Category Archives: inequality

Year-End Perspectives on the US & Global Economies

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A year-end summing up of where we stand is harder than usual this time!

I have recently spoken:

  • on “Global Economic Challenges for Donald Trump,” (outline; slides: Ppt, pdf) on a panel at the American Enterprise Institute, Washington, DC, Dec. 5, 2016. Summary & video.
  • And on “An Economy That Works for All Americans” (slides: pptpdf)  to the Bipartisan Program for Newly Elected Members of Congress, Institute of Politics, December 7, 2016.
  • And  on “Trade and Inequality,” (slides: Ppt, pdf) at the  Providence Committee on Foreign Relations, Dec. 14, 2016.
  • The Chosun Daily now asks for five key factors for 2017.  Here is my response.
  1. Continued uncertainty over what US policies will come out of the new Trump Administration.
    Reason: we don’t know what he will propose, because he has said so many contradictory things, and we don’t know how much resistance he will face in the Congress.
  2. Strong dollar and widening US trade deficits
    Reason: Rising US interest rates will continue to make dollar assets more attractive to global investors than other countries’ assets. A new monetary-fiscal policy mix, reminiscent of the early 1980s, underlies these trends.
  3. Difficulties in some Emerging Market countries, especially those dependent on commodity exports and/or with debts denominated in dollars.
    Reason: their debt service ratios will worsen, because their debt service obligations arl going up while their dollar export receipts are going down.
  4. China forced to choose between halting the depreciation of the RMB, on the one hand, versus further internationalization of the currency on the other hand.
    Reason:  Controls on capital outflows could be used to slow down the fundamentals-driven depreciation, but imply suspending the RMB internationalization project for the time being.
  5. The possible end of a 70-year period of US-led global progress toward a liberal international order. 
    Reasons:  Global trade has stopped rising as a share of global GDP since 2008.  One factor is that we have had no important successful new trade deals.  Now the incoming US President appears explicitly to reject the very ideas of globalization, liberal values, and US leadership.  Analogous nationalistic political forces have risen in other countries too, as shown by Brexit.
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Clinton Economics vs. Trump Economics

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[These two pages were written for an OMFIF report released Oct. 28.  They draw on some of my preceding columns.]

If one judges by the two candidates’ economic policy stances, the 2016 US presidential campaign is not quite as much of a departure from the past as it otherwise appears.   Hillary Clinton’s economic plans largely echo Democratic Party orthodoxy, with its focus on progressive tax rates which ease the burden on the lowest earners while raising it for those at the top; on expanding social welfare programmes, especially education and childcare; and on advocating greater regulation of financial institutions.  She also has a traditional focus on increasing labour force participation.   Donald Trump’s proposals for his part reflect important traditional policies of the Republican Party, including huge tax cuts for the rich and expanded military spending, despite the radical unorthodoxy of many of his statements such as contemplating renegotiation of the government debt.

Economic growth record of Democratic vs. Republican presidents

Analysis of the US economy since 1945 shows that it has performed better under Democratic presidents than Republican ones, judged by a wide variety of indicators. A recent paper by Princeton University economists reports that annual GDP growth has averaged 4.3% during Democratic administrations compared to 2.5% under Republicans, with the performance gap widening even further if the analysis is extended back to Herbert Hoover’s administration in 1929.

The figures are also stark when looking at the occurrence of recessions. Of the 256 quarters covered by post-war presidents from Truman to Obama, the US economy was in recession for an average of 1.1 quarters during Democratic presidencies and 4.6 quarters during the Republican terms. The odds that such a large difference is the result of mere chance are no more than one in 100.

On unemployment the Democrats have also fared better, with the rate falling by 0.8 percentage points on average under Democratic presidents, and rising by 1.1 percentage points under Republicans – a remarkable difference of 1.9 percentage points. The structural budget deficit has averaged 1.5% of GDP under Democratic presidents, against 2.2% for Republicans.

The likelihood that luck alone could have produced such large and consistent differences in economic performance is extremely low. There is only a 100-to-one chance that nine out of the last 10 recessions would have begun under Republican presidents. Yet they did, as confirmed by the data of the NBER Business Cycle Dating Committee. The odds are even steeper – 256-to-one – against the likelihood of GDP growth slowing every time a Republican took office and speeding up every time a Democrat became president; yet this too has happened.

