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Monday, June 17, 2013

Economics One Now Auto-Redirected To

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Thursday, June 6, 2013

What Allan and Paul Are Saying

You can go to my blog's new home or to my new twitter account @EconomicsOne to read summaries of what Allan Meltzer and Paul Volcker are saying about the Fed 

Monday, June 3, 2013

Twitter Account @EconomicsOne

In addition to a new location for my blog at, I have set up a twitter account @EconomicsOne  

Thursday, May 30, 2013

New Home for Economics One

The location of my blog Economics One is now at
Please go there to read the latest posts, change RSS feed, bookmark, etc.

Thank you.

Wednesday, May 15, 2013

Why Title II of Dodd-Frank Has Not Reduced the Likelihood of Bailouts

Today the House Financial Services Subcommittee on Oversight and Investigations held a hearing on whether the Orderly Liquidation Authority (OLA) in Title II of the Dodd Frank Act has reduced the likelihood of bailouts of large financial firms. I was one of the witnesses. Here is a summary of my 5 minute opening statement.  More details are in my written statement.
Unfortunately the likelihood of bailouts has not been reduced by Dodd-Frank. Empirical evidence shows this: large financial firms still pay less to borrow because of market expectations of bailouts. Of course there’s disagreement about this assessment. Ben Bernanke argued in testimony in February that “Those expectations are incorrect” because we have Title II. But other officials differ: President Charles Plosser of the Philadelphia Fed says “Title II resolution is likely to be biased toward bailouts,” and President Jeffrey Lacker of the Richmond Fed admits “we didn’t end too big to fail.”
When you look at OLA and assess what would happen in another crisis you can see why bailouts are still likely. To carry out the difficult task of reorganizing a large financial firm under OLA, the FDIC would have to exercise a great deal of discretion which causes unpredictability and uncertainty compared with bankruptcy reorganization.  Thus, there’s confusion about the reorganization process. Without more clarity, policymakers are likely to ignore it in the heat of a crisis and again resort to massive bailouts.
Even if Title II were used, bailouts would be expected. The FDIC would most likely give some creditors more funds than under bankruptcy law. By definition that’s a bailout of the favored creditors.  Even if shareholders are not protected, some important creditors are.
It is important to recognize that the perverse effects of bailouts occur whether the source of the extra payment comes from the Treasury—financed by taxpayers, from an assessment fund—financed by banks and their customers, or from smaller payments for less favored creditors.  
There are other concerns. Under bankruptcy reorganization, private parties, motivated and incentivized by profit and loss considerations, make key decisions about the direction of the new firm, perhaps subject to bankruptcy court oversight. But under Title II a government agency, the FDIC and its bridge bank, would make the decisions.  This creates the possibility that the bridge firm would be pressured to grant favors.
In addition, the new bridge firm could have advantages over its competitors due to the Treasury funding subsidy, lower capital requirements, and tax exemptions.   
A reform of the bankruptcy code (called Chapter 14).designed to handle the big firms is a better best way to reduce the likelihood of bailouts. The goal of the reform is to let a failing financial firm go into bankruptcy in a predictable, rules-based manner without causing disruptive spillovers in the economy while permitting people to continue to use its financial services.

Thursday, May 9, 2013

10 Years Doing Business, Measuring Results, and Now Bill Gates

Rumors are flying around that the World Bank will water down or even abandon its ten-year old Doing Business series which measures the extent and quality of pro-growth economic policies in individual countries round the world.  A committee has been set up by World Bank president Jim Yong Kim to review the series. People are naturally writing and worrying about the outcome.

What a terrible mistake it would be to end or dilute this useful measurement system. I remember when the Doing Business reports first started. I was Under Secretary of Treasury with responsibility for U.S oversight of the World Bank.  The Doing Business series was part of a response to a concentrated effort by the U.S government to improve effectiveness and measurement of development assistance—both multilateral and bilateral—a subject I gave a bunch of speeches about. It was at that time that the U.S. proposed and created the Millennium Challenge Account whereby U.S. bilateral development aid would be directed more toward countries following good pro-growth policies based on certain measurable criteria.   A lot of economic research at the Treasury and other U.S. agencies went into choosing those selection criteria, which ended up including items such as those now covered in the Doing Business report, including the time it takes to start a business.

This was also the first time that the U.S. insisted on linking the size of its contributions to the World Bank’s program for poor countries to specific measures of the delivery and effectiveness of the aid.  The straightforward idea was that insisting on measurable results would make aid more effective in reducing poverty and improving people’s lives.  The story of the “measurable results” campaign is told in my book Global Financial Warriors.

It’s good that Bill Gates is now writing a lot about this idea.  As he put it in his recent Wall Street Journal piece My Plan to Fix The World’s Biggest Problems "In the past year, I have been struck by how important measurement is to improving the human condition. You can achieve incredible progress if you set a clear goal and find a measure that will drive progress toward that goal….This may seem basic, but it is amazing how often it is not done and how hard it is to get right."

The committee reviewing Doing Business should read the Gates piece, examine the positive benefits of this approach when used over the past 10 years, and strengthen, not weaken, Doing Business.

Monday, April 29, 2013

Another Take on Reinhart-Rogoff Controversy

The updated charts below incorporate last Friday’s release of the first quarter GDP data.  They continue to tell the story of a weak recovery which, in my view, is largely due to ineffective government policy interventions.  There is, of course, an alternative view: that the recovery is weak because the recession and the financial crisis were severe.

This alternative is based on research by Carmen Reinhart and Kenneth Rogoff claiming that weak recoveries typically follow deep recessions and financial crises. That claim is frequently cited by government officials as the reason why policy has not been the problem.   To be sure this is not the widely-cited research by Reinhart and Rogoff on the debt-growth nexus which has generated so much controversy recently (including a parody on the Colbert Report), but it's quite related from a policy perspective and equally controversial.  

Much as Thomas Herndon of the University of Massachusetts found problems with the “debt growth nexus” result, economic historian Michael Bordo of Rutgers found problems with the “weak recovery is normal” result.  Bordo wrote about his findings (which are based on his joint research with Joe Haubrich of the Cleveland Fed) in a September 27, 2012 Wall Street Journal article, “Financial Recessions Don't Lead to Weak Recoveries.”  In discussing the view that weak recoveries follow deep recessions, Bordo wrote that “The mistaken view comes largely from the 2009 book This Time Is Different, by economists Carmen Reinhart and Kenneth Rogoff…” and he then showed that U.S data disprove that view. (I wrote about this here and here).

An important question for public policy is why Bordo’s discovery got so much less press attention than Herndon’s.  Maybe Bordo’s historical research is inherently less interesting than Herndon’s discovery of spreadsheet error (it's certainly harder for Stephen Colbert to parody), but another reason is that Herndon's findings support more fiscal stimulus and less consolidation--still popular in some quarters--while Bordo's findings don't.

