Modern money, 1579 edition.

Old charters still shed light on recent monetary developments…

While in the Leeuwarden archive, investigating 19^th century quantities and insurance prices of clay soil hay in central Friesland (a coastal part of the Netherlands) I got sub-focused and found myself thumbing through the Frisian ‘Charter books’ (internet version here). These books contain all Frisian government ‘oorkonden’ from the end of the fifteenth century onwards. ‘Oorkonden’ literally translates as ‘ear messages’. And they were: before Sunday mass or, later, sermon, they were read aloud in churches. These charters sometimes have a monetary nature. I happened to stumble upon some from 1579, the most revolutionary year in the entire history of Friesland (but see also this). Why and how did the new, revolutionary, and, more important, modern government get involved with monetary matters and why and how is this related to recent bank insolvencies?

Mainstream economics — a vending machine view

from Lars Syll

The theory is a vending machine: you feed it input in certain prescribed forms for the desired output; it gurgitates for a while; then it drops out the sought-for representation, plonk, on the tray, fully formed, as Athena from the brain of Zeus. This image of the relation of theory to the models we use to represent the world is hard to fit with what we know of how science works.

When applying deductivist thinking to economics, economists usually set up ‘as if” models based on a set of tight axiomatic assumptions from which consistent and precise inferences are made. The beauty of this procedure is of course that if the axiomatic premises are true, the conclusions necessarily follow. The snag is that if the models are to be relevant, we also have to argue that their precision and rigour still hold when they are applied to real-world situations. They often don’t. When addressing real economies, the idealizations necessary for the deductivist machinery to work, simply don’t hold.

So how should we evaluate the search for ever greater precision and the concomitant arsenal of mathematical and formalist models? To a large extent, the answer hinges on what we want our models to perform and how we basically understand the world.

Silicon Valley Blues

from Peter Radford

The circumstances of Silicon Valley Bank are well rehearsed by now.   The bank sat at the epicenter of the tech-bro start-up ecosystem and played a pivotal role in the collection and disbursement of all the cash that flows through that system.  It was an extremely odd bank.  Unlike the everyday banks most of us deal with it had very few deposits that originated from regular customers.  Most of its deposit base consisted of the chunky piles of cash belonging to start-ups and their various hangers-on.  That meant the average size of each deposit account was well in excess of the limit the FDIC insures.

This odd customer base added to the strain on the bank during recent years when the combination of low interest rates and excess cash slopping about the economy led to a surge in start-up activity.  The bank benefitted from that activity — if benefit is the right word — and saw its deposits grow rapidly.

This presented the bank with a problem.  What to do with all those incoming deposits?   Because the bank had so few ordinary customers, and generated so few regular assets, it had few options.  Unwisely it chose the riskiest:  it

SVB was Donald Trump’s bailout

from Dean Baker

There are two key points that people should recognize about the decision to guarantee all the deposits at Silicon Valley Bank (SVB):

• It was a bailout
• Donald Trump was the person responsible.

The first point is straightforward. We gave a government guarantee of great value to people who had not paid for it.

We will get a lot of silly game playing on this issue, just like we did back in 2008-09. The game players will tell us that this guarantee didn’t cost the government a penny, which will very likely end up being true. But that doesn’t mean we didn’t give the bank’s large depositors something of great value.

If the government offers to guarantee a loan, it makes it far more likely that the beneficiary will be able to get the loan and that they will pay a lower interest rate for this loan. In this case, the people who held large uninsured deposits at SVB apparently decided that it was better, for whatever reason, to expose themselves to the risk by keeping these deposits at SVB, rather than adjusting their finances in a way that would have kept their money better protected.

The answer to the Silicon Valley bank bailout: Federal Reserve Banking

from Dean Baker

Word from the grapevine is that the risk of contagion may cause the Fed or the FDIC to engineer some sort of bailout of uninsured deposits, where they get paid back in full, instead of being forced to accept a partial loss on deposits over $250k. That would be unfortunate, since the people who run these companies that have large deposits are supposed to be brilliant whizzes, who should be able to understand things like FDIC deposit insurance limits.

Their incessant whining, that losing 10-20 percent of their deposits, would shut down Silicon Valley and the country’s tech sector, made for good laughs. However, the risk of a nationwide series of bank runs is a high price to pay to teach these people about the limits on deposit insurance.

We know that the view of most of our policy elites (the politicians who make policy, their staff, and the people who write about it in major news outlets) is that the purpose of government is to make the rich richer. But, there are alternative ways to structure the financial system for people who care about fairness and efficiency.

