Few theories have grabbed my imagination the way behavioral economics has, and I’m not alone in that. One of the big stories when President Obama was elected was that his administration was going to use behavioral economics to painlessly solve a variety of problems. Last week, economics professors George Loewenstein and Peter Ubel wrote an op-ed for the New York Times throwing some water on the idea that we can nudge our way into solutions for big problems. Here’s the conclusion:
Behavioral economics should complement, not substitute for, more substantive economic interventions. If traditional economics suggests that we should have a larger price difference between sugar-free and sugared drinks, behavioral economics could suggest whether consumers would respond better to a subsidy on unsweetened drinks or a tax on sugary drinks.
But that’s the most it can do. For all of its insights, behavioral economics alone is not a viable alternative to the kinds of far-reaching policies we need to tackle our nation’s challenges.
For what it’s worth, studies show that taxes are more effective than subsidies in changing people’s behavior.
University of Delaware economics professor Laurence Seidman has a proposal that’s too sensible to ever be adopted for fixing the federal budget. Here’s his description of the problem:
The worst federal budget policy is the one we’re now following: ignoring the looming large future deficits while refusing to enact temporary fiscal stimulus to combat the recession. As long as Congress and the president refuse to tackle the large looming future deficits, financial markets and the public will rightly stay nervous.
He suggests three things, the first is a “normal unemployment balanced budget rule” for Congress. It would require the annual federal budget to be balanced if the unemployment rate is 6%. The second is a set of changes to entitlement programs that would avert their future budget-busting growth. And the third is a set of stimulus programs pegged to the unemployment rate:
At the same time, Congress should enact a set of temporary tax cuts and expenditures to stimulate the economy. This legislation must contain a phase-down schedule so that these temporary measures are phased out as the unemployment rate, which is currently over 9 percent, falls below 9 percent, then 8 percent, then 7 percent, and are completely terminated when the unemployment rate falls to 6 percent. Note that these temporary measures would have no effect on NUBAR, because they would be completely terminated when the unemployment rate falls to 6 percent.
It’s the kind of idea that would work if we had two parties that were interested in restoring economic growth and fixing our future budget problems. Instead we have one party that wants the economy to stay broken for political reasons, and another party that prioritizes avoiding perceived political risk over actually fixing problems.
Brad DeLong captures the general line of thinking in an article for The Week, entitled Keynes & Co. have lost the stimulus argument. In it he explains why he’s pessimistic about our current economic situation, things the government can do to restore economic growth, and why the government probably isn’t going to do any of those things. Here’s his summary of the current situation:
The good news is we have avoided another Great Depression. But it seems ill-advised for Barack Obama to stand up on a Friday morning in early July and say that the economy is “headed in the right direction” (even if, as he said, “we are not headed there fast enough”) and to highlight “the sixth straight month of job growth in the private sector.” The employment-to-population ratio has been flat since November. Over the past six months–since the downturn ended–the U.S. economy has not been recovering from its near-depression, and not been putting a greater and greater portion of its potential labor force to work. Rather, it has been bumping along the bottom. There is a big difference between the economy getting “better” and the economy “no longer getting worse rapidly.”
Ultimately, I come down on Krugman/DeLong side in this debate. There are specific things the government needs to do to get the deficit under control (or, alternatively, it could just do nothing), but those are structural changes to the federal budget. In the meantime, we need economic growth.
If you, like me, read a lot of liberal blogs, you see people arguing every day that the best thing the government can do right now is spend more money to stimulate the economy and restore economic growth. For example, it’s become clear that the spending in the stimulus bill in 2009 has been offset fully by the contraction in government spending at other levels that resulted from falling tax revenues. And the general argument is that as long as interest rates are low for government bonds, we should take advantage and borrow money to prop up the economy. I find this argument persuasive, so I’m on the lookout for solid counterarguments.
Analyst John P. Hussman, in a long (and important) article arguing that the economy is not really in recovery and that the worst is yet to come, describes a pattern that we’re seeing right now:
From an inflation standpoint, is important to recognize the distinction between what occurs during a credit crisis and what occurs afterward. Credit strains typically create a nearly frantic demand for government liabilities that are considered default-free (even if they are subject to inflation risk). This raises the marginal utility of government liabilities relative to the marginal utility of goods and services. That’s an economist’s way of saying that interest rates drop and deflation pressures take hold. Commodity price declines are also common, which is a word of caution to investors accumulating gold here, who may experience a roller-coaster shortly. Over the short-term, very large quantities of money and government debt can be created with seemingly no ill effects. It’s typically several years after the crisis that those liabilities lose value, ultimately at a very rapid pace.
Reinhart and Rogoff continue, “Episodes of treacherously high inflation are another recurrent theme. Indeed, there is a very strong parallel between our proposition that few countries have avoided serial default on external debt and the proposition that few countries have avoided serial bouts of high inflation. Even the United States has a checkered history. Governments can default on domestic debt through high and unanticipated inflation, as the United States and many European countries famously did in the 1970′s.
