Football World Cup curtain raiser

"Five days shalt thou labour, as the Bible says. The seventh day is the Lord thy God’s. The sixth day is for football."

Anthony Burgess

The World Cup Football starts today and Goldman Sachs has just brought out a booklet, World Cup and Economics 2010, for this edition, which seeks to go beyond the football field and explore statistical relationships and causal explanations between football performance and national economic growth.

The report finds a relationship between the improvement in FIFA ranking since the last World Cup and the improvement in GES scores over the same period, particularly for developing countries. This correlation is 0.28 if we include all the participating countries (except North Korea); without Brazil and Argentina, it is even higher at 0.34; the relationship gets stronger at 0.51 if we look at the developing countries only; and without Brazil and Argentina, the correlation for emerging markets is even higher at 0.64. This suggests that improvements in GES "could conceivably be associated with better infrastructure and funding facilities for football", which in turn contributes to improving football performance.



The annual Growth Environment Scores (GES) brought out by Goldman Sachs measures the prospects for sustainable growth and productivity improvements across nations. The GES rank is from 0 to 10, with 10 being the highest, and the higher the score, the more likely the country is to be successful in terms of wealth.

Update 1 (14/6/2010)
Nice graphic that captures the economics of the World Cup.

The case for more stimulus

This is a long post... a sort of summary of the debate surrounding continuation of expansionary policies. With the US economy getting better much slower than required (especially to get normalcy restored in the job market), the debate about further expansionary stimulus measures has picked up.

The deficit hawks point to the burgeoning public debts and raise the spectre of sovereign defaults (made more salient by the problems facing the PIIGS in Europe) and unhinged inflationary expectations. They call for an immediate end to all stimulus spending and initiation of measures to rein back the deficits through spending cuts and interest rate increases to pre-empt inflation.

On the other side are those who point to the bitter decade-long experience of Japan with deflation and economic stagnation in the nineties, and caution against any premature exit from the expansionary stimulus policies of the last two years. They worry that the household and business balance sheets are so badly damaged and the unemployment rates too high that any fears of "crowding-out" of private investments and inflation are unfounded. They advocate continuation of the expansionary fiscal policies to boost aggregate demand and create jobs (and also prevent lay-offs) and further loosening of monetary policy to keep credit flowing, longer-term interest rates low, and even stoke some inflation. They point to the declining trend in prices and stable long-term bond yields to justify their claim.

However, the debate on the relative effectiveness of fiscal and monetary policies, continues to rage unabated. I have already blogged about the problems faced by monetary policy when facing the zero-bound in nominal interest rates. Economists like Joseph Gagnon, advocate further monetary easing in Japan, euro-zone and US through large purchases of long-term bonds (pdf here) by the central banks to reduce long-term interest rates. He points to the extremely anemic economic environment and the very low inflation rates in these countries to argue for such expansionary policies.

Unlike normal times, increasing the monetary base when faced with the zero-bound in nominal interest rates will have an expansionary impact only if "people believe it signals higher inflation later". However, as Mark Thoma writes, the Fed's carefully constructed, stellar inflation fighting reputation raises serious doubts on its credibility to commit itself to future inflation. People are most likely to think that the Fed will pull the levers at the first signs of inflation gathering steam. Politically too, the paranoia about inflation, active even when deflation is staring us, cannot be avoided when prices start to rise.

All this means that fiscal policy becomes the preferred option, especially when interest rates have lost traction. However, as Mark Thoma explains, during normal times, with both full-price adjustment classical models and sticky-price New Keynesian models and an inflation targeting central bank, fiscal policy generates multipliers less than one,

"When government spending goes up during normal times, inflation increases, and sharp increases in the real interest rate are needed to return inflation to its target value. The sharp increase in the real interest rate offsets the increase in output brought about by the increase in government spending, and this is what makes the multiplier small in this case. Under reasonable parametrizations, there "really isn’t much fiscal policy can do."

More particularly, with strict inflation targeting, the multiplier is less than one. When the Fed follows a Taylor rule instead of strict inflation targeting, the multiplier is larger, but still less than one (though not always, it could even be less than the multiplier for strict inflation targeting under some conditions). If monetary policy maintains a constant real rate instead of following a Taylor rule, the multiplier is equal to one. This means that during normal times, sticky price models predict fiscal policy multipliers of a magnitude less than or equal to one, with the exact magnitude depending upon the rule the Fed follows, i.e. how the real interest rate responds to fiscal policy changes."

