Saturday, February 27, 2010

When you really want to argue causality...

There's always a way.

John Quiggin does the dirty work:
I underestimated the speed and power of Zombie ideas. As early as Sep 2009, Casey Mulligan was willing to claim that the entire crisis could be explained in terms of labor market interventions. According to Mulligan, financial markets anticipated a variety of measures from the Obama Administration, observing ‘Arguably, the 2008 election was associated with an increase in the power of unions to shape public policy, and thereby the labor market. Congress has considered various legislation that would raise marginal income tax rates, and would present Americans with new health benefits that would be phased out as a function of income.’

This is truly impressive. So perspicacious are the financial markets, that even the possibility that Congress might raise taxes, or incorporate a means test in health care legislation that might be passed some time in the future (at the time of writing this in Feb 2010, the bill was still tied up) was sufficient to bring down the entire global financial market. And, even though the McCain-Palin ticket was widely seen as having a good chance (at least before the September 2008), the markets didn’t wait for the election returns to come in. Applying some superstrong version of market efficiency, market participants predicted the election outcome, applied Mulligan’s neoclassical model to the predicted policies of the Obama Administration and (perfectly rationally) panicked.

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