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Rising Dollar Costs Jobs Print
Friday, 26 September 2014 07:18

The NYT ran an article celebrating the recent run-up in the dollar. The headline is "buoyant dollar recovers its luster, underlines rebound in U.S. economy." The headline could have with at least as much accuracy substituted "undermines" for "underlines." While the piece attributes the rise in the dollar to all sorts of good things about the U.S. economy, there actually is a much simpler explanation. Interest rates are higher in the United States than elsewhere.

Relative interest rates determine where investors choose to park their money. They are not assigning gold stars to economies for good behavior. There is some relationship between interest rates and growth, but it is the former that matters for investors, not the latter.

The piece gets many other points wrong. For example, after the dollar has risen, investment in developing countries becomes more attractive, not less attractive. But the big point left out of this story is that the over-valued dollar is the main cause of what has become known as "secular stagnation."

Fans of national income accounting everywhere (i.e. anyone who knows economics) know that a trade deficit creates a gap in demand that must be filled through some other source. Currently the trade deficit is running at more than a $500 billion annual pace or around 3.0 percent of GDP. For the economy to be at its potential, this gap in demand must be fill by higher consumption, investment, housing, or government spending.

The reason the economy is still more than $600 billion below its potential level of output is that it doesn't have a source of demand to fill this gap. It is not easy to make any of the other components of GDP rise, with the exception of government spending, but that is ruled out for political reasons. We could do it with a stock or housing bubble, but those stories don't have happy endings.

So the rise in the dollar translates into slower growth and fewer jobs. Goldman Sachs estimates that the 3.0 percent rise in the dollar we have seen to date will shave 0.1 to 0.15 percentage points off GDP growth in each of the next two years (sorry, no link). That is a pretty good size hit in an economy that is only growing at a 2.0 percent annual rate.

It also translates into lost jobs. If the economy is 0.25 percent smaller in 2016 due to the higher dollar that would imply a loss of roughly 350,000 jobs. So, does the NYT have any more good news for us today? 


That Two Percent Inflation Target and Silly Things Economists Say Print
Friday, 26 September 2014 04:34

I see Paul Krugman has picked up on my friend Jared Bernstein's post asking where the Fed's 2.0 percent inflation target came from. He argues that it is a pretty much arbitrary compromise between the idea that the target should be zero (the dollar keeps its value constant forever) and the idea that we need some inflation to keep the economy operating smoothly and avoid the zero lower bound for interest rates. This is far too generous.

I recall reading the literature justifying the 2.0 percent inflation target last year when I was researching my book with Jared, Getting Back to Full Employment. I was shocked to see how weak the argument was. Not only is there not much justification for 2.0 percent, there is not much justification for any target. After all, most central banks have not had any explicit inflation target for most of their existence. These countries didn't get hyperinflation and their economies did fine. There isn't much evidence that an inflation target will prevent bad things from happening.

While as a rule stable prices are better than unstable prices, economists have been largely untroubled by unstable prices in other areas. Look at the real value of the dollar over the last three decades. Rises and falls of 20 percent over a two or three year period are not uncommon. This means that the price of large chunks of our economy fluctuate in large and unpredictable ways, apparently without negative effect, or at least not enough of a negative effect to concern the bulk of the economics profession. So if these big changes in relative prices of imports and exports  don't have much consequence, what's the big deal if inflation is 2.5 percent rather than the 2.0 percent we all are supposed to treasure? (If the dollar falls by 20 percent, as a first approximation, exporters are getting 20 percent more for their products, measured in dollars. They get the same amount of foreign currency, but it buys 20 percent more dollars.)

The other part of the 2.0 percent story that I really loved is that some economists argued for it by saying that it could be reconciled with the dream of zero inflation because of errors in measurement. Krugman briefly refers to this view, but doesn't explain the meaning of this claim. The argument here is that our price indices overstate the true rate of inflation and that the overstatement is on the order of 2.0 percentage points annually.

