Hayek vs. Keynes: The Sequel

A brief biography of Keynes

Saltwater light vs. saltwater heavy vs. freshwater heavy

Greg Mankiw steps us through:

WEDNESDAY, JANUARY 14, 2009

Fama on Fiscal Stimulus

Eugene Fama is a stimulus skeptic.

In fact, he is even more skeptical than I am. I am willing to concede that many Keynesian effects work in the short run, although I prefer monetary policy to fiscal policy and, within fiscal policy, I prefer the use of tax instruments to government spending as a tool for short-run demand management. By contrast, I read Fama's article as a largely wholesale endorsement of the classical model with complete crowding out.

Update: Brad DeLong takes me to task for not taking Fama to task:

No, Greg. It's not an endorsement of any model. It's just a mistake. Fama mistakes the NIPA savings-investment accounting identity for a behavioral relationship that constrains the behavior of investment: when the government deficit goes up, Fama says, private investment must go down by the same amount.

When the government deficit goes up, private savings could go up by more--and private investment could increase. Private savings could go up by less--and private investment would fall by less than the rise in the government deficit. Private savings could remain unchanged. Or private savings could fall. Determining which of these is most likely to happen would require a model of the economy of some sort--and Fama does not have one: all he has is an accounting identity that he does not understand.

Saltwater vs. Freshwater

Casey Mulligan and Robert Reich go at it.

Down is up and so forth

Why does the IMF claim that contractionary fiscal policy is expansionary? Just a little evidence? Ah ... and how is the data constructed?

The Economist helpfully provides a guide for travellers to this very real universe of "important people."

Does fiscal austerity boost short-term growth? A new IMF paper thinks not

Sep 30th 2010

MOST people, among them the tens of thousands of workers who rallied in Brussels on September 29th, believe that fiscal austerity leads to a shrinking economy, at least in the short run. Jean-Claude Trichet, president of the European Central Bank, disagrees. In June he said that “the idea that austerity measures could trigger stagnation is incorrect.” Arguing that a credible fiscal-consolidation plan would restore confidence, he said: “I firmly believe that in the current circumstances, confidence-inspiring policies will foster and not hamper economic recovery.”

With rich-world budget deficits averaging about 9% of GDP in 2009—up from only 1% in 2007—and their average public-debt-to-GDP ratio expected to hit 100% by the end of this year, austerity is a bullet that few rich countries will be able to dodge. But is it right to claim, as Mr Trichet and other devotees of “expansionary fiscal consolidations” do, that belt-tightening can actually aid growth in the short term? The intellectual backing for these claims comes from a study by two Harvard economists, Alberto Alesina and Silvia Ardagna, which studied past fiscal adjustments in rich countries*. They found that, more often than not, fiscal adjustments that relied on spending cuts boosted growth, even in the very short run. But a new study by economists at the IMF reckons that the Harvard study was seriously flawed**. ...

Incentives at work

Tales of shipping prisoners and buying flats.

 

Fiscal stimulus and GDP as it plays out: simple Keynesian prediction from 2009.

From Deutsche Bank, courtesy Menzie Chinn.

Kenynesian orthodoxy at work

It's not a surprise things are looking dicey right now. See http://krugman.blogs.nytimes.com/2009/12/27/stimulus-timing/ .

Tea Party History

With April 15th marking tax day and the Tea Party movement becoming more vociferous--but not necessarily more coherent--now might be a good time to discuss the historical and economic aspects of the Tea Act of 1773, which engendered the Boston Tea Party. Not only do modern-day Tea Partiers have their economics wrong, they have their history wrong, as well.

Great Britain imposed the Townshend duties in 1767 to recover some of their expenditures from the Seven Years War. These duties (or taxes) were levied on many goods imported by the colonies--glass, paper, paint pigments, and tea. These external duties (or tariffs), save for the one on tea, were all repealed by 1771.

Then in 1773, British Parliament passed the Tea Act. This was not, contrary to popular belief, an additional tax on imported tea. Rather it was a modification of the Navigation Acts--the laws that governed trade relations between England, the American colonies, and other relevant trading partners. The Navigation Acts stipulated that any product heading to the colonies, including tea, had to first pass through English ports, where it would be subject to an English tax. The Tea Act of 1773, however, allowed the English East India Company to directly export Indian tea to the colonies without having to be routed (and thus taxed) through British ports.

