Economic Reporting Review
March 6, 2000:
Stock Market Winners; Canadian Taxes; IMF Struggle
By Dean Baker
THE STOCK MARKET
"Dow's Day Ends Under 10,000"
Sandra Sugawara
Washington Post, February 26, 2000, Page A1
This article reports on the downturn in the Dow Jones Industrial Average. At one point it
quotes a market analyst commenting on the Dow's decline, "What the Dow is doing is crying
out in abject pain."
As the article points out, the price to earnings ratio for the stocks that constitute the Dow is still
23 to 1. This price to earnings ratio is higher than it has been in at any point in the post-war
period, prior to the recent market run-up. It is still more than 100 percent above the 15 to 1
average over the last 70 years. If technology stocks grow at the expense of more established
companies, as is implied by the much higher price-to-earnings ratios of tech stocks, then the
current over-valuation of the Dow would be even larger.
At one point, this article comments that "it appears certain that the Fed will have to tamp down
on economic growth." The Fed will never "have to" tamp down on economic growth. If the Fed
raises interest rates to slow the economy, then it is a policy decision. It is not forced to make
this decision, any more than it is forced to lower interest rates in a period of high
unemployment. It is misleading to imply that the decision to raise interest rates is forced on the
Fed, whereas the decision to lower interest rates is an option.
This article, like most other reporting on the stock market, appears to accept the view that a
rise in the value of the stock market is a good thing for the economy and country. This is not
necessarily true. The stock market can rise for three reasons:
1) The economy is expected to grow more rapidly in the future, which will mean higher
future profits, holding everything else equal;
2) There is an anticipated shift in national income shares towards profits. This can be at
the expense of wages, or the result of lower taxes (which increases after-tax profits), or
at the expense of the environment, as corporations are allowed to reap new gains from
natural assets;
3) There is a speculative bubble, where stock prices rise in a manner unrelated to future
profit growth.
Of these three reasons, only the first describes a positive picture for the nation as a whole.
Insofar as the stock market is rising due to a redistribution to profits, this is bad news for the
vast majority of the population, since most people derive most of their income from wages. In
this case, a rising stock market can be seen as a thermometer reporting on the redistribution
away from wage earners to owners of capital.
If the market is rising due to a speculative bubble, it will lead to a redistribution of wealth
among shareholders. Those who buy into the bubble will have their wealth redistributed to
those who sell before the crash. Such a bubble can lead to a massive transfer of wealth. For
example, if the current market is over-valued by 100 percent, it implies that everyone who buys
and holds stock is effectively giving away an amount of money equal to half of their investment
to those selling out. There is no obvious reason why such transfers would be seen as beneficial
to the population as a whole.
[Top]
SOCIAL SECURITY
"House Lifts Earnings Cap for Retirees"
Amy Goldstein and Juliet Eilperin
Washington Post, March 2, 2000, page A1
This article reports on a unanimous vote in the House of Representatives to remove the
earnings test for Social Security beneficiaries between the ages of 65 and 69. Unlike the Times
article on the vote ("House Backs End to Earnings Limit on Social Security," by Richard W.
Stevenson, 3/2/00; A1), the article does not point out that the earnings limit, below which no
penalties apply, would have been raised to $30,000 by 2002, even without any Congressional
action. This would have reduced the number of workers affected by the limit by approximately
50 percent.
At one point the article refers to the Clinton administration's desire for reforms "to keep the
Social Security system strong enough to withstand the retirement of the enormous baby boom
generation starting in slightly more than a decade."
Without any reform, the Social Security system is already strong enough to survive the
retirement of most baby boomers. The most recent report from the Social Security trustees
show that the program will be able to pay all scheduled benefits until the year 2034, with no
changes whatsoever. At that point, the youngest baby boomers will be 70 and the oldest will be
88. The projections from the Congressional Budget Office show an even brighter picture. Also,
the first baby boomers will begin collecting benefits in 2008, not in "slightly more than a
decade."
See more on Social Security.
[Top]
CANADA
"Rising Tax Bills Fuel Anger in Canada"
James Brooke
New York Times, February 27, 2000, Section 1 page 12
This article reports on the alleged growth in resentment in Canada over what it claims is a
growing tax burden. Most of the claims in the article are contradicted by data from the
Canadian government or other sources.
For example, the article asserts that "over the last five years, payroll taxes increased by an
average of 26 percent and the government's total take of personal and corporate income
jumped by almost 40 percent." Neither of these claims is supported by any evidence presented
in the article.
