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July 16, 2010

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Latest Posts from Economist's View


Paul Krugman: Redo That Voodoo

Posted: 16 Jul 2010 12:42 AM PDT

Republicans are using Voodoo economics as cover for their true agenda:

Redo That Voodoo, by Paul Krugman, Commentary, NY Times: Republicans are feeling good about the midterms — so good that they've started saying what they really think. This week the party's Senate leadership stopped pretending that it cares about deficits, stating explicitly that while we can't afford to aid the unemployed or prevent mass layoffs of schoolteachers, cost is literally no object when it comes to tax cuts for the affluent.
And that's one reason — there are others — why you should fear the consequences if the G.O.P. actually does as well in November as it hopes.
For a while, leading Republicans posed as stern foes of federal red ink. ... But this past Monday Jon Kyl of Arizona, the second-ranking Republican in the Senate, was asked the obvious question: if deficits are so worrisome, what about the budgetary cost of extending the Bush tax cuts for the wealth...? What should replace $650 billion or more in lost revenue over the next decade?
His answer was breathtaking: "You do need to offset the cost of increased spending. And that's what Republicans object to. But you should never have to offset the cost of a deliberate decision to reduce tax rates on Americans." So $30 billion in aid to the unemployed is unaffordable, but 20 times that much in tax cuts for the rich doesn't count.
The next day, Mitch McConnell, the Senate minority leader, confirmed that Mr. Kyl was giving the official party line... Now..., the real news here is the confirmation that Republicans remain committed to deep voodoo, the claim that cutting taxes actually increases revenues.
It's not true, of course. ... But we're talking about voodoo economics here, so perhaps it's not surprising that belief in the magical powers of tax cuts is a zombie doctrine: no matter how many times you kill it with facts, it just keeps coming back. And despite repeated failure in practice, it is, more than ever, the official view of the G.O.P.
Why should this scare you? On paper, solving America's long-run fiscal problems is eminently doable: stronger cost control for Medicare plus a moderate rise in taxes would get us most of the way there. And the perception that the deficit is manageable has helped keep U.S. borrowing costs low.
But if politicians who insist that the way to reduce deficits is to cut taxes ... start winning elections again, how much faith can anyone have that we'll do what needs to be done? Yes, we can have a fiscal crisis. But if we do, it won't be because we've spent too much trying to create jobs and help the unemployed. It will be because investors have looked at our politics and concluded, with justification, that we've turned into a banana republic.
Of course, flirting with crisis is arguably part of the plan. There has always been a sense in which voodoo economics was a cover story for the real doctrine, which was "starve the beast": slash revenue with tax cuts, then demand spending cuts to close the resulting budget gap. The point is that starve the beast basically amounts to deliberately creating a fiscal crisis, in the belief that the crisis can be used to push through unpopular policies, like dismantling Social Security.
Anyway, we really should thank Senators Kyl and McConnell for their sudden outbursts of candor. They've now made it clear, in case anyone had doubts, that their previous posturing on the deficit was entirely hypocritical. If they really do have the kind of electoral win they're expecting, they won't try to reduce the deficit — they'll try to make it explode by demanding even more budget-busting tax cuts.

Republicans must know by know that tax cuts do not increase revenue, most conservatives admit that at this point. So I'm not so sure this is a " belief in the magical powers of tax cuts" among Republican politicians as much as it is the "cover story" identified at the end. The belief in magical powers does exist among supporters, but Republican politicians making the claim that tax cuts increase revenues are using this as a way to get the tax cuts they want without admitting they are abandoning their get tough on the deficit rhetoric that is so necessary for the their assault on social insurance programs (while actually making the deficit worse). So long as they can get away with this, so long as they can convince supporters this the magic is true without getting seriously challenged in the press — and so long as integrity is of no concern — why not make the claim?

"The Uses and Abuses of Economic Ideology"

Posted: 16 Jul 2010 12:24 AM PDT

Adair Turner has lost faith in the idea that making market more complete necessarily leads to a more stable financial system:

The Uses and Abuses of Economic Ideology, by Adair Turner, Cpmmentary, Project Syndicate: ...[I]n the arena of financial economics, a vulgar version of equilibrium theory rose to dominance in the years before the financial crisis, portraying market completion as the cure to all problems, and mathematical sophistication decoupled from philosophical understanding as the key to effective risk management. Institutions such as the IMF ... set out a confident story of a self-equilibrating system. ... And at regulatory agencies like Britain's Financial Services Authority (which I lead), the belief that financial innovation and increased market liquidity were valuable because they complete markets and improve price discovery was not just accepted; it was part of the institutional DNA.
This belief system did not, of course, exclude the possibility of market intervention. But it did determine assumptions about the appropriate nature and limits of intervention. For example,... requirements for information disclosure could help overcome asymmetries of information between businesses and consumers. Similarly, regulation and enforcement to prevent market abuse was justifiable... And regulation to increase market transparency was ... acceptable ... since transparency, like financial innovation, was believed to complete markets and help generate increased liquidity and price discovery.
But the belief system of regulators and policymakers ... tended to exclude the possibility that rational profit-seeking by professional market participants might generate rent-seeking behavior and financial instability rather than social benefit – even though several economists had clearly shown why that could happen. Policymakers' conventional wisdom reflected, therefore, a belief that only interventions aimed at identifying and correcting the very specific imperfections blocking attainment of the nirvana of market equilibrium were legitimate. ...[I]t was beyond the ideology to recognize that information imperfections might be so deep as to be unfixable, and that some forms of trading activity, however transparent, might be socially useless. ...
Market efficiency and market completion theories can help reassure major financial institutions' top executives that they must in some subtle way be doing God's work... But we should not underplay the importance of ideology. Sophisticated human institutions ... are impossible to manage without a set of ideas that are sufficiently complex and internally consistent to be intellectually credible, but simple enough to provide a workable basis for day-to-day decision-making.
Such guiding philosophies are most compelling when they provide clear answers. And a philosophy that asserts that financial innovation, market completion, and increased market liquidity are always and axiomatically beneficial provides a clear basis for regulatory decentralization.
Here, I suspect, is where the greatest challenge for the future lies. For, while the simplified pre-crisis conventional wisdom appeared to provide a complete set of answers resting on a unified intellectual system and methodology, really good economic thinking must provide multiple partial insights, based on varied analytical approaches. Let us hope that ...[we] learn that lesson.

A Curious Unemployment Picture Gets More Curious

Posted: 16 Jul 2010 12:15 AM PDT

David Altig is puzzled by "the seeming shift in the Beveridge curve relationship":

A curious unemployment picture gets more curious, by David Altig, macroblog: At first blush, the second quarter statistics from the Job Openings and Labor Turnover Survey (commonly referred to as JOLTS and released Tuesday by the U.S. Bureau of Labor Statistics) suggest little has changed recently in U.S. labor markets:

"There were 3.2 million job openings on the last business day of May 2010, the U.S. Bureau of Labor Statistics reported today. The job openings rate was little changed over the month at 2.4 percent. The hires rate (3.4 percent) was little changed and the separations rate (3.1 percent) was unchanged."

Despite a slight step backward in May, the overall trend in job openings has been positive—Calculated Risk has the picture—but in a sense this fact has just deepened the puzzle of why the unemployment rate is so darn high. As we wrote in the first quarter issue of the Atlanta Fed's EconSouth:

"The disconnect between the supply of and demand for workers that is reflected in statistics such as the unemployment rate, the hiring rate, and the layoff rate can be dynamically expressed by the Beveridge curve. Named after British economist William Beveridge, the curve is a graphical representation of the relationship between unemployment (from the BLS';s household survey) and job vacancies, reflected here through the JOLTS."

Since the second quarter of last year, the unemployment rate has far exceeded the level that would be predicted by the average correlation between unemployment and job vacancies over the past decade. Yesterday's report indicates that the anomaly only deepened in the first two months of the second quarter.

071510a
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The dashed line in the chart above, which is estimated from the data from 2000–08, represents the predicted relationship between the number of unemployed persons in the United States and the number of job openings. That simple relationship would suggest that, given the average number of job openings in April and May, the unemployed would be expected to number about 10.4 million—not the nearly 15 million we actually saw.

