Wednesday, June 30, 2010

Learned optimism in macroeconomics

I just couldn't resist coming up with that quip after reading Krugman's Learned Helplessness post.

I assume that the lessons that we are to take away from his post is that since the Great Depression was made more severe by austerity measures and tightening by the Fed (by raising interest rates and reserve requirements) we should not only avoid to repeat these mistakes but also by doing the exact opposite. While the debate on effectiveness of monetary policy vis a vis fiscal policy at the zero bound continues to rage (?), I only came up with the quip because for some the debate is settled and there is nothing more to discuss. Onward we go!

The strength of our convictions

In a previous post I said:
We are not always arguing from evidence but from the strength of our convictions - or for lack of a better word, our faith.

The example I used was from Krugman:
Economists who didn’t go down this path, who didn’t flush everything the profession had learned between 1936 and 1973 down the memory hole, aren’t especially baffled by the situation we’re in now; on the contrary, it looks like an extreme version of a fairly familiar event, and policy recommendations aren’t hard to make.

The policy recommendations I am assuming are the following:
1. More fiscal stimulus.
2. Keep nominal interest rates low.
3. Austerity is misplaced.

My reading of this is that the policy recommendations are not purely model based nor are they based on overwhelming evidence. Reasonable economists can argue as to how large a fiscal stimulus could be, the effectiveness of nominal interest rates at the zero bound or that austerity measures in a recession can lead to a more severe contraction if x,y,z conditions are met.

Yet the policy recommendation as stated is based more on conviction (my read of it, that is) and analogy than on anything that we have really learned from the Great Depression. Yes, we may have learned all of the above, yet as economists and so-called scientists we are required to ask ourselves whether these policy recommendations can backfire. One thing that economists do not lack is humility. When we are wrong we brag about how wrong we are and how we cannnot do anything about it - recall Easterly's "economists did something even better than predict the crisis. We correctly predicted that we would not be able to predict it."

The role of the blogosphere seems to be to drown out its critics (or to serve as advocate) rather than as a place to debate the nuances of disagreements. Moreover, it serves to accentuate my claim that arguments on the blog are either shrill-based on faith or hunch-based. An example of the latter is Tyler Cowen (and I don't mean to pick on him - just as an example):

If monetary policy is sufficiently accommodative, I do not see that we are risking a 1937-8 repeat. In 1936-7, monetary policy was not just insufficiently expansionary, it was absolutely draconian.

Again, the language matters - what is "sufficiently accommodative" and "insufficiently expansionary" and "draconian" and how do they translate in terms of policy?

Arguments for a policy that I would like to see would go as follows - again, using the above example (and I'm making this up as I go along):
If monetary policy is sufficiently accommodative, I do not see that we are risking a 1937-8 repeat. In 1936-7, monetary policy was not just insufficiently expansionary, it was absolutely draconian. By sufficiently accomodative, I mean that M1 is expanding at 5% each quarter for the next 3 quarters while by insufficiently expansionary I mean that M1 begins to slow to 3% each quarter for the next 2 quarters. I assume that monetary policy in 1936-37 was draconian because interest rates rose by more than x percent and M1 slowed to y percent. And so forth. Yes, I'd like to see these numbers even if they are just pulled out of thin air. (Some would call it hand-waving economics even with the numbers, but then I think its a lot better than without the numbers.)

Biased summary

In an earlier post, I complained about the following:
"I also dislike the fact that while Krugman can be biased and does occassionally say so, the strength of his convictions can drown out opposing points of view in his 'digested views of academic literature' ."

The claim calls for an example and this is one (and perhaps not a good one since I am in agreement with him):

