Malinvestment Produces Knowledge

Zachary BartschLeave a comment

Austrian economists rightfully have some gripes about mainstream macroeconomics – specifically about aggregation. The conventional wisdom says that a fall in output can be prevented or remedied in the short-run by an expansion of total spending (via increasing the money supply). Total output is stabilized and the crisis is averted. Even if rising spending preceded the output decline, the standard prescription is the same.

The Austrian Business Cycle theory says that, actually, the prior expansion in spending resulted in yet-to-be-realized poor investments due to easy credit. The decline in output is self-inflicted by unsustainable endeavors, and the money supply expansion response prevents the correction. The consequence is more malinvestment. The Austrians say that the focus on gross investment is a misleading aggregation and commits the fallacy of composition that all investment is the same or the same on relevant margins.

Both schools of thought are on firm ground. I don’t see them as conflicting. They both make valid points and are correct about the world. The conventional wisdom is able to paper-over short-run hiccups, and the Austrians recognize that resources are suboptimally allocated. The two sides are talking past each other to some extent.

The market process of seeking profits and satisfying consumer demands is a messy process. Prices and profits (and losses) incentivize firms with information that they use to adjust their behavior. They innovate and reallocate resources from bad projects and toward money-making projects. When firms earn negative profits (a loss) they learn that their understanding of the world was wrong and that they malinvested their scarce resources. Therefore, malinvestment is a standard and *necessary* part of the market process of identifying and serving the changing and unknown demands of individuals. Without malinvestment we lack the necessary information to distinguish success from failure.

Mal-investment is harmful insofar as it represents resources that were invested such that future output did not rise as it could have otherwise. So, while malinvestment is necessary to the market process, a preponderance of it makes us poorer in the future. Luckily, firms have incentives and finite resources such that mal-investment remains somewhat tamed. Indeed, malinvestment is the cost that we bear for innovation and identifying what works.

The issue is that the above discussion is oriented to the long-run. The conventional wisdom is oriented toward resolving the short-run threats. The two meet one another when malinvestment realizations occur in a correlated manner. It’s not that policy causes malinvestment. Rather, depressed interest rates and easy credit prevent firms from identifying which of their projects turned out to be more or less productive. Firms persist in bad investments because they can’t discriminate between the failed and successful projects ex ante.

So, when interest rates suddenly rise, low or negative productivity projects are identified and resources are reallocated. The discovery and reallocation process takes time. And if many projects are found to be failures at once, then the result is a drop in economic activity that is detectable at the aggregate level. The problem is not that malinvestment exists. The problem is that malinvestment was permitted to persist and grow such that the eventual realization of losses is correlated and has macroeconomic effects. We observe spending, output, and employment declines. That’s the ‘business cycle’ part of the Austrian Business Cycle. Interest rates rising helps to identify the bad projects. That’s good. But policy that increases the popularity of bad projects is bad. It makes us poorer in the long-run and more vulnerable to declines in the short-run.

New Orleans Redux: SEA 2023

James BaileyLeave a comment

I’m heading to New Orleans tomorrow for the 2023 meeting of the Southern Economic Association, where I’ll present research on the labor market effects of Certificate of Need laws.

I’ll take this as an excuse to re-up two previous posts on New Orleans:

First, my travel guide post for anyone else heading there soon

Second, my bigger-picture take on how the city has changed over the last decade: Waxing Crescent: New Orleans 2013-2023

I recommend reading the whole thing, but here’s the conclusion:

As much as things have changed since 2013, my overall assessment of the city remains the same: its unlike anywhere else in America. It is unparalleled in both its strengths and its weaknesses. If you care about food, drink, music, and having a good time, its the place to be. If you’re more focused more on career, health, or safety, it isn’t. People who fled Katrina and stayed in other cities like Houston or Atlanta wound up richer and healthier. But not necessarily happier.

Hope to see some of you there!

