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Social Security as Ponzi January 2, 2009

Posted by A Texan In Grad School in Economic Theories, Federal Debt.
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The recent Madoff scandal has brought renewed attention to the Ponzian nature of Social Security.  But, is Socially Security really a Ponzi scheme?  Michael Mandel at Business Week’s Economics Unbound says that because technology advances more than population does, Social Security is not a Ponzi scheme. The key to any debate is to define the terms.  So let’s look at the definition of Ponzi Scheme:

An investment swindle in which high profits are promised from fictitious sources and early investors are paid off with funds raised from later ones.

That’s according to The American Heritage Dictionary.  From this definition, it seems that Social Security is a Ponzi scheme.  Generation A pays in, then Generation B pays in while A receives, so on and so on.  But, interestingly I noticed that some dictionaries have a slightly tweaked definition of a Ponzi Scheme:

an investment swindle in which some early investors are paid off with money put up by later ones in order to encourage more and bigger risk

That’s from Merriam-Webster.  The intriguing part of this definition is the idea that a Ponzi scheme has the goal of encouraging more and bigger risk.  Who is taking these risks and what they are is ambiguous.  Social Security encourages some risks because people don’t feel as much a need to save for their own retirement because Uncle Sam will pay them to be old.  But I don’t think this is the kind of risk Merriam & Webster have in mind.  So, under this (I believe poor) definition, Social Security is not a Ponzi scheme.

But, ultimately what seperates Social Security from a Ponzi scheme is the ability of the government to always make good on its promises.  The government can always raise taxes or print more money.  The government could even stop forcing people to pay in to Social Security while still paying people.  Obviously this would have perverse effects on inflation and debt, but it’s possible.  Social Security does  not require that people pay in, so that it can pay out to others, at least in nominal terms.  Therefore Social Security is not a Ponzi scheme.  But, that isn’t exactly a good thing.

I hope more people come to know this December 24, 2008

Posted by A Texan In Grad School in Economic Theories.
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Seriously, why is it not public knowledge that Obama’s recently appointed science adviser was on the losing side of a Julian Simon-themed bet?

Goofeth and Gallant: Stimulus Edition December 23, 2008

Posted by A Texan In Grad School in Economic Theories.
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Check out Mankiw’s post, ask yourself which sounds most like the WPA.

I Vote Optimism on Interest Rates December 13, 2008

Posted by A Texan In Grad School in Economic Statistics, Economic Theories.
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It’s finals fortnight for me so I won’t be posting as much.  But, I highly suggesting reading everything over at www.cato-unbound.org.  This month’s topic is What Happened? Anatomies of the Financial Crisis.  The latest entry by U of C Econ Prof Casey B. Mulligan explains that low short-term interest rates had an effect on housing prices, but alone don’t come anywhere close to explaining the boom.  He claims that optimism of some sort is the only way to explain it.   Out of the options he gives, I think the main factor was future interest rate optimism.  But I also think he is underestimating the role of low short-term interest rates.

The people fueling the housing boom weren’t people who generally understand the implications of future interest rates.  After all, they took out adjustable rate mortgages, which is basically a short position on long-term interest rates (i.e. they imply a belief that long-term interest rates will come down and the home-owner won’t be hit with higher monthly payments).

But the part I believe Dr. Mulligan leaves out is that the low short-term interest rates allowed banks and other lending industries to vastly increase the amount of capital they could lend out.  With more capital to lend, they expanded into riskier mortgages.

I’m looking forward to the rest of the discussion at Cato Unbound, I’m worried though that December will end right when the discussion is on the verge of a real break-through.

Stiglitz on the Current Crisis December 10, 2008

Posted by A Texan In Grad School in Economic Theories, Friedman.
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Nobel-laureate Joseph Stiglitz gives his account of the financial crisis in Vanity Fair.  He has some interesting ideas, but I think most of them don’t hold up.  His main claim is that markets, especially financial ones, require a lot of regulation.  Stiglitz singles out Greenspan quite a bit for the bubble.  No doubt, the low interest rates that Greenspan presided over were a huge factor in the housing bubble.  As Lawrence White points out at Cato Unbound,

Credit-fueled demand both pushed up the sale prices of existing houses and encouraged the construction of new housing on undeveloped land. Because real estate is an especially long-lived asset, its market value is especially boosted by low interest rates.

But Stiglitz doesn’t see this as an argument for Friedman Monetarism, rather, as is typical of modern liberal thought, Stiglitz believes that if only the right person was in charge.  Stiglitz leaves out any idea that Public Choice Theory may explain that politics doesn’t really do a better job than markets – even market failures.

