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January 31, 2012

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The Path to a More Secure Economic Future

Posted: 31 Jan 2012 01:11 AM PST

A new column is live:

The Path to a More Secure Economic Future

It's a response to president Obama's plan to increase economic growth and job opportunities through a revival of manufacturing in the U.S.

"Should The U.S. Take A Harder Stance On China's Currency?"

Posted: 31 Jan 2012 12:42 AM PST

Joe Gagnon says the "best way to discourage currency manipulation is to tax it heavily":

Should The U.S. Take A Harder Stance On China's Currency?, by Joe Gagnon, Planet Money: ...Ben Bernanke recently said that Chinese currency manipulation "is blocking what might be a more normal recovery process." In fact, the problem goes beyond China to include many other emerging economies and even a few advanced economies. ... The evidence suggests that currency manipulators jointly have increased their trade balances by about $1 trillion relative to where they would have been in the absence of manipulation. Europe and the United States have suffered the corresponding decline in trade balances. ...
Based on estimates of the International Monetary Fund, the $1 trillion boost to European and US net exports from the ending of currency manipulation would return these economies to nearly full employment.
The best way to discourage currency manipulation is to tax it heavily. The taxes should apply to all purchases of European and US assets, including bank deposits, by governments that engage in currency manipulation. Unlike trade sanctions, such taxation is allowed under international law, and it also does not cause the economic distortions that trade sanctions cause. As I outlined recently with my colleague Gary Hufbauer, anti-money-laundering procedures now in place can prevent currency manipulators from hiding their investments through third parties.
One consequence of a reduction in currency manipulation would be a sharp drop in the values of the dollar and the euro in terms of the currencies of the manipulators. It is this exchange rate adjustment that would boost US and European exports, thereby generating jobs. ...

"Changing Inequality in U.S. College Entry and Completion"

Posted: 31 Jan 2012 12:34 AM PST

From the NBER:

Gains and Gaps: Changing Inequality in U.S. College Entry and Completion, by Martha J. Bailey, Susan M. Dynarski, NBER Working Paper No. 17633, December 2011: [open link] We describe changes over time in inequality in postsecondary education using nearly seventy years of data... We find growing gaps between children from high- and low-income families in college entry, persistence, and graduation. Rates of college completion increased by only four percentage points for low-income cohorts born around 1980 relative to cohorts born in the early 1960s, but by 18 percentage points for corresponding cohorts who grew up in high-income families. Among men, inequality in educational attainment has increased slightly since the early 1980s. But among women, inequality in educational attainment has risen sharply, driven by increases in the education of the daughters of high-income parents. Sex differences in educational attainment, which were small or nonexistent thirty years ago, are now substantial, with women outpacing men in every demographic group. The female advantage in educational attainment is largest in the top quartile of the income distribution. These sex differences present a formidable challenge to standard explanations for rising inequality in educational attainment.

There's a more extended summary of the results in the conclusion to the paper.

Links for 2012-01-31

Posted: 31 Jan 2012 12:06 AM PST

FRBSF: Why Is Unemployment Duration So Long?

Posted: 30 Jan 2012 01:01 PM PST

What's responsible for the slow recovery of employment in recent recessions? :

The analyses discussed here suggest that weak labor demand is the primary explanation for prolonged unemployment duration observed in the recent recession and recovery. The weak recovery of employment is similar to the jobless recoveries that followed the 1990–91 and 2001 recessions. This suggests that the labor market has changed in ways that prevent the cyclical bounceback in the labor market that followed past recessions. The shift towards jobless recoveries probably reflects a reduction in temporary layoffs during cyclical downturns. Stricter market incentives to control costs in the face of stiff domestic and international competition may also be factors. In addition, anecdotal evidence suggests that recent employer reluctance to hire reflects an unusual degree of uncertainty about future growth in product demand and labor costs. These special factors are not readily addressed through conventional monetary or fiscal policies. But such policies may be able to offset the central obstacle of weak aggregate demand.

More here.

DeLong: Neville Chamberlain was Right

Posted: 30 Jan 2012 10:09 AM PST

Brad DeLong:

Neville Chamberlain was Right, by J. Bradford DeLong, Commentary, Project Syndicate: Neville Chamberlain is remembered today as the British prime minister who, as an avatar of appeasement of Nazi Germany in the late 1930's, helped to usher Europe into World War II. But, earlier in that fateful decade, relatively soon after the start of the Great Depression, the British economy was rapidly returning to its previous level of output, thanks to Chancellor of the Exchequer Neville Chamberlain's reliance on fiscal stimulus to restore the price level to its pre-depression trajectory.
Compare that approach to the expansion-through-austerity policy being pursued nowadays by British Prime Minister David Cameron's government (with Chancellor of the Exchequer George Osborne leading the cheering squad). The country's real GDP has flat-lined, and the odds are high that British real GDP is headed down again.
Indeed, in less than a year, if current forecasts are correct, Britain's Cameron-Osborne Depression will not merely be the worst depression in Britain since the Great Depression, but probably the worst depression in Britain…ever. ...[continue reading]...

