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Posts Tagged ‘Keynesian Policy’

A2 Economics: Two ways of calculating the equilibrium level of income

November 10, 2017 Leave a comment

Went through an A2 multiple-choice question on calculating the equilibrium level of income with my A2 class. There are two ways that it can be worked out. Here is the question:

In a closed economy with no government C = 30 + 0.8 Y and I = 50, where C is consumption, Y is income and I is investment.

What is the equilibrium level of income?

A 64                B 80              C 250               D 400

Below is the most common way of working the question out:

Y = C + I

Y = 30 + 0.8Y + 50

0.2Y = 80

Y = 400

Here is the other way that you should be able to work out the equilibrium

Remember: Savings = Income – Consumption

S = Y – C

S = Y – (a + cY)

S = Y – a – cY

S = -a + (1-c) Y

So if we put the figures into the equation you get:

50 = -30 + (1-0.8) Y

50 = -30 + 0.2Y

80 = 0.2Y

Y = 400

A2 Revision – New Classical to Extreme Keynesian

October 27, 2017 Leave a comment

The main competing views of macroeconomics (Keynesian vs Monetarist) is part of Unit 5 in the A2 syllabus and is a popular topic in the essay and multiple-choice papers. Begg covers this area very well in his textbook. In looking at different schools of thought it is important to remember the following:

Aggregate Demand – the demand for domestic output. The sum of consumer spending, investment spending, government purchases, and net exports
Demand Management – Using monetary and fiscal policy to try to stabilise aggregate demand near potential output.
Potential Output – The output firms wish to supply at full employment after all markets clear
Full Employment – The level of employment when all markets, particularly the labour market, are in equilibrium. All unemployment is then voluntary.
Supply-side policies – Policies to raise potential output. These include investment and work incentives, union reform and retraining grants to raise effective labour supply at any real wage; and some deregulation to stimulate effort and enterprise. Lower inflation is also a kind of supply-side policy if high inflation has real economic costs.
Hysteresis – The view that temporary shocks have permanent effects on long-run equilibrium.

There are 4 most prominent schools of macroeconomics thought today.

New Classical – assumes market clearing is almost instant and there is a close to continuous level of full employment. Also they believe in rational expectations which implies predetermined variables reflect the best guess at the time about their required equilibrium value. With the economy constantly near potential output demand management is pointless. Policy should pursue price stability and supply-side policies to raise potential output.

Gradualist Monetarists – believe that restoring potential output will not happen over night but only after a few years. A big rise in interest rates could induce a deep albeit temporary recession and should be avoided. Demand management is not appropriate if the economy is already recovering by the time a recession is diagnosed. The government should not fine-tune aggregate demand but concentrate on long-run policies to keep inflation down and promote supply-side policies to raise potential output.

Moderate Keynesians – believe full employment can take many years but will happen eventually. Although demand management cannot raise output without limit, active stabilisation policy is worth undertaking to prevent booms and slumps that could last several years and therefore are diagnosed relatively easily. In the long run, supply-side policies are still important, but eliminating big slumps is important if hysteresis has permanent effects on long-run equilibrium. New Keynesians provide microeconomics foundations for Keynesian macroeconomics. Menu costs may explain nominal rigidities in the labour market.

Extreme Keynesians – believe that departures from full employment can be long-lasting. Keynesian unemployment does not make real wage fall, and may not even reduce nominal wages and prices. The first responsibility of government is not supply-side policies to raise potential output that is not attained anyway, but restoration of the economy to potential output by expansionary fiscal and monetary policy, especially the former.

A2 Economics – Keynesians vs Monetarists

March 29, 2017 Leave a comment

Just been going through this part of the course with my A2 class and came across a table from some old A Level notes produced by Russell Tillson (ex Epsom College Economics and Politics Department) to help them understand the principal differences.

Keynes v Hayek with Chinese characteristics.

