Archive for September, 2011
A growing number of analysts are taking seriously the possibility that the U.S. economy is heading back into recession. No wonder President Roosevelt’s 1933 first inaugural address is getting heavy internet circulation. Here is a snippet:
Our greatest primary task is to put people to work. This is no unsolvable problem if we face it wisely and courageously. It can be accomplished in part by direct recruiting by the Government itself, treating the task as we would treat the emergency of a war, but at the same time, through this employment, accomplishing greatly needed projects to stimulate and reorganize the use of our natural resources. . . .
Finally, in our progress toward a resumption of work we require two safeguards against a return of the evils of the old order; there must be a strict supervision of all banking and credits and investments; there must be an end to speculation with other people’s money, and there must be provision for an adequate but sound currency.
These are the lines of attack.
Sadly our government appears to have no interest in directly “recruiting” people and putting them to work meeting the needs of our country. In fact, most Republican and Democratic party leaders refuse to support a substantial fiscal stimulus even if it would be used to encourage private production.
Right now, the only governmental body committed to expansionary policy is the Federal Reserve, the body that determines our country’s monetary policy. However, it appears that the banking sector opposes even that effort and it remains to be seen how successful they will be in getting their way.
Our Federal Reserve System is an odd creation. It was created in 1913 and consists of a seven member Board of Governors and twelve regional federal reserve banks located in different cities throughout the United States.
As the Federal Reserve itself explains:
The seven members of the Board of Governors are appointed by the President and confirmed by the Senate to serve 14-year terms of office. Members may serve only one full term, but a member who has been appointed to complete an unexpired term may be reappointed to a full term. The President designates, and the Senate confirms, two members of the Board to be Chairman and Vice Chairman, for four-year terms.
Sounds pretty straight forward. The odd part is the system of regional federal reserve banks.
Each regional bank has a president who serves a five year term and may be reappointed. The president is chosen by the bank’s board of directors–and here is where the issue of who gets to sit at the table of power becomes important.
Each regional bank’s board of directors consists of nine members selected from three “classes,” A, B, and C. The three Class A directors are chosen by the private banks operating in the region to represent the interests of the member banks. The three Class B board members are also chosen by the private banks; they are supposed to represent “the public.” The three Class C board members are chosen by the Board of Governors and are also supposed to represent the public.
In short, private bankers are structurally placed to dominate the selection of the presidents of the twelve regional federal reserve banks, and through them, influence the direction of the country’s monetary policy.
Monetary policy is made by the Federal Reserve Open Market Committee (FOMC). The voting members of the FOMC include the seven members of the Board of Governors and five of the twelve federal reserve presidents (on a rotating basis). Thus, representatives of the banking sector are legally empowered to sit at the table where decisions about monetary policy and our economic future are made.
If you are wondering if this is wise, you are not alone. Barney Frank, Congressman from Massachusetts, has long worried about this. As he said this September:
The Federal Reserve (Fed) regional presidents, 5 of whom vote at all times on the Federal Open Market Committee, are neither elected nor appointed by officials who are themselves elected. Instead, they are part of a self-perpetuating group of private citizens who select each other and who are treated as equals in setting federal monetary policy with officials appointed by the President and confirmed by the Senate.
For some time this has troubled me from a theoretical democratic standpoint. But several years ago it became clear that their voting presence on the FOMC was not simply an imperfection in our model of government based on public accountability, but was almost certainly a factor, influencing in a systematic way the decisions of the Federal Reserve. In particular, it seems highly likely to me that their voting presence on the Committee has the effect of skewing policy to one side of the Fed’s dual mandate — specifically that they were a factor moving the Fed to pay more attention to combating inflation than to the equally important, and required by law, policy of promoting employment.
In 2009, I asked staff of the Financial Services Committee to prepare an analysis of FOMC voting patterns. It confirmed two points. First, the great majority of dissents, 90 percent — from FOMC policy before 2010 — came from the regional presidents. Second, the overwhelming majority of those dissents were in the direction of higher interest rates. In fact, vote data confirmed that 97 percent of hawkish dissents came from the regional bank presidents and 80 percent of all dissenting votes in the FOMC over the past decade were from a hawkish stance.
