Archive for June 2018


Natural experiments: Can we handle the truth?

Natural experiments are being conducted all the time.  And yet I often feel like people really don’t care about the outcome of these experiments.

Let’s consider 5 popular hypotheses:

1.  The mortgage interest deduction has a major impact on the housing market.

2.  The NASDAQ was obviously wildly overvalued in 2000.

3.  Switzerland was forced to revalue its currency in January 2015.

4.  The US housing market was obviously wildly overvalued in 2006.

5.  Brexit would cause a recession in the UK economy.

In my view, natural experiments have strongly suggested that all 5 of these hypotheses are false.  And these are not trivial unimportant hypotheses, they were widely held views about some really important issues.

1. The tax bill that passed last year sharply cut back on the mortgage interest deduction.  Before that happened I read about 1000 articles warning that if we took away this deduction it would severely hurt the housing market.  We didn’t completely eliminate the deduction, but it’s more than half gone.  And yet housing continues to boom.  I have yet to see a single news article discussing this important natural experiment.

2.  The Nasdaq is now far higher than in 2000.  Of course it could be wildly overvalued today.  Unlike in 2000, however, there is no widely held view that it is wildly overvalued today.  That’s a problem for the hypothesis that it was wildly overvalued in 2000.  If true, why don’t people feel that way about the current stock market?  And you can’t point to changing economic circumstances, such as lower nominal interest rates, as those factors are linked to other changing economic circumstances, such as an unexpected slowdown in trend NGDP growth.  I.e. where would Nasdaq be today if NGDP had grown during 2000-18 as rapidly as people expected back in 2000?  Maybe 10,000?

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3.  Tyler Cowen correctly noted that Denmark would provide a good test of whether Switzerland was forced to revalue in January 2015.  We now know that Denmark was not forced to revalue.  Even worse, evidence suggests that the Swiss revaluation did not have the intended impact on the SNB balance sheet, which kept growing. That was claimed as the reason the Swiss needed to revalue.  And yet despite this natural experiment, experts continue to claim that the Swiss were forced to devalue, as in this recent podcast. It seems obvious to me that the Swiss simply made a mistake—are there any good counterarguments?

4.  There are two powerful pieces of evidence against the claim that the US housing market was overvalued.  First, many who made that claim also said the same thing about housing markets in Canada, Australia, the UK, and other countries.  And yet many of those other countries did not crash.  Even worse, America’s housing market has mostly recovered, and yet I see almost no one currently saying “America’s in a huge housing bubble, and when it crashes we’ll have another Great Recession”.  So why continue to claim the 2008 recession was caused by a housing bubble that no longer even looks like a bubble at all?  (And don’t point to housing construction; that’s shifting the goalposts.  In 2008, everyone pointed to the historically high level of house prices in 2006; housing construction never reached unusual levels during the boom.)

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5.  This one hasn’t been entirely ignored, as the Brexit supporters pointed to a strong economy after the June 2016 vote.  The Financial Times claims that Brexit is now slowing British growth:

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In my view it’s too soon to claim that Brexit is slowing growth.  I expect it will, but the graph the FT presents does not look statistically significant to me.

Ditto on the recent corporate tax cut—it’s too soon.  Both supply-siders and Keynesians expected a short term boost to growth, for different reasons.  Only the supply-siders predicted a longer term boost.  My own view was somewhere in between.  I expect some sort of long run supply-side boost, but much less that the Larry Kudlows of the world expect.  I see perhaps an extra 2% in RGDP growth spread out many years, with most of the boost coming soon after the tax cut.  Supply-siders see the growth rate rising to a new trend of roughly 3%/year, which seems unlikely to me.  If growth is still running at 3% in late 2019, then I clearly will have underestimated its impact.  I hope I did.

I’ve done a number of previous posts on this general topic, discussing earlier experiments such as the 2013 fiscal austerity, and the 2014 elimination of extended unemployment benefits.  Those who suggested that these would be good natural experiments often ignored the results when they didn’t go as expected.  (GDP growth accelerated in 2013, and job growth accelerated in 2014.)

Many pundits can’t handle the truth, unless it confirms their prior beliefs.

Nationalism vs. cultural appropriation

Ian Buruma has a new book out about his experience in Japan during the 1970s—a sort of bildungsroman.  He begins with a quote from the great Simon Leys:

Cultural initiation entails metamorphosis, and we cannot learn any foreign values if we do not accept the risk of being transformed by what we learn.

Imagine for a moment a couple of Americans who spend a year in Korea, but in very different ways.  One is in the military, and spends almost all his time on the base.  He can’t stand the smell of kimchi, and is rather contemptuous of Korean culture in general.  He talks too loud.  The other spends a year at a Korean university.  She becomes a big fan of Korean culture.  She starts cooking Korean food, dressing in Korean fashion, and adopting Korean hair styles.  She learns the language, and learns how to write in Korean.  Let’s say she’s a Chinese-American, so she can blend in a bit more easily once she becomes fluent in the Korean language and culture.

