jamesz

Economics envy?

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Apparently some historians want their discipline to become a predictive science. Because that worked out so well for economics back in the 60s.

What is needed is a systematic application of the scientific method to history: verbal theories should be translated into mathematical models, precise predictions derived, and then rigorously tested on empirical material. In short, history needs to become an analytical, predictive science (see Arise cliodynamics).

It seems the history of the social sciences rhymes as well as any other. Read more

Matt Nolan

Persistently high unemployment doesn’t mean the government should spend more

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With the unemployment rate coming in at 6.8% in the June quarter, the unemployment rate has been “persistently high”.  There are three broad mechanisms we can “blame”this on:

  1. A “supply shock” across the economy (eg high fuel prices, financial crisis)
  2. A requirement for a reorganisation in the skills needed in the labour market (eg the permanent part of the drop in demand for NZ retail, NZ manufacturing)
  3. A “lack of demand” (insufficient monetary policy loosening).

We can all paint our own pictures that appropriate blame between these factors – but ultimately I’m not going to do that.

Instead I will point out that there is no where here that arbitrary government spending helps – and then I will point out three ways that government policy can “automatically lean” against these problems.

You see, an increase in government spending based on debt stimulates “demand” insofar as monetary authorities do not respond to it.  They do not help to buffer NZ from supply shocks by creating new goods and services, they just work on that “demand side”.  So as long as our central bank is doing a good job (and our central bank is doing a pretty good job for all intents and purposes), there is nothing the government can add here.

However, what things can the government have in place that help out:

  • A safety net that helps to limit the welfare cost of losing your job
  • Countercyclical investment:  So the government invests in infrastructure by hiring services for hydroblasting road markings when it is cheap and easy to finance – they stick to a “long-term plan” of infrastructure … just time more of it to happen during lean times.
  • Training and skill guidance:  When there is a “reallocation”, wages will go up more in some sectors than others to signal there is scarcity – however in the modern economy people need a skill set to do this, and investing in this is a risky endeavor.  During a slow down this problem is especially acute – as firms are unwilling to invest in building employees skills.  As a result, if the government is going to spend, this seems like an appropriate place.  Such a view should be seen as structural policy, and any help during a recession would be automatic rather than legislated at the time.

Lets not be like policy makers in other countries where we fight over budgets without thinking about “why” the policies will work.  Lets take this framework and run with it – like we suggested on this blog in 2009 (, ) … 😉

jamesz

Olympic economics

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Tyler Cowen and Kevin Grier make some predictions:

  1. Medal totals will become more diversified over time. The market share of the “top 10” countries will continue to fall (it was 81 percent in 1988) as economic and population growth slows in the rich world. The developing world has greater room for rapid economic growth, and most parts of the developing world also have higher population growth. The Olympic playing field will get more and more level.
  2. Japan will continue to fade, mostly because of aging and population shrinkage.
  3. Italy will follow Japan for similar demographic reasons, as well as because the Eurozone crisis will continue to cut into budgets, training and otherwise.
  4. Since Rio is host to the next Olympics, Brazil should do better than expected due to the “pre-host” bump.
  5. Many African nations will rise. Currently about half of the approximately 1 billion people in Africa have a cell phone, and the middle class is growing. The chance that an African star will be spotted and trained at the appropriate age is much higher than before. Africa also continues to grow in population, and that means lots of young people. Most of us still think of African nations as very poor, but infant mortality has been falling and per-capita income rising across Africa for the better part of a decade now.
  6. China will level off and then decline as a medal powerhouse. In less than 15 years, the typical person living in China is likely to be older on average than the typical person living in the United States, in part due to the country’s one-child policy. As of 2009 the number of over-60s was 167 million, about an eighth of the population, but by 2050 it is expected to reach 480 million people older than 60, with the number of young Chinese falling. The country will become old before it is truly wealthy.

With some small edits that could almost serve as a prediction of the changing face of global politics, too.

jamesz

Public battles are such fun!

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If you read this blog you’ve probably heard of Acemoglu, Johnson, and Robinson’s (AJR) work on development economics. You may even have read their magnum opus (minus Johnson), Why Nations Fail, and if you haven’t then I highly recommend it. They’ve also started a great blog to support the book.

