I don't read these things, so maybe I have it wrong. Looks to me like Nassim Taleb said "A good political system is one that allows the country to have an idiot, or a team of idiots at the top, without suffering from it." And Noah Smith replied "Yes, and a good coffee maker is one that doesn't break even when you hit it with a hammer."
Smart-ass kid.
Back after the end of World War Two, the government had a lot of debt and the private sector didn't. What with reduced output during the Depression and rationing during the war, after the war people were ready to spend some, even to go into debt.
And then, because people didn't already have a lot of debt, it wasn't a problem when they did accumulate a little debt. The economy wasn't dragged down by the cost of debt so much as it was buoyed by the spending of borrowed money.
The economic environment, in other words, was conducive to economic growth. And growth was good.
In that environment, you could put idiots in charge and the economy would still be good. But it has nothing to do with the political system being good, and everything to do with the economic environment being conducive to growth.
So, let me go back to Noah Smith and Nassim Taleb.
Taleb makes a statement worth thinking about. Noah Smith smashes it with a hammer. Noah Smith is an idiot.
Taleb says if the system is good, it can withstand idiots. I agree, but with caveats.
1. Politics is yap. Economics is money. It is the economic system that must be good, if it is to withstand idiots.
2. By encouraging the growth of private sector debt, the idiots of the 1960s eroded the conducive nature of the economic environment. They did harm to the economic system by increasing costs, financial costs. When the problem appeared, it appeared as inflation. Inflation was the economy's solution to the problem of increasing costs. (General inflation was the economy's solution to the problem of increasing financial costs.)
3. The idiots of the 1980s suppressed inflation by suppressing the thing that was good about the economy: economic growth. Sure, yes, inflation fell on their watch. But not because they reversed the increase of financial costs. Inflation fell because vigorous economic growth disappeared and never returned.
4. And like the idiots of the 1960s, the idiots of the 1980s encouraged the growth of private sector debt. This made the cost problem worse, which reduced growth more. Then these idiots tried to counteract the decline of growth with solutions to help the supply-side grow. But the part of the supply side that was willing and able to grow was the financial sector, so the cost problem continued to grow worse, right up to the moment of crisis.
Conclusions: Yes, the economic system can withstand idiots, but not forever. And the economic environment is the context that can make fools look like wise men, if the fools are lucky enough to get out before things go bad.
14 comments:
A few thoughts.
Talib's statement strikes me as being nothing short of stupid. No system is invulnerable to being fucked up by idiots who have the power to do so.
Noah's comment is smart-assery but it's also dead on.
Private debt is a mixed bag. There's household debt, industry sector debt, and finance sector debt. Each of those is a mixed bag as well, since debt can used for constructive or non-constructive purposes. Aggregation muddies all of that.
Debt service payments as a % of DPI are currently the lowest in the data set, which starts in 1980, and have been there for three years. The economy is not booming.
(General inflation was the economy's solution to the problem of increasing financial costs.)
Interesting assertion, but nothing more. What is the transfer mechanism?
Cheers!
JzB
Transfer mechanism?
Transfer mechanism:
The process by which increasing financial costs manifest as general inflation.
You don't need a fancy model, just a compelling narrative where all the steps make sense.
Friedman said inflation was always and everywhere a monetary phenomenon, but I'm pretty sure he was lying.
Still, one can spin a narrative around too many dollars chasing too few goods.
Though petroleum supply shocks played a huge role in the inflation of the '70's; and there's a pretty good theory that it resulted from demographics.
But there needn't be a single, unique cause.
Cheers!
JzB
"The process by which increasing financial costs manifest as general inflation.
You don't need a fancy model, just a compelling narrative where all the steps make sense."
Agreed..... whole heartedly.
I am no friend of Friedman by any means but I have come to see him not as a liar but as a sophist. He thought he was saying something profound but its really kind of a..... well duh!!!! Inflation IS a monetary phenomena , in that only when you use our unit of account as a measuring stick can you actually get a numerical answer and then label it "inflation". In an economy without a unit of account, without money to measure (a pure barter economy) one could not quantitate what the economy might be experiencing at various times. And even in a non monetary economy one could have some rapid changes in the amount of exchanges being made (i.e. economic growth) for various reasons.
Where Friedman and the rest of the monetarists are the most flawed in my view is not in their description but their prescription. Since they see money as just another good, like gold, that has value and the value of anything is always (in their views) inversely proportional to its ubiquity, they say all we need to do is control the amount of money and we can control inflation. It is one of those very simple notions which sounds right to a lot of people but just happens to be wrong.
I think its wrong mainly because they don't have a good handle on what "money" is in the modern economy so they try and control things (like bank reserves) which have almost no affect on general prices.
It seems obvious to me that as the cost of finance goes up then either 1) all costs go up to offset it (what we define as inflation) or 2) other transactions go down because finance is eating up all the income or 3) both
Finance is no different than energy/gasoline or health insurance in a budget. If its costs are rising relative to the others it will cost growth in the other things. Thing is for finance costs you really get nothing, for the costs of gasoline you do get gasoline to use. Finance cost is just a fee or tax given to the private sector instead of the govt.
You don't need graphs for any of this, words should suffice.
it is toooo early in the morning for this, but...
"But there needn't be a single, unique cause."
Agreed. There is also a good argument that once inflation got going, it became self-sustaining. After that, the cost of oil and the cost of finance and the cost of toilet paper are all contributing results, results that contribute to the cause and keep the inflation going.
