- "Threshold earners" and economic inequality - Andrew Gelman
- A code of ethics for law professors? - Erik Gerding
- Pinning down 'Obamanomics' - Ezra Klein
- Charity is never a substitute for public welfare - Peter Wilby
- A Prediction for 2011 - Jeffrey Miron
- A Big question... - History of Economics Playground
- ‘Grand Challenges’... - History of Economics Playground
- Unemployment Claims and Employment Growth - Paul Krugman
- naked capitalism - links
- Abnormal Returns - links
Friday, December 31, 2010
This is something I've been worried about:
Career Shift Often Means Drop in Living Standards, by Catherine Rampell, NYTimes: ...A new study of American workers displaced by the recession sheds light on the sacrifices a large number have made to find work. Many, it turns out, had to switch careers and significantly reduce their living standards. ...
The study, conducted ... at Rutgers, was based on a survey of Americans around the country who were unemployed as of August 2009... As of November 2010, only about one-third had found replacement jobs, either as full-time workers (26 percent) or as part-time workers not wanting a full-time job (8 percent).
And of those who successfully found work, 41 percent had switched into a new career or field. ... Nearly 7 in 10 of the survey’s respondents who took jobs in new fields say they had to take a cut in pay, compared with just 45 percent of workers who successfully found work in their original field.
Of all the newly re-employed..., 29 percent took a reduction in fringe benefits in their new job. Again, those switching careers had to sacrifice more...
Where Will the Good Jobs Come From?: I have emphasized short-run job creation quite a bit recently, and I have noted, implicitly at least, that we shouldn't be too picky about the quality of the jobs that are created. Most jobs will do.
But in the long-run the quality of jobs matters a lot, and when the private sector finally begins reabsorbing the unemployed, the underemployed, and the discouraged, we want people to be able to find jobs with decent wages and benefits -- jobs that are as good or better than the jobs they had before.
But where, exactly, will those jobs come from? I wish I had the answer.
Education is part of it, better education means better jobs on average, and it's easy to imagine a substantial fraction of the population benefiting from an educational advantage. So I won't back off prior calls to improve education at all levels.
But even if we substantially improve education, it won't fully solve the problem. There will still be a need for quality jobs that are not all that dependent upon knowledge based skills. However, it's harder to imagine an emerging set of industries that will provide the large number of quality jobs that we need to replace those lost from industries in decline.
If these jobs fail to be created in the next years and decades, the result will be an ever widening gap in the distribution of income with, as now, a group at the top doing relatively well, and everyone else treading water at best.
Republicans used to claim that tax cuts paid for themselves so that they could rail against the deficit and cut taxes at the same time. Though some in the GOP still resort to this defense of tax cuts, now that the "tax cuts pay for themselves" myth has been exposed, Republicans are turning to a new defense of simultaneously cutting taxes and giving "impassioned speeches denouncing federal red ink" that is every bit as flimsy as the old one:
The New Voodoo, by Paul Krugman, Commentary, NY Times: Hypocrisy never goes out of style, but, even so, 2010 was something special. For it was the year of budget doubletalk — the year of ... railing against deficits while doing everything they could to make those deficits bigger. ...
In the first half of 2010, impassioned speeches denouncing federal red ink were the G.O.P. norm. And concerns about the deficit were the stated reason for Republican opposition to extension of unemployment benefits, or for that matter any proposal to help Americans cope with economic hardship.
But the tone changed during the summer, as B-day — the day when the Bush tax breaks for the wealthy were scheduled to expire — began to approach. My nomination for headline of the year comes from the newspaper Roll Call, on July 18: “McConnell Blasts Deficit Spending, Urges Extension of Tax Cuts.”
How did Republican leaders reconcile their purported deep concern about budget deficits with their advocacy of large tax cuts? Was it that old voodoo economics — the belief, refuted by study after study, that tax cuts pay for themselves — making a comeback? No, it was something new and worse. ...
2010 marked the emergence of a new, even more profound level of magical thinking: the belief that deficits created by tax cuts just don’t matter. For example, Senator Jon Kyl of Arizona — who had denounced President Obama for running deficits — declared that “you should never have to offset the cost of a deliberate decision to reduce tax rates on Americans.”
It’s an easy position to ridicule. After all, if you never have to offset the cost of tax cuts, why not just eliminate taxes altogether? But the joke’s on us because ... the incoming House majority plans to make changes in the “pay-as-you-go” rules ... that effectively implement Mr. Kyl’s principle. Spending increases will have to be offset, but revenue losses from tax cuts won’t. Oh, and ... any spending increase must be offset by spending cuts elsewhere; it can’t be paid for with additional taxes.
So if taxes don’t matter, does the incoming majority have a realistic plan to cut spending? Of course not. Republicans say that ... defense, Medicare and Social Security — all the big-ticket items — are off the table. So they’re talking about a 20 percent cut in what’s left, which includes things like running the judicial system and operating the Centers for Disease Control and Prevention; they have offered no specifics about where the cuts will fall.
How will this all end? I have seen the future, and it’s on Long Island, where I grew up.
Nassau County — the part of Long Island that directly abuts New York City — is one of the wealthiest counties in America and has an unemployment rate well below the national average. So it should be weathering the economic storm better than most places.
But a year ago, in one of the first major Tea Party victories, the county elected a new executive who railed against budget deficits and promised both to cut taxes and to balance the budget. The tax cuts happened; the promised spending cuts didn’t. And now the county is in fiscal crisis. ...
Nassau County shows how easily responsible government can collapse in this country, now that one of our major parties believes in budget magic. All it takes is disgruntled voters who don’t know what’s at stake — and we have plenty of those. Banana republic, here we come.
Thursday, December 30, 2010
Once again, Menzie Chinn finds that an analysis from Casey Mulligan does not hold up to closer scrutiny:
Hazards in Interpreting Seasonals, by Menzie Chinn: Professor Casey Mulligan has an interesting post, in which he observes that while retail sales are about 15-20% higher in December than in the previous three months, retail employment is only about 4% higher in December than October, thus proving that fiscal stimulus cannot be very effective at raising employment. ...
Professor Mulligan's calculation is essentially a one observation regression of the change nominal retail sales on change in retail employment. ... But I think this ... is irrelevant. First, the employment that is relevant is the total employment associated with Christmas-goods production and distribution (in addition to retail employment). Second, the activity variable that is relevant is not sales, but US related value-added. So not:
The value of retail sales incorporates the value added from retail services, plus the value imbedded in the goods themselves. Those goods were produced over the entire year (i.e., not all Christmas ornaments are made in December). The counter-objection could be that Christmas ornaments aren't typically made in the US. But then I know that at least some of the gifts are American made (after all, Wisconsin cheese makes a fine holiday gift! And most of the gifts I received were American made). That relates to the value added component. Thus, the relevant numerator is smaller, and the relevant denominator bigger, implying the relevant ratio is smaller than Professor Mulligan purports. ...
There are many valid approaches to critiquing the idea of fiscal stimulus efficacy (e.g., CBO (Nov. 2010). This is not one of them. ...
By the way, this article highlights the hazards of over-interpreting seasonal effects. The canonical example occurred forty years ago, when Arthur Laffer interpreted the seasonal correlation of GDP and money as a causal relationship  (critique here). (This episode is not written down in any textbook as far as I know, but is passed down by word-of-mouth as a cautionary tale.)
Menzie also points to this statement from Mulligan:
...the fiscal-stimulus act depresses supply, because many of its major programs -- the unemployment-insurance extension, the food-stamp program expansion, the home buyer tax credit and more -- are directed at people with low incomes.
In other words, the less you work and earn, the larger your entitlement to various components of the act. By reducing supply as it increases demand, the fiscal-stimulus act could well reduce total employment...
According to this view of the world, a big part of our economic and employment problem right now is that "people with low incomes" would rather live on unemployment insurance and food stamps than work. It's not the lack of jobs that is the problem, it's the fact that people won't take jobs that aren't there.
It would be silly to say that nobody ever exploits the existence of a government program, of course that happens (but that doesn't mean the costs of these programs exceed the benefits, i.e. the mere existence of a cost is not enough to conclude that a program should be discontinued, it's the net benefits that matter). However, to attribute the major part of our employment problem to this behavior flies in the face of the available evidence on hiring behavior by firms relative to the number of people seeking jobs. There simply aren't enough jobs to go around, and we have not been creating jobs at a fast enough pace to keep up with population growth, let alone reabsorb the millions of workers who have lost their jobs during the recession.
Our problems did not arise with "people with low incomes," though there seems to be a concerted effort to place the blame on this segment of society (e.g., see the claims from conservatives that the CRA caused the crisis, claims that have been thoroughly rebutted but persist nonetheless). To find those who are actually to blame, looking a bit further up in the income distribution -- somewhere up near the very top -- would be more fruitful.
At CBS MoneyWatch, a reaction to today's news on initial claims for unemployment insurance:
Update: I should add the cautionary note that seasonal adjustment procedures can be misleading near holidays, so the good news in the report comes with lots of uncertainty.
Noam Scheiber defends Gene Sperling as "a leading candidate or the leading candidate to replace Larry Summers as head of Obama’s NEC":
Is the Favorite to Replace Larry Summers Too Close To Wall Street?, by Noam Scheiber, TNR: ...Gene Sperling, a counselor to Secretary Tim Geithner,... was director of Bill Clinton’s National Economic Council (NEC) in the late ‘90s, a period when the White House got pretty good marks for its understanding of business and the broader economy. But ... Sperling often speaks up for the little guy in internal deliberations—he was one of the administration wonks most concerned about executive pay, and he argued passionately for saving Chrysler...
