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May 31, 2011

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"Shared Capitalism"

Posted: 31 May 2011 12:42 AM PDT

Nancy Folbre:

Shared Capitalism, by Nancy Folbre: ...The term "shared capitalism" is a catchall for a variety of arrangements that businesses can make to share profits with ... employees, whether through stock ownership or incentive pay based on company performance. ...
Many Americans long for more evenly shared prosperity, and a new wave of economic research suggests that more gain-sharing in large companies could help us move in that direction. ...
How could public policies promote and expand this shared capitalism? Public policies already offer companies tax benefits for setting up employee stock-ownership plans... It would also be relatively easy to encourage companies to offer more workers incentive pay... Companies are allowed to write off costly stock options that represent incentive pay for top executives, despite a lack of evidence that such incentives lead to improved company performance.
Why not restrict the tax benefits to companies that provide the same type of incentive pay for all full-time employees, stipulating that the value expended on the bottom 80 percent of employees by salary must equal at least that expended on the top 5 percent? Similar restrictions have long been in effect for employee retirement and health plans. The costs of these programs are not tax-deductible unless they are offered in a nondiscriminatory way to all workers.
Private-sector precedents are also strong. Two very successful American companies, the Wegmans supermarkets and Cisco Systems, offer broad-based incentive systems that effectively meet these restrictions.
If America's capitalists mean what they say about the virtues of an ownership economy, they should throw their weight behind modest changes in tax incentives that could expand it. If they don't, we might infer that they prefer to keep the benefits of ownership to themselves.

Here's a post from a few years ago on the same topic:

Does Shared Capitalism Work?: When I think about the evolution of economic systems over time, I often wonder if capitalism is the end of the road, the last and best economic system that will emerge. I'm not sure, but I see no necessary reason why we can't do better.

But what would come next? One possibility is employee ownership. At first glance it appears to provide better incentives to workers than wages, but more thought leads to a consideration of free riding problems - if everyone but you works really hard you will still receive a large profit share -- and it was never clear how such a system could work in its pure form since the entrepreneurial function would be absent. That is, how would new businesses get started? Who would accumulate the capital and execute the plans needed to get things going? Financial innovation could pool funds, but how does a large group of workers get together and decide to open a new business? It seems like some sort of individual entrepreneurship function would still be necessary, coupled with some economic incentive to transfer ownership to workers over time.

Despite those problems, however, employee ownership is growing in popularity:

Does shared capitalism work in the United Kingdom?, by Alex Bryson and Richard B. Freeman, Vox EU: Does shared capitalism work...

Fed Watch: Will The Fed Act?

Posted: 31 May 2011 12:33 AM PDT

Tim Duy:

Will The Fed Act?, by Tim Duy: As it stands, the US economy is poised to disappoint in the second quarter. The quick summary from the Wall Street Journal:

After a disappointing first quarter, economists largely predicted the U.S. recovery would ramp back up as short-term disruptions such as higher gas prices, bad weather and supply problems in Japan subsided.

But there's little indication that's happening. Manufacturing is cooling, the housing market is struggling and consumers are keeping a close eye on spending, meaning the U.S. economy might be on a slower path to full health than expected.

"It's very hard to generate a rapid recovery when rapid recoveries are historically driven by housing and the consumer," said Nigel Gault, an economist at IHS Global Insight. He expects an annualized, inflation-adjusted growth rate of less than 3% in coming quarters—better than the first-quarter's 1.8% rate, but too slow to make a meaningful dent in unemployment.

To what extent will incoming data impact monetary policy? At this point, I think policymakers are still in "wait and see" mode. To be sure, they cannot ignore the spate of weak data. I think it has to be a topic in upcoming speeches. But they can continue to view it as a temporary blip. Moreover, I think it has been made clear that there is a high bar for QE3 – especially as the commodity-induced inflation mouse passes through the belly of the snake. Which means that while the specter of inflation remains alive and well on Constitution Ave., we should expect at most talk of pushing back the eventual policy tightening. But I think we would need to see a serious downgrade of the 2012 forecast to push the Fed into another round of asset purchases.

The path of monetary policymaking to date looks eerily similar to the events of 2010. Recall that as the economy started to show signs of life, policymakers jumped in to snuff out that life with a swift focus on tightening. We are once again faced with a similar pattern. On the back of an admittedly positive 4Q10 GDP report, coupled with signs of life in the labor market, Fed officials rushed to the exits once again. Recall that some policymakers such as St. Louis Federal Reserve President James Bullard were pushing for an early end to QE2 at the last FOMC meeting. As of two weeks ago, Bullard was not as eager to withdraw policy:

Federal Reserve Bank of St. Louis President James Bullard said the central bank may keep its monetary-policy unchanged until late this year, and that declining inflation expectations have curbed the need to begin withdrawing record stimulus.

"It does take some pressure off the Fed," Bullard, 50, said in an interview at Bloomberg News headquarters in New York. "I take it seriously that market indicators of inflation have come down. The data has been softer, and these global uncertainties have weighed on markets."

Still, as of early last week he was sticking to the temporary blip story:

Bullard told reporters after his speech he was confident the U.S. economic recovery was sustainable, supported by a pickup in private-sector job creation. First-quarter growth may be revised higher from the reported 1.8 percent, Bullard said.

"The second quarter, I think, will come in between 3 and 4 percent, and I think job growth will continue," he said. "We are in good condition in the U.S. economy. There is some risk from these events around the world, but generally speaking, we are in good shape."

The extent to which this story remains intact in the coming months will be likely determine the Fed's willingness to pursue QE3. Note the pattern of Fed forecasts over the past few years:

The sharp fall in 2011 forecasts in the fall of 2010 that triggered QE2 (along with fears of deflation). We have yet to see a significant change in the 2012 and 2013 forecasts. And we probably won't until the end of this year. Without such a change it is difficult to see the Fed extending the current package of asset purchases. Until 2012 comes into clearer view, we are left with pushing out or pulling back the timing of tightening.

