Summers on growth and stimulus

Larry Summers has an important, and 95% excellent, Financial Times column. Larry is especially worth listening to. I can't imagine that if not a main Hilary Clinton adviser he will surely be an eminence grise on its economic policies. He's saying loud and clear what they are, so far, not: Focus on growth.


The title "the progressive case" for growth, is interesting enough. Perhaps Larry now uses the word "progressive" to describe himself. More importantly, Larry's audience here is the Clinton campaign and the Democratic party. He's saying loud and clear: you're not paying enough attention to growth, and growth ought to be at the center of the party, and the new Administration's, economic plans.

...many people, in their eagerness to focus on fairness, neglect the single most important determinant of almost every aspect of economic performance: the rate of growth of total income,

Hooray. Not only is this vitally important and factually correct, a growth oriented policy, if sold without the usual demonization, could well attract bipartisan support. That sentence could come from Paul Ryan's a better way

Alas, Larry blows that spirit right off the bat with a sentence that take a gold medal for convoluted calumny and bombastic bulverism:

Because those who champion strategies that centre on business tax-cutting and deregulation and favour the wealthy have placed the most emphasis on growth over the past 35 years, the objective of increasing growth has been discredited in the minds of too many progressives.

Translated into something approximating English: because people whose only and base motive was "favoring the wealthy" happened to advocate growth to sell their (as later described) useless tax-cutting and deregulation strategies, the goal of growth has become tarnished in the minds of good progressives.

This is below Larry -- in person I have always known him to recognize that conservatives and free-marketers have exactly the same dispassionate goal, advocate growth primarily to help the less well off, and tax-cutting and deregulation as time-proven policies that improve growth.  But, again, his audience is to the left, so perhaps one can excuse some I-hear-you agreeing with common demonizations.

But then he gets to well written and praiseworthy work, so good I must quote it in entirety:  

It can hardly be an accident that the decades of maximum growth, the 1960s and 1990s, also saw the most rapid job growth and most rapid increase in middle-class living standards.

Growth provides the wherewithal for increased federal revenue and so encourages the protection of vital social insurance programmes such as Social Security and Medicare.... 

Tight labour markets are the best social programme, as they force employers to hire and mentor inexperienced people in order to be adequately staffed. Some years ago, I estimated that for each 1 per cent point increase in adult male employment, the employment of young black men rose 7 per cent. More recent research confirms economic growth has an outsized benefit for younger people and minorities.

Rising growth has other benefits, as well. It strengthens the power of the American example in the world. It obviates the need for desperation monetary policies that risk future financial stability. Greater growth also has historically operated to reduce crime, encourage environmental protection and contributes to public optimism about the country that our children will inherit.

The reality is that if American growth continues to have a 2 per cent ceiling, it is doubtful that we will achieve any of our major national objectives.

If, on the other hand, we can boost growth to 3 per cent, interest rates will normalise, middle-class wages will rise faster than inflation, debt burdens will tend to melt away and the power of the American example will be greatly enhanced.

...the vast majority of job creation and income growth comes from the private sector. If the next president is lucky enough to oversee the creation of 10m jobs from 2017-20, more than 8m of them will surely come from businesses hiring in response to profit opportunities. 

All true, excellent, well-stated, and bipartisan (at least for the pre-Trump era). Jeb Bush's 4%, Paul Ryan's opportunity society agree totally. Heck, even Gary Johnson might find little to quibble with here. If growth could be the mantra for the Hilary Clinton administration, and if Larry can persuade his fellow "progressives," great things could follow.

And now to the remaining 5%:

There is no case for reducing already low corporate taxes or removing regulations unless it can be shown that these have costs in excess of benefits.

What is needed is more demand for the product of business. This is the core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness.

No case? Really? The higher taxes, steadily more convoluted tax code, vast expansion of regulation (Dodd-Frank, Obamacare are just the start) that coincided with our epic slow growth, have nothing at all to do with that sorry experience?   There is absolutely nothing wrong with the microeconomics of the American economy and its vast administrative, judicial and regulatory state, we just need a bit more "demand?"

Leave aside the last 30 years of growth theory, which is silent on "demand," we can do nothing better than move around 1970s era IS and LM curves, and revive ideas from the 1930s?

Read the second paragraph carefully. "More demand" is the ""core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness."

That "more demand" is the "core of the case" for (The Federal Government to borrow a lot of money and spend it on things labeled as) "public investment" admits up front that the actual value of such investment is at best secondary. Public investment in a great Ice Wall of Westeros on the southern border, or for high-speed trains from Tonopah to Winemucca, do just as well in boosting "demand."

What is needed is a serious negotiation: Fund needed infrastructure investment, but put in serious cost-benefit analysis,  buy it at reasonable prices, and so forth. That negotiation should start by abandoning the whole idea that we're doing it to provide "jobs" and "demand." If you're not wiling to do that, at least be honest and state that Mr. Trump's wall provides the same "demand."

Then explain to us how Japan has been at this for 20 years, producing no great shakes of growth.

"policy-approaches to... increasing worker's purchasing power" is another classic hidden-subject clause. I presume it means [The Federal Government, by legislation, regulation, or threat, will force companies to pay workers more, and then control employment to make sure those companies don't just fire workers or select better ones in order to ] increase [some] worker's purchasing power." Gary Johson's program also increases worker's purchasing power, and I don't think that's what Larry has in mind. I'm also curious where in modern economics forced transfers increase employment and long-run growth.

But in context, this is a small complaint. If Larry can persuade Mrs. Clinton and the "progressives" in the Democratic Party to focus on growth, to state goals for growth, and to hold themselves accountable for growth, then we can have an honest and very productive conversation about what's stopping growth and what steps can further it.

Federalization of Labor

We are getting a good hint that a centerpiece of economic policy in the Hillary Clinton administration will be an increase in Federal control over labor markets.

The news here is that serious economists are advocating these policies, not just to transfer income from one to another, reduce inequality, help specific groups, or enhance some sense of social justice, at the expense of dynamism and growth, but that more Federal control of the labor market will increase wages, productivity and economic growth for everyone!

Alan Blinder's cogent Aug 2 Wall Street Journal opinion piece gives a good sense of the language and logic,

... Hillary Clinton has presented an extensive list of policies that would raise wages, starting with a higher minimum wage. ...

Mrs. Clinton also advocates widespread profit-sharing as a way to put more money into workers’ pockets. She would promote that goal both by using the presidential bully pulpit and by providing tax incentives for businesses that share profits. Since the scholarly evidence suggests that profit-sharing raises productivity, such tax breaks will partly pay for themselves.

Increased vocational training and apprenticeships for the non-college-bound are also major Clinton policies....The U.S. can increase its productivity and reduce inequality by ensuring that the right people get vocational training and apprenticeships.

And then there is what may be the surest way to raise wages over the long run: providing pre-K education for all American children....

Labor market intervention is getting wrapped up in "stimulus," as reported in an excellent Bloomberg column by Brendan Greeley here,

 "It’s really simple," she said at a rally in June in Ohio. "Higher wages leads to more demand, which leads to more jobs, which leads to higher wages." ...

When Clinton uses the word "demand" on the stump, she’s blowing a dog whistle. (Economists have them, too.) Increase demand, she’s saying, and you get growth.... 

Bob Gordon signs on reluctantly,  

"I think it’s a very marginal way of promoting economic growth," says Robert Gordon, economist at Northwestern University who specializes in the subject. Like Summers, he prefers a massive investment in infrastructure. But he does agree that a shift in business income away from profits and toward salaries would create growth. Workers are more likely to buy things from their paychecks than businesses are to invest out of their profits.

Alan Krueger ["former chairman of the Council of Economic Advisers and an informal adviser to the Clinton campaign," and candidate for vice-president of the American Economic Association] agrees wholeheartedly:

... "I think the time could be right for a more virtuous growth model," he said, "which is driven by stronger wage growth...more consumption, more demand, creating more jobs." 

Novel rationalizations for decades-old policies are always suspect. And the usual passive or verb-less sentences hiding the heavy hand of Federal government always invites skepticism.

But let's take it seriously. How much sense do these analyses make?

Without rehashing the whole minimum-wage fight, it is worth asking, if the Federal Government forces businesses to raise some people's wages, but others become unemployed as a result, whether that really count as raising wages overall?

The words "presidential bully pulipit" has poor overtones in the current age. The bully pulpit means the DOJ, EEOC, IRS, NLRB, EPA and who knows even the fish and wildlife service may come calling if you don't do what the president wants. Schoolyard bully, not Teddy Roosevelt's jolly-good pulpit.

