New Report: A Literature Summary on New Balance-Sheet Recession Research

Jul 3, 2012Mike Konczal

In the last 8 months there's been a ton of research validating the theory and arguments of the "balance-sheet recession." I wrote up a literature summary of this research as a Roosevelt Institute white paper: "How Mortgage Debt is Holding Back the Recover

In the last 8 months there's been a ton of research validating the theory and arguments of the "balance-sheet recession." I wrote up a literature summary of this research as a Roosevelt Institute white paper: "How Mortgage Debt is Holding Back the Recovery." You can download a PowerPoint presentation on the paper as well.

This paper was designed to give some background for those interested in understanding this powerful theory, backed by the latest empirical research, and needed to be caught up. I noticed that the latest Economic Report of the President and the latest IMF World Economic report were backing this theory and these researchers. It is important for activists to understand that elite opinion is moving on the conneciton of the housing bubble collapse and slow growth and mass unemployment, and this will have implications for those arguing against foreclosures and for debtor relief.

The key of the report is the following graph, which summarizes the four papers I dig into:

I'll be discussing the individual reports in the future. I had previously interviewed Amir Sufi on the first two papers last fall.

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O Christmas Tree: Why Scalia's Dissent is More Activist Than the Roberts Decision

Jul 3, 2012Mike Konczal

Roberts's decision to uphold the individual mandate as a tax was based on solid and established legal arguments, but the dissent's justification for throwing the whole law out was pure radicalism.

CHIEF JUSTICE ROBERTS: You're telling me they thought of it as a tax, they defended it on the tax power. Why didn't they say it was a tax?

Roberts's decision to uphold the individual mandate as a tax was based on solid and established legal arguments, but the dissent's justification for throwing the whole law out was pure radicalism.

CHIEF JUSTICE ROBERTS: You're telling me they thought of it as a tax, they defended it on the tax power. Why didn't they say it was a tax?

GENERAL VERRILLI: They might have thought, Your Honor, that calling it a penalty as they did would make it more effective in accomplishing its objective. But it is — in the Internal Revenue Code it is collected by the IRS on April 15th. I don't think this is a situation in which you can say -
CHIEF JUSTICE ROBERTS: Well, that's the reason. They thought it might be more effective if they called it a penalty.
-Supreme Court arguments, March 27th, 2012 (transcript)

Last week, the Supreme Court found in a 5-4 vote that the individual mandate survives under the taxing power instead of the Commerce Clause. Here is the decision, authored by Chief Justice Roberts. I've noticed two responses from conservatives:

The first is that Roberts, by looking to the taxing power in the Constitution, found something liberals had never argued. Related is the argument that liberals took the constitutionality of the mandate for granted and never built out the framework necessary to argue for it, especially in the form of a tax.

I haven't followed health care closely, but I do try to keep up with Jack Balkin's work, and he's been on the taxing power since forever ago. Here's two amicus briefs (h/t Incidental Economist for the actual brief links, who also gives them "most influential" status) that come from the team of Jack Balkin at Yale Law School and Gillian Metzger and Trevor Morrison at Columbia Law School. Their Fourth Circuit brief covers this (Argument 1: "The minimum coverage free provision is a permissible exercise of Congress's taxing power"), as does the Supreme Court brief (Argument 1: "The minimum coverage provision falls within Congress's expansive tax power and is not an impermissible direct tax").

In "The Lawfulness of Health-Care Reform," Akhil Amar writes that Obamacare "is proper under at least six different theories, each one of which has deep roots in constitutional text and common sense." The very first one? "It is outlandish to think that [Obamacare's] provisions exceed the sweeping power that the Constitution confers upon Congress to 'lay and collect Taxes, Duties, Imposts, and Excises.'" And Andrew Koppelman, in "Bad News for Mail Robbers: The Obvious Constitutionality of Health Care Reform," noted that "Even if you somehow suppose that the health care mandate exceeds the commerce power, it would be valid anyway as an exercise of the power to tax," which is now the law of the land. These thinkers are at the forefront of elite liberal legal scholarship, and they all made this argument. It showed up in the oral arguments as well, with Roberts paying particular attention to it, as Brian Beutler of TPM caught at the time.

The second response conservatives have is that Roberts found something Congress never intended. National Review's editors, immediately after the decision, argued that one "distinguishes, though, between construing a law charitably and rewriting it. The latter is what Chief Justice John Roberts has done." The dissent itself argues that "to say that the Individual Mandate merely imposes a tax is not to interpret the statute but to rewrite it."

But in terms of rewriting a bill and judicial activism, I haven't seem any conservatives deal with the "Christmas Tree" doctrine. Given that the dissenting judges found the mandate and related major parts of the bill unconstitutional, what should they do with the rest of the bill? For instance, what should be done about the student loan reform, a major and obviously constitutional provision that was included with the ACA?

