Where's Yer White People Now? On 'Saving' Egypt

I borrowed the line in the post title from The Ten Commandments when the Hebrews were being persecuted by the Egyptians: "Where's your Moses now?" Nowadays, I'd like to ask the current Egyptian leadership--especially the Muslim Brotherhood--something similar: Where's yer IMF white people now brandishing $4.8 billion? Daily reports emanating from Egypt talk about an economy teetering on the brink of collapse. I guess those "Internet Freedom" fantasists did not reckon that the dupes who supposedly tweeted their way to overthrowing Mubarak didn't imagine that those "bad old days" of dictatorship could now be the "good old days." Bravo; what an improvement.

Although I have written much about the "Internet Freedom" folly of Egypt, there is more to be said (unfortunately). The Christian Science Monitor points out something I hadn't recognized before but is surely true: Given that the government uses Egyptian pounds to fund food and energy subsidies, the currency's further depreciation will only make it more difficult to fund the purchase of these (usually imported) goods. So...

The pound had steadily declined since Mubarak was pushed from power with the country's grim economic outlook straining its foreign reserves. Billions in hard currency have been spent by the central bank trying to protect the country directly, as well as on wheat and fuel imports that the government subsidizes for domestic consumers. But notice my use of the word "had." Of late, the pound's decline is no longer "steady." Since about Jan. 13, the pound's decline against the dollar has been precipitous.

That's particularly dangerous for Egypt, since so many dollar-dominated commodities are subsidized by an Egyptian government that receives most of its revenue in pounds. In other words, every bushel of wheat or barrel of oil that the government purchases is far more expensive in domestic terms, which in turn further depletes the government's foreign currency reserves, makes investors even more nervous about the chances of a pound collapse, and so puts more pressure on the pound. The very definition of a vicious cycle. 

Actually, Egypt not confronting the matter of subsidies head-on is quite a problem in itself. If I may elaborate on the formulation above:

1. The Islamist government refuses to roll back subsidies as demanded by the IMF so it may avail of a $4.8B bailout;
2. Other lenders supposedly waiting on the sidelines for an IMF deal as a seal of good housekeeping do not want to contribute absent an IMF program;
3. The deteriorating political climate causes further falls in the value of domestic currency
4. As the political climate gets worse, subsidy removal insisted upon by the IMF becomes an even more remote prospect; return to (1).

Nobody likes these things to happen. However, I am dismayed by the Muslim Brotherhood-dominated government counting on its superior organization to win elections claiming this to be the "democratic" result. I am equally dismayed by the Internet fantasists who long insisted that the overthrow of Mubarak was "democratic" and would lead to better outcomes. There is nothing of that sort.

As I said, where's yer white people now with $4.8 billion? Will the clerics even approve of Egypt taking this money? Perhaps religious fundamentalists (the Brotherhood) and economic fundamentalists (the IMF) don't mix, but they haven't even gotten that far to even consider the issue.

UPDATE: The ever-elusive IMF deal is now said by Moodys to occur in 3Q2013 at the earliest. Dig the "tough sell" line about gaining public approval--it's my understatement of the day. Let's say I am not holding my breath.

Too Long in Exile: ADB's Kuroda Next BoJ Guv'nor?

It is curious that Western financial new media is finally paying attention to Asian Development Bank President Haruhiko Kuroda. Despite being the head of the most prominent regional lender in our part of the world, he has so far toiled in relative obscurity outside Asia. How obscure is he? His Wikipedia entry consists of two sentences despite being the ADB chief since 2005 [!] Talk about the stereotypical faceless Asian bureaucrat and you may have his photo in there somewhere.

Still, he is now being portrayed as the front-runner in becoming the next Bank of Japan chief since his views are similar to those of PM Shinzo Abe. Besides, he is said to command the support of the opposition DPJ as well, paving the way for his nomination. Kuroda is quite Asian in the sense that he does not hesitate from actively intervening in the markets if the situation calls for it:

As Japan's top financial diplomat from 1999 to 2003, he aggressively intervened in the exchange-rate market to weaken the yen to support the country's export-reliant economy, a sign he will be keen to keep any sharp yen rises in check. He has called for the BOJ to achieve its 2 percent inflation target in two years by pumping money into the economy through unorthodox steps, such as expanding government bond purchases and buying shares. Inflation in Japan has rarely reached 2 percent since the early 1990s.

Ironically, Kuroda is believed by many in the ruling LDP to be ideal for the job precisely because he has spent so much time cottoning up in absentia to the movers and shakers of Asia and beyond as ADB president. Despite gaining next to no attention elsewhere, rest assured that the Manila-based lender commands considerable clout in the Pacific Rim. Quoting PM Abe:

“(We want) someone who can articulate (Japan’s policy) in the inner circle of international finance and win understanding (from foreign countries),” he said. “Someone who can use theory to counter criticism against monetary policy is needed.”

...and here:

Mr. Kuroda’s global experience — as vice minister for international affairs at Japan’s powerful Finance Ministry from 1999 to 2003, and as president of the Manila-based Asian Development Bank starting in 2005 — could also help Tokyo navigate foreign criticism that its monetary policies are intended to weaken the yen to give Japanese exporters a competitive edge.

I ultimately believe that Japan will be aiming to weaken its currency regardless of who takes the job of BoJ governor; it's just that they believe the diplomatically assured Kuroda will be more able than his putative competitors to smooth ruffled feathers. See, for instance, the Koreans complaining about Japan re-engaging in currency war by using unprecedented measures to reflate the Japanese economy.