Sperling’s record has suddenly become highly relevant because, depending on who you talk to, he’s either a leading candidate or the leading candidate to replace Larry Summers as head of Obama’s NEC. In light of the forgoing, you might also think he’d be a liberal favorite for the job. But Sperling has recently taken some lumps in the Huffington Post for his alleged sympathy for bankers and his ties to former Clinton Treasury Secretary Robert Rubin. ...
Sperling was NEC director when the Clinton administration ushered in some unfortunate deregulatory changes, pretty much every account I’ve either read or heard from people involved confirms that ... Sperling was a marginal player at best. ...
What about his instincts when he did work on issues of interest to Wall Street? ... Sperling turns out to be the Treasury official who was most influential in helping persuade Geithner to embrace a fee on large financial firms to make the government whole after TARP, the vehicle for its various bailouts. The president unveiled the 10-year, $90 billion fee in January of 2010. Wall Street promptly howled. ...
Long story short: This hardly strikes me as the profile of a man out to do the banks’ bidding. Sperling may not be the kind of populist who makes the average HuffPo reader swoon. But I doubt his record as a policymaker inspires much chuckling on Wall Street.
I still think a break from the Wall Street connected side of the Clinton administration would have political value. Even better, no matter the choice, would be to show through action that the administration is, in fact, determined to reduce the chances of another meltdown by being tough on the financial sector. But, so far as I can tell, that doesn't seem to be the direction Obama intends to go.
Ed Glaeser makes the case for cities:
America’s revival begins in its cities, by Edward L. Glaeser, Commentary, Boston Globe: ...America’s 12 largest metropolitan areas collectively produced 37 percent of the country’s output in 2008, the last year with available data. ...
During the 1980s, we looked at Japan and saw an economy that seemed to be surpassing our own. Today, we watch with unease as China surges. Yet American decline is not inevitable. During the 25 years after 1982, our real gross domestic product increased by 3.3 percent per year... Our post-1982 growth involved massive economic restructuring. Manufacturing employment fell by 39 percent from its peak ... in 1979. The 1979-2009 manufacturing decline was more than offset by the 126 percent increase in employment in “professional and business services” and the 184 percent increase in education and health jobs. ...
To succeed in the future, the country needs to produce a stream of new ideas, like personal computers, Facebook, and steerable catheters. We must produce goods and services innovative enough to command the high prices needed to cover high labor costs. Such breakthroughs rarely come from solitary geniuses. ...
Cities have long enabled economic creativity. ... The urban edge in engendering innovation explains why globalization and technology have made cities more, not less, important. The returns to being smart have increased, and humans get smart by being around smart people in cities. ...
For decades, the American dream has meant white picket fences and endless suburbs. But the ideas created in dense metropolitan areas power American productivity. We should reduce the pro-homeownership bias of housing policies, such as the home mortgage interest deduction, which subsidize suburban sprawl and penalize cities. We should rethink infrastructure policies that encourage Americans to move to lower-density environments. Most importantly, we should invest and innovate more in education, because human capital is the ultimate source of both urban and national strength.
As we grope towards a brighter future, we must embrace our cities, and invest in the skills that are central to their success.
See also Daniel Little: Thinking Cities Darkly:
...Cities capture much of what we mean by "modern," and have done so since Walter Benjamin's writings on Paris (link). But unlike the eighteenth or nineteenth centuries, much of our imagining of cities since the early twentieth century has been dark and foreboding. A recent volume edited by Gyan Prakash, Noir Urbanisms: Dystopic Images of the Modern City, offers a collection of recent work in cultural studies that attempts to decode some of this dark imagery. ...
Prakash's excellent introduction begins with these observations:As the world becomes increasingly urban, dire predictions of an impending crisis have reached a feverish pitch. Alarming statistics on the huge and unsustainable gap between the rates of urbanization and economic growth in the global South is seen to spell disaster. The unprecedented agglomeration of the poor produces the specter of an unremittingly bleak "planet of slums." Monstrous megacities do not promise the pleasures of urbanity but the misery and strife of the Hobbesian jungle. The medieval maxim that the city air makes you free appears quaint in view of the visions of an approaching urban anarchy. Urbanists write about fortified "privatopias" erected by the privileged tow all themselves off from the imagined resentment and violence of the multitude. Instead of freedom, the unprecedented urbanization of poverty seems to promise only division and conflict. The image of the modern city as a distinct and bounded entity lies shattered as market-led globalization and media saturation dissolve boundaries between town and countryside, center and periphery. From the ruins of the old ideal of the city as a space of urban citizens there emerges, sphinx-like, a "Generic City" of urban consumers.
As important as it is to assess the substance of these readings of contemporary trends in urbanization, it is equally necessary to examine their dark form as a mode of urban representation. This form is not new. Since the turn of the twentieth century, dystopic images have figured prominently in literary, cinematic, and sociological representations of the modern city. In these portrayals, the city often appears as dark, insurgent (or forced into total obedience), dysfunctional (or forced into machine-like functioning), engulfed by ecological and social crises, seduced by capitalist consumption, paralyzed by crime, wars, class, gender, and racial conflicts, and subjected to excessive technological and technocratic control What characterizes such representations is not just their bleak mood but also their mode of interpretation, which ratchets up a critical reading of specific historical conditions to diagnose crisis and catastrophe.
All the essays are interesting and insightful...
Wednesday, December 29, 2010
The members of the Pain Caucus see things differently when they will be the ones blamed for the pain (which tells us something about how all those calls for deficit reduction from the GOP are likely to turn out). House Republicans, who now have responsibility for the oversight of Fannie and Freddie, have decided that dismantling Fannie Mae and Freddie Mac isn't so urgent after all:
Earlier this year, leading House Republicans proposed to privatize mortgage giants Fannie Mae and Freddie Mac or place them in receivership starting in two years.
Now, as Republicans prepare to assume control of the House next week, they aren't in as big a rush, cautioning that withdrawing government support in the housing market should be gradual.
"We recognize that some things can be done overnight and other things can't be," said Rep. Scott Garrett (R., N.J.), incoming chairman of the House Financial Services subcommittee, which oversees Fannie and Freddie. "You have to recognize what the impact would be on the fragile housing market as it stands right now."
I actually don't think the mortgage market will ever be truly a private sector enterprise. Suppose Fannie and Freddie were to go away: the most likely entities to step into the residential finance market would be banks. Would this be privatization? Not really. Banks receive explicit guarantees (FDIC) and, as we know from recent events, implicit guarantees as well (TARP was nothing if not the execution of an implicit Federal guarantee).
The conservative complaint about Fannie and Freddie is that they privatized profit while socializing risk. This is doubtless true. I just don't see how it is any less true for banks.
Brad DeLong argues that "the first principle of macroeconomic policy is that because only the government can create the investment-grade financial assets that are in short supply in a depression, it is the government’s task to do so." He then asks, "How well have the world’s governments performed this task over the past three years?":
A Time to Spend, by J. Bradford DeLong, Commentary, Project Syndicate: The central insight of macroeconomics is a fact that was known to John Stuart Mill in the first third of the nineteenth century: there can be a large gap between supply and demand for pretty much all currently produced goods and services and types of labor if there is an equally large excess demand for financial assets. And this fundamental fact is a source of big trouble.
A normal gap between supply and demand for some subset of currently produced commodities is not a serious problem, because it is balanced by excess demand for other currently produced commodities. ... The economy rapidly rebalances itself... By contrast, a gap between supply and demand when the corresponding excess demand is for financial assets is a recipe for economic meltdown. ... Thus, because only the government can create the investment-grade financial assets that are in short supply in a depression, it is the government’s task to do so. ...
How well have the world’s governments performed this task over the past three years? In East Asia (minus Japan), governments appear to have been doing rather well. ... In North America, governments appear to have muddled through. They have not provided enough bank guarantees, forced enough mortgage renegotiations, increased spending enough ... to ... and facilitate a rapid return to full employment. But unemployment has not climbed far above 10%, either.
The most serious problems right now are in Europe. Uncertainty about how, exactly, the liabilities of highly leveraged banks and over-leveraged peripheral governments are to be guaranteed is shrinking the supply of safe savings vehicles at a time when macroeconomic rebalancing calls for it to be rising. And the rapid reductions in budget deficits that European governments are now pledged to undertake can only increase the likelihood of a full double-dip recession.
The broad pattern is clear: the more that governments have worried about enabling future moral hazard by excessive bailouts and sought to stem the rise in public debt, the worse their countries’ economies have performed. The more that they have focused on policies to put people back to work in the short run, the better their economies have done. ...
Tuesday, December 28, 2010
Curiously Weak Consumer Confidence, by Tim Duy: There was a bit of angst regarding yesterday's Conference Board consumer confidence report. See, for example, Mark Thoma and Brad DeLong. The report appears to contradict the generally positive Univ. of Michigan report - still weak compared to pre-recession, but at least moving in the right direction. More interestingly, it is at odds with recent consumer spending reports, not just early reports of the best Christmas season (in terms of year-over-year gains) since 2005, but also the most recent trends in personal consumption expenditures.
Something is off-kilter, and has been since mid-year. Consumer confidence appears too low relative to actual consumption. Either confidence should be moving higher, as the Univ. of Michigan survey suggests, or consumption needs to slow dramatically. Place your bets.