Here are the charts:


Friday, April 26, 2013

A Key Issue In the Monetary Policy Debate

I’ve been speaking a lot about monetary policy recently:
- Testifying at the Joint Economic Committee (JEC) last week
- Delivering a dinner speech at the Atlanta Fed the week before that
- Testifying at a House hearing on monetary policy last month

In each venue, someone has been on the other side, supporting current policy.
- At the JEC: Adam Posen (president of Peterson Institute and coauthor with Ben Bernanke)
- At the Atlanta Fed: Ben Bernanke giving a dinner speech the previous night
- At the King conference: Janet Yellen on the same policy panel
- At the House: Joe Gagnon (of the Peterson Institute with Adam Posen)

In the midst of all this debate, there is a crucial issue which explains much of the enormous difference of opinion between critics and supporters of the Fed’s current policy. Critics such as me and Allan Meltzer (who also testified at the JEC) argue that monetary policy should focus on a clear strategy for the instruments of policy. A goal for inflation or other measures of macro performance is not enough if it is simply part of a whatever-it-takes approach to the instruments. Such an approach results in highly discretionary and unpredictable changes in policy instruments with unintended adverse consequences, as we have been seeing in recent years.

Supporters such as Adam Posen at the JEC hearing are just fine with the Fed using, even year after year, a whatever-it-takes approach to the instruments of policy as long as there is an overall goal.  With such a goal in mind, so their argument goes, the central bank can and should always intervene in any market, by any amount, over any time frame, with any instrument or program (old or new), and with little concern for unintended consequences in the long run or collateral damage in the short run (say on certain groups of people or markets) as long as it furthers that goal. 

Critics are very concerned about those unintended consequences and collateral damage; they are also concerned about an independent government agency wielding such a great deal of power as it carries out a year-after-year whatever-it-takes approach. Supporters are much less concerned. 

Sunday, April 21, 2013

Coding Errors, Austerity, and Exploding Debt

The discovery of errors in the Reinhart-Rogoff paper on the growth-debt nexus is already impacting policy. A participant in last Friday’s G20 meetings told me that the error was a factor in the decision to omit specific deficit or debt-to-GDP targets in the G20 communique.  It’s also a new talking point in the battle over the budget—offered as a reason why the U.S. should stop worrying about budget reform and consolidation and start worrying about austerity.     
            But the main arguments now for controlling the growth of spending and gradually bringing the U.S federal budget into balance overpower any one study, right or wrong.  First, under current budget policy the debt to GDP ratio will grow at such an explosive rate in the future that, if allowed to continue, will cause economic damage according to virtually any study.  Recall that the CBO projects that under current law the federal debt held by the public will be rising to 250% in 30 years.   Even this is an underestimate if interest rates rise faster than assumed by CBO. If CBO went out further in time, as they used to, the debt ratio goes over 700%.
            Second, the claims about austerity in the current budget proposals are exaggerated. Consider the recent House budget proposal which balances the budget in 10 years without raising taxes by gradually reducing the growth of spending.  It would reduce federal outlays as a share of GDP by 3.1 percentage points over the next decade (from 22.2% in 2013 to 19.1% in 2023).  Critics label it austere, but this is less spending restraint than the 4.1 percentage point reduction in outlays as a share of during the 1990s (when spending fell from 22.3% in 1991 to 18.2 % in 2000).   With this spending restraint, the 1990s were a very good decade for economic stability and growth, and they left the budget in balance.  The same can be said for the next decade. The benefits of properly addressing the debt and deficit problems are enormous and the costs are surprising small.    

Tuesday, March 19, 2013

Krugman's Claims Are Wrong

Paul Krugman commented early this morning on the Wall Street Journal oped by John Cogan and me.  Our oped is based on our research paper with Volker Wieland and Maik Wolters which shows that there are beneficial effects on the economy—in the long run and the short run—of a ten-year program to reduce the budget deficit, and eventually balance it, as proposed by the House Budget Committee.

Krugman’s claims about this research are wrong. 

He complains that we get these results “because confidence!” But we never mention confidence in the oped or in the research paper with the simulation results. Our model includes concepts like the permanent income hypothesis, incentive effects, and of course people taking expectations of the future into account when they make decisions

Krugman claims that we are unfamiliar with research by “Mike Woodford, who they appear never to have read.”  In fact, the research paper by Mike Woodford, who was the co-editor with me of the first Handbook of Macroeconomics, refers to our modeling research and we in turn have referred to his paper in subsequent research (pp. 85-114).  Moreover, the research of ours that Woodford refers to was validated by many researchers at central banks and international financial institutions.

Krugman disagrees with our statement that “resources to finance government expenditures aren’t free—they withdraw resources from the private economy” saying this isn’t so in a depressed economy.  But the whole point of our simulations is to show how a gradual and credible fiscal consolidation will help get the economy out of its depressed state and into an economic situation where people recognize that lower growth of government spending eventually means lower taxes and more take home income.    

The paper by Woodford that Krugman refers to uses expectations, as we do, but that paper is about a completely different policy question.  As Woodford says he considers “only the consequences of temporary variations in the level of government purchases.” In contrast, in our Wall Street Journal article and our research on fiscal consolidation we consider the effect of permanent changes in government spending which are phased in over time to bring the budget deficit down.

Not mentioning this crucial difference, Krugman goes on to claim that we get our results because “we have slipped in some assumption” and then guesses what that might be. In our oped, we summarize the assumptions and the reasons for our result that the plan is good for the economy, and a higher interest rate is not one of them.   

Monday, March 18, 2013

Economic Freedom For All

In talks about my book First Principles I argue that shifts toward and away from the principles of economic freedom have had profound effects on economic performance.  From the mid-1960s through the 1970s, deviations away from economic freedom were large, economic policy was bad, and economic performance was poor with rising unemployment and inflation and falling economic growth.  During the 1980s, 1990s, and until recently, deviations were smaller, policy was better, and economic performance improved; unemployment and inflation declined and growth picked up.  In recent years policy has been poor and so has economic performance with high unemployment and low economic growth. 

Many ask about how changes in the distribution of income fit into this story. While people with lower incomes benefitted from the less frequent recessions and lower unemployment during the Great Moderation of the 1980s and 1990s, the income distribution widened. As Emmanuel Saez of Berkeley and others have shown using IRS income data, the distribution became more concentrated in the upper tails starting in the mid to late 1970s and has remained concentrated, though the past decade with a deep recession and slow recovery has seen a hiatus in that trend.

There are of course a number of limitations of such income distribution statistics:  IRS data are not ideal for measuring income because people simply report more income when the tax rate goes down.  Taxes and transfers are not in the IRS income data, and these reduce inequality.  Consumption is less unequal than income by many measures.  Equality of outcome is not the same as equality of opportunity or personal equality (“all men are created equal”).  Income mobility and intergenerational mobility are not captured by these data.  A good absolute safety net is more important than the relative income distribution which is emphasized in such data. There are benefits from inequality of outcomes including the performances of Beyonce or Jay-Z and the many benefits from philanthropy.
But even considering these issues, the widened income distribution is a cause for concern in my view because it indicates harm to those at the bottom and signals a growing inequality of opportunity.