The most obvious solution would be to have the Federal Reserve Board give every person and corporation in the country a digital bank account.

Weekend satire: The key to managing inflation? Higher wages

from Blair Fix

To manage inflation, governments have a simple tool at their disposal:
raise wages as fast as possible.
— Milton Fryman

For the last few months, I’ve been diving into the economics of inflation. In this post, I’m excited to review some forgotten history.

Our journey starts with a basic question: what is the key policy tool for managing the rate of inflation?

According to mainstream economics, the key tool is the rate of interest. Hike this rate, economists argue, and you will cool an overheated economy, solving the problem of inflation. As you probably know, I don’t think much of this idea. (Criticism here and here.) And so I’ve been looking for alternative theories of inflation management.

After months spent in the library stacks, I’m happy to report that I’ve discovered some lost theory. During the mid-20th century, it seems that while most economists were jumping on the interest-rate bandwagon, a few researchers went in the opposite direction. They proposed that inflation could be treated with a dose of wage hikes.

Needless to say, this alternative theory remains virtually unknown. And on its face, it seems absurd. But as I’ll show, the wage-hike approach is strongly supported by evidence. Using standard economic tools, I find that rapid wage growth tends to be followed by a drop in inflation.

The message? Policy makers should reverse course. Instead of greeting inflation with a dose of interest-rate hikes, governments should reach for the wage-rate lever. Hike wages as fast as possible, and you will surely reduce inflation.

The Swisher effect

Our dive into inflation management starts with some well-known history. The standard approach to regulating inflation was set in motion by the economist Irving Fisher.

Getting causality into statistics

Lars Syll  

Because statistical analyses need a causal skeleton to connect to the world, causality is not extra-statistical but instead is a logical antecedent of real-world inferences. Claims of random or “ignorable” or “unbiased” sampling or allocation are justified by causal actions to block (“control”) unwanted causal effects on the sample patterns. Without such actions of causal blocking, independence can only be treated as a subjective exchangeability assumption whose justification requires detailed contextual information about absence of factors capable of causally influencing both selection (including selection for treatment) and outcomes. Otherwise it is essential to consider pathways for the causation of biases (nonrandom, systematic errors) and their interactions …

Probability is inadequate as a foundation for applied statistics, because competent statistical practice integrates logic, context, and probability into scientific inference and decision, using causal narratives to explain diverse data. Thus, given the absence of elaborated causality discussions in statistics textbooks and coursework, we should not be surprised at the widespread misuse and misinterpretation of statistical methods and results. This is why incorporation of causality into introductory statistics is needed as urgently as other far more modest yet equally resisted reforms involving shifts in labels and interpretations for P-values and interval estimates.

Sander Greenland

Causality can never be reduced to a question of statistics or probabilities unless

Cryptocurrency after FTX

from Jamie Morgan

If you think cryptocurrency is priapic capitalism’s latest attempt to dick you, you are probably not alone. In the last year or so most people’s perception of cryptocurrency has fallen about as far as it could. Opinion, much like the value and solvency of the assets, has plummeted from ‘the sky’s the limit’ to a soft sewage-landing. Great swathes of the population of the US and UK invested in cryptocurrency over the pandemic period. Since then, a swift spiral of contagions and bankruptcies has hit the headlines and FTX is only the highest profile of these. The anodyne mainstream economics term ‘market correction’ scarcely does justice to what has gone on.

At the heart of the problem were crypto exchanges. These provided customers with ‘accounts’, paid interest on assets in those accounts, offered ‘brokerage-type’ services and allowed customers to buy and trade on margin. This produced all of the hallmarks of a regulated financial sector with little of the reality. Disclaimers and small-print notwithstanding, the language invited self-deception. Offering an ‘account’ does not make a service equivalent to a bank account and offering brokerage-type services does not make one a broker. Protections were few and the temptations many… The situation was ripe for a Kindleberger and Aliber style Mania, Panic and Crash and the only surprise is that anyone would be surprised how this has turned out.

We have, however, been here before, and not just in the sense that crypto is prone to bubbles.

Econometric fictionalism

from Lars Syll

If you can’t devise an experiment that answers your question in a world where anything goes, then the odds of generating useful results with a modest budget and nonexperimental survey data seem pretty slim. The description of an ideal experiment also helps you formulate causal questions precisely. The mechanics of an ideal experiment highlight the forces you’d like to manipulate and the factors you’d like to hold constant.

Research questions that cannot be answered by any experiment are fundamentally unidentified questions.

One of the limitations of economics is the restricted possibility to perform experiments, forcing it to mainly rely on observational studies for knowledge of real-world economies.

