Defenders of banks are the ones who don't get capitalism

Why on earth am I attacking the banks? "They make profits, that's the way the capitalist system works," or so I have been told repeatedly since I questioned their decision to hang on to a good chunk of last week's official Reserve Bank cut in interest rates instead of handing it to their customers.

"It's not the job of government to dictate the margins of business," one of their shareholders told me. "Profits are the basis of free-market capitalism," another wrote.

That second claim is only partly right. And yes, sometimes it is the job of governments to restrain profits.

The founder of modern economics Adam Smith was the first to mount a case for the pursuit of profit.

"It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner," he wrote more than two centuries ago. "But from their regard to their own self-interest. We address ourselves not to their humanity but to their self-love."

The search for profits - the search for that extra money that exceeds the cost of production - is what motivates the brewer, the baker and the banker. Without it they wouldn't bother. Yet miraculously, in pursuing profits each of them (Smith believed they were each men) ends up providing almost exactly what we need.

"He intends only his own gain," the author of The Wealth of Nations went on, in the sentence that came to define him. "He is in this, as in many other cases, led by an invisible hand to promote an end which was not part of his intention."

I'm with Smith, completely (as you would expect from an economics editor). But reread him and you'll see that he isn't actually defending high profits, or even profits at all...

He is defending the pursuit of profits. As the American satirist PJ O'Rourke notes in his excellent book about The Wealth of Nations, Smith thought attempts at super profits would be competed away. That was how the pursuit of profit benefited customers. Unrestrained profits were "always highest in the countries which are going fastest to ruin".

On Wednesday the Commonwealth Bank announced an unrestrained record profit of $9.45 billion. Its return on equity was well above 15 per cent at 16.5 per cent, way in excess of the 11 or 12 per cent typical of companies listed on the stock exchange, and far above the typical return for unlisted companies which is closer to zero.

The figures show the Commonwealth went out ahead of the other Big Four banks in announcing it wouldn't pass on the full cut because its net interest margin (the difference between what it pays for money and what it charges) had slipped from 2.09 to 2.07 per cent. It wanted to build the margin back up.

There was nothing to stop it.

In the United Kingdom a week later, greater competition and a sense of decency obliged all of the big banks to fully pass on the Bank of England's cut. The banks over there get by with returns on equity of less than 10 per cent.

There's something wrong with a culture in which investors expect such obscenely large returns in order to invest. Australian Competition and Consumer Commission chief Rod Sims sees it repeatedly when airports, ports and the like are privatised.

In order to get its sale of the Port of Melbourne over the line, the Victorian government at first offered to lift the rents charged by the port 750 per cent. The federal government got a magnificent price for the Sydney Airport by doubling landing charges, removing the regulation of landing charges and offering the new owner right of first refusal over any second airport. The new owners probably run the facilities better, but from the point of view of their customers, there's scarcely any point.

"I've always felt that commercial enterprises are better off in the private sector," Sims tells me. "But the only way the community benefits from that better operation is if either they are being sold into a competitive market, or if it's not competitive [as with electricity distributors], there's appropriate regulation in place.

Within months of taking over, the new operator of the port of Newcastle raised its fees 50 to 60 per cent. It then revalued the port it had bought for $1.75 billion to $2.4 billion. It did exceptionally well at our expense, but the government that sold the port did not.

Last year University of Queensland economist Paul Frijters and University of NSW economist Gigi Foster examined the make-up of the BRW 200 Rich List. More than half had made their money from property (where rezoning helps), from mining (where leases are granted) or from investments. They concluded most of Australia's richest got there in industries subject to political favours, hardly any by inventing something new.

It's a mentality that's holding Australia back while enriching those lucky enough to be in those industries. It's why shareholders get upset when I talk about our banks. It's why we need real competition, or regulation. To make them work for us.

In The Age and Sydney Morning Herald

Read more >>

The NDIS. Why Joe Hockey is wrong, big-time

Joe Hockey is Wrong. The shadow treasurer said Wednesday he did not see a National Disability Insurance Scheme levy as “the right solution in this environment”.

“If the economy is underperforming, you don't tax it to increase performance. You never tax and regulate your way to prosperity,” he told Sky News.

He is quite right to say that taxes by themselves can’t improve economic performance. But they can improve economic performance if they are used for that purpose.

The Productivity Commission examined the question in its 2011 inquiry chaired by Patricia Scott, who worked Joe Hockey as the head of his human services department in the Howard government.

It found whereas the financial cost of the National Disability Insurance Scheme would be $6.5 billion, its economic cost of far less. The $6.5 billion was merely “a transfer of resources from one group to another”.

The economic cost would be around $1.6 billion, flowing from the distortionary impacts of raising the revenue.

“Given this, the NDIS would only have to produce an annual gain of $3,800 per participant to meet a cost-benefit test,” the report said.

“Given the scope of the benefits, that test would be passed easily,” it concluded.

One of the economic benefits was what it did for the lives of the people it helped.

Another would be its success in bringing into the workforce Australians who were previously unemployable for life.

“Were Australia to achieve employment ratios for people with disabilities equivalent to the average OECD benchmark — a highly achievable target given the proposed reforms — employment of people with mild to profound disabilities would rise by 100,000 by 2050,” it said.

In fact it expected an employment gain of 220,000. This isn’t the same as the employment gain often claimed by promoters of major projects which amounts to no more than moving existing workers from one region to another. The Productivity Commission was talking about actual newly-created workers able to produce things for Australia they otherwise would not have.

As Australia’s population ages and the supply of workers for each non-worker shrinks, finding extra workers able to make the things we need will become the main game in town.

The Productivity Commission said the newly-created workforce would be likely to push gross domestic product one per cent higher than it would have been by the middle of the century.

