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This coming Thursday, October 26, I will be speaking at the Free Market Institute at Texas Tech University.

Topic: How Economists Helped End the Military Draft
Date: October 26
Time: 5:30 to 6:30 p.m.
Place: Grand Auditorium (CR 105)
Jerry S. Rawls College of Business Administration

More details here.

CATEGORIES: Upcoming Events



Garrett M. Petersen, aka the "Economics Detective," interviewed me a few weeks ago about the post-World War II German economic miracle. I had written about it in "German Economic Miracle" in The Concise Encyclopedia of Economics. Garrett, a Ph.D. student in economics at Simon Fraser University, is a first-rate interviewer. The interview is titled "The German Economic Miracle with David Henderson." It goes longer than the usual, at about 52 minutes.

Some highlights follow.

The first 5 minutes: The setting. What horrible shape the German postwar economy was in and how much of was due to extreme price controls.

5:10: Reminiscence about interaction with Bill Meckling and Milton Friedman at the 1979 Hoover/Rochester conference on the draft. The issue: conscription during WWII.

6:30: Good for the Allies that the Germans had price controls during the war.

6:50: The Allies kept the German price controls after WWII.

8:40: Why Konrad Adenauer ("der Alte") stood out and looked good to Allies.

9:45: Adenauer recommends Ludwig Erhard, who had good anti-Nazi bona fides.

11:45: Currency reform.

12:20: How Erhard had a fun summer in 1948.

13:00: Erhard's humorous confrontation with General Clay.

13:25: The DM is a ration coupon.

13:50: The dramatic effect on the German economy.

15:20: Walter Heller, later JFK's chief economist, on the value of currency reform and elimination of price controls.

16:28: My personal story about my phone conversation with Walter Heller.

18:00: Heller sees the value of cutting marginal tax rates to improve incentives.

20:45: I couldn't find support for the claim that Erhard clearly broke the rules on his own.

25:00: My story about my mentor, Clancy Smith, and his "cigar interaction" with Ludwig Erhard in Winnipeg.

26:20: Recovery not due to Marshall Plan. I draw on Tyler Cowen's excellent 1986 article on this.

32:50: Contrast with East Germany.

33:50: Katarina Witt's rewards for good skating.

35:50: Petersen's insight about the incentives in research and how they can distort our understanding of the big picture.

37:25: Natural disasters in a fairly free economy don't have big long-term effects. Jack Hirshleifer's work. "Disaster and Recovery."

39:35: Ludwig Erhard takes the government's foot off the hose.

42:20: The moral of the story.

42:30: How I got the chance to do The Fortune Encyclopedia of Economics in 1990.

44:20: The role of Alan Russell of Liberty Fund in getting the Fortune Encyclopedia on line as The Concise Encyclopedia of Economics.

46:50: My George Stigler story; also Paul Krugman easy to work with.

47:45: Petersen's point about the Encyclopedia being non-partisan.

48:50: My confrontation with my editor at Fortune. The Kip Viscusi story about worker safety.

50:25: My willingness to go to the mat--run my net worth down to zero--over quality.




Over at TheMoneyIllusion I've been running a series of posts that are critical of popular views of inflation. I claim inflation is determined by shifts in the supply and demand for money, and that factors like the Phillips curve and interest rates are not central to the inflation process. Think of money supply and demand models as fundamental, and Philips curve and interest rate models as contingent.

John Cochrane makes some similar arguments, although he uses a very different theoretical framework:

Why is it so hard? The standard story goes, as there is less "slack" in product or labor markets, there is pressure for prices and wages to go up. So it stands to perfect reason that with unemployment low and after years of tepid but steady growth, with quantitative measures of "slack" low, that inflation should rise, as Ms. Yellen's first quote opines.

That paragraph contains a classic economic fallacy, that of composition; the confusion of relative prices and the level of prices and wages overall. If labor markets get "tight," companies finding it hard to find workers, then yes, one expects wages to rise. But one expects wages to rise relative to prices. You only tempt workers to move to your company by offering them wages that allow them to buy more. Similarly, if there is strong demand for a company's products, its prices will rise. But those prices rise relative to other prices and to wages. Offering a company higher prices when its wages, costs, and competitor's prices are all rising does nothing to get it to produce more.


This is one of those cases of two things that look superficially similar but are actually radically different, like eels and snakes. When money became very tight in 1921, 1930, 1938 and 2009, the equilibrium price level fell sharply. Nominal wages also needed to adjust downwards. Unfortunately, nominal wages are sticky, so wage growth slowed much too gradually to prevent high unemployment. Thus even though nominal wage growth slowed in all four cases, real wages actually increased sharply. Cochrane's right that the wage changes we see in this sort of labor market have nothing to do with microeconomic models where a high level of demand means rising prices and a low level of demand means falling prices. Those micro models refer to real or relative prices, not nominal prices.

So why do wages often rise quickly during "tight labor markets"? One reason is that because wages are sticky, when they are rising they (paradoxically) tend to be too low, and when they are falling they tend to be too high. Suppose 10% of worker contracts are adjusted to equilibrium each month. Then if a sudden monetary shock causes the equilibrium wage to immediately rise by 4%, wages would rise 0.4% after one month, 0.8% after two months, and reach the new equilibrium after 10 months. Again, when you see wage growth accelerating then wages are often too low, and when you see wages falling they are often too high.

Now we can see the connection between rising wages and tight labor markets. When wages are rising they are too low---and those excessively low real wages cause companies to want to hire more workers---hence the high level of employment. It has nothing to do with tight labor markets causing higher wages---as Cochrane says that's an example of the fallacy of composition. And that's why it's not a reliable model of inflation--it's not a causal factor.

There are many more gems:

By the way, the oft-repeated mantra that "inflation expectations are anchored" offers no solace. In fact, it makes the puzzle worse. The standard Phillips curve says inflation = expected inflation - (constant) x unemployment. Variation in expected inflation is usually an excuse for a Phillips curve failure. Steady expected inflation means the Phillips cure should work better!
And this:
Is policy tight or loose right now?

You'd think this were an easy question. The newspapers ring with "years of extraordinary stimulus" and "unusually low rates." And indeed, interest rates are low by historical standards, and relative to rules such as John Taylor's that summarize the successful parts of that history.

But ponder this. What does a central bank look like that is holding interest rates down? Well, it would be lending out a lot of money to banks, who would turn around and re-lend that money at higher interest rates. What does our central bank look like? Our central bank is taking in $2.2 trillion from banks, and is paying them a higher interest rate than they can get elsewhere. Right now, the Fed is paying banks 1.25% on their reserves. But Treasury bills are 1%. Even commercial paper is 1.13-1.2%. It looks every bit like a bank that is pushing rates up. And has been doing so for a long time.


It's good to finally see a prominent economist point out that monetary policy has not been easy, a point I've made about 1000 times since 2008.

Cochrane ends with this:

If you just plot inflation and interest rates, they seem to move together positively. Teasing out the notion that higher rates lower inflation from that graph takes a lot of work. My best guess, merging theory and empirical work, is that higher rates -- moved on their own, not in response to economic events -- temporarily lower inflation, but then if you stick with higher rates, inflation eventually rises. And vice versa, which accounts for very low inflation after interest rates have been stuck low for a long time. Maybe yes, maybe no, but even this much is not certain.
Finally I've found something to criticize. This paragraph perfectly encapsulates what's right and what's wrong with NeoFisherism. Cochrane is right that higher rates often are associated with lower inflation in the short run, but higher inflation in the long run. But he stills falls a bit short in my view.

Let me start by quibbling over a minor point---Cochrane's reference to interest rates moving "on their own". I think I know what Cochrane means, but I'm going to throw a temper tantrum anyway, and then explain why.

Interest rates never move around on their own, as the economy is not some sort of Ouija board where things happen "on their own" without there being an "economic event", to use Cochrane's terminology. Now I'm pretty sure that what Cochrane meant by "on their own" was a change in the interest rate caused by monetary policy. But that doesn't help as much as you might assume.

Screen Shot 2017-10-21 at 9.24.44 PM.png
When Cochrane said that higher interest rates may initially reduce inflation, he probably had in mind a contractionary monetary policy. But in that case it's not the higher interest rates that lower inflation, it's the monetary policy. Thus a sudden decrease in the monetary base is contractionary, and may lead to both higher interest rates in the short run and lower inflation. Ditto for a higher interest rate on reserves. (The interest rate paid on reserves is not really a market interest rate, it is an administered price (subsidy).) For any given monetary base, a higher fed funds rate is inflationary, as it boosts velocity (assuming no IOR).

