The Great Stagnation and Total Factor Productivity

Tyler Cowen responds to some of the Great Stagnation critics by pointing to trends in total factor productivity (TFP):

The critical responses to The Great Stagnation prefer to attack median income measures and in general they are reluctant to talk about total factor productivity.  Yet we are pointed very much toward the same conclusion.

The point is that the Great Stagnation theory matches nicely with the standard story of TFP growth:  there was a "golden age" of TFP growth during the1948-1973 period, but thereafter it stalled  until about 1995.  That is an interesting rebuttal from Cowen, but haven't we made some impressive TFP gains since 1995 given the advances in technology?  To see just how marked this TFP decline was after 1973 and whether the recent TFP gains make up for any of the loss, I went to the data.  Below is a figure constructed using the quarterly TFP series of John Fernald at the San Francisco Fed. (Click on figure to enlarge.)

Okay, I am impressed and far less skeptical of the Great Stagnation theory. In my previous post I argued that Cowen failed to appreciate how dramatically our lives have changed since the advent of the internet and faster computing.  Now I am thinking these gains are but a faint shadow of what they could have been had TFP continued to grow at its 1947-1973 trend.  The "good old days" really were better in terms of TFP growth.

Still, I wonder how much of the true, underlying TFP gains are being measured given the large share of our economy that is in the service sector, where  output and productivity are hard to measure.  Also, I am optimistic that we are on the cusp of a Great Acceleration for the global economy.  Technological gains continue and the rest of the world's catch up growth is bound to create positive spillover effects for the  advanced economies. As I mentioned before, imagine what will happen to R&D funding on cancer and AIDS once several billion Asians are rich enough to start demanding it.  (In fact, they may be a big part of the solution to U.S. health care problems.) This HSBC report also makes the case for an impending Great Acceleration.  I am optimistic about the future.

CTU's Jack Bauer on the Great Stagnation Hypothesis

I have been reading with interest the discussion surrounding Tyler Cowen's new book, The Great Stagnation.  The main argument of the book is that the technological progress has slowed. We have picked the "low-hanging fruit" of economic growth and now are mired in slow growth.  Count me a skeptic on this one.  I believe we have just gone through one of the greatest technological innovations of our time with the advent of the internet and faster computing.  Moreover, these technologies are still improving and the potential positive spillover effects from the rest of the world catching up with the advanced economies are tremendous (e.g. imagine what will happen to R&D funding on cancer and AIDS once several billion Asians are rich enough to start demanding it).  Rather than a great Stagnation, I see us at that cusp of a Great Acceleration.

Regarding the past few decades, Cowen cites the decline in median income to support his thesis.  I can only cite anecdotal evidence, but it is highly convincing to me.  The evidence is this: ask yourself how much more productive you are today than you were before the internet and faster computing. In all areas of my life--work, family, travel, enertainment, religion, health, recreation, etc.--I can come up with many examples of where I am now more efficient (or at least have the potential to be more efficient). Some of these gains  get reflected in official statistics.   Many, however, do not as they are hard to measure.  This is not surprising since most of these gains are in the service sector of the economy, a sector where output and productivity have been notoriously hard to measure. For this reason, I believe the data understates the economic gains over the last few decades.

To rectify this measurement problem, I thought I would make an exhaustive list of the all the productivity gains in my life that are the result of the internet and faster computing.  But then I realized, one, nobody  would want to see them and, two,  CTU's Jack Bauer could do a much better job than I ever could.  Yes, the famed counterterrorism agent from the show 24 knows first hand how much more effective he is at getting the terrorists because of these gains.  You see, he tried his hand at counterterrorism in 1994 and was not too successful because the technology just was not there.  Here is a video clip that documents his problems:

While humorous, this video clip makes it very clear why I find it hard to buy into the Great Stagnation Hypothesis.

Update: I failed to provide links to the Great Stagnation discussion.  Those sympathetic to this view include Scott Sumner, Mike Mandel, Matthew Yglesias, and Paul Krugman.   Those more critical of it include Bryan Caplan, Arnold Kling, Ryan Avent, Mark Thoma, Steven Horwitz, Karl Smith and Josh Hendrickson.

Could a Spike in the Demand for Honey Buns Cause a Recession?

The answer is no for most of us.  If, on the other hand, you live inside a Florida prison then the answer is yes.  For the economies inside Florida prisons now use honey buns as a medium of exchange.  And as Nick Rowe has tirelessly explained, recessions can only occur when there is an excess demand for the medium of exchange. I am not sure, though, what a prison economy recession would look like...

