Why Educational Reform in The US Never Works

Politicians from both political parties spend a lot of time talking about how to improve education.  It makes sense to propose plans for improving education because the great majority of parents care about the quality of education. However, most of the policy changes that have managed to get through the political maze, have been shortsighted and unproductive.  This is the best article that I have read about public education because it offers no simple solution to a complex problem.  One of the simple solutions, that is always on the political agenda, is to improve teacher effectiveness.  The problem with that solution is that teacher effectiveness cannot be separated from school effectiveness.  A simple thought experiment illustrates the connection between school effectiveness and teacher effectiveness.

Suppose we recruited teachers from Finland, which has a well earned reputation for turning out effective teachers, and did a teacher exchange program between the state of Indiana and Finland.  What results might we expect from that exchange? The most likely outcome after five years would be that the teachers from Finland would have decided to seek an alternative career in the US, and that the US teachers would be very successful and committed to a career in teaching.  It is easier to be an effective teacher in an effective school and it is very difficult to succeed in ineffective schools.

Our little thought experiment shifted our attention from teacher effectiveness to school effectiveness.  That is much more complex problem that goes well beyond the simple problem of teacher effectiveness. This article describes some of the factors that contribute to effective schools, and it explains why it easy to recruit good teachers in Finland and provide them with an opportunity to be successful teachers.  Political leaders in Finland are not any smarter than politicians in the US who care more about winning elections than they do about improving the education system.  Wasting human resources in the US is very expensive in the long run.  We are paying for it in many ways.

The Return Of The Laffer Curve And Dynamic Scoring

The Washington Post published an op-ed, posted below, which celebrates the 40th birthday of the Laffer curve and the restoration of the Reagan Administration myth that his tax cuts increased tax revenues.  I was wondering why the Post bothered to publish the Laffer celebration until I was reminded by this article that the GOP wants to force the Congressional Budget Office to use dynamic scoring.  Paul Ryan was unable to get the CBO to use dynamic scoring, but now that his party controls Congress it intends to find a CBO Director who will use the magic wand of dynamic scoring to show that tax cuts for the wealthy, and for corporations,  will actually increase federal tax revenues.  Dynamic scoring assumes that tax cuts will stimulate economic growth enough to pay for the tax cuts.  

Do Tax Cuts Really Increase Tax Collections?

Stephen Moore is the Chief Economist for the Heritage Foundation which receives its funding from folks who hate to pay taxes and only like government when it does good things for them.  The Washington Post provided Moore with an opportunity to broadcast the Heritage message.  Apparently, it did so without the benefit of editing or fact checking.  There are so many things wrong with this article that it is hard to know where to start.  One would expect, however, that Moore should not contradict himself in his article.  I will simply point out the contradiction and let Paul Krugman and some of the commentators in response to his article address some of the other problems with Moore's article.

Ostensibly, the article is about the durability of the Laffer curve which holds that tax revenues will increase as the tax rate rises up to a maximum point;  they will then begin to fall as the tax rate increases further.  Nobody would argue against that point.  On the other hand, there is a lot of disagreement about the inflection point.  That is, at what tax rate do we see a decline in tax revenue? Ronald Reagan cut the top income tax rate from around 70% to around 28%.  Tax revenues increased during the Reagan administration, and we also had a period of economic growth.  The Heritage Foundation and other think tanks, funded by the same folks who fund Heritage, have been claiming that our experience during the Reagan Administration proved that the Reagan Tax cuts validated the Laffer curve, and more importantly, the superiority of supply side economics to demand side economics which have been destructive of our economy under President Obama.

Moore knows that the Laffer curve has often been called the Laugher curve by economists because the inflection point is undetermined.  He acknowledges that point in his article.  He points out, however, that liberals want to increase taxes on carbon emissions because they understand that you get less of something when you tax it. They seem to agree with Laffer that high tax rates will cause people to work less and also decrease business investment.  Laffer claims that most economists agree that you get less of something when you tax it.  That is often true, but his curve also shows that you get more tax revenue from higher tax rates up to the inflection point.  The Laffer curve does not tell us that lowering the tax rate will always increase tax revenue.  Higher tax rates increase tax revenue until we get to the indeterminate inflection point.

Moore also fails to tell us that Reagan increased taxes during his administration.  He substantially increased the regressive Social Security tax rate which helped to pay for the huge reduction in the top marginal income tax rate.  This shifted the tax burden from the highly paid to lower income citizens because there is a cap on the Social Security tax. The Social Security tax rate falls as one's income increases. Even worse, Moore includes Social Security tax revenues along with income tax revenues when he reports the increase in tax revenues under Reagan.  Federal tax revenues, excluding Social Security taxes, increased by only 20.8% under Reagan.

We expect economists who decide to make a career at think tanks like Heritage to support the mission of their employer.  Its unfortunate, however, that one of our most widely read newspapers would provide an unfiltered platform for Heritage to spread its message to the public without a more critical review by its editors.

