Joseph Stiglitz on why we are at the brink of stagflation

Joseph Stiglitz, Nobel Laureate in Economics and author of the book Making Globalization Work, recently posted a column Stagflation Cometh.  He concludes by hoping central bankers around the world will understand that much of their inflationary pressures are being "imported" and not raise interest rates, as would be appropriate if the inflationary pressure arises from excess domestic demand.  But the most interesting part of his piece is his assessment of why we are where we are.  Here are two key paragraphs: 

"Until now, three critical factors helped the world weather soaring oil prices.  First, China, with its enormous productivity increases--based on resting on [sic] high levels of investment, including investments in education and technology--exported its deflation.  Second, the United States took advantage of this by lowering interest rates to unprecedented levels, inducing a housing bubble, with mortgages available to anyone not on a life-support system.  Finally, workers all over the world took it on the chin, accepting lower real wages and a smaller share of GDP. 

"That game is up.  China is now facing inflationary pressures.  What's more, if the US convinces China to lets its currency appreciate, the cost of living in the US and elsewhere will rise.  And, with the rise of biofuels, the food and energy markets have become integrated.  Combined with increasing demand from those with higher incomes and lower supplies due to weather-related problems associated with climate change, this means high food prices--a lethal threat to developing countries." 


Do union members put values above selfish economic interests?

At a rally yesterday hosted by Service Employees International Union (SEIU), John Edwards drew much louder and longer applause for his promise to restore the protections of the Constitution than he did for any of the economic and populist red meat he threw out.  I need help understanding why.

Edwards spoke to about 1,000 mostly union members at the SEIU headquarters in Los Angeles.  I saw T-shirts and signs for SEIU, the carpenters union, and the United Steel Workers.  The ethnic makeup was overwhelmingly Hispanic and Anglo with just a few African-Americans. 

Edwards gave his whole stump speech to a friendly but restrained crowd.  They applauded his positions on universal health care, ending combat presence in Iraq within a year, and criticizing Governor Schwartzenegger for proposing 10% cuts in K-12 education, health care, and aid to the poor.  They cheered his call for an increase in the minimum wage to $9.50 and his support for easier unionization.  As far as I could tell, Edwards pressed all the other union hot buttons too and got expressions of approval.  Along the way he also got applause for decrying the greed of the haves, and the cruelty of health insurance executives. 

But then toward the end of his speech, this odd thing happened.  He promised to have the federal government to start complying with the Constitution again.  Specifically, he said that Guantanamo and all secret prisons around the world should be closed, that "extraordinary renditions" should end, that our government should never torture people--no exceptions--and that the federal government should stop spying on Americans. By a large margin, this part of his speech got the loudest and longest applause of anything he said.  Why?

Did the crowd hold human rights and civil liberties more dearly than the economic issues that I presume are at the core of their union affiliations? 

As I recall, nothing else Edwards said could be as easily interpreted as a direct personal attack on President Bush.  Did the crowd sound off to register its strong disapproval of Bush? 

Something else?  I'm stumped.


Now you can choose to get updates by email.

I have had reports that the RSS (Really Simple Syndication) feed method of getting update notices was not convenient or maybe not workable in some browsers.  So I have modified the "Subscribe" section in the sidebar to allow guests to sign up to receive an email every time I add a new post.  I have also completely revised the "FAQs about Blogging" section to explain both processes. 


Bill Buckley calling for government to impair contract obligations.

Bill Buckley, yes that Bill Buckley, says mortgage lending should have been regulated by the federal government, and now the federal government should impose a moratorium on foreclosures to ameliorate the subprime mortgage crisis. Further, he seems to say that in general regulation is necessary to make markets work.  I can't even imagine what would cause a free market movement conservative and founder of National Review to say such things.  Thanks to Paul Krugman's blog for bringing this to my attention. 


Can good economic policies be based on what our leaders learned in university 50 years ago?

When I started talking and writing about economic issues two years ago, I often got a response like, "I learned in economics in college (or business school) that . . . , and that's inconsistent with you just said (or wrote)."  Well, I know what they learned because I learned it too, and the reason I brought it up is that I think there are problems with the old doctrine.  Usually, I get open-minded consideration of discrepancies between current reality and what we were taught, but I'm depressed by a video of Pete Peterson saying this: 

"I was taught at the University of Chicago and Northwestern that it was terribly important for countries to have savings and to invest a lot in the future and that that had a lot to do with how well they're doing." 

