Victims of our own success?

Over the last two days, the Supreme Court has handed down its biggest decisions from the last term.  Some were a really big deal (section 4 of the Voting Rights Act was struck down).  Others, I would argue, won't make all that much of a difference in people's actual lives in the medium run.  Since I haven't gotten to read any of the decisions yet (thanks, Bar Bri), I don't have an opinion yet about whether I agree with the legal reasoning.  But from a practical perspective, after a highly scientific glance at my Facebook feed, I'm pretty sure 95% of people don't really know what DOMA actually did, or realize that the decisions didn't expand the institution of gay marriage outside of California; the ability for a couple to file taxes jointly actually results in less take-home pay if both spouses have similar incomes.  Mostly I'm complacent about that one because, given how far gay rights have come just in the last decade, codified anti-gay discrimination will be just about dead by the end of the decade anyway; in other words, the war is pretty much over, and these are the final shots.

But the case that I found really interesting was the one that gutted the Civil Rights Act.  Section 4 used to require certain states (basically, the old Confederacy) to pre-clear changes to their voting procedures with the Department of Justice to ensure that they don't discriminate against minorities.  The reason for that is that, historically, the old Confederacy has been really really racist and done its best to keep black and brown people from voting (and, until a generation or so ago, drinking from the same water fountains or going to the same schools).  Every so often, Congress has to re-authorize the Civil Rights Act.  Last time it did this was in 2006.  This passed overwhelmingly because voting against a law called the Civil Rights Act is really really bad PR.  So the challenge that came down essentially argued that, since the Civil Rights Act was passed, it's gotten a lot easier for black and brown people to vote, so we don't need the law anymore.  Paul Campos from CU-Boulder law makes a somewhat disingenuous case at Salon for why the logic behind this is circular.

The argument is essentially that conservatives' logic behind repealing the Voting Rights Act (and really a lot of other legislation) is fatally flawed.  In this case, the argument is that the VRA did such a great job of enfranchising minorities that... we don't need it anymore.  But this isn't the only place where this logic applies.  The modern right wing is built around the idea that government is always bad and any regulation is bad regulation.  Get rid of all regulations and the economy will take off, the financial system will become more stable, unemployment will disappear, etc. etc.  It's all baloney, of course, but that's the theory.  But their case for it is always built on contorted logic that, at its root, is based on the reality that regulation in plenty of areas HAS worked effectively.  To take a couple of pointed case, pollution and financial regulation.  Rand Paul's argued in the past that we don't need to regulate carbon emissions because... we've been improving the quality of our air over the past few decades.  Without realizing that our air quality is improving because, you know, we've regulated it in the past.  So the logic is that, because air quality has improved with regulation, we need to do away with the regulation because air quality has improved? 

The same thing took place over the course of decades with the financial system.  After the stock market crash that started the Great Depression, the modern financial regulatory infrastructure was erected in the US.  We got, among other things, deposit insurance to stop bank runs, a separation of commercial and investment banking to limit risk at banks, the SEC to police the securities industry and promote disclosure, and other changes.  Some of these changes were hugely successful.  Others were probably superfluous (the argument that repealing Glass-Steagall in 1999 led in some direct way to the financial crisis of 2008 is... very weak at best).  But, for the most part, the regulatory infrastructure of the 1930's got us probably the most stable, prosperous few decades in modern economic history.  And that worked so well that, around the mid-1970's, we got a push back from the industry arguing that regulation was unnecessary.  Because there hadn't been a financial crisis in a generation, they argued, industry had gotten so good at policing itself that government wasn't needed.  And, steadily, they got some of what they wanted.  Some of that was probably good policy (interest rate caps were never a great idea), some was bad policy, but the general movement was definitely toward deregulation.  And we had a few small-scale meltdowns; the S&L crisis in Texas came more or less directly out of deregulation, and the collapse of the hedge fund Long Term Capital Management required a private sector bailout.  While the regulatory framework of the 1930s was woefully inadequate for handling a meltdown of the 21st century financial system, the general movement was in the wrong direction-- instead of realizing that the framework of the 1930's worked exceptionally well for decades and needed to be updated to accommodate the new reality of the 1990's and 2000's, the framework of the 1930's was dismantled because, well, didn't financial stability mean that it was unnecessary?  As it happened, the answer was obviously not.  But then, when you think about it, it really doesn't make any sense as a worldview.  It's like a farmer arguing that, since he started watering his fields, his crop yields have been great, so he doesn't need to water his fields anymore.