This act also had the effect of eliminating a lot of colonial middlemen--merchants and wholesalers, primarily--who profited greatly from the tea trade. Needless to say, the Tea Act reduced the incomes these individuals received. This, combined with the elimination of the tax levied on goods that passed through British ports, reduced the price of imported tea for the colonists. Since most colonists did not drink tea, this act had little economic effect on the average colonist. However, colonial merchants saw their economic position being undercut by British merchants who could now export tea to the colonies duty free thanks to the Tea Act. The Tea Act eliminated the need for colonial middlemen and reduced the price of tea by reducing tariffs.

Colonial merchants responded to what they rightly perceived as a threat to their main income source--managing the importing and exporting of goods--by organizing the Boston Tea Party. The party itself was small; only 30-40 merchants partook. It was short, as well; it only lasted three hours. Over $1 million (in 2008 dollars) of tea was dumped into Boston Harbor. British Parliament responded by further tightening its grip on colonial commerce by imposing the Intolerable Acts in 1774. (These acts were largely political in nature and had little to do with economics, hence the name.)

In summary, the Tea Act of 1773 eliminated taxes on imported tea. And the Boston Tea Party itself was led by wealthy, urban colonial merchants who saw their wealth destroyed due to the elimination if the tea tariff. In other words, modern-day Tea Partiers name their movement after a revolt led by wealthy urbanites (not "real" Americans) in response to a tax reduction. Just like their economics, Tea Partiers have their history wrong, as well.

Markets at work

Gotta love the work that "This American Life" is doing on the financial crisis:





Bet Against the American Dream from Alexander Hotz on Vimeo.

And for more on how this might work, from Ezra Klein's interpretation of a new paper called "Financial Innovation and Financial Fragility" (pdf), Nicola Gennaioli, Andrei Shleifer, and Robert Vishny:

... the game runs like this: Investors want to make more money with less risk. Someone invents a financial product that appears to make investors more money with less risk -- in this case, subprime securities. Demand for this new product explodes. But few understand this new product, and even the people who do understand the new product don't know how it performs under stress (it's a new product, after all). At the beginning, this actually helps the product: because its risks aren't known, they're ignored, and so it looks like a better deal than it is and sells more of itself than it should.

Then something bad happens. The new product shows its flaws. And precisely because no one really understands it, the market cracks. Investors all run away at once, as they don't really have the tools to assess the situation. Where lack of knowledge about the product originally drove demand, now it accelerates flight.

Deficit Hysteria

Deficit hysteria is sweeping the nation--and confusing the nation. Wall Street Journal writer Gerald Shieb went as far as to call it a "national-security threat." Reports like this on the size and content of the U.S. budget deficit in 2011 tend to exacerbate this hysteria without providing any historical or comparative framework. The three graphs below attempt to place the projected $1.4 trillion deficit for 2011 in the appropriate context. Figure 1 shows the U.S. budget deficit as a share of GDP going back to 1923. It becomes clear, especially relative to WWII, that the size of the budget deficit, although large, is not abnormally large. While it is the largest peacetime deficit, this can be entirely explained by the fact that the U.S. is experiencing the longest and most severe contraction short of the Great Depression. Figure 1. Budget Deficit as a Percentage of GDP (nominal), 1923-2009 Many Republicans and Blue Dog Democrats accuse the Obama administration of lacking fiscal restraint. This criticism is misguided, as is shown in Figure 2. Almost half of the projected deficit in 2011 is a lingering result of the unfunded initiatives of George W. Bush--the 2001 and 2003 tax cuts, the wars in Iraq and Afghanistan, and Medicare Part D. The second largest source of the deficit is the result of declining tax revenue directly attributable to the current recession. The next largest contributor to the budget shortfall is the 2009 ARRA, or the stimulus bill. The final contribution comes from the bailouts of Fannie Mae and Freddie Mac, in addition to the TARP. In other words, aside from Bush's unfunded programs and the recession, there is little cause for alarm in the 2011 budget projections. Figure 2. Contributions to the 2011 Budget Deficit (nominal) Finally, when compared to the seven largest economies in the OECD, the U.S. budget deficit is in line with the other major nations experiencing the pains of a long and deep recession. This is shown in Figure 3. Figure 3. OECD Nations' Projected Budget Deficits as a Percentage of GDP (nominal), 2010-2011 When placed in a proper historical, political, and international context, the current size of the U.S. budget is not cause for hysteria. However, the long-term budget picture is indeed grim, but this is mainly due to rising health care costs. That is, the best deficit reduction plan is not the spending freeze or a balanced budget amendment, but rather serious health care and health insurance reform.

