On the Economy
Just had a rousing debate at the Texas Public Policy Foundation with economist Arthur Laffer on supply-side economics. It was his crowd, to be sure, but we actually found some common ground and I thought I saw a few heads nod (and more heads shake) on some of my key points.
But since I spent a few moments organizing my thinking on this, let me elaborate why I think supply-side, trickle down doesn’t work. (Hat tip to my CBPP colleague Chye-Ching Huang who’s been doing important, forthcoming work on this topic).
–Supply-siders vastly overstate the behavioral reactions to tax changes. Labor supply, investment, business activity, just isn’t nearly as responsive to tax changes as they would have you believe, particularly among the wealthy. That’s not to say there’s no response, but they’re much more likely to re-structure income—define earnings as capital gains, for example, or passing through business income to the personal side–and timing of things like capital gains realizations. That’s not at all what the supply-siders envision, unless the trickle down refers to tax lawyers.
–Supply-siders don’t care nearly enough about budget deficits. As OTE’ers know, I’m no deficit hawk. But over the long term, we must pay for what we spend, and any long-term budget projection will show you that we won’t be able to that on the current trajectory. History also clearly shows that supply-side tax cuts, since they don’t have the growth effects that their adherents tout, are causally linked to structural budget deficits (meaning deficits that persist even at full economic capacity). As long as policy makers believe this stuff, it will be near impossible to get on a sustainable fiscal path.
–Supply-side economics is one factor behind rising inequality. I’ve often remarked that when you cut taxes on the wealthy, pretty much all you do is raise the after-tax income of the wealthy (and lose federal revenues). In this simple sense, supply-side tax policies exacerbate market-driven increases in income inequality. More recent, interesting scholarly analysis by economist Emmanuel Saez et al, discussed here, shows that by over time and across advanced economies, lower marginal tax rates are associated with greater income inequality but not with faster growth. These researchers argue that “lower top tax rates induce top earners to bargain more aggressively for higher pay” and since they’re not adding more value—they’re just flexing their K-Street induced bargaining clout—it’s a zero sum proposition. Their gain is somebody else’s loss.
–Supply-side is not demand side. Supply siders can’t understand why you’d need stimulus spending to offset a demand contraction because demand doesn’t contract in their model. Against my arguments that we needed and still need more stimulus, Art kept stressing that in a world where farmer A gives money to farmer B, there’s no more money/demand in the system. Others in this benighted camp argue similarly that stimulus just takes water from one end of the swimming pool and puts it in the other end.
That’s clearly a world where demand doesn’t fluctuate, where there’s always enough jobs for all comers (unemployment is voluntary!…or induced by nasty ideas like unemployment benefits), where farmer A never sits on excess savings that could actually generate more aggregate output if she lent it to under-employed farmer B (i.e, the gov’t borrowed it from her and provided it to B—or better yet, ordered crops from B).
How you can miss these relationships in an economy that’s clearly been so demand constrained is beyond me, but in fact, Art’s way of viewing the problem is probably the dominant one right now. Just listen to Republican rhetoric around the need to extend UI benefits.
So what did we agree on?
Actually, a critical point: we need more revenue! And while we differed on how you get it—remember, these supply-siders believe growth and revenue are always a tax cut away—the theory is always structured around marginal rate cuts. So true supply-siders are quite comfortable with ideas that broaden the tax base, say by ending the privileged status of non-labor income, like cap gains and dividends, something I’ve advocating for big-time around these parts.
I should also add that Art is a great, personable guy and a highly influential economist who makes his case with humor and requisite humility. To say we don’t agree is a vast understatement but we listened carefully to each other and I’m quite certain that respectful debates like this in front of audiences that are also willing to listen, to bring some facts to the table, and to challenge their priors are an important part of the way forward. We also agreed on that.
Paul K makes a great point here about the why the skills of business folks might not map onto those needed for government policy: it’s not an obvious fit. But I’d go further.
We used to hear this complaint all the time when I was working for the administration—“they don’t have a business person running the NEC or Commerce, or something; therefore they don’t know what we need; therefore we don’t like them.”
