Two millenia of growth in a couple of equations

Many scientists dream of finding a unified theory of something, a theory that would encompass others and explain, with a few equations, a large number of observations. Physicists in particular have been looking for fundamental equations. In economics, there is currently a drive among growth theorists to find a unified growth theory, although here the focus is not on a single equation, but rather a model. Indeed, one has to realize that explaining several thousand years of economic growth involves some complexity.

And now the physicists get interested in the topic. Andrey Korotayev and Artemy Malkov actually go beyond a simple one equation model and use some theory, linking surplus output to population growth à la Malthus. Up to 1970, population is hyperbolic, while GDP is quadratic-hyperbolic (in both cases levels, and not growth as the authors assert). They conclude from this that technological progress is expanding because of the larger number of inventors as population grows. That seems a bit simplistic, as one should also bear in mind that there are decreasing returns to inventing, as documented by rather constant long-run growth rates for total factor productivity in modern history despite an increasing share of a growing population dedicated to research and development. But one can get misled when one looks only at few indicators.

The origin of de-unionization in the United States

For better or worse, union are particularly weak in the United States. This was not always so. Why unions declined is not limited to Reaganism which merely accelerated a trend already present in the data. The difficulty is to explain this trend which is for example only present in some other countries and nowhere as pronounced.

Emin Dinlersoz and Jeremy Greenwood explore whether this has to do with the distribution of income, at least in the US. Indeed, over the past century and a half, union membership rates followed an inverted U-shape, while the income share of the top 10% did the opposite. Greenwood and Dinlersoz think that both can be explained by the evolution of skill-biased technical change: basically, while the assembly-line was the main means of production, unskilled labor garnered a higher higher income share and unions were strong, but both decline since as information technology became important. Nice story, but I wonder whether it can apply to more observations (i.e., countries). Also, I wonder whether the timing of events works out. Indeed, the ratio of of unskilled to skilled workers went into a tailspin starting in 1945, while union membership started decreasing only in 1955 and the income distribution started getting more skewed in the 1980's.

Why we need small countries: they experiment with policies

Small countries are often considered a nuisance. They are sometimes tax havens that annoy larger countries because it increases tax competition. They have more weight than their size in international organizations (UN, European Commission, ECB) or sports organizations (FIFA), which at least in the latter case encourages corruption. And they increase sample sizes in cross-country regressions without truly adding information, sometimes leading to erroneous results. But small countries are also great because it allows to experiment with policies.

That is the argument of Jeffrey Frankel. He gives plenty of examples of innovative policies adopted in small countries that turned out to be good choices. In many cases, it looks like larger countries would also benefit from adopting them, that is, smallness is not a necessary condition for success. A good read with a boatload of interesting anecdotes to bring up in conversation.

Looking at the transition from Malthus to industrialization in Germany using real wages

A standard model with a production function concave in labor will tell you that the marginal productivity of labor, and hence the real wage, decreases as labor increases. This the core relationship in the Malthusian model and has been the reason brought forward why some have observed that England enjoyed relative prosperity after the many deaths due to the Great Plague (and why some think the same will happen to Africa due to the AIDS epidemic). Of course, empirical evidence is somewhat thin for such old times.

Ulrich Pfister, Jana Riedel and Martin Uebele add an new data point to this by construction measured of real wages in Germany for the years 1500 to 1850, which they compare to population size. And they confirm the above. The Thirty Year War, which lead to significant population loss, was a period of significantly higher welfare for the survivors than before. This kind of relationship weakened over time though, probably reflecting that new factors became important in production. And it appears this change happened before the typical date we set for the Industrial Revolution in Germany.

Universities as catalysts of the commercial revolution in the Middle Ages

Universities can have a profound impact on the economy of a region, Silicon Valley being a prime recent example. But this is usually difficult to see as they are spread pretty much everywhere now. Hence the interest in looking at older data, where universities were less common and economic activity differed a lot more across regions.