When Cochrane refers to a policy of "sticking with higher rates" he runs into problems. As noted, he seemed to start by considering a contractionary monetary policy that led to higher interest rates in the short run. But if you "stick with" a contractionary monetary policy then rates will end up lower over time. It makes no sense to talk about "sticking with" higher interest rates, because interest rates are not a policy, they are the effect of various other policies.

To get higher rates to persist you'd need to switch from a very contractionary to a very expansionary policy. But that switch will often temporarily depress interest rates, before causing them to rise. A good example occurred in 1967, when rates temporarily fell (easy money) before rising to semi-permanently higher levels during the Great Inflation of 1966-81. That persistent inflation is what NeoFisherians have in mind when they equate a high interest rate policy with high inflation. It's a valid point, and an important critique of Keynesian economics. But unless and until the NeoFisherians fully incorporate both the liquidity effect and the Fisher effect into their models, the analysis will remain frustratingly incomplete. And to do that we need to return to monetarist economics, something neither Cochrane nor his New Keynesian critics seem to have any interest in doing.

HT: Tyler Cowen




David R. Henderson  

The News and Me

David Henderson

AdobeStock_30001437.jpeg


I've been traveling for 7 of the last 9 days and, as a result, haven't kept up with the news as much as normally. And doing so has made me realize how little I miss it. There's a lot of noise that, in the end, doesn't matter much.

For example, I've heard something about what President Trump said to the mother of a soldier killed in action. I've learned over the years that I can almost never get enough accurate information from a headline or even from one whole news story. If I really want to know what happened, I need to read at least 3 news stories or blog posts from media and individuals with diverse viewpoints. That takes time. And it matters for what, exactly? Not much.

Ultimately, I will judge Trump on what he and his appointees do in policy. I will still follow that. Government policy is one of the main things I write about. But the other news items are not worth my becoming informed about, given my high opportunity cost.

And on top of all that, it's simply very liberating to be disconnected from the 24/7 news cycle.

CATEGORIES: Media Watch



Scott Sumner  

Voters don't hate inflation

Scott Sumner

Here's Tyler Cowen:

Many monetary rules call for higher rates of price inflation if the economy starts to enter a downturn. That's often the right economic prescription, but voters hate high inflation.

Tyler is engaged in "reasoning from a price change". A term like 'inflation' doesn't mean much of anything to the public, and certainly not what economists like Tyler mean by the term. When I used to poll my students, I'd find that 99% of students conflated 'inflation' with supply-side inflation. I'd ask, "Suppose all wages and prices rose by exactly 10%, has the cost of living actually increased?" I'd guess 99% would get the answer wrong. (Yes, the cost of living has increased, but they'd say no.)

When the public expresses a concern about inflation, what they really are referring to is living standards. Thus when there is supply-side inflation, prices rise faster than incomes, and living standards fall. That's the type of inflation the public has in mind when they express opposition to inflation. In contrast, when there is demand-side inflation the public sees their income rise faster than prices, so living standards rise (in the short run.)

If the public really did oppose demand-side inflation then they should have greatly enjoyed the economy of 2009. After all, a fall in AD brought inflation down to zero. And yet living standards plunged, because the demand-side disinflation caused incomes to fall faster than inflation. If the Fed had a more inflationary policy during 2009 then the public would have been much happier, as there would not have been as big a decline in real income. A much milder recession and less severe asset price collapse.

Did voters prefer the economy of 2006 or 2009?

Screen Shot 2017-10-20 at 2.04.56 PM.png
Again, never reason from a price change. How people feel about a price change depends entirely on whether it's caused by an aggregate supply shift or a demand shift.

In addition, don't take seriously the answers you get from polls of public opinion. When you ask the public how they feel about inflation, they are (in their own minds) holding their own nominal income constant and visualizing rising prices. No surprise that that isn't popular! Thus their answer doesn't really tell you what they think about inflation, and certainly not what they think about demand-side inflation created by the Fed. Rather their answer tells you what they think about supply-side inflation. Yes, we all hate adverse supply shocks. But beyond that the public has no opinion, as they don't really even understand what inflation is.

PS. Also, don't confuse incomes with hourly wages. An unexpected demand-side inflation lowers real hourly wages while raising real incomes and real asset prices. People care far more about their overall real incomes and real asset prices than they do about their real hourly wages.

PPS. The first time I ever recall a politician running on an explicit platform of higher inflation was in 2012. Abe won a massive victory on a promise of higher inflation, in a country where a huge share of voters are old people on fixed incomes. He ended deflation in Japan and was re-elected overwhelmingly. (We'll see how he does this time.)




EconLog small logo  

Attacking Civilians in War

Contributing Guest

by Pierre Lemieux

The more democratic the state is, the smaller the difference between its rulers, combatants, and civilians, and the more justifiable should be a deliberate attack on the latter, ceteris paribus.

A recent article by Scott D. Sagan of Stanford University and Benjamin A Valentino of Dartmouth College in International Security (Sumer 2017) in conjunction with Bertrand de Jouvenel's 1945 book Du Pouvoir (On Power for the English translation) help us think about nuclear weapons. One characteristic of these weapons is that they are designed to be used against civilian populations (although there also exist "tactical," nuclear weapons, besides "strategic" ones, capable of use against advancing armies or military installations). "If you kill my people," Leviathan seems to proclaim, "I will kill yours too."

Power.jpg
Bertrand de Jouvenel, a French political philosopher, wrote On Power from his refuge in Switzerland during World War II. He observed how both the German government and the Allies had resorted to bombing civilians. The book was written before the nuclear attacks on Hiroshima and Nagasaki, which provided even more terrible illustrations. While aristocratic governments generally kept ordinary people out of their conflicts, Jouvenel claimed, "totalitarian democracy" has regimented ordinary citizens into the states' wars; they have become implicit combatants. He wrote:

In the time of Louis XIV ... conscription was unknown, and the private person lived outside the battle ... For the first time in [American] history, a President of the United States [Franklin D. Roosevelt] looked on the mass of his fellow-citizens as 'human potential,' to be used as might best serve the prosecution of the war! ... Whereas the feudal monarchs could nourish hostilities only with the resources of their own domains, their successors have at their disposal the entire national income.

Sagan and Valentino vindicate Jouvenel by arguing that American public opinion favors the use of nuclear weapons. According to a Gallup poll of August 4, 1945, 85% of Americans approved of the bombs just dropped on Hiroshima and Nagasaki. Today, in retrospect, less than 50% think it was a good idea. But Sagan and Valentino's 2015 opinion survey indicates that, in a similar scenario with Iran instead of Japan, 59% of Americans would support a US government decision to nuke 2 million civilians in order to prevent the deaths of 20,000 American soldiers in an alternative ground invasion. (The scenario presented to respondents was that of a war started by the Iranian government.) And most of these hawkish respondents would not change their minds even if a diplomatic solution were possible.

Of the American respondents who favored either a nuclear or conventional strike on civilians to save American soldiers, 68% agreed with the statement: "Because the Iranian civilians described in the story did not rise up and overthrow the government of Iran, they must bear some responsibility for the civilian fatalities caused by the U.S. strike." Sagan and Valentino express surprise at the number of respondents who "suggested that Iranian civilians were somehow culpable or were less than human."

This reading of American opinion contradicts Thomas Schelling who, in his 2005 Nobel lecture, argued that a strong convention had developed against the use of nuclear weapons. It also contradicts the principle of "noncombatant immunity": as Sagan and Valentino write,


Both just war doctrine and the laws of armed conflict require leaders and soldiers to make active efforts and accept risks in war to avoid the deaths of foreign civilians.

We cannot discount an explanation in terms of nationalism as a modern version of tribalism. But a related and perhaps deeper issue is the idea that the state and the citizens form an undivided whole. And here, we meet what may seem like a paradox. The more democratic the state is, the smaller the difference between its rulers, combatants, and civilians, and the more justifiable should be a deliberate attack on the latter, ceteris paribus. This is especially true if democracy refers not to majoritarian democracy but is based on a sort of unanimous (implicit) social contract where the state is, at some level, identical to its citizens. The more dictatorial the state, on the contrary, the larger is the distance between rulers, combatants, and civilians, and the less justifiable should be a deliberate attack on the latter, even in a just, defensive war.

