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Based on my comments I take it that I am still not making myself clear on Climate Change in America.

A few more direct points

(1) Its not that rebuilding America would be a good thing because it produces jobs. Or that spending money or seawalls or air conditioning contributes to GDP. Its that these are bad, but they are not that bad. They are a cost but not a great cost.

(2) Cranking up really big damages almost always comes from loss of life. What reason do we have to suspect that lots of lives will be lost in the United States from Climate Change?

(3) There is a big difference between whether Climate Change will be bad for the United States and whether it will be bad for the rest of the world. Again big damages come from loss of life.

Yet, if those lives are in other nations they don’t show up as damages for the US. This is a central issue. Many folks may want to inflate the damages for the US so as to motivate Americans to do things that primarily benefit people in other countries. I understand the motivation here but simply see it as my role to say what, as best I can tell, is true.

Additionally, calculating damages outside the US is extremely tricky because its going to depend crucially on how developed the rest of the world is by the time the effects kick in and what international immigration policies are.

If in 100 years we wind up with a mostly developed globe and relatively free immigration the damages to climate change will probably be small for everyone.

If Africa and South Asia stay poor then there is a much different story.

(4) It is of course possible that climate change could be much worse than we imagine but this is true for all sorts of risks. The next flu could be worse than we imagine. The violence from revolutions in the Middle East could be worse than we imagine. Nuclear proliferation could be worse than we imagine. The probability of an asteroid strike could be worse than we imagine. The probability of mega-earthquakes could be worse than we imagine.

All of these things could go really badly and cause lots of death and destruction. We have to try to weigh these things as best we can and balance our efforts. This is the point of trying to get a handle on expected damages.

Moreover, recognizing our general uncertainty about the future makes it less sensible to invest heavily in one particular cause.

All that having been said you can still make the case for a carbon tax. Its just that the case centers around damages that are in the 5% of GDP range for the US.

I hope to have a more complete reply to Jim Manzi’s assessment, but I wanted to make a couple of remarks off the cuff.

One Manzi says

Economists will sometimes make explicit claims that “the economic science says X,” and will more frequently make implicit claims for scientific knowledge by flatly asserting the known truth of some predictive assertion. This is normally a statement made around some specific policy question – we should (or should not) execute the following stimulus program; we should (or should not) raise the minimum wage right now, etc.

. . . all we have is an informed opinion of the type we might have from an expert historian rendering an opinion about something the likelihood that Libya would revert to an authoritarian government within ten years if it overthrew Gaddafi

Its important to distinguish between economics as science and economics as a policy driver. Manzi is focusing on economic statements that are made as policy drivers and saying it is only informed opinion. Yet this informed opinion is what is being offered. Economic science is a different enterprise.

Saying that we should execute the following stimulus program is much different than saying that we have an established scientific principle that stimulus has such-and-such effect. Contrary to intuition the first statement is far, far weaker. This is why “economic science says” is heard less frequently than “we should.”

Even setting aside personal values, “we should” is, by its very nature, a statement about subjective probability distributions. It is saying I believe that the distribution of possible effects in the stimulus world is – by some metric – superior or inferior to the distribution of possible effects in the non-stimulus world.

This requires only that you have some evidence – any evidence – that the stimulus is more likely than not to do things that you judge to be good or bad.

As such, saying that “we should” do something does not make an implicit claim about factual knowledge. Moreover, no one advising the government acts as if it does. Hardcore proponents of democracy assert that “we should” follow the advice of a group of people on the grounds that they have all survived to the age of 18. This is hardly a claim to any sort of scientific knowledge.

Now, I know Manzi’s complaint will be that economists come waving models and multipliers as if their recommendations were based on well established science. However, this is not how economists have traditionally offered their evidence. Economists are famous for refusing to draw firm conclusions and offering loads of caveats.  As Harry Truman famously said

Give me a one-handed economist! All my economics say, ”On the one hand… on the other.

That scarcely represents overselling policy recommendations as scientific knowledge. In recent years some economists, myself included, have responded to the near relentless pressure for clear concise statements with

Our model suggests . . .

I believe you will find this statement repeated over and over again in congressional testimony. No “there is”, “there will be”, “it is a scientific fact.”

Our model suggests, gives you one interpretation. Many economists would love to stand before legislatures and give an hours long lecture on all of the evidence and competing possibilities. However, you get 20 minutes and the audience will demand that your story have a moral.

At the end of a presentation, more than once, the very first question has been this exact phrase: That’s all very interesting professor, but are you saying we should do this or not?

It’s a joke among my friends and family that I begin the answer with “Well, . . . “ Again, no false mantle of scientific certainty.

Now, lets consider economists as pundits. Aren’t they asserting models as facts. Very rarely.

Take Paul Krugman.

Conservatives will no doubt have noticed that one of Krugman’s major themes is that their point of view is stupid. One might be inclined to think that this is a rude way of saying “you do not have access to the scientific knowledge that I do”

It is not. It is a statement about what he thinks of your intelligence and ability to draw well formed conclusions.

He is not saying, I have such a deep understanding into the nature of the economy that everyone should listen to me. He is quite literally saying that the statements of conservatives convey such a shallow and imbecilic understanding of the economy that no one should consider listening to them.

He is not claiming the mantle of science, he is claiming the mantle of not being a moron.

On the opposite side of the spectrum, go back and look at the public statements of Milton Friedman. How many times did he lean on the fact that economics had established scientific knowledge that shouldn’t be questioned.

He always began with very simple facts and then drew out a small, compelling story. At worst, he would say “look at the evidence” and then proceed to offer the type of simple statistics that wouldn’t be uncommon in an Op-Ed.

Again, no implicit claim to scientific knowledge, only an implicit claim that reasonable informed people would agree with him.

The public policy statements of economists aren’t assertions of scientific knowledge. They are informed argument and economists present them as such. There is no doubt that economists use their knowledge of economic science to inform their policy arguments. Yet, in making those arguments they are not claiming scientific knowledge that they do not possess.

What you can argue is that economists think that they are smarter than everyone else. Indeed, economists across the political spectrum have made precisely that point. From Greg Mankiw

Larry, Vindicated

A flashback to 2006:

“President Summers asked me, didn’t I agree that, in general, economists are smarter than political scientists, and political scientists are smarter than sociologists?” [former dean Peter] Ellison told the Globe.

Here (via Mark Perry, posted two days ago) are GRE scores by field. Economists rank number 4. Political scientists are number 17, and sociologists are number 23.

In short, Manzi’s true point shouldn’t be that economists falsely assert scientific knowledge were there is none. It should be that we are arrogant pricks. I think many economists would agree.

I wrote before that part of the problem for climate hawks is that even expected damages from climate change are not that large. Not zero by any means but not as high as they would like. In particular a number of folks seemed to be upset with CBO testimony on the matter. Brad Johnson writes

The failure of the economics profession to come to grip with the clear science of climate change is a scandal that far outstrips its cheerleading of the housing bubble and other financial disasters. As previously discussed in the Wonk Room, conventional economics not only fails to accurately assess the threat of global warming, but also totally misrepresents the economic impact of taking action.

There are a couple of points to be made. First, they are doing analysis as it pertains to the United States, not as it pertains to the rest of the world. There are some big differences here because the US has an advanced, Northern Hemisphere economy.

The situation is different for some parts of the world, most notably Bangladesh and the analysis is considerably more difficult.

However, absent the entire global warming, anthropogenic debate, think about what economists would say if you said that over the next 100 years, from completely natural forces, the United States was going to get substantially hotter and its coasts were going to sink.

The debate would center around three possibilities.

The non-alarmists would say that we need to build seawalls and perhaps aqueducts in case of water shortages. Yet, more or less we should expect the primary response to be a booming air conditioning industry. America will become more like Phoenix and South Texas, and that seems to be good enough for the millions of people of flocked there over the last decade.

Those who were a little more concerned would say that we should start to rethink long-term infrastructure. No rail or even perhaps even highways for Miami. Its not going to be here so why dump money into it. Maybe we should also think about building infrastructure to the West of the Eastern Seaboard as well, as people will likely backup slowly. Lastly we might want to invest in some crop research for warmer climes and perhaps some tropical infectious disease prevention.

Those pulling their hair out would be talking about how we need plans to remake the Mid-West. People are going to be flooding back and the region is unprepared. Rather than letting the infrastructure rot, we need to be putting in major projects NOW! We need to create an economic substrate on which the New America can quickly be built.

There might also be a few radicals who mused about the opportunity to start some cities from the ground up, this time putting in mass transit first and institutions designed to stop anti-density constituencies.

In any case our core observation would also be three-fold. First people can and will move. They are not likely to just sit there while their town is flooded. There is enormous migration across the United States right now , mostly from colder places to warmer. We simply would expect that to reverse.

Second, temperature variation around the United States is so great now that even large increases in average temperature are not likely to create a United States were no place is, is a place people want to live.

USA Temperature Map for January

Even as natural disasters increase people will either decide they want to live with them or move to safer ground. Its not like those of us in the Southeast are ignorant of the existence of Hurricanes or the fact that they can kill you.

Lastly, building new housing is not something the United States finds challenging. We absorbed 200 Million people over the last 100 years and new housing is typically only a small fraction of the economy. It uses the type of labor that is increasingly in less demand and so reigniting the housing industry would not be a major cost. We would have to come up with something and it would not enter positively into our damage calculations, but the damage would be small..

Getting the result that the US would fall off a cliff due to climate change as projected over the next century is hard to produce. If someone has data on how you might reach this conclusion I would be happy to hear it.

In my last post I took a shot at international fame, increased status and a heighted chance of not being canceled in the simulation.

