tag:blogger.com,1999:blog-12444698094869254132024-02-08T05:55:21.188-08:00markedlymacroWilliam O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.comBlogger8125tag:blogger.com,1999:blog-1244469809486925413.post-11176831047599629372012-06-06T03:56:00.001-07:002012-06-06T04:18:23.691-07:00Should the World be Flat?<span style="font-size: large;"><br /></span><br />
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<span style="font-size: large;">Is the current proliferation of tax credits - or their
better spoken sibling, tax thresholds – inimical
to the welfare potential of the economy? The following well known proposition
of economic theory suggests that it is.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;"><i>For any structure of ‘threshold plus marginal rate’ there will
always be some ‘flat rate scheme’that </i><i> for a given individual income
tax payer </i><i>will increase the utility, consumption, labour
supply and tax paid of that tax payer.</i></span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">If you like, for a given income tax payer, there will always
be some 'flat rate scheme' - one which abolishes the threshold and makes all income subject to a 'flat' rate of tax - that makes both the tax payer and the government
better offer. </span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">What is going on here? How is this marvel achieved? </span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">The answer does not lie in any strange grace of
‘simplicity’. Or in some abhorrence of nature of a vertical axis intercept. The
answer lies in the incentives that a flat rate scheme offer to a person to obtain utility from
consumption rather than leisure.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">The explanation of this doesn't require any maths or diagrams. The logic can be conveyed solely through words. </span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">It is easy to see the following 'trivial' proposition: there will always exist some flat
rate scheme that would yield exactly the same revenue as before IF the person
worked exactly the same hours as before. This is true merely by virtue of arithmetic: as any flat rate scheme involves abolishing
the tax threshold (and so increasing the tax
liability) and a cut in the marginal rate (decreasing the tax liability), there
will necessarily exist some marginal rate of tax such that the person would pay
exactly the same revenue IF they worked the same number of hours. </span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">We now persue significance of this apparently hum drum proposition ... Is it not true that to work the same number of hours as before - while
paying the same tax - is to have same consumption as before? And is not working the same number
of hours as before to have the same leisure as before? Thus our proposition in the paragraph above says: 'there will necessarily
be a flat rate scheme such that the person could have the same leisure and the
same consumption as before by the working the same hours as before'. In short, we can construct a flat rate scheme such that the
person can obtain the same utility as before simply by working the same hours as they did before.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">But - and this the key observation - under this scheme, the person
can now do BETTER than 'the same utility as before'; and they can do better by choosing to work MORE hours than they did before. This is because the reduction in the rate of tax
has increased the consumption reward for working an extra hour. Previously, the
consumption reward (in utility terms) from working an extra hour was just matched by the loss (in utility terms) from working an extra hour (that equality was why the person worked as long as they did, and no longer). Now that the consumption reward for working an extra hour has ncreased (on account of the cut in the marginal rate),
it is now utilty increasing to to work more than they did before. Further, by working more under the hypothesised scheme they must pay more tax, as a matter of arithmatic. And they must consume more.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">The proposition of the dominance of a flat rate scheme over 'threshold plus marginal rate' is suggestive of the more general proposition: </span></div>
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<span style="font-size: large;"> </span></div>
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<span style="font-size: large;"><i>For any scheme of
‘threshold plus marginal rate’ there will always be some (i) reduction in the
marginal rate, and (ii) reduction in the threshold that will, for any given
income tax payer, increase the utility, consumption, labour supply and tax paid of that tax payer.</i></span></div>
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<span style="font-size: large;"><i><br /></i></span></div>
