Mapping Out the Arguments Against Chained CPI

Apr 9, 2013Mike Konczal

Reports started coming in late last week that President Obama’s budget, to be released early tomorrow, will include a change to the cost-of-living adjustment (COLA) for Social Security. Specifically, it will adopt a “chained CPI” (consumer price index) measure.

Many people have been writing stories about why this is a bad idea. I want to generalize them into four major categories of critique of moving to a chained CPI (with one aside). As you read stories about the pros and cons of this change in the weeks ahead, hopefully this guide can provide some background.

Accuracy, or Lack Thereof

Economists like the idea of chained CPI because they think it’s more representative of how people behave when they substitute among goods. In this story, we have been over-correcting for inflation in the past decades.

However, as a letter from EPI, signed by 300 economists and social insurance experts, explains, it is just as likely as we are under-correcting. EPI notes "it is just as likely that the current COLA fails to keep up with rising costs confronting elderly and disabled beneficiaries." The current adjustment is based on an index of workers excluding retirees.

If you look into the data, the elderly spend a lot more of their limited money on housing, utilities, and medical care. Health care costs have been rising rapidly over the past several decades, and it is difficult to substitute on other necessary, fixed-price goods like utilities. With the notable exception of college costs, the things urban wage earners spend money on haven't increased in price as quickly as what the elderly purchase. As a result, the CPI-E (the index tailored to the elderly) has increased 3.3 percent a year from 1982 to 2007, while the CPI-W (tailored to wage earners) has only increased 3 percent a year. Definitionally, through the way it is calculated, chained CPI-W will always be lower than CPI-W. [Edit: This will almost certainly be lower, but it isn't definitionally true.]

As Dean Baker has noted, if accuracy were the only motive for changing COLA, it would be relatively easy to get a full, chained version of the index of prices faced by the elderly and use that. That has not been proposed.

Hedging Unexpected Longevity

Another argument is that this is a relatively small cut, or that a slower rate of growth shouldn’t really be thought of as a cut. But there’s a big problem with this.

There are many nice things about the design of Social Security, but one of them is that it is a form of insurance against the downsides of living longer than expected. Let’s say you retire at 65, believe you’ll live to 85, and save enough to make it to 88 just in case. And then you live to 92. Are those last five years absolutely miserable, with your savings completely depleted and an inability to earn market wages except through begging and charity? No, because my man Franklin Delano Roosevelt and Social Security got your back. Social Security helps hedge against two risks that are very difficult to manage: when you were born (and thus the years into which you’ll retire) and how long you’ll live.

Notice how chained CPI cuts, though. In the same way that compounding interest grows quickly over time because you get interest on what you’ve saved, a lower cost-of-living adjustment creates a lower baseline for future adjustments, so the cuts grow over time.

This means that the real cuts come from people who happen to live the longest. Which is precisely one of the risks Social Security is meant to combat. This is one reason why women, who live longer than men, are much more at risk from these chained CPI cuts.

Aside: Can’t We Balance the Downside?

You’ll notice liberals who support moving to chained CPI have complicated “swallow a bird to catch the spider who’s catching the fly” policy proposals to go along with it. If we swallow Obama’s chained CPI proposal, we’ll need to swallow an age “bump” to catch chained CPI from falling heavily on the very old. But after we swallow the age bump, we’ll need to swallow some sort of exemption for Supplemental Security Income to catch the fact that the change would still fall heavily on the initial benefit level for the poorest elderly and disabled people. And so on.

Doing all these fixes, of course, eliminates much of the savings that people are hoping to get. And it is unlikely that these clever ways of balancing the worst effects of the change will get even a single Republican vote. And of course, in spite of all this effort, Republicans could still call out the president for proposing to cut Social Security.

Neither Grand nor a Bargain

You’ll hear arguments that a Grand Bargain is necessary, so it’s better to bring Social Security into long-term balance now, with Democrats at the helm, than in the future, when there will be less time and an uncertain governance coalition. You can get fewer cuts and more revenue than you would otherwise and take the issue off the table for the foreseeable future to concentrate on other priorities.

But if that’s your idea, then this is a terrible deal and sets a terrible precedent, because this deal would accomplish none of your goals. You'd cut Social Security without putting in any new revenue. And it wouldn't be sufficient to close the long-term gap, so the issue would stay on the table. Indeed, the deficit hawks would probably be emboldened, viewing this as a "downpayment" on future cuts, and require any future attempts to get more revenue for Social Security, say by raising the payroll tax cap, to involve significant additional cuts.

We Need to Expand Social Security

As Michael Lind, Joshua Freedman, and Steven Hill of the New America Foundation, along with Robert Hiltonsmith of Demos, expertly document, Social Security should be expanded in the years ahead, not cut.

Retirement security is meant to be a three-legged stool of Social Security, private savings, and employer pensions. The last two legs of that stool have been collapsing in the past few decades, and there is no reason to believe that this will change in the near future. 401(k)s have been a boon for the rich to avoid taxes and save money that they’d be saving anyway, while it isn’t clear that average Americans have saved enough to offset declining pensions. Median wages have dropped in the recession and are likely to show little growth in the years ahead, which makes building private savings harder. There isn't a ton to cut - even the middle income quintile of retirees, making only around $20,000 a year, get 62 percent of their income from Social Security.

There are many ways to boost Social Security, and the New America paper introduces one. But as the authors note, “[a]ny strategy that expands the reliable and efficient public share of retirement security in America would be an improvement over today’s system, which is biased toward the affluent and skewed toward private savings.” And the best way to do programs is to build out programs that already work well.

Any other stories out there that require a new category?

Follow or contact the Rortybomb blog:

  

 

Reports started coming in late last week that President Obama’s budget, to be released early tomorrow, will include a change to the cost-of-living adjustment (COLA) for Social Security. Specifically, it will adopt a “chained CPI” (consumer price index) measure.

Many people have been writing stories about why this is a bad idea. I want to generalize them into four major categories of critique of moving to a chained CPI (with one aside). As you read stories about the pros and cons of this change in the weeks ahead, hopefully this guide can provide some background.

Accuracy, or Lack Thereof

Economists like the idea of chained CPI because they think it’s more representative of how people behave when they substitute among goods. In this story, we have been over-correcting for inflation in the past decades.

However, as a letter from EPI, signed by 300 economists and social insurance experts, explains, it is just as likely as we are under-correcting. EPI notes "it is just as likely that the current COLA fails to keep up with rising costs confronting elderly and disabled beneficiaries." The current adjustment is based on an index of workers excluding retirees.

If you look into the data, the elderly spend a lot more of their limited money on housing, utilities, and medical care. Health care costs have been rising rapidly over the past several decades, and it is difficult to substitute on other necessary, fixed-price goods like utilities. With the notable exception of college costs, the things urban wage earners spend money on haven't increased in price as quickly as what the elderly purchase. As a result, the CPI-E (the index tailored to the elderly) has increased 3.3 percent a year from 1982 to 2007, while the CPI-W (tailored to wage earners) has only increased 3 percent a year. Definitionally, through the way it is calculated, chained CPI-W will always be lower than CPI-W. [Edit: This will almost certainly be lower, but it isn't definitionally true.]

As Dean Baker has noted, if accuracy were the only motive for changing COLA, it would be relatively easy to get a full, chained version of the index of prices faced by the elderly and use that. That has not been proposed.

Hedging Unexpected Longevity

Another argument is that this is a relatively small cut, or that a slower rate of growth shouldn’t really be thought of as a cut. But there’s a big problem with this.

There are many nice things about the design of Social Security, but one of them is that it is a form of insurance against the downsides of living longer than expected. Let’s say you retire at 65, believe you’ll live to 85, and save enough to make it to 88 just in case. And then you live to 92. Are those last five years absolutely miserable, with your savings completely depleted and an inability to earn market wages except through begging and charity? No, because my man Franklin Delano Roosevelt and Social Security got your back. Social Security helps hedge against two risks that are very difficult to manage: when you were born (and thus the years into which you’ll retire) and how long you’ll live.

Notice how chained CPI cuts, though. In the same way that compounding interest grows quickly over time because you get interest on what you’ve saved, a lower cost-of-living adjustment creates a lower baseline for future adjustments, so the cuts grow over time.

This means that the real cuts come from people who happen to live the longest. Which is precisely one of the risks Social Security is meant to combat. This is one reason why women, who live longer than men, are much more at risk from these chained CPI cuts.

Aside: Can’t We Balance the Downside?

You’ll notice liberals who support moving to chained CPI have complicated “swallow a bird to catch the spider who’s catching the fly” policy proposals to go along with it. If we swallow Obama’s chained CPI proposal, we’ll need to swallow an age “bump” to catch chained CPI from falling heavily on the very old. But after we swallow the age bump, we’ll need to swallow some sort of exemption for Supplemental Security Income to catch the fact that the change would still fall heavily on the initial benefit level for the poorest elderly and disabled people. And so on.

