Tuesday, October 30, 2012

Private/Public Salaries, A Visual for a Trend (or, Another Boring Data Transformation)

I thought I'd get another post with political implications in before the election. Its not really timely or relevent, but its something I've been curious about for a while and just realized a way to investigate it.
Below is a chart showing the ratio of private employee labor compensation / public employee labor compensation. Unfortunately, the data doesn't go back as far as would be cool. But its something, and does seem to suggest that public pay has gotten slightly out of line with private pay in recent years, but the trend seems to be rapidly reversing itself.

What else can this graph tell us? Notice how the ratio of private/public compensation declines at a faster pace in the recession of 2008-2009. This could be an indicator that private wages are less sticky than public wages; and the rise in the ratio since then does seem to mirror the recovery rather well. As an aside, recall that in equilibrium we would want this index to be at 1.000. 

Friday, October 26, 2012

Can Bond Markets Predict Inflation?

One of the key pieces of evidence marshalled by inflation doves is that the bond market expected extremely low inflation for foreseeable future. We know this because the spread between non-indexed and indexed Treasury yields has collapsed since the financial crisis of 2009, as nominal income growth has slowed to a crawl and excess capacity is plentiful. But just because bond investors in the aggregate expect low inflation, does that mean inflation won't happen anyway?
First off, lets take a look at the relationship between nominal interest rates and inflation:
So far so good. It appears the old monetarist notion that inflation expectations drive nominal interest rates holds. In addition, heres the relationship between inflation expectations and actual inflation:
So it appears that the bond market is not a perfect predictor of inflation, but not in the direction inflation hawks might think. The bond market consistently OVERESTIMATES the rate of future inflation. Nominal bond investors are peevish when it comes to the value of their investments. And if they're not afraid of inflation, neither should you be.

Friday, October 19, 2012

The IMF's Unhelpful Retreat on Capital Controls

 Something I've been meaning to get to, that was brought to my attention the other day via Scott Sumner. It seems the IMF has "rethought" its position on capital controls in the wake of the financial crisis and lackluster global recovery. So what's this about? Here's a link to an article that lauds the decision, but nevertheless provides some good background http://www.guardian.co.uk/commentisfree/cifamerica/2011/apr/06/imf-capital-controls
My understanding is that the IMF is working off two justificaitons for capital controls: 
1. The financial crisis was contagious via the international mobility of financial assets. American mortgage securities were bought and sold by institutions and funds around the world, some of which are located in developing nations. The revaluation of these assets therefore caused disruption to economies beyond those that originated them. 
2. Many advanced economies remain depressed, with the result that both real and nominal interest rates remain low. With domestic returns to capital low, savings are increasingly flowing out of advanced economies and into develping economies where the marginal product of capital is higher. The IMF sees these new capital flows as potentially destabilizing, an argument they used to dismiss until the capital flows of the 2000's proved destabilizing. 
These justifications seem reasonable on their face. Why shouldn't policy makers in developing markets have tools available to protect their economies from the demonstrated volatility of financial asset prices in global capital markets? Here's the caveat: CAPITAL THEN WAS FLOWING IN THE OPPOSITE DIRECTION! Savings from China and Russia were being routed into American and European finanical assets. Now American savings are being routed into financial assets and FDI projects in developing markets, a shift that standard economic theory would predict. Effectively, the global imbalances in merchandise trade and financial assets are beginning to reverse themselves. And the IMF wants to reverse that reversal. 

Thursday, October 18, 2012

Who's Afraid of Foreign Trade?

Both Presidential candidates seem to have their apprehensions. I'm sure the upcoming foreign policy debate will feature the familiar boogie monster of cheap overseas workers, malicious central banks "manipulating" their currencies to boost exports, yadda yadda. I'm going to wait for the debate to debunk the specific claims made. But as a prelude, keep the below graph in mind. Its economic openness (Import+Exports)/GDP run against the total manufacturing index for the United States.

Wednesday, October 17, 2012

John Taylor, Pariah Amongst Piranhas

Lots of heat directed at John Taylor for a recent blogpost about financial crisis and recoveries. Check it out:  http://johnbtaylorsblog.blogspot.com/2012/10/simple-proof-that-strong-growth-has.html
Here's an older, better post on the same thing:
And here's some of the reactions, many of which raise some valid points: http://krugman.blogs.nytimes.com/2012/10/17/financial-crisis-denialism/

Taylor's argument is that that financial crises needen't cause a prolonged slump in output below its potential. Its true that his methodology in the second post was sloppy. The 1973 oil price shock and the 1981 disinflation were not financial crises. Maybe he is guilty of intellectual malpractice, or of trying to manipulate evidence to make his case stronger. But I find his premise that a prolonged slump in the wake of a financial crisis is unnecessary if policy responds appropriately convincing. Por ejemplo, take these three examples: 1893, 1907, and 2008. These three crises WERE financial crises that did result in economic slumps!                                                                 