In the dollars of the time that would be $32 billion in additional GDP “in that year alone”. In the dollars of 2050 it will be more like $200 billion per year.

Some things are worth doing precisely for the reason that they will boost Australia’s economic performance. Whatever its other merits, the National Disability Insurance Scheme is one of them.

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In today's Sydney Morning Herald and Age



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Holiday Reading. Economics, "the most male of the social sciences"

"The knowledge that every problem has an answer, even and perhaps especially if that answer may be difficult to find, meets a deeply felt human need. For that reason, many people become obsessive about artificial worlds, such as computer games, in which they can see the connection between actions and outcomes. Many economists who pursue these approaches are similarly asocial. It is probably no accident that economics is by far the most male of the social sciences."

I agree with John Kay's description. I am less sure he has identified a fatal flaw. Yes, models are unrealistic - that's the point. A model that included everything wouldn't be a model, it would be reality. Simple models are good ones. But he is right, some people who use them have confused them with reality.

Kay begins:

The Map is Not the Territory: An Essay on the State of Economics

by JOHN KAY

The reputation of economics and economists, never high, has been a victim of the crash of 2008. The Queen was hardly alone in asking why no one had predicted it. An even more serious criticism is that the economic policy debate that followed seems only to replay the similar debate after 1929. The issue is budgetary austerity versus fiscal stimulus, and the positions of the protagonists are entirely predictable from their previous political allegiances.

The doyen of modern macroeconomics, Robert Lucas, responded to the Queen’s question in a guest article in The Economist in August 2009.[1] The crisis was not predicted, he explained, because economic theory predicts that such events cannot be predicted. Faced with such a response, a wise sovereign will seek counsel elsewhere.

But not from the principal associates of Lucas, who are even less apologetic. Edward Prescott, like Lucas, a Nobel Prize winner, began a recent address to a gathering of Laureates by announcing ‘this is a great time in aggregate economics’. Thomas Sargent, whose role in developing Lucas’s ideas has been decisive, is more robust still.[2] Sargent observes that criticisms such as Her Majesty’s ‘reflect either woeful ignorance or intentional disregard of what modern macroeconomics is about’. ‘Off with his head’, perhaps. But before dismissing such responses as ridiculous, consider why these economists thought them appropriate.

In his lecture on the award of the Nobel Prize for Economics in 1995,[3] Lucas described his seminal model. That model developed into the dominant approach to macroeconomics today, now called dynamic stochastic general equilibrium. In that paper, Lucas makes (among others) the following assumptions: everyone lives for two periods, of equal length, and works for one and spends in another; there is only one good, and no possibility of storage of that good, or of investment; there is only one homogenous kind of labour; there is no mechanism of family support between older and younger generations. And so on.

All science uses unrealistic simplifying assumptions. Physicists describe motion on frictionless plains, gravity in a world without air resistance. Not because anyone believes that the world is frictionless and airless, but because it is too difficult to study everything at once. A simplifying model eliminates confounding factors and focuses on a particular issue of interest. To put such models to practical use, you must be willing to bring back the excluded factors. You will probably find that this modification will be important for some problems, and not others – air resistance makes a big difference to a falling feather but not to a falling cannonball.

But Lucas and those who follow him were plainly engaged in a very different exercise, as the philosopher Nancy Cartwright has explained.[4] The distinguishing characteristic of their approach is that the list of unrealistic simplifying assumptions is extremely long. Lucas was explicit about his objective[5] – ‘the construction of a mechanical artificial world populated by interacting robots that economics typically studies’. An economic theory, he explains, is something that ‘can be put on a computer and run’. Lucas has called structures like these ‘analogue economies’, because they are, in a sense, complete economic systems. They loosely resemble the world, but a world so pared down that everything about them is either known, or can be made up. Such models are akin to Tolkien’s Middle Earth, or a computer game like Grand Theft Auto.

The knowledge that every problem has an answer, even and perhaps especially if that answer may be difficult to find, meets a deeply felt human need. For that reason, many people become obsessive about artificial worlds, such as computer games, in which they can see the connection between actions and outcomes. Many economists who pursue these approaches are similarly asocial. It is probably no accident that economics is by far the most male of the social sciences.

One might learn skills or acquire useful ideas through playing these games, and some users do. If the compilers are good at their job, as of course they are, the sound effects, events, and outcomes of a computer game resemble those we hear and see – they can, in a phrase that Lucas and his colleagues have popularised, be calibrated against the real world. But that correspondence does not, in any other sense, validate the model. The nature of such self-contained systems is that successful strategies are the product of the assumptions made by the authors. It obviously cannot be inferred that policies that work in Grand Theft Auto are appropriate policies for governments and businesses.

Yet this correspondence does seem to be what the proponents of this approach hope to achieve – and even claim they have achieved...

Read the full thing

While we are at it, here's an "anthropologist's view":

Life among the Econ

by Axel Leijonhufvud:

"The Econ tribe occupies a vast territory in the far North. Their land appears bleak and dismal to the outsider, and travelling through it makes for rough sledding; but the Econ, through a long period of adaptation, have learned to wrest a living of sorts from it. They are not without some genuine and sometimes even fierce attachment to their ancestral grounds, and their young are brought up to feel contempt for the softer living in the warmer lands of their neighbours. such as the Polscis and the Sociogs. Despite a common genetical heritage, relations with these tribes are strained-the distrust and contempt that the average Econ feels for these neighbours being heartily reciprocated by the latter-and social intercourse with them is inhibited by numerous taboos. The extreme clannishness, not to say xenophobia, of the Econ makes life among them difficult and perhaps even somewhat dangerous for the outsider. This probably accounts for the fact that the Econ have so far-not been systematically studied. Information about their social structure and ways of life is fragmentary and not well validated. More research on this interesting tribe is badly needed..."

Here's the pdf of the original 1973 journal article.







