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April 2012 posts

Should We Become Keynesians Again?

Jonathan B. Wight

I've been pushing fiscal conservatism for a long time. I decried the fiscal budget deficits that ballooned under Ronald Reagan, and I celebrated the budget surpluses eventually achieved by Bill Clinton and the Republican Congress by the late 1990s. I decried again the profligate waste of that surplus under Bush II (see graph).

But while I'm a fiscal conservative I'm also a modified new Keynesian. Counter-cyclical fiscal and monetary policies can and should be used during severe downturns to bolster aggregate demand. Stimulus should be withdrawn during boom periods, producing a fiscal surplus (as happened during Clinton's second term).

Critics, though, have a good point: Keynesian is a dangerous tool. Government programs create political constituencies; stopping a program once started is nearly impossible. That can lead to ever-growing government entitlements and ballooning spending. Hence, counter-cyclical fiscal spending should be tied to specific, limited projects with sunset clauses, e.g., road construction, port construction, and so on. If you can't trust Congress and the President to agree to these limits then critics argue (with some justification) that nothing is better than something.

But others oppose Keynesianism by advocating a reverse Keynesian model—arguing that austerity policies (cutting federal, state and local spending) can be used to magically revitalize demand in the private sector. This is a wonderful idea, but flouts all the evidence when we are in a recession.

Businesses have no incentive to expand when they have excess capacity and demand is weak. Austerity in the face of recession increases unemployment, lowers growth, and further undermines consumer and investor confidence—and hence may increase the very deficits austerity is supposed to cure. That seems self-evident.

Krugman has been beating this drum and it is worth repeating: Ignoring the economic theory of demand in favor of wishful thinking isn't very scientific—nor is it ethical. This week's Economist notes that austerity policies are rapidly running up against the wall of conflicting data in Europe.

I am sympathetic with those who worry about the size of government and its deficits. But I'd rather we borrow at current low rates to fix infrastructure when labor and materials are cheap rather than waiting to do this in five years when the opposite may be the case. And I also worry about a generation of lost workers who will be permanently scarred by a really bad job market—particularly the young—pushing down labor participation rates as people become discouraged. This is bad for families, bad for communities, and bad for the long run financial health of the country.

Oxytocin—A Primer

Jonathan B. Wight

Paul Zak, whose book The Moral Molecule will appear May 10, wrote a synopsis of it here in yesterday's Wall Street Journal:

To trigger this "moral molecule," all you have to do is give someone a sign of trust. When one person extends himself to another in a trusting way—by, say, giving money—the person being trusted experiences a surge in oxytocin that makes her less likely to hold back and less likely to cheat. Which is another way of saying that the feeling of being trusted makes a person more…trustworthy. Which, over time, makes other people more inclined to trust, which in turn…

If you detect the makings of an endless loop that can feed back onto itself, creating what might be called a virtuous circle—and ultimately a more virtuous society—you are getting the idea….

The experiments I have conducted show that many group activities—singing, dancing, praying—cause the release of oxytocin and promote connection and caring. As social creatures, we have created activities that prompt the expression of oxytocin in order to foster connection to others. In fact, those who release the most oxytocin when they are trusted are happier and healthier because they have richer social lives.

Zak notes that oxytocin is not a panacea for all of today's ills, since humans also have other hormones that relate to fear and fight. But sharing moral space with others can, over time, create possibilities for a virtue cycle developing. Unless you are living in Israel/Palestine, in which case exposure to differences often leads to a vicious cycle. It's complicated. It is wonderful that neuroeconomics has become part of our toolkit for understanding cooperation and competition.

[UPDATE: Pretty soon (5-10 years?) we'll be able to use oxytocin inhalers when we want to force people to cooperate. Car dealerships will pipe oxytocin into their ventilation systems so people will trust them to buy their car! It's a Brave New World out there.]

