Practice Good Theory

How much Social Security will you receive?

noreply@blogger.com (Realist Theorist) — Tue, 14 May 2013 15:30:00 +0000

Will social security be there for you? It is almost cliche to say "it will be gone by the time I retire". Yet, almost everyone is relying on it. Are you relying on social-security to be there for you? If you're preparing for the worst, good for you; but, what's the most likely way in which this will unfold?

How are "benefits" calculated? This a very rough calculation:

First, estimate your average annual salary over your lifetime (up to the max. of about $100K, after which payroll taxes are not deducted).
You are promised $90 for each $100 of average earning, but only for the first $9000. Then, for the next "slab" you are promised 30%. Finally, for anything over $55K, it is 15%. (Benefits are indexed to CPI. These numbers assume 2010-equivalent dollars.)

Sample calculation: Suppose you just retired, having started working in the late 1960s. Your peak earning years were probably around 1990. Let's say you earned an average of about $ 32,000 per year. Suppose that (adjusting for inflation) it works out to $60,000 per year in 2010 dollars.

Look at the blue line in this graph. For an average of $60,000 after inflation adjustment [x-axis], you are promised a benefit of around $25,000 a year [y-axis].

Similarly, someone who earned an average of $100,000 gets just $30,000 in benefits.

(Use the "retirement estimator" at the SSA site, to get a better estimate of your promised benefits.)

So now you know how much you are promised. Next, look at the red line. That is my best guess for what you will actually get. At $60K, you will get $18K a year instead of $25K. And, if you are at $100K, you will get about $21K instead of $30K.

Anybody who is 30 to 50 years old should not expect to receive any more than this. If you are in your 20s, I have no guess for you. Don't bank on much.

(Warning: This is NOT expert advice. Expect real numbers to be quite different. Check everything with your accountant.)

My key assumption is that at some point, when as it becomes increasingly more obvious that Social Security must change, the country will implement some "middle-of-road" plan that uses elements from the various proposals now on the table. I assume it will be close to the "Simpson-Bowles" plan, because that one was bi-partisan.

Simpson Bowles (Dec 2010): A bi-partisan congressional group proposed changes in social-security, in order to extend its life. The red line in the diagram above shows their proposed benefits. It makes the benefit-schedule more "progressive" (i.e. the richer you are, the less you "get back"). A person with the higher average earnings will "lose" a larger amount. Depending on your level of income, instead of the current promise to pay you 30% - 42% of your average salary, the new promise will be to pay you about 20% - 35%. [Note: These changes are phased in gradually. The promises will be lowered a bit each year.]

Other Simpson-Bowles recommendations:

Raise retirement age: under current law, it will rise to 67 year. They propose it keeps rising, linked to life-expectancy. They expect the retirement age to be 68 year in 2050.
Raise the maximum salary cap for payroll-tax, from the current $107,000 to the equivalent of about $170,000. This means that people earning above $107,000 in salary will pay a 13% tax when they otherwise would not. Since they only "get back" 5%, this is just a way to tax "the rich" (aka anyone who earns over $110K or so).
Use a "chained-CPI" cost-of-living formula that increases benefits at a rate that is slightly lower than the standard CPI (Consumer price index). [President Obama actually proposed this if the GOP would give him something he wants in return.]

Paul Ryan's proposal: GOP Congressman Paul Ryan also proposes to raise payroll taxes (without changing the rate) as a side-effect of making employer-provided health-care benefits a part of income for social-security calculations. He will also lower promised benefits for those 55 and below today, particularly higher-earners. He proposes raising the retirement age. In addition, there is a minimum payout for those at the lowest end, somewhat analogous to the minimum wage.

Free-market proposal: Paul Ryan's proposal also contains something that Republicans might see as a free-market component. It allows retirees under 55 to save one third of their social-security taxes in a savings account. This would be something like an IRA, but Ryan adds a government guarantee that the account will not lose money! The only way the government can make such a guarantee is if it limits the types of investments in such an account. This is definitely not a free-market solution. The government should not be ensuring that people save. Further, the government should not be choosing where we can invest our savings. The danger is that investment vehicles vie for whatever government certification is required. We've seen what a poor job the FDIC has done ensuring the safety of bank deposits. We've also seen how poorly the government-approved credit-rating agencies performed. Given this history, a pseudo free-market system versus a fully and honestly government-run system is a poor choice of options.

Rand Paul's proposal: Representative Rand Paul, who positions himself as a libertarian-leaning GOP politician has a proposal too. He would increase the retirement age and means-test the benefits. "Means-testing" is a Republican-approved way of taxing the rich. This tells us that the final law will tax "the rich".

The context of the Federal budget: Entitlements are the really serious threat to the U.S. Federal budget. However, within entitlements -- believe it or not -- Social Security is the easy problem to tackle. Mathematically, Medicare -- with its sky-rocketing costs -- is the bigger problem by far. That'll have to wait for another post.

What will become law? Currently, no concrete plan has substantial support, but the proposals above give us some idea of how things will transpire. Simpson-Bowles was a bi-partisan commission. Paul Ryan and Rand Paul are seen as more pro "free-market" than the average Republican. All three of these proposals have two common themes:

Cut benefits in some "progressive"/means-tested way
Raise the retirement age

Also likely:

High-earners will pay more social-security tax (by raising the cap)
Slower cost-of-living increases

The ideal: I would like to see Social Security wound up. People can save for themselves, without government "help". Politically, this will not happen in my lifetime.

Fix social-security today, and forever: If we absolutely must have social security, I propose a simple rule.

"Every year, the social security administration
will pay out

only the amount it takes as payroll tax."

This would solve social security's funding problem overnight and permanently. It is not rocket science to stick to the basic principle of never, ever running a deficit in the social security program.

No more deficits: Such a scheme would be infinitely more honest than what we have today. For example, recently the government has cut payroll tax from 15.3% to 13.3% for two years to "help" get through the recession. Meanwhile, payouts to retirees remained unchanged. Sorry folks, there is no free lunch. Either cut the payouts too, or let the tax be.

Want to pay out more to seniors? I'm not happy about it, but at least do not borrow. Man up... pay for your desires. Raise the payroll tax if you want to raise the pay-outs.

Want to help the poorer among the retired, particularly when the economy turns down and we started screwing them with minuscule interest rates on the small nest egg they put into CDs? I'm not happy about it, but if you must do not borrow more. Man up... pay for your desires. Or man up and sock it to the richer retirees. Or, raise payroll taxes on people who still have jobs.

If voters want a statist safety-net with income redistribution, let us at least not have it open-ended and hanging over the heads of our children. Pay up now like honest folk would.

(Published Sept 2012. Updated May 2013.)

How're we doing in the Stock market, May 2013

noreply@blogger.com (Realist Theorist) — Fri, 10 May 2013 02:45:00 +0000

Is the stock market booming? Few people agree that we're in the middle of a terrific boom. Objectively, an average holder of stock (see SPY chart below) is in a position quite similar to the peak of the dot.net boom or the housing boom.

Yet, even people with their 401(k) fully in stock funds don't feel it emotionally -- we have the same number, but none of the excitement and enthusiasm.

Leading up to the dot.com top, a lot of people were wondering if the ride would end. Yet, the feeling was different from now. Today, it feels like there really has not been that much of a ride.