Someone Needs to Work on His Communications Strategy

Posted: 30 Jan 2012 09:20 AM PST

It's weird to get email from Stephen Williamson calling me names. Not much else, just name calling.

How childish is this guy?

January 30, 2012

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Paul Krugman: The Austerity Debacle

Posted: 30 Jan 2012 12:42 AM PST

Austerity in recessions is a bad idea:

The Austerity Debacle, by Paul Krugman, Commentary, NY Times: Last week the National Institute of Economic and Social Research, a British think tank, released a startling chart comparing the current slump with past recessions and recoveries. It turns out that by one important measure — changes in real G.D.P. since the recession began — Britain is doing worse this time than it did during the Great Depression. ...
Nor is Britain unique. Italy is also doing worse..., and with Spain clearly headed for a double-dip recession, that makes three of Europe's big five economies members of the worse-than club. Yes, there are some caveats and complications. But this nonetheless represents a stunning failure of policy.
And it's a failure, in particular, of the austerity doctrine that has dominated elite policy discussion both in Europe and, to a large extent, in the United States for the past two years. ...
Thus in October 2010 David Broder, who virtually embodied conventional wisdom, praised Mr. Cameron for his boldness, and in particular for "brushing aside the warnings of economists that the sudden, severe medicine could cut short Britain's economic recovery and throw the nation back into recession." He then called on President Obama to "do a Cameron" and pursue "a radical rollback of the welfare state now."
Strange to say, however, those warnings from economists proved all too accurate. And we're quite fortunate that Mr. Obama did not, in fact, do a Cameron.
Which is not to say that all is well with U.S. policy. True, the federal government has avoided all-out austerity. But state and local governments, which must run more or less balanced budgets, have slashed spending and employment as federal aid runs out — and this has been a major drag on the overall economy. Without those spending cuts, we might already have been on the road to self-sustaining growth; as it is, recovery still hangs in the balance.
And we may get tipped in the wrong direction by Continental Europe, where austerity policies are having the same effect as in Britain, with many signs pointing to recession this year.
The infuriating thing about this tragedy is that it was completely unnecessary. Half a century ago, any economist — or for that matter any undergraduate who had read Paul Samuelson's textbook "Economics" — could have told you that austerity in the face of depression was a very bad idea. But policy makers, pundits and, I'm sorry to say, many economists decided, largely for political reasons, to forget what they used to know. And millions of workers are paying the price for their willful amnesia.

Fed Watch: Europe Needs a Real Fiscal Union

Posted: 30 Jan 2012 12:33 AM PST

Tim Duy:

Europe Needs a Real Fiscal Union, by Tim Duy: The rhetoric is heating up as we head into Monday's European Union's summit. On one hand, we see rumors circulating that a deal in the Greek debt talks is in the works. Via the Wall Street Journal:

But in Athens, the mood Saturday was upbeat. "We really are one step away from a final agreement [on the debt deal]," Finance Minister Evangelos Venizelos told reporters following a day of hectic talks in the Greek capital. "Next week we will be in a position to complete this procedure along with the talks we are holding on the new loan program."

Note, however, that these negotiations are just one piece of the puzzle. Via the New York Times:

Though a debt agreement may spur Greece's next bailout installment, the deeper loss being inflicted on bondholders carries the risk that many investors, in particular hedge funds that in recent months have loaded up on cheap Greek bonds in hopes of a payday this March, will refuse to participate in the deal.

Greece will try to impose the terms on all investors by writing collective-action clauses into the contracts of its old bonds. By doing this, the hope is that the holdouts, estimated to sit on 10 percent to 15 percent of the 206 billion euros ($272 billion) in outstanding securities, will exchange their old bonds for new bonds — preferring the new discounted bonds to their old ones, which may become worthless.

Some hedge funds that have bought at rock-bottom prices may decide to pursue legal action, although such a process could take years with small certainty of success.

Also undecided is what the European Central Bank, which owns 55 billion euros of Greek bonds, will do. Despite public pressure that it, along with investors, accept a loss on its bonds, the bank has not budged.

It seems to me more accurate to state that one portion of the debt deal may be in place, but in the interest of unity on the eve of the EU summit, we will pretend that the issues of holdouts and the ECB are not relevant. In any event, given the steady deterioration of the Greek economy, I find it unlikely that this is the last word in the debt story.

More interesting, however, is German demands that Greece cede its budgetary authority to the Troika. Athens of course was a bit perturbed by the escalation of demands. Via the Financial Times:

The Greek finance minister has lashed out against a German proposal for its budget to be controlled by a eurozone commissioner as a condition for receiving a second €130bn bail-out, saying the country was already prepared to "implement tough but necessary decisions"...

...The German plan, widely circulated in Athens and dubbed "the document of shame" by a local newspaper, would require Greece to pass legislation making debt repayments a budget priority, and would also give the new commissioner a veto over large-scale spending.