Photography: Celebrating Margaret Bourke-White

Jonathan B. Wight

The arts are a major vehicle for understanding ourselves and society. The arts arouse and crystallize our moral imaginations. Today's blog celebrates the enduring work of photographer Margaret Bourke-White (1904-1971).

Bourke-White worked for Life magazine, gracing its first cover in 1936. Her famous photograph of food lines of 1937 (above) showed some of the million people homeless after a devastating Ohio River flood. (Despite the irony implied in the advertisement in the rear, the immediate cause of the hunger was a natural disaster and not the Great Depression.)

Bourke-White took some of the last photographs of Mohandas Gandhi a few hours before his assassination. The ethic of simplicity (bare walls, no furniture) is combined with the powerful anti-trade image of the spinning wheel. Gandhi favored self-sufficiency, arguing that India, which grew its own cotton, could spin its own yarn in homes and did not need British textile mills. This lingering ideology in opposition to colonialism lasted in India until the early 1990s, and meant that for half a century India neglected the main avenue for increasing living standards—through global trade.

As the first female war correspondent, Bourke-White's Buchenwald photos are moving, but a bit too grizzly for this website. Below is her 1956 view of segregation in South Carolina at the start of the civil rights movement.

Great art moves our emotions—and prepares our intellects for the arguments that will ultimately change our institutions. It's hard to imagine reforming institutions before the emotions are properly riled up. There is a danger, of course, that emotions can lead one in the wrong direction—lynchings and anti-trade. But it's not a coincidence that major institutional upheavals followed or were coincident with major works of art. One can think of Uncle Tom's Cabin (1852) that stirred abolitionists and The Jungle (1906) that stirred urban progressives. This is why dictators like Mao took extreme steps to manipulate the arts.

The inheritance entitlement

Jonathan B. Wight

Krugman quotes Mitt Romney:

This kind of divisiveness, this attack of success, is very different than what we've seen in our country's history. We've always encouraged young people: Take a shot, go for it, take a risk, get the education, borrow money if you have to from your parents, start a business. [emphasis added]

Perhaps this reflects Romney's core thinking, that there's always a safety net there—one's parents! Hence, being unemployed or lacking health insurance doesn't matter when you're young, because you can always borrow from family using as collateral your future inheritance. Sweet! And if the business fails, there will be plenty left over in the inheritance kitty to set you up for business #2.

But it's a bit ludicrous to suggest that average young people can start businesses by borrowing from parents. While the Bushes and Romneys may have millions of dollars in venture capital they are willing to invest in their children's start-ups, that can hardly be a recipe for most.

Instead, we need financial markets that work and educational institutions that work and young people who are willing to work hard and save to get ahead. That kind of ambition mixed with sacrifice is seen abundantly in America's immigrant communities. But I wonder if the Romney-mindset has taken over the sons and daughters of the legacy classes—those who feel entitled to an inherited pot of gold and thus do not need think they need or should be asked to work hard or save. (Can you think of a recent president who was a dilettante in school and beyond, until he used family connections to miraculously land as governor of Texas?)

Perhaps this is why grandparents start the business, parents extend the business, and grandkids lose the business. This is also an argument for raising taxes on unearned income to equal that of earned income.


Costly Truth

Jonathan B. Wight

What makes anyone remembered positively by history? A heralded leader stands for something that may be unpopular at the time but proves with hindsight to have been correct. John Shelby Spong blogs about the retirement of Rowan Williams, the Archbishop of Canterbury. Williams was a brilliant thinker and someone who promised to take the Anglican community through the dark passage that would lead to equal rights for women and homosexuals in the church.

Instead, according to Spong, Williams folded for the sake of a false unity in the Anglican community, but never achieved that either. By attempting to appease those who oppress gays and women, he ensured that he would be on the wrong side of history. Spong argues:

"Rowan Williams will not be remembered well by history.  The tragedy is that he had the talent to be much more.  He was a failed leader because he never had the courage to stand for any truth that was costly.  That, however, is where leadership is born, where it is revealed and where it is demonstrated."

