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June 30, 2010

Latest Posts from Economist's View

Latest Posts from Economist's View

Financial Reform Legislation Does Not Eliminate Too Big To Fail

Posted: 30 Jun 2010 01:17 AM PDT

Financial reform legislation fails to remove an important advantage that large banks have over small banks:

Financial Reform Legislation Does Not Eliminate Too Big To Fail

If financial reform legislation passes in its present form, it will have positive features. It creates a relatively strong and independent consumer financial products protection agency, it forces most derivatives to be exchange traded or passed through clearinghouses -- though important exceptions remain -- and it provides regulators with resolution authority for large institutions in the shadow banking system. But overall, as with health care reform, the legislation is unsatisfactory in many ways -- it leaves much of the job yet to be done -- and it's not clear that Congress will have the will to follow through.

Into the Wayback Machine?

Posted: 30 Jun 2010 12:24 AM PDT

Brad DeLong wonders if we heading into the WABAC (or, "wayback") machine, and if we are, why we don't visit a better time period than 1937-1938:


It's 1937 Again!, by Brad DeLong: David Leonhardt:

Betting That Cutting Spending Won't Derail Recovery: The world's rich countries are now conducting a dangerous experiment. They are repeating an economic policy out of the 1930s — starting to cut spending and raise taxes before a recovery is assured — and hoping today's situation is different enough to assure a different outcome. In effect, policy makers are betting that the private sector can make up for the withdrawal of stimulus over the next couple of years. If they're right, they will have made a head start on closing their enormous budget deficits. If they're wrong, they may set off a vicious new cycle, in which public spending cuts weaken the world economy and beget new private spending cuts. ...

Today, no wealthy country is an obvious candidate to be the world's growth engine, and the simultaneous moves have the potential to unnerve consumers, businesses and investors, says Adam Posen, an American expert on financial crises now working for the Bank of England. "The world may be making a mistake, and it may turn out to make things worse rather than better," Mr. Posen said. But he added — after mentioning China, India and the relative health of the financial system, today versus the 1930s — that, "The chances we're going to come out of this O.K. are still larger than the chances that we aren't."

I think that Adam Posen has a different definition of "OK" than I do. A jobless recovery and prolonged unemployment above 8% is, to my way of thinking, definitely not OK.


[T}he initial stages of our own recent crisis were more severe than the Great Depression. Global trade, industrial production and stocks all dropped more in 2008-9 than in 1929-30, as a study by Barry Eichengreen and Kevin H. O'Rourke found. In 2008, though, policy makers in most countries knew to act aggressively. The Federal Reserve and other central banks flooded the world with cheap money. The United States, China, Japan and, to a lesser extent, Europe, increased spending and cut taxes. It worked. By early last year,... economies were starting to recover. The recovery has continued this year...

That optimistic take, however, is more debatable today than it would have been a month or two month ago. As is often the case after a financial crisis, this recovery is turning out to be a choppy one. ... The Senate has so far refused to pass a bill that would extend unemployment insurance or send aid to ailing state governments. Goldman Sachs economists this week described the Senate's inaction as "an increasingly important risk to growth."

The parallels to 1937 are not reassuring.... Given this history, why would policy makers want to put on another fiscal hair shirt today? The reasons vary by country. Greece has no choice.... Several other countries are worried — not ludicrously — that financial markets may turn on them, too, if they delay deficit reduction. ... Then there are the countries that still have the cash or borrowing ability to push for more growth, like the United States, Germany and China, which happen to be three of the world's biggest economies. Yet they are also reluctant.... The reasons for the new American austerity are subtler, but not shocking. Our economy remains in rough shape, by any measure. So it's easy to confuse its condition (bad) with its direction (better) and to lose sight of how much worse it could be. The unyielding criticism from those who opposed stimulus from the get-go — laissez-faire economists, Congressional Republicans, German leaders — plays a role, too. They're able to shout louder than the data.

Finally, the idea that the world's rich countries need to cut spending and raise taxes has a lot of truth to it. The United States, Europe and Japan have all made promises they cannot afford. Eventually, something needs to change. In an ideal world, countries would pair more short-term spending and tax cuts with long-term spending cuts and tax increases. But not a single big country has figured out, politically, how to do that. Instead, we are left to hope that we have absorbed just enough of the 1930s lesson.

Sometimes, if first you don't succeed try, try again is bad advice. Balancing the budget before the economy was ready to stand on its own didn't work last time we we trying to exit a severe recession, so why try the same thing again? The time to address budget issues will come, but that time is not here yet.