The Civil Rights case is slightly different, sure.  The reason I wasn't compelled by Campos's argument comparing a higher drinking age with incidences of alcohol-related death is that alcohol will always impair drivers.  Laws to remedy racism are necessary so long as people are still racist.  But the answer, in this case, is pretty clear.  Right after the Supreme Court struck down Section 4, the same old Confederate states (I'm looking at you, Texas) rushed out to pass Voter ID laws and other legislation that they wouldn't have been allowed to implement under Section 4.  And it's painfully obvious that the point of Voter ID isn't to prevent voter fraud (which literally just about never happens), but to keep people who are unlikely to have IDs (poor black and brown people, who happen to vote Democrat) from voting.  That very rush to pass legislation should be viewed as egg on the Supreme Court's face.  The instant they came out and declared that we don't need the VRA because people aren't racist anymore... the same states it applied to went out and told the Supreme Court (and America), "Yeah, we're still definitely racist."

I guess the lesson to take from this is... don't pass regulations that work too well.  Because then we'll decide that we don't need regulations anymore.  As an argument, it's just a little bit questionable.

On Expectations-based policy

I haven't written anything in a long time.  Mostly because I've been doing my last semester of law school.  Which is the best time of anyone's life.  It's like your birthday between ages 5 and 10.  Except that instead of once a year, it's your birthday every day.  It's great.  But that's over now, and I've gotta devote my energy to studying for the bar.  Which, of course, means putting that off by writing about things that I find more interesting than personal jurisdiction in New York.  Also, unlike personal jurisdiction in New York, I choose the things I write here, so I might actually know something about them.

Today's topic is really two parallel topics with a single theme: the ways economic policymakers have used (and abused) the idea of expectations-based policy to push different approaches to fixing the economy.  Unsurprisingly, one of these approaches is much much better than the other.  On the one side, we've had the expansionary austerity types.  Standard economic theory is pretty clear about the effect of austerity-- contractionary fiscal policy (meaning spending cuts or tax hikes) by the government is, on net, contractionary.  Of course, it doesn't have to be contractionary overall-- an economy can cut spending but still grow if the central bank counteracts that with looser fiscal policy.  Which, under present conditions, is more or less unavailable in advanced economies in which, more or less across the board, interest rates are close to as low as they can go.

The idea behind expansionary austerity is that what's really holding back economies is... budget deficits.  Ignoring the reality that budget problems across more or less all of Europe (Greece being a notable exception) and the US were caused by a collapse in tax revenues due to the economic crisis, expansionary austerity types decided that people and businesses aren't spending or investing because they're afraid that, someday, when the economy recovers, they'll have to pay higher taxes to service their nations' debt.  The logic is as convoluted as it sounds.  And just as wrong.  The reality is that people aren't spending because they either don't have income (or their income comes in the form of unemployment benefits) or they're afraid of losing their source of income.  And businesses aren't hiring because they aren't moving products.  They're still immensely profitable (the surge in the stock market is a pretty good indicator of that, especially since P/E ratios are pretty close to historical averages, unlike those of the bubble years in the late 90's), but that's largely because big public companies both have access to overseas markets and have disproportionate power in the labor market-- workers don't have much space to demand higher wages when a big chunk of the workforce is still out of work and would gladly take the job.

