What do capital controls and the gold standard have in common?

Both capital controls and the gold standard are both fairly marginal, fringe economic ideas -- but that is more or less where the similarity ends! We have been discussing capital controls in DV409, and the gold standard here on this blog, so I thought a recent column by Paul Krugman in the NYT made some great points related to both.

In comparing the way in which the economic crises played out in Ireland and Iceland, he mentions first that only in Ireland did the government nationalise private debt by providing guarantees. OK, that's not related to this topic, exactly, but it is a pet peeve of mine so I thought I would point that out anyway - government guarantees, explicit or implicit, are often a good thing, but not always, and certainly not in this case, it seems to me. In DV409 we have already discussed a lot of the reasons and conditions under which government guarantees may or may not be a good ideas.

Now, back the point mentioned in the title. The second difference was that Iceland used capital controls to stem initial panic and capital flight. Why might capital controls have been effective for Iceland when they were so ineffective in so many other cases? Hopefully, after reading all our DV409 papers, you now have, if not an answer, some sensible things to say about that.

The last point is that Iceland devalued its currency, something that Ireland, with its fixed exchange rate regime (which is what the Euro area is), cannot do. And this is where the gold standard comes in. That is also a fixed exchange rate regime, and in this case had it been in effect would also have precluded the kind of adjustment that Iceland has apparently had (and seemingly weathered reasonably well, all things considered).

So what do capital controls and the gold standard not have in common? The former is an idea that usually doesn't work, but can be a great policy tool in some select cases. On the other hand, I still have not come across a modern situation where the gold standard would have been a good idea.

Strategic Intellectual Pursuits or Selection Effects?

Now here is a tough nut to crack. How can we disentangle supply and demand effects? Are journals biased towards certain countries? Are researchers internalizing these biases and planning their research accordingly? Or is there something to be said about barriers to entry into different countries (safety, language, local human capacity) and how that impacts the quality of the research and the type of researcher they attract...?

This seems important since research on different developing countries is, well, a necessary condition for evidence-based policy-making. But to move to a high level equilibrium we need the best researchers to have an incentive to learn more about experiences in different countries and academic journals, conditional on the quality of the analysis, to be ready to reward them for it.

When you read the paper attached, which is mostly descriptive, think about the research design that would allow us to distinguish between these competing hypotheses...

More on the Gold Standard

Apparently the arguments for the gold standard around the Department of International Development are ratcheting up (!). So, here are a few additional links to more weighty discussions on the gold standard than the NPR radio blurb offered:
Paul Krugman
Barry Eichengreen and Peter Temin

Culture, Institutions and the Wealth of Nations

Here is an interesting and provocative new paper by two economists from UC Berkeley that may be of interest to DV409 students. The abstract is as follows:

We construct an endogenous growth model that includes a cultural variable along the dimension of individualism-collectivism. The model predicts that more individualism leads to more innovation because of the social rewards associated with innovation in an individualist culture. This cultural effect may offset the negative effects of bad institutions on growth. Collectivism leads to efficiency gains relative to individualism, but these gains are static, unlike the dynamic effect of individualism on growth through innovation. Using genetic data as instruments for culture we provide strong evidence of a causal effect of individualism on income per worker and total factor productivity as well as on innovation. The baseline genetic markers we use are interpreted as proxies for cultural transmission but others have a direct effect on individualism and collectivism, in line with recent advances in biology and neuro-science. The effect of culture on long-run growth remains very robust even after controlling for the effect of institutions and other factors. We also provide evidence of a two-way causal effect between culture and institutions.

Population and the Environment

Last year the theory that population growth was the single most dangerous threat to the environment and human existence became suddenly quite popular with the publication of a few review articles on the topic.

It is clearly a good idea to improve environmental conditions, both for biodiversity and human well-being. Since it is politically unlikely (and anyway undesirable) that this will be feasible by prematurely constraining consumption, the most promising approach is the development of new technology - i.e. finding new ways to produce the consumption goods and services that we need while polluting less and using fewer resources, and discovering ways of reversing previous environmental damage.

If you even partially accept that innovation will play a major role in the ability of humans to maintain and increase both well being as well as environmental conditions, then the focus in this popular literature on population size seems rather bizarrely misplaced. In particular, it has mostly ignored the single largest and arguably most fundamental causal impact of a larger population: increased innovation rates. Across countries we generally associate higher incomes with fewer children, but over the very long run, as the graph below (from the excellent 2009 working paper by Jones and Romer) illustrates, a larger population size increases the rate of technological innovation for all the reasons outlined in the paper and which we have explored in DV409 lectures. An article today in the New York Times reminded me of this again.

