Z: **Inactive:** Brad DeLong--Economics Only

David Wessel Sends Us to Bill Poole on Milton Friedman

Milton Friedman's monetary framework--his idea that the nominal money stock growth rate should be pegged, and that the government should either shovel reserves into the banking system at a furious rate or pull them out in order to keep the nominal money growth rate stable--was always clearly a second or even a third-best. Positive or negative shocks to velocity would cause episodes of inflation or depression which Friedman's rule would ignore.

William Poole now thinks that Friedman was wrong, and too pessimistic, and that the Fed has done better over the past quarter century than the Friedman rule would allow. David Wessel blogs:

Economics Blog : Milton Friedman Wasn’t Right About Everything: William Poole, a self-described “card-carrying monetarist” who is now president of the St. Louis Federal Reserve Bank, says the Fed’s track record over the past 25 years is better than it would have been had it followed Milton Friedman’s prescription of maintaining steady growth in the money supply.

[Poole:] “I believe that the Fed’s actual adjustments of its federal funds rate target have yielded superior outcomes since 1982 to what we would have observed under steady money growth,” he said in the prepared text of a speech to delivered today – behind closed doors — at the University of Missouri to mark the 95th anniversary of the late Milton Friedman’s birth. “I also believe that advances in knowledge permit us to say with some confidence that these gains are not just an accident of Alan Greenspan’s special skills and intuition,” Mr. Poole said.

So what’s the secret? Persuading the public, businesses and the markets that the Fed won’t let inflation get out of control or, in the jargon of economists, “anchoring inflationary expectations.”

“Everything Milton argued about money stock control is true,” he added, “but the effect of inflation expectations on the practice of monetary policy itself was, I believe, a missing element in the analysis. The economy functions differently when inflation expectations are firmly anchored. If a central bank allows expectations to become unanchored, then interest-rate control becomes a dangerous and potentially destabilizing policy. But should the practice of monetary policy depend on how well inflation expectations are anchored? I do not recall Milton discussing this question, perhaps because he believed that the best way to maintain well-anchored expectations over time was for the central bank to commit to steady and low money growth under all circumstances.”

Tom Slee on Distributed Collaborative Filtering: The Netflix Prize: 300 Days Later

A very interesting experiment, on lots of levels:

Whimsley: The Netflix Prize: 300 Days Later: Online DVD rental outfit Netflix caused a real buzz last October when it announced the competition. If anyone can come up with a recommender system for predicting customer DVD preferences that beats its own algorithm (Cinematch) by a certain amount, Netflix will hand over $1million. The prize got a lot of attention because it exemplifies the idea of crowdsourcing. Not only does Netflix rely on crowdsourcing of DVD ratings (user ratings of DVD titles) but the competition itself is an attempt to use crowdsourcing to develop the algorithms to make the most of those ratings. Instead of doing the work itself, or hiring specialists, Netflix lets whoever anyone enter their competition and pays the winner...

[...]

As soon as you start looking at the data set it becomes obvious why it is so difficult to get good results. Databases don't have the linear algebra and other mathematical tools for taking a run at the prize but they are convenient for exploring data sets, so I loaded the data into a SQL Anywhere database (The developer edition is a free download, and I'll provide a perl script to load the data if you really want it) and started poking around. Here are a few of the more obvious oddities (all these observations have been posted elsewhere - see the Netflix prize forum for more):

• Customer 2170930 has rated 1963 titles and given each and every one a rating of one (very bad). You would think they would have cancelled their subscription by now.
• Five customers have rated over 10,000 of the 17,770 titles selected - and presumably they also have rated some of the others among the 60,000 or so titles Netflix had available when they released the ratings. Are these real people?
• Customer 305344 had rated 17654 titles. Even though Netflix make it easy to rate titles that you have not rented from them (so they can get a handle on your preferences) can this be real?
• Customer 1664010 rated 5446 titles in a single day (October 12, 2005).
• Customer 2270619 has rated 1975 titles. 1931 were given a 5, 31 were given a 4, 10 given a 3, 2 given a 2 (Grumpy Old Men and Sex In Chains) and a single title was given a 1. That title? Gandhi, which has an average rating of over 4 and which less than 2% of those who watch it give a 1.
• The most often rated movie? Miss Congeniality with ratings by over 232,000 of the 480,000 customers. And which title is most similar to it in terms of ratings (using a slightly weighted Pearson formula)? Bloodfist 5: Human Target.
• Most highly rated - Lord of the Rings: Return of the King (Extended Edition), with 4.7...

[...]

