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Obviously this idea sounds ridiculous to many economists as there is no particular reason to think it makes sense to go through such lengths to get natural resources. After all we live on a pretty darn big spacerock.
To the extent natural resources are expensive on earth it is because they are difficult to get at, not because we are running out. There is of course some possibility that they would be actually easier to get at in space. The problem is that doing so is a major project that only makes sense if you can bring back a lot of resouces.
However, the very reason that hard to get at resources on earth are expensive is because the limited quantities cause consumers to bid up the price. If there were many more, then the bidding would be less furious. So, you face the problem that as soon as you bring a huge chunk of gold or what have you back to earth you cause the price the crash and cannot recoup the mission costs.
That said, there are two things.
One, is that in theory the company could sell some type of speculative contracts on the minerals it hopes to get. Basically you need a contract that says, of the first X amount of mineral that we bring back you will buy it at Y price. Then these contracts would have to be sold in series with the understanding that the total draw down from the mining operation will be uncertain both in terms of beginning time, quantity and duration.
So they can try this, though I am guessing the price for such contract will not be that high.
Second, this actual strikes me as more like Craig Venter’s stent at Celera Genomics where a private company was used to do basic scientific research and the investors bought in, in part because they wanted to be a part of something great and in part because the scientists more or less conned them.
Though as wealth dispersion increases and people get richer I think this “Invest for Prestige/Get Conned” model will be big for science.
Paul Krugman thinks Bernanke has been assimilated
But, I think it’s a bit different. He’s in a dream inside of dream, suffering from Monetary Inception.
I mean this only half-jokingly. The Fed’s policies will have effects on the real world. However, the Fed can never see the real world. It can’t see the past and it certainly can’t see the present. It only has a vague a haze about what reality might be.
In that situation, the constructed reality presented by the Fed staff is powerful. Its grounded. There is some sense that you know what you are doing. And, not only does this constructed reality shape what you think the situation is today, it shapes what you think the response to your actions has been. It shapes your interpretation of the causal nature of the world itself.
What Bernanke needs is a totem. An object to tell him that he is in a dream. That this isn’t real and on the outside there are real people. This is what screaming into the economic blogosphere and economic journalism world does.
Its an echo that they can faintly hear inside the Eccles Building. Tyler Cowen and perhaps Greg Ip think we are being too hard on the Chairman, but when he is in a dream inside of a dream you have to scream loudly in hopes that he’ll hear a whisper.
Kevin Drum thinks I have gone overboard
Just for the record, then: when I say “high healthcare costs,” what I mean is “lots of money flowing to heathcare entities.” I’m pretty sure that’s what everyone else means too. I know that Karl likes to be contrarian, but calling this a mere large-scale accounting issue is surely a little bit too Olympian even for him, isn’t it?
Let me see if I can make my point more clearly.
There are lots of ways more money could flow to health care entities:
- People could value health care services extremely highly and want to purchase more of them
- Moral Hazard could lead people to purchase health care through insurance that they do not value very much
- The regulatory system could cause people to purchase more health care than they would want
- The regulatory system could cause health care to be produced inefficiently
- Information asymmetries between patients and doctors could lead people to be misinformed about the value of health care and purchase more than they would want under perfect information
- The desire to signal that we care could cause us to purchase the most advanced forms of health care available, leading to an arms race in the production of advanced care
- Cartelization by health care providers could raises prices
- Health care entities may rent seek for higher payments from the government
- Health care entities may engage in outright fraud to increase payments from insurance carriers and consumers
While all of these things increase the amount of money flowing to health care entities they are very different issues, with different economic implications.
For example, I’m not sure if (1) is something anyone should be concerned about, nor would we even use the phrase high cost in other contexts. Lots more money is flowing to the makers of smartphones, but we don’t think usually think of high smartphone cost as something we are facing.
Indeed we commonly say that smartphone costs are falling. This is because the value proposition is increasing.
On the other hand (4) could just be a pure economic loss. If good treatments for example can’t pass FDA approval it might be the case that not a single person in America is better off and many people are worse off. As economists we might consider that pretty costly.
Lastly, its not immediately clear that (9) involves any measurable economic loss at all. If it is extremely easy for some types of fraud to be committed and it doesn’t alter incentives then it could more or less a pure transfer from the victim to the perpetrator.
This may strike people are morally wrong but its not economically inefficient and indeed without saying more its not clear that a consequentialist would consider this a problem worth fixing.
That is what I mean by saying we should focus on what the actual problems are rather than getting wrapped up in the accounting issue of how much money is flowing to health care entities.
So both from private correspondent and comments on my last post I can tell that people read me as asking something different than what I mean to be asking. I am going to try to be more exact, at the price of being less readable.
So, financial commentators appear to be debating the merits of additional QE. Some are saying the effects would be good. Others are saying they would be bad.
I strongly suspect that they intend to be making assertions about the world.
I do not believe that they intend to speak gibberish as one might do to an infant. For example, saying “gaga-goo-goo.”
Nor, do I believe they intend to recite memorized lines from a script, like an actor.
Yet, if they are making assertions this suggests they have in their minds some relationship, presumably causal, between QE and the rest of the world.
I want to know what that relationship is, or if there are many different ones at least a few, perhaps more common, samples.
Even if some parts of that relationship are implicitly magical or nonsensical, that’s fine. I am not trying to evaluate it. I am trying to internalize it.
I have noticed that finance blogs, money managers and reports from Investment Banks place significant weight on QE. Some as being a way to save the stock market if not the economy. Some as a dangerous manipulation of markets.
What is not clear is what exactly they believe is happening here?
As economists we have thoughts and debates on this but I am not even clear on how to engage the financial community because I am not clear on what it is they are suggesting is happening.
So one reason to think that this recession is not structural, at least in the way that some people have argued is to look at state-by-state performance. That why you pick up not only the big industry effects but the multiplier effects from that industry.
Here is private sector employment in Michigan over the last 20 years or so
The thing to note is that what happened to Michigan happened in the late 1990s and has been trending ever since. If anything this recovery is a reversal of that. This is important because Michigan is an obvious manufacturing and “old” economy state.
You could actually make an argument that some of the structural problem is that the economy was realigning so that people were moving from Michigan to Nevada and then whoops Michigan recovered and so now who wants to live in Nevada. Thus Nevada is stuck in rut monetary policy can’t fix. Though I think that is not the strongest of stories.
Ohio shows a similar pattern
As does Indiana though less pronounced
Contrast this to the Sun States
Yet, can you really with a straight face tell me that millions of Baby Boomers are set to retire and so I should expect a structural drop in the demand for labor in Florida, Arizona and Nevada?
Now obviously these states had big housing booms and I have had people tell me there are too many homes in Nevada. Maybe, but here is non-wage personal income growth in Nevada
That’s income from Social Security, dividends, rent, small business ownership etc.
The hump is likely from construction contractors who are often small businesses, but the underlying trend is straight up. Income is still pouring into Nevada from other states at roughly the same rate.
Tourism is down for sure and that hurts, but the retirees by this measure look like they are doing alright.
I don’t have time to go into too much detail but just wanted to make a point inspired by a few pieces I have read lately.
That is the foreclosure process is deleveraging and a wealth transfer from the financial sector to homeowners. This may seem obvious or silly to various folks but let me give one quick thought experiment to see if I can hit on the importance of this.
Suppose there was a massive housing bubble and all the homes in America roughly doubled in price. Also suppose that many people either traded up homes or cashed out home equity so that in the aggregate homeowners had very little equity. Now suppose the bubble burst and home prices headed back down towards normal, further reducing total equity.
Perhaps this is a plausible scenario.
Now, suppose that while trying to set-up his ITunes playlist Chris Dodd accidently presses the Financial Armageddon Button. That button triggers immediate universal non-judicial non-recourse foreclosures for everyone with a mortgage, whether they are current on their payments or not.
Well all of the mortgage debt goes away and the banking sector is left with a bunch of houses which it must sell. For the sake of argument lets assume that virtually no one can get credit.
So the prices of all of these will collapse until the inventory can be cleared even in a no credit world.
What does this mean for homeowners.
It means that they now have houses, but no mortgages.
They lost little because they had no equity. They gained a lot because they now have houses, but no debt. So they are much wealthier, at least in this part of the analysis
Where did the “wealth” come from? It was a transfer from the financial sector to homeowners.
Now of course there are a lot of other questions people will immediately ask about knock-on effects, financial collapse and who in the end owns the financial obligations, but this core dynamic is I think underappreciated.
Steve Randy Waldman has a characteristically excellent post where he argues that the monetary policy we observe in Japan, the Eurozone and to a lesser extent America, is simply the result of the preferences of the political influential class of savers.
