Saturday, December 31, 2011

How Cultural Changes In Financial Industry Led To Current Problems

This is a link to a video interview of Satyajit Das who has spent his career in the financial industry. He argues that many of the problems in the industry were caused by a cultural shift. He describes the cultural shift and explains how it affected the industry. The influx of young MBA's with mathematical modeling tools led everyone to believe that risk could be eliminated. It turned out that the models increased confidence among practitioners, but they did not eliminate risk.

2011 Is Ending. How Does The IMF View 2012?

The IMF is not very positive about 2012. It looks at the data and concludes that slow growth in Europe and the US will have a bad affect on the global economy. Unemployment rates have not improved much in the largest economies despite moderate growth rates. There are only a handful of countries that have seen unemployment levels drop.

The IMF is in a quandary. It has encouraged austerity in countries with high public debt, but it believes that these policies have hindered recovery.

2011 Was A Bad Year For US Bank Shareholders

This chart shows that it was not a good year for the shareholders of US banks. It was a much better year for the top executives. They still took home seven figure pay checks. We call that pay for performance.

Friday, December 30, 2011

My Perspective on The Political Economy of 2011

"It is notable and inspiring that as the Occupy Wall Street movement took shape around the United States and other parts of the world, the participants in the occupations organized themselves as communities of equals, in which every voice is equally prized and harmonious consensus is avidly sought. The hunger for democratic community and self-determination is palpable. This is not the laissez faire form of self-determination, in which each individual strives only to determine the course of one individual life, but a more encompassing phenomenon, in which people strive to build and sustain communities and then work together as equals in order to make well-founded, democratic decisions to determine the direction of the community. It’s hard work. But the work is inspiring and ennobling, and people are naturally drawn to it.

In both the United States and Europe, policy-making elites – whose allegiances are to the plutocrats who are responsible for funding and sustaining the political operations of these elites – are aggressively working to take advantage of the stress and confusion caused by the present global economic crisis to dismantle progressive social systems. They are targeting systems of public ownership and organized social cooperation, and are working to undermine the capacity for democratic governance. For the very wealthy, democratic governments represent nothing but competitors. These governments have sometimes acted in the past to diminish some of the formidable power the wealthy would otherwise possess over entire societies, and they sometimes even strip them of some of the wealth that they have earned from the sweat of others. Plutocrats would like nothing better than to put real democracy out of business, and to leave behind nothing but a toy facsimile of democracy – something like a high school student government that is allowed to engage in a little democratic role-playing inside an adult social institution that the students really don’t control".

This is a quote that describes what the economic debate has been about in 2011. It is not about economic theory. It is about a 30 year battle to determine whether democracy can be made to serve the public interest, or whether it will be made to serve the interests of the plutocracy which views real democracy with disdain, and also as a threat. The attack on government, and the encouragement of despair about our ability to govern ourselves democratically, are part of the game plan. The Occupy Wall Street protests, are the beginning of a counterattack. Hopefully, it will be a spark that informs others, and inspires others to work with them to align government to the public interest. Link to article

Economic Policy and German Literature

The Financial Times reminds us that we are human. Our morality and our value systems are shaped by our cultural experiences. This article attempts to connect European attitudes about debt and credit, and fears about the potential abuses of fiat money, to current policies in the eurozone.

2011 Was The Year Of Expansionary Austerity That Was Proven Wrong

Krugman sums up 2011 by listing all of the ways in which expansionary austerity was proven to be wrong. He believes that this vindicates Keynes who made the case for austerity during booms and deficits during recessions.

The case for expansionary austerity does make sense to those who observe governments providing benefits to "undeserving citizens" by borrowing money instead of collecting taxes to pay for the benefits. Greece is often given as an example, and some conservatives compared the US to Greece after Obama made an effort to stimulate the economy during recession. This enabled the GOP to revive its slogan about "tax and spend democrats" that has always appealed to its base. They even argued that America was facing bankruptcy if it did not cut spending immediately and make cuts to entitlements. The GOP represented itself as the fiscally responsible party in opposition to the spendthrift democrats. That has been their historical role as the minority party and they have pursued it with vigor.

The electorate has a short memory and stereotypes have a long half life. America had a government that raised entitlement benefits, and paid for them by borrowing so that it could also cut taxes. One might say that it looked much like Greece in doing so. That "borrow and spend" government was the GOP government under George Bush. An expensive drug benefit was added to Medicare just prior to the 2004 election, and it was paid for by running budget deficits. This is a good way to win elections. You cut taxes which makes everyone happy, and you give senior citizens an expensive benefit just before an election. That is how the "fiscally responsible" GOP operates when it is in office. The deficit hawks were silent while government ran up huge deficits during the Bush administration. They were also silent when Ronald Reagan also ran huge budget deficits by giving the electorate tax cuts and increasing spending on defense. Deficit hawks are a strange breed. They go into hibernation when the GOP runs the government, and they awaken with ferocity when government is turned over to democrats. The last government that ran budget surpluses in America was the Clinton administration. He raised taxes and benefited from a booming economy and he controlled spending. The stereotypes of the Democratic party, and the image of the GOP as the fiscally responsible party, are hard to kill. They are firmly held by Washington pundits, and the GOP has its own TV and "news" outlets which are devoted to their preservation.

While there are many differences between the US and Europe, it is not surprising that expansionary austerity has prevailed in Europe. There are conservative governments in Germany, France and the UK.

Thursday, December 29, 2011

Do Economists Have A Reading Problem?

Paul Krugman criticized Robert Lucas who argued that government spending cannot stimulate the economy. In this post he responds to an economist who believes that he wrongly criticized Lucas, because Lucas did not say what Krugman claimed that he had said. It is pretty clear that Lucas did say that government spending cannot stimulate the economy. He stated that government spending only expanded the money supply. Therefore, fiscal policy is useless.

Krugman, gets more than his share of comments from critics who don't like what he has to say about the economy. Many of his critics learned their economics from economists who have been influenced by the Chicago School. These economists conform to an ideology which holds that government should not intervene in the market. Robert Lucas is a prime example of that school. His theory of rational expectations suggests that no matter what the government does to intervene in the economy, individuals will perceive the implications and adapt their behavior to blunt the impact of government policy. Krugman's critics may not have a reading problem. Krugman is attacking their religion. Moreover, he is essentially a Keynesian who believes that fiscal policy has a role to play in a recession. Lucas, and others in the Chicago School, have devoted their careers to eliminating Keynesian ideas from economics. Lucas said that graduate students only giggle when someone refers to Keynes. What we are seeing is religious warfare in economics that is being played out in US politics as well. It is not surprising that economists appear to misread each other. That may be a good thing. If economics did not matter in the real world, and for many years it did seem irrelevant, what would be the purpose of teaching it? This is a good time to be teaching economics and to sort out ideas that matter from those that exist only in assumptions about how imaginary people behave in an imaginary economy.

Did Excessive Government Debt Cause The Eurozone Crisis?

Many believe that the current problems in the eurozone are the result of excessive government debt in southern economies. This graph (via Paul Krugman) shows the composite debt to GDP ratios of Greece, Ireland, Portugal, Italy and Spain since 1999. Their composite debt was falling until 2007. Things changed dramatically in 2007 when the financial crisis hit Europe and the US. The soaring debt to GDP ratios appear to be the result of the financial crisis which slowed growth and caused GDP to fall along with tax revenues. The resulting budget deficits, combined with lower GDP, caused the higher debt to GDP ratios to become unsustainable. The weakest economies in the eurozone were the most vulnerable to the recession. Ireland and Spain, in particular, benefited most from housing bubbles, and suffered most from the bursting of the bubbles.

Confusion About How Good 2011 Was For US Economy

I had dinner the other night with a friend that told me he was confused because he is hearing lots of comments on the economy that are positive, yet unemployment remains high. One of the reasons that he is confused, besides watching CNBC talking heads every day, is that some economists are saying that 2011 has been a good year. Dean Baker wrote this article to keep my friend confused. He explains why it was not a very good year. I think that Dean Baker wins the debate but my friend will keep watching talking heads on CNBC, and he will continue to read the Wall Street Journal's editorial page.

What To Do About A Stalled US Economy

This article looks at analyses of the US economy by Siglitz and Sachs and generally agrees with their conclusions about how we got to where we are. It disagrees with their suggestions about what we should do about it. The suggestion is that we take advantage of our natural resources and build an economy around cheap energy and other natural resources. A lot of the comments that follow are on the issues of sustainable development because of environmental concerns.

