Paul Krugman Loves Politics...and Costumes!

Paul Krugman's profile in the New Yorker!

Also, since Evelyne pointed out the part about how Paul Krugman loves costumes...
my Halloween costume two years ago was capital flight!

Mamma Mia!

I don't care what's going on in Greece.  Someone take me.  We can do Greece a favor by spending lots of money while we're there...it will be completely selfless!

 

 

 
My mom is in Turkiye right now.  I'm so jealz.

Simon Johnson talks about why Greece might go to the IMF for help and why things are not as simple as when Greece had its own currency.  He also talks about how politics may (as always) get in the way of things...
In another piece, Johnson talks about Goldman's role.  Felix Salmon thinks that Goldman is just a scapegoat.

Martin Feldstein suggests a holiday from the eurozone for Greece - Greece could devalue the drachma to reduce imports and boost exports (reducing trade deficit and maybe increasing GDP and employment)

Roses are red, violets are blue, Hank Paulson loves Wellesley women too!

I hope everyone had a happy lunar new year and valentine's day!
My aloe vera plant, Henry, now has a friend named Zach.  Yay!

I bought myself Hank Paulson's new book, On the Brink, yesterday.  A funny comment was made about Paulson the other day, I can't remember where...but someone said, "Here is a man who is too big to fail."  Ha.
Anyway, I really like Paulson's book so far.  But maybe I'm biased because Hank Paulson is clearly a fan of Wellesley women.  He writes:
"I come from a line of strong women -- smart independent, plain-spoken women[...]My mother inherited her grit and determination from her own mother, Kathrun Schmidt, who graduated from Wellesley College in 1914 and supported her family through the Depression[...]My mom, Marianna Gallauer, followed her to Wellesley, graduating in 1944."
"In my senior year, several weeks before graduation, I met Wendy Judge, a junior at Wellesley, on a blind date set up by a friend.  I was immature and behaved badly."  (Hrm...sounds sooo familiar!  Haha.)  "We went to a Boston Pops concert, and she was not impressed when I folded my program into a paper airplane and sailed it off the balcony at Arthur Fiedler, the conductor.  Wendy asked to be taken home early, and I thought I'd never hear from her again.  But she called me up later and invited my roommate and me to come down for Tree Day, a Wellesley celebration of spring.  So I had reason to think there was hope."

So cute.

Anyway, his book is not all about his love for Wellesley women.  (Who doesn't love Wellesley women, seriously...)
He talks about what it was like to tell Fannie and Freddie that they would be placed under a conservatorship.  He shares embarrassing moments and first impressions of certain politicians (Sarah Palin, of course)

I can't wait to devour this book.  I'm only four chapters in, but I highly recommend it.

[Confession: I wish I were in H.S. again when I could stay up all night reading books and not worry about having to sleep because I knew I could just sleep during classes the next day.  I'm pretty sure sleeping at work is frowned upon...]

An Ode by Wellesley's Chip Case!

Reflections on the Housing Market - in verse form
Karl Case

For the last few years, we have shed many tears
Living through a recession.
The economy's broke and it's not a joke,
When we talk of another depression.
Fifteen million without a job,
Foreclosures and banks that fail,
401K's became 201K's,
And everything's up for sale.

How can it be? What didn't we see
That led to all of this trouble?
There is little doubt that the proximal cause
Was a bursting housing bubble.
But other than that, who can we blame?
And what do they lament?
Millions of people contributed to
This hundred-year event.

For me, it began in '76
With a house on Cleveland Road.
At fifty-four thousand, I thought it a lot
For a small three-bedroom abode.
But ten years later, that very same house
Would sell for four times the price.
I was glad that I bought...I remember the thought,
"This may not be fair, but it's nice."

In Boston alone, that boom created
$100 billion in wealth.
We spent more, saved less, and I have to confess,
It was good for our mental health.
We had to know that it couldn't go on.
Someday prices would fall.
We knew there were risks -- to ourselves and our fiscs
If those prices were ever to stall.

It all began in 2001,
9/11, the dot.com bubble.
The Fed had to act because of the fact
A recession would mean big trouble.
So the Fed funds rate, sitting just below eight,
Was cut to under two.
And you had to know, with rates so low,
That a refi boom would ensue.

The volume of mortgages written back then
Stunned imaginations.
In a single quarter in 2003,
A trillion in originations!
But something happened late that year
That caused long rates to rise.
And that was the end of the refi boom.
It came as quite a surprise.

