Tuesday, September 30, 2014

The Pope Reflects On The Economic System And The Culture Of Prosperity

The Pope argues that we have sacralized our current market system.  It has become sacred even as it deadens our spirituality.  It has produced a culture of prosperity that is spiritless.  That is why we pay no attention to the death of a homeless person who does not have access to healthcare and we pay excessive attention to a two point drop in the stock market.  The Pope's comments provide a good lead into a post below on inequality. It summarizes a speech in a place of worship for the current economic system.  It makes the case for a culture of prosperity that is enabled by the free market economy.  It also ridicules the liberal devils who would destroy our prosperity in order to reduce inequality that it does not regard as a problem.

Betting On Interest Rates Can Be Bad For One's Career

Bill Gross was the CEO of the largest bond fund in America.  He did well when he was bullish on bonds but he decided that interest rates would spike when the Fed ended QE2.  He was wrong and that was not good for his career at Pimco.  An article was written in sympathy for Bill Gross.  The point of the article was Gross was a victim of quixotic behavior at the Fed which has interfered in the bond market.  Paul Krugman, does not understand everything that was happening at Pimco which cost Gross his job, but he argues that there is a good reason why interest rates have not risen in response to government borrowing.  Conventional wisdom suggests that government borrowing will crowd out private borrowing and drive up interest rates.  That is, there will be excessive demand for limited savings.  That cannot happen when our problem is that private demand for savings is well below the supply of savings.  Government borrowing simply absorbs the savings that are not demanded by the private sector.  Interest rates won't spike until the private sector, which has been deleveraging, decides to lever up.

Why We Should Stop Worrying About Inequality

John Cochran spoke at the conservative Hoover Institute as part of a program to honor the memory of one his colleagues at the University of Chicago.  Most of the speeches were in reaction the current discussions about the rise in inequality in most developed economies.  Cochran's speech reinforces some the points made by other presenters.  His speech provides a good summary of conservative reaction to the problem of growing inequality.   He argues that government is part of the problem and should not be part of the solution.  In particular, he is concerned about all of the attention that is being focused on the super rich.  He can't understand why we should be concerned about hedge fund managers earning billions.  If they earned less the poor would still be poor.  Making the tax system more progressive and confiscating the property of the rich would make us worse off.  That would encourage government to develop more programs that don't help the poor. 

I'm sure that many of Cochran's talking points got a rise out of the Hoover audience.  Its worth reading his speech to gain a better perspective on conservative reaction.  We should focus less on inequality and devote more of our attention to the factors that promote prosperity.  They are very simple.  Government should have a minimum role in the economy.  Economic freedom is the key to prosperity.  We have some problems that we need to address but reducing income inequality is not one of them.

Why Did EBay Spin Off Pay Pal?

E-Bay has decided to spin off Pay Pal into a separate company.  This article raises questions about the motivation for that decision.  Carl Icahn, a major shareholder in E-Bay, pushed E-Bay to make the spin off.  The CEO of E-Bay argued that the synergy between E-Bay and Pay Pal had strategic importance.  The board ultimately sided with Carl Icahn and the CEO will step down after the two businesses are separated.

There are two motivations for spinning off Pay Pal from E-Bay:  The strategic question is whether the two businesses are better off operating independent from each other.  Only time will provide the answer to that question.  The other question is whether the combined market capitalization of the independent firms will exceed the market cap of the combined firm.  That will depend upon how investors value the separate firms.  It is likely that the current E-Bay shareholders, like Carl Icahn, will benefit immediately from the spin off.  So will the Wall Street banks that are involved in the process. They have less interest in the long term viability of the firm than they do in what happens to the combined capitalization of the separated firms.  The decision to separate the firms is consistent with the mission of the corporation to place primary emphasis on promoting the interests of their shareholders.  Large investors, like Carl Icahn, and the Wall Street banks are very happy with the single focus of publically traded firms on increasing shareholder value.

Why Did The Fed Let Lehman Fail?

New documents have been made public which raise questions about the decision to let Lehman fail.  They indicate that the issue of Lehman's solvency depended upon the value of Lehman's assets.  A bank is insolvent if the value of its liabilities exceed the value of its assets.  Two teams at the NY Federal Reserve made an effort to place a value on Lehman's assets.  One team determined that Lehman's assets were greater than its liabilities.  Another team determined that Lehman was insolvent.  Private banks were also asked to determine the value of Lehman's assets.  They placed a low value on Lehman's assets.

The principle players in the decision to let Lehman fail were the US Treasury Secretary, the Chairman of the Fed and the President of the NY Fed.  They decided to let Lehman go into bankruptcy.  That decision accelerated the run on the global banking system and led to the Great Recession.  Each of them claimed that they did not have the legal authority to rescue Lehman.

Several questions were raised about the decision to let Lehman fail.  If the Fed decided to rescue Lehman, the value of its assets would have risen.  The decision not to rescue Lehman caused the value of its assets to decrease in value.  Some argue that the Fed had the legal authority to rescue to rescue Lehman but it chose not to use that authority.  The Treasury Secretary made it clear that he did not want to be known as "Mr. Bailout" and that he was not prepared to use public funds to rescue Lehman.  The decision to let Lehman fail may have been made for reasons beyond the legal authorities of the Fed and the Treasury to provide the necessary support to the bank.

Sunday, September 28, 2014

Seven Bad Ideas In Economics

Paul Krugman reviews a book that places a lot of our economic problems on the economics profession.  It does so by criticizing seven ideas that are central to mainstream economics.  Krugman does claim that any of these ideas are good ideas.  He argues that they are held by a fringe group within the profession.  They were used as part of a decades long attack on Keynesian ideas, which has been somewhat successful, and politicians have used them to reduce the influence of government in the economy, but the majority of economists supported the use of federal spending to stimulate the economy. 

Krugman realizes that many of the economists who are associated with the seven bad ideas have won Nobel prizes in economics.  He may be going a bit too far in claiming that those ideas are held only by outliers in the profession. 