The dissenting judges would overturn it. They'd overturn the entire bill, including the student loan provisions. But why? Here is their logic, from the dissent (my bold):

Such [minor] provisions validate the Senate Majority Leader’s statement, “‘I don’t know if there is a senator that doesn’t have something in this bill that was important to them. . . . [And] if they don’t have something in it important to them, then it doesn’t speak well of them.  That’s what this legislation is all about: It’s the art of compromise.’ ” [Quote from New York Times article.] Often, a minor provision will be the price paid for support of a major provision.  So, if the major provision were unconstitutional, Congress would not have passed the minor one.
The Court has not previously had occasion to consider severability in the context of an omnibus enactment like the ACA, which includes not only many provisions that are ancillary to its central provisions but also many that are entirely unrelated—hitched on because it was a quick way to get them passed despite opposition, or because their proponents could exact their enactment as the quid pro quo for their needed support. 
When we are confronted with such a so called “Christmas tree,” a law to which many nongermane ornaments have been attached, we think the proper rule must be that when the tree no longer exists the ornaments are superfluous. We have no reliable basis for knowing which pieces of the Act would have passed on their own.

Notice how this dissent comes up with an elaborate theory of how and why Congress passed the pieces of the bill they did, rewriting the history of how and why health care reform passed. With no previous case law, they turn to a quote from a New York Times article, of all things, to determine the constitutionality of things like student loan reform.

And this history strikes me as ideologically predicated on a third-rate "Public Choice" criticism, which is that all the minor provisions were "quid pro quo" bribes needed to secure passage. It reads like when Scalia brought up the Cornhusker Kickback during legal arguments. So it isn't derived from case law, or a theory of the courts or the law, but on an ideological, right-wing vision of how political actors behave.

Which is to say that the dissent took a maximal course of rewriting and assuming not only the intent but the counterfactual of congressional action and the ACA, including what it does, why it does it, and how it came to be, in their Christmas Tree doctrine. This is the very definition of judicial activism.

If Roberts was interested in minimizing his activism and rewriting of congressional action, as well as maintaining a baseline of presuming the legitmacy and constitutionality of congressional action, wouldn't he have gone with the liberals instead of the conservative dissent?

Now that CBS News has revealed that Roberts changed his vote from siding with the conservatives to siding with the liberals, everyone is trying to figure out why. I wonder if it is because the dissenters wouldn't back down from their Christmas Tree doctrine and Roberts called foul on its absurdity.

Mike Konczal is a Fellow at the Roosevelt Institute.

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A Note on Free Market Fairness: Is "Economic Liberty" Incoherent?

Jun 20, 2012Mike Konczal

There's a fantastic symposium on the book Free Market Fairness going on over at the Bleeding Heart Libertarian website. Make sure to check out Sam Freeman and Elizabeth Anderson, as well as Tomasi's replies to both.

There's a fantastic symposium on the book Free Market Fairness going on over at the Bleeding Heart Libertarian website. Make sure to check out Sam Freeman and Elizabeth Anderson, as well as Tomasi's replies to both. I'm going to add my thoughts on reading the book; note that I'm an amateur when it comes to many of these political theory debates but something strikes me as missing.

One of the core parts of Free Market Fairness' theory of "market democracy" is enshrining economic liberty at the level of basic liberties protected by the constitution, like free speech, the right to a trial or political participation.

In Rawls' formulation, it means that economic liberties would be protected by the first principle of justice. This is the principle that each "person has an equal claim to a fully adequate scheme of equal basic rights and liberties, which scheme is compatible with the same scheme for all." These basic liberties are “inalienable,” and “any undertakings to waive or to infringe them are void ab initio [to be treated as invalid from the outset].” Citizens cannot bargain or trade their basic liberties away.

Many on the left point out how economic liberty isn't true liberty unless it is a fair value liberty, or a liberty that isn't just formally equal but also is substantively equal. To see examples using Rawls' framework, political equality is of the substantive variety, as it matters whether you can actually vote and participate, but religion is only formally equal, as you don't have a right to an expensive church for your personal, elaborate religious ceremonies. The left says economic liberty isn't really liberty unless there's substantive equal ability to participate in the economy.

I'm all for that critique as far as it goes, but I think it is important to go a step further and argue that formulating economic liberty as a basic liberty is, practically speaking, incoherent.

The Department of Stabilization

Rawls described a stabilization branch of the state in Theory of Justice, tasked with bringing about full employment. In practice a lot of our economic debates are focused on what to do about mass unemployment in this crisis.  Let's do a quick map of economic agents in our current Great Recession and how the downturn has impacted them:

There are workers, many of whom are unemployment, and they have sluggish wage growth and low quit rates. Incumbent managers and owners are experiencing big profits and large bargaining power over their workforce. Capital owners have benefitted from disinflationary trends. Entrepreneurs find it difficult to start new businesses amidst mass unemployment. The government could lean against all these trends by doing stimulus, but taxpayers would be on the line if it didn't work out.

Now here's what I mean by incoherent: treating economic issues as a basic liberty tells us nothing about how to address stabilization one way or the other and substantially confuses our intuitions about how to approach the problem - which is one of tradeoffs. The first principle would only allows certain breaches of inalienable economic liberty in order to make the most extensive set of liberties, compatible with similar liberty for others. Now I understand that the regulation of basic liberties (like free speech) is problematic for Rawls, but it dissolves into nothingness here under market democracy.

Basic liberties can't guide us, because liberty for one comes at the expense of liberty for others. Which economic liberties are we to preserve? The one of the unemployed to work, the entrepreneur to have customers, bosses to their profits or rentiers to their capital income? All of these liberties are part of the economic realities of each agent, and these are fundamentally in tension with each other. There's no way to view them as "compatible" with each other as a sufficient condition to animate decision-making.

