Fri, 30 October 2015
Ash Navabi returns to the podcast to discuss his essay, "Will Iceland's Sovereign Money Proposal End Economic Crises?"
In April of 2015, Frosti Sigurjonsson, Member of the Parliament of Iceland and Chairman of the Committee for Economic Affairs and Trade, made a bold proposal to end fractional reserve banking and replace it with a system he calls "sovereign money."
Fractional reserve banking is the system under which banks create money by lending out a portion of depositors' money, keeping only a fraction to pay out on demand. One problem with fractional reserve banking is that the mismatch between banks' assets and liabilities leaves them exposed to bank runs and financial panics. To solve this problem, the central banks of the world function as "lenders of last resort" to save insolvent banks from going under. However, the more insidious problem with fractional reserves is that the injection of new money directly into credit markets artificially lowers interest rates and incentivizes entrepreneurs to take on longer term projects than the real savings available in the economy can sustain. Having central banks intervene to keep the cheap credit flowing does nothing to address this problem, and in fact makes it worse.
Under the Icelandic proposal, while there would be a 100% reserve requirement for private banks, the central bank would still be able to create money at will. Ash critiques this on the basis of the "Cantillon effect." The Cantillon effect is the phenomenon whereby the creation of new money transfers wealth to the early holders of that money. If a new dollar is created, the first holder of the dollar can use it to buy goods before prices have adjusted upwards. However, as people exchange the new dollar and use it to bid on various goods, the sellers of those goods will adjust their prices upwards to account for their consumers' greater willingness to pay. If you are the last to get hold of the new dollar, then you've been bidding against the holders of new money for a long time before seeing an increase in your income, thus making you poorer in real terms.
By centralizing money creation in the central bank, Sigurjonsson's proposal would enrich those to whom the central bank lends. In particular, the proposal would allow the central bank to grant money directly to the government to pay for government spending. Thus, the Cantillon effect would enrich those who are paid directly by the government at expense of those who aren't. Ash argues that this would invite cronyism, since those with the right connections will be able to benefit from these Cantillon effects.
In the end, it's not clear whether the sovereign money proposal would have been a net good or a net bad. It could have reduced credit expansion, but the cronyism inherent in the proposal could easily outweigh the positive effects.
Fri, 16 October 2015
Cornelius Christian is an Assistant Professor of Economics at St. Francis Xavier University. His research concerns development economics, economic history, and the economics of conflict and violence, which is the topic of this episode of Economics Detective Radio.
Cornelius' paper "Lynchings, Labour, and Cotton in the US South" deals with violence against black people in the post-reconstruction South. Historians have hypothesized that there was an economic motive to lynchings, noting that more of them occurred when cotton prices were low. Black and white workers competed with one another in the agricultural labour market. Cornelius' findings indicate that lynchings were used by white labourers to scare black workers out of the labour market, thus raising their own wages. He finds that lynchings happen in the wake of economic shocks when agricultural wages are low. He also finds that, when lynchings occur in a given area, black people tend to migrate out of the area and agricultural wages rise for the remaining white workers.
In "Economic shocks and unrest in French West Africa," Cornelius and his coauthor James Fenske show that, while economic shocks matter as a cause of civil unrest, the institutional context matters. During French West Africa's colonial era, there were oppressive poll taxes that had to be paid regardless of crop yields. When negative economic shocks occurred, either because of low world prices for agricultural goods or poor rainfall, farmers were not able to pay these taxes and engaged in riots and political violence. In the post-colonial era, the poll taxes no longer exist and political violence no longer follows negative economic shocks.
Cornelius references recent research linking droughts during the Mexican Revolution to insurgency in particular areas. Areas that had particularly bad droughts during the Mexican Revolution produced larger uprisings, and that in turn affected the political and economic fates of these areas up to the present day. He also references Bruckner and Ciccone's 2011 Econometrica paper, "Rain and the Democratic Window of Opportunity," which shows that democratic change frequently occurs in the wake of negative economic shocks in Sub-Saharan Africa. Bruckner and Ciccone are testing Acemoglu and Robinson's (2001) thesis in "A Theory of Political Transitions."
We discuss the fall of the Soviet Union and some research showing that East Germans still expect the state to do more for them than West Germans. However, the younger generation's attitude is more similar to those of West Germans.