Thanksgiving 2023 is the Second Cheapest Ever (Relative to Earnings)

Jeremy Horpedahl5 Comments

Continuing my tradition of Thanksgiving posts, Farm Bureau released today the latest data on the cost of a traditional Thanksgiving meal. There is welcome news for consumers, as the nominal price of the dinner is slightly lower than last year: $61.17 vs. $64.05 in 2022. The big factor in this decline was the fall in the price of turkeys, though eight of the 12 items in this meal are lower than 2022. As they note in the press release, this is still significantly higher than 2019: about 25% higher.

Regular readers will know what’s coming. Let’s compare those prices (and some historical prices) to earnings:

The Farm Bureau turkey dinner stands at about 5.5 percent of median weekly earnings from the third quarter of this year. That’s a touch higher than 2019, when it was 5.3 percent of weekly earnings. But notice that other than 2019, the figure for 2023 is the lowest ever! (Ignoring the weird years of the pandemic, when wage data is hard to interpret.) So we haven’t quite gotten back to 2019 levels, but we are at the same level as 2018. And lower than 2017. And all prior years too.

The last few Thanksgivings have been tough for Americans. This year, we can all be thankful for falling prices and rising wages.

“The Biggest Blunder in The History of The Treasury”: Yellen’s Failure to Issue Longer-Term Treasury Debt When Rates Were Low

Scott Buchanan3 Comments

That extra $4 trillion or so that the feds dumped into our collective checking accounts in 2020-2021 – -where did it come from? Certainly not from taxes. It was created out of thin air, via a multi-step alchemy. The government does not have the authority to simply run the printing presses and crank out benjamins. The  U.S. Treasury sells bonds to Somebody(ies), and that Somebody in turn gives the Treasury cash, which the Treasury then uses to fund government operations and giveaways. In 2020-2021, the Somebody who bought all those bonds was mainly the Federal Reserve, which does have the power to create unlimited amounts of cash, in exchange for government bonds or certain other investment-grade fixed income securities.

What is causing a bit of a kerfuffle recently is public assessment of what sorts of bonds that Janet Yellen’s Treasury issued back then. Interest rates were driven down to historic lows in that period, thanks to the Fed’s monster “quantitative easing” (QE) operations. The Fed was buying up fixed income hand over fist: government bonds, mortgage securities, even corporate junk bonds (which was probably illegal under the Fed’s charter, but desperate times…). This buying frenzy drove bond prices up and rates down.

All corporate CFOs with functioning neurons and with BB+ credit ratings refinanced their company debt in that timeframe: they called in as much of their old bonds as they could, and re-issued long-term debt at near-zero interest rates. Or they just issued 5, 10, 20 year low-interest bonds for the heck of it, raising big war-chests of essentially free cash to tide them through any potential hard times ahead. And of course, millions of American homeowners likewise refinanced their mortgages to take advantage of low rates.

What about the federal government? Was the Treasury, under Secretary  Yellen, similarly clever? No, not really. Because there is little serious doubt that the U.S. government will be able to pay its debts (grandstanding government shutdowns aside), the government can always find takers for 20- and 30-year bonds, as well as shorter maturity securities. A mainstay of government financing is the 10-year bond. And in 2020-2021, the Fed would have consumed whatever kinds of bonds the Treasury wanted to sell, so the Treasury could have issued a boatload of long-term bonds.

It seems that the Treasury issued a lot of 2-year bonds, rather than longer-term bonds. If they had issued say ten-year bonds, the government would have had a decade of enjoying very low interest payments on that huge slug of pandemic-related debt. But now, all those 2-year bonds are being rolled over at much higher rates and thus much greater expense to the government. (Since the federal debt only grows, almost never shrinks, maturing earlier bonds are not simply paid down, but are paid by issuing yet more bonds).

Veteran hedge fund manager Stanley Druckenmiller (reported net worth: $6 billion) commented in an interview:

When rates were practically zero, every Tom, Dick and Harry in the U.S. refinanced their mortgage… corporations extended [their debt],” he said. “Unfortunately, we had one entity that did not: the U.S. Treasury….

