Are economists as dopey as they seem?

Is it just the ones in the media who are dopey? We’ve been in real recession for months if you were to believe the commentators. It’s just the real hard data, the evidence such as US growth and employment figures.
Economists who use economic terms as throw away lines don’t deserve the money someone is paying them to make these erroneous statements.

Fred:

Just explain to him that the problems we may be experiencing now are the result of past policy blunders by the RBA for keeping rates far too low for too long in the earlier part of the decade.

Explain to him the interest rate targeting based on the CPI is beginning to fall apart and that we may need a new monetary order over the next decade as this one isn’t working.

Explain to him that rent rises are not necessarily an inflationary signal as it could also be the price mechanism doing its work to attract new supply.

Tell all this and he ought to do fine.

Yes JC, wouldn’t we Austrian fans all love an uncensored FOI transcript from our new open Govt, outlining word for word what Treasury, Finance and the Reseve’s advice to Swan was, as to why he can’t spend all that lovely money surplus right now.

While we’re waiting for someone smart to show up, here are my thoughts.

I tried to answer Question 1 in a pretty lengthy post a few weeks ago. Ask your grandson to draw an AS-AD diagram, with the two short run schedules intersecting on the vertical long-run supply schedule. Then move the long-run schedule to the left, ask him what will happen, and what the appropriate policy response is.

With Question 2 everything depends on what we mean by housing boom. If the relative price of accommodation is rising on account of microeconomic fundamentals — the income-elastic demand for accommodation and the absolute scarcity of land — then it’s just a fact of life. On the other hand, if easy credit has caused a bubble in real estate or assets generally, this needs to be burst sooner rather than later, even if some new fixed capital expenditure is delayed a little as a result.

As for Question 3, I think it’s clear that we’re living in age of surplus fetish, and rational arguments are doomed to be drowned out by fatuous slogans until the obsession dies.

I put it to you St Loyd, and I’d bet London to a brick that all Treasury, Finance and the Reserve’s advice to Swan now is not to spend the ‘funny money’ surplus he has at hand right now and the future estimated surplus which he will announce next week. That’s because it’s not real savings but monopoly money backed by nothing of any real value. That’s the Austrian line and they’re all singing it now as Swan’s rhetoric attests and any MSM’s FOI request to verify it would be laughed out of Canberra, as well as any direct question to Swan to verify, ducked and dodged. If you believe those overfed suits in the Reserve can set a market economy’s risk premium to forgo current consumption, why aren’t the banks listening to these gurus anymore? They got away with rolling the printing presses for a decade or more, simply because of changed demographics that staved off the inevitable consequences of what they were doing. When they rolled the printing presses in the early 70s, a young demographic inflated prices with it immediately. This time round, that same demographic used it to try and build wealth for their retirement, inflating asset prices until the music stopped and there wasn’t enough chairs (real goods)to go round. That’s why they’re hell bent on buying commodities or access to commodity streams in future right now. That is if they can beat the Chinese SWFs, etc to them. The world is fast waking up to CB’s international ponzi scheme and their funny money. They can’t turn it into real commodities (ie commodity money) fast enough now.

Steve Keen pops up on TV now and then. He pointed out (2) some time ago (on SBS news I think) by saying that there was a positive feedback loop:

* RBA lifts interest rates in order to control inflation.

* Rising interest rates push up margin at which people can afford to borrow to buy a house.

* Some are be kicked out of the house that they had bought on credit while others are unable to buy the house they were intending to buy

* Either way, the rental market sees a surge of more buyers and thus rental prices go up.

* Rising rents go into the RBA “basket of goods” calculation of inflation and the loop is complete.

Eventually the rising rents will trigger more investment, but that takes a long time in the housing market. Anyone familiar with positive feedback knows that it gets out of control much faster than you can react to it. The main factor slowing down the overreaction is that the RBA was limiting itself to no more than a quarter percent at each step and they were going nice and slow with the steps. This just says to me that they really didn’t know what value interest rates should be but they knew that if they kept pushing it up then something would happen.

