Tuesday, October 16, 2018

Trade War

Trade negotiation is inevitable, while trade wars are rare. Will today’s actions lead to a trade war? Much of the discussion of a looming trade war comes from those who emphasize that the US has a trade deficit with many countries. This means that we buy more from those countries than they buy from us. Thus, they have much more to risk in a trade war. We buy a lot from them and if we stop buying it will harm those countries mortally. 

There is nothing wrong with that logic except that it is incomplete. It focuses only on the bilateral relations between us and them. The bigger picture examines the importance of trade to the USA and its main trading partners. 

Let’s begin with a review of the countries that purportedly take advantage of us in the USA. President Trump’s goal is to reduce bilateral trade deficits. Below I list the biggest bilateral US trade deficits in billions of dollars in 2017:

            China             $375
            Mexico              71
            Japan                 69
            Germany           64
            Vietnam             38
            Ireland               38
            Italy                   32
            Malaysia            25
            India                  23
            South Korea      23

(Also among the top 15 countries are Thailand, Canada, Taiwan, France, and Switzerland.)

According to President Trump those countries are the “bad actors.” Notice that China holds a special distinction because the US trade deficit with that one country roughly equals the trade deficit with the next nine. China and the others, according to the logic discussed above, ought to cave soon because they sell so much to the USA. If we tax all that inflow to the US, it could hurt them a lot.

Let’s widen the story. Think about the importance of trade to these countries. The next table shows the total trade deficit of each country – the trade deficit of each country with the rest of the world. That deficit is presented as a percentage of each country’s GDP. Note that the corresponding number for the USA in 2017 was 2.8%.
            China             Surplus
            Mexico             1.4
            Japan                3.9
            Germany       Surplus
            Vietnam            6.2
            Ireland              0.9
            Italy                  1.4
            Malaysia           3.0
            India                 6.4
            S. Korea        Surplus

The point? These countries, except China, Germany, and South Korea, have trade deficits too.  How willing do you think they will be to making their deficits larger so that the US can have a smaller one?

Next, let’s turn to imports. If President Trump had his way, we wouldn’t import anything, except for maybe Cognac and a cigar or two. But he wants the bad actors to buy more from us. He wants them to import more. Below I report each country’s imports as a percentage of its GDP. US imports were 15% of GDP in 2017.

 China               18%
            Mexico            40
            Japan               15
            Germany         40
            Vietnam          99
            Ireland            88
            Italy                28
            Malaysia        64
            India               22
            South Korea   38

The point? These countries love imports even more than we do. But how much more can a country import when it already has a trade deficit? How much more of US exports can they consume?

It is nice to think that we are being taken advantage of by the rest of the world. But the larger truth is that many countries have trade deficits and already import a lot of goods and services. This reality is surely going to stiffen their backs as the US tries to solve its own trade problems by limiting imports to the US and raising exports to the rest of the world.


Tuesday, October 9, 2018

The End of the World?

No, my friends, I am not writing about the Supreme Court. I am not even writing about Donald Trump. I am writing in response to months, if not years, of hand-wringing by some of my friends about various unfolding trends that promise something akin to the end of the world.

Artificial intelligence (AI), productivity, globalization, and the demise of baby boomers are among trends that cause all sorts of consternation if not hyperventilation. I won’t argue that these trends won't disturb our happy society. I won’t even argue that they are not already affecting many people in many places.

Concern for these and other issues is legitimate. What I am saying today is that, while there is much truth to the fact that we have considerable challenges ahead, the end of the world is nowhere in sight. Our biggest challenge is to decide as a nation what we can do so that jobs continue to exist and people are paid enough to keep the economy growing. This is our biggest challenge because it will take thoughtful policy in a very complicated US and global economy. There will always be more than one way to resolve these issues. In a world where politicians would rather spit that compromise, it is hard to see how they can be trusted to do the right thing. Whatever they could do won’t be perfect but sadly it is not clear that they are capable of anything besides giving hateful interviews to greedy media organizations.

But we do have time and it is possible that sanity might return to the political arena. Maybe it will take a severe recession or a flood of Biblical proportions, but there is at least some hope. In the meantime, I suggest we look at some data to reassure ourselves that the end of the world has not already come.

On the first line of the table below are numbers for the productivity of the private non-farm business sector. These are index numbers representing productivity in 2006 and 2018, and then the percentage change in the index over those 13 years. Notice that productivity in the business sector rose by around 15%.

The second line has comparable numbers for employment. The employment numbers are for all employees of non-farm businesses. They are in millions. In 2006, we had 137 million employees in the US. That number took a big dip in the recession down to 130 million in 2010 but then reached 148 million in early 2018. That amounted to an 8.5% increase.

The final row is the employment cost index. This index measures changes in wages and benefits of private industry workers. Starting at an index value of 102.1 in 2006, wages and benefits rose to almost 133 by 2018. That’s an increase of 30 percent.

