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Bad Money
That's the new book by Kevin Phillips. He concludes:
The thirty- to forty-year tumble from national preeminence that made life more glum for most folk in seventeenth-century Spain, and eighteenth-century Holland, and the Britain from the 1910s to the 1950s may be somewhat moderated for the United States because of a position as a North American continental economic power with a large resource and population base...
Boo hoo, I say; I'll be crying all the way to Rio. Overall this book is a catalog of the usual arguments about the financial problems of the United States, peak oil, the potential weakness of the dollar, and related worries. Phillips doesn't seem to think that finance is much of a productive economic sector. He is keen on the "inflation is larger than we realize" line, citing high growth rates for M3 (he doesn't realize how much the different aggregates can move around and differ from each other) and then the Fed's discontinuation of that statistic. But who has been tricked? Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man. I find the former scenario more plausible.
If there's anything wrong with gdp statistics, it's either environmental problems or that we don't have good measures of the productivity of government itself. Those problems are built into how the number is calculated and there is no conspiracy to make America look much richer than it really is.
There is remarkably little on future expected productivity growth or whether America will solve the problem of educating its non-upwardly-mobile, which are both (the?) major issues for our economic future. The author should spend a week locked in a room with the Solow model. There is also precious little recognition that America in twenty years' time will almost certainly be a good bit wealthier than today. Given that no other country is about to take us over, does relative international status really matter so much for the happiness of Americans? I don't think so. The richer the Chinese get, the more I feel good about living in the world's first country to be a true product of The Enlightenment. If only Phillips could feel the same way.
Posted by Tyler Cowen on April 21, 2008 at 06:58 AM in Books, Current Affairs | Permalink
Comments
Haven't read the book so far...still
-the Solow defense?
-retrain the laggards initiative?
-the happy Americans defense?
Maybe this is Kudlowism [bullish on America etc etc etc] dressed up in academic arcana.
Tyler - your readers, including this one, want more...
Posted by: stevehar at Apr 21, 2008 8:18:44 AM
Long-term readers of this blog know far better than to expect any kind of balanced analysis of criticism of the US. Sometimes we get some pretend analysis but it always seems to end with "yet on balance it is hard to ignore how fucking superior the US is to everywhere else". It's a bit tiresome.
Posted by: Finnsense at Apr 21, 2008 8:50:03 AM
Kevin Phillips really rubs me the wrong way. He make all these negative claims that seem just wrong.
Posted by: Floccina at Apr 21, 2008 9:05:08 AM
@finnsense:
"It's a bit tiresome."
And yet you return...
Posted by: Bill at Apr 21, 2008 9:14:55 AM
I think something funny is going on. There is a lot of money washing around in the investment (rich man's) world, but at the same time the middle (and lower) classes are being squeezed.
What's more ;-), I believe the above is a statement of fact, and that I haven't got to politics or prescriptions yet ... and I may not.
Where I'm going is to a question ... if seas of investment monies flow, even as "inflation" rises ... how exactly can investors demand the kind of premium you are asking for?
How do I, as an investor, demand it at this point?
Posted by: odograph at Apr 21, 2008 9:17:39 AM
He is keen on the "inflation is larger than we realize" line, citing high growth rates for M3 (he doesn't realize how much the different aggregates can move around and differ from each other) and then the Fed's discontinuation of that statistic. But who has been tricked? Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man. I find the former scenario more plausible.
This assumes there's some way to get rich off of inflation being underestimated, and that there's a
generally-known security that captures a true individual's purchase basket. Keep in mind, the argument
is NOT "inflation-indexed bonds underestimate what future inflation will turn out to be", in which case
there is a clear, exploitable mispricing. The argument is that, consumer prices, as experienced by actual
consumers, are increasing faster than official figures say.
So to exploit such an underestimation, you have to know in what financial market it will show up.
It's not foreign currencies, because they could be inflated too. It's not even a commodities basket,
because there could be non-commodity inflation in the path to the end consumer.
So, what security actually captures my purchasing basket?
Posted by: Person at Apr 21, 2008 9:40:25 AM
I think one thing going on, Person, is that people are changing their expenditure basket. It is being called a slowdown in consumer spending in face of both higher prices and lower confidence ... but it doesn't seem to be producing the price moderation predicted.
It's not a happy situation, even if average growth over then next 20-30 years proves strong.
(Talk to many poor people Tyler?)
Posted by: odograph at Apr 21, 2008 9:48:30 AM
Finnsense, remember those posts I wrote about how wonderful the Nordic countries are and how the average person is Western Europe has a quality of life at least as good as in the United States? As a general rule of thumb, when you see abusive reactions, it is best to ask what is going on in the user. A lot of the Phillips book is simply economically illiterate. For sure America has its economic problems, but they are not the ones identified in *Bad Money*
Posted by: Tyler Cowen at Apr 21, 2008 9:58:13 AM
Is it safe to assume we can just ignore these types of books? How many times do we need to vacillate between "Dow 36000" and "Bad Money" before we stop reading? It might be instructive, Tyler, to post a chart of log GDP per capita over the past, say, 100 years; I'm looking at that chart right now, and aside from the Great Depression, the business cycle is essentially invisible.
Recessions do not mean America is doomed, and booms do not mean America is destined for eternal prosperity. We're only six years away from $.85=1 Euro and "The Era of $10/barrel oil", which was only 10 years away from "the giant sucking sound" that would destroy American wealth, which was...
If people should be upset about anything, they should be upset about the enormous relative decline of our infrastructure and education level.
Posted by: cure at Apr 21, 2008 10:21:17 AM
Oh, Tyler. Love your blog, but I have to agree with Finnsense. I know that whatever compliments you heap on Western Europe will always be matched by the observation that Europe will inevitably become more like the US. (I'm still not sure why you believe that, but perhaps that's another question for another time.)
