Archive for the Category Philosophy


Lazy people, nice people, crazy people, happy people.

Here’s a question.  When we describe people using the adjectives in the title of this post, are we describing the way they are, or they way they behave?  We have deeply ambivalent views in this area, which on close examination are probably incoherent.  Much of our social interaction is based on shared myths, which shrivel under the bright light of scientific scrutiny.  Even the language we use is subtly inconsistent with the scientific method.  For instance, consider one of society’s monsters, say a Hitler, Mao, or Osama.  Suppose someone says “I know how he felt when he committed his crimes.”  Most people would take that as condoning the crimes, even though from a scientific perspective there’s no logical connection between knowing why a person acted a certain way, and condoning their behavior.

I was reading a book about genetic engineering called “Babies by Design,” and was struck when Ronald Green claimed:

Research shows that obesity is consistently attributed to laziness and a lack of self-discipline.

In reality, the truth may be just the opposite.  Studies of identical twins reared together or apart indicate that much obesity may be caused by hereditary factors.  In technical terms, the heritability of obesity, the percentage of observed variation among people that is attributed to genes, is very high, somewhere between 50 and 80 percent.

[Before continuing, a disclaimer so that I am not misunderstood.  I have good genes for being thin.  If I didn’t I assume I’d be fat, as I don’t have much self-control.  So the following should not be viewed as criticism of fat people.]

Do you see the problem with Green’s assertion?  He asks us to believe that just because obesity is 80% genetic, it can’t also be 80% due to laziness.  But why?  What are those two hypotheses viewed as mutually exclusive?  Is it because genetic characteristics are viewed as “not one’s fault,” whereas laziness is viewed as a character flaw?  But why shouldn’t character flaws be genetic?

A new study has found a “kindness gene.”  It seems that some people are born kind and some are born “bad to the bone.”

People with a certain gene trait are known to be more kind and caring than people without it, and strangers can quickly tell the difference, according to US research published on Monday.

The variation is linked to the body’s receptor gene of oxytocin, sometimes called the “love hormone” because it often manifests during sex and promotes bonding, empathy and other social behaviors.

Scientists at Oregon State University devised an experiment in which 23 couples, whose genotypes were known to researchers but not observers, were filmed.

One member of the couple was asked to tell the other about a time of suffering in his or her life. Observers were asked to watch the listener for 20 seconds, with the sound turned off.

In most cases, the observers were able to tell which of the listeners had the “kindness gene” and which ones did not, said the findings in the Proceedings of the National Academy of Sciences edition of November 14.

Should we no longer praise people for being kind?  No, we should praise them, but if we were to use Green’s logic then meanness would no longer be viewed as the person’s fault, because we’ve discovered that it’s genetic.

And happiness is also genetic, according to an article in The Economist:

Serotonin is involved in mood regulation. Serotonin transporters are crucial to this job. The serotonin-transporter gene comes in two functional variants””long and short. The long one produces more transporter-protein molecules than the short one. People have two versions (known as alleles) of each gene, one from each parent. So some have two short alleles, some have two long ones, and the rest have one of each.

The adolescents in Dr De Neve’s study were asked to grade themselves from very satisfied to very dissatisfied. Dr De Neve found that those with one long allele were 8% more likely than those with none to describe themselves as very satisfied; those with two long alleles were 17% more likely.

That’s already pretty disturbing, but then consider the following:

Which is interesting. Where the story could become controversial is when the ethnic origins of the volunteers are taken into account. All were Americans, but they were asked to classify themselves by race as well. On average, the Asian Americans in the sample had 0.69 long genes, the black Americans had 1.47 and the white Americans had 1.12.

That result sits comfortably with other studies showing that, on average, Asian countries report lower levels of happiness than their GDP per head would suggest. African countries, however, are all over the place, happinesswise. But that is not surprising, either. Africa is the most genetically diverse continent, because that is where humanity evolved (Asians, Europeans, Aboriginal Australians and Amerindians are all descended from a few adventurers who left Africa about 60,000 years ago). Black Americans, mostly the descendants of slaves carried away from a few places in west Africa, cannot possibly be representative of the whole continent.

Note how the alleged racial gaps in happiness are inversely correlated with average income in America.  Proof God is a utilitarian?

Seriously, if society insists on continuing to probe ever more deeply into human genetics, I think we need a whole new language for discussing ethical issues.  My suggestion is that scientists give up on all the comforting notions of “just deserts.”  Yes, proof that X% of behavior in genetic still allows for 100-x% to be environment.  But environment is also not the villain’s fault.

