Posts Tagged ‘Robert Shiller’

declining home ownership

Monday, November 7th, 2016

Washington Post columnist Catherine Rampell notes that US millenials (young people born between 1982 and 1994) are purchasing few homes compared to older generations. “Millennials want to buy houses”, writes Ms Rampell, “but they simply can’t afford to.” Indeed, they often cannot afford even to rent, so continue to live with their parents or move in with other relatives.

Ms Rampell does not see declining home ownership in itself as a problem. Indeed, she describes it as something we might celebrate.

The reasons behind this homeownership slide are certainly nothing to celebrate. But the slide itself might be.

We as a society tend to overvalue homeownership, at least from a financial perspective. Were it not for the psychic and sentimental benefits of homeownership, it’s otherwise hard to imagine financial advisers counseling their clients to dump all their savings into a single, giant, highly illiquid asset.

Especially one that, on average, shows such meager returns.

Over the past century, home prices have risen an average of about 0.6 percent per year, according to data from economist and Nobel laureate Robert J. Shiller. Investing in an index fund has, on average, far higher returns than owning, even after you take into account the costs of renting and the tax subsidies for buying.

For millennials, a mass lifestyle shift away from owning and toward either renting or crashing with relatives could be especially advantageous. That’s because buying a house not only locks up your savings; it also locks you, the owner, into a specific geographic location.

For workers who are just figuring out their careers … this seems especially wrongheaded. We want young workers to be mobile and to have as few frictions for job-hopping as possible.

Catherine Rampell, “Millennials aren’t buying homes. Good for them“, Washington Post, 22 August 2016.

HT Alphachat podcast of 4 November 2016 (free link), where Catherine Rampell discusses, with host Cardiff Garcia, her columns on shifting marriage trends and their potential significance.

I share Ms Ramplell’s view that home ownership is a poor investment; it is illiquid and promises poor returns compared to other investments. See, for example, my previous TdJ posts on the subject here, here, here and here.

Purchasing a home, even one paid almost entirely with borrowed money (a mortgage), is useful, though, in a way not mentioned in the column: the need to pay off a mortgage amounts to forced saving for retirement and old age. At least it used to be treated as forced saving. In the United States, for the past three decades homeowners have instead drawn on their equity, increasing their mortgage debt for spending on cars, furniture, holidays, all manner of consumer goods. Behavioural economist Richard Thaler explains how what used to be an accepted social norm changed so radically.

For decades people treated the money in their homes much like retirement savings; it was sacrosanct. In fact, in my parents’ generation, families strived to pay off their mortgages as quickly as possible, and as late as the early 1980s, people over sixty had little or no mortgage debt. in time this attitude began to shift in the United States, partly as an unintended side effect of a Reagan-era tax reform. Before this change, all interest paid, including the interest on automobile loans and credit cards, was tax deductible; after 1986 only home mortgage interest qualified for a deduction. this created an economic incentive for banks to use a home equity loan to finance the purchase of a car rather than a car loan, because the interest was often lower as well as being tax deductible. But the change eroded the social norm that home equity was sacrosanct.

Richard H. Thaler, Misbehaving: The Making of Behavioral Economics (Norton, 2015), p. 77.

Phishing for Phools

Tuesday, November 1st, 2016

I just finished reading a wonderful book: Phishing for Phools: The Economics of Manipulation and Deception (Princeton University Press, 2015). The authors are two of my favourite economists: George A. Akerlof of Georgetown University and Robert J. Shiller of Yale University. (more…)

efficient financial markets?

Sunday, August 23rd, 2015

Economists cannot agree on whether asset markets are efficient or not. This has very important policy implications. Freelance writer Anna Louie Sussman interviews New York University economist Paul Romer for a WSJ blog.

Sussman: Are there any areas where research or refinements in methodology have brought us closer to understanding the economy?

Romer: There was an interesting [2013] Nobel prize in [economics], where they gave the prize to people who generally came to very different conclusions about how financial markets work. Gene Fama at University of Chicago got it for the efficient markets hypothesis. Robert Shiller from Yale got it for this view that these markets are not efficient and subject to too much noise. ….

