Looking at the world through politically-colored glasses

I will eventually get to monetary policy, if anyone can last through my wandering political observations.  I am going to try to show that some of my intellectual opponents are confusing the world as it is with the world as they want it to be.

1.  “I’d like to thank the Lord for leading my team to victory today.”

How many of you intellectuals have heard an athlete say something like that and said to yourself: “what a dumb jock, as if God cares which team wins.”  You’d never make that mistake, would you?  Well I am going to try to show that you (and I) would make exactly that mistake over and over again.

The athlete’s mistake (if it is a mistake) is to assume that the blind force that created the universe and the laws of nature, or the intelligent designer who created the universe, did so in a way to favor that particular athlete’s wishes.  I’m going to argue that most people think that way, that is, most people think the universe was created in such a way as to conform to their preferences, rather than those of the annoying blowhard in the office cubicle next door.  Consider the following:

1.  Scientific evidence strongly suggests that most environmental health scares relating to pesticides on food or asbestos in drinking water are vastly overblown.  There are entire Hollywood films based on environmental tragedies that never happened.

2.  Scientific evidence strongly suggests that humans evolved from apes.

3.  Scientific evidence strongly suggests that behavioral differences between men and women are partly innate.

4.  Scientific evidence strongly suggests that human CO2 emissions are making the climate warmer.

Just to head off any arguments, I have zero interest in debating whether these scientific views are correct.  Nor do I have any useful knowledge in these areas.  But here’s something I will strongly argue.  Whether someone believes these assertions usually has little to do with the objective evidence, and a lot to do with the way they wish the world was structured.  Thus conservatives are much more likely to believe 1 and 3, whereas liberals are much more likely to believe 2 and 4.  Yes, a few people are capable of “overcoming bias” to use Robin Hanson’s term, but not many, and I don’t know whether anyone can completely avoid this problem.

Politics makes people stupid in all sorts of ways, and the dumb jock problem is only the beginning.

2.  “You are wrong, and by the way you are also evil.”

Even brilliant people make this mistake all the time.  Here’s Krugman on those evil conservatives:

And the truth is that the Reaganauts were a pretty grotesque bunch too. Look for the golden age of conservative intellectualism in America, and you keep going back, and back, and back “” and eventually you run up against William Buckley in the 1950s declaring that blacks weren’t advanced enough to vote, and that Franco was the savior of Spanish civilization.

I have no idea whether he correctly characterized Buckley’s views, and have no interest in defending Buckley.  But Krugman isn’t really trying to show William F. Buckley was stupid (no one really believes that), he is trying to show that Buckley was evil.  And therefore that conservatism is morally bankrupt.  I do have a lot of problems with modern conservatism, but Krugman picked the worst argument he could have possibly used in his intellectual battle.  The long despicable history of mid-20th century liberals praising some of history’s most bloodthirsty tyrants is now very well documented.  Whole books have been written on the subject.  And all Krugman can come up with is Francisco Franco?  How could a brilliant guy like Krugman fall into to this trap?  Politics makes us stupid, including me.  We instinctively believe the worst about those with whom we disagree.

3.  Is it a profile or a vase?

Yes, there are some bland moderates who like to compromise and don’t stir strong passions.  Examples might be someone like Susan Collins of Maine or Evan Bayh of Indiana.  But most politicians are polarizing figures.  Take Hillary Clinton.  Strong supporter of the 2003 Iraq War.  Supporter of the Patriot Act.  Supporter of our nation’s war on drug-using Americans, which has imprisoned 500,000 innocent Americans, disproportionately African- Americans.  (If you’re a liberal, think Guantanamo times 1000.)  And I could go on and on.  Oh yes, and like Miss California she also opposes gay marriage.  Now consider the following from an interview of John Stossel in Reason:

reason: If you look at the positions you’ve taken over the years, there’s a lot for conservatives to dislike about you and a lot for liberals to love. You’ve spoken out against corporate welfare, against greedy peddlers of junk science and medicine ripping people off, in favor of legalizing drugs, gay rights, and free speech. Yet it seems almost always that you’re widely adored by conservatives and widely scorned by liberals. Why is that?