"The scholarly evidence indicates that profit-sharing raises productivity.." That's a new twist on the abominable "studies show" argument by reference to vague authority.  But even "scholarly evidence" has to make some sense.

It does make sense that firms which study the question and choose profit-sharing plans can thereby raise productivity, either by giving their employees better incentives or by attracting different and more productive employees. They would not do it otherwise.

But this classic subject-free sentence is about Federal Regulations to force profit-sharing that "puts money into workers' pockets" on all firms. It does not follow that such a mandate will have the same effect. This is the classic, "rich guys drive BMWs, so if we force BMW to give cars away we'll all get rich."

To belabor the obvious, that some firms choose it because they see it will work does not mean that the Federal Government forcing it on all firms will work.  That profit sharing which increases workers' incentives can work does not mean that reducing profits and paying lump sums to workers will work. That profit sharing accompanied by greater selection of productive workers works does not mean that forced profit sharing will work for everyone -- someone employs the less productive, I hope.

If it's about incentives, then there should be a widespread Federal initiative to promote piece-work, commissions rather than salaries, independent contractors rather than employees... Hmm, we're headed the other way.

As economists, we are supposed to start with a problem. What is the market failure that stops companies form putting in productivity enhancing profit sharing programs? Or are they just too dumb and need the benevolent hand of the "bully pulpit" to educate them?

"Increased vocational training and apprenticeships for the non-college-bound," are more Orwellian subject-less sentences. Who is going to do this increasing and how? What is the market failure? Do we need to have triple digit numbers of Federal Job-training programs?

"Providing pre-k education" is another subject-free sentence. I presume he does not mean reducing regulations and union requirements so more pre-k schools can start up! That might actually be effective. But perhaps it is technically correct: a large Federal subsidy for pre-k education, funneled through the public school systems and teacher's unions will raise someone's wages. The "scholarly evidence" is not that it will be the kids.

The idea that forcing companies to pay out greater wages is the key to "stimulus," and that demand-side "stimulus" is the key to long-run growth is...er... even more novel economics.

In classic Keynesian stimulus, there is something about the government borrowing money and spending it, or giving it to consumers to spend, that causes people to forget that the borrowed money must be paid back someday. Not here -- this is directly the claim that taking from Peter and giving to Paul is the key to prosperity. And not just temporary stimulus, but long run growth.

One of many fallacies at work here is the notion that companies face a choice between "paper" investment and "real" investment; that by piling up cash reserves they are somehow diverting resources that could be "real demand" into "paper investments." But every paper asset is a paper liability, so this possible truth about an individual company makes no sense for an economy as a whole.

And let's follow the logic.  If this works for stimulus and growth, force companies to give away cash to consumers. Consumers are, well, people who like to consume. Force them to give cash away to thieves. They consume quickly.  If this is a bad idea.. well then maybe the whole "stimulus" thin is a bit of bunk as well.

Gordon at least has the decency to belittle the idea. And on "a shift in business income [another subjectless sentence -- this shift is forced by the Federal Government!] away from profits and toward salaries would create growth"  because "Workers are more likely to buy things from their paychecks than businesses are to invest out of their profits," one can hope that a statement which violates basic accounting is a misquotation.

 Krueger has less defense: "a more virtuous growth model,...which is driven by stronger wage growth...more consumption, more demand, creating more jobs" is a direct quote. It may be "virtuous" to feel this way, but the classic criticism of Democratic economic policy is doing things that make you feel good but don't work.

Well maybe, maybe not. Economics is a work in progress. But it is certainly brand-new, made-up-on-the spot economics, designed to buttress policies decided on for other reasons.

A last grumpy comment. The WSJ titled Blinder's oped, "Only one candidate can make wages grow again."  Actually I agree with the sentence   Like most media they forgot there are more than two candidates!

Blueprint for America

"Blueprint for America" is a collection of essays, organized, edited and inspired by George P. Shultz. You can get an overview and chapter by chapter pdfs here. The hardcover will be available from Amazon or Hoover Press October 1.

Some of the inspiration for this project came from the remarkable 1980 memo (here) to President-elect Ronald Reagan from his Coordinating Committee on Economic Policy.

Like that memo, this is a book about governance, not politics.  It's not partisan -- copies are being sent to both campaigns. It's not about choosing or spinning policies to attract voters or win elections.

The book is about long-term policies and policy frameworks -- how policy is made, return to rule of law, is as important as what the policy is --  that can fix America's problems. It focuses on what we think are the important issues as well as policies to address those issues -- it does not address every passion of the latest two-week news cycle.

The book comprises the answers we would give to an incoming Administration of any party, or incoming Congress, if they asked us for a policy package that is best for the long-term welfare of the country.

The chapters, to whet your appetite:

INTRODUCTION
CHAPTER 1: The Domestic Landscape by Michael J. Boskin
IN BRIEF: Spending by George P. Shultz
CHAPTER 2: Entitlements and the Budget by John F. Cogan
CHAPTER 3: A Blueprint for Tax Reform by Michael J. Boskin
CHAPTER 4: Transformational Health Care Reform by Scott W. Atlas
CHAPTER 5: Reforming Regulation by Michael J. Boskin
CHAPTER 6: National and International Monetary Reform by John B. Taylor
CHAPTER 7: A Blueprint for Effective Financial Reform by John H. Cochrane
IN BRIEF: National Human Resources by George P. Shultz
CHAPTER 8: Education and the Nation’s Future by Eric A. Hanushek
CHAPTER 9: Trade and Immigration by John H. Cochrane
IN BRIEF: A World Awash in Change
CHAPTER 10: Restoring Our National Security by James O. Ellis Jr., James N. Mattis, and Kori Schake
CHAPTER 11: Redefining Energy Security by James O. Ellis Jr.
CHAPTER 12: Diplomacy in a Time of Transition by James E. Goodby
CLOSING NOTE: The Art and Practice of Governance by George P. Shultz

My chapter on a Blueprint for Effective Financial Reform is a better version of the talk on Equity Financed banking which I posted here. (The talk was based on the paper. Now you have the paper.)

My chapter on Trade and Immigration is new, and an uncompromising red-meat free-market view. I don't think one should compromise centuries old economic understanding just because it's not politically popular at the moment.
 
If you got this far, you might also be interested in my Economic Growth essay written for a parallel but similar project.

Immigration sentiment

Above, a lovely graph from The Conversation. A common story says that opposition to immigration comes from people in high-immigrant communities, who suffer externalities from the presence of many immigrants. It is not true.

NYT on zoning

Conor Dougherty in The New York Times has a good article on zoning laws,

a growing body of economic literature suggests that anti-growth sentiment... is a major factor in creating a stagnant and less equal American economy.

...Unlike past decades, when people of different socioeconomic backgrounds tended to move to similar areas, today, less-skilled workers often go where jobs are scarcer but housing is cheap, instead of heading to places with the most promising job opportunities  according to research by Daniel Shoag, a professor of public policy at Harvard, and Peter Ganong, also of Harvard.

One reason they’re not migrating to places with better job prospects is that rich cities like San Francisco and Seattle have gotten so expensive that working-class people cannot afford to move there. Even if they could, there would not be much point, since whatever they gained in pay would be swallowed up by rent. 

Stop and rejoice. This is, after all, the New York Times, not the Cato Review. One might expect high housing prices to get blamed on developers, greed, or something, and the solution to be government-constructed housing, "affordable" housing mandates, rent controls, low-income housing subsidies (which protect incumbent low-income people, not those who want to move in to get better jobs) and even more restrictions.

No. The Times, the Obama Administration, California Governor Gerry Brown, have figured out that zoning laws are to blame, and they're making social stratification and inequality worse.

In response, a group of politicians, including Gov. Jerry Brown of California and President Obama, are joining with developers in trying to get cities to streamline many of the local zoning laws that, they say, make homes more expensive and hold too many newcomers at bay. 

.. laws aimed at things like “maintaining neighborhood character” or limiting how many unrelated people can live together in the same house contribute to racial segregation and deeper class disparities. They also exacerbate inequality by restricting the housing supply in places where demand is greatest. 

“You don’t want rules made entirely for people that have something, at the expense of people who don’t,” said Jason Furman, chairman of the White House Council of Economic Advisers. 

This could be a lovely moment in which a bipartisan consensus can get together and fix a real problem.

The article focuses on Boulder Colorado, where

.. the university churns out smart people, the smart people attract employers, and the amenities make everyone want to stay. Twitter is expanding its offices downtown. A few miles away, a big hole full of construction equipment marks a new Google campus that will allow the company to expand its Boulder work force to 1,500 from 400.

