Tyler Cowen's Blog, page 198

Mexico City Recommendations

I will be in Mexico City next week (con la familia). Recommendations and suggestions welcome!

Breaking Bones

It’s sometimes said that conservative economists are heartless bastards who don’t understand the evil of unemployment or what it’s like to live on a low income. Edward Lambert from the left-of-center Angry Bear proves that to get what they want some on the left can be equally heartless.

I would love to support continued aggressive policy to bring the economy back to full employment, but the social cost of inequality is sickening. And if stopping this disease means putting the economy back into a recession, then so be it…It is like re-breaking a bone to set it straight. If the re-breaking of a bone is not done, the bone won’t work correctly in the future. It is proper medicine.

…Current day economists seem squeamish…

Hat tip: Scott Sumner.

Should we regulate Bitcoin?

There is a new paper by Jerry Brito, Houman Shadab, and Andrea Castillo, the abstract is here:

The next major wave of Bitcoin regulation will likely be aimed at financial instruments, including securities and derivatives, as well as prediction markets and even gambling. While there are many easily regulated intermediaries when it comes to traditional securities and derivatives, emerging bitcoin-denominated instruments rely much less on traditional intermediaries. Additionally, the block chain technology that Bitcoin introduced for the first time makes completely decentralized markets and exchanges possible, thus eliminating the need for intermediaries in complex financial transactions.

In this article we survey the type of financial instruments and transactions that will most likely be of interest to regulators, including traditional securities and derivatives, new bitcoin-denominated instruments, and completely decentralized markets and exchanges. We find that bitcoin derivatives would likely not be subject to the full scope of regulation under the Commodities and Exchange Act because such derivatives would likely involve physical delivery (as opposed to cash settlement) and would not be capable of being centrally cleared. We also find that some laws, including those aimed at online gambling, do not contemplate a payment method like Bitcoin, thus placing many transactions in a legal gray area.

Following the approach to Bitcoin taken by FinCEN, we conclude that other financial regulators should consider exempting or excluding certain financial transactions denominated in Bitcoin from the full scope of the regulations, much like private securities offerings and forward contracts are treated. We also suggest that to the extent that regulation and enforcement becomes more costly than its benefits, policymakers should consider and pursue strategies consistent with that new reality, such as efforts to encourage resilience and adaptation.

Along related lines, you might consider Adam Thierer’s excellent new book Permissionless Innovation: The Continuing Case for Comprehensive Technological Freedom.

Facts about livestock theft in Punjab, Pakistan

There is yet another paper on this topic, I know you are weary of it, but I remain glued to the screen, so here goes:

Stock theft is an endemic crime particularly affecting deep rural areas of Pakistan. Analysis of a series of cases was conducted to describe features of herds and farmers who have been the victims of cattle and/buffalo theft in various villages of Punjab in Pakistan during the year 2012. A structured interview was administered to a sample of fifty three affected farmers. The following were the important findings: i) incidents of theft were more amongst small scale farmers, ii) the rate of repeat victimization was high, iii) stealing was the most common modus operandi, iv) the majority of animals were adult, having high sale values, v) more cases occurred during nights with crescent moon, vi) only a proportion of victims stated to have the incident reported to the police, vii) many farmers had a history of making compensation agreements with thieves, viii) foot tracking failed in the majority of the cases, ix) all the respondents were willing to invest in radio frequency identification devices and advocated revision of existing laws. The study has implications for policy makers and proposes a relationship between crime science and veterinary medicine.

The link is here, and for the pointer I thank Ben Southwood.  This is in fact a significant and understudied topic in development economics, namely small-scale predation in rural settings.

Not surprisingly, that piece appeared in the Berliner und Münchener tierärztliche Wochenschrift.

Gideon Rachman on Europe and the eurozone

From a Gideon Rachman FT blog post, this is still my view as well:

1. As Kerin Hope, our Athens correspondent, makes clear in a fine post – the political situation in Greece is arguably deteriorating, rather than improving. What is true for Greece is true for Europe as a whole. The European parliamentary elections in May are likely to yield quite shocking results – with the rise of far-right and far-left parties in core countries, such as France. This could be destabilising, to put it mildly.