In my view the right way to handle all this is to ignore the question of whether anything is really a person’s fault, and consider the related question of whether certain behavior is changed by external incentives (including telling them that it is their fault.)  I don’t have any problem with obese or unhappy people, but I don’t like mean people.  So as long as there is evidence that mean people can be deterred from meanness by sanctions, I’ll continue to give them a hard time.  And no amount of genetic research will change my behavior in that regard.

However I do think all this research supports utilitarian ethics.  We utilitarians are sometimes criticized for caring equally about the happiness of the deserving and the undeserving.  This genetic research suggests that much of the variation in personality is genetic, and hence “not the person’s fault.”  The optimal policy (and I’m not proposing this) would be for an omniscient government to tax mean people $X dollars for each unit of mean behavior, and then rebate the entire amount of revenue in lump sums to everyone with a mean gene in their body.

Or in Christian terms we could say “love thine enemy, but also punch them in the nose every time they misbehave.”  Does that seem contradictory?  Then you are confusing behavior with character.

Because of genetic research our view of humanity and ethics in the year 2111 will be totally different from today, just as our current views are totally different from 100 years ago (when “progressives” often favored eugenics.)

What do I fear most?  Busybodies like this:

People who have two copies of the G allele are generally judged as more empathetic, trusting and loving.

Those with AG or AA genotypes tend to say they feel less positive overall, and feel less parental sensitivity. Previous research has shown they also may have a higher risk of autism.

.   .   .

However, no gene trait can entirely predict a person’s behavior, and more research is needed to find out how the variant affects the underlying biology of behavior.

“These are people who just may need to be coaxed out of their shells a little,” said senior author Sarina Rodrigues Saturn, an assistant professor of psychology at Oregon State University whose previous research established the genetic link to empathetic behavior.

“It may not be that we need to fix people who exhibit less social traits, but that we recognize they are overcoming a genetically influenced trait and that they may need more understanding and encouragement.”

Keep your %&#@$*& hands off my anti-social traits.  Remember what Greta Garbo said.

And then there is mental illness.  Here’s Reason magazine explaining that crazy is as crazy does:

Metzl is not interested in such distinctions. “Schizophrenia is shaped by social, political, and, ultimately institutional factors in addition to chemical or biological ones,” he writes. “Too often, we assume that medical and cultural explanations of illness are distinct entities, or engage in frustratingly pointless debates about whether certain mental illnesses are either socially constructed or real.” He says “this polarizing dichotomy serves no one, and makes it harder to see how mental illness is always already both.”

It is hard to imagine someone making a similar speech about cancer or diabetes. “Unlike the conditions treated in most other branches of medicine,” observes Marcia Angell, former editor of The New England Journal of Medicine, in a June New York Review of Books essay, “there are no objective signs or tests for mental illness””no lab data or MRI findings””and the boundaries between normal and abnormal are often unclear. That makes it possible to expand diagnostic boundaries or even create new diagnoses, in ways that would be impossible, say, in a field like cardiology.” In other words, mental illnesses are whatever psychiatrists say they are. If someone is diagnosed with depression or schizophrenia based on the currently accepted behavioral markers, assuming the criteria are correctly applied, it does not make sense to say he does not really have depression or schizophrenia, since there is no test to disconfirm the diagnosis. And if the criteria change so that they no longer apply to him, his disease disappears or becomes something else; it has no independent existence.

Music to my post-modern ears.

When I read “A Beautiful Mind” there was one aspect of John Nash’s behavior that I found strange.  Every so often he was involuntarily committed to an insane asylum.  Because he hated it there, he soon began to “act sane” so that they’d have to let him out.  And they did.  I don’t recall any of the book reviews noticing this, but doesn’t it seem a bit odd that someone who is mentally ill can act sane, given that acting crazy seems to be the only way to diagnose most mental illnesses?

I’m not saying Nash wasn’t “actually crazy.”  I’m saying that like all our other behavioral traits mental illness probably isn’t what we think it is.  I look forward to the day when all human vices are relabeled “mental illness.”  Then we can clear the decks and start over with the real question: Which behaviors can be changed through incentives and which cannot?  It’s all about economics.

PS. In comments Woupiestek provided the following:

You post reminds me of “drapetomania”:

Learn this from the British quiz QI. It comes up after 3 minutes in this fragment:

And around 7 minutes they start replicating this post.  Truth is stranger than fiction.  And why can’t America have TV shows like that?

