Mediamacro and economic priorities

15 februari, 2015 kl. 17:06 | Publicerat i Economics, Politics & Society | Kommentarer inaktiverade för Mediamacro and economic priorities

corporate_mediaWe have come to a highly paradoxical situation. The position that many policymakers adopted in 2009 – that in a liquidity trap you need fiscal stimulus to help the recovery – seems to have been vindicated. QE hasn’t proved strong or reliable enough to negate the need for fiscal stimulus. In addition, the view, current in 2009, that we should not worry about increasing government debt in the short term, has also proved correct outside the Eurozone. The key point is that deficit reduction should be left until a time when interest rates are high, so that they can be reduced to counteract the negative impact of austerity on demand. When this view was abandoned in favour of austerity, the recovery in the UK and elsewhere was needlessly delayed or restrained. Yet this is not the media’s perception. Mediamacro still sees reducing debt as the number one priority …

It is as if Osborne’s real priority was and still is to cut all forms of government spending, and as if the deficit was, and he hopes will remain, a convenient pretext to achieve that goal. It will be some time before economists settle on a number for the total cost of the austerity mistake, but a conservative estimate would be that, in total, resources worth around 5 per cent of GDP will have been lost for ever by delaying the recovery. That’s about £100 billion, or £1500 for each adult and child in the country.

If any other government department had wasted that amount, there would be a huge outcry from the media. Yet when it comes to macroeconomics, the media seems to play by different rules. It continues to misrepresent economic ideas even though it has access to academic expertise. Why is this? … Part of the explanation, I think, is that we have a particular problem with macroeconomics, which is the influence of economists working in the City. There are some wise and experienced City economists, but there are also many with limited expertise and sometimes fanciful views. Their main job is to keep their firm’s clients happy, and perhaps to help traders improve their predictions of what might happen in the markets in the next few days. Their views tend to reflect the economic arguments of those on the right: regulation is bad, top rates of tax should be low, the state is too large, and budget deficits are a serious and immediate concern …

Of course it is also the case that large sections of the print media have a political agenda. Unfortunately the remaining part, too, often seeks expertise among City economists who have a set of views and interests that do not reflect the profession as a whole. This can lead to a disconnect between macroeconomics as portrayed in the media and the macroeconomics taught in universities. In the case of UK austerity, it has allowed the media to portray the reduction of the government’s budget deficit as the overriding macroeconomic priority, when in reality that policy has done and may continue to do considerable harm.

Simon Wren-Lewis

Taking a tenable position on public debt

15 februari, 2015 kl. 13:34 | Publicerat i Economics, Politics & Society | 4 kommentarer

I thought we all had this debt burden stuff sorted out 30 years ago. Obviously we didn’t …

debtThere are 4 possible positions to take on the debt. One of them doesn’t make sense; the other 3 do. Which of those 3 is right is an empirical question.

Here are the 4 positions. I gave each one a name. I made up the quotes.

1. Abba Lerner.The national debt is not a first-order burden on future generations. We owe it to ourselves. The sum of the IOU’s must equal the sum of the UOMe’s. You can’t make real goods and services travel back in time, out of the mouths of our grandkids and into our mouths. The possible second-order exceptions are: if we owe it to foreigners; the disincentive effects of distortionary future taxes; the lower marginal product of future labour if the future capital stock is smaller.

2. James Buchanan/uneducated person on the street.The national debt is a burden on future generations of taxpayers. Foreigners are basically irrelevant. Any second order effects of distortionary taxes and lower capital stock are over and above that first order effects of the taxes themselves.

3. Robert Barro/Ricardian Equivalence.The national debt is not a burden on future taxpayers (except for the deadweight costs of distortionary taxation) but only because ordinary people take steps to fully offset the burden on future generations by increasing private saving to offset government dissaving and increasing bequests to their heirs to offset the debt burden.

4. Samuelson 1958.If the rate of interest on government bonds is forever less than the growth rate of the economy, the government can run a sustainable Ponzi finance of deficits, where it rolls over the debt plus interest forever and never needs to increase taxes, so there is no burden on future generations.

I personally was taught 1 as an undergraduate. And I believed in 1 until about 1980, when I spent some time reading Buchanan and Barro arguing with each other. And I worked 4 into my own beliefs soon after.

And now, I believe 1 is false. The truth is some sort of mixture of 2,3, and 4. What precise mixture of 2,3,4 is true is an empirical question. My prior is one third-one third-one third.

Until last week, I thought that almost every macroeconomist had now realised that 1 was false. And I wrote a post arguing 1 is false. My post was triggered by Paul Krugman’s recent post, which I interpret as saying that 1 is true. Paul wrote two later posts too, which I interpret as also saying that 1 is true …

And look, just because deficits have costs doesn’t mean we shouldn’t do them. Like a lot of things, deficits have benefits too, and sometimes the benefits are bigger than the costs. But we shouldn’t ignore those costs, just because we think the benefits are bigger than the costs.