One day before Frank issued his statement, the FOMC voted to modestly lower long term interest rates in an attempt to boost investment. The decision was supported by a 7-3 vote. At present there are only five voting members of the Board of Governors; two seats remain open. As Dean Baker explains:
What was striking about this vote was that all 5 governors voted for this measure obviously feeling that the potential benefits in the form of stronger growth and lower unemployment outweighed any risks of higher inflation. However, 3 of the 5 voting bank presidents opposed the measure, apparently viewing the threat of inflation as being a greater concern than any possible growth and employment dividend.
This raises an obvious question about the interests being represented by the bank presidents. Inflation is especially bad news for banks because it reduces the value of their assets. On the other hand bankers may not be very concerned about unemployment. They have jobs, as is probably the case for most of their friends as well.
It is hard not to wonder whether the bank presidents voting against further steps to spur growth and reduce unemployment were acting in the best interest of the country as a whole or whether they were representing the banks in their districts. If the latter is the case, then it is reasonable to ask why we are giving the banks a direct role in setting the country’s monetary policy. There is no obvious reason that they should have any more voice in determining monetary policy than anyone else.
In April, Barney Frank introduced H.R. 1512, which would eliminate the voting power of the regional bank presidents. This seems like a good step. We might want to go further and restructure the way in which bank presidents are elected; we shouldn’t be relying on bankers to decide who represents the public interest.
Everyone says that they want an economic recovery. So, why don’t we have one? Most surveys of business people tell the same story: there is no recovery because business owners are unwilling to hire and they are unwilling to hire because people are not spending.
So, why aren’t people spending? One reason is that many people are unemployed. Another reason, one that business leaders doesn’t like to discuss, is that business has been boosting its profits by cutting worker pay. And not just for the less educated who are said to be the unfortunate victims of technology and globalization. Rather, as the chart below shows, for workers in almost all educational categories.
The average earnings of workers in almost all educational categories declined between 2000 and 2010. Talk about a lost decade for working people! Only those with an MD, JD, MBA or PhD enjoyed a real increase over the period, and those workers make up only 3% of the workforce.
The average earnings of college graduates, 19.5% of the workforce, declined (adjusted for inflation) by approximately 8%. Interestingly, the average earnings of high school graduates, 30.7% of the workforce, actually suffered a smaller decline.
These numbers make clear that the solution to our economic problems is not more education. Even those with Masters Degrees lost money on average. Recovery will require real structural change in the way our economy operates.
The Census Bureau just published new data revealing trends in living standards as of 2010. The trends are troubling to say the least.
Median household income (adjusted for inflation) fell to $49,445 (see below). That means that the median household now earns less than it did a decade ago. This marks the first decade since the Great Depression without an increase in real median income. According to Lawrence Katz, a labor expert and Harvard economist,
“This is truly a lost decade. We think of America as a place where every generation is dong better, but we’re looking at a period when the median family is in worse shape than it was in the late 1990s.”
The percentage of Americans living in poverty hit 15.1 percent, the highest percentage since 1993 (see below). There are now 46.2 million people living below the poverty line, the greatest number ever recorded by the Census Bureau. Child poverty stood at 22 percent.
Things are unlikely to get better this year. State and local governments are slashing employment and programs and the federal government is now moving into cutting mode itself.
This depressing situation is not simply a recession phenomenon. As the New York Times reports, the expansion period of 2001 to 2007 “was the first . . . on record where the level of poverty was deeper, and median income of working-age people was lower, at the end than at the beginning.”
Of course, while the great majority of people are struggling, a small minority have been doing very well. One consequence, as the chart below highlights, is a strong growth in inequality (as measured by the Gini coefficient with higher numbers reflecting greater inequality). As I noted in a previous post, over the years 2002 to 2007, the top 1 percent of households captured 58 percent of all the income generated.
So, in brief, there is a small minority that is doing very well and a great majority that is struggling, with a significant number in free fall. Corporations understand what is happening and they are responding. In brief, they are letting go of the middle class as a market and restructuring their offerings to appeal to the top and bottom of the income distribution.
Here is an enlightening five minute discussion of this new business strategy on Daily Ticker video.
The Wall Street Journal, highlighting Procter & Gamble, also reports on this development:
For the first time in 38 years . . . the company launched a new dish soap in the U.S. at a bargain price.
