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September 30, 2014

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Posted: 30 Sep 2014 12:06 AM PDT

'Why Are Economic Forecasts Wrong So Often?'

Posted: 29 Sep 2014 08:20 AM PDT

At MoneyWatch:

Why are economic forecasts wrong so often?: The Queen of England famously asked why economists failed to foresee the financial crisis in 2008. "Why did nobody notice it?" was her question when she visited the London School of Economics that year.
Economists' failure to accurately predict the economy's course isn't limited to the financial crisis and the Great Recession that followed. Macroeconomic computer models also aren't very useful for predicting how variables such as GDP, employment, interest rates and inflation will evolve over time.
Forecasting most things is fraught with difficulty. See the current dust-up between Nate Silver and Sam Wang over their conflicting predictions about the coming Senate elections. Why is forecasting so hard?
Because so many things can go wrong. For example...

'Reconstructing Macroeconomic Theory to Manage Economic Policy'

Posted: 29 Sep 2014 08:16 AM PDT

New paper from Joseph Stiglitz:

Reconstructing Macroeconomic Theory to Manage Economic Policy, by Joseph E. Stiglitz, NBER Working Paper No. 20517, September 2014 NBER: Macroeconomics has not done well in recent years: The standard models didn't predict the Great Recession; and even said it couldn't happen. After the bubble burst, the models did not predict the full consequences.
The paper traces the failures to the attempts, beginning in the 1970s, to reconcile macro and microeconomics, by making the former adopt the standard competitive micro-models that were under attack even then, from theories of imperfect and asymmetric information, game theory, and behavioral economics.
The paper argues that any theory of deep downturns has to answer these questions: What is the source of the disturbances? Why do seemingly small shocks have such large effects? Why do deep downturns last so long? Why is there such persistence, when we have the same human, physical, and natural resources today as we had before the crisis?
The paper presents a variety of hypotheses which provide answers to these questions, and argues that models based on these alternative assumptions have markedly different policy implications, including large multipliers. It explains why the apparent liquidity trap today is markedly different from that envisioned by Keynes in the Great Depression, and why the Zero Lower Bound is not the central impediment to the effectiveness of monetary policy in restoring the economy to full employment.

[I couldn't find an open link.]

September 29, 2014

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Paul Krugman: Our Invisible Rich

Posted: 29 Sep 2014 12:24 AM PDT

The difference between the rich and the poor is larger than most people realize:

Our Invisible Rich, by Paul Krugman, Commentary, NY Times: Half a century ago, a classic essay in The New Yorker titled "Our Invisible Poor" took on the then-prevalent myth that America was an affluent society with only a few "pockets of poverty." For many, the facts about poverty came as a revelation...
I don't think the poor are invisible today... Instead, these days it's the rich who are invisible. ... In fact, most Americans have no idea just how unequal our society has become.
The latest piece of evidence to that effect is a survey asking people in various countries how much they thought top executives of major companies make relative to unskilled workers. In the United States the median respondent believed that chief executives make about 30 times as much as their employees, which was roughly true in the 1960s — but since then the gap has soared, so that today chief executives earn something like 300 times as much as ordinary workers.
So Americans have no idea how much the Masters of the Universe are paid, a finding very much in line with evidence that Americans vastly underestimate the concentration of wealth at the top. ...
So how can people be unaware of this development, or at least unaware of its scale? The main answer, I'd suggest, is that the truly rich are so removed from ordinary people's lives that we never see what they have. We may notice, and feel aggrieved about, college kids driving luxury cars; but we don't see private equity managers commuting by helicopter to their immense mansions in the Hamptons. The commanding heights of our economy are invisible because they're lost in the clouds. ...
Does the invisibility of the very rich matter? Politically, it matters a lot. Pundits sometimes wonder why American voters don't care more about inequality; part of the answer is that they don't realize how extreme it is. ...
Most Americans say, if asked, that inequality is too high and something should be done about it — there is overwhelming support for higher minimum wages, and a majority favors higher taxes at the top. But at least so far confronting extreme inequality hasn't been an election-winning issue. Maybe that would be true even if Americans knew the facts about our new Gilded Age. But we don't know that. Today's political balance rests on a foundation of ignorance, in which the public has no idea what our society is really like.