Doing all these fixes, of course, eliminates much of the savings that people are hoping to get. And it is unlikely that these clever ways of balancing the worst effects of the change will get even a single Republican vote. And of course, in spite of all this effort, Republicans could still call out the president for proposing to cut Social Security.

Neither Grand nor a Bargain

You’ll hear arguments that a Grand Bargain is necessary, so it’s better to bring Social Security into long-term balance now, with Democrats at the helm, than in the future, when there will be less time and an uncertain governance coalition. You can get fewer cuts and more revenue than you would otherwise and take the issue off the table for the foreseeable future to concentrate on other priorities.

But if that’s your idea, then this is a terrible deal and sets a terrible precedent, because this deal would accomplish none of your goals. You'd cut Social Security without putting in any new revenue. And it wouldn't be sufficient to close the long-term gap, so the issue would stay on the table. Indeed, the deficit hawks would probably be emboldened, viewing this as a "downpayment" on future cuts, and require any future attempts to get more revenue for Social Security, say by raising the payroll tax cap, to involve significant additional cuts.

We Need to Expand Social Security

As Michael Lind, Joshua Freedman, and Steven Hill of the New America Foundation, along with Robert Hiltonsmith of Demos, expertly document, Social Security should be expanded in the years ahead, not cut.

Retirement security is meant to be a three-legged stool of Social Security, private savings, and employer pensions. The last two legs of that stool have been collapsing in the past few decades, and there is no reason to believe that this will change in the near future. 401(k)s have been a boon for the rich to avoid taxes and save money that they’d be saving anyway, while it isn’t clear that average Americans have saved enough to offset declining pensions. Median wages have dropped in the recession and are likely to show little growth in the years ahead, which makes building private savings harder. There isn't a ton to cut - even the middle income quintile of retirees, making only around $20,000 a year, get 62 percent of their income from Social Security.

There are many ways to boost Social Security, and the New America paper introduces one. But as the authors note, “[a]ny strategy that expands the reliable and efficient public share of retirement security in America would be an improvement over today’s system, which is biased toward the affluent and skewed toward private savings.” And the best way to do programs is to build out programs that already work well.

Any other stories out there that require a new category?

Follow or contact the Rortybomb blog:

  

 

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What Does the Leaked Brown-Vitter Bill on Too Big To Fail Do?

Apr 9, 2013Mike Konczal

Sens. Sherrod Brown (D-Ohio) and David Vitter (R-La.) have been working on a bill to block the largest banks and financial firms from receiving federal subsidies for being deemed Too Big to Fail. On Friday, a draft version of that bill was leaked to Tim Fernholz of Quartz, much to Vitter’s chagrin. So, what does the bill do?

Let’s start with what it doesn’t do: It doesn’t break up the big banks. Rather, it focuses on how much capital they have to hold to protect themselves from disasters and would “prohibit any further implementation of” the international Basel III accords on financial regulation.

But let’s back up. Banks hold capital to protect against losses. The more capital they hold, the safer they are from crisis. As Alan Greenspan said after the financial meltdown, “[t]he reason I raise the capital issue so often, is that, in a sense, it solves every problem.” The “ratio” in question is the amount of capital against the amount of assets. So, if a bank has $10 in cash and $100 in assets, its capital ratio is 1:10.

Regulators set minimum capital ratios for banks. A capital ratio is like any other ratio, with a numerator and denominator. Some amount of capital held goes on top, and some value of the assets the bank holds goes on the bottom. The Brown-Vitter legislation would significantly change both parts of that ratio.

This is where things get a bit wonky: Common equity is viewed as the best form of capital because it can directly absorb losses. Basel III puts more emphasis on using common equity than previous versions. There’s a baseline 4.5 percent buffer, which is supplemented by a 2.5 percent “capital conservation buffer.” In addition, Basel III also has requirements for categories of less effective forms of capital, grouped under Tier 1 and Tier 2, or “total capital.”

As for the denominator, Basel III has risk-weighted the assets held by the firms. Firms use models and ratings to determine an asset’s risk. The riskier the asset, the more held capital needed in case of a loss. An asset rated as less risky requires less held capital. (You may remember the financial crisis involved both the ratings agencies and the financial sector getting these ratings very wrong for subprime mortgages.)

The Brown-Vitter proposal would not adopt Basel III. It would instead have a baseline of 10 percent equity in the numerator consisting solely of common equity. There are also surcharges for capital over $400 billion, which would cover all assets regardless of their risk-weighting. So there would be a significant increase in equity. The denominator would also increase, forcing banks to hold even more capital. This approach has much in common with the recent book “The Banker’s New Clothes,” by Anat Admati and Martin Hellwig, and should be seen as a win for those arguing along these lines.

Though it might seem like a technicality, risk-weighting assets is as significant in this proposal as a higher capital ratio. Risk-weighting was introduced by the first Basel in the late 1980s, using broad categories. It evolved to, among other goals, encourage firms to build out their risk management teams. However, those teams often acted as regulatory arbitrage teams instead. Many people view the system as encouraging race-to-the-bottom regulation dodging, backward-looking strategies that reduce capital held in a bubble and techniques that use derivatives and bad models to keep capital ratios low.

Regulators are growing more critical, both domestically and internationally, about Basel III. That regulation has several measures to address problems with risk-weighted assets, from adjusting the numbers used to requiring capital for derivative positions. But it is unclear how well these will work in practice.

Basel III has to be enacted by the banking regulators in the United States. The process began last summer (see a summary here). As Federal Reserve Governor Daniel Tarullo notes, regulators are expected to finish the Basel III capital rules this year and begin working on the rules for new liquidity requirements and other parts of Basel III.

It is interesting that the Brown-Vitter bill would replace, rather than supplement or modify, Basel III. Basel III has a leverage requirement that does similar work to the extra equity requirements Brown-Vitter recommends. That rule is only set at 4 percent, instead of 10 percent, but could be raised while keeping the rest of the Basel rules intact.

Because even those who want financial institutions to hold a lot more capital and less leverage may see a few downsides to abandoning Basel III. If firms go into Basel’s newly created capital conservation buffer, they can’t release dividends and are limited on bonuses. This, to use banking regulation jargon, is a way of requiring “prompt corrective action” on the part of both regulators and firms, who will normally drag their feet.

Basel III isn’t just capital ratios, though. Another important element is its new liquidity requirements. Liquidity here refers to the ability of banks to have enough funding to make payments in the short term, especially if there’s a crisis. Basel III includes a “liquidity coverage ratio,” which requires banks to keep enough liquid funding to survive a crisis.

Financial institutions have been lobbying against an aggressive implementation of Basel IIl’s liquidity requirements. They saw a small victory when some of the requirements were pulled back in the final rule in January. Brown-Vitter would remove them entirely — a remarkable win for the financial sector if the proposal passes.

(There are already some liquidity requirements made since the financial crisis, but they aren’t as extensive as Basel lll. And because they have evolved consciously alongside Basel III, it’s unclear what would happen to them.)

Note that this bill is explicit in not breaking up the big banks, either with a size cap or by reinstating Glass-Steagall. Two months ago in the House, Rep. John Campbell (R-Calif.) also introduced a bill designed to end Too Big To Fail, which called for banks to hold special convertible debt instruments while also repealing the Volcker Rule. There’s been a lot of talk about conservatives becoming aggressive on structural changes to the financial sector, but so far there’s no evidence of this in Congress.

During the drafting of Dodd-Frank, Treasury Secretary Timothy Geithner argued against Congress writing capital ratios into law, preferring to leave it to regulators at Basel to find an internationally agreed-upon solution. Basel’s endgame is now coming into focus, and there needs to be a debate on how well it addresses our outstanding problems in the financial sector when it comes to bank capital. This bill means reformers might start to rally around the idea that dramatically increasing capital, as well as removing the emphasis given to measuring risks, is an important part of ending Too Big To Fail. Even if that means going against the recent Basel accords.

 

Follow or contact the Rortybomb blog:
  

 

Sens. Sherrod Brown (D-Ohio) and David Vitter (R-La.) have been working on a bill to block the largest banks and financial firms from receiving federal subsidies for being deemed Too Big to Fail. On Friday, a draft version of that bill was leaked to Tim Fernholz of Quartz, much to Vitter’s chagrin. So, what does the bill do?

Let’s start with what it doesn’t do: It doesn’t break up the big banks. Rather, it focuses on how much capital they have to hold to protect themselves from disasters and would “prohibit any further implementation of” the international Basel III accords on financial regulation.

But let’s back up. Banks hold capital to protect against losses. The more capital they hold, the safer they are from crisis. As Alan Greenspan said after the financial meltdown, “[t]he reason I raise the capital issue so often, is that, in a sense, it solves every problem.” The “ratio” in question is the amount of capital against the amount of assets. So, if a bank has $10 in cash and $100 in assets, its capital ratio is 1:10.

