Why Is Macro So Hard? Marx, Engels, and Plato

The Open Syllabus Project tracks over 100K college syllabuses to see which texts are used.

At number 3 is The Communist Manifesto by Karl Marx and Friedrich Engels (this is the shorter, more political than economic book, that is often paired with readings from the 3 volumes of Marx’ Capital).

WTF.

My guess is that this may be the primary exposure to economics that many students get.

An analogy would be if Paley was read by far more students than Darwin.

This is not to say that Marx wasn’t a great economist. He definitely recognized and discussed the big unsolved or unaddressed problems of his day. But that was half to 2/3 of the way back to Adam Smith. A lot has happened since then. That’s like contemporary chemists reading Priestley: old, seminal on some points, and woefully wrong and out of date on others.

And Marx’ labor theory of value, his core idea, was a failed attempt at explaining the paradox of value. An important aspect of why it failed is that he came up with an answer before others did, that was later shown to be flawed by the marginal revolution. In most fields, that would be called a valiant attempt, with emphasis on the attempt part.

And yet, I have never, ever, had an incoming student at any level who could explain why it was wrong. This makes me think that while # 3 is being covered a lot, an essential part of the story is being left out.

In context, Marx is best thought of as a low and thick branch on the tree of economics knowledge. It was a worthwhile direction to go as the field explored new directions. But when it didn’t work out, economics as we now understand the field to be, backed out of that branch and went down the others, and flourished.

At number 2 is Plato’s Republic. OK. I’ll give on this one. It’s a great and seminal piece of social thought. But I wonder how many students get through as much of it as they can and come out the backside understanding that it doesn’t have much to do with democracy, republics, and elections as they’ve come to understand them?

In an event, as an economist, I find this work to be blissfully unaware that decentralized exchange is important or worthwhile. And yet understanding of decentralized exchange is what economics is all about.

A case in point is the prisoners’ dilemma. It wasn’t until halfway through the 20th century that a couple of mathematicians hit on a fundamental problem for understanding economics: optimal choices do not always lead to optimal outcomes. Plato knew nothing of this when he considered the best government to be that of an all-wise and all-knowing philosopher king, who made nothing but optimal choices.

So why is macro so hard? Because these authors are blithering idiots on the subject of what we now call economics, or on the subject of economics as presented in the news every day. If this is informing students’ viewpoints on some topics, no wonder they find what we do difficult.

I’ll even update my analogy. Paley was at least talking about some of the same things as Darwin. Better yet would be Origen and Augustine, discussing diversity without any conception of the random part of random selection producing it. That’s what teaching Marx, Engels, and Plato is doing to college students.

Why Is Macro So Hard? Overconfidence

This is related to my earlier post that part of what makes macro so hard is the metacognition deficit of policymakers.
Related to this is an argument set forth by Ram (there’s a primer below the quote):

I'd contend that the main problem in America is that the public, including its highly educated members, is social-scientifically ignorant. Most people I talk to about policy do not even realize that there is anything non-trivial about policy analysis. They want the government to make sure that four phases of rigorously designed RCTs be performed before drugs are made available to the public, for fear of unintended consequences of intervening on a complex system like the human body, yet they think they understand the consequences of highly complex interventions on human societies by introspection alone. Not only do they think they understand the consequences of alternative policy choices, but they're so confident that their understanding is right and that its truth is so obvious that the only explanation for disagreement is evil intentions. When I point out that on virtually every policy issue, at least somewhat compelling arguments for many conflicting points of view have been made by relevant experts, people usually react in disbelief or denial, or immediately retreat to questioning the motives of these experts ("of course they say that, they're on the payroll of Big Business" or whatever). These patterns of speech and behavior are uniformly distributed across the political spectrum, even if intelligence and knowledge of well-established facts is not. Even many experts in particular areas of social science evince no awareness of the lack of expert consensus on almost anything in their field, and give the impression of unanimity to an unknowing public.

My guess is that if you were to convince a supposedly non-utilitarian person that their (e.g.) deontological prescriptions might have terrible consequences, then they would revisit them. Anti-consequentialism is easy to maintain so long as you believe the consequences of your proposals are desirable, but most would fold if convinced otherwise. [the emphasis is not mine]

There’s some highbrow language in here, so let me translate a bit for potential students.

When Ram uses the word “non-trivial” about policy choices, what is meant is that many people think policy choices are trivially easy: this one’s right, that one’s wrong, choose the right one. Does this sound like Donald Trump? When Ram says people don’t recognize that the choices are non-trivial, it means that there are lists of pros and cons that have to be weighed without solid information. It’s not completely guesswork, but some of it might be.

When Ram mentions RCTs, the point is the ridiculous level of testing that for-profit corporations have to go through to “prove” that their medications are safe (even though any yahoo down the road can sell you a poisonous plant and call it a medicinal herb without even having a license).

When Ram mentions introspection, what’s meant is “thinking about it a bit”. For example, Obamacare is an example of multiple “highly complex interventions in human societies”. But how many people do you know that have spent much time thinking about whether Obamacare will work or not, before deciding that they’re for it or against it?

Ram says that many people believe the “truth is so obvious that the only explanations for disagreement is evil intentions.” Is that an argument President Obama has used repeatedly?

Ram writes “if you were to convince a … person that their (e.g.) deontological prescriptions might have terrible consequences, then they would revisit them.” Deontological is college-level word that means that you justify the correctness of your actions because you followed the rules or orders. (You know, that’s the excuse the Germans made about things the Nazis did). The prescriptions are recommended policy actions (just like your doctor might give you recommended medication directions). So, what’s being said here is actually rather hopeful: if you can convince people that the bad policy choice they made was because they were just following orders, they might reconsider it.

Lastly, Ram mentions “anti-consequentialism”. You’ve probably heard the old saw: the ends justify the means. That’s consequentialist: it means that it’s OK to do something bad initially if it ends up good on net. For example, parents call this tough love. To be anti-consequentialist is to think that the means or motivations are all that count: basically, if you think you’re doing good, then you are. Ram is saying that only worrying about motivations rather than consequences (thus, being anti-consequentialist) is an easy viewpoint to stick with if you’re not inclined to ever check the results. At least on Iraq, it’s fair to say the Bush administration was anti-consequentialist. Tie this altogether, and what Ram is saying (and what I’m applying to macroeconomics) is that world is a messy place, with a lot of gray areas, and there are way to many people acting as if the gray areas don’t exist at all.

This appeared in the comments to The Money Illusion, posted by Scott Sumner at EconLog.

Infographic: The World’s Money and Markets

This is good but not great. (All my comments are up here because the image is so large, here is the original in its own web page with comments). I have 3 big complaints. There’s also a fourth group of stuff to love because we don’t often see it elsewhere.

• There’s some crossover between different categories, so some things are double-counted. Some examples are:
• Several of the “Biggest Companies” biggest shareholders are listed in the “50 Richest People”.
• The “Fed’s Balance Sheet” includes the USA sub-category under “Currency”. And BTW: which side of the Fed’s balance sheet is shown there, or is it both (or do the visualizers not have that straight in their own heads?)
• There’s some mixing of stocks and flows. For example:
• The category “50 Richest People” (in the world) is followed by “California’s GDP”. But the former is a stock and the latter is a flow. A way to think about this is that they are related by a rate of return. Assume that’s 10%/year to make things simple. Thus, the flow of income coming of the wealth of the 50 richest people is about 2 blocks. When compared to the flow of California’s GDP of 26 blocks (yes, there’s a mistake in the chart there) it doesn’t look so big. Even better, California’s flow of GDP is generated by a stock of wealth that’s 10 times as big, so an appropriate comparison is the 19 blocks for the “50 Richest People” to the 260 blocks of wealth in California.
• But that comparison is insightful because the size of the sub-category “United States” under “Stock Markets” is only 73 blocks. Figure about 10 of those are in California. So somehow, California has 260 blocks of wealth of which just 10 are the market’s net worth of corporations. This tells us that most of what is productive in our world is not in corporations, which begs the question of why on earth so many politicians are so concerned with limiting them.
• They need to be careful about what are assets, what the liabilities are, and what net worth (the difference between the two) is. For example:
• They only have some portions of assets listed (e.g., “Gold”, “Currency”) but then they show a much more inclusive and comprehensive “Global Debt” category. This makes debt look too large.
• They also show capitalization of “Stock Markets” which is a net figure. What are the assets and liabilities associated with that?
• The same thing goes for derivatives. They talk about the zero-sum nature of most of those, but they don’t actually show it.
• This is a good example of the “balanced reporting” and “what passes for expertise” problems from my Why Is Macro So Hard lectures. In the sidebar about derivatives, they quote Dr. Richard Sandor (why does he get a title if it isn’t important to the position he takes?), Warren Buffet, and Jeff Greene. So what you have there is a guy who markets derivatives, a guy who’s rich mostly from non-derivatives, and a guy who got rich from derivatives. Any expertise there on the history of derivatives, why we have them, or why they’re useful??
• Most people who are buggy about money being backed by something think it has to be gold (in Fort Knox!!). The sub-category “Central Banks & IMF” shows how small that component actually is.

