## Ten Economic Paragraphs Worth Reading: December 23, 2009

So two groups opposed to Bernanke’s reappointment are worried he won’t devote enough attention to fighting inflation, and the third group is worried inflation is too much of a priority. These groups appear to be reinforcing rather than canceling each other politically even though they are upset about opposite things.... I do not believe for a minute that Ben Bernanke is taking the side of Wall Street over Main Street when he talks about the need to keep inflation under control. He believes that stabilizing inflation leads to higher employment, a better mix of goods, and higher household welfare... maximizing household welfare means responding more aggressively to inflation shocks than to output shocks... the Fed should increase the federal funds rate by one-half percent when output deviates by one percent from target, but increase the federal funds rate three times as much, by a point and a half, in response to a one percent inflation shock. There are two questions here. First, is the rule the Fed follows... optimal? Second, is the standard Taylor rule type policy appropriate for severe recessions?...

The U.S. stock market is wrapping up what is likely to be its worst decade ever. In nearly 200 years of recorded stock-market history, no calendar decade has seen such a dismal performance as the 2000s. Investors would have been better off investing in pretty much anything else.... Many investors were lured to the stock market by the bull market that began in the early 1980s and gained force through the 1990s. But coming out of the 1990s, the best calendar decade in history with a 17.6% average annual gain, stocks simply had gotten too expensive.... And in a time of financial panic like 2008, stocks were a terrible place to invest. With just two weeks to go in 2009, the declines since the end of 1999 make the last  10 years  the worst calendar decade for stocks going all the way back to the 1820s.... It edges out the... 1930s, which up until now held the title of worst decade.... Since the end of 1999, the Standard & Poor's 500-stock index has lost an average of 3.3% a year on an inflation-adjusted basis.... So what went wrong for the U.S. stock market? For starters, it turned out that the old rules of valuation matter. "We came into this decade horribly overpriced," said Jeremy Grantham, co-founder of money managers GMO LLC. In late 1999, the stocks in the S&P 500 were trading at about an all-time high of 44 times earnings, based on Yale professor Robert Shiller's measure, which tracks prices compared with 10-year earnings and adjusts for inflation. That compares with a long-run average of about 16. Buying at those kinds of values, "you'd better believe you're going to get dismal returns for a considerable chunk of time," said Mr. Grantham, whose firm predicted 10 years ago that the S&P 500 likely would lose nearly 2% a year in the 10 years through 2009...

In her column, Hamsher offers ten reasons why she opposes the Senate bill. For now, I want to focus on two of them: (1) Forces you to pay up to 8% of your income to private insurance corporations — whether you want to or not. (3) Many will be forced to buy poor-quality insurance they can’t afford to use, with $11,900 in annual out-of-pocket expenses over and above their annual premiums. Both statements are true. That's why many of us have been calling attention to these numbers for months. But a crucial question, which Hamsher and most lefty critics I know never address, is "compared to what?"...This is a hugely progressive program to bolster economic security, the likes of which we haven't enacted in this country for a long, long time. To be clear, I don't think these numbers are great in absolute terms... it's essential to push for better subsidies and more protection in the conference negotiations--and then, if the law passes, to work on improving the law afterwards. But you can't do any of that if a bill doesn't get past the Senate... No more stimulus, please, we're capitalists. That’s the view, at least, of the majority of economists surveyed in msnbc.com’s year-end roundtable. Though unemployment will remain stubbornly high, and the economic recovery sluggish in 2010, the government doesn’t need to provide another round of stimulus spending to keep the economy afloat, they say. The House last week narrowly approved a$155 billion “jobs” bill that includes nearly $50 billion in infrastructure spending and$79 billion for expanding benefits like unemployment insurance and Medicaid. But most of the forecasters in our panel are against the idea of another government stimulus package...

5) Ryan Avent Sends Us to Meghan Busse, Christopher Knittel, and Florian Zettelmeyer:

The dramatic increase in gasoline prices from close to $1 in 1999 to$4 at their peak in 2008 made it much more expensive for consumers to operate an automobile. In this paper we investigate whether consumers have adjusted to gasoline price changes by altering what automobiles they purchase and what prices they pay. We investigate these effects in both new and used car markets. We find that a $1 increase in gasoline price changes the market shares of the most and least fuel-efficient quartiles of new cars by +20% and -24%, respectively. In contrast, the same gasoline price increase changes the market shares of the most and least fuel-efficient quartiles of used cars by only +3% and -7%, respectively. We find that changes in gasoline prices also change the relative prices of cars in the most fuel-efficient quartile and cars in the least fuel-efficient quartile: for new cars the relative price increase for fuel-efficient cars is$363 for a $1 increase in gas prices; for used cars it is$2839. Hence the adjustment of equilibrium market shares and prices in response to changes in usage cost varies dramatically between new and used markets. In the new car market, the adjustment is primarily in market shares, while in the used car market, the adjustment is primarily in prices. We argue that the difference in how gasoline costs affect new and used automobile markets can be explained by differences in the supply characteristics of new and used cars.

I think that underwater homeowners ought to walk away from their loans for the very same reason McArdle want us to consider them jerks for doing so. We both want to see norms we consider valuable enforced. I think that banks violated a great many norms of prudence and fair dealing in their practices during the credit bubble, and that they violate the fundamental norm of reciprocity by fully exploiting their own legal rights while insisting that borrowers have a moral obligation not to exercise a contractual option. In order to strengthen norms I consider crucial, I hope transgressors face legal and social consequences (strategic default and reduced shame attached to default) that will alter their behavior going forward. McArdle values a norm that I think most of us share in interpersonal settings, that a person should make every possible effort to pay back money he has borrowed. She also wants to create consequences for transgressors, social costs via a consensus that those who walk away by choice be considered jerks. We have different preferences regarding the kind of world we want our normative frameworks to support: McArdle favors a world with both easy credit and easy bankruptcy. I favor the easy bankruptcy, but not the easy credit. I think that debt arrangements are hazardous and should be entered into only with great care. I don’t consider increasingly leveraged homeownership and aggressively accessible consumer credit to have been positive developments. As a practical matter, I think we must rely on creditors rather than potential debtors to differentiate between wise and unwise loans. So I consider it a feature rather than a bug that holding creditors accountable will encourage them to think twice before sending out convenience checks. Norms, like laws, are always contested. McArdle and I have very different worldviews, and that is reflected in the different norms we are each trying to reinforce...

