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'.

...and what Japan is doing...

...and BOJ Governor Haruhiko Kuroda expanding its massive stimulus spending in a stark admission that economic growth and inflation have not picked up as much as expected after a sales tax hike in April.  Why?

...Kuroda said that while the economy continues to recover, plunging oil prices, slowing global growth and weak household spending after the tax hike were weighing on price growth.

and this quote from the Wall Street Journal is very interesting:

 Is it a coincidence the BOJ moved so soon after the U.S. Fed ended its own asset purchase program? The U.S. economy might be in good enough shape to be slowly weaned off central bank life support, but the rest of the world is flagging. The IMF recently shaved its global growth forecasts, China is slowing and the eurozone is edging towards recession. So while the measures are geared towards domestic factors, the BOJ is also battling global headwinds.

How will Mario Draghi react?

The European Central Bank chief can only fantasise about pushing through policy decisions with a one-vote majority, as Bank of Japan Governor Haruhiko Kuroda did on Friday...(from Reuters blogs)

And the same article continues:

Part of the problem is that the ECB's actions are still viewed through the optic of nationalism, and some nations count more than others. It is huge news if a German central banker is overruled. It would barely register if a Cypriot were left to sulk.

True, Germany is Europe's biggest economy and it might seem understandable that the views of its central bankers matter more in practice than they do in the central bank's charter.

However, ECB policymakers are supposed to be politically independent, to rise above national considerations and to focus only on what is good for the euro zone as a whole.

 Sure. Mario Draghi may have to...

 ...wait until the economic situation is so dire that he can win over a healthy majority.

In the meantime,  how much more pain and misery for so many families will be inflicted?

On deflation, Japan, the West and ideology (by P. Krugman)

Deflation features prominently in the IB Economics syllabus (Discuss the possible consequences of deflation, including high levels of cyclical unemployment and bankruptcies) and given what has been going on lately, especially in Europe, it makes sense for IB economics candidates to be very aware of the topic.

Today in tn the New York Times there is another interesting Krugman op-ed titled Apologizing to Japan worth reading and taking down a few notes. Quoting

The point, however, is that the West has, in fact, fallen into a slump similar to Japan’s — but worse. And that wasn't supposed to happen. In the 1990s, we assumed that if the United States or Western Europe found themselves facing anything like Japan’s problems, we would respond much more effectively than the Japanese had. But we didn’t, even though we had Japan’s experience to guide us. On the contrary, Western policies since 2008 have been so inadequate if not actively counterproductive that Japan’s failings seem minor in comparison. And Western workers have experienced a level of suffering that Japan has managed to avoid.

 What policies is PK referring to?

...responding effectively to depression conditions requires abandoning conventional respectability. Policies that would ordinarily be prudent and virtuous, like balancing the budget or taking a firm stand against inflation, become recipes for a deeper slump.

And why according to the author has the policy response been so inadequate or even deleterious?

...why the West has done even worse than Japan, I suspect that it’s about the deep divisions within our societies. In America, conservatives have blocked efforts to fight unemployment out of a general hostility to government, especially a government that does anything to help Those People. In Europe, Germany has insisted on hard money and austerity largely because the German public is intensely hostile to anything that could be called a bailout of southern Europe.

Let's wait for the next chapter of this story.  Let's see how long it takes for those in charge to realize that perhaps, over the longer term, these choices are even against their own interests.

On rising income inequality: Janet Yellen, Mohamed El-Erian and Dani Rodrik

Piketty and Saez have definitely managed to let the 'gini out of the bottle' (the Economist and others used this expression: see here and here. 

Now, Janet Yellen warns against rising income inequality in the US in her speech at the Conference on Economic Opportunity and Inequality organized by the Federal Reserve Bank of Boston (her speech can be found here),  In a New York Times article we read that

...she painted a bleak picture of the increasingly unequal distribution of wealth  and income, warning that Americans already have relatively little chance to advance economically, and that the problem may be worsening...