Regulators set minimum capital ratios for banks. A capital ratio is like any other ratio, with a numerator and denominator. Some amount of capital held goes on top, and some value of the assets the bank holds goes on the bottom. The Brown-Vitter legislation would significantly change both parts of that ratio.

This is where things get a bit wonky: Common equity is viewed as the best form of capital because it can directly absorb losses. Basel III puts more emphasis on using common equity than previous versions. There’s a baseline 4.5 percent buffer, which is supplemented by a 2.5 percent “capital conservation buffer.” In addition, Basel III also has requirements for categories of less effective forms of capital, grouped under Tier 1 and Tier 2, or “total capital.”

As for the denominator, Basel III has risk-weighted the assets held by the firms. Firms use models and ratings to determine an asset’s risk. The riskier the asset, the more held capital needed in case of a loss. An asset rated as less risky requires less held capital. (You may remember the financial crisis involved both the ratings agencies and the financial sector getting these ratings very wrong for subprime mortgages.)

The Brown-Vitter proposal would not adopt Basel III. It would instead have a baseline of 10 percent equity in the numerator consisting solely of common equity. There are also surcharges for capital over $400 billion, which would cover all assets regardless of their risk-weighting. So there would be a significant increase in equity. The denominator would also increase, forcing banks to hold even more capital. This approach has much in common with the recent book “The Banker’s New Clothes,” by Anat Admati and Martin Hellwig, and should be seen as a win for those arguing along these lines.

Though it might seem like a technicality, risk-weighting assets is as significant in this proposal as a higher capital ratio. Risk-weighting was introduced by the first Basel in the late 1980s, using broad categories. It evolved to, among other goals, encourage firms to build out their risk management teams. However, those teams often acted as regulatory arbitrage teams instead. Many people view the system as encouraging race-to-the-bottom regulation dodging, backward-looking strategies that reduce capital held in a bubble and techniques that use derivatives and bad models to keep capital ratios low.

Regulators are growing more critical, both domestically and internationally, about Basel III. That regulation has several measures to address problems with risk-weighted assets, from adjusting the numbers used to requiring capital for derivative positions. But it is unclear how well these will work in practice.

Basel III has to be enacted by the banking regulators in the United States. The process began last summer (see a summary here). As Federal Reserve Governor Daniel Tarullo notes, regulators are expected to finish the Basel III capital rules this year and begin working on the rules for new liquidity requirements and other parts of Basel III.

It is interesting that the Brown-Vitter bill would replace, rather than supplement or modify, Basel III. Basel III has a leverage requirement that does similar work to the extra equity requirements Brown-Vitter recommends. That rule is only set at 4 percent, instead of 10 percent, but could be raised while keeping the rest of the Basel rules intact.

Because even those who want financial institutions to hold a lot more capital and less leverage may see a few downsides to abandoning Basel III. If firms go into Basel’s newly created capital conservation buffer, they can’t release dividends and are limited on bonuses. This, to use banking regulation jargon, is a way of requiring “prompt corrective action” on the part of both regulators and firms, who will normally drag their feet.

Basel III isn’t just capital ratios, though. Another important element is its new liquidity requirements. Liquidity here refers to the ability of banks to have enough funding to make payments in the short term, especially if there’s a crisis. Basel III includes a “liquidity coverage ratio,” which requires banks to keep enough liquid funding to survive a crisis.

Financial institutions have been lobbying against an aggressive implementation of Basel IIl’s liquidity requirements. They saw a small victory when some of the requirements were pulled back in the final rule in January. Brown-Vitter would remove them entirely — a remarkable win for the financial sector if the proposal passes.

(There are already some liquidity requirements made since the financial crisis, but they aren’t as extensive as Basel lll. And because they have evolved consciously alongside Basel III, it’s unclear what would happen to them.)

Note that this bill is explicit in not breaking up the big banks, either with a size cap or by reinstating Glass-Steagall. Two months ago in the House, Rep. John Campbell (R-Calif.) also introduced a bill designed to end Too Big To Fail, which called for banks to hold special convertible debt instruments while also repealing the Volcker Rule. There’s been a lot of talk about conservatives becoming aggressive on structural changes to the financial sector, but so far there’s no evidence of this in Congress.

During the drafting of Dodd-Frank, Treasury Secretary Timothy Geithner argued against Congress writing capital ratios into law, preferring to leave it to regulators at Basel to find an internationally agreed-upon solution. Basel’s endgame is now coming into focus, and there needs to be a debate on how well it addresses our outstanding problems in the financial sector when it comes to bank capital. This bill means reformers might start to rally around the idea that dramatically increasing capital, as well as removing the emphasis given to measuring risks, is an important part of ending Too Big To Fail. Even if that means going against the recent Basel accords.

 

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The Problem of Rents and the Wilt Chamberlain Example

Apr 4, 2013Mike Konczal

I wrote a piece at Wonkblog over the weekend about economic rents and the possibilities and limitations of conservatives and liberals coming together to tackle them. The issue of combating rents is interesting because it pushes against an argument that is taken to be a common sense and intuitive example of libertarian thought: the Wilt Chamberlain example. Looking at that example might help us understand some interesting issues about rent income. (This argument is taken from an excellent paper on the topic by Barbara Fried. If this blog does nothing but create a bigger audience for Fried's work, as well as Robert Hale's, I'll call it a huge win.)

Let’s take your favorite example of rent income. Perhaps it is excessive copyright, criminal sanctions for unlocking your phone, zoning regulations that protect incumbent interests, live-saving drugs that are rationed above a market-clearing price due to patents, utilities that go unregulated, or something else.

What’s the problem with these situations? At least some of the problem is distributional. People who collect income and wealth off of rents are collecting money that they don’t deserve. Nobody would think the problem of economic rents is that people are willing to pay them. In these situations, people are still buying and selling things. Slipping into a classically liberal mindframe, there's still exchange, and we can assume that both parties are better off by definition, otherwise they wouldn’t have made the trade. We don’t locate the problem of rents in the fact that people will pay too much for a phone, or for land, or for something with extensive copyright. And we also don’t think the fact that people are willing to pay a higher price is, by itself, sufficient justification for those rents. The problem is that one person -- the patent holder, the phone company, the land holder, etc. -- is collecting income that he or she shouldn’t.

To phrase that a different way, the fact that people are willing to pay rents doesn’t justify someone’s ability to collect rents. If you are willing to pay everything you have for a medical drug that costs 5 cents, but it is being priced at a high level due to patent law, your desire to pay doesn’t, by itself, justify the company's profit levels.

But one of the most famous examples of libertarian thought thinks your desire to pay does in fact justify the rents. Let’s look at the Wilt Chamberlain example from Robert Nozick’s Anarchy, State, and Utopia.

In this example, we start in a place called D1, where things are generally agreed upon to be just (whatever that definition may be). Then many people decide, voluntarily, to give Wilt Chamberlain their money to watch him play basketball, and he ends up with a lot of it. Can this state D2 be unjust? Nozick:

If D1 was a just distribution, and people voluntarily moved from it to D2, transferring parts of their shares they were given under D1 (what was it for if not to do something with?), isn’t D2 also just? If the people were entitled to dispose of the resources to which they were entitled (under D1), didn’t this include their being entitled to give it to, or exchange it with, Wilt Chamberlain? Can anyone else complain on grounds of justice?

Wilt Chamberlain’s income is justified on the grounds that people are willing to give him their resources.

Thinking about rents forces us to break exchange into two steps. The first step is the right of someone to give away her resources however she sees fit. This doesn't raise any issues. We want people to have resources precisely because we want them to do what they want with them (“what was it for if not to do something with?”). However, that logic is snuck into doing the work of a second step, which is the right of someone to receive those resources. In the example, the right of someone to give something is doing the entirety of the work. It is presumed that someone giving something away builds in the right for the other to receive it.

But when it comes to rents, there’s no reason to believe this is true. One can turn the intuitive nature of the exercise upside down. Imagine if you are drowning, and Wilt Chamberlain is walking by and asks for $250,000 to throw you a life preserver (an easy act that would only cost $1 of his time). You agreeing to pay him to save your life, which is a sensible action on your part, doesn't presume that him receiving that money must keep the same level of distributional justice. This same issue will extend to a portion of what you will spend buying a cell phone and a plan in a market dominated by a few monopolistic players with extensive legal protections.

So where do we draw the line on rents, and what are the appropriate responses? Is receiving a major inheritance a form of rent? Land? Genetic endowments? Perhaps it is best for long-term growth to keep value with the owner, at least for a period, as many argue for copyright and patent. Maybe, like those following Henry George would argue, taxes are the appropriate response. Or maybe there should be active work to try and ensure fewer rents accrue in the first place. But the key thing to remember is that the answers to these questions won't be answered through abstract ideals of liberty, or pointing to the market itself, but instead can only be answered through democratic accountability.

