Monthly Archives: January 2015

Bitcoin Equals Dollar Plus Amnesia

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Timothy B. Lee writes,

It’s a mistake to read too much into short-term fluctuations in Bitcoin’s value.

On the contrary. Short-term fluctuations in value tell you everything you need to know about Bitcoin. It tells you that as a medium of exchange it is an utter failure. Who wants to undertake daily transactions in a currency whose value gyrates wildly?

Pointer from Tyler Cowen.

The same thing could happen to the dollar, although it won’t.

As a thought-experiment, imagine that everyone developed amnesia overnight about the dollar price of everything. They wake up having to quote prices in dollars. Do you think that anyone would have any clue what to charge in dollars today without knowing what prices were yesterday? Under the amnesia scenario, Americans would pick some other currency to use for ordinary business. Heck, they would be happier taking rubles than dollars, if rubles had some history to them. In the amnesia thought-experiment, the dollar would become like a Bitcoin–a crazy, speculative oddity that nobody would use for daily transactions.

This thought-experiment, which makes perfect sense to me, runs counter to everything economists teach about monetary theory. In standard monetary theory, nobody has to remember anything. Each new day, whether you start with a blank slate or not, the market will grind out the relative prices of everything, and then the dollar prices will be determined by the quantity of dollars in circulation.

Monetary theory wants to make dollar prices precisely determinate. My perspective is that money and prices are consensual hallucinations. We would prefer that prices not be volatile. We conduct our daily business as if most prices were not volatile, and this becomes a self-fulfilling belief. Except when it doesn’t. When we don’t trust that most prices will remain stable, our behavior becomes radically different.

My Review of Colander and Kupers

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I write,

the authors seek to dethrone neoclassical economics. In terms of a metaphor that Colander articulated at a conference, neoclassical economics represents a high mountain peak in terms of insights into social phenomena. However, there is a higher peak to be found, and to reach that summit economists must first climb down from neoclassical economics and scale the peak of complexity economics.

My review attacks the authors for “their failure to stick to a single concept of government.”

Teaching is Not About Teaching

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Eric Loken and Andrew Gelman wrote,

Being empirical about teaching is hard. Lack of incentives aside, we feel like we move from case study to case study as college instructors and that our teaching is a multifaceted craft difficult to decompose into discrete malleable elements.

More recommended excerpts here. Pointer from Jason Collins.

They refer to statistical quality control. Deming would describe what educators do as “tampering.” By that, he means making changes without evaluating the effect of those changes.

I think that there are two obstacles to using statistical techniques to improve teaching. One obstacle is causal density. It is not easy to run a controlled experiment, because there are so many factors that are difficult to hold constant.

But the more important obstacle may be the Null Hypothesis, which is that you are likely to find very discouraging evidence. Sometimes, I think that what the various consumers of teaching (administrators, parents, students) want is not so much evidence that your teaching methods work. What they want is a sense that you are trying. Teaching is not about teaching. It is about seeming to care about teaching.

Of course, if student motivation matters, and if students are motivated by believing that you care, then seeming to care can be an effective teaching method. I recall a few years ago reading a story of Indian children attempting distance learning, with the computer guiding the substance of their learning supplemented by elderly women acting as surrogate grandmothers, knowing nothing about the subject matter but giving students a sense that someone cared about their learning.

The Great Depression as a Coordination Failure

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In Fear Itself, Ira Katznelson shows how many intellectuals yearned for a planned economy, but without the ugly police-state repression of Fascist Italy or Communist Russia. As you know, I sense that Katznelson himself seems to still yearn for government oversight of the economy. In fact, Katznelson quote explicitly expresses disappointment that planning was superceded by what he called the “fiscal policy” approach (meaning Keynesian economics). Of course, I think that central planning is not the answer.

Katznelson disparages the Keynesians (and the monetarists) who came up with the aggregate-demand theory of the Depression. He clearly prefers the pre-Keynesian theory that the Depression was a breakdown of the capitalist system.

Here’s the thing. I agree with Katznelson.

The PSST story would look at the Depression as a coordination failure. The market price system, which is supposed to serve as a decentralized planning apparatus, screwed up. Old patterns of specialization and trade became unsustainable, and for a long time the market could not figure out new, sustainable ones.

The modern macroeconomic view is that the Depression was caused by a shortfall in aggregate demand, as opposed to a breakdown of the capitalist system. Instead, I prefer the pre-Keynesian diagnosis, although I do not believe that government officials could have done better by taking over more of the planning. To the extent that they attempted central planning through the NRA and various other New Deal initiatives, the results were certainly not good.