But even better than that, they’ve started engaging in public battles with other major names in the field! The thesis of Why Nations Fail is that the prosperity of nations is largely determined by the quality of their institutions. Jared Diamond, of ‘Guns, Germs and Steel’ fame, wrote a largely positive review in the New York Review of Books but made sure to remind us of his own thesis. He spends plenty of time explaining how geography is the underlying determinant of the institutional composition of a nation, thus undermining the work of Acemoglu and Robinson.

They then had a scathing reply to the editor published, which rolls out arguments that they’ve rehearsed many times in their academic sparring with Jeff Sachs. Finally, there is the response from Diamond to their criticisms of his thesis. I won’t ruin it with quotes so click through and read the whole thing for yourself.

Matt Nolan

A problem with “advertising bans”

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Over at Offsetting, Eric mentions that there is a view that we need to start banning fast food advertisements.  Personally I think this is a dumb idea, but when it’s people’s job to make up arbitrary interventions to “save the world” they will.

More importantly, it reminds me of one of the first posts I wrote on the blog:

So food with a McDonalds wrapper does taste better. Now I’m sure many people will take this as a sign that advertising is evil, as it can lead to children being overweight, however I think it is an awesome service provided by McDonalds. You see McDonalds advertising makes food taste better, they increase the value of the product to an individual by advertising it, and getting all your senses excited. Although two otherwise identical products might seem homogeneous to you, the fact that the McDonalds wrapper is on one and not the other implies that one has the value associated with advertising while one doesn’t. As all McDonalds is doing is increasing the value of their product, thereby increasing demand I don’t have a problem with it.

Advertising creates value.  Also, I haven’t mentioned here that advertising provides information.  There may be a case to regulate advertising given perceived misinformation, or we could even stretch this to a concern about children (as long as we are honest that this belief is based on targeting “bad parents”).  However, even when we head this far an advertising ban is overkill.

Remember, the goal of policy is to “maximise happiness”, where what gives people subjective happiness may differ from what we believe or assume – not to make people do the things we want, and target things we don’t like.  This involves using mechanisms that allow people to reveal preferences (markets for example), and avoid bans and direct regulation as a last resort.

Matt Nolan

Justifying macroprudential policy

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Here is a good post on VoxEU, that aim to give a strong conceptual framework for justifying macroprudential policies:

The purpose of macroprudential policy is to reduce ‘systemic risk’ …

It is common to distinguish two key aspects of systemic risk. One is the “time-series dimension”: the procyclicality of the financial system, that manifests in excess risk-taking in booms and excess deleveraging in busts. Another is the ‘cross-sectional dimension’: the risk of contagion due to simultaneous weakness or failure of financial institutions. Accordingly, macroprudential policy it thought of as a set of tools that help reduce these two forms of risk (Borio 2009; Bank of England 2011).

Yet thinking about macroprudential policy by looking solely at these two dimensions of risk is unsatisfactory. First, this view, per se, does not provide a justification for regulatory intervention. For example, is it really desirable to avoid any form of cyclicality and have a zero risk of contagion in the financial system? Second, it is not a priori clear what can macroprudential policy achieve that traditional micro-prudential regulation cannot.

In a recent IMF study (DeNicolò et al. 2012), we aim to tackle these questions. We start by articulating that, as for any form of regulatory intervention, the objective of macroprudential regulation must be to address market failures.

Following the crisis we have heard many commentators demand something should be done.  Those with more of an economics bent could see the value of macroprudential policies, however regulation shouldn’t be based solely on the intuitive feel of economists and analysts – instead we should use the descriptive economic framework to help us understand what issues may exist in the financial industry, and then ask whether policy can help to improve outcomes.

Whether the externalities they have identified are fair is another question, one day I will read the paper and have a think – although I probably won’t post on this.  However, actually looking at regulation through a regulatory framework instead of screaming about large movements in arbitrary aggregates is the appropriate way to think about direct regulation in the financial industry (along with a recognition that we provide these firms implicit insurance) – a point of view that has been missing from some writing about the introduction of any such measures.