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I wrote a piece at Wonkblog over the weekend about economic rents and the possibilities and limitations of conservatives and liberals coming together to tackle them. The issue of combating rents is interesting because it pushes against an argument that is taken to be a common sense and intuitive example of libertarian thought: the Wilt Chamberlain example. Looking at that example might help us understand some interesting issues about rent income. (This argument is taken from an excellent paper on the topic by Barbara Fried. If this blog does nothing but create a bigger audience for Fried's work, as well as Robert Hale's, I'll call it a huge win.)

Let’s take your favorite example of rent income. Perhaps it is excessive copyright, criminal sanctions for unlocking your phone, zoning regulations that protect incumbent interests, live-saving drugs that are rationed above a market-clearing price due to patents, utilities that go unregulated, or something else.

What’s the problem with these situations? At least some of the problem is distributional. People who collect income and wealth off of rents are collecting money that they don’t deserve. Nobody would think the problem of economic rents is that people are willing to pay them. In these situations, people are still buying and selling things. Slipping into a classically liberal mindframe, there's still exchange, and we can assume that both parties are better off by definition, otherwise they wouldn’t have made the trade. We don’t locate the problem of rents in the fact that people will pay too much for a phone, or for land, or for something with extensive copyright. And we also don’t think the fact that people are willing to pay a higher price is, by itself, sufficient justification for those rents. The problem is that one person -- the patent holder, the phone company, the land holder, etc. -- is collecting income that he or she shouldn’t.

To phrase that a different way, the fact that people are willing to pay rents doesn’t justify someone’s ability to collect rents. If you are willing to pay everything you have for a medical drug that costs 5 cents, but it is being priced at a high level due to patent law, your desire to pay doesn’t, by itself, justify the company's profit levels.

But one of the most famous examples of libertarian thought thinks your desire to pay does in fact justify the rents. Let’s look at the Wilt Chamberlain example from Robert Nozick’s Anarchy, State, and Utopia.

In this example, we start in a place called D1, where things are generally agreed upon to be just (whatever that definition may be). Then many people decide, voluntarily, to give Wilt Chamberlain their money to watch him play basketball, and he ends up with a lot of it. Can this state D2 be unjust? Nozick:

If D1 was a just distribution, and people voluntarily moved from it to D2, transferring parts of their shares they were given under D1 (what was it for if not to do something with?), isn’t D2 also just? If the people were entitled to dispose of the resources to which they were entitled (under D1), didn’t this include their being entitled to give it to, or exchange it with, Wilt Chamberlain? Can anyone else complain on grounds of justice?

Wilt Chamberlain’s income is justified on the grounds that people are willing to give him their resources.

Thinking about rents forces us to break exchange into two steps. The first step is the right of someone to give away her resources however she sees fit. This doesn't raise any issues. We want people to have resources precisely because we want them to do what they want with them (“what was it for if not to do something with?”). However, that logic is snuck into doing the work of a second step, which is the right of someone to receive those resources. In the example, the right of someone to give something is doing the entirety of the work. It is presumed that someone giving something away builds in the right for the other to receive it.

But when it comes to rents, there’s no reason to believe this is true. One can turn the intuitive nature of the exercise upside down. Imagine if you are drowning, and Wilt Chamberlain is walking by and asks for $250,000 to throw you a life preserver (an easy act that would only cost $1 of his time). You agreeing to pay him to save your life, which is a sensible action on your part, doesn't presume that him receiving that money must keep the same level of distributional justice. This same issue will extend to a portion of what you will spend buying a cell phone and a plan in a market dominated by a few monopolistic players with extensive legal protections.

So where do we draw the line on rents, and what are the appropriate responses? Is receiving a major inheritance a form of rent? Land? Genetic endowments? Perhaps it is best for long-term growth to keep value with the owner, at least for a period, as many argue for copyright and patent. Maybe, like those following Henry George would argue, taxes are the appropriate response. Or maybe there should be active work to try and ensure fewer rents accrue in the first place. But the key thing to remember is that the answers to these questions won't be answered through abstract ideals of liberty, or pointing to the market itself, but instead can only be answered through democratic accountability.

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How Congress and the Courts Are Closing in on Dodd-Frank

Apr 4, 2013Mike Konczal

What are the serious threats to Dodd-Frank? Last month, Haley Sweetland Edwards wrote "He Who Makes the Rules" at the Washington Monthly, which is the best single piece on Dodd-Frank implementation I've seen. In it, she identifies "three main areas on this gauntlet where a rule can be sliced, diced, gouged, or otherwise weakened beyond recognition." The first is "the agency itself, where industry lobbyists enjoy outsized influence in meetings and comment letters, on rule makers’ access to vital information, and on the interpretation of the law itself." The second is the courts, "where industry groups can sue an agency and have a rule killed on a variety of grounds." And the third is Congress, "where an entire law can be retroactively gutted or poked through with loopholes."

How important have those three areas been? Looking at the first two and a half years of Dodd-Frank, the courts turned out to be the unexpected danger for financial reform. I have a piece in Bloomberg View today arguing this, as well as the fact that the courts are structurally biased against reform in some very crucial ways.

That's not to say the lobbying battle is going well. But when the bill passed, people understood that rulewriting would be a difficult battle, and some groups like Americans for Financial Reform and Better Markets could at least help balance the lobbying efforts of financial industry groups. What was less understood was that the D.C. Circuit Court would have so many vacancies, and thus tilted to the far right and a radical agenda. I hope you check out the piece.

But what about Congress? Erika Eichelberger at Mother Jones has an excellent piece about the ongoing, now biparistan, efforts to roll back parts of Dodd-Frank's derivative regulations that are starting up in the House Agriculture Committee. (I wrote about this effort for Wonkblog here.) This third area Edwards identifies, Congress, is only now becoming a serious battlefield. But isn't the timing off? President Obama and the Democrats lost in 2010 but won in 2012. Yet while the threat of Congress rolling back Dodd-Frank, one of President Obama's major achievements, with new bills wasn't on the radar in 2011, it may be in 2013. Isn't that backwards?
 
Part of the answer is that the rules are becoming clearer, so financial industry lobbyists have more concrete targets to bring to Congress. But there's a political dimension as well. The general shutdown and polarization that dominated Congress after 2010 made a congressional threat to Dodd-Frank less likely. And ironically, the rise of the Tea Party within the conservative movement, even with its anti-Obama and anti-regulatory zeal, made bills to weaken Dodd-Frank less likely to pass. One reason is that the Tea Party wanted a full repeal of the bill or to gut entire sections, rather than more targeted interventions. Another is that the biggest losers in the 2010 shellacking were centrist “new Democrats,” those that would be more responsive to the needs of the financial industry than the progressive caucus that gained in relative strength afterwards.
 
It’s possible many more centrist Democrats could have moved a bill through Congress weakening Dodd-Frank as it was being implemented, especially if conservatives were looking to compromise. But remaining centrist Democrats were not going to remove the FDIC's new resolution authority to end Too Big To Fail, which is what the Ryan budget calls for, or knee-cap the CFPB out the door, which is what the Senate GOP wants in exchange for nominating a director, or vote to repeal the bill in its entirety, which was a litmus test for the 2012 GOP presidental candidates. Especially after they just took a lot of heat to pass the bill. Deficit hysteria was the only thing that got momentum, with both parties doing serious damage by cutting the budget of the CFTC.
 
(The unpopularity of the financial industry probably didn't help either. The congressional change that the financial industry most wanted, the delay of a rule designed to limit the interchange fees associated with debit cards, failed to clear 60 votes in the Senate.)
 
Now that the GOP is realizing that Dodd-Frank is here to stay, we might see more effort to reach across the aisle to dismantle smaller pieces of it in accordance with what the financial industry wants. Health care is facing a similar situation, where conservatives policy entrepreneurs are currently debating whether or not to work within the framework of Obamacare or continue trying to repeal it. Sadly, conservatives will probably do far more damage if they get to the point of accepting that Dodd-Frank is the law of the land and try to do more targeted repeals rather than wage all-out war.
 
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What are the serious threats to Dodd-Frank? Last month, Haley Sweetland Edwards wrote "He Who Makes the Rules" at the Washington Monthly, which is the best single piece on Dodd-Frank implementation I've seen. In it, she identifies "three main areas on this gauntlet where a rule can be sliced, diced, gouged, or otherwise weakened beyond recognition." The first is "the agency itself, where industry lobbyists enjoy outsized influence in meetings and comment letters, on rule makers’ access to vital information, and on the interpretation of the law itself." The second is the courts, "where industry groups can sue an agency and have a rule killed on a variety of grounds." And the third is Congress, "where an entire law can be retroactively gutted or poked through with loopholes."

How important have those three areas been? Looking at the first two and a half years of Dodd-Frank, the courts turned out to be the unexpected danger for financial reform. I have a piece in Bloomberg View today arguing this, as well as the fact that the courts are structurally biased against reform in some very crucial ways.