Buy Local or Don’t Buy At All December 10, 2008

Posted by A Texan In Grad School in Economic Theories, Environmentalism.
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Megan McArdle calls it a sign of the times that scrip, local community-based currency, is starting to make a come back.  She compares this to the instances of scrip during the Great Depression.  She asks if this is a negative sign regarding Bernanke’s helm at the Fed.

Personally, I think this is more demagogueing with regard to the current recession.  Every political movement is trying to capitalize on the strife.  Environmental groups are pushing a “Green” New Deal.  Now, the buy local movement is trying to grow also.  Check out this great episode of Econtalk about buying local with Russ Roberts and Don Boudreaux.

More on Stimulus and Imports December 7, 2008

Posted by A Texan In Grad School in Economic Theories, Federal Debt.
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Apparently BW beat Rodrik et. al. to discussing the difficulties of orchestrating a domestically effective fiscal stimulus.   Business Week claims that,

The financial crisis was caused, in large part, by U.S. consumers borrowing trillions of dollars from the rest of the world to buy imported cars, clothes, and gasoline, even as jobs slipped overseas. As long as the U.S. is running a big trade deficit and borrowing from abroad, a fundamental cause of the crisis remains.

Which is a bit misleading.  While our extremely leveraged consumption played a role in the propagation of the crisis, I personally think that it was not a cause.  Furthermore, our current problem is not so much one of too much existing debt, but the inability to get new debt.

So let’s think about all this.  The problem with a fiscal stimulus is that it sends too much money abroad to other countries that manufacture our goods.  This means fewer jobs created here.  But, one must never forget the relationship between the current account and the capital account.  If our stimulus is spent on goods from abroad, then our current account deficit will increase, but our capital account surplus will also increase.  This is because all the foreigners who have our dollars have to do something with them.  That is, either buy our goods or invest in our economy.  This will increase liquidity.

Now, does this mean that a stimulus is definitely the best policy?  Not necessarily.  Keynesian multipliers and stimulus are not a free lunch.  While foreigners will be investing money in our economy, there will also be an increase in government debt to fund the stimulus.  This will cause crowding-out of private investment.  Also if the government is selling more debt that puts upward pressure on interest rates.  Perhaps what we need is a stimulus funded by federal lands.

Multiple Problems December 6, 2008

Posted by A Texan In Grad School in Economic Theories, Federal Debt.
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Here’s an interesting question on trade and Keynesian fiscal policy inspired by a post by Dani Rodrik:

The Keynesian multiplier is:

\frac{1}{1-c(1-t)+m}

where c is the marginal propesnity to consume, t is the tax rate, and m is the marginal propensity to import.  It is clear from this formula that m is inversely proportional to the multiplier.  So, if we decrease m, we will maximize the multiplier, in terms of m.  Therefore, raising import tariffs such that m=0 will give us high growth and employment for the same amount of government spending.  Also we eliminate our current account deficit.  Seems good all around…

Now, how can this be square with Ricardian theories of comparative advantage?  How can eliminating trade actually increase economic growth?

(My answer below the fold)

(more…)

Will Obama Listen? December 2, 2008

Posted by A Texan In Grad School in Economic Theories.
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People frequently accused George Bush of surrounding himself with “yes-men” and firing anyone who didn’t follow along.  As Mankiw points out, Obama’s economics team has advocated some typically conservative policies, specifically

  • Skepticism of regulating mortgage markets
  • Unemployment Insurance and unions increase unemployment
  • Tax hikes retard economic growth
  • The USA’s recovery from the Great Depression was due to monetary policy and NOT the New Deal’s fiscal policies

So now imagine Obama’s policies run counter to his advisers past works/statements.  Would someone who completely ignores his advisers be much better than someone who only chooses adviser that agree with him?

The New (Raw) Deal November 24, 2008

Posted by A Texan In Grad School in Economic Theories.
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UCLA economists, Harold L. Cole and Lee E. Ohanian’s new research shows that the New Deal prolonged the Great Depression by 7 years.  My favorite quote in the press release:

“High wages and high prices in an economic slump run contrary to everything we know about market forces in economic downturns,” Ohanian said. “As we’ve seen in the past several years, salaries and prices fall when unemployment is high. By artificially inflating both, the New Deal policies short-circuited the market’s self-correcting forces.”

The working paper is here.

HT: Carpe Diem