Conscience Warrior

08 February 2014

Links of the Week - 7 February 2014

A weekly collection of links from the Conscience Warrior Newsfeed

The most damning critique of DSGE
Noah Smith

The Raleigh Experiment
Paul Krugman

Capital in the long run
The London Economist

Is There One Economic Model to Rule Them All?
Mark Thoma

Noah Smith’s not-so-damning critique of DSGE models
Chris House

Tribal Reality and Extant Reality
Noah Smith

The Vicious Circle of Income Inequality
Robert Frank

The Anti-Scientific Revolution in Macroeconomics
Paul Krugman

Congress is a millionaires' club. Why that matters, and what we can do about it.
Kathleen Geier

Alternately, I suppose all those ex-coal miners in kentucky could just become new-media entrepreneurs
No More Mister Nice Blog

What liberals get wrong about single payer
Ezra Klein

How will conservatives save the poor?
Noah Smith

5 reasons why your pay isn't rising as fast as it should
Mark Thoma

A Quiet Win for Banks on Borrowing
Matthew Yglesias

Rational Expectations and Reality
Chris House

Is the U.S. too corrupt for single-payer health care?
Ezra Klein

Why stopping the next financial crash is an impossible dream
John Aziz

The equation at the core of modern macro
Noah Smith

Paul Krugman & The Nature Of Economics
Chris Dillow

The Moral Indignity of Social Democracy
via Brad DeLong

01 February 2014

Links of the Week - 31 January 2014

A weekly collection of links from the Conscience Warrior Newsfeed

Throwing away the key
London Economist

The new debtors’ prisons
London Economist

Life without parole is an outrageous sentence for non-violent criminals
London Economist

Rise of the distorporation
London Economist

Labour pains: All around the world, labour is losing out to capital
London Economist

Britain leads a global push to rethink the way economics is taught
London Economist

Turning workers into capitalists
London Economist

The monolith and the markets
London Economist

Raising the floor
London Economist

The logical floor
London Economist

In Praise of Art Laffer
Paul Krugman

The NYT spreads AEI’s Big Lie of the Crisis
Ryan Chittum

The Urban Institute on the Probability of Female Survival to Age 50 in the OECD: Graph of the Week
via Brad DeLong

Tax Frenzies and How to Hose Them Down
John Scalzi

After Obamacare Is No Longer Doomed, It Will Become a Scandal
Jonathan Chait

Something to Behold
Josh Marshall

How to Tell If Fiscal Policy Works
Mark Thoma

What Alan Greenspan Has Learned Since 2008
Justin Fox

What’s That You’re Calling a Bubble?
Justin Fox

Lane Kenworthy on 'Social Democratic America'
interviewed by Dylan Matthews

29 January 2014

Taxi Medallions, Congestion, and Coase

The economic case against occupational licensing is, roughly, that it creates, implicitly or explicitly, an artificial cap on supply, increasing price for the licensed good. The political economy case against occupational licensing is, roughly, that, since it is done by the government, it is definitionally inefficient. (The technical term, in the discipline, is 'baaaaad.' Related note: If saying 'Government is baaaaad' makes you sound like a sheep, there may be two reasons for that.)

Typically, the artificial supply constraint is inefficient because there is nothing to be gained by limiting, for example, the number of barbers or nail-ladies or African-hair-braiders in a given market. If there suddenly appeared a barber shop on every corner, the market would drive down the price of haircuts until some number of barbers couldn't or wouldn't continue doing business.

The idea of externalities, or spillovers, is that the costs and benefits of some transactions are not captured directly in the transaction. A positive externality occurs when a social benefit accrues to people not party to a transaction, such as the construction of a wind farm to provide electricity. Even those who do not buy the electricity generated by the wind farm will likely suffer from less pollution if there is a move away from coal power. A negative externality occurs when a social cost is inflicted upon people not party to a transaction. A common example is cigarette smoking. Those near to the smoker are exposed to the smoke through no choice of their own.

The intersection of the licensing problem and the spillover problem is the taxi medallion problem. Taxis in New York are capped through the issuance of medallions that the car must display on its hood. There cannot be more taxis than there are medallions. Thus, the cost of medallions can be rather high. At an auction last November, 200 medallions were sold for 'record prices of up to $1.3 million each.' This is a fairly efficient market, so observers can conclude that the buyers of the medallions plan to recoup their purchase price within the bounds of their discounted time-consistent indifference curve between spending now and spending later.

