Germany’s Beveridge Curve

Today’s blog post is all about the so-called Beveridge curve. It describes the negative empirical relationship between the unemployment rate and the job vacancy rate. It can be used to gauge the state of the labour market and generally indicates where an economy is in the economic cycle (Bleakley and Fuhrer, 1997). In recessionary times, the economy moves towards the lower right corner due to an increase in unemployment and a reduction in vacancies. In expansionary times, the economy moves towards the upper left corner due to a natural fall in unemployment and an increase in vacancies posted by companies (figure 1). The position of the Beveridge curve itself is dynamic over time. It can shift out- or inward due to changes in factors like matching efficiency. An example would be the implementation of effective training programmes by the government which reduce the skills mismatch between the readily available labour and the job openings in the country. Such policies would tackle structural unemployment, shifting the Beveridge curve to the left (figure 1).

beveridge-curve-1
Figure 1 – The Stylised Beveridge Curve (Own work)

While figure 1 represents a stylised Beveridge curve, one can obtain actual data from the OECD, Eurostat or other national databases to estimate the curve empirically. I plotted the empirical Beveridge curve for Germany over the period from 2006 to 2016 in figure 2. First, the job vacancy rate can be obtained from Eurostat and is represented on the y axis. To be more exact, it is the vacancy rate for industry, construction and services (except activities of households as employers and extra-territorial organisations and bodies). The unemployment rate can be obtained from the Deutsche Bundesbank and is represented on the x axis. They have seasonally adjusted unemployment data readily available but I used the quarterly unadjusted unemployment rate because the vacancy rate quoted in Eurostat is likewise unadjusted. Also, in order to distinguish between the different states of the economic cycle, I divided the empirical Beveridge curve into the expansionary and recessionary periods in the Euro area as defined by CEPR (2016). Since 2006 there have been two major downturns, namely the global financial crisis and the European debt crisis:

Start End Euro Area
1993Q4 2008Q1 Expansion
2008Q2 2009Q2 Recession (Global Financial Crisis)
2009Q3 2011Q3 Expansion
2011Q4 2013Q1 Recession (European Debt Crisis)
2013Q2 today Expansion

Having described my methodology, let’s look at the diagram in detail. First, we can compare the state of the labour market in the first quarter of 2006 with the second quarter of 2016 and it becomes obvious that the German economy has moved along its Beveridge curve from a low vacancy/ high unemployment state to a high vacancy/ low unemployment state over the last decade. In the second quarter of 2016, the job vacancy rate quoted by Eurostat was at 2.4 percent while unemployment was at a historic low of 6 percent in comparison to unemployment rates in the years before.

beveridge-curve-2
Figure 2 – Germany’s Beveridge Curve (Data source: Deutsche Bundesbank, 2016; Eurostat, 2016)

Second, we can look at the Euro area expansionary and recessionary periods sequentially and examine potential changes in the German labour market. In the run-up to the global financial crisis (dark blue section), we can see a significant movement along the curve to the left, indicating major improvements in the German labour market. Over the financial crisis itself (green section), we observe a significant temporary dislocation of the Beveridge curve in the first two quarters due to a reduction in the job vacancy rate. However, the vacancy rate jumped back up in the third quarter of the recession followed by an increase in the unemployment rate of 1.2 percent from the last quarter of 2008 to the first quarter of 2009. The subsequent expansionary period (grey section) has overall led to further increases in the vacancy rate and reductions in unemployment despite considerable temporary jumps. More recently, however, the German economy has appeared unimpressed by the weak European macroeconomic outlook (blue and orange section) and its labour market recovered quickly from the increase in unemployment of around 1 percent over the course of the European debt crisis at the end of 2012. Since the second quarter of 2013, its job vacancy/ unemployment rates cluster in the upper left corner, signalling a strong labour market and a relative resilient national economy compared to the rest of Europe. Lastly, one could argue that, according to the data, Germany has not experienced major permanent shifts in its Beveridge curve over the last decade but rather movements along the curve. This stands in contrast with economies like the US where economists debate over a permanent outward shift in the Beveridge curve over the global financial crisis with higher structural unemployment rates for a given job vacancy rate post-recession (Zumbrun, 2014).

So that’s me for today; my post looked at the Beveridge curve both theoretically and empirically for the case of Germany. I hope you enjoyed my work and many thanks for reading!

