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Robert Samuelson's Psychological Problems

Monday, 18 February 2013 08:52

Robert Samuelson is convinced that the U.S. economy is suffering from psychological problems. In a piece titled, "why job creation is so hard" he tells readers:

"We have gone from being an expansive, risk-taking society to a skittish, risk-averse one."

Point number one is the rise in the saving rate:

"In the boom years, the personal saving rate (savings as a share of after-tax income) fell from 10.9 percent in 1982 to 1.5 percent in 2005. Now it’s edging up; from 2010 to 2012, it averaged 4.4 percent."

Is this really a matter of psychology? People have lost $8 trillion in housing wealth as a result of the collapse of the bubble. Homeless people generally don't spend much money, is this due to psychological issues? As Samuelson noted, in the pre-bubble years the saving rate averaged more than 8 percent. If anything, we should be surprised by how much people are spending.

Next we have investment. Samuelson tells us:

"Businesses have also retreated. They resist approving the next loan, job hire or investment. Since 1959, business investment in factories, offices and equipment has averaged 11 percent of the economy (gross domestic product) and peaked at nearly 13 percent. It’s now a shade over 10 percent, reports economist Nigel Gault of IHS Global Insight."

Okay, let's look at this one more closely. If we check the data, the Commerce Department tells us that business investment averaged 10.9 percent from 1959 to 2012 (Table 1.1.5). In 2012 it was 10.3 percent. That's a drop of 0.6 percentage points in an economy with huge amounts of excess capacity. Furthermore, if we break it down to the equipment and software component and the structure component, we see that all of the decline was in the latter. Equipment and software investment averaged 7.3 percent over the longer period compared to 7.4 percent in 2012. While the decline in structure investment may be due to psychology, it is possible that the large amount of vacant office and retail space is also an important factor.

Samuelson has even more bad news for us.

"The market is simply regaining levels of late 2007. A report from Credit Suisse argues that returns to stocks will average about 3.5 percent annually (after inflation) in the next 20 years, down sharply from 6 percent since 1950."

As much as I would hate to argue with people that couldn't see an $8 trillion housing bubble (or a $10 trillion stock bubble), it is difficult to understand how returns will only be 3.5 percent when the current ratio of after-tax profits to corporate equity is more than 7.5 percent. (The Fed reports the market value of the shares of U.S. corporations was $19,698 billion at the end of the third quarter of 2012 [Table l.213, line 23]. The Commerce Department reports after tax profits for domestic corporations in the third quarter of 2012 were $1,515.2 billion [Table 1.12, Line 15].)

It's hard to imagine what corporate America will do with the extra money if its earning 7.5 percent for each dollar of market capitalization but the return to shareholders is just 3.5 percent. It's possible that Credit Suisse envisions a sharp plunge in profits from their current highs (it would have to be very sharp to get to 3.5 percent), but this would go in the opposite direction of the concern expressed in Samuelson's next sentences:

"To compensate for lower returns, companies would need to contribute more to pensions. Wages would suffer. Consumption spending would weaken."

Oh well.

There is one more point about the psychology and job creation story worth noting. If psychology, rather than lack of demand, explained slow job growth then we would be seeing firms filling the demand for labor through alternative mechanisms. Specifically we would see an increase in the length of the average workweek and increased hiring of temps. In fact, we see neither. The length of the average workweek is still slightly below its pre-recession level as is temp employment.

In short, the story of the downturn remains depressingly simple. We have nothing to replace the huge amount of construction and consumption demand created by the $8 trillion housing bubble. Perhaps if the problem were more complicated, policy types would have an easier time seeing it. 


Comments (16)Add Comment
written by skeptonomist, February 18, 2013 10:09
Dean apparently projects future earnings on stocks to be about 7.5%, based on earnings/price. But corporate profits (FRED:CP) with respect to GDP or other measures are extremely high historically. Can stock-market investors count on this continuing? Could this level of profits itself represent a bubble? If so, who is going to blow the whistle on it?
written by fuller schmidt, February 18, 2013 10:54
Markets and economics as imagined by Samuelson. Psychology as imagined by Samuelson. Are we that poorly educated that people who don't bother understanding what they are writing about can influence our public lives?
Samuelson the Irrational Psychologist
written by Last Mover, February 18, 2013 11:04
That's a drop of 0.6 percentage points in an economy with huge amounts of excess capacity.

If psychology, rather than lack of demand, explained slow job growth ...

Samuelson appears to claim that psychology drives lack of demand, not that demand is there yet psychology blunts investment spending.