We currently have unemployment at about 7.8%, or several points above anyone's best guess of the NAIRU. Consensus opinion is that the labor market is still in disequilbirum, with desired quantity demanded less than desired quantity supplied. What is the mechanism that is supposed to bring the market for work into equilibrium? It's the real wage, or the nominal wage / price level. A coherent story about the slump is that the financial crisis caused credit markets to contract and firms to lower expectations of future earnings. This caused a decline in the demand for labor, but because nominal wages are sticky and the price level did not rise, real wages failed to adjust, so more workers are seeking employment than firms want to use as inputs to production. If real wages were perfectly flexible, they would fall in the wake of the crisis, making workers more attractive to employers and causing the remaining jobless to remain so as a result of their leisure/consumption preferences. We had a demand shock. Prices didn't adjust, so we still have a slump. Monetary and fiscal policy (both changes in taxes and targeted spending) can boost aggregate demand. If they haven't, policy makers should be made to answer why. 
The financial crises and recoveries above demonstrate that it IS possible to have a rapid recovery. Maybe prices and wages were more flexible in the past, so demand shocks were not so disequilibrating. But bold movements on taxes, spending and monetary policy can and should go a long way toward mitigating a slump, whatever its origins. Just because poor past policy in other crises may have lead to slow recoveries doesn't mean current policymakers should get a pass. And those who want to throw up their hands and say "It's just how it is after a crisis" are giving a blank check to those in power. A check drawn on the empty account of the unemployed.

Update: John Cochrane weighs in with what I think is the best commentary yet. Here's my favorite excerpt

"If you conclude "recessions are always long and deep after financial crises" then you're saying policy doesn't really matter...so you shouldn't be advocating different policies! If policies matter a lot to the length and severity of recessions, then "recessions are always deep and long after financial crisis" is a meaningless statistic, and a poor fig leaf of an excuse."

Tuesday, October 16, 2012

Things You Won't See on Either Platform...

But probably should. If I were Tsar  running for President, some policies I'd advocate.

1. Re-finance the Federal debt to greatly extend its maturity. This would mean higher interest payments in the immeidate aftermath, but would mean we could lock in extremely low rates for decades, even after interest rates return to "normal." We could save hundreds of billions without changing/doing a thing.

2. Expand free trade and lower/ eliminate tariffs across the board. I was struck in the debate tonight when Obama said "we prevented China from exporting us cheap tires." I ran over two nails in one week and paid out the $%&# for two new tires. Obama directly lowered my real income with that tariff. Tariffs are taxes on American consumers, not foreign producers. Run for Premier of China if you want to get tough on the Chinese.

3. Eliminate farm subsidies. We pay billions of dollars a year in direct payments to agri-business so that they will produce less food. That's right, we collect a round of taxes literally for the privledge of constraining food output and raising prices. That's the intent not just the consequence of the policy. And when food (shock) is expensive, we collect another round of taxes (with the associated dead weight loss) to give people food stamps to buy the food we paid to make more expensive. Lets stop paying taxes to reduce our real incomes.

4. I've saved my favorite and most oft repeated mania policy for last. Yes, change the Federal Reserve Board's mandate from a dual mandate of price stability and low unemployment to a single mandate of a nominal GDP growth rate target. For explanation, click on nearly any prior post.

Rates Are Low in Spain and Italy...

By historical standards.

I finally managed to paint the picture I wanted to see  illustrate the absurdity of the claim that fiscal profligacy is causing rates in Italy and Spain to "spike." Here's rates for both in historical context.
I'll admitt I was taken aback when I saw this. I knew rates weren't incredibly high in historical context, but I had no idea how relatively low rates still were. So Spain and Italy had no trouble financing their debts at rates twice as high fifteen years ago. What's changed recently?
Notice the plung in nominal income growth right after 2009. The recession of the early 2000s doesn't even show up (Europe went into recession then too, right?) These "high" rates are unsustainable in a tight-money environment; if the ECB would play ball and stabilize nominal GDP in the Eurozone, it'd be smooth sailing.

Monday, October 15, 2012

Krugman, Low Rates, and Growth Expectations

One assertion frequently made by Paul Krugman is that low long-term interest rates in advanced economies reflect the expectation of continued economic weakness. Apparently, there's to be a debate in Britain's House of Commons featuring Krugman et. al. on the subject.

I figured I'd investigate this hypothesis with regard to the United States. If low rates imply weak expectations and rising rates rising expectation, I expect rates and the S&P to rise and fall together.
Krugman, as usual, is proved correct by the evidence.                  

Interest Rate Spreads (Again)

See how the U.S. Germany, and United Kingdom have all seen borrowing costs decline, roughly in the same proportion, despite vastly different public finance regimes, budget deficits, and stocks of debt, because they all have their own currencies (the euro being effectively Germany's currency.)
Here's the borrowing costs of Spain and Italy divering from the original three. No real point to this, but its sometimes helpful to have a picture to illustrate a phenomenon. 