Jasse


References

Bleakley, H., and Fuhrer, J.C. (1997). Shifts in the Beveridge Curve, Job Matching, and Labor Market Dynamics. New England Economic Review, Sept./Oct. 1997, p.3-19.

CEPR (2016). Euro Area Business Cycle Dating Committee. Available at: http://cepr.org/content/euro-area-business-cycle-dating-committee [Accessed 01 November 2016]

Deutsche Bundesbank (2016). Time series BBDL1.Q.DE.N.UNE.UBA000.A0000.A01.D00.0.R00.A: Unemployment registered pursuant to section 16 Social Security Code III / Germany / Social Security Code III and Social Security Code II / Rate / Unadjusted figure. Available at: https://www.bundesbank.de/Navigation/EN/Statistics/Time_series_databases/Macro_economic_time_series/its_details_value_node.html?https=1&tsId=BBDL1.Q.DE.N.UNE.UBA000.A0000.A01.D00.0.R00.A [Accessed 01 November 2016]

Eurostat (2016). Job Vacancies Database. Available at: http://ec.europa.eu/eurostat/web/labour-market/job-vacancies/database [Accessed 01 November 2016]

Zumbrun, J. (2014). Peter Diamond Thinks the Beveridge Curve Might Not Tell Us Much of Anything. The Wall Street Journal Online. Available at: http://blogs.wsj.com/economics/2014/08/26/peter-diamond-thinks-the-beveridge-curve-might-not-tell-us-much-of-anything/ [Accessed 01 November 2016]

Advertisements

Endogenous Preferences

Today’s post is going to be related to my research for my Honours dissertation. I have decided to look into risk attitudes for my dissertation because this area has gained momentum recently with more and more studies confirming a positive link between the macroeconomic environment and individuals’ risk attitudes.

One of the topics in my literature review is preference stability and what standard economic theory has to say about this. The textbook story is that agents have ‘exogenous preferences’, meaning that their preferences are determined outside the economic system. In this case one can think of agents’ preferences as inherited traits. Everyone is endowed with a certain set of preferences but they are stable over time. Yet economic theory often goes beyond this preference stability, assuming that these sets of preferences are also similar among people. Stigler and Becker in their well-known paper De Gustibus Non Est Disputandum (1977) propose that economists should regard people’s tastes as stable over time and comparable to other people’s tastes. They provide the following analogy for the ‘economics view’ on preferences:

On this interpretation one does not argue over tastes for the same reason that one does not argue over the Rocky Mountains-both are there, will be there next year, too, and are the same to all men. […] On our preferred interpretation […] the economist continues to search for differences in prices or incomes to explain any differences or changes in behaviour. (p.76)

Stigler and Becker’s paper exemplifies that standard economic theory has traditionally eschewed differences in preferences between people and changes in preferences of an individual over time from economic analyses. In 1998, Samuel Bowles saw this dominance of preference similarity and stability in economics as an opportunity to propose an alternative theory of ‘endogenous preferences’ in which he defines preferences as “reasons for behavior, that is, attributes of individuals that (along with their beliefs and capacities) account for the actions they take in a given situation” (p.78).

In the first step, Bowles recognised that every society – whether capitalist or communist – has some ‘allocation rules’; that is, a set of rules for the production and distribution of its goods and services. In the second step, Bowles argued that these allocation rules lead to characteristic interaction patterns in society and that these allocation rules shape human development and influence individuals’ personality, habits, tastes and values.

His alternative approach allowed Bowles to identify five important ways how economic institutions may have a significant impact on agents’ preferences; these are:

  1. Framing and situation construal
  2. Intrinsic and extrinsic motivation
  3. Effects on the evolution of norms
  4. Task performance effects
  5. Effects on the process of cultural transmission

While the first four reasons establish a direct link between economic institutions and preferences, the fifth is of indirect nature. The first reason for a link between economic institutions and individuals’ preferences is that institutions ‘frame’ the choices available to individuals. In particular, a market environment will be a significantly different frame compared to a non-market environment. This leads to behaviour and attitudes depending on the context (i.e. the frame). The second reason recognises the influence of extrinsic market rewards on individuals’ preferences. Bowles argues that, for example, a change in reward structures in society can also alter individuals’ motivations and attitudes. The third reason highlights that economic institutions have a significant impact on the evolution of norms which subsequently shape individuals’ preferences. Task performance effects are also of importance because the tasks which the agents carry out depend on the economy’s overarching economic institutions and how they structure work. Lastly, economic institutions indirectly shape the cultural learning process itself.