That's not to say the lobbying battle is going well. But when the bill passed, people understood that rulewriting would be a difficult battle, and some groups like Americans for Financial Reform and Better Markets could at least help balance the lobbying efforts of financial industry groups. What was less understood was that the D.C. Circuit Court would have so many vacancies, and thus tilted to the far right and a radical agenda. I hope you check out the piece.

But what about Congress? Erika Eichelberger at Mother Jones has an excellent piece about the ongoing, now biparistan, efforts to roll back parts of Dodd-Frank's derivative regulations that are starting up in the House Agriculture Committee. (I wrote about this effort for Wonkblog here.) This third area Edwards identifies, Congress, is only now becoming a serious battlefield. But isn't the timing off? President Obama and the Democrats lost in 2010 but won in 2012. Yet while the threat of Congress rolling back Dodd-Frank, one of President Obama's major achievements, with new bills wasn't on the radar in 2011, it may be in 2013. Isn't that backwards?
 
Part of the answer is that the rules are becoming clearer, so financial industry lobbyists have more concrete targets to bring to Congress. But there's a political dimension as well. The general shutdown and polarization that dominated Congress after 2010 made a congressional threat to Dodd-Frank less likely. And ironically, the rise of the Tea Party within the conservative movement, even with its anti-Obama and anti-regulatory zeal, made bills to weaken Dodd-Frank less likely to pass. One reason is that the Tea Party wanted a full repeal of the bill or to gut entire sections, rather than more targeted interventions. Another is that the biggest losers in the 2010 shellacking were centrist “new Democrats,” those that would be more responsive to the needs of the financial industry than the progressive caucus that gained in relative strength afterwards.
 
It’s possible many more centrist Democrats could have moved a bill through Congress weakening Dodd-Frank as it was being implemented, especially if conservatives were looking to compromise. But remaining centrist Democrats were not going to remove the FDIC's new resolution authority to end Too Big To Fail, which is what the Ryan budget calls for, or knee-cap the CFPB out the door, which is what the Senate GOP wants in exchange for nominating a director, or vote to repeal the bill in its entirety, which was a litmus test for the 2012 GOP presidental candidates. Especially after they just took a lot of heat to pass the bill. Deficit hysteria was the only thing that got momentum, with both parties doing serious damage by cutting the budget of the CFTC.
 
(The unpopularity of the financial industry probably didn't help either. The congressional change that the financial industry most wanted, the delay of a rule designed to limit the interchange fees associated with debit cards, failed to clear 60 votes in the Senate.)
 
Now that the GOP is realizing that Dodd-Frank is here to stay, we might see more effort to reach across the aisle to dismantle smaller pieces of it in accordance with what the financial industry wants. Health care is facing a similar situation, where conservatives policy entrepreneurs are currently debating whether or not to work within the framework of Obamacare or continue trying to repeal it. Sadly, conservatives will probably do far more damage if they get to the point of accepting that Dodd-Frank is the law of the land and try to do more targeted repeals rather than wage all-out war.
 
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Crude Sachsism: The Four Big Flaws in Progressive Attacks on Keynesianism

Mar 11, 2013Mike Konczal

Jeffrey Sachs attacks vulgar crude Keynesianism, arguing that it consists of four simplistic elements. Numerous people are pointing out that those four elements misrepresent the entirety of those calling for more action on jobs. Mark Thoma in particular is sharp here.

Jeffrey Sachs attacks vulgar crude Keynesianism, arguing that it consists of four simplistic elements. Numerous people are pointing out that those four elements misrepresent the entirety of those calling for more action on jobs. Mark Thoma in particular is sharp here.

I want to do the opposite. When I read people like Sachs, I too notice four crude elements that stand out, all of which are significant problems for a story of what has gone wrong in the Great Recession and what can be done about it. In short, there's (a) no theory of the business cycle and the Great Recession, (b) an odd attack on automatic stabilizers, (c) leaping at any evidence of so-called "structural" unemployment, and (d) a curious absence of full employment as a progressive policy goal.

Progressive Mellonites

Even the crudest caricature of Keynesians is nuanced compared to what Sachs is putting forward here when it comes to a theory of the business cycle.

Sachs calls out crude Keynesianism for being simplistic and reductive about the Great Recession. This ignores the large debates currently happening within Keynesian circles. How much of our problem is a “balance-sheet” issue? Is the Fed in check, and if not, is it better to act through active purchases or forward guidance language? (Sachs thinks QE is just a "gimmick.") This is crucial because predictions about interest rates and the argument about debt are tied to these discussions.

But as best as I can tell, Sachs appears to believe that this recession is the punishment our country must endure for not listening enough to Jeffrey Sachs. Sachs's position might best be defined as "progressive Mellonite." Mellonite liquidationists are people who think that the work of a recession is purging all the badness and rottenness from the system. Progressive Mellonites, like Sachs, argue the mirror-image of this. We invaded Iraq instead of building green energy; we securitized mortgages instead of investing in education; now we must all suffer until we go back and do right by a progressive set of priorities.

These problems existed before, but they can’t explain the collapse in GDP. The closest he gets to the actual evidence about the Great Recession is writing that the financial crisis is to blame for part of it and that it was solved through the bailouts. As Ryan Cooper notes, inflation expectations crashed during this time. Indeed, the recession started in December 2007, almost a year before the financial crisis. But this theory is needed to make sense of his proposal.

Win the Future!

It is crucial to understand that Sachs isn’t arguing for a “pivot” from direct stimulus and job creation to “winning the future” through a variety of education reforms and long-term investments. If he was, well, then he’d be arguing for the stated position of the Obama administration as of early 2011 -- one that has infuriated progressive economists ever since.

I read Sachs as saying that long-term investments would have been smarter as stimulus than the "timely, targeted, and temporary" elements of tax cuts that comprised a lot of the stimulus. Fine, sure, I agree. The stimulus did a lot of that, as the book The New New Deal argues.

But I also read him as being against the significant increased spending on automatic stabilization and preferring that we had done nothing rather than do that. Take things like extended unemployment benefits, the “Making Work Pay” program, or aid to the states. If I read Sachs correctly, we should not have done that, but instead should have done nothing if that money couldn't have been earmarked for energy investments and education programs.

I’m not sure what to make of this idea. Automatic stabilizers already in place were a large reason why the debt increased during the recession. And contra Jeffrey Sachs, Goldman Sachs (I'm assuming no relation) estimated the collapse in private sector financial balance as greater than that of the Great Depression even with the bailouts, and automatic stabilizers stepped in to help maintain demand.

Did Someone Say Structural? Sold!

I'm not sure why Sachs is arguing that in 2009 money should have been spent on job training, or getting more people through higher education, as a way of combating unemployment. Unemployment doubled across all industries, education levels, and occupations. Many people with higher educations are using their human capital as a hedge to get lower-skill jobs. The number of people quitting their jobs has plummeted. Even today, the short-term unemployed have a harder time finding a job than before the recession, while the long-term unemployed are less likely to drop out of the labor force. Wages have been flat for those with jobs.

Not unlike the crude Keynesians who thought the Phillips curve of unemployment versus inflation was a stable relationship, Sachs argues that the Beveridge curve of unemployment versus job vacancies is all we need to know. But the number of job vacancies is endogenous to expectations of the state of the economy! So a shift certainly isn’t sufficient to make the huge lift he wants to make, especially with so many other factors leaning against this argument.

I can see focusing more in 2013 on these issues, but the idea that they were the only concerns in 2009 -- which is the core of Sachs's argument -- demands significantly better support.

Full Employment Uber Alles

Though Sachs identifies his project as progressive, he never mentions full employment as a goal. There are three obvious reasons why progressives would want to make full employment a goal. First, if we are concerned about the well-being of workers, a tighter labor market will have better wage growth and more opportunities for the worst off than a slack one. The idea that Sachs was worried about job training with unemployment at 10 percent is odd. Second is that a tighter labor market will help us take care of supply issues with our labor force. Employers will promote on-the-job training and work harder to increase the productivity of their labor force, while searching more among the long-term unemployed and trying to bring in people outside the labor force. It will make the task of adjusting the labor force to the work of the future, a key goal for Sachs, significantly easier.

Third, and most important, is that the political goals he wants to achieve are easier at full employment. There's good empirical evidence that unemployment destroyed people's interest in combating climate change. And that makes sense -- how are you supposed to care about Southeast Asia's coastline in 2080 if you are worried about whether you can make your rent? The idea that we’d focus on how to tax ourselves to move to new energy sources when unemployment was at 10 percent is a problematic one if we are serious about reorienting our goals toward a more progressive future.

 

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Around the Webs and Traveling

Mar 7, 2013Mike Konczal

I've been writing around the internet.

