Posts Tagged ‘Harvard’

Right now, the United States is mired in an economic depression, the Pandemic Depression, not dissimilar to what happened in the 1930s and again after the crash of 2007-08.

Real (inflation-adjusted) gross domestic product contracted by an annual rate of 31.7 percent in the second quarter of 2020 (according to the Bureau of Economic Analysis) and at least 27 million American workers are currently unemployed (counting workers continuing to receive some kind of unemployment benefits, according to my own calculations).* By all accounts—from both macroeconomic data and anecdotes reported in the media—the current situation is an economic and social disaster equivalent to what the United States went through during the first and second Great Depressions.

The question is, does mainstream macroeconomics have anything to offer in terms of insights about the causes of the current crises or what should be done to solve them?

Many readers are, I’m sure, skeptical, given the abysmal track record of mainstream macroeconomic thinking in the United States. Going back just a bit more than a decade, to the Second Great Depression, it’s clear that mainstream macroeconomists failed on all counts: they didn’t predict the crash; they didn’t even include the possibility of such a crash within their basic theory or models; and they certainly didn’t know what to do once the crash occurred.

Can they do any better with the current depression?

The example I want to use was recently posted by Harvard’s Greg Mankiw, the author of the best-selling macroeconomics textbook on the market. I know it’s not the most sophisticated (or, if you prefer, technical or detailed) discussion out there but it does matter: next year, thousands upon thousands of students will receive their basic training in mainstream macroeconomic theory and its application to the Pandemic Depression from Mankiw’s text.

It should come as no surprise that Mankiw uses the macroeconomic model—of aggregate demand and supply—he has so laboriously built up over the course of many chapters to examine what he calls “the economic downturn of 2020.” His basic argument is that, first, aggregate demand declined (shifting to the left, from AD1 to AD2) due to a decline in the velocity of money (one of the exogenous variables that, in mainstream moderls, determines aggregate demand), and second, the long-run aggregate supply curve declines (shifts left, from LRAS1 to LRAS2), while the short-run aggregate supply curve (SRAS) stays the same. The result is a decline in output (the left-facing arrow at the bottom of the diagram).

This is all pretty straightforward stuff. Except: Mankiw wants to argue that it’s the “natural level of output” as represented by the long-run aggregate supply curve, not the perfectly elastic (or horizontal) short-run aggregate supply curve, that shifts to the left. Huh?

His only explanation is that

When a pandemic strikes and many businesses are temporarily closed, aggregate demand falls because people are staying at home rather than spending at those businesses. Because those businesses cannot produce goods and services, the economy’s potential output, as reflected in the LRAS curve, falls as well. The economy moves from point A to point B.

The problem is, there’s nothing in the way Mankiw has derived the long-run aggregate supply curve—from given resources (land, labor, and capital) and technology—that has changed. Instead, the shutdown of many businesses merely means that there’s enormous excess capacity in the economy. The “natural rate of output”—the level of output corresponding to the “natural level of unemployment”—remains as it was.

But Mankiw is trapped by his own model. The benefit of analyzing the current depression in terms of a shift in the long-run aggregate supply curve is that, as soon as the shutdown is lifted, the supply curve shifts back to the right and the economy moves back to its old long-run equilibrium. Problem solved!

And if the long-run aggregate supply curve doesn’t shift back to the right? Well, then, U.S. capitalism has in fact destroyed its resources—especially labor power—and the economy doesn’t recover, at least anytime soon.

Moreover, if he’d shifted the short-run aggregate supply curve (up in the diagram), well, then we’re in the land of inflation—with the price level rising—an even more severe decline in economic activity (smaller than B), and no return to long-run equilibrium. But prices are not, in general rising, which is why he uses the horizontal short-run aggregate supply curve in the first place (to reflect fixed prices, the result of monopoly enterprises).

Not only is Mankiw trapped by the logic of his own model. His analysis—both the model and the accompanying text—leaves out much of what is interesting and important about the Pandemic Depression.

We’ve seen, for example, that U.S. stock markets, after an initial downturn, have soared to new record highs, even as national output declines and unemployment reached numbers of workers not seen since the Great Depression of the 1930s. That doesn’t even warrant a mention in Mankiw’s analysis—which involves a discussion of assistance to workers and small businesses but nothing about the trillions of dollars available to the Treasury and Federal Reserve to bailout large corporations, keep credit flowing, and boost equity markets.

