Category: Equitablog

How U.S. consumption behavior changes during recessions

Posted on by Nick Bunker

Understanding the marginal propensities to consume of American households is important for economic policymaking, particularly when the U.S. economy slides into recession. Knowing how readily different households will consume an extra dollar of income helps policymakers design programs that could help the economy bounce back more quickly from recessions.

Differences in the marginal propensity to consume among U.S. households is fairly well acknowledged at this point, but their consumption patterns can change over the course of a business cycle. A new study shows how the marginal propensity to consume changes as the economy enters into a recession. The new paper, released as a National Bureau of Economic Research working paper, is by economists Tal Gross of Columbia University, Matthew Notowidigdo of Northwestern University, and Jialan Wang of the University of Illinois at Urban-Champaign. It looks at how a consumer’s propensity to consume changes as the economy goes from expansion to recession.

Specifically, the economists look at the difference in how much individuals who just had their “bankruptcy flag” taken off their credit records consume because of their increased access to credit. All the individuals in their sample had previously filed for bankruptcy and the flag on their credit records were removed after 10 years. The fact that the flag disappeared 10 years after going through bankruptcy lets the authors show that access to credit was sudden and outside the control of the individual.

Perhaps unsurprisingly, Gross, Notowidigdo, and Wang find that marginal propensities to consume were higher for these individuals emerging from bankruptcy during the Great Recession. These individuals’ average marginal propensity to consume was 20 percent to 30 percent higher during that sharp downturn in 2007-2009 than it was for those who had their bankruptcy flag removed during the subsequent recovery up through 2011. Importantly, the three authors show that the higher consumption rate wasn’t due to a change in the kind of people who were having their bankruptcy flag taken off. Instead, it appears to have been due to changes in their access to credit.

There are limitations to this paper. The three economists only look at the changes in marginal propensities to consume among people who just came out of bankruptcy. So these specific results are probably most applicable for individuals with low credit scores. Whether there are such significant variations for wealthier individuals or individuals with higher credits scores is a question for future research.

But if these results hold up and are valid for a larger section of the population then it should inform policymakers’ design of fiscal stimulus measures once a recession hits. Policymakers also should consider this research when setting policy for so called automatic stabilizers, such as unemployment insurance or the Supplemental Nutritional Assistance Program. Higher marginal propensities to consume during recessions may mean that targeted programs could be more effective than previously thought at boosting demand to turn around a slumping economy.

Must-Read: Ruixue Jia (2014): The Legacies of Forced Freedom: China’s Treaty Ports

Posted on by Brad DeLong

Must-Read: Ruixue Jia (2014): The Legacies of Forced Freedom: China’s Treaty Ports:

This paper investigates the long-run development of China’s treaty ports from the mid-eighteenth century until today. Focusing on a sample of prefectures on the coast or on the Yangtze River, I document the dynamic development paths of treaty ports and their neighbors in alternate phases of closedness and openness. I also provide suggestive evidence on migration and sector-wise growth to understand the advantage of treaty ports in the long run.

Must-Read: Mark Thoma: Why We Need a Fiscal Policy Commission

Posted on by Brad DeLong

Must-Read: Mark Thoma looks back and marvels at his naivete with respect to macroeconomic policy:

Mark Thoma: Why We Need a Fiscal Policy Commission:

During the Great Recession, monetary policymakers were aggressive and creative….

I wish they had been even more aggressive…. They were a bit slow to react due to excessive fear of inflation and the tendency to see recovery just around the corner…. [But] monetary policy alone was far from enough…. Fiscal policy was needed too…. Fiscal policymakers let us down….

I was a bit naïve. I would never have guessed that politics would come before helping millions of people. But Republicans were more interested in making sure that Obama would not get credit for anything good that might happen than in helping people struggling to find jobs or suffering other consequences of the economic downturn…. Fiscal policy is too important to be stymied by political gridlock. The next time a big recession hits, we must find a way to bring fiscal policy into play as a viable policy option….

If Congress is too dysfunctional to do the job… it’s time to create a new institution… something along the lines of the Federal Reserve but for fiscal policy. How could such an institution be structured? A politically independent fiscal policy commission would be devoted to providing countercyclical stabilization for the economy…. Oversight of a fiscal policy commission could be provided by a group modeled after the Board of Governors of the Federal Reserve…. It would also be important for the committee to consult regularly with the Federal Reserve….

I understand that there is no chance of this happening in the present political climate. But it’s essential for people to recognize the importance of fiscal policy during deep downturns and the extent to which fiscal policymakers failed us during the Great Recession. If voters don’t hold members of Congress accountable and begin to demand change, the next time a deep recession hits we will once again be without the most effective policy tool we have for putting people back to work.

