Where is the trade-off?

Many IB year 2 HL Economics students will soon be discussing with their teachers the so-called Phillips Curve literature.  The basic idea is that there is a trade-off between the rate of unemployment and the rate of inflation:  if unemployment decreases then inflation will increase (and vice versa).

This inverse relationship was first detected by a New Zealand economist (first a crocodile hunter then an electrical engineer and later an economist at the LSE - see Wikipedia) when studying the UK annual unemployment rate and the annual percentage change  in money wages:  when the labor market was tight (so unemployment was low) then money wages would tend to rise.  If prices were a mark-up on costs / wages, then if unemployment decreased, prices would tend to increase.  This pattern was detected for many countries but if the trade-off was stable then policymakers could 'choose' the most desirable unemployment-inflation combination and with demand side policies try to achieve it.  Some started talking even about 'fine-tuning' the economy which was anathema to Milton Friedman and the monetarists (this always sounds to me like a band...).  In any case, Friedman's ingenuity came up with the 'expectations-augmented Phillips curve' where there is no trade-off in the long run (defined as when expected inflation and actual inflation are equal).  In the long run there is only one rate of inflation compatible with non-accelerating inflation and that is the 'equilibrium' unemployment rate which (again, ingeniously) Friedman called the 'natural rate of unemployment'.
To make a long story short, the US unemployment has been steadily decreasing for some time and for many has approached or even exceeded the NRU so many have been expecting increases in money wages as well as increases in the average price level i.e. inflation.
But...not the case!  The question is what should the Fed do?  Should it slowly tighten monetary policy to avoid a jump in inflation and thus a greater increase in interest rates? But if there is still no risk of inflation for whatever reason?  Then growth would just slow down and people who could have found a job will remain unemployed.  The Fed has increased interest rates a bit but unemployment was still deceasing while inflation was still below the (totally arbitrary - see this excellent article) 2% goal!
Which bring us to this New York Times editorial Why is the Fed so scared of inflation which is definitely worth reading.

This is from the article:

As Fed officials try to make sense of how low unemployment, which should drive up wages and prices, persists side by side with low inflation, most simply assume that inflation will rise by next year as labor demand lifts wages and higher wages lead to rising prices. This belief has led to two interest rate increases so far this year, in effect tapping the brakes on growth to fight inflation, with another rate increase expected this year. A more plausible view is that persistently low inflation shows the economy is more fragile than policy makers want to admit, and needs to be helped, not handicapped. (the photo is from an FOMC meeting)

A simple exposition of the basics of the Phillips Curve for the IB HL Economics candidate can be found at my Economics Study Guide here or here or here (Oxford University Press)

On the history and shortcomings of GDP

A very interesting and useful article I found in Project Syndicate today.  The short article is titled Why GDP? and is written by Philipp Lepenies, a visiting professor of political science at the Free University of Berlin.

Quoting from the article:

Given GDP’s seeming indispensability today, it may come as a surprise that until the 1930s national governments’ only aggregate statistical measurement of the economy was tax estimates. This all changed on October 29, 1929 – Black Tuesday.

Congress recognized the need for an aggregate statistical picture of the economy, but it didn’t know how to produce one. It turned to Simon Kuznets, a Soviet émigré economist and future Nobel laureate, who was asked to define and calculate what was then called “national income.”

The focus thus initially was on National Income (and its breakdown).  Kuznets found that incomes had shrunk by half compared to pre-Depression levels and 'raising national income and ensuring that people earned more became the top priority.'

But...

...when the US entered World War II, the focus shifted. Next to the material production needs of the war effort, how much money people were taking home was no longer a pressing issue. Consequently, policymakers deliberately changed national income to gross national product, which merely showed the total dollar value of goods produced. National income and GNP were numerically identical – overall income generated is, by definition, equal to the value of goods produced. The crucial difference is that GNP doesn’t take into account how income is distributed.

And this hasn't changed.  Growth (increasing GDP through time) became...

...a universal goal for those in power because, by focusing on ever-expanding output, it avoids politics. As John Kenneth Galbraith pointed out in his 1958 book The Affluent Society, “… inequality has ceased to preoccupy men’s minds.” Enlarging the pie, the thinking went, meant everyone would get a bigger piece.