Consider the recent trends in real consumer spending (percentage change are log difference approximations):
To be sure, the trend since the recovery began is decidedly lower than the pre-recession trend. But this trend hides a recent acceleration. Average monthly growth for 2010 to date is 0.2%, but for the most recent three months (Sept.-Nov.), the rate accelerates to 0.35%, well above the pre-recession trend and, dare I say it, something much more like the kind of "catch-up" we would be hoping to see - or would have been hoping to see earlier in the recovery. The pessimist in me, however, tends to think this acceleration is not entirely sustainable. Pessimism aside, this kind of growth has driven a nontrivial acceleration in the year-over-year figures:
Now, compare year-over-year consumption growth with consumer confidence (UMich., because I have those charts on hand):
Note the divergence beginning in July of last year - confidence tumbles, and stays low despite growing real consumption. To be sure, this is a noisy relationship, but it appears the last five readings are anomalous. Consider a scatterplot and simple linear regression:
Now isolate the five most recent observations:
They are all consistently above the fitted regression line, and the one-sided nature of the error is sufficient to slightly lift the R-squared of the regression. Also note that the most recent reading, with UMich. confidence rising to 71.6, is a movement in the "right" direction, toward the fitted line.
But here comes the hard part - a movement in the "right" direction could also occur if consumption growth slowed, pushing the year-over-year figures to the 0.5-1.0 percent range. The expected policy path will obviously depend on which "right" move occurs. If confidence rises to match spending, expect the Fed to draw large scale asset purchases to a close when the current program expires. Also expect that the Administration will feel more confident to give the go-ahead to spending consolidation. Expect the opposite if spending growth falls to match confidence.
The reasons to expect more tempered spending growth in the months ahead are well known at this point. Weak job growth, need to rebuild wealth and/or the flip side of need to reduce debt loads, the related weak housing market (also angst over the Case-Shiller numbers yesterday, but I will try to address that tomorrow night), impending retirement needs, threat of zombie apocalypse, etc.). A seemingly endless list of pessimism, to be sure. And well justified pessimism at that. Still, all of these factors have been in play for the past year, yet consumer spending accelerates as if households are in blissful ignorance. Perhaps they are.
Ignorance aside, I think the acceleration needs an explanation of some sorts. Throwing out some ideas, first note that household balance sheets are in a better position, at least measured by the debt servicing costs:
Also, saving rates are well above pre-recession lows:
Consumption can be supported by taking savings rates back down to zero, or close to it. To be sure, you can respond angrily that consumers desperately need to rebuild their asset base, that policies such as ZIRP that encourage spending simply kick the can down the road, etc. And these things might be true. But, in the near term, one cannot deny the potential for consumer spending support via a falling saving rate. This is especially important given occasional concerns about rising oil prices. When the last oil shock hit in 2006-7, saving rates were hovering around 2%, not much cushion to absorb the shock. At least at 5.3% consumers have a little more wiggle room.
Finally, real income less transfer payments are on the rise:
Yes, yes, yes, well below pre-recession peaks and trends. But the direction is decidedly positive, and provides support for accelerated spending. And it provides some cushion as the 99er's fall off the insurance rolls.
Bottom line: Consumer confidence figures appear inconsistent with actual spending patterns. That inconsistency will be resolved by either confidence rising or falling spending growth, with more or less obvious policy implications. There will be a tendency to assume the resolution will come from decelerating spending growth. To be sure, the recent trend appears unsustainable. But I also think it is worth paying attention to the more positive household spending data.
Robert Reich has a prediction:
New Years Prediction (I): The Tea Party Conservative Strategy for 2011, by Robert Reich: Next week starts the new Congress, and with it the Tea Party conservatives. What’s their strategy? What will they rally around?
They’ll grouse endlessly about government spending but I don’t think they’ll use any particular spending bill to mobilize and energize their grass roots. The big bucks are in Social Security, Medicare, and defense, which are too popular. And their support for a permanent extension of the Bush tax cuts will make a mockery of any argument about taming the deficit.
Nor will they focus on the debt ceiling. Their opposition to raising it will generate a one-day story... Most Americans aren’t particularly interested in the debt ceiling, don’t know what it means, and don’t feel affected by it.
Instead, I expect their rallying cry will be about the mandatory purchase of health care built into the new healthcare law. The mandate is the least popular, and least understood, aspect of that law. Yet it’s the lynchpin. Without it, much of the rest of the law falls apart: It’s impossible to cover all high-risk Americans, including those with pre-existing conditions, unless those at far lower risk are required to buy insurance.
Knowing they don’t stand a chance of getting a direct repeal of the mandate..., they’ll try to strip the federal budget appropriation of money needed to put the mandate into effect. This could lead to a standoff with the White House over government funding in general, and a possible government shutdown.
My betting is Tea Party conservatives wouldn’t mind a government shutdown over the healthcare mandate. Unlike Bill Clinton’s showdown with Newt Gingrich, which hurt the conservative cause, Tea Partiers believe this one could be helpful. ...
Advice to Obama White House: Get ready.
My worry, or one of them anyway, is that despite Reich's assurances to the contrary, the big story will be Social Security.
[I just posted this at CBS MoneyWatch:]
I have been pretty pessimistic about the speed of the recovery. The worry is not about a double dip -- I think the probability of that happening is pretty low. But I have been worried about an "agonizingly slow recovery," particularly for employment, one that is measured in years rather than months.
However, recent news such as the rise in long-term interest rates, which appears to be due to the expectation of a better economy ahead, along with better than expected Christmas sales, changes in the yield curve, falling jobless claims, increased consumer spending, and other signs of an improving economy had me thinking that I may need to reassess my pessimism. Perhaps the recovery will still be drawn out, but not quite as slow as expected. That would be good news.
But two pieces of data released today have me moving back toward the more pessimistic outlook. Consumer confidence is down, and house prices are still falling. The fact that the fall in consumer confidence seems to be related to a fall in job market prospects adds to the worries. Overall, recent data has been mixed with some encouraging signs coupled with signs that we still face significant hurdles.
So where does that leave us? I can't help but hope that despite today's data and other negative signs the economy will do better than I expect. But policymakers must recognize that we do not yet have the all clear sign, the economy will likely still need help to recover. Thus, although further stimulus is off the table after the tax deal, policymakers must resist the temptation to ignore negative data and to focus instead on the data pointing to a faster recovery than expected as an excuse to cut the deficit (and hence the stimulus) before the economy is ready to stand on its own. As I said recently in response to a question at The Economist, cutting the deficit too soon could cause big problems:
... If Congress had credibility, there would be no need to worry about the trade-off between helping the economy escape the recession and reducing the deficit. Congress could do what is needed to help the economy now, and promise—credibly with specific plans—to reduce the deficit once the economy has recovered. That would give us the best of both worlds.
But, unfortunately, that's not the Congress we have, credibility is not its strong suit, and legislators seem determined to demonstrate their intent with actions now rather than a commitment to take this up when the economy is stronger. This will place additional drag on an already slow recovery...
So let's hope we can at least realize the promise of gridlock and maintain the status quo until the economy is on better footing. ...
Will talk of deficit reduction turn to action before the economy is ready for it? Unfortunately, I don't think we can rule that out, but the worry may not be as large as one might presume from media reports on the GOP's deficit fighting intentions. As the CBPP reports, House Republican Rule Changes Pave the Way For Major Deficit-Increasing Tax Cuts, Despite Anti-Deficit Rhetoric. So it appears that the deficit reduction rhetoric may be an excuse to cut spending on programs the GOP does not like, e.g. cuts to social insurance programs, rather than an actual intent to cut the deficit. However, we need more spending on social programs not less -- insecurity is growing in our increasingly global economy -- and tax cuts accompanied by cuts to social services would be going in the wrong direction.
Monday, December 27, 2010
Keynes on the "Psychology of Society," by Richard Green: ...The ... Economic Consequences of the Peace ... has a section early on that really struck me:
Europe was so organized socially and economically as to secure the maximum accumulation of capital. While there were some continuous improvements in the daily conditions of life of the mass of the population, Society was so framed to throw a great part of the increased income into the control of the class least likely to consume it. The new rich of the 19th century were not brought up to large expenditures, and preferred the power which investment gave them to the pleasures of immediate consumption. In fact, it was precisely the inequality of the distribution of wealth which made possible those vast accumulations of fixed wealth and of capital improvements which distinguished that age from all others. Herein lay, in fact, the main justification of the Capitalist System. If the rich had spent their new wealth on their own enjoyments, the world long ago would have found such a regime intolerable. But like bees they saved and accumulated, not less to the advantage of the whole community because they themselves held narrower ends in prospect.
The immense accumulations of fixed capital which, to the great benefit of mankind, were built up during the half century before the war [WWI], could never have come about in a Society where wealth was divided equitably. The railways of the world, which that age built as a monument to posterity, were, not less than the Pyramids of Eqypt, the work of labor which was not free to consume in immediate enjoyment the full equivalent of its efforts.
Thus this remarkable system depended for its growth on a double bluff or deception. On the one hand the laboring classes accepted from ignorance or powerlessness, or were compelled, perusade or cajoled by custom, convention, authority, and the well-established order of Society into accepting a situation in which they could call their own very little of the cake that they and Nature and the capitalists were co-operating to produce. And on the other hand the capitalist classes were allowed to call the best part of the cake theirs and were theoretically free to consume it, on the tacit underlying condition that they consumed very little of it in practice.
