The Worst Recession

Yesterday's GDP numbers were weak. In the second quarter, the economy grew at a 2.4% annual rate. While normally a good rate of growth, this is bad for coming out of a recession - when growth has to be much higher in order to re-employ all of the people who lost their jobs. The key point is that we still need to close the output gap between actual and potential GDP. While growth is good, it is better for the growth to be appropriate to the economy's (society's) needs.

The bigger point, and one that needs to be pointed out to students, is that the economy has lost a lot of ground in this last recession and the output gap is huge. The Free Exchange blog on the Economist web page has a post and graphs that compare the change in output from this recession to all of the other post-war recessions - this is the worst. Again, this is a good graph for making students think. Here is the graph:

How valuable is kindergarden?

According to new studies, kindergarten is very valuable - at present value, an outstanding kindergarten teacher is worth $320,000. Wow. David Leonhardt sums up this research showing the value of good teachers in a dollar amount. Interestingly, the real added value does not show up on test scores - which implies that there is something besides knowledge that teachers give their students that is of real value. Of course, that is what teachers have been saying for a long time. Now the numbers show it.

Unemployment Comparisions

How bad is the current employment situation. Krugman posted a set of charts on his blog that give a number of different ways to compare the current unemployment situation to past recessions - decline in employment, rate of unemployment and duration of unemployment. As could be expected, this recession is the worst is all categories. As a point of comparison, the second worst recent recession was in 1980 - with a large decline in employment and high unemployment, but the duration of unemployment was short.

I like these types of charts because the comparisons they make are great for class discussions.

More on Structural Unemployment

Mark Thoma's Economist's View blog has more of a break-down on the issue of rising NAIRU and its effect on macro policy - particularly, whether the Fed should be concerned with it. The idea for the Fed is that it could raise its inflation target rate to 4%, which would cause the economy to move up the Phillips Curve to a lower rate of unemployment.

Structural Unemployment & NAIRU

Defining and explaining unemployment is an important lesson in any economics class. A lot of time is spent on differentiating between the different types of unemployment and the solutions to them. A lot of the current focus in the news on unemployment is on the cyclical unemployment created by the recession, with some discussion about how many of the cyclically unemployed are actually shifting to become structurally unemployed. Usually, I use this as point for a discussion on the importance of education, and support for continuing education, so that the structurally unemployed can return to the work force, at a different job with their new skills.

However, there is a second discussion that I should be having with my students about how macroeconmoic policy can reduce the shift from cyclical to structural unemployment. This is one of those discussions that bring together a bunch of ideas from different parts of the course.

Reading today's posts on other blogs clued me into that discussion. The importance of structural unemployment is raised on the Economist "Economics by Invitation" blog (the answer by Mark Thoma is quiet good from the teaching perspective on the role of technology) and the point is followed up by a post on Krugman's blog, where he notes the increase in NAIRU (non-accelerating-inflation rate of unemployment). The problem is that this means higher permanent unemployment, even when the economy recovers.

The important point, and the one where it is crucial to remember the definitions of unemployment, is that structural unemployment will not be measured by the official unemployment numbers. Most people who are structurally unemployed will effectively drop out of the labor force (typically by claiming disability or "retiring").

The other important point here is the output gap, or the difference between potential and actually GDP. The measure of the output gap is an indication of the true depth of the recession since it shows the amount of GDP that could be produced from fully utilizing resources.

The output gap has been a way of noting the severity and length of the current crisis. Projections show that even when the economy is growing again (we are in recovery with growing GDP), it will be a long time until potential output is again equal to actual output. However, with higher structural unemployment, we may close the output gap faster, but be poorer for it. And be permanently poorer because of it.

One big factor in the shift form cyclical to structural unemployment is the length of unemployment. The longer a person is unemployed, the more their skill set declines and the less employable they become. So, the effect of increasing structural unemployment in this current recession is not just a factor technical change in the economy, it is also an effect of the severity of the recession. This is a place where stimulus employment may have a significant long-term effect to lower structural unemployment, hence make us all wealthier in the future.

More Signs of Deflation

Following up on my earlier post today about deflation, the blog Macro and Other Market Musings had a good graph on expectations of future inflation. Here it is:

The recent history shows a steady decline in long term inflation. The Free Exchange blog at the Economist noted how if it was in Congress, this would be the one thing it would ask Bernanke about.

As for his testimony, Bernanke saw unemployment staying high, above 7% until after 2012. The reaction, the stock market tanked.