But still — the idea of performing laboratory experiments holds a firm grip on our wish to discover (causal) relationships between economic ‘variables.’If we only could isolate and manipulate variables in controlled environments, we would probably find ourselves in a situation where we with greater ‘rigour’ and ‘precision’ could describe, predict, or explain economic happenings in terms of ‘structural’ causes, ‘parameter’ values of relevant variables, and economic ‘laws.’

Galileo Galilei’s experiments are often held as exemplary for how to perform experiments to learn something about the real world. Galileo’s heavy balls dropping from the tower of Pisa, confirmed that the distance an object falls is proportional to the square of time and that this law (empirical regularity) of falling bodies could be applicable outside a vacuum tube when e. g. air existence is negligible.

Wolf knows better. I know he knows

from Peter Radford

What am I supposed to make of this?

Martin Wolf, someone whose work I always pay attention to, flubs it and leaves us with a partial picture.  That’s unlike him.  Perhaps it was the editing?

In any case the notion that the UK needs to generate more savings, which is what Wolf is arguing in his recent Financial Times article, needs a slight augmentation in his basic analysis.

The problem begins when he says that “Investment is financed by savings”.  This is a very un-Wolf like statement.  He is as aware as we are that savings do not cause investment.  This is simply one of those accounting identities that sometimes confuses people into imagining causation where there is none.  This unfortunate sentence then opens the door for the avoidance of the sort of deeper thinking we associate with Wolf.

For instance, whilst the causation does not run savings-to-investment, we could argue that there is causation in the other direction.  Investment in productive projects creates flows within the economy that do, or rather can, create savings.

What’s missing in the article is the relationship between consumption and the availability of productive projects worthy of investment.  Strong levels of consumption provide profitable investment opportunities.  That’s how investment decisions are made.  Banks are willing to provide financing for such projects.  Their credit risk assessment tells them they will get repaid from the profits of projects based on solid consumption prospects.  Banks will create the cash to fund such projects.  That’s the happy advantage of our banking system.  We can invest without having any savings.

The Keynes-Tinbergen debate on econometrics

from Lars Syll

It is widely recognized but often tacitly neglected that all statistical approaches have intrinsic limitations that affect the degree to which they are applicable to particular contexts … John Maynard Keynes was perhaps the first to provide a concise and comprehensive summation of the key issues in his critique of Jan Tinbergen’s book Statistical Testing of Business Cycle Theories …

Keynes’s intervention has, of course, become the basis of the “Tinbergen debate” and is a touchstone whenever historically or philosophically informed methodological discussion of econometrics is undertaken. It has remained the case, however, that Keynes’s concerns with the “logical issues” regarding the “conditions which the economic material must satisfy” still
gain little attention in theory and practice.

Muhammad Ali Nasir & Jamie Morgan

Mainstream economists often hold the view that Keynes’ criticism of econometrics was the result of a sadly misinformed and misguided person who disliked and did not understand much of it.

This is, however, as Nasir and Morgan convincingly argue, nothing but a gross misapprehension.

To be careful and cautious is not the same as to dislike. Keynes did not misunderstand the crucial issues at stake in the development of econometrics. Quite the contrary. He knew them all too well — and was not satisfied with the validity and philosophical underpinning of the assumptions made for applying its methods.

Keynes’ critique of the “logical issues” regarding the conditions that have to be satisfied if we are going to be able to apply econometric methods, is still valid and unanswered in the sense that the problems he pointed at are still with us today and largely unsolved. Ignoring them — the most common practice among applied econometricians — is not to solve them.

The future of vehicle prices

from Dean Baker

On a lazy Friday afternoon, a person’s thoughts naturally turn to car price indexes. There is actually a reason that I became interested in this topic. I noticed that in the January Consumer Price Index, the new vehicle index rose 0.2 percent. The December measure was revised up due to new seasonal adjustment factors so that what had been reported as a 0.1 percent decline last month is now reported as a 0.6 percent increase.

I was inclined to think this was an aberration and that we would see the downward trend that had previously been apparent in the data reappear in another month or two. However, I noticed that the Manheim index for used vehicle prices showed a sharp uptick for January and the first half of February. This was after a full year in which declining prices were reversing much of the pandemic run-up. Perhaps my expectation that vehicle prices, both new and used, would soon look like they were back on their pre-pandemic path was wrong.

Vehicle prices are a big deal in the CPI. Together the new and used vehicle components comprise just under 7.0 percent of the overall index and 8.8 percent of the core index. As a result, it will have a big impact on our inflation measures if vehicle prices are on a downward path, as it seemed when we got the December CPI.

