The state of the Macro Wars

New Update: The pessimism in this post has been proven (somewhat) wrong. Bernanke just announced that the Fed will buy $40B of mortgage-backed securities every month until the economy improves. This is notable for two reasons. First, unconventional assets are being purchased rather than U.S. government bonds; this sends a strong signal that the Fed is considering the full range (or at least a fuller range) of tools at its disposal. Second of all, the asset purchases are open-ended, meaning that the Fed is targeting a level rather than a growth rate; Bernanke intends to force the U.S. economy to make up the ground it lost in the recent recession, rather than simply to resume the pre-recession growth rate at a permanently lower level. It looks like the Pro-Easing Alliance has the Hard-Money Coalition on the back foot, for now...

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It's hard to deny that the Macro Wars have died down. Paul Krugman, whose crusade for fiscal stimulus often made him resemble a bear taking swipes at a horde of angry bees, wrote this today:

I’ve been pounding the drum for Keynesian policies ever since the financial crisis struck; I was one of the few people to talk negatively about Obama’s inaugural address, because it seemed to miss the point that we were suffering from inadequate demand; and I was frantic about the inadequate size of the stimulus. 

So, am I upset over the virtual absence of demand-side rhetoric in Obama’s speech yesterday? 

Let’s be realistic: the public doesn’t get Keynesian economics. The president could use the bully pulpit to try and change that, and I’ve been urging him to do that. But not two months before an election. 

And we know that the administration has demand-boosting on its mind; the American Jobs Act was very much a Keynesian-type plan, and everything I know says that it’s a good view of the kind of thing the inner circle supports. It’s reasonably certain that there will be attempts to provide more demand if Obama wins, and that’s all you can ask for at the moment.

Meanwhile, John Cochrane, Krugman's principal antagonist in the Macro Wars, has called fiscal stimulus "an economically interesting proposition", and has come out against the type of "austerity" being practiced in Europe. And people in general seem to have realized that stimulus is politically feasible when the economy is in free-fall, but generally not during long slow recoveries - "everyone is a Keynesian in a foxhole". The Stimulus War didn't lead to anything remotely resembling a consensus, but all parties (including the various other "sides" in the conflict, like Scott Sumner) seem to want to spend their rhetorical resources elsewhere for the moment.

But another Macro War is brewing out here in the Econosphere. This time, it's about monetary policy. Unlike in the fight over stimulus - an idea that had been out of the academic mainstream for decades - the battle lines in the Monetary Policy War are pretty clearly drawn. On one side we have people who think monetary policy should be focusing on boosting GDP - this includes monetarists like Miles Kimball and David Glasner, "NGDP Level Targeting" evangelists like Scott Sumner and David Beckworth, Keynesians like Krugman, Brad DeLong and Mark Thoma, and monetarist-leaning folks like Karl Smith, Matt Yglesias, Ryan Avent, and Evan Soltas. Although there are flashes of internal dissent, all of these folks are essentially allies; they support the idea of a Fed that is far more active in pumping up growth, by either "printing money and buying stuff", or by promising to do so in the future. And they are backed up by the academic firepower of Mike Woodford, who wrote the book on New Keynesian economics, and has come out in a big way in favor of more monetary easing. Even Tyler Cowen, a big detractor of Keynesian ideas, has cautiously endorsed the idea. (Update: Christina Romer and a number of Fed officials have also come out in favor of more easing.)

The forces arrayed against the Pro-Easing Alliance seem at first glance to be pretty low on manpower. Chief among the econ-bloggy opponents of easing are John Cochrane, John Taylor, and Steve Williamson. They argue that the Fed should worry more about preventing inflation than boosting output. The arguments here are that A) the Fed's ability to boost output is very weak, and B) inflation is a much bigger danger than people realize.