Jeff Sachs says the "level of political corruption in America is staggering," and that "powerful forces, many of which operate anonymously under US law, are working relentlessly to defend those at the top of the income distribution. ... The Republican Party’s real game is to try to lock that income and wealth advantage into place." However, while the "rich will try to push such an agenda,... ultimately they will fail":
America’s Political Class Struggle. by Jeffrey D. Sachs, Commentary, Project Syndicate: ...This month’s deal ... to extend the tax cuts initiated a decade ago by President George W. Bush is being hailed as the start of a new bipartisan consensus. I believe, instead, that it is a false truce...
Since Ronald Reagan became President in 1981, America’s budget system has been geared to supporting the accumulation of vast wealth at the top of the income distribution. Amazingly, the ... annual income of the richest 12,000 households is greater than that of the poorest 24 million households.
The Republican Party’s real game is to try to lock that income and wealth advantage into place. They fear, rightly, that sooner or later everyone else will begin demanding that the budget deficit be closed in part by raising taxes on the rich. ... The Republicans are out to prevent that by any means. ... Their leaders in Congress are already declaring that they will slash public spending in order to begin reducing the deficit. ...
For the moment, most Americans seem to be going along with Republican arguments that it is better to close the budget deficit through spending cuts rather than tax increases. Yet when the actual budget proposals are made, there will be a growing backlash. ...
The problem for the rich is that, other than military spending, there is no place to cut the budget other than in areas of core support for the poor and working class. Is America really going to cut health benefits and retirement income? Will it really balance the budget by slashing education spending...? Will America really let its public infrastructure continue to deteriorate? The rich will try to push such an agenda, but ultimately they will fail.
Obama swept to power on the promise of change. So far there has been none. His administration is filled with Wall Street bankers. His top officials leave to join the banks... He is always ready to serve the interests of the rich and powerful, with no line in the sand, no limit to “compromise.”
If this continues, a third party will emerge, committed to cleaning up American politics and restoring a measure of decency and fairness. This ... will take time. The political system is deeply skewed against challenges to the two incumbent parties. Yet the time for change will come. The Republicans believe that they have the upper hand and can pervert the system further in favor of the rich. I believe that they will be proved wrong.
I agree that there is a growing sense that neither party represents the interests of the middle class, but I'm not sure that a third party -- which could split Democrats and increase the power of the GOP -- is the best answer to this. I'd prefer that we break the lock that big money has on the political process, and then rely upon the natural evolution of a Democratic Party that is not as beholden to big money interests. But the chances of reducing the influence of wealth on the political process are disappointingly dim, and even a third party would eventually be captured by the same forces.
It's not always about us:
The Finite World, by Paul Krugman. Commentary, NY Times: Oil is back above $90 a barrel. Copper and cotton have hit record highs. Wheat and corn prices are way up. Over all, world commodity prices have risen by a quarter in the past six months. So what’s the meaning of this surge?
Is it speculation run amok? Is it the result of excessive money creation, a harbinger of runaway inflation just around the corner? No and no.
What the commodity markets are telling us is that we’re living in a finite world,... the rapid growth of emerging economies is placing pressure on limited supplies of raw materials, pushing up their prices. And America is, for the most part, just a bystander in this story. ...
This doesn’t necessarily ... reject the notion that speculation is playing some role... But the fact that world economic recovery has also brought a recovery in commodity prices strongly suggests that recent price fluctuations mainly reflect fundamental factors.
What about commodity prices as a harbinger of inflation? Many commentators on the right have been predicting for years that the Federal Reserve ... is setting us up for severe inflation. ... Yet inflation has remained low. What’s an inflation worrier to do?
One response has been a proliferation of conspiracy theories, of claims that the government is suppressing the truth about rising prices. But lately many on the right have seized on rising commodity prices as proof that they were right all along, as a sign of high overall inflation just around the corner.
You do have to wonder what these people were thinking two years ago, when raw material prices were plunging. If the commodity-price rise of the past six months heralds runaway inflation, why didn’t the 50 percent decline in the second half of 2008 herald runaway deflation?
Inconsistency aside, however, the big problem with those blaming the Fed ... is that ... commodity prices are set globally, and what America does just isn’t that important a factor.
In particular,... the primary driving force behind rising commodity prices isn’t demand from the United States. It’s demand from China and other emerging economies. As more and more people in formerly poor nations are entering the global middle class, they’re beginning to drive cars and eat meat, placing growing pressure on world oil and food supplies.
And those supplies aren’t keeping pace. Conventional oil production has been flat for four years; in that sense, at least, peak oil has arrived. ... Also, over the past year, extreme weather ... played an important role in driving up food prices. And, yes, there’s every reason to believe that climate change is making such weather episodes more common.
So what are the implications of the recent rise in commodity prices? It is, as I said, a sign that we’re living in a finite world, one in which resource constraints are becoming increasingly binding. This won’t bring an end to economic growth, let alone a descent into Mad Max-style collapse. It will require that we gradually change the way we live, adapting our economy and our lifestyles to the reality of more expensive resources.
But that’s for the future. Right now, rising commodity prices are basically the result of global recovery. They have no bearing, one way or another, on U.S. monetary policy. For this is a global story; at a fundamental level, it’s not about us.
Sunday, December 26, 2010
Jim Hamilton reviews recent changes in the yield curve and concludes that:
...One goal of the Fed's second round of quantitative easing begun at the start of November was to flatten the yield curve. That obviously didn't happen, and I discussed some of the reasons why a few weeks ago. A second goal was to increase inflationary expectations, which was achieved.
Even so, all we've done is moved back to about where we were a year ago. And a year ago, if you recall, things really weren't that great.
But at least now we're moving in the right direction.
Saturday, December 25, 2010
Robert Shiller argues that the balanced budget multiplier can help us solve our problems:
Stimulus, Without More Debt, by Robert Shiller, Commentary, NY Times: The $858 billion tax package signed into law this month provides some stimulus for our ailing economy. With the unemployment rate at 9.8 percent, more will certainly be needed, yet further deficit spending may not be a politically viable option.Instead, we are likely to see a big fight over raising the national debt ceiling, and a push to reverse the stimulus we already have.
In that context, here’s some good news extracted from economic theory: We don’t need to go deeper into debt to stimulate the economy more..., a concept known as the “balanced-budget multiplier theorem” states that national income is raised, dollar for dollar, with any increase in government expenditure on goods and services that is matched by a tax increase.
The reasoning is very simple: On average, people’s pretax incomes rise because of the business directly generated by the new government expenditures. If the income increase is equal to the tax increase, people have the same disposable income before and after. So there is no reason for people, taken as a group, to change their economic behavior. But the national income has increased by the amount of government expenditure, and job opportunities have increased in proportion. ...
John Maynard Keynes ... liked to emphasize that the deficit-spending multiplier was greater than 1, because the income generated by deficit spending also induces second and third rounds of expenditure. ... In contrast, the balanced-budget multiplier theory says that there are no extra rounds of expenditure... — meaning that the multiplier is 1.0 — but sometimes that is enough. ... People have jobs again: end of story. What kind of jobs? Building highways and improving our schools are just two examples...
At present, however, political problems could make it hard to use the balanced-budget multiplier to reduce unemployment. People are bound to notice that the benefits of the plan go disproportionately to the minority who are unemployed, while most of the costs are borne by the majority who are working. ... Another problem is that pursuing balanced-budget stimulus requires raising taxes. And, as we all know, today’s voters are extremely sensitive to the very words “tax increase.”
But... It’s conceivable that an effective case will be made in the future for a new stimulus package, if more people come to understand that a few years of higher taxes and government expenditures could fix our weak economy and provide benefits like better highways and schools — without increasing the national debt.
This is a second best solution that combines a large negative shock with a large positive shock to produce, on net, a much smaller positive impact on the economy. It would be better to have the large positive shock, i.e. stimulus, now while the economy is struggling to recover, and save the negative shock for a time when the economy is overheated and a negative shock is the policy that is needed. However, since Congress has very little credibility, there is no guarantee that a positive shock now will be offset later through tax increases or spending reductions. In fact there's reason to believe that Congress will not be inclined to pay for the spending when it's time to do so -- raising taxes and cutting spending is unpopular even in the best of times. Thus, because Congress cannot be trusted to do the right thing in the future, we are stuck with suggestions such as above that compress the spending and the means to pay for it into a single time period. This overcomes the problem of future Congresses not abiding by promises that are made now. But it comes at the cost of much less effective stimulus measures either because we adopt balanced budget approaches such as suggested above, or because spending measures are less aggressive than needed due to fear that it will create budget problems down the road.
The Naughty/Nice Ledger, by Jeff Ely: It sounds so simple: you’re nice you make the list, you’re naughty you get a stocking full of coal. But just how much of the year do you have to be nice?
It would indeed be simple if Santa could observe perfectly your naughty/nice intentions. Then he could use the grim ledger: you make the list if and only if you are nice all 365 days of the year. But it’s an imperfect world. Even the best intentions go awry. Try as you may to be nice there’s always the chance that you come off looking naughty due to misunderstandings or circumstances beyond your control. Just ask Rod Blagojevich.