Stossel: I’m not sure, but you’re absolutely right. Somebody came up to me in New York and said, “Are you John Stossel?…I hope you die soon.” He was a legal aid lawyer. There is this real hatred on the left because I’m a consumer reporter defending business, and they just so hate business.

I don’t know. I mean, I’m prochoice. I was against the war in Iraq. I think homosexuality is just fine. I want drugs legal and prostitution legal. Yet conservatives invite me to their conferences and give me standing ovations. Sometimes. Not always, but they generally like what I have to say. I even mention some of that, and it shows how pathetic it is for conservatives in the mainstream media that I, a libertarian, am the closest thing that they have to invite to a conference.

You may have seen the profiles/vase optical illusion.  You see one or the other but not both.  The first time I heard Christopher Hitchens referred to as a “right winger” my jaw dropped.  It seems like people can only see these highly polarizing figures as liberal or conservative—and the profile can “flip” with just a change in views on a single issue.  It makes absolutely no sense that Hillary Clinton is loved by liberals and Stossel is hated (and vice versa.)  Yes, there are some economic regulation issues where he is more conservative.  But can anyone seriously suggest those issues are more important that the war in Iraq and the war on drug-using Americans?

Once people decide where to put someone in an “us and them” sense, the other side is demonized.  Do you regard tribal societies as “backward” if they view neighboring tribes as “bad guys?”  How is that different from intellectuals who view neighboring ideologues as evil?

Just so you don’t think I am excluding myself, I’ll give you a recent example.  I have always been annoyed by Hollywood types who idolize those martyrs blacklisted during the McCarthy era, as if losing a few screenwriting jobs was equivalent to the starvation of millions that resulted from the policies they supported.  So my initial reaction was glee when I heard that they were now trying to blacklist film industry people who had contributed money to the anti-gay marriage proposition in California.  What a bunch of phonies!  But that doesn’t make my initial gut reaction right, and Reason magazine knocked some, well, reason into my head:

Anti-communism was gravely damaged by the ’50s witch hunts, and the cause of gay marriage (which has been gaining acceptance in California since the much wider victory of another marriage-restrictive proposition in 2000) may suffer collateral damage from the Prop. 8 blacklist.

But those are strategic, not moral, concerns. A person agitating to use the power of the state to interfere with the domestic happiness of others (or, for that matter, an artist propagandizing on behalf of international worker solidarity) had better be willing to pay the price in lost work opportunities””and to face the people his opinions alienate. Blacklisters and blacklistees alike should be out and proud.

BTW, providing only the last bit does a disservice to the author, Tim Cavanaugh.  Read the whole article.  I doubt that I would ever blacklist someone for their political views, nor should the government do so.  But the article is persuasive.  And this tells me that I am not making good political judgments unless I sometimes adopt positions where every bone in my body says go the other way.  Which finally brings me to monetary policy.

I’d love for the universe to be constructed in such a way that a bowl of Ben and Jerry’s Chunky Monkey ice cream topped with fresh raspberries was healthy.  But it is not.  And I’d love for it to be true that big increases in the money supply inevitably cause inflation, but it is not true.  All my sympathy is with inflation hawks.  I have the same instincts as all the other Chicago/Austrian/supply-sider/Cato/Reason/libertarian people on the right who are skeptical of policies that debase the currency.  Milton Friedman is my favorite economist.  I think that inflation is caused by printing too much money.

In contrast, I am often annoyed when I read NYT columns by Paul Krugman.  So I would like nothing more than for him to be wrong in his prediction that we won’t have high inflation.  But wanting to believe something is not the same as having a good reason to believe it.  And the fact is that Krugman is right, and many of my fellow right-wingers are wrong, the danger is not too much inflation, but too little.

