The Great Debate

from Edward Hadas:

Russia-Ukraine conflict shows money isn’t the root of all war


Many people think politics is really a branch of economics. When the United States invaded Iraq in 1991, the common cry was that it was all about oil. On the same thinking, rich countries were indifferent to the brutal civil war in the Democratic Republic of the Congo – which has cost 5.4 million lives, according to the International Rescue Committee – because the economic stakes were too low to matter. This economic reductionism goes on in developed countries too. Pundits and pollsters argue that elections are won and lost above all else on the economy.

Such ideas can be traced back to the philosopher Karl Marx. He believed that material considerations motivated everything people do, including how they are governed. In modern surveys, people routinely say that the desire for better jobs or higher incomes is not what drives their voting behaviour. On Marx’s view, these respondents are either lying, or in denial. They may not realise that economic discontents and aspirations drive their action – and all of history.

Followers of this dialectic should be disconcerted by current events. Only a die-hard Trotskyite could see economic issues behind the conflicts in Ukraine and Iraq.

Economic explanations are inapplicable to the strategy of Vladimir Putin, even if the president of Russia is trying to reconstruct the glory of the supposedly Marxist Soviet Union. Putin treats narrow economic motivations with disdain. His creeping invasions are not cheap, the occupied areas are mostly in dire economic straits, and retaliatory sanctions will create economic hardship for all of Russia.

For Putin, power is clearly more important than prosperity. His propaganda machine is trying to persuade the Russian people to think the same way. That creates a good test for the neo-Marxist reading of history. Russia is sufficiently rich and large to tough out widespread foreign hostility, especially with some help from China and other sympathetic governments. However, tight sanctions will make the Russian people poorer. Will they put up with the required economic sacrifices, or will they eventually prefer greater prosperity to national pride?

from Edward Hadas:

The problem with the Piketty problem

If a man is suspected of murder, arson and speeding, any prosecutor who focuses only on the last charge risks ridicule. That imagined situation has some bearing on recent criticism of Thomas Piketty, the best-selling French anti-inequality economist. The accusations are largely restricted to ways in which he has exceeded the limits of his data.

The Financial Times, the most prominent critic, has identified possible compilation mistakes and biased adjustments in Piketty's statistics on the history of wealth distribution. This is potentially a bit sloppy, but beyond that it's hard to get too excited. Revising the questionable numbers would not change the basic conclusion that wealth has become more concentrated in most countries over the last three decades.

More importantly, though, all Piketty's wealth data suffers from a much more fundamental error: It cannot be telling us what he says it does. In his widely praised book, "Capital in the Twenty-First Century", he concludes that elites are becoming wealthier and more powerful at the expense of the rest of the population. However, wealth information alone, based on the market value of financial holdings and other real assets, can't validate that claim. Incomes and, importantly, social factors also need to be considered.

from Breakingviews:

What Lagarde should’ve told Smith College’s grads

By Christopher Swann and Rob Cox
The authors are Reuters Breakingviews columnists. The opinions expressed are their own.

International Monetary Fund boss Christine Lagarde wimped out of speaking at Smith College’s commencement after a student petition accused the fund of supporting “patriarchal systems.” The fund has made many mistakes over the years. But that critique is mostly old hat. The IMF, particularly under Lagarde, has fostered social spending and championed female rights. Here’s what she ought to have told the 672 women graduating from the university in Northampton, Massachusetts on May 18.

Women of Smith

Congratulations on graduating from one of the world’s greatest women’s colleges. I understand that many of you had reservations about having me as your speaker. Student opposition also recently caused former Secretary of State Condoleezza Rice to cancel a similar address to the students at Rutgers.

from Breakingviews:

Rob Cox: Solving America’s homegrown Putin dilemma

By Rob Cox
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

As the eagle flies, it's a long way from Bunkerville, Nevada to Slovyansk, Ukraine. Right now, though, the two places have something insidious in common: armed vigilantism. That parallel sadly seems to escape the many American policymakers who have accused President Barack Obama of adopting the logic of appeasement in his dealings with Russian President Vladimir Putin. They're missing a big point. If the United States can't uphold the rule of law at home, it can have no credibility abroad.

