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The postwar period has seen a huge increase in the credit-to-GDP ratio, driven in large part by mortgage lending. (See here for what I have written about “mortgage Keynesianism.) And how has this phenomenon affects US economic recoveries? In an economic report for the San Francisco Fed, economists Òscar Jord, Moritz Schularick, and Alan M. Taylor examine that question (ans they refer to the above chart]:
Figure 3 confirms several well-known results and provides some new ones. First, recessions associated with financial crises are deeper and last longer, no matter the era. Second, it was harder to recover from any type of recession in the pre-WWII era than it was later. The typical postwar recession lasted about a year. After two years, GDP per capita had grown back to its original level and continued to grow for the next three years. Financial crisis recessions lasted one year longer and only returned to the original level by year five.
More interesting in Figure 3 are the two alternative scenarios in which credit in the expansion grows above average. A credit boom, whether in mortgage or nonmortgage lending, makes the recession slightly worse in the prewar period, especially when associated with a financial crisis. But in the postwar period an above average mortgage-lending boom unequivocally makes both financial and normal recessions worse. By year five GDP per capita can fall considerably, as much as 3 percentage points lower than it would have otherwise been. In contrast, booms in nonmortgage credit have virtually no effect on the shape of the recession in the same postwar period.
Why the difference? At this point we can only speculate. A mortgage boom gone bust is typically followed by rapid household deleveraging, which tends to depress overall demand as borrowers shift away from consumption toward saving. This has been one of the most visible features of the slow U.S. recovery from the global financial crisis (Mian and Sufi 2014).
If Congress and the President were compelled to design from scratch a policy to increase upward mobility, it’s likely that they would (eventually) come to agreement on a set of strategies. The policy would try to increase parent incomes, increase work among parents, reduce out of wedlock births, and boost the skills of poor children. Welfare reform seems to have succeeded advancing the first three of these objectives. The implication is that further safety net reforms along the same lines—require more of beneficiaries but provide more in terms of work supports—could also move more poor kids up. And if conservatives were also to introduce a serious early childhood agenda, we’d have all four bases covered.
Just how tight is the US job market? With America getting older, you have to control for the aging factor. One way to do that is by examining the employment of males 25-54. David Andolfatto and Michael Varley of the St. Louis Fed go one step further and compare US employment rates to those of Canada. Over the long term, the rates in both economies have tracked pretty closely.
One difference is that Canada had a long, nasty recession in the early 1990s while the US counterpart was shorter and shallower. But our Great Recession in 2008 was worse than Canada’s downturn. Andolfatto and Varley speculate whether the 1990s Canadian downturn suggests where the US might be in its labor market recovery (based on the above chart):
It is tempting to conclude, on the basis of this comparison, that the U.S. recovery in employment is not yet complete. If the Canadian experience is a guide, it may still take three to four years for employment to return to a “normal” level of between 87 percent and 88 percent. Since the current U.S. employment rate for prime-age males is presently 84.5 percent, one could make the case that there is still some “slack” in the U.S. labor market.
Here’s what economists mean when they talk about stagnant middle-class incomes: In the first quarter century after World War Two, median household incomes rose by about 3% a year. Since then, about 0.2% a year, or virtually flat.
Why the big downshift? In a new analysis, Goldman Sachs cites a number of reasons: (a) slower productivity growth, (b) labor getting a falling share of national income, (c) greater income inequality, and (d) rising cost of living, particularly energy and healthcare.
But are middle-class fortunes about to change? Goldman Sachs economists, including Jan Hatzius, say they “expect real median household income to grow significantly faster over the medium and longer term than in the dismal 1973-2013 period.” And the main reason why is that they see “signs that the widening of the US income distribution is leveling off.”
First, the tightening US labor market should favor wage income over capital income. Second, there been a stabilization in the distribution of wage income between workers in the 90th percentile and those in the 50th percentile. Goldman: “In particular, the headwind from a shifting income distribution seems to be abating. After a big widening in the 1980s and 1990s, the distribution of wages has been fairly stable in the last 10-15 years, and the labor share of GDP has now probably stopped falling as well.”
Moreover, the bank also expects better productivity numbers. Real GDP per hour rose 2.8% annually in the quarter century before 1973, but just 1.8% since, including 1.2% during this recovery. But the economists note that much of the weak productivity performance the past few years comes from weak capital spending, not slower innovation. And the former should improve to around 2%.
Goldman’s bottom line: “Our conclusion is that the stagnation in middle-class incomes since the 1970s is likely to give way to moderate growth. … our expectation remains that real median household income growth will return to a growth pace of 1%-1½%. This would only be half as fast as in the immediate postwar period, but still a meaningful improvement over the past four decades.”