There is, however, a catch: Japan's grip on the Asian Development Bank has actually increased in recent years despite its fading economic fortunes. Together with the United States, Japan is co-largest shareholder in the institution, but Japanese officials like Kuroda are far more involved in its day-to-day operations. Moreover, China has made limited inroads at the ADB despite surpassing Japan as the region's largest economy. In no small part, Japanese regional influence is strongly conditioned on being able to choose the bigwigs at the ADB. In turn, Kuroda's stewardship of the ADB is believed to be a decisive factor as to why Japan's sway over it remains strong. Pulling him out midway through his second five-year term as ADB president may not bode so well for Japanese influence at the institution:

Abe advisers say Mr. Kuroda's main weakness is his apparent indispensability in his current position—president of the Asian Development Bank, a post he has held since 2005. He is less than two years into his five-year term.

Some Japanese officials worry that if Mr. Kuroda leaves early for the BOJ slot, Japan risks losing the perch it has controlled since the founding of the Manila-based institution in 1966. For Japanese finance officials, the ADB is Japan's equivalent of the World Bank for the U.S. or the International Monetary Fund for Europe—an international financial institution they expect to run, a platform for global influence. Losing the ADB for Japan would be a blow, especially at time of growing insecurity about the country's diminished standing in the region. 

I simply do not think that erosion of Japanese influence at the ADB will happen overnight even if Kuroda is pulled out in a last-ditch effort to reflate Japan's economy. It will remain the institution's top shareholder and Japanese officials will still hold key positions. On the other hand, if Kuroda's successor proves unpopular, you never know if others can muscle in on turf the Japanese have long held to be their own.

2/27 UPDATE: The deed is done. Kuroda has been nominated to succeed Shirikawa.

Japanese Stimulus: Enough White Elephants Yet?

When it comes to the most pigheadedly wasteful spending to supposedly jump-start an economy, portly and profligate Americans only have one serious rival: the Japanese. Granted, the Japanese have been attempting to escape stagnation for over two decades now instead of America's one. Still, the sheer pointlessness of their entire endeavour is something to behold. In contrast to America's infrastructure which is on par with that of Damascus after the umpteenth rebel mortar assault--the American Society of Civil Engineers gives the US a "D" and estimates $2.2 trillion needs to be spent--Japanese infrastructure is nowhere near as dire.

That hasn't, however, stopped the Japanese government from embarking on massive ("shovel-ready"?) construction projects time and again in the hopes that they will provide the foundations for Japan's recovery. With the LDP back in power, doling out projects to favoured contractors is once again on the agenda, with more train routes, bridges, and highways to nowhere on the drawing board. Throw in various ports and stations used once in a blue moon and you have white elephant projects up the wazoo. As the Reuters article notes, the "challenge" posed by PM Shinzo Abe is spending $100B in 15 months on infrastructure:

"We cannot simply continue to build roads and infrastructure the way we used to at a time when the population is ageing and shrinking," says Takayoshi Igarashi, a public policy professor at Japan's Hosei University who has advised the previous Democrat administration on rebuilding from the 2011 earthquake, tsunami and Fukushima nuclear accident...

Since he took power in December, Abe has earmarked 10 trillion yen ($107 billion) for new infrastructure and upgrades over the next 15 months - half of it funded by government debt. That is equivalent to a quarter of the amount that the Organisation for Economic Cooperation and Development estimates the entire world needs to spend on transport infrastructure each year.

Government spending is a classic remedy for weak growth. But it is one Japan has tried over and over - pouring roughly $2 trillion into concrete and steel since 1990 in a vain effort to resuscitate the economy, now in its fourth recession since 2000. Economists warn that, without reforms to lift Japan's long-term growth potential, more such spending will produce only a temporary jolt that swells a government debt already worth more than double national output...

It's not as if Japan needs yet more infrastructure when there is already much more than necessary to get around?

The world's 61st largest country, Japan has 1.2 million km (745,000 miles) of roads, the world's fifth-largest network. It has 680,000 bridges, almost 10,000 tunnels, 250 bullet trains and 98 airports. Government critics have long derided many as white elephants - unnecessary, costly and environmentally harmful. The airport in Ibaraki, 85 km (53 miles) north of Tokyo, for example, opened in 2010 at a cost of about $225 million as a hub for low-cost carriers. Today, it handles just six flights a day. Construction of the nearly $5 billion Yanba Dam in northwest Japan began in 1967 to help power the needs of a growing population. With Japan's population now shrinking, it remains unfinished 45 years later. 

And there may be hundreds of billions more in spending in store

Yet the money represents only what Abe hopes to spend by April 2014. He has suggested spending similar sums every year for a decade - if he holds onto power that long. With the private sector and local communities expected to match government investment, this would add up to 200 trillion yen ($2.16 trillion) over 10 years - or roughly 40 percent of GDP.

Last, there will be no one to use all this new infrastructure as a shrinking population implies a shrinking workforce. Perhaps there won't even be enough folks to build all these white elephants:

It is not even clear who would use all of the new infrastructure, or even who would build it. Thanks to Japan's low birthrate, the population is declining by more than quarter of a million a year, government statistics show, with its working-age population shrinking at double that pace. According to Health Ministry projections the number of Japanese is expected to fall by nearly a third, to below 90 million, by 2060. That means fewer cars on Japan's roads. Japanese automotive research company Fourin Inc. estimates car sales in Japan will fall from nearly 5.4 million last year to 4.5 million in 2020, and to about 3 million a year by 2040. Japan's construction workforce is also shrinking: today it is a third smaller than in 1997 and building firms are already having trouble finding workers to rebuild areas from the 2011 disaster.