Davide Cantoni and Noam Yuchtman go way back, up to the 14th century in Germany. They compare the establishment of new market places to the founding of universities and find a surprisingly strong correlation when looking at the distance from the nearest university. Of course, you may think this is all endogenous. If a city or region develops, new market places emerge and there is critical mass or wealth for an institution of higher learning. But the authors argue there is causation from universities to markets. Indeed, the Papal Schism of 1386 was an exogenous shock that allowed the creation of universities, and they exploit the trend shift in the granting of markets around this date. The intuition of the causation is that universities provided training in law, which facilitated the creation of legal institutions and ultimately the enforcement of contracts. So, once more, institutions matters, but this is also an interesting counterexample to the intuition that lawyers create demand for there services with no economic or social benefit.

How societies can collapse

Some say that the western economies are doomed and that China is taking over as the main economic power. I do not think we are quite there yet, after all China is still not the largest economy, and by far, despite its huge population. And China may itself be at risk of a financial crisis due to its very inefficient banking system. At least it could diffuse an impeding real estate bubble, but this is not the topic of this post. The worst case scenario, however unlikely it may be, is the western society would collapse. It has happened before, so it would be interesting to learn how this could happen.

Rodrigo Pacheco, Newton Paulo Bueno, Ednando Vieira and Raissa Bragança study the collapse of the Mayan civilization, which was well organized, covered a lot of territory and had a long history. Yet it appeared to collapse within a few years in the 9th century. How could this unravel to quickly?

Their point of departure is that societies are inherently resilient. They can be subject to shocks, even large shocks, and they bounce back. Yet, sometimes they do not. What makes this happen? The main point is that dynamics are important. It is believed that a severe drought was the trigger. But this civilization had such drought before and survived. The last one was different because it brought about systemic changes. There precise nature is difficult to determine, after all we do not know that much about Mayan history. One hypothesis is that the drought brought some unrest which made it worse. For example, agriculture used terraces, which are costly to maintain and rely on the good shape of the ones uphill. Under a severe drought, maintenance may have been lacking, and after some time the terracing system fell apart, and with it probably the structure of society. In short, there needs to be the dynamics of a death spiral for a collapse to happen, but it will still take some time.

Was medieval seigniorage welfare improving?

The presence of coins improves social welfare, as it allows for more trades than barter would allow. Coin minting also provides income to the minting authority, as it can buy stuff with coins that have more value than their production cost. This is called seigniorage. This was also the case in medieval times, where "seigneurs" would mint gold or silver coins with somewhat less metal content than indicated and thus get income. One would thus think that these minters would be profit maximizing, and thus enhance welfare only as a by-product.



Angela Redish and Warren Weber say this is not quite true. They build a random matching model of commodity money, where the supply of silver is exogenous. They derive the welfare maximizing size and quantity of coins as a function of the quantity of silver and the probability of acceptance of cash. Using data from medieval Venice and England, they find that the model predictions follow remarkably well the historical record. This probably means that authorities were benevolent. I say probably because they may have acted in the same way out of selfishness, but that is not documented in the paper. Indeed, the model assumes than any holder of silver can mint, while in reality a limited number of people could do that.

We are turning into a rentier society again

Wouldn't it be nice to live on old money? One does not really need to work, or at least on a regular basis, one is worry free, and one gets to enjoy life at its fullest. But this is only a dream that is reserved to a preciously small elite.

Thomas Piketty, Gilles Postel-Vinay and Jean-Laurent Rosenthal show that about a century ago in Paris close to 10% of the population were in fact rentiers, that is, people who consume more than their labor income during their lifetime. They thrived in an economy where the return of wealth was substantially higher than the growth rate. And by the looks of it, it appears that we are heading into a similar situation, as a small proportion of the population is generating substantial wealth from labor income, wealth that cannot be spent in a lifetime and will be inherited by happy an idle descendants. Perhaps more importantly, existing wealth is enjoying far better returns than average wages are growing at, laying the seeds of a new rentier society. History repeats itself.

The child quality/quantity trade-off in the Industrial Revolution

Non-economists cringe when they hear us talking about investment in children and the quantity/quality trade-off in this regard. Yet, this is a very real aspect of child rearing pointed out by Gary Becker that is at the core of many models, and has been found wild in nature. This trade-off is though to be an integral part of the demographic transition, where fertility suddenly drops massively in the course of development.

