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Cass Sunstein examines the phenomenon of enclave extremism–the tendency of people to harden their political positions when they interact mainly with others of like mind. (Thanks to A&L.)

[O]n many issues, most of us are really not sure what we think. Our lack of certainty inclines us toward the middle. Outside of enclaves, moderation is the usual path. Now imagine that people find themselves in enclaves in which they exclusively hear from others who think as they do. As a result, their confidence typically grows, and they become more extreme in their beliefs. Corroboration, in short, reduces tentativeness, and an increase in confidence produces extremism. Enclave extremism is particularly likely to occur on the Internet because people can so easily find niches of like-minded types — and discover that their own tentative view is shared by others.

It would be foolish to say, from the mere fact of extreme movements, that people have moved in the wrong direction. After all, the more extreme tendency might be better rather than worse. Increased extremism, fed by discussions among like-minded people, has helped fuel many movements of great value — including, for example, the civil-rights movement, the antislavery movement, the antigenocide movement, the attack on communism in Eastern Europe, and the movement for gender equality. A special advantage of Internet enclaves is that they promote the development of positions that would otherwise be invisible, silenced, or squelched in general debate. Even if enclave extremism is at work — perhaps because enclave extremism is at work — discussions among like-minded people can provide a wide range of social benefits, not least because they greatly enrich the social "argument pool." The Internet can be extremely valuable here.

But there is also a serious danger, which is that people will move to positions that lack merit but are predictable consequences of the particular circumstances of their self-sorting. And it is impossible to say whether those who sort themselves into enclaves of like-minded people will move in a direction that is desirable for society at large, or even for the members of each enclave. It is easy to think of examples to the contrary — the rise of Nazism, terrorism, and cults of various sorts. There is a general risk that those who flock together, on the Internet or elsewhere, will end up both confident and wrong, simply because they have not been sufficiently exposed to counterarguments. They may even think of their fellow citizens as opponents or adversaries in some kind of "war."

Gosh. Could that really happen?

After more than a week with my Amazon Kindle, I am ready to say I have seen the future of reading. This actual device, mind you, much as I like it, is not yet there–not quite–but it’s close enough to be already indispensable, and to prove that the underlying idea is unstoppable.

The Kindle is as clunky as it looks in the photographs–and the ergonomics are as awkward. The buttons are too big and squeaky; you can’t pick it up without pressing one and losing your place; the keyboard, though pitifully slow, runs several characters ahead of the cursor; and I would be hard-pressed even after a week to say precisely what the "back" button does. The use of "locations" rather than page numbers needs rethinking. (The interface has to convey a better feel of how much you’ve read and how much further you have to go: it’s not enough to be shown you’re about 30 percent through…30 percent of what?) And I need to reconsider Michael Lewis’s reliability as a reporter. His gushing on the Amazon website over the quality of the screen calls this very much into question. Clearer than print? Better than paper? What on earth is he talking about?

The screen is all right, I suppose, better than a computer screen–but it does not display black on white or anything even close. For the photographically minded, I would guess that it’s maybe 80 percent gray on 15 percent gray. Perfectly legible in good light–the brighter the better–and no harder on my ageing eyes after several hours than a book. But in less than good light, it is a strain. Coming back on the train from New York last week, on a gloomy afternoon, with an under-powered reading light above, it was harder to read than a book or printed newspaper, and after my eyes had wandered a few times from my Kindle to my neighbour’s magazine, which I could read more easily, I switched back to old technology. Its picture display is hopeless. Its web-browser…well, forget about the web-browser.

I will never bond with this device the way I have with my iPhone. I spend no time gazing fondly in its direction. If my Kindle and my iPhone were trapped in a burning building, it would be all over (aptly enough) for the Kindle. 