And with 365 chances for misunderstanding, the grim ledger makes for a mighty slim list come Christmas Eve. No, in a world of imperfect monitoring, Santa needs a more forgiving test than that. But while it should be forgiving enough to grant entry to the nice, it can’t be so forgiving that it also allows the naughty to pass. And then there’s that dreaded third category of youngster: the game theorist who will try to find just the right mix of naughty and nice to wreak havoc but still make the list. Fortunately for St. Nick, the theory of dynamic moral hazard has it all worked out.
There exists a number T between 0 and 365 (the latter being a “sufficiently large number of periods”) with three key properties
- The probability that a truly nice boy or girl comes out looking nice on at least T days is close to 100%,
- The probability that the unwaveringly naughty gets lucky and comes out looking nice for T days is close to 0%,
- If you are being strategic and you are going to be naughty at least once, then you should go all the way and be unwaveringly naughty.
The formal statement of #3 (which is clearly the crucial property) is the following. You may consider being naughty for Z days and nice for the remaining 365-Z days and if you do your payoff has two parts. First, you get to be naughty for Z days. Second, you have a certain probability of making the list. Property #3 says that the total expected payoff is convex in Z. And with a convex payoff you want to go to extremes, either nice all year long or naughty all year long.
And given #1 and #2, you are better off being nice than naughty. One very important caveat though. It is essential that Santa never let you know how you are doing as the year progresses. Because once you know you’ve achieved your T you are in the clear and you can safely be naughty for the remainder. No wonder he’s so secretive with that list.
Once upon a Professor: the Christmas Debate Story, by William Easterly: Once upon a time, four Professors met to agree upon a Christmas Gift Policy. ‘Twas fortunate for the world that they met thus, for they were the world’s foremost Gift Experts.
Professor A said he already knew what everybody wanted, and wanted to massively increase financing for the International Fund for Christmas and Development, which will come up with a comprehensive plan for all the complementary technical inputs to deliver the correct gifts to all individuals.
Professor B was worried about the lack of child security inside homes, and wanted a G8 rapid response force to intervene and take custody of the children, after which their needs for Christmas gifts will be identified and met.
Professor C called for a randomized trial of the leading 3 types of Christmas gifts, relative to a control group who received no gifts. The results will not be available in time for December 25, so Christmas should be postponed until the results are published in a peer-reviewed journal.
Professor D said that Christmas gifts never gave people what they really wanted, money spent on Christmas gifts was always one hundred percent wasted, and each person should just buy their own Christmas gift for themselves.
The Professors’ fierce debate went on and on, deep into the wintry night, whilst the fire burned low.
Meanwhile, unaware of the debate, individuals around the world went ahead and bought gifts for their loved ones based on nothing other than emotions and guesswork.
And everyone was happy, except perhaps the four Professors.
Friday, December 24, 2010
Here's a repeat from previous years, something my grandfather read to us each Christmas Eve, the Twas The Night Before Christmas (other repeats, some of which didn't go over so well with everyone: What Happens at the North Pole Stays at the North Pole..., Is There a Santa Clause?, and "Sinte Klaas"):
was the night before Christmas, when all through the house
Not a creature was stirring, not even a mouse;
The stockings were hung by the chimney with care
In hopes that St. Nicholas soon would be there;
he children were nestled all snug in their beds,
While visions of sugar-plums danced in their heads;
And mamma in her kerchief, and I in my cap,
Had just settled our brains for a long winter's nap,
hen out on the lawn there arose such a clatter,
I sprang from the bed to see what was the matter.
Away to the window I flew like a flash,
Tore open the shutters and threw up the sash.
he moon on the breast of the new-fallen snow
Gave the lustre of mid-day to objects below,
When, what to my wondering eyes should appear,
But a miniature sleigh, and eight tiny reindeer,
ith a little old driver, so lively and quick,
I knew in a moment it must be St. Nick.
More rapid than eagles his coursers they came,
And he whistled, and shouted, and called them by name:
ow, Dasher! now, Dancer! now, Prancer and Vixen!
On, Comet! on, Cupid! on, Donder and Blitzen!
To the top of the porch! to the top of the wall!
Now dash away! dash away! dash away all!"
s dry leaves that before the wild hurricane fly,
When they meet with an obstacle, mount to the sky;
So up to the house-top the coursers they flew,
With the sleigh full of Toys, and St. Nicholas too.
nd then, in a twinkling, I heard on the roof
The prancing and pawing of each little hoof.
As I drew in my head, and was turning around,
Down the chimney St. Nicholas came with a bound.
e was dressed all in fur, from his head to his foot,
And his clothes were all tarnished with ashes and soot;
A bundle of Toys he had flung on his back,
And he looked like a peddler just opening his pack.
is eyes—how they twinkled! his dimples how merry!
His cheeks were like roses, his nose like a cherry!
His droll little mouth was drawn up like a bow,
And the beard of his chin was as white as the snow;
he stump of a pipe he held tight in his teeth,
And the smoke it encircled his head like a wreath;
He had a broad face and a little round belly,
That shook when he laughed, like a bowlful of jelly.
e was chubby and plump, a right jolly old elf,
And I laughed when I saw him, in spite of myself;
A wink of his eye and a twist of his head,
Soon gave me to know I had nothing to dread;
e spoke not a word, but went straight to his work,
And filled all the stockings; then turned with a jerk,
And laying his finger aside of his nose,
And giving a nod, up the chimney he rose;
e sprang to his sleigh, to his team gave a whistle,
And away they all flew like the down of a thistle.
But I heard him exclaim, ere he drove out of sight,
"Happy Christmas to all, and to all a good-night."
The GOP's "humbug factories" are very effective:
The Humbug Express, by Paul Krugman, Commentary, NY Times: Hey, has anyone noticed that “A Christmas Carol” is a dangerous leftist tract?
I mean, consider the scene, early in the book, where Ebenezer Scrooge rightly refuses to contribute to a poverty relief fund..., instead of praising Scrooge for his principled stand against the welfare state, Charles Dickens makes him out to be some kind of bad guy. How leftist is that?
As you can see, the fundamental issues of public policy haven’t changed since Victorian times. Still, some things are different. In particular, the production of humbug — which was still a somewhat amateurish craft when Dickens wrote — has now become a systematic, even industrial, process.
Let me walk you through a case in point...
If you listen to the recent speeches of Republican presidential hopefuls, you’ll find several of them talking at length about the harm done by unionized government workers, who have, they say, multiplied under the Obama administration. ...
Horrors! Except that according to the Bureau of Labor Statistics, government employment has fallen, not risen... So how did the notion of a surge in government payrolls under Mr. Obama take hold?
It turns out that last spring there was, in fact, a bulge in government employment. And both politicians and researchers at humbug factories — I mean, conservative think tanks — quickly seized on this bulge as evidence of an exploding public sector. ...
But anyone paying attention knew ... had nothing to do with Big Government. It was, instead, the fact that the federal government had to hire a lot of temporary workers to carry out the 2010 Census — workers who have almost all left the payroll now that the Census is done.
Is it really possible that the authors of those articles and speeches about soaring public employment didn’t know what was going on? Well, I guess we should never assume malice when ignorance remains a possibility.
There has not, however, been any visible effort to retract those erroneous claims. And this isn’t the only case... Still, why does it matter what some politicians and think tanks say? The answer is that there’s a well-developed right-wing media infrastructure in place to catapult the propaganda, as former President George W. Bush put it, to rapidly disseminate bogus analysis to a wide audience where it becomes part of what “everyone knows.” (There’s nothing comparable on the left, which has fallen far behind in the humbug race.)
And it’s a very effective process. When discussing the alleged huge expansion of government under Mr. Obama, I’ve repeatedly found that people just won’t believe me when I try to point out that it never happened. They assume that I’m lying, or somehow cherry-picking the data. After all, they’ve heard over and over again about that surge in government spending and employment, and they don’t realize that everything they’ve heard was a special delivery from the Humbug Express.
So in this holiday season, let’s remember the wisdom of Ebenezer Scrooge. Not the bit about denying food and medical care to those who need them: America’s failure to take care of its own less-fortunate citizens is a national disgrace. But Scrooge was right about the prevalence of humbug. And we’d be much better off as a nation if more people had the courage to say “Bah!”
Thursday, December 23, 2010
This is the introduction to "Income, Inequality, and Food Prices: A Critique of Broda, Leibtag, and Weinstein’s 'The Role of Prices in Measuring the Poor’s Living Standards'" by Shawn Fremstad of the CEPR. The paper reexamines and questions work that has been used to argue that income inequality is not as severe as standard statistical analyses suggest:
Introduction and Summary In “The Role of Prices in Measuring the Poor’s Living Standards,” Christian Broda, Ephriam Leibtag, and David E. Weinstein (2009) use proprietary data—the 2005 Nielsen Homescan dataset—to analyze differences by income level in the prices paid for food. They find that Nielsen households with incomes above $60,000 pay somewhat more for the same food items than most households with lower incomes, with Nielsen households with incomes above $100,000 paying the most. Based on this finding and additional regression analyses, they conclude broadly that the “poor pay less—not more—for the goods they purchase” and that not accounting for this suggests that income inequality may be between 2.5 to 5 percent less than shown by national statistics.
This paper reviews the methodology and findings of Broda et al.. and concludes that:
The Economist asks:
What do you expect to be the most significant economic developments in 2011?
Here's my response. I thought I was late, so I did this a bit hastily, but it turns out there weren't many responses this week (Richard Baldwin, Michael Pettis, Hal Varian, all answers). How would you have answered?