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<span style="font-size: large;">The logic is just the same. The only difference is that the size of the effect of a mere reduction in the threshold is less than the size of the effect of outright abolition. Thus reducing the threshold to zero is better than reducing it merely to a positive number.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">But if reducing the threshold to zero is better than reducing it merely to a positive number, would it not be better still to reduce the threshold to a <i>negative</i> number? The answer is : yes, it would be better. Unlimited vistas of improvement through tax restructure seem to open up ...</span></div>
<span style="font-size: large;"><br /></span><br />
<span style="font-size: large;">Why, then, do we resist this free lunch offered by schemes to simultaneously reduce thresholds and reduce marginal rates?</span><br />
<span style="font-size: large;"><br /></span><br />
<span style="font-size: large;">One answer is that the impacts of any given such restructure are heterogeneous and contrary across income.</span><br />
<span style="font-size: large;"><br /></span><br />
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<span style="font-size: large;">The 'free lunch' proposition at stake is, recall, conditioned on a given individual income
tax payer, call them X.<i> It is clear that
the restructuring that increases the utility, consumption, and labour supply of tax payer X may have different
effects on other payers. </i>To illustrate:
any individual whose income was below
the threshold obviously must now have lower utility and consumption (and pay more tax) on
account of any abolition of the threshold. It is also easy to see
that the person whose income was ‘significantly' above that of tax payer X, will win from the restructure that delivers 'lunch for free' to X. This high income person will certainly have higher utility, BUT (unlike X) they may pay less revenue. Thus what is a free lunch for X may be lunch, indeed, for those better off than X; but not, alas, a free one. And for those with incomes less than X, it may be no 'lunch' at all.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">There is another reason that recommends caution against reducing thresholds and rates. Mancur Olson has suggested that Joseph Stalin used this logic to drive growth in the 1930s. That fact is an inauscipicous one. Public Choice theory can explain why what might seem like a tax reform can prove to a tax exploitation.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">The next post elaborates. </span></div>
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<br /></div>
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<br /></div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-32399279663945006992012-05-07T10:21:00.002-07:002012-05-07T10:22:24.538-07:00The Inconvenient Truth About Tax Credits<br />
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<br /></div>
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<span style="font-size: large;">The Inconvenient Truth about Tax Credits</span></div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">Everyone loves tax credits. At least, left of centre parties
do. In 1993 Bill Clinton greatly expanded an old scheme; in Britain New Labour
introduced them in imitation in the 1990s, and now the Coalition government - at
Liberal Democrat instigation - have substantially increased them. The post 2007 Labor government in Australia has
recently inaugurated their use there.</span></div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">The beauty of a tax credit for the Left is that it is
equivalent to an increase in the tax-free threshold (or ‘allowance’) that the ‘better
off’ don’t get. That is to say, it is an increase in the tax-free threshold that is ‘means
tested’; as income rises the size of the increase is reduced, at some point to
zero. This means testing not only reduces the revenue cost of the
measure </span><span style="font-size: 12pt; line-height: 115%;">(obviously)</span><span style="font-size: 12pt; line-height: 115%;">, it has another merit: unlike a universal increase in the tax-free
threshold, a tax credit will not reduce the supply of labour of those
sufficiently well off as to not receive it. For such
persons there is no incentive to ‘buy leisure’ with the tax credit, for the very solid
reason that they don’t receive any credit </span></div>
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<span style="font-size: 12pt; line-height: 115%;"><br /></span></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">But all is not good. The worm in the apple is found is in very
means testing of the increase in the threshold. This means testing has both an equity and
efficiency cost.</span></div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">With respect to equity, the ‘shading out’ of the credit as
income rises clearly constitutes an increase in the effective marginal rate of
tax of all those who receive a positive tax credit (but don’t get the full
amount). This increase in the effective marginal rate of tax obviously doesn’t apply to
anyone whose income is sufficiently high that they don’t get any credit. The upshot is that a less well-off person on
some tax credit will face a higher effective marginal tax rate than a somewhat
better-off person on no credit; and the effective marginal tax rate falls with income.
