Meanwhile, In India…

Yesterday’s post was about taxation (or the lack of it) in the United States of America. Today’s post is about the composition of tax revenues in India (along with some questions to which I would love some answers).

So the Hindu came up with a very interesting analysis on the composition of India’s taxation revenues over the past couple of years:

In FY21, despite a stringent lockdown and a raging COVID-19 first wave, the gross tax revenue collected by the Centre increased over FY20. However, the increase was made possible by a sharp rise in contributions from union excise duties. This compensated for the sharp drop in the share of corporate tax collection. The shift in tax burden from the corporates to the masses has come at a time when the pandemic has led to many job losses and reduced income levels thereby pushing more people into poverty.

https://www.thehindu.com/data/data-centres-tax-revenues-grew-despite-stringent-lockdown-on-the-back-of-excise-duties/article34850754.ece

This is the first chart in their article:

Source: https://www.thehindu.com/data/data-centres-tax-revenues-grew-despite-stringent-lockdown-on-the-back-of-excise-duties/article34850754.ece

I tend to take chart design a little seriously, so before we proceed, a laundry list of ways in which I wish this chart was better:

  • Source! What is the source of your data? As we will see later on in this blogpost, that really matters
  • Dump the y-axes (or at least one of them) and label the series instead. I’d prefer to do this for both series
  • This is especially important because you’ve got “base” numbers on the LHS y-axis and percentage change on the right, and visually, it is very non-intuitive. Especially because the RHS y-axis has zero at a different level when compared to the LHS.
  • A horizontal line next to 0% on the RHS would help provide clarity.
  • Any charting ninjas out there, please let me know where I’m wrong, and what you would do instead 🙂

Now, about the source of the data:

The article mentions that about “about 20.24 lakh crore was collected in FY21”. Since I don’t know which source was used, I’ve gone with the receipts statement from the Budget at a Glance section of the Union Budget website.

https://www.indiabudget.gov.in/doc/Budget_at_Glance/bag5.pdf

Gross tax revenue for 2020-21 (Revised Estimates) is Rs. 1900280. That’s… close enough, I suppose, to 20.24 lakh crores? Not really, if you ask me, but we’ll make do. By the way, to be clear, none of this is intended as a “hah, gotcha!” exercise. If there is a better data source that I should be using, please do let me know.

The excerpt above notes that gross tax revenue went up in FY 21 compared to FY 20. That’s not what this table shows, and I would love to learn more about which data source was used by The Hindu’s data team. That being said, their larger point is valid, and worth thinking about: in a year in which India’s GDP contracted, by around 7% or so, tax collections have been remarkably resilient. Going by the dataset I am using, they haven’t actually increased, but it is a close run thing, and that is remarkable.

[Professor Sabyasachi Kar was kind enough to point out a rather elementary error on my part: what matters is nominal GDP growth rate, not the real GDP growth rate. And nominal GDP contracted by around 3%, not 7% – that does explain a lot about the change in gross tax revenue we are seeing in this blogpost. Thank you, Professor 🙂 ]


Which means, of course, that we should be taking a look at which specific line items are responsible for this increase. And even a cursory glance at the table tells us that the impressive performance is almost single-handedly due to excise taxes. They’ve gone up from a base of Rs. 240615 crores in 2019-2020 to Rs. 361000 crores in 2020-21. That’s some growth!

If you are a student of the Indian economy, you might want to read this article, an excerpt from which is below:

The interesting thing is that the excise duty earned from the petroleum sector has jumped from Rs 99,068 crore in 2014-15 to Rs 2.23 lakh crore in 2019-20. The government has become addicted to easy revenue from taxing petrol and diesel. This year its earnings will be even higher than in 2019-20.

https://vivekkaul.com/2021/02/22/why-the-price-of-petrol-is-racing-towards-rs-100-per-litre/

As a student, never take numbers you read in an article as given. Not, to be clear, because you don’t trust the author, but because you should always go to the source of the data. Here’s one potential answer:

Source: https://www.indiabudget.gov.in/receipt_budget.php

I personally want to learn more about 5.02, 5.03, 5.05, 5.07.10 and the “total” row. That’d be a great masterclass, if you ask me


The bottomline: it is a great time to be a student of the Indian economy. All of what your textbooks tell you, both in terms of theory and in terms of data, is being stress-tested in ways that really test your knowledge of the Indian economy – so long as you look hard enough, and don’t stop asking the right questions.

So please: look, and ask. 🙂

Macroeconomics: An Introduction, by Alex Thomas (Pt. 1)

About five years ago, I went on a rant on my other blog:

I have developed, over the last seven years or so, a visceral hatred for textbooks. Its not that textbooks are all that bad – they’re limited, they’re expensive and they’re straitjacketed in terms of content and structure, but all of this together isn’t why I hate textbooks.
Its because we have students who demand a textbook in every single course. Over time, we have reached a mentality that says that a course must have a recommended textbook. Instructor must assign chapters from said textbook. Students must read chapters and solve end-of-chapter problems. Instructor will design paper on basis of said textbooks, students will write exam having prepared accordingly, and all is right with the world.

https://thepuneri.wordpress.com/2016/03/28/textbooks-have-become-mostly-pointless/

I’m not going to excerpt the entire rant, but on reflection, it is certainly true that I was on a roll:

And it gets even worse with the “end of chapter problems”. The expectation that the examination will have the same “type” of problems as does the textbook might be convenient in the short run, but it doesn’t teach you how to adapt to problems as you might encounter them in real life. Worse, and this is a point I’m going to write about at length in my next post, this approach simply helps you solve problems, not identify them. And in my opinion, identifying problems is a far more important skill today than having the ability to solve them – but more about that in a later post.
In short, then: textbooks are static, limited and structured ways to learn about a subject, and it is entirely possible, and desirable, that we enrich students knowledge about subjects by giving them much, much more to learn than just a textbook.

https://thepuneri.wordpress.com/2016/03/28/textbooks-have-become-mostly-pointless/

Five years down the line, my opinion on textbooks haven’t changed all that much. I still cringe when students in courses I am teaching ask me for “a” recommended textbook to “prepare for the examination”.

They’re being quite rational from their perspective: they want to maximize marks while minimizing effort. Their microeconomics professor would be proud. My problem lies beyond their request, and beyond their rationality in having framed their request the way they have. They are simply responding to the environment we’ve placed them in, and it is the environment that I have (serious) issues with.

And the textbook authors are responding to their incentives, in turn. If we accept the educational system as it currently exists, then of course we should have chapters, and end-of-chapter problems, and question banks, and answer keys supplied to accredited professors. It has become an industrial complex, for all the participants respond, rationally, to the incentives the educational system has set up for them.

And so it goes, year after dreary year.


And then you see something like this in the introduction of a text:

I strongly recommend and encourage the use of various texts (books, journal articles, government reports, fiction, newspaper articles and textbooks) in the teaching of any course in economics. This stems from my rather modest experience of just over 15 years as a student and teacher of economics. While the use of varied texts is challenging for both the teacher and the student, I firmly believe that the long-term benefits far outweigh the short-term costs, and that it truly contributes to good learning as it enables the students to become better arbiters of knowledge. After all, we live in the age of information abundance, and perhaps the most valuable skills are the ability to identify credible sources of information and the ability to evaluate, with sufficient confidence, contending arguments, perspectives and standpoints.

Preface, Macroeconomics: An Introduction, by Alex M. Thomas

In other words, this is a textbook that is not looking to minimize the efforts of either the teacher or the student. The very opposite, in fact. As Alex says, he is looking to maximize the long term benefits (one might call this “learning”). Not the short term benefits, note (one might call this “marks”).

And it gets better!

Finally, this book adopts a problem-setting approach rather than a problem-solving one, as is the case with most economics textbooks. To put it more clearly, this text helps you to identify, conceptualise and discipline a macroeconomic problem. Therefore, this book does not contain exercises in problem solving, but it contains discussions and questions that make you think about the nature of assumptions, the logic of the theory, the limits of the theory, the interface between theory and policy, a little bit about the gaps between theory and data, and, occasionally, the nature of past and present economic thought. Therefore, this book aims to provide you with an introductory) immersive experience in macroeconomics.

Preface, Macroeconomics: An Introduction, by Alex M. Thomas

Why do I say it gets better? From another of my blogposts, also written five years ago:

In examinations, teachers frame the questions, and students answer them.
So obvious, so matter of course, so banal is this statement that it takes a little time to realize how horrible a system this is. All we’re doing, when we ask students to do this, is learn the subject well enough to be able to answer whatever question we throw at them. And therefore, when they get out there in, y’know, the real world, they ask for a problem, so that they may solve it.
But in the real world, more often than not, you’re paid to frame the question.

https://thepuneri.wordpress.com/2016/03/30/the-growing-irrelevance-of-examinations/

I’m happy to spell this out as many times as it takes: you attend a course in order to learn. A way to check how much you’ve learnt is to write an examination.

Somewhere along the way, this has mutated into: you attend a course in order to score marks in an examination so that you get a job/get into a better college.

Jo kuch ratta maara tha, sab saala pel ke aa gaya, aur doosre din bhool gaya” is funny because it’s true.

So, in a standardized, run of the mill course, this textbook is a nightmare. No end of chapter problems, no question bank, and (the horror!) literary references and (shudder!) poems instead.


Which, of course, is exactly why I can’t wait to read it. I’m done with the first chapter, and will put up my thoughts about it soon. There’s a lot that I love about it, some things that I have questions about, and some areas of disagreements.

But if I’ve understood the spirit in which the book has been written, I think Alex M. Thomas will count my experience thus far as a success.

Understanding Fiscal Policy (2/3)

This post should be read as a continuation of yesterday’s post.

What are the things to keep in mind when talking about fiscal policy for India in 2021? Sajjid Chinoy mentions two, and we’ll deal with the first of these in today’s post. It is called “Recalibrating To New Realities


  1. Sajjid Chinoy first points out the fiscal deficit situation. Please, whether you are an economics student or otherwise, familiarize yourself with the budget at a glance document. My take on the fiscal deficit for the FY21-22 is that there is no way on earth we’re going to be able to stick to the budgeted 6.8%. Tax revenues will be lower, borrowing will be higher, and I’m not buying the INR 1,75,000 crores disinvestment target. I hope I am wrong!
  2. He recommends not cutting expenditures even if budgeted revenues don’t materialize, and expanding MNREGA funding – and I completely agree.
    We’re getting into the weeds a little bit, but he also speaks about cash transfers instead of MNREGA given the pandemic, and I agree there too. Effectively, he is saying that people might not choose to apply for work because of the fear of getting infected, so drop the cash for work requirement: just transfer.
  3. “Double down on achieving budgeted asset sales targets, because this will provide space for more debt-free spending.” is one of his recommendations. I agree with the message, but find myself to be (very) cynical about the likelihood of this happening. We haven’t managed to meet these targets even once, and were off by an impossibly large magnitude this year, so I don’t see this happening. Again, I hope I am wrong.
  4. I’m paraphrasing over here, but the implicit request by the author is to keep capital expenditure sacrosanct (because of the multiplier effect). The implicit bit is the corollary: if sacrifices must be made, it is in revenue expenditure. The cynic in me needs to be reined in, but I’ll say it anyway: good luck with that.1
  5. Finally, he makes a request of monetary policy, that is acts as a complement to what is written above. That is, monetary policy should not worry about inflation too much this year. It is more complicated than that, of course, but that’s a separate blogpost in it’s own right.
  1. Let me be clear, I agree! I just don’t see it happening, that’s all[]

Understanding Fiscal Policy (1/3)

I wrote this last week on the basis of this write-up by Sajjid Chinoy. The sequel came out last week, so let’s read through it together.

First things first:

  1. During times of a crisis, such as the one we are going through, it may be helpful to think of the economy as a sick person. That would make us economists and policymakers the diagnosticians and doctors respectively.
  2. Us diagnosticians often like to think about why the person got sick. Was it because of some previously administered medicine? Was it because of some external factor? Maybe both? That is, we identify the disease, and the cause of the disease.
    In this case, the economy is struggling because of the lockdowns and the uncertainty about (at least) the near future. Those are the symptoms. The cause is, of course, the virus.
  3. The doctors – that is, the policymakers – will want to remove the cause behind the economy’s illness first. That is what Sajjid Chinoy means when he says: “With a health crisis at the genesis of the current situation, it’s tautological to say that ramping up vaccinations is the “first-best” solution to tackling the crisis.” That is the cause of the crisis, and removing the thing that causes the crisis is of paramount importance.
    The “how to do this best” question has troubled all of us, and continues to trouble us, and it is worth your time to keep tracking this issue. And it is a great way to learn about how to think about public policy.
  4. But treating the symptoms (and the manifestations) of the cause is equally important. Job losses, reduced investment, reverse migration, subdued demand, rising inequality, reduced incomes, the exacerbated lack of social safety nets are all symptoms and manifestations of the crisis. How to treat the symptoms? That is where Sajjid Chinoy’s second article comes into play.

There are two courses of treatments available to us diagnosticians and doctors: fiscal policy and monetary policy. Sajjid Chinoy argues (and in my opinion, does so convincingly) that monetary policy has done all the heavy lifting it could in 2020, and there’s not much left in the RBI’s arsenal.

Monetary policy was the prime mover last year and markets will inevitably clamour for that pedal to be pressed even harder. But quite apart from the fact that monetary conditions are already very accommodative and core inflation has averaged 5 per cent since the start of 2020, what’s less appreciated is the reduced efficacy of monetary policy in periods of elevated uncertainty. That’s because monetary policy ultimately relies on economic agents (households, businesses, banks) to act on the impulses it imparts. But when agents are faced with acute health, income and macroeconomic uncertainty, they often freeze into inaction (“the paradox of thrift”). So households don’t borrow, businesses don’t invest and banks don’t lend. This is evident in the evolution of bank credit over the last year in India. Despite negative real policy rates and falling real bank lending rates, credit growth has continued to slow all year long, likely reflecting these uncertainties.

https://www.business-standard.com/article/opinion/fiscal-vs-monetary-policy-under-uncertainty-121052401432_1.html

Homework: What is core inflation? Where is this data to be gotten from? Where do we get data on the evolution of bank credit from? What are negative real policy rates? What are falling real bank lending rates? Where do we get that data from? What is credit growth? Where do we get that data from?1


Which means we must now think about how to best deploy fiscal policy.

The baton must, therefore, pass to fiscal policy. While fiscal policy cannot mitigate the health uncertainties it can help alleviate income and macroeconomic uncertainties. Stronger spending will not only boost activity but, in so doing, will reduce demand uncertainties for firms. Furthermore, income support (in cash or kind) along with public-investment-indu­ced-job-creation can alleviate income uncertainties for households and thereby help catalyse the private sector.

https://www.business-standard.com/article/opinion/fiscal-vs-monetary-policy-under-uncertainty-121052401432_1.html

Sajjid Chinoy highlights two broad areas to think about in his article:

  1. Recalibrating To New Realities
  2. Making Space While The Sun Shines

There is much to agree with (and add to) in each of these cases, and I’ll do so in the next two blogposts.


But the bottomline across both articles, for students of macroeconomics, is this:

  1. Think of the economy as a human body. Like the human body, the economy is impossibly complex, and all of its underlying connections, mechanisms and responses aren’t entirely clear.
  2. Like a good diagnostician, it is important to keep tabs on a variety of different metrics on an ongoing basis. That’s what Sajjid Chinoy’s first article should mean to you – and therefore this blogpost is homework you really should do.
  3. Once you have enough data about the patient, a good doctor should be able to recommend potential cures. As with the human body, so with the economy: different doctors will recommend different treatments, and for many (mostly good) reasons. This is the part that gets really tricky.
  4. Sajjid Chinoy’s recommended course of treatment is his second article. As a student, you must try and understand why he recommends this course of treatment and no other, and ask yourself to what extent you agree with him. If you disagree with him (which is fine!), you should be able to tell yourself why – from a theoretical viewpoint.
  5. For example, you may disagree with him and say that India can still effectively deploy monetary policy. Maybe so, but you must have theoretically valid reasons for saying so.
  6. In fact, as a student, my advice to you would be to read an article willing yourself to disagree with the author. “How might this person be wrong?” is a great way to learn while reading. It is also a great way to keep yourself awake in class, trust me.
  1. Not all of the links will give you the exact answers, and that is deliberate. The last two questions being “unlinked” is also deliberate. If you are a student looking to work or study further in areas relating to macroeconomics, start building out a file with your answers to these questions (and many more!), and update the data on a regular basis.[]

Books about Macro

Praneet asked me this on the basis of yesterday’s post:

And so here we go:
  1. I and my batchmates spent hours reading Snowdown and Vane. Like any good book on macroeconomics, we were more confused for having read it, and I mean that as a compliment. (As an aside, I loved the bit in Amit Varma’s conversation with Karthik Muralidharan where they spoke about N Gregory Mankiw’s quip about being confused about economics. Don’t ask me what it was about, this is me trying to incentivize you to listen to the conversation!)
    But this really is an excellent book to read. It is mostly accessible, contains very very good explanatory diagram, and best of all, each chapter concludes with an interview with an economist who was most representative of that particular field of thought. If I remember correctly, the last question always used to be about whether Keynes would have won the Nobel prize had he been alive then. Fun book, and it would still be my top pick. (The listed prize on Amazon is barking mad, please note)
  2. I think I came across this paper via Marginal Revolution, but am not sure. It’s a pretty good paper to read as a macro student today, because it gives you a very good idea about what folks in the field have been up to in the last four decades or so. I personally think DSGE models are a little bit overrated, but you can’t ignore it if you want to build a career in academia as a macroeconomist. Most of all, though, as a student, you really want to understand the difference between description, pure theory, falsification, and model fitting papers. But on all accounts, if you want to read just one survey paper, this would be a good pick.
  3. Speaking of Marginal Revolution, this blogpost is a wonderful read, in the sense that it is full of wonderful reading references. By the way, I’ve been promising myself for well over a decade now that I will read more about Henry Thornton, but have never gotten around to actually doing so. As Professor Cowen says, please do read the second comment (the one by Kurt Schuler).
  4. Brad DeLong lists out books you should read on the Classical Economists over on FiveBooks.com, and that should serve you well. I have not read all of them, I should say. One book that I would add to the list (because the concept was so interesting) is Linda Yueh’s “The Great Economists: How Their Ideas Can Help Us Today”.
    Well, ok, another book: PJ O’Rourke On The Wealth of Nations. Easily the most fun book of the lot.
  5. Raffaele Rossi picks the five best macro textbooks here, and alas, DBF doesn’t make the cut. It was my first macro text, and I still remember working through IS-LM for the first time. I’m still working through it, because I still don’t understand it, but that is another story. Arnold Kling put up his own list, and I would personally prefer his list, especially Leamer’s book. And psst, Kling’s own book is very, very underrated.
  6. Now, India secific macro books: Joshi and Little’s book about post-91 reforms deserves mention, as does Macroeconomics of post-reform India. Joshi’s Long Road is also worth reading, as is The Turn of the Tortoise, by TN Ninan. TCA Srinvasa Raghavan had recommended an excellent collection of essays called Towards Development Economics, if you want to understand what India’s earliest modern (poor phrasing, I know) economists were up to. The festschrifts honoring Montek Singh Ahluwalia, and Manmohan Singh are also very good, as was Bibek Debroy’s book about getting India back on track. Bhagwati and Panagariya’s Tryst with Destiny also!
  7. Finally, a book I am really looking forward to reading is Alex Thomas’ book on macro. I’m a GIPE student, so heterodox is a good wonderful thing. But that is a whole different blogpost in its own right!
  8. Lists like these can never be comprehensive, and I’m sure there will be people reading this who will be chomping at the bit to add to this list. Please, have at it, and share. That’s the point of the internet, no?

A Summer Spent Doing Macroeconomics

Say you’re a student, and you’ve just finished learning a fair bit about macroeconomics. You’ve read and not understood Keynes, you’ve read and think you’ve understood Friedman, and you don’t have the faintest idea what folks in macro have been up to since Robert Lucas.

OK, all that is fine, but how should a budding macroeconomist spend her summer this year?

You could do a lot worse than reading this article, and asking yourself some simple questions.

Such as, do I hear you say? Read on!


Google mobility, for instance, is down more than 40 per cent since the start of April and currently at levels seen a year ago, when the national lockdown was in effect. This dynamic is also visible in the cross-section: states that forced down mobility more strongly have, in general, also seen a larger drop in positivity rates.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

What is Google Mobility? What does the data for India look like? How does this data correlate with statewise Covid-19 numbers? Can I create simple tables and charts in, say, Google Sheets that show a link between the two? And write up a blog about how I did it? Or maybe create YouTube tutorials that show how I did it?


That said, there’s growing evidence the impact will not be trivial even if not of the same scale as the first wave. By the middle of May, power demand was down 13 per cent and vehicle registrations were down 70 per cent compared to the start of the quarter, while e-way bills in the first half of the month were at 40 per cent of where they should be. A broader composite index would suggest activity is tracking a 6-7 per cent sequential decline this quarter and, while this is much shallower than the 25 per cent sequential contraction witnessed last year this time, the fact that it comes on the heels of the first shock, and can potentially trigger more hysteresis, remains a source of concern.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

Where does the data for power demand come from? Where does the data for vehicle registration come from? Where does GST data come from? What does the phrase “tracking a 6-7 percent sequential decline” mean? What is hysteresis?


Household income uncertainty and precautionary savings can be expected to rise. Even before the second wave, households had signalled caution about future spending (manifested in the RBI Consumer Confidence Survey) likely reflecting both an income hit and a precautionary savings motive. This behaviour is consistent with labour market dynamics wherein the unemployment rate, once adjusted for reduced labour force participation, had increased meaningfully even before the second wave.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

What is the RBI Consumer Confidence Survey? How is it calculated (see Annexure A in this document)? Where do we get unemployment data from?


Private investment could also take time to pick up. Even before the second wave, utilisation rates were in the mid-60 per cent range, much lower than needed to jumpstart investment.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

What is OBICUS? It stands for Order Book, Inventory and Capacity Utilization Survey. How else do we track capacity utilization?


We have previously found a strong elasticity of India’s exports to global growth and, if that holds, this should drive a strong export rebound in India. Some of this is already visible in the data with manufacturing exports surging in recent months, and currently 18 per cent (in nominal dollar terms) above pre-pandemic levels.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

Where might that paper/research be, the one that talks about the strong elasticity of India’s exports to global growth? What does it tell us? What is different between the time that paper was written and today? Is that to India’s advantage or not? How do we tell?


If crude prices average close to $70 this fiscal year, as is expected, that would constitute a 50 per cent increase over last year and serve as a negative terms of trade shock that impinges on household purchasing power and firm margins — a process already underway.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

EIA? Or something else? Should we take lagged data? If yes, with what lag? If no, why not? Where do we get information on firm margins? Bloomberg/Reuters? If yes, do we have access to a terminal? If no, whom do we ask for a favor?


When all is said and done, the completeness of an economy’s recovery from Covid-19 — and therefore the level of scarring — is assessed by comparing its post-Covid-19 path of the level of GDP with the path forecasted pre-Covid-19. If the aforementioned forecasts fructify, the level of quarterly GDP at the end of this year would be about almost 8 per cent below the level forecasted pre-pandemic. To be sure, India will not be the only emerging market to be below its pre-pandemic path. In fact, among the large economies, only the US and China will surpass it. But that said, an 8 per cent shortfall is meaningful.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

What is the level of GDP, and how is it different from the growth rate of GDP? Which should one use, and how does the answer change depending on the context? Where do we get data on GDP of all countries at one time? Which one of these measures should we use for comparison, and why?


Macro is hard, and in many different ways. Understanding the theory is hard, but piecing together parts of the puzzle from disparate (and at lest in India, gloriously unfriendly) data sources is perhaps harder still. But if you want to “do” macro for a living, being familiar with the answers to these questions is table stakes.

That is, getting familiar with the answers to the questions I have asked here gets you the right to sit at the table. Playing the game better than the others once you’re in is a whole different story. And playing the game means using this data with your knowledge of theory to try and take a stab at the really important questions:

The question, therefore, is how should economic policy respond to this second shock? With fiscal and monetary policy already quite expansive, is there space to respond further? We assess policy options and tradeoffs in a companion piece tomorrow.

https://www.business-standard.com/article/opinion/a-recovery-interrupted-121052300845_1.html

Trust me, macro is hard.

Learn Macro by Reading the Paper

Macro, and I’ve said this before, is hard.

But a useful way to start understanding it, at least in an Indian context, is by:

  • carefully reading a well written article
  • understanding and noting for oneself key concepts within that article
  • recreating the charts from that article
    • That includes figuring out the source of the data…
    • … as well as acquiring the ability to build out these charts
  • And most important of all, creating a piece of your own (could be a YouTube video/short, a blog, an Instagram story, a Twitter thread) that helps simplify the article you’ve read.1

Now, Arvind Subramanian and Josh Felman have generously obliged us by writing a well written article. I’ll oblige you by carefully reading it and annotating it, including pointing out key concepts, sources for data and recommendations for building out the charts.

That just leaves the last point for you, dear reader. We’ll call that homework.

Now, the well written article:

For more than a decade, India’s fiscal problem has been on the back-burner, acknowledged as a concern, but excluded from the ranks of pressing issues. Now, however, the problem is back with a vengeance. COVID has upended the fiscal position, and fixing it will require considerable time and effort, even if the economy recovers. This worrisome prospect has prompted calls for the Fiscal Responsibility and Budget Management Act (FRBM) to be dusted off, reintroduced, and implemented — this time, strictly and faithfully. But before we heed them, we need to understand why the previous FRBM strategy failed and how to prevent a repeat. We argue below that the new strategy will look nothing like the current FRBM.

https://indianexpress.com/article/opinion/columns/coronanvirus-india-economy-gdp-growth-post-covid-7261915/

First things first, what is FRBM?

The Fiscal Responsibility and Budget Management Act, 2003 (FRBMA) is an Act of the Parliament of India to institutionalize financial discipline, reduce India’s fiscal deficit, improve macroeconomic management and the overall management of the public funds by moving towards a balanced budget and strengthen fiscal prudence. The main purpose was to eliminate revenue deficit of the country (building revenue surplus thereafter) and bring down the fiscal deficit to a manageable 3% of the GDP by March 2008.

https://en.wikipedia.org/wiki/Fiscal_Responsibility_and_Budget_Management_Act,_2003

Think of it as a one-person Alcoholic’s Anonymous club. It is of the government, for the government and by the government, and the idea is to wean the government off a dangerous addiction that it is hopelessly affixed to: debt.


By the way, there are many reasons this is a good essay, not the least of which is how well structured it is. The first three sentences in the very first paragraph, excerpted above, point out the problem that is going to be addressed, without using any difficult words or jargon. Then they point out the tool that will be used to address the problem. Then they point out the tool itself has problems. Finally, the explain that the essay is about fixing those problems. And then the essay follows. You might want to keep this in mind when writing your own essays (or indeed creating your own podcasts/videos etc.)


Now, back to the essay:

  1. What is general government debt? Where can I access the data?
    Note the second hyperlink above: I’ve linked to the Fred St Louis page about India’s debt, which itself gets the data from the IMF. Here is the page from the Ministry of Finance’s own website titled Public Finance Statistics. It has not been updated since September 2015. Here is a Motilal Oswal report on the subject that pegs general government debt at INR 157,227 billion. (Exhibit 1 in the report). If you read footnote 3 of that exhibit, two things happen. The first thing that happens is that you realize that tracking down general government debt might take a while. The second thing that happens is you feel a rather large twinge of sympathy for the folks who have tried to do this exercise.
    Figure 1 in the well-written article that we are analyzing in today’s post doesn’t mention a source, unfortunately. So recreating that chart will involve a rather large part of our day – but I would strongly recommend that you do the exercise. If you want to analyze Indian macroeconomic data for a living, this will be a good initiation. And indeed, a write-up about this exercise alone is a worthy addition to your CV!
  2. Second r-g: what is r, and what is g?
    1. “r” is the policy rate, which in our case will be the repo rate. This is available on the homepage of the RBI, top-left, under current rates.
    2. Time series data? Available on the DBIE page, under key rates.
    3. “g” is the nominal growth rate of the economy, and can be found at MOSPI.
    4. A useful thing to do as a student is to try and recreate the chart in the well-written article.
    5. Pts 1 and 2 here will help you get most of the data, and try and use either Microsoft Excel or Datawrapper to recreate the chart.2
  3. Next, what is primary balance?3 Where does one get that data in India?4
  4. Next, this sentence from the article: “Simple fiscal arithmetic shows that debt does not explode when the former (primary balance) is greater than the latter (interest-growth differential)”. What is this “simple fiscal arithmetic”? They’ve explained it in equations 1 and 2 in this paper.5
  5. The next three paragraphs after Figure 1 in the article point out how precarious India’s situation is when it comes to government debt, and why. It is one thing to read about the equation in a textbook, it is quite another to “run” the numbers in practice. Give it a shot, please, and see if it makes sense.
  6. Next, this paragraph from the article:
    “First, India should abandon multiple fiscal criteria for guiding fiscal policy. The current FRBM sets targets for the overall deficit, the revenue deficit and debt. This proliferation of targets impedes the objective of ensuring sustainability, since the targets can conflict with each other, creating confusion about which one to follow and thereby obfuscating accountability.”
    This paragraph is a good way to understand the importance of reading In The Service of the Republic, by Kelkar and Shah (and also to read up about the Tinbergen Rule).
  7. The next three paragraphs after that are a good way to understand what Goodhart’s Law means in practice.
  8. And finally, see if you can explain to yourself why targeting the primary balance is better than other options. Personally, I agree that it is a better target, and I agree that rather than setting down a concrete number to reach, averaging out half a percentage point worth of reduction is better. In essence, what they’re saying is that you shouldn’t try to reach x kilos of weight on a diet, but lose x% body weight every month. As our ex-captain might have put it, process over results. One of our gods advocates this too, as Navin Kabra points out.
    My reservation comes from the fact that sticking to a diet is hard, and that is true whether you’re targeting a process or a target. In other words, it is the ongoing implementation of the plan that is the challenge, not it’s design!
  9. One last point: without creating something that you are willing to put up for public consumption, and highlighting on your CV as an exercise you have done – you haven’t really learnt. Reading either that article or this blog is the easy part – explaining it somebody else is the much more difficult (and causally speaking, therefore meaningful) bit.
  10. Please, do it!
  1. Skipping this last point is missing the point altogether, rascalla![]
  2. Document your learnings as you go along.[]
  3. Read the whole article, please. It’s a good way to clear your understanding of this topic, and it is free[]
  4. The Excel link under Deficit Statistics was down when I tried to access the data. Your mileage may vary.[]
  5. Page 3[]

So You Think You’ve Understood Macro…

Warning: this post actually isn’t “for everybody”.

Teaching macro is hard enough. Teaching macro to non-economists is all but impossible, because things get really messy really quickly – and I cannot emphasize how messy, and how quickly. The simplest way to teach macro to non-economists is to say that macroeconomics attempts the impossible – it tries to analyze too many variables at the same time in a gloriously inadequate framework, with not enough attention being given to how to understand, measure and forecast risk uncertainty.

And that’s before we’ve even touched the concept of time and inherent unknowability!1

Shackle went on to write that what the market equilibrium conception showed was a world of perfect knowledge frozen in time. It thereby negated itself as being of any use in a world where knowledge of the future is impossible and time moves in one direction. In such a world the action of human beings must be in part based on reason and in part on imagination—specifically, imagination with respect to what various individuals imagine the future might be or even should be. Shackle wrote that neoclassical economics rested on a teleological or pre-determined future and thus left no space for human choice which was inherently tied up with a human being’s capacity to freely imagine what might be in store in the future.

https://en.wikipedia.org/wiki/G._L._S._Shackle#Equilibrium_versus_time

I’m going to sound very woo-woo when I say this, but if at the end of your macro semester you think you’ve understood the subject, then both you and your prof haven’t done a very good job. Macro is hard, and the macroeconomy is inherently unknowable, and yes, I’m willing to die on this hill.

But that does not mean it is not worth studying! Quite the contrary, in fact: it is precisely this reason – the inherent unknowable nature of macro – that makes it so fascinating to study.2

And if you are somewhat familiar with macro – say you’ve spent a semester or so studying it, maybe a bit more – then a good way to check if you have “understood” the subject is to read this lovely little essay by Trevor Chow. (Please, be warned, if you have not had a course in theoretical macro, this essay will make very little sense, and you absolutely should not read it. )

Description: The goal is to bring you up to speed from knowing nothing about business cycle macroeconomics till you know everything you want to know about it at an intermediate macro level within a single post. We’ll mess around with the notion of goods and money market equilibrium to see where it takes us, though if you want to get to the interesting stuff and already know enough about IS-LM etc, feel free to skip to Part 4 and onwards. This is probably, even more than my growth series, the hardest I’ve tried at making things accessible and clear, so please do get in touch if you think there are things which are underexplained or could be rewritten. And check out Miles Kimball and Nick Rowe, whose ideas I borrow very generously from in this post.

https://tmychow.com/blog/2021/03/29/the-fallacy-of-composition

It’s very simply written, and is easily understandable – and trust me, that is hard to do when it comes to macro. It covers a lot of useful concepts, and there is a lot of back and forth between various schools of thought in macroeconomics.

My favorite excerpt was this one:

Macroeconomics is itself quite difficult, because even in the simplest business cycle models we are interested in all sorts of things: output, consumption, investment, the real interest rate, the nominal interest rate, prices, the money supply and inflation. Squeezing all of this into a static model is nigh impossible. Although I do think the canonical IS-LM model can be a bit deceptive with respect to interest rates, the idea of reconciling the goods and money markets is a useful approach. And by putting the IS-LM model through its paces, we’ve already illustrated some important ideas:

That the short run is a monetary question and not one of price adjustment
That there can be indeterminacy or unstable equilibria with bad monetary regimes
That liquidity traps and debt deflation can cause problems, but liquidity traps are really expectations traps
That there are good reasons for the Taylor rule and the Taylor principle

https://tmychow.com/blog/2021/03/29/the-fallacy-of-composition

Again, let me reiterate my basic point: if you are left with the feeling that you “get” macro, beware. Read more, and keep asking how you might be wrong in your understanding of the subject. And excellent places to begin would be Frank Knight and GLS Shackle – even the Wikipedia articles are more than enough to get started!

Bonus reading material: Snowdown and Vane.3

I’ve said it before, and I’ll say it again: macro is hard!

  1. I’m genuinely curious: if you’ve been taught a course in theoretical macro, did G.L.S. Shackle ever come up for discussion?[]
  2. Quite like studying theology, no?[]
  3. These prices make no sense whatsoever. Pah.[]

Understanding interest rates

Simran, a first year BSc student at the Gokhale Institute writes in with this question:

Why is it that some developed countries have 0% interest rates? How are they sustained and is that a mark of a developed country? Is it good/ bad?

Is it related to their inflation rates? Because that’s the only thing I could think of.

They (the BSc students) will have macro only in the next semester, and I’m sure this question will be dealt with then. (I can’t resist adding that the question of how those classes will be conducted is topmost on my mind right now!)

But how would you go about answering this question when your audience has not been subjected to a semester’s worth of classes in macroeconomics?

The challenge I have set myself is that I will not refer to a single economist, or theory, while answering this question.

So: let’s think of it this way, Simran – you have a hundred rupee note with you, and I need a hundred rupees. So I approach you, and ask if you would be willing to give it to me. We’re both students of economics, you and I, so you quite reasonably ask what you will get in return.

Since I have nothing to give you right now, I say well, how about this: I’ll take a hundred rupees from you today, and give back an amount more than that a year from now.

That excess amount, obviously, is the rate of interest. But how much should it be? You would like two hundred rupees a year from now, and I might propose a hundred and one. Neither one of us is likely to accept the others proposal, and so we start looking for other people to cut a deal with.

You start to look for folks who are open to the idea of borrowing a hundred rupees from you, and returning two hundred (or thereabouts). I, on the other hand, start to look for folks who will lend me a hundred, and accept one hundred and one from me.

We, you and I, are now participants in the financial markets of our country. You are on the lender (or supply) side, and I on the borrower (or demand) side.

If there are a lot of people on Team Suppliers, you guys will find it difficult to find the same number of people willing to borrow. And so some of you might decide to cut the rate at which you are willing to lend. And if these financial markets are efficient – what that means is people are easily able to find out the rate/price at which transactions are taking place – then the rate of interest will come down.

Ask yourself what might happen if there are, instead, a lot of people on Team Borrowers.

Well, during these times, can you imagine a lot of people looking to borrow? I, for one, can’t imagine people wanting to set up factories, buy new TV’s, buy new houses etc. There’s hardly anybody playing on Team Borrowers!

But practically everybody in these financial markets is on Team Lenders! And so rates are going to come down:

Headline from Business Today

In fact, right now, there are so many people on Team Lenders right now, that interest rates are not just down to zero, they may well end up being negative! That’s right, you will have to pay to put money in the bank in some of these economies, and you will be paid if you borrow. Boggles the mind, but true!

And kudos for asking if interest rates are linked to inflation – yes, absolutely. But I’ll take a rain check on answering this question right now, simply because it takes us into really deep waters. Macroeconomists are prone to start squawking indignantly whenever they start thinking about inflation and interest rates (myself included), so this is best left for another day.

But for the moment, here’s the key takeaway: there are far too many people on the lending side, and nowhere near enough folks on the borrowing side, and so the price of this market – interest rates – will fall. More so in developed countries than in developing, perhaps, but they’ll fall the world over.

You’ll be able to power through the videos in this section of the macro class on MRU easily enough.

If you, or anybody else who has seen these videos, has any questions, shoot away!