Worthwhile Canadian Initiative

Yet another review of Joseph Heath's "Filthy Lucre"

I spent the past weekend in Toronto, attending the meetings of the Canadian Economics Association, and I took advantage of the occasion to track down the book that was the subject of Nick's earlier post. (The bookstores here in Quebec City cannot be relied upon to provide such fare).

To echo Nick's review, it is a good book. And I admit to being surprised at how good it is. There are any number of uniformed, incurious non-economists who feel perfectly comfortable performing hatchet jobs on ideas that they clearly do not understand, so it's a very good thing indeed to come across a book that is written by a non-economist who has taken the trouble to inform himself about what economists actually say.

I'm very tempted to go through a chapter-by-chapter review, simply because so many of the the points he makes are ones I've been making here over the years. But I won't: read the book.

A weakness that is worth mentioning is one that Nick noted: the symmetric structure of the book simply doesn't work. Joseph Heath will tell anyone who will listen that his primary audience is economically-illiterate leftists, and this is pretty clearly born out by the lop-sided structure of the book: the first six chapters documenting the right-wing fallacies don't have the punch of the ones that eviscerate those dear to the left. For example, the chapter on international trade could have just as easily been assigned to the list of left-wing fallacies - although I think my suggestion would have been to add another section on 'non-partisan fallacies'. The lop-sided structure is probably inevitable, since left-wing hostility to economics is older and more deeply-rooted than right-wing hostility to economics. But it is no doubt a smart strategic move to soften up leftists readers by starting with a demolition of some of the dumber elements of right-wing economics.

One thing I have learned from this book is that Canada's book review editors are singularly bone-headed. I haven't seen a single review that would lead me to believe that its author understood what Joseph Heath wrote.

A plea for a sensible change to EI

The Canadian Labour Congress' Andrew Jackson is worried about EI claimants who might be exhausting their benefits. If the opposition is serious about using EI reform as a cudgel for bashing the government, they would do well to read Andrew's post.

A $50 billion deficit is really a $25 billion deficit

If the government runs a deficit, it means you have to increase taxes or cut government spending sometime in the future, right? Well no, that's not exactly right.

On the sheer pointlessness of reducing hours for EI eligibility as a counter-cyclical policy

One of the points I've been making about the psychodrama over reducing the EI eligibility requirements (eg: here and here) takes the form of a question: "Just what problem is this supposed to solve? How many people are there who were hired three months ago - in the teeth of the worst labour market in a generation - and who are now unable to claim EI?"

I've not seen a convincing answer, so I decided to dig up the Labour Force Survey numbers for employment by job tenure (CANSIM Table 282-0037). I also decided to look only at the numbers for those who are 25 years old and older; the appropriate policy for people younger than that is to provide training opportunities, not passive income support. The data are not deseasonalised.

The proposal of going to 360 hours/week will matter most to someone who has accumulated 10 weeks of full-time work, or 24 weeks (at 15 hours/wk) of part-time work. The LFS has data for the number of workers with job tenures of 1-3 months and 4-6 months, so I'm going to assume that these are the relevant groups.

In October 2008, there were some 815,000 full-time workers (4.7% of all full-time workers) who had between 1 and 3 months experience. In April, that number had fallen to 501,000.  That doesn't mean that 314,000 people lost their jobs. Someone who was hired in September would have had 1 month's experience in October and 7 months' experience in April: they would be classified differently. The drop is due to the fact that hiring dropped off as the recession hit; there simply were fewer people hired between January and March.

There were another 107,000 part-time workers in October 2009 with 4-6 months' tenure, and this number had actually increased to 116,000 by April.

So that means that as of the April LFS survey, there were some 608,000 (plus or minus a certain margin of error; these are very much back-of the envelope calculations) more workers who would now be eligible for EI under the proposed rules: an increase of about 4.2% of those employed.