I thought I would look at a bit of history and pull in the index for imported vehicles. (This is not entirely apples to apples since the import index includes car parts.) Here’s the picture.

Economics as religion

from Lars Syll

Contrary to the tenets of orthodox economists, contemporary research suggests that, rather than seeking always to maximise our personal gain, humans still remain reasonably altruistic and selfless. Nor is it clear that the endless accumulation of wealth always makes us happier. And when we do make decisions, especially those to do with matters of principle, we seem not to engage in the sort of rational “utility-maximizing” calculus that orthodox economic models take as a given. The truth is, in much of our daily life we don’t fit the model all that well.

For decades, neoliberal evangelists replied to such objections by saying it was incumbent on us all to adapt to the model, which was held to be immutable – one recalls Bill Clinton’s depiction of neoliberal globalisation, for instance, as a “force of nature”. And yet, in the wake of the 2008 financial crisis and the consequent recession, there has been a turn against globalisation across much of the west …

It would be tempting for anyone who belongs to the “expert” class, and to the priesthood of economics, to dismiss such behaviour as a clash between faith and facts, in which the facts are bound to win in the end. In truth, the clash was between two rival faiths – in effect, two distinct moral tales. So enamoured had the so-called experts become with their scientific authority that they blinded themselves to the fact that their own narrative of scientific progress was embedded in a moral tale. It happened to be a narrative that had a happy ending for those who told it, for it perpetuated the story of their own relatively comfortable position as the reward of life in a meritocratic society that blessed people for their skills and flexibility. That narrative made no room for the losers of this order, whose resentments were derided as being a reflection of their boorish and retrograde character – which is to say, their fundamental vice. The best this moral tale could offer everyone else was incremental adaptation to an order whose caste system had become calcified. For an audience yearning for a happy ending, this was bound to be a tale of woe.

The failure of this grand narrative is not, however, a reason for students of economics to dispense with narratives altogether. Narratives will remain an inescapable part of the human sciences for the simple reason that they are inescapable for humans. It’s funny that so few economists get this, because businesses do.

Yes indeed, one would think it self-evident that “the facts are bound to win in the end.” But still, mainstream economists seem to be impressed by the ‘rigor’ they bring to macroeconomics with their totally unreal New-Classical-New-Keynesian DSGE models and their rational expectations and microfoundations!

Invisible hand and unmentionable foot

from Duncan Austin

. . . it is an empirical matter whether the Hand is stronger than the Foot, or vice-versa.  Unfortunately, various environmental and social trajectories indicate that the Foot is now overpowering the Hand in important ways. Note that the situation is not that markets are outright ‘good’ or ‘bad’ – as polarizing capitalism-versus-socialism debates so often quickly descend to – but rather how helpful or harmful current markets are based on how well they reflect known reality.

A critical factor in evaluating the relative strength of the Hand and the Foot is how broadly one chooses to look. If the world becomes ‘smaller’ because population grows and communications technologies connect everyone so that we become more aware of inequalities, and if the world becomes ‘smarter’ so that we identify hard-to-discern trends of climate change and biodiversity decline, the damages of the Foot become more visible than they were, and ever harder to unsee. 
The Towering Problem of Externality-Denying Capitalism

 

Further growth has become uneconomic: The diagram the World Bank refused

from Herman Daly and RWER issue 102

Let’s draw a big circle around the rectangle and label it “”Environment”.  The Earth-environment, let us say, has one input from space, solar energy, and one output back to space, waste heat. No significant material inputs from or outputs to space.^[1] Materials circulate as energy flows through the environment. The inputs to the economy come from the containing finite environment and constitute depletion, a cost. The final outputs return to the environment as wastes and constitute pollution, also a cost.

The difference between logic and science

from Lars Syll 

In mainstream economics, both logic and mathematics are used extensively. And most mainstream economists sure look upon themselves as “twice blessed.”

Is there any scientific ground for that blessedness? None whatsoever!

If scientific progress in economics lies in our ability to tell ‘better and better stories’ one would, of course, expect economics journals to be filled with articles supporting the stories with empirical evidence confirming the predictions. However, the journals still show a striking and embarrassing paucity of empirical studies that (try to) substantiate these predictive claims. Equally amazing is how little one has to say about the relationship between the model and real-world target systems. It is as though explicit discussion, argumentation, and justification on the subject aren’t considered to be required.

In mathematics and logic, the deductive-axiomatic method has worked just fine. But science is not mathematics or logic. Conflating those two domains of knowledge has been one of the most fundamental mistakes made in modern economics.

