Brad DeLong catches Niall Ferguson making another whoopsie. And while chasing NF isn’t worth the effort for its own sake, I think there is a broader lesson here: namely, the importance of knowing what you don’t know.

My own unpleasantness with Ferguson began when he tried to weigh in on monetary versus fiscal policy without understanding basic macroeconomics. Later, he tried to critique official inflation numbers without knowing enough about that subject to tell the difference between the experts and the cranks. Now he’s demonstrating, rather embarrassingly, that he doesn’t know how to read CBO reports.

What I find amazing is the failure to learn the meta-lesson here, which is not to wade into such matters without being quite sure you know what you’re doing. In particular, if you think you’ve found a massively important fact that somehow all the economists have missed — like a drastic deterioration in CBO’s estimate of the long-run US budget outlook, somehow missed by everyone else reading the agency’s reports — you really, really want to be sure that you’re not just misreading the numbers.

Knowing what you don’t know is very important.

Ken Rogoff has responded to Simon Wren-Lewis and yours truly, and I’m glad to see that he’s taking the analytical questions we raised seriously. I guess it won’t surprise readers, however, to learn that I don’t find the response adequate.

Let me make four points.

1. Since Rogoff seems to have decided to mention my excessive pessimism about euro survival as often as possible, I think it’s important to be clear about what I got wrong. As far as I can tell, I was right about the straight economics: internal devaluation has proved every bit as difficult and costly as I (and many others) warned it would. What has come as a surprise is the politics — the incredible willingness of southern European countries to suffer mass unemployment, year after year, rather than break ranks. The economic framework I was using looks fine, but clearly I misjudged the political landscape.

2. On the economic question at hand, Rogoff seems to be playing bait and switch. Wren-Lewis and I both asked why, exactly, a country like Britain should fear a Greek-style loss of confidence. Rogoff, however, spends most of his piece arguing that Britain would, in fact, be hurt by a euro collapse. Of course it would. So? This doesn’t even seem relevant to Rogoff’s own argument for austerity policies: British austerity might be “insurance” against loss of confidence, but it makes no difference either way to the probability of disaster in Europe. What’s going on here?

3. It also seems to me that Rogoff has shifted his own argument. In the original piece, it was very straightforward: foreign investors would lose confidence, sending interest rates soaring, which would cause economic contraction. I think, though it’s hard to tell, that he has now dropped that story, replacing it with a fairly amorphous assertion that simple models miss the true nature of risk. OK, I guess, but I do think it’s important to note that Rogoff’s original assertion was that it was all very simple.

4. Finally, on Wren-Lewis’s point more than mine: Wren-Lewis pointed out that a country like Britain could easily respond to a run on its bonds via quantitative easing. Rogoff says no, because this would undermine its credibility. I’m being a bit flip here, but as I read this we start with a credibility argument; when there turns out to be an easy way to deal with that problem, it’s rejected because that would undermine credibility. I keep looking for something fundamental, but right now it looks like turtles all the way down.

Just to come back to my original point: I find it quite remarkable that nobody has managed to produce a coherent model to justify the seemingly simple story that anyone, even a country that borrows in its own currency, can suddenly turn into Greece. Again, show me the model!

It’s just one poll, but maybe the Republican lock on the House isn’t that unbreakable after all.

Of course, a lot can and will happen over the next year.

Obama won’t, can’t negotiate over the debt ceiling, and Republicans still haven’t figured that out. So you have to say that it’s pretty likely that we will indeed hit the ceiling. Suppose that Obama’s lawyers tell him that extraordinary measures like just ignoring the ceiling or minting the coin are out. Then what?

Well, Goldman Sachs has a short paper (not online) arguing that the government probably could prioritize payments on Treasury bills, avoiding the breakdown of markets that would come from putting the world’s key safe asset into default. They don’t sound too confident. But even if they’re right, the government would still go into arrears on many other payments, from contractor bills to medical bills. And it would be forced into savage spending cuts, around 4 percent of GDP, that wouldn’t just cause hardship (Surprise! No Social Security for you this month!) but amount to a severely contractionary fiscal policy, sending us into recession if it lasted any length of time.

I think this is important. Lots of people have been focusing on the possibility of a mega-Lehman event, but even if we somehow avoid that, this will be a catastrophe.

This morning, for my sins, I found myself involuntarily watching bits and piece of the morning talk shows, and it seemed clear that Republicans have been given a new talking point. Suddenly, the shutdown/debt ceiling confrontation isn’t just about Obamacare; it’s about curbing runaway spending growth and exploding debt.

I’m a bit surprised. I didn’t expect Republicans to worry about the facts that federal spending has been flat in nominal terms, and falling fast in real per capita terms, for several years, or that the deficit is plunging. But I did think they might worry that the public has moved on from the debt scare, and also that some people might balk at the sudden attempt to rewrite history.

