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Robert Samuelson Misses the Fix to the Housing Market Print
Monday, 14 November 2011 06:17

Some folks are still missing the $8 trillion housing bubble and Robert Samuelson seems to be one of them. In reviewing the housing market it is important to notice that there is a very different story by regions. In many areas (e.g. Las Vegas and Phoenix), bubbles have fully deflated and we should look for house prices to stabilize and even rise some in the years ahead. In other areas, like Los Angeles and Boston, there is likely still some air in the bubble. In these markets, prices are likely to fall in the years ahead. This can be seen as a good thing, since it will make homes more affordable for new buyers.

It would be foolish to envision a single national housing market since different regions have very different dynamics. As a result, it would be very wrong-headed to try to design a single policy -- for example promoting higher prices -- for the nation as a whole.

 
Do the Washington Post's Analysts Have Names? Print
Monday, 14 November 2011 06:01

A front page Washington Post article told readers:

"Analysts, however, said the United States could risk another downgrade of its credit rating and do further damage to business and consumer confidence if the supercommittee process implodes in a chaotic display of partisan rancor — for example, if a deal is approved by the supercommittee but is killed on the House floor. And analysts are deeply concerned that lawmakers could 'de-trigger' the automatic cuts, undoing even the modest steps Congress has so far taken to tame the soaring debt."

It would be interesting to know who these analysts are so that readers could know if these are the same people who could not see the $8 trillion housing bubble that collapsed and wrecked the economy. It would be also worth knowing if these analysts were among the group who claimed two years ago that large deficits would send interest rates on Treasury bonds soaring. Readers should be told if the experts whom the Post relies upon for its stories are primarily known for their misunderstanding of the economy.

The piece also includes the unsupported assertion that:

"the numbers obscure a larger ideological divide. Democrats are willing to trim spending on health and retirement programs in exchange for an overhaul of the tax code that would generate significantly more revenue, with most of the burden borne by the nation’s wealthiest households.

"Republicans want to overhaul the tax code but lower the top rate from 35 percent to 28 percent and leave preferential rates untouched for capital gains and dividends. Roberton Williams, a senior fellow at the nonpartisan Tax Policy Center, said that approach would almost certainly guarantee lower taxes for the wealthy."

There is no evidence whatsoever in this statement or elsewhere in the article of any ideological divide. The evidence is that the Republicans are more directly responsive to the demands of the wealthy whereas Democrats feel the need to also be responsive the interests of other segments of the population. If there are ideological issues here, the piece offers no insight as to what they might be.

 
Ayn Rand Is Not a Supporter of Free Markets Print
Monday, 14 November 2011 05:43

It is misleading to imply, as Morning Edition did, that Ayn Rand's philosophy was about free markets. The idea of promoting oneself at the expense of others, advocated by Rand, is consistent with taking advantage of whatever support one is able to get from the government in this process.

For example, the top executives of Wall Street banks are happy to take advantage of the implicit government guarantee given to too-big-to-fail banks as well as the explicit guarantee that is given through deposit insurance in addition to the support given by the Federal Reserve Board through access to its discount window and other facilities. It is politically advantageous for people who benefit from these and other types of government support to claim that they are advocates of free markets even if it is not true.  

 
The Supercommittee Looks to Impose a Much Bigger Hit to Seniors Than the Wealthy Print
Monday, 14 November 2011 05:20

The NYT reported that the supercommittee remains deadlocked on taxes. It reports that Republicans are willing to agree to $250-$300 billion in tax increases by eliminating loopholes in exchange for reducing the top tax rate to 28 percent instead of allowing it to rise back to the Clinton era level of 39.6 percent. While the piece notes that this would be a windfall for high income taxpayers, it would have been worth reminding readers that the sums being proposed are less than 2 percent of the projected $17 trillion adjusted gross income of the richest 1 percent over the next decade. By contrast, there is bi-partisan support for cutting the annual Social Security cost of living adjustment by an amount that would reduce average benefits by close to 3 percent.

The piece including comments from Morgan Stanley director Erskine Bowles without identifying his association with the giant Wall Street bank.