On the 17th of October Mohamed El-Erian wrote an article published in Project Syndicate with he title The Inequality Trifecta.  It is crisp and to the point and should be a must reading for IB Economics students:

most countries face a trio of inequalities – of income, wealth, and opportunity – which, left unchecked, reinforce one another, with far-reaching consequences. Indeed, beyond this trio’s moral, social, and political implications lies a serious economic concern: instead of creating incentives for hard work and innovation, inequality begins to undermine economic dynamism, investment, employment, and prosperity.

and

Given that affluent households spend a smaller share of their incomes and wealth, greater inequality translates into lower overall consumption, thereby hindering the recovery of economies already burdened by inadequate aggregate demand. Today’s high levels of inequality also impede the structural reforms needed to boost productivity, while undermining efforts to address residual pockets of excessive indebtedness

This is particularly true in the case of Greece where most Greeks are unwilling to accept much needed structural reforms because they are suspicious of the short term and long term effects these will have.  It increases political polarization and may result in greater instability which could prove disastrous for the country.  As El Erian writes, rising inequality '...erodes social cohesion, political effectiveness, current GDP growth, and future economic potential'.

El-Erian also points to the article How the rich rule by Dani Rodrik where we read about the

...strategies to which political leaders resort in order to get elected. A politician who represents the interests primarily of economic elites has to find other means of appealing to the masses. Such an alternative is provided by the politics of nationalism, sectarianism, and identity – a politics based on cultural values and symbolism rather than bread-and-butter interests. When politics is waged on these grounds, elections are won by those who are most successful at “priming” our latent cultural and psychological markers, not those who best represent our interests.

with Rodrik concluding that...

 ...widening inequality in the world’s advanced and developing countries thus inflicts two blows against democratic politics. Not only does it lead to greater disenfranchisement of the middle and lower classes; it also fosters among the elite a poisonous politics of sectarianism.

 (Read about who Mohamed El-Erian, here and here)

What policymakers in the world are NOT doing....

A great overview of what policymakers are not doing and what they could do can be found in this NYT article: A Global Economic Malaise.

Quoting from the article:

...officials from Germany continue to insist that countries that use the euro meet restrictive fiscal rules, and they are trying to prevent the European Central Bank from buying government bonds.  

German officials need to play a more constructive role by encouraging the European Central Bank to buy government bonds to pump money into the economy and lower interest rates. Such policies are certainly in Germany’s self-interest, because its economy, which previously bucked the downtrend in the rest of the eurozone, contracted in the second quarter and remains weak

or,

...There is a lot governments and central banks could do to avoid another recession. For example, a recent I.M.F. report showed that increasing government spending on public investments like roads, ports and railways can help stimulate the economy immediately and for several more years.

or,

Other European countries, like Italy and Spain, need to do more to encourage companies to invest and create jobs, in part by reforming laws that make it hard for entrepreneurs to set up new businesses

How close to its NRU is the US economy?

The latest unemployment figure for the US is out:  Unemployment dipped below 6% to 5.9% in September, the lowest recorded since July 2008.

This article from the BBC seems good for IB Economics purposes: US unemployment rate hit a six-year low in September.  It may help illustrate:

• the connection between monetary policy stance and the size of the deflationary gap
• the connection between interest rates and the exchange rate
• the new -unorthodox- toolbox of Central Banks (i.e. quantitative easing)
• the concept of the NRU
• what may happen if unemployment decreases below the NRU or real output increases above its potential level
• the SR and LR Phillips Curve material
• etc etc

Quoting from this article:

The jobs figures are seen as a significant gauge of the health of the economy and there has been much debate over when US interest rates will rise.

The question is, why has this figure sparked debate over when US interest rates will rise?

An analyst is quoted in the article saying:

"The most important item in this report is the drop in the unemployment rate below 6%. (Fed Chair Janet) Yellen has said there is only so much slack if the unemployment rate falls below 6%," said Christopher Low, chief economist at FTN Financial in New York.

This is a reference to the size of the deflationary gap in the US right now or how much below potential output is equilibrium real output.  Stated symmetrically, it is also a reference on how close is the current 5.9% unemployment rate to the natural (normal) rate of unemployment of the country.