I won't defend Phillips's economics, but I do think he's right on the psychology. Americans have so much mental equity invested in the idea of being the biggest and the best, the shining city on the hill, etc., that, in my experience, it's deeply disturbing for many Americans to recognize that other countries may offer just as good a life to their citizens, may provide more opportunity to their people, and may, in sum, outweigh the US in total influence.
You're right that Americans have no rational reason to be unhappy, but a loss of comparative stature can still be deeply disturbing---as Britain demonstrated in the 1950s and 1960s.
Posted by: Ian at Apr 21, 2008 10:33:58 AM
the usual arguments about....peak oil
As a layperson, I have always been confused by the dismissal of system limits in economic discussions, and peak oil is as baffling as the rest.
Let's say that the average person is able to apply every calorie they consume every day to productive work. Further, let's say that the average person is a Tour de France competitor, putting away as much as 10,000 calories/day.
A single gallon of gasoline contains roughly 300,000 calories. Put another way, having a gallon of gasoline is the same as having 300 people work for you for a day. Hence, slaves in America prior to the industrial revolution.
When we reach peak oil, what will replace it? Natural gas is already in decline in the US; using coal in your car via Fischer-Tropsch is inefficient (and we'd need a long lead time to build plants, anyway); nuclear power also had lead time problems and would require electric cars, which we don't exactly have ready at hand, and it's not clear that .
The geologists generally agree that we have burned though very close to half of what is profitably extractable, and have no replacements close at hand -- and this doesn't even address non-fuel uses of oil (agriculture, plastics, pharmaceuticals, etc.)
So why the dismissive attitude about peak oil? It seems a huge economic event to me.
Posted by: Doug Blair at Apr 21, 2008 11:15:52 AM
cure, would you put median net worth over time on the same graph as GDP per capita?
some graphs here, not perfect.
Posted by: odograph at Apr 21, 2008 11:19:14 AM
"Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man. I find the former scenario more plausible."
Because the market is *always* right, innit? Ergo these persistent bubbles in which the market is dead wrong to such a large extent and for long enough periods that our economy swings precariously in the balance. Precarious enough to warrant government bailouts of private corporations, for example.
But nothing to worry about really.
Posted by: meter at Apr 21, 2008 11:32:06 AM
Person, I got your point. The spread between nominal Trasury and TIPS yields is a speculation on how the CPI will print not how actual inflation will run. Accordingly, it is completely irrelevant to the point you raise. I am surprised Dr. Cowen chooses to ignore your point, particularly as he has chosen to respond to another. Odograph completely missed your point. I feel your pain.
But having got your point, please allow me to say I disagree. Inflation is impossible to measure because the ratio of nominal spending to aggregate utility (the price level) cannot be measured on the grounds that aggregate utility cannot be measured. But there is no reason to believe that the data we have understate inflation. The data are unavoidably unreliable but not apparently biased, IMHO.
Posted by: Gerard MacDonell at Apr 21, 2008 11:37:16 AM
"The spread between nominal Trasury and TIPS yields is a speculation on how the CPI will print not how actual inflation will run."
I probably missed some point ... but I don't believe "spreads" even if they chronicle Delphic prediction in general, are likely to do do so at this particular point in time.
We are in the midst of a strange credit crunch, with a lot of money fleeing to "safety" even at uncertain "costs."
When buyers are arguably betting on the "smaller loss" of available choices, spreads are pretty meaningless.
Posted by: odograph at Apr 21, 2008 11:48:15 AM
shorter - if you were to participate in the coming TIPS auction, what would you be gambling against: general panic in bond markets, or inflation?
Posted by: odograph at Apr 21, 2008 11:51:09 AM
Doug Blair: Peak Oil would not mean the end of oil supply. It only would mean decades of rising prices, during which substitutes become both more technologically possible and more price competitive. 300 slaves cannot convey me from LA to Chicago in 24 hours, even if they are Lance Armstrong.
System limits are dismissed because they usually assume no reaction to changing costs and dismiss the value of human innovation.
Ian: Psychology may explain why people take a dismal view of the world. Economics explains why, despite their bad attitudes, people aren't starving to death. Eventually the facts of wealth overcome the angst. Sadly, it seems that people use their increasing free time to find shinier and more grand ideas over which to despair.
Posted by: foxmarks at Apr 21, 2008 11:53:45 AM
I haven't read the book, and after Tyler's review I won't be reading it later either, although I doubt I would've stumbled on it either.
However, based on what Tyler wrote, he was correct to bash the book. The issue Tyler had was that it was economically illiterate.
Scientific research, business that creates and adopts better technology (broadly defined) invented elsewhere, and education are what will make or break any developed country with a decent formal or informal legal infrastructure. If the author managed to miss that then his book belongs in the recycling bin.
Are there other issues worth talking about? Yes, but to discuss future economic prospects of a developed country while basically ignoring the above is just plain ignorant.
Posted by: happyjuggler0 at Apr 21, 2008 12:00:28 PM
Hi Foxmarks.
Thanks for the response. Two quick thoughts:
Doesn't it make as much sense to disregard human innovation as it does system limits? I think we have to consider both if we're to be realistic.
Note that relatively mild disruptions of oil supply in 1973-74 and again in 1979 had significant impacts on our economy. I imagine that a global version of these same disruptions would have much more significant impact, no?
Posted by: doug Blair at Apr 21, 2008 12:48:43 PM
Were "most folk in seventeenth-century Spain, and eighteenth-century Holland, and the Britain from the 1910s to the 1950s" truly feeling "more glum" as time went on?
Certainly, being in Britain during the depression, WW2, and the after-war rationing wasn't so great, but would they have been any better if American power hadn't eclipsed British power in those years? Was the average Briton in 1953 less happy than the average Briton in 1923 or 1913?