Deflation: Then & Now

The Economix blog at the New York Times posted a chart and explanation comparing the rate of deflation now to 1929, at the start of the Great Depression. The chart is shown below:

There are two points to note on the chart. First, it clearly shows the deflationary effects of the credit crisis - the rate of deflation was worse than that of the early Great Depression (that deflationary period set off a vicious cycle that led to later deflation). The second point is how, in the longer run, the more recent deflation problem has been relatively small - until recently. The big question is whether this recent downturn (last three months) will continue. The high level of unemployment and low consumer confidence are not encouraging.

From the perspective of teaching, I really like the chart above because of the comparison it sets up. My students are seniors, so they have had U.S. History and know about the Depression. A chart that sets up a comparison is good because it gets the students thinking about what might be different this time. While lots of things are different, the biggest difference is policy. The halt of deflation in the months after the credit crisis was the result of very active monetary and fiscal policy. The point of the chart it that it demonstrated that these policies worked - in the sense that they put off economic collapse.

A good question to ask students is how to use the information in the chart to forecast where the economy is going and what, if any, policy should be enacted. In other words, should the Fed be more aggressive in an easy money policy and should there be more fiscal stimulus, since both policies would be inflationary (or at least anti-deflationary). Getting students in the practice of forecasting and thinking about policy is getting them to do what economists do.

Whiteboard Videos

The current economic crisis has made teaching economics more difficult in many ways. Chiefly, there is the problem of how to explain the crisis to students who do not know much about economics or the economy (no surprise there). The problem of of teaching difficult and complex material is something that teachers are constantly dealing with. Consider the problem of teaching the Holocaust - not a simple task at all. Typically, teachers try to break it down into smaller parts that students can relate to and in terms they can understand.

However, one of the big problems with the current crisis is that the smaller parts fit together in complex ways and the basic terms are obscure. This is especially the case with the financial terms and concepts that are at the core of the crisis.

The radio program Marketplace has a good series of videos that deal with all aspects of the crisis. In the videos, Paddy Hirsh, the commentator, diagrams a concept or term and explains how it fits into the crisis. The videos are an ideal teaching tool because they are short (less than 10 minutes), simple and entertaining. This is a link for the videos. I recommend starting with the one comparing the economic crisis to an Antarctic expedition.

I have used these videos in my economics classes for the past year and my students love them. Typically, I assign them as homework (I have bandwidth issues at my school) and quiz the students to see if they have watched them. I have also used the model of the whiteboard video as a project for my class. I have my students pick a concept that the course has covered and make a short whiteboard video on the topic, which the whole class watches. The results have been very entertaining and lead to some good class discussions.

Unemployment, Housing & Confidence - When Good News?

Teaching students about the meaning of economic statistics is very important, and there are always news stories that help making these lessons in statistics current. In my economics classes I try to focus more on the forward looking statistics (leading indicators) rather than the lagging indicators. Unemployment and GDP numbers are classic lagging indicators that show where the economy has been, this is because they are calculated and posted for previous months or quarters. These statistics are important and good for gauging the economy, but provide little insight into the future.

Other, and more obscure, economic statistics are better at giving an idea of the future. Consumer confidence is the classic leading indicator. Since 70% of economic spending is consumer based, how consumers choose to spend their money is an important part of seeing where the economy is going. The Free Exchange blog, from the Economist Magazine, has a chart and description of the bleak consumer confidence numbers that came last Friday. That connected with the core inflation show that we are a long time from a recovery.

Other statistics that point to the lack of recovery are the newest housing numbers from the National Association of Home Builders from the Free Exchange blog, which shows the NAHB index going back down to the lows of the recession ( and is again below the lows of the 1991 recession).

If that is not enough, there is the graph on Free Exchange showing how long it will take to close the job (employment) gap by comparing the current level of joblessness to the history of the past few decades. As the post makes clear, it could be five years to a decade before this gap is fully closed. It adds in the thought that the economy may not reach full employment before the next recession.

Interactive Graphs

Teaching economics means teaching graphs. More accurately, teaching economics involves teaching spacial thinking. The trick os to get students to be able to visualized the graphic models, or at least be able to visualize how changes might affect the graph. There are many ways to do this through lecturing or having students run through problem sets. The ideal would be to have graphs that move and are interactive. There are many sites that have interactive graphs to use in economics. Here are a two of the better ones.

Wolfram demonstrations has interactive graphs for high school economics (and loads of other subjects) that are available for download. These graphs are nice because the illustrate some of the more subtle concepts that are crucial to fully understanding a concept, such as the relationship between revenue and elasticity.

Think Economics has a good set of interactive graphs with explanations, policy prescriptions and some questions (in which the inactive part involves demonstrating the solution on the graph).

Hand signals on the Chicago Exchange

When I teach about financial markets, I usually show part of the PBS Nova documentary The Trillion Dollar Bet about options (this was done about ten years ago and it describes the Black-Scholes formula for pricing financial options and meltdown of LTCM - because of the current economic crisis, this is a documentary that has actually become a more useful teaching tool over time). In it there are several great scenes of the Chicago Mercantile Exchange showing the floor traders flashing hand signals at each other to make their trades. Students always ask, "How do the signals work?" and "What do the signals mean?"