Is the economy booming? I think the main reason for the lack of enthusiasm is that the economy -- in real terms -- has lagged behind the stock-market.

This chart overlays Real per-capita GDP on top of the SPY chart. Notice the year 2000. You see a pause, and then GDP started to rise far past the previous peak. Meanwhile, today per-capita real-GDP is not yet back to the last (housing-boom) peak.

Total employment tells a similar story. The employment picture is actually worse than this chart shows, because we ought to adjust it downward for the growth of population.

Are we near a peak? The chart above may beguile one into seeing a pattern where we are approaching the peak of a third hill. So, it is only fair to show a longer-term chart of the Dow, reproduced from stockcharts.com

Notice how the stock-market went sidewards between (approx.) 1964 and 1988, and yet shot up right after.

If we're due for a large correction, it is not merely from the repetition of a pattern. It is more likely to come from disappointments in corporate earnings -- as John Hussman has been arguing.

Different motivation: The dot.net boom saw shareholders excited about their companies. The housing boom saw them generally flush with credit and happy about their net worth. This time, resignation seems to be driving people into stocks: because the Fed has lowered rates to a point where nothing else pays. It's not a party: motivation by carrot has been replaced by "motivation" by stick. I may not matter though: either way, if people are driven to do something they would not otherwise do, that sets the stage for mal-investment. The dot.coms have been replaced by "high-yield" stocks.

Parties can last. I'm not calling the death of the market boom though. Consider how long it took for people to lose faith in the equality of all EU sovereign credit. At any rate, if one wants to bet on a central bank's game falling apart, the FED (and the U.S.) seems a poor target. It would all make for an interesting tale, if it wasn't my savings on the line!

Shopping as a Game

noreply@blogger.com (Realist Theorist) — Sun, 21 Apr 2013 05:04:00 +0000

JC Penny recently fired its CEO -- Ron Johnson -- because his concept of simplicity was not working. With hindsight, we see that they forgot an important fact: for the typical JC Penny customer -- shopping is a game.

Exploration: Imagine a computer maze game. It has twists and turns. Imagine that you had to discover gold and treasure hidden along the way, by exploring, discovering, and then learning tell-tale signs -- often coming up empty-handed, but finally hitting pay-dirt.

Now imagine the game developer decided to simplify things by removing the maze. Instead, he gives you a straight hallway. And, why hide the gold --- such a waste of time? He simply places it on clearly-visible tables along the way. Perhaps the tables are placed so the gold jumps into your hand as you pass by. You start the game, press the forward key for a while, and you're done. You get through at record speed, and with all the gold. Simple and efficient... great if this was something you really wanted to get through as a means to another end.... but a lousy game. That is the story of JC Penny's new store and pricing concept.

The value of junk: You see customers (players?) hunting through a pile of merchandise to find the one thing they really like. There are some things that few people ever buy. Does it make sense to figure out what is junk and stop stocking it? Or, does it make sense always to have some junk, to make the hunt more interesting? A game where all the gold is out in the open is boring.

Texture and complexity can be a good thing. You see customers (players?) checking out your store but resisting temptation because they know a coupon will be out next week. Does it make sense to simplify pricing so that even a dullard can always get your best deal? Or, does it make more sense to keep pricing at a level complexity that require customers to be smart and knowledgeable about how the system works? A game without learning and failure and success is boring.

Shopping as Entertainment: Perhaps the metaphor of a game is exaggeration. There's obviously a utilitarian aspect to shopping. It varies from person to person and by situation. Nevertheless, shopping for clothes -- particularly women shopping from clothes -- is not strictly utilitarian, but a good part fun... entertainment that JC Penny removed from the mix.

Old poems used as songs

noreply@blogger.com (Realist Theorist) — Sat, 06 Apr 2013 15:10:00 +0000

Add this:
David Gilmour sings Shakespeare's Sonnet #18 (a post about it)

------------- previously listed ----------------

"Golden Slumbers Kiss your Eyes" by Thomas Dekker sung as Golden slumbers (by the Beatles); [I like K.D. Lang's version]

The ballad "Scarborough Fair"., sung by many (Sarah Brightman, Celtic Woman, Emerson Lake and Palmer, Simon and Garfunkel) .

Words We are the Music Makers, by Arthur O'Shaughnessy (by the Northwest Choral Society) Poem recitation here.

She walks in Beauty (Lord Byron), sung by Sissel, for the movie "Vanity Fair" (Also, a church choir version) [Rehtaeh seems to do the same version.]

Invictus, by "The Peter Ray Band"

The Highwayman by Alfred Noyes, sung by Loreena McKennitt

Food Prices - 30 Years

noreply@blogger.com (Realist Theorist) — Thu, 28 Mar 2013 01:51:00 +0000

Curious about food prices, I checked out the 30-year history of prices for Wheat, Rice and a few other such commodities. (From the indexMundi web-site). This post shares my findings -- with zero commentary.

The top-most chart below is the official CPI-U (from the Federal reserve web-site). Data is shown for 30 years, since 1983. This line is then reproduced as an overlay on each of the other price charts.

Consider the chart for Wheat (top-left). For 20 years the trend was flat, even though the price went up and down. The last decade has seen a climb. After staying flat, the price of Wheat has made up for lost time. With the exception of Pork, this theme is repeated across the other food commodities. (Sugar is the worst.)

I do not expect extreme levels of CPI-U in the next 5 years -- but, I promised zero commentary.

How're we doing on Unemployment? (March 2013)

noreply@blogger.com (Realist Theorist) — Sun, 10 Mar 2013 02:30:00 +0000

Since my last look in November 2012, the various measures of employment have remained along their recent trajectories.

A snapshot:

Unemployment rate slightly better each quarter (largely because so many people have stopped looking for jobs) [About 200K jobs were created, but this was plus 400K part-time jobs and minus 200K full-time jobs]
Participation rate (how many want jobs) between flat and slightly worse.
Employed-to-population ratio, between flat and slightly better

The source of all the graphs below is the excellent gallery at "Calculated Risk".

The unemployment rate has been dropping slowly but steadily for over two years. This "headline number" that is reported the most widely. It is also the one that gives the most positive picture. A "naive linear" projection gets us back to a pre-recession rate by the second half of 2014.

As the graphs below show, the "quality" of this rate will be much lower than what we had in 2006-07. There will be more part-time jobs, and a huge number of people would have just stopped looking. Nevertheless, this is the most-reported number on unemployment, so it's useful to keep an eye on it.

The Employment-population ratio shows a more dismal picture. Look at the black line above. It is more or less flat -- so much worse than the headline unemployment rate. If we take the most naively optimistic view, and assume this will suddenly turn upward at a pace as fast as we saw after 1975, it would still be 2017 before we get to pre-recession levels. If we assume it will turn upward and grow at a historically-average rate, we're probably talking about 2019. If we look back at the times when the rate flattened out for a few years (mid-1960's and 2003-04), we'll see that it grew slower than normal.

Does that mean it will be the mid 2020's before we can be back to pre-recession levels? My best guess is that we're "never" getting back to those levels. The biggest change we have seen is that many fewer 16-19 years olds are working. This aspect might be here to stay. We are probably talking about a "new normal" where we get back to a little below the pre-recession levels over the next 5 or 6 years, and stay there.