A quick commenter points out

Only if the deficit spending or monetary expansion (take your pick) is large enough to get you out of the liquidity trap. Krugman’s point is that the failure of rates to rise shows that we are still at zero lower bound, just as we were before the deficits/monetary expansion. If we weren’t, they’d indeed rise after deficit spending. The conclusion is not that deficit spending failed, it’s that it failed because it was much too small.

But wait, wait.

Long interest rates were not zero even before stimulus, indicating that there was at least a positive probability we would exit the liquidity trap before 10 years were up even without stimulus.

Expansionary policy should increase the probability that the expansion will catch at a sooner date. A higher probability of a sooner catch should still raise long rates.

My quest for international fame lives on.

When smart people say something that seems wrong it’s a good idea to think you’re missing something. Yet, the possibility of correcting Krugman and achieving international (or at least intra-household) fame is too much to resist.

Krugman says

Some comments on various blog posts ask what evidence we have that liquidity trap economics is any different from normal economics. Um, the answer is staring us in the face: the failure of interest rates to rise despite very large budget deficits:

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The problem here is that large budget deficits should drive expansion and expansion should drive up long rates.

Suppose that the economy was in a depression because there is a savings glut. Then the government announces that it will sop up the savings glut and end the depression. This should raise expectations of future growth which in turn should raise long term interest rates.

We could think about this through the monetary channel and say, large budget deficits should decrease the amount of time the Central Bank is up against the zero lower bound and thus raise the path of short interest rates. Through arbitrage long interest rates should give the same yield as the path of short rates.

So wouldn’t the failure of long rates to rise in the face of an expanding deficit be evidence that deficit spending is not going to work?

Good news via Calculated Risk. Inflation measures are rising.

Remember its not that we want to juice the economy, so long as inflation doesn’t rise. Its not even that we want to juice the economy, in spite of a rise in inflation.,

Bear minimum we want to juice the economy so that inflation will rise back to two percent. The textbook level targeting approach would say to keep on juicing until you undid all of the extra low inflation we have had since 09.

I would of course say that you should keep juicing until you get to at least 4%. Perhaps a little overshoot to take down unemployment. But, the long term average inflation rate should be 4%.  That gives us four percentage points of room to avoid a liquidity trap.

Extra insurance against future Krugman posts on a liquidity trap should by itself be enough to get Arnold Kling and others to support a higher inflation target.

James Lindgren goes through great pains to show that small government supporters aren’t racist. There is one problem. Small government supporters don’t actually exist.

Oh, there are a handful. A few intellectuals who are opposed to government expansion because they think it is in opposition to liberty or that it creates fundamental incentive problems. There are a few who distrust democracy generally. Then there is a somewhat larger swath of traditionalists who reason that small government is what the Founders wanted and is therefore by definition good.

The vast majority of people, however, view government as the Authority. Of those people, some of them are mad at the state of world and thus blame the Authority. This fuels some anti-government sentiment, but not small government views.

For example, contrast the number of people wanting to slash government budgets and bust government unions with the number of people who think that the FDA serves to restrict the right of people to buy drugs they believe are useful, that border controls deny people their fundamental right to contract with the worker of their choice or that statutory rape laws interject the state into the love lives of people who are permitted to operate a motor vehicle but not their own sexuality.

Anti-government folks are those who want to get back at the government and government employees for perceived grievances. They are just sticking it to the man who stuck it to them. This is why the Tea Party exploded in the wake of Bank Bailouts and Mortgage Modification Plans.

The anger was not that government was too big, it was that government was unjust. It was rewarding people who were behaving badly. Likewise much of the anti-welfare sentiment is fueled by a feeling that the government is simply rewarding bad behavior. This is not a belief that government is too big or too powerful but that it is misusing its power. The focus on fairness not bigness is why support for slashing Medicare’s high-cost low-efficacy cancer treatments is not statistically different than zero.

What most people want is a just government. A government that treats its people fairly. This is why, as I argued before, ethnic unity is so important. People have an innate sense that it is just to take care of their own. This isn’t “racist”, its human.

An old joke goes that a reporter asked Hilbert if it was true that only three people on earth understood General Relativity. Hilbert paused, counted himself and Einstein and then mused aloud, “I am trying to think of who the third person is.”

Are there two people on earth who do not believe that we have an obligation take care of our own, however, he or she defines “our own?” I know Bryan Caplan. I am trying to think of the second.

This is a question that popped up on twitter last night and I want to address it somewhat. First, I want to say up front that there is more agreement economists then the blogosphere and popular media would suggest. Here is Tyler Cowen making the same point, and I’d venture that most of the economist bloggers, even those who disagree with the mainstream on a lot, would agree with that.

That’s not to say there isn’t something to the critique. One of the strongest proponents of the un-scientific nature of economics is George Mason economist Russ Roberts. But I think even his criticism of the field is much more limited than most econ critics might think. His argument is that much of economics is a science, but a science like Darwinian biology:

Is economics a science because it is like Darwinian biology? Darwinian biology is very different from the physical sciences. Like economics it is a very useful way to organize your thinking about complex phenomena. But it is not a predictive or very precise science or whatever you want to call it…. Darwinism, like much of economics, exploits tautological reasoning. If the fossil record is incomplete or shows no change or vast periods or the pace of change is inconsistent with the fossil record, the theory is not discarded but modified with the concept of punctuated equilibrium. Is punctuated equilibrium true? There is no real way of knowing. It is our best hypothesis given very limited data. Is it a science? Sure. But it is a science that is unlike physics. That’s OK.  It is still a very useful way of organizing one’s thinking about evolution. And the “imperfection” of biology is fine unless you really want to know when the elephant got his trunk. Then you are in unscientific territory. It doesn’t matter whether our understanding of natural selection is imperfect or that we simply don’t have enough fossil data. Biologists understand the limits of their field.

This is to say economics is a science, but a more difficult one, and with real limitations on knowability. Russ argues that economists should have more humility about the precision and certainty of their estimates, and to do otherwise is to engage in what he calls “scientism”. I am a skeptic by nature, and so I find Russ’ strong statements of epistemic humility appealing. I also think that he is generally correct that economists, and all people for that matter, have to much confidence about their beliefs. We should be humble about what we know, and what our studies have shown.

But the question is what beliefs does such skepticism leave you with? If one is going to have very skeptical take on economics, then one should extend an appropriate (although not necessarily symmetric) amount of skepticism to other sciences. For instance, here is Russ applying his skepticism to climate science and comparing it to macroeconomics:

I remain agnostic on AGW. I am not a climate scientist. But I know something about multiple regression analyses with complex phenomena. It is my impression that like macro models, these models do not perform well with out-of-sample predictions. That is, they are fitted to the past and then used to make predictions about the future. When the future does not turn out to be like the past predicted, the models are tweaked (improved!). The problem with this methodology is that the tweakers of the models are prone to confirmation bias.

But even Russ falls short of applying his own rigorous skepticism. For example, here is Robin Hanson chiding Russ for his  uneven skepticism when it comes to his belief that handgun ownership deters crime.

The lesson to take from this isn’t that if you don’t believe economics is a science then you must reject climate science or believe guns deter crime. It’s that if you’re going to hold economics research to an extremely high burden of proof, then you should be prepared to subject all of your beliefs to such standards. What this will leave you with is mostly weak beliefs about the world for a lot of stuff that matters to you, whether it be about medicine, history, biology, psychology, criminal justice, climate science, or economics. Maybe widespread weak beliefs are a better approximation of the truth, I don’t know, but I do know very few people do or are willing to reason like that consistently. Maybe they should. But even here the vast majority of humanity has more belief changing to do than economists.

A final and related point I want to make is that macroeconomics is both science and engineering, as Greg Mankiw has argued in a paper that should be read (it’s very light reading, seriously) if you’re interested in delineating between the scientific and un-scientific parts of macro. Economics is also history, and moral philosophy, and contains many individual studies which in-and-of-themselves are not scientific. But economics as a field is a science in that all claims about reality must ultimately be rooted in empiricism, and models and paradigms must be falsifiable and eventually tested against reality.

It can oftentimes be difficult to see the scientific process at work in economics, as in other fields. Sometimes we are stuck at impasses where we are left with little more than theory to guide us, and sometimes empiricism is limited to testing particular model parameters, and ultimately our confidence should be limited by this. And sometimes what looks like pointless or tautological theorizing is really theorists attempting to build tools and lay groundwork for empiricists. It’s easy to look at some of this and think it un-scientific, but not all steps of the scientific process look like science.

Another question is, if economics weren’t a science, then would previous paradigms so have been done in by empirical outcomes? The old Keynesian Phillips Curve held that there was a tradeoff between inflation and unemployment. When that relationship broke down during the stagflation of the 70s, the Phillips Curve was invalidated, and this helped shift macro away from old Keynesianism and towards the new classical paradigm. Real Business Cycle models of the 80s were also invalidated by reality: it was clear that money mattered, and in the real world it was hard to find technology shocks to explain actual recessions.

The point here is that in the long-run economic paradigms and methodologies are judged by their ability to explain the real world. Even if individual contributions within the field may contain what looks like un-scientific analysis, the field proceeds as a science. Yes, it is a big field, and it isn’t hard to point to parts of sub-fields that are lacking in empiricism. But to wave you’re hand at economics in general and say it’s unscientific is to diminish a lot of important and useful work by researchers who’ve spent more time thinking hard about causality and empiricism than almost anyone who would make such a criticism. If you’re trying to convince people that economists should show more humility about what they know, then that is an awful arrogant way of going about it. People making such claims should be forced to sit down with James Heckman, John List, or Esther Duflo and explain to them why what they’re doing isn’t science and how they aren’t scientists.

Arnold Kiling writes on the macroeconomic consquences of of Japan in both the AS-AD framework and the PSST framework

Outside the affected region, the rest of the world experiences no supply shock. Assuming that the affected region exports less and imports more, this raises aggregate demand in the rest of the world. Output goes up in the rest of the world.