Many things in American politics are silly but, assuming it's true, this has to be considered a lifetime achievement award.  From Talking Points Memo: "After months in which the senate health care bill was held up over efforts to find some form in which she would agree to sign on to it, Sen. Snowe (R-ME) now says she will oppose it because it is being 'rushed'."

8) BEST NON-ECONOMICS THING I'VE READ TODAY: Paul Krugman: The WYSIWYG president: There’s a lot of dismay/rage on the left over Obama, a number of cries that he isn’t the man progressives thought they were voting for. But that says more about the complainers than it does about Obama himself. If you actually paid attention to the substance of what he was saying during the primary, you realized that (a) There wasn’t a lot of difference among the major Democratic contenders, (b) To the extent that there was a difference, Obama was the least progressive Now it’s true that many progressives were ardent Obama supporters, with their ardency mixed in with a fair bit of demonization of Hillary Clinton. And maybe they were right — but not on policy grounds. (I still remember people angrily telling me that if Hillary got in, she’d fill her economics team with Rubinites). So what you’re getting is what you should have seen. And exactly what should we blame Obama for?... [T]he important thing to bear in mind is that this isn’t about him; and, equally important, it isn’t about you. If you’ve fallen out of love with a politician, well, so what? You should just keep working for the things you believe in.

9) STUPIDEST THING I'VE READ TODAY: Michael Hudson: The Problem with Paul Samuelson: Michael Hudson in Commonweal (December 18 1970): "Does economics deserve a Nobel prize? (And by the way, does Samuelson deserve one?)"

It is bad enough that the field of psychology has for so long been a non-social science, viewing the motive forces of personality as deriving from internal psychic experiences rather than from man's interaction with his social setting. Similarly in the field of economics: since its "utilitarian" revolution about a century ago, this discipline has also abandoned its analysis of the objective world and its political, economic productive relations in favor of more introverted, utilitarian and welfare-oriented norms. Moral speculations concerning mathematical psychics have come to displace the once-social science of political economy. To a large extent the discipline's revolt against British classical political economy was a reaction against Marxism, which represented the logical culmination of classical Ricardian economics and its paramount emphasis on the conditions of production. Following the counter-revolution, the motive force of economic behavior came to be viewed as stemming from man's wants rather than from his productive capacities... [Only somebody who knows neither the economics of Ricardo, the writings of Marx, or Samuelson's neoclassical synthesis could possibly write that paragraph with a straight face]

10) FROM THE ARCHIVES: Brqd DeLong (February 20, 2003): Thinking About Aristotle of Stagira:

I'm never sure whether I should begin my economic history survey courses with Aristotle or not. As Moses Finley powerfully argues, Aristotle does not care about the economy. The fragments in his Ethics and Politics that economists like Joseph Schumpeter point to are, mostly, concerned with other things than economic analysis. Karl Polanyi thought that Aristotle's naivete was the result of the fact that a mercantile, market, commercial economy was something very new. He was surely wrong: it was not something new, but rather something that Aristotle as a Hellenic aristocrat would have been embarrassed to be caught thinking seriously about. Still, I now wish I'd started this semester's history course with more on Aristotle. His perspective is so different from ours that it provides a useful mental shock: Consider, first, that Aristotle of Stagira was not an idiot (even if he did believe that women had fewer teeth than men). For two thousand years people--pagan Hellenes, Christian Europeans, and Islamic Arabs, Egyptians, Mesopotamians,and Iranians--called Aristotle of Stagira "the philosopher", as if there could be only one. Think of the way seventeenth, eighteenth, and nineteenth century Britons regarded Newton (or the way we regard Einstein). So we need to take Aristotle seriously: think hard about how a very good mind, thinking very hard, in pre-industrial-revolution economic circumstances, could wind up thinking the thoughts on the economy that Aristotle does. Specifically, why does he: --believe so strongly that gross inequality--domination and slavery--is natural and inevitable? --believe that the 'natural art of acquisition'--the getting of the resources necessary to properly run one's household--has a limit: 'a boundary fixed, just as there is in the other arts; for the instruments of any art are never unlimited, either in number or size, and riches may be defined as a number of instruments to be used in a household or in a state...'? (Never mind that Aristotle's "limit" is probably the full-time year-round labor of at least fifty people, at today's OECD wage levels some \$3,000,000 a year: in one sense very, very few of us will ever come near to Aristotle's point of satiation; in another sense every single one of us has already gone far beyond Aristotle's limit.) --believe that shepherds are '...the laziest [of men]... lead an idle life... get their subsistence without trouble from tame animals...'? --believe that '[t]here are two sorts of wealth-getting... one is a part of household management, the other is retail trade: the former necessary and honorable, while that which consists in exchange is justly censured; for it is unnatural, and a mode by which men gain from one another...'? --believe that of '...the practical part [of wealth-getting] the discussion of such matters is not unworthy of philosophy, but to be engaged in them practically is illiberal and irksome'? Note: don't miss Aristotle's story of Thales of Miletos and his corner of the olive-press-rental market on Khios...