Core age-group, Employment-population ratio: If we leave out those below 25 (yes, I know 25 is pretty old), and leave out those above 54 (yes, I know that's just a few years away for me, and I don't feel old), we get an age group (25-54) which is in its core working years. Mostly, these people cannot delay looking for work while they do still more college, nor can they retire yet.

Most optimistically, it will be 2016 for this group to reach its pre-recession level of employment. A more reasonable assumption would put it around 2019 or 2020.

Summary of projections:

If we do not have a new recession, various measures of unemployment are likely to improve. However, some measures appear to be headed for a "new normal", never returning to pre-recession levels. Except for the "headline rate", they will take well into the next presidential term to return to "good times". The headline unemployment rate should be back in about 2 years, barring a new recession.

No new recession? With a booming stock market, a recession appears a distant idea; but that's how it always feels as we head to a "top". Some commentators think we might be seeing early signs of a recession (Europe is already in recession, China is faltering, and India too.) Forget all that, and simply look at the frequency of recessions in the chart above. A "naive-projection" would say that there's a pretty good chance we will have another recession in the next 4 or 5 years. If that happens, the linear projections for unemployment can be thrown away, since we'll start another downturn.

Previous, related posts:

How're we doing on Unemployment and GDP? (Sept 2012)
How're we doing on CPI Levels? (April 2012)
How're we doing on home prices? (April 2012)

Bar charts on Chris Matthews show

noreply@blogger.com (Realist Theorist) — Wed, 06 Mar 2013 04:37:00 +0000

I'm not a grammar nazi, nor a stats nazi, but I'm going to rant anyhow...

The Chris Matthews show (on MS-NBC) routinely shows statistics in a form that looks like a horizontal bar-chart. The only problem is that the "bars" are always the same length, regardless of the stats. I've noticed this for many months.

Don't those look like horizontal bars? The rounding does it for me.

The example below is how it should be fixed.

Is this illiteracy from MS-NBC, or do they have some strange intent?

Here's another example. Why are all the reds, whites and blues the same size?

History of the U.S. debt

noreply@blogger.com (Realist Theorist) — Sat, 23 Feb 2013 13:00:00 +0000

My intent in this post is to question if the U.S. really has a large amount of debt. Some people think we are just a years away from a breakdown in the credit of the government. Others think we've gone through bad times in the past and will "grow out of" our problems again.

To keep this post simple, all debt figures are "gross". "Gross debt" includes the amounts owed by the government to the Fed and to the Social Security "trust funds". Also, all figures are nominal dollars (i.e. no adjustments have been made for price-increases). [Other, better, measures will have to wait till a future post.]

Scary chart: This chart of the "gross" U.S. government debt since looks scary in the way the amount of debt seems to be shooting up exponentially.

Remember the number $16 Trillion dollars. That is the approximate level of gross federal government debt. The total GDP of the U.S., is also about $16 trillion.

Has been scary for decades: In the chart above, you can see the debt start to rise in the 1970's and quicken in the 1980s. This second chart uses the same data as the first, but stops at 1985. Look at the left-hand scale: the gross debt was just 1.6 Trillion ( a tenth of today).

Yet, the chart, drawn the same height as the first, looks almost as scary. Just because this has appeared scary for decades, we should not be lulled into complacency. Things often worsen over a long time before they become too hard to undo.

Charts with a linear scale on the Y-axis show absolute growth; they obscure growth rates. Going from 1 trillion to 2 trillion shows up as just as big an increase as going from 15 trillion to 16 trillion.

(Also notice, at this scale, the jump in debt to fight WW-II is clearly visible. )

Re-drawing the chart, using a log scale on the Y-axis, allows us to see where the growth rates were steepest.

The rate is fairly steady: Suddenly, the chart looks far less scary. The steepest jump was in WW-II, and subsequent rises have not come anywhere close to that rate of growth.

We see three major periods in this chart: a steep rise in WW-II, followed by 15 years of very slow growth (almost flat by comparison), and, finally, a clear rise in the rate from 1970 to today, with a brief pause during the dot.net boom.

A steady rate is not necessarily good news. If someone is digging themselves into a deep hole, it is little consolation that they increased the depth just as much yesterday, and the day before. In fact, a steady rate means that they were digging a larger amount every day. If nothing changes, there will come a point where they're trapped.

Debt-to-GDP ratio: A common way to measure the seriousness of government debt is to compare it to GDP. How much is the debt, relative to the total annual production of all the citizens -- who, in their role as taxpayers -- are the underlying debtors shouldering the burden?

We can take two very different messages from this chart.
The scary message: On the one hand: the debt is clearly getting increasingly burdensome since 1980.

The positive message: Or, we can see the glass half-full by noticing that the debt was even more burdensome after WW-II. If the post-WWII generation brought the ratio down to 30% of GDP, then why can't we follow their example and do the same. There may be hope yet: we just have to do what they did!

Debt and GDP Compared: This chart expands on the Debt/GDP ratio, by showing the two components (Debt and GDP) separately. Notice how GDP grew faster that gross debt until recently.

Also notice, for instance, how the increase in gross-debt slowed slightly in the years before 2000, while GDP kept growing. This explains the dip in the Debt-to-GDP ratio seen on the previous chart during the same years.

Notice that the latest recession has seen a significant shift. Since 2008, debt started to climb much more steeply, until it is now almost equal to GDP.

1950's and 1960's: The scale in the chart above makes it appear that debt and GDP were very close during the 1950s. Scaling up and looking just at those years, we see the true picture.

Now we see the explanation for the rapid fall in the post WW-II Debt-to-GDP ratio. After WW-II, gross debt increased from about $ 275 billion to $400 billion up to 1969. Meanwhile, GDP went from $200 billion to $1000 billion!

The future: If we do nothing about the growth in government debt, and if GDP does not speed up, we face Scenario A in the chart below: the problem gets ever more out of control. If we bring the growth in debt back in line with the growth in GDP, we face scenario B. While better than "A", this is a high-risk scenario that holds the poor status quo. Predictably, a recession will come along, taxes will fall, and stimulus will rise, and we will shift into Scenario A.

Today, in summary: Based on historical norms, the gross-debt of the U.S. is too high, matched only during WW-II. In theory, we should be able to do what the post-WW-II generation did: grow the debt very slowly while growing GDP much faster ("Scenario C" above). Unfortunately, considering today's politics, both those seem improbable propositions. So, in summary, we're justified in worrying.

U.S. Congressional Majorities

noreply@blogger.com (Realist Theorist) — Sat, 09 Feb 2013 11:53:00 +0000

The chart below shows the number of seats in the House of Representatives held by the Democratic party and by the GOP, since the early 1900's. For most of this century, the Democratic party has had a majority of seats in the House (out of a total of about 435 seats).

The chart starts with a GOP majority, which changes after the stock market crash. During Roosevelt's term the Democrats take a huge lead, and they keep this lead (with two exceptions) all the way to 1994, even through Reagan's presidency. Finally, during Bill Clinton's time -- in 1994 -- the GOP gets the majority back and has held it except for two terms after the recent market crash. [Source: Numbers come from various articles on the Wikipedia.]

