Economics is not hard - Part I: Don’t let professional economists tell you otherwise

[LargoWinch]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Largo, the patient isn't dying, it's dead. Or more precisely, Undead. EJ worries that Austrian Economics will kill the patient; but that's what you do to zombies. You kill them.

BuckarooBanzai, what if we are all ridding on the zombie's back?

[dummass]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

(deflation being defined as per the dictionary as "less money than goods"

Less money then goods was the last depression, when the US was running a surplus.

This time we are getting less money and less goods. Perhaps, that is why goods are not getting cheaper. Even if they cost the same, they feel more expensive in terms of our purchasing power.

[bart]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Less money then goods was the last depression, when the US was running a surplus.

This time we are getting less money and less goods. Perhaps, that is why goods are not getting cheaper. Even if they cost the same, they feel more expensive in terms of our purchasing power.

The definition is still 100% valid.

Less goods - yes.
Lots less money like the 1930s - the data I use doesn't show it. See The Great Depression tight parallels... busted (v 2.0)

[cjppjc]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Thanks Bart again for all your great charts.
I too feel the deflation sirens song. It just doesn't feel like inflation. Of course if the media changed the tone of their conversation.
It is a fasinating debate for sure.

[dummass]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Lots less money like the 1930s - the data I use doesn't show it. See The Great Depression tight parallels... busted (v 2.0)

Oooh...Live charts... I never thought to go back.

[bart]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Thanks Bart again for all your great charts.
I too feel the deflation sirens song. It just doesn't feel like inflation. Of course if the media changed the tone of their conversation.
It is a fascinating debate for sure.

My pleasure on the charts.

I know exactly what you mean about what it feels like, it gets to me too sometimes and I question if I'm really tracking correctly, or even if there's some hidden errors or logic faults in my various spreadsheets from hell.

But all I can do is call it like I see it, keep collecting data & facts, and try to stay on top of the various behind the scenes stuff as best I can - especially confidence issues (or should I say CONfidence? ).

Time will tell...

[bart]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Oooh...Live charts... I never thought to go back.

The text sure is out of date, but its also handy as a comparison to where we are now vs. mid 2009.

[c1ue]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

C1ue,

You have missed the point, but at least one other has not and I will start by pointing everyone to a recent New York Times Op-Ed from Thomas Friedman:

A Gift for Grads: Start-Ups By THOMAS L. FRIEDMAN Published: June 8, 2010

"If you have a son or daughter graduating from college this year, you’ve probably gotten the word. When meeting this year’s college grads it’s best not to ask: “Hey, what are you doing next year?” Too many recent graduates don’t have an answer. They can’t find jobs even remotely related to their fields. This year’s graduation theme is: “Don’t ask. Can’t say.”

We owe our young people something better — and the solution is not that complicated, although it is amazing how little it is discussed in the Washington policy debates. We need three things: start-ups, start-ups and more start-ups. ........."

http://www.nytimes.com/2010/06/09/op...homaslfriedman

Mr. Coles,

I submit that anytime you source Thomas Friedman as a counterpoint, that you tread where angels fear to.

The startup crap Mr. Friedman espouses is standard neoliberal propaganda which others including Mr. Andy Grove of Intel have resoundingly disproven.

Again, it is not that I feel your drive to free up capital from the bankster's grasp is misguided - it is that the fundamental problem isn't the allocation of capital as much as it is the misallocation of debt. And FIRE.

[rdrees]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

It is clear that you have done a lot of thinking and research into this; most certainly more than me. I didn't mean to suggest that I had any more knowledge or training on the subject. My three reasons are mostly based on personality and gut.

On the conspiracy theory thing, I wasn't really referring to tinfoil hats either. What I meant was that I have trouble believing that the government has entered into an orchestrated campaign to massively lie to us about inflation. Do they massage and tweak on the margins? As I said, that wouldn't surprise me. But if the shadowstat numbers are to be believed, then the government numbers are indeed massive lies. Call me naive, but I don't buy that.

You talk about the health/medical stuff. Why would the increase in the GDP be reflected in a one-one ratio with inflation? I don't see why it would. If people are consuming more medical services that would bump up GDP more than price, it would seem to me. So I'm not sure if I believe that disconnect is evidence of massive tampering.

