Presidential Myths

Time respects no person
What you lift up must fall
They're waiting outside
To claim my tumbling walls
--John Mellencamp

There may be no social position more subject to myth than leadership roles. Yesterday on President's Day, Judge Nap took on myths surrounding presidents Theodore Roosevelt, Woodrow Wilson, and, particularly, Abraham Lincoln.

The interesting thing about myths surrounding these people is their imperviousness to reason and evidence.

Meanwhile, revisionists keep chipping away at the façade...

Inflation and Language

Drawn into the stream
Of undefined illusion
Those diamond dreams
They can't disguise the truth
--Level 42

Thought provoking piece (takes a while to download, source page is here) by Dylan Grice on the influence of inflation on language. Grice posits that because inflation involves the devaluation of money, and because money is based on trust, devaluing money devalues trust. It also devalues language.

Using Google ngram word count analysis, Grice demonstrates hyperbolic-like growth in use of arcane, hallow, and euphemistic economic and financial terms alongside the massive growth in inflationary credit money over the past three decades.

Among his interesting observations are:

Wealth vs liquidity. Blurred differences between old school tangible, productive wealth (e.g., farmland, businesses) and new age intangible, liquid wealth (e.g., financial securities). He suggests that many of today's investors confuse liquidity with wealth.

Risk vs volatility. Risk can be defined as potential for loss while volatility can be seen as variation in price. Many 'risk managers' are currently focused on managing volatility rather than risk.

Money vs capital. Grice cites a book excerpt where the author claims that "financial capital is abundant. The scarce resource is no longer money" and that at some point central banks may need to "print more capital."

As Grice observes, money is not capital. Capital comes from economic resources that have been set aside rather than consumed. Money is merely printed paper, or numbers created by computer keystrokes.

Grice astutely observes, "Capital comes from savings, and the policy of cheap credit with its inflation of time preference has encouraged spending, not saving. Scarce capital is growing even scarcer."

That observation is so important that it should be read repeatedly until completely understood.

He continues, "One day, the price of capital will reflect its underlying scarcity because one day it must."

Dylan Grice has mined a real gem, it seems to me. Inflation has not only devalued money but it has devalued language and understanding related to money. In particular, people are prone to confuse money with capital, even at the policymaker level.

When language itself becomes grossly distorted, it is likely that related behavior becomes grossly distorted as well.

Categories of Income Mobility

"Your grandfather scratched the mill out of the naked earth."
--Mary Rafferty (The Valley of Decision)

A common problem with income distribution studies is that they tend to be static in nature. They ignore income mobility--or the extent to which individuals move up or down the income ladder.

Markets that exhibit high degrees of income mobility are generally desireable because of their capacity for rewarding success and punishing failure.

Income mobility can be categorized according to the time horizon associated with moving significantly on the income ladder. Intergenerational mobility is the extent to which offspring move up or down the income ladder compared to their parents. Parents may not be mobile because they are busy working and saving in jobs that do not offer much advancement potential. They subsequently pass their savings down to their children who use those resources to advance their productivities and incomes.

This can work in reverse, of course. Parents can borrow and spend into oblivion, thereby leaving little inheritance for their children.

Income mobility can also be intertemporal. Intertemporal mobility refers to the extent to which individuals who start with low [high] income can move up [down] the ladder in their lifetimes.

An interesting finding of mobility research is that income mobility tends to be much greater during unstable economic periods. Those people concerned about income 'fairness' should therefore relish economic uncertainty because "deep recessions are the fairest years of all" in terms of the poor advancing and the wealthy getting crushed.

One technical note about mobility research that measures movement between fractional income groups (e.g., income 'quintiles') is that the middle income groups are more likely to experience mobility because, being in the middle, these groups can move in either direction. Those in the extreme buckets can only move up or down.

This measurement artifact sometimes leads to the faulty conclusion that the poor are stuck at the bottom and the rich are secure at the top when, in fact, it is a mathematical consequence of people in these groups only being able to move in one direction.

Prescriptive Force

Life is demanding
Without understanding
--Ace of Base

"We need to do this..."

In the context of politics, 'we' often means 'you.' The 'we' is often a euphemism for principals contracting with strong armed government agents. The prescription involves how those agents should apply aggressive force to limit the freedom of others.

What drives so many people to prescribe the use of aggressive force on others? Is it a vision so grand that some people are willing to use force to achieve it?

Or is it simply the desire to control others--the timeless drive for conquest?

Pareto Principle

"I'm not anxious to die, sir...just anxious to matter."
--Rafe McCawley (Pearl Harbor)

I first learned the Pareto Principle while studying quality management principles in the late 1980s under the tutelage of Joseph Juran and his institute.

Vilfredo Pareto was a European renaissance man of the 1800s--engineer, philosopher, economist, etc. In the 1890s, Pareto observed that the distribution of real estate-related wealth in Italy was not even. Instead, approximately 20% of the people owned about 80% of the land.

Juran suggested that many social phenomena are distributed in this fashion. In a long list of problems, a few of them usually offer the majority of payback. For sales people, a minority fraction of clients usually bring most of the commissions. Of the many things that you want to do on your personal bucket list, only a few of them are likely to really matter.

Juran called this the 'Pareto Principle.' or the '80/20 Rule.' The trick to being effective, he suggested, is being able to 'separate the vital few from the trivial many.'

In other words, you need to be good at prioritizing...

The Pareto Principle can be pictured by a special type of bar graph called a Pareto chart. Typically, the vertical axis represents some measure of cost, value, contribution, or opportunity while the horizontal axis includes categorical items sorted from high to low by the vertical axis variable.