What is so incredibly frustrating is that anyone who seriously reviewed the data of the post-1983 period would come to the conclusion that commodity price shocks have tended to trigger monetary easing as they sap demand and induced deflationary pressure. Chicago Federal Reserve President Charles Evans did so. And New York Federal Reserve economists noted that inflation expectations as measured by professional forecasters did not signal trouble ahead. None of this prevented the Fed from turning hawkish in the first half of this year. As I lamented in February:

I think it is somewhat silly to be discussing an early end to the LSAP as it only adds another layer of uncertainty on what was already an increasingly uncertain environment. Somewhat pointless as well – the end is fast approaching in any event. Indeed, I find the debate disappointing, albeit expected. Policymakers appear to have learned little from their failed exercise in hawkishness this time last year.

It is now evident the spike in gasoline prices has taken the wind out of consumers, with real disposable income flat or falling since February and real consumption expenditures rising just 0.1 percent in four of the past five months. The 0.4% gain in February hardly compensates. Worse yet, the slowdown looks to be impacting labor markets, with initial unemployment claims climbing back upwards. Recall that the sharp declines in claims in the second half of 2010 was integral to the acceleration story. That this situation is reversing itself is very disappointing.

I continue to believe the economy has been operating near potential, a little above at the end of 2010, now a little below. Nothing sufficient to suggest there was a dire need to tighten policy. Indeed, the opposite most likely holds. That said, the expected inflation blip is working its way through the system:

And, in the minds of many Fed officials, that blip poses an obstacle to anything other than tightening.

Bottom Line: A disappointing Q2 should push down the Fed's 2011 forecast, but the impact on 2012 forecasts will remain negligible until later this year. It is those forecasts that will have a more profound impact on policy than what is happening right now. Right now it is still about the timing of tightening.

links for 2011-05-30

Posted: 30 May 2011 10:01 PM PDT

"The Mathematics Generation Gap"

Posted: 30 May 2011 10:53 AM PDT

Maybe this is why my econometrics class got so upset when I wouldn't allow calculators to be used during exams:

The mathematics generation gap, by Frances Woolley: Here's my theory: Some students struggle with economics because they do not fully understand the mathematical tools economists use. Profs do not know how their students were taught mathematics, what their students know, what their students don't know - and have no idea how to help their students bridge those gaps.
The arithmetic gap is the most obvious one: profs over a certain age (and some immigrant profs) were drilled in mental math;... students under a certain age haven't been. Some implications of the arithmetic gap are familiar: profs who can't understand why students insist on using calculators; students who can't understand why their profs are so unreasonable. ...
Another aspect of the mental arithmetic gap that is easily overlooked is its widening over time. Calculators became affordable in the mid- to late-1970s. Students in the 1980s were taught by teachers who had learned mathematics without calculators, and could do basic mental arithmetic. Students today might be taught by a teacher who is himself unable to work out 37+16 without help. ...
The average professor might be unaware of just how ubiquitous calculators are in elementary and secondary schools. The Ontario province-wide grade 6 math test allows students to use calculators at all times. The use of calculators is mandated by the high school curriculum...
School curricula reflect society at large. Back in the 1950s, grade 5 students were taught to answer questions such as "Joe picked 3/4 bu. [bushels] of apple while Jack picked 1/4 bu. How many more did Joe pick than Jack?" No amount of back-to-basics rhetoric will change the fact that the ability to subtract fractional apple bushels is a useless life skill. Today an average Canadian can live a happy and fulfilled life without being able to compute $4892.16+$5860.03+$512.41+$8967.35. So why teach those skills?
Recent research is suggesting that deep understanding of mathematical concepts is related to basic number sense. A person who can look at two sets of dots and quickly determine which set is larger will also generally be better at abstract, conceptual, mathematical reasoning. I have had a student in my office who could not work out 3x5=? without a calculator. I wonder: what else was she missing out on?
But perhaps the struggling students make a deeper impression on me than the competent ones. ... So maybe I'm just out of touch. Take graphics calculators, for example. I don't know precisely how they work or what they do, but I regard them with suspicion. Graphing the production function F(x)=ln(x) by entering the function into a graphics calculator and copying down the result just seems like cheating. And because I've heard these calculators are programmable, I ban their use in exams. It's another mathematics generation gap: between students who were taught from a curriculum that encourages - or even requires - graphics calculators, and their old-school profs. But I don't know what you do know and what you don't know, and I don't know how to teach you the basic mathematical concepts you require to understand economics.
Other technologies also create generation gaps. Today's undergrads have been carrying a cell-phone since their early teens, if not earlier. They rarely wear watches. Some will struggle to read an analogue clock... The disappearance of analogue clocks ... means that profs risk confusing students when they use clock-based language: "Rotate counter-clockwise." "Turn clockwise." "At 2 o'clock" (as in, 60 degrees to your right).
Maps are another rapidly changing technology. Google maps was launched in 2005, in other words, when an undergraduate entering university this Fall was 11 or 12 years old. She has always been able to navigate by reading a list of instructions from Google maps, she might never have had to locate two points on a map and plan a route from one to the other. Yet maps imbed spatial concepts very similar to those used in economics. An indifference curve or iso-profit line is, conceptually, similar to a contour line on a topographical map. What forms of understanding do students lose -and what do they gain - when they rely on Google maps rather than map-reading?
I originally titled this post "bridging the mathematics generation gap." ... But I need to work out where the mathematics generation gap lies, and what its consequences are, before writing about how to bridge it. 