 
Dealing With the Budget Deficit: Does the Middle Class Have to Take the Hit? Print
Sunday, 13 November 2011 08:42

Adam Davidson has a piece in the NYT magazine about how the middle class will have to take a hit to deal with the country’s deficit. It’s a bit quick to reach this conclusion.  

First, the piece too quickly dismisses the possibility of getting substantial additional tax revenue from the wealthy. It presents the income share for those earning more than $1 million as $700 billion, saying that if we increase the tax rate on this group by 10 percentage points (from roughly 30 percent to 40 percent), then this yields just $70 billion a year.

However, if we lower our bar slightly and look to the top 1 percent of households, with adjusted gross incomes of more than $400,000, and update the data to 2012 (from 2009), then we get adjusted gross income for this group of more than $1.4 trillion. Increasing the tax take on this group by 10 percentage points nets us $140 billion a year. If the income of the top 1 percent keeps pace with the projected growth of the economy over the decade, this scenario would get us more than $1.7 trillion over the course of the decade, before counting interest savings. Of course there would be some supply response, so we would collect less revenue than these straight line calculations imply, but it is possible to get a very long way towards whatever budget target we have by increasing taxes on the wealthy.

There are also other ways to address much of the shortfall. In the case of defense, the baseline projects that military spending will average 4 percent of GDP over the next decade. We had been spending 3 percent of GDP on defense in 2000, and the share had been projected to drop further over the course of the decade. If military spending averaged 3 percent of GDP over the next decade, that would save us $2 trillion before interest savings. There are reasons that people may not want to go that low (also reasons to go lower:  CATO used to advocate a budget about half this size), and it may take time to reduce Defense Department budgets, but it should not be absurd to imagine that we could get by with the same sort of military budget (relative to our economy) that we actually had a decade ago.

Another way in which we could have substantial savings that would be relatively painless is to have the Fed simply keep the bonds that it has purchased as part of its various quantitative easing operations. It currently holds around $3 trillion in bonds. The interest on these bonds is paid to the Fed and then refunded to the Treasury. Last year it refunded close to $80 billion in interest. The projections show that the Fed will sell off these bonds over the next few years so that these interest earnings will fall sharply. However, if it continued to hold the assets, over the course of a decade it could save the government around $800 billion in interest payments. The Fed might have to take other measures to contain inflation (the immediate reason for selling the assets would ostensibly be to raise interest rates and slow the economy), but it has other tools to accomplish this goal, most obviously raising reserve requirements. (The Chinese central bank uses reserve requirements as a main tool for controlling inflation.)

Finally, the big story in any serious discussion of the long-term budget is health care. We pay twice as much per person as people do in other wealthy countries. Since more than half of the tab for our health care is paid by the government, our broken health care system becomes a budget problem. If we paid the same amount per person for our health care as people in other wealthy countries, we would be looking at long-term budget surpluses rather than deficits. The reason that we pay so much more is not that we get better outcomes – we don’t generally. Rather it is that we pay too much to drug companies, hospitals, medical specialists, and others in the health care industry.

We can’t keep on this course on either the public or private side. The real question is whether we look to save money by having people get fewer services or we look to save money by paying providers less. The former could mean, for example, giving seniors a Medicare voucher that we know will not be sufficient to cover the cost of care for most people. In this case, they will just have to do without some amount of care.

The other route involves restructuring the health care system. This is incredibly difficult politically as was seen in the debate over President Obama's health care plan. Nonetheless, in the long-run serious reform is the only option, since the alternative is that large numbers of people (including very middle class people) will not be able to get decent care.

One route to get around the political obstacles is to rely on trade. (Here is a short piece I wrote on trade in health care with Jagdeesh Baghwati.) If we make it easy for people to go abroad for health care and open our doors to qualified foreign doctors, we will eventually be able to undermine the ability of the providers’ lobbies to block reform.

Even before trade has much impact on the structure of the health care industry there are enormous opportunities for large budget savings in health care costs that focus on reducing payments to providers (e.g. lower prescription drug prices in Medicare). These payment cuts would not in any obvious way lead to reduced services.

In short, there is little reason to be talking about imposing increased burdens on the middle class any time soon. For the near term, the budget deficit is clearly not a problem. The financial markets are willing to lend the country large amounts of money at very low rates. Over a longer term, the deficit will pose more of an issue, but most of this pressure will come from health care costs. If these costs can be contained, and we get additional revenue from the top 1 percent and restrain the military budget, then the need for the middle class to bear additional burdens can be pushed out well into the future.