Retiring in the United States amid low interest rates

Posted on by Ed Paisley

Consistently low interest rates are bedeviling monetary and fiscal policymakers these days, but they are not alone in their frustration. As John Authers and Robin Wigglesworth note in the first in a series of articles published in the Financial Times earlier this week, low interest rates are causing significant problems for pension fund managers and ultimately retirees in the United States.

One way to think about interest rates is that the rate is the price of taking money from the future and accessing it today. A positive, inflation-adjusted interest rate means a dollar now is worth more than a dollar in the future, thus the need to pay a fee to get access to that money in the present. It also means that putting down less than a dollar now can get a full dollar in the future. The higher the rate, the less required to hit a target of a certain amount of dollars in the future.

So when interest rates are low, it’s going to require saving more money in the immediate future to meet a target, such as enough money to provide an adequate standard of living in retirement. That’s one of the issues causing problems for the managers of traditional, employer-provided defined-benefit pension plans and employer-sponsored defined-contribution plans alike. Lower interest rates lead to bonds with lower yields and a lower rate of return on equity investments due to higher current values for stocks.

But interest rates aren’t the only thing that determine how easy it is for an economy to support retirees. There are, as Bloomberg View’s Matt Levine points out, productivity growth and population growth. “If there are more working people than retired people, and if the working people are producing ever more stuff, they can make enough stuff to provide the retired people with a high standard of living,” he writes. The problem today is that both population growth and productivity growth are quite slow in high-income countries including the United States.

These conditions—often referred to collectively as secular stagnation—clearly pose problems for many of the ways that employers currently provide retirement security in the United States. Thankfully, there is one retirement program in the country that would actually be easier to finance during an era of low-interest rates: Social Security.

Must-Reads; August 23, 2016

Posted on by Brad DeLong

Should Reads:

Must-Read: Brad Setser: IMF Cannot Quit Fiscal Consolidation (in Asian Surplus Countries)

Posted on by Brad DeLong

Must-Read: Ummm… Maury… What’s going on in there?

Brad Setser: IMF Cannot Quit Fiscal Consolidation (in Asian Surplus Countries):

In theory, the IMF now wants current account surplus countries to rely more heavily on fiscal stimulus and less on monetary stimulus…

This shift makes sense in a world marked by low interest rates, the risk that surplus countries will export liquidity traps to deficit economies, and concerns about contagious secular stagnation…. In practice, though, the Fund seems to be having trouble actually advocating fiscal expansion in any major economy with a current account surplus. Best I can tell, the Fund is encouraging fiscal consolidation in China, Japan, and the eurozone. These economies have a combined GDP of close to $30 trillion. The Fund, by contrast, is, perhaps, willing to encourage a tiny bit of fiscal expansion in Sweden (though that isn’t obvious from the 2015 staff report) and in Korea—countries with a combined GDP of $2 trillion….

Take the Fund’s advice on Japan. The first consumption take hike—from 5 to 8 percent—didn’t go that well. Consumption never recovered, and the economy lost momentum. But rather than reconsider consumption tax based consolidation, the Fund wants Japan to double down and commit to raise the consumption tax to 15 percent (rather than 10 percent)…. That isn’t exactly a call to use the fiscal arrow to relaunch Japanese demand growth….

Japan is a hard case. It has an unusually high level of public debt. It also has an unusually low interest rate on that debt. And fiscal risks are reduced so long as the stock of debt actually held by the public is falling fast: Think of a 5 percent of GDP fiscal deficit and annual purchases by the Bank of Japan (BoJ) of 15 percent of GDP…. And what of Korea?… There is no real evidence the Fund wants a significant, sustained fiscal loosening in Korea, even though Korea has low government debt, no fiscal deficit to speak of and a $100 billion-plus current account surplus (7-8 percent of Korea’s GDP)….

Bottom line: if the Fund wants fiscal expansion in surplus countries to drive external rebalancing and reduce current account surpluses, it actually has to be willing to encourage major countries with large external surpluses to do fiscal expansion. Finding limited fiscal space in Sweden and perhaps Korea won’t do the trick. 20 or 30 basis points of fiscal expansion in small economies won’t move the global needle. Not if China, Japan, and the eurozone all lack fiscal space and all need to consolidate over time.