And what we need to do more work on is this: we know Samuelson is right, if we know for sure that the interest rate on bonds is less than the growth rate of GDP forever. That is a sufficient condition for Samuelson being right, but I rather doubt it’s a necessary condition. What if the interest rate will probably be less than the growth rate part of the time for arather long time? Could Samuelson still be right, or at least partly right?

Nick Rowe

Woman

14 februari, 2015 kl. 18:11 | Publicerat i Varia | Kommentarer inaktiverade för Woman

 

Neneh Cherry was among the ten artists inducted into the Swedish Hall of Fame earlier this week. Congratulations Neneh!

The non-burden of public debt

14 februari, 2015 kl. 10:38 | Publicerat i Economics | 5 kommentarer

The govt. debt number may not equal the burden number (and in general does not). The size of the current stock of government debt may be much larger than the total amount of the aforementioned screwage. In other words, govt. debt may be $10,000,000,000 today, but the total amount of necessary screwage might be much smaller, or might even be zero. This can happen, for example, if the government spends money on the same people it taxes, or if people leave government bonds to their children in a certain way. So debt is not a book-keeping device that faithfully records the amount of necessary future screwage.

Darling! Let's get deeply into debtNote that this means that government debt’s effect on society is very different from the effect of one household’s debt on that household. If I borrow $10,000 and spend it today, I’m going to need to take a $10,000 hit in the future in order to pay it back. But if the government borrows $10,000 today, it’s quite possible that nobody ever has to take a hit at all.

Noah Smith

Important lesson. Public debt is not equal to a burden on future generations. Positive public debt may well be compatible with there being no burden at all, while having no public debt may indeed be a beast of burden.

Public debt and Keynes’ paradox of thrift

13 februari, 2015 kl. 17:24 | Publicerat i Economics | 2 kommentarer

thegeneraltheoryFor although the amount of his own saving is unlikely to have any significant influence on his own income, the reactions of the amount of his consumption on the incomes of others makes it impossible for all individuals simultaneously to save any given sums. Every such attempt to save more by reducing consumption will so affect incomes that the attempt necessarily defeats itself. It is, of course, just as impossible for the community as a whole to save less than the amount of current investment, since the attempt to do so will necessarily raise incomes to a level at which the sums which individuals choose to save add up to a figure exactly equal to the amount of investment.

When applied to the question of public debt, it can be argued that thriftiness and an exaggerated eagerness to pay back the debt lead to counterfinal results — instead of shrinking the debt mountain, it will in fact only make it bigger.

Wrong FocusA starving state reduces the economic activity level, incomes, investments, and tax revenues. Unemployment increases and unemployment payments grows — ultimately resulting in even higher public debt.

Today most mainstream economists are focusing on problems following on public debt being to high. Based on Keynes’ reasoning, I would rather say the focus ought to be on problems following on public debt being too low.

Ricardian equivalence and crowding-out

12 februari, 2015 kl. 19:16 | Publicerat i Economics | 2 kommentarer

Before the publication of Keynes’ General Theory, most marginalist economists were against expansionary fiscal policy. It was believed that an increase in government spending would reduce by the same amount private spending, and, hence, it would have no effect on output and employment … This has been known as crowding-out in more recent times.

Amazingly … there is not much research on the effects of deficits on interest rates. Robert Murphy, on the Instructor’s Resources for Mankiw’s manual (funny that is NOT in the manual) says:

”Economists worry, therefore, that high deficits imply low levels of investment, leading ultimately to a lower capital stock and so lower living standards. It is, therefore, important to see if this prediction that high deficits lead to high interest rates is supported by the data. Like many empirical questions in economics, this one is difficult to answer unequivocally. Figure 1 shows a scatterplot of the real government deficit and the ex post real interest rate between 1960 and 2000. While there is some evidence of a positive association, it is not strong.”

The graph below.

Updating the graph for 1962 to 2014, with CPI for deflating the rate of interest, I’ve got the following graph:

There is a very weak, and statistically insignificant relation between deficits and the real rate of interest … Deficits do not seem to impact the rate of interest, and crowding out is not empirically relevant. There are plenty theoretical reasons for not believing in it too. And Ricardian Equivalence is NOT one of those.

Matias Vernengo

Riksbanken och den negativa räntan — ett kvitto på misslyckad ekonomisk politik

12 februari, 2015 kl. 14:29 | Publicerat i Economics, Politics & Society | 6 kommentarer

Sveriges_Radio_P4_VRiksbanken sänkte idag reporäntan till minus 0.1%. I den här radiointervjun från tidigare idag ger jag min syn på denna unika åtgärd i svensk histora — men låt mig elaborera lite på de tankegångar jag för fram där.

