## Our Only Chance to Improve Financial Regulation Is Now

Ah. When Clive Crook is not putting his thumb on the scales to hide the fact that the arguments of America's Republicans weigh no more than a feather, he is his old self again, saying smart things:

Deal with the banks while they are down: One of the clearest messages from the first summit of this crisis, in November last year, was the collective commitment to hold back protectionism. Since then, every government has been bending or breaking international rules... they have shown some restraint, for which one is grateful.... On the very eve of the Pittsburgh summit, Barack Obama’s administration raised tariffs on Chinese tyres. This was probably technically legal under the World Trade Organisation’s “safeguard” procedures. It is protectionism nonetheless, and in plain breach of the earlier commitment, which Mr Obama has repeatedly affirmed. We shall see whether kneeling down to the unions in this case abates the demand for further protection, or stimulates it. My guess is the latter.

Ordinarily, this gap between words and deeds is a shame but not a disaster.... [T]he optimal policy of economists’ fantasies often calls for co-ordination.... But the point is that domestic politics, especially in the US, all but rules out this sort of co-operation. Balanced growth requires a dramatic change in US fiscal policy. The US has every selfish reason to do this unilaterally. In the end it will, even though the country cannot yet bring itself to think about it. But if the administration was ever to ask Congress to raise taxes because the US had promised other countries that it would curb its public borrowing, that would doom the proposal on the spot. Muddling through is the best that can be done, and more often than not it suffices.

Why then is 2009 different? Because stronger financial regulation is now so central in what needs to be done – and because unco-ordinated financial regulation, unlike unco-ordinated fiscal policy, cannot succeed.... Tim Geithner, the US Treasury secretary, won tentative, sometimes grudging agreement to his main ideas for stronger regulation... requiring banks and shadow banks to hold more capital.... [H]e also called for minimum levels of liquidity, and for “living wills” to allow the orderly winding up of failing financial firms. All this makes excellent sense.... [B]ank regulation better had be strengthened, and in a closely co-ordinated way, or else governments will be leaving their countries as exposed as before to the risk of another financial crisis....

[G]overnments will need to stick together in facing down the pressure for a less onerous bank capital regime. If co-ordination fails and some governments adopt tougher rules than others, this pressure will be far stronger, probably overpowering. Banks and shadow banks will argue that stronger capital rules in the US, for instance, put American financial institutions at a competitive disadvantage. It will be true, and Congress is fiercely attentive to that kind of argument.... The presidents and prime ministers meeting this week are not going to nail those details down. But they can affirm the principles of Mr Geithner’s proposals without equivocation. They can mean it. Most important, in private, they can come to a frank understanding: they will have to press the issue far beyond the point at which their financial firms start to complain, and resolve to stick together.

## Labor Market Indicators

New Deal Democrate writes:

The Bonddad Blog: Getting it wrong about Initial Jobless Claims and Nonfarm Payrolls: Some time ago, Prof. Brad DeLong of Berkeley, thinking aloud with graph, drew a line across the 1991 and 2001 recessions and recoveries, making a "note to self" that it appeared that Initial Jobless Claims post those recessions had to decline to 400,000 or less before payroll jobs were added....

IT IS WRONG.

The 1991 and 2001 recessions were very mild. Peak initial jobless claims in those recessions were 501,250 and 489,250, respectively. It would be nuts to think that jobs would be added to the economy anywhere near the 500,000 high water mark in jobless claims from those recessions.

The 1973-4 and 1981-2 recessions are much better comparisons. They were the two most severe post-WW2 recessions up until now, respectively featuring 9% and 10%+ unemployment. Furthermore, peak initial jobless claims in those recessions were 560,750 on February 1, 1975 and 674,250 on October 9, 1982, respectively; both peaks being much closer to our recession's peak initial claims number of 658,750 on April 4, 2009. In the case of the recoveries from both of those recessions, payrolls started to grow as the ievel of initial jobless claims crossed 500,000, not 400,000...

My guess was that 1975 and 1982 were a long time ago, and that the structure of the economy has changed a lot since then.

But he could be right. We will see.

## Karl Smith Is Somewhat Bewildered by the State of Modern Macro

He thought that it was conventional wisdom that the economy was in big trouble and on the edge of crisis a year ago summer--and that it badly needed all kinds of stimulus (conventional monetary policy, quantitative easing, government financial guarantees, bank recapitalization, expansionary fiscal policy) last fall and winter. And he is disturbed to find out that that is not so.

Karl Smith writes:

Krugman vs. Cochrane «  Modeled Behavior: I posted Cochrane’s response to Krugman.... I tried to be as neutral in the posting as possible, but some may have interpreted as implicit support for Cochrane’s position. This is not the case. Indeed, at the time I wasn’t sure how I felt about either piece. Here are my thoughts as of now.

Krugman’s piece was, well, Krugman. A little abrasive and not particularly charitable to his adversaries, but smart and well reasoned nonetheless. Cochrane’s response, seemed to me, a bit out of scale to what Krugman wrote in the NYT Magazine.... [I]t felt like an escalation and that is unfortunate....

Beginning with Eugene Fama’s post arguing that the stimulus could not work because it violated basic adding up constraints I have been deeply puzzled. The probability that I understand macro on a deeper level than Fama or Cochrane is low. Yet, it seems to me that basic error is being made. Fama and Cochrane appear to either be assuming that prices adjust seamlessly throughout the entire economy or that increases in the demand for money do not reduce the total quantity of transactions.  Both of these seem to be naive assumptions.

So I left a comment:

Karl--

Cochrane's tone is not an escalation. He--and others--have been at this pitch for quite a while.

For example: John Cochrane: "[That spending can spur the economy] is not part of what anybody has taught graduate students since the 1960s. They are fairy tales that have been proved false. It is very comforting in times of stress to go back to the fairy tales we heard as children but it doesn’t make them less false..." Robert Lucas: "Christina Romer--here's what I think happened. It's her first day on the job and somebody says, you've got to come up with a solution to this--in defense of this fiscal stimulus, which no one told her what it was going to be.... [I]t's a very naked rationalization for policies that were already, you know, decided on for other reasons..." Edward Prescott: "I don't know why Obama said all economists agree on [the need for a stimulus bill]. They don't. If you go down to the third-tier schools, yes, but they're not the people advancing the science..." Eugene Fama of the University of Chicago: "Sorry, but I’m not familiar with [Hyman] Minsky’s work..." Luigi Zingales: "Keynesianism has conquered the hearts and minds of politicians and ordinary people alike because it provides a theoretical justification for irresponsible behaviour.... They tell politicians, who are addicted to spending our money, that government expenditures are good.... In medicine, such behaviour would get you expelled from the medical profession; in economics, it gives you a job in Washington..." Michele Boldrin: "It is a fantasy that the economic profession at large finds the "stimulus" and the "bank bailout" plans sensible and adequate.... Outside the administration, the convinced supporters of the plans are a small minority among academic economists working in those fields. Both plans contradict four decades of research and are designed to please special interest groups..."

It's the combination of extraordinary venom with... what by now I can only regard as extraordinary ignorance that truly frightens me.

And, yes, I think you do understand macro issues at a deeper level than Cochrane and Fama. It really does look like they think we are in an economy with a rigid cash-in-advance constraint and a technologically-determined velocity. That's the only way I can find to make any sense at all of Fama's manipulations of the savings-investment identity, and of Cochrane's claim that it is logically inconsistent for a model to have people on aggregate trying to run down their real money balances.

And, yes, these issues were settled by the time of Irving Fisher.

Now venom I could understand--these are important issues that affect lots of people's lives, and worth caring deeply about. Ignorance I could understand--the quantity theory of money is not an obvious and transparent beast. It's the combination that is scary.

## I Do Hope This Is the Last Time I Will Ever Have to Mention Richard A. Posner...

Posner wrote, apropos of Christy Romer's analysis of the stimulus:

Richard A. Posner: This makes the $40 billion in tax relief all the more important to Romer's argument. And if that figure consisted of actual rebate checks, or reductions in current withholding, then of course it should be included.... Almost all the tax relief provided for in the stimulus bill consists of reductions in taxes by individuals and businesses.... If... the reduction is reflected in reduced withholding, or a reduced payment of estimated tax by people who filed estimated returns on April 15, it should be counted as stimulus spending; it puts money in people's pockets. If it merely reduces their future tax liability, it does not. All that is certain is that not all that$40 billion in tax relief is stimulus money; not all, and, at a guess, not most, put money in people's pockets before the second quarter ended...

Richard Posner does not appear to have called anyone at the U.S. Treasury to check.

I did. I called Mark Mazur.

The U.S. Treasury staff report that they do not do accrual accounting. They do cash flow accounting. If they told Christy Romer that $40 billion went out the door in stimulus-related tax cuts as of June 24, 2009; then$40 billion in cash went out of the Treasury.

Richard Posner's "not all, and, at a guess, not most" is simply a lie.

Where do they get these people?

## Shichinin no Economusutai--NOT!!

David K. Levine of Washington University in St. Louis:

"It is a daunting task to bring you [Paul Krugman] up to date on the developments in economics in the last quarter century. I know that John Cochrane has tried to educate you about what we've learned about fiscal stimulae [sic][1] in that period..." and "But the stimulus plan? How can you be arguing for more? Since we are recovering before most of the stimulus money has entered the economy--isn't that evidence it isn't needed? How can you write as if you are proven right in supporting it?"

John Cochrane of the University of Chicago:

"[That spending can spur the economy] is not part of what anybody has taught graduate students since the 1960s. They are fairy tales that have been proved false. It is very comforting in times of stress to go back to the fairy tales we heard as children but it doesn’t make them less false..." and "Paul [Krugman's]’s Keynesian economics requires that people make logically inconsistent plans to consume more, invest more, and pay more taxes with the same income..."

Robert Lucas of the University of Chicago:

"Christina Romer--here's what I think happened. It's her first day on the job and somebody says, you've got to come up with a solution to this--in defense of this fiscal stimulus, which no one told her what it was going to be, and have it by Monday morning.... [I]t's a very naked rationalization for policies that were already, you know, decided on for other reasons..." and "If we do build the bridge by taking tax money away from somebody else, and using that to pay the bridge builder--the guys who work on the bridge -- then it's just a wash... there's nothing to apply a multiplier to. (Laughs.) You apply a multiplier to the bridge builders, then you've got to apply the same multiplier with a minus sign to the people you taxed to build the bridge. And then taxing them later isn't going to help, we know that..."

Edward Prescott of Arizona State University:

"I don't know why Obama said all economists agree on [the need for a stimulus bill]. They don't. If you go down to the third-tier schools, yes, but they're not the people advancing the science..." and "the period of the '20s was one of healthy growth, until Hoover's anti-market, anti-globalization, anti-immigration, pro- cartelization policies were instituted, brought this expansion to an end, and created a great depression..."

Eugene Fama of the University of Chicago:

"Sorry, but I’m not familiar with [Hyman] Minsky’s work" and "Haven't seen it [Paul Krugman's article]. I pay no attention to him..." and "Government bailouts and stimulus plans seem attractive when there are idle resources - unemployment. Unfortunately, bailouts and stimulus plans are not a cure. The problem is simple: bailouts and stimulus plans are funded by issuing more government debt. (The money must come from somewhere!) The added debt absorbs savings that would otherwise go to private investment. In the end, despite the existence of idle resources, bailouts and stimulus plans do not add to current resources in use. They just move resources from one use to another..."

Luigi Zingales of the University of Chicago:

"Keynesianism has conquered the hearts and minds of politicians and ordinary people alike because it provides a theoretical justification for irresponsible behaviour. Medical science has established that one or two glasses of wine per day are good for your long-term health, but no doctor would recommend a recovering alcoholic to follow this prescription. Unfortunately, Keynesian economists do exactly this. They tell politicians, who are addicted to spending our money, that government expenditures are good. And they tell consumers, who are affected by severe spending problems, that consuming is good, while saving is bad. In medicine, such behaviour would get you expelled from the medical profession; in economics, it gives you a job in Washington..." and "Among the 37 Economics Nobel prize winners in the last 20 years, four received the prize for their contributions to macroeconomics. None of these could be considered Keynesian. In fact, it is hard to find academic papers supporting the idea of a fiscal stimulus..."