But there’s an even larger problem in Mankiw’s basic model: all downturns, whether recession or depressions, are the result of “accidents.”

Some surprise event shifts aggregate supply or aggregate demand, reducing production and employment. Policymakers are eager to return the economy to normal levels of production and employment as quickly as possible.

And the Pandemic Depression? Well, according to Mankiw, it was “by design.” But the distinction is meaningless: in all cases, the downturn occurs because of something outside the model—by some kind of “shock.”

So, capitalism itself is absolved. In Mankiw’s model, and in mainstream macroeconomics more generally, there’s nothing in capitalism itself—how profit rates behave, what decisions capitalists make, the fragility of the financial sector, obscene levels of inequality, and so on—that causes the economy to collapse.

If we step outside the confines of Mankiw’s model, then we can begin to see how U.S. capitalism, while it did not create the novel coronavirus, certainly produced and exacerbated the destructive effects of the pandemic on the American economy. For example, after decades of neglect of the public healthcare system and attempts to shore up the private provision of healthcare in the United States, the country was ill-prepared to diagnosis and contain the pandemic. Even more, it worsened the already-grotesque inequalities of healthcare—as well as incomes, wealth, and household finances—it had originally created.

That same economic system also left in the hands of private employers—not the government or workers themselves—the decisions of whether to keep workers employed or, as happened across the country, to furlough or lay off tens of millions of their employees. Any to add to the misery: many of the workers who were supposed to be on temporary layoffs are now finding they’ve lost their jobs permanently and are spending more and more time attempting to find new jobs.

None of those pre-existing economic conditions figures in Mankiw’s analysis. They can’t, because they don’t exist within mainstream macroeconomics, which has been studiously constructed precisely to provide a hydraulic model of macroeconomic equilibrium—starting with full employment and price stability, one or another external “shock” that moves the economy away from there, and then automatic mechanisms to return the economy to its original position—on the basis of aggregate demand and aggregate supply.

And that’s how we get Mankiw’s excuse for the Pandemic Depression:

given the circumstances, a large economic downturn was arguably the best outcome that could be achieved.

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*Millions more workers are either unemployed but not receiving benefits or involuntarily underemployed, working part-time (often with cuts in pay and benefits) when they prefer to be working full-time.

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Niall Ferguson, Harvard’s incorrectly political ignorant gay-bashing bloviating right-wing infotainment war-crimes-apologist historian, finally gets something right.

In explaining the “fight isn’t going as planned” for Hillary Clinton, Ferguson writes:

Last week, Clinton’s supporters seized on new economic data from the Census Bureau showing that median household income rose by more than 5 percent in real terms last year. Poverty is down. So is the number of Americans without health insurance. So is unemployment.

All this seems like grist to the mill of a campaign that essentially promises continuity. Yet there is a problem. Take another look at those figures for inflation-adjusted median household income. Yes, it was $56,500 last year, up from $53,700 the year before. But back in 1999 it was $57,909. In other words, it’s been a round trip — and a very bumpy one indeed — since Clinton’s husband was in the White House.

Telling Americans that they are nearly back to where they were 17 years ago and then expecting them to be grateful looks like a losing strategy. When two thirds of Americans — and even higher percentage of older white voters — say the country is on the wrong track, they are not (as Democrats claim) in denial about the Obama administration’s achievements. They are saying that the country is on a circular track, and has been since this century began.

Not surprising given his track record, Ferguson gets the rest wrong—arguing, for example, that one kind of stimulus (Trump’s proposed tax cuts for the wealthy) will work while the other kind of stimulus (Clinton’s government expenditures on infrastructure) won’t.

But his major observation about the failure of the Clinton strategy—that “Telling Americans that they are nearly back to where they were 17 years ago and then expecting them to be grateful”—is substantially correct.

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Harvard economics professor Sendhil Mullainathan is worried that too many of his students are taking jobs in finance. He should be worried for other reasons, too.

Mullainathan’s concern stems from the idea that much of the activity in the financial sector involves “rent-seeking”:

Instead of creating wealth, rent seekers simply transfer it — from others to themselves. . .