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Posted: 29 Sep 2014 12:06 AM PDT

'The Fed Would be Crazy to Worry about Runaway Wages'

Posted: 28 Sep 2014 12:14 PM PDT

Rex Nutting:

The Fed would be crazy to worry about runaway wages: Richard Fisher and Charles Plosser, the two biggest inflation hawks at the Federal Reserve, are retiring soon. But their pernicious ideas will stay alive at the Fed and elsewhere, threatening the middle class with another lost decade of underemployment and low wages.
Fisher, Plosser and the other hawks say inflation is becoming our greatest economic worry. They want the Fed to raise interest rates soon to keep the unemployment rate from dropping too far and to prevent American workers from getting a raise.
They would rather have you to stay jobless and poor.
You may think I'm exaggerating their views, but I'm not. ...

'The rise of China and the Future of US Manufacturing'

Posted: 28 Sep 2014 08:19 AM PDT

Acemoglu, Autor, Dor, Hansen, and Price (I've noted this paper once or twice already in recent months, but thought it worthwhile to post their summary of te work):

The rise of China and the future of US manufacturing, by Daron Acemoglu, David Autor, David Dorn, Gordon H. Hanson, and Brendan Price, Vox EU: The end of the Great Recession has rekindled optimism about the future of US manufacturing. In the second quarter of 2010 the number of US workers employed in manufacturing registered positive growth – its first increase since 2006 – and subsequently recorded ten consecutive quarters of job gains, the longest expansion since the 1970s. Advocating for the potential of an industrial turnaround, some economists give a positive spin to US manufacturing's earlier troubles: while employment may have fallen in the 2000s, value added in the sector has been growing as fast as the overall US economy. Its share of US GDP has kept stable, an achievement matched by few other high-income economies over the same period (Lawrence and Edwards 2013, Moran and Oldenski 2014). The business press has giddily coined the term 'reshoring' to describe the phenomenon – as yet not well documented empirically – of companies returning jobs to the United States that they had previously offshored to low-wage destinations. 
Before we declare a renaissance for US manufacturing, it is worth re-examining the magnitude of the sector's previous decline and considering the causal factors responsible for job loss. The scale of the employment decline is indeed stunning. Figure 1 shows that in 2000, 17.3 million US workers were employed in manufacturing, a level that with periodic ups and downs had changed only modestly since the early 1980s. By 2010, employment had dropped to 11.5 million workers, a 33% decrease from 2000. Strikingly, most of this decline came before the onset of the Great Recession. In the middle of 2007, on the eve of the Lehman Brothers collapse that paralysed global financial markets, US manufacturing employment had already dipped to 13.9 million workers, such that three-fifths of the job losses over the 2000 to 2010 period occurred prior to the US aggregate contraction. Figure 1 also reveals the paltriness of the recent manufacturing recovery. As of mid-2014, the number of manufacturing jobs had reached only 12.1 million, a level far below the already diminished pre-recession level.

Figure 1. US employment , 1980q1-2014q3

Source: US Bureau of Labor Statistics.