Condivergence: A Theory of Changes in Income Distribution

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The WSJ blog writes,

Within the United States, income inequality is most pronounced in the Southern half of the country

This is consistent with a theory that I call Condivergence. It combines convergence with respect to geography and divergence with respect to innate ability.

For two people of equal innate ability, their place of birth matters less than it did fifty years ago. Within the U.S., this means that the South appears to have closed much of the income gap with the rest of the country that existed in the 1930s. Across countries, we have seen incomes rising more rapidly in China, India, and other low-income countries than in the U.S. That is what economists call convergence, or factor-price equalization.

At the same time, however, we have seen a widening of income disparities within regions. House prices in one suburban neighborhood in St. Louis are several times those in a neighborhood just a few miles away. Income inequality has soared within the South, and within the U.S. I see this as a reflecting larger reward differentials for a given differential in innate ability. That is known as divergence.

The two processes are linked. As the effect of geography on income edges down, the effect of innate ability goes up. The winners are people with high ability in erstwhile low-income locations. The losers are people with moderate to low ability in erstwhile middle-income locations.

Jonathan Haidt, the n-word, and capitalism

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He writes,

there are two basic master narratives about capitalism that have been circulating in the West since the time of Adam Smith. One story is that capitalism (and business more generally) is exploitation, so we need a strong government to keep the greed and amorality of capitalists in check. The other story is that capitalism is liberation. People were mostly serfs and peasants until capitalism came along and freed people to keep the fruits of their own labor, so we need to keep government’s role to a minimum, given how prone it is to capture, corruption, and inefficiency.

Pointer from Tyler Cowen. Remember, the word “narrative” has been declared “out” for 2015 by the Washington Post arbiters of taste.

Still, I think that Haidt is onto something. In terms of the three-axis model, the exploitation story fits the oppressor-oppressed axis favored by progressives, and the liberation model fits the freedom-coercion axis favored by libertarians.

This leaves out the conservative axis of civilization-barbarism, and I think that conservativism is somewhat ambivalent on the issue of markets. Conservatives praise markets for rewarding the virtues of effort, patience, self-reliance. But conservatives dislike markets for undermining cultural traditions, putting the vulgar on par with the sublime, and lacking moral direction. Consider Charles Murray in Coming Apart (which I am re-reading):

For Benjamin Franklin, this meant that “only a virtuous people are capable of freedom. As nations become more corrupt and vicious, they have more need of masters.”

It is a short leap for some conservatives to believe that markets unguided by conservative leadership take a nation on a path that makes it “more corrupt and more vicious.”

Narrative is the New Baloney Sandwich

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Brad DeLong writes,

When it became clear in late 2008 that the orgy of deregulation coupled with global imbalances was confronting the global economy with a shock at least as dangerous as the Great Crash that had initiated the Great Depression. . .

Pointer from Mark Thoma.

Noting that on this year’s Washington Post list, “narrative” is in the “out” column, to be replaced this year by “facts,” I resolve in 2015 to use the phrase “I call Narrative” where I would have said “I call Baloney Sandwich.”

The phrase “orgy of deregulation” is a much-used narrative/baloney sandwich. Others have used it. Interestingly, in the version of the essay that appears on Project Syndicate, DeLong does not use it.

1. The facts are that one can just as easily blame the financial crash on an attempted tightening of regulation. That is, in the process of trying to rein in bank risk-taking by adopting risk-based capital regulations, regulators gave preference to highly-rated mortgage-backed securities, which in turn led to the manufacturing of such securities out of sub-prime loans.

2. The global imbalances that many of us thought were a bigger risk factor than the housing bubble did not in fact blow up the way that we thought that they would. The housing bubble blew up instead.

3. I call narrative whenever someone talks about the causes of the financial crisis without making any reference to looser mortgage lendings standards and/or without mentioning that government policies were hostile not to those institutions who dropped rigorous lending standards but to those who attempted to maintain them.

Tyler Cowen vs. the Club Model

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He writes,

In the old days one heard speculation about bundling a great number of newspapers and blogs into a single-price access model, but in retrospect this probably never had much financial potential, for reasons which by now should be clear. What would an “all-you-can-eat buffet for economists” mean? And who if anyone would benefit from it?

