July 01, 2004

A Dirty Job. But Somebody Needs to Do It

*Sigh.* It's the first day of the new quarter, so it's time for me to take on my share of intellectual cockroach control. It's a dirty, unpleasant job. But it needs to be done, and I should do my share. So:

When Don Luskin criticizes Larry Summers and Paul Krugman for having in the early 1980s forecast a decline in the value of the dollar:

The chart below shows the real exchange rate of the US dollar for a decade before the 1982 memo, and then through the end of the Reagan presidency. It did drift slightly lower for the first couple of years after the memo. But then it took off to new highs -- nothing resembling anything like a "return to approximately their historical levels."

But there is something important that Luskin does not know that you need to know. In this chart, "highs" does not mean what Luskin thinks it means. Luskin has constructed a chart not of the value of the dollar but of the price of foreign currency in dollars: when the value of the dollar falls, the price of foreign currency in dollars rises. Luskin's "taking off to new highs" is Krugman's prediction of lower dollar values coming true. Add incompetence in reading data definitions to the list of Luskin's sins. (Also add ignorance: I didn't know there was anyone connected to financial markets who did not recall that the value of the dollar fell substantially between the Plaza Meeting of 1985 and the Louvre Meeting of 1987.)

Moreover, what Luskin has plotted here is not the real exchange rate: the U.S. real exchange rate did not change by a factor of three between 1973 and 1988. I suspect that what Luskin has done has been to divide a nominal exchange rate series by the home country's price level, rather than by the ratio of the home to the foreign price level, and thus created a series that is essentially meaningless. (But however he has created this series, add incompetence at data construction to the list of Luskin's sins.) Posted by DeLong at July 1, 2004 09:28 AM | TrackBack | | Other weblogs commenting on this post


I wonder if Luskin, Frum, Kudlow and Nugent have collectively ever managed to get a single formula right.

Posted by: Fabio Lanzoni on July 1, 2004 09:55 AM


Blogger Ragout has found a few more errors in the Luskin 'analysis' including a blatant misrepresentation of what the 1982 memo really said.

Posted by: Harold McClure on July 1, 2004 10:05 AM


Of all the supposed "lies" Luskin has caught Krugman in, I think all but one has either been acknowledged or corrected by Krugman before Luskin even brought it up. Ironically, does this not means that, by using the plural, Luskin is actually a bigger "liar" than Krugman is?

Posted by: Adam on July 1, 2004 10:21 AM


Plus, anyone who combined the slightest bit of real-world experience or memory with the slightest bit of intellectual honesty would recognize that there's something very wrong with that chart.

From late 1983 until sometime in 1985, I clearly recall that the dollar reached the highest levels against major western European currencies since the 1950s, and in some cases (the pound, which was close to par with the dollar in 1984), ever. (I remember it clearly because it would have been an amazing time to take a European vacation which we, with two small daughters at the time, were financially and practically unable to do.) By 1988, the dollar had slid to still high but much more normal levels.

Yet Luskin's chart shows none of this, depicting the 83-85 period as a slight decline from his (at that point) 1981 "high", and shows a steep rise from 1985-1988 when the value of the dollar against major European currencies was going in exactly the opposite direction.

Obviously this leaves out the situation with the Yen but I can't believe it would that substantially change things viz-a-viz Western European currencies whose economies in total represented a far bigger portion of the global economy than Japan.

In essence, as Brad noted, Luskin has created a graphic that appears to bear no relationship to anything meaningful in real life.

Posted by: Steady Eddie on July 1, 2004 10:27 AM


It is so entertaining to watch Luskin's sophistry dismantled. Does anyone know of a "Luskin Truth Squad" wherein this kind of stuff happens on a more regular basis?

Posted by: Abhishiktananda on July 1, 2004 10:46 AM


People like Luskin tend to make me feel like I really must be missing something obvious--my general distaste for monetary policy shows through. But then, I looked at the historical values of the US Dollar Index:


And these show exactly what he claims didn't happen: the dollar returned, by 1989, from its 1982-85 highs to 1980-81 levels. I could easily make from those data a graph that would be far prettier than his, and it might actually be correct, unless I really am missing something painfully obvious.

Posted by: Gray on July 1, 2004 10:52 AM


Brad writes:

"It's the first day of the new quarter, so it's time for me to take on my share of intellectual cockroach control. It's a dirty, unpleasant job. But it needs to be done, and I should do my share."

I wouldn't call catching Luskin in such an obvious and blatant error "cockroach cleaning." It's more like taking a bottle of Raid, putting it in your cupboard, padlocking it, then having Luskin sneak into the cupboard and chug away at it himself.

Even so, good work :-)

Posted by: Brad Reed on July 1, 2004 11:50 AM


Is there any chance that Luskin is aware of the field of economics in which Krugman has made his biggest mark? This is rather like when Krugman critics accused him of getting the cost of predicted job creation under Bush fiscal policy wrong - requiring the assumption that Krugman can't do math.

Posted by: kharris on July 1, 2004 12:21 PM


Let's understand how Luskin's mind appears to work.

Paul Krugman makes strongly anti-Bush remarks in his column.

