Grasping Reality on TypePad, by Brad DeLong

Steven Fazzari: Rising Income Inequality Set the Stage for the  Great Recession:

During the “Consumer Age” period from the early 1980s through 2007, much of U.S. demand growth was generated by the rapid growth of consumer spending financed by unprecedented increases in household debt.... The debt-income ratio for households... was stable from 1960 through 1983 and then began to increase.... This correspondence was not a coincidence: rising income inequality was a central factor that led to increased household debt and therefore to the forces that created the housing bubble and, finally, the Great Recession...

An anchor post:

Paul Krugman: Why We Talk About the One Percent: "Many people in Washington, even those willing to concede that inequality has been rising rapidly, are uncomfortable talking about the famous 1 percent — perhaps because it sounds too populist, too much like an invitation to crowds with pitchforks. For a long time respectable discussion focused on the top 20 percent; today I see my colleague David Brooks talking about the top 5 percent. But framing the discussion in terms of some broader group is in this case deeply misleading..."

And fifteen contributions worth noting:

1. Thomas Piketty and Emmanuel Saez: Income Inequality in the United States
2. Dean Baker: David Brooks' Primitive Defense of the Rich
3. Arindrajit Dube: Minimum Wages and the Distribution of Family Incomes
4. Josh Barro: We Need A New Supply Side Economics
5. Matthew Yglesias: David Brooks' made-up consensus to help the poor
6. David Cay Johnston: Willful Blindness Worsens Inequality
7. Josh Barro: David Brooks Is Wrong About Inequality
8. M.S.: Those crazy class-conscious leftists
9. Harold James: The policy response to the financial crisis is fueling income and wage inequality worldwide
10. Josh Barro: David Brooks Is Wrong About Inequality
11. Robert Kuttner: David Brooks’s Worst Column Ever
12. CBO: Trends in the Distribution of Household Income Between 1979 and 2007
13. John Schmitt and Janelle Jones: Low-wage Workers Are Older and Better Educated than Ever
14. Shawn Fremstad: Robert Samuelson Blames “Failure” of War on Poverty on Women’s and Latino’s Insufficient Focus on Self-Improvement
15. David Brooks: The Inequality Problem

Stephen Fiddler: Where Deflation Risks Stir Concerns:

Josh Barro: David Brooks Is Wrong About Inequality:

David Brooks has a column about inequality today and it's wrong... in a way that helps explain why conservatives have no idea how to talk about inequality. Brooks... attacks the 'primitive zero-sum mentality' that holds 'growing affluence for the rich must somehow be causing the immobility of the poor'.... [But] while growing affluence for the rich isn't causing low and moderate incomes to stagnate, they are to a large extent results of the same forces. There is a zero-sum tradeoff between the two, so a zero-sum mentality (primitive or otherwise) is called for.... Because of the declining marginal utility of money, a more unequal distribution of the returns to economic growth is undesirable, all else being equal. The question is, is all else equal? Have there been economic changes in the last four decades that make greater returns to capital necessary for innovation and growth? Or is the shift in returns just an artifact of policy choices on taxes, trade, inflation, and intellectual property that we can reverse without sinking the economy? I think the answer is probably 'some of each'. But 'some of each' means there are a lot of policy choices that can and should be made to reduce inequality in a zero-sum manner.

Must-Reads:

1. Obama to Snowden: thanks for showing me the gaping hole we tore in the Constitution. Here's a band-aid. Now please go to jail.— Pierre Omidyar (@pierre) January 17, 2014

1. Josh Barro: David Brooks Is Wrong About Inequality: "David Brooks has a column about inequality today and it's wrong... in a way that helps explain why conservatives have no idea how to talk about inequality. Brooks... attacks the 'primitive zero-sum mentality' that holds 'growing affluence for the rich must somehow be causing the immobility of the poor'.... [But] while growing affluence for the rich isn't causing low and moderate incomes to stagnate, they are to a large extent results of the same forces. There is a zero-sum tradeoff between the two, so a zero-sum mentality (primitive or otherwise) is called for.... Because of the declining marginal utility of money, a more unequal distribution of the returns to economic growth is undesirable, all else being equal. The question is, is all else equal? Have there been economic changes in the last four decades that make greater returns to capital necessary for innovation and growth? Or is the shift in returns just an artifact of policy choices on taxes, trade, inflation, and intellectual property that we can reverse without sinking the economy? I think the answer is probably 'some of each'. But 'some of each' means there are a lot of policy choices that can and should be made to reduce inequality in a zero-sum manner."

2. Via Matthew Boesler, Jan Hatzius: U-6 Unemployment: "Is it really possible that the unemployment rate reaches 6.1% by the end of 2014 but the first hike does not occur until early 2016, as we currently forecast? We still believe that this is the right baseline forecast... 'optimal control' considerations and the possibility of a temporarily depressed neutral rate provide reasons for keeping rates lower.... But... observable measures which do not depend on our ability to measure the structural participation rate... confirm that there is still a significantly larger amount of slack than implied by the 6.7% unemployment rate on its own. In particular, the U-6 measure of underemployment... still stands at 13.1%, which historically is consistent with an official unemployment rate of 7.5-8%. The behavior of wages also points to a large amount of slack.... Our inflation forecast only calls for a very slow acceleration that still leaves the core PCE index at 1.7% in early 2016. If this is the right call, we think a hike before early 2016 is unlikely..."

3. Kevin O'Rourke: Deflation in the euro zone: The euro zone needs a history lesson: "Europe’s policy-making elite... [has chosen:] to preclude any form of debt mutualisation; to have individual debtor countries pay off their existing debts; and to have them adjust macroeconomically via austerity and deflation. In Münchau’s words, 'If you look at this with a knowledge of economic history, this is an awe-inspiring set of choices, to put it mildly'. He’s right.... The gold standard turned out to be hostage to the exogenous evolution of prices. Over... 1873-96, the declining price trend exacerbated the public finance problems of the periphery to breaking point. After 1896... inflation made convergence and steady participation in the gold zone much more attractive.... The pernicious effects of deflation on debt sustainability were further in evidence in the interwar period...'

4. Uwe Reinhardt: The Real Health Care 'War' on the Young: "A common theme among critics of Obamacare has been that it basically is a war on... young... men... Chris Conover... John Goodman... Avik Roy.... Now, one certainly can have misgivings over community rating on actuarial grounds.... But the authors cited above do not base their case on purely technical, economic grounds. Language such as 'the greatest generational theft in world history' or 'a war on the bros' is meant to generate moral outrage. A case in point is the gender neutrality.... Before the Affordable Care Act, premiums for women in the younger age groups in the individual and small-group market were as much as 70 percent higher than those of men of similar age because women bear children.... Imposing gender-neutral community rating on such a market inevitably leads to some economic transfer from men to women.... Among many Americans and most Europeans and Asians--men included--this mandated gender neutrality is noncontroversial. Perhaps it is thought of as a small token of gratitude for the extraordinary contribution to humanity women make in this regard. Besides, there is growing scientific evidence that the physical and intellectual development of humans into adulthood is strongly influenced by their experience and nutrition in utero and during early childhood. Thus, a nation does not even have to be particularly humane, but merely smart, to grant women of child-bearing age easy access to the best maternal and child care attainable, including good nutrition. It is a solid economic investment with high social returns over generations. Yet as I have noted previously, many other Americans seem to view children more in the nature of lovable human pets--that is, more in the nature of a private good than a precious social resource."

