To model or not

October 5, 2010

For someone learning about models, two instructive posts from Krugman.  One, on the analytical strengths of models in the social sciences (well, economics really, but the general lesson could apply):

If you think in terms of slogans like “free trade good; protectionism evil”, you find it outrageous that a credentialed economist might actually consider trade sanctions on China justified. Sacrilege!

If you think in terms of models, however, you know that the case for free trade is profound, but also conditional: it depends, among other things, on having sufficient policy levers to achieve more or less full employment simultaneously with free trade.

And another on their limitations, and the importance of understanding the empirical intuition behind them:

What’s going on here? I believe that what we’re looking at is people who know their math, but don’t know what it means: they can grind through the equations of their models, but don’t have any feel for what the equations really imply. Confronted with informal discussion that’s grounded in models but not explicitly stated in terms of math, they’re totally baffled. And so they lash out.

He’s talking about economics.  Other social sciences that use models, such as political science, are probably less enthralled by their models.  I’m hoping to use them in the law-and-society field, but by explicitly adopting a mixed methods design I hope to avoid loosing sight of what it is exactly that I’m attempting to understand via a model.

Expectations of the rich

September 20, 2010

This is a fantastic piece from Delong, the economist at Berkeley.  This section on increasing inequality at the top of the wealth distribution is illuminating:

He doesn’t say: “Wow! My real income is more than twice the income of somebody in this slot a generation ago! Wow! A generation ago the income of my slot was only twice that of somebody at the bottom of the 10% wealthy, and now it is 3 1/2 times as much!” For he doesn’t look down at the 99% of American households who have less income than he does. And he looks up. And when he looks up today he sees as wide a gap yawning above him as the gap between Dives and Lazarus. Mr. Henderson doesn’t look down.

Instead, Mr. Henderson looks up. Of the 100 people richer than he is, fully ten have more than four times his income. And he knows of one person with 20 times his income. He knows who the really rich are, and they have ten times his income: They have not $450,000 a year. They have $4.5 million a year. And, to him, they are in a different world.

And so he is sad. He and his wife deserve to be successful. And he knows people who are successful. But he is not one of them–widening income inequality over the past generation has excluded him from the rich who truly have money.

It reminds me of a conversation I had recently with my father.  I was relating my recent (and belated) reading of Polanyi’s The Great Transformation and he was recounting a lecture that argued that critical to our modern economic system was the commercialisation of envy — that desiring or coveting what another possesses is the driving force of our demand-driven economies.  This suggests the causal mechanism operating on the rich — if those around you are becoming richer (or you become increasingly aware of those in the upper echelons of the top 1%, versus those in your immediate vicinity), you will covet more and more.  In addition, I would suggest that this mechanism was mitigated by social norms of modesty and gratefulness.  And that, in addition to increasing inequality at the top, this counteracting mechanism is increasingly unable to discourage the (already) rich from complaining about their lot.

Rodrik asks whether China’s mercantilism policies and its undervalued currency, the renminbi, has a positive or negative effect on other developing countries.

Arvind Subramanian from the Peterson Institute takes the negative position, arguing it makes the goods of other developing countries less competitive on international markets.

Helmut Reisen from the OECD takes the positive position, because the growth of many poorer countries are (increasingly) dependent on China’s growth.

Rodrik argues for the former, but focuses on the type of growth the two positions imply.  The latter sees growth in the provision of primary materials to China, which does the value-adding and final export to international markets.  The former encourages other developing countries to re-structure away from primary goods to higher productive activities, such as manufacturing and service provision.

I think it’s probably difficult to generalise to all other developing countries.  Some countries would have a tougher time re-structuring their economies.  For example, some African countries that export primary materials to China would surely struggle to re-structure their economies; whereas countries like Indonesia would surely benefit from doing more value-adding in country rather than becoming increasingly reliant on primary exports to China?

Here’s the link to the article:

The state of economics

September 23, 2009

The debates stimulated (pun intended) by Krugman’s recent article in the NY Times Magazine are incredible.  Here’s Krugman’s sensible article; here’s Cochrane’s rebuttal.  And here is Brad Delong ripping into some incredible comments of “freshwater” economists.

I find the freshwater economists slavish dedication to so-called Ricardian Equivalence particularly disturbing. Here’s Cochrane:

In economics, stimulus spending ran aground on Robert Barro’s Ricardian equivalence theorem. This theorem says that debt-financed spending can’t have any effect because people, seeing the higher future taxes that must pay off the debt, will simply save more.

And here’s a graph showing US  government debt:

US National Debt-GDP

And here’s a graph showing US savings:

US Savings Annual

Something wrong?  The relationship seems to hold during WWII, although saving was appparently enforced as government policy during the war, but for the last 30 or so years Ricardian Equivalence seems to have been forgotten: government debt has increased signficantly while savings has declined. This trend is likely to change in the near future, as government debt increases, but surely this is due to households repairing severely over-leveraged household balance sheets rather than expectations of future taxes.

I really think it’s a fascinating time to begin a PhD, as for me the crisis has helped me to understand systems and policies that were previously taken for granted.  That said, I think there’s been some over reactions–that the crisis marks the death of capitalism.  I think what is more at stake (again) is a certain form of neo-classical, deregulated, laissez faire capitalism–which many thought was finished in 1929!