It's not possible, Luskin appears to reason, for an honest person to be anti-Bush. Therefore, Krugman must be dishonest.

Since he is dishonest, Luskin then appears to reason, everything he writes must be false.

And therefore, all i have to do is to discover the particular type of "falseness" that any given Krugman column contains.

And, of course, the National Review, as the prof has pointed out many times, appears to know nothing of economics, so it continues as Luskin's patron, since the same brilliant thought process occurs at National Review as well....

Posted by: howard on July 1, 2004 12:30 PM


Note that Prof. DeLong says he doesn't know precisely what Luskin's chart represents or how it was calculated. Nevertheless, he describes the chart as meaningless and says Luskin didn't understand how to use his data. However, it's also conceivable that Prof. DeLong might have made an incorrect assumption as to how Luskin created the chart. I think he ought to have asked Luskin how his chart was produced.

It also would be better if Prof. DeLong provided a link to Luskin's post, so one could see Luskin's points in context. The link is http://poorandstupid.com/2004_06_13_chronArchive.asp#108736225780330237

When you check the link, you'll see that Luskin was correct in his primary complaint about the Krugman-Summers 1982 memo. The memo wrongly predicted a reacceleration of inflation. It said:

"We believe that it is reasonable to expect a significant reacceleration of inflation in the near future. Much of the apparent progress against inflation has resulted from the temporary side effects of tight money and high real interest rates. These side effects must be expected to reverse themselves as real interest rates decline and the economy expands....Our very rough guess is that correction of...distorted relative prices will add at least 5 percentage points to future increases in consumer prices... This estimate is conservative..."

Posted by: David on July 1, 2004 02:47 PM



You're missing the point. Krugman & Summers made a prediction about the real exchange rate. Luskin tries to refute it by graphing something that's not the real exchange rate. There's no need to know the exact details of Luskin's error to recognize that he hasn't plotted the right series. Maybe Luskin plotted the price of orange juice. Maybe he plotted the Yankees winning percentage. Who knows? Who cares?

How do we know that Luskin plotted the wrong series? Because DeLong tells us that the real exchange rate didn't move the way Luskin said it did. If you're not convinced by Delong's considerable authority, see Gray's comment above. He's posted a link to the Atlanta Fed's real exchange rate series, which looks a lot like DeLong's verbal description but doesn't look anything at all like Luskin's series.

Posted by: Chef Ragout on July 1, 2004 03:23 PM


It is precisely this mental block which led to my being forbidden by colleagues from ever mentioning exchange rates in public meetings. Oddly enough, clients tended to complain about the fees when the team's "technical expert" was seemingly unable to distinguish between division and multiplication :-)

Posted by: dsquared on July 1, 2004 03:44 PM


david, shorter luskin: "Krugman and Summers suggested that regression to the mean is a normal tendency. How foolish."

That's insight? That's something that we should admire? The guy should just shut up if that's the best he can do....

Posted by: howard on July 1, 2004 04:30 PM


Go, go Brad go!

Posted by: El Gringo on July 1, 2004 04:34 PM


BTW:"Congratulations to Paul Krugman who has won the 2004 Prince Of Asturias Award for Social Sciences!!! The article about it is archived in the Others on Krugman Section"

Posted by: El Gringo on July 1, 2004 04:48 PM


You forget that up is the new down.

Posted by: Matt McIrvin on July 1, 2004 05:43 PM



I don't know if you did this because I suggested it at some point - in fact, I am not even sure that my comments were properly added to this site. In any event, you're awesome!

One thing I really live, aside from your obvious economic knowledge, is your ability to give a rhetorical zing to people like Luskin in such a subtle way. To take one example, once when criticizing Larry Kudlow's commentary, you said something like, "Do Larry Kudlow's editors read his columns? Does Larry Kudlow read Larry Kudlow's columns?"

Posted by: Brian on July 1, 2004 08:54 PM


Leave aside whether the chart's inaccuracy and just take the chart as it stands. If Krugman predicted that the y-value would fall at the point where the arrow points, he's would get lots of points in the financial world. Sure the y-value increases after 85, but in late 82 Krugman managed to predict a two-year trend. That's pretty good.

Posted by: Andrew Boucher on July 1, 2004 10:18 PM


What is a good proxy for the overall real exchange rate and where can I find historical data on it?

Posted by: Bobby on July 1, 2004 11:24 PM


What is a good proxy for the overall real exchange rate and where can I find historical data on it?

Posted by: Bobby on July 1, 2004 11:26 PM



See Gray's post above, for a link to the Atlanta Fed series on the real exchange rate.

Posted by: Chef Ragout on July 1, 2004 11:38 PM


"Oddly enough, clients tended to complain about the fees when the team's 'technical expert' was seemingly unable to distinguish between division and multiplication"

Heh, found my new .sig!

Posted by: linnen on July 2, 2004 09:17 AM


I wonder: do people actually put their money under luskin's management, in that "Trend Macrolytics" fund or whatever? It looks to me like he attended Yale for either one year or two years before dropping out.

I fear for the people who have money in his funds. "Well, Mrs. Jones, your portfolio is doing well. Your initial investment/current value ratio is soaring, and has reached over 583%! I expect it to rise further."

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