1. Lucas and his disciples agree that the economy looks Keynesian — that is, it surely looks as if monetary and fiscal policy have real effects — but argue that an equilibrium approach with imperfect information can explain why, while rejecting Keynesian policy implications. And they ridicule Keynesian economics.
2. By 1980 — three decades ago! — it is already clear that the Lucas project has failed. Equilibrium models with imperfect information cannot, in fact, explain key facts about business cycles, especially the way recessions persist even though everyone knows that they’re in a recession.
3. Rather than admitting that they went down the wrong track, however, the advocates of freshwater macro double down; they decide to forget about what they used to know about the apparent effects of demand shocks, and explain the business cycle in terms of real shocks.
4. This approach also falls short; in an attempt to rescue the models, ever more epicycles are added, and whatever clarity may once have existed gets lost.
5. Freshwater economists declare that the business cycle is deeply puzzling, and that we need much more research before we can make policy recommendations.
In short, what we’re looking at is learned helplessness. Economists who didn’t go down this path, who didn’t flush everything the profession had learned between 1936 and 1973 down the memory hole, aren’t especially baffled by the situation we’re in now; on the contrary, it looks like an extreme version of a fairly familiar event, and policy recommendations aren’t hard to make.
It’s only if you’re committed to a failed research project — a project that failed a generation ago, but refused to admit it — that you’re baffled.

I would characterize this as a very strong (and negative) summary of the state of "fresh-water economics" and indirectly, of neo-classical economics and DSGE. While not completely inaccurate, the strength of his arguments are in the rhetoric, e.g.

- By 1980 — three decades ago! — it is already clear that the Lucas project has failed.
By using a date of 1980 and emphasizing that economists wasted 30 years he is emphasizing the fact that these economists were beating a dead horse. To me it isn't clear that the "Lucas project" failed by 1980. Reasonable arguments could be used to date this at 1990 or even as late 2000.
- Rather than admitting that they went down the wrong track, however, the advocates of freshwater macro double down...
The use of the phrase "double down" here implies desparation on the part of these economists. Again, I would disagree (mildly I suppose since I think that real shocks aren't very compelling) but one can also argue that these economists essentially contributed to the field by taking real shocks as far as they could go before "turning back" and deciding that "fresher avenues" can be found in price stickiness. Isn't the nature of science (something economics tries to lay unsuccessful claim to) and scientific discovery be to explore all avenues regardless of where they lead?
- Economists who didn’t go down this path, who didn’t flush everything the profession had learned between 1936 and 1973 down the memory hole, aren’t especially baffled by the situation we’re in now; on the contrary, it looks like an extreme version of a fairly familiar event, and policy recommendations aren’t hard to make.
Again, the phrase "flush everything" seems to indicate that these economists stubbornly clung on to the real shocks hypothesis (to the extent that Ed Prescott declared business cycles were explained). True, some might have but it is misleading to claim that the entire fresh-water school rejected price stickiness or fiscal stimulus effects (or whatever we were supposed to have learned between 1936 and 1973).

In some ways, this last fragment is also an example of what I had claimed in the post:
"We are not always arguing from evidence but from the strength of our convictions - or for lack of a better word, our faith." More on this later.

Tuesday, June 29, 2010

Blogging about economics

I had a very negative reaction to Mark Thoma's criticism on the article that claims that those who don't know economics shouldn't blog about them. My reaction was based not so much on the fact that I agreed with the author or that I disagreed with Mark but on the shrillness of the post. (Thankfully, I didn't read what Brad Delong had to say. Compared to Mark, Rajiv Sethi was a relief.)

I also reacted to Mark's defense of Krugman:

Paul Krugman does take one-side positions based upon his reading of the academic literature, some of which he helped to create. But he has qualified things on his blog. He has explained when, for example, monetary and fiscal policy should have large or small effects, he's linked to the appropriate research, and so on. Somebody has to explain these things to the public, and do so in a way that highlights the essential elements while leaving everything else aside, and Paul Krugman is a master at this. Krugman and others, myself included, do pass along their digested views of the academic literature in a simple, readable form. We also point to non-professionals when we think they have something worthwhile to say. What's wrong with that? (To me, this whole essay reads like it was driven by a touch of Krugman-DeLong Derangement Syndrome).

I can't put my finger on it except to note that perhaps I too have been infected with the Krugman-DeLong Derangement Syndrome. I dislike that DeLong claims to have weighed all the evidence and that fiscal policy is the only play left. I also dislike the fact that while Krugman can be biased and does occassionally say so, the strength of his convictions can drown out opposing points of view in his 'digested views of academic literature' (I suppose this goes for other bloggers as well). To me, economics bloggers (especially the more influential ones) are walking a fine line between conveying different academic opinions and being 'policy entrepreneurs' that Krugman so despises in Peddling Prosperity.

