Allison's ode to the second moment


Welcome to the thirteenth issue of Allison’s Ode to the Second Moment, a newsletter that isn’t afraid to ask the big questions and and isn't too proud to look to reality TV stars for the answers.

Fed Governor Stanley Fischer called it the biggest economic puzzle of our time

What is going on with oil? Undergraduate macro textbooks predict that an oil price shock should have a large and symmetric impact on the economy. If prices go up, consumers buy less stuff and firms cut back on investment, and the whole economy shrinks. If prices go down, the opposite happens and the economy grows. But oil prices are low and growth hasn’t been too impressive.

A new paper from Brookings argues that's because, while consumers did spend more, there was less investment---mostly because the United States is now a big oil producer. The contraction in the oil-producing sector cancelled out any benefit from consumer spending. Instead of boosting growth—low oil prices was a wash (economically speaking).

Sounds like another great example of applying a perfectly good theory to the wrong problem. Perhaps we need to rethink our traditional models because the US economy has changed.

Or do we? I am not totally convinced it’s the whole story. I reckon if oil prices stay low we may get another boost. You see I am not a simple Keynesian. I am a life-cyclist. And, to me, an oil price shock is really an income shock. And what that means for the economy depends on whether the income shock is permanent or transitory and if that matches people’s expectations.

Transitory income shocks don’t have much impact because people save the windfall. A permanent shock has a larger impact on demand. The Brookings paper says people behaved like it was a permanent shock. They spent most of the windfall. After all, saving rates are higher today than they were in 2009 (when oil prices were high). But I am not sure that is evidence of no extra saving. 2009 was also the bottom of the recession, when households were deleveraging and terrified of a collapsing economy. Of course saving rates would drop after that! The hot question is: would savings have decreased even more if oil prices hadn’t fallen?

We don’t know. If low oil prices do stick around, we might see further drops in saving and more spending. Non-oil firms may be more inclined to invest and we will get a bigger bump—it may even be enough to outweigh the negative impact from the shale industry.

Keeping up with the Joneses

So here’s another question that bothers me. During the last 30 years, income was stagnant (or maybe not anymore!), consumption increased, and savings trended down. Households are worse off (and the economy they support), even if they have more stuff, because they are more fragile and prone to personal debt crisis. The over-spending doesn't seem rational. How can we explain it?

I’ve heard it argued we could blame inequality. Apparently, middle class people feel bad when they see all the nice things Kim Kardashian has. They want the same stuff and live beyond their means. Ergo inequality is a very big problem.

I’ve never bought that story—at least not on a large scale. I bet people buy nice things, not because Kim has them, but just because people like things.

A new paper looks at how much consumption choices are driven by others. And it seems Danish people spend the same way their friends and neighbors do. But being sensible Scandinavians, they don’t buy lots of fancy conspicuous stuff just because their neighbors have them. Aggregate consumption increases when other people in the community spend more. It is not clear if the spending is about maintaining their status, or if they just think their friends and neighbors have good taste.

It is also worth noting the consumption spillover happens among peers. The effect is especially strong among low income groups. Maybe consumption isn’t driven by inequality after all—just people copying their neighbors.

Speaking of strange things going on in Europe

Sometimes people say delaying retirement means fewer jobs for young people. To which us pension economists say “Pshaw! Silly, populist. You fall prey to the lump of labor fallacy. Don’t you know young and older workers complement each other and create more demand/output for all!”

Well some new research digs into the Southern European labor market. Youth unemployment is very high, but 55 to 64 years are working more than ever before. Older people are working longer because of 2011 pension reforms kept them in the labor force. Perhaps there’s a connection between the young not working and old working….Hard to know, the Italian labor market has so many strange quirks that keep it from functioning normally. I am not giving up on later retirement, just yet.

More on the nerdiest rivalry in the world

Mary Walsh has a great article on the Citrus Pest Control District No. 2 pension plan. It only has 6 members and is in California. They wanted to convert the pension to a DC plan and thought they had the funding to do so (after all they were adhering to the GASB standards).

But, then CalPERS stuck them with a $500 thousand bill, claiming that was their true funding shortfall. Where did that number come from? CalPERS re-measured the liability using a discount rate that reflects risk. Who knew they were aware of such a thing? I guess the only time it's appropriate to care about risk is when you are ending, rather than running a pension plan. I'll split the difference.

financial economists 1
actuaries 1


The Republican presidential candidate promised 4% growth, maybe higher. Wiser heads said that’s crazy, but many of those same wise people believe the government spending multiplier is 5. I think both sound optimistic, given the current structural barriers that exist in the American economy. Don’t throw stones from glass houses build on a foundation made from the miraculous powers of government spending.

Speaking of, the always wise Alice Rivlin reminds us, that yes, we don’t have a debt time bomb that will sink the whole economy in the immediate future. But that doesn’t mean government debt (especially long term entitlements) aren’t a big problem that we should fix while we still have fiscal space. She’d like to see productive infrastructure spending too (who doesn’t), but argues it needs to happen alongside entitlement reform.

Because you know what doesn’t grow an economy? More pension debt.

Until next time, Pension Geeks!