Trend-Spotting

Continuing to ruminate on Brad DeLong’s post I cited below and this post from Mike Konczal, I have a question to ask. For those who believe that the economic problems we’re facing right now are most accurately characterized by a short-fall in aggregate demand, wouldn’t we need to restore the level of demand that prevailed in 2006 to achieve the employment level we had in 2006?

Shouldn’t we be looking at what aggregate demand would have been absent the two bubbles in rapid succession of the 90s and the Aughts? A baseline, non-bubble economy? I realize that it’s impossibly complex to make that sort of determination but isn’t it safe to say that employment would have been much lower absent those two bubbles?

I think that the aggregate demand story is most compelling when viewed from a short-term perspective but to tell the complete story of what we’re experiencing today you’ve got to look at the structural problems in our economy that have been building over the period of the last 30 years or more. In my view our present problems are not amenable to short-term meat-ax economic engineering solutions like wage and price controls (as Nixon tried forty years ago) or stimulus packages of the sort that the Bush and Obama Administrations both implemented and which have had mixed results (the clearest result being picking winners, e.g. the financial sector, GM employees and losers, the unemployed) and create even bigger problems down the road.

We’re down the road. There are no pleasant, palatable solutions left.

54 comments… add one
  • cfpete Link

    Dr. Schuler,
    What you fail to realize is that structural problems relating to employment growth only existed from 2000 – 2008. Massive Keynesian stimulus (yes, across the board tax cuts is Keynesian stimulus) in the aughts only failed to induce sustainable employment growth due to structural problems in the consonant enclosed in parentheses following the name of the occupant of the Oval Office.
    Now that the consonant has been changed to the correct variable, the attainment of 2007 status quo economic conditions through increased stimulus boosting aggregate demand is the only desirable outcome. Failure to follow this prescription will surely lead to higher infant mortality due to babies becoming homeless crack addicts perishing too young in the resulting gang violence.

    In short:

    You, just questioning our economic brilliance is leading to more homeless drug addicted infants perishing in gang violence.

    Please disregard anything we wrote prior to 2008, amidst our political hackery we might have identified some problems that cannot be solved by merely throwing more money at it.
    We assure you that these problems are no longer relevant because the entire structure of the U.S. economy changed in 2008.

    Also,
    Sorry we have to do this, but you are Stupid.
    I know, I know. You have some valid concerns and criticisms of our economic brilliance, but don’t you realize this is the Internet?
    This is all about controlling the narrative. I would never call you an idiot to your face. I know you are not an idiot; I agree with much of your analysis. It’s just two different venues. Do you think I could possibly instruct a course with my Internet persona? You know me, I am a pussycat in person. You have to learn to not take it personally, or else; you need to get out of the game. Stick to the journals; nobody reads them and the so-called econ journalists don’t understand them.

  • Shouldn’t we be looking at what aggregate demand would have been absent the two bubbles in rapid succession of the 90s and the Aughts? A baseline, non-bubble economy? I realize that it’s impossibly complex to make that sort of determination but isn’t it safe to say that employment would have been much lower absent those two bubbles?

    Interesting, what you are saying is that the aggregate demand argument is suspect because aggregate demand was out of whack due to two economic bubbles…in other words the benchmarks are wrong. We can’t think of returning to unemployment/output levels during the bubbles since are not really sustainable. Or if we work hard enough at it we’ll simply end up in another bubble which isn’t a viable and sustainable solution.

    I was reading a working paper last week that described bubbles as exogenous or endogenous. The exogenous ones are where, for some reason, asset prices exceed their actual value and that the discrepancy widens until a correction occurs (i.e. the bubble bursts). In this case, bubbles are unpredictable–i.e. nobody can spot them coming, you might know when you are in one, but the bursting point is not predictable either.

    The others, endogenous bubbles, are bubbles that are the result of dubious government policies. Such as keeping interest rates too low, a push for the “ownership society” and other policies that work to create a bubble. These are easier to see coming in that people often understand what the consequences are of low interest rates, incentives/subsidies to purchases homes, etc. are.