A View Of The Second Economy From Silicon Valley

The Harvard Business Review published an article by a Silicon Valley venture capitalist and a journalist who has covered this high tech Mecca for many years.  The article raises a serious question about the second economy that is already under development.  The second economy will take advantage of Moore's Law which has established the rate of speed by which computer chips process and store information, as well as the advances in artificial intelligence which leads to the development of much smarter machines.  As the intelligence of these machines increases, the types of jobs that they will be able to perform will also increase.  Today they are being used to perform routine tasks that are being done by low paid workers.  As the cost of the machines continue to fall even low paid workers in China will be replaced by robots.  As the machines become more intelligent, and achieve an IQ of around 120, they will provide a low cost substitute for highly skilled and high paid labor.  In a sense, the wage rate will be set by increasingly intelligent robots.

The second economy will much different from the industrial revolution which replaced human muscle with mechanical power.  It will replace human intelligence with machine intelligence at a much faster rate than mechanical power replaced human power.  This may seem like science fiction to many of us but it is very real to many in Silicon Valley. 

The good news is that the second economy will be very productive.  New and better products and services will available at lower cost.  The bad news is that we will be able to produce the output with fewer workers.  That will solve the problem of scarcity, which has plagued humankind for centuries, but we will need to figure out how to deal with a world that requires less human labor.  The easy answer to that question has usually made reference to the Luddites who opposed the industrial revolution.  Machines replaced the labor of textile workers and there was a 50 year lag between the advent of the industrial revolution and a better life for the Luddites.  Anyone who raises questions about the implications of technological advancement is reminded of the Luddites who would have blocked the industrial revolution and the advances that followed.  The second economy is rolling out at a faster pace than the industrial revolution which replaced human power with machine power.  It raises a question about the ability of our political leadership, which seems to be stuck in low gear, to manage the rapid changes that are brewing in Silicon Valley.

How To Fight Deflation In The Eurozone

It is likely that the EZ will report in January that prices changes were negative in the EZ.  The ECB has a mandate to maintain price stability, therefore, it must do something about price deflation.  The US Federal Reserve used quantitative easing to stabilize prices in the US but it would not work as well in the EZ for many of the reasons presented in this article.  An alternative to QE is proposed for the ECB in this article along with some of the possible objections which are refuted.

Adair Turner Provides His Big Picture Of The Economy

This video of Adair Turner's speech in London pulls several strands of the economy together into a comprehensible mosaic.  He links rising income and wealth inequality to some of its more obvious causes such as globalization and immigration which expands the labor supply and fosters wage competition, but he also shows how our new economy decreases demand for labor and physical capital.  That contributes in income and wealth inequality and it also contributes to slower economic growth.  Its easy to see that effect when one compares Facebook with the Ford Motor Company.  A relatively small number of software engineers and physical capital was required to bring Facebook public at a value of $170 billion.  Facebook can also add new customers at almost zero marginal cost.  It also becomes more valuable through network effects.  The more customers it attracts, the more valuable it is to every customer and to advertisers.  Henry Ford needed a large labor supply and a huge investment in physical capital to bring his cars to market.  We also had to build the roads and the infrastructure necessary to support auto transport.  A large sales and service network was also required.  Business investment spending and consumer spending expanded as the auto industry developed.  Facebook made a small number of people very rich but it does relatively little to increase business investment and consumer spending.

Turner also destroys some of the myths about our banking system that taught in econ 101.  Banks do act as intermediators between savers and businesses that require those savings for investment.  Only 15% of bank assets are loans to businesses.  65% of the savings are used to fund mortgages,  and a large share of real estate transactions are for the purchase of existing properties.  25% of bank lending is used to support household consumption. 

Given the large amount of savings that are used to fund mortgages it is not surprising to learn that most of our wealth is held in real estate.  Moreover, most of the asset appreciation is in the price of the land.  There is a fixed supply of highly desired real estate locations and a high elasticity of demand for those locations.  Investors have responded by purchasing choice locations to capture the asset appreciation.  Most of that appreciation will go to investors who have surplus income.  That contributes to wealth inequality and it does little to expand aggregate demand.

Turner argues that income inequality has led to the expansion of credit to support aggregate demand.  There has been almost no real wage growth for the bottom 75% of the income distribution in the US.  Consequently,  private credit has been used to fill the income gap. That is what the sub prime mortgage system was all about. The idea was to expand credit to households that would not otherwise have access to credit.  That is unsustainable over the long run.  Consumption spending slows down, the economy contracts, and government debt increases in response to declining tax revenue and increased spending on public welfare programs.  The rise in public debt leads to fiscal austerity, and a reliance on monetary policy to support fiscal austerity programs.

Turner is not a fan of quantitative easing.  He argues that low interest rates have driven up asset prices but they have done little to increase aggregate demand.  He favors policies that put more money into the hands of households that will spend it.  Progressive tax policies would be part of his agenda.

