Economics of Cinnamon Sticks!

I always wondered why cinnamon sticks look the way they look here in US. Back home, in the grocery store I usually shop, they always came as a bag full of chipped bark! In US they are nicely rolled up and longer pieces of bark. Apparently this is not limited to cinnamon but extends to almost all the spices or other goodies that come from far off places to the American markets. Why, do you think this is the case?

I stumbled on the answer while I was browsing random text books for the course I will be teaching next semester. It is called the Alchian-Allen law, after the two authors that first thought about it. The story goes somewhat like this. Suppose, in Srilanka, cinnamon sticks come in two qualities, one nice long rolled up barks (high quality) and the other just chips of the bark (low quality) and suppose the high quality stick costs $2 a piece and the low quality one costs 50 cents a piece. The relative price ratio of the high quality to low quality cinnamon then is 4. Further suppose that to transport these sticks to a store in New York city, it costs $1 per piece irrespective of the quality. Now the high quality cinnamon costs $3 whereas the low quality one costs $1.50 implying a relative price ratio of 2. It means the high quality cinnamon is relatively cheaper in US than in Srilanka. As a result, US consumers will consume more high quality cinnamon than the Srilankan consumers. However, because cinnamon is generally costly relative to other goods in US, consumers here on the whole will consume less cinnamon than consumers in Srilanka or for that matter than those in India.

Isn't that neat? Well, if you are smart you already might have figured that out but if you are a bit slow like me, suffice it to know that its a simple application of the law of demand. Consumer theory tells us that quantity demanded of a commodity is a function of its relative price and not the absolute one. That is precisely what we see here happening. The neat trick is to realize that adding a fixed charge lowers the lowers the relative price in the foreign place and that causes the consumers there to demand more of high quality stuff than low quality stuff. Thus, in general foreign place ends up consuming higher fraction of the high quality good but their overall consumption is less than where the good originates.

This is indeed a remarkable result and holds for a lot of commodities that are traded over long distances. As Eaton et.al say, examples of relative price effects are infact quite numerous. To mention a couple, Americans drink less of French wine than French but the proportion of expensive wine is higher or the New Yorkers consume fewer grapes than Californians but a higher proportion of high quality grapes.

This neat trick of fixed charges can work beyond explaining the effects of transportation charges. Consumers who prefer hand tailored suits to ready-made ones mostly also choose more expensive quality cloth because the fixed tailoring charges lower the relative price of expensive cloth. Tourists tend to spend on restaurants in your city much less than you do but most of their spending goes on good restaurants and so on. At the risk of generalization, it also explains why the world outside the Indian subcontinent prefers less spicy food. It now might be a habit but it arose in the first place as a result of the Alchian- Allen law!

I will leave it you to figure out other such examples. As a hint let me tell you that this law has another name- shipping the good apples out!


References:

Eaton, Eaton, and Allen (2005), Microeconomics, Pearson Cananda, 6th Edn. Chapter 4.

PS: Other than the cinnamon sticks one, all examples are from this chapter.

Race and financial deregulation

Policies can have unintended consequences and most of the time if we talk about them they are negative. However, financial deregulation in US might have had a favorable one; that of reducing the wage gap between whites and blacks. This weeks Economic Focus from the Economist comments on two papers which argue that it was indeed the case.

Is Obama really that different?

If Obama wins the elections tonight, it indeed would be a historical moment. But what does this mean for other nations? Will the rise of Obama significantly alter the way the world sees US? Will US ever refrain from mindless meddling in other nation's affairs under the pretext of "war on terror"? Will it ever stop touting 9/11 as the only deplorable act of terrorism in the world? Will it ever stop to think that people who see American planes bombing their homeland actually see it as act of terror?

This article in the Economic and Political Weekly uses the words of Obama from his book, The Audacity of Hope, to speculate about what exactly we might have in store when Obama becomes the President of the US.

Nobel in Economics

So as you know this year's prize goes to Krugman and rightly so. But it is also interesting to see that the Nobel committee is not above popular perceptions. In awarding the prize for work in international trade it conveniently forgot Jagdish Bhagwati and Avinash Dixit.

Bhagwati should have got it in his own right, though its diffcult to put your finger on one particular contribution. Dixit should have got it becasue Krugman would not have got it in first place if Dixit did not write that paper with Stiglitz!

So its important to do good work, but its probably more important to make your presence felt!