Over at Equitable Growth--The Equitablog

• Washington Center for Equitable Growth | Morning Must-Read: Josh Barro: David Brooks Is Wrong About Inequality
• Washington Center for Equitable Growth | ObamaCare as Dire Infringement of Individual Liberty and in a “Death Spiral”, and LADYPARTS: (Trying to Be) the Honest Broker for the Week of January 19, 2014
• Washington Center for Equitable Growth | If You Believe in Balancing Risks of Non-State Terrorism Against Risks of J. Edgar Hoover Come Again…
• Washington Center for Equitable Growth | U.S. Real GDP Growth Rate: 2.4%/Year–Still Gap-Widening vis-a-vis pre-2008 Potential
• Washington Center for Equitable Growth | Morning Must-Read: Jan Hatzius on the U-6 Unemployment Rate and Its Implications
• Washington Center for Equitable Growth | “Beer Goggles”, Forward Guidance, Quantitative Easing, and the Risks from Expansionary Monetary Policy: Friday Focus (January 17, 2014)
• Washington Center for Equitable Growth | Morning Must-Read: Uwe Reinhardt on John Goodman and Company: The Real Health Care ‘War’
• Washington Center for Equitable Growth | Morning Must-Read: Kevin O’Rourke: Deflation: The Euro Zone Needs a History Lesson

Plus:

• Things to Read on the Morning of January 18, 2014

And:

As I continue to try to figure out where the extraordinary animus against ObamaCare comes from not at the level of office-holder posturing but at the level of real ideology, last night pieces by the thoughtful and knowledgeable Uwe Reinhardt, the smart and hard-working Marty Lederman, and that brilliant man of unsound methods Richard Epstein collided on my computer screen, and then held an all-night insomniac hoedown.

This is the result: Washington Center for Equitable Growth | ObamaCare as Dire Infringement of Individual Liberty and in a “Death Spiral”, and LADYPARTS: (Trying to Be) the Honest Broker for the Week of January 19, 2014

Last night pieces by the thoughtful and knowledgeable Uwe Reinhardt, the smart and hard-working Marty Lederman, and that brilliant man of unsound methods Richard Epstein collided on my computer screen, and then held an all-night insomniac hoedown.

This is the result:

... and blackmailing pretty much everybody with what they or their family members have done that they want to keep private, is Obama's NSA speech as big a substantive policy disaster and endorsement of the Total Surveillance State as my twitter feed is saying?

Allies make their move on Cassino, Italy — History.com This Day in History — 1/17/1944:

On this day, Operation Panther, the Allied invasion of Cassino, in central Italy, is launched.

The Italian Campaign had been underway for more than six months. Beginning with the invasion of Sicily, the Allies had been fighting their way up the Italian peninsula against German resistance--the Italians had already surrendered and signed an armistice with the Allies in September 1943. The ancient town of Cassino, near the Rapido River, was a strategic point in the German Gustav Line, a defensive front across central Italy and based at the Rapido, Garigliano, and Sangro rivers. Taking Cassino would mean a breach in the German line and their inevitable retreat farther north.

Although the campaign to take Cassino commenced in January, the town was not safely in Allied hands until May. The campaign caused considerable destruction, including the bombing of the ancient Benedictine abbey Monte Cassino, which took the lives of a bishop and several monks.

Over at the Washington Center for Equitable Growth: “Beer Goggles”, Forward Guidance, Quantitative Easing, and the Risks from Expansionary Monetary Policy: Friday Focus (January 17, 2014)...

I forget who it was who told me that one of British classical economist J.R. McCulloch's lines was: "it is straightforward to make of a parrot a plausible political economist--all you need to do is to teach it to say 'supply and demand'. And I have never been able to adequately source the quote.

Michael Bersin: Show Me Progress:: The Republican-Controlled General Assembly Can't and Won't Do the Math:

Tue Dec 31, 2013 at 13:04:37 PM CST, via Twitter, from Governor Jay Nixon (D):

Tomorrow, billions of dollars will begin to flow to states to improve & reform health care, but Missouri won't be one of them. #momedicaid 12:50 PM - 31 Dec 13

Wait until Missourians realize they're paying for those other states to do so.

The current bet is that, come March 31 2014, before quarter US real GDP growth rate between the first quarter of 2013 of the first-quarter 2014 Will be 2.4%--the same as it has been since late 2009, and still slower than our pre-2008 estimates of potential output growth.

There is still gap-widening vis-a-vis potential as we understood it back in 2007...

Via Matthew Boesler, Jan Hatzius: U-6 Unemployment:

Is it really possible that the unemployment rate reaches 6.1% by the end of 2014 but the first hike does not occur until early 2016, as we currently forecast? We still believe that this is the right baseline forecast... 'optimal control' considerations and the possibility of a temporarily depressed neutral rate provide reasons for keeping rates lower.... But... observable measures which do not depend on our ability to measure the structural participation rate... confirm that there is still a significantly larger amount of slack than implied by the 6.7% unemployment rate on its own. In particular, the U-6 measure of underemployment... still stands at 13.1%, which historically is consistent with an official unemployment rate of 7.5-8%. The behavior of wages also points to a large amount of slack.... Our inflation forecast only calls for a very slow acceleration that still leaves the core PCE index at 1.7% in early 2016. If this is the right call, we think a hike before early 2016 is unlikely...

Uwe Reinhardt: The Real Health Care 'War' on the Young:

A common theme among critics of Obamacare has been that it basically is a war on... young... men... Chris Conover... John Goodman... Avik Roy.... Now, one certainly can have misgivings over community rating on actuarial grounds.... But the authors cited above do not base their case on purely technical, economic grounds. Language such as 'the greatest generational theft in world history' or 'a war on the bros' is meant to generate moral outrage. A case in point is the gender neutrality.... Before the Affordable Care Act, premiums for women in the younger age groups in the individual and small-group market were as much as 70 percent higher than those of men of similar age because women bear children.... Imposing gender-neutral community rating on such a market inevitably leads to some economic transfer from men to women.... Among many Americans and most Europeans and Asians--men included--this mandated gender neutrality is noncontroversial. Perhaps it is thought of as a small token of gratitude for the extraordinary contribution to humanity women make in this regard. Besides, there is growing scientific evidence that the physical and intellectual development of humans into adulthood is strongly influenced by their experience and nutrition in utero and during early childhood. Thus, a nation does not even have to be particularly humane, but merely smart, to grant women of child-bearing age easy access to the best maternal and child care attainable, including good nutrition. It is a solid economic investment with high social returns over generations. Yet as I have noted previously, many other Americans seem to view children more in the nature of lovable human pets--that is, more in the nature of a private good than a precious social resource."

