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January 2009

Hide the women and children . . .

. . . Mark Steyn is going off.

And if this were 1993 again, that just might do. But it’s not, and perhaps the silliest part of the new president’s speech was this: “On this day, we come to proclaim an end to the petty grievances and false promises, the recriminations and worn-out dogmas that for far too long have strangled our politics. We remain a young nation, but in the words of Scripture, the time has come to set aside childish things.”

Sounds nice, doesn’t it? Put aside the bitter partisanship, so “childish” and “petty,” and we can all be grown up about this and do the things that need to be done. The idea of a politics conducted within less ideological and more technocratic bounds is seductive. It’s how things work in much of Europe: You have a choice between a left-of-center candidate and an ever so slightly right-of-left-of-center candidate, and, regardless of which one you plump for, you wind up with the same old smidgeonette right-of-left-of-right-of-left-of-center government. The result has been to deliver a society of permanent high unemployment, unaffordable entitlements, and deathbed demographics—even before the economic downturn put more immediate question marks over the future. As Obama was inaugurated, rioters were besieging their parliaments in Iceland, Latvia, and Bulgaria, the beginnings of a civil unrest that will spread inward from the fringes of the European map. Unlike Ashton Kutcher, these people are not worried about arts-education mentoring.

Murphy vs. DeLong and the macroeconomics of my youth

If you haven't seen it yet, Kevin Murphy of the University of Chicago has reduced the question of whether the fiscal stimulus will have net benefits to a single inequality, an inequality that is a function of just four parameters. (Video, that also includes presentations by John Huizinga and Robert Lucas; slides for just Murphy's presentation.) Murphy gives his estimates of the four parameters and concludes that the stimulus's costs outweigh its benefits.

Brad DeLong of Cal-Berkeley, accepting the inequality for the sake of argument, gives different estimates of the four parameters and concludes the benefits are much greater.

Ah, this reminds me of the macroeconomics of my vanished youth, when macroeconomists estimated multipliers and slopes and fought--sometimes bitterly--over those values. The macroeconomics of my youth, when I thought that someday, given enough thought by brilliant economists and enough sophisticated econometrics, one side or the other would have to concede, at least mostly, and the world would have something approaching a consensus.

So will other economists attempt to estimate and debate the four parameters in Professor Murphy's elegant little inequality. I think so.

Will there be a consensus this time?

I won't be holding my breath.

UPDATE: Arnold Kling adds two things to Murphy's equation. One, catchy names for the four parameters: the Keynes Effect, the Housework Effect, the Galbraith Effect, and the Feldstein Effect. (In economics, 37% of the success of a theory is determined by whether or not the theory involves catchy names. That's the Newmark Number.) And two, he reminds us that the parameters are almost surely not constant. That is, whatever the values are for a $10 billion stimulus, the values are probably different for a $1 trillion package.

Another (implied) vote to lay a lot of the blame on the ratings agencies

Richard Caballero of MIT analyzes the causes of our financial problem. Interestingly, he doesn't blame Greenspan and he supports Bernanke's "savings glut" theory. The worldwide hunger for safe assets was met, in large part, by the AAA tranches of subprime mortgages.

Under this perspective, there is a more subtle angle on subprime mortgages than simply being the result of unscrupulous lenders. The world needed more assets and the subprime mortgages were helping to bridge the gap. So far so good.

However, there was one important caveat that would prove crucial later on. The global demand for assets was particularly for very safe assets – assets with AAA credit ratings. This is not surprising in light of the importance of central banks and sovereign wealth funds in creating this high demand for assets. Moreover, this trend toward safety became even more pronounced after the NASDAQ crash.

Soon enough, US banks found a “solution” to this mismatch between the demand for safe assets and the expansion of supply through the creation of risky subprime assets; the market moved to create synthetic AAA instruments. 

This "solution" wouldn't have materialized if the ratings agencies hadn't had distorted incentives to hand out AAA ratings freely.

Another fine Joel Spolsky piece

Joel raises an interesting question:

How do you properly compensate an employee for a smash-hit, million-dollar idea? On the one hand, you could argue that you don't have to -- a software business is basically an idea factory. We were already paying Noah for his ideas. That was the nature of his employment agreement with us. Why pay twice? . . .

Throughout my career, I have observed that companies with formal systems that tie cash bonuses to performance end up with far more than half of their staff sulking and unhappy.