Interest rates may increase to slow down the increase in US AD (by discouraging borrowing by households and firms as well as by decreasing US NX since the higher (expected) interest rates will make US bonds more attractive to financial investors who will want to buy them, thus first buying US dollars and leading to an appreciation of the USD (which renders Abercrombie and Fitch shirts as well as Jeep Cherokees pricier abroad and BMWs more attractive inside the US market)

Quoting from the BBC article:

The US dollar was pushed higher as expectations rose that interest rates would go up sooner than previously predicted.

and:

The Federal Reserve has indicated it will raise short term interest rates if the economy continues to grow.

It seems that analysts/markets/policymakers consider the 5.9% an indication that the US is reaching its potential level of real output/ its NRU and so any further increase in AD wil create inflationary pressure which policymakers would like to avoid.

The article though also notes that:

It also said nearly 100 000 job-seekers stopped looking for work in September.

This is a clear reference to so-called 'discouraged workers'.  Two issues arise: first of all, the 5.9% is probably an underestimation of 'true' US unemployment (as many of these 100 000 job-seekers would probably gladly accept a job offer if it became available.  Second, the US NRU may thus be somewhat lower these days than the five point seven, eight or nine percent as a result of the changes in the structure of the US labor market.

Unfortunately, we know only after the fact that we were at the NRU as only if unemployment decreases below it will there be an acceleration of inflation.  And, each tenth of a percentage point of unemployment policymakers manage to shave - off, implies thousands of poor US households escaping poverty and misery.

Economics is indeed quite inexact.

In any case, this article (and many others on the same unemployment statistic) is useful for IB Economics candidates to draw real world examples and use in their paper 1 essays.

On rising income inequality

The second article from the October 4, 2014 issue of the Economist which I believe can be very useful for IB Economics students in their effort to understand the concepts & theories of the syllabus but especially to equip themselves with real world examples which they can effectively employ in their paper 1 essays is titled: The history of inequality Breaking the camel’s back What an impressive work of economic history tells you about inequality

It is a brief report on a new work by the OECD and the University of Utrecht 'How Was Life?
Global Well -being since 1820' which can be found here.

Quoting from the Economist article:

There is an exception to this generalisation, though: inequality. You would expect that the world of the Qing dynasty, Tsar Nicholas I and the British East India Company would be more unequal than today’s. Yet in China, Thailand, Germany and Egypt, income inequality was about the same in 2000 as it had been in 1820. Brazil and Mexico are even more unequal than they were at the time of Simón Bolívar. Only in a few rich nations—such as France and Japan—do you find the expected long-term decline in income inequality

And what about between nations?

What is true for individual countries is also true if you treat the world as a single nation.  The global Gini rose from 49 in 1820 to 66 in 2000. But this was not caused by widening disparities between rich and poor within countries. Inequality of that sort fluctuated for 130 years to 1950, before falling sharply in 1950-1980, in what the report calls an egalitarian revolution. Since 1980 it has risen again (as Thomas Piketty, a French economist, has shown), back to the level of 1820.

Also, the gap between rich and poor nations ('between-country inequality') has widened sharply:

 In 1820 the world’s richest country—Britain—was about five times richer than the average poor nation. Now America is about 25 times wealthier than the average poor country. The Gini coefficient for between-country  inequality stood at only 16 in 1820 (ie, very low). It soared to 55 in 1950, and has been stable since.

The concluding paragraph is also telling as it wraps up findings on the effect of globalization on income distribution:

As globalisation ebbed, it argues, rich countries had more freedom to steer domestic policies and used it to narrow differences between rich and poor. As globalisation spread again after 1980, the opposite happened: “globalisation contributed to higher income inequality within countries,” the report concludes, “while at the same time leading to a decline of income inequality between countries.”

The above may come in handy when discussing several sections of the IB Economics syllabus.  For example:

• Analyse data on relative income shares of given percentages of the population, including deciles and quintiles 
• Explain how the Gini coefficient is derived and interpreted. 
• Explain that due to unequal ownership of factors of production, the market system may not result in an equitable distribution of income. (but also role of institutions and, globalization...)