Marc Klemp and Jacob Weisdorf look at data from Anglican parish registers from the 18th century that contain all sort of demographic data to look at the child quality/quantity trade-off during the Industrial Revolution. Theory tells us that if the returns to education and/or the cost of time (wages) get larger, parents switch from having many children with no education to few of them with better education. Klemp and Weisdorf's data indicates clearly that this trade-off is present: each additional sibling reduces by 8% the probability of a child eventually becoming literate. That is a strong effect, in particular considering the larger number of children at the time, and its rather large standard deviation during this time of transition.

Could the Shadow Open Market Committee have outperfomed the Fed?

Decisions of the Open Market Committee of the US Federal Reserve bank have long been scrutinized, both by market for obvious reasons and by academics. Some of the latter have even formed a Shadow Open Market Committee in reaction to the decision by President Nixon to impose price and wage controls in 1971, with the support of the Fed president. This committee has evaluated Fed policy and criticize Fed actions when due. But would it have done a better job?

William Poole, Robert Rasche and David Wheelock, who are all Fed employees, study how the policies advocated by the SOMC during the period of high inflation in the 1970s would have performed. Those policies where at odds with what the Fed was doing and even with what many academics were proposing. The policy rule was rather simple: reduce the target money growth rate by one percent every year, down to 4%. To evaluate this rule, you need a model, so they take the New-Keynesian model of Clarida, Gali, and Gertler (1999) off the shelf and run various experiments: one with the SOMC rule, one with the historic data (the Fed's action: a one time drop in money growth). While both policies eventually achieve their goal of reducing inflation, the SOMC one does so with less cost in output.

Now things are not that easy. To be fair to the Fed, it had at the time had rather little credibility, and it is not clear it could have gained any more credibility by adopting the SOMC's policy, as it requires some long-term commitment. Also, the Fed had to fight against attempts by Congress to take over monetary policy, and thus its policy choices were limited. And had the SOMC known that it policy would have been actually implemented, I am not convinced it would have taken the same choice. Indeed, it was rather risky, as it was at odds with what most other people were advocating. And markets may have reacted with incredulity to such an odd move.

Fertility differences and agricultural techniques

There are times when you read a paper and you really wonder how the authors came up with the idea to check out a particular correlation in the data, because it seems to be so far-fetched. But thus a correlation can be beautiful if it also has a nice theory that comes with it.

The correlation that Alberto Alesina, Paola Giuliano and Nathan Nunn study is between current fertility and adoption of plough agriculture in history. OK, I did not think about that one. But now that they find a nice positive correlation, how could one explain it? They argue that this has to do that women and children are not particularly useful when ploughing, as strength is required. The traditional task of weeding, that fell on women and children, is not necessary with ploughing. Thus, there is a preference for fewer children that is ingrained in the culture of these regions to this day.

Health cults in ancient Greece

Ancient Greece is a fascinating period as this is the start of the rational and scientific study of the world and many scientific principles were laid down. The Greek philosophers where in particular the first to think seriously about the role of institutions, markets and the functioning of government. In terms of health and medicine, we have all learned about the first attempts to explore and rationalize the human body, using a secular and scientific approach that was unparalleled until much later in history.

Carl Hampus Lyttkens points out that there was also a counter-movement where health care was leaning much more on religion. He also remarks that this is not unlike what we experience now with alternative medicine that has many followers and is even part of state sponsored health care in some countries. Calling these health cults, Hampus Lyttkens claims they arise because people are afraid of the uncertainties of life and cling to anything to reassure themselves. Just think about how many people believe in life after death while there is no scientific evidence for it. And healing cults are often, now and then, the realm of those who cannot afford the services of the scientific healers.

Fiat money, 1683

We tend to think that fiat money is an invention of the twentieth century and thus does not predate the Italian car industry. But there have been a few experiments before this and in particular a remarkably successful one in the Netherlands starting in 1683.

