economics

MR comments are pouring out.

Here’s the NYT.

And there are encouraging signs, with surveys showing the number of college freshmen interested in majoring in a STEM field on the rise.

But, it turns out, middle and high school students are having most of the fun, building their erector sets and dropping eggs into water to test the first law of motion. The excitement quickly fades as students brush up against the reality of what David E. Goldberg, an emeritus engineering professor, calls “the math-science death march.” Freshmen in college wade through a blizzard of calculus, physics and chemistry in lecture halls with hundreds of other students. And then many wash out.

I hope Robin Hanson chimes in on this. I bet he’d say that Universities award status, not education, so having high drop-out rates is what they’re selling.

If they were selling education, there would be many many more options for learning this material. And options for learning it later in life. Or over a longer period in life. My hypothesis is that the kids in University have too many other things they’d rather do then cram, which is distinctly unpleasant. So they don’t, and when they’re made to feel stupid, they crash out.

Here’s Milton Friedman (via MR)

Friedman’s absence is mourned today because he was one of these awesome combinations of experience, accomplishment, intellect and brilliant communication.

The last few questions in the Q&A can probably be summarized as a prescient combination of all the sensible present-day views on the 08-12+ crises:

• The Euro is Effed
• Japan has had tight money for a long time
• We know that about Japan because they have low interest rates, which are often a sign of recently tight money, except when they’re not.
• By the way interest rates are a terrible ‘tool’ for managing the economy.
• nominal aggregates should be monitored/targeted.

What strikes me most about Friedman’s analysis is his experience. He had lived through and studied just about every conceivable macroeconomic situation. What understanding he must have had.

He does make one point that he later appears to contradict (big quotes because, again, the dude was just so lucid):

Now, my preference, of course, would be to abolish the central bank altogether and to simply have a computer that would churn out—well, I have two variants of it. In one of them, I would freeze the amount of the highpowered money and let the market go. In the other, I would assist the market by printing out a specified amount of high-powered money every month or quarter and have a steady rate of monetary growth

Vs

In 1989, the Bank of Japan stepped on the brakes very hard and brought money supply down to negative rates for a while. The stock market broke. The economy went into a recession, and it’s been in a state of quasirecession ever since. Monetary growth has been too low. Now, the Bank of Japan’s argument is, “Oh well, we’ve got the interest rate down to zero; what more can we do?”

It’s very simple. They can buy long-term government securities, and they can keep buying them and providing high-powered money until the highpowered money starts getting the economy in an expansion. What Japan needs is a more expansive domestic monetary policy.

One interpretation of this is that he believes that his rules would have prevented the crisis today. The thing is that this view implies that the crisis was actually caused by tight money. Which is a bit controversial.

How would we have measured that tight money? This touches on his elaboration on the first point:

In recent years, that has not looked as good as it did much earlier, because the actual relationship in the world between monetary growth and inflation in the economy has become much worse in the last 10 or 20 years. But, that’s partly because there’s been so much financial innovation and adaptation and, ultimately, it is the money supply that rules the roost and that will determine what long-term inflation will be.

So, the problem with money supply targeting or, indeed, with any DERIVATIVE rule is that the market will find a way to innovate past your rule. Money, after all, isn’t what we care about. What we care about is GDP! And what we need to target some kind of aggregate, because that’s the only thing we can measure.

Enter the Sumner synthesis.

The Sumner synthesis says that we target what we care about, NGDP. Crucially, we also target the level. This makes up for the problem that the central bank isn’t particularly good at doing anything in two important ways.

First, levels means that in a liquidity trap the bank can wait. And wait. And wait.

Eventually we’re going to get out of the trap and when that happens, KA-BLAMMO, out comes the money.

My second point is related to the first. The central bank isn’t just ineffective in a liquidity trap, the central bank is kinda ineffective all the time.

Think about Friedman’s problem with the shadow banking system and their shadow monetary aggregates that we don’t know how to measure well. The central bank can’t control that money, so the central bank can’t loosen it up or reign it in at will. Let’s say the shadow banking system has taken the central bank from something like 50% effectiveness to 30% effectiveness.

Doesn’t matter with level targeting. Over a long enough time span, you’re going to hit your level right, even with the wobbliest of levers. The promise remains credible.

Sounds pretty controversial, non?

Here’s Alex Tabarrok:

The sluggish economy is tough on everyone but the students are also learning a hard lesson, going to college is not enough. You also have to study the right subjects. And American students are not studying the fields with the greatest economic potential.

Over the past 25 years the total number of students in college has increased by about 50 percent. But the number of students graduating with degrees in science, technology, engineering and math (the so-called STEM fields) has remained more or less constant. Moreover, many of today’s STEM graduates are foreign born and are taking their knowledge and skills back to their native countries…

More here.

Let’s face it. College has become a party for people who don’t really want to be there.

I feel like some day Colleges will be more like the music industry: the basic product is already free (have a read of the blogosphere or spend some time at the Khan Academy if you don’t believe me) for those who actually want to consume it.

As I commented on MR: what we need is a solid way of signalling domain competence without paying for a degree.

For most people a college degree is a WASTE OF MONEY.

It’s all downside risk discussions today.

