Category Archives: books and book reviews

What I’m Reading

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The Aggregate Production Function and the Measurement of Technical Change: ‘Not Even Wrong’ by Jesus Felipe and John S.L. McCombie. It is a long technical book. Here is my attempt to summarize one of the main arguments.

Suppose I give you two observations, which might come from otherwise-similar economies or from the same economy at two different points in time:

1. Output per worker = 400, capital per worker = 100.

2. Output per worker = 410, capital per worker = 110.

Can you calculate the elasticity of output with respect to capital?

The answer is “yes” if we are measuring physical units. Bushels per worker. Tractors per worker.

But suppose that we are using national income accounting data. Then our measure of output is GDP. And our measure of capital is income not going to labor. Now, in addition to having well-known aggregation problems in computing output and a capital index, we have to assume implicitly that the marginal product of the 10 additional units of capital is the same as the average product of the first 100 units of capital. But that amounts to assuming that you knew the answer before you even had the second observation. You are only pretending to learn from the data.

This calls into question a whole lot of empirical research purporting to describe economic growth or cross-country productivity differentials.

Stability of Government

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In this essay, I write,

Ultimately, it is the cultural beliefs of citizens that determines whether a limited-access order or an open-access order can remain stable. For a limited-access order, the necessity is for citizens to give enough legitimacy to the monarch to enable the monarch to rule without having to give way to an open-access order. For an open-access order the necessity is for citizens to withhold legitimacy from the government when it tries to expand too much.

Since I first composed that essay, I have come to think that open-access orders have two sources of stability. One is the fact that nearly everyone feels that they have a stake in the system. The other source is the set of norms and beliefs that had to develop to make an open-access order possible in the first place. Those layers of beliefs provide a strong counter-weight to disorderly political activism.

Reading David Brooks on Character

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After downloading his new book, The Road to Character, I started by skipping to his concluding chapter, where he writes,

The things we call character endure over the long term–courage, honesty, humility. People with character are capable of a long obedience in the same direction, of staying attached to people and causes and callings consistently through thick and thin…They are anchored by permanent attachments to important things. In the realm of intellect, they have a set of permanent convictions about fundamental truths. In the realm of emotion, they are enmeshed in a web of unconditional loves. In the realm of action, they have a permanent commitment to tasks that cannot be completed in a lifetime.

…Wisdom starts with epistemological modesty. The world is immeasurably complex and the private stock of reason is small. We are generally not capable of understanding the complex web of causes that drive events. We are not even capable of grasping the unconscious depths of our own minds. We should be skeptical of abstract reasoning or of trying to apply universal rules across different contexts…The humble person understands that experience is a better teacher than pure reason. He understands that wisdom is not knowledge. Wisdom emerges out of a collection of individual virtues. It is knowing how to behave when perfect knowledge is lacking.

As to whether I will like the entire book, I am worried about two things.

1. The reviews I have read are bland and uninteresting. An interesting book should provoke interesting reviews.

2. My instinct was to skip over the meat of the book, which is his biographical sketches of people whose character he admires. When I get around to reading those, the question is whether I will find them rewarding.

What I’m Re-reading

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Violence and Social Orders, by North, Weingast, and Wallis. A major theme is that there are natural states, or limited-access orders, in which only a minority of the population enjoys political rights and economic opportunity. One quote:

One of the principal institutional issues that emerged in this chapter concerned the problems of constraining personality: putting the king under the law. At the level of societies, the head of the dominant coalition–whether the pope or the Catholic Church, the emperor of Rome, or the king of a European state–reflects the realities of these natural states: the ruler is often above the law. This allows him or her to adjust the rules, privileges, rights, and laws to suit the needs of the coalition as the fortunes of various elites rise and fall. Elites gaining power must be granted more privileges and rents while those losing power also lose privileges and rents. The rules is not free to make these decisions at his discretion, but must instead attempt to maintain a coalition to support the natural state. Failure to do so risks coups, civil war, and other forms of disorder.

In an open-access order, where essentially all adults have political rights and economic opportunity, the challenge of bringing the head of state under the law has presumably been met. Sometimes, I am not so sure.

Also, consider another quote:

Party competition forces parties to compromise and to moderate interest group and constituency demands. Rent-creation cannot be the primary product of party competition in open-access orders. . .Because parties need to gain the support of many interests, they must temper the (rent-creating) demands of each, lest the associated extreme positions hinder the party’s electoral prospects.

If the authors are not careful, they will seem to have explained why the sugar lobby and the real estate lobby are ineffective in the U.S. and why the teachers’ union is ineffective in Maryland. They will have explained why we have such a simple tax code, and why it is so easy for unlicensed health care providers and unaccredited schools to gain traction.