So I asked a prominent business person–who was formerly a prominent gov’t official–about this and his response both cracked me up and had a ring of truth. Here’s what he essentially told me:
“What these whiners don’t understand is that if I or someone like me—someone from the business world—were in there right now, we’d be telling these business guys to get lost. You can’t make them happy and it’s no use trying. The irony is you’re already doing more for them than I’d advise and true to form, they don’t like you any better for it.”
Now, this guy was a democrat, and his view may not cross party lines. But it’s an interesting wrinkle. Maybe you need a business person who has the perspective and clout to tell you when to ignore business people.
Here’s a picture of the latter. It’s the one risk, that with smarter policy, we could control…but it’s that “smarter policy” part that’s the catch (Europe’s debt problem is also amenable to policy solutions, but that’s mostly up to Germany et al). Our policy makers remain motivated more by austerity and dysfunctional politics than by clear-eyed thinking about offsetting the fiscal drag as stimulus fades, states shed jobs, and we’re still climbing out of the hole caused by the Great Recession.
BTW, note the dip in terms of lower real GDP (“current law”) this year if we fail to extend unemployment insurance benefits and the payroll tax break beyond the two months agreed to thus far.
Just in case you’re being lulled into good feelings about the current economy, I wanted to share some poking around I’ve been doing re the impact of oil price spikes. This goes back the second figure in this post, showing strains potentially building in global oil capacity. (Read James Hamilton for authoritative analysis of the oil/macroeconomy nexus—he’s worried about this too.)
Rules of thumb here are as follows, though in a moment I’ll give you some reasons why they could be wrong.
–A $10 increase in the cost of oil leads to about 25 cents more per gallon at the pump.
–Every extra penny at the pump takes around a billion dollars from disposable income for other consumption.
–That same $10 increase, if sustained for a year, shaves about 0.25 basis points (one-quarter of a percentage point) off of real GDP growth.
–Adding rules of thumb, for each percentage point that real GDP grows below trend, with trend around 2.5%, the unemployment rate goes up a half a percentage point.
[Pit stop: the price of benchmark crude went up something like $20 bucks over the past year, shaving one-half of a point off of real GDP growth, which was 1.5%, 2010q3-2011q3. So stacking rules of thumb, and remembering that the invisible hand itself can be all thumbs, that increase may have shaved half-a-point of off GDP growth, and added 25 basis points on the unemployment rate, which amount to 375,000 more unemployed people!]
Now, forecasts for real GDP growth next year have us at or a bit below trend. Adding the fact that we’re creeping up on global capacity, well…if a whale sneezes, or worse, in the Strait of Hormoz, you get the picture.
As promised, some caveats. First, China has been a large and growing energy demander in recent years and there’s some evidence that their economy is slowing. That could lead to other problems, of course, but in this context, it could be an escape valve for the capacity issue.
Second, the rules of thumb above assume historical relationships. As I’ve written elsewhere, perhaps another rule of thumb—Americans respond inelastically to gas price increases—needs a rethink. Or at least an adjustment for real income losses.
Miles driven, as shown in this fascinating chart from the Federal Highway Administration, declined quite significantly in historical terms in the Great Recession and haven’t recovered much. So, at least in this period of high unemployment, real wage, and real wealth losses, people appear to be adjusting to higher prices at the pump by driving less and that may insulate us somewhat from the potential problems elaborated above.
Stay tuned—movements in the price of oil and our behavioral responses to them are always important, and in an election year, they can become..um…particularly germane.
The BLS noted something a little unusual in the jobs report data from yesterday, and it got me thinking about how seasonal employment patterns are evolving over time.
There was a 42,000 spike in the number of couriers/messengers last month, and the Bureau pointed out “that seasonal hiring was particularly strong in December. This may reflect increased online purchasing during the holiday season.”
Now, the data come adjusted for seasonal effects, meaning that since we expect more delivery people to be hired in the December, the Bureau subtracts what we’d expect in terms of seasonal hires, leaving any gains (or losses) above (or below) that to counted as net new jobs.