- I wrote about automatic stabilizers, and how understanding them is important to understand how our deficits worked in the past several years, for the American Prospect.

- I discused the "ownership society" and how it is holding back conservative thought.

- I'm now contributing a weekly column to Wonkblog at the Washington Post on Saturdays, with the first one focused on the current debates people are having on Dodd-Frank and Too Big To Fail.

I've been traveling and on vacation, so sorry for letting this place get dusty. I'll be back on the 18th.

I've been writing around the internet.

- I wrote about automatic stabilizers, and how understanding them is important to understand how our deficits worked in the past several years, for the American Prospect.

- I discused the "ownership society" and how it is holding back conservative thought.

- I'm now contributing a weekly column to Wonkblog at the Washington Post on Saturdays, with the first one focused on the current debates people are having on Dodd-Frank and Too Big To Fail.

I've been traveling and on vacation, so sorry for letting this place get dusty. I'll be back on the 18th.

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It's Alberto Alesina's World and We're All Just Unemployed in It

Mar 5, 2013Mike Konczal

In March 2011, the new Tea Party had taken over the House, and it needed a plan for what it would do about the deficit. It proposed that the effects of imposing austerity, even when the economy is weak, "may be strong enough to make fiscal consolidation programs expansionary in the short term." How did it propose we cut the budget? We can look at Joint Economic Committee (JEC) Republican report, "Spend Less, Owe Less, Grow the Economy," for the answer:

In March 2011, the new Tea Party had taken over the House, and it needed a plan for what it would do about the deficit. It proposed that the effects of imposing austerity, even when the economy is weak, "may be strong enough to make fiscal consolidation programs expansionary in the short term." How did it propose we cut the budget? We can look at Joint Economic Committee (JEC) Republican report, "Spend Less, Owe Less, Grow the Economy," for the answer:

The Tea Party's study called for 85 percent spending cuts and 15 percent revenue increases. This was based largely off a 2009 study by Alberto Alesina and Silvia Ardagna of Harvard titled "Large changes in fiscal policy: taxes versus spending." This is the ur-text of expansionary austerity, which made the case, for example, "On the demand side, a fiscal adjustment may be expansionary if agents believe that the fiscal tightening generates a change in regime that 'eliminates the need for larger, maybe much more disruptive adjustments in the future.'"

Flash forward two years from that report to March 2013. President Obama and Congress have overseen $4 trillion dollars in deficit reduction set for the next ten years. What do the percentages look like? Here's a graphic from a recent New York Times blog post by Steve Rattner on the deficit deals:

Rattner points out that less than 20 percent has come from tax increases, just like Alesina called for. James Pethokoukis also noted these numbers and their connection to Alesina's work and referred to them as the "right" kind of austerity. But what does "right" mean here? There's a technical definition on changes to debt-to-GDP from the paper, but there's also the argument that the "right" kind of austerity would be "be less recessionary or even have a positive impact on growth."

That hasn't happened. In fact, the exact opposite is in play. Instead of expanding the economy, or even having little or no short-term effect, economists generally agree that this austerity (e.g. the sequestration) is cutting growth and reducing the number of jobs created. Suzy Khimm collects some numbers here, including Barclay's estimate, "In 2013, the fiscal drag from government austerity is expected to be between 1.5 and 2.0 percentage points." Where's the expansion? Where's the short-term confidence? This has been a complete failure.

Paul Krugman recently pointed out some choice quotes on who was right and who was wrong about Europe. To give you a sense of the mindset that created this line of reasoning, a set of arguments we are now trying out in the United States, let's look at how Alesina approached initial criticism of his work. In "The Boom Not The Slump: The Right Time For Austerity," my colleague Arjun Jayadev and I found that in virtually all the cases the adjustments were made when the economy was healthy, and in the few cases where it was not there was export-driven growth or interest rates were lowered (see also this Jared Bernstein summary of CRS' critique).

In a September 2010 paper for the Mercatus Center, here is how Alesina responded (my bold):

A recent paper by Jayadem and Konzcal [sic] (2010) argues that Alesina and Ardagna’s results do not apply to the current situation because fiscal adjustments on the spending side are expansionary only when they occur when the economy is already expanding. The criticisms of that paper are at best overstated... In addition, what is unfolding currently in Europe directly contradicts Jayadev and Konczal. Several European countries have started drastic plans of fiscal adjustment in the middle of a fragile recovery. At the time of this writing, it appears that European speed of recovery is sustained, faster than that of  the U.S., and the ECB has recently significantly raised growth forecasts for the Euro area.

I wonder how that ever turned out, even for just their debt-to-GDP ratios? Graph is from 2011-2012:

You can laugh, and you should, but do keep in mind all that needless suffering and the fact that this assessment of Europe's situation is what is now driving our fiscal policy.

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Won't Somebody Please (Not) Think of the Children? On the Benefits of Pre-K for Parents.

Feb 15, 2013Mike Konczal

I wrote a piece I was pretty happy with in The American Prospect called "The Great Society's Next Frontier." Given that health care had passed and wasn't going to be overturned, the question was what would be the next battles for the liberal project. Rather than showing the exhaustion of the liberal project, I found the recent State of the Union a nice checklist of things that have been done, as well as new areas to take the project next, with some markers for a longer-term agenda.

At the Prospect I noted that a mix of "predistribution" and redistribution to expand opportunities while boosting wages were going to be an important part, and two of the ideas that addressed those issues were present in President Obama's State of the Union address: a higher minimum wage and pre-K. Pre-K is going to be a big topic, and this Boston Review symposium by James Heckman is a great place to read what experts are saying.

There's a big debate starting about how good pre-K would be for the kids involved. Would it make them smarter, more capable adults, less likely to have pathological behaviors later in life and more likely to develop a rich range of capabilities and opportunities? There is also the conversation on what that will mean for the economy as a whole. Will an additional year of schooling make us an economically richer country? Will it be a better investment than the stock market?

But there's a very interested party missing from this conversation, and that is parents themselves, particularly mothers who are working or would like to be. As my colleague Bryce Covert notes, pre-K "would also be hugely important in helping parents of all incomes go to work and know that their children are in good hands."

I'm not sure what research has or has not been done on this topic, but here are some fascinating things. A 2011 report from UC Berkeley's Labor Center on the "Economic Impacts of Early Care and Education in California" highlighted some important points. Having access to a dedicated, high-quality preschool can reduce absenteeism and turnover for working parents. Child care arrangements often break down, usually on short notice, which causes work absences as well as other problems. Headaches over child care issues can reduce productivity.

This is a fascinating experiment, from the Labor Center report:

A study of public employees in New York City who were provided with child care subsidies found that the employees had a 17.8 percent decrease in disciplinary action compared to a control group that did not receive the subsidy. Overwhelmingly, those in the subsidy group reported leaving work less often, concentrating better at work, being more productive at work, and using fewer sick days to deal with child care issues.

Fathers can and do stay home with young children, but women are more likely to do this. And this will impact women's existence in the labor market. The OECD shows that the wage gap is significantly higher for women with children and notes that the United States' public investment in child care (ages 0-5) is 0.4 percent of GDP, compared the average OECD of 0.7 percent. Lack of child care access also impacts whether women start businesses and whether they have career arcs that take full advantage of their talents.
 
This strikes me as a politically volatile point to make, if only because few people make it. Why is that? Patrick Caldwell had a piece recently in The American Prospect about the Right's obsession with an Obama re-election campaign tool called "The Life of Julia." The online infographic showed how government structures and counterbalances the risks and opportunities we face over the course of our lives. The Right, correctly, understands this as a challenge to its vision of the primacy of the (patriarchal) family and the market as having complete dominion over those risks. Using the state to give parents, and especially women, more opportunities to inhabit other roles, either in the market or not, is going to run straight into the Right's worldview.
 
I noticed a bit of this on the Left as well, specifically the parts of the Left that are distrustful of public education. In the debate over "unschooling" (lefty homeschooling, usually as a critique of the conformity of public education), Dana Goldstein pointed out the class bias in this critique. She noted "more than 70 percent of mothers with children under the age of 18 are in the workforce. One-third of all children and one-half of low-income children are being raised by a single parent. Fewer than one-half of young children, and only about one-third of low-income kids, are read to daily by an adult. Surely, this isn’t the picture of a nation ready to 'self-educate' its kids." Having an additional year of school is a major boon for parents when you understand the stresses they face.
 
But again, I'm outside the policy topics I hang outside my wonk door. What's your take?
 
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I wrote a piece I was pretty happy with in The American Prospect called "The Great Society's Next Frontier." Given that health care had passed and wasn't going to be overturned, the question was what would be the next battles for the liberal project. Rather than showing the exhaustion of the liberal project, I found the recent State of the Union a nice checklist of things that have been done, as well as new areas to take the project next, with some markers for a longer-term agenda.

