Category Archives: books and book reviews

The Midas Paradox So Far

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That is Scott Sumner’s magnum opus on the Great Depression. I am part way through it. The importance of the book cannot be overstated. Here, I want to mention two problems I am having.

1. The structure of the book. It is difficult to get through. He constantly interrupts his own interpretive narrative to discuss other economists’ narratives. I would have rather seen the discussions of other narratives cordoned off into appendices.

2. Sumner wants to rely on stock market movements as indicators of the effect of monetary policy on the economy. I am never a fan of trying to interpret the stock market, and this time period seems particularly problematic. Robert Shiller’s famous argument against the efficient markets hypothesis is the “excess volatility” that he found in stock prices. The period that Sumner is describing has volatility that goes far beyond even what caused Shiller to reject market efficiency. Reading Sumner’s narrative, there seem to be a lot of days where the market goes up or down by 4 percent, 5 percent, or more. In today’s terms, that would mean the Dow often gaining or losing 700 to 850 points in a day. I am inclined to dismiss 90 percent of these movements as irrational (I would do the same for short-term movements in the market now). I understand that Sumner is looking for indications that the economy is responding to monetary policy, as opposed to some other factor, but I find it more persuasive when he cites medium-term trends in commodity prices than when he cites short-term stock price behavior.

Donald Trump, Progressive

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Virginia Postrel writes a must-read review of a forthcoming book on racism in the Progressive movement.

restricting immigration was as central to the progressive agenda as regulating railroads. Indeed, in his five-volume History of the American People, Wilson lumped together in one long paragraph the 1882 Chinese Exclusion Act and the 1887 Interstate Commerce Act as “the first fruits of radical economic changes and the rapid developments of trade, industry, and transportation” — equal harbingers of the modern administrative state. With a literacy test and ban on most other Asian immigrants enacted in 1917 and national quotas established in 1924, the progressives bequeathed to America the concept of illegal immigration.

This would put Trump in the Progressive tradition. Perhaps he does not fit there. But he certainly does not fit in the libertarian tradition.

The book Postrel review in her essay (not the book by Wilson) is “Illiberal Reformers: Race, Eugenics and American Economics in the Progressive Era, by Thomas C. Leonard. Surely there will be a review by Jonah Goldberg in some future issue of the Claremont Review of Books.

Great Minds and Hive Minds

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Scott Alexander on Garett Jones’ book:

Hive Mind‘s “central paradox” is why IQ has very little predictive power among individuals, but very high predictive power among nations. Jones’ answer is [long complicated theory of social cooperation]. Why not just “signal-to-noise ratio gets higher as sample size increases”?

Me:

Can we rule out statistical artifact? Put it this way. Suppose we chose 1000 people at random. Then we create 50 groups of them. Group 1 has the 20 lowest IQ scores. Group 2 had the next 20 lowest IQ scores, etc. Then we run a regression of group average income on group average IQ for this sample of 50 groups. My prediction is that the correlation would be much higher than you would get if you just took the original sample of 1000 and did a correlation of IQ and income. I think that this is because grouped data will filter out noise well. Perhaps the stronger correlation among national averages is just a result of using (crudely) grouped data.

The Latest News

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is Donald Trump’s call for a ban on travel by Muslims to (in?) the U.S. My reaction to this relates to my review of Greg Ip’s book, Foolproof, which is about risk policy. My point there is that both policy makers and ordinary citizens make bad risk judgments when they respond to the salience of a risk rather than computing costs, benefits, and probabilities. The Muslim origins of the San Bernadino terrorists may be salient, but that does not mean that Trump’s response is wise.

When you choose a policy in a war, it makes sense to maximize the adverse effect on your enemy and to minimize the adverse effect on friends and neutrals. Trump is proposing something that would do the opposite. So even before you get into the moral hideousness of it, his idea fails on practical grounds.

It reminds me of interning Japanese-Americans during World War II, which was morally and tactically wrong.

Scott Sumner’s Theory of Hysteresis

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In The Midas Paradox, he writes,

if depressions do encourage statist policy interventions, then deflationary policies may impose costs that are much larger that [sic] those predicted by natural rate models of the business cycle.