The upshot of this little table is that we are nowhere near falling off the earth. While these numbers were clearly affected in a negative way by a very scary recession, they show that productivity grew, employment grew, and the wages and benefits of workers increased even faster.

I purposely leave you with this impression of growth. I could have compared this time to previous ones. I could have compared the wages and benefits change to inflation. I could have dissected the employment numbers by manufacturing versus services. There is a lot more I could have done to put changes from 2006 to 2018 in a more complete perspective. But I save that for other posts and other purposes.

I am not trying to say that this is the rosiest of times. I am not trying to say that we don’t need to get to work on solutions. But what I have tried to do with this little table is to suggest that we stop panicking. This is not the worst of all possible worlds. I am no Pangloss but then, again I am no Martin either (characters in Voltaire’s Candide). Pessimism might be warranted by some things we see today – but pessimism surely will not provide the answers. This glass is definitely half-full. How can we get policymakers to work together for us -- to make the glass even more half-full?

2006         2018       %Change
Productivity            94.4        108.2          14.6
Employment         136.5        148.1             8.5
Wages & Benefits 102.1        132.5           29.8
Note: The values are for the first quarters of these years.

Tuesday, October 2, 2018

CBO Budget Projections as of April 2018

The Congressional Budget Office provides projections of federal government outlays and revenues. This projection process is thought to be a bipartisan effort. I thought it would be useful to share their latest projections for discussion. I won't say a lot in this post. Just present the facts. My table below was constructed without the aid of JD by me based on 10-year projections found at the website indicated below. Since 10 years is a very long time, I thought it would be better to focus on the five-year period, 2018 to 2023.

The top of my table presents the usual suspects for government budgeting -- spending, deficits, and debt. I ignored tax revenues in this piece so I could focus mostly on spending or outlays. The bottom of my table gives some details about what are called "mandatory" versus "discretionary" outlays. The first column gives projections for 2018. The second column reports the same information for 2023. The final column is the percent change over that five-year period.

First, the top of the table. Total outlays will rise by 45% in the five years from 2018 to 2023. If you divide 45 by 5 you get 9. Nathan, you do not need to get your calculator. Ignoring compounding, the math implies a 9% average annual increase over five years. I know you will get a 9% raise each year over the next five years. Right? Notice that GDP is expected to rise by only 32% over those years.

On the third line is net interest outlays expected to be paid on the nation's debt. Those expenses will more than double -- a 145% increase from $316 billion in 2018 to $774 billion in 2023. In terms of dollars, the $458 billion increase is the largest for any subcategory of spending. Notice that the national debt is expected to increase from $20 trillion to $26.6 trillion over that time period. And interest rates will rise as well. The table shows that we will make no effort to reverse the increase in debt. The already high annual federal government deficit of $804 in 2018 will increase to more than a trillion dollars in 2023.  Yup -- a one-year government deficit of over a trillion dollars in 2023.

Mandatory spending will gobble up most of the 45% increase of all outlays. While there are a large number of Mandatory Programs, you can see from the table that almost all of that increase is expected to go to spending on Social Security (Old-Age and Survivors), Medicare, and Medicaid. The remaining Mandatory Programs are peanuts compared to what we spend on the big three. Discretionary spending will rise by 16% in comparison. Discretionary spending includes defense and other programs that must be legislated by Congress.

I won't ruin your perfectly nice day by going through all the categories. I will let you do that on your own with your favorite beverage. But notice how so many perfectly lovely programs are being squeezed out because we have to pay more for the big three.

This puts liberals in a bad spot. How do liberals balance the squeezing out of so many programs by three social programs they also love? You conservatives should not be so happy either. While these figures do not have all of defense spending, they do show that military is being squeezed too. How do you get more of what you want out of government and not have these nasty deficits and debts? Seems like being between a rock and a hard place.

Five-Year Projections of Outlays by the CBO 2018 to 2023 as of April 2018. The below link has 10 year projections from which I took these five years.

Data in columns 1 and 2 are in millions of dollars. Since fiscal year 2018 was not finished in April, 2018 is considered to be a projection. 

2018 2023 % Chg
Mandatory 2,546 3,760 48
Discretionary 1,280 1,481 16
Net Interest        316     774 145
Total Outlays 4,142  6,015 45
Deficit      -804 -1,352 68
Debt held by public 15,688 24,338 55
GDP 20,103 26,595 32
Mandatory Outlays
Old-Age and Survivors Insurance 840 1,155 37
Disability Insurance 144 176 22
Medicare 707 1,032 46
Medicaid 383 493 29
Exchange subsidies and
   related spending 58 76 31
Children's Health Insurance Program 16 13 -15
Earned income, child, and etc 87 99 14
Supplemental Nutrition Assis. Prog 69 65 -6
Supplemental Security Income 51 64 24
Unemployment compensation 30 47 57
Family support and foster care 32 33 4
Child nutrition 24 30 24
Civilian Retirement 102 122 20
Military Retirement 54 70 28
Income security for Veterans 83 111 34
Agriculture  17 15 -15
Deposit insurance -14 -8 -46
MERHCF 10 13 26
Fannie Mae and Freddie Mac 0 2 NA
Higher education -4 7 NA
Discretionary Outlays
Defense 622 710 14
Non Defense 658 771 17

Tuesday, September 25, 2018

The Phillips Curve Rides Again

Just when you think the Phillips Curve vanished, it reappears. For those of you who have managed to steer clear of the concept known as the Phillips Curve until now, I would suggest pouring a nice JD over some rocks and watching the grass grow. For those of you who might be even a little curious about this Phillips Curve thing, then read on.