However, the illusion that the Hard Money Coalition is outnumbered is just that - an illusion. Behind them stand a vast shadow army of Wall Street Journal op-ed writers, "Austrians" who believe that loose money is the root of all evil, and Fed officials like Jim Bullard, Narayana Kocherlakota, and Charles Plosser who instinctively worry about inflation first and foremost. That army has been powerful enough to stay the hand of Ben Bernanke, a New Keynesian who as an academic was a champion of an activist Fed.

Furthermore, the battleground is different this time. With stimulus, the audience was Congress, which is strongly biased toward looking like it's doing something. With monetary easing, the target audience is the Fed, which is staffed by technocrats. Most of those technocrats were educated to believe that the Fed's inflation-fighting credibility is its most valuable asset. They were also trained at a time when the 70s were fresh in people's minds and the Depression-like crisis of 2008-present was still far in the future. 

Finally, the deck may be stacked against the pro-stimulus side. Supporters of fiscal stimulus believes that it works independently of expectations, but pro-easing monetarists all admit that expectations are crucial to the success of monetary easing, especially at the zero lower bound of nominal interest rates. This gives the home-court advantage to the Hard Money Coalition. To win, all they have to do is convince the public that the pro-easing consensus is weak enough that promises of easy money into the indefinite future will inevitably be broken. Casting doubt on the expansionary power of the Fed can therefore be a self-fulfilling prophecy.

In other words, monetary easing may be more popular among economists than was fiscal stimulus, but may end up being a harder sell. It's sad to say, but the Macro Wars may seem increasingly like the Trojan War, with the Pro-Easing Alliance playing the role of Cassandra...

(Note: Oh, you want to know which side I'm on? Although I'm skeptical of New Keynesian models and monetarist ideas, I agree with Tyler Cowen that unemployment is obviously a much much much bigger problem than the faint specter of 4% or 6% or even 8% inflation, so we should try quantitative easing, forward guidance, NGDP targeting, etc. So count me on the side of the Pro-Easing Alliance. Though for all the reasons listed above, I'm not too sanguine about our chances of victory...)

Update: Underscoring my pessimism about monetary easing, here Mark Thoma asks economists about the chances that the Fed will implement NGDP targeting (one of the simplest and most-discussed forms of monetary easing) over the next 5 years. Most of the 44 economists answered either "low" (18) or "very low" (13), with some giving "even odds" (8) and a few saying "zero" (4). If surveyed, I would have answered "low", putting me near the median.

Cost Savings Ideas

There is constant talk today about cutting costs. Here are two options that might help you save a few dollars on your insurance in this rough economy.


1)Raise your deductibles:
A typical homeowner policy has a deductible of $500 and a typical auto insurance policy has $100 for comprehensive and $250 for collision deductibles. One way to help save a few dollars on your annual insurance bill is to increase your homeowner deductible to $1000 and your comprehensive and collision deductibles on your auto to $500 each. Note that when you do this you bring a little bit of the financial risk back on yourself. A good rule of thumb to help figure out if the deductible change is worth the risk is to take the savings you will get for increasing your deductible and multiply it by three. If that number is larger than the difference between your old deductible and your new deductible in my opinion you are taking on an appropriate amount of risk for the savings.

2) Drop physical damage on your old vehicles.
If a car is 10 years or older it is probably worth researching whether you should have comprehensive and collision coverage on your car (many people know this as "full coverage"). Two ways to help you decide if dropping comprehensive and or collision from your car is worth it are:

1. The Insurance Information Institute says that if your car is worth less than 10 times the amount you pay annually for comprehensive and collision coverage it isn't worth keeping the coverage.

2. Another way to analyze if it is worth keeping the coverage is to take the premium you pay for collision and add it to your deductible amount. That is the total amount that it costs you to insure your car. (i.e. Your annual collision premium is $250 and your collision deductible is $500. If you total your car you will have paid $750 ($250 in premium and $500 in deductible) before you received any money from your insurance company) If in your mind it isn't worth spending that kind of money to save your vehicle if it was totaled than you might want to consider dropping that coverage.