Either way, given that psychology is steeped in rationality, why would any rational businessperson invest heavily in replacement or expanded physical capital before exhausting the use of idle resources available at much lower short run variable cost?

Samuelson doesn't make any economic sense even if demand was there, effectively asserting that if it was, the more expensive long run option would be chosen over that of the lesser cost short run option. (The only exception being when short run variable cost exceeds long run total cost.)

What a psychologist, blaming the rational victim to justify the irrational cure.
To the rescue! :P
written by David, February 18, 2013 11:16
written by skeptonomist, February 18, 2013 10:09
Dean apparently projects future earnings on stocks to be about 7.5%, based on earnings/price. But corporate profits (FRED:CP) with respect to GDP or other measures are extremely high historically. ...

Hmm. Is skeptonomist being silly or just dense? Dean questions Samuelson's implication that somehow the current above average ROR (i.e. 1% above the mean), can get down to 3.5%, which is 2.5% below the mean. There is no plausible story line, not a single whiff of one, which i believe is Dean's point. Dean has mentioned elsewhere in this blog the unsustainably high profits and the above average PE ratios in stocks. So to say he "apparently" thinks this 7.5% trend will continue is apparently and transparently ignorant on the part of the sayer.
Against "David"
written by Ellen1910, February 18, 2013 11:37

". . . it is difficult to construct a plausible scenario now where pension assets will provide a return that is much below 8.0 percent." Dean Baker 6/20/2012

". . . with a current [P/E] ratio that is close to the historic average of 15 to 1, real returns of 7 percent are very reasonable." Dean Baker 10/21/2012

Whether Baker's right or wrong, there's no reason to conclude that Credit Suisse's contrary opinion can only be explained by assuming a "sharp plunge in profits." It may result from a combination of reversion to the mean i/r/t profits and a lowered P/E ratio that future investors are willing to pay.

N.B. It does surprise me that Baker, who made his bones in 2004 by catching the housing bubble and noting that this time isn't different, seems not to apply the same logic to the current outsized corporate profit ratios.
3.5% equity return above inflation in line with CFO survey
written by pete, February 18, 2013 11:39
Please see:

I agree it seems low, since lower trade barriers should be a huge boon to capital. But that's the number folks that matter are thinking of.
Stock return formulas
written by Dean, February 18, 2013 11:58
I was being a bit quick here, just because the 3.5 percent return assumption is ridiculous on its face. Currently the earnings yield is about 7.6 percent of the share price. This is inflated by an unusually high profit share of income. Assume this share falls by 15 percent (a pretty big fall). We are then at 6.5 percent, assuming no change in share price. This is still way above the Credit Suisse number. If share prices fall, then the yield would be higher, so we would have gotten bad returns this year, but will get much better returns in the future. They have to have some pretty unusual story about profits and growth a=to get a 3.5 percent real return. (btw, this is the exact some analysis I used to beat up on SS privatizers -- the earnings yield at the time was about 4.0 percent. I don't cook my numbers to get a result that folks may find politically appealing.)

written by watermelonpunch, February 18, 2013 1:30
This is the best blog post title! :D

And it got me thinking...

In short, the story of the downturn remains depressingly simple. We have nothing to replace the huge amount of construction and consumption demand created by the $8 trillion housing bubble. Perhaps if the problem were more complicated policy types would have an easier time seeing it.

I think the issue is more simple than that, and one to do with psychology after all.

It's long seemed to me that the problem with the housing bubble & bust and a lot of people's reactions during and after it, is this...

People really really really really wanted the housing bubble to be "the new normal".

They want to believe that bubbles are good, (until they're not).

They don't want to believe that it's the nature of bubbles to be good, until they're not.

I do see a similarity between the following:

These people who liked the bubble, wish the bubble could be "the new normal", and look at everything through that perspective.
And battered women dealing with abusive romantic partners.

The battered woman stays with the abuser because when he's good he's oh so very good!
Ask most battered woman why she stays with an abusive boyfriend or husband. It's not because the abuser is continually bad! It's because when he's not, he's wonderful!

I don't think for a second that most of these people failed to see the housing bubble, or even want a normal recovery. I think they saw the bubble, liked it a great deal, and are only frustrated that it can't be "normal", lasting forever, with no down sides.

The way a battered woman just wishes her spouse would stop hitting her, and always be the extremely apologetic, romantic, and charismatic lover he is when he's trying to make up for what he's done.

Victims of domestic violence fail to really understand and accept that the entire relationship is fundamentally flawed.