December 3, 2016 Leave a comment

You will no doubt have heard about the battle of ideas – Keynes v Hayek. In the 1930’s this was probably the most famous debate in the history of economics – the battle of ideas -government v markets.

Now there is Chinese version of the debate:

Justin Lin (Keynes) versus Zhang Weiying (Hayek) – both are Professors at Peking University. Lin is on the right of the image below.

lin-v-zhangTheir latest debate is about industrial policy and the concept that the government can set the example of how to run successful industries – in the 1980’s textiles and today renewable energy. Although China’s growth record would seem to justify this some have seen these state run industries produce little innovation. Lin believes that countries that have a comparative advantage should receive help from the government whether it be in the form of tax cuts or improved infrastructure. Furthermore, because resources are limited the government should help in identifying industries which have earning  potential. This assistance includes subsidies, tax breaks and financial incentives — aimed at supporting specific industries considered crucial for the nation’s economic growth.

Zhang sees this industrial policy as a failure in that he believes government officials don’t know enough about new technologies.  He uses the example in the 1990s, when the Chinese government spent significant money on the television industry only for the cathode ray tubes to become outdated. He is also concerned about industrial inertia with local officials following the central government’s direction which tends to lead to an overcapacity. Zhang, however, credited the free market — not politically motivated government subsidies — with game-changing innovations that benefit society eg. James Watt and the steam engine, George Stephenson’s intercity railway, and Jack Ma’s innovative online marketplaces under Alibaba.

China’s ongoing transition to a market-based economy has relied on labour, capital and resource-intensive industries. But the transition’s negative side effects have included structural imbalances and excess capacity in certain sectors. Moreover, some state-owned enterprises such as telecoms have been challenged by disruptive innovators, such as social networks.

Zhang said industrial policy can foster greed. For example, companies may collude with government officials to win special favours. And policymakers can make mistakes, given that even the most well-informed intellectual cannot always predict market trends. Other economists have contributed to the debate stating that a lot of the most successful companies have not had any government assistance in their early years.

However the debate is sure to continue – what works best ‘Markets or Governments’?

Sources:

The Economist – 5th November 2016

CaixinOnline 

A2 Revision: Keynes 45˚ line

September 14, 2016 Leave a comment

With the Cambridge A2 exam coming up here is a revision note on Keynes 45˚ line. A popular multi-choice question and usually in one part of an essay. Make sure that you are aware of the following;

Common Errors:
1. C and S are NOT parallel
2. The income level at which Y=C is NOT the equilibrium level of Y which occurs where AMD crosses the 45˚ line.
To Remember:
1. OA is autonomous consumption.
2. Any consumption up to C=Y must be financed.
3. At OX1 all income is spent
4. At OB consumption = BQ and saving= PQ
5. Equilibrium level of Y shown in 2 ways
a) where AMD crosses 45˚ line
b) Planned S = Planned I – point D

Remember the following equilibriums:
2 sector – S=I
With Govt – S+T = I+G
With Govt and Trade – S+T+M = I+G+X

Keynes v Monetarist – Powerpoint download

March 31, 2016 Leave a comment

Here is a powerpoint on “Keynesian and Monetarist Theory” that I use for revision purposes. I have found that the graphs are particularly useful in explaining the theory. The powerpoint includes explanations of:

– C+I+G+(X-M)
– 45˚line
– Circular Flow and the Multiplier
– Diagrammatic Representation of Multiplier and Accelerator
– Quantity Theory of Money
– Demand for Money – Liquidity Preference
– Defaltionary and Inflationary Gap
– Extreme Monetarist and Extreme Keynesian
– Summary Table of “Keynesian and Monetarist”
– Essay Questions with suggested answers.

Hope it is of use – 45˚line shown. Click the link below to download the file.
Keynes v Monetarist Keynote

A2 Revision – Keynesian and Post-Keynesian Period

May 6, 2015 Leave a comment

I have discussed with my A2 class the end of the Gold Standard and the new era of self-regulating markets that started in the 1980’s under Reagan (US) and Thatcher (UK). This relates to Unit 5 in the A2 syllabusMain schools of thought on how the macroeconomy functions – Keynesian and monetarist.