My feeling is that for a small country like Australia, we should just use the currency value to set the interest rate. Make a three monthly average of our currency against our major trading partners then if we find ourselves trending downwards then nudge the interest rate up a bit, if we are trending upwards then nudge the interest rates down a bit. Don’t try to track all the currency jumps (they are too fast) just react gently and keep the dollar in a predictable ballpark. Admittedly, this depends on the majority of other currencies being stable.

I’m not promoting a fixed currency. All the day to day jitters of a floating currency would still occur, the official interest rates would only change by a small step every 3 months. Indeed, the floating currency would be used as an indicator as to which way interest rates should move (and at the end of the day, it would still require some human common sense rather than blind application of a formula).

All I’m suggesting is that interest rates should be used as a tool to maintain reasonable long-term (year to year) stability between our currency and our top trading partners. If our trading partners start diverging from each other then we try to balance that divergence to minimise the shock in any particular direction. The idea in general is to provide a moderately stable and predictable environment for business to work in, not to actually peg the currency at any particular value.

The Panama situation seems a bit too dependent on the US dollar, let’s see how they hold up now the USD is taking a steady downward slide. I guess they are flexible enough to just slip across to an alternative defacto standard (probably Euros, and I suppose their local market can make that decision). When a bank goes under in Panama, all the people putting money into that bank lose their savings so in effect they are all shareholders (even if not treated as such), I wonder how much say they get in the bank’s investment policies (or even how much visibility they are offered). Sounds like a con-man’s paradise.

A surge of buyers of rental accommodation adds how many houses to the stock of housing? This does what to owner occupied housing?

In the short term, the stock of available housing simply does not change. If owner occupiers see falling prices for the sale of a house (due to the glut of forced mortgage sales) plus rising prices for rents then they will hold tight. Those who are in rent, and have the spare money, and get temped by falling land prices will try to become owner occupiers… but this takes time, and many people can’t manage the jump so the number of owner occupiers will (slowly) increase.

You would think that the banks getting repossession of a property would turn it around and put it onto the rental market as quick as possible (even make an offer to rent to the previous owner) but banks seem only geared up for property sale, and any sale is a slow sale. Even at auction you need at least six weeks of inspections followed by six weeks of settlement. There’s probably a niche for a company buying these properties right now and managing them for rent to sell at a profit later when prices rise again — but you can’t build a company like this in an afternoon, and you would need investment in a time of high interest and a very fickle stock market. Lots of properties get passed in at auction because the owners are unwilling to take the loss, so they simply refuse to sell until the market gets better. Houses are sitting empty after going through several failed auction attempts (I bought one recently, and I’m watching out of interest to see how long a few of the others that I didn’t buy will sit around). Is this “rational economic man”? Probably not, but there’s this belief that property can’t go backwards.

In the supply side of housing I’m not really an expert, but Australia does have lots of available land… I’ve seen google maps and I’ve taken some long drives, this is a big country. We have artificially high standards for housing because councils insist in creating huge numbers of regulations. There’s also strict regulations about who is allowed to build, who can do the wiring, who can do the gas, etc.

The regulations do produce better houses but they also drive up supply side costs. I guess that if you really let the free market take hold then you would get out of town slum-grade housing that at least would give people a cheap fallback and soak up the market shocks. On the other hand, there’s a lot of opposition to allowing that sort of thing. In earlier centuries it used to be common to have worker’s cottages nearby any luxury mansion because the mansion owners actually needed workers. These days we have one whole suburb of mansions and far away another suburb of workers to service the rich, there’s something inorganic about that design which bothers me but it does seem to be what most people want.

NPOV,

Taxes are part of the reason why houses don’t get built, and people can’t afford to buy homes and struggle with their rents.

There are a few ways slums develop: no property rights so owners don’t waste money on houses that can get arbitrarily knocked down, general poverty that restricts purchasing power, poorly maintained Government “projects” or a lack of incentive through institutional factors to redevelop land.

Increasing the supply of land or reducing taxes doesn’t create slums.