One thing that seems to be common for all bloggers (including this) is that in the end, it is not the evidence or the models that will sway opinion. To paraphrase McCloskey, its the rhetoric that matters (and models and evidence are all part of the rhetoric). We are not always arguing from evidence but from the strength of our convictions - or for lack of a better word, our faith.

Thursday, June 24, 2010

Pondering the effects of a gas tax

Which undoubtedly will not happen in the next 5 years:

1. If I now drive to big box stores 15-20 miles away, would I reconsider doing this with a large enough tax? What happens to the big box stores? A demise or would they move into the city? The experience of Bangkok seems to be that they may move into a city - if we consider that traffic jams are a tax. Or would a tax bring back more mom and pop stores?

2. What about school and work? Would enrollments in private schools drop if the costs of transportation were higher? My impression is that in the Washington DC area, most of the congestion comes from parents/caregivers having to drive their kids to schools even when they can walk to a public school (this is certainly true for us!). Would more white collar jobs that are now in suburban/exurban areas move closer in? This would be great if it could provide a chance for higher earnings for inner city folks. The decisions that go into commuting, work, and school and extremely complicated and it doesn't appear that much research has gone into this in terms of possible labor reallocation. Most of the work concerns traffic!

Free trade externalities

Last weekend as I was pulling out weeds and being bitten repeatedly by mosquitoes, I contemplated on the possible externalities of free trade. Ignoring the problems with defining what is invasive and just accepting that soemthing is invasive if we start investing or spending dollars to get rid of it, the question then is whether the benefits of free trade outweigh these costs.

1. Undoubtedly some mosquito species are a direct result of trade e.g. tires:
Prior to 1985, the distribution of Aedes albopictus, the Asian tiger mosquito, was confined to Asia and many islands in the Pacific Ocean, including some of the Hawaiian Islands. Yet, in recent years the range of this mosquito has greatly expanded to include North and South America, Africa and Europe....The Asian tiger mosquito (ATM) was most likely introduced into North America through the importation of used tires from Japan or Taiwan.

2. Invasive plants as a direct result of trade, see here and here for instance. From the first link,
"... costs associated with a wider group of IS [invasive species] to be in the region of $143 billion per year." (for Oregon)

3. Some reallocation of labor to industries that deal with invasive species. This can either be a benefit (job creation) or a cost (job reallocation) if it hollows out other industries.

Tuesday, June 22, 2010

Things I found surprising about Berlin

From reading Tyler Cowen's posts on Berlin:

1. Vegetables are superb. Sometimes you can't tell which national cuisine the Asian restaurants are serving and I don't mean that as a compliment. Sri Lankan food is one of the best respites from the oppression of food preparation in Deutschland. If there is one overriding principle of German food, it is to avoid anything in a sauce.

... in Germany privacy norms and laws are quite strong and virtually everyone will grant you the right to assert privacy. If you are waiting at an ATM, you had better stand very far back, behind the person at the machine, otherwise you will hear about it. Everyone at the university keeps their office doors closed, although not for the American reason of avoiding students. The goal is to have a closed door and a private space between you and the rest of the world. German blog readers who see you in public will talk less to you than would American blog readers. "Direct mail" is considered not only a nuisance, but also a privacy violation. People work next to each other for twenty years, and it's still just "Frau Mueller," etc.

... there are many outrageous bargains in Berlin, not just my apartment? For five or six euros, you can buy an excellent spaghetti bolognese, better than almost anything in WDC or Virginia. Apartments are cheaper, you don't need a car, mineral water and good bread is cheaper, gelato is cheaper, and in most social circles you're not expected to dress extraordinarily well. I'm not sure books are cheaper but they're not outrageously priced either, even many English-language editions. It's a strange feeling to come to Europe and have most things be cheaper, which still is not the case in Paris.

The buildings don't have nearly the charm of what you would find in Paris, Rome, or much of London. There are some nice residential areas, some pretty tree-lined boulevards, some occasional 19th century (or earlier) masterworks, and scattered sleek contemporary successes, such as by Potsdamer Platz. There is lots of 1950s through 1980s mediocrity. There are nice river settings, but for the most part the city doesn't use its waterfront especially well. It's nice enough that you can tell yourself it's not ugly, which perhaps is a sign of its ugliness.
I like that it's ugly, because it keeps the city empty and cheap and it keeps away the non-serious.