When I was young the first guy was viewed by people on the left as “the ugly American.”  The woman was viewed much more favorably.

Today?  I really don’t know what’s going on in the world.  Is the woman engaged in cultural appropriation?  Is the view that we Americans should stick to good old American culture a Trumpian right wing idea, or is it the new left?

Is the view that Asian-Americans have the wrong personality a Steve Bannon idea, or is it a Harvard idea?

Is the view that people in Hollywood should be blacklisted for holding abhorrent political views a right wing idea from the 1950s, or a left-wing idea from the 2010s.

Is the view that flashy pimps accused of multiple rapes make great elected officials a theme of gangster rap, or the view of today’s Christian fundamentalist voters?

I’m confused.  Can someone help me out here?

Trade shocks and demand shocks

Paul Krugman has an excellent piece on the potential effects of an all out trade war.  Likely Krugman, I think it unlikely that we actually go that far.  My view is that before that happened, Trump would become frightened by a sharp fall in stocks and negotiate some sort of face saving deal where he could claim “victory”.  (But when thinking about the stock market as a warning device, beware of the “circularity problem”.  The stock market won’t warn Trump if it thinks he would heed their warning.)

Here I’d like to add one additional downside to a trade war, the way trade policy can (and has) interacted with monetary policy.  A trade war might be even worse than Krugman estimates, if it leads to tighter monetary policy and falling NGDP.

You might think that Krugman has already factored falling NGDP into his estimate that a trade war could reduce RGDP by 2 to 3 percent.  But unless I’m mistaken, he’s using a general equilibrium approach that abstracts from demand shocks.  In other words, Krugman is showing that even in a world where the central bank stabilizes AD, a trade war could reduce RGDP by 2 to 3 percent by making the economy less efficient.  But what if the central bank does not stabilize AD? In that case you might get an ordinary recession, piled on top of the adverse supply shock produced by a trade war.  A recession slows the process of worker re-allocation into non-tradable sectors.

I can see two possible channels by which a trade war could reduce aggregate demand:

1.  Imagine the central bank is targeting interest rates.  If a trade war occurs, it’s likely that investment demand would fall, reducing the global equilibrium (i.e. “natural”) rate of interest.  If the central bank does not reduce the policy rate as quickly as the natural rate is falling, that would lead to (effectively) tighter money and falling NGDP.  (Think of this as a channel that operates if I’m wrong about monetary offset, and the Keynesians are right.)

2.  Imagine the central bank is targeting inflation.  If inflation is kept at 2% while RGDP growth is falling, then NGDP growth will also slow.  (Here the problem can occur even if monetary offset is operative, as long as they target inflation, not NGDP.)

Keep in mind that slower NGDP growth is always a problem, even if there are other problems at the same time.  Careful readers might recall that this is exactly what went wrong in 2008.  The Fed adopted IOR to prevent its liquidity injections aimed at rescuing banking from spilling out into more aggregate demand, out of fear of inflation.  They thought the banking crisis was “the real problem” when in fact there were two real problems, banking distress and falling NGDP.  The falling NGDP led directly to higher unemployment, and also as a side effect made the other “real problem”, i.e. banking distress, even worse.

In my research on the Great Depression I found that the biggest problem caused by Smoot-Hawley was not that it reduced the efficiency of the US economy (the direct effects were modest), or even the retaliation from abroad.  Rather the biggest problem was that Smoot-Hawley led to lower aggregate demand.  This occurred either because of a fall in the Wicksellian equilibrium rate (very bad news under a gold standard), or because it reduced the likelihood of international monetary cooperation, or both.

BTW, this is no surprise:

Fears of a looming trade war between the U.S. and China are paradoxically helping to increase the value of the U.S. dollar in global currency markets, analysts say, potentially undercutting a Trump administration policy goal.

This is what happens when you have a president who hires crackpot economists who don’t even know that the current account deficit is a saving/investment issue, not an import/export issue.

HT:  Tyler Cowen

The RBA as firm and policymaker

Here is the Financial Times:

Australia has created 1m jobs over five years and its economy is growing at a healthy 3.1 per cent a year, but for workers the “lucky country” has lost some of its shine. Wages growth is stuck near record lows and household debt is among the highest in the developed world.

Average wages grew 2.1 per cent in the year to the end of March, below the 3.5 to 4 per cent levels that Australians enjoyed during a decade-long commodities boom that ended in 2013.