Courtesy of: Visual Capitalist, via Newmark’s Door.

Why Is Macro So Hard? Bias Against Emergence and Bias Against Understanding

Macro is hard because journalists (and many of the rest of us) overweight conscious action by individuals — decisions.

If we overweight something, we must underweight something else — and that’s emergence: the idea that some things happen through the interaction of all of us rather than through conscious planning.

Cold Spring Shops pointed me towards a couple of pieces and Stumbling and Mumbling that cover this well, in the context of Brexit and the rise of Boris Johnson. Not all of this is relevant here; I’ve emphasized the parts I like best.

I fear that we have here is another example of a bias against emergence. Political journalists especially focus upon conscious political actions to the neglect of emergent processes.  Brexit is a political choice whereas other, perhaps bigger, influences on real wages are the complex unintended products of millions of dispersed decisions. So Humphrys pays the former more attention.

…

Nor is it confined to journos. Leftists sometimes blame rising CEO pay on bosses’ greed, as if the rest of us would turn down pay rises, and under-estimate the extent to which it is the result of partly-emergent processes such as globalization (pdf), deunionization, agency failure or managerialist ideology.

In this respect, the BBC has what John Birt and Steve Richards called a “bias against understanding.” In downgrading the importance of emergence, it stops viewers and listeners from understanding social phenomena.

But this all leads to a disturbing conclusion:

If this bias merely led to ignorance, it wouldn’t be so bad. But it might have a more systematic effect. If we underweight emergence, we overweight the role of conscious individual agency. This causes us to exaggerate what politicians and business leaders can achieve if only they display strong leadership. And that, in turn, helps to sustain inequalities of income and power.

It gets better in the second piece:

The thing about complex emergent processes is that they are hard to understand – there’s a complexity brake – and even harder to forecast. This might explain why economists have generally failed to predict recessions in a timely manner.

This is why I say the BBC is guilty of an ideological bias. In not even considering the question of emergence, and instead pretending that markets are like people, it is assuming that complex social phenomena – not just markets but perhaps political behaviour too - are understandable and predictable.

This is no mere innocent error. If markets are like toddlers or teenagers, it’s possible to understand and predict their behaviour and so Very Serious People can claim to possess expertise and hence a legitimate right to power and influence in politics and business. If, however, they are instead complex processes they might not be predictable – except in the sense that we might know the probability distribution of possible outcomes – then those VSPs are in fact mere empty suits.

As Alasdair MacIntyre wrote:

Do we now possess that set of law-like generalizations governing social behaviour of the possession of which Diderot and Condorcet dreamed? Are our bureaucratic rulers thereby justified or not? It has been insufficiently remarked that how we ought to answer the question of the moral and political legitimacy of the characteristically dominant institutions of modernity turn on how we decide an issue in the philosophy of the social sciences. (After Virtue, p 87)

In unthinkingly denying the very possibility of complexity, the BBC is therefore helping to shore up the power and prestige of the ruling class. That’s a profoundly politically biased position.

I love that. And turning it on its head, it’s critical for the ruling class to assert that things can’t be emergent/complex.

My gosh … Trump may have had a huge insight when he remarked that healthcare policy was hard!

Cross-posted from my personal blog; this topic isn’t a great fit for undergraduates just getting exposed to these ideas.

" ... Progressives like Heather Boushey and Jared Bernstein ..."

This is from the top of Mason's post, but I waited until I'd touched on all his points to add this one. 

Here's the whole quote:

The fact that people like Lawrence Summers have been ignored in favor of progressives like Heather Boushey and Jared Bernstein, and deficit hawks like the Committee for a Responsible Federal Budget have been left screeching irrelevantly from the sidelines, isn’t just gratifying as spectacle. It suggests a big move in the center of gravity of economic policy debates.

A couple of things that make macro so hard are 1) lots of people out in the public have opinions, but not many of them invest the time and effort to make them informed, which is fine except that 2) they're also vocal, while 3) they are overconfident, 4) may listen to people who have no expertise in macroeconomics. Some of those points are covered in the original Why Is Macro So Hard post from 11 years ago.

And the whole thing is conditioned by what I call the Bridge's Weight Limit Problem. I fear this is exactly what's going on right now. 

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

Which has what all to do with Jared Bernstein?

I'll preface this by saying that I am not a liberal progressive. But I do read a lot that is written by them so that I can keep up on current viewpoints. And in that vein, I like Jared Bernstein a lot. I think he writes well, I don't think he's too insulting to people he's opposed to, and he has some good ideas. Check him out.

Except ... Jared Bernstein isn't an economist. 

But he plays one in the White House.

Bernstein is a member of the Council of Economic Advisors in the Biden White House This is usually 3 public people, plus some staff economists. There's no requirement that these people be economists, but 1) they usually are, and 2) people out in the public assume that they must be. Not so.

But when Bernstein was your age ... he majored in ... wait for it ... Music with a specialization in double bass performance. 

Then he got a master's degree in Social Work. 

Then he got a Ph.D. in something called Social Welfare. This is not a typical major. I have no idea what it is, but I can imagine. Anyway, it's one of those degree names that universities invent, that doesn't really help students get a job, because no one knows exactly what it is. It may be sad, but all employers want to do is have you select a major as a bin into which they can group you with others: a unique sounding major does zero for the job applicant, but might do quite a lot for the university professor who doesn't feel at home in their current department.

None of this actually bothers me. I am being truthful when I wrote that I like to hear what Bernstein has to say.

What bothers me, and should bother you is this asymmetry: 

• Do you think that if there was a White House Council of Social Welfare, that it would be OK to have an economist on it? 
• Do you think that these degree programs in Social Work and Social Policy employ any economists?
• Do you think any of the main professional outlets for double bass performers — orchestras, symphonies, and philharmonics — would be OK if an economist showed up and started talking about the difference between vibrato and tremolo?
  

BTW: Bernstein's masters is from Hunter College, which is part of CUNY, where Mason works.

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

I know far less about Heather Boushey. Google Scholar here we come! 

First, she has a lot more works and citations than I do. That's good.

But, she doesn't work at a university. She works at a think tank or advocacy group.

And she doesn't publish much in peer-reviewed outlets: Feminist Economics [2006] and [2008], Sociology [2009], Review of Social Economy [2008], Review of Political Economy [1997], [2002], and [2008], NWSA Journal [2003], Journal of Poverty [2002], [2006], and [2012], European Journal of Economics and Economic Policies [2015], International Journal of Health Services [2005], Review of Radical Political Economics [2020], New Labor Forum [2010], NCJW Journal [2006], Eastern Economic Journal [2005], Science and Society [2004], Journal of Labor and Society [2004], and that's about it. I am not sure that Juncture [2016], Challenge [2004], [2012], and [2014], Dissent [2012] and [2014] are considered peer-reviewed; I don't think so. Anyway, for someone who has had a Ph.D. for roughly 25 years, and now holds a position in the White House ... this isn't a lot.

She has published a lot of books. The thing is: at most universities, books don't count much towards tenure. The reason is that they are read and approved by editors, not people in your field. 

FWIW: Your Handbook is under contract with a publisher. They've mostly asked me about what I want on the cover. It's not inspiring.