My take; Great news if true, obviously, though it should be noted that Goldman has been one of the more optimistic Wall Streets firms. As an aside, I would add that broader measures of middle-income — such as ones that are post-tax and include the value of health and retirement benefits, food stamps, and Medicare-Medicaid — show far stronger income growth in recent decades. The CBO, for instance, finds “cumulative growth in the inflation adjusted after-tax income [including transfers] of households in the 21st to 80th percentiles” was an estimated 40% from 1979 though 2011.” That ain’t nothing, but less than the immediate postwar period. Of course, the postwar period also includes many one offs including tight labor supply and a unique global competitive position.
It’s not just left-wing progressives and Occupy Wall Street remnants who think US income inequality is a problem. A large 2014 Pew poll found about two-thirds of Americans think the income gap has gotten worse and that government has a role in reducing that difference. Even 45% of Republicans think government should do something.
But do what exactly? Noam Scheiber in The New York Times summarizes research that found just 13% of wealthy Americans said government should “reduce the differences in income between people with high incomes and those with low incomes.” And only 17% percent said the government should “redistribute wealth by heavy taxes on the rich.” (Also, according to a different study, the wealthy view the income gap as reflecting the results of individual choices and mistakes rather than larger forces.) The rest of America, on the other hand, finds more appealing the idea of tax-driven redistribution. Scheiber points to a 2013 Gallup poll that found by 52%-45% Americans think wealth should be more evenly distributed with 52%-45% favoring tax hikes on the wealthy.
How will the next US president see things? The same as their donors, according to Scheiber:
Appearing at a candidate forum in late January, three likely Republican presidential contenders — Senators Ted Cruz,Marco Rubio and Rand Paul — all made a striking confession: They considered “the increasing gap between rich and poor” to be a problem. But on the question of whether the government should intervene to solve it, Mr. Cruz and Mr. Paul rejected that approach, and Mr. Rubio appeared to agree with them. When “government takes over the economy,” Mr. Cruz said, “it freezes everything in place. And it exacerbates income inequality.” He proposed lowering taxes and loosening regulations instead. …
Jeb Bush, arguably the most outspoken potential Republican candidate on the subject, has struck much the same posture as his more conservative rivals. “We believe the income gap is real, but that only conservative principles can solve it by removing the barriers to upward mobility,” Mr. Bush wrote when announcing the formation of a political action committee this year. Mr. Bush vowed to “celebrate success and risk-taking, protect liberty, cherish free enterprise.” … It’s not just right-wing presidential aspirants like Mr. Cruz and Mr. Paul whose statements on inequality diverge from public opinion. Hillary Rodham Clinton, though she has been more open to a government role in solving the problem, has yet to mention tax increases as a possible answer.
A few thoughts:
1.) The Gallup poll results on redistribution are roughly same as they were in back in 1985 and haven’t moved much except around the Financial Crisis and Internet stock bubble/bust. The numbers on tax hikes are also about the same as when that poll was first taken in 1999. So greater inequality has not been matched by a markedly greater desire for redistribution.
2.) Maybe one reason for the above results is that income inequality looks most severe when you look at the pre-tax, pre-transfer “market income” numbers of inequality researchers Thomas Piketty and Emmanuel Saez. But the 99% do a lot better – both in terms of inequality and income growth — when you factor in all the redistribution going on through the tax code and welfare state. Other recent research shows upward mobility has also deteriorated despite greater high-end inequality. It’s a complicated story.
3.) While Hillary Clinton has not proposed raising top tax rates, it is not hard to envision her, like President Obama, supporting a reduction in tax breaks favoring the rich and using that money for, say, universal preschool.
4.) How should Republican pols think about income inequality? This is my short version:
The big problem with high-end inequality is not that it necessarily reduces GDP growth. Instead, it increases the impact of barriers to income mobility such as poor schools, pricey colleges, weak public transit, and onerous occupational licensing schemes. If you can’t climb the ladder, then a top rung that’s ever further away becomes a bigger problem. While conservatives should applaud when an entrepreneur strikes it rich thanks to an innovative new idea, product, or service, they should freely criticize crony capitalist policies that benefit the powerful and politically connected, such as special tax breaks, strong intellectual property laws, or the safety net for Wall Street banks that are “too big to fail.”
5.) Let me also add that there is much to be said for limiting inefficient upper-end tax breaks — such as for healthcare and housing — and using some of that dough to expand tax credits that support work and increase take-home pay for working class Americans. At the same time, Republicans should continue to emphasize the need to increase the pace of economic growth as the greatest economic challenge facing America right now — even through polices such as reducing business taxes that may strike some as inegalitarian.