Over the weekend, South Carolina Senator Lindsey Graham joined the chorus of Republicans branding Obama the new Neville Chamberlain. He told CBS's "Face the Nation" that the president is "delusional" and his latest economic sanctions "should have been called the Russian economic recovery act" for helping bolster the Russian stock market and rouble last week.

Does it matter whether or not economics is a ‘science’?

Recently, at the House of Sweden, there was a feisty exchange among the newest Nobel laureates. First, one of the economics winners, Robert Shiller, questioned the validity of the efficient markets hypothesis, the prize-wining idea of co-laureate Gene Fama. This prompted chemistry winner, Martin Karplus, to say “What understanding of the stock market do you really have?” He reckoned economics can’t explain the market and questioned if “the dismal science” is even a science.

That conversation demonstrates the understandable frustration people have with the economics profession. That frustration deepened with the financial crisis, which few predicted, and the anemic recovery that followed it, where economic policies failed to revive growth. It leads many to ask: “What use are economists and their theories?”

It’s important to understand that economics isn’t fortune-telling. If you judge a single economic model by its ability to predict the future, inevitably it will fail you. Economics merely aims to determine the best use of scarce resources. That requires some understanding of how different factors in the economy interact. For example, if you have limited means to boost the economy and increase government spending, what happens to income?

How the Nobel economists changed investing forever

The 2013 Nobel Prize for economics celebrates that financial markets work, but cautions how little we know. One theme unifies the work of all three winners: Eugene Fama, Robert Shiller and Lars Hansen — risk. (A disclosure: until August I worked at Dimensional Fund Advisors, where Fama is a director and consultant.) Risk is unpredictable, but can be very profitable. That sounds simple enough, but it has profound implications — not only for the lords of high finance, but households, too. Risk teaches humility, to overconfident investors and also policymakers. That humility was notably absent at the IMF/World Bank meetings last week. Policymakers should take special note of the prize this year; it reveals how little we really understand about financial markets.

Fama’s work showed that prices incorporate all available information; this is known as the efficient market hypothesis. The implication is that you cannot systematically outperform the market, unless you have information other people don’t or can access part of the market others can’t. But that doesn’t mean you can’t make money. Over time you can expect, but are not guaranteed, that riskier assets generate higher returns. Stocks, on average, return more than bonds because they are riskier. The stock of smaller companies is riskier than larger ones, so they typically generate more returns. It’s a straightforward concept, but often poorly understood. Even many sophisticated investors get it wrong.

The implications of this theory changed markets, even for the average investor. The concept of efficient markets helped create demand for index funds. Index funds are a type of mutual fund, which is a collection of many different stocks. Active funds profess to know which stocks will outperform the market. Index funds don’t make that promise; stocks are weighted by their size relative to the rest of the market or use a weighting based on identifiable price or size characteristics. Because there’s no magic formula or talent presumed in constructing these funds, they are cheap; if no one can beat the market, why pay 1 or 2 percent of your assets to someone who claims they can? If you believe in efficient markets you’d only hold index funds. This has been revolutionary for the average investor. Through the 1960s few Americans owned stock at all, and if they did they only held a handful of individual stocks, which was very risky. Now about 50 percent of the population owns stock, mostly through mutual funds and increasingly with allocations based on indexing. The average household can invest as well as many hedge funds, for a fraction of the price. The existence of index funds shows that the best innovations (in finance or any industry) are often the simplest.

Mass flourishing: How it was won, and then lost

This essay is adapted from Mass Flourishing: How Grassroots Innovation Created Jobs, Challenge, and Change, published this month by Princeton University Press.

