Is Nate Silver the World's 22nd Best Economist?

Nate Silver likes to refer to Greg Mankiw as "the world's 23rd best economist." He also seems to relish every opportunity to take him on.

About six months ago, Mankiw made a somewhat disparaging comment about Sonia Sotomayor on his blog:

I once wrote a short paper... based on the premise that there are two types of people: Some save and intertemporally optimize their consumption plans, while others live paycheck to paycheck, spending their entire income as soon as it's received. Sometimes readers of the paper think of the two groups as rich and poor, but that interpretation is wrong. Some people with low incomes manage to scrimp and save (I always think of my grandmother), and some people with high incomes spend most everything they earn.

Apparently, the new Supreme Court nominee Sonia Sotomayor is an example of the latter...

My grandmother would have been shocked and appalled to see someone who makes so much save so little.

Here Mankiw is assigning Sotomayor to the group of individuals who do not "intertemporally optimize" based simply on evidence that her accumulated savings are small relative to her income. Using impeccable economic reasoning, Nate Silver countered as follows:

What are a person's incentives to save, rather than spend, money? The four basic ones are usually these:

1. To protect against downside in one's income, particularly the risk of being fired.
2. To save for retirement.
3. To save for one's family and children.
4. To save for an expensive purchase, such as a home or a nice car. 

Nos. 1-3 don't really apply to Sotomayor. With the possible exception of being a tenured professor at Harvard, few positions offer more job and income security than that of a justice on the Federal Circuit Court; Sotomayor would have to be impeached by the House and found guilty by the Senate to lose her job, something which has happened only a handful of times in American History. Sotomayor's federal pension is undoubtedly very generous, rendering #2 somewhat moot, particularly as she could also stand to make a significant "post-retirement" income in private practice or on the lecture circuit. And she does not have a children or a husband to support. It would be quite irrational if she had half a million dollars collecting dust and 0.01% interest in her Chase checking account.

Perhaps Mankiw's grandmother would find her more virtuous if she were saving up for a Lexus or a summer home in the Hamptons, but that doesn't seem to be her cup of tea. Her one real indulgence is the apartment she keeps in the West Village. Although virtually anywhere that would be a reasonable commute from her courtroom in Lower Manhattan would be relatively expensive, she could save a bit by living in the Financial District or perhaps in Brooklyn. But Mankiw, who lives in a zip code where the median price of a house is 1.65 million dollars, should not exactly be throwing stones from his undoubtedly very charming, New England Colonial home.

In other words, given her circumstances and preferences, it appears that Sonia Sotomayor is intertemporally optimizing perfectly well.

That exchange was back in May, and there the matter rested until Mankiw published a piece in the New York Times this week arguing for a change of course in fiscal policy:

Congress passed a sizable fiscal stimulus. Yet things turned out worse than the White House expected. The unemployment rate is now 10 percent — a full percentage point above what the administration economists said would occur without any stimulus.

To be sure, there are some positive signs, like reduced credit spreads, gross domestic product growth and diminishing job losses. But the recovery is not yet as robust as the president and his economic team had originally hoped.

So what to do now? The administration seems most intent on staying the course, although in a speech Tuesday, the president showed interest in upping the dosage. The better path, however, might be to rethink the remedy.

When devising its fiscal package, the Obama administration relied on conventional economic models based in part on ideas of John Maynard Keynes. Keynesian theory says that government spending is more potent than tax policy for jump-starting a stalled economy.

But various recent studies suggest that conventional wisdom is backward...

These studies point toward tax policy as the best fiscal tool to combat recession, particularly tax changes that influence incentives to invest, like an investment tax credit. Sending out lump-sum rebates, as was done in spring 2008, makes less sense, as it provides little impetus for spending or production.

This was too much for Nate to resist. In his response he notes first that tax cuts were indeed a large component of the original stimulus package.

First, let's take a look at what the stimulus package was actually designed to consist of... Some $288 billion -- 37 percent -- consisted unambiguously of tax cuts that were labeled as such. Meanwhile, $274 billion -- 35 percent -- consisted of traditional, Keynesian-type investments in infrastructure and related areas. These types of spending are easy to characterize...
 
Indeed, it's probably fair to think of the stimulus as consisting of about half tax cuts. About 37 percent of the stimulus consisted of tax cuts which were labeled as such. But also, some fraction of the 10 percent labeled as transfer payments functioned like tax cuts, and some fraction of the 18 percent allocated to state and local governments had the effect of offsetting tax increases (or perhaps financing a tax cut proper in a few cases).

Does this mean that tax cuts are ineffective in stimulating production? Not really:

In other words, the stimulus -- in terms of its potential impact on the economy thus far -- looks at least as much like Mankiw's alternative as the "conventional economic models" that he trashes.

All of which might indict Mankiw's thesis -- except that he also may be wrong about his other conclusion: that the stimulus is not working. Mankiw cites studies describing the impact of various types of stimulus on GDP -- not unemployment -- and as we pointed out yesterday by GDP standards the stimulus has done quite well, with 3Q growth coming in at 2.9 percent versus a consensus forecast of 0.7 percent and 4Q GDP poised to print at about 4.0 percent versus a forecast of 1.9 percent...

So, to summarize: Mankiw is wrong that the stimulus consists mostly of Keynesian-type investments. So far, it has been closer to the tax cut end of the spectrum. But he's also wrong that the stimulus is not working. By the benchmark that he implicitly endorses -- GDP -- it's done very well. Mankiw is so wrong, in other words, that he may actually be right: the stimulus looks a lot like one he might have designed, and it's helping the economy.

As Nate concedes, the substance of Mankiw's argument (that tax cuts are more effective than spending increases in stimulating production) may well be correct. The empirical studies cited by Mankiw do seem to support his position, and do indeed run counter to the conventional Keynesian view. This is an important debate to have, both for immediate policy purposes and for our theoretical understanding of the manner in which fiscal policy operates. But there seems to be no reason to make it a partisan exercise.

What can one learn from all this? First, that couching an economic argument in overtly moralistic or political terms can considerably diminish its impact. And second, Nate Silver may well be the 22nd best economist in the world.

---

Update (12/16): There's yet another noteworthy exchange between our two protagonists, dating all the way back to January 2009. It started with an article by Mankiw arguing (just as he did in his more recent piece) that the government spending multiplier was much smaller than conventional wisdom would have us believe, while the tax multiplier was significantly larger. Silver responded by claiming that the empirical findings on which Mankiw's argument was based could not be generalized to the current economic environment because they referred to the effects of exogenous changes in  taxes and expenditure. Mankiw replied that without focusing on exogenous changes one could not possibly hope to identify causal effects of any kind. In this case both were making valid points: Mankiw about identifiability and Silver about external validity, as Andrew Gelman helpfully pointed out.

---

Update (12/18):  Mankiw makes a much more effective (and considerably less partisan) case for an investment tax credit on his blog.