Is the Fed Contributing to a Stock Market Bubble?

Former student PA brought this article from The Motley Fool to my attention: “Is the Federal Reserve Fueling the Greatest Stock Market Bubble In History?”

The conclusion of the article is that no it isn’t, mainly because the author doesn’t consider us to be in a bubble. I’d agree with that.

But, here’s some thoughts about the rest of the article:

1. The chart stinks: the data a) isn’t logged or b) the vertical axis isn't log scale, or c) reported as growth rates. A stock index can reasonably be expected to grow through compounding. I would be immediately suspicious of anyone presenting a position that doesn't do that (although I will cut people some slack because many people aren't aware they should do that).
2. Other issues with the chart: a) the S&P has been around for a long time — what position is being pushed by focusing on only its recent behavior, b) the vertical scale does not have a zero even though the S&P is ratio data, c) red explosion graphics — spare me, d) compared to what — why is this bad, is it worse than some other investment?
3. Do bubbles happen? Yes. Should we worry about them? Yes. Can anyone predict them? Not really ... if you check their records.
4. Can the Fed cause bubbles through monetary policy? Hmmm. The jury is still out on that, and we've done a lot of research on this over the last 40 years. Does the Fed get blamed anyway? Yes.
5. The whole part about low interest rates leading to rational price inflation rather than an irrational bubbles is spot on.

In sum, I think the presentation of the article is overwrought, but the conclusion is OK.

GDPNow

GDPNow is the new thing from the economic forecasters at the Federal Reserve Bank of Atlanta. It’s a real time forecast of real GDP that’s continuously updated (well, as continuously as new data announcements … so pretty much daily).

This gives it a big lead time over — several weeks — over the federal government, whose preliminary estimate comes out 4 weeks after the end of the quarter.

Here’s the forecast for 2014 II as of July 10:

It’s still 3 weeks until the official number comes out.

Baby Boom Population Cohorts

This is somewhat different than some of my other posts about demographics and labor force participation. This merely shows the population of people with the same age.

But … you can distinctly see that the baby boomers … the generation that started being the major support for the economy in the 70’s is starting peaked out half-way through the Bush administration.

Fascinating Infographic for Students (Not Required)

The possibilities from this are astounding.

The infographic on this site (it’s interactive so you must click through) allows you to:

• Select a state (or the whole country).

What shows up is a rectangle, divided into smaller rectangles, divided into even smaller rectangles. The area of the rectangles corresponds to the proportion of people working in a particular job description in that state.

Then you can:

• Choose a point on the income slider

The graphic then shades only the rectangles of those professions where median income is higher than what you selected.

Then:

• Mouseover any rectangle to get the both the median salary for that profession, and the number of people working in that profession in the state.

Most of you are young enough to have a good deal of control of where you end up. Dovetail this with the recent publication indicating that the current income required for “The American Dream” is about $130K per year. The number of professions in Utah that make that possible on one income is very small; the number of professions that can get you half of that (so your spouse can pick up the other half) is still pretty small.

Economics of the Undead

On sale, starting tomorrow:

Chapter 6, entitled “What Happens Next? Endgames of a Zombie Apocalypse” is by myself, my wife Mary Jo Tufte, and SUU’s internationally known pop culture expert Kyle Bishop. Click here for an excerpt.

The book also has a website with a course guide and blog.

Three Variations on Quotes About Micro and Macro

• From the LSE’s orientation video: “Macroeconomics has all the interesting questions, but no real answers. Microeconomics has all the answers but no interesting questions.”
• Zach Weiner: “Microeconomics successfully describes situations that never occur. Macroeconomics unsuccessfully describes situations that occur constantly.”
• Kevin Grier: “Micro has right answers to the wrong questions, while Macro has wrong answers to the right questions.”

Thinking About Graduate School?

FYI: The Complete Guide to Getting Into an Economics Ph.D. Program (or Finance for that matter).

An Urban Myth: Is It a Problem that 20-Somethings Are Living with Their Parents?

Shout out to CB interning at GS: the Census Bureau officially counts you as a slacker, but the rest of us know better.

You know all that stuff about how bad it is that so many 20-somethings are living at home with their parents? What if it was nonsense?

Check out this piece from The Atlantic entitled “The Misguided Freakout About Basement-Dwelling Millenials”.

It turns out that the Census Bureau counts just about any student living away at college (in the dorms, in student housing, and so on) as living in their parents’ home.

That actually makes some sense: it’s not like most college students have established a permanent residence — for the whole year (since we do most demographics on an annual basis) — from their parents, right?

Here’s the charts to help make sense of what this means in the data. First off, 20-somethings are a lot less likely to be married, but more likely to be living every other way:

Do note that there is definitely an uptick in people living at home with their parents since the Great Recession.