The first lesson of these reflections seems to be that, under any reasonable moral standard, using nuclear weapons against the civilian populations of dictatorial regimes - like Iranians or North Koreans - must be morally unjustifiable, even in a just war against their Leviathan. Disagreeing with this, as many Americans appear to, is like legitimizing the state as a mass killer. (We don't have comparative data on public opinion elsewhere in the world.) This suggests that de Jouvenel's concern remains very relevant.

These moral considerations seem far removed from the positive economics of war. But welfare economics has taught us that any public policy recommendation ultimately depends on moral judgements because it harms some individuals while it favors others.

In a war between two democratic countries, it would be inconsistent to advocate both the civilian immunity principle and the idea (or the fiction) that the democratic state represents all its citizens. But perhaps democratic states are less likely to engage in wars? The case of Switzerland springs to mind, but it seems contradicted by the American example. Of course, a sample of two does not have much explanatory power.

The second lesson is that we should ponder the question of whether the state should not be conceived as a Nozickian, arms-length protection agency, instead of an association of all its citizens - even a constitutional association à la Buchanan.

None of what I have said argues against a defensive war (or preemptive attack) against a foreign tyrant, but it does impose tight limits on the means used and on the cost imposed on foreign civilians. General Paul Selva recently put it in neat terms before a Senate committee: "We take our values to war" - assuming of course that these values are independently defendable, as I believe classical-liberal or libertarian values are. This brings us back to a simple but forceful idea, close to de Jouvenel's thesis: if "we" use liberticidal means to defend liberty, there will ultimately be no liberty left to defend.


Pierre Lemieux is an economist affiliated with the Department of Management Sciences of the Université du Québec en Outaouais. His forthcoming book, to be published by the Mercatus Center at George Mason University, will aim at answering common objections to free trade. Email: PL@pierrelemieux.com.

CATEGORIES: Terrorism , moral reasoning



Bryan Caplan  

Resentment Not Hate

Bryan Caplan
People often claim that their political opponents are motivated by sheer hatred.  Thus, we have "hate-mongers," "hate speech," "hate groups," and even "hate maps."  But almost no one openly claims "hate" as their political motive.  When accused of hatred, the normal reaction is something like, "My God, you're naive.  You can't even imagine that anyone on Earth sincerely disagrees with you.  Oh, we're all horrible villains." 

I say both sides are wrong.  Full-blown "hate" is indeed a rare motive.  But that hardly means that political actors are well-intentioned.  The emotional spectrum is wide.  And the emotion I routinely see in politics is not hatred, but its milder cousin: resentment.  Normal people don't want to literally destroy their political opponents.  But when they mentally picture them, they feel distaste.  And when they mentally picture their opponents defeated - or just aggravated - their normal reaction is what the Germans call Schadenfreude.  Literally, that's "shameful joy" - pleasure derived from the pain of others.

Doesn't well-meaning political disagreement exist?  Sure, but it's a laborious motivation.  First, you have to carefully listen to what your opponents say.  Then you have to study both sides of the issue, weighing arguments and counter-arguments.  And the whole time, you have to be careful not to make the disagreement personal. 

Disagreement based on resentment, in contrast, comes naturally.  Resentment requires no effort; it comes to you.  And once it fills your soul, it swiftly (though inaccurately) answers all your questions.  Who's wrong?  Those I resent.  Who's bad?  Those I resent.  Who stands in the way of all good things?  Those I resent.  Am I a bad person for hating them?  Of course not, because I don't hate them.  But I deeply resent them for slandering me as a hater!

Critics of my Simplistic Theory of Left and Right often assume I'm attributing hatred to both sides of the political spectrum.  But as I've said before, I think true hatred is rare.  My claim, rather, is that both sides are driven by contrasting resentments.  What unifies the left is resentment for the market.  What unifies the right is resentment for the left.  Indeed, every successful political group begins with easy-to-resent enemies: foreigners, the rich, corporations, Muslims, Jews, blacks, whites, Catholics, or Protestants.  It's not profound, but search your feelings - and the feelings of those you encounter. 

Back in 1966, Lyndon Johnson said, "[W]ar is always the same. It is young men dying in the fullness of their promise. It is trying to kill a man that you do not even know well enough to hate."  Beautiful poetry, but exactly wrong.  Negative emotions do not require knowledge; negative emotions are the great substitute for knowledge.  And in politics, that substitute is almost all most human beings ever bother to have.




Over at TheMoneyIllusion I have a new post that (among other things) discusses this claim:

Blanchard was prompted to recite his faith in the power of the Phillips Curve by former Fed governor Jeremy Stein, who wondered how central banks were supposed to raise their inflation target to 4 per cent when they are still undershooting the current target of 2 per cent. Blanchard seemed to think the answer was easy: keep rates low, unemployment will fall, and inflation will necessarily accelerate.

Larry Summers -- Blanchard's co-host at the conference and co-author of one of the papers -- found this hopelessly inadequate. He pointed to Japan's long experience with full employment, large government budget deficits, aggressive monetary expansion...and total price stability. If they haven't managed to get inflation, how could anyone? Blanchard had no answer but to repeat his catechism.


I point out that this is a very strange assertion, as the Fed is currently engaged in raising interest rates with the express purpose of holding down inflation. They fear that if they don't raise rates, then inflation will overshoot 2%. That may be wrong, but inability to raise inflation has nothing to do with current Fed policy.

Caroline Baum sent me an equally maddening survey of elite economists, conducted by the University of Chicago. The survey asked them to rate the relative importance of 12 different factors in the 2008 financial crisis. For some strange reason "tight money" was not even mentioned, despite the fact that 2008 saw a steep plunge in NGDP growth, and we were not even at the zero bound. Those stylized facts are almost a textbook definition of a tight money policy reducing aggregate demand, and yet this hypothesis was so far off the radar screen that it wasn't even mentioned as an option.

Modern macroeconomics doesn't just have the wrong answers, we are not even asking the right questions.

It occurs to me that Stein's strange claim about monetary policy ineffectiveness and the UC's glaring omission in their survey have a common root explanation---a belief in central bank infallibility. Of course I'm exaggerating a bit, I'm sure most economists don't actually view the Fed as infallible, but bear with me for a moment.

Suppose it were true that central banks adopted polices that were right in the mainstream, close the consensus of elite macroeconomists. In that case, it would be natural to view any policy mistakes as not resulting from "monetary policy shocks", but rather from other "exogenous shocks." Most elite macroeconomists thought that Bernanke's Fed adopted sensible policies during 2008, so they naturally viewed the bad outcome as resulting from some sort of other factors.

In one sense, this is not particularly surprising. I have enormous respect for Ben Bernanke, who was a highly skilled central banker. Thus one's first reaction is not to view the Fed as an out of control rampaging elephant, causing also sorts of harm to the economy. Rather at first glance it seems more like a medical doctor, trying with varying success to cure the ills of the macroeconomy.

This "infallibility" view is further strengthened by the widespread tendency to misdiagnose low and/or falling interest rates as easy money. Since rates fell sharply in 2008, that made economists even less likely to blame the Fed.

And I think Stein is making the same sort of mistake. He sees central banks like the Fed continually undershooting their inflation target. He also has enormous respect for the competence of the Fed. (Heck, he used to work there.) Therefore instead of blaming the Fed for the undershoot, he looks for macro models where there is literally nothing the Fed can do to raise the inflation rate.

While this is very understandable from one perspective, from another it is very, very strange. Consider:

1. It's very odd for social scientists to make policymaker infallibility a central axiom of their core theoretical model. That's the sort of blind faith you'd associate with uneducated voters sticking with a charismatic but demagogic politician despite numerous well-documented failures. Scientists are supposed to be skeptics--always looking to improve their models.

2. It's not just me who thinks the Fed is not trying to raise inflation right now, virtually everyone agrees that the Fed is raising rates with the express purpose of holding down inflation. This isn't some sort of weird market monetarist claim, it's generally accepted by everyone. So why assume that policy is ineffective?

3. Many economists blame the Fed for the Great Contraction, despite the fact that the Fed cut rates to very low levels and also did QE. That perception of 1929-32 may or may not be true, but given that the stylized facts were quite similar in 2008, why is it not even being contemplated as a hypothesis? Why not at least ask economists if the Fed might have made the same mistakes (to a much lesser degree) in 2008 as in 1929-32, given that the stylized facts were so similar? What is the specific data point that you'd cite to argue that the tight money theory of the Great Recession is not even worth investigating? I don't get it.

4. Before the Great Recession, Western economists blamed the Japanese central bank for the persistent deflation in Japan. Why is the Fed viewed as infallible, but not the BOJ?

