Most horrible correlation argument

The above is a graph that posted was by NY times for an article- SAT Scores and Family Income.
Key conclusion of the article-
"Generally speaking, the wealthier a student’s family is, the higher the SAT score."
This has sparked a debate between two of my favorite economists- Greg Mankiw and Paul Krugman.

This is straight from Mankiw's blog-
"In essence, what I said was
1. People vary in their innate talents, as measured by, say, IQ tests.

2. More talented people tend to earn higher incomes.

3. More talented people tend to have more talented biological children--that is, talent is partially heritable.

4. As a logical implication of the above three points, the raw correlation of kids' SAT scores and family income conflates the true effects of family income with the biological transmission of talent."
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Well, I cannot disagree more with Mr Mankiw because-
1. There is ample evidence in real life that suggests the opposite. Rich people have children who do not do well in examinations.
2. The argument is flawed in assuming that IQ is representative of the talent in a person. There are people who have become rich not because of the gift of intellectual endowment. There are several examples of people who did well just because of good management skills. I don't think IQ can be indicative of such things
3. The argument seems to suggest that children of rich people will do well in exams because their parent's are talented; it does not take into account the school conditions, factors such as intention of children to become intellectuals, etc. As an analogy- How,/When/Where the seeds of a rose plant are sowed determined the quality of the rose flower. If you plant the seeds in a desert and do not give any water, then the result is obvious.
4. I assume that the author of the original article will agree with the below statement:
"Transfer of money to dumb people will make the dumb people rich and hence intelligent"

WB loan for recapitalization of Public Banks

The World Bank and India have concluded negotiations for loans worth $3.2 billion for recapitalising state-run banks and funding for the India Infrastructure Finance Company Ltd.

The World Bank board would meet in September in Washington to approve a $2 billion loan for the recapitalisation of the state-owned banks and another $1.2 billion loan for the IIFCL. - Source: Economictimes
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Although, the intention to recapitalize the banks and spend on infrastructure is 100% right, I don't see any need for a loan from "The Bank" at this stage because-
1. In the middle of the crisis last year, the average CAR ratio of public banks was around 13%. I don't think that this ratio would have fallen drastically since then
2. Infrastructure spending is required right now. But, frankly we can't be throwing money at the problem. Effective investment strategies are required; we have spent enough. Govt should focus on following the money that it has already allocated for infrastructure and ensure that the money enters the system soon

Government spending- temporary energy injections

Here is Ken Worsely on Japanese spending-

GDP up on government spending
Despite the 0.9% rise in GDP over the April-June quarter, there remain some skeptics worried about how strongly Japan will be able to recover from multiple quarters of negative growth. The Nikkei published an article yesterday entitled “Jobs Weakness Could Slam Brakes On GDP Growth, Economists Fear“. The Nikkei puts it simply: “For Japan, the biggest challenge is whether the stimulus measures can create sufficient private-sector demand to trigger a self-sustaining economic recovery.” Of course, this is impossible, as stimulus measures are temporary and mainly serve to increase national debt. ...more
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I am a keynesian by heart, hence I place a lot of emphasis on government spending.
On the question of debt -
Yes, govt spending will increase the govt debt, but not necessarily the debt/GDP ratio. In the medium term the benefits of the govt spending will increase the GDP, as Ken has correctly pointed out. Hence, a case of increase in numerator and denominator

Temporary energy injections?
1970s was a time when monetarists had completely dumped Keynesian explanations and theories about recession. However, fortunately people today have realised how keynesian policies are necessary along with monetary policies. Almost every country has designed and implemented a govt spending program. I am not suggesting that govt spending is self sufficient for a quick recovery, I am just trying to suggest that govt spending could lead to sustainable recovery if effectively supplemented with monetary expansion policies (assuming that there is no structural problem in the economy)

More on Infrastructure in India...

Next decade will be of infra: Nath
Union Road Transport & Highways Minister Kamal Nath has kick-started his campaign in Singapore to woo foreign players to invest in the road sector in India.

