« August 2012 |
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I hope you read the post by Lane Kenworthy in today's list of links, but let
me highlight one section in particular (there's quite a bit more in the full
Will everyone be worse off if the United States turns social democratic? by Lane
Kenworthy: Daron Acemoglu, James Robinson, and Thierry Verdier have a
new paper that asks “Can’t We All Be More Like Scandinavians?” Their answer
is no. The answer follows from a model they develop...
Acemoglu, Robinson, and Verdier say the model might help us understand patterns
of economic growth and well-being in the United States and the Nordic countries
— Denmark, Finland, Norway, and Sweden. The United States chose cutthroat
capitalism, while the Nordics chose cuddly capitalism. The U.S. grew faster for
a short time, but since then all five countries have grown at the roughly same
pace. America’s high inequality encourages innovation. The Nordics can be cuddly
and still grow rapidly because of technological spillover. If the U.S. were to
decide to go cuddly, innovation would slow. Both sets of nations would grow less
Will American innovation slow if we go “cuddly”?
The really interesting question posed by Acemoglu, Robinson, and Verdier is
whether innovation would slow in the United States if we strengthened our safety
net and/or reduced the relative financial payoff to entrepreneurial success. I’m
skeptical, for three reasons.
The first flows from America’s past experience. According to Acemoglu et al’s
logic, incentives for innovation in the U.S. were weakest in the 1960s and
1970s. In 1960 the top 1%’s share of pretax income had been falling steadily for
several decades and had nearly reached its low point. Government spending,
meanwhile, had been rising steadily and was close to its peak level. Yet there
was plenty of innovation in the 1960s and 1970s, including notable advances in
computers, medical technology, and others.
Second, the Nordic countries, with their low income inequality and generous
safety nets, currently are among the world’s most innovative countries. The
World Economic Forum’s
Global Competitiveness Index has consistently ranked them close to the
United States in innovation. The most recent report, for 2012-13, rates Sweden
as the world’s most innovative nation, followed by Finland. The U.S. ranks
sixth. The 2012 WIPO-Insead
Innovation Index ranks Sweden second and the United States tenth. Whether or
not this lasts, it suggests reason to doubt that modest inequality and generous
cushions are significant obstacles to innovation.
Third, if Acemoglu and colleagues are correct about the value of financial
incentives in spurring innovation, we should see this reflected not only in the
United States but also in other nations with relatively high income inequality
and low-to-moderate government spending, such as Australia, Canada, Ireland, New
Zealand, and the United Kingdom. But we don’t. ...
There’s one additional possibility worth considering. If financial incentives
truly are critical for spurring innovation, it could be the opportunity for
large gains that matters, rather than the absence of cushions. Suppose we were
to increase government revenues in the United States via higher taxes on
everyone — steeper income taxes on the top 1% or 5% plus a new national
consumption tax. And imagine we used those revenues to expand public insurance
and services — fully universal health insurance, universal early education, a
beefed-up Earned Income Tax Credit, a new wage insurance program, more
individualized assistance with training and job placement. These changes
wouldn’t alter income inequality much, but they would enhance economic security
and opportunity. Would innovation decline? I doubt it. ...
An enhanced safety net -- a backup if things go wrong -- can give people the security they need to take a
chance on pursuing an innovative idea that might die otherwise, or opening a
small business. So it may be that an expanded social safety net encourages
As for the effect of reducing the financial payoff by raising taxes on high incomes to support an expansion in the safety net, I don't think it's any secret that I think the distribution of income in recent decades has pushed too much income toward the top and too little toward the middle and bottom (relative to changes in productivity). That is, the distribution of income is distorted. To the extent that taxing high incomes removes these distortions, it's helpful rather than harmful.
And there must be diminishing returns to incentives in any case. If we take away $50 million in taxes leaving someone the prospect of earning "only" $100 million in net profit (i.e. taxes are 33%), would the person really decide to give up the project? Would someone really decide it isn't worth it to only earn $100 million and work less or give it up altogether? Or is it the case that by the time you get to that much income, a marginal increase of decrease in profit has almost no effect on incentives? I'd guess that's the case (and for those in the game simply to see who can accumulate the most, so long as the rules are the same for all, incentives won't change either). There could be an effect at the margin, i.e. profitable projects become unprofitable due to the increase in the tax rate, and that could impact innovation and growth. But growth doesn't seem to decline when taxes at the top are higher, so this case is hard to make.
Posted by Mark Thoma on Sunday, September 30, 2012 at 10:33 AM in Economics, Productivity, Social Insurance |
Posted by Mark Thoma on Sunday, September 30, 2012 at 12:06 AM in Economics, Links |
Richard Thaler likes the number 28:
For the Wealthy, a 28 Percent Solution, by Richard Thaler, Commentary, NY
Times: Everyone knows that America’s tax code is a mess... But there is
a possible solution. ...
I can state my idea in just one sentence: All income above $1 million a year
for a household will be taxed at 28 percent. There are no deductions, and
all income, including capital gains and dividends, is included. President
Reagan favored something like this...
While we’re at it, let’s make the corporate tax rate 28 percent, too,
because our current rate is high by international standards. Oh, and the
estate tax exemption? On amounts above $3.5 million for individuals, the
rate would be, of course, 28 percent. ...
But what about the argument that taxing capital gains and dividends at the
same rate as ordinary income will discourage investment? I don’t find this
claim convincing. ...
Of course, I haven’t said what would happen to the households in the middle,
or what the taxes would be on the first $1 million for the rich... One
possibility is to scale back deductions smoothly, starting at household
incomes above $250,000, and completely eliminate them for incomes above $1
million. ... A more radical plan, curtailing deductions for this large
group, is probably politically infeasible...
And what if the resulting revenue falls a bit short...? I suggest that we
get our gasoline tax more in line with those of the rest of the world.
Gradually raising it to something like $1 a gallon would both bring in
revenue and help reduce emissions. In the long term, we could set the rate
as a percentage of the price at the pump. Maybe 28 percent?
Posted by Mark Thoma on Saturday, September 29, 2012 at 09:39 PM in Budget Deficit, Economics, Taxes |
Brad DeLong says Paul Ryan's view of social insurance should get more attention:
Paul Ryan: Socialism Must Be Destroyed, and by "Socialism" I Mean Things Like
Social Security, Medicare, Food Stamps, and Unemployment Insurance by Brad
The Paul Ryan audiotape did not get the same attention as the Romney
videotape. Yet I find it as damning:
Social Security right now is a collectivist system. It is a welfare transfer
system…. And so what we have coming now at the beginning of this century is a
fight…. [A]ll they have to do is to stop us from succeeding. Autopilot will get
them to where they want to go. It will bring more government, more collectivism,
more centralized government if we do not succeed in switching these programs and
reforming these programs from what some people call a defined-benefit system to
a defined-contribution system--and I am talking about health-care programs as
well--from a third-party socialist-based system to an individually-prefunded
individually-directed system. We can do this. We are on offense on a lot of
In Paul Ryan's eyes, Social Security, Medicare, Medicaid, Unemployment
Insurance, SNAP, etc. are all socialist, collectivist systems that must cease to
exist in anything like their present form.
And let me stress that shifting health care to an "individually-prefunded
individually-directed system" means that poor people die in the gutter outside
the hospital when they get sick: if you are unlucky and get seriously ill, then
unless you are rich there is no way that you can have individually-prefunded
enough to pay for your treatment. ...
Leaving social insurance to the marketplace -- for example assuming that
individuals will rationally prefund their future needs -- has never worked. It
didn't work in the US before we had a broad social insurance program, and it
hasn't worked in other countries either. Are markets suddenly so much better
than they used to be that we can now expect them to function in instances where
they have always failed in the past? I don't see any reason to believe that's
the case. There are good reasons why countries choose to institute social
insurance programs, and those reasons haven't gone away.
Posted by Mark Thoma on Saturday, September 29, 2012 at 10:55 AM
Is Low Inflation Always Good?, by Tim Duy: I was intrigued by something Scott Sumner wrote last week:
I’d also point out that the US has experienced 3 major equity or residential real estate bubbles in periods of relatively low inflation and NGDP growth (1929, 2000, 2006) and zero major bubbles in periods with high inflation and NGDP growth (1968-81). The 1987 stock market bubble was an intermediate case (which did zero harm, as NGDP continued growing after the bubble.)
I was further intrigued when I saw this chart from the IMF (h/t FT Alphaville):
This was from a chapter covering the history of all situation in which public debt rose above 100 percent of GDP. See the gap in the timeline? The relatively high inflation late 1960's and 1970's. Another reason to at least think about the possibility that while high and variable inflation is not ideal, perhaps neither is very low inflation.
Posted by Mark Thoma on Saturday, September 29, 2012 at 10:03 AM
We had our first seminar of the year today. It was by Professor Takeshi Amemiya
of Stanford. Takeshi is best known for his econometric research on a wide range
of topics, including a series of highly influential theoretical papers in the
1970s and 1980s. His more recent research has been in a very different area --
the economics of ancient Greece. The title of his talk was:
"Economy and Economics of Ancient Greece and Ancient China"
One of the things I took from the talk was how many of the ideas in Adam
Smith's Wealth of Nations can be found in these ancient texts, concepts such as the
division of labor, supply and demand, the role of prices, monopoly power, wealth accumulation, and so on.
But it was also interesting to see echoes of so many modern debates, e.g.
about wealth inequality, taxes, etc., from so long ago. Here are a few quotes from the section "Economic Thoughts" in his slides (there is a timeline in the slides showing when each of the people quoted below lived):
(1) Warriors, Farmers, Craftsmen, and Merchants
In Athens from the 7th to the 6th century BC, the middle and lower class, which
engaged in commerce and industry, gradually gained its status, becoming a threat
to the aristocrats who depended on farming. Also in China there was a
deep-rooted idea that agriculture is primary and commerce and industry are
secondary. ... Contempt for commerce and industry, as
in Greece, started ... when commerce and industry started growing.
It is noteworthy, however, that in China scholars who defended commerce and
industry also emerged. Actually it is surprising that such scholars are not
known in Greece. ...
Confucius argued for income equality: “I hear that the man who governs a nation
and the man who governs home are more concerned with inequality than scarcity,
more concerned with anxiety than poverty.”
B. Guan Zhong
Guan Zhong was a financial adviser to Lord Huan of Qi (?—643). Scholars
belonging to the Guan Zhong school kept publishing works in the name of Guan Zi up to the days of Emperor Wu of Early Han.
Guan Zhong believed the four classes should live in separate areas, warriors
near the army, farmers near the farm, craftsmen near the government agencies,
and merchants near the market. He also believed the four classes should be
hereditary in principle, although he would allow an exceptionally stout farmer
to be a warrior. ...
He feared the antagonism between the rich and the poor: “When the income
inequality exceeds a limit, everything is lost.” (“Five Aids”). Plato said a
similar thing in The Laws (744D). Guan Zhong tried to solve this problem by the
government’s direct buying selling and its price policy. He encouraged trade
across nations. “Show hospitality to the surrounding nations.” (“Book of
Questions”) “Please build guest houses for foreign merchants.” (“Gravity Part
C. Mo Zi
“When the lower class works hard, public finance prospers.” (“Heaven’s Will”
Part B). He criticized li and yue (morals and music) emphasized by Confucianism
as luxury and extravagance. “We should give food to the hungry, clothes to the
cold, rest to the laborer, and peace to the disorderly.” (“Against Fate” Part
“Therefore the ancient sage kings in their governance appointed the virtuous
people for high positions and valued the wise. They appointed even people from
the lower three classes as long as they were able and promoted them to peerage,
gave them high salaries, and gave them the right to make important political
decisions.” (”Merit of Wisdom” Part A) ...
D. Meng Zi
“Those who exert mind rule others, those who exert body are ruled, the ruled
feed the rulers, the rulers govern the ruled, and this is universal truth.”
(“Lord Wen of Teng Part A”). ...
“There was an ignoble man, who would climb to a high place, look around, and if
he finds a place where he is likely to make a profit, goes there and monopolizes
the profit. Everyone despised this man, and the government started imposing the
merchant tax.” (Gong Sun Chou Part B”).
E. Xun Zi
“A son of a craftsman always succeeds his father’s profession.” (“Influence of a
“Man by nature cannot live without forming a group. If a group does not have
classes, people quarrel. If people quarrel, they become disordered, and if they
are disordered, they fall into trouble. Therefore, life without classes brings
the greatest harm, and that with classes brings the greatest benefit.”
“The best way to repair disorder and eliminate harm is to establish classes and
group people accordingly.” (“National Wealth”).
“If the descendants of lords and aristocrats do not make an effort to observe
morality, they should be relegated to the rank of commoners, and if the
descendants of commoners enhance culture and scholarship, adhere to right
conduct, and strive for moral life, they should be elevated to the rank of aristocrats and ministers.” (“Kingdom”).
“We should lower the farm tax, unify the market and import-export taxes,
minimize recruiting farmers for nonfarm work so that farmers can concentrate on
farming, then the wealth of a nation will increase.” (“National Wealth”)
F. Sima Qian (“Biography of Millionaires”)
“Many commoners without a rank, without meddling with politics, without
interfering with the lives of people, increased wealth by trading at the right
moment. Intelligent people can learn from this.”
“Therefore, farmers provide food, forest guards supply mountain resources, and
merchants distribute these goods. The government did not order the collection of
the goods. It was done because each person did what he could best and wanted to
get what he needed. When the prices are high, that is a sign they will soon
become low. Everybody diligently attends to his task and enjoys doing it just as
water flows to a lower place. He keeps working days and nights, comes even if he
is not called, and supplies goods even if they are not demanded. This stands to
reason and is the way it should be.”
After mentioning how various millionaires obtained their fortunes, he concludes,
“These people did not get rich because they were given land by the government,
nor did they thwart law or did evil things. They observed the law of nature and
found the right moment to act and make a profit. They made a fortune by the
secondary occupation (commerce) and preserved it by the primary occupation (agriculture). What they got by force, they kept it by civility. As the world
changed, they reacted with moderation. That is why it is worthwhile mentioning them.”
G. Sang Hongyang
Sang Hongyang (152BC – 80BC) was the finance minister of Emperor Wu and in 120BC
became the officer in charge of salt and iron monopoly. “Salt Iron Debate” is a
record of the debate between Sang Hongyang versus the Learned and the Wise
chosen from the public regarding the pros and cons of the monopoly of salt and
iron, which took place in 81BC and 30 years later recorded by Huan Kuan.
“Wealth is obtained by strategy, and not by labor. Profit comes from power, and
not from tillage.” (Salt and Iron Debate “distribution”).
“Xian Gao contributes by selling cattle to Zhou, Wu Gu by lending vehicles in
Qin, Gong Shuzi by making use of compasses and measures, and Ou Ye by smelting. Craftsmen perform their tasks in the shops and farmers and merchants trade and
benefit each other.” (Ibid.) And yet, in order to convince the Learned, he
argues that the monopoly of salt and iron has the benefit of suppressing the
avarice of the big merchants.