2. As I argued in a recent column, the real economy in important countries such as Italy is still in very bad shape.

3. The euro has been saved – for now. But the underlying structural problems of a common currency that is not backed by a political union are still unresolved. And not much closer to resolution, either.

None of that means that it is necessarily irrational to make a short-term bet on Europe. But anybody who thinks the euro-story is over, is likely to get a nasty shock at some stage.

I would again stress the point that the economics of the eurozone crisis are entirely solvable (though unpleasant).  It is managing the politics of so many disparate nations that makes it tricky, and it is not obvious whether this dimension of the problem truly has been solved.  And on the economics side, the eurozone is encountering deflation risk, and arguably the main problems are moving from the periphery to France and Italy.  If you don’t think Italy can resume normal economic growth anytime soon, it is not clear how any of the plans are supposed to end up working.

Here is a good analysis of the new Greek bond deal.

I have one dinner in San Francisco

It should be in a Tyler Cowen sort of place.  Probably not in the center of town, but still in SF proper.  Where should I go?

Thank you for your suggestions.

More Matt Rognlie on Piketty

From the comments:

Krugman correctly highlights the importance of the elasticity of substitution between capital and labor, but like everyone else (including, apparently, Piketty himself) he misses a subtle but absolutely crucial point.

When economists discuss this elasticity, they generally do so in the context of a gross production function (*not* net of depreciation). In this setting, the elasticity of substitution gives the relationship between the capital-output ratio K/Y and the user cost of capital, which is r+delta, the sum of the relevant real rate of return and the depreciation rate. For instance, if this elasticity is 1.5 and r+delta decreases by a factor of 2, then (moving along the demand curve) K/Y will increase by a factor of 2^(1.5) = 2.8.

Piketty, on the other hand, uses only net concepts, as they are relevant for understanding net income. When he talks about the critical importance of an elasticity of substitution greater than one, he means an elasticity of substitution in the *net* production function. This is a very different concept. In particular, this elasticity gives us the relationship between the capital-output ratio K/Y and the real rate of return r, rather than the full user cost r+delta. This elasticity is lower, by a fraction of r/(r+delta), than the relevant elasticity in the gross production function.

This is no mere quibble. For the US capital stock, the average depreciation rate is a little above delta=5%. Suppose that we take Piketty’s starting point of r=5%. Then r/(r+delta) = 1/2, and the net production function elasticities that matter to Piketty’s argument are only 1/2 of the corresponding elasticities for the gross production function!

Piketty notes in his book that Cobb-Douglas, with an elasticity of one, is the usual benchmark – and then he tries to argue that the actual elasticity is somewhat higher than this benchmark. But the benchmark elasticity of one, as generally understood, is a benchmark for the elasticity in the gross production function – translating into Piketty’s units instead, that’s only 0.5, making Piketty’s proposed >1 elasticity a much more dramatic departure from the benchmark. (Keep in mind that a Cobb-Douglas *net* production function would be a very strange choice of functional form – implying, for instance, that no matter how much capital is used, its gross marginal product is always higher than the depreciation rate. I’ve never seen anyone use it, for good reason.)

Indeed, with this point in mind, the sources cited in support of high elasticities do not necessarily support Piketty’s argument. For instance, in their closely related forthcoming QJE paper, Piketty and Zucman cite Karabarbounis and Neiman (2014) as an example of a paper with an elasticity above 1. But K&N estimate an elasticity in standard units, and their baseline estimate is 1.25! In Piketty’s units, this is just 0.625.

And this:

What does this all mean for the Piketty’s central points – that total capital income rK/Y will increase, and that r-g will grow? His model imposes a constant, exogenous net savings rate ‘s’, which brings him to the “second fundamental law of capitalism”, which is that asymptotically K/Y = s/g. The worry is that as g decreases due to demographics and (possibly) slower per capita growth, this will lead to a very large increase in K/Y. But, of course, this only means an increase in net capital income rK/Y if Piketty’s elasticity of substitution is above 1, or if equivalently the usual elasticity of substitution is above 2. This is already a very high value, and frankly one to be treated with skepticism.