At the Prospect I noted that a mix of "predistribution" and redistribution to expand opportunities while boosting wages were going to be an important part, and two of the ideas that addressed those issues were present in President Obama's State of the Union address: a higher minimum wage and pre-K. Pre-K is going to be a big topic, and this Boston Review symposium by James Heckman is a great place to read what experts are saying.

There's a big debate starting about how good pre-K would be for the kids involved. Would it make them smarter, more capable adults, less likely to have pathological behaviors later in life and more likely to develop a rich range of capabilities and opportunities? There is also the conversation on what that will mean for the economy as a whole. Will an additional year of schooling make us an economically richer country? Will it be a better investment than the stock market?

But there's a very interested party missing from this conversation, and that is parents themselves, particularly mothers who are working or would like to be. As my colleague Bryce Covert notes, pre-K "would also be hugely important in helping parents of all incomes go to work and know that their children are in good hands."

I'm not sure what research has or has not been done on this topic, but here are some fascinating things. A 2011 report from UC Berkeley's Labor Center on the "Economic Impacts of Early Care and Education in California" highlighted some important points. Having access to a dedicated, high-quality preschool can reduce absenteeism and turnover for working parents. Child care arrangements often break down, usually on short notice, which causes work absences as well as other problems. Headaches over child care issues can reduce productivity.

This is a fascinating experiment, from the Labor Center report:

A study of public employees in New York City who were provided with child care subsidies found that the employees had a 17.8 percent decrease in disciplinary action compared to a control group that did not receive the subsidy. Overwhelmingly, those in the subsidy group reported leaving work less often, concentrating better at work, being more productive at work, and using fewer sick days to deal with child care issues.

Fathers can and do stay home with young children, but women are more likely to do this. And this will impact women's existence in the labor market. The OECD shows that the wage gap is significantly higher for women with children and notes that the United States' public investment in child care (ages 0-5) is 0.4 percent of GDP, compared the average OECD of 0.7 percent. Lack of child care access also impacts whether women start businesses and whether they have career arcs that take full advantage of their talents.
 
This strikes me as a politically volatile point to make, if only because few people make it. Why is that? Patrick Caldwell had a piece recently in The American Prospect about the Right's obsession with an Obama re-election campaign tool called "The Life of Julia." The online infographic showed how government structures and counterbalances the risks and opportunities we face over the course of our lives. The Right, correctly, understands this as a challenge to its vision of the primacy of the (patriarchal) family and the market as having complete dominion over those risks. Using the state to give parents, and especially women, more opportunities to inhabit other roles, either in the market or not, is going to run straight into the Right's worldview.
 
I noticed a bit of this on the Left as well, specifically the parts of the Left that are distrustful of public education. In the debate over "unschooling" (lefty homeschooling, usually as a critique of the conformity of public education), Dana Goldstein pointed out the class bias in this critique. She noted "more than 70 percent of mothers with children under the age of 18 are in the workforce. One-third of all children and one-half of low-income children are being raised by a single parent. Fewer than one-half of young children, and only about one-third of low-income kids, are read to daily by an adult. Surely, this isn’t the picture of a nation ready to 'self-educate' its kids." Having an additional year of school is a major boon for parents when you understand the stresses they face.
 
But again, I'm outside the policy topics I hang outside my wonk door. What's your take?
 
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Mother and child image via Shutterstock.com.

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Interview with Dube; EITC and Minimum Wage as Complements

Feb 15, 2013Mike Konczal

I have an interview at the American Prospect with Arindrajit Dube on the minimum wage as a policy mechanism. I learned a ton doing it, and I hope you check it out!

Meanwhile there's a lot of great material on the minimum wage coming out. Jared Bernstein addresses four of the key arguments for the minimum wage here. John Schmitt of CEPR has a great overview on the various theories on why a minimum wage hike shows little or not impact on unemployment here (wonkblog summary here).

I still notice many people arguing that we should just raise the earned income tax credit (EITC) for the working poor rather than raising the minimum wage. I brought it up in the interview, but it is worth mentioning again here, even in loud, bold text:

The EITC partially subsidizes employers, and as such the minimum wage is an excellent way to combat this. So it complements, rather than substitutes, for an EITC.

Economists love to tell people that who pays a tax is independent of who Congress wants to pay it. The "Tax These Evil Corporations Act" might fall entirely on people buying stuff from those firms instead of their shareholders. (If you like the jargon, economists say the tax incidence is independent of legislative intent.)

But suddenly when the tax is a tax credit, specifically an earned income tax credit, that tax magically goes exactly where Congress wants it to go. Technically it means that economists just assume that demand is perfectly elastic in low-wage markets, which is a bold assumption. If not, part of the tax is passed on, in this case to employers, who capture it in the form of lower wages. And since those who get the EITC are in the same labor market as those who don't, these wage declines extend to people who don't even get the EITC! Jesse Rothstein did an estimate finding that for every dollar of EITC, a worker's wage only goes up 73 cents. That's a big capture by employers.

If you want some elaborate theory, David Lee and Emmanuel Saez have a paper arguing that when this is the case (and if the EITC works primarily by bringing people into working, via an extensive margin, which it does), the minimum wage is an excellent complement to low-wage government transfers tied to work.

Or as Dube says, "We have different polices designed for different distributional goals. We need to think not in terms of a single policy, but instead think in terms of what is the right portfolio of policies given the range of objectives you have." The minimum wage is an excellent tool to boost the efficacy of government transfers, and it should be raised and tied to a cost of living raise. There's no magic bullets - there's just a variety of tools that reinforce each other.

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I have an interview at the American Prospect with Arindrajit Dube on the minimum wage as a policy mechanism. I learned a ton doing it, and I hope you check it out!

Meanwhile there's a lot of great material on the minimum wage coming out. Jared Bernstein addresses four of the key arguments for the minimum wage here. John Schmitt of CEPR has a great overview on the various theories on why a minimum wage hike shows little or not impact on unemployment here (wonkblog summary here).

I still notice many people arguing that we should just raise the earned income tax credit (EITC) for the working poor rather than raising the minimum wage. I brought it up in the interview, but it is worth mentioning again here, even in loud, bold text:

The EITC partially subsidizes employers, and as such the minimum wage is an excellent way to combat this. So it complements, rather than substitutes, for an EITC.

Economists love to tell people that who pays a tax is independent of who Congress wants to pay it. The "Tax These Evil Corporations Act" might fall entirely on people buying stuff from those firms instead of their shareholders. (If you like the jargon, economists say the tax incidence is independent of legislative intent.)

But suddenly when the tax is a tax credit, specifically an earned income tax credit, that tax magically goes exactly where Congress wants it to go. Technically it means that economists just assume that demand is perfectly elastic in low-wage markets, which is a bold assumption. If not, part of the tax is passed on, in this case to employers, who capture it in the form of lower wages. And since those who get the EITC are in the same labor market as those who don't, these wage declines extend to people who don't even get the EITC! Jesse Rothstein did an estimate finding that for every dollar of EITC, a worker's wage only goes up 73 cents. That's a big capture by employers.

If you want some elaborate theory, David Lee and Emmanuel Saez have a paper arguing that when this is the case (and if the EITC works primarily by bringing people into working, via an extensive margin, which it does), the minimum wage is an excellent complement to low-wage government transfers tied to work.

Or as Dube says, "We have different polices designed for different distributional goals. We need to think not in terms of a single policy, but instead think in terms of what is the right portfolio of policies given the range of objectives you have." The minimum wage is an excellent tool to boost the efficacy of government transfers, and it should be raised and tied to a cost of living raise. There's no magic bullets - there's just a variety of tools that reinforce each other.

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Can We Stabilize the Debt with Just $670 Billion in Deficit Reduction?

Feb 11, 2013Mike Konczal

During a radio debate in 1933, the British economist John Maynard Keynes said, “You will never balance the Budget through measures which reduce the national income.” In an attempt to forget this lesson and repeat the mistakes of 1937, the United States is set to put the sequestration into motion in a few weeks. This package of quickly enacted cuts will try to balance the budget by destroying a million jobs in the next two years and taking a chunk of GDP off growth.

President Obama is likely to call for replacing this sequestration with a deficit reduction plan of $1.5 trillion over the next 10 years in his State of the Union tomorrow night. This is as the deficit is falling quickly, from 7 percent of GDP in 2012 to a projected 5.3 percent this year. Obama's target number would build off the $2.4 trillion in deficit reduction already in place through the Budget Control Act and fiscal cliff deal for a total of nearly $4 trillion.

But what if we needed significantly less than $1.5 trillion at this point? What number would be necessary, under what conditions? Richard Kogan of the Center on Budget and Policy Priority (CBPP) has called for $1.4 trillion. There’s been an interesting pushback against this argument from Ethan Pollack of the Economic Policy Institute (EPI), who argues that CBPP’s numbers are far too high, and that the debt-to-GDP, or debt ratio, can be stabilized with less than half of that. Let's summarize this debate here.