And she has a lot of reports from think tanks and advocacy groups. These sound impressive, but count for very little academically. They can get cited a lot, but the cites are mostly in books (see above) and newspaper articles.

My point is not to argue that Boushey doesn't know her stuff, or isn't active. Instead, it's to make clear that she has not moved in the same circles as most other economists, and pretty much everyone who's ever been a member of the CEA.

Also, recall from my earlier post "Economists of Other Denominations" that one of the issues with Marxist/radical/heterodox/post-Keynesian economists is that it's not a huge group, so they have fewer journals to publish in, fewer peers to review their stuff, and fewer opportunities for co-authoring.

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

I think Mason specifically mentioned Bernstein and Boushey for a reason. It is to emphasize a complete break with the economic advice traditional within the Democratic Party. I do not think many non-economists understand this.

In conjunction with my earlier post entitled "Stimulus Misgivings" in which I called Biden's statement that "There is a consensus among economists left, right, and center that ... we can't spend too much" a Trump-worthy lie, I now conclude that the President is being told by non-economists what economists think. I do not think many people understand this.

Lastly, I should mention that the chair of the Council of Economic Advisors is Cecilia Rouse, who has had an admirable economics career. BUT, neither Rouse, nor Bernstein, nor Boushey can be remotely considered a macroeconomist. This is problematic when the White House is kinda' sorta' the ultimate macro institution.

Why Is Macro So Hard? A General Absence of People Who Are Smart Enough

This is from Patrick McKenzie’s twitter thread, where he mostly talks about high tech insights:

There is no hidden reserve of smart people who know what they're doing, anywhere. Not in government, not in science, not in tech, not at AppAmaGooBookSoft, nowhere. The world exists in the same glorious imperfection that it presents with.

Stop voting for, say, Clinton, because you believe she had a hidden reserve of smart people.

Stop voting for, say, Trump, because he has a different/better hidden reserve of smart people.

The world is a statistically noisy place, and it’s too big for even smart people to fathom completely. Stop pretending that they can, and stop believing them when they say they do.

In macro, there are no hard answers. Just heuristics. Get used to it.

Technorati Tags: why,is,macro,so,hard,smart,people,absence

If You’re So Smart Why Aren’t You Rich–DSGE Edition

Noah Smith writing at Noahpinion offers up “The Most Damning Critique of DSGE”.

This is heady, but fascinating stuff for students on the borders of macroeconomics and finance. The comment thread is where the real action is, and it drew some big name people in.

Here’s some background. First there was Keynes. Decades later Keynesians built big macroeconometric models that didn’t work well, but were better than nothing. There’s a number of names for these: FRB-MIT or Klein are common. Klein won a Nobel Prize in 1980, in part, for developing these models.

In the 1970’s, academic macroeconomists started shooting holes in Keynesian theory and in Klein-type macroeconometric models. The big hole was shot by Lucas with what is now known as the Lucas’ critique. It says that to be useful, an econometric model needs to estimate coefficients that can be viewed as constants and used for future policy decisions. For example, a Keynesian might argue that an increase in government spending of a dollar always causes GDP to go up by 2 times as much. Lucas argued that the theory underlying the Keynesian models led to econometrics in which you’d get that estimate of 2, but that using it would cause it to change to, say, 3 … so that your policy never did what you thought it would [DIGRESSION: You may have noticed that politicians have a lot of trouble devising policies that work according to plan. Maybe Lucas was on to something.]

By the late 1980’s there were two strains of thought about how to go forward that we still use.

One was based on Sims vector autoregression (VAR for short, or its sibling the VECM). Sims won a Nobel Prize for this work in 2011. The second was Kydland and Prescott’s dynamic stochastic general equilibrium model (or DSGE). Kydland and Prescott won a Nobel Prize for this work in 2004.

The thing is, none of these three methods work very well. You may have noticed that macroeconomics can be really complex, and this is probably why.

So the view of Noahopinion is that DSGE models have failed a market test. If they were better, they’d have been adopted widely by financial firms trying to gain an edge to earn higher returns. And then he asked professionals and academics to chip in with their thoughts. This is where it gets interesting.

What follows is a lot of (seriously) informed, troll-free, discussion of how seriously we should take macroeconomics. You may not see it all clearly, but for me it touches on about a dozen different parts of the text I wrote for your class. Here’s a primer:

• Is the macroeconomy well-forecastable at all? No one is saying that it can’t be forecast, but everyone says that our ability to forecast it well is lousy. No one thinks that weather forecasts are useless just because they’re not very accurate. So perhaps we need to take the same approach to macroeconomics: the problem isn’t the models and their forecasts but our expectations of what others are able to produce for us.
• Should we expect a macroeconomy to be forecastable? This is related to efficiency in financial markets. If we can figure out what will happen in the future, and then take action to avoid what we don’t like, then it will never happen … and our forecasts are wrong. This is odd, but it’s no different than asking why you didn’t forecast your last traffic accident: sharp people recognize that the accident occurred because it couldn’t be forecast, and the accidents that didn’t occur are the ones we could forecast. Perhaps the problem is our insistence that we should be able to forecast the unforecastable. There’s a fascinating World War II story about how this came up in statistics in the footnote.*
• Can we make passable and somewhat useful forecasts without thinking too hard about the theory, by just being observant instead? We do this all the time: you don’t need to understand meteorology, or even check a weather report, to know when to take a coat with you. By the same token, can financial professionals get a lot of the benefit that’s to be had by incorporating macroeconomics into their financial decisions … by just knowing a little bit about the data, the trends, and which data go together? Formally, these are called unconditional forecasts. Often, they are based on reduced forms (regressions showing the correlations between data that don’t impose any structure on how the series relate to each other), or charts.
• Is it useful to impose Keynesian structure to understand how the data works? Seventy years ago, economists working for the Cowles Commission recognized that the data and relationships we observe are consistent with more than one story of the underlying causality. In football, this insight would be that winning teams run the football; but do they run to win the game, or run because they are winning the game? In econometrics, this is called an identification problem. Large-scale (hundreds of equations) macroeconometric models became available in the 1960’s that solved the identification problem by imposing structure from Keynesian theory. These are better than nothing, but their performance at forecasting wasn’t great and plateaued early on. One of the first shots at Keynesian macroeconomics was made by Monetarists working at the Federal Reserve Bank of St. Louis in the late 1960’s, who showed that you could match the performance of a huge and complex Keynesian model with a small and simple Monetarist model. Later, these ideas merged in the FRB-MIT-Penn model; the FRB is the Monetarist part, while the Keynesian part came out if MIT and the University of Pennsylvania. Part of the gist of the comment thread is that a lot of private firms, and most governments still use either this model, or it’s cousin, Klein’s structural Keynesian model (known as the Wharton model, and still marketed by WEFA, a division if IHS Global Insight).
• Academics started discarding these Keynesian models in the 1970’s, and by the 1980’s had started to develop dynamic stochastic general equilibrium models (DSGE’s). They had recognized that there were theoretical problems with the underlying Keynesian macroeconomics in those big models, and they reworked the theory from the bottom up to be robust to the Lucas’ critique. The football analogy is that in those big models the offensive coach drew up the play on the chalkboard, but it didn’t work out as well in the game. DSGE’s address this by arguing how the defense is going to respond to the play the offensive coach drew up, which changes how that coach would draw the play, which changes how the defense will respond, and so on. Solve that out far enough, and you have a better description of the structure underlying the data you observe. The thing is, it’s a lot of work. Noahopinion is asserting that the work wasn’t worth it because there wasn’t enough improvement in performance for private firms and government agencies to switch over to these models. Later in the semester, when we build a growth model, we’re starting down a path then ends with DSGEs.
• Both of the above approaches are structural, and they produce what Noahpinion calls policy-conditional forecasts (and which I’ll just call conditional for short). They’re called conditional because they depend on the underlying theory being correct. Forecasts are unconditional when they use less (or no) theory to relate the data together. John Cochrane’s comment argues that unconditional forecasts are OK for figuring out how to invest, but that you need a conditional forecast to figure out the variables are going to respond to a change in policy (e.g., introducing Obamacare). The football analogy is that you can probably bet on football without knowing much about the game and do OK, and that someone who digs deeper into the football data might get some edge, but not much, because unconditional forecasts work well. But, you can’t win a football game (as opposed to just betting on it) without knowing something about the structure of how the game works, and making conditional forecasts: for example, the quick kick is still legal but has largely disappeared as a football play because it doesn’t offer an advantage in the contemporary game which is structured to make it’s easier for offenses to earn yardage.
• Sims was involved in the early part of the research program that eventually produced DSGE’s, but split off quite early. His position was that the assumptions necessary to impose structure on the data were never likely to be realistic, no matter what the theory. It’s like an econometric model is a water balloon: if the Lucas’ critique is one end of the balloon, and you squeeze it to hold it still, you create a problem at the other end … and you can’t squeeze all parts of the water balloon at the same time. His approach was to impose a minimal structure on the reduced forms to produce a somewhat improved unconditional forecast. The football analogy is that a minimal structure might be that a team runs the ball early in the game because they think it will help them win, but they run at the end of the game because they are already winning. And, you don’t need to know a lot about the structure of football — what running play to call, what blocking scheme to use, and so on — to use that insight. For about 30 years it’s been known that the resulting VAR’s can match the forecasting ability of either kind of structural model, with a lot less work. When we do time series analysis is class, we are on the path that leads to VAR’s.
• If macroeconomics is both hard to understand, and hard to get something useful out of, why bother with it? Heck, why bother with macroeconomists like Tufte? This comes up in the middle of the comment thread, and leads to this other post on Noahpinion. There’s an aphorism that if your performance is going to be measured, you should give the evaluator a ruler of your choosing for them to use … because otherwise you don’t know what ruler they’ll choose. A constructive view of this problem is found by noting that people are going to discuss policy and make policy decisions whether or not there are macroeconomists around … and those policymakers often have some pretty goofy ideas.