Posted by: Anthony at Apr 21, 2008 12:58:30 PM
Re. energy - the market will produce new energy sources OR new efficiencies OR (failing those two) reduced productivity.
I personally think new efficiencies will pan out better than new sources (as they have done over the last say 20 years).
Posted by: odograph at Apr 21, 2008 1:21:19 PM
On peak oil, let me cut and paste something I wrote elsewhere last night...
Peak Oil hysteria violates pretty much every economic precept you can name. Its most grievous error is in failing to understand that effects happen at the margins. The thought that a production peak would raise prices enough to collapse the entire economy depends on the fallacy that everyone will respond to a shock identically and equally. But -- barring idiotic government action that forces everyone into such lockstep behavior -- the reality is far different. Peak oil production means that oil production will decline in the future: It does not mean that it will instantaneously end. In actuality as prices rise, those at the high margin will move toward alternate sources of transportation energy, and those at the low margin will find alternatives to transportation. Those in the middle will suffer a higher price for oil, but will not suffer shortages.
and this doesn't even address non-fuel uses of oil (agriculture, plastics, pharmaceuticals, etc.)
You can make the same argument for every other use for oil as that made above, including the marginal values between the different uses as well. The various different uses of oil are cited as problems. Frankly, they are advantages, as each has different substitutions and a different substitution price where oil becomes uneconomical. That is the sort of robustness at the margins that is utterly ignored by Peak Oil sellers.
Posted by: MikeP at Apr 21, 2008 2:04:58 PM
Note that relatively mild disruptions of oil supply in 1973-74 and again in 1979 had significant impacts on our economy.
Those impacts on the economy were caused far more by government reaction to the OPEC embargoes than by the embargoes themselves. The proper government reaction is to do nothing, allow prices to rise, permit the landing of windfall profits, and watch the domestic supply increase along with the global market of sellers and resellers. In 1973 and 1979, government responded with price controls, rationing, and taxes on producers -- a practical recipe for shortages and economic disruption.
So, yes, if governments behave like economically illiterate idiots -- see, for example, Kevin Phillips and the panoply of Peak Oil doomsayers -- then peak oil could prove a problem. But it should not pose more than a recession-inducing bump to a free economy.
Posted by: MikeP at Apr 21, 2008 2:09:43 PM
Gerard_MacDonell: I appreciate your reply, but think my point still stands -- I do have a purchase basket, and that can be measured reliably enough, even with the incomparable utility issue you talk about. It's just that it's not. So long as there is no security I can buy that tracks this, I can't profit from inflation or inflation underestimation, and there's no security on the market that's proving me wrong by my not buying. If someone wants to point out to me what it is, I will buy it.
The best I could think of would be an insulin ETF, since with insulin:
-Demand is inelastic
-There are many inputs, immunizing it against any sector-specific shock
-It has a precise, medically-driven definition, meaning it won't (can't) be debased in response to cheaper money or more costlier inputs.
That means that any remaining influence on its price will be due to general falling value of money, which itself roughly tracks my purchasing basket.
So what's the insulin ETF's ticker symbol? DIAB?
And yes, I definitely have noticed my prices increasing faster than 4%. Pretty much everything I buy has gotten smaller or lower quality or seen bigger price increases. For example, pepperonis I buy were quite clearly diluted with non-meat. (plural of anecdote, blah blah, but I can't think of one case of the price staying steady or falling and I've looked hard)
Posted by: Person at Apr 21, 2008 2:26:08 PM
I'm not sure that saying that limits on natural resources should be considered as serious as human ingenuity constitutes "hysteria," but anyway....
I agree with you that the various capabilities of oil are advantages which we have enjoyed immensely. I'm saying the absence of the advantage is likely to cause some sort of economic difficulty -- or "change", if you prefer. For a gross non-1970's USA example, consider WWII. This was largely fought over access to oil; Japan lost almost entirely due its inability to maintain certain levels of access to oil, and Germany lost for mostly this reason. (The eastern front being opened as Hitler needed the Baku fields to fuel his war machine). The Germans did the rational thing at the time: made gasoline from coal. it wasn't competitive, as the "marketplace" of the European theater showed.
What reason do we have to think that there will be no economic repercussions to peak oil, as the original post seemed to imply?
Posted by: Doug Blair at Apr 21, 2008 3:10:06 PM
I agree with you that the various capabilities of oil are advantages which we have enjoyed immensely.
You misunderstood what I meant by "advantage". It is an advantage to the economic response to a drop in oil supply that oil is used in so many spheres of industry. Each use of oil has different substitutes that become profitable at a different price. This smooths the market reaction to a rise in the price of oil, concurrently smoothing and lowering the demand as well. And that leaves more oil for those uses that can't as easily find substitutes.
The Germans did the rational thing at the time: made gasoline from coal. it wasn't competitive, as the "marketplace" of the European theater showed.
Notice your language here. You use the word "competitive". Above you used the word "profitable". These are concepts that implicitly internalize a price. When the price rises, sources of supply that were not "competitive" or "profitable" become competitive and profitable. This increase in supply, too, happens on many fronts at many different prices, providing a robust reaction at the margins that will smooth and restrain the increase in prices.
Posted by: MikeP at Apr 21, 2008 3:30:28 PM
Actually Mike, what we've been seeing is that the theoretical break-even point for some alternative fuels rise along with traditional fossil fuels. Why? Easy, they have (hidden or obvious) fossil fuel inputs to their own production.
As an example, tar sands consume massive quantities of natural gas, a clean burning fuel we'd like to use directly.
Posted by: odograph at Apr 21, 2008 3:41:43 PM
(but to recapitulate my efficiency comment above ... IMO it's a lot more rational to drive a Prius now than to buy a Tahoe and wish for the magic bullet later.)
