The Wal-Mart Decade

Krugman:
I’ve been putting some material together for textbook revision, and found myself looking at European versus US productivity performance over the past couple of decades. I sort of knew the facts here, but this recent paper by Bart van Ark (pdf) seemed to me to make the points especially clearly, and I found myself rolling my own versions of some of his numbers.

To get some sense of productivity trends, van Ark uses a fairly fancy statistical technique (Hodrick-Prescott filter). But a simple 5-year moving average, to smooth out the business cycle, does about the same thing. Here’s productivity growth in the US and in “Europe” defined as the average of the 4 big economies since 1970:

Total Economy Database

European productivity grew faster than the US until the 1990s, mainly reflecting catchup; but America moved ahead in the late 1990s; the data suggest that the differential has leveled out since, so this may have been a one-time bulge.

And what was it about? Van Ark’s data point to a huge surge between 1995 and 2004 in US productivity, not so much in producing goods as in distributing them. And we know what that’s about: Wal-Mart and other big box stores.

I’m not denigrating these productivity gains. What’s interesting, though, is that if you’re looking for a story about the relative American revival from 1995 until recently, it’s not so much a broad, generic economy thing as it is a story of one particular innovation that for whatever reason — land use regulations? — Europe was slow to imitate.

All Currencies Are Backed By a Promise

Yglesias notes that many Americans wish to return to the gold standard because they are worried about excessive inflation.  Some states have even been discussing plans to print new forms of state money which are based on the gold standard:

For example, ...North Carolina:

Cautioning that the federal dollars in your wallet could soon be little more than green paper backed by broken promises, state Rep. Glen Bradley wants North Carolina to issue its own legal tender backed by silver and gold. The Republican from Youngsville has introduced a bill that would establish a legislative commission to study his plan for a state currency.

A similar measure already passed in Utah. But this reflects, among other things, a fundamental misunderstanding of the relationship between currency and promises. It’s actually a gold-backed currency that’s backed by nothing but promises. When America was on the gold standard, that meant that the government promised to give you such-and-such an amount of gold in exchange for a dollar. When FDR came into office, he decided the government needed expansionary monetary policy so he changed the price of gold. Under the Bretton Woods system, similarly, the government’s promise to convert dollars to gold lasted a few decades and then it went away. It’s a gold standard that represents a government promise that can (and will) be broken. Fiat currency is a government that’s being honest with you. It’s not pretending the money is anything other than what it is.
The practical response for Americans who question the forward-looking strength of the US dollar is just to buy another currency. Europe is run almost exclusively by center-right governing coalitions right now, so you can trust your money to them. Or maybe since all Europeans are socialists by definition you’d prefer to trust your money to the Canadian or British governments. You can buy Korean won or Australian dollars or Brazilian reals. You can even go out and buy actual bars of gold. I personally have a bunch of Chinese paper money in my sock drawer left over from my trip last year and held in that form in anticipation of future RMB appreciation. You can even buy gold. But whatever you do, don’t entrust your money to promises by the North Carolina state government to give you gold in the future. That’s just a sucker move that’s going to leave you get stuck holding the bag next time there’s a budget crisis.

I would not expect the new state money to catch on unless people begin to trust the North Carolina government more than the US federal government.  I certainly don't trust North Carolina politicians as much.

Yglesias » Households and States

Yglesias » Households and States:

In response to my claim that public understanding of fiscal policy is dominated by fallacious analogies between a national government and a household, MF asks for an explanation “Why is that analogy deceptive or misleading?”

Glad you asked. There are a number of reasons, but the main one concerns money. A household typically measures its wealth in terms of money. So many assets and so many liabilities. And it doesn’t just do this as an accounting convention. An influx of extra dollars into your bank account is a real increase in your wealth. Mo money mo purchasing power.

The United States of America also uses dollars as a unit of account for tallying up assets and liabilities, but the wealth of the United States is properly measured not by how many dollars there are but by what real production we’re engaged in and what real stock of assets we possess. We have the I-95 and the aircraft carrier Ronald Reagan and the Hollywood movie studios and Yale University and the casinos of the Las Vegas strip and the Mayo Clinic and fertile farmland and many detached single-family homes. Unlike a household, if we as a country want more dollars, we can just print more dollars. But also unlike a household, if we as a country want more stuff we actually have to make more stuff not just obtain more currency. This means that to say we’re “broke” or “running out of money” is nonsense. The relevant issue is are we running out of productive capacity? If we try to boost demand faster than we can produce, we’ll end up with inflation. But if our level of demand is well below our potential for production, then we’ll get richer (have more stuff, more production) merely by increasing our demand to something closer to our potential.