Turner does not have much regard for economists who claim that our basic problem is a skill gap.  It doesn't take much to destroy that argument.  A quick look at job growth projections by the US Bureau of Labor shows that there is very weak demand for computer and network technologists.  Moreover, wage growth in those areas has also been weak.  Most of the job growth is in the service sectors and many of those jobs do not require advanced training.

The History Of The 2% Inflation Rate Target

Most of the world's central banks have a target inflation rate of 2%.  This article provides an overview of the history of that target which may have been set 25 years ago by the central bank of New Zealand, and ultimately became a common central bank target.  More importantly, it discusses the strengths and weaknesses of that common target.  A higher target would provide greater flexibility during serious recessions because central banks would be less likely to hit the zero lower bound when they cut interest rates to stimulate the economy.  If the target rate were 4% they would have more freedom than they do at 2%.  There are also advantages that derive from the lower target because it is easier to make economic plans when the purchasing power of money is more constant. 

Capital In The 21st Century At The Bank of England

Thomas Piketty has done his job.  His book raised enough questions about inequality to bring the issue to one of the pillars of capitalism.  The BOE invited four prominent economists to present their reactions to his book.  They all agreed that Piketty had provided a great service by making the historical data on income inequality widely available.  Most of the comments were about the economic growth theory that Piketty relied upon to reach his policy conclusions.  Piketty responded to the comments by agreeing that his conclusions were open to debate.  The BOE plans to post these discussions on its website after they have been edited.  Let the game begin.

One of the more provocative perspectives presented at the meeting was about the impact of inequality on democracy.  Joseph Stiglitz, among others, has argued that rising inequality has a corrupting effect on democratic governance.  Implicit in this perspective is the assumption that the middle class is an essential pillar of democracy.  One of the presenters rejected that assumption.  He argued that the median voter does not have much of an impact on governance.  He argued that all societies are governed by interests of the top 10%.  He seems to agree with the "Iron Law Of Hierarchy" that has a long history in political science.  Elections are for show.  Their primary purpose is to provide legitimacy for government.  That conclusion makes sense when the political debate in many countries is between the center left and the center right as it is many Western nations.  Political debates in that environment are primarily about fine tuning the system and settling disputes among the powerful.

Economics, Entertainment And The Dr. Oz Effect

Dr. Oz is the star of popular TV program in which he provides advice on medical problems and treatments.  It turns out that he provides bad advice.  More than half of the claims that he makes are wrong.  TV is full of experts like Dr. Oz.  They give investment advice, marital advice and even legal advice.  Of course their advice is worth about what free advice costs.  Paul Krugman compares these experts to some of the economists that he encounters on TV news shows who display a similar lack of competence.  He attempts to explain their popularity and their behavior.

One explanation is that they are all in the entertainment business.  Personality and a simple explanation for complex problems is what builds a large enough audience to attract sponsors.  It also helps if they provide the audience with messages that they want to hear.  Furthermore, most of the Wall Street economists focus on short term problems that interest momentum investors who don't hang on to their investments for very long.  Its not surprising that their opinions about economic policy conform closely with that of their clients.  The good news is that most economists, like most doctors, are more concerned with protecting their reputations than they are with client relationships or with their ability to entertain a popular audience on TV.

The Relationship Between Private Debt And Economic Instability

Lord Adair Turner states that private debt used to be around 50% of GDP and that the ratio is now around 180%.  He argues that economic instability increases when credit grows much faster than GDP.  This led to the financial crises and that the slow recovery is the result of a "debt hangover".  He would prefer to have an economy that is less dependent upon credit growth and more stable as a result.

 The growth in credit has been driven by investment in existing assets such as real estate.  To some extent this has been possible because of changes in the economy.  The fastest growing sector of the economy has been in high tech start ups like Facebook.  They have taken advantage of price deflation in information technologies to build firms that are less capital intensive than manufacturing.  They also decrease the demand for human capital which contributes to income inequality in two ways: wages fall and investors in high tech start ups have become extremely wealthy through stock price appreciation.  Much of this wealth is saved and helps to fund household borrowing for consumer products and residential real estate.

Ordinarily, interest rates could be used to limit credit growth.  That would have a negative effect on the economy.  Turner argues that macro prudential tools could limit credit growth by making credit more difficult to obtain by other means.

The Root Of The Russian Economic Problems

The Financial Times provides us with the data that helps us to understand the basic problem in the Russian economy.  Oil and gas account for around 75% of Russia's exports and around 50% of the government's budget revenues.  The drop in the price of oil to $60 from over $100 not too long ago is a huge barrier to overcome.  It is no wonder that the central bank expects the economy to shrink by over 4% in 2015. 

The problems created by the energy price shock have also led to capital flight which has caused the ruble to decline in value.  The central bank increased interest rates to limit the capital flight but it is not clear that this will be sufficient.  The decline in the value of the ruble will make imports much more expensive and increase the risk of inflation.  Its hard to determine what might happen when large numbers of people expect a decline in the value of the ruble, and consumers anticipate price inflation. 