Posted by: odograph at Apr 21, 2008 3:44:35 PM
Much as I'm a fan of Tyler, his pronouncements about the economy are remarkably bold considering the universally poor record of mainstream economists at predicting economic aggregates, whether for next quarter or for next decade.
The arguments about 'the financial problems of the United States, peak oil, the potential weakness of the dollar' may be ones that we are tired of hearing. But the reality is that per serious commentators (start with Volcker) we remain in a very serious financial crisis, the dollar has depreciated by 40% in the last 6 years and crude is up more than 3x. When the Federal Reserve publishes a paper exploring whether the US govt might be bankrupt (the Koltlikoff), perhaps one should take some of these scenarios seriously.
"Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man."
I can assure you that many very rich men have through appreciation of this simple insight become very very rich men. Some of us speculators of more modest means have done okay too. Many of those commentators concerned today about the possibility of financial ruin for the US have been warning since 2002/03 of the coming commodity/precious metals bull market and the risk of runaway inflation in the US.
It's incredibly nihilistic to suggest that analysis suggesting a potentially profitable opportunity must be missing something otherwise the author would take a position himself and keep quiet.
M2, M3 and broad credit (including asset-backed issuance) tell the same story over a longer horizon. So his point stands, regardless of whether you think focusing on a single aggregate might be giving you a distorted picture.
> Phillips doesn't seem to think that finance is much of a productive economic sector.
How much economic value was really added by that part of the economy (from the money market funds, to the investment banks, to the mortgage brokers) devoted to allocating credit to people who had no potential ability to repay it? Versus the value allocated to that sector's activities in the national accounts...
>If there's anything wrong with gdp statistics, it's either environmental problems or that we don't have good
> measures of the productivity of government itself. Those problems are built into how the number is
> calculated and there is no conspiracy to make America look much richer than it really is.
Were the conclusions of the Boskin commission exactly right? Shouldn't we go back and revise pre-Boskin GDP numbers to reflect our much superior methodology?
> There is remarkably little on future expected productivity growth or whether America will solve the problem
> of educating its non-upwardly-mobile, which are both (the?) major issues for our economic future. The
> author should spend a week locked in a room with the Solow model. There is also precious little recognition
> that America in twenty years' time will almost certainly be a good bit wealthier than today.
Forecasts of productivity growth appear to have been worse than useless in the past (remember how bright things looked at the peak of the tech bubble), and we can't even rely upon the statistics for the past few years given the possibility of substantial revisions. Is there some reason that our forecasts should start to suddenly turn useful today?
I suspect the reason that he doesn't deal with the Solow model is that it's not very helpful in exploring the issues he raises in his book.
Posted by: HedgeFundGuy at Apr 21, 2008 3:50:57 PM
Person
I think you can definitely Hedge/Speculate on inflation.
A really simple way is to borrow at a fixed rate and use it to buy stuff (real estate, commodities futures, stocks etc). Your asset appreciate with inflation but your debts dont.
If you want to get really complex figure out your personal budget and allocate to the appropriate sectors. If 20% of your budget is food buy 20% agricultural futures (there are futures for corn, wheat, milk, rice beef pork as well as ohters). 20% gas buy NYMEX gas, heating oil natural gas and crude oil futures contracts. Housing buy a house or an etf if you want to rent. And if you want to make sure you can buy your favorite finished products buy the companies that make them and thier major inputs (ie Toyota and an iron ore miner).
You can hedge your pepperonis by going long pork futures contracts (or just an ag etf) and say Hormel
If you are woried about inflation buy things that depend on the REAL economy; buy the means to produce your own goods by owning futuers on the raw materials and the stocks of companies that produce the final goods.
Posted by: eccdogg at Apr 21, 2008 3:59:26 PM
Mike,
I accept your comments, but they don't address my core question: We have lots of history that says the availability of natural resources has a profound effect on economic development (or the lack thereof). Why, then, is the topic of peak oil waved away as being unimportant to economic discussion?
Posted by: doug Blair at Apr 21, 2008 4:24:26 PM
eccdogg seems to be suggesting that such a package of hedges is theoretically possible, and therefore that it it is practical with real-world investment options, fees, etc.
I may have missed Person's meaning above, but where I was going was that most people will find it easier to adapt their consumption to the CPI (core even) basket.
Posted by: odograph at Apr 21, 2008 4:42:31 PM
Mike,
Sorry; I guess you did address my point. But let me try again, because I think the point I made wasn't what I meant to make.... :-)
wrt peak oil, I think the degree of concern/interest in economic circles is much lower than the evidence suggests it should be, to the point where people who even mention the two words together are often called "hysteric" by economists. OTOH, the Department of Energy has said that we need 20 years lead time to build new infrastructure to allow new energy sources (if/when/as discovered/developed) to pick up from oil/other fossil fuels smoothly. I believe their exact phrasing (I can't find the cite at the moment) is that we can expect "severe economic consequences" if we don't allow this time for adjustment. Only the most optimistic estimates of oil reserves suggest that we have 20 years left of production at this level; some argue that we have already passed peak. In the meantime, our incentives arguably keep the price of oil artificially low in the market (taxes for roads and military protection of petroleum supplies, to name two major subsidies). In Europe, in contrast, incentives are set to inflate the price of oil, and thus encourage (rather than discourage) the development and deployment of alternatives that we know we need.
Here's my question: Why does this seemingly-serious situation elicit such dismissive rhetoric from economists?
Posted by: Doug Blair at Apr 21, 2008 4:43:54 PM
Why does this seemingly-serious situation elicit such dismissive rhetoric from economists?
Simply put... because extraordinary claims require extraordinary proof. The Peak Oil argument demands that well known understandings of robust markets suddenly and massively break. There is no good reason to believe they will, and every reason to believe they won't.