The PSST paradigm would look at the situation differently. The disaster would disrupt patterns of trade, both inside the region and outside. The disruption would be larger inside the region. However, the effects would be adverse both inside the affected region and outside of it. In the rest of the world, relative to a no-disaster scenario, output would be lower rather than higher.

So this is not quite right. Most of us would think of the loss of a trading partner as a aggregate supply shock. Especially since we are so found of equating trade and technological change.

If China disappears tomorrow does that have no effect on the supply side in the US? What about Saudi Arabia?

In addition interconnected global market mean that what happens in Japan can cause a demand shock as well. Many of the buyers of US products are Japanese and many of the holders of US securities are Japanese.

I don’t think the two paradigms are so easily divisible on this issue.

Arnold may disagree but I still think the key difference must revolve around what happens when the money supply increases. Otherwise I think we are more or less in aggreement.

If you think trade collapses are new sustainable patterns are established then money can only distort. If you think trade collapses as because of hoarders than money can help.

Yet, the fact that trade and specialization are the beating heart of economics is accepting by both schools.

In the comments BSE says

When we quote the GDP impact of doing nothing about climate change, versus the GDP impact of, say, cap-and-trade or a carbon tax, than this is absolutely an issue. since this is the question that policymakers ask each other. Note I didn’t say what questions economists are asking each other. After all, how much demand is going to offset the effects of climate change?

If people run the air conditioning more because it’s hotter, that feeds into the GDP calculations, but they are not “better off for it”. Presumably, people would rather run the AC a little less if it were cooler out.

This is bigger than the stocks vs flows argument (although destroying manhattan presumably reduces GDP since it would reduce the stock of productive factors, so that is a bad example), it also goes to what exactly GDP measures. If something is not being actively traded, if the market is not putting a price on it, it doesn’t enter the calculation. Period.

It is simply not true that if something is not traded it doesn’t enter into the calculations. From Elmendorf’s own testimony.

The most comprehensive published study includes estimates of nonmarket damages as well as costs arising from the risk of catastrophic outcomes associated with about 11°F of warming by 2100. That study projects a loss equivalent to about 5 percent of  U.S. output and, because of substantially larger losses in a number of other countries, a loss of about 10 percent of global output.

Now one may not like that Elmendorf also quoted estimates for the decline in pure GDP. Though in the immediately following sentence he qualified it

As a consequence, a relatively pessimistic estimate for the loss in projected real gross domestic product is about 3 percent for warming of about 7° Fahrenheit (F) by 2100. However, even for the levels of warming that have been examined, most of the estimates cover only a portion of the potential costs. Other costs in the United States could come from nonmarket impacts (which are not measured in GDP) and from the potential for abrupt changes:

The core problem for climate hawks is that the estimated damages for the US are low, even when non-market damages are included. Indeed, for years the numbers I saw showed an estimated gain to the US from climate change.

I’ll speak more about it another post but environmental economists didn’t talk much about the models showing gains because they knew the losses would be much greater in other countries and they didn’t want to contribute to international indifference. I am completely editorializing by the way, no one admitted this to me, but the policy preferences of most environmental economists are pretty clear if you know them.

Just as we should have been thinking of two separate events

1) Bad stuff happens in Japan that makes us want to run for cover

2) Yield falls on US Treasuries making us come back from cover

We should look on this as a third event

Large_iknqo2y

Money flowing back to Japan as Japanese investors decide they do not want international risk imposed on top of domestic risk

This third event should make us want to run for cover more and will likely be reflected in rising Treasury yields.

And, I should add, the real goods market should move to match what is happening in the financial markets.

Japanese investors become more nervous and move resources to Japan. This encourages the US government and households to spend less. However, this in turn will be offset by an increasing price in Japanese goods. The increase in the price of Japanese good will lead Americans to buy fewer important more domestics which will increase US manufacturing and employment.

Thus more US resources will be employed even though there is less US spending.

More still this leaves Japanese capacity ready to deal with Japan. It lines up.

From where I sit all the markets usually work in harmony to push resources in the right direction. Things just get funny when liquidity demand is involved because it is demand for something that cannot be produced without involvement from the central bank. I don’t know my traditional Keynes as well as some my (older Smile ) colleagues but I do remember this quote.

Unemployment develops, that is to say, because people want the moon; – men cannot be employed when the object of desire (i.e. money) is something which cannot be produced and the demand for which cannot be readily choked off.

I think I see where the breakdown was. Tyler Cowen updates his quiz saying

2. The countervailing forces which might favor lower government spending simply aren’t mentioned.  Those include lower wealth and higher tail risk.  If those can’t, at least possibly, imply lower government spending, what could?  The Japanese will need to spend on recovery, but must the U.S., normatively speaking, now feel compelled to spend more on its domestic programs?  A priori?  No way.

Ah – I see. He is taking the drop in yield as representative of the disaster in Japan. But it is not. Not in the relevant sense.

We knew there was a disaster in Japan before the yield fell. That change in our information set should have pushed us towards retrenchment.

Then at a later time we became aware that the yield fell. This only serves to counteract our previous inclination. Indeed, in some sense the yield is falling in order to counteract our previous inclination.

Its not optimal for everyone to retrench at once and the market will attempt to stop this from happening. The market effect is muted in part by hoarding, but still the market will try to do its job, which is to change your mind about what you thought was a good idea.

So, in the face of a Japanese disaster it might be a good idea to retrench. But, in the face of declining yields its always a good idea to capture them somehow.

So, I really don’t know why I feel so shrill about this. It just irks me. I want to be reasonable and start with, as I usually do, a “well. . .” but its hard.

I am just going to express this honestly for posterity’s sake. I don’t mean that my comments are morally defensible. I believe they are not.

Megan McArdle says

And the bad signals aren’t just to the federal debt market–the flight to quality is ultimately going to push things like mortgage rates down too.  Would the people urging the government to take on as much debt as possible also urge our homeowners to once again leverage themselves as far as the banks will allow?

I am sure the emotion I am having right now leads many people on Wall Street to do not so nice things. Its just that the expression here not only misunderstands the fundamental nature of reality but does so, so self-righteously.

Like I said, I am not proud of any of this but I had to share so that at least people now that people who feel these feeling are out there. So I’ll just breathe and try to summon the instincts to be a decent human being.

Ok, so yes you should leverage your house to the maximum the bank will allow. You should always leverage to the maxim your counterparty will allow.

If you don’t get this then you don’t get the concept of “Other People’s Money” which is fundamentally superior to your own money, because it belongs to someone else. If you lose it , they are screwed. They could try to screw you in return but it is always harder to re-screw than to screw.

If there is screwing to be done you want to be the first one to screw, not the last. This is applicable in many contexts, but especially in finance.

This does not necessarily mean that you should consume all of the resources you extracted from your counterparty. You may want to stash them somewhere safe but under your control not theirs. Again, its always better if you have more and everyone else has less. If you don’t get this, you are really missing how the world works.

Though, I wouldn’t necessarily scoff at consuming other people’s resources. One thing about bottles of Cristal and parties in the Caymans is that they cannot be repossessed. If you take the bank or the bondholders money and just blow it, then they are totally screwed with no real opportunity to re-screw.

There are obvious moral implications to this but you should not be under the impression that you are somehow worse off for having done this. It is very clear who is worse off and it is the lender/investor.

Even still what you probably want to do with Other People’s Money is invest it in something riskier. This way you take the upside but they take the downside. Again, you cannot be in worse shape for having borrowed money.

You can be in bad shape for having invested in something that went bad. However, its ALWAYS better to have invested someone else’s money than to have invested your own.

Think about it this way, if you buy a $500,000 house with cash and then the market crashes and you are forced to sell for $250,000 you just lost 250K. That sucks.

If  you borrow 500,000 with 0% down to get a $500,000 house, the market crashes and you are forced to sell short or default then that’s somewhat unfortunate.

In some cases it will ruin your credit. Maybe if you left yourself vulnerable the bank can try to come after you. This is the re-screwing part. However, they will not necessarily be successful and at the end of the day there is no debtors prison.

Now, would you rather have bad credit and collectors hounding you or be out 250K. If you are seriously asking yourself this then we need to have brunch. I have got some really great ideas.

In short, you always leverage to the max. What you do not do is buy houses that are going to fall in value. That is a bad idea, but it is only made more bad by having your own money on the line.

We had the debate over the efficacy of health insurance in light of the poor efficacy of modern medicine. The common reconciliation is that uninsured get such bad treatment they end up worse off. In many cases worse of than Christian Scientists, who receive no treatment at all.

Another hypothesis I was kicking around was this: perhaps its not the medicine at all. Perhaps it’s the insurance. We know that stress is harmful and dealing with health care bills can be among the worst stressors at the worst time.

Could the effect be that large?

Well according Via Robin Hason, the Post reports that the direct effects of a nuclear meltdown are swamped by the effects from people being stressed about have experienced a nuclear meltdown.

The psychological effects were the biggest health effects of all — by far,” said Fred Mettler, a University of New Mexico professor emeritus and one of the world’s leading authorities on radiation, who studied Chernobyl for the World Health Organization. “In the end, that’s really what affected the most people.”

Fears of contamination and anxiety about the health of those exposed and their children led to significantly elevated rates of suicidal thinking and anxiety disorders, and rates of post-traumatic stress disorder and depression about doubled, Mettler and others said.

“The effect on mental health was hugely important,” said Evelyn Bromet, a professor of psychiatry at Stony Brook University who studied the aftermath of Three Mile Island and Chernobyl. “People’s fears about getting cancer, or their children getting cancer, and family and friends dying from radiation exposure were very intense.”