Peterson is Senior Chairman of The Blackstone Group, former Chairman of the Federal Reserve Bank of New York, former Secretary of Commerce, retired Chairman of the Council on Foreign Relations, and number 165 on the Forbes 400 list of the world's wealthiest people.  He graduated from Northwestern in 1947 and the University of Chicago in 1951, and he starts and ends his analysis that the US economy is in trouble by saying our national savings rate isn't as high as he learned 60 years ago it should be!  Good grief! 

Does he not remember that the economic doctrine being taught then was largely developed when America's economy was still predominantly agricultural and that when he was learning this doctrine the US was in a post-war boom while the rest of the industrialized world was being rescued by Marshall Plan aid?  Did he not notice that in those days national savings tended to be invested at home and "Eurodollars" were an oddity, whereas today the most significant feature of globalization is that investment capital easily flows across borders in enormous quantities?  Certainly on a worldwide basis there is plenty of capital seeking investment opportunities today--that's why interest rates have been so low (making the arbitrage opportunities for The Blackstone Group and other private equity and hedge funds so great).  What is the importance of a national savings rate in a global economy, Mr. Peterson?  Does what you learned 60 years ago give any useful guidance about that? 

I share Peterson's concern that it is China, Japan, and petroleum exporters that are doing the saving and that Americans are selling them our assets in order to keep spending on current consumption, sort of like burning the furniture to keep the house warm.  But, I seriously doubt that scolding Americans (as Peterson does in the linked video) for their moral laxity in spending now instead of deferring their gratification will be effective or that we could avoid a recession if middle class Americans start spending less and saving more.  And I am beyond appalled that Mr. Peterson and so many others who make our important economic decisions have no better models of current reality upon which to base their decisions than theoretical models they learned 60 years ago.  The officers of the Titanic and the Exxon Valdez had more situational awareness. 


Those who argue that globalization is inevitable sound a little panicky.

Alan Blinder's NYT op ed today urges the next President to use the bully pulpit to "explain why globalization is both (a) inevitable and (b) more an opportunity than a threat."  The inevitability argument is out there a lot.  It's in the NYT editorials.  It's in Tom Friedman's The Earth is Flat.  We will hear it a great deal in the Presidential election campaign.  This begs the question, if it's inevitable, why talk about it? 

I suggest the answer is that, even assuming globalization in some form is inevitable, many of those who make this argument are acutely aware that the specific ways in which globalization proceeds are very much subject to negotiation and power politics.  Having so far successfully controlled the implementation and realized the "opportunity," they very much don't want to lose or share control of that process with those who have realized the "threat." 


Iraq in a Nutshell as of December 2007

For a comprehensive, balanced 7-page assessment of the military and political situation in Iraq by retired General Barry McCaffrey after his visit in December 2007, click here. He concludes that the force level that the US could feasibly maintain in Iraq over the decade to stamp out an insurgency is half or less of what would be needed to "probably succeed." 

McCaffrey's assesses (top of page 10) that "an active counter-insurgency campaign in Iraq could probably succeed in the coming decade with twenty-five US Brigade Combat Teams."  In January 2007, we had 15 combat brigades in Iraq.  Then the "surge" announced by Bush added 5 more combat brigades by mid-year.  In September, General Petraeus re-affirmed the plan to reduce the level back to 15 combat brigades by July 2008.  New York Times, September 11, 2007.  This reduction has been widely reported as being absolutely necessary because the military is too small to sustain higher troop levels beyond then.  McCaffrey says, "We can probably sustain a force in Iraq indefinitely (given adequate funding) of some 10+ brigades.  However, the US Army is starting to unravel." 

If we know we have only about half the resources necessary to give us a probability of military success, what should be our strategy? 


Ron Paul and Hillary Clinton Stick Out Like Sore Thumbs.

The print edition of today's New York Times has a very interesting chart summarizing each of the 13 Presidential candidates' positions on 8 top issues. National at 14-15. When comparing their positions on Iraq, it struck me that if Hillary Clinton and Ron Paul were to switch parties there would be almost complete consensus within, and apposition between, the two parties concerning Iraq.

As summarized by the Times, Clinton's position is-- 

Start phased withdrawal within 60 days of taking office, with the goal to have most troops out by the end of 2013. Leave a residual force in Iraq to fight terrorist groups, deter Iranian aggression, protect the Kurds and possibly support the Iraqi military.