From the WSJ:
...President Barack Obama closed out the 111th Congress Wednesday by projecting himself as a force for cooperation, winning late-session victories on some of his top foreign and domestic priorities. ...
I'm curious to hear your thoughts on the reason(s) for the sudden break in the logjam. Is there any reason to think it will continue in the next session, i.e. after Republicans take over the House?
The Case for Nominal GDP Targeting, Macro and Other Macro Musings: I am late getting to this, but Mark Thoma wants to hear the case for nominal GDP targeting. This approach to monetary policy requires the Fed stabilize the growth path for total current dollar spending. As an advocate of nominal GDP level targeting, I am more than happy to respond to Mark's request. I will focus my response on what I see as its three most appealing aspects: (1) it provides a simple and intuitive approach to monetary policy, (2) it focuses monetary policy on that over which it has meaningful influence, and (3) its simplicity makes it easier to implement than other popular alternatives. Let's consider each point in turn.
(1) It provides a simple and intuitive approach to monetary policy. This first point can be illustrated by considering the following scenario. Imagine the U.S. economy is humming along at its full potential. Suddenly a large negative shock, say a housing bust, hits the economy. This development leads to a decline in expectations of current and future economic activity. As a result, asset prices decline, financial conditions deteriorate, and there is a rush for liquidity. The rise in demand for liquidity means less spending by households and firms and thus, less total current dollar spending in the U.S. economy. Because prices do not adjust instantly, this drop in nominal spending causes a decline in real economic activity too. Thus, even though the primal cause of the decline in the real economy was the housing bust, the proximate cause was the drop in total current dollar spending. The Fed cannot undo the housing bust, but it can prevent the drop in total current dollar spending by providing enough liquidity to offset the spike in liquidity demand. If nominal spending has not been stabilized then the Fed has failed to do this. A nominal GDP target, then, is simply a mandate for the Fed to stabilize total current dollar spending.
Though a simple objective, stabilizing nominal spending is key to macroeconomic stability. The figure below shows that changes in the growth rate of total current dollar spending (i.e. nominal GDP) got transmitted mostly to changes in the growth rate of real economic activity (i.e. real GDP) rather than inflation (i.e. GDP Deflator). This implies that had monetary policy done a better job stabilizing nominal spending then there would have been fewer recessions during this time. (Click on figure to enlarge.)
(2) It focuses monetary policy on that over which it has meaningful influence. There are two types of shocks that buffet the economy: aggregate supply (AS) shocks and aggregate demand (AD) shocks. A nominal GDP targeting rule only responds to AD shocks. It ignores AS shocks while keeping total current dollar spending growing at a stable rate. This is the way it should be. For if monetary policy attempts to offset AS shocks it will tend to increase macroeconomic volatility rather than reduce it. For example, let's say Y2K actually turned out to be hugely disruptive for a prolonged period. This negative AS shock would reduce output and increase prices. A true inflation targeting central bank would have to respond to this negative AS shock by tightening monetary policy, further constricting the economy. A nominal GDP targeting central bank would not face this dilemma. It would simply keep nominal spending stable.
In general, any kind of price stability objective for a central bank is bound to be problematic because price level changes can come from either AD or AS shocks and are hard to discern. For example, was the low U.S. inflation in 2003 the result of a weakened economy (a negative AD shock) or robust productivity gains (a positive AS shock)? It makes much more sense to focus on the underlying economic shocks themselves rather than a symptom of them (i.e. price level changes). Nominal GDP targeting does that by focusing just on AD shocks. This point is graphically illustrated here using the AD-AS model. More discussion on this point can be found here.
(3) Its simplicity makes it easier to implement than other popular alternatives. This is true on many front. First, a nominal GDP target requires only a measure of the current dollar value of the economy. It does not require knowledge of the proper inflation measure, inflation target, output gap measure, the neutral federal fund rate, coefficient weights, and other elusive information that are required for inflation targeting and the Taylor Rule. There will always be debate on which form of the above measures is appropriate. For example, should the Fed go with the CPI or PCE, the headline inflation measure or the core, the CBO's output gap or their own internal estimate, the original Taylor Rule or the Glenn Rudebush version, etc.? A nominal GDP target avoids all of these debates.
Second, nominal GDP targeting would also be easier to implement because it is easy to understand. The public can comprehend the notion of stabilizing total current dollar spending. It is less clear they understand output gaps, core inflation, the neutral federal funds rate, and other esoteric elements now used in monetary policy. The Fed would have a far easier time explaining itself to congress and the public if it followed a nominal GDP target. On the flip side, this increased understanding by the public would make the Fed more accountable for its failures.
Third, a nominal GDP target would take the focus off of inflation and what its appropriate value should be. Thus, if there needed to be some catch-up inflation and nominal spending to get nominal GDP back to its targeted growth path the Fed could do it with less political pressure.
Some folks argue that the nominal GDP targeting is nothing more than just a special case of a Taylor Rule. Maybe so, but the point they miss the bigger point that nominal GDP targeting is a far easier approach to implement for the reasons laid out above. Moreover, in practice the Fed has deviated from the Taylor Rule and during these times it appears to be more of a pure inflation targeter. Thus, adopting an explicit nominal GDP target would force the Fed to stick to stabilizing nominal spending at all times.
Ultimately, I would like to see the Fed adopt not only a nominal GDP level target, but a forward-looking one that targeted nominal GDP futures market. This is an idea that Scott Sumner and Bill Woolsey have been promoting for some time. See here and here for more on this proposal.
David Altig of the Atlanta Fed argues that there's no sign of building inflationary pressure:
An inflation (or lack thereof) chart show, by David Altig: Over at TheMoneyIllusion, Scott Sumner takes a shot at what he refers to as "Disinflation Denial." His point is that prior to the recent run-up, "commodity price indices fell by more than 50%." Thus, if the run-up in commodity prices suggests loose policy now, they must have been signaling tight policy earlier.
I am hesitant to endorse the view that any subset of prices gives us a clear view of inflation trends. What I do endorse in the Sumner piece is the advice that "the Fed look at a wide range of indicators." ... So here we go. ...
First up, of course, are the so-called (and often maligned) core measures of inflation. I am completely sympathetic to the view that the traditional core index, which subtracts out food and energy components, is a somewhat arbitrary... For that reason, I personally tend to lean more heavily on median and trimmed-mean measures.
In Atlanta, we have been monitoring a newer core inflation measure, called the "sticky-price CPI," jointly developed by Mike Bryan and Brent Meyer (of the Atlanta and Cleveland Feds, respectively). As described by Bryan and Meyer:
"Some of the items that make up the Consumer Price Index change prices frequently, while others are slow to change… sticky prices [those that are slow to change] appear to incorporate expectations about future inflation to a greater degree than prices that change on a frequent basis… our sticky-price measure seems to contain a component of inflation expectations, and that component may be useful when trying to gauge where inflation is heading."
Like the other core measure, the sticky-price CPI shows a pronounced downward movement over the past several years, with some sign of (an ever-so-slight) recovery as of late.
Though I disagree with the assertion that core measures are a convenient way to ignore unpleasant movements in the overall CPI—there is evidence that core measures are useful in predicting where total CPI inflation is heading—it is almost surely a bad idea to ignore what is happening to headline statistics. (After all, in the end it is the average of all prices with which we are concerned.)
Here too, the evidence suggests, at the very least, there is scant evidence that disinflation has left the scene:
Wednesday, December 22, 2010
At MoneyWatch, a few comments in reaction to today's upward revision in the third quarter GDP growth rate from 2.5% to 2.6%:
Dean Baker says the impact of the tax compromise may not be as large as you've been led to believe:
Obama's tax deal: read the small print, by Dean Baker: ...While the economy will do better with this tax package..., much of the discussion has exaggerated the potential stimulus to the economy.
First, it is important to remember that although the total package is scored as costing almost $900bn over two years, almost everything in this package simply leaves in place current tax rates and spending. ...
The only net stimulus in this package comes from replacing the $60bn Making Work Pay tax credit in 2011 with a $110bn reduction in the payroll tax and the allowance full expensing of new investment. The latter is projected to cost $55bn a year for the next two years. The full expensing ... replaces a provision of the 2009 stimulus package that provided for 50% expensing, which means that the net boost ... is half this size.
In sum, the net stimulus for the economy from this package in 2011 will be in the range of $70bn... This is not likely to provide a substantial boost to growth.
While the tax deal will be a net positive to growth for 2011, there are many other factors that are pushing in the opposite direction. First, much of the spending in the original stimulus package will be coming to an end in the first two quarters of 2011. ... State and local governments continue to face large budget shortfalls. ... House prices are once again falling..., another blow to consumption... Another factor depressing consumption is the recent bump in interest rates. ... It is also important to recognize ... the rate of inventory accumulation ... is likely to slow – meaning that inventories will be a net drag on growth in coming quarters.
In sum, there is every reason to expect that 2011 will be another year of weak growth, with little, if any, decline in the unemployment rate. The economy will be somewhat stronger as a result of this tax package being put in place, compared to a scenario in which nothing was done, but this is very far from the fabled "second stimulus" that some are acclaiming.
There is also likely to be a push for deficit reduction early next year. If this push is successful, and that's a possibility that can't be ruled out, it could more than offset the stimulus from the tax deal.