I've suggested that mass immigration [1, 2] is a much more promising solution to reversing Japan's demographic woes and quite possibly its deflationary ones as well, but that's never quite been on the cards. See if all these public works projects make a difference; I honestly cannot see why they will now when they did not before.

Gender and Human Capital Returns

Here is an interesting fact: Women earn a higher rate of return from a college degree than men.  In particular:

After controlling for various demographic factors, the researchers found that female graduates earned more than $6,500 more per year than women with just a high school diploma, and more than $4,500 more than women who dropped out of college. Male graduates, by contrast, earned only about $2,700 more than high school graduates, and about the same amount as male college drop-outs. 

The findings are consistent with past research, which has showed that jobs are much more gender-segregated in low-education occupations. Female drop-outs tend to concentrate in low-paying service-sector jobs, whereas less-educated men are more likely to find work in better-paying industries such as manufacturing and construction.

Redefining 'Lame': Proposed EU-US Trade Deal

If you're wondering about scant coverage of the proposed EU-US FTA in what purports to be the IPE Zone, nobody said that I had to cover rather pointless trade deals. While I am not entirely indisposed to doing so, the ones I do mention at least have some entertainment value alike the (rather unlikely) EU-MERCOSUR deal which has been decades in the pipeline. Unfortunately, an EU-US FTA ranks right up there with a New Kids on the Block reunion on my radar screen. Who the £$%^ cares? The overall premise is overwhelmingly underwhelming. Let us count the ways:

(1) Exporting stuff nobody buys at home because folks are hard up doesn't assure sales abroad when your trade partner is equally hard up. The underlying premise of this FTA, trade creation, is highly dubious. We owe a debt of gratitude to none other than Karl Marx in the stupefaction sweepstakes evident here: We know that both the EU and the US are terminally stuck in reverse gear. Both economies are shrinking. Household incomes in both have been stagnant-to-declining for well over a decade. Hence, lowering trade barriers doesn't really matter when there's not enough money to go around despite unprecedented easy money policies on both sides of the Atlantic. Why are we to believe that ridding EU-US trade of the negligible 3% average tariffs remaining will result in much of anything when trillions in stimulus-- far greater inducements to consume--have failed to get these economies out of their respective ruts? Peugeot cars selling well in America--dreaming is free, no?

You'd think that countries go abroad in search of more promising markets than those at home once they reach saturation alike what Marx said, but here you have two equally saturated markets wishfully thinking that salvation lies in each other. You keep dreaming.

(2) Stated potential gains from this FTA are likely overstated. People clowning with DGSE models is usually the source of wildly overestimated gains from lowering trade barriers. It has been some sort of pastime estimating gains (if any) from this FTA.  I am thus astounded that the claimed gains for both sides exceed some that I've seen made for the completion of the (global) Doha Round. It's easy enough to get a hold of the software, set optimistic parameters and wind up with trade creation figures in the tens of billions and I suspect that's what's going on here.

(3) Tariff lines won't be negotiated where they are highest--in agriculture. European agricultural subsidies are, in a number of ways, even worse than already-high American ones. The assumption going in is that both parties will want opt-outs for their respective agricultural lobbies. End result? No progress where substantial reductions in tariffs actually are possible.

(4) Most of the expected gains lie from reducing non-tariff barriers alike through standards harmonization. The EU admits as much:

Given the low average tariffs (under 3%), the key to unlocking this potential lies in the tackling of non-tariff barriers. These consist mainly of customs procedures and behind the border regulatory restrictions. The non-tariff barriers come from diverging regulatory systems (standards definitions notably), but also other non-tariff measures, such as those related to certain aspects of security or consumer protection.

Once again, think of agriculture. Famously, the US has had no luck gaining access for its genetically modified foodstuffs and meat products using beef hormones in European markets. I doubt whether the Europeans are willing to make significant concessions over these issues now when they have not been willing to do so before. Moreover, why are we to believe that, say, harmonizing automobile crash safety testing is going to unlock the sales of Peugeots Stateside multiplied across dozens of other industries?

(5) Canada has been negotiating an FTA with the EU for four years now with limited progress over issues that will almost certainly reappear when Europe negotiates with the 10x larger United States. Chances are that discussions will be even more contentious given the money at stake. The EU-Canada deal isn't exactly a promising precedent. From Reuters:

EU Trade Commissioner Karel De Gucht had hoped to wrap up talks for a free-trade agreement with Canada in Ottawa in early February, when he met his Canadian counterpart Ed Fast. But negotiations are held up over contentious issues including agricultural exports, intellectual property and the ability being to bid for government contracts on both sides of the Atlantic. "What was on the table was simply not feasible," De Gucht told the European Parliament's trade committee, when asked by one lawmaker to explain why a deal had not been reached. "On a number of issues they will have to make additional exceptions," he said, referring to the Canadians.

Also consider that negotiating this deal would terminally wound the Doha Development Agenda and you must wonder how desperate the brokeback Yanks and their European counterparts have become. Make no mistake that they would not have even proposed going down this road if things weren't so bad that they are now trying to make lemonade out of the lemons they've been dealt with.

Here is my fearless prediction: There will be heated negotiations--and perhaps even a done deal sometime around when Obama (mercifully) exits. Even so, it will all have been for not much of anything in the end.

If this is the rescue plan for both America and Europe, they are as delusional as they come.