A great article on the role of infrastructure spending in an economy...

Long flights are great to read cover to cover the Economist!  Flying back home from Singapore provided me with such an opportunity.  I spotted at least 2 articles that may prove useful for IB Economics (HL and SL) candidates.

The first one is titled Concrete benefits: Public investments in infrastructure do the most good at times like the present' and is in the October 4th issue of the magazine/newspaper.

It is a primer on the role of infrastructure spending, complete with explanation and discussion/ evaluation and is it based on a new study by the International Monetary Fund, released as part of its half-yearly “World Economic Outlook”.  The whole chapter can be found here (and is worth skimming through at least) and the press release here (which is only one page).

Remember that a definition of infrastructure is 'physical capital, typically financed by Governments that lowers the overall production and transaction costs of firms and households as it is responsible for sizable positive externalities' (see my OUP Study Guide glossary on page 183 or any IB Economics textbook)

Quoting now from this excellent Economist article:

Public infrastructure is one of the few forms of government spending that both liberals and conservatives support. Ports, power lines and schools are essential to the smooth running of the economy. (But)... public investment is at the mercy of the fiscal weather. Cash-strapped governments are loth to pile on debt or raise taxes even for something as popular as a new road. After a burst of stimulus spending in the immediate wake of the recession, public investment has fallen back in the rich world. 

This is profoundly short-sighted. That is the message of a new study by the IMF. It found that in rich countries at least, infrastructure spending can significantly boost growth through higher demand in the short run and through higher supply in the long run.

This is the first important point made:  the government expenditure will increase aggregate demand in the short term (as G is a component of AD) but will also shift to the right the LRAS curve as it increases the productive capacity of the economy, decreases overall costs of doing business and (as will be explained later) can lead to 'crowding-in' of increased private investment.

It continues stating that

...the results depend on how the investment is financed, how efficiently it is carried out and what the prevailing economic conditions are'

You realize that financing an increase in government spending can be through borrowing, through raising new taxes or by cutting some other public spending.  How it is financed is also of importance. It also matters whether the project is efficiently undertaken (if a 3-lane highway was financed but because of corruption and waste a 2-lane highway was delivered -as it has happened in Greece- or if the final cost of the project is double the initially budgeted/ planned cost, obviously the net effect on growth will be less).  Lastly, when the author writes that it also depends on the 'prevailing economic conditions' he/she implies how large or small the prevailing deflationary gap is i.e. how far/close from potential output the economy is operating.

The article also reminds us why such infrastructure projects are an example of a natural monopoly (thus there are microeconomic links from the syllabus):

Upfront fixed costs for infrastructure projects are typically high and operating costs relatively low. For these reasons, public infrastructure is often a natural monopoly: a city needs only one local telephone network, electricity grid or sewer system, so they are frequently publicly owned or regulated.

How about any multiplier related effects from the increased government expenditure?  Real world estimates are provided and the question of debt accumulation is also discussed:

On average, an unexpected increase in public investment equal to 1% of GDP boosted GDP by an underwhelming but still beneficial 0.4% in the same year and by a more impressive 1.5% four years later. The extra spending did not result in unsustainable debts; quite the opposite. Thanks to higher GDP, the debt-to-GDP ratio fell by 0.9 percentage points in the first year and four percentage points after four years

What if the 'new road' is financed through taxes?  Read on!

When investment is financed without borrowing—that is, with higher taxes or cuts to other spending—it has a small but still positive impact, which grows over time. The authors interpret this as evidence that even when public investment does not directly lift demand, it does so indirectly by “crowding in” private investment, for example by stimulating the  construction of houses and factories when new roads and water mains are installed. Private investment, the authors note, rises in line with the new, elevated level of GDP after a burst of public investment

And, if it is financed through borrowing (issuing new bonds)?