She seems more committed to Mr. Bush's War than Mr. Bush is. Bush has announced a troop drawdown starting in March 2008, but Clinton is talking about March 2009, and she won't complete the redeployment until after her presumed re-election in 2012. Clinton's position seems indistinguishable from all the GOP candidates except Ron Paul. No wonder she won't back away from her vote to authorize the invasion.

In sharp contrast, it appears all the other Democrats and Ron Paul have a near consensus about what should be done: The bulk of our troops should be out of Iraq sometime between "immediately" (Paul) and the end of 2009 (Richardson), and some residual forces for training, security, and other non-combat missions should be left in Iraq or stationed in neighboring countries.

Unfortunately, the chart is not available on the NYT website because, I assume, it's just too big for a computer screen. Other issues charted are health care, taxes, detainees, interrogation, immigration, energy, and climate.


Paul Krugman Says I “Have a Point and Deserve Some Respect!”

The New York Times editorial board has consistently advocated for "free trade agreements," even those they haven't read. Yesterday, in a full page New York Times ad, the Consumer Electronics Association asserted that opposing the Columbia Free Trade Agreement is indistinguishable from a desire to re-introduce Smoot-Hawley protectionism. In today's column, New York Times columnist and long-time trade booster, Paul Krugman, called a time out and sent both to their rooms.

Krugman made his chops as a young economist "advancing" theory about international trade, including publishing several influential papers and writing a successful textbook. He endorses a theory that trade between countries that have very different "factor endowments" can have "large effects on income distribution, and leave large groups worse off," as he explains in one of his blog posts, "Bit of background on today's column." Cutting through the jargon, this means that if a high-wage nation like the USA trades extensively with a low-wage nation like China, some large groups in the USA will have lower incomes.

In 1995 Krugman published a paper in which after looking at available data he concluded that any such effects on the US economy were only "modest." Not any more. In today's column, Krugman says, "The trouble is that these effects may no longer be as modest as they were, because imports of manufactured goods from the third world have grown dramatically—from just 2.5 percent of G.D.P. in 1990 to 6 percent in 2006." "[W]hen it comes to manufactured goods, it's at least arguable that the . . . highly educated workers who clearly benefit from growing trade with third-world economies are a minority, greatly outnumbered by those who probably lose."

I applaud Krugman for changing his views when he gets new facts. He makes clear he still believes in the benefits of "keeping world markets relatively open" (notice he doesn't say "free trade"), especially for the billions of people who don't live in America. Then he gave this good advice to his editorial board, "I am arguing for an end to the finger-wagging, the accusation either of not understanding economics or of kowtowing to special interests that tends to be the editorial response to politicians who express skepticism about the benefits of free-trade agreements." Krugman concludes his column by saying, "[T]hose who are worried about trade have a point, and deserve some respect." Hey, that includes me!


Do Some of Adam Smith's Most Ardent Disciples Know What He Says about Them?

Ben Stein has effectively exposed The Tattered Standard of Duty on Wall Street. When Gordon Gekko famously proclaimed in the 1987 film Wall Street, "Greed is good," many of us understood it as critical social commentary, but others apparently took that speech as words to live by. Moreover, they are wont to slander Adam Smith by claiming he justifies their greed and disregard for fiduciary duty. I rise to defend Adam Smith.

Adam Smith's point was that self interest in the economic sphere has socially beneficial collateral effects. He did not say there was a need to take the existing level of greed and "kick it up a notch." To the contrary, Smith thought the level of greed among capitalists was so high they could not be trusted. These are the last two sentences of Book I of Wealth of Nations:

"The proposal of any new law or regulation of commerce which comes from this order [profit takers], ought always to be listened to with great precaution, and ought never to be adopted till after having been long and carefully examined, not only with the most scrupulous, but most suspicious attention. It comes from an order of men, whose interest is never exactly the same with that of the public, who have generally an interest to deceive and even to oppress the public, and who accordingly have, upon many occasions, both deceived and oppressed it."

I nominate this for the bit of Adam Smith's advice that is least attended today by politicians and free market fundamentalists.


Please accept your choice of greetings of the season from Skeptic.