But how many of them would actually lose their jobs and receive benefits? So far, we've lost 2% of employment, and if the recession holds to form, we might lose another 2%. If we assume that the new rules came in today and that 2% of those newly-eligible workers lose their jobs tomorrow (i.e., before they would have become eligible under the existing rules), then that works out to about 12,000 workers - something less than 0.1% of April 2009 employment.

The EI package is being sold as a way of accelerating the fiscal stimulus. But I don't see how extending benefits to an extra 12,000 people will make much of a difference to aggregate demand.

These are crude, back-of-the-envelope numbers to be sure. But I can't see how anyone can come up with a variation on them that affects their order of magnitude.

Bad economics du jour: The National Post on the deficit

Today's edition of the National Post offers up two variations on the same clanger, namely that the upcoming deficits are due to a ramp-up of spending.

Terence Corcoran - Don't blame deficit on the economy: Today's deficits in Ottawa are a direct product of five years of fiscal expansionism and continued spending increases. Spending has been rising at twice the rate of population growth and inflation, an unsustainable trend.

This is accompanied by an op-ed from the Fraser Institute's Neils Veldhuis.

Neils Veldhuis - Outlaw out-of-control spending: The growth in federal and provincial government spending has been startling. Over the past five years (2003-2008), average annual increases in government program spending ranged from a low of 3.6% in Prince Edward Island to an astounding 11.4% in Alberta (the federal government averaged 6.2%).

Over this period, every Canadian government -- federal and all 10 provincial governments -- increased spending at substantially higher rates than what was needed to compensate for inflation and population growth. Put differently, every government significantly increased per-person program spending after adjusting for inflation over the past five years.

Even more worrying, most governments increased program spending faster than the rate of economic growth (GDP)...

All of the above examples make it abundantly clear that Canadians need constitutional protection from profligate governments. That protection is best provided by tax and expenditure limitation laws.

Pretty scary stuff. Except that the entire argument is based on the hoary statistical trick of choosing a base year - in this case, 2003 - that best fits the story you want to tell. Readers are expected to assume that the world began in the base year and that what happened before the base year is not relevant.

But it is. Here are a couple of graphs from this recent post on the history of federal government expenditures and revenues:

If you look at the data starting in 2003, then you do see an increase. But if you look at the entire sample, real per-capita program spending is the same as it was 25 years ago.

This graph tells the same story. Yes, as a share of GDP, federal expenditures have been rising, but from a very low base. Expenditures as a share of GDP are still below levels that Diefenbaker's government saw.

I have a feeling I'm going to have to bang this drum a little harder in the next few months.

Update: Especially now that Andrew Coyne seems to have bought this line as well: "[T]his has very little to do with the state of the economy and everything to do with years of runaway spending. Had spending been kept under the slightest semblance of restraint, there would have been ample margin for even the worst downturn." Sigh.

EI and I on CBC

I was on CBC Newsworld's show Politics this afternoon, along with Derek Burleton of TD Economics, talking about the opposition parties' insistence that the government reduce the number of hours worked before becoming eligible for Employment Insurance (see here, here and here). You can watch the video here - we're in the first segment.

We really didn't disagree all that much. It turns out that their study (pdf) does mention the pitfalls of reducing the eligibility requirements - although in a rather cursory manner, so it's easy to miss.  And it also has many other sensible ideas. So the real question is why the opposition parties are focusing on the least-attractive policy in the report.

Update: Someone who is not a member of my immediate family was watching!

Update²: Someone who is a member of my immediate family - my adoring little sister - passes this along:

A Canadian economics blog! A Canadian economics blog!

Adam P - a frequent and insightful commenter here on WCI - has decided to start his own blog: Canucks Anonymous!

His latest post has beer and pizza!

Enjoy!

"John Cochrane's" argument for fiscal stimulus

I just finished reading John Cochrane's paper, where he applies the fiscal theory of the price level to the current crisis. (Thanks Adam P!). OK, I admit I didn't really read it thoroughly; I skimmed it. It's full of good insights, and also bad mistakes. The best thing to do with a paper like that is to skim it for good ideas.

