Must-Reads: December 16, 2016


Interesting Reads:

Should-Read: Jason Furman et al.: The 2017 Economic Report of the President

Preview of The 2017 Economic Report of the President whitehouse gov

Should-Read: Jason Furman et al.: The 2017 Economic Report of the President: “President Obama was faced with the daunting task of helping to rescue the U.S. economy from its worst crisis since the Great Depression…

…The forceful response to the crisis helped stave off a potential second Depression, setting the U.S. economy on track to reinvest and recover. Rebuilding… alone… was never the President’s sole aim…. The Administration has also worked to address the structural barriers to shared prosperity that middle-class families had faced for decades: the rising costs of health care and higher education, slow growth in incomes, high levels of inequality, a fragile, risky financial system, and more. Thanks to these efforts, eight years later, the American economy is stronger, more resilient, and better positioned for the 21st century than ever before….

After eight years of recovery, it is easy to forget how close the U.S. economy came to another depression during the crisis. In fact, by a number of macroeconomic measures—including household wealth, employment, and trade flows—the first year of the Great Recession saw declines that were as large as or even substantially larger than at the outset of the Great Depression in 1929-30. However, the forceful policy response by the Obama Administration and partners across the Federal Government—including the American Recovery and Reinvestment Act (ARRA) and subsequent fiscal actions, the auto industry rescue, a robust monetary policy response, and actions to stabilize the financial sector—combined with the resilience of American businesses and families to help stave off a second Great Depression. As a result, the unemployment rate has been cut from a peak of 10.0 percent in the wake of the crisis to 4.6 percent in November, falling further and faster than expected.

The U.S. economy has made strong progress in the eight years since the crisis…. Real wage growth has been faster in the current business cycle than in any since the early 1970s, and wage growth has accelerated in recent years. The combination of strong employment and wage growth has led to rising incomes for American families. From 2014 to 2015, real median household income grew by 5.2 percent, the fastest annual growth on record, and the United States saw its largest one-year drop in the poverty rate since the 1960s…

Is U.S. investment capital flowing to the best possible destinations?

How do U.S. policymakers know if the nation’s capital markets are doing their job of allocating capital most productively across the economy? One way would be to see if these markets are allocating funds to firms and projects that boast the best growth opportunities. A financial system that provides capital to companies that are most likely to put it to good use is probably working well. A new paper presents some data that might make us think about how efficient U.S. capital markets are these days.

The paper, by economists Dong Lee of Korea University Business School, Han Shin of Yonsei University, and René M. Stulz of Ohio State University, was recently released as a National Bureau of Economic Research working paper. The research conducts a simple test of how the financial markets are doing by ascertaining whether industries that appear to have the best growth opportunities receive more funding. Specifically, they look at the correlation between an industry’s rate of funding and the industry’s average “q,” or the average ratio of the market value of firms in these industries to their “book value.” The higher the q ratio, the more likely these firms have opportunities to invest and grow.

Looking at data for public firms in the United States, the authors find that the correlation of funding and q is positive from the early 1970s to the mid-1990s. That’s true for funding from both equity markets and funding via bonds. A positive correlation would indicate that equity capital is flowing relatively more to companies that seem to have more investment opportunities, indicating that markets are allocating funds efficiently. But in the mid-1990s, the correlation with equity funding flipped. Industries with high q ratios—those that would seem likely to invest—were associated with lower rates of funding. However the correlations for bond financing remains positive.

What happened here? It appears that the switch is associated with an increase in share buybacks by companies. If companies that buy their shares back are excluded from the data, then a positive correlation between the industry q ratios and funding rates is positive from the 1970s to today. Looking more closely at the data, the firms that do share buybacks have high q ratios, but invest less. They also have high level of internal savings. If these firms already have robust retained earnings but are using the money to fund shareholder payouts, then it makes sense for markets to not send them more funds. There is some evidence that while credit financing may not have changed across industries over time, it does increasingly go toward shareholder payouts rather than investment.

In other words, the firms that appear to have investment opportunities either don’t actually have them or are not interested in taking advantage of them. These results are another indication that the relationships that once drove business investment seem to be totally broken. What’s behind that break is worth investigating.

