Economics/Finance

Much recent discussion of the future of the euro, most notably that of Paul Krugman, has started from the idea that Europe is not an optimal currency area, and that a ‘one-size fits all’ monetary policy is therefore bound to lead to the kinds of problems we are now observing. At any given time, some countries would benefit from a more expansionary policy and others from a more contractionary policy, so the effect of monetary union is an unsatisfactory splitting of the difference.

Without resolving that issue in general terms, I want to argue that this is not an accurate description of the current state of the eurozone. It’s true that Germany is doing a lot better than the eurozone as a whole, and the peripheral countries a lot worse. So, the optimal policy for Germany alone would be tighter than for the rest of the eurozone. The peripheral countries might benefit from an even more expansionary policy (though that’s not as clear to me as it seems to be to others. A heavily indebted country that undertakes monetary expansion is likely to find it hard to sell bonds denominated in its own currency).

But when you look at the actual policies of the ECB, including Trichet’s recent threat to raise interest rates, it’s hard to see that this policy is optimal for any EU country, even Germany.
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Kevin O’Rourke, quoted “in extenso”:http://www.irisheconomy.ie/index.php/2011/01/13/divide-and-conquer/

A friend of mine has just sent me this “link”:http://www.reuters.com/article/idUSPISDCE7QE20110113, in which Sarkozy is saying that it is unreasonable for us to maintain our low corporate tax rates while seeking financial aid from Europe:

bq. “I deeply respect the independence of our Irish friends and we have done everything to help them. But they cannot continue to ask us to come and help them while keeping a tax on company profits that is half (what other countries have),” he said.

For a more inflammatory version of the same argument, by an influential French economist, click “here”:http://www.liberation.fr/economie/01012306493-le-scandale-du-sauvetage-des-banques-irlandaises. And I was struck on my last trip to France by how ordinary people there are making the link between the Irish bailout and our ‘dumping fiscal’.

There are lots of obvious counters to all this, but I think the more important point is that such responses are inevitable, given the European response to the crisis to date. As two recent articles point out (“here”:http://www.eurointelligence.com/index.php?id=581&tx_ttnews[tt_news]=3002&tx_ttnews[backPid]=901&cHash=c374cd2038 and “here”:http://www.independent.ie/opinion/columnists/david-mcwilliams/david-mcwilliams-citizens-must-fight-rise-of-european-bankocracy-2492637.html), the real cleavage in Europe is between European taxpayers and bank creditors (with the ECB being a third interested party, as another body which could help to fill the holes which have emerged in the European banking system). But since the powers that be are ruling out bondholder haircuts and quantitative easing, the only cleavage we are left with in practice is the one between core and periphery taxpayers.

Of course ordinary French and German taxpayers are going to be angry at lending their money to an insolvent state with lower tax rates than their own. Why wouldn’t they be? Of course ordinary Irish taxpayers are going to be angry at having to pay for high interest loans designed to bail out foreign banks. Why wouldn’t they be?

And while ordinary Europeans get angry with each other, with unpredictable political consequences, capital walks away scot free.

It’s worth expanding the argument that I suspect Kevin is hinting at with his mention of ‘unpredictable political consequences.’ We have seen a lot of analysis from economists which points (correctly) to the inherent contradictions of the Eurozone’s shambolic crisis management strategy. Much less attention has been paid to the _political fallout_ which is considerable. The bailout strategies seem almost purpose-designed to corrode popular legitimacy both in the states giving and receiving funds. If the prospect of a politically viable European Union isn’t quite dead yet, it’s haemorrhaging on the operating table, and the surgeon clearly has no clue what to do. We will be running a seminar on Germany and the EU next week – I have a short piece in it which talks to this at greater length.

In Spring a young man’s fancy turns to love. Rapidly aging academics such as myself, however, have to decide which readings to assign. This semester I’m teaching Organizations and Management to students in Duke’s MMS certificate program and Markets and Moral Order to a small group of seniors at the Kenan Institute for Ethics. Both classes were a lot of fun last year (perhaps not for the students). I’ve rearranged the running order in the Orgs course a bit, as the flow was wrong last time.

If you think there’s something that absolutely has to be included in either course, I’m open to suggestions. But you’re not allowed to suggest something without also saying what I should drop in order to include it. Unlike the economy, a syllabus is not the sort of thing that you want to grow aggressively in order that everyone gets more and bigger slices of the whole.