Do these observations apply to Munich or Hamburg?

Friday, June 18, 2010

The advantages of working remotely

I asked someone to create a plain text file. The question came back:

What kind of 'text' file? Notepad? Textpad?

At this point, I counted my blessings that I was not face to face with this person.

Thursday, June 17, 2010

What I've been reading

1. Anita Shreve's Light on Snow. I enjoyed this one perhaps because I was starting to get tired of the theme of adultery and betrayal which I think she has exhausted. This and Eden Close are a good antidote to those themes and still able to enjoy her writing.

2. A Hole in Texas by Herman Wouk. Not quite as hefty as his books used to be but enjoyable and amusing.

3. Jodi Picoult's Vanishing Act. This was was tedious. There are only that many ways to describe a mother's love for a child before it starts getting old. I think I've O.D.ed on Picoult for the rest of the year.

4. White People by Allan Gurganus. I wasn't sure what to expect so I was surprised that I liked most of the stories in this collection. Some were harder to read than I expected not because of the writing but because of the content - some of it can only be described as raw. One story, "Adult Art" was uncomfortable for me as it describes the attraction an older man felt for a younger man.

Piano recital

A couple of weeks ago I watched K1 and K2 in their piano recital. It all went well. I think they were relieved it was over - as was I because now it meant that we didn't have to nag them to practice their piano.

I also saw a lot of kids who no doubt had been directed to other activities by their parents: Art lessons, additional language (Russian/Polish/Hebrew) - mainly due to their ethnic/national origins, gymnastics, swimming, ballet, ice-skating, etc.

I wondered what the kids would think 10 or 15 years from now about being sheperded into all these activities. Do they feel like they're being groomed for something? Will all these lessons increase their awareness of our (high) expectations for them?

I am interested in what the answer to the following will be: The Happiness Project: Did Your Parents Make You Take Piano Lessons? If So, Have They Made You Happier?

I did not have piano lessons so I cannot know if it would have made me happier. This calls for a randomized trial!

Thursday, June 10, 2010

Words that I rarely encounter

But seemed more common when I was growing up:

1. Fag: I'm fagged out from running all those errands.
2. Queer: The queerest thing happened to me this afternoon.
3. Gay: I woke up and was greeted by a gay morning.
4. Whinge: After all those errands, I started whinging about how tired I was.

Most of these words are mainly British use. Perhaps they are still common on the Continent.

Saturday, June 5, 2010

How others drive

Will we ever drive this way?

We taxi back to the airport in a 1956 Oldsmobile driven by a cheerful fellow named Jorge. ... Jorge grins happily the whole way, proudly declaring that his old Olds gets twenty miles to the gallon—to which end he constantly eases the stick shift into neutral along anything resembling a flat stretch of tarmac so he can save petrol.

From CNTraveler.

What is an unstable coalition?

The recent resignation of Yukio Hatoyama as Prime Minister of Japan made me curious as to the tenure of the Japanese government. The following table is from Wikipedia. Except for Junichiro Koizumi, the average length of office has been less than 2 years. Is it a coincidence that a large part of the change in government is also during what is considered Japan's lost decade?

Days in Years in Months in
Prime Minister Took Office Left Office Party affiliation Office Office Office
Noboru Takeshita 11/06/87 06/03/89 Liberal Democratic 575 1.57 19
Sōsuke Uno 06/03/89 08/10/89 Liberal Democratic 68 0.19 2
Toshiki Kaifu 08/10/89 11/05/91 Liberal Democratic 817 2.24 27
Kiichi Miyazawa 11/05/91 08/09/93 Liberal Democratic 643 1.76 21
Morihiro Hosokawa 08/09/93 04/28/94 Japan New 262 0.72 8
Tsutomu Hata 04/28/94 06/30/94 Renewal 63 0.17 2
Tomiichi Murayama 06/30/94 01/11/96 Socialist 560 1.53 19
Ryūtarō Hashimoto 01/11/96 07/30/98 Liberal Democratic 931 2.55 30
Keizō Obuchi 07/30/98 04/05/00 Liberal Democratic 615 1.68 21
Yoshirō Mori 04/05/00 04/26/01 Liberal Democratic 386 1.06 12
Junichirō Koizumi 04/26/01 09/26/06 Liberal Democratic 1979 5.42 65
Shinzō Abe 09/26/06 09/26/07 Liberal Democratic 365 1 12
Yasuo Fukuda 09/26/07 09/24/08 Liberal Democratic 364 1 12
Taro Aso 09/24/08 09/16/09 Liberal Democratic 357 0.98 12
Yukio Hatoyama 09/16/09 06/01/10 Democratic 258 0.71 9