Perhaps the Greeks are not moving ahead swiftly enough with reforms, but consider that they are stuck between a rock and a hard place - anything positive in the long-run looks to be devastating in the short run. For example:

One main sticking point has been demands by EU and International Monetary Fund negotiators for a 25 per cent cut in the €750 minimum monthly wage and the abolition of an annual bonus paid as 13th and 14th salaries – measures that would improve competitiveness and bring Greece in line with minimum wages in Spain and Portugal.

George Koutromanis, labour minister, argued that the measure would reduce output by about 1.5 percentage points of gross domestic product and prolong the country's recession, now in its fifth year.

Greece needs more carrots to move forward; Germany offers only the stick. Speaking of which, Germany subsequently responded to Athens indignation. Via the Wall Street Journal:

Germany's finance minister issued an unusually blunt warning that the euro zone might refuse to grant Greece a fresh bailout, pushing Athens into default unless it persuades Europe it can overhaul its state and economy...

...Europe is "prepared to support Greece" with the new loan package, Mr. Schäuble said, but he warned: "Unless Greece implements the necessary decisions and doesn't just announce them ... there's no amount of money that can solve the problem."

The options for Greece are narrowing quickly - either willingly accept German rule, or exit the Euro. And perhaps plans for the latter are already well established. Via The Examiner (hat tip Ed Harrison):

Greece plans an orderly exit out of the Eurozone according to two sources close to Mr. Papademos, Greek Prime Minister, who spoke on condition of anonymity earlier today.

The sources confirmed that plans are ready to return to a legacy currency given the current circumstances and that such exit would be dealt with, quote "in as orderly a fashion as possible" unquote.

I am starting to wonder if Greece is going through the motions to get one more tranche of aid before they come to the conclusion that they must exit the Eurozone. Absent real transfers from Germany, staying in the Eurozone now means crushing recession under German rule. Exiting just means crushing recession. Germany, however, is playing a dangerous game testing Greek nationalism. Either outcome is bad for Greece, but I suspect pushing Greece out of the Euro is ultimately bad for Germany as well.

Meanwhile, other nations need to pay attention to how this all plays out, because austerity is just not working anywhere. Take Spain for example, where unemployment is at a depression-like level of 23%. A clear symbol of the failure of European economic policy, to be sure. Spain gets a pass, however, as for now it is playing the German game. Via the Wall Street Journal:

In an interview this week with Spain's El Pais newspaper, German Chancellor Angela Merkel noted Spain's high unemployment rate, and said her country was willing to help the region's fiscally frail countries, but that they must take steps to solve their own problems.

Soraya Sáenz de Santamaría, spokeswoman for Spain's new government, repeated that a sweeping overhaul of Spanish labor laws is coming in weeks. "To all those millions of people who are looking for a job, I want to tell them...we are speeding up the reforms that are necessary to turn this situation around," she told journalists after the weekly cabinet meeting.

The story is that high dismissal costs deter hiring. To be sure, a real issue. I would note, however, that this did not seem to be a problem a few years back when the construction boom fostered unemployment rates below 10%. While structural reforms are important, so to is demand. And where will that demand come from in the short run?

Even more pressing is the issue of Portugal, which will almost certainly need another bailout. Moreover, the 15.2% rate of 10 year debt calls into question the EU claim that the Greek PSI was an isolated event. Via Business Insider:

While on some level it is crucial for the country to sustain the idea that it is meeting its debt obligations until it has more aid in the bag, the truth might be that the gig is up; it's just unlikely that Portugal will continue to meet its debt and deficit goals amid mounting pressures, even if it complies with the troika plan.

This is much the same psychological development that took place in Greece last summer, as EU politicians realized that a managed default might be the best way to return Greek debt levels to sustainability.

Note that swift passage of an even watered-down commitment to EU-wide fiscal austerity may not be as easy as it sounds. Perhaps the Irish are no longer willing to suffer in silence, via the Financial Times:

The Irish government faces intense pressure to hold a referendum on the eurozone fiscal treaty after a poll that showed almost three quarters of the public want a vote on the agreement.

Months of uncertainty lie ahead. That said, perhaps their is some hope that Europe leaders will actually move where they need to go - true fiscal union. On the eve of the summit, we learned that EU leaders are starting to see the writing on the wall. Via the New York Times:

Bowing to mounting evidence that austerity alone cannot solve the debt crisis, European leaders are expected to conclude this week that what the debt-laden, sclerotic countries of the Continent need are a dose of economic growth.

A draft of the European Union summit meeting communiqué calls for ''growth-friendly consolidation and job-friendly growth,'' an indication that European leaders have come to realize that austerity measures, like those being put in countries like Greece and Italy, risk stoking a recession and plunging fragile economies into a downward spiral.

But the devil is in the details:

The difficulty, however, is that reaching such a conclusion is not the same as making it happen.

Instead, leaders will discuss long-term structural reforms and better use of E.U. subsidies, while avoiding mention of the one thing that could change the climate: a fiscal stimulus from Germany, the euro currency zone's undisputed powerhouse.