Robert Skidelsky, in his book “Keynes – The Return of the Master”, outlined the Keynesian and Post-Keynesian periods. The Keynesian period was the Bretton Woods system whilst the “New Classical” Washington consensus system succeeded it. Both are outlined below:

The Bretton Woods system was designed to improve the rules and practices of the liberal world economy which had grown up sporadically in the 19th century. However in 1971 the fixed exchange rate system collapsed (see post Fixed exchange rates and the end of the Gold Standard) and the full employment objective was cast aside. Futhermore controls on capital were removed in the 1990’s. The new system introduced was more free market based and took the name of the Washingotn Consensus System.

According to Skidelsky the two regimes were shaped by two different philosophies. The Bretton Woods system broadly reflected the Keynesian view that an international economy needed strong political and institutional supports if it was to be acceptably stable. The Washington consensus was driven by free market principles of self-regulation and limited government intervention.

The Influence of Economists – Seven Bad Ideas.

April 18, 2015 Leave a comment

7 bad ideasAlan Blinder wrote a review of Jeff Madrick’s book “Seven Bad Ideas: How Mainstream Economists Have Damaged America and the World” – in the December edition of The New York Review of Books. The basis of the book is that ‘economists’ most fundamental ideas contributed centrally to the financial crisis of 2008 and the Great recession that followed.” Blinder quoted George Stigler’s contrary verdict “that economists exert a minor and scarcely detectable influence on the societies in which they live.” He comes up with a test that asks you which of the statements below comes closer to the truth.

The dominant academic thinking, research, and writing on economic policy issues exert a profound, if not dispositive, influence on decisions made by politicians.

Politicians use research findings the way a drunk uses a lamppost: for support, not for illumination.

Most people chose the second statement but Madrick’s answer seems closer to the first.

Blinder is at odds with three of Madrick’s ‘Bad Ideas’

1. The Influence of Economists – they don’t have as much influence on economic policy as Madrick suggests.

Blinder quotes his idea of Murphy’s Law of Economic Policy:
Economists have the least influence on policy where they know the most and are most agreed; they have the most influence in policy where they know the least and disagree the most vehemently.

However when you consider who has the most influence on the election of politicians it is the general public and not economic experts. According to Binder the GFC of 2008 has in part been the fault of economists. Most graduate take at least one economics paper but professors have failed to convince the public of even the most obvious lessons, like the virtues of international trade and the success of expansionary fiscal policy in a slump. It’s a pedagogical failure on a grand scale. Many economists teach and praise the efficient market hypothesis.

2. Mainstream economics is right wing.

Milton Friedman (University of Chicago) is targeted by Madrick with regard to right wing doctrine. It is quoted in the book that Keynesian economics is not part of what anybody has taught graduate students since the 1960’s. Keynesian ideas are fairly tales that have been proved false. Blinder refutes these statements with the latter being farcical. One can argue over the macroeconomic policies of the Chicago School but it’s clear that their views are far from the mainstream.

The success of Keynesian policy since the GFC has been well documented. Experts were asked whether they agreed or disagreed with the two statements about fiscal stimulus.

1. Because of the American Recovery and Reinvestment Act of 2009, the US unemployment rate was lower at the end of 2010 that it have been without the stimulus bill. 82% agreed 2% disagreed
2. Taking into account all the ARRA’s economic consequences – including the economic costs of raising taxes to pay for the spending, its effects on future spending, and any other likely future effects – the benefits of the stimulus will end up exceeding its costs. 56% agreed 5% disagreed and 23% uncertain.

So from this the mainstream is overwhelmingly Keynesian.

3. Bad ideas

Madrick’s first bad idea was Adam Smith’s invisible hand. Blinder sees this as a great idea as throughout history, there has never been a serious practical alternative to free competitive markets as a mechanism for delivering the right people at the lowest possible costs. So it is essential that students learn about the virtues of the invisible hand in their first economics course.