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What's inferior? Not much, according to the Reserve Bank

Wikipedia defines an inferior good as...

"...a good that decreases in demand when consumer income rises, unlike normal goods, for which the opposite is observed."

Get it? The more your income, the less you want this good -- in absolute terms, not just proportional terms.

So which goods are inferior, in Australia?

The RBA has worked it out, using the ABS household expenditure and income surveys:





"Less than 1 per cent of total spending was on goods
and services that were estimated to be inferior
goods in 2009/10. Given that many of these have
elasticities only slightly less than zero, it is difficult to
be definitive.

However, based on the data from the
2003/04 and 2009/10 HES, examples of goods which
may be classified as inferior goods are powdered
milk, TV rental and tobacco other than cigarettes."


I can think of others: Cask wine, International Roast.

Are there others?


Insights From the Household Expenditure Survey



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Return of the Master. Keynes won.

"Since 2010, a Europe-wide experiment has conclusively falsified the idea that fiscal contractions are expansionary."

Paul Krugman points to this piece by economic historian Kevin O’Rourke:

"One lesson that the world has learned since the financial crisis of 2008 is that a contractionary fiscal policy means what it says: contraction. Since 2010, a Europe-wide experiment has conclusively falsified the idea that fiscal contractions are expansionary. August 2011 saw the largest monthly decrease in eurozone industrial production since September 2009, German exports fell sharply in October, and now-casting.com is predicting declines in eurozone GDP for late 2011 and early 2012.

A second, related lesson is that it is difficult to cut nominal wages, and that they are certainly not flexible enough to eliminate unemployment. That is true even in a country as flexible, small, and open as Ireland, where unemployment increased last month to 14.5%, emigration notwithstanding, and where tax revenues in November ran 1.6% below target as a result. If the nineteenth-century “internal devaluation” strategy to promote growth by cutting domestic wages and prices is proving so difficult in Ireland, how does the EU expect it to work across the entire eurozone periphery?

The world nowadays looks very much like the theoretical world that economists have traditionally used to examine the costs and benefits of monetary unions. The eurozone members’ loss of ability to devalue their exchange rates is a major cost. Governments’ efforts to promote wage cuts, or to engineer them by driving their countries into recession, cannot substitute for exchange-rate devaluation. Placing the entire burden of adjustment on deficit countries is a recipe for disaster."

End of argument?

And here's an excellent long piece from the NewYorker on the return of the master.






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"Economists are not like dentists"

So what are they like?

Concluding remarks from William Coleman at Thursday's Public Policy Symposium:

This Symposium has asked, ‘Is Public Policy Getting the Economics it Deserves?’ The answer that is implicitly presumed is (surely) “No”. But we are missing the point if we think that the frank badness of policy in contemporary Australia is sufficient for the answer. For the question is directing us - not to whether policy is good or bad – but how much good could economics do for policy; what is the most that policy could get out economics? And how might that ‘most’ be realized? Briefly, how is economics to be turned to good effect?

Both the broader public and policy elites share the same answer: economics is to make itself useful by providing experts to provide remedies to ills. In this position it is implicitly supposed that economists have access to some terrain of knowledge that is useful, objective and complex - the kind terrain that is the natural habitat of the ‘expert’- and the task of the economics expert to master and cultivate this terrain, and offer up its fruit in the form of policy advice and conduct. In this answer, economists might be compared to agronomists, or, to use Keynes’ comparison, to ‘dentists’

Here I will part from many in our assembly, and assert that this vision of the economist as the expert is badly wrong.

Why? For two reasons.

First, economists simply don’t have the grip on the quantitatively calibrated counterfactuals that are requisite for any reliable repertoire of remedies.

What economists know is highly conditioned, ‘partial’ propositions ,that freeze the operation of most of the economy by ‘ceteris paribus’ clauses. To put it another way, economists can shine a lamp on some parts of the economic machine, but most of the machine, in all its baroque intricacy, is wrapped in gloom. Thus all attempts to predict the response of the machine are fraught. Our difficulty in predicting this machine is compounded by the fact that economic system is integrated a still more mysterious political- economic system. These ‘general equilibrium’ behaviors of this system will mock any aspirations to control it.

The upshot is that we have little “how to” knowledge – which is the surely the adjunct of the acme of knowledge - but posses only a lesser order of knowledge: a “what” knowledge...

Economists can correctly distinguish things, they can rightly say what they are, and what they will become. (‘this is cost; this is a burden; this is a waste’). In medical terms, economists’ knowledge is diagnostic and prognostic, but not therapeutic.

So where does this leave the usefulness of economists?

First, let’s grant that prognosis and diagnosis, even the absence of therapy, are not wholly ‘useless’.

Second, even in the matter of therapy, there is a usefulness of the Socratean wisdom that we know that we don’t know. Economists, in other words, can be useful in the way medicine was most useful before the 19th century; by discrediting quacks, and the false and destructive hopes of their quack remedies.

But despite these two uses, the position I have outlined above appears to imply a quietism that is extreme and intolerable. Is there really no failure (either government failure or market failure) that is so egregious that economists cannot claim to know of some action that would be improving? To put the point more concretely, is there is no policy that so idiotic that economists cannot be said to know that its abolition will be for the good?

Here I have to concede; of course, there are such egregious failures, of course there are such idiotic policies. But I concede without inconsistency, because the kind of cases which irresistibly illustrate those egregious failures are ‘local’ in domain (rather than macroeconomic or ‘paneconomic’ in domain) so that the general system effects that mock our aspirations to control can be safely ignored.

So, yes: with such local egregious failures let’s identify them, deplore them, and crave their disappearance. Let’s do all this, quite sensibly, in the role of the social critic. But let’s not do this in the expectation that what we have to say will absorbed as ‘advice’.