The only way to address them as a matter of policy is to balance them against each other according to some principle. Full employment? Price stability? Deflation and the Gold Standard? Bringing in the concept of liberty prevents the ability to discuss these in terms of tradeoffs, as the whole point of basic liberties is that groups of citizens can't have their basic liberties traded off each other.

One could say that the only system is thus one of no stabilization. But this is a policy choice, no different than emphasizing full employment at all costs. There's nothing about mass unemployment that must contain more inalienable liberty than full employment - it is just a different set of actors who benefit. And this would look suspiciously like bringing in one set of arguments for how the economy should work and whom it should work for through the courts, rather than democratically through argument in the public sphere.

This incoherence exists more broadly. For instance, uses of basic liberties aren't up for being traded. I can't sell you my vote, and I can't ask the government to enforce a contract where you've sold me your right to a fair trial. Yet economic transactions are all about trading off economic rights. When I sell you my labor I'm accepting serious limitations on what I can do with my labor - it now belongs to you.

Thus economic liberty is often, at any moment, zero-sum: a more extensive liberty for the boss comes at limiting the liberty of the worker. The same for the creditor and the debtor. One of the first big "liberty of contract" cases was Pennsylvania's state court's 1886 Godcharles v. Wigeman, which struck down a state act prohibiting payment of wages in scrip. Here the benefit of the boss (and the company) came at the expense of the worker in the form of the means of payment. This may be a pareto-optimal trade when it happens - market democracy would presume that it must be by definition of it happening - but assuming I'm giving away a liberty for my ultimate long-term benefit, as well as the benefit of the economy as a whole, is way off the reservation of how we consider the other basic liberties.

The best way to conceptualizing it is within a framework of justifying inequalities, which is what Rawls' second principle tries to do. The second principle's difference principle could be the wrong approach - we might want to maximize growth regardless of its impact on the poor - but it is the right spot on the lexical framework to approach such a question. Pushing these questions into the highest lexical position leaves us with nothing coherent to say on the matters, it disrupts our normal thinking about liberty and stops our ability to see these issues as what they fundamentally are, which is balancing private forms of power and providing rules that bend them towards the greater good of the economy. Rules that are, I'd argue, best constructed through democratic argument; but rules that are in no way clarified by referring to more abstract notions of liberty.


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Should the Federal Reserve Go into the Muni Market?

Jun 18, 2012Mike Konczal

It seems likely that the Federal Reserve will provide additional easing in reponse to a declining economic environment when it meets later this week. But what form will this easing take? Tim Duy does the Lord's work in trying to read the tea leaves here. He ultimately concludes that nobody has any idea, and that this is a major communications failure on the part of the Federal Reserve.

It seems likely that the Federal Reserve will provide additional easing in reponse to a declining economic environment when it meets later this week. But what form will this easing take? Tim Duy does the Lord's work in trying to read the tea leaves here. He ultimately concludes that nobody has any idea, and that this is a major communications failure on the part of the Federal Reserve. "We really have no idea what the Fed is going to do or why they are going to do it.  Reasonable analysis ranges from nothing to massive quantitative easing."

Cardiff Garcia of FT Alphaville also tries to make sense of the possibilities, including discussing this decision tree (why aren't there more decision trees on blogs?) from Credit Suisse:

That's a pretty good list of ideas; Garcia has more, including a chart with pros/cons of each option.

What else could it do? Here's a suggestion Richard Clayton, the Research Director of Change To Win, emailed me after my interview with Joe Gagnon, that I haven't seen as part of the discussion:

One question that Gannon doesn’t deal with directly: under Section 14 b 1 the Fed has the authority to purchase any obligation of a state or local government of 6 months maturity or less. This provision seems clearly to permit a mass refinancing of state and local government debt at the current 6 month interest rate (very close to 0), which would save state and local gov’ts approximately $75 billion a year (going by the flow of funds #s for state and local interest payments). Moreover, since state and local govts do the bulk of infrastructure investing, the fed could create a program to fully fund such investment through purchases of newly issued 6 month bonds, for projects that meet criteria the Fed sets out (such as being approved by a small committee of civil engineers appointed by the regional fed branches for that purpose). Finally, under section 24 of the Act, the fed can buy from national banks loans to finance residential construction, which in effect would give the fed the ability to spur new multi-family construction (sorely needed, as evinced by rising rents) by enabling lending banks to effectively sell the loans off their books.

Should we be pushing the Federal Reserve to purchase from the muni market, buying short-term state or local government debt? Asking around, a big practical issue is how much to buy from each state, but the Federal Reserve could come up with a solution. If the estimate is correct, that $75 billion would make a major difference to weak state and local budgets, which is a major form of austerity and a major check to recovery during this Great Recession. Clayton's other suggestion is similar to buying MBS, which has a high probability of going through in the flowchart above. The mortgage rate is low but could be much lower, and the Federal Reserve can make that happen.
But I haven't heard this discussed much. What is your take - should the Federal Reserve purchase short-term state and local government debt?
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Twilight of the Elites Review Up, Plus Weekend Links

Jun 15, 2012Mike Konczal

I have a review of Chris Hayes' excellent new book, Twilight of the Elites, now online at Dissent Magazine.  Check it out here.

More links:

Elise Foley has the best writeup of the policy behind President Obama's important executive order surrounding the Dream Act.

I have a review of Chris Hayes' excellent new book, Twilight of the Elites, now online at Dissent Magazine.  Check it out here.

