A Follow up on the Futures Market and Gasoline Prices

You may have noticed gas prices have started to drop slightly, which is unusual going into summer. It may be a temporary blip, but there is evidence to suggest it is an ingrained trend. Namely, the price of a gas futures contract is dropping, which means the market expects gas prices to decrease (perhaps the evil speculators were convinced to stop profiteering). While future expectations aren't always correct, there is good evidence of them being among the best unbiased predictors of future prices. 

Economist Menzie Chinn calculates that the futures market is predicting prices to continue drifting down to $3.50 a gallon by years end (see graph above). If correct, it means the highest gas prices for the year are already behind us.

Facts on Oil Speculation

Gas prices have returned to about the level they were in 2008 before the economy went into recession. As with every other time gas prices get high, politicians and similarly misinformed people are blaming speculators in the oil markets. Such statements have risen to the top of government, with Barak Obama saying:

“We can't afford a situation where speculators artificially manipulate markets by buying up oil, creating the perception of a shortage and driving prices higher, only to flip the oil for a quick profit.”

More ignorantly, Joseph Kennedy suggested baring speculators from the markets outright:

“They should be banned from the world’s commodity exchanges, which could drive down the price of oil by as much as 40 percent and the price of gasoline by as much as $1 a gallon.”

Saying ignorant statements for political expedience is no excuse; many people end up believing it. And from their passion for the topic, I suspect these politicians truly do believe it. This is despite the fact that a economics refutes their claims, or at the very least offers no evidence at all to back them.

Here are some facts about speculation:

1. The increased number of speculators in oil markets does not necessarily increase prices.

2. When a speculator buys a futures contract for oil, it means there is also a seller. If purchasing a futures contract increases the price of oil, selling the contract would reduce the price.

3. However, if the market expects the price of oil to rise, the price of futures contracts will rise. This will create an incentive for suppliers to take some oil off the market today to sell at the higher future price. But this is merely the smoothing of a price shift due to a change in supply/demand equilibria.  

4. If speculators were artificially driving prices significantly higher than their supply/demand equilibrium, it would reduce demand, causing producers to reduce supply. In the short term inventories of oil would build up due to a lag in the reduction of supply, which isn't happening.

5. No economic study has found that either the number or positions of speculators have increased average prices of oil.

If you would like the details…

Race for the President of the World Bank Group

The race for President of the World Bank Group is on. Of all the previous presidential races for the Bank, this is the first one I’ve heard of before it had already happened. This is because of the long standing tradition that the president be a citizen of the United States. This exists because voting power is roughly proportional to GDP size. The U.S. and Europe have long been able to dominate any vote they agree on. In return for Europe agreeing that the World Bank President be American, the United States agrees that the head of the IMF be European. This unofficial agreement held up recently when the French head of the IMF was replaced by France’s Finance Minister. So what’s all the noise about?

Obviously, this unofficial policy has few supporters among the rest of the world, and calls to end it have become increasingly vocal. The policy is corrupt, misguided, and undermines the credibility of the Bank in the developing world (on top of the Bank’s actions undermining itself). And the rest of the world does not lack in qualified applicants. The bank often preaches in favor meritocracy and against corrupt political horse-trading, but does so itself.

March Jobs Report

The economy in the United States added only 120,000 jobs last month according to the BLS. Many analysts and forecasters had expected over 200,000 jobs added, but anyone keeping track knows they have been uselessly inaccurate as of late. The numbers for January were revised down, and the numbers for February revised up, for a net of basically no change. The unemployment rate dropped due to people dropping out of the labor force. While there were many encouraging signs and statistics over the past month, GDP growth had slowed from the annualized rate of 3% seen in the fourth quarter of 2011. There was a disconnect between job numbers and GDP numbers, and it turns out now that the job numbers were the ones out of sync.