It was striking because usually when you give a prize, it’s because in the sciences, you’ve converged to a consensus. And it was kind of a prize to economics saying, “You know, you can’t really agree what’s going on in asset markets, but we’ll give a prize anyway.”

Anna Louie Sussman, “Q&A: Paul Romer on ‘Mathiness’ and the State of Economics“, Real Time Economics, Wall Street Journal blog, 17 August 2015.

Most of the interview is about the rise of “mathiness” in economic growth theory. In my opinion, this interview of Paul Romer (born 1955) is of general interest, and should be published in the Wall Street Journal.

HT Mark Thoma.

Robert Shiller on government bonds

Thursday, March 26th, 2015

Yale University economist Robert J. Shiller asks whether the low yields (high prices) of long-term government bonds should worry investors. His answer? No, because bond-market crashes in the past have been rare and relatively mild.

The prices of long-term government bonds have been running very high in recent years (that is, their yields have been very low). ….

I have been thinking about the bond market for a long time. In fact, the long-term bond market was the subject of my 1972 PhD dissertation and my first-ever academic publication the following year, co-authored with my academic adviser, Franco Modigliani. Our work with data for the years 1952-1971 showed …. [w]hen either inflation or short-term real interest rates went up, long-term rates rose. When either fell, so did long-term rates. ….

[T]he explanation that we developed so long ago still fits well enough to encourage the belief that we will not see a crash in the bond market unless central banks tighten monetary policy very sharply (by hiking short-term interest rates) or there is a major spike in inflation.

Bond-market crashes have actually been relatively rare and mild. In the US, the biggest one-year drop in the Global Financial Data extension of Moody’s monthly total return index for 30-year corporate bonds (going back to 1857) was 12.5% in the 12 months ending in February 1980. Compare that to the stock market: According to the GFD monthly S&P 500 total return index, an annual loss of 67.8% occurred in the year ending in May 1932, during the Great Depression, and one-year losses have exceeded 12.5% in 23 separate episodes since 1900. ….

It is true that extraordinarily low long-term bond yields put us outside the range of historical experience. But so would a scenario in which a sudden bond-market crash drags down prices of stocks and housing. When an event has never occurred, it cannot be predicted with any semblance of confidence.

Robert J. Shiller, “How Scary Is the Bond Market?“, Project Syndicate, 16 March 2015.

I would add that, while nominal bond yields are low, so is expected inflation. Real yields (nominal yields less inflation) are not so low by historical standards. I warn TdJ readers though, that this is not my field of expertise, and I have not examined the historical data.

Robert Shiller (born 1946) is a 2013 Nobel laureate in economics and co-creator of the Case-Shiller Index of US house prices. He is author of Irrational Exhuberance (Princeton University Press, 3rd edition, 2015) and Finance and the Good Society (Princeton University Press, 2012)

Thomas Piketty on rising inequality

Thursday, May 15th, 2014

The publication in English of French economist Thomas Piketty’s “Capital in the Twenty-First Century” has sparked widespread debate among economists (and others) over the causes and policy implications of rising inequality.

Project Syndicate has published reactions to Piketty’s work. These short columns are posted in English, and most are translated into other languages. Here are links to relevant columns. Without doubt, more columns will appear in the future.

The book’s message – a call to address rising inequality and a plea for stronger economic growth – has strong policy implications. But Pikettism does not require income taxes, so much as wealth taxes.

Harold James, “The Reconstruction of European Politics“, 15 May 2014.

Piketty’s book makes an invaluable contribution to our understanding of the dynamics of contemporary inequality. He has identified a serious risk to our society. Policymakers have a responsibility to implement a workable way to insure against it.

Robert J. Shiller, “Inequality Disaster Prevention“, 14 May 2014.

[Piketty] has reignited economists’ interest in the dynamics of wealth and its distribution – a topic that preoccupied classical economists such as Adam Smith, David Ricardo, and Karl Marx.

Dani Rodrik, “Piketty and the Zeitgeist“, 13 May 2014.

In accepting Piketty’s premise that inequality matters more than growth, one needs to remember that many developing-country citizens rely on rich-country growth to help them escape poverty. The first problem of the twenty-first century remains to help the dire poor in Africa and elsewhere. By all means, the elite 0.1% should pay much more in taxes, but let us not forget that when it comes to reducing global inequality, the capitalist system has had an impressive three decades.