This seems to offend our sense of equity:
not only should average rate of tax not fall with income, the marginal
rate should not fall, either. It seems inequitable, to illustrate, for a
better-off person to pay in tax a smaller fraction of their extra income from,
say, working a public holiday, than a poorer person.</span></div>
<div class="MsoNormal" style="text-align: justify;">
<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">But there is also an efficiency defect in the tax credit
system. It is a simple matter to demonstrate the following proposition: </span></div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<i><span style="font-size: 12pt; line-height: 115%;">For any person you care to nominate who is receiving some
credit less than the maximum, there will always be some simultaneous (i) reduction
in the size of the credit, and (ii) reduction in the rate of shading out, that
will increase that person’s hours worked, consumption, utility <u>and</u> tax paid.</span></i></div>
<div class="MsoNormal" style="text-align: justify;">
<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">To put it another way, for any nominated tax payer receiving some credit, one can always
craft a revision of the credit that makes it smaller, but more universal, so that
the person is better off; and the Treasury too!</span></div>
<div class="MsoNormal" style="text-align: justify;">
<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">This conclusion constitutes an inconvenient truth for tax
credit schemes. These schemes are meant ‘to
help’ those receiving it. But for anyone not receiving the maximum it can
always be dominated by a reworking that seems to dilute that scheme, by
reducing the size of ‘help’ to those right at the bottom, but creating a ‘help’
to some towards the top who previously received nothing.</span></div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-size: 12pt; line-height: 115%;">Such is one of the dilemmas of those who would contrive a tax
system to secure their vision of a fairer society. </span></div>
<div class="MsoNormal" style="text-align: justify;">
<br /></div>
<div class="MsoNormal" style="text-align: justify;">
But how does the ‘dilution’ mooted
above work that minor miracle of longer hours<span style="font-size: 12pt; line-height: 115%;">, higher consumption, increased utility<i style="mso-bidi-font-style: normal;"> and</i> more tax paid?</span></div>
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<br /></div>
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Wait for the next installment.</div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-22704997168342983422012-04-01T07:22:00.001-07:002012-04-01T07:23:32.998-07:00Hayek contra Friedman<br />
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<b><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Hayek and Friedman’s Conflicting Diagnoses of the Great
Depression</span></b></div>
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<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">In the beginning was the Great Depression. </span></div>
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<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">It was from that mysterious episode that there emerged modern
macroeconomic debates. Not only the familiar divide between ‘Keynes and the
Classics’, but also the less well known but (I believe) ultimately more significant
divide between ‘Historical Liberalism’ and ‘Neoliberalism’. </span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">This last divide is manifested in Hayek’s and Friedman’s differing
diagnoses of the Depression. Both Hayek and Friedman blamed central banking for
the disaster. But for different reasons. And for different<i style="mso-bidi-font-style: normal;"> type</i> of reason. </span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Put simply, Friedman had a Political Economy account of central
banking’s responsibility for the Depression, whereas Hayek had a Pure Economics
account of central banking’s responsibility for the Depression.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Hayek provides his account in <i style="mso-bidi-font-style: normal;">Prices and Production</i> of 1931, the book of a series of lectures he
gave as a newly appointed professor at LSE. (The man who had him appointed him –
Lionel Robbins - gave a popularised version of Hayek’s contentions in his <i style="mso-bidi-font-style: normal;">The Great Depression</i> of 1934.)</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;"> </span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<i style="mso-bidi-font-style: normal;"><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Prices and
Production</span></i><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;"> argued that an actively monetary policy amounted
to a price distortion. Specifically, a loose monetary policy reduced the market
price of investment below the opportunity cost of investment. Loose policy was,
in effect, a subsidy on capital accumulation, and like all subsidies it could only
do harm. Thus in the 1930s Hayek was criticising activist monetary policy on <i style="mso-bidi-font-style: normal;">market success</i> grounds. The free market would
generate a socially efficient outcome, and active monetary policy distorted that
outcome, and so wasted welfare. </span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">By contrast Friedman’s <i style="mso-bidi-font-style: normal;">Monetary
History of United States</i> of 1963 criticises activist monetary policy on <i style="mso-bidi-font-style: normal;">government failure</i> grounds. To explain: Friedman’s
case against central banking was not that central banking took something good (the
free market outcome), and made it bad. That was not his position. To Friedman active
monetary policy <i style="mso-bidi-font-style: normal;">could often do good</i>. Years
later Hayek would spotlight Friedman’s optimism about the potential of monetary
policy:</span></div>
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<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<i><span style="font-size: 14pt; line-height: 150%;">I don't like criticizing Milton Friedman … but … if I told
him … that I very much doubt whether monetary policy has ever done anything
good, he would disagree. </span></i><span style="font-size: 14pt; line-height: 150%;">http://www.cato.org/pubs/policy_report/cpr-6n3-hayek.html</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Friedman’s optimism about the potential of monetary policy arose
from his judgement that there could be ‘market failure’ (in the form of bank
runs, for example). The problem with active monetary policy was that the Central Bank did not with
any reliability correct such market failures; rather it frequently mismanaged
interventions that could be managed improvingly, and so making things worse.