For there is a second deficiency in the vision of ‘economist as dentist’. That vision assumes a dyadic relation: dentist and patient. But in the matter of policy advice the critical relation is (at least) tripartite; the public, economists, power elites. The critical point is that our power elites so ‘impoverished in consciousness’ there is incoherence in expecting our knowledge to be heeded. It is a bit like recommending to a lunatic Benjamin Franklinesque precepts of rational self-management. Or explaining to a thief the benefits to all of everyone observing an honesty box system. There is an incoherence here; if the advice was ever going to be listened to it, wouldn’t be needed in the first place.

I conclude that to hopefully advance our knowledge as ‘advice’ is a bit late in the day; it is trying to dispose of symptoms without dealing with the pathology. We have to go back a bit, or a bit further down. In that respect I will not pin any hopes on formal economics education; we have plenty of that, and what good has it done us? It is a sobering, even melancholy, exercise to enumerate the MPs with formal economics education in the current federal parliament. It is not the fewness that depresses, but the very number, and the particular individuals who can make the claim.

What the political elite is needs is not the drilling in some abstract curriculum, but ‘enculturation’ or even ‘socialization’. So I will conclude by exploring the suggestion that economics can makes it useful through economists constituting a socialising weather system in an otherwise hostile climate.

Socialization is a thing done in informal groups; it is not something that happens to you by reading a book, or by undertaking a qualification. It is often seen as a hierarchical process (from old to young), but has important elements of mutuality.

Think of economists, then, as comprising a group, with a degree of hierarchy (or gradient); at the apex are performers, descending to audience, and then to mere onlookers and passers by. The performances of the performers span the written word, the spoken word audience, the Facebook micro blog and the Twitter tweet. The audience and onlooker receive an impress from these performances. But at the same time the performer is also receives an impress from the reaction of the audience, and even from passers by. There is also a dynamism; there is a percolation inwards as some of the audience join the performers. More importantly, there is a dynamic in the opposite direction, as the passersby pass by, and soak into the wider world bearing their impress; and so silently and tacitly shape the ways of the wider world, and enrich that impoverished consciousness.

The ‘group’ in the above scenario is obviously not an arbitrary aggregate of individuals, but a community. The Economic Society of Australia is the leading example of such a community, and today’s Symposium exemplifies the process I have hopefully described.

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What economists want - the survey

85% Cost benefit analysis for major projects
79% Carbon prices rather than direct action
76% Interest rate cuts in a recession
76% Extra public spending in a recession
76% Jail sentences for price fixers
74% A mining tax on excess profits
73% Congestion pricing in cities
73% An end to the First Home Buyers Grant
73% Indexed Income tax scales
72% A balanced budget over the cycle
71% An end to the baby bonus

Economic Society of Australia, survey of 500 members

If Australia’s economists had the vote, Julia Gillard’s carbon tax would win a landslide.

A survey of 145 delegates attending the Australian conference of economists in Canberra finds 59 per cent think the tax is “good economic policy”, compared to just 11 per cent for Tony Abbott’s alternative. Seventeen per cent “agree strongly” that Gillard’s scheme is good policy compared to 4 per cent for Abbott’s.

“It’s basic economics,” said the economic society president Bruce Chapman, outlining the findings in an Australian National University lecture theatre. “It’s a fundamental part of training that activities with negative spillovers get taxed and activities with positive spillovers such as education get subsidised.”

Skewing the results was that a surprising one in four of those surveyed knew little about the Tony Abbott “direct action” alternative. Around 27 per cent said they were not sure or had no opinion about the Abbott scheme compared to only 15 per cent for the Gillard scheme.

Queensland University professor Paul Frijters who helped design the survey, said the result wasn’t so much an endorsement of Gillard as an endorsement of economists themselves.

“In the international debate about global warming economists have argued the best approach is to ensure polluters pay for the damage they do. We have won that debate. It’s little wonder we support governments who have adopted adopted the standard economic approach. It’s like cheering ourselves"...

Conscious the outcome would not endear the profession to Mr Abbott who a week ago said economists views said more about them than the issue at hand, Professor Chapman said all surveys were flawed and economists disliked answering any question that was put simply.

A separate broader survey of 500 members of the Economic Society found them in overwhelming agreement on many of the big economic questions. 85% believed cost benefit inquiries should be mandatory for large infrastructure projects, an implicit criticism of the government’s approach to the national broadband network; 79 per cent thought carbon pricing was better than direct action; 76 per cent supported cutting interest rates and boosting government spending during a recession and 74 per cent supported a mining tax on excess profits.

Confirming their reputation as a dismal bunch, 73 per cent wanted the first home owners grant abolished and 71 per cent wanted the baby bonus abolished.

The question of women on company boards split the economists on gender lines. Women were evenly divided on the question mandatory quotas, men overwhelmingly against.

Scrapping tariffs, once about the only question guaranteed to unite economists now has more niche support at 59 per cent.

Published in today's SMH and Age


What Economists Want


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Oh wow. Keynes vs. Hayek Round Two, on video

Settle in.




This was Round One:




And here's the planning for Round 2:




It's all here at Econstories.tv


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Quiggin, the Musical

Why not?

As he enjoys the success of Zombie Economics - How Dead Ideas Walk among Us, he is already considering the movie rights.

It is being translated into French and Portuguese and Japanese, Korean and Chinese.

It began its life as a series of blog posts as we were recovering from the financial crisis, several of which I reposted here.

It's a great read, the best cover of any economics book, and potentially as important in Freakonomics in popularising economic concepts.

And now it's easy listening.

Here's John Quiggin at the London School of Economics in November.