Michele Boldrin of Washington University in St. Louis:

"It is a fantasy that the economic profession at large finds the "stimulus" and the "bank bailout" plans sensible and adequate. Most economists we know oppose them.... Outside the administration, the convinced supporters of the plans are a small minority among academic economists working in those fields. Both plans contradict four decades of research and are designed to please special interest groups..." and "Is there a case for borrowing now to finance a stimulus package? People are worried about the future and are sensibly reducing their spending. Does this imply the government should step in and do the spending for them? Put that way, the idea seems like a non-starter..."

In case there is any doubt:

1. Paul Krugman is reasonably up-to-date on research in macroeconomics over the past quarter century (Levine);
2. that spending can spur the economy is part of what everyone who teaches their graduate students about the dot-com boom of the 1990s or about the housing-led expansion of the 2000s says, and the government's spending is as good as anyone else's as far as this is concerned (Cochrane);
3. Christina Romer played a significant role in the design of the ARRA (Lucas);
4. there is certainly debate over whether "advancing the science" means what Ed Prescott thinks it means (Prescott);
5. Eugene Fama really ought to have paid a little attention to Minsky-Kindleberger at some point in his career (and really ought to be paying attention to Krugman now) (Fama);
6. Luigi Zingales needs really, really badly to read John Maynard Keynes's "How to Pay for the War" before he embarrasses himself further (Zingales); and
7. I don't think "working in those fields means what Michele Boldrin thinks that it means (Boldrin).

And in case there is any doubt:

1. the fact that macroeconomic market failures are no longer getting rapidly worse is not a reason for immediately abandoning all of the policies to deal with thsoe failures (Levine);
2. there is nothing logically inconsistent with models in which aggregate planned expenditure is different from income, and indeed Milton Friedman's, Knut Wicksell's, and David Hume's economic models are all of this type (Cochrane);
3. even full Ricardian equivalence does not keep changes in government purchases from affecting total spending (unless government purchases are perfect substitutes for private consumption) (Lucas);
4. Herbert Hoover was on the right wing of the American political spectrum and tried as best he could to follow pro-market, pro-globalization, pro-competition economic policies (Prescott);
5. the savings-investment identity is an equilibrium condition, not a behavioral relationship. Thus it says nothing about how and whether changes in one form of spending will or will not call forth changes in the flow of spending as a whole (Fama);
6. it is in fact rather easy to find academic papers supporting the idea of fiscal stimulus under appropriate conditions, if you look (Zingales); and
7. when the prices of private bonds collapse and the prices of government bonds soar, that is a very powerful market signal that private businesses should borrow (and spend) less and the government should borrow (and spend) more (Boldrin).

The scary thing is not that Levine, Cochrane, Lucas, Prescott, Fama, Zingales, and Boldrin are wrong--people are wrong all the time. The scary thing is the level at which they are wrong: these are all freshman (ok, sophomore) mistakes--yet the seven include two past (and a year ago I would have said three future Nobel laureates in Economics).

If this doesn't frighten you, you aren't paying attention...

[1] Yes, I know, I know. What can I say? It is what he wrote.

## The State of Modern Cutting Edge Macro: Narayana Kocherlakota Leaves Me Puzzled

The very sharp Narayana Kocherlakota http://www.econ.umn.edu/~nkocher/ on the state of "modern cutting-edge macroeconomics":

Why do we have business cycles? Why do asset prices move around so much? At this stage, macroeconomics has little to offer by way of answer to these questions. The difficulty in macroeconomics is that virtually every variable is endogenous – but the macro-economy has to be hit by some kind of exogenously specified shocks if the endogenous variables are to move. The sources of disturbances in macroeconomic models are (to my taste) patently unrealistic. Perhaps most famously, most models in macroeconomics rely on some form of large quarterly movements in the technological frontier. Some have collective shocks to the marginal utility of leisure. Other models have large quarterly shocks to the depreciation rate in the capital stock (in order to generate high asset price volatilities). None of these disturbances seem compelling, to put it mildly. Macroeconomists use them only as convenient short-cuts to generate the requisite levels of volatility in endogenous variables....

It is not true that all macroeconomic models assume complete financial markets--quite the contrary.... However, few macroeconomic models capture an intermediate messy reality in which markets are incomplete but there are nonetheless many assets and/or asset trade is conducted through intermediaries. As a consequence, we don’t understand the sources (or costs/benefits) of large-scale daily (or even quarterly) financial asset re-allocation. In part, this omission reflects a belief among macroeconomists that this level of institutional detail was not essential for questions of interest. In part, it reflects the extreme difficulty in handling mathematical formalizations of these features of reality.... Again, recent events may well lead to a re-ordering of priorities...

Note: Narayana Kocherlakota is a defender of the enterprise. He thinks that everything is more-or-less fine.

But, he says, if you ask a modern cutting-edge macroeconomist why we are currently in a deep recession, he will say that he does not know:

Why do we have business cycles? Why do asset prices move around so much?... [M]acroeconomics has little to offer by way of answer to these questions...

He will say that that modern cutting-edge macro builds models that do attribute economic downturns to various causes:

[M]ost models in macroeconomics rely on some form of large quarterly movements in the technological frontier. Some have collective shocks to the marginal utility of leisure. Other models have large quarterly shocks to the depreciation rate in the capital stock (in order to generate high asset price volatilities)...

The models thus tell us that downturns are either the result of a great forgetting of technological and organizational knowledge, a great vacation as workers develop a sudden extra taste for leisure, or a great rusting as the speed with which oxygen in the air corrodes speeds up and so reduces the value of large things made out of metal.

But, Kocherlakota says, all of these causes that modern cutting-edge macro models investigate strike him as implausible just-so stories that do not illuminate--simply not to be taken seriously:

The sources of disturbances in macroeconomic models are (to my taste) patently unrealistic.... None of these disturbances seem compelling, to put it mildly...

And so, Kocherlakota says, nobody really believes them:

Macroeconomists use them only as convenient short-cuts to generate the requisite levels of volatility in endogenous variables...

This seems to me to be wrong. It does not seem to me that it really is the case that nobody really believes these just-so stories.

Ed Prescott of Arizona State University really does believe that large-scale recessions are caused by economy-wide episodes of the forgetting of the technological and organizational knowledge that underpins total factor productivity--with the exception of episodes like the Great Depression, which Prescott says was caused by the extraordinary pro-labor pro-union policies of that left-winger Herbert Hoover that pushed real wages far above equilibrium values.

Casey Mulligan of the University of Chicago really does appear to believe that large declines in the employment-to- population ratio are best seen as “great vacations”--when they are not the side-effects of destructive government policies, like those in place today which are leading workers to quit their jobs so they can get higher government subsidies to refinance their mortgages. (Yes, I know, I know.)

And Robert Lucas of the University of Chicago said in his Nobel Prize lecture that his:

discovery of the central role of the distinction between anticipated and unanticipated money shocks... [did not lead to] a satisfactory theory of business cycles. Perhaps in part as a response to the difficulties with the monetary-based business cycle models of the 1970s, much recent research has followed the lead of Kydland and Prescott (1982) and emphasized the effects of purely real forces on employment and production.12 This research has shown how general equilibrium reasoning can add discipline to the study of an economy’s distributed lag response to shocks, as well as to the study of the nature of the shocks themselves.... All one can be sure of is that progress will result from the continued effort to formulate explicit theories that fit the facts, and that the best and most practical macroeconomics will make use of developments in basic economic theory.

Things that strike Kocherlakota as “patently unrealistic” are not viewed as such by many of his modern cutting0-edge macroeconomic peers and colleagues, but rather as essential for "the best" and for "the most practical" macroeconomics.

Why are Kocherlakota's peers and colleagues so much more optimistic than he is? Why do they find these just-so stories in any way satisfactory?

## Wall Street Journal Crash-and-Burn Watch

Remarkable. Steve Benen:

The Washington Monthly: OBAMA 'PLEDGED' TO 'WORK WITH' THE RIGHT WING?.... The Wall Street Journal ran an odd piece today about conservatives' complaining about President Obama encouraging kids to do well in school. Jonathan Weisman and Ben Casselman reported:

The controversy, stoked by conservative talk-radio hosts and some politicians, took White House officials by surprise, and marked a new low in the deteriorating relationship between Mr. Obama and a right wing he had pledged to work with in a postpartisan presidency.

This, by the way, did not appear in an editorial, but rather, a straight-up news piece.

Now, I watched the presidential campaign pretty closely, and I don't recall Obama ever pledging to work with the right wing in a post-partisan presidency. It seems like the kind of pledge that would stand out. Eric Boehlert doesn't remember it, either.

To paraphrase Barney Frank, on what planet do Journal reporters Jonathan Weisman and Ben Casselman live? On what planet did candidate Obama ever "pledge" to work with the right wing; with "conservative talk show hosts"? On what planet did Obama make plain his desire to have any relationship with the nut jobs on the radical right who consider him to be a communist and a Manchurian Candidate sent to destroy America?

In truth, during the campaign, Obama did talk a fair amount about his willingness to reach out to Republicans, strike compromises, include GOP officials in his cabinet, etc. And, for good or ill, the president has followed through on his campaign commitments. He negotiated with Republicans on the stimulus; he supported scaling back cap-and-trade and earned GOP votes in the process; he's reached out to Republicans on health care; and he's put more members of the opposite party in his cabinet than any president in modern memory.

But the Wall Street Journal would have readers believe that Obama "pledged" to "work with" the same unhinged crazies who consider an inoffensive stay-in-school message scandalous. Indeed, the implciation is that Obama is somehow responsible for the fact that his most irate detractors aren't satisfied with his presidency.

Like far too much of the WSJ's coverage of the White House, that's literally unbelievable.

## Three Things Very Much Worth Reading From Martin Wolf

On the fallout from Lehman:

Do not learn wrong lessons from Lehman’s fall: “If the price of oil stabilises, I believe we can weather the financial crisis at limited cost in terms of real activity.” Thus did Olivier Blanchard, newly appointed head of the International Monetary Fund’s research department, describe the prospects ahead on September 2 2008. He was swiftly proved wrong.... Few economists then realised how fragile the global financial system had become. The failure of Lehman Brothers just under two weeks later and the ensuing crisis at AIG, the insurance giant, turned complacency into terror. The financial system plunged into an abyss, dragging the economy behind it.

What lessons are we to learn from this shock, a year later?... When finance ministers and central bank governors of the Group of Seven leading developed countries met in Washington last October, they decided to “take decisive action and use all available tools to support systemically important financial institutions and prevent their failure”. Desperate times; desperate measures. Since large financial institutions are most likely to fail during a crisis, this amounted to an open-ended government guarantee. What makes the decision quite unbearable is that it was, in my view, also correct. The risk of a cascading failure of the good, the bad and the ugly among financial institutions was apparent. Given what had happened after Lehman’s failure, only fools would have run this experiment. We were not that foolish. Thus, the lesson learnt from Lehman’s failure was the precise opposite of what many had hoped on the day it was announced: it is that every systemically significant institution must be rescued in a crisis. That lesson is reinforced by Wednesday’s agreement that the rescue, buttressed by unprecedented monetary and fiscal stimulus, has worked: the panic is over and the world economy is on the mend....

If these are indeed the sorts of lessons we draw, we are making huge mistakes. First, we cannot let stand the doctrine that systemically significant institutions are too big or interconnected to be allowed to fail in a crisis. No normal profit-seeking business can operate without a credible threat of bankruptcy.... The second big potential mistake is to return to the old doctrine that it is better to clean up after a crisis than to take any pre-emptive action.... The third big mistake is more immediate: it is to assume that we are already well on the way to a healthy recovery....

Letting Lehman go was not our biggest mistake. That was letting the economy and financial system become so vulnerable. Equally, the past year has restored neither the financial system nor the economy to health. We have avoided the worst. That is good. It is not enough.