I love this post for a lot of reasons but one is that it gives me a chance to say: I just don’t buy it.
Lots of time in intellectual discourse we don’t buy the arguments from others and feel compelled to give reasons. This results in a lot of – for lack of a better term – intellectual bullshit.
I don’t have a clear well defined reason for rejecting Steve’s contention. I am just not yet convinced. So rather than committing myself to a half hearted argument and muddying the conversation with junk talking points its better just to announce that I am not sold.
This has the tendency to lower my status as any good intellectual should be able to defend his position, but luckily with Steve this is not a concern.
I can feel comfortable simply saying, I like it but still no. At least not yet.
Among other things this makes it much easier to change my mind if he does convince me as my defensive arguments are likely to trick my subconscious into being more committed to the notion that he is wrong.
Hopefully a short post. This idea doesn’t seem radical to me but given the conversation I suppose its different than what most people have in mind.
Its not immediately clear to me that we should care at all about inequality per se. Some folks have argued that income inequality leads to political inequality. Of course, that is not something I am likely to care about either.
What I am concerned with is the conditions that poor people face.
An argument that does have currency with me is that if we can successfully take access to resources from richer people and given them to poorer people then this is a good idea. Not because it reduces inequality, but because it simply increases the opportunity sets of poorer folks which I think is generally better than increasing the opportunity sets of richer folks.
However, ideally I would want this to have as little destruction of total opportunity sets as possible which might mean tolerating very high or increasing levels of inequality in general.
More concretely it could mean creating an economy where the rich got even richer but we could redistribute some of that wealth to poorer folks.
Some might argue that if the rich become super rich they will resist this. Maybe, but its not clear to me that this happens in practice.
Even if you think of the Reagan Revolution as have reduced the amount of redistribution that actually gets to the poor that happened at a time of lower inequality.
It is true that Welfare Reform happened during relatively prosperous times but I think that is a more complex issue. In the 90s, however, the earned income tax credit seemed to be very popular and of course as societies has become richer they tend to increase Social Security for the disabled and elderly.
I don’t mean this to attach to any particularly policy proposal (besides radically lowering immigration restrictions) but just as a general way of thinking about the issue. The question is what can we do to improve the lives of the least advantaged.
Whatever inequality winds up being under this strategy is fine by me.
Matt Yglesias, among others points out that batteries are a stumbling block to full scale electric vehicles
This is bad news for the world. If you look at the mobile computing space, precisely the area in which you don’t see breathtaking innovation is this battery stuff. We’re just not getting better at the basic physics of storing electricity in a reasonably compact way. Battery life for things like smartphones and laptops has improved, but that’s all coming as improved efficiency of the chipsets. But here, too, the basic physics of translating engine power into forward automobile motion are not amenable to enormous improvements.
I actually think there is a lot more room to radically improve the economic here.
The way cars work now is that
- People generally own the car that they use for transportation
- Most cars are idle most of the time
These two things are massively inefficient and contribute to an enormous capital expense for driving. The reason we do this is two fold. One the operating expenses for cars are really high – both in terms of fuel and the drivers mental capacity - so the capital expense is not as big of deal. Two, convince is a big deal.
Luckily we have the confluence of several techs that are potentially game changers here.
First, are driverless cars or autonomous vehicles (AVs) as I prefer to call them. This radically cuts down on the amount of attention that someone has to devote to driving and so the operating expense goes down.
Second, is cheap electricity. Currently electricity is already pretty cheap compared to oil. It will probably get cheaper in America in the near term as a a result of the natural gas boom and a reduction in the cost of combined cycle generators. In theory you can make one small enough to fit your house, which means gains from mass production.
Over the long run Photovoltaics are the likely source of very cheap power. Lets leave the discussion of how the energy will be stored/distributed for later.
So, that’s a reduction in the fuel costs.
Third, smartphones would allow us to order a AV to our exact location, pay for it and have it drop us off. Further we can order exactly the AV we want. Many seats or few. Lots of storage or little. Fancy or basic. Consumer comfort or a rolling business office, etc.
Lots more convenience.
All of these factors together mean that there is now enormous pressure to get more out of the capital and luckily there is an easy way – battery swapping.
I imagine that most AVs might have a small internal battery for cruising around the home station, but in general the AV will pickup the battery it needs for the job that it has been tasked to do. This means that batteries will always either be charging or in use.
Even at night, when most humans are asleep the batteries can be swapped in to delivery vehicles. This means the battery is in constant use which means that its use is amortized over a much shorter period of time and the cost of capital is much less.
Getting from where we are today to this world is a challenge but it is one of the advantages of lots of rich countries. Someone – probably the South Koreans – will go for this system first. Then folks will look in awe and want it for themselves.
Kevin Drum writes
Today, Aaron Carroll tells us the story of TriCor, aka fenofibrate, a cholesterol drug licensed by Abbott Labs in 1998. Unfortunately, TriCor’s patent was due to run out in 2000 and a maker of generic drugs was all set to produce a generic version. So Abbott sued, which delayed the generic version by 30 months:
. . .
The cost to American consumers of not having access to a generic version of TriCor is on the order of $700 million per year, money that (presumably) accrues to Abbott Labs instead.
This is a part of a longer point but its important to note that its not clear that health care costs were raised as a part of this.
There may have been deadweight loss, though given widespread health insurance and government payment plans its not clear the deadweight loss is that great.
Mostly it seems that at worst money was transferred from consumers and taxpayers to TriCor. This is not an economic cost. It is simply redistribution.
So, one concrete problem that you might have with the US health care system is that it serves to redistribute income in ways that you do not like.
That’s a real thing. You could say, I would rather have the money than Abbot Labs and I understand what problem you face and we can talk about solutions.
However, as generally used the phrase “high health care costs” doesn’t refer to anything that makes any economic sense and so its not clear what the appropriate remedy is.
I would like to encourage people to be more explicit about the real problems that they perceive rather than extensive references to large scale accounting issues.
I haven’t written about obesity in a while but this from Tyler Cowen prompts me
Dr. Sturm found no relationship between what type of food students said they ate, what they weighed, and the type of food within a mile and a half of their homes.
At the same time Scott Sumner provides with a rhetorical tool that might help me convey what is otherwise extremely difficult to convey. That is:
Never reason from a food choice
Just like price and markets, food choice seems like the most obvious aspect influencing nutritional outcomes. Its right there in front of us. However, once you realize you are dealing with an equilibrium system the most obvious candidate frequently becomes the least powerful one.
To start with the choice of what to eat and when is obviously extremely basic. All animals do it for sure. Maybe we can get into some debate over whether bacteria and protozoa do it, but we know for sure that all animals make choices about what to eat.
However, we don’t think that most animals actually make the same type of deliberate choices that we think of humans making. Some of them have such rudimentary brains that it seem strange to talk about the choosing at all or indeed being “aware” of what they have eaten. They live in the moment and operate on nearly pure instinct.
Yet, these animals balance their caloric intact. Together with reproduction that is the main thing that many animals do.
So, we know that there must be some mechanism that matches caloric intake and output. Where these two forces intersect the drive to eat is the result.
Now you observe an oddity. The body mass of human beings – and seemingly other animals but that is another story – is rising. Why?
Apparently a lot of people run to food choice and say, well people must be choosing the “wrong” foods. However, this is bad question. We are dealing with an equilibrium system. What exogenous force has caused food choice to settle at a different level.
We know food choice hasn’t simply gone off the rails because people do not increase body mass without bound. This is technically possible but almost never happens. Instead people increase a given amount of body mass and reach a new equilibrium.
This suggests something has happened to the feedback mechanism. But, what?
Maybe we say advertising or something else. But, then you study the mechanism closely and it is darn robust. For example, just to show extremes you can forcibly run a human being up to expending 8000 calories a day without worrying that the human will even slowly starve to death.
That means that it can take an at least 4 fold shock to its system and not miss its equilibrium values hardly at all. The misalignment associated with obesity is quite small compared to that.
This should make us think that its not a simple shock. Something more subtle has happened to the feedback mechanism itself.
In the modern world no one is going to let us cut open human beings willy-nilly and screw around with their endocrine and nervous system. If we could then we could solve this mystery in no time flat.
Given ethical limitations we are forced to make inferences on data that is far removed from the systems of interest. Nonetheless, we still know such systems exist and we should suspect that they have something to do with hormones and other peptides.
We know that when we go screwing around with people’s hormones their basic desires change. Food is a basic desire. We also know that body composition and food intake change hormones.
Thus our baseline should be that something weird is happening to the hormones.
