Economics

Housing Bubble Peaking?

Posted by Peter on September 29, 2005
Posted in: Investing. Tagged: .

The rationalizations that I’m noticing from people who want to deny the existence of a housing bubble are becoming more obviously contrived.
Last spring, the strangest one I noticed was this Tyler Cowen post, which notes the unusual rent-buy ratios, then ignores that anomaly and devotes the rest of the post to questioning a weaker argument for the housing bubble theory.
This month I noticed someone on a private mailing list who had enough sense to realize that current housing prices probably depend on a continuation of unusually low and stable long-term interest rates expressed confidence that the “psychological consensus against inflation” would make that likely. If such a consensus existed, I would have expected to see people expressing concern that the Fed’s policy being too inflationary, when in fact I see people jumping at any excuse (e.g. a hurricane) to advocate a more inflationary policy. Plus I see politicians racing to expand the federal debt to levels that will give them massive incentives to inflate or default when the baby boomers retire.
Now Chris Hibbert comes up with some stranger rationalizations:

The worst historical cases that I know of were times when housing prices dropped 10 or 20 percent.

I thought he read Marginal Revolution regularly, but that comment suggests he is unaware of this description of Shiller’s apparently more accurate housing price history which includes what looks like a 50 percent drop in U.S. housing prices. But that deals with a national average, which gives you the kind of diversification you might get with a mutual fund. Chris’s real estate investments sound less diverse – is that safer?
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Gas Price Controls

Posted by Peter on September 6, 2005
Posted in: Economics, U.S. Politics. Tagged: .

I was recently surprised to discover that California has price controls which are designed to encourage hoarding in emergencies and to discourage stockpiling in preparation for emergencies. The law in question is called an anti-gouging law, and temporarily limits price increases to 10 percent in some emergencies. I’ve seen conflicting reports about whether Bush’s declaration of emergency triggers the price controls, or whether it requires a state declaration of emergency. The governator has indicated that he has no plans to join the Bush/Lockyer exploitation of Katrina, but my limited observations suggest that gas stations in the bay area have limited their gas prices increases to 10 percent, and a few of them ran out of gas over the weekend.
It looks like the gas supply problems will ease soon enough that the price controls won’t have done much harm this time (diversions of gas shipments that were intended for other parts of the world will any week now spread the supply reduction over large enough regions that a fairly small price premium over what would have prevailed without Katrina should keep supply and demand in balance).
On a related note, Alex Tabarrok made a claim that suspending gas taxes won’t help consumers. I’m suspicious of his belief that a temporary suspension will have little effect on supply. I expect that oil companies will have an important incentive to draw down their inventory more than they otherwise would, especially just before the taxes are reinstated (since their profit margins will decline when taxes resume). I expect this effect to reduce prices to consumers by a modest fraction of the amount of tax relief. This will come at the cost of increased vulnerability to new supply disruptions. I doubt that the voters who have caused politicians to suspend gas taxes have given much thought to the wisdom of this tradeoff.

Intuition Error and Heritage

Posted by Peter on August 18, 2005
Posted in: Economics, The Human Mind. Tagged: , .

Robin Hanson writes in a post on Intuition Error and Heritage:

Unless you can see a reason to have expected to be born into a culture or species with more accurate than average intuitions, you must expect your cultural or species specific intuitions to be random, and so not worth endorsing.

Deciding whether an intuition is species specific and no more likely than random to be right seems a bit hard, due to the current shortage of species whose cultures address many of the disputes humans have.
The ideas in this quote follow logically from other essays of Robin’s that I’ve read, but phrasing them this way makes them seem superficially hard to reconcile with arguments by Hayek that we should respect the knowledge contained in culture.
Part of this apparent conflict seems to be due to the Hayek’s emphasis on intuitions for which there is some unobvious and inconclusive evidence that supports the cultural intuitions. Hayek wasn’t directing his argument to a random culture, but rather to a culture for which there was some evidence of better than random results, and it would make less sense to apply his arguments to, say, North Korean society. For many other intuitions that Hayek cared about, the number of cultures which agree with the intuition may be large enough to constitute evidence in support of the intuition.
Some intuitions may be appropriate for a culture even though they were no better than random when first adopted. Driving on the right side of the road is a simple example. The arguments given in favor of a judicial bias toward stare decisis suggest this is just the tip of an iceberg.
Some of this apparent conflict may be due the importance of treating interrelated practices together. For instance, laws against extramarital sex might be valuable in societies where people depend heavily on marital fidelity but not in societies where a divorced person can support herself comfortably. A naive application of Robin’s rule might lead the former society to decide such a law is arbitrary, when a Hayekian might wonder if it is better to first analyze whether to treat the two practices as a unit which should only be altered together.
I’m uncertain whether these considerations fully reconcile the two views, or whether Hayek’s arguments need more caveats.