The widespread assumption that the Fed could not possibly have caused the Great Recession is now actually distorting macro theory. It's causing economists to abandon solid well-established New Keynesian theories, and seek out more dubious fringe ideas, such as non-monetary theories of inflation and NGDP growth.

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HT: Kevin Erdmann




I've been watching on Netflix a new Star Trek series, Discovery, which is sort of a prequel to the classic Kirk & Spock series. I've found the series engaging and extremely well crafted - but, just after a few episodes, it is quite too early to cast a judgment.

I've always liked Star Trek, particularly as a kid, for its characters and its uncompromising optimism, too. Good science fiction is quite often "dark", it uses the future to showcase the anxieties and fears we feel today. On the contrary, Star Trek brings us to a time when humankind solved most of its long standing problems, learned to cooperate peacefully, and therefore can now explore outer space. Over there, we'll make it known that we come in peace - well, as much as we can.

Sure, Star Trek accounts for the natural, hardwired aggression of men - but it shows that we can govern it (learn from the Vulcans!) and perhaps take it out of the closet just in those key moments in which it'll actually save the day (paging Captain Kirk).

At the same time, the rosy politics and economics of Star Trek is sometimes distressing. You often get the impression that the Federation of Planets is the Soviet Union turned good.

That Star Trek is a beyond money and, really, "beyond scarcity" (think of food synthetizers, the "replicators"!) universe, in which humans are capable of tremendous achievements precisely because they won over most pressing needs, is the way in which the franchise founded by Gene Roddenberry is most commonly understood- Keynes's "Economic Possibilities for our Grandchildren" on steroids.
Trekonomics.jpg
A few years ago a book entitled "Trekonomics" by Manu Saadia was discussed at New York Comic Con by no less august presonages than Paul Krugman and Brad De Long (transcript here). Krugman has a very good point, in the discussion: replicators make "things", and in that sense Star Trek may be beyond scarcity, but that won't help much with service. "Even now, we spend only 30 per cent of our income on goods the rest is for services, and the replicators won't help with that".

The book was reviewed critically by Students for Liberty's Vice President Fred Roeder. Roeder maintains that:

Star Trek Federation is a great thought experiment on what a post-scarcity society could look like. However, there are major shortcomings such as the allocation of property rights, a price system for energy, incentivization of services, and the existence of rivalry.

A free, prosperous, and open society such as the Federation can only function with a price system in place in order to deal with the scarcity of energy. If trekonomics would really be applied in the Federation, we would see a much more repressive version of this interplanetary union forcing its citizens to work in certain professions and rationing energy.


Roeder's point is that there may be more of the price system in Star Trek's dreamed world than most politically minded fans are willing to concede. I recommend his discussion of the "concealed" price mechanism in the United Federation of Planets to be read side-by-side with the DeLong/Krugman's panel discussion of the kind of "meritocracy" Star Trek implicitly endorses. Meritocracy and the market system ain't the same thing, as the latter is a decentralized system to take decisions whereas the first is based upon top down criteria. You can't do without incentives, and Star Trek does not. But how are incentives best come up with? Well, that's a long debate. It dates back to long long ago, in a galaxy far, far away[*].

[*] The Star Wars reference is purposefully here to set the fans of both sagas off.




David R. Henderson  

Hassett's Numbers are Plausible

David Henderson
In the long run, all of the factor owners' loss from a capital income tax is a loss to labor (the area below the horizontal dashed line is negligible; see A below). Therefore, in the long run, capital-income tax revenue is a LOWER BOUND on labor's loss. Furman and Summers have it backwards.
This is from Casey Mulligan, "Furman and Summers revoke Summers' academic work on investment," October 18, 2017.

This is Casey's comment and analysis on the current controversy over whether Kevin Hassett's claim of large increases in wages due to corporate tax cuts make sense.

It's a technical argument and you might not follow all of it. Here's one paragraph that might help:

Why would labor bear all of the burden in the long run? Well, ask Larry Summers back when he used to be an academic studying these matters. His 1981 Brookings paper, which even today is an article commonly used by me and others to teach this in graduate school, says so on page 81 equation (7). The left-hand-side of that equation is a perfectly elastic long-run supply of capital: it says that the supply curve in my picture is, in the long run, properly drawn as horizontal. See also Lucas (1990, p. 303, equation 4.3).

But if you don't know this literature somewhat, the above paragraph might not help you much. So let me explain in simpler words by noting that the key assumption in the above is the assumption of a perfectly elastic long-run supply of capital. Why would it be perfectly elastic? Because capital is quite mobile across countries, so when one country's government cuts it tax rate on capital, that draws in capital from around the world.

Why does this matter? The greater the stock of capital, the higher is the ratio of capital to labor, and, therefore, the higher is the marginal product of labor, and, finally, the higher is the real wage.

Here's Mulligan again, with some of the important parts of the technical argument:

Using a Cobb-Douglas aggregate production function with labor share 0.7, and a 50% capital-income tax rate (combining corporate, property, and the capital components of the personal income tax), I get a Furman ratio of 350%. With a 40% tax rate instead, the Furman ratio is 233% (algebra here; these refer to modest tax-rate reductions -- not going all of the way to zero).

If the current CEA said 250%, then it got Furman's ratio much closer than Furman did, who puts it less than 100%.


HT2 Greg Mankiw.




A telling quote from this NYT piece on NAFTA:

The potential demise of the trade deal prompted supportive messages from labor unions, including the A.F.L.-C.I.O. and the United Steelworkers, as well as some Democrats.

"Any trade proposal that makes multinational corporations nervous is a good sign that it's moving in the right direction for workers," said Senator Sherrod Brown, Democrat of Ohio.

According to the National Journal, Brown shares a nine-way tie for most liberal Senator.

For more on anti-market bias, see The Myth of the Rational Voter, now reluctantly enjoying its ten-year anniversary...





I posted a few days ago on Kevin Hassett's case for the Trump tax cuts, pointing out the huge positive effect on the real wages that he claims they would have. One commenter, JFA, asked the relevant question:

The question is how did Hassett combine the evidence from the literature to come up with those estimates?

I answered that I didn't know. But I would like to know.

Another commenter, MikeW, provided a link to Larry Summers's response to Hassett. The problem is that is long on attack and medium on analysis.

Larry writes:

I am proudly guilty of asserting that it [Hassett's analysis] is some combination of dishonest, incompetent and absurd. TV does not provide space to spell out the reasons why, so I am happy to provide them here.

Unfortunately, he doesn't provide enough reasoning. He gets some of the way there, writing:
In contrast, Mr Hassett throws around the terms scientific and peer reviewed, yet there is no peer-reviewed support for his central claim that cutting the corporate tax rate from 35 per cent to 20 per cent would raise wages by $4,000 per worker.

The claim is absurd on the face of it. The cut in corporate tax rates from 35 per cent to 20 will cost slightly less than $200 billion a year. There is a legitimate debate among economists about how much the cut will benefit capital and how much it will benefit labor. Mr Hassett's "conservative" claim that the cut will raise wages by $4,000 in an economy with 150 million workers is a claim that workers will benefit by $600 billion or 300 per cent of the tax cut. To my knowledge, such a claim is unprecedented in analyses of tax incidence. Mr Hassett, though, doubles down by holding out the further possibility that wages might rise by $9,000.


Like Larry, I am stunned by this numbers too, but I don't know whether they're right. Kevin doesn't "throw around" the term "peer reviewed." He claims that his estimates are indeed based on those peer-reviewed studies. As I said, I would like to see even the back of the envelope calculations that led to them. As far as I know, Kevin hasn't provided them.

But in today's Wall Street Journal, Boston University economist and sometime Larry Summers co-author Laurence Kotlikoff and Canadian economist Jack Mintz, argue that there is a model that comes close to giving the results that Kevin Hassett claimed. The WSJ article is gated but they reference a study that's not. It's "Simulating The Republican 'Unified Framework' Tax Plan" by Seth G. Benzell, Laurence J. Kotlikoff, and Guillermo Lagarda.