    I think our last bubble was large self-imposed. I know the popular refrain is that it was the free market, but our financial markets are not “free”. They are constrained by regulations. Yes, those regulations changed, but a bubble could form anytime you change regulations, IMO. Yes, even if you make regulations “stronger” if the change in regulations increase uncertainty. Add on the lower interest rates, the push for greater and greater levels of home ownership, the sloppy oversight of Fannie Mae and Freddie Mac, and you have a recipe for a nice cup “Christ are we screwed!”

    In any event, the benchmark or late 2007 or early 2008 in terms of unemployment and output is probably not the correct one. The last couple of decades of unemployment and output appear to have been the result of an incorrect allocation of resources. Too much housing at the very least. It is going to take awhile to remove that excess demand and restore wealth levels to where they were, if you do it without another bubble.

    I think one of the things the economics profession needs to consider is that perhaps they don’t know as much as they thought they did after the Great Moderation and before the Great Recession. That market forces can be influenced, but try to do too much of something for too long, and the rebound could be very harsh indeed.

  • We can’t think of returning to unemployment/output levels during the bubbles since are not really sustainable. Or if we work hard enough at it we’ll simply end up in another bubble which isn’t a viable and sustainable solution.

    Yes. That’s what I’m saying. Or, even more simply, we aren’t as rich as we thought we were.

    My key question is this: why pick 2007 or 2008 as the benchmark? Why not 2001? Or 1994? Or 1979?

    My suspicion is that the reason to pick 2007 or 2008 is that they already know the answer: if they pick anything else it will come out with less employment because the economy has undergone huge changes over the last 30 years and two bubbles have pumped consumption above what it otherwise would have been.

    Thirty years ago nearly all of my customers were manufacturers. Now all of my clients are in service businesses. Many of them have similar problems (difficult to find anybody worth hiring). Most of them are unlikely to grow much although, oddly, one of my oldest clients (since 1981) that I would have sworn was in its death throes is having a growth spurt. No matter how big it gets it won’t hire anybody. It could be ten times its present size and it could continue to serve its customers.

  • john personna Link

    I think “aggregate demand” is a particularly bad number. We use it because it is convenient, and can be compared with itself, over short periods, but that is all. Back in the early 2000’s the nature of aggregate demand was for particular leveraged goods: homes, home improvements, and automobiles. All things benefiting from a background credit bubble.

    Now, say you could get the money from somewhere (though I’m not sure again goosing consumer credit would be a good thing), what would people buy? Would they just go back to houses and cars?

    I doubt it. I think the “once burned” effect will be a little longer lived.

    (Re. Steve’s argument, I think you can forget all the peculiar theories which do not pass the global test. Our crash is not so different in nature from the Irish crash or the Spanish crash or the Greek crash. Cheap money and indiscriminate loans were a global outgrowth of a emerging markets savings glut.)

  • john personna Link

    I left a bit unstated above.

    That is, that given different labor intensities, a new economy could have the same aggregate demand, but a totally different labor profile.

  • a new economy could have the same aggregate demand, but a totally different labor profile.

    Sadly, that’s a point that seems to be lost on most economists these days. For reasons not entirely clear to me they seem to be thinking in terms of lumps of labor and holding to the view that it’s all freely interchangeable.

    This is a problem I brought up some twenty year ago when the auto companies were doing through a previous round of big layoffs: a lot of the guys being laid off would never be able to get a job that paid so well in the future if they got a new job at all. It takes more than time to train an automobile plant assembly line workers to be a medical technician.

    Unless the plan is to reinflate the bubble and return things to precisely the status quo ante the same will be true in the housing sector. There’s just nothing to retrain these guys for that won’t be obsolete by the time the training is complete.

  • Drew Link

    cfpete – Your dealer must salivate when he sees you coming.

    Dave – “Thirty years ago nearly all of my customers were manufacturers. Now all of my clients are in service businesses.”

    As the resident manufacturing company investor I simply have to weigh in. There are plenty of manufacturing businesses out there worthy of investment and capable of growing. I fully understand the general shift to services. But ‘rumors of the death……’

    “Many of them have similar problems (difficult to find anybody worth hiring).”

    Amen. Our education system sucks. Our work ethic is declining and entitlement expectations increasing. (Sorry about the moral superiority thingy, sammy.)

    jp – “Back in the early 2000’s the nature of aggregate demand was for particular leveraged goods: homes, home improvements, and automobiles. All things benefiting from a background credit bubble.”