Phillips was one of those New Zealand economists with a lot of initials (A.B.H. aka A.W.H., aka Bill, aka William) before his last name who got famous by noting that there appeared to be a relationship between Ozzie and Harriett – no just kidding – between Ricky and Lucy – just kidding again – between the unemployment rate and wage changes.

This seems innocuous enough, but then real American economists decided to make Phillips even more famous by making the Phillips Curve the truly greatest thing ever in macroeconomics and skateboarding. The first thing they did was replace the wage variable with prices. Thus, they pondered a relationship between the unemployment rate and inflation (the percentage change in prices). I don’t think they got permission from Phillips to make this change but that’s all history now. 

Next they gave the relationship a theoretical foundation. Fancy words – theoretical foundation. The truth is that a monkey with the latest iPhone could have dug up this theory. But sometimes simple things catch on. And they catch on when they support the latest trend in macroeconomics. Recognizing that I am a bit north of my 70th birthday, please understand that when I talk about the latest trends, I am usually referring to the 1960s.

Unlike pink poodle skirts and flat-tops, macroeconomic trends stay around a while. My point today is that the Phillips Curve comes and goes in popularity, but as I was reading the Bible – err I mean the Wall Street Journal – this week it occurred to me that the Phillips Curve had risen from the dead again.

Before I get into those juicy headlines, let’s at least review the basics of the Phillips Curve. Below is a Phillips Curve diagram. The most popular aspect of it is the negative slope that reveals the inverse relationship between inflation and unemployment. Or in more common language, when one of them goes up the other one of them goes down. Sort of like a seesaw.

One might ponder further and say something like, “why?” Why is there a seesaw relationship? The answer comes from short-run macroeconomics and the part of it we call aggregate demand (AD). When households or firms or movie actors decide to buy more stuff, firms get very happy and respond by producing and selling more stuff. To produce more stuff they need more workers and so the unemployment rate goes down. As they hunt for more workers, they raise wages and then they must pass some or all of that wage increase on to their prices. 

Thus when AD increases – unemployment goes down and inflation goes up. Or when AD decreases – unemployment goes up and inflation goes down. Are you seasick from the seesaw yet? That’s basically it. Stay awake Fuzzy.

The big deal is that this little bit of theory is what is behind our love of using monetary and fiscal policy to rev up spending in a flagging economy. Monetary and fiscal policies are designed to pump up AD and therefore save the world from high unemployment – though at a cost of higher inflation.

To get these results, the Phillips Curve is not allowed to move around. It must sit still. Stay Phillips Curve. Stay. Good Phillips Curve. When the Phillips Curve does start to mosey around on the diagram, it messes up the nice seesaw and it ruins the simple world of monetary and fiscal policy. So when the Phillips Curve is jumping to and fro, we forget it exists. But when it sits nicely we take it for a walk.

The last 10 years or so, most economists would rather talk about soccer than Phillips Curves. The unemployment rates around the world went down – but the inflation rate just sat there like a squirrel on Zoloft. That is a sad story for the Phillips Curve. Bad Phillips Curve. 

But all that is changing now. Take Turkey for example. I was going to use Ham instead but we are actually talking about the country, Turkey. The central bank of Turkey recently decided to raise interest rates. And the government got steamed. Why was the government so mad? Because they believe that the rise in interest rates will reduce borrowing for spending and that will cause firms to produce less and fire a lot of workers. Of course, the country would benefit by a slide down the Phillips Curve to lower inflation rates. But the possibility of the higher unemployment rate was too much to risk. Clearly the government of Turkey believes in the Phillips Curve.

Japan is another example of the reincarnation of Phillips. Japan has been bathing in zero or negative inflation for decades. It now seems that inflation is making a comeback – a humble comeback but a comeback nevertheless. So should they be concerned with rising inflation and pull back on stimulus? And risk a rise in the unemployment rate? It's all about Phillips. A decision to curtail inflation will cause higher unemployment if you believe in the stationary seesaw.

It goes without saying that the same discussion is happening in the USA. The Fed has been moving interest rates upward for more than a year now and they plan to keep raising them in 2018 and 2019. A return to normal interest rates, like a return to normal temperatures after sitting in a beer refrigerator for hours, makes sense. But that bit of logic is trampled by the Phillips Curve. The curve was missing in action for 10 years but now all of a sudden it is more popular than a soju in Insadong. Surely if the Fed raises rates a couple more notches, the unemployment rate will rise. Surely if the Fed worries about inflation rising, unemployment will rise.