This sounds about right:
...the global economy’s arsonists have become prosecutors, and accuse the fire fighters of having provoked flooding. ... There is pressure to re-write the history of this crisis by depicting effects as if they were causes, and to blame the governments that managed the crisis for starting it. ...
The effort has already been successful. There is now a story for the anti-government types to tell, one that blames the government for promoting housing, creating Fannie and Freddie, and keeping interest rates too low. That story won't be dislodged no matter how much logic is used to try and pry it free from those who have shaped the narrative to fit their preconceptions.
John Horgan of Scientific American:
Is theoretical physics becoming "softer" than anthropology?: ...The ... decision of the American Anthropological Association to delete the word "science" from its mission statement ... provoked squawks from anthropologists who ... want their field to be lumped together not with historians and literary critics—God forbid!—but with physics... The irony is that parts of physics are less empirical and more speculative than the most humanistic anthropology. ...
[S]ome ambitious physicists have increasingly ventured beyond the boundaries of measurable reality into the unmapped realms where dragons roam. That brings me to the physics story in the news. Roger Penrose and V. G. Gurzadyan recently proposed that minute ripples in the cosmic microwave background—the afterglow of the big bang—originated from the collision of monster black holes in another universe that preceded our cosmos, and may have spawned it; moreover, our universe might be just one of an infinite series spawned by such cataclysms. ...
[T]he proposal is literally too far out; it can never be confirmed in the way that the existence of, say, quarks has been confirmed, or the big bang itself. I call this highly speculative theorizing "ironic science," because it makes assertions that are more akin to literary criticism or even literature than conventional science. ...
Anthropologists gather data—by observing rainforest hunters in Amazonia, excavating a Neolithic settlement in Jordan, carbon-dating an Ardipithecus jaw bone dug up in Ethiopia—and then try to figure out what it all means. This ... addresses real things: actual primates in actual places.
Many physicists, on the other hand, theorize about phenomena that are not only extremely remote in space and time but might not even exist. Physicists conjecture what's happening at the Planck scale... They speculate about the era before the big bang, and about other universes that might be mutant versions of our own. They postulate strings, membranes, higher dimensions and other stuff whose existence, like that of God, cannot be proved or disproved. ...
Tuesday, December 21, 2010
We are, as they say, live:
Policy did not respond optimally to our "balance sheet recession." Though I didn't talk about this in the column, it's looking like we have a very slow recovery ahead of us, so it's not too late to do something about this and speed the recovery. We won't do anything of course, the current political environment won't allow it, but hopefully we can still learn something and improve policy the next time a balance sheet recession hits the economy.
I didn't realize how much small businesses depend upon home equity to finance their business operations:
The Effect of Falling Home Prices on Small Business Borrowing, by Mark E. Schweitzer and Scott A. Shane, Economic Commentary, FRB Cleveland: Small businesses continue to report problems obtaining the financing they need. Because small business owners may rely heavily on the value of their homes to finance their businesses (through mortgages or home equity lines), the fall in housing prices might be one of the causes of their difficulty. We analyze information from a variety of sources and find that homes do constitute an important source of capital for small business owners and that the impact of the recent decline in housing prices is significant enough to be a real constraint on small business finances.
A persistent issue throughout the recovery has been the reported inability of small businesses to get the financing that they need. To better understand the sources of any shortfall, the Federal Reserve System undertook a project in 2010 to meet with representatives from banks and small businesses.1 In some of the focus groups..., participating small business owners explained that the reduced value of their homes has made it difficult for them to provide the necessary collateral for small business loans. Other participants said that the reduced value of homes has made home equity borrowing as a source of business capital more difficult to come by, also contributing to the difficulty many small businesses face in obtaining sufficient capital to finance their operations. While the small business owners’ message of a link between home values and small business borrowing came through loud and clear in the focus groups, the process did not provide estimates on the magnitude of the effect of declining home values on small businesses’ access to capital. ...
This Commentary analyzes information from a variety of sources in order to quantify the connection between home values and small businesses’ access to capital. Specifically, we examine the extent to which small business owners use their homes to finance their businesses, the rise in the use of homes as a source of capital for small businesses during the housing boom, the magnitude of the effect of housing price declines on small business finance, and the variation in these issues across states, industries, and types of small businesses. Our analysis reveals that the magnitude of the effect of home prices on small business finances is large enough to be a real constraint on ... the growth of small businesses...
Of course, not all small businesses have been equally affected by the decline in home prices. While many small business owners use residential real estate to finance businesses, not all do. Those more likely do so to include companies in the real estate and construction industries, those located in the states with the largest increases in home prices during the boom, younger and smaller businesses, companies with lesser financial prospects, and those not planning to borrow from banks. ...
The link between home prices and small business credit poses important challenges for policy makers seeking to improve small business owners’ access to credit. The solution is far more complicated than telling bankers to lend more or reducing the regulatory constraints that may have caused them to cut back on their lending to small companies. Returning small business owners to pre-recession levels of credit access will require an increase in home prices or a weaning of small business owners from the use of home equity as a source of financing. Neither of those alternatives falls into the category of easy and quick solutions.
Many businesses that fail in recessions due to insolvency problems would be viable if they could find the resources they need to hold on until the economy recovers. At the very time these firms need financing the most, deterioration in the financial position of the business combined with the loss of collateral due to declining home values and declining asset values more generally makes the financing harder to obtain. We could do more to help these firms survive recessions, and in doing so help to stabilize employment.
Nicholas Johnson of the CBPP sets the record straight on state finances:
Some Right, Some Wrong in “60 Minutes” Story on State Budgets, CBPP: Last night’s CBS "60 Minutes" piece on state budgets made some important points but also — through some big mistakes and omissions — gave a deeply misleading impression of the state budget situation.
Here’s what it got right:
- As correspondent Steve oft put it, “The ‘great recession’ wrecked [states’] economies and shriveled their income.” State revenues are about 12 percent below pre-recession levels, after adjusting for inflation, yet the cost of basic services like education and health care — the two largest areas of state and local spending — is rising.
- The real pain from states’ current fiscal problems has been visited on the most vulnerable people, from low-income families needing medical care in Arizona to recipients of mental-health assistance in Illinois. That’s because states are required to balance their budgets — they cannot borrow to cover operating expenses. States have responded to the loss of revenues, in part, by cutting health care services and payments to nonprofits that serve the needy.
- Fiscal year 2012 (which will begin next July 1 in most states) will be the most challenging year yet for state budgets. States have largely drawn down their reserves, revenues are still depressed, and emergency aid from the federal government (hardly the “bailout” CBS suggested, but rather a way to keep more people working and protect a fragile economic recovery) is expiring.
Here’s what "60 Minutes" got wrong:
- Contrary to Kroft’s claim, states aren’t guilty of “reckless spending.” Total state and local spending, not including federal grants, is no larger now as a share of the economy than it was 20 years ago, according to U.S. Bureau of Economic Analysis data. (Federal grants to states have grown over this period to cover rising state Medicaid costs that result from health care inflation and a rising number of families without private health insurance.) State general fund spending in 2011 will be 6 percent lower than it was in 2008, without adjusting for inflation...
- Underfunding of state and local pension funds did not cause states’ current fiscal problems and is not an immediate crisis. To be sure, some states have failed to make required pension contributions, including New Jersey (which in past years chose instead to cut taxes) and Illinois (which has a chronic revenue shortage due to political gridlock over modernizing its tax system). Nevertheless, the Center for Retirement Research at Boston College estimates that states and localities could restore pension systems to health by raising their contributions moderately once their revenues recover from the recession and/or by adjusting benefits, retirement ages, and similar policies. Many states are already starting to do both.
Most importantly, the "60 Minutes" story left the impression that states are so out of whack that there are no reasonable solutions to their financial problems. In reality, states have successfully closed s several hundred billion dollars in budget gaps over the last three years through spending cuts and tax increases, a point the story overlooked. ...
Monday, December 20, 2010
- Ethics and Credibility at the American Economics Association - TripleCrisis
- Reasons, Rule and Riots: Our Societal Panic - David Cay Johnston
- Who Receives a Mortgage Modification? - FRBSF
- The Year Washington Became "Business Friendly" - Robert Reich
- Recession causes rise in number of low-wage families - washingtonpost.com
Howard Davies, chair of the UK's Financial Services Authority from 1997-2003, defends regulators against the claim that they are bought and sold by the financial industry (though he's less sure about legislators), but admits they were subject to "intellectual capture" prior to the crisis:
Is Regulation Really for Sale?, by Howard Davies, Commentary, Project Syndicate: ...in narratives of the financial crisis, regulatory capture is often an important part of the story. ... How plausible is this...? Can ... regulation really be bought?
When I was a regulator, I would certainly have denied it. I had never worked in the financial industry, and knew few people who did. ... My successors have all come from the financial sector, however...
I have no first-hand knowledge of the legislative process in the United States. But, as an outsider, I am amazed at the apparent intensity of lobbying, and at the amounts of money that firms and their associations spend. Is it effective? ...
An intriguing sidelight on the relationship between Congress and business is provided in a study by Ahmed Tahoun of the London School of Economics on “The role of stock ownership by US members of Congress on the market for political favors.” ... The ... results ... suggest a less-than-healthy relationship between lawmakers’ political and pecuniary interests.
Regulators are typically not subject to those temptations. They are not normally allowed to own stock in financial firms... But can they nonetheless be captured?
I see two potential grounds for concern. The first is the revolving door between the industry and regulatory bodies. This is more prevalent in the US...