Myths of ancient China

There is a line of analysis that I see a lot in the press, that goes like this: For thousands of years, China economically dominated the world. Therefore, China's rapid growth is just a case of reversion to the mean; we should expect China to go back to being the same percent of world GDP that it always was before.

Now, I fully agree with the idea that China will return to being a bigger portion of world GDP. That's just "conditional convergence". It's a function of the Solow model. There is no good reason for 20% of the world's populace to produce less than 20% of the world's output in the very long run.

BUT, that being said, the people who make this claim seem to get their history a bit wrong. For example, here is a graph used by Deutsche Bank and PWC to make the point:

And here is one used by Michael Cembalest of JP Morgan:

Finally, here is one used by The Economist:

The source for all of these, if I'm not mistaken, is the esteemed economic historian Angus Maddison. But I have three problems with the use of this data in these charts. The first two have to do with how Angus Maddison's data gets put into those charts. The third has to do with the methodology used by Angus Maddison.

Angus Maddison's methodology, if I'm not mistaken, is something like this:

1. Assume that pretty much everyone prior to the 1700s was a farmer.

2. Very carefully estimate agricultural productivity and population density in ancient times.

3. Multiple population by agricultural productivity to get GDP.

So, here is the first problem with those charts: They leave out many of the major farming regions of the old world. For example, in the Roman Empire, the most productive agricultural region was Egypt. In fact, the Eastern Roman Empire had much higher agricultural output than the Western Roman Empire (France/Italy/England/Spain), which motivated it to periodically try to secede. 

Leaving out these regions skews the ratio wildly in China and India's favor. Including the entire Roman Empire would make the numbers for 100 AD look wildly different. For example, at its height, the Roman Empire, including all those Eastern Roman territories, had between 29 and 39 percent of the world's population. China's Han Dynasty, which was contemporary with the Romans, had only 26% of the world's population. Therefore, by agricultural output alone, Rome probably produced more GDP than China. Also, there was the entire Islamic Caliphate, which was a big deal from 700 - 1200 AD.

The second problem I have with those charts, and the conclusion drawn from them, is that they do not account for changes in the distribution of world population. In 100 AD, Germany was a sparsely inhabited forest. North America was mostly wilderness. China, in contrast, was densely settled. Today, things are different. The clearing of West Europe's forests in the early 2nd Millennium AD is why West Europe is now a densely settled population center instead of a backwater. Similarly, the colonization of North and South America, and the waves of immigration to the Western Hemisphere, has permanently altered the global population balance. China, despite going on a breeding binge that made it one of the world's most densely (over)populated regions, represents less than 20% of the world's population now, as opposed to over 25% in ancient times. As China ages, this percentage will shrink further.

In other words, China will not automatically return to its old percentage of world GDP, since the Western Hemisphere and West Europe are now on the map.

Now, on to my third problem: I think Angus Maddison may be doing things wrong. I realize this is a rather presumptuous thing to say, but I think it's true. Specifically, the assumption that GDP before 1700 was proportional to agricultural productivity seems to me not to be a good one. The reason is that even in a non-industrial society, there is a potentially huge source of GDP increases: trade. Remember, in a world where output is mostly in the form of commodities (i.e. no increasing returns to scale), the old Ricardian theory of trade makes a lot of sense. Stable ancient empires that could act as free trade zones were probably capable of dramatically increasing their per capita GDP beyond the base provided by the productivity of their land.

This is the finding of Ian Morris in Why the West Rules For Now. He constructs a "social development index" that includes things like urbanization and military capabilities, and probably correlates with an ancient region's per capita GDP (it is hard to build cities and make war without producing stuff). He finds dramatic changes in this social development index over the course of the Roman Empire; at its height, Rome seems to have been extremely rich, but a couple centuries earlier or later it was desperately poor. Morris corroborates this index with data on shipwrecks, lead poisoning, and other things that would tend to correlate with output. Basically, Rome saw huge fluctuations in per capita GDP. But it is unlikely that Rome's agricultural productivity changed much over this time. Instead, what probably happened was the rise and fall of cross-Mediterranean trade.