4 Theory of Prices
Guan Zhong was well aware of the fact that a price is determined by supply and
demand, and conversely, supply and demand respond to price (which he calls
Theory of Light and Heavy).
“The market determined the level of prices. … By observing the market one can
tell whether the nation is orderly or disorderly, whether the supply of goods is
sufficient or deficient. But the market itself cannot determine the supply.”
(“Riding Horses”). ...
Xenophone states, “An increase in the number of coppersmiths, for example,
produces a fall in the price of copper work, and the coppersmiths retire from
business. The same thing happens in the iron trade. Again, when corn and wine
are abundant, the crops are cheap, and the profit derived from growing them
disappears, so that many give up farming and set up as merchants or shopkeepers
or money-lenders.”(Ways and Means iv 6). ...
Posted by Mark Thoma on Saturday, September 29, 2012 at 01:17 AM in Economics, History of Thought |
Posted by Mark Thoma on Saturday, September 29, 2012 at 12:06 AM in Economics, Links |
My attempt to defend the social safety net in a recent
column received a fairly ho-hum response, so let me see if (and hope that) Richard Easterlin
can do better:
When Growth Outpaces Happiness, by Richard Easterlin, Commentary, NY Times:
... As the recent riots at a Foxconn factory in northern China demonstrate,
growth alone, even at sustained, spectacular rates, has not produced the kind of
life satisfaction crucial to a stable society — an experience that shows how
critically important good jobs and a strong social safety net are to people’s
Starting in 1990, as China moved to a free-market economy, real per-capita
consumption and gross domestic product doubled, then doubled again. Most
households now have at least one color TV. Refrigerators and washing machines —
rare before 1990 — are common in cities.
Yet... If anything, they are less satisfied than in 1990, and the burden of
decreasing satisfaction has fallen hardest on the bottom third of the population
in wealth. ... It is startling to find ... a U-shaped pattern of happiness over
time... What explains the “U” at a time of unprecedented economic growth?
Before free-market reforms kicked in, most urban Chinese workers enjoyed what
was called an “iron rice bowl”: permanent jobs and an extensive
employer-provided safety net, which included subsidized food, housing, health
care, child care, pensions and jobs for grown children. Life satisfaction ...
among urban Chinese, despite their much lower levels of income, was almost as
high as in the developed world.
The transition to a more private economy in the 1990s abruptly overturned the
iron rice bowl. ... Life satisfaction in urban areas declined markedly..., its
market transition has given birth to increasing concerns ... about such matters
as finding and holding a job, the availability of reliable and affordable health
care, and provision for children and the elderly. ...
It is noteworthy that at a time when the need for a strong safety net is under
attack in the United States, the world’s most fervent capitalist nation has
inadvertently demonstrated its critical importance for people’s happiness.
Posted by Mark Thoma on Friday, September 28, 2012 at 11:38 AM in Economics, Social Insurance |
A false portrayal of the nature of the problems in Europe may undermine the ability of the ECB to do what’s necessary to save the euro:
Europe’s Austerity Madness, by Paul Krugman, Commentary, NY Times: ...Just a
few days ago, the conventional wisdom was that Europe finally had things under
control. The European Central Bank, by promising to buy the bonds of troubled
governments if necessary, had soothed markets. All that debtor nations had to do
... was agree to more and deeper austerity — the condition for central bank
loans — and all would be well.
But the purveyors of conventional wisdom forgot that people were involved.
Suddenly, Spain and Greece are being racked by strikes and huge demonstrations.
The public in these countries is, in effect, saying that it has reached its
limit: With unemployment at Great Depression levels..., austerity has already
gone too far. And this means that there may not be a deal after all.
Much commentary suggests that the citizens of Spain and Greece are just delaying
the inevitable... But ... the protesters are right. More austerity serves no
Consider Spain’s woes. What is the real economic problem? Basically, Spain is
suffering the hangover from a huge housing bubble... Spain didn’t get into
trouble because its government was profligate. ... Spain actually had a budget
surplus and low debt. Large deficits emerged when the economy tanked...
Spain doesn’t need more austerity..., savage cuts to essential public services,
to aid to the needy, and so on actually hurt the country’s prospects for
successful adjustment. Why, then, are there demands for ever more pain?
Part of the explanation is that ... a significant part of public opinion in
Europe’s core — above all, in Germany — is deeply committed to a false view of
the situation. Talk to German officials and they will portray the euro crisis as
a morality play, a tale of countries that lived high and now face the inevitable
Worse yet, this is also what many German voters believe, largely because it’s
what politicians have told them. And fear of a backlash from voters who believe,
wrongly, that they’re being put on the hook for ... southern European
irresponsibility leaves German politicians unwilling to approve essential
emergency lending to Spain and other troubled nations unless the borrowers are
punished first. ...
And it’s long past time to put an end to this cruel nonsense.
If Germany really wants to save the euro, it should let the European Central
Bank do what’s necessary to rescue the debtor nations — and it should do so
without demanding more pointless pain.
Posted by Mark Thoma on Friday, September 28, 2012 at 01:25 AM in Economics |
Posted by Mark Thoma on Friday, September 28, 2012 at 12:06 AM in Economics, Links |
I was checking my rss feed after class today, and for some reason -- I don't
know what came over me -- I clicked through to a Washington Times article by Ted
Mitt Romney was right about the 47 percent
It contains just what you'd expect from both the paper and the writer, things
Mitt Romney hit the bull’s-eye with his comments regarding the 47 percent of
Americans who do not have any skin in the game as it pertains to paying federal
income tax. Facts are facts.
Romney did hit a bull's-eye, I'll agree with that, but he scored for the wrong team. Anyway:
Mr. Romney is not backing down. Good. The truth is the truth and it’s long past
time someone said it.
As I’ve written before, for at least the past 50 years the Democratic Party has
intentionally engineered a class of political “victims” who have been bamboozled
into being dependent on the federal government for their subsistence, including
food, housing and now health care. They get this without paying any federal
income taxes, and that’s wrong. Something for nothing is always a scam. This is
how you buy votes, plain and simple. ...
The Democratic Party exists because it promotes the creation of dependence on
Fedzilla. ... No able-bodied American should get anything for free while doing
nothing to earn it. ...
Good advice Ted, I hope Romney follows it. Tell the 47% off but good!
Fortunately, the next thing I read was this (see the full post for the
calculations being the numbers presented below):
There Aren’t That Many Takers in America, by Nathan Kelly: ...Mitt
Romney said...:“... there are 47% ... who are dependent upon government, who
believe that they are victims, who believe that government has a responsibility
to care for them, who believe that they are entitled to health care, to food, to
housing, to you name it.”
The ... discussion of dependence on government is at the heart of the Republican
case against Democrats... I attempt to gain some empirical leverage on this
question using information ... from 2011 Current Population Survey March
Creating a working definition of takers is tricky. ... It’s not a sliding scale.
Either you’re a maker or you’re a taker. Since the rhetoric is dichotomous, my
strategy for identifying takers will be dichotomous as well.
So who should we count as a pure taker? ... Of the 24.7% of Americans who did
not work and received government benefits in 2010, more than 70% are either
disabled or retired. 7.7% are not working in order to care for home or family –
not a group that family values conservatives typically malign. 12.8% are going
to school, which likely indicates at least a degree of taking responsibility for
The bottom line here is that there aren’t that many takers in America. The most
restrictive definition pegs the percentage of takers at 2.4%. If we’re willing
to include people in households with at least one earner, that number increases
to 5.2%. ... But these numbers simply don’t line up with the rhetoric of a
massive class of lazy people taking advantage of the rest of us while eating
solely at the trough of government.
Finally, it’s worth pointing out that these are really upper-bound estimates.
Being a taker involves motives as well as work and benefit status. Takers, so
the argument goes, feel no responsibility for themselves and believe that they
are entitled “to you name it.” The CPS data don’t
allow us to examine motives, but if we could, we would likely find even fewer
Workers have not received their fair share of output in recent decades --
wages have lagged behind increased productivity -- so other groups must have
received more than their share. Another definition of "takers" would ask who it
was that received more than they contributed, and I think it's pretty clear who
that group is. Mitt carries their torch.
Posted by Mark Thoma on Thursday, September 27, 2012 at 06:38 PM in Economics, Income Distribution, Politics, Social Insurance |
Ezra Klein on budget caps:
Paul Ryan’s magic budget caps, by Ezra Klein: I’ve gotten some confused
e-mails over David Rogers’
report on Paul Ryan’s ... decision to cap the growth of Medicare spending at
GDP+0.5 percentage points (a rate that is slower than health-care costs
typically grow) to make the rest of his budget numbers add up. ...
Ryan needs these caps because there’s no good evidence that any of his premium
support plans will actually save much money in Medicare. ... So he includes
these caps and tells the CBO that if his premium support plan fails, he’ll save
the money in a different way. In his 2011 budget proposal, that’s through
shifting costs to seniors. In Ryan’s most recent budget, it’s left blank. But
the CBO has no choice. They have to assume Congress will abide by the cap.
This isn’t a trick unique to Paul Ryan. President Obama’s budget proposal also
includes a GDP+0.5 percentage point cap on Medicare’s spending growth. ...
The Simpson-Bowles plan is also
thick with spending caps. ...
One of our worst tendencies in Washington is to debate budget plans ...
dependent on these kinds of caps. The question ... isn’t whether it says it will
save money, but whether the policies in it will actually save money. If Ryan’s
fond hopes for premium support don’t pan out, then his budget has no chance of
meeting its targets. Similarly, if Medicare proves incapable of saving money by
paying for quality, Obama’s numbers aren’t going to happen. And for all that you
hear about how Congress should “just pass Simpson-Bowles,” if Congress can’t
figure out the right mix of policies to hit those caps, then Simpson-Bowles
won’t solve our deficit problems.
These questions, in the end, require a judgment about what’s actually the best
way to save money in the health-care system, how we can raise more tax revenue,
or what will move the needle on growth. But too often, when we say we’re
debating budget policy, we’re actually just debating budget caps. And budget
caps don’t work if the underlying policies fail.
From a footnote that shouldn't be overlooked, more on Paul Ryan's budget
wonkery (or maybe it should be wankery):
Ryan also caps other forms of spending, and his most
recent budget implausibly assumes that all non-entitlement spending will fall
from 12.5 percent of GDP today to 3.75 percent of GDP in 2050. This is more
important to his numbers than his Medicare plan, and it’s also a complete joke.
See page 13 of the
CBO report for more.
I think people take the budget promises issued in campaigns with a grain of salt. It's the underlying philosophy behind the promises that's important. Who are the winners and losers under each of the plans? That's one thing I'd like to see the press pay more attention to. But even more important, I think, is for the press to stop playing along with fear-mongering over the deficit designed to force cuts to programs that will do little to address the long-run problem. We do have debt problems, but do people understand the precise nature of the problem, when the big budget problems are likely to arise, and why? How many people think our long-run budget problem has something to do with the stimulus package, for example, when that is simply not the case? I'm all for more precision in the discussion of budget plans, and for being clear about credible versus non-credible assumptions that the CBO must honor. But I also think the public needs a much better understanding of the problem before they can evaluate the efficacy of proposed solutions.
Posted by Mark Thoma on Thursday, September 27, 2012 at 11:11 AM in Budget Deficit, Economics, Fiscal Policy, Politics |
David Altig says monetary policymakers are better described as gardeners than
engineers, and that "when it comes to policymakers, I'll take a green thumb any day."
But I can't help thinking of
Bernanke's statement in 2009 that he was seeing "green shoots" and renewed
confidence, but those green shoots soon withered. It's true that the
"gardener cannot make the sun shine," but many of us thought more needed to be
done at the time so that "growing conditions are the best that they can be," and have been pushing the Fed to do more ever since:
Scientists? Engineers? How about Gardeners?, by David Altig: In the past few
days Simon Wren-Lewis (at
Mainly Macro) and Noah Smith (at
Noahpinion) have revisited some past musings by Greg Mankiw on whether we
should think of macroeconomists as scientists or engineers. The separation
between the two in Mankiw's telling occurs at the point where macroeconomics
meets policy—when macroeconomists leave the academic cloister and take up the
causes of the real world. In Mankiw's original words:
God put macroeconomists on earth not to propose and test elegant theories but to
solve practical problems.
Wren-Lewis and Smith each have their own issues with the scientist/engineer
taxonomy, but both seem to more or less buy into the notion of macroeconomist
cum policymaker as an engineer.
For my part, I'm not a fan of the engineer metaphor. It seems a little—well,
immodest. Consider these comments, to take just a select few, from Federal
following the decision of the most recent Federal Open Market Committee (FOMC)
meeting. First, from Fed Chairman Ben Bernanke (via
The policies that we have undertaken have had real benefits for the economy in
that they have provided some support, that they have eased financial conditions
and helped reduce unemployment. All that being said, monetary policy, as I've
said many times, is not a panacea, it is not by itself able to solve these
problems. We are looking for policymakers in other areas to do their part. We
will do our part and we will try to make sure that unemployment moves in the
right direction, but we can't solve this problem by ourselves.
And this, from a
September 18 speech by Chicago Fed President Charles Evans:
Given the slow and fragile recovery, the large resource gaps that still exist,
and the large risks we face, it remains clear that we needed a more resilient
economy that can withstand the headwinds that might come its way. Last week the
FOMC provided a more accommodative monetary policy that can help us achieve such
Or this, from a
September 21 speech by Atlanta Fed President Dennis Lockhart:
The core rationale of my support [for the FOMC decision] was to better assure
that the economy remains on a growth trajectory sufficient to steadily, if
gradually, reduce the rate of national joblessness. I am not expecting miracles.
I think the action recently taken by the committee has improved the country's
economic prospects by reducing the potential downside apparent in the incoming
data. In this sense, the policy action was a preventative. But I expect policy
will do more than just prevent backsliding.
To be sure, each of the three express confidence that the FOMC's actions will
yield better outcomes than would otherwise occur. I guess you could say
“engineer” better outcomes, if you like. But I am struck by some of the other
ideas expressed in these comments, related to reducing downside potential,
promoting resilience, and providing some support.
I credit my colleague Mike Bryan (who credits former Cleveland Fed President
Jerry Jordan, our mutual former boss) for suggesting that these types of
motivations are better associated with gardening than engineering science. The
good gardener does not presume to create growth, but knows that he or she can
play a part by ensuring that growing conditions are the best that they can be.
The gardener cannot make the sun shine by applying scientific knowledge, but can
take measures to promote resilience and support until it does.
Science and engineering are important, without doubt. But when it comes to
policymakers, I'll take a green thumb any day.
Posted by Mark Thoma on Thursday, September 27, 2012 at 08:34 AM in Economics, Monetary Policy |
Posted by Mark Thoma on Thursday, September 27, 2012 at 12:06 AM in Economics, Links |
Richard Green, in a debate at The Economist on home ownership:
The opposition's closing
remarks Sep 26th 2012, by Richard K. Green: In his comments, Ed Glaeser
makes a point that I wholeheartedly agree with: the American system of housing
subsidies makes little sense. The largest housing subsidy, the mortgage interest
deduction,... does little to help those at the margin of home-owning...
Nevertheless, I think Mr Glaeser sells his own study short when he argues that
the civic connections established through home-owning are not very important.
Home-owning can help countries overcome legacies in which property owners have
exploited property users—legacies that include the hacienda system in Latin
America and the Philippines, and sharecropping and company towns in America.
There are important links between ownership, personal independence and the sense
of control, as well as the ability to be socially mobile.
One could argue that we in America engaged in an experiment in discouraging
home-ownership for ... minorities in general and African-Americans in
particular. For many years,
real-estate agents and lenders in America discriminated against minorities who
tried to purchase houses, and American housing finance policy discriminated
against African-American and central city neighborhoods. ... Hence the inability
of African-Americans to own homes was very much the result of policies that
One of the upshots of this is that the home-ownership rate among African
at 46%, is considerably lower than it is for white Americans, at 71%.
Controls for wealth, income and demographics are not sufficient to explain the
gap. And ... African-Americans
continue to get
loans at less favorable terms than others.
But does any of this matter? ...—home
equity explains the likelihood that children will complete college better than
any other type of asset... It seems that a lack of access to owner-occupied
housing has prevented African-Americans' access to a college degree. ...
Educational attainment is crucial to social mobility. ... This is both
economically and socially destructive.
The entire debate is
Posted by Mark Thoma on Wednesday, September 26, 2012 at 07:37 PM in Economics, Housing |
Plosser Opposes the 1933-37 Expansion, by Tim Duy: Philadelphia Federal Reserve Charles Plosser spoke yesterday, reiterating his opposition to QE and his expectation that it will have no impact on growth. I don't think any of that should have been a surprise. What caught my attention was this:
Once the recovery takes off, long rates will begin to rise and banks will begin lending the large volume of excess reserves sitting in their accounts at the Fed. This loan growth can be quite rapid, as was true after the banking crisis in the 1930s, and there is some risk that the Fed will need to withdraw accommodation very aggressively in order to contain inflation.
I am somewhat concerned that a Federal Reserve official would use loan growth in the 1930s as an example of what could go wrong with quantitative easing. It should be seen as an example of what could go right.
Presumably, Plosser is talking about something like this graph:
This is a problem because...why? The inflation, that's right:
Yes, there was inflation after 1933. And no, this wasn't a bad thing. The inflation, as well as the loan growth were part of the recovery. They were features, not bugs, of easier policy. And even by 1937, both the price level and loans were below pre-recession peaks. Yet, policy turned prematurely tighter, tipping the US economy back into recession and deflation.
Bottom Line: Fed hawks obsess with the issue of having to unwind quantitative easing when the economy improves. We should be so lucky. Shouldn't we wait until we see some hope that rates can sustain themselves above at least 3% before we worry about this? Somehow the hawks fail to understand that policy is always reversed in the next pahse of the business cycle. Simply put, if we need to unwind quantitative easing, the policy was indeed effective. Plosser takes the wrong lesson away from rapid loan growth in the 1930s. The lesson is not that we should fear recovery. The real lesson was to avoid premature tightening of policy.
Posted by Mark Thoma on Wednesday, September 26, 2012 at 09:24 AM in Economics |
John Kay is tired of hearing the same old same rants about the unaffordable welfare state that he's been hearing for decades:
The economy depends on the welfare state, by John Kay: It is more than 30
years since I first attended a conference on the global welfare crisis. Rarely
have a few months passed without an invitation to another. Last week, Tom
Palmer, the American libertarian, came to London to denounce the
“world-straddling engine of theft, degradation, manipulation and social control
we call the welfare state”.
The content of these rants is familiar. Levels of welfare provision are
unaffordable; government finance is a huge Ponzi scheme. A common conclusion is
to provide an estimate of the discounted value of the cost of some hated item of
expenditure if its current provision were continued into the indefinite future.
Mr Palmer reported that the present value of unfunded liabilities of US medicine
and social security is $137tn.
Social security is a means of inter-generational transfer..., but why ... should
we look after old people, who can no longer do anything for us?
The obvious answer invokes Kant’s categorical imperative: it would be good for
everyone (including ourselves when we are old) if everyone acted in this way. We
feed the generations of our parents and grandparents in the expectation future
generations will come along and do the same for us. But the consequences of this
arrangement do have the character of a Ponzi scheme. One day, the world will end
and the last generation of workers will have been cheated of their expectation
of a peaceful retirement. In the meantime it is possible to calculate enormous
measures of unfunded obligations, and it doesn’t matter. The value of these
obligations is offset by the implied commitments of future generations. ...
Exaggeration can sometimes be forgiven when it is used to draw attention to a
problem that has received insufficient attention. It is less easy to excuse when
it threatens the fragile social arrangements on which economic security depends.
Posted by Mark Thoma on Wednesday, September 26, 2012 at 12:33 AM in Economics, Social Insurance |
Jim Hamilton on what determines prices in oil markets:
Wall Street Journal carried this account last week:
Oil prices dropped more than $3 in less than a minute late in the trading day
on Monday, just as trading volume spiked. The move also dragged down prices of
gold, copper and even the euro.
"Traders were looking like deer in the headlights," said Peter Donovan, a
floor trader... "I called four different desks, and they all said, 'we don't
know.' " ...
The move sparked talk of an erroneous trade—called a "fat-finger" error in
industry parlance—or a computer algorithm gone awry.
Fat finger or no, there was an even bigger drop on Wednesday...
Those who doubt that oil prices are determined solely by fundamentals would
naturally ask, what aspect of the supply or demand for oil could have possibly
changed in the course of less than a minute last Monday? The obvious and correct
answer is, there was no change in either the supply or the demand for physical
oil over the course of that minute. The minute-by-minute price of a NYMEX
contract is determined by how many people are wanting to buy that financial
contract and at what price, not by how much gasoline motorists burned in their
cars that minute. But since changes in the price of crude oil are the key
determinant of the
price consumers pay for gasoline, doesn't that establish pretty clearly that
the whims or fat fingers of financial traders are ultimately determining the
price we all pay at the pump?
In one sense, the answer to that question is yes-- last week's decline in the
price of crude oil will soon show up as a lower price Americans pay for
gasoline. But here's the problem you run into if you try to carry that theory
too far. There are at the end of this chain real people who burn real gasoline
when they drive real cars. And how much gasoline they burn depends in part on
the price they pay-- with a higher price, some people use a little bit less. Not
a lot less-- the price of gasoline could change quite a lot and it would take
some time before you could be sure you see a response in the data. That small
(and often sluggish) response is why the price of oil can and does move quite a
bit on a minute-by-minute basis, seemingly driven by forces having nothing to do
with the final users of the product.
But if the price of oil that emerges from that process turns out to be one at
which the quantity of the physical product that is consumed is a different
amount from the physical quantity produced, something has to give. Indeed, the
bigger price drops we saw on Wednesday followed news that U.S. inventories of
significantly higher than expected ...
Posted by Mark Thoma on Wednesday, September 26, 2012 at 12:24 AM in Economics, Oil |
Posted by Mark Thoma on Wednesday, September 26, 2012 at 12:06 AM in Economics, Links |
Why I Agonize About The Zero Bound, by Tim Duy: I increasingly agonize about the zero lower bound. It's really no secret
that I believe that the faster we normalize interest rates, the better. Such a
goal should appeal to those who believe current monetary policy is reckless. To
be sure, the Fed's forecast that the US economy will be stuck at the zero bound into
2015 does not leave me
filled with confidence; the risks are all too high that the economy will
experience a recession before then. But I very much doubt the Fed can simply
raise interest rates to normalize the yield curve. That would simply invert the
yield curve, and such inversion is a harbinger of recession. As long as the
economy is operating at sub-optimal levels, monetary policy will be constrained
by the zero bound. To lift the economy well clear of the lower bound, we need
greater cooperation between fiscal and monetary authorities. I suspect this will
require making explicit what is often viewed as crazy but many would argue is
already implicit in recent policy, the monetization of some fiscal spending.
Japan serves as a role model for the zero bound problem. As
Paul Krugman notes, fiscal policy has been effective in staving off the
worst consequences of the Japanese financial crisis. But the associated fiscal
deficits appear never ending; the Japanese economy never gained enough strength
to eliminate the dependency on fiscal stimulus, leading to what looks like an
excessive build-up of government debt that now exceeds 200% of GDP.
We frequently see concerns that a build-up of government debt will lead to a
new Japanese financial crisis. Peter
Boone and Simon Johnson are the latest addition to that long line of
thought. On the surface, it might be easy to dismiss such concerns, as they
have been regularly voiced over at least the past 12 years, so far proving to be
incorrect. Japanese interest rates have not skyrocketed, the crisis has not
That said, I would not bet against that crisis over the decade, and I think
that the longer the economy is stuck at the zero lower bound, the more likely it
becomes. Boone and Simon note:
Japan’s taxpayers are already rebelling against small tax increases needed to
limit escalating deficits. This leaves little room for hope that future
taxpayers will accept the larger tax increases needed to repay debts.
Japan’s demographic decline will be hard to reverse...
...A crisis in Japan would most likely manifest as a collapse of confidence
in the yen: At some point, Japanese citizens will decide that saving in any
yen-denominated asset is not worth the risk. Then interest rates will rise; the
capital position of banks, insurance companies, and pension funds will worsen
(because they all hold long-maturing bonds, which fall in value when rates
rise); and fears of insolvency will surface.
The basic story is straightforward. Japan has a fiscal problem, but cannot
find the political will to fix it via tax increases or spending cuts. I am not
surprised. It is too easy to claim that this is simply the outcome of a broken
political system. Fiscal austerity will be met with a recession, just as it has
been elsewhere. And with the economy operating at the zero bound, the Bank of
Japan will have relatively few tools to counteract the recession (actually, no,
but more on that later). Fiscal austerity is easy to say, hard to do.
It is hard to believe, however, that the debt situation in Japan is
sustainable indefinitely (see Noahpinion
here). At some point the Japanese will not be able to finance their deficit
without deep budget cuts, hard default, or soft default in the form of outright
monetizing of debt.
Austerity will prove to be ineffective; I don't think it will be politically
possible. Too many people starving in the streets. Eventually, the hit will be
taken by bondholders. It is simply a question of whether they take that hit in
the form of hard or soft default.
And herein lies the problem with the zero bound. Japan has long moved past
the point where their citizens can worry only about the lost income from
low interest payments. Now it is all about capital preservation, making it
harder to implement either a hard or a soft debt default. In effect, the
outcome of being at the zero bound is an every increasingly large political
class that has a lot to lose by anything that increases interest rates,
inflation or a drop in confidence.
Worse, that large political class makes it increasingly difficult to do what
seems to be the best path, a gradual erosion of the real value of that debt
through inflation. The failure of generate inflation over a period of decades
actually makes it more difficult politically to create that inflation as the
capital losses would be borne more intensely by an ever increasing part of the
population. They are all taxpayers and bondholders. They take the hit in
taxes, spending, or capital position. The longer they wait to take that hit,
the bigger it will be.
What I expect to happen is this: The Bank of Japan will be forced into
outright monetization at some point; a soft default in the form of higher
inflation will occur. And dramatically higher inflation, I fear. Japan has not
for two decades. I suspect they will experience all that pent-up inflation
in the scope of a couple of years.
In other words, you can take your inflation medicine a little bit at a time,
or a whole bunch at once. But a even a little bit at a time becomes
increasingly more difficult politically as the debt load grows larger.
Now, how does this apply to the US? After all, the US does in fact have
inflation, with prices projected to grow at something less than 2% annually.
But this argument assumes that 2% is the "right" inflation rate. I would argue
that it is not the right inflation rate if it is insufficient to lift the
economy from the zero bound. The Fed's own forecasts, and the fear of the
fiscal cliff and the subsequent recession, says we are not yet there.
I suspect the US needs higher inflation, just like Japan. The commitment to
ultra-low inflation seems to be a pendulum that has swung too far. Policymakers
need to take the danger of the zero-bound seriously. And I think the Fed's
forecast imply they are not taking it seriously.
Think we can't create inflation? Think again. Federal Reserve Chairman Ben
gave the answer:
There is no unique solution to the problem of continuing declines in Japanese
prices; a variety of policies are worth trying, alone or in combination.
However, one fairly direct and practical approach is explicit (though temporary)
cooperation between the monetary and the fiscal authorities. Let me try to
explain why I think this direction is promising and may succeed where monetary
and fiscal policies applied separately have not...
...My thesis here is that cooperation between the monetary and fiscal
authorities in Japan could help solve the problems that each policymaker faces
on its own. Consider for example a tax cut for households and businesses that is
explicitly coupled with incremental BOJ purchases of government debt--so that
the tax cut is in effect financed by money creation. Moreover, assume that the
Bank of Japan has made a commitment, by announcing a price-level target, to
reflate the economy, so that much or all of the increase in the money stock is
viewed as permanent....
...The health of the banking sector is irrelevant to this means of
transmitting the expansionary effect of monetary policy, addressing the concern
of BOJ officials about "broken" channels of monetary transmission. This approach
also responds to the reservation of BOJ officials that the Bank "lacks the
tools" to reach a price-level or inflation target.
Isn't it irresponsible to recommend a tax cut, given the poor state of
Japanese public finances? To the contrary, from a fiscal perspective, the policy
would almost certainly be stabilizing, in the sense of reducing the debt-to-GDP
ratio. The BOJ's purchases would leave the nominal quantity of debt in the hands
of the public unchanged, while nominal GDP would rise owing to increased nominal
spending. Indeed, nothing would help reduce Japan's fiscal woes more than
healthy growth in nominal GDP and hence in tax revenues.
Potential roles for monetary-fiscal cooperation are not limited to BOJ
support of tax cuts. BOJ purchases of government debt could also support
spending programs, to facilitate industrial restructuring, for example....
Lifting off the zero bound probably requires a high degree of cooperation
between the fiscal and monetary authorities that may, gasp, require some
outright monetization of government debt. Such monetization is what Bernanke
advocated for Japan, but this advice fell on deaf ears. Because such
cooperation is feared, it is essentially off the table. For now. But what I
think will be the case is that instead of small amounts of cooperation now, we
are setting the stage for large amounts in the future. Debt reduction via
inflation will come; the longer we wait, the more disruptive it will be.
Such thoughtful, careful, technocratic cooperation between monetary and
fiscal authorities, however, is no where to be found. In the US, Europe, and
Japan, at best we have is monetary authorities trying to offset real and
expected fiscal austerity. That path, I fear, only leads us deeper into
permanent zero bound territory.
Bottom Line: 2015 is too long to wait to emerge from the zero bound.
Policymakers need to make efforts to normalize the economic environment a
priority. That may require a level of fiscal and monetary cooperation that
today seems to be unthinkable. But if gets to the point where central banks are
pulled kicking and screaming into such cooperation (the European Central Bank
may be the first to explicitly monetize government spending; I suspect it will
be the only way to keep Greece in the Euro and live up to Draghi's pledge that
the Euro is permanent), then I think we will all wish we had engaged in such
cooperation sooner than later.
Posted by Mark Thoma on Tuesday, September 25, 2012 at 05:49 PM in Economics, Fed Watch, Monetary Policy |
I have a new column I hope you'll want to read:
Romney's Misleading Attack on Social Insurance
[I shoul dnote that the embedded links are, for the most part, added by the editors.]
Posted by Mark Thoma on Tuesday, September 25, 2012 at 11:07 AM in Economics, Fiscal Times, Politics, Social Insurance |
Marketplace interview of Sheila Bair:
... Jeremy Hobson: Now you don't paint a very pretty picture of the relationship
between the various regulators -- in particular, your relationship with the New
York Fed, which was at the time headed by Timothy Geithner. What was the issue
there with you and Geithner?
Bair: Well, I think Tim and I just had profoundly different ways of viewing the
world. He, I think, viewed the large financial institutions as entities that
needed to be supported, because he viewed them as central to the functioning
economy. And I realized their importance to the economy, but I wanted them to
In 2009, when the system was stabled, I wanted to launch programs that would
have forced banks to cleanse their balance sheet; to sell off a lot of these bad
assets. He was not particularly supportive of that approach. So there was little
accountability, and also, I think our economy continues to suffer today because
we just never dealt with a bloated, inefficient financial sector. We propped it
up the way the Japanese did; we didn't have them take their medicine.
Hobson: Well do you think that looking back, then, that we are going to look
back at the crisis and the government's response to the crisis, as a bunch of
people acting honorably and selflessly and in the interest of the country; or
that we will look back and see a rather pathetic picture of people acting in
their own interest, or in the interest of these Wall Street firms?
Bair: I think we will look back and see a regulatory response and a
Congressional response that was unwilling to show independence to these large
financial institutions and that at the end of the day -- not withstanding the
rhetoric -- implemented policies that were highly friendly to these
I don't think that's nefarious; I think it's a skewed perspective. I think Tim
Geithner is an honorable person, and he did what he thought was right. But what
he thought was right was saving institutions like Citigroup. He identified
saving them with saving the country, and they are two very, very different
In a tweet, Zachary Goldfarb says:
Sheila Bair: "I don’t think helping home owners was ever a priority for" Geithner and Summers.
Beyond their policy disputes, it's clear Geithner and Bair just hated each other. Much have had an impact on quality of outcome.
To repeat a complaint I've made many times, we had a balance sheet recession. In response, one set of balance sheets -- those of financial institutions -- received plenty of attention and help. Not so for household balance sheets, and that is one of the reasons the recovery remains so lethargic.
Posted by Mark Thoma on Tuesday, September 25, 2012 at 10:59 AM in Economics, Financial System, Regulation |
Labor's share of income has been declining, and inequality has been
increasing. Will these trends continue?:
Labor's Declining Share of Income and Rising Inequality, by Margaret Jacobson
and Filippo Occhino, FRB Cleveland: Labor income has declined as a share of
total income earned in the United States. This decline was caused by several
factors, including a change in the technology used to produce goods and
services, increased globalization and trade openness, and developments in labor
market institutions and policies.
One consequence of the labor share decline has raised concerns. Since labor
income is more evenly distributed across U.S. households than capital income,
the decline made total income less evenly distributed and more concentrated at
the top of the distribution, and this contributed to increase income inequality.
In this Commentary, we look at how the labor share decline has affected
income inequality in the past, and we study the likely future path of the labor
share and its implications for inequality.
The Decline in Labor’s Share of Income
Household income comes in two types: labor income, which includes wages,
salaries, and other work-related compensation (such as pension and insurance
benefits and incentive-based compensation), and capital income, which includes
interest, dividends, and other realized investment returns (such as capital
gains). During the last three decades, labor’s share of total income has
declined in favor of capital income (see “Behind
the Decline in Labor’s Share of Income” for more detail).
There are a number of ways to measure the share of income that accrues to labor.
We look at three different data sources, and each provides broad evidence of the
decline. According to data from the Bureau of Economic Analysis, labor’s share
of gross national income fluctuated around 67 percent during the 1980s, 1990s,
and early 2000s, but it has declined since then and now stands at 63.8 percent.1
(See figure 1.) According to the Bureau of Labor Statistics, the ratio of
compensation to output for the nonfarm business sector fluctuated around 65
percent until the early 1980s and has declined steadily since, from 63 percent
during the 1980s and 1990s to 58.2 percent most recently. Finally, a 2011 study
of income tax returns and demographic data by the CBO (CBO 2011) finds that
labor’s share of income decreased from 75 percent in 1979 to 67 percent in 2007.
These three data sources measure slightly different labor share concepts, which
is why their estimated levels are different. But they agree in indicating a
significant drop of 3 to 8 percentage points in labor’s share of income since
the early 1980s, with the trend accelerating during the 2000s.
Such a decline had implications for the distribution of incomes. Labor income is
more evenly distributed across U.S. households than capital income, while a
disproportionately large share of capital income accrues to the top income
households. As the share that is more evenly distributed declined and the share
that is more concentrated at the top rose, total income became less evenly
distributed and more concentrated at the top. As a result, total income
Income inequality is the dispersion of annual incomes across households,
relative to the average household income. Inequality affects a variety of other
important economic variables, such as the composition of consumption and
investment, tax revenue and government spending, government policies, economic
mobility, human capital accumulation, and growth. Some economists—most
prominently Raghuram Rajan in his book Fault Lines—have suggested that
rising income inequality contributed to the debt accumulation and financial
imbalances that led to the recent financial crisis. And of course income
inequality is the focus of much attention as an indicator, albeit imperfect, of
the inequality of lifetime income and welfare across households.
Several indicators suggest that inequality was declining up to the late 1970s,
but it has since reversed course. It rose sharply during the 1980s and early
1990s and currently is at near record-high levels. ... [facts and figures on
inequality, several measures presented] ...
This is a sizeable effect. More importantly, most of the effect occurred during
the last decade, when the decline in the labor share was accelerating. Is this
trend going to continue, and how will it affect income inequality going forward?
We use the model described in box 2 to learn about the future path of the labor
share. The model decomposes the labor share into its long-run trend and its
transitory components, and then it forecasts the future path of the overall
labor share. We do all the calculations twice, once with the BEA data and once
with the BLS data.
According to our model, the labor share trend has declined since 1980, with an
accelerated drop in the 2000s, in both sets of data (figure 4). In the BEA data,
the trend declined from levels as high as 69 percent before 1980 to 66.9 percent
in 2000, to 64.9 percent today. In the BLS data, the trend declined from levels
of approximately 64.5 percent before 1980 to 62.8 percent in 2000, to 59.8
percent today. According to these measures, the trend in the labor share
declined 1.5 to 2 percentage points between 1980 and 2000, and then dropped an
additional 2 to 3 percentage points, for a total of 4 to 4.5 percentage points.
Our model indicates that the labor share is currently 1 to 1.5 percentage points
below its long-run trend level. Part of the decline in the labor share in the
past five years was temporary, and it will be reversed as the recovery
continues. Going forward, the labor share will pick up and converge to its
long-run trend value. This will tend to decrease income inequality, lowering the
Gini index by up to 0.5 (0.33 × 1.5) percentage points, as the decomposition in
box 1 indicates.
Income inequality will not necessarily decrease though. As shown in box 1,
inequality is affected not only by the relative shares of labor and capital
income, but also by the concentrations of each. Concentration refers to the way
each type of income is distributed across the households that earn it. In
particular, concentration indexes measure how concentrated capital or labor
income is at the top of the income distribution.
The future path of labor concentration is hard to predict, as it depends on the
evolution of the returns to education and of the wage-skill premium. The
concentration of capital income, however, is strongly procyclical, rising during
recoveries (figure 5), and this suggests that capital income will become more
concentrated at the top in the coming years of the recovery, helping to raise
income inequality even further. This effect has dominated the dynamics of income
inequality during the past two business cycles, so the future path of income
inequality will likely be determined by the strength of the recovery and the
associated pickup of the concentration of capital income.
Posted by Mark Thoma on Tuesday, September 25, 2012 at 09:54 AM in Economics, Income Distribution |
From the perspective of the economics of signaling, Mitt Romney is behaving
like "an awfully small toad":
Romney’s Tax Returns and The Economics of Signaling : Why Small Toads Still
Croak, by Kimberly Clausing, Reed College: When toads compete for mates,
they face important strategic decisions regarding whether to fight over mates or
continue searching. Wanting to take on smaller rivals and avoid larger ones,
toads gauge the wisdom of fighting each other in part by hearing each others’
croaks. Deep croaks belong to larger toads since toad vocal cord length is
associated with toad size. This raises a puzzle, though, for one might think
larger toads would croak and smaller toads would stay quiet, yet most toads tend
to croak, whether or not their voice is deep.
The economics of signaling can help explain this puzzle. As soon as the largest
toads croak, that gives the next largest toads an incentive to croak since
otherwise they’d be assumed to be the average size of the remaining pool of
toads. Once somewhat large toads croak, medium sized toads have an incentive to
croak lest they be assumed smallish, and the situation unravels until nearly all
toads are croaking.
This situation is a useful example of the full disclosure principle at work. As
long as some individuals benefit from revealing beneficial characteristics of
themselves, others are forced to disclose their less stellar characteristics,
lest they be assumed to be a representative member of the remaining pool. ...
Candidates for office have long shared many years of tax returns in order to
allay citizen concerns... Yet Mitt Romney steadfastly refuses to provide the
public with more than two years of tax returns.
How are we to understand this refusal? Does Romney think that his tax returns
are so bad that disclosure is really worse than nondisclosure, even knowing that
the public must be assuming that there is something unpleasant in there? ...
If Romney is a rational strategist, surely he would release the returns
unless he thought there was something in there that was genuinely worse than
what we are already assuming. In the case of animal behavior, that would make
Romney an awfully small toad.
Posted by Mark Thoma on Tuesday, September 25, 2012 at 12:24 AM in Economics, Politics |
Posted by Mark Thoma on Tuesday, September 25, 2012 at 12:06 AM in Economics, Links |
Reminiscent of the signal extraction
problem in the Lucas Island model, how much of the difficulty Romney
is having is due to Mitt in particular, and how much is due to dislike
of the GOP more generally? Robert Reich says it's mostly that people are "beginning to see how radical the GOP
has become," but personally, I'd have to give at least partial credit to Mitt Gaffe-a-Day Romney and his sidekick Paul Marathon-Man Ryan:
The Two Major Views About Why Romney is Losing, and Why the Second is More
Convincing, by Robert Reich: ... There are two major theories about why
Romney is dropping in the polls. One is Romney is a lousy candidate, unable to
connect with people or make his case. The second is that Americans are finally beginning to see how radical the GOP
has become, and are repudiating it.
Many Republicans ... hold
to the first view, for obvious reasons. If Romney fails to make a comeback this
week, I expect even more complaints from this crowd about Romney’s personal
failings, as well as the inadequacies of his campaign staff.
But the second explanation strikes me as more compelling. The Republican
primaries, and then the Republican convention, have shown America a party far
removed from the “compassionate conservatism” the GOP tried to sell in 2000.
Instead, we have a party that’s been taken over by Tea Partiers, nativists,
social Darwinists, homophobes, right-wing evangelicals, and a few rich people
whose only interest is to become even wealthier. ...
The second view about Romney’s decline also explains the “negative coat-tail”
effect — why so many Republicans around the country in Senate and House races
are falling behind. ...
Romney’s failing isn’t that he’s a bad candidate. To the contrary, he’s giving
this GOP exactly what it wants in a candidate. And that’s exactly the problem
for Romney — as it is for every other Republican candidate — because what the
GOP wants is not at all what the rest of America wants.
Posted by Mark Thoma on Monday, September 24, 2012 at 07:11 PM in Economics, Politics |
Excuses Not To Do More, by Tim Duy: Josh Lehner (via
some of his earlier work on the Reinhart and Rogoff results and concludes:
...when the Great Recession is compared not to other U.S. cycles but to the
Big 5 financial crises and the U.S. Great Depression (thanks to U.S. Treasury
for adding that to the graph), the current cycle actually compares pretty
favorably. This is likely due to the coordinated global response to the
immediate crises in late 2008 and early 2009. While the initial path of both the
global and U.S. economies in 2008 and 2009 effectively matched the early years
of the Great Depression – or worse – the strong policy response employed by
nearly all major economies – both monetary and fiscal – helped stop the economic
This is worth highlighting because of the eagerness of policymakers to
embrace Reinhart and Rogoff as an excuse to avoid fiscal and monetary policy.
For instance, see St. Louis Federal Reserve President James Bullard in the
Some may argue that real output and employment in the US have not returned to
the pre-crisis, bubble-induced path that seemed to prevail in the mid-2000s.
Indeed, US employment is about 4.7m lower than at its peak in January 2008. But
this is to be expected. Recoveries in the aftermath of
financial crises tend to be especially protracted, as the work of Carmen
Reinhart and Kenneth Rogoff has documented.
Bullard sees Reinhart and Rogoff as an excuse to do nothing. After all, why
even try when history has proved the long-lasting impact of financial crises?
Bullard completely misses the alternative argument - that if financial crises
are long-lasting, then the policy response needs to be more aggressive. As
Lehner points out, aggressive policy response can mitigate the impact of the
crisis. Bullard should read Reinhart and Rogoff as a demand to do more, not an
excuse to do less.
Indeed, Reinhart and Rogoff have said as much. Via
...if you look at the leaked memo that the Obama administration was using
when they constructed their stimulus, you’ll find, on page 10 and 11, a list of
prominent economists the administration consulted as to the proper size for the
stimulus package. And there, on page 11, is Rogoff, with a recommendation of “$1
trillion over two years” — which is actually larger than the American Recovery
and Reinvestment Act. So if they’d been following Rogoff’s advice, the initial
stimulus would have been even bigger — not nonexistent.
As for Reinhart, I asked her about this for a retrospective I did on the
Obama administration’s economic policy. “The initial policy of monetary and
fiscal stimulus really made a huge difference,” she told me. “I would tattoo
that on my forehead. The output decline we had was peanuts compared to the
output decline we would otherwise have had in a crisis like this. That isn’t
Bullard also argues against a higher inflation target:
To argue against monotonic convergence now would imply that when unemployment
is above the natural rate, monetary policy should aim for inflation above the
Fed’s 2 per cent target. On the face of it, this does not make sense: the US has
experienced periods when both inflation and unemployment have been above
desirable levels. In the 1970s this phenomenon was labelled stagflation.
Monetary policy has been regarded as poor during that period.
Scott Sumner already identified
the sad mistake Bullard makes here. Essentially, Bullard has a limited
sense of history - he knows of only two possible monetary equilibriums, one with
2% inflation and low unemployment, the other with infinite inflation and high
unemployment. What about the Great Recession? Couldn't current monetary
policy, with below target inflation and above target unemployment, also be
regarded as poor? And isn't that the situation we are in now, as Bullard
What does Rogoff have to say about the 2% inflation target? From the FT
If direct approaches to debt reduction are ruled out by political obstacles,
there is still the option of trying to achieve some modest deleveraging through
moderate inflation of, say, 4 to 6 per cent for several years. Any inflation
above 2 per cent may seem anathema to those who still remember the
anti-inflation wars of the 1970s and 1980s, but a once-in-75-year crisis calls
for outside-the-box measures.
...many (if not necessarily all) central banks will eventually figure out how
to generate higher inflation expectations. They will be driven to tolerate
higher inflation as a means of forcing investors into real assets, to accelerate
deleveraging, and as a mechanism for facilitating downward adjustment in real
wages and home prices.
Rogoff apparently does not take his research to imply that policymakers
should give up. And he explicitly identifies higher inflation targets as a
potential tool. Yet Bullard (like most of the Fed) is married to the 2% target
without any consideration that the appropriate inflation target may vary across
time and economies, and he essentially cites Rogoff as a reason to justify this
position. You can't do more, so why try?
Bottom Line: Policy is effective even in the aftermath of a financial
crisis. Don't let policymakers fool you into believing otherwise.
Update: I notice some Twitter chatter of surprise that Rogoff was not
completely opposed to fiscal stimulus (I thought everyone read Ezra Klein).
Some additional quotes from the FT would be helpful:
At the root of today’s credibility deficit is a failure to come to grips with
the long, slow growth period that is typical of post-financial crisis
recovery...By far the main problem is a huge overhang of debt that creates
headwinds to faster normalisation of post-crisis growth – that is why
post-financial crisis growth is typically very slow...It is far from clear that
any huge temporary fiscal stimulus will rev up the engine enough to achieve
self-sustaining growth...The most direct remedy, of course, would be to find
expeditious approaches to cleaning up balance sheets whilst maintaining the
integrity of the financial system...If direct approaches to debt reduction are
ruled out by political obstacles, there is still the option of trying to achieve
some modest deleveraging through moderate inflation of, say, 4 to 6 per cent for
I think the story here is that fiscal stimulus is only a temporary measure,
not a long-run solution. The long-run solution is dealing with the debt
overhang, which can be addressed with more aggressive monetary policy.
Posted by Mark Thoma on Monday, September 24, 2012 at 12:03 PM in Economics, Fed Watch, Monetary Policy |
Not having much luck finding new things to post or talk about -- while I continue to look
here's an echo of a Brad DeLong echo of John Sides:
John Sides: There Is No White Working Class. There Is a Southern White Working
Class and a Rest-of-the-Country White Working Class, and Nobody Pays Attention
to Either: John Sides on the centrality of race in this sliver of the
Puncturing Myths about the White Working Class: A new survey… is a valuable
corrective…. For example, consider this:
In mid-August, Romney held a commanding 40-point lead over Obama among white
working-class voters in the South (62% vs. 22%). However, neither candidate held
a statistically significant lead among white working-class voters in the West
(46% Romney vs. 41% Obama), Northeast (42% Romney vs. 38% Obama), or the Midwest
(36% Romney vs. 44% Obama)….
In my experience, the white working class gets a ton of attention,
especially when elections come around…. But when we discuss the white
working class during elections, another fact rarely raises its head: the
enormous inequalities in political voice that arguably marginalize the white
working class when it comes to policy-making…. [O]nly the views of the upper
class appear to affect whether policies are enacted in law. So the problem
isn’t that the white working class is trending Republican or that it votes
against its economic interests or that it’s being hoodwinked by social
issues. The the problem is that no matter what the white working class
thinks, no one is listening.
Posted by Mark Thoma on Monday, September 24, 2012 at 11:34 AM in Economics, Politics |
Mitt Romney thinks he can use his magical powers to make the economy recover
"without actually doing anything":
The Optimism Cure, by Paul Krugman, Commentary, NY Times: Mitt Romney is
optimistic about optimism. In fact, it’s pretty much all he’s got. And that fact
should make you very pessimistic about his chances of leading an economic
Mr. Romney’s five-point “economic plan” is very nearly substance-free. It
vaguely suggests that he will pursue the same goals Republicans always pursue...
But it offers neither specifics nor any indication why returning to George W.
Bush’s policies would cure a slump that began on Mr. Bush’s watch.
In his Boca Raton meeting with donors, however, Mr. Romney revealed his real
plan, which is to rely on magic. “My own view is,” he declared, “if we win...,
there will be a great deal of optimism about the future of this country. We’ll
see capital come back, and we’ll see — without actually doing anything — we’ll
actually get a boost in the economy.”
Are you feeling reassured? ... You should ... know that efforts to base policy
on speculations about business psychology have a track record — and it’s not a
Back in 2010, as European nations began implementing savage austerity programs
to placate bond markets, it was common for policy makers to deny that these
programs would have a depressing effect... Why? Because these measures would
“increase the confidence of households, firms and investors.”...
I ridiculed such claims as
belief in the
“confidence fairy.” And sure enough, austerity programs actually led to
Depression-level economic downturns across much of Europe.
Yet here comes Mitt Romney, declaring, in effect, “I am the confidence fairy!”
Is he? As it happens, Mr. Romney offered a testable proposition in his Boca
remarks: “If it looks like I’m going to win, the markets will be happy. If it
looks like the president’s going to win, the markets should not be terribly
happy.” How’s that going? Not very well. Over the past month conventional wisdom
has shifted from the view that the election could easily go either way to the
view that Mr. Romney is very likely to lose; yet markets are up, not down, with
major stock indexes hitting their highest levels since the economic downturn
It’s all kind of sad. Yet the truth is that it all fits together. Mr. Romney’s
whole campaign has been based on the premise that he can become president simply
by not being Barack Obama. Why shouldn’t he believe that he can fix the economy
the same way?
But will he get a chance to put that theory to the test? At the moment, I’m not
Posted by Mark Thoma on Monday, September 24, 2012 at 12:24 AM in Economics, Politics |
Gramm and Taylor Don't Get It, by Tim Duy: As a general rule, I stay clear of the Wall Street Journal editorial pages. I'll be honest - I just
don't have the emotional energy for it anymore. But Brad DeLong
forced it on all of us this weekend, drawing attention to another anti-QE
article, this time penned by
Phil Gramm and John Taylor.
DeLong gets to the heart of the problem. Gramm and Taylor don't seem
to realize that the stock of Treasuries is the same regardless of who owns
them. What GT see as higher future interest rates would simply be higher
current interest rates if the Fed was not temporarily substituting some cash for
bonds. DeLong summarizes:
So why are Taylor and Gramm arguing that returning interest rates in 2016
and after to what they would have been anyway is a cost to QE III? It's a zero.
It's not a change. It simply does not compute.
Yet there is still room to build upon DeLong's critique. GT get off to a bad
That kind of monetary expansion would normally be a harbinger of inflation.
However, with banks holding excess reserves rather than lending them out—and
with velocity (the rate at which money turns over generating national income) at
a 50-year low and falling—the inflation rate has stayed close to the Fed's 2%
While the Fed considered its previous rounds of easing—QE1, QE2 and Operation
Twist—the argument was consistently made that the cost of such actions was low
because inflation was nowhere on the horizon. The same argument is now being
made as the central bank contemplates QE3 during the Federal Open Market
Committee meetings on Wednesday and Thursday.
Inflation is not, however, the only cost of these unconventional monetary
Notice that they admit that inflation has remained under control, yet then
proceed to claim that inflation is a cost of QE. How can inflation be both
under control and a cost? It can't, of course; GT just can't admit that
inflation is not a problem even after actually admitted that fact. GT continue:
As investors try to predict the timing and effect of Fed policy on financial
markets and the economy, monetary policy adds to the climate of economic
uncertainty and stasis already caused by current fiscal policy.
QE3 actually reduces the uncertainty about monetary policy. Rather than
defining QE by arbitrary amounts and end dates, we now have a steady flow of QE
tied only to improving economics conditions in the context of price stability.
No more uncertainty that the Fed will pull policy support regardless of the
state of the economy. More:
Since September 2008, the Fed has acquired $1.16 trillion of government
securities—in fiscal year 2011 (Oct. 1, 2010-Sept. 30, 2011), the central bank
bought 77% of all the additional debt issued by the Treasury. Aside from the
monetary impact of these debt purchases, the Fed allowed the federal government
to borrow a trillion dollars without raising the external debt of the Treasury
and without having to pay net interest on that portion of the debt, since the
central bank rebated the interest payments to the Treasury.
So GT do not consider the Treasury debt held by the Fed as real debt
because...why? Apparently because all of the Fed's profit need to be returned
to the Treasury at the end of the year. That doesn't mean it isn't real debt,
issued to cover deficit spending and issued without the expectation of outright
monetiziation. Moreover, private investors see the Fed's holdings as part of
the aggregate Treasury debt and will set their price expectations accordingly.
When the Fed must, in Chairman Ben Bernanke's words, begin "removing
liquidity," by selling bonds, the external debt of the federal government will
rise and the Treasury will then have to pay interest on that debt to the public.
Selling a trillion dollars of Treasury bonds on the market—at the same time the
government is running trillion-dollar annual deficits—will drive up interest
rates, crowd out private-sector borrowers and impede the recovery.
This just makes my head hurt. If the Fed needs to sell their portfolio into
the market, this will be because interest rates are already rising. Let's take
this slowly: Currently, interest rates are at very low levels. If the economy
improves, there will be upward pressure on interest rates. Yes, interest rates
will rise, and supposedly "impede the recovery." Yes, this will have an impact
on growth, but that is exactly what you might expect if the LM curve slopes
upward (if the IS curve increases, both output and interest rates rise). And
yes, the Fed will likely follow rising long term interest rates by reversing the
This should be absolutely, 100%, not a controversial subject because,
surprise, surprise, the Fed reverses their policy stance in every expansion.
That is a feature of monetary policy, not a defect.
Moreover, assuming the economy is operating near potential, the Fed would not
be crowding out the private sector; they would only be controlling inflation.
Only the fiscal authority can crowd out the private sector by not engaging in
counter-cyclical policy. And if the fiscal authority does indeed not control
deficit spending as needed, it would be the Fed's job to compensate to the best
of their abilities.
In addition, Operation Twist, by shortening the average maturity date of
externally held debt, will require the Treasury to borrow more money sooner when
the economy recovers and interest rates start to rise. This too will drive up
interest costs and the deficit.
The issue here, I think, is that the Fed is swapping out short-dated assets
that they normally would have rolled over when the assets matured (assuming they
wanted to hold the balance sheet constant). Thus, the Treasury needs to
increase its debt issuance to the public compensate in the near term.
But guess what? First, if the Fed didn't hold the debt in the first place, then
the public would hold the debt with the same consequences for the Treasury at
maturation. Second, the US Treasury is wisely extending the maturity of its
debt; see Jim Hamilton
here. Extending the maturity will help reduce the pressure to
refinance short term debt and lock in low longer term interest rates. Moreover,
the Treasury has time time to implement these changes; interest rates are not
GT make similar errors with mortgage rates:
The same problems will occur as the Fed begins to sell its holdings of
mortgage-backed securities to reduce the monetary base. When the Fed bought
these securities, it may have marginally reduced mortgage interest rates.
Selling them during a real recovery will likely cause mortgage rates to rise.
Yes, once again in a real recovery mortgage rates will rise. Just as in the
past. And guess what happens if they don't rise - then you might in fact get
that inflation the authors so fear. Again, rising rates are a feature, not a
defect. GT, inexplicably, continue:
Proponents of QE3 argue that while the Fed's balance sheet must be reduced at
some future time, it has the tools to minimize the impact on interest rates by
slowing down the pace of the sales. But the Fed's ability to act has already
been compromised by its pledge to maintain low interest rates through 2014.
Having to time open-market sales to minimize interest-rate increases will
further limit the Fed's ability to preserve price stability.
Once again, with emphasis, it is not a commitment. Believe me, many of us
would like to see a commitment to be irresponsible. This isn't it. It is a
conditional forecast; if economic activity exceeds current projections, the Fed
will tighten policy sooner than currently anticipated. Finally:
The Fed could raise the interest rate that it pays banks on reserves they
hold in lieu of reducing its balance sheet. Where would the money come from? It
has to come out of the money the Fed is currently paying the Treasury, driving
up the federal budget deficit. How will taxpayers feel about subsidizing banks
not to lend them money?
Yes, the profits from monetary policy accrue to the US Treasury. Yes,
profits are currently unusually high. Yes, if interest rates, and along with
them policy, normalizes, then those profits will fall. Will this drive up the
budget deficit? Consider the bigger picture. If the economy is accelerates
such that there is upward pressure on interest rates, then the deficit will be
eased by the activation of automatic spending and revenue stabilizers. In other
words, we will have a choice - the Fed can hold the economy down now by
withdrawing monetary stimulus, which will in turn widen the deficit, or foster
stronger activity which will lower the deficit in the future. The Fed's profits
are of third or fourth or fifth order importance in this process.
Bottom Line: If the US economy was not operating at the zero bound, the
Federal Reserve would react to improving economic conditions and tighten policy
by selling Treasury securities in the process of targeting a higher Federal
Funds rates. John Taylor should know this. Now, with quantitative easing, if
economic conditions improve, the Fed will tighten policy by...yes, the same
thing, selling Treasury securities. In either case, the Fed will only do this
if interest rates are already responding to stronger activity. In this light,
the Fed isn't really doing anything new. I don't think you should fear the Fed
having to withdraw the stimulus. Indeed, I think you should really fear the
opposite - that the economy does not lift off the zero bound before the next
recession hits. If that happens, we will all be wishing the Fed had done more,
Posted by Mark Thoma on Monday, September 24, 2012 at 12:15 AM in Economics, Fed Watch, Monetary Policy |
Posted by Mark Thoma on Monday, September 24, 2012 at 12:06 AM in Economics, Links |
This is David Warsh on the worries about a great stagnation in our future (I remain an optimist about the future, at least when it comes to productivity. I think that, since we are part of it, it's hard to see how big of an impact the digital revolution will have on the future, or even how big of an impact it has had already. So I believe we will continue to grow robustly once our current troubles are behind us. But as digital technology advances and eliminates working class jobs -- jobs with decent pay and decent benefits -- there is a danger of an increasingly two-tiered society. For that reason, I think we are worried about the wrong thing. The big problems of the future will be about distribution, not production. We'll have plenty of stuff, but wil it be distributed in a way that allows prosperity to be widely shared?):
Times Come Again Once More?, by David Warsh: I keep a couple of books on the
shelf above my desk to remind me of how much things have changed over the past
hundred years. One is
Only Yesterday: An Informal History of the 1920s, by Frederick Lewis
Allen, which first appeared in 1931. The other is
The Great Leap: The Past Twenty-Five Years in America, by John Brooks,
published in 1966. Some crackerjack journalist is surely working today on a
similarly successful treatment of the as-yet hard-to-characterize years since
1966. In the meantime,
The Good Life and Its Discontents: The American Dream in the Age of
Entitlement 1945-1995, by Robert Samuelson, takes the story forward.
