So. Much. Stupid. Conservative blind spots edition

Alex Tabarrok

Hey, black dudes! Its great having a big willy! Why you get so mad?! Us white guys are complimenting you!

Okay, that’s not what he said. But he did say this of Asians:

Alex Tabarrok

Hive mind is not even an insult it’s a compliment – like wisdom of the crowds. The hive mind diffuses knowledge and cooperates–it’s not all thinking alike it’s all using the best of each.

Perhaps I better back up a little and give all this a little context.

Noah Smith wrote a post saying that an academic paper  on A Garett Jones paper called “National IQ and National Productivity: The Hive Mind Across Asia“. When I hear about IQ and economic development I reach for my pistol. Noah Smith is just as sceptical. Personally, I don’t see the mechanism. As Chris Dillow says, there are models and mechanisms. You can come up with a pretty model and then become angry when the world deviates from it or you can think about how your pet theory would work its way through the real world.

I can understand a mechanism that uses slight changes in IQ to predict which “nation” will develop first. I’ll describe the one I have in my mind. There are thousands of institutional forms –  “rules of the game” – and only a few of them are compatible with economic growth and prosperity. A higher IQ gives a group 1) a wider the selection of institutional forms to choose between 2) those institutional forms will on average be more complicated 3) better institutions are more likely to be chosen 4) once successful institutions are identified a more intelligent group will be more likely to keep them.

That is an interesting model, but it doesn’t seem to bare any resemblance to the history of the world. The more accurate picture is that various interest groups fought it out in various different places until, in north western Europe a powerful merchant group came into the ascendency and won political concessions that secured their property rights. This happened to have happened after the political revolution following black death in which western European peasants won a degree of autonomy and near some coal. That combination of secure private property, freeish though expensive labour and cheap energy happened to produce sustained economic growth. Nobody planned it because they were smart. It wasn’t sustained because it was smart by the best of my knowledge either. Because Europe was the most violent place in the world, everyone had to strive towards economic growth or face political annihilation. So greed, luck and violence seem far more important to the first sustained initiation of economic growth than IQ.

Similarly, why are some nations wealthy now and some not? Well there is again a similar model where clever nations adopt good institutions and stupid ones don’t, merely out of ignorance, but that doesn’t seem to be the mechanism we observe. Very poor places had their institutions fucked up by white people – psst, that’s Africa, Latin America, China, India etc. – and it takes a long time to get it together after an occupation and negative structural shock. National IQ sounds racist, and while I concede it might have some predictive power with regard to who’s developed, it doesn’t accord with most of the other mechanisms we have for where economic growth comes from – so I’m fairly happy to dismiss it.

So it is into this milieu we jump.

Noah argues that the paper discussed, by Garett Jones, uses lots of racist tropes and should handled with care. He provides some evidence contrary to the predictions of the paper of varying degrees of convincingness. Scott Sumner, whom I respect greatly, hits back that there is a great deal of explanatory power in culture and that Noah shouldn’t throw around the word racist because it is a bad thing. The only problem is that nobody was talking about culture, they were talking about racially innate IQs, and their explanatory power with regards to economic growth. And that brings us to Alex Tabarrok’s comment, at the top of this post and left underneath Scott’s saying how a “hive mind” is a good thing.

This gets to the heart of the real problem.

For some reason, those on the left can see the context in which things happen in a way those on the right cannot. Noah isn’t too left wing, but he seems to have this special power (and attribute of the left wing hive mind, no doubt).

Because for conservatives it often seems context means nothing. I mean seriously; when, in any cultural artefact ever created, any film, novel, piece of art, daydream or utopian novel has a “hive mind” been presented in a positive light? From Zamyatin’s We, to Huxley’s Brave New World a hive mind is not presented as something good. The hive mind does not refer to the wisdom of crowds.

Lets go back to black people, because its easier to talk about racism against blacks. What has been one of the most persistent racist tropes about black people? That they are sexually promiscuous, even sexually aggressive. This is why white people going on about black guys large cocks is usually racist in content, and often racist in its implications. For a female example, the Hottentot Venus wasn’t exhibited for Londoners to gawp at just because white people were/are racist, but because they were/are racist in particular ways. The ways in which people are racist must colour the way in which we view statements.