Some people get it -- too bad it's not the politicians in Congress:

Who Will Fight for the Unemployed?, Editorial, NY Times: Without doubt, the two biggest threats to the economy are unemployment and the dire financial condition of the states, yet lawmakers have failed to deal intelligently with either one.
Federal unemployment benefits began to expire nearly a month ago. Since then, 1.2 million jobless workers have been cut off. The House passed a six-month extension ... in May, but the Senate, despite three attempts, has not been able to pass a similar bill. The majority leader, Harry Reid, said he was ready to give up after the third try last week when all of the Senate's Republicans and a lone Democrat, Ben Nelson of Nebraska, blocked the bill.
Meanwhile, the states face a collective budget hole of some $112 billion, but neither the House nor the Senate has a plan to help. The House stripped a provision for $24 billion in state fiscal aid from its earlier spending bill. The Senate included state aid in its ill-fated bill to extend unemployment benefits; when that bill failed, the promise of aid vanished as well.
As a result, 30 states that had counted on the money to help balance their budgets will be forced to raise taxes even higher and to cut spending even deeper in the budget year that begins on July 1. That will only worsen unemployment... Worsening unemployment means slower growth, or worse, renewed recession.
So if lawmakers are wondering why consumer confidence and the stock market are tanking (the Standard & Poor's 500-stock index hit a new low for the year on Tuesday), they need look no further than a mirror.
The situation cries out for policies to support ... jobless benefits and fiscal aid to states. But instead of delivering, Congressional Republicans and many Democrats have been asserting that the nation must act instead to cut the deficit. The debate has little to do with economic reality and everything to do with political posturing. A lot of lawmakers have concluded that the best way to keep their jobs is to pander to the nation's new populist mood and play off the fears of the very Americans whose economic well-being Congress is threatening.
Deficits matter, but not more than economic recovery, and not more urgently than the economic survival of millions of Americans. A sane approach would couple near-term federal spending with a credible plan for deficit reduction — a mix of tax increases and spending cuts — as the economic recovery takes hold.
But today's deficit hawks — many of whom eagerly participated in digging the deficit ever deeper during the George W. Bush years — are not interested in the sane approach. In the Senate, even as they blocked the extension of unemployment benefits, they succeeded in preserving a tax loophole that benefits wealthy money managers... They also derailed an effort to end widespread tax avoidance by owners of small businesses organized as S-corporations. If they are really so worried about the deficit, why balk at these evidently sensible ways to close tax loopholes and end tax avoidance? ...
Congress leaves town on Friday for a weeklong break. What's needed, and what's lacking, is leadership, both in Congress and from the White House, to set the terms of the debate — jobs before deficit reduction — and to fight for those terms, with failure not an option.

Speaking of Biased Polls

Posted: 29 Jun 2010 11:34 PM PDT

Dear Russ Roberts:

Shouldn't you be more worried about this than you are about this? I would be. Kos has renounced all posts based on the Research 2000 polling data. Have you renounced this? Has your colleague? Are you going to use this example in you class?

links for 2010-06-29

Posted: 29 Jun 2010 11:05 PM PDT

Robert Shiller Says the Depression Scare is Back

Posted: 29 Jun 2010 12:15 PM PDT

Cutting government spending, raising taxes, raising interest rates, and hoping the rest of the world does the same as some have called for is not the answer to the threat of a depression. If people don't begin to see unemployment falling soon, or some strong signal that employment markets will improve soon, pessimism is going to build -- the optimism some people may have felt is fading and you can feel it building now, and that's one of Shiller's worries. Cutting monetary and fiscal stimulus at a time when people are becoming more pessimistic about the economy's prospects will make things worse, not better. As I've said before, and will continue saying so long as these misguided ideas persist, if anything, monetary and fiscal policy should be more aggressive right now.

"On Blogs and Economic Discourse"

Posted: 29 Jun 2010 10:08 AM PDT

Going back to the subject of modern macro and who should talk about it, and more particularly, the nature of discourse, I've been surprised to hear some critics of New Keynesian models -- those who have been quite critical of the discourse of their intellectual opponents -- explain that it's OK for them to be shrill, call the other side names, and so on because, you know, they're right and the other side is wrong. But I am going to leave that alone and try to turn the conversation elsewhere.