Blinder also challenges another of Madrick’s Bad Ideas – Say’s Law, which states that supply creates its own demand, means that an economy can never have a generalized insufficiency of demand (and hence mass unemployment) because people always spend what they earn. Therefore: no recessions, no depressions. The Great Depression and then Keynes put an end to Say’s Law.

A Bad Idea – Efficient Market Hypothesis (EMH)
This Bad Idea became destructive as the EMH gave Wall Street managers the tools with which to build monstrosities like Collateralized Debt Obligations and Credit Default Swaps on top of the rickety foundation of subprime mortgages. This was further backed up by the credit rating agencies who gave AAA ratings to risky investments. EMH also handed the conservative regulators a rationale for minimal financial regulation.

According to Blinder, Madrick is an important and eloquent voice for what’s left of the American left – at least in economic matters.

Syriza’s rescue programme for Greece “ pure Keynesian policies”

April 6, 2015 Leave a comment

A number of articles from The New Yorker magazine have outlined the problems facing Greece’s anti-austerity party Syriza. The party came to power on the election promise of reducing Greece’s debt burden and to liberate Greece from the Troika – the ECB, the IMF and the European Commission. However the extension recently granted to Greece will take place only within the framework of the existing arrangement. The budgetary targets for 2015 and 2016 have kept the economy stuck in recession.

* the Greek economy has contracted by 30% since 2008.
* 25% of the workforce are officially unemployed
* 50% of those under 24 years of age are unemployed
* 40% of Greek children live below the poverty line.

Money has been flowing out of the economy leaving the banking system on the verge of collapse see graphic from The Economist.

As with the Keynesian doctrine, Syriza’s solution in to create effective demand by pumping money into the system. One economics professor at the University of Athens called it “pure Keynesian policies. The big question is where will the money come from although some seem to think that it can raise revenue from tackling corruption and tax evasion. The latter is widespread in Greece amongst the upper-middle class and the very rich – the top-most bracket of households and businesses are responsible for 80% of the total tax debt owed to the government.

Greece’s creditors were mostly European banks, which had, in part, used public bailout money following the 2008 credit crunch to scoop up Greek bonds. For example, French and German banks were on the books for thirty-one and twenty-three billion euros, respectively. The troika stepped in during the spring of 2010, and again in 2012, to orchestrate bailouts of the Greek government, offering two hundred and forty billion euros in loans in exchange for a drastic reduction in government spending and other measures to make the Greek economy more competitive. Source: New Yorker

Grexit
The conventional wisdom is that returning to the drachma would be a catastrophe for Greece. There are pros and cons to this decision – the following would be concerns about returning to the drachma:
* An immediate devaluation;
* The value of savings would tumble;
* The price of imported goods would soar.

However on the positive side of things you would get the following:
* Greek exports would become cheaper
* Labour costs even more competitive.
* Tourism would likely boom.
* Regaining control of its monetary and fiscal policy for the first time since 2001

It would give Greece the chance to deal with its economic woes. Other countries that have endured sudden devaluations have often found that long-term gain outweighs short-term pain. When Argentina defaulted and devalued the peso, in 2001, months of economic chaos were followed by years of rapid growth. Iceland had a similar experience after the financial crisis. The Greek situation would entail an entirely new currency rather than just a devaluation.
This conflict is as much about the ideology of austerity and whether smaller countries will have a meaningful say in their own economic fate. However one needs look back in history to remember that in debt-saddled Weimar German, humiliation and dispossession festered until it a gave rise to the Nazi party. Greece’s neo-nazi party won the third greatest number of parliament seats in the last election.

Greek Bonds

Why are people risk adverse?