Easy to say, tough to do given Europe's political makeup. At what point will Germany be willing to justify fiscal transfers to the rest of Europe. For now, the EU appears able to come up with little more than token sums of cash to support growth. According to Reuters:

The summit is expected to announce that up to 20 billion euros ($26.4 billion) of unused funds from the EU's 2007-2013 budget will be redirected toward job creation, especially among the young, and will commit to freeing up bank lending to small- and medium-sized companies.

A paltry sum when placed in context of 23 million unemployed in Europe.

Bottom Line: The European Central Bank's LTRO dramatically eased financial market tensions throughout Europe, revealing the important role of a lender of last resort. But underneath those tensions exist some very real and deep economic and political fractures in the European economy. And unless those fractures are quickly healed via a real fiscal union - not just an agreement to balance budgets, but a union in which rich countries transfer, not lend, resources to poor - the Euro experiment will be torn asunder.

"Who Cares How 'Deserving' the Poor Are?"

Posted: 30 Jan 2012 12:24 AM PST

Noah Smith argues that the distinction between the deserving and the undeserving poor is "pointless":

Who cares how "deserving" the poor are?, Noahpinion: Bryan Caplan is apparently about to debate Karl Smith on the question of "How deserving are the poor?" I want to get my two cents in ahead of this debate, by asking the counter-question: "Who cares?"
The question of "How deserving are the poor" is a matter of opinion. There is no right answer, because to say someone "deserves" something is a prescriptive statement, and you can't prove those with facts. Also, it is a somewhat pointless question, because no matter what answer you decide you like, it doesn't really imply any particular policy prescription. In practice, people who say "The poor deserve to be poor" are usually just trying to push the idea that we shouldn't try to do anything about poverty other than scolding the poor for their own mistakes (I'll come back to this idea in a bit). But this doesn't really follow.
As I see it, there are two important questions about poverty from a policy perspective: 
1. Do we want to make poor people less poor?
2. If we do want to do that, how do we accomplish it?
Bryan Caplan's answer ... to the question of "How deserving are the poor" is that if people are poor mainly as a result of their own actions, then they deserve to be poor. But as I see it, whether people are poor because of their own actions doesn't really help us answer either of the two questions I posed above.
Regarding the first of my questions, "Do we want to make poor people less poor", it may be that your sense of morality tells you that if someone is in a condition as a direct result of their own actions, it would be wrong to try to remove that person from that condition. Fine, good for you and your sense of morality! But for my part, I simply don't care. If I am getting mugged by a poor person, I quite frankly do not give a rodent's gluteal region whether that person is poor because he made bad life choices or because the circumstances of his birth made his poverty inevitable; I want him to stop mugging me, and if making him less poor will make him stop mugging me, then maybe this would be a good thing to do, regardless of whether he "deserves" it. When I witness the urban blight, violence, drug abuse, and other social ills that poverty may be causing, as a non-poor person I have an interest in preventing these social ills from affecting me, regardless of whether the ills are "deserved."
Also, whether people are poor because of their own actions doesn't really tell us how to get them out of poverty. Scolding and finger-wagging does not work. Just because a person's actions got him into a situation doesn't mean that his actions can get him out of it. And even if poor people could raise themselves up out of poverty at any time, scolding and finger-wagging is not likely to induce them to suddenly do so. The conservative solution to poverty - make it really, really unpleasant to be poor, and then hope people will do the smart thing and avoid it - has failed and failed and failed again.
So from my point of view, asking whether or not poor people "deserve" their poverty is asking the wrong question.
That said, I think the Caplan definition of "deserve" is not as "uncontroversial" a moral premise as Caplan declares. The reason is that it is a partial-equilibrium definition, not a general-equilibrium one. If we live in a society in which X percent of the populace must be poor, then no matter what set of actions is taken by the population, some people will wind up in poverty. To see this, imagine that we lived in a society in which the hardest-working 50% of people get to be spectacularly rich, and the other 50% are forced to live in squalid poverty. In this society, if everyone raises their effort by 1000%, the number of people in poverty stays exactly the same. I doubt that most people would say that the lower half of the population "deserved" to stay in poverty after raising their effort by 1000%! But that is exactly what Caplan's definition implies. Also, note that in such a world, whether you "deserve" to be poor depends critically on the actions of other people (since the degree of effort required for a person to raise himself out of poverty depends on how much effort others are expending)...thus, Caplan's definition doesn't really seem to capture the notion of individual responsibility.
But anyway, that is a bit beside the point, because in my opinion the whole question is a bit of a pointless one.

Shouldn't those who complain about the undeserving poor also worry about the undeserving rich?