Okay. Enough about Phillips Curves. Next week I discuss the Davidson Curve. Just kidding again. Who moved my JD?

Tuesday, September 18, 2018

The Goods Trade Deficit Part 2

Last week I discussed the persistent US international trade deficit in goods. I concluded with two points. First, if the goods deficit really is a bad thing, a new approach might be necessary now after 47 years of trying has only made it worse. Second, I suggested that the goods deficit might not really be such a bad thing and that we might focus our policy efforts elsewhere. To make this second point I briefly made some points about trade in services and various assets.

This week I’d like to follow up with the idea that the trade deficit might not be such a bad thing.

To start with, discussions of US International Trade are supported by figures collected by the US Bureau of Economic Analysis and found in what is called the Balance of Payments (BOP). That’s a very misleading term and ought to be replaced by something like Stuff People Don’t Know about International Transactions (SPDKIT).

Even if this is likely to put the Tuna to sleep and cause Nathan to hyperventilate, I am going to educate you goonies about the BOP. I will do this with the below table which reports results for 2017. Once everyone is totally asleep I will then come back to the reason why all this supports my idea that the goods deficit is not such a horrible thing.  

First, the goods deficit of  ($808) billion is shown at the top of the table.

Second, just below the goods numbers are the services numbers. While some people like to say services can be aptly defined by what people at McDonalds do, services is a much broader category with some very sophisticated outputs and very high wage inputs. Services include at least the following industries – travel, transportation, finance, banking, education, retail and wholesale trade. Services account for about 70% of the US national output of about $21 trillion dollars. Notice that we had a trade surplus in services of $255 billion in 2017.

Third, the US is actively engaged in buying and selling financial assets. For example, Germans buy US government bonds and US citizens buy stocks of British companies. The table lists three types of cross-country investments which show purchases of Financial Portfolios, Bank Loans and Deposits, and Direct Investments. Financial Portfolios relate mostly to when we buy each other’s stocks and bonds. Direct Investments are when we buy each other’s companies. Loans and Deposits are self-explanatory.

Adding together the balances of these three financial accounts gives you a total surplus of $353 billion. Adding together the surpluses of these three plus services gives you a total surplus of $608 billion.

Tired of adding and subtracting?

One point of this exercise is that there is much more to international trade than goods imports and exports. Clearly a goods deficit of more than $800 billion has negative impacts. It does directly impact employment and it does manage to send US dollars out of the US. But a surplus in services does just the opposite. It increases jobs in the USA and it brings dollars back into the USA.

The story is similar for trade in assets. The financial surpluses show that foreigners love adding US bonds and stocks to their portfolios and they love buying ownership positions in US companies. The benefits should be obvious. When they buy ownership in companies they make it easier for these companies to raise money for investment purposes.

When foreigners buy US bonds and stocks they strengthen these markets too. As they drive stock prices up they lower the cost of capital to firms. As they buy government and private bonds they lower US interest rates and reduce the US cost of capital.

This latter point is more important than one might think. In the US we don’t love to save. We love to spend. As a result, capital is scarce and the cost of capital is higher than it should be. As foreigners bring their savings to the US they augment or pool capital and make it easier and less costly for us top borrow and invest.

This is getting a bit long so let’s wrap up. There is more to trade and to US health than goods. If we worry too much about goods we might threaten these other valuable activities. If bad policy on goods trade makes foreigners move their savings away from the US, then a lot of Americans will suffer as the stock market swoons and the cost of capital rises. Finally, global competition for US goods is not going to end with China. So long as developing countries want to compete with us and so long as their workers make only fractions of what our workers make, we will have a difficult time competing with them. Rather than bring all this activity home we should decide what we do best and what will sustain our workforce in the decades to come. 

Table (In billions of dollars)

Exports of Goods                              1,553
Imports of Goods                              2,361
     Goods Balance                                    (808)

Exports of Services                              798
Imports of Services                              543
     Services Balance                                  255

US Portfolio Investments Abroad       587
Foreign Portfolio Investments in US  799             
     Portfolio Investment Balance            212

US Loans/Deposits from Abroad       219
Loans/Deposits to Foreigners in US  384 
     Loans/Deposits Balance                     165

US Direct Investments Abroad          379
Foreign Direct Investments in US     355
    Net Foreign Direct Investments        (24)

NOTE: This presentations leaves out several smaller items that compose the US BOP Accounts so that we can concentrate on the main items. This presentation also does not mention that some of these items are part of the Current Account while others are part of the Financial and Capital Account.  

Tuesday, September 11, 2018

The Goods Trade Deficit

President Trump has made the US goods trade deficit the center of his economic agenda. He believes that the US is being treated unfairly when it comes to trade in goods. He concludes that this is bad for US workers.