Tel,

It sounds like a crawling peg to me. Such monetary systems are vulnerable to arbitrage. I don’t know how you would stop this. Exchnage rates are dependent on differntials so you would be vulnerable to beggar thy neighbour policies as well. If the US dollar dropped 50% on a trade weigthed index, we would have to have a monetary contraction in proportion to this and our level of trade. In this respect, like a fixed rate or a peg, we lose monetary policy independence. Virtually all importers or exporters can hedge against currency prices and a global market means that as long as monetary policy is austere, there will always be cheaper competitors to buy goods from if another currency appreciates too much. The Panamanians don’t actually rely on the US dollar, they rely on dollarisation. Their market determines what currency is used.

Deposit insurance is generally bad. Australia has less than the United States and has had less catastrophic failures – none since Federation. The savings and loans crisis is blamed mostly on deposit insurances, as is the failure of the Japanese banks. Note Panama’s growth rates well above global and OECD benchmarks – closer to Chinese growth rates in the last two decades. You cannot sustain growth like this with fraud and cheating. Such a liberalised, unbacked banking system creates incentives for stricter lending practices and oversight.

The answer to what happens is not much – we agree. Not much because the supply side is impotent. There too is a belief that property can’t go down – this is untrue. See the property prices during the great depression. It is rational though, people can only act on the information they have. Ignorance does not mean you are irrational. No one can possibly be fully informed about all economic decisions they make.

You are right about the regulations. I can’t see a free market building slums because of competition and the fact that most slums in Australia are or were at one time, housing commission homes. We have strong property rights so there is the problem of never building anything adequete because it can get knocked down tomorrow like much of South America. You would only build slums if you wanted to go broke in a free market for housing. Buyers could look elsewhere and the demolition costs would take away from your sale price and others could easily build something better over the top of it.

Tel says:

My feeling is that for a small country like Australia, we should just use the currency value to set the interest rate. Make a three monthly average of our currency against our major trading partners then if we find ourselves trending downwards then nudge the interest rate up a bit, if we are trending upwards then nudge the interest rates down a bit. Dont try to track all the currency jumps (they are too fast) just react gently and keep the dollar in a predictable ballpark. Admittedly, this depends on the majority of other currencies being stable.

Yea, we could that that, Tel, but people would make a fortune through arbitrage. You would find that interest rates would become very volatile.

I actually think we should be headed towards a world currency at some some stage over the next 50 years.

We had a world currency before at times. It was called the gold standard and individual currencies were basically a different measure of gold.

I don’t think we will ever see gold as a currency again.

However it doesn’t mean we can’t eventually move toward an international currency and it wouldn’t necessarily have to breach libertarian values. You don’t require a world government to have a global currency unit.

I would prefer to see private currencies develop, but it doesn’t look as though it would be probable.

“Futhermore it is not a good policy to socialise production”

Says who. We socialise the production of many things. Socialised production of housing works is pretty common in most wealthy countries.

I’m not implying that the main reason for slums in Caracas is less building regulations – though undoubtedly if it did have regulations such as we take for granted here, the government would have little choice but to put enormous amounts of money towards better housing. However for all Chavez’s talk about socialism, there seems to be a fairly limited amount of it actually going on, compared to most developed nations.

FWIW, the GDP per capita in Venezuela is $7200 USD, which if the Australian economy has been growing at about 2.5% per year, is about what our GDP per capita was 60 or so years ago, in 1947. We did not have that sort of poverty in 1947.

“Says who. We socialise the production of many things. Socialised production of housing works is pretty common in most wealthy countries.”

No. It is a bad idea. Why not socialise food?

It is ironic that you complain about slums but want more of the form of housing which sees the most social problems and lack of maitenance.

Arrow and Debreu found a result of general equilibrium modelling, the most efficient form of Government intervention was indirect flat taxes and lump sum direct cash trasnfers. This is basically a corollary of the second theorem of welfare economics.

Such a policy isn’t perfect. But all others are second best.

“We did not have that sort of poverty in 1947.”