Let me propose a disconnect with the shadowstats. I think we would both agree that housing prices, at least, have massively deflated since 2007--the national Case Shiller index is down nearly 30% since Q1 2007. And I think we would both agree that housing is the biggest proportion of a person's cost of living. And finally, I think we would both agree that housing is a major component of the CPI. But shadowstats says we have had 25% inflation over that same period? That the cost of everything else has so far outstripped the massive fall in housing costs? That's a major disconnect for me and another reason I just can't accept those numbers.

Now, I will reiterate that I don't necessarily believe that CPI and PPI are "perfect" or 100% accurate. I acknowledged that there are reasons to massage those numbers and I wouldn't be surprised if they were. So choosing to rely on those figures does not mean that I accept them as gospel. But I think they're more useful than the shadowstat numbers for the reasons I stated, including ease of access and the ability to talk to people in a language they understand (most normal folks probably haven't ever heard of shadowstats, but most have heard of CPI).

And I don't know where you live, but it surprises me that anyone has seen 25% inflation since 2007. I know this is a useless endeavor as an argument, but I can convey some facts of my experience: My housing costs are less since 2007 because I refinanced to a lower rate. My health insurance company withdrew from the market so I had to get a new one this year. The new premium was slightly less than the old one. I pay a lot less for gas now than in 2008 at least (can't remember 2007). I buy a soda most days from a local market and the price has barely changed over that time period (it went up about 10 cents in mid 2008, then back down 8 cents last year where it has stayed). They did raise the price at my kid's school for this coming year by 3% over last year, but I'm actually paying less this year because they introduced a plan where you get one free month if you pay the whole year in advance. My car insurance and home insurance have been the exact same for years. My cable bill is less than it was in 2007 because I cancelled for a while and got a great deal when I re-upped. My electricity bill is way down because I bought cheap CFLs at Costco and installed them.

I'm telling you these things not because I think you'll be convinced by it (as I've said before, I don't think anyone is ever convinced to a contrary view by anecdotal evidence), but because I want to give you some perspective as to why I have to call BS on those shadowstat numbers based on my personal experience. I don't know yours and won't question it. But here's some idea of mine, and if you'll assume I'm telling you the truth (which I am), I think you'd have to agree that there's no POOM in my world, or at the very least, the shadowstat numbers are totally inconsistent with it.

And finally, I actually agree with EJ on most things, too. I just have a hard time swallowing the "significant inflation by Q2 2010" prediction, which I don't think was accurate, and the idea that "significant inflation" of the kind seen in the shadowstats is imminent. But I think we agree on more than you think, Bart, because I don't think we'll see major deflation either (in other words, a sustained a major drop in prices). The environment just looks a lot more to me like "more of the same" flat/little bit of inflation for a while.

[rdrees]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Well, I don't really think this deflation/disinflation debate is going anywhere further than you say tomato, I say potato. I don't think anyone can deny that what has happened since 2007 is a major price event, whatever you want to call it, and pretty distinctly unlike any other price decline event since WWII, but if you want to equate it to other "disinflations" you're welcome to do so. To me, that's a bit like a person remarking after half their house burned down that it was "basically just a fireplace fire" because the entire house didn't go up in smoke.

Now on the economic theory thing, you're ignoring one part of the equation and conflating two distinct issues in the other.

First, you're mistakenly equating the supply of a good with the number of suppliers. If you work in software, I can understand why you might be confused on that point because software is a bit like a service in that the supply of software and the number of suppliers can roughly correlate. If five software engineers get laid off and one gets hired, that's an 80% decline in the number of software suppliers and you're likely to get something like an 80% decline in software production as well.

But that's not the case at all for most goods. If Wal-Mart opens a store and five mom and pops go out of business, there's an 80% reduction in the number of suppliers, but a 0% reduction in supply because Wal-Mart's physical plant is plenty big enough to hold all the goods from all five of the little mom and pop stores.

This confusion is messing up your analysis because it's the supply and demand curve, not the suppliers and demand curve. Reducing the number of suppliers does not reduce demand in any way. And here we come to the part you ignored: the demand curve. If demand is steady, a fall in supply (not suppliers) leads to higher prices. But it goes the other way, too. Assuming steady supply, when demand falls prices fall.

I think you'd have to agree with me that demand for many goods has fallen significantly during this Great Recession. Unemployment at close to 10% is a particularly brutal way to decrease demand, but it does the trick. All things being equal, that lowered demand equals lower prices under the supply demand graph.