Links for 2012-01-30

Posted: 30 Jan 2012 12:06 AM PST

Fed Watch: ZIRP and Interest Income

Posted: 29 Jan 2012 12:20 PM PST

Tim Duy:

ZIRP and Interest Income, by Tim Duy: Edward Harrison at Credit Writedowns describes the Fed's zero interest rate policy as "toxic," noting that it is a transfer from savers and fixed-income investors to borrowers. On net, this is stimulative if the spending propensities of the latter exceeds that of the former, but the willingness of the borrowers to spend is constrained by weak household balance sheets. The Fed is thus pushing on a string, and possibly even making matters worse by reducing the income flow to households. Harrison points to the following chart to illustrate the severity of the problem:

If the Obama Administration takes advantage of low interest rates and is able to push forward with refinancing efforts for underwater borrowers, then we can expect an at least temporary economic boost of potentially substantial magnitude. See Joe Gagnon for estimates. I would expect more modest outcomes, as the Administration has proved itself capable of half-hearted efforts in the past. Anything, however, would be helpful at this point.

My question is how much of the zero interest rate environment is attributable to Fed policy directly? Or, in other words, is the Fed really just following the economy down? It seems that the banking system is awash with cash - note the trend of total checkable deposits:


Considering the lack of take-up on the other side of the savings/borrowing equation, I have trouble seeing that interest rates would go to anywhere but down to rock bottom levels. And I certainly have trouble seeing that the Fed would improve conditions by raising interest rates.

That said, I fully agree with Harrison when he predicts:

But remember, households are still over-levered and interest rates cannot be stimulative since they are zero percent. When the next recession hits and the yield curve is still flat as a pancake, bad things are going to happen. That's why I have to remind you how toxic this policy is.

We have witnessed lower interest rates with each recession since the mid-1980's, which begs the question of what happens when the next recession hits and the economy is still locked on the zero bound. Bad things, I think. From this I conclude that the Federal Reserve is clearly not taking the zero bound seriously enough. This is even more evident when one recognizes the central tendency for the Fed Funds rate forecast over the longer term is 4.0 to 4.5%, while six FOMC participants see the rate unchanged through 2014! Seems like a serious disconnect between where the economy is and where it should be. It is simply tough to disagree with Brad DeLong, who, upon reading Jim Hamilton, concludes the Federal Reserve is just plain wrong in its implementation of policy.

Maybe the next round of QE will do the trick, but I remain skeptical. Policy has consistently fallen short of that necessary to decisively propel the economy off the zero bound. Such policies have, in my opinion, fallen victim to fears of inflation. The Federal Reserve appears committed to a 2% target under any circumstances, with even a temporary increase considered unacceptable.

In short, I see the Fed's policy as toxic not so much because interest rates are locked at the zero bound, but because the Fed sees no urgency in rectifying the situation. I think this will be proven to be a serious policy failure when the next recession arrives, and I wish the Fed would make a clear objective to lift the economy off the zero bound, rather than issue a forecast that, when coupled with lack of immediate policy action, represents acceptance of the zero bound. As far as what the Fed can do to accomplish such an objective, in addition to loosening the inflation target, I tend to think they need to shift their policy framework to regular, permament additions to the balance sheet until the economy is well beyond the zero bound rather than emphasize the temporary nature of the entire monetary policy agenda.

Harmful Austerity

Posted: 29 Jan 2012 09:40 AM PST

I noted the damage that austerity has done to the recovery here, and as Paul Krugman notes today, Jared Bernstein has been pushing the same point. As I wrote:

Austerity is Holding Back the Recovery: ...premature austerity -- cutting spending before the economy is ready for it -- is taking a toll on the recovery. The fall in government spending reduced fourth-quarter growth by 0.93 percent...
This is the opposite of what the government should be doing to support the recovery. We need a temporary increase in government spending to increase demand and employment through, for example, building infrastructure. That would help to get us out of the deep hole we are in. Instead, the government seems to be trying to make it harder to escape.
We do need to address our long-run budget problems once the economy is healthy enough to withstand the tax increases and program cuts that will be required. But the idea of "expansionary" austerity has failed. Austerity in the short-term simply makes it harder for the economy to recover and delays the day when you can finally address budget issues without harming the economy. The lesson is that government needs to support the recovery, not oppose it through a false promise that contraction of one sector in the economy will be expansionary. And given how far we still have to go before the economy is healthy again, it's not too late to put that lesson into practice.

As Jared Bernstein emphasizes, the main driving force behind the cuts in government spending has been declines at the state and local level. Here's a story from the local paper illustrating the harm this is doing not just to our present, but also to our future:

Eugene's Halls of Not Learning, by Susan Palmer, The Register-Guard: It's a little after 1 p.m. at North Eugene High School and the lounge areas are filled with clusters of students. At one table, a group of junior and senior boys plays Magic, a complicated card game.
When asked, they say they'd rather be in class. "Don't depict us as being lazy," said Walker Squires, a junior. "We're not doing it out of idleness. If I could, I would be in class."
But this is the new normal at Eugene School District high schools. Students arrive late, leave early, or find something to do in the middle of the day because they can't get all the classes they need or want.
Cuts that have reduced the district's general fund budget by more than $20 million over the past three years mean fewer teachers and fewer course offerings in the high schools.
Michael Anderson, a junior at North, would be taking Advanced Placement physics and chemistry this term if he could, but there is no room in those classes for him.
"It's frustrating when you actually want to be in school," Anderson said. He had hoped that high school would allow him to go more deeply into the sciences that captivated him when he was younger, but there just aren't enough classes, he said. The problem is widespread across all Eugene district high schools. ...