How do we avoid having political passions distort our judgment?  How about NGDP futures markets?  When money is at stake people tend to think much more clearly; or perhaps reveal their true beliefs.  Justin Wolfers and Robin Hanson have written extensively on this topic, and my colleague Aaron Jackson and I applied the idea to monetary policy futures markets.  I’ve noticed lots of people tell me they are really worried about inflation, and yet when I ask them what they have invested in they give me examples (like stocks) that do horribly during periods of high inflation, not inflation hedges like TIPS.  So do they really fear inflation?  Is your true belief what you say or how you act?  [Full disclosure: My investment strategy doesn’t always follow my pro-EMH views.]



30 Responses to “Looking at the world through politically-colored glasses”

  1. Gravatar of DWAnderson DWAnderson
    11. June 2009 at 13:52

    Per Robin Hanson, politics is not about policy. That seems to be true much more than I would have thought before reading his blog.

  2. Gravatar of Macroeconomics in politics Macroeconomics in politics
    11. June 2009 at 13:52

    […] Further reading: Looking at the world through politically-colored glasses […]

  3. Gravatar of Redland Jack Redland Jack
    11. June 2009 at 13:58

    I’d always assumed stocks were basically immune to inflation (since the stocks are valued in nominal dollars). A quick search indicates that my intuition was bad, though I’d have to research further to figure out why (and the abstract of a paper by David P. Ely and Kenneth J. Robinson indicated that stocks are a decent hedge against inflation).

    While big increases in the money supply wouldn’t inevitably lead to inflation (I can think of situations where this wouldn’t occur), it seems that, in the absence of concomitant productivity or population gains, it generally should.

    Although I agree that the 3 things you discuss are problems, I think that number 2 is probably the most harmful, in that it makes conversation almost impossible. If you think that the opposition is pernicious, instead of just ignorant, why would you ever want to engage them? Instead, you just lob (verbal) bombs, since they are scummy human beings, unworthy of interaction. (Even though I’m largely favorable to Ayn Rand, she used the ‘E’ word way too much).

  4. Gravatar of Bob Murphy Bob Murphy
    11. June 2009 at 14:14

    This was a neat post. I get what you’re saying about Krugman and hoping he’s wrong, in addition to whatever else the unfolding of history reveals.

  5. Gravatar of Greg Ransom Greg Ransom
    11. June 2009 at 19:35

    You are muddling things in an unhelpful way.

    You could be saying two or even three things at once here — but you don’t let us know.

    Is inflation not a danger because inflation would be good for us? Say so.

    Is inflation not a danger because inflation not happen? Say so.

    These are two very different claims.

    Which one are you making. Or are you making both?

    Who knows.

    “And I’d love for it to be true that big increases in the money supply inevitably cause inflation, but it is not true. All my sympathy is with inflation hawks. I have the same instincts as all the other Chicago/Austrian/supply-sider/Cato/Reason/libertarian people on the right who are skeptical of policies that debase the currency. Milton Friedman is my favorite economist. I think that inflation is caused by printing too much money.

    In contrast, I am often annoyed when I read NYT columns by Paul Krugman. So I would like nothing more than for him to be wrong in his prediction that we won’t have high inflation. But wanting to believe something is not the same as having a good reason to believe it. And the fact is that Krugman is right, and many of my fellow right-wingers are wrong, the danger is not too much inflation, but too little.”

  6. Gravatar of Greg Ransom Greg Ransom
    11. June 2009 at 19:36

    Make that: “Is inflation not a danger because inflation will not happen? Say so.”

  7. Gravatar of Greg Ransom Greg Ransom
    11. June 2009 at 19:50

    We should begin with the fact that most people don’t care what science says or what would be good science. They don’t care. This includes huge numbers of tenured professors.

    The problem isn’t so much that “politics” make people stupid. The problem is that most people don’t actual value science or truth, nor do they have any deep seated ethical commitment to the values of science. And they value all sorts of things more — like a paycheck, or feeling good about themselves, etc.

    So we don’t have to go all “Robin Hansen” to explain this phenomena — if we use Occam’s Razor and insist on the most simple explanation before searching out “clever” and complex explanations.

