Gold Standard Not Attractive

Paul Krugman observes how life under a gold standard is not pleasant:

Anyway, one alleged fact I keep hearing is that recessions were short and shallow under the gold standard. I don’t know where that’s coming from, but it just ain’t so. The data aren’t as good for the pre-1933 era as they are now, but for what it’s worth they suggest that there were a number of nasty, prolonged slumps under the gold standard. In particular, the Panic of 1893 was associated with a double-dip recession that left industrial production depressed and unemployment high for more than 5 years. Here’s the estimated unemployment rate from Historical Statistics Millennial Edition:

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That’s a pretty ugly, prolonged slump. Gold is no panacea.

It was these persistent high unemployment rates under the deflationary gold standard that led to William Jennings Bryan’s famous “Cross of Gold” Speech.  I wonder why there’s apparently no William Jennings Bryan today – our unemployment is worse and will likely be as long or longer.

“I Am Egyptian..”

I received the following email from Talaat Pasha, Ph.D., a fellow professor.  I think it rather concisely explains why the Egyptian people have arisen to change their government.

Dear American fellow people,I am Egyptian.

  • I have been ruled by the state of emergency for thirty (30)years, yes 30 years.
  • 40% of my people live under poverty line.
  • 30% to 40% of my people are illiterate.
  • 96% of the members of the Egyptian parliament are from the National Democratic Party ( Mubarak’s party) because of rigging the ballots.
  • No free and transparent elections (legislative or presidential) were ever done.
  • The average daily income for my people is $3.
  • No health insurance is provided to the have-nots.
  • Universities in my Egypt are not independent and are run by the police.
  • My people do not feel secure to practice their basic human rights without being harassed by the police.
  • There is a secret detective for every 5 people.
  • 10 percentage possess 90 percentage of Egypt’s wealth.
  • Mubarak’s wealth exceeds 40 billion $$$.
  • Average daily wage of university graduates is $4.00.
  • My people are out in the streets today to peacefully get their rights. But the police started using force (tear gas, plastic and live bullets) with totally civilian people.
  • Witnesses say that it is the (secret) police that set fire in public buildings and police stations.
  • My people are so civil that they are now out forming human fences to protect public and private properties.
  • My family reported that the Egyptian youth are now on guard of the neighborhood and they (the family) can taste the feeling of security for the first time in 30 years.
  • My people are now preparing hot meals for the military who are securing the streets after the flee for ALL police persons.
  • My Egypt will NOT be Afghanistan and WILL NOT be ruled by Taliban. This is what Mubarak has been wrongly telling the west and the U.S.; that he is a fence against Islamists and extremists.  My Ph.D. dissertation (from the University of Utah) talks about his issue.

My message to the free American people

Please step forward and stand to support your fellows in humanity and:

  1. Write and inform your House representatives and senators about the issue and ask them to support my people’s case and fair demands.
  2. Write to the editor of your paper.
  3. Educate your students and colleagues about the justice fairness of the Egyptian case.

Thank you

Tax Cuts Do Not Increase Labor Supply

A central tenet of U.S. “conservative” and Republican economic policy since at least the election of Reagan in 1980 is that tax cuts cause people to work more and longer hours. This is part of the so-called “supply side economics”.  The implication is that the longer hours and more labor supply will then raise the dollars of taxes collected despite the rates being lower, the so-called Laffer Curve effect.

The argument is overly simplistic and fallacious on it’s face. The theoretical support is the one-liner theory idea that “people respond to incentives, take-home money is an incentive to work, and therefore increased take-home pay causes people to work more”. It’s just a version of the retailer’s “cut the price and make it up on volume” logic.  And as such it is dependent on the elasticity of the responses – remember when the response is inelastic, as in “I have to work to live”, the volume won’t be made up.  Despite their being no strong empirical evidence of tax cuts helping raise more tax dollars or motivate widespread increased labor supply at least in the range of real-world tax rates, the concept persists – another Zombie Economics idea.