It is due to this five reasons that Bowles sees preferences as ‘endogenous’ rather than ‘exogenous’. In his view preferences are both inherited and learned. While the inheritance argument is in line with the reasoning of standard economic theory, the argument that preferences are learned is based on a ‘social interaction approach’. Important evidence for his view comes from examples like the conformist transmission of preferences. What is more, Bowles points out that ‘endogenous preferences’ are not only more realistic but have also macroeconomic policy implications. For example, he argues that preference endogeneity implies a new type of market failure and that these behavioural foundations, i.e. endogenous preferences, must feature in governance and policy making.

I reviewed Bowles theory of ‘endogenous preferences’ today because it potentially allows for a link between the environment and individuals’ risk attitudes, hence explaining phenomena time varying risk attitudes or countercyclical risk aversion. I hope this will prove valuable for my ideas in the field. Also, if you are interested to hear more about the research by Samuel Bowles, there is a talk he gave at the World Bank in 2014 on Economic Incentives and Social Preferences on YouTube which also features his work on endogenous as well as state dependent preferences.

Many thanks for reading!

Jasse

 


References

Bowles, S. (1998). Endogenous Preferences: The Cultural Consequences of Markets and other Economic Institutions. Journal of Economic Literature XXXVI (March 1998), 75-111.

Stigler, G.J. and Becker, G.S. (1977). De Gustibus Non Est Disputandum. The American Economic Review 67(2), 76-90.

Endogenous Money Supply

This week’s macroeconomics class dealt with the question whether central banks set the interest rate or the money supply. According to the standard undergraduate macroeconomics textbook, the central bank sets the supply of money and can expand and contract it through open market operations (Blanchard, Amighini, Giavazzi, 2013). To be more exact, it is acknowledged that the central bank has full control only over the monetary base, which includes currency in circulation and bank reserves. But because the monetary base determines the money supply via the so-called money multiplier, it is generally said that the central bank increases the money supply if it increases the monetary base and decreases the money supply if it decreases the monetary base. The standard explanation is normally accompanied by a diagram of the ‘money market’ with a vertical Money Supply schedule, as shown below. Such a vertical line is equivalent to saying that the Money Supply is exogenously determined, because it does not depend on the interest rate.

money marke.png
The Money Market

However, when taking a closer at look what central banks actually do, one might be surprised that central banks rarely choose the supply of money deliberately. On the contrary, the money supply need not be fixed because central banks target the short-run interest rate instead. In the UK, for example, this is called the official Bank Rate, set by the Bank of England’s Monetary Policy Committee. The current Bank Rate is 0.25%. It was last cut in August from 0.5% and the next decision by the Monetary Policy Committee whether to revise or maintain the Bank Rate is going to be due on 3 November (BoE, 2016). A major implication of interest rate targeting, as practiced by the Bank of England, is that the money supply is endogenous, i.e. it is determined within the system rather than outside the system. Hence our Macro lecture revisited the theory and introduced the more realistic endogenous money story this week. It is broadly based on the undergraduate endogenous money teaching model by Fontana and Setterfield (2009). The following diagram summarises the exact mechanism of the endogenous money supply process.

endogenous-money-supply
Endogenous Money Supply Process (based on Fontana and Setterfield, 2009, p.134)

First, the central bank sets the short-run interest rate to a certain value, say i1= 0.25% as in the UK at the moment. At this rate it fully satisfies commercial banks’ demand for base money. Graphically this is shown through a perfectly elastic base money supply schedule in yellow. In words, one might say that the central bank is a price-maker and a quantity-taker.

In the second step, commercial banks pass this interest rate of the central bank on to households in the credit market. Thereby the interest rate charged by commercial banks is called the bank loans rate (rL1). It is set as a fixed mark-up over the short-run interest rate charged by the central bank in order to make a profit on their loans to households. Again, because commercial banks set a certain loans rate rather than the supply of credit, they are price-makers and quantity-takers with a perfectly elastic credit supply schedule in blue (CS). They fully satisfy the demand for credit by creditworthy households at the going loans rate. Next we need to look at the demand for credit (CD). It depends negatively on the commercial banks’ loans rate. When the loans rate is high, there is little demand for credit. Conversely, at a low loans rate demand for credit is going to be high. Ultimately, the equilibrium quantity of credit (C*) created in the credit market is at the point where the downward sloping credit demand schedule of households and the perfectly elastic credit supply schedule of commercial banks intersect; that is Point A.