The question is whether taxi medallions should be $1.3 million. Does this not inflate the price of taxi services? Is this not the big, baaaad state expropriating from its sovereign citizens? That depends, of course, on whether or not you remember our little chat about externalities from before.

If Jasper contracts with Theophilus for taxi services to get Jasper from, say, the Cedar Tavern to La Lanterna, and does so at a miraculous time when there are zero cars on the streets in between, it will take ~4 minutes. If there is another car somehere in between, it will still likely take about four minutes. If there are two cars in between, it will still likely take about four minutes. Therefore, the cost of each additional car on the road in terms of Jasper's time is zero, right?

Right?

If there are three hundred cars on the streets between the Cedar and La Lanterna, the cost to Jasper is no longer trivial. Thus, each additional car exacts a cost in each other car. Since taxis make up a large proportion of vehicle traffic in New York, it makes sense to limit their number. The theory is akin to that behind congestion taxes; the revenue raised through traffic-mitigation taxes can be put toward less-congestive infrastructure.

The challenge, of course, is in identifying an optimal method and magnitude of application. Certainly, in many less congested areas, there is simply no need for such intervention. In Durham, North Carolina, where I live, the only traffic I ever really encounter is around schools at opening and closing times, and at certain times in the very small downtown area. In communities like this, the cost of identifying specific problem areas and implementation of congestion taxes for those areas is likely greater than the social benefit of the taxes. In a congested area, detailed studies of the precise manner of congestion is necessary to determine the exact nature of the problem. Once that is accomplished, a reliable and efficient implementation method must be devised. In a city with the geography of New York could, for example, collect a fee for cars to enter the city and collect a surtax on car registration at addresses in Manhattan.

Many people would call such a plan "heavy-handed." Whether that's because they are drivers who would not appreciate the personal cost, or because such people are inherently opposed to any sort of government intervention is beside the point. Prices determined by an unimpeded market simply do not always incorporate the full social cost and the full social benefit. Ronald Coase believed that such situations were solvable when property rights are comprehensively defined. The congestion problem confounds this formulation, and is only solvable with carefully constructed intervention.

27 January 2014

A Retrospective Argument in Favor of QE2

The Board of Governors of the Federal Reserve (the Fed) launched its program of Large-Scale Asset Purchases (LSAP), referred to in the popular press as “Quantitative Easing,” on 25 November 2008, in response to the recession that began in December 2007. Through this program, the Fed planned to purchase $800 billion worth of bank debt, mortgage-backed securities, and Treasury bonds. By the end of the program, in June 2010, the Fed had actually purchased a total of $2.525 trillion of these securities and longer-term Treasury debt. The Fed initially ended this purchase program in June 2010 because the economy looked to be in recovery. In August 2010, the Fed began to purchase $30 billion in long-term Treasury debt per month because the recovery began to slow. This extraordinary monetary policy was deemed necessary because the Fed had already exhausted its normal policy tools, such as lowering the Federal Funds Rate (FFR), which was nearly zero (Amadeo, What Is Quantitative Easing?, 2013).

Figure 1: Ex-post Inflation in 2010

In November 2010, The Fed announced that it would buy $600 billion of Treasury debt, in order to keep its portfolio at approximately $2 trillion (Amadeo, Federal Reserve's QE2, 2012). The stated purpose of this additional LSAP (“QE2”) was to increase inflation, which had been falling steadily throughout 2010, and was threatening to fall below zero (Figure 1). With the announcement, inflation expectations (University of Michigan Inflation Expectation) immediately began to rise, with measured inflation (Core PCE) ceasing to fall, and beginning to rise in early 2011 (Figure 2). The growth rate of Real GDP, which had begun to fall off in the second quarter of 2010, has remained above one percent since the implementation of QE2 (Figure 3). While this is hardly encouraging, based on recent history (Figure 4), QE2 likely headed off another recession.

Figure 2: Recent Expected Inflation and Ex-post Inflation

Figure 3: Recent GDP Growth

In order to assess whether or not LSAP should have been discontinued in the fourth quarter of 2010, it is necessary to weigh the net benefits and costs of continued LSAP. The benefits include bolstered inflation and GDP, and reduced unemployment. The potential costs include runaway inflation and reduced purchasing power of the dollar internationally. I will weigh each of these, and demonstrate both that there existed no compelling reason to discontinue LSAP in 2010 and that no macroeconomic event since 2010 has altered this calculus.