And yet! The thing is in constant use. Instead of lugging one or (often) two bags around, containing three or four multi-part newspapers and two or three  books, I carry the virtually weightless Kindle and one paper. (If the FT was on the Kindle store, it would be no papers.) I currently have half a dozen books loaded, plus free sample chapters of several others. So whatever my mood, there is always something to read. The wireless connectivity–as much as the low-power, no-backlight, e-ink screen–is the real breakthrough. Download a book in 30 seconds (Lewis was not exaggerating about that), or today’s paper, or the latest issue of The Atlantic–issue by issue on demand, or by subscription with automatic delivery. It’s irresistible. Intrigued by a book review? Get the sample chapter, or buy the whole thing, and start reading right now.

Really, there’s no going back. Not until they fix that button, anyway.

Another vote of thanks to James Hamilton (principal author of Econbrowser and an economics professor at the University of California, San Diego): I cite him again in this column for The Atlantic on the impressive irrelevance (for now) of the price of oil.

The oil market is not a bubble–fundamentals of supply and demand, not self-reinforcing speculative frenzy, are driving  prices–but nonetheless I am intrigued by the fact that the dearer the stuff gets, the calmer we appear to be about the economic implications. That thinking has bubble-like characteristics. You recall how fears about irrational exuberance in the stockmarket were more to the fore in 1996 with the Dow at 6,000 than they were a few years later, after it had risen another 4,000 points. Accustomed to an oil price that would have seemed terrifying very recently, we now seem to worry less, the higher it goes.

Financial bubbles often do not burst until the last skeptics—the ones who called them bubbles early on, and rolled their eyes as speculation raged—have capitulated to the mania and bought in. Once nearly everyone is convinced that the rise in prices has some real economic foundation after all, and not before, the whole thing goes pop. The pattern repeats over and over. A parallel suggests itself. When even the people who were worried about $40 oil have stopped worrying about $100 oil, it may be time to panic. As the price of oil goes ever higher, we seem to get ever less anxious about it. In the June 2006 Atlantic, I explained why oil at more than $50 a barrel was having so little effect. But now it’s almost double that. What ought to be obvious might therefore be worth restating: The higher it goes, the more likely it is do real harm.

You can read the rest of the article here.   

If you are following monetary policy in these testing times, and especially if you find recent Fed actions (and the markets’ reaction to them) puzzling, two posts by James Hamilton at Econbrowser will help. Not that they clear things up, so much. But they make being puzzled an easier position to defend. First, James ponders the "surprise" cut of only 25 basis point in the fed funds rate.

Was Wall Street really expecting a 50-basis-point cut? Looking at fed funds futures or options, you might have thought this was a significant possibility. For example, the graph below is the interest rate implied by the January fed funds futures contract, which historically has proven to be an excellent predictor of the monthly average fed funds rate. This had been trading at 4.18% prior to the meeting. Since the FOMC is not scheduled to meet again until January 29/30, one might have read this as implying a 30% chance of having seen a 50-basis-point cut from yesterday’s meeting:

(0.7)(4.25) + (0.3)(4.0) = 4.18

Implied interest rate on January 30-day fed funds futures contract.  Data source: TFC.

But here’s the curious thing: as of this writing, the price of that contract still has not budged more than half a basis point from where it stood at the close of trading last Friday. Fed funds futures traders seem not to have been surprised in the least by the outcome of Tuesday’s meeting.

So why did the market drop? "Beats me," he concludes. James next looks at the Fed’s new "term auction facility":   

Evidently there are those who entertain the hope that the Fed could find two separate tools to achieve two separate ends. The first tool– the traditional instrument of monetary policy– is to adjust the total quantity of reserves available to the banking system so as to achieve a particular target value for the fed funds rate, the rate at which one bank lends to another overnight. When one describes a traditional monetary policy action as "providing liquidity," this is what we are discussing.

But there appears to be a widespread belief that the Fed needs a second tool in order to achieve a second policy objective, which is somehow to eliminate the gridlock in financial institutions resulting from huge holdings of assets that no one seems willing to buy. Perhaps, the thinking seems to go, adjusting the spread between the discount rate and the fed funds rate could be a tool to accomplish this.