That may be too harsh. The attempt at unity does have important value. I ultimately agree with Spong that a smaller church that represents something is better than a larger church that fails to. And couldn't the same be said about the Republicans—led by Romney trying to build a unified party but not standing for much in the process? And yes, the same could be said for Democrats. Leadership may also be about building coalitions and making compromises, and doing what is possible rather than what is best.

Chesapeake Revisited

Jonathan B. Wight

Chesapeake (1978) is the wonderful epic novel by James Michener. I picked it up thirty years ago and read a few chapters, then life intervened. I recently rediscovered it and have been reveling in it since. It is my favorite genre—historical fiction—packed with geography, history, culture, psychology, ornithology, politics, and loads of economics.

The story is set on an island on the Eastern shore of Maryland where successive families from the 1600s onwards live out the struggle of America's colony, the revolution, the Civil War, and so on.

The economics of tobacco and the Atlantic slave trade are large parts of the at times harrowing but brilliant narrative. There are exciting naval battles between pirates, commercial shippers, and the British navy. The realism of the depiction draws you in, and just as Adam Smith predicted, literature provides an important vehicle for the enlargement of our moral imaginations.

Some of the most interesting passages describe a slave-plantation owner's attempt to defend slavery, while nearby Quakers interpret the word of God differently and at the risk of their lives help smuggle slaves north.

Michener clearly sides with the modern view—that slavery is abhorrent—yet he doesn't belittle his characters who speak for the opposing view. Rather, he takes us inside their minds and ideologies.

It is easier to imagine that people who do bad things must be bad people, rather than addressing the possibility that good people can live inside bad institutions. Adam Smith's view of history allows for exactly this kind of phenomena. The invisible hand is not a polemic that says good outcomes will always arise from laissez faire, since bad institutions abound in history. Good outcomes arise from people expanding their moral imaginations and pushing to change bad institutions.

Privacy and Social Media

Jonathan B. Wight

Facebook is the 7th largest nation on the planet, according to social media guru Ruth McCartney.

Yes, she is sister to Paul, and a brainy and sharp thinker in her own right. Watch her recent talk at the University of Richmond on how she helped brand the Beatles and other products. She has important ideas about the changing world of technology through which people connect to each other.

If you're a fan of privacy, prepare to see your blood pressure rise! But there is plenty more here—recommended!

When is a Bribe Legit?

Jonathan B. Wight

The New York Times reports that Wal-Mart paid substantial bribes in Mexico to facilitate the construction of stores.

Let me draw a moral distinction:

I. A bribe paid to evade the law. If Mexico's zoning laws prevent the building of a retail store in certain neighborhoods, then paying a bribe to the zoning board to get a variance is clearly being used to subvert the democratic will. This would be illegal and immoral.

II. A bribe paid to enforce the law. Suppose instead that Wal-Mart submits paperwork to demonstrate lawful compliance with zoning and building codes, but such compliance has to be approved by a bureaucrat. However, in time-honored tradition, such bureaucrats will not approve any requests—even entirely legitimate ones!—without getting a kick-back.

This is the reality of how many government agencies work in developing countries. Hernando de Soto's attempt to start a small business in Peru, without paying any bribes, is recounted in his classic book, The Other Path (2002).

I spent many years in Brazil during the 1960s and again in the early 1980s. My experience then (I can't speak for now) is that to interface with a government agency you generally wanted to hire a despachante (or document agent) to run the hurdles for you. That includes knowing who to bribe to get particular things done. Although it never came up, I would be surprised if the despachante I hired to do routine tasks did not have to "grease the wheels" in order to get government agents to carry out their legally-mandated tasks.

Before you start attacking the government agents, consider the fact that many civil servants are woefully underpaid. In fact, it is much like waiters and waitresses in the U.S.: their salaries are held below minimum wage and they are expected to earn a decent living by working for tips. Government agents are likewise underpaid and expected to earn a living through the bribes that they can command. (Sure helps the budget deficit, doesn't it?)