Perhaps you have not read much on what proponents of the Peak Oil argument actually say. Or perhaps I haven't been clear on what the position is that I am trying to rebut.
I am not trying to rebut, "Oil is a limited resource, and one day its production will begin a gradual decline. This will have impacts on the economy, likely leading to worldwide recession as investments in marginal oil-consuming industries suffer early depreciation."
I am trying to rebut positions such as this...
Because oil under girds the world economy, oil depletion will result in global economic collapse and population decline.... Multiple crises will cripple the nation in a gridlock of ever-worsening problems. Within a few decades, the U.S. will lack car, truck, air, and rail transportation, as well as mechanized farming, adequate food and water supplies, electric power, sanitation, home heating, hospital care, and government services.
Posted by: MIkeP at Apr 21, 2008 4:55:29 PM
Odograph, the perfect hedge is probably not possible, but you can get pretty close.
Energy ETFs are easy to buy with low fees.
As are Agriculture ETFs.
Same for metals.
Obvioulsly it is easy to own a home or to buy a real estate investment trust.
So right there you have covered
energy: for heating, driving and electricity (since Natural gas is a major fuel for power) and as an input to many goods
food: since corn, soybeans and wheat are the major feedstocks for almost everything we eat today. Plus you can find indexes that include stuff like milk and meat if necessary (buy I think corn, soybeans, wheat and rice do the trick)
housing: Owning your own home is obviously an inflation hedge.
Stocks also tend to be a good bet on inflation. Stcck prices inflate right along with other assets.
Posted by: eccdogg at Apr 21, 2008 5:07:21 PM
I followed the link to the book on amazon, and wasn't surprised to see the listings under Customers Who Bought This Item Also Bought. Firewood for the burning rage of the angry left.
Kevin Phillips certainly has made a career out of being a Republican who tells us how bad the Republicans are. Hasn't his expiration date passed?
Posted by: Rich Berger at Apr 21, 2008 5:12:44 PM
extraordinary claims require extraordinary proof
But some of the peak oil crowd (not of of whom are calling for armageddon tomorrow) would say the same thing about economist's position. Fossil fuels are, for all intents and purposes, a one-time resource; their replenishment will take millions of years. Before the Industrial Revolution the planet supported roughly a billion people on a purely solar energy budget. We don't know what steady state we can maintain with renewables but we do know it will take decades to build infrastructure to use them. We also know that we're, at best, right up against the lead time we need for a smooth transition. This is all well-known and not at all controversial. The idea that this would not be hugely disruptive would seem to be the more extraordinary claim.
Put another way, why aren't you concerned (at least) about existing distortions in the market that delay our investigation/deployment of alternatives?
And thanks for keeping this civil. Not all of these conversations go this way. :-)
Posted by: doug Blair at Apr 21, 2008 5:13:20 PM
eccdogg, we have to guess how many of those ETFs now reflect rational inflation expectations, and how many are simply bubbled. But then, I'm more a "Fooled By Randomness" guy than an "Efficient Market Hypothesis" guy.
mike/doug, I'm a moderate and a chemist/engineer. I found, in a 2-3 year "energy and environment" reading binge, much to support moderate concern (doug's point) and a lot of crazy end-times stuff (mike's point). In the end though, I don't the doom talk really negates the reasonable concerns.
Simply put, relying on a new energy source not yet invented(*) is what we scientists engineers call "a this point a miracle happens" in our flow charts.
Sure, history shows that we get a lot of neat stuff, but it also shows that we don't, in fact, get to call all our technology directions in advance.
Maybe the sweet "energy tech" in 2050 will be a carbon fiber electric bicycle.
* - or "to be named later"
Posted by: odograph at Apr 21, 2008 5:29:19 PM
A lot of the Phillips book is simply economically illiterate.
Food riots are presently engulfing the nations of Haiti, Egypt, Bangladesh, the Philippines, etc. There are reports out this past week detailing how even the Japanese might become susceptible to the food crisis.
And yet, during all the past several years of rah-rah-ing from market fundamentalists about how wonderful the emerging economies of India and China will be for everyone concerned, there were very few, if any, predictions of the massive food-price inflation now gripping the globe. The increasing appetites of hundreds of millions of newly-middle-class Indians and Chinese never seemed to figure into the equations of the free market-eers.
Economic experts, economic rubes -- who's to say?
Posted by: rangergranger at Apr 21, 2008 6:07:29 PM
We also know that we're, at best, right up against the lead time we need for a smooth transition. This is all well-known and not at all controversial.
I would say the idea that we are right up against the lead time we need for a smooth transition but, say, five years from now a smooth transition becomes suddenly impossible is very controversial. Your use of the word "smooth" is telling: There is no evidence for the presence of discontinuities in either supply or demand. Why would markets not handle marginal shortfalls in production smoothly?
Put another way, why aren't you concerned (at least) about existing distortions in the market that delay our investigation/deployment of alternatives?
Who says I'm not? I don't like subsidies for oil, roads, housing, or anything else for that matter. That has little bearing on why a decrease in oil production will disrupt the economy so much that it will preclude normal market responses and lead to irreversible global depression.
Posted by: MikeP at Apr 21, 2008 6:44:22 PM
"That has little bearing on why a decrease in oil production will disrupt the economy so much that it will preclude normal market responses and lead to irreversible global depression."
LOL. I like the word "irreversible" in there. Sort of sets the standard for concern, eh?
Posted by: odograph at Apr 21, 2008 6:50:58 PM
odograph,
I didn't make up those words. Peak Oil Associates International did:
Because global oil demand is increasing, declining production will soon generate high energy prices, inflation, unemployment, and irreversible economic depression.