To better understand what is happening, I find the following chart quite revealing. It shows real income growth since the end of World War II for the upper 10% and the lower 90 % income groups.  It is based on the Saez data. From the end of World War II until the mid-1960s real income growth was strong across the board, and thus there was relatively little change in the distribution of income. Then, in the late 1960s and 1970s the growth of real income slowed dramatically for both groups.  This coincided with the terrible economic policy and the economic turbulence of that era. Then, coinciding with the Great Moderation of the 1980s and 1990s, income growth sped up. But most growth was in the upper income group, with the lower 90% seeming to move sideways.  In more recent years, which coincide with the swing back to less effective economic policies, income growth has slowed again across the income distribution.

The slow income growth for all in the 1970s and in recent years is consistent with the story about deviations from economic freedom.  But what was going on in the 1980s and 1990s? Why was an increase in economic freedom associated with a speed up of income growth for the upper income group and not others?

A large body of research documents that returns to education started increasing in the 1980s as evidenced by the growing college and high school wage premium.  If the supply of those completing high school, with some going on to college, had increased to keep pace with the increase in returns, it is unlikely that we would have seen such a large widening of the distribution.  But supply did not increase. High school graduation rates hit a peak around 1970 and then started declining.  The US international rank in test scores fell. 

The source of the income distribution problem is thus related to a poor education system. We are restricting educational opportunities, especially for those who are disadvantaged.

In other words the explanation for the widening inequality is the restriction of economic freedom rather than the promotion of economic freedom.  Economic freedom did not mean economic freedom for all. Remember the students from the movie “Waiting for Superman”: Bianca, Emily, Anthony, Daisy, and Francisco who had such a small chance of winning the lottery to get into a school that would open up such opportunities?  Adhering more closely to the principles of economic freedom requires giving those kids more freedom of choice.

Not extending economic freedom to all in the area of education is only one example of how deviations from economic freedom can adversely affect the distribution of income. Regulatory capture by large firms, crony capitalism, deviations from the rule of law, bailouts of the creditors of large financial firms, and highly discretionary monetary policies which largely benefit insiders are other examples.

Ironically some argue that moving further away from the principles of economic freedom—with higher marginal tax rates or more regulations on firms or more discretion for regulators or more interventionist macro policy—is the way to improve the economy and the distribution of income.  That would be a great tragedy since history shows that over the long haul it has been more economic freedom that has pulled people out of poverty.   The point is not that income distribution isn’t a problem; it is that a poor diagnosis of the problem will lead us in the wrong direction. 

Sunday, March 17, 2013

An Opportunity to Compare and Contrast Budgets

It is good news that we now have both House and Senate budget proposals for FY 2014 to compare and contrast. This is a first step back toward old-fashioned regular budget order which will help get the country off of management by crisis, whether by debt limits, fiscal cliffs, sequesters, or continuing resolutions.  Regular order also gives us all an opportunity to participate in a more informed and open debate about where economic policy should be going. Of course the debate would be even better if the President had proposed a detailed budget before the House and Senate.  We can hope that this will occur next year.  

The chart below provides the key year-by-year macro facts needed to compare the House and Senate proposals.  In my view this kind of chart is more useful for comparing proposals than the ten-year multi-trillion dollar totals which few people can understand.  The chart shows the recent history of federal outlays along with the path of outlays as a percentage of GDP under the Senate proposal and under the House proposal.  There is a clear difference of opinion about the future in these two paths. Note how spending gradually comes down to pre-crisis levels as a share of GDP under the House plan and remains high under the Senate plan.  The chart also shows where revenues will be as a share of GDP under the two proposals in 2023: 19.1% for the House and 19.8% for the Senate.

So the obvious differences between the plans are that the Senate would (1) tax more than the House by .7% of GDP, (2) spend more than the House by 2.8% of GDP, and (3) run a deficit larger than the House by 2.1 percent of GDP, where the percentages are based on 2023.  Thus the bigger differences are in higher spending and larger deficits. In my view the House proposal is superior on all three counts especially given the sharp increase in spending in the past few years and the steady gradual reversal in the House plan as a share of GDP. 

It is anyone’s guess where the President’s budget and spending path will appear on this chart when it is submitted. In any case the debate over these two paths during the next few weeks will largely determine what the final budget agreement is.

Friday, February 15, 2013

Keep the Sequester Totals But Add Flexibility Within

Scare stories about the automatic reduction in federal spending to start on March 1—commonly called the sequester—fall mainly into two categories. First are the concerns that reducing every discretionary budget account by the same percentage—the “meat-axe” approach—would not allow government agencies to prioritize.  Hence the scare stories of having to furlough key emergency personnel. But this complaint is easily resolved if President Obama agrees to give agencies, including defense agencies, the flexibility to adjust their budgets within the overall sequester totals. Most Republicans in Congress would agree to this.

Second, the size of the total spending reduction for FY2013 is said to be too big and will slow down the economy. But if you put the reduction into perspective, as in the following chart, you can see that this claim is greatly exaggerated and likely to be false.
The chart shows federal outlays as a share of GDP as reported by the Congressional Budget Office in their latest budget outlook report. The past history and CBO baseline shows spending rising from 18.2% of GDP in 2000 and remaining relatively high at 22.8% of GDP in 2023 the last year of the CBO outlook. That baseline includes the sequester totals, so if Washington caves and reduces the size of the spending reductions, spending will be higher as shown in the graph.  

Note that the reduction for 2013—the year currently under discussion—is very small relative to all the other changes in the budget during the quarter century period shown in the graph. It amounts to only 0.26% of GDP or $42 billion according to CBO.  This is less than half the frequently mentioned $85 billion in Budget Authority because it takes time to bring about the outlay reductions. The reduction is also quite gradual, much more gradual than the sudden rise in spending in the past few years, and, with flexibility granted to government agencies, does not have to be draconian.  The Administration and Congress agreed to roughly this amount of budget deficit reduction way back in 2011.

Note also that the reduction for this year should be viewed as a modest installment on an overall long-term strategy to bring the federal spending share down to levels consistent with balancing the budget.  We do not yet know what that strategy will be because the Administration has not submitted a budget and thus the Congress has not submitted budget resolutions. We do know that for that strategy to increase rather than decrease economic growth it is important that it be gradual and credible as illustrated by the “pro-growth” proposal which I sketched into the diagram above.  This pro-growth path brings spending to where it was in 2007 as a share of GDP and would also bring the federal budget roughly into balance—and thus get the debt to GDP ratio on a needed downward path—without any more tax increases.  CBO now projects revenue to be just over 19% in 2023 with the recent tax increases. 

Research discussed here shows that such a path would increase economic growth even with the reduced spending share in 2013.  Indeed, as shown in the next graph total federal spending continues to grow according to the CBO GDP forecast. 
 Whether we get a strategy similar to what I propose here or something else, the diagram shows that postponing or skipping the relatively small installment for 2013 would sap much of the credibility out of any budget consolidation strategy.  From a macroeconomic perspective, providing the agencies with flexibility but sticking with the overall totals agreed to would be best for economic growth. 