First there’s Corzine:

Izabella Kaminska has the wonky details of MF Global’s repo-to-maturity trade. It’s not easy to follow, but here’s the general gist. MF Global buys a bunch of European debt. The bank’sexplanation of the trade says that the purchases were “entered into repurchase and reverse repurchase transactions to maturity, which are accounted for as sales”. This is the repo-to-maturity trade.

In order to understand what that means, you first need to understand that banks like MF Global used to do nearly all their borrowing on an unsecured basis. But in recent years, that’s changed: nowadays, if you want to borrow billions of dollars for what MF Global calls “client facilitation and principal activities”, then you’re going to need to put up collateral.

So as soon as MF Global bought those bonds, it turned around and pledged them as collateral when it was borrowing money. That’s the repo.

Now here’s the trade: the rate at which it was borrowing money was lower than the coupon payments on the European sovereign bonds. And because this was a “repo-to-maturity”, MF Global was essentially locking in the difference as profit. It got to keep all the coupon payments, while it had to pay out something less than that in interest.

And here’s the money quote from Felix’s source:

Either way, a fall in the value of the bonds could create a major liquidity drain for MF Global. Though these sorts of liquidity risks should have been accounted for in VaR calculations. Much harder to anticipate would have been a complete disappearance of willing counterparties.

Facepalm!

Even better, Europe is EFFED:

Make no mistake about it, the decision to hold a “referendum” is a decision to turn down the deal altogether.

Why, you ask? Well follow the money! Greek banks go bankrupt when the bonds default, Greek pension funds go belly-up when the bonds default.

The Greek gov’t then needs to borrow tons more money to replenish the pension scheme, or maybe toss the old-timers into the street? It’s going to come down to that.

Naw, they’re going to exit the Euro. Gotta be a surprise or it won’t work. The contagion will rip through any other country that doesn’t get a blanket guarantee from the ECB. By contagion rip through, I mean massive shorting of government debt, bank debt and a ha-uuuuge increase in borrowing costs for weaklings, which may well drive them into default themselves.

But we’re not at the end game yet, kids. Perhaps still months away!

As I suspected, Sumner’s advocacy should probably be focused on level targeting, as opposed to NGDP targeting. Most important of all is to set a ‘backdated’ level so that we can get back to the trend we were knocked from when this recession started.

I imagine this would involve an immense expansion of the money supply, something an order of magnitude larger than what we’ve already seen.

See his response to my question on his blog:

If the Fed were to do 5% NGDP targeting right now, it wouldn’t help very much. If they did 5% NGDP level targeting from right now, it would help a little more.

If they did 5% NGDP targeting backdated to 2009, we’d get an explosive recovery, actually too fast.

I’d recommend aiming for 6% or 7& for a couple years, then 5% thereafter.

If the Fed did price level targeting from right now it wouldn’t help much. If they backdated it to level targeting from 2008 it would help more, but not as much as NGDP level targeting.

An explicit 2% inflation target (not level targeting) would be the weakest of all, as it’s not much different from what they have been doing.

If they go to level targeting of any sort, futures targeting doesn’t add much.

Amazing how this idea is now starting to go mainstream. Scott Sumner is going to be famous soon.

Here’s the WSJ and Scott’s commentary. The article has a lot of links to a lot of good information (in particular here) on whether NGDP targeting will work.

One thing that is a bit annoying is that the hierarchy of ideas goes: #1 Level targeting, #2 NGDP level targeting.

Targeting nominal GDP rates isn’t actually Sumner’s big priority, if I’m reading him correctly. Level targeting of inflation would be better than rate targeting NGDP.

Haven’t written much on Sumner’s NGDP world but there has been a rather gigantic shift among the economic elite, I think, on replacing inflation targeting with NGDP targeting (and level targeting?).

NGDP targeting is when the fed ignores inflation figures and concentrates on how incomes are doing, which is NGDP. It combines real GDP and inflation measures which, in the real world, are combined.

I’ve been reading Sumner’s blog for some time now and he’s the guy that’s had THE big idea right from the start of this whole crisis. History will judge him well.

Here is Krugman:

My beef with market monetarism early on was that its proponents seemed to be saying that the Fed could always hit whatever nominal GDP level it wanted; this seemed to me to vastly underrate the problems caused by a liquidity trap. My view was always that the only way the Fed could be assured of getting traction was via expectations, especially expectations of higher inflation –a view that went all the way back to my early stuff on Japan. And I didn’t think the climate was ripe for that kind of inflation-creating exercise.

At this point, however, we seem to have a broad convergence. As I read them, the market monetarists have largely moved to an expectations view. And now that we’re almost four years into the Lesser Depression, I’m willing, out of a combination of a sense that support is building for a Fed regime shift and sheer desperation, to support the use of expectations-based monetary policy as our best hope.

And one thing the market monetarists may have been right about is the usefulness of focusing on nominal GDP. As far as I can see,the underlying economics is about expected inflation; but stating the goal in terms of nominal GDP may nonetheless be a good idea, largely as a selling point, since it (a) is easier to make the case that we’ve fallen far below where we should be and (b) doesn’t sound so scary and anti-social

Here is a Sumner Summary.

Here is another Sumner Summary.

If this kind of thing interests you in the least, make a careful study of Scott’s blog. You’ll learn a LOT.