P&G’s roll out of Gain dish soap says a lot about the health of the American middle class: The world’s largest maker of consumer products is now betting that the squeeze on middle America will be long lasting. . . .
P&G isn’t the only company adjusting its business. A wide swath of American companies is convinced that the consumer market is bifurcating into high and low ends and eroding in the middle. They have begun to alter the way they research, develop and market their products. . . .
To monitor the evolving American consumer market, P&G executives study the Gini index, a widely accepted measure of income inequality that ranges from zero, when everyone earns the same amount, to one, when all income goes to only one person. In 2009, the most recent calculation available, the Gini coefficient totaled 0.468, a 20% rise in income disparity over the past 40 years, according to the U.S. Census Bureau.
“We now have a Gini index similar to the Philippines and Mexico—you’d never have imagined that,” says Phyllis Jackson, P&G’s vice president of consumer market knowledge for North America. “I don’t think we’ve typically thought about America as a country with big income gaps to this extent.”
Such a response may well strengthen corporate bottom lines, at least for a while. Unfortunately for the great majority of us, it may also reinforce existing downward trends in income.
Children are our most important resource. Everyone says it, but we don’t really mean it. Exhibit one: the percentage of children under the age of 18 that live in poverty. In 2007, at the peak of our previous economic expansion, the child poverty rate was 18 percent. In 2009, it hit 20 percent. The figure below provides a look at child poverty rates in each state. New Hampshire has the lowest rate–11 percent. Mississippi has the highest rate–31 percent.
Children under the age of 18 are counted as poor if they live in families with income below U.S. poverty thresholds. There are a range of poverty thresholds which are based on family size and number of children. The thresholds are adjusted yearly using the change in the average annual Consumer Price Index for All Urban Consumers (CPI-U). These poverty thresholds are far from generous. The 2009 poverty threshold for a family of two adults and two children was $21,756. Poverty thresholds for 2010 have not yet been published.
Sadly our poverty rates understate the seriousness of our poverty problem, for children and adults. The history of how we developed and calculate our official poverty thresholds provides perhaps the clearest proof of the inadequacy of current statistics. In broad brush, the Johnson administration, having announced a war on poverty in January 1964, needed a measure of poverty. In response, its newly created Office of Economic Opportunity [OEO] introduced the first poverty thresholds in 1965.
These thresholds were largely based on previous work of the Department of Agriculture [DOA]. The DOA had developed four low-cost weekly food plans, the least generous called the “economy plan.” That plan was designed for “temporary or emergency use when funds are low.” It had no allowance for eating outside the home. The Department had also determined, based on surveys, that families of three or more persons spent approximately one-third of their after-tax income on food. The OEO took the cost of the economy food plan for families of different sizes and multiplied the total by 52 to get a series of yearly food budgets. Then, it multiplied those food budgets by three to generate a series of poverty thresholds.
From 1966 to 1969, these poverty thresholds were adjusted annually by the yearly change in the cost of the food items contained in the economy food plan. After 1969 the poverty thresholds were simply adjusted by the rise in the consumer price index.
This methodology has produced a poverty standard that is deficient in several ways. First, it does not acknowledge that our knowledge of nutrition has significantly changed since 1965. Second, it does not acknowledge that most families now spend approximately one-fifth of their after-tax income on food, not one-third. That correction alone would mean that the food budget should be multiplied by 5 rather than 3, thereby producing higher thresholds and poverty rates. Third, it does not acknowledge that poverty is best thought of as a relative condition.
The National Academy of Sciences Panel on Poverty and Family Assistance has played a leading role in developing one of the most promising alternative poverty measures. A 2008 Bureau of Labor Statistics Working Paper refine and extend the Panel’s experimental methodology and use it to calculate poverty thresholds and estimates for the period 1996 to 2005.
The authors of the Working Paper start with a reference family, two adults and two children, the most common family unit in the United States. Then, using Consumer Expenditure Surveys, they calculate the dollar amount of spending on food, clothing, shelter, utilities and medical care by all reference families in a given year.
The poverty threshold for the reference family is set, following the work of the Panel, at the midpoint between the 30th and 35th percentile of the spending distribution for all families with two adults and two children. Small multipliers are then used to add spending estimates for other needs, such as transportation and personal care, slightly raising the poverty threshold. This threshold is adjusted to generate thresholds for families of other sizes and compositions.