But the situation with their housing is unique, we’ve had Torrens title since the 1880s, they have never had clear property rights over their title, even with a similar income they have a lower standard of living. This is because we never had such an environment which was so unfriendly to housing development in 1947.

“But if it means setting aside an amount of funding raised from general revenue to subsidise the production of housing for those that cant afford it, I dont see a problem.”

Just give them cash. People who can’t manage money well will still not manage money well with less income. This isn’t a reason to disadvantage everyone else.

Yes it is to a degree. But look at the reforms to the NZ farming industry – the doom and gloom prognosticators were dead wrong. They are more productive than ever.

The evidence is the second theorem of welfare economics.

Your counter argument is that expect frail humanity to elect a Government of humans without the same flaws. They can’t do it on their own but they can elect someone else to do it and do it well. You don’t see a problem with this reasoning?

Many people put up similar arguments against free enterprise and strong civil liberties. They think people can’t act in their own interests within rules but they can do so in electing a Government who will rule in their best interests. No explanation is given about the political system, median voters and the amazing gift of rationality given to electors, the process and the same politicans drawn from the apparently very unintelligent pool of society.

How will the politicians and boffins have the information to make the right decisions? No one has the right information to make the correct decisions for themselves 100% of the time, so how do they know about everyone else? Information has a cost. Perfect information has infinite costs. A conditional welfare system which would benefit a small proportion of welfare recipients would have very high costs for the small benefit. Perhaps it would have a net cost alone ( I suspect it would be less attractive than direct transfers either way).

Conditional welfare is less utilitarian, serves the good of less people and is a second best alternative. Can you think of a conditional welfare system that is so well designed that the inflexibility it has will mean the small benefits it has to a few outweigh the advantages to others who get genuinely alleviated of poverty through the transfer payments in a more productive econonomy and who are ore upwardly mobile?

You would need perfect information for such a marginal benefit. Unfortunately, conditionality of welfare plays into the envious motives people have for calling for welfare reform. It doesn’t help overall. The only real problem would be churn of a totally unrestricted welfare system.

Both a) and b) are answered in the affirmative. Go through the metrics, the result is the same.

Socialism is inefficient, price controls create shortages and conditional welfare is inflexible and requires perfect information to be administered in such a way it would have benefits.

A compromise could be made, voluntary conditional welfare which you can get off if you get someone like a trustee to sign off that you don’t need it.

Mark – yes, I can just see Kevin Rudd feeding his dole cheque into pokies machines week after week, or Julia Gillard using hers to feed her heroin habit.

Patrick, rather depends what you mean by “successful” and “socialised production”, doesn’t it? But given pretty much every developed nation in the word provides some form of public housing to its citizens, and has done for a good part of a century now, I’m not sure how you can argue that it’s generally unsuccessful.

I’d certainly agree that the regulation over electrical work in Australia is overkill, and almost certainly leads to people leaving things that really need fixing but are too expensive and/or complicated to do so. I’m fairly sure other countries don’t have such draconian rules. I would’ve thought the easiest approach was to make sure that all dangerous electric wiring was only accessible via use of a tool that only registered electricians could legally obtain, then accept that registered electricians know what they’re doing and leave them to their own devices. Of course a few will inevitable fall into the hands of non-electricians but it should be enough to stop most of the idiots who think they can work out how to rewire their houses on their own.

Im not sure how you can argue that its generally unsuccessful.

What if I argued that it is generally associated with class segregation, crime, poor educational outcomes, and so on? Doesn’t sound like success to me.

Patrick, association is not causation. The alternative may well be far worse.
As I undersand it, half of Hong Kong’s population lives in public housing, and while HK definitely has problems with poverty that don’t exist here, it certainly doesn’t affect 50% of the population.

No-one in HK owns their own land. Very people have “houses” as such, but many own their own apartments or units.

Much of the housing in HK is, AFAIK, public housing just as council flats are here.

And absolutely I accept that many alternatives to publicly provided housing may be far better. But what such alternatives are you putting forth, and what evidence is there that they can actually help alleviate the problems of class segregration, crime etc. etc.?