So the question is not what drove inflation during the entire "Great Inflation" period. The question is: What got inflation going at the start?
There may be a single, unique cause. Or certainly, fewer causes. Oil, for example, was not an initiating cause. But finance may have been.
Let's take it as a given that "debt can used for constructive or non-constructive purposes", that some purposes are more productive than others. Apart from that, however, there remains the issue of the reliance on credit. Consider the case of two economies, identical in every respect except this: in the one case the reliance on credit is stable at 20% of GDP, while in the other, the reliance on credit is stable at 50% of GDP.
Assume an interest rate of 10% in both cases. Where existing debt is stable at 100% of GDP, the cost of interest amounts to 5% of GDP. Where existing debt is stable at 20% of GDP, the cost of interest amounts to 2% of GDP. Not a lot of difference.
However, if GDP reliably grows at a 3% annual rate, in the low-credit economy the reliance on credit will fall, while in the high-credit it will rise.
In the low-credit economy, prices would have to fall in order to maintain the reliance on credit stable at 20% of GDP.
In the high-credit economy, prices would have to rise to maintain the reliance on credit stable at 50% of GDP.
I don't know if that's relevant. I'm gonna go have coffee now.
change
Where existing debt is stable at 100% of GDP, the cost of interest amounts to 5% of GDP
to
Where existing debt is stable at 50% of GDP, the cost of interest amounts to 5% of GDP
//
Greg: "It seems obvious to me that as the cost of finance goes up then either 1) all costs go up to offset it (what we define as inflation) or 2) other transactions go down because finance is eating up all the income or 3) both"
There ya go!
"Finance is no different than energy/gasoline or health insurance in a budget. If its costs are rising relative to the others it will cost growth in the other things."
I agree. But for some reason, many people see energy & medical costs but few people see financial costs. Dunno why that is.
Thing is, a high level of financial cost in an economy is the result of policy -- either 1) encouraging the use of credit, or 2) encouraging "debt management" rather than the paydown of debt, or 3) both.
Good monetary policy would maintain "circulating money" roughly in proportion to output. Our monetary policy does not do this. But the Fed's hands are tied; Congress creates laws that affect borrowing and spending and saving and debt repayment.
The high inflation of the 70's was primarily due to oil. Before the inflation US consumption was doubling every 10 years. After the inflation, per capita consumption was falling. Inflation caused the change in consumption pattern and had the consumption pattern not changed the inflation would have continued until it did change. Sure the price of other things like toilet paper increased also, but the consumption pattern of those items did not change much. The inflation was almost exclusively about modifying the pattern of runaway consumption of oil in the US.
Art wrote:"Good monetary policy would maintain "circulating money" roughly in proportion to output. "
That is what federal law(since 1978) says the Fed's job is and as far as I can see that has been accomplished. In particular, cash plus demand deposits have been at a fairly steady 1/10 of GDP from 1980-2008
https://research.stlouisfed.org/fred2/graph/?g=1VAD
Jim: "In particular, cash plus demand deposits have been at a fairly steady 1/10 of GDP from 1980-2008"
When the economy was good, cash plus demand deposits were up around 25 cents per dollar of GDP. Then, all thru the Great Inflation that number fell. (Thus, cash plus demand deposits was not the source of inflation.) Then, yes, the number was down around 10 cents per dollar of GDP from 1980 to the crisis. Note that economic growth was slower after 1980 than before.
https://research.stlouisfed.org/fred2/graph/?g=1Wjr
"Thing is, a high level of financial cost in an economy is the result of policy -- either 1) encouraging the use of credit, or 2) encouraging "debt management" rather than the paydown of debt, or 3) both."
Number 2 is a little unclear to me. You seem to be saying debt management is bad and pay down of debt is good. On the individual level its the same. Managing your debt is about getting your payments to where they fit easily into your income, so you can pay them down. Are you talking about debt write downs ? If not Im confused why you make a differentiation between debt management and paying down debt.
Jazzbumpa: "Debt service payments as a % of DPI are currently the lowest in the data set, which starts in 1980, and have been there for three years. The economy is not booming."
Jazz, the "three years" you mention are a period of significant change. Did you miss it? I argue that the significant change is occurring BECAUSE debt service payments are low.
http://newarthurianeconomics.blogspot.com/2015/09/2-times-longer-and-2-times-deeper.html
Hey Greg. Probably shouldn't have used the phrase "debt management". In the book I read (by a former Treasury guy) the phrase was used to mean debt maintenance, not debt paydown.
Sorry for the confusion there.
If he was a Treasury guy was he referring to federal debt maintenance or personal debt maintenance? Theres a huge difference. I bet he was referring to federal debt.
Yeah, Greg, Federal debt maintenance, Federal debt management. I went and looked thru my old files. The guy wrote:
"What we sought and achieved was a gradual development over many years of a cost-effective Treasury bond market by making incremental increases in the size of regular quarterly offerings of thirty-year bonds."
The book is The Truth about the National Debt, by Francis X. Cavanaugh.
The back cover blurb says Cavanaugh was "an economist and the senior career executive responsible for debt management policy advice in the Treasury Department."
The thing that stuck in my mind was that for him, managing debt was like cultivating debt, trying to get debt to grow... Whose debt it was, that didn't stand out in my memory.
My notes are from a file dated 1997.
Thanks, Greg.
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