Context matters. Asians have been stereotyped as sneaky, corrupt, uniform, “hive mind” automatons for over a  century. You still see it in most western reports of strikes and social unrest in China – shocked, shocked reporters that Chinese people are rebelling against their bosses or bureaucrats. Jamie covers Mass Gathering Incidents frequently and there is a good article length treatment of labour unrest here. Hive mind? Tell that to Foxconn. Considering a racist slur in context is not hard, it takes effort in fact to abstract away from the negative connotations of most racist slurs, yet conservatives do so all too often.

This is sometime around the 1970s conservatives realised they were losing the fight for intolerance, so they changed tactics and tried to reframe the debate. They were no longer arguing in favour of racism, oh no, they were arguing against over earnest antiracism. This was politically convenient for two main reasons.  One, lots of the ground work of antiracism was carried out by those on the left. Two, it gave racists someone to vote for. Now in the UK Labour had an at best mixed record on race, especially with regard to housing policy, but during the 1980s they were much more focussed on antiracism. During the same period conservatives began to create a victim mentality where attacking antiracism became more important than attacking racism.

Alex Tabbarrok might like the idea of being part of a hive mind. And some white men might like the idea of being sexually promiscuous with a mighty, large penis. But to completely ignore over a century of casual and institutional racism is plain stupid. But it is a pattern conservatives find themselves slipping into too often: attacking antiracism more virulently than racism. This post is less than completely satisfactory, but I’ll leave it there, and pick up in the comments if necessary.

How not to hire a central banker OR Are you fucking kidding me Cameron?

Perhaps the fourth most important job in the world is up for grabs. If you (*ahem*) want to be the UK’s chief central banker, the job is available – applications are due by 8th October to 1 Horse Guards Road, London. I say fourth most important because there are only three economies larger than the UK in the same depressed state: the US, Japan and the Eurozone. Unfortunately those doing the hiring have no idea how and why this job is important.

Why is this job so important? It is important because the central bank, to a large degree, determines how quickly we recover. If the bank keeps money tight we will recover very, very slowly, if it gets money right we will recover very, very quickly. I’ve decided to stop demanding loose money because that isn’t what I really want. Monetary policy should be set at the level that is predicted to produce the outcome you want, neither loose nor tight, but right.

For several years that is exactly what the Bank of England did. From mid-2004 to mid-2008 they set policy so that they expected 2% inflation in two years time. As this graph cribbed from Britmouse shows.

Since 2008 they have consistently set policy too tight to hit their target, that is, even by they own preferred metric they have been hamstringing the recovery. Money has been tight so growth has been slow. This makes the quality of the successor to Mervyn King very important indeed. Even doing his job properly would be an improvement on the Bank’s current practice.

I would argue that even this is not good enough. Someone who could do Mervyn King’s job well and set policy that is predicted to succeed, not fail as he has, will not get us the recover we need to put a million people back to work. We will remain depressed because inflation is a bad indicator of an economic recovery, much better is something like nominal GDP, which I have been going on about ad nauseum because people still don’t get it. (Click on the two graphs in the right of the blog for more info on this)

Below is a graph that shows the gap that has opened up between where the UK’s nominal GDP should be and where it is.

The economy wants to produce £1.7trn of goods and services a year, but tight money has restricted it to about 1.57trn of goods and services a year. £170 billion is what the UK economy is missing out on each and every year because our central bankers are not good enough at their jobs (nor currently authorised by the treasury) to bring us back to trend. The total loss currently totals around £500,000,000,000 or half a trillion pounds.

So what is a good central banker worth? Well, about £500,000,000,000 would be one answer, but bygones are bygones so lets be more constructive about it. A good central banker is one who closes that gap as quickly as possible. In the US they estimated that thier (bad) central bankers has cost their economy $4trn in lost output and will cost the economy another $4trn by 2018. A good central banker could be worth $4trn to them if they could return the economy to trend twice as quickly, which seems possible.

Lets copy the mechanism they employed here and makes some assumptions. First, a bad central banker closes that gap by 2018 during which the gap steadily closes. Second, a good one does it in half that time and the gap closes correspondingly until then. After a fairly convoluted process involving my half remembered A level maths I’ve decided that a bad central banker costs us a total of £500 billion in lost output, while a good one loses us “only” £250 billion in lost output. So doing this job correctly is worth perhaps a sixth of everything the UK can produce in a single year.

That they’re paying Sir Mervyn’s replacement a measly £307,792 a year suggests to me they aren’t taking things seriously enough. By our metric of good banker versus bad, they are only expecting an economist 0.0001% better than Mervyn King. Which might be setting the bar a little too low, even as a replacement for our worst central banker since the 1930s.