In the third step, the credit market equilibrium feeds into the economy. This is because of the circular flow of the loans obtained by households. They are going to be receipts of someone else who, in turn, deposits the money in a bank account. This is why bank loans create bank deposits one-for-one in the diagram. This is captured by the Loans Deposit (LD) schedule in the panel on the bottom right.

In the fourth step, these bank deposits need to be supported by monetary reserves as a precautionary means for reducing the instability of fractional reserve banking and avoiding public panics etc. The exact Deposit Reserves schedule is going to depend on the reserve requirements mandated by the central bank. Yet because it is going to be a fraction of the overall bank deposits created, it will be a straight line proportional to the Loans Deposit (LD) schedule.

In the fifth and final step, we are back in the upper left corner of the diagram, which is the market for monetary reserves. Having determined the reserve requirements of the commercial banks, the central bank will supply this amount of money but at the price of the central bank (the short-run interest rate i1).

In sum, the exogenous money supply approach taught in introductory macroeconomics at undergraduate level states that the central bank sets the base money and, via the money multiplier, the money supply. This then determines the interest rate. In contrast, the endogenous money supply approach, we are now learning in intermediary macroeconomics moves closer towards reality and what central banks, like the Bank of England, actually do. With the endogenous money supply approach, we acknowledge that most central banks target the interest rate. This, in turn, determines the volume of loans in the economy and ultimately the money supply and the base money. As Carlin and Soskice (2006) point out, the chain of causality in the endogenous money supply approach is reversed and approximates the actual behaviour of central banks better than the exogenous money supply story. In fact, Fontana and Setterfield use their endogenous money model together with a model for pricing, production and the labour market to explain the mechanisms underlying the global financial crisis. They show that their model based on endogenous money supply captures the credit crunch together with its adverse impacts on output and unemployment.

Thanks for reading!

Jasse


References

Blanchard, O., Amighini, A., & Giavazzi, F. (2013). Macroeconomics: A European perspective. Harlow: Pearson.

BoE (2016). Monetary Policy Committee Decisions, Minutes and Forecasts. Available at: http://www.bankofengland.co.uk/monetarypolicy/Pages/decisions.aspx [Accessed 28 September 2016].

Carlin, W., & Soskice, D. (2006). Macroeconomics: Imperfections, institutions, and policies. Oxford: Oxford University Press.

Fontana, G. and Setterfield, M. (2009). Macroeconomics, endogenous money and the contemporary financial crisis: a teaching model. Int. J. Pluralism and Economics Education, 1(1/2), pp.130–147.

 

Thought Experiment – A Macro-Game of Bankers and Households

Today is going to be a creative post, that is a thought experiment, and anyone who is familiar with Game Theory will recognise the Prisoner’s Dilemma underlying my game. I was inspired by Schelling’s Micromotives and Macrobehavior to think a little bit more about the group dynamics and interactions within the economy. Especially in Macroeconomics we tend to assume that economic actors have certain preferences and, given these preferences, make optimal decisions to maximise their utility. Yet this might hold for “free market activities” which do not have a social dimension, but normally we would expect to see contingent behaviour; that is behaviour “that depends on what others are doing” (Schelling, 1978, p.17).

Let’s assume that our fictitious economy consists of only banks and households. We also have an impartial government as regulator on the side. Both banks and households have two choices; they can either play it safe or play it risky. In particular, banks can decide to sell safe products or risky products. Likewise, households can play it safe by not taking on excessive debt, or they can play it risky and invest in risky assets or take out large mortgages for their dream house. In sum, we have two players and two choices in our economy. To maximise their payoffs (think profit, income or wealth) both households and banks want to play it risky. In particular, the bar underneath the payoff “3” indicates that “play risky” is the dominant strategy for each player.

banks and consumers.png

Having set up our game, let’s start with an economy just after a recession. Government tightened financial regulation over the downturn which prevents banks from selling risky products and provides households with proper incentives to pay down their debt and not take out risky loans. So we are in the upper left corner of our game matrix. Banks and households must play it safe, because “play risky” is not a feasible option. This is indicated by the dotted red line. One might call this “social organisation” as legitimate government intervention or, if favouring a free market without any government action, dictatorship. However, in our game the government with its role as regulator stabilizes the unstable equilibrium.