. . .the interests active on any issue are endogenous. If a group attempts to extract too much, then other groups who are not normally active on an issue are likely to begin paying attention and become active. . .The endogenous approach suggests that a few open access order markets might be cartelized and protected, such as agriculture, and certain markets regulated to produce rents, such as airlines in mid-century United States. However, these markets are the exception, not the rule.

They wish to claim that rent-preservation is the essence of limited-access orders, but it is incidental and held in check under open-access orders. Perhaps they could cite Uber’s so-far successful breakthrough into the transportation market as an example in which the open-access order was able to activate enough support for Uber to prevent its destruction by incumbent taxi companies.

However, reading these passages, I found myself inclined to disagree with the authors. I tend to give more credit to the power of interest groups and less credit to the ability of the open-access order to confine rent-seeking. I think of the sugar lobby, the housing lobby, the teachers’ union in Maryland, occupational licensing in health care, . . .But to the authors’ point, the size of these rents probably is dwarfed by the size of entitlements, which are policies directed at the broader public. And yes, they will make a frontal assault on the Olson-Downs view that special interests always win.

Regulators and the Socialist Calculation Problem

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My latest essay is on Engineering the Financial Crisis, by Jeffrey Friedman and Wladimir Kraus. I think that their book demonstrates that regulation falls victim to the socialist calculation problem.

Centralizing risk assessment through regulatory risk weights and rating agency designations has several weaknesses. Local knowledge, such as detailed understanding of individual mortgages, is overlooked. At a macro level, regulators’ judgment of housing market prospects were no better than those of leading market participants. Moreover, regulators imposed a uniformity of risk judgment, rather than allowing different assessments to emerge in the market.

Reflections on Paul Samuelson and MIT Economics

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I have finished my first path through the Weintraub volume. Here are my thoughts now:

1. There truly was a dramatic break between pre-war and postwar economics. Before the second World War, you could still see economics as a branch of social and political philosophy. And as philosophers, economists were worried about what they could and could not know. After the war, the discipline became dominated by modeling. Some of that was a long-term trend, and some of it came from the fact that modeling was applied to some aspects of the war effort itself.

2. Samuelson and Solow were part of a transitional generation. They were exponents of the newer modeling culture, but they still had plenty of doubts about the assumptions embedded in models.

3. The next generation of MIT economists, I would argue, was never trained to question assumptions. Once a particular equation had become customary, because a lot of papers used that equation, you just treated the equation as true. Think of the Cobb-Douglas production function, or the expectations-augmented Phillips Curve.

4. Samuelson’s self-image was that of an ideologically neutral technocrat. In the Weintraub volume, Harro Maas writes,

Technicality implied impartiality and detachment. Samuelson thus exemplifies for economics the general move of science in the postwar era to define itself as technical, a move that fit well with the teaching and research profile that MIT developed in the postwar era.

And later,

Samuelson did not consider it his task to be partisan for one particular line of economic policy, or to compromise between opposite policy positions, but to step back, or better “step aside,” and offer an analytical perspective from which to choose.

5. Of course, I would view Samuelson’s very framework as ideologically loaded. Samuelson took a “seeing like a state” approach to economics. Whether it was a social welfare function, a Keynesian multiplier, the doctrine of revealed preference, the Phillips Curve, or the production function, he focused on tools for helping policy makers control an economy. With such tools, the policy maker could know enough to direct economic activity. Samuelson was not troubled by Hayekian concerns about local knowledge.

Gary Solon on Gregory Clark

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Solon writes,

Evidently, the results reported by Clark do not reflect a universal law of social mobility. Quite to the contrary, other studies based on group-average data, even surnames data, frequently produce intergenerational coefficient estimates much smaller than Clark’s.

If you are interested in the issues raised by Clark, read the whole thing. Solon’s interpretation of Clark’s thesis as involving errors-in-variables is similar to mine.

Conservatarian Dilemmas 3: Israel

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This is my third and final post prompted by the dialogue between Nick Gillespie and Charles C.W. Cooke. The issue is foreign policy, and although they did not discuss Israel, I think that it is about that country that conservatives and libertarians get most confrontational–and uncharitable–with one another.

Conservatives want a strong national defense, and some libertarians (seemingly including Gillespie) are ok with that. However, conservatives often want to intervene in this barbarous world, and libertarians are against intervention.

One libertarian argument against interventionism is that the U.S. government that is our agent to perform such intervention is the same flawed, bumbling entity whose intervention in domestic affairs we fear. Cooke concedes that point. However, he does not regard it as a decisive argument against any and all intervention.

There are more than a few libertarians whose vehemence against Israel makes it difficult for me to picture them joining a conservatarian coalition. The most charitable interpretation that I can come up with for the libertarian antipathy toward Israel is the following:

American libertarians are anti-interventionist. Israel is a country that wants America to intervene in ways to protect its interests. America has sometimes (often?) done so. Without Israel there would be less American intervention, and because of that Israel deserves to be singled out for opprobrium.