Specialization on the Freedom Rides

The new film "The Freedom Rides" documents the historic bus trips which helped spur desegregation. To get a sense of the whole effort, watch the clip or read the transcript.



To focus on the economic idea of specialization, its consequences, and its value, go to 36:20 in the clip.

New economic stimulus idea??

Via the Environmental Economics blog

Officials on the Town of Boone’s Greenway, Parks, and Gardens Committee will discuss the possibility of prohibiting bicycles and joggers on portions of the Greenway Trail at their regular meeting Tuesday evening. Officials with the Town of Boone’s Public Works’ Office said this topic would be open for public comment.

via www.goblueridge.net

Maybe those bicyclists and joggers would help the local economy if they got into their cars and drove to BK or the health club instead.

Hayek and Keynes do the rap

Check it out

Emmanuel Saez on income distribution

Congrats to Emmanuel Saez earning the 2009 John Bates Clark Medal.

One of his key contributions is showing us what is happening at the (upper) tail of the income distribution.

Joe Biden, Live from NY (SNL style)

Debt details. In pictures

From the CRS report, The Federal Government Debt: Its Size and Economic Significance, 2007.

See p. 5 for composition and debt holders.
See p. 7 for interest payments vs. economic growth.

Job Openings and Unemployment

Job Openings and Unemployment

By Aaron Pacitti

10 November, 2009

The October employment situation showed an increase in the unemployment rate from 9.8% to 10.2%. Similar, but more dramatic, was the rise in the labor underutilization rate—what the BLS calls U-6, which includes unemployed workers, marginally attached workers, discouraged workers, and involuntary part-time employment. This measure rose from 17.0% to 17.5%. U-6 is the broadest and most comprehensive measure of labor market slack.

Today, the BLS released its Job Openings and Labor Turnover Survey for September 2009. The data, presented in Figure 1, show an increase of 104,000 job openings from August to September.

The above picture suggests that the decrease in job openings may be leveling off, though nowhere near the level needed to provide a sustainable and substantial labor market recovery. For example, there are 6.8 unemployed worker for every job opening. Additionally, there are 12.2 underemployed workers (taken from the measure of U-6) for every job opening. These trends are shown in Figure 2.

Each of these measures shows a slight decrease and a potential leveling off in the number of unemployed and underemployed workers per job opening. While this is a welcome development, one must be cautious for two reasons. First, to the extent that the economy is recovering from the Great Recession, this recovery is and will continue to be fragile. There are ample signs that we could be in for a double-dip recession, or a W-shaped growth path. For example, the commercial real estate bubble is beginning to show signs of popping and the residential real estate bubble has been artificially inflated by the home-buyers tax credit. Continued weakness on both consumers’ and firms’ balance sheets suggest that recovery will be far from robust. Indeed, personal bankruptcies rose 28% since October 2008 and banks continue to tighten lending standards. Secondly, such intense completion for jobs will almost certainly keep wages depressed for the foreseeable future. This, too, will depress consumption levels and cause the recovery to be more fragile than it otherwise would be.

Taken as a whole, the uptick in job openings and the decline in the number of unemployed and underemployed workers per job opening should not be taken as a sign of labor market recovery. While these trends could portend a modest rebound in the labor market, aggregate economic conditions are working against a sustained labor market recovery.

Job Losses from Defense Spending

As usual, Dean Baker puts ridiculous arguments in the proper context.

The Job Loss from Reducing Greenhouse Gas Emissions and the Job Loss from Defense Spending

from Real-World Economics Review Blog by deanbaker1

There is a major national ad campaign, funded by the oil industry and other usual suspects, to convince the public that measures to reduce greenhouse gas emissions (GHG) and slow global warming will result in massive job loss. This ad campaign warns of slower growth and the loss of hundreds of thousands of jobs, possibly even millions of jobs, if some variation of the current proposals being debated by Congress get passed into law.

Interest rates from the bottom of the trough

The Times story on the Fed's latest perspective:

Fed Sees No Need to Raise Interest Rates Soon
By EDMUND L. ANDREWS

WASHINGTON — The Federal Reserve signaled on Wednesday it was not close to raising interest rates, saying that the economy remained weak even though the recession appeared to be over.

The central bank said it would keep its benchmark interest rate at virtually zero, and it made no change to its longstanding mantra that economic conditions were likely to warrant “exceptionally low” rates for “an extended period.”

Must be a deep hole. More and a pic from the SF Fed via Economist's View.