And they should balk. This was never about controlling the deficit. It started as an attempt to stop health reform before it could get started; it has now morphed into an attempt to extract something, anything from Obama to save face (which he can’t give them, because he needs to take a stand against extortion.)

And it’s still looking grim.

For the moment, at least, the shutdown and the general scene of insanity in Congress is clearly hurting the Republican brand. And there’s a whole small industry of crunching numbers on the 1995-6 shutdown, etc., to estimate the likely impact on next year’s elections. For now the conventional wisdom is that the impact will be small, not nearly enough to restore Democratic control.

I have no idea whether that’s right. But as I was reading the various news reports, it occurred to me that there’s a subtler but possibly profound form of damage the GOP is doing to itself, one that will cast its shadow for a long time.

It goes back to something Josh Marshall of Talking Points Memo used to say — that Washington is, in effect, wired for Republicans. Ever since Reagan, the Beltway has treated Republicans as the natural party of government. Sunday talk shows would feature a preponderance of Republicans even if Democrats held the White House and one or both houses of Congress. John McCain was featured on those shows so often you would think he won in 2008.

And there was a general presumption of Republican competence. It’s hard to believe now, but Bush was treated as a highly effective leader who knew what he was doing right up to Katrina, while Clinton — now viewed with such respect — was treated as a bungling interloper for much of his presidency. Even in the last few years there was a rush to canonize Paul Ryan as a superwonk, when it was quite obvious if you looked that politics aside, he was just incompetent at number-crunching.

But I think the last two years have finally killed that presumption. It wasn’t just that Romney lost — his shock, the obvious degree to which his campaign was deluded, was an eye-opener. And now the antics of the Boehner bumblers.

Suddenly the old Will Rogers line — I’m not a member of any organized political party,I’m a Democrat — has lost its sting; the upper hand is on the other foot. And that’s going to color narratives and shape campaigns for a long time.

From the Times, on John Boehner’s position:

The overarching problem for the man at the center of the budget fight, say allies and opponents, is that he and his leadership team have no real idea how to resolve the fiscal showdown.

They are only trying to survive another day, Republican strategists say, hoping to maintain unity as long as possible so that when the Republican position collapses, they can capitulate on two issues at once — financing the government and raising the debt ceiling — and head off any internal party backlash.

But remember, both sides are equally at fault. Isn’t that what we’re supposed to say under all circumstances?

Presentation from EconEd conference yesterday, here (pdf).

Short on time, so something cheerful as I rush to the airport:

At an economics education event in Florida, so little posting today. But a quick note on some methodological thoughts.

I wrote yesterday about the effects of a loss of investor confidence on countries with their own currencies and floating exchange rates, arguing, as I have in the past, that as long as they don’t have large amounts of foreign-currency debt it’s very hard to tell any story in which interest rates surge and the economy slumps. But I made the argument in terms of a somewhat ad hoc approach, basically modified Mundell-Fleming with a central bank response function instead of a standard LM curve. (Yes, I am working toward that lecture next month.)

Now, is that good enough? By itself, probably not. In domestic macro, it’s standard to make arguments in terms of New Keynesian models, as Gauti Eggertsson and I did on debt and deleveraging. In open-economy macro, you’re expected to work in terms of New Open Economy Macroeconomics (pdf), which is basically NK for open economies (duh).

So I’m working on that, and it can be done — and as almost always happens, what you get is confirmation that yes, the insights from the ad hoc approach hold up pretty well.

But boy, is the NOEM version harder both to work out and to work with. Is it really better? I doubt it, although it may be useful as a way of double-checking your reasoning. But as scratchpads for figuring out, on any reasonable time scale, what you really think about policy, ad hoc models like IS-LM and Mundell-Fleming are vastly superior.

And what strikes me is that those ad hoc approaches tend to get lost in the valley of ignorance. They’re too technical for politicians, and too non-technical to be taught in grad school. This is a big loss, because these are the approaches that are most useful in practice.

During the Bush years, I would often run into people mocking W for being stupid. I never thought he was — incurious, anti-intellectual, but not stupid. And the people around him certainly weren’t stupid — cynical, dishonest, but not stupid, especially regarding matters political.

The current situation is different. These guys are cynical and dishonest — but they’re also very, very stupid.

If one thing has been clear for months, it is that Obama (a) won’t give ground on health reform (b) won’t let himself be extorted again over the debt ceiling; he knows that his cave in 2011 was the worst thing he’s done in office, and is determined to set things right by establishing, once and for all, the precedent that you don’t get to pull that trick.

Yet here we are, with Republicans bleeding politically — and knowing that they’re bleeding — and what do we have? Boehner repeating that Obama must concede on rolling back health reform, and Cantor assuring his colleagues that Obama’s going to cave.