Update: ChrisA points out that Bryan Caplan did discuss the John Nash case.

It’s life, and life only

Each Sunday I like to do non-economic posts.  Those coming here for monetary analysis will probably want to skip these.

I will be participating in a seminar on “the good life” this fall.  And that got me thinking about what it means to think about the good life.  And the more I thought, the more convinced I became that the human mind is not capable of thinking about life in its entirety.  It’s too big.  Everything we’ve done or thought or read since day one is a part of life.  Life is everything.  Perhaps it’s one of those topics like consciousness, or why is there something and not nothing.  We are too close to it, and can’t see it from any “perspective.”  Life?  Compared to what?

You might be thinking “but surely some lives are better than others, and we can talk about the reasons why.”  Yes, but in that case I don’t think we are talking about life, but rather specific aspects of life.   We can talk about the best way to change one’s oil.  Nick Rowe can give us advice on that.  We can talk about what sort of world music to listen to.  Tyler Cowen can give us advice.  We can talk about how to raise children, and Bryan Caplan can give us advice.  We can discuss which flavors of Ben and Jerry’s ice cream to buy.  Or when to break a promise that you’ve made to a friend.  Or when a country should re-neg on a gold clause (which turns out to be very similar to the discussion of when should you break a promise to a friend.)  But an expert on “life?”  Don’t make me laugh.

Because life is such a big topic, I think people make the mistake of trying to reduce “the good life” to a few parameters.  People will say “It’s all about family and friends.”   “It’s all about being yourself” (including Jeffrey Dahmer?)  “It’s all about finding inner peace.”  No, inner peace won’t help me figure out how to change my oil.

In On Murder Considered as One of the Fine Arts, Thomas DeQuincey wrote:

A golden mean is certainly what every man should aim at. But it is easier talking than doing; and, my infirmity being notoriously too much milkiness of heart, I find it difficult to maintain that steady equatorial line between the two poles of too much murder on the one hand and too little on the other.

That’s going a bit too far for even me.  But I wonder whether most discussions of the good life make the opposite mistake–by denying the complexity of life.  Would we be better off in a world without vice?  It’s hard to say.  That would presumably mean a world without the works of Shakespeare.  On the other hand I am reluctant to encourage vice, and once again DeQuincey gives a good reason:

For, if once a man indulges himself in murder, very soon he comes to think little of robbing, and from robbing he comes next to drinking and Sabbath-breaking, and from that to incivility and procrastination. Once begin upon this downward path, you never know where you are to stop.

2.  My mind has a mind of its own

When considering how to live a good life, I constantly run into two problems.  The first is deciding whether I am currently living a good life.  For instance; am I happy?  Am I moral?  That’s hard to say.  Some days I think I’ve had a good life, and other days I look back on my life as almost unrelenting misery.  How can I trust either perception?  Even worse, these perceptions are highly correlated with meteorological conditions.  On sunny days, it seems like I’ve lived a good life, on cold drizzly days it seems miserable–I can hardly remember having any enjoyment at all.  (I plan to retire in LA.)

And how can I trust my decisions?  As I look back on life I wonder why I did certain things that now seem like a monumental waste of time.  Around 1981-83 I spent hundreds of hours reading Bill James, and then pouring over obscure baseball statistics.  What was that all about?  I have no idea.  I imagine on my death bed I’ll suddenly recall that I “forgot” to read Shakespeare’s sonnets, or listen to Beethoven’s late string quartets.  And then I’ll think back to Bill James.  Should I trust the mind that instinctively leads me toward certain activities at certain ages, or the mind that tells me that something’s a waste of time?  I suppose I should use Freudian terminology here–but that’s another book I “forgot” to read.

I think many of us see the good life in terms of setting goals and going for it.  But another recent book I read casts doubt on that straightforward American credo.  Robert Walser wrote a series of essays/stories on tiny pieces of paper, while in a Swiss mental asylum for the last 20 years of his life.  They are very short, mere fragments.  One story is called The Demanding Fellow.  It begins with a solitary man, who enjoyed consuming sights and sounds:

Splendid was the way, for example, that interesting building which had played a role in history were mirrored in the still,color-suffused water of remote canals.  This, as well as other things, struck him as lovely and charming enough to devour.