(HT Tyler Cowen)

Student Managed Investment Fund

One of the events I enjoy attending  here at Texas State University is the semester-end presentation by our student managed investment fund (SMIF).  This fund consist of a group of select undergraduate students  who manage a small portion of the endowment belonging to the McCoy College of Business at Texas State University.  SMIF started in 2006 with $100,000 dollars. Since then, the students have performed as well and is some cases better than the professionals who managed the rest of the endowment.  As a result, they are now managing $250,000 and are slated to get $300,000 in Fall 2011.  Students in SMIF are assigned to be sector-specific analysts and a few among them get put on the investment committee that makes the final investment decisions.  Yes, students do get course credit for their work in SMIF, but more than that they get  real investing experience.  Very few  universities offer such an opportunity to undergraduates.  Programs like these make me proud to be a part of Texas State University.

Tonight is the semester-end presentation and for the first time it will be streamed on the internet.  Click here if you are interested in watching the students explain their investment choices over this semester.  It will take place at 5:30 pm CST.

What a Mess

Dhaval Joshi awhile back discussed the $4 trillion dollar mortgage problem:

Can the US economy really return to “business as usual” when it has 4 million houses surplus to requirement, when 1 out of 4 mortgages are in negative equity, and when by our calculation, it is burdened with $4 trillion of excess mortgage debt, equivalent to 30% of GDP?

For many years, total mortgage debt consistently and reliably equalled 0.4 times the value of the US housing stock. Intuitively, this average of 0.4 makes perfect sense as every property usually has a mortgage ranging from 0 to 0.9 times its value. So in 1990, $6 trillion of housing collateral could support $2.5 trillion of mortgages, and by 2006, $23 trillion of housing collateral could support $10 trillion of mortgages. But since then, the US housing stock’s value has slumped to $16 trillion which means the amount of mortgage lending supportable by the collateral has plunged to $6 trillion. However, actual mortgage debt has remained at $10 trillion – $4 trillion too high.

The fact that mortgage debt has barely declined suggests that relatively few homeowners have defaulted on their mortgages or paid off debt yet. Instead, a quarter of all borrowers are sitting on negative equity. That’s just as well – because were mortgage debt to shrink by even half of $4 trillion, the US economy would slump.

Here is the accompanying figure:

[Update: the greenish line in the top panel should be labeled "U.S. residential real-estate assets multiplied by 0.4." The 0.4 represents the how much mortgage debt has been as a percent of the U.S. housing stock historically.  Joshi considers it the sustainable level of mortgage debt given the collateral value of housing. I added the second paragraphs above to make this clearer.]

 
I was reminded of Joshi's article after reading this by Tyler Cowen:

It seems increasingly clear that we must [let house prices fall].  For how long can the government prop them up?  Are we never to have a private market in mortgages again?

Yet what happens if we let them fall?  Arguably many banks would once again be "under water."  Enthusiasm for another set of bailouts is weak, to say the least.  Our government would end up nationalizing these banks and it still would be on the hook for their debts.  The blow to confidence would be a major one, especially if along the way we saw a recreation of a Lehman or Bear Stearns or A.I.G. episode.

I increasingly believe there is no easy way out of this dilemma and it is a major reason why the U.S. economy remains stuck.  Housing prices must fall, yet...housing prices must not fall.

What a mess we are in.  So what can be done? My recommendation is (1) have the Fed take more aggressive actions to stabilize the macroeconomy which would make it easier to (2) do the structural changes needed to address the problems outlined above.  One specific structural proposal would be to swap underwater mortgage debt for equity. What suggestions do you have?

Gouge Away

James Kwak is incensed at how ECON 101 has warped people into thinking it is appropriate to let prices rise following a sudden shortage in supply, such as after a natural disaster.  He decries the fact that "Econ 101 is diametrically opposed to human beings’ intuitive sense of fairness. Yet public policy largely follows the dictates of Econ 101."  I was surprised to read this coming from the normally thoughtful James Kwak.  I was even more surprised to see that the best he could to justify such price gouging was the following:

They [the folks who believe a price increase is okay] know enough to know that if there is a demand shift, not only is it OK to raise prices, but you should raise prices in order to clear the market. In this case, supply is fixed in the short term, so raising the price won’t increase supply; the Econ 101 argument is that raising the price allocates the shovels to people who will derive more utility from them (because they will pay more), thereby increasing social welfare.

Of course, he quickly dismisses this line of reasoning:

But this rests on a huge assumption: that willingness to pay is the same as utility. Unfortunately, however, this assumption fails in the real world; poor people simply can’t pay as much for snow shovels as rich people, and as a result a price increase will allocate shovels to rich people, not to those who need them the most.

