Politics, Economics and other Stuff

Museum Questions

Inspired by the family's trek through Boston area museums -- the MFA, JFK Library, Peabody Essex Museum, ICA, visited in order of increasing child acceptance, tomorrow they get to go to a puppet theater -- some questions:

1. Did ancient Egyptian peasants expect an afterlife?  When did commoners start expecting an afterlife?  I know, what any of this means needs elaboration...
2. What's the deal with Jacqueline Kennedy's voice/accent?  She is pretty much a beauty ideal, but that voice would drive me crazy.  What is the cultural history of this kind of voice?  How was her voice perceived at the time?  How much was this her public voice only? 
3. What did Americans sell to China in the pre-1840s China trade?  When did opium and tea get going and how did America fit into that trade?  In general, what commodities were important by value, as opposed to their historical memorability?  How did the economics of long-distance trade come out in terms of covering ship construction costs?  There must be lots of data on family finances of trading families. 
4. How could the NYC-Albany passenger only steamship lines coexist with the railways?  What were the relative traffic volumes for passengers and freight?  Why take a steam ship if you could take a (faster?) train?  Where trains that awful?  I've always thought of passenger steamships as a Mississippi or Ohio river phenomena, but the Hudson was also important (see Vanderbilt). 
5. How does basic C-print technology work?  I.e. how did the world work before ink jet printers? I know the high school level explanation, but that doesn't really answer the question...like why didn't C-prints exist before the mid-1940s? 

Broker-Dealer Balance Sheets

Broker-Dealer balance sheet data seem to be the hot new explanatory variable in macro-finance, at least at the NY Fed.  Not clear to me any of this is done right yet, or that the explanation hangs together for commodity price dynamics. 

For instance, Erkko Etula, Broker-Dealer Risk Appetite and Commodity Returns:

This paper shows that the risk-bearing capacity of securities brokers and dealers is a strong determinant of risk premia and the volatility of returns in commodity markets. I measure risk-bearing capacity as the fraction of broker-dealer financial assets relative to the total financial assets of broker-dealers and households. This variable has particularly strong power to forecast energy returns, both in sample and out of sample: It forecasts approximately 30 percent of the variation in quarterly crude oil returns. These findings are rationalized in a simple asset-pricing model where the economic role of broker-dealers is to provide insurance against commodity price fluctuations. I estimate cross-sectional prices of risk using an arbitrage-free asset-pricing approach and show that broker-dealer risk-bearing capacity forecasts commodity returns because of its association with the price of risk.

Tobias Adrian and Hyun Song Shin, Financial Intermediaries and Monetary Economics:

We reconsider the role of financial intermediaries in monetary economics. We explore the hypothesis that financial intermediaries drive the business cycle by way of their role in determining the price of risk. In this framework, balance sheet quantities emerge as a key indicator of risk appetite and hence of the “risk-taking channel” of monetary policy. We document evidence that the balance sheets of financial intermediaries reflect the transmission of monetary policy through capital market conditions. We find short-term interest rates to be important in influencing the size of financial intermediary balance sheets. Our findings suggest that the traditional focus on the money stock for the conduct of monetary policy may have more modern counterparts, and we suggest the importance of tracking balance sheet quantities for the conduct of monetary policy.

Tobias Adrian, Erkko Etula, and Hyun Song Shin, Risk Appetite and Exchange Rates:

We present evidence that fluctuations in the aggregate balance sheets of financial intermediaries forecast exchange rate returns—at weekly, monthly, and quarterly frequencies, both in and out of sample, and for a large set of countries. We estimate prices of risk using a cross-sectional, arbitrage-free asset pricing approach and show that balance sheets forecast exchange rates because of the latter’s association with fluctuations in risk premia. We provide a rationale for an intertemporal equilibrium pricing theory in which intermediaries are subject to balance sheet constraints.

The Official Explanation for why we don't have more expansionary monetary policy

via the WSJ:

Earlier this month, Real Time Economics presented questions from several economists for the confirmation hearing of Federal Reserve Chairman Ben Bernanke.  Many of the questions were addressed at the hearing, though not always directly. Sen. David Vitter (R., La.) submitted them in writing and received the  responses from Bernanke, along with his own other questions. ....

D. Brad Delong, University of California at Berkeley and blogger: Why haven’t you adopted a 3% per year inflation target?

The public’s understanding of the Federal Reserve’s commitment to price stability helps to anchor inflation expectations and enhances the effectiveness of monetary policy, thereby contributing to stability in both prices and economic activity. Indeed, the longer-run inflation expectations of households and businesses have remained very stable over recent years. The Federal Reserve has not followed the suggestion of some that it pursue a monetary policy strategy aimed at pushing up longer-run inflation expectations. In theory, such an approach could reduce real interest rates and so stimulate spending and output. However, that theoretical argument ignores the risk that such a policy could cause the public to lose confidence in the central bank’s willingness to resist further upward shifts in inflation, and so undermine the effectiveness of monetary policy going forward. The anchoring of inflation expectations is a hard-won success that has been achieved over the course of three decades, and this stability cannot be taken for granted. Therefore, the Federal Reserve’s policy actions as well as its communications have been aimed at keeping inflation expectations firmly anchored.

This is not how economic models work, but is consistent with central bank lore from the 1980s.  More later...a bit scary this isn't one of the main topics of discussion in Bernanke's confirmation. 

Restructuring

Clusterstock writes, quoting The Real Deal:

The commercial real estate carnage isn't bad news for everyone. Slurpee-slinger 7-11 is ready to take over New York City.  At a time when many chains are contracting, Dallas-based 7-Eleven is taking advantage of low entry costs and aggressively taking on Manhattan, where the company, which is currently operating six stores, plans to tack on an additional 100 locations over the next five years.

Late Payments and FICO

A 30 day late payment is almost as costly as foreclosure to you credit score (as known as FICO).   I had no idea --- I had wondered about this and I now have a professional reason to care so I might take a look...seems weird.    This would explain some of the extreme white-black credit score differences -- the underlying behavior may not be as different as I though it had to be.  I reminder never to be 30 days late (i.e. not paying with in a few weeks of getting a 2nd notice).  (Yahoo via Volokh) 

Poverty in the DC metro area

The WP writes:

One in four students in Fairfax County qualifies for free or reduced-price meals this fall, up from one in five three years ago. In Montgomery County, 29 percent of students were deemed eligible for meal subsidies in October, up from 26 percent in October 2007. In Prince William County, the eligibility rate increased from 29 to 33 percent, and in Prince George's County, from 46 to 52 percent. ...

Many parents who work as housecleaners, construction workers or landscapers have lost their jobs, or their hours have been cut.

It was my impression that most of the social strata that is poor or near-poor or poverty endangered doesn't live in Fairfax County and commutes in, but I should look more closely at the relevant survey data.  Also, who puts out the free or reduced-price meal school lunch data?  How is it updated?  This might be an interesting data source beyond unemployment to get at the geographical organization of financial distress. Ah, here is the data, not clear if the frequency or detail is useful as published.  The WP helpfully doesn't cite any data sources.  BTW, 185% of poverty level or lower gets you free or reduced-price meals. 

Not that high participation in food support programs is new -- what surprised me here is the high numbers for one of the highest income counties in the US. For instance, Andrew Gelman writes:

Mark Rank and Thomas Hirschl recently published an estimate that 50% of American kids are on food stamps at some point during their first twenty years of life. Their estimate is based on an analysis of data from the Panel Study of Income Dynamics, from 1968 through 1997.  ... 

This is all fine--it's an efficient use of the data they have--but I'd feel a bit more confidence in Rank and Hirschl's estimates if they would cross-check by doing some raw-data calculations based on the subset of kids who were in the study continuously for ages 1-20. That's a crucial component in any applied statistical analysis--the continuous thread connecting the raw numbers to the final estimate--and I always like to see it, especially for a politically-charged subject such as this one. ...

Here are the key results from the study:

(from Table 1): 12% of newborns were on food stamps. 49% of kids were on food stamps for at least one year between ages 1-20. 23% of kids were on food stamps for at least 5 years.

(from Table 2); 8% of white newborns and 33% of black newborns were on food stamps. 37% of white kids and 90% of black kids were on food stamps for at least one year between ages 1-20.

(from Table 3): Among the black kids of unmarried parents where the head of household did not graduate from high school, 99.6% were on food stamps.

Again, I don't know how much to believe these numbers, but I assume that they're not too far from what was really happening in those years.

Also, whassup with those superfluous decimal places? "22.8%" and all the rest? Doesn't anybody teach these people about sampling variation and significant digits?

The NYT writes about the surge in food stamp program participation.  Not sure if the NYT coverage is insightful as opposed to sensationalist, but recent program changes do seem to bear looking into in terms of program eligibility, program outreach and program uptake.   This is not a small program.  The NYT writes:

While use is greatest where poverty runs deep, the growth has been especially swift in once-prosperous places hit by the housing bust. There are about 50 small counties and a dozen sizable ones where the rolls have doubled in the last two years. In another 205 counties, they have risen by at least two-thirds. These places with soaring rolls include populous Riverside County, Calif., most of greater Phoenix and Las Vegas, a ring of affluent Atlanta suburbs, and a 150-mile stretch of southwest Florida from Bradenton to the Everglades.

Although the program is growing at a record rate, the federal official who oversees it would like it to grow even faster.

“I think the response of the program has been tremendous,” said Kevin Concannon, an under secretary of agriculture, “but we’re mindful that there are another 15, 16 million who could benefit.”

Nationwide, food stamps reach about two-thirds of those eligible, with rates ranging from an estimated 50 percent in California to 98 percent in Missouri. ...

Now nearly 12 percent of Americans receive aid — 28 percent of blacks, 15 percent of Latinos and 8 percent of whites. Benefits average about $130 a month for each person in the household, but vary with shelter and child care costs.

In the promotion of the program, critics see a sleight of hand.

“Some people like to camouflage this by calling it a nutrition program, but it’s really not different from cash welfare,” said Robert Rector of the Heritage Foundation, whose views have a following among conservatives on Capitol Hill. “Food stamps is quasi money.”

Official summary program data here. 

Monetary Policy

I should have a long insightful and forceful post on monetary and fiscal policy, but I'm not up to it now.  Too damn frustrating. 

Instead, I'll just quote Scott Sumner, who is up to the job of blogging what is standard modern monetary theory:

Here’s what I find so bizarre.  Almost the entire political establishment thinks we need much more AD [aggregate demand].  Even Republicans that argue against the fiscal stimulus don’t say the problem is that it will boost AD; rather they make the opposite argument, they claim it will “fail” where failure is defined as a lack of AD, a continuation of the recession.  Meanwhile the people at the Fed are perfectly aware of Woodford’s argument that I discussed in a recent post.  They know that they could boost AD by setting a higher inflation target.  They simply don’t want to.  And yet almost the entire political establishment thinks Bernanke is doing all he can from the monetary end.

Here's Sumner on that Woodford paper:

Here is a long passage from pp. 33-36 of a November 2009 paper by Woodford and Curdia, which describes a 2003 paper by Woodford and Eggertsson (you’ll need to open the PDF):

Eggertsson and Woodford show that it can be a serious mistake for a central bank to be expected to return immediately to the pursuit of its normal policy target as soon as the zero bound no longer prevents it from hitting that target. For example, Figure 11 (reproduced from their paper) compares the dynamic paths of the policy rate, the inflation rate, and aggregate output under two alternative monetary policies, in the case of a real disturbance
(here interpreted as an exogenous increase in the probability that loans are bad, requiring intermediaries to increase the credit spread by several percentage points) that begins in period zero and lasts for 15 quarters, before real fundamentals permanently return to their original (“normal”) state.

C&W continue . . .

This analysis implies that a commitment to maintain policy accommodation can play an important role in mitigating the effects of the zero lower bound on interest rates. One might reasonably ask for what length of time it is sensible to commit to keep rates low, and in particular whether it is really prudent to make any lengthy commitment when it is hard for a central bank to be certain that recovery may not come much sooner than anticipated.  The answer is that the best way to formulate such a commitment is not in terms of a period of time that can be identified with certainty in advance, but rather in terms of targets that must be met in order for the removal of policy accommodation to be appropriate.

