Should Reads:
Must-Read: Very flattering…
I must say: I don’t know how one would teach Econ 1 other than organizing it around the principles of (a) market success and (b) types of market failure…
: On Twitter:
@Noahpinion I took @delong 's econ101: we skipped elasticity completely, and spend our time on where markets fail. Best intro ever.
— Paul F Taylor (@Paulie_FT) April 21, 2016
Must-Read: Perhaps even very large health-insurance entities can be made to behave competitively if their regulator is clever enough…
: States Can Contain Health Care Costs. Here’s How: “THE architects of the Affordable Care Act counted on competition in the health insurance market to keep costs down and quality high…
…[But] its vision of a more competitive insurance market seems to be fading. The nation’s second-largest health insurer, Anthem, is poised to acquire Cigna, the fourth-largest. Aetna, the third-largest insurer, is seeking to acquire Humana, the fifth-largest. If approved by the Justice Department, these mergers would produce companies controlling about 35 percent of the health insurance market. These mergers would likely leave that market with far fewer competitors….
Our research suggests that this apparent failure obscures a potential path to success, one that lies between competition and a fully regulated market…. States could, for instance, either accept all insurers who seek to participate or select a limited number to sell coverage. New York chose the first course, permitting all willing insurers to join; California chose the second, selecting 12 of the 32 insurers that initially showed interest. This choice was critical because Covered California, the state’s marketplace, used its leverage in selecting plans to keep initial premiums low…. New York, by contrast, permitted insurers to offer not just standard plans, but also alternative plans with different cost-sharing and benefit designs.
When we examined the two states, we found that the effect of insurer competition differed greatly. In both states, areas with more hospitals had lower premiums compared with areas with fewer hospitals. But in New York, areas with fewer insurers had higher premiums, suggesting that insurers kept the benefits of greater bargaining power for themselves. In California, by contrast, areas with fewer insurers also had lower premiums. Why? With initial premiums set at modest but adequate levels, and a vibrant marketplace, there was no need to further threaten insurers who might consider large premium increases. If an insurer tried to raise its premiums too far, consumers could easily shop….
Over time, we will learn more about how these alternative designs work. But one point is already clear: The choice between regulation and competition is a false one. To best manage our health care system, we will need both.
One of the reasons why so many people are interested in determining the natural rate of interest is due to its implications for the secular-stagnation hypothesis. That hypothesis, originally laid out by the late Alvin Hansen at Harvard University in the 1930s and resuscitated by former U.S. Treasury Secretary Larry Summers, argues that economies can get stuck in a state where the natural rate of interest is negative, which then requires central banks to keep interest at or very close to zero percent. There are many aspects to this hypothesis, but one factor that we should keep in mind as the Federal Reserve considers its next interest rate hike is the international aspect—specifically, the role of capital flows potentially aggravating the problems of secular stagnation.
The major effect of a negative natural rate of interest is that the economy ends up vacillating between slow growth characterized by a lack of aggregate demand or an economy growing steadily but propped up by a speculative bubble. International capital flows can have a major role in inflating asset bubbles. Consider the recent outflow of capital from China. At Bloomberg View, Noah Smith details the role of Chinese capital in a potential housing bubble in Canada. Foreign capital flowing into the Canadian real estate market could possibly be convincing other investors that higher housing prices are here to stay. By exporting some of the savings of wealthy Chinese individuals to Canada, the free movement of capital seems to exacerbate one of the problems of secular stagnation.
At the same time, increased capital flows into a country pushes down interest rates. For a given demand for loanable funds, an increase in the supply of savings will push down interest rates. The potential for secular stagnation to be transmitted via capital flows is a concern discussed in a working paper by economists Gauti B. Eggertsson and Neil R. Mehrotra of Brown University and Larry Summers. The paper emphasizes how today’s integrated international capital markets can cause problems for central banks. When the Federal Reserve, for example, looks to raise interest rates it needs to consider whether other economies are experiencing slowdowns or are experiencing political instability, which the three co-authors caution could result in increased capital flows to the United States. They note that such capital inflows could put further downward pressure on the natural rate of interest in the United States, making it hard for the Federal Reserve to continue to raise rates as the rate consistent with a stable growing economy declines.
