Broadberry and Wallis: A Suggested Interpretation

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The Economist reports,

Stephen Broadberry of Oxford University and John Wallis of the University of Maryland have taken data for 18 countries in Europe and the New World, some from as far back as the 13th century. To their surprise, they found that growth during years of economic expansion has fallen in the recent era—from 3.88% between 1820 and 1870 to 3.06% since 1950—even though average growth across all years in those two periods increased from 1.4% to 2.55%.

Instead, shorter and shallower slumps led to rising long-term growth. Output fell in a third of years between 1820 and 1870 but in only 12% of those since 1950. The rate of decline per recession year has fallen too, from 3% to 1.2%.

Tyler Cowen inspired me to find the article.

Set up two random-number generators, each producing a normal distribution. Give generator M a mean of 2.55 and a standard deviation of 1.5, and give generator H a mean of 1.4 with a standard deviation of 3. Take about 100 draws from those two random-number generators, and then separate the results into positive and negative numbers.

Presumably, the negative numbers from generator H will be more numerous and have a more negative average than those from M. The positive numbers from H, although fewer, could turn out to be larger on average than those from M. That is, by truncating the results from H at zero, the larger standard deviation might lead to a higher average for H than for M. If it does not, then tweak the difference in standard deviations between the two generators a bit more.

In other words, you can replicate the Broadberry-Wallis results without the nature of booms or recessions having any causal role. If modern economic growth, M, is higher with a lower annual standard deviation than historical economic growth, H, then you would observe these sorts of results if you arbitrarily select 0 as your dividing point between booms and slumps.

[UPDATE: a reader writes,

1. With the parameters you suggested, the conditional expectation for H is 2.99, whereas the conditional expectation for M is 2.7.

2. To reproduce their results with the Gaussian model, we’d need to have a standard deviation of about 4.16 for (H), and a standard deviation of about 2.2 for situation (M).

I would add that as you go back in history, much of output is agricultural, and subject to annual variation in weather. So variance might well have been higher for that reason.]

Classic WaPo Front Page Editorial

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On a proposed cut in the corporate income tax.

President Trump is pursuing a drastic cut in the corporate tax rate, a move that is likely to grow the national debt and breach a long-held Republican goal of curbing federal borrowing.

That is the main theme of the story. This would be fine with me if the Post were always so fastidious about editorializing about the deficit effect of policies. For example, they could report Mr. Trump’s budget cuts as moves that are likely to shrink the debt and help curb federal borrowing. Or they could describe Democrats’ spending proposals as likely to grow the national debt.

Or they could not do any front-page editorializing and instead use the opinion page to express their concerns.

The irony of this is that for people like me, this shifts the focus away from President Trump’s flaws and keeps the attention on the Post’s flaws. The less even-handed they are, the more sympathy I have for Mr. Trump. Of course, their more typical Trump-hating readers are thrilled to see them attack President Trump at every opportunity.

Related:

Jack Shafer and Tucker Doherty write,

The national media really does work in a bubble, something that wasn’t true as recently as 2008. And the bubble is growing more extreme. Concentrated heavily along the coasts, the bubble is both geographic and political. If you’re a working journalist, odds aren’t just that you work in a pro-Clinton county—odds are that you reside in one of the nation’s most pro-Clinton counties. And you’ve got company: If you’re a typical reader of Politico, chances are you’re a citizen of bubbleville, too.

I recommend the entire essay.

If I were an editor

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I would be very hard on a lot of manuscripts. As a result, fewer published books would fail to meet my standards. By the same token, a lot of authors would be really frustrated, and they would give up trying to meet my standards.

I thought of this when I received a review copy of Andrew W. Lo’s Adaptive Markets from Princeton University Press. Lo is highly respected and warmly regarded in the field of finance. He could write a book consisting of “Mary had a little lamb” written forward and backward 10,000 times and still get good blurbs and lots of library purchases. So as a publisher you don’t want to throw an aggressive editor like me at him.

But gosh. The introduction does not tell the reader anything about where the book is going. There is no conclusion to tell you where you have been. The middle reads like a transcript of every lecture he has ever given to first-year students or business practitioners.

This book makes me appreciate Sebastian Mallaby and Greg Ip all the more. In Foolproof, Ip gave us the distinction between economists as engineers and economists as ecologists. Lo speaks the language of ecology, yet on p. 371, he writes,

if there’s one single proposal that unambiguously moves us closer to a more stable and robust financial ecosystem, it’s to develop better measures of systemic risk.

Spoken like a true engineer.

There are a lot of fun stories in the book, and I imagine that would entertain a young finance student. But not me.