Wednesday, December 28, 2011

The Golden Age Of Unregulated Capitalism

This is a review of a book on the history of the transcontinental railroads in the US. It is often celebrated as an example of the entrepreneurial spirit that made us prosper. It turns out that what really happened does not square with the fairy tale about the utopian form of free market capitalism. It would not have happened without government subsidies and financing. There was not sufficient demand to operate profitably and crony capitalism, rather than free market capitalism, enabled the railroads to survive and make their owners and speculators super rich. It looks much like the banking industry today.

Krurgman Won't Waste His Time On David Brooks

Paul Krugman decides not to bother debating David Brooks. It is pointless. He believes that we can learn something from the Great Depression. When aggregate demand was below the level required for full-employment, government spending brought aggregate demand to the level needed for full-employment. End of story.

Dean Baker Does Some Fact Checking On David Brooks

Dean Baker read the David Brooks article that I posted yesterday and he decided to take it seriously and point out the errors in the Brooks essay. Brooks is very smart and clever but his job on the NYT is to balance the work of Paul Krugman. The result is that we get a conservative and a liberal on the op-ed page. Krugman is a Nobel Laureate economist, and Brooks is an amateur sociologist, historian, who has a talent for writing articles that appear to be deeper and more learned than they are. He is just a more sophisticated version of Rush Limbaugh. He just makes things up. Unfortunately, he is very successful. I have several well educated friends who love his columns, and his slot on PBS every Friday. They like him because he is smart, and he gives the impression of being moderate. I can't convince them that he always works his way to a conservative answer to the questions that he raises.

Tuesday, December 27, 2011

Argentina May Provide A Good Example For Dealing With Eurozone Debt

This article proposes Argentina as an example for how the eurozone crisis might be resolved. Austerity measures have been imposed upon indebted southern european countries in the expectation that this will enable them to become creditworthy. The problem is that debt to GDP ratios won't improve without growth in GDP. Austerity has proven to be bad medicine for economic growth.

One of roadblocks in the eurozone is that banks in core countries hold much of the sovereign debt that is at risk. The debt needs to be written down in order to give the indebted countries any hope for recovery. That is not popular with the electorates and the politicians in the core countries. Argentina faced the problem and offered their creditors an upside to compensate them for the debt forgiveness they needed. They issued warrants that gave the creditors the opportunity to benefit from GDP growth above 3.3%. Argentina is doing very well today and so are their creditors. They got a 500% return on their investment.

David Brooks Claims To Be Better at Reasoning by Analogy

David Brooks claims that the Obama administration is not good at making historical analogies, They got it wrong when they compared the Great Depression to the Great Recession because he believes that government was respected in the 1930's and it is feared today. He cherry picked some polling data to make that point. They also got it wrong when they compared our situation to the progressive era because that too was different from today according to his reading of history. He then turns around and makes his own analogy. At least this is about something that he should understand. He compares our economy to a middle aged person. He then explains what government should do, or refrain from doing, to his middle aged patient.

Reasoning from analogy usually leads to bad results. The Obama administration, and the great majority of economists who looked for comparisons to the Great Depression, may have been wrong, given Brook's superior reading of history. I would not want to build an economy, however, on a comparison with middle aged pundits.

The Problems Are Big, But We Think Small In Washington

This article does a good job of explaining why our politicians need to think big and some of the reasons why they do not think big.

Low Yields on US Debt Raises Concerns About Global Economy

The lead article in Ezra Klein's blog is about his concern over the global economy. He believes that the willingness of investors accept negative real interest rates on US treasuries is an expression of their concern over the global economy and an interest in secure assets. He also can't understand why the US does not use this borrowing capacity to fund infrastructure investments that can boost the US economy.

He has some other posts that worth reading in this blog.

We Have A Shortage Of Safe Securities

A conservative economist gives credit to the US Fed for increasing the pool of liquid assets available to banks. He believes that they shield the US banks from potential spillover effects from the crisis in the eurozone.

Tyler Cowen raises the issue of the shortage of safe assets in the global financial system. One of the problems with this shortage is that banks use these save assets as collateral that is used to borrow dollars with short-term maturities from US money market funds. Many of their sovereign debt assets can no longer be used to borrow dollars from money market funds. That will affect their ability to provide credit on the European market.

Since the Fed has also increased bank reserves by purchasing their supply of safe US treasuries, these safe assets have also been removed from the market. This is a problem in emerging markets because the US dollar is the global reserve currency. They have been large purchasers of US treasuries as they accumulate current account surpluses that are used in their reserve accounts. That relationship requires the US to run budget deficits that require the issuance of US treasuries to supply their reserve accounts. The dollar is used as the global reserve currency because it is perceived as a safe currency. On the other hand, if the US must continue to run budget deficits and issue debt to supply treasuries for reserve accounts, the dollar may become less safe.

Utopian Capitalism

This article begins by citing a recent book by Richard Branson who earned his billions creating the Virgin businesses. His book makes the case for a form of capitalism that has the well being of people as its goal, and which is more concerned about the longer term. This raises the general question about the relationship between capitalism, which has profit maximization as its goal, and broader social concerns. Adam Smith believed that a system of capitalism, in which everyone pursued their self interest, was workable because people also possessed moral sentiments, and empathy for others, that would moderate the exclusive pursuit of self interest. Alan Greenspan believed that the preservation of a business's reputation would also serve as a limit on business behavior. He claimed to be "shocked" by the behavior of bankers who ruined their reputations in the pursuit of profit. In any case, these are some of the ways in which self regulating capitalism is a form of utopian capitalism.

Most economists believe that incentives drive behavior. If we look at the incentive systems that operate in most large corporations its easy to see why management focuses on short term financial performance. Their compensation is primarily a function of financial performance that is related to the appreciation of their stock options. Ostensibly, the incentive systems were designed to align the interests of management with that of shareholders. Corporate directors are there as well to look after the interests of shareholders. We have learned that this system does not achieve the intended result. Corporations are managed to maximize executive compensation and that does not always benefit shareholders. Corporate boards, are largely comprised of corporate executives as well. We have a form of corporatism, that we call capitalism, that is operated and governed by a management class. Shareholders have a very weak form of control over the businesses that they collectively own. They can sell their stock if they are not happy with management. I don't think that this is what most people mean when they define capitalism as the ownership of the means of production. The management class has developed an incentive system and a form of governance which is heavily weighted to serve its best interests.

Some argue that corporations are legally defined by governments and they operate in conformity with laws that are written by legislatures that are democratically elected to assure that they operate in the public interest. If that worked out in accordance with theory, we would not need to depend upon the good will of business management to limit the human propensity to maximize self interest. Politics in many countries is essentially about how the relationship between government and business ought to function. We have libertarians who argue for a very limited role for government in this relationship. Of course, most of them do not object when governments provide infrastructure and services which enable business to operate profitably. They also don't seem to be troubled when government spends tax dollars on the purchase of products and services by private industry. The "libertarians" compete with those who argue for a larger role for government in producing business outcomes that serve the public interest as well as corporate interests. They also understand that capitalism is dynamic, and that business cycles are omnipresent for the economy as a whole, and for industries and firms. They believe that government should play a role in moderating the impact of business cycles. This might mean providing assistance to workers and in some cases government might assist businesses which need assistance in a bad cycle, or even when they have taken risks which might cause business failures that affect the economy as a whole. Libertarians describe this kind of relationship between business and government as socialism. That would mean that capitalism does not exit in our mixed economies. Of course, one of the problems with a tight relationship between business and government is that governments might tend to confuse the public interest with the interests of the businesses that they regulate. In that case, we have a failure in the democratic processes by which the public regulates the performance of government through the electoral system which has increasingly required political candidates to obtain campaign contributions from the executive class that operates the corporate system.

It should be apparent that capitalism can only be defined in very broad terms. It takes different forms in different social and political environments. Capitalisms in Japan and Sweden are different from each other and they both differ from how it functions in America. In fact, our current form of corporate capitalism in the US is very different from how it operated in the past. Moreover, globalization has changed the relationship between the nation state and the large corporations that increasingly operate across national borders, and fall under the jurisdiction of multiple governments. Increasingly, the nation states have been forced to organize among themselves to deal with issues that impact their national interests. This has not been an easy adjustment.

