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Political comic strips around the Mississippi Bubble of the 1710s

I wish that I had time to read this paper by David Levy and Sandra Peart.

It’s about political comics (cartoons) drawn to depict John Law and the Mississippi Bubble of the early 1700s.  It also speaks to subtlely different meanings of the words “alchemy” and “occult” than we are used to today. Here is an early paragraph in the paper:

Non-transparency induces a hierarchy of knowledge. The most extreme form of that sort of hierarchy might be called the cult of expertise in which expertise is said to be accompanied by godlike powers, the ability to unbind scarcity of matter and time. The earliest debates over hierarchy focused on whether such claims are credible or not.

Here is the abstract:

Economists have occasionally noticed the appearance of economists in cartoons produced for public amusement during crises. Yet the message behind such images has been less than fully appreciated. This paper provides evidence of such inattention in the context of the eighteenth century speculation known as the Mississippi Bubble. A cartoon in The Great Mirror of Folly imagines John Law in a cart that flies through the air drawn by a pair of beasts, reportedly chickens. The cart is not drawn by chickens, however, but by a Biblical beast whose forefather spoke to Eve about the consequences of eating from the tree of the knowledge. The religious image signifies the danger associated with knowledge. The paper thus demonstrates how images of the Mississippi Bubble focused on the hierarchy of knowledge induced by non-transparency. Many of the images show madness caused by alchemy, the hidden or “occult.”

Hat tip: Tyler Cowen.

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Not raising the minimum wage with inflation will make your country fat

Via Greg Mankiw, here is a new working paper by David O. Meltzer and Zhuo Chen: “The Impact of Minimum Wage Rates on Body Weight in the United States“. The abstract:

Growing consumption of increasingly less expensive food, and especially “fast food”, has been cited as a potential cause of increasing rate of obesity in the United States over the past several decades. Because the real minimum wage in the United States has declined by as much as half over 1968-2007 and because minimum wage labor is a major contributor to the cost of food away from home we hypothesized that changes in the minimum wage would be associated with changes in bodyweight over this period. To examine this, we use data from the Behavioral Risk Factor Surveillance System from 1984-2006 to test whether variation in the real minimum wage was associated with changes in body mass index (BMI). We also examine whether this association varied by gender, education and income, and used quantile regression to test whether the association varied over the BMI distribution. We also estimate the fraction of the increase in BMI since 1970 attributable to minimum wage declines. We find that a $1 decrease in the real minimum wage was associated with a 0.06 increase in BMI. This relationship was significant across gender and income groups and largest among the highest percentiles of the BMI distribution. Real minimum wage decreases can explain 10% of the change in BMI since 1970. We conclude that the declining real minimum wage rates has contributed to the increasing rate of overweight and obesity in the United States. Studies to clarify the mechanism by which minimum wages may affect obesity might help determine appropriate policy responses.

Emphasis is mine.  There is an obvious candidate for the mechanism:

  1. Minimum wages, in real terms, have been falling in the USA over the last 40 years.
  2. Minimum-wage labour is a significant proportion of the cost of “food away from home” (often, but not just including, fast-food).
  3. Therefore the real cost of producing “food away from home” has fallen.
  4. Therefore the relative price of “food away from home” has fallen.
  5. Therefore people eat “food away from home” more frequently and “food at home” less frequently.
  6. Typical “food away from home” has, at the least, more calories than “food at home”.
  7. Therefore, holding the amount of exercise constant,  obesity rates increased.

Update: The magnitude of the effect for items 2) – 7) will probably be greater for fast-food versus regular restaurant food, because minimum-wage labour will almost certainly comprise a larger fraction of costs for a fast-food outlet than it will for a fancy restaurant.

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Who has more information, the Central Bank or the Private Sector?

A friend pointed me to this paper:

Svensson, Lars E. O. and Michael Woodford. “Indicator Variables For Optimal Policy,” Journal of Monetary Economics, 2003, v50(3,Apr), 691-720.

You can get the NBER working paper (w8255) here.  The abstract:

The optimal weights on indicators in models with partial information about the state of the economy and forward-looking variables are derived and interpreted, both for equilibria under discretion and under commitment. The private sector is assumed to have information about the state of the economy that the policymaker does not possess. Certainty-equivalence is shown to apply, in the sense that optimal policy reactions to optimally estimated states of the economy are independent of the degree of uncertainty. The usual separation principle does not hold, since the estimation of the state of the economy is not independent of optimization and is in general quite complex. We present a general characterization of optimal filtering and control in settings of this kind, and discuss an application of our methods to the problem of the optimal use of ‘real-time’ macroeconomic data in the conduct of monetary policy. [Emphasis added by John Barrdear]

The sentence I’ve highlighted is interesting.  As written in the abstract, it’s probably true.  Here’s a paragraph from page two that expands the thought:

One may or may not believe that central banks typically possess less information about the state of the economy than does the private sector. However, there is at least one important argument for the appeal of this assumption. This is that it is the only case in which it is intellectually coherent to assume a common information set for all members of the private sector, so that the model’s equations can be expressed in terms of aggregative equations that refer to only a single “private sector information set,” while at the same time these model equations are treated as structural, and hence invariant under the alternative policies that are considered in the central bank’s optimization problem. It does not make sense that any state variables should matter for the determination of economically relevant quantities (that is, relevant to the central bank’s objectives), if they are not known to anyone in the private sector. But if all private agents are to have a common information set, they must then have full information about the relevant state variables. It does not follow from this reasoning, of course, that it is more accurate to assume that all private agents have superior information to that of the central bank; it follows only that this case is one in which the complications resulting from partial information are especially tractable. The development of methods for characterizing optimal policy when di fferent private agents have di fferent information sets remains an important topic for further research.

Here’s my attempt as paraphrasing Svensson and Woodford in point form:

  1. The real economy is the sum of private agents (plus the government, but ignore that)
  2. Complete information is thus, by definition, knowledge of every individual agent
  3. If we assume that everybody knows about themselves (at least), then the union of all private information sets must equal complete information
  4. The Central Bank observes only a sample of private agents
  5. That is, the Central Bank information set is a subset of the union of all private information sets. The Central Bank’s information cannot be greater than the union of all private information sets.
  6. One strategy in simplifying the Central Bank’s problem is to assume that private agents are symmetric in information (i.e. they have a common information set).  In that case, we’d say that the Central Bank cannot have more information than the representative private sector agent. [See note 1 below]
  7. Important future research will involve relaxing the assumption in (f) and instead allowing asymmetric information across different private agents.  In that world, the Central Bank might have more information than any given private agent, but still less than the union of all private agents.

Svensson and Woodford then go on to consider a world where the Central Bank’s information set is smaller than (i.e. is a subset of) the Private Sector’s common information set.

But that doesn’t really make sense to me.

If private agents share a common information set, it seems silly to suppose that the Central Bank has less information than the Private Sector, for the simple reason that the mechanism of creating the common information set – commonly observable prices that are sufficient statistics of private signals – is also available to the Central Bank.

In that situation, it seems more plausible to me to argue that the CB has more information than the Private Sector, provided that their staff aren’t quietly acting on the information on the side.  It also would result in observed history:  the Private Sector pays ridiculous amounts of attention to every word uttered by the Central Bank (because the Central Bank has the one private signal that isn’t assimilated into the price).

Note 1: To arrive at all private agents sharing a common information set, you require something like the EMH (in fact, I can’t think how you could get there without the EMH).  A common information set emerges from a commonly observable sufficient statistic of all private information.  Prices are that statistic.

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    Article Summary: Noisy Directional Learning and the Logit Equilibrium

    The paper is here (ungated).  The ideas.repec entry is here.  I believe that this (1999) was an early version of the same.  The authors are Simon P. Anderson [Ideas, Virginia] , Jacob K. Goeree [Ideas, CalTech] and Charles A. Holt [Ideas, Virginia].  The full reference is:

    Anderson, Simon P.; Goeree, Jacob K. and Holt, Charles A., “Noisy Directional Learning and the Logit Equilibrium.” Scandinavian Journal of Economics, Special Issue in Honor of Reinhard Selten, 2004, 106(3), pp. 581-602, September 2004

    The abstract:

    We specify a dynamic model in which agents adjust their decisions toward higher payoffs, subject to normal error. This process generates a probability distribution of players’ decisions that evolves over time according to the Fokker–Planck equation. The dynamic process is stable for all potential games, a class of payoff structures that includes several widely studied games. In equilibrium, the distributions that determine expected payoffs correspond to the distributions that arise from the logit function applied to those expected payoffs. This ‘‘logit equilibrium’’ forms a stochastic generalization of the Nash equilibrium and provides a possible explanation of anomalous laboratory data.

    This is a model of bounded rationality inspired, in part, by experimental results.  It provides a stochastic equilibrium (i.e. a distribution over choices) that need not coincide with, nor even be centred around, the Nash equilibrium.  The summary is below the fold.

    Continue reading “Article Summary: Noisy Directional Learning and the Logit Equilibrium”

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    Article Summary: Economics and Identity

    You can access the published paper here and the unpublished technical appendices here.  The authors are George Akerlof [Ideas, Berkeley] and Rachel Kranton [Duke University].  The full reference is:

    Akerlof, George A. and Kranton, Rachel E. “Economics and Identity.” Quarterly Journal of Economics, 2000, 115(3), pp. 715-53.

    The abstract:

    This paper considers how identity, a person’s sense of self, affects economic outcomes.We incorporate the psychology and sociology of identity into an economic model of behavior. In the utility function we propose, identity is associated with different social categories and how people in these categories should behave. We then construct a simple game-theoretic model showing how identity can affect individual interactions.The paper adapts these models to gender discrimination in the workplace, the economics of poverty and social exclusion, and the household division of labor. In each case, the inclusion of identity substantively changes conclusions of previous economic analysis.