The same thing happened last year; a winter of solid job numbers ended with spring. So this past winter’s numbers seem to be more of a seasonal phenomenon rather than a lasting improvement in the economy and labor market. Additionally, the unusually warm winter could have thrown off seasonally adjusted figures to overstate growth. It’s certainly bad news, when this happened last year it was explained away by harsh winter weather in the northeast and the tsunami in Japan. Neither of which happened this year. A bumpy recovery was to be expected, but the further out we are from the recession, the worse it is to be standing in the same place.

The Election in Senegal

Senegal has just had an election. It is a regional power in West Africa and often admired for either its influential position or its relatively peaceful and free political system. After standing still in terms of GDP per capita for decades, Senegal has seen significant growth in the past decade and a half, as many African countries have. Its GDP per capita still puts it among the world’s poor however, at $1,714 on a Purchasing Power Parity basis.

The country has a proud political history since independence, having never suffered a coup. Senegal’s first president resigned in 1981. The second president stayed in office until 2000, when he was defeated in a free election by Abdoulaye Wade. Upon coming to office Wade, and his supporters in the National Assembly and Senate, shortened the length of presidential terms, from seven years to five, and imposed term limits that held a president to no more than two terms. The shortening of presidential terms was to take effect after Wade finished his first term. The limiting of terms, Wade said, would apply to him, for the limits had been imposed when Wade was still serving his first term.

Wade easily won his re-election in 2007. Upon winning a second term Wade, and his supporters in the National Assembly and Senate, increased the length of presidential terms from five to seven years, though the extension did not apply to Wade’s second term. He then said that he no longer considered the two term limit to apply to him, since he was elected before the term limits were adopted. He announced he would run for a third, and seven year long, term. When the country’s constitutional court agreed with his interpretation large and sometimes violent protests gripped the country for weeks. Many observers declared Wade had pulled off a “constitutional coup” and jeopardized Senegal’s proud political history.

Wade’s opponents decided to fight him at the ballot box, trusting in the country’s institutions. Wade was defeated on Sunday in a run-off election against his former Prime Minister, Macky Sall. Wade conceded defeat and has promised to step down as president, marking the second time an opposition candidate has successfully unseated a president in a free election, a rare success in the region. Wade threatened Senegal’s institutions, history, and future trajectory. But the people of Senegal have won an incredible victory, not because of the politics of the contenders, but because the country’s institutions, civil society and political culture have proven Senegal as a nation to be stronger than the person who holds power.

February Jobs Report

The United States added 227,000 jobs in February. This marks the third month in a row that job growth has topped 200,000. Additionally, figures for the previous two months were revised up. December job growth rose from 203,000 to 223,000, January rose from 243,000 to 284,000. The trend lately has been that revisions are positive.

The unemployment rate remained the same at 8.3% due to an increase in the number of people looking for work, a good sign. But to put the recovery in perspective, here is a graph of what job creation numbers are required to get back to the "natural rate" of unemployment. 

It was made in 2011 so it's a bit behind. Between the disappointing numbers of last summer and the numbers of the past three months that puts us heading for a return to "normal" in 2016.

Economics Quotes

"This is a nightmare, which will pass away with the morning. For the resources of nature and men's devices are just as fertile and productive as they were. The rate of our progress towards solving the material problems of life is not less rapid. We are as capable as before of affording for everyone a high standard of life ... and will soon learn to afford a standard higher still. We were not previously deceived. But to-day we have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the working of which we do not understand. The result is that our possibilities of wealth may run to waste for a time — perhaps for a long time."

John Maynard Keynes. “The Great Slump of 1930”, Essays in Persuasion.

The Economist Formatting Errors pt. 2

Gay Marriage

The bill legalizing gay marriage in Maryland has been signed into law. It is a wonderful expansion of the civil rights Marylanders are entitled to. It's nice that Maryland has joined the ranks of those who support civil rights. Unfortunately, the bill will undoubtedly be challenged in a referendum. I'm not against the referendum process per se, but the rights of anyone should never be put up to a popular vote.