And here he is in surprisingly agreement with Hayek fan Russ Roberts on EconTalk:

(The Econtalk link has a virtual transcript, so hardworking is Roberts)


Want to check out Zombie Economics? Here's the Introduction, to get you started:

Zombie Econoics Introduction

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Books for Christmas

From my other blog, Peter's Bookshelf:

Six months of panic - Trevor Sykes

Few Australian writers can match Trevor Sykes' understanding of the murkier waters of Australian business, as readers of his Pierpont column and his magisterial works The Bold Riders and Two Centuries of Panic have shown.

He has now turned his eagle eye on what has become known as the GFC, and the waves of panic that began with the subprime crisis in America and flowed with tsunami-like force across Europe, Asia and Australia. This was a crisis which was borne from an excess of greed, and immorality, and Sykes singles the Wall Street banks out for particular blame.

He explains how the subprime phenomenon came about, and how the fall of Lehman brothers marked the beginning of the slide. Inevitably the crisis reached Australia, with Centro and MFS the first dominoes in the chain. With the same blowtorch he earlier applied to the likes of Alan Bond he dissects the questionable dealings which caused the fall of high flyers like Allco, Babcock and Brown, ABC and many more, and summarises the pain and harm caused by the myriad small companies and individuals feeding from the frenzy.

Zombie Economics - John Quiggin

In the graveyard of economic ideology, dead ideas still stalk the land.

The recent financial crisis laid bare many of the assumptions behind market liberalism--the theory that market-based solutions are always best, regardless of the problem. For decades, their advocates dominated mainstream economics, and their influence created a system where an unthinking faith in markets led many to view speculative investments as fundamentally safe. The crisis seemed to have killed off these ideas, but they still live on in the minds of many--members of the public, commentators, politicians, economists, and even those charged with cleaning up the mess. In Zombie Economics, John Quiggin explains how these dead ideas still walk among us--and why we must find a way to kill them once and for all if we are to avoid an even bigger financial crisis in the future.

The Plundered Planet - Paul Collier

Paul Collier's The Bottom Billion was greeted as groundbreaking when it appeared in 2007. The Economist wrote that it was "set to become a classic," the Financial Times praised it as "rich in both analysis and recommendations," while Nicholas Kristof of the New York Times called it the "best nonfiction book so far this year."

Now, in The Plundered Planet, Collier builds upon his renowned work on developing countries and the poorest populations to confront the global mismanagement of nature. Proper stewardship of natural assets and liabilities is a matter of planetary urgency: natural resources have the potential either to transform the poorest countries or to tear them apart, while the carbon emissions and agricultural follies of the rich world could further impoverish them. The Plundered Planet charts a course between unchecked profiteering on the one hand and environmental romanticism on the other to offer realistic and sustainable solutions to dauntingly complex issues.

Sex, Lies and Pharmaceuticals - Ray Moynihan

Hard-hitting and provocative, this powerful expose of the birth of a new 'disease' - and the multi-million dollar machine unleashed to market - takes us inside the corridors of medical power from Paris to Melbourne to Manhattan to witness the creation of 'female sexual dysfunction' as a twenty-first century epidemic.

The characters in this corporate thriller are the global drug giants, the doctors and psychologists working with them, and the critics trying to untangle medical science from marketing who argue the new disorders of desire are a misleading and dangerous distraction from the real problems in sexual relationships.

I really really really really recommend each.



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Krugman on the breakdown of the consensus

This is brilliant!

The Instability of Moderation

We used to pity our grandfathers who lacked both the knowledge and the compassion to fight the Great Depression effectively; now we see ourselves repeating all the old mistakes.

I find myself believing, more and more, that this failure has deep roots – that we were in some sense doomed to go through this. Specifically, I now suspect the regime that by and large lets markets work, but in which the government is ready both to rein in excesses and fight slumps – is inherently unstable. It’s something that can last for a generation or so, but not much longer.

By “unstable” I don’t just mean Minsky-type financial instability, although that’s part of it. Equally crucial are the regime’s intellectual and political instability.

Intellectual instability

The brand of economics I use in my daily work – the brand that I still consider by far the most reasonable approach out there – was largely established by Paul Samuelson back in 1948, when he published the first edition of his classic textbook. It’s an approach that combines the grand tradition of microeconomics, with its emphasis on how the invisible hand leads to generally desirable outcomes, with Keynesian macroeconomics, which emphasizes the way the economy can develop magneto trouble, requiring policy intervention. In the Samuelsonian synthesis, one must count on the government to ensure more or less full employment; only once that can be taken as given do the usual virtues of free markets come to the fore.

It’s a deeply reasonable approach – but it’s also intellectually unstable. For it requires some strategic inconsistency in how you think about the economy. When you’re doing micro, you assume rational individuals and rapidly clearing markets; when you’re doing macro, frictions and ad hoc behavioral assumptions are essential.

So what? Inconsistency in the pursuit of useful guidance is no vice. The map is not the territory, and it’s OK to use different kinds of maps depending on what you’re trying to accomplish: if you’re driving, a road map suffices, if you’re going hiking, you really need a topo.

But economists were bound to push at the dividing line between micro and macro – which in practice has meant trying to make macro more like micro, basing more and more of it on optimization and market-clearing. And if the attempts to provide “microfoundations” fell short? Well, given human propensities, plus the law of diminishing disciples, it was probably inevitable that a substantial part of the economics profession would simply assume away the realities of the business cycle, because they didn’t fit the models.

The result was what I’ve called the Dark Age of macroeconomics, in which large numbers of economists literally knew nothing of the hard-won insights of the 30s and 40s – and, of course, went into spasms of rage when their ignorance was pointed out.

Political instability

It’s possible to be both a conservative and a Keynesian; after all, Keynes himself described his work as “moderately conservative in its implications.” But in practice, conservatives have always tended to view the assertion that government has any useful role in the economy as the thin edge of a socialist wedge. When William Buckley wrote God and Man at Yale, one of his key complaints was that the Yale faculty taught – horrors! – Keynesian economics.