Note: I had forgotten that they made this point.  So their views are even closer to mine than I recall.  Do not promise low interest rates as far as the eye can see, promise to keep them low until you hit your target.  And of course in my view policy should be forward-looking, so keep rates low until the expected target is hit.

C&W continue . . .

In fact, Eggertsson and Woodford (2003) show that in the representative household model (and hence similarly in the special case described above), optimal policy can be precisely described, regardless of the nature of the exogenous disturbances, by a target criterion involving only the path of the output-gap-adjusted price level defined in (3.2). Under the optimal rule, the central bank has a target each period for ˜pt, that depends only on the economy’s history through period t − 1, and must use interest-rate policy to achieve the target, if this is possible without violation of the zero lower bound; if the target is undershot even with a zero policy rate, the policy rate is at any rate reduced to zero — and the target for ˜pt+1 is increased in proportion to the degree of undershooting. In periods when the zero bound does not bind, the target for the gap-adjusted price level is not adjusted, and the target criterion is the same as the one discussed in section 3.1.

Actually, the adjustments of the target are not of great importance, even when the zero bound does bind: Eggertsson and Woodford show that almost all of the improvement in stabilization achievable under the optimal policy commitment can be obtained by simply committing to a target criterion of the form (3.2) with a constant target p∗. The crucial feature of the optimal policy is that the target for ˜pt must not be allowed to fall as a result of having undershot the target in past periods. Hence one of the approximate characterizations of optimal policy proposed in section 3.1 continues to provide a good approximation to optimal policy even when the zero lower bound sometimes binds: it is simply important that the commitment be to the level form of the target criterion (3.2) rather than to the growth rate form (3.1).

Translation: Level targeting is essential in a liquidity trap.  But even if you are not in a liquidity trap, it is almost as good as rate targeting.  So if you are going to have a policy that is transparent, and credible, why not do level targeting all the time?

The final paragraph of the paper sums up the key findings:

The main respect in which the appropriate target criterion for interest rate  policy should be modified to take account of the possibility of financial disruptions is by aiming at a target path for the price level (ideally, for an output-gap-adjusted price level), rather than for a target rate of inflation looking forward, as a forward-looking inflation target accommodates a permanent decline in the price level after a period of one-sided target misses due to a binding zero lower bound on interest rates. Our analysis implies that a credible commitment to the right kind of “exit strategy” should substantially improve the ability of monetary policy to deal with the unusual challenges posed by a binding zero lower bound during a deep financial crisis, and to the extent that this is true, the development of an integrated framework for policy deliberations, suitable both for crisis periods and for more normal times, is a matter of considerable urgency for the world’s central banks.

Serious scholars use much more measured language than I do.  So when Woodford and Curdia conclude by saying level targeting “is a matter of considerable urgency for the world’s central banks” they are sounding the alarm.

I agree.  None of this is new, Woodford et.al. have been saying this for about ten years or longer, with a full round of policy discussions and conferences at Central banks due to Japan and the deflation scare of 2002.  So policy guys at the central banks should know all this.  Maybe I'm overestimating how much they know, having been exposed to this topic professionally...but still.  The extent to which this standard high level academic/policy view does not get articulated even in the quality press like the NYT is just astounding.  It's like central bank economists didn't exist and the NBER conference series in monetary theory were something a mountain tribe in India created.  

Krugman also picks up the theme, but uncharacteristically just accepts the mysterious conventional political wisdom, which is part of the puzzle -- why does he do this?:

We’re in a liquidity trap, with interest rates up against the zero bound. This means that conventional monetary policy isn’t sufficient. What should we do?

The first-best answer — that is, the answer that economic models, like my old Japan’s trap analysis, suggest would be optimal — would be to credibly commit to higher inflation, so as to reduce real interest rates.

But the key thing to recognize about this answer is that it’s all about expectations — the central bank only has traction over expected inflation to the extent that it can convince people that it will deliver that inflation after the liquidity trap is over. So to make this policy work you have to (i) convince current policymakers that it’s the right answer (ii) Make that argument persuasive enough that it will guide the actions of future policymakers (iii) Convince investors, consumers, and firms that you have in fact achieved (i) and (ii).

In reality, we haven’t even gotten anywhere near (i): the conventional wisdom is still that any rise in expected inflation above 2 percent is a bad thing, when it’s actually good.

So some readers have asked why I’m not making the same arguments for America now that I was making for Japan a decade ago. The answer is that I don’t think I’ll get anywhere, at least not until or unless the slump goes on for a long time.

OK, so what’s next? The second-best answer would be a really big fiscal expansion, sufficient to mostly close the output gap. The economic case for doing that is really clear. But Washington is caught up in deficit phobia, and there doesn’t seem to be any chance of getting a big enough push.

That’s why, at this point, I’m turning to what I understand perfectly well to be a third-best solution: subsidizing jobs and promoting work-sharing.

Call it constrained optimization, where the constraint comes from the power of bad ideas.

Like making the Federal Reserve's Board of Governors change its mind is harder than getting Congress to create a funded program of "subsidizing jobs and promoting work-sharing".  Talk about reading the political process correctly...

On the other hand, Krugman may be right, but he's not being explicit enough here.  The Federal Reserve Board may be controlled by private sector bankers who have firm and private interests that are tied up with having low inflation even at the cost of serious output losses and decreases in social welfare.   Sorry to join the Fed hating community, but that's where things are heading right now. 

Long topic...lots more to say here.  I've heard some rumbling on this from central bank economists who may be getting frustrated and disillusioned.  "Why do we do this? We like giving money to banks"  was the explanation I got on a different policy question from one central bank economist, where the 'we' here refers to the powers that be at the Fed, not central bank economists.  Krugman may have concluded from more intense discussions that getting the private sector bankers on the Fed to move towards credible inflation isn't feasible without...well, it still seems like a fight you want to fight.    Even if you'll get blamed for success when inflation shows up. 

I actually have (yet another) unfinished paper on the distributional impact of fed policy and its risk sharing implications, though I didn't expect it to play out his this extreme form. 

I'm not saying that targeting a future price level noticeably above our current path will solve all problems.  But it seems like one should stop running a bulldozer into a house that is falling down.  But the a lot of damage may already be done.   

Update #1: which gets us to today's big news:

The House Financial Services Committee voted, 43-26, to approve a measure sponsored by Texas Republican Ron Paul, vociferously opposed by the Fed, that would direct the congressional Government Accountability Office to expand its audits of the Fed to include decisions about interest rates and lending to individual banks. The Fed says the provision threatens its ability to make monetary policy without political interference. ...

Mr. Paul maintained that his amendment wouldn't hinder monetary policy, but instead remove a veil of secrecy at the central bank that's unique within U.S. government. At the Fed, "there's plenty of political influence going on now -- presidential politics, influence by Goldman Sachs and the banking industry," he said. "It's all done in secret."

Congressional auditors have been blocked from reviewing the Fed's monetary policy operations, its loans to foreign governments and direct lending to banks since 1978, when a law was passed to shield the central bank from politics. Auditors already have access to the Fed's operations outside of monetary policy, including bank supervision and the special loan facilities created to rescue specific institutions, such as AIG and Bear Stearns Cos.

Though it isn't clear if the House has the same complaints I do, I doubt it.  I assume Paul-Grayson won't pass, but who knows.  Nor is it clear Paul-Grayson will help, but it may change things. 

Taxes vs Cap and Trade: the international dimension

David A. Weisbach (Chicago) has posted Instrument Choice is Instrument Design on SSRN.  Here is the abstract (via TaxProf blog):

This paper analyzes the choice between taxes and cap and trade systems (also referred to here as a permit system or a quantity restriction) as methods of controlling greenhouse gas emissions. It argues that in the domestic context, with proper design, the two instruments are essentially the same. Commonly discussed differences in the two instruments are due to unjustified assumptions about design. In the climate change context and within a single country there is sufficient design flexibility that these differences can be substantially eliminated. To the extent that there are remaining differences, there should be a modest preference for taxes, but the benefits of taxes are swamped by the benefits of good design; even though the very best tax might be better than the very best quantity restriction, the first order of business is getting the design right.

In the international context, however, taxes dominate more strongly. The design flexibility available within a single country is reduced in the international context because of the problems of coordinating systems across countries and minimizing holdouts. Moreover, the incentives to cheat and the effects of cheating are not equivalent for the two instruments in the international setting. Because climate change will require a global system for emissions, these considerations mean we should favor taxes for controlling greenhouse gas emissions.

I have pretty clear cut preferences for emission taxes over cap and trade schemes, partly for international coordination and political economy reasons.  So it is nice to see that topic come up -- it seem surprisingly absent in the discussion.   Not clear if Weisbach's analysis holds up under scrutiny, but it seems like analyzing the international dimension is essential for understanding how these schemes are going to work. 

The ideal data set

The sort of data one can only dream of in the US:

The Finnish army, compulsory service, tests all males' intelligence at age 19 or 20.  Grinblatt, Keloharju and Linnainmaa somehow got the individual test results from all exams from 1982 through 2001 inclusive. And tied it to Finnish tax administration data, an address data set, the Finnish Central Securities Depository Registry (which has records on all Finnish households' portfolios and trades), and census data to measure the effect of IQ on stock market participation, controlling for education and income.

Productivity Growth

The preliminary 3rd quarter productivity numbers came out today from the BLS:

Nonfarm business sector labor productivity increased at a 9.5 percent annual rate during the third quarter of 2009, the U.S. Bureau of Labor Statistics reported today. This was the largest gain in productivity since the third quarter of 2003, when it rose 9.7 percent. Labor productivity, or output per hour, is calculated by dividing an index of real output by an index of hours of all persons, including employees, proprietors, and unpaid family workers. Output increased 4.0 percent and hours worked decreased 5.0 percent in the third quarter of 2009 (All quarterly percent changes in this release are seasonally adjusted annual rates).

These are very good numbers for a slow growing economy.  Take a look at quarterly output growth and quarterly output-per-hour growth since 1947, with the last four quarters.  Looks like the 2009:3 quarter may be the post-war quarter farthest away from the regression line, but it is closer than I'd expected -- I'd not realized how strong output growth is now in the US -- it's hours worked that is still falling. 

Not quite sure if these are seasonally adjusted numbers or not. Also there may be some tendency for the relationship to get flatter as manufacturing declines as a share of hours worked -- some of the deep output declines in the graph are 50 years or more ago and are regular size manufacturing downturns with a larger manufacturing sector.  But the relationship for the last year looks pretty much what you'd expect historically, just with productivity growth higher by around 6% annually. 

One interpretation is that this recession is not driven by supply shocks as much as most recessions.  The other interpretation is that firms are not hoarding labor through this downturn as much as in the past.  There are also some measurement issues, but those would mostly make productivity fall more in a downturn that seen here. 

There's lots of room here for a good strong recovery with low inflation.  The problem is trade adjustment. 

DeLong comments:

Back in the 1930s there was a Polish Marxist economist, Michel Kalecki, who argued that recessions were functional for the ruling class and for capitalism because they created excess supply of labor, forced workers to work harder to keep their jobs, and so produced a rise in the rate of relative surplus-value.

For thirty years, ever since I got into this business, I have been mocking Michel Kalecki. I have been pointing out that recessions see a much sharper fall in profits than in wages. I have been saying that the pace of work slows in recessions--that employers are more concerned with keeping valuable employees in their value chains than using a temporary high level of unemployment to squeeze greater work effort out of their workers.

I don't think that I can mock Michel Kalecki any more, ever again.

What caused the recession?

I don't have a short or very confident answer.  It is hard to evaluate the relative contributions of different factors as well as the importance of their interactions with each other and existing institutions and policies. 

This is a placeholder post to make sure I put something up on this question.