This is causing concern at the Reserve Bank of Australia, which has warned that weak household income growth and high debt posed a risk to the economy. “The crisis is really in wage growth,” Philip Lowe, the RBA governor, cautioned last year as he implored workers to demand higher wages to stimulate the economy.

A few comments:

1. Australia has now gone 27 years without a recession, despite wild swings in the markets for its key commodity exports (iron, coal, food, etc.)  So much for the theory that good monetary policy cannot smooth out the business cycle.  So much for the theory that housing bubbles cause economic instability.  So much for the theory that decade after decade of massive current account deficits are a problem. The naysayers have been telling me “you just wait” since I began blogging in early 2009.  I’m still waiting, and the Australian expansion keeps rolling along.

2.  The RBA is confused.  It is concerned about slow nominal wage growth, but it is the RBA itself that determines Aussie nominal wage growth.  If it wants wages to grow faster, then it should raise the Australian NGDP growth rate.

The consequences of low wage growth are not restricted to workers. Mr Lowe, RBA governor, has warned of a cascade effect whereby it contributes to weak inflation, which keeps interest rates at record low levels — a trend that pushes up asset valuations and social inequality.

Weak wage growth also damps spending by households and restricts income tax collection by the government, which is betting on a rapid recovery of wages growth to 3.25 per cent by 2019-20 to meet its pledge to return the budget to surplus.

Nope, low wage growth, low inflation, low interest rates and slow spending are all caused by slow NGDP growth, aka tight money.

It also poses a risk to industrial peace. Last month, Australia stopped printing money for the first time in 107 years due to a strike at Note Printing Australia, a wholly owned subsidiary of the RBA. Workers are demanding a pay rise of at least 3.5 per cent and have rejected an offer of 2 per cent.

“The RBA is lecturing businesses on the need to lift wages but is refusing to offer its own workers a decent raise,” said Tony Piccolo, regional secretary of the Australian Manufacturing Workers’ Union. “Governor Lowe needs to practice what he preaches.”

The RBA is both a firm and a policymaker.  The RBA as policymaker is confused as to why nominal wage growth is so slow.  The business side of the RBA is fully aware of why this is occurring. It’s “the market”, i.e. slow NGDP growth, which is holding down wage growth.

Cults are the norm

Trump is not a particularly interesting person.  The Trump cult, however, is very interesting.  I’ve been following American politics pretty closely since 1968, and I’ve never seen anything remotely like this.  (Although obviously this sort of political cult is common in other countries.)

What differentiates a cult from a normal religion?  It’s not really about the theology.  Cult beliefs may seem bizarre, but even ordinary religions hold beliefs that seem strange to an outsider.  Rather it’s about the behavior of the cult members, the blind adherence to the cult leader, the willingness to do or say or believe anything they are told.  Nothing less than 100% devotion is acceptable.

A congresswoman from Alabama named Martha Roby has been a strong supporter of Trump’s policies since he was elected in 2016.  And yet she faces a stiff primary challenge from a Trumpista candidate (and will face a runoff election).  Her sin was strongly criticizing Trump’s “grab them by the pussy” remark during the 2016 campaign.  In the Trump cult, there is simply no place for a conservative pro-life Christian woman who doesn’t believe that rich and powerful alpha males should be allowed sexually harass women.

In South Carolina, Mark Sanford’s sins were far worse.  He actually stood up for traditional GOP small government ideas, and was soundly rejected in a recent primary.  He seems confused by what’s happening:

“We’re at an interesting inflection point in American politics,” he said in an interview. “If somehow dissent from your own party becomes viewed as a bad thing, then we’re not really vetting and challenging ideas in the way the founding fathers intended.”

Broadening his argument, Mr. Sanford said America was meant to be “a nation of laws, not men” and that “we weren’t a cult of personality.”

Yes, “we weren’t”.  And this:

The stalled efforts to rein in a protectionist president have led to cries of frustration from Republican free traders bemused by what they see as a growing fealty in the party to Mr Trump at the cost of longstanding party ideals.  “We are in a strange place . . . It’s becoming a cultish thing, isn’t it?” Bob Corker, the Tennessee Republican behind the effort to impose congressional oversight on Mr Trump’s national security tariffs, told reporters after his measure failed.

There’s that word again.  Paul Ryan and a bunch of his colleagues (including Corker) saw the writing on the wall and decided to exit politics.

From an American perspective, this does all seem quite bewildering.  But remember, this is the norm throughout most of the world, throughout most of human history.  Cults are normal; classical liberalism and the enlightenment are unusual.  It’s the period before 2016 in advanced countries that is the outlier.

Trump’s cult is now so securely established that he is increasingly emboldened to push the envelope.  He can now joke about the fact that he lies all the time, without budging the unshakable conviction of his supporters

“Honestly, I think he’s going to do these things. I may be wrong; I mean, I may stand before you in six months and say, ‘Hey, I was wrong,’” he said during a press conference, adding, “I don’t know that I’ll ever admit that, but I’ll find some kind of an excuse.”