Kenneth Rogoff, “Where Is the Inequality Problem?“, 8 May 2014.

[T]he extraordinary thing about the conservative criticism of Piketty’s book is how little of it has developed any of these arguments, and how much of it has been devoted to a furious denunciation of its author’s analytical abilities, motivation, and even nationality.

J. Bradford DeLong, “The Right’s Piketty Problem“, 30 April 2014.

In his instantly famous book, Thomas Piketty argues that fundamental economic forces are fueling a persistent rise in profits as a share of total income, with the rate of return on capital constantly higher than the rate of economic growth. Moreover, many have observed that if capital is becoming a close substitute for all but very highly skilled labor, while education systems need long adjustment times to supply the new skills in large quantities, much greater wage differentials between highly skilled and all other labor will cause inequality to worsen.

Kemal Dervis, “The Future of Economic Progress“, 15 April 2014.

In a recent book, … the economist Thomas Piketty highlights the phenomenon of “meritocratic extremism” – the culmination of a century-long passage from the old inequality, characterized by inherited wealth and discreet lifestyles, to the new inequality, with its outsize bonuses and conspicuous consumption.

Robert Skidelsky, “The Wolves of Wall Street“, 21 March 2014.

Piketty argues that our “obsession with growth” merely “serves as an excuse for not doing anything about health, about education, or about redistribution.” And it is an obsession rooted very much in the present. “We forget that for centuries growth was essentially zero,” he writes. “One percent real growth means doubling the size of your economy every 30 or 35 years.”

Alexander Stille, “The Heirs of Inequality“, 23 August 2012.

Via Mark Thoma, here is a reaction from Harvard economist Larry Summers, and Piketty’s response to critics.

Thomas Piketty’s tour de force analysis doesn’t get everything right, but it’s certainly gotten us pondering the right questions.

Lawrence H. Summers, “The Inequality Puzzle“, Democracy 32 (Spring 2014).

In conversation with Nick Pearce and Martin O’Neill, Professor Piketty discusses his acclaimed book, Capital in the Twenty-First Century, and answers his critics.

Nick Pearce and Martin O’Neill, “Juncture interview: Thomas Piketty on capital, labour, growth and inequality“, Institute for Public Policy Research, 14 May 2014.

Here are earlier TdJ posts on Piketty:

economics as science

Friday, November 15th, 2013

Physics, everyone agrees, is a science. Is economics also a science? Not everyone thinks so. Indeed, some see the label ‘economic sciences’ as evidence of ‘p-envy’. (The ‘p’ stands for physics!) Adam Smith in the late 18th century thought of economics as a branch of moral philosophy. Yale University economist Robert Shiller opines that modern economics “is rather more like engineering than physics, more practical than spiritual”. Shiller’s judgement is not limited to economics. Although he refrains from saying so, it would seem to apply also to political science and to social science in general.

Fields of endeavor that use “science” in their titles tend to be those that get masses of people emotionally involved and in which crackpots seem to have some purchase on public opinion. These fields have “science” in their names to distinguish them from their disreputable cousins.

The term political science first became popular in the late eighteenth century to distinguish it from all the partisan tracts whose purpose was to gain votes and influence rather than pursue the truth. Astronomical science was a common term in the late nineteenth century, to distinguish it from astrology and the study of ancient myths about the constellations. Hypnotic science was also used in the nineteenth century to distinguish the scientific study of hypnotism from witchcraft or religious transcendentalism.

There was a need for such terms back then, because their crackpot counterparts held much greater sway in general discourse. Scientists had to announce themselves as scientists.

In fact, even the term chemical science enjoyed some popularity in the nineteenth century – a time when the field sought to distinguish itself from alchemy and the promotion of quack nostrums. ….

[T]he terms astronomical science and hypnotic science mostly died out as the twentieth century progressed, perhaps because belief in the occult waned in respectable society. Yes, horoscopes still persist in popular newspapers, but they are there only for the severely scientifically challenged, or for entertainment ….

[Economic] models describe people rather than magnetic resonances or fundamental particles. People can just change their minds and behave completely differently. They even have neuroses and identity problems, complex phenomena that the field of behavioral economics is finding relevant to understanding economic outcomes.