Since international trade is like a giant sausage or at least a meter-long bratwurst, let's try to ignore for a moment most of the aspects of international trade and just focus on the US goods trade deficit. As its name implies, we now focus on only goods. That means for the moment we are ignoring trading of services and various kinds of assets. As Joe Friday used to say, "just the facts on goods ma'am." Okay, he didn't really say that but I had fun saying it anyway. Goods are tangible things that tend to stick with you. So we can begin with sticky buns. Trade in goods includes other tangibles such as agricultural products, autos, trucks, computers, phones, and much more.

The international trade balance in goods equals goods exports minus goods imports. In 2017, the US exported almost $1.6 trillion in goods to other countries. That sounds pretty impressive. But keep in mind two things. First, in 2017 the total amount produced of all goods and services (Gross National Product) in the USA was close to $20 trillion. So in terms of the whole amount of production, goods exports was about 8% in 2017. I would call that peanuts except it might be taken as an insult to peanuts.

Second, we sold $1.6 trillion of goods to people in other countries -- but here's the kicker -- we bought about $2.4 trillion from them. My friend Chuckie T. says that is really cool. We got a lot of stuff, and we didn't have to make it ourselves. But that isn't how President Trump thinks. He would prefer for all that stuff to be made here by US workers. That deficit of about $807 billion is a black eye. It represents to him what the US is losing.

So for a moment, let's stick with the black-eye interpretation. As anyone who has ever suffered a black eye knows, it is not a thing to cherish  It hurts. One must remedy it, but before we start throwing around remedies, let's turn to a bigger picture.

The goods balance has been negative since 1971. I found that information at the US Bureau of Economic Analysis (https://apps.bea.gov/iTable/iTable.cfm?isuri=1&reqid=62&step=2&0=1). I counted on my fingers and concluded that the US has had a goods trade deficit for 47 years. Wow. Turning around something that has been in deficit for 47 years could be quite an undertaking. The plot sickens -- I know it is supposed to be thickens but it really does get worse.

I used a graph from the St. Louis Fed (below) to show the goods trade balance since 1992. Notice some interesting things about that graph. First, the US goods trade deficit gets worse from 1992 to 2017. Second, the only thing that seems to improve the goods deficit is when we have recessions (vertical shaded areas in the graph) in the US that make us poorer and less likely to buy goods (both domestic made and imports). A cynic might conclude that recessions are great ways to reduce goods deficits, but one can plainly see that the remedial impacts of recessions are temporary. And that would be a very painful way to reduce deficits.

Let's suppose you lost undesirable weight gradually over a period of 25 years. We might conclude that extreme diets did not bring about that result. The continued desired loss of weight probably came because you made permanent and important changes in your life. And so it goes with goods trade deficits that have been around for 47 years and clearly worsening for 25 of those years -- there is something fundamental going on. And that something fundamental is not going to be easy to change.

We have had a lot of presidents and congresses in those 47 years, and it is probably true that not one of them organized a party to celebrate larger goods deficits. Yet, despite a lot of talk and some actions here and there, we are here in 2017 with goods deficits that seem to be getting bigger and bigger.

Let's suppose goods deficits are really bad for us. Then perhaps Trump's different approach to goods deficits is worth trying. Apparently his predecessors just made things worse. Their methods might have been sweeter and more humane but let's face it: if this is a problem, then sweetness may not be the best approach. If we want to reverse all those goods deficits, then it may take a fresh approach. You've heard of good cop/bad cop. Maybe it deserves a try.

Let's suppose, instead, that goods deficits are not so bad for us.  Seventy percent of our national output is services. We are very good at making and competing with services. Our services trade balance in 2017 was a surplus of $255 billion. As buyers we want goods and services. As producers we want to make services. So clearly -- we WANT a trade deficit in goods.

We also "export" a  lot of financial and real capital to the world. Maybe we should be focusing more on what we can do (services and assets) rather than what we can't (goods).

Tuesday, September 4, 2018

Wages, Employment and the Plow Horse Economy

Today's blog is about employment. For most of us, employment is a love/hate thing. No matter how exciting and challenging a job might be, there are days when you would prefer to pull the covers over your head and just chill as the alarm clock ticks on and on. But we know that if we do that every day, we might tire of watching Kelly Rippa and various other morning talk shows.

Work not only gets us out of the house, it gives us a paycheck. And that's the point of this exercise today. Last week I pondered why wages had been growing so slowing in the last decades especially when labor productivity was growing much faster. I was stumped. But then after a generous glass of JD, I got into a conversation with a neighbor and may have discovered at least one reason for the sad behavior of wages in the USA.

If productivity is rising, firms have more than one way to react to that happy outcome. They can enjoy the profits associated with the stronger productivity. Second, they can split the proceeds with their workers. Third, they can do neither and take the opportunity to exploit their new efficiencies by hiring more workers and beating the crap out of their competitors.