I am inferring that the Fed itself may also have been musing along these lines, in that it today announced creation of a term auction facility. The basic idea is that the Fed will specify a certain maximum amount that it would like banks to borrow. It intends to lend up to $20 billion for a 28-day term on Monday, and lend up to an additional $20 billion for a 35-day period on December 20. Potential borrowers will bid an interest rate to receive this loan, with I presume each $20 billion going to the highest bidders. Banks must also provide collateral for these loans.

The objective is clearly not just to get $40 billion more in reserves into the banking system next week– an open market operation could accomplish that just fine. The objective must be to get the reserves into the hands of those particular banks that want them most…

The other thing the facility accomplishes is allow the Fed to accept lower-quality collateral from borrowers than its rules require for open market operations conducted through repurchase agreements. If there is an effect of the facility, I would think that this would be the mechanism. What may matter is not the reserves put in the system, nor who gets those reserves, but the troublesome assets temporarily taken off some institutions’ balance sheets.

Isn’t that a "bail-out"?

The Fed’s initiative was announced in concert with other big central banks, which also took steps to boost liquidity. As the FT reported, however, short-term interest rates hardly budged. The markets don’t yet know what to make of it all.

Two more reviews of Gregory Clark’s book on development. First, Ben Friedman in the NYT (sceptical but fascinated)…

Every story has to begin somewhere. Do we think technological progress was responsible for the Industrial Revolution and the astonishing increase in living standards in some countries but not others since then? Fine, but what brought about the new technology? Maybe social and political institutions — democracy, tolerance, the rule of law — played a role in when and where living standards increased. But where did they come from?

After decades of banishment to the realm of sociology and other such disciplines, the idea that a society’s “culture” matters has recently reappeared in economics. David Landes, an economic historian and a living national treasure if there ever was one, began this movement nearly 10 years ago when he looked in part to culture to explain “why some are so rich and some so poor” (the subtitle of his classic overview of world history).

But why not go one step further: If culture is responsible, where does it come from? Why do some countries have an economically helpful culture while others don’t? And, since no society got very far in economic terms before the Industrial Revolution, what caused the culture of the recently successful ones to change?

In “A Farewell to Alms,” Gregory Clark, an economic historian at the University of California, Davis, suggests an intriguing, even startling answer: natural selection. Focusing on England, where the Industrial Revolution began, Clark argues that persistently different rates of childbearing and survival, across differently situated families, changed human nature in ways that finally allowed human beings to escape from the Malthusian trap in which they had been locked since the dawn of settled agriculture, 10,000 years before. Specifically, the families that propagated themselves were the rich, while those that died out were the poor. Over time, the “survival of the richest” propagated within the population the traits that had allowed these people to be more economically successful in the first place: rational thought, frugality, a capacity for hard work — in short the familiar list of Calvinist, bourgeois virtues. The greater prevalence of those traits in turn made possible the Industrial Revolution and all that it has brought. (A lacuna in the argument is that Clark never says just how prevalent this Darwinian process made the traits he has in mind. Would an increase from, say 0.05 percent of the population to 0.50 percent have mattered much?)

Clark’s book is delightfully written, offering a profusion of detail on such seeming arcana as technology in Polynesia and Tasmania before contact with the West, Sharia-consistent banking practices in the Ottoman Empire and bathing habits (actually, the lack thereof) in 17th-century England. But Clark’s eye is fixed steadily on the idea he’s pushing; the details are fascinating, but they are there because they help make his central argument.

Second, Deidre McCloskey (pdf; unimpressed and somewhat aggrieved), via Marginal Revolution.

My FT review of the book is here. (I was fascinated, too, but I should have made more of my reservations.)