    Longer than that, my man. But I understand your political biases and need to singularly identify the “aughts.” But I wonder, in a relatively recent interchange I attempted to show you that borrowing has goosed GDP and corrupted the tax burden calculation (tax to GDP vs tax to personal income). You were having none of it in a tax debate scenario. Now, you are the poster boy for EZ credit driven false aggregate demand, or GDP, when its convenient.

    Heh. You “independant,” you.

  • Drew Link

    “a lot of the guys being laid off would never be able to get a job that paid so well in the future if they got a new job at all. It takes more than time to train an automobile plant assembly line workers to be a medical technician.”

    The concept of inevitable and accelerating change was the key element of Alvin Tofler’s “Future Shock” which I read as a teenager. It has formed my worldview and personal actions ever since. I don’t mean to imply that everyone can go from steel mill to private equity. But a crappy education system, and putting people on the dole – not to mention making business and the successful your cash cow and political enemy – isn’t the answer either.

  • sam Link

    @Delong
    “It is a fact that if congress simply goes home–doesn’t do anything for the next 10 years except keep the federal government on autopilot, or if it does do things if it pays for whatever increases in spending it enacts by raising taxes and pays for whatever tax cuts it enacts by cutting spending–that we do not have a long run deficit problem.”

    Reminds me of something I once read about a test pilot. He’d put the experimental plane through its paces, and in the course, it went out of control into a flat spin. He radioed to the ground crew, “Well, I’ve done A and it didn’t work. I’ve done B and it didn’t work. I’ve done C and it didn’t work. Now I’m gonna try the Jesus Maneuver. I’m gonna take my hands off the controls, and put the whole thing in the hands of a higher power.” The plane recovered and he got down safely.

    Maybe we ought to try some economic version of the Jesus Maneuver. (If we’d have the guts to, that is.)

  • john personna Link

    Drew, I think based on Case-Shiller numbers putting 2000 as a tag for the current boom is pretty fair. How far could you move it? To 1997?

  • john personna Link

    On our past disagreement, I forget the details. I do think that one of our central agreements is on the folly of borrowing and the danger of a debtor society. We just have disagreements about the shape of that.

    That and the CRA bogey man ;-0

  • JP,

    Re. Steve’s argument, I think you can forget all the peculiar theories which do not pass the global test. Our crash is not so different in nature from the Irish crash or the Spanish crash or the Greek crash. Cheap money and indiscriminate loans were a global outgrowth of a emerging markets savings glut.

    I never said it was different, although I don’t think they are exactly the same either. All the world’s economies are connected so what happens in one will impact the others.

    Take for example the Greek situation, I think they got into the problem are currently in due to having a shared currency vs. their own currency. If a country borrows a lot…too much, it can show up in the exchange rate and also their inflation rate. But Greece has the Euro so now what Greece does only has a partial impact on the Euro…the negative effects are muted. This could allow Greece to borrow far more than it could if it had its own currency. In other words, there is something of an external effect at work.

    Dave,

    Sadly, that’s a point that seems to be lost on most economists these days. For reasons not entirely clear to me they seem to be thinking in terms of lumps of labor and holding to the view that it’s all freely interchangeable.

    Aggregate demand is quite problematic. Even in micro economics is presents some very difficult challenges, and in macro they take it another level and aggregate all goods into one composite good. If you go with Varian’s take aggregate demand has no interesting properties.

    sam,

    Maybe we ought to try some economic version of the Jesus Maneuver. (If we’d have the guts to, that is.)

    Are you really advocating a “hands off” approach to the economy? I think the resulting fall out would be incredibly expensive.

  • Drew, I think based on Case-Shiller numbers putting 2000 as a tag for the current boom is pretty fair. How far could you move it? To 1997?

    Recall, that Dave said we had two bubbles, not one.

  • Drew Link

    “Drew, I think based on Case-Shiller numbers putting 2000 as a tag for the current boom is pretty fair. How far could you move it? To 1997?”

    If you fish around you can get a sufficiently granular (quarterly) rendition of the index. Q3 2006 it takes off and doesn’t look back; its quite distinct. Now one could say that normal volatility could be at work, and Q3 2006 was just a normal up blip. But it kept going, and not a chance in hell you can push it beyond early 1997. One rational explanation I’ve heard is that it was evident Clinton would sign into law the housing cap gains exemption. Enter the speculators…..