I also wanted to understand what would happen if the house had something similar to the filibuster rules of the Senate. About 260 seats is 60% of the total -- see the grey shaded area running across the top. A lot of the time, the majority is below 60%. So, if 40% of Representatives could stop passage of a bill, we would have had many House terms where the minority party could have threatened a "veto". This likely would have been a good thing.

Liberals, Moderates and Conservative: Self-reporting

noreply@blogger.com (Realist Theorist) — Sat, 02 Feb 2013 15:00:00 +0000

Every year, Gallup conducts a poll where they ask people across the U.S. whether they would call themselves "Liberal", "Moderate" or "Conservative". For the last 5 years, percentages have been fairly stable. Without reading further, can you guess what percentage would call themselves "moderate", and how conservative/liberal would be split?
Here is a link to the latest results.

About 37% say they're moderate, about 39% say they're conservative, and about 22% say they're liberal. Since the country's voters divide about 50:50 when it comes to voting for Republicans and for Democrats, it's safe to conclude that moderates lean democrat. If we were to make some rough assumptions and say that voter turnout is equal among the groups and and that "conservatives" vote GOP and "liberals" vote Dem, then a 50:50 vote result would imply that the 37% who call themselves moderate break down into: 10% moderate but leaning GOP and 27% moderate leaning Dem. Even if there is leeway in the assumptions, I think it is a reasonable guess that people who call themselves moderate are at least twice as likely to vote Democrat than Republican.

Democrats are more mainstream: I think this fits with anecdotal evidence. Viewpoints propounded by the Democratic party more closely reflect the mainstream views taught in schools and colleges and via movies etc. So, very broadly, the stance of the Democratic party is seen as being more moderate than the stance of the GOP. Under this understanding, people who support some of those mainstream views and think of themselves as moderates, also see the Democratic party as being closer to their position.

There are no liberal states! I found it interesting that when one looks at state level data (see page 2 at that link), there is no state of significant size where more people call themselves liberal than conservative. (Mass., Rhode Island and D.C. are the only ones, and there two only D.C. has a clear majority of self-reported "liberals"). Meanwhile, in states like New York and California, self-reported conservatives are more than self-reported liberals (by slim margins).

Just some food for thought -- or perhaps a poll confirming what you already knew!

EU Rates

noreply@blogger.com (Realist Theorist) — Wed, 30 Jan 2013 19:29:00 +0000

Lenders to governments run two types of risks: credit risk (the country won't pay back 100% of the loan), and currency risk (a country borrowing in its own currency can pay back the loan by "printing money").

Developing countries often borrow loans denominated in a currency like the US $, to remove currency-risk. Despite this, they have to pay higher rates of interest because they are not great credit risks.

Countries have defaulted throughout history. Yet, consider the chart on the left. After European countries joined the Euro, interest rates on their borrowing became almost equal. And, notice how that finally ended around 2008, with the "great recession".

Why were rates nearly equal for about 9 years?

Under the Euro, countries agreed not to default (default was not envisaged).
They also agreed to stick to certain deficit limits
Finally, there was a good possibility that the EU and the ECB would come to the aid of any country in trouble, bailing out their creditors.

The main assumption: Merely agreeing not to default is meaningless. As for the limits, countries were exceeding those deficit limits pretty soon. Essentially, lenders were relying on the idea that Euro countries would hang together when push came to shove. Imagine a lender in 2001 thinking: "if Portugal gets into trouble, the Germans will bail them out". It would be a decent guess, but surely there was also a some chance that Germans would shrug? Surely more probability than shown by the near equality of interest rates paid by the two countries. In retrospect, it seems bizarre that creditors were lending money to Portugal and Germany at the same rate.

The assumption questioned: Starting around 2007, people began to question the idea that Germany would bail out the poorer countries. Increasingly, lenders figured that Greece or one of the others would default. Finally, in 2012, Greece did default. Subsequently, fear has receded as the ECB has said they will supply as much liquidity as is required to hold things together. Rates that had spread far apart came closer, but there are still spreads between different countries, as can be seen in the chart above. (Today, Europe is debating is Cyprus should be allow to default, or if they should be bailed out.)

In the long term: I think the biggest lesson is how long it can take for things like this to play out. Governments like the U.S., Japan, the EU, and even China have a lot of resources. They can bring these resources to bear, to impact market prices. Even if one is right that they cannot keep irrationality at bay forever, they can do so for a long time. Keynes said, "Markets can remain irrational longer than you can remain solvent". Of course, in this case, it is not about markets being irrational. Maybe we should add to that quote: "...and governments can stay irrational far longer than any market can".

Japan and the U.S.: Since the housing bust, a few people have feared that huge amounts of money-creation in the U.S. and the huge deficits will cause huge problems, while others have pooh-poohed the idea. The truth is that if the U.S. continues to pile on debt, it will create a serious crisis some time down the road. The U.S. could well change -- countries do. Still, even if it does not, it can be years before one sees the effects. Consider Japan, that has been in a recession for two decades, and has run up debt that is far greater than the U.S. It appears to be getting closer to show time for Japan, but one could have gone bankrupt the last 20 years thinking it was going to break.

The Mediterranean Maghreb

noreply@blogger.com (Realist Theorist) — Sun, 06 Jan 2013 18:50:00 +0000

The Mediterranean Maghreb, along with Egypt and the Levant, has been rocked by the "Arab Spring". Once part of the Roman Empire, North Africa went through a period of Islamic rule, Turkish Imperialism, and European colonialism, followed by independence under mostly dictatorial regimes. The Arab spring marks a new turning point.

"A moment comes, which comes but rarely in history, when we step out from the old to the new; when an age ends; and when the soul of a nation long suppressed finds utterance." - Nehru

What will "the new" look like in North Africa? Some fear the next phase will be Iranian-style Islamic rule, others are cheering for Democracy. Probably, the next phase will vary across the four countries of the region, ranging between strong authoritarian (possibly Islamic) rule and more liberal democracies that implement a few Islamic rules in family-law and related areas.

Later, with a generation or two, that too may pass. I think it is likely that sometime in this century, at least one North African country -- perhaps Tunisia (once Carthage, land of Hannibal), will follow Turkey, and be linked back into Europe via some political form that extends the EU across the Mediterranean.

Indeed, considering the North-South divisions in Europe, one might go out on a wing of fancy and wonder if perhaps the more enduring political union may be a Mediterranean one: the Roman Empire rising again? A Union that circles the Mediterranean, using a common currency (the Denarii) might work better than the EU. But, enough of fiction.

Here's a map of the four countries, followed by very brief summaries:

Morocco: [You've heard of its largest city: Casablanca.] This constitutional monarchy was fairly dictatorial, but began small moves to liberalism under the current king (since 1999). The Arab Spring protests resulted in a new constitution and more democratic control, but the king still retains primacy.

The largest parliamentary party is moderately Islamic, but it has nowhere near a majority. There are quite a few other parties that are nationalist, monarchist or even liberal.

Algeria: Post-French-colonial governments were socialist, secular and authoritarian. In 1991 an election was held and an Islamic party won, based on their Islamic ideology and their anti-socialist agenda that appealed to traders and businessmen. The military overturned the results; the leaders of the Islamic party were jailed; and, a bloody civil war ensued, with the military and the secular establishment retaining power. Since then, Algeria has seen a slight opening up of the economy, but is still very authoritarian, and reliant on extraction of oil.