Origins and consequences of US monetary hegemony

from Asad Zaman

The two World Wars in the 20th century depleted the gold stocks of European governments and made a return to the (UK Sterling based) gold standard impossible. This led to the Bretton Woods conference of 1944, where leaders of the world came together to find an alternative, non-gold-based, global trading system. John Maynard Keynes brought a proposal for a symmetric trading system, but it was rejected in favor of the dollar standard, which transferred global hegemony from the UK to the USA. The US had enough gold reserves to guarantee convertibility of the USD into gold at $35 per ounce, and this system worked fairly well until the Vietnam War led to excessive expenditures of dollars and an insufficiency of gold to redeem them.

In 1971, President Nixon renounced the Bretton Woods agreement and de-linked dollars from gold, leading to a world of unbacked currencies with floating exchange rates. The Nixon shock created massive uncertainty about how the world would function with fiat currencies. The Hunt brothers thought the system would collapse, leading to a return to gold and silver. They nearly succeeded in buying up most of the silver in the world – see Speculative Financial Attacks. The US was aware that loss of confidence in unbacked dollars could lead to financial disaster. To prevent this, they engineered a deal with Saudi Arabia to ensure that petroleum would always be sold in dollars, effectively replacing gold backing with petroleum and creating the Petro-Dollar.

This system is hugely favorable to the US, as it can print paper and buy real goods from around the world. All other countries must export to earn dollars and participate in global trade. This effectively creates a financial colonization of the world where all countries must pay tributes to the US in the form of goods. The IMF is there to help countries that fall behind in their payments, but this often leads to deeper debt enslavement. The current global trading system results in immense disparities between American levels of consumption and the rest of the world.

With the decline of US power   read more

Weekend read – Ending the cesspool in pharmaceuticals by taking away patent monopolies

from Dean Baker

Outlawing items such as marijuana or alcohol invariably leads to black markets and corruption. Since there is much money to be made by selling these products in violation of the law, many people will follow the money and break the law. They will also corrupt the legal system in the process, making payments to people in law enforcement and elsewhere in the legal system.

The old line from economists on this problem is to take the money out, by making marijuana and alcohol legal. If people can buy these items in a free market, then no one is going to have any big incentive to make payoffs to police officers or judges, there would be no reason.

We should think the same way about the pharmaceutical industry and patent monopolies. Patent monopolies and related protections allow pharmaceutical companies to sell drugs at prices that are typically several thousand percent above their free market price. In this context, economic theory predicts they will bend or break the law to extend and expand their protection as widely as possible.

The latest example of this story of corruption was a front-page New York Times piece on the arthritis drug Humira. Humira is an extraordinarily effective arthritis drug taken by tens of thousands of people in the United States. Its main patent was due to expire in 2016, which would have in principle opened the door to generic competition.

At the time, Humira was being sold at $50,000, for a year’s treatment.

The changing frequency of biblical and economics jargon

from Blair Fix

We’re now in a position to look at the changing ideological landscape that is written in the English language. To quantify ideological change, I measure how the frequency of biblical/economics jargon has changed with time in the Google English corpus.

Figure 10 shows my results. Here the blue line shows the annual frequency of biblical jargon. The red line shows the annual frequency of economics jargon. Note that the frequency is expressed per thousand words, so you can interpret it like a batting average. For example, during the 1950s, for every 1000 words contained within the Google corpus, about 130 of them were economics jargon. (If our economics jargon ‘batted’ 1000, it would mean that English writing consisted entirely of economics jargon.)

Figure 10: The changing frequency of biblical and economics jargon in the Google English corpus.

The money multiplier – neat, plausible, and utterly wrong

from Lars Syll

The mainstream textbook concept of money multiplier assumes that banks automatically expand the credit money supply to a multiple of their aggregate reserves.  If the required currency-deposit reserve ratio is 5%, the money supply should be about twenty times larger than the aggregate reserves of banks.  In this way, the money multiplier concept assumes that the central bank controls the money supply by setting the required reserve ratio.

In his Macroeconomics — just to take an example — Greg Mankiw writes:

We can now see that the money supply is proportional to the monetary base. The factor of proportionality … is called the money multiplier … Each dollar of the monetary base produces m dollars of money. Because the monetary base has a multiplied effect on the money supply, the monetary base is called high-powered money.

The money multiplier concept is — as can be seen from the quote above — nothing but one big fallacy. This is not the way credit is created in a monetary economy. It’s nothing but a monetary myth that the monetary base can play such a decisive role in a modern credit-run economy with fiat money.