    When I worked in the steel mill one of my tasks was “failure analysis;” why did this piece of equipment break? (In fact, my entire Masters was involved in the science of “fracture mechanics,” the materials science of why engineering materials fail.) It was great training in that I heard every cock and bull theory under the sun for the causes of trouble – much of it CYA, and learned to train my mind to look for root causes, not near-failure time, and generally exculpatory, events. If a boiler blows up, do we ask about the blow up, or when the pressure began to build, and why? I view housing in the same vein. What was going on in the 1996-1997 time frame? But I understand the need to blame Bush/deregulation/greedy bankers for everything. Political necessity and blinders, you know.

  • sam Link

    “Are you really advocating a “hands off” approach to the economy? I think the resulting fall out would be incredibly expensive.”

    Hell, I don’t know. I read a lot of political-economic commentary, and to me it looks to be all over the map as to “what’s wrong”, “how we went wrong”, and “what we should do”. And from people who are considered to be in the know about these things. Sometimes I just fall into the “Ah, fuck it” mode.

  • Drew Link

    “On our past disagreement, I forget the details.”

    Yes you do – oh, so conveniently. My point was that a tax to GDP ratio, when GDP is goosed by borrowing is a faulty measure. I used the analogy that if you went out and bought a home, car and fridge on credit your “personal GDP” would go up, and measures of your income or tax to “GDP” would go down. This is what the country has done, borrowed to create GDP, and hence the professor’s tax to GDP “at an all time low” is a canard. I have in my grimey little hands a graph of taxes as a percent of personal income – its just BEA data; easy for you to verify if so motivated. 1940: 5% 1950: 10% 1965: 15% 2000: 23% and today: 19%.

    And what this professor did was look at the decline of the last few years (as did commenter Andy) and declare the “lowest tax rate since 1950.” Doug Mataconis published a piece on it. Your last comment to me was a definitive: “and Drew, taxes are at an all time low.”

    Bullshit.

  • sam Link

    “its just BEA data; easy for you to verify if so motivated. 1940: 5% 1950: 10% 1965: 15% 2000: 23% and today: 19%.”

    You will note, I hope, that we’ve fought a few wars in there. Just sayin’.

  • Drew Link

    “Recall, that Dave said we had two bubbles, not one.”

    In my opinion, he’s correct. Dot com, and a housing bubble started in 1997, combined to create the illusory late 90’s “Clinton Economic Miracle.” Unfortunately for Al Gore, Dot com busted in 1999 – 2000. Housing made the recession relatively light, and then the proverbial shixt hit the fan when housing busted in 05/06.

    Today, we need a pro-growth, pro-GDP policy mix. What we have is a pro-union, big government, high tax, anti-business/successful (unless you are an Obama contributor) policy driven by an ideological manchild in the White House.

    All we need now is for Reynolds to come along and give the obligatory “Drew is a racist” comment.

  • But it kept going, and not a chance in hell you can push it beyond early 1997.

    Back to the title of the post. It’s darned hard to figure out when a trend starts, even when it’s something as enormous as the housing bubble. Compound interest. Rising at a couple of percent a year doesn’t look like much when it begins but fifteen or twenty years, whowza!

    Drew has presented one possible explanation. I’d like to suggest another. They could both be contributing factors.

  • Drew Link

    “Just sayin’.”

    No, you’re sayin’ nothin’. Yer just whackin’ yer weenie. If you have even some miniscule shread of useful analysis to share, please do.

  • Today, we need a pro-growth, pro-GDP policy mix. What we have is a pro-union, big government, high tax, anti-business/successful

    The other thing I wonder about is how much deadweight loss the economy can stand. We’re already supporting quite a cluster of large industries: aerospace, military hardware, healthcare, education, banking, home construction, automobile manufacturing, ethanol production, the list is practically endless.

    The rest of the economy is supposed to pull that train?

  • Drew Link

    Dave –

    The graph (at least on my screen) isn’t in color. But I’m speculating that its foreign holding of debt that took off, with the attendant tamping down of interest rates. Although I don’t know that Treasuries and mortgage rates have moved in lock step.

    But its interesting.