Freakonomics

Posted by Peter on July 21, 2005
Posted in: Book Reviews, Economics. Tagged: .

Book Review: Freakonomics : A Rogue Economist Explores the Hidden Side of Everything by Steven D. Levitt
This book does a pretty good job of tackling subjects that are worth thinking about but which few would think to tackle. Their answers are interesting but not always as rigorous as I hoped.
The implication that this is an economics book is a bit misleading. While it is occasionally guided by the principle that incentives matter, it is at least as much about Kelvinism (the belief that we ought to quantify knowledge whenever possible), but then some of the book consists of stories which have little to do with either.
My favorite parts of the book explore the extent to which experts’ incentives cause them to pursue goals that don’t coincide with their clients’ interests. But his arguments about realtors exaggerate the extent of their conflict of interest – it is likely that part of the reason they are quick to sell a client’s house more cheaply than they would sell their own is that the realtor is less likely to need to sell by a deadline.
I am left puzzled by the claim that crack gang leaders want to avoid gang wars, but gang members are rewarded for starting violence with promotions. Who’s controlling the rewards if it isn’t the leader? Why can’t he ensure that members who engage in nondefensive violence aren’t promoted?

Terrorism Futures

Posted by Peter on July 14, 2005
Posted in: Idea Futures, Mideast, U.S. Politics. Tagged: .

Two years ago a DARPA project was canceled after some demagogues attacked a straw man which bore a superficial resemblance to the actual project. Now Robin Hanson (who had some involvement with the project) has written a defense of the straw man, i.e. an argument that futures markets might be of some value a predicting specific features of terrorist attacks (although not nearly as valuable as more natural uses of futures markets such as predicting the effects of changes in Homeland Security budgets on the harm done by terrorism).
He has a somewhat plausible argument that there is useful information out there that might be elicited by markets, particularly concerning the terrorist choice of method and targets. An important part of his argument is that in order to be useful, the markets might only need to distinguish one-in-a-thousand risks from one-in-a-million risks. One weakness in this argument is that it makes mildly optimistic assumptions about how reasonably people will respond to the information. There is clear evidence much spending that is advertised as defense against terrorism is spent on pork instead. Markets that provide a few bits of information about which targets need defending will raise the cost of that pork-barrel spending, but I can’t tell whether the effect will be enough to meet whatever threshold is needed to have some effect.
The section on moral hazard seems to contain a rather strange assumption about the default level of trader anonymity. The “reduced” level he talks about seems to be about as much as the U.S. government would allow. It isn’t clear to me whether any anonymity helps make the prices more informative (does anyone know of empirical tests of this?). The optimal level of anonymity might vary from issue to issue according to what kind of trader has the best information.
The proposal to hide some prices is more difficult than it sounds (not to mention that it’s far from clear that the problems it would solve are real). Not only would the exchange need to delay notifying traders of the relevant trades, but it would need to delay notifying them of how the trades affected the traders’ cash/credit available for trading other futures. Which would often deter traders from trying to trade when prices are hidden (it’s also unclear whether the trades that would be deterred would add useful information). In addition, I expect many of the futures that would be traded would be about targets and/or methods covering some broad range of time; it’s unclear how to apply a condition about “attacks to occur within the next week” to those.
The proposals to deal with decision selection bias sound politically difficult to implement (unless maybe Futarchy has been substantially implemented). But there isn’t much risk to experimenting with them, and elected officials probably don’t have the attention span to understand the problem, so there probably isn’t much reason to worry about this.

Intangibles

Posted by Peter on May 19, 2005
Posted in: Book Reviews, Economics, Investing. Tagged: .