On China's recovery:

Wheel of fortune turns as China outdoes west: China has emerged as the most significant winner from the global financial and economic crisis. At the end of 2008, many questioned whether China would achieve its growth target of 8 per cent in 2009. Who now dares to do so? Cushioned by its more than $2,100bn (€1,440bn, £1,260bn) of foreign currency reserves, huge trade and current account surpluses and a robust fiscal position, Beijing has been able to deploy all its levers over the financial system and the economy. Meanwhile, as one senior Chinese participant at the World Economic Forum’s annual meeting of “the new champions”, in Dalian, noted, “the teachers have made big mistakes”. Indeed, any visitor to Asia will recognise the west’s reputation for financial and economic competence is in tatters, while that of China has soared. The wheel of fortune is turning.... [H]owever successful China is in promoting domestic demand, it will not be the locomotive for the world economy. True, China’s merchandise trade surplus has indeed been narrowing: it was$35bn in the second quarter, 40 per cent lower than a year earlier. China’s current account surplus is also shrinking: it may be down to 6 per cent of gross domestic product this year, from 11 per cent in 2007. Yet, since it still only generates some 7 per cent of world output, China is too small to act as the world’s locomotive. Even halving its external surplus would add only 0.4 per cent to aggregate demand in the rest of the world...

On financial regulation::

Turner is asking the right questions on finance: Lord Turner is right to argue that... the fundamental issue is not structure, but philosophy. The UK authorities adopted the same view as the US: market forces guaranteed both efficiency and stability. They were wrong. Now that the view has changed, the upheaval caused by transforming the regulatory structure is unnecessary....

Now turn to whether the financial sector is “too large”.... [T]he sector enjoys subsidies from the state, via access to the lender-of-last-resort function of the central bank and explicit and implicit guarantees against insolvency. These need to be offset....

[H]igher capital requirements are far from a panacea. One danger is that banks may take on even more risk, to sustain high returns on equity. Another is that banks would again find a way around higher capital requirements....

That leads naturally to the “Tobin tax”. Obviously, it would have to operate in all significant financial centres. So the chance of its happening is zero....

Finally, how far are changes in the structure and levels of pay the answer? I agree with Lord Turner that “the honest truth is that bad remuneration policies, though relevant, were far less important in the unravelling of the crisis than hopelessly inadequate capital requirements against risky trading strategies”....

[T]he more one analyses both the debate and what is happening, the more difficult it is to believe that a safer and more responsible industry is emerging. I love Lord Turner’s willingness to raise difficult questions. But I am not persuaded that he, or anybody else, offers convincing answers.

I confess I do not understand in what way "bad remuneration policies... were far less important in the unravelling of the crisis than hopelessly inadequate capital requirements against risky trading strategies." I had thought that bad remuneration strategies produced the outsized risky trading strategies.

## Estimating the Effect of Stimulus: Just What Is Going on Here?

UPDATE: I owe an apology to Mark Sadowski: I plagiarized his comment. Please accept my assurances that I did so unconsciously.

Sigh: The Effects of the Obama Fiscal Stimulus Once Again: I thought the key passage to debunking the Cogan-Taylor-Wieland WSJ oped was the following:

"Of the entire $787 billion stimulus package, only$4.5 billion went to federal purchases and $17.7 billion to state and local purchases in the second quarter. The growth improvement in the second quarter must have been largely due to factors other than the stimulus package." I'm not sure exactly where these figures are coming from but let's assume they're correct. This would sum up to$22.2 billion in net new spending directly attributable to the stimulus. GDP in the second quarter was about $3.5 trillion. Thus$22.2 billion is about 0.62% of the second quarter GDP. However if we convert that to an annual rate that means that the net increase in government spending in the second quarter attributable to the stimulus added 2.5% to GDP growth in the second quarter or exactly the same amount as the average of the six vector autoregressions of the private forecasters and the CEA mentioned above.

Now, Cogan, Taylor and Wieland surely know this, but evidently they simply "forgot" to mention it.

Based on this evidence alone I think there were already sound reasons to disregard their article. The fact that they didn't even bother to perform any econometric analysis simply nails it.

@Neal, In my view the fundamental problem in the United States at least is to use discretionary fiscal stimulus to lift aggregate demand to the point that monetary policy has traction once again. One of the biggest problems in this regard has been the steady pounding aggregate demand has been taking from the six quarters of declining net asset balances and the resultant negative wealth effect. But the most recent release by the Federal Reserve shows an increase in net asset balances. I find this somewhat encouraging.

@Bill, Interestingly someone recently pointed out to me that consumer confidence rose sharply in April after the stimulus started to be doled out. Separating the psychological from the tangible may be difficult but if the stimulus' effects were mainly psychological wouldn't it have increased consumer confidence in February when it was signed into law?

On the other hand, it is worth noting that the freefall in business investment essentially stopped in February. Hmmm.

Me:

Cogan, Taylor, and Wieland claim that the stimulus isn't working--that it had no impact on second quarter GDP. Yet they also write:

John Cogan, John Taylor, and Volker Wieland: The Stimulus Didn’t Work - WSJ.com: Of the entire $787 billion stimulus package, only$4.5 billion went to federal purchases and $17.7 billion to state and local purchases in the second quarter. The growth improvement in the second quarter must have been largely due to factors other than the stimulus package... Nobody disputes that if that federal spending hadn't been there federal spending would have been lower by$4.5 billion. Nobody disputes that if that aid to the states hadn't been there state spending would have been lower (or taxes higher) by $17.7 billion. That's$22 billion in extra spending in the second quarter... that's 0.6% of second quarter GDP... to boost second quarter GDP by 0.6%... that's a 2.4% per year boost to the annual GDP growth rate.

What is the Obama administration claiming as the effect in the second quarter of their expansionary fiscal policy? 2.3%.

Just what is going on here? Just what do they think they are doing?

## Worst Think-Tank Fellows of All Time: Kevin Hassett and James K. Glassman

And, of course, a worst think-tank award of all time to the American Enterprise Institute for paying them a salary.

Let's turn the mike over to Barry Ritholtz:

This book will convince you of the single most important fact about stocks at the dawn of the twenty-first century: They are cheap….If you are worried about missing the market’s big move upward, you will discover that it is not too late. Stocks are now in the midst of a one-time-only rise to much higher ground–to the neighborhood of 36,000 on the Dow Jones industrial average.

Glassman and Hassett, introduction, Dow 36,000

Call it the audacity of cluelessness: Let us congratulate James K. Glassman and Kevin Hassett, the authors of the incredibly money losing advice in their book Dow 36,000, on their 10 year anniversary. The book forecast that lofty number would be obtained in 3 to 5 years; it was  published precisely 10 years ago today.

In the ensuing decade since this book (and I use the term lightly) was published, the Dow is still below where it was 10 years ago, rather than tripling in price. The Nasdaq remains more than 60% below its highs of one decade ago.

I tried to read the book as a history lesson, but it was, to be blunt, unreadable. I got through enough to learn the basic argument they made: Stocks have been undervalued for decades, and over the ensuing years, we should expect a dramatic one-time upward adjustment in stock prices. Why? People were about to figure out what only these two geniuses already knew (hubris anyone?)...

## Todays Worst Politician: Mitt Romney

If the TARP and the stimulus package are eventually judged a failure, Mitt Romney supported them in the fall of 2008. If the TARP and the stimulus package are eventually judged a success, Mitt Romney opposed them in the fall of 2009.

Does anybody else think that this guy is just in the wrong line of business:

Matthew Yglesias:

Matthew Yglesias: Shocking News — A Mitt Romney Flip-Flop!: Dave Weigel points out that Mitt Romney is now slamming the TARP bill that he once favored. Shocking to see that guy change his position on something. But, Romney aside, it’s striking to see the number of conservatives who’ve decided that an initiative proposed by George W. Bush and Hank Paulson and endorsed by the GOP congressional leadership was and is secretly some socialist plot. Similarly with the idea that Ben Bernanke, former Bush administration official, is running some sort of rogue left-wing operation at the Fed. Obviously the economy’s still in a bad position today, but the evidence really does indicate that the whole suite of recovery measures (stimulus, TARP, Fed programs) are having the desired effect and things are turning around. I think this strategy of opportunistically pretending to have opposed this stuff could really come around to bite the right in the butt if things are looking better in 12 months, and I think it’s very likely that things will be looking better in 12 months.

## Hoisted from Comments: Notre Dame's Economics and Policy Analysis Department, Mont Pelerin, etc.

Hoisted from Comments: John Emerson writes:

Department of "Huh?": Those of us who want to believe the worst of the economics profession get a new gift almost every day.

[Re:]

Ideologically, the neoliberal position is understandable as anti-statist. Certainly, this was Hayek's intent...

Mirowski's (with othrs) book "The Road From Mont Pelerin" argues that this is not true. He defines neoliberalism in terms of its differences from classical liberalism, one of which is a belief that an authoritarian state might be necessary at times to foster liberalism, as in Chile.

Let me agree with Emerson and Mirowski. The way I read Hayek, it is quite clear that (a) liberal democracy and (b) respect for private property are both good things, but it is also clear that (b) is by far the most important.

Hayek would much rather have a government that respected private property and ruled with an iron fist as a dictatorship than have a government that was a vibrant democracy but interfered with and regulated private property. And he would make his choice with a clear conscience--the second, after all, was on the "road to serfdom"...

## Washington Post Crashed-and-Burned-and-Smoking Watch: Mike Getler Says It's the Editors' Fault

Michael Getler: The Washington Post's biggest problems between 2000 and 2005 were named Len Downie, Liz Spayd, and Fred Hiatt: they were the wrong editors in the wrong places at the wrong time.

Dan Froomkin:

Watchdog Blog » Blog Archive » ‘A Failure of Editors’: Michael Getler – who was Washington Post ombudsman from 2000 to 2005... blames the editors.... In an article for Michael Tomasky’s Democracy: A Journal of Ideas.... What Getler saw from his “catbird seat” was

a failure of editors and editing up and down the line that resulted in a focus on getting ready for a war that was coming rather than the obligation to put the alternative case in front of readers in a prominent way. This resulted in far too many stories, including some very important ones, being either missed, underplayed, or buried....

Getler also points out that it helps if the editors know what they’re taling about. He writes that editors

need to be experienced and informed so that when they gather around story conference tables to decide what goes on Page A1, they are able to argue with authority about the value of their stories. They need to understand that in extreme national circumstances, stories based on anonymous sources must compete with and be treated equally at times with the pronouncements of a president.... My sense is that what ailed the Post most in its coverage was not having the right editors in the right places at the right time.

Getler also notes that much of what these editors overlooked was in plain sight:

Some examples: In the summer and fall of 2002, the paper failed to record promptly the doubts of then-House Majority Leader Dick Armey. When Brent Scowcroft, the national security adviser to George H.W. Bush, wrote a cautionary op-ed in The Wall Street Journal, it apparently didn’t strike anyone at the Post as news. A rare Senate Foreign Relations Committee hearing on containment rather than war—that the administration refused to provide witnesses for—got a few paragraphs at the bottom of a story. The testimony of three retired four-star generals warning against an attack before the Senate Armed Services Committee was not covered at all. Speeches by Senator Ted Kennedy and Senator Robert Byrd that seem prescient today were not covered.... Large anti-war rallies in London and Rome went unreported the day after. In October, when more than 100,000 gathered in Washington to protest the war, the story went in the Metro section because the Post underestimated its size.

Then there was what Getler calls the “Page A18 problem”:

Here’s a brief sampling of... Post headlines that, rather stunningly, failed to make the front of the newspaper: “Observers: Evidence for War Lacking,” “U.N. Finds No Proof of Nuclear Program,” “Bin Laden-Hussein Link Hazy,” “U.S. Lacks Specifics on Banned Arms,” “Legality of War Is a Matter of Debate,” and “Bush Clings to Dubious Allegations About Iraq.” In short, it wasn’t the case that important, challenging reporting wasn’t done. It just wasn’t highlighted....

Getler ends with a plea that will be familiar to regular readers of this Web site: That this failure be re-examined, so that the proper lessons can be learned.

## Why Friends Don't Let Friends Vote Republican

Lee Fang on Texas Republican governor Rick Perry:

Think Progress: Gov. Perry laughs off recession: ‘We’re in one?’: Speaking to the Houston Chamber of Commerce on Thursday, Gov. Rick Perry (R-TX) discounted the fact that Texas is in a deep economic downturn. In an anecdote to the assembled business leaders, Perry quipped that when he was approached with a report on recovering from the recession, he replied, “We’re in one?“:

PERRY: Why is Texas kind of recession-proof, if you will? As a matter of fact, just today I think, Michael, you said someone had put a report out that the first state that’s coming out of the recession is going to be the State of Texas. I told him, I said, ‘We’re in one?’