Rajiv Sethi says economics blogs are here to stay, and that's a good thing:

On Blogs and Economic Discourse, by Rajiv Sethi: I was making my way back from a conference yesterday and completely missed the uproar over Kartik Athreya's provocative essay on economics blogs. Athreya argued, in effect, that most such blogging is done by ill-informed hacks who ought to be ignored while properly trained experts (such as himself) are left in peace to do the difficult work of making progress in the field. The original post has been taken down but (as a telling reminder that no public statement can subsequently be made private in this day and age) a copy may be viewed here.

The response from the accused was swift and brutal (see Thoma, DeLong, Sumner, Rowe, Cowen, Kling, Avent, Yglesias and Wilkinson for a sample). I don't want to pile on, and there's little I can add to what others have already said. But I'd like to take this opportunity to reiterate and expand upon a couple of points that I have made in previous posts about the rapidly changing role of blogs in economic discourse.

My view of the matter is almost diametrically opposed to that of Athreya: I consider these changes to be both irreversible and potentially very healthy. In a post commemorating the birthdays of two excellent economics blogs, I made this point as follows (see also Andrew Gelman's follow-up):

The community of academic economists is increasingly coming to be judged not simply by peer reviewers at journals or by carefully screened and selected cohorts of students, but by a global audience of curious individuals spanning multiple disciplines and specializations. Voices that have long been silenced in mainstream journals now insist on being heard on an equal footing. Arguments on blogs seem to be judged largely on their merits, independently of the professional stature of those making them. This has allowed economists in far-flung places with heavy teaching loads, or those who pursued non-academic career paths, to join debates. Even anonymous writers and autodidacts can wield considerable influence in this environment, and a number of genuinely interdisciplinary blogs have emerged...
This has got to be a healthy development. One might persuade a referee or seminar audience that a particular assumption is justified simply because there is a large literature that builds on it, or that tractability concerns preclude reasonable alternatives. But this broader audience is not so easy to convince. Persuading a multitude of informed, thoughtful, intelligent readers of the relevance and validity of one's arguments using words rather than formal models is a far more challenging task than persuading one's own students or peers. If one can separate the wheat from the chaff, the reasoned argument from the noise, this process should result in a more dynamic and robust discipline in the long run.

In fact, the refereeing process for blog posts is in some respects more rigorous than that for journal articles. Reports are numerous, non-anonymous, public, rapidly and efficiently produced, and collaboratively constructed. It is not obvious to me that this process of evaluation is any less legitimate than that for journal submissions, which rely on feedback from two or three anonymous referees who are themselves invested in the same techniques and research agenda as the author. 

I suspect that within a decade, blogs will be a cornerstone of research in economics. Many original and creative contributions to the discipline will first be communicated to the profession (and the world at large) in the form of blog posts, since the medium allows for material of arbitrary length, depth and complexity. Ideas first expressed in this form will make their way (with suitable attribution) into reading lists, doctoral dissertations and more conventionally refereed academic publications. And blogs will come to play a central role in the process of recruitment, promotion and reward at major research universities. This genie is not going back into its bottle.

Conventional research is mostly backward looking. Academic economists look at an event like the 73-74 recession, ask what caused it, build models to try to understand it, and they try to find policies that would have worked better than the ones that were actually implemented at the time.

That's fine for many issues, but when big shocks hit the economy that do not fit into the standard models, there's no time to wait for academic economists to take their usual approach -- it can be several years or more before the research is complete.

This is one place blogs have an advantage. When the current crisis hit and economists looked into their tool boxes for models and policies that could effectively offset the problems we were seeing -- or at least explain what was happening -- we came up empty. The models weren't there and there was no time to wait before deciding what to do in terms of monetary and fiscal policy. Action was needed, that was clear, but without a model to rely upon, what type of action is best?

Suddenly, it was like being in an emergency room when a very sick patient shows up, and you are not quite sure what the cause is, or what to do about it. Blogs stepped in and began analyzing these issues in real time in a way conventional research never could have done. Online conversations among the best macroeconomists in the business, among others, were very helpful in understanding what was going on and in developing policy responses to it. Was it a solvency issue? A liquidity issue? Both? Should banks be nationalized, should we buy bad assets from them, should they be bailed out or allowed to fail, etc., etc., etc. There were so many answers that were needed and very little time to wait. The ability of blogs to step in and fill this void is a good and helpful development, one that the profession ought to embrace more than they have. It's not easy at all coming up with new theory and policy recommendations on the fly, especially when the answer is as important as it was -- the proper response could make a big difference in the outcome, and the wrong response could be devastating -- and blogs were very helpful in filling the void.

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