The stimulus is heightened when the investment is financed by borrowing: an increase in public investment equivalent to 1% of GDP boosts GDP by 0.9 points in the first year and 2.9 points in the fourth. This would not be so if debt-financed spending inevitably drove up interest rates and thereby diminished private investment. But the effect is bigger in a slow-growing economy, when rates are low and competition for loans subdued. Under those circumstances, a boost in public investment equal to a percentage point of GDP boosts GDP by an impressive 1.5 points in the first year and three points in the fourth. By contrast, in a fast-growing economy, the impact is actually negative in the first year, and only marginally positive in the fourth, suggesting that “crowding out” can indeed be a problem.

The above paragraph would be excellent to mention in an essay question asking candidates to explain the 'crowding out' effect or to evaluate expansionary fiscal policy!

This excellent article wraps it up by explaining why the time is right for most countries to go ahead and increase now infrastructure investment spending:

...the time is now optimal for more public investment. The added demand would be welcome since unemployment is still too high in most rich countries and interest rates near zero. The supply-side effects may also be considerable; declining public investment has led to a shrinking stock of infrastructure relative to GDP...

and, concludes with meaningful caveats:

Still, identifying a general shortfall in infrastructure investment is easier than working out what projects to spend extra money on. Of the seven biggest rich economies, only Germany and America have suffered a clear deterioration in infrastructure investment since 2006. And public investment is easily wasted on vanity projects such as football stadiums or inflated contracts with politically connected suppliers. Even in relatively transparent, democratic places such as America, with lots of bureaucrats to conduct cost-benefit analyses, identifying the most beneficial investments is hard.

Once again I'd like to stress the need for IB Economics candidates to include examples in their paper 1 essays.  The descriptors for attaining Level 4 marks (9 or 10 in part a and 13-15 in part b) explicitly require that 'examples are used effectively' by candidates.

Some 2013 IB Economics syllabus learning outcomes for which this article may prove handy include:

• With reference to economies of scale, and using examples, explain the meaning of the term “natural monopoly”.
• Explain, with reference to the concepts of leakages (withdrawals) and injections, the nature and importance of the Keynesian multiplier.
• Evaluate the view that increased investment is essential to achieve economic growth.
• Explain the mechanism through which expansionary fiscal policy can help an economy close a deflationary (recessionary) gap.
• Fiscal policy and its impact on potential output 
• Evaluate the effectiveness of fiscal policy through consideration of factors including ...the direct impact on aggregate demand, the effectiveness of promoting economic activity in a recession,...crowding out... 
• Explain how increased and improved infrastructure will have a short-term impact on aggregate demand, but more importantly will increase LRAS.
• etc etc

(BTW, it is amazing to me that nowhere in this Economist article is the name 'Keynes' to be found...)

China: extent of pollution and policies to address the problem

An article in the The New York Times a few days ago presents the acute pollution related problems China faces as well as the responses that the Chinese government has started to adopt.

'Why this budding environmental consciousness now? The answer is simple: 2013 was, by any accounting, one horrific year for the environment....'

...In March 2013 pig carcasses came bobbing up and down the Huangpu River, a major source of Shanghai’s drinking water...

... In 2013 the Beijing government acknowledged what environmentalists had long suspected: some villages in the countryside had become so-called cancer villages, communities where cancer cases “cluster” and far exceed the norm. These villages are usually just downstream from an industrial plant that discharges hazardous waste into rivers that villagers use to drink and to irrigate their crops.

...People living in northern China were informed by a team of American, Chinese and Israeli researchers that they should expect to live much shorter lives — a full 5.5 years shorter — than their countrymen to the south. The reason: Heavier coal dependency in the north makes the air they breathe that much more toxic…

But officials in Beijing have started to respond with a variety of tools/ policies. The article's title is illustrative: China's Environmental Awakening.


The article seems very useful as a source of examples for IB Economics SL and HL paper 1 essays. It relates to several sections/ topics and sub-topics of the syllabus, such as:

• Explain, using diagrams and examples, the concepts of negative externalities of   production, and the welfare loss associated with the production of a good.
• Evaluate, using diagrams, the use of policy responses, including market-based policies (taxation and tradable permits), and government regulations, to the problem of negative externalities of production.
• Discuss, using negative externalities diagrams, the view that economic activity requiring the use of fossil fuels to satisfy demand poses a threat to sustainability
• Evaluate, using diagrams, possible government responses to threats to sustainability, including legislation, carbon taxes, cap and trade schemes, and funding for clean technologies.
• Explain the meaning and significance of “green GDP”, a measure of GDP that accounts for environmental destruction.
• Discuss the possible consequences of economic growth, including the possible impacts on living standards and sustainability.

