Is the Fed blowing new bubbles?

The Federal Reserve is beginning a new round of quantitative easing, printing money to buy intermediate- and long-term bonds, thus increasing the money supply and lowering intermediate- and long-term interest rates.

This is different from what the Fed normally does to stimulate the economy. Normally it prints money to buy short-term bonds. But, since short-term interest rates are already near zero, the Fed has to take the riskier action of buying longer-term bonds if it wants to stimulate the economy.

Harvard economics professor Martin Feldstein, President Emeritus of the National Bureau of Economic Research, warns that this is dangerous and may blow new bubbles:

The Federal Reserve’s proposed policy of quantitative easing is a dangerous gamble with only a small potential upside benefit and substantial risks of creating asset bubbles that could destabilise the global economy. Although the US economy is weak and the outlook uncertain, QE is not the right remedy.

Under the label of QE, the Fed will buy long-term government bonds, perhaps one trillion dollars or more, adding an equal amount of cash to the economy and to banks’ excess reserves. Expectation of this has lowered long-term interest rates, depressed the dollar’s international value, bid up the price of commodities and farm land and raised share prices.

Like all bubbles, these exaggerated increases can rapidly reverse when interest rates return to normal levels. The greatest danger will then be to leveraged investors, including individuals who bought these assets with borrowed money and banks that hold long-term securities. These risks should be clear after the recent crisis driven by the bursting of asset price bubbles. Although the specific asset prices that are now rising are different from last time, the possibility of damaging declines when bubbles burst is worryingly similar. ...

The truth is there is little more that the Fed can do to raise economic activity. What is required is action by the president and Congress...

It sounds to me like Feldstein is saying The Onion was right.

As for other notable economists' thoughts on the Fed's actions, John Taylor is opposed and Paul Krugman is ambivalent.

Now is the best time for national capital investment

Right now is the best time in decades for the government to engage in long-term capital investment. Investments in education, transportation, communication, and research & development would strengthen the economy in both the short run and the long run. Furthermore, the government's cost of borrowing is the cheapest in my lifetime.

Richard Voith argues the point in The Washington Post.

Job market: Mixed results for September 2010

The unemployment rate, at 9.6%, remained unchanged in September. Although it is below its late 2009 peak, it has spent almost all of 2010 (except April) in a range of 9.5-9.7%.


Payrolls continued to get worse in September. Ironically, businesses are actually increasing workers. It is governments that are losing workers. John Maynard Keynes must be rolling over in his grave.


On the bright side, aggregate weekly hours worked is increasing. This suggests that underemployment is declining.


Also on the bright side, the mean duration of unemployment has continued to decline after reaching its all-time peak in June 2010.

Should the mosque be built near the World Trade Center site? Yes.

CNN's Fareed Zakaria makes the case:

Ever since 9/11, liberals and conservatives have agreed that the lasting solution to the problem of Islamic terror is to prevail in the battle of ideas and to discredit radical Islam, the ideology that motivates young men to kill and be killed. Victory in the war on terror will be won when a moderate, mainstream version of Islam—one that is compatible with modernity—fully triumphs over the world view of Osama bin Laden. ...

The debate over whether an Islamic center should be built a few blocks from the World Trade Center has ignored a fundamental point. If there is going to be a reformist movement in Islam, it is going to emerge from places like the proposed institute. We should be encouraging groups like the one behind this project, not demonizing them. Were this mosque being built in a foreign city, chances are that the U.S. government would be funding it.

The man spearheading the center, Imam Feisal Abdul Rauf, is a moderate Muslim clergyman. He has said one or two things about American foreign policy that strike me as overly critical —but it’s stuff you could read on The Huffington Post any day. On Islam, his main subject, Rauf’s views are clear: he routinely denounces all terrorism—as he did again last week, publicly. He speaks of the need for Muslims to live peacefully with all other religions. He emphasizes the commonalities among all faiths. He advocates equal rights for women, and argues against laws that in any way punish non-Muslims. His last book, What’s Right With Islam Is What’s Right With America, argues that the United States is actually the ideal Islamic society because it encourages diversity and promotes freedom for individuals and for all religions. His vision of Islam is bin Laden’s nightmare.

Rauf often makes his arguments using interpretations of the Quran and other texts. Now, I am not a religious person, and this method strikes me as convoluted and Jesuitical. But for the vast majority of believing Muslims, only an argument that is compatible with their faith is going to sway them.

FBI bullies Wikipedia

From CNN:

The U.S. Federal Bureau of Investigation has threatened Wikipedia with legal action if the online encyclopedia doesn't remove the FBI's seal from its site.

The seal is featured in an encyclopedia entry about the FBI.

Wikipedia isn't backing down, however. The online encyclopedia — which is run by a nonprofit group and is edited by the public — sent a chiding letter to the FBI, explaining why, in its view, the FBI is off its legal rocker.

"In short, then, we are compelled as a matter of law and principle to deny your demand for removal of the FBI Seal from Wikipedia and Wikimedia Commons," the Wikimedia Foundation's general counsel, Mike Godwin, wrote in a letter to the FBI, which was posted online by the New York Times. ...

In a letter dated July 22, and also posted online by the Times, the FBI told Wikipedia it must remove the bureau's seal because the FBI had not approved use of the image.

How companies track you online

Paul Krugman was dead wrong

On Friday, Paul Krugman wrote:

I wish I could believe in this Macroeconomic Advisers claim that there is a zero chance of a double-dip recession. But when they say that this probability

is estimated as a function of the term slope of interest rates, stock prices, payroll employment, personal income, and industrial production

I immediately lose all confidence.