Robert J. Shiller, “Is Economics a Science?“, Project Syndicate, 6 November 2013

Yale economist Robert Shiller is one of the winners of the 2013 Nobel Memorial Prize in Economic Sciences.

Some time ago I described much of modern economics as pseudoscience in a series of blogs titled “economics as faith“. This is the precise opposite of “economics as science”.


Robert Shiller on Eugene Fama

Sunday, October 27th, 2013

Professor [Eugene] Fama is the father of the modern efficient-markets theory, which says financial prices efficiently incorporate all available information and are in that sense perfect. In contrast, I have argued that the theory makes little sense, except in fairly trivial ways. Of course, prices reflect available information. But they are far from perfect. Along with like-minded colleagues and former students, I emphasize the enormous role played in markets by human error, as documented in a now-established literature called behavioral finance. ….

Actually, I do not completely oppose the efficient-markets theory. I have been calling it a half-truth. If the theory said nothing more than that it is unlikely that the average amateur investor can get rich quickly by trading in the markets based on publicly available information, the theory would be spot on. I personally believe this, and in my own investing I have avoided trading too much, and have a high level of skepticism about investing tips.

But the theory is commonly thought, at least by enthusiasts, to imply much more. Notably, it has been argued that regular movements in the markets reflect a wisdom that transcends the best understanding of even the top professionals, and that it is hopeless for an ordinary mortal, even with a lifetime of work and preparation, to question pricing. Market prices are esteemed as if they were oracles.

This view grew to dominate much professional thinking in economics, and its implications are dangerous. …. In fact, markets are not perfect, and really need regulation, much more than Professor Fama’s theories would allow.

Robert J. Shiller, “Economic View: Sharing Nobel Honors, and Agreeing to Disagree“, New York Times, 27 October 2013. [subscribe2]

Richard Thaler on the EMH and Trust

Monday, October 21st, 2013

This is a wide-ranging interview. I focus on just two of the topics covered: the Efficient Market Hypothesis (EMH) and the role of trust in a market economy.

The office of behavioural economist Richard Thaler (born 1945) is close to that of the 2013 Nobel laureate Eugene Fama, widely regarded as father of the EMH. The two Chicago professors are close friends, but Thaler, like Yale economist Robert Shiller (also a 2013 Nobel laureate), is a critic of the EMH. Thaler stresses that the Efficient Markets Hypothesis has two parts: 1) There is no free lunch. 2) The price is always right. Although the first component is broadly true, the second is not, Thaler argues.

Regarding trust, Thaler believes that this is essential for economic growth. Free markets alone will not do the job.

Region: What are your thoughts about the EMH today, given the recent financial crisis?

Thaler: Well, I think it’s very hard to argue that real estate prices in Phoenix, Las Vegas and south Florida were rational at the peak. Now, Gene [Fama] will say, correctly, that neither I nor anyone else was able to say when that bubble would break. (I’m not allowed to use the word “bubble” when I’m with Gene.) ….

So when Gene and I have these arguments, he’ll say the fact that you can’t predict when they will end means you can’t say anything about them. I say, no, that’s not the case. And that’s why I separate these two aspects of the efficient markets argument: Whether you can get rich (the “no-free-lunch” part) and whether the “price is right.”

It’s hard to get rich because even though I thought Scottsdale real estate was overpriced, there was no way to short it. Even if there were a way … you might have gone broke before you were right.  ….

But, … most active managers underperform the market. So, I think Gene and I would give similar advice to people, which would be to buy index funds. ….

I think it’s hard to beat the market. Nobody thinks it’s easy, and so that part of the hypothesis is truer, but if we look at what happened to Nasdaq in 2000 [when it fell from 5,000 to 1,400], and then the recent crash [from 2,800 to 1,300 in 2009], well, of course, we’ve never gotten back to 5,000. So it’s very hard to accept that markets always get prices right. ….

Region: One thing we haven’t talked about yet is your work on reciprocity and cooperation. ….

Thaler: ….  It’s very fortunate that we don’t live in a society where everybody is out to take advantage of us. For instance, if you have work done in your house or on your car, there’s absolutely no way for you to monitor what they’re doing, unless you’re willing to spend the time watching them and you happen to know a lot about the work, materials and methods being used.

