One of Milton Friedman’s most useful points (he had a lot) was that the business cycle, isn’t a cycle. In the sense there’s nothing regular about it. Recessions aren’t like the seasons or El Nino, they’re like car crashes or trail derailments, someone screwed up—central banks. This is why Australia, with its volatile export commodity industry, still hasn’t had a recession since 1990, their central bank hasn’t screwed up since.
Yet most business economists, and possibly most macro economists in general, think there’s some regular nature to business cycles. Some platonic force of nature is at work steering real output. Real GDP growth “turns”, negative for a bit, then positive for a while. These “turns” are meaningful as the cycle’s nature is regular, even if the timing and amplitude are unpredictable. This view isn’t necessarily harmful, if you’re not setting policy and just trying to react appropriately, but there are unquestionably benefits to being right for the right reasons.
Understanding that recessions are caused by monetary policy also sets you up to see how chaotic macro performance can be. Look at the Euro Zone countries over the last decade, no pure platonic forms on display there: up, dowwwwwn, up,flat, down, up, down, up; it’s a mess. Some small Euro Zone countries seem immune to this variation and are instead stuck in vortexes of doom, whence there is no escape: Greece, and to a lesser extent Finland. The random “cycle” view doesn’t give you a way of understanding how this could happen.
One of the reasons we need to move monetary policy decisions to some sort of automatic system, say a Sumnerian NGDP futures market, or a TIPS-spread dollar peg, is to prevent the Fed influencing elections.
A friend of mine was saying earlier today that if the economy sours, it will help Hildawg in the general election, presumably against Trump. I don’t think this is obvious, but I’m not great at anticipating how the mouth-breathing electorate horde will react. Let’s forget about the specific personalities involved in the current election and just go with abstracts.
It seems obvious to me that in many elections, economic performance could decide the election. One of the problems of keeping the economy perpetually weak with low NGDP growth, is that it puts the central bank in a great position to decide elections with plausible deniability. Let’s say the majority of the FOMC thought a particular candidate was unthinkably bad, it’s easy to imagine this influencing their decision to throw in an extra rate hike, or delay back tracking on the current rate hike, in a macro environment like ours today.
Monetary policy is just too powerful to trust to mere humans. The only solutions I see are an automatic rule, a shift to private sector money like Bitcoin, or appointing Chairmen with massive egos, who value their image as a master central banker more than political nepotism (Greenspan).
The first NGDP estimate for the last quarter of 2015 came out today. It was just as the Hypermind market had been forecasting for the last few weeks, 2.9% year-over-year. I had won 56 euros on the quarterly NGDP contracts on Hypermind, but got my ass kicked on this one. I’d put much of my capital on 3.7% growth, which my old Efficient Forecast model had been predicting in the summer of 2015 (don’t worry, something even better than Efficient Forecast will be announced soon). I don’t feel too bad about this, because the market is free to participate in, and because financial markets in general, the source of my unique forecasting system, have waned markedly since the summer.
My model was correctly forecasting market expectations, it was the Hypermind market which was contrarian. It got lucky, this time (that or the Hypermind people see the big picture better than the main financial markets, which I wouldn’t dismiss). NGDP forecasting performance takes years to evaluate, you want randomness to wash out and you want to forecast well into the future 3-6 quarters.
In any case, I’ve more than made up my Hypermind currency losses by being correct about blessed Bashar al-Assad and his righteous struggle against the forces of darkness (the ‘Assad stays in power’ contract), and especially the electoral prospects of TRVMPVS REX (‘who wins the GOP nomination’) where I’ve made massive returns and stand to make even more when the savior-king wins the nomination.
I used to follow the advice of economists when it came to gambling and the lottery. If the expected value of a bet is less than the cost of the bet, don’t bet. Much better to trade in financial markets, where you can quench your manly thirst for risk without throwing money away—most reasonable trading strategies should have a positive expected return.
Recently, I was thinking back to an argument a Korean statistics professor gave in a Regression Analysis class I took in the summer of 2008. The gist of the argument, and it was hard to follow, was “the lottery has a negative expected return, but you should still play, because you could get rich”. At the time I dismissed this line of thinking as a half baked example of the characteristic Oriental weakness for games of chance. However, I now think there was wisdom in his position.