Saturday, September 27, 2014

HBR Explains Why The Fed Is A Weak Regulator

This article offers an explanation for the NY Fed's weak response to some of the issues between it and Goldman Sachs that are described below.  It makes two comments that are worthwhile.  Goldman has no conflict of interest policy because its business model depends upon advising two parties on different sides of the same deal.  That is how it makes large profits.  The point is that we should not accept regulatory capture because we believe that nothing can be done about. 

Regulatory Capture At The NY Fed Caught On Audio Tapes

Regulatory capture is a well known problem in government.  Books have been written on this problem and some have argued that the financial crisis might have been prevented if the NY Fed had not been captured by the banks that it is supposed to supervise.  The CEO's of the major Wall Street banks serve on the NY Fed's Board of Directors.  That puts the management of the NY Fed in a difficult position.  The president of the NY Fed has necessarily developed a personal relationship with the management of the banks that it regulates.

The incoming President of the NY Fed hired a professor from Columbia to make recommendations that might help the Fed to do a better job of supervising the banks.  The professor determined that the culture of the NY Fed needed to change.  It had a culture of consensus which had serious effects on how the NY Fed regulated the banks.  The Fed made an effort to fix this problem by hiring employees who would be strong enough to buck the culture of consensus.  This is a story about one of the employees who tried to buck the culture.  It turns out that the culture of consensus is not easily changed.  The culture of consensus is a specific form of regulatory capture.

This article documents  how the NY Fed responded to two problems at Goldman Sachs.  It shows how the culture of consensus at the NY Fed operates as a form of regulatory capture.  The first problem was about a deal that Goldman made with Banco Santandor which is one of the largest banks in Spain.  It asked Goldman to put some of the bank's assets on its books so that it could satisfy the capital requirements of its regulator in Europe.  The amount of capital required is directly related to the quantity of assets held by the bank.  The culture of consensus is apparent in the transcripts of the conversations that took place when a new hire tried to buck the system to expose a deal that might be legal but was clearly a shady deal.

The second problem was a conflict of interest at Goldman Sachs.  It was advising Kinder Morgan on is acquisition of El Paso.  Kinder, course wanted to purchase El Paso at the lowest possible price.  It was also an adviser to El Paso on the deal.  Clearly, El Paso wanted to get the best price that it could get on the deal.  This seemed to a classic conflict of interest problem to the new hire at the NY Fed.  She found however, that Goldman did not have a firm wide conflict of interest policy.  It had several very general conflict of interest statements in several of its divisions.  None of these statements were consistent with the NY Fed's criteria for an effective conflict of interest policy.  The culture of consensus at the Fed prevented her from putting it on record that Goldman did not have an acceptable conflict of interest policy.  She was told that her statement had to be "vetted" at the Fed because the Fed would lose credibility with Goldman if it did not accept Goldman's claim that it had a conflict of interest policy.  One would think that such a policy would have kept Goldman from advising both sides of a deal on an acquisition.  Apparently, there is no conflict of interest when Goldman can collect fees from both parties to the deal.  Its also clear that employees at the NY Fed who do not comply with the culture of consensus cannot survive.  The new hire was fired because she resisted the culture that she was hired to help change.

Thursday, September 25, 2014

The US Dollar Keeps Getting Stronger

The absolute performance of the US economy has not been terrific.  However, relative to many other economies, it is doing quite well.  That has bolstered the dollar in the currency market.  It has increased in value versus the yen and the euro.  That might weaken the export market for US products but US exports of natural gas will continue to have a positive impact on its current account.

German Exceptionalism

Americans have traditionally believed in its exceptionalism.  In terms of economic performance, however, Germany is exceptional.  Germans are happy with the performance of their economy and Americans are not.  In fact, Germans are happier than citizens from most countries in Europe as well.  What makes Germany exceptional?

One of the differences between the German economy and that of most Western nations is that it is still an "old fashioned" manufacturing economy.  It makes quality products and it sells them to the rest of the world.  It runs a current account surplus and it does not need to run large budget deficits to offset current account deficits.  It also trains, and employs, large numbers of highly skilled workers that are needed to produce quality products.  These workers are also well paid.  That makes many Germans happy

America is much more sophisticated than Germany.  It has exported the high skilled manufacturing jobs to low wage countries.  It has replaced those jobs with low skilled jobs in fast food chains and other sectors of the services economy.  Those jobs don't pay very well.  America still produces exportable products that require cognitive skills.  They are produced on Wall Street.  Advances in computer technology have enabled a relatively small number of highly paid technicians to produce and sell a wide variety of products and services across the globe.  This has enabled traders on Wall Street to earn a good living trading the sophisticated derivatives that they produce.  In a sense, Wall Street is a more sophisticated version of Las Vegas.  Its customers are pension funds, university endowments and wealthy individuals.  They hope that the traders they hire to manage their financial assets perform better than the traders with whom they compete.

US corporations are also in the asset management business.  They manage the the value of their stock price.  They tell Wall Street analysts how they will perform every quarter.  Management's job is to meet or exceed the expectations that they have set.  There is a dedicated TV network in America that is a lot like the sports networks in America. Instead of examining the performance of football teams, they get all excited about what is happening in corporate America that might affect stock prices.  They have a big advantage over sports networks.  The game is played every minute of every day; it is hard to contain the excitement that is generated by insignificant changes in factors that might affect stock prices. 

Corporate executives have a powerful incentive to manage their stock price.  They are awarded stock options by corporate directors as compensation for successful management of the stock price.  The easiest way to increase earnings is to reduce costs.  Employees are a variable cost.  The best way to manage the cost of labor is to have a very flexible workforce that can be adapted to the needs of the firm.  Temporary workers are better than career employees for that purpose.  The wage bill can also be managed by exporting jobs to low wage countries.  That has the advantage of opening up new markets for consumer products.  It also helps to cut taxes.  Corporations have been very innovation in developing tax avoidance strategies.  They have also found ways to use retained earnings to elevate share prices.  Instead of making risky investments, that may lead to earnings growth in the long term (after the CEO has retired),  many corporations have used retained earnings to buy back their own stock.  Some have even borrowed money in order to increase dividend payouts.  In many corporations financial engineering has surpassed product engineering in value.  It is not surprising that many corporations are identified by their stock symbol.  In a very real sense they have become financial assets that are actively managed as financial assets.