The really interesting question, though, has to do with what to expect in the
next twenty years.
One thing that Yesterday and Leap have in common, a
characteristic that in all likelihood will be shared by the book that eventually
joins them, is that there are hardly any numbers in them – nothing to link
together the two epochs, or to foreshadow the future. Measurement is
the province of economists. Compelling journalism seldom has time.
Therefore I have been reading, with special interest (and a certain dread),
Is US Economic Growth Over?
Faltering Innovation Confronts the Six Headwinds, by
Robert J. Gordon, of Northwestern University. In fact, I read it last
summer, even before it was a National Bureau of Economic Research working paper,
since Gordon is a friend. It’s a short report (25 pages) on an ambitious work in
Beyond the Rainbow: The American Standard of Living Since the Civil War,
a book version of the article, already long in preparation, will be anything but
brief when it’s finally done. It will, however, be the definitive survey of
American living standards over the last 150 years. (Think Carmen Reinhart and
Kenneth Rogoff, This Time Is Different, on the history of financial
crises.) It will formulate an educated guess about the future as well. And
since that prediction has implications for anyone following the election
campaign (and more than just them!), there is good reason for considering it
The standard assumption is that, after the disruptions of the financial crisis,
and once various fiscal imbalances have been resolved (pensions, health care
obligations, etc.), the United States will resume the real per capita GDP growth
of around 2 percent a year that we’ve enjoyed since 1929. In the immediate
aftermath of the crisis, I
with it myself. Technology, the growth of knowledge, will see us through.
What if it won’t? ... There are two sides to Gordon’s argument... [continue
Posted by Mark Thoma on Sunday, September 23, 2012 at 01:38 PM in Economics, Technology |
points to Joe Weisenthal's response to the Romney campaign's housing plan
(calling it a "plan" gives it more credit than it deserves):
Mitt Romney's Housing Market Plan Has Got to Be a Joke, by Joe
Weisenthal: At this point, we have no choice but to conclude that
the Mitt Romney campaign is just trolling whiny journalists who have
complained about the lack of detail in his plans.
Yesterday evening (a Friday evening!) the campaign revealed a
whitepaper titled Securing the American Dream and The Future of Housing
Policy that's so unsubstantial, we half-suspect the timing was done so
that nobody would see it amid the release of the 2011 tax documents,
which came out about 20 minutes earlier. This is honestly a sentence in
his whitepaper on The Future Of Housing Policy:
The Romney-Ryan plan will completely end “too-big-to-fail” by
reforming the GSEs.
Romney and Ryan believe that "too-big-to-fail", which generally
refers to the assumption that a collapse of a major Wall Street
institution would be catastrophic to the overall economy, thus making a
bailout imperative, would be solved by the reform of Fannie and Freddie.
Or maybe Romney and Ryan believe that only Fannie and Freddie are too
big to fail, and that the collapse of a mega-bank would be fine. Those
are the only possible readings of that sentence. As for Romney and
Ryan's plan to reform the GSEs, the plan is to... reform them..., basically there are no details at all. Too Big To Fail will be
fixed by reforming the GSEs, and the GSEs will be fixed... somehow….
It's reasonable to think that the challenger who is trying to disrupt
the status quo, actually says something that would... disrupt the status
quo. Failing to provide any details or a plan during the heart of the
campaign undermines the notion that he is a serious alternative.
Bonus Brad DeLong ridicule of the "plan":
"End 'Too-Big-to-Fail' by Reforming the GSEs": Are Romney and His Campaign That
The Romney-Ryan plan will completely end “too-big-to-fail” by
reforming the GSEs. The four years since taxpayers took over Fannie Mae
and Freddie Mac, spending $140 billion in the process, is too long to
wait for reform. Rather than just talk about reform, a Romney-Ryan
Administration will protect taxpayers from additional risk in the future
by reforming Fannie Mae and Freddie Mac and provide a long-term,
sustainable solution for the future of housing finance reform in our
That is the
Romney housing white paper's section on the GSEs and
That is not the introduction to the section.
That is the section.
That is the entire section.
I don't know which is scarier:
That Romney and everybody else in his campaign think that a
"white paper" on housing can cover both the GSEs
and "Too-Big-to-Fail" in 85 words.
That Romney and everybody else in his campaign think that if the
GSEs are somehow "reformed" that that can somehow magically resolve
"Too-Big-to-Fail" as well--make it so that there are no longer any
problems of systemic risk associated with the potential bankruptcy
of Citi, JPMC, Wells-Fargo, BoA, GS, Morgan Stanley, or any of the
other systemically-important financial institutions.
People: which scares you more?...
Posted by Mark Thoma on Sunday, September 23, 2012 at 09:49 AM in Economics, Financial System, Housing, Policy, Politics |
Posted by Mark Thoma on Sunday, September 23, 2012 at 12:06 AM in Economics, Links |
to Japanic?, by Noah Smith: The Atlantic has
a big story on the impending Japanese crash; one of the authors is the
brilliant Simon Johnson. ...
This prophecy is hardly unique; I have
beaten this drum myself. If Japan doesn't change course, it will have a
major crisis within the next decade.
If. But what people need to understand is, the Japanese government does
have the power to avert a crisis. It is not inevitable.
There is one way that the crisis can definitely be averted: Raise taxes.
Japan's fiscal woes can be boiled down to one sentence: Japan has European
levels social spending and European levels of aging with American levels of
taxation. But this could change; if Japan raised taxes to European levels,
crisis would be instantly averted. According to analyses I've seen, this would
require raising Japan's taxes from their current level of 32.5% of GDP to
40% and 50% of GDP.
That's comparable to France or Sweden. Painful, but not impossible.
Now for the rumor (rumor always being a large component in Western analyses of
Japan). My sources at the Bank of Japan and Ministry of Finance tell me that
domestic Japanese investors are betting that, after all the grumbling and
fighting and ending of political careers, Japan's government will suck it up and
raise taxes. This, my shadowy sources say, is why pension funds are still
willing to put the Japanese people's money into JGBs.
But this story is not really outlandish. It's similar to what we're observing in
America right now. U.S. borrowing is at all-time highs, but demand for
Treasuries shows no sign of flagging, and most of that demand - more than in the
past - is from
domestic U.S. investors. Yes, we have shown a reluctance to raise taxes -
witness the apocalyptic debt ceiling fight from last year. But if the public
really thought the U.S. government was willing to default, domestic Treasury
buyers would be heading for the exits. That they are not heading for the exits
probably indicates that they believe that when push comes to shove, the U.S.
government will suck it up and raise taxes. There are signs that the
Republicans are quietly recognizing the necessity of this. At this point,
it's just a fight between Democrats and Republicans to see who takes the fall
for raising taxes - that's what the "fiscal cliff" is really all about.
Japan seems to be in a similar situation. It is not really unusual or outlandish
at all. Everyone in the country still seems to believe that the government will
continue to function. The day that that that belief falters - or is proven wrong
by main force, when interest payments swamp the primary budget - is the day that
Japan collapses (the same goes for the U.S.). But if Japan's government is less
dysfunctional than the often skittish Western press believes, that day will
(Anyway...oh yeah, I did mention that there might be two ways out of
Japan's fiscal trap, didn't I? The other way is to use monetary policy to create
negative interest rates. If that can be done in a stable way (without
accelerating inflation) and if stable growth persists, then Japan can use an
"inflation tax" to erode the value of its government debt instead of an actual
tax. Econ bloggers (and commenters), who tend to believe that central banks can
hit any NGDP target they want, will probably advocate this "solution"...)
Posted by Mark Thoma on Saturday, September 22, 2012 at 11:24 AM in Economics |
In macroeconomic models, if everything works perfectly -- if all markets
clear at all points in time, prices are fully and instantaneously flexible,
people have the information they need, and so on -- then monetary policy will have no affect on real variables such as output and employment. Only nominal variables
such as the price level will change. This is known as monetary neutrality.
In order to get non-neutrality, i.e. in order to make it so that changes in
the money supply can change real output and employment in a theoretical model, there must be a friction of some sort. One popular friction is price/wage rigidity, but it is not the only type of
friction that can generate non-neutralities. Any friction that prevents optimal
and instantaneous response to a shock will overcome neutrality
and restore the ability of the Fed to affect the course of the real economy.
The point I want to emphasize is that the optimal monetary policy rule
depends upon the underlying friction that is being used to generate
non-neutralities in the theoretical model. For example, Calvo type price rigidity combined
with some sort of social objective function such as maximizing the welfare of
the representative household often gives you something that resembles the
standard Taylor rule (though whether the level and/or the growth rates of price
and output belong on the right-hand side of the Taylor rule depends upon the
nature of the friction, i.e. even in this case the standard Taylor rule may not
be the optimal rule).
I am willing to believe that during the Great Moderation the standard Taylor
rule may have at least been close to the optimal rule. If you believe price frictions were the source of the mild fluctuations we had during that time, then theory tells us that's
possible. What puzzles me is why people think the same rule should work now. I
don't think that Calvo type price rigidities are the reason for the problems we are having right now, and hence this does not give us much insight and
explanatory power for the Great Recession. Mild price sluggishness is plainly and simply not the
dominant friction at work right now, and if that is the case, why would we think
the same monetary policy rule should be optimal? If, in fact, there has been a
switch in the dominant type of friction affecting the economy -- and I would
argue there has been -- it would be quite remarkable for the same monetary
policy rule to be optimal in both situations.
So, I have to agree with Paul Krugman:
Self-contradictory Fed Bashing:
David Glasner continues to be unhappy with the Bernanke/QE bashers, this
time going after claims that the Fed’s monetary policy was too easy before the
Much of this discussion is couched in terms of the Taylor Rule, which John
Taylor originally suggested — a rule that sets the Fed funds rate based on
inflation and either unemployment or some measure of the output gap. This was a
clever idea, and has proved useful as a rule of thumb for both description and
prediction. But a funny thing happened on the way to the crisis: Taylor and
others have elevated this rule to sacred status — and not only that: they have
insisted that the original coefficients Taylor suggested, which he basically
pulled out of, um, thin air, are sacrosanct.
Surely this is silly. ...
Krugman is not making the argument that the nature of the friction has
changed and therefore the optimal rule should change as well. That's my argument
so blame me, not him. But the idea that the Taylor rule should have "sacred
status" is "silly," and I don't understand why Taylor and others insist that the coefficients of the rule -- let alone the rule
itself -- are optimal always and everywhere (there may be a robustness
argument -- this is the best possible rule in the face of model uncertainty -- but
that's not the argument being made).
Posted by Mark Thoma on Saturday, September 22, 2012 at 09:25 AM in Economics, Monetary Policy |
Posted by Mark Thoma on Saturday, September 22, 2012 at 12:06 AM in Economics, Links |
document News Corporation's distortions on climate change:
Brenda Ekwurzel is a climate scientist with the Union of Concerned Scientists.
She announced in New York City on September 21st the results of an analysis of
climate change coverage at two major properties of the News Corporation, the Fox
News Channel and the Wall Street Journal.
“What we found in our
analysis was that a staggering 93 percent of all occurrences in the last six
months in the prime time news of Fox News were misleading occurrences of climate
science. Okay, for the Wall Street Journal opinion section in the last year, we
found a surprising 81 percent of the occurrences were misleading. And of the
accurate ones, these were all letters to the editor that were submitted in
response to misrepresentations in editorials or other letters. So, a broad swath
of News Corporation viewers and readership are being
misled about the science.”
Posted by Mark Thoma on Friday, September 21, 2012 at 05:27 PM in Economics, Environment, Press |
The United States is caught in a vicious cycle largely of its own
making. Rising income inequality is breeding more inequality in
educational opportunity, which results in greater inequality in
educational attainment. That, in turn, undermines the intergenerational
mobility upon which Americans have always prided themselves and
perpetuates income inequality from generation to generation.
This dynamic all but guarantees a permanent underclass.
Posted by Mark Thoma on Friday, September 21, 2012 at 12:06 PM in Economics, Income Distribution, Universities |
Via Jared Bernstein, who says of the first graph, "All told, clearly some redistribution here but not anything that would lead to stark divisions between 'makers and takers'":
But tax expenditures go mostly to -- surprise! -- the top of the income distribution:
Posted by Mark Thoma on Friday, September 21, 2012 at 10:08 AM in Economics, Income Distribution |
Today's GOP doesn’t have much respect for workers:
Disdain for Workers, by Paul Krugman, Commentary, NY Times: By now everyone
knows how Mitt Romney, speaking to donors in Boca Raton, washed his hands of
almost half the country — the 47 percent who don’t pay income taxes... By now,
also, many people are aware that the great bulk of the 47 percent are hardly
moochers; most are working families who pay payroll taxes, and elderly or
disabled Americans make up a majority of the rest.
But here’s the question: Should we imagine that Mr. Romney and his party would
think better of the 47 percent on learning that the great majority of them
actually are or were hard workers, who very much have taken personal
responsibility for their lives? And the answer is no.
For ... the modern Republican Party just doesn’t have much respect for people
who work for other people... All the party’s affection is reserved for “job
creators,” a k a employers and investors. ...
Am I exaggerating? Consider the Twitter message sent out by Eric Cantor, the
Republican House majority leader, on Labor Day...: “Today, we celebrate those
who have taken a risk, worked hard, built a business and earned their own
success.” Yes, on a day set aside to honor workers, all Mr. Cantor could bring
himself to do was praise their bosses.
Lest you think that this was just a personal slip, consider Mr. Romney’s
acceptance speech at the Republican National Convention. What did he have to say
about American workers? Actually, nothing...
Where does this disdain for workers come from? Some of it, obviously, reflects
the influence of money in politics... But it also reflects the extent to which
the G.O.P. has been taken over by an Ayn Rand-type vision of society, in which a
handful of heroic businessmen are responsible for all economic good, while the
rest of us are just along for the ride.
In the eyes of those who share this vision, the wealthy deserve special
treatment, and not just in the form of low taxes. They must also receive
respect, indeed deference, at all times. That’s why even the slightest hint from
the president that the rich might not be all that — that, say, some bankers may
have behaved badly, or that even “job creators” depend on government-built
infrastructure — elicits frantic cries that Mr. Obama is a socialist. ...
The point is that ... the Boca Moment wasn’t some trivial gaffe. It was a window
into the true attitudes of what has become a party of the wealthy, by the
wealthy, and for the wealthy, a party that considers the rest of us unworthy of
even a pretense of respect.
Posted by Mark Thoma on Friday, September 21, 2012 at 12:33 AM in Economics, Politics |
Posted by Mark Thoma on Friday, September 21, 2012 at 12:06 AM in Economics, Links |
Acemoglu and Robinson argue Europe's troubles aren't over yet:
Europe Saved?, by Daron Acemoglu and James Robinson: September has been a
good month for the euro-zone. ... So is Europe saved?
We think not. The problems underlying the European crisis were institutional.