So what I get from the Netflix prize is that there are probably significant limits to recommender systems. Even the smartest don't do a whole lot better than the simple approaches, and a lot of work is required to eke out even a little more actual information from the morass of data. It seems surprisingly difficult to get reliable, factual information on this important question of how useful they can be. Part of the reason is that they are new - Amazon has only been in business for about ten years after all - and part of the reason is that the behaviour of these systems is often a closely guarded secret despite the aura of openness that web companies cultivate.

This matters because there is a surprising amount riding on the effectiveness of recommender systems. Silicon Valley's new-economy enthusiasts see them as the key to developing a new level of cultural democracy: they see recommender systems as a trebuchet hurling rocks at the castles of the old elite of mainstream media, big publishers with big marketing departments, big-chain book stores and Hollywood sequels. Recommender systems are claimed to embody the "wisdom of crowds". The idea is that everyone just publishes stuff (blogs, wikipedia entries and so on) and amateur readers or viewers decide what has merit by their actions (rating stories, buying and rating books and DVDs and so on). The work of critics is "crowdsourced" to customers, but it is the recommender system that distills these ratings to yield the aforementioned wisdom.

If faith in recommender systems is misplaced, then the new boss may look much like the old boss only with more computer hardware. There is a danger that recommender systems may simply magnify the popularity of whatever is currently hot - that they may just amplify the voice of marketing machines rather than reveal previously-hidden gems. Even worse, their presence may drive out other sources of cultural diversity (small bookstores, independent music labels, libraries) concentrating the rewards of cultural production in fewer hands than ever and leading us to a more homogeneous, winner-take-all culture.

I'm no futurist, but I see little evidence from the first 300 days of the Netflix Prize that recommender systems are the magic ingredient that will reveal the wisdom of crowds.

Robert Guth on Craig Mundie of Microsoft

In the Wall Street Journal:

Behind Microsoft's Bid To Gain Cutting Edge - WSJ.com: Throughout its history, Microsoft has been slow to grasp some of the computer industry's biggest technology shifts and business changes. When it decides to embrace an innovation, the company has often succeeded in chasing down the leaders, as it did years ago with Lotus Development Corp. on spreadsheets that allow users to organize data, and a decade ago with Netscape Communications Corp. on Web browsers that transformed the experience of using the Internet. For years, this catch-up-and-surpass approach worked well.

Early this decade, however, companies such as Google Inc. and Apple Inc. exposed holes in the approach. Microsoft was slow to see the potential in Web search and online advertising, and despite heavy investments, has so far failed to catch industry leaders Google and Yahoo Inc. It also was late coming to market with its own music player, and despite a push, remains far behind Apple. Today, a host of Web-based software services from Google and others threaten to reduce the importance of Microsoft's personal-computer software.

One year ago, Mr. Gates, the company's chairman, announced that in June 2008 he would give up his post as "chief software architect."... Mr. Mundie got the other half of the job -- charting the company's long-term technology course....

He joined Microsoft in 1992. As head of the consumer group, he helped shepherd such non-PC products as videogames, interactive television and software for cellphones. Later, he took on nettlesome tasks such as fighting piracy in China, pushing Microsoft to develop more secure software, and improving the company's relationships with governments around the world. He developed a reputation as a visionary with start-up projects, but less skilled at managing them as going concerns, he and other Microsoft executives say....

Microsoft's product groups -- business units built around products such as Windows and Office that produce much of the company's cash -- have long had enormous clout in its corporate culture. Star product-group managers, the company's so-called shippers, get the big, profitable products like Windows out the door year after year. For them, meeting deadlines is all-important; longer-term thinking about technology isn't....

Mr. Mundie has been warning his Microsoft colleagues for years about a coming shift in semiconductors that could upset the company's most important businesses. Chip makers such as Intel Corp. have been working on a way to increase semiconductor power without causing the chips to overheat. It involves sticking what amounts to multiple chips -- or "cores" -- onto a single chip, creating "multicore" chips.

Some software experts contend that the change is so radical it will require software for large server computers and PCs to operate differently than it has for decades. It is unclear, however, how quickly the change will come, and what Microsoft, the world's largest software maker, will have to do to navigate it. Mr. Mundie contends it will come sooner than many people think, and it will require new programming languages and techniques...

Felix Salmon on Noise--Literally: Noise--Traders

He watches Jim Cramer, and is scared:

Finance Blog - Market Movers by Felix Salmon: Great Moments in Punditry: Jim Cramer on Housing - Portfolio.com: Is it worth responding to this as though it's rational? Is this what passes for informed commentary on TV these days? I can see how it gets ratings, in a train-wreck kind of way – hell, I'm blogging it. But the idea that wealthy people will stop paying their mortgages because their houses are "fungible" (unless we get a 100bp cut in the Fed funds rate, of course) – it's like some kind of incredibly unfunny parody. Nouriel Roubini et al might be shrill, but at least there's coherent logic to their position.