The Arab Spring saw uprisings in Algeria, but the government has maintained control. It mostly remains a country run by secular authoritarian government, with a not-so-moderate Islamic party likely if free-elections are ever held.

Tunisia: Like Algeria, the post-colonial government was secular and autocratic. (Veils were banned in government jobs.) Then, a Tunisian street-vendor set himself on fire, sparking the Arab spring.

Unlike Algeria, the the President fled and a new party is in charge. While the historical roots of this party are very Islamic (pro-Iran etc.) the current leadership appears to be moderate. Unlike in Algeria, where the main Islamic party wants Sharia, the Tunisian party rejects Sharia as a basis for law, while saying that the law should be informed by religious/Islamic values. The leader says he sees an Islamic party in the tradition of the various "Christian Democratic" and "Christian Socialist" parties of Europe.

Libya: And Italian colony before WW-II, post-colonial Libya was a monarchy that was fairly secular. After twenty years, the king was overthrown by socialist, nationalist Gaddafi. He declared that Sharia would be the law. He also was the most repressive and brutal of the North African dictators.

The Arab Spring brought civil war to Libya, and Gaddafi's death. The interim constitution says that Sharia is the basis for law. However, despite this, and despite the attack on the U.S. consulate in Benghazi, the majority in Libya is not particularly Islamic. The largest political alliance favors democracy and a move toward liberalism.

The future: Morocco is on a path where power continues to move away from the king, to a parliament, and where religion does not play an overwhelming role. Tunisia does not have a monarch, and appears to be further down the path of modernism. With a per capita GDP ($9,300) greater than China, Tunisia has the best prognosis of the four. Algeria is brittle, with its dictatorship likely to crumble some day, with an Islamic party waiting in the wings, and with a history of civil war. Finally, Libya is a mess of rival tribes right now, but the parties are not overwhelmingly religious. It's reliance on oil might entice a new dictatorship; we have to wait for the dust to settle.

What is the "Milk Cliff" ?

noreply@blogger.com (Realist Theorist) — Sat, 29 Dec 2012 22:08:00 +0000

In the middle of the "fiscal cliff" stand-off, there are stories about a "milk cliff". If Congress does not act, milk prices might rise substantially -- potentially doubling.

Price support programs have been around for decades. Herbert Hoover desperately tried to keep prices from falling, and was fairly successful at doing so (prolonging the great depression). The intellectual root comes from monetarist economists who want the government to ensure the stability of prices, in order to fight deflation. [Today, some of these are cheering Japan's new Prime Minister Abe who says he wants prices to rise at least by 2% per year.] Roosevelt doubled down on the madness. In 1933, millions of pigs were slaughtered. They were not handed out to the hungry poor struggling to get by. Instead, they were buried in mass graves. Posterity will not believe this.

The Dairy Product Price Support Program makes the government buy milk. The current program dates from 1949. Under the rules of the program, the government would be buying milk at very high rates. So, along the way, in various farm bills, the amount of the subsidy has been lowered. Instead of removing the subsidy entirely, only the calculation has been modified, and only temporarily.

Farm bill: If we do not get another Farm Bill, we will go back to 1949 subsidies and the government would have to pay so much for milk that the price might double. The government is not allowed to resell the milk at a lower price. It is not allowed to give it to charitable organizations. The whole idea behind the program is to keep milk-prices up. Farmers don't want the price to rise that high, because they know voters will wake up and might cancel the program altogether.

Don't patch it, Kill it: We do not need a new farm bill full of subsidies. We do not need a farm bill that will reduce the milk subsidy once again. We need a bill that will kill these farm subsidies forever.

Raise everyone's taxes

noreply@blogger.com (Realist Theorist) — Sat, 29 Dec 2012 00:12:00 +0000

In this 2-minute video, CNBC's, Maria Caruso Cabrera demonstrates the abysmal quality of mainstream business reporting:

First, Cabrera implies that Democrats are wrong in a wanting to raise tax-rates on the rich. Then, with no sense of irony, she suggests means testing for Medicare. She ought to know that means testing is as much a progressive tax as the Dems push to raise the marginal rates. The GOP want to tax the rich just as the Dems do...they just want to pretend they don't.

Payroll tax are taxes: Today's social-security system is very progressive. Richer folk are paid out more than the poor; but, proportionally the rich are paid out far less. We have Alan Greenspan to thank for this. Medicare is even worse. The rich pay in far more and get nothing extra -- not even a better walking-stick -- in return.

The Simpson-Bowles plan would shore up social security. In part, it would do so by raising payroll taxes on the rich, but only paying them a tiny bit more when they retire.

Medicare tax hike for 2013: In 2013, a 3.8% Medicare surtax will hit people earning around $250K per year. At 3.8%, the increase is significant. In the recent "fiscal-cliff" farce, the GOP has been portrayed as fighting to stop taxes being raised on millionaires. Yet, even after hours of TV programming on the topic, few people know about the Medicare surtax.

Tax the middle-class: Economist Tyler Cowen has suggested that we should raise taxes for everyone. Taken in context, I agree with him. There has been too much focus on "the rich", when those taxes would only make a small dent in our deficit. It is the spending, stupid! However, politicians are scared to touch entitlements.

Focus on deficits: The GOP cling to a "no tax" mantra like cargo-cultists. As the CNBC video shows, they're fine with progressive taxes if they're called something else, like "means testing". Instead the GOP should focus on the deficit. They should insist on a plan that eliminates the annual budget deficit within 5 years, and has a surplus for the next 10, paying off a portion of the debt. That should be primary. They should not compromise on this. To get there, they should insist on spending cuts. They should only compromise on this if the Dems agree to raise taxes to cover spending, and only if the taxes are across the board: where all voters feel some pinch from the extra spending.

Someone else's money: If that sounds like a dream, the root cause is the American voter who wants to pursue his American values like iPods and iPad, ignoring the fact that we will eventually run out of other people's children. It does not take a rocket scientist to understand that the deficit will fall on our kids and someone else's kids. It does not take a saint to know this is immoral. Voters ought to have their taxes raised, thus bearing the burden of their desires.

Around the world - Dec 2012

noreply@blogger.com (Realist Theorist) — Wed, 26 Dec 2012 14:27:00 +0000

Some tidbits of news from around the world:

Protests in India: As these photos from CNN show, last week New Delhi looked like Tahir square, as thousands of middle-class youth protested against traditional police attitudes toward rape. This followed an exceptionally brutal rape of a middle-class girl in India's capital. Police responded with batons and water-cannons, and one cop died. It appears that this will be watershed incident, which will bring some real change to public (and police) attitudes toward rape.

Britain's Royal Mail has started to explore privatization. Margaret Thatcher sold state-owned industries except for the railways and the post office. Her successor privatized British Rail in 1993 (inspired by Sweden). The U.S.Post Office and Amtrak have no plans to privatize, though the former is selling some of its pricey real-estate.

The 1997 Kyoto Protocol is losing steam. In 2011, Canada withdrew. Now, in the latest round, Russia and a few other ex-soviet republics are threatening withdrawal. Good riddance!

Japan has been in recession since the crash in 1989/90 (Nikkei in black). The dark blue line in the graph shows the Yen. Notice the strength between 1985 and 1990, during the boom. Notice the flattening out since then.