Japan's Lost Decade and The US Lost Decade

Noah Smith provides an interesting story about lost decades.  In doing so he explodes a myth about Japan and also a myth about the US.  He also helps us to understand the importance of myths.  They are easier to understand than a more complex reality, and perhaps that is why they are so commonly used in societies that often held together by myths.  The reality of what has happened in the US and in Japan is not that hard to understand if one looks at some simple data and a few facts.  Smith does a good job of uncovering the reality and exploding a common myth.  For most people, however, the myth will prevail over reality.

What's Good For Wall Street Is Primarily Good For Wall Street

This article raises questions about the value that we get from Wall Street.  The primary role of the banking system is to allocate capital to its most productive uses.  One would expect that there would be a positive relationship between the growth in the finance sector and growth in the economy.  Instead we find a negative relationship between these two variables.  The finance sector's share of the economy has doubled over the last 50 years; it has grown six times faster than GDP in the last 30 by using computer technology to develop new products.  It would appear, however, that the increase in productivity has not been shared with the greater economy.  Wall Street continues to extract 2% of the transaction value for itself.  Perhaps that is why 20% of the top .01% income earners are in the relatively small financial sector.

Outsized compensation is the financial sector also attracts many of our brightest students to the financial sector.  They are smart enough to follow the money.  We might be better off if our brightest students went into research.  One dollar invested in research produces $5 in economic growth.  The same amount going to finance reduces growth by 60 cents.

This article raises several questions about the value received by the growth in the financial industry.  Perhaps it is a mistake to expect Wall Street to be much different from any other sector in our economy.  The management of most firms have a common goal.  They want to increase shareholder value and executive compensation.  In order to do that in a competitive market they may have to compete on price and product quality.  The finance sector does not sell commodity products and it price competition is less common than it is in the industrial sector.  Two recent examples suggest that Wall Street has some advantages over industrial firms.  During the dotcom boom Wall Street made a lot of money by underwriting high tech firms and taking them public.  They earned fees by taking them public even if the companies that that they promoted eventually failed.  They were supported in this effort by cheer leaders on TV networks designed for that purpose.  They provided the public with a powerful incentive to get rich by investing in businesses that they understood to be very risky.  Each of the Wall Street firms competed in the same game.  They all charge the same fee to the firm that they took public.  The nature of the competition is based upon personal relationships and access to large investors who were in line to purchase the shares.  It was not uncommon for the first investors to make a huge gain after the public offering by selling their shares in the secondary market as soon as they could.

The financial crisis provides another example of Wall Street exceptionalism.  They earned fees by packaging mortgages into securities and selling them to investors who lost millions when the securities that they purchased lost value.  It was not uncommon for them to sell securities to their customers which did meet their own underwriting standards.  We all know what happened, but most of the banks that were playing that game are still in business and their customers continue to buy products and services from them.  Only a handful of banks can provide the services that large investors or multinational corporations require.  Our economic system is based upon the services they provide.   

Russia's Central Bank Raises Interest Rate to 17%

The Russian central bank has been forced to raise interest rates in response to stop the fall in the ruble.  The Russian economy has been hit hard by the drop in oil prices and by Western sanctions in response to Russia's foreign policy decisions.  Falling oil prices, along with the effect of high interest rates on investment and consumption, increase the risk of recession in Russia.  The decline in the value of the ruble also makes it more expensive to service debt denominated in foreign currencies.

The Lima Accord Is A Step In The Right Direction On Climate Policy

The agreement reached in Lima was enabled by the prior agreement between the US and China which indicated the willingness of the two largest carbon emitting nations to take serious steps to limit carbon emissions.  Climate scientists say that further steps are needed to meet their temperature increase target, but it sets the stage for further emission reductions as plans evolve in each nation.  It is clearly a big improvement over the Kyoto accord which was not approved by the US government.

Economic Gains From Shale Oil and Gas In The US

Tim Taylor does a nice job of summarizing the Congressional Budget Office study on the economic benefits derived from shale oil and gas in the US.  In the short run, GDP was increased substantially.  The increased output of these products in 2013 was $195 billion.  That raised GDP by 1.2%.  The increase in investment spending on shale oil and gas added another 0.9% to GDP for a total gain in GDP of 2.1%.  In the longer term, lower energy prices will boost productivity in energy intensive industries which will increase wages and employment in those industries.  That will also increase consumer spending in the long run.  The US will not become a resource dependent economy such as Russia or Venezuela, but these industries will have a substantial impact on the broader economy despite the fact that the US economy has become a services economy with a much lower ratio of energy consumption to output over time.

Taylor is aware of the environmental risks in the use of shale extraction technologies.  He has also been an advocate of carbon taxes which internalize the external costs of carbon emissions.