But also this note, showing that most of that is because they’re in college:

Note that this is not graduated-from-college-within-the-last-couple-of-years-and-can’t-find-a-job. That’s the bottom shaded area, and it’s declined over the last generation, and the uptick over the last 10 years is pretty modest.

So … lighten up … and tell the old folks to lighten up too. ;)

Having said that, do note that the center section will also include people staying in college because they can’t or won’t find a job and move out. So the millenials are not completely absolved here, but college towns have been full of “permanent students” for a very long time, and there’s little evidence that his phenomenon has gotten worse. And in fact, most universities are actually pushing students harder to get out the door than ever before.

Cross-posted from SUU Macroblog, which is required reading for my students.

Technorati Tags: twenty,something,millenials,living,at,home,parents,basement

An Urban Myth: Is It a Problem that 20-Somethings Are Living with Their Parents?

You know all that stuff about how bad it is that so many 20-somethings are living at home with their parents? What if it was nonsense?

Check out this piece from The Atlantic entitled “The Misguided Freakout About Basement-Dwelling Millenials”.

It turns out that the Census Bureau counts just about any student living away at college (in the dorms, in student housing, and so on) as living in their parents’ home.

That actually makes some sense: it’s not like most college students have established a permanent residence — for the whole year (since we do most demographics on an annual basis) — from their parents, right?

Here’s the charts to help make sense of what this means in the data. First off, 20-somethings are a lot less likely to be married, but more likely to be living every other way:

Do note that there is definitely an uptick in people living at home with their parents since the Great Recession.

But also this note, showing that most of that is because they’re in college:

Note that this is not graduated-from-college-within-the-last-couple-of-years-and-can’t-find-a-job. That’s the bottom shaded area, and it’s declined over the last generation, and the uptick over the last 10 years is pretty modest.

So … lighten up … and tell the old folks to lighten up too. ;)

Having said that, do note that the center section will also include people staying in college because they can’t or won’t find a job and move out. So the millenials are not completely absolved here, but college towns have been full of “permanent students” for a very long time, and there’s little evidence that his phenomenon has gotten worse. And in fact, most universities are actually pushing students harder to get out the door than ever before.

Why Is Macro So Hard? The Influence of the Book No One Actually Reads

Thomas Piketty’s Capital In the 21st Century has been a bestseller in America since its translation came out in the spring. It’s being widely touted as the most important book in macroeconomics in decades.

It’s arguable that this is all a load of BS. It turns out no one is actually reading it.

Here’s how we know. When someone buys a book for their Kindle, they can highlight passages. Part of what you agree to when you buy a Kindle is that Amazon can keep track of those highlighted passages. The most frequently highlighted passages are actually shown towards the bottom right of a book’s webpage on Amazon.

For most books, these passages occur throughout the book. And a good sign that people finish the book is that there’s a heavily highlighted passage towards the end.

The thing is, of the 5 most heavily highlighted passages in Piketty’s book, the last one occurs on … page 26. Not one of the top 5 passages occurs in the last 670 or so pages.

There’s actually theory in statistics about the distribution of what are called record values. That isn’t applied here, but having some exposure to it, I’d estimate that 99.9% of readers never get past page 50 before abandoning the book. For example, suppose that (way back when) people started recording the time it took to run a mile, and kept track of each successive record: if the record times stopped going down once they hit 7 minutes … you might conclude a lot of things, but a pretty obvious possibility would be that no one is running that distance at all.

Having said that, the author of the article is a professor of mathematics at Wisconsin, and no doubt knows precisely the implication of their work.

In short, we have a hugely influential book, which people are claiming gives them a firmer foundation in macroeconomics to apply to policy questions, that they aren’t actually reading.

*****************************************************************

BTW: At the time that I write this, I am well past page 100 in Piketty. I’ve highlighted many selections on my Kindle.

Below, I’ve cut and pasted what are currently those 5 most heavily cited passages:

1. When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based.

   4078 Highlighters

2. When the rate of return on capital significantly exceeds the growth rate of the economy (as it did through much of history until the nineteenth century and as is likely to be the case again in the twenty-first century), then it logically follows that inherited wealth grows faster than output and income.

   2688 Highlighters

3. Knowledge and skill diffusion is the key to overall productivity growth as well as the reduction of inequality both within and between countries.

   2667 Highlighters

4. The sharp reduction in income inequality that we observe in almost all the rich countries between 1914 and 1945 was due above all to the world wars and the violent economic and political shocks they entailed (especially for people with large fortunes). It had little to do with the tranquil process of intersectoral mobility described by Kuznets.

   2276 Highlighters

5. Over a long period of time, the main force in favor of greater equality has been the diffusion of knowledge and skills.