This article was precipitated by the publication of a book by a successful capitalist who has some ideas on reforming capitalism. They were described as utopian capitalism. In my view, most common definitions of capitalism are utopian. They describe capitalism as a system of free markets that are regulated by competition. Very few markets work this way. We have a system that is dominated by very large corporations that function internally as command and control systems. That form of organization is usually attributed to the totalitarian state, but that is the way even highly decentralized corporations are organized. If it were otherwise, we would not attribute so much importance to the CEO and the executive leadership team. They make all of the strategic decisions and they hold decentralized management responsible for achieving financial goals set by corporate management. Corporations, of course, compete with each other just as states compete with each other. Winning in this environment often requires cooperative behavior between competitors with a common interest. It also requires the use of resources and strategies that limit the ability of competitors to enter markets that are controlled by a handful of very large firms that have greater revenues than many nation states. This is not the utopia that is commonly defined by the operation of free markets.

Monday, December 26, 2011

Wages Really Are Sticky

Neo-classical theorists argue that recessions will lower wages and cause employers to hire the unemployed and put an end to the recession. This argument is being used in Europe to justify the use of fiscal austerity by governments to deal with the financial crisis. Austerity will lead to unemployment which will cause wages to fall and make at risk countries like Ireland more competitive in international markets. Rising exports will eventually improve their fiscal position.

This graph (via Paul Krugman) shows that wages tend to be sticky. Wages have not fallen in Ireland, Latvia and Iceland following recession and high levels of unemployment. Its easier for employers to cut the workforce than it is to reduce wages and destroy the morale of retained employees. On the other hand, Iceland's wages have fallen dramatically when measured in the euro. Its currency depreciated relative to the euro and this has made Iceland's products more competitive on international markets. Countries in the eurozone are not able to depreciate the common currency and become more competitive quickly as Iceland has done. It will take a long time for austerity to work its way through in the at risk countries in the eurozone. It will be very difficult for them to become more competitive in international markets and restore their economies.

Another Big Lie Bites The Dust

The GOP will always find a way to blame government for our economic problems. They get lots of help from conservative "think tanks" like the American Enterprise Institute, and from the Ruppert Murdoch media that includes the Wall Street Journal and Fox News.

In this case, the GOP takes the position that the financial crisis was caused by government efforts to increase home ownership among low income Americans. Fannie Mae and Freddie Mac, which are government sponsored entities, purchased sub prime mortgages from mortgage originators and caused the financial crisis according to the GOP. Fannie and Freddie did purchase sub-prime mortgages but only because its executives were concerned about the loss of market share to Wall Street banks which had entered the market and had purchased most of the sub-prime mortgages.

This is just another of the big lies that won't go away. Hitler's propaganda minister said that if you repeat a lie often enough it will be believed. Moreover, he claimed that the bigger the lie, the more believable it would be. The GOP has learned this lesson well.

Environmental Protection Agency Finally Protects US From Mercury Pollution

The Environmental Protection Agency (EPA)released new rules that regulate mercury and other toxins. These rules are long overdue given the affect that mercury has on the nervous system when it is released into the air and enters the food chain. The Republican Party is bankrolled by businesses which are the biggest polluters in the US. It has tried to neuter the EPA and other regulators at every step. The GOP argues that regulation raises costs and kills jobs on the campaign trail. It seems less interested in the affect that toxins have on young children. Their base usually applauds their claims despite the effect that toxins might have had on their brains (or perhaps because of the effect).

European Crisis Creates Opportunities For US Firms

The financial crisis in Europe has created opportunities for American banks and financial firms. European banks are required to meet new regulations which will require them to hold more capital against their assets. It is anticipated that they will need to unload $3 trillion of assets, many of which are in the US. The credit squeeze in Europe has also made it more difficult for businesses in Europe to maintain the credit flow needed to run their businesses. US buyout firms are scooping some of them up as well.

Friday, December 23, 2011

Happy Holidays

This is holiday time in many parts of the world. In my world, it is time for our family to spend time together. This will be my last post until after the weekend. See you on Monday.

Romney Reinforces The Conservative Narrative With Lies That The Media Ignores

Krugman lists some of the falsehoods about Obama that Mitt Romney has been using in his campaign. Attacking the president helps him if he gets nominated by the GOP to run against him, but it also helps him in his battle for the nomination. The GOP base has been taught to hate our elected president and they respond favorably to lies about him.

Krugman's main point, however, is that the media will simply repeat the lies about Obama because they have strange view about objectivity. They believe that they must tell both sides of the political story even if one of the sides is blatantly false. Fox News and other GOP media don't observe objectivity rules but they tell their base that the "main stream media" have a liberal bias and they should not be believed. In fact, the MSM bend over backwards to avoid liberal bias.

Krugman avoids making a point, however, that needs to be made. Romney's attacks on Obama are not random. He assumes that neo-liberal ideology is a strongly held value system and his comments about Obama, even though they are untrue, place him outside of that value system. It also reinforces the ideology which is essential to the GOP narrative. His second point reinforces the ideology that is often expressed as "my country, right or wrong, my country". This is the idea of "American Exceptionalism". We are superior to other countries and we need to use our military power to project our values on the rest of the world. That is why Romney lied about cuts to the military budget, and why he lied about the president being apologetic to the rest of the world. The right wing media had a field day when the president followed protocol by bowing to the Queen of England and other leaders during his visits abroad.

There is a segment of the American population that will not be dissuaded by attacking conservative ideology. On the other hand, there is a large segment that would be responsive to a new narrative.

Harvard Versus Yale May Become The "Big Game" Once More

This article explains how middle class students can get admitted to Ivy League colleges and afford to pay the bill. You just need to be a recruited athlete and meet the academic standards for admission. Financial aid is available that greatly reduces the cost. Thousands of applicants who meet the admission requirements get rejected every year. Recruited athletes have a much better chance of being admitted. These colleges will now be able to recruit students who might have gone to other selective colleges like Duke, Notre Dame or Boston College which provided more financial aid to athletes.

The Great Recession In The US And The Slow Recovery

This graph illustrates how the economy responded to financial crisis and it shows how weak the recovery has been. In the recent past, recoveries have been V shaped. This recovery is L shaped. There was a slight jump due to the stimulus but it was weak and short lived. The decline in state and local spending muted much of the growth in federal spending. Household deleveraging, and a decline in consumer confidence, continues to have a negative effect on consumption. That, in turn, affects business investment.

Some argue that the real estate bubble masked a longer term trend of slow growth in real household income. The bursting of the bubble has made that trend visible as well. Part of what we observe is a regression to the unfavorable trend that was obscured by the use of rising home equity and mortgage refinancing during the bubble to stimulate spending.

Has The Real Estate Bubble In China Burst?

This article describes a bursting real estate bubble in China. It was fueled by private developers, and investors who purchased multiple units on speculation that prices would continue to rise. The investors used cash to purchase the units so they are not forced to sell and banks are not at risk, but prices have dropped in many areas. Real estate has been about 10% of China's GDP, so it has been a contributor to the drop in GDP growth along with falling exports to the US and Europe. This will affect economies like Brazil and Australia which provide commodities to China.

Thursday, December 22, 2011

Preparing OWS Protesters For Going Home For The Holidays

This is a humorous video (via Samantha Struzinski) that enables some of the OWS protesters to have a better time going home for the holidays.

Italy's New Government Passes Austerity Plan

Italy passed an austerity bill that was designed to reduce its budget deficits. Details of the plan are not described but the intent of austerity plans is make exports more competitive. That is accomplished by reducing wages and deflating prices. That usually takes a long time and ordinarily requires a recession along with high unemployment.

How Should We Pay For Higher Education?

This article raises questions about how we fund higher education. The impetus for the article came from student movements at Berkeley and CUNY which are protesting what they see as the privatization of public education.

The government subsidizes higher education in numerous ways that are presented in the article. The total cost to government is comparable to what it would cost if government paid for the cost directly. The government prefers to use the tax code to subsidize higher education. For example, interest paid on student loans is tax deductible, employers can deduct the cost of funding employee education from income, banks are subsidized for making student loans, and there are numerous government programs that help to pay for higher education. This method of subsidizing higher education has also enabled corporations to enter the market in the pursuit of profit.

Government's role in funding education raises a fundamental question. It can subsidize higher education through the tax code, that turns potential students into consumers of education, and it enables the market to determine outcomes. The rationale for government subsidization of higher education is that it is a public good. If it is a public good, however, government could pay for it directly and not let the market determine outcomes.

Countrywide Gets A Slap On The Wrist For Predatory Lending

The Justice Department proudly announced a multimillion dollar settlement of a suit against Countrywide for discriminating against minorities when originating mortgages. The comments that follow this article suggest that justice was not served by this settlement.