Dillow adds more to the evidence pile:

Taxes and labour supply: more evidence

Do tax cuts boost labour supply and hence tax revenues? Here’s some evidence that they don’t. Pierre Cahuc and Stephane Carcillo report on an experiment* in France:

The detaxation of overtime hours introduced in October 2007 was intended to allow individuals in France to work more so as to earn more. The evaluation conducted in this article indicates that the detaxation of overtime hours has not, in fact, had any significant impact on hours worked…
Detaxation is a measure costly for the public purse, without any ascertained impact on hours worked.

We can put this alongside the evidence we have for footballers and New York cabbies, which suggests that we are on the positive side of the Laffer curve, where tax cuts do not increase revenues. It’s also consistent with the – very tentative – evidence we have from UK tax receipts this year, which suggests that the introduction of the 50p tax rate has not (yet) reduced revenues.
Now, this is not to deny that Laffer curves exist. No doubt, there is a point at which higher taxes would be counter-productive and tax cuts would pay for themselves. And I’ll concede that it’s possible that the 50p tax rate will, eventually, have adverse effects.
But where is the hard evidence that, at tax rates around current levels, there are such effects? Do the glibertarians  have anything more than prejudice, half a theory, and the post hoc ergo propter hoc fallacy?

Readers and students should note: There is no conflict between these claims and the Keynesian macro-economic policy assertion that tax cuts can stimulate the economy.  The Keynesian policy mechanism works differently.  It asserts that tax  cuts work to widen the budget deficit.  The households spend part of the tax cut while the government continues to maintain it’s other spending. Therefore Aggregate Demand, total spending, in the economy increases. As the spending is received by firms who then pay for labor & resources in the circular flow, the increased spending has a multiplied effect.  The Laffer curve concept is different. It asserts a direct greater willingess-to-work labor supply response.

Two Ways GDP Misleads

There are many flaws and ways in which GDP, Gross Domestic Product, can mislead us in estimating the size of an economy.  Michael Pettis of China Financial Markets uses China to illustrate how two factors can easily overstate a country’s true GDP.  The first way is environmental degradation.  GDP doesn’t count it, yet is definitely an impoverishment of the nation that should be offset against the enrichment that GDP represents. The second way is malinvestment. Malinvestment is when investment spending occurs (Investment spending adds to GDP), such as construction, but the investment is in poorly chosen assets that will not be needed later.  An example closer to home of malinvestment would the large tracts of new housing construction built between 2000-2006 in the deserts around Las Vegas and Southern California. At the time, the construction added to GDP as Investment spending (I). But much of the housing was never used or occuppied – we didn’t need it and now have write it off as loss.  Michael explains the possibility that Chinese GDP might be overstated:

What if China’s GDP numbers seriously overstate the true value of China’s economy?There are at least two very good reasons to believe that they might.  The first is environmental degradation.  To understand why, it is worth remembering that if an individual earns $100, but in so doing destroys $100 worth of his own assets, then a strict accounting would say that he earned nothing.

The same is true with the environment, which has a real economic value that can be adversely affected by certain kinds of economic activity.  For example here is an article that came out four months ago on Bloomberg:

China, the world’s worst polluter, needs to spend at least 2 percent of gross domestic product a year — 680 billion yuan at 2009 figures — to clean up 30 years of industrial waste, said He Ping, chairman of the Washington-based International Fund for China’s Environment. Mun Sing Ho, a senior economist at Dale W. Jorgenson Associates and a visiting scholar at Harvard University in Cambridge, Massachusetts, put the range at 2 percent to 4 percent of GDP.

Failure to spend that much — equivalent to the annual GDP of Vietnam — may cost the Chinese economy half as much again in blighted crops, health costs and pollution-related expenses, He said: “The cleanup can’t catch up with the speed of pollution” if spending is less.

This article suggests that a significant portion of Chinese growth came with a destruction of value that should have been deducted from that growth.  After all, if you create net $100 of chemicals, but in so doing you pollute a nearby river to the extent that future economic production associated with the river is reduced by $100 (there will be less fishing, perhaps, or less agricultural production, or less usable water, or more health care costs), then the net value you created is 0, not $100, although of course you as the polluter might earn $100 today while the rest of the country loses $100 over the future.