I’ve always considered monetarism to be, in effect, an attempt to assuage conservative political prejudices without denying macroeconomic realities. What Friedman was saying was, in effect, yes, we need policy to stabilize the economy – but we can make that policy technical and largely mechanical, we can cordon it off from everything else. Just tell the central bank to stabilize M2, and aside from that, let freedom ring!

When monetarism failed – fighting words, but you know, it really did — it was replaced by the cult of the independent central bank. Put a bunch of bankerly men in charge of the monetary base, insulate them from political pressure, and let them deal with the business cycle; meanwhile, everything else can be conducted on free-market principles.

And this worked for a while – roughly speaking from 1985 to 2007, the era of the Great Moderation. It worked in part because the political insulation of central banks also gave them more than a bit of intellectual insulation, too. If we’re living in a Dark Age of macroeconomics, central banks have been its monasteries, hoarding and studying the ancient texts lost to the rest of the world. Even as the real business cycle people took over the professional journals, to the point where it became very hard to publish models in which monetary policy, let alone fiscal policy, matters, the research departments of the Fed system continued to study counter-cyclical policy in a relatively realistic way.

But this, too, was unstable. For one thing, there was bound to be a shock, sooner or later, too big for the central bankers to handle without help from broader fiscal policy. Also, sooner or later the barbarians were going to go after the monasteries too; and as the current furor over quantitative easing shows, the invading hordes have arrived.

Financial instability

Last but not least, the very success of central-bank-led stabilization, combined with financial deregulation – itself a by-product of the revival of free-market fundamentalism – set the stage for a crisis too big for the central bankers to handle. This is Minskyism: the long period of relative stability led to greater risk-taking, greater leverage, and, finally, a huge deleveraging shock. And Milton Friedman was wrong: in the face of a really big shock, which pushes the economy into a liquidity trap, the central bank can’t prevent a depression.

And by the time that big shock arrived, the descent into an intellectual Dark Age combined with the rejection of policy activism on political grounds had left us unable to agree on a wider response.

In the end, then, the era of the Samuelsonian synthesis was, I fear, doomed to come to a nasty end. And the result is the wreckage we see all around us.

HT: Joye


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Whoops. Economics Nobel Prize winner blocked from joining Federal Reserve. "Not ready"

Only in America:

"For months now, Sen. Richard Shelby has been blocking the nomination of economist Peter Diamond to join the board of the Federal Reserve. "I do not believe he’s ready to be a member of the Federal Reserve Board," Shelby said, "I do not believe that the current environment of uncertainty would benefit from monetary policy decisions made by board members who are learning on the job.”

Today, Diamond won the Nobel Prize in economics. Of course, Shelby never said he wasn't a "skilled economist." He said he didn't know monetary economics...."


Here's the announcement:

Markets with search costs

Why are so many people unemployed at the same time that there are a large number of job openings? How can economic policy affect unemployment? This year's Laureates have developed a theory which can be used to answer these questions. This theory is also applicable to markets other than the labor market.

On many markets, buyers and sellers do not always make contact with one another immediately. This concerns, for example, employers who are looking for employees and workers who are trying to find jobs. Since the search process requires time and resources, it creates frictions in the market. On such search markets, the demands of some buyers will not be met, while some sellers cannot sell as much as they would wish. Simultaneously, there are both job vacancies and unemployment on the labor market.

This year's three Laureates have formulated a theoretical framework for search markets. Peter Diamond has analyzed the foundations of search markets. Dale Mortensen and Christopher Pissarides have expanded the theory and have applied it to the labor market. The Laureates' models help us understand the ways in which unemployment, job vacancies, and wages are affected by regulation and economic policy. This may refer to benefit levels in unemployment insurance or rules in regard to hiring and firing. One conclusion is that more generous unemployment benefits give rise to higher unemployment and longer search times.

Search theory has been applied to many other areas in addition to the labor market. This includes, in particular, the housing market. The number of homes for sale varies over time, as does the time it takes for a house to find a buyer and the parties to agree on the price. Search theory has also been used to study questions related to monetary theory, public economics, financial economics, regional economics, and family economics.

Peter A. Diamond, US citizen. Born 1940 in New York City, NY, USA. Ph.D. 1963, Institute Professor and Professor of Economics, all at Massachusetts Institute of Technology (MIT), Cambridge, MA, USA.

Dale T. Mortensen, US citizen. Born 1939 in Enterprise, OR, USA. Ph.D. 1967 from Carnegie Mellon University, Pittsburgh, PA, USA. Ida C. Cook Professor of Economics at Northwestern University, Evanston, IL, USA.

Christopher A. Pissarides, British and Cypriot citizen. Born 1948 in Nicosia, Cyprus. Ph.D. 1973, Professor of Economics and Norman Sosnow Chair in Economics, all at London School of Economics and Political Science, UK.

Keynes is back. He said friction stopped markets from clearing.

This year's winners are telling us how.

Created by Russ Roberts - resources here, MP3 here

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Cooking for economists. Enjoy.

Also the Nobel prize.

Yoram Bauman is The Standup Economist:

He has written a book:




Oh. Here's his definitive earlier piece:

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If you are into economics... Darling Harbour is the place to be

From today

Get a load of the program:

Economists Conference Program



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But wait, stimulus was even cheaper...

What about all NewStart and other spending it saved?

Peter Whiteford reckons that by spending high (3rd highest), we ended up spending relatively low (11th lowest).

Paper below.

Oh, and here's David Gruen of the Treasury:

It is worth providing a brief summary of some of the benefits of avoiding a recession that would not be relevant if a recession was instead simply an equilibrium market outcome.