The full article can be found here.

(useful info for IB economics essay questions, given the Learning Outcome: 'Evaluate the use of national income statistics, including their use for making comparisons over time, their use for making comparisons between countries and their use for making conclusions about standards of living.'  For example, info from this article could be used in this (Specimen 2013) essay question: ‘Using real GDP data is a very useful means of comparing economic activity between countries.’ Discuss this statement.' Or, from this November 2015 question: 'Discuss the view that economic growth always raises living standards in a country.')

All past HL and SL IB Essay Questions collected from past papers

I've been doing this for quite a few years.  I collect past IB essay (P1) questions sorted by exam period and by syllabus section to help my students prepare for school and final (May) exams.  I have also been uploading this onto the OCC, the forum for IB teachers, for too many years to remember.

I have also just uploaded these files onto my Wiki space, available for downloading.

This is the link (check the bottom of the page): Past IB P1 HL and SL essay questions.

Hope these files prove helpful!

Helicopter money drop, Corbyn and how to accelerate British (and, not only) growth

In your IB class you probably had heard of Milton Friedman's 'helicopter money drop'.

When the causes of inflation were discussed, it was explained that one of the causes of demand-pull inflation was 'excessive monetary growth'.  Milton Friedman had said that 'inflation is a purely monetary phenomenon' and it will result if 'too much money is chasing after too few goods/'  He illustrated this with his 'helicopter money drop':  Army helicopters ('Black Hawks'...) fly over the Athens' sky (...I tell my students), and they open up their bellies and start dropping zillions of bags full of money -dollar or euro bills.  People go nuts.  They grab  garbage bags, pillow cases, suitcases etc and fill them up frantically with as much money (100, 200 and 500 euro or dollar bills) as they can get hold of.  I will do the same but only for a few minutes. When I fill up one large garbage bag I will run to the closest jewelry store and buy myself watches, golden bracelets, diamond rings etc. but also, from the  kiosk next to my house, a cold beer.  I will then sit and watch sipping my beer as people frantically continue collecting zillions without realizing that after a little while, prices will surge!

But...

...now, economies are suffering from deflation or near-deflation; they have not been growing; unemployment statistics may underestimate true unemployment (because of discouraged workers, involuntary part-timers etc.).  So?

Given that the unconventional monetary policies used these past few years, like QE (quantitative easing) and even negative interest rates (see on negative interest rates) have not really worked (they are thought to have inflated asset prices increasing income inequality and increased private debt), Friedman's idea sounds pretty sensible.  The Central Bank will hand cash directly to households and firms (I read somewhere that you could, for example,  receive in your mail a $1000 check to spend on whatever  you fancy, or the government could finance with such newly created money infrastructure projects (that also have a long run supply side effect).

Quoting:
WSJ article (see below):

Helicopter money seeks to remedy this problem by bypassing the financial system as an intermediary of monetary policy and opening a new channel directly to the wider economy. By printing up new money and putting it into the hands of firms and individuals to spend rather than to hold, prices will rise and so, it is hoped, will output.

and,

There are even bolder versions. Last Thursday, 35 economists wrote to the Guardian newspaper to say that “the money [created by the Bank of England] could be used to fund either a tax cut or direct cash transfers to households, resulting in an immediate increase of household disposable incomes.” More likely perhaps, the economists also proposed that “a fiscal stimulus financed by central bank money creation could be used to fund essential investment in infrastructure projects—boosting the incomes of businesses and households, and increasing the public sector’s productive assets in the process.”

The Guardian article (see below):

Direct cash handouts to households would be a better way of boosting Britain’s flagging economy than the interest-rate cuts expected from the Bank of England on Thursday, according to a group of progressive economists.

In a letter to the chancellor, 35 economists have urged Philip Hammond to ditch the approach that has been followed by the government since the recession of 2008-09 and give the Bank the right to try more radical options.

The letter, to be printed in Thursday’s Guardian, suggests that the Bank should be allowed to create money to fund key infrastructure projects. Alternatively, the group says the Bank could pay for tax cuts or direct payments to households.

These ideas can be used in Paper 1 HL and SL essays related to policies that could lift an economy out of recession or accelerate flagging growth (see OECD calls for urgent action to combat flagging growth) or fighting deflation, or, in an essay on evaluating monetary policy etc. etc..