  8. Gravatar of hibida hibida
    12. June 2009 at 00:49

    Thanks for the not so regular post. I find myself thinking that you are “evil” sometimes just because I don’t agree with the arguments you are trying to make (I don’t know why I keep reading the blog of an “evil” person, so I guess I don’t really think you are evil.)

    As far as inflation goes, I do think I fall into the camp that believes things like:
    “I’d like to thank the Lord for leading my team to victory today.”
    Back in December, I liquidated my stock portfolio and invested 100% in gold and silver bullion. So I too, want Krugman to be wrong. But when I try justify my investment decisions to other people, I feel like my arguments are more religious in nature rather than based only on facts.

    thanks for the post.

  9. Gravatar of ssumner ssumner
    12. June 2009 at 04:14

    DW Anderson, Yes, I recall Robin saying something like that. I haven’t read his blog as much as I would like, but I imagine this post doesn’t contain anything of interest that Robin hasn’t already said.

    Redland Jack, if you scroll back about a month you will find a post entitled “10 reasons why I don’t fear inflation.” I should have linked to it.

    I am also puzzled about inflation and stocks. Inflation does raise the real tax rate on stocks, so that might be one problem. Interest on debt is tax deductible, but not dividends.

    Bob, Thanks.

    Greg, Yes, I should have been more specific.

    1. I assume high inflation is bad, and unlikely (based on TIPS spread.)

    2. TIPS spreads suggest that inflation will eventually return to about 2%, which is fine.

    3. TIPS spreads suggest inflation will be less than 2% in the short run, which hurts the economy because debt and wage contracts made in previous years assumed about 2% inflation, thus low inflation reduces employment and increases defaults.

    hibida, It’s very good that you read my blog despite the fact that I seem evil. I try to do the same with other blogs. ‘Evil’ is an interesting word. Most people assume that it is a human characteristic. I think it’s a label we apply to people who engage in behavior we don’t like, as a way of disgracing them. (Which is fine, BTW.) I don’t think scientists use the term much, as it seems to imply “free will,” which is another concept scientists don’t seem to have much use for.

  10. Gravatar of Alex Golubev Alex Golubev
    12. June 2009 at 06:43

    Great post!! exploring the unknown! I have no idea how to control my own biases. And i totally agree that what people say and what they do quite often are inconsistent with each other.
    Maybe biases aren’t so bad. There was a study that probably everyoen has heard of, where people got to flip over cards in multiple decks and had to pick which one had a better payoff (certain cards were wins and certain were losers of different magnitudes). It turns out that people figured out which deck was better and declared so after like 40-50 cards. BUT they were also hooked up to a machine that monitored their body responses and it turned out that the body started reacting negatively to the “bad” decks WAY before people actually declared which deck is worse (sorry i don’t remember the exact time… like 10-15 cards!). So my point is that – maybe your biases toward certain scientific studies are justified. I think we like to believe that we rationally make a decision first and only then act on it. Well, i’m sure most economists would agree. However, I think there’s a very good argument that we FEEL something is right FIRST and then try to rationalize it. “we’re not rational, we’re rationalizing”.
    So to really go on a tangent, think about the benefits of a two agent entity (marriage) with one party leaning toward logic/science and another toward feelings. One notices patters earlier and the other one codes them away. (we know which sex normally does what, but the roles can be reversed and it still works. dont’ go pc on me 🙂 different but equal ).

  11. Gravatar of Michael E. Sullivan Michael E. Sullivan
    12. June 2009 at 08:23

    To be fair to those invested in stocks, I’m not sure it’s wrong to be invested primarily in equities merely because you fear inflation.

    Stock fundamentals inflate with the overall economy (on average). Stocks do poorly during periods of *rising* inflation, because interest rates rise and debt becomes a better relative bet than in times of low rates, all else being equal, the ratio investors are willing to pay for a given income stream goes down.

    But if the inflation rise is not permanent, that ratio will rise when inflation comes back down, just as they did in the 80s and 90s.