Financial Policy if I were in charge

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This afternoon, I am supposed to participate in a discussion of financial regulatory policy. There are so many participants, including big shots like John Taylor and John Cochrane, that I may end up not saying anything. I probably will just hand out the post that I put up in 2010, which I still like very much. Here it is:

1. Extricate the government from the mortgage market as soon as is practical. I foresee reducing the maximum mortgage amounts that of Freddie and Fannie to zero in stages over a period of three years, then selling off their portfolios two years after that. I would even get rid of FHA. I would also get rid of the mortgage interest deduction. My guess is that the market would evolve toward higher down payments, and probably toward mortgages like the Canadian five-year rollover.

2. Housing aid to poor people would take the form of vouchers. No other Federal involvement in housing.

3. I would support a law that says that lenders must not make loans with the intent of exploiting borrower ignorance. Allow case law to develop to define rules and norms in support of that principle, rather than try to come up with fool-proof regulations.

4. Break up the top 10 banks into 40 banks. I think that is the best solution to the “too big to fail” problem, although there is no perfect solution to Minsky-type financial cycles.

5. Replace capital requirements with systems that put senior creditors in line to lose money in a default. Let them discipline the risk-taking of financial institutions.

6. Define priorities for creditors in a bank bankruptcy. I think that the solution to the social value–or lack thereof–of derivatives and other exotic instruments can be handled by the priority assigned to them. I would assign them a low priority. That is, first ordinary depositors get paid off. Then holders of ordinary debt. Other contracts, such as swaps or derivatives, come after that. I think that this would provide all the incentives needed either to curb derivatives or lead them to be traded on an organized exchange. I don.t think that getting them onto an organized exchange should be sought after as an end in itself.

7. Get rid of the corporate income tax, which encourages excess leverage. If the private sector, including banks, had lower debt/equity ratios, the financial system would be sounder.

8. Develop emergency response teams and backup systems that can ensure that the basic components of the financial system, particularly transaction processing, can survive various disaster scenarios, both technological and financial.

The overarching principle I have is that we should try to make the financial system easy to fix. The more you try to make it harder to break, the more recklessly people will behave. By reducing the incentives for debt finance and for exotic finance, you help promote a financial system that breaks the way the Dotcom bubble broke, with much lesser secondary consequences.

[Postscript:

1. I took four books to the meeting, and I got autographs from their authors.

2. We are not supposed to talk about what was said.

3. I did not hand anything out. I requested to be called on at one of the discussions, but my time came just as people had been promised a coffee/bathroom break, so I did not receive very much attention. I tried to say that it is futile to try to make the financial system hard to break. Crises come from surprises, and you cannot outlaw surprises. I suggested instead the approach of making the system easy to fix. Have backup systems to keep ATMs working (Paulson and Bernanke claimed that without TARP the system would have been so frozen that ATMS would have run out of cash. That was a sales pitch that the “common man” needed TARP and I think it was probably a lie, but in any case a backup system would be a good idea.); backup systems for settlement and clearing of transactions on exchanges in case a financial derivatives exchange blows up; and changing the tax bias to favor equity rather than debt.

4. A commenter says that eliminating the mortgage interest deduction would be a blow to the middle class. Actually, if you assume an across-the-board tax cut so that the change is “revenue neutral,” it probably helps the middle class. The benefits of the deduction go mainly to the rich. In fact, you could just cap the deduction at a low level and leave the middle-class borrower alone, and still get most of the revenue from it. But for me, the point of getting rid of the deduction is not to get revenue, but to change the incentives on leverage. So I do not want to cap it. Instead, I would prefer to have it phase out over a period of 5 or 10 years for people who have mortgages.]

Re-reading Bobos in Paradise

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On p. 47, there is this:

For one reason or another the following people and institutions fall outside the ranks of Bobo respectability: Donald Trump, Pat Robertson, Louis Farrakhan, Bob Guccione, Wayne Newton, Nancy Reagan, Adnan Khashoggi, Jesse Helms, Jerry Springer, Mike Tyson, Rush Limbaugh, Philip Morris, developers, loggers, Hallmark Greeting Cards, the National Rifle Association, Hooters.

That is David Brooks, copyright 2000. Unless you think I have a photographic memory, I did not recall this sentence when I first wrote that the 2016 election was along the Bobo vs. anti-Bobo axis.