  • john personna Link

    I’m hearing a lot of diffuse complaints, but not really a unified answer better than global savings glut and global credit bubble. I mean, the Spanish cycle is a lot like the California cycle, with the newly rich and the newly credit-approved competing aggressively for limited homes. That created a bubble that was apparent to many. Shiller certainly called it in the 2006 edition of Irrational Exuberance. Warnings from him, and a few others, just didn’t reach mainstream credibility. Perhaps it’s more accurate to say that they couldn’t compete with the entire value network selling homes and cars at credit, and the resulting low-value bonds.

    Re. Drew and taxes, I think there are too many other measures supporting the low-tax position. You can’t just wave away one datum and call it a day. Quoting from our other favorite site:

    For the past two years, a family of four earning the median income has paid less in federal income taxes than at any time since at least 1955, according to the Tax Policy Center. All federal, state and local taxes combined are a lower percentage of per-capita income than at any time since the 1960s, according to the Tax Foundation. The highest income-tax bracket is its lowest since 1992. At 35 percent, it’s well below the 50 percent mark of much of the 1980s and the 70 percent bracket of the 1970s.

    So basically, I might worry more about the debt component in GDP when measuring tax levels, if that was the only measurement in play.

    I am dismissive for that reason.

  • john personna Link

    (Capital gains are definitely lower than I paid in my (dot-com) bubble.)

  • sam Link

    “No, you’re sayin’ nothin’. Yer just whackin’ yer weenie. If you have even some miniscule shread of useful analysis to share, please do.”

    What could I add to the depth of your insight?

  • Drew Link

    “The other thing I wonder about is how much deadweight loss the economy can stand. We’re already supporting quite a cluster of large industries: aerospace, military hardware, healthcare, education, banking, home construction, automobile manufacturing, ethanol production, the list is practically endless.

    The rest of the economy is supposed to pull that train?”

    In a recent post you made, I quipped “Dave Schuler for President.”

    You and I have differences, but the commonality here between a Democrat and a Republican is striking. What is the overwhelming commonality, at least in my opinion? Government has become an agent of gifts for votes. Thats why I’m for smaller government. Government has a role: defense, infrastructure, some level of regulation………but its become the mother of all transfer payment/create a voting constituency enterprises. That’s an awful and perverse situation, and why I have zero faith in our current President. He lives for these situations.

  • Drew Link

    “What could I add to the depth of your insight?”

    Thank you for your non, and inane, response. By the way, did I tell you I’m rich?

  • Drew Link

    C’mon, jp. You can do better than that. The tax burden has become increasingly more progressive, that means me, perhaps you, so median stats are a red herring, and actually make my fundamental point: the high income golden geese are getting tapped out.

  • john personna Link

    So the datum was:

    For the past two years, a family of four earning the median income has paid less in federal income taxes than at any time since at least 1955, according to the Tax Policy Center.

    You are saying Drew that this is because the burden has been shifted, and the wealthier are taking up the slack? I don’t know, combined with that GDP ratio, it looks like not. And of course:

    The highest income-tax bracket is its lowest since 1992. At 35 percent, it’s well below the 50 percent mark of much of the 1980s and the 70 percent bracket of the 1970s.

    So, if “taxes are not high” then who is paying them?

  • john personna Link

    I don’t know, some of you here are coming across as more self-referential than convincing.

  • john personna Link

    I was looking for a recent article, compiling evidence that bubble are actually spotted, but that people invest in them anyway. They think they’ll last “long enough” or that they can “get out in time.”

    I didn’t find that one, but I did find an interesting piece that relates at the Psy-Fi blog. It’s about the economics-psychology split, and ends:

    An economics that tells us what to do when times are good but abandons us in times of trouble is about as useful as a concrete lifebelt. It’s time to exit the Walrasian legacy, abandon equilibrium and start again, from somewhere more useful.

  • john personna Link

    oops, forgot the link

  • Drew,

    I’ve pointed out a few times now that effective tax rates are low right now, close to the lowest they’ve ever been. Part of that is because of the economy, but part of that is due to the various tax reduction measures.

    The reason why the tax system is so much more progressive now is because tax reductions have pushed so many to pay hardly any tax at all while the reductions for the rich haven’t been as great. It’s also because the rich have a larger share of income than they used to. So while it is completely true that the rich are paying a historically high share of federal revenues, the reason is not because their taxes have gone up over the years.