Monday, February 4, 2013

Investment-Unemployment Link Still On Track

When the recovery was getting started I pointed out the remarkably strong inverse relationship between fixed investment as a share of GDP and the unemployment rate, and argued that a policy that focused on getting businesses to invest more would help get the unemployment rate down.

The additional data from the past several years gives us a chance to check whether that relationship has held up. As shown in the following two charts, it has held up quite well.  The first time series chart shows that as investment has turned up as a share of GDP, the unemployment rate has fallen.  The increase in fixed investment thus far has been largely in the form of business fixed investment, though residential started to pick up last year.  
The second chart is a scatter plot with unemployment on the vertical axis and the investment ratio (in percent) on the horizontal axis. The lines connecting each quarterly observation represent the path from one quarter to the next. The chart illustrates the close correlation between the two variables. It also shows that the movement of unemployment and the investment ratio during the recovery (the recent dates are marked) has roughly paralleled the path in the recession, but in the reverse direction.  The problem, of course, is that the reverse path is way too short.  Investment has increased very slowly and has a long way to go before it gets back to levels that correspond to the 5 percent range for unemployment that we would like to see.  So the message in the charts is much the same as several years ago: economic policies that focus on more private investment are likely to also reduce unemployment.  

These diagrams would look very much the same if the denominator in the investment ratio was potential GDP rather than actual GDP. Of course, things other than investment can affect unemployment, and the correlation does not prove causation. As I pointed out here in a reply to comments on my original post, the correlation between investment and unemployment was also strong in the 1970s, through the scatter of points would be higher in the diagram then because demographic factors raised the average rate of unemployment.  

Sunday, February 3, 2013

Same Old Slow Recovery

The data released last week generated a lot of news stories, first bad ones about the GDP numbers and then good ones about the employment numbers. When you put the numbers in perspective, however, the economic story is little changed from what we have been experiencing for several years now: a continued weak economic recovery.

If you average out the -.1% and 3.1% growth in the third and fourth quarters, you get 1.5% growth for the second half of 2012 which is the about the same for the year as a whole, and down from 2% in 2011 and from 2.4% in 2010.  Here is an update of two charts I have used in past posts to show the weak growth compared to the early 1980s recovery and compared to the economy’s potential.  Growth is still much less than the 1980s recovery, and the gap between actual and potential GDP is not narrowing.

The jobs report shows that employment growth is still barely keeping up with the growth of the population, and not nearly enough to bring labor markets to pre-recession levels. The percentage of the working age population with a job has yet to take off.  Here is an update of a chart I have used in earlier posts to illustrate this. It is the same worrisome story.

Sunday, January 27, 2013

Break the Silence on the Unemployment Problem

In his inaugural address, President Obama said that “An economic recovery has begun.” It was an applause line. The line is correct of course, but it is really nothing to applaud.  As economists define it, the recovery began nearly four years ago when the 2007-2009 recession ended in June 2009.  So we have had a recovery for most of the Obama Administration.  The problem is that it is a recovery in name only, one of the weakest recoveries in American history.  Growth has been about 2 percent since the recovery began and median household income has declined. That is far less economic growth than recoveries following deep recessions with financial crises in American history.

This slow recovery has left unemployment tragically high in most parts of the country. In the San Francisco Bay Area where I live we are relatively lucky. In San Francisco the unemployment rate is 6.7%. The rate is 7.8 % in the country as a whole, and 9.8 % in the state as a whole. In the nearby central valley—cities like Yuba City, Modesto, Merced, Fresno—it’s about 15%, and down south in El Centro California it’s 27%.    

The numbers would all be worse if they included the unusually large number of people who have dropped out of the labor force and are no longer counted as unemployed.  If they counted, the national unemployment rate would be 9.1 percent. Another way to think about this is to look at the fraction of working age adults who are employed. Though this number usually rises during recoveries, it is actually smaller now than when the recovery began.

But you know even that relatively low 6.7% in San Francisco is pretty terrible.  I like to tell the story about what Senator Hubert Humphrey said when President Ford’s Council of Economic Advisers, where I worked with Alan Greenspan, reported to the Joint Economic Committee (JEC) that it was raising the definition of the normal unemployment rate from 4.0% to 4.9%.  Humphrey, who chaired the JEC, was outraged and told us in the JEC hearing that “if the country was suffering a plague and you economists were doctors your solution would be to raise the definition of normal body temperature above 98.6 degrees”   

So I am worried when people stop talking about today’s very high unemployment rates as if they were normal.  It is not a good sign that the inaugural address was silent on the subject, not even including the word unemployment. 

Thursday, January 17, 2013

A Debt Limit Strategy Rather Than Tactics

The recent debate about the debt limit focuses on the negative economic impact of a decision by the government not to increase the debt limit. That’s why President Obama says he is asking for clean debt limit increase—one not linked to spending reductions, saying that a default would cause economic harm, and that we should not play chicken with the American economy.

But with current high and growing debt levels a clean debt limit increase would also hurt the economy. If politicians just increase the debt limit now without reducing the rapid growth of spending, then they will be expected to do so in the future and the debt explosion will continue to create a drag on the economy with a likely future crisis. The time pattern may be different with a clean debt limit increase--if kicking the can down the road postpones the harm, but the overall impact is negative, and it could be worse if there is a debt crisis.

There is an obvious way to prevent both evils: follow a policy strategy which links debt limit increases to reductions in the growth of spending. By focusing on tactics--games of chicken, leverage and threats—Washington is ignoring this sensible policy strategy.

In a recent technical paper my colleague Bob Hall, rigorously works out the effects of severing the link between debt increases and deficit spending. He defines a parameter which he calls “alpha.” It’s simply the amount by which politicians reduce the deficit when they increase the debt, measured as a fraction of the debt to GDP ratio. In other words, alpha is an indicator of how much the government “leans against” the debt. As Bob puts it: “Alpha is all-important in the analysis….Governments with no tendency to lean against debt, with alpha = 0, face a likelihood but not a certainty of debt crisis.” The problem with a clean debt limit increase is that it effectively sets alpha to 0.

A much better value of alpha, as Bob shows, is around .1, which, if you measure spending reductions on a ten year basis, translates to .1X10 or 1, or, in other words, a strategy like the one-to-one link sometimes called the Boehner rule. So while some may think of such a rule a threat, it is really a strategy, and a sensible strategy in my view.

Thursday, January 3, 2013

No Debt Fix In Sight

The election is over, the fiscal cliff is over, and the problems remain.

For the past several years on this blog I have been showing simple charts to monitor progress—or lack of progress—on the persistent deficit and the growing debt, which in my view are impediments to returning to strong economic growth. Unfortunately neither the election nor the fiscal cliff deal has resulted in any meaningful change in these budget charts.

