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Creative Arithmetic In Support of Reaganism at the Washington Post Print
Sunday, 28 December 2014 16:00

Many newspapers require that people writing columns carefully document the factual claims they make. The Washington Post is not in this category as readers of Steve Moore's column touting the wisdom of the Laffer Curve must know. I won't go into the details of the misrepresentations in the piece. Paul Krugman has done some of this work here, and PGL at Econospeak adds more.

I will just make a couple of quick additional points. First, no one ever disputed that high tax rates have a negative incentive effect on work and savings. The question is the size of this effect. The basic story of the Reagan era does not provide much reason to believe that this negative effect was large. Growth of employment was slower in the 1980s than in the 1970s, savings rates fell, and the investment share of GDP fell to its lowest levels in the post-war era. There are other factors that can explain all of these developments, but it is pretty hard to make a case that lower tax rates were a major elixir for growth when all the key variables that were supposed to be affected went in the wrong direction.

The second point is that timing is everything. Moore likes to have the world begin in 1982. This was the trough of the steepest downturn in the post-war era. Economies typically bounce back from steep downturns with steep upturns (not in the most recent one, because that was the result of a collapsed bubble). For this reason the recovery is primarily a measure of the severity of the downturn. The more honest way to measure an economy's performance is comparing it to the prior business cycle peak.

By this measure, the 1980s had slower growth then high tax days of the 1970s and much worse growth than the higher tax days of the 1960s. The world looks a bit better if we start at 1982, but that is not a serious way to assess the Reagan performance.

This reminds me of a time when I was on a radio show with Moore. Then too he was touting the wonders of the Reagan boom. I pointed out that the 1970s had better growth than the 1980s and offered Moore a $100 bet on the topic. Moore accepted and then touted the 1982 to 1989 growth rate. When I pointed out that the 1980s began in 1980, Moore got upset.

Unfortunately for Moore and other Laffer-Reagan backers, the 1980s still begin in 1980.

News for Washington Post: Politicians Don't Always Tell the Truth and TPP Is Not a Free-Trade Agreement Print
Saturday, 27 December 2014 08:33

People in places like rural Kansas and downtown Washington, DC often have a misplaced trust in authority and elected officials. They are inclined to take their comments at face value, not realizing that these people often have ulterior motives.

The Washington Post gave us an example of this confusion in a front page article on President Obama's effort to push the Trans-Pacific Partnership (TPP), which it repeatedly refers to as a "free-trade" pact. The piece follows the administration's line in telling readers that "the president threw his full support behind the pact as part of a broader effort to rebalance U.S. foreign policy to the fast-growing Asia-Pacific region."

This assertion makes little sense since the administration is simultaneously pursuing a similar trade pact, the Trans-Atlantic Trade and Investment Pact, with Europe. What both deals have in common is that they are primarily about imposing a business-friendly structure of regulation on both our trading partners and the United States. The more plausible explanation is that President Obama is trying to get more business support for the Democratic Party.

The terms of the pacts will supersede laws put in place by both national and sub-national governments, creating an investor-state dispute settlement mechanism. Foreign corporations would be able to contest laws at every level of government at these tribunals. Their rulings could not be over-turned by domestic courts. Incredibly, the Post article made no mention of these tribunals even though they have been a major cause of opposition to the agreements.

The piece also repeatedly refers to the TPP as liberalizing trade. This is not at all clear. Most of the trade barriers between the United States and the countries in the agreement are already low. While the TPP will reduce many of these barriers further, it will also increase protectionist barriers in the form of patent and copyright protection. It is entirely possible that the increase in protectionism due to stricter and longer protections in these areas will most than offset any reduction in the remaining tariff and quota barriers.

It is also worth noting that the deal will likely include nothing about regulating currency values. The decision of many developing countries to deliberately keep their currencies low against the dollar has been the major factor sustaining the U.S. trade deficit, which is now more than $500 billion annually (@ 3 percent of GDP). This loss of demand is the major cause of the "secular stagnation" that economists like Larry Summers have been writing about lately. Opponents of this trade deal have argued that currency should be included in the pact given the enormous damage caused by the resulting trade deficits.