This is from Dani Rodrik’s blog, where Ricardo Hausmann made a guest appearance:

Dani has many complex and sophisticated arguments regarding his less than enthusiastic support for the Doha Round and his willingness to entertain the wisdom of a standstill. He argues in favor of Hillary Clinton’s position on this matter and against the view that if trade agreements do not go forward, they inevitably fall back.

This may be a tenable position for a trade theorist or for a trade policy wonk. However, suppose the question is the following: do you trust the motivations of this candidate or is the candidate just hiding behind plausible arguments to justify dangerous and wrongheaded policies? Is this candidate rationally worried about the welfare calculation Dani has in mind or is he/she just using our limited understanding of the relationship between trade policy and welfare to advance a different agenda? To ascertain these questions one is allowed to use not just the position of the candidate vis a vis the Doha Round, but instead her/his position on other policy issues as well.

Candidates have a clear opportunity to signal their type, as economists like to say, in their position vis a vis the free trade agreement with Colombia. Here is a country that is a triple frontline state. It is at the frontline in the devastating war against drug-trafficking, suffering most of the casualties both in human lives and in institutional damage. It is in the trenches in the war on terrorism, having to face the deadly and costly consequences of the kidnappings and drug-financed guerrillas. It is also in the frontline against the new totalitarian conception of society now espoused by neighboring Hugo Chavez and his floundering Socialism of the XXI Century.

The US has been aware of this predicament and, since the times of Bill Clinton, has been willing to assist the country with a few billion dollars in military and development support through the so-called Plan Colombia. Now the country has negotiated a free trade agreement with the US and has been able to gain a large support of domestic public opinion in its favor. But this agreement has not been approved by the US congress because of the opposition, among others, of Hillary Clinton.

The question is not whether the free trade agreement is good or bad for Colombia: that is the sovereign decision of Colombia and should not form part of Hillary’s decision. The question is what are the overall effects of Hillary’s position on the US, including its impact on employment and economic wellbeing of American citizens and the standing of the US as an ally in the many confrontations that this world posses to other countries.

It is difficult to see how Hillary comes out the way she does on this one. By the way, she also opposes a free trade agreement with neighboring Panama, a country of barely 3 million people, where the US ran its main industry, the canal, for almost a century.

A free trade agreement with the US is a much more limited offer than membership in the European Union. There are no fiscal transfers, no labor mobility, no monetary union, no acquis communautaire. In spite of its modesty, several democracies in the region have been willing to go for it. The fact that Hillary is unwilling to support a more integrated economic space in the Americas, which her husband espoused so much, makes it very clear to me that she may use Dani’s arguments as an excuse, but she does not share Dani’s goals.

The comments, and Ricardo’s responses, are worth reading too.

Scroll down to December 6 for my earlier take on this.

“This is a private sector effort, involving no government money,” Hank Paulson, US Treasury secretary, said last week, announcing the deal he had just brokered among representatives of mortgage-security investors and mortgage-service companies to freeze interest-rate resets on some loans. He emphasised that the compact was voluntary. “The industry standards announced today do not change the nature of responsibilities in the servicing industry – servicers will continue to modify loans when it is in the best interests of investors.” In short, he said, it is a “market-based approach”. Give the man some credit for using that term without laughing. Is there a housing-finance market on the planet that is more pervasively manipulated and distorted by government than that of the US – even before this latest intervention? Start with virtually unlimited tax relief on mortgage debt. Throw in the two giant “providers of liquidity”, Fannie Mae and Freddie Mac, key enablers of the mortgage securitisation surge, operating in the background under implicit government guarantee, with transactions accounting for 40 per cent of US mortgages on their books. Do not forget the Federal Housing Administration, the government mortgage insurer (6m loans and counting), which the administration has just asked to take on a much expanded role. And now this. Totting up the explicit and implicit cost of these programmes, the mind reels. The tax deduction alone is nearly $80bn a year. It is a little late for a market-based approach. You can read the rest of this new column for the FT here.