And, that is really my message. Hormones ought to be the baseline here. Its of course possible that some other theory is correct but this should undoubtedly be the one we run to first.
As it turns out there is increasing evidence for the hormone theory and we think we may even know some of the ones that are involved ghrelin, peptide YY, etc. That’s great. But, its not the empirical evidence that should be swaying us here. Its is extremely preliminary.
What should be swaying us is basic reasoning about how dynamical systems operate.
Another sense I am gathering from the blogosphere is that understanding the macroecnomy in practice is about understanding savings.
That seems astoundingly obvious on one level as Keynesianism is all about savings; Moneterism is largerly about money and its dual role as a store of value; and Wicksellianism is all about the interest rate.
That’s all fine as a technical matter. However, what I think folks are missing are deep conceptual issues around savings.
At its heart I think it is because people have deep emotional issues attached to savings, so let me tell some personal stories that will help illustrate why I see the difference.
When I was a small kid, maybe five or six – I can’t remember exactly – I was fascinated with savings. In particular, I was fascinated with compound interest because like many math oriented kids I loved the non-intuitive nature of geometric series.
I would sit I the bath calculating how long it would take to reach various levels of wealth given certain rates of savings. This was before common place calculators – at least for someone at my income level – and so I would develop lots of tricks that are now obvious to anyone with basic financial math, like doubling time and reverse amortization to go from a final wealth to a payment.
What ever quirk this is stayed with me the rest of my life so that as I have written before, I spent part of my youth providing financial services to folks who don’t have access to mainstream means.
My infamous – truly ask many of my old friends – miserliness was not limited to just accumulating compound interest. In the 90s when interest rates were low by my standards I did in fact keep thousands of dollars in cash in my sock drawer. No reason. I just did.
For most of my life I have hated material consumption, especially nondurables. I have personally owned one car in my life and that was a hand me down once I started working away from home in a town where I need transportation. Every other vehicle I have driven was someone else’s.
Besides computers, which I was bought once I left the free access of the university computer lab, I have rarely owned major devices. I have never bought a television or home appliance for myself. I once accepted a hand me down toaster oven. I have never bought a piece of furniture for myself.
In college I lived on a mattress on the floor a got from someone who was moving out and a couch a got in return for power washing a ladies basement. I never owned more than one plate, one pot, a pan and a few forks for myself.
The primary meat that I ate one my own was canned tuna and that was back before the health craze made it so damn expensive. At the time you could get them on sale for 25 cents a can.
As I mentioned before I have never had bought health insurance for myself with my own money and until I became much older I never paid for physician or hospital services with my own money. Though I did buy pharmaceuticals.
I say all of this to make it clear that the moral issue of trying to conserve was never a problem. My view has been that material things were a burden and in general even taking care of them took up more time and energy that they were worth.
As such I have never felt the guilt waiting to consume beyond my means and I think that gives me a different perspective on the world.
That is because the guilt seem to cloud the thinking of most people and lead them to conclude that forestalling consumption and worse reducing expenditure is an unmitigated good. To be clear I like to forestall consumption but out of pure selfishness. Not concern for anyone else or “doing the right thing.”
This I believe helps me think more clearly about savings and to understand the inherent difficulties associated with it. Far from being a utopian ideal to which we should all strive, savings is actually logistically difficult. Things rot. The wear out. The become obsolete.
You have to pay to save, and I know because it is a payment I have had to endure. You can loan your money to someone though outside of official channels getting it back is a non-trivial exercise.
People can and do loose your money.
This is actually more common than people stealing your money. Most people will lose your money out of stupidity. Its another story all together but people consistently think that their plans and ideas are good when almost all plans and ideas are shit.
In any case transporting resources into the future is a fundamentally hard proposition when you try to do it yourself. Then you might ask, why is it so easy for society to do it.
Well this was a puzzle for me, but if your interest is peaked by this then you will investigate and notice that it comes down to couple of things:
One, the court and credit system help you to enforce claims against other people: When you loan people money they will probably use it for some stupid idea for the sheer fact that most ideas are stupid. This will result in a loss. However, what you can do is get either the court or the credit system to entice them to give you some of their other stuff instead.
This is why going into debt seem like a bad idea for most people. There is nothing wrong with the debt per se. Its just that the debt empowers them to act on their ideas, which once again are fundamentally stupid.
Without debt they just sit around imagining all the goods things that could happen if they had access to resources but of course none of these good things will actually ever happen no matter how many resources they have access to, so they are better off just living in fantasy land.
Two, buildings, buildings, buildings: Building are like magic for so many reasons. For one thing they deteriorate very slowly. That’s usually your problem with most savings. Things rot. Buildings of course “rot” but they do so very slowly especially if they are made out of concrete or set on a concrete foundation which is a huge freaking deal. Like really a game changer.
Second, is buildings allow for increasing productivity. Its not just that you build a building and then the folks in are more productive. You build a building and then the next building you build right next to it is more productive. Its like freaking magic.
This of course is the origin of urbanization, and it’s a huge deal. It allows your savings to work wonders.
The thing is these golden gooses do not work all the time. For one thing the loaning people money doesn’t work in the aggregate. Not everyone can save by loaning people money. Boom, right there half the ease of savings is gone. What is easy for a person is now hard for a nation or the world.
The second is that buildings run into problems. For one people want to move but moving buildings is hard. For two, people put up all sorts of zoning restrictions. For three congestion ultimately decreases the usefulness of buildings. For four, stupidity rears its head and sometime people build buildings in really unfortunate locations. For five, buildings work best when you can fill them with people and at least in the developed world we are running out of people.
All of this comes to the point that in an aging industrialized country that already really dense savings because really difficult. Nonetheless people are still programed that its an unmitigated good.
This makes it hard for them to accept it when folks like me say, look you need to chill out on the savings. People think I am crazy. Then when their savings yield no return they get all upset like they have been screwed, when in fact this is just life.
This phenomenon is so pervasive that whole economies go into recession in part because people cannot wrap their minds around the concept that savings is logistically difficult and that if you do too much of it you will run into to trouble.
Those with money insist that the government hold steady or in some cases even reduce the quantity of money in circulation so that money becomes more scarce and it appears that they are becoming wealthier when in fact they are just taking an ever increasing portion of a shrinking pie.
The problem is just that savings is logistically difficult yet people cannot seem to accept this.
While I am completely sympathetic to all of the points Scott Sumner raises I have been reluctant to fully embrace the Market Monetarist School for a couple of reasons.
First, being a neo-Wicksellian/Woofordian I do in fact believe that interest rates and expectations of future interest rates, not money itself stear the nominal economy. I think monetary policy in a world without money works just fine.
While this is an interesting academic dispute its not clear that it matters much for real policy. Market Monetarists believe that long run expectations of monetary policy matter and as long as we agree on that there is no practical difference.
Second, I am becoming more sold on the need for a new policy regime. For one thing I am increasingly skeptical of the dual mandate. As my previous post suggests my concern is that the weighting of the elements of the mandate are regime dependent and that this introduces monetary uncertainty and policy error.
Third, in a deeply practical sense I think selling a higher and steady Nominal Spending target is easier than selling a high inflation target. Especially as we enter a world with unfortunately falling population growth this will be key.
I actually don’t think we will experience much in the way of a fall in TFP growth but I think population growth is actually more important because the particulars of capital accumulation with respect to TFP growth are more variable.
Put another way, given equal GDP growth there is more variance associated with the marginal return on various capital projects under high (frontier) TFP growth than under high population growth or catch up TFP growth.
I believe this means that the associated natural rate of interest is lower.
Scott Sumner writes
What interests me most is that [Pianalto] talks as if the Fed is still steering the nominal economy, despite near zero interest rates. Other people may not see it that way, but swing voters at the FOMC certainly talk like they are still “doing monetary policy.” In one sense that’s reassuring—we’d hate to see those at the controls claiming that the steering mechanism for the economy was stuck. On the other hand it’s also a bit dismaying, as the marginal crew member of USS Nominal GDP seems happy with the ship’s course; even as Obama, Romney, Bernanke, 14 million unemployed, and the US stock market think it’s obvious that aggregate demand is too low.
I’d like to encourage a shifting of the conversation. I think virtually all nominalists agree that there is monetary policy at the zero lower bound.
What we disagree about is whether the Fed’s reaction function changes significantly in the presence of the zero lower bound. Indeed, that might be an interesting paper.
This could take on several forms. One, as I suggest is that the reaction function could become asymmetric, so that the Fed attaches a very high loss weight what we might call “non-Keynesian easing” but “attaches a low loss weight to “Keynesian easing.”
In this case normalizing interest rates though expansionary fiscal policy in effect serves to soften the stance of monetary policy.