What we are seeing now are mostly short-term fixes, not true solutions to these
The roots of the crisis lie in the difficulty of operating a currency union
without centralized fiscal authority. ... For the euro to survive and contribute
to European economic prosperity in the medium term, Europe needs to follow the
example of the United States as it transitioned from the Articles of
Confederation of 1781 to the U.S. Constitution, which entailed strengthening the
currency union with debt renegotiation (with the federal government assuming
state liabilities) and more importantly, meaningful fiscal centralization.
And yet, there is no realistic plan for true fiscal centralization in Europe...,
[which] means a European organization with the power to set taxes and harmonize
labor, product and credit market institutions. But this is not possible without
some centralization of political and military power. It was crucial that with
the U.S. Constitution, political and military power shifted to the federal
This is not on the cards for Europe... So for the time being, we have to make do
with short-term fixes, and in all likelihood, Europe isn’t saved just yet.
Posted by Mark Thoma on Thursday, September 20, 2012 at 07:14 PM in Economics |
Getting Lonely to be a Hawk, by Tim Duy: Minneapolis Federal Reserve President Narayana Kocherlakota today gave a speech that was something of a shocker. But a little background first. Kocherlakota has generally be viewed as a hawk, more so than his colleague St. Louis Federal Reserve President James Bullard. See, for example, the Credit Suisse mapping of Fed policymakers. I referred to Kocherlakota as one of the "Three Stooges" among the voting members of the 2011 FOMC meetings in regards to his dissents. So it came as something of a surprise today when he said:
The substance of this liftoff plan is that, as long as longer-term inflation expectations remain stable, the Committee will not raise the fed funds rate unless the medium-term outlook for the inflation rate exceeds a threshold value of 2 1/4 percent or the unemployment rate falls below a threshold value of 5.5 percent. Note that neither of these thresholds should be viewed as triggers—that is, once the relevant cutoffs are crossed, the Committee retains the option of either keeping the fed funds rate extraordinarily low or raising the fed funds rate.
At first blush, this sounds like a light version of Chicago Federal Reserve President Charles Evans' policy approach in which Evans would explicitly allow for an inflation rate as high as 3% as long as unemployment was above 7%. With this sentence, Kocherlakota appears to have decisively moved from the hawkish column to the dovish. Credit Suisse needs to update their charts, and the remaining hawks become even more marginalized.
Mark Thoma, however, argues that there is less here than meets the eye, noting that Kocherlakota shows no willingness to accept that inflation greater than 2% may be helpful. Indeed, Kocherlakota seems focused on the Fed's 2% target, with the 2.25% simply allowing for some uncertainty of plus or minus 25bp around that target. A true dove, in the classic definition (as I explain here), is a policymaker that seeks relatively higher inflation than his/her colleagues. But by that definition, Evans is the only true dove. The rest of the FOMC worships at the altar of their newly enshrined 2% target. The hawks/doves divide is now about how one views the upside or downside inflation risks to the target rather than the target itself.
A further distinction can be made. Hawks tend to view high upside risks to inflation because they believe structural factors limit the pace of growth. Thus, more monetary policy can only show up in higher inflation. Doves tend to view current challenges as largely cyclical. With the economy operating well below trend, further monetary policy can be applied without stoking inflation.
Now let's go back to our friend from Minneapolis. Recall that last year, Kocherlakota believed that the Fed funds rate would need to rise in 2011:
These two elements—the increase in core PCE inflation and decline in labor market slack—imply that the target fed funds rate should be raised by at least a percentage point. However, there is a third effect that partially offsets the first two effects. The level of accommodation provided by the Fed’s holdings of long-term securities depends on how long people expect those holdings to last...By putting these three elements together, I arrive at my conclusion: If PCE core inflation rises to 1.5 percent over the course of 2011, the FOMC should raise the fed funds rate by around 50 basis points.
Last year, Kocherlakota was citing 1.5% (core) inflation as a trigger for immediate action; now he sees 2.25% as a threshold that may call for tighter policy. Thus, he exhibits a higher tolerance for inflation, which in and of itself makes him less hawkish in the classic sense than we saw last year.
In addition, last year Kocherlakota argued that monetary policy is incapable of achieving full employment in the near term. In this presentation, he modifies an IS-LM model to define an output level "FEDMAX" that is below the full employment level of output. That Kocherlakota would not have believed that the unemployment rate could be pushed to 5.5%, even in the context of price stability, before the Fed needed to tighten policy. See also Robin Harding on this point.
So by my read, Kocherlakota has definitely come off the hawkish side of the FOMC. He appears to be both more tolerant of inflation and putting less weight on concerns that structural factors could be limiting growth.
Bottom Line: The ranks of Fed hawks grows even thinner, down to just four clear hawks (plus or minus Bullard) out of nineteen policymakers. Barring an "sustainable and substantial" shift in the tone of the data, expect this Fed to keep their foot on the pedal for the foreseeable future.
Posted by Mark Thoma on Thursday, September 20, 2012 at 05:24 PM in Economics, Fed Watch, Monetary Policy |
[This is a pretend interview with Narayana Kocherlakota based on his speech today, Planning for Liftoff, laying out an exit strategy for the Fed.]
Hi. Good to see you again. What are you going to say in your speech?
In my remarks today, I’ll briefly discuss the objectives of the Federal Open
Market Committee, or FOMC, which is the monetary policymaking arm of the Federal
Reserve. Next, I’ll present a pictorial review of the evolution of macroeconomic
data over the past five years.
With that background, I will then turn to a discussion of monetary policy. My
jumping-off point is a phrase in the FOMC statement issued last Thursday. In
that statement, the Committee said that it “expects that a highly accommodative
stance of monetary policy will remain appropriate for a considerable time after
the economic recovery strengthens.” My main message today is that the FOMC can
provide additional monetary stimulus by making this sentence more precise in the
form of what I’m going to call a liftoff plan: a description of the
economic conditions that would lead the Committee to contemplate the initial
increase in the fed funds rate above its currently extraordinarily low level.2
So if I understand correctly, now that the Fed has eased further -- something
I would not have expected you to support given your past remarks -- your main
goal is to be clear about how soon the Fed can begin reversing policy? Your goal is to clarify the exit strategy?
I will suggest the following specific contingency plan for liftoff:
As long as the FOMC satisfies its price stability mandate, it should
keep the fed funds rate extraordinarily low until the unemployment rate has
fallen below 5.5 percent.
The price stability part seems to be a bit of a catch. This appears to say that
the Fed will only continue with stimulative policy so long as it is not worried
about inflation. That doesn't seem much different from current policy, except
it's dressed up with a few numbers and some bolded text. What's new here?
I’ll be much more precise later about the meaning of the phrase “satisfies its
price stability mandate.” Briefly, though, I mean that longer-term inflation
expectations are stable and that the Committee’s medium-term outlook for the
annual inflation rate is within a quarter of a percentage point of its target of
2 percent. The substance of this liftoff plan is that, as long as longer-term
inflation expectations remain stable, the Committee will not raise the fed funds
rate unless the medium-term outlook for the inflation rate exceeds a threshold
value of 2 1/4 percent or the unemployment rate falls below a threshold
value of 5.5 percent.
Wait a minute. I asked you very specifically last spring why the Fed had an
asymmetric aversion to inflation -- there seems to be much more tolerance of
inflation below target than inflation above target. In fact, 2 percent
inflation looks more like a hard ceiling for than a central value. At
that time, you insisted that the Fed had a symmetric tolerance -- it was just as
willing to tolerate inflation above target as below. Now you're telling us a
hard ceiling of 2.25 percent is needed? How is that consistent with the symmetry
you claimed in the past?
Note that neither of these thresholds should be viewed as triggers—that
is, once the relevant cutoffs are crossed, the Committee retains the option of
either keeping the fed funds rate extraordinarily low or raising the fed funds
Thus, my proposed liftoff plan contains a specific definition of the phrase “a
considerable time after the economic recovery strengthens.” In my talk, I will
argue that this specificity—about an event that may not take place for four or
more years—will provide needed current stimulus to the economy.
I'll listen closely when you get to that part. But can you explain a bit more
A key question is: How much leeway around 2 percent is appropriate?
The Committee has made no formal decision about this issue, and my own thinking
continues to evolve. But I currently believe that allowing the medium-term
outlook for inflation to deviate from 2 percent by a quarter of a percentage
point in either direction would provide sufficient flexibility to the Committee,
while posing no threat to the credibility of the long-run target. I’ll provide
more details on my thinking about this issue later in the talk.
To sum up, the FOMC defines its price stability mandate as a 2 percent inflation
target over the longer run. When operationalizing this definition, though, it is
necessary to take into account the lags associated with monetary policy and to
allow for some medium-term flexibility around the long-run target. Given these
considerations, in my view, the FOMC can be said to be satisfying its price
stability mandate as long as its medium-term outlook for inflation is between 1
3/4 percent and 2 1/4 percent, and longer-term inflation expectations remain
So you basically have a hard 2 percent target, and only allow tolerance
around that due to technical constraints that prevent tighter bounds? I suspect
some people are going to think you have increased your tolerance for inflation,
but you really haven't, have you?
Let's talk a bit more about your "liftoff" plan. Can you summarize how it
I think that it is safe to say that, relative to historical norms, the current
stance of monetary policy is quite unusual. In June 2011, the FOMC released a
statement describing its exit strategy—that is, the sequence of steps involved
in returning monetary policy to a more normal stance. However, that 2011
statement said nothing about the conditions that would trigger the initiation of
this exit strategy. This omission is problematic. The current economic impact of
both forms of accommodation—low interest rates and asset purchases—depends on
when the public believes that accommodation will be removed.
To understand this critical point, consider two possible scenarios. In the
first, the public believes that the FOMC will initiate liftoff once the
unemployment rate hits 7 percent. In the second, the public believes that the
FOMC will defer initiation of liftoff until the unemployment rate hits 6
percent. The higher unemployment rate in the first scenario means that monetary
policy will be tightened sooner, which, in turn, will lead to the unemployment
rate being higher for longer. Foreseeing that, people will save more in the
first scenario than in the second, to protect themselves against these higher
unemployment risks. Because they save more, they spend less, and there is less
economic activity. In other words, the FOMC can provide more current stimulus if
people believe that liftoff will be triggered by a lower unemployment rate.
So what is the specific plan?
The proposed plan is the following:
As long as the FOMC is continuing to satisfy its price stability
mandate, it should keep the fed funds rate extraordinarily low until the
unemployment rate has fallen below 5.5 percent.
As discussed earlier, by “satisfy its price stability mandate,” I mean that
longer-term inflation expectations are stable, and the Committee’s outlook is
that the annual inflation rate in two years will be within a quarter of a
percentage point of the target inflation rate of 2 percent.
Why so much sensitivity to inflation? Why not, say, a 3 percent threshold
Why is this liftoff plan an appropriate one? I argued earlier that the FOMC can
provide more current stimulus by using a lower unemployment rate threshold for
liftoff. Of course, additional monetary stimulus will give rise to more
inflationary pressures, and those pressures are problematic because they could
lead the FOMC to violate its price stability mandate. However, in my view, the
Committee should choose the lowest unemployment rate threshold that it sees as
unlikely to generate a violation of the price stability mandate.
This seems far too sensitive to inflation to me. Why such a low tolerance?
The proposed liftoff plan does allow the FOMC to contemplate raising the fed
funds rate if the Committee’s medium-term inflation outlook rises above 2 1/4
percent. However, the following
chart shows that recent historical evidence suggests that this possibility
is unlikely to occur. It documents that the medium-term inflation outlook has
not risen above 2 1/4 percent in the last 15 years.6
Thus, this historical evidence suggests that, as long as the unemployment rate
remains above 5.5 percent, it seems unlikely that the price stability mandate
would be violated.
I'm not asking about the likelihood of inflation rising above 2.25 percent,
I'm asking why you have such intolerant bonds on the inflation rate.
The liftoff plan does not say that the Committee will raise the fed
funds rate when the medium-term inflation outlook exceeds 2 1/4 percent—only
that it could. The Committee’s decision in this context would hinge on
a delicate cost-benefit calculation that would weigh the inflation increases
against the employment gains. That policy conversation would, I conjecture, be a
challenging one. Among other issues, it could well involve a reassessment of the
long-run unemployment rate that is consistent with 2 percent inflation.7
So your policy, in a nutshell, is that the Fed should be accommodative, but if
inflation rises above 2.25 percent, or threatens to do so, the Fed should have a
In the same vein, the unemployment rate of 5.5 percent should be viewed as
only a threshold to initiate a policy conversation, not as a trigger for
action. For example, it is possible that macroeconomic shocks could lead the
Committee’s medium-term outlook for inflation to be below 2 percent when the
unemployment rate falls below 5.5 percent. At that point, the Committee might
want to defer initiating exit, and the liftoff plan allows the Committee to
consider doing so.
One thing I don't understand, how is this supposed to work if you won't allow
inflation to rise above 2.25 percent -- basically the minimum technical tolerance
associated with a hard 2 percent medium run target?
I want to be clear about the economic mechanism by which the proposed liftoff
plan generates stimulus. First, it does not generate stimulus by having the FOMC
tolerate higher rates of inflation, as has been espoused by many observers. I am
doubtful about the efficacy of the inflation-based approach. I suspect that many
households would believe that their wage increases would not keep up with the
higher anticipated inflation rates. Those households would save more and spend
less—exactly the opposite of the policy’s aim. In any event, I think that this
approach is a risky one for central banks to use, because it requires them to
raise inflation expectations—but not too much.
Thus, the liftoff plan that I’ve discussed only applies when the FOMC
satisfies its price stability mandate. How then does the proposed liftoff plan
generate stimulus? The plan recommends that the FOMC clearly communicate its
intention to pursue policies that are fully supportive of much higher levels of
economic activity. Thus, the plan commits to keeping the fed funds rate
extraordinarily low until the unemployment rate is much nearer historical norms,
as long as inflation remains under control. With that commitment, households can
anticipate a lower path for unemployment, and they can save less to guard
against the risk of job loss. People will spend more today, and that will drive
up economic activity.8
So because it might end up as too much inflation, your answer is none at all? You're saying that some inflation
would, in fact be useful, but one is too many and a hundred not enough? One
taste of inflation, and it rips out of control? I have more faith in you and
your colleagues than that. The Fed can allow inflation to, say, go to three percent without risking that it spirals out of control, I think, but you don't seem to have much faith in your colleagues.
You are likely to get a lot of credit for dropping your inflation hawkery,
but I don't see it. The target is still 2% + min possible error of .25 percent,
so I don't see that you've loosened much at all relative to the past (and even if the "min possible error" interpretation is incorrect, plus or minus .25 percent is hardly the definition of tolerant). You
certainly have not embraced a transmission mechanism for policy that runs
through elevated inflation expectations, the way most economists think these policies work. How would you respond to that?
I’ve spent much of my time describing what I see as an appropriate liftoff plan.
