll give him that. "There are circumstances in which adding an incentive..." Ok, fine. But do these assumptions lead to misleading answers in a broad set of applications? Schwartz seems to want us to believe that it does. Obviously I disagree. But neither he nor I have said anything conclusive about the problem at hand--paying students for performance in school.
In one experiment, nursery school children were given the opportunity to draw with special markers. After playing, some of the children were given “good player” awards and others were not. Some time later, the markers were reintroduced to the classroom. The researchers kept track of which children used the markers, and they collected the pictures that had been drawn. The youngsters given awards were less likely to draw at all, and drew worse pictures, than those who were not given the awards.
Why did this happen? Children draw because drawing is fun and because it leads to a result: a picture. The rewards of drawing are intrinsic to the activity itself. The “good player” award gives children another reason to draw: to earn a reward. And it matters — children want recognition. But the recognition undermines the fun, so that later, in the absence of a chance to earn an award, the children aren’t interested in drawing.
Similar results have been obtained with adults. When you pay them for doing things they like, they come to like these activities less and will no longer participate in them without a financial incentive. The intrinsic satisfaction of the activities gets “crowded out” by the extrinsic payoff.
It was at this point in reading the article that I came up with the title for this post. But the real question is even more subtle. Would Tiger Woods play more golf than he does now if he was only doing it for fun and there was no financial reward? Probably not. So Tiger Woods appears to be responding in a standard economic way to the incentives, but the children in the study are not. What gives?
An especially striking example of this was reported in a study of Swiss citizens about a decade ago. Switzerland was holding a referendum about where to put nuclear waste dumps. Researchers went door-to-door in two Swiss cantons and asked people if they would accept a dump in their communities. Though people thought such dumps might be dangerous and might decrease property values, 50 percent of those who were asked said they would accept one. People felt responsibility as Swiss citizens. The dumps had to go somewhere, after all.
But when people were asked if they would accept a nuclear waste dump if they were paid a substantial sum each year (equal to about six weeks’ pay for the average worker), a remarkable thing happened. Now, with two reasons to say yes, only about 25 percent of respondents agreed. The offer of cash undermined the motive to be a good citizen.
It is as if, when asked the question, people asked themselves whether they should respond based on considerations of self-interest or considerations of public responsibility. Half of the people in the uncompensated condition of the study thought they should focus on their responsibilities. But the offer of money, in effect, told people that they should consider only their self-interest. And as it turned out, through the lens of self-interest, even six weeks’ pay wasn’t enough.
That is an interesting result, though I would have the standard set of questions about how it was conducted. Taking it at face value, it's as if the people felt differently just because they were offered money for something that they felt like they had some social duty to do.
Hmmm.... Do you think that people would donate more to charity if it was not tax-deductible? I kind of doubt it. People could always choose not to take the deduction, but most still take it. Presumably, the Swiss people in the survey could reject the money, so the implication is that they feel differently just because they were offered the money. Is it conceivable that just because the government offers us a benefit for giving to charity makes me want to do it less? That is a really tough sell.
On the other hand, prostitution might be an example of an activity in which the act of being offered money changes someone's attitude toward the act. So here's where I come down on this: there probably are some situations where adding a monetary incentive changes things dramatically in a nonstandard way. But they will tend tend to be rather rare situations in which there are strong social mores, attitudes, or pressure to conform to some normative behavior. Is this one of those situations? It deserves further analysis.
Obviously, the intrinsic rewards of learning aren’t working in New York’s schools, at least not for a lot of children. It may be that the current state of achievement is low enough that desperate measures are called for, and it’s worth trying anything. And we don’t know whether in this case, motives will complement or compete.
At least he's honest. He hasn't proved anything, nor have I. The real problem is much deeper.
But it is plausible that when students get paid to go to class and show up for tests, they will be even less interested in the work than they would be if no incentives were present. If that happens, the incentive system will make the learning problem worse in the long run, even if it improves achievement in the short run — unless we’re prepared to follow these children through life, giving them a pat on the head, or an M&M or a check every time they learn something new.
Perhaps worse, the plan will distract us from investigating a more pertinent set of questions: why don’t children get intrinsic satisfaction from learning in school, and how can this failing of education be fixed? Virtually all kindergartners are eager to learn. But by fourth grade, many students need to be bribed. What makes our schools so dystopian that they produce this powerful transformation, almost overnight?
At the conclusion of the article, another thought occurs to me, and it's quite obvious once you think about it. At another level, don't grades themselves represent a system of rewards that distract from the intrinsic benefits of learning? What college professor hasn't dealt with students more concerned with grades than with the real learning? In my Utopian ideal, grades wouldn't be necessary either. But in the real world I believe they are. So the real question here is why the current set of incentives is now less effective at promoting learning than it once was? And my one point of agreement with Schwartz is that the payment proposal could very well distract people from answering that question.
But I think that the basic premise that people respond to incentives could turn out to be very important for the analysis of this issue, even if the idea of paying students for performance turned out to be questionable public policy.
Posted by William Polley at 12:23 AM | Comments (6) | TrackBack