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April 27, 2010

Latest Posts from Economist's View

Latest Posts from Economist's View

"Deficit Reduction: Argument by Authority"

Posted: 27 Apr 2010 12:42 AM PDT

I don't agree with every word of this argument by Dean Baker, particularly some of the parts about the bias in the CPI, but I do agree with the main thrust:

Deficit reduction: argument by authority, by Dean Baker, CIF: The deficit hawks are going into high gear with their drive to cut social security and Medicare. President Obama's deficit commission is having a big public event on Tuesday in which many of the country's most prominent deficit hawks will tout the need to reduce the budget deficit. The next day, Wall Street investment banker Peter Peterson will be hosting a "summit on fiscal responsibility", which will feature more luminaries touting the need to get deficits under control.
What will be missing from both of these events is any serious debate on the extent of the deficit problem and its causes. These affairs are not about promoting a real exchange of views on issues like the future of social security, Medicare, and public support for education, research and infrastructure, the purpose of these events is to tell the public that everyone agrees, we have to cut the deficit. And, this means cutting social security and Medicare. This is argument by authority.
Many public debates in the United States take this form. The issue is not what is said, but rather who says it. A few years ago all the authorities said that there was no housing bubble. The large body of evidence showing that house prices had hugely diverged from the fundamentals did not matter...
Going further back to the mid-90s, many of this same group of deficit hawk luminaries tried to use argument by authority to cut social security. They came up with the story that the consumer price index (CPI) overstated the true rate of inflation. ... This crew (which included then Senator Alan Simpson, a co-chair of President Obama's commission, and Peter Peterson) argued that social security benefits should lag the CPI by one percentage point a year. In other words, if the CPI shows 3% inflation, then social security benefits will only rise by 2%.

That may seem a small cut, but it adds up over time. A worker retired for 10 years would have their benefits reduced by approximately 10%. A worker retired for 20 years would have their benefits cut by almost 20%.
To push this agenda, they put together a panel of the country's most prominent economists, all of whom blessed the claim that the CPI overstated the true rate of inflation... In addition to this panel, the social security cutters also pulled in other prominent economists, including Martin Feldstein...
The social security cutters were so successful in rounding up the big names that virtually no economists were prepared to publicly stand up and question their claims about the CPI. They had near free rein, running around the country with the "all the experts agree" line.
As events unfolded they were not able to get their cut in social security benefits. (Ted Kennedy and Dick Gephardt deserve big credit on this.) But what is really interesting for the current debate is what happened to the experts' claim on the CPI. There were some changes made to the CPI, but in the view of the expert panel, the major causes of the biases in the CPI were not fixed. They concluded that even after the changes the CPI still overstated the true rate of inflation by 0.8 percentage points annually.

If this claim is really true then it has enormous ramifications for our assessment of the economy. It means, for example, that incomes and wages are rising far more rapidly than the official data show. It means that people in the recent past were far poorer than is indicated by official statistics. If the claim about the CPI being overstated is true, then we would have to re-examine a vast amount of economic research that starts from the premise that the CPI is an accurate measure of inflation.
However, almost no economists have adjusted their research for a CPI's overstatement of inflation. In fact, even the members of the expert panel don't generally use a measure of inflation that adjusts for the alleged bias in the CPI. In other words, when they are not pushing cuts to social security, these economists act as though the CPI is an accurate measure of the rate of inflation. This could lead one to question these experts' integrity.
This history should give the public serious grounds for being suspicious about the latest efforts to cut social security and Medicare. A serious discussion of the deficit will show that in the short-term the deficit is not a problem and that the longer-term deficit problem is really a problem of a broken US healthcare system. The public should not allow the deficit hawks to derail a more serious discussion with their argument by authority.

I suppose I should explain what it is I disagree with. First, the second to last paragraph doesn't make the case Dean Baker claims it makes. If the bias in the CPI is a constant .8 percent, then regressions involving this variable will still have unbiased slope coefficients -- the bias will be picked up by the constant term. (That is, suppose that a thermometer is off by four degrees. It will still tell you how many degrees the temperature has changed, e.g. that the temperature went up by ten degrees, and it will do so accurately, but it won't get the actual temperature right. Since the change in temperature determines the slope coefficient in a regression, and the change in temperature is correct, the slope coefficient will be measured accurately.) Since we are almost always interested in the slope term which is unbiased, and only rarely care about the estimates of the constant, the bias in the slope coefficient is is not generally a problem. The main point is that the use of a biased inflation measure in empirical work does not necessarily lead to questions about the integrity of the researchers. (If the bias varies with the "temperature", then the slope coefficient will also be biased, but the claim is a constant bias of .8%).

Second, on the more general question of whether a bias exists at all, I'll refer you to this post by Brad DeLong, "The Meaning of CPI Bias."

Finally, I am not taking issue with the basic claim that the deficit hawks are trying to take control of the debate and push it in a particular direction, a direction that has social programs in its sights. So let me repeat that "A serious discussion of the deficit will show that in the short-term the deficit is not a problem and that the longer-term deficit problem is really a problem of a broken US healthcare system. The public should not allow the deficit hawks to derail a more serious discussion..."

"Emerging Technologies, Global Strategies"

Posted: 27 Apr 2010 12:33 AM PDT

At this session yesterday, Michael Gough (on behalf of Adobe) and Hal Varian (on behalf of Google) identified similar strategies that the two companies have adopted to try to maintain the hunger that drives innovation. The problem is the complacency that sets in after a company has grown and attained some success. Both said that they try to set up smaller units external to the company to compete with "the mothership". Apparently, the smaller units -- often in other countries -- are very anxious to show up the hotshots at the main company and will work very, very hard to show that they can do it better. And they often do.