However, as Micheal Woodford and others have found, things change when the interest rate is touching the zero-bound. As Mark Thoma writes, this happens because the expectations of increase in fiscal spending raises inflationary expectations and thereby lowers real interest rates,

"In general, at the zero bound fiscal policy multipliers are greater than one, and this remains true under strict inflation targeting... The larger multiplier occurs because the increase in government spending increases inflation (more precisely it reduces the rate of deflation). If the crisis is expected to last another period with some probability, as it will in the model, then government spending is expected to persist as well and expected inflation will rise. The increase in expected inflation lowers the real interest rate when the zero bound is a constraint (even with strict inflation targeting), and the lower real interest rate generates additional economic activity.

Note that the source of the increase in expected inflation is the expected increase in government spending in the next time period. All that's required for expected inflation to rise is that fiscal policy is expected to persist another period. However, the Fed won't do anything in response to the rise in inflation expectations because under the assumptions of the model the target interest rate remains negative."

The case in favor of fiscal policy (over monetary policy) is explored in detail with numerous links here and here. The IMF too recently examined the impacts of fiscal policy across economies, under various conditions, and came to favorable conclusions about the effectiveness of fiscal stimulus spending policies. The IMF's latest fiscal monitor too captures the favorable impact of the stimuluses.

Among fiscal policy options tax cuts and direct spending have been amongst the most popular. This is despite the fact that welfare spending through automatic stabilizers like food stamps, unemployment insurance, and nutritional support for children, may be more effective in containing the most debilitating effects of a recession. As the length of the slowdown increases and unemployment rates remain stubbornly high, assistance to state and local governments are fast emerging as an important source of fiscal policy intervention.

Mark Thoma points here and here to the problem posed by the deteriorating fiscal positions of state and local governments in the US that reflects in the rising job losses in those areas. The expansionary impact of federal fiscal stimulus is being countervailed by the contractionary impact of spending cuts by state and local governments.



In the search for swift-acting fiscal stimulus interventions with large multipliers (and socio-economic impact), assistance to state and local governments would surely be amongst the most effective.

And as Brad De Long writes, when faced with high unemployment rates, weak investment and spending environment, and anemic growth expectations, short-run deficits may be more expansionary and beneficial in the long run and belt tightening contractionary and harmful. In these times, he calls for prescriptions suited for "depression economics", wherein the beneficial effects of government spending and tax cuts will more than off-set the harmful effects of increased debt burden.

He compares the arithmetic of the relative costs of fiscal expansions during normal times and during the present times (where rules of "depression economics" applies) and finds that while "expansionary deficit-boosting fiscal policy is simply a non-starter in normal times", it generates "more income and employment now... in return for sacrificing only a tiny bit of production each year in the future, when we believe that we will be richer and will mind the reduction significantly less".

This is because, unlike normal times, more government spending now will not lead the Federal Reserve to raise interest rates to fight inflation, there is no "crowding out", boost to production (from a spending program) creates a substantial reflow in taxes that makes the spending program a bargain, and the government can borrow at "uniquely favorable terms" and thereby keep debt serrvice burdens manageable. His conclusion

"Each dollar of missing production and each unemployed worker right now is much, much more painful to the country and a much greater loss to human welfare than a dollar of missed production and an unemployed worker in normal times."

Tyler Cowen writes that reduction in real interest rates will not make much of a difference in investment decisions of businesses since the investment determining constraint is the "hurdle rate", which does not change by much despite the recession. He points to the fact that the "hurdle rate" in investments is in the range of 20-30% (to account for agency problems and related transaction costs) and therefore small reductions in interest rates have limited impact. In Econ 101 terms, real interest rates become a largely non-binding constraint since the elasticity of new projects to changes in real interest rates is very low (at the prevailing hurdle rates).

However, a logical extension of this line of arguement would mean that interest rates are always a non-binding constraint on investment decisions. Since the "hurdle rates" are in the range of 20-30% even during normal times, any small interest rate changes (and rate changes will always be small, a few tens of basis points, when compared to the "hurdle rate") will have no impact on the investment decision.

In another post, he also feels that the real issue is lack of trust, which has forced businesses to under-invest and households to under-spend. This lack of trust causes consumers, companies and financial firms to be more cautious than they’d otherwise be, and results in sub-par growth and occasional market frights. This is what economists like Robert Shiller have been pointing to for some time now, and what Keynes himself alluded to when he referred to the depressing role of "animal spirits".