Actually, The reason Google and Twitter are in Boulder is that things are much, much worse in Palo Alto! A fate Boulder may soon share:

“We don’t need one more job in Boulder,” Mr. Pomerance said. “We don’t need to grow anymore. Go somewhere else where they need you.”

Brexit or Fixit

Many commenters compare Brexit to the American revolution. I think the constitutional convention is a better analogy for the moment and challenge ahead. A first attempt at union resulted in an unworkable Federal structure. Europe needs a constitutional convention to fix its union.

The EU's first attempt was basically aristocratic/technocratic. Brussels tells the peasants what to do. The EU  needs a hardy dose of accountability, representation, checks and balances -- all the beautiful structures of the US Constitution. What little thought the EU put in to these matters is clearly wanting.

America did not wait for a state to leave. But, though even the Pope admits the EU structure wasn't working, the EU needed this wake up call. Bring the UK to the convention, and bring them back. Fixit. (#Fixit?)


Out of control economic regulation, labor laws, mandated social programs and "60% of British laws are made in Brussels" (I don't know the source of the widely quoted number, but the sentiment is as important as the fact)  are the most sensible arguments I heard for Brexit.

Fraser Nelson's WSJ essay expressed this well

The Brexit campaign started as a cry for liberty, perhaps articulated most clearly by Michael Gove, the British justice secretary... Mr. Gove offered practical examples of the problems of EU membership. As a minister, he said, he deals constantly with edicts and regulations framed at the European level—rules that he doesn’t want and can’t change. These were rules that no one in Britain asked for, rules promulgated by officials whose names Brits don’t know, people whom they never elected and cannot remove from office. Yet they become the law of the land. Much of what we think of as British democracy, Mr. Gove argued, is now no such thing.

The important point, I think, is not the outcome -- too much silly regulation, labor laws, and so on. The process is the important point.

America is, in my opinion, also a victim of stifling economic regulation, job-killing labor laws, incentive-destroying social programs. But, we still have a process in place -- in trouble, creaky, under attack by results-at-any-cost progressivisim.  But we have a process. Regulations are supposed to be authorized by Congress; should follow the Administrative Procedures act, with public comment, cost benefit analysis, and so forth; can be challenged administratively and then in court; and Congress itself can pass laws over-ruling regulators (which the President can veto, as he has).  Europe is missing this process; and european law is even worse than economic regulation here.

Last week's immigration ruling is an example of the same forces under strain in the US. I happen to agree with the Administration on policy grounds: People who have been here their whole lives, parents of US citizen children, should not face the constant risk of deportation, and should be allowed to work legally. (I had no idea there was such a thing as a "work permit" in the US, until President Obama mentioned it.) But, Congress passed silly laws mandating the opposite, and the Administration moved beyond its authority. When States are suing the Administration in the Supreme Court over its actions, we are in danger of Texit. But at least Texas can sue. Britain had no similar way to object to EU edicts.

Process matters, because democracy needs to form consensus and acceptance. When you force things down people's throats, they eventually gag.

Again quoting WSJ

Instead of grumbling about the things we can’t change, Mr. Gove said, it was time to follow “the Americans who declared their independence and never looked back” and “become an exemplar of what an inclusive, open and innovative democracy can achieve.” Many of the Brexiteers think that Britain voted this week to follow a template set in 1776 on the other side of the Atlantic. 

The answer for Europe is that it must allow people the option to change things they don't like. And 1787, not 1776 is the inspiration.

On economics, I think it's overblown.

Will this be a disaster for the British economy? Probably not. Norway, Switzerland, and Japan seem to get along.  If the UK decided to be a free economy free trade and open banking center, it could do wonders.

It is nice to see a consensus (though sometimes implicit) on the advantages of free trade. Leave did not argue for the importance of preserving British jobs with trade restrictions.  Alas, "free trade" now means "access to markets" or managed mercantilism.

The benefits of a continent-wide open labor market are easy to see in my business. As I visit universities around Europe, the typical smart young professor might come from Slovakia, have done an undergraduate degree in Spain, Masters' in the UK, PhD in Italy, is working in Sweden, with spouse working in London. The result is a resurgence of European universities, now dramatically better than they were two decades ago. The irony of Brexit is that English is the common language of Europe, making this integration possible.

So why are markets going so wild? I think political follow-on is very unstable. If Brexit leads to Britain becoming Norway it's not a big deal. If the UK breaks up, and the EU breaks up, we have big trouble ahead. Fixit instead.

Rajan on cash transfers and corruption

Raghu Rajan, who just announced he is stepping down as Governor of the Central Bank of India, gave a very interesting speech, that bears among other things on the question of social programs vs. cash transfers.

A big problem with government provided assistance in India is that the provision is corrupt:

Our [India's] provision of public goods is unfortunately biased against access by the poor. In a number of states, ration shops do not supply what is due, even if one has a ration card – and too many amongst the poor do not have a ration card or a BPL card; Teachers do not show up at schools to teach; The police do not register crimes, or encroachments, especially if committed by the rich and powerful; Public hospitals are not adequately staffed and ostensibly free medicines are not available at the dispensary; …I can go on, but you know the all-too-familiar picture.

Raghu has a thoughtful observation on what keeps this system going:

This is where the crooked but savvy politician fits in. While the poor do not have the money to “purchase” public services that are their right, they have a vote that the politician wants. The politician does a little bit to make life a little more tolerable for his poor constituents – a government job here, an FIR registered there, a land right honoured somewhere else. For this, he gets the gratitude of his voters, and more important, their vote.

...perhaps the system tolerates corruption because the street smart politician is better at making the wheels of the bureaucracy creak, however slowly, in favour of his constituents. And such a system is self-sustaining. An idealist who is unwilling to “work” the system can promise to reform it, but the voters know there is little one person can do. Moreover, who will provide the patronage while the idealist is fighting the system? So why not stay with the fixer you know even if it means the reformist loses his deposit?

So the circle is complete. The poor and the under-privileged need the politician to help them get jobs and public services. The crooked politician needs the businessman to provide the funds that allow him to supply patronage to the poor and fight elections. The corrupt businessman needs the crooked politician to get public resources and contracts cheaply. And the politician needs the votes of the poor and the underprivileged. Every constituency is tied to the other in a cycle of dependence, which ensures that the status quo prevails. 

The Mafia may have had a similar equilibrium

What to do? Cash transfers are an attractive option

... money liberates. Could we not give poor households cash instead of promising them public services? A poor household with cash can patronize whomsoever it wants, and not just the monopolistic government provider. Because the poor can pay for their medicines or their food, they will command respect from the private provider. Not only will a corrupt fair price shop owner not be able to divert the grain he gets since he has to sell at market price, but because he has to compete with the shop across the street, he cannot afford to be surly or lazy. The government can add to the effects of empowering the poor by instilling a genuine cost to being uncompetitive – by shutting down parts of the public delivery systems that do not generate enough custom.

Much of what we need to do is already possible. The government intends to announce a scheme for full financial inclusion on Independence Day. It includes identifying the poor, creating unique biometric identifiers for them, opening linked bank accounts, and making government transfers into those accounts. When fully rolled out, I believe it will give the poor the choice and respect as well as the services they had to beg for in the past. It can break a link between poor public service, patronage, and corruption that is growing more worrisome over time.

...if there is evidence that cash transfers are being misspent – and we should let data rather than pre-conceived notions drive policy -- some portion could be given in the form of electronic coupons that can be spent by the specified recipient only on food, education or healthcare.

 A good summary

 One of the greatest dangers to the growth of developing countries is the middle income trap, where crony capitalism creates oligarchies that slow down growth. [Just developing countries?!] ... To avoid this trap, and to strengthen the independent democracy our leaders won for us sixty seven years ago, we have to improve public services, especially those targeted at the poor. A key mechanism to improve these services is through financial inclusion, which is going to be an important part of the government and the RBI’s plans in the coming years.

Raghu's efforts to reform India's banking and financial system deserve more notice.

(PS: Blogging will be a little spotty for the next week and a half, as I'm off at a glider competition.)

Financial Choice

If you're interested in policy rather than politics, the package of legislative proposals coming out of Congress are a lot more interesting than the Presidential race at the moment. Speaker Paul Ryan is rolling out "A Better Way" package and Rep. Jeb Hensarling has just announced a "financial CHOICE act" to fundamentally reform Dodd-Frank. (Most quotes are from Jeb Hensarling's speech at the Economic Club of New York. See also  NYT coverage.)

These efforts will, I think, become much more important later on. The presidential race will decide whether this agenda can survive the instant veto that it faces now.  (This is a non-partisan comment. Hilary Clinton could likely assure a landslide by announcing she will work with Paul Ryan to craft and pass it.)

