Economic
Reporting Review
October 8, 2002
By Dean Baker, co-Director of the Center
for Economic and Policy Research
OUTSTANDING STORIES OF THE WEEK
Out of the Easy Chair, Back to the Grind
Mark Leibovich
Washington Post, September 29, 2001, page A1
This article examines the situation of retirees, or workers nearing
retirement, who are finding that their savings have been
significantly reduced by the plunge in the stock market. The article
points out that many of these people are returning to work or are now
planning to work later in their lives, than they had previously
expected.
The Budget and the Economy
In Rapid Shift, a Budget Surplus Is Expected to Turn Into a Deficit
Richard W. Stevenson
New York Times, October 1, 2001, page A1
This article examines the current prospects for the budget. It refers
to the shift from projections of a surplus to a budget deficit as "a
stunningly swift turnabout." The projections shifted from showing a
surplus of approximately 3 percent of GDP to showing modest deficits
of approximately 0.3 percent of GDP. During a serious recession,
shifts of this magnitude are to be expected. For example, in 1974 the
deficit was equal to 0.4 percent of GDP. It jumped to 3.4 percent of
GDP in 1975 as a result of a recession. The turnaround in the economy
from its recent boom may be viewed as stunning, albeit predictable;
but given the downturn, the shift in the budget should have been
expected.
At one point the article note that because of the disappearance of
the surplus "it is unclear how Congress and the administration will
deal with the rising costs of paying retirement benefits to an aging
population." This Congress and administration do not have to deal
with the costs of paying retirement benefits to an aging population.
There are not expected to be any significant increase in Medicare and
Social Security costs due to the aging of the population for close to
a decade. Even at that point, the rate of increase in costs in these
programs will not be larger than it has been in prior decades, such
as the sixties. There is no obvious reason that the prospect of
moderately rising costs in these programs in the fairly distant
future should be a high political priority at present.
The article includes comments from Ari Fleischer, President Bush's
spokesman, and Gene Sperling, a top advisor to President Clinton,
claiming that the nation was fortunate to have been running a surplus
prior to the September11th attack and the economic downturn, so that
it has the resources to deal with these problems. Even if the United
States were still running deficits, as it did in the eighties and
early and mid-nineties, it would still have adequate resources to
deal with the problems currently facing the nation. During World War
II, the deficit hit a peak of 30.3 percent of GDP in 1943. In the
last two decades, the peak deficit was 6.0 percent of GDP in 1983,
and it never got above 4.7 percent of GDP in the nineties.
GDP Growth
Economy Is Still Teetering Near Recession, Data Shows
Bloomberg News
New York Times, September 29, 2001, page C2
This article reports on the release of revised data for second
quarter GDP growth. It reports that in the second quarter, "profits
fell at a 1.7 percent annual rate. That follows a 7.8 percent rate of
decline in the first three months of 2001 and a drop of 3.5 percent
in the fourth quarter of last year."
Actually, these figures all refer to quarterly rates of decline.
After-tax corporate profits fell from $518.9 billion (measured at an
annual rate) in the first quarter to $510.3 billion (at an annual
rate) in the second quarter. This is a 1.7 percent decline from
quarter to quarter. At this rate of decline, profits would fall by
6.5 percent over the course of the year.
Since their peak in the third quarter of 2000, after-tax corporate
profits have fallen by 12.5 percent. A somewhat broader measure of
profits -- after-tax corporate profits with inventory valuation
adjustment and capital consumption adjustment -- has fallen by 14.4
percent over this period.
Income and Consumption Growth
Fed Chief Urges a Considered Recovery Plan
Richard W. Stevenson
New York Times, October 2, 2001, page C1
This article assesses the economic situation prior to a meeting where
the Federal Reserve Board's Open Market Committee will decide whether
to cut interest rates further. At one point the article refers to the
Federal Reserve Board's decision to cut interest rates by another
half percentage point and comments that "in moving quickly and
aggressively, Mr. Greenspan is sticking to the playbook that has
worked effectively through his 14-year tenure as central bank chief."
When the economy slipped into recession in June of 1990, the federal
funds rate was 8.25 percent. Five months later in November, Greenspan
had only lowered it by half a percentage point to 7.75 percent. In
July of 1991, more than a year after the onset of the recession, the
federal funds rate was still 5.75 percent. By comparison, after the
latest rate cut, the federal funds rate now stands at 2.5 percent.
The decision by Greenspan to move quickly in lowering interest rates
in the current slowdown is actually a sharp departure from his past
behavior. This may in part be attributable to lessons learned from
the last recession. It may also reflect a greater degree of concern
about the severity of this downturn in the wake of the stock market's
plunge.
Argentina
Economy's Dive Dazes Once Giddy Argentina
Clifford Krauss
New York Times, September 30, 2001, page A3
This article reports on the economic downturn in Argentina. In
diagnosing the nation's problems, the article asserts that one of the
main problems was the increase in government spending which caused
deficits "that raised interest rates to exorbitant levels." The
article does not indicate how it determined this relationship, nor
does it cite any experts.
Argentina's current deficits, at approximately 2.5 percent of GDP,
are not especially large for a nation suffering from a recession. By
comparison, in the 1990-91 recession, the deficit in the United
States reached 4.7 percent of GDP.
A more plausible explanation of why interest rates have reached
exorbitant levels is that the Argentinean currency is pegged to the
dollar. It is widely believed that Argentina will have to abandon
this peg at some point and devalue its currency. Such a devaluation
would lead to a large loss for holders of government bonds or other
assets denominated in the Argentinean currency. To compensate for
this potential loss, investors demand very high rates of interest on
the money they lend.