… So if there were no academic and Fed macroeconomists around to advise policymakers, who would policymakers listen to on economic matters?

My guess: Some very dangerous people. 

For all the talk of academic macro being politicized, it's much less politicized than the macroeconomic discussion outside of the research community. My own experience is that most macroeconomists are pretty apolitical, and research supports that...but even if my sample is biased, macro's interventionist and laissez-faire schools are pretty close to each other ideologically, compared to, say A) armchair-theorizing politicians, B) TV commentators, C) the denizens of internet forums. It really is a jungle out there. You have David Stockman. You have Ron Paul and his followers. You have David Graeber and his followers. And worse. You have "Austrians" who think all of economics can be deduced from some vague derp. You have Marxists who think - well, I'm not sure, because they tend to denounce and vilify you if you even ask them what they mean, but it sounds nuts. In short you have a cavalcade of vast unending wackitude, often with a proven track record of wrecking economies and societies.

So it's possible to see macroeconomists as doing plenty of good, simply by sitting there not being absolute wackaloons. A million DSGE models from which it is impossible to select sounds a lot better to me than three or four totally nutcase worldviews, the selection of any one of which is likely to cause human tragedy on a vast scale. (Note: This idea, of macroeconomists as a vaccine against macro-lunacy, was first suggested to me by Justin Wolfers.)

• A parallel point is that perhaps the advances in macro models aren’t used by people in finance because they are far more incompetent than we’re willing to admit, and they can’t conceive that the macro models can improve on what they already “know”:

… Financial companies are run by people who don't have a very good intuition for (macro)economics. …

DSGEs will only really be accepted if they match these managers' intuitions, which will only happen if they are also broken and useless.

• Maybe financial firms don’t use macroeconometric models because macroeconomists aren’t building them to sell. I think this view is a bit childish, but there’s a big name economist in the thread making it. One of the commenters notes that his career is based on selling the output of Klein-style models, and he can’t find anyone coming out of school even trained to use them.
• Perhaps all we want is stories that seem plausible rather than theory and data that takes work. The weather analogy might work well here: why are so many TV weather people either “big personalities” or unusually attractive eye candy? Maybe it’s because we know the weather is somewhat unpredictable, so why not get a plausible story from someone we like to listen to or watch, rather than the deeper analysis you’d find on The Weather Channel. So, in the realm of policy, perhaps Obama is exactly the sort of macroeconomist that many people want.

* In World War II, England hired a statistician to help them figure out how to keep their planes from being shot down. Prior to this, the planes had come back full of holes, they’d added extra armor where the holes were, sent the planes out again … and many of them were still shot down. I’m not making this up: the statistician immediately said that they’d done the armoring backwards. The places where the planes had holes was where a bullet hit could be survived. They weren’t seeing any bullet holes in the other spots because they were leading to immediate crashes. The British military was incredulous, but followed the advice, and shifted armor to the spots without hole … and increased their rate or return on planes. This is a similar argument to why you should look for an edge by applying macroeconomics to finance, despite the fact that using macro is unlikely to lead to an edge.

Why Is Macro So Hard: Hard Data Is Still Corruptible

I am no expert in this area, so I’m not sure how this will turn out.

But … one of the things that makes macro hard is that governments are pretty good at suppressing data they don’t want people to see, and emphasizing data they do want people to see.

Which brings us to this years changes in the Census Bureau’s Current Population Survey.

The New York Times is generally thought of as quite favorably disposed towards the Obama administration. Here’s what The Times says:

The Census Bureau, the authoritative source of health insurance data for more than three decades, is changing its annual survey …

The changes are intended to improve the accuracy of the survey …

An internal Census Bureau document said that the new questionnaire included a “total revision to health insurance questions” and, in a test last year, produced lower estimates of the uninsured. Thus, officials said, it will be difficult to say how much of any change is attributable to the Affordable Care Act and how much to the use of a new survey instrument.

One of the goals of Obamacare was to reduce the number of uninsured.

So, when it’s desirable to measure whether Obamacare is making a difference, the Census Bureau is changing its measurement to make the number of uninsured look smaller.

“We are expecting much lower numbers just because of the questions and how they are asked,” … said Brett J. O’Hara, chief of the health statistics branch at the Census Bureau.

…

A major goal of the law is to increase the number of people with health insurance. … But the administration has been unable to say how many of the people gaining coverage were previously uninsured or had policies canceled, so the net increase in coverage is unclear.

Health policy experts and politicians had been assuming that the Census Bureau would help answer those questions …

… But officials said that the data for this year would not ordinarily be available until September 2015, and that the data for 2013 and 2014 would not be directly comparable with the long series of data for prior years.

Now, don’t be entirely cynical. The old questions were not good either:

Census officials and researchers have long expressed concerns about the old version of insurance questions in the Current Population Survey, and for more than a decade the agency has been trying to make it more accurate.

The questionnaire traditionally used by the Census Bureau provides an “inflated estimate of the uninsured” …

Oh. I’m sorry. Perhaps you should be even more cynical. Think about what was just said.

The old way of measuring the number of uninsured overstated the number. So they were justifying change on a number that was biased in a direction that would support change. And now, when it’s unclear if the policy change will make a difference, they’re switching to a number that’s biased in that direction.

That’s the same technique used by 4-year olds everywhere: before dinner they’re soooo hungry, but after they’ve had a cookie, they have no appetite at dinner.

But the difference can’t be that big, can it?

In the test last year, the percentage of people without health insurance was 10.6 percent when interviewers used the new questionnaire, compared with 12.5 percent using the old version.

That’s about 2%. In a population of 300 million, that’s about 6 million. And the Obama administration has been cheerleading because 7 million people have signed up. So, taking their number at face value … the vast majority of it is meaningless.

Please note that the quotes above are from the largest newspaper that generally supports the Obama administration. If this is what their friends say …

Why Is Macro So Hard: What Passes for Expert Advice

I am not making this up.

After a marathon session of decorating cutouts for Christmas, my family — covered with specks of frosting and and stray jimmies — went to McDonald’s to scarf dinner. Because we were exhausted and surly we were blankly watching the TV news programs.*

Anderson Cooper 360 was on. This is, allegedly, a serious cable news magazine.

They were discussing the troubles Republicans and Democrats are having over extending the payroll tax holiday.†

So, they turned for expert advice to … wait for it … John Paul DeJoria … the man most people think of as “Paul Mitchell” after his haircare products.‡

And my wife blurts out … in McDonald’s … in front of the kids … “Are you f***ing sh***ing me!”