The articles that provided the stimulus for this post are:
Wall Street Journal:
Central Banks are all 'Corbynistas' now

The Guardian:
Cash handouts are best way to boost British growth, say economists

Using the Prisoner's Dilemma in an Oligopoly Paper 1 Essay (IB Economics syllabus)

Just uploaded in my wikispace a pdf copy of a file where I try to explain how and when an IB economics student can use the Prisoner's Dilemma simple game in a Paper 1 essay question.

Here's the link.  Other hopefully helpful files are there to download.  Each is a concise explanation of an IB Economics topic.

China is slowing down. So what? So, quite a lot...for all of us

It's been in the news roughly for 2 years now.  The 'break-neck' growth rates are pretty much a thing of the past (see China's economic growth in 2015 is slowest in 25 years).  Does it matter to the rest? It does, and very much.

For years, China voraciously gobbled up all manner of metals, crops and fuels as its economy rapidly expanded. Countries and companies, fueled by cheap debt, aggressively broadened their operations, betting that China’s appetite would grow unabated.

Now?

China’s economy is slumping. American companies, struggling to pay their debts as interest rates rise, must keep producing. All the excess is crushing prices, hurting commodity-dependent economies across emerging markets like Brazil and Venezuela and developed countries like Australia and Canada.

And, '...weakness in China prompted a stock sell-off around the world'.
And, just '...oil companies, have laid off an estimated 250,000 workers worldwide'
And, 'coal mining companies have filed for bankruptcy protection'
And, 'Venezuela is struggling to meet $10 billion in debt obligations since 95 percent of export earnings depend on crude'.
And, 'a weakening global economy, lowering the value of trade worldwide and perhaps even pushing some countries into the same kind of deflationary spiral that has hampered the Japanese economy for decades'
(all of the above quotes from China’s Hunger for Commodities Wanes, and Pain Spreads Among Producers in the NYT)

How about the EU?
Well, if China's economy is rebalancing and manufacturing is slowing down then it will not only need fewer commodities but also fewer capital goods (machines and tools and equipment) to import.  Guess who is one of the biggest exporters of capital goods to China?  Yep, you guessed right, it's Germany.  And if Germany's exports slowdown then aggregate demand will decrease (or, increase at a slower rate) so Germany's growth will suffer (and it isn't that impressive right now)

See this for example: Global groups pay a heavy price for China’s slowdown.

China buys about 8 per cent of the EU’s exports, with Germany’s share by far the highest, followed by Finland, Austria and France.

And,

Germany’s auto companies derive between 15 and 30 per cent of operating earnings and cash flow from Chinese sales.

And, won't that affect the ECB's next decision on interest rates and monetary policy?
This photo of Mario Draghi, President of the European Central Bank, is pretty suggestive:

See China Worries Weigh Ahead of European Central Bank Policy Decision from the WSJ.

Interesting times for IB Economics candidates!

Pollution, cap and trade, carbon taxes

This New York Times article is a jewel for IB Economics candidates, both HL and SL as it is short and sweet and is full of examples one can use in any essay on solutions (discussion; evaluation) of negative production externalities.

It provides examples of 'market based solutions', i.e. solutions (or better policy responses) whereby the incentive function of price changes are still the driving force of containing pollution.  Real world examples of both 'cap and trade' systems in the world and carbon taxes are presented with a short discussion of their effectiveness.

A must to read and take down a couple of notes for all IB Economics candidates!

Proof that a Price on Carbon Works

Europe's pollution mapped...

Well, if you live in Europe, this (searchable) map published in today's Wall Street Journal is interesting...!

This is the link: Mapped: Europe's Diesel Pollution Problem

Lies. lies and more lies..."Big Oil, Big Tobacco, Big Lies"

This article, Big Oil, Big Tobacco, Big Lies, from Project Syndicate is, as usual, very illuminating...

At IB schools around the world, students and teachers should become aware of what has been going on all these years and become active in reversing this catastrophic path.

Over the last few years, a growing number of people have been taking a hard look at what is happening to our planet – historic droughts, rising sea levels, massive floods – and acknowledging, finally, that human activity is propelling rapid climate change. But guess what? Exxon (now ExxonMobil) had an inkling of this as early as 1978.

