The Greenspan Fed

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Reviewing Sebastian Mallaby’s biography of Alan Greenspan, Randall Kroszner writes,

The Fed has limited instruments at its disposal—primarily its control over short-term interest rates—and trying to use this tool for “bubble bursting” while still addressing the Fed’s traditional mandates for full employment and low and stable inflation could lead to conflicting prescriptions. Better, Mr. Greenspan believed, to be ready to clean up the debris if a bubble were to burst, as in 1987. Mr. Mallaby argues that the inflation-targeting framework, which focused central banks world-wide on the goal of low and stable inflation in response to their bad behavior in the 1970s when they eased credit in the short run to boost employment, provided an intellectual underpinning for Mr. Greenspan’s approach.

Indeed, it is useful to go back to what economists were thinking back when Olivier Blanchard was writing that “the state of macro is good.” The idea was that the GDP factory slumped when there were inflation “surprises,” in which prices increased more slowly than expected, leading to real wages that were too high. So if the Fed kept the inflation rate predictable (and it might as well shoot for a predictable rate that was low), then everything would be fine.

Some remarks:

1. Now, journalists want to paint Greenspan as a great free-marketeer, as if he spent his career fending off cries for more financial regulation. In fact, there was a consensus in the 1980s that inter-state banking had to arrive and that the Glass-Steagall separation of investment banking from commercial banking was being eroded by innovation. The deregulation that ratified these changes would have happened under any conceivable Fed chairman at that time. Moreover, the deregulation was accompanied by what banking officials were convinced at the time were stronger and more effective regulations regarding safety and soundness. They were particularly proud of risk-based capital regulations, and it was the market-oriented economists of the Shadow Regulatory Committee who warned that those were not adequate to prevent a crisis.

2. The “(dis-)inflation surprise” theory of economic slumps is now gone. The closest thing remaining is Scott Sumner’s slower-nominal-GDP theory of slumps. That one works for the post-financial-crisis recession because real GDP went way down, which (a) meant that nominal GDP growth was slower than previously and (b) tautologically, there was a slump. I am troubled by the tautology aspect.

3. However, the Keynesians who dominate the current macro conversation have different theories. Some like to tell a story about consumer debt. Many like to tell a story about a liquidity trap.

4. Speaking for macroeconomists in general Blanchard is now open to many different ideas. However, the one idea that they will not consider changing is the GDP factory. Thus, the idea that patterns of sustainable specialization and trade matter is not on the radar screen.

The Elite Thinks the Peasants are Revolting

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Jeff Guo writes,

On a wide range of issues, bureaucrats believe that Americans are ignorant. For instance, over half of them say that the public knows little to nothing about government crime programs, child care programs or environmental programs.

He cites a new book that sounds interesting. A couple of my thoughts (not having read the book).

1. I do not think that the problem is so much that the civil servants under-estimate the knowledge and competence of citizens. I think that the problem is that civil servants over-estimate their own knowledge and competence.

2. In a specialized world, it is dangerous to look down on people just because they do not know your own specialty. Of course a typical citizen does not know what a government agency does. But I would argue that a typical government bureaucrat would need a lot of training to work in a modern farm or factory.

3. It is almost as if the bureaucrats are thinking, “Citizens, you are ignorant about the specifics of what we do to run your lives. That ignorance is proof that you are not competent to run your own lives. Therefore, we should have even more power to run your lives.”

Assessing the Obama Presidency

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Greg Mankiw points to the views of various Harvard faculty.

I think that assessing his presidency is a very difficult task.

1. We do not know how the next 8 years will make the Obama Presidency look. If the next President is embarrassingly bad (and Mr. Trump, Mrs. Clinton and even the unlikely Mr. Johnson seem quite capable of that), then he will look better than he does today. On the other hand, if there is a “chickens coming home to roost” event (such as a government debt crisis), he will look worse than he does today.

2. Compared to what? Ken Rogoff writes,

Monday-morning quarterbacks seem to forget just how close we came to a second Great Depression.

I think that the notion that the stimulus saved us from another Great Depression is baloney sandwich on two levels. First, I do not think we were at risk of another Great Depression. Second, I do not think that the stimulus had any net positive effect on employment. But if you agree with Ken, then you have to give President Obama a lot of credit.

Or, consider Obamacare. Compared to what? Compared to some optimal health care reform? Bound to look bad, obviously. But compared to leaving the existing system in place? You have to admit that Obamacare increased the number of households with health insurance. On the other hand, given that health insurance and health outcomes are not closely linked, is that such an achievement?