Here's the abstract:

This short paper simulates the economic and revenue impacts of the Republican \Unifi ed Framework" (UF) tax plan. As in our prior study of the Republican \Better Way" plan, this study uses the Global Gaidar Model (GGM). The GGM is a global 17-region, 90-period, overlapping-generations model, which is closely calibrated to U.N. demographic and IMF fiscal data. In incorporating the entire world's capital market, the GGM is particularly well suited to studying foreign capital inflows arising from U.S. corporate tax reform. We find that, depending on the year considered, the new Republican tax plan raises GDP by between 3 and 5 percent and real wages by between 4 and 7 percent. This translates into roughly $3,500 annually, on average, per working American household. The source of the increase in U.S. output and real wages is the UF plan's reduction in the U.S. marginal eff ective
corporate tax rate from 34.6 percent to 18.6 percent. This expands the U.S. capital stock by between 12 and 20 percent depending on the year in question. Due, in good part, to the economy's expansion, the UF tax plan is essentially revenue neutral. The GGM's strong supply-side response is not due to a built in bias. Rather, it reflects the mobility of the global capital stock in response to the UF's corporate tax reform and the inefficiency of the current U.S. corporate tax, marked by its very high marginal and very low average tax rates. Indeed, cuts in personal income tax rates in the GGM produce de cits, crowd out capital and lower long-run economic welfare. And reducing the U.S. corporate tax rate in the GGM much further than under UF (e.g., fully eliminating it) necessitates personal tax increases to prevent a rise in the U.S. debt-to-GDP ratio. The main diff erence between this study and a recent Tax Policy Center (TPC) study, which predicts large de ficits from enacting the UF plan, is TPC's assumption of no major economic response to the policy. The TPC also suggests that the UF tax plan is highly regressive. Our model produces roughly similar wage gains for both its low- and high-skilled workers. This said, we share the TPC's concern that the UF plan could disproportionately benefi t the top 1 percent. This concern about fairness as well as the country's massive long-term fiscal gap suggests modifying the UF plan to include, for example, the elimination of Social Security's FICA tax ceiling, a tax onlifetime inheritances and gifts received above $5 million, or a progressive cash flow tax on consumption above $100,000.

By the way, while I share this concern about the long-term fiscal gap, I don't share their concern about fairness. They take as given that the status quo is fair. But high-income people pay a massively disproportionate share of taxes now; that is they pay a much higher percent of their income in taxes than lower- and middle-income people pay.




I don't doubt that there are some types of human behavior that are both hard-wired and irrational. But it's very dangerous to simply assume that any form of irrationality that you encounter is innate (i.e. genetic). Here's the NYT:

"A good rule of thumb is we shouldn't impose a set of rules that will create moral outrage, even if that moral outrage seems stupid to economists," Mr. Thaler said. . . .

What the successful examples of variable pricing have in common is that they treat customers' desire for fairness not as some irrational rejection of economic logic to be scoffed at, but something fundamental, hard-wired into their view of the world. It is a reality that has to be respected and understood, whether you're setting the price for a highway toll, a kilowatt of power on a hot day, or a generator after a hurricane.

"If you treat people in a way they think is unfair, then it will come back and bite you," Mr. Thaler said. And it doesn't take a Nobel to understand that.


Interestingly, the same article provides evidence that this aversion to surge pricing (aka "price gouging") is not hard-wired:

When Stockholm experimented with a charge to enter the city center in 2006, it was highly controversial, with people in suburban towns especially viewing it as an unfair tax.

But since being made permanent in 2007, opinion has shifted, said Maria Borjesson, a transportation economist at the KTH Royal Institute of Technology.

"I think an important lesson is that the conception of what is fair changes," she said. "Before the charge, the discussion was of how unfair it was and how it would be hardest for low-income people. Now when we do surveys, we find that people think it is unfair if the people who use the streets and pollute and increase congestion don't pay. We've seen this everywhere that has implemented congestion charges, that public support increases afterward."


I could provide many examples of where the public has gradually become more accepting of surge pricing. Unlike when I was young, airlines now change much higher prices during busy periods. Movie theaters charge more during the evening. Hotels use surge pricing, as does Uber. Gas stations charge more after a severe hurricane hits the Gulf Coast. Groceries use surge pricing for fresh fruits.

Often our moral intuitions change over time. Life insurance was once viewed as a repulsive idea---betting on death---now it's a well established industry.

When the public holds irrational views that cause real harm to people, say on price gouging or rent controls or kidney markets or drug legalization or gay marriage, the solution is not to throw up our hands and assume that these views are hard-wired, rather we need to look for creative ways to nudge people into more sensible views of the world. That doesn't mean businesses can simply ignore these irrational views, but on the other hand don't treat them with undo respect.

Surge pricing can be phased in gradually, so that people become accustomed to the idea that a higher price for electricity on a hot day is just as sensible as a higher price for a hotel room on a holiday weekend.

My criticism of the NYT article is that it doesn't have enough focus on education. It shows much more respect for irrational views of surge pricing than it would to irrational views on race, gender or sexual preference. And yet irrational views on surge pricing do real harm to people.

Surge pricing in Singapore:

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Thoughts on my latest debate:

1. Hans von Spakovsky was the most lawyerly opponent I've ever debated.  His first (and second) approach to almost any issue was simply to describe the law.  In most cases, he didn't even defend its wisdom or justice.  Instead, he simply exhorted people to obey the law or convince Congress to change it.

2. Still, after a great deal of legal description, von Spakovsky finally shared his actual view: low-skilled immigration should be sharply reduced in favor of high-skilled immigration.  When asked about refugees, he refrained from calling for outright cuts in the quota; instead, he maintained that existing numbers are roughly the most we are capable of handling.

3. The debate was explicitly about Trump's views on immigration, and von Spakovsky has pretty close ties to the administration.  But von Spakovsky said almost nothing about Trump or his policies - and studiously failed to defend the president I repeatedly called "intellectually lazy and irrational."  Perhaps he respects Trump so deeply that he considered my claims unworthy of a response.  Or perhaps - like many elite Republicans - he avoided the topic because he is well-aware of Trump's glaring epistemic shortcomings.

4. The most engaging part of the debate, at least for me, began when my opponent spontaneously described his traffic tickets.  This seems to show that - contrary to his grandiose claims about its sanctity - he's often not ashamed to break the law.  In other words, he's an normal American driver.  You could argue that traffic laws are uniquely bad, but that's silly.  They plausibly protect other human beings from dangerous driving - and compliance is usually only a minor inconvenience.  Why, then, would it be wrong to break immigration laws - which immensely harm would-be immigrants at great economic cost to natives?  If anything, we should enforce traffic laws far more strictly than immigration laws.

5. During Q&A, Reason's Shikha Dalmia amplified my point by referencing the slogan that Americans commit three felonies a day.  Von Spakovsky did not dispute her claim, but drew a strong distinction between natives' accidental law-breaking and illegal immigrants' deliberate law-breaking - an odd retreat for such a lawyerly thinker.  When I pointed out that natives often knowingly break the law, my opponent declined to call for a strict crack-down on said scofflaws.

6. I repeatedly pointed out that governments selectively enforce laws all the time.  Indeed, they have no choice; there aren't enough resources in the world to enforce all the laws we have.  Furthermore, governments often officially announce their enforcement policies, so people know what to expect.  Given this, I don't even see what the legal objection to DACA or DAPA is supposed to be.

7. I argued that Trump's travel ban bears little connection to the problems he claims to be worried about.  Saudi Arabia isn't on the list, even though 15 of the 19 9/11 attackers were Saudi.  Von Spakovsky dismissed my claim by by providing details about how the administration formulated its new policy.  He even urged listeners to go to the White House webpage.  This morning, I took his advice.  A typical passage:
The Secretary of Homeland Security assesses that the following countries continue to have "inadequate" identity-management protocols, information-sharing practices, and risk factors, with respect to the baseline described in subsection (c) of this section, such that entry restrictions and limitations are recommended:  Chad, Iran, Libya, North Korea, Syria, Venezuela, and Yemen.  The Secretary of Homeland Security also assesses that Iraq did not meet the baseline, but that entry restrictions and limitations under a Presidential proclamation are not warranted.
I am perfectly happy to admit that there is a bureaucratic process at work.  There always is.  But if an intellectually lazy, irrational president wants X, are his functionaries going to tell him he's wrong or unfair?  Of course not.  Instead, they'll go through a flurry of procedure to get the "right" answer.  That's how committees work: Busywork + Legalese = Foregone Conclusion.

8. My opponent strongly rejected any keyhole solutions for alleged downsides of low-skilled immigration.  But other than appealing to the value of equality, I detected no concrete objection.