Countrywide was engaged in predatory behavior. Its brokers were given the freedom to take advantage of poorly educated customers. It is a classic example of market failure under conditions of asymmetric information. Predatory behavior of this sort was common practice during the housing bubble. It started with mortgage origination and it continued as the mortgages were packaged into securities and sold to customers who knew less about the products than the investment banks that sold them. In other words, predation became common practice within the banking system. This makes the idea of consumer sovereignty a joke. It also demonstrates what happens when those who benefit from predation are not punished for their behavior. The management of Countrywide, Washington Mutual, and other mortgage originators walked away with millions and they were punished by fines that were largely paid for by the corporations that they ruined. The same can be said for the investment bankers who either failed to manage their businesses or were actively involved in encouraging predatory behavior. Justice has not been served and the public has lost confidence in our system of justice.

Wednesday, December 21, 2011

Can Liberal Democracy Survive The Decline of The Middle Class?

This is long article that should be required reading for everyone. It begins with an overview of history and ideologies. It accurately describes the factors that are leading to declining incomes in the middle class and argues that liberal democracies are dependent upon a middle class. There are reasons to believe that decline of the middle class will continue, along with support for liberal democracies, unless the left can present an ideology that can attract the middle class. The prevailing political and economic narrative is conservative and it has done a better job of presenting a coherent ideology to the bulk of the middle class. This has been true in Europe as well as in America.

My focus in this overview of the article, is to review the essential elements of liberal democracy that will engage the middle class in making the changes necessary to preserve liberal democracy. It consists of political and economic elements that need to be presented as a coherent package.

The existing conservative narrative places the market above democracy. The new narrative must reverse this narrative. The economic narrative must be subordinated to the restoration of a well functioning democracy. Government must be legitimated as an expression of the public interest. This will require a redesign of the public sector and the use of technology to efficiently deliver public services. It will also require the presentation of a realistic route to ending interest group domination of politics.

A new vision of capitalism must be presented that is valued in terms of its benefits to the middle class. The market is not an end in itself. The conservative narrative rests on the vision that markets, left to their own devices, can better serve the public interest. The case must be made for a workable partnership with government. Globalization provides benefits but it has also led to developments that threaten the middle class. The public must understand that globalization with social controls is superior to globalization shaped primarily by corporate interests, and corporate direction, justified by the ideology of free trade.

The current narrative rests on an edifice of neo-liberal ideology. That ideology must be attacked thoroughly and with continuity. It won't be unseated overnight, but it can be replaced by a coherent new paradigm. That paradigm needs to be developed. It cannot rest upon the restoration of old paradigms that no longer appeal to the middle class.

The current narrative holds that incomes represent contributions to society, and it holds that individual preferences are sovereign. A new liberal narrative must replace this 200 year old narrative that does not represent current reality. It should acknowledge that even if markets were efficient in rewarding socially useful talents, the distribution of talent as well as access to education is unevenly distributed. Individuals are shaped by the surrounding society which can be made much fairer as well.
The populist ideology which has motivated the far right must be reshaped as a critique of elites who place their interest above the public interest. It must also be coupled with a route to a political system that is not dominated by monied interests.

We should expect that income inequality will continue to grow since present trends are self reinforcing. The question is whether the left can recognize why its narrative has not been effective, and whether it can provide a better narrative than the prevailing ideology of free markets and a smaller state.

Reverse Brain Drain Is Not Necessarily Bad

This article (via Manan Shukla) describes the increasing number of skilled workers who are going back to India or China to pursue growing opportunities in those countries. US immigration policies make it more difficult for immigrants to migrate to the US, while other countries are doing their best to recruit skilled talent. In the last analysis it may be better for everyone if the number of opportunities for skilled worker expands. This many encourage students everywhere to pursue higher education as long as access to education is expanded.

Housing Starts Versus Population Growth Graph Signals Future Growth

This graph shows that housing starts relative to population has been very slow following the bubble burst. Some view this as a good sign for future growth. There is a lot of latent demand for housing being built up. The Graph is also interesting from another perspective. Growth in housing starts skyrocketed after our recent recent recessions. The Fed lowered interest rates during recession and this meant lower mortgage rates and new homes were built to put an end to recession. That is not happening following our last recession. That is one of the reasons why the economy has not resumed growth, even at historically low interest rates.

Disruptive Innovation In Emerging Markets

This article describes the shift in technical innovation and R&D from OECD countries to emerging market economies. The implication is that emerging market countries will have a larger slice of future economic growth as they move up the value added chain in manufacturing and in R&D.

Why The Changes In The GOP Base Are Bad For America

Robert Reich explains why the internal conflicts within the GOP are bad for the US. He also provides a good analysis of the tea party. It is represents a cultural segment of rural and southern America that has been with us for a long time. They voted for the "Dixiecrats" in the South before the civil rights act shifted them to the GOP. The GOP has become more dependent upon on their votes since its base in the East and the Midwest has become more liberal. This is unfortunate for America since its influence has been a powerful force in making the country less governable. Compromise used to work in Washington. Today compromise is a bad word, even when Democrats give ground in order to reach agreement with the GOP.

Go East Young Man (Or Woman)

American college graduates find opportunities in India.

ECB Moves to Provide Liquidity In Europe

The ECB loaned over $500 billion to European banks. The loans were made at 1% interest and they are not due for three years. The ECB also accepted riskier assets as collateral. This action was taken to help banks turn over short term notes that will mature in a few months. Stock markets rallied on the news but the enthusiasm was short lived.

Cornell and NYC Make A Deal To Build Graduate Center

We need more deals like this. This is productive way for local government and universities to work together. Its also a good way for billionaires to use their money.

Tuesday, December 20, 2011

An Analysis of the Global Banking Glut And Our Current And Future Problems

This is an excellent, but technical argument, that shows the affect of cross border bank lending as the cause of the problems in the banking system. Cross border bank lending is shown to be a problem in the US as well as in the eurozone. It enabled the subprime bust in the US and it fueled the housing bubbles in Ireland and Spain.

European banks played a role in fueling the housing bubble in the US by taking advantage of the shadow banking system. US subsidiaries borrowed money from US money market funds and sent the money to headquarters. They purchased mortgage backed securities from US investment banks which funneled the money back to the US. When those assets declined in value it made credit tight in Europe and required government intervention to salvage the banks. A similar process in underway in the eurozone. Bank losses on sovereign debt will make credit difficult within the eurozone as well as in the US and in Eastern Europe which borrows heavily from eurozone banks.

Krugman Decides To Argue Economics With Samuelson

Krugman decided to have the debate with Robert Samuelson that I avoided in my post of Samuelson's critique of Keynes. His points are well taken and they show how little Samuelson knows about economics or about Keynes. I thought that it was more important to explain why Keynes has been under attack by conservatives since his book was published in 1936.

The Economic Efficiency Case For Progressive Taxation

Mark Thoma makes the case for a progressive tax system. It will make sense to many economists because it improves economic efficiency. It is presented as a problem that resembles the tragedy of the commons. Unfortunately, its an argument that will have about as much affect as the tragedy of the commons has in a society dominated by individualism. It makes perfect sense if everyone wants to maximize efficiency, but our divisions run deeper than that. We are divided by philosophy, as well as by income, and politicians do their best to exploit those divisions. This is particularly true in the GOP. Its strategy has been to magnify the differences in our value systems, and to run divide and conquer political campaigns in which they are the protectors of family values, religious values, and the American value system. For the GOP, there is no commons.

Our Middle Class Dilemma

This editorial illustrates some of the issues that are presented in the post below on the scarcity of governance. The president has begun his 2012 campaign with a speech that recognizes the problems that we face, and he indicated what it might take to remedy some of our national problems. However, few expect that anything can be done about these problems in our polarized democracy. Political interests overwhelm the national interest, particularly in an election year. Moreover, the president has to raise money to run his campaign at the same time that he needs to make changes that will alienate many of his potential contributors.

This editorial provides a perfect introduction to the issues discussed in more depth below.

Governance Has Emerged As Our Scarcist Resource

This article puts its finger on a problem that is under the surface in many of the issues that national governments face. We have a governance problem. The intersection of globalization, capitalism and democracy is changing the world in ways that national governments have not dealt with very well. Globalization has ceded power to multinational corporations which have built global supply chains and have been expanding their access to international markets. Those who own shares of these companies, and those who provide financial services to them, have prospered while the middle class has seen its income fall in many western economies. In Europe the eurozone is struggling to save its common currency in a political atmosphere of growing hostility and increasing nationalism. Europe is faced with the problems of dealing with a faltering union and the impacts from globalization. Meanwhile, China has been successful in developing a form of capitalism that is integrated with its government's industrial policies. The western democracies need to make investments in infrastructure, and maintain social welfare systems under conditions of declining tax revenues. The political tensions that result from this situation have increased polarization and have paralyzed once functioning democracies. The problems, and necessary adjustments that are required, have overcome the ability to govern as political interests overwhelm the national interest.