Must-Read: Paul Krugman: Notes on the Macroeconomic Situation

Must-Read: Let me disagree a bit with Paul: although evidence does suggest that we are near full employment, we are not at full employment–and the suggestion that we are near full employment is a very weak one. The unemployment rate is 4.6%–and six years ago I would have said that 5% unemployment is full employment. The prime-age employment-to-population ratio is 78.1%–and six years ago I would have said that an 80% prime-age employment-to-population ratio is full employment. It is possible to reconcile the two by saying that hysteresis has permanently knocked 2% of the prime-age population out of the labor force. But that claim is, itself, uncertain.

Paul rests his case for continued monetary policy at the zero lower bound and for fiscal expansion on the “precautionary motive”. That case is there, and is very strong. But IMHO there is still a very strong case for continued monetary policy at the zero lower bound and fiscal expansion resulting from recognition of our uncertainty about the current state of the economy.

The downsides of further expansionary policy to see if full employment is an 80% prime-age employment-to-population ratio are small. The upsides are large. We should follow Rikki-Tikki-Tavi, and run and find out.

Paul Krugman: Notes on the Macroeconomic Situation: “So the Fed has raised rates… a mistake, although not as severe… as it would have been a year ago….

Evidence does suggest that we’re close to full employment…. [So now] the case for easy monetary and fiscal policies… hinges mainly on the precautionary motive…. Because interest rates are still near zero, a bout of economic weakness can’t be met with strong monetary expansion; and discretionary fiscal stimulus is politically hard, especially given who’ll be running things…. So… I believe the Fed made a mistake, and would welcome a modest (1 or 2 point? maybe more?) rise in budget deficits, especially if it involved infrastructure spending.

But what if we are about to get significant fiscal stimulus from Trump? Well, it won’t be well-targeted…. That infrastructure build looks ever less likely, so we’re talking high-end tax cuts with low multipliers and little supply-side payoff…. Trump deficits won’t actually do much to boost [long-run] growth, because rates will rise and there will be lots of crowding out. Also a strong dollar and bigger trade deficit, like Reagan’s morning after Morning in America. So, the probable outlook is for not too great growth and deindustrialization. Not quite what people expect.

Should-Read: Betsey Stevenson: Manly Men Need to Do More Girly Jobs

Should-Read: Betsey Stevenson: Manly Men Need to Do More Girly Jobs: “Donald Trump wants America to make things… bring iPhone assembly to the U.S…

…If he really wants to help his supporters, though, he should think twice about what kinds of jobs to promote…. Nearly half the private-sector jobs in the 1940s and ’50s were in the goods-producing sector. Today less than one in six are. The service sector has more than made up for the losses…. Lower-skilled men don’t seem to want service jobs….

Policy wonks like me have wondered why more lower-skilled men aren’t adapting…. Occupations conflict with traditional notions of masculinity. They require sitting, caring and communicating, as opposed to working with big machines…. The challenge for men is much greater than what women faced in the 1960s through the 1980s, when the latter entered the workforce in greater numbers. Women’s new role clashed with social norms around femininity, but they were able to merge the two…. By encouraging men to cling to work that isn’t coming back, Trump… [will] ll have to do something out of his comfort zone: make girly jobs appeal to manly men.

More Expansionary FIscal Policy Is Needed: The Only Question Is Whether for a Short-Term Full Employment Attainment or a Medium-Term Full-Employment Maintenance Purpose

J. Bradford DeLong: On Twitter:

If the Federal Reserve wants to have the ammunition to fight the next recession when it happens, it needs the short-term safe nominal interest rate to be 5% or more when the recession hits. I believe that is very unlikely to happen without substantial fiscal expansion. No, at least in the world that Janet Yellen sees, “fiscal policy is not needed to provide stimulus to get us back to full employment.” But fiscal policy stimulus is needed to create a situation in which full employment can be maintained. It would be a rash economist indeed who would forecast a short-term safe nominal interest rate above 3% when the time for the next loosening cycle arrives:

3 Month Treasury Bill Secondary Market Rate FRED St Louis Fed

Thus if we do not shift to a more expansionary fiscal policy–and the higher neutral rate of interest that it brings–now, what do we envision will happen when the next recession arrives? Do we trust that congress and the president will then understand and react appropriately in a timely fashion and at the right scale to deal with the slump in aggregate demand?

Once again, it would be a very rash economist who would forecast that. An FOMC that does not press strongly for more expansionary fiscal policy now is an FOMC that is adopting a policy that threatens to make life very difficult indeed for their successors between two and six years from now.