Seems both interesting and useful!

A great site by Bloomberg for IB Economics students

I recently found Bloomberg's 'Quick Take' section which has very many entries that could prove helpful to IB Economics students.

I will introduce this section with a Quick Take on Deflation.  Deflation is under section 2.3 of the IB economics syllabus ('Low and Stable Rate of Inflation') where candidates are asked not only to distinguish between inflation, disinflation and deflation but also to discuss the possible consequences of deflation.

Quoting from the site:

The ogre stalking Europe’s weak economy isn’t the one people have learned to fear. The monster isn’t inflation but its opposite: falling prices. Its name is deflation and it appears friendly. Why be afraid when the cash in people’s wallets buys more fuel and televisions, not less? Because when deflation grabs hold, companies and consumers stop spending. It strangles borrowers because their debts get harder to repay — a menace for countries struggling to exit the worst recession in a generation

and:

Having prices go up more slowly helps consumers and can boost purchasing power. But when they actually drop, economic activity screeches to a halt. Households hold off making purchases as they anticipate further price declines; companies postpone investment and hiring as they are forced to cut prices. Sliding prices eat into sales and tax receipts, limiting pay raises and profit margins. They add to the debt burdens of companies and governments that would otherwise be eroded by inflation.

Students will also find excellent examples and reference material.

Also:

In this New York Times article the latest policy initiative by the European Central Bank is presented: Europe's Bank Takes Aggressive Steps.

Price controls considered in Argentina

An important part of the IB Economics Syllabus (HL and SL) is section 1.3 on Government Intervention which includes indirect taxes, subsidies, price floors (minimum prices) and price ceilings (maximum prices).

The Wall Street Journal has an article titled Argentina's Government Is Considering Price Controls.  Apparently, Argentina's government is considering '...legislation letting the government regulate private-sector prices, profit margins and production levels'.

Quoting from the article:

Business groups say the legislation would be ruinous for an economy already in recession, with companies curbing production, laying off workers and struggling with inflation thought to be around 40% annually.

"This is absolutely ridiculous. It's part of a very primitive ideology that says government officials should decide what people should make, how much they should make and how much they should charge," said Congressman Federico Pinedo of the opposition Pro party.

Supporters say the bill is unpopular among big business because it would prevent monopolies from abusing their power.

and

As written, the bill would allow the government to "establish, at any stage of the economic process, profit margins, reference prices, maximum and minimum prices, or all or any of these measures."

It would also let the government close businesses for up to 90 days and fine them up to 10 million pesos ($1.2 million) if they raise prices abusively or cause scarcity by hoarding essential goods.

Opposition to the bill is so intense it has united many of the country's disparate business interests, leading big business chambers to speak out in unison.

"We already know exactly what it is like to suffer from these kind of interventionist economic policies," said Luis Etchevehere, president of the Argentine Rural Society, the country's top farm group. "This will lead to divestment and possibly even supply shortages of some products like is now happening in Venezuela."

You can also read on this issue an article from Bloomberg titled Argentina Says It’s No Venezuela as Price Cap Law Debated.

Remember that to earn top marks (L4), examples are expected in Paper 1 (HL and SL) in both part (a) and part (b).  These articles could thus prove useful.

Section 2.3: Equity in the distribution of income (IB Econ Syllabus)

Inequality, its causes and its effects, is an important topic in the IB Economics course for both HL & SL (syllabus section 2.3 Equity in the Distribution of Income)

This article will help candidates understand the issues better and equip them with examples.  It's written by Michael Spence and is titled Good and Bad Inequality.

