Obama's Summer Vacation

There is no doubt that Obama is media-savvy, so when he chooses a somewhat curious venue for a major speech, it is worth examining why. His speech at the New Economic School in Moscow on Tuesday is no different. A professor at that university speculates about Obama's reasons for choosing NES over more high-profile sites:

First, it is important that NES is a new institution, founded in 1992. Similar to the way Obama represented a new political paradigm for Americans who voted for him, NES also represents a new paradigm for the modern study of economics.

Second, Obama is the first U.S. president in many years to have built his political career not by dividing voters into separate ideological camps, but by searching for pragmatic and nonpartisan solutions. After 70 years of ideological domination by the state, the NES is continuing the traditions begun by such great Russian economists as Yevgeny Slutsky, Nikolai Kondratyev and Nobel Prize winner Leonid Kantorovich, whose work rose above ideological or national boundaries, as it should be in any scientific field.

More at the link, but maybe a more simple explanation is that Obama wasn't invited to a more prominent stage. After all, Obama has not shied away from grandiose settings for past speeches, and the Russians didn't seem interested in attracting a wide domestic audience for Obama.

Via Joshua Tucker at The Monkey Cage, who has more reactions to and context for Obama's trip to Russia.

Link Dump

-- Reconsidering Asia's inevitable takeover of the world.

-- IMF says things are getting better, but are still very, very bad.

-- Capital adequacy requirements under Islamic banking law [pdf].

-- Anil Kashyap's research page.

-- A Boston Review forum on Paul Collier's newest book -- Wars, Guns, and Votes -- featuring Krasner, Easterly, Birdsall, Diamond, McGovern, Miguel, and Collier himself. The debate spills over onto Easterly's turf.

-- Asking the dumb questions about financial reform:

No G-8 Climate Change Deal

They couldn't even reiterate what they decided last year, when Bush was negotiating for the U.S. and the Waxman-Markey had not yet been thought of: to cut emissions by 50% by 2050. Why? Because the entire developing world opposed the plan:

The failure to establish specific targets on climate change underscored the difficulty in bridging longstanding divisions between the most developed countries like the United States and developing nations like China and India. In the end, people close to the talks said, the emerging powers refused to agree to the specific emissions limits because they wanted industrial countries to commit to midterm goals in 2020, and to follow through on promises of financial and technological help.

“They’re saying, ‘We just don’t trust you guys,’ ” said Alden Meyer of the Union of Concerned Scientists, an advocacy group based in the United States.

Why don't they trust us? Hmm:

China, India and the other developing nations are upset that commitments to provide financial and technological help made during a United Nations conference in Bali, Indonesia, in 2007 have not translated into anything more tangible in the interim.

Mr. Meyer estimated that the United States, Europe and other industrial nations need to come up with $150 billion a year in assistance by 2020 to help develop clean-energy technology for developing countries, reduce deforestation that contributes to rising temperatures and help vulnerable nations adapt to changes attributed to greenhouse gases.

In other words, the developing world is saying "show us the money".

I thought Waxman-Markey was supposed to make it easier to get international cooperation. Instead, the richest countries in the world can't even re-commit to the plan that President Bush signed on to last year, which had no direct requirements but rather a vague target 40+ years in the future. Imagine what actual negotiations would be like.

The Data Do NOT Show the Paradox of Thrift

I'm seriously beginning to think that Krugman doesn't care about making sense any more. Instead, he'd rather use vaguely economic-sounding arguments and cherry-picked statistics to support his normative priors, and then scream "Treasury View! Treasury View!" whenever somebody questions him. Earlier this week, Krugman willfully misread a graph in order to argue in favor of a second stimulus. In today's example, Krugman misreads the graph below and says that it shows incontrovertible proof that the Paradox of Thrift is real, therefore Keynes was right, therefore Krugman is right, therefore we should have a second stimulus. Look at the graph:



What does it show? It shows that net national saving has gone down since the recession began. This is what an advocate of the paradox of thrift would predict. But why has it gone down? Because the government has spent a ton of money! Personal savings is way up, and corporate savings are only down a small amount (likely due to reduced investment caused by excess inventories and the credit crunch; this could reverse within the next few quarters) and not nearly enough to off-set the rise in personal savings. If you take the government out of the picture, then net national saving has gone up and the paradox of thrift is wrong.

Of course that's a huge "if". It's not clear what the personal savings rate would be if the government were not spending in deficit. But Krugman rejects the rational expectations story (Treasury View!) that individuals react to government deficits by saving for future tax increases. If that is true, then the reverse must be true as well: individuals should not react to fiscal neutrality by lowering savings. And if that is true, then the above graph actually shows that in the absence of government deficits net savings would still go up, so the paradox of thrift is wrong, Keynes is wrong, Krugman is wrong, and the case for a second stimulus is weakened*.