Some brief suggestions of causes that tend to get neglected:

1. Inability to take collective action in the government and private financial sector.  Governance in the public and large corporate finance sector gets deadlocked and requires lots of backing and forthing and incrementalism, mostly in the face of daily demands for change.  Worrying about potential future disasters and getting others to take actions to prevent them is pretty hopeless and hence just doesn't get on the very limited agenda for change.  This applies in the private financial sector as well. Cleaning up past messes is much easier and has gets more support from the political environment. 
2. The need to learn form realizations as opposed form thinking about what might happen in the future, especially if collective action is called for (see point #1).  But learning need not improve things in 2nd best economies -- instead learning may create more problems for social collaboration. 
3. Oil.  Don't forget oil and the energy crisis...
4. Inflation and interest rates where too low to before the crisis started, opening up the possibility of a nominal spending collapse.  We've already had this in Japan and we had a deflation scare in 2002/03, so there was warning on the need to raise the long-term inflation target.  
5. Dumb final savers and their demand for supposedly safe high return assets impacted all the way through the financial asset production chain. If the final consumer demands AAA rate high yield products somebody is going the produce them.  Regulation can shut down dumb buyers getting these products, but its harder to do than you think, especially if people who know what they are doing make lots of money buying high yield AAA products and there is a track record to point to that allows the producers of these assets to try to sell them to a wider audience. 

OECD Nominal Spending Growth

via David Beckworth, annual nominal spending growth at PPP in the OECD.  Not that controlling nominal spending is a trivial task at all times.  But getting nominal spending up isn't that hard if you're clear about keeping nominal interest rates low until spending comes back strongly (and not just moderately). I had not thought I'd live to see a worldwide year on year fall in nominal spending. 

Does a learnable rational expecations equilibrium exist?

John H. Cochrane, Can Learnability Save New-Keynesian Models?

Bennett McCallum (2009), applying Evans and Honkapohja’s (2001) results, argues that “learnability” can save New-Keynesian models from their indeterminacies. He claims the unique bounded equilibrium is learnable, and the explosive equilibria are not. However, he assumes that agents can directly observe the monetary policy shock. Reversing this assumption, I find the opposite result: the bounded equilibrium is not learnable and the unbounded equilibria are learnable. More generally, I argue that a threat by the Fed to move to an “unlearnable” equilibrium for all but one value of inflation is a poor foundation for choosing the bounded equilibrium of a New-Keynesian model.

More later...big important topic...or at least a topic I've noted since the early ninties -- actually earlier, I remember explaining aversion of learnability of equilibrium monetary policy impacts in a sticky price model to a cousin back in 1986 -- and I thought about working on at some point.  But general robust results are hard/impossible  (or trivially boring...I'm a bad academic worker).  Indeed, I'm inclined to say that for (some? many?) realistic models, for most policies, learning rational expectations is impossible.  Though agents try and don't have adaptive expectations either.  Which sort of gets you generic instability, but not in a manner that is easy to characterize, since my sense is that it is mostly a sort of sketch of non-existence.  [Okay, I need to be specific here...]

A final remark: economist talk a lot about 'equilibrium' for technical reasons: we just don't know how to characterize non-equilibrium economies (indeed, as soon as you can analyze an economy you probably can define it as some sort of equilibrium).  

Which suggests that equilibrium perspectives may fail us for good reasons and crises are about (not necessarily stabilizing) learning.  And the bond market not forecasting future inflation now says more about how the bond market's learns about the inflation mechanism than the fact that inflation is unlikely. 

Also note that 'learnability' has a convenient/limited/restrictive definition in this literature and may not reflect actual learning by agents in the field.  

Update #1: From Bennett McCallum 2008 paper Inflation Determination with Taylor Rules: Is New Keynesian Analysis Critically Flawed?:

Quite recently, John Cochrane (2007) has strongly questioned the basic economic logic of current mainstream monetary policy analysis as widely practiced and described by Clarida, Gali, and Gertler (2000), King (2000), Svensson and Woodford (2005), Taylor (1999), Woodford (2003a), and many other prominent writers. A central ingredient of this analysis is the assumption that monetary policy is conducted by means of a central-bank policy rule for period-by-period adjustment of a short-term nominal interest rate, with the rule calling for adjustments of this policy rate by more than one-forone in response to incipient movements in inflation—thereby satisfying a condition that is widely referred to as the Taylor Principle.2 Cochrane’s contention is that the standard notion—that “determinacy” of a rational expectations (RE) equilibrium serves to guarantee that stable inflation behavior around target will be generated—is incorrect. His basic reasoning is expressed in the following quote:

“I argue that the Taylor principle, in the context of new-Keynesian models, does not, in fact, determine inflation or the price level. Nothing in economics rules out explosive or “non-local” nominal paths. Transversality conditions can rule out real explosions, but not nominal ones” (Cochrane, 2007, p. 2).

Consideration of Cochrane’s argument indicates that there is much merit in this point. The concept of determinacy relied upon in the standard analysis is uniqueness of a dynamically stable (i.e., non-explosive) RE solution in the model under study (which is of course intended to depict reality). But the equations of New Keynesian (NK) models are typically consistent with the existence of RE paths with explosive inflation rates, in addition to one or more stable paths, under the usual specifications. These are “nominal explosions” that bring about paths along which real money balances tend to decrease in magnitude, rather than growing without limit. More generally, explosive paths for inflation rates—or nominal interest rates—do not normally imply explosions in real variables relevant for transversality conditions, which are crucial for individual agent optimization. Consequently, the usual logic, in the usual models, does not imply the absence of explosive inflation. It is my conclusion that this position of Cochrane’s is in principle correct. That position as just stated does not, however, justify Cochrane’s negative conclusions about NK analysis. For there is a different criterion—in many (but not all) cases implied by determinacy and not generally implying determinacy—that is logically satisfactory for the purpose at hand. This is the requirement that, to be plausible, a RE solution should satisfy the property of learnability, of the type made prominent in the work of Evans and Honkapohja (1999, 2001).5 Adoption of this criterion, which should be attractive to any analyst concerned with actual monetary policy issues, serves to justify the bulk of current mainstream analysis in principle.

Cochrane from the paper above:

Even if McCallum’s learnability results (and those of related authors, such as Woodford (2003)) were correct, I don’t think they would solve the fundamental problem of multiple equilibria in new-Keynesian models.

How does the Taylor rule work? The Fed, undergraduate textbooks, and everyone’s op-eds say that it stabilizes the economy, introducing an eigenvalue less than one. If inflation rises, the Fed raises interest rates, and this lowers “demand,” which lowers future inflation.

The standard New-Keynesian model logic, as presented here, works in the opposite way. The Taylor rule destabilizes the economy. If inflation rises, the Fed commits to raise future inflation, and leads us off to nominal explosions. Ruling out such explosions, inflation must be where the Fed wants it to be in the first place. Alas, as McCallum and I agree, the “ruling this out” part stood on shaky ground. Nothing in economics rules out such a hyperinflation, and words such as Woodford’s (2003, p. 128) are hardly reassuring:

“The equilibrium ... is nonetheless locally unique, which may be enough to allow expectations to coordinate upon that equilibrium rather than on one of the others.”

I think the non-learnability of the bounded solution puts it on shakier ground still — there is no way for agents to learn of the Fed’s hyperinflationary threats from time-series. They would have to learn it from Fed pronouncements — and the Fed is pronouncing exactly the opposite. (Conversely, the learnability of the unbounded solutions is pretty obvious — if we observe a Fedinduced hyperinflation, you can learn the Fed’s reaction speed pretty quickly.)

But suppose I’m wrong — suppose the bounded solution is learnable and the unbounded ones are not. McCallum is then saying that inflation is determinate at one particular value because the Fed, by explosive reaction, threatens for any other initial value to take us to an equilibrium that is “unlearnable.” This does not sound like a threat that will strike fear in Wall Street’s heart, and “coordinate expectations” on anything other than confusion. (Compare it, for example to the severe and explicit threats in Atkeson, Chari, and Kehoe (2009).) In the centuries-long search for the price-level anchor in a fiat-money economy, is the threat to take us to an “unlearnable” equilibrium for all but one initial value really the answer? .

All of which suggests a certain crisis in monetary economics...probably a good thing for progress. 

John Cochrane thinks about where we are

John Cochrane has a paper on our current monetary and fiscal situation.  Nothing too surprising on first glance, but as usual a nice fun write up. Below Cochrane's bullet points from the introduction. 

Cochrane, Understanding fiscal and monetary policy in 2008-2009

1. Fall 2008 saw a large increase in demand for both money and government debt, and a fall in “aggregate demand.” These events makes sense in the fiscal analysis as a deflationary decrease in the discount rate for government debt. Many of the Government’s innovative policies can be understood as ways to accommodate this demand, which a conventional swap of money for government debt does not address.
2. Winter 2009 saw the announcement of dramatic fiscal stimulus in the U. S. and U. K., along with academic controversy over their effectiveness. Will “fiscal stimulus” stimulate? In this analysis, deficits can generate inflation (the same thing as “stimulate” here) if people do not expect future taxes to pay off the increased debt. Unlike conventional “Ricardian equivalence,” we do not need irrationality or market failure for this expectation, since our government debt is nominal.
3. With interest rates at zero, “quantitative easing;” large additional purchases of government debt, is sometimes recommended instead. Bank of England governor Mervyn King is following this strategy explicitly; the US Federal Reserve’s remarkable expansion is often interpreted in this light. I show that quantitative easing cannot inflate, especially in the zero-interest rate environment, without fiscal cooperation. If we want inflation, it must be by somehow convincing people that the government will not raise taxes or cut spending to pay off deficits. Both “fiscal” and “monetary” stimulus can only work if they change equation (1); if they are [] supported by increases in future primary deficits.
4. Much stimulus debate revolves around the fact that fiscal expenditures cannot happen quickly. In this analysis, prospective deficits are just as “stimulative” as current deficits. Perhaps this explains the Administration’s announcements of large future deficits. I ask, what are current expectations about future surpluses? The Government’s announcements can be read both ways, in some ways promising unsustainable deficits that can stimulate and inflate while at others promising fiscal discipline that cannot do so. However, we can measure the state of private expectations in the bond market. We do not have to argue about “Ricardian equivalence” as a matter of economic theory or intuitive plausibility. If the private sector does not expect higher surpluses in response to debt issue, the government cannot raise revenue by bond sales. It just raises interest rates instead. The relatively steady behavior of interest rates (so far) and the fact that the government is collecting a lot of revenue suggests “Ricardian” expectations and hence not much stimulus.
5. Conversely, many commentators tell us not to worry about fiscal inflation, because the US debt to GDP ratio is currently lower than that of other countries and than it has been in the past. I point out that the real issue in [equation] (1) is prospective deficits. We can suffer a fiscal inflation without a large debt/GDP ratio.
6. Others argue that we won’t see inflation until we see large seigniorage operations. In this analysis, inflation can happen before seignorage, and even without any seignorage. Fiscal inflation, a “flight from the dollar,” does not need to wait for monetary policy.
7. If a fiscal inflation comes, what will it look like? I extend the above equations to long-term debt, and analyze a stylized shock to expected surpluses. In the plausible scenario, interest rates rise, and inflation only comes slowly after a few years. 
8. I examine the outlook for inflation. The easy question is, will the Fed soak up all the money it has issued? The harder question is, can the Fed do so? Or will we run in to the fiscal limits of monetary policy — will the Fed try to sell Treasuries just as everyone else is trying to do so, and no credible future surpluses can justify new debt issues? In this context, I make two points (a) Credit guarantees make matters worse than actual deficits suggest. (b) If taxes have any effect on growth, the ‘Laffer limit’ of taxation may come much sooner than static analysis suggests. The present value of taxes is strongly influenced by growth. The big inflation danger is a long period of slow growth.
9. Many economists think that a little inflation is ok and even desirable, because inflations historically come with booms. However, I point out that fiscal inflations, and in particular inflations that come from collapsing expectations of deficits, may have quite different output effects both in theory and in experience. If inflation always corresponded to “more demand” and a boom, Zimbabwe would be the richest economy in the world. A fiscal inflation may well lead to stagflation, not a boom. The fiscal valuation equation can be seen as the “anchor” for monetary policy, or the “long-run expectation” that shifts the Phillips curve. A fiscal inflation is therefore likely to lead to the same stagflationary effects as any loss of “anchoring.”