(6) 2/23 UPDATE:  To throw another monkey wrench into the proceedings concerning (surprise!) agricultural products, the EU has now applied blanket tariffs against US bioethanol exports over "dumping":

The EU will place a duty on all U.S. bioethanol imports to the 27-nation bloc from Saturday, in a move that has prompted Washington to express "serious concerns" and that comes as both sides prepare to launch negotiations on a free-trade deal. The European Union will levy a 9.5 percent tariff on all bioethanol coming from the United States, the bloc's Official Journal said on Friday, concluding a 15-month investigation that argued U.S. bioethanol was being dumped, or sold below cost.

Since most bioethanol is a component in blended fuel, the ruling sets a fixed charge of 62.30 euros ($82.38) per net tonne of bioethanol present in fuel. Brussels says that U.S. incentives to produce clean fuels constitute an illegal subsidy under world trade rules, and have allowed U.S. producers to sell cheap fuel to Europe, an accusation rejected by U.S. producers. 

The US will likely appeal as FTA negotiations get underway. It's not such a good omen after so many unresolved squabbles over agricultual products, don't you think?

Forecasting the weather using the market

In public opinion, economic forecasting has as low regards as weather forecasting. To some extend this is coming from a firmly anchored stereotype, because forecasts for both are actually much better than a mean reverting random walk. And one should factor in that the weather or the economy are very complex animals with a lot of interacting forces (including silly politicians who take nonsensical decisions). But, in a horse race between meteorologists and economists, who would be better at forecasting?

Enter the economist, Matthias Ritter. He uses the price of weather derivatives traded at the Chicago Mercantile Exchange to determine what the market thinks is going to be the future temperature, more precisely the two-week ahead Heating Degree Days and Cooling Degree Days for 6 US cities. And the economic forecast is impressive, it manages to lower the meteorologists' root mean square error by about a quarter. And people say such speculative markets are useless.

Your turn, meteorologist.

2014 Sochi Winter Games = 1936 Berlin + Oligarchs?

A vainglorious leader with an authoritarian streak; a country with a chip on its shoulder against Anglophone powers; and massive Olympic spending to burnish a national reputation--where did we see all these things before? The parallels are not exactly edifying, but they're there nonetheless.

Reuters has a very interesting take on this latest Olympic boondoggle. Despite what the article mentions, I honestly doubt whether the Russians are pouring an unprecedented $50 billion into the 2014 Sochi Winter Olympics. Still, even if they spent even half that much it would be an astounding amount given that (a) it isn't the Summer Olympics which is a far more watched event and (b) Sochi isn't even a second-tier Russian city with a population of under 350,000.

There is a twist to this story, however: The Russian government, likely being ever-so-wise as to the financial calamities that have befallen any number of previous Olympic hosts, is making the Russian oligarchs foot the bill in a big way. As far as Russian politics go, we have a perverted if still comprehensible form of justice here. For, the guy who handpicked Vladimir Putin from obscurity, Boris Yeltsin, also oversaw the fire sale of various Soviet-era natural resource empires (that still dominate Russian industry) at a time when the West was foisting then-fashionable privatization of the commanding heights. It's only "fair" that the Yeltsin's main political benefactor be able to, ah, extract privileges from Yeltsin's economic benefactors.

In other words, part of the quid pro pro from all those years ago when the oligarchs were made very wealthy men out of a select few is footing the Sochi Olympics bill. It's not easy falling politically afoul of Putin as some oligarchs have found. That said, do not think the oligarchs are opening their pocketbooks willingly to the extent Putin expects them to for his pet project:

Above the Black Sea city of Sochi, one of Russia's richest men is spending billions of roubles to turn a patch of mountainside into a global showpiece. Metals magnate Vladimir Potanin has paid for new buildings, new lifts and hundreds of snow canons in the hope of transforming slopes not far from sub-tropical Sochi into a world-class ski resort. Like most of the plans to host the Winter Olympic Games next year, Russia's ambitions for the ski village and other venues are outsized in scale and ambition. Total investment to make the sleepy region fit to welcome thousands of competitors and the world's media is expected to exceed $50 billion, according to Russia's international news agency RIA Novosti. That would make it the most expensive games, summer or winter, ever staged. The 2010 Winter Olympics in Vancouver, Canada, cost a mere $3.6 billion, according to an estimate by PricewaterhouseCoopers, though others put the bill closer to $6 billion.

While Russia's President Vladimir Putin has not flinched at Sochi's eye-popping expense, some private investors and wealthy oligarchs, recruited by Putin to help foot the bill, are chafing at how much they are expected to do. In a rare challenge to the Kremlin they are demanding that the state help with the rising costs. Though precise figures on who is paying for what in Sochi are hard to obtain, RIA Novosti says private investors have spent nearly $25 billion. Federal and regional budgets have accounted for some $13 billion of the costs incurred to date, according to Deputy Prime Minister Dmitry Kozak.

The amounts we are talking about here are staggering. Q: When does a guy reportedly worth $14.5 billion complain about money? A: When the task he is asked to help complete will supposedly total $50 billion...

Potanin, whose estimated fortune of $14.5 billion makes him Russia's fourth richest man, according to Forbes, is complaining of at least $530 million of extra work his company was required to do. Now he wants the government to boost its contribution to his projects by cutting interest rates on his debt, which includes money borrowed through a line of credit with state bank Vnesheconombank of up to $750 million. "We are carrying out talks with the government on the compensation of a part of these expenditures through interest rate subsidies," said Potanin, speaking to Reuters. "Many see this as a form of government support. But actually it is only compensation for expenditures, which are not characteristic of ... commercial projects."