We examine the reasons behind the recent decline in US manufacturing employment (Acemoglu et al. 2014). Our point of departure is the coincidence of the 2000s swoon in US manufacturing and a significant increase in import competition from China (Bernard et al. 2006). Between 1990 and 2011 the share of global manufacturing exports originating in China surged from two to 16% (Hanson 2012). This widely heralded export boom was the outcome of deep economic reforms that China enacted in the 1980s and 1990s, which were further extended by the country's joining the World Trade Organization in 2001 (Brandt et al. 2012, Pierce and Schott 2013). China's share in US manufacturing imports has expanded in concert with its global presence, rising from 5% in 1991 to 11% in 2001 before leaping to 23% in 2011. Could China's rise be behind US manufacturing's fall?
The first step in our analysis is to estimate the direct impact of import competition from China on US manufacturing industries. Suppose that the economic opening in China allows the country to realise a comparative advantage in manufacturing that had lain dormant during the era of Maoist central planning, which entailed near prohibitive barriers to trade. As reform induces China to reallocate labour and capital from farms to factories and from inefficient state-owned enterprises to more efficient private businesses, output will expand in the sectors in which the country's comparative advantage is strongest. China's abundant labour supply and relatively scarce supply of arable land and natural resources make manufacturing the primary beneficiary of reform-induced industrial restructuring. The global implications of China's reorientation toward manufacturing – strongly abetted by inflows of foreign direct investment – are immense. China accounts for three-quarters of all growth in manufacturing value added that has occurred in low and middle income economies since 1990.
For many US manufacturing firms, intensifying import competition from China means a reduction in demand for the goods they produce and a corresponding contraction in the number of workers they employ. Looking across US manufacturing industries whose outputs compete with Chinese import goods, we estimate that had import penetration from China not grown after 1999, there would have been 560,000 fewer manufacturing jobs lost through 2011. Actual US manufacturing employment declined by 5.8 million workers from 1999 to 2011, making the counterfactual job loss from the direct effect of greater Chinese import penetration amount to 10% of the realised job decline in manufacturing.
These direct effects of trade exposure do not capture the full impact of growing Chinese imports on US employment. Negative shocks to one industry are transmitted to other industries via economic linkages between sectors. One source of linkages is buyer-supplier relationships (Acemoglu et al. 2012). Rising import competition in apparel and furniture – two sectors in which China is strong – will cause these 'downstream' industries to reduce purchases from the 'upstream' sectors that supply them with fabric, lumber, and textile and woodworking machinery. Because buyers and suppliers often locate near one another, much of the impact of increased trade exposure in downstream industries is likely to transmit to suppliers in the same regional or national market. We use US input-output data to construct downstream trade shocks for both manufacturing and non-manufacturing industries. Estimates from this exercise indicate sizeable negative downstream effects. Applying the direct plus input-output measure of exposure increases our estimates of trade-induced job losses for 1999 to 2011 to 985,000 workers in manufacturing and to two million workers in the entire economy. Inter-industry linkages thus magnify the employment effects of trade shocks, almost doubling the size of the impact within manufacturing and producing an equally large employment effect outside of manufacturing.
Two additional sources of linkages between sectors operate through changes in aggregate demand and the reallocation of labour. When manufacturing contracts, workers who have lost their jobs or suffered declines in their earnings subsequently reduce their spending on goods and services. The contraction in demand is multiplied throughout the economy via standard Keynesian mechanisms, depressing aggregate consumption and investment. Helping offset these negative aggregate demand effects, workers who exit manufacturing may take up jobs in the service sector or elsewhere in the economy, replacing some of the earnings lost in trade-exposed industries. Because aggregate demand and reallocation effects work in opposing directions, we can only detect their net impact on total employment. A further complication is that these impacts operate at the level of the aggregate economy – as opposed to direct and input-output effects of trade shocks which operate at the industry level – meaning we have only as many data points to detect their presence as we have years since the China trade shock commenced. Since China's export surge did not hit with full force until the early 1990s, the available time series for the national US economy is disconcertingly short.