There are at least two other hypothesis worth exploring:
One is that the Fed’s inflation weighting simply rises as it hits the zero lower bound. I don’t have an immediate explanation for this apart from the hypothesis above, but we should consider that something odd simply happens in the minds of central bankers as they bump up against the zero lower bound. The evidence suggests this.
The second is what I am loosely calling hysteresis in policy making. This is essentially the hypothesis that policy makers become inured to their past mistakes. So in a regime that has had persistently high inflation, the loss weighting of inflation begins to drop.
In a regime that has persistently high unemployment the loss weighting on unemployment begins to drop. Policy makers themselves begin to accept the new normal.
All of these cases, have important policy implications.
One of course is a strongly growing level target that assures that the Fed never bumps up against “non-Keynesian easing” the other is that fiscal policy or more importantly automatic stabilizers could have an important role to play early in a recession.
This is very out of the box, but imagine a standing Civilian Corp that works like this. At any time anyone can sign up for 6 months of work at the Civilian Corp. You will be paid 70% of your previous average salary and will not loose unemployment eligibility. Though you can only do one round in the Corp every five years or so.
The Corp then outsources you out to non-profits to do charitable work.
The point of the Corp is this: When a large unexpected aggregate demand shock hits many people will choose the Corp over running out their unemployment benefits.
The huge rise in Corp employment will serve as an obvious sign to policy makers that they have failed. Yet, the sting of true jobless will not have hit yet. This gives a buffer zone where it is undeniable that monetary policy is falling but the worst of joblessness has not yet come about.
The hope would be that policy makers would move to shift monetary expectations quickly so as to prevent the emergence of true joblessness.
Now, I am fully aware that in the ideal monetary regime we never even get to this point because the Central Bank is always targeting levels. However, in practice the regime is likely to make some sort of unforeseen error and need to change expectations quickly.
This at least give us a buffer.
I am of course not hanging my hat on this idea, just throwing it out.
My real concern is measuring policy makers loss functions under different regimes.
I am not even sure what to make of this, but in a note relating to the Keynes-Hayek debate Edmund Phelps writes
What now do we do? With some luck, the economy will
“recover” through a return of investment activity to sustainable
levels once some capital stocks, like houses, have been worked
down. But it will not recover to a strong level of business activity
unless something happens to boost innovation. The great question
is how best to get innovators humming again through the breadth
of the land. Hayek himself said little on innovation. But at least he
had an applicable theory of how a healthy economy works.
The Keynesians, sad to say, show no understanding of how
the economy works. They think they can lever employment up or
down by pushing buttons – as if the economy were hydraulic. They
show no grasp of the concepts that would be necessary to restore us
to prosperity and flourishing. In an old image that applies well to
the posturing of today’s self-styled Keynesians, “the Emperor has
So obviously there is the general mincing of welfare and macroeconomic notions. Does anyone seriously doubt that the government can lever up down employment by pushing buttons? Suppose that anyone found having a job was shot on sight. Show of hand for how many think this would lower employment.
Suppose I drafted all citizens between the ages of 16 and 65, do you think this would raise employment?
But, lets leave that aside since a lot of folks get confused over the difference between welfare and economic aggregates.
What is anyone to make of the statement that a
a strong level of business activity unless something happens to boost innovation
How can that possibly be anything other than a monetary statement, which Phelps rejects as a cause for the slump. Accept for concerns over monetary policy what at all would innovation have to do with business activity?
It is clear why you could not get economic growth without innovation but the vast majority of business activity over the course of human history have been in economies that were not growing.
Indeed, the vast majority of business activity that occurs from now until the end time will almost certainly be in economies that are not growing. Sustained per capita growth is an odd thing that just started recently and will likely end in fairly short span of time.
I hate to put it this way but I cannot read this without wondering, if this is what Edmund Phelps thinks, then what do most people think?
Tyler Cowen has some comments on the ObamaCare chatter
. . . the “war” is the joint view — extremely common in America — that a) tax revenues are on an acceptable track, and b) we should spend more and more on health care each year at high rates, including in per capita terms.
If you think that dual project is sustainable, you may be relatively interested in estimates relative to baseline. If, like me, you think that project is like a failed and failing war, a success “relative to baseline” won’t much impress you. In fact it may scare you all the more to hear about success relative to baseline, as that can be taken as a signal that there is no really good plan behind the scenes. Here are a few factors which could radically upset current mainstream baselines:
Its not immediately clear to me what these two paragraphs mean exactly, but off the cuff I don’t know who the folks are who think that current tax revenues combined increasing health care spending is sustainable.
There are certainly people who don’t think about it much, that probably constitutes the bulk of society. Then there are people like me who think that sustainability is not an important consideration. Well, that’s probably just me, but I think I am slowly winning converts.
However, the mass of the chattering class is constantly talking about the need to reign in health care costs and/or reform the tax code, often with an eye towards more revenue.
Perhaps more interesting to me is this point by Tyler
Imagine people sitting around in Spain, in 2006, debating various scenarios relative to the “baseline budget.” Maybe that’s America today, though we do not face the same particular problems or timing that Spain did.
This sounds like a point I would make. Doesn’t this reveal not only the asininity of this entire exercise but the deep foolishness in thinking that responsible and prudent action will save you from being royally screwed. After all, Spain had not only a low budget deficit but was running a strong surplus. They were a prime example of a good little European citizen. And, now here they are on the verge of destruction and being pressed into ever worse policies by the European elite.
My growing sense is that in their heart of hearts most people just can’t accept that the world is fundamentally unfair. They think there must have been something that could have been done to prevent this badness. If only . . .
If only nothing in many cases. You were just screwed. That is life.
If you want to get out with your head intact then the question is not how to be responsible but how to survive a crisis. When you are engulfed in flames – and you will be – what do you do?
This is why if there is any lesson from all of this it is to point out how fantastically awful the ECB’s management of the crisis has been. Will this stop policy makers from screwing up similarly in the future, of course not.
The hope is that we will know who to hang, and that we can proceed with the hangings in short order. That is the way out.
Part of my general thesis behind a robustly recovering US economy was that we would see a marked increase in the construction of multi-family housing units.
The press continues to note the general strength of this segment but relative to my view of the economy it has continued to disappoint.
Here are Multi-Family starts over the last two years.
That might look impressive until you compare it to what a real boom looks like
The “hopeful” argument is that while the absolute increase is much smaller this time around the pace is actually a bit faster, a four-fold increase rather than a 3-fold increase.
However, given the current conditions in housing I was looking for an even stronger snap back. This alone will not be enough to push the economy into a boom. We need a series step-up in the rate of growth.
What’s worse from a long run perspective is that the failure of multifamily to bounce back potentially sets up single family for a new bubble. With rents tight and likely to get tighter, buying becomes a better and better deal.
This has the potential to bring out both investors and first time buyers in droves. That in turn will lead to an extremely rapid draw down in inventory, which leads to a stabilization in prices, which leads to looser lending standards which leads to a boom in buying.
That kind of instability is difficult to manage. Economic stabilization going forward would be better if there was a larger stock of multifamily rental housing, yet that is looking increasingly unlikely.
Felix Salmon writes
In this kind of a recession, monetary policy — reducing rates to zero — doesn’t work. And tax cuts don’t work either: they just increase household savings. You need government spending, at least until the economy has warmed up to the point at which companies and individuals start borrowing again. And the good news is that in a balance sheet recession, government spending is pretty much cost-free, since interest rates are at zero.
Except that rapid increases in household savings will cure the balance sheet recession. With all due respect to Felix I think this is part of the ideological blinders than lead to bad policy on all sides.
One can make an easy case that direct government spending would generate more immediate stimulus in general and especially during a balance sheet recession.
However, folks are weary of direct government spending. Rather than wasting a lot of time and energy arguing over that its better to simply choose policies that everyone can agree on and then go really huge on those polices.
My original suggestion from early 2008 was a complete suspension of the payroll tax combined with open ended loans to State and Local Governments. I still think that would have given us a much quicker repair than we saw.
Note we would be transferring at least $450 Billion a year into households pockets and potentially savings. Though likely the net effects would have been much larger as no payroll tax would have increased labor demand.
As it was households only reduced their total debt by about $700B over the course of the last few years. Meaning that they could either have accomplished this entire adjustment by sometime in 2009 or if they had continued to save the entire portion then by now they could have made an adjustment at least two and half times larger.
Further, even if you don’t buy the idea that the marginal effect of taxation would have mattered much in the recession the relaxation of cash flow constraints on businesses would have. That is, some businesses slowed down radically on hiring in part because they were unsure if they would be able to meet payroll. Lowering the cost of payroll would have lowered that.