However be careful about the policy implications of this result: it does not mean that each and every family should have lots and lots of children (!). It does mean that low fertility rates in the wealthy world are not necessarily so good for the future of the environment. As Jones and Romer calculate (and as we reviewed in DV409), the increased innovation and resulting increase in per capita wealth from the introduction of 1.3 billion Chinese into the modern global economy should (by a rough back of the envelope calculation) much more than compensate for the costs of carbon mitigation, even at today's mitigation costs (which will likely decrease significantly when all those Chinese put their heads to it).

So, yes, if we could hold the rate of technological innovation constant and decrease the number of people on earth, we would use fewer resources. However that is a false hypothetical experiment, as the two variables are so closely linked.

India’s Microcredit Sector Faces Collapse From Defaults

Former DV409 students will be aware of the tepid academic evaluation literature on the effects of microfinance. Now an alarming article in today's New York Times raises further questions...

Analogies, social contracts, and teaching

As many of you now know, I like to use analogies in lecture to illustrate concepts that may seem abstract and technical in the original context, and my favourite analogies often draw on our everyday social lives. These stories may seemingly have little to do with economic development policy, but this week I'm feeling kind of vindicated and pleased with myself (!). An article in the Economist Magazine (on, oddly enough, sociopaths) made the very interesting point that our brains are hard-wired to instinctively comprehend social contracts, so abstract problems redefined in social- contract-space will be much easier to solve and understand. So, now all I have to do is figure out how to map instrumental variable estimation into a love triangle scenario!

The Gold Standard

My, nothing like a prolonged recession/economic crisis to bring back out all the fringe ideas into more general discussion! Why is that? Yesterday I discussed growing calls for trade repression, and today NPR ran a short piece on calls to return to the gold standard.

Popular rhetorical resistance to freer trade from all sides

How much of the suspicion and complaints about harm from trade are due to actual net harm from trade, and how much due to political economy - the ideological, political and psychological issues - some of which we reviewed last week?

As we have been discussing the last few weeks, trade can impact an economy through a variety of channels and depending on the underlying conditions, these mechanisms (either for good or for bad) will be more or less important in the net final outcome. This does not mean that the outcome is arbitrary, however - and for the most part, most of the theory and evidence suggest that freer trade should in most cases be beneficial, especially in the longer run. I have certainly never seen a convincing case that all or most countries would generally be hurt from fewer trade barriers (in goods).

However the chorus of anti-trade rhetoric is growing, and it seems to be growing on all sides. At least in the corridors of ID, I hear complaints that the WTO and international trading system is biased in favour of rich industrialised nations "who wrote the rules." Many people in the rich countries, however, believe exactly the opposite, that the current trading system is biased against them in favour of developing countries - and this view is gaining ground, as described in this recent op-ed in the New York Times. Each view sounds plausible (a view or idea must sound plausible to become so widespread -- so among all widespread ideas, plausibility is not actually much evidence of veracity, however), but I find it highly unlikely that both arguments could be correct.

Thus perhaps paradoxically, I personally find the increasing complaints about the effects of trade from all sides to be increased evidence not so much of any actual harm of trade, but more for the political and psychological explanations for trade resistance. What do you think? DV409 students must be hearing a variety of perspectives in their classes so comments welcome!

Economic policy and "picking winners"

Today in the Science Times section of the NYT there is a good op-ed piece about the underlying rationale for subsidizing basic research. I found it interesting that the discussion about the impact of 'picking winners' here mirrors at least part of the arguments surrounding the practice (for manufacturing firms) in trade policy. Note in this article we are talking about the first best policy of subsidies, while the trade protection recommendation is a second best policy when direct subsidization is not politically or financially feasible (it is much easier to stealthily make a diffuse group of consumers pay the costs). Nevertheless, elements of the intuition are strikingly similar.

Smoking and dementia - but is it True?

I am as strong an anti-smoking fundamentalist as they get, but a recent story in the New York Times about a study that found a relationship between smoking and dementia (which I am naturally primed to accept, given my dislike of smoking) caught my attention as a perfect example of how DV409 students can put their analytical tools to work.

There are several things to think about here. First, this is a cross-sectional study on a time-series issue. Are people who smoke now a good proxy for the future of someone who currently doesn't smoke but might take it up? Second (related to the first), the authors included some control variables (the NYT does not list them but provides a link to the actual paper), but are these sufficient to control for all the characteristics that differentiate smokers from non-smokers and that might also be correlated with dementia? Finally, could the relationship be the result of reverse causality? Could people prone to dementia have related neurological issues for which smoking provides some relief, so that smoking is a form of self-medication? This is not necessarily as much of a 'high tide and full moon' (i.e. very low probability) possibility as you might think; there is evidence that many of our behaviours, from smoking to drinking to chocolate-eating (my particular vice!) have at least some element of self-medication to them.

The answers to these questions must be derived from our knowledge of biology and behaviour, but the fact that we pose them in this way at all is a result of our methodological understanding.