Meanwhile, it is even harder to get growth in r-g, which most readers take to be Piketty’s central point. Suppose that in recent decades, r has been roughly 5% while g has been 2.5%, and suppose that g will ultimately fall to around 1%. In Piketty’s framework, this implies an increase in steady-state K/Y of 2.5. If there is an elasticity of 1 (in Piketty’s units), this implies a decrease in r from 5% to 2%, and thus a *decrease* in the gap r-g from 2.5% to 1%. The point is that with this unit demand elasticity and the exogenous net savings assumption, it is the ratio r/g rather than the difference r-g that is constant, which means that a decline in g leads to a proportionate decline in r-g. (Note that Krugman’s review is ambiguous about this distinction.)

What would we need to obtain even a tiny increase in r-g in this setting – say, of half a percentage point? We would need r to fall from 5% to only 4% while g fell from 2.5% to 1%, increasing r-g from 2.5% to 3%. But given the 2.5-fold increase in K/Y, a decline in r by a factor of only 1/5th implies an elasticity of substitution (in Piketty’s sense) of nearly 4. This implies an elasticity of substitution in the *usual* gross production function sense of nearly 8, not plausible by any stretch of the imagination.

Unless I’m missing something, the formal apparatus in Piketty’s book simply is not capable of generating the results he touts. There are two very simple issues that break it quantitatively – first, the distinction between elasticities of substitution in the gross and net production functions; and second, the fact that as g falls, an extraordinarily high elasticity of substitution is necessary to prevent r from falling along with it and actually compressing the arithmetic gap between r and g. Perhaps there are modifications to the framework that can redeem it, but as it currently stands I’m baffled.

I believe Matt is correct.  I would simply note that diminishing returns to capital — relative to other factors of production — are likely to hold in the long run.  See also these earlier MR comments by Rognlie and Harless.  And here are Piketty’s lecture notes.

 

Assorted links

1. The invention of the slurpee (furthermore, Winnipeg, Manitoba is the “slurpee capital of the world”).

2. Is there a wonk bubble?

3. There is no great stagnation (take your goldfish out for a walk).  And the rise of the professional gunfighter.

4.Speculative estimates of the cost of snooping (13 cents per person per day?).

5. Ken doesn’t like Barbie.  I did like these tweets.

6. The century that is Norway.  Sadly, there will be a remake.

Sentence of the Day

Photovoltaic energy is already so cheap that it competes with oil, diesel and liquefied natural gas in much of Asia without subsidies.

More here.

Is an internship worth more than majoring in business?

Yes, it seems that may be so.  There is a new paper (pdf) by John M. Nunley, Adam Pugh, Nicholas Romero, and R. Alan Seals, the abstract is this:

We use experimental data from a r�esum�e-audit study to estimate the impact of particular college majors and internship experience on employment prospects. Our experimental design relies on the randomization of r�esum�e characteristics to identify the causal e�ffects of these attributes on job opportunities. Despite applying exclusively to business-related job openings, we �nd no evidence that business degrees improve employment prospects. Furthermore, we �find no evidence linking particular degrees to interview-request rates. By contrast, internship experience increases the interview-request rate by about 14 percent. In addition, the “returns” to internship experience are larger for non-business majors than for business majors.

Their underemployment paper (pdf) is also interesting:

We conduct a r�esum�e audit to estimate the impact of unemployment and underemployment on the employment prospects facing recent college graduates. We �find no evidence that employers use current or past unemployment spells, regardless of their length, to inform hiring decisions. By contrast, college graduates who became underemployed after graduation receive about 15-30 percent fewer interview requests than job seekers who became “adequately” employed after graduation. Internship experience obtained while completing one’s degree reduces the negative e�ffects of underemployment substantially.

No wonder the market-clearing rate for internship is so…low.