Now granted this is because people are overaffraid of nuclear radiation and that affects both ends. The direct danger is usually pretty low and the stress is extremely high.

Still it notches up the insurance alone does a body good, hypothesis.

Onen thing that seems to pop up over and over is that chronic extreme stress is really not good for you. Not, in a you should eat more leafy greens kind of way. But, in a you shouldn’t smoke three packs a day or have more than 5 alcoholic drinks a day, everyday kind of way.

A common, although misleading, refrain heard from education reform critics is that charter schools on average do no better on standardized tests than public schools. Less commonly discussed is the impact on other, non-test outcomes. A paper (working version) in the most recent Journal of Labor Economics by Kevin Booker and Brian Gill from Mathematica, Tim Sass from Florida State, and Ron Zimmer from Vanderbilt, looks at how attending a charter schools affects the probability of graduating high school and attending college for a sample of students from Chicago and Florida.

An important question in the literature is the extent to which selection bias is a problem. Do charter school students have different outcomes than public school students because the charters educate them somehow better or worse, or is it because people who decide to go to charter schools are systematically different than those who don’t? In order to control for this they look at the sub-group of students who attended a charter middle school, and compare outcomes for those who went onto a charter high school to those who went on to a public high school. The idea is that selection bias shouldn’t be an issue between those who are already attending a charter school, because as charter school attendees they should be similar in terms of whatever unobservable variables lead to charter attendance.

They find that in both Florida and Chicago, attending a charter high school increased graduation and college attendance rates. In Chicago, students were 7% more likely to graduate from high school if they attended a charter, in Florida it was 12% to 15%. Charters increased the probability of attending college by 8% to 10% in both Florida and Chicago. The authors argue that these results are consistent with the studies on the effects of attending a Catholic school,  and a recent D.C. voucher experiment, both of which have been shown to improve educational attainment.  Consistent with the literature on the affects of charter attendance on test scores, they find that the impact in Florida is stronger in urban areas.

These are important results to keep in mind. Given education reform critics skepticism of standardized testing, I expect results like this will receive more weight for them than studies that look only at test scores.

There seems to be a renewed interest in the city itself as green solution. Ryan Avent leads the charge, Kevin Drum comments.

For what it’s worth, I’d dial down the scorn and take this as an opportunity. Here’s the thing: my guess is that virtually nobody in the country thinks that cities are greener places than towns or suburbs. And by "virtually nobody," I mean maybe a few percent tops. For most people, it’s wildly counterintuitive on all sorts of levels to think of big, dirty, crowded, urban areas as "green." It just doesn’t compute.

Many years ago I gave a talk entitled, Green Manhattan, where I made the case that Metropolis was the greenest place in America.

Naturally, I got a lot of funny looks but the line that seemed to win a few converts was this: the best way to protect the environment is by keeping people out of it.

I admit I took a few liberties in the talk, not discussing how agriculture would be performed and supported, for example. Nonetheless, I think this framing breaks the intuition that green is about living with nature rather than letting nature live on its on.

Not much time today, but since Matt has been going down this road repeatedly I have got to step in here. He says

I try, personally, not to get too invested in this kind of controversy because I think it sort of misses the point. Expenditures on cleanup of radiation count as GDP. So by the same token, if Manhattan becomes uninhabitable and we need to build new buildings for everyone to live in, that will be GDP. The economic point would be that GDP measures flow of goods and service while ecological devastation impacts our stock of said things. And, again, grandma dying of heatstroke is not a problem for the national economy. Grandma’s retired. Grandma’s not producing goods and services. But you love her and so does your dad and your cousin.

This is just a false interpretation of the leading economic models or how economists think about climate change.

For example, in Nordhaus’ DICE model, the majority of damages come from “Catastrophic Damages” that is the loss of stocks, such as infrastructure and life. As Nordhaus says

The essence of an economic analysis is to convert or translate all relevant stocks and flows into a common unit of  account, and then to compare different approaches by their impact on the total  amount. The units are generally the value of goods in constant prices (such as  2005 U.S. dollars). However, this should not be viewed literally as money but as  a standard bundle of goods and services (such as $1000 worth of food, $3000 of housing, $900 of medical services, and so forth).

For example, statistical loss of life is estimated in the United States at around $7 million per person. We say statistical loss because its based on risk. While most people would be reluctant to exchange their life for cash, many people would risk their lives for cash. Yet, if enough people risk their lives eventually one of them will actually be killed.

How do we actually calculate the number. Well, more dangerous jobs pay more. Safety features in cars cost more. Houses in less crime ridden neighborhoods sell for more. Even moving from NYC to Florida will extend your life, in part because of less incidence of pneumonia in a warm climate.

We average over all of those various risk taking activities to see if we can extract the value of the pure risk component. Obviously in each trade there are factors other than risk, but if you look at hundreds and hundreds of risks, you can try to pull out the general trend.

Now lets say that climate change kills 1% of the American population, that would be 3 million people. That is huge, in raw numbers more than all American wars combined. In terms of fraction of the US population, its about half of the population loss from the Civil War and about triple the US population loss from World War II.

The GDPized number on the loss of 1% of American lives would be $21 Trillion. That’s 150% of current GDP.

When lots of lives are lost the economic calculations do show huge economic damages.

File this under Economics is Not a Morality Play

I’ve reading and writing most of today, but I opened my browser a few minutes ago to see the following headline

image

Who was the first person I contacted, a friend in Japan, loved ones who might live in earthquake prone regions. Nope. My mortgage broker.

“If Japan goes nuclear” I said, “the Ten will cross well into the 2s. We need to be ready to pull the trigger.”

What does that mean?

That means that an escalating crisis in Japan will cause fear in the world to rise. Heightened fear causes people to buy US Treasury bonds. More buyers of US Treasury Bonds means lower yields on those bonds. Lower yields send full time bond investors out of Treasuries and into Agencies. Agencies are the bonds that are used to back mortgages. This in turn means that mortgage yields could drop.

However, because this is fear driven sometimes you have hours – sometimes less than that – to lock.

What you need are triggers: pre-determined agreements that if at any moment someone is offering a particular mortgage product you will buy.

I point this out not simply to encourage you to be a cold hearted profit maximizer. I do it to point out that when there is actual cash on the line people don’t think about things like about matching patterns of trade, the roundaboutness of investment or the long term fiscal irresponsibility.

P.S.

I just saw this from Tyler Cowen

Quick quiz: does this mean our federal government should:

a) spend more money, because there are even fewer bond market vigilantes than before, or

b) spend less money, because there is a general signal that everyone should pull back on excess commitments and risky projects, governments included.

Sadly, we are allowed only one guess at this problem.

The extra credit question is a) vs. b) when the lower yields are instead caused by a global financial crisis.

Tyler is a smart guy but there is just some major disconnect we are having here.

You don’t necessarily want to go into commitments and projects but you definitely want to monetize any decline in yield. From the government’s perspective, it could buy short and sell long or it could simply sell long and cut a check to the taxpayers.

In either case the government’s decision to leave money on the table simply facilitates some else’s taking it. I don’t have major leveraging opportunities, but I will take what I can get. The guys Goldman on the other hand. . .

Here’s a quick roundup of three interesting things I read today related to the tragedy in Japan.

First up is an excellent piece in the New York Times that put’s Japan’s monster movies in a much more serious light then you’d normally think of them:

This B-movie fare is widely mocked, often for good reason. But the early “Godzilla” films were earnest and hard-hitting. They were stridently anti-nuclear: the monster emerged after an atomic explosion. They were also anti-war in a country coming to grips with the consequences of World War II. As the great saurian beast emerges from Tokyo Bay to lay waste to the capital in 1954’s “Gojira” (“Godzilla”), the resulting explosions, dead bodies and flood of refugees evoked dire scenes from the final days of the war, images still seared in the memories of Japanese viewers. Far from the heavily edited and jingoistic, shoot’em-up, stomp’em-down flick that moviegoers saw in the United States, Japanese audiences reportedly watched “Gojira” in somber silence, broken by periodic weeping.

Elsewhere Felix Salmon makes the convincing case that you shouldn’t donate money to Japan, emphasis is mine:

We went through this after the Haiti earthquake, and all of the arguments which applied there apply to Japan as well. Earmarking funds is a really good way of hobbling relief organizations and ensuring that they have to leave large piles of money unspent in one place while facing urgent needs in other places…

… That said, it’s entirely possible that organizations like the Red Cross or Save the Children will find themselves with important and useful roles to play in Japan. It’s also certain that they have important and useful roles to play elsewhere. So do give money to them — and give generously! And give money to other NGOs, too, like Doctors Without Borders (MSF), which don’t jump on natural disasters and use them as opportunistic marketing devices. Just make sure it’s unrestricted.

Finally, Adam Minter writes about the mixed and sometimes strange reactions in China to the Japanese disaster:

Though it’s nearly impossible to characterize how the world’s largest population of Internet users feels about a particular event, even a brief, afternoon trawl through the comments left on the country’s vibrant and chaotic forums shows two most predictable strains: first, a strain of tender sympathy that was so movingly expressed in the aftermath of 2008′s devastating Wenchuan earthquake (often appended with a call to “pray for Japan”); second, a darker, celebratory strain frequently invoking variations of the phrase “Warmly welcome the Japanese earthquake.” To an extent, both of these reactions are quite predictable, especially — in the last case — considering the deep ambivalence toward Japan felt at all levels of Chinese society.