With refi's gone, so were big fees,
But banks still had money to lend.
And the search for buyers to fill the gap
Seemingly had no end.
The Fed kept pumping through 2005
To keep short rates very low.
And Greenspan gets a share of the blame;
His halo has less glow.

Of course the key for all to see
Was a robust housing market.
Buyers could borrow lots of cash
And a house was a good place to park it.
A summer home...a new big house,
No one seemed to care.
Homes were made of bricks and land,
The value would always be there.

It didn't matter what rate you paid
Or what you made in a year.
For a while liquidity led to stupidity,
"Just sign and see the cashier."
High LTV's and Option ARMs
Negative AM's and more,
2-28's with teaser rates
And ridiculous Fico scores.

Competition was the force
That made the music play.
As long as prices didn't fall
Everything was OK.
People could always sell their house
For more than they had paid.
Defaults and foreclosures stayed quite low
And lots of money was made.

Fannie and Fred were always ahead,
Then Countrywide got in the fray.
Then Lehman and Merrill and Goldman Sachs
Couldn't be kept away.
You can guess that MBS
Helped make the trading brisk.
Investors thought that the paper they bought
Was traunched with well-measured risk.

To that, add leverage and default swaps,
And then when house prices fell,
"Smart guys" got hosed as the risks were exposed,
And that was the closing bell.
Now where do we go? We really don't know.
We've never been here before.
Only time will tell when the markets will clear
And prices will fall no more.

Some of the data suggest a bottom,
While other data conflicts.
Houses are selling at rates not seen
Since back in 2006.
The inventory of unsold homes
Is down, it no longer grows.
And we're not building any new homes.
Starts are at 50-year lows.

A number of problems remain as risks
As the market begins to turn:
The number of loans that still need to be marked
Is making stomachs churn.
Fifteen million who want to work
Don't have jobs today.
And slow is the pipeline of loans in default
Since no one wants to pay.

It could also be that the pick-up we see
Is just from government red.
Lower rates and tax rebates
Buying paper from Fannie and Fred.
All have certainly played a role
And only time will tell.
What will happen when they're withdrawn,
Still empty units to sell?

So now we come to the end of this ode
Without much to say for certain.
I hate to say, that's where we are
Not beginning or final curtain.
The truth of the matter at the end of the day
Is that markets will make you humble.
Just when you think that it's time for a drink
They will turn and fortunes will crumble.

That free markets work to provide what we want
Is a notion that is not in dispute.
The problem is that once in awhile,
Markets overshoot.
Of course there is greed and there is a need
For moral hazard and rules.
You are damned if you do and damned if you don't.
To be "pure" is a game for fools.

Politicians, of course, are starting to shout
That they want more retribution.
It's better, I think, if they used their time
Helping to find a solution.

Welcome back, attention span!

So, my personal life jumped off a 20 story building, landed on concrete and exploded all over the f-ing place...I've been frustratingly distrait (widget word of the day!) for the past few weeks but have been regaining my attention span.  I decided to celebrate by reading old issues of The Economist that had been piling up and posts on my Google Reader.  Some things that I particularly liked (even though they're mostly from older issue of The Economist...):

"Ouch: Obama says he doesn't begrudge $17 m bonus on Wall St, quasi-defends bonuses. I begrudge 'em. http://bit.ly/aXX5E8 " [NickKristof tweet]

"The authors say that what is needed is not merely institutional tinkering but a different frame of mind. Governments, they say, should think more in terms of reducing risk and increasing resilience to shocks than about boosting sovereign power. This is because they think power may not be the best way for states to defend themselves against a new kind of threat: the sort that comes not from other states but networks of states and non-state actors, or from the unintended consequences of global flows of finance, technology and so on."
Milton Friedman, who, when monetarism was being mocked in the 1970s, replied "our basic function [is] to develop alternatives to existing policies, to keep them alive and available until the politically impossible becomes the politically inevitable." [The Economist - "A Needier Era"]

"The Volcker rule may have looked like a reaction to the Democrats' loss of a once-safe Senate seat in Massachusetts.  Insiders insist, however, that Mr. Geithner and Mr. Summers were not suddenly sidelined but gradually persuaded of the merits of limiting banks' activities." [The Economist - "New plan, new people?"]  (I think it's funny to imagine Larry Summers being gradually persuaded of something...or like, coaxed into saying, "Hey, yeah! You're totally right!")