The economists Eric Budish at the Booth School of Business and Peter Cramton at the University of Maryland, and John J. Shim, a Ph.D. candidate at Booth, have shown in a study how extreme this financial gold rush has become in at least one corner of the financial world. From 2005 to 2011, they found that the duration of arbitrage opportunities in the Chicago Mercantile Exchange and the New York Stock Exchange declined from a median of 97 milliseconds to seven milliseconds. No doubt that’s an achievement, but correcting mispricing at this speed is unlikely to have any real social benefit: What serious investment is being guided by prices at the millisecond level? Short-term arbitrage, while lucrative, seems to be mainly rent-seeking.

This kind of rent-seeking behavior is widespread in other parts of finance. Banks sometimes make money by using hidden fees rather than adding true value. Debt collection agencies may use unscrupulous practices. Lenders to poor people buying used cars can make profits with business models that encourage high rates of default — making money by taking advantage of people’s overconfidence about what cars they can afford and by repossessing vehicles. These kinds of practices may be both lucrative — and socially pernicious.

Mullainathan makes clear that that kind of rent-seeking behavior is ubiquitous in the world of finance. But, it seems to me, he has an even bigger problem: it’s not clear there’s an area in finance that doesn’t involve some kind of rent-seeking (or, as I prefer, surplus-seeking) behavior. The best Mullainathan can come up with is a general summary of the effects of the division of labor in Adam Smith and a movie, It’s a Wonderful Life.

Mainstream economists and Wall Street bankers have tried mightily to come up with concepts and measures of how the financial sector creates value and thus has an economic or social benefit. But, in the end (to judge by Mullainathan’s column), they’ve failed.

Finance may be very lucrative, for banking institutions and Harvard students alike, but all it does is capture some of the value created elsewhere in the economy. And in an attempt to capture more and more of that value, by taking advantage of arbitrage opportunities and developing new financial instruments, it created the worst crisis since the first Great Depression.

Not even George Bailey would have been able to prevent that from happening.

 

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Or, in this case, only at Harvard. . .

Marc Edelman [ht: ja]—an associate professor at Harvard Business School, who is a graduate of Harvard College, and has a Ph.D. in economics from Harvard University and a law degree from Harvard Law School—threatened legal action against the owner of a local Chinese restaurant after deciding he was overcharged by $4 (on a total takeout order of $53.55).

Apparently, after the story was published, Harvard Business School students, who are worried about what they consider to be negative stereotypes about their school, set up a fundraising page for the Greater Boston Food Bank, asking people to each contribute $4 to the food bank. As of this morning, the campaign had raised almost $5,000.

I’ll bet Harvard Business School has an ethics class for this.

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The current recovery has been good for American business. Not so much for the country’s workers.

And, in the eyes of Harvard’s business alumni, that’s pretty much the way things are going to continue for the foreseeable future.

According to a Harvard Business School study released today, “An Economy Doing Half its Job” [pdf], respondents were relatively optimistic about the future of businesses, with 31 percent expecting them to be better able to compete in global markets in three years and 26 percent expecting them to be less able. (See the right and left columns of Figure 1 above, respectively.) In contrast, 41 percent foresaw lower wages and benefits, and only 27 percent anticipated higher wages and benefits. (See the top and bottom rows, respectively.)

Clearly, the authors of the report are worried about the potential effects of this growing gap between the trajectories of American corporations and the workers they employ:

Shortsighted executives may be satisfied with an American economy whose firms win in global markets without lifting U.S. living standards. But any leader with a long view understands that business has a profound stake in the prosperity of the average American. Thriving citizens become more productive employees, more willing consumers, and stronger supporters of pro-business policies. Struggling citizens are disgruntled at work, frugal at the cash register, and anti-business at the ballot box. We agree strongly with this view: businesses cannot succeed for long while their communities languish.

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Is there something that’s been added to the water at Harvard?

I ask because the standards being set by some of Harvard’s most famous professors these days are reaching new lows.

First, we had the spectacle of Larry Summers being forced to remove his name from the list of nominees for chair of the Federal Reserve.

Then, we have Greg Mankiw, who spends his time disseminating whatever views his anti-government Republican-water-carrying friends (such as Martin Feldstein, Casey Mulligan, and John Cochrane) come up with .

Finally, we are witnesses to the embarrassment of Niall Ferguson (here and here) and Ken Rogoff [pdf] playing public gotcha with Paul Krugman.

And people really believe Harvard stands at the pinnacle of the intellectual meritocracy in the United States?