What scares me is that this could be a rare and genuine glimpse into how traders actually think. In which case the Great Moderation and decline in volatility of recent years is doomed to die a sudden and extremely unpleasant death.

Some traders tend to think this way: they add a lot of volatility to the order flow. Do the Cramers have a material effect on price patterns, or do they just create trading opportunities for more sophisticated investors. That is a hard question.

Nikola Tesla's Machines Live!

Georgetown Energy Museum 600 Griffith St. Georgetown, CO 80444

1.44 MW hydroelectric polyphase AC generating plant, in service since
1900.

Nikolai Tesla's machines live!

Brad DeLong

---

The ideas of economists and political pholosophers... Are more
powerful than is commonly understood...

A Historical Document: Paul Gigot of the Wall Street Journal Predicts the Failure of Clintonomics

One evasion in Ken Auletta's piece on the Wall Street Journal stands out: his quoting without comment of Norman Pearlstine's claim that Paul Gigot “was a first-rate reporter...”

Here was my first encounter with Gigot's reporting--in this case, reporting on me, one of the heads of Alicia Munnell's staff at the U.S. Treasury in 1993.

Damned if I know what Paul Gigot is talking about when he says of my boss that: "Alicia Munnell is in denial, even though her staff has calculated that Mr. Feldstein is right." I think "Mr. Feldstein is right" might mean "upper-bracket tax collections fell in fiscal 2001 (because of the recession)," rather than what Gigot wants you to think it means--that "the tax-rate hikes of 1990 discouraged work and put us on the far side of the Laffer curve."

If that's not what Gigot means, he's making s--- up: I was there, I was Alicia Munnell's staff, and I know:

Oops! Weren't We Going to Soak The Rich? By Paul A. Gigot 908 words 9 July 1993 The Wall Street Journal: On his way out the door in January, a cheeky Bush official scribbled the same tax phrase again and again on a Treasury blackboard for the new Clinton team: "Low rates, broad base." The incoming Clinton Treasury minions, more rueful than cheeky, erased the phrase each time the new White House requested ever higher tax rates. Mark the rueful down as prophets. The first evidence on income-tax receipts for 1991 is now rolling in from the Internal Revenue Service, and the usual eye-glazing numbers are suddenly eye-popping. To wit, the rich paid less in taxes even though their tax rates went up. The nonrich paid more even though their tax rates stayed the same. President Clinton, meet the Laffer Curve.

This news is the elephant in the room of this year's tax debate, since we keep hearing that the fate of the world hangs on President Clinton's promise to reduce the deficit by "$500 billion." Most of this windfall, Mr. Clinton assures us, will come from "the rich." But what if those tax revenues from the rich turn out to be a mirage? Then isn't the Clinton tax program doomed to fail, even as mere deficit reduction? And shouldn't Democrats think again before they commit tax hari-kari at next week's House-Senate conference? Of course they should, but this year's Democratic theme song seems to be that old "MASH" movie anthem, "Suicide Is Painless."

The 1991 numbers are so striking because they're the first since the Great 1990 Budget Deal, which was more or less the test drive for Clintonomics. Rates had to be raised on "the rich," we were told then, in order to produce a river of new tax revenue. Well, this is one river that didn't run through it. For we now know that total income-tax receipts fell in 1991, the first decline since 1983. And they fell in a strange and revealing way, as the chart below shows. For the rich -- defined as the top 850,000 income-earners in each year (making about $200,000 or more) -- 1991 tax receipts fell by $6.5 billion, or 6.1%. But for everyone else, tax receipts actually rose in 1991 -- by $3.3 billion, or 1%. This odd dichotomy makes it difficult to attribute the revenue decline merely to a slow economy: The rich wouldn't have a bad year if everyone else had a good one. And, in fact, total income rose 3.3% for the year.

So what happened to the rich? It's impossible to know for sure, but the likely answer is that they changed their behavior in response to higher rates. Maybe they sheltered more income. Or stuffed more of it into 1990 to take advantage of that year's lower rates. Or perhaps they worked less. In short, they responded to "incentives," as economists say, and produced less income subject to tax. This reverse-windfall is underscored by other 1991 numbers. Income from businesses fell 5.5% for the rich, but rose 2.2% for the nonrich. For so-called Subchapter S small businesses, which would get slammed again by Mr. Clinton, income dove 10.5% for the rich but rose 6.2% for everyone else. All of which proves what populist, middle-class free-marketeers like me call the paradox of progressivity: To really soak the rich, keep their tax rates low.