Over at his “other blog-digs”:http://orgtheory.wordpress.com/2011/01/11/two-syllabuses/, Kieran is looking for suggestions for a course syllabus on Markets and Moral Order. By sheer coincidence, when browsing Daron Acemoglu’s “web page”:http://econ-www.mit.edu/faculty/acemoglu/paper today, out of curiosity to see how many new papers he had written this month, I noticed that Acemoglu, Johnson and Robinson apparently had a piece that was directly on topic. It’s entitled a ‘Reply to the Revised (May 2006) version of David Albouy’s “The Colonial Origins of Comparitive Development: An Investigation of the Settler Morality Data.’ Sadly, the link seems to lead to a quite different (and rather duller) piece about death rates. Nor, despite some efforts, have I been able to establish precisely which instrumental variable Acemoglu, Johnson and Robinson are using as a proxy for the morality of European settlers in Africa during the colonial period – presumably, this time it isn’t “mosquitoes”:https://crookedtimber.org/2007/11/13/one-economics/, despite the tempting analogies. Suggestions for possible such variables gratefully received in comments.

I’m at the American Economic Association meeting in Denver, and just attended a panel of the great and serious discussing the US budget deficit. The numbers are pretty impressive – on current projections, US government expenditure (properly measured) is likely to be around 25 per cent of national income (around 3 trillion/year) and the default budget deficit is around 10 per cent of national income. While current and former CBO directors went over the usual options, it struck me that I had seen those numbers before.

Roughly speaking, the share of US national income going to the top 1 per cent of the income distribution has risen from 15 to 25 per cent over the past decade, mostly because of the growth in size and profitability of the financial sector. As I’ve argued before, this payment to the top percentile can be seen as a kind of tax paid by the population as a whole for the benefits of living in the kind of economy that has developed over the past few decades of financialisation. (Please check irony alerts before responding!)

Clearly, any attempt to claw back some of this money to fill the budget hole would have what economists call “incentive effects”. More precisely, it would necessitate a big contraction of the financial sector. Judging by the reaction of the assembled experts when I raised this point (all declined to respond), this is literally unthinkable.

* I’m alluding to Richard Feynmann’s joke that, in view of the size of budgets, we should talk about “economical” rather than “astronomical” numbers.

Brad DeLong has just posted “a couple of links”:http://delong.typepad.com/sdj/2010/12/rebound-redux-have-we-moved-past-jevons-on-efficiency-the-great-energy-challenge.html to articles that attack “an article by David Owen in the New Yorker [subscription required]”:http://www.newyorker.com/reporting/2010/12/20/101220fa_fact_owen. Owen’s article relied heavily on the claim that increased energy efficiency doesn’t really deliver the hoped-for environmental benefits, because of something called the “rebound effect”. Here’s an explanation of that effect “by James Barrett”:http://www.greatenergychallengeblog.com/2010/12/rebounds-gone-wild/ in one of the linked pieces:

bq. In essence the rebound effect is the fact that as energy efficiency goes up, using energy consuming products becomes less expensive, which in turn leads us to consume more energy. Jevons’ claim was that this rebound effect would be so large that increasing energy efficiency would not decrease energy use….

Owen’s critics say that although the rebound effect is real, whether it is large enough to have the effects Owen claims is an empirical matter, and they are sceptical. Basically, they argue that the increase in energy consumption is not just down to lower prices but also to greater wealth, house size, etc. and so without greater efficiency, we might be consuming a whole lot more energy than we actually are. Basically: it all depends on the facts, and the jury’s out.

Ok, so now let’s do a little substitution in that sentence quoted earlier.
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I’ve been reading Doug Saunders’s excellent _Arrival City_ this week. Full of interesting and enlightening facts about migration, about how cities work, about international development. One page, however, brought me up short, so this is a bleg aimed at economists and especially at labour-market economists. Saunders argues (pp.88-9 for those who have a copy) that increased migration of unskilled labour will be a persistent feature in Western economies “during this decade and throughout the century” because of the demographic pressures in those ageing societies. With reproduction rates falling below 2.1 and the proportion of elderly people in the population rising, immigrants can compensate for labour shortages. “… while immigration is not a mandatory solution to labour shortages, the combination of cash-starved governments and higher demographic costs will make it the least painful and most voter-friendly solution.” He then reels off a series of labour-shortage estimates (US to require 35 million extra workers by 2030, Japan 17 million by 2050, the EU 80 million be 2050, Canada 1 million short “by the end of this decade.”)
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Back in 2009, I made a bet with Bryan Caplan, with the winning condition for Caplan being that “the average Eurostat harmonised unemployment rate for the EU-15 over the period 2009-18 inclusive should exceed that for the US by at least 1.5 percentage points”, my interpretation being that the difference offsets the effects of the high US rate of incarceration. The EU-15 average rate was slightly below the US rate for 2009, and slightly above the US in 2010, so, for the first two years, the difference averages out to near zero.

