In his dismissive response to me, Brad DeLong provides some arithmetic that supposedly weighs against the Austrian theory of the business cycle as a plausible basis for understanding the current recession.The differences between DeLong and the Austrians are not to be resolved by doing the math but by understanding the theory. Tellingly, DeLong has overestimated and, at the same time, underestimated the significance of the housing bubble in the Austrians’ view of the current recession. FULL ARTICLE

Michael Pollaro says: “A $2.5 trillion deficit will create quite a waterfall on this graph, don’t you think?”

Here is the waterfall-deficit graph (with an attitude). I created it when the projected red ink was “only” $1.6 trillion, after which Obama was to cut it in half by the end of his first term.

Norman Barry, adjunct scholar of the Mises Institute, has died.

Professor Norman Barry It is with great sadness that the University has learned of the death this morning of Professor Norman Barry. As one of the foremost exponents of classical liberal theory in the United Kingdom, Norman established the foundation around which the study of politics developed at the University. His work as a scholar of Friedrich von Hayek, as a social and political theorist and as a writer in business ethics contributed greatly to the academic reputation of the University after his arrival in 1982. He received the ‘Liberty in Theory’ Lifetime Award from the Libertarian Alliance (LA) in 2005. Our condolences go to his colleagues, friends and family.

A graduate of the University of Exeter, Professor Barry lectured in Politics at Queen’s University of Belfast and at Birmingham Polytechnic (now the University of Central England) before being appointed as a Reader in Politics at the University of Buckingham in 1982. His books include Hayek’s Social and Economic Philosophy (1979), An Introduction to Modern Political Theory (1981), The Morality of Business Enterprise (1991), Classical Liberalism in an Age of Post-Communism (1996) and Business Ethics (1998). He was awarded a Chair in Social and Political Theory at Buckingham in 1984. He was also a visiting scholar at the Centre for Social Philosophy and Policy, Bowling Green State University, Ohio, and at the Liberty Fund, Indianapolis. He was a member of the Advisory Council of the Institute of Economic Affairs, London; the Institute for the Study of Civil Society, London; and the David Hume Institute, Edinburgh.

Here’s an interesting excerpt from an interview with David Card by the Minneapolis Fed’s Region (December 2006).

Is Card making the Austrian point that the perfectly competitive model (a.k.a. the simple supply and demand model) does not explain what actually goes on in labor markets? Has the infamous Card and Krueger really been misinterpreted?

Region: Your research on the effects of raising the minimum wage, much of which was compiled in your book with Alan Krueger, generated considerable controversy for its conclusion that raising the minimum wage would have a minor impact on employment.

Have you continued to conduct research on the impact of raising the minimum wage? And do you have an opinion about “living wage” legislation and the petition that’s been circulated recently with 650 or so economists calling for an increase in the minimum wage?

Card: I haven’t really done much since the mid-’90s on this topic. There are a number of reasons for that that we can go into. I think my research is mischaracterized both by people who propose raising the minimum wage and by people who are opposed to it. What we were trying to do in our research was use the minimum wage as a lever to gain more understanding of how labor markets actually work and, in particular, to address a question that we thought was quite important: To what extent does the simplest model of supply and demand actually describe how employers operate in the labor market? That model says that if an employer wants to hire another worker, he or she can hire as many people as needed at the going wage. Also, workers move freely between firms and, as a result, individual employers have no discretion in the wages that they offer.

In contrast to that highly simplified theoretical model, there is a huge literature that has evolved in labor economics over the last 25 years, arguing that individuals have to spend time looking for job opportunities and employers have to spend time finding employees. In this alternative paradigm a range of wage offers co-exist in the market at any one time. That broader theory is, I think, pretty widely accepted in most branches of economics. The same idea is used to think about product markets where two firms that sell very similar products may not charge exactly the same price. The theory explains a lot of things that don’t seem to make sense, at least to me, in a simple demand and supply model.

For example, what does it mean for a firm to have a vacancy? If a firm can readily go to the market and buy a worker, there’s no such thing as a vacancy, or at least not a persistent vacancy. During the early 1990s, when Alan and I were working on minimum wages, it was our perception that many low-wage employers had had vacancies for months on end. Actually many fast-food restaurants had policies that said, “Bring in a friend, get him to work for us for a week or two and we’ll pay you a $100 bonus.” These policies raised the question to us: Why not just increase the wage?

From the perspective of a search paradigm, these policies make sense, but they also mean that each employer has a tiny bit of monopoly power over his or her workforce. As a result, if you raise the minimum wage a little-not a huge amount, but a little-you won’t necessarily cause a big employment reduction. In some cases you could get an employment increase.

I believe that that model of the labor market is correct. There are frictions in the market and some imperfect information. It doesn’t mean that if we raised the minimum wage to $20 an hour we wouldn’t have massive problems, if we enforced it. Realistically, of course, the U.S. is never going to enforce a draconian minimum wage, nor is one ever going to be passed. However, our results don’t mean that minimum wages in other economies couldn’t have some effect.

I think economists who objected to our work were upset by the thought that we were giving free rein to people who wanted to set wages everywhere at any possible level. And that wasn’t at all the spirit of what we actually said. In fact, nowhere in the book or in other writing did I ever propose raising the minimum wage. I try to stay out of political arguments.

I think many people are concerned that much of the research they see is biased and has a specific agenda in mind. Some of that concern arises because of the open-ended nature of economic research. To get results, people often have to make assumptions or tweak the data a little bit here or there, and if somebody has an agenda, they can inevitably push the results in one direction or another. Given that, I think that people have a legitimate concern about researchers who are essentially conducting advocacy work. I try to stay away from advocacy of any kind, but that doesn’t prevent people from being suspicious that I have an agenda of some kind.