But what about the argument that marriage is a religious institution and thus protected by the separation of church and state? That would be just fine if the state had never gotten into the habit of recognizing a religious institution and giving married couples numerous subsidies and special legal rights. Idealistically I think the state shouldn’t recognize marriage at all. And if it would like to give certain relationships special privileges it could do so through civil unions that anyone can join into with any number of people (yes, I’m saying polygamy should be included). In return the state should have no say in what a religious group wants to define marriage as or who they wish to marry. What should that matter to a religious person? Shouldn’t the material benefits be of little consequence? If a religious couple wants the best of both worlds they can enter into a civil union and marriage.

But since the state has decided to use the same terminology, it cannot discriminate based on religious grounds. At this point allowing gay couples to have “the same” rights and benefits under a different name is a blatant use of “Separate but Equal”. The people who are against gay marriage for religious reasons should therefore be against the state recognizing marriages at all. But, in large part they support the government effectively endorsing their religious interpretations. In doing so, they're supporting an over-powerful government so long as it serves their purposes.

The state should accept the people who compose it as who they are. The people of the state should accept that there is diversity. And in order to live prosperously and peacefully the state should be limited to ensure the freedom of individuals to be who they are. And arguments about the harm gay marriage will do are ignorant, hateful bullshit.

Tax Deductions

"A man claimed $30,000 worth of business expenses for the costs of goods he was selling in 1981. The goods? Amphetamines, cocaine, and marijuana. The IRS disallowed the deductions because the man hadn't documented his business thoroughly, but a tax court overturned the decision based on his candid testimony about his business practices. Allowed to claim the deductions, he was then sentenced by a criminal court to four years in prison for possessing cocaine with intent to distribute it."

- Public Finance and Public Policy by Jonathan Gruber (M.I.T.)

Hyper-Inflation

What happened to all those people who were freaking out about out of control inflation/hyper-inflation? It must have happened by now: crazy people, Ron Paul, some economists, etc. have been preaching inflationary doom since the crisis began. The urgency the matter was discussed with made it seem as if it was our most urgent threat. One which they were happy to trade a slower recovery for.


But wait, its all come to nothing. Inflation[1] since the 2008 financial crisis has been low relative to the rest of the post Gold Standard world. In fact, 2009 actually saw a slight deflation[2] of the Consumer Price Index (CPI).  Here's what's happened to inflation since January 2008:

In the aftermath of the crisis, deflation was the proper thing to worry about as demand contracted. Then the CPI began to increase slightly, stagnated, and has now returned to a pretty much normal rate. And it seems all the people who were yelling about inflation have quieted down, hoping they didn't put their names on too many crazy opinion pieces. Here's a historic look at inflation going back to 1914:

As you can see, inflation has been rather tame in modern times and is certainly not out of control[3]. Given all of this, inflation, while it should be a medium run concern for the Fed, is not and has not been a threat to our economy. If you are curious to know the mechanics of  inflation click "read more"

The Washington Consensus

I am a fan of the Washington Consensus. The name conjures up horrible free-association images. And so the term has come to be used in a negative light in a context that has nothing to do with the original intent. The truth is quite refreshing: it is 10 points that the economist John Williamson came up with for what he viewed as the standard, uncontroversial consensus of economic policy.

1. Fiscal policy discipline, with avoidance of large fiscal deficits relative to GDP;
2. Redirection of public spending from subsidies ("especially indiscriminate subsidies") toward broad-based provision of key pro-growth, pro-poor services like primary education, primary health care and infrastructure investment;
3. Tax reform, broadening the tax base and adopting moderate marginal tax rates;
4. Interest rates that are market determined and positive (but moderate) in real terms;
5. Competitive exchange rates;
6. Trade liberalization: liberalization of imports, with particular emphasis on elimination of quantitative restrictions (licensing, etc.); any trade protection to be provided by low and relatively uniform tariffs;
7. Liberalization of inward foreign direct investment;
8. Privatization of state enterprises;
9. Deregulation: abolition of regulations that impede market entry or restrict competition, except for those justified on safety, environmental and consumer protection grounds, and prudential oversight of financial institutions;
10. Legal security for property rights.

