by John Q on July 24, 2004
Over at Marginal Revolution, Alex Tabarrok recently presented a graph showing a positive correlation between UN measures of gender development and the Fraser Institute’s Economic Freedom Index. Of course, Alex presented the usual caveats about causation and correlation, but he concluded “at a minimum the graph indicates that capitalism and gender development are compatible contrary to many radicals”
This prompted me to check out how the Economic Freedom index was calculated. The relevant data is all in a spreadsheet, and shows that the index is computed from about 20 components, all rated as scores out of 10, the first of which is general government consumption spending as a percentage of total consumption. Since the Fraser Institute assumes that government consumption is bad for economic freedom, the score out of 10 is negatively correlated with the raw data.
Looking back at Alex’s post, I thought it likely that high levels of government expenditure would be positively rather than negatively correlated with gender development, which raised the obvious question of the correlation between government consumption expenditure and economic freedom (as defined by the Fraser Institute index). Computing correlations, I found that, although it enters the index negatively, government consumption expenditure has a strong positive correlation (0.42) with economic freedom as estimated by the Fraser Institute. Conversely, the GCE component of the index is negatively correlated (0.43) with the index as a whole. By contrast, items like the absence of labour market controls were weakly correlated with the aggregate index.
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by Henry Farrell on July 23, 2004
Experimental psychologists are fond of pointing to examples of economic irrationality in every day life – for example, people respond in very different ways if an article is priced at $9.99 and if it’s priced at $10. Through detailed examination of my own and my wife’s behaviour, I think I’ve identified another such example – the “Netflix fallacy.” “Netflix”:http://www.netflix.com/, for those of you who aren’t familiar with it, is a subscription service where you pay a set amount each month to rent movies. You can have three DVDs out at any one time – when you are finished with one, you send it back, and receive a new DVD from your list of picks by return post. In theory, it’s an ideal way to make sure that you have the movies you want, when you want, and an excellent deal if you rent more than 3-4 DVDs a month.
In practice, it’s different – at least in my experience. Movies that we’ve rented sometimes sit there for two or three months before we watch them, or eventually, reluctantly, decide to send them back without seeing them. To my shame, this happens most often with the interesting, difficult films with sub-titles. I suspect that this is because we’re accustomed to thinking of DVDs as “stocks rather than flows”:http://hadm.sph.sc.edu/Courses/Econ/Classes/Stocksandflows/Stocksandflows.html. Because we have physical possession of the DVD, we’re disinclined to give it back until we’ve actually watched it. Of course, this means that we face substantial costs – we may very easily end up paying more money to rent the damn movie than we would have to pay to buy it and keep it forever. Meanwhile, Netflix is laughing all the way to the bank. It’s much smarter to think of the rental service as a flow – you’re likely to be happier if you keep the movies coming along in a steady stream, even if you don’t watch them (the latter may be useful information about your actual preferences, as opposed to the preferences that you would like to have). I suspect that virtually any reasonable decision rule along the lines of ‘send the movie back if you haven’t watched it within two weeks’ is likely to produce better results than our current policy of watching the movies whenever we get around to it. Or, more typically, don’t get around to it.
by John Q on July 23, 2004
Reading the discussion of earlier posts about the efficient markets hypothesis, it seems that the significance of the issue is still under-appreciated. In this post, Daniel pointed out the importance of EMH as a source of pressure on less-developed countries to liberalise capital flows, which contributed to a series of crises from the mid-1990s onwards, with huge human costs. This is also an issue for developed countries, as I’ll observe, though the consequences are nowhere near as severe. The discussion also raised the California energy farce, which, as I’ll argue is also largely attributable to excessive faith in EMH. Finally, and coming a bit closer to the stock market, I’ll look at the equity premium puzzle and its implications for the mixed economy.
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by Daniel on July 22, 2004
This is more of a footnote to John’s post on the subject than a substantive contribution, but it struck me that, despite John having made the point otherwise, the debate in comments (here and on Asymmetrical Information still seemed to be based on a few commonly held fallacies about the efficient markets theory;
- that it is basically a neutral, academic theory with few implications for the real world
- that it is basically all about the stock market (to be honest, most of the discussion revolved around the US stock market)
- and that, to quote James Surowiecki, “whether or not markets are perfectly efficient, they’re better than any other capital allocation method that you can think of.