Listen to Martin Feldstein, the Harvard economist who has never been mistaken for a wild supply-sider: "The evidence is strong that in 1991 they picked up rates at the top and revenue fell. This should make Democrats think twice about whether the tax rates they're now talking about will raise the revenues they expect." Mr. Feldstein figures they'll get only about a quarter of the $25 billion a year they advertise.

The Clinton administration knows all this, by the way, but wants it kept quiet until the tax bill passes. Treasury economist Alicia Munnell is in denial, even though her staff has calculated that Mr. Feldstein is right. Treasury's Larry Summers knows better, but is preoccupied with Japan and trade. Other Democrats don't even want to hear about it. That's because for them taxing "the rich" is about class-war politics, not revenue. It's about having a foil to run against. But that's no excuse for Republicans, who've been just as silent about all this. Bob Dole's timid Senate Republicans didn't even offer an amendment to strip the higher rates out of the tax bill. Ohio Rep. John Kasich, supposedly the boy wonder of the budget, has made people wonder by endorsing higher rates. Like George Bush and Nicholas Brady, too many Republicans are still afraid James Carville might accuse them of belonging to a country club.

But now is the time to lay down markers for the next economic debate, educating voters about the con job they are about to experience. An optimist said last year that either the Clinton presidency would be successful, or it would be educational. But that assumes someone does the educating.

Life Imitates Art: (That is, economist Art Laffer)

Income tax payments (in $ billions)
1991 1990
"The Rich" $ 99.6 $106.1
Everyone Else $ 348.6 $345.3

Hoisted from Comments: Land Transport in 1776

Hoisted from comments: Monte Davis writes:

Grasping Reality with Both Hands: Brad DeLong's Semi-Daily Journal: John Keegan notes somewhere that in the War of Independence, when the colonists desperately needed the captured cannon from Ticonderoga and Crown Point, it took three months to get them the ~200 miles to the siege positions around Boston. Land transport was HARD before rails, all-weather roads, and fossil-fueled engines...

Of course, back in 1776 nobody would have moved cannon from Fort Ticonderoga to Boston by land in peacetime: you would have used water as much as possible. Only the fact that it was wartime and the British fleet dominated the seas made them drag the cannon across the hills and mountains of New England.

Tyler Cowen: Underappreciated Economist E. Glen Weyl

Tyler Cowen writes:

Marginal Revolution: Underappreciated economists: a continuing series: Today I will pick E. Glen Weyl, a mere Youngling, who is studying at Princeton University.  Here is his paper on neural networks, and the abstract:

I consider a potential neural basis of overconfidence, the well-documented tendency of individuals to overestimate the precision of their predictions. I present a simple, classic connectionist model for predicting a binary variable. I show that while the network initially makes weak predictions (in the middle of the probability range) regardless of input, after observing randomly generated data it learns to be overconfident in the sense that when presented with other, unrelated random data it makes strong predictions. The model matches behavioral data in that it shows overconfidence growing with experience and then, eventually, declining. The model shows how overconfidence, far from being a surprising fallacy, can be seen as a natural outgrowth of statistical over-fitting in the brain.

Glen probably won't be underappreciated for long.  Here is his seminal paper on two-sided markets (e.g., Match.com).  There is already talk he will be a leading economist of the next generation...

Herbert Hoover's Story on the Kaiping Mines

Herbert Hoover's story on the Kaiping mines appears to have been that he was lied to by his bosses--with whom he remained on excellent terms, however.

From Walter Liggett (1932), The Rise of Herbert Hoover (New York: H.K. Fly), p. 111 ff.:

The action between Chang Yen-mao and the Chinese Engineering and Mining Company of Tientsin, plaintiffs, versus Charles Algernon Moreing, Bewick, Moreing, and Company, and the Chinese Engineering and Mining Company, Limited, of London, defendants, was brought to trial on January 18, 1905, before Justice Joyce in the Chancery Division.... On March 1, 1905, Justice Joyce delivered from the bench a long verbal decision in favor of the plaintiffs....

[...]

Chang [Yen-mao] described the circumstances under which he signed the deed.... He said he repeatedly refused to sign... its terms did not agree... with his agreement with [Herbert] Hoover. Upon being told by Hoover that the deed was merely meant for the purpose of registration in England, and that the memorandum would be the ruling instrument, he eventually signed... with reluctance....

Chang told in detail of... threats... by Hoover... that the mines would be confiscated by the [European] Allied governments and that he and the Chinese stockholders would get nothing [if he did not agree to the terms]....