The House Spending Bill Redux

The GOP dominated House passed a spending bill that will avoid a government shutdown.  This editorial in the NYT suggests that we might be better off if the government did shut down.  It is pretty clear that government works primarily for those who fund political campaigns.  Big money has been going to PACs which work outside of the two major parties.  The bill increases the amount that large contributors can make directly to political parties.  The bill also cuts funding for government agencies such as the EPA and the IRS which enforces tax collection.  Wall Street also got its finger into the pie.  Key areas of the Dodd-Frank bill which required banks to separate risky derivative trading from its government protected banking operations were neutered with the eager participation of both political parties.  We have created an electoral system that is increasingly dependent upon campaign contributions to fund the escalating expense of running for political office.  It should not be surprising to witness the results from that system. 

How The Price Mechanism Can End Recessions If We Let It Work

Jim Grant has been getting a lot publicity about his analysis of the 1921 recession in the US.  Grant argues that the price mechanism was allowed to operate and it ended the recession.  Unemployment benefits were not available in 1921 so the unemployed were forced to take the wages that were on offer.  Lower wages allowed producers to cut prices and get rid of unsold inventory without taking loses.  The economy recovered, according to Grant because the price system was flexible and it was allowed to provide the proper signals to workers and producers.  Grant argues that we should have learned a lesson from the 1921 recession.  Instead, we prevented the price mechanism from operating and we have had an extended recovery. This is market fundamentalism in its strongest version.  It must make a lot of people happy to learn that adherence to the law of supply and demand would have led to a rapid recovery from the financial crisis. 

What Were The Ideas That Justified Rapid Privatization In Russia?

Russia is one of the most unequal nations in the world.  The economic advisers who engineered the transition to private ownership of industrial assets were driven by three ideas which turned out to have been wrong.  They started with the assumption that it was a good idea to strike while the iron is hot.  It was better to move quickly than it was to spend a lot of time developing a good process.  Moreover, they understood that any process would be corrupted by political connections with those in power. 

The second bad idea involved the maldistribution of productive assets.  The advisers knew that the new owners would not be efficient operators of those assets.  They reasoned, however, that market forces would lead to a better distribution of assets as the poorly suited new owners sold their assets to more efficient operators.  The assumption is that markets forces will overcome the problem of maldistribution and lead to an efficient use of industrial resources.  That was a terribly wrong assumption.

The third bad idea was based upon methodological nationalism.  The more efficient new owners would want to protect their property rights.  Therefore, they would demand the rule of law which would protect their ownership interests.  It turned out that there was no need for the rule of law to protect property rights.  Capital can be easily moved to locations which protect property rights with little regard for how those asset were acquired.  Property booms in London, New York, Miami and other locations are being driven by Russian oligarchs who are moving their cash to safe havens. They understand that their assets can be taken away by political leaders and redistributed to their political allies.  They have no need for the rule of law to develop in Russia or in other privatized states that were part of the USSR.

The New Republic Is Dead

The New Republic is one of America's venerable print magazines that made a good effort to provide well written journalism to the small audience that exists for good journalism.  It was purchased by a 28 year old multimillionaire who was lucky enough to have been the room mate of the Facebook founder.  This article describes the process by which the new owner destroyed the New Republic and  lost a handful of his millions in the process.  Its not easy making money with print journalism in the digital era but the demise of print journalism will leave its mark on our society.  We will be less well informed and less literate in the "like generation".

Why The UK Budget Forecast Was Wrong in 2010 and Wrong Today

The UK Treasury announced a growth forecast in 2010, along with spending cuts that would balance the budget by 2014.  The economy was expected to grow by 8.4% compounded but it only grew by 4.1%.  Consequently, the budget is not balanced.  There is a 91.3bn deficit.  Lord Skidelsky explains why the government failed to meet its forecast and why its current forecast is worthless.  It really is quite simple.

Government spending in the UK is around 40% of GDP.  Consequently, the private economy must grow very fast to overcome the large cuts in government spending.  The Treasury reported that the budget deficit was largely determined by a decline in tax receipts.  That, of course, is exactly what happens when the private economy fails to grow fast enough to overcome the large cuts in government spending.  Skidelsky predicted that the government would not hits its growth targets and balance the budget when it announced its 2010 budget.  He claims that the government will fail to meet its deficit reduction target in its current budget for the same reasons that it failed to balance the 2014 budget.  Private sector growth will not overcome the cuts in government spending. 

The conservative government may be willing to accept budget deficits if it succeeds in cutting government spending on programs that it does not like.  Its real goal is to cut government spending,  and it is using deficit reduction targets, that it can't satisfy, as a cover for its real objective.  That seems very similar to what Republicans like to do in the US.  They use deficit reduction as an excuse for cuts in spending on government programs that Democrats seem to like.  They are quite happy with government deficits when Republican Administrations cut taxes for their constituency and spend money on programs that they prefer.

China's Economy Surpasses The US Economy: So What?