The first, and most obvious, benefit is that involuntary unemployment is lower than it would otherwise be. Among other things, lower involuntary unemployment implies less long-term unemployment and hence less skill atrophy and less general disaffection with society on the part of the long-term unemployed. Treasury estimates imply that the fiscal packages reduced the peak unemployment rate by 1½ percentage points. I suspect, however, that this is an underestimate, both because it was calculated using conservative fiscal multiplier estimates, and because it takes insufficient account of the favourable feedback loop that I spoke about earlier when discussing the impact of expansionary macroeconomic policy on confidence.

But there are further benefits to avoiding a recession that would need to be taken into account in a realistic cost-benefit analysis of discretionary fiscal stimulus. Recessions break productive links between firms, and between firms and workers, when firms that would otherwise be viable over the long-term are driven into bankruptcy by a recession.13 In other words, plenty of the destruction that occurs in a recession is not creative destruction.

Finally, recessions do long-lasting damage, particularly to that cohort of people entering the labour market at the time the recession hits. Thus, for example, university graduates entering the labour market in a recession suffer sizeable initial earnings losses, losses that persist for a period estimated at between eight and fifteen years – that is, long after the recession has ended (Oreopoulos et al., 2006, Kahn 2009).

The Stimulus and the Costs of Unemployment



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There's only one really important concept in economics [Warning: Broadband post]

It's opportunity cost.

You would be amazed at how many people don't get it.

Christopher Joye is someone who does.

Here are his twitter posts today:

I wonder whether Australia would be much better served by spending $43 billion on public transport systems
about 5 hours ago via Twitter for BlackBerry®

Okay let's spend $43 bn on public transport + throw in free wi-fi. I'm guessing efficiency gains wld be greater (while mkt supplies b-band).
about 5 hours ago via Twitter for BlackBerry®

$43bn wld buy ~230km of new metro rail track across Australia (using Parra-Epping price); equivalent to 68 times size Kings X to Bondi line
about 4 hours ago via web

Tonight ~105k people are homeless. $43 billion could completely eradicate homelessness. We could build 107,500 new homes worth $400k each.
about 3 hours ago via web

Perspective: give homes to 105k homeless or build 230km of new city rail + get 10mb/s. Who needs 2 d/load 100mb/s anyway? Youtube is fine
about 2 hours ago via Twitter for BlackBerry®

Rather than NBN we could solve health crisis with 43x new 340 bed hospitals-- bringing 14,620 beds online--based on ~$1bn cost of Melb's RCH
about 2 hours ago via web

Do we really need a taxpayer funded $43bn upgrade to Skype, iTunes, Facebook + YouTube? Kids will still go to school, people travel to work.
about 1 hour ago via Twitter for BlackBerry®

NBN's doing my head in. Simply GFC-induced grandiloquence. Too-smart-by-half kids in Rudd/Swan's office thinking let’s build $43bn lolly pop
about 1 hour ago via web

Where's the Treasury analysis or PC report showing us that this is the best use of $43 billion? There isn't one. We're all gullible fools
4 minutes ago via Twitter for BlackBerry®

@joshgans sure, compare it to the revenue/benefits you get from public transport, hospitals etc. The PROBLEM is NOBODY has done the analysis
6 minutes ago via Twitter for BlackBerry® in reply to joshgans

We don't even know if $43bn is the right number. Why not $10-20bn. Who made these decisions? What independent analysis was carried out?
2 minutes ago via Twitter for BlackBerry®

I agree completely.

What you think about the NBN says an awful lot about the way you think.


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Wednesday Column:Why economists and miners disagree, and why they are both right

Want to hear a good economist joke? The economist and the entrepreneur are out for a walk. The entrepreneur points down and says "there's a $20 note on the footpath".

The economist replies, "no there's not; if there was, someone would have picked it up by now".

We laugh because it makes the economist sound stupid, but also because we know the economist will pretty soon be right. If the money hasn't been picked up, it will be - most probably by the entrepreneur herself.

Which cuts to the quick of why mining executives and the sort of economists employed by the Treasury don't understand each other - genuinely.

That, and something called the fallacy of composition.

Let's start with the miners... They say the proposed tax will make Australia a less attractive place to mine. While still attractive (miners will get 60 per cent of everything they make above the bond rate before paying tax) Australia will be pushed down the list of attractive locations. Management and capital are limited, and so they will be more likely to direct those limited resources somewhere else.

Alan Auerbach is professor of economics at University of California, Berkeley. The Henry Review consulted him while drafting its report and he is back in Australia for the conference on the wash-up.

Here's how he characterises the differences between the camps:

"One thinks that if the project earns a satisfactory rate of return it will be undertaken; the other thinks miners look for the highest rate of return and then stop."

"We teach our students in economics and business that if their cost of funds is say 10 per cent or whatever, and there is one project that earns 50 per cent and one that earns 20 per cent, they should undertake both. The miners seem to be saying - we only have one chief executive, he can only think about one thing at a time, and the bank won't lend us more money - we will stick with one."

The miners are saying that if there is $20 lying on the footpath they are going to leave it there.

The point about the fallacy of composition is that both the miners and the Treasury might be right.

Let's talk about football. If you go to oval with a fruit box and stand on it you will get a better view. But if everyone goes to the oval with a fruit box and stands on it the view won't have improved at all. The fallacy of composition is the fallacy of thinking that what is true for an individual is true overall.

Auerbach says he accepts that a single mining company might say, "our executives need to play golf and do other things, we will just do one mine and we do it in Brazil instead of Australia because taxes are lower there".

But then he says another company will come in, buy the right to mine the land at a lower price (the tax will have pushed down the price) and mine it anyway. What was true of one company will not be true of companies in general.

And it is companies in general that matter to the Treasury and Australia, even if those companies don't yet exist. Fortescue calls itself "the new force in iron ore". It was created in 2003. New mining companies do arise to sweep up notes left on the pavement by the older more choosy ones.