She has never taken a macroeconomics class, but is certainly aware that if you want expert advice on macroeconomic policy, you should probably talk to a macroeconomist or policy advisor first.

* I can see why the news is always on in airport concourses, but of all places, why is the news always on in McDonald’s?

† Macroeconomically, the payroll tax holiday is … kind of stupid. What are we most worried about: people who don’t have jobs or people who do? Most people say the former. And what do we think is the cause of people being without jobs: because no one is hiring, or because most people don’t want to work? Again, it’s the former. The payroll tax holiday addresses neither of those problems. It is a holiday on the collection of some taxes that are withdrawn from paychecks. So, it is only available to people who work, and then helps most the people who get their income primarily from salary and wages (which are the only kinds of income from which these taxes are collected) rather than net business income. So, it’s a tax that is labeled as helping everyone, when in fact it is a tax targeted to help people who already have jobs but who’s primary focus is not employing others. In sum, it’s a double fail. Having said that, like most tax cuts, I think the money is probably better spent by households than by government, so there are some positives to it. Interestingly, when the payroll tax holiday was originally proposed by macroeconomists, it was a tax break on the contributions that employers make on behalf of their workers, and it would have helped the two groups in trouble from the top of this paragraph. But, the idea has been perverted.

‡ In his defense, Mr. DeJoria is an extremely successful businessman, who has been trying to garner media attention as someone whose life experiences are indicative of someone whose perspectives and opinions should be taken seriously. Fair enough. I think he should be trying to get on Anderson Cooper 360. I just wish the show’s producers took their jobs more seriously.

Why Is Macro So Hard? (What Passes for Expert Advice)

The source of this post is the article entitled “The Economist Who Exposed ObamaCare” from the February 8th issue of The Wall Street Journal.

The main topic of that article will be the subject of another post that we’ll cover later this week, or next. I’ve put a minor part of it here.

The article is the product of an interview with Casey Mulligan. He’s a mid-career economics professor at the University of Chicago. I’ve posted about his stuff on this blog before. The article gives off somewhat of the wrong tone at the front though:

… Many more people may recognize the University of Chicago professor as a serious economist after this week.

Macroeconomists have recognized Mulligan as an important figure in the field since the mid-90s. I think that literally that quote might be true, but figuratively I think it may give the wrong impression.

The money quote for today’s class comes from Mulligan:

Mr. Mulligan reserves particular scorn for the economists making this "eliminated from the drudgery of labor market" argument, which he views as a form of trahison des clercs.* "I don't know what their intentions are," he says, choosing his words carefully, "but it looks like they're trying to leverage the lack of economic education in their audience by making these sorts of points." [emphasis added]

I’ll be covering that argument (i.e., whether or not it’s a good thing that ObamaCare is likely to reduce employment) in the other post.

But the bold quote gets right to the heart of the matter about why macroeconomics is hard: a lot of people make macroeconomic pronouncements that either 1) don’t display much clear thinking, or 2) are targeted at listeners that are unlikely to think clearly about the issues involved.

Those kind of conclusions are tarnishing the field of economics …They're sure not making it look good by doing stuff like that."

The bigger question is why Mulligan’s position wasn’t part of the debate in D.C. until this month, years after ObamaCare was passed?

… How did Mr. Mulligan end up conducting such "unconventional" research?

"Unconventional?" he asks with more than a little disbelief. "It's not unconventional at all. The critique I get is that it's not complicated enough."

Well, then how come the CBO's adoption of his insights is causing such a ruckus?

"I would phrase the question a little differently," Mr. Mulligan responds, "which is: Why didn't conventional economic analysis make its way to Washington? Why was I the only delivery boy? Why wasn't there a laundry list?" The charitable explanation, he says, is that there was "a general lack of awareness" and economists simply didn't realize everything that government was doing to undermine incentives for work. "You have to dig into it and see it," he explains. "The Affordable Care Act's not going to come and shake you out of your bed and say, 'Look what's in me.' " [two levels of emphasis added]

Keep in mind that this is an opinion piece, coming from The Wall Street Journal, so this view shouldn’t surprise you:

Judging by their reaction to the CBO report, the less charitable explanation is that liberals would have preferred that the public never found out.

* Really good students (like you) will look up the meaning of “trahison des clercs”. I did.

Why Is Macro So Hard: Government Playing Data Games

An early part of the core lecture entitled "Why Is Macro So Hard?" is that the government actually suppresses the collection of data they don't want anyone to know about (like, say, student loan delinquency rates by major or political affiliation).

Governments also play games with the numbers. It's being reported that the state of Florida (which has been accused of playing games with COVID numbers for months) changed its reporting right before the election and changed back after the election. The result was systematically lower death numbers around election day.

Do note that there is an innocent problem here, but it appears the state used that to hide its policy.

The innocent problem is that in most places there are so many deaths that the bureaucracy in place to investigate those and keep track of them is overwhelmed and has a large backlog. This means that in most places the number of deaths reported today includes many deaths that occurred in the past and had not been reported yet. This has been a well-known problem since last spring, and everyone more or less puts up with it because there isn't much alternative. One approach to this, followed by Florida, is to allow the attending physician to make the official call instead of filing paperwork and then having the state do it. That has reduced the burden on the bureaucrats, but it introduced a new problem. Overworked doctors (rightly) don't  prioritize the paperwork, and often send in reports in bunches, weeks after the event.

OK. So I've made some excuses. Here's what's been reported as mixed in by the South Florida Morning Sentinel (the newspaper for Fort Lauderdale and Palm Beach), based on research done at the University of South Florida. The quote is long because it includes both sides of the story fairly equitably.

With minor exceptions, Florida quit including long-backlogged deaths in its daily counts on Oct. 24, 10 days before the Nov. 3 election, and resumed consistently including them on Nov. 17, two weeks after the election.

The result: The daily death numbers Floridians saw during that time were significantly lower than they otherwise would have been.

The South Florida Sun Sentinel last week began asking multiple state officials to discuss these surprising data patterns. None would answer questions. Jason Mahon, spokesman for the Florida Department of Health, did not respond to multiple requests for comment.

Thus the state’s intent in manipulating the data remains unclear. It’s possible the Florida Department of Health paused reporting of backlogged deaths as part of its new policy on reviewing them. Whatever the intent, the change led to more favorable death trends as the election approached.

The state’s reluctance to address questions about its COVID-19 data is not unusual. Throughout the coronavirus pandemic, DeSantis and his administration have engaged in a pattern of secrecy and spin, understating the spread of the pandemic in its earliest days and ordering public health staffers not to make public statements about COVID-19 as the election neared, a Sun Sentinel investigation found.

Analysts who track Florida’s numbers say they’re perplexed by the state’s pause in reporting months-old deaths. They said they, too, had asked the state for clarity but received no response.

“It’s hard to know if there was a limitation around election time or random other things were happening,” said Scott David Herr, a Florida computer scientist who tracks the daily COVID-19 data. “The Department of Health hasn’t explained why lags have been inconsistent. When they keep changing whatever is going on behind the scenes, when the lags keep changing, that is where it gets confusing.”

While public health experts say pandemic deaths are typically underreported, Republicans have complained that Florida’s death counts were exaggerated, with fatalities from other causes counted in the totals. DeSantis has speculated that the death statistics coming out of his own health department were inflated.

DeSantis’ administration has changed death reporting requirements through the pandemic, first as it grew concerned about the growing backlog and then as it began to question the validity of Florida’s mounting death toll:

Aug. 15: While county medical examiners were initially responsible for deciding whether deaths were caused by COVID-19, they became swamped with cases and fell behind. At their request, the state allowed the attending doctors to make those decisions and report them directly to the state.

Oct. 13: House Speaker José Oliva, a Miami Lakes Republican, attacked the COVID-19 death reports arriving at the health department as “often lacking in rigor” and undermining “the completeness and reliability of the death records.”