Cochrane's current bottom line:

Will we get inflation? I don’t do forecasts, so noone can prove me wrong, but certainly we can sketch the scenario, and rule out some others. The nightmare scenario starts with more fiscal troubles — bailouts, defaults, spending and no resolution of entitlements. Slow growth, perhaps from distorting taxes, makes the present value problem loom even larger.

If it comes, we will see little warning, but rather a fairly sudden flight from long bonds and the dollar, followed by intractable inflation. I suspect it will be associated with stagnation, not a boom; a “loss of anchoring.”

The Fed seems to think inflation comes only from its rate choices, which affect demand and thus gaps. A fiscal inflation will come as a surprise to the Fed, as will the Fed’s inability to do much about it.

Tax Structure and State Objectives

Bruce Bartlett recommends Junko Kato's book Regressive taxation and the welfare state: path dependence and policy diffusion.  I'd not heard of this book, though I read Kato's first book when it came out.  Since this is an important and timely topic, I googled some of the recent literature.  There's more out there, but these papers that seem to state one perspective, a perspective I'm quite sympathetic to, succinctly. Though I'm not sure political scientists fully understand that labels don't necessarily indicate tax incidence -- or maybe they just need to get their papers out the door. 

Jeffrey F. Timmons, The Fiscal Contract: States, Taxes and Public Services

Using data from approximately 90 countries, I show that the more a state taxes the rich as a percentage of GDP, the more it protects property rights; the more it taxes the poor, the more it provides basic public services. The catch is that total revenue typically has no effect on property rights or basic public services. Furthermore, there is no evidence that states tax the rich to benefit the poor or vice-versa, contrary to state-capture theories; nor is there any evidence that taxes and spending are unrelated, contrary to state-autonomy models. Instead, states operate much like fiscal contracts, with groups getting what they pay for.

Jeffrey F. Timmons, Left, Right and Center: Partisanship, taxes and the welfare state

This article argues that partisans tax their supporters, challenging, in particular, the notions that the welfare state is primarily an instrument of redistribution and that left wing governments tax the rich to benefit the poor. Using insights from the tax compliance literature, data for 18 OECD countries from 1970-1999 and historical vignettes from the 1950s onward, I show that countries with more long-term left influence finance welfare expenditure primarily through regressive taxes on consumption and labor, rather than progressive ones on income and capital. Furthermore, I provide preliminary evidence showing that countries with more right wing influence raise more revenue from income and capital. These findings indicate that conventional accounts of partisanship, taxation and the welfare state need re-evaluating. While left wing and center parties have been vital for the development of the welfare state, the extent of redistribution is exaggerated. Political parties act like insurance agents, not Robin Hood.

Thomas R. Cusack and Pablo Beramendi, Taxing Work: Some Political and Economic Aspects of Labor Income Taxation

This paper examines the development of tax regimes across the OECD countries in the latter part of the 20th century. It pays particular attention to taxes on labor income. A number of results emerge from this examination. First, not only do taxes on labor income represent a major drain on private households; they have become the mainstay of many of these countries’ public sector finances. Second, taxes on labor income, and not taxes on capital, appear to be the preferred instrument of finance for those economic and political interests that advocate and support a strong (and thereby expensive) welfare state. There is little “free lunch” to be had in these welfare states; if anything, “socialism in one class” seems to be the rule. Third, while the effort at financing the welfare state this way comes at cost in terms of loss in employment, the magnitude of such loss is inversely related to the degree of wage coordination in the labor market.

Also nice is Thomas R. Cusack, Torben Iversen, David Soskice, Economic Interests and the Origins of Electoral Systems

The standard explanation for the choice of electoral institutions, building on Rokkan’s seminal work, is that proportional representation (PR) was adopted by a divided right to defend its class interests against a rising left. But new evidence shows that PR strengthens the left and redistribution, and we argue the standard view is wrong historically, analytically, and empirically. We offer a radically different explanation. Integrating two opposed interpretations of PR – minimum winning coalitions versus consensus – we propose that the right adopted PR when their support for consensual regulatory frameworks, especially of labor markets and skill formation where co-specific investments were important, outweighed their opposition to the redistributive consequences; this occurred in countries with previously densely organized local economies. In countries with adversarial industrial relations, and weak coordination of business and unions, keeping majoritarian institutions helped contain the left. This explains the close association between current varieties of capitalism and electoral institutions, and why they persist over time.

What counts as evidence for any of these views is the hard part...

The Federal Budget: Tax Revenue-GDP ratio lowest since 1950

In lieu of any posting by me -- out of time and in need of sleep --, a rant from Bruce Bartlett.  Bolding is by me. 

Yesterday, Mort Zuckerman, owner of the New York Daily News, exercised his prerogative by publishing an essay in that publication complaining that "Obama's spending and borrowing leaves U.S. gasping for air."

This is common criticism among Republicans, who have a vested interest in blaming everything bad that happens on the Democrats. The implication is that if voters weren't so stupid and had instead elected John McCain to be president then the budget would be balanced, the debt would have disappeared, and the economy would be booming. ..

According to the Congressional Budget Office's January 2009 estimate for fiscal year 2009, outlays were projected to be $3,543 billion and revenues were projected to be $2,357 billion, leaving a deficit of $1,186 billion. Keep in mind that these estimates were made before Obama took office, based on existing law and policy, and did not take into account any actions that Obama might implement.

Therefore, unless one thinks that McCain would have somehow or other raised taxes and cut spending (with a Democratic Congress), rather than enacting a stimulus of his own, then a deficit of $1.2 trillion was baked in the cake the day Obama took office. Any suggestion that McCain would have brought in a lower deficit is simply fanciful.

Now let's fast forward to the end of fiscal year 2009, which ended on September 30. According to CBO, it ended with spending at $3,515 billion and revenues of $2,106 billion for a deficit of $1,409 billion.

To recap, the deficit came in $223 billion higher than projected, but spending was $28 billion and revenues were $251 billion less than expected. Thus we can conclude that more than 100 percent of the increase in the deficit since January is accounted for by lower revenues. Not one penny is due to higher spending.  ...

According to the Council of Economic Advisers, as of August the actual budgetary effect of the February stimulus was to reduce revenues by $62.6 billion and raise spending by $88.8 billion. Of the spending, the vast bulk went to transfers such as extended unemployment benefits and aid to state and local governments, which may have prevented cuts in spending that would otherwise have occurred but probably didn't do anything to increase spending. Only $16.5 billion in stimulus funds went to investment outlays for things such as public works. This is a trivial amount of money in a $14 trillion economy. ...

I continue to believe that the Republican position is nonsensical. Final proof is that the previously cited CBO report shows total federal revenues coming in at 14.9 percent of the gross domestic product in FY2009. According to the Office of Management and Budget, one has to go back to 1950 to find a year when federal revenues were lower as a share of GDP. For reference, revenues averaged 18 percent of GDP during the Reagan administration and were never lower than 17.3 percent - 2.4 percent of GDP above where they are now.

I think there are grounds on which to criticize the Obama administration's anti-recession actions. But spending too much is not one of them. Indeed, based on this analysis, it is pretty obvious that spending - real spending on things like public works - has been grossly inadequate. The idea that Reagan-style tax cuts would have done anything is just nuts.

So how did federal outlays fall $28 billion short of their January projections if the stimulus added $88 billion in spending?  Did CBO underestimate automatic stabilizers?  Did inflation come in that much lower?  I don't quite see how you save $100 billion on those effects, or 3% of the budget. 

I'm also mystified by why federal revenues are so low -- is this what simple model would predict given income and asset returns?  Or are we facing a shortfall in revenues compared to what models would predict?  If so, what is going on?  I fear firms/households are stalling on tax payments and building up liabilities versus the government, some of which will default. 

The US dollar shortage in global banking 2008/2009

I should give this BIS paper a good read: Patrick McGuire and Götz von Peter, The US dollar shortage in global banking and the international policy.  Sorry, no good summary yet.  Not actually clear what the right story here is, though people like to talk about it. 

The analysis shows that between 2000 and mid-2007, the major European banking systems built up long US dollar positions vis-à-vis non-banks and funded them by interbank borrowing, borrowing from central banks and FX swaps. We argue that this greater transformation across counterparties in fact reflected greater maturity transformation across these banks’ balance sheets, exposing them to considerable funding risk. When heightened credit risk compromised sources of short-term funding during the crisis, the chronic US dollar funding needs became acute, particularly in the wake of the Lehman Brothers bankruptcy.

In contrast to many previous international financial crises, it was banks’ international exposures to other industrialised countries that deteriorated, and the global interbank and FX swap funding structure which seized up.  ...

[T]hese estimates suggest that European banks’ US dollar investments in nonbanks were subject to considerable funding risk at the onset of the crisis. The net US dollar book, aggregated across the major European banking systems, is portrayed in Figure 5 (bottom left panel), with the non-bank component tracked by the green line. By this measure, the major European banks’ US dollar funding gap had reached $1.0–1.2 trillion by mid-2007. Until the onset of the crisis, European banks had met this need by tapping the interbank market ($432 billion) and by borrowing from central banks ($386 billion),21 and used FX swaps ($315 billion) to convert (primarily) domestic currency funding into dollars.22 If we assume that these banks’ liabilities to money market funds (roughly $1 trillion, Baba et al (2009)) are also short-term liabilities, then the estimate of their US dollar funding gap in mid-2007 would be $2.0–2.2 trillion. Were all liabilities to non-banks treated as short-term funding, the upper-bound estimate would be $6.5 trillion.

The implied maturity transformation in Figure 5 became unsustainable as banks’ major sources of short-term funding turned out to be less stable than expected. Beginning in August 2007, heightened counterparty risk and liquidity concerns compromised short-term interbank funding (Taylor and Williams (2009)), visible in the rise of the blue line in the lower left panel. The related dislocations in FX swap markets made it even more expensive to obtain US dollars via currency swaps (Baba and Packer (2009a)), as European banks’ US dollar funding requirements exceeded other entities’ funding needs in other currencies. European banks’ funding difficulties were compounded by instability in the non-bank sources of funds as well. Money market funds, facing large redemptions following the failure of 17 Lehman Brothers, withdrew from bank-issued paper, threatening a wholesale run on banks (Baba et al (2009)). Less abruptly, a portion of the US dollar foreign exchange reserves that central banks had placed with commercial banks was withdrawn during the course of the crisis.24 In particular, some monetary authorities in emerging markets reportedly withdrew placements in support of their own banking systems in need of US dollars. Market conditions during the crisis have made it difficult for banks to respond to these funding pressures by reducing their US dollar assets. While European banks held a sizeable share of their net US dollar investments as (liquid) US government securities (Figure 5, bottom right panel), other claims on non-bank entities – such as structured finance products – have been harder to sell into illiquid markets without realising large losses.

Other factors also hampered deleveraging of US dollar assets: banks brought off-balance sheet vehicles back onto their balance sheets and prearranged credit commitments were drawn.25 Indeed, as shown in Figure 5 (top right panel), the estimated outstanding stock of European banks’ US dollar claims actually rose slightly (by $248 billion or 3%) between Q2 2007 and Q3 2008.26 It was not until the fourth quarter of 2008 that signs of deleveraging emerged.27 The frequency of rollovers required to support European banks’ US dollar investments in non-banks became difficult to maintain as suppliers of funds withdrew from the market. Banks were thus forced to come up with US dollars, given their reliance on wholesale funding and short-term FX swaps. Essentially, the effective holding period of assets lengthened just as the maturity of funding shortened. This endogenous rise in maturity mismatch, difficult to hedge ex ante, generated the US dollar shortage. Banks reacted to the dollar shortage in various ways, supported by actions taken by central banks to alleviate the funding pressures.28 Prior to the collapse of Lehman Brothers (up to end-Q2 2008), European banks tapped funds in the United States; their local US dollar liabilities booked by their US offices, which included their borrowing from Federal Reserve facilities,29 grew by $329 billion (13%) between Q2 2007 and Q3 2008, while their local assets remained largely unchanged (Figure 6, left panel). This allowed European banks to channel funds out of the United States via inter-office transfers (right panel), presumably to help their head offices replace US dollar funding previously obtained from the market. 