But expansionary austerity, on the basis of the magic idea of "confidence" has been plenty influential on the American and especially the European right, mostly because I think people like to think of economics as a morality play where we need to repent for past sins by punishing the undeserving (read: poor people).  So we get fiscal contraction in a depressed economy, with the justification that it will all pay off when "confidence" returns.  So Europe tried it.  Spoiler alert: confidence didn't return.  Instead, they got a Depression that's been worse, for the most part, than the Great Depression for most of the continent.  With no intellectual edifice for this disaster (Expansionary austerity folks loved to point to a paper by Alesina/Ardagna that seemed to say that austerity could be expansionary; it was hugely clear to anyone that actually read the paper that they didn't, you know, control for monetary policy, which made the whole exercise worse than useless.  Reinhart/Rogoff 2010 was also briefly used for this purpose; I never put much stock in the causal story in that one, but everyone knows what happened to that one), hopefully expansionary austerity will finally go into the desk drawer where policymakers put the rest of their worst ideas.

On the other hand, a group of economists ranging from the Keynesian left (like Paul Krugman) to the right (Scott, Sumner, Greg Mankiw, Ken Rogoff) to the center (Ben Bernanke, Michael Woodford) has suggested that a concerted effort by the central bank to commit to a slightly higher rate of inflation (say, 4% instead of the unofficial 2% target) or a nominal GDP number, which essentially have the same effect, would induce a change in market expectations and stimulate spending.  The idea is that, with inflation expectations well-anchored now, and indeed running persistently below target, people aren't sufficiently induced to spend.  In particular, corporations sitting on cash (and American corporations have a LOT of cash on hand) would need to spend that cash on something or risk the value of the cash eroding, since inflation reduces the nominal buying power of cash.  The trick to this is that inflation is somewhat self-fulfilling.  When people expect prices to rise, they demand higher wages.  When they demand higher wages, they tend to get those higher wages and can spend more of them on the same products.  At the same time, savers have to move their cash into some higher-yielding use.  That might mean stocks, but it frequently means investments with positive net-present value that boost employment and other productive activities.  At the same time, higher wages mean that the real value of outstanding debt falls, since the same nominal debt is less of a burden for someone whose income is rising.  Given that our collective debt (mostly still private debt that came out of the mortgage collapse, where people found that their homes were worth less than their mortgage debt) is still a drag on the economy, higher inflation makes paying down that debt easier and quicker.

So how is this second approach different from the first? Well, to start with, if it fails, the worst-case scenario, absent a complete bungling of policy on the part of the central bank, is that nothing happens.  Under present conditions (short-term interest rates at close to 0 and unemployment persistently high), expansionary monetary policy by itself doesn't do anything (since you can't have a nominal interest rate below 0; people will just hold cash).  So, if monetary stimulus doesn't stimulate, you're in the same place that you started.  The idea behind unconventional monetary stimulus at this point is to move expectations so that monetary stimulus essentially becomes self-fulfilling (there's also a real element to it; it doesn't matter how much inflation people expect, if there isn't enough money circulating to get them pay raises, there won't be any pay raises, just higher unemployment).  If inflation does take off, well, central banks have tools to deal with that.  If it doesn't, you're in the same place you started.  In fact, the people I listed have different levels of confidence in how effective inflation targeting actually will or can be.  Scott Sumner is very confident.  Paul Krugman isn't so confident, but his position amounts to "It might not work, but we might as well try this, along with fiscal policy." ( As a card-carrying Keynesian, Krugman has a lot more faith in fiscal policy to do the job with interest rates at zero.)  In other words, it's a hope with pretty limited downside.  Inflation targeting also has the added benefit of not being the exact opposite of what textbook economics says you should do when the economy suffers from insufficient demand (like, you know, contractionary fiscal policy).

Shockingly, I come down in the second camp.  I have no clue how effective NGDP/inflation targeting can be, but I figure, as long as the economy is depressed, there's no reason not to try.  It's a hope, but it's a hope that we might as well try.  On the other hand, summoning confidence through expansionary austerity, for a lot of people, was a plan.  And it was a plan that, predictably, was a very human disaster.  And for that, those who pushed it should be ashamed.