Grundproblemet i dag för Sveriges krisdrabbade ekonomi är att det är svårt att få fart på hjulen. Ingen vill investera, arbetslösheten är hög och BNP vill inte riktigt öka. I det läget måste målet för en hållbar ekonomisk politik vara att expandera den effektiva efterfrågan för att få kugghjulen att greppa tag och ge ny utväxling.

Den etablerade ekonomiska klokskapen verkar dock vara rörande överens om att Riksbankens reporänta och penningpolitiken är de enda verkningsfulla medlen.

Riksbanken sänkte i dag reporäntan till -0.1%. Men även om det är första gången i modern svensk historia som räntan är negativ, är idén om negativ ränta ingalunda ny.

Den tysk-argentinske ekonomen Silvio Gesell pekade redan vid förra seklets början på att sedlar kunde förses med stämplar som minskar deras värde med ett visst antal procent per år. Vid årsskiftena skulle innehavarna byta ut sina gamla sedlar mot nya, vilket skulle göra det möjligt att ”beskatta” innehavet av pengar.

fSystemet med stämplade pengar (”stamp scrip”) fick den ledande amerikanske nationalekonomen Irving Fishers välsignelse och Keynes menade att idén var ”fullt hållbar”. Man skulle bara se till att kostnaden för stämpelmärkena sattes på en nivå som garanterade en investeringsvolym som var förenlig med uppnåendet av full sysselsättning. Keynes skrev: ”Följaktligen har de reformatorer varit inne på rätt spår, som sökt ett botemedel i skapandet av konstlade förvaringskostnader för pengar genom att kräva att de lagliga betalningsmedlen, för att behålla sin egenskap av pengar, periodiskt skulle stämplas mot en viss kostnad, eller att några liknande åtgärder skulle erfordras.”

Även Maurice Allais – fransk nobelpristagare i ekonomi – framförde på 1940-talet nära besläktade idéer. Allais ville ”underlätta och förbättra konkurrensekonomins funktionssätt”. För att uppnå detta skulle incitamentet för madrassparande elimineras genom en kontinuerlig värdeminskning av pengarna som skulle pressa ner räntan till noll.

Ännu en annan nobelpristagare i ekonomi – norrmannen Ragnar Frisch – fann Gesells idé om en automatisk värdeminskning på pengar ”intressant”.

Dessa ekonomers idéer skulle kunna ge oss värdefull vägledning för hur penningpolitik ska kunna bedrivas i en ekonomi med deflation (i Sverige idag på minus 0.3 %) och det traditionella räntevapnet förefaller allt mer tandlöst.

Kruxet är bara att det inte räcker med att sänka reporäntan. Vi måste också börja våga använda finanspolitiken. Att bara stå på ett ben gör det svårt att balansera. På två ben går det mycket lättare. För att få fart på ekonomin behöver vi både en penningpolitisk och en finanspolitisk dynamo. Det är med andra ord hög tid att skrota förlegade och kontraproduktiva överskottsmål och utgiftstak!

Riksbanken var idag också väldigt tydlig med att räntesänkningen gör läget på tillgångsmarknader — läs bolån — ännu mer prekärt än vad det redan är och att därför andra aktörer måste agera effektivt och kraftfullt för att hindra framför allt bostadsbubblan från att fortsätta att bara växa och växa.

Räntesänkningen idag är mer än något annat ett kvitto på att den nyliberala åtstramningspolitiken nått vägs ände. Om den inte ersätts — och det snart — med en mer expansiv ekonomisk politik ser den svenska ekonomins framtid verkligt mörk ut.

Tillägg 16.30: Mer om ”räntevansinnet” hittar du här.

Tillägg 17.30: Efter att ha blivit intervjuad flera gånger idag av media och försökt förklara (t ex i Expressen) varför det är så viktigt att vi har en måttlig inflation — 3-4 % — istället för dagens sanslösa och i grunden onödiga deflation, kom jag att tänka på att det kanske är lättare att förstå resonemanget med hjälp av en parabel. Så …

Anta att du har ett kooperativ där en grupp föräldrar ställer upp och sitter barnvakt mot betalning i form av andelsbevis (kuponger) som berättigar innehavaren en timmes barnvakt. Anta vidare att systemet garanterar att varje förälder sitter barnvakt lika många timmar som man själv använder barnvakt.

Problemet med denna form av barnvaktssystem är att det kräver tillräckligt många kuponger i cirkulation. Risken finns att föräldrar som för tillfället inte har behov av barnvakt bjuder ut sina tjänster i större omfattning för att kunna ackumulera reserver av kuponger för användning i framtiden, när man tror sig ha mer behov av barnvakt.