So it has to involve trust. Trust is really important in society, and anything we can do to increase trust is worthwhile. There’s probably nothing you could do to help an economy grow faster than to increase the amount of trust in society.

Douglas Clement, “Interview with Richard Thaler“, The Region (Federal Reserve Bank of Minneapolis), September 2013.

There is much more in the full interview, including a discussion of Nudge: Improving Decisions about Health, Wealth and Happiness (Yale University Press, 2008), a best-selling book that Thaler wrote with US legal scholar Cass R. Sunstein (born 1954).

Douglas Clement, editor of The Region, interviewed Professor Thaler on 17 July 2013, before the 2013 Nobel laureates in economics were announced.

the “efficient market hypothesis” vs the “cost matters hypothesis”

Sunday, October 20th, 2013

David Henderson’s “A Nobel for the Random Walk of Stock Prices” (op-ed, Oct. 15) describes me as “one high-profile beneficiary of Mr. Fama’s insight,” allegedly inspiring my founding of the Vanguard 500 Index Fund in 1975.

This is untrue. Perhaps to my shame, I didn’t even learn of Eugene Fama’s “efficient market hypothesis” (EMH) until a decade after my creation of the 500 Index Fund. Rather, I was inspired by another Nobel laureate, economist Paul Samuelson, who in his 1974 essay in the Journal of Portfolio Management demanded “brute evidence” that active money managers could beat the market index. Such evidence has yet to be produced.

Numbers-crunching economists like Mr. Fama represent the “quantitative school” of indexing who came to believe in stock-market efficiency. In fact, he inspired the founding of Dimensional Fund Advisors (DFA), which follows, not an indexing strategy, but a strategy based on persistent undervaluations of various market segments. Mr. Fama continues to serve on the DFA board.

The “pragmatic school” of indexing, on the other hand, simply amassed vast statistical evidence showing that the returns earned by active managers seldom outpace the S&P 500 Index. Further analysis showed that the failure of active fund managers was a result of the costs they incurred. The average manager is average, but only before all these fund operating expenses, advisory fees, turnover costs and sales loads. After those costs, active management becomes a loser’s game. It is the “cost matters hypothesis” (CMH) that assures that investors in low-cost index funds win the battle for superior returns.

John C. Bogle, “Eugene Fama and Efficient Financial Market Theory“, letter to the Wall Street Journal, 19 October 2013.

There is more at the link, including a paragraph on another 2013 Nobel laureate, Robert Shiller.

John Bogle (born 1929) founded The Vanguard Group in 1974. Vanguard 500 was the first index fund that the general public was allowed to purchase. Mr Bogle is author of numerous books, including Common Sense on Mutual Funds: New Imperatives for the Intelligent Investor (McGraw-Hill, 1999).

In light of Mr Bogle’s revelation, FT “undercover economist” Tim Harford was wrong to attribute to Eugene Fama ideas that “have helped popularise low-cost, diversified investment and discredit the idea that masters of the financial universe should be richly rewarded for their stockpicking ability”. Paul Samuelson was responsible for this insight and, much later, John Bogle and Robert Shiller for its popularisation.

To his credit, Canadian-born economist and blogger David Henderson apologized for his error.

Thanks for your correction, Mr. Bogle. My apologies for misrepresenting the source of your thinking. Also, thanks for setting up the fund. In my retirement investments, I’ve been a big beneficiary.

David Henderson, “Oops. My Apologies to John Bogle–and to Paul Samuelson“, EconLog, 19 October 2013.

Nobel Memorial Prize in Economics – 2013

Tuesday, October 15th, 2013

The Royal Swedish Academy of Sciences awarded this year’s “Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel” jointly to three economists: Eugene Fama, Lars Peter Hansen and Robert Shiller. Fama, from the University of Chicago, is a father of the “efficient market hypothesis“. Shiller, from Yale University, believes that investors’ behaviour is not fully rational, leading to booms and busts in housing and financial markets. Hansen, also at the University of Chicago, has confirmed empirically Shiller’s conjecture that models assuming rationality cannot explain the ups and downs of asset prices. (more…)