Recently, Blanchard and Summers have argued that demand shocks cause supply shocks in the private sector. That is, if you have a recession, the economy’s potential output falls. Sumner’s view is that demand shocks cause governments to come to power that implement bad supply-side policies. Examples he gives include Roosevelt’s NRA and Argentina’s left-wing government of the early 2000’s. Perhaps the U.S. after 2008 will turn out to be another example.

Of course, I am not as ready as Sumner to go with the AS-AD paradigm.

Scott Sumner on Targets, Instruments, and Indicators

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When I was in graduate school, Benjamin Friedman’s paper on targets, instruments, and indicators of monetary policy (appears to be gated) was assigned in several courses. So I think of it as a classic, but mine may be an idiosyncratic perspective.

A target is a policy goal: Unemployment. Inflation. Nominal GDP.

An instrument is something that the Fed controls. The three old-fashioned textbook examples are the amount of reserves (or reserves plus currency), the required reserve ratio, and the discount rate. More recently, the Fed funds rate is the instrument that economists focused on. Even more recently, there is the size of the Fed’s balance sheet.

An indicator is something that the Fed can watch to see whether the economy is moving toward or away from its target. There are plenty of such indicators: private forecasts of NGDP, high-frequency data, such as retail sales figures, etc.

As I see it, one of Scott Sumner’s objectives, in his blog and in his new book The Midas Paradox which I have just started reading, is to get people to pay less attention to certain indicators of monetary policy. In particular, interest rates and the quantity of money are not reliable indicators, in his view. He wishes that policy makers would forget about such indicators. They should instead turn instruments in order to hit the target.

For example, in recent years, he has said that all you need to know to say that money has been too tight is to look at the growth rate of NGDP. It dropped way below trend, which tells you that monetary policy should have been looser. If you insist on having an indicator, you should use the forecast for NGDP. But even if you respond only to NGDP after it is reported, you should have had a looser policy.

In the 1930s, we did not have a lot of the data that we have today, including NGDP. Sumner regards the Wholesale Price Index as the best target variable available. As I understand it (Scott, if you read this, please correct me), he thinks that the instrument that mattered most at the time was the ratio of gold reserves to currency. When this is high, government is hoarding gold and tightening monetary policy. When this is low, government is dis-hoarding gold and loosening monetary policy.

The private sector also can hoard gold, and this has the same effect as a monetary tightening. If I understand Scott’s thinking correctly, when the private sector does more hoarding, if the central bank wants to hit its nominal target it will have to do some offsetting dis-hoarding.

My own view is that the connection between instruments and targets is very loose. In the current environment, think of the Fed’s instrument as M0, which is currency plus reserves. Think of the money used for transactions as Mt, which is some complex (and variable) weighted average of currency, checking accounts, money market funds, credit lines, frequent-flyer miles, you-name-it. Because these two definitions of money are so different, the Fed can turn its dial a long way without any result, and then when it starts to get results they could end up all over the map.

This is also my instinct for the 1930s, but to be fair I need to read through Sumner’s book before I make up my mind.

Bill Gates’ Energy Initiative

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Tech Insider reports,

The Gates-led Breakthrough Energy Coalition will be investing over $1 billion dollars, the Wall Street Journal reports. The exact dollar amount pledged is unknown, but a Gates spokesperson told Tech Insider that “it represents many billions of dollars in willing capital.”

The report links to an essay by Gates, who writes,

Today’s batteries also have a far lower energy density—that is, they store much less by weight—than fossil fuels. Coal provides 37 times more energy per kilogram than the best lithium-ion batteries available today. Gasoline provides 60 times more

Like the Obama Administration, Gates thinks that throwing money at firms attempting to solve this and other problems related to energy is a good idea. I do not think that either Obama’s people or Gates are particularly skilled at this sort of investment, but I have much more respect for Gates because he is throwing money that he and other investors are providing voluntarily, rather than appropriating taxpayers’ money to fund his dubious scheme.