    I’m surprised that this paper was published in such a highly ranked economics journal.  Not because of a lack of quality in the paper, but because of it’s topic.  It reads like a sociology or psychology paper.  99% of the mathematics were banished to the unpublished appendices, while what made it in were the justifications by “real world” examples.  The summary is below the fold … Continue reading “Article Summary: Economics and Identity”

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    Article Summary: The Marginal Product of Capital

    This paper (forthcoming in the QJE) by Francesco Caselli (one of my professors at LSE) and James Feyrer (of Dartmouth) has floored me. Here’s the abstract:

    Whether or not the marginal product of capital (MPK) differs across countries is a question that keeps coming up in discussions of comparative economic development and patterns of capital flows. Attempts to provide an empirical answer to this question have so far been mostly indirect and based on heroic assumptions. The first contribution of this paper is to present new estimates of the cross-country dispersion of marginal products. We find that the MPK is much higher on average in poor countries. However, the financial rate of return from investing in physical capital is not much higher in poor countries, so heterogeneity in MPKs is not principally due to financial market frictions. Instead, the main culprit is the relatively high cost of investment goods in developing countries. One implication of our findings is that increased aid flows to developing countries will not significantly increase these countries’ incomes.

    … which seems reasonable enough. Potentially important for development, but not necessarily something to knock the sense out of you. What blew me away was how simple and after-the-fact obvious their adjustments are. They are:

    1. Estimates of MPK depend on first estimating national income (Y), the capital stock (K) and capital’s share of the national income (?): MPK = ?Y/K. National income figures are fine. A country’s capital stock is typically calculated using the perpetual inventory method, which only counts reproducible capital. Capital’s share of income is typically calculated as one minus the labour share of income (which is easily estimated), but this includes income attributable to both reproducible and non-reproducible capital (i.e. natural resources). Therefore estimates of MPK are too high if they are meant to represent the marginal product of reproducible capital. This error will be more severe in countries where non-reproducible capital makes up a large proportion of a country’s total capital stock. Since this is indeed the case in developing countries (with little investment, natural resources are often close to the only form of capital they possess), this explains quite a lot of the difference in observed MPK between rich and poor countries.
    2. Estimates of MPK based on a one-sector model implicitly assume that prices are not relevant to it’s calculation. However, the relative price of capital goods (i.e. their price relative to everything else in the particular economy) is frequently higher in developing countries. This will force the necessary rate of return higher in poor countries because the cost of investing will be higher.

    They give the following revised estimates (Table II in their paper, standard deviations in parentheses):

    Measure of MPK Rich countries Poor countries
    “Naive” 11.4 (2.7) 27.2 (9.0)
    Adjusted only for land and natural resources 7.5 (1.7) 11.9 (6.9)
    Adjusted only for price differences 12.6 (2.5) 15.7 (5.5)
    Adjusted for both 8.4 (1.9) 6.9 (3.7)

    The fact that the adjusted rate of return appears lower in poor countries then goes some way to explaining why the market flow of capital is typically from poor countries to rich countries and, as they say, has some serious implications for development.But that first adjustment! How on earth can that have skipped attention over the years? It seems like something that should have been noticed and dealt with in the ’50s!

    The second adjustment managed to shed more light (for me) on just how terrible price controls can be. Under the assumption that if inflation is going to happen, it’s going to happen no matter what you do, if you put a cap on the prices of some goods (or services) then the prices of the rest will simply rise commeasurately further. When Messers Chavez and Mugabe institute price caps in an attempt to hold back inflation, they invariably put them on consumer goods because that’s where the populist vote lies. However, that means that inflation in capital goods will be higher still, making them more expensive relative to everything else in the economy. That will increase the rate of return demanded by investors and — in the meantime — chase investment away. By easing the pain in the short run, they are shooting themselves in the foot in the long run.

    Caselli and Feyrer’s results also make me wonder about the East Asian NICs. What attracted the flood of foreign capital if not their higher MPKs? Remember that their TFPs were not growing any faster than those of the West. Their human capital stocks were certainly rising, but – IIRC – no where near as quickly as their capital stocks were growing.

    Update (11 Oct):
    Of course, the NICs also had – and continue to have – very high savings rates, which at first glance goes a long way to explaining their physical capital accumulation. There are two responses to this:

    1. Even with their high savings rates, they were still running current account deficits. I understand, although I haven’t looked at the figures, that these were driven by high levels of investment rather than high levels of consumption.
    2. Did their savings rates suddenly rise at the start of their growth periods? If so, that is extraordinary and needs explaining in itself; at the very least it raises the question that their savings rates (or, if you prefer, their rate of time preference) were endogenously determined. If not, then we still need to explain why their savings were originally being invested overseas, then domestically and now (that they’ve “caught up”) overseas again.