Joe Stiglitz puts China's economic growth and power in perspective, and he indicates how the US might work together with China in world that is always changing.  Stiglitz has a perspective that is better informed than that of most Americans, however, it is view that most Americans will reject.  The comments that follow this article reinforce most of the points about US arrogance, and its likely  outcomes, that Stiglitz attempted to make in this article.  Ignorance is bliss.  Few of the suggestions offered by Stiglitz will be on the political agenda in the US.  Politicians who advocated his policies would not get elected to office.

Tyler Cowen Reframes The Inequality Debate Away From Thomas Piketty

Tyler Cowen is an economics professor at George Mason university and a director of the Mercatus Center which is affiliated with George Mason.  Other directors on the Mercatus board include Charles Koch the founder of Koch Industries and Richard Fink who is a senior executive at Koch Industries.  The Mercatus Center  focuses on libertarian solutions to our economic problems.  It is highly critical of government regulation especially when it interferes with the free operation of the energy industry.

In this article, Cowen argues that technology and free market innovations will ultimately reduce income inequality.  Unequal access to technology is partially responsible for inequality today because it has not advanced to the point in which it easy to use by unskilled workers.  Highly skilled workers, such as hedge fund managers, earn high incomes because they are able to use technology to outperform less skilled workers.  That advantage will dissipate over time as artificial intelligence makes it easier for less skilled workers to increase their productivity.  This explanation for inequality fits nicely into classic economic theories which assume that incomes are based upon one's marginal contribution to revenue.

Innovation also plays an important role in reducing income inequality.  According to Cowen, America has been a provider of innovations to consumers which increase their utility.  Apparently, reducing the utility gap between high and low income households is an alternative to reducing income inequality.  Wages have been depressed by the globalization of the labor market, especially for manufacturing workers, but consumer utility has been increased because the prices for many products manufactured in low wage countries have declined.  Even better,  low wage countries like China will become innovation centers over time.  In the long run, they will produce products that also increase consumer utility and reduce utility inequality much like the US has done.

Cowen acknowledges that his ideas about technological innovation are speculative and that they only provide a long term solution to growing income inequality.  The intent of his argument, however, is to reframe the inequality debate which has been popularized by Thomas Piketty who argues that the source of income inequality is the gap between the return on capital and the return on wages.  Since the ownership of capital is highly concentrated, and an important source of income,  it follows that income inequality will continue to grow as long as the return of capital exceeds the return on labor.  According to Piketty tax polices which reduce the net return on capital is the best way to reduce the growth in income inequality.  Cowen claims that this is the wrong approach because it would limit the growth in technical innovation, which according to his analysis, provides the means for the reduction in income inequality.

Piketty's focus on wealth taxation may be futile because it would be opposed by powerful people like those who fund the Mercatus Center at George Mason University.  On the other hand, there is no reason to believe that higher taxes on capital will reduce innovation, or that increases in consumer utility via product innovation, and lower prices, is a good substitute for greater income income equality as Cowen assumes.  Cowen has done his job, however, if he succeeds in reframing the debate the debate on income inequality.  That, of course, is what he is paid to do.  Curiously, his income is not dependent upon the use of advanced technology.  He was gifted with high intelligence which he has been able to sell at a high price to those who can afford to purchase and shape the uses to which intelligence is applied.

Deceptive Marketing in The Internet Age

Millions of people would like to sleep better.  The Internet provides a great opportunity to use deceptive marketing to tap into a potentially huge market opportunity.  The Clever Owl website is operated by HFM Marketing, which is owned by Somnapure Products, that provides the "natural" product that will help millions to sleep better.  Its rather strange to for a firm to do its marketing through a subsidiary that it owns, instead of using an internal marketing division,  but there are probably some legal advantages to this arrangement which also enhances the impression that HFM's website provides legitimate news. 

The Clever Owl website uses some interesting gimmicks to legitimize the Somnapure product.  Everyone is familiar with CVS, GNC and Walmart.  They are legitimate retail brands and the article claims that Somnapure's product selling great at CVS but it provides no data on sales at CVS.  There is a sidebar on the right of the page which provides links to the three retailers that are well known.  If you click on the link to any of the retailers you are not taken to their website. Instead you get a sales pitch on the product which claims that the product is scientifically proven, natural and made in America. The link to the popular retailers is only used to legitimize the product.  No scientific evidence is provided to back up the claims made about the product, but the appeal to a natural product made in America may overcome that minor difficulty.

One might think that the salesperson would conclude her pitch by sending them to one of the three popular retailers that can be found anywhere in America.  Instead she offers a free trial that is only available online.  What she doesn't tell the unfortunate person who would like to sleep better is that Somnapure will ship a months supply of the worthless product, and charge it to the credit card used to pay for the shipping and handling of the free trial, unless the recipient of the "free trail" cancels that part of the deal which is buried in the terms and conditions of the offer.  Somnacare is not interested in securing a satisfied customer who will benefit from its product and continue using it.  It is primarily interested in making a single sale for $70 to millions of customers duped by the free offer.