    So, if you want to keep asserting that the the “golden geese” are getting tapped out, then let’s see the data. If you look at this or at this it doesn’t appear to me that the golden geese are currently suffering from historically high taxes but I’m certainly willing to consider alternative views provided you can provide some evidence.

    And to me the reality is that taxes are going to have to go up. I don’t think there is any realistic way to get around it. If you want to argue that the golden geese should be exempt from such increases due to their unique ability to create jobs or whatever your argument is, then you should at least realize that is a political non-starter.

  • I’m hearing a lot of diffuse complaints, but not really a unified answer better than global savings glut and global credit bubble. I mean, the Spanish cycle is a lot like the California cycle, with the newly rich and the newly credit-approved competing aggressively for limited homes. That created a bubble that was apparent to many.

    If it was apparent to “many” how come it went on for so long? Bubbles are aberrant market behavior and predicting them is tricky at best. I would argue that most of the time people don’t have a clue if there is a bubble or not. That sometimes people think “bubble” when in fact the price is legitimately going up, and other times think, “no bubble” when in fact the price is not legitimately going up.

  • sam Link

    “I would argue that most of the time people don’t have a clue if there is a bubble or not.”

    I’ve always thought that was one of the hallmarks of a bubble: folks in it don’t know they’re in it and think whatever’s pumping up the bubble will go on up forever, be it the price of tulip bulbs or houses.

  • I’ve always thought that was one of the hallmarks of a bubble: folks in it don’t know they’re in it and think whatever’s pumping up the bubble will go on up forever, be it the price of tulip bulbs or houses.

    Exactly, like the “New Economy” during the tech bubble. It was a justification for the rising prices, but it was more of a justification than a real explanation.

    Regarding the housing bubble I think people thought they had come up with clever ways to mitigate risk. CDOs, credit default swaps, etc. Add on low interest rates and sloppy mortgage practices and you have the potential for a serious problem. Of course, I’m saying this all with 20/20 hindsight. Didn’t have a freaking clue when it was actually happening.

  • sam Link

    BTW, speaking of credit default swaps, did you catch “Too Big to Fail” on HBO last night?

  • john personna Link

    If it was apparent to “many” how come it went on for so long?

    That is actually the interesting question, and the answer is one people don’t really want to hear. It is “not everything happens on a convenient human timescale.”

    That is something I’ve noticed in markets before. You know, people will give investment advice based on the past 100 years of market data, ignoring that any particular 10 or 20 years can be far off mean. Why do they do that? Because the 10 or 20 year variation just isn’t convenient. It isn’t how your brains want to work.

    I was reading some musings on the nature of time, and understanding of time in “Seeing Further” a book celebrating the 350th anniversary of the Royal Society. Basically, if you believe the evolutionary psychology, our concept of time is one that had survival benefits on the savanna.

    I knew this was a California housing bubble. I had known for 10 years. But … knowing wasn’t super convenient to me, on a useful timescale.

    (Though I did moderate my RE exposure on that basis.)

  • john personna Link

    BTW, we know this is a gold bubble, right? At least I’ve got the guts to say it (and the reserve to stay out of gold at this time.)

  • john personna Link

    BTW2, it is kind of an economic orthodoxy to say “I see no bubbles,” right?

    … leaving those with a little more psychology in their worldview to see and avoid them.

  • BTW, we know this is a gold bubble, right?

    It might be. It also might be a flight to value, particularly for purchasers in India and China.

  • BTW, we know this is a gold bubble, right?

    No. Now we don’t know. That is the point, when a bubble starts you don’t usually know you are in one until afterwards. Is it a bubble or is it a flight to value, or is it some other factor we don’t know about, but people buying gold do know about. I admit I haven’t been watching precious metals at all so I can’t say one way or the other.

    That is something I’ve noticed in markets before. You know, people will give investment advice based on the past 100 years of market data, ignoring that any particular 10 or 20 years can be far off mean. Why do they do that? Because the 10 or 20 year variation just isn’t convenient. It isn’t how your brains want to work.

    Funny, I’d say it is precisely the opposite. People don’t look back over 100 years and analyze the data carefully. They look back over at most a couple of years–i.e. they give more recent data a weight of 1 and older data a weight of 0 in terms of informational content and value. That is is a fairly well documented bias, that we pay too much attention to what has recently happened vs. considering the entire information set.