Unfortunately, elsewhere in the essay, Gates touts the virtues of government-funded research and development. He should read Matt Ridley’s analysis of that in The Evolution of Everything. Ridley offers a refutation of Gates’ recycled cliches.

For another optimistic take on batteries, see Seth Borenstein’s article.

Scott Sumner on the Great Depression

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His book will be out soon, and no doubt it will break into my earlier list. Meanwhile, he has posted a really useful flowchart summary.

My own views.

All recession are adjustment problems. The Great Depression’s adjustment problems included:

1. Massive reconfiguration of agriculture because of tractors, trucking, and refrigeration. This displaced farm laborers.

2. Massive reconfiguration of manufacturing, as the small electric motor changed many production processes. As Amy Sue Bix points out, as of 1920 there were still men rolling cigars and making light bulbs by blowing glass. Machines could to those jobs better.

3. Sudden changes in asset prices, as a land bubble burst in the late 1920s and a stock market bubble burst in 1929.

4. The rise of fascism/socialism in Europe and a fear of something similar here–regime uncertainty, to use Robert Higgs’ term.

5. Counterproductive New Deal initiatives, such as destroying pigs and organizing industry into cartels (the NRA).

6. Loss of trust in financial intermediaries.

7. Increase in international protectionism.

Books of the Year

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The top five of these seem to have come in a burst, over the last six weeks or so.

1. Hive Mind: How Your Nation’s IQ Matters So Much More than Your Own, by Garett Jones. Two factors stand out. One is that Jones is very good at anticipating the views of those who would disagree with him and offering gentle, persuasive arguments. The other is that this is a topic that deserves more discussion, but it is a “third rail” in academia that Jones is one of the few willing to touch.

2. Why Minsky Matters, by L. Randall Wray. Some people may be put off by seeing Minsky held up as the predictor of the financial crisis of 2008, which took place long after his death. But I think Minsky’s views are a a healthy antidote to the view that crises can be prevented through regulation. And I thought that this book gave genuine insight into Minsky’s thinking that was new to me.

3. The Evolution of Everything, by Matt Ridley. The theme is that decentralized evolution beats top-down control. I think that this is the book that I will recommend to a young person who shows an interest or inclination toward libertarianism. I think it is a better introduction to libertarianism than anything that is explicitly labeled as such. However, my guess is that people without libertarian sympathies will find it pugnacious and off-putting. For addressing those with different points of view, Ridley could learn much from Jones.

4. The Secret of Our Success, by Joseph Henrich. Henrich argues for evolution, particularly in the realm of culture, as passionately as Ridley, but he fails to make the connection with markets and hence with libertarian thought. When someone told me that they enjoyed Daniel Kahneman’s Thinking Fast and Slow, I recommended this book to him. Henrich, like Kahneman, popularizes some interesting research, and it has grand overarching theme. In some ways, the research Henrich summarizes is more compelling, because it includes anthropological studies in addition to the psychological experiments that sometimes leave me feeling swindled.

5. Foolproof, by Greg Ip. The theme is the unintended consequences of regulation as people and businesses adapt. Ip’s critique of top-down regulation is too gentle for my taste. However, for someone coming from a mainstream perspective, a gentle nudge probably works better than Ridley’s hard hammer.

Others:

MIT and the Transformation of American Economics, edited by E. Roy Weintraub. I’m cheating, in that this came out late in 2014, and it emerged from an even earlier conference. But this book, more than any other, pushed me to write what I call the Book of Arnold. I was particularly provoked by reading of the role of wartime thinking and defense department funding in getting the MIT program started.

Choice, by Robert Murphy. Makes Mises more accessible than he ever was to me previously. Unless you are capable of digesting Mises yourself (and perhaps even if you are), this is a vital work.

The End of Doom, by Ronald Bailey. A broad, fact-based critique of environmental doom-mongering.

The Essential Hayek, by Donald Boudreaux. Does for Hayek what Murphy does for Mises.

Our Kids, by Robert Putnam. Like Charles Murray in Coming Apart, Putnam explores what he calls “bifurcated family patterns.” From a left-ish ideological perspective, of course.