In any case, it defines a clear program that may be the focus of economic policy under a presidency of either party. And I think that's healthy as well.  We are still living in the shadows of Franklin Roosevelt's 100 days, and an increasingly imperial presidency. But the current need is not for a flurry of new legislation and executive orders to address a crisis. We need a steady clean-up of the legal and regulatory mess of the last few decades. For that project, it may be better for policy leadership to come from Congress, and by careful and patient drafting of actual legislation.

The legislation is still being drafted, which is why it would be lovely if more of the media and blogosphere were paying attention rather than to the latest antics of the presidential candidates. The congressional staff writing these things are paying attention and the proposals can be refined!

Today, a look at the Financial CHOICE act.

More capital, and the carrot of less regulation

...there is a growing consensus surrounding the idea of a tradeoff between heightened capital levels and a substantially lower regulatory burden....[We] will relieve financial institutions from regulations that create more burden than benefit in exchange for meeting higher, yet simple, capital requirements...Think of it as a market-based, equity financed Dodd-Frank off- ramp... the option remains with the bank.

How to measure capital? This is a hard nut.

...banks that maintain a simple leverage ratio of at least 10 percent and, at the time of the election, have a composite CAMELS rating of 1 or 2 may elect to be functionally exempt from the post-Dodd-Frank supervisory regime, the Basel III capital and liquidity standards, and a number of other regulatory burdens that pre-date Dodd-Frank. 

This is an element worthy of more discussion. Leverage ratios have problems too, as they do not distinguish the riskiness of assets.  CAMELS ratings have their own problems.

As blog readers know, I think we can keep going well beyond 10% capital. I'd like to see steady incentives for more and more capital, rather than an arbitrary threshold.  My current thinking leads to reducing subsidies for debt, a fee on short term debt, and using ratios of market value of equity to debt. Or a schedule of regulatory reductions: so much for 10% capital, more for 20% capital, do what you want at 100%. But we're in danger here of repeating a Libertarian party sort of fight whether there should be drivers' licenses in Nirvana, so let's leave this as an open question for refinement.

It seems natural to ask for more capital on riskier assets, but a beautiful paragraph on risk-weights explains why that doesn't work.

Risk-weighting is simply not as effective. First, it is far too complex, requiring millions of calculations to measure capital adequacy. Second, it confers a competitive advantage on those large financial institutions that have the resources to navigate its mind-numbing complexity. Third, regulators have managed to get the risk weights tragically wrong, for example, treating toxic mortgage-backed securities and Greek sovereign debt as essentially risk-free. One myopic globally imposed view of risk is itself risky. Finally, risk-weighting places regulators in the position of micro-managing financial institutions, which politicizes credit allocation. Witness the World Bank recently advertising its zero risk rating under the Basel Accords for their “green bonds.”

The regulatory carrot: A bank with enough capital

would be deemed “well capitalized” for prompt corrective action purposes; It would no longer be subject to Basel Committee capital or liquidity requirements as implemented by the U.S. banking regulators;  It would be able to make capital distributions freely; and would additionally be able to consummate transactions without being subject to the regulatory challenge of increasing risk to the stability of our banking or financial system, or on grounds related to capital or liquidity standards of concentrations of deposits or assets. 

... no Federal rule establishing “heightened prudential standards” of the type provided for in Dodd-Frank would apply to qualifying banking organizations, including the living will requirement...In short, a strongly capitalized qualifying bank will be enabled to remove government bureaucrats from its boardroom and lend and invest freely.

From the executive summary,

Exempt banking organizations that have made a qualifying capital election from any federal law, rule, or regulation that permits a banking agency to consider risk “to the stability of the United States banking or financial system,” added to various federal banking laws by Section 604 of the Dodd-Frank Act, when reviewing an application to consummate a transaction or commence an activity.

A linguistic note: Not once in this speech, except while quoting others, does Rep. Hensarling use the phrase "to hold" capital. Every instance is "raise" capital. And explicitly, 

equity capital can be put to work no differently than debt or deposits. It is not money put under a mattress.

And as to the ballyhooed impossibility of raising capital, 

U.S. banks have raised hundreds of billions in new capital

Who says nobody in Congress understands finance!

Bankruptcy; no more "designation"  

The centerpiece of Dodd-Frank is the FSOC (Financial Stability Oversight Council's) ability to "designate" a firm as "systemically important," and then to "resolve" it, in place of bankruptcy.  This will go.

...bankruptcy, not bailouts. Recently the House passed the bipartisan Financial Institution Bankruptcy Act, which creates a new subchapter of the Bankruptcy Code tailored to specifically address the failure of a large, complex financial institution.....

The speech goes on with several good reasons bankruptcy is better than resolution.  I hear cheering from John Taylor's office already.

 Retroactively repeal the authority of the Financial Stability Oversight Council (FSOC) to designate firms as systematically important financial institutions (SIFIs) 

Fed Lending

...we impose on the Fed Bagehot’s famous dictum: lend freely, but only to solvent institutions, only against sound collateral, and only at interest rates high enough to dissuade those who are not genuinely in need. 

I'm a little leery of this one. Dictums are not analysis. If you want to stop a run, you have to lend pretty freely. Private institutions like a clearinghouse to do that once existed, but they have been put out of business by the Fed.  Nobody knows who is solvent vs. illiquid; the point of a run is that collateral that was "sound" yesterday is not today.  And if you want to stop a run, who cares if it's insolvent or illiquid? The Fed doesn't need quickly salable collateral, being super senior in bankruptcy is enough.  Bagehot's dictum is a great way to run a hedge fund. It's not necessarily the right way to run a central bank.

I worry that we are headed for the worst of all worlds -- people expect bailouts and free fed lending, but the government is legally constrained from doing so. All the moral hazard and none of the crisis mop. If we're going to go in this direction, it has to be crystal clear to people running banks that the government will not be able to step in next time, even stretching laws, and they'd better set things up carefully ahead of time. I'm afraid people are not going to believe any legal restrictions.

Rule of Law

Some of the most interesting parts of this proposal really belong together in "restoring the rule of law to regulation." That's a big project that I hear simmering in much of this Congressional planning. And, based on the daily news (for example the latest on the FCC takeover of the internet) not a minute too soon.

CFPB 

The "Consumer Financial Protection Bureau" is out of control.

fundamentally reforming the CFPB......task it with the dual mission of consumer protection and competitive markets, with a cost-benefit analysis of rules performed by an Office of Economic Analysis. 

 Replace the current single director with a bipartisan, five-member commission which is subject to congressional oversight and appropriations. 

... Repeal authority to ban bank products or services it deems “abusive” and its authority to prohibit arbitration. ... Repeal indirect auto lending guidance.

Federal Reserve 

One of the most thought-provoking proposals splits the Federal Reserve's regulatory power from its monetary policy power. It puts bank regulation, like all regulation, in the rule-of-law framework that is supposed to exist for regulation: cost-benefit analysis, Administrative Procedures Act, Congressional oversight, and so forth. Various quotes: 

Require that the different sets of conditions under which stress tests are evaluated subject to notice and comment period. 

... makes sure every financial regulation passes a rigorous cost-benefit test... 

We will put all the financial regulatory agencies on budget. The bare minimum level of accountability to “We the People” is to have their elected representatives in Congress control the power of the purse, as inscribed in our Constitution. 

But, wisely,

protects the Federal Reserve’s independence in conducting monetary policy by leaving that function off-budget. The Fed’s prudential regulatory and financial supervision activities, however, will now be subject to the normal and transparent congressional appropriations process.

SEC

...due process rights. Too many citizens have been “shook down” or abused by their government. Thus we will provide an immediate right of removal to federal court for respondents in administrative proceedings.  We will ensure that disciplinary proceedings are public, that all fines imposed by regulatory agencies are sent to the Treasury for deficit reduction, that regulatory entities created by Congress are subject to full congressional oversight, and that other due process rights are strengthened.

There is a curious section on increasing the SEC's power:

the Financial CHOICE Act will impose the toughest penalties in history for financial fraud, self- dealing and deception.

We will double the cap for the most serious securities law violations and will allow for triple monetary fines when penalties are tied to illegal profits. We will give the SEC new authority to impose sanctions more closely linked to investor losses – and increase punishments even more for repeat offenders. We will increase the maximum criminal fines for both individuals and firms that engage in insider trading.

I'm not aware of a big problem in the SEC (and DOJ) not being able to ruin people's lives adequately, or extort large enough settlements from banks. Perhaps this is an olive branch, which won't hurt much.

Broader project

A sense of the broader project to restore rule of law in regulation.