The unemployment rate in Texas is up from 4.4% at the end of 2006 to 8.0% today.

## The Intellectual Bankruptcy of the Chicago School Infests St. Louis -or- The Huffington Post Needs a Better Quality Control Filter Rather Badly...

The Huffington Post simply shouldn't be publishing things like this. The Huffington Post should do better. It owes its readers. And we know that it can do better.

The kindest interpretation I can give what Washington University in St. Louis economist David K. Levine has written is that he is fundamentally confused between levels and derivatives.

David K. Levine:

David K. Levine: An Open Letter to Paul Krugman: Crises have been ubiquitous throughout history. While we can't forecast them we do know how to learn from them.... But the stimulus plan? How can you be arguing for more? Since we are recovering before most of the stimulus money has entered the economy - isn't that evidence it isn't needed? How can you write as if you are proven right in supporting it?

Oh boy. Let's see how far I can get with this...

This chart shows what has happened to the civilian adult employment-to-population ratio. That ratio peaked at 63.4%[1] at the end of 2006. It was 59.2% as of mid-August and is probably 59.0% now--and if not now, soon.

A well-functioning labor market--one not deep in market failure--matches workers looking for jobs with jobs looking for workers. A well-working labor market will keep both the number of unemployed and the number of vacancies together in balance, and at relatively low values.

That is not what is happening now.

The number of vacancies--jobs for which employers are actively searching for workers but have not found any to hire yet--is very small. The number of unemployed--of people who want to hold jobs and are qualified to hold jobs--is very high. The result is that some 4% of the 18-65 population that in a normal time would have jobs is now jobless. This is a massive market failure: supply is not matched to demand. And the welfare costs of this elevated degree of market failure are very high: the excess people without jobs are not happy people taking great vacations. They are, rather, stressed out: give them their old jobs back for 3/4 of their old pay without consequences for their likely incomes in future years and they would be ecstatic.

David Levine says that the government should not do anything about this market failure. Right now "we are recovering," he writes. And he believes that because we are recovering activist governmental policies to deal with this collapse in the employment-to-population ratio are unwarranted.

Note, however, three things that "we are recovering" does not mean:

• It does not mean that macroeconomic market failures are small, or are rapidly being reduced to "normal" levels.
• It does not even mean that the magnitude of the macroeconomic market failures is falling--for every competent foreaster expects that the employment-to-population ratio will continue to decline, perhaps for a substantial time, even though it is highly likely that the NBER's final business cycle chronology will declare that we are now in a "recovery" phase of the business cycle..
• It does not mean that monetary and fiscal policy tools to compensate for, repair, or correct those macroeconomic failures have lost any of their juice or are no longer appropriate--they remain appropriate and necessary as long as the macroeconomic market failures remain elevated.

What "we are recovering" means is that:

• the magnitude of macroeconomic market failures--which are well-measured by the gap between the employment-to-population level and its normal level--are now no longer growing rapidly but instead only growing slowly. Things are still getting worse. But at least they are not getting worse rapidly.

As long as the gap between the current employment-to-population ratio and its normal level remains large, policies to compensate for, repair, or correct macroeconomic market failures are entirely appropriate.

For Levine to think that such policies should be abandoned just because macroeconomic market failures are no longer growing rapidly reflects a deep incomprehension of the discipline of economics. Things that Irving Fisher, Knut Wicksell, and in a later generation Milton Friedman knew very well indeed are things that David Levine simply does not understand.

Now there are deeper and more subtle questions for economists to to analyze right now. For example, in this situation:

1. How stimulative should monetary policy be when the employment-to-population ratio is as far below normal levels as it is now?
2. Can conventional monetary policy do the job--or do as much of the job as can be usefully done?
3. Under what circumstances should conventional monetary policy be supplemented?
4. And what policies should supplement it--quantitative easing, public purchase of risky assets, bank recapitalization, informal government guarantees, formal government guarantees, fiscal expansion, scattered nationalizations, full nationalization of the financial sector, or the acquisition of all financial and industrial assets by the government and the rational arrangement of economic affairs according to a common plan?

These are knotty and complicated questions about which competent economists can (and do!) argue, and about which competent economists can (and do!) disagree on matters of theory, on the weight of the empirical evidence, and of policy.

But you cannot have a fruitful discussion about any of those issues with David K. Levine. Someone so clueless that he thinks that the end of a period in which macroeconomic market failures are growing rapidly entails that the policies to compensate for, repair, and correct those market failures should be stopped right now is simply not in our galaxy.

[1] A level it attained without, mind you, a single sign that any worker was in any sense "fooled" into taking a job because of an erroneous misperception that his or her real wage was higher than it was in fact. See Krugman http://tinyurl.com/dl20090919a.

## Best Play I Have Ever Seen at the California Shaxpur Theater...

...is their current production of "A Midsummer Night's Dream." Doug Hara, as Puck, is a God...

## Ryan Grim's Victory Lap: Three Cheers for the Huffington Post!! Department

Good work at the Huffington Post!

Baucus Bill Sticks To Pharma Deal That Supposedly Wasn't Struck: the Baucus bill matches up, nearly to the letter, with the secret deal that he, the White House and Big Pharma struck over the summer -- a deal the various parties roundly denied had been struck when it went public. In August, the Huffington Post published a memo that outlined exactly what each side was going to do for the other. And Big Pharma was getting a lot more than they were giving up. Pharmaceutical Research and Manufacturers of America senior vice president Ken Johnson said that the outline "is simply not accurate." White House spokesman Reid Cherlin concurred: "This memo isn't accurate and does not reflect the agreement with the drug companies." But now that the bill is out, let's fact check those denials...

I recall Ryan getting enormous amounts of pushback from established media types on how it was "unethical" for him to publish the story: both the White House and Pharma had denied it, and Ryan's source insisted on remaining anonymous.

It turns out that the denials were not so: the claims that "the memo was inaccurate" were references to:

Companies will be assessed a tax or fee that will score at $12 billion... While, in fact, it appears that the White House-Pharma deal as instituted in the legislative language of the Baucus bill calls for a fee twice as large. That's it. That's what White House spokewman Reid Cherlin meqnt when he said "the memo... does not reflect the agreement with the drug companies" and what Phrma's vice president meant when he said the memo "is simply not accurate". In fact, the memo was accurate--with the exception of a$2.3 rather than a $1.2 billion annual tax. People who read things from Ken Johnson and Reid Cherlin in the future should beware. People who read things from Ryan Grim in the future should take note. ## History of Macroeconomics Paul Krugman asks an important question: the mid-1970s were a key "agonizing reappraisal" moment for the MIT macroeconomists. Why weren't the early 1980s the same for the Chicago macroeconomists? Or were they? Paul Krugman: Memories of the Carter Administration - Paul Krugman Blog - NYTimes.com: The late 1970s was when macroeconomics experienced its great divide.... As I remember it, it all began with the [Edmund] Phelps [ed.] volume: Microeconomic Foundations of Employment and Inflation Theory.... Keynes (and, for that matter, Milton Friedman) argued that a decline in aggregate demand due to, say, a fall in the money supply would lead to a fall in employment and output--and experience showed that they were right. Yet standard microeconomic theory implies that production should respond only to changes in relative prices... that money should be “neutral”: a 20 percent fall in the money supply should lead to a 20 percent fall in the overall price level, but no change in output or employment. Phelps and others tried to explain why the economy looks so Keynesian in terms of imperfect information: workers and firms respond to a change in the price level as if it were a change in relative prices, because they can’t at first tell the difference. Over time, however, they will realize their mistake--so that, for example, a rise in the inflation rate will reduce unemployment at first, but won’t do so on a sustained basis, because eventually inflation will get built into expectations. So the new theory predicted the emergence of stagflation.... But where do expectations come from? Robert Lucas married Phelps-type models of employment with rational expectations... that people... use all available information to make predictions. And this led to a startling conclusion.... Only surprise changes in, say, the money supply matter – which means that you can’t [systematically] use monetary or fiscal policy to stabilize the economy. The Lucas view took the economics profession by storm – not because there was any solid evidence for it, but because it was so clever, because it led to nice math, because it let macroeconomists give in to their inner neoclassicists. But by the late 70s it was already clear that rational expectations macro didn’t work. Why? Because people have too much information.... [In the Lucas story] a contraction in the money supply can produce a recession... only as long as people don’t know that there’s a recession! You see, if people do know that there’s a recession, they know that the low prices they’re being offered reflect low overall demand.... [Lucas] models broke down... as soon as you let people... [look] at interest rates, or reading a newspaper.... [R]eality... is that recessions persist long after everyone knows that there’s a recession... [when] the confusion required by Lucas-type models is long since gone.... [B]y 1980 or 1981 it was... clear... that the Lucas project--the attempt to explain the evidently Keynesian behavior of the economy in terms of nothing but imperfect information--had failed.... [M]acroeconomic theorists... split. One faction... “OK: we can’t explain what we think we see in terms of full maximization. So we have to assume that there are some limits to maximization – costs of changing prices, bounded rationality, whatever.” That faction became New Keynesian, saltwater economics. The other faction... “OK: we can’t explain what we think we see in terms of full maximization. So we must be interpreting the data wrong--things like changes in the money supply must not be driving recessions, because theory says they can’t.” That faction became real business cycle, freshwater economics. But... the freshwater school no longer remembers any of that – largely because they purged Keynesian and even monetarist thought from their classes. All they know is that Keynesianism was “disproved”, and that none of it--not even New Keynesian models with rational expectations (an approach which, as Greg Mankiw says, “provides a rationale for government intervention in the economy, such as countercyclical monetary or FISCAL POLICY.”)--is worth listening to. So that’s how we got to where we are today. ## The Ultimate "Slippery Slope" Argument James Fallows writes: Thomas de Quincey on slippery slopes - James Fallows: Profundity from the author of Confessions of an English Opium-Eater: If once a man indulges himself in murder, very soon he comes to think little of robbing; and from robbing he comes next to drinking and Sabbath-breaking, and from that to incivility and procrastination. Once begin upon this downward path, you never know where you are to stop. Many a man has dated his ruin from some murder or other that perhaps he thought little of at the time. Principiis obsta-that's my rule. Principiis obsta -- resist the first inklings, "nip it in the bud" -- is of course the slippery-slope concept with a college degree. Thanks to J. Stein, even though this one does not win the "most convincing real world example of a slippery slope" award. More to come. ## Bruce Bartlett on Irving Kristol and the Public Interest He writes: Remembering Irving Kristol: I didn't know Irving Kristol well, but I knew him for a long time. There are many people who can say the same thing. He was the central figure in the post-Watergate revival of conservatism and the Republican Party. Sadly, the "movement" that he created, neoconservatism, is pretty well dead.... In the 1960s Kristol recognized that conservatism desperately needed to be grounded on serious social science if it hoped to influence public policy and, hence, politics. Kristol founded a small quasi-academic journal called The Public Interest to build the foundation of a social science-based conservatism. I say "quasi" because, annoyingly to me, it refused to have footnotes or references in its articles. One of Kristol's most important insights was that there were many academics who had generally liberal views, but came to conservative conclusions on some specific issues like crime, housing, race, labor, taxes and many others. He got them to write articles on these subjects, gradually building an impressive body of research that added depth and breadth to the conservative literature. At the time, conservatism was very narrowly focused on anti-communism and futile efforts to repeal the New Deal. Conservative publications only published the work of people who were part of the movement and held conservative views on every issue.... This led to the excommunication of libertarians, objectivists, atheists, isolationists and others that were part of the right, but held views on one or more issues that were inconsistent with the conservative positions of Bill Buckley and the rest of the National Review crowd. The extreme Catholicism of that crowd also tended to push Jews away from conservatism. Kristol embraced these conservative Jews who felt uncomfortable among the dogmatic Christian conservatives. Eventually, he was joined by Norman Podhoretz, the longtime editor of Commentary, who pushed that magazine well to the right of its traditional base among liberal Jews. The first clips of Kristol's articles in the Wall Street Journal that I have in my files date from 1976, so that's probably when I first became aware of his work. I don't remember when I first met him, but it was probably the following year when I was working for Jack Kemp.... It's important for people to understand that in those days neoconservatism was almost exclusively devoted to domestic, especially urban, issues. There was nothing in The Public Interest on foreign policy.... What we call neoconservatism today, which more closely resembles imperialism than anything else, was nowhere in evidence. As Kristol slowly built the foundation of neoconservatism on solid social science research, it became clear that it needed a political outlet.... Although many, perhaps most, early neocons were Democrats--Daniel Patrick Moynihan in particular--Kristol threw in with the Republicans. In the wake of Watergate they were more desperate and in need of intellectual firepower. This meant that there were many more opportunities for neocon ideas to advance.... To make a long story short, Kristol was extraordinarily successful; so successful, in fact, that The Public Interest ceased publication in 2005. He felt that the journal had pretty much achieved all it set out to do and was no longer necessary. Its subscribers received copies of Commentary to fill out their subscriptions. In the years since, it became clear that Kristol's decision was wrong. There is still a need for serious conservative social science research that has no other publication outlet. Commentary is now just a highbrow version of National Review, which is just a glossy version of Human Events, which has become a slightly less hysterical version of nutty websites like WorldNetDaily. The Wall Street Journal editorial page and the Weekly Standard, founded by Kristol's son Bill, just parrot the Republican Party line of the day. The intellectual bankruptcy of conservatism today is even greater than it was when Irving Kristol founded The Public Interest in 1965. What passes for a conservative movement these days wears its anti-intellectualism as a badge of honor. But as Kristol correctly understood, right-wing populism has no future and fundamental changes in the direction of government policy must be based on serious research and analysis that is grounded on hard data; that is to say, reality. There is a now a new journal called National Affairs that aspires to fill the gap left by the demise of The Public Interest. It's too soon to say if it will do so, but it has done an enormous public service by making all of the archives of The Public Interest freely available on the Internet. I urge people to delve into them. I think they will be amazed that there were once a group of serious conservative scholars in this country who weren't crazy or completely in the pockets of the Republican Party or some corporate interest. The archive is available here: ## links for 2009-09-19 • I have to say, if I’d been saying stuff like this..., I’m not sure I’d be making myself the poster boy for the “freshwater” defense against Paul Krugman:... “Nobody else gets hurt if you buy a lousy mortgage pool,” Cochrane said. “The government doesn’t need to write a new rule every time someone buys a rotten tomato. Investors will demand the right amount of transparency, complexity, and risk-sharing – or monitoring of mortgage pools – unless they all get bailed out and learn to count on a bailout instead.”... Obviously, only a very small proportion of the people who’ve lost their jobs during the recent recession actually bought lousy mortgage pools. Apparently in the real world bad decision-making on the part of a relatively small number of key players at financial institutions. One might have thought this was obvious from such historical incidents as “every financial panic in human history” but perhaps not. • For a long time, I took questions about stifling innovation very seriously. So did a lot of liberals. But then I realized that the people making those arguments wanted to do things like means-test Medicare, or increase cost-sharing across the system, and generally reduce costs in this or that way, which would cut innovation in exactly the same way that single-payer would hypothetically cut innovation: by reducing profits. I also found that I couldn't get an answer to a very simple question: What level of spending on health care was optimal for innovation? Should we double spending? Triple it? Cut it by 10 percent? Simply give a larger portion of it to drug and device manufacturers? I'd be interested in a proposal meant to maximize medical innovation. I've not yet seen one. It turned out that concerns about innovation weren't really about innovation at all. They were just about attacking universal health care ideas of a certain sort. Which is why I stopped taking them seriously. • THEY'RE still high. News outlets may trumpet that they feel by more than expected, to 545,000, but the numbers continue to be where they've been, more or less, since the beginning of July. That's nearly three months with no significant improvement. As usual, Calculated Risk has the helpful chart. The only real bright spot is that fairly soon, weekly claims will be below their year-ago level. But that's because a year ago claims were rising, not because current claims are falling. Other economic indicators continue to show real improvement, which suggests that it will take strong growth to really end the job losses, and sustained strong growth to pull down unemployment. Now, who sees sustained strong growth in the offing? • “If, on the other hand, structured notes, CMOs [collateralized mortgage obligations] and exotic options do not fill a void – do not help to ‘complete the market’ as economists would say – then they will be gone for good. And their demise should be regarded not as a social cost, but as one of the social benefits of recent derivatives disasters. In short, a vivid demonstration (if one more were needed) that our financial markets and institutions are fully capable of recognizing and rejecting ‘toxic waste’ without intervention by government regulators” -- Merton Miller on Derivatives (1997) • Brooks is entitled to his opinion that the grassroots protestors are not motivated by personal animus for Obama, or that their animus is not driven, even partially, by race or xenophobia. But anyone who gets paid to write for a living owes his readers a more honest effort to prove that point than just riffing on what he learned from a five-minute jogging break, and a long digression on the history of agrarian populism that the one author he cites disagrees with. • Download now or preview on posterous 20090917 115.pdf (1321 KB) ... ## Irving Kristol in His Own Words, R.I.P. Irving Kristol explains where the economics articles he published in The Public Interest came from: Among the core social scientists around The Public Interest there were no economists.... This explains my own rather cavalier attitude toward the budget deficit and other monetary or fiscal problems. The task, as I saw it, was to create a new majority, which evidently would mean a conservative majority, which came to mean, in turn, a Republican majority - so political effectiveness was the priority, not the accounting deficiencies of government... ## The Curse of RIchard Nixon and Barry Goldwater, Part CCCLXIII Boy, are we all in trouble. The Curse of Nixon and Goldwater does not just afflict the Republicans. Silbey: Worse « The Edge of the American West: This chart, gratuitously stolen from Steve Benen at The Washington Monthly, suggests strongly that political discourse in the United States is going to get worse rather than better. We have the perfect storm: an African-American President and an opposition party whose concerns, language, and obsessions is driven largely by the concerns, language, and obsessions of the American South. Those ideas–racial, cultural, martial–are what is going to drive the GOP until they escape their regional status. Jimmy Carter well knows this, and it is no coincidence that the current poster child for Republican obstructionism is South Carolina. We may date the finish of the Civil War to 1865, but the conflict has never really ended. ## In Which We Nominate Kenneth Almquist to the Order of Heroes of Intellectual Labor, Third Class Hoisted from Comments: Kenneth Almquist writes: Calling Milton Friedman: Economists Have Always Built Models in Which Aggregate Planned Expenditure Is Not Equal to Income Department: Wow, I guess I deserve an award for actually having made it to the end of Cochrane's diatribe. Paragraph 25 nearly did me in: "If you believe the Keynesian argument for stimulus, you should think Bernie Madoff is a hero." Quick advice: do not, under any circumstances, try to count the number of ways in which this is wrong. Suffice it to say that for most people, the question of whether running a Ponzi scheme is morally wrong is a fairly simple question--one that can be answered in the affirmative without disproving Keynesian economics first. Fortunately, Cochrane quickly returns to economics, and there he does much better: "If you believe the Keynesian argument for stimulus, you don’t care how the money is spent." That's wrong, of course, because if you pay people to dig ditches and fill them up again, you get an economic stimulus, but if you instead pay people to produce something that will be useful at a later time, you get the same economic stimulus, but get something useful in addition. Therefore, you are better off if you pay people to produce something useful. But at least Cochrane is only wrong once in this sentence. If Cochrane's career options were limited to economics and moral philosophy, he clearly made the right choice. ## Hoisted From Comments: The Donald Luskin Paradox Andrew