Monday, December 19, 2011

IMF Chief Believes That Global Effort Required In Europe

The new head of the IMF believes that it will take a global effort to deal with problems in Europe and she is concerned that national politics may get in the way. She is particularly concerned about the US which is the biggest contributor to the IMF.

Why God Selected Brady as His Quarterback

This SNL video (via Manan Shukla) on the impending Patriots versus Broncos game predicted how Jesus might view the game. Football nuts who love fantasy NFL football could have won big if they had watched SNL and had seen how he reacted to Tebow. He needed too many miracles to win.

MIT to Provide Access to Its Courses Online and Provide Certificates For Mastery

MIT will provide all of its courses online for free and students can earn a certificate for demonstrating mastery of the content. This sends a good message to the world. Educational content should be free. The production of the knowledge was funded by government grants and support to professors who developed the content.

Are Trade Deficits Bad?

The Economist asked the question and it has posted several of the answers from invited economists.

God Has A New Quarterback

God sent a strong message below to his underlings on Sunday. Tom Brady is his new quarterback. He decided that talent was more important than enabling 59 yard field goal miracles to keep the Tebow streak intact.

Bye Bye Keynes Via The Washington Post

Robert Samuelson is given a weekly platform in the Washington Post to express his opinions on economic affairs. They often coincide with those of the Post's editors who have been deficit hawks since Obama was elected to office. In this article Samuelson conludes that if Keynes were alive today he would not propose a government stimulus when government debt is at such high levels. Of course, Keynes is not alive to challenge that contention, but when he was alive he urged FDR to increase government spending under similar conditions of high government debt. Keynes would have preferred that governments run surpluses in good times in order fund stimulus in bad times, but he was an advocate for government stimulus in the Great Depression.

Samuelson presents many weak arguments against government stimulus in his article. I do not want to waste my time, and yours, by pointing out the weakness in his arguments. I would rather provide some of the reasons why Keynes has been under attack by conservative economists, since many of his ideas achieved prominence after spending on WW II got us out of the Great Depression.

Keynes believed that purpose of the economy was to improve the living standards of the ordinary citizen. He believed that economic growth would relieve people from their struggles to provide the means for their survival. He imagined a time in which people would have the leisure to engage in some of the more important things in life that he and his class were free to pursue. He also believed that the capitalist system, in cooperation with the state, could make that happen and preserve individual liberty better than competing economic systems that were popular among intellectuals in his time. Persistent unemployment was a threat to capitalism and to his vision of an economy that had the capability of providing a better life for everyone. He came to the conclusion that the economy was inherently unstable and that it was not self correcting. This violated a fundamental assumption of classical economics that prices would always adjust to maintain full employment. Wages would fall during downturns and lead to more demand for labor, and interest rates would fall if the level of savings exceeded the demand for savings by business for investment purposes. That would lead to more consumption and higher levels of business investment. Keynes argued that falling wages would only lead to lower levels of consumption and price deflation. He also argued that lower interest rates would not stimulate business investment in periods of over-capacity and weak demand for products and services.

Conservatives also believed that the financial system allocated resources to their best uses. Keynes had a very dim view about the way that Wall Street allocated resources. He compared the process to a beauty contest in which investors were engaged in the game of trying to predict which contestant other investors would believe to be most attractive under the prevailing circumstances. This led Keynes to make a case for the state to play a role by fostering investments in particular areas. Industrial policy has always been anathema to conservatives.

Keynes also believed that income inequality led to weak aggregate demand. Those with high incomes would save a higher percent of their earnings than low wage earners who spent most of their income. Moreover, he did not believe that the savings of high income earners were necessary to fund investments in the economy. The retained earnings of businesses provided sufficient funds for that purpose along with the savings from pension funds and the float available to insurance companies. Keynes was not fond of the rentier class in England that was able to live on inherited assets and did not provide productive work to earn a living. He anticipated the euthanasia of the rentier class.

In summary, conservatives hate Keynes for reasons that have nothing to do with the current level of government deficits. His ideas undermine the edifice of neo-liberal, or neo-conservative economics, which dominate in academia and provide the ideological basis for a limited role of the state in an economy that is inherently stable and self-correcting via market forces. Keynes wanted to put an end to laissez faire economics. The backlash against Keynes is primarily due to the concern that the doctrine of laissez faire, which was used to justify deregulation of the banking system and "innovations" that enabled the financial crisis, would come under renewed attack. Conservatives believe that a good offense is superior to a good defense. They equate Keynesian ideas with socialism and or communism because these are curse words to the general public. It matters not to conservatives that Keynes was attempting to save capitalism by making it work better for most people.

Economists in the US, even so-called "New Keynesians", are not going to resurrect Keynes. They are interested in some of the problems in classical theory that lead to market imperfections, but they assume the general tenets of classical theory, and they base macroeconomics on the foundation of classical microeconomics. They are not ready to dismiss the paradigm upon which their reputations and grants are based. It will take changes in the political environment to change economics and that will not be pushed by the benefactors of the prevailing ideology. It will have to come from popular movements.

Does China Have A Real Estate Bubble and A Banking Crisis?

Krugman smells problems in China's economy. He doesn't trust official data from China, and he can't find China experts who agree about what's happening, so he is only speculating on possible problems. The problems that he smells are similar to Japan's earlier problems, and to those of many countries in the West. He suspects a real estate bubble and the existence of a shadow banking system that is unregulated.

Don't Tax The Rich, Tax Inequality

This article does a good job of succinctly describing the problem of growing income inequality. It also links growing inequality to declining democracy and increasing social unrest. The authors propose a tax plan that would limit the ratio of the income of the top 1% to median income. That ratio is currently 36 and it has been growing rapidly.

Even though it is unlikely to ever become law, I think that it is mistake to base the ratio on the lowest income earners in the top 1% which is around $300,000 today. The doctors, lawyers and professionals in this bracket have not seen their incomes rise anywhere near that of the top 0.01%, and they are not the ones who are financing elections and corrupting democracy. It would be better to make the income tax much more progressive within the top 1%.

Sunday, December 18, 2011

We Have A Balance Sheet Recession So We Should Repair Household Balance Sheets

The article that I posted below describes some research on the relationship between household debt and the fall in aggregate demand that has led to persistently high unemployment. This article is an interview with one of the authors of that study. It goes into more depth on the issues related to the study. I suggest that you read that article before reading this interview.

One of the authors of the study is from the University of Chicago that favors neo-classical explanations of economic phenomena. Their criticism of the study is based upon how neo-classical equilibrium should be reached without government intervention. They argue that interest rates will fall in response to the low levels of savings, and that should reduce savings and stimulate consumption. But nominal interest rates are already close to zero and that has not happened. They would have to fall even further in order to achieve equilibrium, and that is not possible. This is the liquidity trap problem.

Paul Krugman uses the liquidity trap argument to make a similar point but he recommends an increase in government spending to compensate for the decline in consumption. They disagree with Krugman on how to respond to the problem. They believe that we should deal directly with the cause of the problem. If household debt is responsible for declining demand and high unemployment, we should focus on principle reduction and other means to reduce household debt.

The interviewer raises a number of good questions and the responses are also very interesting. I recommend a careful reading of the interview after reading the summary of the research posted below.

Household Debt and The Decline In Aggregate Demand

This article provides data which describes the effects of household debt on the fall in aggregate demand that has led to high levels of unemployment for an extended period of time. They looked at housing bubble counties with high levels of debt and compared them with non-bubble counties with low levels of household debt. They also separated spending into two categories. One consisted of spending for local products and services. The other was comprised of spending on goods that were manufactured elsewhere and sold throughout the country. For example, in California the decline in automobile purchases caused a loss of jobs in local auto dealerships and it also contributed to the loss of jobs in counties that produced automobiles. They found that the decline in local spending on local products and services were 5% higher in bubble counties than in non-bubble counties. They conclude that housing bubble related debt is responsible for 65% of the decline in aggregate demand.

