Category Archives: Tyler Cowen is my Favorite Blogger

eP*/P

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Those are the symbols for the “real exchange rate,” or the terms of trade, both measured inversely, or “competitiveness,” measured directly. That is, when this expression goes up, the real exchange rate depreciates, the terms of trade worsen, and competitiveness improves. e is the nominal exchange rate. Say that we are Japan, and e is yen/dollar. As e goes up, it means that our exchange rate is depreciating. (I am forever confused by that way of writing e, but that’s how it’s done.) P* is the domestic price index of our trading partners, and P is our domestic price index. Suppose that we (Japan) are relatively deflationary, which means that P*/P is going up. That has the same effect as a currency depreciation.

It appears to me that Japan is experiencing both a nominal currency depreciation (a rise in e) and an increase P*/P. That means that Japan is certainly experiencing a real exchange rate depreciation, or a real deterioration in its terms of trade. It has to give up more Toyotas to import the same amount of beef. In terms of purchasing power in world markets, the Japanese are becoming worse off.

At the same time, Japan has become more competitive. Japanese consumers will be inclined to import less beef. Toyota will find itself able to export more cars.

The question I have is this: when does Japan succeed in inflating away some of its debt? In terms of world purchasing power, it is already doing so. Japanese holders of government bonds are earning negative returns relative to the cost of a consumption basket. But that does not help the government. The government needs an increase in yen-denominated tax revenue.

Possibly related: Brad DeLong writes,

That process–the rise in domestic nominal prices and wages, and the larger fall in the nominal value of the currency–may derange the price system and so disrupt aggregate supply. The new equilibrium may be one in which the real depreciation of the currency is expansionary in the sense that it tends to push real aggregate demand above potential output. But the economy may nevertheless be in depression, if the process of getting to the new equilibrium has entailed nominal price swings large enough to have been sufficiently disruptive to the market-mediated division of labor. Weimar 1923.

Pointer from Mark Thoma.

I see that as the crux of the issue. If investors lose confidence in Japan’s bonds, the Japanese government loses its ability to borrow. When you lose the ability to borrow and you are running large deficits, watch out.

UPDATE: Read Tyler Cowen’s post on this topic.

Attitudes Toward Risk and Growth

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Michael Hanlon writes,

Could it be that the missing part of the jigsaw is our attitude towards risk? Nothing ventured, nothing gained, as the saying goes. Many of the achievements of the Golden Quarter just wouldn’t be attempted now. The assault on smallpox, spearheaded by a worldwide vaccination campaign, probably killed several thousand people, though it saved tens of millions more. In the 1960s, new medicines were rushed to market. Not all of them worked and a few (thalidomide) had disastrous consequences. But the overall result was a medical boom that brought huge benefits to millions. Today, this is impossible.

Pointer from Tyler Cowen.

I think that the problem goes beyond rational risk aversion. One of the findings in behavioral economics is that people exhibit loss aversion. That is, they will avoid rational risks because they regret losses much more than they enjoy gains. It seems probably to me that government agencies exhibit at least as much loss aversion as do individuals.

Hurricane Katrina and World War II

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Tatyana Deryugina, Laura Kawano, and Steven Levitt write,

Four years later, Hurricane Katrina victims are less likely to be unemployed.

…If moving costs (either financial or psychological) are high, then people will rationally forego higher earnings available elsewhere unless the expected benefit of moving is large enough to outweigh the fixed cost. The forced relocation caused by
the hurricane required displaced residents to pay the moving costs, leading to higher wages (although potentially lower utility levels).

Pointer from Tyler Cowen.

The PSST interpretation would be that forced relocation helps the economy more quickly find patterns of sustainable specialization and trade. That is my interpretation of the role that the second world war played in getting the United States out of the Great Depression. Millions of men were uprooted, and many of them chose to relocate to locations with better opportunities. When my late father attended a reunion of Soldan High School in St. Louis, he was stunned by the distance that many of his former classmates had traveled, both geographically and economically, from their home town. He reflected that this never would have happened without the war.

Standard macro would predict (and did predict) a major recession following the war. So might PSST, given the challenge of transition from wartime to peacetime. However, the fact that many returning servicemen actually thought about where they wanted to live after the war helped make the transition work. The paper on Hurricane Katrina suggests a similar effect.

The Sociology of Economists

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Marion Fourcade, Etienne Ollion, and Yann Algan write,

we document the pronounced hierarchy that exists within the discipline, especially in comparison with other social sciences. The authority exerted by the field’s most powerful players, which fosters both intellectual cohesiveness and the active management of the discipline’s internal affairs, has few equivalents elsewhere.

Pointer from Tyler Cowen. As I describe in my macro memoir, Stanley Fischer, now vice-chairman of the Fed, controls a remarkable proportion of the sub-discipline of macroeconomics. For better or worse–and I strongly believe it is for worse–he has decided who is a macroeconomist and who isn’t.