More Confusion on Inflation: Lower Oil Prices Helps, Rather than Hurts Japan Print
Friday, 26 December 2014 14:41

Confused thinking on inflation continues to abound, and not just from the folks convinced that hyper-inflation is just around the corner or already here. Recall that until recently we were supposed to be terrified that those low inflation rates in the euro zone might shift from being small positives to small negatives, and then the world would end.

Fortunately the I.M.F., among others, is now pointing out that the problem is simply an inflation rate that is too low. An inflation rate of -0.5 is more too low low than inflation of 0.5 percent, but this is just in the same way that an inflation rate of 0.5 percent is more too low than an inflation rate of 1.5 percent. The problem is that we would like the inflation rate to be higher to both facilitate declines in real wages in sectors seeing less demand (commentators please note, the issue of real wages being too high is in certain sectors, not a general problem) and to reduce the real value of outstanding debt. A higher rate of inflation will also reduce the real interest rate, which will encourage firms to invest more.

This brings us to a Reuters story that ran in the NYT telling readers that falling oil prices will make it harder for Japan to hit its 2.0 percent inflation target, therefore implying that low oil prices are bad for Japan's economy. Let's think this one through for a moment.

First, if we check the base paths, we see that Japan is almost 100 percent dependent on imported oil. This is different from the U.S. which has a substantial oil producing sector. That should make the story pretty unambiguous. In the U.S. we can say that areas like North Dakota and Texas might take a hit, even if other parts of the country will benefit from lower oil prices. Japan doesn't have a North Dakota or Texas, which means that they are only looking at paying less for their energy.

So how is this bad? Well, the Reuters piece says it means lower inflation. This is true, but we have to think of why lower inflation could be a problem. Let's imagine that if the price of oil were unchanged, then Japan's central bank would be hitting its 2.0 percent inflation target. Now because of lower oil prices, the overall rate of inflation will come in substantially under 2.0 percent.



For David Ignatius, Wrecking the Economy Is a Credential Print
Wednesday, 24 December 2014 16:57

That's right, he complains that Elizabeth Warren opposed Larry Summers' nomination for Federal Reserve Board chair even though he played a central role in designing the policies that led to the housing bubble and the subsequent collapse. Yep, that's just irresponsible populism to hold someone responsible for policies that are likely to cost us more than $10 trillion in lost output and lead to millions of ruined lives.

On the Economic Boom: Too Much Eggnog? Print
Wednesday, 24 December 2014 08:46

I hate to put a damper on the party, but the some of the reporting on the economy is getting a bit out of hand. The Post gave us an example, with a piece on the revised fourth quarter GDP numbers headlined, "Robust Economic Growth in the third quarter raises hopes that a boom is on horizon." That's not what Mr. Arithmetic says.

First, just to be clear, the third quarter numbers were definitely good news. Five percent GDP growth is a solid economic performance by any measure, so there is no doubt that it is a big step forward by any measure. The economy is clearly growing, and likely at a reasonably respectable rate. The issue is whether the term "boom" is appropriate.

As this article and other reporting notes, the third quarter follows a strong second quarter of 4.6 percent growth, which in turn followed a first quarter where GDP shrank by 2.1 percent. The piece dismisses the drop in first quarter GDP as the result of bad weather. This is surely true, but the strong growth in the subsequent two quarters is clearly related to the drop in the first quarter. The growth in these quarters was a reversal of the decline in the first quarter.

If we take the average growth over the last three quarters, we get a 2.5 percent annual growth rate. This isn't bad, but it's hardly anything to write home about. If we assume the economy has a potential growth rate (the rate of growth of the labor force plus productivity) in the range of 2.2-2.4 percent, then with the 2014 growth rate we are filling the gap in output at the rate of between 0.1-0.3  percentage points a year. CBO estimates that the gap between potential GDP and actual GDP is still close to 4 percentage points. This means that at the 2014 growth rate we can look to fill that gap in somewhere between 13 and 40 years. Perhaps we should put a hold on that champagne.



John Cochrane Versus the Keynesians, #23,127 Print
Tuesday, 23 December 2014 12:50

I see that John Cochrane is once again attacking Keynesian economics, giving an “autopsy for Keynesians” in the Wall Street Journal. His central line is that Keynesian economics has been repeatedly proven wrong in the recovery. He sees the U.K.’s turn to austerity as a brilliant success; and the continued U.S. growth, in spite of deficit reduction, as further proof of the failures of Keynesian economics. He tells us that even Greece and Italy are sticking with the euro, rejecting the course of “devaluation and inflation.”

