If economics is a science, it is more like biology than physics. Biologists try to understand the relationships in a complex system. That’s hard enough. But they can’t tell you what will happen with any precision to the population of a particular species of frog if rainfall goes up this year in a particular rain forest. They might not even be able to count the number of frogs right now with any exactness.
We have the same problems in economics. The economy is a complex system, our data are imperfect and our models inevitably fail to account for all the interactions.
The bottom line is that we should expect less of economists. Economics is a powerful tool, a lens for organizing one’s thinking about the complexity of the world around us. That should be enough. We should be honest about what we know, what we don’t know and what we may never know. Admitting that publicly is the first step toward respectability.
Saturday, February 27, 2010
Thursday, February 25, 2010
The child's cry in Anderson's tale applies to Brazil. It's supposed to have enjoyed a period of great prosperity since 2005, at least according to the global public opinion. This glaringly delusional cover article in the The Economist serves as an example.
The wave of optimism about the country doesn't hold water however even to a basic evaluation of its recent economic performance, as I discuss in my latest article in OrdemLivre.org (in Portuguese). Here's a translation of its main conclusion:
It becomes evident therefore, that the performance of the Brazilian economy during the last the five years was mediocre when compared with the performance of the chinese and Indian economies. It was not better than the performance of the Mexican economy too. In particular, unemployment rates and short-term interest rates have remained too high and incompatible with the rates observed in peer countries. In view of the economic bonanza enjoyed by those countries, which experienced very favorable international conditions from 2005 to the beginning of 2008, it's clear that the performance of Brazil could have been much better. The notion nurtured by the global public opinion that the Brazilian economy has been passing through an excellent moment does not correspond to the economic reality of the country.
The graphs below, reprsenting respectively GDP growth rates, inflation rates, unemployment rates, and short-term interest rates, use Principal Global Indicators data. They reveal the comparatively mediocre economic performance of Brazil during the last five years.
Kay argues that the changes in European political thinking are one of the main factors responsible for the strengthening of the European Union. He suggests that the deideologization of the European political speech made the old divisions between socialists and their opponents irrelevant, opening space in Europe for healthy political competition based on meritocracy and practical questions of regional interest. In other words, the collapse of socialism removed the obstacles to constructive dialogue in European politics.
Ironically, the effect on American politics has been exactly the opposite. The collapse of socialism brought down one of the most important factors of political cohesion in the country. The fight against communist and national-socialist totalitarianism served to amalgamate different ideologies in the US for almost a century, keeping left and right extremists at the margin of society and enabling a positive interchange between democrats and republicans. ... The disappearance of this unifying element however led to the rise of extremist activists and intellectuals that before were excluded from the political debate.
Monday, February 22, 2010
The graph shows how the fast monetary expansion following the financial crisis, as expected, temporarily drove down interest rates. Nonetheless, if the past serves as a guide, this liquidity effect will probably sooner rather than later be replaced by income, price-level and expected-inflation effects, at which point interest rates will have to rise. Given the current policy of easy money, the only way interest rates could remain so low for a longer-than-usual period is if some strange financial innovation continuously brings down the velocity of money. I'm not betting on the latter though (it wouldn't be a beautiful scenario anyway). My guess is that the Fed will be forced (and forced is the word) to raise rates soon, once money starts to move around (in other words, I have a hard time believing that Americans can fully emulate Japanese household behavior and their government's policy mistakes).
In this case, it'll be interesting to see how rising nominal interest rates will interact with the financing of the huge budget deficits that we've been experiencing for years. On one hand, the need to tighten the monetary policy stance will conflict with the expansionary fiscal policy of the administration, reducing its access to debt financing. On the other hand, it will impose a much more significant debt servicing cost on the US Treasury, meaning that payment of interests on preexisting debt will also conflict with the administration's spending priorities. Both effects could lead to a new wave of populist rambling against the Fed and calls for an inflationary policy, feeding monetary disarray. So the question is: is this country heading towards fiscal and monetary chaos banana republic style?
Friday, February 19, 2010
THE private provision of health care comes in several forms across Europe. In Germany and the Netherlands it provides coverage for those not on government schemes; in Britain and Ireland it duplicates state-run systems; and in France it tops up cover from official programmes. But do private health schemes lead to better care overall? A study by the Boston Consulting Group concludes that countries relying mainly on insurance—such as France, Germany and the Netherlands—provide better care than those, like Britain, Italy and Spain, that are chiefly funded by taxes and which spend less on health care as a proportion of GDP.