Paul Krugman’s take:

It has been all too obvious that there are people with big reputations who can push equations around but don’t seem to have any sense of what the equations mean.

My only quarrel with that statement is that I believe it applies to equation-pushers from saltwater institutions as well as those from freshwater institutions.

Is Demography (Economic) Destiny?

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The Economist blog writes,

An ageing population could hold down growth and interest rates through several channels. The most direct is through the supply of labour. An economy’s potential output depends on the number of workers and their productivity. In both Germany and Japan, the working-age population has been shrinking for more than a decade, and the rate of decline will accelerate in coming years (see chart). Britain’s potential workforce will stop growing in coming decades; America’s will grow at barely a third of the 0.9% rate that prevailed from 2000 to 2013.

Pointer from Tyler Cowen.

Along seemingly similar lines, Karl Smith writes,

It’s no accident that this phenomenon appeared in Japan first. As its population began to stagnate well before the rest of the industrialized world, investors found themselves with loads of capital, a dearth of workers, and repayment terms they could not meet.

First, think about this in the absence of inter-generational transfer schemes like Social Security.

1. If people live longer than they used to, then they either have to produce more (probably by retiring later) or consume less.

2. If birth rates decline, then you let capital depreciate faster than it would otherwise. Think of an economy where the only capital goods are houses that stay in good condition for fifty years. When birth rates are rising, you need to keep using some houses longer than fifty years, even though they no longer are in good condition. When birth rates are falling, you can take some houses out of service before fifty years, even though they still are in good condition.

This seems quite straightforward to me, and it is does not suggest that demographic changes should be highly disruptive. I am not persuaded by just-so stories about Japan. One can conjure many such stories. For example, maybe Japan slowed down because its corporatist approach to capital allocation was only effective for a decade or two.

The Year of Flawed Books

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Writing a “best books of the year” post for 2014 means choosing among flawed books.

Six months after Piketty’s Capital made its splash with the “law of capitalism” that r>g, we have Pikettarians saying that, of course, Piketty never said that r>g explains the rise in inequality in recent years that concerns everyone, and in fact anyone who thinks he said that is a knave who has not read the book. I was among the many who never made it through Capital (it gave a new and different meaning to the expression “widely unread”), so I will take it on faith that the whole r>g thing was a head fake. Anyway, Capital does not make my list.

I think that number 1 is Complexity, by David Colander and Roland Kupers. On many pages, I highlighted insightful passages. On many other pages, I highlighted irksome passages. Look for a longer review from me next year.

Probably number 2 is Trillion Dollar Economists, by Robert Litan. It is a great achievement, but even so I wanted a different book.

Number 3 might be Isabel Sawhill’s Generation Unbound, about the pathology of unwed motherhood (it’s not just for teenagers any more) and what to do about it. However, I think that the question of whether “society” should be trying to prevent births of a certain type (namely, from unplanned pregnancies) is more difficult than she makes it out to be. Again, I have a review forthcoming.

Number 4 might be Charles Calomiris and Stephen Haber, Fragile By Design. The financial crisis continues to stimulate books on banking and related topics, and of the recent lot I thought this one had the strongest historical and international perspective. However, in the end, I found its main thesis, that U.S. banking policy is hindered by populism, unpersuasive.

Number 5 might be Mark Robert Rank, PhD, Thomas A. Hirschl, PhD, and Kirk A. Foster, PhD, Chasing the American Dream, which provides a good empirical study of income dynamics using longitudinal data.

Finally, there is a category of books written by friends of mine, in which I recommend Russ Roberts’ How Adam Smith Can Change Your Life, Megan McArdle’s The Upside of Down, and Elizabeth Green’s How to Build a Better Teacher.

UPDATE: Here is Tyler’s list.

Tyler Cowen, Neocon

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He writes,

Without the current and past American security umbrella, for instance, I believe much of Asia would be a far less free place than it is today, starting but not ending with Taiwan and South Korea.

I give Tyler credit for raising this issue in a forum least likely to be sympathetic to it. This is Brink Lindsey’s growth forum hosted by Cato, where Brink is inviting contributions from the liberaltarian crowd.

I have to say that when looking at places like Russia, Hungary, or the Middle East, my appreciation for the civilization vs. barbarism axis tends to increase. On my list of books to sample (not necessarily read the whole thing) is Bret Stephens’ latest, where he argues that the U.S. should act as the world’s policeman. I wonder whether he explains how the U.S. could do that without also becoming the world’s social worker.

UPDATE: Here is how Stephens starts out:

Where do you fall on the spectrum between internationalists and neoisolationists? Ask yourself the following questions:

Does the United States have a vital interest in the outcome of the civil war in Syria, or in Israel’s relationship with the Palestinians, or in Saudi Arabia’s contest with Iran?

Should Americans take sides between China and Japan over which of them exercises sovereignty over the uninhabited Senkaku Islands? Similarly, should we care whether Ukraine or Russia controls Crimea?