I understand that Cochrane’s polemic is directed at Paul Krugman, but as a card carrying Keynesian, I will take up the defense. First, it requires some serious re-writing of history to pronounce the Keynesians wrong at every turn in this recession and recovery. Going back to the days of Great Moderation, some of us Keynesian types noticed the economy was being driven by a housing bubble long before the beginning of the Great Recession.

I’m not sure where bubbles fit in Cochrane’s world, but in this economy they are run-ups in asset prices that are not consistent with the fundamentals of the market. In most cases they are not of great consequence for the economy as a whole, only for the markets directly affected. However when the market is a massive market, like the U.S. housing market, and the bubble grows to the neighborhood of $8 trillion (@ $10 trillion in today’s economy), it is a big deal. The housing bubble raised residential construction to a record share of GDP. The associated wealth effect led to a huge consumption boom with the saving rate pushed to a record low.

When the bubble burst, there was no component of GDP that would magically replace these sources of demand. The outcome was a severe recession. The real world followed pretty well on this Keynesian’s line of thinking.

Cochrane somehow thinks the Keynesians blundered in believing that the stimulus would set everything right:

“Our first big stimulus fell flat, leaving Keynesians to argue that the recession would have been worse otherwise.”

Well, some of us were arguing at the time that the stimulus was far too small to get the economy back on its feet, so we were hardly surprised when our prognostications proved correct. (Krugman made the same case in a far more visible forum.)



The Two Percent Inflation Trap Print
Monday, 22 December 2014 05:42

Neil Irwin had an interesting piece in the Upshot section of the NYT on the origins of 2.0 percent as an inflation target for central banks. He concludes the piece by arguing that, while the target may be too low, it would be very difficult to move away from it.

There are a few issues worth noting on this point. First, the 2 percent target has not been precisely defined in most countries. In the United States, Fed chairs have been quick to note that it is an average, not a ceiling. This means that they could easily run an inflation rate above 2.0 percent for a number of years without violating their rule. If we had inflation about 2.0 percent for 4-5 years, and then the Fed announced that the recent inflation rate was in fact the target rate, it is not obvious that this would cause any great harm. The question would be whether people's expectations are based more on the target than on the inflation rates they have actually been seeing in the world.

This raises a second point, central banks, including the Fed, have been consistently undershooting their target since the start of the recession. If their credibility depends on hitting the target, then they should have lost a great deal of credibility in the last 7 years. Polls on expectations also seem to indicate that most people's expectations are based more on recent inflation rates than on targets.

A third point is that while targeting may be useful for bringing down inflation, inflation rates fell throughout the world in both countries that targeted inflation and those that didn't. If targeting can bring down inflation at a lower cost in terms of unemployment, then it would be a positive, but if it also prevents central banks from actions to boost the economy out of a downturn, then the loss can be far more than offsetting.

Finally, the piece ends with a discussion of central bank credibility, quoting Princeton economist and former Fed Vice-Chair Alan Blinder:

"Central bankers have invested a lot and established a great deal of credibility on their 2 percent inflation target, and I think they’re right to be very hesitant to give it up. If you change from 2 percent to 3 percent, how does the market know you won’t change 3 to 4?"

It is entirely possible that central bankers would find it too embarrassing to reverse course and adopt a policy that is better for the economy and the country. (Jean-Claude Trichet, the first head of the European Central Bank, patted himself on the back when he retired from the bank in 2011 even though the euro zone was still in the midst of a potentially fatal financial crisis. He pointed out that they had kept inflation below its 2.0 percent target.) In this case, it would be essential that elected leaders dictate to the central bankers that they have to swallow their pride and give up some of their hard-earned credibility.

As tens of millions of unemployed workers say, you can't eat central bank credibility.



It is also worth noting that we had very rapid growth throughout the OECD countries in the 1950s and 1960s in spite of the lack of inflation targets and uneven rates of inflation throughout this period. It is possible that growth would have been even more rapid if the inflation rate had been more stable, but clearly erratic movements in the inflation rate did not preclude rapid economic growth.

The Profit on the TARP and Bernie Madoff Print
Sunday, 21 December 2014 14:16

For folks like Timothy Geithner it is a big thing to boast about the profit the government made on the TARP. We got more of this children's story in the NYT yesterday in an article reporting on the end of the TARP. It is worth understanding the meaning of profit in this context.