Effects of Starve the Beast Theory?

Bruce Bartlett, Supply-Side Economics, R.I.P.

During the George W. Bush years, however, I think SSE [supply side economics] became distorted into something that is, frankly, nuts--the ideas that there is no economic problem that cannot be cured with more and bigger tax cuts, that all tax cuts are equally beneficial, and that all tax cuts raise revenue.

These incorrect ideas led to the enactment of many tax cuts that had no meaningful effect on economic performance. Many were just give-aways to favored Republican constituencies, little different, substantively, from government spending. What, after all, is the difference between a direct spending program and a refundable tax credit? Nothing, really, except that Republicans oppose the first because it represents Big Government while they support the latter because it is a "tax cut."

I think these sorts of semantic differences cloud economic decisionmaking rather than contributing to it. As a consequence, we now have a tax code riddled with tax credits and other tax schemes of dubious merit, expiring provisions that never expire, and an income tax that fully exempts almost on half of tax filers from paying even a penny to support the general operations of the federal government.

The supply-siders are to a large extent responsible for this mess, myself included. We opened Pandora's Box when we got the Republican Party to abandon the balanced budget as its signature economic policy and adopt tax cuts as its raison d'être. In particular, the idea that tax cuts will "starve the beast" and automatically shrink the size of government is extremely pernicious.

Indeed, by destroying the balanced budget constraint, starve-the-beast theory actually opened the flood gates of spending. As I explained in a recent column, a key reason why deficits restrained spending in the past is because they led to politically unpopular tax increases. But if, as Republicans now maintain, taxes must never be increased at any time for any reason then there is never any political cost to raising spending and cutting taxes at the same time, as the Bush 43 administration and a Republican Congress did year after year. 

Not sure how exactly to think about this theoretically or what the evidence shows in terms of recent history.  I have paid attention to this for the last 25 years or more.  May be time to take another look.  Republicans did raise taxes under Reagan and Bush I, so this is only Bush II, not enough evidence in itself.    The crazy uninformed version of anti-tax ideology is a problem, but it is not clear how much that is a new phenomena and if its effects have changed that much.  But it may be true that sensible Republican tax raisers are thinner on the ground than they used to be.  Which may make our future come out less well than it might.   

Also, I don't see many open flood gates of spending -- just medical entitlements, mostly Medicare and, on a much lesser level, prison spending.  Military spending is high, but less than in the past, though in a much more benign international environment.  Education spending could be more efficient, but it's not over the top, same for infrastructure spending. 

The Forecasting Business

Don't expect market oriented outfits to be too forthcoming about their record. Krugman writes:

Michael Shedlock has an awesome takedown of ECRI’s claim that its indicators (a) have successfully predicted turning points in the past (b) point to a solid recovery now.

Click through if you enjoy snark on these topics. 

Nobel Prize Watch

D-square writes, still on the Peace Prize:

Ross Douthat of the New York Times writes on the subject of Obama's Nobel Peace Prize. I cannot help noticing that when the New York Times came and offered him a column, he did not turn it down saying "no, I clearly do not deserve this honour, others are far more qualified for it that me".

The Ostrom and Williamson Nobel Prizes for economics seem fine to me, though Williamson was a far greater influence on me than Ostrom...I've been exposed to some of her work, but by the time I got to it it was pretty much stuff I already knew.  Williamson, on the other hand, made me think, in part though on how to move from his sort of speculative theory to both model based theory and serious empirical work.  Both hard questions and see how far I got with that. I've had Williamson on my list of potential Nobel Prize winners since the 1980s, though less far up on the list recently as the influence of his work as faded from what I see people around me doing.   I don't even know if the FTC still uses his work...the next generation of IO researchers has a much bigger presence in applied work. 

A friend who took Williamson's IO grad course a long long time ago says he's a nice guy but the most excruciatingly boring lecturer he's every had in is whole college and grad school career.  I've had no contact with him, he left Yale shortly before I showed up there.  Five kids. 

Where people without health insurance live

Floyd Norris of the NYT writes (via. Razib):

Those who lack health insurance now are far more likely to live in states that usually vote Republican — the states whose senators and representatives are least likely to support a law to extend coverage.

That would seem to indicate that Republican constituents are the ones who would most benefit from passage of universal health insurance coverage. But an analysis of Congressional districts within those states indicates that those without health insurance are much more likely to live in strongly Democratic Congressional districts. Many of those contain large minority populations with relatively low incomes.

Texas  is the #1 example.  It would be good to know more.  These are stark differences, not marginal differences in insurance coverage and voting at the Congressional district level.  (map)

Update #1: looking at the map (which is for the population with < 200% poverty line income), there is lots of detail that is non-obvious.  First, there are good and bad states that aren't what you'd expect given their region.  All of New England is good, but NY is bad, especially downstate, but also update (and compare it to the improvement you get when you cross the border to equally depressed upstate Pennsylvania).  New Jersey is bad also.  Alabama and Tennessee are good.  Colorado is bad and Utah is good (well, maybe that's not surprising).  Urban areas are generally worse than rural areas, see for instance Virginia.  Some of this -- how much? -- is simply where recent immigration is, most of it hispanic, see the urban/rural differences and the states: Texas, Florida, New Mexico, California (including the distribution with these states). The midwest does well in part since recent hispanic immigration didn't go there (is this even true?). And again, what is the deal with Alabama? 

Update #2: Jody comments:

There are a ton of Latino immigrants in the upper Midwest now. In a lot of those highly-insured Minnesota counties, the biggest employers are the schools and the county governments. That's a pretty reliable route into insurance. (Also Minnesota has had a robust insurance program for low-income children since the 1980s.)

Yes, there has been a large influx of hispanic immigrants into the Midwest by past standards for that region, but Minnesota isn't a state that has received a lot of this immigration.  States with high hispanic populations in the Midwest are Kansas with 8.9% and Nebraska with 7.5%.  Minnesota is 4.0%, compared to a national figure of 15%.  Connecticut is 11.7%, NY 16.1%.   And then there are places like North Dakota with 1.4% or Maine with 1%. 

My point is that Minnesota still has a small hispanic population.

Going further, I think the high fraction of uninsured recent hispanic immigrants does shape the politics of this issue, see the starting quote of this post.  In some places this is a 'us vs. them' issue, see the infamous 'you lie' outburst thy Rep. Wilson.  

A quick google got me these two figures. It would be interesting to know what these figures look like once one accounts for age, income, occupation, industry, job tenure etc.  I'm surprised that hispanics do so much worse than blacks.  Is it higher public employment by blacks, while hispanics are in traditional non-public industries (agriculture, construction, service work).  And this incidence of non-insured statues does, I think, help explain some of the politics here, at least the Republican opposition. 

There's also a very steep gradient in insurance status by citizenship: 12.9% of native born citizens are not insured, 18.% of naturalized citizens, and 44.7% of non-citizens. 

The Decline of Jewish Delis

From a thread on the topic at Volokh:

I attribute the decline of the Jewish deli in part to Jews becoming much more cosmopolitan, but also to the growing stringency among the Orthodox regarding Kashrut. The best Jewish delis, IMHO, were kosher. But now few non-Orthodox Jews care about kashrut, and the Orthodox, who could be a core customer group, insist that the place be closed on the Sabbath, Jewish holidays, and have a full-time kashrut supervisor (mashgiach), all of which drastically raise the cost of doing business, and indeed make it impossible to remotely compete price-wise with non-kosher businesses.

State Tax Revenue Volatility

I am puzzled by the the state tax revenue volatility of the last 10 years.  With the census department's figures for 2009 Q2 out this week, I see a report in the WSJ:  Falling Tax Revenues Slam States.

 

How does a 17% decline in state tax revenues happen Q2 2008 to Q2 2009?  GDP didn't go down 17% -- that decline is around 2.6% for nominal GDP and 3.3% for real GDP.   State taxes are not very progressive and should not be this volatile, and the federal tax system with its more progressive tax structure has less volatile revenues (see...to be filled in).  Even state income tax and sales tax revenues are down a lot more than GDP, and these taxes are close to linear in most states (though not the income tax for NY -- how about California?):

The biggest drop among major revenue sources was in state income taxes, which were down 28% from a year ago. Sales-tax revenues fell 9%.  .... Eleven states -- including California, New York and Wisconsin -- saw personal income taxes fall more than 30%.

As can be seen from the graph, this puzzlingly high volatility in a relatively new phenomena, with the first year to year decline in state tax revenues during the mild 2001 recession.   What is going on?  People always talk about the outmoded state revenue systems -- see for instance the recent commission report suggesting a state level VAT in California -- , but how are they generating this time series? I've heard a lot of handwaving about this, but none of it seems to explain the magnitude or the recent amplification of the effect. 

My wild guess here is that businesses are withholding income taxes on their employees, but failing to pass them to the states in a timely fashion, using the credit extension this provides to finance operations.  Firms do this since a) this is now cheaper financing than what financial markets provide, if you can borrow at all, b) state revenue authorities are more lenient about late payments in recessions.  I have been a bit shocked to learn recently how much discretion businesses have here.  But I cannot see that effect being so large either.  But it must be something like this, with accounting efforts affecting the timing of tax liabilities or payments. 

Stanford Macro

These macro papers look interesting...and I don't say that too often about macro papers anymore.  The first paper is older, i.e. actually published this year. 

Nicholas Bloom, The Impact of Uncertainty Shocks

Uncertainty appears to jump up after major shocks like the Cuban Missile crisis, the assassination of JFK, the OPEC I oil-price shock, and the 9/11 terrorist attacks. This paper offers a structural framework to analyze the impact of these uncertainty shocks. I build a model with a time-varying second moment, which is numerically solved and estimated using firm-level data. The parameterized model is then used to simulate a macro uncertainty shock, which produces a rapid drop and rebound in aggregate output and employment. This occurs because higher uncertainty causes firms to temporarily pause their investment and hiring. Productivity growth also falls because this pause in activity freezes reallocation across units. In the medium term the increased volatility from the shock induces an overshoot in output, employment, and productivity. Thus, uncertainty shocks generate short sharp recessions and recoveries. This simulated impact of an uncertainty shock is compared to vector autoregression estimations on actual data, showing a good match in both magnitude and timing. The paper also jointly estimates labor and capital adjustment costs (both convex and nonconvex). Ignoring capital adjustment costs is shown to lead to substantial bias, while ignoring labor adjustment costs does not.

Nicholas Bloom, Max Floetotto and Nir Jaimovich, Really Uncertain Business Cycles

We propose uncertainty shocks as a new impulse driving business cycles. First, we demonstrate that uncertainty, measured by a number of proxies is strongly countercyclical. Second, we build a dynamic stochastic general equilibrium model that extends the benchmark neoclassical growth model along two dimensions. It allows for the existence of heterogeneous …firms with non-convex adjustment costs in both capital and labor and time-variation in uncertainty that is modeled as a change in the variance of innovations to productivity. We …nd that increases in uncertainty lead to large drops in economic activity. This occurs because a rise in uncertainty makes …firms cautious, leading them to pause hiring and investment. It also reduces the reallocation of capital and labor across fi…rms, leading to large falls in productivity growth. Finally, we show that because uncertainty makes …firms cautious it signi…ficantly reduces the response of the economy to stimulative policy, leading to pro-cyclical policy multipliers. 