And, of course, there is the chance–I see it as a substantial chance–that full employment is attained at a prime-age employment-to-population ratio of not 78% but 80%–or 81.5%. In that case, Janet Yellen is wrong to say that “fiscal policy is not needed to provide stimulus to get us back to full employment.”

Employment Population Ratio 25 54 years FRED St Louis Fed

Must- and Should-Reads: December 14, 2016


Interesting Reads:

What Is the Excellence of an Economist?

I have been thinking about John Maynard Keynes’s observations on the mysterious difficulty of being a first-class economist that I quoted a while ago:

John Maynard Keynes (1924): Alfred Marshall: “The study of economics does not seem to require…

…any specialised gifts of an unusually high order. Is it not, intellectually regarded, a very easy subject compared with the higher branches of philosophy and pure science? Yet good, or even competent, economists are the rarest of birds. An easy subject, at which very few excel! The paradox finds its explanation, perhaps, in that the master-economist must possess a rare combination of gifts. He must reach a high standard in several different directions and must combine talents not often found together. He must be mathematician, historian, statesman, philosopher—in some degree. He must understand symbols and speak in words. He must contemplate the particular in terms of the general, and touch abstract and concrete in the same flight of thought. He must study the present in the light of the past for the purposes of the future. No part of man’s nature or his institutions must lie entirely outside his regard. He must be purposeful and disinterested in a simultaneous mood; as aloof and incorruptible as an artist, yet sometimes as near the earth as a politician…

I have been thinking about it because a couple of weeks ago I ran across a comment I once made:

The model says that attempting a 4%-point increase in government revenue as a share of GDP in Greece may well push you over the top of the Laffer Curve. It follows immediately that the excess burdens of a 1%-point increase are overwhelmingly large. It then follows immediately that any tax increases at all are inadvisable. Thus the only deficit-reducing policies that might possibly be advisable are those that cut spending. It would, therefore, seem to me that the paper ought to consist of one paragraph–that Greece is near the top of the Laffer Curve, hence what it urgently does not need is any tax increases–followed by fifteen pages documenting this claim on which all else depends: that Greece is near the top of the Laffer Curve. Yet those fifteen pages are missing…

It seemed to me very clear what was going on the moment I read: “We do not push the model to generate the full 4 percent increase in the [Greek] primary balance as a share of 2014 GDP… [because it] could push capital and labor taxes into the downward sloping portions of the Laffer curve…” And yet the well-regarded authors then spent fifteen pages calculating benefit-cost ratios–which were, of course, much less than one–rather than documenting their belief that Greece is near the top of the Laffer Curve.

I have been thinking about this Keynes passage in the context of Dani Rodrik’s “don’t blame economics–blame economists!”

It strikes me that a first-class economist needs to have a firm grasp of:

  1. The economic models that might be used to analyze the situation.
  2. The benefits and drawbacks of each possible model, and the reasons to on balance prefer one particular model and one particular analysis.
  3. What dangers the assumptions needed to make one’s chosen model tractable expose one to.
  4. How one’s model actually works.

N. Emrah Aydınonat: Using and Abusing Models in Economics: A Review of Rodrik’s Economics Rules: “Rodrik… argues that both unrealistic assumptions and mathematics are useful in economic modelling…

…Rodrik argues that economics is not the problem, economists are… idealization, abstraction, utilization of unrealistic assumptions, methodological individualism are not problems as long as one appreciates the diversity of economic models and accepts the fact that each economic model is an attempt to understand some real world relationships in isolation. Market favoritism is not a problem of economics… [but] rather a problem created by some overconfident economists…. Economics is more pluralist than it appears…

Should-Read: Ryan Avent: The Hole at the Heart of Economics

Should-Read: Ryan Avent: The Hole at the Heart of Economics: “For many of the most important questions within economics…

…economists have chosen to act like institutions simply do not exist. Consider, as an example, the debate over fiscal stimulus. Economists have spilt vast amounts of ink over the last eight years…. What factors affect the multiplier on fiscal stimulus?… When is fiscal stimulus a necessary complement to monetary stimulus? How does government debt affect long-run economic growth (and how does fiscal stimulus affect government indebtedness)?… The crucial question regarding whether or not to use fiscal stimulus was a completely different one—which is more corrosive to the legitimacy of the institutions which make the prosperity of a liberal, global economy possible: a long economic slump, or a short-term stimulus so large that it inevitably leads to spending on low-return projects or lines the pockets of government-friendly firms? We were all tying ourselves in knots working out whether the multiplier on infrastructure spending was 0.7 or 1.2 or 2.5, when what we ought to have been asking was: what course of action is most likely to avert a crisis of institutional legitimacy that will leave everyone much worse off….