“Early on across the world, the main device for defaulting on government obligations was that of debasing the content of the coinage. Modern currency presses are just a technologically advanced and more efficient approach to achieving the same end. In many important episodes, domestic debt has been a major factor in a government’s incentive to allow inflation, if not indeed the dominant one. If a global surge in banking crises indicates a likely rise in sovereign defaults, it may also signal a potential rise in the share of countries experiencing high inflation. Inflation has long been the weapon of choice in sovereign defaults on domestic debt and, where possible, on international debt.”
This is why many smart people are talking about inflation even though we’re currently experiencing deflation. On one side, we have the risk of inflation or default down the road if we keep borrowing money now. On the other side, we have the risk of a deeper, more painful recession and less economic growth down the road if we go with austerity. And we have two parties in Congress who are making decisions about what to do based on their immediate political future rather than the long term interest of the country. We are so screwed.
The big macroeconomic debate is over deficit spending. Should the federal government keep borrowing money and spending it to lower unemployment and hasten economic recovery, or should it focus on fixing its balance sheet by cutting spending and possibly raising taxes? Ireland went for the latter approach, and the New York Times reports on the results. Ezra Klein has the Cliffs Notes version. I’ll go even shorter: it’s been a disaster for Ireland.
Tyler Cowen on who benefits from Dave Weigel’s firing:
At a more general level this is a tax on journalists, who now have a greater fear of being fired for past actions. It’s also a tax on the moody, the volatile, the web-savvy, the non-mainstream, and a subsidy to in-control smooth talkers and careful writers.
Ezra Klein’s Washington Post column today is about the externalities of gasoline:
Most of us would call the BP spill a tragedy. Ask an economist what it is, however, and you’ll hear a different word: “externality.” An externality is a cost that’s not paid by the person, or people, using the good that creates the cost. The BP spill is going to cost fishermen, it’s going to cost the gulf’s ecosystem, and it’s going to cost the region’s tourism industry. But that cost won’t be paid by the people who wanted that oil for their cars. It’ll fall on taxpayers, on Gulf Coast residents who need new jobs, on the poisoned wildlife on the seafloor.
That means the gasoline you’re buying at the pump is — stick with me here — too cheap. The price you pay is less than the product’s true cost. A lot less, actually. And it’s not just catastrophic spills and dramatic disruptions in the Middle East that add to the price. Gasoline has so many hidden costs that there’s a cottage industry devoted to tallying them up. At least the ones that can be tallied up.
The BBC’s Paul Mason explains the mechanics and implications of Europe’s huge bailout of Greece and the other step’s the EU and IMF are taking to forestall potential defaults by Spain, Portugal, and Ireland as well. Mason’s argument is that Europe is turning financial risk into political risk, you should read the whole thing. (Via The Browser.)
Today, Apple updated the MacBook Pro line. I’ve been using the same laptop for three years, and it is, in my opinion, time to get a new one. Sadly, my determination to get a new laptop has made every symptom of sluggishness on the old computer twice as noticeable. (Eclipse “Open Type” shortcut, I’m looking at you.)
First, an anecdote from the realm of behavioral economics. In January, a five cent tax on plastic grocery bags went into effect in Washington DC. The proceeds go to cleaning up the Anacostia River. Residents of Washington DC used an average of 22 million plastic bags a month in 2009. In 2010, they used 3 million. As it turns out, people are completely willing to bring their own bags to the store if it means not having to pay a small tax. The radical change in behavior that resulted from this small tax made me wonder about the effect slow computers have on developer behavior.
When Joel Spolsky originally wrote the Joel Test ten years ago, he talked about how developers deal with the performance tax:
Writing code in a compiled language is one of the last things that still can’t be done instantly on a garden variety home computer. If your compilation process takes more than a few seconds, getting the latest and greatest computer is going to save you time. If compiling takes even 15 seconds, programmers will get bored while the compiler runs and switch over to reading The Onion, which will suck them in and kill hours of productivity.
Today, you’d substitute “check their Twitter client” for “reading The Onion,” but aside from that, the observation still holds.
My theory though is that slow machines for developers wind up increasing the workload for testers. Most of the time, a slow computer doesn’t make it harder to write code, it makes harder to test code.
I suspect that most developers have a budget in their mind for how long they’re willing to test each bug fix. I don’t know many developers who can force themselves to do a lot of testing for a one line change, even if that one line change was made to a widely used method or function. So the biggest impact of getting a faster computer is that it would enable me to run more tests within my testing budget, and to iterate more rapidly when the fixes don’t work. In the end, it results in higher quality code.
And that’s why I should have a new laptop. The QA department must surely agree. This is also an argument in favor of automated regression testing.
In school we learn that capitalism is the most efficient system known for allocating scarce resources, but real life has taught me that very few corporations agree with economists on this point. Take, for example, how a banking analyst reacts to the news that the credit card legislation that just gone into effect has led to credit card issuers competing more aggressively for customers with high credit scores:
The CARD Act is leading all issuers to the top of the credit food chain, and more competition is never a good thing in any industry, regardless of the product, but particularly in the relatively homogenized card space,
Make no mistake, what “competing more aggressively” means is offering lower interest rates and better benefits to customers. The takeaway here is that this is what corporations are after when they spend money on lobbying — reduced competition, and of course, reduced regulations. So here we have a policy that regulates the worst behavior of corporations and that has led directly to competition that benefits customers. This is exactly the sort of thing Republicans are against.
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