Noah Smith on Natural Experiments

He writes,

With lab experiments you can retest and retest a hypothesis over a wide set of different conditions. This allows you to effectively test whole theories. Of course, at some point your ability to build ever bigger particle colliders will fail, so you can never verify that you have The Final Theory of Everything. But you can get a really good sense of whether a theory is reliable for any practical application.

Not so in econ. You have to take natural experiments as they come. You can test hypotheses locally, but you usually can’t test whole theories. There are exceptions, especially in micro, where for example you can test out auction theories over a huge range of auction situations. But in terms of policy-relevant theories, you’re usually stuck with only a small epsilon-sized ball of knowledge, and no one tells you how large epsilon is.

Pointer from Mark Thoma. Read the whole post.

Matthew Kahn Asks the Tough Question

He writes,

Is Professor Summers saying that the subset of scholars who were studying macro have been collectively wasting their lives?

Pointer from Mark Thoma. I believe that they have been wasting their lives. I believe it even more strongly after reading Randall Wray’s Why Minsky Matters. The time-wasters treat the history and institutional characteristics of financial intermediaries as irrelevant. Minsky, correctly, thought that these things were important.

Minsky Revisited

Olivier Blanchard says,

mainstream macroeconomics had taken the financial system for granted. The typical macro treatment of finance was a set of arbitrage equations, under the assumption that we did not need to look at who was doing what on Wall Street. That turned out to be badly wrong. . .

…As a result of the crisis, a hundred intellectual flowers are blooming. Some are very old flowers: Hyman Minsky’s financial instability hypothesis. . .

Pointer from Mark Thoma.

I have just finished a first reading of a review copy of L. Randall Wray’s forthcoming Why Minsky Matters. It is certain to be on my list of best books of the year. In my opinion, Wray succeeds in clarifying Minsky and in making his views more interesting and persuasive to me than they were previously (I still have my quarrels).

If I think about the economy in terms of patterns of specialization and trade, then Minsky thought of it in terms of financial intermediation. For Minsky, all of us are intermediaries. Because we do not barter, we trade either by issuing IOU’s or by passing along the IOU’s of others (fiat currency being an IOU of the government, if you will).

I am working on a review, which probably will not be out before the book.

Steve Teles on Rent-seeking

He writes,

State regulation of doctors, Commodity Futures Trading Commission rules for derivatives, and local land-use planning decisions rarely if ever occur to citizens and policymakers as having anything to do with the larger social debate about inequality. If the case is made effectively — if policymakers do start seeing these diverse policies as part of a larger problem — then it would be possible to generate political conflict in arenas that are currently too quiet and uncontested. This happened in the 1970s and 1980s when policymakers connected regulatory capture in areas like trucking and airlines to widespread concern with inflation. It could happen again if policymakers across the spectrum start to believe that rent-seeking, in all its forms, is deeply implicated in the problem of inequality.

Pointer from Mark Thoma.

But are other progressives willing to concede that government intervention in markets has such adverse consequences?

What’s Missing From Refugee Cities?

Matthew Kahn writes,

Why can’t we increase the menu of cities for individuals to choose from? What are the fixed costs for creating a city? Are these fixed costs shrinking over time? How durable would the new capital have to be? Think for a moment. The new urbanites in Gatesland would need;

1. shelter
2. food
3. water
4. electricity
5. sewage disposal
6. garbage disposal
7. transport services for moving within the city and for trading across cities
8. The children would need schools
9. basic health care

Pointer from Mark Thoma.

What is missing here are social capital and patterns of sustainable specialization and trade. I doubt that you can throw a million people together absent those elements and have it work out well.

A Fiery Analogy

Robert Shiller writes,

The reluctance to acknowledge the need for immediate intervention in a financial crisis is based on a school of economics that fails to account for the irrational exuberance that I have explored elsewhere, and that ignores the aggressive marketing and other realities of digital-age markets examined in Phishing for Phools. But adhering to an approach that overlooks these factors is akin to doing away with fire departments, on the grounds that without them people would be more careful – and so there would then be no fires.

Pointer from Mark Thoma.

There is a school of thought (I am not a member) that would instead compare the Fed to the 10-year-old boy who starts a fire and then claims to be a hero because he then calls the fire department to come in to save it. Similarly, this school would argue, the Fed’s expansionary policies caused the housing bubble, and now the Fed earns praise for saving the economy from the resulting crisis.

Indeed, in recent interviews, Shiller has warned that stock prices are too high and we could see a crash. He would say that this is because markets are irrational. As far as I know, he is not calling on the Fed to raise interest rates in order to try to stop what he might call another financial epidemic. Again, I am not of the school of thought that thinks that the Fed is responsible for the stock market boom. But I think that Shiller ought to engage with those who are of that school of thought.

Incidentally, I received a review copy of Phishing for Phools, by Shiller and fellow Nobel Laureate George Akerlof. My views of the financial crisis are informed by my knowledge of institutional characteristics and history of housing finance. Their views are not. I find that this is the case with many economists who have written on the crisis, but their book left me especially frustrated. UPDATE: Alex Tabarrok also reviewed the book negatively.