These sorts of macroinstitutional questions… [are] very hard…. It seems reasonable to argue that bail-outs for banks amid broad woes for workers led to a loss of confidence in the system. But what is that “confidence in the system”? How does it work? What is the relationship between an individual’s confidence and the public’s as a whole? How is it cultivated? How does it interact with other institutions, macro and micro? Can we measure it? But lacking the tools or theory to think through something does not mean that something isn’t important. It certainly doesn’t mean that academic economists should pour massively more effort into research describing the smallest details of models which assume macroinstitutions aren’t important…. Big-picture books by Daron Acemoglu and James Robinson, Thomas Piketty, and Branko Milanovic move gingerly in the right direction. Much more is needed…

Many of the fastest growing jobs in the United States are missing men

Home health aide Maria Fernandez, left, makes coffee for Herminia Vega, 83, right. Employment for home health aides is expected to grow 38 percent, much faster than average for all occupations.

Jobs—and quality jobs—are on everyone’s mind. Policymakers on both sides of the aisle are keen to address the economic shifts that wiped out more than 5 million manufacturing jobs since 1990, leaving a growing number of families financially insecure and victim to the country’s growing economic inequality.

But what many policymakers miss is that the growth in services sector has added more jobs than were lost in manufacturing—9 million over the same time period. These jobs are fundamentally different in nature. Manufacturing, for example, boasts a higher proportion of men. But according to a recent report by the Institute for Women’s Policy Research and Oxfam America, many of the occupations that will add the most jobs by 2024, including health care support, administrative assistance, early childhood care and education, and food preparation and services, are comprised of more than 70 percent women. Meanwhile, a growing number of men have stopped looking for work all together. This begs the question: Why aren’t men taking these jobs?

Last week, University of Michigan economist Betsey Stevenson wrote a piece for Bloomberg View arguing that the lack of men in these jobs is due in part to men’s reluctance to embrace traditionally feminine roles. Many of these new services jobs include duties such as cooking, cleaning, and caregiving, which she argues may not exactly appeal to someone concerned with their masculine demeanor. But Stevenson contends that if we care about getting men back to work, we have to make these “women’s” jobs more appealing to men as well.

Yet the lack of appeal of these jobs to many men might not only be because they are “feminine.” The Institute for Women’s Policy Research and Oxfam report identified the 22 fastest-growing, female-dominant occupations and found that they are characterized by low wages, a lack of benefits, and unpredictable schedules. This is the reality for the one quarter of working women employed in one of these professions, all of which pay less than $15 an hour and with few opportunities for advancement. Women of color are overrepresented in these occupations, which means that this pattern contributes to racial inequality as well.

No wonder men aren’t exactly excited about rushing back into a poor-quality job.

It’s notable, however, that not all of these jobs can be characterized as “low-skill.” In fact, workers in these low-wage, female-dominated professions are better educated yet still earn less compared to workers in other low-wage jobs. So why are these female-dominant jobs paid so little if they have become such a critical part of our economy?

The report suggests these jobs include work, such as caregiving, cleaning, and cooking, that women have historically done for free, and were undervalued once they became paying jobs outside the home. But part of the lack of pay also is because work done by women, whatever it is, isn’t valued as much in the marketplace. A study by Cornell University economists Francine Blau and Lawrence Kahn finds that the difference in jobs that men and women work in is the largest cause of the gender pay gap. Occupations that have more men tend to be better paid regardless of skill or education level. (See Figure 1.)

Figure 1

Just one case in point—last year janitors were paid $142 more per week on average than housekeepers, despite the similar nature of the jobs, according to the U.S. Bureau of Labor Statistics. Another study by New York University sociologist Paula England finds that the amount of women in an occupation helps determine whether it is low- or high- paying. As the rate of women working in a given occupation increases, the pay in that occupation (even when controlling for education, skills, race, and geography) declines.

Addressing the way racial and gender inequities can influence job quality is one aspect of promoting these occupations as a jobs for all Americans, not just women. But considering that most families in the United States today rely on women’s earnings, policymakers must start with addressing the working conditions of those already employed in these professions.