9. I am a weird human being, but I am self-aware.  This routinely leads me to wonder how other people perceive me.  Von Spakovsky was very polite to me both publicly and privately, but he must think there's something very wrong with me.  What exactly would that be?  Partly, I'm an Ivory Tower professor who doesn't understand - or just can't accept - how the "real world" works.  Partly, I'm out of touch with America.  He didn't seem to mistake me for a bog-standard leftist, which was nice.  On reflection, I'm probably far worse in his eyes than he ever realized.  But seeing yourself through the eyes of another is no mean feat.

10. Did either of us change anyone's mind?  I suspect I persuaded a few people to rethink the sanctity of the law.  Von Spakovsky, for his part, might have spurred a few people to read some laws for themselves instead of accepting media summaries of them.  But overall, I'm afraid even the short-run effect on people's thinking was minimal.  Changing minds on this issue is going to require a lot more than a debate.

11. Still, as far as intellectual experiences go, the debate was a far better than a protest




Many people have pointed out that the Catalonian secession can trigger an economic shock. The Catalonians say they want to stay in the European Union and keep the euro, but they can't do so. If they secede, they'll need to enter again the EU (and the euro) as an independent state. And Spain would likely veto them out of the EU.
Catalonia.jpg

FT columnist Wolfgang Münchau wrote that "Catalan breakaway would make Brexit look like a cake walk", arguing that the main argument against Catalan independence is thus economic.

It may be a matter of words, but I thought that the problem was not "economic." Small states, if they're open economies, can survive and prosper in an era of globalisation. A more extended division of labour doesn't imply political unification, all the more so in an age when transferring information and traveling have never been faster and cheaper.

Rather the problem is political: that is, the European Union doesn't allow for an ordered exercise of the right of self determination. You can consider this inevitable, if you think the EU is nothing but a cartel of states. But it is certainly in striking contrast with that principle of subsidiarity often hailed by the European founding fathers. Or at least so I've argued in a letter to the Financial Times:

Secession from Spain would trigger exit from both the EU and the euro, which may account for a global economic shock. In fact, the Catalans do not want to leave the euro or the single market: only Spain. And yet they'll be forced out of European institutions because the latter are tailored around member nation states.

When you're forced to do something you do not want to, it's not economics, it's politics. And, indeed, the main argument Mr Münchau refers to is not economic, but political. In a globalised world, smaller political units do not need to fear isolation as long as they are open economies. Smaller states are less likely to be tempted by protectionism as its cost will be higher for them.

The problem the Catalans are facing lies with the legal infrastructure of the EU. Though the EU's founding fathers preached the principle of subsidiarity, they didn't allow room for the principle of self-determination of peoples in the treaties. Perhaps it is the political problem that should be tackled, establishing ordered ways of exercising the principle of self-determination at least within the EU.

CATEGORIES: Eurozone crisis



David R. Henderson  

Two Texas Talks

David Henderson

I'll be giving in two talks in Texas this week.

Southern Methodist University, Dallas
Sponsor: O'Neil Center for Global Markets & Freedom
Topic: How Economists Helped End the Draft
Time: Wednesday, 6:00 to 7:00 p.m. (Reception to follow)
Place: Ernst & Young Gallery (Room 220 of the Fincher Building)

Baylor University, Waco
Sponsor: Baugh Center for Entrepreneurship & Free Enterprise
Hankamer School of Business
Topic: Economic Inequality: Popular Misconceptions and Important Facts
Time: Thursday, 4:00 to 5:15 p.m. (refreshments provided)
Place: Hankamer School of Business, Foster 240

If you come, please come up afterwards and introduce yourself.

CATEGORIES: Upcoming Events



Scott Sumner  

Rethinking Macroeconomics

Scott Sumner

I recently attended a conference at the Peterson Institute on "Rethinking Macroeconomics", which mostly meant returning macro to its Keynesian roots. Readers may know that I have a contrarian take on the crisis---I believe it occurred because macroeconomists did not take macro theory seriously enough. We do not need to rethink macro by adding in fiscal policy or paying more attention to the financial sector, rather we need to impress upon the world's central banks the importance of doing whatever it takes to keep aggregate demand growing at an adequate level. The major central banks (except in Australia) did not do that in 2008 (for many different reasons) and hence we had the Great Recession.

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I don't get invited to many left-of-center conferences, for some reason I'm more likely to get invitations from groups like Cato, AEI, Heritage, etc. Thus I thought it might be interesting to provide a few impressions:

1. At an intellectual level the conference was very impressive---there were many brilliant economists presenting and also in the audience. The overall impression was of a center-left perspective, but hardly monolithic. After Alan Auerbach presented a paper on fiscal policy, several panel members (including Robert Rubin) expressed skepticism---viewing the problems we face as mostly supply-side.

2. I sometimes had a sort of "Paul Krugman reaction", as the general discussion seemed more grounded in reality than at a right-of-center macro conference. Most speakers seemed very aware of the importance of shortfalls in AD during the Great Recession, a basic understanding that I often feel is missing on the right.

3. On the negative side, I was extremely disappointed by some of the comments on monetary policy. In response to calls for a higher inflation target to avoid the zero bound problem, Jeremy Stein of Harvard University asked something to the effect "What makes you think the Fed can achieve higher inflation?" (Recall that Stein was recently a member of the Federal Reserve Board.) I was pleased to see Olivier Blanchard respond that there is no doubt that we can achieve 4% inflation, or indeed any trend inflation rate we want. But then Larry Summers also suggested that he shared Stein's doubts (albeit to a lesser extent.)

I kept thinking to myself: Why do you guys think the Fed is currently engaged in steadily raising the fed funds target? What do you think the Fed is trying to achieve? How can a top Fed official not think the Fed could raise its inflation target during a period when we aren't even at the zero bound? Why has the US averaged 2% inflation since 1990---is it just a miracle? When Summers came out for NGDP targeting I briefly wondered whether I'd made a mistake in favoring Yellen for Fed chair, but this comment reconfirmed my initial preference.

4. While the left is ahead of the right in their understanding of the importance of demand shocks, they lag far behind in understanding the importance of more subtle forces shaping the economy. Thus they are even less likely than the right to blame the Fed for destabilizing aggregate demand, and they almost entirely ignored the problem of moral hazard in a panel on the financial system. On the left there's a reflex to always seek solutions in more government (financial regulation, fiscal policy, etc.), not in removing government policies that cause problems (moral hazard, unstable monetary policy.) Unfortunately the solutions offered by the left do not address the root causes of economic crises, and hence are likely to be ineffective. Banks will eventually find their way around any regulations enacted to limit their risk taking. Fiscal policy has been repeatedly shown to be largely ineffective. (Remember the 2013 recession trigger by "austerity"? Me neither.)

5. Larry Summers dominated the conference due to a combination of his force of personality and his intellectual brilliance. (That's right, I don't judge intellects based on whether they agree with me.) At one point he was asked what he'd do if put in charge of the Fed. Although Summers had expressed support for a higher inflation target, he was surprisingly cautious in response to this question. He pointed out that it was the job of intellectuals in academia to throw out provocative ideas worth considering, and the job of top policymakers to enact policies based on well-established economic principles. He indicated that he wasn't sure whether it would make sense to use a lot of political capital trying to move the entire Federal Reserve System over to his preferred policy. (This is based on my memory, and may not be precisely correct.)

Summers' comment made me think back to lots of debates I'd had in various comment sections, where I defended Bernanke for trying to nudge the Fed in the right direction. Summers' remarks make me even more confident that I was correct, as if even an "alpha male" like Summers thinks he'd have trouble moving the Fed to his preferred policy regime, imagine the challenge facing a more mild-mannered, consensus-seeking personality like Bernanke (or me!). Summers has worked in the Treasury, and knows how difficult it is to enact policy changes in the real world.

6. When I proposed negative interest on reserves back in January 2009, the idea was widely ridiculed in my comment section. I recall reporters from the Financial Times suggesting that the policy would actually be contractionary. (They looked at monetary policy from the false "finance perspective", not the true "monetarist perspective".
Indeed the success of negative IOR helps to confirm the truth of monetarism). On one panel Mario Draghi indicated that negative IOR had indeed been effective, had failed to produce market distortions such as disruption to MMMFs, and had also failed to reduce bank profitability. (Note that an expanding economy is good for banks.) I was very pleased to see that my proposal had worked out so well.