Jaimovich, Eichenbaum, Rebelo, Reference Prices and Nominal Rigidities also looks good, but the pdf won't let me cut and past the abstract.

The Changing Nature of Boom Bust Cycles

From the New Yorker's profile of Obama's economic team:

In the fall of 2007, his Financial Times columns took on a more urgent tone, starting with a piece on November 25th, titled “Wake Up to the Dangers of a Deepening Crisis.” There had been at least six major financial crises that affected the United States over the past twenty years: the 1987 stock-market crash, the 1990 savings-and-loan crisis, the Mexican-peso crisis, the East Asian economic crisis, the failure of Long Term Capital Management, and the tech-bubble crash. Summers had a theory that tied them together: whereas for many decades most recessions were caused by the Federal Reserve’s attempts to curb inflation, the Fed’s recent mastery of keeping inflation in check had given rise to the financial crisis. Summers explained that, just as the success in curing infectious disease will allow some people to live longer only to die of cancer, the success in battling inflation will prolong an economic expansion only to lead to overconfidence and a financial crisis.

People have been saying this a lot...but...more later...

Human Development Index

This year's human development report is out.  I've never paid much attention to the human development index since it is a aggregate of more interesting subindexes and though I like understanding the factor structure of the underlying subindices, nobody seem to discuss this in the HDR media rumble. 

In any case, how did the US make #13 in the word?  Is that a new development?  Measurement problems with high school dropouts?  No crime statistics?  What happened?  Germany is #22, which I assume is at least in part due to East Germany.  What would West Germany by itself be?  Having the UK ahead of Germany is scary -- though the UK seems to have improved at lot in the last two decades.  Germany should be competing with France (#8) and the Netherlands (#6), not the UK (#21) and Greece (#25). Not sure what fraction of this is due to reunification. 

Low formal schooling enrollment is probably Germany's largest issue in these statistics, #37 in the world. 

Consumer Electronics Penetration

I've been annoyed by the lack of public data on the market penetration of consumer electronics.  Who actually owns this stuff?  I've looked for reporting on this topic, but I've not found much.

Today I came across this report on one marketing survey for the US.  Conditional on owning a computer, it reports household ownership of

1. iPod Touch
2. iPod
3. Digital SLR
4. Flash Camcorder
5. 50+ inch (LCD only??) TV
6. GPS Navigation

See if you can guess the numbers. Obviously it would be nice to know more, especially repeat buying, cross tabs on household characteristics and demand elasticities by product characteristic and price. 

Price Flexibility

When I put a product in my Amazon.com cart I get messages about price changes for items already in my cart (most in the 'buy later' section).  The messages for the most part look like this:

Please note that the price of Garmin nüMaps Lifetime North America Map Updates for North America has decreased from $93.29 to $93.21 since you placed it in your Shopping Cart. Items in your cart will always reflect the most recent price displayed on their product detail pages.

In other words, they are just using the price change notification to remind you to buy the product.  This contrasts with one of my favorite theories of price stickiness -- which finds little reflection in the literature --: firms avoid price changes, even price decreases, since they induce search by existing customers who then may find better deals elsewhere.  Though you can have it both ways, since I think no customer would take a 8 cent price change on a $92 item to mean anything has happened in the market that justifies redoing the search that got that item in one's shopping cart in the first place.

On the other hand, now that price changes have zero physical marginal cost, there are real possibilities for sneaking in larger price changes over time, as the cumulation of many small price changes that in themselves don't induce much search by customers.  Which gets one back to the issue of the cognitive and memory capacities of customers: do they notice price changes and where do their beliefs for what is a good deal come from?

Another question: how will the proliferation of smart phones with web browsers change pricing at brick and mortar stores?  In many categories (electronics, cameras) one cannot buy anything at a brick and mortar store since one on average pays much more there and impulse buys are just going to be bad deals unless one can check the best online price first.  But if one can actually do that it might occasionally be worth buying something in a store.  Which should induce stores to price more aggressively, at least for some products.    

Employment with Annual Benchmark Revision

via CR, employment losses with the annual benchmark revision discussed in the post below. 

Today's BLS Release

The September BLS numbers came out today.  Just the standard and not so standards graphs:

1) from CR -- note that this graph doesn't yet seem to incorporate the revision discussed below, those pull employment down another 0.6% [Update: see post above]:

2) via Felix Salmon, hours worked per working age adult (link):

3) Finally, a big downward revision in employment for the year ending March 2009, as fewer new firms were created than expected.  The WSJ writes:

Total U.S. nonfarm employment as of March was probably lower by 824,000 than previously thought, or about six-tenths of a percent, the Bureau of Labor Statistics said Friday, reflecting the unusual severity of job losses during the first quarter.

“Most of the additional job loss… appears to be due to in part to an increase in the number of business closings,” said BLS Commissioner Keith Hall in a statement.

The findings come from preliminary benchmark revisions released Friday along with the monthly employment report, which will be finalized and published on Feb. 5 of next year. The annual revisions, based on unemployment insurance tax reports, give a more accurate view of the labor market than the government’s monthly surveys.

The benchmark revisions are typically small, raising or lowering employment levels by around two-tenths of a percent. But not this time.

The BLS’s birth/death model underestimated just how many businesses were folding — particularly during the January through March quarter — as the recession worsened.

Economists had been bracing for a downward revision, but not necessarily one of this magnitude, which means the U.S. has likely shed more than 8 million jobs since December 2007. For example, in a note Thursday, Goldman Sachs economist Ed McKelvey said he expected the revision to be “on the order of -150,000 to -200,000.”

“It’s a huge number, much more than usual,” said Nigel Gault, chief U.S. economist at IHS Global Insight. The government’s models “tend to assume dying firms get replaced, but that didn’t happen.”

Using Monetary Policy as a 2nd Best Approach to Bank Regulation

I liked this comment by DeLong -- interesting idea:

A central bank staffer writes:

I enjoyed your macro lecture on recent macro thought. I suppose on this typology I have evolved from a Greenspanist with Producerist sympathies to a Producerist with vestigial Greenspanist sympathies. But there's a possibility you pass over. If effective regulation won't be forthcoming--whether due to regulatory capture or because financial innovation has outpaced the political system's willingness to extend regulators' reach--the central bank might have to tighten into the bubble. I call that Second-Best Punchbowlism...

This seems to me to be exactly right.

It is, I think, dead-on as an estimate of what is likely to happen. Central banks would prefer an effective system of regulation, but due to capture of legislatures by the banking sector they are unlikely to get it. Thus they are going to be driven to be always wondering whether they should be putting extra downward pressure on asset prices--with implications for employment and possibly growth.

The fact that "Punchbowlism" can be implemented by central banks by themselves makes it the default option.

There is also the issue that it is harder to push monetary expansion hard to counter deflationary tendencies if you believer -- correctly or not -- that this leads to financial bubbles that blow up with lots of damage down the road. 

A central bank staffer writes:

I enjoyed your macro lecture on recent macro thought. I suppose on this typology I have evolved from a Greenspanist with Producerist sympathies to a Producerist with vestigial Greenspanist sympathies. But there's a possibility you pass over. If effective regulation won't be forthcoming--whether due to regulatory capture or because financial innovation has outpaced the political system's willingness to extend regulators' reach--the central bank might have to tighten into the bubble. I call that Second-Best Punchbowlism...

This seems to me to be exactly right.

It is, I think, dead-on as an estimate of what is likely to happen. Central banks would prefer an effective system of regulation, but due to capture of legislatures by the banking sector they are unlikely to get it. Thus they are going to be driven to be always wondering whether they should be putting extra downward pressure on asset prices--with implications for employment and possibly growth.

The fact that "Punchbowlism" can be implemented by central banks by themselves makes it the default option.

Evaluating Consumption Choices

Joe Weisenthal writes:

But really, which is the tax on the stupid, the lottery ticket or the can of Coke? Most people reflexively say the lottery ticket, as WSJ numbers guy Carl Bialik reminds us today. But consider. In the first scenario, you're out $1, in exchange you get a brief chance to fantasize, and the very remote chance of getting rich, plus a little tension while they pull the numbers.

In the second scenario, you're out $1, you get a brief sugar high, followed by a crash, followed by tooth decay, sugar addiction, and then obesity, if you make a habit out of it. Clearly the Coke is worse in every way. If someone asked you whether they should buy a lotto ticket every day, or a Coke every day, you'd have to suggest the lotto ticket. Its superiority isn't even in doubt.

Probably the reason people freak out over the lotto ticket is because the presence of math seems to make the analysis very clear, and they're thinking about it strictly as an investment, and since there are so obviously better investments to make, the lottery ticket is dumb.

But for one thing, lottery ticket buyers probably aren't thinking of them as investments, and really, regardless of how they view them, the fact is there are a lot dumber things you can do with $1, including buying a can full of sugar water. That's the real tax on the stupid.

Economic Crisis 3.0

More shoes are dropping -- this might finally push me over the edge.  The FT reports

Cocoa prices hit a 24-year high on Monday amid forecasts that consumption will outpace production in the crop year starting next month, raising fears that the cocoa market is entering its worst period of shortages in 40 years. ...

The bullish market has its root in Ivory Coast, which delivers 40 per cent of the world’s cocoa.

After a poor harvest this season, traders fear that the country’s ageing trees will deliver an even smaller crop in 2009-10, in spite of favourable weather. Traders also said the El Niño weather phenomenon could hit supplies from Indonesia, the world’s third-largest producer, and Ecuador, the seventh-largest.

Meanwhile, cocoa demand is set to recover, growing between 1.5 and 3 per cent in 2009-10 after falling 6 per cent this season, creating a market deficit for the fourth season in a row, the most prolonged since the 1965-1969 shortages period.

“Chocoholics will be disappointed to hear that the long-run cocoa bull run remains intact,” said Luke Chandler, head of agribusiness research at Rabobank in London.

This bullish sentiment has filtered beyond the usual operators, bringing speculative investors to what is usually a dull market handled by merchant and trading houses.

In London, the benchmark second front-month price on Monday rose to an intra-day high of £2,055 ($3,334) a tonne, the highest since early 1985.

Traders worry that falling output in Ivory Coast will leave a lasting market deficit. Ivorian small farmers – among the world’s most heavily taxed growers – have neither money nor in­centives to buy fertiliser or replant to increase output.

Cocoa buyers such as Nestlé are so worried that they have launched programmes to replant trees in a desperate effort to avoid a long-term decline in output.

Ivory Coast production “could fall by more than 100,000 tonnes in 2010 after a fall of about 200,000 tonnes in 2008-09”, the French embassy in the country warned this month.

Which Women work and the Gender Pay Gap

The NYT article about increasing high wage female labor force participation during this recession I posted about yesterday reminded me of two recent papers:

CASEY B. MULLIGAN AND YONA RUBINSTEIN, SELECTION, INVESTMENT, AND WOMEN’S RELATIVE WAGES OVER TIME

In theory, growing wage inequality within gender should cause women to invest more in their market productivity and should differentially pull able women into the workforce. Our paper uses Heckman’s two-step estimator and identification at infinity on repeated Current Population Survey cross sections to calculate relative wage series for women since 1970 that hold constant the composition of skills. We find that selection into the female full-time full-year workforce shifted from negative in the 1970s to positive in the 1990s, and that the majority of the apparent narrowing of the gender wage gap reflects changes in female workforce composition. We find the same types of composition changes by measuring husbands’ wages and National Longitudinal Survey IQ data as proxies for unobserved skills. Our findings help to explain why growing wage equality between genders coincided with growing inequality within gender.