To address this data challenge, we supplement our analysis of US industries with an analysis of US regional economies. We define regions to be 'commuting zones' which are aggregates of commercially linked counties that comprise well-defined local labour markets. Because commuting zones differ sharply in their patterns of industrial specialisation, they are differentially exposed to increased import competition from China (Autor et al. 2013). Asheville, North Carolina, is a furniture-making hub, putting it in the direct path of the China maelstrom. In contrast, Orlando, Florida (of Disney and Harry Potter World Fame), focuses on tourism, leaving it lightly affected by rising imports of manufactured goods. If the reallocation mechanism is operative, then when a local industry contracts as a result of Chinese competition, some other industry in the same commuting zone should expand. Aggregate demand effects should also operate within local labour markets, as shown by Mian and Sufi (2014) in the context of the recent US housing bust. If increased trade exposure lowers aggregate employment in a location, reduced earnings will decrease spending on non-traded local goods and services, magnifying the impact throughout the local economy.
Our estimates of the net impact of aggregate demand and reallocation effects imply that import growth from China between 1999 and 2011 led to an employment reduction of 2.4 million workers. This figure is larger than the 2.0 million job loss estimate we obtain for national industries, which only captures direct and input-output effects. But it still likely understates the full consequences of the China shock on US employment. Neither our analysis for commuting zones nor for national industries fully incorporates all of the adjustment channels encompassed by the other. The national-industry estimates exclude reallocation and aggregate demand effects, whereas the commuting-zone estimates exclude the national component of these two effects, as well as the non-local component of input-output linkage effects. Because the commuting zone estimates suggest that aggregate forces magnify rather than offset the effects of import competition, we view our industry-level estimates of employment reduction as providing a conservative lower bound.
What do our findings imply about the potential for a US manufacturing resurgence? The recent growth in manufacturing imports to the US is largely a consequence of China's emergence on the global stage coupled with its deep comparative advantage in labour-intensive goods. The jobs in apparel, furniture, shoes, and other wage-sensitive products that the United States has lost to China are unlikely to return. Even as China's labour costs rise, the factories that produce these goods are more likely to relocate to Bangladesh, Vietnam, or other countries rising in China's wake than to reappear on US shores. Further, China's impact on US manufacturing is far from complete. During the 2000s, the country rapidly expanded into the assembly of laptops and cell-phones, with production occurring increasingly under Chinese brands, such as Lenovo and Huawei. Despite this rather bleak panorama, there are sources of hope for manufacturing in the United States. Perhaps the most encouraging sign is that the response of many companies to increased trade pressure has been to increase investment in innovation (Bloom et al. 2011). The ensuing advance in technology may ultimately help create new markets for US producers. However, if the trend toward the automation of routine jobs in manufacturing continues (Autor and Dorn 2013), the application of these new technologies is likely to do much more to boost growth in value added than to expand employment on the factory floor.
Acemoglu D, V Carvalho, A Ozdaglar, and A Tahbaz-Salehi (2012), "The Network Origins of Aggregate Fluctuations." Econometrica, 80(5): 1977-2016.
Acemoglu D, D H Autor, D Dorn, G H Hanson, and B Price (2014), "Import Competition and the Great US Employment Sag of the 2000s." NBER Working Paper No. 20395.
Autor, D H and D Dorn (2013), "The Growth of Low Skill Service Jobs and the Polarization of the US Labor Market." American Economic Review, 103(5), 1553-1597.
Autor D H, D Dorn, and G H Hanson (2013a) "The China Syndrome: Local Labor Market Effects of Import Competition in the United States." American Economic Review, 103(6): 2121-2168.
Bernard A B, J B Jensen, and P K Schott (2006), "Survival of the Best Fit: Exposure to Low-Wage Countries and the (Uneven) Growth of US Manufacturing Plants." Journal of International Economics, 68(1), 219-237.
Bloom N, M Draca, and J Van Reenen (2012), "Trade Induced Technical Change? The Impact of Chinese Imports on Innovation, IT, and Productivity." Mimeo, Stanford University.
Brandt L, J Van Biesebroeck, and Y Zhang (2012), "Creative Accounting or Creative Destruction? Firm-Level Productivity Growth in Chinese Manufacturing." Journal of Development Economics, 97(2): 339-351.
Hanson, G (2012), "The Rise of Middle Kingdoms: Emerging Economies in Global Trade." Journal of Economic Perspectives, 26(2): 41-64.
Mian, A and A Sufi (2014), "What Explains the 2007-2009 Drop in Employment?" Econometrica, forthcoming.
Pierce, J R and P K Schott (2013), "The Surprisingly Swift Decline of US Manufacturing Employment." Yale Department of Economics Working Paper, November.