For a while our economy works pretty well. Consumers pay down their debts and are happy to play it safe. Banks are happy to provide their customers with safe products. But over time vivid memories of the past recession fade and government regulation feels too tight, given that our economy is doing well. Having paid down their debt, consumers feel prepared to build their dream house. Their aspirations for wealth and status rise. Banks return to business as usual and seek to maximise their profits. They start lobbying government to deregulate financial markets and they will eventually succeed. Likewise, consumers will start to advocate a removal of the strait jacket and government will have to listen. As the barriers for households and banks fall, so does the “social organisation”. Our equilibrium in the upper left corner becomes unstable. Both consumers and banks now have the incentive to play it risky. They will end up in the bottom right corner of our game matrix eventually.

Households and banks can play it risky for some time, meaning that the negative payoffs compared to the coordination on “play safe” in the upper left corner might not be obvious right away. This is because risky choices do spur economic growth, entrepreneurial activity and innovation. Yet they probably also trigger a speculative bubble, including excessive debt and risk-taking, in our economy.

Left to their own devices, households and banks continue to play it risky. But at some point the bubble bursts due to rising financial instability and euphoria turns into fear. Households and banks call for the government to step in. On the one hand, banks probably need financial support. On the other hand, consumers want more protection and might need financial support as well. The government agrees to step in conditional on tightening financial regulation. In sum, we are back in the upper left corner of our game matrix with a renewed “social organisation” enforced by government and a stable play-it-safe equilibrium.

The goal of my hypothetical game is not to model a real-world economy but to illustrate the social dynamics underlying macroeconomic outcomes. While the game might not be perfect, it is intended as a nudge to get the bigger picture of contingent behaviour. The game exemplifies the coordination failure together of the two groups without an impartial third party with whom they can contract for social organisation. Both banks and households would be better off playing it safe all the time. Yet, in my game we are going to see cyclical behavior. The drive to maximise profits and increasing aspirations for wealth and status will always induce banks and consumers to advocate for less regulation over time.

Many thanks for staying with me until the end of my thought experiment!

Jasmin


References

Schelling, T.C. (1978). Micromotives and Macrobehavior. New York: W.W. Norton & Company.

Behavioural Macro

The summer went by quickly and in preparation for my Honours year at university I have read a lot. My reading list contained mostly books on Behavioural Economics. Thereby one of the jewels is Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George Akerlof and Robert Shiller. I came across this book in the first place because I intend to apply prospect theory and reference dependence to risk attitudes in my dissertation in order to explain dynamic risk taking behaviour of economic actors over time. This includes a discussion of why my hypothesis matters for the macro-economy. I see important links between individuals’ risk attitudes at micro-economic level and market outcomes in aggregate. For this Akerlof and Shiller’s book has proven to be a gold mine. Inspired by pure Keynesian Macroeconomics it is packed with behavioural theories and real world economics.

In Behavioral Macroeconomics and Macroeconomic Behavior Akerlof makes his behavioral approach even more explicit in calling the field Behavioral Macroeconomics. In discussing six macroeconomic phenomena inconsistent with New Classical Economics he sets the scene for a return to behavioral microfoundations in Macroeconomics. Rather than boring undergrads to death with efficient market hypotheses, rational agent models, the natural rate theory or universal optimising behaviour in all aspects of economic life, our standard Macroeconomics education should take a leaf out of Akerlof’s book and start becoming real- world economics, that is Behavioural Macro… In adopting such a perspective I would expect positive externalities, such as reduced student absenteeism. Hence a more behavioural perspective on Macroeconomics would actually become a positive-sum game; for lecturers as well as students.

I encourage you to check out Akerlof’s paper and his book co-authored with Robert Shiller if Behavioural Macro sounds like your thing!

Jasse


References

Akerlof, G.A. (2002). Behavioral Macroeconomics and Macroeconomic Behavior. The American Economic Review, 92(3), 411-433.

Akerlof, G.A., and Shiller, R.J. (2009). Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism. Princeton, NJ: Princeton University Press.

The Peculiar Relationship of the Interest rate and the Rate of Inflation

Today’s post is going to be about the impact of the interest rate on the rate of inflation. This is because I stumbled across this twice today. In one of my Economics classes my professor claimed that higher interest rates lead to higher rates of inflation while in my Macroeconomics class which teaches the Liquidity Preference Model and the AD/AS Model it would be that higher interest rates lead to lower rates of inflation in the short run. So let’s shed light on their relationship.