Of course, it being the coaltion, things are even worse than they at first appear. They aren’t even looking for an economist 0.0001% better than Mervyn King, they’re looking for a financial regulator. Read this paragraph and weep:

The successful candidate will have experience of working in, or with, a central bank or similar institution; or will have worked at the most senior level in a major bank or other financial institution. He or she will demonstrate strong leadership, management and policy skills; will have an advanced understanding of financial markets and good economic knowledge.  He or she will be a strong communicator, have good interpersonal skills and will be a person of undisputed integrity and standing.

Advanced knowledge of financial markets, but only “good” economic knowledge? Forgive me a moment, but are you fucking kidding me Cameron?

They don’t want a central banker, they want a financial regulator. A financial regulator needs to prevent fraud and ensure banks adhere to the rules laid out by parliament. A central bank is in charge of nominal demand because they issue currency. The two needn’t have anything to do with each other. Now that the Bank has to take on the FSA’s financial regulation duties they are going to let their other  responsibilities go by the wayside. Ignorance will damn us, not incompetence. As Scott Sumner has said of the 1930s, the last time we got things this wrong:

The elite bankers and financiers of Wall Street were pretty smart people.  So were the central bankers of the US, Britain, and France.  But they weren’t smart enough… So the wealthy conservatives of the interwar period who dominated central banking dug their own graves, and the graves of millions of others.  Not through greed but through ignorance.

This time is perhaps worse. At least in the 1930s people had a rough idea what a central bank was meant to do. Today, those in charge don’t know for which job they are hiring, so those who are hired won’t know what they’re meant to do, and the rest of us will all suffer for it.

This in’t because any of us deserve it or because those doing the hiring or being hired are necessarily bad people, but because life is hard and confusing sometimes. Everyone is finding it hard and confusing and this is why I keep shouting about this, because nobody needs to be evil to inflict suffering, just wrong. So we need to stop being wrong as quickly as possible.

Vince Cable is still the best member of this Government

Lars and Britmouse got there first, but let me point you towards Vince Cable‘s recent speech. The mainstream media focused on Vince’s reference to homebuilding in the 1930s. That is understandable in a country as obsessed with housing as the UK is, but the really interesting part was on monetary policy.

As in the 1930s, homebuilding now would be a sideshow, the real impetus to growth in the 1930s was leaving the gold standard, devaluation and reflation. This is exactly the policies  I and others have been calling for. Homebuilding was a consequence, not a cause of the UK’s recovery.

Without the Bank of England supporting the government no policy effort will be successful and this is what Vince says. Furthermore, without communicating that clearly the policy will fail. This is exactly what people like Scott Sumner and David Beckworth have been saying…and know it finds itself in the mouth of Vince Cable:

The right way to understand loose monetary policy is in terms of expectations: of whether future money demand will be growing fast enough to make borrowing to invest or spend worthwhile.  It is not enough just to look at the base rate.  Look at Japan: because of its persistent deflation, its zero-interest rates still do not reflect easy money conditions.  Anyone investing is facing the persistent pressure of falling prices and falling profits.

In the 1930s, the abrupt departure from Gold – so much condemned by the City – had the strongest possible effect on expectations of rising money GDP.

…What tools does the Government have? The first is continued use of monetary policy, and stronger communication of the policy aim it is meant to achieve – robust recovery in money spending and GDP. The Mansion House speeches signalled a clear intention to continue aggressive monetary policy.

Ladies and Gentlemen, that is Vince Cable advocating a NGDP target as a commitment device, exactly what this blog and many others have been arguing is essential if the UK is ever going to recover. There is some hope.

The Markets Don’t Predict a Bright Future

Loathe as I am to piddle on Scott’s victory parade, I think some perspective is needed. NGDP targeting is catching on, it certainly has supporters within the UK Government like Vince Cable and his staff and in the commenteriat. Likewise, it is gaining ground with Jeffrey Frankel, A professor at Harvard and in Japan and with Paul Krugman and yada yada yada…things are looking up for this obscure policy, which is a good thing.

Yet this optimism doesn’t appear to be buoying markets. If NGDP targeting has been gaining popularity you’d like to see some sign of it in the stock markets, yet the last three months have been awful.

There’s an awful lot of red pixels. Of course inferring anything from market data is very difficult, that is after all the point of markets, to process information. Events in the real world of central banking are likely to dominate discussions of NGDP targeting. But, were monetary policy regime change to be likely you would expect to see some optimism in the numbers, and these are very pessimistic numbers indeed.

