Archive for May, 2013

How Wall Street Stole Main Street

May 14th, 2013 1 comment

This graph speaks volumes:

Profits as a Percent of GDP: Financial Corporations vs. Nonfinancial Corporations

We saw a big decline in real businesses’ profit share in the 40s, then a slower semi-steady decline through the 70s, as wages constituted a larger share of GDP. Financial corps doubled, expanding and increasing profits, but they remained small in the big picture.

Then post-80, we saw two big moves: a dive in real business profit share below any historical norm, and the beginning of the long secular rise in financial corp profits share (quadrupling between 1980 and 2010).

How did financial corps achieve this? Simple: they’re licensed to print money, and they devoted that money to paying off the managers of real businesses to hand over those businesses’ profits. The C suite of America’s corporations went from being managers of real businesses creating real value, to being financial prestidigitators. And those individuals were handsomely rewarded for their obeisance to the financial corps.

The people who work for those real companies, of course — the vast pyramid of sub-C-suite toilers who don’t get a share of the kickbacks…haven’t gotten a share of the kickbacks.

Compensation of Employees/GDP

That 4% or 5% of GDP income flow — remember, that’s every year – was transferred from households to financial corporations, courtesy of bought-and-paid-for real-corp CEOs.

Got incentives?

Cross-posted at Angry Bear.

More American Exceptionalism: Drowning the Baby in the Bathwater

May 13th, 2013 Comments off

The OECD has finally updated their national account data with 2011 info for most countries, so I thought I’d update this post from a couple of years ago.

If you’re thinking that the current (overblown) hoo-ra-ra about U.S. government deficits is a result of too much spending, or that U.S. taxes are insanely high and always going up, you might want to think again (click for larger):

Screen shot 2013-05-03 at 10.25.37 AM

While the U.S. number is up from its low or 24.1% in 2009, it’s still hovering at the bottom of the OECD league table.

Got tipping points?

Cross-posted at Angry Bear.

Money Velocity Since 1869: Somebody Please Tell Me What to Think About This

May 11th, 2013 5 comments

Bleg: What’s Wrong with the MPC/Spending-Velocity Argument?

May 10th, 2013 31 comments

I’ve ground the axe quite a bit over the years for the argument that Kevin Drum makes — and dismisses — here.

In brief: poorer people spend a larger share of their income/wealth than richer people. So if poorer people have more income/wealth — if the distribution is more equal — there will be higher money velocity/more spending/more production/higher GDP.

(Search for “marginal propensity” and follow Related Links to see my stabs at this.)

But Kevin — who certainly has the political inclination to make this argument — says:

This sounds pretty plausible, doesn’t it? Higher inequality should generate less consumption, which in turn produces a weaker economy. Unfortunately, the data says something else. “I wish I could sign on to this thesis,” says Paul Krugman, “and I’d be politically very comfortable if I could. But I can’t see how this works.”

Me neither. I spent a couple of months trying to write a magazine piece based on this thesis, and I finally gave up. By the time I was done, I just didn’t believe it. So I gave up and spiked the idea.

I’ve tweeted him and posted a comment, but haven’t heard: what made him give up on this? What convinced him otherwise?

And in response to a recent post where I ground this axe, Scott Sumner responded:

But you really need to give up on that MPC stuff, it was discredited decades ago. Monetary offset rulz.

This in keeping with his seeming assertion that nothing matters except monetary policy, because monetary policy will (or at least should) always offset it.

But still: Sumner, Drum, and Krugman all seem to think that the distribution/MPC/velocity argument has no legs. They’re quite categorical about this.

SRW took a stab at the subject recently, telling a story that I find quite convincing. But didn’t really explain to me why so many feel so certain that it’s not true.

Can folks (especially those who don’t believe this argument) point me to what might be considered definitive takedowns? I have notions about what they might say, but want to see the best argument(s) out there.

These takedowns should, just for instance, convincingly debunk this paper (sorry, gated), which suggests that rising income inequality ’67-’86 resulted in 12% lower consumption spending in ’86 than would have occurred if inequality had remained the same.

Cross-posted at Angry Bear.

Edward Lambert on Effective Demand, Labor Share, Capacity Utilization, and Growth

May 9th, 2013 1 comment

He’s only been blogging since March. His credentials? “Independent Researcher on the equation for Effective Demand.”

That may explain why, aside from a lonely Steve Randy Waldman link, I’ve seen no mention of his work out there. Just another internet econocrank?