None of these are true.
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by John Q on July 19, 2004
There’s a cottage industry within economics involving the production of historical arguments giving rational[1] explanations of seemingly irrational historical episodes, of which the most famous is probably the Dutch tulip boom/mania. This Slate article refers to the most recent example, a complex argument regarding changes in contract rules which seems plausible, but directly contradicts other explanations I’ve seen.
Once opened, questions like this are rarely closed. Still, articles of this kind seem a lot less interesting in 2004 than they did in, say, 1994. In 1994, the efficient markets hypothesis (the belief that asset markets invariably produce the best possible estimate of asset value based on all available information) was an open question, and the standard account of the Dutch tulip mania was evidence against it. In 2004, the falsity of the efficient markets hypothesis is clear to anyone open to being convinced by empirical evidence.
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by John Q on July 14, 2004
Tyler Cowen[1] lists a number of economic propositions which he formerly believed, but has abandoned in the light of contrary evidence. Most of these propositions were elements of the economic orthodoxy of the 1980s and 1990s, variously referred to as Thatcherism, neoliberalism, the Washington consensus and, in Australia, economic rationalism. They include the efficacy of monetary targeting, the beneficence of free capital movements and the desirability of rapid privatisation in transition economies.
Following in the same spirit, I thought I’d list a couple of propositions on which I’ve changed my mind in the face of empirical evidence. These are elements of the Keynesian orthodoxy of the 1950s and 1960s, on which I was trained. Following Cowen, I’ll list them as false claims I used to believe
* There is a long-run trade-off between unemployment and inflation
* Keynesian fiscal policy is a powerful and reliable instrument for stabilising aggregate demand
On both these issues, I’ve come to accept that Milton Friedman was largely right, and his Keynesian opponents largely wrong.
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by John Q on July 12, 2004
Coming in a bit late, I have the opportunity to survey a range of blogospheric discussion of the topic of minimum wages, which largely supports the view (not surprising to anyone but an economist) that minimum wages are good for low-income workers. The traditional view among economists was that minimum wages reduced employment and thereby harmed workers, but this view has been overturned, or heavily qualified, by empirical evidence, beginning with the work of Card and Krueger.
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by Daniel on July 7, 2004
I haven’t seen that Michael Moore film yet; there were special previews in London on Sunday, but you couldn’t get a ticket for love nor money[1]. It strikes me, however, that those critics of the film who are currently doing such a sterling job (by using words like “deceits”, “cunningness”[2] and “misleading”) in convincing me that there are no actual factual errors in it, are failing to look at the big picture.
The big advantage of the “he’s implying this without saying it” critique, and the main reason I use I myself so often, is that since he isn’t saying it, you can chosse for yourself what you want to claim he’s implying. For example Jane Galt is cutting up rough about the timing of various Carlyle Group investments, compared with the timing of George Bush Senior joining the board. And indeed, Moore’s film would be deserving of censure if he had been attempting to make the claim that there were specific quids pro quo on those specific deals. But he doesn’t actually make that claim, as far as I can see. Now he might have been attempting to imply that claim without making it, which would be bad. But he might just have been using the revolving door between defence contractors, large investors and the highest echelons of government, to support the following assertion:
Wealthy individuals and capital have far too much influence in American politics, and members of the Bush family have provided numerous examples of this proposition.
Which would not be bad. Pace my esteemed colleague Mr. Bertram, the reason why Bush’s misleading implications are not on the same footing as Moore’s tendentious use of the facts, is that Bush was attempting to establish a specfic false claim (that Saddam Hussein was a threat to the USA) while Moore is attempting to support a general claim of opinion (that Bush as President has been bad for the USA and Americans should vote for someone else).
Footnote:
[1]Although actually, I can’t be sure of this since I only really offered money.
[2]The word is “cunning”, btw.
by Daniel on July 1, 2004
If you have a coffee break today, why not spend it reading this wonderful piece. RA Radford was an economics don who ended up in a POW camp toward the back end of the second world war, and wrote this article in Economica describing the experience from the economic point of view. If you’ve already read it then congratulations; you clearly went to the right kind of university. Otherwise, it’s a treat.