Japan has more public debt than any other developed nation. They've engaged in a flood of monetary and fiscal stimulus. Yet, to the disappointment of both Keynesians and Monetarists, Japan has been going nowhere for 20 years. (Take heed, all those who would short US debt and the dollar.) No country can put off the day of reckoning forever, but a strong country can delay it long enough to wipe out even the patient shorts.

Still, with every few years, the Japanese crisis worsens. It's like any bubble: hope and expectations underlie credit-creation until one day hope changes to fear. [Full disclosure: I'm short JGB and yen]

U.S. Economy: Federal Debt- How big is it?

noreply@blogger.com (Realist Theorist) — Wed, 19 Dec 2012 14:00:00 +0000

(Updated: Dec 2012)

Lots of numbers: Trying to get a clear picture of U.S. government debt can be frustrating. The government owes:

60% of GDP: bonds owed to private entities, both foreign and domestic
100% of GDP: if we add bonds owed to the government-itself (e.g. Social Security "trust fund", Federal Reserve)
400%+: if all Fed promises to social security and medicare recipients are met (they won't be) [Note: the GAO claims that adding another 2% (of payroll) to the current 13% payroll tax would keep social security funded for more than 70 years!]

A snapshot: The U.S. government (officially) owes about US $16 trillion to the public, plus to the Fed, plus to the "trust funds". The GDP of the U.S. is approximately $16 trillion. (Both these were about $15 Tr. last year.) To put this in perspective: adding up the assets of everyone in the U.S. and subtracting liabilities, we get a "net worth" that adds up to about $ 64 trillion ($58 tr. last year), shown by the blue bar at the top of this chart.

The bar in the middle is the government debt.

(Aside: The portion marked "gone" is wealth that disappeared in the recent bust. All figures here are nominal and many assets (like homes and stocks) are valued at market prices. In the recent bust, home values and stock-prices dropped, bringing nominal net worth down by about $10 trillion, of which $5 trillion is back.)

Annual budget: The bar at the bottom shows the annual GDP. The purple is taken as taxes and spent by the government (importantly, this excludes payroll taxes!) The red portion, is borrowed and spent, viz. the annual federal deficit of over $ 0.6 trillion. Visualize adding more such red portions each year, going to the right. One can see that in a few decades, all the wealth in the U.S. won't be enough to pay off the government debt. (We would never get there, because we'd have a financial collapse well before we're actually bankrupt).

Breaking down Federal Debt: Of the $16T in federal debt, approximately $5.5 is owed to foreigners, $4.2 trillion domestically, $1.7 trillion to the Federal Reserve, and $4.8 Tr. to the "trust funds". [All figures are purposely approximate -- i.e. give or take half a trillion. It is the order of magnitude that matters more, so I chose rounding that helps memory.]

Foreign holders of U.S. government debt: The biggest jump since last year was in bonds held by foreign entities, up from $4.5 Tr. to $5.5 trillion.The government makes estimates of which countries (and their citizens) hold the government debt owed to foreigners.

This pie-chart (one year old -- 2011) shows the break-down, with China holding about $1.2 Tr and Japan holding about $1 Trillion.

International Comparison: This next chart (from 2010) compares the government debt of various countries, expressed as a percent of their GDP. (Source: IMF via Wikipedia). The scary part is that the U.S. is pretty bad by this measure. At the same time, consider that Japan is more than twice as bad by this measure, and there is still a large appetite to buy Japanese bonds at extremely low interest rates. Finally, notice that even though China is reputed to be a creditor to the world, these statistics show that their government has borrowed about 33% of its GDP (the Chinese central bank might be excluded from this calculation).

A caveat on Incompleteness: "Off balance sheet" liabilities, like commitments for Medicare and Social-security (not addressed in this post) can make a huge difference to these numbers. As mentioned earlier, some estimates are as high as $62 trillion, dwarfing all else. Also not addressed: the private saving and investment which can help wealth grow. Those two deserve separate posts.

Also see Part 2: Unfunded Liabilities for "entitlement programs"
Also see Part 3: Other Unfunded Liabilities

The Fiscal Cliff

noreply@blogger.com (Realist Theorist) — Sat, 01 Dec 2012 12:30:00 +0000

"The fiscal cliff", is a poor name, that obscures through metaphor. Call it what it is: a little deficit reduction. All the cries to "not go over the cliff" are cries to not reduce the deficit. CNBC, usually middle-of-road is running a campaign called "Rise Above", asking law-makers not to reduce the deficit (i.e. not to go over the cliff)!

Taxes will rise if:

the "Bush tax cuts" and "AMT exception" expire,
the Payroll tax goes back, up to its normal rate

Some government spending will falls if:

unemployment benefits go back down to their normal rate
"sequestration" agreed to when extending the debt-ceiling kicks in

Too much too soon: Keynesians never want to reduce deficits, but they couch their appeal saying: "don't cut right now", "don't cut too much" or "don't cut too abruptly". Yes, tightening will cause some short-term pain, but it'll be worse later.

Wake up call needed: Consider the Personal Savings Rate. After the current bust, it rose from a low of 2% to about 4%. That shows people changing behavior, but not enough. It has started to waver. If people really thought we were facing a "new normal" in the economy, and that entitlements were going to be reduced, this rate would rise further as people cut back spending.

So, while a recession causes pain and disruption, perhaps a second downturn (as opposed to our flat stagnation) is a required wake up call.

Will probably be avoided: The consensus of political gurus seems to be that the Democrats and GOP will reach a deal. However, there is no point reaching a deal that postpones the issue, or even makes it worse by adding more fiscal "stimulus".

How are we doing on Unemployment (Nov 2012 edition)

noreply@blogger.com (Realist Theorist) — Sun, 25 Nov 2012 17:50:00 +0000

Last time I looked at unemployment, in Feb 2012, the number of people employed was flat; but, with people dropping out of the workforce, the unemployment rate had started to fall.

The rate has continued to drop (upward in the graph from Calculated Risk, shown below). To the right, I've added a "naive linear projection" which would see pre-recession unemployment rates return by 2015.

Instead of the commonly-reported rate, we could simply look at the number of people employed as a percentage of the population.

This chart shows the core working-age range (25yrs -54yrs). Notice the slight uptick near the end of the chart. After a flat 2010 and 2011, we've seen a slight rise during 2012.

What if we do a naive extrapolation of this chart? When will we reach the pre-recession 80% for this age-range? We get the orange arrow drawn at the end... ... not getting back to pre-recession levels for at least 5 years (that's 2017). Unfortunately, if we look at data for all ages (16 - 65yrs) the uptick is barely discernible, with youth unemployment being the major issue.

Unemployment claims are flat too, stubbornly refusing to come down to levels seen in 2005 through 2007.

New normal: PIMCO's Bill Gross has popularized the phrase "new normal". This is the idea that the U.S. has moved to a phase where we are not going back to 5% unemployment and 3.5% GDP growth.

A new recession: Go back to the first chart in this post. Imagine that the "new normal" for unemployment is somewhere near 6%. If a recession does not hit in 2013, we could see a rate like that in 2014. Meanwhile, in Europe, Japan, China and India, all signs point to slower growth -- with Europe and Japan in recession. There is a strong likelihood that the U.S. will see at least a mild recession (as defined by the NBER) during the current presidential term. (Some economists think we're in one already.)

