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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.

Despite Solyndra, Most Republicans Still Support Alternative Fuel Subsidies Print
Friday, 11 November 2011 07:53

That could have been the headline of a Washington Post article reporting the results of a new poll on public support for subsidies alternative energy. The poll found that a large majority (68 percent) of those asked favored federal support for the development of alternative energy. It found that even 53 percent of Republicans supported funding for alternative energy.

These numbers are down from past polls, but this result would hardly be surprising given the attention that the media has given the Solyndra bankruptcy. While it would have been reasonable to highlight the fact that alternative energy continues to enjoy strong support across the political spectrum, the Post headline was instead:

"Poll finds fewer back U.S. aid for alternative energy."

The Recession Has a Lot to Do With Europe's Sovereign Debt Crisis Print
Friday, 11 November 2011 07:18

The NYT outlined the origins of Europe's sovereign debt crisis in a front page piece. The article leaves out a very important part of the story.

The prolonged downturn has substantially worsened the crisis. High unemployment and slow or negative growth has reduced tax collections and increased transfer payments, making deficits much larger than would otherwise be the case. This could be countered if the European Central Bank (ECB) had pursued more aggressive monetary expansion.

Also, the demands of the ECB that heavily indebted countries adopt harsh austerity programs has slowed growth both in the countries adopted these programs and across Europe. For these reasons, the ECB should be cited as one of the main causes of the crisis.

Correcting the Correction of the Big Lie Print
Friday, 11 November 2011 06:46

Barry Ritholz has a nice takedown of Mayor Bloomberg's claim that Congress forced the banks to make lots of money by selling bad mortgages. As Barry rightly points out, this is not a story that serious people can tell. It's like denying climate change or evolution.

However, there are two items worth correcting in Ritholz's account. First, the core problem facing the economy today is not the legacy of the financial crisis, it is the bursting of the housing bubble. While it was a lot of fun watching the banks fall like dominos in the fall of 2008, and seeing all the honchos who told us this could never happen staying up late on weekends trying to stem the crash, this is really secondary in the story of the economy's current problems.

Whatever the problems of the banking system, they are not holding down the economy. Creditworthy borrowers (by pre-bubble standards) can get mortgages at record low interest rates. The same is true for larger corporations who borrow directly on credit markets. Even few smaller businesses report access to credit as major problem.

Rather the economy's problem is that there is no source of demand to replace the consumption driven by housing bubble wealth that has now disappeared or the housing construction that resulted from hugely inflated bubble prices. We would be in pretty much the same situation today even if there had been no financial crisis. This can be seen by the example of other countries, most notably Spain, who had a much better regulated financial system. Like the United States, Spain had a huge housing bubble that burst, and as a result it is still facing double digit unemployment even though it had no financial crisis.

The other item that needs correction is Ritholz's comment that Greenspan and the rest believe that leaving the market to run itself is the best way to manage the economy. In fact, Greenspan and other alleged free marketers have no interest whatsoever in the free market. They totally support explicit insurance, in the form of deposit insurance and implicit insurance in the form of "too big to fail" guarantees. The banks have taken advantage of the latter insurance in a big way in the last three years.

What we are really fighting over is not a free market, but rather whether the banks will have to pay for the insurance that they get from the government and also face restrictions on their actions as a result of this insurance. (The company that insures my house prohibits me from setting up a fireworks factory in the basement.)

It is understandable that banks, that want to get their government insurance for free, would like to pretend that they just want a free market, but people who don't share the banks' agenda should be not be fooled by this claim.

When it Comes to Cutting Medicare and Social Security High Income Ain't What It Used to Be Print
Wednesday, 09 November 2011 05:51

In an article on the deliberations of the supercommittee the NYT told readers that a Republican plan would raise money by charging "higher Medicare premiums for high-income people." While the article does not give an exact cutoff for high income, it is likely that it is no higher than $80,000 and possibly as low as $40,000. (Many proposals for reducing Social Security benefits for "high income" beneficiaries would lower benefits for people with incomes of just $30,000.)

It is worth noting that "high income" can mean something very different when the topic is the benefits that workers get in retirement than when the topic is income taxes. Most major media outlets have run pieces questioning whether $250,000 (the floor set by President Obama for people subject to tax increases) is really wealthy.