Then he met the woman of his dreams:

He idolized her, bedecked her with precious robes and bejeweled her hands with ornaments, obeying his own demanding nature, which to be sure was a form of egotism, something like an unchristian act.  In any case he was standing, as he found he had cause to confess, upon the pinnacle of the fulfillment of his desire.  And yet for this individual who constantly longed for something out of the ordinary, the happiness he achieved was a sort of calamity, such that he gradually came to regret finding himself so abundantly satisfied.

All his longing, how he longed for it again.

It’s always seemed to me that happiness is the expectation of future happiness.  Thus:

Ut = Et (Ut+1) = Et(stuff, leisure, love, fame, etc, in period t+1)

But Ut is not equal to (stuff, leisure, love, fame, etc, in period t)

Does this mean that to be happy we must continually fool ourselves?  Or do I belong in an insane asylum with Robert Walser.  I’d be interested in your thoughts on either question.

PS.  Off topic, but I’m barely old enough to remember what pop culture was like in 1964.  Recently I listened to a Bob Dylan concert CD from that year, where he played the song that I got this post’s title from.  I can’t even imagine the reaction of a 1964 audience to this (and Gates of Eden.)  I’m guessing it would have been like my reaction to seeing 2001 as a 12 year old.  Dylan’s real breakthrough wasn’t going electric, it was the acoustic side of Tyler Cowen’s favorite Dylan album.

Here’s some more lyrics from that CD:

Yes, to dance beneath the diamond sky with one hand waving free
Silhouetted by the sea, circled by the circus sands
With all memory and fate driven deep beneath the waves
Let me forget about today until tomorrow.

If only.

The Good Life: A bleg

This fall I will participate in a seminar on “The Good Life.”   We are reading lots of original works, looking at the issue from various perspectives.  I mentioned the role of technology in making life better, more specifically those technologies that tamper with the mind.  We’ll read A Clockwork Orange, but I thought it would also be interesting to consider something with the opposite point of view.  Something more Hansonian.  Any suggestions would be greatly appreciated–fiction or nonfiction.

Update: I didn’t explain this at all well.  I am not looking for books on the good life.  We already have a complete reading list, going back to Genesis.  My assignment is to find a reading that argues in favor of tampering with human nature (via technology) in order to make life better.  I believe that one of the reasons why  Anthony Burgess wrote A Clockwork Orange was to warn against that sort of thing.  So I was looking for an alternative view.

Speaking of the good life, I’ve always thought that if I could have been anyone else, it would have been Patrick Leigh Fermor, who wrote some wonderful travel books about central Europe, Greece, and the Caribbean.  Let’s face it, the average man wishes he was James Bond.  Fermor was a sort of thinking man’s James Bond.  Here’s the obit from The Economist:

Critics of his two best-loved books, “A Time of Gifts” (1977) and “Between the Woods and the Water” (1986), complained that he swanned through 1930s Europe without noticing the clouds. His visit to the Munich Hofbräuhaus mostly described the enormous girth and appetite of ordinary Bavarians, barely mentioning the black-clad SS men in another room. An encounter with orthodox Jews in Transylvania focused on a reading, which thrilled him, of the Song of Miriam in Hebrew. Though both books were written decades after the event, he added no politics to them. Culture, beauty, romance and laughter were what he saw and cared for.

That’s precisely what I liked about the books–they presented Europe as it would have been perceived by an adventurous and erudite young man, who knew nothing about what would occur after 1933.  And yet he certainly didn’t shirk his duty:

By the same token, he never wrote about his wartime experience as a liaison officer with the partisan guerrillas in Crete””except to mention the swagger-black boots and mulberry sash of his disguise, and the evenings of drinking raki and cracking walnuts outside their mountain hideouts. He earned his DSO for crazily kidnapping a German general; but the moment he remembered was when that general, one dawn of his captivity, suddenly quoted a line of Horace, Vides ut alta stet nive candidum/Soracte; and Captain Leigh Fermor, aka Michali, finished the next five stanzas for him.

There are many dangerous and unpleasant things that must be done so that a few lucky souls can live the good life.  Fermor did those dangerous things, and also lived the good life:

He refused a knighthood almost to the end, pointing out that he had written only a slow handful of books. This was true. He had become famous largely for chronicling a Europe that had been swept away, and had spent a charmed life without a regular job, fed””as he liked to put it””like Elijah, by the ravens. But he had done more. His wandering, writing life evoked the essential unity of Europe, the cultural and linguistic intertwinings and layer upon layer of shared history; and all with a lightness, and an infectious joy, that inspired many others to set out in the same way.

He died at the age of 96.