If trade could make Rome dramatically richer, and its absence could make Rome dramatically poorer, then Maddison's data set is wrong. Just because most people in 100 AD were farmers does not mean that most people were subsistence farmers. And frankly, I'm not sure how people use Maddison's data set without noticing this fact.

So anyway, to sum up: These graphs don't tell us as much as people think they do about how world GDP was distributed in the past. So don't use them as a guide to the future.

Update: Some people have been commenting "What about the 'other' parts? Couldn't that include the other parts of the Roman Empire?" Sure, it might, though the charts don't make it clear (look at Chart 3; if "other" = Rome, why isn't 1 AD the "golden age of the West"?). And does the residual include those portions of the world where records were not well-kept? Does it include areas that relied on animal herding? Does it include the Americas properly? And why does Chart 2 (the one by Michael Cembalest) not include "other"? In general, these charts just seem to present the data - such as it is - in a very misleading way.

Keen attempts a purge

"He knew that you could trust no one. No one. Ever. Not your wife. Not your brother. Not your oldest comrade. No one. Ever."

- Andre Marty, in For Whom the Bell Tolls

The Communist movement in early 20th century Europe became famous for its atmosphere of insane paranoia, unrelenting suspicion, and constant ideological purges. The above quote is from a novel, but the man who thinks it was a real historical figure, whose paranoiac purges killed 500 of his allies in the Spanish Civil War. I suppose it was unsurprising that the left lost that war.

Since 2009, the macroeconomics profession has been embroiled in another sort of war. At stake is not just the direction of policy, but the entire future of the discipline. The insurgency has been led by Paul Krugman, a Nobel Prize winner, Princeton professor, and New York Times pundit, and by other eminent economists like Brad DeLong whose accomplishments (in my opinion) are only slightly less august. I say "led" not because Krugman et al. were the first to poke holes in modern macro - that was mostly done in the 1990s and involved many other brilliant people - but because it was the prestige of Krugman, DeLong, and others that gave this revolution public credibility, that made the intelligent, news-reading public sit up and say "Hmm, maybe something is deeply wrong with macroeconomics!"

Steve Keen is a "post-Keynesian" economist who works in Australia. His work, although I have only read a bit of it, is largely about debt, and why debt behaves differently than it does in most mainstream macro models (an idea to which I am very sympathetic!). In public, Keen has been highly critical of neoclassical macro, and supportive of a return to the ideas of Depression-era thinkers like Keynes and Minsky; he writes a blog, and also attends INET (I actually met him last year, though I only spoke to him very briefly).

One would think that Keen would be a natural ally of Krugman and DeLong. However, one would be wrong. In fact, Keen recently unleashed a tirade against DeLong:

I can scarcely believe what Brad Delong has dared to publish on Project Syndicate today... 

[P]eople like Wynne Godley, Ann Pettifors, Randall Wray, Nouriel Roubini, Dean Baker, Peter Schiff and I had spent years warning that a huge crisis was coming, and had a variety of debt-based explanations as to why it was inevitable... 

To my knowledge, of Delong’s motley crew [of economists who saw the potential for a crash], only Raghuram Rajan was in print with any warnings of an imminent crisis before it began...Krugman, who Delong crowns as first amongst equals in those working “in the tradition of Walter Bagehot, Hyman Minsky, and Charles Kindleberger” first read Minsky in May 2009–and noted that he didn’t really see what all the fuss was about... 

The only excuse for the cant Delong has spewed forth today is that, as with Krugman and others in the self-described “New Keynesian” camp, he perceives himself as being at the left end of the economic spectrum, with the only competition being from the far right represented by the purist Chicago version of Neoclassical economics. Since the Neoclassical left supports deficit spending during a Depression, while the right supports austerity, to Delong it’s game over, and the Neoclassical left is right. 