At some point, we likely will need more revenue from the middle class since we will probably want to increase government spending in some areas like infrastructure, education, and research and development. However, this is not a near-term prospect and quite possibly not even something that will be necessary over the course of a decade. Furthermore, if the need for additional revenue comes at a time when the unemployment rate is again down in a 4-5 percent range and real wages are rising, it will be much easier for the middle class to bear.

 
WAPO Goes Overboard for Trade, Again Print
Sunday, 13 November 2011 06:43

The Washington Post, which once told readers that Mexico's GDP had quadruped between 1987 and 2007 to bolster its case for NAFTA (the actual increase was 83 percent), was in the exaggerated numbers again mode yesterday in discussing the impact of a trade agreement on Japan. In reporting the projections from a model, the article told readers that as a result of the trade agreement (inaccurately described as a "free trade" agreement):

"consumer prices would drop 39 percent."

There is no model that would show this sort of effect for consumer prices as a whole. It is possible that it meant food prices, although even this impact would be quite dramatic. Food accounts for 13.7 percent of consumer expenditures in the United States. The narrower "food at home" category accounts for 7.8 percent. Since Japan has considerably higher food prices, both these numbers are presumably higher in Japan. If a trade agreement actually dropped food prices in Japan by 40 percent, this would imply a dramatic increase in the standard of living for most people in Japan.

 
Banks Take Partial Write-Downs on Greek Debt, Why Not With AIG? Print
Saturday, 12 November 2011 09:02

Floyd Norris has an interesting piece discussing the credit default market in European debt. He notes that the volume of issuance has not increased in recent months even as spread between the interest paid on the bonds of heavily indebted countries and Germany has increased. (France is an exception, which is easily explained by people wanting to bet that its situation will deteriorate.)

Norris explains the limited issuance as likely being the result of the way in which Greece's debt is being restructured. The banks holding Greek bonds are being coerced by European to accept 50 cents on the dollar. However, this is not considered a default event that would trigger the payment on a credit default swap. The reason is that the banks are agreeing to accept this lower payment, the Greek government has not actually defaulted on a payment owed. Since this would likely be the pattern for the resolution of other sovereign debt crises, a credit default swap will be of little value. 

 
Do NYT Reporters Get a Bonus for Each Time They Can Use the Phrase "Free Trade" In an Article? Print
Saturday, 12 November 2011 08:52

An NYT piece on Japan's plans to join trade talks that include the United States and other Asian countries used the phrase "free trade" six times, including in the headline. These deals will not lead to literal free trade, since they are unlikely to do much reduce the barriers that protect highly paid professionals like doctors and lawyers. Also, they are also likely result in the increase of some protectionists barriers, most notably patent and copyright protection, which are high priorities for the United States.

Therefore it would be more accurate to simply call them "trade" agreements. This would also save space.

 
The Stock Market's Effect on Consumption Is Limited and Slow Print
Saturday, 12 November 2011 08:15

An NYT article discussing the impact of the European sovereign debt crisis on the U.S. economy raised the possibility that it could lead to a fall in the stock market, which would then slow consumption. It is worth noting that consumption tends to respond with a lag to changes in the stock values, and even then the impact is relatively limited.

For example, the tech crash began in March of 2000, however consumption rose by 3.8 percent, 4.0 percent, and 3.6 percent in the following three quarters. If a euro meltdown were to take a big toll on the U.S. stock market before the end of the year (more than it already has), then its impact through this channel would not be felt much before the end of 2012.

It is also worth noting that the impact over lower stock prices on consumption is not likely to be very large in any case. The stock wealth effect on annual consumption is usually estimated at between 3-4 percent. If stock prices fell by 25 percent because of a meltdown in the euro zone, this would reduce stock wealth by around $4.5 trillion. Using the higher end 4 percent estimate, this would imply a reduction in annual consumption of $180 billion or 1.2 percentage points of GDP. This is hardly trivial, but given that the actual effects are likely to be less than this, the effect of a euro meltdown on stock prices is probably not going to be the biggest cause for concern from the standpoint of economic growth.