[Normal people may want to skip the silliness that concludes this post.  To make up for it, next week I promise an outpouring  of near Yglesian proportions.  Maybe 30 posts. ]

Actually, it makes no sense to say I wish I could have been Paddy Fermor.  If I had lived his life, I would have been him, not I.  But he did live his life–so in that sense my wish was granted.  The problem is that I also had to live mine.  If you have no idea of what I’m talking about, I don’t blame you.  When one denies the existence of personal identity, reality becomes a very strange place.  Here’s a wonderful quotation by Borges that explains why “I” don’t exist:

The self does not exist.  Schopenhauer, who often appears to adhere to this opinion, at other times tacitly denies it, I know not whether deliberately or because he is compelled to by the rough, homespun metaphysics–or rather ametaphysics that lurks in the very origin of language.  Nevertheless, despite this disparity, there is a passage in his work that illuminates the alternative like a sudden blast of flame.  I shall transcribe it:

“An infinite time has run its course before my birth; what was I throughout all that time?  Metaphysically the answer might perhaps be: I was always I; that is; all who during that time said I, were in fact I.”

Reality has no need for other realities to bolster it.  There are no divinities hidden in the trees, nor any elusive thing-in-itself behind appearances, nor a mythological self that orders our actions.  Life is truthful appearance.  The sense do not deceive, it is the mind that deceives, said Goethe, in a maxim that we could compare to this line by Macedonio Fernandez:

“La realidad trabaja en abierto misterio.” [Reality works in overt mystery.]

There is no whole self.  Grimm, in an excellent presentation of Buddhism (Die Lehre des Buddha, Munich, 1917), describes the process of elimination whereby the Indians arrived at this certainty.  Here is their millennially effective precept:  “Those things of which I can perceive the beginnings and the end are not my self.”  This rule is correct and needs only to be exemplified in order to persuade us of its virtue.  I, for example, am not the visual reality that my eyes encompass, for if I were, darkness would kill me and nothing would remain in me to desire the spectacle of the world, or even to forget it.  Nor am I the audible world that I hear, for in that case silence would erase me and I would pass from sound to sound without memory of the previous one.  Subsequent identical lines of argument can be directed toward the sense of smell, taste, and touch, proving not only that I am not the world of appearances–a thing generally known and undisputed–but that the apperceptions that indicate that world are not my self either.  That is, I am not my own activity of seeing, hearing, smelling, tasting, touching.  Nor am I my body, which is a phenomenon among others.  Up to this point the argument is banal.  Its distinction lies in its application to spiritual matters.  Are desire, thought, happiness, and distress my true self?  The answer, in accordance with the precept, is clearly in the negative, since those conditions expire without annulling me with them.  Consciousness–the final holdout where we might track down the self–also proves unqualified.  Once the emotions, the extraneous perceptions and even ever-shifting thought are dismissed, consciousness is a barren thing, without any appearance reflected in it to make it exist.

Grimm observes that this rambling dialectical inquiry yields a result that coincides with Schopenauer’s opinion that the self is a point whose immobility is useful for discerning, by contrast, the heavy-laden flight of time.  This opinion translates the self into a mere logical imperative, without qualities of its own or distinctions from individual to individual.

Let there be happy mental states on July 4th!!

PS.   I don’t know how Robin Hanson feels about Borges’ argument, but Hanson seems headed in the same direction.

Causality is socially constructed

I’m no philosopher or physicist, but if I’m not mistaken the best minds in those fields haven’t yet decided precisely what the term “causality” actually means.  If I am wrong, please correct me in the comment section.  I’d like you to consider two scenarios, and in each case think about what would have caused the recession:

Scenario 1:  A financial crisis leads to a 10% increase in the demand for base money.  The Fed either refuses to increase the monetary base, or else allows some increase, but ties up the extra base money with an interest on reserves program.  The Fed’s passivity does not cause higher nominal interest rates (although real rates may rise) because the financial crisis leads to a lower Wicksellian equilibrium interest rate.  (The Wicksellian equilibrium rate is the interest rate consistent with macro stability.)   Because the Fed did not accommodate the increase in demand for base money, AD falls and we go into a normal recession.

Scenario 2:  A huge upsurge in drug gang activity in Mexico leads to a 10% increase in the real demand for US currency.  The Fed fails to accommodate this increase in currency demand.  Because the drug activity did not affect the Wicksellian equilibrium rate in the US, the Fed’s passivity in the face of higher currency demand leads to higher nominal rates.  Because the Fed did not accommodate the increase in demand for base money, AD falls and we go into a normal recession.