I made clear what I was arguing against and what I wasn't. I can only assume that if people are still arguing with me, they must be taking the position I am arguing against.
Posted by: MikeP at Apr 21, 2008 7:00:39 PM
OK, sorry. I think I did try to stake out my moderate position above. If it is just an argument (in the PO lingo) between cornucopians and doomers, that's not really interesting (or useful) to me.
The really interesting problems, choices, decisions, are around boring little things like fleet mileage and whether CAFE mileage requirements amount to a hill of beans (etc.)
Posted by: odograph at Apr 21, 2008 7:06:25 PM
"Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man. "
Hmm, so if I wanted to make money off of inflation, where would I go? Well how does the Fed increase the money supply? I remember now - it does open market operations that allow the big banks to expand their lending. Thus, I should find a job with a big Wall St. bank. And lo, it appears that Wall St. now accounts for 50% of all corporate profits ( http://www.2blowhards.com/archives/2008/01/the_new_class_a.html )! Just as in accordance with the theory! Thanks for the advice Tyler. Wall St. here I come!
Posted by: Patrick at Apr 21, 2008 7:20:30 PM
Your use of the word "smooth" is telling: There is no evidence for the presence of discontinuities in either supply or demand.
The price of a barrel of oil has doubled in the last year; it's now more than six times the price it was ten years ago. This isn't a discontinuity?
That has little bearing on why a decrease in oil production will disrupt the economy so much that it will preclude normal market responses and lead to irreversible global depression.
"Little bearing"? If the incentives in the economy prevent the market from responding in a way that would help us prepare, they would seem to be important.
I made clear what I was arguing against and what I wasn't.
I believe this started with me asking why economists generally discount the importance of limitations in natural systems. I would argue that natural resources tend towards discontinuous pricing behaviors (exponentially rising) as they near depletion. For example, the cost of a breeding pair of passenger pigeons was very low in 1895 but went to infinity in 1914. While we are nowhere near full depletion of petroleum, we're seeing pricing behavior that matches the "undulating plateau" predicted by the peak oil community, which, according to theory, will resolve towards exponential price rises as the peak becomes clear. This is a position I believe to be generally disregarded by economists, but, at the same time, geologists and those who refer to and draw conclusions from geologic data are to trust in "human innovation."
Why?
Posted by: doug Blair at Apr 21, 2008 7:25:16 PM
The price of a barrel of oil has doubled in the last year; it's now more than six times the price it was ten years ago. This isn't a discontinuity?
No. It's not.
I would argue that natural resources tend towards discontinuous pricing behaviors (exponentially rising) as they near depletion.
Exponentials are not discontinuous either.
This is a position I believe to be generally disregarded by economists, but, at the same time, geologists and those who refer to and draw conclusions from geologic data are to trust in "human innovation."
I have yet to appeal to "human innovation". Rather I appeal to the fact that there are many present uses of oil, some of which have very high consumer surpluses, and many of which have substitutes that become economical at nonstratospheric prices, to claim that the demand for oil will remain smooth even if the price of oil goes Hotelling. I would further argue that there are plenty of sources of raw oil and manufactured refinery products known today that become economical at nonstratospheric prices, further smoothing the production shortfalls.
Oil and its refined products have many sources and many uses. The plethora of details surrounding that supply and demand are not the oil economy's weakness: They are its strength.
Posted by: MikeP at Apr 21, 2008 8:05:44 PM
doug_Blair: I don't think you're getting very responsive responses here. I think a better discussion of your concerns from an economist would be this link, in which James_Hamilton (who seems to pay more attention to Peak Oilers) discusses what most economists have a hard time believing, and what you would need to convince them of.
Posted by: Person at Apr 21, 2008 8:09:15 PM
Doubling in year might not be a discontinuity in a technical sense, but it certainly is a discontinuity for any consumers for whom gas is a significant expense. Rather than splitting the technical hairs here, how about this -- the rate of oil price rises far outpaces the development and deployment of alternative infrastructure to serve the same needs?
"Human innovation" was foxmarks' line earlier in the thread.
I would further argue that there are plenty of sources of raw oil and manufactured refinery products known today that become economical at nonstratospheric prices, further smoothing the production shortfalls.
I'll drop the line about oil as feedstock for other processes; let's just stick to fuel. There are not "plenty of sources" of alternative energy sources/systems, and all of these take time to develop. I argue that the longer we wait to begin a transition to non-fossil fuels, the more disruptive the change will be. Since current policy artificially depresses the cost of oil in the US marketplace, I would further argue that it is a destructive policy.
Anywhere near agreement here?
Posted by: Doug Blair at Apr 21, 2008 8:22:39 PM
the rate of oil price rises far outpaces the development and deployment of alternative infrastructure to serve the same needs?
But my point is that alternatives at higher prices do not need to serve the same needs. Some of those "needs" are "wants". Some are even "superfluous consumption", such as taking an afternoon drive in the mountains. Every use of oil has a value to the consumer. When the price of oil exceeds that value, that use ends. Not only does this remove that particular demand at that price: It leaves more oil around for the remaining demands.
That doesn't mean that there won't be a problem. It means that the problem won't be catastrophic and hit everybody simultaneously and equally. It hits people at the margins. It will be dealt with at the margins.
Since current policy artificially depresses the cost of oil in the US marketplace, I would further argue that it is a destructive policy.
I can agree that government policies that bias the supply, demand, or price of oil should be terminated. I also think that no new government policies that bias the supply, demand, or price of alternatives to oil should be initiated.
Posted by: MikeP at Apr 21, 2008 8:53:42 PM
That doesn't mean that there won't be a problem. It means that the problem won't be catastrophic and hit everybody simultaneously and equally. It hits people at the margins. It will be dealt with at the margins.
Maybe. It's not clear how much of the world food shortage is due to land being taken out of food production and put into biofuels production.