 
Correction on Pew Report on Wealth of the Young and Old (Corrected version) Print
Friday, 11 November 2011 13:51

Earlier this week I did a post that criticized reporters for unquestioningly accepting the findings of a report from the Pew Research Center that purported to a show a growing gap in wealth between people over age 65 and people under age 35. I argued that this report misrepresented this gap and gave numbers on the change in wealth by age cohort that did not show as marked a gap as the Pew numbers.

It turns out that the numbers I gave in that post were incorrect. I had used the Federal Reserve Board's 1983 and 2009 Surveys of Consumer Finance (SCF) as the basis for my calculations. Paul Taylor, one of the authors of the study, pointed out to me that the 1983 data had been subsequently revised. The revised data leads to a lower increase in median wealth for several  age cohorts. Here is the rate of growth in wealth by age cohort using the revised data:


   Median Net Worth   
   (thousands of 2009 dollars)  
  1983 2009 Percent
Age of head (2007)     Change
       
Under 35 14.2 9.0 -36.6%
35–44 83.2 69.4 -16.6%
45–54 115.9 150.4 29.8%
55–64 141.0 222.3 57.7%
65–74 127.4 205.5 61.3%
75 or more 83.2 191.0 129.6%

Source: Survey of Consumer Finance, 1983 and 2009.

This gives us a different picture than the numbers I had in the earlier post, although it still gives a different picture than the Pew study. (The Pew analysis used a different survey, the Survey of Program and Participation.) The SCF data show the 55-64 cohort faring almost as well as the 65-74 cohort, whereas the Pew study showed them with just a 10 percent gain. The 45-54 cohort shows a gain of 29.8 percent in the SCF data whereas the Pew analysis showed them with a drop in real wealth of 10 percent.

I will also point out three of the points that I raised in objecting to the sort of comparison of wealth growth over time in the Pew report. First, this analysis takes no account of defined benefit pensions. It is likely that the median older household would have had at least some income from a defined benefit pension in 1983. This is becoming increasing rare now. This means that most of these households will have only their income from Social Security, and whatever income they can derive from their wealth to support them in retirement. (The discounted value of a defined benefit pension of $10,000 a year over 20 years of retirement is roughly $150,000.) 

The price of the median home is currently around $170,000. This means that the $205,500 held by the median household headed by someone between ages 65-74 would be enough to pay off the mortgage on the median home (remember, these numbers include home equity) and leave about $35,000 to supplement the household's Social Security income (@$1,300 a month) throughout their retirement. 

The second problem is that the under 35 group includes many people who are still in college. The rise in college enrollment over the last quarter century would almost certainly have the effect of pushing the wealth for this group downward. People in college will generally not be accumulating wealth; in fact they are likely to be accumulating debt. Still, a 28 year-old with $15,000 in debt and a college degree is almost certainly better off than a 28 year-old with $15,000 in the bank and just a high school degree. In other words wealth is not an especially good measure of living standards or well-being for the youngest age group.

Finally, I objected to the highlighting in the report of the ratios of wealth of the oldest cohorts to the youngest. This can create a misleading impression, since the young have so little wealth. (The story was more dramatic with Pew's data since it showed a substantial decline in the wealth of the young.)

When the denominator is small it is easy to have a large percent changes. For example, if a country's inflation rate goes from 0.5 percent to 1.0 percent, we can say that its inflation rate has doubled. However, it would be wrong to imply that this is somehow of greater concern than a rise in the inflation rate from 3.0 percent to 5.0 percent, even though the latter is just a 67 percent increase. 

The basic story is that young people rarely have a meaningful amount of wealth. Their well-being is going to be far more dependent on their employment and earnings prospects than the amount of wealth that they have at age 30. In the current economy the latter don't look especially good, but the wealth measure just is not giving us much information.

Finally, I should apologize to Paul Taylor and his co-authors. I think the study is seriously flawed for the reasons listed above and others. However, I should have given them credit for carrying through their research in good faith. I do not know that their intentions were to promote the idea of a generational war, even if others are using this research for that end.

 

Note: A post earlier this afternoon had incorrectly adjusted for inflation. Paul Taylor called this to my attention.

 
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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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