This pattern has continued under President Barack Obama.  In January 2009 he inherited an economy in freefall.   The nosedive ended almost immediately after he took office (whether measured by job losses, growth rates, or the financial markets). The recession ended in June 2009, aided by such measures as the Obama fiscal stimulus that was enacted in February over Republican opposition.  The economy went on to set a record for consecutive months of employment growth.  The last pre-election employment report showed that, as of October of this year, the cumulative number of private sector jobs created since early 2010 reached 15 ½ million.

Addressing inequality

If the total economic pie tends to grow faster under Democrats, what about the way the pie is divided up?  Much discussion in this election year has focused on inequality and particularly the role of globalization.

Trump emphasizes negative effects of globalization on low-wage manufacturing employment and wants to reverse the trend.  It is true that trade, like technological change and other sources of growth, creates both winners and losers. But a fundamental proposition in economics holds that when individuals are free to engage in trade, total income increases enough that the winners could, in theory, compensate the losers, leaving everyone better off.

Globalization skeptics correctly point out that, in practice, the compensation often remains hypothetical. But no president can undo globalization even if he or she wants to. Fortunately, there is a better option. We can take globalization as a given, and adopt measures to help improve life for those who lose out.  The two parties have historically differed on the latter approach and continue to do so.

Democrats have consistently supported policies to help those who have been left behind, such as Trade Adjustment Assistance, an expanded Earned Income Tax Credit, wage insurance, universal health insurance, universal high-quality pre-school education, and a big program for infrastructure investment.  Republican politicians have mostly opposed these policies.  A few of the policies, such as Obamacare, have managed to get through nonetheless.  They may help explain why, according to the annual statistics released on September 13 by the Census Bureau, last year finally saw a big drop in inequality.  Real median household income rose 5.2 percent in 2015 — the fastest growth on record — with lower-income groups advancing even more. The poverty rate experienced its largest one-year drop since 1968.

Thus we can expect from a new Clinton administration policies that would help produce both a larger economic pie and more even distribution… if she has the votes in Congress to pass them.

Weighing up Clinton’s plans versus Trump’s

Furthermore Secretary Clinton’s proposals are paid for.  Meanwhile, the arithmetic of Trump’s fiscal plans fails to add up. While proposing to cut the corporate tax rate to 15%, from 35% currently, his proposal fails to broaden the tax base, resulting in a significant loss of tax revenue.  Trump would also reduce the highest personal income tax rate sharply and abolish the estate tax for the wealthy.  He simply asserts that increased economic growth will make up the shortfalls, without offering any good reason to expect it to happen.

His fiscal plans have been so ill-defined and changeable that it is hard to evaluate them.  He says different things to different audiences.  But independent analysts have estimated that his announced tax policies would lead to $5 – $10 trillion in revenue losses over the course of just one decade (depending which of his “plans” one evaluates.)  This fiscal cost goes even beyond the trend of past Republican presidents, who propose large specific tax cuts, without specific spending cuts, and yet claim they will reduce the deficit. Instead, history shows they have produced much larger average budget deficits.

Despite the unconventional nature of much of this election, the underlying issues remain broadly similar to previous campaigns. The Democratic candidate still favours policies like progressive taxation, wage insurance and universal health insurance, and the Republican candidate still opposes them. So American voters on November 6 will still make a choice over the issues that have always divided the two parties. Whether this means the trend of historically stronger economic performance under a Democratic president – and weaker performance under a Republican – will be extended remains to be seen. But history suggests we would do better under a Hillary Clinton administration.

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The Fed and Inequality

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Populist politicians, among others, have claimed in recent years that monetary policy is too easy and that it is hurting ordinary workers.   But raising interest rates is not the way to address income inequality.

It is a strange claim for anyone to make, but especially for populists.  Low interest rates are good for debtors, of course, and bad for creditors. Throughout most of US history, populists have supported easy monetary policy and low interest rates, to help the little guy, against bankers, who had hard hearts and believed in hard money.  That was the argument when William Jennings Bryan ran for president in 1896 on a platform of easier money, with the support of Midwestern farmers who were suffering from high interest rates and declining commodity prices.  It was the argument when supply-siders opposed Paul Volcker’s high interest rates, leading Ronald Reagan in 1985 to appoint two Federal Reserve governors who would challenge the Chairman.