Scott should be happy with his progress so far, he has undoubtedly helped put NGDP targeting and monetary easing back onto the policy agenda, when it might have been ignored. However, he is premature in saying the future is bright when all signs suggest it is very likely quite dim.

Nota Banquero sounds a lot like Notenbanker

I’m very sympathetic to the idea that the peripheral Eurozone countries should cut loose and devalue their new currencies to regain competitiveness and aid recovery. Krugman here half-recommends a quick default and devalue solution for countries running a primary surplus (that is, only borrowing money to cover the interest payments of previous loans).

The basic logic is one which I adhere to. The European Central bank has caused a debt problem to be seriously exacerbated by an aggregate demand problem, a new national central bank in control of its own currency (Esnewdo etc.) could boost demand through an adequate devaluation.

But there is no guarantee that such a devaluation would be adequate, or that a new central bank would act aggressively enough. To a degree the newly empowered Central Bank would have no choice, markets would force it to devalue, but much commentary assumes they would also force the bank into the accommodative policy, this need not be so. Many countries have voluntarily maintained too tight monetary policy for too long.

The cult of the credible central banker would stay the hand of any newly independent central bank. The logical and sensible point that a central bank must not behave recklessly or unpredictably has been become a dogma. Modern central bankers have become overly concerned that any departures from fighting inflation could lead easily to inflation expectations becoming “unanchored“, potentially leading to hyperinflation.

The political pressure to boost demand for a periphery Central Bank with its own currency would be intense. But this would only intensify the professional and institutional pressure on Central Bankers to resist these calls to retain their “credibility”; Interest rates may remain too high, or the bank may signal its hawkishness at any sign of demand picking up.

Devaluation without a change in the culture and prescriptions of central banking could lead to the worst of all worlds for the peripheral countries of Europe. Their economy could remain depressed and uncompetitive due to central bank stubborness but their external burden would have increased because their national, or at least, private debts remain denominated in much more expensive Euros.

Many countries have the option of following the Swiss and Swedish in devaluing but so far the US, UK and Japan have all refused. Britain today ignores opportunities to increase demand using monetary stimulus just as we suffered all through the 1920s because we chose to overvalue our currency. I fear much of southern Europe could find itself in the same situation.

In addition to this cult of the central banker, it may be that Steve Randy Waldman is correct and that depression is a choice. He argues that because of demographic pressures interest rates are naturally quite low, and because there are lots of old people who live off fixed income there are institutional problems to getting enough stimulus because they fear their income will be inflated away.

The low interest rates make normal monetary policy hard and the political constituency make unconventional policy too difficult to employ. Hence nations, or currency zones, “choose” depression. Demographic pressures in Southern Europe are similar to those in Japan and the elderly are much more powerful in Italy than in the UK or the US where policy also remains too tight.

The combination of political constituencies who are threatened or think they are threatened by looser monetary policy and a cult which treats loose monetary policy as a dangerous barbiturate may mean that even an independent currency may not be enough to pull the periphery of Europe out of its doldrums. The institutional constraints which have helped create the current Eurozone crisis will outlive the euro and must be considered in any rescue plan.

What would the “failure” of a NGDP targeting central bank look like?

Nominal Gross Domestic Product is depressed, that leads real GDP to be depressed because it is very difficult to accommodate rapid and large deflation so logically it must be lower. It also leads to the quantity of people employed to be depressed because the same is true of aggregate wages.

I don’t fully understand what critics of NGDP targeting mean when they say they suspect the policy would fail. I think the language NGDP targeting is something of a handicap, because once you start thinking in this language you begin to translate people’s statements and in the process they cease to make sense.

Chris Dillow says…

I fear, though, that economists who invoke “expectations” and “credibility” are making the error of mistaking the tidy maps of models for the messy terrain of reality.

Unlearning Economics says…

This is a clear example of confusing correlation and causation. When looking at two correlated variables, a good question to ask is which one moves first – here, the drop in RGDP clearly precedes the drop in NGDP. This suggests that the decline in RGDP is not a result of the decline in NGDP; rather, its the opposite.

So what happened in 2008? Obviously, the conventional story is true: a large drop in asset prices made many households and firms realise they were less wealthy than they thought; this caused firms to lay off workers; real production decreased; nominal income followed; expectations dropped; this created a spiral. The NGDP-driven story doesn’t withstand scrutiny, else we’d expect the NGDP drop to come first.