Seaweeding

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Seasteading is a new book by Joe Quirk, with Patri Friedman. I cannot resist calling it quirky. If you are expecting the book to consist mostly of wacko libertarian ideas, you are wrong. It consists mostly of wacko environmentalist ideas. Apparently, there exist visionaries or crackpots, or both, who think that seaweed and other ocean life can provide cheap food, cheap energy, and cheap carbon sequestration. Here are some random excerpts:

Ricardo has shown that his most basic sea farm costs only $200.00 US to construct, covers only a half hectare in size, and supports five people with year-round harvests of diverse crops. (p. 85)

an ultrahealthy algae species called dulse. . .smoking it as if it were meat they were astonished to find it tasted like [bacon] (p. 98)

The authors suggest that adding iron to the Southern Ocean circling Antarctica alone could reduce carbon dioxide levels by 15 percent. (p. 146)

the ocean’s stored energy can be tapped by OTEC, or ocean thermal energy conversion. . .OTEC produces no greenhouse gases, blights no land, is not visible from shore, requires minimal maintenance, and runs twenty-four hours a day, 365 days a year. p. 146-148

If you take away any message from this book, it is this: Seasteading is about emigrant rights.
p. 301

1. I am skeptical that there are these twenty-dollar bills lying on the sidewalk floating in the oceans.

2. Even if there are twenty-dollar bills floating out there, it is not clear to me that you need to live on the ocean in order to collect them.

3. Do not mistake resources for wealth. Wealth consists of patterns of sustainable specialization and trade. There is plenty of land in the U.S. Land is only scarce in places like New York or San Francisco, where the patterns of specialization and trade are so lucrative.

4. From a PSST perspective, the most promising economic model for a seastead would be as a seaport. Find a part of the coast that lacks a natural harbor, set up a seastead harbor, and build a bridge or tunnel to connect the seastead to the land. That would create new opportunities for specialization and trade.

The New Economy in France

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Christopher Caldwell writes,

Guilluy doubts that anyplace exists in France’s new economy for working people as we’ve traditionally understood them. Paris offers the most striking case. As it has prospered, the City of Light has stratified, resembling, in this regard, London or American cities such as New York and San Francisco. It’s a place for millionaires, immigrants, tourists, and the young, with no room for the median Frenchman. Paris now drives out the people once thought of as synonymous with the city.

…As a new bourgeoisie has taken over the private housing stock, poor foreigners have taken over the public—which thus serves the metropolitan rich as a kind of taxpayer-subsidized servants’ quarters. Public-housing inhabitants are almost never ethnically French; the prevailing culture there nowadays is often heavily, intimidatingly Muslim.

Pointer from Glenn Reynnolds. Read the whole thing. This is one of those articles that one cannot excerpt enough.

Title Insurance, Blockchain, and Reality

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A reader points me to this report from Goldman Sachs, from last year, on applying Blockchain to title insurance.

We estimate that blockchain could drive cost savings of approximately $2 – $4bn as a result of reductions in headcount and actuarial risk. We believe blockchain could streamline the manually intensive process of property title search, introducing significant headcount cost savings into the system. In our base case, we estimate that blockchain could drive $2.3bn in headcount savings, primarily driven by a 30% reduction in fixed headcount personnel in search & examination as well as abstract and curative functions, combined with a 20% reduction in variable expenses from agent commissions and sales & marketing

The obstacles to a better title system have nothing at all to do with technology.

1. You could get most of these savings without any technology, just by switching to a Torrens title system.

2. The number of Congressmen willing to risk re-election to improve the title system in any way? 0

Deep State?

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Tyler Cowen writes,

I don’t believe in many (any?) conspiracy theories, and if there hasn’t been talk about “the deep state” on MR to date, there is a reason for that. Still, I have been wondering how one might think about the deep state in public choice terms, even if you have a rather modest view of what it is all about. Day to day, we mostly get “the shallow state,” so what might the deep state mean?

I immediately think of J. Edgar Hoover. A lot of Presidents did not like him, but no one dared to get rid of him. To me, that is the ultimate in “deep state” power. It is the ability of some bureaucrats, particularly within the national security apparatus, to hold onto their budget and autonomy even when their policies and/or personalities clash with those of the “shallow state” (elected officials).

I also think of Mark A. Zupan’s Inside Job, which I have just read. He talks about the ability of government officials to act on behalf of proprietary interests, including their own. It is a depressing book. The least compelling chapter is the one where he suggests reforms to try to improve the situation. As long as the public, particularly the educated public, has such a naive support for government power, things seem pretty hopeless to me. In some sense, perhaps the real Deep State is the education establishment, which serves as an anti-market, pro-government propaganda machine. That may be more important than the leverage that the security establishment has with politicians.

State Capacity

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Noel D. Johnson and Mark Koyama write,

The origins of modern economic growth are to be found in the expansion of market exchange and trade that gave rise to a more sophisticated and complex division of labor that rewarded innovation and to the cultural and potentially non-economic factors that helped spur innovation (Howes, 2016; McCloskey, 2016; Mokyr, 2016). The importance of the rise of high capacity states to this story is that these states helped to provide the institutional conditions that either enabled growth and innovation to take place or at least prevented their destruction through warfare or rent-seeking

we suggest that the long-run relationship between culture, social capital, identity, and state capacity has only just begun to have been studied and awaits much future research.

Pointer from Tyler Cowen.

The authors say that state capacity consists of the capacity to enforce laws and the capacity to collect taxes in order to provide public goods.