With respect to the unintended consequences of past financial reforms...
"...capital, like water, tends to flow around obstacles.  Try to dam its movement at one point, and slowly but remorselessly it will find it's way around." [The Economist (Buttonwood) - "Not what they meant"]

"As many gardeners and farmers know, crossbreeding two wimpy specimens sometimes produces strong offspring - an effect known as hybrid vigour.  Hybrid vigour is common in plants and is found in some animals - though, some speculate, it may be lacking in European royalty." [The Economist - "Shelling Out"]  (Made me crave oysters)


"By separating our sample into boys and girls, our results also show that girls significantly benefit from interactions with very bright peers, whereas boys are negatively affected by a larger proportion of academically outstanding peers at school. We also find that the positive effect stemming from interactions with ”good” peers is more pronounced for female in the bottom part of the ability distribution. On the other hand, while not strongly significant, our results suggest that more able boys suffer from interacting with a larger fraction of outstanding schoolmates."
"At the other extreme, the most talented girls could gain more than 0.20 of a standard deviation from being educated in homogeneous environments." (Wellesley!)  [The good, the bad, and the average: Evidence of ability peer effects in schools]

Threat of Protectionism - Silly or Systemic?

I went to this lecture in January (by the way, where did January go?!) on rising protectionism in global trade.  The speakers were Simon Evenett and Ed Gresser with whom I have spoken about the KORUS FTA back when I was working at the Embassy. He was also a guest speaker at the WTO Academy here at GULC. (Blogged about him here before too. He's really nice and funny!) He is of the belief that the threat of protectionism is being exaggerated and that it is not systemic as many, including Simon Evenett, would suggest. Here is a brief outline of Simon's arguments and Ed's counterarguments.  After you read them, take the poll at the end!

Simon Evenett [CEPR, Co-Director in International Trade and Regional Economics] - Simon has taken part in initiating a Global Trade Alert which draws research from seven regions of the world.  Its goal is to present an objective view of the rise in protectionism during the economic crisis.  The full report can be found here.

• A WTO study showed that almost all major trading jurisdictions exceeded the normal four percent increase in tariff lines. Are these increases permanent?
• The current economic climate has precipitated a new mix of protectionist measures. Always question studies that look at only one form of protectionist measures because in order to truly understand that threat of protectionism, one must look at the entire mix of measures that are being implemented.
• About 1/7 (46 out of 332) of protectionist measures are tariffs.
• Ordinarily, in recession, the most popular form of protectionist measures is trade defense. This includes AD, CVD, safeguards, etc.  However, bailouts and subsidies now account for 136 out of 332 protectionist measures making them the most popular.  (Is anyone surprised?)
• Interestingly, (but maybe not surprisingly) less than half of these bailouts and subsidies apply to the financial sector; most apply to manufacturing. The sectoral incidence of protectionism has not changed. (The sectors that have traditionally been good at receiving protection continue to receive it)
• Even if the overall impact of new protectionist measures on trade is miniscule now, these measures may be difficult to remove in the long run and affect future trade activity. Congress seems to want to include Buy American provisions in more permanent bills.

Edward Gresser [Democratic Leadership Council, Senior Fellow and Director of Trade and Global Markets Project] - Ed presents a different view on the rise of protectionism in the midst of the economic crisis.  You can read his post about the fall of U.S. imports here.

• The decrease in imports is roughly parallel to the overall decrease in world trade.  The decrease may not necessarily be a good measure of the impact of protectionist policies.  Rather, it may simply reflect the fall in global demand.
• Last year, there were 34 cases of protectionism.  This figure is higher than those of 2005, 2006 and 2007 (~10-15), but still coincides with the long term average since 1979.
• Are bailouts and subsidies necessarily bad for trade?  Allowing the financial sector to fail would have likely been more harmful to trade than any combination of tariffs.
• People draw many parallels between now and the 1930s, but the mentality then was very different. In the 1930s there was a broad decision to move towards autarky and away from the global economy. That is not the case now. Countries are motivated to become more integrated in the global economy.
• There are factors outside of policy that work to liberalize trade. (Ex: cost of moving goods and information goes down every year)

Additional things to consider:

• GTA has not yet studied whether the increase in protectionist measures would be considered normal had there not been a financial crisis. (They still need to see how the financial bailouts/subsidies creates a bias in their results.)
• It is difficult to substantiate information regarding technical standards and regulatory interventions.
• How has FDI changed? How does this affect trade?
• Data on public procurement needs to be improved.  It is difficult to find how much of the decrease in imports was in the private or public sector.

Random Fact: When you google search GTA, you won't immediately find Global Trade Alert. You find Grand Theft Auto. Ha.

Austan Goolsbee on the Daily Show!