Leonard wrote:: Andrew Leonard: Stock tips from the stupidest man alive: I therefore invoke the Luskin-is-always-wrong rule of economic forecasting... Anderson comments: This would not make his the stupidest man alive; it would in fact make it possible to forecast with 100% accuracy on the basis of his pronouncements. Luskin's stupidity is more along the lines of 100 monkeys at 100 keyboards, producing economic forecasts. ## *Sigh*: The Effects of the Obama Fiscal Stimulus Once Again Gerard writes, in comments: "The Childish Babbling of a Say...": I think it is totally appropriate to pick on the ridiculous and seemingly childish claims made by John Cochrane. But I am surprised at the lack of comment, so far, on the nonsense that John Taylor et al presented on the op-ed page of the WSJ today. The main problem with the piece is well highlighted by economists at Goldman, so I will just quote their most relevant passage. Our second problem with the Cogan-Taylor-Wieland analysis is the absence of a serious attempt to construct a counterfactual baseline – the path the economy or some part of it would have followed in the absence of fiscal stimulus. Analytically, this is a much more serious issue than the lack of sufficient data availability, which will take care of itself. Nobody can know for sure what the baseline is, but it is incumbent on economists claiming either an effect from stimulus or the absence of one to provide some defense of the implied alternative path... The Goldman Sachs analysis nails it. The betting among the forecasting community is that in the absence of the stimulus consumption would not have held steady in the second quarter but would have fallen significantly, and state and local government spending would not have held steady but would have fallen significantly. The absence of a counterfactual no-stimulus baseline makes the Cogan-Taylor-Wieland argument at best incoherent. It is also simply--in context--bizarre. You plot Cogan-Taylor-Wieland's estimates of the effects of the stimulus against those of other forecasters[1]: And the Cogan-Taylor-Wieland estimate looks very strange indeed. As forecaster--and former deputy economic adviser to John McCain--Mark Zandi says: I don't think it's any accident that the economy has gone out of recession and into recovery at the same time stimulus is providing its maximum economic impact... Other Republican-leaning economists also disagree with Taylor et al.: Douglas Holtz-Eakin former chief economic adviser to John McCain: David Weigel, August 7, 2009: Douglas Holtz-Eakin: ‘No One Would Argue That the Stimulus Has Done Nothing’: Republicans are pushing back hard against today’s unemployment report, which showed a lowerr-than-expected 247,000 new jobless and the overall unemployment rate falling 0.1 points to 9.4 percent.... Holtz-Eakin challenged Democratic rhetoric about the effect their policies have had in mitigating economic problems, though he allowed that “no one would argue that the stimulus has done nothing”... Phil Swagel, former Assistant Secretary of the Treasury under George W. Bush: It's starting to play a role, helping us to have slightly positive rather than slightly negative GDP growth. It's a gigantic amount of fiscal stimulus, and anyone who tells you it has had no impact, you should be skeptical of... Let me add three points: First, right-wing pieces that serve Republican political interests that are published on the Wall Street Journal op-ed page should always be regarded with grave suspicion. Their appearance in that venue guarantees that they must be relatively weak arguments. Such right-wing pieces have much less impact ghettoized in the WSJ editorial section than they would have elsewhere. So people who can get them published elsewhere do so. The WSJ op-ed page will publish literally anything--there is no quality filter at all. Second, virtually every builder of structural macro models besides Taylor and company (see, for example, the survey Douglas Laxton http://tinyurl.com/dl20090918a) finds that the test of whether expansionary fiscal policy is successful lies in what happens to interest rates: if interest rates rise far and fast in response to an expansionary fiscal policy it is probably ineffective; otherwise it is effective. Interest rates have not risen far and fast in response to Obama policy. Third, when I asked Taylor why his results were in such disagreement with those of others--Macroeconomic Associates, Mark Zandi, Phil Swagel, Douglas Holtz-Eakin, Doug Elmendorf, IHS, Goldman Sachs, Morgan Chase--he replied that they were simply repeating forecasts that they had made last winter and had not taken a look at the numbers. [1]From: ##### http://www.whitehouse.gov/assets/documents/CEA_ARRA_Report_Final.pdf ## links for 2009-09-18 ## Background in World History for Econ 115: 101 Events and 101 Videos/Pictures You should know all about these *before* you start taking this course--but if you don't, take a look... ### 101 Events in Background World History  Year Key Events 1896 William Jennings Bryan [D] loses U.S. election to William McKinley [R]http://www.youtube.com/watch?v=HeTkT5-w5RA 1896 Large-scale gold mining in South Africa's Witwatersrandhttp://www.mindat.org/photo-158996.html 1899 Start of the Boer Warhttp://www.youtube.com/watch?v=6Rvz6O1vPWU 1901 Assassination of McKinley; Theodore Roosevelt becomes President of the United Stateshttp://lcweb2.loc.gov/pnp/cph/3a00000/3a08000/3a08600/3a08686r.jpg 1905 U.S. Supreme Court decides Lochner case: Constitution held to enact Herbert Spencers's “social statics”http://www.pbs.org/wnet/supremecourt/capitalism/landmark_lochner.html 1910 Start of Mexican Revolutionhttp://www.youtube.com/watch?v=lbUw_GCskog&feature=PlayList&p=BF8C75DD02E5CE25&index=0&playnext=1 1911 Overthrow of the Qing Dynasty; declaration of the Chinese Republichttp://en.wikipedia.org/wiki/File:Xh1.jpg 1912 Theodore Roosevelt splits Republican Party; Woodrow Wilson [D] elected President of the United Stateshttp://www.youtube.com/watch?v=yb30L-NmKjo 1914 Start of World War I: France, Britain, Italy (from 1915), Russia (until 1917), and America (from 1917) vs. Germany, Austria, Turkeyhttp://www.youtube.com/watch?v=kZPiaSYmj_4&feature=related 1917 Kerensky's Russian Revolutionhttp://www.youtube.com/watch?v=mMGrIwLj7gUhttp://www.youtube.com/watch?v=QdpEaPxNW0g&feature=related 1917 Lenin's Russian Revolution in October (really November)http://www.youtube.com/watch?v=iGE6T3SRNAs 1918 End of World War I; overthrow of the German Emperor (“Kaiser”); establishment of the “Weimar Republic”http://www.youtube.com/watch?v=ABZcclM38jo&feature=PlayList&p=240BAFEB607EFFE1&index=27http://www.history.stir.ac.uk/img/site-images/flagofweimar.jpg 1919 Communist uprising in Germany: “Spartikist Rebellion”http://en.wikipedia.org/wiki/File:Bundesarchiv_Bild_102-00540A,_Berlin,_Revolutionskämpfe.jpg 1919 Treaty of Versailles to settle affairs after World War Ihttp://static.guim.co.uk/sys-images/Guardian/Pix/pictures/2008/11/13/VersaillesLeaders460.jpg 1919 Jallianwala Bagh Massacrehttp://www.youtube.com/watch?v=J-wKcDkpqHE 1921 Lenin adopts the “New Economic Policy”: a small-scale return to the markethttp://faculty.unlv.edu/pwerth/NEP-Lenin.jpg 1922 Mussolini marches on Rome; establishes first fascist regimehttp://www.youtube.com/watch?v=4mF4ZjJ88wU 1923 French and Belgian troops occupy Germany's Ruhr Valley to try to force reparations paymentshttp://www.youtube.com/watch?v=jUa5h6C4-j4 1923 End of German hyperinflation:$1 = 4,000,000,000,000 RMhttp://dakiniland.files.wordpress.com/2009/05/inflation-1923.jpg 1923 German World War I General Erich Ludendorff and Adolf Hitler attempt coup--”Beer Hall Putsch”http://www.youtube.com/watch?v=J-BjUFV-aPs&feature=PlayList&p=7C19E39CBB61FAE2&index=8 1924 Death of Leninhttp://www.youtube.com/watch?v=YJU5H7sqQTc 1925 Death of Sun Yatsenhttp://nhs.needham.k12.ma.us/cur/Baker_00/2001_p6/baker_js_p6/Intro.jpg 1925 Great Britain returns to the gold standardhttp://3.bp.blogspot.com/_wmz32xeNKtU/SpldujLl5vI/AAAAAAAABJE/FP0tn7TdKkg/s400/British+Pound+1900-1939+chart.PNG 1926 General Strike in Great Britainhttp://unionbadges.files.wordpress.com/2008/11/british_worker.jpghttp://www.youtube.com/watch?v=nOal1HYlRag 1927 Chiang Kaishek's Kuomintang double-crosses his Communist allies; massacres in Shanghaihttp://www.youtube.com/watch?v=5sa3qY4m1Ps 1927 Stalin expels Trotsky, Zinoviev, and Kamenev from the Communist Partyhttp://www.youtube.com/watch?v=jfmSPYDb0FQ 1928 Chiang Kaishek launches “Northern Expedition”http://www.coverbrowser.com/image/time/563-1.jpg 1928 Launching of first Five Year Plan in the Soviet Union 1929 http://www.youtube.com/watch?v=oXGThPeOJu4http://www.youtube.com/watch?v=S69s8YyJMlMDrive to “collectivize” agriculture in the Soviet Union: start of terror-famine in the Ukrainehttp://pmeyer.web.wesleyan.edu/206/Derevnia.jpghttp://www.hawaii.edu/powerkills/RM3.S.FACE.OF.FAM.JPGhttp://www.youtube.com/watch?v=K2sugMM9y3Q&feature=related 1929 The Wall Street stock market crash; start of the Great Depressionhttp://www.youtube.com/watch?v=IWrX6kC9Nhs 1930 Gandhi's “Salt March”http://www.youtube.com/watch?v=dsBHeBXt5Qk 1931 German Social Democratic Party rejects proposals to plan a “New Deal” for Germanyhttp://www.spartacus.schoolnet.co.uk/GERhilferding.JPG 1932 Election of Franklin Delano Roosevelt in the United Stateshttp://www.youtube.com/watch?v=oblTN1ojsAA&feature=PlayList&p=89F9180242B853AD&index=2 1933 Adolf Hitler becomes the last Chancellor of Germany's Weimar Republichttp://www.youtube.com/watch?v=_Q-6H4xOUrs 1933 Worst year of the Great Depressionhttp://www.youtube.com/watch?v=MZHEkU__Ijw 1934 Start of Mao Zedong's “Long March”http://en.wikipedia.org/wiki/File:Chinese_civil_way_map_03.jpg 1935 Franklin Delano Roosevelt proposes and congress passes the Social Security Acthttp://www.youtube.com/watch?v=aVZijG4WSOw 1935 Franklin Delano Roosevelt proposes and congress passes the National Labor Relations Acthttp://explorepahistory.com/displayimage.php?imgId=4594 1936 Francisco Franco attempts to overthrow Spanish Republic: start of Spanish Civil Warhttp://www.youtube.com/watch?v=atynzDwSbuo&feature=relatedhttp://upload.wikimedia.org/wikipedia/en/7/74/PicassoGuernica.jpg 1937 U.S. Supreme Court surprisingly declares NLRA constitutional: “the switch in time that saved nine”http://www.boston.com/news/globe/ideas/articles/2005/12/04/supreme_switch/ 1937 Marco Polo Bridge “incident”; start of World War II in Asiahttp://en.wikipedia.org/wiki/File:Lugou_battle.jpghttp://www.youtube.com/watch?v=NB2qDwAlxw4 1939 Final victory by Franco in Spanish Civil Warhttp://www.youtube.com/watch?v=jBhejsi9Z1chttp://www.youtube.com/watch?v=HX_-faiNTVU 1939 Start of World War II in Europe; Nazi Soviet pact; Nazi invasion of Polandhttp://www.youtube.com/watch?v=7CmFT0YA2nY 1940 Fall of Denmark, Norway, France to Nazishttp://www.youtube.com/watch?v=Eq4RwuWnK_k 1941 Nazi invasion of Soviet Unionhttp://www.youtube.com/watch?v=0BNucqbm_ZY 1941 Imperial Japanese attack on Pearl Harborhttp://www.youtube.com/watch?v=3VqQAf74fsE 1942 “The End of the Beginning”: Battles of Midway, Guadalcanal, El Alamein, “Operation Torch”, and—most of all--”Operation Uranus”: Stalingradhttp://www.youtube.com/watch?v=zhdHZIj76WE&feature=relatedhttp://econc10.bu.edu/economic_systems/NatIdentity/images/stalingrad_5.jpghttp://www.youtube.com/watch?v=uXNrYoO-7qU&feature=related 1944 Bretton Woods conference: agreement to found the IMF and World Bankhttp://www.imf.org/external/np/arc/eng/fa/BWC/s5.htm 1945 Yalta and Potsdam Conferences shape post-World War II world; Germany partitionedhttp://students.umf.maine.edu/~devkota/Yalta%20Conference.jpg 1945 Labour Party first wins majority in British House of Commonshttp://en.wikipedia.org/wiki/File:Attlee_BW_cropped.jpg 1945 Death of Franklin Delano Roosevelt; Harry S Truman becomes President of the United Stateshttp://www.youtube.com/watch?v=4kQZQAAEBFU&feature=PlayList&p=F4FA9C7B6C60E4DA&index=16&playnext=2&playnext_from=PL 1945 U.S. atomic bombing of Hiroshima and Nagasakihttp://media-2.web.britannica.com/eb-media/47/91847-004-669368AC.jpg 1947 Harry S Truman begins the Cold War with the “Truman Doctrine”http://www.youtube.com/watch?v=wmQD_W8Pcxg 1947 Britain grants independence to India and Pakistanhttp://www.youtube.com/watch?v=G5X7LzTrLYU 1947 George Marshall proposes the “Marshall Plan”http://www.youtube.com/watch?v=lUd2W6aMng4 1948 Stalinist coup in Czechoslovakiahttp://en.wikipedia.org/wiki/File:Edvard_Beneš.jpg 19481948 Israel founded.http://www.youtube.com/watch?v=nNWgfei6wO8Stalin expels Yugoslavia from the Cominformhttp://img.timeinc.net/time/magazine/archive/covers/1955/1101550606_400.jpg 1949 Proclamation of the People's Republic of Chinahttp://en.wikipedia.org/wiki/File:PRCFounding.jpg 1950 Stalin slips Kim Il Sung's leash: the Korean War beginshttp://www.youtube.com/watch?v=b4hkUFriyFU http://upload.wikimedia.org/wikipedia/commons/5/51/Korean_War_bombing_Wonsan.jpg 1951 Treaty of Paris creates the European Coal and Steel Communityhttp://ec.europa.eu/avservices/download/photo_download_en.cfm?id=13630&type=4 1954 U.S. Supreme Court decides Brown vs. Board of Education of Topeka, KShttp://www.youtube.com/watch?v=TTGHLdr-iak&feature=related 1956 Khruschchev's "Secret Speech" denouncing Joseph Stalinhttp://media-2.web.britannica.com/eb-media/22/85222-004-B1564EDD.jpg 1956 Israel, France, and Britain attack Egypthttp://www.youtube.com/watch?v=in_N6gv_CWU 1956 Hungarian revolt against the Soviet Unionhttp://www.youtube.com/watch?v=CKcm4OqzpwU 1957 Treaty of Rome creates the European Economic Community of “the six”http://www.youtube.com/watch?v=ptJqwWqKq4M 1958 Mao Zedong launches Great Leap forwardhttp://www.youtube.com/watch?v=efBQKHOfW60 1959 Lushan Plenum in China: “Disgrace” of Marshal Peng Dehuaihttp://www.paulnoll.com/Korea/War/Marshal-Peng-Dehuai.jpg 1961 Construction of Berlin Wallhttp://www.youtube.com/watch?v=nch5MbnvTqY 1962 Cuban Missile Crisishttp://www.youtube.com/watch?v=W50RNAbmy3M 1963 Assassination of John F. Kennedy; Lyndon Johnson becomes President of the United Stateshttp://www.youtube.com/watch?v=TpicOfFajNE&feature=related 1964 Civil Rights Act in the United Stateshttp://www.youtube.com/watch?v=Q11kvbJy0cs 1964 Overthrow of Nikita Khrushchev; replacement by Leonid Brezhnevhttp://www.youtube.com/watch?v=DfpKYWY_zg8 1964 Gulf of Tonkin “incident” off coast of Vietnamhttp://www.youtube.com/watch?v=rd6zKqGcaOM 1964 Barry Goldwater runs for President on a non-RINO platform: destruction of Republican congressional powerhttp://www.youtube.com/watch?v=k7kdLEjb9gMhttp://www.youtube.com/watch?v=Tf-MEdAPhYA&feature=related 1965 Lyndon Johnson uses overwhelming congressional majorities for Medicare, Medicaid, Voting Rights Acthttp://www.youtube.com/watch?v=opFYzLnC9hs 1965 Overthrow of Sukarno in Indonesia; massacres of Indonesian Communists (and many others); rise of Suhartohttp://www.youtube.com/watch?v=N-07wttSEx4 1966 Mao Zedong launches Cultural Revolutionhttp://www.youtube.com/watch?v=_44Q_k2WxvE 1973 First “Oil Shock”: Syria and Egypt attack Israel on Yom Kippurhttp://www.youtube.com/watch?v=-66seomf2K4http://www.youtube.com/watch?v=M22osf0vzrIhttp://www.theoildrum.com/uploads/12/oil_price_1945_2005.png 1974 Resignation of U.S. President Richard Nixonhttp://www.youtube.com/watch?v=F7dtRDQrV6c 1975 Fall of South Vietnamhttp://www.youtube.com/watch?v=oVDF2aQpYZc 1975 Indira Gandhi declares “emergency”http://www.indianexpress.com/ie/daily/20000713/e1.htm 1975 Death of Mao Zedonghttp://www.youtube.com/watch?v=0XeegyVkGm0 1978 The “Southern Expedition” of Deng Xiaopinghttp://www.youtube.com/watch?v=R0lwKlMFmZY 1979 Margaret Thatcher becomes Prime Minister of Great Britainhttp://www.youtube.com/watch?v=oK3eP9rh4Sohttp://www.youtube.com/watch?v=EEPTjLl2Af8&feature=related 1979 Khomeini's Iranian Revolutionhttp://www.youtube.com/watch?v=IlVOLSVS8yI 1981 Ronald Reagan becomes President of the United Stateshttp://www.youtube.com/watch?v=hpPt7xGx4Xo 1982 The “Volcker Deflation”: deepest post-World War II global recession (until now)http://econ161.berkeley.edu/movable_type/2003_archives/002736.htmlhttp://dailycandor.com/wp-content/uploads/2008/09/paul-volcker.jpg 1985 Mikhail Gorbachev comes to power in the Soviet Union: “glasnost” and “perestroika”http://www.youtube.com/watch?v=595W4JJHa2U 1985 Rajiv Gandhi takes first steps toward dismantling the License Rajhttp://www.guardian.co.uk/world/gallery/2007/may/09/india?picture=329818396 1989 Fall of the Berlin Wallhttp://www.youtube.com/watch?v=wnYXbJ_bcLc 1989 Tien an Men Square massacrehttp://www.youtube.com/watch?v=XJBnHMpHGRY&feature=PlayList&p=9EB1A4E767FD73C7&playnext=1&playnext_from=PL&index=5 1991 End of the Soviet Unionhttp://www.youtube.com/watch?v=j-2kx549Mf0 1993 William J. Clinton becomes President of the United States—only the second Democratic president since 1968http://www.youtube.com/watch?v=2SWjIPwm954 1993 U.S., Canada, and Mexico ratify NAFTAhttp://www.youtube.com/watch?v=HX8An-jSfFU 1994 Mexican peso crisishttp://www.youtube.com/watch?v=hTWLEhlq1cQ 19981999 East Asian financial crisishttp://www.j-bradford-delong.net/movable_type/images2/2002-09-26-Asia_cap_flows.gifVladimir Putin becomes Acting President of the Russian Federationhttp://www.topnews.in/files/putin_0.jpg 2000 Collapse of the dot-com bubblehttp://www.stock-market-crash.net/images/nasdaq-bubble.gif 2001 George W. Bush becomes President of the United Stateshttp://www.youtube.com/watch?v=rXzgMdj5urs 2008 Failures of Bear Stearns, Lehman Brothers, Fannie Mae, Freddie Mac, AIG; start of largest post-World War II economic recessionhttp://www.youtube.com/watch?v=gNUILhofHNA