According to a new article by Zhengxi Lin ("Payroll Taxes in Canada Revisited: Structure,
Statutory Parameters, and Recent Trends," forthcoming in Canadian Tax Journal, Issue # 3,
6/00), the payroll tax rate in Canada has been stable since 1994. The current average payroll
tax rate is 12.2 percent, the lowest of any G-7 country. By comparison, the federal payroll tax
rate in the United States is 15.35 percent (the Social Security tax does not apply to wage
income above $75,000). Data published in the Canadian budget for fiscal year 2000 show that
the total tax burden has actually fallen slightly over the last five years.
The article also reports the assessment of a Canadian economist, David Giles, that taxes have
driven a huge amount of economic activity underground. This economist estimated that the
underground economy, which does not get counted in official GDP measures, is now almost
equal to 20 percent of Canada's GDP. If this assessment is accurate, then Canada is far richer
than is generally believed, since its GDP is actually 20 percent larger than the official data
indicate. If Giles' assessment is correct, then it would mean that another claim in the article--that
per capita disposable income fell by 12 percent in the last decade--is incorrect.
The article includes a reference to a column in a Canadian newspaper which claims that 20
years ago Ireland's per capita income was half of Canada's. But, "after embarking on radical
tax cuts, Irish per capita income is now 15 percent higher than Canada's." According to data
from the World Bank, in 1997 (the most recent year available), per capita GNP in Canada was
$21,750. This is almost 25 percent higher than the $17,420 figure for Ireland (1999 World
Development Indicators, Table 1.1). If Giles' estimate of the size of the underground economy
is factored into the comparison, Canada's per capita income would still be almost 50 percent
higher than Ireland's.
At one point the article presents a quote from a Canadian newspaper which claims that
Canadians pay higher taxes than people in the United States, but get generally inferior public
services. The vast majority of health care costs for Canadians are paid by the government; by
contrast, in the United States most health care costs are paid privately. Private spending on
health care in the United States averages close to $2000 per person. If this were paid by the
government, it would require a significant increase in taxes.
See more on Canada.
[Top]
EUROPE
"European Central Bank Holds Interest Rates Steady for Now"
Edmund L. Andrews
New York Times, March 3, 2000, page C4
This article discusses the current economic situation in Europe and the factors that could
prompt the European Central Bank to raise interest rates. It presents misleading evidence that
could be used to justify an increase in interest rates, which would slow job growth and raise the
unemployment rate in Europe.
The article notes that Europe had experienced weak economic growth in recent years, but does
not discuss the possibility that the high interest-rate policy pursued by the European Bank and
its national predecessors may have been a major factor slowing growth, as has been argued by
many of the world's most prominent economists. (See "An Economists' Manifesto on
Unemployment in the European Union," BNL Quarterly Review, 9/98.)
The article goes on to assert that the European economies have finally begun to grow more
rapidly, but then adds, "however, inflationary pressures are clearly building," noting that inflation
rose at a 2.0 percent annual rate in January. The main factor driving the recent acceleration in
European inflation has been the rise in world oil prices. This has also increased the rate of
inflation in the United States, from 1.6 percent in 1998 to 2.7 percent in 1999.
The article then points out that some of Europe's smaller nations have considerably higher rates
of inflation. For example, according to the article, the annual rate of inflation in Ireland is
currently 4.4 percent. It is normal for there to be large regional differences in inflation rates. For
example, in 1999 the inflation rate in the San-Francisco Bay Area was 4.4 percent. By
contrast, it was just 2.2 percent in the New York metropolitan area. It should be expected that
some countries would have significantly higher rates of inflation than the European average,
while others will have a lower rate; this is not a rationale for raising interest rates and slowing
growth across the continent.
"Kohl's Party, Wounded by Scandal, Falls in a State Election"
Roger Cohen
New York Times, February 28, 2000, page A3
This article reports on a state election defeat of the German Christian Democratic Party. At one
point the article refers to Germany's Social Democratic Chancellor, Gerhard Schroder, as
"wavering over promises to slim down the state and lower taxation."
While Schroder has recently stated his intention to cut taxes and social benefits, and pushed
through legislation to this effect, he actually promised the opposite in his election campaign.
Prior to his election in the fall of 1998 he had committed his party to raising taxes on
corporations and restoring some of the benefit cuts implemented by the previous government.
See more on Europe.
[Top]
INTERNATIONAL MONETARY FUND
"U.S. Rejects Europe's IMF Pick"
John Burgess
Washington Post, February 29, 2000, page E1
"U.S. Stiffens Opposition to European IMF Choice"
Joseph Kahn
New York Times, February 29, 2000, page C1
"Heavy Posturing Seen in IMF Rift"
Joseph Kahn
New York Times, March 2, 2000, page A1
"IMF Directors Fail to Rally Around Any New Leader in Poll"
Joseph Kahn
New York Times, March 3, 2000, page C1
These articles report on the decision by the Clinton administration to oppose Caio
Koch-Weser, the European candidate for managing director of the IMF. At one point, the