If you just read that and your hair didn't stand on end, read it again. Many of us have been writing on the stagnation of wages and income over the last three decades. (For example, Thomas Edsall had a good piece in the NYT earlier this week, although he gets the dates wrong.) If we have been overstating the true rate of inflation by 2.0 percentage points annually then wages and income have actually been rising very rapidly. Instead of near zero growth since 1980, real wages have risen by more than 96 percent. (Take 1.02 to the 34th power.)



What Economists Call a "Balance Sheet" Recession Used to Be Called a "Wealth Effect" Recession Print
Thursday, 25 September 2014 04:58

It's often said that the economy is far too simple for economists to understand. There is probably no better example of this problem that the invention of the "balance sheet" recession. The story is that because households have large amount of debt (generally mortgage debt), they cut back on consumption, thereby reducing demand and growth. In Wonkblog today, Matt O'Brien tells us that falling house prices in China may cause the country to face such a balance sheet recession.

The problem with the debt issue is largely secondary. The point is that people cut back consumption because they lose wealth. This is a straightforward, and old, economic concept.

To see the point, imagine someone has a home on which they owe $200,000 and is worth $250,000. Imagine that it rises in value to $350,000. We would typically expect that people would spend more money based on this additional wealth. The usual estimates on the size of this effect are on the order of 5-7 cents on the dollar, implying that this homeowner would spent an additional $5,000 to $7,000 a year based on her increased wealth. Now if the house price plunged back to $250,000 we would expect to see spending to fall back by roughly this amount.

Now let's do this with debt. Suppose the person borrows an additional $100,000 when the house price goes up to $350,000. They would then owe $300,000 on the house. When the price plunges, she would then owe $50,000 more than the value of the house. In this case we would also expect to see a drop in her annual consumption of $5,000 to $7,000. We could blame debt (she owes $50,000 more than the value of the house), but the main point is that she lost the wealth that was driving her consumption, not the fact that she is now in debt. Focusing on the debt in this story is simply an unnecessary complication.

Of course people are not identical. Many people will not increase their spending at all as a result of the increase in their housing wealth. These people will then not reduce their consumption when their house price falls. The people who did increase their consumption are the ones most likely to find themselves in debt, but that doesn't change the fact that the story is really one of a wealth effect, not debt.

This point can be easily seen if we look at the macro data. The consumption share of disposable income is actually quite high now, contrary to what is often reported. In other words, given their income levels, people are spending more on average than they did at any point in the post-war period, except the peaks of the stock and housing bubbles. This means that debt is not keeping people in aggregate from spending more, the reduction in wealth is what is keeping people from spending at their bubble peaks.

The debt story creates an unnecessary complication. It perhaps is a useful excuse for economists who somehow missed the importance of the largest asset bubble in the history of the world, but the real story is and was very simple. Economists had all the tools needed to see the problem at the time, they were just not willing to use them.


The U.S. Could Pay India Not to Emit Greenhouse Gases Print
Thursday, 25 September 2014 04:36

The NYT had a bizarre article on India's projected path of greenhouse gas emissions, noting that its emissions are likely to continue to rise at least through 2030. The piece notes that India is likely to pass both the United States and China as the world's leading emitter of greenhouse gases. The piece presents India's situation as providing a real moral dilemma since the country still has so many people living in poverty and it needs to increase energy production to sustain its growth and lift people out of poverty.

The moral dilemma is actually much simpler than the piece implies. The comments reported as assertions by Indian political figures happen to be true. Global warming would not be a problem if the United States and other rich countries had not been spewing large amounts of greenhouse gases into the atmosphere for many decades. For this reason, asking India to reduce its greenhouse gas emissions when they are still less than one quarter as high on a per capita basis as U.S. emissions (a fact that was not mentioned in the piece) might not seem terribly fair.

The obvious way around this problem is to have the United States and other rich countries pay poor countries like India to reduce their emissions. This is actually a very simple thing to do. In fact, given the weakness of demand in the U.S. and Europe, paying these countries to reduce emissions would actually increase employment and growth in the wealthy countries. 

It might be hard for politicians to suggest something like making payments to poor countries to ensure that our children live on a decent planet, just like many politicians find it difficult to say they believe in evolution, but it really shouldn't be difficult for a newspaper to discuss these issues in a serious manner.