My new column for National Journal contrasts the administration’s proliferating (and most likely inadequate) measures to solve the subprime mortgage problem with the easy steps that, taken earlier, would have averted it in the first place.

If ever there was a case of "an ounce of prevention is worth a pound of cure," the subprime mortgage mess is it. The Treasury Department, late to the issue, is struggling to contain an increasingly scary problem. All of its efforts so far — and the government, however reluctantly, may yet be drawn more deeply into the crisis — are second-best and have drawbacks. Big costs for taxpayers are a distinct possibility. Many families will end up losing their homes, and the soundness of the financial system remains in question. If the economy does slide into recession, as many economists fear, the subprime fiasco will be substantially to blame. And yet the whole thing might have been averted if some simple fixes had been made in good time.

This would look like 20-20 hindsight except that at least one authoritative voice on the issue had been calling for action for years. Edward M. Gramlich, a former governor of the Federal Reserve Board, who sadly died earlier this year, did all he could to draw attention to the issue. He was not an alarmist. He insisted that subprime mortgages were, in many ways, a good thing. He underlined their success in broadening home ownership among the less well-off; subprime lending was not the same as predatory lending, he emphasized. But, he also pointed out, there had been poor lending practices and some outright abuse. Regulatory oversight was a confusing patchwork, full of holes. Mending it would not be difficult — but if the job were left undone, the country could have a problem on its hands. And so it does.

You can read the rest of the article here (the link expires in a week, and the article goes behind NJ’s subscription barrier).

Dani Rodrik has two interesting posts on what Hillary Clinton told the FT last week about trade policy, and on reactions (including mine) to her remarks. (The interview with Hillary is here. My first reaction to it is here. The FT also ran a disapproving editorial.) Dani writes:

Hillary Clinton has some generally sensible things to say on trade in today’s FT, for which Clive Crook takes her to task. Basically, Hillary’s point is that we need to take a breather from negotiating trade agreements on the accepted model, and think our way through what a new set of trade relationships might look like for the 21st century…

Clive Crook thinks this is all misguided and reflects a tendency for the Democrats to jettison multilateralism in favor of unilateral (read protectionist) trade policies.

I would agree with Clive that giving up multilateralism would be a bad idea. But I read Hillary’s interview differently, as an argument in favor of a renewed set of multilateral rules…

The real risk facing globalization today is not that markets are not open enough, but that the political support for the existing set of rules is eroding to the point where it becomes difficult to maintain the openness we have…

UPDATE: And this whole thing about what Paul Samuelson said and meant and whose position it provides support for is such a red-herring.  Hillary should not have brought up Samuelson, but I wish her critics would stick to the issues instead of chiding her for using his name in support.

Today Dani returns to the topic, responding to Peter Mandelson, the EU trade commissioner, who was quoted this morning in the FT criticising what Hillary said. Dani’s response:

Here is what I do not understand.  Why is it that anyone who says that the gains from the next trade agreement are not huge, that there are real social and distributional issues we need to confront before we strike the next trade deal, and that perhaps we need to rethink the basis of the multilateral trade regime in light of the severe legitimacy problems which it has run into–all true propositions–is immediately branded as a protectionist who wants to set the clock back?…

What is outlandish about all of this is that no respectable economic model suggests the completion of Doha will add more than 1 percent to world GDP some ten years out–and this under the most favorable circumstances. The mental model that people like Mandelson seem to have is that the moment you take a breather on trade agreements, the whole world trade regime will collapse.  There is little to justify this "bicycle theory" at the present time.      

Dani is right of course that having doubts about the current multilateral arrangements does not make you a protectionist. Raising trade barriers, or turning your face against opportunities to lower them, is what makes you a protectionist. I also agree with Dani that taking a breather on trade agreements does not mean that the global trade regime will collapse. But collapse is an extreme scenario. The danger is not collapse, but erosion.