If you want a good summary of how economists think about the Great Depression so you have talking points with which to disagree with your friends in the history department, this summary from Arnold Kling is a good place to get the two minute version of it. Here’s one good point with a broader lesson:

4. Those who can tell stories with heroes and villains have an advantage over those who do not. Roosevelt is made out to be overly heroic, and Hoover is made out to be overly villainous. The standard history treats Hoover as a cold-hearted, simple-minded liquidationist, with Roosevelt a sophisticated Keynesian. However, Roosevelt was not Keynesian at all, having campaigned against government deficits and essentially sticking to balanced-budget orthodoxy. Apart from the policies on the gold standard, there was actually a great deal of continuity between the Hoover Administration and the first few years of the Roosevelt Administration in their approaches of trying to treat the Depression through industrial co-operation intended to reduce the harshness of competition.

Karl would emphasize that economics is not a morality play, Steve Waldman in turn would point out that it had better be if it wants to win out over competing narratives.

Ezra Klein asks, why Mike Huckabee wants to waste money on Medicare

What is comparative-effectiveness review? There are two answers to this question. The right answer, and Mike Huckabee’s answer.

Mike Huckabee’s answer is that comparative-effectiveness review is the seed from which “the poisonous tree of death panels will grow,” which is, if not a sensical image, at least a vivid one.

So at the moment, the Republican Party’s position is that Medicare and Medicaid cannot use studies measuring the effectiveness of different medical treatments when deciding what to cover or not cover. Another way to say that is they’ve decided against saving money by making better decisions about what to buy. Their remaining options are to save money by paying doctors and hospitals less than things currently cost, or to save money by giving seniors and Medicaid recipients less than they currently need. With smart rationing off the table, dumb rationing is all we have left.

For obvious reasons Ezra, Krugman and others will want to beat up on Huckabee and his ilk for staking out a technocratically silly position.

However, I think they are missing  the larger picture. Mike Huckabee wants Medicare to “waste money” because Mike Huckabee does not actually believe in limited government, is a fan of the welfare state and an unabashed believer in the wonders of modern medicine.

Via McClatchy a quote that strikes me as a good summation of Mike Huckabee

He always talked against taxes, but he wanted all these spending programs," former Democratic state Rep. Boyd Hickinbotham said. "So he’d treat taxes like a rotten egg. He’d hold his nose, but he liked being able to spend the money.

Movement Progressives should stop and think for a moment about what is happening in America before they go and AEI themselves. That’s when a formerly innovative and insightful group fails to recognize that they have won the war of ideas, can’t stop lashing out at old enemies and subsequently turns into a bastion of harpies shell of its former self.

Right now Mike Huckabee is leading the Republican field. His principle opponent still cites Universal Health Care as his signature achievement. This is not an encouraging sign for the supporters of smaller government.

Huckabee might have signed a no new taxes pledge but where is Mike Huckabee’s heart? Is it drowning government in a bathtub along side Grover Norquist? Or is it better expressed in this passage from his book, from Hope to Higher Ground

I listened to countless young couples pour out their souls as they struggled to get their marriages in survival mode when confronted with overextended debt, sudden and unexpected unemployment and loos of income, or the anxieties of having a child with severe disabilities.

My experiences helped me to better understand that good government is not about policies, but about the people whose lives are going to be touched.

Mike Huckabee isn’t cynically trying to trick voters into abandoning the welfare state. He is trying to convince folks, not least among them himself, that you can have a bigger better welfare state with conservative Christian principles.

Kevin Drum and Matt Yglesias are discussing the importance of public opinion in the formation of policy. Kevin says

at its core, it’s an argument that we should spend more time trying to change public opinion, and when I’ve talked about this in the past I’ve found that most people (including Matt, I think) aren’t really very persuaded, preferring to argue that institutional or demographic or economic forces are really all that matter. And they do matter, of course. But in the end, long-term public opinion is pretty important too, and we liberals ought to pay more attention to it. We’ve done a good job over the past decades moving public opinion on social issues, but not so good a job on anything else.

The vast majority people simply don’t care about policy.

Even people who are into politics mainly care about supporting their team and beating up on the other team. Matt makes the important observation of how this plays out on climate change.

So consider that among self-identified Republicans, getting more education makes you less informed about global warming. But that’s not because Republicans with BAs are ignorant compared to Republicans without them. On the contrary. Republicans with BAs are better informed about what the Republican view is and therefore worse informed about the underlying issue because the Republican position is mistaken.

However, for the majority its important to recognize that what they care about are public values. Some of these take on a personal tone. For example, people want to feel respected. They want to feel relatively safe from harm. However, most of all they want justice. This means that good things happen to good people and bad things happen to bad people.

As an example, Matt hopes to convince people that not being able to find a place to live in DC is a bad thing that is happening to good people because of zoning restrictions.

Yet, that’s never really going to happen on a mass scale by explaining land use economics the public. If and when it ever happens it will because some specific people to whom the public is sympathetic can be identified and their story of woe can be told.

The best hope for making a difference is that the media and other “street level intellectuals” are convinced of the general badness of excessive zoning and are then on the look out for specific cases that can capture the public’s imagination.

At the same time, however, intermediate gains can be had by convincing actual policy makers of the goodness of an idea. There is a good deal of what Bryan Caplan calls “slack” in a political system. That is, politicians and administrators can get away with doing a fair degree of whatever they want without a real threat to their survival.

I am not in DC but based on the telling of bloggers in DC, the Washington community seems to have falsely convinced itself that it doesn’t have slack. They take polls too seriously. They take the news too seriously. They take sound bites too seriously.

Also really quick for anyone to think about. The Job Opening and Labor Turnover Survey gives us a glimpse into the employment churn at the heart of our economy. One interesting facts is that generally most separations are quits and that even in a recession there are a lot of quits.

However, unless something has changed about the business you might guess that an employer is going to try to replace an employee who quits. So an interesting measure of business conditions might be Job Openings minus Quits. This might tell us if things are changing for the business itself.

Here we see a couple of interesting things

FRED Graph

First a decline in this measure is really consistent with a NBER declared recession, which in turn is driven heavily by industrial production. Here is Net Openings versus Industrial Production

FRED Graph

The second thing to note is that the net openings and industrial production are recovering stronger than from the last recession.

I am not completely sure what I want to make out of this, but it does seem that the very low level of quits is an important feature of this recovery relative to the last one.

Could there be something to a balance sheet recession slowing the churn of the economy by causing workers to inefficiently hold on to their old jobs? I don’t know.

I don’t have too much time to work this out but its worth seeing the reaction from my moments intuition.

I’ve said in the past that the essence of a recession is that we have machines with workers and workers without machines. If we could just get them together we could make output, but this requires money.

Austrians of various stripes note that the problem with my analysis is that it is too aggregated. There are lots of different machines and lots of different workers. A recession is more akin to rematching them because for one reason or another we matched them wrong before.

Ok,  so here is a question we should ask:

Does anyone go back to the same matches once the recession is over? In particular do we run the same machines over again. This is particularly informative in manufacturing because the machines are highly specific to the task.

If we were rearranging production then we would need new machines. So an important cut at this question might be to ask, do people start running the old machines again?

Similarly for services you might ask, do restaurants layoff servers and cooks in the recession and then higher back severs and cooks using the same menu, tables and kitchen.

I am sure that you could make and argument that recalculation entails side effects that make laying off and then rehiring the same workers sensible. You could also probably make the case that in a technologically evolving economy employers will replace capital even if they aren’t strictly recalculating; they are just installing new versions of the same basic thing.

Still, the evidence on this would give us some insight one way or the other.

Bill Easterly reminds me about a recently published paper on Corporate tax rates and Investment. I decided to run a few back of the envelope calculations to see if a push to eliminate the corporate tax could make basic arithmetic sense.

The up shot is that it does. The effects are quite mild but not trivial. As an critical caveat this based completely on averages and says nothing about distribution.

Here is a chart from the paper that presents a nice downwardly sloping relationship you’d like to start with. They measure the effective corporate tax rate against various measures. Shown below is the effective corporate tax rate versus total economic investment.

image

To make you feel more comfortable I will note that the authors hit the data with a few controls. Its not out of this world robustness, but it does have the kind of checks you would like. They control for property rights. We might think that low tax countries are more committed to markets and thus have stronger property rights. So it could look like low taxes are associated with investment but its really just strong property rights. Yet, the relationship maintains.

They do the same thing for income difference. You might think lower income countries would have more catch up investment but the relationship stays. They throw in a few other things as well. Not only does the relationship stay but the slope of the line is roughly the same, an increase in 10 percentage points of tax rate decreases investment as a fraction of GDP by a little more 2 percentage points.

What does this mean for the United States?

Right now private investment in the United States averages around 16% of GDP

FRED Graph

Based on the data from this study the US has an effective corporate tax rate of 18%. Cutting it to zero would then yield would add about 4 percentage points to our investment rate.  This would leave us at an average investment rate of about 20%.

I then applied a basic growth model to back out the increases in GDP and Consumption. Based on a Solow model the increase in long run per capita GDP should be about 10% and the increase in long run per capita Consumption about 5%.

You might think that more investment means a faster growing economy but that not really the right way to think about. More investment will cause us to transition to a larger economy. However, maintaining a larger economy requires continual investment. So investing more of your output will only cause you to grow up to the point where maintaining that larger output eats up all of your extra investment.

Indeed, ultimately saving too much can make you “poorer” as you use more and more of your output simply to maintain a huge industrial complex. If we think the point of savings is to have more in the future then this is a bad outcome.

Yet, this tipping point is a ways off for the US. The model suggests it would hit us at around 30%. Where we are now an increase in the savings rate of 4% would cause our economy to grow 10% larger but roughly half of that increase would go to simply maintaining the larger economy. Thus we get about a 5% increase in actual consumption.

We can’t stop their, however. Eliminating the corporate tax rate also means either reducing long run government spending or raising long run government taxes. Lets assume the government makes it up in a broad based consumption tax.

How would that affect the results?

Well after tax corporate profits in the US average around 6% of GDP

FRED Graph

The effective tax rate is 18%.  However, to get the average tax paid, we multiply the after tax payment by 22%. 1/(1-.18) – 1 = .22

This gives us about 1.32% of GDP.