February 19, 2014 Leave a comment

RiskOne of the major concerns with regard to economic growth, especially in the US, the is lack of risk taking i.e. Entrepreneurial decision-making, self-employment etc. Ultimately risk-taking is the fulcrum of the economic cycle of booms and slumps which John Maynard Keynes referred to Animal Spirits. However research in Behavioural Economics has shown that there is a reason for this behaviour. A recent Free Exchange article in The Economist discussed this area.

A simple test that has been carried out is as follows. Would you prefer:

1. A gift of $50, or
2. To play a game with a 50% chance of winning $120

It might seem logical to chose the second option since the average return in $60. However most people chose the more secure option rather than take the risk. But risks do vary according to the individual and the time period.

Individual as risk taker

The following are seen as influences in risk behaviour:
1. Education – more educated likely to take risks
2. Income – the higher the income the more likely to take risks
3. Gender – Men more likely to take risks

Historically

Research shows that those people who experienced high returns on the stockmarket in their early years were likely to tolerate more risk to own shares as a higher proportion of their income. However a bad experience can dampen risk-taking and this would be prevalent today with the impact of the GFC. Also after the Wall Street crash of 1929 the US economy came to standstill as people were very tentative of taking any risks after what they had been through.

It is not just a financial crisis which affects risk-taking. The tsunami that hit South-East Asia in 2004 and Japan in 2011 can put an end to risk-taking as people rebuild their lives. Furthermore military conflicts such as the Korean war can cause their victims more cautious for long periods of time.

Horror Story = Risk Aversion

One group of universtiy students watched a horror story which contained a gruesome torture scene whilst another group didn’t. On completition of the horror scene both were asked some questions about their propensity for risk. Students who had seen the horror story reported increased aversion to risk by roughly the same amount that the GFC had on people. With this in mind the GFC in likely to restrict consumers from taking the sort of risks that help propel the economy for decades to come. It could be that the lack of entrepreneurial spirit will hinder growth and governments rather than worry about debt will have a lack of risk-takers to deal with.

Greenspan the Keynesian?

November 11, 2013 Leave a comment

Recently John Cassidy in the New Yorker wrote a piece about Alan Greenspan’s new book “The Map and the Territory: Risk, Human Nature, and the Future of Forecasting” in which Greenspan admits to flaws in the neo-classical model that people and financial institutions act in their own self-interest. He has finally come round to admitting that people’s actions are often driven by “Animal Spirits” (originates from Keynes) and rather than behaving like calculators they respond to fear, greed, euphoria, and impatience. He identified 10 traits which he calls “Inbred Propensities”. It seems that during his tenure as Fed Chairman Greeenspan rarely mentioned Keynes although he studied it at Columbia University in the 1950’s. As John Cassidy points out by the time he met Ayan Rand he was of the neo-classical orthodox. The article is worth a look – plenty of good debate.

Alan Greenspan Rediscovers Keynes – Sort Of

Remember the difference between the two schools of thought

New Class - Ext Keyn

Interest Rates under Volcker, Greenspan and Bernanke

October 21, 2013 Leave a comment

Here is a chart from WSJ Graphics which shows the level of interest rates in the US from 1980 to today. With the stagflation of the 1970’s Paul Volcker was faced with some very tough decisions. Below is an extract from an interview with him on the PBS Commanding Heights documentary.

It came to be considered part of Keynesian doctrine that a little bit of inflation is a good thing. And of course what happens then, you get a little bit of inflation, then you need a little more, because it peps up the economy. People get used to it, and it loses its effectiveness. Like an antibiotic, you need a new one; you need a new one. Well, I certainly thought that inflation was a dragon that was eating at our innards, so the need was to slay that dragon.

If you had told me in August of 1979 that interest rates, the prime rate would get to 21.5 percent, I probably would have crawled into a hole. I would have crawled into a hole and cried, I suppose. But then we lived through it.

US Interest rates 1979-2014

US infrastructure could create those jobs

April 17, 2013 1 comment

US InfrastructureSome alarming figures have been banded about with regard to America’s infrastructure. It is estimated that over 700,000 bridges are rated as structurally deficient. In 2009 Americans lost approximately $78 billion to traffic delays – inefficient use of time and petrol costs. Also crashes which to a large extent have been caused by road conditions, cost a further $230 billion.