   2273 Highlighters

I have a Kindle 2, in which there are no pages, only locations (these are approximately a longish sentence each). Piketty is 13,605 locations long. A page in the hardcover edition of the book is about 19 to 20 locations; the biggest “page” I can show on my Kindle is about 11 locations.

• # 1 is from location 88 (0.6% of the way through the book, and I have the second half of that quote highlighted)
• # 2 is from location 547 (4.0% of the way through the book, and yes I have that one highlighted)
• # 3 is from location 458 (3.4% of the way through the book, and I don’t have anything on that “page” highlighted
• # 4 is from location 340 (2.5% of the way through the book, and I don’t have anything on that “page” highlighted)
• # 5 is from location 480 (3.5% of the way through the book, and I don’t have that passage highlighted, but I do have two others on that “page”)

To put that in perspective, that’s like getting a text for a class that has they typical 15 chapters in it, and when the books are sold back to the bookstore at the end of the semester, they notice that no one highlighted anything after the first chapter. What would you conclude about a class like that? For my part, I’d conclude that the material wasn’t very interesting, the students weren’t trying hard, and no one was doing quality control to make sure they did.

Currently, I’m at location 1921, and I’ve highlighted 123 passages in the book. And yet I match up with 1.5 out of 5 of the most popular highlighted passages.

It’s a rough conclusion, but an academic macroeconomist, preparing to use the text in an advanced undergraduate class, doesn’t find interesting or worthwhile well over half of what the general reading public does.

I hate to sound elitist, but this doesn’t bode well for the public’s ability to understand macroeconomics even when guided by a book that’s quite readable. I think this is prima facie evidence that the intellectual baggage people bring with them to macroeconomics is huge.

23-Year-Olds In Good Shape

Bloomberg Businessweek has finally listened to macroeconomists. We’ve been saying for years that America is in a long demographic swing which reduces labor force participation. Meanwhile, the legacy media has been blaming Bush or Obama for this problem. Hardly.

Anyway, in “The 23-Year-Olds Will Save America” the magazine notes that the modal age is now 23 in this country. The last time that happened was the early 1980’s.

Currently, unemployment rates for this cohort are in the midst of a 5 year decline, and a 3 year rise in median income.

Unfortunately, Bloomberg Businessweek is not exactly a magazine for the young. So, they’re quick to point out that lifetime taxes from your generation will exceed lifetime transfers by about $200K: someone’s grandmother will enjoy your support. The article has an accompanying image that I’ve linked to here; note the second chart from the left.

Why Does Healthcare Spending Vary Across the U.S.?

Per capita healthcare spending is higher in the U.S. than in other countries (this is one of the reasons for Obamacare).

But per capita healthcare spending is also highly variable within America. Differences in typical spending for identical conditions of 4 to 1 are not uncommon.

Why is that so? Answering this question might go some way towards figuring out how to improve healthcare finance.

The way that healthcare was financed for the 85% of Americans with some sort of coverage prior to Obamacare was that most procedures received fixed payments, either from Medicare, Medicaid, or private insurers. This means that regional variation in spending had to be the result of regional variation in the number of procedures rather than the charges for them.

And procedures are ordered because either the doctor wants them, or the patient wants them. So who’s ordering all the spending, and why?

Cutler, Skinner, Stern, and Wennberg [2013] addresses this question. What did they find?

• Patients have little regional variation in what procedures they desire.
• Doctors have a lot of regional variation in what procedures they order.
• The profitability of procedures explains little of what doctors actually order.
• Some of what doctors order is about making the patients happy (i.e., a “the customer is always right” behavior)
• Some of what doctors orders is about making other doctors happy (i.e., a “my colleague sent this patient to me so I would do something they can’t or won’t” effect)
• They can’t rule out that some doctors are “cowboys” who order more procedures because they know more and can make them work. This is possible on an individual, but inconsistent with poor outcomes for many conditions.
• Most of the regional variation in what doctor’s order can’t be linked to observable variables or recommended treatment protocols (i.e., basically an “our inputs are determined by gut feeling, and then no one checks our output” effect). 

What’s the takeaway? Obamacare is mostly about changing the way healthcare is financed, not about how healthcare is performed. So it isn’t really focused on the right thing.

Changing Demographics

I talk a lot in this blog, and in class, about how changing demographics are the big reason for our declining labor force participation. Here’s an animated GIF that shows you the distributions I have in mind:

What should you get out of this?

First off, no one in the first 3 bars on the left, or in the 7 bars on the right (or spaces for bars) is involved in the labor market in a way serious enough to change the numbers much.

Secondly, most people don’t start consistently counting in the labor force until they hit the 6th bar from the left (25 to 29), and they start leaving it in the 9th bar from the right (55 to 59).

In short, you need to focus your attention from just to the left of the URL to about half way through it. Then watch a few times until you can count off the dates in rhythm like your counting for a music teacher.