Över tiden kan detta resultera i en kumulativ process som gör att alldeles för få kuponger cirkulerar. De som vill ackumulera kuponger efterfrågar ingen barnpassning, de som behöver barnpassning har svårt att hitta barnvaktsuppdrag, vilket i sin tur gör att föräldrar är ännu ovilligare att spendera sina reserver o s v. Lågkonjunktur för barnvaktskooperativet är ett faktum. Orsak: för låg effektiv efterfrågan. Istället för att konsumera barnvaktstid ackumulerar man kuponger.

Hur tar man sig ur denna lågkonjunktur? Man ökar helt enkelt utbudet på kuponger! Genom att utfärda fler kuponger, ökar kupongreserverna hos föräldrarna, som därigenom blir både mer villiga att sitta barnvakt och efterfråga banvakt o s v. Genom att trycka fler kuponger vänder man konjunkturnedgången.

Men ibland händer det likväl att vissa föräldrar kanske behöver mer barnvakt på kort tid än vad de hinner ackumulera i form av kuponger att betala med. Kooperativet kan då bestämma att föräldrar kan låna ett extra antal kuponger mot att man i framtiden betalar tillbaka dessa. För att systemet inte ska utnyttjas av rent okynne bestämmer man också att låntagarna utöver de lånade kupongerna betalar tillbaka ett antal ytterligare kuponger (ränta).

I normalfallet fungerar detta väl. Men om säsongsvariationen är stor (alla vill kanske helst ha barnpassning på våren) skulle man kunna hamna i en situation där även om kuponglånen kunde betalas tillbaka med noll procents ränta så skulle det finnas fler föräldrar som vill sitta barnvakt än föräldrar som efterfrågar barnvakt. Kooperativet befinner sig i en likviditetsfälla och lågkonjunkturen står åter för dörren.

Vad gör man? Man sätter priset på barnvaktstjänsten rätt – så klart. Värdet på de kuponger som tjänas in under ”lågsäsong” skrivs helt enkelt ner om föräldrar håller på dem till ”högsäsong”. Det innebär att föräldrar har incitament att spendera sina barnvaktskuponger snabbare istället för att lägga dem på hög (tesaurera), eftersom kupongernas reala värde minskar över tiden. Ungefär som pengar när man har inflation. Nedskrivning – och redan förväntningen om en framtida nedskrivning – av kupongernas respektive pengarnas värde innebär på så vis att man kan ta sig ur likviditetsfällan och få fart på kooperativ och ekonomi.

Vad säger oss då denna lilla parabel? Jo, att inflation kan hjälpa oss ta oss ur ekonomiska lågkonjunkturer och depressioner. Inflation får oss att spendera nu – vare sig det gäller barnvaktskuponger eller pengar – och ökar den effektiva efterfrågan och får fart på både kooperativ och ekonomin.

Litteraturtips:
Keynes, John Maynard (1994(1936)): Allmän teori om sysselsättning, ränta och pengar  Pontes
Krugman, Paul (2009): Krisen – orsaker, verkan, åtgärder  Leopards Förlag

Mark Blyth on public debt and Ricardian equivalence

12 februari, 2015 kl. 09:05 | Publicerat i Economics | Kommentarer inaktiverade för Mark Blyth on public debt and Ricardian equivalence


[h/t Gabriel Uriarte]

The true nature of public debt

11 februari, 2015 kl. 17:39 | Publicerat i Economics | 13 kommentarer

national debt5One of the most effective ways of clearing up this most serious of all semantic confusions is to point out that private debt differs from national debt in being external. It is owed by one person to others. That is what makes it burdensome. Because it is interpersonal the proper analogy is not to national debt but to international debt…. But this does not hold for national debt which is owed by the nation to citizens of the same nation. There is no external creditor. We owe it to ourselves.

A variant of the false analogy is the declaration that national debt puts an unfair burden on our children, who are thereby made to pay for our extravagances. Very few economists need to be reminded that if our children or grandchildren repay some of the national debt these payments will be made to our children or grandchildren and to nobody else. Taking them altogether they will no more be impoverished by making the repayments than they will be enriched by receiving them.

Abba Lerner The Burden of the National Debt (1948)

Added 18:30 GMT: But how about Ricardian equivalence then? Surely Lerner would have had a different view if only he had been familiar with that pivotal element of ”modern” macroeconomics? I’ll be dipped!

Ricardian equivalence basically means that financing government expenditures through taxes or debts is equivalent, since debt financing must be repaid with interest, and agents — equipped with rational expectations — would only increase savings in order to be able to pay the higher taxes in the future, thus leaving total expenditures unchanged.