Here is the latest spending chart. It shows the Administration’s spending proposal prior to the debt deal of 2011, a CBO forecast with the fiscal cliff deal, and my pro-growth alternative which would balance the budget.

Clearly we still have a long way to go to bring spending growth down and thereby reduce spending as a share of GDP. The battle in Washington in the next few years will be where between the black and the green line we go.

Note that the CBO forecast is based on its alternative fiscal scenario, which is very close to what actually happened in the so-called fiscal cliff deal. As the CBO stated in their August 2012 report “That scenario incorporates the assumptions that all expiring tax provisions (other than the payroll tax reduction in effect in calendar years 2011 and 2012) are extended; the alternative minimum tax (AMT) is indexed for inflation after 2011; Medicare’s payment rates for physicians’ services are held constant at their current level; and the automatic spending reductions required by the Budget Control Act of 2011 (Public Law 112-25), which are set to take effect in January 2013, do not occur."

Moreover, the tax increase in the fiscal cliff deal has not affected the budget deficit in any substantial way. The assumption is that this tax increase will raise revenues by about $600 billion over ten years—probably an over statement as people adjust to the higher rates. But even that $600 billion is only .3 percent of GDP which is expected to be about $201,000 billion over that ten year period. This would hardly be noticeable in the spending chart.  So the scary the 2012 fix the debt chart and 2009 fix the debt video still apply in 2013.

Monday, December 24, 2012

Are these the shadows of the things that Will be...

. . . or are they the shadows of things that May be, only?
But if the courses be departed from, the ends will change.  So go back to First Principles, 102ff

Sunday, December 23, 2012

Five-Year Anniversary of the End of the Great Moderation

Five years ago this month the Great Moderation ended. To be precise December 2007 is the month that the NBER business cycle dating committee designated as the peak of the third and final expansion of the Great Moderation and the beginning of the Great Recession.

Hundreds of research papers have been written on the nature and causes of the Great Moderation, which got started around 1983. While that research began long after the Great Moderation got underway (I published one of the earliest papers on it in 1998), we should not wait so long to start seriously researching the causes of the post-Great Moderation period, regardless of how this period is eventually named by economists.

In my view, the framework that Ben Bernanke used in a February 2004 paper to study the causes of the Great Moderation is a good one. It goes back to research that started before the Great Moderation. Bernanke characterized the Great Moderation as a reduction in (1) the variance of inflation and (2) the variance of real GDP. He used the following diagram (it is a replica of Figure 1 in his paper) in which these two measures are on the horizontal and vertical axes respectively. Using the diagram he represented the Great Moderation as a move from point A to point B. He showed that a primary cause was better monetary policy, and he represented this by showing that better policy brought the economy closer to the true policy tradeoff curve (TC2) rather than the occurrence of a shift in the curve (from TC1 to TC2) . I completely agree with that interpretation.
But what caused the end? I have updated Bernanke’s diagram by adding a point C and a line from point B to point C (in red), based on the empirical volatility measures in the table below for the three periods. Observe that the post-Great Moderation deterioration does not simply retrace the previous improvement. It is nearly vertical, reflecting that virtually all the deterioration is in the output variability dimension.

In my view monetary policy was a major factor in the end of the Great Moderation just as it was the major factor in the Great Moderation itself. I review the reasons for this view in this paper on central bank independence versus policy rules which I am presenting at the annual meeting of the American Economic Association next month.

Saturday, December 22, 2012

EconTalk with Charts: A New Idea Well Executed

This week Russ Roberts released the third episode in his innovative new interview series called “The Numbers Game.” The innovation is to add graphs and other visuals—and thereby helpful numerical information—to his popular podcast interview series EconTalk.

The first three episodes go together to form a three part series on the economy and in particular on the nature and cause of the weak recovery from the 2007-2009 recession. The episodes also go together in that I was Russ's guest on all three—yes, a volunteer subject for Russ’s new experiment.

All the episodes are on YouTube.The first episode establishes that the recovery actually has been weak—even compared to other recoveries following deep recessions and financial crises. The second episode examines the possible causes of the weakness, and the third episode concentrates on what, in my view, is the main cause—economic policy.

It’s challenging to integrate charts effectively into a podcast of an interview, but it’s very worthwhile, especially in economics.  Charts give the interviewee a chance to show the facts behind the arguments and then the interviewer can ask about and debate those facts. And it is even possible for the interviewer to add some challenging new charts as Russ did with a bar chart on a survey of economists in the third episode. Charts are also an invaluable way to convey ideas, and, speaking as a teacher, that’s why I love charts.

I think that Russ and his collaborator in this new endeavor, Shana Farley, have done a fantastic job. They have thought about everything, including putting up little caricatures of Russ and his guests like the one of me here. I hope they keep it up with many more episodes of The Numbers Game.

Thursday, December 13, 2012

More Monetary Policy Uncertainty

The Fed’s announcements yesterday increase monetary policy uncertainty in two fundamental ways.

Quantitative Easing on Steroids?

First, the new quantitative easing announcement implies a gigantic increase in the size of the Fed’s balance sheet and thus effectively an amplification of the policy risks and uncertainty which I have discussed, for example, in this oped with George Shultz and other colleagues in September. The Fed now plans to purchase $85 billion a month of longer-term Treasury and mortgage backed securities until there is substantial improvement in the labor market, which requires a completely unprecedented increase in reserve balances as illustrated in this chart.

The chart shows reserve balances held by banks at the Fed. These are used to finance the large scale asset purchases.  The chart assumes that substantial labor market improvement is defined by the 6.5% unemployment rate the Fed is using to assess when to raise interest rates. Thus, assuming the central tendency forecast of the FOMC, the announced buying spree will bring reserve balances to about $4 trillion in mid-2015. The risk is two-sided. If the Fed does not draw down reserves fast enough during a future exit, then it will cause inflation. If it draws them down too fast, then it will cause another recession.

Another Great Deviation On the Way?

Second, the new state-based zero interest rate policy will lead to interest rates far below levels that created good performance in the past and close to levels that eventually created high unemployment. In an effort to explain the new policy during the press conference yesterday, Ben Bernanke referred to the Taylor rule, saying:

"So it's really more like a reaction function or a Taylor rule if you will. I don't want--I'm--I'll get it--I'm ready to get the phone call from John Taylor. It is not a Taylor rule but it has the same feature that it relates policy to observables in the economy such as unemployment and inflation."

In fact, the Fed’s new state-based policy calls for the federal funds rate to stay way below the Taylor rule, as did the calendar-based policy. You can see this deviation in two ways: a chart or some algebra. 

Consider the following chart (an updated version of a chart due to Bob DiClemente) which I used in my talk last month at the Cato Institute. The red line shows the interest rate according to the Taylor rule with the future values based on FOMC forecasts for inflation and growth. The zero interest rate forecasts by most FOMC members (shown by the dots) for mid-2015—a time when, they forecast, the unemployment rate will be about 6.5 percent—are more than 2 percentage points below the Taylor rule. (The gray line is a version of the Taylor rule used by Janet Yellen and others at the Fed.)

You can also plug in values into the Taylor rule:

R = 2 + π + 0.5(π - 2) + 0.5Y

where R is the federal funds rate, π is the inflation rate, and Y is the GDP gap.

Assume that Y = -2(U-5.5) where U is the unemployment rate and 5.5 is the long-term unemployment rate implied by FOMC projections. Then when the unemployment rate is 6.5% and the inflation rate is 2%, the interest rate is 2+2 -1 = 3%. So there is a 3 percent deviation.

The last time the deviation between the Taylor rule and the actual rate was this large was in the “too low for too long” period of 2003-2005 which helped create the boom which led to the bust, the financial crisis, and the recession. High unemployment was the result. The deviation was also this large during the economic mess of the 1970s. High unemployment, along with high inflation, was the result then too.

Comparison with Larry Ball’s Calculations

Larry Ball did a very similar algebraic calculation with similar conclusions about the difference between the Fed’s future policy rate and the Taylor rule, which Greg Mankiw posted on his blog earlier today.

However, Larry finds that the actual interest rate was not below the Taylor rule in the 2003 period. This result is contrary to empirical research by George Kahnme and others. The difference may be due to Larry's using an implied coefficient on the output gap which is larger than .5. Nevertheless, the deviation Larry uncovers is much larger than in the 1970s, which in itself raises risks.

Thursday, December 6, 2012

Recent Books to Read on Rules-Based Money

For a respite from the saga of the fiscal cliff why not read some of the latest books on monetary economics and policy? Below is a list of books on money published in 2012 which I found to be interesting and provocative. You can find a common theme in these books: that poor economic performance provides convincing evidence of the need for a sound rules-based monetary policy. But you can also find disagreement about how to achieve such a policy with proposals for interest rate rules, money growth rules, fixed exchange rate systems, nominal GDP targeting, and gold and commodity standards. Though my favorite is a simple interest rate rule (also discussed in this book on the Taylor rule), one can learn a lot by studying the case for other rules.

Boom and Bust Banking: The Cause and Cures of the Great Recession, David Beckworth (Ed,) The Independent Institute, Oakland, California, 2012.

I enjoyed reading this book, perhaps because I agree so much with the general themes and conclusion that U.S. monetary policy—by creating a boom and a bust—led to the financial crisis and the great recession. But, as I said in my back cover review of the book, David Beckworth and the other authors—including Lawrence H. White, Diego Espinoza, Christopher Crowe, Scott Sumner, Jeffrey Rogers Hummel, William Woolsey, Nick Rowe, Josh Hendrickson, Bill White, Larry Kotlikoff, and George Seglin—go much further. For example, the chapter by David Beckworth and Christopher Crowe puts forth their original theory of the Fed’s “monetary superpower” status and the resulting unfortunate international repercussions of these boom-bust monetary policies. Scott Sumner writes on why nominal GDP targeting would work better than recent and current policy, and Larry Kotlikoff explains how his narrow banking proposals would help to prevent future crises. More generally the authors of this book show why economic policy got off track, why alternative explanations of the boom—such as a global-saving glut—are flawed, and why monetary policymakers must return to rules-based policies in the future.

The Unloved Dollar Standard: From Bretton Woods to the Rise of China, Ronald McKinnon, Oxford University Press, 2013, available on Amazon, Dec. 27, 2012

The clever irony of this title, of course, is that the world is still largely on the dollar standard, despite its being unloved. Ron McKinnon, my Stanford colleague, begins by asking why the dollar standard is “unloved” and explains that it is because U.S. monetary policy has often been mismanaged. He particularly laments the periods when U.S. monetary policy caused global instability, including the “Nixon shock” with the ensuing inflation in the 1970s and what he calls the “Bernanke shock” in recent years, and on the latter he is on the same page as David Beckworth and Christopher Crowe. McKinnon is much more positive about policy in the 1980s and 1990s. He clearly explains why the Fed’s current zero interest rate policy causes destabilizing carry trade opportunities and commodity bubbles, and is interfering with the allocation of capital. He also shows why, despite all these problems, the world has continued to use the dollar, warning that it will not last if American monetary policy does not mend its ways. McKinnon has always been an advocate of rules-based policy, but has focused on an international system of fixed rather than flexible exchange rates, and that view is evident throughout the book.

Roads to Sound Money, Alex Chafuen and Judy Shelton, Atlas Economic Research Foundation, Washington D.C. 2012

As the title suggests, this collection of essays, which Judy Shelton and Alex Chafuen have put together, makes the case for many different “roads” to the goal of a sound rules-based monetary system with contributions by Gerry O’Driscoll, Steve Hanke, Allan Meltzer, Jerry Jordan, Sean Fieler, Lew Lehrman, George Selgin, and Lawrence H. White, the latter two contributors also included in the Beckworth collection. Shelton gives a nice short summary of all the chapters in the Forward. For example, O’Driscoll hammers home the inherent problems with discretionary monetary policies and shows why he believes the gold standard would be an improvement despite its imperfections, a proposal that Lew Lerhman makes the case for in his chapter and in more detail in the second edition of his book The True Gold Standard. In contrast, in Meltzer’s nice review of his monumental history of the Fed, he concludes that a more rules based policy like we had in the 1980s and 1990s would be sufficient. Hanke reminds us that good monetary policy means more than keeping inflation low, and raises questions about the view that policy is just fine if an inflation target is hit. Seglin’s essay in an informative excursion into the operations of the New York Fed in the money markets with a concrete proposal for the Fed to dramatically broaden and increase the number of dealers it engages with. Jerry Jordan’s essay focusses on fiscal discipline rightly arguing that bad fiscal policy usually leads to bad monetary policy.

The Great Recession: Market Failure or Policy Failure? Robert Hetzel, Cambridge University Press, 2012.

Hetzel makes a compelling case that policy failure was the main cause of the recent financial crisis, and more generally that “monetary disorder” rather than a “market disorder” is the cause of poor macroeconomic performance over many years. At the same time, he acknowledges and discusses disagreements among those who argue for rules rather than discretion. For more details see my review of this book from Economics One earlier this year.

Volcker: The Triumph of Persistence, William Silber, Bloomsbury Press, New York, 2012.

This book is all about monetary policy making in practice. It shows in fascinating detail how Paul Volcker, starting in 1979, was able to implement a major change for the better in monetary policy that lasted for more than two decades. It also shows how Volcker learned how to implement such a change while working as Under Secretary of the Treasury under George Shultz in the early 1970s. For more details see my review of this book from the Wall Street Review earlier this year.

Tuesday, November 27, 2012

Taylor Rule (the book) Now Near Zero Bound with Forward Guidance

Like the Fed, the Hoover Press is experimenting with an extraordinary and unprecedented policy. It’s setting a key price very close to the zero lower bound and holding it there for a while.