September 28, 2014

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Posted: 28 Sep 2014 12:06 AM PDT

'Seven Bad ideas'

Posted: 27 Sep 2014 09:36 AM PDT

Paul Krugman reviews Jeff Madrick's book "Seven Bad Ideas: How Mainstream Economists Have Damaged America and the World":

Seven Bad Ideas: The economics profession has not, to say the least, covered itself in glory these past six years. Hardly any economists predicted the 2008 crisis — and the handful who did tended to be people who also predicted crises that didn't happen. More significant, many and arguably most economists were claiming, right up to the moment of collapse, that nothing like this could even happen.
Furthermore, once crisis struck economists seemed unable to agree on a response. They'd had 75 years since the Great Depression to figure out what to do if something similar happened again, but the profession was utterly divided when the moment of truth arrived.
In "Seven Bad Ideas: How Mainstream Economists Have Damaged America and the World," Jeff Madrick — a contributing editor at Harper's Magazine and a frequent writer on matters economic — argues that the professional failures since 2008 didn't come out of the blue but were rooted in decades of intellectual malfeasance. ...

'Looking at Productivity as a State of Mind'

Posted: 27 Sep 2014 09:07 AM PDT

Sendhil Mullainathan:

Looking at Productivity as a State of Mind: Policy makers often fret about the pace of worker productivity. But each of us also frets about the pace of our own individual productivity.
Type the phrase "being more" into Google: The autocomplete function suggests "being more productive" as the third-most-likely choice — right behind "being more assertive" and "being more confident." That suggests that many people are searching for answers about productivity.
But there is a disconnect. When we look at worker productivity at the macro level, we tend to limit ourselves to issues like skill shortages, new technologies or appropriate incentives.
In our own lives, though, we see a personal struggle. Tomorrow we want to finish that memo, review several files and plan that project. We know that some of the work will be tedious, but benefits like career advancement, fulfillment or just sheer survival outweigh the costs. When tomorrow becomes today, though, we may discover that we have all kinds of pressing problems. The tedium we had anticipated suddenly feels very large. It is tempting to take a break and just let our minds wander. In our own lives self-control is a big problem — yet it is largely absent from high-level discussions about worker productivity.
And that raises an obvious question: By focusing so heavily on classic big-picture issues, are policy makers overlooking something that may be even more important? ...

September 27, 2014

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Posted: 27 Sep 2014 12:06 AM PDT

'Why the Fed Is So Wimpy'

Posted: 26 Sep 2014 01:51 PM PDT

Justin Fox:

Why the Fed Is So Wimpy, by Justin Fox: Regulatory capture — when regulators come to act mainly in the interest of the industries they regulate — is a phenomenon that economists, political scientists, and legal scholars have been writing about for decades.  Bank regulators in particular have been depicted as captives for years, and have even taken to describing themselves as such.
Actually witnessing capture in the wild is different, though, and the new This American Life episode with secret recordings of bank examiners at the Federal Reserve Bank of New York going about their jobs is going to focus a lot more attention on the phenomenon. It's really well done, and you should listen to it, read the transcript, and/or read the story by ProPublica reporter Jake Bernstein.
Still, there is some context that's inevitably missing, and as a former banking-regulation reporter for the American Banker, I feel called to fill some of it in. Much of it has to do with the structure of bank regulation in the U.S., which actually seems designed to encourage capture. But to start, there are a couple of revelations about Goldman Sachs in the story that are treated as smoking guns. One seems to have fired a blank, while the other may be even more explosive than it's made out to be. ...

'The New Classical Clique'

Posted: 26 Sep 2014 01:51 PM PDT

Paul Krugman continues the conversation on New Classical economics::

The New Classical Clique: Simon Wren-Lewis thinks some more about macroeconomics gone astray; Robert J. Waldmann weighs in. For those new to this conversation, the question is why starting in the 1970s much of academic macroeconomics was taken over by a school of thought that began by denying any useful role for policies to raise demand in a slump, and eventually coalesced around denial that the demand side of the economy has any role in causing slumps.
I was a grad student and then an assistant professor as this was happening, albeit doing international economics – and international macro went in a different direction, for reasons I'll get to in a bit. So I have some sense of what was really going on. And while both Wren-Lewis and Waldmann hit on most of the main points, neither I think gets at the important role of personal self-interest. New classical macro was and still is many things – an ideological bludgeon against liberals, a showcase for fancy math, a haven for people who want some kind of intellectual purity in a messy world. But it's also a self-promoting clique. ...

'Targeting Two'

Posted: 26 Sep 2014 01:13 PM PDT

Carola Binder:

Targeting Two: In the Washington Post, Jared Bernstein asks why the Fed's inflation target is 2 percent. "The fact is that the target is 2 percent because the target is 2 percent," he writes. Bernstein refers to a paper by Laurence Ball suggesting that a 4% target could be preferable by reducing the likelihood of the economy running up against the zero lower bound on nominal interest rates.

Paul Krugman chimes in, adding that a 2 percent target:

"was low enough that the price stability types could be persuaded, or were willing to concede as a possibility, that true inflation — taking account of quality changes — was really zero. Meanwhile, as of the mid 1990s modeling efforts suggested that 2 percent was enough to make sustained periods at the zero lower bound unlikely and to lubricate the labor market sufficiently that downward wage stickiness would have minor effects. So 2 percent it was, and this rough guess acquired force as a focal point, a respectable place that wouldn't get you in trouble. 

The problem is that we now know that both the zero lower bound and wage stickiness are much bigger issues than anyone realized in the 1990s."

Krugman calls the target "the terrible two," and laments that "Unfortunately, it's now very hard to change the target; anything above 2 isn't considered respectable."

Dean Baker also has a post in which he explains that Krugman's discussion of the 2 percent target "argues that it is a pretty much arbitrary compromise between the idea that the target should be zero (the dollar keeps its value constant forever) and the idea that we need some inflation to keep the economy operating smoothly and avoid the zero lower bound for interest rates. This is far too generous... Not only is there not much justification for 2.0 percent, there is not much justification for any target."