Stephen Quinn and William Roberds tell the story of the Bank of Amsterdam that in 1683 started limiting the ability of depositors to withdraw coin. At a time where this would have been interpreted as "taking the money and running," this was remarkably well accepted by the depositors, and the Bank of Amsterdam never abused the situation, maintaining stable prices over the next century and greatly facilitating trade in the kingdom. All this without government supervision, basically out of private initiative. Call that almost-private central banking (the bank was sponsored by the city of Amsterdam), even conducting open market operations. Of course, this all ended went the Bank of Amsterdam went bust in 1795: the rest of the world still relying on precious metal, the lack of access to fresh silver during the Fourth Anglo-Dutch War led to a strong depreciation of the guilder, and the experiment ended due to lack of fiat.

A neolithic prisonner's dilemma

Why did humans adopt agriculture in Neolithic times? Our intuition would say because it has better nutritional outcomes. But the evidence points to the contrary: the bones of early farmers consistently show poorer health than the preceding hunter-gatherers. So why would agriculture be adopted if it lead to a disadvantage?

Robert Rowthorn and Paul Seabright say it was individually rational to adopt agriculture, even though it was detrimental to society, much like in a prisoner's dilemma. The problem of a farmer is that he needs to defend his land and his cattle. That seems an additional disadvantage with respect to hunter-gatherers. But farmers can team up in villages, and fortify them. And voilà, now that they have a secure base, they can start raiding around them instead of only defending. This is where the prisoner's dilemma comes in: it is individually rational for every farmer to dedicate resources to defense, but this lowers everyone's welfare.

And thus started the grip of the defense industry on the economy.

An analysis of the oldest auction in history

Homo economicus is not a recent phenomenon. Not only that, he design market mechanisms early in history that appear to be very subtle. The oldest known auction was designed by Illyria in Babylonic times. This is a marriage markets in its true sense, as it is about auctioning off potential brides. All eligible girls are assembled, and an auctioneer offers them to the highest bidders, starting with the one expected to fetch the highest price. Proceeds are used to sell the least attractive brides to the poorest men assembled.

Michael Baye, Dan Kovenock and Casper de Vries analysis this auction in a two-player environment and claim that there is something paradoxical. Assume complete information, which means the auctioneer will always earn zero profit. Then is appears players can earn a much larger surplus by playing a mixed strategy than with a pure strategy. And there a continuum of these mixed strategies, and the expected payoff for both players is arbitrarily high, but finite. The problem is the solution procedure used to solve for symmetric mixed strategies breaks down here, because it selects strategies that are not part of Nash equilibria. We should learn from that to be very careful when applying standard theorems. A similar reasoning applies to incomplete information where the bidders do not know how much the other player values the potential brides.

There is no recent literature on this auction. However, it was mentioned on the back cover of the August 2006 issue of the Journal of Political Economy. I suspect this is what inspired the authors to work on this. They could have mentioned this and acknowledged the submitter, Costas Meghir.

On the consequences of slavery

I reported now long ago on the consequences of slavery in Africa, where it is shown that countries where more slaves were taken still have lower levels of development. It is quite amazing that this can have an impact on average income for so long. But what about the receiving end of the slave trade?

Graziella Bertocchi and Arcangelo Dimico look at county data for the US and find that current average incomes are not related to the inflow of slaves. However, income inequality is. Why would that be? It could be because slave could not own land, and this still has an impact today. Or it could be because of discrimination. Or it could be because of persistent differences in human capital.

Now using a panel data set, Bertocchi and Dimico find the last one is the most likely one. The education gap between blacks and whites has never recuperated, and segregation was certainly part of it. But this strongly persistent effect means that affirmative action still has a reason to be.

Was Malthus wrong about mortality?

One of the critical assumptions in the Malthusian model of growth that the mortality rate depends inversely on the standard of living. While this is not that obvious to replicate with data we have from Malthus' times, such a relationship ship is even more difficult to establish for previous centuries.