More Lawlessness From Lenders Print
Thursday, 25 September 2014 04:30

The NYT had a fascinating article on innovations in the financial sector. The piece reports on devices installed in cars purchased with subprime loans that will block a car from starting. According to the piece lenders often block a car from starting after borrowers are just a few days late on their payments. It also reports on cases where borrowers claim they were current on their loans when their cars were blocked from starting. Apparently state rules regulating repossessions, such as providing notice, do not apply to this technology, which largely has the same effect as repossessing a car.

China's Per Capita Emissions are One Third Those of the U.S. Print
Wednesday, 24 September 2014 04:40

This point would have been worth including in a discussion of President Obama's effort to get China to agree to emission reductions. China remains much poorer than the United States, even though it has surpassed the United States in GDP, because it has four times the population.

Furthermore, many of its emissions are associated with goods that are produced for export to the United States and other countries. In that sense, the United States has effectively exported emissions connected to its own consumption to China. Also, the problem of global warming is associated with the accumulation of carbon dioxide over time. The United States and other wealthy countries have been contributing to this buildup on a large scale for more than a century. If they had not put so much carbon dioxide in the atmosphere, global warming would not be a problem today. China has far to go before it catches up to the United States in total carbon dioxide emissions over time.


Median Household Income Began to Stagnate in 1980, not 2000 Print
Wednesday, 24 September 2014 04:10

Thomas Edsall has a good discussion of the shift of income from labor to capital in the years since 2000. His piece puts the blame largely on the way the United States has structured global trade to put downward pressure on the wages of ordinary workers.

While Edsall's discussion of the period since 2000 is largely on target (it does miss the impact of macroeconomic fluctuations and the fact that we have been well below full employment for most of this period), it errs in telling readers:

"Until 1999, median household income (as distinct from wealth) rose in tandem with national economic growth. That year, household income abruptly stopped keeping pace with economic growth and has fallen steadily behind then."

While median household income did keep pace with economic growth from 1993 to 1999, it actually lagged far behind in the years from 1978 to 1993. Over this period real per capital income rose by 30.0 percent, while median household income barely changed. This divergence of median income from growth was associated with an upward redistribution of wage income, with high end earners (e.g. Wall Street types, CEOs, and doctors) gaining at the expense of most workers.

In this period, most college graduates (@ 25 percent of the workforce at the time) were among the winners. By contrast, in the period since 2000 only workers at the very top of the income distribution and owners of capital have been winners.

It's Best to Use Good Math (or Logic) When Picking on Paul Ryan's Bad Math Print
Tuesday, 23 September 2014 19:26

Jonathan Chait took a few swipes at Paul Ryan for his budget work and economic forecasts in a piece headlined "Paul Ryan Declares War Against Math." Most of Chait's shots are well-deserved, for example he notes Ryan's claims that the Obama deficits would lead to a surge in inflation and that Obamacare would cause health care costs to soar.

However one of the Chait's shots is definitely in the cheap seats. He tells readers:

"'Reality' [a sarcastic reference to Ryan's world view] is Ryan’s description for a world in which Bill Clinton’s punishing tax hikes on the rich hindered the economy, which was restored to health when George W. Bush cut taxes."

Actually in the reality where most of us reside, George W. Bush's tax cuts almost certainly did provide a boost to the economy. At the time the economy was experiencing a recession due to the collapse of the stock bubble (the cause of the Clinton budget surpluses). The economy desperately needed a source of demand to replace the demand generated by the collapse of the stock bubble. This is a point that is now acknowledged even by Larry Summers, President Clinton's last Treasury Secretary. The Fed was approaching the zero lower bound with its interest rate policy, as the federal funds rate was lowered to 1.0 percent in the summer of 2002.

This meant that fiscal policy was badly needed to provide a boost to the economy. In that context, the Bush tax cuts were almost certainly a positive for the economy, leading to more consumption and therefore more demand and employment than if there had been no expansionary fiscal policy. Of course the same amount of money would have provided more stimulus if it had gone to support infrastructure, education, or other forms of spending. It would have also given the economy more of a boost if it was less tilted towards those at the top end of the income distribution. 