I'll add three papers, in reverse chronological order, that should be relevant to this discussion. ...

'Long-term Unemployed Struggle as Economy Improves'

Posted: 26 Sep 2014 08:23 AM PDT

The long-term unemployed need more help than they are getting:

Long-term Unemployed Struggle as Economy Improves: While the unemployment rate for people out of work for six months or less has returned to prerecession levels, the levels of unemployment for workers who remain jobless for more than six months is among the most persistent, negative effects of the Great Recession, according to a new national study at Rutgers. In fact, one in five workers laid off from a job during the last five years are still unemployed and looking for work, researchers from the John J. Heldrich Center for Workforce Development found.

Among the key findings of "Left Behind: The Long-term Unemployed Struggle in an Improving Economy":

  • Approximately half of the laid-off workers who found work were paid less in their new positions; one in four say their new job was only temporary.
  • Only one in five of the long-term unemployed received help from a government agency when looking for a job; only 22 percent enrolled in a training program to develop skills for a new job; and 60 percent received no government assistance beyond unemployment benefits.
  • Nearly two-thirds of Americans support increasing funds for long-term education and training programs, and greater spending on roads and highways in order to assist unemployed workers.

As of last August, 3 million Americans, nearly one in three unemployed workers, have been unemployed for more than six months and more than 2 million Americans have been out of work for more than a year...

This research provides a detailed record of the enduring effects of the Great Recession on the unemployed and long-term unemployed five years after the economy started growing again in June 2009.

The survey also found that:

  • More than seven in 10 long-term unemployed say they have less in savings and income than they did five years ago.
  • More than eight in 10 of the long-term unemployed rate their personal financial situation negatively as only fair or poor.
  • More than six in 10 unemployed and long-term unemployed say they experienced stress in family relationships and close friendships during their time without a job.
  • Fifty-five percent of the long-term unemployed say they will need to retire later than planned because of the recession, while 5 percent say the weak economy forced them into early retirement.
  • Nearly half of the long-term unemployed say it will take three to 10 years for their families to recover financially. Another one in five say it will take longer than that or that they will never recover.

..."These long-term unemployed workers have been left behind to fend for themselves as they struggle to pull their lives back together."

September 26, 2014

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Paul Krugman: The Show-Off Society

Posted: 26 Sep 2014 12:24 AM PDT

When it comes to the wealthy, is this time different?:

The Show-Off Society, by Paul Krugman, Commentary, NY Times: Liberals talk about circumstances; conservatives talk about character.
This intellectual divide is most obvious when the subject is the persistence of poverty... Liberals focus on the stagnation of real wages and the disappearance of jobs offering middle-class incomes, as well as the constant insecurity that comes with not having reliable jobs or assets. For conservatives, however, it's all about not trying hard enough. ...
Let us, however, be fair: some conservatives are willing to censure the rich, too. ... Peggy Noonan writes about our "decadent elites"... Charles Murray, whose book "Coming Apart" is mainly about the alleged decay of values among the white working class, also denounces the "unseemliness" of the very rich, with their lavish lifestyles and gigantic houses.
But has there really been an explosion of elite ostentation? ...
I've just reread a remarkable article titled "How top executives live," originally published in Fortune in 1955 and ... it turns out that the lives of an earlier generation's elite were, indeed, far more restrained, more seemly if you like ... And why had the elite moved away from the ostentation of the past? ... The large yacht, Fortune tells us, "has foundered in the sea of progressive taxation."
But that sea has since receded. ... And there's no mystery about what happened to the good-old days of elite restraint. ... Extreme income inequality and low taxes at the top are back. ...
Is there any chance that moral exhortations, appeals to set a better example, might induce the wealthy to stop showing off so much? No.
It's not just that people who can afford to live large tend to do just that. As Thorstein Veblen told us long ago, in a highly unequal society the wealthy feel obliged to engage in "conspicuous consumption"... And modern social science confirms his insight. For example, researchers at the Federal Reserve have shown that people living in highly unequal neighborhoods are more likely to buy luxury cars... Pretty clearly, high inequality brings a perceived need to spend money in ways that signal status.
The point is that while chiding the rich for their vulgarity may not be as offensive as lecturing the poor on their moral failings, it's just as futile. Human nature being what it is, it's silly to expect humility from a highly privileged elite. So if you think our society needs more humility, you should support policies that would reduce the elite's privileges.