January 29, 2012

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Posted: 29 Jan 2012 12:06 AM PST

Is Romney Double Taxed?

Posted: 28 Jan 2012 02:18 PM PST

Rajiv Sethi:

Double Taxation, by Rajiv Sethi: The release of Mitt Romney's tax returns has drawn attention yet again to the disparity between the rates paid on ordinary income and those paid on capital gains. It is being argued in some quarters that the 15% rate on capital gains vastly underestimates the effective tax rate paid by those whose income comes largely from financial investments, on the grounds that corporations pay a rate of 35% on profits. Were it not for this tax, it is argued, dividends and capital gains would be higher, and so would the after-tax receipts of those (such as Romney and Warren Buffett) who derive the bulk of their income from such sources.

Romney himself has made this argument recently, claiming that his effective tax rate is closer to 50%:

One of the reasons why we have a lower tax rate on capital gains is because capital gains are also being taxed at the corporate level. So as businesses earn profits, that's taxed at 35 percent. Then as they distribute those profits in dividends, that's taxed at 15 percent more. So all total, the tax rate is really closer to 45 or 50 percent.

The absurdity of this claim is clearly revealed if one considers capital gains that accrue to short sellers, who pay rather than receive dividends while their positions are open. Following the logic of the argument, one would be forced to conclude that short sellers are taxed at an effective rate of negative 20%, thereby receiving a significant subsidy due to the existence of the corporate tax. The flaw in this reasoning is apparent when one recognizes that asset prices are lower (relative to the zero corporate tax benchmark) not only when a short position is covered, but also when it is entered. ...[continue reading]...

The Purpose of Macroeconomic Policy?

Posted: 28 Jan 2012 09:39 AM PST

Chris Dillow is trying to figure out why the UK won't admit it's error in pursuing austerity. Perhaps the answer is that for some it wasn't an error:

Macro amateurs, micro geniuses?, by Chris Dillow: Simon Wren-Lewis says the coalition's austerity is a "major macroeconomic policy error."
It's difficult to imagine the government ever acknowledging this. On Wednesday, Cameron resorted to immunizing strategies such as blaming the euro crisis (without noting that exports to the euro area have risen by 11.3% in the last 12 months), or celebrating the "lowest interest rates for a hundred years", oblivious to the fact that these are a sign of economic weakness. I suspect that even if the GDP numbers had been much worse, he'd have used similar arguments.
Macroeconomic policy, then, is not only made by rank amateurs - not one of the five Treasury ministers in the Commons has a postgraduate qualification in economics and only one has significant experience in financial work. It is made by amateurs who seem immune to feedback. Errors are only to be expected.
Which raises a paradox. The job of running the economy is entrusted to anyone.  But the job of running companies requires people of such rare and delicate talent that only multi-million salaries will attract and motivate them.
Why the inconsistency? I suppose you could argue - Robert Lucas style (pdf) - that the benefits of good macroeconomic stabilization policy are small, as are the costs of bad policy, so it doesn't matter much who runs macro policy. But ... the benefits of "good management" are also small. Even if Stephen Hester could raise RBS's value by 50%, the annuity value of this to tax-payers would be only 0.03% of GDP.
An alternative argument is that fiscal policy is not meant to be competent, but is instead meant to reflect the preferences of voters, and democracy is an intrinsic good, not an instrumental one.
There is, though, a third possibility. The purpose of macroeconomic policy is not to stabilize the economy or to raise growth, but is instead merely an ideological cover for shrinking the state. And that justification for multi-million salaries is merely ideological cover for kleptocracy. It's just class war.

There clearly is a class of people willing to sacrifice the livelihood and well-being of others in pursuit of their ideological goal of a smaller government (so long as their own future remains secure). The notion of "expansionary austerity" was the cover, but so long as government shrinks as a result of the policy, the expansionary part is secondary. If reducing the size of government slows the recovery, that's a small price to pay for such a worthy goal -- for them anyway, the power behind this is in no danger of becoming unemployed. The main thing is to impose the small government ideology whenever there is a chance, and to use whatever argument is needed to serve that purpose, austerity is expansionary, tax cuts pay for themselves -- whatever works -- the ideologues will even embrace Keynesian economics if it allows them to argue for tax cuts that might further "starve the beast" (e.g. see Bush's argument for the first round of his tax cuts). But in the end the goal is a simple one, reduce the size and influence of government, and everything else is just a means of getting there.