But what if a lot more people start shopping online instead of in stores? In that case, you’d want to crank up the seasonal factor for messengers and probably take down the one for retailers (i.e., since retailers are making fewer seasonal hires under this scenario, you’d want to be careful not to over-adjust by subtracting too many December jobs from the brick-and-mortar establishments).
This is called “moving seasonality”, reflecting the reality that seasonal patterns that affect different industries can change significantly over time. Now, the BLS seasonal adjuster does allow for moving seasonality, but it hasn’t picked it up yet for the delivery persons’ sector.
A number of time-series analysts like to use STAMP (structural time-series modeling…look it up if you’re interested) to capture these types of movements in the seasonals, and in fact, that method applied to the messengers series works well.
The figure below shows a) the series as published by the BLS yesterday and b) adjusted for the moving seasonality—i.e., the increased December hiring by all those gift-bearing delivery folks that we’re all so happy to see!
As you can see, the BLS seasonally adjusted series has developed a bad case of the spikes over the past few Decembers. The alternative adjustment which allows for faster moving seasonality takes away most of those spikes.
Bottom line #1: a more accurate read on yesterday’s jobs report would subtract about 30K from the 200K topline number.
Bottom line #2: I wonder what’s going on in other sectors? Are they now over-adjusting in retail?
Bottom line #3: If you’ve read this far, I salute you, fellow nerd!
Re the job situation:
–Payrolls expanded in every month last year, the first time we’ve seen that for a while, adding 1.6 million jobs overall and 1.9 million in the private sector (continued public sector job loss is one of the bads).
–The figure shows the annual growth (December/December) or loss of jobs over the last three business cycles: 1990s, the 2000s, and the nascent recovery that’s underway. The difference in job losses between the great recession and the prior two (1990-91 and 2001) is the first thing that jumps out at you. We’ve just got so much more ground to make up. But (hey—this is supposed to be the good part!) we are starting to make it up. Too slowly for sure, but the figure shows we’re climbing out of the trench.
The other thing you see in the above figure is just how weak the jobs recovery of the 2000s was—compared to the 1990s, there were precious few years of job growth—and pretty anemic ones, at that. So, one question posed by this chart is whether we’re at the beginning of a 90’s or 2000’s type of jobs recovery…and what policies will help generate the latter pattern over the former.]
–Unemployment is trending down. It peaked at 10% in Oct of 2010 and hit 8.5% last month. However, no small part of this decline is due to people leaving the labor force (see below).
–The underemployment rate is down 1.4 ppts from a year ago, from 16.6% to 15.2%, driven in part by the decline of almost 800,000 in the number of involuntary part timers (i.e., part-time workers who want full time jobs).
–Levels vs. Trends: On many of these labor market variables, the trend is our friend, the level bedevils. We’ve got some slow momentum going in job growth, but we’re still millions of jbos below the pre-great-recession peak. The jobless rate is down 1.5 percentage points off of its peak, but 8.5% is way too high on the level.
–Job Quality: Many of the jobs we’ve added over the past year have been in low-paying sectors, like restaurants, bars, and retailers (part of the 200K gain last month, e.g., included 42,000 jobs for couriers/messengers, presumably related to holiday deliveries). On the other hand, manufacturing’s picked up lately, up 225K over the year.
–Labor Force Participation: This is the most notable bad we face right now. The share of the working-age population either working or looking for work remains depressed, surely because a lot of people gave up the job search in an inhospitable environment. This makes the decline in unemployment look better than it really is, because once you leave the job market you’re not counted among the unemployed. It also means that once things pick up, some of those folks are going to get drawn back into the job search and that puts upward pressure on the jobless rate. I expect this to occur this year.
–Long Term Unemployment: Still a huge problem, with over 40% of the jobless unemployed for at least half a year. Again, it’s a testament to the mismatch between labor supply and labor demand, with the latter improving but still far too weak to meet the needs of those seeking work. And please, don’t blame extended UI (unemployment insurance) benefits for either this bad or the last bad (lower labor force participation). Re the former, we’ve just got too many jobseekers chasing too few jobs. Re the latter, you have to look for work when you’re on UI, and that rule is enforced pretty strictly.