First of all, I agree with Chris that relying on expectations is a weak lever. But, if you are powerful enough to not have to rely on expectations, the market should anticipate that and you will be able to rely on expectations. To he that hath shall be given, and we hath in abundance. I think a Bank with a fairly doveish reputation with the printing press combined with the supremacy of parliament, the Royal prerogative and a government intent on re-election is more than powerful enough for the above to hold true.

Secondly, I disagree with UE. In 2007/8 asset prices fell because expectations of future NGDP fell which was priced into current asset prices. This lead to a fall in real GDP contemporaneous with a fall in NGDP, but both were caused by fall in expectations of future NGDP as is argued by adherents (cultists?) of NGDP targeting. Asset prices are forward looking and money is an asset, hence you have to look at expectations of future NGDP rather than looking at which moved first by a few months, RGDP or NGDP.

So what I don’t understand is what non-NGDP monomaniacs think will happen were a central bank to adopt a NGDP targeting regime. Say the treasury ask the Bank of England to adopt NGDP targeting and to catch up entirely to trend from 2008. What does failure look like?

  1. NGDP does not reach trend because the bank lacks credibility and the policy is abandoned.
  2. NGDP fails to reach trend for a long time, and so has little effect on anything important.
  3. NGDP reaches trend but nominal growth consists (almost) entirely of price changes.
  4. NGDP over shoots target massively and cannot be contained because  inflation expectations become unmorred and accelerate upwards: the price level spirals out of control.
  5. NGDP targeting is effective and a la Kalecki capitalists stage some sort of investment strike and must be abandoned for political reasons.
  6. NGDP targeting is effective and workers/voters realise it is a way of moderating their wage demands and must be abandoned for political reasons.
  7. NGDP targeting is effective and we realise we’ve seen a series of unsustainable booms rather than real growth because of a slow down in innovation and all economic growth ends up accruing to land and rents and must be abandoned for political reasons.
  8. NGDP targeting is effective and some combination of 5,6 and 7 occur.
  9. Other?

Can anyone fill me in?

Policy Pragmatism

What concrete step caused the British Pound to appreciate rapidly on the 18th April?

The correct answer is “we’ll never know what confluence of events caused that particular movement.” Any concrete answer should be ignored. But please allow me to tentatively suggest (tentative suggestion is fine) that the price of Sterling, and hence the stance of British monetary policy, was changed by news that Adam Posen had withdrawn his support for more Quantitative Easing. This unexpected action caused sterling to hit a 19 month high against the euro.

So when Chris says to Nick Rowe “that relying upon expectations to do work is to rely upon a weak lever” I am somewhat sceptical. Adam Posen changed monetary policy by changing the future expected path of monetary policy – his actions lessened the chances of more QE and brought forward rate rises and the unwinding of the Bank’s balance sheet – and the market acted accordingly.

A similar mechanism might be all that is required for NGDP to work. A credible commitment to change the path of future policy would have immediate effects, we know this because (I tentatively suggest) we have already seen it happen.

Similarly, if Chris agrees that a higher sterling reflects tighter Bank of England policy and if Chris agrees a looser policy would help create jobs – as the sentence “I don’t doubt that more QE – the likeliest tool of an NGDP target – would create some jobs” implies – then there is something illogical in his pessimism towards adopting NGDP targeting.

I don’t think it could come from the Bank; Andrew Sentence is completely unable to offer a credible commitment to NGDP level targeting. But were the Treasury to change the Bank’s mandate then it could commit to change the path of future policy easily. Thanks (!) to  New Labour’s habit of concentrating power ever more in the executive, this change could happen at any point because the Treasury is empowered to change the Bank’s mandate at will.

I don’t think you can accuse me of Policy Utopianism, as I said in my last post many problems would remain after the adoption of NGDP level targeting. If the Doctor’s creed is “first do no harm,” the economic policy maker’s should be “first pick up the free lunches.” To ignore monetary policy, as Chris often does, is to leave all-you-can eat buffets to one side. Pragmatism requires adopting policies that put what labour, capital and land available to work. Even a “small improvement” would be a huge improvement to thousands.

Its catching…

One down, eleven to go

From Matt O’Brien at The Atlantic:

Chicago Federal Reserve president Charles Evans doesn’t look the part of a heretic. But in the cozy, conservative club that is central banking, he certainly qualifies. While most of his colleagues at the Fed have recently taken an even more hawkish turn, Evans remains a champion of additional monetary stimulus. And on Tuesday he took an even bigger step: He became the first sitting Fed member to endorse nominal GDP (NGDP) level targeting.

.   .   .