There is no objective way to figure out how much of Chinese GDP growth should be reversed because of environmental degradation (and in this China is simply an extreme case – most countries to a lesser extent have this problem), but there is no question that the number is big, and the result is that we overestimate China’s GDP growth today and will underestimate GDP growth tomorrow.  In other words environmental degradation simply causes us to take future growth and count it today.

And it is not just environmental degradation that may require a downward adjustment in GDP.  What about misallocated investment?  Doesn’t that do the same thing?

Of course it does.  If you invest $100 today to create only $80 dollars of value, you will show an increase in today’s GDP that is lower than the reduction in tomorrow’s GDP as you pay the capital cost of the investment.  In that case if you really wanted GDP to account for changes in a country’s wealth, your investment should have shown up as an actual reduction in today’s GDP.  This means, once again, that you would overstate growth today and understate it tomorrow.

Every country wastes investment, but China does it on a massive scale.  I would argue that at least 1-2 percentage points of Chinese growth, perhaps even more, might consist of this kind of misallocated investment-driven growth.

When you add the impact of misallocated investment and environmental degradation, the necessary cumulative adjustment to Chinese GDP might be huge.  For example, if the two adjustments combined range from 2 to 4 percentage points annually, over one decade China’s “true” GDP (whatever that means), would be below the official numbers by anywhere from 16-31%.  Over twenty years official GDP would be overstated by 31-52%.  That means that we are massively overstating GDP today and will experience very low apparent GDP growth for many years in the future as the official number returns to some reasonable approximation of the real number.

These are big adjustments, both above and below the official GDP numbers.  This is why I find the whole horserace to predict the earliest date by which China’s economy will overtake the US to be so silly.  What we are in effect doing is predicting the date by which an economy that is officially $6 trillion, but in reality anywhere from $3 trillion to $15 trillion in size, will overtake another economy that is roughly around $15 trillion in size.

And this is not the first time we have played this game.  Look at Japan.  Fifteen to twenty years ago Japan’s GDP was officially 17-18% of the world’s GDP and it was rapidly catching up to the US.  Today it is 8%, and there seems to be no chance of it every catching up.

Poor Bankers’ Feeling Hurt

Financial Times reports from Davos Switzerland:

Stop bashing the bankers, Davos meeting told

Governments around the world must stop banker-bashing and create the right environment for lenders to support economic growth, some of the world’s most powerful bankers will tell finance ministers on Saturday.

Bankers say the meeting will be an effort to replicate internationally the attempt by UK banks to persuade the government to make peace. “We need to stop authorities around the world throwing sticks and stones at us. We should be past that now,” said one.

Aww, the poor little bankers’ feelings are hurt.  Apparently bonuses in the tens and hundreds of millions of dollars are not enough to grow thick skin. But I’ll agree on one condition.  I’ll stop criticizing and “bashing” big banks and their plutocratic managers when they stop behaving badly.

International Comparisons of Per Capita GDP

When we make comparisons between countries using per-capita GDP, we must always take a closer look.  The simple numbers don’t say what you think.  For example, per capita GDP in France is only approximately 78-80% of per capita GDP in the U.S.  The temptation is to quickly assume that the U.S. is a more developed or richer country, or that the U.S. enjoys a higher standard of living. But that’s not what’s happening. Paul Krugman has an excellent and well written analysis so I’ll let him say it:

one comment that often arises here is that Europe must be doing something wrong, because it has much lower GDP per capita. And it’s true: French GDP per capita, adjusted for purchasing power, is only about 3/4 the US level.But when you look behind that number, the story isn’t quite what you might think.

David Leonhardt recently pointed to a useful summary (pdf) produced by the BLS, which lets us break apart the factors between the GDP gap. I’m going to do this for France, not Europe more broadly, because that’s what the BLS gives us; but anyway, France is the country we have strong feelings about, right?

One more thing: I’m going to use 2008, not 2009. In 2009 US firms laid off lots of workers, while European firms didn’t; that produces a divergence in productivity that has more to do with short-run business cycle events than with fundamental trends. You can go back to the data source and roll your own for 2009, if you like, but I think this gives a better sense of the underlying differences.