Economics of free labor mobility!

Ever wonder what would happen if humans moved freely across borders as against just goods and capital? Jess Benhabib and Boyan Jovanovic of the NYU have something interesting to say on this. They ask what level of migration would maximize world welfare. Welfare is assumed to be a weighted average of the utilities of the world’s various citizens. Using a calibrated one-sector model they find that unless the weights are heavily biased towards the rich, the extent of migration that would be optimal far exceeds the levels observed today. The claim remains true in a two-sector extension of the model.

Of course, political considerations and constraints are paramount in formulating an immigration policy; be it allowing in geeks or non-geeks! Notwithstanding this, the Benhabib-Jovanovic paper is definitely an interesting thought and simulation exercise in a relatively unexplored area of modeling and policy analysis.

Click here to read the article.

A Tale of Twenty Cities!

The National Council of Applied Economic Research (NCAER) has recently published a report titled, "The Next Urban Frontier: Twenty Cities to Watch". NCAER definitely expects the report to be a cash cow given that its priced at Rs.100,000 (approximately $2200)!

But that does not mean that you have to go without reading it. Here is a PowerPoint presentation based on the report. Relax, the numbers do all the talking!

McCain or Obama: What do economists think?

This recent article in the Economist gives interesting statistics on what Economists think about the two presidential candidates. Interesting points to note:

1. Economists either identify with the democrats or abstain from identification. Very few identify with the republicans.
   
2. A significant proportion of economists think that elections will influence the economic policy in years to come.

India-US Nuclear Deal

This controversial deal for trade in nuclear reactors targeted for civilian use has finally come through. All the downside apart, it will be great to have the energy problem solved in a much cleaner way. Read the coverage in the Financial Times for details.

However, given that the nuclear deal is for non military purposes, there is nothing ironic about it coming through on October 2, as FT would like us to believe!

Supreme Court, Hussain & Hindu Morality

The recent Supreme court's stand on M F Hussain's nude portrayal of Bharat mata as being a piece of art could come as a surprise to some. Of course the so called "Hindutva" brigade is not at all happy and the so called left- secular lobby could not but betray a smile!

Now are Hindu's really not used to having their gods and goddesses scantily or not clothed at all? The answer is no. Through out history we as people living beyond the Sindhu river have never been moralizing about nudity or overt displays of love and sex. We celebrated love, life and bodily pleasures. Look at the walls of Khajuraho or Konark temples or the various statues of fertility goddesses. To have a glimpse of how common people viewed these things read Gatha Saptashati. Now I know this is gross simplification and also anachronism, but you get the point right!

Hindu values (or the way VHP and likes would like to think about it) have changed a lot in the last two centuries and now resemble more the Victorian ideals of morality. So are they not real? Actually they are- we as Hindus today believe in Victorian ideals of morality as being the essence of being a Hindu. There is no problem with that. The problem is believing that it has always been like that or allowing politicians in fooling you to believe that way.

So is M F Hussain wrong in painting Bharat mata nude? As I said, some three hundred years back we would not have thought of it as wrong. But today we are different and we would react in a different way. Would every body join the bandwagon? I do not think so. There are still some people who see things differently or a have a more balanced perspective because of reading history.

Having said that, it is also notable that M F Hussain has never used his artistic expression to portray Islam or Christianity. It would be interesting to see how he would do it and how these religious groups react to it.

The so called left liberals and secularists are a different creed altogether. For e.g., I did not read any news about the secular brigade criticizing the Christian response to Dan Brown's Da Vinci Code in India. So its the art of politics that they have mastered or what we would call engaging in selective empiricism!

China and inflation in rich countries

This recent write up in The Economist gives some more arguments on why China cannot be blamed for the recent inflation in rich countries.

D D Kosambi Birth Centennial Issue

Here is the link to the D D Kosambi Birth Centennial issue of the EPW. For those who want to know who this guy was, visit this link for some biographical information.

India and Globalization

This is a very interesting discussion by Martin Wolf and Quentin Peel on India and Globalization.

Bomb Blasts in India

As regrettable the recent bomb blasts in India are, there is also something new about them. The responsibility is being claimed by an obscure group called "Indian Mujaheddin" and does not seem to have a definite objective. Of course, any such kind of violence is destabilizing and creates an environment of mistrust and religious tensions. This article in the NY times gives a good summary of what happened and what is the current state of investigation.