Now I have the definitive answer. Ryan Carlson, a former floor trader, has setup a web page with a history, images and explanations of the hand signals. I was clued into this by the Wall Street Journal article, "Trader Keeps Hand in History".

Cool.

1937 Again?

The debate for another or continuing fiscal stimulus has continued to be a Major point of debate in columns and blogs. The New Keynesian economists are making a big push for additional stimulus spending, or at least calling attention to the idea that they have most of the good arguments on their side, but are still losing the policy battle. Brad DeLong has an column in The Week called "Keynes and Co have lost the stimulus argument" in which he outlines this idea and explains the reasons he believes this to be happening. The Week also has a surprising column by Robert Shrum called "David Brooks' neo-Hooverite plea" in which he takes New York Times Columnist David Brooks to task for opposing Krugman arguments for more economic stimulus in his column piece called, "A Little Economic Realism". The back and forth of this argument is a good primer in the larger debate over austerity vs. stimulus. If school was in session, I would be using these columns as homework readings and the basis for class discussion.

This economics debate is really the material that economics teachers should be grabbing. On the core economics, I have not found anyone with a good counter-argument for Krugman. Simply put, his argument is strong on the economic theory and policy. However, the fact that his arguments are not winning the day in terms of policy is telling - and an educational moment.

The big question a lot of people are asking is whether Obama is about to repeat Roosevelt's 1937 austerity program. In the mid-Thirties, the Depression seemed to be lifting (the way the economy was seeming to do this spring). At that point, Roosevelt scaled back spending and raised taxes to balance the budget. This sent the economy back into the Depression. It was this burst of austerity that killed the New Deal programs' historical average (i.e. people who say that the New Deal did not work to create jobs of improve the economy generally ignore the austerity of 1937. Up until 1937, the New Deal was working). When looking back at history, students often wonder how anyone could have opposed Roosevelt in enacting the New Deal because in historical hind-sight it seems so foolish - and cruel hearted. Well, now we see it up close in our time and it is easier to understand the politics of that period and to see where the "cruel heartedness" comes from. Too bad this teachable moment is coming in the summer.

The interesting thing is that economic theory has come so far, and is a lot more sophisticated, yet the voice of economists is being drowned out by non-economists. As Shrum points out, Krugman's economics are right (the Economist made this point last week), yet Brook's arguments, which downplay economists' models, is winning the debate. While this reality causes Krugman, DeLong and other anguish, they largely chalk it up to the ignorance, cruelty and self-serving nature of the people that oppose them. I think a larger question, which part of the reason for this blog, is whether economists have spent too much time talking to themselves and not enough on educating the larger public in economic theory and policy. The analogy for the time is this. Economists are like doctors who have a medicine to fight a disease and the public is like the patients who need the medicine, but do not trust it or are afraid of the side-effects. Right now, economists lack the credibility to get people to take their medicine and results could be bad. How bad? Long slow recovery with chronic high unemployment for the next four years - that is the diagnosis.

Financial Illiteracy

James Surowiecki of the New Yorker has a good column on financial illiteracy this week and how it fits into the current crisis. It has a lot to say about the importance of financial education and its effect on life, and the lives of all of us. Sounds like economics education should have more attention paid to it by policy makers, economists and the general public.

Unemployment Numbers and their Meaning

The new unemployment numbers last Friday were grim. While unemployment did nudge down to 9.5 % (from 9.7%) that is because more people left the labor force. That is not a good sign - it shows we actually have longer time to go before there will be any recovery in jobs. Throughout this recession, but especially this spring when it seemed as if the numbers were showing the economy was slowly nudging toward recovery, the constant refrain was the unemployment is a lagging indicator (it follows behind the business cycle), so it will only come down after the economy is into recovery. However, and this is why it is important to teach students how unemployment is calculated, the unemployment number can be greatly affected by the number of workers who choose to leave the labor force because they are "discouraged". The Friday unemployment numbers show increasing worker discouragement - a bad sign. Ironically, as the economy recovers, unemployment should actually go up as more workers re-enter the work force because they believe they can find jobs.

We may be heading into a situation of sluggish growth with high unemployment. Not a recession and not a recovery. A bit like the seventies without inflation.


This news has further fuelled the debate over austerity versus additional stimulus spending. This is particularly focused on the extension of long-term unemployment. There are a number of good articles out there that get to this point well. First, Edward Glasser of Harvard has a good piece in the Economix blog at the New York Times web page in which he sets out the basis points of the debate and provides a historical lens to see the debate through.