Note that both scenarios have identical final sentences.  To me, it is obvious that both recessions have the exact same cause, an increase in the demand for base money that was not accommodated by the Fed.  But I may be the only person on the planet that looks at things this way.  Here’s what I think most people would say:

Scenario 1:  A financial crisis led to a drop in AD, which caused a recession, despite low interest rates.

Scenario 2:  The Fed raised interest rates for no apparent reason, and tipped the economy into a recession.

Note that in scenario 2, there is no mention of drug gangs, even though during normal times they might well hold a larger share of the monetary base than banks.  (It’s estimated that prior to 2008, currency holdings in the underground economy were 5 to 10 times larger than total bank holdings of base money.)  We have no idea of who is holding all this illicit cash, or even if it is in the US.  Then why doesn’t it have a big impact on monetary policy?  The answer has to do with interest rate targeting.  One of the few good things about interest rate targeting is that it leads central banks to automatically accommodate shifts in currency demand due to shocks that don’t affect the Wicksellian equilibrium rate of interest.

A financial crisis is different.  It will also lead to more demand for base money, but will simultaneously reduce the Wicksellian equilibrium rate of interest.  If, as in April to October 2008, the Fed remains passive in the face of this sort of crisis and leaves interest rates unchanged, it will have effectively tightened monetary policy.

How a person interprets causality depends on how they think about plausible policy options.  Most people instinctively feel the Fed should accommodate changes in currency demand due to Mexican drug wars.  Indeed they implicitly think this even if they have never consciously thought about the issue.  If the Fed suddenly let rates rise sharply during a period of Mexican hoarding of US dollars, all sorts of people would be complaining that the Fed was “causing” tight money, as well as any of the macroeconomic effects of tight money.  This is because people think of monetary policy in terms of interest rates.  In one case the Fed appears to be “doing something,” in the other it appears to be doing nothing.

If you look at policy from a narrow monetarist perspective, where the monetary base is your policy indicator, then you won’t see a shock in either case.  Both will look like drops in base velocity.  (A sophisticated monetarist who looked at the broader indices would notice tight money in the Mexican hoarding case.  The other case is unclear.)

If, like me, you favor targeting the forecast of the price level or NGDP, then both recessions would appear to have the same cause—a tight money policy by the Fed.

There may be some sort of rigorous philosophical definition of causality in philosophy or physics.  If so, I’d very much like to see it, so we can quickly clear up this post-modern mess.  Until then, we’ll all be talking past each other.  Get used to it.

8 unanswerable questions

1   Is the EMH true?

2.  Free will or determinism?

3.  Poor countries; is it bad policies or bad culture?

4.  Do we know the Truth about reality, or do we merely regard things as true?

5.  Would economic problem X have been prevented by better regulation?

6.  Are murder, rape and slavery objectively evil, or do we regard them as evil?

7.  Can improved foreign aid significantly affect long run economic growth?

8.  The universe’s deepest structure:  pure mathematics, or  . . .  turtles all the way down?

Here’s my theory.  These questions are not about the nature of our universe, they are about the nature of our minds, our temperaments.  They reflect that fact that different people think about things in different ways.  On one side are the sort of world-weary fatalists.  On the other are the optimistic Americans with the can-do spirit.  The guys that want their hands on the steering wheel, and don’t want to be in the passenger seat.  I’m happier in the passenger seat (unless my wife is driving.)

I recall a quotation by William Easterly to the effect that the economic crisis was a point in favor of modern economics.  After all, the EMH says we can’t predict financial crises, and we didn’t.  It didn’t go over well.

I wasn’t surprised that Easterly and I would share this view, although logically there is no relationship between his views on the EMH, and on the efficacy of foreign aid.  But I would be very surprised if an American with that can-do spirit (say Jeffrey Sachs) had the same attitude.  My hunch is that people with a “can-do”  frame of mind are more likely to all line up on the optimistic side of these 4 economics and 4 philosophical questions (actually 3, the last was a joke.)

Given my views on the EMH, can you guess my views on free will and determinism?  Hint:  I’ll present both sides:

Determinism:  All scientific theory suggests that at the macro level, events are caused by the laws of science interacting with the pre-existing states of the universe.  This allows no role for free will.  At the micro level some events seem to be random, but those also don’t seem to involve free will.