I also think that no new government policies that bias the supply, demand, or price of alternatives to oil should be initiated.
OK, but what if the market's signals arrive too late for us to build alternative infrastructure? This is basically Europe's bet; keep oil prices high to encourage broad energy conservation behaviors and the development of alternative energy sources (see Germany's widespread work, for example: http://www.renewableenergyworld.com/rea/news/story?id=52089).
Posted by: Doug Blair at Apr 21, 2008 8:59:59 PM
It's not clear how much of the world food shortage is due to land being taken out of food production and put into biofuels production.
Well, food-based biofuel development is pretty dumb. It's also uneconomical at present prices, save for government subsidies of alternatives to oil.
OK, but what if the market's signals arrive too late for us to build alternative infrastructure?
I have no compunctions about taking advantage of innovations discovered in nations whose governments may in the future prove to have had more foresight than markets did.
Posted by: MikeP at Apr 21, 2008 9:06:39 PM
It's also uneconomical at present prices...
I should say that this is the case with corn-based ethanol in the US. It does appear that sugar cane is economical -- which is, of course, why the US imposes import tariffs on it.
Posted by: MikeP at Apr 21, 2008 9:19:11 PM
In terms of the discussion of peak oil:
I think you are all overlooking the elephant in the room.
The war in Iraq is about oil. This war is the market's and the US government's way to resolve the supply issues. You want a discontinuity; well you've got it right in front of your eyes.
It doesn't matter if there is enough oil in the ground to last another thousand thousand years. Markets may very well solve the energy dilemma, but there is no reason to think that the solution will be without great pain or without a lot more Iraqi-like wars.
All this talk of letting the markets solve the problem is very nice until you realize that one of the mechanisms markets may use is war and embargoes, and long lines, and shortages and a lot of suffering until some kind of balance is restored.
Posted by: lxm at Apr 21, 2008 10:55:51 PM
Odograph: eccdogg, we have to guess how many of those ETFs now reflect rational inflation expectations, and how many are simply bubbled.
If you think the commodity ETFs are bubbled you could easily short them, but you don't really think that, do you? In any case, an ideal hedge assumes an average case (neither a bubble nor a slump), but an average hedge need only work on average. If you think bubbles or slumps are common, but can't outguess them, then you just have to take the resulting higher risk on the chin, because you don't have any other choice: anything you invest in can bubble or slump. Tyler's original statement
...who has been tricked? Either the current market estimate of inflation is the best estimate available, or you know that it is wrong and you will be a very rich man.
stands quite thoroughly rebutted by eccdogg and others. "The market", in the form of the best leading indicators of inflation, commodities, has been "predicting inflation" (really reflecting the supply of dollars as it has inflated) since the big 2002 run-up in M3. The market continues to reflect inflation (and predict bigger future increases in PPI and CPI) during the current run-up in M3.
"Who has been tricked" is anybody who has financially relied on the idea that the CPI and PPI correctly estimate inflation. They substantially underestimate inflation, and this should not be too big a surprise, since their formulae are decided on by the same entity, the federal government, that pays out on a number of liabilities (such as Social Security and TIPS) that are indexed to the CPI. Wouldn't you love to change on the fly the formula for the interest you pay on your debts? The conflict of interesting here presents an irresistable temptation. What a great solution this is to the Social Security problem: pretend to index future benefits to inflation, but change the CPI formula as needed to keep Social Security in balance. Nobody can mathematically prove that the Feds have cheated, since these indices are subjective, and nobody can complain, because you can still be said to be getting the same "real" benefits, by definition.
It would be interesting, though, to see if anybody is still compiling CPI and PPI by the old formula. Pointers?
Furthermore, CPI is a trailing indicator, so even if it was accurate it would be absolutely the worst basis for making economic decisions, by the Fed or anyone else who needs to make near-real-time economic decisions.
Posted by: nick at Apr 21, 2008 11:11:15 PM
Tyler -
I think the best explanation of today's situation is economic and political decline, masked by extreme technological growth.
Productivity in a number of sectors has shown amazing increases. Our gadgetry is wonderous.
But if due purely to regulations and taxes, 15% of our GDP gets locked up in the healthcare industry, we'll have a wide disparity between GDP growth and actual standard of living.
We've become far more productive, but at the same time, more people end up in the government or in the highly regulated sectors, which makes us poorer. The Solow model does not address the systematic misallocation of resources due to regulation, and I believe that is what we are seeing today.
Posted by: Patrick at Apr 22, 2008 12:11:06 AM
Tyler,
Common among economists and some among the autisitic spectrum is the tenedency to belive the map is more real than the landscape, the model complete and accurate and that everything you were taught in econ seminars came donw on tablets. The Candide, America love it or leave it attitude is a tad tiresome. There are problems out there big guy and the Solow model or the Romer Model don't mean shit.
Posted by: Robert C at Apr 22, 2008 2:33:08 AM
"If you think the commodity ETFs are bubbled you could easily short them, but you don't really think that, do you?"
What are you, a day trader?
Get over that thinking before you bankrupt yourself.
As John Maynard Keynes succinctly commented, "Markets can remain irrational longer than you can remain solvent."
Posted by: odograph at Apr 22, 2008 8:33:12 AM
Nick, the rest of your piece is pretty good. I was reacting to the ... well, really the blog-standard canard that if you thought that way you'd trade options.
Really you have to believe X (whatever topic is under argument) and Y (that markets can be predicted).
My statement was literally about the munge of information:
"eccdogg, we have to guess how many of those ETFs now reflect rational inflation expectations, and how many are simply bubbled."
I said we have to guess ...
Posted by: odograph at Apr 22, 2008 8:40:39 AM
But Odograph you cannot both believe that Energy ETFs are bubbled and that peak oil is around the corner and that energy price inflation will continue to erode your purchasing power. It is either one or the other.