Dallas Federal Reserve Bank President Richard Fisher: Beer Goggles, Monetary Camels, the Eye of the Needle and the First Law of Holes:

Peter Boockvar, who is among the plethora of analysts... I regularly read... a rather pungent quote from a note he sent out on Jan. 2:

…QE [quantitative easing] puts beer goggles on investors by creating a line of sight where everything looks good…

For those of you unfamiliar with the term “beer goggles,” the Urban Dictionary defines it as “the effect that alcohol… has in rendering a person who one would ordinarily regard as unattractive as… alluring.” This audience might substitute “wine” or “martini” or “margarita” for “beer” to make it more age-appropriate, but the effect is the same: Things often look better when one is under the influence of free-flowing liquidity. This is one reason why William McChesney Martin, the longest-serving Fed chairman in our institution’s 100-year history, famously said that the Fed’s job is to take away the punchbowl just as the party gets going...

I see the argument that ultra-low safe interest rates--loose monetary policy now--or expected ultra-low safe interest rates--loose forward guidance--might, repeat MIGHT induce a "reach for yield" that would involve "beer goggles" in the sense of people who really shouldn't be bearing risks bearing risks.

But I do not see how this argument applies to quantitative easing...

Kevin O'Rourke: Deflation in the euro zone: The euro zone needs a history lesson:

Europe’s policy-making elite... [has chosen:] to preclude any form of debt mutualisation; to have individual debtor countries pay off their existing debts; and to have them adjust macroeconomically via austerity and deflation. In Münchau’s words, 'If you look at this with a knowledge of economic history, this is an awe-inspiring set of choices, to put it mildly'. He’s right.... The gold standard turned out to be hostage to the exogenous evolution of prices. Over... 1873-96, the declining price trend exacerbated the public finance problems of the periphery to breaking point. After 1896... inflation made convergence and steady participation in the gold zone much more attractive.... The pernicious effects of deflation on debt sustainability were further in evidence in the interwar period...

Must-Reads:

1. Kevin O’Rourke: "L’offre crée même la demande": "I can’t quite believe that he said it, but he apparently did. Go tell it to the small businesses in my favourite French village who have had to close since 2008. Arguing against Say at a time like this is like shooting fish in a barrel, so let’s not even bother. The more alarming point is what this tells us about the European left: to all intents.... Now, if you’re on the right I suppose you might welcome the fact that the left is committing hara kiri on the altar of European orthodoxy, but you shouldn’t. For the reality is that orthodoxy is letting the people badly down, as Martin Wolf pointed out today, and the people aren’t stupid. If the left is not going to offer them an alternative, then Eurosceptic parties will. And unfortunately most of those are on the extreme right."

2. John Aziz: Why stopping the next financial crash is an impossible dream: "Are financial crashes really preventable? I don’t think so. The world is just too unpredictable.... [And] as... Hyman Minsky put it, stability is destabilizing.... How do people react to a stable world?... They become more tolerant of risk.... Successful regulations [thus] became victims of their own success.... We need to move beyond the impossible dream of preventing financial crises before they occur. Laws to prevent theft, fraud, intentionally misleading investors, and gambling with other people’s money or with an implicit guarantee (like Glass-Steagall) are prudent.... But booms and busts are normal behavior in markets, because the future is so hard to predict and people are so unpredictable..."

3. Michael Hiltzik: The housing market is still a drag on the economy--but why?: "The 30-year fixed mortgage is still the bedrock... and still should be. That means restoring Fannie Mae and Freddie Mac to their traditional roles as the backers of that market.... [Felix] Salmon thinks... the 30-year fixed mortgage... should be phased out.... That's too facile.... The 30-year fixed is what got us out of the housing morass of the '30s and could do so again.... An entirely private housing finance system is a 'pipedream'.... Take the shackles off Fannie and Freddie, and let the 30-year fixed mortgage work its magic."

4. Paul Krugman: France by the Numbers: "'You shall not crucify mankind upon a croissant d’or'. That was Alan Taylor’s response (in correspondence) to François Hollande’s embrace of Say’s law — he literally said that 'supply actually creates demand'--together with a shift to, again in his own words, supply-side policies.... Mark Thoma is your go-to site for the rapidly growing avalanche of horrified snark. The amazing thing... is the extreme pessimism that has evidently enveloped French elite opinion. You’d think that France was a disaster area.... You do have to wonder why the French elite is so easily intimidated into making a hard right turn while the elites of much worse cases like Finland and the Netherlands remain steadfast in their notion that the worse things get, the more committed they have to be to inflicting further pain."

5. David Wessel et al.: Central Banking after the Great Recession: Lessons Learned and Challenges Ahead: "The Hutchins Center on Fiscal and Monetary Policy at Brookings will host its inaugural event exploring these topics with a panel moderated by Director of the Hutchins Center and Brookings Senior Fellow David Wessel. Papers will be presented by: San Francisco Federal Reserve President and CEO John Williams on unconventional policy, with a response by Harvard University's Martin Feldstein; Former Deputy Governor of the Bank of England Paul Tucker on regulation, with a response by Sullivan & Cromwell's H. Rodgin Cohen; and a panel discussion on central bank independence with Brookings' Donald Kohn, Harvard's Kenneth Rogoff, and the University of California's Christina Romer. Following the panel, former CEO of Fischer Francis Trees and Watts, Inc., Pulitzer- Prize winning author, and Brookings trustee Liaquat Ahamed will interview Federal Reserve Chairman Ben Bernanke about the Federal Reserve's first and next century. All speakers will take questions from the audience."

David Wessel et al.: Central Banking after the Great Recession: Lessons Learned and Challenges Ahead:

The Hutchins Center on Fiscal and Monetary Policy at Brookings will host its inaugural event exploring these topics with a panel moderated by Director of the Hutchins Center and Brookings Senior Fellow David Wessel. Papers will be presented by: San Francisco Federal Reserve President and CEO John Williams on unconventional policy, with a response by Harvard University's Martin Feldstein; Former Deputy Governor of the Bank of England Paul Tucker on regulation, with a response by Sullivan & Cromwell's H. Rodgin Cohen; and a panel discussion on central bank independence with Brookings' Donald Kohn, Harvard's Kenneth Rogoff, and the University of California's Christina Romer. Following the panel, former CEO of Fischer Francis Trees and Watts, Inc., Pulitzer- Prize winning author, and Brookings trustee Liaquat Ahamed will interview Federal Reserve Chairman Ben Bernanke about the Federal Reserve's first and next century. All speakers will take questions from the audience.