By the early 1980s, Exxon scientists had much more than an inkling. They not only understood the science behind climate change, but also recognized the company’s own outsize role in driving the phenomenon. Recognizing the potential effects as “catastrophic” for a significant portion of the population, they urged Exxon’s top executives to take action. Instead, the executives buried the truth.

The article can be found here.

Bill McKibben, one of the authors, is a founding member of 350.org,  a 'global climate movement' that runs '...adaptive, locally-driven campaigns in every corner of the globe. 350.org’s small team of paid staff supports thousands of grassroots activists running their own independent, loosely affiliated organizations and campaigns in 188 countries'

Related to this is Fossil Free,  a '...network of campaigns and campaigners working toward fossil fuel divestment in our communities.'

Worth reading and worth getting involved.

Inclusive Growth

Just read a very interesting article on '...the need to expand participation in the benefits of economic growth.'

Maybe geography is very important for growth but institutions do matter on how the benefits of growth are shared.

There is a growing recognition of the importance of institutions – particularly legal frameworks and public agencies that administer rules and incentives – in the development process.'

After mentioning the findings of the 1993 WB study 'The East Asian Miracle', the authors continue..

'...The lesson is also apparent in the economic history of the twentieth century, when – especially in the decades following the Great Depression – most of today’s advanced industrialized countries underwent a sustained process of institutional deepening that broadened the base and strengthened the resilience of their economies. Reforms targeting labor policy, the investment climate, social insurance, competition, education, and infrastructure created a more inclusive and more sustainable growth model by spreading purchasing power, which supported aggregate demand and reduced vulnerability to investment-driven booms and busts.'

The following paragraph is perhaps the most important for IB Economics students to comprehend.  It clearly goes beyond the typical 'recipe' most candidates offer in related essays and forces them to focus more on the importance of 'inclusive' growth (remember the Acemoglu / Robertson book 'Why Nations Fail'; see older post):

Our research has identified 15 domains that are important for promoting social inclusion. These include educational opportunity and performance, the relationship between productivity and wage growth, the concentration of economic rents, the effectiveness of the financial system’s intermediation of investment in the real economy, physical and digital infrastructure, and the coverage and adequacy of basic social protections. They also include areas not traditionally considered equality-enhancing – such as facilitating asset-building through small-business and home ownership and combating corruption – but that are just as important as education or redistribution for improving living standards.

The full article was read at Project Syndicate and the link is here.

On the costs of pollution

Outdoor air pollution is deadly:

 'Air pollution is a problem for much of the developing world and is believed to kill more people worldwide than AIDS, malaria, breast cancer, or tuberculosis' (from Air Pollution in China: Mapping of Concentrations and Sources).

According to the new paper published by Berkeley Earth (with the NYT reporting the main findings here):

'The observed air pollution is calculated to contribute to 1.6 million deaths/year in China [0.7–2.2 million deaths/year at 95% confidence], roughly 17% of all deaths in China.'  

This translates to about 4400 people a day.  The air that many people breath is considered unhealthy by at least US standards.  The greatest health hazard is the fine air particles with a diameter of less than 2.5 micrometers.

According to the data presented in the paper, about three eighths of the Chinese population breathe air that would be rated “unhealthy” by United States standards. The most dangerous of the pollutants studied were fine airborne particles less than 2.5 microns in diameter, which can find their way deep into human lungs, be absorbed into the bloodstream and cause a host of health problems, including asthma, strokes, lung cancer and heart attacks.

The EPA here explains the issue with such particles:

"Particulate matter," also known as particle pollution or PM, is a complex mixture of extremely small particles and liquid droplets. Particle pollution is made up of a number of components, including acids (such as nitrates and sulfates), organic chemicals, metals, and soil or dust particles.

The size of particles is directly linked to their potential for causing health problems. EPA is concerned about particles that are 10 micrometers in diameter or smaller because those are the particles that generally pass through the throat and nose and enter the lungs. Once inhaled, these particles can affect the heart and lungs and cause serious health effects. EPA groups particle pollution into two categories:

• "Inhalable coarse particles," such as those found near roadways and dusty industries, are larger than 2.5 micrometers and smaller than 10 micrometers in diameter. 