When short-term interest rates are up against the zero lower bound, a positive term spread tells you nothing; as I explained a year and half ago, it’s something that has to happen given the fact that short rates can go up, but not down.

Failure to understand this point led to excess optimism in late 2008. I’m a bit surprised to see Macroeconomic Advisers falling into the same fallacy now.

In the second to last paragraph, he is referring to a previous blog post of his from December 27, 2008, in which he wrote:

I see that economists at the Cleveland Fed are taking some comfort from the positive slope of the yield curve. Long-term interest rates are higher than short-term rates, which is usually a sign that the economy will expand.

Not this time, I’m afraid. It’s all about the zero lower bound.

The reason for the historical relationship between the slope of the yield curve and the economy’s performance is that the long-term rate is, in effect, a prediction of future short-term rates. If investors expect the economy to contract, they also expect the Fed to cut rates, which tends to make the yield curve negatively sloped. If they expect the economy to expand, they expect the Fed to raise rates, making the yield curve positively sloped.

But here’s the thing: the Fed can’t cut rates from here, because they’re already zero. It can, however, raise rates. So the long-term rate has to be above the short-term rate, because under current conditions it’s like an option price: short rates might move up, but they can’t go down. ...

So sad to say, the yield curve doesn’t offer any comfort. It’s only telling us what we already know: that conventional monetary policy has literally hit bottom.

Paul Krugman may have been right in theory, but he was completely wrong in fact. As Frederic Mishkin has pointed out, the yield curve forecasts economic expansion or contraction roughly four quarters advance. Four quarters after Paul Krugman gave his "Not this time, I’m afraid" argument above, Real Gross Domestic Product showed economic expansion as shown here:

So, Paul Krugman was dead wrong. The economy returned to expansion exactly as the yield curve predicted. Furthermore, the yield curve is significantly steeper now than it was in December 2008. That means year-ahead prospects are even brighter now than they were then.

Paul Krugman is a natural economic pessimist. He's such a pessimist that when the economic data shows economic expansion, he tries to confuse his readers by implying that it doesn't.

No matter how Paul Krugman tries to spin it, the yield curve in December 2008 predicted mild economic expansion, and mild economic expansion is what we got. The yield curve is much steeper today.

Economy continues to slowly improve

The economy continues to slowly improve, but today's payroll numbers were not as good as expected:

A flood of temporary Census workers in May led to the biggest jump in jobs in ten years, the government reported Friday.

Employers added 431,000 jobs in the month, up from 290,000 jobs added in April. It was the biggest gain in jobs since March 2000.

But Census hiring was responsible for 411,000 of May's increase in employment. Private sector employers also added 41,000 jobs in the period, well below the 218,000 private sector job gains in April. Government payrolls other than Census declined by 21,000 jobs in May, due largely to job cuts by state and local governments.

It was a disappointing number for private sector hiring, as economists surveyed by Briefing.com had forecast an overall gain of 500,000 in May. U.S. stocks traded sharply lower on the report, with the Dow Jones industrial average down more than 200 points in midday trading. ...

Despite the spike in hiring, the unemployment rate declined only modestly, to 9.7% from 9.9% in April. Economists had forecast it would decline to 9.8%.

Here is the year-over-year percentage change in payrolls:

Here is the year-over-year percentage change in aggregate weekly hours worked:

Here is the year-over-year percentage change in initial jobless claims:

Here is the official unemployment rate:

Individual liberty vs. states' rights

The ideal relationship between personal freedom and states' rights in a nutshell:

For those who believe in limited government, state’s rights is a fundamental mechanism of keeping power decentralized. But even constitutionalists should recognize that our Founding Fathers never intended for state sovereignty to triumph individual sovereignty.

In short, personal freedom should always take precedence over states' rights, but states' rights play an important role in preventing the concentration of power.

How to increase innovation and economic growth

The Economist highlights advice from the Organisation for Economic Co-operation and Development (OECD) on how to promote technological innovation, which in turn increases productivity and thus economic growth:

Many governments are facing not only slow economic growth but also big deficits and heavy debts. ... Innovation, the OECD argues, offers a way out. It is already the chief engine of productivity in the rich world, and thus holds out the tantalising prospect of sustaining economic growth on the cheap. ...

But what is the best way for governments to boost innovation? Sensibly if predictably, the OECD urges investment in education, research and “knowledge-supporting infrastructure” (such as broadband internet networks and smart electricity grids). Skimping on this while money is tight, says the agency, will cause growth to suffer in the long term.

The agency also offers several more novel prescriptions. It suggests that governments should not merely encourage the supply of innovation (for example, by funding research) but also try to stimulate demand. Economies, after all, benefit not from the invention of new products or services, but from their diffusion. In countries that are good at commercialising new ideas, such as America and Norway, even newly founded firms coin valuable intellectual property.

If governments want to see a blossoming of clean technology, therefore, they should use taxes to put a price on environmental externalities (such as carbon) rather than coddle pet technologies. ... The report recommends opening domestic research programmes to foreign firms, to take advantage of bright ideas from abroad.

The OECD encourages governments to rethink their policies in the light of globalisation and the information economy. It notes that “intangibles” such as knowledge networks and open business models now make up much of the value of firms in rich countries and that many companies produce profitable innovations with little or no research in-house.