I think there is a lot of intuition that can be gleaned from a bottom up approach that emphasizes basic skills. During these rote exercises, the mind searches for shortcuts, and much intuition and insight can be gained from the aha moments when you find a way to shorten the exercise with a trick of some sort. E.g., to multiply any single digit number by nine, just add a zero to the end and subtract the number. Thus, 8*9 must be 80-8=72. Or, 4*9 = 40-4. Then, it's easy to generalize, 9 times any two digit number is the number with a zero attached minus the number. Thus, 28*9=280-28=252. Or, 9*32 = 320-32 = 288. Then extend further -- it works for a single digit times numbers of any size, e.g. four digit would be 9*1234=12340-1234 = 11,106, something you can do relatively easy in your head. This can be generalized further (it's best to do it for 8s, then 7s, until you see the pattern emerging). To find x*y, where x is one digit and y is any whole number, use x*y = 10*y - (10-x)*y. So, to find 187*7, it's 1870-3*187. But you say, the second number is too hard to multiply in my head! No problem, just apply the rule again, or better use some other trick, like finding 3*200-3*13 = 600-39=561. Thus, the answer is 1870-561=1,309, and it can all be done in your head. When I was a kid using tricks like this allowed me to speed up finishing worksheets for homework so I could do what I really wanted to do, go outside and play. This also leads directly to the proof -- just expand the right hand side, then cancel terms -- but how do you discover this rule, and learn how to take it to a proof, without rote exercises that force you to search for shortcuts? I understand that the response to all of the above is to use a calculator instead, these tricks aren't needed if you have a calculator at hand, but that isn't the point. The point is that these exercises lead to additional insights, proofs, etc. and those insights are critical for more advanced insights and more complex proofs.

I plan to remain hard-headed about this until I am convinced that abandoning the rote sorts of exercises done in, say, a linear algebra class (which can also be done on a calculator) does not hinder our ability to form intuition about how to do proofs, etc. And these skills are valuable in other settings as well. I don't know how many times I've written computer programs by brute force initially, then realized the programs can be shortened and made much more elegant by exploiting the patterns that emerge in the brute force program, and that usually leads to a very compact, linear algebra representation of the program (which can then lead to further insights about the underlying statistical model). The inductive type reasoning that emerges from these exercises is valuable in many settings -- I'd guess learning to find patterns is a skill that is useful beyond pure mathematics -- and I worry that an over reliance on calculators will erode the development of these skills. I am absolutely convinced, for example, that forcing people to do econometric and statistical exercises by hand develops intuition that you cannot get any other way, and this is a key to moving on to doing proofs.

But what is your view on all of this?

May 30, 2011

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Paul Krugman: Against Learned Helplessness

Posted: 30 May 2011 12:15 AM PDT

I first started worrying about the possibility of a slow recovery of unemployment long ago, e.g. I criticized policymakers in 2008 "for not anticipating the slow response of employment when putting the stimulus package into place." Ever since, I've tried to keep this issue alive here and in columns, reminding everyone at every opportunity that we need to do more about the unemployment problem, calling or jobs programs, more from the Fed, etc., etc. It's been frustrating. A year ago I gave up on policymakers, but promised "I'll still complain -- there's no reason to let policymakers off the hook." I've tried to do that, to the point where I've sometimes wondered if I'm overdoing it by making the same point again and again. I'm still pessimistic about anything being done to help the millions of unemployed -- I talked earlier this week about how "there seems to be no shortage of reasons to dismiss weakness in labor markets" -- but it's worth it to continue to try. So I'm  glad to see others making the case that we need to do far more than we are doing to help the unemployed:

Against Learned Helplessness, by Paul Krugman, Commentary, NY Times: Unemployment is a terrible scourge across much of the Western world. Almost 14 million Americans are jobless, and millions more are stuck with part-time work or jobs that fail to use their skills. ... Nor is the situation showing rapid improvement. This is a continuing tragedy, and in a rational world bringing an end to this tragedy would be our top economic priority.
Yet ... on both sides of the Atlantic a consensus has emerged among movers and shakers that nothing can or should be done about jobs. Instead..., one sees a proliferation of excuses for inaction, garbed in the language of wisdom and responsibility. ...
There's nothing wrong with our workers — remember, just four years ago the unemployment rate was below 5 percent. The core of our economic problem is, instead, the debt — mainly mortgage debt — that households ran up during the bubble years... Now that the bubble has burst, that debt is acting as a persistent drag on the economy, preventing any real recovery in employment. And once you realize that the overhang of private debt is the problem, you realize that there are a number of things that could be done about it.
For example, we could have W.P.A.-type programs putting the unemployed to work doing useful things like repairing roads — which would also, by raising incomes, make it easier for households to pay down debt. We could have a serious program of mortgage modification, reducing the debts of troubled homeowners. We could try to get inflation back up to the 4 percent rate that prevailed during Ronald Reagan's second term, which would help to reduce the real burden of debt. ...
In pointing out that we could be doing much more about unemployment, I recognize, of course, the political obstacles to actually pursuing any of the policies that might work. In the United States, in particular, any effort to tackle unemployment will run into a stone wall of Republican opposition. Yet that's not a reason to stop talking about the issue. In fact, looking back at my own writings over the past year or so, it's clear that I too ... said far too little about what we really should be doing to deal with our most important problem.
As I see it, policy makers are sinking into a condition of learned helplessness on the jobs issue: the more they fail to do anything about the problem, the more they convince themselves that there's nothing they could do. And those of us who know better should be doing all we can to break that vicious circle.

links for 2011-05-29

Posted: 29 May 2011 10:01 PM PDT

Discussion Question: What's the Biggest Piece of Disinformation Circulating Right Now? What's the Best Way to Debunk It?