Global Warming and Macroeconomics

A very interesting application of the dynamic macroeconomics tools!

India and its Left!

The showdown ulitmately yeilded a coalition government that may be standing on even more tenuous grounds than before! But yes, the Leftists are out of the government now. What are the gains? Will the nuclear deal come through in time before Prosident Bush's term expires? Well that needs to be seen and any cynicism on this front would not be completely out of line. Nevertheless, it remains clear that anything that augments energy capabilities of India should be welcomed.

What becomes of the Left in India? It certainly is not dead. Having continuously ruled a couple of states for quite some time now, they are anything but dead. However, the confidence vote is definitely a setback to its efficacy. The economies of the states that it rules are also not in great shape. West Bengal lost its industrial leadership long back and never really recovered since. Kerala has an amazing record of human development but probably survives on remittances more than any local economy. So there is not much to show in terms of economic success for the Left. As the EPW rightly (and finally!) argued, if the Left wants to have any chance of dominating the central politics it has to have a backing of a successful model. Unfortunately, this is not the case; neither in India nor anywhere else in the world.

Notwithstanding this, one successful contribution of the Left has been in the area of public debate on important economic and social aspects of the Indian economy. And this is surely an important one. If such debates have prolonged the much needed economic reforms, they also have helped avoid unnecessary pitfalls. For example, the left winged economists in India argued against allowing capital mobility long before the mainstream economists started seeing sense in such a policy. The Left intelligentsia has long supported the peoples struggle against poorly executed mega projects like the Narmada Dam.

But apart from such successes, it is indeed true that the Left has much less to offer in terms of economic success. And so long as that remains, it would be difficult for them to contribute meaningfully to politics and governance in India.

A Splendid Exchange

This book by William Berstein is a must read for all those who are interested in the politics and economics of trade. The Economist casrried a good review of the book. I could not agree more with their assessment of Bernstein's book. It indeed is a fascinating read and leaves you much wiser than before. Having said this, I would like to jot down certain points of criticism.

Along with providing evidence for our eternal urge to truck and barter, the book also brings to light the frequent human desire to consume at whatever cost it takes. It is an important lesson to learn that trade has shaped the world and we all have immensely benefited from it. However, we should not lose sight of the extent to which greedy nations and corporations will go to enjoy the goodies of trade. Wiping out a complete island for nutmeg by the Dutch or the atrocities committed by the Portuguese in the Indian Ocean is a case in point.

The author thus, fails to note that not all exchange can be called as trade, at least by today's textbook definition. If the Portuguese, Dutch or the English seized political control in order to secure supplies that cannot be termed as beneficial trade.

Even though the book successfully tells the story of how trade shaped the world, it tells the story primarily from western point of view. So much so that at times I felt the title should have been how trade shaped the "Western" world. The story of how centuries of trade affected the economies of China & India gets at best an incidental description. This is in spite of the fact that the silk route and the spice route originated in these countries. Of course one could argue that it is the story for atleast two additional books!

In spite of these lacunae, I think the book does a pretty good job of putting history of trade in perspective.

Pollution Concerns

Well, people say there is always some environmental cost of development. But in case of India these costs turn catastrophic becasue of tragedy of commons, corruption and citizens, who dont give a damn. If you are not convinced, this article should be an eye opener.

US and the World Oil Prices

The recent oil price rise comes as a shot in the arm for the US as it continues to allege the growing economies of China and India for the rise in price of oil. Rising to $142 per barrel, the oil price hit the highest level for the previous season. One of the reason for this price rise is Libya's proposed cut in crude oil production as a response to the bill before the US Congress that would empower Washington to sue OPEC members for cutting supplies*.

As I mentioned in a previous post, China & India constitute 9% and 3% of the world oil consumption as against 25% of US. Despite the fact that the growth in these countries is pulling millions out of poverty, US wants these countries to curb their demand. Oil not only gets consumed as a final product, it is also an essential ingredient in many production processes. Thus, higher oil consumption is an inevitable outcome of growth. By asking China and India to curb their demand, we are indirectly asking that they slow their growth. And all this so that we can continue with our high levels of consumption!

I think its high time the government stopped using power to control actions of other nations just because they threaten our comfort zones. Will it really hurt if next time we want to take a vacation, we hop on a Peter Pan or a Greyhound, instead of driving the gas guzzling SUV? Let trade be really free and hence, refrain from using political power to change the terms of trade in our favor.