Perhaps the major difference between Germany and the US is that Germany is less advanced than the US.  It remains stuck in the old fashioned business of producing real products for the global market.  German corporations also operate under a different governance structure.  They have not moved to the more advanced mission that motivates American firms.  Instead of focusing on shareholder value they are stuck in the stakeholder value scheme that American firms abandoned years ago.

Wednesday, September 24, 2014

A Score Card On The US Economy

This article describes the major changes that have occurred in the US economy over the last few decades.  The economy has grown fairly well, but the benefits from growth have gone to a small percent of Americans.  This is not news but some attempts are being made to understand the forces behind the unbalanced growth in wealth and income that has been underway.  There is a clear link between globalization and the hollowing out of the middle class.  Developing countries and global corporations have reaped most of the benefits from growth.  That explains why attitudes toward corporations are much more favorable in developing countries than they are in the US.  A majority of Americans have unfavorable opinions about corporations while a large majority have favorable opinions in developing countries like China and India.  Given the changes that have taken place in the US, the surprising result is that almost half of those polled in the US still hold favorable views of corporate America.  Corporate PR firms have done a good job of dealing with a bad hand.

Presbyterian Position Paper On Tax Justice

The Presbyterian Church in the US did an analysis of the US tax system and concluded that the direction that the tax system in the US has taken is inconsistent with Christian morality.  One may or may not agree with the position taken in this report.  Some may have a different view on Christian morality and others may object to its recommendations on tax policy.  In any case, the document provides an excellent analysis of the US tax code, and how it has become less progressive over the last few decades.  The charts and graphs included in this report debunk a lot of the myths about tax policy in the US.  The tax burden has shifted markedly away from corporations and the wealthy to ordinary wage earners.  Moreover, the total tax burden in the US is well below that of other OECD countries.  Some believe that cutting taxes for corporations and the wealthy has stimulated economic growth in the US.  This report does not touch on that issue but there is no evidence to support that claim.

Monday, September 22, 2014

A Bottom Up Approach To Climate Change

This article was written by a professor from Yale who has been active in environmental issues for many years.  He argues that nation states have been disappointing in their efforts to reduce carbon emissions.  He cites examples of programs in cities and states that have made an impact at the local level.  Many large corporations have also been promoting policies that have been effective. 

We should not give up on nation states but it can't hurt to work the issue from both directions.  Most large corporations have a long term interest in promoting climate change.  We need to figure out how to shift their focus from the current quarter to the perils that they will face from climate change.

Sunday, September 21, 2014

The Paleo Lifestyle In The US

This article describes one of the rapidly growing fads in the US.  It is based upon the assumption that our remote ancestors knew better than we do about what to eat and how to live.  We have added foods to our diet that are bad for us, and we have adopted a lifestyle that is foreign to our original nature.  It has become an industry in the US that goes beyond the Paleo diet.  It is also about Paleo parenting and other changes in our lifestyle that are consistent with a return to our "original nature".

Fads like this come and go in the US on regular basis.  We are always looking for solutions to our problems, and some form of a return to nature is always on the horizon.  Communities develop around these ideas and they provide a sense of community that is often missing in our lives.  In today's world of Facebook and other social media they spread more rapidly than they have in the past.  The Paleo lifestyle has become a small industry almost overnight.  It captures our entrepreneurial spirit.

The Prospects For Progress On Climate Change

Robert Stavins is hopeful that the coming UN meeting in NY on climate change will stimulate more action on climate change.  However, he is realistic, and somewhat pessimistic, about the prospects for taking the actions which are required.  He describes the magnitude of the problem in this article, and he examines the economic and political obstacles to the level of change that is required.

Stavins is more pessimistic than Paul Krugman was in an article that I recently posted.  Krugman wants to believe that we can continue to grow the global economy at our current rate and also reduce the threats from climate change.  Stavins is expert on climate change and Krugman is not.  He provides us with a detailed analysis of what must happen to carbon emissions in order to limit the growth in temperature that is essential.  This cannot be done without limiting the growth rate.  This is particularly true in countries like China which has passed the US in carbon emissions.  China is producing a coal fired power plant every 10 days to meet the power requirements of its growing industrial economy.  Chinese officials are aware of the problems that this is having on air quality and it hopes to correct its pollution problems.  On the other hand, China wants to provide its citizens with the standard of living enjoyed today by rich nations.

The good news is that carbon emissions in the US and in Europe have grown more slowly than GDP in recent years.  If China and the US could take the leadership on climate change we might be able to prevent the catastrophe that Stavins describes.  We might be able to deal with economic problems that are required but the political obstacles will not be easy to overcome.  President Obama has been forced to use the EPA to impose some of the changes that will reduce carbon emissions.  He has not been able to get Congress to take the climate change issue seriously.  That is not likely to change prior to some catastrophic event which might alter the politics.  Politicians like to provide benefits to the current generation that will paid for by future generations.  They are less comfortable with imposing costs on the current generation to provide benefits to future generations.

Why Do Financial Industry Employees In The UK Earn Higher Wages?

This study of the finance industry wage premium,  which has also been rising faster than wages in other sectors,  examines several factors which might explain the wage premium.  It found no evidence that cognitive skills account for the wage premium.  It concludes that profits are higher in the finance sector and that the profits are distributed among all of the employees.  For example, event planners in the finance industry are paid much more than event planners in other industries.

The obvious follow on to this study is to explain why profits are higher in the finance industry.  That is, why do their customers pay a premium for the services provided?  For example, pension funds in the US pay a premium to hedge fund managers who have not been able to produce above average returns over the last five years.  The largest pension fund in the US (CALPERS) has decided to eliminate its $3 billion investment in hedge funds.  Pension fund managers are not well suited to manage investments in hedge funds, but many are willing to pay high fees to hedge fund managers who have not earned their fees.  Investment managers know where the money is and they understand how decisions are made by pension funds.  They have figured out how to exploit the decision making process. 