If I were looking only at labor markets, I’d be grimly confident at this point. Although the eurozone encompasses some very different economies, overall, eurozone labor markets dealt with the immediate consequences of the global financial crisis relatively well. Meanwhile, the performance of the US labor market has been disastrous. The employment-population ratio has plummeted, back to the levels of 1970 before the large-scale entry of women into the labor market, while long-term unemployment is far above any previous level. Unsurprisingly, this is the time the Republicans have chosen to throw the long-term unemployed off benefits[1]. Meanwhile, the collapse of the housing market has greatly reduced labor mobility. The adverse effects of these developments are likely to persist for years, and the 2010 election outcome forecloses any hope of active policy response.
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I get nostalgic for old Rankin/Bass stop-motion holiday specials. I just watched Jack Frost with the kids. Somehow I never noticed this as a kid myself, but there is some interesting monetary policy involved. The evil Kublai Kraus has taxed away all the ‘real money’ – down to the last kaputnik – from the inhabitants of January Junction. But every winter Jack Frost is responsible for a massive helicopter drop of cash, in effect, in the form of icicles, which the townfolk saw into slices and use as ‘ice coins’. The economy then does ok until spring – not great, mind you. They aren’t rich. But there is a lot more buying and selling in the market. So the town loves Jack. He’s sort of a genius loci, not of a place, but of a part of the calendar: the holiday shopping season. (The story isn’t actually about this.)

Zombie economics is all well and good. But maybe we need a volume on the Economics of Elfland. ‘The Magic of Money’ is a standard theme. It’s mysterious stuff, how it grows and breeds and exerts strange power over the mind, charming whole populations. All gold, in an economic sense, is fairy gold. It lasts as long as the spell it casts lasts. So how has the general subject of economics – not just money and gold – been treated in fairy tales? There’s Midas, of course. Bit of a cautionary tale, that one. I can’t think of too many examples, but I expect they would tend to be along Jack Frost lines. The magical creation of money is an invitation to satire. Are there fairy tales about elves crashing the economy with fairy gold-induced hyper-inflation? Or saving the economy with a heroic helicopter drop? Stories about elves themselves fleeing Elfland for the human world, with its relatively stable currencies? Hedge fund managers practicing crude ‘hedge magic’, to get rich quick, only to call up dark forces beyond their control or comprehension?

UPDATE: The whole Jack Frost special is on YouTube. (Oddly enough, it’s in the Public Domain, its Wikipedia entry says. Can’t imagine why.) Economically speaking, it’s also nice for the scene in which everyone gives everyone else an empty package, in which they imagine they find the thing they want the most. Sort of a cross between a potlatch ceremony, Plato’s Form of the Good, and Wittgenstein’s beetle in a box.

Yglesias has a post about the rhetoric of The Social Security Trust Fund, in response to a Planet Money podcast on the subject. The puzzle of the podcast is: how can there even be an argument about whether a giant Trust Fund exists or not? Shouldn’t that be sort of obvious? Yglesias is in the ‘it exists’ camp. And I think that’s right.

Here’s the way to think about the Trust Fund, to make it seem it doesn’t exist. The Social Security Trust Fund takes in money that it socks away, for an elderly day, in the form of government bonds. But, since it’s all just the government, that’s your right hand loaning your left hand money. If I am poor, I can’t get rich selling myself a lot of ‘Holbo bonds’. I can’t have my cake and eat it, too, earning money with the left hand, then loaning that money to the right hand, to spend on a piece of cake to be eaten now, while also writing on a piece of paper, ‘the right hand owes the left hand a piece of cake’. That seems like double-counting in the worst way.

Here’s the way to think about it, so it seems like the Trust Fund exists. The parents (government) agree that the child (Social Security) should have an allowance. The child wants to save the money. So the parents keep a running account. Every week, the parents write the child an IOU, which the child dutifully puts in a little box. Over time the box comes to contain a lot of IOU’s from the parents. Meanwhile, the parents are not separately putting funds that would correspond to those IOU’s into yet another box. They are just running the household. But the IOU’s exist, and are backed by the parents. [click to continue…]

Faced with a sharp rise in unemployment since 2008, the Con-Lib government in Britain has diagnosed an epidemic of laziness, and announced measures to push the “work-shy” back into jobs. In particular, they’ve announced that those deemed not to be looking hard enough for work will be forced to undertake unpaid part-time work for community organizations.

Stripped of the punitive rhetoric, this is a cut down job-creation scheme, partly paid for by the unpaid labor of the participants. It’s hard enough to make job creation work well as a counter to unemployment, without adding in this kind of thing.