• "Fine particles," such as those found in smoke and haze, are 2.5 micrometers in diameter and smaller. These particles can be directly emitted from sources such as forest fires, or they can form when gases emitted from power plants, industries and automobiles react in the air.

If you haven't watched the documentary Under the Dome by Chai Jing, a former China Central Television journalist, please do so.  Ask your IB Economics teacher to watch it in class.  Here is part 1 of 8 from YouTube:

Obviously, the info above can be used in any Paper 1 (Higher or Standard Level) IB Economics essay on negative production externalities or on common access resources (the atmosphere).

{Remember that in my IBECON wiki I upload my Eleventh Hour files 'Simply Anything' which are free notes on all IB Economics topics in bullet form (that's why they are 'Eleventh Hour'!) i.e. bare bones essentials summaries based on my OUP Economics Study Guide and my OUP Economics Skills and Practice books.}

New 11 o'clock file uploaded: 'Simply the circular flow'

Just uploaded a new file '11 o' clock' file for (my) IB Economics students on my IB Economics wiki.

I chose to provide 'last minute' revision notes in bullet form on the circular flow of income which is a learning outcome in section 2.1:

"Explain, using a diagram, the circular flow of income in an open economy with government and financial markets, referring to leakages/ withdrawals (savings, taxes and import expenditure) and injections (investment, government expenditure and export revenue)."
(image from Uneasy Money)

This is what the file looks like:

New! The 11 o'clock files: Revision notes in bullet points for IB Economics

Long time no see...

I have decided to upload some 'last minute' notes for my IB Economics (HL and SL) students that are based on my class teaching.

Each file is on a separate learning outcome from the syllabus and it is comprehensive but in bullets.

These '11 o'clock', last minute files are meant to be used by students together with an IB Economics textbook.  My students use my Study Guide / Skills and Practice books (but my department is considering to also adopt an amazing intro text: Principles of Economics in Context (Goodwin, Harris et al); see here (instructors of IB Economics can order a free inspection copy)

I just uploaded onto my IB Economics Wiki my latest files; these are snippets to give you a flavor of what I've done for my students:

There are also a few files with detailed tips (again, in bullets) aimed at helping IB Economics (higher level) students with their Paper 3 exam(s).

This is a snippet from the 11 o' clock P3 tips to my students on how they should deal with indirect tax questions and/or subsidy questions

The plan is to slowly upload all my notes on all learning outcomes.  If you find errors and /or you would like to comment on how to improve these, please contact me at ziogas11@yahoo.com. Ifan IB Economics instructor would like to modify these to his or her tastes I would be glad to email the word version of a file.

Be back with articles that are of interest to IB Economics students shortly...

On income inequality (and, vicious cycles)

Known for years but pretty well documented by calculations from the National Center for Fair & Open Testing.  I'm referring to a WSJ article titled 'SAT Scores and Income Inequality: SAT Scores and Income Inequality: How Wealthier Kids Rank Higher.  In the Sachs Sustainable Development course it is explained how education could be an equalizer but also a source of higher income inequality We talked about education in class within the context of development but we should keep in mind that we are not always or necessarily referring to or focusing on developing countries.  The following quotes are quite illuminating:

Family wealth allows parents to locate in neighborhoods with better schools (or spring for private schools). Parents who are themselves college educated tend to make more money, and since today’s high school seniors were born in the mid-1990s, many of the wealthiest and best-educated parents themselves came of age when the tests were of crucial importance.

When the SAT is crucial to college, college is crucial to income, and income is crucial to SAT scores, a mutually reinforcing cycle develops.

or,

the SAT is just another area in American life where economic inequality results in much more than just disparate incomes

Of course,

There are students from wealthy families who do very badly and students from poor families who do very well. Having wealthy parents gives a leg up. But parental income is not destiny.

On the role of the government, trust and legitimacy

A very clear exposition of the role of government by Prof. Hausmann and what the focus should be in many countries (including my own):

Ronald Reagan’s dictum: “Government is not the solution to our problems; government is the problem"...is a great sound bite: short, recursive, and somewhat poetic.

Unfortunately, it is also dangerously misleading. After all, even if government were the problem, then changing what it does must be part of the solution.