On a related note. The Sunday New York Times had a good article on Kenneth Rogoff and Carmen Reinhart and their book "This Time is Different" which is a history of financial collapses going back 800 years. The point of their book, hence the title, is that through out history people have said that the financial collapses of their times are "different" from the previous experiences, but that is they are really very similar. Their analysis shows how speculative bubble cause vicious financial collapses that can lead to massive government debts and long protracted recoveries. Sounds familiar? Unfortunately, their book is to dense for students - which is too bad because the insight is so important. Because of that, I think the article is a good short and concise way to introduce students to the concepts of their book. I am planning to assign the Times article with another one by Paul Krugman and Robin Wells from the New York Review of Books which puts the ideas from "This Time is Different" into the context of the current crisis.

At this point I am debating when I should assign the articles. At the start of the year, as a way of introducing the current state of the economy, or during the unit on financial markets and their affect on the economy. Right now my thoughts are to have them at the start of the year.

Policy Debate - Stimulus vs. Austerity

There is a huge debate going on over macroeconomic policy across the world. The core of the debate is whether governments should continue deficit spending to stimulate economies to address the record high unemployment or if they should adopt austerity policies (reduce spending) to reduce debt, or at least control deficits. This debate is outlined in this week's leader in the Economist, which has already responded to by both DeLong and Krugman.

Instead of weighing in on the debate, I want to focus on how important this debate should be to teachers of economics.

For teachers, presenting this conflict is about getting students to understand that this is a debate that gets to the core divisions in macroeconomics between the Keynesian side and the Rational Expectations side of the argument over the ability of the economy to recover from economic problems without government action and the inflationary implications of policy (both fiscal and monetary). Students need to be taught that this intellectual debate really matters since the policy implications have serious implications for millions of people's lives. The intensity of the debate, and the lack of deference shown by either side, is an indication of how seriously both sides view the policy ramifications.

One of my goals in re-organizing my economics class is to frame the macroeconomics part of the course around this debate. Framing the macroeconomic section this way affects how I teach other parts of the class, such as the microeconomics section and injecting a unit on behavioral economics, to give the students the micro foundations to understand the macro debate. It is not a new debate - it has been raging in one form or another since the Great Depression and the rise of Keynesian economics. And, it was largely thought to have been resolved. That is until the current crisis, which has just reignited the conflict. There are two good articles that teachers can use to give a background to this debate and connect it to the current economic crisis. The first, and more accessible, is Paul Krugman's article "How did Economists get it so Wrong". The second, more advanced article is Gerg Mankiw's "The Macroeconomist at Scientist and Engineer".

With many world governments saying they will be enacting austerity measurements and the Congress refusing to pass an extension of unemployment benefits, this is a debate that is far from over, but at the front of economic policy.

Stay tuned.

Redesigning Course Overview

As I said in the first post, one of the main reasons for starting this blog is to record and share my thoughts as I change my economics course to reflect the way economics has changed since the beginning of the crisis in September 2008.

Before the crisis, I had been teaching economics for over ten years and my course had followed the standard micro/macro format. When the economic crisis hit, I found myself teaching a lot of material which I had previously only covered in passing or reordering how I presented material to answer student's questions about how the crisis was unfolding. The more I adapted my course, the more I became aware that it needed to be totally reformatted. A good example of this is the location of the concepts of market failure and public choice theory. I use to teach these as part of the microeconomics portion of my class. However, the concepts of moral hazard, asymmetric information and rent seeking behavior, have become common terms to explain the crisis and students need to know them to understand the current debates. So, I have changed my course to have a unit on these concepts right after the unit on markets. The logic of this is to have students understand why markets work and are beneficial, but that markets are not the solution to every problem - which is a mainstream economics idea, but one that is not grasped by most economics students (at least at the high school level).

However, while the economic crisis might have been the reason for reorganizing the course, the reorganization is not based around the crisis. Rather, as I reorganize the class, the guiding idea is to construct a class that will show students how different pieces of the economic puzzle fit together, become aware of how economist work to understand the the world (build models), and understand the key points of debate between the economists - chiefly this is the New Keynesian vs. Rational-Expectations debate that is at the core of macro-debate. Basically, I want my students to finish the course having a developed an economics thought process, and appreciation of how economists work and being able to follow the current debate over economics and economic policy.

I expect that the final result of this project will be a course that is more of a general (at an advanced level) introduction to economics than a macro/micro course.

I should note that I do not teach an AP Economics course. My course is an advanced class - it covers much of the AP material - but it is very different from an AP economics class. For example, I do a lot less work with problem solving through graphical analysis and more with math (including some basic calculus). There are other ways I differ from the AP program, but I will outline that in a later post. Not being tied to an AP program gives me the freedom to make these changes.