Austan Goolsbee was on the Daily Show last night!  Full episode here.  Some of you might remember him as the winner of "DC's Funniest Celebrity Contest."  Here!

He talked about the Volcker Rule.  WSJ has lots of videos on this (Volcker Rule vs. Basel Committee Proposals) Economics of Contempt responded.

Campus Progress quoted Jon Stewart on Students Over Banks!
"The idea of taking away the middle man in college loans would get us 46 billion dollars over 10 years- that, stunned me. That gets us more savings than removing subsidies from oil companies which I guess over 10 years is like 40 billion."

Sorry I haven't blogged in a while...last week was hectic because I was catching up on classwork and work work.  And I now have a roommate and a dog!

"Fear the Boom and Bust" a Hayek vs. Keynes Rap Anthem

Thanks for forwarding this to me, Professor Lucas!
My Wellesley Professors continue to enhance my life.

TAN/FAT.

Going to the Bahamas on a cruise with my fams.
I will return tanner and fatter. (although, I did pack sneakers and gym shorts so I could work out...)

Peace out, SUCKERS. HA.

The Economics of Relationships: Your Votes.

14 of you thought that Yes! Relationships are fun and cost-effective!
1 of you thought No! I'm not wasting my time on lemons!
12 of you thought Nams and I are insane.
2 of you are asexual.

Thanks for your feedback, and sorry for the delay in posting results!

Topic suggestions for next debate?

The Economics of Relationships: Counterpoint.

This is Nami, guestblogging in response to Esther's post on the economics of relationships.  Read our blog posts then take the 1 question survey below!  We'll post the results in a week!


You’re young, fresh out of college, with your entire future ahead of you.  New opportunities and possibilities abound.  No longer strapped to your academic core and concentration requirements, you’re free to pursue almost anything you want – except another boy.  Why?  Because you’re in a “relationship.”  Bah.

Now, I’m neither an economist nor an expert on relationships.  But, I am a new grad in a new city, with a new life and a new boyfriend (I’ll refer to him as A).  Our relationship has seen its share of ups & downs and the option of splitting has, in times of stress, fatigue, and annoyance (can we say Friday nights?), more than once entered our vocabulary.  I’m sure that the question of “Is this worth it?” has crossed our minds multiple times.


But, the answer thus far has always been yes.  Once the fights die down and the rage begins to dissipate, a fear settles in.  “What am I doing? I don’t want to break up!”  Panic hits me, a fist to the stomach.  I’ve acted and reacted in such a way many times, but I rarely stopped and thought about the question – Is this worth it?  Am I gaining as much as I should from this boyfriend?  Do the allowances of this relationship really outweigh its limitations?


As I stated earlier, I’m no economist.  But, Esther is.  She suggested that I research the following terms to better understand my situation, from an economic point of view:

• ·    Diminishing marginal returns
• ·    Opportunity cost
• ·    Sunk cost

Here’s my understanding of them:

• ·      Diminishing (marginal) returns: when you get progressively less as you put in more (in contrast to what you would expect).  Relationship example: Before A & I were anything 1^st person plural, I would get really happy when he called me.  Over time, he continues to call me – it still pleases me but I derive less and less happiness from each call. 
• ·      Opportunity cost: value of the next best choice, or basically, what you’re giving up.  Relationship example: One opportunity cost of having a boyfriend is freedom to see other boys.
• ·      Sunk cost: costs that have already incurred and you can’t get back – what you already gave up. Relationship example: We’ve been through too much; what a waste all our troubles were!  Even if I’m miserable now, I can’t just bail – I’m loss-averse!

Given her previous post and the terms she'd assigned me, I think we can all agree that she's not only an economist, but a Pessimist!  And it's true, these terms paint a pretty grim picture of love.  But, let’s take a closer look at how these terms can apply.  

Diminishing returns do indeed exist in dating – the 100^th kiss does not rival the 1^st.  Thinking about diminishing returns makes it seem as if you’re losing out in the end: I’m putting my love, patience, and time into this relationship…but why am I not getting the same high?  But, first of all, what you have to realize is: hey, you’re still getting some high!  You’re still gaining from the relationship, just not as much as in the beginning.  And this makes perfect sense.  The opposite of diminishing returns is accelerating returns.  For example, once a crush develops, every phone call and e-mail brings more and more excitement and pleasure.  You start dating and every moment you spend together seems better than the last.  OMG, this is perfect, you think, it can’t get any better!  Your returns are accelerating, your happiness is through the roof; 1^st kiss and you melt. 

but Warning: this may not last.  But, that’s not a bad thing!  Your returns start to even out, become constant, normalize.  This is good: people can stop regurgitating.