What such a buffet would mean would be that by paying one amount per month you could read as much as you want from the NYT, WSJ, existing blogs, plus all of the new economics blogs that would emerge because bloggers would now be directly compensated by getting a share of the subscription money, perhaps in proportion to the number of views of their posts or some other metric. The beneficiaries would be readers who would read more NYT and WSJ articles if there were no paywall and readers of the new blogs that emerge.

And the biggest beneficiaries of all will be people who save time not having to click on the “close” window on all those unwanted pop-up ads!!!! Because with a bundled subscription, we can finally have content without advertising. The current newspaper model is headed toward the opposite.

This “club” might not be the most viable model. I once thought it would be, but over time I have become convinced that the patronage model will win out. That is, in the end, the NYT will be a money-losing enterprise, but some wealthy patron or patrons will be happy to keep it going. Similarly, those bloggers who want money will have to find patrons to support them. Whether content is better under a patronage model or under a club model is not clear.

The Paradox of Education

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Joel Kotkin writes,

Generally speaking, those areas that have the heaviest concentration of educated people generally do better than those who don’t.

He looks at statistics across different sections of California.

Sort of randomly, the other morning I went to Zillow and looked up house prices in three places. On Faris Avenue, which is a block over from my childhood residence in suburban St. Louis (my own street was all multifamily dwellings, but I wanted to price a single-family home), there is a 1440 square foot house for sale for $37,900.

I know someone who lives in a more affluent suburb in St. Louis. A 2428 square foot house on their street, Eversdale Court, sold almost two years ago for $417,000. Thus, it is less than twice the size of the house on Faris avenue, but it is worth more than 10 times as much.

In Bethesda, a 45-minute bike ride from where I live now, there is a new condominium building called The Darcy with prices that range from the mid $600 K to $3 million. The smallest floor plan has 835 square feet.

Just to put this in perspective, for the price of an 835 square foot condo in Bethesda, you could buy close to 4000 square feet of home on Eversdale Court and about 20,000 square feet of homes on Faris Avenue (which would just about get you the whole street). I think this tells you everything you need to know about economic disparities. And if you use house prices as your indicator of disparities, my guess is that you will find plenty of correlation with educational attainment rates.

But the paradox is that if you think of education as fairy dust, and you try to sprinkle it on to the residents of Faris avenue, you could sprinkle like crazy without moving their economic status very much. The Null Hypothesis, which says that educational interventions have almost no discernible long-term effects in a replicable controlled-experiment setting, is a pretty safe bet.

As you probably know, Bryan Caplan’s explanation for the paradox is that education is all signaling. My hypothesis, which is not too much different, is that formal education is a cultural norm for the affluent.

In Bryan’s story, the educational credentials play a causal role, because if you don’t get the credentials, you send an adverse signal. In my story, educational credentials are not a cause. They are a symptom of your future affluence, which is caused by the personality traits you inherited from your affluent parents. So when we observe clusters of well-educated young people in particular geographic areas, what we are observing are clusters of children of affluent adults.

Chris Dillow on Complexity Economics

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No, it’s not another review of Colander and Kupers (but I wonder what he would think of it). He writes,

One feature of complexity economics is that recessions can be caused not merely by shocks but rather by interactions between companies. Tens of thousands of firms fail every year. Mostly, these failures don’t have macroeconomic significance. But sometimes – as with the Fukushima nuclear power plant or Lehman Brothers – they do. Why the difference? A big part of the answer lies in networks. If a firm is a hub in a tight network, its collapse will cause a fall in output elsewhere. If, however, the network is loose, this will not happen; the loss of the firm is not so critical. Daron Acemoglu has formalized this in an important paper, and there are some good surveys of network economics in the latest JEP.

Read the whole thing. Pointer from Mark Thoma. My thoughts:

1. From a PSST perspective, the importance of a highly-connected firm makes sense. The more connected a firm is, the more patterns of specialization and trade depend on that firm. Also, this may help to explain why shocks in the economy do not average out. A shock that suddenly destroys a highly-connected firm is not going to simultaneously create an equal a highly-connected firm somewhere else. My guess is that dense networks of connection are both difficult to create and difficult to destroy, but they can be destroyed more rapidly than they can be created.

2. Note that complexity economics attracts some attention from heterodox economists on both the left and the right.

3. Dillow thinks that complexity economics deserves more attention. I agree that one reason it tends to be overlooked is that it does not provide the clarity of prediction and tidyness of results that is sought by mainstream economists.

4. Mainstream economists and complexity economists would agree that the world is complex and that models are simplifications. Mainstream economists emphasize the virtues of simple models, while heterodox economists emphasize the vices.