Book Review: Intangibles: Management, Measurement, and Reporting by Baruch Lev
It isn’t easy to make a book about accounting interesting and uplifting, but this book comes fairly close to accomplishing that. It provides a clear understanding of why it matters how well accounting rules treat intangible assets, and gives some good guidelines on how to improve them.
Some of the proposed improvements are fairly easy to evaluate, such as breaking down R&D into subcategories for basic research, improvements to recently released products, etc., but with some of the book’s suggestions (e.g. trademarks) I’m puzzled as to whether there’s little to be gained or whether he has a good idea that he hasn’t adequately explained.
Alas, accounting standards are a public good that few people have an incentive to create. The improvements suggested by the book could generally be adopted without first being approved by a standards committee because they mostly involve adding new information to reports. But the first company to adopt them gains little until investors can compare the information with that from other companies. And accounting standards committees tend to attract people whose main concern is preventing harm rather than creating new value. And that tendency is currently being reinforced by investors who want a scapegoat for their complacency at the peak of the recent stock market bubble.

Buy the Yuan?

Posted by Peter on May 16, 2005
Posted in: China, Economics.

I’m curious how U.S. politicians are rationalizing their support for tariffs to punish China for keeping the yuan high (i.e. propping up the dollar). There’s an obvious alternative if it’s as clear as most people claim that the yuan is undervalued: have the U.S. government buy as many yuan as it can. That would make it more expensive for China to keep the yuan down at a probable profit to the U.S.
There may be some Chinese rules which pose obstacles to doing this, but I doubt the U.S. politicians are able to know that they couldn’t get around such rules.
Note that I didn’t ask what their real motives are (tariffs benefit special interests more than buying the yuan would, which provides a strong hint). I’m interested in what excuses they would give.

Misers, Markets, and Philanthropists

Posted by Peter on May 11, 2005
Posted in: Economics.

I attended an interesting talk yesterday at SJSU by Dwight R. Lee on the topic “Misers vs. Philanthropists: And the Winner Is?” (part of a provocative lecture series sponsored by the Econ department).
His attempt to prove that misers helped the world more than philanthropists was only a partial success, mainly because he made assumptions about how well philanthropists spent their money that were somewhat arbitrary and unconvincing (probably too favorable to many philanthropists). He did a good job of explaining why philanthropists were overrated and misers underrated. The miser who hides money in his basement provides diffuse benefits to other holders of money by driving up the value of the money, providing nobody with much incentive to understand the effect. The beneficiaries of philanthropists are much more concentrated groups of people, who notice the benefits in ways that public choice theory describes for comparable political handouts.
I’m a bit puzzled as to whether the benefits he attributes to misers are often offset by central bank policies.
The best part of his talk was the great analogy he gave to suggest in a concise way that can be understood by an average person why the fact that workers get laid off isn’t an argument against free markets. He asked whether anyone in the audience liked pain. Nobody raised a hand. He then asked whether anyone would want to be completely without pain. Nobody raised a hand at this point either, correctly anticipating the description he would give of people who never feel pain (a disease known as CIPA, which significantly reduces a person’s life expectancy). Likewise with markets, plant closures are a symptom of mistakes in resource allocation, and we can expect systems that suppress those symptoms to perpetuate mistakes.

Does democracy work?

Posted by Peter on April 19, 2005
Posted in: Idea Futures, Politics. Tagged: .

In the latest issue of Econ Journal Watch, Bryan Caplan and Donald Wittman hold an inconclusive debate on whether democracy produces results that are sensibly related to voters’ interests. They come much closer than most such discussions to using the right criteria for answering that question.
But they fail because they implicitly assume that inaccuracies in voters’ beliefs are random mistakes. If that were the case, Wittman’s replies to Caplan would convince me that Caplan’s evidence of voter irrationality is as weak as the arguments that consumer irrationality prevents markets from working, and that Wittman’s proposed experiments might tell us a good deal about how well democracy works.
On the other hand, if you ask whether voters have incentives to hold beliefs that differ from the truth in nonrandom ways, you will see a fairly strong argument that voters’ inadequate incentive to hold accurate beliefs causes systematic problems with democracy.
Imagine that you live near a steel mill. This means that believing that steel import restrictions are bad will increase the risk that your acquaintances will dislike you (because you views endanger their jobs or their friends’ jobs), and will probably bias you toward supporting protectionism.
Or take the issue of how gun control affects crime rates. There are some obvious patterns of beliefs about this which the random-mistake hypothesis fails to predict. Whereas the theory that people adopt beliefs in order to indicate that they think like their friends and neighbors (combined with some regional variations in gun ownership that created some bias before people started thinking about the issue) does a much better job of predicting the observed patterns of belief.
Because this seems to be a widespread problem with democracy, I’m fairly certain democracy works poorly compared to markets and compared to forms of government such as Futarchy which improve the incentives for policies to be based on accurate beliefs.