Oleg Deripaska, another billionaire oligarch [his boat is pretty nice I gather], has similar complaints, reflecting the complex, symbiotic relationship Putin has with Russia's rich elite. "The bargaining power is with the oligarchs until 2014, because they can come to the state for money or threaten that the construction won't get done in time," said Bruce Bower, a partner at the investment firm Verno Capital, who has lived in Russia since 2005. Putin wants the Games to project a positive image of Russia to the world and may endure the rising bills with a fixed smile, said Bower. The Russian president may hope to recoup a return on the investment later. Whether the oligarchs will as well is far from clear.

I honestly cannot see any of the participants gaining financially from this spectacle of trying to make a Potemkin Village of Sochi for international consumption. Not that many of us should be duped so easily.

Discounting for future generations: the consensus?

I have discussed a few times the difficulty of figuring out what the proper discount rate should be when evaluating the impact of environmental policy, and in particular how small changes in that rate can have a huge impact on outcomes. See posts I, II, III, IV. And if there is so much disagreement and this matters so much, why not convene all the arguers and get them to agree on a common document?

This is what the US Environmental Protection Agency did , and the resulting document is co-signed by Kenneth Arrow, Maureen Cropper, Christian Gollier, Ben Groom, Geoffrey Heal, Richard Newell, William Nordhaus, Robert Pindyck, William Pizer, Paul Portney, Thomas Sterner, Richard Tol and Martin Weitzman (no Nicholas Stern, I note). They agree that the proper tool to determine the discount rate is the Ramsey formula. No big surprise here. They agree that a crucial component of this formula is the expected future growth rate of the economy, and that this is very difficult to obtain. And this is as far as they got. No magic number, after all they are economists. I wonder whether biologists could now be convinced that we actually need a discount rate.

HPEC

If you are a high school student, or teach economics to high school students, you most definitely will want to click here.

Time preference may vary across goods

When we model intertemporal choices, we usually go with a single consumption good, which means (up to some aggregation assumptions) that all goods have the same intertemporal elasticity of substitution and economic agents have the same risk aversion for each. Or that somehow any dispersion would not matter through aggregation. Is there any evidence of such dispersion?

According to Diego Ubfal, there is, and it is considerable. Using a quite large experimental survey of 2400 people in rural Uganda, he finds that the monthly discount rate goes from 110% (meat) to 66% (salt). And unlike this literature, this paper does not assume linear utility and goes through the trouble of estimating the curvature of the utility function as well (without reporting results, though). I wonder, however, how seasonality may play in this. For households that are that poor and who have to live from day to day, it is perfectly understandable that the rate may vary widely whether the good is in season or not, whether one is in a period of the year with relative slack on the budget or resource constraint, and add to this whether the size of the remuneration from the experiment may distort things. Still, this is an interesting and detailed study.

The slow recovery is even more man-made than the start of the recession

I have argued before that this past recession is to a large extend policy-maker made. While there did not seem to be any fundamental reason (in the real economy sense) for a contraction, the problems in the financial sector have been talked up and aggravated both in Washington (I, II) and Brussels/Frankfurt. And these self-fulfilling actions of the politicians have made things so bad that we may have ended up with large, permanent shock to the economy.

What does all imply for the ensuing recovery? For the US, Kathryn Dominguez and Matthew Shapiro use policy announcements and news reports to see how they have influenced forecasts of the inevitable recovery. And, surprise, it looks like all this politicking on both sides of the pond has slowed down the US recovery significantly in the US, and by extension in Europe as well I would say. In each of 2010, 2011, ans 2012, initial positive forecasts for the year had to be downgraded. That may be a bias towards optimism by the forecasters, as Reinhard and Rogoff have warned that the recovery will be slow. Or it is the politicians' fault. And we may have had a bad permanent shock.

A Profile of Stanley Fischer

In the Washington Post.  Stan was my PhD dissertation adviser.

England's Comeuppance to EU Exit: Scots Exit UK

British politics are weird. No sooner did British Prime Minister David Cameron appease Eurosceptics within his party by promising a referendum on the UK remaining in the EU by 2017 that he warned the independence-minded Scottish National Party (SNP) about breaking away from the United Kingdom through a yes vote in their referendum scheduled for next year meaning its automatic exit from the EU. In other words, he is offering his compatriots a decisive break from the European project while threatening his Scottish peers that breaking away from the UK would mean they would no longer be in the EU. In one case, EU membership is cast by the same person in a negative light and in the other in a positive light depending on the audience in question. It hinges on the understanding that Scotland is far more positive about remaining in the EU than England is.

The question surrounds the meaning of nationhood for international treaties to which Scotland was privy to as part of the UK. If Scotland attains independence, will it have to go through the entire process all over again as a new nation? The weight of opinion says "yes":

The British government on Monday intensified its campaign to stop Scotland leaving the United Kingdom, publishing a legal opinion saying it would forfeit its membership of international bodies such as the European Union if it chose independence. The pro-independence Scottish National Party (SNP) that runs Scotland's devolved government plans to hold a referendum on emotionally charged subject next year, and has played down the impact of a "Yes" vote on Scotland's international status.

But the 57-page legal opinion - drafted for the British government by two independent experts on international law - said the implications could be far-reaching, likening the situation to the 1991 collapse of the Soviet Union when Russia was declared the USSR's legal successor but the 14 other Soviet states had to forge their international relations anew. The overwhelming weight of international precedent suggested Scotland would be legally deemed a "new state", it said - a scenario that would force it to re-apply to join international bodies such as the EU, the United Nations and NATO.

Scotland is also holding on to the ideas that the English will readily allow the former to keep the pound and that (declining) revenues from the North Sea oil fields will keep the new state afloat:

The government's intervention came as a panel of experts, including two Nobel prize-winning economists, issued a report saying the SNP's plan to keep the British pound in the event of independence was a sound strategy, suggesting it would also be wise to keep the Bank of England as the central bank.