In the model examining these capital flows, Eggertsoon, Mehrotra, and Summers show that increased capital controls, or restrictions on capital flows, could help alleviate the problems of secular stagnation. This is part of a reconsideration of capital controls that were once thought to be a bad move on the part of policymakers. But even if policymakers aren’t willing to go that far, the role of capital flows is a good reason to consider the health of global economy when considering macroeconomic policy at home. The Federal Reserve might have to fight off a cold if the rest of the world sneezes.
Should Reads:
Knut Wicksell is not a name you’d expect to pop up in a Wall Street Journal article, even if it’s about a Federal Reserve meeting. But the name of the late 19th and early 20th century Swedish economist appears in a recent article by Harriet Torry published after the U.S. central bank declined to move short-term interest rates up from its current target. He’s there for good reason. The Fed is currently grappling with a concept that Wicksell pioneered: the natural rate of interest.
The natural rate is the rate of interest that’s “consistent with the economy operating at its full potential, expanding without overheating,” as Torry puts it. And it’s also the rate of interest that balances desired savings with desired investment. As you might expect from institutions that try to affect interest rates, the Fed and other central banks have a strong interest in figuring out the natural rate.
The most immediate concern for the Federal Reserve, however, is determining the short-term federal funds rate of interest. One way to think about the natural rate is that it is the short-term rate the Fed sets that is consistent with full employment and stable inflation. This is the level where the Fed can stop hiking interest rates. The lower the natural rate, the fewer hikes the Federal Reserve will have to make during its tightening cycle.
Estimates of this short-term rate can be found by looking at the “Longer Term” dots on the Fed’s quarterly dot plot. These estimates have declined over time and, as Federal Reserve chair Janet Yellen said during her press conference last week, the forecast and path for these rates is quite uncertain.
But how do these short-term rates relate to more longer-term interest rates? The Federal Reserve has far less control over interest rates 10 years out and further. But long-term rates are vitally important for policymakers because they determine the rates at which the federal government borrows money and partially determine how much debt servicing the government can afford. Since 1980, the global long-term natural rate has fallen by about 4.5 percentage points.
Economists Lukasz Rachel and Thomas D. Smith of the Bank of England took a look at what has caused this decline—with an eye to seeing how the natural rate might move in the future. According to their analysis, weaker economic growth has contributed to lower rates, but only by 1 percentage point of the total 4.5 points. Another three points of the decline can be attributed to shifts in demand for savings and investment. (The co-authors say they cannot identify the cause of final 0.5 percentage point change.)
On the savings side of those 3 percentage points, there are three important driving trends. A full percentage point of the decline is attributed to demographic trends of an aging society increasing desired savings, a half point coming from increased inequality, and only a quarter of a point is due to the “global savings glut,” the last of which is often cited by many economists as a major culprit for low long-term interest rates. On the investment side, the co-authors say three smaller factors are responsible for the decline of the long-term natural rate: the gap between the risk-free rate and the return on capital (0.7 points); a decline in the price of capital goods (0.5 points); and less public-sector investment (0.2 points).
Looking at these underlying factors, Rachel and Smith don’t expect a major increase in the long-term natural rate of interest anytime soon. Inequality doesn’t seem ready to decline quickly and they do not see more retirees boosting the savings rate significantly. If they are right then it means lower rates will make financing fiscal stimulus programs much easier, though it also will pose problems for conventional monetary policy. Fiscal and monetary policymakers should prepare for dealing with this reality for quite some time to come.