Thus Friedman’s criticism of active monetary policy was not pinned on the <i style="mso-bidi-font-style: normal;">perfection of the market</i>; but a <i style="mso-bidi-font-style: normal;">defect in government</i>.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Friedman’s position flags a key differentiation of Neoliberalism
from ‘Historical Liberalism’ (that is, classical liberalism before the Great
Depression): Neoliberalism shifted the burden of the case for limited
government <i style="mso-bidi-font-style: normal;">from market success to
government failure.</i></span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">The starting point of this shift was the Neoliberal acknowledgment
that the free market outcome need <i style="mso-bidi-font-style: normal;">not</i>
be the best of all feasible worlds. But this left neoliberal supporters of economic
freedom with problem; why reject shifting that imperfect market outcome by some ‘economics
of control’? To plead the incapacity of the state to implement a perfecting
shift would be beside the point; the advocate of regulation hardly needs the
state to be capable of a <i style="mso-bidi-font-style: normal;">perfecting</i> shift
to make their case for regulation; an improving shift would be sufficient. And
pleading the incapacity of the state to make even a small improving shift would
be implausible. The inevitable bungling and ignorance of government will not
convict the state of such complete incapacity. Bungling and ignorance does not (after
all) imply that laws against theft are worse than useless: so why should it imply
that laws against (say) monopoly pricing are worse than useless? In the face of
some market failure, surely the government was capable of making things at
least marginally better? As Friedman would be the first to insist, while the
Fed could not have prevented a recession in 1929, it could have prevented a
depression.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">The riposte of neoliberalism to the regulatory advocate was
not that government <i style="mso-bidi-font-style: normal;">could not</i>
intervene improvingly, but that government <i style="mso-bidi-font-style: normal;">would
not</i> intervene improvingly. It would choose (perhaps unwittingly) to not to
intervene in a way that would be improving. This is the meaning of ‘government
failure’.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Both Hayek’s and Friedman’s positions were, to be sure, underargued. There
were gaps in ‘the pure economics’ of Hayek, while Friedman’s Political Economy
was a collection of observations rather than a theory.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Hayek never articulated with the requisite rigor <u>how</u>
looser a monetary policy would constitute a subsidy for investment. For it is not
clear how in a competitive market a looser monetary policy can reduce <i style="mso-bidi-font-style: normal;">ex ante</i> real interest rates. It should only
affect nominal interest rates (to the extent that the policy innovation is
predicted), or <i style="mso-bidi-font-style: normal;">ex post</i> real rates (to
extent that the policy innovation is unpredicted). But not </span><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;"> <i style="mso-bidi-font-style: normal;">ex ante</i> real interest rates. </span><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">In the same vein, it was
also unclear how a looser policy would increase investment in the face of a
wish of the public not to save any more. On this particular, Hayek’s references
to ‘forced saving’ were more evocative than clarifying.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Friedman in a similar way can be criticised for having little
offer in terms of a fundamental theory of government failure. With </span><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;"> specific </span><span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">respect
to the Great Depression, he argued that, in the absence of strong personalities, the
Fed's committees drifted between policies, and never maintained a course.