A PARADIGM SHIFT?

The Fed is still a long way off, if ever, from adopting an NGDP level target. But Evans’ endorsement of the idea is a big first step in what could be a hugely important paradigm shift. Even if there isn’t a large difference between the quasi-NGDP level target that is the Evans Rule and an actual NGDP level target, it’s a fairly radical new way of framing policy. Rather than the central bank letting the economy recover faster, it puts the onus for a faster recovery on the central bank.

Most incredible is how quickly the idea is gaining acceptance. It’s true that writers like The Atlantic’s own Clive Crook have long advocated the merits of NGDP targeting. But as recently as 2009, it was mostly just a few lonely bloggers like Scott Sumner and David Beckworth who picked up the torch. Then Goldman Sachs chief economist Jan Hatzius and Paul Krugman said they were willing to give it a try. Now, a sitting Fed president is on board.

At this rate, it might not be long until we describe Evans as an orthodox central banker. Now that would be progress.

That is one of the US’s top central bankers supporting NGDP level targeting as endorsed on this blog. Hopefully a UK central banker will make the leap soon too, senior figures inthe

How to End this Depression!

Targeting the path of Nominal Gross Domestic Product (NGDP) is probably the most “fashionable” solution proposed for dragging the developed world’s economies out of depression. This post will refer to the UK, but lots more work has been done on the US from this perspective, particularly by Scott Sumner and David BeckworthBritmouse has blogged about NGDP from a UK perspective.

Real GDP is a proxy for our incomes adjusted for inflation, how well off we are. Nominal GDP is the same but refers to our incomes in cash terms. This nominal measure deviating from trend has been what has driven the wild swings in employment and production the developed world has seen since 2007.

NGDP matters because wages and debt are sticky.

Wages: NGDP can decrease if all other prices decrease with it, the relative prices between them will not change and apart from updating some menus nothing will have really changed. But it is incredibly hard to cut wages, look at the clustering of wage changes around zero in the below graph (via Paul Krugman). This means a decrease in NGDP relative to wages will throw people out of work as employers become unwilling to employ them at the prevailing nominal wage.

Debt: We care about what real resources we can consume but all our contracts are written in nominal terms. If I owe someone £10,000 then at some point I have to hand over some bits of paper, or packages of electrons, to someone for that amount. But, if NGDP grows below trend the total nominal size of the economy will be smaller than expected when I took out the debt, but the size of my debt will not. The real cost of my debt will have increased and this will work to depress the economy because this dynamic will affect a number of people.

If NGDP sinks below trend there are then at least two mechanisms which can act to depress an economy. [1] Has it sunk below trend? Yes it has.

Is off trend NGDP growth associated with weak real GDP growth? Yes it is.

Are changes from trend NGDP correlated with changes in employment? Yes they are.

That might be a little difficult to make out for some. So I zoomed in and inverted the unemployment figures. Are they correlated? Yes, and closely.

Let me tell you a story with a different ending to the one you know. The year 2007 began with NGDP growing to trend, and employment decreasing against the backdrop of international inflationary pressures and financial distress. NGDP reversed course and began to decline during the second quarter of 2007 as did employment, crucially this was before the Lehmann Brother’s bankruptcy and the ohmygodwereallgoingtodie stage of the financial crisis. Unemployment had already increased by nearly 200,000 after NGDP began declining but before the financial crisis began in earnest.

This doesn’t exhonerate any bankers, they put the Bank and Treasury in this position after all. But it does imply different priority for actions. Occupy Threadneedle Street, my friends, not the London Stock Exchange.

Scott Sumner and Ben Bernanke

Looking at the third graph you can see NGDP decline, recovery and stagnation correlating closely with decline, (mild) recovery and stagnation in UK employment. The Bank of England controls the country’s printing presses and hence the nominal economy and responsibility for this depression lies with the Monetary Policy Committee for doing too little to avert it and with the Treasury for doing so little to force them to do more.

In the UK and US the last couple of decades have seen NGDP grow at about 5% a year, and this nominal growth has been split between price increases and economic growth. In 2008 NGDP collapsed and we saw deflation, disinflation, and recession. To date NGDP has not yet recovered to trend, in fact it remains over 10% below trend – and this is our main problem.

Increase NGDP and employment, incomes and taxes would increase, many intractable problems would vanish (though many would not). There are risks and there are methodological problems, but there huge gains for everyone if they right policy is adopted and I want to do my part to try and make sure the right policy is adopted.