Now note the big wave that starts to hit around 1980, and that levels out by 2010. That’s why labor force participation is down: imagine you’re at the beach, you just body surfed a wave up onto the beach, and now you’re laying in the sand wondering why you’re not moving any more forward any more. 

There is another wave coming though. But it’s not nearly as big, and it won’t hit until 2020 or 2025.

What’s the takeaway? Reagan and Clinton were luckier than their supporters would have you believe. Obama is unluckier than his detractors would have you believe. But Obama and the Democrats are probably pretty dumb if they 1) weren’t aware of this, and 2) didn’t start coaching the public that reality wasn’t going to match up with the nonsense they spouted on the campaign trails.

Bill McBride at Calculated Risk created this image. Via Carpe Diem.

Reasonably Good Macroeconomics Video

Ray Dalio has put out a persuasive video called “How the Economic Machine Works”.

Dalio is a hedge fund manager: rich and influential.

I like Dalio’s video:

I think the graphics and tempo of this video are great. I don’t always agree with the economics. It’s decidedly Keynesian. And I think it relies too much on “just so stories”. In particular, I think his discussion of debt cycles leans way too much toward the idea that we’re always doomed to go through debt cycles (although if I were a betting man I’d admit that it sure looks like this might be the case). I also think it’s colored a bit too much by Dalio’s perspective as a successful investor: basically, there’s some finance inserted where there should be a somewhat different macroeconomic argument.

Dalio also has a short text outlining his theory. It’s free to download.

There’s also a site containing both, but I’m not sure how it’s supposed to relate to them. At the bottom of that is a video of a conversational interview between Larry Summers and Dalio. Summers is a macroeconomist from Harvard, and arguably the biggest economist working from with the Democratic Party.

Why Is Macro So Hard: Answering the Heuristic Question Instead of the Target Question

Dan Kahneman, a psychologist, won a Nobel Prize in economics for his insights about how the psychological quirks we all share can lead us to bad economic choices.

Here’s one of the things we do that has big effects on how we think about macroeconomics.

We’re posed with a tough question that needs to be answered. This is called the target question.

Because the target question is difficult, we substitute an easier question that we can answer. This is the heuristic question.

Here’s where things get weird: we then claim that our answer to the heuristic question is the answer to the target question.

The current example of this is our debates on inequality. The target question is whether or not reducing inequality would be a net benefit to society. That’s a tough one.

Now, think about this. When most people think about this question, does their answer run deeper than this: “reducing inequality would make me feel better about my place in the world”?

This is the answer to a heuristic question. Note that it doesn’t really even matter much what the heuristic question is: I didn’t even have to state the question, and yet you’re probably nodding your head that I’m on to something here.

This is a big problem for two reasons.

First, it’s amazingly widespread. I’d go so far as to say this is why students are generally weak at solving word problems in classes.* You have to admit this is a very pervasive phenomenon, right? Well, I can tell you from personal experience that the biggest problem in coaching students through word problems in office hours is their insistence that the answer they’ve gotten after some step is the one they needed to go on to the next step. (Don’t believe me? Go view the infamous Chelsea video and — unlike every other time you’ve watched this — focus on the answers she does provide to questions that aren’t asked).

Secondly, it works sometimes. Consider this target question posed by the Nazis: Germany would be a better place without Jews, Gypsies, homosexuals, people with birth defects and mental illnesses, and a whole lot of random Slavs. Actually answering this question would be rather difficult: you’d need a controlled experiment, with genocide in one country, and no genocide in another, and then you’d need to wait a century or so to see which one turned out “better”. That’s nuts. The answer to the heuristic question — is it OK to practice genocide — is pretty easy: NO!

The problem with macroeconomics is that the target questions that concern us are widespread, but not as transparent as the question posed to Chelsea. But it’s also that we apply heuristic moral responses to questions that probably do have objective answers.

Via Bryan Caplan at EconLog.

* You may hear me say this in class: “business is difficult because it’s a series of word problems”.

Inequality vs. Poverty

Sometimes it takes a quote (from Utah State’s James Harrigan) to put perspective on what morons we humans can be:

Poverty, on the other hand, is a real and pernicious evil. In the entire history of the human race, no one has ever died of inequality. But far too many have died of poverty.

Too many people are unaware of the extent to which economic growth has reduced poverty. Routine estimates put the numbers in the range of hundreds of millions of people in your lifetime alone. These are people who avoided a good chance of premature death.

But economic growth creates inequality. And too many people think the way to reduce poverty is by reducing inequality. Reducing inequality would be nice, but we have a history of centralized action spending trillions of dollars to reduce inequality … and not being very successful at it.

Meanwhile, the decentralized engine of economic growth keeps making those efforts look foolish.

The whole article is not required reading.