Dodd-Frank gives FSOC the ability to designate companies as Too Big to Fail if it “determines that material financial distress” at the company “could pose a threat to the financial stability of the United States.” But nowhere in Dodd-Frank, or anywhere else in the U.S. Code for that matter, are these terms defined. So by defining these vague terms in any fashion that pleases them, this “super-group” of regulators can exert ultimate functional control over almost any large financial firm in our economy, and do so with utter disregard for due process. This is not the rule of law; it is the rule of rulers, and it’s an anathema to a free and democratic society.... 

Next, we repeal the Chevron doctrine requiring the judiciary to give deference to financial regulatory agencies’ interpretation of the law. The doctrine is unfair and an affront to due process and justice. 

I've gone on long enough. Legislation needs a public comment mechanism too, as this is  a big package, which though on a very good track can surely be refined a bit.

Lottery Winners Don't Get Healthier

Alex Tabarrok at Marginal Revolution had a great post last week, Lottery Winners Don't get Healthier (also enjoy the url.)

Wealthier people are healthier and live longer. Why? One popular explanation is summarized in the documentary Unnatural Causes: Is Inequality Making us Sick?

The lives of a CEO, a lab supervisor, a janitor, and an unemployed mother illustrate how class shapes opportunities for good health. Those on the top have the most access to power, resources and opportunity – and thus the best health. Those on the bottom are faced with more stressors – unpaid bills, jobs that don’t pay enough, unsafe living conditions, exposure to environmental hazards, lack of control over work and schedule, worries over children – and the fewest resources available to help them cope. 

The net effect is a health-wealth gradient, in which every descending rung of the socioeconomic ladder corresponds to worse health.

If this were true, then increasing the wealth of a poor person would increase their health. That does not appear to be the case. In important new research David Cesarini, Erik Lindqvist, Robert Ostling and Bjorn Wallace look at the health of lottery winners in Sweden (75% of winnings within the range of approximately $20,000 to $800,000) and, importantly, on their children. Most effects on adults are reliably close to zero and in no case can wealth explain a large share of the wealth-health gradient:

In adults, we find no evidence that wealth impacts mortality or health care utilization.... Our estimates allow us to rule out effects on 10-year mortality one sixth as large as the crosssectional wealth-mortality gradient.

The authors also look at the health effects on the children of lottery winners. There is more uncertainty in the health estimates on children but most estimates cluster around zero and developmental effects on things like IQ can be rejected (“In all eight subsamples, we can rule out wealth effects on GPA smaller than 0.01 standard deviations”).

(My emphasis above)

Alex does not emphasize the most important point, I think, of this study.  The natural inference is, The same things that make you wealthy make you healthy. The correlation between health and wealth across the population reflect two outcomes of the same underlying causes.

We can speculate what those causes are.  (I haven't read the paper, maybe the authors do.) A natural hypothesis is a whole set of circumstances and lifestyle choices have both health and wealth effects. These causes can be either "right" or "left" as far as the evidence before us: "Right:" Thrift, hard work, self discipline and clean living lead to health and wealth. "Left:" good parents, good neighborhood, the right social connections lead to health and wealth.

Either way, simply transferring money will not transfer the things that produce money, and produce health.

Perhaps the documentary was right after all: "class shapes opportunities for good health."  But "class" is about more than a bank account.

Also, Alex can be misread as a bit too critical: "If this were true." It is true that health and wealth are correlated. It is not true that more wealth causes better health.  The problem is  not just "resources available to help them cope."

Why a blog post? This story is a gorgeous example of the one central thing you learn when doing empirical economics: Correlation is not causation. Always look for the reverse possibility, or that the two things correlated are both outcomes of something else, and changing A will not affect B.   We seldom get an example that is so beautifully clear.

Update:  Melissa Kearney writes,

"Bill Evans and Craig Garthwaite have an important study [AER] showing that expansions of EITC benefits led to improvements in self-reported health status among affected mothers. 

Their paper provides a nice counterpoint to the Swedish lottery study, one that is arguably more relevant to the policy question of whether more income would causally improve the health of low-income individuals in the U.S.

Thanks Melissa for pointing it out. This is interesting, but I'd rather not get in to a dissection of studies here -- just who takes advantage of EITC benefits, how instruments and differences do and don't answer these problems. The main point of my post is not to answer once and for all the question -- how much does showers of money improve people's heath -- but to point out with this forceful example for non-economists the possibility that widely reported correlations - rich people are healthier -- don't automatically mean that money showers raise health.  

Universal Basic Income

Universal Basic Income is in the news. Charles Murray wrote a thoughtful piece in the Wall Street Journal Saturday Review. The Swiss overwhelmingly rejected a referendum -- but on a proposal quite different from Murray's.

Murray proposes that "every American citizen age 21 and older would get" $10,000 per year "deposited electronically into a bank account in monthly installments." along with essentially a $3,000 per year health insurance voucher.

The most important part of Murray's proposal: UBI completely replaces

 Social Security, Medicare, Medicaid, food stamps, Supplemental Security Income, housing subsidies, welfare for single women and every other kind of welfare and social-services program, as well as agricultural subsidies and corporate welfare. 

There is a lot to commend this idea. First, it would reduce the dramatic waste in the current system:

Under my UBI plan, the entire bureaucratic apparatus of government social workers would disappear

Moreover, the bulk of government spending now does not go to people who are really poor. SSI and medicare go to old people, many of whom are quite well off. Housing subsidies such as the mortgage interest deduction go to people with big mortgages and big tax rates -- nor poor people. Murray doesn't really emphasize this point, but his proposal is far more progressive than the current transfer system.

Second, it would reduce the very high disincentives of the current system, which traps people.

 Under the current system, taking a job makes you ineligible for many welfare benefits or makes them subject to extremely high marginal tax rates. Under my version of the UBI, taking a job is pure profit with no downside until you reach $30,000—at which point you’re bringing home way too much ($40,000 net) to be deterred from work by the imposition of a surtax.

If I read Murray correctly, he takes away $3,500 of the benefit between $30,000 and $60,000, which is an 11.6% surtax. That applies on top of the Federal 25% marginal rate, 16% payroll tax, state income and payroll taxes and so forth. So not zero, but it is a lot less disincentive than many current programs.

Both considerations place the proposal not in the "perfect world" category, but "how can we do what we're trying to do now a lot more effectively." So, evaluate it as such.

The biggest problem in the argument is the biggest selling point: We trade a check -- even much more than $10,000 -- for complete elimination of everything else.

A UBI will do the good things I claim only if it replaces all other transfer payments and the bureaucracies that oversee them. If the guaranteed income is an add-on to the existing system, it will be as destructive as its critics fear.

There are a lot of these "big trades" on the table, and there should be more. A big carbon tax, in return for complete elimination of all the regulatory nudges and crony energy related subsidies. A VAT in return for complete elimination of income, corporate, estate, and other taxes.  Lots of infrastructure money in return for elimination of Davis-Bacon, endless legal challenges EPA reviews, and other regulations, strict cost-benefit analysis rather than subsidized anachronisms, and so on.

In all these much simpler cases, the deal doesn't get off the ground. Will the "right" allow a big enough carbon tax? Will the "left" really get rid of their subsidies? Will the "right" really allow a large enough VAT? Will the "left" really not just pile all the other taxes back on top? Making these deals is hard enough even when both sides admit the deal would be good.

That case is going to be even harder here. The "left" has not even thought about the deal, let alone agreed in principle with only trust issues remaining! The Swiss referendum [sad aside on media: it was really hard to find the actual text!] made no mention at all of a swap -- it was pure basic income on top of other social programs.

Programs will remain tempting, because a flat basic income is not close to the "perfect world" social insurance system, or even common sense. We want to give more help to people who need more help. That lets us be more generous to those who do need help, and contains moral hazard that people who don't really need help should be working and paying taxes to supply help. Social security goes to old people, because old people objectively are less able to work.  Disability goes to disabled people, because it's harder for them to work as well. Unemployment insurance goes to people who just lost jobs, we know they are more likely to have suffered a bad shock. Insurance payments go to people whose houses have burned down.

These social insurance programs are indeed ineffective, bureaucratically bloated, and do a terrible job of picking who really needs help from who doesn't. But UBI takes a pretty extreme view that the project is completely hopeless, and the Government should do no conditioning at all, other than reported income:

Government agencies are the worst of all mechanisms for dealing with human needs. They are necessarily bound by rules applied uniformly to people who have the same problems on paper but who will respond differently to different forms of help.

Well, ok, but the call of the better world will be hard to resist, and the "left" has far from accepted that bureaucracies are "the worst" mechanism for sorting the needy from the less needy.