How The US Government Organized and Funded The War Economy

Its common knowledge that government spending on war related projects provided the boost to aggregate demand that got the US out of the Great Depression. How this was accomplished is not common knowledge. This article provides an overview of how the transformation was managed. Government financed spending accounted for 67% of GDP during the transition to a war based economy. The aerospace industry, for example, would not have existed in its present form without help in creating the industry during WW II. This is a clear example of effective industrial policy, that not only got the US out of the Great Depression, but transformed the US into an industrial power. This produced very large budget deficits and an extremely high debt to GDP ratio. Economic growth following the war enabled the government to dramatically reduce the debt to GDP ratio.

It does not follow from this analysis that war is essential to stimulate a depressed economy. If it were politically possible, the government could fund investments in technologies that will be required in the near future to deal with the depletion of resources and the reduction of greenhouse gases among other things. We could also take the necessary steps to rebuild our great cities and reduce our reliance on automobiles by reshaping public transportation. We are only limited by imagination and the political will to lead.

Saturday, December 17, 2011

Thawing Permafrost Could Release Enormous Amounts of Carbon and Methane

This article raises concerns about the release of carbon and methane from decomposed organic matter that has been in storage from thousands of year in permafrost. The thawing of some permafrost increases global warming which causes more permafrost to thaw. Scientists are increasing their estimates of the potential emissions from thawing permafrost. Its a situation in which once it reaches a certain point it is irreversible.

Friday, December 16, 2011

2012 Looks Bad For Global Economy

Nouriel Roubini looks forward into 2012 and he does not see a pretty picture of the global economy. Recession seems certain in Europe. The only question is how bad it will be. Growth in the US will be slow and much of the world depends upon exporting to Europe and the US. Eastern Europe will be hurt along with emerging markets that had been doing well. China and India are dealing with slowing growth and persistent inflation due to commodity prices.

Roubini has been called Dr. Doom for correctly predicting the financial crisis. He has lots of company this year.

Growth In India Slowing Down

The Economist provide a brief review of India's economy. India's economy looks a bit like China's. After growing several years above 10%, growth has declined by several points. Moreover, inflation has been above target and the RBI has raised interest rates. Many business leaders blame the higher interest rates for declining GDP but India's economy is linked in many ways to Western economies that are struggling. It appears that things go well in India with high growth rates but they deteriorate with slightly slower growth.

Does Studying Economics Affect Selfish Behavior?

This article is by Yoram Bauman who reports on research that he did at the University of Washington to determine the influence of economics education on selfishness. He found that taking a course in economics was associated with the tendency to be a "free rider".

Bauman also taught economics at the Bainbridge Graduate Institute for several years.

Larry Summers and Martin Wolf On Income Inequality

This is a link to a video that has Larry Summers and Martin Wolf from The Financial Times discussing the rationale for reducing income inequality.

Why Ron Paul Should Change His Mind About Austrian Theory

Krugman extolls the virtues of the current GOP rising star on the primary trail. He is alone among the contenders who has not changed his mind about everything that he has ever said in order to appeal to the current GOP base. Unfortunately, he should have changed his mind. He has been claiming for years, following the Austrian economic theories of Hayec, that currency must be backed by gold in order to prevent inflation. He has argued for years that the actions taken by the Fed to restore the banking system, which expanded the monetary base (currency and bank reserves) would produce hyper-inflation. Well inflation has been relatively tame but he has not changed his mind. Theory trumps reality again within the GOP.

Thursday, December 15, 2011

China Forecasts Slower Growth For Next Two Years

China's economy is slowing down. Most countries would like to see their growth slow down to 7-8%, but losing 2-3% growth in GDP will cause some adjustments in China. Slow growth in Europe and the US has caused a drop in manufacturing production. Export based economies, like China's, suffer when their client economies slow down. Government investments provides 40% of China's GDP, consequently, there is not much room for further government stimulus.

The slowdown in China's economy will also affect the BRIC economies, like Brazil, which has been a source of commodities for China's booming manufacturing base. Brazil has had several months of slow growth after growing rapidly along with China. Growth should also slow in several Asian countries that supply intermediate products to China.

Wednesday, December 14, 2011

Who Pays Taxes Under the Gingrich Tax Plan?

This graph by the tax policy center (via Krugman), shows how Newt Gingrich's tax plan will affect tax rates. The picture tells the whole story.

A Contrary Explanation of The Depression and The Great Recession

Joe Stiglitz offers a new interpretation of the Great Depression and argues that there are parallels to the Great Recession. He also argues that only massive investment by government in the services economy can get us out of our mess.

The Great Depression was not due to the failure of the Fed to increase the money supply. Milton Friedman made this argument and it has been accepted by many economists. Stiglitz argues that the economy was undergoing a transition from an agricultural economy. Productivity had enabled farmers to produce more product with fewer workers. That created an oversupply of product and an oversupply of labor. Prices of food and the wages of farm workers fell. Since farm labor was 20% of the labor force, the demand for manufactured products also fell. This added fuel to the fire that was only quenched by the military build up that stimulated manufacturing and facilitated the transition from agriculture to an industrial economy.

Today we are losing manufacturing jobs to productivity and to globalization. We must make the transition to a services economy. Finance and healthcare are already bloated, we need to make investments in education which is suffering layoffs due to declining tax revenues. We also need to invest in infrastructure that has suffered from low investment, and which will help us make the transition. With interest rates at all-time lows, the only thing preventing government from making the transition is politics.

BBC Graphs Sum Up The Years Economic Story In UK And EU

This report by the BBC (via Manan Shukla) has a goldmine of interesting graphs on the economy.

Al Gore Defines Sustainable Capitalism

Al Gore was given space in the WSJ to make the case for sustainable capitalism. He has provided a framework for the changes that would be required to reduce the short term focus that dominates today. He introduced the concept of stranded assets make one of his points. He used the mortgage backed securities (MBS} that we sold to investors as stranded assets that were mispriced because externalities were not incorporated in the pricing. He did this to show that there is latent value in some assets that could be realized as well as negative externalities that lead to the mispricing of assets.

Most supporters of sustainable capitalism will appreciate the shift in incentive systems that are required to encourage longer term thinking in capital markets and in corporate decision making. I wonder, however, whether this message will be appreciated by Wall Street traders. An increasing percent of trades on Wall Street are made and held for less than a second. Technology and proprietary software have enabled traders to turn rapid trading in volume into a method of realizing profit without taking on the risk of holding assets that might fall in value.

The Financial Times Does Not Like The Results Of The EU Summit

Martin Wolf writes in the Financial Times that too much attention has been paid to the decision of Cameron to veto the proposed change in the EU treaty. This was a bad decision because it isolates the UK from the EU, and that will eventually harm the City of London banking interests that he was trying to protect. He argues, however, that more attention should be given to the failure of the summit to deal with the real structural problems in the eurozone. The effort to create a stability and growth union through fiscal austerity will produce an instability and stagnation union instead.

It may help to understand Wolf's reasoning if we look at a single vulnerable country in relation to Germany. Spain's economy was in good shape prior to the collapse of the real estate bubble. The collapse of asset prices led to private sector deleveraging. This produced a surplus of savings in Spain and a decline in private sector spending. This implies that Spain's trade deficit with Germany must turn into a surplus to compensate for the decline in private sector spending. That would require adjustments in Spain that would make it more competitive with Germany. Imports from Germany would fall and exports from Spain to Germany would rise. The other possibility would be for the trade surplus to rise via the rest of the world for the combined team of Germany and Spain. Even if it were possible for Spain to make the necessary structural changes it would take a long time to achieve that result.

The other alternative for Spain is to deepen its recession by reducing its government deficit through an austerity program. The intent is to encourage investors to gain confidence in Spain and purchase its debt at affordable prices. Investors, however, are not easily fooled. They do not want to invest in an economy that is shrinking. That is what we have in Spain today. It is in a long term structural recession that requires wages and prices to deflate. In the meantime Investors demand a risk premium for Spanish debt.

Tuesday, December 13, 2011

Fiscal Austerity And Hitler's Rise To Power

Brad DeLong (via Fabius Maximus) provides a short history of Hitler's rise to power. There are other histories that one might prefer, but my purpose is to point out that hyper-inflatiion was not the cause of Hitler's rise to power. The Great Depression was made worse by the imposition of austerity on the depressed German economy. The rise in unemployment that followed, and Hitler's bias for action, was the most important economic contribution to his rise to power.