Claudia Olivetti and Barbara Petrongolo Unequal pay or unequal employment? A cross-country analysis of gender gaps

Gender wage and employment gaps are negatively correlated across countries. We argue that non-random selection of women into work explains an important part of such correlation and thus of the observed variation in wage gaps. The idea is that, if women who are employed tend to have relatively high-wage characteristics, low female employment rates may become consistent with low gender wage gaps simply because low-wage women would not feature in the observed wage distribution. We explore this idea across the US and EU countries estimating gender gaps in potential wages. We recover information on wages for those not in work in a given year using alternative imputation techniques. Imputation is based on (i) wage observations from other waves in the sample, (ii) observable characteristics of the nonemployed and (iii) a statistical repeated-sampling model. We then estimate median wage gaps on the resulting imputed wage distributions, simply requiring assumptions on the position of the imputed wage observations with respect to the median, but not on their level. We obtain higher median wage gaps on imputed rather than actual wage distributions for most countries in the sample. However, this difference is small in the US, the UK and most central and northern EU countries, and becomes sizeable in Ireland, France and southern EU, all countries in which gender employment gaps are high. In particular, correction for employment selection explains more than a half of the observed correlation between wage and employment gaps.

Residency Fraud in Public School Enrollment

Back in the New Haven suburbs the NHR reports -- one issue untouched in the reporting is how much of this occurs and the extent to which these rules are enforced in a discretionary manner:

Police have arrested a New Haven man and an Orange woman who allegedly conspired to illegally send two children to Amity Regional High School, and officials are hoping to recoup nearly $76,000 in tuition.

Superintendent of Schools John Brady said this is the first time in his educational career he has had to refer a residency matter to police, but because the students received an education illegally for six years, he had no choice.

“It’s a theft of service,” Brady said. “One can empathize with families seeking the best quality of education. We have an obligation to ensure taxpayer money is being spent on educating students who live in our towns.”

Brady said he hopes a judge will require the suspects to pay back taxpayers of Orange, Woodbridge and Bethany who collectively fund the Amity school system.

Police Sgt. Frank Cappiello said Wednesday police arrested Lura Godenciuc, 51, of 569 George St., New Haven, and Mary Antonyshyn, 75, of 944 Rainbow Trail, Orange, on larceny charges.

Police said the investigation began in June when Brady received information concerning two possible residence violations and notified police. An investigation conducted by police and school personnel confirmed that two students, who are brothers, had been attending Amity Regional High School in Woodbridge, and Godenciuc allegedly had falsely reported to school officials that the brothers lived in Orange.

One of the students graduated in June after attending all four years, while the other student attended the past two years, police said. Police and school officials declined to state the relationship between Godenciuc and Antonyshyn. Brady said an anonymous phone call sparked the investigation.

Police and school officials said they determined educating the two students over six years cost the district $75,990.

Consumer Electronics Proliferation

The NYT writes:

The proliferation of personal computers, iPods, cellphones, game consoles and all the rest amounts to the fastest-growing source of power demand in the world. Americans now have about 25 consumer electronic products in every household, compared with just three in 1980.

Worldwide, consumer electronics now represent 15 percent of household power demand, and that is expected to triple over the next two decades, according to the International Energy Agency.

I want the data behind this claim, I want to see which consumer electronics devices have gone from an average of three per household to an average of 20 per household.  Three seems very low for 1980: one TV, one radio, one phone?  Or do phones not count?  Even in 1980 many people had more than on TV and one radio.  Multiple tape decks were also pretty standard.  The household I grew up in probably had five or so radios, including a semi-large stereo.  Ah, here is the IEA report, but not publicly posted.  Why? 

Indeed, I think we should end up getting a semi-large stereo in the near future. 

Increased Upper income female labor force participation?

The NYT writes:

The Great Recession is pushing many highly educated women who had left work to stay at home with their children to dive back into the labor pool, according to several nationally recognized experts on women in the workplace.  ...

“What’s happened is 78 percent of the people who lost their jobs in the recession are men,” said Joan Williams, director of the Center for WorkLife Law at the University of California Hastings College of Law in San Francisco. “That has brought home to many families that having one income places you in a very vulnerable position. Some women who expected to take a long time out of the work force suddenly felt they needed to re-enter, in some cases much more quickly than they expected.”

The federal Bureau of Labor Statistics found preliminary evidence of affluent women returning to the labor force. When it comes to women with a college education who are 25 to 44 years old and living with a spouse, the proportion of those working or looking for work increased to 78.4 percent in the first half of 2009, from 76 percent in the first half of 2007. Economists say this is surprising because the percentage of people in the work force usually drops as unemployed workers grow discouraged and stop looking for work in a recession.

Over the same period, the proportion of men of the same age and circumstance inched down, falling from 97.4 percent to 97.1 percent. [typo?  I don't think it is 98.1% for college+ educated men 25-44 years old, but I'd need to check -- we do need the stay at home fathers and disabled]

Juhn and Potter cite a participation rate for 2005 of 95.7% for 25-54 year old white males with college.  Not clear if the age gradient is that strong or if labor force participation picked up much since 2005.  It was above 97% back in the 1970s. Ah, the graph in the NYT article shows a labor force participation rate closer to 91.5%. Somebody reading a 1 as a 7.   

I sort of suspect that sample errors in the CPS are going to make estimates of female labor force participation for highly educated prime age women pretty noisy, especially for the high income ones the NYT focuses on (not all college educated women are high income earners).  Again, time to do my own CPS extracts. The payroll survey with its larger sample size might be more useful though...

'Unemployment in California at 12%, Highest in Nearly 70 Years'

The top NYT headline right now.  Specifically 12.2%, so California has now caught up with Oregon, also now 12.2%.  Virginia, where I am now, is 6.5%, Connecticut 8.1%.  It is a different world over there on the West Coast.   I'd guess that Oregon has be higher than 12.2% more recently than 70 years ago.

Update #1: well, 12.2% is higher than any time since 1976 for Oregon, and I can't find data further back than that.  Hm, press accounts say at 12.2% Oregon unemployment is higher than anytime since 1945.  

Update #2: when I calculate the OR unemployment rate from the Aug. CPS file, I get 11.35%.  But I think I'm using the wrong weights, person per household, since total weight adds up to 301.68 million.  First time I've actually done this, good to get it coded, this way I can actually look at this classic data.  Not going to try to other weights now.  Code sheet is here.  I'm using the PWSSWGT weights:

FINAL WEIGHT    613 - 622
   (4 IMPLIED DECIMAL PLACES)
   USED FOR MOST TABULATIONS, CONTROLLED TO 
   INDEPENDENT ESTIMATES FOR 1) STATES; 2) ORIGIN, SEX, 
   AND AGE; AND 3) AGE, RACE, AND SEX.

Might be something else as well.  Ah, I think it is the age cutoff.  I need to restrict to people 16 years or older...or something like that.  Again, not sure how the weighting actually works here...where's the code book? 

Dysfunctional Behavior by the Poor

Chris Blattman looks at a theory paper by Abhijit Banerjee and Sendhil Mullainathan:

Abhijit Banerjee presented a new paper here yesterday, written with MIT colleague Sendhil Mullainathan. They look at a number of seemingly unusual behaviors by the very poor–from exorbitant rates of short-term borrowing to the low take-up of small, high-return investments. Impatience cannot explain the patterns, they say. The impatience approach also requires the poor think differently than the rest of the population.

Another view: we’re all impulsive and impatient in the same way, but over a narrow range of goods that are quickly and cheaply satisfied. If you’re poor, these temptations are a big fraction of your income. If you’re even somewhat wealthy, they are not. Temptations are declining in income.

Who pays for health care?

Drum writes:

Still, I'd like to highlight this comment from James Kwak:

One reason the Baucus bill is “cheaper” than the House bill is that it has lower subsidies. For illustration, let’s assume that the whole $140 billion difference is due to lower subsidies. Relative to the House bill, then, the Baucus bill costs the government $140 billion less; but it costs middle-income people exactly $140 billion more, since they have to buy health insurance. The difference is that in the House bill, the money comes from taxes on the very rich; in the Baucus bill, it comes out of their own pockets. Put another way, the Baucus bill is the House bill, plus a $140 billion tax on people making around $40-80,000 per year. That’s not only stupid policy; it’s stupid politics.

Can't argue with that.  As regular readers know, I'm more concerned with subsidy levels than I am with the public option.  This is why.  The public option is a good thing, but even in the best case it's available to only a small number of people and will likely have only a modest impact on the cost of health insurance.  Subsidy levels, conversely, affect lots of people and have a significant impact on the cost of health insurance.  According to CBPP, for example, a family making $45,000 would have to pay annual premiums of $4,800 under the Baucus plan, compared to $3,600 under the House plan or $2,500 under the Senate HELP plan.  That's a pretty big difference.

So: adopt the the Baucus version of subsidies and when 2013 rolls around you'll have lots of pissed off middle income families desperately trying to scrape up an extra five grand each year.  Adopt the HELP version of subsidies instead and these registered voters families will mostly think they're getting a pretty good deal.  And to fund it, all you have to do is raise taxes on, say, Wall Street bankers.  What's not to like?

See also the WSJ on the lower middle class squeeze in Massachusetts after health reform.  

I have no comments right now, since the comments above raise quite a few questions that would take quite long to address even superficially...again, better analysis and data would be helpful. But I do want to mention that it is my impression that in Germany redistribution in health care financing is from the middle class to the lower classes, with upper middle class and above households contributing little, something that is built into the institutional structure of the system.  But I need to look into it more...

The Public Plan

More theoretical and empirical analysis, or just a look at some relevant data, would be very very useful in understanding the public vs. no public plan health care debate debate.  

The whole thing reminded me of some academic work on insurance deregulation in Europe last decade.  In particular:

Stefan Felder, Fire insurance in Germany: A comparison of price-performance between state monopolies and competitive regions

Up until 1994 there were two different forms of organizing the fire insurance market in Germany. While a state monopoly applied in 13 regions, a competitive market system combined with government regulation existed in the rest of the country. This study identifies the effects of market forms on the price-performance of insurance companies. It is based on annual company data including premium revenues, damage payments and general expenses for the period 1980–1994. The estimation results indicate that monopolies had a 22 percent lower markup on damage payments compared to companies in competitive regions with an average markup of 42 percent. The difference may be explained by higher selling costs for companies in competitive markets, indicated by a high share of commissions in total expenses.

Karl Epple and Reinhard Schäfer, The transition from monopoly to competition: The case of housing insurance in Baden-Württemberg

In 1992 the European Community decided to abolish the housing insurance monopolies in Germany. In Baden-Württemberg this has led to the end of an institution that was more than two centuries old. The purpose of the paper is to analyse the (very negative) consequences this step has had for consumers. Particular emphasis is placed on two points:

1. (a) the important increase in prices due to the additional costs imposed by competition and

2. (b) the difficulty of maintaining the global coverage against natural damages, that was one of the hallmarks of the monopoly situation.

Thomas von Ungern-Sternberg, The limits of competition: Housing insurance in Switzerland

In Switzerland there are seven cantons where the housing insurance market is competitive, while in the 19 others there are local state monopolies. This paper compares the price/performance relationship of these different market forms. It is shown that for a very similar product the state monopolies charge 70% lower prices, that they spend substantially more on fire prevention, and that they have much lower damage rates. One of the main reasons for the higher prices of the private insurance companies is the fact that they spend considerably more on sales and administrative costs. The housing insurance market is thus a classic example of a situation where state monopoly outperforms private sector competition.

Debit Card Overdraft Fees

This has been floating around as a highly visible topic since earlier this year, but I still have to wrap my mind around it:

This year alone, banks are expected to bring in $27 billion by covering overdrafts on checking accounts, typically on debit card purchases or checks that exceed a customer’s balance. (NYT)

One issue here is the incidence of these fees...it's not like every household is paying them.  This is $240 per household per year.  With 1/3 of the households paying that is $720 per household hit.  Median household income is somewhere just over $50,000, so that is 1.4% of all income. Moreover, this is going to hit mostly below median household income households. 

My wife got hit by one bounced check fee two years ago, but that's it for us in 20 years.  Okay, my wife may have had two or even three in 20 years, in part since she puts off asking me for money and writes checks only very occasionally.  