Free Will:  Come on!  If there is a salt and pepper shaker in front of me, obviously I can choose to pick up the salt shaker, or I can choose to pick up the pepper shaker.

Compare that with two views of the EMH:

Pro-EMH:  Economic theory suggests that if asset prices had obviously moved away from their equilibrium position, investors would take advantage of the situation by going long in undervalued markets and short in overvalued markets.  This would eliminate any obvious mis-pricing.

Anti-EMH:  Come on:  If house prices are far too high relative to income, or stock P/E s are way too high, then you obviously have a bubble.

Robin Hanson wants some sort of test to see if there is a magic formula that can beat the market.  But in my “alchemist” post I argued that such a formula would be worth billions of dollars if held privately, but the value of the formula would fall to zero if published in a scientific journal, just as would the formulas for turning lead into gold—and yes, alchemists do know how, but they are not so stupid as to publicize the formula. :)   So we will never see Robin’s proposal enacted in a way that is acceptable to all sides.  If something seems to work initially, arbitragers will quickly eliminate any easy profits, and the EMH guys like me will say the initial success was just luck.  It’s not about tests, it’s about how you think about reality.  It is about whether you see yourself as a passive observer of reality, or an active agent of change that can “just do it.”

BTW, these views are not necessarily reflected in the way that people behave, but rather how they think about things.  Everyone behaves as if free will exists, regardless of their philosophical orientation.  And I like the term ‘orientation’ better than beliefs, as these varying outlooks are analogous to one’s sexual orientation.

Part 2:  Did government cause the crisis?

Vernon Smith says yes:

And we got into the business of, particularly at the federal level, the Community Reinvestment Act in the 1990s became a means by which the federal government enabled, wished to enable people of modest means to buy a home and so as a result that act created scoring system for private lenders whereby if they got good scores by aggressively, more aggressively making loans to people whose incomes were below 80% of the median those scores helped them, gave them, enabled them to more easily get approval for making expansions in regional banks and these scores were used in helping to decide whether to approve mergers, this sort of thing.  Various devices were used to encourage private lenders to more aggressively make loans on homes to be purchased by people of modest income and what we got from that was a particularly strong demand for homes at the low end of the pricing tier.

Whereas Tyler Cowen and Paul Krugman say no:

This is actually a very broad problem with all accounts of the crisis that try to exonerate the private sector and place the blame on the government and/or the Fed: none of the proposed evil deeds of policy makers were remotely large enough to cause problems of this magnitude unless markets vastly overreacted. That is, you have to start by assuming wildly dysfunctional financial markets before you can blame the government for the crisis; and if markets are that dysfunctional, who needs the government to create a mess?

BTW, this is a Krugman quotation, which Cowen calls “excellent.”

I am inclined to agree with both quotations, at least partially.  I should clarify that Vernon Smith did not explicitly blame the government, I just assumed most people would infer that from his remarks (very similar to my commenter Patrick.)

Here’s my take.  The government thought it a good idea to encourage banks and also F&F to make more loans to lower income people.  And the government thought this would not lead to a financial crisis that devastated banking. Private banks were partly encouraged by the government, but mostly simply decided that they could make money on lots of sub-prime lending.  And they also thought these actions would not devastate the financial system.  Indeed, you’d really have to have strong ideological blinders to argue against either of these assertions.

If I am right then society simply made a big mistake.  But most people aren’t satisfied with that answer.  We want villains, and we want policy implications.  I’m not much interested in looking for villains in either the public or private sector (excluding my Congressman of course) but I am interested in policy implications.  So if we roll back the clock, what do we do if both the government and the private sector are suffering from the sort of mass delusions that used to affect medieval villages that had a crop of bad mushrooms?  Obviously there is nothing we could do to directly address the bubble, unless you bring in a deus ex machina solution.  If Republicans and Democrats and bankers all missed it, and all wanted to shovel more money to borrowers with no income and no down-payment, then we are stuck.

But maybe there are alternative economic systems that could make those episodes of mass hysteria do less harm.  If you are a Democrat, perhaps the way to encourage more home ownership (a goal I don’t share, BTW) is to give tax credits to first time low income home buyers.  This doesn’t put our financial system at as much risk.  If you are a Republican you might want to abolish F&F, other countries get by fine without them.  If you are a libertarian you might want to abolish FDIC and TBTF.