Some analysts have suggested the unemployment benefits policies of the last couple of years may be responsible for abnormally high unemployment rates. By one set of estimates, these policies have driven the unemployment rate up by between 1.3 and 2.5 percentage points. But even if we accept those numbers and adjust the Beveridge curve by assuming that the number of unemployed would be correspondingly lower without the benefits policy, the puzzle persists:

071510b
(enlarge)

The most tempting explanation for the seeming shift in the Beveridge curve relationship (to me, anyway) is a problem with the mismatch between skills required in the jobs that are available and skills possessed by the pool of workers available to take those jobs. The problem with this tempting explanation is that it is not so clear that the usual sort of structural shifts we might point to—for example, only nursing jobs being available to laid-off construction workers—are so obviously an explanation (an issue we explored in a previous macroblog post).

But these sorts of subplots may miss the truly big part of the story. I have noticed a recent spate of articles repeating a theme we hear anecdotally from many sources, in many industries. For example, this from a June USA Today article

"… the [auto] industry is poised to add up to 15,000 this year and could need up to 100,000 new workers a year from 2011 through 2013.

"… Automakers need workers with more and different skills than in the past on the factory floor.… Among priorities: computer skills and the ability to work with less supervision than their predecessors. That likely means education beyond high school."

… or more recently, this one from the New York Times:

"Factory owners have been adding jobs slowly but steadily since the beginning of the year, giving a lift to the fragile economic recovery…

"Yet some of these employers complain that they cannot fill their openings.

"Plenty of people are applying for the jobs. The problem, the companies say, is a mismatch between the kind of skilled workers needed and the ranks of the unemployed."

Now I realize that a few anecdotes don't make facts, but I have been in more than a few conversations with businesspeople who have claimed that the productivity gains realized in the United States throughout the recession and early recovery reflect upgrades in business processes—bundled with a necessary upgrade in the skill set of the workers who will implement those processes. This dynamic suggests that the shift in required skills has been concentrated within individual industries and businesses, not across sectors or geographic areas that would be captured by our most straightforward measures of structural change.

The data necessary to test this proposition are not easy to come by. That challenge is unfortunate, because the return on figuring out what is beneath those Beveridge curve graphs is very high.

The skill mismatch story doesn't ring all that true to me, but then again, I don't have a better explanation. Do you have any ideas beyond the skill mismatch story given above?

links for 2010-07-15

Posted: 15 Jul 2010 11:01 PM PDT

The Dodd-Frank Financial Reform Bill

Posted: 15 Jul 2010 01:44 PM PDT

Legislation to reform the financial sector has cleared the House and the Senate, and the President is expected to sign the bill soon. Here is a quick reaction at MoneyWatch highlighting some of the positives and negatives in the legislation: The Dodd-Frank Financial Reform Bill.

What's your view of the bill?

Should The Bush Tax Cuts Be Extended?

Posted: 15 Jul 2010 09:36 AM PDT

Should The Bush Tax Cuts Be Extended?

Here's my answer from a post at MoneyWatch:

A reporter asked my view on extending the Bush tax cuts:

I have argued very strongly that we need to give the economy more help, so it would be inconsistent of me to say it's OK for taxes to go up.

What I would do, and this is along the lines of what has been proposed, is to keep the tax cuts for anyone below some income threshold. My threshold would be lower than the proposed $250,000, but I can live with that. So taxes would go up for higher income households. But, even though I don't think raising taxes on higher income individuals would have all that much effect on economic activity, why take chances? So I'd take the revenue generated from the increase in taxes on upper income households and transfer them to lower income households. That way there won't be any decline in aggregate demand due to the increase in taxes, and since the transfer is from high savers to low savers, it could even provide a bit of additional stimulus. But the important thing is that aggregate demand won't go down since on net taxes have not been raised (which gives a counterargument to the "you've raised taxes" political charge that would surely be made).

Finally, the taxes that are transferred would be designated as temporary with a fixed expiration date, or linked to economic conditions. But they would be temporary so that in the long-run, the reversal of the Bush tax cuts on higher income households would help to pay off the debt. We'll need to do much more, of course, on health care in particular, but every little bit helps, and in my view equity demands a more progressive tax structure.

So let me try to say this more compactly:

I don't think raising taxes while the economy is still recovering is a good idea. But that doesn't mean we can't use the expiration of the taxes as an opportunity to shift the burden more toward higher income households. So I would allow the tax cuts to expire on high income households, and transfer the savings temporarily too low and middle income households struggling with the weak economy and job market.

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