Posted: 29 May 2011 01:08 PM PDT

In an attempt to help Brad DeLong and others "for when [we are] surprised, as [we] will be, by an unexpected question from an unexpected direction while talking to reporters, phone callers, passers-by, radio interviewers, cable TV interviewers, etc.":

What's the biggest piece of disinformation circulating right now, and what's the best way to debunk it?

This asks about the biggest piece of disinformation, but identifying potential "surprise" pieces of disinformation that reporters and others might ask about and how to debunk them would also be very helpful.

Click on the question to answer.  (The answers to previous questions are in the outermost sidebar.)

"Welfare Reform Not the 'Success' Ryan Claims"

Posted: 29 May 2011 12:06 PM PDT

Despite claims to the contrary, the Ryan budget plan does not "strengthen the safety net":

Welfare Reform Not the "Success" Ryan Claims, CBPP: House Budget Committee Chairman Paul Ryan cites the "unprecedented success" of welfare reform to support his claim that the House-passed Republican budget that he authored would "strengthen the safety net."  The facts tell a very different story. ... [continue reading]...

May 29, 2011

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Will Labor Costs Return to Trend?

Posted: 29 May 2011 12:06 AM PDT

Tim Duy:

Will Labor Costs Return to Trend?, by Tim Duy: Paul Krugman notices a Bloomberg story on accelerating wage growth:

First, Bloomberg reports on signs that wages may be accelerating. It's worth bearing in mind that we're talking about modest stuff — if the employment cost index accelerates to 2 percent, that's still just productivity growth, and hardly a sign of runaway inflation. Still, this isn't what I expected to see, and I will be watching developments.

Yes, 2 percent is hardly anything to be concerned about. As Krugman notes, this is just productivity growth. It is the next issue I struggle with – should we care if, at least in the short run, wages accelerate at a rate faster than productivity growth?

Note the path of unit labor costs since 1983:

Unitlabor1

Further note how far below trend we are:

Unitlabor2

Constrained unit labor costs probably have no small role in these kinds of stories:

"The bright side is that there's a clear dichotomy between the health of corporate America and the economy," said Mark Luschini, chief investment strategist at Philadelphia-based Janney Montgomery Scott LLC, which manages $53 billion. "We've softened somewhat. Still, profits remain good and there's M&A activity. That tells me that we're not going to see a huge move in stocks in either direction."

To return to trend, unit labor costs would need to accelerate at a rate greater than trends. That this might come at the expense of corporate profits does not upset me. It will, however, upset the Fed, who will tighten policy in response, as they will assume – not without reason – that profits will not suffer. Firms will simply pass on the wage gains in the form of higher prices. Which leaves me wondering again how income will be transferred back to employees? Under what circumstances might we expect unit labor costs to revert to trend? Especially if the Fed remains in a trigger-happy state of mind?

links for 2011-05-28

Posted: 28 May 2011 10:01 PM PDT

Driverless Cars

Posted: 28 May 2011 12:24 PM PDT

Tyler Cowen wants government to pave the way for -- or at least get out of the way of -- driverless cars.

Who Has Been "Eclipsed"?

Posted: 28 May 2011 12:06 PM PDT

Ronald Brownstein:

Eclipsed, by Ronald Brownstein, National Journal: From Revolutionary days through 2004, a majority of Americans fit two criteria. They were white. And they concluded their education before obtaining a four-year college degree. ... But as the country grew more diverse and better educated, the white working-class share of the adult population slipped to just under 50 percent in ... 2005... That number has since fallen below 48 percent.
The demographic eclipse of the white working class is likely an irreversible trend as the United States reconfigures itself yet again as a "world nation" reinvigorated by rising education levels and kaleidoscopic diversity. ...
Still, amid all of this change, whites without a four-year college degree remain the largest demographic bloc in the workforce. ... They are also, polls consistently tell us, the most pessimistic and alienated group in American society. ...
This worry is hardly irrational. As Massachusetts Institute of Technology economists Frank Levy and Tom Kochan report in a new paper, the average high-school-educated, middle-aged man earns almost 10 percent less than his counterpart did in 1980. Minorities haven't been exempt from that trend: In fact, high-school-educated minority men have experienced even slower wage growth than their white counterparts over the past two decades, calculates Larry Mishel, president of the liberal Economic Policy Institute.
But for minorities, that squeeze has been partially offset by the sense that possibilities closed to their parents are becoming available to them as discrimination wanes. "The distinction is, these blue-collar whites see opportunities for people like them shrinking, whereas the African-Americans [and Hispanics] feel there are a set of long-term opportunities that are opening to them that were previously closed on the basis of race or ethnicity," said Mark Mellman, a Democratic pollster...
By contrast, although it is difficult to precisely quantify, the sense of being eclipsed demographically is almost certainly compounding the white working class's fear of losing ground economically. That huge bloc of Americans increasingly feels itself left behind—and lacks faith that either government or business cares much about its plight. Under these pressures, non-college whites are now experiencing rates of out-of-wedlock birth and single parenthood approaching the levels that triggered worries about the black family a generation ago. Alarm bells should be ringing now about the social and economic trends in the battered white working class and the piercing cry of distress rising from this latest survey.

Perhaps it's not what's intended, but this reads like: We don't have to pay as much attention to minorities as we do to disaffected whites because minority groups are benefiting from not being discriminated against as much as in the past (and making less noise than white groups) -- as though less of a bad thing somehow works out to be a net benefit. And that's seems to be what's happening. Loud groups of disaffected whites get all the press and attention from politicians, while minority households -- who have faced even higher costs due to the recession -- have received little notice. I'll leave trends in the sociology of the family to others, I don't know these data well enough to say whether the assertions in the article are valid, and if they are valid how worrisome they actually are. But one thing would surely help in any case -- jobs, jobs, jobs --- for middle class whites, for minorities, and for anyone else who needs one, and that's where policymakers ought to be focusing their attention.

"We Have No Idea What the Inflation Rates for Health Expenditures Really Are"

Posted: 28 May 2011 10:17 AM PDT

The driving force behind fears of growing debt in the future is rising health care costs. That's what's behind all the scary projections about future debt burdens. I've said many times that if we solve the health care cost problem, the rest of the budget problem will be relatively easy to fix. And, conversely, if we don't fix the health care cost problem, the other things we do to the budget won't help much at all (while cutting other parts of the budget doesn't fix the debt problem, i.e. the benefits are small, the loss of services could have large costs).

But how much confidence should we have in the health care cost inflation estimates? Is the increase in costs due to quality improvements, which is not inflation, or pure price increases without the accompanying quality changes, which is? If we are going to cut social services such as Medicare based upon the fear of rising healch care costs , we should be aware of how much confidence we have in the estimates of health care inflation.

So how much inflation is there in health care? Mark Bils, an expert on "the intricacies of price measurement," says we really aren't sure but the problem may not be as bad as we think. In either case -- quality changes or pure price increases -- we still have to consider the impact of rising health care costs on the budget. But public policy should be very different if the cost increase is due to the discovery of, say, a cure for cancer rather than pure inflation:

Meyer: What type of prices do you think might have been overestimated?
Bils: Services and healthcare. When you look at healthcare expenditures, you see that inflation is extremely rapid, much more rapid than other inflation rates. But we have no idea what the inflation rates for health expenditures really are. We don't know! You can't measure quality of healthcare very well.
If I compare healthcare costs today versus in the year 1800, well, I could go out and buy a bunch of leeches today for almost nothing. And I could have the healthcare I had in 1800. If you had a certain condition and you had $10,000 to get treated at today's health prices, or $10,000 to get treated at 1960s prices with 1960s technology, I don't think it's so obvious that people would want to go back in time to get their important health conditions dealt with. In that sense, you say, I don't know if there's inflation. It's pretty hard to say that there's been a lot of inflation over the long haul in healthcare. ...
Meyer: So you do believe that healthcare prices have been overestimated?
Bils: Yes, the inflation rate for healthcare prices has been overestimated. It relates to the work I did later on durable goods, like cars. When we get a new model car, the 2011 Camry versus the earlier model, the prices jump. Now, is that inflation, or is it a better model?
The same issue comes up with surgical procedures. If I have a new procedure for treating heart problems, how much better is it? If I look just at the expenditure, the cost of providing that, it goes up a lot. But if the treatments are better, if the bounce-back time to get back to work is faster, how to measure these things is hard to say. And in practice a lot of that is being fed into inflation. ...

May 28, 2011

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Misconceptions and Realities About Who Pays Taxes

Posted: 28 May 2011 12:33 AM PDT

Glad to see the CBPP take this on:

Misconceptions and Realities About Who Pays Taxes, by Chuck Marr and Brian Highsmith, CBPP: Executive Summary A recent finding by Congress' Joint Committee on Taxation that 51 percent of households owed no federal income tax in 2009 [1] is being used to advance the argument that low- and moderate-income families do not pay sufficient taxes. Apart from the fact that most of those who make this argument also call for maintaining or increasing all of the tax cuts of recent years for people at the top of the income scale, the 51 percent figure, its significance, and its policy implications are widely misunderstood.

  • The 51 percent figure is an anomaly that reflects the unique circumstances of 2009, when the recession greatly swelled the number of Americans with low incomes and when temporary tax cuts created by the 2009 Recovery Act — including the "Making Work Pay" tax credit and an exclusion from tax of the first $2,400 in unemployment benefits — were in effect. ... Both of these temporary tax measures have since expired. In a more typical year, 35 percent to 40 percent of households owe no federal income tax. In 2007, the figure was 37.9 percent. [2]
  • The 51 percent figure covers only the federal income tax and ignores the substantial amounts of other federal taxes — especially the payroll tax — that many of these households pay. As a result, it greatly overstates the share of households that do not pay any federal taxes. Data from the Urban Institute-Brookings Tax Policy Center show only about 14 percent of households paid neither federal income tax nor payroll tax in 2009, despite the high unemployment and temporary tax cuts that marked that year.[3]
  • This percentage would be even lower if federal excise taxes on gasoline and other items were taken into account.
  • Most of the people who pay neither federal income tax nor payroll taxes are low-income people who are elderly, unable to work due to a serious disability, or students, most of whom subsequently become taxpayers. (In a year like 2009, this group also includes a significant number of people who have been unemployed the entire year and cannot find work.)
  • Moreover, low-income households as a whole do, in fact, pay federal taxes. Congressional Budget Office data show that the poorest fifth of households as a group paid an average of 4 percent of their incomes in federal taxes in 2007 (the latest year for which these data are available), not an insignificant amount given how modest these households' incomes are — the poorest fifth of households had average income of $18,400 in 2007. [4] The next-to-the bottom fifth — those with incomes between $20,500 and $34,300 in 2007 — paid an average of 10 percent of their incomes in federal taxes.
  • Even these figures understate low-income households' total tax burden, because these households also pay substantial state and local taxes. Data from the Institute on Taxation and Economic Policy show that the poorest fifth of households paid a stunning 12.3 percent of their incomes in state and local taxes in 2010.[5]
  • When all federal, state, and local taxes are taken into account, the bottom fifth of households paid 16.3 percent of their incomes in taxes, on average, in 2010. The second-poorest fifth paid 20.7 percent. [6] ...
  • The fact that most people who do not pay federal income tax in a given year do pay substantial amounts of other taxes, and also are net federal income taxpayers over time, belies the claim that households that don't owe income tax will form bad policy judgments because they ostensibly "don't have any skin in the game."
  • The federal tax system is progressive overall, but state and local tax systems are regressive and undo a significant share of that progressivity. There is nothing wrong with having one part of the overall tax system shield low- and moderate-income households, who pay substantial amounts of other taxes and who generally pay federal income tax as well in other years. ...
This analysis now explores these issues in more detail. ...

links for 2011-05-27

Posted: 27 May 2011 10:04 PM PDT

Jeff Frankel: Who Should Lead the IMF?

Posted: 27 May 2011 10:44 AM PDT

Jeff Frankel argues that the next managing director of the IMF should come from a developing country (I agree):

Who Should Lead the IMF?, by Jeffrey Frankel, Commentary, Project Syndicate: Every time the International Monetary Fund awaits a new managing director, critics complain that it is past time for the appointee to come from an emerging-market country. But whining won't change the unjust 60-year-old tradition by which a European heads the IMF and an American leads the World Bank. Only if emerging-market countries unite behind a single candidate will they have a shot at securing the post.
Unfortunately, that is unlikely this time around, too, so the job will probably go to a European yet again. ... But the proposition that the ongoing sovereign-debt crisis on Europe's periphery is a reason to appoint a European is wrong. ...
Europe has lost its implicit claim to be the best source of serious people with the experience needed to run the international monetary system. ...[continue reading]...

May 27, 2011

Latest Posts from Economist's View

Latest Posts from Economist's View


Paul Krugman: Medicare and Mediscares

Posted: 27 May 2011 12:42 AM PDT

Paul Ryan is having a hard time coming to grips with the fact that his budget plan is a "political disaster":

Medicare and Mediscares, by Paul Krugman, Commentary, NY Times: Yes, Paul Ryan, the chairman of the House Budget Committee, is a sore loser. Why do you ask?
To be sure, Mr. Ryan had reason to be upset after Tuesday's special election in New York's 26th Congressional District. It's a very conservative district.... Yet ... Kathy Hochul, a Democrat, took the seat, with a campaign focused squarely on Mr. Ryan's plan to dismantle Medicare and replace it with a voucher system.
How did Ms. Hochul pull off this upset? The Wisconsin congressman blamed Democrats' willingness to "shamelessly distort and demagogue the issue, trying to scare seniors to win an election," and he predicted that by November of next year "the American people are going to know they've been lied to." ...
But the reality is that the Ryan plan is turning into a political disaster for Republicans, not because the plan's critics are lying about it, but because they're describing it accurately. Take, for example, the statement that the Ryan plan would end Medicare as we know it. This may have Republicans screaming "Mediscare!" but it's the absolute truth...
The new program might still be called Medicare ... but it wouldn't be the same program. And ... the ... vouchers — which by 2030 would cover only about a third of seniors' health costs — would leave many if not most older Americans unable to afford essential care.
If anyone is lying here, it's Mr. Ryan himself, who has claimed that his plan would give seniors the same kind of coverage that members of Congress receive — an assertion that is completely false. ...
Still, are Democrats doing a bad thing by telling the truth about the Ryan plan? "If you demagogue entitlement reform," says Mr. Ryan, "you're hastening a debt crisis; you're bringing about Medicare's collapse." Maybe he should have a word with his colleagues who greeted the modest, realistic cost control efforts in the Affordable Care Act with cries of "death panels."
Anyway, the underlying premise ... is ... that the Ryan plan represents a serious effort to come to grip with America's long-run fiscal problems. But... Once you remove the absurd assumptions — discretionary spending, including defense, falling to Calvin Coolidge levels, and huge tax cuts for corporations and the rich, with no loss in revenue? — it's highly questionable whether it would reduce the deficit at all.
What the Ryan plan is, instead, is an attempt to snooker Americans into accepting a standard right-wing wish list under the guise of deficit reduction. And Americans, it seems, have seen through the deception. ...
What of Mr. Ryan's hope that voters will realize that they've been lied to? Well, as I see it, that's already happening. And it's bad news for the G.O.P.

Will the Economy Return To the Old Normal?

Posted: 27 May 2011 12:33 AM PDT

There's been some pushback against the statement I made in this post that the economy would *eventually* return to the trend rate of growth it has displayed since at least 1870.

This is a debate, in part, about whether the economy returns to trend after a shock, i.e. whether shocks are permanent or temporary. It is also a debate about the nature of the trend itself, i.e. whether the trend rate of economic growth is a smooth process that can be approximated by a trend line (with demand shocks responsible for most of the variation around the trend), or if the trend is a variable series subject to both permanent and temporary shocks (so that a substantial part of the variation in output over time comes from the trend itself, i.e. from supply-shocks -- an extreme version of this view asserts that all variation in output can be attributed to supply-shocks).

The point I wanted to make in the post was about the slow recovery, not trend reversion. Thus, I probably could have made it better if I had acknowledged the controversy over trend reversion, noted that if shocks are permanent we'll never, ever return to where we were, and then made the point that, "even if you believe, as I do, that the economy trend reverts, that doesn't mean it will happen fast or that policy has no role to play in helping the economy recover." That might have kept the focus on the slow recovery rather than the question about trend reversion (I intended the answer to the question in the title -- "Does This Ease Your Worries?" -- to be no, but not sure that came through as clearly as I intended).

But the question about trend reversion is important, and should not be swept aside. This is not the first time the topic of trend reversion has been debated in the blogosphere. Let me start with Greg Mankiw who thinks shocks are permanent rather than temporary (he uses the term stationarity instead of trend reversion -- stationarity is a broader concept but the difference is of little consequence for this discussion):

Team Obama on the Unit Root Hypothesis, by Greg Mankiw: All academics, to some degree, suffer from the infliction of seeing the world through the lens of their own research. I admit, I do it too. So when I read the CEA's forecast analysis, this sentence jumped out at me:

a key fact is that recessions are followed by rebounds. Indeed, if periods of lower-than-normal growth were not followed by periods of higher-than-normal growth, the unemployment rate would never return to normal.