    I was reading some musings on the nature of time, and understanding of time in “Seeing Further” a book celebrating the 350th anniversary of the Royal Society. Basically, if you believe the evolutionary psychology, our concept of time is one that had survival benefits on the savanna.

    I agree, but on the savanna you don’t have the where-with-all to go through 15 or 20 years of history/data when trying to figure our if that pattern you see in the tall grass is a sabre toothed cat or not. You have to make a quick decision to run or stay and eat the food. So humans are very good at spotting patterns (even patterns that aren’t there–i.e. the data is indeed truly random it just looks like it isn’t) and we don’t try to evaluate incoming data against our full information set (it would probably take too long, and the ones doing that got eaten).

    It isn’t a bad rule of thumb on the savanna, but probably not a good rule when you are trying to figure out a long term investment strategy. This is why most people can’t do conditional probabilities and forget Bayes theorem, although if you are going to be rational you should know about both and know when and how to apply them at an intuitive level at least (i.e. you may not be able to derive Bayes theorem, but you understand it intuitively when figuring out probabilities for various events), at least in theory.

    BTW2, it is kind of an economic orthodoxy to say “I see no bubbles,” right?

    No, its more of an orthodoxy to say, “We can’t tell until afterwards.” Unless you are in the rational bubble school of thought, but that one strikes me as rather dubious. There is near rational bubble school of thought that says something to the effect of, “we might be in a bubble and based on my analysis I think the price will peak at….” I’d say the first school, “we’ll know it after the fact”, is probably the dominant school of thought right now.

    You’d know this if you read the literature, even in a cursory manner.

    … leaving those with a little more psychology in their worldview to see and avoid them.

    Nobody has avoided bubbles. You may not go out and jump on the band wagon explicitly (buying whatever the bubble items is) but you certainly are impacted one way or another.

  • john personna Link

    Steve, you have an old-school economic worldview that is just going down. It doesn’t fit our world. Of course, the self-deception and BS may hold on another generation, until the old-line folk die off.

    All I need to do is cite Shiller. He is a gen-u-wine economics, and he did call the housing bubble beforehand. In print. And he was right.

    Nobody has avoided bubbles. You may not go out and jump on the band wagon explicitly (buying whatever the bubble items is) but you certainly are impacted one way or another.

    Groan.

  • john personna Link

    BTW,

    , “we might be in a bubble and based on my analysis I think the price will peak at….”

    Old-line folk often push a fallacy. They say “if you think this is a bubble, you must tell me the top.”

    BS. Bubble spotting can be real, and within human ability, even if top-picking is not. Imagine an auto mechanic who says “these brakes are bad” and mr. idiot economist says “well, if you think that, you must be able to tell me exactly when they’ll fail!” “I’m going to keep driving!”

  • Drew Link

    jp –

    There are always people who make the right call, and those who don’t. We only know afterwards.

    I once knew a commodity salesman whose strategy was this:

    Call twenty people – tell 10 gold is going up, ten its going down.

    If it went up, call those ten and tell 5 its going up and 5 its going down. If it went down……..call them….

    You get the point, then he’d ask for the order from those who he gave the “right” advice to.

  • john personna Link

    I understand that Drew, the point I try to make is that it’s easier to spot billboards than to read tea leaves. Day traders etc try to read tea leaves. Economists and other formalists will maintain that billboards and tea leaves are the same.

    This requires the unrealistic belief that all answers carry equally low certainties.

  • john personna Link

    Oh, their belief that billboards and tea leaves are the same is also tied to their normal distribution value network.

    If you want to lean toward normal distributions you must also accept bundled notions, truly random walks, etc

  • All I need to do is cite Shiller. He is a gen-u-wine economics, and he did call the housing bubble beforehand. In print. And he was right.

    LOL.

    You are so stupid.

    Old-line folk often push a fallacy. They say “if you think this is a bubble, you must tell me the top.”

    I take it back, you aren’t stoopid, more like a window licker on the short bus.

    You do realize this is not something I’m endorsing or stating as my beliefs. I’m describing the intuition behind the “near rational” bubble school of thought.