Must-Read: Suresh Naidu and Noam Yuchtman: Lessons on inequality, labour markets, and conflict from the Gilded Age

Posted on by Brad DeLong

Must-Read: Suresh Naidu and Noam Yuchtman: Lessons on inequality, labour markets, and conflict from the Gilded Age:

A key feature of successful strikes was the ability of incumbent employees to prevent the use of replacement workers, via persuasion, pickets, or violence…

Given these stakes, it is unsurprising that employees were willing to use physical coercion, when necessary, to try to prevent the hiring of scabs. Employers, too, understood that breaking picket lines was crucial, and they responded to striking workers’ use of force with coercion of their own. This was often accomplished by enlisting the power of the state. Riker (1957) shows that between 1877 and 1892, the modal use of state militia was in response to labour unrest…. Government intervention on the side of employers was supported by the courts, particularly following the adoption of the judicial labour injunction as a legal tool to prohibit strikes….

Looking around today, it is obvious that inequality and conflict over the distribution of wealth and income remain salient a century after the first Gilded Age. History is never a perfect guide, but the late 19th century suggests that even as markets play a greater role in allocating labour, legal and political institutions will continue to shape bargaining power between firms and workers, and thus the division of rents within the firm. What remains to be determined – and battled over – is which institutions are empowered to act, and whose interests they will represent. Regardless, latent labour market conflict seems likely to be a prominent feature of our new Gilded Age.

Must-Read: Dean Baker: Stanley Fischer Rewrites Fed Inflation Target, Prepares to Throw People Out of Work

Posted on by Brad DeLong

Must-Read: Stanley Fischer is off message. The right message for Stanley Fischer to be saying right now is not: “We are close to our targets… within hailing distance…”

Personal consumption expenditures Market based PCE excluding food and energy chain type price index FRED St Louis Fed

The right message is:

  1. We are deeply disappointed in our failure to hit our inflation target over the past five years.
  2. By the end of this year, our failure will have left us with a price level 3% lower than we had committed to trying to attain back at the end of 2010.
  3. That means a 3% higher real debt burden on all those who borrowed than they–trusting us–planned for back in 2010.
  4. That means a 3% windfall for all those who loaned.
  5. In fact, since 1995 we have undershot our cumulative target by 7%.
  6. Thus those who believe that our 2%/year target is not an average but a ceiling have some evidence on their side.
  7. Nevertheless, we regard 2%/year not as a ceiling but as an average going forward.
  8. And we will strive to do better in the future than we have in the past.
  9. We will strive as hard as we can to have inflation on a core PCE basis average 2% per year over the next five years.
  10. We really could use some help from more expansionary fiscal policy.
  11. Please hold us accountable.

Dean Baker: Stanley Fischer Rewrites Fed Inflation Target, Prepares to Throw People Out of Work:

MarketWatch…. quotes Stanley Fischer… as saying, “We are close to our targets” for inflation and unemployment…

…that the current 1.6 percent inflation rate shown by the core personal consumption expenditure (PCE) deflator is “is within hailing distance” of the Fed’s 2.0 percent target…. [But] the 2.0 percent target was always identified as an average, not a ceiling. This means that periods of below 2.0 percent inflation should be averaged out with periods of above 2.0 percent inflation…. The year over year measure of the core inflation rate since the beginning of 2011. Not only has it been below 2.0 percent for the last four years, it shows no tendency to increase….

I Do Not Understand the View from the Financial Markets…

Posted on by Brad DeLong

I want to say that people like Global Head of Credit Products Strategy at Citigroup Matt King are simply not thinking clearly. The macroeconomic regularities that seem obvious to me simply are not there to him. What he ought to be saying is:

  1. Mammoth safe asset shortage–in large part because since 2007 nobody trusts any of his peers’ issuing departments to create a AAA asset.
  2. Hence destructively low yields.
  3. Hence those that can need to bend every policy nerve toward creating large amounts of safe assets–which means borrow-and-spend on the part of governments: expansionary fiscal policy.

But that is rarely what he or his peers are saying. Thus I hesitate. Could they possibly be misreading the situation in such an obvious way? What are they seeing and thinking about that I am missing?

Thus I never know what to do with pieces like this:

Alexandra Scaggs: There’s No Yield, and Citi Isn’t Going to Take It Anymore:

Citi’s Matt King has some harsh words for central bankers… echoes a group of fund managers who say central banks’ stimulus efforts are distorting the way global markets function…. With negative yields on $13 trillion of safe assets, investment managers are crowding into the shrinking group of investments with yield–or into securities they may be able to sell to central banks. This has been frustrating for those fund managers, to say the least…. Here are some of the reasons he thinks markets are broken:

(1) A greater share of global equity-market variance is explained by macro factors…. (2) Credit spreads aren’t responding to climbing leverage and defaults…. (3) Normal market relationships are breaking down…. (4) Cross-asset correlations are high, even though volatility is low….