So if we scrap the corporate tax we have to find 1.32 percent of GDP from a consumption tax to make it up. Consumption itself is currently about 70% of GDP. Now, because both GDP and consumption would rise in this new world, we do the back of the envelope as if consumption were 75% of current GDP.

Putting all that together implies that we would have to impose a consumption tax at 1.75% to make up for the loss from the corporate tax. However, we have increased consumption by 5%. So, the net advantage would be a 3.25% increase in per capita consumption.

Put in terms I like to think in, this jumps us about 16 months into the future.  That is, real GDP per capita is growing at around 2.5%. A one time boost of 3.25% thus puts us about where we would be in 16 months time.

That’s not going to make a radical difference in most people’s lives but its not nothing.  One time boosts don’t get to be a really big deal until you get to around 25%, which would be like jumping ahead a decade.

I want to tie together two separate posts on Marginal Revolution that together make a point I’ve been meaning to make. Recently, Alex wrote about how Genetic Engineering may help humans compete against AI in future labor markets. He also points to other human advancing technologies as well:

…In the not so long run it’s not about computers substituting for labor or even complementing labor, it’s about designing labor to complement computers (and vice-versa). Think about how quickly the phone has migrated from the desk, to the hand, to the ear, to the ear canal. The technology to enhance humanity with access to the internet is literally burying itself into our heads, call it I-fi. There is more to come.

The problem is we are framing the question as being about how would we would compete with AI, and we see ourselves as quite helpless. But how would a librarian circa 1950 compete today against Google at the task of helping a student find relevant information quickly? Well they wouldn’t stand a chance, as they’d slowly shuffle through card catalogs based on the Dewey Decimal System. But, how does a librarian today, equipped with the all of their modern tools, databases, compete against Google? In many instances, Google serves the student best. But today’s librarians equipped with all their modern training and tools are still extremely useful resources for students doing research, despite the existence of Google and dozens of other similar tools. The point is we shouldn’t think about our current selves competing against AI, but our future selves and ancestors with all of the computer based knowledge and skills they will have.

This brings me to the second point from MR, this time from Tyler, about playing chess with and against computers:

If the computer is set at 2200 strength, “me plus the computer” (I override it every now and then) almost always beats “the computer alone.”  Often we beat “the computer alone” very badly.  If the computer is set at full strength, my counsel is worth much less, although it is not valueless.

The future will not be just you against AI in the labor markets, but you and AI against AI alone. One way to be more successful in the future will be to learn to work well with atomistic decision machines that are efficiently and logically maximizing some objective criteria in a raw emotionless matter. Both Tyler and Alex have a good head start, having spent so much time with Robin Hanson.

Under much debate these days is LIFO, or last-in-first-out. Its the policy used frequently by public schools to determine who gets laid off by simply going with whoever was hired the most recently. Critics of this policy point out it’s obvious shortcoming: that the youngest teachers are by no means the worst, and that if you could fire one older, ineffective, more expensive teacher, you could save two younger teachers’ jobs. Defenders of LIFO first bristle at the notion that there are plenty of old ineffective teachers sitting around who can be clearly and uncontroversially  identified and removed. They also point out that any alternatives to LIFO will allow administrators to cut costs by shedding older workers, and that young workers will be much less eager to go into a career where job security is poor and an inverse function of age. After all, who wants to know that the longer you work somewhere the more likely to be fired?

But the question to ask is why is it that administrators would want to fire older teachers? There’s two possible explanations: administrators don’t care about quality, or the cost their spending isn’t worth the quality. While the former may be true in some cases, whether it is or not, the latter is likely to be true almost all the time. As Michael Petrilli points out in Education Next, teacher pay scales continually rise with experience even though studies show that only the first few years of experience increases teacher effectiveness. So for example, even though a teacher with 25 years experience is no worse than a teacher with 10 years experience, he or she gets paid a lot more. Consider the following chart from economist Jacob Vigdor, which shows how average teacher pay grades compare to doctors and lawyers.

In these other jobs pay rises rapidly with experience, whereas teacher pay rises much more slowly and don’t peak until age 55, even though the benefits of experience all occur within the first five years. As Petrilli points out, if teacher pay rose in a commensurate fashion with quality enhancing experience, then it would increase quickly in the first five years, and then flatten out, which by making pay proportional to quality would remove all of the incentive to lay off older teachers. This is not to make the case for lower pay for teachers overall, in fact you could do this whole thing in a revenue neutral way.

So there are two big benefits to a flatter pay scale:  it doesn’t distort incentives in a way that creates an older then optimal teacher workforce, and it allows schools to replace LIFO with something better without worrying about effective older teachers being targeted. In addition, if we’re concerned that too many young teachers are leaving the field too quickly (and almost half do within the first 6 years), then a pay scale that increases more quickly is a way to encourage them to stay.

When schools are forced to adhere to a system where costs are so divergent from benefits, you can expect unintended consequences. What can result is a pile of inefficient policies, each trying to offset the unintended consequences of the next. That certainly seems to be the case here.

Lots of handwringing over the soaring price of Makena, a drug designed to prevent babies from being born too early. The long and the short is that independent pharmacists have been producing this compound on site for years. Those pharmacists typically sold the drug for around $15.

However, recently a biotech company just won FDA approval for the drug, put it under patent and promptly sold the patent to a pharmaceutical company. The pharmaceutical company raised the price to $1500 a shot.

Kevin Drum offers a sober take

The FDA required Hologic to perform some additional studies before Makena was approved, including a follow-up post-approval study that will run through 2018. Maybe this is worth $200 million. I don’t know. But I wonder if Medicaid will pony up $25,000 for this shiny new version of 17P? I wonder how many low-income mothers will no longer have access to it? I wonder if our pharmaceutical approval system is completely screwed up?

Oh yes, yes it is.

As always this started with the best of intentions. From the Daily Mail.

Shockingly, the rise comes after campaigners from The March of Dimes and many obstetricians supported the monopolised licence, assuming it would increase availability and quality of the drug.

Independent compounding pharmacists are modern day apothecaries. As, such the quality of their drugs is not always guaranteed. Nonetheless reputation is a huge issue. My compounding pharmacist has his full name in the title of shop precisely because people trust the man himself.

This is precisely how the market should regulate quality. Folks who are good things develop a reputation for being good. Not only does that give them a strong incentive not to screw up but it helps the community identify the people who are actually talented in the production of drugs.

On the other hand a complex bureaucratic practice for approving drugs is slow, inefficient and channels excesses profits towards people who know how to work the system.

So, for obvious reasons I was checking the Wikipedia entry on Peter King. Assuming its accurate, in 2009 King said the following about Michael Jackson

Let’s knock out the psychobabble. He was a pervert, a child molester, he was a pedophile. And to be giving this much coverage to him, day in and day out, what does it say about us as a country? I just think we’re too politically correct. No one wants to stand up and say we don’t need Michael Jackson. He died, he had some talent, fine. There’s men and women dying every day in Afghanistan. Let’s give them the credit they deserve.

As an arch-defender of politically incorrect speech I have to stand up and point out how completely backwards this is. Despite his framing, King’s actual point is that it should be politically incorrect to praise MJ because he was a bad person. And, more over that the media should respect this political correctness.

What was actually happening was that fans were completely ignoring the moral record of Michael because they don’t care. They were better off from his having existed and then really weren’t concerned if other people were worse off. That’s not political correctness, that’ complete political and social insensitivity.

On the other hand, taking time to “give credit to the troops” is the most politically correct thing one can do in America. The fact that all politicians do it is one immediate signal that it is “politically correct.”

On the other hand saying “screw the sacrifices of our nation’s anointed heroes, what I really care about is someone who improved my ability to party” is straight talk from the hearts of most Americans.

I never responded to Mike Konczal on pity-charity liberalism. He writes

One working definition of an approach to liberalism is “It’s best to just maximize growth rates, pre-tax distribution be damned, and then fund wicked-good social insurance with huge revenues from an optimal tax scheme” (Karl Smith, Wilkinson). I’d ask where are all these increasingly wickedly-well funded programs?

I think I am taking a liking to the term NeoClassical Liberalism, but no matter, pity-charity will do for this conversation.

It also has a ring of accuracy. When I make the case for growth and the welfare state to my right wing associates I present charts like this one

5048_699604285359_11823888_40031849_5207744_n

This shows that taller people consistently make more money. Since virtually no one thinks that height is a choice this is evidence that income is influenced strongly by something other than choice.

A little more explicitly I show this chart

5653_717953493399_11823888_40816030_1796705_n

It shows that the income of adopted children is not correlated with the income of their parents but the income of biological children is. These are children from the same families by the way, where there was at least one adopted child and one biological child.

This is to show that income is likely influenced by genetics.

The upshot is that people are poor, at least in part, for reasons beyond their immediate control.

I show these chart to convince people that a major component of poverty is bad luck and bad luck that occurs before birth or at least before adulthood. It makes sense to socially insure people against these outcomes.

It would not be unfair to say I am trying to play off of my audience’s sense of pity.

Yet to me this still seems to be the right answer. If we were to all sit down as yet to be conceived souls and decide what type of world we wanted to be born in, we would pick one where we insured one another against being born under bad circumstances.

Taking a slightly less esoteric track if we imagine the society we want for our  Great Grandchildren we should do the same. I might think that I can influence my Great Grandchildren’s future in ways that will guarantee they will be taken care of but I can’t. It would be useful for all of us today to sign an agreement that likewise insured our progeny against misfortunes of birth and circumstance.

