Ever since I first read “I pencil”, I have been somewhat in awe of market economies. The ability of price signals to transmit demand along supply chains containing millions of individuals is akin to magic. The market appears almost limitless in its ability to reshape the contours of labour and capital in order to produce goods that we never even knew that we wanted. It is the ultimate democracy: every £ of spending is one vote, directing research and development, production, and marketing.
Just as, in the case of a pencil, it is impossible to derive precise causal links between buying a pencil and the production forecasts of saw-makers, so it is not possible to see how our consumption drives the research and development which produces new products. Nevertheless, the link is real.
Thus, when you buy clothes, you are voting for the development of new clothes. When you buy clothes based on how they look rather than how they last, you are driving research into sartorial elegance over the production of hard wearing fabrics. As consumers, we hold ultimate responsibility for the make up of the market. If we stopped demanding the latest fashions, we could instead direct that energy and talent into Medical research, or ending poverty. I, for one, have every faith that the market can make huge strides towards improving some of our most intractable social problems. All it takes is demand. Sadly, often those most affected are those with no voice. If you are poor, your problems are invisible to the Market. So who will speak on their behalf?
Thus we come at last to the point. When you make a charitable donation, you are voting for a solution to that problem. So vote for an End to Cancer, or an End to Homelessness, or for the Elimination of Poverty. Vote to end Child Trafficking, or the Sexual Exploitation of Vulnerable Women. Together, we can reshape our economy, and build a better world. All it takes is a little charity.
Charitable giving in the UK by adults is currently less than 0.5% of GDP.
“There are many humorous things in the world; among them, the white man’s notion that he is less savage than the other savages.” – Mark Twain.
Although I rather suspect that if he lived today he might have written: “There are many humorous things in the world; among them, the progressive’s notion that he is less bigoted than the other bigots.”
One of the more depressing things about getting older, is watching the same sad stories played out again and again in civil discourse. I have watched the world’s central banks avoid the mistakes of their fathers only to repeat the mistakes of their grandfathers. Now we are watching the rise of a muscular secular ideology that does not tolerate dissent. This has played out before in European and American history. It starts with small measures making life harder, in the hope that they will abandon their dissent. As it gets worse, eventually people take up arms. The GunPowder Plot is the most famous example from English History. There are others. Worst, perhaps, in the bloody pogroms of the `enlightened` French revolution when the Committee for Public Safety ordering the complete extermination of the population of the Vendee(*), a principality of France. The army was ordered to kill every man woman and child “thinking only of the glory of the Republic that was to rise”. More recently the IRA and Basque campaigns for independence, abandoned the path of tolerating their political opponents. And lets not forget Joe McCarthy. These end when a nation is sick of the bloodshed and persecution, and decides it can instead tolerate their `irreconcilable differences`. Like the long standing British aphorisms about never talking about religion or politics with strangers, we instead get a strong consensus in favour of tolerance that lasts for a few generations. Then up rises a new ideology convinced that the world would be better if only they could only stamp out the last few misguided and ignorant opponents clinging to their outdated and outmoded beliefs. Then the persecution starts. This cycle is so old that the author of the book of Ecclesiastes is already weary of it three thousand years ago:
What has been is what will be,
and what has been done is what will be done,
and there is nothing new under the sun.
There is no remembrance of former things,
nor will there be any remembrance
of later things yet to be among those who come after.
-Ecclesiastes Ch 1;
The new Scandal du Jour is Brendan Eichgreen, forced to step down as Mozilla Firefox. Now I don’t know much about Brendan, and I know even less about prop 8, though I gather its ads were widely condemned even among my conservative friends. A company belongs to its shareholders, and if they believe that Brendan’s donations will harm Mozilla’s long term future, they are free to fire him.
No, what is really despicable about this, the the prevalence of the formulation “Eichgreen believes X, therefore he is an evil person”. Its childish, and bizarre, and yet it comes back again and again, because people prefer a simple falsehood to a complicated truth. Thus he is labelled a bigoted homophobe for opposing gay marriage, despite an absence of any evidence that it ever affected his hiring decisions or even his friendships. You can be a good person, and an opponent of gay marriage. You can even be a good person and a racist. The bar for being a good leader is even lower. Many of humanity’s greatest leaders were despicable human beings. Humans behaviour is a messy pile of contradictions. Opponents of gay marriage have gay friends. Some opponents of gay marriage are gay. They are not some hoard of fanatics hiding out in a bunker plotting world domination.