However, we can take it even further. One of the goals of the Administration and Democratic Congress was clearly an expansion in health care.
Suppose at the apex of the crisis you have offered to Federalize Medicaid. That is to move the entire program to being funded by the Federal government. The logic being that this would remove a huge burden from the states at a time of crisis and give the states vastly increased flexibility.
In both cases what you are doing is moving liabilities off of state and private balance sheets and on to public balance sheets. This is exactly what you would want to do in a balance sheet recession and it could be done without authorizing any new spending.
Again my point here is not argue whether this would have been the best conceivable policy but whether or not it would have been a better policy than we got and less hamstrung by partisan differences.
There is approximately zero percent chance of the Federal Reserve staking out an official position like this, but would push for an interim statement like the following:
The Federal Reserve regards the deterioration in sovereign balance sheets within the Eurozone and the associated stresses within national banking systems as posing not only a risk to sustained growth in the United States, but as contributing to significant deflationary pressure around the world.
A large and unexpected fall in the dollar price of internationally traded goods and services raises the risk of deflationary expectations with United States and the committee will take all necessary action to prevent this dynamic from taking hold.
The clear message being that unless the ECB and the Bundesbank reverse course immediately they can expect the current Eurozone recession to be compounded by a rising Euro.
I’ve been playing with the JOLTS data and I don’t have anything too too solid to report but I did want to reinforce some of my earlier points about how different the US economy as a whole is from the economy we have in our minds.
We usually think of a worker as a breadwinning head household in a career job. He or she has a steady life that may be rocked by recession. However, one of our most job heavy sectors is Leisure and Hospitality. Look at its basic dynamics
Its quite large at nearly 10% of all jobs. Its fast growing generally. Was one of the few sectors to show increased employment from when the recession ended and it recent months may be growing faster than at any time during the last recover.
In addition look how dominate it is in terms of overall job growth. Here are the12 month moving averages.
Currently the 12 month moving average of all job growth is around 150K, suggesting that nearly 1/5 net new jobs is Leisure and Hospitality.
Generally speaking this is a trend I would expect to continue as the End of Retail is combined with increasing income inequality. We should expect low skilled workers to become increasingly concentrated in direct service jobs like hot food and drinks.
Any one one of the points I wanted to make is that despite the huge job losses associated with the recession, there were not actually many layoffs or discharges in this sector. Here are the JOLTS data
If anything layoffs and discharges seemed to ease during the last downturn. I think what we are looking at is simply an incredibly dynamic sector of the economy in terms of workforce.
Rather than seeing a recession happen in terms of layoffs and sending people home. We simply see that job openings shut down.
This has potentially interesting consequences. If what we are seeing is that for some reason – maybe hardship, maybe life cycle – folks are passing through this sector, then when this sector shuts down on hiring its going to have some strange outside-insider implications.
We are not going to see lots of workers loosing their jobs, simply that the opportunity for new workers to gain jobs will collapse. This is somewhat different from how we commonly talk about job markets.
And, in general I think its important to point out that much of the US workforce is in areas that don’t have the office like dynamics that are common to folks who read and right blogs.
For example another sector where layoffs were not the norm but hiring collapsed was health care and education. That’s even larger in terms of employment.
Will Wilkinson and Bryan Caplan have been going back and forth on the value of labels. In particular, Will is arguing that political labels are a detriment to clear thinking. Overall, I think both of them have some pretty good points. I do think Will is correct that for most people political labels make you dumber. I am frequently baffled by the sight of an otherwise intelligent person making a partisan knee-jerk defense or attack on a politician when they would obviously be taking the exact opposite position if the D were switched with R. I see this happen literally almost every single day, and it is an extremely sad sight, made all the more sad by it’s obviousness. This makes me side with Will (somewhat). Yet, as would be expected, I don’t think my own labels do this to me (much), and I do think they are useful, which makes me side with Bryan (somewhat). But there is one point I think is missing from the debate: a self-conscious lack of labels is in fact a label, and can be just as constraining of one. Let me explain.
Politics just is coalitional conflict. A political label puts you, like it or not, on a team in a number of disputes in which there are significant real-world stakes. People therefore tend to see their ideological affiliation as constitutive of their identity in a way their opinion about the ontology of mental illness (to use one of Bryan’s examples) isn’t… Other people are thus likely to see our politics as central to our identity, and to see our attributed identity through the prism oftheir politics. Self-labeling gives others permission to apply to us the label we apply to ourselves, and (here is something I believe!) who we are is to a large extent a complicated product of our reactions to social expectations.
But to define oneself as, for example, “of no party or clique”, as Andrew Sullivan does, creates in others a social expectation of holding beliefs that defy parties and cliques. You may not be expected to take particular and easily predictable positions on every issue as you would if you had a politically well-defined label like, say, paleolibertarian, Christian conservative, or pro labor democrat. But you are expected to regularly take positions that are idiosyncratic.
Take Will for example. He is one of my favorite writers and I think he has a great talent for peering deeply into an issue. But nowadays I expect Will’s self-description as stridently not-a-libertarian who still steadfastly holds some libertarian positions to mean he will be boldly rejecting libertarian positions somewhat regularly, and embracing them other times. Will’s label as a label-less individual is perhaps even more central to my expectations of him than ever, since this has become an important issue to him that he wishes to persuade us on. “Look at me”, Will seems to be shouting sometimes, “I am no longer beholden to libertarianism!”. I don’t begrudge him his new found freedom, and am glad he feels unburdened of a bias, but it is a label he is wearing brightly.
I consider myself something of an idiosyncratic neoliberal libertarian who is willing to admit a lot of uncertainty. Each of those four things creates some expectations (to the extent anyone expects anything of me), but I think they give me a fairly wide berth to accept claims across many ideological spectrums. I don’t think abandoning those labels would liberate me, because I don’t feel very constrained. I think a lot of libertarians and conservative couldn’t picture themselves agreeing that the minimum wage doesn’t lead to unemployment, and indeed at one time I also could not have done it. But I took a lesson from Robin Hanson and pictured myself walking around as someone who believed this, and adjusted my self-conception until I actually could do that. Now I sometimes earnestly consider it, rather than just reconvincing myself that my belief in the opposite is rigorous. I don’t think you have to do this with all literally absurd claims, but it should be possible for slightly plausible claims.
Perhaps Will’s rejection of a label, or I should say his embracing of the label “label-less”, is the most effective way for him to minimize his biases. For me, I think I feel the most pressure or bias from my “idiosyncratic” label, and my “neoliberal” and “libertarian” labels help counter that by aligning social expectations of my beliefs to what I approximately consider to be the truth, and so regularly believe. But “idiosyncratic” isn’t a political ideology, it’s an adjective. And try as we might we cannot label ourselves as “adjectiveless” or be “adjectiveless” people and writers.
For some perhaps the best course of action is to abandon labels with strong expectations for those with less. For others I think the best course of action is to truly be able to imagine yourself defying social expectations your labels create, and to practice doing so by thinking a lot about the areas where you are most likely wrong. Just don’t defy social expectations of your beliefs by re-labeling yourself as someone who defies social expectations of your beliefs, or you will end up biased against holding predictable beliefs. Idiosyncrasy can be a burden like that.
That is the epistemic case against abandoning labels. Now allow me to make the Straussian case.
There is a constant branding war over ideologies, which combined with the inevitability of labels and anti-labels leads me to wish to defend the label libertarian by attaching myself to it and steadfastly insisting it is compatible with reasonableness. I know many people have exaggerated and cartoonish images of what makes a libertarian, and many cannot imagine themselves as self-identifying as libertarians. Part of this is the fault of Ron Paul and other radicals. I think convincing people that their self-conceptions as reasonable people can remain intact while they also embrace the label “somewhat libertarian” or even just “sometimes agreeing with libertarians” is valuable for the cause of promoting liberty, especially smart libertarian policies.
On the other side of the spectrum, I want to sell radical libertarians on a more reasonable brand of libertarianism. This is an easier task for someone who truly sees themselves as a libertarian. It is also, I hope, valuable for the cause of promoting liberty, especially smart libertarian policies.
Let me end by noting that I expect Will, with his insightfulness and persuasiveness, to talk me out of half of this [this is my uncertainty label operating].
This is a point I have been meaning to make for a while and Mark Thoma’s post this morning spurs me on. He writes
My view is that the costs of doing too much — the inflation cost — is much lower than the costs of doing too little, i.e. the costs of higher than necessary unemployment (though see David Altig). I’m aware that we differ on this point, those in favor of relatively immediate interest rate increases see the costs of inflation as very high and it’s this point that I hope will generate further discussion. In reality, how high are the costs of a temporary bout of inflation — I have faith that the Fed won’t allow an increase in inflation to become a permanent problem — and are they so high that they justify erring on the side of doing too little rather than too much? I don’t think they are, but am willing to listen to other views.