Morgan Kelly and Cormac Ó Gráda have dug up some inheritance records from England which allowed them to link wealth and age of death. What they find is quite interesting: all strata of society where affected by agricultural conditions. So if there were some poor crops, rich and poor were more likely to die. This fits right into the Malthusian model where the aggregate standard of living matters. The only subtlety is that the rich die a little later. Indeed, the authors do not attribute this mortality to hunger, but rather vagrancy following some poor crop that spreads epidemics. But such a relationship seems to have disappeared by the 17th century, which the authors justify by government intervention to help the poor. This makes it unclear why Malthus made it such a crucial component of his theory.

Pre-industrial revolution England did not grow, but was rich

Some people have an idealized image of the centuries before the Industrial Revolution, an image fed by pictures of elegant aristocracy and chivalrous knights. Others are more realist and see these times as a period of utter misery, filth and stagnation. Research on the standard of living in this period does not have conclusive answers because the evidence is sketchy and ranges from complete stagnation and misery à la Malthus to sustained growth. Gregory Clark has recently issued a pair of exciting papers that should set a few records straight, at least for England.

In the first, with Joseph Cummins and Brock Smith, he shows that England was surprisingly rich before the Industrial Revolution. This assertion is based on the fact the a small share of the population was engaged in farming. The primary sector accounted for 52% in 1817, and even 60% in 1560. These measurements are based on the occupations listed in men's wills and indicate that a substantial fraction of people living in rural areas were in fact not engaged in farming. Thus measuring the urban population share can be misleading in this respect.

In the second, Gregory Clark shows that there has been relatively little growth over these centuries, which means that way back in 1381, England was much richer than we thought. At that date, only 55% of the population was engaged in farming, based on records of the Poll Tax. This is very close to the number quoted above for 1817. Thus standards of living were not that different four and a half centuries apart.

Economic thinking in Bulgaria after the fall of the Berlin Wall

Economic thought, especially in macroeconomics, goes through episodic changes. These changes are very slow to occur, and historians of economic thought try to analyze what brought these changes and how they happened. The recent doctrinal changes in Eastern Europe offer in this respect a particularly interesting exercise, because everything happened very fast. In particular, you did not even have to wait for an old generation to retire or die for fundamental changes to happen.

Nikolay Nenovsky studies, from personal experience, what happened in Bulgaria. The evolution there was particularly dramatic there because the Russian Perestroyka was largely ignored by the political and intellectual class, and thus change had to happen much faster thereafter. Also, the economic transition happened in a theoretical vacuum, as only transition to communism was researched. Subsequently, economic research was largely event driven, reacting to price liberalization, restructuring of state ownership, foreign debt issues and the currency board.

Previous to reforms, economists were in two camps: those who studied socialism, and those who were to point out the ills of capitalism. The latter were much more ready to understand the transition and emerged as intellectual leaders. The first found refuge in Keynesianism and institutional economics. Bur all lacked empirical skills, and, ironically, sociologists took this over. But the big agents of change were the World Bank and the IMF, through their missions and advice, and imported western textbooks. Nowadays, western thinking has been adopted without much discussions about its fundamentals. Microeconomics is largely neo-classical, and macroeconomics mostly Keynesian. The latter is not surprising, given where Bulgaria is coming from.

The Great Depression: demand or supply shocks?

The fact that we are in a big recession has renewed interest in the Great Depression, and this has revived the questions about its origin. In particular, the eternal question on whether demand or supply shocks have driven it is back.

This time it is asked by Mark Weder, who runs a horse race between tow versions of a real business cycle model: one with only shocks to total factor productivity (supply shocks) as measured by Solow residuals, one with only preference shocks (demand shocks), measured as residuals of an Euler equation. The latter, though, are not associated with monetary or fiscal variables. Both types of shocks are the evaluated in their ability to forecast what happened to GDP, and none is a clear winner.

But is this really the best one could do? Clearly the models are way to simple to 1) forecast anything, 2) to capture the changing policy environment during this period, as highlighted by Milton Friedman, Anna Schwartz, Harold Cole, Lee Ohanian and many others. Also, the relative importance of the two shocks may have shifted over time, something that would have been worthing looking at.