Bryan Caplan  

Why Did Financial Markets Like Nixon's Price Controls?

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It's easy to explain why financial markets like the bail-out - it's a big transfer from tax-payers to investors. But Arnold points out that the market liked Nixon's price controls, too: "In 1971, the market gave a huge thumbs-up to wage and price controls, which turned out to have damaging economic effects that persisted for years."

That's harder to explain. Do financial markets generally respond positively to overall price controls? Was this a fluke? Were the price controls less bad than expected? Do price controls indirectly transfer income to investors? Or what?


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COMMENTS (13 to date)
scott clark writes:

I would hazard to guess that price controls are a boost because its a transfer from potential firms to existing firms. Its naive, but existing firms think they will have the opportunity to capture the price setting board, and if they are profitable at the prices set, they can continue to be profitable. New firms or firms that could potentially exist if they see opportunities will not be able to enter the market given the static landscape. Its easier to rent seek then it is to trade.

JohnP writes:

Is that the full picture? Weren't Nixon's price controls coupled politically with a depegging of the dollar from the gold standard?

Daniel writes:
Nixon later wrote, "I knew I had opened myself to the charge that I had either betrayed my own principles or concealed my real intentions." But Nixon was nothing if not a practical politician, as he made clear in his masterful explanation of his shift. "Philosophically, however, I was still against wage-price controls, even though I was convinced that the objective reality of the economic situation forced me to impose them."

From

http://www.pbs.org/wgbh/commandingheights/shared/minitextlo/ess_nixongold.html

(An excerpt of "Commanding Heights" on a PBS website)

I'm surprised that Bryan would underestimate Dicky's trickiness :)

Dog of Justice writes:

I have to think that bounded rationality plays a central role here -- the median dollar, like Nixon, thought that we were making a prudent tradeoff; it was only after the experience that most of us realized that we underestimated the drawbacks of the policy.

Josh Lyle writes:

I'm with Scott Clark, with the minor quibble that it's not just potential firms vs. existing firms, but possibly firms big and mature enough to be publicly traded vs. firms that aren't listed on the exchanges.

Bob Knaus writes:

We don't have a large dataset for the imposition of price controls. Usually, they are associated with a war. This graphic for instance shows that the creation of the Office of Price Administration between April 1941 and January 1942 did nothing to halt the slide of the Dow.

David R. Henderson writes:

Bryan,
When I was in the Ph.D. program at UCLA, my monetary theory professor, Mike Darby, did a paper on this. He found that the WAGE and price controls were essentially a large antitrust action against monopoly unions and concluded, if I recall correctly, that the gains from reducing that distortion outweighed the losses from the other distortions, at least before OPEC came along and ruined it. I don't endorse his conclusion because it's been 30+ years since I've read it, but that's what I recall.
Now, can we believe that the market had rational expectations about this?
Best,
David

John Fast writes:

I'm not an economist, I'm a political theorist, so I'll give a non-economic explanation: the herd of investors, and the mutual-fund managers that lead it, aren't that bright. Their "animal spirits" (to quote Keynes, of course) are stimulated by anything that sounds good, that sounds like taking positive action. ("Something must be done, this is something, Q.E.D.")

FWIW I worked in the private sector for over a decade and -- even though I'm a hard-core anarcho-capitalist -- I don't think private-sector experts are any better than those working for the government. The difference is that private-sector experts can't force me to pay for their mistakes and put me in jail if I refuse to go along with them.

Dr. T writes:
In 1971, the market gave a huge thumbs-up to wage and price controls...

Why did they agree with the controls?

1. The financial markets were desperate to eliminate double-digit inflation.

2. The market experts weren't very smart.

I am not one of those who believes that when a majority of Wall Street financial market executives argue for a position or policy, that it is the right position. When the position or policy requires government action, then my skepticism quadruples.

Steve Sailer writes:

I was 12 at the time. The general public consensus was We Gotta Do Something. Nixon did something. So, people felt we had a vigorous leader who didn't dither.

It was part of a string of rather remarkable actions Nixon took to prepare for the 1972 election (most famously, the trip to China, but there were many others). He won in a landslide.

Methinks writes:

I was 12 at the time. The general public consensus was We Gotta Do Something. Nixon did something. So, people felt we had a vigorous leader who didn't dither.

This is the exact same reason Russians first loved Putin. Scary.

Milky Way writes:

The other day I was thinking why Intrade is not good at prediction. (I thought it was good at prediction after I learned what Hanson said. But, then, I only started to look into it after Palin's VP pick. And find the performance of Intrade is terrible.)

The answer I came up with is this: if I can sell tomorrow, then tomorrow is what I care. Whether price control will harm the economy after 3 months is not my business.

Granted, not everyone thinks like that. Many would buy and hold. Those people would care about different things.

This of course shouldn't be news to any economist. Whether a Ponzi scheme is possible is a test to the validity of any economic model that claims to be useful in policy making.

Milky Way writes:

Thinking about the Ponzi or pyramid scheme, I remembered I was frustrated by Game Theory for quite some months now. The Game Theory that cannot resolve the Centipede Game or the Travelers' Dilemma in a sensible way, in my opinion, is not suitable as a foundation. The weird thing is, most economists seem to dismiss it quite casually. And those who raised it seems to be arguing that we should throw away the equilibrium thing altogether without offering alternatives that can still put some discipline on economists.

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