Either the fed is right and core inflation (leaving out bubble prone energy and ag) is a better measure of long term inflation.
Or energy and ag refelect the true inflation and due to resource contstraints and printing money that inflation will continue and the indexes will be a good hedge.
It can't be both.
Posted by: eccdogg at Apr 22, 2008 9:31:11 AM
"But Odograph you cannot both believe that Energy ETFs are bubbled and that peak oil is around the corner and that energy price inflation will continue to erode your purchasing power. It is either one or the other."
Surely you jest.
Though your repeated "It can't be both" makes me worry a bit ... you see, I'd think that in general semi-rational markets take as input fundamental changes to supply or demand, and react semi-irrationally producing bubbles.
IOW, markets often produce both.
Posted by: odograph at Apr 22, 2008 10:02:52 AM
Here is the point.
Right now commodites prices are high. And consequently inflation is high in products of commodities. This phenomenon will either stay the same (no inflation in these areas) continue (more inflation in these areas) or reverse (less inflation in these areas).
If it is a bubble then you and I should expect inflation not to continue because the bubble will eventually reverse and the prices of these commodities will come down. Markets are over estimating inflation.
If they are correctly priced then we have seen inflation but should not expect more.
If they are under priced then the market is underestimating inflation/resource constraints and we should expect inflation to in those areas to go up and buying those funds wlll be a good hedge against that eventuality.
You can't believe both that you will experience a lot of inflation from rising fuel prices from this day forward and that the etfs are overpriced because they reflect today's market and cash prices are very close to the front month futures.
You can believe that we will never return to $20-$40 oil but that prices are going to fall from today's prices, but that would still entail disinflation from today's prices. That would mean a reversal of recent inflation trends.
Posted by: eccdogg at Apr 22, 2008 10:29:33 AM
You seem to be combining an Efficient Market Hypothesis with a belief in bubbles.
You can't have both ;-)
(As regards the "why don't you buy options then" blog-standard canard, you have to believe that a bubble's pop and fall will (a) happen when yuo call it, (b) never overshoot fundamentals.)
Posted by: odograph at Apr 22, 2008 10:41:10 AM
"You seem to be combining an Efficient Market Hypothesis with a belief in bubbles."
I know that is kind of a joke, but I don't think my argument has anything to do with efficient markets.
I am stating a near mathmatical certainty.
ETF Payout= Pfuture-Ptoday
(ETFs typially hold the front month oil contract which is HIGHLY correlated to cash oil for a number of reasons principle amont these is storage/delivery arbitrage).
Energy prices in the future can only do 1 of 3 things
go up, go down, stay the same.
if they go up, energy inflation goes up and you make money on your etf
If they stay the same there is no inflation from energy prices and you don't make money on the etf.
If they go down there is energy disinflation and you loose money on your etf.
None of this requires that markets are efficient just that the etf tracks the front month contract and that the front month contract is well correlated with cash prices. Markets could be wildly irrational but chickens always come home to roost in the cash market do to the ability to deliver actual oil against a futures contract.
Posted by: eccdogg at Apr 22, 2008 11:07:05 AM
And if Ahmadinejad says "To be perfectly honest, I'm in it for the bombs" what happens to your ETF gamble?
Posted by: odograph at Apr 22, 2008 12:04:52 PM
(Actually I was thinking you were trying to get me to bet on my bubble call. I may think the bubble will pop before fundamentals reassert themselves, but I'm not crazy enough to gamble on calling those turns in the market.)
Posted by: odograph at Apr 22, 2008 12:08:51 PM
And if Ahmadinejad says "To be perfectly honest, I'm in it for the bombs" what happens to your ETF gamble?
Pays off bigtime! I'm long oil as a hedge against inflation!
Posted by: eccdogg at Apr 22, 2008 12:31:04 PM
;-). More fun tomorrow maybe ... busy today. Good luck with that hedge.
Posted by: odograph at Apr 22, 2008 12:42:53 PM
odograph: I may think the bubble will pop before fundamentals reassert themselves, but I'm not crazy enough to gamble on calling those turns in the market.
Then why gamble on public policy based on the idea that public policy makers know better than the market and can thus predict such things? If you're not willing to gamble with your own money, far less should you be willing to gamble with other people's money.
It's trivial to claim, as you do, that a market is inefficient in some way, without any proof. It takes money to prove it.
As for J.M. Keynes, he was not a very patient or foresightful man -- in response to a critique that his policies would end in an inflationary spiral in the long run, he replied "in the long run we're all dead." Thanks to the Keynesians at the Fed we had 1970s inflation and thanks to the neo-Keynesians at the Fed we have today's commodity prices. With enough patience and capital, one can make a very tidy profit if one really knows better than the market what commodity price(s) "should be." You apparently lack the patience, the capital, or the confidence in your own theories. I certainly lack confidence in your theories. :-)
Posted by: nick at Apr 23, 2008 10:01:21 PM
eccdogg: what does oil have to do with inflation? Inflation is purely a monetary phenomenon. Oil price increases can drive up prices all across the economy, but that doesn't make it inflation. You need to read your Friedman and von Mises.
Posted by: Russell Nelson at Apr 24, 2008 3:10:39 AM
lxm, you don't *seriously* believe that free "markets may use [is] war and embargoes," do you? War is only profitable if you can socialize the costs. Why do you think the century of socialism has also been the century of war?
Posted by: Russell Nelson at Apr 24, 2008 3:27:46 AM
"Bad review" is more like it.
September 2008 has shown us that Tyler Cowen, pseudointellectual extraordinaire, had it wrong, and I bet even Mr. Cowen feels pretty glum.
Posted by: John Mellor at Sep 22, 2008 3:02:41 PM