Saturday, September 20, 2014

How The Party Of Lincoln Became The Party Of Reagan

This article provides a brief history of the Republican Party. The party originated during a period in which slaveholders were the dominant economic and political force in Washington.  It may have been the first progressive political party in the US.  The history of the GOP reflects the cyclical pattern between progressive and reactionary forces throughout our history.  The party of Lincoln was also the Party of Teddy Roosevelt and Dwight Eisenhower who represented the progressive side of the party during progressive eras in the US.  Ronald Reagan became an icon for many in the party because he was a good salesman.  He was able to put a progressive face on reactionary policies by by connecting those policies to restoring America to its libertarian past.  It was not the version of liberty that motivated Lincoln.  Government was transformed from its role as a liberator from slavery to a liberator of business interests from government regulation and progressive taxation.

This short history of political economy in America may not get high marks from historians, but it provides an interesting version of tensions that have always existed in America between the holders of wealth and ordinary Americans.

Friday, September 19, 2014

Can Reducing Carbon Emissions Be Free?

Paul Krugman summarizes two recent studies which show that reducing carbon might be cheaper than we have thought.  Those studies show that progress that has been made in the use of renewable energy, largely because of falling costs.  They also report that putting a price on carbon has benefits beyond reducing the cost of damages from climate change.  Public health would also be improved by reductions in illnesses caused by air pollution.  That changes the cost benefit framework that economists have typically used to assess the economics of carbon reduction.  The public health benefit has not been included in most of the cost benefit studies that have been done.  Some will question the inclusion of public health benefits, that are difficult to price, but doing so implies that there are immediate benefits from carbon reduction.  Not all of the benefits go to future generations.  Moreover, any nation can realize that benefit without depending upon carbon reductions by other nations.  We should not postpone actions until we can get an international agreement on carbon reduction.

After reviewing the recent studies which alter the economics of climate change, Krugman describes the major hurdle that we face politically.  Many opponents of climate change suffer from "climate despair" according to Krugman.  They assume that there is a constant relationship between carbon emissions and GDP.  Therefore, we cannot reduce carbon emissions and still have economic growth.  We are familiar with that claim from those who have billions of dollars of fossil fuel reserves on their balance sheets,  but Krugman argues that many on the left believe that we must constrain economic growth in order to reduce carbon emissions.  Krugman's position is that there is not a constant relationship between the amount carbon per unit of GDP.  Its possible to reduce the amount of carbon emitted per unit of GDP.

Thursday, September 18, 2014

Why Keynes' Advice To The MacMillan Committee Was Rejected

The MacMillan Committee was formed during the Great Depression to discuss policies that might improve the employment situation in England.  Keynes told the committee that the government should increase its spending in order to compensate for the decline in private spending.  His advice was rejected.  A book about Keynes was recently published which explains why his advice fell on deaf ears. This article draws a parallel to the current situation in the eurozone.

Keynes had written a popular book which was critical of the Versailles Treaty. That placed him outside of the establishment, but his presentation was less coherent than it might have been because it conflicted with his argument against the Versailles Treaty and a return to the Gold Standard.  The Committee believed that an increase in government spending would "crowd out" private spending.  Its members could not understand why wages did not deflate in response to the labor surplus.  That would make English products more competitive and restore employment.  Britain had already agreed to return to the gold standard and it was not interested in currency deflation which would also have the effect of reducing the cost of British exports.  Wage deflation was its preferred policy but wages were "sticky".

Five years later, Keynes wrote his General Theory which made a case against wage deflation and a more coherent argument for an increase in government spending during recessions.  Support for his theory increased after WWll when government military spending lifted the US economy out of recession.  It has fallen out of favor in recent years, and a new orthodoxy has replaced it in the eurozone which is similar to the situation that existed in England during the Great Depression.  The euro functions like the gold standard.  Nations in recession cannot deflate their currencies to become more competitive.  The alternative forced upon them is to deflate wages.  That is not politically easy and it has the effect of reducing domestic demand.  It is supported, however, by a powerful ideology which is insensitive to the available evidence.  Eurozone unemployment remains high, and price levels are well below the target inflation rate of 2%. 

Wednesday, September 17, 2014

The Overpaid CEO And The Corporate Mission

This article does a good job of describing and explaining the rapid rise in CEO compensation.  It provides an historical perspective, as well as an analysis of the factors that have contributed to outlandish rise in CEO compensation.  It also shows how the executive incentive system has had profound affects on long term corporate performance and the economy itself.

It will not be easy to change our current system because it is linked to our concept of the corporate mission.  The mission of the corporation is to increase shareholder value.  In order to effectively deal with the incentive system that drives corporate behavior we must move to a broader mission statement which includes more of the stakeholders in the corporation.  Some of the efforts underway in that direction are well described in this article.  It provides a critique of the shareholder value doctrine as well as some of the efforts underway to move toward a stakeholder theory of the firm.

Excessive CEO compensation has generally aroused public concern over its fairness.  This article goes well beyond the concept of fairness.  It argues that the corporate incentive system is a real and present danger to our economy.  Its fairly clear that the financial crisis that led to the Great Recession was aided and abetted by an incentive system that motivated corporate executives to engage in fraudulent behavior.  The rewards to executives, who originated fraudulent mortgages, that were packaged into securities, that were improperly rated, and sold to investors were enormous.  None of the executives that participated in the fraud would have retained their jobs if they had behaved otherwise.  The short sighted shareholders who invested in the financial institutions lost much of their wealth in the aftermath.  Few of the executives, operating under the doctrine of shareholder value creation,  were as adversely as their shareholders and the victims of the fraud that was committed.  We are all suffering from an economy that has not recovered from the damage that was done.

The financial crisis may have been an extreme example of the problems inherent in the incentive system that we have created.  The following quote, taken from the posted article, put the problem into a broader perspective:

Performance pay, on the model encouraged by the 1993 reform, has been tested. What we’ve learned is that it rewards not performance, but shortsightedness, excessive risk, and even fraud, and that the consequences go well beyond radical inequality to include the kind of crisis that nearly took down the economy in 2008, abrupt layoffs and plant closings to meet shareholder expectations, corners cut on products that risk consumer safety (as seen at General Motors), and desperate attempts to evade the costs of environmental and workplace safety regulation.