I think that's the exact psychological problem with a lot of people in regards to bubble booms.

They fail to grasp that the entire situation is fundamentally flawed.
"Ridiculous on its face"?
written by Ellen1910, February 18, 2013 1:36

Credit Suisse estimates a REAL rate of return on equities over the next 20-0 years of 3-3 1/2%. I don't see why that estimate is "ridiculous" at all.

Back of the envelope -- expected inflation averages 2% a year; current annual dividends are 2% -- a wash, 0%. So -- the real rate of return is dependent upon the increases of dividends over the time period.

How much will real dividends rise? About as much as real GDP rises? And if we assume real GDP goes up 3-3 1/2% per year, there's the real equity RoR Credit Suisse estimates.

CS may be wrong -- but ridiculous? I don't think so.
written by skeptonomist, February 18, 2013 6:08
I updated my graph of Profits/GDP:


which should give a better idea of how really high profits are. At over 10%, the current value is over twice the 1952-2003 average. Previous ratios this high came only during major wars - how much of the current profits are for war industries?

The 2008-9 recession put only a small dent in profits, whereas in the Great Depression they went strongly negative. As long as profits continue at current levels, inequality will increase, so I for one hope they can be cut down some way. You can't have it both ways; big profits for stock investors and reduction of inequality.

Older data are from the Census 1970 Bicentennial Edition; newer data from FRED.
Samuelson and crack
written by David, February 18, 2013 7:38
OK, I glanced over the CS report that Samuelson refers to. First of all, the 3.5% is when you take the US out of the picture. Second, it's a 3.5% premium relative to bills (and it's slightly lower when relative to bonds), not with respect to (just) inflation. So Samuelson is (surprise!) confused. From the CS report:
By definition, the expected equity return is the expected risk- free rate plus the required equity risk premium, where the latter is the key unknown. Although we cannot observe today’s required premium, we can look at the premium investors enjoyed in the past.

US bill rates can't drop much lower in rates, and the annualized risk premium in the US over the last century is estimated at 5.3%. So we're looking at about a 7.3% rate of return. The 3.5% is given as an estimate of the premium for the rest of the world (see pages 8 and 9 of the report).

So for the rate of return on stocks to drop to 3.5%, we would see investors dropping their risk premium from about 5% to about 1.5%. Now, why in the heck would they do that, at this point in time, when they know the boards are hoarding cash?
Psychology; capital gains
written by Andrew Burday, February 18, 2013 11:22
"Homeless people generally don't spend much money, is this due to psychological issues?"

Yes. Feeling cold is a psychological issue. Feeling hungry is a psychological issue. Feeling terrified about being hungry and cold in the future is a psychological issue. Now if we could only get lazy, self-centered Americans to stop indulging these psychological issues and freeze to death happily, the economy would be in tip top shape.

Ellen1910: Suddenly capital gains are chopped liver? Would it be ok to tax them, then? I mean, if they don't count as part of returns, let's tax them at 100%. It won't be like investors are losing anything.
Samuelson's only credentials are as a journalist.
written by Sarah, February 19, 2013 7:40
Samuelson has a B.A. degree from Harvard in GOVERNMENT for crissakes! Why do people with real credentials bother to debate him instead of just pointing out that he doesn't have enough education in the field to know what he's talking about? I think it can only be that people consistently confuse him with Paul Samuelson- to whom he is no relation.

His proper role as a journalist should be to make intelligible what actual economists have to say- even, perhaps, to try and outline some of the major debates and what different schools contend. If he wanted to be actually useful, he might look at what statistical evidence is presented in support of various positions. As it is, he's just a further example of the dumbing down of American policy-making - where all that's necessary is a glib pen and a willingness to use it in support of the 'right' ideology to make yourself a 'go-to' name in any area of expertise you choose.
Distinguish Supply-side from Demand-side
written by Lee A. Arnold, February 19, 2013 7:20
It seems to me that Mr. Samuelson doesn't know the difference between supply-side and demand-side:

written by Betty Pawsheifer, February 19, 2013 9:08
Sarah nailed it. Samuelson is a partisan hack and I can't for the life of me understand why the "liberal media" gives him a platform to spew his nonsense.
frightened people
written by Chris, February 20, 2013 9:39
The people who are frightened are those who prefer to find some other, any other, excuse for the slow recovery rather than lack of demand. Lack of demand would suggest that perhaps some stimulus and additional spending would help and that idea frightens them beyond measure. Bigger government, eek!

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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.