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Posted: 26 Sep 2014 12:06 AM PDT

The Shrinking Social Safety Net: Historically Small Share of Jobless People Are Receiving Unemployment Insurance

Posted: 25 Sep 2014 09:10 AM PDT

'What Should Monetary Policy Be?'

Posted: 25 Sep 2014 08:29 AM PDT

Brad DeLong wants to know if he is off his rocker (on this particular point):

What Should Monetary Policy Be?: Chicago Federal Reserve Bank President Charles Evans's position seems to me to be the position that ought to be the center of gravity of the Federal Open Market Committee's thoughts right now, with wings on all sides of it taking different views as part of a diversified intellectual portfolio. ... Yet Evans is out there on his own–with perhaps Narayana Kocherlakota beside him. ...

As I see it:

  1. The past decade has demonstrated that to properly reduce the risks of hitting the zero nominal lower bound on safe short-term interest rates, we need not a 5%/year but at least a 6.5%/year business-cycle peak safe short nominal rate.1 With a 3%/year short-term peak real natural interest rate, we need not a 2%/year but a 3.5%/year inflation target instead.

  2. It is likely that the safe natural real rate of interest has fallen by 1%-point/year. That means that a healthy economy properly distant from the ZLB requires not a 3.5%/year but a 4.5%/year inflation target.

  3. It is very important when the economy hits the zero lower bound on nominal interest rates that expectations be that the time spent at the ZLB will be short. To build those expectations, it is important that when the economy emerges from the ZLB it undergo a period in which the long-run inflation target is overshot.

  4. The likelihood is that downward movements in labor force participation that are cementing into structural impediments to employment can be reversed if high demand pulls workers back into the labor force before the cement has set, but only with difficulty otherwise. The benefit-cost analysis thus calls for an additional inflation overshoot in order to satisfy the Federal Reserve's dual mandate.

  5. If the Federal Reserve aims at a 2%/year inflation target and fails to raise interest rates sufficiently early, it may wind up with 4%/year inflation and have to raise short-term real interest rates to 6%/year–a nominal interest rate of 10%/year–to return the economy to its inflation target. If the Federal Reserve prematurely raises interest rates, it may wind up with 0%/year inflation and wish to lower short-term real interest rates to -2%/year to return the economy to its inflation rate. With inflation at 0%/year, it cannot do that. Thus the risks are asymmetric: raising interest rates later than optimal under perfect foresight carries much lower risks than does raising interest rates earlier than optimal.

  6. Since 1979 the Federal Reserve has built up enormous credibility as the guardian of price stability and has wrecked whatever credibility it had as the guardian of low unemployment. A situation in which the general expectation is that the Federal Reserve will do too little to guard against high unemployment is worse than a situation in which the general expectations is that the Federal Reserve will too little to guard against inflation–"it is worse, in an impoverished world, to provoke unemployment than to disappoint the rentier".2

  7. The PCE price index is now undershooting its pre-2008 trend by fully 5%: the proper optimal-control response to a large negative real demand shock is not a price level track that falls below but rather one that rises above the previously-anticipated trend path.

IMHO, you need to reject all 7 of the above points completely in order to think that the FOMC's goal of returning inflation to 2%/year and keeping it there is anywhere close to an optimal-control path for an institution governed by its dual mandate. I really do not see how you can reject all seven.

Moreover, financial markets right now believe that the Federal Reserve's policy is not going to attain 2%/year inflation–not now, not over the next five years. Since June the on-track-to-recovery Confidence Fairy–to the extent that she was present–has flown away...

Thus right now justifying the Federal Reserve's policy track seems to me to require rejecting all seven of the points above, plus rejecting the financial markets' read on monetary policy, plus rejecting the consideration that depressed financial markets–even irrationally-depressed financial markets–should be offset with additional demand stimulus.

Yet only two of the seventeen FOMC participants are with me. Am I off my rocker? Have they been consumed by groupthink? How am I to understand all this?