Second of all, you lose some, you win some.  While you lose some of the excitement and eustress over time, you gain consistency, reliability, dependability.  Boring?  Maybe.  But, definitely more satisfying in the long run.  The high dissipates but contentment and security take its place.  I now have a companion, a partner-in-crime.  The spectrum of sentiments I express widens – I can be angry, I can be a brat, I can be depressed, I can be annoying, and I know that he’ll understand, and vice versa.  

Now, with opportunity cost, things get more interesting.  Having a significant other has its perks, but it also has its drags.  Am I still the i-n-d-e-p-e-n-d-e-n-t woman that I was?  Sure, but less so.  What am I giving up by being with A?  Being the center of my own life.  There’s another party to consider now.  What do we both want to eat?  What do we want to do?  Another is romantic freedom: I’m not free to sow my wild oats!  I am not living the care-free, dating-around, everyone’s a potential hook-up kind of lifestyle.  Bound to monogamy: prison!  And last but not least, I may possibly be giving up The Perfect Boy, The One  – somewhere out there, my exact counterpart may be waiting for me, searching for me, but I’m nowhere to be found.  This relationship is a prison!  Free me from my chains, lovely captor!

But, wait.  We must consider the opportunity costs of being single or breaking up.  I mentioned some before (reliability, companionship, etc.), but there are more.  I lose a best friend, a listener, consistent plans, consistent physical relations, and freedom…from loneliness.  We’ll get into the actual financial costs and gains later.

Considering the role sunk costs play in all of this makes everything a lot more…serious.  Technically, if you’re a rational player – and I’d like to think of myself as quite practical and reasonable – you shouldn’t take sunk costs into consideration.  The example Wikipedia gives us is about buying tickets to a movie.  Let’s say you Fandango that shit and buy advance tickets to High School Musical 2. Then, you realize there’s no way you want to watch that – the reviews have been terrible and you don’t know what you were thinking.  Should you bail or go? The sunk cost is the price of the movie ticket.  If you stay, you’ve lost $9, your mental well-being, and your time.  If you bail, you still lose $9, but you’re mental state is intact and you can spend your time better elsewhere.  If you look at it that way, of course you should bail!  But more often than not, people stay.

So, maybe I’m not so rational.  I know I ought not consider sunk costs, but I do.  I order a big meal, it’s expensive, I get full after eating half of it.  But, what do I do?  I truck on and devour the entire dish, which leads to stomach pains, fat goggles, and world of regret.  Why do I do it?  Because I paid for that goddamn meal!

Right, so back to relationships.  Relationships aren’t easy; they require work and sacrifice.  The road to A & my relationship was rocky – distance and time differences aggravated tensions, resulting in countless arguments and resentment.  We worked through each and every one.  Sunk cost.  I moved to a new city, not for him, but it would be wrong to say he didn’t play a part in my decision-making.  Sunk cost.  How can we break up now?  After all we’ve been through, after all we’ve put into this mess?  Technically, if things are rough with A & me, I should consider only the future, ignore sunk costs, and break it off.  Eff this, A!...right? 

Not exactly.  Yes, a relationship is an investment, but it’s not a night at the movies.  A sunk cost in making a relationship work is nowhere near the same as $$ paid to watch Zach Efron.  With love, a cost can also be a gain – arguments can make your relationship stronger – and sunk costs are also history, and history is part of what holds relationships (friendships, family, romantic) together!  A shared history with your best friend is invaluable.  Sunk costs need not be the focus, but they should be considered to some extent!

I’m guessing you have a pretty good idea by now where I stand in terms of my relationship.  But, this wasn’t easy.  Weeks of field research have shaped my conclusions, during which A & I experienced the best and worst of our times together.  So, let’s scrap all this theoretical and romantic nonsense and get down to the numbers.  Is our decision to stay together a financially sound one?

FOOD & DRINK: Going out every weekend adds up.  When I was single, I usually went out (dinner + drinks) on Fridays and Saturdays.  Dinner was an affair and drinks were expensive.  There was pressure to go out hard and spend the money to do so.  And if you're a guy, you can expect to spend even more -- impressing your dates with fancy dinners at fancier restaurants, buying rounds of drinks for the ladies you're trying to bed.  Once you're in a relationship, standards begin to change.  A fun night can just meet a night in, cooking dinner and watching something on Hulu.  Lame?  Maybe.  Affordable?  Heck yes.  Cruising for potential mates costs money, and by money, I mean alcohol.  People like to loosen up with liquor and unless you limit yourself to happy hours, drinks can get expensive.  BFs and GFs sort of eliminate the need to booze up.  Alcohol doesn't loosen you up, then, it just makes you sleepy.