In post-War period Friedman’s criticism of policy drift became a criticism of
policy ‘churning’; where ‘importance-maximising’ central bankers made waves in
order to maintain their role as ‘players’. Both these are interesting suggestions,
but far from a fully-fledged theory of government failure. </span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<span style="color: #1d1b11; font-size: 14pt; line-height: 150%;">Nevertheless, one can still reasonably dichotomise
criticisms of current monetary policy activism into <i style="mso-bidi-font-style: normal;">market success critiques,</i> and <i style="mso-bidi-font-style: normal;">government
failure critiques</i>. Market success critiques would in the contemporary world
turn, I suggest, on the thesis that monetary policy was underpricing risk; reducing
the private price of risk beneath the social opportunity cost of risk. And government
failure critiques ? I think they might find some material in the premium our
time places on celebrity and self-dramatisation. In economic life we hail the
risk-taking, rule breaking, routine-smashing ‘entrepreneur’ over the prosy
Marshallian ‘saver’ and ‘firm’. And in policy I put to you we are all now Schumpertarian
policy pirates; engrossed in innovative, ‘aggressive’ ‘blue-sky’ polices.</span></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<br /></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<i><span style="font-size: 14pt; line-height: 150%;">If you look at the history of financial crises, it shows that an
aggressive and creative response is the best way to ensure minimal damage to
the economy. </span></i></div>
<div class="MsoNormal" style="line-height: 150%; text-align: justify;">
<i><span style="font-size: 14pt; line-height: 150%;"> </span></i><span style="font-size: 14pt; line-height: 150%;">Ben
Bernanke, <i style="mso-bidi-font-style: normal;">Time</i>, 27 December 2010<span style="color: #1d1b11;"></span></span></div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-92214479489708716252012-03-21T03:17:00.000-07:002012-04-01T07:23:51.369-07:00The Eternal Sunshine of the Wattless Mind?<br />
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<u><span style="font-size: large;">The Eternal Sunshine of the
Wattless Mind?</span></u></div>
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<br /></div>
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In a forbearing profile of the British
Chancellor of the Exchequer, the <i style="mso-bidi-font-style: normal;">Sunday
Telegraph </i>(18 March 2012) records,</div>
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<br /></div>
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‘George Osborne is probably the
first chancellor in modern history to take a two-day holiday a week before the
budget. His decision to do so speaks eloquently about his approach to the job …
his predecessors are amazed at his ability to spend so little time on the job’.</div>
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<br /></div>
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Osborne returned from holiday to
appear on the BBC in order to promise a ‘crackdown’ on foreigners not paying
enough stamp duty on the real estate they buy in London; stamp duty on
purchases over £5m will be raised from 5 to 7 percent. Big deal. My back of the envelope calculation suggests this will raise at best £40m over 12 months, compared to forecast revenues last year of £589B. This is a
made-for-television policy.</div>
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<br /></div>
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The <i style="mso-bidi-font-style: normal;">Telegraph</i> unwittingly put their finger on it when it concluded ‘… we can see the outlines of Osbornism. It is
not an economic doctrine: it is the absence of economic doctrine’. That
captures it: the Chancellor’s mind is perfectly unsullied by any economic
principle.</div>
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<br /></div>
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Of course, we get the politicians
that we deserve. And their minds, too. In 1936 Keynes, in the last paragraph of <i>General Theory</i>, judged that his
contemporary public was ‘impatient … for fundamental diagnosis’. (The
completely unheralded success of the launch of Penguin books that year is one corroboration
Keynes’ contention). Did not that ‘impatience’
exert an influence on the character of the body politic? In that year a future a
Chancellor of the Exchequer, Hugh Gaitskell, was head of the Department of Economics
at University College, London, spending a good part of his energies mastering
Hayekian trade cycle theory, and arguing <i style="mso-bidi-font-style: normal;">against
</i>quasi-Keynesian remedies that appealed to his Labour colleagues. We cannot imagine any politician today taking
difficult economic thought so seriously. But, correspondingly, we cannot
imagine the public having any hunger for ‘fundamental diagnosis’. In the midst