Janet Yellen, I guess because political myopia or whatever, was issuing 2-years at 15 basis points[0.15%]   when she could have issued 10-years at 70 basis points [0.70 %] or 30-years at 180 basis points [1.80%],” he said. “I literally think if you go back to Alexander Hamilton, it is the biggest blunder in the history of the Treasury. I have no idea why she has not been called out on this. She has no right to still be in that job.

Ouch.

Druckenmiller went on:

When the debt rolls over by 2033, interest expense is going to be 4.5% of GDP if rates are where they are now,” he warned. “By 2043—it sounds like a long time, but it is really not—interest expense as a percentage of GDP will be 7%. That is 144% of all current discretionary spending.

Unsurprisingly, Yellen demurs:

 “Well, I disagree with that assessment,” Yellen said when asked to respond to the accusation during an interview on CNN Thursday night. She said the agency has been lengthening the average maturity of its bond portfolio and “in fact, at present, the duration of the portfolio is about the longest it has been in decades.”

According to Druckenmiller, this is not quite true. It does seem that of the federal bonds held by the public (including banks), the average maturity (recently as long as 74 months) has indeed been a bit longer than usual in the past several years. However, this ignores the huge amount of government bonds held at the Fed:

“The only debt that is relevant to the US taxpayer is consolidated US government debt,” Druckenmiller said. “I am surprised that the Treasury secretary has chosen to exclude $8 trillion on the Fed balance sheet that is paying overnight rates in the repo market. In determining policy, it makes no sense for Treasury to exclude it from their calculations.”

Druckenmiller makes an important point. However, how this plays out depends on how the Fed treats these bonds going forward. If the Fed keeps these bonds on its balance sheet, and buys the replacement bonds, there will be actually very little interest expense to the government going forward. The reason is that the Fed is required to remit 90% of its profits back to the Treasury, so the gazillions of interest payments on those bonds and their replacements will largely flow right back to Treasury. However, if the Fed continues with reducing its balance sheet, forcing the Treasury to go the open market to roll these bonds over, Druckenmiller’s dire warnings will prove correct.

Because of this enormous debt overhang and the ongoing need for the government to sell bonds, I do not expect interest rates to go down as low as 2021 or even 2019 levels, unless there is a financial catastrophe requiring the Fed to become a gigantic net buyer of bonds once again.

OnlyFans models are creating cults politicians can only dream of

mdmakowsky2 Comments

First, read this story from the NYT about the biggest producer of content on OnlyFans. TLDR; a couple have a compound in Florida and a full stable of employees (writers, editors, accountants, cooks, etc.) all being coordinated around the gigabytes of data generated by the supply and demand of their sexy content. If they were selling in a less stigmatized market, whis would be taught as a case study at business schools.

What I found interesting is how it simultaneously validated and assuaged all my fears about the opportunity to emotionally manipulate large numbers of people by using highly granular data. Don’t get me wrong, that’s arguably the story of every information-deficient marketing campaign ever, but I’m not talking about coarse, subliminal manipulation (“Look at this fully self-actualized person drive a car that signals their worth to strangers and their father”). I mean direct, interpersonal maninipulation through the fabrication of intimate parasocial bonds. The ability to allow customers to create their own, bespoke, false narrative in which they have a relationship with a beautiful stranger. At scale.

It’s that list bit that matters. What this couple have deconstructed is a formula for producing intimate parasocial relationships worth thousands of dollars to customer at scale.

The exploitation of fabricated relationships for income is the story behind the worlds oldest profession, not to mention most scams, for a very long time. The ability to produce them at any real scale, however, has been far more elusive. When someone pulls it off they’ve usually created a cult, whether it’s a new religion or a political cult of personality, and it’s worth taking note of. So have these Onlyfans creators laid out the blue print for future politicians, social entrepreneurs, and general power seekers? Are we at the beginning of an industrial revolution for social movements?