Confirmation Bias, Illustrated

Scott Sumner writes,

And I just want to make sure readers are not getting lost in the weeds here. This is not one of those “he said, she said” where reasonable people can disagree on whether the PCE or CPI is a better price index. This is a pay/productivity gap being invented by using the slowing moving price index (NDP, which is similar to the PCE) to make worker productivity look better, and the faster moving price index (CPI) to make real wages look lower. That’s not kosher. You need to use the same type of index for both lines on the graph.

Brad DeLong writes,

I score this for Larry Mishel….

Pointer from Mark Thoma.
DeLong and Sumner are on opposite sides, and each is certain.

Fundamentally, I think that the reason that this happens is that economic propositions are not falsifiable. They only hold “other things equal,” and other things are never equal. A measure of worker productivity that is reasonable according to one person’s framework is not reasonable according to another person’s framework.

If you continue to insist that economics is a science in spite of the non-falsifiability of propositions, you end up deciding that those who disagree with you are evil and anti-science. As I say in the Book of Arnold, you end up wallowing in confirmation bias.

On this particular, by the way, my inclination is to agree with Sumner. That may be political bias on my part. But also, I think you would be seeing a lot of other dramatic things happening if productivity were outstripping wage growth. Very high demand for labor. A big improvement in international competitiveness, leading to large trade surpluses. etc. At the minimum, it seems to me that Mishel and DeLong owe us some comment on why these other developments do not seem to have taken place.

Contrary to what you see in online debates “this one chart” is never a debate-settler. You don’t make a convincing case with one chart. You need lots of disparate, corroborating evidence.

Paul Krugman’s Keynesian Framework

AS Mark Thoma echoes, Krugman writes,

1. Economies sometimes produce much less than they could, and employ many fewer workers than they should, because there just isn’t enough spending. Such episodes can happen for a variety of reasons; the question is how to respond.

2. There are normally forces that tend to push the economy back toward full employment. But they work slowly; a hands-off policy toward depressed economies means accepting a long, unnecessary period of pain.

3. It is often possible to drastically shorten this period of pain and greatly reduce the human and financial losses by “printing money”, using the central bank’s power of currency creation to push interest rates down.

4. Sometimes, however, monetary policy loses its effectiveness, especially when rates are close to zero. In that case temporary deficit spending can provide a useful boost. And conversely, fiscal austerity in a depressed economy imposes large economic losses.

Note that there are no microfoundations anywhere. Which is fine, in the sense that microfoundations do not add anything to this framework. They do not make it more rigorous, in my view, because they squeeze the economy into a GDP factory.

Of course, I have a different framework, starting with point 1. I think that the drop in spending during a recession is like the thunder that comes during a storm. The thunder does not cause the storm, nor does the drop in spending cause the recession. See may essays on PSST if you need my views in more detail.

Contemporary Segregation

Ann Owens writes,

Segregation of upper-middle-class and affluent families from all others increased the most. In 2010, families with incomes in the top 10 percent of the national income distribution lived in the most homogenous districts, with other affluent families like them. In contrast, we found that poor families have become slightly more integrated by income between school districts. However, given that high-income families have distanced themselves from others, poor families are likely integrating with working-poor or lower-middle-class families rather than the affluent.

Pointer from Mark Thoma.

As I have said, the affluent folks advocating for more Syrian refugees are unlikely to end up living next to them.

Incidentally, Charles Murray gives a generous review (gated) to Robert Putnam, which is particularly gentlemanly in comparison to Putnam’s treatment of Murray.

De-materialization Watch

Linus Blomqvist, Ted Nordhaus, and Michael Shellenberger write,

Slowing population growth, demand saturation in developed countries, and improved technological efficiencies have all contributed to what is known as decoupling. Relative decoupling refers to impacts growing at a slower rate than population or consumption. Absolute decoupling means impacts are declining in absolute terms. The per-capita farmland requirement (cropland and pasture) has declined by half in the last half-century. In absolute terms, cropland has expanded 13% and pasture 9% in that time period, but the sum of the two has remained stable since the mid-1990s. Global consumption of wood has plateaued, contributing to a slight decline in the area of production forest since 1990. While overharvesting of wild animals for meat has increased in the tropics, most developed countries have decoupled from this form of impact. The world has almost entirely decoupled from whaling. Total water consumption increased by 170% between 1950 and 1995, but per-capita water consumption peaked around 1980 and declined thereafter. The least decoupled environmental impact is greenhouse gas emissions from energy: global per-capita emissions increased by nearly 40% between 1965 and 2013.

Pointer from Justin Fox, who adds insightful commentary. Via Mark Thoma.

There seems to be a lot of similar environmental commentary out this year. Ron Bailey’s new book, Jesse Ausubel’s paper, and now this (which credits Ausubel).

I recommend the entire paper. I think it would be accessible to students in freshman economics courses, and I really believe that if freshman economics ignores this topic, that means that the primitivists will be unopposed on college campuses.