But what if they can't get the finance? To a Treasury or academic economist the concept of not being able to get finance for an attractive proposition is a strange one. The tax is designed to ensure the proposition remains attractive. Sixty per cent of excess profits are always left in and if the profits drop too low the tax drops to zero. But it could happen. Sometimes (usually for short periods of time) capital markets don't work.

But the minerals will still be there, ready to be mined as soon as someone can get the finance. Businesses are not so lazy as to let money lie on the footpath long while there's a chance of picking it up.

Or at least that's how the Treasury and the professor see it.

But can't our big mining companies see that too? Can't they see that if they don't mine someone else probably will, I naïvey asked the professor.

His brutal reply was that even if they can see it they don't care.

"It is wrong to think that if a company is against a tax it is because the tax discourages activity in the industry," he tells me.

"You could come up with a higher tax that would actually encourage activity in their industry; I believe this is such a tax - but it would still make the industry unhappy."

The professor's bottom line: the industry does see things differently to the Treasury, most likely genuinely. But even if they could see things more broadly they would still oppose the tax. It is designed to grab more of their profits.

Published in today's SMH and Age


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"Put down your weapons" - Ken Henry

Treasury boss Ken Henry has reentered the tax debate issuing an extraordinary call for economists and tax experts to "put down their weapons" and get behind proposals such as the government's proposed resource super profits tax.

Briefly interrupting an overseas holiday to address a Sydney conference on the outcome of the Henry Tax Review he said it was "unbelievably frustrating, incredibly frustrating" for people advising governments of both stripes that economists seemed "loathe to come to a consensus position on anything".

"Whenever an idea is ventured publicly by a person, whether that person is a policy advisor or whether it's a government minister, there's at least a handful of academics who will contest it," he said. "I've seen it on both sides of politics - this is not a partisan comment at all - but for governments, government ministers who are seeking to get ideas legislated - it is unbelievably frustrating, incredibly frustrating."

"It is a great strength of economics as a discipline. It is one of the things that as a young person I found very attractive about the study of economics, this contest of ideas. But I think there are occasions on which economists might, at least for a period, put down their weapons and join a consensus"...

Dr Henry spoke as the mining giant Xtrata and the West Australian Chamber of Minerals released what they said was new economic research confirming the mining tax would harm Australia's economy.

"There is a recent example of what I am talking about," Dr Henry said. "I'm not going to comment about the resource super profits tax, but I will talk about the emissions trading scheme. Most academic economists accepted, at least behind closed doors, that it was a sound policy idea. Yet there were no end of academics who wanted to say for example, it's not bad, but a carbon tax would be better."

"That did not increase at all the chances of a carbon tax being legislated. All it did was reduce the chance of an emissions trading scheme being legislated."

"In the way in which political debate occurs in Australia, such statements do enormous damage to the prospects of sensible reform. There are times when it would serve the national interest if economists could just call a halt to the war for a while."

The Treasury Secretary said he saw no sign of the Rudd government backing down on the resource tax.

"I haven't myself come to the view that this particular reform proposal has dim prospects, he said. "I do not see it that way yet at all. The tax is not due to start for two years."

"What I am witnessing at the moment doesn't surprise me in the least," he said referring to the mining industry's campaign.

"Does it cause me any particular grief? Maybe the scar tissue has hardened. After 25 years of providing tax policy advice, no particular grief."

"It is tough to convince a wary public; tougher still cynical media. And virtually impossible – in Australia at least - to secure political consensus on any tax proposal other than a straightforward cut."

Published in today's SMH and Age


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That link between fiscal and monetary policy - it's baaaack! Swan says so.

Treasurer Wayne Swan has held out hope of restraint from the Reserve Bank as new figures emerged showing home lending tumbling to nine-year lows.

Asked at the National Press Club what impact his budget would have on interest rates Mr Swan said he thought its fiscal restraint would be "welcomed by the Reserve Bank".

"This is the largest fiscal consolidation since the early 1960s," he said. "We have put in place a medium term plan which I think would give everyone confidence we are absolutely serious about fiscal discipline."

"We understand the need for settings that put maximum downward pressure on inflation and therefore maximum downward pressure on rates. But at the end of the day the Reserve Bank takes its decisions independently."

The prospect of spending restraint leading to interest rate restraint was spelled out by Reserve Bank Governor Glenn Stevens in February when he told an international symposium to expect "a lengthly period of rather low short-term interest rates" if governments committed themselves to repairing their budgets...

His speech included the disclaimer that it was "not intended to provide any particular message about current issues for monetary policy in Australia".

Figures released as the Treasurer conducted a round of media interviews to promote the budget showed new lending for housing sliding to a nine-year low.

Lending to buy homes plunged 4.5 per cent in March to be down 24 per cent in six months.

"The cumulative interest rate hikes are taking their toll," said Commonwealth Securities economist Savanth Sebastian. "No doubt the likelihood of further rate hikes and the substantial growth in house prices are making potential buyers rework their sums."

Mr Savanth said the Reserve Bank now had "plenty of reasons to pause" in its process of increasing interest rates.

"Not only is housing lending sliding, but retail spending, building approvals and gauges business activity have been soft. It may prove a temporary weakness, but the Reserve Bank should be safe rather than sorry."

Against the trend in lending to owners, lending to investors climbed a further 3.3 per cent to its highest point in more than two years.

Four out of every ten dollars lent to buy a house are now lent to investors, up from three in ten a year ago.

But disturbingly borrowing by investors to construct houses was unchanged on a year ago, meaning that none of the extra $1.5 billion borrowed by investors will itself create more houses.

Housing Industry Association economist Harley Dale said the trend was "worrying" and did "nothing to instil confidence in the prospects for a recovery in new residential construction that extends beyond this year".

Published in today's SMH 


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Steve Keen is on his way

Sponsor him here.

Details here.


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