There are many factors that might cause firms to choose among those and other alternatives. Stockholders usually enjoy a nice dividend check, especially in January when they have to pay for the holidays. Workers just love a bonus or a pay increase. Honey, now we can afford the monthly payments on that new Lada SUV we always wanted.

What about the third choice? Why make existing workers and owners unhappy by hiring even more workers? One answer -- that came after the above mentioned JD (or two?) -- is that the choice may be affected by the firm's expectations about future economic growth.

We know that ever since the global recession of 2008-9, many people lost faith in the resiliency of the US economy. Some thought that the recession proved that capitalism had peaked. The rush to government control and regulation reinforced the idea that capitalism was breaking down. Even without such extreme beliefs, many simply saw reasons why economic growth might never return to those heydays when the economy could muster 3% or more growth each year.

Even in 2018, there are many dour forecasts that after a tax-induced sugar high, the economy will fall back into 2% growth. Imagine a mindset since 2001 that simply wasn't very sure that even moderate economic growth would return. Brian Westbury of First Trust named this situation the new Plow Horse Economy, with no intended insult to plow horses.

With such a dismal forecast, it might make sense for companies to do things that are reversible. They wanted to take advantage of the short-term strength of the economy, and they could do that by hiring more workers. When stagnation returned, they could reduce employment levels as necessary. They would not be stuck with higher permanent wages.

The behavior of wages and employment seem compatible with the above hypothesis. Last week I showed how average annual real earnings of the business sector barely rose in the years between 2001 and 2018. The graph below shows no similar phenomenon in hiring. The chart plots annual changes in employment (all employees of non-farm businesses) since 1939. The number 4,000 on the chart is in thousands so that represents a one-year increase of employment of 4 million workers. While that change didn't happen very often, we can use that as a benchmark for the largest one-year changes in employment.

We can also see that employment is banged around by recessions -- the vertical shaded areas. Ten times in the graph, employment declined from one year to the next. (An employment decline is a negative value on the chart.) Notice that employment dipped by 6 million workers in the latest recession.

The 2 million mark is interesting. Until 1965, the US economy did not have many years when employment increased by more than 2 million jobs. Between 1965 and 1998, it was common for the US economy to create more than 2 million jobs. The graph looks pretty messy right before and after the recession, but notice that in all 6 years (2012 to 2017) after the recession, the economy again produced more than 2 million jobs. 2018 will continue that record. The average change of those 7 years (2012 to 2018) will likely be around 2.54 million jobs per year.

It's interesting that the average increase in employment (leaving out the decreases in recessions) was about 2 million jobs from 1965 to 2001.

The point? A simple explanation for wage sluggishness might be companies preferring to weather the current economic environment by hiring workers rather than paying them more. But this could change. Wages have been responding to tighter labor markets in the last few years. But much depends on expectations about the future. Are we on a sugar high? Or will we return to historical economic growth? If and when expectations turn more positive, we should see those wages returning.

Tuesday, August 28, 2018

Wage Stagnation and Globalization

William Gladstone wrote in the Wall Street Journal on August 14 that "wage stagnation is everyone's problem." I agree, but I strongly disagree with his analysis of cause and effect. Wage stagnation is a problem for the economy's growth and very much a problem for the people who find their wages stagnating. The challenge is doing something about it. Something that will work.

After looking at many possible causes of wage stagnation, Gladstone quotes a single Federal Reserve Bank of San Francisco publication that attributes 85% of the decline in labor's share to globalization. Since I know that there have been hundreds, if not thousands, of articles written about the many impacts of globalization, it made me wonder why he chose only one single article to support a very extreme claim. I promise I will read that article and get back to you. But today I decided to look at some relevant data and see what it says.

I didn't look at wage data because I know that wages are not the exclusive source of income for most workers. Most of us get benefits at work. Some grocery workers lift a banana now and then, and many of us have retirement and health benefits. When you combine wages and benefits, you get something called earnings. If a worker accepts a better health plan in lieu of a wage increase, one should count that benefit. So earnings is a superior measure of what the employee gains.

I also chose constant dollar earnings because that deflates the earnings figure for changes in the cost of living. The Labor Department deflates earnings with the consumer price index. With constant dollar earnings, we get a pretty good measure of how much the spending power of employees changes over time.

I chose the time period from 2001 to 2018 because Gladstone argued that most of the labor wage problems stemmed from that time period. The data found in the table below come from the US Bureau of Labor Statistics.

BLS loves to collect this kind of data. Among the many economic times series they publish, I found information about constant dollar earnings for a number of occupations and industries. I was hoping by looking at this information I could see if there is a strong case for a large impact of globalization on the earnings of US workers. It is well known and often cited that foreign countries have stolen jobs from America, especially manufacturing jobs.

The table presents data for various US occupations and industries. The numbers for June of 2001 and June of 2018 are called index numbers and represent the levels of constant dollar earnings in those years. The last column presents the cumulative change over those 17 years. At the top is the average for all civilian workers. The table shows that the buying power of wages plus benefits rose by 10.2% over those 17 years. The typical employee in 2018 could buy about 10% more than he could in 2001.