Its indeed true that OPEC benefits a lot from hoarding supplies. But if we take a step back and think about it a bit harder, then this monopoly may not be all that inefficient. It keeps our already high level of oil consumption from shooting up and in the process allows other growing countries some leeway. It forces us to develop cleaner technologies and thereby reduce our oil dependence. So, in the process of ensuring reserves for their future generations, the OPEC countries may be actually ensuring sustainable development for all countries!

And then if US is indeed able to sue the OPEC countries for cutting oil supplies, it might turn out to be a stab in the back of all future generations.


*See this article from the Financial Times for other possible reasons and related news analysis.

Ashis Nandy and the tragedy of the Argumentative Indian

Ashish Nandy is an influential political psychologist and has written sensibly so far. However, he is being legally persecuted for writing an allegedly provocative piece in the Times of India. His article is been touted as an assault on national integration and hence, its claimed, that he should be tried under the Indian Penal Code. An NGO claiming to deal with civic liberties has filed the case.

First question is where was this NGO during the riots? We do not have to go into the details of who started the riots and for how much of it is Modi government responsible. It would be reasonable to expect that a NGO which finds Nandy guilty of writing a provocative piece should also find Modi government guilty of not being able to control the riots or mishandling of the relief work post riots. Is this failure of Modi government not a violation of civic liberties or detrimental to national integrity? And does not it deserve the same treatment as has been doled out to Nandy?

Well, we know that when actions are politically motivated it is kind of hard to expect fairness. Having said this the important question still remains. Is Nandy's article detrimental to national integrity? It is definitely not. Is it provocative? I think the only thing that it provokes is thought! But isn't that is what the written word is supposed to do?

It is indeed high time we question the divisive politics that seems to be catching a significant number of people by fancy. So yes there is a need of continuous efforts to educate people about games that the politicians play. And to this end we need thousand times more of Ashis Nandys writing in all sorts of languages and forms and debating on all sorts of forums. Through reason we progress and see things which emotions try to cover up or at least color up.

If you still disagree with what Nandy has written put your thoughts in words. There is a reason why the system of writing to the editor of a news paper came to exist. With internet it has infact become even easier to use. You can comment then and there itself. The fruits of technology should be used to harbor social cohesion and not division. And cohesion will arise only through dialogue and exchange of views. It definitely cannot come through frivolous lawsuits launched by even more frivolous organizations. I would be more than happy to see BJP condemning the law suit and hope that it sincerely does so. It should do it despite the fact that Nandy accuses most of Sangha Parivar for the divisive politics. It would signal that it is open for dialogue and arguing its case rather than flexing muscles through organizations like Bajrang Dal.

Even I do not agree with some points that Nandy makes. In having a penchant for voilence he clubs Bengali babus, Maharashtrian Brahmins and Kashmiri Muslims together. While mentioning countries as maneaters he forgets to mention Chinia (we have not forgotten Tianmen square) and USSR. He also fails to mention the Maoist factions of left having a penchant for violence. By blaming Sangh parivar for radical Islam he absolves all the fundamentalist Islamic groups in India of any responsibly for their actions. I think these are good examples of gross simplification and selective empiricism. It can actually amount to distortion of history and Nandy of all the people should not be engaging in it.

However, I do agree with his objection to the role of the media. News papers in general and regional news papers in particular have failed to play their role as educators of the society. In catering to market demand they seem to be more than happy to role out pages of crap, bland and sterile psycho babble.

With all these agreements and disagreements the point still remains-pen it down and let people respond to it! Common man, as is often supposed, is seldom a fool.

Fast Food Nation!

I have to admit that I stumbled on this book just recently, though it was published in 2001. But it is so disturbing that I had to write something about it. Eric Schlosser does a wonderful job in bringing out the implications of the way we eat food today in US. It is not only the story of the quality of food, but it is also one of the unfettered greed of giant corporations and hence of the murky side of market forces.

It gives a lot of other information along with the story of greedy corporations determining what you eat and how will it be made. For example, I did not know that one of the American car companies bought the rail network in the west and destroyed it completely to create demand for their cars. These companies were later tried for monopolistic practices but the damage was already done. It was also interesting to know how various corporations use the state to grow. For example, many franchisees of a well known fast food chain have been developed through concessional state financing meant for small business development. Corporations have threatened to leave a particular state and bargained for reduction in taxes. They have lobbied for least regulations by financing election campaigns and in the process have taken consumers for a ride.