First, let’s revisit the standard Macroeconomics Liquidity Preference and AD/AS Model. Taken together they provide the conventional answer how changes in the money supply affect the economy in the short run as well as in the long run. It is also called the money transmission mechanism. Consider what happens if the Central Bank decides to increase the interest rate. In order to do so it can either engage in open market operations or set the official cash rate directly. However, both tools are equivalent in the Liquidity Preference Model with the outcome that interest rates rise and in response the demand for money (MD) falls. In the AD/AS Model the increase in the interest rate alters aggregate demand, because at least investment is negatively related to the interest rate. In particular, a rise in the interest rate decreases investment and shifts the AD curve to the left. As a result (1) output falls and (2) the price level falls. Hence an increase in the interest rate is expected to be deflationary in the short run. In the long-run, however, the demand for liquidity in the Liquidity Preference Model will adjust. Because the aggregate price level is lower people will demand less currency which shifts the MD curve downward and which causes the interest rate to return to its long-run steady state. Simultaneously, in the AD/AS Model the SRAS curve will shift as nominal wages adjust. As a result (1) output rises back to its initial level and (2) the price level falls further. Hence, in the long run inflation and interest rates fall in tandem.

In sum, an increase in the interest rate is predicted to lead to lower inflation in the short run. In the long run, however, the relationship is less clear if there is a relationship at all. This depends on what is happening in the AS/AD model, i.e. whether the economy shifted away from potential GDP or whether it shifted towards potential GDP because of the change in the interest rate and whether there is deliberate government intervention. While the interest rate will return to its long run steady state the price level might remain unchanged, increase again or decrease further.

Let’s contrast this with the Neo-Fisherian View and what it predicts what will happen to inflation when interest rates rise. After some research I found a great video by George Waters of Illinois State University on The Fisher relation and monetary policy from which I have taken the graph included below. The starting point is the so-called Fisher relation. It states that the real interest rate is equal to the nominal interest rate adjusted for (expected) inflation. Assuming that the real interest rate is stable in the short run one can rearrange the relation so that the nominal interest rate (i) equals the fixed real interest rate, which is practically a constant, plus inflation (π). Waters points out that the assumption of a fixed real interest rate is valid as long as savings behaviour and the returns to capital are stable in the short run. Because the real interest rate is held constant, one can draw the Fisher relation as an upward sloping line with the intercept being at the fixed real interest rate and a slope of 1, as shown in the diagram below.

Fisher relation
(Source: Waters, 2015)

So the diagram depicts essentially a positive relationship between the nominal interest rate and the rate of inflation. Hence in the Neo-Fisherian point of view an increase in the interest rate actually increases inflation. If this were to hold a Central Bank could raise inflation by raising the nominal interest rate rather than lowering it. This result stands in contrast with the predictions of the standard textbook Liquidity Preference and AD/AS Model which I presented before.

But which theory is right? Is it the classical Keynesians or the Neo-Fisherians? As Scott Sumner (2015) points out, probably “both sides are right, and both sides are wrong”. An argument for the Neo-Fisherians is that the nominal interest rate does indeed seem to match changes in trend inflation over any extended time period. An argument for the Keynesian view is that the money transmission mechanism acts as a signalling device, meaning that interest rate cuts signal an expansionary monetary policy and interest rate increases signal a contractionary monetary policy to the public (Sumner, 2015).

So where does this leave us with? There seems to be no clear-cut answer to the relationship of interest rates and the rates of inflation at the moment and with contradicting economic theories and empirical evidence leaning towards a positive relationship there will need to be more research in the future. As nominal interest rates currently hit the zero lower bound this will be an interesting debate to follow. Some researchers have taken it as a ‘natural experiment’ to explore essentially the impact of an interest rate peg at zero. There is an ongoing debate about the Neo-Fisherian idea in the blogosphere and there are new working papers coming out which now even include concepts like Behavioural Macroeconomics (Smith, 2015). For example, a more recent working paper by John Cochrane (2016) titled “Do Higher Interest Rates Raise or Lower Inflation?” makes the case for a positive relationship with only weak evidence for lower inflation…

Jasse


Cochrane, J.H. (2016). Do Higher Interest Rates Raise or Lower Inflation? [Pdf] Retrieved from http://faculty.chicagobooth.edu/john.cochrane/research/papers/fisher.pdf