Actually, I kind of think they do have a blue print, but it’s going to be a minute before it crosses the chasm to other sectors because most fields that rely on parasocial relationships to grow don’t have the luxury of immediate profitability that sex work does. You might start your social movement with the ambition of analyzing every bit of data so your stable of employees in your Smithian pin factory of communications and content can rapidly grow your follower base, but you’re not going to have any money to pay them. What people tend to forget about sex work industries is that they generate revenue from minute one (that’s exactly what lures people into making what have historically been less than optimal long term personal decisions). By comparison, religious and political aspirants are a bunch of broke boys.

Religion and politics look like they have a lot of money until you consider size of the customer base (most people) and the sectors they influence (nearly all of them).  $14 billion was spent on federal election campaigns in the United States in 2020, the most ever. That sounds like a lot until you realize that a) it’s 2 and 4 year cycles and b) the federal government spends $6 trillion per year. By comparison, $5.5 billion poured through just OnlyFans, just last year. (Do I even need to convince you that new religious and social movements are notoriously short on cash?)

The story of each stage of the internet is the same thing over and over: a group of people couldn’t benefit from scale before but now they can. Social minorities looking to date couldn’t find each other before, now they can. People buying and selling pez dispensors can’t find each other, now they can. People with extreme beliefs were socially ostracized now they can find and reaffirm each other. People selling content to niche audiences used to have to find their customers through large media companies now they can do it directly. Bernie Sanders and Donald Trump both had disproportionate impact on American politics in part because they leverage the internet to disintermediate their ostenisble political parties. That’s the internet bringing scale to parts of the American electorate previously too distant from the median voter.

Power and ambition be damned, however, aspirant leaders are still not going to be able to build what two people selling naughty pictures in Florida were able to do because most people don’t want to pay for politics. Just ask every newspaper in the country struggling to stay afloat. We’re entering a new age of scale in the fake relationships being sold to us, but it will only be for the kinds of relationships we actually want. That doesn’t mean those will be emotionally nutritious relationships, but choice will remain intact. Portfolios of relationships for a lot of people are going to change, but I suspect its going to look less like Evita Peron and Jim Jones, and a lot more like Taylor Swift and Frito Lay.

Marketing will become more granular, more personal, more intrusive, and more effective. If this fills you with anxiety, I hope you can take some solace knowing its mostly going to happen for the stuff you are willing to pay for, like love, family, and your sense of self-worth. Data-enabled relationship fabrication will grow in market share as artificial intelligence crowds out the classically information driven side of marketing. The uncanny of valley of cringe is a customer relations disaster, a trap whose lines are invisible and always moving. For AI to learn where the boundaries lie is to move them. Which means this decidedly human labor market will grow all the faster. And a blue print for selling naughty content from a Florida couple will find its way to selling you damn near everything else.

Axios Survey of Americans on AI Regulation

Joy BuchananLeave a comment

Axios just surveyed over 2,000 U.S. adults to find that “Americans rank the importance of regulating AI below government shutdowns, health care, gun reform…” Without pressure from the public to pass new legislation, Congress might do nothing for now, which will lead to the rapid advance of LLM chatbots into life and work.

The participants seem more worried about AI taking jobs than they are excited about AI making life better. There is some concern about misinformation.** So, they don’t think AI will have no impact on society, but they also don’t see enacting regulation as a top priority for government.

At my university, the policy realm I know best, we will probably not be “regulating” AI. We have had task forces talking about it, so it’s not because no one has considered it.

The Axios poll revealed gender gaps in attitudes toward AI. Women said they would be less permissive about kids using AI than men. Also, “Parents in urban areas were far more open to their children using AI than parents in the suburbs or rural areas.” Despite those gaps in what people say, I expect that the gaps in what their children are currently doing with technology are smaller. Experimental economists are suspicious of self-reported data.