More links:

Elise Foley has the best writeup of the policy behind President Obama's important executive order surrounding the Dream Act.

JW Mason at Slackwire tries to find the method in the ECB's madness. Great stuff.

The Prison Law Blog is sadly ending (though archives will be available online); long live the new project Evolving Standards of Decency.

Monica Potts big American Prospect story on poverty, reported after living in Kentucky for several months.

Fantastic Elizabeth Anderson Bleeding Heart Libertarian post on economic freedom. I should reread her "What is the Point of Equality?"

A Boston Review interview with Michael Lind on his new book.

Dark times, take comfort in the small victories. Here's a victory from Occupy Minnesota on foreclosure activism, keeping the mother of an activist in her home.

Marcy Wheeler gives an overview of David Dayen's foreclosure fraud panel from Netroots Nation. I got a chance to talk with Neil Barofsky the night before; I'm really looking forward to his new book about the bailouts and the Obama administration.

I love when you can see how much the Roots enjoy being in geeky Jimmy Fallon skits, like everyone singing Call Me Maybe with Carly Rae Jepsen while playing elementary school musical instruments. Also Fallon is having the best time too - I need to watch this show more often, great vibe:


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The Rent(al Income as a Percentage of GDP) Is Too Damn High, and Households Severely Burdened with Housing Costs

Jun 15, 2012Mike Konczal

Here's a great graph from Mike Norman Economics:

Here's a great graph from Mike Norman Economics:

Rental Income is "Rental Income of Persons with Capital Consumption Adjustment" (which you can find in FRED here). What's that? According to the BEA: "It consists of the net income from the rental of tenant-occupied housing by persons, the imputed net income from the housing services of owner-occupied housing, and the royalty income of persons from patents, copyrights, and rights to natural resources."

And, starting in the late 1980s it skyrockets as a percentage of our economy. It declines in the mid-2000s (the BEA explains why here), but is returning with a vengance. (Update: This data includes imputed rents homeowners pay themselves, and that is driving a lot of the increase, and we should emphasize that it makes straightforward analysis more complicated.)

But we are concerned with this impact on real people. What does the rental market look like on the ground, especially for people with high rents? The Joint Center for Housing Studies of Harvard University just released their 2012 State of the Nation's Housing.

(Aside: do we have too many houses? Study: "Given that the number of new homes added in 2002–11 was lower than in any other ten-year period since the early 1970s, it is difficult to argue that overbuilding is dragging down the housing market. Instead, the excess housing supply largely reflects the sharp slowdown in average annual household growth in 2007–11 to just 568,000—less than half the pace in the first half of the 2000s or even the 1.15 million averaged in the late 1990s." This household formation drop is due to the unemployment crisis and "a sharp drop in immigration." There are some good charts that explain this.)

For the purposes of our rentier economy, I want to look at something they emphasize: people burdened by housing expenses. They find that, from 2007 to 2010, there was an increase of 2.3 million households paying more than half of their income for housing (what they define as "severly burdened"); that brings it to a total of 20.2 million. That is no doubt impacted by the unemployment crisis, but this is a longer-term trend too. There was an increase of 4.1 million people paying more than half their income for housing from 2001-2007:

That 20.2 million severly burdened households are equal to 18 percent of all households. 27 percent of renters fall into this severly burdened category, with homeowners roughly half that number.

Who falls into this category? Older people are vunerable, with a rise from 12 percent to 16 percent of 55-64 year olds falling into the severly burdened category from 2007 to 2010. Metropolian areas, especially core cities, are places where this is prevalent. It impacts poorer people the most, with over 60 percent of those making less than $15,000 in this category, and 30 percent of those making between $15 and $30 thousand dollars a year as well. It's negatively correlated with education, with those with a college degree having the lowest rates - so this isn't a matter of young college graduates overpaying to live in a nice city.

Indeed It is worth noting that poor families with children paying more than fifty percent of their income on housing spend less on other essentials. "Among families with children in the bottom expenditure quartile, those with severe housing cost burdens spend about three-fifths as much on food, half as much on clothes, and two-fifths as much on healthcare as those living in affordable housing." No doubt some of these cost burdened households love living where they do, save on transportation and don't mind the spending; others are spending much less on food for their children because they need to spend so much to keep a roof over their heads.

This is what it looks like when working people get squeezed by rents.


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Do I Need to Get Healthy to Save For Retirement? A Response to Peter Orszag's Barbell Approach

Jun 15, 2012Mike Konczal

Why the argument that we can't have short-term stimulus without long-term deficit reduction doesn't hold up.

Let's say there are two obvious things I should be doing to make my life better: being healthier now and saving more for retirement. We'll say that it is hard to disagree with these two items, and that these are obviously smart moves for me to make.

Why the argument that we can't have short-term stimulus without long-term deficit reduction doesn't hold up.

Let's say there are two obvious things I should be doing to make my life better: being healthier now and saving more for retirement. We'll say that it is hard to disagree with these two items, and that these are obviously smart moves for me to make.

Given that they are the smart things to do, I should try to do both at the same time, right? I shouldn't let my failure to do one prevent my ability to do the other. It would be weird for me to tell my doctor I was going keep on eating multiple triple bacon cheeseburgers because I wasn't maxing out my 401(k) contributions; my accountant would be puzzled if I told him I wasn't going to invest my savings for retirement until I dropped some weight. There could be convoluted situations in which I could only do both -- no point in saving for retirement if I'm not going to make it there -- but it would have to be backed up by undeniable facts, since it would involve not trying to do something I believed was a good idea.