The truth is, monetary policy is not a very appropriate lever with which to address income inequality.  That is not to say that inequality is not important.  It is.  Most of the increases in GDP have gone to those at the top since the 1970s.  But the right tools to address the inequality problem are progressivity in taxes, universal health insurance, financial reform, and so on.  To draw an analogy, global climate change is an important problem, but monetary policy is not the right tool for that job either.

The job of monetary policy is to promote growth in the overall economy while maintaining price stability and financial stability.  This is not at odds with helping those in the lower rungs of the income ladder.  To the contrary, a “high-pressure economy” (to invoke a phrase recently revived by Fed Chairman Janet Yellen), that is, an economy running hot enough to create jobs at a rapid rate, will eventually lead to higher real wages for workers and higher real incomes for the typical worker.   This describes the results, for example, in the high-pressure economy of the late 1990s which eventually pushed the unemployment rate below 4%.

Some may then react: Why has that not happened in the current expansion?  The answer is that it has.

The economy has added more than 15 million private sector jobs since early 2010.  Employment growth has been running well in excess of the natural rate of increase in the labor force.  The longest continuous series of monthly increases on record had brought the unemployment rate down to 5% by last year (from above 9% in 2009-10) and is now pulling previously-discouraged workers back into the labor force.  The increased demand for labor has in turn led to rising real wages for workers (up 2 ½ % last year), at the fastest rate in this business cycle than any since the early 1970s.

Until recently, the labor market gains puzzlingly did not seem to be show up in the reported real income of the typical American household.  But last month, when the Census Bureau released its annual economic statistics, they showed that median household income had increased by 5.2 percent [$2,800] in 2015, the biggest rise on record.  Furthermore, every part of the income distribution benefited, with the biggest percentage gains going to those in the bottom tier and the smallest gains going to those at the top. These are big changes and offer important confirmation that lower-income families are finally sharing in the economic recovery.

What about those who think that easy monetary policy is bad for income inequality? What are they thinking?   Not all of them are fringe populists.  For example, British Prime Minister Theresa May said earlier this month that low interest rates were hurting ordinary working class people while benefiting the rich.

A fall in interest rates contributes to a rise in securities prices, both stocks and bonds.  Needless to say, the rich hold more stocks and bonds than the less fortunate.   “People with assets have gotten richer. People without them have suffered,” aid PM May.  And indeed, stock prices are high now, near all-time highs in the case of the United States.

The Fed reductions in the policy interest rate occurred quite a while ago, virtually to zero in 2008.  That monetary stimulus together with the associated recovery of the economy no doubt contributed to the turnaround and strong rebound in the stock market that began in early 2009. But it is harder to use the low level of interest rate to explain the continued rise in the stock market from 2012 to 2015, a period when the Fed announced an end to quantitative easing and markets began to anticipate that it would soon start to raise interest rates.

One can think of other distributional implications of easy monetary policy as well.   Inflation is good for debtors and bad for creditors.  That is one reason why good populists have historically favored easy money.

The unconventional monetary policies of recent years [UMP] may have some new effects of their own.  One is the effect on banks, whose profits have been severely squeezed of late.  Low interest rates are a major reason for this compression of bank profits, especially in Europe where the interest rates that banks earn are actually negative but where it is hard for them to cut the rates they pay to their depositors below zero.  Any self-respecting populist should like this squeeze on banks, especially if he or she is still angry about the global financial crisis.

The net effect of easy money is probably more to reduce inequality than to exacerbate it, according to econometric estimates.  But the effect on income distribution is much less reliable than the effects of other policies targeted for that purpose.  In any case, the Fed and other central banks are not balancing rapid growth against equality, but rather are balancing rapid growth against dangers of future overheating and financial instability. They view their jobs as managing the overall economy.  They are right to do so.


[A shorter version appeared at Project Syndicate, Oct. 25, 2016.  Comments can be posted there.]


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