There will still be unfortunate people,  they will still need help, and our electorate will still demand programs to help them. Disability: Ok, it's grown  out of control, but some people really are disabled. You're only going to give them $10,000 and turn your back? What about the guy who takes his check, blows it all on a weekend of meth and beer, and now is lying in the gutter, his children homeless?

Some people will still behave irresponsibly and be in need before that deposit arrives, but the UBI will radically change the social framework within which they seek help: Everybody will know that everybody else has an income stream. It will be possible to say to the irresponsible what can’t be said now: “We won’t let you starve before you get your next deposit, but it’s time for you to get your act together. Don’t try to tell us you’re helpless, because we know you aren’t.”

He goes on to extol the virtues of private charities. I don't think our electorate is ready to completely forswear all bureaucratic help. And the vine grows back.

Eliminating housing subsidies? Agricultural subsidies? "Corporate welfare?" These are all great ideas on their own. If we could do that, our economy would be in a lot better shape than it is.

A bit of paternalism is pretty ingrained in social policies, and it isn't necessarily a bad thing. I'm happier paying taxes to support food, clothes and school for the kids, and basic housing than I am to subsidize a beer and meth weekend. Murray already gives in, by restricting the first $3,000 to a health insurance voucher. If he's going to get rid of social security, he should restrict the next $1,000 to a forced savings plan. If we're going to get rid of all housing programs (a great idea) the next $2,000 is a rent/mortgage voucher.

Some paternalism is justified as a pre-commitment. We know if they blow the money, we'll enact social programs to help them after the fact.

There is a deeper problem -- and I have a constructive solution.

In fact, Americans use far fewer benefits than they are eligible for. Many programs have 2% take up rates. Lots of people eligible for medicare, Obamacare subsidies, disability food stamps, welfare, home heating subsidies, and so on and so on all the way down to Palo Alto's income-based parking permit system don't take advantage of the benefits. If each American took advantage of every subsidy and social program to which he or she is entitled, the country would be bankrupt in about 10 minutes.

Why not? Well filling out the forms is a pain. And, more importantly, most people really do use social programs for a limited time. Call it a stubborn independence ethic or some remaining shame to taking assistance, it's there. For now. I fear that welfare states fall apart when the social stigma of taking the money fades.  

For now, both act to limit moral hazard. If it takes a few hours and trips down to an unpleasant bureaucracy to get help, then only people who really need it are likely to ask. If there is some remaining social stigma to getting help, then only people who really need it are likely to ask -- and likely to get out as fast as possible.

Before I get howls of comments on how heartless this view is, remember the objective -- money is limited, we want to use it to help people who really need it, and if we can do something to keep out people who don't, we can be a lot more generous to those who do. If we impose some cost on people to get help, we get them to reveal who really needs it, and we can help them a lot more.

So, my major suggestion -- please, don't automatically send the check to every American the minute they turn 21! Don't send it to my kids! At least, make people go down to a dull and dirty office, stand in line, fill out a long form, and repeat once a year.

Murray limits the benefit once you get to $30,000 per year, introducing a surtax above that level. I've been mulling over a different way to limit benefits and thereby make them more generous: Limit by time, not by income. You can have an additional (say) $10,000 per year, for 5 years, at any point in your life. Most people using social programs do in fact use them to get out of trouble and back on track. Let's make that the expectation. This is not permanent income support, this is help to get out of trouble.  That lets us be more generous, without blowing the budget, and without inducing as large a marginal tax rate to working.

Murray has a lot of speculation on how society will adapt to $10,000 per year check and NO other social programs.

the entire bureaucratic apparatus of government social workers would disappear, but Americans would still possess their historic sympathy and social concern. And the wealth in private hands would be greater than ever before. It is no pipe dream to imagine the restoration, on an unprecedented scale, of a great American tradition of voluntary efforts to meet human needs. 

Trust private charity, with an ever-larger share of income in plutocratic hands? I don't see Bernie Sanders supporters signing on to the deal on that basis.

The known presence of an income stream would transform a wide range of social and personal interactions. The unemployed guy living with his girlfriend will be told that he has to start paying part of the rent or move out, changing the dynamics of their relationship for the better. The guy who does have a low-income job can think about marriage differently if his new family’s income will be at least $35,000 a year instead of just his own earned $15,000.

Or consider the unemployed young man who fathers a child.

Maybe. Maybe not. We do have some experience with corners of societies that live off government checks. We have more experience with places where lots of people don't work. Welfare neighborhoods in the 70s to mid-90s. Europeans living on the dole. Molenbeek. Saudi Arabia. By and large, places where most people live on government checks or large numbers don't work are not happy places.

One can also speculate in contrary ways. Labor markets are more and more regulated and restricted. Well, if people can all get $10,000 from the government, why fight for lower minimum wages for entry level workers, looser occupational restrictions, and so forth?

Murray also confuses the issue, and substantially weakens the case, I think, by wandering off into a soliloquy on once robots do everything there won't be any more jobs.

We are approaching a labor market in which entire trades and professions will be mere shadows of what they once were... the jobs (now numbering 4 million) that taxi drivers and truck drivers will lose when driverless vehicles take over... Advances in 3-D printing and “contour craft” technology will put at risk the jobs of many of the 14 million people now employed in production and construction...The list goes on, and it also includes millions of white-collar jobs formerly thought to be safe..

... as many as 47% of American jobs are at risk...it will need to be possible, within a few decades, for a life well lived in the U.S. not to involve a job as traditionally defined.  

I think this is wrong. Murray acknowledges

I’m familiar with the retort: People have been worried about technology destroying jobs since the Luddites, and they have always been wrong.

Indeed they have. The invention of the tractor was way worse than the invention of the self-driving car for the jobs of about 70% of Americans and about 99% of everybody else at the turn of the 20th century -- farm labor. Murray writes

 It takes a better imagination than mine to come up with new blue-collar occupations that will replace more than a fraction of the jobs..

It's a good thing that every time in the past we did not rely on policy writers' imaginations to come up with occupations for people. I think the answer is pretty clear: services. When robots make everything for us, then people make money supplying services to each other.

But I don't have to be right either.  The deeper problem with this line of argument, common on the left, is how utterly hopeless it is, and how it contradicts Murray's case.

Hopeless: Really? Your vision for the future is that 47% of working-age Americans will be living on a $10,000 per year check from the government, doing nothing? $10,000 is not a lot of money, barely sustaining a life on the margins in pockets of poor rural america. It buys a used trailer and a six pack of beer in a place with little hope.

We can do better than that! And we can. We're talking about a several decade shift in the labor force here. If services are the answer, we need to fix schools and other barriers that keep people from getting the skills needed to earn money in the service economy. We need to fix labor markets to make it easier to hire people in flexible ways and help them to develop skills on the job.

Contradictory: Murray's numbers work out (I think, I haven't checked, but it seems plausible) in today's America. But if half our labor force, and all our retired or non-working people, are living off a government check, the cost would explode past what the country could possibly support with any level of taxation.

So set this apart, recognize that adapting to automation will require getting people skills not sending them checks. And that is going to mean keeping the price system alive. It has to be crystal clear that computer programming pays more than goof off majors.

Bottom line, most of the Murray's social changes and adaptation to robot workforce is, I think, a mistake and a distraction.

A Big Deal -- along with the others -- remains attractive: Substantial cash grants and vouchers in place of many current programs -- could offer substantially more help to people who need it, with far fewer distortions.  In place of middle class subsidies -- housing, college, etc. -- and corporate subsidies even better.  But let's not pretend it will cure social ills, or save us from confronting labor market distortions.

WSJ growth oped -- full version

WSJ Oped. Now that 30 days have passed, I can post the whole thing. Previous post.

Ending America’s Slow-Growth Tailspin

Sclerotic growth is America’s overriding economic problem. From 1950 to 2000, the U.S. economy grew at an average rate of 3.5% annually. Since 2000, it has grown at half that rate—1.76%. Even in the years since the bottom of the great recession in 2009, which should have been a time of fast catch-up growth, the economy has only grown at 2%. Last week’s 0.5% GDP report is merely the latest Groundhog Day repetition of dashed hopes.

The differences in these small percentages might seem minor, but over time they have big consequences. By 2008, the average American was more than three times better off than in 1952. Real GDP per person rose from $16,000 to $49,000. And those numbers understate the advances in the quality of goods, health and environment that came with growth. But if U.S. growth between 1950 and 2000 had been the 2% of recent years, instead of 3.5%, income per person in 2000 would have risen to just $23,000, not $50,000. That’s a huge difference.