Occupy The Economics Classroom

The student walkout from Greg Mankiw's introductory economics course at Harvard has received a lot of attention. Economics has also come under the spotlight because of its use to support the deregulation of the banking industry and its advocacy for the use of derivatives that led to the financial crisis. In this article Dani Rodrik tells us that economics at the graduate level is more nuanced and more able to provide qualified answers to important economic questions. This contrasts sharply with the picture that one gets in introductory economics courses. In fact, Minkiw's defense of his course was based on pedagogy. His course is similar to most introductory courses that only provide the foundation for more advanced courses that are devoted to the nuances.

One of the problems with this defense of economics instruction is that most students do not take courses beyond the introductory level. For them, introductory economics is economics. The text books are very similar in content, and most of the interesting topics that would engage students are not explored in depth. Moreover, at the advanced levels there is no single discipline of economics. The nuanced questions, and the answers provided, are too often colored by the political inclinations of the faculty or an economics department. For example, there is a growing concern today about income inequality. For some economists it does not exist; for some it is simply the result of market forces, and for others it is a threat to democracy. The same can be said for the issue of free trade. Dani Rodrik acknowledges that the predisposition of most economists is to support free trade, but with many qualifications. Those qualifications do not appear in introductory courses and the qualifications provided will differ depending upon the predispositions of those to whom the questions are asked. Unfortunately, economics cannot be easily separated from politics but introductory textbooks proclaim that economics is a positive science, devoid of politics, and that normative questions that arise from different values, are not part of the science. That may an objective of the discipline but bias may even be built into the kinds of questions that we ask or do not ask. For example, we certainly want to make the market more efficient, but we seldom seek answers to questions regarding the distribution of output, or other questions regarding the purposes of economic systems.

An Assessment Of The Durban Climate Policy Conference

The Durban conference on climate policy ended Sunday after a two day extension that may have salvaged some gains. This article describes the discussions and ends on the hopeful note that it was not a disaster and a path to more productive outcomes may have been established.

The Privatization Of Public Education Is Not Dependent Upon Achievement

The NYT did a lot of research on for-profit online schools. This article reports that they work very well. That is, they have been profitable for the corporations that operate them but they have not been effective in meeting educational goals. As long as they are profitable we will see more of these schools in America. They will have political support from conservatives because they conform to an ideology which holds that private industry is more efficient than government. They also fit into the popular zeitgeist which attributes magical power to technology. They are another example of what James Galbraith wrote about in The Predator State. The function of the predator state is to privatize as many government functions as possible. Taxation is fine as long as it funnels tax revenues into private hands. The military has been doing this in the Mid-East and many states are privatizing prisons and selling public assets e.g., toll roads and parking meters to private enterprises. The predator state is one of the consequences of the capture of the state by private interests. It is also dependent upon public acceptance of the economic ideology that underlies privatization. The Cold War has ended but the ideology is useful for other purposes. That is why so much is spent on the selling of the ideology.

The point of this article, and my critique, is not that education cannot benefit from innovative uses of technology. Many schools are using technology effectively and it can play an important role as a pedagogical tool. It is a misuse of technology when it is used primarily to reduce the cost of instruction.

Monday, December 12, 2011

Balance Sheet Recessions And Fiscal Policy

This article is not for everyone. It may be too technical for many readers. On the other hand, it is well written and it sheds a lot of light on our current economic problems. In particular, it describes the problems in the eurozone very well and it even offers some suggestions for solving the problems of fiscal management in different countries with a common currency.

We have two related economic problems to deal with. We had a financial crisis that central banks were able deal with but we have had a balance sheet recession that central banks are less able to fix and it takes a long time to end balance sheet recessions. We have a balance sheet recession after asset bubbles collapse and the private sector begins to deleverage. Even very low interest rates are unable to encourage the private sector to borrow and spend. The public sector must absorb the private savings or we get into a deflationary spiral. We have little experience with balance sheet recessions, however, so we are making things worse by focusing on deficit reduction.

One of the problems in the eurozone is that the flow of funds between countries is procyclical. For example, when Spain was booming, money flowed into Spain from investors looking for higher yields. That accelerated the real estate bubble. After the bubble burst, the flow of funds reversed. Investors in Spain sent their money to core countries seeking a safe return. This has caused interest rates to rise for Spanish debt. It would be better if domestic investors were not permitted to invest in the pubic debt of other eurozone countries. The common currency encourages the procyclical flow of funds,

The other problem with balance sheet recessions is that we fall into the liquidity trap. Interest rates fall to the zero lower bound and monetary policy becomes less effective. Unfortunately, tax revenues fall during recession and governments become fixated on deficit reduction. It becomes very difficult politically to use fiscal policy to absorb the excess private savings that result from deleveraging. Politicians fight over what to spend federal funds on and the deficit hawks use rising budget deficits to political advantage. Historically, spending on wars has been the only way for the necessary level of government spending to be politically tenable.

Polls Provide Data But Data Requires Interpretation

This poll looks at the differences between Americans in several income groups. The top 1% is better educated than the bottom 99% to the surprise of nobody. Conservatives use results like this to argue that we have a meritocracy that is defined by education and cognitive ability. The top 1% is better educated and, therefore, is rewarded by the market for its superior skills.

A more careful look at the data leads to another interpretation. The top 1% looks identical to the income group below it in education level, and it looks very similar to the group that earns at least $150,000. In other words, educational attainment does not distinguish between upper middle class Americans and the top 1%. The rapid growth in income going to the top 1%, to the exclusion of all other income groups, cannot be explained by education level. Other factors are at work.

The other problem that jumps out at us, if we ignore the silly comparison of the top 1% with the bottom 99%, is the problem of social mobility. Education level does create entry barriers to a variety of occupations that might provide a middle class standard of living. Americans in the lowest economic levels are also under educated. Very few will escape from the income group that they were born into as long as they remain under educated.

Democracy And Depression

Krugman reports on anti-democratic trends in Europe. Economic crises in Europe have encouraged nationalistic movements that remind us too much of what happened during the last depression. He doesn't talk about the US but those who pay attention to what is happening in many states will see similarities. Democracy is very fragile. It should not be taken for granted.

Sunday, December 11, 2011

Tom Friedman Never Gives Up On A Good Fairy Tale

Tom Friedman tells us that US manufacturing jobs have been reduced by productivity gains. He also tells us that our future jobs will come from places like Silicon Valley, Austin Texas and the Research Triangle in North Carolina. He then proposes that the president runs his election campaign on the premise that these centers will create the jobs of he future. I guess this is another version of the story that he invented in The World Is Flat. He never gives up on a best seller. Almost everyone of his op-eds in the NYT makes the same claims about the future in a flat world. The only problem with his story is that it is a story unsupported by facts. Increased productivity in manufacturing is not the primary reason why jobs have been lost in manufacturing. The plants have gone away to another part of Friedman's flat earth. High tech giants like Apple in Silicon Valley employ one American for every 10 workers that are involved in its supply chain.

It is understandable why Friedman repeats his flat earth story. It provides a more attractive version of the future than the real story that is provided by the data that is discussed in the post that follows. That story will never be a best seller.

All Anyone Needs To Know About Income Maldistribution In The US

This article provides some stunning data on income growth in the US. It suggests the structural changes have been underway in the US economy for over 30 years and that those changes may be permanent. In addition to slow growth in the median wage, the number of persons living in poverty has increased dramatically. The poverty rate reached a high of 10% in 2000 but it has increased to 15%. Over 46 million Americans are living in poverty. The data also show that black and hispanic Americans have been hit much harder by these changes in the structure of the economy. Although this article is based upon data from the US census bureau, my guess is that a similar pattern exists in other western economies.

Sometimes the ideas that people have are affected by data. The writer of this article has changed his mind about how to deal with the information that he reported. He now favors redistribution strategies for dealing with structural problems that wont go away. The only income group that has benefitted from the structural changes in the economy is the top 1%. He no longer believes that market forces are producing the disparities in income that he has reported. Ii is pretty clear that the benefits from rising productivity have not been distributed as they have been in the past. They have been extracted by those at the top of the economic pyramid.

The Crisis In Europe As An Experiment In Macroeconomics

One of the problems with economics as a science is that it is not often possible to test economic theories by conducting experiments. Krugman argues that the eurozone crisis has enabled economists to test the theory of expansionary contraction. It has been proven to be wrong in each of the countries where it has been tried. Cutting government budget deficits by raising taxes and cutting spending does not expand economic output. The lesson is that government contraction in a period of recession leads to more contraction. The experience in Ireland also shows how difficult it is to reduce nominal wages even in recession, The idea that wages will fall in recession and lead to a rise in employment has been disproven in Ireland.

