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February 4, 2015

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Posted: 04 Feb 2015 12:06 AM PST

Fed Watch: Brief Comment

Posted: 03 Feb 2015 04:51 PM PST

Tim Duy:

Brief Comment, by Tim Duy: It is always interesting to see how others perceive you. For instance, I wasn't sure what to make of this from Paul Krugman:

The monetary-policy gap between insiders and outsiders — between economists at the Fed and other policy institutions, who still seem eager to raise rates, and those of us on the outside, who think this is a really, really bad idea — continues to widen. This morning Tim Duy — one of the outsiders who, commenting from his perch at Mark Thoma's invaluable blog, has seemed most sympathetic to the urge to hike rates — joins the what-are-they-thinking chorus.

When I read that I realized that perhaps I wasn't defining my space quite right. Primarily, I attempt - albeit, admittedly, not always successfully - to understand the world as Federal Reserve policymakers see it. Failing to put your personal opinion in the background is one of the biggest mistakes a Fed Watcher can make. Right now, for example, policymakers are somewhat hawkish relative to market expectations, so my writing has a hawkish tilt, which is what I think Krugman interprets as "sympathetic." 

Occasionally, however, my opinions become more evident, which is what Krugman interprets as joining the "what-are-they-thinking chorus."  In truth I am not particularly sympathetic with the Federal Reserve's campaign to normalize policy. That campaign is predicated on the belief that the economy is close to full employment. Krugman sees the natural rate of unemployment as mostly likely below 5%. I concur. The Fed's Summary of Economic Projections, however, places the natural rate in the 5.2-5.5% range. My thinking is that is as much as 0.5 percentage points or even more too high. That is a big, big error, somewhere around 800,000 real lives impacted. A lot of jobs to risk when inflation is trending downward, in my opinion.

I also believe that the fact that we have experienced two recessions since 1991 yet no outbreak of inflation is prima facie evidence that the Fed, on average, maintains too tight a monetary policy.  Seems likely a little bit looser policy would yield significant welfare gains.

Anyway, I think readers probably get the idea at this point. My expectations of a particular Fed policy does not necessarily indicate support for that policy. In future writing I will endeavor to more clearly delineate between the two.

'Is Democratic Keynesianism Possible?'

Posted: 03 Feb 2015 10:44 AM PST

Chris Dillow follows up on Simon Wren-Lewis's call for an independent fiscal policy authority:

Is democratic Keynesianism possible?: Simon calls for fiscal policy to be set independently of government, to prevent it "being corrupted by politics and ideology." This might seem like pointy-headed technocracy. In fact, it is more radical than that. ...
There can be little doubt that business has captured government. We saw an example of this yesterday. Stefano Pessina's claim that a Labour victory would be "catastrophic" was reported as if it were news that a billionaire isn't keen on leftish governments; I doubt that a benefit claimant's view that a Tory victory would be "catastrophic" would get so much attention. This is just on example of how the rich have disproportionate political influence.
In this sense, I read Simon as making a very radical claim - one which is more Marxian than Keynesian. "Democratic" policy-making cannot serve the public interest, because it is subverted by capitalists' interests. This represents a challenge to naive social democracy, which thinks that governments can do the right thing if only they have the will and courage.

In severe downturns, we need fiscal policy to step up to the plate but it's hard to see how political institutions can be altered to make that happen. Given that fiscal policy is severely hampered by the political process and monetary policy alone is not enough to overcome large economic problems, we need to five extra attention to avoiding severe problems in the first place. That is, the risks of financial regulation are asymmetric. Too much regulation may have some negative effects, but too little risks severe problems that last for many, many years. So if we are going to make a regulatory error...

On that note, I didn't expect this from Jim Bullard:

Fed's Bullard Calls For Breaking Up Nation's Biggest Banks: Federal Reserve Bank of St. Louis President James Bullard warned Tuesday regulatory changes haven't solved the too-big-to-fail problem in banking, adding that he'd support a break-up of the biggest banks in the U.S. ...
Mr. Bullard thinks bubbles can be so strong and so irrationally driven that regulatory policy may not be able to put the genie back in the bottle. What's more, when it comes to these new powers, "they are untested, and it's unclear whether they'd really work."
He said a better solution would be to reduce the size of banks that are considered too-big-to-fail. ...
Breaking up banks has been an unpopular view in the Fed. ...

Self-Selection and 'Liberal' Professors

Posted: 03 Feb 2015 09:06 AM PST

Dan Little of Understanding Society:

Self-selection and "liberal" professions: Neil Gross stirred up a quite a storm a few years ago when he released a body of research findings on the political complexion of university professors. Conservative organizations and pundits have made hay by denouncing the supposed liberal bias of universities. Gross opens his most recent book, Why Are Professors Liberal and Why Do Conservatives Care?, by confirming that multiple measures demonstrate that faculty members are substantially more likely to be liberal than the general population. But he believes this is both indisputable and uninteresting. What is most interesting for a sociologist is the "why" -- how can we explain the skewed distribution of political identities across this professional group?

Gross positions his work as falling in a tradition of research that included two major survey-based studies in the past 75 years, Lazarsfield and Thielens (The Academic Mind: Social Scientists in a Time of Crisis) and Everett Karll Ladd and Seymour Martin Lipset (The Divided Academy: Professors and Politics). He also finds creative ways of incorporating the GSS surveys. In addition, Gross and Solon Simmons carried out their own substantial survey, the Politics of the American Professoriate survey (PAP).