Figure 4: Historical GDP Growth

The chief criticism of LSAP broadly is that it is likely to lead to a drop in value of the dollar (Macroeconomic Analysis). Bill Gross, manager of PIMCO, the world’s largest mutual fund, voiced this concern specifically in the run up to the announcement of QE2. "When a central bank prints trillions of dollars of checks, which is not necessarily what (a second round of quantitative easing) will do in terms of the amount, but if it gets into that territory --- that is a debasement of the dollar in terms of the supply of dollars on a global basis" (Ablan, 2010). The trade-weighted dollar index (major currencies and broad) was in the middle of a slight decline when QE2 was announced, and bottomed out six months later. It has risen for the most part since (Figure 5).

Figure 5: World Purchasing Power of the Dollar

Daniel Thornton, Vice President of the Federal Reserve Bank of St. Louis, warned in late 2010 that the then-recently announced QE2 posed a “danger [of] long-run inflation … well above” the 2% target (Thornton, 2010). Inflation expectations, as measured by the University of Michigan survey and the 5- and 10-year TIPS spreads, have been between 1.5 and 3.8 percent, while actual measured inflation, as noted above, has hardly risen above 2 percent (Figure 2). David Andolfatto recently noted that TIPS-spread-based measures of expected inflation have begun to move upward, but that the effect is more prominent on short-run expectations than on long-run (Andolfatto, 2014).

Figure 2: Recent Expected Inflation and Ex-post Inflation

Thornton also warned that “additional quantitative easing may have only modest effects on economic growth, employment, or inflation” (Thornton, 2010). In contrast, Cúrdia and Ferrero examined the effects of QE2 on GDP growth and inflation and found that QE2 led to a 0.13 percentage point increase real GDP growth and a 0.03 percentage point increase in inflation. This effect owes much to the effectiveness of “forward guidance,” or clearer communication of Fed policy intentions (Cúrdia & Ferrero, 2013). Matthew D. Raskin also found a positive economic effect of this move toward clearer communication (Raskin, 2013). The analysis by Cúrdia and Ferrero led them to conclude that a reduction of the FFR of 0.25 would have a more reliably positive impact on these metrics, but, as the FFR was near zero at this time, as it has been since late 2008, such a policy option was unavailable.

Figure 6: Recent Deviations From Potential

Another argument in favor of accommodative monetary policy is that the US economy has been operating significantly below potential since mid-2008 (Figure 6). Real GDP has not been below potential to this degree in thirty years (Figure 7). Reifschneider, Wascher, and Wilcox estimate (with a more pessimistic measure of potential GDP) that the US economy is currently 7% below potential as of 2013 (Reifschneider, Wascher, & Wilcox, 2013). The supply-side damage from the crisis includes labor-market inefficiency, reduced labor-force participation and capital stock, lower multifactor productivity. This is the source of their measure of potential GDP, which is below that of the Congressional Budget Office, but still markedly higher than real GDP.

Figure 7: Historical Deviations From Potential

In any macroeconomic analysis, counterfactuals are exceedingly difficult. True laboratory experiments are nearly always impossible. When available, natural experiments can prove very valuable. None of these methods are possible in the analysis of something as large, unprecedented, and deeply interwoven with both the wider macroeconomy and specific financial markets as LSAP. The analyses of Cúrdia & Ferrero, Raskin, and Reifschneider, et al. attempt to quantify specific effects of LSAP, and these analyses can form the basis for complex counterfactuals that will likely inform the papers of economic historians for decades to come.

Ultimately, the best technique to determine whether the Fed should have discontinued LSAP in late 2010 is simple benefit-cost analysis. Since the worst of the dire predictions about QE2 and beyond have not come to fruition, and show no sign of doing so going forward, and since the scaling back of asset purchases has not yet disrupted markets, and also shows no sign of doing so in the medium-term, and since there is still clearly much slack remaining in the economy, due in no small part to counterproductive fiscal policy due to political intransigence, it is impossible to conclude that it would have been wise for the Fed to discontinue LSAP in the fourth quarter of 2010.