Cornelius' most recent research deals with witch trials in early modern Scotland. Unlike the other cases of violence he's looked at, witch trials happened more after positive economic shocks rather than negative ones. The reason, Cornelius discovered, was because early modern Scots cared a great deal that the proper legal procedures were followed in each witch trial. These procedures were costly, and so people could only afford to try and execute a witch when times were good. Witch trials are, essentially, luxury goods.
The common thread in Cornelius' research is that context matters. There's no one thing that causes violence in all times and places; it depends on the institutional context. In the post-reconstruction South, colonial West Africa, and revolutionary Mexico, negative economic shocks led to violence. However, this was not the case in post-colonial West Africa and early modern Scotland. History is not deterministic, so to understand history we need to understand the incentives faced by the individuals of a given time and place.
Direct download: Violence_Lynchings_Civil_War_and_Witch_Trials_with_Cornelius_Christian.mp3
Category:general -- posted at: 10:00am PDT
Tue, 7 July 2015
…or How I Learned to Stop Worrying and Love Inequality.
David R. Henderson (http://www.davidrhenderson.com) is a research fellow at Stanford University’s Hoover Institution, and a professor of economics at the Graduate School of Business and Public Policy, Naval Postgraduate School, in Monterey, California.
Thomas Piketty’s Capital in the 21st Century (http://amzn.to/1LT9jLG) managed to do something unprecedented among equation-dense economic tomes, it became the #1 selling book on Amazon.com. The book tapped in to a hot topic among politicians and the general public: the high (and possibly rising) wealth and income shares of the top 1%. However, David points out that although the book was a best-seller, it wasn’t actually a best-reader. Amazon logs the sentences people highlight, and the top five most-highlighted sentences in Capital all appear in the first 26 pages (www.wsj.com/articles/the-summers-most-unread-book-is-1404417569). It seems that, at least among kindle readers, most people didn’t make it past the introduction. It appears that people buy the book to back up the views they already hold.
David thinks that the huge interest in economic inequality in general and the wealth of the 1% in particular was sparked in the 1990s by politicians, including Al Gore, and picked up by journalists like Sylvia Nasar (https://en.wikipedia.org/wiki/Sylvia_Nasar), before influencing the economics debate. Piketty has been able to ride this wave of public interest at what appears to be its crest.
David distinguishes between inequality of wealth, inequality of income, and inequality of power. Income inequality is the difference in the amount of income we each take in in wages, interest, dividends, and government transfers (e.g. welfare or social security payments), the four main sources of income for most people. Wealth should ideally include the total value of a person’s assets in addition to the stream of income he is likely to earn in the future, though this stream is more often ignored in wealth statistics. Wealth inequality is not the same as income inequality. Critically, since people earn variable income throughout their lives, income inequality doesn’t capture what we think of as the gap between “rich” and “poor.” Retired people who own two-million-dollar homes might have low incomes, but they certainly aren’t poor. Or, to use an example that’s relevant to myself, as a PhD student my income probably sits in the bottom quintile, and yet I can expect a much higher income after I graduate.
The major factor in both income inequality and wealth inequality (measured by current assets and not expected earnings) is age. Teenagers earn little or nothing, but they grow into adults and gain skills and education, their incomes rise, and they gain wealth through savings. Even if everyone had the same lifetime earnings, there would still be significant inequality in any given year since some people would be young low-earners, while others would be older, wealthier high-earners. And since the older people would have had the chance to accumulate wealth over a lifetime, they would have twenty times the wealth of their younger counterparts.
While there is a correlation between wealth and power, that correlation is by no means perfect. David gives the example of Bill Gates who discovered the hard way that when you have too little political influence, it can be costly. Gates was hit with a long and costly antitrust suit, after which he greatly expanded his lobbying efforts; he had learned his lesson. David agrees with Joseph Stiglitz’ argument (http://amzn.to/1LT9dDC), to some extent, that large accumulations of wealth are the result of rent seeking. Local governments restrict the building of new homes and developments that could expand the supply of housing. Thus, they keep real estate prices artificially high to the benefit of those who already own their homes. This is an example of successful rent seeking by homeowners to the detriment of non-homeowners. However, while Stiglitz would argue that this justifies a higher tax rate on the wealthy, David prefers the more direct solution of simply reducing or removing these restrictions.