Yet this is how elite, center-leaning policy intellectuals think on the issue of deficits. The Very Serious People, if you will. They think we need to increase the size of the short-term deficit. They also think that we need to reduce the size of the long-term deficit. But they think that these two actions can only move together and, like I told my doctor and accountant, if one doesn't happen the other can't either. This is often known as the two-deficits problem, which I last talked about in The Nation.

Take the Domenici-Rivlin Restoring America's Future plan. In the overview it states, "First, we must recover from the deep recession that has thrown millions out of work... Second, we must take immediate steps to reduce the unsustainable debt ... These two challenges must be addressed at the same time, not sequentially." (The deficit hawk Comeback America Initiative report is similiar, with $500 billion dollars in infrastructure over two years tied to focusing on long-term deficit reduction.)

It's never very clear why these two must move together. The more aggressive argument is that the market will panic and raise interest rates if the long-term deficit is not addressed, immediately canceling out the stimulus. The more widely used version is that stimulus now would increase the longer-term debt, hence making the longer-term challenges worse and the crises and challenges occur more quickly.

This is why something like Delong-Summers paper "Fiscal Policy in a Depressed Economy" is so important. It finds that "under what we defend as plausible assumptions of temporary expansionary fiscal policies may well reduce long-run debt-financing burdens."

As Seth Ackerman noted, there's something gleeful in seeing Delong-Summers, in their focus on hysteresis in Europe, dismiss the "principal alternative theory was that high unemployment in Europe in the 1980s and 1990s" as "principally a supply-side phenomenon...and rigid labor market institutions... See Krugman (1994)" in a footnote (!), as if that's not a major reversal or anything. But the argument that, from the debt-to-GDP point of view, fiscal stimulus in a depressed economy is a smart investment by itself, is important for countering the idea that it must be linked to something else in the long term.

Here's where Peter Orszag's "Barbell Approach Only Way to Lift Heavy Economy" enters the picture. Orszag argues that that Delong-Summers approach is flawed because it ignores this two-deficits (or what he calls the barbell) problem, which argues that even if short-term stimulus is a good idea it should be linked to long-term deficit reduction. To use the opening analogy, even if getting healthy is a good idea, we should only try it if we save more for retirement. Why is this?

But these stimulus-only proposals, by not lifting the other side of the barbell, are incomplete for three reasons: First, substantial stimulus-only proposals have no chance of being enacted. Second, even if they could be, they would accelerate the date at which we again run up against the debt limit -- and their proponents have no strategy for dealing with that impediment. Finally, even if the debt limit were simply assumed away (an ivory-tower approach that might prove appealing to some stimulus-only proponents), the impact of any stimulus would be stronger, and our international credibility enhanced, if it were combined with specific, but delayed, actions to reduce the deficit.
The first is a political problem, not an economic one. It should be noted that the barbell strategy, as enacted in 2011 by President Obama, lead to his lowest approval ratings and the sense that he was being politically destroyed by his Republican counterparts. The Republican presidential primary debates featured all candidates saying that they wouldn't accept a 10-to-1 cut-to-tax ratio; it doesn't seem like this strategy is likely to have a political edge anytime soon. Also politics is a matter of elite opinion, and elite opinion isn't an asteroid that falls out of the sky. It is a series of assertions made and defended by elites like Orszag. He can choose to try and change that, like Summers is, if he'd like. Elite opinion is often wrong, and I believe it is wrong here. But one can't create and defend it while arguing it is a constraint.
The second, referring to the debt ceiling, is also a political problem, but I'd argue that nobody seems to have a particularly good strategy for dealing with it. Even so, if the problem is Republicans refusing to vote to increase the debt ceiling in a time of crisis, that needs to be addressed as a political problem; it doesn't refute the smart economic idea of fiscal stimulus in a depressed economy. (Sometimes the limit is referred to as a debt-to-GDP limit where, once past, growth slows. See Josh Bivens tear apart those kinds of arguments here.)
The third is an economic argument, which says long-term deficit reduction measures would increase the credibility of the United States. Normally that translates into lower long-term interest rates for government borrowing. Would that help? Here's Peter Orszag arguing against QE2 in December 2010: "a modest reduction in long-term interest rates will not have much effect on economic activity at a time when corporations are flush with cash and worried about the future." Would a few basis points gained through credibility help now, especially if the long-term effects were painful? Even if it did, it may bolster the case for the barbell approach, but it still doesn't necessitate it.
That 2010 editorial is fascinating because it argues that we need "more fiscal expansion (read: more stimulus) now" and "much more deficit reduction, enacted now, to take effect in two to three years." It's one and a half years later, and we still need the same exact thing according, to common wisdom: more fiscal expansion now, and deficit reduction in two to three years. That a bond vigilante revolt that was scheduled starting in 2012-2013 turned into a bond vigilante rally; Treasuries are at record lows, even lower than in 2010. Which is to say that our credibility hasn't been in play -- even a ratings downgrade hasn't changed anything. Rather than being terrified of the United States' fiscal position, capital markets are desperate for the U.S. to find something productive to do and are willing to loan us the money to do it at ultra-cheap rates. It would be great for us to take advantage of this smart economic move without holding it ransom to the possibility of challenges in the distant future.
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Mike Konczal is a Fellow at the Roosevelt Institute.