So you counter by saying that the number of suppliers will go down in the bloody aftermath of the shrinkage of the market. But that's irrelevant to the supply demand curve. There's simply no reason to think that the remaining suppliers wouldn't want to provide as much supply as the new, lowered demand can stomach. In the wake of suppressed demand, the reamining suppliers shouldn't have any pricing power because if they try to inflate the price above the new, lower equilibrium price, their remaining competitors will undercut them or new players will enter the market and undercut them.

The only way that a supplier would have pricing power to raise prices above the new, lower equilibrium price would be if they were the only supplier and there were sufficient barriers to entry that would prevent another competitor coming along to undercut them at the appropriate price. In other words, a monopoly. The only other way would be for suppliers to collude to price fix, which is illegal and not what I think you our EJ are talking about.

Now, there is one sense in which remaining suppliers would have a little room to raise prices in the aftermath of demand destruction. In the cutthroat shakeout as demand collapses, some companies might end up undercutting the new, lower equilibrium price, either intentionally or unintentionally. When the dust settles, they may be able to get the prices a bit higher due to their overshoot. But this will still be a lower price than before the demand collapsed.

So under classical economic theory, Amazon cannot raise their prices if a couple competitors die out because new competitors will come back in.

Now you might shout, "wait a minute! Sometimes a supplier can't cut prices any further or they would go out of business." Except then you would be forgetting that when demand falls, the new, lower price point is at a lower supply point as well. In other words, the supplier doesn't have to produce as much as before to meet the new lowered demand, so they spend less. Not only do they need to purchase less raw material to make their good, but they can lay off people because they need fewer workers since they're making less of the product now. The employment part should sound awfully familiar to what we're seeing around us now.

Now, don't mistake me for a true believer in classical economics in the sense that I think these forces work perfectly every time. It's a human endeavor, after all, and demand can be sticky in some places, geographical and human factors come into play, etc. But the basic concept of "lower demand equals lower price" is pretty widely accepted, I think.

But EJ's statement is contrary to that. He says that even in the face of lower demand, suppliers will be able to RAISE prices. Is he confusing the number of suppliers with the supply of the good like you, MarkL? Or is he rejecting classical economics?

Another thing that confuses me about the statement is that it's somewhat contrary to another pretty widely-held view: that inflation is basically about money. I thought most people understood inflation to be about debauchment of the currency itself--the oversupply of dollars relative to demand that makes its price (value) fall. When the Fed prints too much money, all our dollars are worth less for all things. It seems unusual, then, for EJ to be talking about supply and demand for particular goods playing a part in his prediction for inflation, rather than the supply and demand of money itself.

I mean, I think of inflation as something that's completely across the board. Because the Fed over-printed, my dollar is worth less and can buy less of everything. But if some of the inflation EJ is predicting is because of supply/demand considerations for particular goods, then it won't be an across the board thing. Surely EJ would not suggest that all markets will be subject to upward pricing power by sellers: think housing or coffee shops, for example. Which means EJ's prediction for inflation (at least on this basis) is limited only to certain aspects of and markets within the CPI.

[c1ue]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

If Wal-Mart opens a store and five mom and pops go out of business, there's an 80% reduction in the number of suppliers, but a 0% reduction in supply because Wal-Mart's physical plant is plenty big enough to hold all the goods from all five of the little mom and pop stores.

The problem with this simplistic explanation is that the 5 mom and pop stores almost certainly had a much larger number of different suppliers than Wal-Mart.

So while the number of cleansers or knick knacks available at Wal-Mart likely didn't change vs. the 5 mom and pops - if anything they increased since Wal-Mart has far more storage space - ultimately the variety has gone down considerably. Equally so the lack of variety then prejudices Wal-Mart against all but the largest suppliers.

Over time you wind up with a Soviet style economy.

[bart]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

It is clear that you have done a lot of thinking and research into this; most certainly more than me. I didn't mean to suggest that I had any more knowledge or training on the subject. My three reasons are mostly based on personality and gut.

No worries, I was just adding other viewpoints and some facts.
Everybody has to make their own call.