So the question comes down to, spending a lot of money to get more people health insurance–compared to what? From a health outcomes perspective, the money might have been better spent trying to understand and solve the drug abuse problem. But if the money had not been spent on implementing Obamacare, it might have been spent (either by the private sector or by government) on even less worthy items.

With those caveats, my own views on the Obama Presidency are largely negative (Charles Krauthammer, not surprisingly, also has a negative assessment). I do not believe that Obamacare or the stimulus or Dodd-Frank were good policies. I think that Syria is the most calamitous American foreign policy since Vietnam (among other things, the refugee crisis has caused great stress in Europe). Perhaps President Obama’s defenders want to consider Syria to be a consequence of the invasion of Iraq and to blame President Bush. That may be the right perspective, but if so it reinforces the hazards of trying to assess a Presidency until all of the consequences have played out.

An interesting issue is the relationship of Obama to polarization. His defenders see him as a victim of polarization. His critics see him as a contributor. People are polarized on the subject, as it were.

I see him as a contributor to polarization. I do not think he ever stepped out of his sociology-faculty-lounge mindset, in which conservativism is a pathology. In fact, once he leaves office, I expect him to voice this view quite forcefully.

Instead of seeking genuine compromise with Republican legislators, he offered the attitude that “If you were decent and rational, you would do things my way.” He often had the backing of mainstream media in his confrontations with Republicans in Congress, so that the Republicans, rather than he, were always labeled as obstructionist and usually had to back down. I realize, of course, that from the left’s perspective, Republicans were not decent and rational, and, if anything, President Obama did not get his way often enough.

Hart and Holmstrom win the Nobel

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1. Alex Tabarrok and Tyler Cowen (also here) have the most useful posts.

2. I was very relieved that the prize did not go to a macroeconomist. I do not see how I could write a charitable post if there is another Nobel Prize given for macro. I especially did not want to have to write a post about Bill Buckner getting into Hall of Fame.

3. On Holmstrom, Alex writes,

Suppose that you are a principal monitoring an agent who produces output. The output depends on the agent’s effort but also on noise. It wouldn’t be a very efficient contract to just reward the agent based on output since then you would mostly be responding to noise–punishing hard-working agents when the noise factors were bad and rewarding lazy agents when the noise factors were good. Not only is that unfair–if you setup a contract like this the agents will a) demand that you pay them a lot of money in the good state because they will be taking on a lot of risk that they don’t control and b) the agents won’t put in much effort anyway since their effort will tend to be overwhelmed by the noise, either good or bad. Thus, rewarding output alone gets you the worst of all worlds, you have to pay a lot and you don’t get much effort.

As I read Cosmides and Tooby, hunter-gatherers understood this. You want to let gatherers keep their output, which is not luck-driven, but you want hunters to share output, which is very dependent on luck.

Sometimes, theorists use a lot of math to come up with results that people operating in the real world have arrived at through experience. Indeed, this is a good thing, in my view. Because often the alternative is to come up with results that have no real-world relevance at all.

4. Maybe Cosmides and Tooby should get some consideration for the Nobel.

The Future of the Libertarian Party (and the others)

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On Facebook, Max Marty asked what Gary Johnson could have done differently. He also asks what one thinks of Randy Barnett’s argument that if the Libertarian Party did so poorly this year, it has no hope.

I always thought that Johnson’s only shot was if Mrs. Clinton became non-viable, so that Democrats staring at the prospect of President Trump would try to join with leading Republicans and endorse Johnson. But the Democrats stuck to Mrs. Clinton like glue, and so the Republicans viewed endorsing Johnson as throwing the election to her. Johnson did not get the sort of endorsements he needed in order to seem viable. But I’m not sure he did anything wrong.

As to the permanent irrelevance of the Libertarian Party, although strange and unpredictable things happen, I just cannot come up with a scenario in which the party gets anywhere.

The best hope I can see for small-l libertarianism in this country is in particular states. Utah? New Hampshire? Texas?

However, what is the future of the Democratic Party? In four years, Mrs. Clinton and Mr. Sanders will be four years older, and they are not exactly spring chickens now. Elizabeth Warren will still be polarizing. Tim Kaine will have to defend a dubious record, Barack Obama having left his successor with potential crises in foreign policy, the budget, and health care policy.

And what is the future of the Republican Party? The proportion of the electorate that is white, non-urban, and born before 1960 continues to shrink. The Trump vs. anti-Trump division will not necessarily heal.

Another indication that the future is volatile is that young people are particularly unhappy with both major party candidates.

Scott Alexander on The Revolt of the Public

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He wrote,

Systems are hard. Institutions are hard. If your goal is to replace the current systems with better ones, then destroying the current system is 1% of the work, and building the better ones is 99% of it. Throughout history, dozens of movements have doomed entire civilizations by focusing on the “destroying the current system” step and expecting the “build a better one” step to happen on its own. That never works. The best parts of conservativism are the ones that guard this insight and shout it at a world too prone to taking shortcuts.

Thanks to a commenter for recommending the post. Martin Gurri’s fear in The Revolt of the Public is that exactly the form of nihilism that Alexander fears is what the Internet facilitates.

Here is a thought: If you could push a button that would destroy everyone’s faith in government, in order that they would become receptive to libertarianism, would you do it?

Maybe the question is too ill-specified. But my answer would be “no,” and in that sense I am conservative. I certainly would like to see people change the way that they think about government, so that they wish it to take on more less responsibilities and face fewer more constraints, but I do not want to blow things up so that we can start over.

My view on Clinton vs. Trump has been different. I see Trump’s authoritarian tendencies as almost certain to be restrained by the media, by left-wing elites, and by important elements of the Republican establishment. Even if we grant that Clinton is cautious, how would she react to, say, a government debt crisis or continued escalation of he costs of Obamacare? My guess is that her response would be authoritarian, with more regulation and controls. And there would be no effective institutional opposition.

However, it is not an easy call. I agree that a Trump victory would probably harm conservatism and libertarianism more than a Trump defeat. And that is worth taking into consideration.

The Folk Dance Test

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Tyler Cowen asks Should we stop worrying about this election so much? Separately, he speculates that Suburbs will Soar on the Wings of Tech.

I have my own test for How We Will Be Affected by X. That is, how will X affect my folk dancing?

The Internet definitely affected my folk dancing. The dances have gotten harder, because dance session leaders know that you can watch YouTube videos to figure out steps that you miss at the sessions. So even though at first I could barely followthis dance watching the teacher, by now I can do it without copying someone (I still sometimes mess up).

Also, good dances spread much faster. And when I travel, I can easily look up dance sessions, and using GPS makes it easier to get to those sessions.

I don’t think that the outcome of election will affect my folk dancing, so I don’t think that the election is so important.

I also don’t think that self-driving cars or drones will affect my folk dancing. They will not make dance sessions less plentiful in the Maryland suburbs or more plentiful in other parts of the country.

My deeper point is that the reasons people have for choosing where they live these days have a large idiosyncratic component. Therefore, I would be reluctant to make sweeping generalizations about how self-driving cars will affect location choice.

And as much as people are emotionally worked up over the election, its effect on your day-to-day life may not be all that great. I’m much more worried about my favorite dancers leaving the area (for idiosyncratic reasons) than I am about who will win the election.

The Three Iron Laws, Illustrated

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Tyler Cowen writes,

I find few people are willing to embrace the more consistent statistical preference plus agnosticism, rather they play the game of “statistical noise for thee but not for me.”

He is writing about what is now a seemingly ancient question about the stock market’s reaction to the ups and downs of Mr. Trump. I want to say that this issue illustrates Merle Kling’s three laws of social science.

1. Sometimes it’s this way and sometimes it’s that way. In this case, sometimes one can find an affect of a change in Mr. Trump’s prospects and the market, and sometimes one cannot.

2. The data are insufficient. In this case, there is not enough data to make a definitive judgment.

3. The methodology is flawed. In this case, one can argue that the analyst is basing a conclusion on statistical noise.

Maybe the quote from Tyler suggests a fourth iron law: if the issue is emotionally salient, given that the first three iron laws hold, motivated reasoning and confirmation bias take over.

My Review of Erwin Dekker

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is now available. I write,

he identifies a number of tensions in their thought: the economist as detached observer versus the economist as political participant; progress versus decline; liberty versus restraint; individualism versus culture; modernity versus tradition; and what Jacob T. Levy would call rationalist versus pluralist.

The book, The Viennese Students of Civilization, is published by Cambridge University Press, about which I have several complaints.

1. After several tries, I still have not found it on their web site. Here it is on Amazon.

2. The price is terribly high, particularly for the Kindle version.

3. To add insult to injury, it appears to me that CUP did not spend a dime (or should I say a pence?) on editorial assistance. The book is filled with errors of English usage.

It is an important book, and shame on CUP for making it hard to afford and difficult to read.