Average 549.53 1.5 18.07

Median 386 1.06 12

25th percentile 309.5 0.85 10.5

75th percentile 629 1.72 21

Min 63 0.17 2

Max 1979 5.42 65

Are military bases a (resource) curse?

In Descent into Chaos, Ahmad Rashad argues that U.S. military bases in Afghanistan only serve to divide the efforts to unify the country. Clans or tribes are paid more than civil servants in Kabul to maintain and run the bases and these clans often compete to service the bases. The large amounts of payments are funneled into private accounts instead being repatriated to the central government in Kabul and undermines all its reconstruction efforts because the central government is very often less well financed than the warlords.

A reminder that military bases are a curse is the downfall of Yukio Hatoyama the Prime Minister of Japan for his failure to keep his campaign promise to close the American base on Okinawa. Perhaps the curse is that instead of America paying Japan, it is the reverse:

The Japanese government paid more than $5.2 billion for funding the stationing of U.S. troops in Japan in 2009. That includes facilities maintenance and improvements, Japanese support employee salaries, and other needs. Of that funding, $1.6 billion is for military support on Okinawa.

And there is indirect support, which includes waivers of taxes, road tolls and port fees for military operations, and SOFA personnel pay less tax on their cars than Japanese citizens.

Would things in Okinawa be different if America paid Japan like they are paying the warlords in Afghanistan?

Or would the situation turn out to be similar to Manas Air Base in Kyrgyzstan where America is paying $60 million (a year?) for using the facilities.

An additional $117 million will be given to the Kyrgyz government, including $36 million for upgrading the airport with additional storage facilities and aircraft parking, $21 million for fighting drug trafficking in the country, and $20 million for economic development.

Some of these payments have been alleged to have been embezzled by the people close to the administrations of Askar Akayev and Kurmanbek Bakiyev either by gaining rights to service the air base on by outright theft.

Models versus blogs redux

I was wrong in my post accusing bloggers of arguing based on conviction instead of models. Mark Thoma clarifies that he is basing his arguments on Eggertson and Woodford's models. I also concur with him when he says the following (emphasis mine):

Using a different model is fine. I've already noted that the models I have been using have their problems, and that there can be a legitimate debate over what type of model is best. But at some point you have to commit to a specific model and use it to answer your questions, one that has hopefully been carefully specified and thoroughly investigated, and that does not change daily. Full awareness of the model's weak spots and limitations should be used to qualify the answers you give, but you cannot avoid committing to a model of some sort. The policy advice I have been advocating is based upon these models and is fully consistent with them. That doesn't mean that other models won't give different answers, but those aren't the models I am using.

Unfortunately, when economists are arguing from different models, they really are arguing from convictions that their model is the right one.

And it is also because of this disagreement on which models should be used that I agree with Kocherlakota's claim that economists do not have a playbook - or perhaps they have too many playbooks. And while I am a strong supporter of model based policy prescriptions, I am also fully aware that an over-reliance on models is one of the reasons we are in the crisis in the first place.

Friday, June 4, 2010

Should policies be model-based or blog-based

Each argues to their own conviction that their arguments are right:

Beginning with Tyler Cowen:

Romer, Geithner, Summers, know all the same economics that Krugman and DeLong and Thoma do. If a bigger AD stimulus would set so many things right, they'd gladly lay tons of political capital on the line to see it through and proclaim triumph at the end of the road.

Except they expect it would bring only a marginal improvement.