By the way, the Swiss health care model is excellent and highly compatible with American institutions. Why is it that almost nobody talks about their model in this country?
PS: notice in the graph how quality can't be dissociated from spending.
Thursday, February 18, 2010
What began as a routine report before the Senate Finance Committee Tuesday ended with Bernanke passionately disavowing the entire concept of currency, and negating in an instant the very foundation of the world's largest economy.
"Though raising interest rates is unlikely at the moment, the Fed will of course act appropriately if we…if we…" said Bernanke, who then paused for a moment, looked down at his prepared statement, and shook his head in utter disbelief. "You know what? It doesn't matter. None of this—this so-called 'money'—really matters at all."
"It's just an illusion," a wide-eyed Bernanke added as he removed bills from his wallet and slowly spread them out before him. "Just look at it: Meaningless pieces of paper with numbers printed on them. Worthless."
Wednesday, February 17, 2010
Saturday, February 13, 2010
Almost continuously since 2003, federal-government spending has gone only one way, rising at an annual average rate of 8% in real terms (see chart). This year the budget allows for a 15% increase, which puts the finance ministry’s talk of prudence in perspective. This binge has been possible because revenues have risen fast, too, because of economic growth and because more businesses have left the informal economy and gone legal. But so long as the extra money continues to go on hiring civil servants rather than doing things that will allow the economy to grow faster without overheating, interest rates will remain high. At its present level of 8.75%, the benchmark rate would be absurdly high in most big economies. For Brazil, it is apparently too loose.These were times of incredible worldwide liquidity and very positive prospects for Brazil, and yet growth rates have been subpar and interest rates remained extremely high. Imagine what will happen once interest rates spike in the rest of the world and the investors' infatuation with the country is over.
Brazil would do well to ignore grandiloquent forecasts put out by interested domestic and foreign financial analysts. These people have directly profited from the rise of the Brazilian markets, and will profit even more from their fall. It could also use the distraction created by the Greek imbroglio to do some real fixing of its economy before a change of tide takes place. Unfortunately, it doesn't appear that Brazilian leaders are capable of rising to the task.
Thursday, February 11, 2010
In a separate paper, I have called for the ‘constitutionalization’ of money. The events of 2008 demonstrated that markets will not work with money anarchy. Further, history tells us that politicization is not an effective alternative. We are left with the in-between prospect of establishing and enforcing a set of constitutional rules that will, on the one hand, limit the range and scope of disorderly anarchy, while, on the other, isolate the monetary sector from political efforts at manipulation.
Perhaps the most hopeful perspective involves an initial recognition that the objective is within the possible. There is no physical or psychological barrier that necessarily prevents the achievement of that which is commonly desired. The value of the monetary unit, the United States dollar in the setting of early twenty-first century, can, and must, be treated as a ‘relatively absolute absolute’. Along with the other required institutional changes, some of which are noted above, this value can be operative as an anchor for exchange transactions at all levels.
Wednesday, February 10, 2010
Myth 6: Other Eurozone governments should support the Greek government to avoid destructive contagion. I argued that contagion need not be destructive if banks can bear it, so the need for a collective bailout is not established. There is a huge moral hazard cost, on the other hand.
Fact 6: The Treaty strictly prohibits bailouts. Art. 100(2) states: “Where a Member State is in difficulties or is seriously threatened with severe difficulties caused by exceptional occurrences beyond its control, the Council may, acting unanimously on a proposal from the Commission, grant, under certain conditions, Community financial assistance to the Member State concerned. Where the severe difficulties are caused by natural disasters, the Council shall act by qualified majority.” This article has been written precisely to ban bailouts. Interpreting continuing fiscal indiscipline as “exceptional occurrences beyond its control” runs against the spirit of the Treaty. Violating the Treaty to rescue countries whose successive governments have made no effort to achieve fiscal discipline over the last decade (or longer) is indefensible.
Friday, February 5, 2010
Thursday, February 4, 2010
Should the income tax include a credit for short taxpayers and a surcharge for tall ones? The standard utilitarian framework for tax analysis answers this question in the affirmative. ... A tall person earning $50,000 should pay $4,500 more in tax than a short person.The most interesting point they make however is this one:
If policies such as a height tax are rejected, then the standard utilitarian framework must fail to capture intuitive notions of distributive justice.