Must-Read: I confess that I haven’t been following Brexit, because it has seemed to me that–whatever you think of the European Union–Britain’s strategy is obvious. It is large enough and important enough either to get an explicit carve out from European Union institutions it does not like (i.e., the Euro) or, if necessary, to nullify them. As long as it is in, it has a powerful voice to shape what happens in Brussels. Thus the right strategy is: Use your voice to pressure Brussels in positive directions, nullify the application inside Britain of European Union policies that are intolerable, and let the “leave” decision by theirs–make them throw you out if they don’t like your attitude.
“Leave” has always seemed to me to be a destructive attempt to summon the demons of nationalism, and “leave”‘s advocates have seemed to me to have careerist rather than public-spirited motivations…
: The absolute height of irresponsibility…:
The absolute height of irresponsibility; pretending to vote in the referendum in your head https://t.co/VFTzN2HVjg
— Dan Davies (@dsquareddigest) June 19, 2016
Sunday Times comes out for a Leave vote https://t.co/Fsl0cKDNEp yet envisages maybe not leaving Eu afterwards, or maybe new deal/2nd vote
— Sunder Katwala (@sundersays) June 19, 2016
Must-Read: : Is Our Economists Learning?: “Brad DeLong has an excellent presentation on the sad history of belief in the confidence fairy…
…and its dire effects on policy. One of his themes is the bad behavior of quite a few professional economists, who invented new doctrines on the fly to justify their opposition to stimulus and desire for austerity even in the face of a depression and zero interest rates.vOne quibble: I don’t think Brad makes it clear just how bad the Lucas-type claim that government spending would crowd out private investment even at the zero lower bound really was….
Two things crossed my virtual desk today that reinforce the point about how badly some of my colleagues continue to deal with fiscal policy issues. First, Greg Mankiw has a piece that talks about Alesina-Ardagna on expansionary austerity without mentioning any of the multiple studies refuting their results. And… as @obsoletedogma (Matt O’Brien) notes, he cites a 2002 Blanchard paper skeptical about fiscal stimulus while somehow not mentioning the famous 2013 Blanchard-Leigh paper showing that multipliers are much bigger than the IMF thought.
Second, I see a note from David Folkerts-Landau of Deutsche Bank lambasting the ECB for its easy-money policies, because: “by appointing itself the eurozone’s ‘whatever it takes’ saviour of last resort, the ECB has allowed politicians to sit on their hands with regard to growth-enhancing reforms and necessary fiscal consolidation. Thereby ECB policy is threatening the European project as a whole for the sake of short-term financial stability. The longer policy prevents the necessary catharsis, the more it contributes to the growth of populist or extremist politics.” Yep. That ‘catharsis’ worked really well when Chancellor Brüning did it, didn’t it?…
[In] the 1970s… stagflation led to a dramatic revision of both macroeconomics and policy doctrine. This time far worse economic events, and predictions by freshwater economists far more at odds with experience than the mistakes of Keynesians in the past, seem to have produced no concessions whatsoever.
Must-Read: : When Virtue Fails: “There are two narratives about the euro crisis….
…One… shocks happen, and when you establish a common currency without a shared government, you give countries no good way, fiscal or monetary, to respond…. The other narrative, however, favored by Berlin and Brussels, sees the whole thing as the wages of sin. Southern European countries behaved irresponsibly, and now they’re paying the price. What everyone needs to do, they say, is institute a reign of virtue, of fiscal responsibility with structural reform, and all will be well. So it’s important to note that the euro area’s locus of trouble is moving from the south to an arc of northern discomfort–to countries that don’t at all fit the stereotype of lazy southerners…. Finland is the new sick man of Europe. And the Netherlands… is doing slightly better than Italy but significantly worse than France and Portugal….
Finland has been hit by the fall of Nokia and the adverse effect of digital media on newsprint exports. The Dutch are suffering from a burst housing bubble, severe deleveraging, and an extra burden of austerity mania. But the overall point is that when things go wrong there’s no good answer. So maybe the woes of the euro reflect a bad system, not moral failure on the part of troubled nations? Das ist unmöglich!
Should Reads: