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Democratic Arithmetic vs Comparative Advantage: TAA, TPA, TPP

In reading around on reactions to the defeat of the TAA (Trade Adjustment Authority) component of the TAA/TPA (Trade Promotion Authority) Package needed to successfully pass TPP (Trans Pacific Partnership) I get the usual incomprehension as to why Democrats can possible oppose Free Trade given the proven mathematical reality of Ricardian Comparative Advantage. And the reason is simple, perhaps too simple for those educated in the higher maths of your typical Econ curriculum, Democrats are using democratic arithmetic.

Lets start with a schematic example. Suppose we have a Free Trade deal between two countries that we confidently predict will result in growth in national income in both over time. And maybe a lot of growth. For those that believe that GDP = Good this becomes a slam dunk, I mean who can argue against America getting richer? But what if the arithmetic goes somewhat as follows:

50% of the net gain flows to the top 1%, 20% to the 2-10%, 20% to the 11-30%, 10% to the 31-50%, 0 to the 51-70%, and -10% to the 71-100%.

Is this a good deal? Well even before you discuss possible offsets, it clearly is a great deal to the top 1% and a good deal to the top 10% but the benefits get pretty attenuated when spread over the top 50% while they range from zero to a net loss among the lowest 50%. And given this distribution this is true no matter how eye popping the top line GDP growth number gets. Which raises the question: why should small d democratic majorities vote for this?

Well the answer from the other side tends to fall into three types:
One. “A richer America is a stronger America. And a stronger America is a safer America.”
Which is a reasonable answer if you have a roof over your head, and sufficient food, and available health care. Because if not your world doesn’t seem that safe at all.

Two. “Well the distribution you suggest is actually impossible. Because of economic theory that shows indubitably:
a) Free Trade, b) PROFIT! c) Invisible Hand d) does something e) somehow, f) EVERYONE WINS!. Okay maybe not LAST time, or the time before THAT. But trust us, Free Trade cannot Fail. It can only be Failed.”
Which answer is reasonable enough if you still laugh when your weird uncle asks you to “Pull the other finger!”

Three. “Voters simply are not rational, they don’t understand the simplest most truistic arguments about Comparative Advantage and insist on nattering about redistribution (as if anyone cared about that) so lets take away their vote by reapplying a property qualification for voting”.
Which answer is reasonable enough in you are Bryan Caplan of GMU. The Myth of the Rational Voter: Why Democracies Choose Bad Policies

It just seems to me that Right economic and political theory seems to hold two contradictory ideas at one time:
One maximizing ones self interest is not only rational, it is virtuous.
Two democratic majorities looking to their own interests are simply selfish.

But you can’t square that circle with pure representative democracy. (Or with Ayn Rand’s The Virtue of Selfishness) Because why NOT a calculation of interest based on that of the majority?

Which given the general commitment in the West to some form of representative democracy leads to the impasse of the post title. Damn 50 + 1.

As Goes GE, so goes Management

Henry Paulson’s book On the Brink is getting pilloried all over the place. David Wessel raises a point I’ve been hammering for a while:

Jeff Imment, CEO of General Electric, frightened Paulson in early September by calling to say GE, which Paulson describes as “an American business icon,” was having trouble borrowing money by selling IOUs known as commercial paper, and visited Paulson several days later in person. In mid-October, Paulson called Immelt to discuss imminent plans for a Federal Deposit Insurance Corp. guarantee of all new bank debt, but not GE’s. Immelt told him not to worry, GE would manage and would benefit indirectly by a more stable banking system. The next day, Immelt called back and said the bank guarantees were hurting GE’s finance unit because banks could borrow with U.S. government guarantees and GE couldn’t. And on Oct. 16, 2008, Immelt came in person to press the matter with Paulson. Over the following weeks, Paulson and Treasury official David Nason “worked hard to get Sheila [Bair] comfortable” with extending the guarantee to GE. In November, she did. GE’s finance unit…became one of the biggest users of the program.

The transition from “an American icon” to “a poorly-run finance company” had already been made by one “icon.” And its salvation is presented by Paulson as part of a “domino sequence.” Wessel:

The federal rescue of Citi led directly to the rescue of General Motors and Chrysler. “Nancy Pelosi [the speaker of the House]… told me point-blank that it was politically impossible to rescue Citi and not help the automakers. She had until recently opposed bailouts for the car companies, which she considered poorly managed.”

Top management of Citi, last two iterations: Vikram Pandit, Chuck Prince, Bob Rubin, and Richard Parsons.

Top management of GM, last two iterations: Rick Wagoner, Jack Smith, Ed Whitacre, Jr.

As Business Week (via Wikipedia) dryly noted of Smith and Wagoner:

After GM lost $30 billion during a single three-year stretch in the early 1990s, Wagoner and Chairman John F. “Jack” Smith Jr. forced GM “back to basics” to battle “30 years of management mistakes” that left him with little room to maneuver.

I don’t know about anyone else, but I’d take the latter set over the failed hedge fund manager, failed CEO, ineffective Chairman of the Board, and guiding force for TWX behind the AOL/TWX merger.

UPDATE: Jeff Gerth has more on GE’s condition.* American icon, indeed.

*Given Gerth’s track record, the article should be taken with a ten-pound bag of salt.

More on the Looming Structural Unemployment Crisis


Martin Ford continues his theme in the following post, on comparative advantage:

More on the Looming Structural Unemployment Crisis, and on Comparative Advantage

In my previous post, I suggested that job automation technology might someday advance to the point where most routine or repetitive jobs will be performed by machines or software, and that, as a result, we may end up with a serious structural unemployment problem. I’d like to respond to some of the objections that were raised regarding that idea.

I thought I would start with a response at the Economist’s Free Exchange blog, which said:

… in general I am pretty sanguine about the long-term prospects for continued voluntary employment of humans. Technology isn’t free, and even if we arrive at a world where some pieces of technology are better at everything than humans, the principle of comparative advantage nonetheless suggests that people will find work.

The idea is that, since everyone has a comparative advantage in something, just about everyone should be able to find some sort of a job. Thus we can be “sanguine.” Nearly every explanation of comparative advantage I have seen involves either individual people or countries. I haven’t seen examples where machines or automation technology come into play, so I thought I’d take a shot at it here.

Suppose we have a tractor and a team of oxen. Both can be used to plow fields, pull wagons or do other things around the farm. Clearly, the tractor out-performs the oxen in every task. Still, there ought to be some area in which the oxen don’t perform quite so badly relative to the tractor. Maybe the tractor is a little less efficient at plowing smaller fields since it has to make many turns. Or maybe fuel for the tractor is much more expensive in some regions, and so the oxen ought, in those cases, to have some sort of comparative advantage. So why have oxen been completely put out of work in developed countries like the United States?

It seems to me that there are two reasons. First, there is the magnitude of the absolute advantage that the tractor has. A tractor is a disruptive technology relative to the oxen. In order to have a meaningful comparative advantage, it’s probably helpful if you can get fairly close to the competition in at least one area.

The second reason is, perhaps, even more important: tractors, being machines, can be replicated on demand. If we imagine that a shortage of tractors existed, then comparative advantage would work. The available tractors would be deployed in their most productive uses, and the remaining work might well go to the oxen. But, in reality, the farmer can acquire as many tractors as he needs to do all his work, and in fact, he has no choice but to do so in order to remain competitive with other farmers.

As another example, suppose you are a brain surgeon who is also an excellent cook. Now, you might choose to employ a cook who is not quite as good as you are because doing so would free up your time and energy to do more brain surgery. So comparative advantage works there. But suppose you develop a machine (or two machines) with a dramatic absolute advantage in both cooking and brain surgery. Then, you could replicate your machine, and pretty soon there would be no jobs for cooks or brain surgeons.

So it seems like that might be a rule: If an affordable machine (or software algorithm) achieves a dramatic absolute advantage in a job or task, it will most likely be replicated and deployed until all competitors are eliminated. Comparative advantage is not much of a defense against that.

It seems to me that over time (not next week, but over years and decades), machines and software automation applications are likely to achieve that type of dominance in a great many areas, and they will be replicated until they consume all the available work. Any enterprise that failed to deploy this new technology would be less competitive.

All of this, of course, really amounts to nothing more than a restatement of the principle of obsolescence: in the long run, disruptive new technologies don’t find an equilibrium with old technologies. Old technologies get replaced. This applies equally to biological technologies like oxen—and perhaps it will someday even apply to human workers.

That’s an idea that economics is probably not ready to accept. Interestingly, other disciplines like biology or physics don’t give any special status to people. We are assumed to be subject to the same overall rules of nature as anything else. No so, with economics. For economists, people are very special; people are labor, and people get a special “L” in all the equations. Economists assume that people—and not just a few people but the vast majority of available workers—are indispensable to the production process. That has been true historically, but will it always be true?

Then again, maybe I’ve missed something. Maybe there is an area where human workers will always have an absolute advantage: in jobs that require uniquely human qualities or creativity, artistic ability and so forth. A lot of the conventional wisdom seems to suggest that we simply need to retrain, re-educate and redeploy workers into these areas, and everything will be fine. Is that likely to be the case? I’ll look at that idea in my next post.
Martin Ford is the author of The Lights in the Tunnel: Automation, Accelerating Technology and the Economy of the Future and has a blog at Econfuture

The Best and the Brightest Meme — Eight Years Too Late?

Ken Houghton

CR beat me to commenting on this Mankiw whine post, partially because I couldn’t think of anything reasonable to say about it. (CR could. That’s why he gets the big bucks.)

But now that CR has done the heavy lifting, let’s look at the other aspect: Mankiw’s standard:

Based a standard ranking of economists’ academic accomplishments as of October 2008…[emphasis mine]

    11. Larry Summers
    21. Greg Mankiw
    35. Ben Bernanke
    99. Eddie Lazear
    132. Glenn Hubbard
    249. Harvey Rosen
    391. Christy Romer*
    653. Austan Goolsbee

[emphases Mankiw’s; Bush administration officials]

Leaving aside whether the ranking used makes sense, we ask the next question: What does this have to do the performance of the individual in a government role?

So I realised we’ve been thinking about the Obama Administration in exactly the wrong way.

Several people are referencing the late David Halberstam’s The Best and the Brightest, a biography of the Kennedy Administration’s well-educated pedigree and their policy missteps. Krugman used it as a cautionary phrase in the exact post about which Mankiw whimpered. As John McCain once wrote:

The term “best and brightest” has become an insult, not an accolade, thanks largely to Halberstam’s magnificent, scabrous epic about the policymaking blunders that swept the United States into Vietnam. This classic work is part of the Vietnam canon, but it is not really about Vietnam; it is very much a Washington book, focused on the surety of the hawks stateside rather than the misery and warfare in Indochina. [italics mine]

But look at (most of*) Obama’s picks:

    Orszag – Currently at the OMB. Prior experience at CEA, and then as a Special Assistant to the President during the Clinton Administration.
    Summers – veteran of the Clinton Administration
    Geithner – veteran of the Clinton Administration
    Paul Volcker – veteran of the Carter and Reagan AdministrationsModule Water Slide best, named Chair of the Federal Reserve by Carter.
    Melody Barnes – Eight years as Chief Counsel to Senator Kennedy on the Senate Judiciary Committee
    Heather Higginbottom – Eight years as legislative director for Senator Kerry

The list goes on, but what is notable is that—with the exceptions of the Advisors Goolsbee and C. Romer—all have extensive government policy experience.

Let’s look at the Bush people:

    Mankiw – columnist for Fortune, textbook author. As Bruce Bartlett noted in 2003, “Mankiw endorsed the election of George W. Bush because, unlike Al Gore, he would cut taxes, reform Social Security and antitrust policy, and try to implement school choice.” Spent one year as a CEA staff member—twenty years prior to being named CEA Chair.
    Lazear – No policy-making experience prior to being named to the CEA.
    Hubbard – No policy-making experience prior to being named Chair of the CEA.
    Harvey S. Rosen – Deputy Assistant Secretary (Tax Analysis), Department of the Treasury, 1989-91, then no government experience again until named to the CEA in 2003. (Fairness note: the interim is largely a Democratic Administration. No indication what he did from 1991 to 1993, save possibly returning to Princeton to teach). Note that he officially did exactly that in 2005, though he had warned that might happen.

Comparing the actual policy experience of the two Administrations, references to Halberstam’s work are much more applicable to the Bush Administration than the incoming Obama Administration.

Despite having a relative disadvantage in looking for people with policy-making experience (eight years with a Democrat in the executive branch over the past 28 years v. Bush’s twelve of the previous twenty), the Bush Administration’s combined highlights list has less total experience in policy-making than Summers alone.

Knowing how to make sausage is a Comparative Advantage when one is working in a sausage-making environment. Otherwise, you just end up with a “hack.”

*Mankiw uses Greg and Ben and Eddie as well, so I assume the use of “Christy” is not meant to pejorative. Firedoglake’s mileage may vary.
**Goolsbee is the notable exception, and he is in a Senior Advisory role, specifically the Economic Recovery Advisory Board, where he will be working with Paul Volcker.

If not now, when? If now, why? Or, to quote the wrong holiday, Ma nishta…?

I posted this in comments at Lance’s place, but figure to run it up the flag here as well.

Speaking as one who supported Monday’s bill and generally opposes today’s, here’s the high-level list of reasons:

  1. It wasn’t going to authorize the whole $700B, but about$250B, with renewal (or scrapping) to follow. (That Henry Paulson was an idiot in his pitch, and that that pitch has been perpetuated to the detriment of sanity, was documented by Stan Collender.)
  2. Even a broken clock is right once or twice a day. Yes, the administration cried “Wolf,” but the tense of your post is incorrect—banks are already not loaning to creditworthy entities.
  3. What made it worse is that about two weeks ago, they decided not to loan to each other. Or to do so only at (relatively) ridiculously high rates.
  4. Subnote of the above: My HELOC is currently somewhere between 3.75 and 4.75%. Which means that I could borrow $25K or $50K or $100K on it, invest that money at LIBOR, and make a profit. That’s the type of thing I mean when I say the markets are too out of kilter. The market seems to believe that I am a better credit than, say, Citigroup.
  5. They may be right.

On the bill itself:

  1. Krugman is right. It’s not good—the current “pitch” is economically inaccurate; George W. Bush was more correct than Henry Paulson on what would work—but it was probably the best we were going to get as a bipartisan effort.
  2. There were conditions in it that should have ensured, on balance, that the taxpayer ended up with a significant equity participation in the firms that were saved. (Dodd’s addition: 1.25(Y-X) in company stock for every dollar lost between the purchase and the final sale, was inspired.)
  3. There were restrictions—not so strong as I’d like, but restrictions at least—on the bailout monies going to the high-level execs who have mismanaged those firms for the past several years.
  4. If it’s not a bipartisan effort, then the Republicans are going to hang it on the Democratic Party for the next 34 days, even though their people are the ones who said it was necessary.
  5. Given (1) and (4), the alternative when the bill failed was one of two things: (a) take the Brad DeLong approach or (b) introduce a ill that looks like a bill that Democrats would support: fund infrastructure, extend unemployment benefits, put more money in the hands of people who are (to borrow a phrase) “liquidity constrained”—that is, the people who will spend it. It will end up in the same place—on some bank’s balance sheet—and have at least done some good. And then dare Republicans to veto—or run against—the bill. (Fairness note: Domenici’s addition in the Senate fits well in that group.)
  6. They didn’t do either of those. They made it a bill that appeals more to the Republican money-base’s interest, and does even less for the credit crisis than the previous one did.
  7. I realise the essence of the argument is “Wasting $400B or so of a $700B bill is all right, but wasting $500-550B of an $850B bill isn’t.” But the original bill was, as Krugman noted, marginally acceptable. The current one is well over the margin and into “unfunded giveaways that won’t support the economy or increase the velocity of money.”
  8. That last point is essentially the argument of J. C. Bradbury in discussing Kyle Lohse’s new contract: you could have a mediocre deal today, or a better one later. Since it’s only going to get worse over the next few weeks, the chances of getting a better deal by waiting only go up. But apparently Hillary Clinton and Harry Reid decided not to go that way.

Which, I would argue, is a mistake.

Free Trade vs the World Bank

This concept of Comparative Advantage hits a big wall if we accept the World Bank’s study on what generates wealth.

If comparative advantage is about what comes natural to a given nation, it has to include what the study referred to as natural capital. This is only 40% of the wealth generation for a poor nation but drops to 20% for a rich nation and is 5% overall world wide. Produced capital accounts for only 18% world wide.

77% of wealth creation is from “intangible capital”. Intangible capital is the results of societies efforts to improve it’s self as a society (making us better people). It is legal, it is education. It is civil rights, it is (or was here) free education to including college, it is management of our environment, it is (or was) the enlightenment, it is adaptation of knowledge for the betterment of living life. None of these things are the results of nature. They are the results of will and money. The money being spread for the benefit of all.

So, we look at China or India and see that they have taken steps to improve their society via education and legal. The comparative advantage however is still more in the natural capital. What is their “natural” capital? It is low relative wages as compared to the rich nations. Is there any naturally comparative advantage? I think not. It’s not like they are selling us natural resources. What they are selling are the results of moving the know how and productivity generating tools (using a hammer drill to drill a hole in concrete vs a star drill and hammer) to their countries. Their natural capital is in their labor.

This creates a dilemma for the free traders who think it is only a matter of stuff and things in exchange for currency. If 40% of poor nations wealth generation is natural capital, and produced capital is 18% of the wealth generation, then that leaves 42% of China’s wealth generation intangible. This is competing against us with numbers that most likely look closer to the world overall, 5% natural, 18% produced, 77% intangible. Being that our advantage is our society, and our society was created by creating a better distribution of wealth, then how are NAFTA, CAFTA etc. without emphasis on labor, rights, and environment promoting our comparative advantage?

This dilemma of promoting trade agreements on only the 2 tangible sectors of the 3 sectors that drive wealth creation ignoring that a rich country as moved vastly beyond the ratio of the 3 sectors to where investment in ones society is the dominating sector by far, is what is wrong with applying models that discuss comparative advantage as some kind of sliding scale based on only the tangibles. Wine vs wool was it?

We’re loosing the trade wars as a nation because we’re writing trading agreements to our partners advantage. That’s what comes of letting people who only think about business, do the trade agreements. They only think in terms of the natural capital and created capital. It is why the models are wrong when they say there will be or has to be “losers”. Bull crappy on that.