The summary: Flat, but not clear that were poised to improve; we could just as well be flattening out before a second dip.

Presidential Elections - Popular vote margin

noreply@blogger.com (Realist Theorist) — Sat, 24 Nov 2012 00:45:00 +0000

Only once since the 1900's has a U.S. president lost the popular vote, while winning the election: G.W.Bush's first term. Other than that, which president got the lowest margin of victory? The answer -- JFK -- shows how history was kinder to him, compared to contemporary opinion.

It is also interesting to look at presidential second terms. After 4 years to check a president out, who enthused voters the most (relative to his second-time opponent)? The winner -- FDR -- is no surprise, but the close second is Richard Nixon. Nixon got a higher margin in his second term than Ronald Reagan!

Third party caveat: Some of these years cannot be compared, because a third party took more than a marginally share of the vote. For instance, ironically, the Green party might be the reason Gore lost since they got about 3% of the vote in the election where Bush lost the popular vote. Perot took 19% in Clinton's first election and over 8% the second time around. Anderson took over 6% in Reagan's first election. George Wallace took over 13% in Nixon's first. The Progressives took 16% when Coolidge won.

Oliver Cromwell and Barack Obama

noreply@blogger.com (Realist Theorist) — Sat, 13 Oct 2012 03:48:00 +0000

From Dec 2008:

The stock-market is down 40%, with middle-class savings decimated, and the finger (sadly) pointed at "Wall Street". On top of this, news just broke of an unprecedented financial scandal, where Bernie Madoff seems to have confessed to a $50 billion fraud! And, the governor of Illinois is accused of blatantly auctioning a senate seat.

These are dangerous times, because uninformed public anger at such events can be harnessed by a demagogue. Imagine Oliver Cromwell, giving his famous speech today:

20 April 1653
It is high time for me to put an end to your sitting in this place, which you have dishonored by your contempt of all virtue, and defiled by your practice of every vice; ye are a factious crew, and enemies to all good government; ye are a pack of mercenary wretches, and would like Esau sell your country for a mess of pottage, and like Judas betray your God for a few pieces of money.

Is there a single virtue now remaining amongst you? Is there one vice you do not possess? Ye have no more religion than my horse; gold is your God; which of you have not barter'd your conscience for bribes? Is there a man amongst you that has the least care for the good of the Commonwealth?

Ye sordid prostitutes have you not defil'd this sacred place, and turn'd the Lord's temple into a den of thieves, by your immoral principles and wicked practices? Ye are grown intolerably odious to the whole nation; you were deputed here by the people to get grievances redress'd, are yourselves gone! So! Take away that shining bauble there, and lock up the doors. In the name of God, go!

Cromwell did not turn out well.

Update Oct 2012: In the U.S., we have had 4 years of similar rants. President Obama talks of good businessmen as if they too belong to a den of thieves. Still, voters get the politicians they deserve, and U.S. voters have no excuse for their ignorance.

Any month's Unemployment Report is useless

noreply@blogger.com (Realist Theorist) — Fri, 21 Sep 2012 21:09:00 +0000

The monthly U.S. unemployment report is not much use as a real-time statistic. The data is meaningful only after it has been revisited, revised and is no longer current. Two factors make it difficult to compare the report with the "normal": seasonality and the birth of new businesses. Adjustments are required.

Total Non-Farm Employment
(No Seasonal Adjustment)

Seasonality: Statisticians adjust monthly data for seasonality in order to make better comparisons. For example, every year total employment drops sharply from June to July (see chart). If it drops this year, it is not necessarily bad news -- it could be an expected seasonal pattern. Instead of reporting the actual ebb and flow, statisticians often report a seasonally-adjusted number. A drop that is much less than normal, may be reported as an increase in employment!

Birth-death Adjustments: A second adjustment by the BLS is an attempt to estimate how many new businesses have been formed, but are not yet part of the list used by the survey team. The BLS makes assumptions about how many businesses are created in different industries, in different months.

Bureaucracy rather than conspiracy: Seasonal adjustments are not "fudging". They can also make the numbers look worse. Private business do this all the time. Birth/Death adjustments can make numbers look good (or bad) for months or years, if we're in a secular "new normal". A private investor gathering data, seeing every month being revised down by 2000, may come up with an adjustment: something has changed, we don't know what it is... but, lets start subtracting 2,000 right off the bat until this does not happen any more. Bureaucracies don't work that way, least of all government ones.

Married to models: It is not just bureaucrats. People can be wedded to their "models". Paul Samuelson's famous textbook showed the Soviet Union would surpass the U.S. When his past forecast for commie success was too high, he did not change his model. Instead, he assumed the growth revolution had simply been delayed. So, his revised text books continued to predict Soviet economic growth shooting up in the future.

A literal lie: Taken literally, the BLS does lie when is says (e.g. July 2012) "Total non-farm payroll employment rose by 163,000 in July". It ought to say "Seasonally-adjusted total...". For instance, an accurate description of that July report would have said: "Total non-farm payroll fell by 1.2 million, but adjusted for seasonality, it rose by 163,000". (That is not a typo.)

This time is different: The two adjustments above work reasonably well when times are close to "normal". However, adjustments fail when there are significant one-off influences. Particularly warm or cold weather that moves shopping patterns by a few weeks this way or that; or, a government cash-for-clunkers program that induces purchase that would otherwise have delayed for a few months; or, historically low new-business formation.

Terrible at turning points: At turning points (when you would need them most), the BLS's adjustments turn out to be very wrong in retrospect. From one of John Hussman's superb weekly commentaries: For example, if you look at the originally reported data for May through August 1990, you’ll see 480,000 total jobs created (see the October 1990 vintage in Archival Federal Reserve Economic Data). But if you look at the revised data as it stands today, you’ll see a loss of 81,000 jobs for the same period. Look at January through April 2001, at the start of that recession. The vintage data shows a total gain of 105,000 jobs during those months, while the revised data now shows a loss of 262,000 jobs. Fast forward to February through May 2008, and though you’ll actually see an originally-reported job loss during that period of 248,000 jobs, the revised figures are still dismal in comparison, now reported at a loss of 577,000 jobs for the same period. As other good economic analysts have recognized, economic time series tend to be revised after-the-fact, with upward revisions in periods just before the recession begins, and downward revisions in periods just after the recession begins. I continue to believe that the U.S. joined an unfolding global recession, most probably in June of this year. [emphasis added]

Summary: BLS data is fine when one is studying history; but, any one or two months data does not tell us much if anything. Nietzsche warns: "Danger, disquiet, anxiety attend the unknown –the first instinct is to eliminate these distressing states. First principle: any explanation is better than none… The cause-creating drive is thus conditioned and excited by the feeling of fear!…” Don't grasp at the data merely because you want to grasp at something. Acknowledged ignorance is sometimes closer to reality.

Don't expect QE3 to send prices shooting up

noreply@blogger.com (Realist Theorist) — Sun, 16 Sep 2012 02:53:00 +0000

QE3: The Fed just announced a larger-than-expected, and open-ended "QE3". Do not expect significantly higher price-rises in the medium term (at least the next few years). Definitely do not expect hyper-inflation.

Most people who predict hyperinflation use some variant of the "Linear Quantity Theory of Money" and the concept of a banking "Multiplier". Both these ideas are false (except in a fuzzy, informal way). [Ludwig von Mises criticized the Linear Quantity Theory of Money, but many Austrian-sympathizers still continue to apply it.]