I’ve proposed that, given current Committee thinking about the economy’s
productive capacity, the Committee should plan on deferring exit until the
unemployment rate falls below 5.5 percent. Critically, there are important
inflation safeguards embedded in the plan: The Committee could consider
initiating liftoff if its medium-term inflation outlook ever exceeds 2 1/4
percent. The evidence from the past 15 years suggests that this event is
unlikely to occur.
President Charles Evans of the Federal Reserve Bank of Chicago has also proposed
what I’m calling a liftoff plan. As I said last year in answer to a media query,
I very much liked his approach to thinking about the problem. Those familiar
with his plan will see that my thinking has been greatly influenced by his. This
is perhaps hardly surprising, since he sits next to me at every FOMC meeting!
My building on President Evans’ creative proposal in this fashion is, I think,
indicative of how the Federal Open Market Committee operates. The making of
monetary policy under Chairman Ben Bernanke’s leadership is a distinctly
collaborative process. Obviously, we don’t always agree with one another. It
would be surprising if we did in such unusual economic conditions. But we learn
continually from each other’s points of view. In that way, I believe that we can
start to make progress on the challenging economic problems we face.
I hope you continue to sit by Evans, I sat by him not too long ago at a
conference and I learned from him as well. You are still a ways from him -- you
remain far more hawkish than he is, at least in my assessment -- but maybe, just maybe your
views will continue to evolve towards his. One last thing. I know Jim Bullard respects you a
lot, can you bring him along as well?
Perhaps not, but in any case, thanks for allowing me pretend I'm interviewing
Update: After posting this, I tweeted:
Pushback on previous post: Significance of Kockerlakota's speech is his
changed view of structural vs. cyclical unemployment, not inflation.
Couldn't ask about that in pretend interview since he didn't say much about
it in his speech.
But not so sure he's changed his mind, though he has allowed for the chance
he's wrong. If it is structural, inflation will rise above 2.25 ... as QE proceeds, and he'll favor tightening even if unemployment > 5.5%. Only
difference I see is that he isn't insisting it's structural ... as he was before. Perhaps the paper by Lazear at Jackson Hole raised some doubt.
Posted by Mark Thoma on Thursday, September 20, 2012 at 01:08 PM in Economics, Fed Speeches, Monetary Policy |
A quick one as I run off to a meeting. This is Simon Johnson taking on big banks once again:
Mitt and the Moochers, by Simon Johnson, Project Syndicate: The Republican
Party has some potentially winning themes for America’s presidential and
congressional elections in November. Americans have long been skeptical of
But Republican presidential candidate Mitt Romney and other leading members of
his party have played these cards completely wrong in this election cycle.
Romney is apparently taken with the idea that many Americans, the so-called 47%,
do not pay federal income tax. He believes that they view themselves as
“victims” and have become “dependent” on the government.
But this misses two obvious points. First, most of the 47% pay a great deal of
tax on their earnings, property, and goods purchased. They also work hard to
make a living in a country where median household income has declined to a level
last seen in the mid-1990’s.
Second, the really big subsidies in modern America flow to a part of its
financial elite – the privileged few who are in charge of the biggest firms on
Wall Street. ...
Former Utah Governor and Republican presidential candidate Jon Huntsman
addressed this issue clearly and repeatedly as he sought – unsuccessfully – to
win his party’s nomination to challenge President Barack Obama. Force the banks
to break up, he argued, in order to cut off their subsidies. Make these
financial institutions small enough and simple enough to fail – then let the
market decide which of them should sink or swim.
That is an argument around which all conservatives should be able to rally.
After all, the emergence of global megabanks was not a market outcome; these
banks are government-sponsored and subsidized enterprises, propped up by
taxpayers. (This is as true in Europe today as it is in the US.)
Romney is right to raise the issue of subsidies, but he badly misstates what has
happened in the US during the last four years. The big, nontransparent, and
dangerous subsidies are off-budget, contingent liabilities generated by
government support for too-big-to-fail financial institutions. These
subsidies do not appear in any annual appropriation, and they are not well
measured by the government – which is part of what makes them so appealing to
the big banks and so damaging to everyone else.
If only Romney had turned popular disdain for subsidies against the global
megabanks, he would now be coasting into the White House. Instead, by going
after the hard-pressed 47% of America – the very people who have been hurt the
most by reckless bank behavior – his prospect of victory in November has been
Posted by Mark Thoma on Thursday, September 20, 2012 at 08:21 AM in Economics, Politics |
on Ludwig von Mises:
...whenever I see something like:
Ludwig von Mises: Attempts to carry out economic reforms from the monetary
side can never amount to anything but an artificial stimulation of economic
activity by an expansion of the circulation, and this, as must constantly be
emphasized, must necessarily lead to crisis and depression. Recurring economic
crises are nothing but the consequence of attempts, despite all the teachings of
experience and all the warnings of the economists, to stimulate economic
activity by means of additional credit...
I find myself under a mysterious but inexorable and irresistible
compulsion to waste what would otherwise be productive work time trying to make
some kind of sense of it--to at least understand wherein lies the error, and how
somebody trying very hard to understand the economy (never mind that he is a big
fan of the political leadership of Benito Mussolini) can go so pathetically
It is, of course, not the case that every expansion of the circulation is an
"artificial" (and unnatural) "stimulation of economic activity" that must
"necessarily lead to crisis an depression". So why does Ludwig von Mises think
that it must?
Here is my current guess as to where von Mises is coming from:
Let us start out with a world of publicly-known technology and constant
returns to scale in everything. People happily make things and trade them. And
everything sells at its resource cost.
One of the things people make is little disks of gold, usually decorated with
pictures of bearded men on one side and allegorical female figures on the other,
with lettering saying things like: "Fecund Augustae" or "Concordia Militum" or
"Fides Exercituum" on them. These little gold disks trade--like everything
else--at their cost of production: the cost of digging the ore out of the
ground, extracting the metal from the ore, and stamping the disk into the right
Then somebody has a bright idea: Because these little metal disks are
valuable and easy to carry, they are subject to theft. I will offer to perform a
service: I will keep everybody's little metal disks in my stronghouse, and let's
write out signed, notarized declarations that people have little metal disks in
my stronghouse and they can trade those rather than the disks directly. And--as
long as 100% of the circulating medium is backed by gold--everything goes on as
before, with everything selling for its cost of production.
Then somebody else has a bright idea: They write out a whole bunch of signed
declarations that they have little metal disks in the stronghouse, even though
they actually do not have any such. They then buy things with these pieces of
the circulating medium that they have written out.
These people, Ludwig von Mises says, are thieves: thieves pure and simple:
They have bought useful things.
They have claimed that they have done so by trading (claims to) valuable
little metal disks (in the warehouse) for useful commodities.
But they have lied.
They did not have any valuable little metal disks for trade.
And, Ludwig von Mises would say, these lying thieves come in three forms:
- governments that print dollar bills without having 100% gold bullion backing for
them in Fort Knox.
- banks that issue bank notes.
- banks that allow depositors to write checks in amounts that exceed the specie
reserves they the banks have in their vaults.
The problem, I think Ludwig von Mises would say, is that the wealth of
society is the amount of work has gone into creating the commodities in the
economy: the food, the clothing, the houses, the little gold disks. The sum of
past work crystalized in commodities is society's wealth. The food is wealth,
the housing is wealth, the clothing is wealth, and the little gold disks are
wealth. Then add unbacked fiat money and bank credit--either public or private,
it doesn't matter--to the mix. The fiat money and the bank credit are counted as
wealth, as if they were claims to little gold disks that took sweat and tears to
create, but they are not wealth at all. They are fictions: false promises that
there is somewhere some valuable gold that you have title to.
And, Ludwig von Mises would say, the larger the unbacked circulating medium
the bigger the lie and the theft. It is all guaranteed to end in tears. Whenever
society thinks that it is richer than it is, plans will be inconsistent and
unattainable. When that unattainability becomes manifest, that will trigger the
crash and the depression.
That is, I think, where von Mises is coming from.
And, of course, this is wrong--so so so so so so so so so unbelievably wrong.
It is simply not the case that we can cheaply and easily buy things with
money because it is valuable. It is, instead, the case that money is valuable
because we can cheaply and easily buy things with it.
One way into the tangle of understanding why it is wrong is to ask each of
us: Why are you happy accepting money in exchange when we sell useful
Hint: It's not because we are looking forward to going down to the bank,
exchanging our bank notes for the little disks of gold usually decorated with
pictures of bearded men on one side and allegorical female figures on the other
with lettering saying things like "Fecund Augustae" or "Concordia Militum" or
"Fides Exercituum" on them, taking our little disks home, and feeling happy
looking at them.
That's not why we accept money.
We accept money because if we don't have any money we have to buy commodities
with other commodities, and when we do so we are unlikely to receive the cost of
production for what we sell. Have you ever tried to buy a latte at Peets with a
copy of Ludwig von Mises's Money and Credit? It does not go well.
The fact is that your wealth is only worth its cost of production if you are
liquid--if you can wait to sell until somebody willing to pay full cost of
production comes along, which is not every minute. The use-value of money is
that it allows you to time your other transactions so that you can realize the
full exchange value of what you sell, rather than having to sell it at a
Thus there is no paradox: no sense in which the existence of fiat money
creates a situation in which society must necessarily think that it is richer
than it is, with claims to total wealth valued at more than the value of total
wealth itself. You think--correctly--that your fiat money has value, and that
value is just equal to the discount from its cost of production that your other
wealth incurs because it is illiquid. But what if the government prints more
fiat money than the illiquidity gap in your other wealth? Well, then people will
say: "I don't need to hold all this extra money. I would be liquid enough with
less." Everybody will try to run down their money balances, and so the price
level will rise until the real money stock is just what people think covers the
illiquidity gap between their other wealth and its cost of production.
What von Mises misses completely is that the size of this illiquidity gap can
and does change suddenly and drastically--and it is the business of the central
bank and of the government to alter the quantity of money to keep such changes
from disrupting the real economy. ...
Posted by Mark Thoma on Thursday, September 20, 2012 at 12:10 AM in Economics, History of Thought |
Posted by Mark Thoma on Thursday, September 20, 2012 at 12:06 AM in Economics, Links |
Another one from Tim Duy:
Fisher Turns to Fear Mongering, by Tim Duy: Dallas Federal Reserve President Richard Fisher is quick to continue his fear mongering about inflation. Via Bloomberg:
“I do not see an overall argument for letting inflation rise to levels where we might scare the market,” Fisher said on Bloomberg Radio’s “The Hays Advantage” with Kathleen Hays and Vonnie Quinn. “We have seen a sharp rise in inflation expectations. If you let this get out of hand, then I think we will have a market reaction.”
Let's go to the chart:
You really can't say that inflation expectations are surging beyond anything we have seen in the past six years. Moreover, supporting inflation expectations was an expected outcome of Fed easing. And financial markets seem to like it.
Also, it is not clear that TIPS-derived expectations are the best measure (a point I don't make enough). The Cleveland Federal Reserve works on teasing out inflation expectations, and on September 14th reported:
The Federal Reserve Bank of Cleveland reports that its latest estimate of 10-year expected inflation is 1.32 percent. In other words, the public currently expects the inflation rate to be less than 2 percent on average over the next decade.
Yes, near term expectations have gained but from a too-low 1.2% to 1.8%. Moreover, this would be expected not just from anticipation of QE3, but from the rise in gas prices (and note that oil prices are now falling again). By this measure, the more important longer term expectations remain mired well below the Fed's 2% inflation target. Let's at least agree to stop worrying about inflation until we get expectations back up to the Fed's target.
Bottom Line: Fisher stays true to form, clutching to his fears of inflation like a drowning man grabs onto a life preserver. My guess is that he doesn't need to be marginalized by the doves; he does a fine job marginalizing himself.
Posted by Mark Thoma on Wednesday, September 19, 2012 at 05:17 PM in Economics, Fed Watch, Monetary Policy |
Hawks Are Marginalized, by Tim Duy: There has been a lot of Fedspeak over the last few days as policymakers expand upon the shift to open-ended QE. See Cardiff Garcia at FT Alphaville for an overview of some of the dovish talk, and see Pedro Da Costa at Reuters for some thoughts on the hawkish talk, described as a "vocal minority." See also Reuters for an interview with St. Louis Federal Reserve President James Bullard, who claims that he would have voted against QE3:
"I would have voted against it based on the timing. I didn't feel like we had a good enough case to make a major move at this juncture," said Bullard, who has been viewed as a centrist on the spectrum of Fed officials, though in recent months he has sounded opinions that have sounded more hawkish as he has expressed doubts about the need for further stimulus.
Bullard does acknowledge his preference for open-ended QE, had he believed it was needed:
Even so, Bullard said some of the contours of the plan, which has no set end date, were in keeping with how he thinks monetary policy should be conducted with interest rates already near zero. Leaving end dates off a bond buying program can make the policy "more effective," he said.
Bullard is also reported to have expressed support for dropping the dual mandate, although I am not seeing a direct quote. Same for concerns about commodity prices:
He also voiced concern that QE3 could spill over into higher commodity prices, as happened with the previous rounds of Fed bond-buying, although he said the soft tone of the world economy would help curb price rises.
The reporter reaches the conclusion:
In discussing his views on more monetary stimulus, Bullard said, "We should take a little bit more (of a) wait-and-see posture." His comments, in an interview with Reuters Insider, highlight potential dissent on the Fed's policy committee next year when he will be a voting member.
Should we be concerned about this warning? I would say no. I think it is easy for Bullard to say that he would have dissented, but a lot harder to actually dissent if he was seated in the meeting. Indeed, he gets the best of both worlds - he gets to display his hawkish credentials by saying he would voted against QE without the pressure of the actual vote. Might he get more vocal next year? Maybe. I suspect his comments will be a function of which way the political winds are blowing. All of his comments to Reuters - anti-QE, concerns about commodity prices, desire to dump the employment mandate - sound like attempts to position himself for a role in a Republican Administration. The more he needs to position himself in that direction, the more hawkish he will appear.
And note that fundamentally, whatever Bullard (or other hawks) say is for the time largely irrelevant. As a group, they were small to begin with, and by now have been intellectually marginalized. Via Cardiff Garcia, Credit Suisse provides a summary chart of policymakers:
The hawks are all bark, no bite. They are more than overwhelmed by dovish-leaning policymakers, even if Bullard joins Kansas City Federal Reserve President Esther George in hawkish dissent. What remains important heading into 2013 (aside from the data, of course), is Federal Reserve Chairman Ben Bernanke. He can pull the moderates where he wants to go. And it obviously is not in a hawkish direction.
Bottom Line: Fed hawks are largely marginalized. Their views have not and will not have a significant impact on policy making. They will only appear to have an impact on policy if the data signals that a policy shift is needed. Given the current set of policymakers on the Fed, the hawks will only have a voice if Bernanke is replaced with one of their own. And that is when it would get interesting, as I am not sure that the moderates would follow a hawkish Chairman.
Posted by Mark Thoma on Wednesday, September 19, 2012 at 10:39 AM in Economics, Fed Watch, Monetary Policy |