Dani argues that to maintain the openness we have, we must improve the legitimacy of the existing arrangements and build political support for liberal trade. Yet again, we agree. The issue that divides us is whether Hillary Clinton’s call for a time-out on trade advances or retards those goals.

Acknowledging that there can be winners and losers from trade, and developing better kinds of social insurance to ease the strain, makes sense. I am very much for that. But those policies do not envisage restrictions on trade. It is very hard to maintain that (a) trade is good for us in the aggregate and (b) it makes sense to go slow on trade liberalisation. If you are going to argue (b), before long you will find yourself failing to mention (a). And once you have forgotten (a), or decided it might actually be wrong, good luck in trying to "maintain the openness we have".

If liberal trade is not good for America in the aggregate, why even try to maintain it? Why not join forces with outright protectionists and pursue the "fair trade" agenda without inhibition? Hillary’s reference to the Samuelson article is no red herring. What she and others (incorrectly) drew from Samuelson’s assault on pro-trade pieties is precisely that liberal trade may no longer be good for us in the aggregate, because, as she said, this is the 21st century, and comparative advantage is so last season.

Acknowledge and respond to legitimate doubts about the virtues of liberal trade. But where the fears are exaggerated or wrong, our political leaders should say so. Unlike Dani, I think it is very dangerous to concede this intellectual ground. Once the US decides that liberal trade does not serve its collective interest–and Hillary, in effect, is proposing a time-out to think about this–the openness we have is indeed at risk.

Reading the interview with Hillary Clinton in today’s FT took the edge off my morning (report here, transcript here).

FT: You have said that as president you would take “time out” on new trade deals. But the debate has mostly been focused on the smaller and more symbolic deals like Peru and Colombia. Would your principle extend to the stalled Doha round of world trade talks?

HC: Well what I have called for is a time-out which is really a review of existing trade agreements and where they are benefiting our workers and our economy and where the provision should be strengthened to benefit the rising standards of living across the world and I also want to have a more comprehensive and thoughtful trade policy for the 21st century. There is nothing protectionist about this. It is a responsible course. The alternative is simply to pick up where President Bush left off and that’s not an option. Now I’m trying to take the trade agreements that he has negotiated each one on its merits and I will support the Peru agreements because it has the kind of strong labour and environmental provisions that I’ve long called for. And it helps to level the playing field for American workers because as things stand most Peruvian goods already enter America tariff-free but the tariff that are attached to most American goods entering Peru make them less competitive. I have said I will oppose the agreement with South Korea because the auto provisions don’t go far enough and we have prior experience.

My husband’s administration tried to enforce a memorandum of agreement that they entered into with the south Koreans about opening up their market to American autos and it just didn’t happen. So it’s not that we’re starting on some totally different approach to trade it’s that we have to take stock of where we are today. And specifically with Doha and with these large global agreements, again we have to see what works and what doesn’t work. We have benefited through most of the 20th century from trade. It has helped to raise American standards of living, it has helped to create jobs. And I agree with Paul Samuelson, the very famous economist, who has recently spoken and written about how comparative advantage as it is classically understood may not be descriptive of the 21st century economy in which we find ourselves.

We know for sure that every other country wants access to our markets, because we have high levels of consumer spending since we don’t save anything in America and we have a very vigorous competitive market that is a real prize. On the other hand I want to see living standards improve around the world. I want to see environmental standards improve. And I am concerned by some of the provisions that would prevent countries from for example enforcing stronger environmental and worker safety rules under the WTO. I think we have to take a hard look at this and do it in the right way and that is what I am proposing to do.

It is sad to consider that the US might withdraw its leadership from the multilateral trade process–one of the few genuinely multilateral efforts (Democrats should note) where it has, over the years, been fully engaged, and where the results have been, on the whole, spectacularly good. And it pains me especially to see Paul Samuelson (who is no protectionist) invoked as giving his blessing to this new mood of disengagement.

Continue reading "Hillary on trade"