It’s clear that global central banks have had a big effect on markets. A bigger challenge is answering the following question: so what? Lower borrowing costs should be a benefit of central bank stimulus, you’d think. But King says corporate borrowing isn’t helping the economy as much as policy makers would like, and raises the risk that the leverage will make any economic downturn worse. He continues:

Most doctors–and even patients–know that when a course of drugs seems not to be working, you don’t simply keep on doubling the dosage. This applies particularly when the patient, if no longer as sprightly as they used to be, is nevertheless doing more or less fine. The side effects of such a course are more likely to kill than to cure. Yet this is what central banks now seem intent on doing. They have too much invested in their models to consider changing them in our view…

I look at graphs like this:

FRED Graph FRED St Louis Fed

And I think:

  • If the Fed had followed policies to put short-term safe nominal interest rates at 3%/year right now, then you add on the impact of that on inflation–pushing inflation down from just below 2%/year to just negative–and you have a real value of the dollar in all likelihood 30% more than it is today. Would exports be as high in such a world?

  • If the Fed had followed policies to put short-term safe nominal interest rates at 3%/year right now, then you add on the impact of that on inflation–pushing inflation down from just below 2%/year to just negative–and you have real hurdle rates on business investment on the order of 5%-points/year higher than they are now. Would business investment–which is, in spite of the weak overall economy and sluggish growth, normal– be as high in such a world?

  • If the Fed had followed policies to put short-term safe nominal interest rates at 3%/year right now, then you add on the impact of that on inflation–pushing inflation down from just below 2%/year to just negative–and you have potential homebuyers facing greatly accelerated amortization burdens. Would residential investment–pathetic as it is–be as high in such a world?

If King has a magic wand that can boost government purchases massively, then yes–higher interest rates might well be appropriate. But he doesn’t. So what is the magic wand that would boost what component of spending to offset downward pressure on exports, business investment, residential investment, and consumer durables spending that would come from higher interest rates and lower inflation right now? Or what is the magic wand that would make buyers of exports, planners of business investment, and buyers of new houses from reacting to the signals prices are sending them?

I just do not get it. King seems to envision a world in which interest rates are higher and he is happier because he can clip coupons on his portfolio, and all without anybody changing any of their spending decisions. I do not see how that world can possibly be.

Indeed, I don’t think even King would like the world he says he wants to see: business corporation and real estate equity cushions are ample on average, but in the anti-Panglossian world of bond finance that your counterparties have ample equity cushions on average isn’t worth very much in terms of guaranteeing the quality of the assets you are long, is it?

Must-Read: Alexandra Scaggs: There’s No Yield, and Citi Isn’t Going to Take It Anymore

Posted on by Brad DeLong

Must-Read: Alexandra Scaggs: There’s No Yield, and Citi Isn’t Going to Take It Anymore:

Citi’s Matt King has some harsh words for central bankers…

…echoes a group of fund managers who say central banks’ stimulus efforts are distorting the way global markets function…. With negative yields on $13 trillion of safe assets, investment managers are crowding into the shrinking group of investments with yield–or into securities they may be able to sell to central banks. This has been frustrating for those fund managers, to say the least. (This journalist remembers getting laughed at when she asked an expert how to determine the value of a Treasury security, because the Federal Reserve still owns more than $2 trillion of them.) Instead of gauging market fundamentals… investors are primarily concerned with the outlook for central bank policy. So they crowd into trades that could profit off of the actions of central bankers in Europe, Japan or the UK. That’s why Bill Gross and Paul Singer have both bemoaned the effect central banks have had on the global markets and the economy recently. Gross says it’s causing growth to stagnate, and Singer is warning of a sharp reversal.

King agrees. Here are some of the reasons he thinks markets are broken:

(1) A greater share of global equity-market variance is explained by macro factors…. (2) Credit spreads aren’t responding to climbing leverage and defaults…. (3) Normal market relationships are breaking down…. (4) Cross-asset correlations are high, even though volatility is low….

It’s clear that global central banks have had a big effect on markets. A bigger challenge is answering the following question: so what? Lower borrowing costs should be a benefit of central bank stimulus, you’d think. But King says corporate borrowing isn’t helping the economy as much as policy makers would like, and raises the risk that the leverage will make any economic downturn worse. He continues:

Most doctors–and even patients–know that when a course of drugs seems not to be working, you don’t simply keep on doubling the dosage. This applies particularly when the patient, if no longer as sprightly as they used to be, is nevertheless doing more or less fine. The side effects of such a course are more likely to kill than to cure. Yet this is what central banks now seem intent on doing. They have too much invested in their models to consider changing them in our view…