Looking ahead, solving almost all of America’s problems hinges on re-establishing robust economic growth. Over the next 50 years, if income could be doubled relative to 2% growth, the U.S. would be able to pay for Social Security, Medicare, defense, environmental concerns and the debt. Halve that income gain, and none of those spending challenges can be addressed. Doubling income per capita would help the less well off far more than any imaginable transfer scheme.


Why is growth slowing down? One camp says that we’ve run out of ideas. We were supposed to have flying cars and all we got was Twitter. Get used to it, the thinking goes, and start fighting over the shrinking pie.

Another camp holds that the culprit is “secular stagnation,” a “savings glut” demanding sharply negative interest rates that the Federal Reserve cannot deliver. That outlook attracts clever new economic theories and promotes vast new stimulus spending of the sort that Japan has fruitlessly followed.

The third camp (mine) holds that the U.S. economy is simply overrun by an out-of-control and increasingly politicized regulatory state. If it takes years to get the permits to start projects and mountains of paper to hire people, if every step risks a new criminal investigation, people don’t invest, hire or innovate. The U.S. needs simple, common-sense, Adam Smith policies.

America is middle-aged and overweight. The first camp says, well, that’s nature, stop complaining. The second camp looks for the latest miracle diet—try the 10-day detox cleanse! The third camp says get back to the tried, true and sometimes painful: eat right and exercise.

The first two camps are doubtful. How much more growth is really possible from better policies? To get an idea, see the nearby chart plotting 2014 income per capita for 189 countries against the World Bank’s “Distance to Frontier” ease-of-doing-business measure for the same year. The measure combines individual indicators, including starting a business, dealing with construction permits, protecting minority investors, paying taxes and trading across borders. Unlike the more popular ease-of-doing business rankings, this is a measure of how good or bad things are with 100 being the best observed so far, or “Frontier,” score.

In general, the higher a country’s score, the higher its per capita income. The Central African Republic scores a dismal 33, and has an annual per capita income of just $328. Compare that to India (50.3, $1,455), China (61, $7,000) and the U.S. (82, $53,000).

The U.S. scores well, but there is plenty of room for improvement. A score of 100 unites the best already-observed performance in each category. So a score of 100—labeled Frontier—is certainly possible. And, following the fitted line in the chart, Frontier generates $163,000 of income per capita, 209% better than the U.S., or 6% additional annual growth for 20 years. If America could improve on the best seen in other countries by 10%, a 110 score would generate $400,000 income per capita, a 650% improvement, or 15% additional growth for 20 years.

If you think these numbers are absurd, consider China. Between 2000 and 2014, China averaged 15% growth and a 700% improvement in income per capita. This growth did not follow from some grand stimulus or central plan; Mao tried that in the 1960s, producing famine, not steel. China just turned an awful business climate into a moderately bad one.

It is amazing that governments can do so much damage. Yet the evidence of the graph is strong. The nearly controlled experimental comparison of North Korea versus South Korea, or East Germany versus West Germany, is stronger. But if bad institutions can do such enormous harm, it follows inescapably that better institutions can do enormous good.

A growth agenda doesn’t fit neatly into current policy debates. This is fortunate, as new ideas are easier to swallow than defeats.

Parties argue over tax rates, but what’s really needed is deep tax reform, cleaning out the insane complexity and cronyism.

Parties argue over how much to raise or cut spending for social programs, but what’s needed is a thorough overhaul of the programs’ pernicious incentives. For example, Social Security disability needs to remove its disincentives to work, move or change careers.

Parties argue about education spending, but America needs the better schools that come from increased choice and competition.

Most of all, the country needs a dramatic legal and regulatory simplification, restoring the rule of law. Middle-aged America is living in a hoarder’s house of a legal system. State and local impediments such as occupational licensing and zoning are also part of the problem.

Growth-oriented policies will be resisted. Growth comes from productivity, which comes from new technologies and new companies. These displace the profits of old companies, and the healthy pay and settled lives of their managers and workers. Economic regulation is largely designed to protect profits, jobs and wages tied to old ways of doing things. Everyone likes growth, but only in someone else’s backyard.

There is hope. Washington lawmakers need to bring about a grand bargain, moving the debate from “they’re getting their special deal, I want mine,” to “I’m losing my special deal, so they’d better lose theirs too.” While the current presidential front-runners are not championing economic growth, House Speaker Paul Ryan (R., Wis.) and other House members are. And if economic-policy leadership moves from a chaotic presidency to a well-run Congress, that may be healthy for America’s political system as well as for the economy.

Update: response to some criticis

Summers on roadblocks to infrastructure

The bureaucrats of Massachusetts have done the nation a wonderful service, by parking an abject lesson in America's infrastructure sclerosis right in front of Larry Summers' office.

Summers and Rachel Lipson have written a remarkable Op-Ed in the Boston Globe, and Larry a deeper follow-on piece on the Washington Post Wonkblog, detailing the 5 year struggle to repair a bridge that took 11 months to build in 1911.

The narrow story:

How, we ask, could our society have regressed to the point where a bridge that could be built in less than a year one century ago takes five times as long to repair today?

In order to adhere to strict historical requirements overseen by the Massachusetts Historical Commission, the Massachusetts Department of Transportation had to order special bricks, cast by a company in Maine, to meet special size and appearance specifications from the bridge’s inception in 1912.

...extensive permitting and redesigns haven’t helped. 

And the rest reads like a typical Wall Street Journal oped anecdote of regulatory incompetence, fodder for my next weekly summary.

Larry's Post follow on is deeper:

Investigating the reasons behind the bridge blunders have helped to illuminate an aspect of American sclerosis — a gaggle of regulators and veto players, each with the power to block or to delay, ...

At one level this explains why, despite the overwhelming case for infrastructure investment, there is so much resistance from those who think it will be carried out ineptly. 

Stop for a moment here. This sentence is a watershed moment. Larry is one of our foremost public-intellectual economists. He's been arguing for years for infrastructure spending, first as "shovel-ready" stimulus to fight the recession, lately as the remedy for "secular stagnation." So far, he's been arguing mostly for more money, and not highlighting regulatory roadblocks. The Democratic party (not Larry) line is that infrastructure is the fault of stingy Republicans who won't spend the money.

But here is Larry, listening, and urging his readers to listen. Savor the sentence: "This explains why.. there is so much resistance from those who think it will be carried out ineptly." How often, in American public life these days, do we see a prominent, party-aligned, public intellectual listen hard and understand what's bothering the other side? No, it's not that they are stingy, mean-hearted, evil, or whatever. It's that they don't trust the money to be spent on the right thing, in the right place, in finite time. They have a point.

(I had a conversation with Larry a while ago, that went something like this: Larry: We need more infrastructure, and borrowing money is really cheap right now! John: Yeah, but they'll just blow the money on a high-speed rail line from Tonopah to Winnemucca, and even that will be held up for 10 years of EPA reviews and lawsuits. Larry: Oh, John, there you go again exaggerating how bad regulations are... Maybe I can flatter myself that I nudged him a little here.)

The right response is to advocate for reforms in procurement policies, regulatory policies and government procedures to make the investment process more efficient and effective.

This is a watershed. Here is the kind of reach out for middle ground that could unlock our political and economic sclerosis.  Larry is likely to be in government again sooner or later, and I hope he will push hard for this -- and with more effect than the last hundred or so anti-red-tape and regulatory reform commissions.

Larry's change of heart, or at least change of emphasis, seems deeper:

I'm a progressive, but it seems plausible to wonder if  government can build a nation abroad, fight social decay, run schools, mandate the design of cars, run health insurance exchanges, or set proper sexual harassment policies on college campuses, if it can't even fix a 232-foot bridge competently. Waiting in traffic over the Anderson Bridge, I've empathized with the two-thirds of Americans who distrust government.

It's not about who cares. It's about competence. We can work together to fix this. Wow. Thank you, Massachusetts Historical Commission.

More than questions of personality or even those of high policy, the question of how to escape this trap should be a central issue in this election year

That is not likely to happen in our Presidential race, but it surely should be a focus of Congressional elections, and the realignments happening now in Congress to try to escape paralysis.