January 28, 2012

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Posted: 28 Jan 2012 12:06 AM PST

"Elite Wall Street Donations Jumped 700% in the Last 20 Years"

Posted: 27 Jan 2012 04:46 PM PST

Via Derek Thompson:

Elite Wall Street Donations Jumped 700% in the Last 20 Years, by Derek Thompson: Banks "frankly own the place," Sen. Dick Durbin famously said of Washington during the debate over financial regulation in 2010. And when it comes to total contributions for big donors, you can see what he's talking about (FIRE = the Finance, Insurance and Real Estate sector):


Most of that growth is coming from the securities and investment sector, followed by real estate, Lee Drutman writes at the Sunlight Foundation, elaborating:

In 1990, 412 of the 1,091 elite donors from the finance industry came from the securities and investment industry, followed by 328 from real estate; by 2010, it was 2,178 from securities and investments, followed by 1,468 from real estate. In 1990, elite donors from securities and investments contributed $6.1 million and elite donors from real estate contributed $4.6 million. In 2010 elite donors from securities and investments contributed $84.0 million, while real estate donors contributed $44.5 million."

So, in a span when the financial sector's share of the economy expanded by a third, from 6% to 8.4% of GDP, donations from this particular group increased by 700%. ...

Greenspan's Faith in Markets

Posted: 27 Jan 2012 11:06 AM PST

Antonio Fatás:

A matter of faith (in markets), by Antonio Fatás: Alan Greenspan contributed yesterday to the Financial Times debate about Capitalism in Crisis. The title of his article was "Meddle with the market at your peril". Not surprisignly Greenspan presents a strong defense of capitalism and market economies by comparing its success to the failures of other systems (such as planned economies).

I do not think that many disagree with that conclusion. But where the article surprised me is when he talks about the potential failure of markets:

Anti-capitalist virulence appears strongest from those who confuse "crony capitalism" with free markets. Crony capitalism abounds when government leaders, usually in exchange for political support, routinely bestow favours on private-sector individuals or businesses. That is not capitalism. It is called corruption.

This is the only sentence in the article where Greenspan admits that there could be some failure in a market economy. But that failure is driven by bad government behavior! Other than that, markets work fine. I hope his views are not really that extreme and that he is willing to accept some of the market failures that economists have identified in the past and that are taken care of by different forms of regulation. This is to me the interesting debate, the one that identifies market failures and then tries to address them via intervention or regulation. In that debate we might find that government intervention is not always possible or efficient. And I am sure we will find disagreement on the domains where government intervention is necessary or optimal. The other debate, the one that compares "capitalism" with the economic system of the former Soviet Union does not sound too interesting or useful at this stage. And it only leads to statements like the one above that seem to be driven by faith in one of the two systems.

For awhile, Greenspan seemed to recognize that his excessive faith in markets blinded him to the dangers of the housing bubble -- his famous mea culpa. But lately he seems to be backing away from that recognition in an effort to defend his reputation and his record as Fed Chair.

GDP Report: Austerity is Holding Back the Recovery

Posted: 27 Jan 2012 09:24 AM PST

A few comments on the GDP report:

GDP Report: Austerity is Holding Back the Recovery

The government should be supporting the recovery, but it's not.

January 27, 2012

Latest Posts from Economist's View

Latest Posts from Economist's View

Paul Krugman: Jobs, Jobs, and Cars

Posted: 27 Jan 2012 12:34 AM PST

Industrial clusters are more important than "heroic entrepreneurs":

Jobs, Jobs and Cars, by Paul Krugman, Commentary, NY Times: Mitch Daniels,... Indiana's governor, made the Republicans' reply to President Obama's State of the Union address. ... Mr. Daniels first berated the president for his "constant disparagement of people in business," which happens to be a complete fabrication. ... He went on: "The late Steve Jobs — what a fitting name he had — created more of them than all those stimulus dollars the president borrowed and blew." ...
But ... Apple employs very few people in this country..., only 43,000..., and ... it's not just about low wages. China also derives big advantages from the fact that so much of the supply chain is already there. A former Apple executive explained: "You need a thousand rubber gaskets? That's the factory next door. You need a million screws? That factory is a block away."
This is familiar territory to students of economic geography..., companies that make a large contribution to a nation's economy ... don't exist in isolation. Prosperity depends on the synergy between companies, on the cluster, not the individual entrepreneur.
But... From the G.O.P.'s perspective, it's all about the heroic entrepreneur, the John Galt, I mean Steve Jobs-type "job creator" who showers benefits on the rest of us and who must, of course, be rewarded with tax rates lower than those paid by many middle-class workers.
And this vision helps explain why Republicans were so furiously opposed to the single most successful policy initiative of recent years: the auto industry bailout.
The case for this bailout ... rested crucially on the notion that the survival of any one firm ... depended on the survival of the broader ... cluster of producers and suppliers in America's industrial heartland. If G.M. and Chrysler had been allowed to go under, they would probably have taken much of the supply chain with them — and Ford would have gone the same way.
Fortunately, the Obama administration didn't let that happen... And the details aside, much of Mr. Obama's State of the Union address can be read as an attempt to apply the lessons of that success more broadly.
So ... Mr. Daniels ... got his facts wrong, but he did, unintentionally, manage to highlight an important philosophical difference between the parties. One side believes that economies succeed solely thanks to heroic entrepreneurs; the other has nothing against entrepreneurs, but believes that entrepreneurs need a supportive environment, and that sometimes government has to help create or sustain that supportive environment.
And the view that it takes more than business heroes is the one that fits the facts.