The reality is that there is an entire other dimension of economists who have known for decades that both extremes of the Neoclassical economic axis were neither left nor right, but plain bloody wrong. We also knew that our criticisms of the Neoclassicals had no chance of being listened to by the public until a major crisis hit, and we also expected that this crisis would do nothing to alter their own beliefs. Delong’s delusional mutterings today confirm it.

Wow. With friends like these, who needs enemas?

I find Keen's rant completely unacceptable. And not just because it's uncivil, rude, and largely free of substantive content. No, the reason I find it unacceptable is that this sort of ideological purge is the kind of thing that loses revolutions.

Keen's tirade can be boiled down to the following: "I got things right long before Krugman and DeLong, so I'm the pure Keynesian; these other guys are posers." By this logic, no one can join a revolution unless they were part of it from the beginning. 

DeLong and Krugman were not part of the revolution at the beginning. DeLong, in particular, has made this abundantly clear, along with the reasons for his change of mind, in an essay called "What Have We Unlearned From Our Great Recession?":

My role here is the role of the person who starts the Alcoholics Anonymous meetings. 

My name is Brad DeLong. 

I am a Rubinite, a Greenspanist, a neoliberal, a neoclassical economist. 

I stand here repentant. 

I take my task to be a serious person and to set out all the things I believed in three or four years ago that now appear to be wrong.

When I read this essay, I was amazed. I can't think of anyone else who writes things like this. Most economists - indeed, most people of any stripe - first stake out a position, and then defend it to the death. If they change their ideas, they try to pretend that they had these ideas all along and had never been wrong. Proving that they are Wise Sages is more important than actually searching for the right answers. Brad DeLong is different.

(Update: And you know what else? Before the crisis, the real state of things was probably not as clear to an impartial, rational observer. It could well be that an honest, open-minded, smart person would have seen the potential for a crisis before '08, but not been certain that a crisis was overwhelmingly likely...but I digress...)

(Update: And while we're at it, I should point out that Brad DeLong is totally exaggerating the degree to which he was wrong before the 2008 crisis. In the late 80s and early 90s, along with Larry Summers, Andrei Shleifer, and Robert Waldmann, DeLong invented "noise trader models" of financial markets, which present one of the first coherent, mathematical alternatives to efficient-market theory. So DeLong was attacking the neoclassical paradigm successfully, in mainstream economics and finance journals, decades before the Crisis of 2008.)

But this is not enough for Steve Keen. He demands that the revolution be led by the people who were in on it first. He seems interested more in jockeying for prestige within the revolutionary movement than in actually seeing that movement succeed. Because by shooting DeLong and Krugman in the back, Keen is attempting to discredit (and succeeding in alienating) two of his most potent allies. Without the support of leading figures like Krugman and DeLong, the anti-neoclassical revolution, right as it may be, will remained confined in the public's mind to the realm of fringe movements and cranks. (Also, frankly, exiling Krugman and DeLong would deprive the post-Keynesian movement of much-needed intellectual firepower; whatever their past mistakes, these guys are very very intelligent).

Here's the bottom line: You can bask in the hipster underground street cred of being a "heterodox" outsider, or you can actually change the world. I am on board with the anti-neoclassical revolution (as you can verify here, here, here, here, here, here, here, here, etc.), but I am not going to take Steve Keen seriously if he is mainly interested in purging the ranks of his own comrades. First you win the revolution, then you jockey for position. Get it straight.

Update: Steve Keen drops by in the comments section. Excerpts:

Firstly Noah, I'm interested in achieving a dialogue. My rudeness was a deliberate tactic since Neoclassical economists have ignored seventy years of attempts to critically engage with them by Post Keynesians.

Well, it is true that being rude (and then being nicer later) is an efficacious and perfectly legitimate way of getting noticed. Still, I feel like the effect of saying things like "self-serving drivel" is just going to have the effect of starting a permanent feud...