The second concern is what one might call intellectual capture. While I would strongly argue that the FSA in my day did not favor firms unduly, it is perhaps true that we – and in this we were exactly like US regulators – were inclined to believe that markets were generally efficient. If willing buyers and willing sellers were trading claims happily, then, as long as they were “professional” investors, there was no legitimate reason to interfere in their markets. ...
We now know that some of these market emperors had no clothes, and that their activities ... could result in severe financial instability and generate serious losses for taxpayers, not to mention precipitating a global recession. That has been a grave lesson for regulators and central banks.
So intellectual capture is a charge hard to refute. But were regulators surrogate lobbyists for the financial industry? I do not think so, and to argue as much devalues the efforts of many overworked and underpaid public servants around the world.
"Is Regulation Really for Sale?" The intellectual capture Davies owns up to was no accident, it was the product of a concerted effort -- funded in part by big money interests on the right -- to sell these ideas to policymakers, regulators, and the public more generally. And as Paul Krugman's column notes today, it's an effort that had and continues to have considerable success. Thus, I don't think we can separate intellectual capture from lobbyist and other activity promoting the free market, anti-regulation point of view.
There is a report that Obama is considering featuring Social Security reform, including benefit cuts, in his State of the Union address:
... The tax deal negotiated by President Barack Obama and Senate Republican leader Mitch McConnell of Kentucky is just the first part of a multistage drama that is likely to further divide and weaken Democrats.
The second part, now being teed up by the White House and key Senate Democrats, is a scheme for the president to embrace much of the Bowles-Simpson plan — including cuts in Social Security. This is to be unveiled, according to well-placed sources, in the president’s State of the Union address.
The idea is to pre-empt an even more draconian set of budget cuts likely to be proposed by the incoming House Budget Committee chairman, Rep. Paul Ryan (R-Wis.), as a condition of extending the debt ceiling. This is expected to hit in April.
White House strategists believe this can also give Obama “credit” for getting serious about deficit reduction — now more urgent with the nearly $900 billion increase in the deficit via the tax cut deal. ...
Bad idea. Dean Baker suggests another route:
...supporters of Social Security and Medicare have to ... push President Obama to announce in advance that he will never sign a debt ceiling bill that includes cuts to Social Security and Medicare, the countries two most important social programs.
These programs are crucial to the financial security and health of tens of millions of people. If there are to be changes in these programs then they should occur after a full public debate in the light of day, not as the result of Republican trickery and parliamentary game playing.
This would be a hugely popular position since not only Democrats, but also independents and even Tea Party Republicans overwhelming support Social Security and Medicare. ...
Why not propose raising the ceiling on payroll taxes instead? The rich and powerful are used to getting their way, the recent tax cuts are an example of this, so they see no downside to pushing for deficit reduction and reductions in social programs they don't need. They believe they have no reason to fear a tax incrase of any kind, an increase in the ceiling on payroll taxes included, and the recent tax deal lends support to that notion. But if it's clear that they will be asked to shoulder a large chunk of the costs of deficit reduction (I can dream), the powerful interests pushing for cuts may suddenly find that Social Security is in much better shape than they realized.
Update: Brad DeLong:
When people in the White House ask me whether I think Obama's SOTU address should be about tax reform or Social Security reform (i.e., 2/3 Social Security benefit cuts, 1/3 tax increases offered by the administration--and God alone knows what happens after that), I want to say: Why not make the SOTU address about jobs and economic recovery?
"I want to say..." Wonder why he doesn't actually say it? The "people in the White House" asking him about this sure need to hear it.
Update: Tyler Cowen:
Here is a related Paul Krugman post. In my view, Obama may propose slowing the rate of benefit increase, but he won't propose an actual cut in Social Security benefits. Use of the word "cuts" is thus likely to prove misleading. I've already argued it is better to cut Medicare than Social Security (in-kind vs. cash), but it shouldn't come as a shock if reindexing benefits is part of a bipartisan budget deal. It's an easier policy "to do" than fixing Medicare, though again I prefer the latter. ...
Why is free-market fundamentalism exerting a growing influence on economic policy?:
When Zombies Win, by Paul Krugman, Commentary, NY Times: When historians look back at 2008-10, what will puzzle them most, I believe, is the strange triumph of failed ideas. Free-market fundamentalists have been wrong about everything — yet they now dominate the political scene more thoroughly than ever. ...
It’s ... worth pointing out that everything the right said about why Obamanomics would fail was wrong. For two years we’ve been warned that government borrowing would send interest rates sky-high; in fact, rates have fluctuated with optimism or pessimism about recovery, but stayed consistently low by historical standards. For two years we’ve been warned that inflation, even hyperinflation, was just around the corner; instead, disinflation has continued...
The free-market fundamentalists have been as wrong about events abroad as they have about events in America — and suffered equally few consequences. “Ireland,” declared George Osborne in 2006, “stands as a shining example of the art of the possible in long-term economic policymaking.” Whoops. But Mr. Osborne is now Britain’s top economic official.
And in his new position, he’s setting out to emulate the austerity policies Ireland implemented after its bubble burst. After all, conservatives on both sides of the Atlantic spent much of the past year hailing Irish austerity as a resounding success. “The Irish approach worked in 1987-89 — and it’s working now,” declared Alan Reynolds of the Cato Institute last June. Whoops, again.
But such failures don’t seem to matter. To borrow the title of a recent book by the Australian economist John Quiggin on doctrines that the crisis should have killed but didn’t, we’re still — perhaps more than ever — ruled by “zombie economics.” Why?
Part of the answer, surely, is that people who should have been trying to slay zombie ideas have tried to compromise with them instead. And this is especially, though not only, true of the president.
People tend to forget that Ronald Reagan often gave ground on policy substance — most notably, he ended up enacting multiple tax increases. But he never wavered on ideas, never backed down from the position that his ideology was right and his opponents were wrong.
President Obama, by contrast, has consistently tried to reach across the aisle by lending cover to right-wing myths. He has praised Reagan for restoring American dynamism (when was the last time you heard a Republican praising F.D.R.?), adopted G.O.P. rhetoric about the need for the government to tighten its belt even in the face of recession, offered symbolic freezes on spending and federal wages.
None of this stopped the right from denouncing him as a socialist. But it helped empower bad ideas, in ways that can do quite immediate harm. Right now Mr. Obama is hailing the tax-cut deal as a boost to the economy — but Republicans are already talking about spending cuts that would offset any positive effects from the deal. And how effectively can he oppose these demands, when he himself has embraced the rhetoric of belt-tightening?
Yes, politics is the art of the possible. We all understand the need to deal with one’s political enemies. But it’s one thing to make deals to advance your goals; it’s another to open the door to zombie ideas. When you do that, the zombies end up eating your brain — and quite possibly your economy too.
Here's a response to my request for more discussion of the merits of nominal GDP targeting (in both levels and growth rates) relative to a Taylor rule:
Reply to Thoma on NGDP targeting, by Scott Sumner: Mark Thoma recently asked the following question:
So, for those of you who are advocates of nominal GDP targeting and have studied nominal GDP targeting in depth, (a) what important results concerning nominal GDP targeting have I left out or gotten wrong? (b) Why should I prefer one rule over the other? In particular, for proponents of nominal GDP targeting, what are the main arguments for this approach? Why is targeting nominal GDP better than a Taylor rule?
...Thoma raises issues that I don’t feel qualified to discuss, such as learnability. My intuition says that’s not a big problem, but no one should take my intuition seriously. What people should take seriously is Bennett McCallum’s intuition (in my view the best in the business), and he also thinks it’s an overrated problem. I think the main advantage of NGDP targeting over the Taylor rule is simplicity, which makes it more politically appealing. I’m not sure Congress would go along with a complicated formula for monetary policy that looks like it was dreamed up by academics (i.e. the Taylor Rule.) In practice, the two targets would be close, as Thoma suggested elsewhere in the post.
Instead I’d like to focus on a passage that Thoma links to, which was written by Bernanke and Mishkin in 1997 ...[continue reading]...
Just one quick note. I'm not sure I agree that McCallum thinks learnability is an "overrated problem." For example, he cites it as an important factor in arguing against using determinacy as a "selection criterion for rational expectations models":
Another Weakness of “Determinacy” as a Selection Criterion for Rational Expectations Models, by Seonghoon Cho and Bennett T. McCallum: ...It is well-known that dynamic linear rational expectations (RE) models often have multiple solutions... It is also well-known that much of the literature, especially in monetary economics, approaches issues concerning such multiplicities by establishing whether a solution is, or is not, “determinate” in the sense of being the only solution that is dynamically stable. Often, cases featuring “indeterminacy,” defined as the existence of more than one stable solution, are regarded as problematic and to be avoided (by means of policy) if possible. On the other hand, several authors, including Bullard (2006), Cho and Moreno (2008), Evans and Honkapohja (2001), and McCallum (2003, 2007) have— implicitly, in some cases—questioned this practice on various grounds. For example, determinate solutions may not be learnable (Bullard (2006), Bullard and Mitra (2002)) whereas cases with indeterminacy may possess only one “plausible” solution (McCallum (2003, 2007)). In the present paper we present another argument against the use of determinacy as a guide ... to interpretation of outcomes implied by a RE model.
Or, probably better, see his rejoinder to Cochrane's "Can Learnability save New-Keynesian models?," one of many papers he has written on this topic, and see if you conclude that McCallum thinks learnability is an unimportant issue.