    Given that we are in a period of very low inflation at the moment, and PE ratios are back to their historical average, it doesn’t seem crazy to think that stocks are significantly undervalued relative to what you’d expect given alternatives. Or at least, the market is anticipating a lot of risk of bankruptcy or massive earnings disappointments.

    One thing inflation will do, is significantly decrease the risk of bankruptcy, so the main depressor of stock prices would be mitigated by high inflation.

    Fixed rate contracts will be impacted even more by high inflation than stocks. The time to buy those is when inflation is already high, not when it is low and expected to rise.

    Tips are currently trading at such low interest rates that they will only beat stocks under inflation if stocks take a big earnings hit (very low or no NGDP growth even under inflation), or have their ratios get even lower despite better balance sheets (the primary concern depressing prices now).

    If TIPS were offering a robust real rate of 2-3%.

    The problem is essentially that no non-government entity is offering a TIP like investment, and all government investments are priced incredibly steeply relative to other public and private investments due to solvency concerns.

    So you can’t bet on inflation (by buying a tip) without also paying through the nose for risk reduction.

    So I can’t agree that people who won’t buy TIPS are not putting their money where their mouth is. At current valuations of TIPs and stocks, it’s not at all clear that TIPs will fare better under a typical high inflation scenario.

  12. Gravatar of ssumner ssumner
    12. June 2009 at 09:14

    Alex, I also saw that card study, and it is interesting. But I wonder if they checked reactions to decks that were in fact identical. Might people still get a “feeling” that one deck was different, if say 8 of the first 10 cards came up red? That’s my concern, do people see patterns where patterns don’t actually exist?

    Michael, Good points, and I can’t really disagree with anything you say, so let me half-way defend my argument. First, I interpret the high inflation fear as something like the 1970s, and I just don’t think current asset price movements are consistent with the view that I hear from people that we are headed back to double-digit inflation. I may have over simplified when I said stocks did poorly in the high inflation period. They did do much much worse than gold in the 1970s, but we don’t know that would be true the second time around. And they are claims to real assets so they should keep up with the price level to some extent. (The non-indexed tax system is what hurts them.) Investors might want to buy gold, and they move back into stocks after double digit inflation is reached, to try to ride the bull market toward lower inflation (as in the 1980s and 1990s.) I think you referred to that possibility as an option, but my point is that it would be too soon to get into stocks. (BTW, I don’t think this would work, but that’s because I don’t expect high inflation.)

    But I still think my basic point is right, the public as a whole has not set asset prices where they would be if inflation was widely expected. The most obvious example is TIPS spreads. Yes, real yeilds on TIPS aren’t great, but the spread with conventional bonds is pretty hard to explain if most people believe there is a widespread fear of inflation. And based on conversations I do feel that most people at least pay lip service to that fear.

    Nevertheless, I was too quick to call inflation worriers with stocks irrational, as you make some very good arguments.

  13. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    12. June 2009 at 10:34

    The reason stocks did so poorly in the inflationary 1970s is that the phenomenon was new and poorly understood initially. Once Franco Modigliani pointed out that stock analysts were making an error in discounting corporate profits for inflation, but not similarly discounting the real burden of corporate debt, that changed.

  14. Gravatar of Kailer Kailer
    12. June 2009 at 12:03

    I love the political posts. This one was really insightful. The idea that my political beliefs might be more instinctual than reasoned scares me. It’s my own damn fault. I enjoy reading reason, this blog, cafe Hayek, and any number of other libertarian commentary, but it pains me to read ideas from people who disagree with my core beliefs. I know I ought to read more from people with a diversity of opinion, if for no other reason than to hone my own ideas, but I just don’t enjoy it as much.
    Thanks for indulging me,

  15. Gravatar of Joe Calhoun Joe Calhoun
    12. June 2009 at 13:04

    When it comes to politicians, I just start with the idea that they are all stupid and corrupt regardless of party. That explains most of their behavior and I don’t have to resort to calling them evil.