An interesting “what if” scenario from Deutsche Bank’s Gaël Gunubu on H.J. Heinz ‘s purchase of Kraft Food, particularly as it concerns the role of the Oracle of Omaha:
Thought experiment: how would this “merger” have been reported if you swapped the popular, cuddly Warren Buffet with Gordon Gekko? No-doubt critics would have recalled his audacious acquisition of Heinz two years ago. Next the sad tales of fired workers and shuttered factories in order to recoup the 40 per cent he paid above the decade average sector ev/ebitda multiple. Having squeezed Heinz’s ebitda margin to 28 per cent (the global sector average margin is just 11 per cent) the story turns to Gordon’s attack on Kraft. Goosed earnings on a 14 times multiple unfairly justifies taking control of the merged company (Kraft makes almost twice the revenues and more profit). Questions would have swirled around the sustainability of Heinz’s opex cuts and the fate of Kraft’s 22,000 employees. But it’s Warren, not Gordon – so such a narrative is unimaginable.
The disappearance of middle-skill, middle-paying jobs over the past generation is a global phenomenon. One I have written frequently about. The technical term is “job polarization.” Jobs are created at the top and bottom but not so much in the middle. Machines have been replacing humans in middle-skill jobs that involve, as described by economist David Autor, “performing routine, codifiable tasks.” More from the St. Louis Fed:
Whether the routine activities be manual (production, craft and repair; or operators, fabricators and laborers) or abstract/cognitive (sales, office and administrative), they have the common trait of being increasingly performed by machines or computers, goods for which prices have fallen substantially in recent years (both absolutely and relative to labor).
One pattern is that middle-skill/wage jobs suffer disproportionate losses during a recession and then see weak growth during the subsequent recovery. That certainly seems to be the case during the Great Recession and the Not-So-Great Recovery, as reflected in the above chart. But there might be a bit of good news this front, according to economist Josh Learner (via FiveThirtyEight’s Ben Casselman):
The good news is that middle-wage jobs are starting to make a comeback. 2014 was the best year for these jobs since 2005, both in the absolute number of gains and in terms of growth rates. Much of the improvement can be tied to construction workers, however 8 of the 11 broad occupational groups within middle-wage jobs picked up in 2014, including teachers and admin support, while production and transportation remained strong. While economists debate the semantics of the manufacturing renaissance, production employment is clearly on the mend.
That being said, middle-wage jobs still trail the top and bottom. Specifically, while high- and low-wage jobs have fully regained their recessionary losses and never been more plentiful, middle-wage jobs have regained just 43 percent of their losses and remain 4.6 percent below their peak levels. A majority of Americans are still employed in these occupations (62 percent), and while middle-wage jobs will continue to increase in aggregate, their share of the labor market is shrinking.
Also note this chart from Lerner showing where job growth has been:
Kind of looks like an “average is over” economy.
Goldman Sachs is out with a great report on wages — as in, “Where’s the wage growth?” The GS economics team notes the following: “Nominal wage growth as measured by our “wage tracker”—a weighted average of the employment cost index, average hourly earnings, and compensation per hour— has remained broadly flat at around 2%. In contrast, a normal rate of wage growth would be in the range of 3%-4%, as Fed Chair Janet Yellen explained at her first FOMC press conference in March 2014.”
So wage growth as been pretty anemic. Remember, those are nominal numbers. Would a tighter labor market boost wages? Perhaps. But just how tight is the US labor market right now? Sure, the jobless rate has dropped a lot, and it is now at the high end of the Fed’s so-called natural rate. But there is more to this story (as reflected in the above chart):
The “total employment gap”— counting the unemployed, involuntary part-timers, and an estimate of the number of people who dropped out of the labor force for cyclical reasons—still shows about 2pp of remaining slack. From this perspective, the current rate of wage growth appears roughly in line with historical norms.
Then again, it appears that “even clear signs of a tight labor market” in Germany “have produced only a modest increase in wage growth at best.” This perhaps suggests that broader, structural factors — globalization, automation — may be at play there and here. Still, Goldman says, “the most compelling explanation is the most mundane one: substantial slack remains in the labor market.”
What’s the link between entrepreneurship and the welfare state? Dynamic societies certainly require strong, pro-work, fiscally sustainable safety nets. But is there a trade-off where expanding the welfare states reduces entrepreneurship? Or might it actually encourage entrepreneurship?
Over at TheAtlantic, Walter Frick offers economic literature roundup that suggests the latter. A strong safety net encourages startups by making the effort seem less risky, he argues. For instance, a 2014 paper found the expansion of food stamps “in some states in the early 2000s increased the chance that newly eligible households would own an incorporated business by 16 percent.” Another paper by the same author found that “the rate of incorporated business ownership for those eligible households just below the cutoff was 31 percent greater than for similarly situated families that could not rely on CHIP to care for their children if they needed it.”