The article dismisses the possibility that devaluing the currency
could be beneficial, even though a devaluation would reduce the fear
of a future devaluation -- thereby lowering the risk premium on
interest rates -- as well as making Argentina's goods more
competitive on world markets. Similar devaluations in Russia in 1998
and Brazil in 1999 both had very positive effects on their economic
performance. Instead, the article asserts that, "a devaluation now,
in the midst of declining revenue, would only cause more bankruptcies
and unemployment." It neither cites experts nor presents any evidence
to support this claim.
The Recession
Urban Pain, From Sea to Sea
Mary Williams Walsh
New York Times, September 30, 2001, Section 3 page 1
This article examines how the economic downturn is expected to hit
the country's major cities. At one point the article discusses the
causes of the prior two recessions, then asserts that "this one,
economists agree, has a spark no one could have guessed: fear of
flying."
There is a large body of economic data that indicates that the
recession began before the attacks of September 11th. Prior to
September 11th, the number of jobs in the economy had already fallen
by 323,000 from its peak in March, and the unemployment rate had
already risen a full percentage point from its low in 2000. Consumer
confidence plunged in August, and the Conference Board's index of
help wanted ads fell to 53, a reading that is 5 percentage points
lower than its lowest point in the last recession. Real construction
spending fell by 1.3 percent in August, its fourth consecutive
monthly decline. New orders for capital goods stood 11.6 percent
below their year ago level in August. Net domestic product (NDP),
which measures the increase in usable goods and services (the
difference between GDP and NDP is the depreciation of the capital
stock), has fallen in the first two quarters of 2001.
When this recession is officially dated by the National Bureau of
Economic Research, it is virtually certain that it will place the
beginning date before September 11th. The terrorist attacks, and the
resulting uncertainty, clearly worsened the economic situation, but
they did not cause this recession. The recession had already
started, brought on primarily by the collapse of the stock market
bubble.
At the peak of the bubble in March of 2000, price-to-earnings ratios
in the stock market were at more than twice their historic average,
creating more than $10 trillion in illusory wealth. This illusory
wealth triggered both a consumption boom and a surge of wasteful
investment in the tech sector. The collapse of the bubble is
reversing these patterns, thus causing a downturn.
Allowing the stock market bubble to reach the size it ultimately did
was an enormous failure of economic policy. This failure, not the
terrorist attacks, is the main cause of the economy's problems.
The Stock Market
Stocks End the Week On an Uptick
Michael Brick
New York Times, September 29, 2001, page C1
This article examines the stock market's prospects after its worst
quarter since the crash of 1987. It quotes an assertion from a market
strategist that "three months ago, the market was discounting some
kind of slowdown."
This doesn't seem plausible, if the market had discounted a slowdown,
then the ratio of stock prices to corporate earnings should have been
below its normal level. Three months ago, the price to earnings ratio
for the market as a whole was more than 25 to 1, more than 60 percent
above its historic average. Since long-term profit growth is
projected to be far slower than its historic average (the
Congressional Budget Office projects that real profit growth will
average just 1 percent annually over the next ten years), there is no
evidence whatsoever that the market had discounted a slowdown.
The IMF and World Bank
A Tighter Hand In Doling Out Global Aid?
Paul Blustein
Washington Post, September 30, 2001, page H1
This informative article examines the possibility that, as a result
of President Bush's anti-terrorism campaign, the IMF and World Bank
may be called on to subordinate economic considerations to political
ones in awarding loans to nations that ally with the United States.
At one point the article refers to this prospect as a "serious threat
to their principles of sound economic policy."
It is questionable whether sound economic policy has ever been a
major factor in the IMF and World Bank loan priorities. Both
institutions have made large loans to nations that were not pursuing
sound policies. For example, Russia was the largest single recipient
of aid from these institutions in the early and mid nineties, as it
followed a set of policies that led to a collapse of its economy.
Similarly, the IMF has extended loans to Argentina even though its
government has crippled its economy by maintaining an overvalued
currency. There are many examples of failed economic policies
supported and even encouraged with IMF loans. On the other hand,
there are few examples of nations that have shown solid growth for
any length of time, while following policies prescribed by the IMF
and World Bank. This indicates that that their loans have not
generally been associated with sound economic policy.
Trade
Trade Compromise Proposed
Paul Blustein
Washington Post, October 4, 2001, page E1
Gain for Trade Bill That Some See as Aid in Terrorism Fight
Joseph Kahn
New York Times, October 4, 2001, page B1
These articles discuss negotiations surrounding the Bush
Administration's efforts to gain expanded trade negotiation powers,
which will guarantee the Administration the right to submit future
trade pacts to Congress for up-or-down votes, without any possibility
of amendments. Both articles indicate that this power will facilitate
the negotiation process, with the Post article asserting that without
this authority, other nations "are reluctant to bargain with
administration negotiators for fear that Congress will rewrite any
agreement."
It is not clear that this claim is true. Many trade pacts have been
successfully negotiated during periods when the President lacked this
authority, most notably the Multilateral Agreement on Investment
(MAI). While the MAI was never submitted for congressional approval,
due to widespread opposition in the United States and other
countries, it was a complex agreement with several hundred pages of
text. More than two dozen countries took part in the negotiation
process. Given this history, it is not clear that the President's
lack of expanded trade authority is a serious obstacle to
negotiations with other nations.
Both of these articles also make reference to Congressional approval
of a trade pact with Vietnam. While they note that this agreement
will lower tariff barriers, neither articles mentions that it also
imposes U.S.-type patent and copyright protections on Vietnam. As the
World Bank has recently noted, these forms of protection can impose
significant costs on developing nations.