Mike suggests that such a pact would have enforcement problems

We just had to bribe the top 3% with massive tax cuts for the next two years in order to keep unemployment insurance extensions in place for another year. Unemployment benefit extension are a net job creator and should have been a no-brainer, but it couldn’t pass without a massive bribe.   This doesn’t include the brutal battle for extending health care to an additional 30 million+ people.  This is even after the Federal Reserve created an alphabet soup of wicked-good safety net for the top 3% of the financial system, it’s difficult to get extra benefits for working-people in the largest post-war downturn.

Mike ans I have two different theories of government. It is true that the extension of the Bush tax cuts benefited upper income folks more than lower income folks and that the extension of unemployment benefits benefited lower income folks more than upper income folks.

However, its wrong to see this as a simple battle between classes.

First, data consistently show that people vote on beliefs more than naked self-interest. Indeed, if they did vote on pure self-interest its hard to see how the 3% could outweigh the other 97%.

I am sure that Mike will say that money makes the difference. I think this is at odds with much of the data that suggests money its difficult for money to swing elections. Its also at odds with Meg Whitman’s failed attempt to spend her way to victory in California.

However, even more deeply, money can only matter if people don’t consistently vote their interest. Its no well kept secret that the Democratic party wants to raise taxes on higher income people and that the Republicans are opposed to this. If that’s what made voters tick then campaign adds would simply wash over them.

I contend that voters vote based on what they think is best for the country. Naturally, ones sense of best is biased by personal experience but that’s different than naked self interest. In particular, as I argued before, votes on social spending are heavily influenced by a sense of ethnic solidarity.

Even before the 2008 election the tendency of the stock market to perform better under democratic presidents was widely talked about but rarely explained. Here is a chart from, originally from Bloomberg I think

A few theories were floated. The “few bad apples” model said that the GOP was generally better it was just that Nixon, W. Bush made the whole look bad. Hoover is often scraped as an outlier.

A second theory was blind luck. This is the one that appealed to me the most.

A third was risk compensation. Knowing that the GOP was going to be market friendly meant that stocks went up in anticipation of a GOP president and therefore there was less room for growth.

However, boosted by a Facebook conversation with Garett Jones the the third theory is gaining steam with me. Garett cataloged the performance of the market versus statements made by President Obama. As Obama spoke in more market friendly terms the market began to rise.

Indeed, stocks are up 47% since Obama took office.

If you believed that Obama frightened the market but then turned out to be a pleasant surprise this theory makes sense. I still don’t have enough evidence for that theory to over take my strong priors that it is blind luck. Nonetheless, the additional data point is interesting.

Matt Yglesias echoes my general take on poverty in the developed world

Poor people, by definition, don’t have much money. And lack of money leads to a lot of problems. Oftentimes, these problems are best attacked at the source.

He then repeats the story of a British program in which the homeless were simply asked what they wanted and then those things were bought for them The average cost of their requests was $1277.

Yglesias concludes

lots of people might like $1,277 worth of stuff. I, for example, got a notice in the mail today from the Internal Revenue Service suggesting that I owe approximately that much in back taxes due to some improper filing in the past. So why should that money go to homeless people when I could use it too? Current spending on the homeless is already much higher than that, but it overwhelmingly consists of the in-kind provision of services—shelter beds, addiction treatment, incarceration, frostbite relief—that most of us don’t actually want. From a rationalist perspective we can see that helping people in cheaper but more dignity-respecting ways will ultimately end up with all of us having more money in our pockets. But to get there you need to move past the impulse toward scolding moralizing.

A lot of the intellectual push back I get against redistribution is based on the idea that there are lots of unfair advantages in the world and there is no particular reason to focus on a lack of money. For example, we don’t try to redistribute beauty, athletic talent or height.

Yet, one of the insights of economics is that money is special. Money allows us to direct resources towards our most acute needs. Conversely when people don’t have money acute needs can pinch in really dramatic ways. 

There can be enormous gains in human welfare from giving people who are short on cash the means to address the acute needs that they see for themselves.

Will some people abuse this, of course.

The question, however, is does it do more good than harm. We aren’t going to find the program that works perfectly, has no abuse and solves all social ills. We can try to reduce human suffering bit by bit where we find it.

It is often said by education reform critics that if you look at U.S. education by state, some states actually excel in international comparisons. The following charts are from a paper by Hanushek, Peterson, and Woessman on how U.S. States perform compared to other nations by looking the percent of students that  scored advanced on 2006 PISA math exams. Massachusetts clearly outperforms all the other states, but is still outdone by 14 countries, 11 of which perform better by a statistically significant margin. The U.S. overall does much poorer:

I thought this chart served as a useful reminder that all states have room for improvement, and it’s not true that some of them can simply pat themselves on the back, say “great job!”, and turn their backs to education reform.

Will Wilkinson argues that robots will make manufacturers rich

When I employ labour, production is a matter of the coordinated integration of capital goods with valuable human skill and effort. Productive cooperation naturally raises questions about the fair division of the spoils. Now suppose I replace all my workers with machines. Questions of distributive fairness disappear! I own the machines; I don’t owe the steely suckers anything! Of course, the principal reason I choose to automate is not that machines don’t slack off, become indignant in the face of injustice, or go on strike. I choose to automate because it saves me, and thus makes me, money. Of course, “robots” are expensive. I buy them from robot manufacturers. At some point, a good robot “pays for itself”. Until then, I’m dividing profits with the robot-makers instead of workers. (Imagine I’m paying in installments out of my revenue; it’s a lot like paying wages.) After then, I internalise all the gains from production. All mine!

Will might think that he is going to rake in tons of profits from a purely robotic assembly line but he is going to be disappointed.

It turns out there are other capitalists with exactly this same idea. They too are going to buy robots. They will compete against him and drive the price of his product down, all the way down to the price of the robots.

Indeed, if managing a robot firm requires less skill, and is therefore more open to new competitors, than running a human factory then Will could actually see his profits decline in the robot future.

So who will profit in this world? The superstar engineers who own the patent on robots.

Rents always accrue to the limiting factors of production. Simply put, the people who walk away with all the cash are always the ones who own the thing that is in shortest supply.

When labor is in short supply its workers. In a world without efficient capital markets, its those with access to a pool of private savings. In our modern world it is the creators of new technology and the managers of other people’s money.

… both seem to think there’s something wrong with urban America. Whereas Palin sees them simply as not part of “real America”, Tom Vilsack, Secretary of Agriculture, sees urban America as lacking in it’s value system. Urban America, he argues, does not have the same value system as rural America; they lack the patriotism, to them country is not as important, service is not as important. I would pen a lengthy riposte to all of this nonsense, but there’s no need to, since Ezra Klein already laid the smackdown of 2011 on Vilsack, and to his face to boot.

I’ll copy one good excerpt below, but you really really should read the whole thing, it’s a great time:

Tom Vilsack: …Rural America is a unique and interesting place that I don’t think a lot of folks fully appreciate and understand. They don’t understand that that while it represents 16 percent of America’s population, 44 percent of the military comes from rural America. It’s the source of our food, fiber and feed, and 88 percent of our renewable water resources. One of every 12 jobs in the American economy is connected in some way to what happens in rural America. It’s one of the few parts of our economy that still has a trade surplus. And sometimes people don’t realize that 90 percent of the persistent poverty counties are located in rural America.

EK: Let me stop you there for a moment. Are 90 percent of the people in persistent poverty in rural America? Or just 90 percent of the counties?

TV: Well, I’m sure that more people live in cities who are below the poverty level. In terms of abject poverty and significant poverty, there’s a lot of it in rural America…

Cheers to Ezra for the whole fantastic interview. Sign up to Wonkbook to show your appreciation (strange suggestion, I know, but it’s the only currency we have to offer him).

Since I can remember I’ve loved reminding my audiences that economics is not morality play. It wasn’t until Paul Krugman started blogging that I realized that I must have picked it up from one of his early writings.

That virtue can sometimes be vice is one of the most fun lessons of economics. There is a perverse delight in explaining how foreign aid may impoverish the Third World but sweatshops would make it grow rich.

I can understand why many of my fellow economists were so eager to transport this insight to the political realm. Politics they argued was a fight between interest groups – a battle over the fiscal commons. There weren’t good guys and bad guys. There were just naturally self-interested people.

Tyler Cowen pays homage to this legacy in a recent NYT piece

James M. Buchanan, a Nobel laureate in economics — and my former colleague and now professor emeritus at George Mason University — argued that deficit spending would evolve into a permanent disconnect between spending and revenue, precisely because it brings short-term gains. We end up institutionalizing irresponsibility in the federal government, the largest and most central institution in our society. As we fail to make progress on entitlement reform with each passing year, Professor Buchanan’s essentially moral critique of deficit spending looks more prophetic.

Curiously Tyler refers to a rational actor model as a moral critique but then again he certainly knew Buchanan better than I.

Still, to borrow a phrase from another of my favorite economists, the only problem with this analysis is that it is at odds with the facts.

If we want to build a model of what the government spends money on we would be best to start this way: ask people what social obligations do they believe “society” has. Look around for the cheapest – though not necessarily most efficient – programs that could credibly – though not necessarily effectively– address those obligations. Sum the cost of those programs. That will be government spending.

Contrary to Jonah Goldberg and others who see Canada and the United States as examples of two clashing ideologies, they are actually examples of two different ethnic distributions.  The United States is not Canada because there is ethnic strife between Southern Blacks and Southern Whites. That strife reduces the sense of moral obligation on the part of the white majority and so reduces government spending.

I want to be very clear that I don’t say this to paint those against social spending as racists. From where I sit I am betting that most of the intellectuals lined up against expanding the welfare state are naively unaware that their support rests upon racial strife. Otherwise they would realize that as America integrates they are doomed. They are fighting as if they believe they have a chance of winning. Given the strong secular trend in racial harmony, they do not.