It’s true that they’re in a box. Given everything they’ve told the base, facing reality is going to cost them a lot. But they put themselves into this box.

Unfortunately, the whole country and maybe the world is going to pay part of the price of their stupidity.

Simon Wren-Lewis is puzzled by a Ken Rogoff column that sorta-kinda defends Cameron’s austerity policies. His puzzlement, which I share, comes at several levels. But I want to focus on just one thing: Rogoff’s assertion that Britain could have faced a southern Europe-style crisis, with a loss of investor confidence driving up interest rates and plunging the economy into a deep slump.

As I’ve written before, I just don’t see how this is supposed to happen in a country with its own currency that doesn’t have a lot of foreign currency debt – especially if the country is currently in a liquidity trap, with monetary policy constrained by the zero lower bound on interest rates. You would think, given how many warnings have been issued about this possibility, that someone would have written down a simple model of the mechanics, but I have yet to see anything of the sort.

Read more…

Jonathan Chait argues that blame for what looks more and more like a shutdown merging with a debt ceiling crisis rests not with Tea Party radicasl but with the Republican leadership: “The House leadership has evinced every tic of classic aggressive blunderers.”

Unfortunately, I think this is right. Just last week we had Paul Ryan blithely assuring National Review that “nobody believes” that Obama will refuse to make concessions over the debt ceiling, and citing examples from the past that anyone who has actually been following the issue knows have no relevance to what’s happening now.

In other words, GOP leaders fundamentally misjudged the situation (and Obama’s incentives). And now they have backed themselves into a position where they don’t know how to back down — they have to extract concessions or they’ll have been “disrespected,” in a situation where Obama simply can’t make any concessions without destroying his own credibility and betraying the fundamental norms of governance.

So what does the endgame look like?

As the date approaches, market will start to freak out. You can already see a faint hint of freakout coming, as interest rates on 4-week Treasury bills — which may not be repaid on their due date — have moved up above 6-month:

By the way, this may look like a huge spike, but bear in mind the scale: both rates are still very near zero, it’s just that the one-months have moved from a slight premium (on price) to a significant but still small discount.

The assumption has been that Republicans will finally be moved to act by the market freakout. But given their behavior so far, why would you believe this? I can easily see Ted Cruz making a speech declaring that the freakout is all Obama’s fault, and that what the markets really fear is socialism or something — and the base believing it.

My bet now is that we actually do go over the line for a day or two. And what ends the immediate crisis is not Republican action but a decision by Obama to declare himself not bound by the debt ceiling. He can’t even hint at this possibility until the thing actually happens, because he has to keep the focus on the Republicans, and he has to make them demonstrate their utter irresponsibility before he can take any extraordinary action.

But maybe I’m wrong; maybe Obama’s lawyers have concluded that there’s really nothing he can do. If so, God help us all.

Lydia DePillis continues her informative series of blog posts on the political haplessness of big business, which with all its money and connections finds itself not only unable to stop the slide into chaos but unable even to exert any appreciable influence. But I still don’t think the businesspeople understand their problem.

DePillis gets at some of this in her post, but still, I think, doesn’t get to the root of the problem.

I tried to explain all of this last year, writing about the confusion of Howard Schultz of Starbucks, a genuinely good guy trying to make the political situation better — and helping not at all. Schultz, and I think many other business types was (and presumably still is) suffering from a triple misconception about our situation.

First, CEOs still talk as if debt and deficits were the central issue of economic policy. They never deserved that place; they certainly don’t deserve it now that the deficit has clearly been falling too fast and the debt outlook is stable for the next decade. Yet they can’t let go of the notion that a grand bargain on the budget — as opposed to an end to destructive austerity — is what we need.

Second, many CEOs are, I believe, genuinely naive about the people they deal with. They believe, for example, that Paul Ryan actually cares about deficits. They haven’t grasped, or refuse to grasp, the reality that the whole thing about deficits was really about using economic crisis as an excuse to tear down the social safety net.

Finally, they’re still trying to position themselves as the middle ground between extremists on both sides, when the reality is that we have a basically moderate Democratic party confronting a radical Republican party that doesn’t play by any of the normal rules. If you insist on thinking of Ted Cruz and Elizabeth Warren as somehow symmetrical figures, you’re already so out of touch with political reality that there’s no way you’re going to have useful influence.

I do sometimes wonder how these guys can be that naive, and some of them probably aren’t — they’re playing class warfare on the sly. But some of them really do seem clueless, probably because thinking about the reality of American politics today would make them uncomfortable — and who’s going to tell the guy in the big office things that make him uncomfortable?

It’s not just Fox News watchers who live in a bubble; sometimes, wealth and power can have the same effect.