The attraction of these simple truths are that they let us rationalise our behaviour in a way that makes the majority into the “good guys”. I must be a good guy, because I am not one of the evil people who believes X.
To all those people who claim that they can’t or won’t work with someone because of their political views, I say Grow Up. Tolerance is exactly about having civil relationships with people you disagree with, dislike, or even hate. If the statistics are to be believed, virtually every group of twenty men will contain a rapist. Virtually every large office will contain at least one man with a conviction for murder or rape or assault. Are they next to be hounded out? In most countries it is illegal to discriminate for employment based on past convictions. Is working with someone who donated money to a mainstream political campaign worse than working with a convicted felon? Everyone with a large friendship group will know someone who routinely cheats on their partner. Cheating on our partner is a fairly reprehensible act, shall we orchestrate a campaign against those people? Maybe just put adulterer on their ID badges so that we can all feel morally superior together.
And worse, those who are gloating over their success at the ousting of a CEO for his views are calling it progress. Newsflash, there isn’t any progress in morality. A hundred years from now humans will be the same broken fallible and largely despicable creatures that we are now, just the same as we were 100 years ago. Don’t worry, there will still be a minority to demonise. Perhaps it will be the Cyborgs, or the trans-humanists, or the naturals who refuse technological enhancements to cognition. Believable fiction has been written about all three. There will always be people who are different, and humans will continue to behave in this type of bizarre tribalism. And it sickens me. In the UK, devout Catholics used to be discriminated against for being treasonous papists. Now its because they oppose gay marriage and abortion. This is progress? Just remember, you who are gloating, that it will eventually be you in the stocks. Your children will grow up and call your views, old fashioned, immoral, and outdated. Its no coincidence that this has happened in Tech, one of the few industries controlled and staffed mainly by young people. Too young, perhaps, to have watched this cycle play out.
Lets take a look at a very incomplete group the list of groups who have been discriminated against in the last century by my ‘liberal democracy’ (the UK) :
- Catholics – in the UK up to WW2 and abating slowly thereafter. It was illegal to be catholic in the UK as recently as 1853.
- Christians and those of faith generally – E.g. this man who was refused employment because his atheist colleagues didn’t want to work with a Christian:
- Pretty much any ethnic Minority – Most recently against Afro-Caribbean in the 1980’s race riots, and to a lesser extent vs Eastern Europeans and Gypsies in the present.
- Pro-Lifers – In what amounts to a systematic campaign of intimidation, the NHS has taken large numbers of doctors and nurses to court over refusing to participate in abortions. Few people can survive the years of legal fees needed to fight these decisions, especially since it usually happens after losing ones job. Also in the private sphere, e.g. Google banned pro-life ads while allowing pro-choice ads.
- Pro-Choicers – While picketing hospitals and abortion clinics is an absolutely legitimate form of protest, when it moves to harassing the families of doctors, and picketing their houses, it has move into harassment.
- Communists & Marxists – The political climate of the cold war was strikingly prejudiced against those judged to have socialist leanings.
- Feminists – Being fired for being a feminist sympathiser was normal during the inter war period.
- The poor.
- The long term unemployed.
I wonder whose next? Perhaps it will be those who oppose a basic income. I can easily see that becoming a `basic human right’ in the next decade, and we can all deride opponents whose actions “caused real and material harm” by opposing it.
Finally, since this is mainly a blog about economics, I will leave you with some thoughts from Milton Friedman in Capitalism and Freedom (paraphrased):
One of the great things about capitalism is the way that it evens the playing field. When I buy my bread I don’t care if the farmer was an African or an american, white or black, straight or gay. I care about the quality, and I care about the price. Any company or country which systematically discriminates against people of a certain belief is putting itself at a competitive disadvantage, and will be out competed by those companies which can hire rejected talent for less as a result. The market itself opposes discrimination.
Mozilla has rejected the person it judged most qualified for the role, it is a worse company as a result.
(*) There is much controversy over this in French History, where they have long tried to downplay the bloody history of the revolution. I quote below from the orders given to French columns, sourced from Micheal Burleigh’s book “Earthly Powers” pg 99.
kill the bandits instead of burning the farms, get the runaways and the cowards punished and totally crush this horrible Vendee…Plan with general Turreau the most assured means to exterminate all in this race of bandits.
Abenomics is having a huge effect on output compared, which is somewhat masked by demographic decline in the working population.