Even when people know what it is, it can be viewed negatively. Admittedly, Williamson probably should have called it something else, the name insinuates that these are the edicts put forth and forced on the rest of the world from the United States. The target audience was Latin American governments, it was a strategy for escaping the middle-income trap that many of them had fallen into. But we would be much better off if we followed this advice too.

Point 9 is the most open to misunderstanding these days. Williamson explicitly states that deregulation should occur towards artificial barriers governments place on competition, and there is the obvious cut out for trying to avoid financial crises. If you are concerned about inequality, the influence of large corporations and the effects of large profits this kind of deregulation is for you. A competitive business will be more productive and less profitable. A competitive industry will produce goods at lower prices while employing more people.

Banking for the Poor

from Kiva on Vimeo.

Because of kiva.org anyone can be a banker for the poor, like that baller Muhammad Yunus. Though most likely he's better at it than you will be. But still, lack of access to credit and banking services is a cause of inequality and continued poverty. And this model didn't explode into a horrible recession. Plus loans are paid back around 98.9% of the time.

China's One Child Policy

I hear people, who consider themselves liberal (in the sense of believing in a free society built on individual rights and civil liberties) talk in an accepting manner about China’s one child policy[1] and correlated drop in children per woman. It starts with the logical argument that the increasing population places an unsustainable burden on the ecosystem of Earth. It ends with the acceptance that something needs to be done, so we might as well accept the policy’s benefits to us. This argument raises the question of how far away a poor and subjugated person has to be for us to comfortably ignore them.

My opinion is that the effect of the policy should not matter, such authoritarianism can't be justified. My argument is that it hasn’t even been effective. China has gone through a rapid birthrate drop, going from 5.91 children per woman in 1967 to 2.01 in 1993[2]. This is generally great news for the country and the world. However, the one-child policy was enacted in 1978, when total fertility had already dropped to 2.91. The majority of the drop occurred before the policy existed.

Not only that, but countries all around China have accomplished similar, and in many cases, larger, drops in total fertility, without a one-child policy. See the below graph (courtesy of gapminder.org).

It is important to note that all countries shown accomplished the transition while poor. When South Korea reached the replacement rate of births in 1983 (about 2.1), it had a GDP per capita of $5,373[3], poorer than China today.

There is a bit more to the story. One criticism of the one-child policy is that it has led to a sex ratio disparity[4] (117 boys per 100 girls in 2000); creating many negative social consequences. This unbalance infamously exists in India (whose total fertility dropped from 5.66 in 1967 to 2.69 in 2009) and many other Southern and Easter Asian nations. This would suggest the one-child policy is not to blame. The good news is that these problems have the same solution: education. Educating females leads to fewer kids and higher incomes, which eventually leads to people seeing how dumb and ignorant they were to value males more. South Korea has almost pulled this feat off. Its sex ratio disparity has declined from 117:100 in 1990 to a nearly normal 107.4:100 in 2005.

Vintage Defaults

The graph shown represents the performance of mortgages by year issued. The year issued is referred to as the “vintage”, like wine. The Y axis is the ratio of loans that defaulted per loan made. A normal curve, as displayed by 2001 – 2004, is a shallow logarithmic curve. Once the default rate for a vintage goes from increasing at an increasing rate to increasing at a decreasing rate it is considered “seasoned”. 2001 was a recession year, so it is a bit of a benchmark.

The problem clearly arises in the 2005 vintage, when the economy was doing relatively well; the Fed had started raising interest rates in mid-2004. In early 2006 it was clear something was wrong in the mortgage market; the line deviates from the normal curve and crosses above the 2001 line at an increasing rate. The mortgages from 2004 start to have trouble at this point too, as the 2004 line crosses above the 2002 line. So the problem should’ve been apparent. On the other hand sub-prime mortgages were only a market of $500 billion in 2005 (pretty small in the grand scheme of finance), the tools and connections that enabled the economy to rest on $500 billion of sub-prime equity are complex and opaque, and no one wants a bubble to end.