Australia has been there and done that. Following the discovery in the late 1990s that it played well with focus groups, John Howard (conservative PM) introduced a program explicitly called Work for the Dole and targeted initially at the young unemployed. It was a political success, but didn’t have any evident effects on unemployment. This evaluation of Work for the Dole and other programs suggests that it performed much less well than the explicit job creation and wage subsidy programs it replaced. Strikingly, given that the UK government is supposed to be on an austerity drive, the cost in the late 1990s was $2000-3000 per participant (around 1000 stg), on top of the benefit payment for which they were working.

But at least Howard’s moves came quite a few years into an expansion when it could credibly be claimed that there were jobs available for people willing to look hard enough. For a government that is busy creating unemployment to start attacking the “work-shy” requires a truly impressive level of hypocrisy.

The US Federal Reserve has announced its long-awaited renewal of quantitative easing (cutely labelled QE2). It’s $600 billion of new money to buy US Treasury notes with an average duration of five years, along with recycling of some money from the mortgage bailouts, also into T-note purchases. That sounds like a lot, but the reaction from Brad DeLong (endorsed by Paul Krugman) has been a big yawn. With the five-year bond rate at just over 1 per cent, the amount the private sector would demand to hold these bonds (that is, the annual interest payment) is about $7 billion, which is rounding error in the context of the current crisis.

I had been thinking that the Fed might take the much riskier (and politically trickier) step of buying corporate bonds. That would seem more likely to promote investment, but would obviously involve a good deal of winner-picking, with the associated potential for (real or perceived) corruption.

But what is really needed here is fiscal stimulus focused on job creation, combined with a long-term plan for fiscal consolidation (that is, higher taxes and/or lower expenditure). Instead, what the US appears likely to get is a permanent tax cut for the rich, partly offset by lots of job-destroying nickel-and-dime cuts in current expenditure. Many of these cuts will prove to be counterproductive or unsustainable in the long run.

Windsor and Maidenhead Council (UK) “is planning a reward scheme”:http://www.guardian.co.uk/politics/2010/oct/31/council-plans-big-society-reward (supermarket tokens and the like) for volunteers to help implement David Cameron’s “Big Society”:

bq. it is likely residents would get a loyalty card similar to those available in shops. Points would be added by organisers when cardholders had completed good works such as litter-picking or holding tea parties for isolated pensioners. The council says the idea is based on “nudge theory” – the thought that people don’t automatically do the right thing but will respond if the best option is highlighted. Points would be awarded according to the value given to each activity. Users could then trade in their points for vouchers giving discounts on the internet or high street.

Maybe the Council should have read more widely, since according to another body of literature (Bruno Frey, “Sam Bowles”:http://www.sciencemag.org/cgi/content/abstract/320/5883/1605 ), they risk sending out a signal that only a mug performs good works for no reward. An interesting natural experiment, to be sure, but not one that I’d wish on the residents of Windsor and Maidenhead.

Karl Marx in the Preface to vol. 1 of _Capital_ : “The country that is more developed industrially only shows, to the less developed, the image of its own future. ”

Here’s “part of an interview from IHE”:http://www.insidehighered.com/news/2010/10/20/schrecker with Ellen Schrecker, author of _The Lost Soul of Higher Education: Corporatization, the Assault on Academic Freedom, and the End of the American University_ :

bq. Reduced support from state legislatures and the federal government’s decision to aid higher education through grants and loans to students rather than through the direct funding of individual institutions forced those institutions to look for other sources of income, while seeking to cut costs. In the process, academic administrators adapted themselves to the neoliberal ethos of the time. They reoriented their institutions toward the market at the expense of those elements of their educational missions that served no immediate economic function.

bq. As they came to rely ever more heavily on tuition payments, they diverted resources to whatever would attract and retain students — elaborate recreational facilities, gourmet dining halls, state-of-the-art computer centers, and winning football teams. At the same time, they slashed library budgets, deferred building maintenance, and – most deleteriously – replaced full-time tenure-track faculty members with part-time and temporary instructors who have no academic freedom and may be too stressed out by their inadequate salaries and poor working conditions to provide their students with the education they deserve. Meanwhile, rising tuitions are making a college degree increasingly unaffordable to the millions of potential students who most need that credential to make it into the middle class.

bq. Unfortunately, the competitive atmosphere produced by the academic community’s long-term obsession with status and its more recent devotion to the market makes it hard for its members to collaborate in solving its problems. Institutions compete for tuition-paying undergraduates and celebrity professors who can boost their institutions’ U.S. News & World Report ratings. Faculty members compete for tenure and research grants. And students compete for grades after having competed for admission to the highly ranked schools that will provide them with the credentials for a position within the American elite.