This is only one example of this new form of predatory marketing that use the "free offer" gimmick and the Internet to sell worthless products to our most vulnerable citizens. This is a link to Clever Owl's sponsored article on Yahoo selling another product that is supposed to enable men with enlarged prostates (which includes almost every male over 50) to sleep through the night.  The link to the free offer is set up so that it can be clicked before the terms and conditions are visible.

Two Nations Divided By Race And Culture

This article describes the new "Solid South" in the US. It turned completely away from the Republican Party after the Civil War.  There were not many new born males named Abraham in the South after the war.  The old confederacy remained culturally and politically conservative after the war, but it was represented by conservative members of the Democratic Party for generations.  That enabled the Democratic Party to exert enough power in Congress to pass the civil rights bill under Lyndon Johnson who rose to power in Texas as a democratic Senator.  Johnson correctly predicted that passing the civil rights bill would put an end to the Solid South represented by the Democratic Party.  The Republican Party now controls almost every state legislature and governorship in the South; it is also likely to replace the remaining democratic Senator in the South with a republican.  The incumbent democratic Senator made the mistake of voting for bills promoted by the national party headed up by a president that is despised by white voters in the South who almost unanimously voted against him in the national election. 

Richard Nixon was the first republican president to exploit religious and cultural issues to begin the republican conquest of the old confederacy.  He publically courted the popular Evangelist  Billy Graham and he capitalized on conservative backlash in the South to the anti-war protests of the Vietnam era and the "Hippie Culture'" that represented a threat to traditional "Family Values".  That formula has been very successful in the old confederacy which has had a strong tradition of militarism, evangelism and traditional values exemplified by the white majority.  It also works in rural states which have historically been represented by the Republican Party.  Unfortunately, the two major political parties in the US have been driven further apart by the exploitation of cultural divisions to gain political power.  The polarization that we see in Washington is not primarily about policy issues that can be debated and resolved by a somewhat rational process as it has been done in the past.  Polarization today represents cultural divisions that are being exploited to win elections.  Its hard to see how a nation so divided can reach agreement on the critical policy issues that we face today.  This does not auger well for the rest of the world that looks to America for leadership.

Why Housing Prices Should Rise In Areas With A Fixed Supply Of Housing

Interest rates are at historically low levels in many parts of the world.  This article looks at two explanations for falling interest rates and concludes that housing prices should rise in areas where the supply of housing is relatively constant.

If the price of capital is falling as the cost of computing and networking technology responds to Moore's law, then business investment will fall.  That will decrease the demand for savings relative to the supply of savings and push interest rates lower.

Similarly if the the ratio of government borrowing to GDP declines the demand for savings will fall and interest rates will fall.

The decline in business and government demand for savings will divert savings into residential real estate in response to lower rates.  That will have two effects: it will dampen the decline in interest rates and it will cause housing prices to rise in areas where the supply of housing is relatively fixed.  That might partially explain the rapid increase in real estate prices in highly desirable locations such as London, NYC and the Bay Area.  The demand for housing is increasing faster than the supply of new housing.  It might also explain the price increases for entry level housing in highly desirable suburbs which have little room for the development of new housing.  Low interest rates increase the affordability of homes in suburbs with good schools and other amenities that would otherwise have been priced out of their market.

Another Lesson For Investors Who Pay High Fees To Investment Advisers

This article in the WSJ (behind paywall),  shows that only 9.3% of actively managed mutual funds beat the S&P 500 index by the end of September.  That is well below the previous low in 1995 of 12.9% that failed to beat the S&P 500 index.  While some funds do beat the S&P index in any given year, most of them fail to consistently beat the index in subsequent years.  It would appear that investors who continue to pour money into actively managed funds are not as rational as we assume.  They prefer to pay high fees in anticipation of hitting the jackpot.  They are much like those who purchase lottery tickets in the hope they can defy the laws of laws of probability which work against them.

How To Promote Economic Growth In The US

The Cato Institute invited a number of economists to present their view on policies that would promote economic growth.  Douglas Holtz-Eakin, who was Mitt Romney's economic adviser in his failed presidential campaign, presented his ideas at the Cato conference.  Brad DeLong read his presentation and gave it a failing grade.  There was nothing new in the presentation; it consisted of the stale nostrums that have always been at the center of Republican economic policy.  That is, cut spending on entitlements, reduce the regulatory burden on business, reduce business taxes and privatize the failing public education system.  DeLong did not give Holtz-Eakin a failing grade for making the wrong recommendations.  He failed him for supporting his recommendations with weak and often faulty data.  Holtz-Eakin probably felt comfortable making his presentation to a supportive audience, but he ruined whatever was left of his reputation as an economist for Brad DeLong who once regarded him as a colleague who would have given a failing grade to any economist who would have displayed a similar disregard for economic literacy.  DeLong's critique of the evidence and data that Holtz-Eakin used to support his economic growth recommendations is withering and it provides a good lesson on the misuse of data by economists who have chosen to become political hacks.