Maybe I've just become lamer, more boring.  Maybe I've imprisoned myself, allowing hundreds of potential mates slip past me.  Maybe I'll find myself at age 42, stuck in a loveless marriage full of resentment and discontent.  Perhaps.  But for the meantime?-- at least, I'm saving a shit ton of money.

The Economics of Relationships

My parents have been bothering me a lot about getting married.  I'm offended that they're so eager to get rid of me.  However, it did make me think about my aversion to relationships.  It made me wonder why certain people find relationships so appealing…


Does anyone else think that it’s kind of unhealthy to be attached to any one person in the world?  The first thing we learn when making investments is diversification!  Relationships are like investments.  Your closest friends and the people you love the most are like stocks – high returns, high volatility (b/c they are the ones who affect your emotions the most).  Your 2nd tier friends are like bonds – low volatility and low returns.  Your frienemies are like cash – zero nominal returns, negative real returns, but you keep them around just in case…
How can you possibly place so much trust in ONE person?  That’s like putting all of your retirement money in Enron stock...OOPS.


I once told a boy that I couldn’t date him because my utility of expected value exceeded expected utility. In other words, I am risk averse.  I know that I can achieve a certain amount of happiness when I’m single, but when I’m in a relationship, it’s a gamble.  But I’m sure my utility function will change once I turn 30?  Or 40?  (I hear 40’s the new 30…)


Also, George Akerlof’s Market for Lemons paper has so many levels…
In his paper, George Akerlof explains how market failure occurs because of asymmetric information.  In the used car market, a seller has good used cars and bad used cars, aka “lemons.” The seller knows which cars are lemons, but the buyer does not.  Therefore, the buyer is only willing to pay the price for an average quality car.  Since the seller cannot receive a fair price for the good cars, the seller will resort to selling only “lemons.” Thus, “the bad drives out the good.” 
It’s the same with men.  I’m assuming that most douchebags know that they’re douchebags.  But it’s not like they’re going to go around broadcasting it.  Even the seemingly nice ones can turn out to be complete a-holes.  Therefore, I am only willing to invest so much in my relationships because there’s a pretty good chance that I am in fact, dating a lemon. 


However, my friend Evelyne points out that as we get older, there will likely be more “lemons”  in the market because all of the good guys will already be taken.  My mother also argues that it is the girl’s responsibility to turn a bad guy (because all guys are naturally bad, of course) into a good guy – take lemons and make lemonade?

Basically, I don’t want lemonade enough to look for a “good lemon.” Or maybe I don’t have the patience to squeeze lemons until I find good lemonade.  


What’s the point?  


It’s only a matter of time before the principle of diminishing returns kicks in and we get tired of each other.  Someone told me that human beings are only made to be “in love” for two years at a time.  That’s fine.  Boyfriends, and future husband, I accept that you may not love me “until death do us part.” All I ask is that you not make a COMPLETE fool out of me the way Tiger did with his wife.


It's a crapshoot, friends.  In general, the romantics will be disappointed and the pessimists will be pleasantly surprised.  I suppose that’s what we would call mean reversion in standpoint…

Bernanke's Life in Photos

From my friend XYN's blog! [tumbled from Time]

Also from Time, a brief history of the Fed. [in pictures!]

Holly and Reindeer.

Is It Christmas?!

Tried to get my puppy, Holly, to pose as a reindeer.  She was not cooperating...
And yes, that is my moose hat from Alaska (thanks nams!) which I wore around Wellesley b/c it literally feels like a warm animal is sitting on your head.

Mishkin and Monetary Policy.

According to the International Economic Law and Policy Blog, if Santa were party to the WTO he would be charged with "dumping, not to mention violating IP rules, destroying the environment, using genetically modified reindeer and abusing his labor."

Ha.

So, I just finished reading an NBER paper titled, "The Channels of Monetary Transmission: Lessons for Monetary Policy" by Frederic S. Mishkin (author of my ECON 321 - Money and Banking textbook!) I found it on Akila's homepage and thought it would be fun to read.  It was written in 1996, but seems relevant to today's economy, no

Before I talk about the paper, I thought it would be good to review IS-LM curves!  Also, throughout this blog post remember that Y = C+I+G+NX.  (output = consumption + investment + government spending + net exports)

[picture from the Economist]

LM stands for liquidity-money.  And if there's one thing I learned from Professor Johnson, it is that IS-LM curves are NOT supply and demand curves.  They're equilibrium loci!  IS is the equilibrium locus of points at which the market for goods and services is cleared in the short run.  Example: at r1 and Y1, the market for goods and services is cleared.