Krugman can't have it both ways: either people alter their behavior in response to government deficits or they don't. If they do, then the stimulative effects of deficit spending are at least partially off-set by reduced demand from individuals (Treasury View!). If they do not, then the paradox of thrift does not exist in the present situation.

Like the Laffer Curve, the paradox of thrift is definitionally true at some margin. But it is not clear that we are at that margin or even anywhere near it.

*Though not destroyed; personal consumption is still negative, so Krugman could still argue that stimulus is needed to boost aggregate demand. This demand-side argument is the crux of Keynesianism. But the supply-side argument doesn't support his case, and actually works against it since some of the demand-side effects will be negated by supply-side responses.

Iran Organizational Chart

I wanted to pass along this chart courtesy of Nathan Gonzalez, author of Engaging Iran: The Rise of a Middle East Powerhouse and America’s Strategic Choice, by way of the Monkey Cage's Joshua Tucker. The chart shows the organizational structure of the Iranian government and society. I wish I would've had this in my hands a couple of weeks ago when I kept hearing about the Expediency Council, Assembly of Experts, Guardian Council, Basij and a host of others without knowing where they stood relative to each other.

Art Imitates Social Science

Last night my wife and I watched The Treasure of the Sierra Madre, the classic Bogey film about prospecting for gold in Mexico. Although it was meant as a morality play, I was surprised by how much economics and international relations theory there was in the film. A partial list:

1. Game theory, game theory, game theory: The whole film was textbook game theory. The gains from cooperation, the costs of defection, credible commitment problems, security dilemmas, the role of signaling, it's all there (and more). There is one-thousand times as much game theory in Sierra Madre as there is in A Beautiful Mind. Interestingly, though the film was made several years after von Neumann and Morgenstern's classic book, the novel the film was based was published twenty years prior.

2. Division of labor: While the two younger prospectors had the start-up capital and energy, the old-timer had the necessary knowledge.

3. The tragedy of the commons: Technically, the prospectors were trespassing and the gold they found didn't belong to them. Because of that they are constantly under threat from bandidos, federales, indigenous populations, and other prospectors. They had to extract as much gold as they could in a short amount of time, hoarding all the gains for themselves before they were forced to share. True, this isn't the classic "tragedy of the commons" because the gold is not reproducible as are fish stocks or grazable land, but the applications to modern resource extraction (and accompanying security dilemmas) are even greater for that fact.

4. The scarcity of resources: The only reason they were searching for gold, of course, is because its relative scarcity makes it a valuable commodity. But even beyond that, the scarcity of gold led the prospectors to race against time to extract as much as they could before their operation was found out. There's also a bonus for conservationists: after they had drained the vein dry, the prospectors clean up their operation to leave the mountain as they had found it (less a good amount of gold, of course), despite the fact that it cost them valuable time and energy. Interestingly, this lost time may have been their downfall but I think that is coincidental.

There's more, including gains from trade, the necessity of strong institutions for economic development, the political economy of immigration, and the role of incentives in shaping behavior. The film must be viewed as essentially realist (I can't say why without spoiling it), but there is a heavy dose of institutionalism and constructivism as well.

Drezner and his Foreign Policy pals ran their lists for best films about International Relations several months back, and none of them included Sierra Madre. After watching it, I think it is a notable omission.

Basel's Revenge

Takafumi Sato, the commissioner of Japan's Financial Services Agency (the main regulatory agency in Japan) argues that stricter capital adequacy requirements for banks would not have prevented the present crisis. Indeed, he argues, they may have caused it:

I share the determination to prevent a repeat of the financial crisis. I also believe capital adequacy regulations have a key role in our prevention efforts. Medicine, however, should be prescribed properly, as any effective medicine has side-effects as well. Suppose stronger regulations make banks issue more equity. Then the capital market will expect greater profits in return, and bank management may be tempted to meet such profit pressure by taking more risks. Was this, however, not the cause of the catastrophe?

Also, bigger capital requirements may induce complex risk-taking. If bankers add simple risks, regulators will notice and request more capital. In order to satisfy both regulators’ demand for a high capital-to-risk ratio and investors’ demand for return on equity, bankers may want to take risks in a sophisticated manner, inventing exotic products and creating a darker shadow banking system. It would be too optimistic to presume that we can stop this completely.

The most elaborate shadow banking system flourished in the US, the jurisdiction with the world’s most demanding capital requirement – 5 per cent of so-called “tier 1” capital over total assets. “Excess is as bad as shortfall,” said Confucius. Shortfall in bank capital indeed destabilises the financial system. Many banks’ capital bases need to be strengthened and we should fortify capital adequacy regulations. However, excessive capital requirements can result in a big banking system making big profits by taking big complex risks, defeating the whole purpose.