The next part of the table gives similar data for various occupations. The strongest real earnings growth was the 14% increase for the occupation called Office and Administration. The lowest increase was earned by the category called Management, Business, Finance. Other weak growth occupations included Production and Management Professional. While this occupation information has no direct bearing on which industries were impacted the most, it does show that a broad spectrum of employees had less than average earnings growth. Production workers were among that group with less than average buying power increases. But so were many office workers.

The bottom of the table shows changes by industry. Workers at Hospitals and those in Administrative industries did the best while those that produced Goods and Manufacturing did the worst. Aha, you say. See, globalization hurt production workers! But by how much? The average worker saw her buying power increase by 10.2%. Goods producing workers earnings expanded by 9.2%. That is a cumulative difference over 17 years. That means that the buying power of the average worker beat that of the goods producer by 0.06% per year. If the average worker had an increase of $100 in a given year, then the production worker had an increase of $99.40.

Workers in Public Administration firms saw their buying power rise by 16.8% over those 17 years. That is 7.6% more than workers at Production firms. That sounds like a lot but when you look at the average yearly amount the major difference disappears. The gap suggests an improvement of 0.45% per year. If a worker at a Public Administration firm had an increase of $100, then the worker at a Production company would have gained purchasing power of about $99.54.

I redid these calculations several times, and they are correct. The reason why we might disbelieve them is that an increase in the buying power of wages of around 10% over one year is great -- but over 17 years it is tiny. Thus the differences among industries and occupations are even tinier. Maybe globalization did impact production workers -- but the Labor Department tables suggest that average employees of none of these occupations and industries got rich.

I'm not sure globalization had much to do with all that but it is worth pondering the real causes. The US is a very large economy and trade is a relatively minor part. If employee earnings have grown too slowly, we might want to look a little harder at what is causing that. Check out this blog next week. I will offer one explanation then.

Constant Dollar Employment Cost Index
As of June in each year
2001 2018           Change
All Civilian Workers 94.5 104.1 10.2
Management, Professional 94.6 103.8 9.7
Management, Business, Finance 96.1 104.7 8.9
Sales and Office 94.2 104.3 10.7
Office, Administration 93.6 106.7 14.0
Natl Resource, Constrn, Maint. 93.8 104.4 11.3
Construc, Extraction, Farming, etc 94 104.3 11.0
Installation, Maintenance, Repair 93.6 104.5 11.6
Production 94.1 102.6 9.0
Transportation 95.5 106.6 11.6
Services 95.2 105.4 10.7
Goods 93.6 102.2 9.2
Manufacturing 93.3 102.1 9.4
Services 94.7 104.5 10.3
Education 93.5 103.9 11.1
Healthcare and Social Assistance 93.5 103.6 10.8
Hospitals 90.9 104 14.4
Public Administration 91.4 106.8 16.8

Tuesday, August 21, 2018

Lesson 23 The Hidden Bond Market

The market approach was very popular when I learned macroeconomics. A macro model was composed of several markets – for goods and services, labor, money, and financial markets (bonds and stocks). By studying those markets we would learn about changes in things such as output, unemployment, wages, prices, and interest rates.

While each market could be studied separately in isolation, the trick of macro was to study them as an interconnected system of markets. What fun. We learned that something that first disturbed one of the markets, for example, the goods & services market, could subsequently affect outcomes in the other markets. Not everything was obvious by looking at one market. You had to study the whole system. 

Think of the US economy as being composed of a bunch of lily pads. A frog lands on one of those pads and impacts that one pad. But then the change in that one pad may affect the whole pond and all the other pads. The impact of those pads then reverberates around until that dang frog leaves the pond. That’s the way we think about macro. Something might disturb the labor market but before all is done, all the markets will have been impacted and therefore that one initial change might affect output, employment, wages, price, interest rates and more.

Isn’t macro fun? Lily pads! Frogs!

An economist named Leon Walras (pronounced vall rah) was diddling around with macro systems of markets and decided that one could focus on all the markets except one. You would always know the results for the “dropped” market because it was totally determined by looking at all the other markets. It became traditional to “drop” the bond market via Walras’ Law. That does NOT mean there is no bond market. It does not mean that the bond market is unimportant. It means only that one can learn all one needs to learn about all the markets without directly addressing the bond market.

The bond market is, therefore, hidden in macro models. It is lurking in the background but generally not in direct view. (Many of us learned something called the IS-LM model in macro. The IS curve represented goods & services and the LM curve was the money market. The bond market was "dropped" and we just looked at goods, services, and money.)

Aside from silly macro modeling, why would a normal human care about any of this? The answer is that sometimes the hidden bond market is forgotten, yet sometimes the bond market is very important. Today, this is especially important given all the focus on the Fed and its impacts on interest rates. 