The truth is that markets cannot exist without governments, and vice versa. Governments are essential to the establishment of security, justice, property rights, and contract enforcement, all of which are essential to a market economy.

Governments must also organize the provision of infrastructure for transportation, communication, energy, water, and waste disposal. They run and regulate health-care systems and primary, secondary, tertiary, and vocational education. They create the rules and provide the certifications that allow firms to assure their customers, workers, and neighbors that what they do is safe. They protect creditors and minority shareholders from miscreant managers (and managers from impulsive creditors).

Saying that governments should get out of the way and let the private sector do its thing is like saying that air traffic controllers should get out of the way and let pilots do their thing. In fact, governments and the private sector need each other, and they need to find better ways to collaborate.

...and, here, I can't help thinking of Greece:

The problem is that in many countries, both developed and developing, the current relationship between the private sector and the government is often dysfunctional. Not only is it characterized by deep distrust, but the broader society does not find a closer relationship to be either legitimate or in the public interest, and for good reason.

The private sector often engages with the government in order to make itself more profitable. After all, maximizing profits is what CEOs are supposed to do. And the government has ways to help: It can force suppliers to sell their inputs more cheaply, repress workers’ wage demands, protect the final market from competition by imports or new entrants, or lower their taxes.

But these schemes make firms more profitable by making their suppliers, workers, and customers poorer. Accepting such demands makes the government rightly illegitimate in the eyes of the rest of society, which cherishes higher priorities than redistribution in favor of the already rich.

and:

Outcomes would be very different if the focus of the relationship were productivity rather than profitability. Productivity improvements, by lowering costs, allow firms to pay their workers and suppliers better, reduce prices for consumers, pay more in taxes, and still make more money for their shareholders. A focus on productivity is win-win-win.

Governments can do many things, in a variety of areas, to raise productivity. Fresh produce requires a cold-storage logistic system, a green lane at customs, certification of good agricultural practices, and sanitary permits. Tourism depends on sensible visa requirements, convenient airports, road signs, hotel construction permits, and the preservation of cultural sites and coastlines. Manufacturing requires dedicated urban space that is adequately connected to power, water, transport, logistics, security, and a diverse labor force.

All of these productivity-boosting inputs require institutions that teach and extend industry-relevant knowledge and skills.

I think I'm quoting the whole article...
Why don't you just read it (and, if you are an IB economics candidate, take down some notes...):

The Productivity of Trust by Ricardo Hausmann, Professor of the Practice of Economic Development at Harvard and Director of the Center of International DevelopmentCenter for International Development.

Fossil fuels, green technologies and what to expect

Many interesting can be found in the article Please Steal Our Fossil Fuels by Adair Turner, a senior fellow at the Institute for Institute for New Economic Thinking (which it seems will provide plenty of great resources for our next IB Economics Syllabus).

2014 seems certain to be the warmest year on record, or at least the runner-up. International agreement on robust action to limit global warming remains inadequate: the just-completed Lima climate-change conference delivered some progress, but no major breakthrough. Away from the diplomatic circuit, however, technological advances make it certain that we can build low-carbon economies at minimal cost and great benefit to human welfare.

Or:

Solar energy reaching the earth’s surface provides 5,000 times humanity’s energy needs. The technology to capture it cost effectively and cleanly is available.

 Or

The price of lithium-ion battery packs has fallen from around $800 per kilowatt-hour in 2009 to $600 in 2014, and will likely be below $300 by 2020 and $150 by the late 2020s. Once the price is below $250, the total cost of owning and running an electric car will be less than for one with an internal combustion engine (assuming gasoline prices of $3.50 per US gallon).

And,

Total gas and coal reserves could support current demand for more than a hundred years, and technological progress – for example, hydraulic fracturing, which has unlocked shale energy – makes an ever growing share of these reserves economically attractive. Oil production may peak within the next few decades, but gasoline equivalents can be synthesized from gas or coal.

As 2014 draws to an end, falling oil, gas, and coal prices threaten to undermine investment in green energy and stimulate wasteful consumption. 

To believers in rational economic choice, of course, there is no waste. If people choose to drive enormous cars, they must derive some benefit from it; and if switching to green energy makes that choice uneconomic, human welfare must suffer.

