I Am Adam Smith

NYT Magazine covers Social Security

The New York Times Magazine gives a good but highly opioniated piece on the history of social security and an overview of the reform proposals. Roger Lowenstein, the author, is dead set against private accounts.

Most interesting tidbit from the piece is that Sweden has reformed their pension system to have 2% of their 18% SS payroll tax mandatorilly invested in private accounts. Annika Sunden at BC has a very well done issue brief on Swedish pension reform. Further work by U Chicago behavioral economist Richard Thaler shows how private accounts might not be such a good idea.

hedge fund site to follow

interesting looking hedge fund site to follow.

GDP vs. GNP

Two national accounting systems, Gross Domestic Product and Gross National Product are different.

From a dollars and sense article

A country's Gross Domestic Product, or GDP, is the amount of goods and services, measured at market prices, produced within the country during a particular time period (usually a year). Gross National Product, or GNP, is the amount of goods and services produced by residents of a country, regardless of where that production takes place.

Doesnt matter much for the US,

In 1999, the U.S. GDP -- again, the amount of goods and services produced within the country's geographic borders -- was $9,299 billion. Payments to U.S. residents -- including U.S.-based firms -- from their activities in the rest of the world contributed $306 billion and payments to foreign residents from their activities in the U.S. subtracted $317 billion, resulting in a GNP of $9,288 billion. So for 1999, GNP was 99.88% of GDP -- not much difference.

But for developing countries, GDP might not be a great indicator of financial performance. If a nation has a high percentage of FDI, and the profits are repatriated, they'll have a high GDP, but not a commenserate raise in available capital or living standards.

Apparently the switch from using GNP to GDP happened about 15 or 20 years ago. As globalisation was kicking off... interesting.

A little clairifying example from the article:

In national accounting, the incomes that people obtain are taken as measures of the amount they produce. If firms obtain profits from the production of a good, then those firms are credited with producing that good to the extent of their profits. Thus, when U.S. investors obtain $100 million as profits from production in Mexico, that $100 million is counted towards the U.S. GNP, not towards the Mexican GNP. Yet the $100 million gets counted as part of the Mexican GDP, not the U.S. GDP, because the production takes place within the geographic boundaries of Mexico.

Exchange rates

Last week's Economist has a very clear piece and backgrounder on exchange rates -- a topic several of us had a very frustrating conversation about because of lack of knowledge. The Economist article concludes that a managed drop in the dollar vs. the euro will help revive the global economy. The dollar has fell 31% v. the euro since July 2001 and may have further to go.

To most people exchange rates simply determine how much cash they have to spend when on holiday abroad. But the dollar's exchange rate against the euro is surely the world's single most important price, with potentially much bigger economic consequences than the prices of oil and computer chips, for example. The strength of the dollar affects trade balances, capital flows, growth rates, profits, share prices, inflation rates, interest rates and even the relative size of economies. The euro area's GDP was only 60% the size of America's in 2001. If current exchange rates are sustained, it swells to around 80%. If the economies of Britain, Sweden and Denmark are added to the euro area, the European Union now has a slightly larger economy than that of the United States.

They go on to point out the paradox that the US economy is booming (3.5% annual growth in 2003) in relation to the Euro area (0.3%) but the Euro is still rising in value. What’s driving the exchange rate correction is the still growing current account deficit in the US, and that foreign investors are pulling out of US securities. Also the Bush administration ended the long standing "strong dollar policy" in September 2003.

Exchange rates are basically a market for currencies driven by the normal forces of supply and demand. There are a fixed number of Euros, Dollars, Yen, etc issued at any given time (although goverments can and do print extra money to buy other currencies and impact their currencies value). As the demand increases or decreases for any single currency, it drives the clearing price for that currency. Everything from

-consumer spending, say Tom Curry buying an expensive bottle of French wine -- which would increase the demand for euros because eventually that wine has to be paid for in euros,
-to the Thai government buying US treasury bonds, increasing the demand for dollars and lowering demand for the Baht,
-to a day trader in South Africa buying shares of Mitsubishi, increasing demand for the Yen, and selling the Rand

I think one mistake is that people take pride in having a "strong" currency. It's simply a reflection of market conditions, and shouldn't be thought of as inherently good or bad.