of our listing economic system, we have suddenly burgeoning not Penguin books, but Twitter.</div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-55442669246451488472012-03-20T11:51:00.003-07:002012-04-01T07:24:41.219-07:00In the Long Run ‘We’ are all … Irrelevant<br />
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<u><span style="font-size: large;">In the Long Run ‘We’ are all …
Irrelevant</span></u></div>
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<br /></div>
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Perhaps Keynes’ most quotable and
frustrating remark is, ‘In the long run we are all dead’. To dispose of it I am
tempted to brandish the riposte of Ludwig von Mises;</div>
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<br /></div>
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‘I do not question the truth of
this statement: I even consider it as the only correct declaration of the </div>
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</div>
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Neo
British Cambridge School’. (<i style="mso-bidi-font-style: normal;">Economic Planning</i>, 1945)</div>
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<br /></div>
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But this sally is to evade Keynes’
point. Which is, as far as I can see, that ‘the rate of discount’ is not zero; and (to illustrate his thrust) assuring the patient that their
agony will ultimately vanish hardly by itself constitutes sufficient grounds
for inactivity. It would hardly constitute grounds (for example) to decline to
purchase morphine. </div>
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<br /></div>
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Keynes’ remark, thus interpreted,
is both irresistible and weak. It may with equal justice be retorted that time
preference is not infinite. And it is not infinite; not even for that futurity when
‘we’ are dead, and gone, and wholly untouchable by events on earth. Was not Keynes
himself concerned with the ‘economic possibilities of our grandchildren’?</div>
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<br /></div>
<div class="MsoNormal" style="text-align: justify;">
While on the matter of mortality …. the Australian Bureau of Statistics' just
released <i style="mso-bidi-font-style: normal;">Causes of Death</i> gives a striking
measurement of how quickly our ‘journey’s
end’ is changing. In 2001 ‘Ischaemic heart disease’ (which, of course, felled
Keynes) killed 26, 234 people. In 2010
it killed 21708 people; a decline of 4526. In 2001 3740 died of Alzheimer’s and
dementia. But by 2010 9003 did.</div>
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<br /></div>
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(see: http://www.ausstats.abs.gov.au/ausstats/subscriber.nsf/0/E39670183DE1B0D9CA2579C6000F7A4E/$File/33030_2010.pdf)</div>
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<br /></div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-47295066579373689642012-03-15T10:11:00.002-07:002012-03-15T10:11:26.204-07:00<u><span style="font-size: large;">The 'More is Less' Fantasy of Today's Public Finance</span></u><br />
<br />
<br />
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<span style="font-family: "Arial","sans-serif";">Richard Howard, the </span><span style="font-family: "Arial","sans-serif";">global strategist of the hedge fund </span><span style="font-family: "Arial","sans-serif";">Hayman
Capital, has recently articulated thus one the popular delusions regarding current 'austerity' programs: </span><span style="font-family: "Arial","sans-serif";"> </span><br />
<br />
<span style="font-family: "Arial","sans-serif";">‘At the
moment, the peripheral countries are cutting their budgets quickly and
aggressively, which is having a negative impact on their economies and making
it even harder for them to reach a balanced budget.’(</span><span style="font-family: "Arial","sans-serif";"><i>Business Spectator</i>) </span></div>
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<br /></div>
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<span style="font-family: "Arial","sans-serif";">There you have it: to cut government spending is to make it harder to balance the budget. And conversely, to increase spending is to reduce the deficit. The might be called the More is Less fantasy. More government spending, less of a deficit.</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">Let me give this fancy its due: increasing government spending by $1 probably will increase GDP in many contexts; and so will increase government revenue. But will a dollar of spending increase revenue by <u>more</u> than a dollar? Not even the most crude, skewed and one-eyed Keynesian models will allow this conclusion. </span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">To see this, let's travel into a Keynesian universe </span><span style="font-family: "Arial","sans-serif";">as far as an unhinged reason will permit</span><span style="font-family: "Arial","sans-serif";">.