This atrocious system is an enormous drain on productivity and entrepreneurship, and it hurts the poor the worst, since they typically don't have the resources to hire despachantes.

If Wal-Mart's alleged bribery turns out to be of this second sort—that is, paying government agents to perform their jobs—our moral outrage would be better directed away from Wal-Mart and towards the system in which citizens must pay bribes to get ordinary government services done.

[Photo source: http://radelaw.com/blog/2011/07/receive-a-bribe-pay-with-your-life/]

Making Lemonade

Jonathan B. Wight

MSNBC reports that three girls in Midway, Georgia had their lemonade stand forced out of business by the local fuzz. The budding entrepreneurs hadn't paid their $50 per day business license, nor had the board of health approved their operations.

I'm generally in favor of health regulations and even small business regulations. For example, street vendors use public sidewalks and take business away from store front retailers who pay taxes. So it seems appropriate that street vendors should be held to the same regulations as others—a level playing field.

But the enforcement here seems to go way too far. Do I need to pay a licensing fee to have a yard sale in my front yard? Regulators need to use some common sense!

Adam Smith: "To prohibit a great people, however, from making all that they can of every part of their own produce, or from employing their stock and industry in the way that they judge most advantageous to themselves, is a manifest violation of the most sacred rights of mankind." (Wealth of Nations, p. 372)

[Picture source: http://tinyurl.com/6toym53]

Socialist Inflation

Jonathan B. Wight

Manifestations of high inflation are appearing in Venezuela and other left-moving countries in Latin America. According to today's New York Times, shoppers in Caracas are lining up to buy (see photo), with rampant shortages appearing because of government price controls.

When demand exceeds supply in markets, prices rise. If this is systematic in many markets, the result is general inflation. But if prices can't rise because of state controls, that manifests itself in shortages and long lines. Hence "socialist inflation" refers to the growing length of lines. Prices don't rise, but the consumer cost, including opportunity cost of shopping time, certainly rises. Search costs and bribery costs reduce consumers' real standards of living, even though these never show up as part of official inflation.

When I was doing dissertation research in Brazil during 1980-81, rising shortages of black beans (a dietary staple) led the authoritarian government to try a new tactic: in addition to price controls, the government passed a decree forcing all farmers to plant at least 10% of their land in black beans. A supply-side solution!—sounds great? Not exactly.

If you were a farmer, how would you react? First, you would never use your best land for this. Your best land would grow crops not under price control. You would grow beans on all your worst land—alongside highways (think of the dust and diesel fumes) and in bogging low land. But second—and this shows the importance of unanticipated consequences—farmers would never worry about low crop yields because there is no incentive to collect the beans! That's right—the decree forces farmers to grow beans, but it never thought about forcing them to harvest them. With bean prices below equilibrium, farmers could not recoup their expenses for collecting and transporting. So the beans, grown on bad land with low yields, were left to rot in the fields. What a huge expenditure of resources, to no benefit.

Economists figured out a long time ago that if you want to help poor people buy beans, the best way to do so is though lump sum transfers of cash. The costs of doing so are transparent (e.g., taxes to others) and the outcome of doing so is a rise in demand that leads to a voluntary increase in planting and harvesting of beans by farmers. But politicians prefer the obscure tax (e.g., tax on your opportunity cost of time) rather than explicit one. Hence we end up with price controls.

Remember George Washington starving with his troops at Valley Forge? Turns out the Americans had imposed price controls that caused food shortages. Meanwhile, British troops paid market prices and were eating fat and happy that cold winter.

[There may be good reasons for imposing price controls when supply is fixed, when there is a temporary crisis, and when society wants to have all income groups share the pain by using rationing. I can think of occasions when forcing shared sacrifice builds community and family solidarity. But attempting to build a long run national policy on the basis of family morals is a disaster.]