Oct. 21: Florida Surgeon General Dr. Scott Rivkees announces the state will impose another layer of review on deaths before releasing totals, saying many deaths took place more than a month before being reported or months after the person tested positive for COVID-19. “To ensure the accuracy of COVID-19 related deaths, the department will be performing additional reviews of all deaths. Timely and accurate data remains a top priority of the Department of Health.”

Within days, things changed. A key category vanished from the state’s daily tallies: deaths that occurred more than a month earlier. Such deaths have long formed a significant part of the daily totals in Florida and other states, because death reports from doctors don’t always arrive at the health department immediately, instead trickling in over days and weeks.
The impact of that change was huge. Consider: In the month that preceded the change, from Sept. 23 to Oct. 20, the state included in its daily tallies 1,128 deaths that occurred at least a month earlier — accounting for 44% of the deaths announced during that time. But in the week before the election, the health department included just one such death in its daily tallies.

Had Florida finally tackled its backlog? It had not: On Nov. 17, two weeks after the election, Florida’s daily death counts again began to consistently include deaths that had occurred more than a month before, and a large number of deaths that had occurred more than two months before, according to Salemi’s analysis.

A striking and mysterious resumption of backlogged death reporting came on Sunday, Nov. 8. On that day, the state logged the smallest number of reported new deaths in several months, just 15. And that day’s tally included the greatest percentage of backlogged deaths of any day yet — a staggering 74% of deaths reported that day were more than a month old. But because there were so few recent deaths recorded, the total tally for Nov. 8 appeared similar to the daily counts reported on the days before and after it.

The public didn’t see the actual dates of the deaths in that tally. What the public saw: a death count that declined in the days leading up to the election, and slowly climbed back up in the days after it.

The Florida Department of Health has refused to release COVID-19 death certificates to scientists or journalists to review. Until late summer, the records had been released to the public in summary form by the Florida Department of Law Enforcement, which collects death certificates from county medical examiner’s offices during states of emergency. But in August, when COVID-19 deaths stopped being funneled through county medical examiners, the information stopped being made public.

Do let me emphasize that while this appears to be an extreme case, governments around the world have been credibly accused of lying about case and death counts. 

Having said that, there have also been complaints about deaths attributed to COVID-19 that were primarily due to other causes (for example, in the U.S. doctors can list multiple causes for each person, but do not have to prioritize those conclusions).

And just about everywhere, public health officials have noted that their regular staff numbers are not sufficient to keep up with elevated numbers of cases and deaths to be kept track of.

P.S. If you don't already know this, the person in charge of reporting numbers for Florida was fired last May for repeatedly asserting publicly that the numbers were being managed for political reasons.

P.P.S. And if you don't know this already, for months she has been maintaining a separate set of numbers which she has been making publicly available. Shortly after the election, armed officers arrived at her home with a warrant and took all her computer equipment. Video of the raid is widely available online. Government officials did have reasons, but those have not yet been revealed in court.

Why Is Macro So Hard? Another "Economist" Who Isn't an Economist At All

This one is pretty hard to believe.

But there it was in the Wall Street Journal: "The Economist Whose Contrarian Streak Has Gotten Attention in Biden and Trump Camps".

Pettis isn’t a trained economist. He describes himself as “a finance guy,” ...

Now, my own biases may be creeping in here, but I think a lot of the fascination of the press with Wall Street types borders on parasitic (or worse, but this is a family blog). 

Anyway, it's a fact. So as an economics student, please put on your tinfoil hat when anyone ... I repeat ANYONE ... starts implying that people involved in buying and selling assets have special insight to macroeconomics.

A career on Wall Street ... worked in the bond divisions of investment banks Bear Stearns and First Boston. 

And for 20+ years he's been an finance professor at a very good university in China. Without actually having a degree in finance (he has an MBA with a focus in finance, and a Masters of International Affairs).† His Wikipedia page notes that he was a bond trader ... so basically ... he started in sales.

Oh ... and a punk rock music producer and night club owner in China.

Who sings this guys praises? Well, the article quotes Robert Lighthizer, Trump's first term trade representative. Again ... the problem is ... Lighthizer is an attorney, not an economist (seemingly not even a undergraduate major). And Oren Cass (another non-economist who plays one on TV) whom I trashed in the immediately preceding post. Go figure. Oh, and Katherine Tai, Biden's current trade representative, who happens to be an attorney (and definitely has zero economics training as an undergraduate or graduate student).

Who  doesn't? Well they quote Maurice Obstfeld, who's a likely winner of a Nobel Prize in the next 10 years or so for his work in trade.

“The world is really complicated. For Michael Pettis, the world is really simple,” said Maury Obstfeld ...

Maury? Can't say I've heard that before.

***

For the umpteenth time in my career ... there is nothing wrong with having opinions about macroeconomics ... and no requirement that one have any background in economics ... but the analogy here is that we keep getting told to pay attention to what the assistant basketball coach has to say about modern dance.

Macro is hard. And macroeconomists are wrong about it all the time. But articles like this don't even note that we probably a bit of an edge on this topic.

FWIW: the article is written by 2 Wall Street Journal reporters, and at least one of them did major in economics as an undergraduate.

† Do note that this sort of background would not qualify Pettis to get a tenured or tenure-track job in a finance department in an AACSB accredited school, although his experience and two books would probably be enough to keep him as qualified lecturer once he had his foot in the door.

Why Is Macro So Hard? Someone Meant Well

There’s a philosophical argument that’s much larger than mere macroeconomics, about the appropriate relationship between the ends and the means of a decision.

Does the means justify the end?

Or does the end justify the means?

There are no answers that satisfy both questions. Indeed, Thomas Sowell argued that one of the big distinctions in the political arena is whether someone is focused on motivations or consequences. Part of the craft of economics is that you need to think about both. Part of the problem with understanding economics is that politicians and bureaucrats appear increasingly skewed towards a focus on motivations at the expense of consequences.

Kevin Williamson, writing at the conservative/libertarian National Review has an excellent take on the problems with motivation as your basis for judgment.

Politicians tell us what a policy is supposed to do, what it is intended to do, and they ask to be judged by their intentions.

That paragraph continues with an extended dig at Obamacare. I’m OK with this, but isn’t good enough to quote … except for the zinger I highlighted in bold, which doesn’t make much sense without the rest of it:

The so-called Affordable Care Act, we were assured, was intended to make health insurance a better value and to make health-care institutions give their customers better service at better prices. Never mind the unspoken premise that is the law’s foundation — “We can radically increase demand for health-care services while reducing costs and improving quality because politicians are magic!” — and its inescapable contradictions. “We meant well,” they say, and that is supposed to be enough.

It isn’t.

This blog is read by non-majors, but the target audience is economics majors. As a major, here’s what your future holds in store:

It falls largely to persnickety, unpleasant eat-your-spinach types, and to certain happy souls blessedly liberated from the romance of politics by events and experience, to document that what is supposed to happen and what happens are not the same thing.

Again, there’s some hyperbole in the middle of the paragraph before another zinger:

You can raise wages at Walmart in the naïve expectation that there will be no consequences — in much the same way that all manner of bad decisions begin with the exhortation, “Here, hold my beer.” But there will be consequences.

I actually kinda’ like that vision. Without advocating alcohol consumption, can you imagine what the legislative process would look like if it was shown as reality TV, with all the legislators holding beers (and some of them probably partaking), and one of them said something like “Here, hold my beer, I’ve got to go pass some new laws.” What would you call such a show — Jacklegislator? OK. My daydream is over.

Economics has sometimes been characterized as the social science of unintended consequences.

Some unintended consequences are unforeseeable, but many are not. They are at least partly foreseeable, even if unintended, and our good intentions do not entitle us to blind ourselves to reality. …

That we can be reasonably sure that there will be unintended consequences does not mean that we know what they will be; these things are unpredictable by nature. …

So, how do we move forward in this sort of world?

[We need to] ask ourselves: How much economic chaos are we willing to accept in exchange for the small probability that we might get what we want out of economic policy? If your answer is “Not much,” then what you want is stable rules and as little policy uncertainty and regime uncertainty as you can achieve. But that means more or less swallowing something close to the whole of free-market economics like a goldfish and leaving very little room for the politicians to engage in policy entrepreneurship. It is easy to understand why politicians oppose that sort of thing.