Krugman also alludes to another of the problems in economics as a science. When data fails to confirm a theory, it has little impact on adherence to the theory. That is because economic theory is embedded in ideology about the way economies should behave. He provides the example of a professor at the citadel of "free market economics" who insists that jobs are readily available at a market price. At the University of Chicago it is gospel that unemployment is voluntary. The market would clear if workers would accept the market price. We have learned that there is no way to test gospel. Faith in economic ideology is not testable. That is why zombie ideas cannot be killed. Economic ideas that have survived for hundreds of years have done so for a reason. They support the interests of those who benefit from the status quo. The folks who funded the Milton Friedman Center for Economics at the University of Chicago share the gospel that emanates from its halls of ivy.

Saturday, December 10, 2011

Decentralized Versus Centralized Response To Global Warming

This article looks at the problems of making progress on responses to the threats from global warming. The US environmental policy negotiator recently concluded in S. Africa suggested that any response to global warming will involve making decisions about the areas that are at the heart of national economies. They are too important to be left to environmental officials like himself. The Copenhagen meeting, however, included top government officials like President Obama, and the results were disappointing. Efforts to reach global agreements through the UN have also been unproductive. They pit the interests of the developed nations against those of the undeveloped nations who believe that the developed nations bear the responsibility for our current problems. That positioning is no longer relevant now that China is the largest emitter of carbon and developing nations like India and Brazil are growing faster than developed nations.

If one looks at the US, the State of California has made a larger contribution to carbon reduction than any other government body. It may be the case that the issues are too political for Congress to resolve, and that state and local governments, along with progressive corporations, will be left with the responsibility to do what Congress is unable to do.

Offshoring, Inequality and Education

This article looks at the problem of inequality in relation to globalization and it reports on in research in Denmark that raises questions about policy implications.

One widely held theory is that inequality is due to a rising wage premium for college educated workers. Since college educated workers get a wage premium, inequality can be reduced by providing greater access to higher education. In particular, according to Tom Friedman, and many in the current administration, we need to increase the number of graduates with skills in science, technology, engineering and math (STEM).

One of the problems with that theory is that Asian countries are moving up the value added chain. More of the work that they perform requires workers with STEM focused education. The contest then becomes an education battle between the US, Europe and Asia over the development of STEM related skills. One of the problems in this contest is that education costs in the US are rising faster than inflation, and tax starved states are cutting back on funding state universities which provide most of our college graduates. European countries have a similar problem. We may be educating students for jobs, at high cost, that no longer exist.

One of the studies reported in this article suggests that the college skill premium is for workers who have language and communication skills that are in high demand as firms extend their supply chains internationally and enter foreign markets. There was no skill premium for STEM educated labor. That is because STEM is an international language that is available to everyone educated in these subjects. A study in Denmark showed that college educated workers who were retained during offshoring experienced wage increases while unskilled workers experienced lower wages. The most valued skills were in communication related areas associated with the retained college educated workers.

The Danish study provided other useful information. Some firms that offshored labor became more productive and they expanded their exports. Both skilled and unskilled labor in exporting firms received higher wages. In firms that did not benefit from increased exports the story was very different. Both skilled and unskilled workers who lost jobs to offhoring suffered from higher wage loss and more persistent unemployment than workers who were laid off for other reasons. The jobs lost to offshoring were in low demand in the firm as well as in low demand in the general economy. The jobs lost for other reasons were in greater demand in the general economy and workers were more able to find similar employment.

The implication from this research is that education is less important than what you study and whether you work for a firm that becomes more competitive via outsourcing and more able to expand exports. This helps to explain inequality that results from education and skill premia. It does little, however, to explain the inequality that results from the dramatic increases in compensation that has gone to top corporate executives, and especially to those who work in financial service industries that benefit from monopoly power and monopoly profits.

Why Inflation Is Better Than Deflation During Depression

Krugman argues that inflation is not a good thing when an economy is operating at full-employment. On the other hand it was a good thing during the last depression, which is similar to where we are today. The countries that devalued their currencies by going off of the gold standard ddi better than those that held to the gold standard. Inflation is better during a depression than deflation.

Wall Street Ignores Public Disdain At Their Own Peril

This article describes the actions taken by Wall Street to resist government regulations that would limit its risk taking and profits. It argues that it will lead to two bad results. The public watches what is going on and it loses faith in our system. Laws become something that everyone views as impediments to individual gain. They assume that the system is rigged and they join the game. The other problem is that the public will not support a government bailout of the banks when their next crisis occurs. They are too big to fail but too detested to save. They will have to learn this the hard way.

Friday, December 9, 2011

UK High Pay Commission Proposes Changes In Exec Pay

The commission is concerned that executive pay is out of line with the compensation of other workers and often unrelated to performance. Compensation of FTSE top executives increased 43% last year and Director pay increased 47%. The commission's proposal is being made because UK executives are impervious to public concerns about executive compensation and there is risk that this can lead to opposition to capitalism itself.

The proposal consists of three requirements. Shareholders must approve top executive compensation each year. UK base workforce submits a non-binding secret ballot on the pay plan. The Annual Report prominently displays CEO compensation relative to compensation of the bottom decile in the UK. It also shows the percent change in the ratio compared to prior years.

This is a step in the right direction. I doubt that we will see anything like this in the US. UK executives who have business relationships with US firms tend to outpace their UK peers in compensation growth.

The Guardian Reports on EU Summit Metting

The Guardian provides a perspective on the EU Summit with a focus on David Cameron's veto of changes to the EU treaty that were not in the best interest of UK banking interests. This isolates the UK from the EU and leaves it with its alliance with the US. The US and the UK will not likely support financial reforms that limit The City or Wall Street.

Britain Vetoes Changes To Eu Treaty and EU Moves Ahead Without UK

Der Spiegel reports on the summit meeting in Brussels. The meeting included the members of the eurozone and those states that belong only to the EU, Germany and France took the leadership by proposing changes in the treaty which formed the EU. Changes to the treaty were blocked by a British veto by David Cameron. He opposed any changes to the treaty that would affect The City, which is Britain's financial center that operates much like Wall Street in the US. Since changes to the treaty were blocked by the UK, the meeting turned to making changes in the eurozone that create a deeper fiscal union as well as provide mechanisms to deal with problems in the periphery states. Details were still being worked out as the meeting ended early Friday AM.

Thursday, December 8, 2011

Morgan Stanley's Outlook of China And US

Steve Roach is the head of Morgan Stanley in Asia. This is a link to a video by Roach on the state of the US and Chinese economies. He believes that China is in good shape despite the decline in exports to Europe which is its largest market. The problem in the US is the lack of consumer demand. Business won't invest until it sees demand increasing. Government should be stimulating demand.

Defining The Asian Century

This article argues that the Asian Century should not be an attempt to emulate the Western Century of economic imperialism and consumerism. It is not possible for Asia to consume at the levels of the West because resource depletion will lead to higher prices and the planet cannot absorb the waste products of production and consumption. Asia should recast its role as the defender of our collective welfare by protecting natural capital and the environment. This will be resisted by multinational corporations which view consumption in Asia as the replacement for falling consumption in the West.

It is clear that the planet cannot and will not support an Asia that consumes as the West. It is also certain that Western Corporations will continue efforts to fuel consumption in Asia and take actions to benefit from market expansion in Asia. It is not evident, however, that Asia will accept the burden of defender of the planet that has been rejected by the West.

Mitt Romney Spins Defense of the Middle Class Into Socialism

Mitt Romney responded to Obama's populist speech in Kansas. As expected, the president is described as a socialist for daring to discuss income inequality. Obama made a good effort to craft bipartisan solutions to our economic and social problems. The silence from the GOP was deafening. He might as well run as a traditional Democrat.

Romney's response to the president's speech was in line with the picture of him that the right wing has painted since he took office. He is not really an American. Portraying him as a socialist, despite his glowing description of the benefits derived from capitalism, is just one piece of the portrait. What's really puzzling about this article is the effort made to determine whether Romney is really as stupid as his response to the speech implies. Romney is not stupid. He has decided to base his campaign against Obama on the framework that has been put in place since the president's election to office. This also helps him with the GOP base that will determine whether he should be the GOP nominee. He certainly cannot win the nomination without showing the base that he has a clear picture of the president that is consistent with what they want to believe. One of the problems that all of the GOP candidates have is that they must act as stupid as their base in order to win the nomination. It is pointless to ask whether they are really as stupid as they appear. How could it be otherwise?