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[1] Data from here, I’ve used basic prices to strip out the effect of VAT jumping up and down

You can be a well cultured despot you know

Noah and Scott‘s argument about China’s culture is going nowhere. They’ve got bogged down talking about whether culture affects economic potential or not. Long story short, of course it does! Consider these two examples:

Chinese expats around south-east Asia seem more entrepreneurial and they sure as hell are richer than the locals in places like the Malay Peninsula and Thailand. Less fortunately, Black Africans are less trusting than other people and this is just one reason economic growth is more difficult there. Without being able to trust that someone will take your money, disappear into another room and come back with what you want there can be no Argos. And where would you be without Argos? A lot poorer. [1]

The reasons for these cultural traits are complex. I don’t know the Chinese, but Africa’s level of trust appears to still be badly effected by the long defunct institution of slavery; kidnapping was very common for 200 years or so in a way which the rest of the world hasn’t had to deal with. You can be culturally more entrepreneurial. Likewise, you can culturally more or less prone to trust strangers. Both of these have real effects for lots of things, including economics. There, cleared that one up for you.

But whether culture affects wealth given a certain set of economic institutions is irrelevant. What is important is whether culture can influence China’s institutions. China is still deep in the throws of catch up growth, entrepreneurship is of course very important, but not nearly as important as having institutions which allow for the full execution of whatever entrepreneurship occurs. As I said earlier:

No amount of “pragmatism” will make a self-interested elite step aside, the pragmatic thing to do is to expropriate assets and imprison your enemies: to shut down economic activity you’re not involved and to erect barricade between the population and your clients…

Until now, Chinese elites have not been threatened by creative destruction they have been able to harness it to embellish their own power, wealth and status. The true test of Chinese growth will come when China’s central planning runs out of steam and urban elites and rural poor separate from the CCP begin to erode its power, then we will see whether elites will be forced to do what is right.

The only way China’s culture will significantly influence its long run – at least until it reaches say half of rich world income per capita) – growth prospects is by influencing its institutions. An entrepreneurial culture, or pragmatic culture, is completely unrelated to whether China adopts a growth friendly political framework over the next five to ten years. What matters is whether the politically powerful can be convinced/forced to become economic losers. Look at those guys at the top. Do you think they’re culturally inclined to agree to that?

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[1] Not sure if that translates to my non-British readers. Argos is a shop with a tiny shop front full of catalogues and a big warehouse full of stuff. You order at the front and stuff appears a few minutes later from the back. The flippancy of my reference is of course a little ruined by this extensive footnote.

Why China Might Fail

I found Scott‘s post very confusing, for many of the same reasons discussed here by Noah. [1] Scott says:

China boosters like Robert Fogel claim that China will soon grow to be twice as rich as France the EU.  Others pundits claim it will get stuck in the middle income trap.  Both the boosters and pessimists are wrong.  Like Japan, like Britain, like France, indeed like almost all developed countries, it will grow to be about 75% as rich as the US, and then level off.  It won’t get there unless it does lots more reforms.  But the Chinese are extremely pragmatic, so they will do lots more reforms.

China is currently a very poor country, so the Chinese model has nothing to teach the West.  If we want to learn from the Chinese culture, learn from Singapore(or Hong Kong), which is how idealistic Chinese technocrats would prefer to manage an economy; indeed it’s how China itself would be managed if selfish rent-seeking special interest groups didn’t get in the way.  But they do get in the way—hence China won’t ever be as rich as Singapore; it will join the ranks of Japan, Korea, Taiwan, and the other moderately successful East Asian countries.

First of all, what I agree with in the post. China is poor and has for the last 40 years not been run by bloodthirsty foreigners or a psychotic madman. Growth from the abject poverty that was 1970s China is inevitable under those conditions. What is clear from Scott’s post is that China’s growth has very little to teach the wealthy West other than “don’t let genocidal maniacs into government” something we learned the hard way a little while ago.

Scott seems to think that China has got its act together and that it isn’t in anybody’s interest to derail its development. Things will be better for everyone when China is like Singapore and therefore we shouldn’t worry that China’s growth will decline disastrously or go into reverse. Technocrats are good! Just like the technocrats in the Fed…oh never mind.

Although I kinda agree that China looks like it has a good culture, strong infrastructure and abundant human resources, so did Argentina 100 years ago, and look what happened to them. What matters are institutions, Argentina’s stank and so do China’s. I am curious that Scott seems so keen to give a clean bill of health to China’s crony-capitalist economy and dictatorial, judicially-repressed polity.