Tel, interestingly enough I’d say Australian housing is far more diverse than in many parts of the world. Been to New England? Virtually every house is identical. I’m not sure how many support regulation purely because they want houses to all look the same.

The barrios of Caracas, which I’ve witnessed with my own eyes, are a safety nightmare. Something like 30,000 were killed in mudslide not that long ago, because the houses have no foundations at all. If Chavez really cared about the poor, he’d insist of regulations that ensured such houses were built properly, and provide the money to do so.

The barrios of Caracas, which Ive witnessed with my own eyes, are a safety nightmare. Something like 30,000 were killed in mudslide …

Plenty were killed in Japan during the Kobe earthquake when buildings fell down, and they do have strict building codes and were built by private companies not government welfare. Corruption and sly trading ensured that many of those codes were not followed.

Yea, we could that that, Tel, but people would make a fortune through arbitrage. You would find that interest rates would become very volatile.

Presumably the people making a fortune would be transferring wealth from some other people who are losing a fortune (after all, the money must come from somewhere and everyone can’t make a fortune). They can’t collect on any government money, because I provide no mechanism for government to make any currency trades. Given that all the currency traders in the market have equal rights to buy and sell with the party of their choice at a mutually agreeable price, what conditions would select the winners from the losers? Let’s presume for a moment that we all believe that the principle of market equilibrium does function as advertised, why would it not function under my proposal?

Even if we are unwilling to accept that a market equilibrium can ever be reached, why does my system make the currency market substantially more unfair than our present-day situation?

I’m perfectly happy with a hard limit on the rate of change for RBA interest rates. I would say that every three months they could make a maximum shift of half a percent either direction, with the normal case being a quarter percent every three months. We are talking about LONG TERM stability as the target here, so forcing a slow rate of change is desirable.

Patrick, if Venezuela is about as wealthy as Australia was 60 or 70 years ago, I don’t see why it should require “stealing” to ensure that enough money is spent to give its poorest citizens the same standard of living Australia’s poorest had that long ago. Unfortunately Chavez seems to be so ideologically opposed to capitalism that he’s squandering various opportunities for Venezuela to dramatically improve its wealth.

Tel, an earthquake is surely more difficult to withstand than a mudslide. And it was “only” 6000 people killed, out of an affected population of over a million. The mudslide in Venezueula pretty much wiped out everything and everybody in the area (it left 85,000 homeless on top of the 30,000 killed). Today, they’re still building shanty towns there, and its bound to happen again.

“Having said that, clearly there are a significant number of Australians who believe that building standards SHOULD be kept high.”

I think these people are well intentioned but probably wrong. The general level of prosperity determines housing conditions for most people and insurance can impose a more flexible system of standards and code. Having standards isn’t necessarily a bad idea – but their inflexibility and the possibility of rent seeking can make them burdensome. Insurance mandated standards would be flexible and be less subject to rent seeking and require more effort to be circumvented. We already have insurance – let it take the dominant role.

NPOV – You want regulation but admit that corruption is a problem. They can never be assured of a good legal system and certainty in land simply because of the inadequecy and complexity of legal title there. There is simply no incentive to build anything worthwhile as it may get knocked down tomorrow. No investor wants to touch that let alone an owner occupier. This lack of property rights is a problem all through South America.

“Even if we are unwilling to accept that a market equilibrium can ever be reached, why does my system make the currency market substantially more unfair than our present-day situation?”

You need to look at the EMS crawling band. If you want this to go to equilibrium (and it will, financial markets are very efficient) but you want the Government have set prices or quantities on the exchange rate? The central bank will effectively be giving seingorage to currency traders when other currencies move.

Slow change in monetary policy is achievable without such drastic measures. You only need to make the long term inflation target lower and more important.