If all this is not enough, some of them have been regularly hiring illegal immigrants as they are cheaper than US citizens. They also do not have any legal standing and hence the hiring companies do not have to worry about insurance and other legal benefits. Much of the description of how they handle the poor immigrants reminds us of barbaric industrial towns of Europe from the earlier times that reeked of anarchy, disease and filth. It is hard to believe that a significant number of workers here in US have to face such hardships amidst all the glitter and sanitized psycho babble of violation of human rights in the rest of the world.

Even more disgusting are the details of how the meat packing industry functions. The scale and speed with which it currently functions is overwhelming and I leave it to the readers to discover the details. Suffice here to note that the meat packing industry not only has resisted any food safety regulation up till now but is also responsible for mindless perversions and meddling with course of nature. Cattle which is by nature is meant to be herbivorous has been fed for decades with dead cattle, cats, dogs, horses, pigs and chicken. Even chicken is fed with dead cattle and of course dead chicken.

I do not have enough scientific knowledge to comment on the biological and environmental implications of these actions, but it certainly does not feel right. At least I know for sure that our bodies are designed to digest certain types of food and that's certainly the case with animals. In a normal course will a dog or chicken eat beef? Will a cow eat a horse or a pig? More importantly will a cow eat cow or chicken eat chicken? If this is taken to its logical end will we ever consider it normal to eat dead humans? I am inclined to answer in negative but you are entitled to your opinion. At least after reading the description of what all goes in that burger patty, I am happy to recommend a glass of orange juice for lunch. With it you will only starve for a while but definitely not die!

The development of American capitalism thus raises far more fundamental questions than just the selfishness of corporations as evident in the brutal denial of basic human courtesy to fellow human beings. Corporations built to serve human beings seem to have grown so larger than life that they deem some human beings completely expendable. And this disease is spreading to other countries as well, as these corporations open shops there and more and more people around the world yearn for a fast life style.

What do I say more here? Read it for yourself. After all some body aptly said- read and be wiser!

Blame it on China and India!

There has been a lot of talk recently about how everything from world food prices to world oil prices is caused by increased consumption by China and India. For example, see this article. This is a good example of flawed economic but mass appeal reasoning and the government as well as the media seem to be more than happy to cling to it.

A closer look at the consumption of oil statistics (CIA factbook), is an eye opener. Oil consumption of US is 26% of the world oil consumption whereas Chinese consumption is 9% and that of India 3%. With such small numbers, oil consumption of India and China will have to grow more than 100% to compete with US consumption and significantly affect world oil prices. This also makes the question of reducing the oil subsidy by these countries a non issue.

Comparison of per capita consumption figures is even more revealing. US consumes 11 liters of oil per capita per day while China and India consume 0.8 and 0.3 per capita per day. Given this, one could easily argue that reduction of US consumption will contribute more to reduced oil prices than that by China and India.

Coauthor: Devayani Tirthali

Has trade worsened the wage inequality in US?

There has long been an arguement that since US' trade with poor countries like China has increased, demand for domestic low skill jobs has reduced. This is because imports from poor countries displace goods produced in US by the low skilled workers. In effect the wage gap between the skilled and unskilled workers has gone up and trade is obviously to be blamed for that.

The evidence is at best mixed. This article in The Economist gives a good summary of what economists have to say on the issue.

Bhootnath: Films and the economics of identity.

I came across this fabulous song sung by Amitabh and Juhi Chavla in the film Bhoothnath. I liked the song so much that I decided to check out other songs from the movie and then eventually the movie itself. I usually avoid such mistakes when it comes to Bollywood movies. No, don't get me wrong. I am far from being the alternate cinema snob. I like good action packed as well as the mushy sickeningly pink hollywood movies and I survive on soaps on television. I enjoy the regional movies from India too. But somehow the brainless, senseless and artificially stylized Bollwood movies scare me off almost always!

Back to Bhoothnath. What I found most interesting apart from its concept, which you might say is inspired by Casper, is the songs featuring kids. They are raunchy and foottaping numbers filmed in the current style of hindi movies with lots of gals and guys surrounding our main characters from the film. However, the imagery used is bit different form what I have seen (or not seen!) earlier.