I’m wildly unqualified to pass judgment, but Lambert’s built what strikes me as a very interesting, cogent, and coherent model of effective demand, labor share, unemployment, and capacity utilization in growing economies. And he’s extending it fast, including into optimal monetary policy. (Mark Sadowski has been challenging him on the model in comments here.)

I won’t try to summarize his modeling or poke holes — go look at it. I’ll just give you a picture and a few post titles to whet your appetite.

Here’s his UT (“Unused Total”) Index:

The regularity of its coincidence with recessions (especially the ends of recessions), at least, seems like it should raise eyebrows.

Here are some posts to peruse:

What is Effective Demand?

What Non-inclusive Growth Looks LIke

When Labor Share does not rise in the Growth Model

Effective Demand Monetary Policy: the z coefficient

AS-ED Model: Raising Labor Share of Income

Update on AS-ED model: The future has a problem

Given Scott Sumner’s recent reversion to labor share as the appropriate target for monetary policy, I’m thinking that Market Monetarists might find Lambert’s work as interesting as effective-demand-obsessed Keynesians will. MMTers and other Post-Keynesians? His results certainly comport with their political predilections.

Cross-posted at Angry Bear.

Should The Inflation Target be 4.3%?

May 8th, 2013 4 comments

I’m quite tongue-in-cheek in asking that question, but nevertheless: I present for your delectation what at first blush seems like a revealing bit of chart porn (hat tip: Zero Hedge):

You could flip this upside down and replace “Earning Yield” with “PE ratio.”

The data displays a remarkably regular relationship. Equity investors seem to be most optimistic about future economic (or at least earnings) growth when the inflation rate is 4.3%. (It would be interesting to see: did this relationship hold, albeit with the inevitable noise from smaller samples, in shorter sub-periods — and if so, which sub-periods? In particular curious: did it hold equally pre- and post-1971?)

Can we draw any conclusion from this? i.e.:

• Market conditions that are most conducive to economic growth are revealed by a 4.3% inflation rate.

• Equity investors display the most “irrational exuberance” when the inflation rate is 4.3%.

I’d love to hear whether Market Monetarists and MMTers think this has any useful import.

Cross-posted at Angry Bear.

Scott Sumner Goes Marxist, Proposes Targeting Labor’s Share of Income

May 7th, 2013 34 comments

I’m joking of course. He’s still grinding the supply-side axe (though judiciously here, IMO). But you gotta admire a fellow when he follows the logic of the data where his own logic requires him to go. He’s just done three posts about Germany’s growth and unemployment rates through the great recession:

Annualized change, Q1 2006 – Q4 2012:

RGDP: 1.3%
NGDP: 2.4%

But the unemployment rate fell from about 12% to 5.4%.

Lackluster GDP growth coupled with a damned impressive drop in unemployment. How do you account for that in Scott’s long-argued model, where NGDP growth drives employment growth?

As he says, he buries the lede in his first post. Here it is, from the end of the post (I’m reversing these two paras to make it flow even better; emphasis mine, correction his):

Recessions are not caused by less spending; they are caused by less income going to workers.  Usually the two go hand-in-hand, but the German miracle tells us that when they diverge, it is employer employee income that matters most.

When I started blogging I assumed wage targeting would be politically impossible, and knew that NGDP targeting was already a well-regarded concept.  So I latched on to NGDP targeting.  But in retrospect I wish I’d latched on to aggregate employee income.  Call it “income targeting.”

Did I mention admirable? Speaking of the very argument he’s been making doggedly and insistently for years, he says:

I took some shortcuts, instead of staying true to the “musical chairs model.”  In the past I’ve often argued that a fall in NGDP causes unemployment because there is less income to pay workers, and yet hourly wages are sticky.  Some workers end up sitting on the floor.  The logic of that model suggests that the real problem is not unstable NGDP, but rather instability in a component of NGDP, namely total wages and salaries.

And speaking of the school of economics based on that thinking, a school that he’s been primarily responsible for creating and popularizing, he says:

Now that market monetarism riding high, I figured it was time for a vicious internecine struggle for the soul of market monetarism.  Consider this the first shot. 

The fruit doesn’t fall far from the tree, of course; in his second post he attributes the “miracle” largely to “structural”/supply-side factors:

Germany did lots of labor market reforms, which I’ve discussed in previous posts, and this opened up lots of low wage jobs.

The basic idea: the Hartz reforms beginning in 2003 resulted in more jobs, though often with shorter hours and/or lower wages, all netting out to a larger share of GDP going to employee compensation.