Now if you, Krugman, deLong, etc are actually willing to listen to what Post Keynesians like me are arguing (Mark Thoma already appears to be open to dialogue), then let's organise a joint seminar where we can set out both our differences and our similarities.

This idea I like a lot. I felt that INET had some flavor of this. YES. There should be this sort of interchange!

And thanks for the laugh about me leading a purge. I suggest you look around you: how many Post Keynesians are in your economics department? How many Post Keynesian subjects are there in its curriculum. The purge happened long ago when non-Neoclassical topics were driven out of the teaching canon--ask Phillip Mirowski at Notre Dame what a real purge feels like.

Well sure. But a purge of the revolutionary movement is still a purge. Calling Krugman and DeLong "neoclassical" is like when Ludwig von Mises called Milton Friedman a Communist. It just dilutes the power of the term. Krugman has been bashing DSGE in the New York Times for years now. He's called the Rational Expectations revolution a failure. DeLong has less of a bully pulpit but says much the same. If they are "neoclassicals" I'm a Scientologist!

New Atlantic piece: Government, help us fight fat!

Keeping with my recent "Japan" theme, I have a piece up at the Atlantic about one thing that Japan undeniably does better than us: Fighting fat. The upshot:

Government paternalism is in some sense a last resort, but it has worked wonders in the realm of public health in the past. Hand-washing regulations, sewage treatment regulations, cleanliness education, and other such paternalistic initiatives brought us out of the cesspool of the Middle Ages into the clean, safe, mostly disease-free paradise in which we now reside. Fat, though not contagious, is no different in terms of its ability to cripple and kill our citizenry, and the epidemic has reached emergency proportions... 

The American people must become healthy again. It's time to bring in the government.

Check out the whole thing!

Japanese poverty: Who's to blame?

Bryan Caplan is a thinker who is famous for his introspection. When he asks a question - "Why do people go to college?", or "Why are poor people poor?", his instinct is to carefully examine his own pre-existing ideas on the topic. Turning his own beliefs over and over, he examines them from every possible angle, mining his brain for insights.

This sounds like I'm making fun of Bryan, but really, introspection is quite a good technique for understanding the world in many cases. It can tell us much about how consciousness and reason work, about what is right and wrong (because morals = opinions), and other interesting topics. And to the degree that we accumulate knowledge incidentally or accidentally, introspection is valuable because it samples the influences we've accidentally aggregated. But, that said, there are questions for which introspection tends not to be of much use. One example is physics. Racking your brain for memories of how balls rolled down hills in your past is just not going to get you as far as actually going and rolling some real balls down some real hills.

I think that one of these questions is the question of why people are poor. Bryan is planning to write a book on this, called "Poverty: Who's To Blame?" Here are some blog posts that summarize Bryan's ideas on the subject: Post 1, Post 2, Post 3, Post 4, and Post 5. Bryan's main thesis about poverty is that the main cause of poverty is irresponsible individual behavior, chiefly:

1. Drug use (including alcoholism)

2. Single and unplanned parenthood

3. Crime

Bryan is not as clear about how he arrived at this conclusion. Was it introspection? It's easy to imagine that someone who has spent most of his life living in a self-described "bubble" might have had very little contact with actual poverty. But if you spend your life avoiding poor people and passively absorbing the thoughts of people like Charles Murray (a Caplan favorite), your ideas about poverty will be 9 parts stereotype to every 1 part fact. Asserting ideas about poverty that were derived from introspection will then lead to a feedback loop, in which conventional wisdom becomes divorced from extant reality.

Now, maybe Bryan has done more than introspection to come up with his thesis that poverty is the result of bad behavior. I'd like to see his data. And note that simply correlating poverty with bad behavior is not sufficient, because it can't distinguish cause from effect. Bad behavior might be a mechanism for coping with the pain of poverty. Or a third variable might cause both poverty and bad behavior.

In any case, what I really want to talk about in this post is Japan. 