To All My Liberal Friends:  Please accept with no obligation, explicit or implied, my best wishes for an environmentally conscious, socially responsible, low-stress, non addictive, and gender-neutral celebration of this period near the winter solstice, practiced within the most enjoyable traditions of the religious persuasion of your choice, or secular practices of your choice, or with respect for the religious/secular persuasion and/or traditions of others, or your choice not to practice any religious or secular traditions at all. I also wish you a fiscally successful, personally fulfilling, and medically benign recognition of the onset of the calendar year 2008, but not without due respect for the different calendars recognized by other cultures whose contributions to society have helped make America great (not to imply that America is necessarily greater than any other country nor the only America in the Western Hemisphere). Also, this wish is made without regard to the race, creed, color, age, physical ability, sexual preference, or financial circumstances of the wishee.
To All My Other Friends: Merry Christmas and a Happy New Year


An ounce of business experience is worth a pound of economic theory.

Ben Stein explored in his NYTimes column, "The Great Inflation Mystery, Still Unsolved," why we have not had inflation in the last seven years or so when factors widely thought to be economically important are very similar to the 1970s when we had terrible inflation of the stagflation subtype. He discussed the theories of several prominent economists and Fed chairs, plus Ronald Reagan and Bob Dylan, and found that "we do not know what causes inflation" because "economics is an extremely inexact science." I sent him the following email, which he pronounced "fantastically interesting" in a reply:

Dear Mr. Stein:

It wasn't Burns, Reagan, Volcker, Friedman, Fisher, Greenspan, Bernanke, or Dylan. It was Sam Walton who made the difference between the 1970s and the 1990s.

In the 1970s I was an officer of an energy company and participated in a mass psychology of raising prices and wages to keep up with inflation. Nixon imposed wage and price controls in 1971 and Ford had WIN buttons, but in reality there was no effective resistance to raising prices. It got so bad that capital equipment vendors quoted prices indexed to steel prices or CPI. Our big project survived a 21% prime rate, but it did not survive the uncertainty as to total cost.

In the 1990s I was an officer of a manufacturing company whose largest and fastest-growing customer was Wal-Mart, which was also the major competitive threat to every other large retailer. This time, the psychology was exactly the opposite. The whole W-M organization was a towering, seamless, impenetrable, screaming wall against raising prices. We might be able to take a little cost and quality out of the product if we were not too obvious about it, but we absolutely, positively could not raise prices. This made us tougher on our vendors and tougher on ourselves to control costs, and we looked offshore. What Wal-Mart taught us and our competitors kept prices low for all retailers.

Indeed, economics is an extremely inexact science.

Ben Stein describes himself as a lawyer, writer, actor, and economist. He was a speech writer for Nixon during the time of the wage and price controls, but I did not know that when I wrote to him. Also, he is the son of Herb Stein, an economist who was chair of Nixon's Counsel of Economic Advisors when the controls were imposed. See Herb's reflections on Nixon's 1971 wage and price controls 25 years later. Ben is one of my favorite columnists about economic and business matters. I recommend reading his whole piece.


News Flash: Skeptic has a sense of humor. But it's kinda twisted.

"Monkey Do" in the Shouts & Murmurs feature of the current New Yorker is so funny I just had to create a new topic, Made Me Laugh, so I could post this link. 


The President should be limited to 2 Jack Bauer actions per half.

The best argument against strictly enforcing existing prohibitions against torture is that our government may someday hold a person involved in an imminent terrorist attack intended to kill thousands and that it would be moral to torture out of him the information necessary to avert the attack. National Football League instant replay rules show us how to deal with this unlikely but serious situation without opening the door to using torture in other situations.

The President should be authorized to torture each half term up to two persons whom he believes (a) are involved in an imminent terrorist attack likely to kill at least 10 Americans and (b) possess information essential to averting the attack. The President should be required to notify relevant Congressional committees within 24 hours of each authorization and provide full secret briefings on the results every 48 hours.

Holding hearings on such a bill could be very revealing. Those who favor more than 2 torture authorizations every 2 years would reveal they do not want to limit torture to ticking time bomb situations and should be pressed for justification. Those who think a threat of 10 or more deaths in a terrorist attack is too high a bar can offer and defend lower thresholds. Those who want to allow torture of persons who may have information but are not thought to be involved in an impending terrorist attack can make their case for torturing innocents. The definition of torture will be at issue. Administration unwillingness to provide secret reports to Congressional Committees in exchange for getting authority to stop a ticking time bomb would suggest the Administration cares more about unfettered Executive power and avoidance of accountability than averting terrorist attacks.


Hydrogen fuel cell vehicle technology is on a road that doesn't go to market.