Imagine you’re able to model the distribution of your lifetime earnings, conditional on everything up to this moment. Let’s imagine we change the independent variables of this model such that you never buy lottery tickets. Now let’s imagine we change the independent variables such that they represent semi frequent, low stakes lottery participation. Compare the two densities.
The zero-lottery and low-lottery distributions probably look indistinguishable to the naked eye. But out in the right tail of income, way way to the right, the density will be considerably thicker. I don’t know what my own probability of coming into $100 million or more in my remaining life is, but it’s probably pretty low. Maybe higher than the 1 in 300 million payoff of the Power Ball, but probably no better than 1 in 30 million, I’m confident that a $4 ticket is the easiest way to increase that probability.
So I buy one lottery ticket, now and then.
It was 2012 or 2013 when I first noticed a particularly barbarous mangling of the English language. I thought it was because everyone in the setting in question was from non-English-speaking countries “ok, one of them made the error and then spread it to the others, who didn’t know better”. But then I saw it pop up again and again, different shops, native English speakers. Even Greg Cochran made the error.
I am of course talking about calling a “program” or “script”, “a code”. FFS people, “a code” is something you steal from the Germans, it’s not a collection of computer instructions saved in a text file. “Open sesame” is “a code” “UpdateMarketPrices.r” is “a script”. This is an error people in a computer science setting would never make.
The rule is you can refer to code in an uncountable sense “the code we wrote on that project is beautiful”, but never about a specific set of instructions saved in a single file, don’t say “I’ve written a great code” or “those codes are horrible” that sounds retarded, unless your talking about cryptography or something like that. Say “I’ve written a great script/program/.do file/R file/”.
Computer scientists are of course not sinless, as they misuse the word “data” when they mean to say “information” and forget that “data” is the plural of “datum”, but at least look to them when on their turf in the realm of programming.
Sumner links to a post where an econ blogger derives NGDP level targeting from first principals. Trying to derive economic conclusions from first principals is a bit of a spergy mental wank session, but sometimes it yields insights. After all, there are at least three or four good ideas in von Mises work.
The post in question, by a man named Cameron Harwick, contains an observation which jumped from the screen for me, the brass tacks of the post. That Gross Output might be a more relevant measure of nominal macro stability than NGDP. It occurred to me, a year or maybe two years ago, that I’ve been mischaracterizing NGDP for quite a while. I’ve been describing NGDP as “the total amount of money spent in the economy”, but this isn’t true. NGDP is the total amount of money spent on final goods. The difference: if you’re a plumber, buy a pipe for $10, keep it in the back of your truck for two months, then install it in a customer’s house for $30, $30 counts in NGDP, but the first $10 doesn’t as it’s not final spending, at least by definition it shouldn’t count. God knows how the BEA counts and sorts all the beans. If the pipe sits in the truck between accounting periods (quarters or years) then it counts as inventory investment and is in NGDP.
It’s crossed my mind before that what we might really want is a measure of total spending, intermediate and final, which apparently is measured by Gross Output. It’s good to know there is such a statistic in Gross Output. I find myself keen to see if market factors can better predict GO than NGDP. It could be that markets are more interested in this statistic.
As I was getting at earlier today, the old NGDP gap-from-trend chart is really not so useful at this late date in 2016, almost 9 years since the original deviation from trend. If we want a chart to conveniently and honestly beat up on our increasingly mismanaged central bank, that chart is the 5-year TIPS breakeven.
The TIPS spread, the difference between the yield on a normal 5-year Treasury Bill, and one of the special CPI-indexed bills, tells us the market’s expectations for average yearly CPI increases over the next five years (more or less). Looking at a statistical construct like the CPI is of course not very Market Monetarist of us, being that we think measures like nominal income and nominal wages are more relevant for a market economy with sticky prices and contracts. But the chart does show that the Fed is failing on one of the criteria it has set for itself: the holy 2% inflation target.
We are currently benefiting from a great glut of oil, and this has helped pull down expected inflation, but as I will show in the next few days, the drop in oil has been associated with a broad-based decline in asset prices. In any case, a drop in oil prices, from say $80 to $35, should not pull down inflation expectations FOR FIVE YEARS so far, unless oil were expected to further decline to unimaginably low levels.
No, the market is expecting a drop in nominal income growth. Households and firms have been weary of another 2008-style recession, so I expect the economy can take the punch, but it looks like we’re in for slower growth, and for no good reason. These should be oil-soaked boom times.