The SNP argues that North Sea oil revenues combined with Scotland's fishing, farming and whisky industries would be enough to keep an independent Scotland solvent. But critics say the oil is running out, that Scotland would lose disproportionately generous British government subsidies, and that it would struggle to raise enough tax to pay its bills.

It's a neat case of "what goes around comes around" to isolationist English alike those in the ruling Conservative Party: So you want to leave the EU but don't want to allow the Scots to leave the UK, eh? You likely can't have it both ways. And here's the clinching irony of it all: If the UK voted in a (Tory-sponsored) referendum to leave the EU, English parliamentarians cannot suggest that Scotland will lose the benefits of EU membership by declaring independence since they will all have left the European Union.

As I said, British politics are weird--more so if they involve Europe.There is impeccable retro-imperial logic to it all in that Rule Britannia would of course not have tolerated supranational authority alike the EU while thinking it impossible that Scotland could ever break away.

Of Quota Reform and American IMF Hegemony

Two things strike me as notable with the recent news that the US plans to finalize changes in the shares of quotas at the IMF and thus the voting rights there:

1. Given that the US has effective veto power at the IMF by virtue of having more than 15% of quota shares when a quorum of 85% is necessary to make a decision, it alone has the ability to unblock the quota reform process which remained deadlocked during the 2012 presidential elections at a time when it has become by far the world's largest debtor:

The Obama administration is hoping to move ahead shortly with legislation to finalize IMF voting reforms agreed in 2010, which will make China the third-largest voting member in the global financial institution, a senior U.S. official said on Saturday. The official, speaking at the end of a Group of 20 meeting of finance ministers in Moscow, said the administration was actively discussing legislation with relevant members of Congress.

The 2010 package cannot be finalized until it gets the go-ahead from the United States, which has effective veto power over the historic deal that was meant to have been approved by all IMF member countries in October last year, but was stalled by the U.S. presidential election.

2. For all the hullabaloo about China becoming the IMF's third-largest shareholder and giving LDCs more of a voice in the institution, its head remains a European by tradition. What's more, the ultimate percentage of quotas shifted from developed countries to developing countries is actually not all that large at--wait for it--a 6% realignment:

This completes the 14th General Review of Quotas with an unprecedented doubling of quotas and a major realignment of quota shares—a shift of more than 6 percent from over-represented to under-represented members and a more than 6 percent quota shift to dynamic emerging market and developing countries. 

Why does it take so much time to accomplish relatively little?

Why $9?

Since the State of the Union address, the minimum wage has heated up again as a political issue.  You can read my previous posts on the topic by clicking here.  (Unfortunately, some of the links in these old posts are now dead.)

There is one question I would like to see some reporter ask Alan Krueger, the president's chief economist: How did they decide that $9 per hour is the right level?  Why not $10 or $12 or $15 or $20?  Presumably, the president's economic team must believe that the adverse employment effects become sufficiently large at some point that further increases are undesirable.  But what calculations led them to decide that $9 strikes the right balance?

The lack of sleep of American school children

Children need sufficient sleep to grow and learn well. But every parent knows how difficult it is to get the children to get that sleep, especially sending them to bed while mom and dad are still up. And once children are in their teens, this becomes even more difficult, even though they still need that sleep time. In the United States it is even worse, as school starts earlier for older children and they sometimes have long school bus trips before that. So it is not uncommon for children to wake up at 6. With 10 hours of required sleep, calculate when they should have gone to bed...

Jay Stewart uses the American Time Use Survey to determine the factors of sleep time for children. First, when school is in session, and when it is a school day, they go to bed 38 minutes later and wake up 72 minutes earlier. This lost half hour accumulates quickly through the week and leads to sleepy heads by Friday. Second, while child development often depends on the mother, in this case sleep patterns during school are not influenced by maternal labor supply.

Then, who is to blame? It is certainly not school homework, of which American school children get little. Is it TV? For sure, it is difficult to drag the children away from the monkey box when the parents are glued to it. Is it over-emphasis on school sports? For many children and parents, sports have priority over academics (even in college). Maybe cutting down on those many hours of daily football training would do the children some good (and besides, there are still more academic scholarships for college that sports ones).

On the causality between the labor income share and the size of governments

One puzzling feature of national account data in recent years has been a decline in the labor income share across most economies. This is not limited to the last recession but has been happening by and large since the 1970s. Why this is occurring is an important research question, and what the consequences are as well.

François Facchini, Mickael Melki and Andrew Pickering claim that this decrease has lead to a reduction in the size of the government. For this, they build a small two-sector model from which they obtain this positive relationship. Then they run some linear regressions to confirm this. But have they really? With the same model, I can obtain a reverse causation or even both variables being jointly function of others. It all depends on what I am assuming to be exogenous. Invert the regression equation, and you cannot reject the reverse causality either (I suppose, I have not done it). So all they have shown is that there is a correlation, nothing more. Claiming causation here is misleading. And if anything, I would have assumed that the causality runs from government size (which is set by political processes and policy) to the labor income share (which responds to market forces and policy).