An anchor piece:

• Michael Hiltzik: The housing market is still a drag on the economy--but why?

and fifteen worthwhile contributions and analyses:

Paul Krugman: France by the Numbers:

'You shall not crucify mankind upon a croissant d’or'. That was Alan Taylor’s response (in correspondence) to François Hollande’s embrace of Say’s law--he literally said that 'supply actually creates demand'--together with a shift to, again in his own words, supply-side policies.... Mark Thoma is your go-to site for the rapidly growing avalanche of horrified snark. The amazing thing... is the extreme pessimism that has evidently enveloped French elite opinion. You’d think that France was a disaster area.... You do have to wonder why the French elite is so easily intimidated into making a hard right turn while the elites of much worse cases like Finland and the Netherlands remain steadfast in their notion that the worse things get, the more committed they have to be to inflicting further pain.

Michael Hiltzik: The housing market is still a drag on the economy--but why?: "Housing has stood out as the sick man of the U.S. economy.... Here's that truth, as we see it: the 30-year fixed mortgage is still the bedrock of residential housing and still should be.

That means restoring Fannie Mae and Freddie Mac to their traditional roles as the backers of that market.... [Felix] Salmon thinks... the 30-year fixed mortgage... should be phased out altogether.... That's too facile.... The 30-year fixed is what got us out of the housing morass of the '30s and could do so again.... An entirely private housing finance system is a 'pipedream', as Adam Levitin of Georgetown University lectured the House Financial Services Committee.... Take the shackles off Fannie and Freddie, and let the 30-year fixed mortgage work its magic."

John Aziz: Why stopping the next financial crash is an impossible dream:

Are financial crashes really preventable? I don’t think so. The world is just too unpredictable.... [And] as... Hyman Minsky put it, stability is destabilizing.... How do people react to a stable world?... They become more tolerant of risk.... Successful regulations [thus] became victims of their own success.... We need to move beyond the impossible dream of preventing financial crises before they occur. Laws to prevent theft, fraud, intentionally misleading investors, and gambling with other people’s money or with an implicit guarantee (like Glass-Steagall) are prudent.... But booms and busts are normal behavior in markets, because the future is so hard to predict and people are so unpredictable...

I do hear sometimes, as I roam around meatspace and cyberspace, that our elder sister institution the Center for American Progress is the Democratic-Party-policy-apparatus-in-exile (largely true during Republican administrations) and the Democratic-administration-farm-team (somewhat true--but only for policy positions, and only for a subset of them), and will produce whatever arguments a Democratic administration demands.

This last is not true.

But when I ask people why they think this is true, I get pointed to things like this from Ken Silverstein last February at the New Republic calling the Center for American Progress "Heritage’s liberal counterpart" and including it on a list of "purportedly scholarly institutions".

Now everybody who either worked for the Clinton administration in 1993-1994 or who was hoping to see improvement in America's health-care system in 1993-1994 (overlapping but not identical sets of people) derived a view of the New Republic from back then: our view was and is that, based on what it published on health-care policy in 1993-1994, The New Republic's office furniture, computer, paper stock, any presses it has ever used, any trucks that have ever carried it, its servers, its routers, and its cables should all be set on fire and burned, the rubble should be razed, and the brownfield sown with salt and marked with nuclear waste signs. Then-publisher Marty Peretz, then-chief editor Andrew Sullivan, current publisher Chris Hughes, and chief editors who followed Sullivan--the late Michael Kelly, Charles Lane, Peter Beinart, Franklin Foer, and Richard Just--all really ought to make a full, complete, explicit, and abject apology, and it speaks volumes as to their guts and their honor that not a single one of them has done so.

So from our perspective it is not surprising to see the New Republic behaving badly. We should probably take it as a mitzvah that Ken Silverstein's article is not as bad as Betsy McCaughey's was.

For the record: the Center for American Progress is in no way Heritage's liberal counterpart. The technocratic quality of the work it produces is light-years ahead of most things you will find from Cato and the American Action Forum, almost anything you will find from AEI or the National Center for Policy Analysis, and everything I have seen from Heritage.

And CAP President Neera Tanden had a very good response:

I confess I never expected to see the Republican governors and legislator of the red states getting behind a lawsuit that claims a drafting error has deprived their constituents of $10 billion a year--after all, I was told back at the start of 2009 that the reason that ObamaCare was going to be RomneyCare because then the Republicans would have no choice but to endorse what had been the principal policy accomplishment of the guy who was going to be their 2012 standard bearer.

Strange times indeed...

Anyway, Nicholas Bagley explains what is going on:

Nicholas Bagley: A resounding victory for the administration in the exchange litigation: "I wrote yesterday about the pending litigation over the IRS’s decision to make tax credits available on federally operated exchanges, notwithstanding a facially plausible statutory argument that doing so would contravene the ACA.

My timing was good: earlier today, Judge Friedman, a district court judge in D.C., released the first opinion... a resounding victory for the government... tracks the analysis I laid out yesterday. He starts with the observation that... tax credits are linked to health plans purchased on exchanges “established by the State under 1311.” And federally operated exchanges are established by the Secretary of HHS under §1321.... But Friedman also points out that... §1321... [says] when a state fails to establish a workable exchange, the ACA instructs the Secretary to establish “such exchange.” That little word “such” clarifies that an exchange established by the federal government is a 1311 exchange....

Must-Reads:

1. Larry Mishel, and 80+ Others: Economist Statement on the Federal Minimum Wage: "Dear Mr. President, Speaker Boehner, Majority Leader Reid, Congressman Cantor, Senator McConnell, and Congresswoman Pelosi: July will mark five years since the federal minimum wage was last raised. We urge you to act now and enact a three-step raise of 95 cents a year for three years—which would mean a minimum wage of $10.10 by 2016—and then index it to protect against inflation. Senator Tom Harkin and Representative George Miller have introduced legislation to accomplish this. The increase to $10.10 would mean that minimum-wage workers who work full time, full year would see a raise from their current salary of roughly $15,000 to roughly $21,000. These proposals also usefully raise the tipped minimum wage to 70% of the regular minimum..."

2. Beth Kutscher: Insurers optimistic about exchanges: "Health insurers are expressing measured optimism for enrollment in the coverage they’re selling on the health insurance exchanges after quietly grumbling for weeks that the fumbled rollout was undermining their business plans. Some health insurance executives expressed some modest bullishness on the exchanges Tuesday at the JP Morgan Healthcare conference in San Francisco, even though a day earlier HHS revealed that the enrollees so far are skewing older than many had hoped."