The basic story is fairly simple. The TARP was a program through which we lent otherwise bankrupt banks, and actually bankrupt auto companies, hundreds of billions of dollars at interest rates that were far below the market rate. However the interest was higher than what the government paid on its borrowing, therefore Timothy Geithner gets to run around saying that we made a profit.

Before you start thinking that this is a great idea and we should give all the government's money to the Wall Street banks, imagine that we had given the same money to an different institution, Bernie Madoff's investment fund. As we all know, Madoff's fund was bankrupt at the time because he was running it as a Ponzi, the new investors paid off the earlier investors. He hadn't made a penny on actual investment in years.

But, if the government had lent him tens of billions of dollars at the rates charged to the Wall Street banks, and furthermore given the Timothy Geithner "no more Lehmans" guarantee (this meant that the government would not allow another major bank to fail), then Madoff would be able to invest the money borrowed from the government in the stock market. In fact, with the no more Lehman's guarantee he could have borrowed tens or hundreds of billions more from other sources and invested this in the stock market as well. (If he had been a favored bank, he could have also taken advantage of below market interest rate loans from the Fed.)

After a few years, Madoff would have made enough money to cover his shortfall. He could then both repay his investors and repay the loans to the government. This would have then allowed Timothy Geithner to boast about how we made a profit on the loans to Bernie Madoff.

The reality is that the boast of a profit in this context is pretty damn silly. The question is whether an important public purpose was served by rescuing the Wall Street banks from their own greed.

That's a hard one to see. Geithner and Co. trot out the Second Great Depression scare story, but this is just another children's story. We have known how to get out of a depression since Keynes, it's called spending money. And even Republicans are down with stimulus in a severe downturn. The first stimulus was signed by George W. Bush when the unemployment rate was 4.7 percent.

So TARP was about using the government to save the Wall Street banks from the market, end of story. There is no reason for anyone to care that Timothy Geithner gets to say we made a profit on the deal. We could have made a profit on rescuing Bernie Madoff too.


China and the United States: Who Is Number One? Print
Sunday, 21 December 2014 09:25

A NYT article on China's growth seems to have gotten data from the International Monetary Fund backward. It told readers:

"On the purchasing power basis, the I.M.F. forecasts the American economy at $17.6 trillion this year, while China’s is estimated at $17.4 trillion."

That's not what my I.M.F. data say. On my screen, it is China with $17.6 trillion and the U.S. with $17.4 trillion. Of course if we add in Hong Kong (which also appears to be under China's control), China would be over $18.0 trillion in 2014. FWIW, if we look to 2019, the last year in the I.M.F. projections, China's GDP is put at $26.9 trillion compared to $22.1 trillion for the United States. At that point, if these numbers prove accurate, the comparison will not even be close. 

WaPo Reports on Vladimir Putin's Economic Miracle in Russia Print
Sunday, 21 December 2014 09:18

A chart accompanying a Washington Post article on Russia under Putin tells readers that Russia's per capita GDP rose from $1,771 when Putin took power in 1998, to $14,611 in 2013. This would imply an increase in per capita GDP of 725 percent in 15 years for an annual rate of more than 15 percent. Such rapid growth in income would be unprecedented in world history. If it were true, then Russians would have cause to hold Putin's accomplishments in awe. Of course it isn't (although there was a substantial increase in Russian GDP over this period), so Putin doesn't have quite as much to boast about as the Post's chart implies.


I should have provided a bit more context here as many of the comments point out. There is actually a measure of GDP where the Post's numbers would be correct. It is by taking an exchange rate measure of GDP that converts rubles into dollars and does not control for inflation. This measure is largely meaningless, since most Russians are not buying most of their goods and services in dollars. They are paying in rubles.

The performance by a real GDP measure is still impressive. According to the IMF's data, overall real GDP has increased by 105.7 percent between 1998 and 2014, a 4.6 percent annual rate. Much of this was just bounceback from the collapse of the economy following the break-up of the Soviet Union, but there is little doubt that most people in Russia would consider themselves much better off today than when Putin took office.

Anyhow, some alarm bells should have been going off at the Post when they were putting in a chart showing an increase in per capita GDP of more than 700 percent in 16 years. Some folks were clearly asleep on the job.

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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.