September 25, 2014

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Posted: 25 Sep 2014 12:06 AM PDT

Where and When Macroeconomics Went Wrong

Posted: 24 Sep 2014 11:27 AM PDT

Simon Wren-Lewis:

Where macroeconomics went wrong: In my view, the answer is in the 1970/80s with the New Classical revolution (NCR). However I also think the new ideas that came with that revolution were progressive. I have defended rational expectations, I think intertemporal theory is the right place to start in thinking about consumption, and exploring the implications of time inconsistency is very important to macro policy, as well as many other areas of economics. I also think, along with nearly all macroeconomists, that the microfoundations approach to macro (DSGE models) is a progressive research strategy.
That is why discussion about these issues can become so confused. New Classical economics made academic macroeconomics take a number of big steps forward, but a couple of big steps backward at the same time. The clue to the backward steps comes from the name NCR. The research program was anti-Keynesian (hence New Classical), and it did not want microfounded macro to be an alternative to the then dominant existing methodology, it wanted to replace it (hence revolution). Because the revolution succeeded (although the victory over Keynesian ideas was temporary), generations of students were taught that Keynesian economics was out of date. They were not taught about the pros and cons of the old and new methodologies, but were taught that the old methodology was simply wrong. And that teaching was/is a problem because it itself is wrong. ...

'Hungry Children in America'

Posted: 24 Sep 2014 09:38 AM PDT

Tim Taylor:

Hungry Children in America: One child in five in the United States lives in a "food insecure" household. Craig Gundersen and James P. Ziliak lay out the evidence in "Childhood Food Insecurity in the U.S.: Trends, Causes, and Policy Options,"  a Fall 2014 Research Report written for The Future of Children. ...

Unsurprisingly, families that are poor are more likely to experience food insecurity. But perhaps more surprisingly, the connection from poverty to food insecurity is by no means ironclad. After all, the U.S. spends over $100 billion on food-related programs for the poor, including food stamps, school lunches and breakfasts and others. As the authors write:

Clearly, the risk for child food insecurity drops quickly with income. But even at incomes two and three times the poverty level, food insecurity is quite high. Moreover, almost 60 percent of children in households close to the poverty line are in foodsecure households. This suggests that income is only part of the story and that other factors also contribute to children's food security.

As the authors dig into the data on children living in food-insecure households, the theme that keeps emerging is the quality of parenting the children receive. ...

The takeaway lesson, at least for me, is that food stamps and school lunches do help to reduce food insecurity, as do programs that provide income support to those with low incomes. But when the adults in a household are having trouble managing their own lives, children end up suffering. The answers here are straightforward to name, if not always easy to do, like finding ways to get food to children directly (perhaps by expanding school food programs to the summers and weekends) and to help parents in low-income households learn how to stretch their limited resources.  As I have argued before on this website, for many children, the parenting gap they experience may be limiting their development even from a very young age.

'Having It and Flaunting It'

Posted: 24 Sep 2014 09:19 AM PDT

Paul Krugman:

Having It and Flaunting It: David Brooks is getting some ribbing for suggesting that the wealthy should "follow a code of seemliness", not living the lavish lifestyles they can afford. ...I want to talk a bit about the economics of flaunting your wealth...
The first thing to say is that expecting the rich not to flaunt their wealth is, of course, unrealistic..., for many of the rich flaunting is what it's all about. ... So it's largely about display — which Thorstein Veblen could, of course, have told you. ...
Wait, there's more. If you feel that it's bad for society to have people flaunting their relative wealth, you have in effect accepted the view that great wealth imposes negative externalities on the rest of the population — which is an argument for progressive taxation that goes beyond the maximization of revenue.
And one more thing: think about what this says about economic growth. We have an economy that has become considerably richer since 1980, but with a large share of the gains going to people with very high incomes — people for whom the marginal utility of a dollar's worth of spending ... comes largely from status competition, which is a zero-sum game. So a lot of our economic growth has simply been wasted, doing nothing but accelerating the pace of the upper-income rat race. ...

From the past, my view of what wealth is for:

What is Rich?: ...When I was a little kid, being rich meant being able to buy the stuff I wanted without having to worry about how much it costs.

But as I got older -- and maybe this explains my choice of jobs -- being rich was much more about the ability to do what I wanted with my time. In this sense, you can have considerable wealth, but still not be rich. In fact, the quest for more and more stuff gets in the way (though it depends in part on what you want to do with your free time, if it's to play golf at an expensive club, sufficient wealth is a necessary condition).

Some of the richest people I know are quite poor in terms of having "stuff", but free of the rat race, and as far as I can tell, they are generally happy. I think a lot of people are actually looking for freedom as they accumulate wealth -- they imagine being able to do whatever they want -- but don't realize that working longer and longer hours until there is no time left for anything else is not the best the way to get the freedom they are looking for. ...

But for many it seems the accumulation of "stuff" and the envy of people who cannot afford it is more important than freedom from the never ending job of status competition.