3. Vinod Khosla: Open Letter to 60 Minutes and CBS: "On January 5, 2014, CBS’ 60 Minutes aired a segment titled, 'The Cleantech Crash' that grossly misrepresented the state of the sustainable energy industry.... The pontificators at 60 Minutes, with their agenda-driven bastardization of news reporting, failed to do the most elementary fact checking and source qualification, as was the case with your Benghazi reporting. No wonder one major media outlet wrote that you have been 'widely criticized for leaving out crucial information about the state of the clean tech sector'. Is this the new CBS standard?.... I have not invested over a billion dollars of my own money into cleantech... the U.S. Department of Energy (DOE) Loan Guarantee Program has created 55,000 new cleantech jobs... has a 97% success rate.... A substantial portion of DOE loans is allocated to nuclear... a fact conveniently left out despite your being aware of it.... The U.S. spent $502 billion subsidizing fossil fuels in 2011... [plus] $80 billion of taxpayer money was spent patrolling just the oil sea-lanes in the Arabian Gulf.... You fundamentally do not understand how innovation works.... To get to the energy-independent future we need, we must continue to try and sometimes fail, but the consequence for not trying is guaranteed failure. We will keep accepting intelligent and selective failure..."

4. Heather Boushey: Economists come together to weigh in on a most important economic issue: "Nothing gets the day going like an economist sign-on letter in support of an important economic policy. I’m happy to share the news that the two Larrys (Mishel from the Economic Policy Institute and Katz from Harvard) have combined their considerable forces to compile an all-star list of economists in support of a $10.10 minimum wage.... Check it out here: Economist Statement on the Federal Minimum Wage | Economic Policy Institute."

The Sugarhill Gang: "Rapper's Delight" (1979):

Big Bank Hank:

Check it out:
I'm the C-A-S-A, the N-O-V-A, and the rest is F-L-Y.
You see I go by the code of the doctor of the mix, and these reasons I'll tell you why.
You see I'm six foot one, and I'm tons of fun, when I dress to a T.
You see I got more clothes than Muhammad Ali, and I dress so viciously.
I got bodyguards, I got two big cars, that definitely ain't the wack,
I got a Lincoln Con-tin-en-tal, and a sunroofed Cadillac.
So after school, I take a dip in the pool, which is really on the wall,
I gotta color TV, so I can see, the Knicks play basketball...

Heather Boushey: Economists come together to weigh in on a most important economic issue:

Nothing gets the day going like an economist sign-on letter in support of an important economic policy. I’m happy to share the news that the two Larrys (Mishel from the Economic Policy Institute and Katz from Harvard) have combined their considerable forces to compile an all-star list of economists in support of a $10.10 minimum wage.... Check it out here: Economist Statement on the Federal Minimum Wage | Economic Policy Institute.

Vinod Khosla: Open Letter to 60 Minutes and CBS:

On January 5, 2014, CBS’ 60 Minutes aired a segment titled, “The Cleantech Crash” that grossly misrepresented the state of the sustainable energy industry.... The pontificators at 60 Minutes, with their agenda-driven bastardization of news reporting, failed to do the most elementary fact checking and source qualification, as was the case with your Benghazi reporting. No wonder one major media outlet wrote that you have been “widely criticized for leaving out crucial information about the state of the clean tech sector.” Is this the new CBS standard?.... I have not invested over a billion dollars of my own money into cleantech... the U.S. Department of Energy (DOE) Loan Guarantee Program has created 55,000 new cleantech jobs... has a 97% success rate.... A substantial portion of DOE loans is allocated to nuclear... a fact conveniently left out despite your being aware of it.... The U.S. spent $502 billion subsidizing fossil fuels in 2011... [plus] $80 billion of taxpayer money was spent patrolling just the oil sea-lanes in the Arabian Gulf.... You fundamentally do not understand how innovation works.... To get to the energy-independent future we need, we must continue to try and sometimes fail, but the consequence for not trying is guaranteed failure. We will keep accepting intelligent and selective failure...

Noah Smith: Heroes of NoahSmithian Weblogging: Phil Yu:

America is in the middle of a huge, titanic, epochal change... to a fully multiracial nation.... If we're going to come out of it as a unified nation, we're going to have to accept the newcomers as 'real Americans', the way we once accepted East and South European immigrants into the fold a century earlier. Relatively few bloggers have focused on this problem, but Phil Yu has risen to the challenge. His blog, Angry Asian Man, is less angry than visionary.... Yu still alerts the blogosphere to instances of racism (and not just racism against Asians), but his blog is the place to find cool new Asian-American bands and films and artists and read the testaments of Asian-Americans. He has also spearheaded efforts to lobby the American government for a more liberal approach to immigration. And to top it all off, he posted this really cool cover of TLC's 'Waterfalls'. More than any other blogger, Phil Yu makes me excited about the future of America.

Larry Mishel, and 80+ Others: Economist Statement on the Federal Minimum Wage:

Dear Mr. President, Speaker Boehner, Majority Leader Reid, Congressman Cantor, Senator McConnell, and Congresswoman Pelosi:

July will mark five years since the federal minimum wage was last raised. We urge you to act now and enact a three-step raise of 95 cents a year for three years—which would mean a minimum wage of $10.10 by 2016—and then index it to protect against inflation. Senator Tom Harkin and Representative George Miller have introduced legislation to accomplish this. The increase to $10.10 would mean that minimum-wage workers who work full time, full year would see a raise from their current salary of roughly $15,000 to roughly $21,000. These proposals also usefully raise the tipped minimum wage to 70% of the regular minimum.

Bob Solow:

Must-Reads:

1. Megan McArdle: You Can't Have a Conversation About Sexism at Gunpoint: "The real problem is not the sexualized remarks and threats of violence... [but] that women attract an undue amount of nonsexual rage and denigration.... People are ruder, angrier, more condescending and more dismissive with women who make arguments they don’t like.... This is not just something men do. It is not just something conservatives, or liberals, or nonfeminists do. It is a general rule....

   "If you’re trying to change people's behavior... lighter punishment is often better.... In our society, accusing a specific person of sexism is now a very, very powerful weapon. And there is no such thing as a “conversation” at gunpoint.... I think that we need to have a conversation about subtle structural sexism. But it actually needs to be a conversation, because the best hope of changing behavior is for well-meaning people to do a little gut check before they go on a tear against an opinionated woman. And the only way to do that is to actually convince them that this is real. So really, guys: It’s not you, it’s me. It’s us. It’s everyone. But like Smokey Bear says, only you, and me, and everyone else can prevent flame wars..."

2. Ezra Klein: What liberals get wrong about single payer: "It’s health-care providers -- not insurers -- who have too much power in the U.S. system. As a result, they have the most to lose if health-care prices fall. But, as is often the case, political power flows in part from popularity. So politicians who routinely rail against for-profit insurers are scared to criticize -- much less legislate against -- for-profit hospitals, doctors or device manufacturers (though drug companies come in for a drubbing now and then). These are the people who work every day to save our lives, even if they make us pay dearly for the privilege. No one cheers when you take them on."