**Our results did not change much when we ran the exact same prompts through GPT-4. A version of my paper on AI errors that I blogged about before is up on SSRN, but a new manuscript incorporating GPT-4 is under review: Buchanan, Joy, Stephen Hill, and Olga Shapoval (2023). “ChatGPT Hallucinates Nonexistent Citations: Evidence from Economics”. Working Paper.

Delinquency Data

Zachary BartschLeave a comment

I keep reading and hearing people who are waiting for the shoe to drop on the next recession. They see high interest rates and… well, that’s what they see. Employment is ok and NGDP is chugging along.

One indicator of economic trouble is the delinquency rate on debt. That’s exactly what we would expect if people lose their job or discover that they are financially overextended. They’d fail to meet their debt obligations. But the broad measure of commercial bank loans is quiet. Not only is it quiet, it’s near historic lows in the data at only 1.25% in 2023Q2. Banks can lend with a confidence like never before.

But maybe that overall delinquency rate is obscuring some compositional items. After all, we know that many recessions begin with real-estate slowdowns. Below are the rates for commercial non-farmland loans, farmland loans, and residential mortgages. All are near historical lows, though there are hints that they’re might be on the rise. But one quarter doesn’t a recession make. I won’t show the graph for the sake of space, but all business loan delinquency rates have also been practically flat for the past five years.

Continue reading →

Replication Funding for Development Economics

James BaileyLeave a comment

The RWI − Leibniz Institute for Economic Research has funding for researchers to replicate papers in development economics:

RWI invites applications for several positions of Replicator on a self-employed basis to conduct a robustness replication of a published microeconomic study in the field of Development Economics. The successful applicant will work with us on the project “Robustness and Replicability in Economics (R2E)”, funded by the German Science Foundation (DFG) Priority Programme “Meta-Rep”….

The ultimate goal is to contribute to the ongoing debate about replicability and replication rates in eco- nomics. We collaborate closely with the Institute for Replication (I4R). All robustness replications will contribute to a meta-paper summarizing the collective findings. We plan to publish this meta-paper by the end of 2024, and all replication fellows will be co-authors….

The position starts as soon as possible and is limited to six months. The work can be done fully remotely. The applicant will receive compensation of 2,500 € gross in total, possible distributed in installments based upon predetermined deliverables. Additionally, replication fellows will be listed as co-authors on the meta-paper. At the conclusion of the project, it is foreseen to gather all fellows for a final workshop at RWI in Essen, Germany.

I don’t know the team here but I’m always happy to see more attempts to make economic research more reliable. The funding and the planned publication make this potentially a good deal for applied microeconomists, especially grad students. Full details are here (warning: PDF).

Food Prices Are Up, But Let’s not Overstate How Much

Jeremy Horpedahl9 Comments

Last week I gave some advice on how to save money on food. Food prices are up a lot in the past 4 years, but especially since the beginning of 2021. Over the 32 months since January 2021, grocery prices (according to the CPI) are up 20 percent (keep that number in mind). To give you an idea of how unusual that is, in the 32 months before the pandemic (up to January 2020), grocery prices only rose 2 percent. Perhaps even more astonishingly, if we look at October 2019 grocery prices, they were slightly lower on average than 4 years earlier in October 2015. From a flat 4 years to a 25 percent increase over the next 4 years. That’s a huge change for consumers.

But we also shouldn’t overstate the price increases. As you might guess, the best place for overstatements is social media. You can find plenty of them. For example, this very viral video claims that her family’s grocery prices doubled (in fact, almost exactly doubled, to the penny, which is suspicious) in just one single year, from August 2021 to August 2022. According to the CPI data, grocery prices were up 13.5 percent over that period — which, don’t get me wrong, is a lot! But it’s not 100 percent. I’ll focus on this one example, but I’m sure you will believe me that you can find dozens of examples like this on social media every single day (for example, yesterday someone claimed bread prices had tripled since 2019).