According to the American Society of Civil Engineers the US needs to spend $2.2 trillion bring their infrastructure up to standard. The Congressional Budget Office estimated in 2011 that for every dollar the federal government spent on infrastructure the multiplier effect was up to 2.5. Other indicators state that every $1 billion spent on infrastructure creates 18,000 jobs, almost 30% more than if the same amount were used to cut personal income taxes. – The Economist

Positive Externalities from infrastructure.

Investment in infrastructure has a lot of positive externalities – faster traveling time for consumers and companies, spending less time on maintenance. Research has shown that the completion of a road led to an increase in economic activity between 3 and 8 times bigger than it initial outlay with eight years after its completion. But what must be considered is that now is the best time to invest in infrastructure as it is very cheap – much cheaper than it will be when the economy is going through a boom period.

Chinese growth = blow up bridge and rebuild it.

January 26, 2013 1 comment

Another very useful clip from Paul Solman of PBS News. China has for quite a few years now gone down the route of government planning to keep economic activity buoyant. Assumptions have been made that in 10 years time there will be 200 cities in China with over 1 million people and 8 being over 10 million. However a recent blog post showed that there are ghost towns in certain areas of China with empty housing estates.

An example of artificially creating growth, as well as building ghost cities, is have a 7 year old bridge (built to last for 40 years) blown up and rebuilt. This generates jobs for construction industry including contractors for different aspects of the bridge. This likens to Keynesian policy where J.M.Keynes said that you should dig holes and fill them in to keep people employed. The Soviet Union found that central planning is good at mobilising resources, but is not good at sustaining innovation, or incentives that promote long-term growth. What China needs is more domestic consumption and move away from a reliance on government investment projects and export revenue. As ever Paul Solman explains things well.

“We should repair our highways” says The Economic Naturalist

June 6, 2012 Leave a comment

Robert Frank author of “The Economic Naturalist” and “The Darwin Economy” recently wrote a piece in The New York Times advocating tradiitonal Keynesian stimulus policy. With the US election on the horizon both Obama and Romney will be focusing on how to kick-start the economy. Obama has been a keen believer in infrastructure investment as a way to get American back into work whilst Romney has recognised the clear link between spending and employment.

In 2009 it was estimated that US roads, bridges and other infrastructure were in disrepair by the order of $2 trillion. There are many with the skills to do these jobs that are currently unemployed. Furthermore the longer you leave the repairs the more expensive it becomes. Some have said that this just puts the government into further debt but Frank argues that:

The same logic applies to overdue infrastructure investments. Yes, paying for them requires more government debt. And while austerity advocates fret that such projects will impoverish our grandchildren, they concede that the investments can’t be postponed indefinitely, and that they’ll become much more expensive the longer we wait.

It seems that there is great opportunity to stimulate growth in the economy.

Professor Bernanke v Chairman Bernanke

May 18, 2012 Leave a comment

In a recent edition of The New York Times magazine Paul Krugman wrote an article discussing the role of Ben Bernanke as an academic versus that of being the Fed Chairman.

When the financial crisis happened in 2008 it seemed that there could be no better person to be Fed Chairman. Having studied the Great Depression and written various academic papers on this and the crisis in Japan in 1990’s economists felt that Bernanke was the man for the job. Although the Fed has done a lot to rescue the financial system there is still major concerns about the labour market and the rising long-term rate of unemployment. Remember that the Fed has a dual mandate of Price Stability and Maximum Employment. In order to stimulate growth in the economy, especially when inflation is low, central banks lower interest rates but when the Fed Funds Rate reached 0 – 0.25% on the 16th December 2008 they basically ran out of ammunition as rates couldn’t go any lower. Here you tend to get stuck in what we call a “liquidity trap” in that monetary policy is no longer effective. When Japan was going through very slow growth in the 1990‘s, in which it experienced deflation, Professor Bernanke stated that Japanese policy makers should be a lot more active in trying to stimulate growth and inflation. With interest rates already at 0% he suggested that monetary authorities were not proactive enough to experiment with other policies even though they might have been radical. This all harks back to the days of FDR (Franklin D Roosevelt) in which he created work schemes, infrastructure projects etc, in order to boost employment. I have summarised Paul Krugman’s article below in a table format which shows Bernanke policies for the US economy as a Professor v Chairman.