Likewise, Frick argues, “Obamacare doubles as entrepreneurship policy by making it easier for individuals to gain health insurance without relying on an employer.” Yup, we’re talking about the “job lock” phenomenon. Then there is a 2010 RAND study by RAND that found “American men were more likely to start a business just after turning 65 and qualifying for Medicare than just before.” Finally, it appears that when “France lowered the barriers to receiving unemployment insurance, it actually increased the rate of entrepreneurship.”
[As a general point, not all entrepreneurship is alike or equally beneficial. The rise of Wal-Mart may have reduced the number of mom-and-pop retailers, but it has also been a boon for US productivity. Indeed, as researchers Magnus Henrekson and Tino Sanandaji have pointed out, high rates of self employment can be a sign of economic weakness since taxes and regulation are impeding the ability of startups to become large, successful companies. At the same time, small-time entrepreneurship can get people on the first rung of that opportunity ladder, and it’s a shame government licensing regulations make it harder for so many to do so.]
Now it is one thing to argue that a more robust safety net would be good for US entrepreneurship broadly understood — I think that would be the case in some areas, though I would be careful about eliminating welfare work requirements — and quite another to make the same claim about mimicking the Scandinavian social democracies. In “Can’t We All Be More Like Nordics?”, Daron Acemoglu, James Robinson, and Thierry Verdier argue that “technological progress requires incentives for workers and entrepreneurs [and] results in greater inequality and greater poverty (and a weaker safety net) for a society encouraging more intense innovation.” If cut-throat, inegalitarian US capitalism became more like cuddly Scandinavian capitalism, the US might no longer be as capable of pushing the technological frontier. Check out this exchange between Acemoglu and Thomas Edsall in the New York Times:
Acemoglu said he believes that safety net programs in the United States are inadequate. But, if the thesis that he has put forth is correct, there is room for only modest expansion: “The fact that the United States is the world technology leader puts constraints and limits on redistribution at the top. The global asymmetric equilibrium is at the root of the United States being the world technology leader, but the mechanism through which this matters for innovation and redistribution is the very fact that the United States is such a leader.”
Indeed, the researchers have found a large per-capita gap between Scandinavia and the US when it comes to highly cited patents. The US also has a high-impact entrepreneurship rate three times as high as Sweden. (Of course, open economies benefit from innovation first produced elsewhere.) In short, the US has a pretty special thing going, and we should be careful not screw that up. But that being said, I don’t think universal healthcare access or a more expansive and generous federal wage subsidy or unemployment insurance that helped workers relocate or better public transit would screw that up. (Even a universal basic income or negative income tax would not have stopped Bill Gates or Steve Jobs or the Google guys). As I wrote in Room to Grow, “American workers deserve a safety net that protects them from the worst effects of the economy’s inevitable ups and downs.”
A much-needed corrective by the WSJ’s Greg Ip to the hysteria over the new House rule that requires the CBO dynamically score major legislation. Statically assuming that, say, big tax cuts have no impact on the economy will almost assuredly give you the wrong budget score. Ip notes that the IMF as well as fiscal scorekeepers in the UK and the Netherlands use dynamic scoring:
Done right, dynamic scoring would be an invaluable addition to the policy tool kit. To date, dynamic scoring has yet to show that any tax cut pays for itself; indeed, its results vary considerably with the underlying assumptions and seldom move the deficit dramatically one way or another. Yet it still clarifies the trade-offs and shortcomings of the different choices confronting Congress. … The challenge for the CBO and JCT is to ensure its dynamic scoring is based on models that independent and authoritative economists find reasonable. They should be transparent about their assumptions and the uncertainty surrounding their estimates, and apply those assumptions consistently to different policies. The result should be better information for policy makers.
Of course, policymakers should remember that the US economic is one massive, complicated entity. Thus dynamic models showing huge shifts by nudging tax rates a few points in either direction should be treated with great skepticism. Donald Marron of the Tax Policy Center also suggests tamping down expectations:
Some advocates hope that dynamic scoring will usher in a new era of tax cuts and entitlement reforms. Some opponents fear that they are right. Reality will be more muted. Dynamic scores of tax cuts, for example, will include the pro-growth incentive effects that advocates emphasize, leading to more work and private investment. But they will also account for offsetting effects, such as higher deficits crowding out investment or people working less because their incomes rise. As previous CBO analyses have shown, the net of those effects often reveals less growth than advocates hope. Indeed, don’t be surprised if dynamic scoring sometimes shows tax cuts are more expensive than conventionally estimated; that can easily happen if pro-growth incentives aren’t large enough to offset anti-growth effects.