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Public Sector Layoffs and the Battle Between Obama and Conservative States

Jun 12, 2012Mike Konczal

The government job losses that are holding the recovery back are directly related to the Republican state legislators who were swept to power in 2010.

Last Friday, both presidential candidates had a back-and-forth over the issue of public sector jobs. President Obama said that the private sector is doing fine but the public sector needs help and is threatening the recovery, and Mitt Romney attacked the idea that "we need more firemen, more policemen, more teachers.”

The government job losses that are holding the recovery back are directly related to the Republican state legislators who were swept to power in 2010.

Last Friday, both presidential candidates had a back-and-forth over the issue of public sector jobs. President Obama said that the private sector is doing fine but the public sector needs help and is threatening the recovery, and Mitt Romney attacked the idea that "we need more firemen, more policemen, more teachers.”

This has lead to new interest in the decline of public sector workers over the past three years. Two major economists from Yale, Ben Polak and Peter K. Schott, just wrote a post at at Economix titled "America’s Hidden Austerity Program."

Polak and Schott argue that "there is something historically different about this recession and its aftermath: in the past, local government employment has been almost recession-proof. This time it’s not... Without this hidden austerity program, the economy would look very different. If state and local governments had followed the pattern of the previous two recessions, they would have added 1.4 million to 1.9 million jobs and overall unemployment would be 7.0 to 7.3 percent instead of 8.2 percent."

But why is this happening? Polak and Schott:

One possibility is that we are witnessing a secular change in state and local politics, with voters no longer willing to pay for an ever-larger work force. An alternative explanation is that even though many state and local governments are constrained not to run deficits, they can muddle through a standard recession without cutting jobs. But when hit by a huge recession like that of 1981 or the latest one, the usual mix of creative accounting and shifting in capital expenditures cannot absorb the shock, and jobs have to go.

This drop in public-sector workers is well documented, and it is great to get more economists ringing the bell on it. But I think there needs to be more research into how this has happened. As my colleague Bryce Covert notes over at The Nation, "the massive job loss we’ve been experiencing in the public sector is no random coincidence or unfortunate side effect. It is part of an ideological battle waged by ultra conservatives who were swept into power in the 2010 elections."

As we've written before (article, white paper), the 11 states that the Republicans took over during the 2010 midterm elections – Alabama, Indiana, Maine, Michigan, Minnesota, Montana, New Hampshire, North Carolina, Ohio, Pennsylvania, and Wisconsin – account for 40.5 percent of the total losses. By itself, Texas accounts for an additional 31 percent of the total losses. So these 12 states account for over 70 percent of total public sector job losses in 2011. This is even more important because there was a continued decline in public sector workers in 2011 even though the economy was no longer in free fall.

The 11 states that the Republicans took over in 2010 laid off, on average, 2.5 percent of their government workforces in a single year. This is compared to the overall average of 0.5 percent for the rest of the states. So while it is a nation-wide event, it is concentrated in states that went red in 2011:

Wisconsin, for instance, lost nearly 3 percent of its workforce in 2011 alone, which shows how high the stakes are. Conservatives are tearing down and rebuilding state governance during this Great Recession. There is an element of state and local layoffs that is strictly budgetary, as the average for all the groups is negative. But there is also an element that is about a face-off between President Obama and new conservative state legislatures.

There's two things worth considering about this dynamic. The first is that any stimulus offered from the federal government could be refused or re-directed to other purposes by state governments. The fighting over getting conservative states to accept stimulus money, which was a battle in 2009-2010, would have been much more heated after the 2010 election. And if money did come in under the rubric of helping retain teachers it may, without a political battle, just go to reducing corporate taxes. We are already seeing this with the AG foreclosure fraud settlement money, which is being redirected to other purposes in many states.

The other is that this should be viewed through the lens of the series of standoffs the administration has with conservatives at the state level. The administration has been fighting with Arizona over its "papers please" immigration law, Florida over voter record purges, and several states in battles over GLBTQ rights and reproductive freedom. Trying to keep red states from slashing their workforces in a time of economic weakness is another front in this battle for those trying to steer the economy toward full employment.

Mike Konczal is a Fellow at the Roosevelt Institute


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At Netroots Nation with a Panel Thursday

Jun 7, 2012Mike Konczal

I'll be at Netroots Nation for the next several days. If you are here and want to say hi, shoot me an email or a twitter message.
Today, Thursday at 4:30pm in room 552, I'll moderating a panel on progressives and the Federal Reserve with Matt Yglesias of Moneybox, Karl Smith of Modeled Behavior, and Lisa Donner of Americans for Financial Reform. If you are there you should check it out.
I believe it will stream online, so you can watch it even if you weren't able to make it. Hopefully it'll be viewable in the box below.

After the fact it should be viewable online. You can stream other panels at this webpage.

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What Constrains the Federal Reserve? An Interview with Joseph Gagnon

Jun 4, 2012Mike Konczal

There's a growing consensus right now that the Federal Reserve could be doing more to bring about a stronger recovery given its current powers. It's even more relevant in light of the recent weakening of the recovery, as shown in the poor job numbers that came out last Friday. But there's a lot of disagreement and confusion about the constraints that prevent the Federal Reserve from taking more action.