In that context, I heard recently of one lovely small proposal to help "escape this trap." If you're fixing a bridge that is already there, you are exempt:

Amendment 4065 Mr. SULLIVAN [Senator Dan Sullivan, Alaska] (for himself and Mr. King [Angus King, Maine] submitted an amendment ....to the bill H.R. 2577... as follows:

Any bridge eligible for assistance under title 23, United States Code, that is structurally deficient and requires construction, reconstruction, or maintenance--

(1) may be reconstructed in the same location with the same capacity and dimensions as in existence on the date of enactment of this Act; and

(2) if the environmental impacts of the construction, reconstruction, or maintenance are not substantially greater than the environmental impacts of the original structure, as determined by the applicable State environmental authority, shall be considered to be compliant with the environmental reviews, approvals, licensing, and permit requirements under--

(A) the National Environmental Policy Act of 1969 (42 U.S.C. 4321 et seq.);

(B) sections 402 and 404 of the Federal Water Pollution Control Act (33 U.S.C. 1342, 1344);

(C) division A of subtitle III of title 54, United States Code;

(D) the Migratory Bird Treaty Act (16 U.S.C. 703 et seq.);

(E) the Wild and Scenic Rivers Act (16 U.S.C. 1271 et seq.);

(F) the Fish and Wildlife Coordination Act (16 U.S.C. 661 et seq.);

(G) the Endangered Species Act of 1973 (16 U.S.C. 1531 et seq.), except when the reconstruction occurs in designated critical habitat for threatened and endangered species;

(H) Executive Order 11990 (42 U.S.C. 4321 note; relating to the protection of wetland); and

(I) any Federal law (including regulations) requiring no net loss of wetland.

I kept the long list as a reminder of just how many laws and regulations are in the way of fixing a bridge. Alas, the Senators forgot about the National Historic Preservation Act of 1966, which seems to be mainly behind Larry's traffic jam.

I gather this amendment provoked a  specific veto threat. Well, maybe next time.

Bush v. Reagan on Immigration

Scott Summner posted this beautiful exchange between Ronald Reagan and George Bush Sr. on immigration. Direct link (youtube).

Scott titles the post "when the GOP still had some decency," which I think he should more accurately state as "when the two leading GOP presidential candidates still had some decency." There are many people in the party -- in Congress, governors, state legislators, losing Presidential candidates, in Republican think tanks and so forth --with quite sensible ideas on immigration, and with the kind of personal decency Scott notices in the video, and lacking of the presidential candidates today.  There are also many decent and sensible Democrats too.

In this era that the battles within parties are as important as those between them, we have to get out of the habit of tarring whole parties with the behaviors and attitudes of some people in them.

Scott also characterizes the debate as "Bush stakes out a very liberal position on immigration, and then Reagan responds from a position even further to the left.." That's not quite accurate either. While it's accurate that the "left" wants to allow "undocumented immigrants" access to schools and services,  they typically do not want to open labor markets. Both Bush and Reagan explicitly welcomed people to come and work. Letting people come and not letting them work is a recipe for disaster. These are now libertarian positions, not right vs. left.

But I'm quibbling. Thanks Scott for a great video.

Equity financed banking video

Video of my talk at the Minneapolis Fed's "Ending Too Big to Fail" symposium. A link to the video (youtube) in case you don't see the above embedded version. The event webpage, with links to the other talks and the agenda.  Summary: AM: Dodd Frank is a big failure, we need a big fix. PM: We'll get it to work with little fixes here and there. I posted the text of my talk earlier.

Ideas had sex

Adam Smith. Source: WSJ

Why are we so much better off than our ancestors? Why did this process only start where and when it did, in Western Europe, not in Rome or China?

Deirdre McCloskely has an excellent essay in the Saturday Wall Street Journal Review.

Her answer: "Ideas started having sex," a glorious sentence she attributes to Matt Ridley.

"The idea of a railroad was a coupling of high-pressure steam engines with cars running on coal-mining rails. The idea for a lawn mower coupled a miniature gasoline engine with a miniature mechanical reaper. "

And so on. She is exactly right. We tend to focus on the original idea, the basic science. That's necessary, but 99% of growth comes from elaboration, implementation, and the marriage of ideas -- sex in the sense of genes combining and making new things.

What's the bar for these hookups?

The answer, in a word, is “liberty.” Liberated people, it turns out, are ingenious.

Also,

...equality. ...not an equality of outcome... equality before the law and equality of social dignity.

Though, as she points out at length, the social dignity, property rights, and equality of entrepreneurs has always been a dicey matter.

95% of the enrichment of the poor since 1800 has come not from charity but from a more productive economy.

It will also come from the businessperson who buys low to sell high, the hairdresser who spots an opportunity for a new shop, the oil roughneck who moves to and from North Dakota with alacrity and all the other commoners who agree to the basic bourgeois deal: Let me seize an opportunity for economic betterment, tested in trade, and I’ll make us all rich.

She missteps in only one place:

Economists and historians from left, right and center cannot explain the Great Enrichment. Perhaps their sciences need revision, toward a “humanomics” that takes ideas seriously. Humanomics doesn’t abandon the economics of arbitrage or entry, or the math of elasticities of demand, or the statistics of regression analysis. But it adds the study of words and meaning and their stunning contribution to our enrichment.

I'm sorry, this is just wrong. Deirdre: You are an economist and historian, and you just did it. So have others.

Alas, though an incredibly wide-ranging and deeply read public intellectual, McCloskey here has failed to keep up with her own field.  "Ideas having sex," in the context of liberal institutions, is exactly the mainstream conclusion of this generation of economists. Deidre, put down the literature and history for a while and read Lucas, Romer, Jones, Acemoglu, Barro, and countless others.

Moreover, her plea for "words" misses a central fact of modern economics -- and growth. The Greeks and Romans had plenty of words, arguably better than ours. Marx and Keynes did too. If our generation had only studied words, a reader could well conclude that this is the latest fashion in economics, as ephemeral as the latest fashions in literature.

No, it is exactly the math of elasticities and of budget constraints, and the quantitative comparison of explicit models with the historical record, that gives us some hope that economics is constructive.

More generally, our growth -- the growth of engineers and accountants -- is built on quantification. Science started to be cumulative when Galileo and his generation started doing controlled experiments and measuring things.

I will pass on a lesson I learned long ago, and the hard way: Don't make fun of things you haven't read.

Overtime

Like most economists, I was a bit baffled by the Administration's announcement of stricter overtime rules. The WSJ, and Jonathan Hartley and many others cover the obvious consequences on jobs, business formation and destruction, and so forth. A bit less mentioned, it reduces employee flexibility. If you like working more hours one week and less the next -- perhaps you have child or parent care responsibilities -- you're going to be stuck working an 8 hour day.  It's part of the general regulated ossification of American employment. Or, it could be one more inducement to substitute machines for people or make people independent contractors.

Why are they doing it? The government says it wants more jobs, yet there is no area in American life with larger impediments between a willing employer and employee than labor.

I'm trying to bend over backwards to understand a worldview under which this is a sensible idea.

One possibility. Suppose this is your image of work: Take as given that a person has a job, and the employer will keep that job going, and won't change the terms of the job -- lower the base wage, allow people to take overtime, etc. Take as given that the terms of the job are a pure bilateral negotiation, and there is money somewhere to absorb extra costs without raising prices.  Take as given also that the worker is in a bad negotiating position, and you, the benevolent central department of labor, care about moving this negotiation in the worker's way. Then, a rule like this is a way of strengthening the worker's bargaining position and driving some resources the worker's way out of the employer's pocket.

The counterargument is really just that all this "take as given" is false.

Here is an effort to put that debate in econ 101 supply and demand diagrams. Let's think of the rule as a mandated higher wage, like a minimum wage. The classic analysis says you get fewer jobs.

Now, how might you not lose jobs? The implicit assumption in my paragraph above is that the labor demand curve is vertical. Employers will hire the same number of people for the same hours no matter how much they have to pay. And they'll all stay in business too.

If that were the case, as you see, we wouldn't lose any jobs. There would be some unemployment, as more people want to work or employees want more hours than they can get. But I think advocates of these policies don't mind. Getting people to go out and look for jobs might not be so terrible.

Another way to apply econ 101 is to think of the new rules as new costs imposed on the employer. If employers have to bear more costs, their demand for workers drops down by the amount of the extra costs. Again, adding costs reduces employment. Once again, what are they thinking?

Well, again, suppose that the demand curve is vertical. Now employers simply bear the cost, grumble, but there is no reduction in the number of employees and hours.

Of course, with the assumptions made bare, we can think of lots of reasons that demand curves do slope, employers cut down on workers if they have to pay more direct or indirect costs, and companies don't have infinite funds coming from nowhere. But perhaps by showing implicit assumptions, there is some room for discussion that gets somewhere. I would be interested in hearing serious defenses of the vertical demand curve assumption.

Update: Good grief, Noah,  of course "to understand the true impact of overtime rules, we probably have to include more complicated stuff!" Who ever said otherwise? Isn't "econ 101" clear enough that this is a an extremely simple starting place? And aren't you the guy complaining about excess mathiness,  big black boxes in economics, and people who don't even try to understand the opposing arguments?