6a00e54ecbb69a88330148c6a1f2cd970c

Why?

In the standard neoclassical consumption model — used in DSGE macroeconomic modeling — people are basically portrayed as treating time as a dichotomous phenomenon  today and the future — when contemplating making decisions and acting. How much should one consume today and how much in the future? Facing an intertemporal budget constraint of the form

ct + cf/(1+r) = ft + yt + yf/(1+r),

where ct is consumption today, cf is consumption in the future, ft is holdings of financial assets today, yt is labour incomes today, yf is labour incomes in the future, and r is the real interest rate, and having a lifetime utility function of the form

U = u(ct) + au(cf),

where a is the time discounting parameter, the representative agent (consumer) maximizes his utility when

u'(ct) = a(1+r)u'(cf).

This expression – the Euler equation – implies that the representative agent (consumer) is indifferent between consuming one more unit today or instead consuming it tomorrow. Typically using a logarithmic function form – u(c) = log c – which gives u'(c) = 1/c, the Euler equation can be rewritten as

1/ct = a(1+r)(1/cf),

or

cf/ct = a(1+r).

This importantly implies that according to the neoclassical consumption model changes in the (real) interest rate and consumption move in the same direction. And — it also follows that consumption is invariant to the timing of taxes, since wealth — ft + yt + yf/(1+r) — has to be interpreted as present discounted value net of taxes. And so, according to the assumption of Ricardian equivalence, the timing of taxes does not affect consumption, simply because the maximization problem as specified in the model is unchanged.

That the theory doesn’t fit the facts we already knew.

A couple of months ago, Jonathan A. Parker summarized a series of studies empirically testing the theory, reconfirming how out of line with reality is Ricardian equivalence.

This only, again, underlines that there is, of course, no reason for us to believe in that fairy-tale. Ricardo himself — mirabile dictu — didn’t believe in Ricardian equivalence. In Essay on the Funding System (1820) he wrote:

But the people who paid the taxes never so estimate them, and therefore do not manage their private affairs accordingly. We are too apt to think that the war is burdensome only in proportion to what we are at the moment called to pay for it in taxes, without reflecting on the probable duration of such taxes. It would be difficult to convince a man possessed of £20,000, or any other sum, that a perpetual payment of £50 per annum was equally burdensome with a single tax of £1000.

And as one Nobel laureate had it:

Ricardian equivalence is taught in every graduate school in the country. It is also sheer nonsense.

Joseph E. Stiglitz, twitter

Non-contagious rigour & DSGE models

11 februari, 2015 kl. 13:53 | Publicerat i Economics | 1 kommentar

broken-linkMicrofounded DSGE models standardly assume rational expectations, Walrasian market clearing, unique equilibria, time invariance, linear separability and homogeneity of both inputs/outputs and technology, infinitely lived intertemporally optimizing representative household/ consumer/producer agents with homothetic and identical preferences, etc., etc. At the same time the models standardly ignore complexity, diversity, uncertainty, coordination problems, non-market clearing prices, real aggregation problems, emergence, expectations formation, etc., etc.

Behavioural and experimental economics — not to speak of psychology — show beyond any doubts that “deep parameters” — peoples’ preferences, choices and forecasts — are regularly influenced by those of other participants in the economy. And how about the homogeneity assumption? And if all actors are the same – why and with whom do they transact? And why does economics have to be exclusively teleological (concerned with intentional states of individuals)? Where are the arguments for that ontological reductionism? And what about collective intentionality and constitutive background rules?

These are all justified questions – so, in what way can one maintain that these models give workable microfoundations for macroeconomics? Science philosopher Nancy Cartwright gives a good hint at how to answer that question:

Our assessment of the probability of effectiveness is only as secure as the weakest link in our reasoning to arrive at that probability. We may have to ignore some issues to make heroic assumptions about them. But that should dramatically weaken our degree of confidence in our final assessment. Rigor isn’t contagious from link to link. If you want a relatively secure conclusion coming out, you’d better be careful that each premise is secure going on.

Public debt in perspective

10 februari, 2015 kl. 23:55 | Publicerat i Economics | 2 kommentarer

lehrbuch

A state without public debt either cares too little for his future or he demands too much from his present.

Lorenz von Stein (1842)

Greg Mankiw’s libertarian quasi philosophy

10 februari, 2015 kl. 11:25 | Publicerat i Economics | 6 kommentarer

libertarianism-anarchy-for-rich-peopleAs yours truly has commented on earlier, walked-out Harvard economist and George Bush advisor Greg Mankiw is having problems with explaining the rising inequality we have seen for the last 30 years in both the US and elsewhere in Western societies, that says it . He writes:

Even if the income gains are in the top 1 percent, why does that imply that the right story is not about education?