So when will the ECB realise that QE is an effective policy tool which increases output during a depression, and get on with saving the EZ?
…since labor costs are a large fraction of a firm’s total costs of production, rising wages and compensation should put pressure on firms to pass these higher costs on as higher prices. We have several reasons to doubt the accuracy of this view. First, if a wage increase is brought about by increased labor productivity, it will not create inflationary pressure.3 Second, a wage increase will not create inflationary pressure if it leads to a squeeze in profits because a firm cannot pass along cost increases. No firm inherits the right to simply “mark-up” the prices of its output as a constant proportion above its costs; competitive market pressures strongly influence the pricing decisions of firms. Finally, causation could work in the opposite direction: An increase in aggregate demand may permit firms to raise the price of their products, and the resulting increase in profits would lead workers to demand higher wages in future negotiations.
And just in case you missed their meaning…
It turns out that the vast majority of the published evidence suggests that there is little reason to believe that wage inflation causes price inflation. In fact, it is more often found that price inflation causes wage inflation. Our recent research, which updates and expands on the current literature, also provides little support for the view that wage gains cause inflation. Moreover, wage inflation does a very poor job of predicting price inflation throughout the 1990s, while money growth and productivity growth sometimes do a better job. The policy conclusion to be drawn is that wage inflation, whether measured using labor compensation, wages, or unit-labor-costs growth, is not a reliable predictor of inflationary pressures.
So if the hawks could all stop clamouring that a tighter labour market means the start of a wage-price spiral of death, that would be great, and dare I say it, rational.
There seems to be a certain segment of the economic commentariat who believe that whatever the reason, tightening is the answer. The latest reason to tighten is that there is evidence that the labour market is tightening. Wage growth in the US is staging a modest recovery.
However, this does not imply that the CPI is going to rise. Lets have a quick look at average hourly compensation vs inflation since 2000.
We can see that inflation and wage growth typically track each other fairly closely. This correlation is likely spurious, an artefact of the fact that productivity growth and population growth have similar magnitudes. I am more interested in the effect of total compensation on inflation. Since the argument goes that wage growth leads to inflation, lets note first that wage growth is still far below historical norms.
Inflation is generated when demand outstrips supply. Labour market tightening means that workers have better bargaining positions, and then can bargain for better wages. Wage growth is coming, and wage growth means rising AD, but inflation comes only when AD outstrips AS. There are two reasons that that this might not happen at once:
(1) Productivity growth. It is a feature of recessions generally that Capex falls because companies do not invest in productivity enhancements in an environment of weak demand. Technological progress marches on regardless, and the result is that there is a steady stream of available but unbuilt productivity enhancements that a company could invest in. Thus we should expect that productivity growth could stage a catch up. This is supported by the general observation that RGDP has grown on the same trendline for decades, and it would be a remarkable coincidence if trend growth had a secular change exactly at a time that happened to have a financial crises.
(2) Corporate Profit Margins. CPI measures consumer prices, which is not quite the same thing as monetary inflation. This is punishing on the way down, when consumer prices do not fall in line with the changing money demand, but can be beneficial on the way up. For example, a decline in corporate profit margins as a tighter labour market allows workers to capture more of their marginal product can give you rising demand without rising consumer prices.
The economy is complicated, and no one can predict what will happen with perfect certainty, but you should not give undue credence to those who tell you that rising wage growth is certain to generate inflationary pressure. As in the late nineties, wage growth can be large while inflation is low for years at a time. We have two plausible stories that can support the hypothesis that this is a likely outcome, it is certainly where I would place my chips.
It seems like the belief that low interest rates cause bubbles is all the rage. Its superficially such an obvious relation “low rates” means “easy money” which means people “bid up” assets and hey presto instant bubble.
Unfortunately, its all wrong. What really causes bubbles is too much saving. For a given level of technical progress, an economy has an optimal capital stock. We define the the optimal capital stock through its equilibrium condition: there is no productive investment (which can be made by the private sector) which has a risk adjusted return which is better than zero.
Now of course, in the real world there is always new innovation, and replacing deprecated capital, so we would really expect the optimal (real) rate to be slightly above zero. Nevertheless, zero real return on capital is where an economy wants to be, where it strives to be. However, the optimal stock is not fixed, it is in fact rapidly changing. New technology can create new possibilities for investment, or it can render old capital irrelevant. The new tech industries are much less intensive than the old “heavy” industries that they are largely replacing. Nevertheless, this capital stock represents the maximum stock of savings that can be carried into the future. If people want to save more than this, they have no choice but to invest in assets with a negative real rate of return.