3. Matthew Yglesias: Welfare works for kids: Children whose parents get money grow up healthier and live longer: "AMothers’ Pension[s].... The program is old enough that almost all the kids whose moms received money are dead now, allowing the researchers to conclude definitively that it increased life expectancy. What’s more, World War II draft records show... sons of the accepted had early adult incomes that were 20 percent higher than those of rejected mothers; these sons were also 35 percent less likely to be underweight as adults, lived a year longer, and had about a third of a year of additional schooling. Since the rejected sons’ families were, on average, somewhat better off, these figures should somewhat understate the real impact of the pensions. The benefits weren’t gigantic—but the sums of money involved were pretty modest as well. Benefit levels varied from state to state, but averaged out to about $260 a month (adjusted for inflation), or around half of a modern-day TANF check."

4. Adair Turner: Is rapid credit growth really necessary to boost GDP growth?: "Is there something about modern economies that makes adequate demand growth impossible without damaging credit growth? Rising inequality is one driver.... As the rich get richer, consumption growth may decline, unless the financial system uses their savings to lend to the relatively poor. But much of this debt may prove unsustainable. As Raghuram Rajan pointed out in his book Fault Lines, the US subprime-mortgage boom and bust owed much to pitiably slow growth in lower-income Americans’ real earnings over the last three decades.... A more stable growth model requires less... debt that finances purchases of existing assets, supports consumption without addressing the drivers of inequality, or results from unsustainable global imbalances."

5. Larry Summers: "The extent to which differential productivity growth characterizes our economy is, I think, sometimes underappreciated. The Bureau of Labor Statistics normalizes the consumer price indices at 100 in the period 1982 to 1984.... Television sets at five stand out. That is obviously a reflection of a rather energetic hedonic effort by the Bureau of Labor Statistics. One suspects that equally energetic hedonic efforts are not applied to every consumer price. But nonetheless, the simple fact is that the relative price of toys and a college education has changed by a factor of ten in a generation. The relative price of durable goods or clothing as a category and all goods has changed by a factor of almost two in a generation. This table provides a somewhat different perspective on the common and valid observation that real wages have stagnated in the United States. The observation that real wages are stagnant reflects wages measured in terms of the overall consumer price index. But this obscures the truth that real wages measured in terms of different goods have behaved very differently..."

Tim Taylor sends us to:

Larry Summers: "Until a few years ago, I didn't think this was a very complicated subject: The Luddites were wrong and the believers in technology and technological progress were right.

I'm not so completely certain now.... In the United States today a higher fraction of the workforce receives disability insurance than does production work in manufacturing.... The extent to which differential productivity growth characterizes our economy is, I think, sometimes underappreciated. The Bureau of Labor Statistics normalizes the consumer price indices at 100 in the period 1982 to 1984.... Television sets at five stand out. That is obviously a reflection of a rather energetic hedonic effort by the Bureau of Labor Statistics. One suspects that equally energetic hedonic efforts are not applied to every consumer price. But nonetheless, the simple fact is that the relative price of toys and a college education has changed by a factor of ten in a generation. The relative price of durable goods or clothing as a category and all goods has changed by a factor of almost two in a generation. This table provides a somewhat different perspective on the common and valid observation that real wages have stagnated in the United States. The observation that real wages are stagnant reflects wages measured in terms of the overall consumer price index. But this obscures the truth that real wages measured in terms of different goods have behaved very differently...

Adair Turner: Is rapid credit growth really necessary to boost GDP growth?:

The fundamental question therefore remains: Is there something about modern economies that makes adequate demand growth impossible without damaging credit growth? Rising inequality is one driver of this apparent “need for credit.” Wealthier people have a higher marginal propensity to save than poorer people. As the rich get richer, consumption growth may decline, unless the financial system uses their savings to lend to the relatively poor. But much of this debt may prove unsustainable. As Raghuram Rajan pointed out in his book Fault Lines, the US subprime-mortgage boom and bust owed much to pitiably slow growth in lower-income Americans’ real earnings over the last three decades.... A more stable growth model requires less of the “wrong type of debt” – that is, debt that finances purchases of existing assets, supports consumption without addressing the drivers of inequality, or results from unsustainable global imbalances. Without targeted policies aimed at limiting such debt, the world economy risks secular stagnation or further cycles of instability and crisis.

Must-Reads:

1. Jared Bernstein: Will the Real Unemployment Rate Please Stand Up?: "Let’s be conservative and say that 2/3 of the decline in the labor force [participation] rate is “fixable”.... Then the unemployment gap is: 6.7 + (2/3 x 3.4) – 5.5 or about 3.5 ppts (that 3.4 is the drop in the labor force rate using quarterly data since its pre-recession peak).... I wouldn’t be so quick to plug 5.5 [as the natural rate of unemployment] into all those equations above.... If you use, say, 4.5 instead that’s another percentage point of slack. Fed chair Janet Yellen (still getting used to writing that!) knows this stuff but it’s still worth making a lot of noise about.... We’re not going 60... we’re going 40.  So keep that foot off the brake..."

2. Steve M.: Paul Krugman has responded to an article by National Review's Kevin Williamson about poverty in Appalachia "'Williamson's piece... has a moral: the big problem... is... government aid creates dependency.... But the underlying story of Appalachia is in fact one of declining opportunity...' Williamson thinks the proper response... is self-righteous smugness... class warfare.... 'Professor Krugman and those who share his orientation see the bottom half... as passive participants... not people who do things but people to whom things are done, the direct object in Lenin's summary of politics: 'Who? Whom?' And from the point of view of the policymaking class... something like dogs exhibiting various degrees of ruliness while waiting for table scraps...'

   "Or what, Kevin? What are people in coal country supposed to do if their job searches don't result in... jobs?... Plenty are voting with their feet by getting the hell out.... As for the rest, many of whom might not be able to afford to leave (no cash, underwater homes) -- what are they supposed to do? Become new-media entrepreneurs? Load up the truck and head to Silicon Valley for some venture capital? This... right-wing arrogance... Michelle Malkin.... 'Romney types, of course, are the ones who sign the front of the paycheck, and the Obama types are the one who have spent their entire lives signing the back of them': the right simply believes that it's disgraceful to be an ordinary worker.... If you're not a capitalist, you're scum.... If you're arguing, that is, that benefits are the only reason people don't have jobs--then that should have been just as true in 2006, say, as it is now, becuse just as many lazer takers should have been getting all those horrible benefits, just 'cause they like living that way. Is the decrease in labor-force participation since Wall Street crashed the economy really just a coincidence? Scummy liberal elitist minds want to know."