I then realized that Paul is making an implicit assumption–that the return to education is deterministic. If indeed a year of schooling guaranteed you precisely a 10 percent increase in earnings, then there is no way increasing education by a few years could move you from the middle class to the top 1 percent.

But it may be better to think of the return to education as stochastic. Education not only increases the average income a person will earn, but it also changes the entire distribution of possible life outcomes. It does not guarantee that a person will end up in the top 1 percent, but it increases the likelihood. I have not seen any data on this, but I am willing to bet that the top 1 percent are more educated than the average American; while their education did not ensure their economic success, it played a role.

This is, of course, nothing but evasion, trying to explain away a very disturbing structural shift that has taken place in our societies. And change that has very little to do with stochastic returns to education. Those were in place also 30 or 40 years ago. At that time they meant that perhaps a CEO earned 10-12 times what ”ordinary” people earns. Today it means that they perhaps earn 100-200 times what ”ordinary” people earns. A question of education? No way! It is a question of greed and a lost sense of a common project of building a sustainable society. A result of stochastic returns to education? No, this has to do with income and wealth increasingly being concentrated in the hands of a very small and privileged elite.

Mankiw has stubbornly refused to nudge on his libertarian stance on this issue. And obviously yours truly is not the only economist who is critical:

I have let Greg Mankiw’s latest piece for the New York Times simmer in my brain for a few days, and now I have to let some of the noxious vapors escape.

Here’s what he says. Most economic choices are complex, with positive and negative effects on many parties. The utilitarian calculus, the greatest good for the greatest number, doesn’t work, because it means helping some people by hurting others. Unless there is a clear case of market failure—externalities—it is best to defer to the voluntary choices made by individuals in a free market.
libertarian at a dinner party

What makes it difficult to respond is the multitude of errors and omissions in the Mankiw formulation. It’s hard to know where to begin, so let me just make a list. All of these are interconnected, of course, so the whole list is more than the sum of its elements.

1. Externalities are not the only market failure! It’s scary that one of the planet’s most widely read undergraduate textbook authors could say this. For the record, you’ve also got imperfect competition, public goods and asymmetric information, and together they apply to a lot of economic terrain.

2. A different issue, not yet classified under market failure, is multiplicity of equilibrium. I’ve written a lot on this in the past and won’t repeat myself here, but interaction effects between economic agents, as well as the goods and services they produce, routinely make possible potential returns to collective action. To not see this is to not see the “social” in social science.

3. It is true that market transactions, if participants are self-interested and rational, filter out possible actions that make some better off at the expense of others. But surely to rule out all social change that is not voluntarily accepted on all sides is to commit to an extreme conservatism. The world we live in is the product of the past, with all the irrationalities and inequalities that have been transmitted to us by history. Maybe, just maybe, we might want to rectify some of them, even if history’s beneficiaries are against it.

4. Embedded in Mankiw’s quasi-libertarianism is a profound distrust of democracy. No one, he says, can reasonably weigh the competing claims of the winners and losers from a policy proposal. Well, that’s what democracy is supposed to do. In theory, we discuss it. We ask people to not simply assert their interests but give reasons why society should defer to them, and then we assess these reasons. Obviously, actually existing democracy falls far short of the ideal, but its performance is not completely worthless, and there is untapped potential even in existing institutions to do this job a lot better. It isn’t hard to find examples from modern history where democracies have risen to the occasion and brought about social change that, in hindsight, most of us now endorse. I sentence Mankiw to 40 hours of mandatory service to his own brain, in the form of reading John Dewey on democratic theory. He can get started here.

I can see the value in giving people plenty of scope to make voluntarily arrangements with one another. There is real freedom involved, and it’s important that there be lots of opportunities for individuals to take initiative as they see fit. But this is one value among several, and its weight varies from one policy context to the next. Knee-jerk libertarianism is simply lazy philosophy.

Peter Dorman

Model assumptions and reality

9 februari, 2015 kl. 13:57 | Publicerat i Statistics & Econometrics | Kommentarer inaktiverade för Model assumptions and reality

In a previous article posted here — What are the key assumptions of linear regression models? — yours truly tried to argue that since econometrics doesn’t content itself with only making optimal predictions, but also aspires to explain things in terms of causes and effects, econometricians need loads of assumptions — and that most important of these are additivity and linearity.

Let me take the opportunity to cite one of my favourite introductory statistics textbooks on one further reason these assumptions are made — and why they ought to be much more argued for on both epistemological and ontological grounds when used (emphasis added):

In a hypothesis test … the sample comes from an unknown population. If the population is really unknown, it would suggest that we do not know the standard deviation, and therefore, we cannot calculate the standard error. gravetterTo solve this dilemma, we have made an assumption. Specifically, we assume that the standard deviation for the unknown population (after treatment) is the same as it was for the population before treatment.