Smith, N. (2015, July, 12). Woodford vs. the Neo-Fisherians. Retrieved from http://noahpinionblog.blogspot.co.nz/2015/07/woodford-vs-neo-fisherians.html

Sumner, S. (2015, May 19). Neo-Fisherism, missing markets, and the identification problem. Retrieved from http://www.themoneyillusion.com/?p=29429

Waters, G. (2015, July 31). The Fisher relation and monetary policy [YouTube Video]. Retrieved from https://www.youtube.com/watch?v=n8GAmiTGJII

Daily Reading: Life Among The Econ

Having finished Thaler’s and Sunstein’s bestseller Nudge recently, I somehow ended up with the second edition of Debunking Economics by Steve Keen (2011). It is more or less an in insiders’ tip for its reckoning with economic theory, going through its flaws both at micro- and macroeconomic level. To be honest, I had not heard about Keen until recently. But then my Macroeconomics lecturer turned to a discourse of the Global Financial Crisis in 2008. Focusing on Fisher’s Debt Deflation Theory and Minsky’s Financial Instability Hypothesis, Steve Keen’s work came into play and I actually ended up catching up on that week’s lecture material with some of Steve Keen’s numerous Youtube videos.

Being quite impressed by Keen’s online lectures I decided to broaden my reading list with his post-Keynesian book Debunking Economics. First of all it is heavy (literally) with more than 450 pages of pure Economics. Second, this is clearly not an easy-going book. I admire his style of writing but it makes the book also less accessible. Being an Economics undergraduate I can, for example, mostly follow his argumentation in chapter 3 ‘The Calculus of Hedonism’ but I am certain it would be hard to sell to a ‘foreigner’ and I am sure I will be mentally challenged over the course of the book.

While still ploughing through the first part, the very opening of Keen’s fourth chapter “Size Does Matter” caught my interest. It refers to Leijonhufvud’s 1973 rather sarcastic paper Life Among The Econs. Keen refers to this paper because it touches upon Economists’ obsession for (strictly downward-sloping) demand and (strictly upward-sloping) supply analyses to find the one and only equilibrium in an economy or a market. However, the overarching idea of observing academic Economists through the lens of an anthropologist initially sounded absurd to me. But what followed hit the nail right on the head and so I decided to have a go at Leijonhufvud’s paper.

First of all, Leijonhufvud’s ‘Life Among The Econs’ (1973) is sarcastic through an through. There is the hypothetical Econ tribe which social structure has the two dimensions of caste and status. While caste is the basic division, status follows at the next level with a network of status relationships of every Econ. What is more, Econs call their castes ‘fields’. Several fields are mentioned by Leijonhufvud (1973). Besides the Micro and the Macro, there is also the Math-Econ and the Develops but there is no clearly set hierarchy despite the general observation that the Math-Econs are being the priests above all. The Econs work in distinct social units, i.e. the villages or ‘depts’, and almost all castes come together and interact in these depts. Thereby the status of the Econ derives from his ability to make ‘modls’ of his field while the trouble that they overall do not seem to have practical use is widely ignored. In particular, the most basic modl of both the Micro and the Macro are called the Totems of the two castes. While the Totem of the Micro is the S-D Model, the Macro’s Totem is the IS-LM Model. Leijonhufvud (1973) points out that both castes adore their Totems to such an extent that intermarriages seem impossible. At the same time they collectively are firm believers in their Totems while there is a decreasing amount of implementarists who question both castes’ modls. Overall, the future of the Econ is bleak to put it into Leijonhufvud’s words. The Econ tribe suffers from poverty, high population growth and there is no reason to hope that the disintegration of Econ culture is about to reverse. The political organisation of the Econ is weakening while rural-urban migration is increasing and Econ turnover from dept to dept is on the rise, even for the seniors among the Econs. What is more, Leijonhufvud (1973) predicts “alienation, disorientation, and a general loss of spiritual values” (p. 336) which could mark the end for the tribe in the future.

That is a really brief overview on Leijonhufvud’s paper but there is much more to it and I recommend anyone with a good taste of humour and sarcasm to have a go at it! It really made my day!

Jasse


Keen, S. (2011). Debunking Economics: The Naked Emperor Dethroned? New York, NY: Zed Books.

Leijonhufvud, A. (1973). Life Among The Econ. Western Economic Journal, 11(3), 327-337. Retrieved from http://www.econ.ucla.edu/alleras/teaching/life_among_the_econs_leijonhufvud_1973.pdf