My understanding is that the principle fear regarding inflation is that if a sustained period of high inflation were allowed expectations would become unmoored and the Fed would lose it hard won credibility.
The problem with this view is that it flies in the face of the notion that inflation expectations are rational.
A rational agent incorporates knowledge not only of Fed behavior but of the informational and operational constraints facing the Fed. If it is in fact the case that the Fed is only risking higher inflation because it is
- Uncertain about potential output
- Concerned about hysteresis
- Has difficulty adjusting policy at the zero lower bound
- Is operating in the wake of a major international financial crisis
Then a rational agent should not conclude that long run inflation targets have meaningfully changed.
And, we must remember that rational agents are not “cynical agents.”
An agent who was irrationally cynical about the Fed’s attempt to tame inflation from the 1980s onward would have lost enormous amounts of money shorting the bond market.
Agents today face a similar gamble and it simply would not be smart to assume that a Fed that was aggressive now is giving up on its long run inflation targets.
Thus there is little reason to think that if the Fed is not in fact giving up on inflation targets that the market will believe that it is.
I think the following is true more generally, though I understand it would require a proof:
The Central Bank cannot advantage itself by attempting to send false signals to rational agents who possess the same information.
For example, making a bigger deal about inflation than what would accurately reflect the Fed’s loss function cannot serve to lower long term losses. The market will not be “fooled” by such signals into up-weighting the inflation component of the loss function in future periods, but the Fed will suffer losses in the present period.
Cardiff Garcia has a great post about safe assets and the quest for collateral. In the end he asks
Does the shadow banking system’s relationship to monetary policy have any implication for the Smithian/neo-Wicksellian view, which awaits the natural rate of interest imminently rising to and exceeding the federal funds rate?
The short-short-short answer is that from the looks of it right now the real economy driving the natural rate up will outrun the collateral contraction.
The short-short answer is that I will admit I am growingly concerned about what happens when we cross over to the other side. I have not looked into the details but from a 30K foot view I imagine that we will soon hit a point where the issuance of private safe collateral reverses, which could push some part of the economy into an uncontrollable boom.
My baseline expectation is that there is a non-trivial chance it could be housing all over again. Though again, I don’t know the details of the market.
In any case it’s a pickle because the fundamental asset problem remains and there is no clear way to stop the boom-bust cycle when private collateral is so strongly pro-cyclical.
As I hinted at, at Kauffman the ideal strategy would be for the US government to run massive deficit – most efficiently by dramatically reducing taxation at all levels and transferring the burden for Medicaid and Higher Ed to the Federal government and the massively opening up to immigration.
Thus allows us to support the issuance of massively more public collateral and have it backed by a larger population. Absent something like this I think there is no obvious way to avoid this.
PCE moved forward rapidly in Feb, no doubt raising tracking forecasts for Q1GDP. Importantly, it seems that while the decline in energy consumption has slowed, it has not reversed.
Regardless of what happens with the weather we should expect the official measures of energy consumption to turn north hard as the winter passes. In short, low heating during the winter cut deeply into consumer spending measures.
However, as we pass into the Spring the seasonal adjustment will except heating expenses to fall away anyway, so it will no longer count against consumer spending estimates. This will be reflected as boom.
There seems to be some disconnect or bit of talking past one another on the issue of a housing recovery.
There are people in the Recovery Winter camp, like myself, who argue that the upturn in housing will contribute to sustained growth in the United States, baring major unforeseen shocks. That is, unless something identifiably contractionary happens we should expect growth to become more solid, with fewer disappointments and a steady path back towards our long run trajectory. In short, a recovery.
However, I am receiving a steady stream of comments noting the continued downward movement in home prices along with evidence that the uptick in new home sales and starts at the beginning of this year was a fluke.
So, to be clear, I don’t think there is any reason why we should expect strongly rising single family home prices in the near future. Nor, is my baseline assumption that we will see a strong increase in single family construction. The upturn at the beginning of this year was surprising to me as well.
In contrast, my thesis is first that single family construction will not fall any further. Currently new single family homes built-for-sale are running slightly behind new single family home sales. Inventory is at record lows and declining. Thus even with continued weakness in the existing home market we are not likely to see significant declines in new single family home construction.
This is in large part because new single family home construction is close to or outright dominated now by custom home construction. That is homes built by owner or built by contractor for a specific owner. There is no substitute for a custom built single family home and there is no reason to expect that people in this market are going to be doing worse economically. So, we think those builds are safe.
In contrast the baseline scenario involves a pick-up in multifamily construction as rents rise. At core the reasoning is that a breakdown in the mortgage market and/or folks desire to invest in single family homes does not change the need for housing. Currently America’s population growth is well outstripping its housing stock so that we have an abnormally large number of people per household and an abnormally small number of households.
Barring a large cultural change – which is possible – this will mean a steady increase in the demand for rental housing. We have seen this as rents are currently rising quite rapidly and reports from apartment owners show what are approaching record low vacancies.
This makes constructing apartments a great value proposition.
Now, lots of people point out that multifamily is a small part of the overall housing market. This is true but two things:
First, the small size of multifamily is a result of a 20+ year expansion of single family homes. Go back to the 70s and 80s and multifamily construction was on par with single family.
Second, for growth what matters is not the level but the absolute change. If multifamily went from its current pace of roughly 200K units a year to a pace of 800K units a year that would constitute massive growth, even though it would be well shy of the record pace that single family construction hit during the boom.
A residential industry that was pumping out 800Kmultifamily units along with roughly 400K single family units a year would also be in a robust recovery, with rapidly declining unemployment among construction workers.
This scenario, in which new home construction comes to be dominated by multifamily built-to-rent units does not require the single family housing market to normalize anytime soon. Indeed, it predicated on the assumption that the single family home market will not normalize soon.
If the single family home market does normalize it will put a dent in the multifamily market. I suspect that part of the reason multifamily isn’t accelerating any faster is concern that the single family market will repair itself ahead of schedule and knee-cap rising rents.
You just can’t beat this closing, in my mind’s eye it was complete with a mic drop and Scott walking off stage right.
Monetary policy should always be set in such a way as to produce on-target expected NGDP growth. That’s the Lars Svensson principle. If you do that, there’s no room for fiscal stimulus, even if the economy is currently depressed. With a central bank that targets expected NGDP growth along a 5% growth path, you are in a classical world. Spending has opportunity costs. Unemployment compensation discourages work. Saving boosts investment. Protectionism is destructive. And so on. That’s the policy we should be teaching our grad students. The optimal monetary policy. Not a policy mix that only has a prayer of making sense in countries where the central bank is even more stupid and corrupt than the Congress. As far as I can tell, those countries don’t exist.
A cursory look at personal income statistics shows that the biggest drag on personal income right now is the decline in transfer payment from the government. At first this seems natural as the economy is recovering and automatic stabilizers like unemployment insurance work in both directions. They slow the descent into recession but as they roll off they also slow the recovery.
Yet, the recent numbers were to big to explained by unemployment insurance alone. It turns out government health care spending is dropping by unprecedented amounts.
Below are year over year declines in transfer payments
The blue line is Medicaid which is now outpacing Unemployment insurance in terms of absolute year-over-year spending reduction. The red line is Medicare, which is whose year-over-year spending is not quite in decline but appear poised to make declines in the coming months.
This may be why the fundamentals in health care look surprisingly weak. Job gains have slowed as well as capital expenditure.
Just a quick shot. One growing point of tension that I that has both semantic and substantive difficulties is whether or not we regard the situation in the mortgage markets as “structural.”
Clearly the health of the mortgage market is strongly influenced both the business cycle and likely by monetary accommodation directly. It also is dynamic in that we don’t expect things to last.
At the same time its also clear that it changes how monetary policy affects the economy. To illustrate, the problems in the mortgage market are well known but look at commercial banking outside of the mortgage market.
A rapid return not just to normalization but to conditions that are almost as good as it gets.
This seems to be the theme building in Federal Reserve speeches and communication. Ben Bernanke today.
To sum up: A wide range of indicators suggests that the job market has been improving, which is a welcome development indeed. Still, conditions remain far from normal, as shown, for example, by the high level of long-term unemployment and the fact that jobs and hours worked remain well below pre-crisis peaks, even without adjusting for growth in the labor force. Moreover, we cannot yet be sure that the recent pace of improvement in the labor market will be sustained. Notably, an examination of recent deviations from Okun’s law suggests that the recent decline in the unemployment rate may reflect, at least in part, a reversal of the unusually large layoffs that occurred during late 2008 and over 2009. To the extent that this reversal has been completed, further significant improvements in the unemployment rate will likely require a more-rapid expansion of production and demand from consumers and businesses, a process that can be supported by continued accommodative policies.