On the conspiracy theory thing, I wasn't really referring to tinfoil hats either. What I meant was that I have trouble believing that the government has entered into an orchestrated campaign to massively lie to us about inflation. Do they massage and tweak on the margins? As I said, that wouldn't surprise me. But if the shadowstat numbers are to be believed, then the government numbers are indeed massive lies. Call me naive, but I don't buy that.

I'm not at all asking you to buy it - your description and view is very much *not* what I'm looking at. The CPI-U "lies" are not the result of eeeevil folk in a smoke filled room or similar.

The primary areas are both poor economics and understanding, and also the "natural" vested interests. For example, the government wants to and should control its expenses - like Social Security - so they set up the Boskin Commission in the mid '90s. The result was a set of changes in CPI to limit the yearly increases.

Another example - people change their eating habits and food choices when things get tight... so the BLS got into geometric weighting (the beef & chicken example for am earlier post) of food. But they ignored that one of the prime and original purposes of CPI was to track actual cost of living - that's at least quite stupid and short sighted in my opinion.
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You talk about the health/medical stuff. Why would the increase in the GDP be reflected in a one-one ratio with inflation? I don't see why it would. If people are consuming more medical services that would bump up GDP more than price, it would seem to me. So I'm not sure if I believe that disconnect is evidence of massive tampering.

I got lost here. My point about the differences in medical and CPI share of GDP is that, by severely under weighting medical in CPI it inevitably makes CPI lower than it should be.

Depending on whose data you use, medical costs have been going up between 7-14% per year - for many years. Roughly tripling the medical weight in CPI would increase CPI greatly.

Let me propose a disconnect with the shadowstats. I think we would both agree that housing prices, at least, have massively deflated since 2007--the national Case Shiller index is down nearly 30% since Q1 2007. And I think we would both agree that housing is the biggest proportion of a person's cost of living. And finally, I think we would both agree that housing is a major component of the CPI. But shadowstats says we have had 25% inflation over that same period? That the cost of everything else has so far outstripped the massive fall in housing costs? That's a major disconnect for me and another reason I just can't accept those numbers.

Yes - its about 25% and yes, housing is the biggest piece of CPI and houses are down about 25% since 2007 Q1 per CS.

What I believe you're missing and not seeing is that the actual out of pocket expenses for rent or a mortgage has not dropped much at all for the huge majority, and certainly not by 25%... and it is more than offset and then some just by the increasing costs of medical.

Now, I will reiterate that I don't necessarily believe that CPI and PPI are "perfect" or 100% accurate. I acknowledged that there are reasons to massage those numbers and I wouldn't be surprised if they were. So choosing to rely on those figures does not mean that I accept them as gospel. But I think they're more useful than the shadowstat numbers for the reasons I stated, including ease of access and the ability to talk to people in a language they understand (most normal folks probably haven't ever heard of shadowstats, but most have heard of CPI).

Fair enough - another area where agreeing to disagree applies

And I don't know where you live, but it surprises me that anyone has seen 25% inflation since 2007. I know this is a useless endeavor as an argument, but I can convey some facts of my experience: My housing costs are less since 2007 because I refinanced to a lower rate. My health insurance company withdrew from the market so I had to get a new one this year. The new premium was slightly less than the old one. I pay a lot less for gas now than in 2008 at least (can't remember 2007). I buy a soda most days from a local market and the price has barely changed over that time period (it went up about 10 cents in mid 2008, then back down 8 cents last year where it has stayed). They did raise the price at my kid's school for this coming year by 3% over last year, but I'm actually paying less this year because they introduced a plan where you get one free month if you pay the whole year in advance. My car insurance and home insurance have been the exact same for years. My cable bill is less than it was in 2007 because I cancelled for a while and got a great deal when I re-upped. My electricity bill is way down because I bought cheap CFLs at Costco and installed them.

It's dicey to deal with specifics, especially since you're talking about expenses rather than prices - and also not strictly dealing with apples to apples comparisons like (in theory) a Consumer Price Index should.

But... I imagine that your sewer, water and actual kwh electricity costs etc. are way up since 2007 - not usage, but actual raw prices.

I also can't comment on or judge your insurance costs but I suspect you're also not dealing with a strict apples to apples comparison in the policies or limits - and I also suspect that the service level is not as good (not unlike an earlier EJ example of bags of Fritos or whatever being the same price but smaller or using cheaper ingredients).

I could also post charts of food costs or the CRB/CCI and similar, but it'd be a bit like beating a dead horse.