This is not crazy. But it’s incomplete. And he even acknowledges that in a nod to his commenters:

Many commenters pointed to various job sharing programs, or subsidies to keep workers employed during the recession. Libetaer used the metaphor of putting 2 workers in one chair.  The one chair reflects relatively meager growth in NGDP, and the two workers represent job sharing.

The key problem I find in his thinking is his glossing over a key word in the preceding: subsidies. He only discusses job sharing, which fits neatly in his musical-chairs analogy. (How about musical benches instead? When the music “stops” — national income is weak — workers squeeze in more tightly.)

But the Hartz reforms did more than make it easier for firms to hire cheap (create more chairs/bench space); they increased subsidies for low-wage and part-time jobs. This 1) makes it easier for employers to hire lower-productivity workers for low wages, 2) gives those lower-productivity workers sufficient incentive to take those jobs, and 3) increases the share of national income going to lower-income workers.

And since those workers have a high propensity to spend their income, all things being equal that distributional shift should mean there’s a higher average velocity of money, aggregate demand, NGDP, etc., all in a virtuous cycle. (See JW Mason here and me here.)

Scott says much the same thing from a different direction:

The welfare loss to a society from a 5% RGDP shock is much greater if 5% of workers lose their jobs, as compared to all workers staying employed, but working 5% less hard.

This is a statement about absolute utility, but (hence, because spending is driven by the desire for utility) it’s also a statement about different policies’ distributional effects on spending and aggregate demand. Because subsistence has (very!) high utility, cutting some subsistence incomes (which would surely be re-spent) results in a bigger hit to aggregate demand than cutting many marginal incomes (which are less likely to get re-spent). It’s straightforward Marginal Propensity to Spend out of income thinking.

I’m here to suggest that the same logic, rather inevitably, applies to subsidies for low-wage jobs (paid for by better-off taxpayers). We redirect disposable income at the margin from higher-income folks, and flow it into the hands of lower-income folks who will spend it on. Got velocity?

Which brings me back to the axe that I’m forever grinding: the best and most feasible structural labor-policy change we could make in the U.S. to improve long-term macroeconomic performance would be to greatly expand the Earned Income Tax Credit (while streamlining its tortured administration and — to increase its “salience” — delivering the credit on weekly paychecks as we do with payroll tax deductions).

If these subsidies were sufficient to make low-wage work/workers attractive for both employers and workers (and perhaps if they subsidized hourly compensation rather than annual family income), we might even be able to do what the Germans, with their generous low-wage subsidies, have been able to do: do without minimum-wage laws.

I bet Scott would like that.

And we still haven’t talked about national compensation/income targeting by the Fed, which promises to be a very lively discussion indeed. (I can just see Ben Bernanke slapping his forehead and looking heavenward.)

Cross-posted at Angry Bear.

No: Less Consumption Does Not Cause More Investment

May 3rd, 2013 178 comments

At risk of stating the obvious, in this post I’d like to highlight a pernicious misunderstanding that I find to be widespread out there in the world.

This is not new thinking. You’ll find a more sophisticated historical account, stated very clearly though in somewhat different terms, in the first few pages of this PDF. Still, despite decades of debunking, this misconception remains ubiquitous. I’d like to explain it in the simplest and clearest terms I can.

Start here:

GDP = Consumption Spending + Investment Spending

Consumption Spending = Spending on goods that will be consumed within the period.

Investment Spending = Spending on goods that will endure beyond the period.

Looking back at a period, from an accounting perspective, it’s obvious that if there’s less consumption spending, there’s more investment spending. This must be true, because that’s how we tally things up, once they’ve happened. There are two types of spending; every dollar spent last year must be one or the other. If there’s less of one, there’s more of the other.

But people conclude: if there is less consumption spending, there will be more investment spending. (So we’ll increase our stock of real stuff, and we’ll all be richer!)

They’re confusing (and confuting) a backward-looking, historical, accounting statement with a forward-looking, causal, predictive statement. Because looking back, GDP is fixed. It has to be; it’s already happened! But in that very instant of thought, people abandon that fixed, historical perspective and think: if one component is smaller, the other will be larger.

This makes no sense at all. Think about it: If people spend more on consumption goods next year, that will cause more production — including production of long-lived goods to increase production capacity. Investment won’t go down because people spend more on consumption. GDP will go up. Next year’s GDP (obviously) isn’t fixed.