I think he is being naive. Elites rarely do the right thing because they are oh so wise, they do the right thing if they are forced to.

Think about China this way: Whether its Township and Village Enterprises or Foreign Direct Investment into Free Economic Zones, a significant proportion of the growth which China has enjoyed has been controlled by the Chinese Communist Party. Not control as centrally planning, but control as the ability to cut of freedom of action of each. This ability to cut off these developments has kept party chiefs on the same side as China’s bourgeoisie.

It becomes difficult to keep control of growth when you hit middle-income – the low hanging fruit has been picked. One reason Michael Pettis is so worried about Chinese is that consumption repression has always been at the heart of the Chinese growth model. This has been fine for capitalists operating export orientated firms or contractors building infrastructure or real estate, but again places great power in the hands of China’s elites. To reverse this would require a massive transfer of wealth and power from political control to private control. I think Scott underestimates how much the Chinese Communist Party fears the consequences of this.

You can see this in the security apparatus of the Chinese State and its repression of free speech and its tight grip on the internet. they know that as their population gets wealthier they are going to demand more freedoms and more political representation; likewise they are going to demand more economic freedom and more social mobility, something which by definition must damage the interests of the current ruling elite. Powerful magnates will arise to  challenge the power, wealth and status of the current Chinese elite.

No amount of “pragmatism” will make a self-interested elite step aside, the pragmatic thing to do is to expropriate assets and imprison your enemies: to shut down economic activity you’re not involved and to erect barricade between the population and your clients.

Scott says that he cannot see a stable China with a middle-income coast and a poor interior. You can be rich and surrounded by poverty, look at North America! Just look at it! Its been rich and surrounded by poverty for centuries. China still operates a hukuo system of local registration which until very recently prevented anyone from moving anywhere without official say so. You think the Chinese can’t stymie growth by reintroducing the hukuo system of internal border control? Urban Chinese still seem pretty dismissive of “farmers” judging even by the international lot I meet at LSE.

We’re back to my new favourite book to think with: Why Nations Fail. Until now, Chinese elites have not been threatened by creative destruction they have been able to harness it to embellish their own power, wealth and status. The true test of Chinese growth will come when China’s central planning runs out of steam and urban elites and rural poor separate from the CCP begin to erode its power, then we will see whether elites will be forced to do what is right. The point isn’t to describe how China will fail, I’m not sure it will, but only to highlight that there are powerful pragmatic reasons for those in power to want China to fail.

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[1] I will not that Noah has still not commented on my rebuttal of his bullish post on the potential for Chinese industrial espionage. Noah should note that I argue Scott is wrong for the same reasons I argue he is wrong. They both slightly misidentify how the drivers of long run growth operate.

Economics is not the study of choice

Turns out I actually do have something to write about. A propos of Yglesias and Rodrik, I think people really need to stop thinking about Economics as some sort of study of choice, which is how it is traditionally conceived. Yglesias quotes Rodrik…

The Friedmanite perspective greatly underestimates the institutional prerequisites of markets. Let the government simply enforce property rights and contracts, and – presto! – markets can work their magic. In fact, the kind of markets that modern economies need are not self-creating, self-regulating, self-stabilizing, or self-legitimizing. Governments must invest in transport and communication networks; counteract asymmetric information, externalities, and unequal bargaining power; moderate financial panics and recessions; and respond to popular demands for safety nets and social insurance.

…and notes that non-interventionist environments don’t really exist. The market doesn’t appear ex nihilo and it isn’t really helpfully conceived of as a way of aggregating individual choices.

For a long time individual choice involved fighting and then using brute force and intimidation to get what you want. The key innovation of modern states wat to turn brute force and intimidation towards the realm of enforcement of contracts.

I think economics is much better thought of a study of contracts, expectations and choices last. The contractual elements of live take up most of your expenditure, housing, healthcare and saving for retirement and all of those things depend far more on your (and our collective) expectation of the future.

Choice comes into the picture only later on. Rational Choice theory is useful for estimating how people make certain choices, but it is the imposition of brute force strengthening contract enforcement and making the future more predictable that may be better routes for thinking about economics.

For example, Scott Sumner‘s proposal for central banks to adopt NGDP targeting, level targeting. This isn’t economics about choice, this is economics which is intended to make contracts easier to create ex ante and enforce ex post because it is about aligning expectations with what the future will actually be like in a stable way. Contracts and expectations form the core of economics, they are just very complicated in real world and difficult to model in the theoretical.