    It also seems to me that the evil charge tends to be utilized more by the left than the right. The right (and I’m using convenient labels and generalizing here) tends to see the left as well meaning but misguided and/or dumb. As a libertarian, I tend to think of both sides as well meaning but misguided and/or dumb. Bush and Obama both fit that mold quite nicely. Does that make me an arrogant a**hole or something?

    As for the inflation argument, as I’ve stated here before, I think there is a major problem with defining the term. I know most people use the modern definition but I’m an old fashioned guy and still cling to the classical definition. If the value of the dollar is falling, that is inflation. If it is rising, that is deflation. Yes, there are many ways to measure the value so it isn’t that simple, but general trends can be teased out of the data.

    For now, I’m in the neutral camp with a bias toward inflation. My investments are tilted toward commodities and real estate to take advantage of that, but not drastically so. I also have weighted my equity exposure more toward foreign markets (particularly commodity economies such as Australia, Brazil and Canada), but again not in a dramatic fashion. Anyone making one way bets on the outcome of future inflation right now is, in my opinion, crazy. Without knowing what the Fed and/or Congress will do in the future, there is no way anyone can make an accurate prediction based on current market conditions. I have a belief about how this will turn out (higher inflation than we’ve seen in quite some time), but I am humble enough to know that the future is unknowable and there are myriad ways I could be wrong. In the meantime one needs to stay flexible.

  16. Gravatar of Bill Stepp Bill Stepp
    13. June 2009 at 04:01

    I’ll take the bond market’s view of future inflation over Krugman’s any day.
    And even if he is right on Buckley’s early view of blacks (and I’m not sure he is), he certainly is not correct about his later opinion.
    Krugman’s distortions of his opponents reflects his incompetence as well as his immorality. You can think he’s a genius, but I don’t.

  17. Gravatar of ssumner ssumner
    13. June 2009 at 05:02

    Patrick, Did Modigliani overlook the tax penalty due to inflation? Earnings on equities are not adjusted for inflation. That means the real tax rate rises sharply during periods of high inflation.

    In addition. I don’t recall stocks doing that well until the mid-1980s. Real stock prices were very low during the 1970s and early 1980s. When was Modigliani’s idea published?

    But your basic point may be correct, investors may have priced stocks too low during this period. Obviously in retrospect it looks like they did. This is one reason I hate it when people talk about “average P/E ratios” as if average means correct. The average ratio appears much too low in retrospect.

    Kailer, Thanks, I agree. I do tend to read a lot of stuff I disagree with, as it is hard to avoid doing so if you are a libertarian.

    Joe, Yes, I tend to agree, although the concept of “well-meaning” is hopelessly vague. It is possible that some of the worst dictators in history have been well-meaning in their twisted minds. I’m not saying that was definitely the case, but it is possible. One problem is that even very good politicians often say to themselves “I must support X policy, even though it is bad, to get elected. Then I can do good things in other areas.” This is a slippery slope.
    I’m afraid I don’t have any very good answers, except to decentralize the political system as much as possible so less harm is done. I am talking about the Swiss model of referenda and cantonal governments.

    I also define inflation as a rise and fall in the value of the dollar, against goods and services. I don’t do it against other currencies, as those other currencies also have unstable values.

    Those commodity stocks will protect you in two ways; they’ll do well if there is a recovery in the world economy, and also do well if there is high inflation.

    Bill, I said Krugman is a brilliant economist. Political scientist? Not so brilliant. To say he is unfair to conservatives would be an understatement. BTW, the bond market agrees with Krugman, both are signaling very low inflation for a few years, and then about 2% thereafter. I think that is probably roughly Krugman’s view.

  18. Gravatar of Bill Stepp Bill Stepp
    13. June 2009 at 05:41


    The bond market is more bearish on inflation than it was a while back, although there are some mixed signals (e.g. gold is off its high).


    I don’t agree that Krugman is such a great economist.
    The average Austrian is better.