Japanese people will often tell you "There is no poverty in Japan," but this is just false. Japan has significant poverty. Professor Koichi Nakano estimates the Japanese poverty rate at 16 percent - lower than, but generally comparable to, the rate in the U.S. If Bryan Caplan's grand thesis is correct, these Japanese people should be poor because they have children out of wedlock, abuse drugs and alcohol, and commit crime.

Here are facts: 1. The rate of single parenthood in Japan is miniscule compared to that in the U.S. 2. The rate of drug abuse in Japan, though higher than in the past, is far lower than in the U.S. 3. Crime rates in Japan are far, far lower than in the U.S. 4. Alcoholism is a problem in Japan; between 0.8 and 4.4 million Japanese people are alcoholics (out of a total population of somewhere over 120 million). 

So of the types of bad behavior listed by Caplan, only alcoholism is comparable between Japan and the U.S. Perhaps Caplan should narrow his focus - perhaps alcoholism is the main cause of poverty.

Or perhaps Caplan is just dead wrong. Perhaps his preconceived notions about poverty, developed in self-imposed isolation from the actual phenomenon, are simply not an accurate guide to extant reality. 

As it happens, I have had a fair bit of contact with the Japanese poor. In general, although they do engage in more bad behavior than other Japanese people, they engage in less bad behavior than middle-class people in America. In general, they work very hard, abstain from drugs, don't have children out of wedlock, and obey the law. Every day they get up, slave away diligently and conscientiously for 8 or 10 hours at a mind-numbing menial job at pittance wages, and every night they return to sleep on the floor of tiny bare rabbit-hutch studio apartments barely larger than my bathroom. They were born well-behaving and hard-working and poor, and they will die well-behaving and hard-working and poor. Every day, even as people like Bryan Caplan inadvertently mock their struggles, the Japanese poor make a mockery of Caplan's prejudices and stereotypes.

If I had never seen the Japanese poor - if my only contact with poverty had been with the American poor, who tend to bully and rob people like myself at alarming rates - then I expect I would find Bryan Caplan's thesis quite reasonable, and even obvious. But that is why, if you want to know what is actually going on in reality, you have to get outside your bubble. 

If we get outside the "blame-the-poor" introspection bubble, we find that income and wealth pretty much follow a Pareto distribution in every country - there are poor people everywhere. Not poor in the absolute sense - American and Japanese poor people generally have food and shelter and warmth - but poor in the relative sense. The real question of "Why does poverty exist?" is the question of "Why do income and wealth follow a Pareto distribution?". Bad behavior is not likely to be the answer.

Update: A commenter kindly pointed out this paper, which gives somewhat recent (year 2000) numbers on inequality and poverty in Japan. Key takeaway facts: 1. In 2000, the Japanese poverty rate without government benefits (the "market poverty rate") was 16.5%, compared to 18% in the U.S. and 18.2% averaged across a sample of rich countries. 2. Income inequality, measured by the Gini coefficient, was the same for the Japanese working-age population (15 to 64) as for the entire population. This provides strong statistical support for my thesis that poverty is not substantially less common in Japan, despite the far lower prevalence of "bad behavior" there. Bryan Caplan would do well to check out the numbers.

Social Security is not welfare

In general, I share some of the concerns of Nicholas Eberstadt, who writes in the Wall Street Journal lamenting the explosion of entitlement spending (though I also agree with this response by William Galston). In particular, I think much of the "health care" spending that we've been doing has been waste (which goes for private-sector health spending too btw). I'd like to see a lot more of our tax dollars go to public goods like education, research, and infrastructure, and less go to "health care".

BUT, I think Eberstadt makes a big mistake in lumping Social Security in with other entitlement spending. Social Security involves small transfers from rich to poor, but most of it is just a forced savings program, like a mandatory-enrollment defined-benefit pension. Eberstadt writes:

Government data on public transfers can be used to divide entitlement spending into six baskets: income maintenance, Medicaid, Medicare, Social Security, unemployment insurance and all the others... 