Tel – people need more than boots, overalls and Governemnt run kitchens. No one in Australia is starving. The welfare system can be improved. How will supplying three goods through tender help when welfare recipients are already to free to spend their incomes on anything they require in a global market? We would have an abundance of cheap food and clothing & footwear if we dumped tariffs on agriculture and textiles, clothing and footwear. You’re suggesting something close to industry policy which can have the same results as a tariff or a quota.

People on welfare need more than these items and everyone else doesn’t need them.

You need to look at the EMS crawling band. If you want this to go to equilibrium (and it will, financial markets are very efficient) but you want the Government have set prices or quantities on the exchange rate? The central bank will effectively be giving seingorage to currency traders when other currencies move.

I’ve said it many times but I’ll say it once again, I made no provision for the central bank to participate in the currency trade so it simply cannot give money. The only proposal I made is that the central bank adjust interest rates by a different target function. How does the money leave the central bank and get to the currency traders?

people need more than boots, overalls and Governemnt run kitchens.

Yes they do, these were merely examples to illustrate the basic concept of non-financial direct welfare, not intended to be an exhaustive list. You can re-apply the general principle to various other items until you have a reasonable package for people at the bottom of the social ladder, but typing the complete inventory would make my fingers tired.

No one in Australia is starving.

A group calling themselves “foodbank” take grocery items that are below par and not profitable for sale (they are sponsored by a large number of the major grocery labels) and they redistribute this to smaller charity groups who in turn get it into the community (direct non-financial welfare). I don’t know what selection criteria they employ for distribution. The Foodbank website does not contain many details, maybe some of the information is considered sensitive. The Kellogs website claims:

Foodbank aims to ensure that surplus food, donated by the food and grocery industry, is made accessible to welfare agencies for distribution to people in need.

Foodbanks across Australia provide food to over 1500 welfare agencies. Last year Foodbank distributed 10 million kgs of food, which fed 30 000 people a day thats 12 million meals a year!

Kellogg is committed to assisting Foodbank and last year donated over 100 tonnes of cereal and convenience food to Foodbank.

By my count 12M meals is 16k people eating two meals a day who presumably would go hungry without this support. It might be providing one meal a day for 32k people and they catch up the rest themselves. At any rate, more Australians than you think depend on direct food handouts. Yes, Foodbank is a private NFP with donations coming from both government and industry.

As an aside, I’ll just take this opportunity to say how very bad the official federal budget web page is. Never have I seen a breakdown so badly presented with payable and receivable arbitrarily mixed, zig-zag jumps between the delta figures (change since last year) and the actual figures, no consistent topical layout and impossible to cross total anything anywhere to reconcile against anything.

Here’s the only bit I found useful: http://www.budget.gov.au//2008-09/content/overview/html/overview_40.htm

So the federal government (somewhere this figure popped up, can’t find it now) provides direct financial welfare to 1 in 10 Australians or 2M people. That costs $100G (from the above budget pie which averages down to $50k per person (roughly the average wage). I have no idea exactly where the $100G goes, the budget is too confusingly laid out, hopefully some of that money does get to the people on welfare, and hopefully they spend it on something useful… still there are tens of thousands of people needing food handouts.

Let’s presume that the Foodbank meals have a market value of $15 each, then 12M meals would be equivalent to $180M and that probably helps approx 16k people, averaging down to $11k per person in equivalent value. However, Foodbank’s total actual cost is far less than the $180M market equivalent. That’s because it uses material that was going the be thrown away anyhow and the big grocery chains know that they are pushing their unsalable stock down into the lower echelons of the community such that it does not deplete their regular market (people at this level don’t have much money to spend at the supermarket). Also Foodbank depends on existing charities to do the final stage of distribution (so there are heaps of hidden costs of labour in there, I accept that).

These are all rough calculations, but it looks to me like Foodbank comes out looking highly efficient. Finish up with a quote from their website:

There are many reasons for waste in even the most efficiently run organisation: changed labelling regulations, end of season excess stock, production line changeover items, out-dated competition packaging, discontinued products, as well as the merest label or weight inaccuracies which render a product legally unsaleable. Tonnes of cans or packets are disposed of every week. The main recipient of these products is landfill !