Likewise, people tend to think that less consumption spending means there will be a higher proportion of investment spending (so, relatively, more real-wealth production). Wrong again. The backward-looking Y = C + I accounting identity tells us exactly nothing about why people will make their spending decisions — what causes them to choose consumption vs. investment spending. They might choose to increase or decrease either or both, for myriad reasons. One doesn’t cause the other in some kind of simple arithmetic manner.

This seems very obvious. But if you hold this firmly in your head as you peruse people’s statements out there in the world, I think that you will find that many of them do not have it fixed very firmly in their heads.

Cross-posted at Angry Bear.


The Villain of Building Energy Efficiency: Triple-Net Leases. Not Picking the Low-Hanging Fruit

May 2nd, 2013 3 comments

An old friend dropped by recently and we had a few beers on the back deck. He runs his family’s commercial real-estate business; they own and operate half a dozen or so pretty large properties (and just bought another) — a mall, office buildings, mixed use.

I was really curious to talk to him about why commercial property owners don’t invest more in energy efficiency. By all accounts there’s great ROI in doing so — serious low-hanging fruit.

Why do commercial property owners leave five-dollar bills lying on the sidewalk?*

At least, it sure looks like there are five-dollar bills lying around. Here from a McKinsey report (PDF; see page 15) showing how much it costs to save (not buy/pay for) a million BTUs of energy, by instead investing in energy efficiency:

Screen shot 2013-05-01 at 7.21.01 AM

Sorry, it’s hard to see without going to the PDF. But short story: there are quadrillions of BTUs in efficiency savings available for less than $2 per million BTUs.

Now look at the cost of buying a million BTUs instead, to heat your building or power your plant (2011 figures, Energy Information Administration):

Coal: $2.39/MMBTU
Petroleum: $12.48
Natural Gas: $4.72

This is the cost to a utility company buying these fuels. The meter cost of the electricity produced (after line losses, administration, profits, etc.) — the cost for building owners — will of course be somewhat higher.

So it sure seems like there’s money to be picked up. Why don’t building owners do it? The short answer my friend and I came to? Triple-net leases — the ubiquitous standard in the commercial real-estate industry.

In these leases tenants pay per-square-foot rent, plus their pro-rata share (by square feet) of the building’s 1) taxes, 2) insurance, and 3) repairs, maintenance, and energy expenses. (Many NNN leases don’t include pro-rata energy costs, but tenants are separately metered and either pay directly or through the landlord. There are lots of variations, but landlords rarely pay all energy costs.)

Notice what is not included: the cost of improvements — for instance improvements to increase energy efficiency. So the owner gets all the costs, right up front. And the benefits go mostly or completely to the tenants, in the form of lower energy bills.

“But hey,” I asked my friend, “don’t lower energy costs for tenants mean you can charge more rent? Doesn’t it all come out in the wash?”

“Welllllhh,” he said… Most tenants are on long leases. “We just signed a ten-year lease with the anchor tenant for our mall.” My friend won’t see any dollar benefit from those energy savings for a long time, as leases turn over and are renegotiated. And it’s not at all clear how much benefit he’ll get, because tenants tend to fixate on the square-footage rental rate, which would go up. 

Imagine you’re a leasing agent for the building, trying to rent some space. You’re competing with other buildings that haven’t done the energy upgrade, so their rent/square foot is lower. You’re stuck saying “yeah yeah yeah yeah but you’ll spend less on energy!” This, if you even get the chance: Prospective tentants scanning the listings might never even call you because your rent is so high.

A building owner considering a big spend for energy efficiency really has to think thrice: would I rather have a million dollars, cash in hand, or the likely but uncertain prospect of higher profits somewhere (perhaps way) down the road? It’s easy to understand why they make the choices they do.

And all of this is true even though there’s money lying on the ground waiting to be picked up.

It’s a classic coordination problem — people acting in their own best-guess best interests, with ridiculously inefficient results — that is caused or at least greatly exacerbated by the institutional convention of triple-net leases. (The reasons the convention arose are yet another subject, about passing off risk and retaining returns.)

Obviously triple-net is not the sole villain in this very big picture. From the McKinsey report:

Screen shot 2013-05-01 at 8.50.34 AM

Got central planning?

* For those who don’t know the old joke: Two economists walking along, they see a five-dollar bill lying on the sidewalk. One of them gestures for the other to pick it up. “I’m not picking that up,” says the other. “If it were there somebody would have picked it up already!”

Cross-posted at Angry Bear.

“Track Changes” on Fed Statements

May 2nd, 2013 Comments off