There are kids wearing bandanas, steel chains and similar jwellery and sometimes girls masquerading as cheerleaders. Sometimes they are shown playing American football or bouncing a basketball or standing on a street corner surrounded by girls and bikes. There is no more the galli pappu who breaks the window pane with his cricket stroke. Instead there is cool dude who breaks a TV with a baseball stroke! One song, featuring Amitabh with kids, includes a scene where he stands kneeling on a wall on a random street corner with a sweatshirt hood and his glasses on.

What do you think is common in all these imagery? You got it. It comes from Uncle Sam's own country! Completely devoid of its context though. Very few people in India would understand the sociology of the hip hop imagery and its origins and very few parents in US would think that its cool for their kids to hangout on street corners. Still the way in which Bollywood movies mix imagery with distorted contexts to create a completely stylized representation is worth serious study.

What do we take from this? Well you could brush this away calling me a jerk and a spoilsport or think a bit hard and speculate about its economic ramifications. The film is sponsored by company's like McDonalds. It is well documented how these chains used marketing strategies to target kids and ended up fundamentally changing the way people treat and eat food in the US. Eric Schlosser's Fast Food Nation is an eyeopening read in this regard. Hence, given the fact that a generation of kids fed on American imagery is good for business, it may not be unreasonable to expect that such companies will do whatever it takes to create such a mindset.

Of course this is speculation and you might deem it as far fetched. But its sometimes good to be a bit of an alarmist and see things even if everyone else does not see them. Its fun and ticklishly heretic!

Blame it on the Rest of the World!

President Bush's statement that food prices are rising in US because Indians are eating more is yet another illustration of the fact that most politicians across countries are unconditionally ignorant and enjoy making senseless but sensational statements!

This article in the New York Times gives an interesting account of the controversy.

Yet another Enron-type Debacle in making!

Governments seldom learn from their past mistakes and the state government of Maharashtra is in no way an exception. A decade back it signed a completely nonsensical deal with Enron for power production and now its somewhat going down the same road with the Dow Chemical Company. It apparently has offered almost 40 hectares of land to Dow for setting up a research lab around Pune.

There is nothing wrong in having this research lab per se. But it seems very little has been done in terms of impact analysis of the project. There is neither an environmental impact report, at least in the public domain, nor a concern for completely upsetting the local dairy business because of loss of the grazing land.

This recent article in The Business Standard sheds more light on the issue.

Curry Powder

I have always had a tough time explaining to people outside India that there is nothing called as 'the Indian Curry Powder'.

This link gives an apt description of why so!

Walmart in India-Some more thoughts

I need to qualify my conclusions in the earlier post. There is a possibility that Walmart may not be just another supermarket, where India's new rich shop,but will also be a recourse of cheap shopping for the lower income groups who currently shop at the smaller grocery stores.

Why do I change my stance? The answer lies in the shopping behavior of an average middle class family in India. The reason they shop in the small grocery stores (kirana dukan as called in Maharashtra) is not only because it is cheap but also because most of these stores provide a credit line to their customers. You shop for a month and clear your dues at the end of the month. At least that's how the kirana stores do business in most of the parts of my home state.

So it seems if Walmart is able to provide customers a credit line in some form or other, then it could potentially win over the customers who shop at kirana stores. There is still one problem though. Because of proximity to the customers and a personal relationship, it is easier for the kirana store to verify and monitor the credit standing of their customers. Therefore, a kirana store is able to provide credit to a customer who otherwise may find himself without any access to formal credit markets because of his income level. Walmart will have to rely on formal credit markets and still find a way to compete with the kirana stores in offering credit.

Thus, the key issue is whether Walmart will be ready to assume the credit risk to entice the common Indian consumer and change the retail market in India as it did in North America or be happy with a large market share in a still niche market. This indeed will be one of the key determinants of its success in India apart from the supply chain issues.



PS: So now you know why the supermarket on Sinhagad road in Pune closed down. It did not study its customers well. They were not only price sensitive but also credit constrained. Hence, reduction in price or other bundling strategies only worked to a certain extent. The business still remained with the kirana stores.

The Red Book!

History provides ample evidence that red books are important and this one certainly fits the bill. It is one of its kind and in some sense a handbook of a revolution. Yes guys, I am indeed talking about Ljunqvist & Sargent's (L-S) excursions in recursion!