</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">We may begin - in the spirit of extreme Keynesianism - by throwing out any suggestion that the economic system has a self-equilibrating tendency, and assuming the most simplistic Keynesian model of the elementary textbooks (often referred to as the 45 degree model). Such a model assumes away the possibility that in response to an increase in government spending,</span><span style="font-family: "Arial","sans-serif";"> the interest rate might rise (and so reduce investment); or that the exchange rate might appreciate (and so reduce exports); or that the price of output might rise (and so reduce real money balances, with further negative implications for the interest rate and the exchange rate); or that consumers will perceive that any extra government debt spells future interest charges and future taxes to match; or that consumers will save almost all of any temporary increase in income that might be generated by a temporary increase in </span><span style="font-family: "Arial","sans-serif";">government spending</span><span style="font-family: "Arial","sans-serif";">.</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">In other words, we give everything we can to the Keynesian model. And we now give more. We suppose that there is zero 'leakage' arising from savings: that is, 100% of any extra income is consumed by households. And we assume zero leakage arising from imports: that is, </span><span style="font-family: "Arial","sans-serif";">0% of any extra income is spent by households on overseas sourced goods and services.</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">This is the model of the ultimate 'multiplier'. In such a model if the government spends another dollar (financed by debt) then that will generate 1/t dollars of extra GDP, where t = the fraction of an extra $ of GDP that will flow to the government in higher taxes.</span></div>
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<br /></div>
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<span style="font-family: "Arial","sans-serif";">So what is the extra revenue from this extra GDP? Some simple algebra gives us the answer:</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
<div class="MsoNormal" style="text-align: justify;">
<span style="font-family: "Arial","sans-serif";">t * 1/t </span><br />
<br />
<span style="font-family: "Arial","sans-serif";">And </span><span style="font-family: "Arial","sans-serif";">t * 1/t </span><span style="font-family: "Arial","sans-serif";"> equals 1.</span></div>
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<span style="font-family: "Arial","sans-serif";"><br /></span></div>
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<span style="font-family: "Arial","sans-serif";">Thus in this ultimate multiplier model one extra dollar in government spending will generate one extra dollar in revenue, exactly.</span><br />
<br />
<span style="font-family: "Arial","sans-serif";">The consequence is that the slightest movement away from the 'ultra' assumptions made above implies that </span><span style="font-family: "Arial","sans-serif";">one extra dollar in government spending will generate <u>less than</u> one extra dollar in revenue</span></div>
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<br /></div>
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<span style="font-family: "Arial","sans-serif";">So if we allow households to save even just a few cents of extra $ of income then the multiplier will be smaller than 1/t, and so </span><span style="font-family: "Arial","sans-serif";">one extra dollar in government spending will generate <u>less than</u> one extra dollar in revenues. </span></div>
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<br /></div>
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<span style="font-family: "Arial","sans-serif";">And if we allow households to spend even a few cents of extra income on imports, then the multiplier will be smaller than 1/t, and so </span><span style="font-family: "Arial","sans-serif";">one extra dollar in government spending will generate <u>less than</u> one extra dollar in revenues.</span></div>
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<br /></div>
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<span style="font-family: "Arial","sans-serif";">Conclusion: even in this extreme Keynesian universe, More is, alas, More. And Less is Less: less government spending, less deficit. </span></div>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-76792715891137471282012-03-14T08:39:00.000-07:002012-03-14T08:39:19.795-07:00<u><span style="font-size: large;">The 'In Fifth Year of Recession' Myth</span></u><br />
The media are full of the claim that Greece is now in its fifth year of recession. Started by various Greek finance officials, this canard has been picked up and credulously repeated by BusinessWeek and Reuters, and many others. In truth Greece has been in recession, as customarily measured, for 12 quaters, or three neat years.<br />
<br />
Greek real GDP (seasonally adjusted) grew until the fourth quarter of 2008. It fell again in the first quarter of 2009. Two succesively quarterly falls is usually deemed to constitute a recession. Thus Greece could be said to be in recession from the beginning of 2009.<br />