There's a growing consensus right now that the Federal Reserve could be doing more to bring about a stronger recovery given its current powers. It's even more relevant in light of the recent weakening of the recovery, as shown in the poor job numbers that came out last Friday. But there's a lot of disagreement and confusion about the constraints that prevent the Federal Reserve from taking more action. It's even more confusing given Federal Reserve Chairman Ben Bernanke's past research, where he described the Bank of Japan falling into “self-induced paralysis.” Some believe the constraints are political, others believe they are related to fighting among the various governors, and there are those that believe Bernanke is comfortable with monetary policy as it is.

In order to make sense of the various constraints the Federal Reserve faces, I spoke with Joseph Gagnon, senior fellow at the Peterson Institute for International Economics, over the weekend. Gagnon was an associate director for the Federal Reserve’s Division of Monetary Affairs and Division of International Finance, where he was involved with the execution of QE1. I last spoke with Gagnon on the issue of QE3 last summer.

Mike Konczal: Let's start with the basics. Does a random person -- not at the highest levels, but among those who make up most of the researchers and workers -- at the Federal Reserve think that the Fed is "out of ammo"? What are their opinions on how well previous expansionary monetary policy at the zero bound, like QE2 and Operation Twist, have worked to bolster the economy?

Joseph Gagnon: Let me start by linking to a blog post from a former classmate at his new blog, Miles Kimball’s Balance Sheet Monetary Policy: A Primer, that spells out what the Fed could do and why it would work. However, he ignores some of the legal restrictions on what the Fed can do. (See below.)

My sense is that most Fed economists believe that the Fed does have substantial, though not unlimited, ammo. They also believe QE1, QE2, Operation Twist, and the language concerning future policy intentions (staying near zero interest rates through late 2014) had significant positive economic effects, but not apparently large enough to achieve the rapid recovery that is desired.

Basically, the Fed has run out of ammo in terms of language about future policy intentions because it cannot credibly signal its intentions for more than two to three years ahead. It can extend the “late 2014” horizon into 2015, but that is fairly minor.

In terms of the asset purchases, the Fed is limited by law to the Treasury, agency, and agency MBS markets plus foreign exchange. Buying foreign exchange would be viewed as economic warfare by many countries, so it is probably ruled out even though it reflects rank hypocrisy on the part of foreign governments that are massively buying dollars. In the Treasury market, yields on three-year notes are only 0.3 percent, so the Fed must buy five-year to 30-year bonds to have any effect. With the 10-year yield at 1.5 percent, the scope for further effects is modest. Even if the Fed bought every 10-year Treasury, it would be hard to get the yield much below 1 percent, because the risks on such a bond become tremendously skewed toward future losses. There is more scope to buy agency MBS to lower the mortgage rate, but already mortgage rates are at a record low of 3.75 percent. At some point between 2 and 3 percent we are likely to reach the limit. So, the Fed has quite a bit of ammo left, but we can see that it is not inexhaustible.  

Research I am doing suggests that it would be much more attractive for the Fed to buy a broad basket of U.S. equities to support the stock market than to try to push down bond yields from these already low levels. Sadly, the Fed is not authorized to buy equities, even though other central banks are allowed to do so.

MK: A story is circulating that there has been a lot of internal disagreements among the members of the Federal Open Market Committee (FOMC), and this has prevented Bernanke, who wants to have consensus on the votes, from expanding further. You see this idea in the series of three dissenting votes against more action throughout much of 2011 and the lack of dissenting votes for more action until Charles Evans' in late 2011. Is it your sense that the FOMC composition has held the Federal Reserve in check on expansion?

JG: The hawks will never get more than three votes. This year only one hawk has a vote. Chairman Bernanke and his close allies (Yellen, Dudley, Pianalto, Williams, Tarullo, Stein, and Raskin) have a comfortable majority.

MK: A lot of economics writers assume that Bernanke is uncomfortable with non-unanimous votes and just the presence of vocal, hawkish votes has constrained how far he is willing to go with expansionary actions. Have those divisions held expansion in check in the past, even if there are fewer hawks now? And would more doves on vacant FOMC seats have made a difference in 2009?

JG: I think Bernanke had some preference for unanimous decisions, but not a strong preference. I expect there will be dissents all year. I don’t think mere voting support would have made much difference in 2009 because Bernanke knew he could get whatever he wanted. But a strong discussion leader in favor of greater ease might have made some difference if he was persuasive enough. I believe Bernanke is intellectually much closer to the doves than the hawks, but he and some of the other doves are more cautious than the hawks.

MK: What's your sense of how the economics profession broadly reacts to the idea that the Federal Reserve could be doing more? Do you think a generic economist thinks the Fed could be doing more and isn't, or that the Fed is "out of ammo" in how it can expand the economy?

JG: I think the average economist outside the Fed thinks the Fed has less ammo than the average economist inside the Fed. I frequently hear people say the Fed has done all it can do. I do not agree, but I do see a limit approaching. Note that that limit arises from legal restrictions on the Fed. If the Fed were empowered to buy all assets, it would never run out of ammo.

MK: Others point to political pressure, especially from the right. There have been rhetorical moves, such as Rick Perry saying he’d treat the Federal Reserve "pretty ugly." There is the blocking of nominees, such as Peter Diamond being blocked because “[h]e supports QE2.” And it also has to do with conservative political infrastructure. The Club for Growth put whether or not Republicans supported Peter Diamond for the FOMC on their checklists for proper Republican behavior.