However, its still a graduate text and hence by definition a badly written text. This fact has always puzzled me. We have fabulous books at the undergraduate level and I agree that they talk a lot. But sometimes stories are important and in subjects like economics, even more so. So what happens when the same author writes a graduate text? Does he not have the right incentives to write an equally accessible text? Or the only thing advanced about the advanced subject matter is the terseness and technique? Probably its the mix of the two factors.

The market is not that big for a graduate text and hence the returns only justify a minimal effort. However, if you read L-S you will find that some chapters are extremely well written. For example the initial chapter on Search theory as well as the one on Asset pricing read very well than other chapters. Coincidently, these chapters come somewhat straight away from Sargent's earlier book on Dynamic Macroeconomic Theory!

Apart form frequent changes in notation, there are some other glaring examples of poor instructional design. For example, the material in the chapter on economic growth has no relation with the problems at the end of the chapter. What do you think is the reason? They come from completely different sets of authors! So if you are hoping to get some idea about how to solve the problems by reading the chapter, forget it. You might be better off reading the solutions directly.

Well, no point in complaining too much. We don't have much choice when it comes to a PhD level Macro text based on microfoundations. Hence, even when we know that almost all monopolies suck, we have to patiently wait for a miracle in terms of a better competitor!

Steve Williamson's Macroeconomics

I have to admit that this indeed is a fabulous undergraduate macro text. As claimed it does reflect the current practice of macroeconomics or at least the most influential one. However, the following is worthwhile to note:

1. The most common example given by almost all advocates of RBC theory of business cycles of a shock to total productivity, the oil price shock of 1970, is also present in this book. While it is true that with an exception of one, all the recessions in US have been preceded by a sharp rise in energy prices, this should work as a change in relative price of an input and hence a movement along the production function and not as a shift in it. However, even if we accept that the increase in energy prices does work as a productivity shock we cannot ignore the fact that most of the empirical studies place the contribution of energy prices to business cycles between 8 t 18 %, which is not a very significant, let alone a major one! ( Stadler 1994). This is not withstanding the fact that for technology shocks themselves to contribute to cycles, they should contribute at laest 78% to the shocks according to Aiyagari (1994).
2. I still have difficult time understanding why various authors motivate the study of endogenous growth by mentioning the failure of Solow model's prediction about convergence of growth rates across countries, but failing to mention that Robert Solow himself never intended his model to be used in that way, Easterly (2001, pp.55). Solow wrote his model on the backdrop of what is called as capital fundamentalism, a belief which postulates economic growth as a function of availability of machines per worker. He intended to show that this belief is wrong and hence capital accumulation does not cause growth in Solow model but some exogenous factor called technology does. The insight comes from the simple yet powerful logic of diminishing returns to a factor. When applied to cross country comparison of growth rates, economists extended the logic of the Solow model by assuming that, at least in principle, all countries have access to the same technology. Then, the only reason that countries, for example the tropics, did not catch up with the developed countries was lack of capital. But again the problem with this conclusion is that capital is not a very sizable factor in production. Therefore, if one wants to explain the differences in growth rates on the basis of availability of capital, then the conclusions are obviously absurd. As per the calculations of Lucas mentioned in Easterly (2001), each US worker for e.g. will have to have 900 times more machines than each Indian worker in order to explain the differences in their standard of living and thats clearly not the case.
   

All said and done, this book does a good job in presenting macro in a much clean and consistent way and avoids giving the feeling to the reader which, I got as an undergrad, that macro is a series of disconnected models with no relation to the micro behavior.


References:

Aiyagari R S (1994), On the Contribution of Technology Shocks to Business Cycles, Federal Reserve Bank of Minneapolis Quarterly Review, Vol. 18, No.1, pp.22-34.

Easterly William (2001), The Elusive Quest for Growth, The MIT Press.

Stadler George W (1994), Real Business Cycles, Journal of Economic Literature, Vol. XXXII, pp. 1750-1783.

Williamson Stephen D (2007), Macroeconomics, Third Edition, Pearson.

S. Rao Aiyagari

This guy did some exciting work in incomplete markets among host of other issues. Unfortunately, he died very early. This is a write up by Neil Wallace on him which appeared in the Federal Reserve Bank of Minneapolis Review. It also lists most of the work done by Rao. You can also find his work here.