The typical interpretation of the Quantity Theory of Money takes the view that there are two important aggregates: on the one hand, there is money; and, on the other hand there are goods traded... with other factors staying mostly constant over the short-run. This model leads people to think: more money is being created, so prices of goods will go up.

Money vs. Goods: There are issues with both sides of the Quantity-Theory equation. On the money side, credit may not increase even if money is "printed". Credit is an important money-substitute. It is a driving force in modern economies because it is huge in the aggregate. Bottom line: the Fed can create money, but it cannot force people to take out loans. On the goods side, as the Austrians have long explained, even if new money is created and goes into goods, it does not go into all goods evenly. Also, it does not have to go into consumption-goods. This was pretty clear during the housing boom: prices of homes were shooting up while prices of many day-to-day goods were rising slowly. The same thing happens in a credit-driven stock-market boom.

Monetary booms often result in deflation: Reinhart and Rogoff have explored financial/banking crises where governments responded with monetary stimulus, lower rates, and credit creation. There are historical precedents where this leads to very high price-rises, but other cases (slightly more numerous) where this has led to a boost to asset prices only, followed by a second bust in asset prices. With this, one sees write-downs on loans related to those assets: credit-deflation, unemployment and tame consumer-prices.

Reading recommendation: There's a new paper on the Dallas Fed site: Ultra-Easy Monetary Policy and the Law of Unintended Consequences - by William White. It is not light reading, but if you print out all 40 pages and give it a few hours of focus, it's a breeze. Very well argued and even if you disagree with parts of it, it will leave you richer.

Prices today: At this point, it seems that prices of regular day-to-day goods -- food, energy, housing and health-care -- will not rise much above their historical norm (3% - 5% p.a.). However, low interest rates on "safe" assets are pushing the marginal savings into stocks. So, that is one place where we see an asset boom. Precious metals like gold and silver are good in times of uncertainty: these can shoot up in times of fear-driven deflation just as they can in times of high inflation. This seems ridiculous if one believes the Linear Quantity Theory of Money. However, hugely deflationary episodes often come by a bust of an asset bubble. After an initial shock, people start to look for alternate assets -- like precious metals. [Aside: Of course, there is also a "goods/usage demand" for gold and silver, which can move in the opposite direction if Indians start making a virtue of cutting back on their trousseau's gold content.] Other commodities -- like copper or oil -- are not primarily seen as stores of value; so, I doubt these will shoot sky high unless China pulls off what appears to be impossible. [Bombing Iran could hit oil prices.]

Gold as a standard: If you measure the value of a dollar by using gold alone, I am not predicting a stable dollar. However, if you measure the value of a dollar by the day-to-day food, gas, apartments, homes, cars and computers it can buy, do not expect the dollar to fall much more rapidly in the next few years as a result of QE3.

Caveat Emptor: Obviously these are all just best guesses. How these things unravel is mostly a political question. This means we can predict it only the way we can predict history: where we can almost never predict a major turning point when a large proportion of the populace is convinced that they have to change direction.

How're we doing? (Sept 2012 edition)

noreply@blogger.com (Realist Theorist) — Sat, 08 Sep 2012 12:32:00 +0000

Unemployment: Yesterday's jobs report (Sep 7th) was reported as negative, after last month's positive. The monthly fluctuations have become standard since 2010 (see graph). Basically, the growth in jobs has been flat -- around 125K jobs per month since 2010.

It takes about 150K jobs just to keep up with population growth, but people have been dropping out of the job-market. Consequently, the official unemployment rate has dropped slightly, and ever more slowly.

GDP: Huge amounts of "fiscal stimulus" have brought GDP back over its pre-recession level. The piper will have to be paid some day... but not yet.

However, if one subtracts "transfer payments" from GDP, or if we look at industrial production, or the total number of people employed, we are still about 97% of the pre-recession levels. (See this August 5th post from the excellent Calculated Risk blog for details.)

Retail Sales: Though retail sales rebounded from its recessionary lows, they have flattened in 2012.

Stock market boom: Amidst this flat and stagnant real economy, we're seeing a stock market boom. We probably have Ben Bernanke to thank. By lowering interest rates (the exact opposite of what he ought to do) he has encouraged investors to take a chance on stocks.

Summary: After rebounding off the lows of the recession, the economy has not yet reached its pre-recession point. Using a "level concept" of recession (as opposed to the standard "change-concept") we're still in a recession. The bad news is that things have started to slow in the last year. Bill Gross of PIMCO talks of a "new normal", economist Tyler Cowen speaks of a "Great Stagnation". The immediate future seems to promise a slow crawl upward rather than any type of crash.

Ben Bernanke, as a child

noreply@blogger.com (Realist Theorist) — Sat, 08 Sep 2012 02:20:00 +0000

I got this via email (Not sure where it originated, but I also found it here: http://i.imgur.com/XaiUx.gif)

Charter Schools: Good or Bad?

noreply@blogger.com (Realist Theorist) — Fri, 31 Aug 2012 23:34:00 +0000

An article in the LA Times criticizes charter schools saying that parents think they're better than other tax-funded schools. Consequently, the author writes: "Charter schools are pulling in so many onetime private school students that they are placing an ever-greater burden on taxpayers, who must fund an already strained public education system."

Moronic criticism: Believe it or not, this is supposed to be a criticism! Consider this: charter schools are simply one concrete. They're one way in which some cities have tried to improve their tax-funded school systems. The author's argument can be applied to any improvement. Basically, the author is saying: the government has taken some action to improve schools, and more parents are thus using government-funded schools. His criticism amounts to saying: do not improve government-funded schools, because people might actually want to use them!

Improving Public schools hurts private schools: Charter schools do hurt private schools. Parents think they're better than other tax-funded schools. Anything the government does to convince parents that a tax-funded school is good, will draw some kids away from private schools. This is a problem for owners of private schools; but, for a tax-payer the idea that he can recoup some value for his tax-dollars is a good thing.

The quality of Charter schools: Critics claim that charter schools are not as good as private school, and that their reputation is undeserved. They claim that charters do better mostly because they get a different mix of kids: kids whose parents are motivated enough to choose a charter over another public or private school also tend to be parents who are helping their kids' do well in school in other ways. When this criticism comes from statists: the answer is simple -- if charters are just as good, they do no harm while giving parents a choice.

Owners of private schools: When this criticism comes from owners of private schools, I'm sympathetic. An owner of a private school told me how he had to struggle through some years of lower enrollment when a charter school opened nearby. Over the years, parents realized the charter was not that great and his enrollments started to rise again. Possibly some private schools may not be able to last out, and may have to shut down. This is sad. The solution, of course, is to privatize the entire system. Short of that, one has to decide who should be sacrificed: the owner of the private school, or the kid who is forced to attend a school that's so bad that parents would rather have him in a private school.

Schools should be privately-funded. I think the criticism from private school owners is valid. Nevertheless, if schools are going to remain largely tax-funded, charter schools are one way of getting better quality.

Invalid criticism: Statists should not complain about charter-schools. It is ridiculous for someone to start with the statist assumption that schools should be tax-funded, and then complain about when parents like something done in a tax-funded school!