Links for 2012-01-27

Posted: 27 Jan 2012 12:06 AM PST

Is President Obama a Mercantilist?

Posted: 26 Jan 2012 10:45 AM PST

I think this is right. As I've said, I have doubts about relying upon increasing exports as our growth policy for the future, but what the president proposed in his State of the Union address is not what I think of as Mercantilism:

The mercantilist impulse, The Economist: Matthew Ygesias, writing at Slate, is perplexed by Barack Obama's plan to "boost the economy by hindering trade". He argues that in his state-of-the-union address, the president evinced "a strikingly retrograde, self-contradictory, and confused agenda of reviving American prosperity through mercantilism". ...

Others also perceived a mercantilist undertone in the president's speech, and not for no reason. The president called for the creation of a new Trade Enforcement Unit, extolled the virtues of a tariff on Chinese tires, and said the country was on track to fulfill his promise, made in 2010, to double export growth by 2015.

But mercantilism is about more than promoting exports. It also carries an implication of protectionism.... And on this count, setting the trade complaints aside for a moment, the evidence doesn't fully support the charge. Over the past three years Mr Obama has made a number of moves that effectively facilitate trade, smoothing the way for imports as well as exports. Last year, for example, he ended a ban on Mexican trucks entering the United States—a NAFTA provision that had not been previously implemented. He also signed free-trade agreements with Colombia, Panama and South Korea, which he cited in last night's speech.

My colleague at Free Exchange is also critical of the president's rhetoric on trade. He argues that it will bring us to a thankless zero-sum game, at best. The president said that "if the playing field is level, I promise you–America will always win." ... It's a sympathetic intuition on his part, but I interpreted the president's comment as a narrower critique of China's business practices. And that critique is widely shared; you hear it from Republicans, from Democrats, from business, from environmental and human-rights organisations, and so on. Mr Obama has arguably been on the dovish end of the spectrum when it comes to China. Just last month, his adminstration declined to accuse the country of manipulating its currency; Mitt Romney, by contrast, has repeatedly said that it is, and urged the president to take action.

On balance, then, I would say that Mr Obama's mercantilism is overstated, even if he has rhetorical impulses in that direction. ...

Here are what I think of as the "tenets of Mercantilism." I'll let you decide the extent to which they accord with the president's policies:

Mercantilists believed gold and silver are the most desirable forms of wealth. They also believed that the wealth of a nation depended upon the quantity of gold and silver in its possession. To maximize their holding of gold and silver, countries should maintain a positive balance of trade (with every country in the early years, but in later years they thought that an overall positive balance of payments was the goal, not a positive balance with every country you trade with).

They did not see lowering costs of production, or production in general, as creating wealth. This was a time when guilds produced most goods, and they were very inefficient. Thus, there was no notion of say, using division of labor and innovation to reduce costs and gain a competitive advantage over other producers (producers were not thought to add any value to production -- this was a big part of their beleif that economics was a zero-sum game -- when they looked at their society and history, they didn't see much in terms of productivity led growth, or much growth at all, the key was to maximize your share of the wealth that existed rather than try to gain wealth through productive innovations). The key to wealth was arbitrage and astute trading, not production. So trade -- and merchants who could win the trade battle -- were the focus of attention. Nations became strong by winning the zero-sum trade game.

They promoted nationalism. Since everyone cannot have a positive trade balance - they saw trade as a zero-sum game - a country needs to be powerful in order to compete effectively. This led to a desire for a strong military, a strong navy in particular (many advocated war on land and war at sea as ways to increase wealth).

They promoted protectionism in all its guises to maximize exports and minimize imports.

They supported colonization. This was a source of cheap raw materials, and a captive market to sell the finished goods. This essentially creates monopoly power since they did not let other countries trade with their colonies.

They believed in free trade within a country, but monopolies on external trade so as to be as powerful as possible in trade negotiations.

They favored a strong central government to enforce regulation of business (regulation was widespread and used to try to maintain the quality of goods so they would be in high demand on international markets --some regulations, e.g. for textiles, required stacks of books -- they controlled just about every aspect of production in their attempt to ensure quality and protect their reputations).

They believed a strong central government would also help with another goal, that of maintaining a large, hard-working, poorly paid labor force (e.g., they had maximum wage laws) . The point of focus was the nation, not the individual, and a productive, cheap labor force helped to keep goods cheap, made producers competitive, and hence helped with the accumulation of gold and silver. They did not tolerate idleness, and forced children into the workforce as soon as they were able (e.g. by age six or the family paid a penalty). If children (or anyone else, e.g. the unemployed) could produce something for export, then put them to work so they can help the country grow strong.