To be specific, the Press is having a special anniversary sale of the book The Taylor Rule and the Transformation of Monetary Policy edited by Evan Koenig (Dallas Fed), Robert Leeson (University of Notre Dame, Australia), and George Kahn (Kansas City Fed). The sale marks the 20th anniversary of the first presentation of the paper proposing that rule back in November 1992.

88% OFF!

The ebook version—available on Amazon—is on sale for $2.88, or 88% off the usual ebook list price of $24.95. Like the federal funds rate, it’s tough to go much lower!

Also, for orders that are made directly through the Hoover Press and use the promotion code taylor20, the hardcover edition is on sale for $7.50, which is a huge 79% off the list price of $34.95.

Forward Guidance

Taking due account of market expectations, the Hoover Press has made it very clear that the sale will last for 5 weeks through the end of December 2012. This is calendar-based, not outcome-based, forward guidance, and it’s a firm commitment without contingencies.

Monday, November 26, 2012

A Way to Avoid the Fiscal Cliff without Creating Another One

So far the fiscal cliff debate has mainly been about whether tax revenues should be on or off the table with little mention of spending. But the economics of the debate—as distinct from the raw politics—make no sense without considering spending. And whenever spending is mentioned, it’s in terms of gargantuan ten-year totals like 2 or 3 trillion dollars, which are meaningless to most people and sweep under the rug key questions about the size of government and the speed of adjustment.

So consider an alternative way to present and discuss spending proposals. It involves the following chart, and while not everyone likes to use charts, this one is far more digestible than those multitrillion dollar sums thrown around. And it suggests away to avoid the fiscal cliff.

Starting on the lower left of the chart a history line shows the sharp rise in federal spending as a share of GDP from the year 2000 to the present. It then splits into four lines corresponding to different year-by year spending paths which were proposed in the months leading up to the budget deal of last year:
  • The top line is the Administration’s spending proposal made in February 2011.
  • The next line shows the result of the budget deal of the summer of 2011, but it does not include the additional sequestration reductions that were part of the deal.
  • The third line is the Simpson-Bowles spending proposal which was put forth in their December 2010 report.
  • The fourth line is a “pro-growth” proposal made by Gary Becker, George Shultz and me in the Wall Street Journal on April 4, 2011.
  • Two other proposals worth noting on the chart:
    • spending with sequester cuts from the 2011 deal; it’s close to Simpson-Bowles
    • the House Budget resolution of March 2012; it’s close to the pro-growth line.
Note that although federal spending as a share of GDP declines for the pro-growth and Simpson-Bowles paths, actual spending rises at 3.3 % per year and 4.8% per year respectively.

When looked at in this way, the logic of the pro-growth proposal jumps out at you:
  • First, the proposal simply reverses the recent spending surge by bringing spending to 2007 shares of GDP, still well above levels at the end of the Clinton Administration.
  • Second, the reversal is very gradual; substantially more gradual than the rapid run up in spending. This gives people a chance to adjust. In fact, macro model simulations show that this gradual spending reduction will increase economic growth even in the short run.
  • Third, the spending reduction will lead to a balanced budget without tax increases, because the budget was nearly in balance in 2007. This is why it’s called the pro-growth path, and it also allows for static revenue neutral tax reform which will raise growth further.
For those who want a bigger government than implied by the pro-growth path, the chart points to a good way to avoid the fiscal cliff without creating another:
(1) Agree now, during the lame duck session, to spending as in the Simpson-Bowles proposal. That is sequester spending levels without the damaging cliff-like sequester. Most members of Congress are familiar with the proposal making it easier to pass during the lame duck session.
(2) Postpone all scheduled income tax increases until a negotiation over tax reform is completed in the next Congress. There the key issue will be whether to increase taxes to pay for the higher spending levels in Simpson Bowles, or to keep spending at 2007 levels as a share of GDP without tax increases, or somewhere in between. Agreeing to the Simpson Bowles spending levels now in order to avoid the cliff shouldn't give either side additional bargaining power after the cliff.

Wednesday, November 21, 2012

A Simple Rule for Monetary Policy After 20 Years

It was 20 years ago today at a conference in Pittsburgh that I first presented what is now called the Taylor rule. Here’s the November 1992 Stanford working paper. It’s nearly impossible to predict which ideas will be picked up by policy makers and which won’t, and I certainly didn’t predict in 1992 that the Fed and other central bankers would still be referring to the idea in 2012.

Last week, for example, the Taylor rule served as a reference point for two very different talks by two members of the FOMC. In a speech in Berkeley, Vice Chair Janet Yellen talked about forward guidance. She argued that the federal funds rate should stay below the Taylor rule for a while longer and even below a “Modified Taylor rule” with a higher response to the output gap. She said that “times are by no means normal now, and the simple rules that perform well under ordinary circumstances just won’t perform well with persistently strong headwinds restraining recovery and with the federal funds rate constrained by the zero bound.” So that means more discretion, and, in my view, more drag on the economy.

Philadelphia Fed President Charles Plosser also spoke about forward guidance last week, but he saw no reason not to use a policy rule under current circumstances, and he recommended setting interest rates according to one of those policy rules. That would bring a more rules-based policy, which experience over the past 30 years shows would be better for the economy, as I argued in a talk at the same conference where Charlie spoke.

New research by Kansas City Fed economist George Kahn provides highly relevant econometric evidence on the issue. In an article forthcoming in the Kansas City Fed’s Economic Review, he estimates simple policy rules over relatively well-performing periods. He finds that the estimated parameters over these periods are very close to those of the rule I proposed 20 years ago, though with a different constant term implying a higher equilibrium federal funds rate.

Sunday, November 11, 2012

Milton Friedman and the Power of Monetary Ideas

Last Friday the University of Chicago hosted a wonderful Centennial Celebration of Milton Friedman and the Power of Ideas. All of the speakers, especially Jim Heckman, Kevin Murphy, Bob Lucas, and Gary Becker chose to focus on how amazingly well Milton integrated data, theory, and policy in inseparable ways in his research and writings, and that this was the key to the power of his ideas.

That well-documented facts and sound economic theory informed his policy views in practice is very evident in the case of monetary policy, which was the focus of the session where Bob Lucas, Allan Meltzer and I spoke and Lars Hansen moderated.

Lars asked me to address these two questions in my remarks for the session
-- How do you see Fed behavior at this juncture?
-- To what extent has monetary policy alone run out of gas in nurturing a more healthy macroeconomic recovery?

Because I had given the opening talk at Milton Friedman’s 90th birthday conference in Chicago exactly ten years ago in November 2002, I found that the best way for me to answer these questions was to begin my presentation at the Centennial by returning to that 2002 talk and bringing back some of the charts

From the vantage point of 2002 I was very positive about Fed behavior because of its greater reliance on steady rule like behavior in the 1980s and 1990s, and I gave credit to Milton for that change at the 90th birthday. The result was solid economic performance especially in comparison with the economic mess of the 1970s when discretion dominated.

But the steadier monetary policy and good economic performance did not last. Little did I know in November 2002 that the Fed would soon do it again. It went back to the types of discretionary actions it had used in the past. The results have not been good.