Let’s leave aside for a moment that in that viral video she claims to spend $1,500 per month on groceries. This would be a massive outlier for 2022. A family in the middle income quintile spent $460 per month on groceries in 2022, and $713 on all food including restaurants. So even if this family eats every single meal at home, they are still spending twice as much as a middle income family. Even a family with 5 or more people (the largest bucket BLS uses in that report) spent $755 per month on groceries ($1,232 on all food). According to the Consumer Expenditure survey, the middle quintile grocery spending went up 16%, and the five-person household went up 19% from 2021 to 2022. Big increases, no doubt! But not 100%.

So who are we to believe? Have prices roughly doubled since 2021? Or are they up about 20 percent? People are sometimes skeptical of the consumer price index, so let’s look at the actual price data that goes into the index. BLS has data on hundreds of individual food items, but here’s a summary chart with eight common food items. Here’s the change in the prices of those items since January 2021:

Continue reading →

Bored?  You Can Join in a Giant Tomato Fight in Spain!!

Scott BuchananLeave a comment

The other day I was chatting on Zoom with a friend. She noted that she and a couple of girl friends go on an interesting vacation each year. They start off by each of them writing down their top three destinations, and then comparing notes. This year, it is a tour of the Danube region.

Thinking of a similar “Where do we go next year for kicks, guys?” scenario in the movie City Slickers, I jokingly suggested running with the bulls in Pamplona. That is kind of a guy thing (50-100 injuries each year, occasional fatal goring), but it triggered a comeback from her: “Well, maybe the tomato festival instead.”

So of course I started poking around the internet to see what was up with tomato festivals. They sounded less than exhilarating, on a par with a midwestern pumpkin growing contest.
Now, in Lancaster County, PA (Amish country), some of the tomato festivals feature..wait for it….a bounce house! That’s nice, but maybe not worth a plane flight to get there.

Nashville goes all out with their Tomato Art Fest, with food vendors, live performances and people walking around costumed as giant tomatoes. This year’s theme was, ““THE TOMATO: A Uniter, NOT A Divider! – Bringing Together Fruits & Vegetables.” In Leamington, Ontario they get really physical by putting a layer of tomatoes in kiddie pools on the ground, so you can take off your shoes and socks and step in and squoosh those tomatoes under your bare feet. Woo hoo!

But it turns out the real action is La Tomatina in Bunol, near Valencia (Spain). Excitement builds as truckloads of ripe tomatoes are brought into town:

Source https://allthatsinteresting.com/wordpress/wp-content/uploads/2016/08/tomato-stockpile.jpg

Then there is the greasing of a tall pole with lard; a ham is perched at the top of the pole. And then (since the pole is unclimbable), enthusiastic people pile their bodies up around the pole till someone can reach the top of the pole and cast down the ham, whereupon a signal cannon fires.

That is the signal for total mayhem to erupt – 20,000 people (you have to buy a ticket beforehand) hurling tomatoes at each other, until the whole town square is deep in squishy red pulp. Participants are asked to hand-squash each tomato before throwing it.

PHOTO  https://www.centives.net/S/wp-content/uploads/2015/08/082715_1146_TheEconomic1.jpg

After an hour, a second cannon fires to signal cease firing. Local residents may hose you off, or you can go wash off in the river. (Tips include bringing a change of clothes, because you aren’t allowed on the train or bus with your gooey clothes). Afterward, the firetrucks come and hose down the town square. Reportedly, due to the annual rinsing with acidic tomato juices, the town streets appear remarkably clean. During the days leading up to the main event, there are local parades and tours and a paella cooking contest. (Paella is an amazing local rice-based dish, worth of a blog article of its own)

So if you want to do something memorable in Spain but you are too lazy to walk 500 miles on the  Camino de Santiago pilgrimage, or you are too chicken to run in front of a crowd of angry bulls, put La Tomatina on your bucket list.