Tuesday, September 16, 2014

S&P Reports That Income Inequality Has Reduced State Tax Revenue

Many states have been forced to reduce spending on public goods such as education in response to declining tax revenue.  This report by S&P argues that declining state tax revenues are partly explained by growth in income inequality.  The sales tax and the income are the largest sources of state tax revenue.  The share of income to the top 1% has doubled over the last few decades.  That implies a lower share of income to the bottom 99% which spends most of their income.  That has reduced revenues from the sales tax.  Many states have also attempted to promote growth by reducing taxes.  That has not had the desired effect on growth.

Has David Brooks Switched Parties?

This is a sensible article by David Brooks.  He is concerned that we no longer have the institutions that are necessary to put out the "fires" that we regularly face in our global society.  We used to have such institutions in business and in government.  We gave them up at the urging of his favorite political party.  David provided a megaphone for the party that told us the small was good and big was bad;  it also told us that decentralized creativity was better than central planning.  I wonder if David is aware of his apparent about face?

Monday, September 15, 2014

Paul Krugman's Defense Of Economics

Krugman attended a meeting of students who want to rethink economics.  He seems to be less interested in rethinking economics than he is in defending it.  He does not refer to any of the ideas that were discussed at the rethinking economics meeting.  He chastises his rivals, primarily from the Chicago School, who led the revival of classical economics under the banner of rational expectations theory.  They gained control over the direction in which macroeconomics has developed over the last few decades with the economics profession.  The Chicago crowd adheres more closely to classical microeconomics than the Neo-Keynesians who believe that prices do not adjust rapidly to changes in supply and demand.  The Chicago crowd has no use for most of the ideas that we associate with Keynes.  They assume that the economy is self adjusting.

Krugman, however,  goes beyond the ongoing battle within the academy between the Chicago crowd and the Neo-Keynesians.  He argues that economists who know better are the real problem.  Many of them have allowed their political preferences to influence their policy recommendations.  He is also critical of politicians who search out economists who will advocate for the policies that they favor.  Most of the political decisions that have prolonged our economic recovery run counter to the most basic ideas that are taught in Econ 101.  We don't need to rethink economics as much as we need to use the economics that we know according to Krugman.  Economists and politicians are the real problem.  Econ 101 is fine.

Friday, September 12, 2014

How Keynes Became A Dirty Word

Noah Smith understands that Keynes was not a socialist and that his ideas emerged during a period of high unemployment in which alternatives to free market capitalism were gaining credibility.  Keynes proposed some ideas to increase employment in order to preserve capitalism.  Somehow Keynesian ideas have become associated with socialism.  He attributes this primarily to a book written by Hayec who argued that government intervention into the economy puts us on a slippery slope to totalitarianism.  Smith then tells us that many conservative economists helped to develop the Neo-Keynesian approach to macroeconomic theory.  Neo-Keynesian theory is actually closer to the monetarist theories of Milton Friedman than it is to what Keynes wrote about.  It has nothing to do with socialism.

Smith is clearly correct about Neo-Keynesian theory as it is practiced today.  It has nothing to do with any form of socialism.  He is also correct when he states that is has little to do with many of the ideas that Keynes wrote about.  Keynes believed that the economy was inherently unstable and that it could come into equilibrium below the level required for full-employment.  He proposed ways in which the government should intervene in the economy in order to promote full-employment.  Those ideas run counter to the assumptions of rational expectations theory and the real business cycle that came out of the Chicago School of economics.  They assume that the economy is inherently stable, and that it is basically self-correcting.  It may be subject to exogenous shocks but prices will adjust and keep the economy on its long term trend.  Furthermore, efforts made by government to adjust the economy will fail because rational agents will change their behavior in response to actions taken by government.  The real battle within macroeconomics today has less to do with Hayec's debate with Keynes than it does to the rise of the Chicago School and the ideas of Robert Lucas.  That battle is invisible to most Americans.  Its a lot easier to provide an idea with a bad name than it is to understand the idea.

Thursday, September 11, 2014

Loss Of Purchasing Power Since 1970 In US

Wages and Salaries accounted for 51.7% of GDP at their peak in Q1 1970.  The are currently at 43% of GDP.  Moreover, they have fallen since 2007 for 70% of the population.  This represents a large loss in purchasing power, and it illustrates the weakness in the labor market.  The last upward trend appeared during the dotcom boom in the late 1990's when labor markets tightened.

This graph does not explain why wages and salaries have been on a lower trend line since 1970, but it does explain why the Fed may be concerned about raising interest rates in a bad labor market.  There is little risk of inflation in a period of declining purchasing power for most Americans.

Why Do We Need DSGE Models?

Olivier Blanchard helped to develop the macroeconomic models that are routinely used by central banks.  Those models failed to forecast the Great Recession and Blanchard made an effort to explain why they failed.  Brad DeLong does not buy Blanchard's explanation.  He explains why he is not sold on DSGE models, and their role macroeconomic policy setting in this article.  We have had policy failures during the Great Recession and in its aftermath.  He suggests some of the ways in which we need to think differently about the macro economy.

Wednesday, September 10, 2014

Obama Prepared To Authorize Air Strikes Against ISIS in Syria

War used to much simpler.  Nations would go to war against other nations.  This article describes the more complex world in the Mid-East as President Obama attempts to build support for an act of war against a non-state across national borders.  He faces resistance from Turkey and Saudi Arabia which worry about how US action might affect their interests.  He also has to be concerned that an attack on Sunni militants is not interpreted as a war against moderate Sunnis.  Congress has not offered him much help either.  It would rather avoid voting on the issue before the election.  They will fund the effort but they don't want to take responsibility for it.  They prefer to let the president take all of the responsibility with one exception.  The traditional war hawks in the GOP have not been able to convince others in the GOP to take a stand on this issue with them.

How Weak Regulations By The IRS And The FEC Enable The Super Rich To Subvert The Electoral System

We all know that much of the funding for political campaigns comes from political organizations that are disguised as welfare promoting organizations.  This article provides some detail on how two of the largest political organization enable individuals to contribute to political campaigns while claiming a charitable donation on their tax returns.  The the organizations to which they contribute millions do not have to reveal their identity.  They can buy elections anonymously.  The rules used by the IRS and FEC to regulate this system conflict with each other and they are so vague that they are difficult to enforce.  Each of these organizations has a legal staff that is expert at exploiting loopholes in the laws regulating the use of funds.  We have moved from a democracy in which one vote goes to each citizen to a democracy when one vote goes to each dollar.  We have allowed our democracy to be be subverted systematically by a minority that will only tolerate a democratic system that it can control.  The technocrats that operate this system for the super rich are paid well for their services.  I don't know how they can look at themselves in the mirror without disgust.

Great Recession Left Median Household With Less Wealth And Income Than It Had In 1989

The St. Louis Fed reported that all of the gains in wealth and income from the 90's and early 2000's has been wiped out by the Great Recession.  Income is 1% below 1989 and wealth is 4.3% lower than it was in 1989. Vulnerable households suffered even more damage from the Great Recession.  Not surprisingly, minority households did worse than the typical household, but households led by a person under age 40 also did worse than the typical household.  The loss of income and wealth by middle income households will continue to impact the economy for quite a while. 

Monday, September 8, 2014

GE Sells Consumer Appliance Business To Electrolux

General Electric has been betting its future on its industrial businesses.  The sale of GE Appliances to Electrolux is part of its strategy to exit consumer markets.  It also enables Electrolux to increase its market share in the global consumer appliance market.  Industrial markets and consumer markets require different skill sets.  GE has decided that its strategic advantage is not in its traditional consumer markets.

Secular Stagnation Cannot Be Altered Without Structural Changes In Major Economies

Larry Summers has revived the concept of secular stagnation to explain slow growth in major economies even at low interest rates.  He argues active support for demand creation (fiscal policies) is necessary but not sufficient to produce even a modest 2% growth rate.  That is because structural changes have occurred which have reduced potential GDP.  We need to increase the capacity of the economy to produce output.  That will require a larger and more productive workforce.  It will require a more family friendly workplace, immigration reform and infrastructure investments.  It may also require business tax reform. 

Is There A Manufacturing Revival In The US?

There has been a lot of speculation about reshoring manufacturing back to the US.  The speculation is primarily fueled by announcements made by several firms about reversing the offshoring trend.  This study shows that the speculation about reshoring is not supported by reality.  The decisions made by multinational corporations are determined by a host of facts that are constantly changing.  There have not been a substantial number of new manufacturing jobs as a result of reshoring. 

Personal Liberty And Snakeoil

John Stuart Mill has been an inspiration to libertarians for a long time.  This post by a well known economist provides a seminal quote from Mill's essay on liberty.  The essence of the idea is that every adult knows more about her individual needs and wants than anyone else.  Therefore, the state should avoid making decisions for others as long as those decisions do not affect others.  This idea makes a lot of sense until one begins to think about exceptions to the rule.  Should the state intervene in personal decision making when they do not have adequate information?  Should the state intervene when a personal decision decision affects others indirectly?

Most people do not have enough information to make intelligent decisions in many areas.  For example, before the government intervened in the drug market it was quite common for entrepreneurs to market ineffective remedies to poorly informed individuals.  Snake oil was one of the most commonly sold remedies for almost any ailment.  Should the government have prevented entrepreneurs from selling snakeoil as long as individuals believed that it might be effective?  Libertarian economists, like Milton Friedman, have used Mill's doctrine to oppose government intervention into the drug market.  Should we get rid of the FDA?  I believe that individuals should do whatever they can to learn more about their medical care.  Its relatively easy find good information on the Internet that can assist individuals in making personal care decisions.  On the other hand, there is also a lot of snakeoil peddled on the Internet.  The snakeoil vendors cannot sell drugs but they can sell non-drugs that may or may not be harmless.  Even if they are harmless some individuals may avoid taking effective drugs because they believe that "natural remedies" are superior to drugs.  Where should the line be drawn to protect individuals from making poorly informed decisions?

There are many other areas where poorly informed individuals participate in markets where other parties have superior knowledge.  The financial crisis would not have occurred if the government had protected poorly informed consumers from taking out mortgages that they did not understand.  Those mortgages were packaged into securities that were sold to "sophisticated investors" who were misinformed about the risk in the securities that they purchased.  It is difficult for the government to intervene in every market where sellers are better informed than consumers but we should recognize that it is easier to profit in markets where consumers have an inflated sense of the value received, or when they are poorly informed about the product itself.  In particular consumers are poorly informed about most of the financial products that they purchase.  Almost everyone has a credit care, for example, but few cardholders have read the complex agreements that they signed to get their credit cards.  The agreements have been made complex so that consumers cannot easily compare offers between competitors.  The financial industry would be much less profitable if consumers were better informed, but we do a poor job of educating individuals about financial markets. Its no wonder that financial industry executives tend to be devoted libertarians.

The other problem is that our decisions can affect others indirectly.  Environmental pollution is classic example of this problem.  I may not be personally affected when I contribute to pollution but when my decision is compounded by similar decisions made by others I have helped to destroy the commons.  Many of the arguments made against the Environmental Protection Agency are predicated on libertarian assumptions.  That is, the government should not make decisions that are best left to individuals who know better than the government.  Its easy to understand why individuals or firms that profit from pollution are devoted libertarians.  Its better to defend oneself by an appeal to a philosophic principle than it is to defend one's selfish motives.

Mill's essay on liberty is like many philosophic ideas.  It is not easy to generalize simple ideas to complex situations.  He may have lived in a period in which monarchs abused the power granted to them.  On the other hand,  jungles are not the best of all possible worlds for most people.  Its not easy to draw the lines that are necessary to defend Mill's simple idea about liberty.  Individuals can be their own worse enemy and states can interfere in areas where they should not interfere. 

Mill's concept of individual liberty makes sense in many situations.  We certainly don't want the government to be interfering excessively in our personal lives.  On the other hand,

Saturday, September 6, 2014

Meet Elizabeth Warren Along With Paul Krugman

This link is to a video that features Elizabeth Warren on how to fix Washington.  Paul Krugman was part of the discussion but it essentially gave Warren an opportunity to tell a story that Krugman basically supports.  The focus of the discussion is about how to make government work for most Americans.  Everyone understands that a small segment of the public has the means to hire lobbyists who write the rules of the game (AKA legislation).  We also know that nobody can run for high political office without raising sufficient funds to run a political campaign.  That limits who can run for office in a serious way.  The voting takes place with dollars before any votes are cast.  Despite all of the obstacles that limit real democracy in America, Elizabeth Warren provides some good examples of bills that have been passed, and bills that are under consideration, that have overcome the efforts of lobbyists to defeat them.  Sometimes the greater public, which is less involved in the political process than concentrated interests,  is able to influence the rules that determine how the game is played.

Warren demonstrates why she has been an unusually effective Senator who works on behalf of the greater public.  She believes strongly in making government represent the interests of ordinary Americans and she us undaunted by the obstacles.  The basic problem is to get the general public more informed about the issues and more involved in the political process.  Cynicism is the enemy that must be overcome.  In addition to her zeal, Warren is very smart and knowledgeable. If there were more people like Warren in Washington we would all be better off. 

The general way in which the far-right works to discredit politicians like Warren and economists like Krugman is label them as socialists.  Warren and Krugman support the market economy.  They argue, however, that the market operates under rules which often prevent the market from working.  For example, consumers cannot make good choices without the ability to evaluate one product against another product.  If you read your credit card agreement (most are over 20 pages), or your cell phone agreement, and compare them against competitive offerings, you will find that it is very difficult to compare one product against another.  Markets don't work under the condition of imperfect information.  Markets are also unable to provide public goods that are essential in the operation of the market economy.  Market fundamentalists should support much of the work that Warren has done to help consumers make more informed decisions.  Unfortunately, many do not really want markets to work.  They make libertarian arguments against government rules that would enable consumers to make more informed decisions.  Government regulations and rules are the enemy when they help ordinary people.  They are only good when they permit the powerful to take advantage of the weak.

Friday, September 5, 2014

The ECB Is Doing What It Should Have Done A Long Time Ago

Paul Krugman applauds the ECB for finally using monetary policy to reverse the deflationary vortex in Europe.  He argues, however, that it may be too little, too late.  The threat of inflation in Europe, and in the US as well,  along with a focus on deficit reduction, has limited the response to our real problems.  That is, a dramatic decline in aggregate demand and falling prices.  The imaginary problems, which are not supported by evidence or economic theory, have prevented governments from solving their more immediate real problems.

Did The West Force Putin's Hand On Ukraine?

This article in Foreign Affairs offers an explanation for the current situation in Ukraine that differs from what most of the Western media are saying about the problem.  Russia has resisted the expansion of NATO into Eastern Europe since it began in the 1990's.  It argues that Russia was concerned that NATO would put a naval base on its doorstep in Crimea.  It also regards the overthrow of the elected government in Kiev as a coup that was inspired by the West.  The prospect of having Ukraine on its border, under the NATO umbrella, was the last straw for Putin. 

Job Prospects For Recent College Graduates In US

This study by the NY Fed sheds some light on the demand for recent college graduates in the US.  The unemployment rate has fallen for recent grads; it is only 5% compared with 10% for non-college grads.  However, under employment is a serious problem .  46% of the jobs taken by recent grads are jobs that have not typically required a college degree.  On the other hand, many of those jobs are well paying.  Those jobs have been growing while demand for college graduates has been flat for the last 18 months.  The underemployment rate of 46% is well above the 35% rate for less recent college grads.

The good news for recent college grads is that they have a low unemployment rate compared to non-college grads and they are finding well paying jobs.  That is one of the reasons why the NY Fed concluded that a college education was still a good investment.  Its bad news, however, for non-college graduates.  They are losing well paying jobs, that used to be available to them, to recent college graduates.  In other words, recent college grads are doing well relative to non-college grads.  They are doing less well in comparison to college grads who preceded them.

This study suggests that turning out more college graduates is not the solution for the unemployment problem.  The supply of college grads that we are producing exceeds the demand for college grads.  The skill gap that many politicians and pundits blame for our high unemployment rate is unfounded. 

BP Faces $18 Billion Fine For Gulf Oil Spill

This article describes the ruling by a district judge regarding BP's responsibility, which is shared with other parties in America's greatest environmental disaster.  The judge stated that BP was negligent that it was primarily responsible for the loss of life and damages.  This fine comes on top of $28 billion that BP has already paid for environmental damages and $4 billion in penalties for manslaughter.  BP has been forced to sell off assets in order to pay for the penalties that it has been assessed.  The judge did not mince words in his summation.  He stated that BP placed cost savings and time savings ahead of safety in the decisions that it made leading up to the disaster.

Thursday, September 4, 2014

Adam Smith And The Good Society

Adam Smith understood that there were many poor countries and some prosperous countries.  There was no point in learning about poverty; it was more important to understand what made a country prosperous.  He believed that self interest is a powerful motivation.  We often benefit others in unknown ways by pursuing our self interest.  Commerce can be construed as system of fair exchange.  The business person offers a product or service that provides value to the customer and both parties benefit from the exchange.  Competition is an external force that governs the fairness of the exchange.  This is the message that many people have taken from The Wealth Of Nations.  It is certainly an important part of any market system.  Unfortunately, there was another important factor in the determination of a wealthy and just society that is often ignored.

Smith believed that we are also driven by moral sentiments.  In fact, he wrote a book about moral sentiments prior to The Wealth Of Nations.  Moral sentiments provide an internal compass that guides our behavior which complements the the external forces of self interest and competition.  We are helpless at birth and society could not exist without the attachment and sacrifices that parents make for their children.  We intuitively understand the difference between things that are good, and things that are harmful to others.  We feel good about ourselves when behave in ways that are consistent with our moral compass.  The desire to be praiseworthy is a powerful force that complements our self interest.  Together, the external force of self interest, under conditions of fair competition, and our desire to satisfy the demands of our internal compass,  are the forces that determine "good conduct".  Smith believed that good conduct is essential for commerce, and that it is the end towards which a just society and prosperous should aspire.

There are times when the forces described by Smith lead to good conduct, and there are times when they do not.  Our problem is to better understand the conditions that lead to the perversion of the system described by Smith.  There are often forces at work that limit the external guidance from competition, and we can also be deceived when believe that we have become praiseworthy by accumulating symbols of achievement through devious means.  We will go to great lengths to justify our success under those conditions but we are seldom able to fool ourselves.  The problem becomes more severe when the financial rewards for bad conduct have risen to the levels that we observe today. 

Tuesday, September 2, 2014

What Started The Upsurge In Student Debt?

This article argues that policies in the Ronald Reagan government are responsible for much of the increase in student debt burdens.  Some of the problem has occurred at the state level because states reduced funding to state colleges and universities.  The Reagan Administration shifted the focus of federal funding from grants to subsidized student loans.  The  shift in policy was related to a shift in government ideology under Reagan.  Families should be financially responsible for the education of their children.  Federal tax dollars should not be used to pay for the higher education of low income students.

We should remember that Ronald Reagan was the Governor of California during the student protests in the 1960's.  He used force to defuse the protests at UC Berkeley which was at the center of the student protest movement.  Reagan may have developed a distaste for spending money educating leaders in the student protest movement.  They had the strange idea that we should have a more democratic society.  That was obviously a communist inspired idea.

Eric Cantor Lost The GOP Primary And Won A High Paying Job On Wall Street

Eric Cantor was one of the GOP envoys to Wall Street.  His new job is do the same thing with a much higher salary.  One of boutique Wall Street banks has hired him to represent its interests to his friends in Washington.  This is a predictable version of the revolving door in which government employees end up in high paying private jobs after serving their time in government building a contact base within the government.  

The voters in Eric Cantor's district voted against him because they did not appreciate his links to the elites on Wall Street.  They don't seem to understand that Eric Cantor was only implementing the mission of the political party to which he belongs.

What Happens To The Furniture Workers In North Carolina?

Joe Nocera reviews a book about a small company town in North Carolina where a furniture factory employed most of the town's population.  The jobs went away when they were exported to China where furniture could be manufactured at lower cost.  That is what happened in Michigan when furniture manufacturing moved from a state with more expensive labor, and more government regulation, to a more "business friendly" Southern state.  The same thing will happen to China.  The furniture jobs will move to a location that is more "business friendly" than China.

One of the characters in the book is an economist who argues that this is exactly what should happen in the global economy.  The workers in North Carolina who lost their jobs should be retrained so that they can take high skilled jobs that pay more than the jobs that were lost.  After all, that is what happened in the US when  most of the jobs were in agriculture.  They were replaced by higher skilled jobs in manufacturing that paid higher wages.

The economist who proclaimed the good news for the workers in North Carolina, who would be able to move up to higher skilled jobs after they were retrained, was simply restating conventional economic theory.  That is how free trade is supposed to work.  One of the problems with this theory is that 5 million factory jobs were lost over the last 20 years.  Where are the 5 million higher skilled jobs that have replaced the lost manufacturing jobs?  The sector with the fastest job growth has been the low wage service sector.  Furthermore, we have done a poor job of retraining workers who have lost their manufacturing jobs.  There is a wide gap between economic theory and the reality of the labor market.

Monday, September 1, 2014

Sales Of Russian Made Weapon Surge In US Following Sanction Against Russia

Conservatives in the US, most of whom view Russia and Putin with scorn, have responded to President Obama's sanctions against Russia in a predicable way.  They have rushed to purchase the banned AK-47 assault weapon.  The National Rifle Association portrayed the ban as a liberal gun control plot.  The right wing Internet blogs followed the NRA's lead and warned their followers to buy them now while they are still available.  Many were purchased for resale by conservatives who took advantage of other conservatives who feared a shortage of the AK-47. Many were sold for hundreds of dollars over list price.  The fear of being without an assault rifle,  and the desire to overcome a liberal conspiracy against the use of assault rifles, was stronger than their dislike for Putin or for Russia, which is also inspired by conspiracy theories. 

Public Opinion In Russia About Ukraine

Putin's popularity in Russia has risen dramatically as a result of his policies in Ukraine.  He has been able to use the media to tell his side of the story, often at the expense of truth.  President Obama must be envious of the Russian President.  The media have not been his friend for most of his presidency.  That is primarily the result of the two party system in the US.  The media likes nothing better than to describe the battles between the two parties.  The truth often suffers from this battle as well but less so than in does in Russia.  During the cold war with Russia, the media turned a troubled Russia into a military and ideological threat that was greatly exaggerated.  Putin is doing something similar today.  He blames Western conspiracies for the troubles in Ukraine. 

Europe's Russian Connections

Everyone mentions the conflict in Ukraine as one of the major problems in the European economy.  The details about the connections between Russian and the rest of Europe are not often made explicit.  This article describes the web of relationships between Russia and Europe.  The countries most affected by the conflict are Eastern European economies that export to Russia and are dependent upon Russian imports.  Dependence upon Russian energy and raw material imports is fairly well understood but many banks in Europe are also dependent upon relationships with Russia. 

Europe's Descent Into Deflation

Monetary policy in in Europe is constrained by legal and political constraints on the ECB.  The ECB has not been able to use policies like those used by the US Federal Reserve to restore growth.  The head of the ECB stated that fiscal policies were needed to prevent deflation.  However, he has the wrong idea about which fiscal policies are needed.  He supports structural changes that would increase flexibility in labor markets;  he also would like to see educational reform.  Such changes might be useful in Europe that they take a long time to work their magic.  Europe suffers from a continuing decline in aggregate demand.  That requires fiscal policies that will stimulate growth in the short term.  That kind of fiscal policy is not on the agenda in Europe. 

Monetary policy is effective in controlling inflation.  It is less effective in reversing a deflationary trend.  If Europe falls into deflation it will be due to policies that limit the use of fiscal policy. 

NYT Editorial On Labor Day In US

The last paragraph of this editorial declared that US policy over the last 35 years has served the interests of Corporate America at the expense of workers.  The editorial board connected the dots and arrived at the understanding that there is a relationship between record breaking corporate profits and depressed wages.  It called for a full employment agenda but it left that agenda up to our imagination.  It will probably stay there.  US labor policies have been as they are for a reason.  The political agenda is controlled by Corporate America and its friends in the media that depend upon corporate advertising revenues.