Addressing the investors at ‘Building India: India Infrastructure Summit’ today, Nath said India’s next decade would be of infrastructure. He said infrastructure would be the defining sector for India in the coming decade as was information technology in the 1990s and the present decade.
Source: Business Standard
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Exactly what should be happening. Glad to see the commitment of the govt towards encouraging PPP in Infrasture. This is going to be the most important phase which will decide the course of the economy in the next couple of decades.

IIP still not going the right way

Story in Business Standard-
Chief Economic Adviser Arvind Virmani today said India's growth projections by international financial institutions are too low and asserted that industrial growth of 2.7 per cent in May is in line with the estimate of seven per cent this fiscal.
Industrial growth figure of 2.7 per cent in May is in line with seven per cent growth (plus-minus 0.75 per cent) for the current fiscal, projected by the Economic Survey with some riders, Virmani, the principal author of the pre-Budget document, said.
"Overall IIP growth is very much consistent and supportive of our projections...international financial institutions like World Bank and IMF are still way too low," Virmani said.
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Here is the picture of growth rate of IIP in the last 6 months-







Source: Indicus Analytics

Thanks to indicus for collecting all the data.

Clearly, the consumer demand has been driving the growth. The 2.7% growth in May is better than 1.4% in April.
But the real question is whether this is good enough.
I don't think so. An annual average of 7% might sound fine in this econopmic environment. But I don't think that we will be able to reach a two digit growth even in a boom period. This is a concern. The primary reason behind this gap is that India does not have the right infrastructure for efficient manufacturing. This is a fact that everyone realises.

The boost will come only when the govt creates the right infrastructure. Hence, I feel the massive spending that the govt has announced in the budget is a step in the right direction. These are policies aimed at achieving long term objectives. Thumbs
up to the UPA

Debt crisis in USA

Yes, there is talk about how the large debt is having an impact on policymaking in America.The U.S. debt currently stands at US$ 11.5 trillion. No joke

Why is this bad?
1. Future spending programs would be curtailed-The U.S. govt will be very handicapped in passing future spending programs through the senate. The amount of spending (over US$1 trillion) announced in the last 10 months or so have not showed results (mainly because very small percentage of it has been actually been spent till now). Obviously, it takes time for money to enter the system through this channel. However, the impatience of people could mean more pressure on govt to spend. But, the problem will be to convince the senators to support more packages. Several of them are already crying foul.

2. No more bail-outs- If the economy dips again, the govt may not be in a position to bail out anyone. This is good for free market economists but not necessarily for the politicians.

3. Credit rating of USA will become low
4. The pressure on interest rates will not ease quickly

Add to that the fear of a falling U.S. dollar. Everyone is aware of the potential of China and Japan to trigger about a dollar crisis by mass selling of treasury bonds.

This is a real crisis. Govt needs to do much more to tackle it. However, I still support most of the spending programs that had been initiated to tackle the on-going crisis.

The mystery behind the high savings rate

Here is an interesting article on New York times on high savings rate in China.
Why Do Chinese Save? Boys Want to Marry
The high Chinese savings rate has been one of the wonders of the world. The household savings rate, as a proportion of disposable income, is 30 percent, and has been rising rapidly in recent years. That figure is twice as high as the highest rate ever recorded in the United States....
Source: The New York Times

The article writes about a working paper written by two economists-Shang-Jin Wei of Columbia University and Xiaobo Zhang of the International Food Policy Research Institute. This working paper concludes that the primary reason for the high savings rate is the gender imbalance, where families of males save more parents want their sons to marry, and they figure that girls are more likely to want to marry rich boys.
India too has a savings rate of 28%. I don't see the evidence of above in India.
I understand cultural differences do explain differences in behaviour of individuals to an extent. However, I don't think we can term cultural differences as the primary driver for such an economic behaviour.

Savings rate, according to me, can be primarily explained by the following:
1. Uncertainty-
Income (through a job or through unemployment benefits)
Inflation

2. Less support from government-
No social cover
Health insurance
Pensions

Given that China and India are expected to grow at 8-11% in the next few years, it will be interesting to see whether the savings rate remains that high. I expect it to lower to around 20-25%.