Author: Josh Hausman.

## Something to Watch: The Federal Reserve's New Toys

Krishna Guha:

FT.com | Money Supply | More stress on the Fed’s exit tools: The Treasury’s decision to run down its supplemental funding programme for the Fed puts yet more pressure on untested tools the Fed is relying on to sterilise excess reserves when the time comes to raise interest rates. I happen to think these tools will work. Still, the Fed can hardly be thrilled about this.

It reminds me that the Fed faces an interesting choice as to whether it should trial some of these techniques - such as the use of reverse repos against its MBS portfolio - long before it actually has to rely on them. I think trial runs make sense, but the Fed would have to manage the signalling side of that very carefully.

## Financial Regulation

links for 2009-09-17: Do I have to post this every time someone notices what a clueless d--- John Cochrane is?

Most of all, caveat emptor -- these are a matters for buyers and sellers, not regulators. Nobody else gets hurt if you buy a lousy mortgage pool. The government does not need to write a new rule every time someone buys a rotten tomato. Investors will demand the right transparency, complexity, and risk-sharing or monitoring of mortgage pools. That is, unless they get bailed out and learn to count on that instead! The history of the mortgage market is a grand story of bringing credit to people who need it, upon the removal of layer after layer well-intended but counterproductive "protective" regulation. -- John Cochrane, 2007

The remarkable thing, of course, is that we do not rely on tort law remedies to deal with rotten tomatoes--we have a Food and Drug Administration.

I think the answer, ogmb, is "Yes, you do."

## "The Childish Babbling of a Say..."

David Beckworth on John Cochrane:

Macro and Other Market Musings: Friends Don't Let Friends Mix Say's Law with Money: Nick Rowe recently noted that John Cochrane, in his rebuttal to Paul Krugman, effectively invokes Say's law with this sentence:

Paul’s Keynesian economics requires that people make plans to consume more, invest more, and pay more taxes with the same income.

Cochrane's point is that it is impossible to have total planned expenditures exceed total income. This line of thinking or Say's law, taken to its logical conclusion, implies it is impossible to have a general, economy-wide glut since (1) total income must equal total expenditures and (2) total income comes from the production of goods and services upon which total expenditures are spent. (i.e. total expenditures = total income = total value of production). Obviously, history has not been kind to this proposition. As Nick notes, this is because Say's law assumes a barter economy and ignores the complications found in a money economy...

And David correctly tells us that the thing to read here is Leland Yeager:

Here to explain these complications is Leland Yeager (Source: The Fluttering Veil: Essays on Monetary Disequilibrium, p.4-6):

Say's law, or a crude version of it, rules out general overproduction: an excess supply of some things in relation to the demand for them necessarily constitutes an excess demand for some other things in relation to their supply...

The catch is this: while an excess supply of some things necessarily mean an excess demand for others, those other things may, unhappily, be money. If so, depression in some industries no longer entails boom in others...

[T]the quantity of money people desire to hold does not always just equal the quantity they possess. Equality of the two is an equilibrium condition, not an identity. Only in... monetary equilibrium are they equal. Only then are the total value of goods and labor supplied and demanded equal, so that a deficient demand for some kinds entails and excess demand for others.

Say's law overlooks monetary disequilibrium. If people on the whole are trying to add more money to their total cash balances than is being added to the total money stock (or are trying to maintain their cash balances when the money stock is shrinking), they are trying to sell more goods and labor than are being bought. If people on the whole are unwilling to add as much money to their total cash balances as is being added to the total money stock (or are trying to reduce their cash balances when the money stock is not shrinking), they are trying to buy more goods and labor than are being offered.

The most striking characteristic of depression is not overproduction of some things and underproduction of others, but rather, a general "buyers' market," in which sellers have special trouble finding people willing to pay more for goods and labor. Even a slight depression shows itself in the price and output statistics of a wide range of consumer-goods and investment-goods industries. Clearly some very general imbalance must exist, involving the one thing--money--traded on all markets. In inflation, an opposite kind of monetary imbalance is even more obvious.

At one level, this is absolutely terrifying. I had been using the line that today's Chicago School knew less economics than the cutting edge of the profession knew in the 1920s. But now it looks as though it knows less economics than the cutting edge of the profession knew in the 1820s.

• Another view: we’re all impulsive and impatient in the same way, but over a narrow range of goods that are quickly and cheaply satisfied. If you’re poor, these temptations are a big fraction of your income. If you’re even somewhat wealthy, they are not. Temptations are declining in income. The paper runs through half a dozen perplexing patterns of behavior, and shows that these simple assumptions can explain a great deal. This approach has a great deal in common with hyperbolic discounting, but is empirically distinct (and has very different policy implications). Parsing out and testing these subtleties strikes me as one of the most important frontiers in the study of poverty. Declining temptation, if true, could explain all sorts of odd behaviors. With more than a few Uganda and Liberia surveys on the horizon, I’m now scheming ways to test whether it’s true.
• I decided to see how wise Cochrane is by going back to look at his... Asset Pricing. On what has happened in the last few years, it is utterly useless. In the index I went to find the following words/phrases: "fat tails" "kurtosis" "leptokurtosis." They are not there, even though pretty much all practitioners and a large literature already existed discussing how to explain the ubiquity in practically all asset markets of exactly those phenomena. He has a big fat zero to say about them, nothing. I did find "bubbles," which he discusses briefly near the end of the book (pp. 399-402). He seems to recognize that they might exist, but his discussion is strictly in terms of "rational bubbles."... The model of rational bubbles he discusses supposedly must go on forever, which he then sneers at because "Infinity is a long time...The solar system will end at some point."
• Julius Rosenberg--a Communist--did, indeed, run a spy ring of which Ethel Rosenberg was likely not a member. She was, nevertheless, used as a "lever" in an unsuccessful attempt to pry a confession from Julius. On any number of subsequent occasions, I endorsed these findings. Had Peretz (or, I might add, Applebaum) done any research to support their ad hoc accusations, or even bothered to read the end of Sam Roberts's September 21 New York Times story on Sobell's admission, they would have known my position and seen me quoted saying, "I wish Morty and Ethel and Julian had been open about what they had and hadn't done, or in Morty's case, ‘come clean' before this, but these guys thought they were helping our ally in wartime, and yes, they broke the law, shouldn't have done what they did, and should have been proportionally punished for it." I also happen to believe that Colonel Rudolph Abel, Theodore Hall, and Morris and Lona Cohen, among many others, were Soviet spies.

## Yes, David Brooks Really *Is* That Stupid...

Why oh why can't we have a better press corps?

With columnists like that, I give the New York Times a decade.

Ta-Nehisi Coates:

It's Kanye's Fault - Ta-Nehisi Coates: David Brooks on the decline of the West:

When you look from today back to 1945, you are looking into a different cultural epoch, across a sort of narcissism line. Humility, the sense that nobody is that different from anybody else, was a large part of the culture then.

But that humility came under attack in the ensuing decades. Self-effacement became identified with conformity and self-repression. A different ethos came to the fore, which the sociologists call "expressive individualism." Instead of being humble before God and history, moral salvation could be found through intimate contact with oneself and by exposing the beauty, the power and the divinity within. Everything that starts out as a cultural revolution ends up as capitalist routine. Before long, self-exposure and self-love became ways to win shares in the competition for attention. Muhammad Ali would tell all cameras that he was the greatest of all time. Norman Mailer wrote a book called "Advertisements for Myself."

Today, immodesty is as ubiquitous as advertising, and for the same reasons. To scoop up just a few examples of self-indulgent expression from the past few days, there is Joe Wilson using the House floor as his own private "Crossfire"; there is Kanye West grabbing the microphone from Taylor Swift at the MTV Video Music Awards to give us his opinion that the wrong person won; there is Michael Jordan's egomaniacal and self-indulgent Hall of Fame speech. Baseball and football games are now so routinely interrupted by self-celebration, you don't even notice it anymore.

This isn't the death of civilization. It's just the culture in which we live. And from this vantage point, a display of mass modesty, like the kind represented on the V-J Day "Command Performance," comes as something of a refreshing shock, a glimpse into another world. It's funny how the nation's mood was at its most humble when its actual achievements were at their most extraordinary.

