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Does The Phillips Curve Dictate Inflation or is it Milton Friedman's Natural Rate of Unemployment?
How Planning Regulations Affect Housing Supply.
Here is what we will be getting into today:
Milton Friedman's Natural Rate of Unemployment and its Implications on The Phillips Curve & Monetary Policy.
The Importance of Planning Regulations for Responding to Market Demand and Creating More Dwellings.
The Changing Priorities of Young People in the SF Tech Industry.
Understanding Risk and Return: The Role of Volatility in Financial Markets.
Let's Dive In!
Newsletter: Economic Forces
Title: What Theory Does and Does Not Say: Lessons from the Phillips Curve.
Here are the key highlights:
The Phillips Curve is a statistical relationship between inflation and unemployment that has been studied extensively by economists. The relationship has changed over time due to changes in the supply and demand for gold under the gold standard and changes in policy when central banks began using the money supply to achieve desired policy outcomes.
Milton Friedman's introduction of the natural rate of unemployment changed the way economists thought about monetary policy. According to Friedman, there is a particular unemployment rate that is consistent with the structure of labor markets, and attempting to reduce unemployment below this rate will result in ever-increasing inflation. Friedman proposed that expansionary monetary policy could only bring down unemployment until it reaches its natural level. Any further attempts to decrease unemployment would result in higher inflation, making it counterproductive to target a particular level of employment.
Robert Lucas expanded on Friedman's theories by proposing that the effectiveness of expansionary policies depends on whether changes in the money supply are anticipated or unanticipated. Finn Kydland and Ed Prescott extended the insights of Milton Friedman and Robert Lucas by demonstrating that attempting to produce unexpected inflation in order to lower unemployment would be unsuccessful because people would recognize this incentive and expect the central bank to act accordingly.
These insights have two main implications for policymakers: whether a Phillips Curve will be evident in data depends on both policy and expectations about policy, and policymakers cannot simply manipulate a statistical relationship between two economic variables to generate a desired outcome; expectations matter.
Policymakers should understand these implications when considering how economic forces shape the Phillips Curve. By taking into account these implications, policymakers can ensure that their efforts are successful in achieving their desired goals. Creating an environment where wages adjust naturally is a more effective strategy than attempting to target a particular level of employment with monetary policy. A good policy takes into account both current economic conditions and expectations about future policy outcomes, rather than simply manipulating a statistical relationship between two economic variables.
Newsletter: Fresh Economic Thinking
Title: Housing confusions: Builders versus property owners and building versus planning approval.
Here are the key highlights:
Housing debates can often be confusing because they overlook key distinctions between building and planning approvals, as well as between builders and developers.
Builders are construction companies that erect buildings for clients who own the property where the building is to be built. Sometimes, builders enter into contracts with property developers of large subdivisions. These contracts give builders the right to facilitate sales of lots owned by the developer as part of a package, whereby the customer enters a land purchase contract with the developer and a building contract with the builder. It's important to note that builders cannot build a home without a property owner making that decision first. This means that new dwelling supply is ultimately driven by the financial incentives of property owners who want to maximize their total return on their property assets over time - not by builders who want to maximize housing construction turnover but can only do so subject to the decisions of property owners.
The incentives for both builders and property owners are different: while builders typically make about 10% margins on all costs, their business is less risky since they get progress payments as they go, thus limiting their capital exposure; meanwhile, property developers require margins of 20-30% and must raise a lot of funds to put at risk during projects. In other words, if prices fall or construction costs rise, they carry that risk - hence why they require higher margins than builders do.
This leads us back to an important point: how much new housing is built is not a choice made by builders but by property owners. This is why arguments which rely on the nature of the building and construction industry alone in order to understand competitive processes involved in new housing supply often fail - since only those who own property assets can choose whether or not to develop new homes (not builders).
When it comes to planning approvals there are two main types: reconfiguration of a lot, which occurs when you want to subdivide a lot horizontally or vertically, and material change of use, which happens when you want to change type of use for an existing building. In some cases you might need both types for your development application - along with approval for any necessary building work - while in others, like knock-down-rebuild projects on existing lots, you may need no planning approval at all. What's more, many planning approvals are granted only for them to later lapse or be modified.
The planning system in Australia plays a vital role in providing flexibility and allowing for complex applications that exceed zoning codes, which is often overlooked when it comes to housing supply. Many councils have a fast-tracked process for projects that comply with codes and are under a certain size, guaranteeing approval within 5 days. Online portals like Planning Alerts can help people keep track of applications made in their area. The planning system allows for rather complex applications to be made by property owners who wish to develop in a way that conflicts with the planning (zoning) codes, and it enacts a process to check that these outcomes are reasonable. This means that it is difficult to estimate things like zoned capacity or other ways of conceptualizing how strict the planning system is because the codes (zones) in plans are not hard limits.
An example of how the planning system can create more housing options is a recent application in South Brisbane where a property owner applied for a 25-storey apartment tower in an area with a zoning code allowing for 20 storeys. The property owner argued in their submitted report that an extra 5 storeys were reasonable given surrounding conditions, demonstrating the flexibility of the planning system. Therefore, it is essential to recognize the importance of planning regulations when it comes to creating more housing options and providing flexibility within our cities. The planning system should no longer be overlooked when discussing housing supply as it provides a valuable resource for creating more dwellings and responding quickly to changes in market demand.
Title: AI Techies!
Here are the key highlights:
The tech industry has changed drastically since the dot-com crash of 2000. Young people in tech are becoming more conservative and focused on making money. As well, the tech crash left many VCs with dry powder, which they are now investing into the AI space. As a result, young people with talents in AI are being showered with money and job opportunities.
Money has played an important role in shaping the culture of AI techies, with venture capital and incubator funding available to younger people more than ever before. This has shifted the rhetoric around artificial general intelligence (AGI), as people are more likely to talk about how AI can replace human jobs than discuss its potential for humanistic projects. However, what really drives this techie subculture is not money but rather a shared dream of being part of something special that places them at the center of where the future is being created.
On one hand, there is still a desire for freedom from traditional norms; on the other hand, there is an increasing focus on economic mobility and upward social class.
Newsletter: The Last Bear Standing
Title: Price-Risk Singularity.
Here are the key highlights:
Finance is based on the concept of risk and return, where high-risk investments offer higher returns to compensate for potential losses. Financial assets price risk into their products, and the risk-free rate acts as a benchmark in the bond market, while the CAPM adds an Equity Risk Premium to the risk-free rate in equity markets.
Volatility can be used to normalize prices and gain insights into the forces driving the market. By adjusting for constant levels of risk, we can see that the direction of the market has been consistently downwards during bear markets, implying deteriorating underlying return outlooks over time without changes in prices themselves.
Volatility normalization isolates changes in return expectations from fluctuations in risk adjustments, allowing investors to make informed decisions about managing their portfolios for maximum returns while minimizing risks. Equity markets are already risk-adjusted, with volatility becoming an integral part of the equity markets, particularly after events like Volmageddon and the COVID Crash, which drove up volatility levels.
Short-term investors should understand the importance of risk and volatility, while long-term investors should focus on volatility normalized prices to gain insight into underlying changes in return expectations. Post-pandemic markets have exhibited significantly higher levels of volatility, meaning that long-term investors may be wise to ignore price movements driven by this factor alone. Investors need to understand how different levels of volatility can impact the markets in terms of expected returns and risk-adjustment factors to make more informed investment decisions in volatile markets.
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