 [I fantasize about an episode of Fox News where Trump says “Let’s face it Sean, I lie all the time”, and Hannity replies “No you don’t, Mr. President”]

Interestingly, there was one Fox News contributor who did escape from the cult.  Ralph Peters is a war hero who was much loved by conservatives as long as his fire was directed at Obama.  But after resigning from Fox he sent this letter:

Four decades ago, I took an oath as a newly commissioned officer. I swore to “support and defend the Constitution,” and that oath did not expire when I took off my uniform. Today, I feel that Fox News is assaulting our constitutional order and the rule of law, while fostering corrosive and unjustified paranoia among viewers. Over my decade with Fox, I long was proud of the association. Now I am ashamed.

In my view, Fox has degenerated from providing a legitimate and much-needed outlet for conservative voices to a mere propaganda machine for a destructive and ethically ruinous administration. When prime-time hosts–who have never served our country in any capacity–dismiss facts and empirical reality to launch profoundly dishonest assaults on the FBI, the Justice Department, the courts, the intelligence community (in which I served) and, not least, a model public servant and genuine war hero such as Robert Mueller–all the while scaremongering with lurid warnings of “deep-state” machinations– I cannot be part of the same organization, even at a remove. To me, Fox News is now wittingly harming our system of government for profit.

As a Russia analyst for many years, it also has appalled me that hosts who made their reputations as super-patriots and who, justifiably, savaged President Obama for his duplicitous folly with Putin, now advance Putin’s agenda by making light of Russian penetration of our elections and the Trump campaign.

I would have expected conservative intellectuals to be immune to this sort of cult, but just the opposite is true.  Hardly a week goes by when I don’t receive an envelope from some conservative think tank saying something to the effect; “Please help us support our great President, who is being unfairly attacked by the biased liberal media.”  That’s funny, when I watch CNN or read the NYT I mostly see a media that is correctly pointing out that Trump is a pathological liar. (Obviously with an occasional inaccuracy.)

It would be interesting to do a google search of all the cases of “increasingly cult-like behavior” and then find the correlation with “ends well”.  I’d guess a Venn diagram of those two concepts does not show a lot of overlap, but heh, there’s always a first time.

PS.  I hope it’s clear that when I talk about the Trump cult, I’m not talking about Trump voters.  There are plenty of Trump voters who admit that Trump is a highly flawed individual, but hold their nose and vote for someone who will deliver corporate tax cuts and conservative Supreme Court members.  I’m talking about the people who believe that Republicans who are not blindly obedient to Trump must be excommunicated from the party.  Even many alt-right people are not in the Trump cult, as they actually care about certain issues.

PPS.  And please don’t engage in “whataboutism”.  I’m fully aware that even normal politics has some cult-like tendencies, just as even normal religions do.  Thus the GOP tends to kick out pro-choice people and the Dem’s kick out pro-life people.  That’s normal politics, as long as its based on issues.  As with almost everything of interest in the social sciences it’s a matter of degree.  What pushes the Trump cult into new territory is the almost cavalier disregard for Trump’s actual policy positions.  Tough on Iran, appeasement for North Korea, massive spending increases, tax cuts, and whatever else he decides on a given day—it doesn’t even matter to the Trump cult. All that matters is whether you are with Trump or against him.  Like any totally random individual, Trump will guess right on some issues and wrong on others.  If you think this is about the issues, you are completely missing the point.  As Sam Harris pointed out in a recent interview (see below) we shouldn’t support Trump in 2020 even if his first term ends with nothing but one brilliant success after another.

PPPS.  Speaking of Trump, I stumbled across a long interview with Sam Harris (by Dave Rubin), someone I’d heard a lot about but have not actually got around to reading.  I found it pretty interesting.  The first (least interesting) part involved Harris bashing the liberal media for excessive political correctness.  The second part involved Harris bashing Trump.  By that point I realized his views weren’t too far from mine; against excessive liberal PCism, against dishonesty among intellectuals, fed up with Twitter shaming, and strongly against Trump, although I also sensed that there are probably some areas where I would disagree. In the third part Harris discussed consciousness from a Buddhist perspective, which makes sense to me.  And in the fourth part he discussed atheism and his views on Jordan Peterson.  He mentioned that he will soon have several long conversations with Peterson (someone else I’ve heard a lot about but haven’t gotten around to reading) so I’ll have to try to catch that.  These two seem to have just the right amount of overlap and differences to make the conversation interesting.  Harris reminds me a bit of Peterson in the sense that both have a certain charisma in the way they speak, which you’d miss if you just read the transcript.