From Mark Thoma:

As for Tyler's (and others') call for monetary policy instead of fiscal policy, here's the problem. It relies upon changing expectations of future inflation (which changes the real interest rate). You have to get people to believe that the Fed will actually be willing to create inflation in the future when it comes time to do so. However, it's unlikely that it will be optimal for the Fed to cause inflation when the time comes. Because of that, the best policy is to promise that you'll create inflation, then renege on the promise when it comes time to follow through. Since people know that, and expect the Fed will not actually carry through, it's hard to get them to change their expectations now. All that credibility the Fed has built up and protected concerning their inflation fighting credentials works against them here.

Fiscal policy does not have these problems. Maybe monetary policy would work in spite of the time consistency problems, I'm willing to try and there are creative ways around this problem that might work (see
here for how to credibly commit to irresponsibility). But I'm not willing to put all my faith in this one policy basket, particularly since I think fiscal policy is the superior tool in deep recessions (but not in normal times). Fiscal policy must be part of the mix as well, and since the economy is not expected to return to full employment for several years, there's more than enough time for further fiscal stimulus directed specifically at job creation to work.

Back to Tyler Cowen:

This makes perfect sense in terms of a model, but I don't see inflationary expectations as the relevant factors for the real world.

Did he just say that expecations are not relevant for the real world? I am tempted to adopt the attitude I had as a graduate student and be totally dismissive of these arguments by exclaiming: Where is the model? This is all just hand-waving economics. Yet, I am sympathetic to both views. Expectations matter but not all the time. However, I'd like to see some evidence for Tyler making the claim that inflationary expectations not being relevant to the real world. Modeling expectations have been the foundations of DSGE models and even structural equation models since the Lucas critique. The modeling of expectations can be ad hoc or as most economists have done - assume rational expectations.

Yet it is good to be reminded by Rajiv Sethi:

Rational expectations is not a behavioral hypothesis, it's an equilibrium assumption and therefore much more restrictive than "forward-looking behavior". It might be justified if equilibrium paths were robustly stable under plausible specifications of disequilibrium dynamics, but this needs to be explored explicitly instead of simply being assumed.

The arguments put forth by Mark Thoma and Tyler Cowen also has some bearing on Brad DeLong's response to Kocherlakota's claim that economists did not have a playbook to respond to the crisis:

My reaction to this is the old one: "Huh?!"

For "macroeconomics" did and does have a playbook that offered a systematic plan of attack to deal with fast-evolving circumstances.

The playbook was first drafted back in 1825, during the bursting of Britain's canal bubble.

... The government has the power to tax! And so the government can make AAA assets when nobody else can! ... The first and easiest way for the government to create more safe assets is for the central bank to create them by buying up risky assets for safe ones via open-market operations or lending cash and taking other, riskier assets as its sole security.

... Since the fall of 2007 the central banks and the Treasuries of the world have been following this playbook. They have expanded the supply of safe assets via open-market operations, pumping out cash for the private sector to hold and in return accepting duration and interest-rate risk. They have topped up bank capital. They have guaranteed private-sector loans. They have swapped in risky private-sector debt in exchange for government bonds. They have--via expansionary fiscal policy--printed up huge honking additional tranches of government bonds and used the money raised to pull forward government spending and push back taxes.

... The playbook is old and well-established, and has been put to effective use.

Again, I am not arguing against Brad DeLong. My initial reaction was that the IMF used to have a playbook also when rescuing a country facing a capital account outflow and budget deficits. This was to raise interest rates and slash government spending. Saner heads seem to have prevailed and this playbook has, while not discarded, certainly laid aside. What Delong seems to be arguing is that this playbook always works and I am less convinced about that. The Fed acted very innovatively in this crisis yet could do little except to slow the free-fall of the economy. My interpretation of Kocherlakota's comments is that the playbook should not be brought out to clean up the mess but to prevent the mess in the first place (or at least bring it to a screeching halt by the end of 2007 or the beginning of 2008). Slashing interest rates and flooding the market with liquidity is pretty standard but the playbook needs to say by how much and for this we need models not blog entries and shrillness in blog-dom.

Unfortunately (with apologies to Reinhart and Rogoff), while crises are all the same they are also all different. By this, I mean that the source of the shock to the economy is very different. Who could have forseen that Bear Stearns would have gone bankrupt within 3 days even though it began that fateful weekend with $10 billion and there was almost nothing that DSGE economists could point to that would constitute a "technology shock".