[...]

In opening the defense, Counsellor Hughes made a long speech in which he protested against charges of fraud or misrepresentation.... Hughes defended the issuance of 625,000 shares of promoters' stock and added, "Mr. Moreing did not profess to go to China as a philanthropist."...

Mr. Hoover took the stand.... He said that Detring told him that the deed of July 30, 1900, had been approved by Chang. (Both Detring and Chang denied this.)... Hoover declared he had always considered the memorandum binding, and always had insisted that it be carried out. On cross-examination he said that he did not know... that the memorandum's provisions had not been incorporated into the articles of association. He also disclaimed knowledge of the financing.... Under cross-examination he said that he had told Chang and Detring that the provisions of the memorandum were incorporated in the articles of association, and that he had not known differently until he returned to London. He admitted the whole of his negotiations with Chang and Detring when he returned to China had been on an "incorrect basis."...

Counsellor Levitt produced a letter written by Hoover... [in which] he had said that "the China board would have in itself the entire management of the company's property in China, and that H[is] E[xcellency] Chang would be director-general [of the mines] for life." Hoover admitted the statements were not true, but explained that when he wrote the letter he thought them true. Hoover said he... had tried to carry out the terms of the memorandum and as long as he was in China thought he had succeeded. Then he was shown a letter... by himself.. which stated that the changes which he had inaugurated... [were to give] the new manager "complete control immediately upon arrival" in order that "the future administration [of the mine] might be preserved from any interference by the Chinese board."...

[Hoover] admitted reading a letter which de Wouters had written to the board of directors in London.... Hoover admitted that he had not asked de Wouters to alter the letter, or not to send it, but insisted nevertheless tht he was not in accord with de Wouters on this point and that the letter did not correctly represent the situation...

The Memorandum. The Pall Mall Gazette, February 2, 1903

Kaiping Mines: Memorandum of Agreement Between Chang Yen-Mao and Herbert Hoover

A historical document:

February 19, 1901: Memorandum Relating to the Reorganization of the Chinese Engineering and Mining Company:

In consequence of the disturbances of last summer [1900] and the state of hostilities thereby created, serious danger arose... [the possibility of] the confiscation of the [company's] property on account of the company's semi-official character in connection with the Chinese government... [or] the cession by compulsion of the company's property.... [I]t was thought in the interest of the Imperial government and the company's shareholders to convert the company into an Anglo-Chinese company registered under English laws and protection[s].

Another motive was... [to raise] additional capital by gaining foreign shareholders for the undertaking....

H[is] E[xcellency] Chang [Yen-Mao], Director General of the company, accordingly appointed Mr. Gustav Detring to make the necessary arrangements... with Mr. H.C. Hoover, acting on behalf of Mr. C.A. Moreing... [to draw up] a deed of sale... [so] Mr. Moreing... [could] take the necessary steps with regard to the raising of capital in Europe and registering the company under British laws....

[I]t has today been settled and decided that the company shall in the future be constituted and managed as follows:

(1) The share capital of the company to be one million pounds sterling.
(2) The Chinese shareholders [of the old company] to receive twenty-five shares of one pound each for each original share of one hundred taels each [i.e., total par value of £375,000].
(3) The bona-fide liabilities of the Chinese Engineering and Mining Company... shall be taken over by the new company....
(4) It is especially agreed to honor and repay the loans obtained from the Imperial government. 200,000 taels is to be paid out of the first funds and balance as quickly as possible [i.e., £35,000].
(5) The stockholders whether Chinese or foreign shall have equal votes at all meetings of the shareholders....
(6) The management of the company shall be conducted by two boards of directors, one in China and one in London.
(7) H[is] E[xcellency] Chang [Yen-Mao] will be Director General resident in China as before in general charge of affairs, and as such will have equal powers with foreign directors in China.
(8) The management of the property of the company in China will be in the China Board.
(9) The London Board will be elected by all the shareholders, Chinese and foreign.
(10) ... "limited" means that the shareholders are in no case responsible for more than the nominal amount of their shares.
(11) ... all the legal taxes and duties payable to the Chinese government will be paid by the company as before.
(12) ... the Director General will be the channel of all communication between the Imperial Authorities and the company.
(13) ... the company will be managed... to make Chinese and foreign interests harmonize on a fair basis of equality... [to] enrich the government and the people.
(14) All the unsettled accounts of the company and questions relating to land tenure will be adjusted equitably by mutual consultation.

Herbert C. Hoover
Chev. de Wouters
Chang Yen-Mao
Gustav Detring