I've never had a debit card, nor has my wife.  I cannot see any reason people have them since the legal protections one has with a debit card are much worse than with a credit card, and one's possession over one's bank account is also put in danger.  Indeed, the very invention and marketing of debit cards by banks seems in part driven by the attempt to get around credit card consumer protection rules.  Yet another case of financial innovation for the purpose of regulatory arbitrage.  The other motivation is, I think, related to how the struggle for interchange fees plays out in the complicated world of interbank bargaining.

Update #1: actually I've seen higher numbers than $27 billion and the graph in the NYT story above seems to show something closer to $37 billion.  One issue here is that banks have somewhat worrisome incentives if they make most of their consumer business profits from taking the money of confused or desperate customers -- banks will stop paying attention to normal customers and only care about retaining them to the extent they are likely to turn into confused or desperate customers you can hit for overdraft fees. On the other hand, at least some of the customer recruitment efforts banks make, free checking for instance, is driven by the prospect of future overdraft fees, so I end up getting low cost bank services. 

Also seems like an inherently unstable business model, unstable on several fronts: regulatory reform, customers wising up or escaping to other payment mechanisms.  This should create customer base burn out, but who knows? Maybe a sufficiently large fraction of customers just keep paying.  What does the data say on that? It also seems to violate standard social norms of reciprocity that are needed to keep even pretty arms length business relationships functional. 

Or the reporting is terrible and most of those overdraft fees are not for debit cards.  But I doubt that the magnitudes are off since the story has been around for months now. 

The Unequal Geographic Burden of Federal Taxation

Since I'm moving to an even higher wage and higher cost location, I though I'd mention this. The point -- despite what the title of the article may imply -- isn't that redistribution from higher income to lower income persons is bad, but that who is higher income in real terms is mismeasured by the US tax system and that this mismeasurement has efficiency costs. Do other countries do better on this dimension?

David Albouy, The Unequal Geographic Burden of Federal Taxation

In the United States, workers in cities offering above‐average wages—cities with high productivity, low quality of life, or inefficient housing sectors—pay 27 percent more in federal taxes than otherwise identical workers in cities offering below‐average wages. According to simulation results, taxes lower long‐run employment levels in high‐wage areas by 13 percent and land and housing prices by 21 and 5 percent, causing locational inefficiencies costing 0.23 percent of income, or $28 billion in 2008. Employment is shifted from north to south and from urban to rural areas. Tax deductions index taxes partially to local cost of living, improving locational efficiency.

Fiscal Policy Transparency

Eric Leeper has a new paper out, more a thought piece:  Anchoring Fiscal Expectations.

In this lecture, I argue that there are remarkable parallels between how monetary and fiscal policies operate on the macro economy and that these parallels are sufficient to lead us to think about transforming fiscal policy and fiscal institutions as many countries have transformed monetary policy and monetary institutions. Making fiscal transparency comparable to monetary transparency requires fiscal authorities to discuss future possible fiscal policies explicitly. Enhanced fiscal transparency can help anchor expectations of fiscal policy and make fiscal actions more predictable and effective. As advanced economies move into a prolonged period of heightened fiscal activity, anchoring fiscal expectations will become an increasingly urgent need.

I like Leeper's work.  For a taste, look just at second paragraph of the paper:

Still more remarkable is that this transformation occurred in the absence of any real evidence that transparency of monetary policy and improved communication by central banks actually matter for the performance of the economy. Two conditions drove the move toward greater transparency. First, a professional consensus emerged that inflation is a monetary phenomenon and that inflation control is the appropriate purview of the central bank. Second, and perhaps more important, a political consensus developed that low and stable inflation is desirable because inflation fluctuations redistribute wealth in capricious ways [Faust and Henderson (2004)].

Which reminds me that I have an unpublished paper that looks at the optimal trade-off of short run-monetary stabilization policy and long-run redistribution of wealth from the same policy.  I think these channels of monetary policy don't get enough attention in the literature. 

Health Insurance

via Krugman, a nice post at Taunter on non-group health insurance. 

from Don Hamm’s (CEO of Assurant) prepared [Congressional] testimony, with the company logo nicely on the front of it in the original:

"Rescission is rare. It affects less than one-half of one percent of people we cover. Yet, it is one of many protections supporting the affordability and viability of individual health insurance in the United States under our current system." ...

Half of the insured population uses virtually no health care at all.  The 80th percentile uses only $3,000 (2002 dollars, adjust a bit up for today).  You have to hit the 95th percentile to get anywhere interesting, and even there you have only $11,487 in costs.  It’s the 99th percentile, the people with over $35,000 of medical costs, who represent fully 22% of the entire nation’s medical costs.  These people have chronic, expensive conditions.  They are, to use a technical term, sick.

An individual adult insurance plan is roughly $7,000 (varies dramatically by age and somewhat by sex and location).

It should be fairly clear that the people who do not file insurance claims do not face rescission.  The insurance companies will happily deposit their checks.  Indeed, even for someone in the 95th percentile, it doesn’t make a lot of sense for the insurance company to take the nuclear option of blowing up the policy.  $11,487 in claims is less than two years’ premium; less than one if the individual has family coverage in the $12,000 price range.  But that top one percent, the folks responsible for more than $35,000 of costs – sometimes far, far more – well there, ladies and gentlemen, is where the money comes in.  Once an insurance company knows that Sally has breast cancer, it has already seen the goat; it knows it wants nothing to do with Sally.

If the top 5% is the absolute largest population for whom rescission would make sense, the probability of having your policy cancelled given that you have filed a claim is fully 10% (0.5% rescission/5.0% of the population).  If you take the LA Times estimate that $300mm was saved by abrogating 20,000 policies in California ($15,000/policy), you are somewhere in the 15% zone, depending on the convexity of the top section of population.  If, as I suspect, rescission is targeted toward the truly bankrupting cases – the top 1%, the folks with over $35,000 of annual claims who could never be profitable for the carrier – then the probability of having your policy torn up given a massively expensive condition is pushing 50%. One in two.  You have three times better odds playing Russian Roulette.

Krugman adds(though it isn't clear to me what the mix of group and individual policies is for Assurant)

I’d add that rescissions must be concentrated in the individual insurance market, since group coverage is, by law, not contingent on medical history. And the individual market is a small fraction of the total; again, this must mean that the phenomenon of insurers pulling your coverage when you get sick must be quite important indeed.

Incentives and Behavior of Mortgage Servicers

The NYT has an article on incentives and the behavior of mortgage servicers which reminds me that I ought to know more about this topic.  One question is where the existing contracting arrangements come from and how they can be modified or renegotiated. 

Even when borrowers stop paying, mortgage companies that service the loans collect fees out of the proceeds when homes are ultimately sold in foreclosure. So the longer borrowers remain delinquent, the greater the opportunities for these mortgage companies to extract revenue — fees for insurance, appraisals, title searches and legal services.

“It frustrates me when I see the government looking to the servicer for the solution, because it will never ever happen,” said Margery Golant, a Florida lawyer who defends homeowners against foreclosure and who worked in the law department of a major mortgage company, Ocwen Financial. “I don’t think they’re motivated to do modifications at all. They keep hitting the loan all the way through for junk fees. It’s a license to do whatever they want.”  ....

Legal experts say the opportunities for additional revenue in delinquency are considerable, confronting mortgage companies with a conflict between their own financial interest in collecting fees and their responsibility to recoup money for investors who own most mortgages.

“The rules by which servicers are reimbursed for expenses may provide a perverse incentive to foreclose rather than modify,” concluded a recent paper published by the Federal Reserve Bank of Boston. ....

When borrowers fall behind, mortgage companies typically collect late fees reaching 6 percent of the monthly payments.

“For many subprime servicers, late fees alone constitute a significant fraction of their total income and profit,” said Diane E. Thompson, a lawyer for the National Consumer Law Center, in testimony to the Senate Banking Committee this month. “Servicers thus have an incentive to push homeowners into late payments and keep them there: if the loan pays late, the servicer is more likely to profit.”  ...

Mortgage companies not only gain this extra business through their subsidiaries, but also collect reimbursement for the payments when the houses are sold.

The investors who own bad mortgages accept whatever is left. Investors typically do not notice how much they give up to the servicers, because fees are embedded in complex sales.

“It’s under the radar,” Ms. Golant said.

Ultimately, the benefits of delinquency erode incentives for mortgage companies to dispose of troubled loans quickly, say experts, allowing distressed houses to decay and fall in value — a fact of little interest to the servicer.

“At the end of the day, it doesn’t matter what the house sells for, because they don’t take that loss,” said Ms. Golant. “Meanwhile, they are collecting all these fees.”

Infectious Leverage

I've been looking for papers on leverage externalities and not finding too many.  I suspect some are being written though.  Here is one I did find:

Goel, Song, Thakor, Infectious Leverage

This paper develops a theory of "infectious leverage" in financial markets in which the lender's payoff depends heavily on the value of the collateral backing the loan. There are two main results. First, leverage is an "infectious" phenomenon in that high leverage among borrowers also leads to high leverage among lenders. There is thus a multiplicative effect of leverage on the fragility of the financial system. Second, there is an externality in bank leverage in that a bank's exposure to credit risk depends on the leverage decisions of other banks and banks choose privately-optimal leverage ratios that are higher than what is socially optimal. The model has an overlapping generations setting in which banks make one-period mortgage loans in the first period that are secured by collateral, and the analysis solves for the equilibrium in the housing market, so the current house price and the distribution of future house prices are both endogenous. The prices of houses and hence the second-period values of collateral depend on the supply of loans in the second period, which then determines the ability of second-generation borrowers to raise financing to purchase houses in the second period. Thus, if banks are hit with second-period liquidity shocks that diminish aggregate credit availability in the second period, collateral values fall, thereby increasing the bank's credit risk. This creates an interesting interaction between credit and liquidity risks for lenders. Moreover, it leads to the result that an idiosyncratic shock suffered by a subset of banks can become a systematic shock for the whole banking system, and the likelihood of this increases with banks' leverage choices. Although the model is developed in the context of the housing market, we argue that it is applicable in any borrower-lender setting in which collateral values depend on the aggregate availability of credit, and credit risk in turn depends significantly on collateral values. Empirical and policy implications of the analysis are drawn out.

Oregon state tax revenues collapse

via the Rockerfeller Institute of Government, I see that Oregon has tied Georgia for (one of) the worst annual falls in state tax revenues (Q1 2008 to Q2 2009), with 19% and 19.1% falls. Oops, there's Virginia with a 19.9% decline...how can that be?  Alaska's 72% decline makes sense given what the oil price did.  But what is VA doing?

How does entry into this market work?

Ezra Klein writes:

As told to the Wall Street Journal's Laura Meckler:

The battle heated up in June, when [OMB Head] Mr. Orszag visited Capitol Hill to discuss health care with a small group of House Democrats. The meeting started well, with one lawmaker after another echoing his message that spending controls were critical to any health-care overhaul, according to two administration officials.

Then one member said her top priority was winning higher payments for oxygen suppliers, the officials say. Mr. Orszag was taken aback. Officials had been trying for years to cut payments to suppliers of oxygen and other medical equipment, which critics say are inflated. Yet when a new competitive bidding process was set to take effect last year, industry supporters in Congress were able to delay the plan. They are still fighting to block changes.

"One of the reasons we currently have such disjointed and skewed incentives is that we have an excessively political process," Mr. Orszag said in an interview.

Orszag's big idea right now is to depoliticize the process a bit by taking decisions about payment for oxygen out of the hands of individual members of Congress and putting them into the hands of an independent panel of experts modeled off of MedPAC. But note something important about it: It's not an idea meant to solve a particular policy problem. It's meant to solve a particular political problem.

So how does entry (and exit) of firms in the oxygen medical equipment market work?  There must be serious barriers to entry if prices are too high, but what are they?  What is the industrial organization here? 

Manufacturing and Financial Services Employment 1939-2009

Seasonally adjusted data from the BLS's current employment survey. 

Nondurable goods:

Durable goods:

Financial Services -- peak employment is in Dec. 2006, which I do consider the peak of the mortgage boom, at 8.362 million.  Now down by 608,000 to 7.754 million.