But why ordinary functioning adults with a passing understanding of how the world works and without brain damage oppose it — and they do — is a mystery.

I’m starting my 27th year as a professor, and it was 9 years before that when I started thinking of being an economist as a career. When I started out I would have thought this viewpoint interesting, but I would have dismissed it as impractical. Two thirds of a lifetime spent watching politicians and bureaucrats get away with a balance shifted too far over towards motivations at the expense of attention to consequences has made me think it may be the only way for a country to consistently succeed.

Read the whole thing entitled “Why Walmart Is Reducing Worker Hours, After Raising the Minimum Wage — and Other Lessons in Reality Read more at: http://www.nationalreview.com/article/423413/economics-good-intentions-don%27t-guarantee-good-results”

Hat tip to Steve Karlson writing at Cold Spring Shops for bringing that article to my attention.

Why Is Macro So Hard? The Bridge's Weight Limit Problem

We've all seen signs like this:

There's an old joke about how engineers figure out these limits: they build a bridge, drive successively larger vehicles over it until it collapses, and then they rebuild the bridge and put up the sign.

Of course, in reality, do engineers try to do better than that? Well, of course they do. I'm not implying that they don't, just that we should expect some failures.

Unfortunately, most policy applied at the macroeconomic level is non-experimental. You can't run a controlled experiment to see if it will work or not. Instead, you just do it, and reflect later on whether it worked the way you thought it would. If we're lucky, the decision-makers may even update their thinking. So most of macroeconomic policy is analogous to the bridge's weight limit problem.

This came up when New Orleans was hit by Hurricane Katrina: the levees held ... until they didn't hold any more. Then we cleaned up and pointed fingers. (For readers who have never seen the levees, this was one of the biggest federal infrastructure projects in history).

And yet, Charles Marohn writing at Strong Towns notes that almost the exact same excuse was used by former Federal Reserve Chair Ben Bernanke in describing the policy response to the Great Recession:

My favorite part of that interview was Bernanke reacting to himself from a 2005 MSNB interview where he said housing problems were localized and would not impact the national economy. Here's what he said:

I absolutely – first things you said, by the way, when saying in 2005 and 2006 the economy was going to continue to do well, it did do well.  2007 was not a bad year until the end.  So, the economy was doing OK in a broad sense.  What we missed, what we didn’t anticipate, was that the decline in house prices and the problems in mortgages would generate this huge panic. So that — you know, I can’t, I can’t deny that.  I think that I wouldn’t give us a particularly good grade before the fall of 2007.  After that, when we began to see what was going on, there, we were much more aggressive in responding.

In other words, when he said things were doing well, they were doing well, until everything fell apart, and then they reacted.

Now, let's change direction a bit. Returning to the bridge joke, what do you think get's budgeted for? Building one bridge, or building two? The Katrina case should make it clear to everyone that ultimately we pay twice (or more). But that's not the way we start out. Instead, we budget one version, and then we add to that later on.

So, here's another quote from former San Francisco mayor Willie Brown:

Referring to huge cost overruns during the construction of San Francisco’s four-and-a-half-billion-dollar Transbay Transit Center, Brown wrote, “We always knew the initial estimate was way under the real cost…. If people knew the real cost from the start, nothing would ever be approved. The idea is to get going. Start digging a hole and make it so big, there’s no alternative to coming up with the money to fill it in.” [italics are from the source article]

In terms of macroeconomics, this means that you don't let on how big your policy is going to ultimately be. Instead, you start small, and add to it. Then if there's a failure, you use that to double-down and expand the program.

Oxford business professor Bent Flyvbjerg† dubs this "survival of the un-fittest":

... the least deserving projects get built precisely because their cost-benefit estimates are so misleadingly optimistic. [italics are original]

So now we've got three related issues:

• We don't really know whether some things will work until they fail.
• We don't like to pay enough for something that won't fail, so we start with something cheap and add on to it.
• We fib to ourselves about the cost of doing things right, so we end up choosing what seems cheapest (because we didn't include the opportunity costs of doing it right or doing it twice).

Is there an example of how this works in macroeconomics? Well, how about Social Security, or even better the program that was added to it in 1965: Medicare.

Of course, on the first point, Social Security and/or Medicare haven't failed. But, there have been ominous rumblings for a few decades now.

On the second point, we started with social security in 1935. This offered a government check to former workers, aged 65 and older. Life expectancy for a 65 year old at the time was 2 years. Many things have been added to our government's social security offerings: coverage for spouses and dependent children in 1939, coverage for disabled workers in 1954, early retirement in 1961 (even though people were living longer), coverage for the disabled who weren't workers (SSI) in 1972, and automatic cost-of-living adjustments in 1977. But by far the biggest one is Medicare. Initially, in 1965, this was just two parts (A and B, for hospital stays, and more general insurance). But we got Part C in 1997 (with more broader and more flexible coverage), and Part D in 2006 (with prescription coverage). Now, here's a little secret. "Obamacare" was pitched to the public as being about patient protection and affordable care. But everyone who follows policy knows that a huge part of Obamacare was new fixes to Medicare to rein in costs.

That covers the start small and make additions part of the argument. What about the idea that costs are understated because no one would agree to them?

Well, Medicare is a liability of the federal government (a liability being something that generates cash outflows rather than inflows). The money for those checks needs to come from somewhere. If not, it's called an unfunded liability. Current estimates are that the unfunded liabilities of the Medicare system are about $36T (that's the number that Obamacare reduced, by perhaps $10T). That's twice the size of the "official" national debt. That unfunded liability is not included in the national debt because it hasn't been borrowed ... yet. This sort of like carrying a $1,000 balance on a credit card, and knowing that you're going to have to put a $2,000 car repair on the card, yet still thinking that your debt is only $1,000. Well, technically it is, but this is clearly magical thinking.

Then there's the third point: did we choose to structure the laws this way because we were in denial about some of the costs? I don't know of any direct evidence to support this, but the indirect evidence is how we treat increasing life expectancy. It's no secret that life expectancy has been increasing in the United States for, well, not really decades but in fact a couple of centuries now. And yet 80 years into our era with Social Security, we still do not have any concrete plan for matching up when people can start to collect benefits with how long they can be expected generate costs to the system.

Maybe macro isn't that hard. Maybe what's hard is admitting to this pattern of behavior.

† I swear I did not make that name up.

BTW: Thanks to Cold Spring Shops to pointing me to this source article, from which I'm getting the previous entry in this series too.

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”.

China

UPDATED around 12:45 on Monday.

Do you like movies or books about political intrigue?

It’s going on right now, live, big time, in China.

This is going almost uncovered in the American legacy media. Remember the point from my Why Is Macroeconomics So Hard? lecture that journalists are availability entrepreneurs? They want to make the most about developing the stories that are available. And hard news out of China is just not that available. So, this has been in the front section of the big national newspapers the last week or so, but it was spotty before then. A lot of information is leaking from microbloggers* inside China.

Is this relevant to our macroeconomics class? Who knows. So this is mostly optional: expect for 1 softball question on the exam on this topic to keep you honest.

But, might it be relevant to macro in the future, and this class next year? I’ll have to post this now, and wait and see.

The reason to watch this is that the desire for political liberalization doesn’t strike most populations until the per capita income gets high enough: in the $5-10K range. It is no mistake that the Arab Spring started in Tunisia last year: the non-oil-producing Arab country with the highest per capita income: economists had actually been watching places like Tunisia and Morocco, rather than places like Egypt or Syria — the revolution might end in Syria but it wouldn’t start there.

And, China is just below that threshold where economic well-being starts to translate into political unrest. Economists have been watching China too: this is why I posted about the World Bank’s China 2030 report in February.

So, what’s going on? Well, there’s a lot of background, so here goes.

Formal Political Background

China is not run by a dictator, it’s more of a junta: a small collection of men who collude politically. Microeconomics teaches us that collusive arrangements are not stable.

Junta’s usually break down around the time that power has to be transferred from one person or sub-group, to another. This is why it is important for successors to be clearly designated, and given a big enough power base to defend themselves.