The conservative view might be the following:

Israel’s and America’s interests generally align. Along the civilization vs. barbarism axis, Israel is far more civilized than its enemies. American intervention is constructive and appropriate.

Some libertarians and progressives blame Israel for the costly, counter-productive attempt to force democracy on Iraq. I think it is unfair to hold Israel responsible. While some Israelis, notably Natan Sharansky, indeed were keen on spreading democracy, his views were much more popular in the U.S. than in Israel. Faith in democracy as a solution to the problems in the Middle East is as American as apple pie. If anything, President Obama took that faith even farther than President Bush.

My own feelings about Israel are similar to those expressed by George Gilder in The Israel Test, which I wrote about a couple years ago. Gilder sees hostility to Israel as reflecting a dislike for dynamism and entrepreneurial success. Progressives can seem nostalgic for the socialist poverty that Israelis shared before the liberalizations that took place over the past 30 years or so.

For some American Christian conservatives, support for Israel has a religious basis that is off-putting to more secular people (and to many Jews). Otherwise, I think that American support for Israel among conservatives is based more on Israel’s circumstances than on its diplomacy or lobbying. If there were as many medieval fanatics surrounding Singapore or Switzerland, my guess is that the conservatives who see America as the Indispensable Nation would want us to be heavily involved in those areas as well.

Another possible argument for leaning against Israel is that one should do so in order to counter Jewish political pressure. However, my sense is that most Jews feel a stronger affinity to the cause of progressivism than to Israel’s government, particularly with a conservative at its head.

Yes, there are American Jews who advocate for the U.S. to pursue hawkish policies in the Middle East, but they are far outnumbered by other American Jews who loathe the hawks. My guess is that if Binyamin Netanyahu wanted to get into a popularity contest in America with Barack Obama, he would do better if American Jews were excluded from taking part in the poll.

Finally, I have to say that I have concluded that this is a topic on which people have a hard time disagreeing with one another charitably. If you (or I) want to voice an opinion on Israel in order to vent, then fine. But you (or I) should not expect that someone’s mind is going to change as a result. Instead, expect an uncharitable response.

While I expressed some of my views on Israel, they are beside the main point, and feel free to ignore them. The main point in this post is simply the observation that Israel profoundly divides conservatives from a significant group of libertarians. If you disagree with that, or you think that the divide is caused by something I have not mentioned, then by all means weigh in.

What I’m Reading

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MIT and the Transformation of American Economics, edited by E. Roy Weintraub. David Warsh cited it and I blogged on Warsh about ten days ago, talking about how other universities’ resistance to hiring Jews enabled MIT to surge ahead. I think it is a fascinating volume, and I don’t think it’s just because I did my graduate work at MIT. A few things I’ve picked up so far.

1. Economic methods changed relatively rapidly between 1935 and 1955. In 1935, economics still looked a lot like a branch of social and political philosophy. By 1955, it was much more technical and policy-oriented, with a shiny scientific veneer. Keynes and the Depression got economists interested in activist government, and the operations research of World War II stimulated much subsequent work on theory, data collection, and policy.

2. Beatrice Cherrier’s essay, and others in the book, describe the emergence of what Samuelson dubbed the “neoclassical synthesis.” You can think of this as an attempt to reconcile Solow’s growth theory, in which saving is good, with Keynesian macro, in which saving is bad. The resolution is to say that the economy is only Keynesian in the short run.

3. In Andrej Svorencik’s essay, we get quantitative support for the view that a few dissertation advisers at MIT have played a dominant role in the profession as a whole. He points out that in my era Dornbusch out-sired Fischer in terms of numbers of students. Still, I continue to hold Fischer responsible for turning macro into a wasteland.

4. In Yann Giraud’s essay, we find that Samuelson’s textbook was bitterly opposed by conservatives, who put pressure on the MIT Administration, which in turn persuaded Samuelson to make changes. If this caving into outside pressure seems surprising, remember that this was the McCarthy era, and most individuals and institutions preferred discretion to waving a red cloak in front of that bull, so to speak.

I am still only part way through the volume.

Emergent Anarcho-Capitalism

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“Scott Alexander” reviews David Friedman’s classic, The Machinery of Freedom.

My overall conclusion is that I am delighted by this fascinating and elegant system and would very much like to see it tried somewhere very far away from me.

I might contend that a version anarcho-capitalism is being tried very close to us, in fact right here on the Internet. The Internet’s legal apparatus might be said to be its communication and software protocols. Those emerge in various ways, but not through legislation backed by force.

One might counter that much of what we do on the Internet rests on a layer of commercial practices, and those in turn rest on a layer of government enforcement. This line of reasoning might go: if you took away government, then Google could not enforce its advertising contracts, and then Google would not have revenue, and then we would not have Google.

But I think the argument that we should be afraid of anarcho-capitalism because we lack experience with such a system might not be trumps.