But given a choice between the Bush tax cuts and doing nothing, the Bush tax cuts were almost certainly the better way to go. They may not have been sufficient to offset the damage caused by the collapse of the stock bubble, but they were a step in the right direction.


Note: Jonathan Chait's name was originally misspelled as "Chiat."


Total Home Sales Are At or Above Trend Print
Tuesday, 23 September 2014 04:57

The Washington Post gave us the ostensibly bad news that home sales were down slightly in August. It later uses as a point of reference the number of mortgages issued in 2001. The housing market had already entered its bubble phase in 2001 with house prices running well above trend levels. If we compare total sales (new and existing homes) with sales in the pre-bubble years 1993-1995, they would actually be somewhat higher today, even after adjusting for population growth.

While there may be an issue of many people being unable to qualify for mortgages because of their credit history, this does not appear to be having a negative effect on the state of market. Prices are already about 20 percent above their trend levels.

It also is not clear that all of the people being denied mortgages are being harmed. Because of the weak labor market, workers often have to move to find or keep jobs. There are large transactions costs associated with buying and selling a home. These average around 10 percent of the purchase price. If a person can't expect to stay in a home for at least five years they will likely lose by buying rather than renting. it is especially likely they will lose in a context where higher future interest rates, which are almost universally predicted, will put downward pressure on house prices. It is worth noting that many of the people pushing homeownership today were also pushing it as the housing bubble was reaching its peaks in the years 2005-2007.

If Children Are Being Crowded Out, It is Being Done by Rich People Print
Monday, 22 September 2014 20:19

There is a well-funded effort (think Fix the Debt and the Peter G. Peterson Foundation) to distract people from the upward redistribution to the rich through claims that the problem is really the elderly living high on Social Security and Medicare. Catherine Rampell contributed to this effort with a column warning the spending on the elderly threatens to crowd out spending on our children. Just about every claim in the column is either seriously misleading or outright wrong.

To begin with we get these two paragraphs:

"Spending on kids as a share of the budget is projected to decline dramatically in the coming decade — to just 7.8 percent by 2024. If you exclude health spending, spending on children falls in raw, inflation-adjusted dollars, too, not just as a percentage of total spending.

"'Kids’ share of federal spending isn’t tumbling because children are suddenly becoming a smaller fraction of the population. Nor is this happening because we live in an “age of austerity”; the sizes of both the economy and tax revenue are at all-time highs, after accounting for inflation, and are expected to keep growing. Federal spending overall is likewise projected to swell in coming years."

Okay, why would we exclude spending on health care for kids, unless we are trying to deceive readers? After all, the piece doesn't exclude spending on health care when it discusses spending on the elderly. Also, we know that the main avenue for spending on kids is education. This is done primarily at the state and local level. Rampell acknowledges this point later in the piece, but then why the histrionics over the age composition of federal spending?

Also saying that we are not in an age of austerity is bizarre. Tax revenues as a share of GDP have fallen to levels not seen since the 1950s. Yes, the economy is growing and the budget is growing along with it, but what matters are the shares of the GDP going to tax revenue.

Then we are told:

"Entitlements that benefit older Americans increasingly dominate the U.S. budget, and not just because the population of older people is increasing. We’re spending way more per elderly person, too. Per capita federal outlays on children rose by about $4,600 in the last half-century (from $270 in 1960 to $4,894 in 2011, after adjusting for inflation); during the same period, per capita outlays on the elderly rose by about $24,000 (from $4,000 to $27,975).

"The chasm between per capita funding received by seniors — even after taking into account all the taxes they have paid — and children looks likely to widen substantially, given the way Social Security, Medicare and child program benefits are structured."

The numbers for spending on seniors might sound dramatic, but it is important to remember that they paid for their Social Security benefits in full. In fact, according to the Urban Institute, which provided much of the basis for this column, the typical senior will have paid somewhat more in taxes to Social Security over their working lifetime than what they can expect to receive back in benefits. Complaining about what seniors get paid out without noting what they paid in would be like complaining about the interest payments that rich people get on their government bonds without noting that they paid for their bonds.



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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.