So why hasn’t he taken on the role of the Academic Bernanke? Krugman suggests that:

this is the effect of bullies and the Fed Borg*, a combination of political intimidation and the desire to make life easy for the Fed as an institution. Whatever the mix of these motives the result is clear: faced with an economy still in desperate need of help, the Fed is unwilling to provide that help. And that, unfortunately, make the Fed part of the broader problem.

*Krugman is a keen “Star Trek” fan and compares the Federal Reserve to a Borg — a race of beings that act based on the wishes of a hive mind, and present major threats to the Starfleet and the Federation.

Keynes 1926 pamphlet could have been written today.

February 28, 2012 Leave a comment

Diane Coyle runs a blog called “The Enlightened Economist” which is very good for reviews of recently published economics books. One of her recent posts talked of the republished 1926 pamphlet by John Maynard Keynes – ‘The End of Laissez Faire’. Though Keynes states that an economy should be free of government intervention he suggests that government can play a constructive role in protecting individuals from the worst harms of capitalism’s cycles, especially concerns about levels of unemployment. Diane Coyle produces a quote (see below) from the book which is ironically similar to what is the anti-capitalist sentiment today. She also suggests that we need to go beyond the state versus market debate and recongize that the two type of systems need to work together to alleviate problems such unemployment, externalities, uncertainty, well-being etc.

“Many of the greatest economic evils of our time are the fruits of risk, uncertainty, and ignorance. It is because particular individuals, fortunate in situation or in abilities, are able to take advantage of uncertainty and ignorance, and also because for the same reason big business is often a lottery, that great inequalities of wealth come about; and these same factors are also the cause of the unemployment of labour, or the disappointment of reasonable business expectations, and of the impairment of efficiency and production. Yet the cure lies outside the operations of individuals; it may even be to the interest of individuals to aggravate the disease.”

He then goes on to say

“I believe that the cure for these things is partly to be sought in the deliberate control of the currency and of credit by a central institution, and partly in the collection and dissemination on a great scale of data relating to the business situation, including the full publicity, by law if necessary, of all business facts which it is useful to know. These measures would involve society in exercising directive intelligence through some appropriate organ of action over many of the inner intricacies of private business, yet it would leave private initiative and enterprise unhindered. Even if these measures prove insufficient, nevertheless, they will furnish us with better knowledge than we have now for taking the next step.”

Stand-Up Economist

February 4, 2012 Leave a comment

Thanks to colleague Warren Baas for this a great clip from Standup Economist Yoram Bauman at the 2010 American Economic Association conference. Some great recipes for economists looking at Keynesian and Monetarist methods. Also jokes about the financial crisis, “What to expect when you’re expecting the Nobel Prize”, and some of the Nobel prize jokes from his Cartoon book Introduction to Economics.

Debt according to Krugman

January 23, 2012 Leave a comment

Paul Krugman wrote an interesting piece on his blog (New York Times) about how those in Washington DC have no idea what they are talking about when in comes to debt. Although the US economy was technically going through a recovery last year, the levels of unemployment have been worringly high – 9%. However there is concern in Congress about the rising budget deficit and the need to reign in government spending.

Krugman explains that Washington isn’t just confused about the short run; it’s also confused about the long run. Those concerned about deficits portray a future where we have to pay back what we have borrowed – it is not like taking out a mortgage and struggling to paying it back. Krugman looks at government debt in two ways:

1. Although households have to pay back debt governments don’t – all they need to do is ensure that debt grows more slowly than their tax base. As the US economy grew (and the tax revenue for the government) the debt from WW II became immaterial and was never repaid – see graph below.