How much does political pressure place a constraint on the Federal Reserve's ability to do more expansion?

JG: Chairman Bernanke would deny that political pressure influences his vote, and he even went out of his way to make a public appearance in Texas after Rick Perry made his threat. But FOMC members all read the papers. They see the virulent opposition to their policies on the right and the silence on the left. (Paul Krugman is a big exception, but he is not a politician.) They want to avoid any Congressional action that would reduce their independence in the future, in part because they think this might lead to even worse economic outcomes than we are currently experiencing.  I think they should stick to achieving their current mandate and not fail to achieve it out of fear of what a future Congress might do. In my view, Congress and the president are solely responsible for making laws and the Fed is solely responsible for achieving its mandate. But I am pretty sure some FOMC members either consciously or unconsciously disagree with me and shade their actions out of this concern.  

MK: Is it a question of balance? I've noticed that there is little political pressure from liberals on the Fed for more expansionary policy. Is it a matter of there being little countervailing pressure?

JG: I think it would help if politicians on the left criticized the Fed more strongly for failing to achieve its employment mandate.

MK: A very popular theory in the financial blogosphere is that the inflation target functions as a ceiling, not an actual target. Ryan Avent has argued that the Fed goes into action to prevent deflation, but once inflation expectations approach 2 percent it pulls back. Matthew O'Brien at the Atlantic Monthly has referred to a 2 percent ceiling as the new cross of gold. And Greg Mankiw has written, “If Chairman Bernanke ever suggested increasing inflation to, say, 4 percent, he would quickly return to being Professor Bernanke.”

Is the 2 percent "ceiling" a serious constraint, and why?

JG: The Fed has said 2 percent is the target, not the ceiling, but I agree that their actions over the past three years are not consistent with their statements. I think we should be willing to accept temporarily higher inflation if that would help to reduce unemployment faster. Indeed, combining actions like QE with an announced willingness to accept temporarily higher inflation could create a synergy that would increase the potency of QE (by reducing the real interest rate). But I fear that announcing a goal of higher inflation, either temporary or permanent, will not actually do anything unless it is backed by actions.

Also, I do not think we should permanently raise the inflation target. It is not necessary to do that to get more monetary stimulus and it would jeopardize the hard-won war on inflation of the past two decades.

MK: There’s the idea that, in the past, economists believed a lack of explicit inflation target gave central banks flexibility, but it doesn't seem that we've seen this flexibility.

JG: The general view is that you do not make up periods of being above or below target, you simply always strive to get back to the target. The problem is that the Fed is not taking this approach equally to unemployment and inflation.

Some have argued for a price path target or a nominal GDP path target. In that case you do make up for past deviations in inflation. But I think it is difficult to explain to the public how the specific path is chosen. Why should the CPI be 105 in 2013, 107 in 2014, 109 in 2015, and so on indefinitely? People care about the inflation rate not, some arbitrary price level. And it means that after booms you must have deflation. Indeed, if one had started the path in the early 1990s, the late 1990s boom would have put us way above it. Then the Fed would have had to make the 2001 recession much more severe to get us back on the path. That would have been a tough sell politically.

MK: There are those that think Bernanke should be much more explicit in declaring expectations. This became a big idea recently after an article by Paul Krugman said that Ben Bernanke has abandoned the insights of Professor Bernanke. Bernanke is essentially doing things that the Fed can't fail at instead of the things he proposed Japan should do in a similar downturn. What's your take on this disagreement?

JG: I think it is sensible for the Fed to stick to statements about things it is confident it can achieve, provided that it feels it is doing enough to achieve its objectives. For example, it can talk about purchasing MBS and pushing down the mortgage rate, thus stimulating the economy. The problem is that it has not achieved its objectives over the past three years and its own forecast shows it does not expect to achieve its objectives over the next three years. My advice is to take stronger actions of the type already taken. But if the scope for doing that runs out, then the Fed has to try riskier actions, including those of the type Paul Krugman described. Among those actions, I would tend to favor those for which the Fed has direct tools, such as buying foreign exchange to push down the dollar, rather than trying to raise inflation expectations by verbal jawboning.

MK: Finally, there are those who think that Bernanke is pretty happy with the rate of recovery and is mostly focused on downside risks. As Bernanke said at his recent press conference, "the question is does it make sense to actively seek a higher inflation rate in order to achieve a slightly increased pace of reduction in the unemployment rate? The view of the committee is that that would be very reckless." Is this, by itself, a significant barrier to future monetary expansion?

JG: Yes, this is a significant barrier. I think it reflects ill-defined concerns about the costs of taking more action to reduce unemployment faster. Some Wall Street economists fear that more aggressive Fed action now will give rise to more inflation in the future, but no Fed economist I know agrees with that. The Fed knows how to fight inflation and there is no reason that policy actions now need to cause excess inflation later. Another concern might be that expanding the Fed’s balance sheet will expose it to greater losses in the future when interest rates eventually rise (because higher interest rates will reduce the value of the bonds the Fed holds).

But the Fed’s mandate does not include maximizing profits. From the point of view of the United States, what matters is the consolidated government balance sheet (Fed + Treasury), and there is no way that QE can do anything but reduce our national debt burden. Any future losses by the Fed would be more than matched by gains to the Treasury.

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