It would be easy to trash this paper for its mistakes, but pointless. Instead I'm going to mine it for what I see as the gold of its insights, and leave behind what I see as its mistakes.

Is this a good way to analyse what John Cochrane's paper is really saying? Of course not. But I don't really care about that. I just want the insights, and whether they are accurately portrayed is a side-issue. In fact, I might as well say now that they are not accurately portrayed. That's why I put the scare quotes around "John Cochrane's" in the title of this post.

OK, I admit, it's not really John Cochrane's argument for fiscal stimulus; it's an argument for fiscal stimulus that I got from reading John Cochrane's paper.

Summoning the ghost

I've been reading through the Annex of the Bank of Canada's most recent Monetary Policy Report (pdf), the "Framework for conducting monetary policy at low interest rates", and reading Deputy Governor John Murray's speech on unconventional monetary policy.

I can't quite put my finger on the right metaphor. "Atheists explaining the efficacy of prayer" comes close. So does "Materialists advocating exorcism". Except they are not trying to exorcise a ghost they don't believe in; they are trying to summon a ghost they don't believe in. I have ended up recycling David Laidler's metaphor (pdf), that monetary policy without money is like Hamlet without the ghost.

My fear: Michael Ignatieff is to EI as Stephen Harper is to the GST

Well. It would appear that I have become the go-to person for those who are interested in examining the merits of the policy proposals that are the backdrop for Ottawa's psychodrame de jour. Put briefly, my point - expressed here and especially here is that Michael Ignatieff's proposals for EI reform ignore the scholarly literature on the subject, and are more likely to do harm than good.

The Liberal talking points are the following. From the comments here, we have

"[A]pproximately no-one who has done research in this area thinks that reducing the eligibility requirements is a good idea."

Yeah, except the TD Bank, the CCPA and the Government of Ontario, all of whom have suggested flatten the hours of eligibility required to qualify for EI.

Also, the cost of a universal 360 hour standard has been pegged at somewhere between $500 million and $1.5 billion--even though it would add no additional cost for those already collecting benefits. Based on that alone it seems as though this must benefit some people. Right off the bat it occurs to me that those who might benefit most would be (a) people who just returned from parental leave before being laid off, (b) those who work seasonal jobs who will now be unable to find out of season work and (c) those who have picked up some contract work since entering the workforce but are now unable to find more. All of those people are, quite obviously, affected by the recession.

And even if reducing the hours needed to qualify for EI didn't help anyone, how would that make it a "dumb" idea as opposed to a simply a not very important issue either way? If it doesn't affect many people how can't be that harmful?

Did you consider any of this before writing your post?

Um, yes. Yes I did. To the first point, I would reply that when it comes to scholarly credibility, the collective expertise of David Green, Craig Riddell, Thomas Lemieux and Bentley McLeod (plus others whose work has passed the crucible of peer review) greatly outweighs those other sources.

The other points ignore the possibility that there might be other, better ways of spending that money. Why not beef up the GST credit or the Working Income Tax Benefit?

Elsewhere, one of my colleagues in academia passed my blog post to a Liberal party member of his acquaintance, and got this response:

1) We're not suggesting eliminating the waiting period for eligibility. We're ensuring that for the duration of this recession, the amount of hours required to qualify for EI does not vary depending on where you live in the country.  We're also reducing the minimum number of hours from 420 hrs to 360 hrs because getting EI payments (as small as they are) in the pockets of Canadians who have lost their job through no fault of their own is one of the best ways of injecting stimulus into the economy.

Again, this is the part that ignores the question of whether or not there are better ways of distributing that money.

2)  On the blog post....the problem we are trying solve is regional discrepancies in eligibility, which may make sense in an era of prosperity, but not in a recession. Because right now it is no easier to find a job in Calgary than it is in Windsor.