That is, according to the CEA, because we are now experiencing below-average growth, we should raise our growth forecast in the future to put the economy back on trend in the long run. In the language of time-series econometrics, the CEA is premising its forecast on the economy being trend stationary.

Some years ago, I engaged in a small intellectual skirmish over this topic along with my coauthor John Campbell. Here is the abstract of our paper:

According to the conventional view of the business cycle, fluctuations in output represent temporary deviations from trend. The purpose of this paper is to question this conventional view. If fluctuations in output are dominated by temporary deviations from the natural rate of output, then an unexpected change in output today should not substantially change one's forecast of output in, say, five or ten years. Our examination of quarterly postwar United States data leads us to be skeptical about this implication. The data suggest that an unexpected change in real GNP of 1 percent should change one's forecast by over 1 percent over a long horizon.

The view that Campbell and I advocated is sometimes called the unit-root hypothesis (for technical reasons that I will not bother with here). It contrasts starkly with the trend-stationary hypothesis. ...

Finally, I should note that there is much to forecasting beyond the univariate models in my work with Campbell. And our paper, of course, was only one piece of a large literature. The CEA might well be right that we are in for a robust recovery over the next few years. I don't pretend to have as good a forecasting staff sitting in my Harvard office as the CEA has. (I miss you, Steve Braun.) I certainly hope they are right. We could all use some good economic news right now.

Brad DeLong responds to Mankiw:

Permanent and Transitory Components of Real GDP, by Brad DeLong: Sigh. ... Mankiw is arguing that the Obama administration's forecast is too high... Mankiw is arguing that future economic growth is likely to be just average--that there will be no post-recession catch-up during which growth is faster than average.

Whether an unexpected fall in production is followed by faster than average catch-up growth depends what kind the fall in production is. A fall in production that does not also change the unemployment rate will in all likelihood be permanent. A fall in production that is accompanied by a big rise in the unemployment rate will in all likelihood be reversed. You have to do a bivariate analysis--to look at two variables, output and unemployment. You cannot do a univariate analysis and expect to get anything useful out.

Guess what kind of unexpected fall in production we are experiencing right now? ...

But Greg Mankiw knows this. At the bottom of his column he writes:

I should note that there is much to forecasting beyond the univariate models in my work with Campbell...

In other words, he notes that when constructing a real forecast it makes no sense to ignore the information in the unemployment rate. And:

[O]ur paper, of course, was only one piece of a large literature. The CEA might well be right...

And that is certainly the way to bet.

Paul Krugman follows up with:

Roots of evil (wonkish), by Paul Krugman: As Brad DeLong says, sigh. Greg Mankiw challenges the administration's prediction of relatively fast growth a few years from now on the basis that real GDP may have a unit root — that is, there's no tendency for bad years to be offset by good years later.
I always thought the unit root thing involved a bit of deliberate obtuseness — it involved pretending that you didn't know the difference between, say, low GDP growth due to a productivity slowdown like the one that happened from 1973 to 1995, on one side, and low GDP growth due to a severe recession. For one thing is very clear: variables that measure the use of resources, like unemployment or capacity utilization, do NOT have unit roots: when unemployment is high, it tends to fall. And together with Okun's law, this says that yes, it is right to expect high growth in future if the economy is depressed now.
But to invoke the unit root thing to disparage growth forecasts now involves more than a bit of deliberate obtuseness. How can you fail to acknowledge that there's huge slack capacity in the economy right now? And yes, we can expect fast growth if and when that capacity comes back into use.

It's the "if and when" part I was emphasizing. Yes, trend reversion is the best bet, but trend reversion can be fast or slow, and in this case I expect it to be very slow -- much too slow for policymakers to sit idle waiting for the economy to take care of itself.

Continuing, more recently (i.e. today) Noahopinion adds:

Past performance is no guarantee of future results, by Noah Smith: "Past performance is no guarantee of future results." This is the most common caveat in finance. It means that, despite the fact that past and future are often correlated, that correlation is no guarantee; something may happen in the future that never happened in the past. In technical terms, economic and financial processes might not be ergodic.

This is why, unlike Mark Thoma, I am not reassured by a long-term plot of United States gross domestic product. Mark writes:

As you can see from this picture, historically we've always recovered from recessions. Eventually. ... I am confident that we'll return to trend this time as well, the question is how long it will take us to get there.

He illustrates this with the following famous graph:

The idea is that because this graph sort of looks like a straight line (although if you look closely, you'll see that it's not!), that it will continue to look sort of like a straight line into the future.
But off the top of my head, I can think of no good reason to think that this is true. The kinda-sorta stability of the long-term U.S. GDP growth rate is not a law of the Universe, like conservation of momentum, which is (we hope) fixed and immutable. It is a past statistical regularity whose underlying processes we don't fully understand. There may be solid, long-term factors that will keep our growth at this "trend," or there may not. ...
Japan's growth history looks very different from ours. It seems to have suffered some "trend breaks" in growth. And my question is: Why should we believe that this will not happen to us?
One common answer is that long-term growth for a mature economy will continue at roughly the rate of technological progress. But this is a tautology, since economists measure "technological progress" simply as the the long-term rate of GDP growth. This leads some economists to look at slowing growth and conclude that technological progress is slowing. And maybe they're right! The point is that whether long-term growth represents "technology" or some combination of underlying processes, there is no law of the universe that says that these processes grow at a constant exponential rate.
And in addition to "trend breaks," there is no guarantee that U.S. GDP does not also contain unit roots. ... Even if the U.S. returns to its "trend" growth rate of 2 or 3 percent, there seems to me to be no good reason to believe that it will return to its trend level.
So no, this graph does not ease my worries. Past performance is no guarantee of future results. It may well be that a return to our "trend" growth rate, and/or a return to our "trend" level of output, may be contingent on our policy choices. At least, I am not willing to assume that that is not the case...