The following are also mentioned in this episode:
Fri, 20 March 2015
Don Boudreaux is a professor of economics at George Mason University. He blogs at Café Hayek. I invited him to discuss civil asset forfeiture on the podcast because of a conversation we had about it at a recent Mercatus Center colloquium.
Civil asset forfeiture is the practice of the state taking someone’s property on suspicion that the property has been used for wrongdoing, without having to charge the owner with a crime.
Civil asset forfeiture had its origins in British maritime law. The British had difficulties with pirates along the Barbary Coast. When the pirates were apprehended and their ships brought back to London, British courts had difficulty deciding what to do with these ships. The ships’ owners were outside the jurisdiction of British law, so the courts couldn’t try and convict them, but they couldn’t send the ships back to them either only to have them return to the seas with a fresh pirate crew! Parliament thus passed a law allowing the courts to charge the property itself with the crime if and only if the property’s owner was outside the jurisdiction of British law.
Civil asset forfeiture, in this very limited form, was part of American law from the beginning. In the late 19th century, when alcohol was prohibited in some states, law enforcers started using civil asset forfeiture to confiscate the property of those suspected of producing, trafficking, and selling alcohol. This allowed them to circumvent due process, as American law only guarantees due process rights (such as the right to a trial by jury, the right to an attorney, the presumption of innocence, etc.) to human beings, and an alcohol still is not a human.
The US Supreme Court ruled on civil asset forfeiture in the case of Bennis v. Michigan (which Don wrote about in a 1996 article coauthored with A. C. Pritchard). John Bennis was caught with a prostitute in the 1977 Dodge Dart he co-owned with his wife, Tina Bennis. As a result, the state confiscated the car. Tina Bennis, however, had no knowledge of her husband’s wrongdoing, and argued that she should at least be entitled to her half of the proceeds from the sale of the car. The case went all the way to the US Supreme Court, where then-Chief Justice Rehnquist wrote the majority opinion in favour of the State of Michigan. Rehnquist argued that civil asset forfeiture was constitutional since it had been a part of British law when the Constitution was adopted. Rehnquist neglected the fact that the civil asset forfeiture law at that time had only applied when the property owner was outside the legal jurisdiction of the court. John and Tina Bennis were both within the legal jurisdiction of Wayne County, Michigan where the car was seized.
Police usually seize the assets of those groups in American society that have little political clout. A young black man driving in an expensive car and carrying a lot of cash can be pulled over and have his car and cash seized on suspicion that he might be a drug dealer. White, middle-class Americans rarely face the blatant, unjust seizure of their assets.
However, in a recent case, the City of Philadelphia seized the white, middle-class Sourovelis family’s home after their son sold $40 of heroin on the front lawn. The Sourovelis family is now suing the City of Brotherly Love in a class-action suit with others whose property the city has seized (see Sourovelis v. City of Philadelphia). This case has drawn more public attention to the injustice of civil asset forfeiture, though still less attention than the issue deserves.
For more information on civil asset forfeiture, you can learn about it from the Institute for Justice, a DC-based public-interest law firm that works against civil asset forfeiture.
Fri, 27 February 2015
Erik Kimbrough, assistant professor of economics at Simon Fraser University, is an experimental economist. In this episode, we discuss his paper, "Norms Make Preferences Social" which he coauthored with Alexander Vostroknutov.
Direct download: Experimental_Economics_Norms_and_Prosocial_Behaviour_with_Erik_Kimbrough.mp3
Category:Methodology -- posted at: 1:14pm PDT
Fri, 6 February 2015
Jimmy Morrison is an independent filmmaker who is currently directing two films: The Housing Bubble and The Bigger Bubble. The Housing Bubble deals with the history of business cycles in America, spanning from the First World War to the 2008 crash. The Bigger Bubble deals with the aftermath of the 2008 crash. These films began as a single project, but Jimmy chose to split it into two films in order to tell the full story.
The films’ website provides a synopsis:
Sat, 27 December 2014
This episode of Economics Detective Radio features George Bragues, professor of business at the University of Guelph-Humber, discussing his work developing a distinctly Austrian theory of finance. While there have been forays into finance by Austrians such as Mark Skousen and Peter Boettke, Austrians have not yet fully developed a complete and distinctly Austrian theory of finance.