LM is an equilibrium locus of points for which money supply equals money demand.  Example: at r3 and Y3, the money demanded in an economy equals the money supplied in that economy. 

Okay, Mishkin's paper!
Mishkin starts out by explaining the principle of traditional expansionary monetary policy:

Money supply [M] increases leading to a decrease in real interest rates [r].  This stimulates investment spending [I] and leads to an increase in aggregate demand [AD] and output [Y].
M increases --> r decreases --> I increases --> Y increases.

If you're looking at IS-LM curves, the LM curve is shifting to the right.  Because in order for demand to match the increased supply of money, interest rates must be lower for any given level of output/income [Y].

So what happens when money supply increases SO much such that nominal interest rates reach zero? (hrm...sound familiar?!) 
Spending is actually affected by real interests rates rather than nominal interest rates.  So, during times of expansionary monetary policy, expected price level [P^e] and expected inflation levels [π^e] rise.  Given the Fisher equation, r = i − π, we can say that this increased expected inflation will lower the r and stimulate I leading to an increase in AD and Y.
M increases --> P^e increases --> π^e increases --> r decreases --> I increases --> Y increases.


Mishkin says that "this mechanism is a key element in monetarist discussions of why the U.S. was not stuck in a liquidity trap during the Great Depression and why expansionary monetary policy could have prevented the sharp decline in output during this period."

Mishkin points out that interest rate channels are not the only way through which monetary policy can promote growth.  There is also the exchange rate channel, equity price channels and credit channels.

Exchange Rate Channel
When money supply increases, real interest rates fall.  This means that the return on dollar denominated deposits will be relatively less than that on foreign exchange denominated deposits.  Thus, demand for the dollar will fall and the exchange rate (E) will reflect depreciation.  Depreciation isn't always a bad thing though.  If the value of the dollar falls, American goods become relatively cheaper than foreign goods.  This boosts net exports (NX) which boosts output (Y).
M increases --> r decreases --> E decreases --> NX increases --> Y increases.


Equity Price Channels
1) Tobin's q theory of investment:  "q" --> the market value of firms divided by the replacement cost of capital.  The higher q is, the cheaper it is (relatively) for firms to buy new plant and equipment capital.  Fixed investment rises as q rises.
Since higher equity prices (P^e) will lead to higher q, we can say that:
M increases --> higher P^e --> higher q --> I increases --> Y increases.

2) Wealth effects:  Remember Y = C+I+G+NX?  Well, one of the determinants of C is the value of one's financial wealth.  When stock prices rise, C is likely to rise as well.
M increases --> P^e increases --> wealth increases --> C increases --> Y increases.

1 & 2 apply to housing and land prices channels as well since housing and land also determine one's wealth.

Credit Channels:
"There are two basic channels of monetary transmission that arise as a result of information problems in credit markets:"
1) The bank lending channel:  Expansionary monetary policy increases bank reserves and bank deposits thus allowing them to make more loans available to firms.
M increases --> bank deposits increase --> bank loans increase --> I increases --> Y increases.

Clearly, this does not always happen.  The Economist recently wrote about the difficulties that small firms face during recession.  Small firms rely on banks for about 90% of their financing needs while larger firms rely on banks for only about 30% of their financing needs.

2) Balance sheet channels: 
When firms have lower net worth, there tend to be more adverse selection and moral hazard problems in lending to these firms.  Businesses with lower net worth don't have as much collateral to put down for their loans (banks are more likely to suffer losses).  Owners of such businesses also have lower equity stake in their firms and are willing to take greater risks with investment projects, etc.  (moral hazard)
Thus, when M increases and P^e (net worth of firms) increases --> adverse selection/moral hazard decrease --> lending increases --> I increases --> Y increases.

Increased M and decreased nominal interest rates (i) also raises cash flow of firms which improves their balance sheets.
M increases --> i decreases --> cash flow increases --> adverse selection/moral hazard decrease --> lending increases --> I and Y increase.

An unanticipated rise in price level also improves balances sheets by raising the real value of firms' assets.  Since burden of debt is dictated by nominal interest rates, an unexpected rise in price level lowers burden of debt.  (Lenders don't like inflation, debtors like inflation)
Therefore, an unexpected rise in price level raises real net worth of firms, lowering adverse selection and moral hazard problems and stimulating I and Y as mentioned above.