As noted by Adam Ozimek this analysis is woefully incomplete.  Here is an edited version of the comments I left at Kwak's blog:

The analysis is grossly inadequate here. First, the supply may be fixed in the short run, but by allowing prices to rise there will be eventually an increase in supply. For example, a town hit by a hurricane does have a fixed supply of generators. If prices are allowed to rise  then at some point they get high enough to induce suppliers from outside the city to start bringing additional generators to the devastated area. If there is no price increase they have no incentive to send their extra generators. Likewise, good old boys from out of town may decide it is worth their while to throw some chainsaws and other tools in the back of their pickups and head down to disaster-hit town if they think they can earn higher fees. If price gouging laws are put into place these good old boys stay at home and the recovery takes longer. In short, by allowing higher prices there is a dynamic effect on supply that ultimately improves human welfare.  

Second, the critique that willingness to pay is not the same as utility similarly misses some important points. It ignores that the “rich” people may be banks, grocery stores, and hospitals–the very entities we want scarce resources like generators going to in a crisis so that we can get money, food, and healthcare. It also ignores the fact if resources aren’t allocated by price they will be allocated by other means that will not seem anymore fair. For example, owners of hardware stores might allocate by first come, first serve or by who they know. One can easily imagine the “rich” getting to the hardware store first or the connected getting the goods because they know the owner. The big point here is that Kwak's analysis offers up no meaningful alternative allocation method and that is because there is none.

ECON 101 also tells us that if folks like Kwak want a more equitable outcome then give out income vouchers or some other kind of income subsidy during the crisis. That way you get relief to those in need without distorting the price system, the very thing which works to hasten the recovery.  If you truly care about improving human welfare in such circumstances your battle cry should be "Gouge Away!"

Smackdown of the Month

Compliments of Ken Houghton.

Thinking of Grad School?

You may want to reconsider.

Unfair, But Hilarious

Where is the U.S. Currency?

About $450 billion or two-thirds of all U.S. currency notes are held outside the United States according to a 2006 U.S. Treasury report. This effectively amounts to an interest-free loan for the United States as it has simply exchanged at some point in the past ink-stained paper for $450 billion worth of goods and services. To boot, the purchasing power of the dollars has eroded making the eventual repayment of these interest-free loans even easier. Of course, if the dollars are never returned to the United States then it is an even better deal for the United States. This is just one of the perks to having the main reserve currency of the world.

So which countries in the world have been so generous to the United States? Here is a table from the Treasury report that accounts by country for about $250 billion of the total U.S. currency notes held abroad (click on figure to enlarge):


Unsurprisingly, most of the currency is being held by emerging and developing economies. Presumably all of these countries at some point in the past had some form of monetary instability and, as a result, their residents are now demanding a relatively safe alternative form of money, the dollar. So what denominations are these folks holding? Linda Goldberg has put together a nice chart that answers this question:

It is interesting to see the increasing demand for $100 bills and the decreasing demand for $50 and $20 bills. Maybe the dollars are being held more as a store of value than a medium of exchange and, thus, the larger bills are more in demand.

Interest Payment on Excess Reserves Smackdown

Thomas Palley provides a critique of the Fed's policy of paying interest on excess reserves:

The Federal Reserve has recently activated its newly acquired powers to pay interest on reserves of depository institutions. The Fed maintains its new policy increases economic efficiency and intends it to play a lead role in the exit from quantitative easing. This paper argues it is a bad policy that (1) has a deflationary bias; (2) is costly to taxpayers and that cost will increase as normal conditions return; and (3) establishes institutional lock-in that obstructs desirable changes to regulatory policy. The paper recommends repealing the Fed’s power to pay interest on bank reserves. Second, the Fed should repeal regulation Q that prohibits payment of interest on demand deposits. Third, the Fed should immediately implement an alternative system of asset based reserve requirements (liquidity ratios) that will improve monetary control and can help exit quantitative easing at no cost to the public purse. Now is the optimal time for this change. Lastly, the paper argues the new policy of paying interest on reserves reveals the troubling political economy governing the actions of the Federal Reserve and policy recommendations of the economics profession.

Read the rest here.

And I Thought New Zealanders Were Tough on Their Central Bankers

From NPR we learn the North Koreans show no mercy to central bankers:

If media reports in South Korea are accurate, earlier this month, North Korea hauled its equivalent of Alan Greenspan[,Pak Nam Gi,] in front of a firing squad.

[...]

Many analysts believe Pak was made a scapegoat for the currency reform.

So what went wrong? It seems that the currency "reform" was more of a currency debasing:

The currency reforms were meant to confiscate merchants' wealth and give it to farmers, workers and soldiers in the state sector. Many state-owned firms have fallen idle, and their workers have gradually migrated to the free markets to survive.