People mistakenly think the interest rate is determined in the money market and is very much impacted by the Fed’s policy decisions. That belief oversimplifies the truth. The interest rate is the rate of return on a bond or other similar credit instruments. Changes in the supply and demand for bonds, therefore, have fundamental impacts on interest rates. To forget the bond market is to leave out critical factors impacting interest rates.

Today, we are concerned that Fed policy is going to raise interest rates. Our eyes are peeled for Fed policy meetings and the resulting impacts of their decisions on interest rates. But wait, there is much more to it. The Fed might influence interest rates, but much depends on the other factors in asset markets. For example, because the government is going to have large deficits in coming years, the Treasury is going to sell a bunch of government bonds to finance those deficits. Call that a large increase in the supply of bonds. Without a corresponding increase in the demand for bonds, that launch of new bond sales puts upward pressure on interest rates. One could argue that the Fed need do very little to raise interest rates since the Treasury is going to do a nice job of lifting them anyway.

Think about other borrowing in the economy. Firms will need to borrow more to permanently raise the amount they spend on plant, equipment, and innovation. Students will likely borrow more, too. There seems to be no end to how much we want to borrow for new cars. In a strong economy, all of that borrowing combined with the Treasury’s borrowing could be putting strong pressure on rates to rise. What if the Fed pushes rates even higher?

What I am suggesting is that ignoring the “dropped” bond market could result in interest rates rising too much too soon. If rates rise too much, this could trigger the next recession. Interest rates are returning to more normal higher levels due to the usual impacts of a growing economy that is reliant on debt. The Fed seems overly worried about inflation these days and is very willing to push rates upward. But they should also be worried about the bond market’s impact on interest rates and instead be focused on not letting interest rates rise too much.

The Fed is always somewhere between a rock and a hard place. The Fed finally decided that interest rates were too low. Sadly, it might be true that the real worry is that rates may be already rising too much. Why is the Fed always a day late and a dollar short?

Tuesday, August 14, 2018

Mr. Knowitall

Correct me if I am wrong, but no one wants the label Mr. Knowitall. That’s how many of us felt about our parents who were always ramming their half-baked ideas down our throats. We swore we would never be like them. One problem with Mr. Knowitall is that we  know he is trying to impress us with his vast store of knowledge. But worse than that obnoxious trait is that he really thinks he knows it all. He has nothing left to learn. So he listens very little and pontificates often. Communication is a one-way street. Yes, shes can be knowitalls too! 

None of us likes to be wrong, especially when we are arguing with friends and relatives. But it is the essential nature of our world that we are usually wrong. Most of the valuable or interesting things are complicated if not uncertain. What is the best way to raise your child? What is the best diet for you? What is the best way to get from Bloomington, IN to Burnsville, NC? How do you eliminate poverty? How do you stop chipmunks from digging under the foundation of your house? What is the best way to stop terrorism?

The above questions are debatable. There are two or more sides to each question. While there might seem to be a best answer today to one of these questions, we know that there is no guarantee that provisional knowledge today is perfect or that what worked yesterday will work today or tomorrow. Things change and therefore so do the correct answers. Correct answers are never 100% correct and are qualified or transient depending on changing conditions.

One response is to think that there is never a correct answer and since we are always wrong, we might as well have no opinion. While that might be good for some people, another option is to accept what you think is the best answer today but keep an open mind about what might change your opinion tomorrow. We lope along over time searching for the best truths.

While that might sound overly philosophical, another way of saying all this is that most of us try to learn. We read, we talk to people, we watch television. And best of all, we argue. Argue? Are you kidding? One connotation of argument is two sweaty red-faced people with different opinions trying to win at any price. Call him names! Make fun of her parents? Associate him with a cult. Whatever you have to do, argue to win!

But argument doesn’t have to be like that. Argument can be the best thing you did that day. Argument can be the way you learn. To argue a point, you have to first become acquainted with the topic. You then put together your best argument for a specific result. You might say spanking is a good approach to child-rearing. Your adversary, if you listen to her, will explain why it isn’t the best approach. If you both really listen, you might learn some things that you overlooked. Or you might raise the importance of something you thought was unimportant. The point is that no one knows everything. 

Argument is a wonderful way for spirited people to learn more. There is nothing like a contest to make you work harder. The everyday contest of argument is what can make us stronger and more confident about what we think we know. But it can also make us more humble and willing to keep learning. 

What bothers me today is that I see very few examples of people learning from each other when it comes to the most important issues of our day. People seem quite adept at memorizing an ideological mantra. They shout it at an opponent. And when something comes out of the mouth of the opponent, they shout their mantra louder. The opponent then shouts louder still. This is one-way communication at its worst, and it leads to zero learning. 

I had the loveliest conversation with one of my children recently. And yes, JD was involved.  It was about immigration. I was so proud of both of us because we listened to each other. I think we are each better informed because we both spoke and listened. I am not sure that either one of us changed our minds considerably, but I do think the conversation opened some new doors for learning and making future decisions. I feel especially blessed to have a family composed of people who try to keep learning and do it by arguing with and listening to each other.