In China, the Communist Party still runs everything, but the party is run by a group of 9 men called the Central Politburo Standing Committee of the Communist Party of China (aka, Standing Committee). A handsome group, eh:

The Politburo is the traditional Soviet name for the guys at the top, and this is 25 men in China. The top 9 are on the standing committee. These are selected by vote, but the only people that get to vote are those at the top of the party — the 371 people on the Central Committee (and most of the voting is by bloc, and is a done deal). Based on that vote, the members are ranked. Most of the people who move up to the top group of 9 were in the second group of 25 beforehand.

The two most powerful of those are Hu Jintao (the President and # 1) and Wen Jiabao (the Premier and # 3).

The former is the big picture guy, and the latter is the day-to-day operations guy. Basically, a Chairman of the Board, and a CEO. Chinese names are expressed with last name first, so hereafter I’ll refer to these guys as Hu and Wen.

The Standing Committee has a mandatory retirement age of 67. Positions are renewed periodically after deaths, purges, and voluntary early retirement.

The term of a particular Standing Committee is 10 years. So, every tenth year they get together and push the old guys out the door, and get some new blood in.

There’s been exactly one peaceful transfer of power this way; the last one in 2002.

And there’s one coming up this fall. So, 7 guys, including the two at the top, are going away soon.

The successors are already nominally in place: current Vice-President Xi (ranked 6th) who will become President and one of the four Vice-Premiers, named Li (ranked 7th) who will become Premier. Maybe.

But, these two guys need to make sure that they get 7 new guys that will support them.

Informal Political Background

There are no independent political parties in China. But, there are factions, and figuring out the factions can give some insight. The problem is that there are two definitions of factions out there.

The first factional definition focuses on power base. The two factions are the “Crown Prince Faction” and the “Communist Youth League Faction”.

The Crown Prince Faction (aka The Princelings) is composed of the children of the old guys who were in power in the 1980s. In turn, those old guys were often generals or top party officials under Mao going back to the 1920s. They fought in the Civil War, World War II, the Revolution, and the Korean War. This faction has used their power base to get filthy rich.

The Communist Youth League Faction is composed of people who joined the party as teenagers, and worked their way up.

The old guys, Hu and Wen, are both from the Communist Youth League Faction. Li is also from the Communist Youth League Faction.

But, Xi is from the Crown Prince Faction.

The Crown Prince Faction is composed of about 250 people, many of whom are on the Central Committee (of 371)

The other way to break down the politics is to focus on the political choices they make: populist or elitist. Again, there are two breakdowns, but they line themselves up a bit differently.

The “Populist Coalition” looks to make overall life better across China, and wants to reduce social unrest. It dominates the interior provinces. This coalition is about 25% of the Central Committee.

The “Elitist Coalition” is based in the richer provinces on the coast. It is focused on exports and making money.

The old guys, Hu and Wen are both populists. So is Li.

But, Xi is an elitist.

Because of these decade long regimes in power, each group is called a generation. The outgoing guys are 4th generation and are populist. The 3rd generation guys were all elitist. The new guys, Xi and Li, are 5th generation. They have split: Xi is part of the Elitist Coalition and the Crown Prince Faction, while Li is part of the Populist Coalition and the Communist Youth League Faction. They may not get along, and Li doesn’t have Hu and Wen to back him up anymore:

The guys in this generation have been jockeying for position for decades and the finish line is in sight. If they screw up now, it may have all been a waste.

On top of all this, there are also regional cliques based around major cities, like Shanghai, or amongst alumni of the same school, as in the Tsinghua University clique.

Regional Background

So, what’s happened?

More details …

Chongqing is one of the largest and poorest cities in China. It was part of Sichuan province: big, poor, and interior. Chongqing is big enough that it was made independent of Sichuan.

Think: Houston and Texas, but Houston got made into its own state.

Chongqing has a lot of corruption. This is where work for the Three Gorges Dam (one of the largest construction projects in world history, and a huge environmental disaster) was based.

A couple of years ago, one of the group of 25, Bo, was put in charge of Chongqing and told to clean it up.

Bo is part of the Crown Prince Faction but is a fencesitter between the Elitist and Populist Coalitions. If you’re cynical, you’d probably think he is populist because it is politically helpful to him, rather than out of any personal affinity to that position.

His methods were brutal even by Chinese standards: mass arrests, torture, and execution.

The dirty work was done by Wang Lijun, Bo’s police chief. But, it’s worked, so Bo was popular. Bo was expected to move up to the top group of 9 this fall.

He is too old to eventually be at the top of the heap, but closer to the top of the pyramid is always better, right?

Bo’s successes have been a big plus for the Crown Prince Faction.

Bo is married to Gu, a lawyer and minor celebrity in China.

She is also from the Crown Prince Faction. Both families are fabulously wealthy … from connections.

And they had a British expatriate named Heywood in their entourage who has been helping them out for about 20 years. He was married to a Chinese woman and had lived in China for most of the last 25 years.

Heywood helped Bo and Gu get their kid into a prestigious English boarding school, and eventually graduate school at Harvard.

Gu also apparently holds a residency card for the UK (a real no-no if you’re part of corrupt operation, because it “gives you an out” that others don’t have). The son, Bo Guagua has not lived permanently in China in 10-15 years (but dated John Huntsman’s daughter when he was in Beijing).

The Blow-Up

Now the gory details.

Two months ago, Bo’s police chief Wang, fled to Chengdu — the capital of Sichuan.

He showed up at the American Consulate and asked for asylum to get away.

This is like fleeing from Houston to Austin, and asking the Canadian Consulate to save your butt.

Wang was chased by 70 police cars, and there was a Mexican standoff outside the American Consulate between the Chongqing police loyal to Bo, the local Sichuan/Chengdu police, and national authorities loyal to the Standing Committee.

Wang spilled all the beans, but was denied asylum because he’s a thug — and how would they get him out of there anyway?

So, the Americans pushed Wang out the door, where he was picked up by the national authorities. He’s disappeared —

out of sight for two months now. He’s undergoing “vacation-style† medical treatment”.

Wang alleged that Gu was nuts, she may have had an affair with Heywood, she put too much pressure on Heywood, he screwed up, and Bo had him poisoned.

Heywood had been found dead in a hotel room in Chongqing last fall, and was cremated without an autopsy. He had warned friends that he was in big trouble, and may have secreted sensitive documents outside China. This did not become news until Wang fled to Chengdu.

No one knows why Wang cracked and fled. But, you’ve got to think that if you’re a nationally known police officer getting chased by guys who are supposed to report to you that he must have feared for his life.

The handwriting was on the wall in February: Bo was in big trouble.

Then last month there were rumors that a coup was suppressed in Beijing. It now appears this may have been true, and put on by supporters of Bo (Princelings?). Other reports suggest that Bo called in his Army friends for his own protection, but was not staging a coup.

Bo has now been removed from power. Bo and Gu have been arrested and charged with murder.

They have not been seen for days.

It looks like the Standing Committee has united and decided that these folks have to be pushed overboard. But, how does that work when Bo has connections?

Oh … and there have been nationwide internet outages sporadically. You don’t think this has to do with information control, do you? Certainly those coup rumors were squashed. Either way, the telecom companies have stated publicly that the outages are not with their equipment.

The bottom line of all of this is that it’s a bit like an auto race when parts start to fly off cars: you know something bigger might happen soon. This may turn out to be nothing. Or maybe not. Stay tuned. Here’s The Financial Times view from just this morning. And don’t forget about what I said: as an economist, you need to watch China as prosperity pushes liberalization.

P.S. The son, Bo Guagua, holed himself up in his $3K/month condo in Boston.

Last Thursday, after reporting that he was under surveillance by unknown Chinese nationals, he was removed by uniformed security to a helicopter. It is believed he may have defected.

* I learned something interesting about China this past month. Microblogging (like Twitter) is a much bigger deal there because the 140 character limit allows for much greater information content when you are choosing from 5K Chinese idiograms than from our 26 letters.

† The comedian George Carlin frequently picked on the usage of euphemisms to cover true meanings. One of the points he made that when you hear the word “style” appended to something, it usually means that the something is actually absent. I’m channeling Carlin here a bit, and he used to swear a lot, so what he would have said is that “vacation-style” means no f***ing vacation.