Vernon Smith tends to favor free markets, but worries about the fragility of the banking system.  I think it is much less fragile than he thinks, because he wrongly attributes the problems of the 1930s to bad banking, whereas they were actually caused by the Fed letting NGDP fall in half.  Banks were actually far more conservatively run in the 1920s than the 2000s.  But he’s not a macro-historian, so his view is understandable.  Let’s say he is right that the system is inherently unstable, and also assume we are stuck with FDIC and TBTF. What then?  Smith gives what seems to me to be the only plausible answer:

And so what is important is really to avoid these kind of crisis situations in the first place and because they’re so difficult to deal with once we get into them because if nothing else the politics of these situations will drive policy and the politics is not necessarily good long term economic policy and of course the way to have avoided this kind of a problem in the first place was to have better collateralization of the kinds of loans that we’re being made in the housing market and generally in consumer credit markets.  It’s not only the housing market, but it’s also credit card debt, student loan debt, automobile loans, all of those credit markets, which ended up being the kinds of private credit instruments that the Federal Reserve found itself necessary to make loans on in 2008.

.   .   .

Born is seen now as something of a hero because she wanted to reexamine the question of the exempt status of those instruments and I think actually a fairly simple regulatory change for those derivatives is all that is called for and that is simply require them, derivatives to be listed on exchanges.  If you did that the exchanges then would require them to be collateralized and that is to me the main problem in the derivatives market, particularly that was true in the housing mortgage derivatives market because those are essentially markets where people are making bets on whether a certain class of mortgage backed securities are going to suffer default and the providers of that, the seller of those contracts. You see that’s a form of insurance in the sense the person who buys those contracts sees that as a way of hedging their risk of default, but it’s not insurance if the sellers of those contracts are not required to collateralize the contract and generally those contracts were not required to be collateralized.  This is basically how AIG go into trouble.

.   .   .

So to me it’s what is needed here is not some kind of heavy handed regulation, but simply an application of principles that we’ve already learned a lot about in other markets.

Collateral, collateral, and more collateral.  That’s the only practical answer.

Krugman seems to think it is realistic to expect regulators to spot bubbles in real time, and then do something about them.  Smith is more skeptical:

Question: What is the proper role of regulation in these markets?

Vernon Smith:  I don’t think there is anything you can do to prevent bubbles.  I think we’ve had frequent stock market bubbles that have self corrected and the burden of those bubbles and the pain is basically borne by the investors in those markets and you do not have collateral damage to the economy from bubbles in stock markets like you have in bubbles with housing and generally with consumer durables and I think the solution in the housing and the consumer durables markets is the same as the solution that we’ve worked out institutionally in stock markets and that is require these purchases to be reserved, collateralized.  

We can’t stop the winds from blowing.  Let’s build a financial system that can survive strong winds, not one that collapses in a light breeze.

Then let’s build a monetary policy that stabilizes NGDP growth.  Arnold Kling seems to think there is something inexplicable about the severity of this recession.  I don’t quite understand his puzzlement.  Standard macro theory (as illustrated in the AS/AD graph in the new Cowen/Tabarrok textbook) says that if NGDP suddenly grows 8% below trend then there will be a sharp drop in RGDP.  The severity of the drop is exactly what one would expect in a world of sticky wages (sticky relative to the fall in NGDP, not relative to the also sticky prices.)  The only interesting question is why did NGDP suddenly start growing 8% below trend.  That’s what this blog is mostly all about, but I’ve already gone on way too long.

PS.  Kling also makes this cryptic comment:

 The Keynesian story at least has some microfoundations. Scott Sumner’s Y = expected MV/P story is just hand-waving.

I recall discussing expected NGDP, but never expected MV/P.  [Edit, Bill Woolsey pointed out that I originally had a typo here, and Kling might have as well.]   And I use changes in expected future NGDP to explain changes in current NGDP, as do all the modern new Keynesians as far as I can tell.  So I am not quite sure how to respond to Kling.  I suppose my microfoundations are a bit more sticky-wage and a bit less sticky-price than those of the average Keynesian, but you can get a severe recession under either assumption if NGDP falls.

In fairness to Kling, while the severity of the recession is easily explicable, I expect the recovery to be slower than predicted by natural rate models due to a 40% jump in the minimum wage, 73 week extended unemployment benefits, and other supply-side problems created by Congress.

PPS.  Sorry Philo, I just can’t stay away from pop philosophy.

PPPS.  The Vernon Smith interview is very good.  Despite the occasional stumbles in macro, at least he intuits that we’d be better off if the price level were currently 6% higher.  (Actually we need NGDP to be 6% higher right now, but close enough.)