Works Cited

Ablan, J. (2010, November 1). Fed easing may mean 20 percent dollar drop: Gross. Retrieved January 20, 2014, from Reuters: http://www.reuters.com/article/2010/11/01/us-pimco-gross-idUSTRE6A055R20101101

Amadeo, K. (2012, December 12). Federal Reserve's QE2. Retrieved January 20, 2014, from About.com: http://useconomy.about.com/od/Fed/g/QE2.htm

Amadeo, K. (2013, December 30). What Is Quantitative Easing? Retrieved January 20, 2014, from About.com: useconomy.about.com/od/glossary/g/Quantitative-Easing.htm

Andolfatto, D. (2014, January 17). U.S. Inflation Expectations: Low, But Rising. Retrieved January 20, 2014, from MacroMania: http://andolfatto.blogspot.com/2014/01/us-inflation-expectations-low-but-rising.html

Cúrdia, V., & Ferrero, A. (2013, August 12). How Stimulatory Are Large-Scale Asset Purchases? Retrieved January 20, 2014, from Federal Reserve Bank of San Francisco: http://www.frbsf.org/economic-research/publications/economic-letter/2013/august/large-scale-asset-purchase-stimulus-interest-rate/

Federal Reserve Bank of St. Louis. (2014, January 20). [All Figures]. Retrieved January 20, 2014, from Economic Research: http://research.stlouisfed.org/

Macroeconomic Analysis. (n.d.). Criticism of Quantitative Easing. Retrieved January 20, 2014, from Macroeconomic Analysis: http://macroeconomicanalysis.com/macroeconomics-wikipedia/criticism-quantitative-easing/

Raskin, M. D. (2013, May 9). The Eﬀects of the Federal Reserve’s Date-Based Forward Guidance. Retrieved January 20, 2014, from Board of Governors of the Federal Reserve System: http://www.federalreserve.gov/pubs/feds/2013/201337/201337pap.pdf

Reifschneider, D., Wascher, W., & Wilcox, D. (2013, November 21). Aggregate Supply in the United States: Recent Developments and Implications for the Conduct of Monetary Policy. Retrieved January 20, 2014, from Board of Governors of the Federal Reserve System: http://www.federalreserve.gov/pubs/feds/2013/201377/201377pap.pdf

Thornton, D. L. (2010). The Downside of Quantitative Easing. Retrieved January 20, 2014, from Federal Reserve Bank of St. Louis - Economic Synopses: http://research.stlouisfed.org/publications/es/10/ES1034.pdf

25 January 2014

Links of the Week - 24 January 2014

A weekly collection of links from the Conscience Warrior Newsfeed

10 Reasons That Long-Term Unemployment Is a National Catastrophe
Kevin Drum

Charts: The Worst Long-Term Unemployment Crisis Since the Depression
Dave Gilson, Tasneem Raja, and AJ Vicens

Rand Paul has some Festivus grievances with Washington. The unemployed have some with him.
Ezra Klein

The Plight of the Employed
Paul Krugman

Save Your Worry
Evan Soltas

“Free speech” hypocrites: Dixie Chicks, “Duck Dynasty” and America’s pointless shell arguments
Matthew Bruenig

Long run, medium run, and short run Fisher curves
Nick Rowe

Why Corporations Might Not Mind Moderate Depression
Paul Krugman

Unemployment and Profits: A dirty little secret
Bill McBride

The Big Screwup
Paul Krugman

Time for a little Bitcoin discussion
Joshua Gans

In gold we trust?
David Andolfatto

Redistribute wealth? No, redistribute respect.
Noah Smith

On the Asymmetry of Booms and Slumps
Paul Krugman

Bitcoin Is Evil
Paul Krugman

Mixed thinking about markets
John Quiggin

Rand Slaps Down Rand
Paul Krugman

Cynical Fantasies
Paul Krugman

Jean-Baptiste Say, Cockroach
Paul Krugman

The multi-ethnic and globalised flavour of white America’s earliest settlements
London Economist

21 January 2014

In which I apologize yet again...

I know things have been quiet here lately. I do have a few things in the hopper, so stay tuned...

20 January 2014

MLK Day Every Day

Today, in what has become an annual tradition, I am reposting an essay I wrote in 2012 on the occasion of Martin Luther King Day.

MLK Day Every Day

Today, our nation honors its single greatest citizen, Dr Martin Luther King, Jr. Dr King seized upon the ideals of the founders and sought to bring intellectual honesty to the precept, "Justice for all." Like so many people of beneficent conscience, he sought to remake the world in the image of what it could be. Unlike so many before or since, he succeeded, at least in moving our society toward that goal, chiefly through the relentless courage of his convictions.