...Nonetheless, experience in a wide range of countries suggests that high and rising levels of inequality, especially inequality of opportunity, can indeed be detrimental to growth. One reason is that inequality undercuts the political and social consensus around growth-oriented strategies and policies. It can lead to gridlock, conflict, or poor policy choices. The evidence supports the view that the systematic exclusion of subgroups on any arbitrary basis (for example, ethnicity, race, or religion) is particularly damaging in this respect.

The distinction between good and bad inequality is also made by Branko Milanovic (see his book The Haves and the Have-Nots: A Brief and Idiosyncratic History of Global Inequality. This is from the New York Times review of this book:

“There is ‘good’ and ‘bad’ inequality,” Milanovic writes, “just as there is good and bad cholesterol.” The possibility of unequal economic outcomes motivates people to work harder, he argues, although at some point it can lead to the preservation of acquired positions, which causes economies to stagnate.

There is also this February 2014 IMF paper by Ostry, Berg, and Tsangarides: Redistribution, Inequality, and Growth where in the Executive Summary we read:

While considerable controversy surrounds these issues, we should not jump to the conclusion that the treatment for inequality may be worse for growth than the disease itself. Equality-enhancing interventions could actually help growth: think of taxes on activities with negative externalities paid mostly by the rich (perhaps excessive risk-taking in the financial sector) or cash transfers aimed at encouraging better attendance at primary schools in developing countries, as examples. The macroeconomic effects of redistributive policies will reflect a balance between the components of the fiscal package, and it is an empirical question whether redistribution in practice is pro- or anti-growth.

This article from the Guardian discusses the above paper (perhaps though, only parts of it):
IMF study finds inequality is damaging to economic growth.

Remember that to reach Level 4 (highest marks) in the Paper 1 essays '...examples are used effectively'.

And, yes, back to school on the 11th of September in Greece: Καλή χρονιά σε όλους!

Griesafault...

Griesa is the name of the US federal judge who ordered that Argentina could not repay creditors who had accepted its restructuring until it fully paid those who had rejected it.  Joseph Stiglitz and Martin Guzman wrote an interesting article on Argentina's default and Griesa's decision.  They write at some point:

Argentina restructured its debt in two rounds of negotiations, in 2005 and 2010. More than 92% of creditors accepted the new deal, and received exchanged bonds and GDP-indexed bonds. It worked out well for both Argentina and those who accepted the restructuring. The economy soared, so the GDP-indexed bonds paid off handsomely.

But so-called vulture investors saw an opportunity to make even larger profits. The vultures were neither long-term investors in Argentina nor the optimists who believed that Washington Consensus policies would work. They were simply speculators who swooped in after the 2001 default and bought up bonds for a fraction of their face value from panicky investors. They then sued Argentina to obtain 100% of that value. 

NML Capital, a subsidiary of the hedge fund Elliot Management, headed by Paul Singer, spent $48 million on bonds in 2008; thanks to Griesa’s ruling, NML Capital should now receive $832 million – a return of more than 1,600%.

The figures are so high in part because the vultures seek to earn past interest, which, for some securities, includes a country-risk premium – the higher interest rate offered when they were issued to offset the larger perceived probability of default. Griesa found that this was reasonable. Economically, though, it makes no sense. When a country pays a risk premium on its debt, it means that default is a possibility. But if a court rules that a country always must repay the debt, there is no default risk to be compensated. 

...Its (America's) courts have been a travesty: As one observer pointed out,it was clear that Griesa never really fathomed the issue’s complexity.

The part that this piece, in my opinion, forgets is what did the local (Argentinian) government and elite did with the borrowed money.  Judging from what has happened in Greece,  I doubt that it was well spent and invested.  Most of it, I fear, must have lined ' ...the pockets of some (local) billionaires'.

The article can be found here.

Michael Spence on global instability

Again, from Project Syndicate (link), a phrase of interest by Michael Spence (Prof. at the Stern School of Business, NYU; link):

'...in a way, the current global environment is a classic case of negative externalities. The localized costs of suboptimal behavior – the ones one might expect to be internalized – fall well short of the overall global costs.'

A interesting analogy.  

The article 'The Global Security Deficit' can be found here.