This follows a common theme at IPE@UNC: the exotic financial instruments at the root of this crisis were created to give banks opportunities for risk-taking. There is no other reason for their existence. The general response to this observation is to advocate even stricter regulations to prevent this sort of regulatory arbitrage from recurring. But as Sato says, "it would be too optimistic to presume that we can stop this completely". Nor is it even obvious why we should. Capital adequacy standards were created to strengthen systemic stability, not to weaken it. If strict capital adequacy ratios incentivize bankers to take less transparent risks, then perhaps our regulatory system should focus on improving transparency rather than mandating a higher number.

Prescience

So, a couple weeks ago I wrote (regarding an Ezra Klein post): "Undoubtedly, this will lead [Klein] to suggest that what we really need to do is abolish the Senate."

Just two days ago Klein writes: "The main thing we could do to improve the functioning of the legislative process would be to dissolve the U.S. Senate."

Cool.

The U.S. Plays Chicken with the BRICs

A few days ago, Dr. Oatley wrote about the attempt by the U.S. House of Representatives to cap greenhouse emissions and coerce other countries into doing the same:

This time it is the Waxman-Markey cap and trade legislation. The intent of the legislation--reduce greenhouse gases--addresses concerns of the Democrats' median voter, who cares deeply about climate change. Producers, however, are concerned that the higher energy costs generated by cap and trade will disadvantage them relative to Chinese firms who are not facing higher energy costs because China does not regulate greenhouse gases. The solution, added late to the legislation, is to impose tariffs on goods from countries that do not regulate GHG (i.e., China). Nobody really wants to impose tariffs, but the hope is that the threat of tariffs will be sufficient to induce China to agree to international regulations on CO2 emissions.

This realist view is often borne out in the politics of international regulations. But in this case it is difficult to see whether the U.S. has the muscle to coerce China (and others) into adopting the U.S.-preferred strategy. Krugman loves it, but the push-back from China and India has already begun:

The Chinese government also said it believed the carbon tax proposal violated the principle set out in the Kyoto protocol that developed and developing countries should respond to climate change together but with different responsibilities. “[It] severely harms developing countries’ interests,” Mr Yao said.

The WTO report, which gave a cautious nod to carbon tariffs, was prepared by the organisation’s secretariat, which can advise and facilitate discussion among the WTO’s members but does not set the rules itself. If a government such as China’s challenged such taxes, the case would be decided by the WTO’s dispute settlement system – panels of independent trade experts and lawyers.

Some trade lawyers point out that past WTO decisions have permitted governments to restrict trade in order to protect natural resources. But others say the case law is patchy, and it is hard to prove that such measures are being applied in a fair and consistent manner – a necessary condition for meeting WTO rules.

And the Indians have quite a point:

With 1.1bn people – roughly a sixth of the world’s population – India has one of the lowest per capita emission levels, with 1.2 tonnes per head, about 4.6 per cent of total global emissions. “India has not polluted – we are bearing the brunt of global climate change caused by the developed countries and we are being asked to curb emissions,” he said. “I find this ludicrous.”

However, India’s carbon emissions are expected to rise sharply in the future, especially as the country tries to meet its power deficit through the rapid development of generating capacity. India uses about 450m tonnes of highly-polluting coal for power generation each year, a figure that Mr Ramesh said would rise to about 1bn tonnes in less than a decade.

“There is no running away from our karma – without coal, we have no economic future,” he said.

That last sentence is the crux: India and China will not yield because they cannot. They can credibly commit to hurt U.S. consumers and producers in retaliation (in this case, retaliation could be as simple as accepting reduced economic gains from trade; of course, they could also slap retaliatory tariffs or simply stop buying U.S. bonds). So the question is whether the U.S. thinks that the environmental gains from carbon tariffs will out-weigh the economic costs of a trade war during a nasty recession. More specifically, does the president and the 60th most-progressive senator think so? So far, Obama has indicated that he is not interested in playing chicken with the Chinese.

From my seat (nowhere near the table), it appears that the provision will be stripped from the Senate version of the bill, and/or the bill will not pass. The costs to American consumers of challenging China and India (and Canada) have already become too great. That could change if the U.S., E.U., Japan, and others make a concerted stand against the BRICs, but that would allow the BRICs to accuse the rich world of preventing the development of some of the world's poorest people in order to fulfill their pet preferences. And they would be right.

Addendum: China may have actually started the trade war over a month ago.

We Hold These Truths to Be Self-Evident

Short July 4th reading list:

-- The Declaration of Independence.

-- The least free places on earth.

-- Benjamin Franklin plagiarizes Captain America.