Those who envision a world full of automobiles powered by fuel cells running on hydrogen seem not to have noticed that this can't happen unless the hoped-for technology can out-perform competing technologies, especially battery-powered cars.  Both systems start with electricity and both end with electricity driving on-board electric motors.  But the fuel cell vehicle--left column in the following comparison--is inherently less efficient and, for that reason alone, likely to be more costly:

The first three steps in the hydrogen route embody well-established technology, but the last step, fuel cell technology to convert hydrogen to electricity aboard a vehicle, needs much refinement. In comparison, battery technology also needs refinement, but no preliminary conversion or handling steps increase the cost or reduce the energy efficiency of this route.

In order to make the two routes as comparable as possible, one could postulate that hydrolysis, compression, and hydrogen storage are done in small scale units at each local vehicle filling station, which would eliminate the need for a new, separate hydrogen distribution system. Centralized facilities would make sense to the extent that increased efficiencies would support the costs of a hydrogen distribution system.

In order to believe fuel cell vehicles will win the competition with battery vehicles one needs to believe either that fuel cell technology (now at an infant stage) will catch up to and pass battery technology (now at a juvenile stage) and be enough more efficient that it can bear the costs and inefficiencies of the up-stream facilities and still be cost competitive, or that fuel cells will be given legal advantages to overcome their economic disadvantages.

The observation that the first entrant can sometimes dominate a market even with inferior technology and higher costs could work to favor battery vehicles but is not likely to work in favor of fuel cell vehicles if they should be first. The electricity distribution system for battery vehicles already exists and could be exploited by later entrants with battery-powered vehicles even if a parallel hydrogen generation/distribution were already in place. In contrast, it is hard to see who would invest in a separate hydrogen distribution system when there is no assurance that fuel cells will be competitive with batteries.

Another reason to expect that batteries will win the race is that there are many, many uses for batteries and many industries and companies are working on making batteries smaller, lighter, longer-lived, more efficient, safer, and faster to charge. (See, e.g., a report of ExxonMobile work on litium ion batteries and other postings on the blog linked here.)  In contrast, solving the comparable problems of fuel cells is not of much interest to companies that are not vehicle manufacturers.

Hydrogen can also be produced by "reforming" light hydrocarbons (routinely done in petroleum refineries) or by reacting powdered coal with steam (used to make "town gas" in the 19th Century). If we have light hydrocarbons, why would we not just run them in a standard internal combustion engine in a hybrid auto, instead of reforming to hydrogen to feed a fuel cell? Either way, we have CO2 to dispose of and, I strongly suspect, more wasted energy. The town gas reaction is throw-back technology with the biggest possible CO2 burden. So, assuming a generic source of electricity instead of one of these sources of hydrogen seems like the best case scenario for the fuel cell vehicle.

I say hydrogen fuel cell vehicle development is a dead end.  What do you think?  Did I get my facts or analysis wrong?  Are there technological reasons to believe the hydrogen route can displace the battery route?  Are auto companies doing research on hydrogen vehicles only to reduce the political pressure to commercialize hybrids and plug-in cars sooner?  Why are environmental groups like NRDC promoting hydrogen vehicles?


Economic Science is to Science as Fantasy Football is to Football

This week three gents won the Nobel Memorial Prize for "Economic Science."  The idea that the study of political economy is a science is misleading to the general public and, apparently, to a great many economists.  To call the field a "science" is to imply that it employs the "scientific method," developing hypotheses about cause and effect or other relationships in the physical world and attempting to disprove or confirm them empirically.  To the contrary, economists, especially macro-economists, are not able to test anything because the real world has a vast number of uncontrollable variables (including populations who refuse to cooperate). 

Wise economists recognize this and properly regard their ideas as merely insights or arguments in the legitimate (but unscientific) field of "political economy."  Economic "scientists," on the other hand, seem to deal with the real world by ignoring it when it does not agree with their beliefs.  The latter often develop mathematical models and run them through computers as though their field can be explained as simply and elegantly as Isaac Newton explained the laws of motion.  Unfortunately for them, the real world of macro-economics has a complexity more like that of the life sciences.  A principal focus of this blog is likely to be exposing the unreality of their views, which can do great damage when promoted by influential people. 

On the bright side, the recent Nobel prize was for work on "mechanism design theory."  That this sub-field exists is a challenge to free market fundamentalists who purport to believe that free markets yield the best solutions to all problems.  The fundamental tenet of this sub-field is that all markets have rules and that the particular rules chosen can have great influence on transaction outcomes.  For a brief and useful summary, see John S. Irons

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