7. Greg Ip from the WSJ asked a really interesting question. He pointed out that many of the factors cited by Larry Summers in his "secular stagnation" hypothesis also might serve to make recessions much less likely in the future. Previous recessions often occurred either when there had been an inflation overshoot (i.e. 1970 or 1981), or (perhaps) when investment has become excessive (think tech in 2000 or housing in 2006.) But under secular stagnation there are no inflation overshoots, and we also don't see high levels of investment. (Don't be fooled by recently recovering home prices; actual construction of homes remains severely depressed relative to the long run average.) I'm already on record predicting that this will end up being the longest expansion in US history, and Ip's question made me even more confident in that prediction.

Some people responded by pointing to past "this time is different" predictions (i.e. 1929, 1966, 2006), which ended up being overly optimistic. But I don't think that sort of cynicism is an adequate response to Ip, especially in a world where Australia has not had a recession in 26 years.

PS. Even though Adam Posen's views are far to the left of mine, I'd like to thank him for inviting me and for hosting an extremely high quality conference. This site has links to videos of the various panels, so you can check the accuracy of my memory.




Last Friday, I debated Heritage's Hans von Spakovsky on "Does Trump's Immigration Agenda Harm Democracy?"  The resolution was unusual for me in three ways:

1. I usually try to stick to timeless issues.  For this debate, I had to discuss and analyze current events in detail.

2. We were originally going to discuss Trump's immigration policies, but it's not clear that he'll manage to dramatically change immigration policy.  That's why we switched to his immigration agenda - i.e., the policies Trump would like to impose.

3. Since I put no intrinsic value on democracy, I'd rather argue that immigration policies are harmful, rather than "harmful for democracy."  But I think I learned a good deal from sticking to the agreed topic.  Hopefully you'll agree!



Does Trump's Immigration Agenda Harm Democracy?

Let's start with the big question: What does it mean to "harm democracy"?  It's tempting to cynically say:  "harms democracy" equals "clashes with my favorite policies" or even "fails to give power to my party."  But if you get some distance, there are plenty of plausible standards against which to judge democratic performance.  Above all:

1. In a healthy democracy, leaders calmly assess the evidence before forming a plan to solve social problems.  They consider costs as well as benefits. 

2. In a healthy democracy, leaders seek objective estimates of policies' actual effects, even if they don't like the answers.  For example, if they're setting the minimum wage, they'll want sober estimates of the effect of a $1/hour increase on the number of workers hired. 

3. In a healthy democracy, leaders defuse popular prejudices instead of pandering to them.  If the majority wrongly believes leeches cure cancer, leaders don't advocate a $100B National Leech Fund.  Instead, they politely but firmly refuse to waste of taxpayer money.

These standards aren't Democratic or Republican, liberal or conservative.  They're common sense and common decency. 

 

Now, you might say, "Common sense and common decency aren't so common."  Or even: "I don't know any leaders of either party who live up to these standards.  Successful politicians are experts at winning and retaining power, not carefully crafting wise policy.  And the way to win and retain power is to tell voters what they want to hear, whether it's true or not." 

 

If that's your reaction, I completely agree.  I have a whole book - called The Myth of the Rational Voter: Why Democracies Choose Bad Policies - on the shortcomings of democracy.  But the fact that politicians routinely harm democracy hardly implies they're all equally harmful.  And of course, politicians could be better on some issues than others.  So how does Donald Trump's approach to immigration policy measure up?

 

1. In the real world, politicians rarely calmly assess evidence before offering solutions.  If you know a politicians' ideology, you can generally predict what he's going to say about even the most complex issues.  And immigration is an especially emotional issue.  Even so, Trump's statements about immigration are unusually intellectually lazy and irrational.  Consider some of his main public reflections on the topic.

 

a. He's claimed there are 30-34 million illegal immigrants in the U.S. - roughly triple the number virtually any quant accepts.  When asked for a source, he said, "I am hearing it from other people, and I have seen it written in various newspapers. The truth is the government has no idea how many illegals are here."

 

b. "The Mexican Government is forcing their most unwanted people into the United States."  Evidence for this strange conspiracy theory?  None.  And: "Likewise, tremendous infectious disease is pouring across the border." 

 

c. "I will build a great wall -- and nobody builds walls better than me, believe me -  and I'll build them very inexpensively. I will build a great, great wall on our southern border, and I will make Mexico pay for that wall. Mark my words."

 

d. On deportations: "We're rounding 'em up in a very humane way, in a very nice way. And they're going to be happy because they want to be legalized. And, by the way, I know it doesn't sound nice. But not everything is nice."

 

Hasn't Trump also made numerous seemingly incompatible statements about immigration?  Sure.  Which proves my point: he's so intellectually lazy and irrational he can't keep his own story straight.

 

2. Trump's low-quality thinking might be forgivable if his conclusion about immigration were, by coincidence, roughly accurate.  But they're not.  Careful scholars have been studying immigration for decades.  Here are their top discoveries.

 

a. Contrary to Trump's many claims about the economic damage of immigration, the overall economic benefits of immigration are enormous.  The idea is simple: Immigrants normally move from countries where wages are low to countries where wages are high.  Why do employers them pay so much more in rich countries than in poor countries?  Because foreign workers are much more productive in rich countries than they are in their home countries.  A Mexican farmers can grow a lot more here than he can in Mexico.  When he does so, the immigrant isn't merely enriching himself.  He enriches everyone who eats.  Immigration's gains are so vast that researchers estimate that - in a world where anyone could work anywhere - global production would roughly DOUBLE.

 

b. Trump has blamed immigration for seriously harming native workers.  Scholarly estimates, however, generally say that Americans workers are, on balance, richer because of immigration.  Basic point: Immigrants who sell what you sell hurt you, but immigrants who sell what you buy help you.  Since immigration raises total production, gains naturally tend to outweigh losses.  There is debate about immigration's effects on wages and employment of native high school dropouts.  But even estimates of these losses are low.

 

c. Trump has also argued that immigrants are a clear fiscal burden on native taxpayers.  This goes against the latest National Academy of Sciences report, which finds a long-run average net gain of $58,000 per immigrant.  There does seem to be a net fiscal burden of high school dropout immigrants, especially older high school dropouts.  But even they're a much better fiscal deal than native-born dropouts, because their home countries pay for their education.

 

d. Trump's claims about immigrant crime have been widely-quoted.  But specialists in immigrant crime almost universally find immigrants have lower crime rates than natives - about one-third lower in recent data. 

 

3. Is Trump's immigration agenda at least sincere?  Let's look at the problems he says he want to solve and the solutions he proposes to solve them - and see how well they fit together.  If Trump really thought "[T]remendous infectious disease is pouring across the border" with Mexico, you'd expect him to instruct the Centers for Disease Control to prioritize this problem, or impose new health restrictions at the Mexican borders.  He hasn't; in fact, it seems like he's forgotten he ever mentioned Mexican epidemics.  Similarly, if Trump were really worried about Muslim terrorists, he would presumably want to extend his high-profile executive order to Saudi Arabia.  After all, 15 of the 19 9/11 attackers were Saudi.  But, no.  The heart of Trump's immigration strategy is to pander to popular prejudices against foreigners, then loudly call for some kind of action.  It's the Activist's Fallacy: "Something must be done.  This is something.  Therefore, this must be done."

 

But you don't have to believe me.  You can also see what Trump says when he thinks voters aren't watching.  The transcript of Trump's conversation with Mexican President Nieto was leaked a few months ago.  Trump speaking: "Because you and I are both at a point now where we are both saying we are not to pay for the wall. From a political standpoint, that is what we will say. We cannot say that anymore because if you are going to say that Mexico is not going to pay for the wall, then I do not want to meet with you guys anymore because I cannot live with that. I am willing to say that we will work it out, but that means it will come out in the wash and that is okay. But you cannot say anymore that the United States is going to pay for the wall. I am just going to say that we are working it out. Believe it or not, this is the least important thing that we are talking about, but politically this might be the most important talk about." 

 

In short, Trump doesn't really care if Mexico will pay for the wall, but he really cares if Americans believe Mexico will pay for the wall. 

 

Which brings me to the one good thing I have to say about Trump's immigration agenda: He's unlikely to actually accomplish much of it.  While he presents himself as a great negotiator, he's primarily an entertainer.  When he endorsed the RAISE Act - which really would greatly reduce immigration - even fellow Republican politicians showed little interest.  So Trump got bored and moved on to the next exciting scene on his Presidential Reality Show. 