It will be noted that this is a problem that calls out for a social mechanisms explanation, and a fairly simple one at that. Suppose marbles of two colors in equal numbers are raining down in a thoroughly mixed stream on a pair of urns. Occasionally a marble falls into one urn or the other. When we count the marbles in both urns we find that 65% of the marbles in the urn on the left are green, whereas the larger urn on the right has 50% of each color. How is it that there are a higher percentage of green marbles in the urn on the left? There are only a few possibilities, each corresponding to a different mechanism. (i) The marbles have a degree of choice about which urn they enter, and green marbles have a preference for the left urn. (Or a variant: red marbles have a preference for avoiding the left urn.) We could call this "selection bias by chooser". This is different from two other possible mechanisms: (ii) there is a filter on the left urn, bumping green marbles in and red marbles out ("selection bias by receiver"); or (iii) marbles have a slight tendency to shift color from red to green when they enter the left urn ("environment transformation").

Fundamentally the question is analogous to the "nature-nurture" conundrum in the study of personality. Are universities more liberal than average occupations because they cultivate liberal thinking (nurture)? Or are they more liberal because of some sort of selection mechanism, drawing liberal members more frequently than chance (nature), and liberal-tending new faculty members bring their political values with them? Gross makes a powerful empirical case for the latter possibility.

I develop an alternative account: for historical reasons the professoriate has developed such a strong reputation for liberalism that smart young liberals today are apt to think of academic work as something that might be appropriate and suitable for them to pursue, whereas smart young conservatives see academe as foreign territory and embark on other career paths. (p. 105)

It might be speculated that this distribution exists because the faculty selection process is biased -- conservative candidates are turned away. Gross's explanation is different. He draws on a strong literature studying gendered occupations that finds that the reputation of the profession has a powerful influence on girls and women as they make educational and career choices. Gross extends this reasoning to liberals and conservatives contemplating an academic career. Essentially he explains the political composition of university faculties as a consequence of a powerful public reputation for being a liberal workplace and a distinctly skewed process of self-selection towards this career. The profession is "typed" as being a particularly good career for more liberal young people, and young people make their career choices in consideration of that assumption. Essentially he argues that universities are publicly perceived as being hospitable to people on the left, and liberal-leaning young people are drawn to the career because of this reputation.

The question of political bias within universities is treated using an interesting experiment that Gross and colleagues Joseph Ma and Ethan Fosse conducted to test whether conservative students have a harder time gaining entrance to graduate programs (164). The project involved sending fictitious letters of inquiry to directors of graduate studies in leading departments in a wide range of disciplines. The letters indicated the same level of preparation for the field. One batch indicated no political information about the student, while the other two batches included the phrases "Worked for the McCain campaign" or "Worked for the Kerry campaign." Responses were rated according to the degree of encouragement or discouragement they expressed. The experiment is ingenious but it indicates "no result". There is no statistically significant evidence of bias against applicants who self-identify as conservative. (Gross does report a strong negative response from some of the academics whose potentially discriminatory behavior was tested.)

The study should count as reasonably strong evidence that most social scientists and humanists in leading departments work hard to keep their political feelings and opinions from interfering with their evaluations of academic personnel. (165)

I find Gross's treatment of this topic to be an exemplary use of quantitative survey data in theoretically informed ways. The PAP survey that Gross initiated (along with colleagues and research assistants) provides substantial new information about the political attitudes and social backgrounds of faculty in the United States. Gross makes deft use of this data source (as well as several others) to evaluate hypotheses about what causes the distribution of political profiles among faculty. Gross's question is about both groups and individuals, and the survey data helps to evaluate answers to both. And, incidentally, this appears to be a sterling example of the kind of theoretical work that John Levi Martin calls for (link): careful stipulation of various explanatory theories, accompanied by a rigorous effort to evaluate them using appropriate empirical data.

For anyone who cares about universities as places of learning for undergraduate students, Gross's book is an encouraging one. He provides a clear and convincing explanation of the mechanisms through which a non-random distribution of political attitudes wind up in the population of university and college professors, and he provides strong evidence against the idea that universities and professors exercise discriminatory bias against newcomers who have different political identities. And finally, Gross's analysis and my own experience suggests that professors generally conform to Weber's ethic when it comes to proselytizing for one's own convictions in the classroom: the function and duty of the professor is to help students think for themselves (Max Weber, "The Meaning of Ethical Neutrality,", Methodology of Social Sciences.)

There is an interesting set of replies to Gross in Society here.

'Tough Fedding'

Posted: 03 Feb 2015 08:54 AM PST

Paul Krugman hopes the Fed is listening:

Tough Fedding: The monetary-policy gap between insiders and outsiders — between economists at the Fed and other policy institutions, who still seem eager to raise rates, and those of us on the outside, who think this is a really, really bad idea — continues to widen. This morning Tim Duy — one of the outsiders who ... has seemed most sympathetic to the urge to hike rates — joins the what-are-they-thinking chorus. Core inflation is drifting downward, not upward, and is now well below the Fed's target. So why hike?
The immediate answer appears to be a fixation on the unemployment rate, which is close to standard estimates of full employment. But is this really a solid justification for raising rates absent any actual sign of the rising inflation we're supposed to see at full employment?
Actually, what do we mean by full employment, anyway? ...
You don't want to push this too hard, but my point is that recent data are perfectly consistent with the view that full employment requires an unemployment rate below 5 percent; the most recent data would suggest an even lower rate. This might or might not be right; I don't know. But the Fed doesn't know either.
And in the face of that uncertainty, the crucial question is what happens if you're wrong. And the risks still seem hugely asymmetric. Raise rates "too late", and inflation briefly overshoots the target. How bad is that? (And why does the Fed sound increasingly as if 2 percent is not a target but a ceiling? Hasn't everything we've seen since 2007 suggested that this is a very bad place to go?) Raise rates too soon, on the other hand, and you risk falling into a deflationary trap that could take years, even decades, to exit.
I really, really hope this is getting through.

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