Actually this assumption is the consequence of a more general assumption that is part of many statistical procedure. The general assumption states that the effect of the treatment is to add a constant amount to … every score in the population … You should also note that this assumption is a theoretical ideal. In actual experiments, a treatment generally does not show a perfect and consistent additive effect.

Additivity and linearity are the two most important of the assumptions that most applied econometric models rely on, simply because if they are not true, your model is invalid and descriptively incorrect. It’s like calling your house a bicycle. No matter how you try, it won’t move you an inch. When the model is wrong — well, then it’s wrong.

The Hayekization of modern society

6 februari, 2015 kl. 10:01 | Publicerat i Economics, Politics & Society | 5 kommentarer

 

Postmodern obscurantism

5 februari, 2015 kl. 19:11 | Publicerat i Theory of Science & Methodology | 2 kommentarer

 

[h/t Lord Keynes]

Finding equilibrium

5 februari, 2015 kl. 12:32 | Publicerat i Economics | 5 kommentarer

book-equilibrum-till-duppeFinding Equilibrium explores the post–World War II transformation of economics by constructing a history of the proof of its central dogma—that a competitive market economy may possess a set of equilibrium prices. The model economy for which the theorem could be proved was mapped out in 1954 by Kenneth Arrow and Gerard Debreu collaboratively, and by Lionel McKenzie separately, and would become widely known as the “Arrow-Debreu Model.” While Arrow and Debreu would later go on to win separate Nobel prizes in economics, McKenzie would never receive it. Till Düppe and E. Roy Weintraub explore the lives and work of these economists and the issues of scientific credit against the extraordinary backdrop of overlapping research communities and an economics discipline that was shifting dramatically to mathematical modes of expression.

Based on recently opened archives, Finding Equilibrium shows the complex interplay between each man’s personal life and work, and examines compelling ideas about scientific credit, publication, regard for different research institutions, and the awarding of Nobel prizes. Instead of asking whether recognition was rightly or wrongly given, and who were the heroes or villains, the book considers attitudes toward intellectual credit and strategies to gain it vis-à-vis the communities that grant it.

Telling the story behind the proof of the central theorem in economics, Finding Equilibrium sheds light on the changing nature of the scientific community and the critical connections between the personal and public rewards of scientific work.

Although I find Düppe’s and Weintraub’s book a well-researched and interesting reading , I still can’t get rid of the feeling that all these efforts at modeling a world full of agents behaving as economists — ”often wrong, but never uncertain” — and still not being able to show that the system under reasonable assumptions converges to equilibrium (or simply assume the problem away), is a gross misallocation of intellectual resources and time.

Almost a century and a half after Léon Walras founded neoclassical general equilibrium theory, economists still have not been able to show that markets move economies to equilibria.

We do know that — under very restrictive assumptions — equilibria do exist, are unique and are Pareto-efficient. After reading Franklin M. Fisher’s masterly paper The stability of general equilibrium: results and problems one however has to ask oneself — what good does that do?

An extremely prominent economist [Milton Friedman – LPS] long ago remarked to me in passing that the study of stability is unimportant because it is obvious that the economy is stable and, if it isn’t, we are all wasting our time. I pass over the question of whether it really is obvious that the economy is stable and observe that the issue of time-wasting by economists is not one of whether the economy is stable but rather of whether the theory is. A principal reason for studying general equilibrium in the first place is to examine the consistency of partial equilibrium analyses. Having powerful theories of the firm, the household, and the market, may not be very useful if all those theories cannot be true at the same time.

Clearly, the heart of this important consistency question lies in the existence of general equilibrium, and existence theory, fortunately, is a subject which is in pretty satisfactory shape. Nevertheless, there is a sense in which the consistency question cannot be regarded as settled with- out a satisfactory analysis of stability. It is no use knowing that there exist points at which all partial equilibrium propositions can be jointly true, if such points are not attainable. Hence the question of the stability of general competitive equilibrium is a vital one for economic theorists, particularly if the economy is stable, but not only then. If general equilibrium turns out to be stable only under a very restrictive set of assumptions, then, indeed, we will all have been wasting our time, for there will be something wrong with the partial theory that we think we understand.

As long as we cannot show, except under exceedingly special assumptions, that there are convincing reasons to suppose there are forces which lead economies to equilibria — the value of general equilibrium theory is negligible. As long as we cannot really demonstrate that there are forces operating — under reasonable, relevant and at least mildly realistic conditions — at moving markets to equilibria, there cannot really be any sustainable reason for anyone to pay any interest or attention to this theory.