There were no models that economists could turn to that they could use to generate a policy for the Fed or Treasury. Likewise, in the beginnings of a crisis such as the East Asian crisis, the facts on the ground are few and existing models were inadequate to show that high interest rates and cutting government spending would stem the tide of outflows.

Models have always been inadequate. As Kocherlakota says:

During 2007–09, macroeconomists undertook relatively little model-based analysis of policy. Any discussions of policy tended to be based on purely verbal intuitions or crude correlations as opposed to tight modeling.

I would say that in all crisis, the analyses and model building have always been retrospective. Whenever a crisis occurs, almost all economists fall back on AS-AD or IS-LM type models. And it is because of this lack of good policy based models that we have debates between Krugman, Cowen, Sumner, and Thoma about what to do. Each of them are talking through their convictions rather than a common model and parameters in which they can all agree on. Even if they could not agree on parameters but could agree on a model then at least the discussion would be less shril than it is.

What is the right counterfactual

It's not always obvious and the obvious - no treatment versus treatment is not always right. This post on airline deregulation was a good reminder:

The catch is that all such economic comparisons must be counterfactual: they must show an improvement not with respect to CAB [Civil Aeronautics Board]-set fares of the late-1970s, but rather with respect to what reasonably competent regulation could have produced under the other circumstances of the deregulated era. ... If the comparison exercise is tough by the (inappropriate) historical yardstick thanks to declines in (average) service quality and the airline industry’s trail of fleeced stakeholders, then the counterfactual comparison is going to be tougher still thanks to a couple of factors that should have produced large declines in airline costs and hence fares even in the absence of deregulation.

The factors of note are a pair of technological advancements — the development of high bypass ratio turbofans suitable for shorter-haul airliners and the demise of the flight engineer’s job thanks to cockpit automation, both of which have origins predating deregulation — and the long secular decline in oil prices through the deregulated era’s zenith prior the crash of the 1990s stock market bubble.

Thursday, June 3, 2010

Kids today are such hypocrites

I took the garbage can out to the sidewalk for pickup. A few minutes later, I watch from the window as some teenagers roll up beside the trash can in their Honda CRV. One of them leans out the front window and attempts to open the trash can. She has a garbage bag in her hand which she is hoping to put the trash in. The garbage can falls over. The trash spills out. She drops her garbage on the road and they drive away.

They lecture to us about global warming and our responsibilities toward Mother Earth. Yet they can't even take the garbage out and clean up after themselves.

Another reminder of the lost decade in stocks

From the Letters to the Editor section (emphasis mine):

More than 10 years ago in these pages, James K. Glassman and Kevin A. Hassett argued a new theory of stock valuation, writing that the Dow Jones Industrial Average would rise “to the neighborhood of 36,000” (“Dow 36,000,” September 1999 Atlantic). In January 2000, J. Douglas Van Sant of Stockton, California, wrote in to say that their theory was “a giant fallacy.” He bet Glassman and Hassett that in 10 years, the Dow would be closer to 11,000. The writers agreed to the bet: “If the Dow is closer to 10,000 than to 36,000 ten years from now, we will each give $1,000 to the charity of your choice.”

On December 31, 2009, the Dow closed at 10,428, as Brad W. Bradley of Bel Air, Maryland, pointed out to Atlantic editors earlier this year. Glassman and Hassett conceded, donating $1,000 each to the Salvation Army, by Van Sant’s request.

“It’s been a bad run for optimists,” Hassett noted. “James and I included a chapter in our book [based on the article] outlining why the equity-premium decline that was at the core of our thesis might stop or reverse itself. Just about every equity-downside scenario we could envision, including terrorist attack, later became a reality. Going forward, investors have to decide whether the U.S. has had a run of bad luck or whether something fundamental has changed that cannot be reversed. Either is possible.”

“I’m surprised at the way it turned out. I thought their theory was pretty extreme, and that was the point of my letter,” Van Sant said. “I never imagined the Dow would have been less than in 1999 [when it closed the year at 11,453]. In a way,I was probably just as wrong as they were. If someone had bet me it would be lower, I would have taken the bet and lost it. Everybody lost on that one.”

Not only did the Dow never had a chance to even reach 36,000 their theory was entirely silly (according to Paul Krugman).