A Problem of Exchange Rates

Exchange rates, while usually arriving late in the semester of study, offer a number of interesting problems for economics students. And the topic has reverberations for the personal finance course, as well. And while the more traditional economics class may spend more time and get into more depth, a fundamental understanding is appropriate for both classes.

In my experience, one of the biggest stumbling blocks to student understanding is the idea of buying and selling money. I think it is because students usually think of money characteristically first, and functionally second. Yet, I find the idea behind foreign exchange is easier to explain if you rely on the functions of money. The functions of money (medium of exchange, store of value, and measure of value) reveal that money is first and foremost a tool. From there one advances to the idea that if one wants to work in a specific environment, one needs the proper tools. And from there you move to the idea that nations are specific national/economic environments. Therefore, buying money is no more than buying the proper tool for an environment.

The next step is the idea of fixed vs. floating rates of exchange. Again, if the student accepts the idea of money as a tool, the idea that the price of tools may change due to supply and demand (or even risk) becomes simpler to grasp. And as value of a given currency or unit of money changes, the price of goods and services produced with the tool (imports or exports) also changes. And that has an impact on supply, demand, opportunity cost and even the family budget.

Now, it's taken me a while to get to the point of today's blog. The Federal Reserve Bank of St. Louis has a number of excellent, easily digestible publications that can provide up-to-date discussion points and data for teachers. One of these is International Economic Trends, and the most recent issue features a brief cover essay on how the falling value of the dollar is having an inflationary impact in the oil-rich Gulf states of the Middle East. Now some of you may wonder how the value of our currency could affect the value of the currency of another nation's money so significantly. The answer lies in the fact that many of the Gulf currencies are pegged to the dollar. Essentially their exchange rate for the dollar is fixed, while it may float against other major currencies such as the euro or yen. That means their currency value mirrors ours, and that has implications for their monetary policy. And as we have been loosening policy to preempt an economic slowdown, those nations have also had to match the value of our dollar, perhaps loosening when it is not warranted given their economic situation.

I urge you to look at the essay. And consider looking at past issues. I think you'll find International Economic Trends a handy resource. I look forward to your thoughts.

The Super Bowl and the Stock Market

It's time to revive that old chestnut, the Super Bowl Market Predictor. First, let me say up front that I'm not a huge NFL fan. Generally, I reserve my interest to college football. All other sports I try to keep up a small level of interest to provide something to discuss with strangers - but there's no real passion or interest.

The lone exception might be the Super Bowl. And there my interest is largely statistical and, in a minor way, financial. I speak of the Super Bowl Stock Market Predictor. For those of you unfamiliar with this piece of minutiae, there's a very good explanation in today's issue of The Wall Street Journal.

The upshot is, since the inception of the Super Bowl, the winner of the Super Bowl is an indicator of the performance of the stock market for the year. Specifically if the winner is one of the original NFL teams (we're talking pre-merger with the AFL in the 1960s), the market will finish the year higher. This group basically includes the current NFC teams, plus Indianapolis and Pittsburgh. (Steelers fans can insert cheer here as the inclusion of the latter seems to help the statistic a bit.)

If the Super Bowl is not won by one of the original NFL teams (read as most of the AFC including the New England Patriots), the market will finish the year lower. This quirk seems to be correct about 81% of the time.

Now, I will not make any investment decisions based on the outcome of this game, but I like to see my portfolio grow as much as the next person. Consequently, with no real prior interest in this NFL season, I will have to admit that my sympathies will be leaning a bit towards the Giants. And for those of you who have more interest in this than I do, it might be one more reason to hate the Patriots. Personally, I don't hate the Patriots. I know a number of people up in Boston who will likely be pulling for their home team, and rightfully so. I wish them well. But I will be interested in the outcome of this NFL game.

P.S. This might be an excellent time to bring your economics students back to the discussion of the difference between coincidence, correlation and causality. I look forward to your comments.

Game of the States - Comparative Advantage

I ran across an interesting web site today (HT to Real Time Economics at The Wall Street Journal). I don't know how many of you remember a classic board game, Game of the States. I used to enjoy the game and I occasionally get the family to play on our game nights. The idea was that you had to go from state to state, purchasing goods each specialized in and truck it to another state for sale. It was also a good way to develop a sense of U.S. geography.

The Bureau of the Census just opened a web site that gives a true sense of the comparative advantage of each of the 50 states. It lists the industries each state leads in both in total sales and per capita. This is a prime example of "do what you do best and trade for the rest."

I think this could be a great resource for teachers at the upper elementary and middle school level. And it also has some possibilities at the high school level.

Take a look and share your ideas.

Keep Reading, Mr. Gates

Here's one more from The Wall Street Journal. (I swear I'm beginning to feel like King Henry exhorting you "once more into the breach.")

Anyway, yesterday's issue featured a front page story on Bill Gate's call for kinder capitalism. Specifically, he calls for business to work with government to develop more creative solutions to help the poor of the world. At one point in the article, the Microsoft founder noted that there's more to Adam Smith than The Wealth of Nations, flipping through a copy of Smith's earlier major work, The Theory of Moral Sentiments.

I applaud Mr. Gates for his deeper reading of Smith. I'm not sure he's reconciled the two works. He apparently sees that self-interest drives capitalism. I'm not sure he gets the fact that caring about others also serves self-interest, albeit on a different level. I would, however, encourage him to read more. One economist he may consider is Schumpeter, who coined the term "creative destruction." Given that Microsoft has changed our lives in a substantial way, one wonders how Mr. Gates could have missed the creative element inherent in capitalism. Indeed, creativity is vital to keeping an economy growing. To discount capitalism in its present form for a lack of creativity in addressing the problems of the poor is to dismiss much of the world's progress since the time of Smith. It is the dynamism and creativity that is harnessed by the self-interest of capitalists that allows new products and services to grow to the size that the founders can take an interest in world around them. Because capitalism is creative, Mr. Gates now stands next to Mr. Carnegie and Mr. Rockefeller as a philanthropist.

I encourage your comments.

Spending Limits - Trust in the Market

I saw this article (link no longer operative) in yesterday's issue of The Wall Street Journal and put it aside to blog on today. But I got beat to the punch by Sara Schaefer Munoz who writes The Juggle blog for the Journal. The topic is particularly relevant for those of us teaching personal finance/financial literacy courses. Because money is a key factor in marital discord, it makes sense to have a money plan. Unfortunately, too many new couples don't have such a plan.

The article brings up issues like separate checking accounts, as well as "when do you tell." It addresses the idea of trust (which is vital for making any system of exchange work), as well as money management (choices about scarce resources). Now before anyone goes 9-1-1 on my comment about trust and a system of exchange as it relates to marriage, I would point out that all relationships involve give-and-take (exchange) in order to survive. And one presumes we are in relationships because we want to be (voluntary). Therefore, relationships are another example of voluntary exchange. And as we know from our study of economics, when parties trade voluntarily, both parties are better off.

Now let's get back on task. I would encourage you to read the article as well as the post in "The Juggle," including the comments. I think it has some possibilities for classroom use. I look forward to your thoughts on the matter.

The Law of Unintended Consequences

I also suppose this post could also be titled "The Unintended Consequences of Law." Either way, it's about how when we attempt to direct the market, we frequently create additional problems. This is not to say that the problems would not arise if the market led us to the same point...just that we frequently don't think things through.

The example comes from an article in today's issue of The Wall Street Journal titled The Dark Side of Green Bulbs. And while the illustration features a compact fluorescent light (CFL) partially morphed into a skull-and-cross-bones, it deals with issues beyond lighting. Specifically it points out that, in our rush to develop more efficient appliances and to become more efficient energy users, we are creating additional environmental issues. The article also points to a couple of examples of market players stepping up to deal with the consequences.

As far as lighting goes, I believe the market would have seen a substantial voluntary move toward CFLs from the traditional incandescent by itself. And I think more efficient lighting is in the offing. However, I also believe that government mandates to force people to move in a certain direction only creates other problems...or in this case, brings them to a head sooner.

I encourage you to use this article in your economics or personal finance classes. For the former, it could make for a debate on the role of government in the marketplace. For the latter, the discussion could revolve around short-term vs. long-term costs and how we, as individuals, pay for our decisions. Either way, I suspect it will make for interesting discussion. I look forward to your comments.

Economic & Financial Literacy: One More Reason...

William Poole, President of the Federal Reserve Bank of St. Louis, recently made a speech before the Financial Planning Association of Missouri and Southern Illinois. In his speech, he talks about recent financial events, and points to five mistakes that led to the current sub-prime mess. I suspect there were others that he didn't mention, but these five are, in my opinion, spot on in terms of major contribution. The list makes the speech a worthy read by itself.

But the more important part of his speech (for purposes of this blog) followed the list. In his section on avoiding future mistakes, he notes how better decision-making (particularly in areas of economic and personal finance) could have helped us avoid the current situation. He talks about economic literacy as well as financial literacy as key parts of a solid education. That last part is worth repeating. He talks about economic AND financial literacy.

Regular readers of this blog know that I am a strong proponent of doing both. I've presented to various audiences on the need to teach BOTH. One without the other only serves to create different levels of dependency. Those who understand the theory too frequently still need help with applying what they know to everyday situations. Those who are schooled in the application and development of day-to-day skills; too frequently know the how, but do not understand the why.

I encourage you to take a look at the speech, and to work within your communities to make sure that the students in your schools are both economically and financially literate. I would submit to you, the current economic situation suggests the opportunity cost of not doing both is too high.

I welcome your comments.

Banking in another Life

Something interesting is happening in the parallel universe of Second Life, the popular on-line game. It seems that the avatars (characters representing the real players) are facing a banking crisis. An article on the front page of The Wall Street Journal today chronicled how players were faced with a major liquidity crisis in the virtual world, and how the creators have had to intervene, closing down banks that were no longer solvent. One hopes that they also create some financial regulatory structure, although it sounds like much of what was going on in Second Life was not far removed from what the U.S. experienced in the "wildcat banking" era of the 19th century.

Who knows, players may even move to demand a 100% reserve system, essentially turning the virtual banks into virtual warehouses. If they do, they will need to diminish their expectations. I doubt any financial institution can provide much in the way of return if not allowed to invest the deposits. (However, it does sound like some of the Second Life bank presidents were not investing as much as gambling.)

However, I say this as a total outsider having never played the game, and having only heard of it a few times.

Any insights or comments out there from Second Lifers?

O Say, Can We See?

Today's issue of The Wall Street Journal also included an interesting piece on the fiscal stimulus package proposed by New York Senator and Presidential candidate Hillary Clinton. The piece was interesting to me not because it was about one of the campaigners, but because it referenced 18th-century French economist Jean-Baptiste Say.

The author of the editorial, George Melloan, quotes Say as saying "products are paid for with products." There may be a few would see this as a confirmation that a manufacturing economy is the only real source of wealth. I suspect that Jean-Baptiste could not begin to imagine, much less fathom the modern service sector and all it brings to improve our standard of living. However, the idea is essentially correct. And that is, we can't consume what is not produced. Or to reverse it, we must produce before we consume. Say's Law is also frequently stated as "supply creates its own demand." I feel that version is perhaps a bit suspect. Despite what some popular culture would like to portray, it is not necessarily true that "if you build it, they will come". Ask the owner of any poorly located restaurant, boutique or small business. But the idea of linking production and consumption is a vital part of economic and financial literacy. Too often, people presume that a job is something you get, and a raise is something you deserve, just because you exist. That's not the case. With a job, you are expected to produce. And it is that production that enables you to consume. You may not consume what you produce, but you are enabled nonetheless. Production and consumption are connected, at the personal and the national level.

What are your thoughts?

Policy and Precedent

The Federal Open Market Committee (FOMC) made a major policy announcement earlier this morning. The 75 basis point drop on both the target for the Fed Funds rate and the discount rate is very significant, speaking to the concern about the current situation in the financial markets. As rate drops go, it ranks up there with the Fed's announcement in 1991 of a drop of 50 basis points in Fed Funds and 100 basis points in the discount rate. (A basis point is one one-hundredth of a percent, thus 100 basis points is the equivalent of one percent.) At that time, the U.S. was already in recession and the economy had not responded to a series of smaller cuts. I've often thought of changes of this magnitude as the "whack up the side of the head" approach to policy. While that terminology is probably not in anyone’s handbook other than mine, it refers to the old saw that when trying to get a mule to do what you want, you may need to given them a whack to first get its attention. Certainly back in 1991 one could make that argument. The economy had pretty much ignored earlier moves and had not turned around. The cut reinvigorated the economy, particularly the real estate market.

I'm not sure this action qualifies as the "whack up the side of the head." I don't think the economy as succumbed to the r word. The statement makes clear the Fed is concerned with the down side risks to the economy. This is in line with the Fed's dual mandate to maintain maximum sustainable growth as well as price stability. However, I believe this is also a case of the Fed moving to maintain an orderly financial market. Part of the Fed's responsibility is to maintain liquidity and help markets maintain order. One could certainly make a case for a lack of order in global financial markets during the past couple of days. In some ways, this event smacks more of 1987 than of 1991. But either way, it provides an excellent opportunity to teach about monetary policy and the central bank's role in the U.S. economy. "Real life" makes things so much clearer than textbook examples. It may even justify teaching the topic out of order after providing some basic background. What do you think?

Are you continuing to stick to the lesson plan, or are you taking advantage of this teachable moment? And what are you doing specifically if you're doing the latter? Your colleagues reading this blog and I want to know.

Keynesian or Pragmatist?

Today's issue of The Wall Street Journal has an interesting piece in the Review and Outlook editorial. In it, the author seems to berate Fed Chairman Bernanke for endorsing fiscal policy as a method of providing stimulus. The author resurrects a quote from then President Richard Nixon about "we are all Keynesians now," and proceeds to explain how spending programs and tax cuts must be made up some how. I must admit, I thought the tone was more of a stern lecture than explanation, but I'll come back to that. The author also notes the political pressure on the Fed to further ease monetary policy in response to the mortgage "crisis" (quotes are mine). Then the specter of 1970s style stagflation is raised prior to concluding that monetary policy alone cannot spur economic growth, while doubting whether or not genuine stimulus is forthcoming from fiscal policy.

Let me say, that I too doubt whether or not Congress can come up with any meaningful policy, especially in a year in which most of its members are running either for current office or to keep their jobs. For any of them to campaign on how they will get the economy moving again when they're elected - nine plus months away - or more importantly when they're inducted into office - add two more months - seems to me to border on the absurd. The period of slow economic growth referenced by Chairman Bernanke is in the more immediate future. And it is here that I would take issue with the editorial.

I do not claim nor would I ever claim to know the Chairman's mind. However, I do claim to be an economics teacher. And if one is going to lecture, the students need to be taught about the advantages and disadvantages of monetary and fiscal policy. I for one teach that while monetary policy can be enacted quickly, the lag before it reaches full impact can be significant. Indeed, it is likely that interest rate cut first enacted in September 2007, still hasn't fully worked its way through the economy. I also teach that, on the fiscal policy side, changes can have faster impact. Changes in spending and, more significantly for this case, tax policy can be immediate. But the disadvantage is that the political process, which is designed to foster deliberation, tends to slow things down. When I worked for the Fed, one of the lines I heard from time to time was that "you could always tell when a recession was over because that's when Congress passed a stimulus package." The point was that process and the politics often took longer than the recession. I suspect that Chairman Bernanke, being the excellent teacher he is, recognizes this. And I suspect further that his comments to Congress were meant to try to shorten the time it would take to get the policy enacted. In this he should be recognized for his pragmatism. He knows that for fiscal policy to be of assistance in the current situation, Congress cannot wait for the elections to sort things out. He knows the disadvantages of monetary and fiscal policy. Whether or not anyone does is another matter.

Regardless, I think the current debate about stimulus is an excellent forum to teachers to discuss such things as monetary policy, fiscal policy, the business cycle, and the role of government. Season your daily lesson tidbits with a bit of reality, and it becomes a savory dish for your students' consumption.

**UPDATE**
The folks over at Aplia Econblog have some interesting classroom insights for follow-up.

I look forward to your comments.

Charles Dickens and Personal Budget

I keep a personal journal of things I read. In it I place excerpts that resonate with me. They can be pithy, insightful, or just interesting. But they must make me think.

Last night, I was trying to update my journal entries. I had fallen behind with the move this past summer. And I was revisiting Diane Coyle's The Soulful Science: What Economists Really Do and Why It Matters.

At one point in Coyle's book, she uses a famous quote from Charles Dickens' classic work, David Copperfield. In it, Mr. Micawber notes the difference (in his view) between happiness and misery.

"Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery."

As I read that quote, I was struck by the fact that the difference between budget that allows us to save and a budget that drives us into debt is often small. It may be the result of a few choices or decisions. This is one reason why budgeting is an important part of financial literacy, and why the economic concepts of choice and opportunity cost are important underpinnings of that process.

As I've often stated, economic and financial literacy are two sides of the same coin. To do well by our students, we need to teach both the theory and the application. But it's fun when you can point the idea out in classic literature.

I look forward to your comments.

"New" Ideas from Dead Economists (with Apologies to Todd Bucholz and Martin Feldstein)

In a recent column for Slate, Ray Fisman addresses part of the controversy surrounding remarks by Bill Cosby a few years ago. Mr. Cosby, you may remember chastised members of the black community for buying their children expensive sneakers instead of educational toys. Cosby evidently repeats a variant of this in a recent book.

Ray Fisman questions the economics of the statement, and points to an interesting research paper out of the University of Chicago that uses data from the Consumer Expenditure Survey to examine the premise. I've read the paper and found some of it quite interesting. Most interesting to me was the fact that the authors of the paper hearkened back to Adam Smith's Theory of Moral Sentiments and, more significantly, Thorstein Veblen's Theory of the Leisure Class. Both of these classic works address how people feel about positioning themselves in society, or to put it another way, the importance of status.

I'm not prepared to make judgment on Mr. Cosby's book. Nor do I feel comfortable enough to criticize the study. What was of interest to me was that the research seems to support the ideas originally put forth by Smith and Veblen. They can still teach us something. I would recommend you read the article through, as well as the comments, and don't be afraid to read the research paper. While there are some smatterings of higher math in the article and subsequent notes, I found it very readable and interesting. Thanks to Greg Mankiw for the pointer.

I invite your views.

Development of the Taylor Rule

Those of you interested in macroeconomics in general and monetary policy in particular should find this of interest. I especially recommend it to those of you participating in the Fed Challenge competition that is offered in several Federal Reserve Districts.

The Federal Reserve Bank of Kansas City just posted an interesting paper on the historical development of the Taylor Rule and its impact on monetary policy. First proposed by John Taylor, currently Professor of Economics at Stanford University, the Taylor Rule suggests that the Fed Funds rate can be explained using an equation, based on the recent rate of inflation and the difference between real Gross Domestic Product (GDP) and trend.

Don't be scared off because the equation may be beyond you and your students. (It has been for me in the past - I think I'm starting to get it.) It is the tracing of the intellectual roots in this paper that has helped me better understand where the theory comes from and how it came to be fleshed out. Linking the idea to the early work of Simons, Keynes, Phillips, Friedman and others was interesting and helpful in solidifying my grasp of Taylor's work and its importance.

I would recommend it, and I hope to read your thoughts on the article.

Institutions and Economic Growth

With my interest in economic institutions, I couldn't pass up recommending this post from a new blog, mentioned here last week.

Let me know what you think.

Freedom and Economics

I hope that visitors to this blog have also had an opportunity to click on the link to the Powell Center for Economic Literacy, not just because it's my place of employment and provides me time and shelter to do my posting (among other things); but because it is an important organization with an important mission. If you've not done so, I encourage you to learn about Powell. With that introduction, there are a couple of very good articles that relate to the Powell Center's reason for existence.

The first is from today's issue of The Wall Street Journal. The editorial page features a piece by Mary Anastasia O'Grady on economic development. In the article, she uses the release of the 2008 Index of Freedom to repeat the case that economic freedom and political freedom are linked. The index includes factors like property rights, tax rates, government intervention, monetary, fiscal and trade policies, and business freedom. When I teach my students about economic institutions - the rules and organizations created by society to influence decision-making - all of these factors are included. And they are all important. And while many, myself included, would contend that economic freedom is not an automatic precursor to political freedom; I also agree that economic freedom must accompany political freedom if either are to last.

The second article I would like to draw to your attention is from Policy magazine. Author Peter Saunders is Social Research Director at the Centre for Independent Studies in Australia. It is an independent think tank and has a classical liberal view. The article discusses Why Capitalism Is Good for the Soul. In the article, Saunders examines how capitalism stacks up against socialism, and why intellectuals frequently ally themselves with the latter. One of the more interesting aspects of the article is Saunders' view that while capitalism is capable of delivering the goods (literally) better than socialism; socialism has a "romantic appeal" that capitalism lacks. And in countries that have come to take affluence for granted (see Australia's ranking in the above-mentioned Index of Economic Freedom), it just doesn't impress. One of my favorite parts of the article is the following quote where he compares the two, especially referring to socialism's sense of self-righteousness and certainty:

"Boring capitalism cannot hope to compete with all this moral certainty, self-righteous anger, and sheer bloody excitement. Where is the adrenalin in getting up every day, earning a living, raising a family, creating a home, and saving for the future?" (I'd have to disagree - raising a family, etc. never fails to raise my adrenalin.)

Both of these articles speak to reasons for the Powell Center and why its mission is important. I hope you'll give the articles a look and let me know what you think.

Utility and Psychic Income

Harvard professor Harvey Mansfield has an interesting article in The Weekly Standard. In the article, Mansfield discusses the economics of Christmas. Or more specifically, economic studies of Christmas, criticizing economists who have, in turn, criticized Christmas as a woefully inefficient method of transferring goods. He makes his point by referring to work that looks at Christmas from the standpoint of the receiver. Evidently, there are studies that discuss the utility or value of a wrong or inappropriate gift (from the standpoint of the receiver). One presumes the receiver could be better off selecting their own gift, (see gift certificates or money as a utility maximizer).

Mansfield then proposes to look at Christmas from the stand-point of the giver, extolling generosity and preferring it over liberty (as in the liberty of the marketplace if I understand correctly). However, in his last paragraph, the author talks about generosity as a "utility." While I might quibble about the term, I will offer that Mansfield is ascribing an economic aspect to generosity.

To my understanding of the idea of "psychic income" (the subjective value of nonmonetary satisfaction gained from an activity), the giver receives value from bestowing a gift on an acquaintance, friend, or loved one. And thus there is an economic aspect to Christmas. And while the psychic income of the giver may be different from the perceived utility of the receiver, there's still plenty of economics to provide a sound and valuable explanation, as well as theoretical utility. However, one could provide a defense for this explanation if one goes back to the concept that voluntary exchange creates wealth. It never says anything about incurring transactions costs (the bother of returns and exchanges).

Of course, one could always reduce transaction costs and offer a Christmas list to those who ask. It works at my house, and generally there's a minimum of activity at the returns and exchange counter because of it.

I look forward to your comments.

The "R" Word

I suspect that if you teach much macroeconomics in your course, you spend some time on business cycles: the pattern of expansion and recession that mark economic history. There are some good recent posts on The Wall Street Journal blog, Real Time Economics. Both of them have to do with what some may consider technical minutiae, but both are interesting background for teachers of economics. I bring this up because, too often, we and our students hear the media define recessions as "two or more consecutive quarters of declining gross domestic product (GDP)." The reality, while tied to GDP, is not that simple. And while it may provide a convenient rule of thumb, it is important for students to understand why GDP is not the whole story.

The first of the two posts I would recommend is this one which links to Fed Chairman Bernanke's speech from yesterday, as well as a question put to him regarding calling recessions. As the post points out, Mr. Bernanke was a member of the National Bureau of Economic Research (NBER) which decides whether or not a downturn qualifies as a recession.

The second post features a brief video clip about recession, but more importantly provides a link to the NPR radio program On Point that featured a discussion about GDP and recession. The broadcast is about 45 minutes long but provides some good give and take regarding what goes into dating recessions, as well as the depth and length of downturn and how it may or may not show up in some of the data series.

I know many of you are hip deep in exams and semester grades. But if you get a chance, give these posts some time. I think you will find them as interesting as I did. (One caveat: the posts were much more enlightening than some of the comments.)

The Store We Love to Hate...and Shop

One of the great economic success stories in the last half of the twentieth century certainly has to be Wal-Mart. From an Arkansas phenomenon to a national presence, this retail giant has changed the face of retailing. Some say it has done so for the worse, others talk about it more glowing terms. It even holds a key place in one of the more popular books of the past few years, Thomas Friedman's The World is Flat. And it can frequently be used in class as good/bad example of competition or creative destruction, depending on the teacher's predilection.

The Federal Reserve Bank of Minneapolis fedGazette for January, 2008 has an interesting article titled The Wal-Mart Effect that can be used in classroom discussion. Of particular value are the charts in the article. They illustrate
things like Ninth District population growth, employment, earnings, number of business establishments, tax receipts, poverty rates, comparing the District counties with Wal-Marts to those without. The data seems to support both sides of the debate about Wal-Mart's impact. But this is frequently the case in economics, isn't it? (Insert old joke about Harry Truman and one-armed economist for yourself.)

Of additional interest is a link to a prior issue of fedGazette that discussed Wal-Mart's location strategy and containing a wave file illustrating the growth of Wal-Mart locations from 1962 to 2004.

Do you ever find yourself discussing Wal-Mart when talking about competition, creative destruction, or other aspects of economics? Does this provide you with additional insights? I look forward to your thoughts.

Bunny Slippers and the Theory of the Firm

I've been meaning to blog on this for a couple days. But no time like the presnet.

When teaching economics, I've often had trouble explaining the theory of the firm. I suspect part of it is my preference for macro over micro, but more importantly, I always felt I lacked a good anecdotal way of going beyond the definition. If you also have trouble; fret no more. Here's as good an explanation as I've run across.

Michael Munger at The Library of Economics and Liberty has an essay on this very subject. In my opinion, it's clear, interesting, and helpful. It explains why firms fill a significant role in the marketplace. As we know, if markets are so powerful, everyone should be negotiating for everything all the time. But firms provide a vital function, as Munger points out, by reducing transaction costs. That aspect explains, for example, why we have financial intermediaries (banks, etc.) instead of negotiating with other individuals on how and where to lend our excess funds or how and where to borrow.

I hope you find this helpful. Please share your thoughts.

Institutions and Their Impact

One of the concepts I always try to emphasize to my students (both in economics and personal finance courses) is the role of institutions. The rules (formal and informal) and organizations that each economic system sets up can have a profound impact on how the economy performs. (For a better understanding of institutional economics you can read Douglass North's Nobel Prize lecture, or this entry in Wikipedia.) Certain behaviors can be encouraged or discouraged because a fundamental precept of economics is that people respond to incentives in predictable ways.

One of the more interesting aspects is how informal rules can shape behavior. The journal Foreign Policy has a very interesting article titled "Europe's Philosophy of Failure" (HT to Robin Mooney at The Informed Reader) that considers the possible impact of how economics textbooks treat topics like entrepreneurship, capitalism, the role of government, and globalization. You might want to take a look at the article and then consider how you address the topic of institutions. You may decide to "pump up the volume" on this topic, or "tone it down" depending on your current practice.

I've found over the years that many teachers, particularly at the high school level, don't address the topic at all, or use it exclusively to discuss organizations like banks, unions, etc., without addressing the "rules" aspect of the issue. For teachers who want to learn more about the topic, I can recommend Douglass North's Institutions, Institutional Change and Economic Performance.

I look forward to your thoughts.

Some Resources for the Classroom

First, I've run across a new blog that you might want to begin checking on from time to time. It is too early to tell how long it will run, but it looks like it has a great deal of potential. Econoblogging at Ohio University appears to be the backbone of a course designed to examine economic issues through blogs. The first significant post discussed trade-offs and already presented some interesting questions that could be used at either the university or high school level.

Second, former Federal Reserve vice-chairman and current Princeton professor, Alan Blinder, had a very good editorial in The New York Times on January 6. He speaks to the necessity for all the Presidential candidates to address the rising fears of globalization; while helping everyone understand the opportunity inherent in the process. He follows up with a checklist of social programs that can minimize the transition for the displaced. You may agree with some and disagree with others. The important part of the piece is that the U.S. should not turn its back on trade liberalization.

I look forward to your comments on both of these.

Back from the Holiday Break

I hope everyone that had a holiday break enjoyed it. For those of you who had to work, I hope it wasn't inordinately stressful.

While I was out of the office, I did a bit of reading. One of the books I read was The Choice: A Fable of Free Trade and Protectionism by Russell Roberts who blogs at Café Hayek. The book is short, less than 150 pages. It tells a story of how economist David Ricardo (of comparative advantage fame)is given a task to convince a 1960s American TV manufacturer why he should not endorse a political candidate who will push for total trade isolation. The manufacturer has already received some protection for his firm in the form of an import quota, and has been asked to make a speech at the national convention supporting the candidate.

The weakest point of the book is the "all or nothing" approach that is adopted. However, Roberts uses it as the most efficient vehicle for Ricardo to discuss all the ins and outs of trade and trade barriers.

The story's main characters do an excellent job of offering up all the arguments for trade protection: infant industry, strategic industry, fair trade, jobs, etc. And they do as thorough a job of explaining the economics of trade as a counter to every issue.

For teachers who are looking for a different yet amusing way to approach those last couple of chapters each semester, this might be the ticket.

I hope others of you have read or used the book. I'd be interested in your comments.