For their part, entitlements for older Americans—Medicare, Social Security and other pension payments—worked out to even more by 2010, about $1.2 trillion... 

The U.S. is now on the verge of a symbolic threshold: the point at which more than half of all American households receive and accept transfer benefits from the government. From cradle to grave, a treasure chest of government-supplied benefits is there for the taking for every American citizen—and exercising one's legal rights to these many blandishments is now part of the American way of life. 

As Americans opt to reward themselves ever more lavishly with entitlement benefits, the question of how to pay for these government transfers inescapably comes to the fore. Citizens have become ever more broad-minded about the propriety of tapping new sources of finance for supporting their appetite for more entitlements. The taker mentality has thus ineluctably gravitated toward taking from a pool of citizens who can offer no resistance to such schemes: the unborn descendants of today's entitlement-seeking population.

But Social Security, which comprises over a quarter of entitlement spending, is not a "treasure chest of government-supplied benefits", nor does it represent a "taker mentality". The reason is that Social Security benefits are related to contributions - the more you pay in Social Security taxes, the more you get in Social Security benefits.

Actually, Social Security is a lot more complicated than a normal pension scheme (and I think the system should be simplified), but basically it works very similarly. The basics are well explained by this email from Dan Sacks:

Social security benefits are a function of lifetime earnings history. They take your 35 highest quarters of earnings and over those quarters calculate your monthly earnings (Note: actually, it's years, not quarters!). Your monthly benefit from social security is a piecewise linear function of this monthly earnings amount. (They do some adjustments for inflation, too.) You get 90 cents for each of the first $767, then 32 cents for dollars 767-4624, and then fifteen cents for all remaining dollars. Social security contributions are capped at about 100,000, and you neither pay taxes nor get a benefit beyond that. 

For more information, see here, here, and here.

So the more money you pay into the system, the more you get out of it. This is no coincidence; the program was invented back in the Depression, when the idea that people should work for what they get was almost a religious belief in America.

Have people forgotten that Social Security pays you more for earning more? Do today's Americans simply view Social Security as a bottomless cookie jar paid for by someone else? This 2011 paper by Jeffrey Liebman and Erzo Luttmer (also h/t to Dan Sacks) suggests that no, Americans still understand that Social Security rewards a function of work:

To measure the perceived linkage between labor supply and Social Security benefits, we administered a survey to a representative sample of Americans aged 50-70. We find that the majority of respondents believe that their Social Security benefits increase with labor supply. Indeed, respondents generally report a link between labor supply and future benefits that is somewhat greater than the actual incentive.

So people understand what Nicholas Eberstadt seems not to understand: Social Security is (mostly) not a transfer from the rich to the poor, nor is it (mostly) a transfer from unborn Americans to today's Americans. It is a "transfer" from your young, working self to your old, retired self.

Should we really call that a "transfer program"? I don't think we should.

In general, this is emblematic of a bigger thing that annoys me. People often say "government is X percent of GDP". But what is the significance of this? Suppose I say to the government: "Here, government, please hold all of my money for five seconds and then give it back to me." Is government then 100% of GDP? If I do that ten times, is government 1000% of GDP?

The number of dollars, or the percent of GDP, that go through the government does not really tell us much about the government's impact on the economy. In fact, it's very difficult to characterize the government's impact with one number, since different types of government spending are so different from each other. But when we talk about "transfers", we should talk about net transfers, not gross transfers. Using the gross numbers might be useful for getting people worked up and scared about the "size of government", but it does not help people make an informed choice about policy.

Update: Naturally, I am hardly the first to make this point. See Mark Thoma. But conservative writers just keep pressing onward relentlessly with the claim that Social Security = welfare. America is not buying it.

Update 2: In the comments, Matt Rognlie points out that it's the top-earning 35 years, not quarters. That makes more sense, and is consistent with what I've read on other websites.