Quote of the Week

There has been a fair amount of reaction this week to Harvard economist Greg Mankiw's most recent monthly column in the New York Times, in which he essentially admitted that he didn't know what to make of the U.S. economy at present. It's rare to see any academic (or professional in any field) concede defeat, but Mankiw (whom I had as a professor as an undergraduate, and whose work I have featured here once before) did so in a humble, eloquent manner that I salute.

This week's QUOTE OF THE WEEK

"After more than a quarter-century as a professional economist, I have a confession to make: There is a lot I don’t know about the economy. Indeed, the area of economics where I have devoted most of my energy and attention — the ups and downs of the business cycle — is where I find myself most often confronting important questions without obvious answers."
              - Greg Mankiw, Harvard economics professor

Mankiw goes on to issue a fairly stern (and level-headed) criticism of the culture of punditry in America, one that continues to be fed by our 24-hour news cycle that requires and spews out "analysis" at all times, regardless of its basis in fact. He writes:

By its nature, punditry craves attention, which is easier to attract with certainties than with equivocation. But that certitude reflects bravado more often than true knowledge.

Well said. Plus bonus points for using big words.
 
I, for one, work in an industry that craves analysis, opinion, and prediction. Everyone wants to know where the market is heading next, even though nobody really knows. The best any of us can do is give a range of probabilities and outcomes, and position ourselves favorably for all potential outcomes. But that type of approach doesn't sell many books (or attract many investors). Neither does earning a slow, steady 6-7% per year into perpetuity.

No, the managers and economists who grab the headlines are the ones who make huge bets, put all their eggs in one basket, and are eventually lucky enough to see it pay off. They certainly are fairly quiet about revisiting their predictions when they fail (and they most often do), but they receive huge accolades when they happen to be right. John Paulson, who predicted and profited from the bursting of the housing bubble, knows this dynamic well. But he was wrong for a long time before he finally became right. Insert "stopped clock is right twice a day" wisecrack here.

Either way, I think it's refreshing to see a pundit take a step back and admit weakness and confusion. Every once in a while, we'd all benefit from some humility.

[New York Times]

A shout out to a former professor

I've made my feelings on the ballooning government debt fairly clear here, but this article from Greg Mankiw does a great job of summarizing why raising taxes is NOT the answer to closing budget gaps. The article is a tough one to excerpt, so it's worth taking the time to read the whole thing. But here's the gist of it:

Here's the bottom line: Without any taxes, accepting that editor’s assignment would have yielded my children an extra $10,000. With taxes, it yields only $1,000. In effect, once the entire tax system is taken into account, my family’s marginal tax rate is about 90 percent. Is it any wonder that I turn down most of the money-making opportunities I am offered?

It's easy to criticize the analysis here, in large part because relatively few Americans are as hyper hyper hyper rational as our macroeconomic friend Mankiw. The reality of the situation is that very few Americans will work their way through all the math to determine the true economic benefit of additional work. More money is more money, and so his analysis is somewhat irrelevant (especially since relatively few Americans will even face his particular economic predicament).

But the implication for tax policy is clear: simply put, tax structure skews incentives. If we raise taxes, we simply cannot assume that all of the economic players will continue to make all of the same choices as under the previous tax regime. Therefore, if we are to close budget gaps in any predictable fashion, it MUST always come from the spending side first, not the tax side.

It's easy to write Mankiw off because of his ties to the Bush administration (he was the chairman of W's Council of Economic Advisors), and thereby decry his policies as Reagan-style "voodoo economics". And I, too, am very clearly suspicious of government deficits in any scenario, and Republican economic policies in general.

But I took classes from Greg Mankiw, and I know that his policies are far different from those of anyone in Washington. As a Keynesian economist, he advocates running budget deficits in recessions, with the MASSIVE caveat that spending must be rolled back and turned into budgetary surpluses during boom times. This type of policy provides the buffer that our economy needs when things get a dicey, preventing the backs-to-the-wall type of fiscal situation that we now face. Mankiw certainly does NOT advocate structural deficits and ballooning national debt, nor does traditional Keynesian theory. This is a critical distinction.

That Mankiw's policies are politically unrealistic (because cutting back on government programs is political suicide in any economic environment, so almost all government spending becomes permanent) is not really Mankiw's fault--it's our politicians' fault. So-called "Keynesians" in Washington today are not really Keynesians at all, since they advocate and welcome the accumulation of a national debt.

Regardless of your political views, however, Mankiw's take on taxes is of critical importance. Any discussion on taxes and budget deficits must take these types of incentive structures into account.

[New York Times]