M increases --> unanticipated P increases --> adverse selection/moral hazard decrease --> lending increases --> I and Y increase. 

Household balance sheet effects:
This one's pretty straightforward...if households expect themselves to be in financial distress in the near future, they don't want to invest in illiquid consumer durable or housing assets.  
However, if they expect the value of their financial assets to rise, they will be willing to buy a new house or car, etc.
M increases --> P^e increases --> financial assets increase --> likelihood of financial distress decreases --> consumer durable and housing expenditure increase --> Y increases.

Okay, so this blogpost is pretty monstrous.  I'll just bullet point a few important things from the rest of Mishkin's paper:

• Monetary policy affects Y through other asset prices besides interest rates.
• Near zero short-term interest rates do not necessarily mean that monetary policy is easy if economy is undergoing deflation.  (ex: short-term interest rates during Great Depression were near zero, but monetary policy was contractionary)
• If short-term interest rates are near zero but stock Ps are low, land prices are low and value of domestic currency is high, then monetary policy is very tight and not easy.
• "Avoiding unanticipated fluctuations in the price level is an important objective of monetary policy, thus providing a rationale for price stability as the primary long-run goal for monetary policy." 

So, basically, when I started writing this blog post, I just wrote out the things that are bolded and in green so I wouldn't forget what I had read in Mishkin's paper.  It turned out to be a pretty incoherent blogpost, so I started adding more and more details...

If you're still reading, pat yourself on the back.


Happy Christmas Eve!

Answers to Crossword #4!

Across:
3) five
5) four
6) progressive
8) treasury
10) expensive
12) dubai
14) inflation

Down:
1) discouraged
2) somalia
4) emerging
7) obesity
9) median
11) spending
13) upward

Pauls.

Paul Krugman talks about Paul Samuelson here.
Boo.  Hate it when smart people die.

Sorry for the delay on crossword. Will post new one with answers to old one soonish!

All's Fair in Love and War?

A post from The Economist blog Free Exchange from Democracy in America.

"A BIG hat tip to my colleague at Democracy in America for highlighting this factoid, from Spencer Ackerman:

According to Gen. McChrystal, the Taliban pays its soldiers about $300 U.S. per month—which is more than the U.S.-sponsored Afghan government does... McChrystal said that in coordination with the Afghan government, the pay scale for the Afghan security forces has just almost doubled, to the point where it’s "almost at parity" with the Taliban now. Of course, that still means the Taliban pays its recruits more than the Afghan government does. And if the Obama administration and NATO are correct that many Taliban foot soldiers essentially fight because of economic opportunity, then this is a glaring, flashing red light of a problem.

Matt Yglesias follows up with relevant thoughts:

At the same time, this highlights a lot of lingering issues about the cost-effectiveness of our approach. Why are we spending a multiple of Afghanistan’s total GDP on fighting a war in the country? Couldn’t more be done, for cheaper, with cash for bribes and development? How is it that it doesn’t take the Taliban years to train competent soldiers?

The concept of a sunk cost really doesn't seem to have penetrated the intellectual sphere of military policymakers."

HA.

Speaking of sunk cost, this is for my friends who are in less than ideal relationships:

If you're in a sh*tty relationship that's been sh*tty for a while and you're thinking, oh but I should just stay in it because I've already given up so much to be with this person blah blah blah, mission abort! Sunk cost! Do you want to add opportunity cost to your list too?! You're young! Go find someone else who will make you happier! (divorce in my future? hope not.)

My heart bleeds for the filthy rich.

From the Economist: The rich tax themselves to stay rich.  Interesting.

Buttonwood tackles the issue of banker bonuses.  As does Richard Murphy.

I am very bitter about the finance industry.  In college, I thought that I would lose my friends to their significant others.  But it looks like I've lost many of them to banks instead...boo.  When people ask my friend if she has a boyfriend her response is, "Yes.  His name is Deutsche Bank."  Sad.

In a gchat conversation today:
----: we better getting bonuses this year or else i legit have mcd's hrly wages

Haha.

Will post answers to Crossword #4 on Friday when I put up a new crossword!

Extra: Great visualization of income inequality in NYC here.

Beautiful Redemption.

Performance by my favorite person in the world, my younger sister, Serena!

She is amazing because 1) she doesn't have any formal vocal training (well, she took a lesson or two back in h.s. but didn't really have time for it...) and 2) if you've EVER heard me sing, you know that vocal talent does not run in the Jang family...