Pity the poor economics undergraduate. Seduced by descriptions of a discipline that “examines how a society provides for its needs”, he or she hands over their student loan and enters the tent with the others. When they wake up the next day, it’s all utility functions, general equilibrium models, externalities, stochastic variations, and trying remember what the difference between monetary and fiscal policy is.
When the jargon does pass into everyday speech, it’s usually a bad sign. Three years ago, few of us had ever heard of “subprimes” for instance. Sometimes though, a term may be technical but its meaning is clear, as in Paul Krugman’s response to our post about the OECD Economic Outlook. Krugman takes issue with Pier-Carlo’s Padoan’s definition of “contractionary”, and the fundamental disagreement is about aspects anybody reading the New York Times will understand, such as inflation and unemployment.
Too often however, debates about economics are conducted in a language that clouds the issues even for experts. So when they want to make themselves understood, they abandon the concepts and vocabulary of the profession and resort to analogy and metaphor.
The debate on the latest Outlook is no exception. Writing in the Financial Times, Martin Wolf launched a stinging attack (as the papers say to distinguish them from soothing attacks) on the Outlook’s recommendations, notably on the need for fiscal consolidation. To get his point across, he writes “Let us translate this proposal into ordinary language: ‘If you are unwilling to starve yourself when desperately ill, nobody will believe you would adopt a sensible diet when well.’ But might it not make sense to get better first?”
Nouriel Roubini uses an even more striking image to describe the mixture of bad loans and other dodgy ingredients that went into creating derivatives: “If you put rat meat and trichinosis-laced pig parts into your sausage, then combine it with lots of other kinds of sausage (each filled with equally nasty stuff), you haven’t solved the problem; you still have some pretty sickening sausage.” And once the financial system starts digesting that…
There’s nothing new about this. In an article about the need for clarity in discussing economic policy, Robert Skidelsky quotes Jonathan Swift, writing in the 18th century: “Through the contrivance and cunning of stock jobbers there hath been brought in such a complication of knavery and cozenage, such a mystery of iniquity, and such an unintelligible jargon of terms to involve it in, as were never known in any other age or country.”
Unfortunately, clarity doesn’t necessarily mean accuracy. Take a look at RBS’s accounts of itself in 2007 when the bank was going to hell in a hand basket. Below a bunch of photos of young people grinning inanely at percentage signs, we read that: “RBS is a responsible company. We carry out rigorous research so that we can be confident we know the issues that are most important to our stakeholders.” Presumably making money wasn’t one of them. To be fair to RBS, they do “recognise that some people’s financial needs may be better fulfilled by organisations outside the banking sector”. The British taxpayers who bailed them out for instance.
Taxpayers everywhere have a right to be informed in intelligible language about the trillions of dollars they’ve been asked for over the past couple of years, and to be told what happened to all the promises of profound change. For the time being though, words written by Rudyard Kipling almost a hundred years ago seem to sum up the situation: “Then the Gods of the Market tumbled, and their smooth-tongued wizards withdrew”. Was that the end of the bad old ways? Kipling goes on to bemoan the fact that “the burnt Fool’s bandaged finger goes wabbling back to the Fire”.
Future of capitalism debate with Robert Skidelsky at OECD Forum (Thursday 27 May 2010)
Last week, we reported on the latest OECD Economic Outlook. Writing in the New York Times, Paul Krugman was highly critical of the Organisation’s analyses and policy recommendations. Here we summarise Krugman’s argument and the reply by OECD Deputy Secretary-General and Chief Economist Pier-Carlo Padoan.
Krugman argues that the most ominous threat to the still-fragile economic recovery is the spread of a destructive idea: the view that now, less than a year into a weak recovery from the worst slump since World War II, is the time for policy makers to stop helping the jobless and start inflicting pain.
He contrasts this with actions taken when the financial crisis first struck, and most of the world’s policy makers responded by cutting interest rates and allowing deficits to rise.
He goes on to say that “The extent to which inflicting economic pain has become the accepted thing was driven home to me by the latest report on the economic outlook from the Organization for Economic Cooperation and Development… what [the OECD] says at any given time virtually defines that moment’s conventional wisdom. And what the OECD is saying right now is that policy makers should stop promoting economic recovery and instead begin raising interest rates and slashing spending.