Real capital investments are funded by foregoing consumption in the present in order to get more later. This is what the interest rate asks, it says, how much extra consumption do you need in the future to persuade you to forgo consumption now, so that we can build this useful investment. The more people want to save compared tot he optimal stock of assets, the more negative the real rate of return must become. The more the real rate or return becomes negative the more “bubbles” people will see.
There is really only one possible strategy for this, and it amounts to aligning the stock of capital investments with peoples desire to save. This is possible because:
(1) Often capital investments are inhibited by real world factors like unstable government, poor human capital, poor infrastructure. Stabilising Africa and parts of the IndoChina region would offer plenty of investment opportunities.
(2) Government funded spending. There are plenty of productive investments that only a government can make, and through either higher taxes (on those who over-save – the rich) or higher deficits (providing more safe assets). These include: Education – the state of UK and US public education is a joke, and severely inhibits future productivity; Infrastructure – some projects are simply too large for the private sector to undertake; Regulation – the UK house market is a typical example, where poor government regulation prevents housing stock being built at the required pace; Free trade – this is a little less obvious, but take for example, US energy protectionism (preventing the export of shale gas), this prevents the optimal level of investment in shale technology, by keeping the price artificially low. On the other hand, it raises the risk premium for investing in oil and gas outside the US (as it could be made unprofitable through an arbitrary regulatory announcement), which reduces investment outside the US aswell. Essentially, people aren’t stupid – they will not invest in a product which depends purely on regulatory trade barriers unless they are convinced that they are here to say.
(3) Transfer payments. By transferring income from those with a high propensity to save (rich people/middle class) to poorer people, you lower the overall savings rate.However, this is not likely to be too effective in a UK/US centric view, as most of the excess savings appear to be coming from Japan, Germany and China as a response to their coming demographic disasters. UK particularly does not suffer from excess savings :)
Any time the total quantity of saving is in excess of the total stock of capital, a bubble is guaranteed, by draining savings out the system through government investment, we get higher total productivity, higher interest rates for savers, and fewer bubbles. Win Win Win?
Endogenous money has been used to represent several slightly different things. In this post I am referring to the way in which a central bank moves the short term interest rate by controlling the money supply. This involves meeting the demand of base money at the target interest rate by buying and selling government bonds.
This means that for any non zero short term interest rate, given a set of real factors in the economy, there is only one possible size of the monetary base. If you control interest rates the base is endogenous. Once the short term interest rate hits zero, this relationship breaks down, and once can expand the monetary base without lowering the short term nominal interest rate. That is the situation in which we find ourselves.
Now, my question is, when we raise interest rates off the zero lower bound, surely we will reenter the regime of endogenous money, in which case surely it is impossible to raise rates without at least partially unwinding QE?
It might seem obvious that the Fed can put upwards pressure on the interest rates while holding the monetary base constant by selling long treasuries and buying short ones, but that is not the case. Provided there are a large amount of excess reserves, any attempt to raise the short term interest rate above the interest rate paid on excess reserves (IOER), will result in money moving out of reserves into the short term treasuries, they being essentially perfect substitutes as a risk free interest bearing form of money.
This brings me onto forwards guidance. Many people have said that forward guidance is largely pointless. I wish to point out here, that as the economy strengthens, and spending increases, the quantity of base money consisted with a given non zero interest rate increases. Thus, the date of the first rise in interest rate wholly determines how much of the QE base expansion is permanent and how much is temporary. It is widely known that temporary expansions in the base are not inflationary, this also tails nicely with the apparent decreasing effectiveness of QE. If forward guidance means you think you know the MB at the date of the first interest rate rise, QE over and above that will do little. The only question is, are we there yet? The reaction of the stock markets to the taper talk in may strongly suggests that they believe that the US economy is not yet strong enough to withstand a tightening of policy.
In conclusion….I don’t know if I really believe the argument set out above. It seems to me, when I look at the comparative GDP paths of US, UK and EZ, or 1990′s Japan vs 2013 Japan, that those countries which have done more QE have better GDP growth. Economies are to complicated to be able to guarantee that we always have a concrete transmission mechanism and 100% understanding of the consequences of policies. For all that, it does not seem obviously wrong, and it does trouble me, and suggest that th eexit from QE may be harder than some in central banking assume.