Is America more secure or less secure for deploying military forces in hot spots such as the Persian Gulf and the South China Sea?

My views on these issues are mixed. On the Middle East, I see the Syrian civil war as barbarism vs. barbarism. Similarly, the contest between Saudi Arabia and Iran. On Israel and the Palestinians, I understand that many people explain the Palestianians’ barbaric behavior as being caused by oppression, but I see it more the other way around. They could end oppression by being less barbaric. And I believe that the U.S. ought to support civilization in that contest.

On the second issue, my memories of the Vietnam era are salient enough to make me wary of pushing conflict on the basis of domino theory. Uninhabited islands strike me as dominoes that can be allowed to fall. Note that Stephens in effect equates Crimea to uninhabited islands, which suggests that it, too, is a domino that should be allowed to fall. I do not think that caving in there means that next thing you know Putin will be at the gates of Paris.

I think we are more secure for deploying military forces in the Persian Gulf and the South China Sea. If you press me, I will tell you that I believe that the U.S. navy and air support are the true world government, and without world government we would have major war.

If you think that pacifism and non-interventionism are ways of preventing major war, you have company. But my concern is that those policies only work if there is someone else doing the work of the world’s policeman. Being Swiss seems fine now, but if the U.S. had not intervened in World War II, it might not have been so peachy. And ultimately not so peachy for the U.S., either.

UPDATE: I wrote the foregoing before yesterday’s massacre in Jerusalem. If I have my geography right, the attack took place far inside the 1967 borders. It is an area where young observant American Jews go to study. The sight of Palestinians celebrating cold-blooded murder is something that I cannot put out of my mind. Even the Germans did not celebrate when they murdered Jews.

Mission-Driven vs. Philanthropic

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Peter Thiel says,

mission-oriented companies are often defined by a unique mission that maybe others don’t think is important, whereas a lot of the social entrepreneurship efforts gravitate towards things where you have many copycats doing relatively similar things.

From an interview with Ezra Klein. Pointer from Tyler Cowen.

One of the main recommendations of the Colander-Kupers book is to expand what they call the “for-benefit” sector. By that, they mean corporations that seek both profits and social benefits. To be fair, they tout this more as an alternative to government programs than as an alternative to profit-maximizing firms. As you know, I have been given to ranting against non-profits, on more than one occasion.

Technical and Communications Skills

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Catherine Weinberger writes,

while math scores, sports, leadership roles, and college education are all associated with higher earnings over the entire 1979-1999 period, the time trend in the earnings premium was strongest among those individuals who participated in sports or leadership activities during high school and had higher levels of cognitive skills. Supporting evidence based on Census and CPS data matched with the Autor, Levy and Murnane (2003) job-task measures provides an independent observation also suggesting that the labor market increasingly favors workers with strong endowments of both cognitive and social skills. These findings, coupled with evidence of growing employment, suggest increasing complementarity between cognitive and social skills among young workers.

Pointer from Tyler Cowen, who sees the findings in an average-is-over context. Indeed, if cognitive skills and social skills are both somewhat scarce and imperfectly correlated, increasing complementarity would lead to greater inequality.

I would always tell my AP Statistics students that they were learning technical communications skills. I would say that communicators without technical skills end up as baristas. Those with technical skills but poor communication skills will end up as Dilbert, working for a boss who appears to be an idiot.

Why Jonathan Gruber is Paid the Big Bucks

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Tyler Cowen comes to his defense.

I’ve disagreed with Gruber from the beginning on health care policy and I thought his ObamaCare comic book did the economics profession — and himself — a disservice. But I’m simply not very interested in his proclamations on tape, which as far as I can tell are mostly correct albeit overly cynical.

My remarks:

1, Gruber is not paid the big bucks to be a political tactician. In particular, whether or not Obamacare was sold deceptively was not his call to make.

2. For me, the problem with democracy is not the intelligence, or alleged lack thereof, among voters. I just think that the wisdom of crowds is channeled more effectively through exit than through voice. As for democracy, it is a good way of arranging for the routine replacement of high-level officials. It is otherwise much over-rated.

3. Gruber is paid the big bucks because he has a quantitative model of how insurance health reforms will play out. Relative to most academic economists and policy makers, my level of trust in such models is rather low. For me, it would be a better world if Gruber and his model were not held in such high regard. But I would have made this point, and probably did so, before the recent controversy.

4. If you need proof of Gruber’s contempt for your intelligence, all you need to do is skim the comic book to which Tyler refers. The comic book left me with the impression that Gruber lives in a Krugmanesque bubble, in which any disagreement must be dismissed as stemming from extreme ignorance and/or evil intent.

5. I think that the extent to which the attacks on Gruber have become personal is something that every economist, regardless of ideology, will come to regret. I am all for criticizing the ideas and the world view that underlie Obamacare. However, a world in which every economist who steps into the policy arena is subjected to opposition research and “gotcha” attacks is not going to be pretty.