A stability that can only be proved by assuming ”Santa Claus” conditions is of no avail. Most people do not believe in Santa Claus anymore. And for good reasons. Santa Claus is for kids, and general equilibrium economists ought to grow up.

And then, of course, there is Sonnenschein-Mantel-Debreu!

So what? Why should we care about Sonnenschein-Mantel-Debreu?

Because  Sonnenschein-Mantel-Debreu ultimately explains why ”modern neoclassical economics” — New Classical, Real Business Cycles, Dynamic Stochastic General Equilibrium (DSGE) and ”New Keynesian” — with its microfounded macromodels are such bad substitutes for real macroeconomic analysis!

These models try to describe and analyze complex and heterogeneous real economies with a single rational-expectations-robot-imitation-representative-agent. That is, with something that has absolutely nothing to do with reality. And — worse still — something that is not even amenable to the kind of general equilibrium analysis that they are thought to give a foundation for, since Hugo Sonnenschein (1972) , Rolf Mantel (1976) and Gerard Debreu (1974) unequivocally showed that there did not exist any condition by which assumptions on individuals would guarantee neither stability nor uniqueness of the equlibrium solution.

Opting for cloned representative agents that are all identical is of course not a real solution to the fallacy of composition that the Sonnenschein-Mantel-Debreu theorem points to. Representative agent models are — as I have argued at length here — rather an evasion whereby issues of distribution, coordination, heterogeneity — everything that really defines macroeconomics — are swept under the rug.

Instead of real maturity, we see that general equilibrium theory possesses only pseudo-maturity.kornai For the description of the economic system, mathematical economics has succeeded in constructing a formalized theoretical structure, thus giving an impression of maturity, but one of the main criteria of maturity, namely, verification, has hardly been satisfied. In comparison to the amount of work devoted to the construction of the abstract theory, the amount of effort which has been applied, up to now, in checking the assumptions and statements seems inconsequential.

Healthy contamination

5 februari, 2015 kl. 08:53 | Publicerat i Varia | Kommentarer inaktiverade för Healthy contamination

 

Just to remind you — a day without laughing is a day wasted 🙂

Another economic crash is coming

4 februari, 2015 kl. 18:34 | Publicerat i Economics | 1 kommentar

 

The politics of public debt

4 februari, 2015 kl. 14:25 | Publicerat i Economics | Kommentarer inaktiverade för The politics of public debt

Figure-1-Streeck-2What if a resumption of growth, as implied by older traditions of political economy, requires more public investment rather than less, and perhaps also a reversal of the apparently inexorable trend toward ever more inequality (Stiglitz 2012)? In this case, the declining capacity of politics to contain the plundering of the public sphere and the apparently unending self-enrichment of the already unendingly rich may pose a problem not just for democracy, but also for the economy – look at the superrich among the Greeks who are abandoning Greece in droves, availing themselves of free international capital markets to take their money to the safe havens of Wall Street or the City of London; or the Russian and Ukrainian “oligarchs” who, having expropriated their fellowcitizens in post-communist primitive accumulation, are now abandoning them to their domestic misery. What we are seeing here may be the beginning of the fate of economic elites finally becoming divorced from the economies-cum-societies from where they derived their riches, decoupling the fortunes of the rich and their families from the prosperity, or the lack of it, of normal people.

Wolfgang Streeck

[For those of you who want to read more Streeck, his Adorno lectures (Frankfurt 2012) are available in Gekaufte Zeit. Die vertagte Krise des demokratischen Kapitalismus (Suhrkamp 2013). Also available in an eminent Swedish edition as Köpt tid. Den demokratiska kapitalismens uppskjutna kris(Daidalos 2013)]

Markov’s Inequality Theorem (wonkish)

4 februari, 2015 kl. 12:33 | Publicerat i Statistics & Econometrics | 2 kommentarer

MarkovOne of the most beautiful results of probability theory is Markov’s Inequality Theorem (after the Russian mathematician Andrei Markov (1856-1922)):

If X is a non-negative stochastic variable (X ≥ 0) with a finite expectation value E(X), then for every a > 0

P{X ≥ a} ≤ E(X)/a

If, e.g., the production of cars in a factory during a week is assumed to be a stochastic variable with an expectation value (mean) of 50 units, we can – based on nothing else but the inequality – conclude that the probability that the production for a week would be greater than 100 units can not exceed 50% [P(X≥100)≤(50/100)=0.5 = 50%]

I still feel a humble awe at this immensely powerful result. Without knowing anything else but an expected value (mean) of a probability distribution we can deduce upper limits for probabilities. The result hits me as equally suprising today as thirty years ago when I first run into it as a student of mathematical statistics.

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