This is a spectacular non sequitur. If this were the concern, we'd be talking about increasing the length of the period in which people were eligible for benefits, not reducing the number of hours worked in order to become eligible.

The blogger is also wrong that nobody has done research on this.  For example, only a few weeks ago TD Economics put out a report confirming that the regional variation does not make sense right now.

Once again, I am compelled to remind readers that a TD Economics newsletter does not carry the same intellectual heft as the accumulated wisdom of leading scholars in the field. And a casual glance at the most recent Labour Force Survey suggests that labour market conditions are not uniform across the country.

And that only 60 percent of individuals who pay into the EI system are receiving benefits when they lose their job..again, through no fault of their own. You cannot get EI if you quit.  You cannot get EI if you were fired for cause.

Okay, let's think a bit about a system in which you get EI benefits if you are fired for cause or if you quit.

(Pause, while we think about it and perhaps look up the Wikipedia entry on moral hazard.)

Exactly.

It is at this point our thoughts turn to Stephen Harper and the GST. As a trained economist, Harper should have known that cutting the GST was among the worst policy proposals he could come up with. But he set aside that knowledge - and presumably the advice of people who were experts in the field - and did so anyway in order to win votes.

And now we have Michael Ignatieff, whose reputation as an intellectual is one of the Liberals' strongest points. But it's hard to see much daylight between the Prime Minister and the Leader of the Opposition these days. When it comes to choosing between the recommendations of scholars and the recommendations of political spin doctors, Michael Ignatieff looks as though he is comfortable making the same choices as Stephen Harper.

The IS curve

You might think you understand the IS curve. You probably don't. And your failure to understand it properly means you don't understand how an excess demand for money is an integral part of the theory of the IS curve, underlying any state of deficient-demand unemployment. And you don't understand the monetary transmission mechanism properly. I don't understand it as well as I would like to either. Nobody does.

This is my attempt to understand the IS curve better. It will probably help you understand it better too.

Oil prices in currencies other than the USD

Once again, we're seeing an increase in USD-denominated oil prices accompanied by a depreciating USD, so it was only a matter of time before someone put 1 and 1 together and got 11:

Crude awakening: It's oil about the US dollar: Some people would have you believe that oil's surge above $60 (U.S.) a barrel is about anticipation of a global economic recovery. Don't be fooled. This isn't about an economy's renaissance, but rather a currency's demise.

Oil's rise has been tracking the U.S. dollar's fall in near lock-step over the past two months...

I guess it's time to update my series of graphs of oil prices in currencies other than the USD:

Oil prices are up in the US - as well as in Canada, Japan and the euro area.

The federal opposition parties are dimwits, or they really don't want an election

I cannot understand why the federal opposition parties have decided to make reducing the number of hours worked before becoming eligible for Employment Insurance the reason for provoking a squabble with the Harper government.

As I asked over here, just what problem is this supposed to solve? How many people are there who were hired three months ago - in the teeth of the worst labour market in a generation - and who are now unable to claim EI? From my understanding of the literature (and I did ask around), approximately no-one who has done research in this area thinks that reducing the eligibility requirements is a good idea.

The Harper government has provided a broad range of targets for intelligent criticism for their policy choices over the past years. But the Liberals, the NDP and the Bloc Québécois have instead chosen to focus their attention on advocating one of the few remaining dumb ideas that the Conservatives haven't already jumped on.

A "Why Fiscal Policy Won't Work" Contest

I am opening a contest. Let's see who can come up with the most plausible (or least implausible) model in which fiscal policy would not work in present circumstances.

This is not an entirely frivolous exercise. David Andolfatto (who runs another excellent Canadian economics blog) has made a number of posts recently questioning the empirical evidence in favour of fiscal policy. I said in a comment that my main reason for thinking that fiscal policy could (probably) work is that I find the models which say that fiscal policy can work more plausible (or less implausible) than any model I can think of in which fiscal policy would not work.