The obvious implication is that a change in policy would lead to improved economic performance.In this sense, I do not think it is correct to say that monetary policy has run out of gas: A return—a steady gradual return—to the type of steady-as-you-go policies we had in the 1980s and 1990s and until recently would be as big a positive for the economy as it was in those decades.

Tuesday, November 6, 2012

Strengthening of America

Many have been asking me to write more about the fiscal cliff.  As we watch the election returns today, I would keep two straightforward things in mind.

First, the fiscal cliff was not created by aliens from outerspace.  It is another poor government economic policy created in Washington. But the good news is that, like other bad economic policies in recent years, it can be fixed by a change in government policy.

Second, it will take a bipartisan policy effort, but the policy ingredients are ready.  One of the best examples is the work of former Senator Sam Nunn and Pete Domenici who have created a bipartisan group of former members of Congress who have had a series of hearings with economists and other experts. The initiative is called the Strengthening of America--Our Children's Future and is supported by these organizations and think tanks:

The Concord Coalition
The Bipartisan Policy Center
The Center for Strategic and Interantional Studies
The American Business Conference
The James A. Baker III Institute for Public Policy at Rice University.
The Hoover Institution at Stanford
Harvard’s Belfer Center for Science and International Affairs
Woodrow Wilson International Center for Scholars

I had the opportunity to be on a policy panel with Alice Rivlin. There were also panels with Martin Feldstein and Lawrence Summers and with Robert Rubin and James Baker.

Sunday, November 4, 2012

Stagnation or Real Progress?

As the presidential election campaign reaches its final crucial hours, the main issue remains the economy—unemployment, jobs, growth—and what the economic policy can do about it. Campaigning in Ohio and other swing states, President Obama says his policies have meant “real progress” and wants to stick with them, while Governor Romney says they have meant “stagnation” and wants to change them. If you have been monitoring this blog since it started three plus years ago—long before the political season began—you probably know that my view is that it’s “stagnation,” not “real progress,” and that policy is the problem.

The High Unemployment is a Tragedy

This “stagnation versus real progress” debate came up in several TV shows I did on Friday, and in each case the networks chose headlines that reflect my view well:

Our Unemployment Number is a Tragedy, Bloomberg TV
(30 second video pull quote) Unemployment a Tragedy, We Can Do Better
We Could Be Doing Better, CNN
Slow Growth Is Biggest Economic Challenge Facing Incoming President, (paired up with Austan Goolsbee), PBS NewsHour

Jeffrey Brown was the interviewer on Newshour and asked at the opening: “What is the problem that most needs to be addressed by whoever is the next president?” I answered: “That unemployment rate. It's too high. It shouldn't be this high. And it has increased a bit. But it's increased even more in states like -- I think Pennsylvania went up from 7.4 to 8.2 over the last few months. And the reason is the weak economy. We shouldn't be growing this slowly. We have an economy which can do much better. It's done better in similar periods in the past. And with the right policies, it can do much better, get the unemployment down much further. And there's also people dropping out of the labor force. You know, in Ohio, since the recovery began, 194,000 people just dropped out of the labor force, stopped looking for work. That's another bad sign that I think people should be very concerned about. It's really depressing what's happening with respect to the labor market right now in this country.”

In my view, it’s also a concern that some people have begun talking as if the unemployment problem does not exist. I know this is hard to believe, but if you search, for example, the 20 page glossy brochure on the economy recently distributed by the Administration, you will not find the word “unemployment.” If one does not discuss a problem—its magnitude, its causes—how is one ever going to fix it?

Now consider what is happening in the Swing States


Yesterday, The New York Times argued that “Mr. Obama was right when he talked about ‘real progress’ in the economy during a campaign swing in Ohio, where the state unemployment rate has declined from 8.6 percent a year ago to 7 percent recently.”

But the Times skips over the reason why unemployment fell in Ohio, and it’s “stagnation,” not real progress: Virtually all of the decrease in unemployment in Ohio has been caused by unemployed people dropping out of the labor force—discouraged not to find a job after many months of search. There has been virtually no increase in the number of jobs during the recovery. Worse, 33,000 jobs have been lost in the past four months.

By the official definition of the Bureau of Labor Statistics, unemployment in Ohio fell by 218,000 persons since the national recession ended and so-called recovery began in June 2009. But the vast amount of the decrease in unemployed was due to 194,000 persons leaving the labor force. There were only 24,000 additional jobs. In other words, 9 of 10 workers who had been counted as unemployed are no longer counted as unemployed simply because they are no longer looking for work. Were it not for this decline in the labor force, the unemployment rate would be around 10% rather than the 7% mentioned by the Times.

The two charts below tell the tragic story: With few jobs, people are dropping out of the labor force and are no longer even looking for work. Here is a picture of how employment has actually declined in Ohio.


In an oped in the Cedar Rapids Gazette today, Tad Lipsky and I wrote about why there was employment stagnation in Iowa, and even worse than in Ohio. The chart below shows that employment is actually lower than at the start of the recovery or the day the Obama Administration began.

Colorado, New Hampshire, and Wisconsin

The recent employment drop off in Ohio and Iowa is also occurring in Colorado, New Hampshire, and Wisconsin. In Colorado, the number of people employed has fallen by over 17,000 since March. In New Hampshire, the number of people employed has fallen by nearly 8,000 since April. And in Wisconsin, the number of people employed has fallen by over 30,000 since May.


This post is already too long. I conclude with chart of the unemployment rate in Pennsylvania which speaks for itself.

Thursday, November 1, 2012

A Slow and Declining Growth Rate Delays Prosperity

In his article “A Slow but Steady Climb to Prosperity” in today’s Wall Street Journal, Alan Blinder argues that “The U.S. economy is improving.” I wish he were right, but the data—even much of the data he mentions—do not support that view.

First, he admits that real GDP growth—the most comprehensive measure we have of the state of the economy—is declining; that’s not an improvement.

Second, he admits that, according to the payroll survey, job growth isn’t faster in 2012 than 2011; that’s not an improvement either.

Third, he mentions that the household survey shows employment growth is faster, but that growth must be measured relative to a growing population. If you look at the employment to population ratio, it is the same (58.5%) in the 12 month period starting in October 2009 (the month he chooses as the low point) as in the past 12 months. That’s not an improvement.

Fourth, he shows that the unemployment rate is coming down. But much of that improvement is due to the decline in the labor force participation rate as people drop out of the labor force. According to the CBO, unemployment would be 9 percent if that unusual and distressing decline--certainly not an improvement--had not occurred.

He then goes on to consider forecasts, saying that there are promising signs, such as the housing market. The problem here, however, is that growth is weakening even as housing is less of a drag, because other components of GDP are flagging.

If you want to look at forecasts, consider this chart of the Fed’s (Federal Open Market Committee’s) forecast for real GDP growth in 2012. It is a depressing picture of a worsening outlook, meeting after meeting, not an improving outlook.