Most US students do not care about the academic quality of their college

The attitude of students towards college choice is starkly contrasted across continents. While I certainly tend to over-generalize in the following lines, let me highlight a few differences. In Asia, students are very aware of the ranking of universities and strive hard to pass entrance exams to the highest ranked institutions. After that, students do not work much towards learning. All that matters is the signal that you got in. In Europe, students typically go to the local university and are left to fend for themselves. Attrition rates are high, the surviving students are quite good, and there is limited variance in student quality across institutions. In the United States, students are willing to travel far to study, and the selection of the institution depends on reputation, cost and amenities. Having a nice campus, quality dormitories, extra-curricular activities and especially college sports is deemed very important, aspects that do not matter at all in Asia and Europe. Why?

Brian Jacob, Brian McCall and Kevin M. Stange try to offer an hint of an answer by looking at the demand side for colleges. They use detailed data from high school classes in 1992 and 2004, match this with college characteristics and estimate a discrete choice model. The results are more damning than my ramblings above. Except for the top students, high school graduates do not care about academics at all. All they want is excellent "college consumption amenities." And this likely explains why they learn so little while in college. Their focus is on the university as a consumption good, not an investment good. And colleges have responded by devoting to amenities half the resources they devote to academics, producing a generation of well-entertained know-nothings.

Econ Summer Camp

Those with an interest in the history of economic thought might want to consider this summer program.  I have been told that the program is designed primarily for faculty members in economics, other social sciences, and the humanities, though three of the twenty-five slots are reserved for graduate students.

Poverty exacerbates self-control issues

Conservative pundits tend to blame the poors' behavioral issues for their fate. Liberals tend to claim that the poor do not have a fighting chance to make it from the day they were born. And of course neither is completely right, the truth is somewhere in between. It is the economists' task to find where that is.

Douglas Bernheim, Debraj Ray and Sevin Yeltekin bring an interesting piece to this question by integrating self-control issues into a standard model of savings. They are careful to limit the time-inconsistency to eliminate extreme cases where someone would never save (which belong to state assistance anyway) or would never use assets. Then it turns out that self-control issues are amplified by initial poverty. The reason that this poverty trap emerges is that if you have few prospects of assets in the future, there is little to lose from deviating from optimal, time-consistent behavior. If you have more assets or you know you should have more in the future, there is a lot to lose from falling in the trap. This implies, as whenever there is a trap, that one can help these poor people by providing them with enough support to get above the threshold level, and then they can happily fend for themselves.

The Growth of the Welfare State

Source. Click on the graphic to enlarge.

Banking for those unwilling to bank

While we worry about the unbanked population that faces significant costs for trivial transactions, there is also a not insignificant share of the population that is unwilling to have bank accounts for religious reasons. Islam and some strands of Christianity forbid the use of interest. Islamic banking has emerged in response and is offering deposit accounts that do not provide interest, but shares in the bank's profits. If this becomes more commonplace this could have important implications for how we think about banking, regulation and systemic risk in this sector.

Cagri Kumru and Saran Sarntisart show that if such a sizable population exists, then it is welfare improving to have an alternative banking system in place. It seems kind of obvious that it would be a loss to society not to capture these savings for growth-enhancing loans. The paper also shows that this alternative banking sector would emerge endogenously. The market forces are thus doing the right thing. What we need to be careful about is how to adjust the regulatory framework to not mess things up unnecessarily. And I see no reason why we should resist the emergence of such a banking sector.

Give Me Your Tired, Your Poor, and Your Economists, Too

Click here to read my column in Sunday's NY Times.

And what if the Fed were to make a loss?

Whether you think the Fed's actions have been successful or not in pulling the US out of a deeper recession, you have to admit that the gigantic increase in its balance sheet has been hugely profitable. US$88,900,000,000.00 last year. US$79,300,000,000.00 the year before. Despite what conspiracy theorists want to believe, this money is not going into the pockets of private bankers, but to the US Treasury, which is coming to rely on it in these trying budgetary times.

But these profits are not going to last forever. When the economy is going to do better, interest rates will have to be brought to saner, normal levels. And this is going to happen by selling the assets the Fed has accumulated, and this is going to happen at a loss, a substantial loss. Who is going to pay for it. Indeed, the Fed is not provisioning for losses, first because it never made a loss, second possibly because the law may prevent it from doing so. So if it makes a loss, what is going to happen? I could just print money to cover it, but that would run counter the very policy it is trying to implement. Or the US Treasury could cover the losses. I am not quite sure that it stands ready to do so. And in such a circumstance, conspiracy theorists would have a field day.

I have not seen anybody mention anything about the exit strategy of the Fed. So this is all personal conjecture. Am I missing something? The only positive aspect I see in this is that this seems to be an interesting revenue smoothing mechanism for the government. Or, once more, the Fed doing fiscal policy instead on the government.

Value of gold: is this time really different?

Why is gold valued? is year in year out one of the most visited posts on this blog. For some reason that I still cannot fathom people care a lot about the value of gold. The fact that is does not have much fundamental value except for what people believe it is worth makes it almost as much a fiat currency as the money doom sayers want it to replace. Another repeated myth about gold is that its value is stable or can only go up, despite the fact that there have been some spectacular drops. Like now, where people claim that this time it is different, gold is the best refuge in the face of a major meltdown of various currencies. Or at least as a hedge against pending inflation.

Claude Erb and Campbell Harvey explore the role of gold as a hedge against inflation. It turns out gold is a very poor hedge, and if it were, it should be at half its current price. I guess this over-reaction can be attributed to herd-behavior, which nowhere as common as for gold. And with the real price of gold at twice the long term average, and the fact that mean reversion invariably kicks in, sooner or later the price is going to go significantly down. Always has, always will. This time is no different.