Part of this is Brooks critique of the past half-century, or rather half-critique. From Brooks' perspective,  the problem is that Sonia Sotomayor didn't go to school in 50s or early 60s, not that her chosen school didn't admit women in the 50s and 60s. Likewise Brooks doesn't cite the immodesty of George Wallace declaring eternal segregation "in the name of the greatest people to trod this earth," he cites the immodesty of Muhammad Ali. The response offends Brooks. The conditions that produce the response, less so.

That's because the conditions are, themselves, built on American immodesty. I'm thinking of Jack Johnson winning the championship, and modest Americans launching  pogroms against their fellow immodest Americans. I'm thinking about Birth of a Nation's  defense of treason, and a sitting president offering his immodest endorsement. I'm thinking about a country, circa 1850, whose politicians lorded over one of the last slave societies in the known world, and immodestly argued that it was a gift from God.

Even Brooks view of the "Greatest Generation" is myopic. In 1948 Strom Thurmond authored the segregationist Dixiecrat charter, while immodestly fathering a daughter with a black women.  In 1946, Isaac Woodward, a veteran of World War II, was beaten and blinded--while in uniform--by South Carolina police. The police were prosecuted, but the jury acquitted them, and a court-room full of Americans broke out in immodest applause.

This is history through the veil, again. It's virtually impossible to be a black person and believe that Americans were somehow more humble in the past. Our very existence springs from an act of immodesty. I can't even begin to imagine the Native American read on this one.

Dr. Cleveland:

"I'm that same David Crockett, fresh from the backwoods, half-horse, half-alligator, a little touched with the snapping turtle; can wade the Mississippi, leap the Ohio, ride upon a streak of lightning, and slip without a scratch down a honey locust." - Congressman David Crockett

Brooks's conclusion is clear:

Davy Crockett was a gangster rapper.

Aimai:

No More Mister Nice Blog: Ta-Nehisi Coates has an incredible post up about David Brooks' latest lament for a lost American Civilization. A place of certainity, beauty, calm and, well...perfect humility.

When you look from today back to 1945, you are looking into a different cultural epoch, across a sort of narcissism line. Humility, the sense that nobody is that different from anybody else, was a large part of the culture then.

What came to my mind, as a woman, were the phrases "sugar and spice," "tomboy," "ball buster," "madonna," and "whore" and all their connotations--weren't we raised to be "different" from half the population, and didn't that difference require us to know our place, whether on the pedestal or on the floor? What came to my mind as a white person were these three pieces of received Race Wisdom (not current in my family, or even in my state, but certainly ambient knowledge) "Free, White, and Twenty One," "Mighty White of You," and "In the South they don't care how close you get, as long as you don't get too high. In the North they don't care how high you get, as long as you don't get too close."

And what about Class? Even though Ta-Nehisi quickly, cleanly, and with razor like precision cuts to the racism of the assumption that American Society was ever one, and whole, and purely unified Brooks' post is as much about class and culture, high and low, as it is about race. He just doesn't know how to ring the changes because he's fabulist, and an apologist, not a historian, anthropologist, or even an honest man.

Basically, Brooks' writes about an impossible world of clean shaven heroes and their strong, silent, housefraus, all of them white, and compares them to the current generation who are now seen as lesser and, mysteriously, all of a sudden, mixed in race. That's the racist nostalgia part of the discussion that is so genteel that the casual reader fails to grasp it. Here's nice Mr. Brooks talking about the age old problem of "kids these days" and their wacky music and their in your face attitude. Why, in my day, kids knew their place and always called you "sir" or, in a pinch, "madam." Fallen silent is the fact that, once upon a time, "we" called them "Uncle," "Auntie," "Boy," "Girl," and "Miss," "Honey," and "Bitch"--depending on who "we" were....

In Brooks's historical memory we don't seem to have had a period of, say, slavery, segregation, or sexism. Its not even clear we had black people, before he noticed them acting up. Brooks seems to think that, somehow, all these celebrity worshiping, hysterical, self indulgent, narcissistic, black and white people have leapt upon the world stage and demanded their fifteen minutes of fame. Where did they come from? Why are they here? What can be done about them? Brooks isn't sure, but he knows their ilk have never walked the world before....

[W]ay down in the comments Ta-Nehisi points it out, as does Doctor Cleveland in this hysterically apt comment:

"I'm that same David Crockett, fresh from the backwoods, half-horse, half-alligator, a little touched with the snapping turtle; can wade the Mississippi, leap the Ohio, ride upon a streak of lightning, and slip without a scratch down a honey locust." - Congressman David Crockett

Brooks's conclusion is clear:

Davy Crockett was a gangster rapper.

Its all there, in that thread. My hat is off to Ta-Nehisi and his commenters on this one.

## Calling Milton Friedman: Economists Have Always Built Models in Which Aggregate Planned Expenditure Is Not Equal to Income Department

Robert Waldmann writes:

Have Macro economists explained any patterns during my lifetime: I am trying to read John Cochrane's comments on Paul Krugman's article on why economists got it so wrong. I tend to get upset while reading. I have managed to get through the first paragraph in which Cochrane compares Krugman to someone who denies that HIV causes AIDS and compares developments in economics to progress in the natural sciences...

I am apparently a stronger man than Robert Waldmann. I made it to paragraph 19--the one where Nick Rowe got hung up too:

Most of all, Krugman likes fiscal stimulus. In this quest, he accuses us and the rest of the economics profession of “mistaking beauty for truth.” He’s not that clear on what the “beauty” is that we all fell in love with, and why one should shun it. And for good reason. The first siren of beauty is simple logical consistency. Paul’s Keynesian economics requires that people make plans to consume more, invest more, and pay more taxes with the same income...

Andrew Leonard of Salon gets to paragraph 19 as well. But there, apropos of John Cochrane and Paul Krugman, he throws up his hands:

Krugman's critics go on the warpath: When two sides are in disagreement over such a foundational issue, it's hard to see how any amount of slash-and-burn Internet argument will ever reach resolution...

If I could summon Milton Friedman from the vasty deep to tell Andrew Leonard that John Cochrane is wrong, would that resolve the issue? It certainly should.

The context:

Cochrane's key point, aptly seized upon by Nick Rowe at Worthwhile Canadian Initiative. Cochrane's central critique of Keynesianism is summed up in one declaration.

Paul's Keynesian economics requires that people make plans to consume more, invest more, and pay more taxes with the same income.

Cochrane states this formulation as if it is an outright absurdity, and at first glance, maybe it does look crazy. But from a Keynesian point of view, Cochrane is totally misunderstanding how economies work. If people consume less, companies sell fewer goods and services, requiring them to lay off people, who in turn spend even less. This is the famous "paradox of thrift." This is exactly what we are living through right now. The total money supply doesn't change, but the economy goes into recession because that money is not circulating. The opposite also holds true. If people consume more, companies aiming to meet that demand hire more workers who then have the income to spend on more products.

It's not just from a Keynesian point of view. Robert Lucas won his Nobel Prize for investigating a class of situations--those with unanticipated nominal money and price level shocks--in which people are in the aggregate confused about what their real incomes are and so plan to spend more (or less) than their incomes turn out to be. Milton Friedman's monetary transmission mechanism rests on people, because their money holdings are elevated (or depressed), trying to spend more (or less) than their incomes. In fact, that is the root of Irving Fisher's foundational explanation of the quantity theory of money. Knut Wicksell's definition of the natural interest rate is that at which planned investment is just equal to savings--and so planned spending is equal to income--and in his model business cycles are driven by fluctuations in the market interest rate away from the natural rate that induce wedges between planned spending and income. Indeed, David Hume's "On the Balance of Trade"--the first economics article ever--contains an adjustment mechanism in response to monetary shocks that is driven by wedges between spending and income.

EVERY SINGLE COMPETENT MACROECONOMIST SINCE THE BEGINNING OF TIME--WELL, SINCE THE FIRST MACROECONOMICS PAPER EVER IN 1754, DAVEY HUME'S "ON THE BALANCE OF TRADE"--HAS MODELED SITUATIONS IN WHICH PLANNED EXPENDITURE IS DIFFERENT FROM INCOME.

And now let me summon Milton Friedman on how monetary and fiscal policy lead planned expenditures to deviate from incomes, and thus stimulate or retard the economy--with monetary policy, Friedman argues, being far the most powerful force in normal times:

## Coffee Blogging: What John Quiggin Said

John Quiggin Says:

John Quiggin » The macro wars: I’m visiting Berkely at present and just had a chat with Brad DeLong. These are some of the thoughts I had about the great macroeconomics wars as a result.

One important element that can’t be ignored is the effect political partisanship, which is much more bitter in the US now than in most other places. It’s not so much Republicans vs Democrats as Republicans vs anti-Republicans. Krugman has been a leading figure in rejecting the idea that the Republican party represents a serious viewpoint that should be accorded respect, even in disagreement. Not surprisingly, the members of the intellectual class still associated with the Republican Party (relatively few, these days, but still dominant in Chicago) intensely dislike Krugman’s writing for the NYT.

But more important, I think, is the hole in the intellectual landscape opened up by the crisis. As regards macroeconomics, the pre-crisis near-consensus described by Krugman included a lot of “freshwater” macroeconomists whose intellectual roots go back to the New Classical/Real Business Cycle literature of the late 1970. This literature initially suggested that there was no possible role for monetary or fiscal policy unless people had mistaken expectations and drew the implication that a sufficiently credible and determined government could eliminate inflation without any serious cost in terms of output and employment, a theory tested to destruction by the Thatcher government.

Given the empirical difficulties encountered by strong forms of these views, most of the freshwater economists were prepared to make some concessions. As regards monetary policy, they were willing to accept some use of interest rates to target inflation, while arguing against “fine tuning” designed to stabilise the economy – during the Great Moderation it was easy enough to conclude that macro instability was a problem of the past, a claim made explicitly by Robert Lucas.

Similarly, it was easy enough to accept the implication that, in certain extreme circumstances like those of the Great Depression, the standard tools of monetary policy might prove ineffective necessitating direct use of fiscal policy to expand the money supply. In the absence of any perceived risk of a Depression, it was easy enough to make this concession while arguing against any use of active fiscal policy.

In the wake of the crisis, this position was untenable. If you supported fiscal policy at all, it was clear that a massive stimulus was needed. In fact, the arguments of Barro and others that Keynesians had overestimated the multiplier effects of fiscal stimulus implied that the required stimulus was even larger than Keynesian estimates would suggest.

Moreover, there is, as Brad DeLong and others have pointed out, no coherent position under which fiscal policy is totally ineffective while monetary policy is at least partly effective. And the only plausible conditions under which policy is totally ineffective is if the macroeconomy is always in (or close to) equilibrium. So, it’s essentially impossible to believe in recessions and unconditionally oppose fiscal policy.[1]

So we see Cochrane forced all the way back to Say’s Law, the claim that it is logically impossible for (planned) supply to exceed (planned) demand, since willingness to supply, say, labour implies willingness to demand goods. Cochrane accuses Krugman of wanting to scrap the macroeconomics of the last forty years[2] but then makes it clear enough that he wants to dump Keynes and everything that has been written since.

Arguments about Say’s Law are unlikely to be resolved by logical disputation. The only way to address them is to look at the historical record of the economy over the last couple of centuries. If you see stability, interrupted only by the occasional ill effects of government policies, you’ll accept Say’s Law. If you see regular crises, except for a few exceptional periods when macroeconomic stabilization policies have appeared to work, you’ll reject it.

fn1. Except for those who can always find some government program or another to blame, even for a case as clear cut as the 1890s Depression in Australia.

fn2. This charge is broadly correct, but I think the correct answer is the one anticipated by Cochrane. Economics did indeed take a wrong turn in the 1970s, responding to the breakdown of (one version of) Keynesianism. We need to find a new and better response, and much of the work of the past 40 years will have to be be discarded or reinterpreted as a result.

• In this land of inherited privilege and celebrity billionaires, it no longer pays as much to be rich. Hobbled by soaring debt and ballooning public spending amid the global financial crisis, the British government is joining others around the globe in tapping the wealthy to cover massive shortfalls. As a result, the tax rate here for those making more than $250,000 a year is set to jump from 40 to 50 percent, leaving the likes of Charlie Mullins -- the self-made king of London plumbing -- fuming. He estimates that the new bill on his$2.5 million annual income, with exemptions, will jump by no less than \$236,000.