I point this out also to show why the major Republican strategy for limiting government was doomed from the start and why I am also not particularly worried about Americas fiscal future per se.

In the 1980s some conservatives believed that they might not be able to cut government but they could cut taxes and thereby starve the beast. Rising deficits would force the hand of future governments. Spending would have to be cut in order to bring the budget into balance.

Much of the current handwringing about fiscal irresponsibility is a sense of alarm not only on the right, but throughout much of the political center, that these spending cuts are not actually materializing.

But, by what theory of government did you ever believe they would? Governments don’t look at how much money they have and then decide what they want to buy. They decide what they want to buy and then they look for ways to fund those purchases.

Divorcing the two – through sustained deficits – was only going to lead to ever increasing levels of debt. This is what we got. At no point was the beast ever starved. The peace dividend lowered government spending growth somewhat, but that was undone by the war on terror. Otherwise spending hummed along, as it always will, with the government buying things the public thinks it ought to buy.

Yet, if this is causing upset stomachs among many of my fellow bloggers it calms mine. Its quite clear how this will end. Racial strife will continue to abate. The public will coalesce around the welfare state and taxes will be raised to meet the cost.

The fundamentals do not predict rising debt forevermore. The fundamentals predict a VAT.

This is not to say I am unconcerned about our economic future. Health care costs will continue to eat up more and more of our economy unless something is done. However, trying to convince people that health care is not a social obligation a fool’s errand. The best you could do is convince them we have no obligation to the other. As the other integrates this will likewise prove impossible.

No, people will ultimately believe that health care for all is a social obligation and therefore government will pay for it. There is no more analysis to be done on that part of the question.

The only part left is looking around for the cheapest program. This is where our attention should be focused. Can we lower the cost of those obligations? Can we make medicine more efficient?

If we can there will be economic room for other things. If we can’t, well just hang in there until the artificial intelligence revolution.

Modeled Behavior was snubbed by Time Magazine. No matter, they’ll have another chance to get the list right.

A few of my favorite or most read blogs.

  1. I read Calculated Risk with my morning coffee. I assume many people do. You can’t live with out the charts. Its sidebar is also a good place to see whether there is something new up at Econbrowser or Macroblog.
  2. Paul Krugman is where I turn immediately when I have a spare moment. Krugman makes quick and dirty points that are at a minimum interesting and often compelling. Its one of the most compact reads.
  3. Matt Yglesias. I catch almost every post here. Even though I know the point he is going to make on many issues the framing is always interesting.
  4. Econolog tops the list when I sit down to “read blogs.” Its rare that I won’t find some out of the mainstream argument backed by reason, evidence or both. This is the stuff of intellectual fun.
  5. Overcoming Bias. There is no blogger that regularly readjusts my thinking as often as Robin Hanson.
  6. Will Wilkinson’s various outlets are wordsmith candy. When I crave blogging as art, I know where to go.
  7. Mark Thoma is where I turn when I am in information junkie mode. If its worth reading chances are its there.
  8. The Atlantic is my second spot for brain food.  I am not just saying that because I don’t want to split up McArdle, Fallows and Sullivan. I typically browse the Atlantic as a full package.
  9. I usually find my way to Marginal Revolution but honestly I find most of the posts too short. I want to hear more. It often feels as if I am being teased a bit there.
  10. Free Exchange is might be the best place for getting a solid take on what’s going on right now, without straying to far from blog-nerdery.

In the room for debate on “Why Blame the Teachers?” a high school teacher offers this:

“…college graduates are not going to be attracted to a profession that only encourages short stints. The majority of teachers did not choose their profession because of the vacation time, or the salary, or because they thought it would be easy. They chose teaching because they wanted to make a difference in children’s lives in the long term. Those teachers that entered the profession for the more mundane reasons don’t actually stay for very long.”

This very well may be true. This means that either teacher quality will suffer as a result of getting rid of LIFO or school will have to pay teachers more to compensate them for the now riskier profession. On the other hand, a little bit of this may be worth it. If this means on the rare occasion when layoffs happen they go to worst 5% of teachers (worst obviously measured with some error) then it may be worth the slight drop in overall teacher quality that results. After all, the net effect on teacher quality will be the decrease in quality from risk aversion but also the increase in quality by trying to get rid of the worst instead of just the newest teachers. But the fact of the matter is, whether LIFO or some other layoff policy is best may very well depend on local labor markets and other factors. Sure, if you have to pick one policy for all schools, LIFO is probably not the way to go. But the need to mandate policies like this at broad levels is one of the problem with the public education system: it does not allow flexibility and adaptation.

The real problem isn’t deciding which layoff policy to use. After all, the right one today may be the wrong in five years. And the right one in Town A may be the wrong one in Town B 30 miles away. The real problem is assuring that the people who run schools have the freedom to choose policies that best cater to their specific local labor market, and that they have the incentives to do so in a way that maximizes the educational value of taxpayers money. If schools are allowed freedom and accountability, then if a school gets rid of LIFO but the best employees value it, then the other school down the road can adopt it and lure talent away, and if the loss in talent causes the schools quality to suffer then they will be pressured to adopt it again.

It may also be the case that with the threat of change in the air a school system that promises stability will be able to lure the most talented teachers, and that a school that can promise tenure for life, LIFO, and no standardized testing will outperform all the rest in some places.

The problem, I think, comes because we can not provide local monopolies like school districts freedom without accountability. Yet without freedom, we must centrally plan. The education reform movement is hard at work finding good ways to measure success, and determine universal and objective rules for how people should be hired and fired, and figuring out what kinds of certifications should be required, etc. The other camp, (I don’t know what to call them but surely they don’t wish to be called anti-reform) scoffs at how difficult this proves and instead thinks we should have… um, smaller classrooms? Actually I’m not really sure what the alternative is other than to convince people of the limitations of education and talk them into applauding the system that we have.

While I applaud the work of the reformers and think it is a drastic improvement over the status quo, I am increasingly worried they may not be able to find the perfect set of rules that allows centrally planned education systems to succeed at the varied and difficult tasks we require of it, and that anti-reform critics may be, in part, correct. Unfortunately for anti-reformers, this does not mean we simply learn to love the status quo, but instead we need the freedom and experimentation that markets and choice provide. This doesn’t necessitate a fully privatized education system, and can include charters, public school choice, and vouchers. It’s also important to remember that, as Rick Hess emphasizes, choice by itself also does not guarantee success. But competition can allow reformers and anti-reformers to test their policy recommendations out and see what works, and it can allow space where the right rules for the right places can evolve.

I hope the reformers succeed in developing better measures and policies so that public education can thrive. I sincerely do. In the meantime, we should be continuing to push for more choice and competition, and work hard to understand the conditions under which that can be successful.

Via Mark Thoma I see that my characterization of the reserve policy was wrong. Required reserves and excess reserves are paid the same interest rate.

This need not be the case and will presumably not be the case as the Fed tightens but it means that my characterization that monetary policy was acting just as if there was a 25 basis point Fed Funds rate was wrong.

A couple of points

First, I am a bit late to this Op-Ed by Charles Koch but it so plainly illustrates a common fallacy I have to bring it back up. Koch writes

Years of tremendous overspending by federal, state and local governments have brought us face-to-face with an economic crisis. Federal spending will total at least $3.8 trillion this year—double what it was 10 years ago. And unlike in 2001, when there was a small federal surplus, this year’s projected budget deficit is more than $1.6 trillion.

The clear implication is that our budget deficit is the result of overspending. Now there are a lot of reasons people will point to as to why that’s not the case this time, the economy, the Bush Tax cuts, etc.

However, I want to make the more general point that spending is pretty much never the cause of budget deficits. Or, to be a bit more formal, variations in spending do not predict variations in the deficit. Variations in tax revenue, however, do predict variations in the deficit.

We can look at the US experience quickly

FRED Graph

The blue line is spending, the redline is tax receipts, the green line is the deficit. Actually the green line is “government savings” which is the inverse of the deficit. So when the green line goes down the deficit gets bigger.

You can see that dips in the redline are associated with dips in government savings. Surges in the redline are associated with surges in government savings.

Now of course the deficit is mechanically related to spending and revenues, so what does it really mean to say that revenues are “more predicative.”  It simply means that revenues bounce around more than spending and where revenues bounce so does the deficit. Spending is more or less smooth. Its only real changes are associated with war and peace.

Which brings me to a second point. Arnold Kling says

Everybody talks about a monetary "exit strategy" once a strong recovery takes hold. But what about a fiscal exit strategy? Other than Ron Paul, does anyone have several hundred billion in spending cuts ready to go?

Tyler Cowen’s NYT column is on what he calls "fiscal illusion." Maybe it should be the "fiscal allusion," because he alludes to so many things, or the "fiscal elusion," because the implications of his writing may be elusive. But one interpretation is that we need fiscal rules, because discretionary fiscal policy is biased toward deficit. That is, the Keynesian prescription is for surpluses when times are good and deficits when times are bad, but the Keynesian prescription is only taken when times are bad.

There are a myriad of problems that cause the Keynesian prescription of saving when times are good and deficits when times are bad to go awry.

However, one of them is that continued emphasis on the spending side of the budgetary equation. Arnold is looking at spending cuts as an exit strategy. Both proponents and detractors of stimulus use the word as a synonym for government spending.

It would be simpler and easier if stimulus were a synonym for broad based tax cuts. For example, small and potentially ineffectual as it might have been, no one is talking about how we need to keep the tax rebate of 2008 going.

The Making Work Pay Credit of 2009, 2010 was similarly jettisoned though there was a 2% payroll credit in its place. Still I predict that will be gotten rid of when its term expires as well.

No one has a problem letting broad based tax cuts go. They have a problem letting upper income tax cuts go and entitlement spending go. So, lets steer the focus towards broad based tax cuts as the Keynesian remedy.

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