The plan worked, at least for a while, says Kim Yun-tae, secretary general of the Network for North Korean Democracy and Human Rights, a Seoul-based group that gets information from a network of informants in North Korea.

"The government printed money and distributed it to farmers and the lower classes," Kim says. "People loved it at first. But when the working class spent all that money, it was eaten up by inflation, and their lives got even harder."

Another needless tragedy for North Korea and another needless disruption to the welfare of North Koreans.

Further Evidence that the Future Belongs to Statisticians

From The Economist:

EIGHTEEN months ago, Li & Fung, a firm that manages supply chains for retailers, saw 100 gigabytes of information flow through its network each day. Now the amount has increased tenfold. During 2009, American drone aircraft flying over Iraq and Afghanistan sent back around 24 years’ worth of video footage. New models being deployed this year will produce ten times as many data streams as their predecessors, and those in 2011 will produce 30 times as many. Everywhere you look, the quantity of information in the world is soaring. According to one estimate, mankind created 150 exabytes (billion gigabytes) of data in 2005. This year, it will create 1,200 exabytes. Merely keeping up with this flood, and storing the bits that might be useful, is difficult enough. Analysing it, to spot patterns and extract useful information, is harder still.

This is why Hal Varian is right when he says the sexy job in the next decade will be a statistician.

Ben Bernanke and the Super Bowl

William Wei directs us to this CNBC interview of Super Bowl players:

The Keynes and Hayek Rap

I was able to see this rap video's debut in Atlanta at the AEA and really loved it. Russ Robert and John Papola are to be commended for a job well done. For the intellectual history behind this rap video see this page. [See updates below]



Update I : On a related note here is an interesting paper titled "Hayek versus Keynes on How the Price Level Ought to Behave" (gated) by George Selgin.

Update II: On another related note, William White says the future of macroeconomics should be shaped by a synthesis of Keynesian economics, Austrian economics, and Minskian economics. I think such a synthesis would point to monetary policy that (1) targeted nominal spending and (2) implemented a robust macroprudential framework. See here for more of White's insights leading up to the crisis.

The Stand-Up Economist

The Chronicle of Higher Education profiles the economist and comedian Yoram Bauman.

Taking the Long View

It is easy to get caught up in the issues of the day and lose sight of important long-term structural developments. That is why I appreciate Niall Ferguson's work as it provides a broad, long-term perspective on recent events. Via Joe Wisenthal, here is Ferguson's latest interview where, among other things, he discusses the long-run outlook for the United States in terms of security, finance, and influence:

A 100 Trillion Dollar Zimbabwe Bill

Previously on this blog I have looked at the extent of hyperinflation in Zimbabwe and as well as recent progress (i.e. the defacto dollarization of the economy) the country has made in overcoming this problem. I bring this up because today one of my former students gave me the following Zimbabwe bill dated 2008 (click on pictures to enlarge):


Yes, this a 100 trillion dollar note with fourteen zeros. Note that the bill apparently has several anti-counterfeiting measures like the golden bird statue on the right front. That is surprising; surely the opportunity cost of counterfeiting this bill far exceeded any benefit. Just how worthless is this currency now? Below is a picture that answers this question succinctly (click on picture to enlarge):

A Good Time at the SEA Annual Meetings

Earlier this week I attended the Southern Economic Association annual meetings in San Antonio, Texas. Among other things, I was part of a session at the meetings whose participants all happen to agree the Fed let the ball drop in late 2008, early 2009 by effectively--though not intentionally--letting monetary policy tighten: George Selgin, Scott Sumner, Josh Hendrickson, and of course myself. (See here and here for evidence of this tightening.) Our session went well (Larry H. White agrees) and we were able to chat some more over meals along the riverwalk. The conversations were great and covered everything from blogging to nominal income targeting to fiscal policy. I left the meetings more convinced than ever that a nominal income target would have done a lot to prevent the crisis--in terms of minimizing the buildup of economic imbalances during the 2003-2005 nominal spending boom as well as the late 2008, early 2009 nominal spending collapse--and is the best way forward for U.S. monetary policy given the current institutional arrangements in the United States. I want to thank Josh Hendrickson for organizing the session.

Interesting Interviews

I found these two interviews interesting. First, Zanny Minton Beddoes, the economics editor at The Economist, joins Aaron Task of Tech Ticker for a conversation on the global economy.



Second, Niall Ferguson, an economic historian from Harvard University, talks with Aaron Task about the decline of the U.S. empire relative to the ascent of the Chinese empire.