This last paragraph is great as it questions the idea of a socially optimal level of production/ consumption that we use so often in all our market failure related (negative production - consumption externalities) analyses:

But economic theory based on real-world experience tells us that consumer preferences are neither given nor absolute. Rather, they are stimulated in a self-reinforcing fashion by group norms, trends, and advertising, and some increases in consumption deliver no permanent increase in life satisfaction.

(but permanent increases in the social costs we and our children face)...

A great one by Prof. Robert Skidelsky

A great article by Prof. Skidelsky can be found on the Project Syndicate site.

His last paragraph is the one to keep in mind in an IB P1 macro essay question on fiscal policy, deficit spending, austerity and their effects:

We can all agree that what happens to the budget affects the economy. But I would argue, as Keynes did, that “the boom, not the slump, is the time for austerity at the Treasury.” To try to cut spending in a slump, as Osborne is doing, is to prolong the slump. And, as he is learning, to his displeasure, that means postponing the day when the books will be balanced.

The whole article is very useful to read. Check out the way he explains the 'signalling effects' of announcing spending cuts:

A credible policy of fiscal consolidation, they might say, will have the same exhilarating effect on confidence as fiscal consolidation itself.

Economists call this the “signaling effect.” If you announce that you intend to balance the books over five years and pencil in a lot of spending cuts, consumers, relieved of their fears of future tax increases, will start spending more freely. This will cause national income to rise, and, with luck, the budget deficit will start shrinking, more or less according to plan, without requiring any, or much, retrenchment.

The article can be found here: Britain’s Closet Keynesian. Hiw page is here.

Inflation below but close to 2%

A most interesting article on how we ended up with the 'below, but close to 2%' target for inflation! Beyond this 'historical interest' the article is useful for IB HL and SL Economics candidates because it explains the problems a 1% target would entail and why the 2% target may have been a bit too low (and, perhaps, a 3% or 4% target better).  Janet Yellen's position is most interesting as well as Blanchard's of the IMF and Alan Blinder's of Princeton.

Ms. Yellen, who now runs the institution, worried that announcing an inflation target would make the Fed focus only on inflation and neglect its responsibilities to bolster growth and jobs. She worried that zero inflation could paralyze the economy, particularly during slumps, and felt that some inflation was necessary.

“To my mind the most important argument for some low inflation rate is the ‘greasing the wheels argument,’” Ms. Yellen said in a closed door meeting of Fed policy makers in July 1996. When businesses run into rough times, they may be inclined to cut workers’ pay. But in practice, that doesn’t happen much. Even in a severe downturn, businesses are more likely to cut hours, conduct layoffs or keep positions vacant than cut pay. That’s one reason recessions tend to lead to higher unemployment instead of lower wages.

Inflation helps deal with this problem. When there is a bit of inflation, employers can hold workers’ pay steady during a downturn yet have it decline in inflation adjusted terms. Inflation creates an adjustment mechanism: An assembly line worker may keep making exactly $20 an hour through a downturn, but in inflation adjusted terms that pay falls by 2 percent a year, which could make the factory less likely to resort to layoffs. 

In that 1996 debate, another argument that Ms. Yellen raised against a zero percent target was particularly prescient. The higher the level of inflation, the more that central banks can stimulate the economy during a downturn. Imagine that there is a severe recession and the Fed cuts interest rates to zero, so that when you put money in the bank you get no return. If there is no inflation, your money will retain its purchasing power and be worth the same when you withdraw it. But if there is inflation, the value of your money sitting in the bank becomes steadily less valuable, meaning that you have more incentive to spend or invest it. “A little inflation permits real interest rates to become negative on the rare occasions when required to counter a recession,” Ms. Yellen said in 1996. “This could be important.”

Interesting stuff... here's the link: Of Kiwis and Currencies: How a 2% Inflation Target Became Global Economic Gospel (NYT)

Examples for IB Economics HL and SL candidates

The Lima Accord

When discussing negative production externalities, the use of fossil fuels and the idea of sustainability, the syllabus explicitly states that 'effective responses require international cooperation'.