What Is The Logic Behind German Economic Policy Preferences In Eurozone?

Germany is the largest and most successful economy in the eurozone.  It's policy preferences may be one of the factors that have stalled the eurozone economy.  Antonio Fatas offers his explanation for Germany's policy preferences in this article.  Fatas argues that German leaders have a unique opinion about the factors that led up to the economic crisis, and that they prefer structural changes that may be good in the long run, but which are counter-productive in the short run.  German leaders, according to Fatas, also have an attitude about inflation that differs from that of most central banks which have a 2% inflation target.  Germans seem to prefer a zero inflation target.

Fatas sounds a lot like Paul Krugman in his critique of German economic policy preferences.  My guess is that electoral politics in Germany shape the German preferences.  The public has been generally supportive of German economic policy preferences.

Sweden's Center Left Government Can't Pass Its Budget Due To Opposition From Anti-Immigration Party

Sweden's economy and the government's fiscal position is in good shape.  Surprisingly, politics in Sweden are in disarray.  The populist anti-immigration party in Sweden announced that it will not support the budget proposed by the center-left coalition government.  It claims that it will not vote for any budget that encourages immigration.  The coalition government is unable to gather enough votes to pass its budget and it will not operate the government with center-right budget in place.  Public concerns about immigration policy are disrupting electoral politics in much of Europe.  Anti-immigration sentiment in the US, which is a nation built upon immigration, has also become a major political issue.  The US does not have a parliamentary system so the anti-immigration sentiment in the US has been absorbed by the Republican Party. 

How To Make Millions On The Internet

One of the easiest ways to create product demand is to lower the price to zero.  One of the most popular ways to get rich on the Internet is to offer a free trial for a product.  In order to get the free trial the consumer must use a credit card to pay for shipping and handling.  Most consumers will not read the terms and conditions for the free trial.  If they do not cancel the free trial in 14 days their credit card will be hit with a recurrent charge for monthly refills of the product.  The crooks who use this deceptive practice also make it difficult to cancel the order. 

The link that I provided is to just one of many free trial scams that are being used to trick consumers into unwanted purchases.  Most of the scams target potential victims by appealing to very common problems that can be solved by taking a non-prescription pill that is is sold by featuring other consumers who used the pills to lose weight, build a strong body, enjoy great sex, shrink an enlarged prostrate etc.  Most consumers are too smart to pay over $70 per month for the worthless pills.  They get hooked by accepting the free trial, and by not clicking a link to the terms and conditions. 

What really aggravates me about this scam is that it is not illegal to use this deceptive practice to initiate a purchase by default.  Moreover, the ad that I linked to was placed on Yahoo.  You get to the ad by following a link in an article which appears to be a news article about products being used by well known athletes.  Apparently, Yahoo does not worry about accepting money from crooks who pay for the ads on their site.

The Washington Post Rewrites Economic History

Robert Samuelson has a weekly column in The Washington Post that gives him a platform to broadcast his views on economic topics.  His approach is similar to that of David Brooks who writes opinion pieces in the New York Times.  They both rely upon conservative think tanks, and conservative authors, to fuel their imagination about the political economy.  They are both skillful writers with the ability to condense complex economic ideas into short articles that reach millions of readers.  Samuelson follows that tradition in this article.  The libertarian Cato Institute hosted a conference that featured James Grant who wrote a book on the US recession in 1921.  Grant argued that the recovery from the 1921 recession was more rapid and stronger than the recovery from the Great Recession because the government did not intervene in the market.  Prices and wages were allowed to fall.  Lower prices encouraged consumers to spend and lower wages provided businesses with an incentive to hire more workers.  Samuelson, following Grant, concludes that we would have had a faster recovery from the Great Recession if we had allowed the price system to work its magic.  Samuelson takes Grant a step further.  He asserts that the recovery from the 1921 recession destroys the intellectual capital of the economics profession which advocates counter cyclical fiscal policy in response to recessions.

Samuelson's article will misinform millions of readers about the political economy.  The rebuttals to his article will reach a handful of readers.  It is no wonder that the public is generally confused about the political economy and the role of government in the economy.  The new owner of the WP is a libertarian who will be pleased with Samuelson's contribution to the public understanding of the political economy.

Europe Is Paying A Price For The Cost Of Bad Ideas

Paul Krugman rejects the idea that the eurozone is having economic problems because of the irresponsible behavior of some of its member nations.  With the exception of Greece, Krugman does not see a competitiveness problem or fiscal irresponsibility as the root problem in the eurozone.  He argues instead that Germany is exporting deflation to its neighbors, and that it is imposing its bad economic ideas on the rest of the eurozone.  Unfortunately, policy makers in the eurozone have bought into the economic ideas being sold by Germany.  In Krugman's mind, German economic ideology resembles the economic ideology that emanates from the University of Chicago in the US.