I am not 100% certain of trend reversion. Further, I think there's reason to question the natural rate model itself. As I wrote many years ago (2006), I've always liked Friedman's Plucking model as an alternative. In this model deviations from trend are temporary, i.e. there is trend reversion and stationarity, but the model of the trend is very different than with natural rate models -- it represents a maximum rather than a central tendency. (I should add that this is not the only alternative to natural rate models, e.g. Roger Farmer has also been working on this in some of his recent research):

New Support for Friedman's Plucking Model, by Mark Thoma: Milton Friedman's "plucking model" is an interesting alternative to the natural rate of output view of the world. The typical view of business cycles is one where the economy varies around a trend value (the trend can vary over time also). Milton Friedman has a different story. In Friedman's model, output moves along a ceiling value, the full employment value, and is occasionally plucked downward through a negative demand shock. Quoting from the article below:

In 1964, Milton Friedman first suggested his "plucking model" (reprinted in 1969; revisited in 1993) as an asymmetric alternative to the self-generating, symmetric cyclical process often used to explain contractions and subsequent revivals. Friedman describes the plucking model of output as a string attached to a tilted, irregular board. When the string follows along the board it is at the ceiling of maximum feasible output, but the string is occasionally plucked down by a cyclical contraction.

Friedman found evidence for the Plucking Model of aggregate fluctuations in a 1993 paper in Economic Inquiry. One reason I've always liked this paper is that Friedman first wrote it in 1964. He then waited for almost twenty years for new data to arrive and retested his model using only the new data. In macroeconomics, we often encounter a problem in testing theoretical models. We know what the data look like and what facts need to be explained by our models. Is it sensible to build a model to fit the data and then use that data to test it to see if it fits? Of course the model will fit the data, it was built to do so. Friedman avoided that problem since he had no way of knowing if the next twenty years of data would fit the model or not. It did. I was at an SF Fed Conference when he gave the 1993 paper and it was a fun and convincing presentation. Here's a recent paper on this topic that supports the plucking framework (thanks Paul):

Asymmetry in the Business Cycle: New Support for Friedman's Plucking Model, Tara M. Sinclair, George Washington University, December 16, 2005, SSRN: Abstract This paper presents an asymmetric correlated unobserved components model of US GDP. The asymmetry is captured using a version of Friedman's plucking model that suggests that output may be occasionally "plucked" away from a ceiling of maximum feasible output by temporary asymmetric shocks. The estimates suggest that US GDP can be usefully decomposed into a permanent component, a symmetric transitory component, and an additional occasional asymmetric transitory shock. The innovations to the permanent component and the symmetric transitory component are found to be significantly negatively correlated, but the occasional asymmetric transitory shock appears to be uncorrelated with the permanent and symmetric transitory innovations. These results are robust to including a structural break to capture the productivity slowdown of 1973 and to changes in the time frame under analysis. The results suggest that both permanent movements and occasional exogenous asymmetric transitory shocks are important for explaining post-war recessions in the US.

Let me try, within my limited artistic ability, to illustrate further. If you haven't seen a plucking model, here's a graph to illustrate (see Piger and Morley and Kim and Nelson for evidence supporting the plucking model and figures illustrating the plucking and natural rate characterizations of the data). The "plucks" are the deviations of the red line from blue line representing the ceiling/trend:

Notice that the size of the downturn from the ceiling from  a→b (due to the "pluck") is predictive of the size of the upturn from b→c that follows taking account of the slope of the trend. I didn't show it, but in this model the size of the boom, the movement from b→c, does not predict the size of the subsequent contraction. This is the evidence that Friedman originally used to support the plucking model. In a natural rate model, there is no reason to expect such a correlation. Here's an example natural rate model:

Here, the size of the downturn a→b does not predict the size of the subsequent boom b→c. Friedman found the size of a→b predicts b→c supporting the plucking model over the natural rate model.

There's a lot more to say about this, much, much more, but let me wrap up for now by saying that while I expect the economy to return to trend, though very slowly, I am by no means 100% certain about this. There are certainly reasons to question trend reversion, there are also reasonable alternatives to the natural rate model, and there are good theoretical and empirical reasons to pursue them.

links for 2011-05-26

Posted: 26 May 2011 10:02 PM PDT

New GDP Data: There’s Bad News, Hidden in the Details

Posted: 26 May 2011 10:26 AM PDT

More on the state of the economy from Justin Wolfers:

The New GDP Data Is Bad. The Hidden Data Behind It Is Worse, by Justin Wolfers: This morning the Bureau of Economic Analysis (BEA) released its latest estimates of GDP. And there's bad news, hidden in the details. Most analysts are focused on the fact that GDP growth in the first quarter of this year was unrevised, remaining at 1.8%. But they're focused on the wrong number.
National accounting aficionados know that hidden beneath the headline number is an alternative estimate of GDP. This alternative is often called GDP(I), because it is based on income data, rather than spending data. And GDP(I) is actually a more reliable estimate. Unfortunately, this more accurate indicator tells us that GDP grew by only 1.2%. That's bad news.
In fact, this alternative indicator says that GDP is still below its level from late 2006. ... Okun's Law tells us growth needs to exceed 3% before the unemployment rate will decline.

Rebecca Wilder has more on the report.

Weekly Initial Unemployment Claims Increase to 424,000

Posted: 26 May 2011 09:45 AM PDT

New claims for unemployment insurance went back up last week, and historically claims at this level indicate job loss. Every time claims go up we hear about holidays falling at unusual times, seasonal adjustment problems, weather related problems -- there seems to be no shortage of reasons to dismiss weakness in labor markets. So I'll be interested to see what excuse policymakers come up with this time to ignore the unemployment crisis.