–Public Sector: The state and local government sector continues to shed jobs, down about half-a-million over the last two years. They’re cutting budgets and taking it out of their workforces, and remember, these are teachers, police, sanitation workers—folks whose work is essential to our communities (education jobs at the local level are down 190K over the past two years).
That would be Congress. As I said earlier, policy makers need to sustain and build upon the gains we’ve achieved thus far. Fiscal support is fading and the private-sector engine of job growth is still somewhere around first or second gear. Whether we slog along or build to a more robust recovery is at this point a function of whether these guys create more self-inflicted wounds, like failing to extend the payroll tax cut and UI benefits beyond two months. Or whether they respond to any forthcoming problems we can’t see yet—if Europe or oil or who knows generate new headwinds, it’s hard to imagine this Congress helping to offset them.
Employers added 200,000 jobs on net last month, while the jobless rate ticked down to 8.5%, according to this morning’s jobs report from the BLS. That’s a bit better than what was expected, reflecting moderate but broad labor demand across almost all sectors of the private job market–the public sector continues to be a notable sore spot.
All told, a solid report, with most industries adding jobs, the work week expanding a bit, and the jobless rate revealing a slow but steady trend down–see figure.
With December’s data, we now have full year 2011 numbers. Payrolls added 1.6 million jobs last year, the best showing since 2006. Private sector payrolls were up 1.9 million, the most jobs added in the private sector since 2005.
In other words, the labor market is improving, and has a bit of trend going for it–employers remain cautious–hiring can’t be called robust–but it has been slow and steady.
Securing, sustaining, and building on these gains, particularly in the face of economic risk factors–Europe, oil, fading stimulus–must become the top goal of policy makers who have heretofore been way too cavalier about this primary responsibility.
More to come…
Based on a spate of recent posts (see here and links therein), a commenter (HT: Greg) asks a good, tough question of yours truly: on the one hand, I’ve argued long and hard that while we definitely need more progressive tax policies, the fact that the growth of inequality is largely a pretax phenomenon implies that tax changes alone won’t reverse the trend.
Yet, in this post reviewing the recent CRS inequality report, I point out that a) the increase in capital gains plays a large role in driving inequality trends, and b) if we taxed such gains as regular income (instead of at much reduced rates), that would help to reduce inequality.
So how can I argue on the one hand that tax policy is inherently limited as a tool against rising inequality, and on the other, that we should employ tax policy to push back on inequality?
I could invoke Walt Whitman: “Do I contradict myself? Very well, then I contradict myself, I am large, I contain multitudes”—and leave it at that.
But better yet, let me explain. First, the evidence as shown in the chart here shows that increased inequality is a pretax story. Whether it’s the increase in earnings or wealth inequality, the latter including outsized gains from assets, that’s all occurred in the so-called primary distribution of income, before taxes and transfers get into the mix.
Now, that doesn’t mean that more progressive taxes and transfers can’t help offset higher inequality. They can, they should, and they do. Unfortunately, as I stress here, they’ve become less effective in that regard over time.
But there’s another policy constraint here—it’s the “building-a-dam-against-an-ever-rising-river” problem. As long as market outcomes become increasingly unequal almost every year, whatever redistribution we’re accomplishing through the tax code will have to be constantly ratcheted up. That’s tough even in a rational political environment—it’s impossible in the current one.
Then there’s the question of how much of a direct difference we could make in the growth of inequality by just depending on taxes (the word “direct” is important, as I’ll show in a moment). Using table B-1 from the CRS report, I can simulate what the Gini index might have been in 2006 if the tax system hadn’t become less progressive. And the answer is: it wouldn’t have directly changed measured inequality much at all—it lowered the Gini by only 0.005 compared to its actual 2006 level.* More progressive taxation will help, but at the end of the day, you can’t bring a knife to a gun fight.
There are, however, very good indirect reasons to think that taxes matter a lot more in terms of moving inequality than the above rap would suggest, and I should be more careful to reflect this insight. Important work on this question by Saez et al (see here; paper here), for example, shows strong correlations across time and place between higher marginal tax rates and reduced income concentration.
With higher taxation, they argue, there’s less “rent seeking” (economese for rich people figuring out ways to claim more riches—ways that don’t lead to better overall economic outcomes). As Saez et al put it, “Lower top tax rates induce top earners to bargain more aggressively for higher pay” and bargaining here mean using their clout, power, friends on the board, etc., to claim pay packages that go well beyond their productive contributions to the firm’s output. This is a classic zero-sum outcome–the execs’ gain is someone else’s loss.
Of course, the notion that there’s separable independence between the primary distribution (market outcomes) and the secondary (post-tax and transfer) is wrong. Tax policy itself affects market outcomes, for better or worse.
The trickle-downers have way overdone this for decades, arguing, against evidence to the contrary, that tax cuts unleash torrents of growth. What Saez et al are identifying is a new pattern that looks like it has a lot to do with inequality: trickle-up economics.
*I did this by substituting the 1996 terms for taxes into the 2006 table and recalculating the Gini index. One wrinkle here is that you have to rescale the income shares so that they sum to one.
The NYT is right about this: you want to sell or kill a policy these days, it’s mandatory to attach the words “jobs creator” or “jobs killer” to it. I’ve played along—always in good faith—I never asserted numbers I didn’t believe or couldn’t defend. But as the piece points out, it’s gotten pretty ridiculous.
In fact, the article overlooks the weirdest example I’ve seen of this “sell-it-with-jobs” strategy: this press release from the Energy Dept. on the new-job-creating particle accelerator (hat tip: MG):
Sounds like the Onion, right?
Economist David Card, as quoted in the NYT piece, basically has this right:
“It’s just a selling point. You can say anything, no matter what, creates jobs. I don’t think people should pay much attention to it.”
Still, despite the fact that we’ve pretty much punted on job creation given our current politics, it is very much within the purview of public policy to help generate job growth at times like the present. Would the policy process be better served if economists stopped making such predictions?
Not always. I think the right answer has to do with magnitudes and purpose.
When we’re talking about an $800 billion stimulus like the Recovery Act, or the $450 billion American Jobs Act (AJA), then sure, policy makers should consider and estimate employment impacts. For the smaller stuff however, Card’s right: it’s just not possible to generate a high enough signal-to-noise ratio to pull out a reliable estimate.
How to generate job impacts for the big stuff is another question. Despite the assault on them, Keynesian multiplier models of the type we used to estimate the number of jobs from the Recovery Act work well, but the only way such an estimate makes sense is against a “counterfactual” of how jobs would have trended in the absence of the policy, and that’s not easy for people to swallow.
BTW, that’s another reason why you can’t make reliable estimates for smaller projects—that shovel-ready, job-creating particle accelerator is advertised to create 200 jobs! You can’t possibly generate a reliable counterfactual of whether such a small number of jobs would be created without the project.
And for Buddha’s sake, I’m not a particle physicist, but I’m totally ready to believe we need to do this type of research, regardless of the job impacts.
And, in fact, it’s this insight that should point the way forward on this question. As long as unemployment remains so elevated, I don’t expect people to stop using silly jobs estimates. But it would be better if we evaluated policies that are clearly not mainly about job creation—from particle accelerators to oil pipelines to EPA regs—on the basis of their actual, underlying purpose.
If we’re actually talking about a jobs bill, like the Recovery Act or AJA—bills whose main purpose is temporary stimulus—then sure, run the models and guesstimate the job impacts. Same if we’re talking about a payroll tax cut or wage subsidy: these are measures intended to boost labor demand and, if they’re large enough to generate a signal in a big economy like ours, economists should run the numbers.
But if the main purpose is clearly not job growth—if it’s a policy to improve the environment, enhance our research capacity, examine the feasibility of a new renewable energy source—than sure, it’s fair to mention as an added bonus that the project will spin off some jobs. But to attach a hard number to it only creates a false and typically indefensible sense of certainty that at this point, few people take seriously. Nor should they.