Poverty rates are determined by comparing family resources with these poverty thresholds. In contrast to current poverty calculations which rely on pre-tax incomes (even though official thresholds are based on the share of after-tax income spent on food), the authors of the Working Paper define family resources as the sum of after-tax money income from all sources plus the value of near-money benefits (such as food stamps) that help the family meet its spending needs.
The chart below shows national poverty rates for the years 1996 to 2005. We see that the rates produced by this experimental methodology are significantly higher than the official rates. Strikingly, while the official 2005 poverty rate is lower than the 1996 official poverty rate, the 2005 experimental poverty rate is the highest in the period.
Returning to the issue of child poverty, the table below highlights the difference between the two measures for specific demographic groups over the same period. Notice that the child poverty rate calculated using the experimental measure is always higher than the official rate. As previously stated, the official 2009 child poverty rate is 20 percent. The experimental rate would no doubt be several percentage points higher, closing in on 25 percent.
What can one say about a situation where between one-fifth and one-fourth of all children in the United States live in poverty? And all signs point to a higher rate for 2010. Words like outrageous, unacceptable, an indicator of a flawed economic system all come to mind. What also comes to mind is the fact these poverty statistics rarely get the attention they deserve. So does the question of why that is so.
The media generally talk about the economy in national terms—as if economic trends affect us all equally and we all share a common interest in supporting or opposing the same economic policies. This comforting view tends to promote political passivity–since we are all in the same “boat,” it makes sense to leave policy making to the experts.
A recently published study on income distribution by economists Anthony Atkinson, Thomas Piketty and Emmanuel Saez stands as a welcome corrective. Uwe E. Reinhardt discusses some of the main implications of their work in his New York Times blog.
Reinhardt’s Figure 1 shows average annual income growth for households in the United States and the different experiences of the top 1% and the bottom 99%. From 1976 to 2007, average household income grew at an average annual rate of 1.2%. Over the same period, the top 1% of households experienced an average annual income gain of 4.4% while the bottom 99% of households gained only 0.6% a year. Household income gains were higher in both subperiods (1993-2000 and 2002-2007), in large part because these subperiods were recession free.
Figure 2 shows the share of total income growth in each time period that was captured by the top 1% of households. Over the years 1976 to 2007, these households captured 58% of all income generated. Their share was an astounding 65% in the period 2002 to 2007.
This skewed income distribution means that average income figures present a highly misleading picture of the American experience. As Reinhardt explains:
So if an American macroeconomist — a specialist who tends to think of nations as people — or high-level government officials or politicians mimicking a macroeconomist boasted on a television talk show that “average family income grew by 3 percent during 2002-7, more than in most European economies,” about 99 percent of American viewers, reflecting on their own experience, would probably scratch their heads and wonder, “What is this guy talking about?”
Figure 3 highlights the growth in real GDP per capita and median household income from 1975 to 2007. The data show a growing divergence between what working people produced and what the average household received from that production. Real GDP per capita rose by an annual compound rate of 1.9% while real median household income increased by less than 0.5%.
As Reinhardt points out: “Other than national pride in league tables, that 1.9 percent average economic growth does not mean much for the experience of the median household in the United States.”
This brings us back to the issue of whether it makes sense to talk in “national” terms, especially given the dominance of the top 1% of households. According to Anthony Atkinson, Thomas Piketty and Emmanuel Saez:
Average real income per family in the United States grew by 32.2 percent from 1975 to 2006, while they grew only by 27.1 percent in France during the same period, showing that the macroeconomic performance in the United States was better than the French one during this period. Excluding the top percentile, average United States real incomes grew by only 17.9 percent during the period while average French real incomes — excluding the top percentile — still grew at much the same rate (26.4 percent) as for the whole French population. Therefore, the better macroeconomic performance of the United States and France is reversed when excluding the top 1 percent.
None of this is to suggest that U.S. society is best understood in terms of a simple division between the top 1% and the bottom 99%; the latter group is far from homogeneous. Still, this division alone is big enough to establish that talking in simple national terms hides more than it illuminates about the American experience. Said differently, just because the top 1% of U.S. households have reason to celebrate the U.S. economic model doesn’t mean that the rest of us should join in the celebration.