I’ve subsequently stayed away from the minimum wage literature for a number of reasons. First, it cost me a lot of friends. People that I had known for many years, for instance, some of the ones I met at my first job at the University of Chicago, became very angry or disappointed. They thought that in publishing our work we were being traitors to the cause of economics as a whole.

I also thought it was a good idea to move on and let others pursue the work in this area. You don’t want to get stuck in a position where you’re essentially defending your old research. I certainly think it’s possible that someone will come up with credible research documenting a situation where raising the minimum wage has a significant employment effect. I rather doubt we will see that right now because minimum wages are fairly low, at least in northern California where I live. My guess is that small raises in the minimum wage won’t have much of an effect.

Although Ben Bernanke has pledged to ensure a continuity between the Greenspan policies and his own, he differs in several important respects, including his endorsement of “inflation targeting.” Greenspan has always been against it. But Bernanke’s idea of “inflation targeting” is in need of some deconstruction. Bernanke is an advocate of inflation targeting. We should understand this to mean that Bernanke is a deflation-scared inflationist. FULL ARTICLE

Compare these two paparagraphs—the first from todays WSJ and the second from my review of Bob Woodward’s Maestro:

Mr. Greenspan has often reached outside economics to hone his insights, at times drawing on history, physics, Mozart and even Sherlock Holmes creator Arthur Conan Doyle for inspiration. In 1999, he tackled a key economic mystery with an analogy to the discovery of the planet Pluto. Scientists inferred Pluto’s existence from the unexplained behavior of Uranus’s and Neptune’s orbits, he told colleagues that year. Similarly, he inferred from the fact that both the inflation rate and unemployment were falling that productivity growth must be much higher than economists had thought.

***

We learn [from Bob Woodward's Maestro]that Greenspan studied the theory of relativity and regarded his hypothesis that productivity had increased as analogous to Einstein’s hypothesis that light would bend (p. 151), that his research staff considered their assignment to measure the change in productivity as “the economist’s equivalent of the Manhattan Project” (p. 173)

One way to become a leader in a field of study, such as macroeconomics, is to redefine the field such that people who are doing things other than what you’re doing are, by definition, in some other (now-undefined) field.

According to Edward Prescott, winner of the 2004 Nobel Prize, “[T]he meaning of the word macroeconomics has changed to refer to the tools being used [by Prescott and his cohorts] rather than to the study of business cycle fluctuations.”

And on the basis of a few examples of his and Finn Kydland’s tool-using behavior, Prescott tells us that “macroeconomics has changed as a result of the methodology that Finn and I pioneered. It is now that branch of economics where applied dynamic equilibrium tools are used to study aggregate phenomena.”

These remarks are from an edited version of Prescott’s Nobel address printed in the most recent issue of The Region (published by the Minneapolis Federal Reserve Bank). A couple of substantive remarks in that address are also worthy of note:

“One set of key business cycle facts is that two-thirds of business
cycle fluctuations are accounted for by variations in the labor input, one-third by variations in total factor productivity, and virtually zero by variations in the capital service input.”

And: “The welfare gains from eliminating business cycles are small or
negative.”

Anyone who wants to read more can find it here.

re: Modern Macroeconomics: Its Origins, Development and Current State, by Brian Snowdon (Northumbria University) and Howard R. Vane (Liverpool John Moores University), Aldershot: Edward Elgar, 2005 (forthcoming).

Take a look at this promotional material from Edward Elgar, which I just received this morning from Howard Vane. Edward Elgar is announcing the macro text to which I contributed the Austrian chapter. You’ll see a mention of my chapter in the second column of the second page–next-to-last paragraph. Also, see Chapter 9 in the Table of Contents.

Snowden and Vane wrote all the chapters except the ones on Post Keynesian School (Paul Davidson) and the Austrian School (Roger W. Garrison).

The 1994 version, in which I was an interviewee, was a pretty big success, especially in Great Brittain. I have high hopes that the 2005 version will gets some exposure for the Austrian School. I would think that anyone who teaches intermediate macroeconomics and wants to include the Austrian school would consider using this book.

This piece shows that Steven Landsburg needs a better armchair. He writes concerning an increase in the minimum wage: “Sure, you’ve lost your job. But don’t forget, this was a minimum-wage job in the first place.”

I’d flunk any Auburn sophomore who wrote this on an exam. Does Landsburg’s statement generalize into a dismissive attitute toward all the supposed harm done by price floors and price ceilings? Your being retained or released may be a marginal matter to the employer, but it may be an all-or-nothing matter to you.

He then writes: “In fact, the power of the minimum wage to kill jobs has been greatly overestimated. Nowadays, most labor economists will tell you that that minimum wages have at most a tiny impact on employment.”

It may have a small impact on total employment, but only because primarily minimum wage legislation redistributes employment–from the (would-be) working poor to the entry-level worker in a middle-income household and from the unskilled to the skilled. Ditch diggers lose their jobs. Trenchers with union operators get more jobs. The “tiny” effect is the net effect. But, of course, to focus on this net effect is to miss the perversity of the legislation.

One more point: Measured unemployment captures so-called “frictional unemployment” and not much else. To be counted as unemployed, you have to be actively looking for a job. People who are excluded from the labor force by the minimum wage do not continue to look. They may be unskilled, but they’re not stupid. Those jobs are gone. Many don’t even show up in the “discouraged worker” category that the BLS routinely reports. They’re just not a part of the labor force.