3. Mike Konczal: No, we don’t spend $1 trillion on welfare each year: "If you’ve read any conservative commentary on the war on poverty in the past week, you’ve likely seen this talking point: 'We spend $1 trillion each year on welfare and there’s been no reduction in poverty.' That’s crazy! Then, a sentence later, you’ll probably see a line like this: 'It’s true. According to a recent report, we spend a trillion dollars on means-test programs each year, yet the official census numbers show no reduction in poverty.'... If you are reading that second line quickly, you probably think it bolsters the credibility of the first line.... The second sentence is... an escape hatch.... We don’t spend anywhere near a trillion dollars on welfare... and we do reduce poverty.... Dylan Matthews has already dissected the claim that poverty hasn’t declined.... It’s just that the 'official' poverty rate doesn’t factor in the earned-income tax credit or food stamps in its calculations.... The claim about $1 trillion on 'welfare' is more interesting and complicated. It shows up in this recent report from the Cato Institute.... The federal government spends just $212 billion per year on what we could reasonably call 'welfare'.... We can’t have a productive conversation unless we make it clear what the government is, and is not, doing. And it is spending a lot less on welfare than conservatives claim, and getting fantastic results for what it does spend."

4. Paul Krugman: You're All Losers: "The other day someone... asked an interesting question: when did it become so common to disparage anyone who hasn’t made it big, hasn’t gotten rich, as a 'loser'? Well, that’s actually a question we can answer, using Google Ngrams... I think this word usage reflects something real — a growing contempt for the little people... not limited to Republican politicians. Still, it’s striking how unable they are to show any empathy.... The most famous example, of course, is Mitt Romney, who didn’t just disparage 47 percent of the nation; he urged everyone to borrow money from their parents and start a business. I still think the most revealing example to date was Eric Cantor, who marked Labor Day by tweeting: 'Today, we celebrate those who have taken a risk, worked hard, built a business and earned their own success.' But Marco Rubio’s latest speech deserves at least honorable mention, for the airy way he dismissed the idea of raising the minimum wage: 'Raising the minimum wage may poll well, but having a job that pays $10 an hour is not the American dream.'...

   "OK, I know what the answer will be: conservative policies will lead to economic growth, and that will raise all boats, the way it did in the days of Saint Ronald. Except, you know, it didn’t.... So what is the GOP agenda to help people who aren’t going to build businesses and get rich? There isn’t one — partly because they really can’t reconcile any real agenda with their overall ideology, but also because, deep in their hearts, they consider ordinary people trying hard to get by a bunch of losers."

Paul Krugman: You're All Losers:

The other day someone... asked an interesting question: when did it become so common to disparage anyone who hasn’t made it big, hasn’t gotten rich, as a “loser”? Well, that’s actually a question we can answer, using Google Ngrams... the term “losers” has become much more common since the 1960s. And I think this word usage reflects something real — a growing contempt for the little people... not limited to Republican politicians. Still, it’s striking how unable they are to show any empathy.... The most famous example, of course, is Mitt Romney, who didn’t just disparage 47 percent of the nation; he urged everyone to borrow money from their parents and start a business. I still think the most revealing example to date was Eric Cantor, who marked Labor Day by tweeting:

Today, we celebrate those who have taken a risk, worked hard, built a business and earned their own success.

But Marco Rubio’s latest speech deserves at least honorable mention, for the airy way he dismissed the idea of raising the minimum wage: “Raising the minimum wage may poll well, but having a job that pays $10 an hour is not the American dream.”...

A couple of weeks ago Matthew Miller and Peter Newcomb gave Bloomberg News's take about how, in 2013, it was very good to be the billionaire. Insanely good. Crazy good:

Matthew G. Miller and Peter Newcomb: Billionaires Worth $3.7 Trillion Surge as Gates Wins 2013: "The richest people on the planet got even richer in 2013, adding $524 billion to their collective net worth, according to the Bloomberg Billionaires Index, a daily ranking of the world’s 300 wealthiest individuals... aggregate net worth... stood at $3.7 trillion at the market close on Dec. 31, according to the ranking.... Bill Gates... was the year’s biggest gainer... fortune increased by $15.8 billion to $78.5 billion... as... Microsoft... rose 40 percent... recaptured the title of world’s richest person... from... Carlos Slim....

Since I already published roughly the first half of What Market Failures Underlie Our Fears of “Secular Stagnation”?: The Honest Broker for the Week of January 12, 2014 in draft form last week, let me publish the second half here now a second time for those of you who would otherwise say: "tl;dr"...

I: The Lesson

The first part of our lesson for today consists of a piece based on his AEA presentation by the terrifyingly brilliant Lawrence Summers: Strategies for sustainable growth: "Last month I argued that the U.S. and global economies may be in a period... in which sluggish growth and output, and employment levels well below potential... coincide... with problematically low real interest rates....

Steve M.: Paul Krugman has responded to an article by National Review's Kevin Williamson about poverty in Appalachia "'Williamsons piece... has a moral: the big problem, it argues, is the way government aid creates dependency. It's the Paul Ryan notion of the safety net as a 'hammock' that makes life too easy for the poor.... The underlying story of Appalachia is in fact one of declining opportunity...'

Williamson thinks the proper response to that is self-righteous smugness, with a dose of class warfare....

Paul Krugman: A Hammock In Kentucky?:

National Review has an actually interesting report by Kevin Williamson on the state of Appalachia... [the] moral: the big problem, it argues, is the way government aid creates dependency. It’s the Paul Ryan notion of the safety net as a 'hammock'.... But do the facts about Appalachia actually support this view? No, they don’t. Indeed, even the facts presented in the article don’t....

I gave my thoughts on what we learned about the structure of the modern macroeconomy here: Washington Center for Equitable Growth | The Relative Efficacy of Fiscal and Monetary Policy at the Zero Lower Bound: Where Are the Goalposts, Anyway?: The Honest Broker for the Week of January 5, 2014

Now Mike Konczal gives his thoughts:

Megan McArdle: You Can't Have a Conversation About Sexism at Gunpoint: "Last week, I wrote an essay on women on the Internet in which I argued that the real problem is not the sexualized remarks and threats of violence....

No, the real problem, to me, is that women attract an undue amount of nonsexual rage and denigration from people who don’t like the opinions they hold. People are ruder, angrier, more condescending and more dismissive with women who make arguments they don’t like.... This is not just something men do. It is not just something conservatives, or liberals, or nonfeminists do. It is a general rule....

Matthew Yglesias: Welfare works for kids: Children whose parents get money grow up healthier and live longer:

Anna Aizer, Shari Eli, Joseph Ferrie, Adriana Lleras-Muney, and a team of research assistants took a detailed look at kids who grew up in Mothers’ Pension households and drew some conclusions about the long-term benefits of modest cash transfers. The program is old enough that almost all the kids whose moms received money are dead now, allowing the researchers to conclude definitively that it increased life expectancy.

What’s more, World War II draft records show... sons of the accepted had early adult incomes that were 20 percent higher than those of rejected mothers; these sons were also 35 percent less likely to be underweight as adults, lived a year longer, and had about a third of a year of additional schooling. Since the rejected sons’ families were, on average, somewhat better off, these figures should somewhat understate the real impact of the pensions. The benefits weren’t gigantic—but the sums of money involved were pretty modest as well. Benefit levels varied from state to state, but averaged out to about $260 a month (adjusted for inflation), or around half of a modern-day TANF check."