The reason that the cutoffs for benefits cuts are fairly low is that there are few elderly households with high incomes and per person benefits are not very different for the highest income household and the lowest income household. If $250,000 were set as a floor for subjecting seniors to benefit cuts, it would save almost no money. The only way to save substantial money from this sort of means-testing is by cutting benefits for seniors who anyone would view as middle class.  

The Sovereign Debt Crisis and the Problem of Political Culture In Europe Print
Tuesday, 08 November 2011 08:31

The New York Times has a front page piece that discusses the debt crises facing Greece and Italy and discusses them in the context of "unresponsive political cultures." While both countries have serious problems with tax evasion and political corruption, this is not the political culture that most immediately threatens the financial stability of the euro zone and the world.

The most obvious threat stems from the political culture in Germany, which is driving the policy coming out of the European Central Bank (ECB). While it has long been obvious to observers across the political spectrum that the solution to the debt problem involves restructuring of the debt of most heavily indebted countries, guarantees of the sovereign debt of the other heavily indebted countries, and a strongly stimulative monetary and fiscal policy to allow countries to grow as they make reforms, Germany's political culture is preventing the ECB from adopting a reasonable policy toward the situation.

Instead, it has been fixated on trying to punish the debtor countries. This has made matters worse, as austerity measures slow growth both within the heavily indebted countries and across the continent. Slower growth leads to larger deficits, causing these countries to consistently miss their deficit targets. 

The German political culture also seems to include a bizarre paranoia about inflation. This paralyzing fear can be incredibly damaging in the current situation. If the NYT wants to explain how political culture is worsening the crisis in the euro zone it has focused on the wrong countries.

Housing Vacancies Still Near Record High Print
Tuesday, 08 November 2011 06:34

Perhaps I missed it, but I didn't see any coverage of the Census Bureau's release of data on vacancy rates for the third quarter. It's a mixed picture.

The vacancy rate for rental units had fallen sharply in the second quarter from 9.7 percent to 9.2 percent. However this was completely reversed in the latest data, which showed a 9.8 percent vacancy rate. This is still down from the 11.1 percent peak reached two years ago, but far above historic vacancy rates. The vacancy rate for ownership units was little changed at 2.4 percent. This is down from a peak of 2.9 percent in the fourth quarter of 2008, but almost a full percentage point above the average from the pre-bubble period.

The vacancy data certainly suggest that any hopes of an upturn in housing any time soon are seriously misplaced. There is along way to go before the excess supply is depleted.
David Brooks Has Not Heard of Medicare Advantage Print
Tuesday, 08 November 2011 05:22

That is what readers of his column touting Mitt Romney's Medicare plan would likely believe. Romney's plan calls for allowing people to opt for private insurers instead of the traditional Medicare system. This is already allowed, with beneficiaries being allowed to sign up with private insurers under the Medicare Advantage program. The Congressional Budget Office estimates that Medicare Advantage raises the per person cost by 5-10 percent.

The main difference between the existing Medicare Advantage program and the plan being pushed by Romney is that Romney would provide a voucher that would not be large enough to cover the full cost of the existing Medicare program.

All Things Considered Falls for Pew's Phony Generational War Story Print
Monday, 07 November 2011 21:12

All Things Considered did a major piece on a study from the Pew Research Center which showed substantial increase in the median wealth of people over age 65 from 1983 to 2009, while wealth among those under 35 actually fell. The Pew study was seriously misleading for several reasons.

First, the wealth of all groups except the young rose. In other words, it is not just the wealthy who saw an increase in their wealth over this period. The Federal Reserve Board's Survey of Consumer Finance (a different survey) shows that the median wealth of households aged 35-44 rose by almost 25 percent over this period, median wealth for households between the ages of 45 to 54 rose by 60 percent, and more than 100 percent for people between 55 and 64. Of course much of this wealth is simply defined contribution pensions (which do get counted) displacing defined benefit (DB) pensions,
which don't get counted.

It is remarkable that the researchers at Pew did not make a point of discussing the role of DB pensions since it is likely that the decline of DB pensions likely offsets much of the rise in wealth. It is also very misleading to highlight the percentage decline in the wealth of the young, since they had very little wealth even in 1983. If the median young household had $10 in wealth in 1983 and this fell to $1 in 2009, this would be a 90 percent drop in wealth. However, it would be foolish to highlight this decline. The basic story is that young people had little wealth in both periods. 

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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.