A distribution reflects the Pareto Principle when the bars associated with the first couple of items are are relatively tall and the remaining bars quickly taper toward the horizontal axis. The overall effect resembles a 1/x hyperbolic shape:

Once aware of it, you might notice the Pareto effect more often. In the last day or so, I've recognized Pareto-like patterns in the distribution of Fortune 500 company revenues, in a ranking of debtor nations, and in an analysis of US individual annual income.

The Pareto Principle is a useful tool for both the analyst and for the effective liver of life.

Interest Rates and Savings in Hampered Markets

And you thought it was only in movies
As you wish all your dreams would come true
It ain't the first time believe me, baby
I'm standing here feeling blue
--Led Zeppelin

In the Q&A session following her first "Humphrey-Hawkins" testimony before Congress, new Fed chair Janet Yellen apparently said (I can't find a Q&A transcript) that interest rates on bank instruments like savings accounts and CDs were low because there is excess savings in the economy relative to demand.

In unhampered markets, this is likely to be true. High supply of savings relative to demand would reduce the price of credit and encourage more borrowing.

In the current market environment, however, interest rates are not moving freely based on savings supply and demand. Interest rates are instead being suppressed by Fed interventions. Central planners are trying to fool markets. By forcing interest rates below market, they are sending a false signal to market participants that savings are more abundant than they really are in attempt to elevate consumption in the here and now.

This is a foolish thing to do in an economic environment that already lacks savings. High interest rates that would naturally occur in this environment would be encouraging people to save more. The resources that people set aside would provide capital formation for future investment.

Artificially suppressed interest rates discourage savings at precisely the time that people should be building savings. By consuming ever more of today's production and saving ever less, we engage in capital consumption. Capital consumption hamstrings future productivity growth which, in turn, restricts future standard of living.

Yellen's remarks reflect a lack of economic understanding that is unfortunately all too common among the Federal Reserve bureaucracy.

Unilaterial Obamacare Revision

"How dare you come into this office and bark at me like some little junk yard dog? I am the President of the United States!"
--President Bennett (Clear and Present Danger)

As the president continues to unilaterally alter aspects of the ACA statute, debate escalates over whether these executive actions are legal.

One way to frame the situation is that the executive branch thinks that it has been given the power to revise laws at its discretion, particularly when implementation of a law becomes difficult. It will continue to do so unless challenged by Congress.

The juvenile corrollary is the kid who keeps doing bad until checked by the parent.

Ron Paul believes that it is unlikely that Congress will check the misbehaving child unless prompted to do so by the people.

Meanwhile, interesting question posed here. Given the Obama administration's departures from the letter of the law, what stops a future Republican administration from simply waiving the law entirely?

This is the problem with discretionary rule. Changes are arbitrary and positivistic. What is law depends on who is in charge.

Has GDP Been Contracting?

The deception with tact
Just what are you trying to say
--The Fixx

Since 1994, reported GDP has grown ~2.6% annually. The blue series on the graph below shows the annual percentage changes in reported GDP during this period.

The reported GDP number is sometimes referred to as 'real' GDP, meaning that it has been adjusted for price inflation. The 'headline' price inflation number, the CPI-U (consumer price index-urban), has increased ~2.4% annually since 1994. (The actual 'GDP deflator' has averaged less than this (2.0%) during this period, but that is a story for another day).

What if price inflation is under-reported? Suppose that it has been under-reported by 3% since 1994 (which may be conservative).

If true, then the 2.6% reported annual GDP increase over the last 20 yrs turns into 0.4% average annual decline. The red series on the above graph shows the annual percentage changes in GDP adjusted for 3% underreported price inflation. Viewed from this persepctive, changes in GDP over the past decade have largely been negative--meaning that output has been declining rather than advancing for the better part of ten years.

Test this proposition empirically. Has your cost of living been increasing greater than 2.4% per year? Is it easier or harder to make ends meet now compared to a few years ago?

If GDP has actually been declining rather than increasing, then conditions of general economic malaise are much easier to explain.

CBO and Resource Dependence

She said that living with me
Is bringing her down, yeah
For she would never be free
When I was around
--The Beatles

Professor John Taylor wonders why the CBO waited so long to report its estimated negative effects of Obamacare on motivation to work. After all, it is well known that large welfare programs provide disincentives for work. Higher marginal tax rates associated with leaving welfare for productive work is one important mechanism for keeping people unemployed.

Prof Taylor's question about the CBO is a rhetorical one, of course. The situation reflects a classic application of resource dependence theory (Pfeffer & Salancik, 1978). Any government agency, even one that claims to be 'non-partisan' such as the CBO, depends on the State (whether controlled by Democrats or Republicans) for resources.

This suggests that not only has the CBO's estimate of 2 million disincented workers by 2020 been delivered late, but it is also probably too low.

It is unlikely that CBO will bite feeding hands.

Reference

Pfeffer, J. & Salancik, G.R. 1978. The external control of organizations: A resource dependence perspective. New York: Harper & Row.

Limited Government

"Why should I trade one tyrant three thousand miles away for three thousand tyrants one mile away? An elected legislature can trample a man's rights as easily as a king can."
--Benjamin Martin (The Patriot)

Limited government was the original idea behind the formation of a federal government of the United States. The Constitution enumerated a small list of powers that the central government was permitted to exercise. If the power wasn't enumerated, then the federal government did not legally have it.

However, skepticism of central government was so pervasive that many states agreed to ratify the Constitution only if a list of fundamental rights that would be free from government infringement was amended to the Constitution. This list, of course, became known as the Bill of Rights.

What about issues not covered by either the Constitution or the Bill of Rights? The Ninth and Tenth amendments clearly state that those powers are retained by the states and their people.

Our ancestors clearly did not trust centralized government or the types of people that government attracts to office. This is why the framers did not endow the federal government with a blank check to do whatever government officials "thought was right."

Subsequent events clear demonstrate that their skepticism was justified and prescient.