Nothing earth shattering, I just found it interesting.

Here's the video (the above is just a small part of the session):

"Donors’ Three Mistakes in Fragile States"

Posted: 27 Apr 2010 12:24 AM PDT

Chris Blattman argues that we can't expect too much from countries in need of aid:

Donors' three mistakes in fragile states, by Chris Blattman: You're the Finance Minister in a country just coming out of conflict. Or maybe you're disaster-struck like Haiti. Donors line up and make big pledges. UN agencies arrive and occupy whole blocks of office buildings. Each come in with a template. It looks reasonable. It's certainly well-intentioned.
None of you know it yet, but you're setting yourself up to fail ... with three mistakes donors will probably make.
1. Let's set high standards for governing and disbursing public money. Bad idea. Bureaucracies need procedures, norms and experienced personnel. If a Mozambique or Liberia improves its bureaucracy at the fastest rate in human history, it will have the sophistication of an India or Pakistan in 20 years.
2. Invest quickly in education, health and infrastructure. Actually, these aren't the country's first priority. Law, order and security come first. Unfortunately, freedom from violence, or access to justice, are not MDGs [Millennium Development Goals]. Your donors are focused (and evaluated) on human development and poverty alleviation. That's also what they know how to do best. Security sector reform and justice? Less so.
3. Get NGOs to deliver aid directly. Since the state bureaucracy can't meet high standards, you can forget direct budget support. But how to build schools and clinics and roads? Enter the NGOs and contractors. Unfortunately, this direct delivery is not going to help you build bureaucratic capability. It might even undermine it.
So what's the solution?
Set goals for the rate of bureaucratic improvement, not the level of standards. In the meantime, this or that Deputy Minister is going to need to send pork to his constituents. And money is going to get mismanaged or diverted.
Keep education and poverty on the table, but make certain that law and order are first not fourth on the agenda. ...
Finally, in place of direct aid, there's a nice new trick: community-driven development. Rich countries give the state a big pot of money, then the state defines simple local procedures for disbursement. The donors love it: it sounds all participatory and pro-poor (and often it is). But most of all, it lets a weak state actually disburse cash without a ridiculous amount of accounting, with lots of room for pork and (diminishing over time) diversion of funds to ruling party coffers.
The short story: shoot for the possible, not the impossible.

links for 2010-04-26

Posted: 26 Apr 2010 11:03 PM PDT

Is Market Fundamentalism the Easier Argument?

Posted: 26 Apr 2010 12:15 PM PDT

This is probably a "grass is greener on the other side" argument, but when I listen to market fundamentalists argue for their side, as many have so far today in the sessions I've attended at the Milken Global Conference, I get envious. It's such an easy argument to make. No matter what the problem, the solution -- though stated in many, many creative ways -- is always the same. Get government out of the way and let markets do their magic. A tax cut, a reduction in government spending, or easing of regulation will always make things better, not worse. And if there are problems in markets, they can always be blamed on government. Even when fundamentalists admit there is a market failure because it cannot be denied, they can (and do) argue that the government will still make things worse if it intervenes. Thus, no matter the problem, there is always a simple explanation and a simple solution. When you argue for government intervention, the job is much harder. You have to identify the specific market failure, argue that it's significant enough to justify government intervention, come up with a policy that will address the particular failure without making other things worse, and then argue that the political process won't mangle the policy so badly as to make it worthless or counterproductive.

I don't have a problem with the baseline assumption being that we should leave markets alone unless it can be demonstrated that significant problems exist, and that there's a chance of making things better, but the deck does seem to be stacked against the interventionist position.

Jobs, Jobs, Jobs

Posted: 26 Apr 2010 09:54 AM PDT

I'm at the Jobs, Jobs, Jobs session at the Milken Global Conference. As much as I'd like to comment, my daughter is the Press Secretary for one of the participants -- Carly Fiorina, Republican candidate for Senate in California -- so I am going to skip commenting on this one (she was not responsible for the sheep video, or the Passover email).

Uh Oh -- They're Back

Posted: 26 Apr 2010 08:28 AM PDT

Interesting. The opening session at the Milken Global Conference -- Q&A from the moderator -- turned almost immediately to whining about government regulation and how it will go overboard and kill the economy (Steve Forbes and Ken Griffen in particular, Mohamed El-Erian is being a bit more reasonable). They are complaining about both financial regulation and coming climate change regulation, and how it's all part of the administration's agenda to increase the size and scope of government.

It's pretty clear that the first order of business is to block as much regulation as possible, and then, if it happens anyway, to do everything possible to overturn any new regulatory initiatives. It also seems pretty clear that ths group still has a relatively high opinion of the importance of financial innovation as a key source of economic growth, and seem to have forgotten all about the risks such innovation poses for the economy.

So my first impression of the conference is that unlike last year when many (though not all) financial leaders seemed to have their tails between their legs and in retreat, the attitude seems to be we're back! and the first order of business is to prevent government from getting in the way. Thus, while there's quite a bit of sentiment presently to impose more regulation on banks, it's not clear that once all is said and done the new regulation will go anywhere near as far as needed. It's also not clear that any new regulation that is put into place will survive the movement to overturn it that will surely come in the next few years. But perhaps being here with people mostly from the financial industry gives me a biased and pessimistic outlook on the future of regulation. I sure hope so.

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