<br />
That is 3 years.<br />
<br />
(Data is sourced from http://stats.oecd.org/Index.aspx)<br />
William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0tag:blogger.com,1999:blog-1244469809486925413.post-20496343273917725902012-03-13T07:56:00.001-07:002012-03-13T07:56:21.539-07:00<span style="font-size: large;"><u>The New York Times Misreports 'the World's Largest Economies'</u>.</span><br />
<br />
<span style="font-size: small;">The March 12 2012 issue </span><span style="font-size: small;">of the <i>International Herald Tribune</i> (a digest of the <i>New York Times</i>)</span><span style="font-size: small;"> carried a table of 'key figures of the world's largest
economies'.</span><span style="font-size: small;"> (See the article entitled "World looks to U.S. consumers for rescue"). </span><br />
<br />
<span style="font-size: small;">But the table does not report </span><span style="font-size: small;">'the world's largest
economies'; not by conventional reckoning, or by its own choice of metric. </span><br />
<br />
<span style="font-size: small;">The table includes
Mexico and South Korea; with their $US GDPs
for 2010 correctly recorded (at 1034B and 1014B, respectively).<br />
<br />
But Spain hard a larger $US GDP than both these countries in 2010 (</span><span style="font-size: small;">1410B</span><span style="font-size: small;">).<br />
<br />
So did Australia (</span><span style="font-size: small;">1237B</span><span style="font-size: small;">).</span><br />
<br />
<span style="font-size: small;">And neither Spain or Australia make their table.</span><br />
<br />
<span style="font-size: small;">There is, plausibly, a commercial benefit to the NYT in ensuring Mexico gets 'air time' in its newspapers.It may also be that their business page readers have more interest in Korea than Australia; after all, US trade with South Korea in 2011 was $US44,505m, compared with only $US27,515m for Australia.</span><br />
<span style="font-size: small;"><br /></span><br />
<span style="font-size: small;">But the <i>Times</i> did not state it was reporting 'key figures of the world's economies of most interest to our readers (and advertisers)'. What it did state was incorrect, at least by its own criterion of 'largeness'. </span><br />
<span style="font-size: small;"><br /></span><br />
<span style="font-size: small;">For the record, the economies with the 15 largest GDPs in 2010, at current exchange rates and in </span><span style="font-size: small;">$US B</span><span style="font-size: small;">, are as follows:</span><br />
<br />
<br />
<table border="0" cellpadding="0" cellspacing="0" style="width: 128px;"><colgroup><col span="2" style="width: 48pt;" width="64"></col>
</colgroup><tbody>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt; width: 48pt;" width="64">Australia</td>
<td align="right" class="xl64" style="width: 48pt;" width="64">1,237.36</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Brazil</td>
<td align="right" class="xl64">2,090.31</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Canada</td>
<td align="right" class="xl64">1,577.04</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">China</td>
<td align="right" class="xl64">5,878.26</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">France</td>
<td align="right" class="xl64">2,562.74</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Germany</td>
<td align="right" class="xl64">3,286.45</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">India</td>
<td align="right" class="xl64">1,631.97</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Italy</td>
<td align="right" class="xl64">2,055.11</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Japan</td>
<td align="right" class="xl64">5,458.80</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Korea</td>
<td align="right" class="xl63">1,014.48</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Mexico</td>
<td align="right" class="xl63">1,034.31</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Russia</td>
<td align="right" class="xl64">1,479.83</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">Spain</td>
<td align="right" class="xl64">1,409.95</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">United Kingdom</td>
<td align="right" class="xl64">2,250.21</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td height="20" style="height: 15.0pt;">United States</td>
<td align="right" class="xl64">14,526.55</td>
</tr>
</tbody></table>
<br />
<span style="font-size: small;"></span><br />
<span style="font-size: small;"></span><br />
<span style="font-size: small;"></span><br />
<span style="font-size: small;"></span><br />
<span style="font-size: small;"></span><br />
<span style="font-size: small;"><br />
<br />
(All data is drawn from <a href="https://legacy.nexus.ox.ac.uk/OWA/redir.aspx?C=60d504f31a7a41fcbdc9a075b7fe77d8&URL=http%3a%2f%2fwww.imf.org%2fexternal%2fpubs%2fft%2fweo%2f2011%2f02%2fweodata%2fweoselgr.aspx" target="_blank">http://www.imf.org/external/pubs/ft/weo/2011/02/weodata/weoselgr.aspx</a>)</span>William O. Colemanhttp://www.blogger.com/profile/02510942444639949828noreply@blogger.com0