And since the challenge is to get the "animal spirits" active and market-confidence restored, as is increasingly becoming evident (especially when faced with the zero-bound), aggressive fiscal policy interventions are required, irrespective of the what the short-run deficit. The alternative to this is the strong possibility of slipping ever deeper into recession and thereby increasing the costs (and deepening the fiscal strains) of recovery.

See also David Leonhardt here and here.

Nudging to keep meetings short

An old wag has it that meetings are where minutes are recorded and hours wasted. The effectiveness of administration (and management) in both public and private sectors is to a large extent dependent on the clarity and focus of the frequent meetings at different levels. Most often, meetings meander along for a long time, and ends with considerable opportunity cost bill.

In this context, the Nudges blog points to a clock that tells you how much your office meeting is costing (number of people in the meeting x average hourly wage). All you need is to simply enter the number of people in the room, ballpark an average hourly wage, and press the start button for the clock to start ticking on the cost of the meeting.



Wonder whether there is a clock which can measure the level of restlessness (or declining attention spans) among participants (using camera-based sensors) and trigger the closure of meetings when it crosses a threshold?

America in the Red?

Estimates indicate that by September 30, 2010, the total national debt of the US is set to reach $13.79 trillion (94.3% of GDP), with $9.3 trillion (63.6% of GDP) held by the public and $4.49 trillion (30.7% of GDP) held by federal government accounts.



(Click on the graphic to enlarge)

At the end of 2009, $ 7 trillion worth US Treasury securities were outstanding, of which $3.6 trillion was owned by foreign investors ($877.5 bn by China, $768.5 bn by Japan). The interest burden on this was $383.1 bn at the end of 2009.

A naming rights policy for Kerala

An old post with some additions... had written this from my last visit to Kerala a few weeks back and forgot to post.

One of the distinguishing features of Kerala's rural landscape is the numerous massively opulent houses (even stylish) that spring up in the most unexpected of locations. An Econ 101 analysis of these houses suggests that there is considerable room for eliminating wastage and for efficiency gains. Here are just two strands

1. I can't believe that such houses have anything to do with functional utility since they are way beyond the daily requirements of its occupants. In fact, a large number of them are virtually uninhabited, occupied as they are by the old parents (mostly confined to one or two rooms) of the first generation expatriate.

This can leave us with only one conclusion - the size of the house is a clear signaling device. It becomes a "monument" to signal the new-found wealth of the family to the neighborhood and thereby seek a status elevation.

I am inclined to believe that even assuming the obvious purpose of signaling one's new found wealth to relatives and the local community, a less conspicuous/garish approach would have sufficed. Unlike the house-owners in bigger cities, who benchmark their houses in relation to the equally big or even bigger houses of their neighbors, the owners of these mansions in Kerala's villages have no competition.

In the circummstances, Governments may have an opportunity for a Pareto improvement intervention in such spending patterns. The urge for local recognition that drives people to make massive investments in such opulent houses could be channeled to more productive avenues. One route is to incentivize people to contribute towards construction of public assets like community halls, school and hospital buildings, or even roads, in return for naming rights to those assets. This mutually beneficial arrangement will ensure that the local community gets its desired public asset and the individual gets his high-visibility local public recognition.

The house-owner could now detach the process of house construction from the pursuit of social recognition. In fact, he gains both ways, the social recognition achieved by contributing to the construction of public assets is qualitatively different and in most cases much larger than that from building large houses. Further, his investment in the house is more optimal in so far as its life-cycle costs are now minimized (maintenance and repairs are smaller).

A full-fledged policy which incentivizes people to contribe towards construction of community assets in return for fulfilling the urge for social recognition is therefore likely to yield good returns in Kerala.

2. Building large houses is certainly not unique to Malayalis. Big houses are the mark of prosperity and, as indicated earlier, a very commonplace means of signaling status. However, I am inclined towards the argument that Kerala's mansions are different from those in other places, in so far as the overwhelming majority of its owners have amassed their wealth from their wages than from some entrepreneurial or business activity.

Further, a large share of these people intend to return back and settle in their villages after a few years, when their income sources are likely to be constrained (mostly fixed deposits or some commercial activity). In the circumstances, the large and illiquid investment in houses, with their recurring maintenance costs, mean a very large, often unbearable, opportunity cost.