2. What is unique with regard to US debt is that it is not like an individual who owes debt to a bank. Essentially the US debt is money that is owed to the US themselves. Foreigners do hold a significant amount of government debt in teasury bonds but every dollar’s worth of foreign claims on the US is matched by 89 cents’ worth of US claims on foreigners. Furthermore because foreigners tend to put their assets into safe US investments, the US actually earns more from its assets abroad than it pays to foreign investors.

Nations with responsible governments willing to impose modestly higher tax rates when the situation warrants it have historically been able to live with much higher levels of debt than today’s conventional wisdom would lead you to believe. The UK has had debt exceeding 100% of GDP for 81 of the last 170 years. Keynes suggested of the need to spend your way out of recession when the UK was deeper in debt than any other adanced nation today, with the exception of Japan. Krugman states that the US doesn’t have a government that is responsible ie. willing to impose higher taxes. Debt matters BUT more government spending is needed to reduce unemployment.

The Tolerance of Inequality

January 22, 2012 Leave a comment

John Plender from the FT recently looked at the tolerance of inequality in the capitalist system today. Stewart Lansley, an author of “The Cost of Inequality” says that the modern economy appears to have only two routes:

1. the super-rich who are racing ahead on the autobahn at unlimited speeds
2. everyone else who has stalled in the slow lane in a 50km zone

Before 2007 those in he slow lane enjoyed enjoyed rising living standards maninly due to their ability to borrow more money using their property as collateral. Since the crisis they have struggled to service unmatched levels of debt whilst finance has come to play a new role as “a cash cow for a global super-rich elite”. However according to Plender this is nothing new – the industrial revolution saw large differences in income distribution as did the 1920’s and 30’s. This was when John Maynard Keynes wrote about a more humane form of capitalism and was notably scathing of what he called “individualist capitalism and the money motive.”

Although the despair of earlier recessions are not prevalent today ie. soup kitchens, 25% unemployment, and extreme poverty, the conerns seem to focus on the unfairness of the system. Top of the agenda is the banking system which in the 1930’s was concerned with deposit-taking and lending but today has become incredibly complex system which they themselves do not always understand and whose social utility is not apparent to the lay person – including the head of the UK Financial Services Authority who stated that the business of banking has become far too large. Historically this is not new. Keynes remarked

“To convert the business man into the profiteer is to strike a blow at capitalism, because it destroys the psychological equilibrium which permits the perpetuance of unequal rewards. The businessman is only tolerable so long as his gains can be held to bear some relation to what, roughly and in some sense, his activities have contributed to society”

Solution – Reduce the Power of the Lobbyist
The economic system of late has also rewarded those that have taken risks and failed ie. bailouts from the government. Surely this is against what the definition of capitalism is. So where to from here? Mancur Olson a institutional economist has argued that nations decline because of the lobbying power of distributional coalitions, or special-interest groups, whose growing influence fosters economic efficiency and inequality. In the 1970’s it was trade unions and business cartels whilst today it is finance professionals on Wall Street and in London. Jeffrey Sachs in his recent book entitled “The Price of Civilisation – Economics and Ethics after the Fall” noted the total lobbying outlays by sector during 1998-2011. The table shows those sectors that receive the most funding are in the deepest strife for reasons tied to regulatory failures. Each of these sectors – finance, health care, transport, agribusiness etc – have landed cushy federal contracts, subsidies, tax breaks, and slack regulation and inattention. Not surprisingly finance, real esate, healthare, and pharmaceutical companies rank amongst the lowest in public approval in Gallup polls.

“These industries epitomize the destructive policies produced by the corporatocracy, and the public knows it.” Jeffrey Sachs

Below is a presentation by Jeffrey Sachs at LSE in December last year. Well worth a look but it is long.

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