Rate are improving, but “conditions remain far from normal” in the level.
This links well with “economic conditions are likely to warrant an exceptionally low level for the Federal Funds rate”
We are beginning to see a strong implicit recognition that the relevant economic conditions are not the growth rates of real variables but the level of those variables, particularly employment.
Fed officials appear unwilling at this point to make similar statements about the price level, though we have seem some significant table-setting by Charles Evans in that regard.
Though I would generally regard this as a slow and steady move to shift expectations, it could also be regarded as “Odyssean” guidance, in that as the Fed takes more and more implicit responsibility for the level of employment it is providing ammunition to its dovish critics.
This in turn changes the Fed’s loss function so that an attempt to raise rates early is more difficult.
I should note the dynamics of a body that has some but limited tools to alter its own loss function are fascinating in-and-of-themselves.
Tyler Cowen discusses the general implications of runs on the new (shadow) banking system. Though this point leads directly into something that I have been thinking about
Another feature of this new order is that more and more financial transactions will be collateralized with the safest securities possible: United States Treasuries. Demand for them will remain high, and low borrowing costs will ease our fiscal problems. Still, the resulting low rates of return serve as a tax on safe savings, encourage a risky quest for yield and redistribute resources to government borrowing and spending. It isn’t healthy for the private sector when investors are so obsessed with holding wealth in the form of safe governmental guarantees.
Its actually not clear to me that demand will remain high, in the sense that the term spread will not reassert itself. To explain a bit more:
The interest rate on T-Bills is simply whatever the Fed wants it to be. T-Bills and excess bank reserves are essentially interchangeable. In normal times the value of excess reserves is the Fed Funds rate. Today it is the Interest on Reserves rate. However, both of those are essentially controlled by the Federal Reserve.
If we lived in a world with zero risk then one would expect the interest rate on 10 year Treasury bonds to simply be the weighted average of the interest rate on T-Bills for the next ten years.
However, there is risk so, investors (a) have to guess what that interest rate will be and (b) demand a premium for the risk that they are wrong. This is the term premium and its why interest rates on long term government bonds are persistently higher than short term government treasury bills.
To the extent that expectations or risk appetite in the bond market exert direct influence on US Treasury interest rates, it is through the term premium.
Right now the term premium is extremely low, indeed one would guess that it is negative. The interest rate on a 30 year government bond is only 3.3%.
While its possible that the interest rate on T-Bills averages only 3.3% over the next 30 years this is – hopefully – extremely unlikely. It implies that nominal GDP growth will average 3.3% over the next 30 years, as the Fed must ultimately align interest rates with nominal growth rates or the economy will persistently overheat or stagnate.
The more likely explanation is that the demand for safe liquid assets is so high that investors are willing to accept a negative term premium.
Will this continue?
The answer is almost assuredly, no.
This implies that long term interest rates on government debt is likely to rise and that conversely the value of long term government debt will fall.
US Government debt is in a bubble.
I am coming to believe that bubbles are a persistent feature of the modern global economy and extend from the fact that the world is aging. As this continues the bubbles will likely only get larger and larger.
The simple reason is that as individuals pass into middle age they attempt to increase their savings. One way to do this by loaning or renting resources to the next generation. However, as the population ages opportunities to do this are more and more rare.
This implies that savings can only take place through capital deepening. In essence this means more investment per worker. This expansion in investment per worker causes some types of capital to liquefy. That is, existing pieces of capital can readily find a buyer at fundamental values.
Yet, once capital liquifies it begins to earn a liquidity premium – like the one earned by US government debt now. This, in turn, drives the market price on the capital even higher and we enter a bubble.
In practice, the capital object itself doesn’t get moved around but a financial instrument entitling someone to the rents from the use of the capital or a debt secured by the capital. However, the effect is the same. The financial instrument becomes liquid, starts to earn a liquidity premium and then goes into a bubble.
My growing sense is that this process has been repeated over and over again since the late 1980s. First, in Japan. Then in Korea and South East Asia. Then in the US tech industry. Then in the developed world’s housing markets. Now in US and UK government debt.
Moreover, there is no obvious way to stop this from happening. On first thought it would seem that deflation could prevent this by causing cash to earn a positive rate of return. This basically just ratchets up the money bubble.
However, without negative nominal interest rates this worsens the ultimate problem of expanding the capital stock because it essentially subsidizes money as a store of value against capital.
So, I don’t know that there is a clear way to stop this from happening.
One thing I have noticed is that just based on my wading through economic cycle data over the years I have tended do discount the notion of economic confidence as irrelevant and concepts like multiple-equilbria-in-macroeconomic-aggregates as completely unlike anything we observe in the real world.
Yet, my fellow economists, particularly older ones take the notions quite seriously.
Michael Forli suggests that times may have changed
A final, somewhat technical, implication is that the conditions for self-fulfilling prophesies in the macroeconomy may no longer exist. The idea that there could exist virtuous/vicious circles between real economic outcomes and confidence (or asset prices, effectively the same thing) was first formally advanced by David Cass and Carl Shell. They referred to these virtuous/vicious circles as “sunspot equilibria;” George Soros dubbed the property “reflexivity.” Subsequent applied macroeconomists appealed to the procyclicality of productivity as evidence of the type of increasing returns to production sufficient to generate confidence feedback loops. If labor is no longer a quasi-fixed factor of production this may eliminate one type of non-convexity in production, thereby reducing the likelihood that the economy has multiple equilibria and is subject to self-fulfilling prophecies. While it is hard to say much definitively, it is interesting to observe that over the last two years the economy has been subject to large swings in investor sentiment and asset prices, and yet actual growth outcomes have been remarkably stable.
Dave Altig offers the following
If you try, it isn’t too hard to see in this chart a picture of a labor market that is very close to “normalized,” excepting a few sectors that are experiencing longer-term structural issues. First, most sectors—that is, most of the bubbles in the chart—lie above the horizontal zero axis, meaning that they are now in positive growth territory for this recovery. Second, most sector bubbles are aligning along the 45-degree line, meaning jobs in these areas are expanding (or in the case of the information sector, contracting) at about the same pace as they were before the “Great Recession.” Third, the exceptions are exactly what we would expect—employment in the construction, financial activities, and government sectors continues to fall, and the manufacturing sector (a job-shedder for quite some time) is growing slightly
First, a clarification. Its not immediately clear from Altig’s post but the chart indicates that employment in non-motor vehicle manufacturing is expanding far, far faster than would be expected given the last recovery.
This is important for thinking about any kind of structural story you might be inclined to tell. Manufacturing employment had been falling rapidly for roughly 15 years and then suddenly stopped falling in the wake of this recession and started growing very slowly.
This may be the structural shift that folks are looking for but its important to note that this is basically a “reshoring” shift. Although, its not so much reshoring as a rapid slowdown in offshoring combined with growing underlying demand.
In addition, the dynamics of the dot-com recession were very different. Though it felt mild to most folks and the employment rate only barely peaked above 6% it was actually slightly more harsh for non-financial corporate profit growth.
Here are non-financial corporate profits on a log scale. You can see the divot from Dot-Com was proportionately the largest on record.
That recession behaved in many ways like what you would expect if you were experiencing a demographic slowdown. Capital took a huge beating. Employment growth was slow and unsteady, but unemployment was mild.
Lets look at private sector employment in the two recoveries
The bottom of Dot-Com was long and drawn-out while the Great Recession was sharp, returning almost immediately to growth rate during the last recovery.
If we look at compounded annual rates of growth, private sector payroll growth during the Great Recession return to above long-run trend (2%) sooner than either of the last two recessions, despite being deeper.
So private sector employment growth has been quite strong. GDP, less so.
There has been a divergence in Okun’s law, even when looking at long run patterns
Though notice the deviation is even more pronounced using a nominal version of the law, suggesting that nominal spending growth exceeding maximum production growth is not yet the issue
Based on both the growth in payrolls and the decline in unemployment historical patterns would lead us to expect real GDP growth of around 4% and nominal GDP growth of around 6.5 – 7%.
I think the strongest clue in explaining this discrepancy comes from looking at non-durable goods output.
The big unexpected surge in employment is in manufacturing ex-motor vehicles. Though again its not so much job gains as the absence of job losses. Motor vehicles make up a large part of the durable goods sector, so we can get a proxy for non-vehicle manufacturing by looking a non-durable goods.