Saturday, October 13, 2012

The Agony and the Ecstasy, And the Government Debt

Whoow boy. A big hubub in the blogosphere about whether government debt imposes a burden on "future generations." Lots of input from high places. Check it:

And now for some input from a low place, featuring my hat in the ring.
I've basically made this argument before, in my post about the stance of fiscal policy. Noah Smith spells it out well by framing the situation in terms of the effect on the capital stock, or the K term in the Cobb Douglas Production function.

Y = A(t) Ka Nb
The budget deficit affects the economy by absorbing funds that would otherwise have been invested in private capital. To the extent that the budget deficit "crowds out" this private investment, it does it by raising the real interest rate faced by borrowers. It makes sense that a larger budget deficit would raise the interest rate more than a small one, so that as the deficit grows, it increases the "burden" of future generations. Here's an ad hoc rule of thumb I just invented. It's basically an interest rate elasticitiy of the budget deficit:

(% change interest rate / % change in budget deficit)  < 1 no net "burden" on future generations

(% change interest rate / % change in budget deficit) > 1 net "burden" on future generations

Maybe I'll develop this further later. Perhaps something about future taxes.

Thursday, October 11, 2012

More Russian Dutch Disease...

Featuring the world's ugliest regression. As Russia has increased its economic "openness" (Imports+Exports)/(GDP) in recent years,  it has not correlated with rising income.
Russia needs a development plan to harness foreign direct investment in new capital and technology, and end the reliance on oil and gas exports and capital flight. Here's an article about the Duma trying to ban officials from moving funds overseas

Tuesday, October 9, 2012

Dutch Disease in Russia

As an aside, I've been investigating some trends with regard to Russia's balance of payments, and noticed two startling strong correlations. Both the value of Russia's exports and its growth in real GDP seem to be determined by the price of crude oil, to an extent greater than I had expected. Enjoy. 

* Dutch Disease is a term originating in the 70s or 80s or something when the Netherlands starting exporting lots of natural gas. These exports drove up their real exchange rate, stunting exports of and investments in other manufacturing industries.

New Obama Ad: Sesame Street vs. Wall Street

Here's a former PBS corresondent commenting on Romney's proposed de-funding of PBS:


"And so the reaction to this stylistic turn has been a frothy one from many sectors and it is obvious why. When discussing the elimination of the federal support for public broadcasting, Gov. Romney did not mention the liberal-leaning Bill Moyers or the sparsely viewed classical music performances, he went after the biggest star the network has and one that holds special power over generations -- Big Bird.
PBS itself put out a tersely worded statement on the whole thing, pointing out:
In fact, our service is watched by 81 percent of all children between the ages of 2-8. Each day, the American public receives an enduring and daily return on investment that is heard, seen, read and experienced in public media broadcasts, apps, podcasts and online -- all for the cost of about $1.35 per person per year.
If you wanted to take on PBS there are lots of ways to do it. If you want to pick a fight you will probably lose in the court of public opinion, pick on a muppet -- or whatever Big Bird is."

Sunday, October 7, 2012

Joseph Stiglitz, Nobel Luddite

Evil, thy name is automation. 
Joseph Stiglitz, a Nobel Laureate, is undoubtedly one of the most brilliant economists alive today. From his work on asymetric information and its effects on microeconomic and macroeconomic decisions to his work at the World Bank and the Clinton White House he has proved himself to be a giant in the field. So I was mightly suprised to read this boneheaded quote, with regard to why the Fed's low interest rate "policy" is bad. 


"Today, persistent low interest rates encourage firms that do invest to use capital-intensive technologies, such as replacing low-skilled checkout clerks with machines. In this way, the Fed may still be contributing to a jobless recovery, when we finally do recover."

So additions to physical capital by firms displace workers and kills jobs. If we want to create jobs and end the jobless recovery, we should, I supose, ban purchases of capital equipment by firms and force them to use more labor to produce the same output. Dear God. Actually, I've got a Milton Friedman anecdote right here that's better than my unqualified snark.

"He was shocked to see that, instead of modern tractors and earth movers, the workers had shovels. He asked why there were so few machines. The government bureaucrat explained: “You don’t understand. This is a jobs program.” To which Milton replied: “Oh, I thought you were trying to build a canal. If it’s jobs you want, then you should give these workers spoons, not shovels."

P.S. By the way, I think I know the premise Stiglitz was working with here. Its a micro equilibrium condition that determines how much capital and how much labor a firm will use to hold output constant and minimize costs (hence maximizing profits). It goes like this: 

MPl/w = MPk/r 

Where MPl and MPk are the marginal products of labor and capital and w and r are wages and interest, or the cost of labor and cost of capital. Arithmetically, if you lower r relative to w and hold the marginal products and total output constant, you find it behooves the firm to use less labor and more capital to produce the output. I think Stiglitz extrapolated this single-firm condition into a fallacy of composition to the entire economy, ignoring that increases in investment leads not to displaced labor but to an increase in the marginal product of labor, increased, not decreased, labor demand, and RISING, not constant, output.