  19. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    13. June 2009 at 09:52

    Scott, I assume you mean earnings on equities aren’t adjusted for inflation FOR TAXATION. However, I’m not sure that mattered (much) for corporate tax rates in the 70s, I think it mattered much more for personal taxation–but different stockholders faced different marginal rates (some 0%).

    And, it seems to me that when it comes to discounting a corporation’s debt burden the tax in question wouldn’t be a corporate income tax, but mostly long term capital gains for investors when they sell the now higher priced stock.

    Anyway, I’ve been looking all over the place for my decrepit copy of Robert L. Hagin’s ‘Dow Jones Irwin Guide to Modern Portfolio Theory’, where I first encountered the tidbit on Modigliani’s role in the changed analysis of stock performance, to no avail. It was first published in 1979.

    Maybe Bentley’s library has a copy of it.

    I wouldn’t have expected stocks to show any better performance until the mid 80s anyway, because the economy was in recession pretty much continuously from late 79 through 82

  20. Gravatar of ssumner ssumner
    14. June 2009 at 05:03

    Bill, The bond market is predicting slightly higher inflation that is was a few months. But what I said was that it is still predicting low levels of inflation. Less than 2% short term, just over 2% long term.

    I’d like to be able to say the Austrians are better economists, but the whole point of my post was to look at the world as it is, not as I want it to be. And I have to say that Krugman is a better economist than any living Austrian–despite my policy and stylistic differences with him.

    Patrick, Yes, the capital gains tax is important, and I view that as part of the taxation on corporations. I also think that inflation matters much more for the taxation of capital income than wage income. For instance, assume the real interest rate is 2% and the tax rate on capital is 25%. If inflation rises from 0% to 10% a year, the real tax rate in capital income rises from 25% to 150%. That’s a big deal, and it could partly explain the low stock prices of the 1970s.

  21. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    14. June 2009 at 09:22

    I didn’t say anything about wage income. I was referring to the personal taxes paid by shareholders on their dividends and cap gains. The latter, back in those days, iirc, were 50% exempt from taxation–and, for pension funds, 100% exempt.

    But, your point is Modigliani’s too(again, iirc). But, that the analysts are stopping their stories too soon; What inflation takes away through taxation of illusory profits it gives back (at least partly) through higher cap gains due to a reduced real debt burden.

    Anyway, I don’t have access to these, but I’m guessing there is a full analysis in:

    ‘Debt, Dividend Policy, Taxes, Inflation and Market Valuation’



    ‘Towards An Understanding of the Real Effects and Costs of Inflation’


  22. Gravatar of ssumner ssumner
    15. June 2009 at 05:04

    Patrick, In my 25% tax rate hypothetical I was already factoring in the 50% exclusion. Remember that MTRs were really high in those days for people in the investment class.

    I do understand the point about the corporate gain from reducing debt burdens, but due to the Fisher effect that is merely a one time effect. If it is perceived that inflation is permanent (and by the late 1970s it was perceived that way), then you need a steady state model where inflation expectations are fully reflected in nominal rates. And in that case the tax penalty on equities is very real.

    So I still think that I am right. And the other problem with inflation is that if investors don’t think it is permanent, then they will expect a painful recession to remove it. One reason the stock market reacts negatively to high inflation news is that they expect a Fed tight money policy in response to the announcement.

  23. Gravatar of Michael E. Sullivan Michael E. Sullivan
    15. June 2009 at 08:57

    Scott, I completely agree with your more general point that current market prices of various assets are not consistent with widespread inflation fears. And I’m largely in agreement with your assessment of what has happened in the current crisis. For whatever reasons, the velocity of money went kaput around july-august of 2008, and the fed did not take enough expansive action to counteract it and keep it from strangling the economy.

    I don’t expect high inflation anytime soon either.

    It’s just that I can’t see any obvious and low-risk way to profit if we turn out to be wrong and the market’s inflation expectations are too low. TIPS aren’t it unless the alternative is fixed rate t-bills

    Clearly there are esoteric combinations of futures and options that will be nearly certain to profit handsomely if we correctly guess that inflation will be much higher than current market prices expect, but it’s unlikely to the sort of portfolio a typical casual investor understands well enough to feel comfortable with. As a lay person who is pretty knowledgeable, I can easily imagine making a big mistake in my strategy.