Brad DeLong: IS-LM model of recessions

What Must Be the Case for the Economy to Be at Full Employment?

(1) Given the current price level, the long-term real risky interest rate must be such that total planned nominal spending is equal to the full employment level. In general the lower the long-term real risky interest rate, the higher is total planned nominal spending--this is the "IS" curve: the curve that corresponds to equilibrium in the market for "bonds".

(2) Given the current price level, the short-term nominal safe interest rate must be such that when nominal spending and incomes are at their full-employment level that planned holdings of liquid cash money are equal to the existing money stock--this is the "LM" curve: the curve that corresponds to equilibrium in the market for "money".

(3) The expected inflation rate, expectations of future shifts in short-term nominal safe interest rates, the amount of financial risk in the economy, and the financial risk tolerance of wealth holders must be such that the spread between the long-term risky real interest rate and the short-term nominal interest rate is equal to the gap between those respective interest rates' full-employment values. The spread corresponds to equilibrium in the market for "quality."

Recessions happen when:

(1) A shortage of savings vehicles to transfer purchasing power from the present into the future induces spenders to cut back spending and save more. Even if the money stock (and thus the LM curve) and the spread remain at their appropriate full-employment balanced-macroeconomic values, spending will fall and unemployment rise.

(2) A shortage of liquid cash money leads spenders to cut back spending to try to build up their liquid cash money balances. Even if the relationship between spending and real interest rates (and thus the IS curve) and the spread remain at their appropriate full-employment balanced-macroeconomic values, spending will fall and unemployment rise.

(3) A shortage of high-quality assets or expected deflation or expected future monetary contraction leads the spread between the short-term nominal safe interest rate and the long-term real risky interest rate to rise. Even if propensities to spend, to hold money, and the money stock remain at their appropriate full-employment balanced-macroeconomic values, spending will fall and unemployment rise.

And, of course, a shortage of any of these three classes of financial assets--savings vehicles ("bonds"), liquid cash ("money"), or high-quality assets ("quality")--relative to its full-employment balanced macroeconomic level can arise ither becasue of a reduction in the supply of such assets or an increase in the demand for such assets. In 2008 we had a fall in the supply and a rise in the demand for high-quality assets with the financial crisis. In 2001 we had a fall in the supply of savings vehicles with the collapse of the dot-com boom. In 1982 we had a fall in the real supply of liquid cash with the Volcker disinflation.

Is there a presumption that a recession that arises out of derangement in any of these three financial markets--for bonds, for money, or for quality--is best cured by a strategic government intervention to repair the supply-demand full-employment imbalance in that particular market? Yes, if you thought that the macroeconomy was in balance before the recession--that the long-term risky real interest rate and the spread were at their right value before. Otherwise? It is pretty clear to me that you do not want to reattain full employment with spreads that are 'too low' or 'too high', or with a long-term real risky rate of interest that is either 'too low' or 'too high'. But what the appropriate values are of those variables is not something I would claim to have strong evidence-based views on.

Model the macroeconomy as a household

Yglesias :

Public understanding of fiscal policy is hazy, inaccurate, and dominated by fallacious analogies between a national government and a household. What’s more, voters believe that deficits are primarily driven by wasteful government spending. So when a recession strikes the deficit spikes, and people complain.

This is completely true. Ironically, the very name 'economics' means the study of a household. And sadly, it is easy to think about a recession in an extended household. Suppose that the Swiss Family Robinson household is self-sufficient and that the members have completely specialized in doing what each does best. One fishes, another makes tools and shelter, and a third only gathers plants. Suppose there is a supply shock in fishing because of El Nino. That means the fisherman has less to trade with the other two. If they spend less (meaning they produce less), then total output decreases and there is a major recession. If they spend more, then output could stay the same, but with a different composition (more fruits and equipment for fishing). That will cause inflation in fish and deflation in the other two sectors, but the overall price level will stay fairly constant and they will end up with more capital for being more productive in the long run.

Suppose it is a recession that is caused by a financial crisis. The vegetable guy loaned food to the fisherman to allow him to buy more equipment from the tools guy. During this period, the vegetable guy and the tool guy worked extra hard. But the equipment didn't make the fisherman more productive and now the fisherman cannot earn more fish to pay the vegetable guy back. Instead, he will have to buy less equipment than usual from the tool guy in order to pay back the veggie guy. Meanwhile, the tool guy has less food unless he can convince the veggie guy to buy more tools than usual. This causes a recession because the tool guy will have less fish and the fisherman will have less fish and the veggie guy will have more food than usual.