  • john personna Link

    That’s what so fun Steve. You step up to represent and then have to flail with, well it’s sad isn’t it? You actually flail with elementary school insults, while talking about short buses.

    A little more self-awareness and you might be dangerous.

  • john personna Link

    In future, don’t use crap like this, unless you are joining the argument you are describing:

    “You’d know this if you read the literature, even in a cursory manner.”

    Not to mention the “Nobody has avoided bubbles” groaner.

    Seriously dude, if you want to describe and distance yourself from an academic argument then (a) don’t forger the distance part, and (b) don’t insult like everyone should buy in to said academic argument.

  • John,

    I know you think you understand Shiller, but you don’t.

    Go ahead and quote him, but I’ll point you to Vernon L. Smith et. al.,

    Spot asset trading is studied in an environment in which all investors receive the same dividend from a known probability distribution at the end of each T – 15 (30) trading periods. Fourteen of the twenty-two experiments exhibit price bubbles followed by crashes relative to the intrinsic dividend value.

    What that says is that even in a market where people know all the relevant information to determine the value of an asset bubbles still appear. Uncertainty has been removed and yet traders still manage to pursue strategies that result in bubbles.

    I know it is fashionable these days to pretend that it is just irrational behavior or animal spirits or whatever, but even in situations where you have sophisticated investors, and uncertainty is removed bubbles still happen. It suggests that there is something else at work than simply saying people are not behaving rationally.

    BTW the Smith quote comes from a paper in 1988. So this idea that economists say bubbles can’t happen that you’ve stupidly put forth is just that stupid. Economists know they can, that they can appear even in situations where one would normally think they’d be very unlikely. Yes, they use students, and managers, and even professional traders in some of these experiments and the results are fairly robust. Actual experience reduces the probability of a bubble, but does not eliminate it.

    In other experimental models bubbles are observed where speculation is not even possible. So it isn’t the lack of common knowledge or rationality and the consequent speculation.

    And last but not least Case and Shiller themselves in 2004. They try to answer the question of is there a bubble in housing? The answer was….no up to 2000. In all but 8 states incomes were sufficient to explain housing price patterns. In the remaining 8 states they felt that other fundamentals covered the pattern in housing prices. From 2000 – 2002 they could not reject the hypothesis of there not being a bubble–i.e. even in 2004, the middle of the bubble, two guys who have better data than just about anyone else largely missed the bubble. To be fair, they did note that in some cities the evidence of a speculative bubble was fairly strong.

    link

    Shiller at best can say, “we can’t tell we are in a bubble until we are well into the bubble and it is too late.”

    Pointing to a possible bubble in some places in 2004, and sounding the alarm in 2005 is not calling the bubble (that bursts/peaks in 2006) beforehand.

  • john personna Link

    Actually I’ve read Mandelbrot on markets, as well as Shiller.

    Now, I think Benoit showed pretty well that markets do not move in normal distributions. They have what later came to be called long tails.

    When you quote:

    Spot asset trading is studied in an environment in which all investors receive the same dividend from a known probability distribution at the end of each T – 15 (30) trading periods.

    How is that consistent with non-normal markets? I mean, you can’t make a normal result from a non-normal one, can you?

    I believe this one was Nassim Taleb’s attempt to formalize his non-normal ideas:

    International Journal of Forecasting, 2009 — Decision Making under Low Levels of Predictability – Articles by Makridakis, Gigererenzer, Taleb, Goldstein, etc.

    (So I can’t quite move on from that early point, which seems to want me to accept a “simplification” to normal distributions.)

  • john personna Link

    (Note that non-normal markets are one of the important observations, the other of course being that people do make more and less confident predictions all the time. Momentum Trading is usually given as the prime example of both. And, for a low-period example of that, I think all of us here would place $5 on lower house prices next month than on higher. In a normal-distribution world, we’d have no way of knowing. A reverse would be equally likely as a continuation, but we don’t live in a normal-distribution world.)

  • john personna Link

    BTW, the supreme irony is that as much as you like to recall LTCM, you want to forget that a faith in normal distributions brought them down.

    If in fact:

    Spot asset trading is studied in an environment in which all investors receive the same dividend from a known probability distribution at the end of each T – 15 (30) trading periods.

    then they never would have blown up!

    Long Term Capital Management – When Being Smart Isn’t Enough

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