So, here are some ratios of France to the United States:

GDP per capita: 0.731
GDP per hour worked: 0.988
Employment as a share of population: 0.837
Hours per worker: 0.884

So French workers are roughly as productive as US workers. But fewer Frenchmen and women are working, and when they work, they work fewer hours.

Why are fewer Frenchmen working? As I’ve pointed out, during prime working years they’re as likely to work as Americans. But fewer young people work (in part because of more generous college aid); and, mainly, the French retire earlier. The latter is arguably the result of misguided policies: Mitterand made early retirement alarmingly attractive. But it’s not a problem of weak productivity or mass unemployment.

And why do the French work shorter hours? Probably for the most part because of government policies mandating vacation time.

The bottom line is that France is a society with the same level of technology and productivity as the US, but one that has made different choices about retirement and leisure. Vive la difference!

Income Inequality: Worse in US than Egypt/Tunisia

Washington’s blog observes:


Egyptian, Tunisian and Yemeni protesters all say that inequality is one of the main reasons they’re protesting.However, the U.S. actually has much greater inequality than in any of those countries.

Specifically, the “Gini Coefficient” – the figure economists use to measure inequality – is higher in the U.S.

Global Map of Income Inequality Gini Coefficients by Country

[Click for larger image]

Gini Coefficients are like golf – the lower the score, the better (i.e. the more equality).

According to the CIA World Fact Book, the U.S. is ranked as the 42nd most unequal country in the world, with a Gini Coefficient of 45.

In contrast:

  • Tunisia is ranked the 62nd most unequal country, with a Gini Coefficient of 40.
  • Yemen is ranked 76th most unequal, with a Gini Coefficient of 37.7.
  • And Egypt is ranked as the 90th most unequal country, with a Gini Coefficient of around 34.4.

And inequality in the U.S. has soared in the last couple of years, since the Gini Coefficient was last calculated, so it is undoubtedly currently much higher.
So why are Egyptians rioting, while the Americans are complacent?

Well, Americans – until recently – have been some of the wealthiest people in the world, with most having plenty of comforts (and/or entertainment) and more than enough to eat.

But another reason is that – as Dan Ariely of Duke University and Michael I. Norton of Harvard Business School demonstrate – Americans consistently underestimate the amount of inequality in our nation.

As William Alden wrote last September:

Americans vastly underestimate the degree of wealth inequality in America, and we believe that the distribution should be far more equitable than it actually is, according to a new study.

Or, as the study’s authors put it: “All demographic groups — even those not usually associated with wealth redistribution such as Republicans and the wealthy — desired a more equal distribution of wealth than the status quo.”

The report … “Building a Better America — One Wealth Quintile At A Time” by Dan Ariely of Duke University and Michael I. Norton of Harvard Business School … shows that across ideological, economic and gender groups, Americans thought the richest 20 percent of our society controlled about 59 percent of the wealth, while the real number is closer to 84 percent.

I accept the protesters at their word that inequality is a major part of what’s driving the protests, even though relative to the rest of the world, their income inequality is rather middling – certainly not as bad as the U.S.  As to why income inequality should fuel protests in Egypt/Tunisia while not in the U.S. where it is much worse, I suggest that age and expectations are part of it also.  Ariely, Norton, and Alden have a good point: Americans are largely ignorant of just how narrowly concentrated wealth and income are in the U.S..  It’s part of U.S. culture to pretend that everyone is equal or at least has an equal opportunity to become stinking rich, no matter how unlikely that truly is.

I think another factor has to do with age as my previous post points out. The power of income inequality to enrage and fuel revolution depends also on expectations and age as well as perception.  In the U.S., we do not perceive the inequality. We are generally older and older people are more interested in security and stability (death and old age is more real to them and adventure less attractive). Finally, our culture in the U.S. conditions us to expect that if we aren’t rich now, we could become richer soon. In Tunisia and Egypt I surmise, the young adults not accurately perceive the injustice and unequal distribution of wealth/income, but they likewise do not perceive that their prospects for the future are bright unless they revolt. They do not perceive that things have or are changing and so they need to push the change.