If stabilizing the debt is the goal, everything depends on what we mean by stabilization. CBPP wants to stabilize the debt ratio with two conditions. The first is that it will be at the current rate of 73 percent, and the second is that it will occur by 2022, or within a 10-year window. Here is EPI's chart showing the current trajectory and the numbers proposed by CBPP and President Obama:

What Pollack notes is that if you relax either assumption, you can still have stabilization but at a significantly lower level of deficit reduction. If we relax the 73 percent requirement, and we target a debt-to-GDP level that is lower in 2022 than it was in 2018, we’d only need $670 billion dollars in deficit reduction, with $580 coming from policy savings (and the rest from interest). That's a lot less in brutal cuts while the economy is still weak. This would still stabilize the debt, as the debt-to-GDP ratio starts to decline. It would just stabilize it at a higher level.
 
What if we want a debt ratio of 73 percent, but we relax the time constraint? What if we worry less about an arbitrary 10-year limit and look at the long run? If we want to stabilize the debt outside the 10-year window at the current rate, we’d need a long-run deficit of 3 percent. That would only require $500 billion in cuts, of which $430 billion is policy savings. This is still long-run stabilization, which is what we'd want, rather than stabilization while the economy is still weak.
 
So we can have stabilization with significantly less upfront costs. But why focus on a number like this at all? Pollack also argues that this magic number approach is dangerous in two additional ways. A single number losses all the stuff that is important about the actual cuts. Are they phased in only after unemployment is low? Are they from reductions in spending on the automatic stabilizers keeping the economy afloat, like food stamps? Do they include measures that are good for the long-term, like a carbon tax? Like trying to figure out your health by only looking at your weight, using a single number to try and capture a large phenomenon confuses all the things that we know are important.
 
Also having a single number presented this way gives the impression that additional stimulus deployed in the next few years would add to the number. If we need $1.4 trillion in cuts to stabilize the debt over 10 years but want to do an additional $500 billion dollar stimulus in the next two, we don't need $1.9 trillion all of a sudden. Stabilization still takes place, just at a higher level.
 
Jared Bernstein of CBPP responds, arguing that "a) stabilizing at a lower level leaves us less exposed to higher interest payments when rates finally start to rise, and b) it will be a heavier political lift to argue for a cyclical deficits next time we hit a rough patch if we’re starting at 85% versus 73%. "
 
I would note a few things. The first is, for all the theorizing, economists are deeply conflicted about whether or not a higher versus a lower debt-to-GDP level matters. Right now, rather than just crowding out private investments, there will be a strong pull to crowd in actual economic activity. Or, to put it another way, when there’s a fiscal multiplier, increases in debt can help offset themselves; we could end up with a higher debt but a lower debt-to-GDP ratio.
 
Beyond that though, it isn’t clear that the level of debt would impact interest rates or if they would make us richer or poorer, even at full employment. A larger pool of debt at full employment might just increase savings, through a mechanism economists call Ricardian equivalence, which will lower interest rates. There are many different ways of understanding how these relationships could happen. Economists are divided on this; it’s not for nothing that Glenn Hubbard, in 2011, wrote that when it comes to the relationship between government debt and interest rates, "Despite the volume of work, no universal consensus has emerged."
 
We could use more cost-benefit analysis on this matter. Assuming a worst-case scenario that we are currently at full employment, so additional deficits are crowding out private investment, how different would interest rates be if we have an 80 percent debt ratio versus a 73 percent debt ratio? Again this evidence is mixed, but Eric Engen and R. Glenn Hubbard found that a one percent increase in debt-to-GDP increases government interest rates two basis points. So we are talking about the bad case scenario having an 0.16 percent increase in government interest rates. That's not trivial, but it also isn't a doomsday scenario. And this bad case scenario is going to be avoided by prioritizing cuts that could put a serious hamper on both demand and long-term investments? Is this really an exercise worth taking?
 
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During a radio debate in 1933, the British economist John Maynard Keynes said, “You will never balance the Budget through measures which reduce the national income.” In an attempt to forget this lesson and repeat the mistakes of 1937, the United States is set to put the sequestration into motion in a few weeks. This package of quickly enacted cuts will try to balance the budget by destroying a million jobs in the next two years and taking a chunk of GDP off growth.

President Obama is likely to call for replacing this sequestration with a deficit reduction plan of $1.5 trillion over the next 10 years in his State of the Union tomorrow night. This is as the deficit is falling quickly, from 7 percent of GDP in 2012 to a projected 5.3 percent this year. Obama's target number would build off the $2.4 trillion in deficit reduction already in place through the Budget Control Act and fiscal cliff deal for a total of nearly $4 trillion.

But what if we needed significantly less than $1.5 trillion at this point? What number would be necessary, under what conditions? Richard Kogan of the Center on Budget and Policy Priority (CBPP) has called for $1.4 trillion. There’s been an interesting pushback against this argument from Ethan Pollack of the Economic Policy Institute (EPI), who argues that CBPP’s numbers are far too high, and that the debt-to-GDP, or debt ratio, can be stabilized with less than half of that. Let's summarize this debate here.

If stabilizing the debt is the goal, everything depends on what we mean by stabilization. CBPP wants to stabilize the debt ratio with two conditions. The first is that it will be at the current rate of 73 percent, and the second is that it will occur by 2022, or within a 10-year window. Here is EPI's chart showing the current trajectory and the numbers proposed by CBPP and President Obama:

What Pollack notes is that if you relax either assumption, you can still have stabilization but at a significantly lower level of deficit reduction. If we relax the 73 percent requirement, and we target a debt-to-GDP level that is lower in 2022 than it was in 2018, we’d only need $670 billion dollars in deficit reduction, with $580 coming from policy savings (and the rest from interest). That's a lot less in brutal cuts while the economy is still weak. This would still stabilize the debt, as the debt-to-GDP ratio starts to decline. It would just stabilize it at a higher level.
 
What if we want a debt ratio of 73 percent, but we relax the time constraint? What if we worry less about an arbitrary 10-year limit and look at the long run? If we want to stabilize the debt outside the 10-year window at the current rate, we’d need a long-run deficit of 3 percent. That would only require $500 billion in cuts, of which $430 billion is policy savings. This is still long-run stabilization, which is what we'd want, rather than stabilization while the economy is still weak.
 
So we can have stabilization with significantly less upfront costs. But why focus on a number like this at all? Pollack also argues that this magic number approach is dangerous in two additional ways. A single number losses all the stuff that is important about the actual cuts. Are they phased in only after unemployment is low? Are they from reductions in spending on the automatic stabilizers keeping the economy afloat, like food stamps? Do they include measures that are good for the long-term, like a carbon tax? Like trying to figure out your health by only looking at your weight, using a single number to try and capture a large phenomenon confuses all the things that we know are important.
 
Also having a single number presented this way gives the impression that additional stimulus deployed in the next few years would add to the number. If we need $1.4 trillion in cuts to stabilize the debt over 10 years but want to do an additional $500 billion dollar stimulus in the next two, we don't need $1.9 trillion all of a sudden. Stabilization still takes place, just at a higher level.
 
Jared Bernstein of CBPP responds, arguing that "a) stabilizing at a lower level leaves us less exposed to higher interest payments when rates finally start to rise, and b) it will be a heavier political lift to argue for a cyclical deficits next time we hit a rough patch if we’re starting at 85% versus 73%. "
 
I would note a few things. The first is, for all the theorizing, economists are deeply conflicted about whether or not a higher versus a lower debt-to-GDP level matters. Right now, rather than just crowding out private investments, there will be a strong pull to crowd in actual economic activity. Or, to put it another way, when there’s a fiscal multiplier, increases in debt can help offset themselves; we could end up with a higher debt but a lower debt-to-GDP ratio.
 
Beyond that though, it isn’t clear that the level of debt would impact interest rates or if they would make us richer or poorer, even at full employment. A larger pool of debt at full employment might just increase savings, through a mechanism economists call Ricardian equivalence, which will lower interest rates. There are many different ways of understanding how these relationships could happen. Economists are divided on this; it’s not for nothing that Glenn Hubbard, in 2011, wrote that when it comes to the relationship between government debt and interest rates, "Despite the volume of work, no universal consensus has emerged."
 
We could use more cost-benefit analysis on this matter. Assuming a worst-case scenario that we are currently at full employment, so additional deficits are crowding out private investment, how different would interest rates be if we have an 80 percent debt ratio versus a 73 percent debt ratio? Again this evidence is mixed, but Eric Engen and R. Glenn Hubbard found that a one percent increase in debt-to-GDP increases government interest rates two basis points. So we are talking about the bad case scenario having an 0.16 percent increase in government interest rates. That's not trivial, but it also isn't a doomsday scenario. And this bad case scenario is going to be avoided by prioritizing cuts that could put a serious hamper on both demand and long-term investments? Is this really an exercise worth taking?
 
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