Despite the above average employment growth – which is to say the absence of employment shrinkage – production in non-durable goods is way down and indeed declining.
So the GDP discrepancy looks like it may be due to a sectoral shift and possibly the closing of opportunities to offshore portions of the non-durable supply chain.
In general I think looking to GDP introduces unnecessary opaqueness in the modern age. We have easy access to much finer data. In this case GDP would provide a potentially confusing measure of the state of the economy as compared to payroll growth or unemployment.
If it is the case that GDP growth is slowing because non-durable production is slowing despite rapidly increasing employment then it is likely that we will soon see increased investment in the sector boosting productivity and creating a following period where GDP rises faster than employment.
A counter-structural as well
How tight? Lets invert
Via Real Time Economics, a decidedly well crafted message
I am at the moment in a position that I’ve called essentially patient vigilance–meaning that I want to see how the economy evolves before drawing conclusions that more stimulus is needed and could actually have the effect where the benefits would outweigh the costs. I don’t rule it out.
By laying out the choice in this way Lockhart both loosens Fed policy and strengthens long term credibility. Essentially we see a re-weighting of the Fed’s loss function rather than an adjustment to its optimal rule or distribution in economic estimates.
Binyamin Applebaum writes
The bleaker view – which remains, to be sure, the view of a distinct minority — is that the years before the recession were abnormally good, and that while the recession was abnormally bad, reality lies halfway in between.
The present situation, in other words, is about as good as it gets.
A paper that will be presented Thursday afternoon at a conference organized by the Brookings Institution is the latest contribution to this literature.
The paper, entitled “Disentangling the Channels of the 2007-2009 Recession,” will be posted on the general conference Web site Thursday afternoon.
I think this confuses strong GDP growth with a good economy. If the number of workers is shrinking in principle you could have an economy that felt great with low GDP growth and on the other side if the workforce was soaring then even a 4- 5% GDP growth rate will feel bad, as was the case in the late 70s.
By my reading Stock and Watson argue that the only thing inexplicable about this recession is the fact that there are more workers than expected. Demographic factors had been pushing down the employment growth rate but now there is a surprisingly large workforce.
Here is one thing to note:
The blue line is year over year job growth for those 55 and older. The red 24 – 54, what we would consider prime age.
Since, the dot-com bust net employment growth among those over 55 exceed that of those in their prime. This is not as a fraction of the population – this is total.
The only point where prime age workers even caught up was during the tail end of the construction boom.
During the Great Recession employment growth among those over 55 never went negative and is now growing at a record pace.
By contrast employment growth among those 24 – 55 was never positive (save for one month) until just recently.
One quick and dirty explanation would be that the Baby Boomers are not retiring as fast as expected and this had led both to extremely rapid growth in over 55 employment and to surprising labor market dynamics for younger workers who may have been expecting an easier job market than materialized.
Indeed, I wouldn’t push it this far but one could argue that this explains both the size of the housing bust and the business investment boom.
The business capital-to-labor ratio turned out to be lower than everyone expected when the boomers didn’t retire. This put downward pressure on the marginal productivity of labor which manifested itself as a tight job market for young workers. This in turn meant lower household formation and lower housing demand.
On the other side, however, it meant an increase in demand for business capital to complement an unexpectedly large workforce.
I certainly approve of the cash dispersion, as the principle-agent problem suggests that highly successful corporations will be tempted to waste their cash hoards on boondoggle investments. So it may be good for the economy. But I don’t see how it does much for the zero bound problem. At least I don’t see any first order effects. If Apple saves less I’d expect the recipients of this money to increase their saving my an equal amount . . . Those rich enough to own individual shares often have brokerage accounts where the dividends automatically spill into a money market mutual fund. If at the end of the month you have a tiny bit more in the MMMF, and a tiny bit less in Apple stock, but the total of the all assets remains exactly at say, $857,000, are you really going to spend more on consumption? I don’t see it.
I don’t think the key issue is consumption per se but whether money used to buy Treasuries is equivalent to money used to buy MMMF shares. I think the answer right now is no.
Right now the yield on T-Bills, the Interest on Reserve Rate and the overnight rate at MMMFs are not moving in total sync.
T-Bill yields are near zero, IOR is at 0.5% and MMMF rates have been on a glide path downward and have recently crossed the IOR rate.
One conclusion – that I tend to support right now – is that these products do not have equivalent envelopes, so that adjusting balances between them does have real liquidity effects. In particular, the marginal dollar on a reserve balance sheet will simply be held as excess reserves while the marginal dollar in an MMMF will be reverse repo-ed to a private sector counterparty using non-treasury collateral.
In addition, though I am still working this out in my head, I think an unstated objective of potential “sterilized” QE would be to eliminate this effect by making the Fed the marginal destination for MMMF inflows.
At first you could hear the sound of the neutron counter, clickety-clack, clickety-clack. Then the clicks came more and more rapidly, and after a while they began to merge into a roar; the counter couldn’t follow anymore. That was the moment to switch to the chart recorder. But when the switch was made,everyone watched in the sudden silence the mounting deflection of the recorder’s pen. It was an awesome silence. Everyone realized the significance of that switch; we were in the high intensity regime and the counters were unable to cope with the situation anymore. Again and again, the scale of the recorder had to be changed to accommodate the neutron intensity which was increasing more and more rapidly.Suddenly Fermi raised his hand. “The pile has gone critical,” he announced. No one present had any doubt about it.
Slightly more prosaically, from Reuters
One of the most bullish investors is Carrington Capital Management, which has teamed up with Los Angeles-based OakTree Capital. They have created a $450 million fund to buy foreclosed homes in bulk and rent them out.
In a marketing document for one of its funds, Carrington claims that without using leverage or borrowed money it can generate an annual yield of 7 percent from rental income alone. Its long-term strategy is to package the fund into a publicly traded real estate investment trust. If that strategy is successful, Carrington projects investors can see an internal rate of return of 25 percent over three years.
New York Fed President Dudley said recently
While these developments are certainly encouraging, it is far too soon to conclude that we are out of the woods. To begin with, the economic data looked brighter at this point in 2010 and again in 2011, only to fade as we got into the second and third quarters of those years.1 Moreover, the United States has experienced unusually mild weather over the past few months, with the number of heating degree days in January and February about 17 percent below the average of the preceding five years. While this reduces the amount that households and businesses must spend for heating, I suspect that it temporarily boosts economic activity overall. For example, the mild weather is certainly conducive to higher than normal levels of construction activity, and we did see a surge in hours worked in that sector over the past few months.
Dudley didn’t make this fully clear but the direct effect of less home heating is that Personal Consumption Expenditures fall – this is where utility bills go in GDP – and that Industrial Production and Capacity Utilization fall as utility output counts towards these totals.
His suggestion is that this is overwhelmed by increases in residential construction and other factors, so that the net effect of mild weather is larger measured economic output.
I am not actually sure which way it goes because the drops in the utility portion of PCE were dramatic and the increases in construction activity were not that far off what I would have guessed otherwise. Single Family starts were surprisingly strong, but builder confidence was surprisingly strong as well.
Mutli-family seems to be evolving more or less as expected maybe a little slower.
In any case, I do want to make the point that emphasizing these factors is in-and-of-itself counterproductive for the dovish Fed policy that Dudley likely supports.
It may seem that downplaying the economy’s strength supports a more dovish policy stance. However, that is not what is important to communicate. What’s important to communicate is the Fed’s reaction function and emphasizing a weak economy makes it harder to emphasize a loose reaction function.
Well imagine if Dudley said the economy is booming, housing starts are moving in the right direction and unemployment is coming down. Nonetheless, I think the low levels of total employment in the economy are likely to warrant an exceptionally low level for the federal funds rate until at least late 2014.
This tells you that look, even if the economy is growing strongly the New York Fed President still doesn’t want to raise rates for a while. So, that means my estimation of the path of the funds rate should fall in all cases.
I shouldn’t respond to exceptionally good data by thinking the Fed will tighten and I should respond to weak data by thinking the Fed will stay loose longer.
That market participants come to believe this is loosening of Fed policy.
However, if you imply that the only reason you want loose policy is because you expect the economy to do poorly then that could in fact tighten Fed policy.
Perhaps, Dudley is entering into higher dimensional chess where he is attempting to tilt the FOMC towards a more accommodative stance and signal to the market that the FOMC is out of touch with reality and overly pessimistic.
I am extremely wary of these types of moves and think you can easily overestimate the sophistication of market participants.
It could simply be the case that this is Dudley view and he is sticking to it. In which case I can’t fault him for that. It is simply unfortunate that he is not in a position to stake out a more dovish stance.