Last night pieces by the thoughtful and knowledgeable Uwe Reinhardt, the smart and hard-working Marty Lederman, and that brilliant man of unsound methods Richard Epstein collided on my computer screen, and then held an all-night insomniac hoedown.

This is the result:

Over at Equitable Growth--The Equitablog

• Afternoon Must-Watch: David Wessel’s Brand-New Hutchins Center: Central Banking after the Great Recession: Lessons Learned and Challenges Ahead
• Housing Finance and the Macroeconomy: A Pick-Up Internet Symposium Ongoing as of Thursday, January 16, 2014
• Lunchtime Must-Read: Paul Krugman on France’s Rightward Austerity Turn
• Lunchtime Must-Read: Michael Hiltzik: FHFA Director Mel Watt Should Fix the Economy and Boost Housing Construction by Unleashing Fannie and Freddie!
• Morning Must-Read: John Aziz: Stopping the Next Financial Crash Is Impossible
• Neera Tanden on the Center for American Progress: Thursday Focus (January 16, 2014)
• What? Another Court Case About ObamaCare?

Plus:

• Things to Read While Insomniac on the Night of January 16-17, 2014

And:

UPDATED:

god that's embarrassing http://t.co/n64bjkStLa <- via @peter_tl , Michael Boskin doesn't know what "Dutch Disease" is.

— Dan Davies (@dsquareddigest) January 17, 2014

Michel Boskin: "From the 1960’s and 1970’s on, those writing about the Netherlands often lamented the 'Dutch disease.'

There were so many generous subsidies, grants, and transfer payments--aimed at everyone from the truly needy to artists unable to sell their work--that after-tax wages were often barely higher than benefits. So people rarely returned to work after they lost or left a job, or did so in the underground economy, with its unreported cash payments.

Dutch disease - Wikipedia:

In economics, the Dutch disease is the apparent relationship between the increase in exploitation of natural resources and a decline in the manufacturing sector (or agriculture). The mechanism is that an increase in revenues from natural resources (or inflows of foreign aid) will make a given nation's currency stronger compared to that of other nations (manifest in an exchange rate), resulting in the nation's other exports becoming more expensive for other countries to buy, making the manufacturing sector less competitive. While it most often refers to natural resource discovery, it can also refer to "any development that results in a large inflow of foreign currency, including a sharp surge in natural resource prices, foreign assistance, and foreign direct investment".

The term was coined in 1977 by The Economist to describe the decline of the manufacturing sector in the Netherlands after the discovery of a large natural gas field in 1959.

The classic economic model describing Dutch Disease was developed by the economists W. Max Corden and J. Peter Neary in 1982. In the model, there is the non-traded good sector (this includes services) and two traded good sectors: the booming sector, and the lagging sector, also called the non-booming tradable sector. The booming sector is usually the extraction of oil or natural gas, but can also be the mining of gold, copper, diamonds or bauxite, or the production of crops, such as coffee or cocoa. The lagging sector generally refers to manufacturing, but can also refer to agriculture. A resource boom will affect this economy in two ways. In the "resource movement effect", the resource boom will increase the demand for labor, which will cause production to shift toward the booming sector, away from the lagging sector. This shift in labor from the lagging sector to the booming sector is called direct-deindustrialization. However, this effect can be negligible, since the hydrocarbon and mineral sectors generally employ few people. The "spending effect" occurs as a result of the extra revenue brought in by the resource boom. It increases the demand for labor in the non-tradable, shifting labor away from the lagging sector. This shift from the lagging sector to the non-tradable sector is called indirect-deindustrialization. As a result of the increased demand for non-traded goods, the price of these goods will increase. However, prices in the traded good sector are set internationally, so they cannot change. This is an increase of the real exchange rate.

In a model of international trade based on resource endowments as the Heckscher–Ohlin/Heckscher–Ohlin-Vanek, the Dutch disease can be explained by the Rybczynski theorem.

In simple trade models, a country will specialize in industries in which it has a comparative advantage, so theoretically a country rich in natural resources would be better off specializing in the extraction of natural resources. Other models and theories suggest that this could be detrimental, for instance, when the natural resources begin to run out or if there is a downturn in prices and competitive manufacturing industries cannot return as quickly or as easily as they left. This is because technological growth is smaller in the booming sector and the non-tradable sector than the non-booming tradable sector.

Since there has been less technological growth in the economy relative to other countries, its comparative advantage in non-booming tradable goods will have shrunk, thus leading firms not to invest in the tradables sector. Also, volatility in the price of natural resources, and thus the real exchange rate, may prevent more investment from firms, since firms will not invest if they are not sure what the future economic conditions will be.

There are two basic ways to reduce the threat of Dutch disease: by slowing the appreciation of the real exchange rate and by boosting the competitiveness of the manufacturing sector. One approach is to sterilize the boom revenues, that is, not to bring all the revenues into the country all at once, and to save some of the revenues abroad in special funds and bring them in slowly. In developing countries, this can be politically difficult as there is often pressure to spend the boom revenues immediately to alleviate poverty, but this ignores broader macroeconomic implications. Sterilisation will reduce the spending effect, alleviating some of the effects of inflation. Another benefit of letting the revenues into the country slowly is that it can give a country a stable revenue stream, giving more certainty to revenues from year to year. Also, by saving the boom revenues, a country is saving some of the revenues for future generations. Examples of these sovereign wealth funds include the Australian Government Future Fund, the Government Pension Fund in Norway, the Stabilization Fund of the Russian Federation, the State Oil Fund of Azerbaijan, Alberta Heritage Savings Trust Fund of Alberta, Canada, and the Future Generations Fund of the State of Kuwait established in 1976. Recent talks led by the United Nations Development Programme in Cambodia – International Oil and Gas Conference on fueling poverty reduction – point out the need for better education of state officials and energy cadres linked to a possible Sudden Wealth Fund to avoid the Resource curse (Paradox of plenty).[citation needed] Another strategy for avoiding real exchange rate appreciation is to increase saving in the economy in order to reduce large capital inflows which are able to cause an appreciation of the real exchange rate. This can be done if the country runs a budget surplus. A country can encourage individuals and firms to save more by reducing income and profit taxes. By increasing saving, a country can reduce the need for loans to finance government deficits and foreign direct investment. Investments in education and infrastructure have the ability to increase the competitiveness of the manufacturing sector. An alternative is that a government can resort to protectionism, that is, increase subsidies or tariffs. However, this could be a dangerous strategy and could worsen the effects of Dutch Disease, as large inflows of foreign capital are usually provided by the export sector and bought up by the import sector. Imposing tariffs on imported goods will artificially reduce that sector's demand for foreign currency, leading to further appreciation of the real exchange rate.