The Ambrosini Critique

Will Wilkinson has words for macro economists. He got me thinking about the political affiliations of macroeconomists. Here’s what I’ve found:

It seems most macro folks are conservative or Republican. The Gali paper on effective fiscal policy seems like it might be worth taking a look at.

You’ll notice Delong and Krugman (and Alesina, Becker, Cochrane, Fama, Murphy, and Zingales) are missing from this list of MACROeconomists. This is because they are not macroeconomists.

It seems to me the historians were calling the finance people boneheads for their ideas on macroeconomics. I wonder what the planetary scientists think about the exobiologist’s views on theoretical cosmology.

1. Feldstein has a short NBER paper on fiscal policy (with no model) and he’s also written against Ricardian equivalence but he doesn’t usually write on macro stuff. [↩]
2. Technically Acemoglu is a growth economist, but he writes about everything. EVERYTHING. [↩]

Are you an econ geek if you’re anticipating a GDP statistics release more than you did a history making presidential inauguration? Well, guilty as charged.

This Friday’s release has me giddy because we’ll have fourth quarter’s consumption expenditures numbers. If consumption is down big again its an indication that psychology matters and it would be evidence in favor of doing something to improve expectations (and the fiscal stimulus if you think it would reduce pessimism).

Bayesian update declaration: the early 90’s recession had two quarters of greater than 1.7% (annualized) consumption declines. If this quarter’s consumption decline is greater than 1.7%, then I will take it as evidence that psychology is playing a part. However, the other thing to take into account is that wealth has declined (via home prices). If people take this into account when making their consumption decisions, then the issue isn’t really “animal spirits” but rational changes in behavior due to new information. About 27% of wealth in 2007 was in housing¹. Assuming other assets remain constant in value, the 15-25% decline in housing prices since 2007² corresponds to a 4-7% decline in wealth for 2008. Its not surprising, then, that consumption would fall by about those magnitudes. For updating then, an annualized decline between 1.7% and 5% will be moderate evidence that psychology matters. We’re deep in animal spirits territory if the decline is greater than 5%. BTW, the largest annual decline during the depression was nearly 9%.

1. See here, chart B100 [↩]
2. The Case-Shiller index shows 15% decline through October 2008. 25% is my high estimate of declines. [↩]

Uncertainty, rather than just plain risk, leads to over-insurance:

A simple example can reinforce this point. Suppose two investors, A and B, engage in a swap, and there are only two states of nature, X and Y. In state X, agent B pays one dollar to agent A, and the opposite happens in state Y. Thus, only one dollar is needed to honour the contract. To guarantee their obligations, each of A and B put up some capital. Since only one dollar is needed to honour the contract, an efficient arrangement will call for A and B jointly to put up no more than one dollar. However, if our agents are Knightian, they will each be concerned with the scenario that their counterparty defaults on them and does not pay the dollar. That is, in the Knightian situation the swap trade can happen only if each of them has a unit of capital. The trade consumes two rather than the one unit of capital that is effectively needed.

This is a classic negative externality and so Caballero suggest government intervention when so-called Knightian uncertainty — the fear of unknown unknowns — rears its head (e.g. now).

Just because I have a single tracked mind… I’m wondering if the fiscal stimulus will do anything to calm fears of the unknown unknowns.

Hey, you in the t-shirt, making your pledges to serve the president, knock it the hell off.

You’re creeping my out.

Knittel on — you guessed it — gas prices.

…and Clark not wrong?

notsneaky explains why even in Malthusian economies, we can see long episodes of above subsistence living standards.

Speaking of bubbles. Are we in a centuries long Malthusian bubble now? If so, what was the shock that got us there? By notsneaky’s analysis it’d have to be a biggie.

Suppose . Steve Waldman says recent events have shown :

Economists talk about consumption smoothing, how it may be optimal for a consumer whose income is volatile to borrow during periods of low income and repay (or save) during periods of high income in order to maintain a constant standard of living. That’s very well in models where consumers know the true distribution of their future income, where the spread between borrowing and lending interest rates is not very large, and where consumer preferences are time-consistent. In practice, none of these conditions hold even approximately.

He concludes :

consumers ought to borrow only to counter severe downward shocks to income, pay off borrowings quickly, and build buffers of precautionary savings, since the cost of dissaving is much less then the cost of borrowing.

Dude, !

When chemist discovered alchemist were cranks and one couldn’t actually turn lead to gold, what were the policy implications?

When the king asked his alchemists-turned-chemists for gold, did the chemists continue the alchemist’s line — “I can turn 1 pound of lead into 1.5 pounds of gold!” — or did they have the guts to share with him their new found truth that you can’t get something for nothing?

Did kings have to learn graduate level chemistry before they stopped asking for gold or did their advisors grow spines?

…

Perhaps the chemists didn’t have faith that their new science was correct. Why upset the king with the truth if you don’t believe it either?

Dear eminent-macro-economist-who-would-have-a-chance-in-hell-to-get-this-to-stick -

Please write this book.

1. Intro
2. Intertemporal consumption choice
3. Growth
4. Growth policy
5. Labor or leasure choice
6. Worker flows and unemployment
7. Expectations (including learning stuff)
8. Business cycles
9. Monetary policy
10. Political economy and fiscal policy

Love,
Those-of-us-that-will-actually-have-to-teach-this-crap

Thomas Sargent complains that the arguments for the fiscal stimulus “ignore what we have learned in the last 60 years of macroeconomic research.” This is his fault. He and the other big names of modern macro have failed to produce a simple model (or a series of simple models) to replace the Keynesian one in undergrad textbooks.

Policy makers, and even economist that don’t specialize in macro, were taught to think about the economy like Keynes did 75 years ago. They shouldn’t be expected to absorb cutting edge research only taught in grad schools. The problem is that this stuff is no longer cutting edge. The rational expectations revolution is nearly 35 years old.

In macro, there remains a gearhead culture. To understand 30 year old models you need to learn overly complex jargon and graduate level mathematics. There still isn’t a standard tool box for solving models… you’re expected to program everything from scratch. Serious macro job candidates are expected to know how to prove fixed point theorems and its not enough in your job market paper to have an interesting economic problem (if that’s even necessary at all), but you have to extend some already complex model. Those extensions have to be “tractable” but not necessarily “understandable” (its not clear to me the point of the former without the latter). This means wildly unrealistic assumptions that happen to make the math work, even if they contradict each other in spirit, are ok.

I actually don’t mind all that stuff. That’s why I signed up to do it. Someone, though, needs to take stock of the economics — rather than neat mathematical theorems or cool econometric techniques — modern macro has taught us and write it down in an undergrad textbook.