If gold has a useful property, it is a very good hedge against inflation in the very long run. We are talking centuries here. Erb and Harvey compare the pay of Roman and US soldiers in gold and find that they are remarkably similar. But this means also that gold does not have returns that are in any way comparable to equity. We are taking here about returns that are a small fraction of a percent. Hardly a good investment. Also, gold is no good currency hedge either, as its fluctuations are so big that they drown out the fluctuations in exchange rates. Etc. Erb and Harvey go through a series of other arguments why gold should be held, and none seems to hold water. But gold is shiny.

The minimum wage under deflation

Whether the minimum wage is a good tool for poverty alleviation remains controversial. Still, it has proven politically impossible to reduce the minimum wage, which means that the only way to reduce its bite is to wait for inflation to eat the real minimum wage away, if this is you want. A minimum wage that is deemed to be too high then gradually gets back to an appropriate level. Of course, this assumes that there is positive inflation. What if there is deflation?

Ryo Kambayashi, Daiji Kawaguchi, and Ken Yamada look at Japan that has been characterized by some prolonged deflationary episodes. They look at the period from 1994 to 2003, where the cumulative inflation reached a whooping -0.5% (CPI) or 3-5% (median wages), a bit unfortunate that the sample for which wage data was available just happens to have little deflation to show. But the nominal minimum wage, which is set regionally, looks from the graphs to increase by about 12%, thus there is still a change in relative wages, like what could be seen in some other countries. The authors then find that the lower tail of wages is compressed, especially for women where half of this effect is attributable to job loss. This is not inconsistent with other studies.

An economist breaks up with his girlfriend

...when it is the utility-maximizing thing to do.

Are Google Ads Racially Biased?

Chapter 19 of my favorite textbook has a case study on research establishing that resumes with names more common in the black community get less response from employers than resumes with names more common in the white community.  Today's Boston Globe has a related article about the results you get when you google a person.

Small countries are more right wing

Over the past decade or so, there has been a trend for European countries to drift toward the right on the political spectrum. Even nominally leftist governments have positive views of lean governments and austerity talk. Why this? I doubt this is because suddenly the United States has become a shining example. There is something more fundamental at work.

Franto Ricka thinks it has all to do with increased tax competition. This became more prominent with the expansion from EU-15 to EU-25 around 2004, where a series of relatively small countries joined the union. Smaller countries have an interest of playing tough in tax competition, especially for capital tax rates, as they can increase revenue by lowering taxes. And this puts pressure on the larger ones. Thus, even though political preferences have not changed, political outcomes have become more right wing as Europe expanded, and voters elected as well more politicians from the right.

How econophysics describes the income distribution

It has been a while since I last discussed a paper from econophysics, where it appears there is a substantial literature trying to describe the distribution of income. It turns out to be quite difficult, because the goal is to do this with a single equation. What one would want to do with that equation is not clear to me, but anyway.

Maciej Jagielski and Ryszard Kutner claim success with this endeavor by essentially dividing up the distribution in three parts, fitting each to a different distribution function, and then rejoining them into a single equation. But what income are they taking about, you may ask? They look at European income in 2006 and 2008, and take the data from the SILC EU project. That still does not determine what income they are considering, as the dataset allows multiple different ways to define income. It is not even clear whether this is income before or after taxes and whether it includes capital gains.

One problem the authors realized is that they need oversampling for to incomes. To take care of this, they look at the European billionaires on the Forbes list of the richest people over several years, conclude that changes in wealth must be "income" and take that, dropping all negative incomes along the way. Then they notice a large discontinuity from merging the two dataset and decide to divide the top incomes by 100 to make the joint distribution continuous. Oh boy. And this is the dataset they used for their study, believe it or not.

When kids are impatient: subsidize their savings

I do not have scientific evidence for that, but my observation is that children are very impatient, and they become more patient with age. That is rather paradoxical, as children have all their life to do things, while older people have a shorter horizon. Maybe patience is acquired, and the environment you live in conditions you to learn about patience. Some may call this learning to control deep instincts.

Nicola Pavoni and Hakki Yazici assumes that people have self-control issues regarding impatience, and that these issues vanish with age. Then how can one get the efficient allocation of savings through the life cycle? It should be no surprise that this comes with subsidies for savings, and those decrease with age. I would add that if savings is learned from experience, then the subsidy would be even higher very early on. And this is already happening, with banks offering to children savings accounts with particularly high interest rates.

An Econ Conference for Undergrads

In April at Georgetown.  Click through if you might be interested.

Congratulations to Jim Stock

President Obama has appointed my Harvard colleague Jim Stock to be a member of the Council of Economic Advisers.

Summer School in Economic Theory

Grad students in economics can click here to learn about 2013 Jerusalem Summer School in Economic Theory. It is ten-day program run by my Harvard colleague Eric Maskin.

Gender discrimination on the labor market in China

China is a country of contradictions. While its communist ideals dictate that all people are equal, genders are quite obviously treated differently. The country's leadership is more male-based than most (23 of 25 in the politburo) and parents routinely practice gender selection for their children, which leads to the ticking bomb of a large male population surplus (more here). Is such discrimination also practiced on the labor market in China?

Xiangyi Zhou, Jie Zhang and Xuetao Song went through the trouble of sending about 20,000 fake employment applications on various major Internet bulletin boards and analyzed the responses they got. The results are damning. There is signification discrimination, but in surprising ways. State-owned enterprises tend to prefer males. Foreign and private firms go the other way and tend to prefer females. The public sector is rigid and follows rules, so it seems deeply ingrained to privilege men despite all the rhetoric. The private sector is more flexible and, I suppose, takes opportunities where they are, and hiring discriminated women seems to be the way to go. On more lesson on how free markets can be powerful adjusters.