George names five pillars of modern finance theory: (1) The capital asset pricing model (CAPM), (2) the Black-Scholes option pricing model, (3) the efficient markets hypothesis (EMH), (4) behavioural finance, and (5) the Modigliani-Miller theorem.
CAPM is a model that derives the value of assets based on the risk-free rate and market risk, that is, risk that cannot be diversified away. The Austrian response to this model is that there is no such thing as a risk-free asset, as risk is inherent to human action. An Austrian alternative to CAPM would incorporate the Austrian theory of a natural interest rate derived from time preference.
Black-Scholes, a model for pricing options—opportunities to buy or sell at a given price at some point in the future—assumes that price movements are normally distributed. Nassim Taleb has been forceful in his critique of this assumption; in his book, The Black Swan, he argues that returns are subject to so-called Black Swan events. Statistically, this implies a fat lower tail in the distribution of returns. George holds that, given Austrians’ skepticism about mathematics, there is little hope for an Austrian option pricing model. However, pricing assets was never the role of theorists, but of entrepreneurs.
The efficient markets hypothesis, developed by Eugene Fama, holds that the market price reflects all available information. This view holds economic equilibrium to be a normal state of affairs. The Austrian view is that equilibrium is an abnormal state of affairs; the market is always tending towards equilibrium, but it rarely reaches equilibrium. Austrian theory holds that identifying misequilibriums and arbitraging them away is the role of entrepreneurs. Identifying such opportunities isn’t easy; it requires prudence, or what Mises called “understanding.” If you believe the EMH, then Warren Buffet is not an example of someone with great insight and prudence; rather, he is someone who has repeatedly won a stock-market lottery.
Behavioural finance, developed by Robert Schiller, is a theory that argues that, contra the EMH, market prices reflect psychological factors rather than the real underlying values of the assets being traded. Behavioural finance has identified so many biases that it is essentially irrefutable. For instance, the gambler’s fallacy and the clustering illusion, yield opposite predictions. If a stock price has risen repeatedly, the gambler’s fallacy would hold that it is “due” for a correction downwards, while the clustering illusion would hold that the trend must continue upwards. Behavioural economists could thus explain a movement in either direction according to their theory, making the theory untestable in principle. Austrian theory avoids such psychological theorizing. Austrians hold that you can derive sound theory from the axiom that humans act, that they use means to achieve ends. Austrians have no particular qualm with bringing psychological factors into the analysis of economic history, but they don’t see them as part of economic theory.
Modigliani-Miller is a theory of corporate finance that says that the way a firm is financed, with more debt or equity, is irrelevant to its value. M&M holds that the value of the firm is uniquely determined by its discounted stream of revenues. Austrians might contend, in contrast, that firms financed through debt are exposed to greater risk in the case that they make entrepreneurial errors.
George is working towards an “Austrian markets hypothesis,” which would hold that markets are constantly endeavoring to achieve equilibrium, but never actually succeeding. Austrians can bring a greater appreciation of understanding, prudence, practical experience, and local knowledge to finance theory. These ideas have been wrongly impugned by modern quantitative finance, which has elevated theoreticians above entrepreneurs.
Fri, 21 November 2014
This episode of Economics Detective Radio features Pierre Desrochers discussing the life and work of Jane Jacobs. Jacobs, born Jane Butzner, was a thinker and activist who wrote about cities. She spent her early career as a business journalist. When she started writing about urban renewal, she recognized the policy for the disaster it was. Jacobs became a voice for the general dissatisfaction with a policy that would bulldoze whole neighbourhoods, relocating the inhabitants into new buildings preferred by urban planning reformers and political elites.
The editors of Fortune Magazine invited Jacobs to write a piece about downtowns. Her piece, “Downtowns are for People” became the magazine’s most-discussed article. She developed the ideas in that article into her first and most famous book, The Death and Life of Great American Cities. The book launched her as a minor celebrity.
In New York City, she successfully opposed initiatives to “renew” Greenwich Village. She also opposed a plan that would have cut a highway through SoHo, Chinatown, and Little Italy. Eventually she found herself opposing the Vietnam War, and, fearing that one of her sons would be drafted, moved to Toronto.