All well prepared candidates are aware of the Rio 1992 Summit, the 1997 Kyoto Protocol and the 2014 Rio +20 Summit.  The Lima Accord is the new kid on the block.  This December 14 article from the New York Times A climate accord based on peer pressure is an excellent (as usual) presentation of the basics on this interesting and important development.  Quoting some bits from the article:



The deal represents a breakthrough in the two decade effort to forge a significant global pact to fight climate change. The Lima Accord, as it is known, is the first time that all nations — rich and poor — have agreed to cut back on the burning oil, gas and coal.

The driving force behind the new deal was not the threat of sanctions or other legal consequences. It was global peer pressure.

The structure of the deal is what political scientists often call a “name and shame” plan. Under the Lima Accord all countries must submit plans that would be posted on a United Nations website and made available to the public. A requirement that all countries submit plans using identical metrics, for easy comparison, was deleted from the accord because of the objection of developing nations. 

But already, a number of research groups and universities expect to crunch the numbers of the plans, producing apples to apples assessments. The hope, negotiators said, is that as the numbers and commitments of each country are publicized, compared and discussed, countries will be shamed by the spotlight into proposing and enacting stronger plans.

It remains to be seen whether this development will translate into meaningful national policies.

Articles useful for HL and SL IB Economics

Here are a couple of articles that seem useful for IB Economics students:

First one by Jeffrey Sachs titled 'The year of sustainable development'.  It can be found here.  

Some interesting points are quoted below:

• Sustainable development implies inclusive and sustainable growth. This is growth that raises average living standards; benefits society across the income distribution, rather than just the rich; and protects, rather than wrecks, the natural environment.

• The world economy is reasonably good at achieving economic growth, but it fails to ensure that prosperity is equitably shared and environmentally sustainable. The reason is simple: The world’s largest companies relentlessly – and rather successfully – pursue their own profits, all too often at the expense of economic fairness and the environment. Profit maximization does not guarantee a reasonable distribution of income or a safe planet. On the contrary, the global economy is leaving vast numbers of people behind, including in the richest countries, while planet Earth itself is under unprecedented threat, owing to human-caused climate change, pollution, water depletion, and the extinction of countless species.

• Resources need to be channeled away from armed conflict, tax loopholes for the rich, and wasteful outlays on new oil, gas, and coal development toward priorities such as health, education, and low-carbon energy, as well as stronger efforts to combat corruption and capital flight.

• 2014 is now likely to be the warmest year in recorded history, a year that has also brought devastating droughts, floods, high-impact storms, and heat waves.

• Back in 2009 and 2010, the world’s governments agreed to keep the rise in global temperature to below 2° Celsius relative to the pre-industrial era. Yet warming is currently on course to reach 4-6 degrees by the end of the century – high enough to devastate global food production and dramatically increase the frequency of extreme weather events. To stay below the two-degree limit, the world’s governments must embrace a core concept: “deep decarbonization” of the world’s energy system. That means a decisive shift from carbon-emitting energy sources like coal, oil, and gas, toward wind, solar, nuclear, and hydroelectric power, as well as the adoption of carbon capture and storage technologies when fossil fuels continue to be used.

• Goal: economic development that is technologically advanced, socially fair, and environmentally sustainable.

The second one is by Dani Rodrik on 'Good and Bad Inequality'.  
It can be found here.  Here are some points that may be useful to candidates:

• The belief that boosting equality requires sacrificing economic efficiency is grounded in one of the most cherished ideas in economics: incentives. Firms and individuals need the prospect of higher incomes to save, invest, work hard, and innovate. If taxation of profitable firms and rich households blunts those prospects, the result is reduced effort and lower economic growth.
• In recent years, however, neither economic theory nor empirical evidence has been kind to the presumed tradeoff. Economists have produced new arguments showing why good economic performance is not only compatible with distributive fairness, but may even demand it. For example, in high-inequality societies, where poor households are deprived of economic and educational opportunities, economic growth is depressed. Then there are the Scandinavian countries, where egalitarian policies evidently have not stood in the way of economic prosperity.
• Economists at the International Monetary Fund found that greater equality is associated with faster subsequent medium-term growth, both across and within countries.
• [Also] redistributive policies did not appear to have any detrimental effects on economic performance.

The first article can be used to produce examples on the concept of sustainability; on environmental issues; on issues pertaining to growth; on issues pertaining to income distribution and inclusiveness etc.

The second one is excellent on illustrating the learning outcome 'The relationship between
equity and efficiency'.