You did take actions too like on your cable costs and a refi, so again - that's not apples to apples.

One additional point - taxes and fees and similar are not part of the CPI and never have been, which is a severe shortcoming of it... and they're certainly not down since 2007.

I'm telling you these things not because I think you'll be convinced by it (as I've said before, I don't think anyone is ever convinced to a contrary view by anecdotal evidence), but because I want to give you some perspective as to why I have to call BS on those shadowstat numbers based on my personal experience. I don't know yours and won't question it. But here's some idea of mine, and if you'll assume I'm telling you the truth (which I am), I think you'd have to agree that there's no POOM in my world, or at the very least, the shadowstat numbers are totally inconsistent with it.

No worries again - but I think you at least see what I'm talking about a bit better, whether my work or shadowstats work on CPI lies lines up with your experiences or not.

I do see that you don't have (or don't believe you have) significant POOM, but hopefully I've shown you at least a different view in the apples to apples area as well as OER, hedonics, Boskin, geometric weighting, etc. exposures and "BLS BS".

And finally, I actually agree with EJ on most things, too. I just have a hard time swallowing the "significant inflation by Q2 2010" prediction, which I don't think was accurate, and the idea that "significant inflation" of the kind seen in the shadowstats is imminent. But I think we agree on more than you think, Bart, because I don't think we'll see major deflation either (in other words, a sustained a major drop in prices). The environment just looks a lot more to me like "more of the same" flat/little bit of inflation for a while.

Cool - glad to hear that we're closer than I thought, especially on deflation.

For what its worth, most of my work does indeed show disinflation occurring and dead ahead, but when we get QE2 (or something truly ugly likely more/bigger wars or major defaults) - "Katie bar the door".

But EJ's statement is contrary to that. He says that even in the face of lower demand, suppliers will be able to RAISE prices. Is he confusing the number of suppliers with the supply of the good like you, MarkL? Or is he rejecting classical economics?

This is from another of your responses but I thought I'd add my $.02.

I can't comment on whether its classical economics or speak for EJ, but the simple answer is that its stagflation.

[aaron]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Americans love their credit, including American businesses. More businesses died this time around than in normal recessions (because of the excessive leverage and need for credit). Demand for business products and services did not go down as much. The process should continue.

Fewer competitors DOES equal higher prices. You think Ford would be charging the same amount if GM and Chrysler went out of business?

EJ's KAPOOM theory, at least in the near term, relies on Uncle Ben Bernanke's ability and desire to bring about inflation. We should take him at his word ... deflation will not be allowed to happen here. In fact, he has already said the economy is "unusually uncertain" --> That is Fed Speak for WE ARE GOING TO PRINT BABY!

[Jay]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

the difference being a debtor makes is that we couldn't take even the mild deflation the japanese have had off and on for 20 years. it would be much more devastating here, and so it won't be allowed to happen. it's time to go back and re-read bernanke's 2002 speech, which laid out the whole playbook: http://www.federalreserve.gov/BOARDD...21/default.htm

Thanks, that was a nice refresher. He has stayed true to the script. He's also a fairly lucid guy.

I found this part interesting:

Moreover, since the United States is a large, relatively closed economy, manipulating the exchange value of the dollar would not be a particularly desirable way to fight domestic deflation, particularly given the range of other options available.

I never considered the US a relatively closed economy. It also is worth noting when thinking of potential currency plays.

[Chris Coles]

Re: Economics is not hard - Part I: Don’t let professional economists tell you otherwise

Mr. Coles,

I submit that anytime you source Thomas Friedman as a counterpoint, that you tread where angels fear to.

The startup crap Mr. Friedman espouses is standard neoliberal propaganda which others including Mr. Andy Grove of Intel have resoundingly disproven.

Again, it is not that I feel your drive to free up capital from the bankster's grasp is misguided - it is that the fundamental problem isn't the allocation of capital as much as it is the misallocation of debt. And FIRE.

Apologies for the delay in reacting, (busy writing a paper on singularities), but can you please provide me with a reference to this statement. I will then be in a much better position to see if I can provide a repost to your assertions.

PS: Much prefer to being addressed as Chris. Mr Coles makes me feel old and gnarled, when instead, I like to feel like I am on my third wind on the long run into the uncertainty of a possible Century.