In the immediate aftermath of the Second World War, black Americans who'd served overseas began to agitate for the sort of equality to which they'd been exposed in Europe. They came to realize that, if they were to fight and die for the American cause, perhaps that cause ought to include their interests. From this burgeoning movement emerged Martin Luther King. A young minister with a degree in divinity, he was radicalized by the rampant culture of abuse inflicted upon American blacks, particularly in the south. His expansive philosophical interest led him to, among others, Henry Thoreau, whose views on the tyranny of the majority were the intellectual foundation of Dr King's interpretation of the problem faced by black Americans, and Mohandas Gandhi, whose philosophy of non-violence was the inspiration for Dr King's solution.

The importance of the cultural shift under way in the 1950s to the effectiveness of Dr King's message cannot be overstated. In the years after the Second World War, Americans collectively enjoyed a growth in prosperity previously unseen. As more and more white Americans escaped poverty and enjoyed President Roosevelt's "freedom from want," it became increasingly clear to non-whites that they were not to be included. The expansion of radio and the advent of television hammered home the point that economic security and middle class luxury in 1950s America were monochromatic. Radio and television also provided the viscerally powerful orator an audience wider than that enjoyed by earlier prophets.

In 1965, Dr King's focus on social improvement expanded to include the economically disadvantaged, regardless of race. The escalation of the war in Vietnam struck at the heart of Dr King's fervent belief in non-violence. He also came to see conscription, as practiced in 1960s America, as an unfair burden upon the less fortunate, and blacks in particular. His inclusion of poor whites in the pantheon of the dispossessed whose lot he sought to improve posed a particular threat to the political and economic establishment because then, as is still so sadly the case now, this establishment relies upon poor whites as their agents of oppression, forming a bulwark against the political and economic gains of poor minorities.

That Dr King was killed before his job was done is not to be mourned. It is not appropriate, either, to draw primary inspiration from his tragedy. It is a disservice to his legacy to focus our attention too greatly on any aspect of his story beyond his message. Dr King was no utopian; he lived in, and was of, our time. He did not advocate equality of result, merely equality of opportunity. Much of the last forty years has seen the rise of philosophies committed to the maintenance of the status quo, such as free-market fundamentalism. While this would surely sadden Dr King, it is important to take a long view, as Dr King acknowledged when he observed that “The arc of the moral universe is long, but it bends toward justice." To recognize that our society has come so far in furtherance of the betterment Dr King envisioned is not to blindly settle for what progress has been made, but rather to understand how much more is possible.

The holiday in honor of Dr Martin Luther King, Jr comes once a year, in January. Every day that we consider the plight of the poor and of the disadvantaged and work toward improving our shared prosperity, however, is Martin Luther King Day.

"True compassion is more than flinging a coin to a beggar; it comes to see that an edifice which produces beggars needs restructuring."

19 January 2014

Measuring Employer Market Power

In a recent post, I looked at one measure of current job market slack. I've reproduced the graphic from that post below. It shows the difference between the number of unemployed persons and the number of job openings.

Unemployed minus Job Openings since 2008 (in millions)

What this shows is that there are still over seven million more unemployed than there are job openings, down from a peak of around 13 million at the end of 2009. To get some perspective on this number, I extended the line as far out as the data allow. The graphic below is the same measure from 2001 to present.

Unemployed minus Job Openings since 2001 (in millions)

In this graphic, we can see the recovery after the 2001 recession. There is no demographic story here. No "baby-boomers exiting the workforce" explanation is possible here. Neither is there a population growth story here. For population to explain this difference, for example, the US population would have to be roughly twice the level it was ten years ago.

To really show what I and others mean by "slack," we have one other measure to observe. The chart below is total unemployed persons divided by total job openings.

Unemployed Persons per Job Opening since 2008

What we see here is that there are still three unemployed persons for each job opening. This is what I mean when I say that employers enjoy market power in the labor market. This is why, for example, wages are under no upward pressure. Who would dare ask for a raise under these conditions?

Another notable observation, regarding the "great vacation" theory of unemployment: What do you suppose happened in early 2008? Either the jobs were pulled out from under the workers (decrease in job openings), or many more people began to look for work (the exact opposite of the "great vacation" theory).

We can also put the Employer Market Power Ratio in perspective as well. For these data, we can all the way back to 2001 as well.

Unemployed Persons per Job Opening since 2001

What we see here is that the ~3 persons per opening of today is roughly equal to the worst time after 2001.

The elephant in the room in this analysis is that all of these metrics use Total Unemployed Persons, which is an entirely inadequate measure, but it's all we've got for now. If we were to include discouraged workers in these calculations, the picture would likely be far worse.