    There are clearly very many people in the market who are more concerned with deflation than inflation.

    I am continually surprised that your view on this debacle does not have more currency. I think some very interesting ideas could come out of a real honest discussion between you and someone like Krugman or Delong. But they seem more interested in debating people of higher status who are making obvious mistakes, which is very disappointing to me. I really want to know what they have to say to the main thrust of your argument, which as far as my lay education can follow is basically correct.

  24. Gravatar of Greg Ransom Greg Ransom
    16. June 2009 at 08:48

    Scott — what does it mean to be “a good economist”.

    There are all sorts of different economists doing all sorts of different things. You are not comparing hammers with hammers. You are comparing pliers with tape measures with saws with hammers with drills with shovels with grass clippers, etc.

    It’s easy to argue that Kirzner is a much better economist than Krugman — he’s done more to help us understand the real world, and he doesn’t misuse economic math or statistical machinery the way that Krugman constantly does.

    And Kirzner does almost no “macro”, and very little journalist pop-economics, or pop-policy economics.

    Scott writes:

    “I’d like to be able to say the Austrians are better economists, but the whole point of my post was to look at the world as it is, not as I want it to be. And I have to say that Krugman is a better economist than any living Austrian-despite my policy and stylistic differences with him.”

  25. Gravatar of Greg Ransom Greg Ransom
    16. June 2009 at 08:52

    Krugman is a “good economist” in the sense that he’s good and explicating and popularizing the mathematics of geographical economics — most of it originated by other people.

    And he’s a “good economist” in the sense that he’s very good at churning out pop-econ using fashionable econ constructions of the moment. I.e. he has talent for being “the smartest man in the room” at the game of academic and pop-econ.

    This DOES NOT make him a “good economist” — it makes him “the smartest man in the room” within a room full of people who constantly and repeatedly misuse statistics, math constructs, and the economic way of thinking.

  26. Gravatar of Scott Sumner Scott Sumner
    16. June 2009 at 09:26

    Thanks Michael, Yes, a debate would be fun. On the inflation question, I guess gold is one option. It is high compared to a few years ago, but still low (in real terms) compared to 1980.

    Greg, Maybe I shouldn’t have made that comparison between Krugman and the Austrians. I don’t know enough about Austrian economics. (And macro is the only area where I am really at all knowledgable.) I don’t think Krugman is one of the greats (Hume, Smith, Fisher, Hayek, Keynes, Friedman, Coase, Samuelson, Becker, etc.) But he is very, very smart. And when he stays away from issues where politics may influence his judgment, he is very good (see Pop Internationalism.) But I agree he is not one of the great innovators. The fact that he is now reviving Keynes’ ideas is very revealing. Great economists create their own school of thought. There will be no Krugmanian economics.

  27. Gravatar of Greg Ransom Greg Ransom
    16. June 2009 at 10:27

    Here’s what Paul Krugman — “the smartest man in the room” — was saying in 2002:

    “To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble.”

  28. Gravatar of ssumner ssumner
    17. June 2009 at 05:00

    Greg, I was saying the same thing. See my response to your other comment.

  29. Gravatar of 123 123
    23. June 2009 at 11:13

    “This is one reason I hate it when people talk about “average P/E ratios” as if average means correct. The average ratio appears much too low in retrospect.”

    Why do you think the average is too low in retrospect. Only because of EMH?

  30. Gravatar of ssumner ssumner
    24. June 2009 at 06:05

    123, I actually don’t know it was too low in an EMH sense (i.e. given what people knew at the time.) But in retrospect wouldn’t all long term investors (say pensions) have been 100% in stocks? Haven’t they vastly outperformed other investments in the long run, even accounting for risk? That is a point often made by the anti-EMH crowd. But that implies P/Es have been too low.

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