Jacobs’ most important contributions to economics came in her second book, The Economy of Cities. Jacobs is essentially a spontaneous order theorist, though she never used that term. Her concept of entrepreneurship is particularly rich and dynamic. Unlike most economists (even Austrians) she has no urge to talk about how entrepreneurship leads us closer to equilibrium.
Her largest influence on the mainstream economics literature is the so-called “Jacobs externality.” Jacobs suggested that innovation would often come from outsiders to a given industry, so having many diverse industries clustered in a small geographic area would lead to innovation. The alternative thesis, associated with Alfred Marshall and later Paul Romer, holds that when a region specializes in a particular industry it allows knowledge spillovers to occur between similar firms. There has been significant empirical research to try to resolve these two opposing views, with Jacobs often coming out the winner.
Pierre can be found online at his academic website.
Fri, 10 October 2014
This episode of Economics Detective Radio features Zack Hess. Zack is working on a project called “TruthCoin,” a decentralized prediction market based on the technology behind bitcoin.
Prediction markets are a highly effective way to bring together dispersed information and insight into prices that reflect the likelihood of any future event. However, recent attempts to create centralized prediction markets have been thwarted by governments under antiquarian anti-gambling laws.
Enter TruthCoin. TruthCoin is a prediction market (currently in beta) that will not depend on any central server or organization. This online market will be dispersed among all the participants and thus more difficult to shut down.
Furthermore, TruthCoin will not depend on a central arbiter. The main difficulty faced by the creators of TruthCoin is in creating incentives for human arbiters to judge the outcomes of bets correctly. The solution is for judges to be set against one another, for each judge to get a higher payoff when other judges are wrong. Then any attempted collusion between arbiters falls apart.
Zack is an anarchist, and he sees a proliferation of prediction markets as a potential end run around the political class. Prediction markets where people could bet on the outcomes of given policies could force politicians to do what the prediction markets indicate is best. If, for example, a politician proposing a war claims it will have few casualties, a prediction market in “the number of casualties given that war is declared” could contradict the politician’s claim and make the war politically impossible.
Sat, 27 September 2014
In this episode, Glen Whitman discusses Economics of the Undead: Vampires, Zombies, and the Dismal Science, a book he co-edited with James Dow. Glen is an economics professor at California State University and, unlike most academic economists, he moonlights as a TV writer. He first wrote for the TV show Fringe and now writes for the soccer spy drama, Matador.
The book’s website provides the following description:
“Whether preparing us for economic recovery after the zombie apocalypse, analyzing vampire investment strategies, or illuminating the market forces that affect vampire-human romances, Economics of the Undead: Zombies, Vampires, and the Dismal Science gives both seasoned economists and layman readers something to sink their teeth into.
Undead creatures have terrified villagers and popular audiences for centuries, but when analyzed closely, their behaviors and stories—however farfetched—mirror our own in surprising ways. The essays collected in this book are as humorous as they are thoughtful, as culturally relevant as they are economically sound, and provide an accessible link between a popular culture phenomenon and the key concepts necessary to building one’s understanding of economic systems large and small. It is the first book to combine economics with our society’s fascination with the undead, and is an invaluable resource for those looking to learn economic fundamentals in a fun and innovative way.”
Among the topics covered in the discussion are helpful hints such as how to meet the vampire man of your dreams, to choose what to bring on your trek across the zombie-infested wastelands you once called home, and to rebuild civilization after the undead apocalypse.
Human capital will be particularly helpful in the zombie apocalypse; it has immense value and goes wherever you go. Doctors are often depicted among the survivors of the zombie apocalypse, possibly because survivor groups would rather recruit a doctor than kill him. There’s an analogy to pirates, who would press valuable seamen like surgeons or carpenters into service rather than killing them (for more pirate economics, check out Peter Leeson’s The Invisible Hook).
Among the more unexpected chapters of the book is “Killing Time: Dracula and Social Discoordination,” by Hollis Robbins. Robbins connects the infamous Transylvanian villain’s ability to distort his victims’ senses of time to date- and time-keeping standards that some nations had adopted while others had not at the time the book was written.
Direct download: Vampires_Zombies_and_the_Dismal_Science_with_Glen_Whitman.mp3
Category:Undead -- posted at: 7:00am PDT