What’s particularly remarkable about this recommendation is that it seems disconnected not only from the real needs of the world economy, but from the organization’s own economic projections.”
His demonstration is as follows. The OECD declares that interest rates should rise sharply over the next year and a half to head off inflation, but inflation is low and declining, and OECD forecasts show no hint of an inflationary threat.
The reason the OECD wants to raise rates is in case markets start expecting inflation, even though they shouldn’t and currently don’t.
Likewise, although the OECD predicts that high unemployment will persist for years, it asks that governments cancel any further plans for economic stimulus and that they begin fiscal consolidation next year.
Krugman insists that both textbook economics and experience say that slashing spending when you’re still suffering from high unemployment is a really bad idea — not only does it deepen the slump, but it does little to improve the budget outlook, because a weaker economy depresses tax receipts, wiping out any gains from governments spending less.
Moreover, the reasons for doing this don’t hold. Investors aren’t worried about the solvency of the US government and interest rates on federal bonds are near historic lows. And “even if markets were worried about U.S. fiscal prospects, spending cuts in the face of a depressed economy would do little to improve those prospects”.
This contrasts with the OECD’s calls for cuts because inadequate consolidation efforts “would risk adverse reactions in financial markets.”
Krugman is worried that this view is spreading, citing the case of “conservative members of the House, invoking the new deficit fears, [who] scaled back a bill extending aid to the long-term unemployed… many American families are about to lose unemployment benefits, health insurance, or both — and as these families are forced to slash spending, they will endanger the jobs of many more.
He concludes by stating that “more and more, conventional wisdom says that the responsible thing is to make the unemployed suffer. And while the benefits from inflicting pain are an illusion, the pain itself will be all too real.”
In reply, Padoan starts by saying that they differ on the strength of the recovery, with the OECD more optimistic than critics of the Outlook. Unemployment will take time to fall to acceptable levels, but this will be underway by 2011. A double-dip recession cannot be ruled out, but is not very likely. The risks of running big fiscal deficits and a zero interest rate monetary policy are rising.
Recent events in Europe are a warning sign and even though the US has the world’s biggest capital market, the risks are shifting. In this unsettled financial environment, governments need to get out ahead of markets, because otherwise they will be hostage to them.
On inflation, he argues that it is not a risk today, but could be in two-years’ time. Monetary policy needs to be forward looking and this means easing up on monetary stimulus in anticipation.
“To be clear, we are not arguing for contractionary policy, but for progressively less stimulus. In fact, stimulus should not be withdrawn completely until the economy returns to full employment. But the process should be started fairly soon, to take into account the well known long and variable monetary policy lags.”
How quickly interest rates should rise depends on many things, especially inflation, inflation expectations and the pace of growth. It also depends on fiscal policy, which influences growth.
“All else equal, if fiscal policy turns out to be tighter than in our projection, then monetary policy should be looser to compensate.”
A big crisis, but was it big enough? That’s the question on the mind of Larry Elliott, economics editor of The Guardian newspaper following last week’s OECD Forum in Paris. Elliott went along to one of the event’s most talked-about sessions, “The Future of Capitalism”, which featured contributions from – among others – economic historian Robert Skidelsky and commentator Anatole Kaletsky (who previewed some of the issues raised in the session in the OECD Observer).
Writing later in The Guardian, Elliott reflects on a warning from another session speaker, the OECD’s Adrian Blundell-Wignall, that the crisis may not have been severe enough to prompt much-needed reforms.
“Speaking in a personal capacity … Blundell-Wignall warned there was likely to be a second, even bigger, meltdown unless there was radical reform of the financial sector, including splitting up banks with both retail and speculative arms,” Elliott writes.
“Although this is a sombre conclusion, it may prove accurate. The current crisis has yet to have the cathartic impact of the slump of the 1930s, when the economic cost was far higher and the links between the failure of the old laissez-faire model and the drift to political extremism were plain.”
Geoff Gallop of The Sydney Morning Herald offers another view of the session here.
Over on the OECD’s YouTube channel you can see video interviews from the Forum, including one with Lord Skidelsky, who weighs in on the debate over fiscal consolidation. Or you can just scroll down the page to catch up on the OECD Insights Blog postings from the Forum.
This presentation introduces the book, Measuring Innovation – a New Perspective, which can be found at www.oecd.org/innovation/strategy/measuring