So, in my view, it's not a question of the absolute evidence in favour of fiscal policy working; what matters is the relative plausibility of models where it works to models where it doesn't work. Even if both classes of models had weak supporting evidence, I would lean towards whichever was less weak.

And David encourages me to run this contest.

Deflation: a less clear and less present danger

It would appear from the April CPI release that the Bank of Canada won't be obliged to figure out how to implement policy quantitative easing after all.

Imagine there's no money....

Would the current financial crisis matter as much in a world without money?

Let me be more specific. Imagine we lived in a world where we still had money as a medium of account, so prices were measured in money. But people did not use any medium of exchange; they used barter instead.

Would your (explicit or implicit) model of the crisis need to be changed in any way? Would monetary policy matter any less?

Has the Bank of Canada shifted from credit easing to quantitative easing?

Five weeks ago, I posted on the evolution of the Bank of Canada's balance sheet during the financial and economic crisis. Since then, several things have happened:

An overlooked anti-poverty strategy: giving money to poor people

Kevin Milligan of the University of British Columbia and Mark Stabile of the University of Toronto asked themselves "Can income transfers to poor families help children?" Here's a summary of the answer they got:

Since the 1990s, many countries have reformed their systems of transfers to low income families with an eye toward improving work incentives. This column shows, using Canadian data, that well-designed income transfers can not only help families make their way back to employment, but also improve the educational, mental health, and behavioural outcomes of the next generation.

This sort of scholarship makes me despair of the Canadian Left. Instead of focusing attention on targeted transfers, it wastes its time on arguing for higher minimum wages (a policy that is at best pointless), or on making the case for universal programs that favour the well-off. ([1], [2], [3])

When the Canadian Left does consider the idea of targeted income transfers, its response is invariably dismissive. A typical reaction to the Working Income Tax Benefit (our equivalent of the US Earned Income Tax Credit) is to describe it as a handout "so that employers can continue to pay poverty wages." Not all reactions on the left are so negative, of course. But if this piece is anything to go by, the Canadian Left's support for the idea of giving money to poor people can be at best characterised as 'tepid'.

It's getting harder and harder for me to come up with charitable explanations for the disconnect between the policies that the Canadian Left advocates and policies that serious scholarship says will actually help reduce poverty and inequality.

Could the natural rate of interest really be negative?

{Update: Preface: Is it possible that an economy could find itself in an absolute liquidity trap because the natural rate of interest went negative? Or is it only possible if mistakes in monetary policy caused expected inflation to go negative?]

We argue that the nominal rate of interest cannot be negative. If it were, people would just store cash under the mattress.

We could equally argue that the real rate of interest cannot be negative. If it were, people would just store cans of beans under the mattress.

Unlike paper money, the demand for cans of beans is part of the demand for newly-produced goods and services, and so is part of Aggregate Demand. The demand to store newly-produced goods is part of investment demand. If the real rate of interest ever became negative, the demand for cans of beans would become infinitely large. So the equilibrium, or natural real rate of interest, could never be negative. So any argument for an absolute liquidity trap based on a negative natural rate of interest must be false. The IS curve cannot drop below the x axis.

If you don't like beans: try clothes, furniture, towels, landscaping, wine, scotch, copper, insulation, tobacco, dentistry, cutlery, steel, bricks, canoes, lumber, art, education, books, guitars,...., whatever. At negative real interest rates, why wait? Why not buy them now?

Good News! Interest rates rise.

This Bloomberg story reports the Fed saying that rising bond yields are a good sign. They don't precisely say that monetary easing is what caused the rise in interest rates; they are perhaps too modest to claim credit? But I will say it for them: by buying bonds, and easing monetary policy, the Fed has caused the price of bonds to fall, and interest rates to rise. Yep, an increase in demand for bonds causes the price to fall.