While chasing up the Radford reference, I happened across this blog btw. I happen to know a couple of things about Chavez-era Venezuela, and this news source, pretty uniquely, checks out as honest on all the areas where I was able to check. The author is a bit less charitable toward Chavez than I am inclined to be (so hate me, I’m inclined to cut totalitarian socialist regimes a bit more slack when they’re faced with massive externally-funded subversion), but he gets the big picture right; Chavez, like modern Castro, is a narcissist and a very poor poster-child for Socialism indeed, but his opposition is woefully lacking in any positive policy prescriptions other than handing everything over to foreign vested interests. Rather a long coffee break if you decide to read both of these, I admit.
by Daniel on June 30, 2004
This question comes via Rob Schaap and a letter to the Guardian, but it’s an issue on which I have a sorta-kinda claim to first publication.
The issue is this; does the current “sovereign” Iraqi government have sufficient sovereignty to enter into financial contracts which would be considered binding on future Iraqi governments? In particular, does it have the power to sell state assets, to allocate telecommunications licenses and to incur debts? And if it does, then given that it is not a democratically elected government, but one appointed by two countries (the US and the UK) with substantial economic interests in Iraq, is this not something of a scandal? I’d be very grateful if any readers who know more about Iraq than me could shed some light on this one.
by Kieran Healy on June 3, 2004
Favorite moment from the “Enron Energy Traders gloatfest”:http://www.cbsnews.com/stories/2004/06/02/eveningnews/main620795.shtml:
bq. *Employee 1*: He just f—-s California. He steals money from California to the tune of about a million.
*Employee 2*: Will you rephrase that?
*Employee 1*: OK, he, um, he arbitrages the California market to the tune of a million bucks or two a day.
Always nice to see those technical financial terms (“f—-k”) explained in terms the layman can understand (“arbitrage”). I’m sure the whole thing was the fault of a few bad apples.
by Daniel on May 26, 2004
John Kay has a pretty decent column in the FT today. The actual message will eb pretty familiar to anyone who’s been folowing the Cassandra-like wailings of people like Wynne Godley and (on some occasions) me about the unusustainability of the US current account deficit, but he has some quality jokes in it. In particular, he recruits JK Galbraith’s concept of “the bezzle” to illustrate his thesis about overconsumption and asset price inflation:
John Kenneth Galbraith’s greatest contribution to economics is the concept of the bezzle – the increment to wealth that occurs during the magic interval when a confidence trickster knows he has the money he has appropriated but the victim does not understand that he has lost it. The gross national bezzle has never been larger than in the past decade.
by Daniel on May 24, 2004
We’ve had more than a few things to say about the Iowa Electronic Markets over the life of Crooked Timber. In particular, John and myself have defended the view that these markets do not appear to offer marginal information above and beyond published opinion polls.
Some would say that this is fighting talk, and that if we really thought this, we ought to be trying to make some money out of it. So here goes …
Big thanks to Nasi Lemak for sharing a dataset of historical poll data with me. I have used that data to construct and backtest a trading system for the IEM Kerry vote-share contract (KERR) which uses only published poll data and generates favourable backtesting over the last four months. The equity curve for this system so far is below the fold; I plan to use it to trade the IEM vote-share market over the rest of the campaign.
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by John Q on May 16, 2004
When I first studied economics ( a long, long time ago) the textbook explanation of why income differed between countries was based on capital. In the simplest version for example, that of Harrod and Domar), rich countries had a bigger stock of capital than poor countries, and the problem was one of accumulating sufficient capital to catch up. In more sophisticated versions, rich countries had more modern capital stocks, and therefore benefited from embodied technological progress.
Even when I was a student, this kind of thinking was already being superseded by notions such as human capital theory[1]. Still, I’ve never seen a really convincing refutation. It strikes me that computers and the Internet provide one, at least as far as differences among developed countries are concerned.
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by John Q on May 11, 2004
I’ve been meaning for a long time to collect my thoughts about US interest rates, and where they are and should be going. As is often the case, I’m largely in agreement with Paul Krugman, at least as far as long-term rates are concerned. On the other hand, I’m a bit more hawkish in relation to short-term rates than Brad DeLong, with whom I agree on a lot of things.
I’m planning on reworking this piece as I have new thoughts, and in response to comments. so please treat it as a work in progress.
Warning: long and boring (but maybe scary) post over the fold.
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