But aren't other politicians bad, too?  Of course.  Demagoguery is a key ingredient of any politicians' path to power - and scapegoating foreigners is classic demagoguery.  But Trump has taken anti-foreign demagoguery to a new level - or at least a local maximum.  If he had his way, we'd lose most of the tremendous social gains of immigration we've enjoyed over the last fifty years.  And his problem is not that he's made subtle errors.  Trump's problem is that he emoting, not thinking - like a kid who tries to solve algebra problems by asking, "How do x and y make me feel?"  Our problem is that instead of giving him an F, we've made him president.





David R. Henderson  

Fred McChesney RIP

David Henderson

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Law and economics scholar Fred McChesney died last Thursday at age 68. He was a first-rate scholar, a wonderful friend, and an engaging conversationalist. I'm so glad that he called me up when he was in Monterey a couple of years ago. I went to his hotel and had a great visit with him and his lady friend. I remember feeding the parking meter for an hour, thinking that would be enough, and then finding the conversation so interesting and fun that I went out after an hour and a quarter and fed it for another hour.

Here's a great write up of some of his accomplishments.

Fred wrote the antitrust article for The Concise Encyclopedia of Economics. Out of the over 160 entries, it is one of my 20 favorite pieces. It covers a lot of territory succinctly while still giving the essential economic analysis on each issue.

He also wrote 10 articles for the Econlib Feature Article series. My favorite two are "Armen Alchian: An Economist-Lion in Winter" and "Smoke and Errors."

Here's a great paragraph from "Armen Alchian: An Economist-Lion in Winter":

Perhaps no other economist of our time has given as much attention to costs as has Armen Alchian. He discovered, while working at the RAND Corporation after the war, that military engineers and economists disagreed over the efficient ways to produce armaments because their concepts of cost were quite different.6 Engineers registered cost as a function of total output, and so saw costs as generally declining. But to economists, the costs associated with different levels of output depend on the rate at which they are produced: Producing the same volume but in a shorter period of time would be more expensive, ceteris paribus. Moreover, once one recognized the importance of time for reckoning cost, one had also to take into account the present value of the outlays required to produce, outlays that would vary depending on the timing of production. All of this Alchian explained in one of his most important articles.

Here are two great paragraphs from "Smoke and Errors":

In short, good old-fashioned rent seeking accounts for the rise of public fire-fighting. It explains as well the survival of an entity that, more and more, is losing its raison d'être. Modern building materials are relatively fire-proof, while clothing and other fabrics are flame-retardant. Municipal codes increasingly require sprinkler systems, smoke detectors and other devices to reduce the incidence and costs of fire. So today's fireman has much less to do. The number of home and building fires has plunged 40 percent in the past two decades.

With fewer fires to fight, one would expect to find fewer fire-fighters--in a private firm, anyway. But not in a public agency. Despite the 40-percent decline in fires, in the past twenty years the number of paid city fire-fighters has increased by 20 percent. Only in government firms does employment go up as demand and output decline.


HT2 Tyler Cowen.

CATEGORIES: Obituaries



It is of great comfort to us who share an antiquarian passion for the history of political thought that fundamental questions such as, "What is the state?" invariably come to the surface. But sometimes you get the impression that new interpretations focus more on the 'political' than on the 'thought'. 

I'm referring to a long opinion piece published by Yoram Hazony in The Wall Street Journal. From his byline we know that Mr Hazony, President of the Jerusalem-based Herzl Institute, is publishing a book entitled The Virtue of Nationalism.
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His article's political goal is clear: he wants to argue that Donald Trump's blend of conservatism is in line with an old tradition that goes back to Edmund Burke. Trump is thus implicitly considered the torch-bearer of a system of ideas that value the nation-state as providing the soil which allowed Western liberty to flourish. From this comes skepticism towards exporting such values in different cultures and a similar anxiety for opening the door to immigrants that come from illiberal cultures.



But leaving aside what President Trump stands for, or rather represents, Mr Hazony's story is quite problematic.

 He thinks that "Classical liberalism ... offers ground for imposing a single doctrine on all nations for their own good. It provides an ideological basis for an American universal dominion." So, for Mr Hazony it was "liberal abstractions", based upon John Locke's ideas that matured into contemporary neo-conservatism.

Note that for Mr Hazony classical liberalism is "rationalist". I'm not so sure that Locke can be considered a "constructivist", but it is hard to assume that David Hume and Adam Smith were not central to the original arc of liberalism--that is, classical liberalism. Moreover, it could be argued that Burke himself had strong (classical) liberal leanings. On issue after issue, his tendency was usually liberal.



Mr Hazony seems to ignore the extent to which the modern libertarian movement, in the United States, tends to favour anti-interventionism and how skeptical prominent libertarians were of exporting democracy, let alone neo-conservatism itself. 

He quotes from Mises's 1927 pamphlet "Liberalism" to argue that classical liberals are actually internationalist advocates of world government. So writes Hazony:

Ludwig von Mises thus advocates a 'world super-state really deserving of the name,' which will arise if we 'succeed in creating throughout the world . . . nothing less than unqualified, unconditional acceptance of liberalism. Liberal thinking must permeate all nations, liberal principles must pervade all political institutions.
Let's read the quotation in its entirety:


To be sure, the League does hold out, even though very cautiously and with many reservations, the prospect of some future boundary adjustments to do justice to the demands of some nations and parts of nations. It also promises--again very cautiously and qualifiedly--protection to national minorities. This permits us to hope that from these extremely inadequate beginnings a world superstate really deserving of the name may some day be able to develop that would be capable of assuring the nations the peace that they require. But this question will not be decided at Geneva in the sessions of the present League, and certainly not in the parliaments of the individual countries that comprise it. For the problem involved is not at all a matter of organization or of the technique of international government, but the greatest ideological question that mankind has ever faced. It is a question of whether we shall succeed in creating throughout the world a frame of mind without which all agreements for the preservation of peace and all the proceedings of courts of arbitration will remain, at the crucial moment, only worthless scraps of paper. This frame of mind can be nothing less than the unqualified, unconditional acceptance of liberalism. Liberal thinking must permeate all nations, liberal principles must pervade all political institutions, if the prerequisites of peace are to be created and the causes of war eliminated. As long as nations cling to protective tariffs, immigration barriers, compulsory education, interventionism, and etatism, new conflicts capable of breaking out at any time into open warfare will continually arise to plague mankind.


Mises was actually criticising the international body of the time (the League of Nations), but expressed hope for "a frame of mind" that looks to see individual rights protected, not just within one's country but also abroad. I agree that Mises's use of the word 'superstate' is unfortunate, but it is clear that all he is pointing toward is a liberal sensibility that traverses national boundaries. 



The passage is part of the book's section on "a liberal foreign policy". Chapter 3 of that section is a remarkable collection of caveats, against allegedly peace-creating policies that could backfire (from "standardised" education to the creation of "economic areas"). Indeed, Mises thinks that "a world order must be established in which nations and national groups are so satisfied with living conditions that they will not feel impelled to resort to the desperate expedient of war". Such a humanitarian attitude, which is indeed part of the classical liberal legacy, was all the more cogent after the disastrous experience of World War I. Mises was not so eager to buy into "the virtues of nationalism" as he saw Europe on fire because of it - and understood that may happen again, as unfortunately it did.



Can Mises be considered a champion of exporting democracy? "The unqualified, unconditional acceptance of liberalism" was for Mises a cultural goal, not a strategy to be pursued at gunpoint.

When it comes to the issue of national identity, the second chapter in that very section of the book is devoted to the principle of self-determination.

The drift of Mises's discussion is the aim to dilute conflicts and allow for peaceful coexistence. There was no thirst for American 'hegemony': but the idea that people, by having fruitful commercial relationships, will eventually sheathe their swords. Such vision can perhaps be considered naive, but it certainly cannot be considered propaganda for world government.



Mises's liberal vision included the idea of "multi-national" states: states within which multiple national identities coexist, like they did in Europe for centuries before the idea "one state, one nation" became hegemonic. 

Was this nostalgia for the old Habsburg empire? Well, perhaps it was. 

Let's look at conservatives for a minute.  Think about Europe. Those "empirical" conservatives Mr Hazony purportedly admires couldn't be enthusiastic about national identities which were very recent artifacts--in some respects themselves products of constructivist rationalism. Didn't the Congress of Vienna after all have an "anti-national" character? Weren't European conservatives favouring empires or, yes, the "empirical" history of territorial divisions and royal dynasties as principles of legitimization deeply opposed to then emerging idea of the "nation"?



I'll read Mr Hazony's book, about which now I'm truly curious. But on these matters, so far my recommendation would be to go back to good ol' Lord Acton.

CATEGORIES: Economic Philosophy



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