The epic story of the West is the development in the 19th century of a mass prosperity the world had never seen and its near-disappearance in one nation after another in the 20th. Mass Flourishing is a history linking this story to the rise and fall of homegrown innovation. It is also a text on the nature and sources of prosperity. It has two components. The material part is growth of productivity and wages. The non-material part is flourishing – successful exercise of creativity and talents. To flourish, people have to engage a world of challenges and opportunities. The economy’s dynamism and the resulting experience of business life are central to our well-being.

Mass prosperity came with the mass innovation that sprung up in 1815 in Britain, soon after in America and later in Germany and France: It brought sustained growth to these nations — also to nations with entrepreneurs willing and able to copy the innovations. It also brought flourishing to large and increasing numbers of people — mass flourishing. There were experiential benefits: Routine work, dull and lonely, gave way to careers that took twists and turns and jobs that were rewarding. There were also developmental benefits: As people used their imagination to create new things and their ingenuity to meet challenges, they found self-expression, self-realization and personal growth in the process.

from Nicholas Wapshott:

Robert Fogel and the economics of good health

Robert Fogel, who died this week, won a Nobel for economics by mining historical data and in the process shook up the study of history forever. Just as with cholesterol, it seems there is good data mining and bad data mining. Fogel’s was undoubtedly the good kind.

As a teenager when World War Two was ending, he switched from chemistry and physics to study economics at Cornell because he feared, as did others, that when military spending was withdrawn the economy might retrench and sink back into a reprise of the Great Depression. It didn’t turn out that way.

Governments in the Western world switched from spending money on arms to spending on hospitals and schools and the buoyancy kept another slump at bay until the economy was on its feet. Fascinated by figures, as an academic Fogel applied quantitative methods used in economics to test whether historians’ hunches about the cause and effect of events were correct. His findings led to immense controversy and, eventually, a Nobel Prize.

Where is Obama’s promised minimum-wage hike?

During the 2008 campaign, presidential candidate Barack Obama made a pledge to raise the minimum wage to $9.50 per hour by 2011. Promises like this one inspired a generation of young voters, excited long-neglected progressive voters and gave hope to millions of his supporters across the country.

President Obama ran a campaign of soaring rhetoric and uplifting ideas. Amidst two unpopular wars, a rapidly deteriorating financial crisis and the wildly unpopular presidency of George W. Bush, Americans were desperate for a change. He was viewed as a “transformational” candidate, a president who would turn the page on the stagnant politics of Washington.

It is now four years later, and there has been no increase to the minimum wage. There has been no congressional vote, much less a whisper from the White House on the minimum wage.

The late conversion of a famous monetarist

The death of Anna Schwartz has been marked with reverential obituaries. Her contribution to economics was making sense of historical facts to offer a guide to what should be done today. Posterity will know her as the co-author, with Milton Friedman, of Monetary History of the United States, 1867–1960, which revolutionized our understanding of the Great Depression. The pair concluded that, contrary to conventional wisdom, the slump was caused by the Federal Reserve not pumping enough money into the economy.

From this Friedman and Schwartz led a monetarist revolution that claimed that inflation, which had been thought to be caused by either insufficient supply or too much demand, was in all cases and solely caused by too large a supply of money. They led a counterrevolution against Keynesianism, which over three booming decades had driven economies into stagflation – a marriage of runaway inflation and stagnant growth that Keynesians were at a loss to explain or cure.

Although Friedman took much of the credit for the new orthodoxy, and won the Nobel Prize in 1976 for his efforts, Schwartz was more than the midwife of monetarism – she was an equal partner in its conception. When asked why she had not been awarded credit equal to the extrovert Friedman, she modestly responded: “I’m not a media person.” Like the winemaker Luigi Rossi, whose name appears second on Martini bottles, she was an important, if largely silent, partner. Just as no one ever asks for a dry Rossi, so few today remember Schwartz.