Update 1 (19/9/2010)
Apparently Kerala is not the only place where immigrants build massively opulent houses to signal status. "Overseas Filipino Workers" too do the same.

The role of social theories

Superb post from Daniel Little, who draws the distinction between the relative predictability (arising from reasonably high level of conformity to the laws of nature) and simplicity (so "that we can aggregate the effects of the relevant component processes into a composite description of the whole") of natural sciences and the complex and unpredictable path and context-dependent world of social sciences. He argues that there is little "real knowledge to be gained by applying social theories to a set of empirical circumstances",

"My general inclination is to think that "applying" general social theories to specific social circumstances is not a valid way of creating new knowledge or understanding. This is because I believe that social ensembles reflect an enormous degree of plasticity and contingency; so general theories only "fit" them in the most impressionistic and non-explanatory way. We may have a pure structural theory of feudalism; but it is only the beginning of a genuinely knowledge-producing analysis of fourteenth-century French politics and economy or the Japanese samurai polity. At best the theory highlights certain issues as being salient -- the conditions of bonded labor, the nature of military dependency between lord and vassal. But the theory of feudalism does not permit us to "derive" particular features or institutions of French or Japanese society. "Feudalism" is an ideal type, a heuristic beginning for social analysis, rather than a general deductive and comprehensive theory of all feudal societies. And we certainly shouldn't expect that a general social theory will provide the template for understanding all of the empirical characteristics of a given instance of that theorized object...

allow Marxism, or Weber or Durkheim or Tilly, to function as a suggestive program of research for empirical investigation. Let it be a source of hypotheses, hunches, and avenues of inquiry. But be prepared as well for the discovery of surprising outcomes, and don't look at the theory as a prescription for the unfolding of the social reality. Most importantly, don't look to theory as a deductive basis for explaining and predicting social phenomena."

Daniel Little's post should be a must read for all social scientists who often elevate theories to a pedestal and engineer social explanations and predictions to fit the underlying theories. No where is this more ubiquituous than in the field of economics.

Social science theories should function as enabling methods of research rather than act as all encompassing and comprehensive theories. They should be employed to help find explanations for past events and help predict future ones, instead of becoming blanket explanations and predictions themselves.

Economics of discrimination

I had blogged earlier about fve examples of that illustrate the importance of initial conditions, family and societal environment, and contextual factors in influencing outcomes in unexpected manners.

Now a Cornell University study "When Emotionality Trumps Reason" by Justin Gunnell and Stephen Ceci finds that unattractive defendants are 22% more likely to be convicted than good-looking ones, and that the unattractive also get slapped with harsher sentences - an average of 22 months longer in prison - and in case of damages more attractive people tend to receive higher rewards.

The study involved 169 Cornell psychology undergraduates who were initially classified as either rational or emotional decision-makers through an online survey and then given case studies of defendants, complete with a photograph and profile, were read jury instructions and asked to listen to the cases' closing arguments. In serious cases with strong evidence, there was little difference in the conviction rate between attractive and unattractive defendants. But in more minor cases, with ambiguous evidence, jurors were more biased toward the good-looking, confirming what the study calls a "unattractive harshness effect". Their conclusion,

"Information processing can proceed through two pathways, a rational one and an experiential one. The former is characterized by an emphasis on analysis, fact and logical argument, whereas the latter is characterized by emotional and personal experience... Our hypothesis was that if we identify the two groups, then the experiential people are more likely to focus on extralegal factors (like attractiveness), which shouldn’t have any bearing on the legal process".

Update 1 (8/7/2010)
A nation-wide record-linkage cohort study of over 950,000 Swedish men born 1950–75 with respect to attained education for up to 27 years after measurement of height at baseline age 18, finds strong co-relation between height and attained education in later life, after controlling for all other factors.

Update 2 (13/8/20010)
Freakonomics has this post with links to the various other types of discriminations.

Update 3 (9/9/2010)
Chris Dillow has links to lots of strange things that affect our earnings - looks and ugliness, height, marital status, sexual orientation, left-handedness, personality (pdf) or participation in sport, not to mention ethnicity and gender. We can add another to the list - an optimistic disposition - optimists out-perform their peers in the job market.

Update 4 (23/9/2010)

Freakonomics points to a study by Shamena Anwar, Patrick Bayer, and Randi Hjalmarsson which uses data from criminal trials and finds "strong evidence that all-white juries acquit whites more often and are less favorable to black versus white defendants when compared to juries with at least one black member".