Thursday, August 27, 2015

Brad DeLong's Freudian Slip

From Must-Re-Read...
... economists who I think have some idea of what the elephant in the room us.

Tuesday, August 25, 2015

Where's the Explosion?

The blue line shows the rate of change in the Federal debt.

The red lines are calculated trends for the periods 1948-1965, 1965-1984, and 1984-2000.

In which period did the "explosion" of debt occur?

Monday, August 24, 2015

The Federal Debt Graph with a Constant-Growth-Rate Denominator

I was saying Noah's picture of debt growth is distorted by a wandering denominator: by a GDP that suffers from a variable and inconsistent rate of increase.

It occurs to me that we could get a better picture of debt growth by faking the GDP numbers. Rather than using actual values, we can calculate a set of values that approximate the GDP numbers, but are based on a constant rate of growth.

I didn't do any of that "least squares" crap or anything like. I just picked 1947 for a startpoint and 2000 for an endpoint, and figured out a constant growth rate that would get me from the 1947 GDP number to the 2000 GDP number. It is completely subjective (or arbitrary, really) and if you know how, you could probably come up with a better series of constant growth rate values. Meanwhile, I got what I got and I'm going with it.

Graph #1
Graph #1 shows actual (often called "nominal") GDP in red, and my constant-growth-rate numbers in blue. You can see that the lines cross some time around the year 2000. (Exactly in the year 2000, actually, as that year was one of the defining points of the blue curve.) By design, the lines also cross in 1947, though we would have to "zoom in" to see it clearly.

The lines also cross around 1977, but this is not because I pinned them together at that point. Actually, that is information the graph gives us. (That is the reason for making the graph!) Now, looking at those three crossing points, we can say the red line runs below the blue for some years before 1977, then above the blue until the year 2000, then again below the blue.

In more familiar terms, we might say GDP growth was less than average before 1977, above average from 1977 to 2000, then again below average. Obviously this is not correct. It is the result of picking 1947 and 2000 as my arbitrary start- and end-dates. If I had picked 1966 or 1973 as an end-date, the whole rest of the blue line after that date might have been above the red.That would have been a better look at economic growth.

But the purpose of this exercise is not to find the point that economic growth began slowing. The purpose is to approximate the GDP we actually got, using a constant rate of growth. For that purpose, the blue line looks about right to me, up to 2007 anyway.

You with me? Do not imagine that Graph #1 shows periods of better-than-average and worse-than-average growth. It does not.

Saturday's post showed this comparison of growth rates for actual GDP (red) and the Federal debt (blue):

Graph #2. Click Graph for FRED Source Page
It is pretty easy to see that the Federal debt jumps up above GDP growth just after the 1982 recession. But if you take a second look you might notice that the red line wanders upward until the late 1970s, which makes the simultaneous increase in the blue line appear less significant. And then the red line wanders downward for 20 years or so, making the increase in the blue line look more significant. The changes in actual GDP contribute to making the change in Federal debt seem like a sudden increase that occurs after 1982.

Like Noah, we are deceived.

The growth rate of actual GDP varies, as the red line on Graph #2 shows. The growth rate of my "constant growth" GDP does not. This approximate measure (the blue line on Graph #1) has a constant annual growth of about 7.25%. Plotted on a graph, the growth rate is a flat (horizontal) line.

I took the numbers I used for Graph #1, worked out the annual growth rate values for them, and made a new graph:

Graph #3
The proportions of Graph #3 differ from those of Graph #2 but, that difference aside, the blue lines on the two graphs are the same. (Both blue lines represent the growth of Federal debt.) But on Graph #3, I show the growth rate of the "constant growth rate" GDP approximation. A flat, red line near the 7.25% level for the full period shown on the graph.

On Graph #3 it is pretty easy to see that the Federal debt jumps up above GDP growth just after the 1974 recession. That's the 1974 recession, not the 1982 recession. It is now quite obvious that a sudden increase in Federal debt growth occurs some eight years earlier than we thought!

The difference is not due to any changes I made to the blue line. I made no such changes. I only changed the red line from a wiggly worm to a constant (average growth rate) value, so that the red line does not obstruct our view of the blue line.

Almost done.

We've been looking off-and-on lately at a picture of the Federal debt relative to GDP, this FRED graph from Noah:

Graph #4: The Federal Debt Relative to GDP
It shows the Federal debt relative to a wiggly worm. According to our Graph #1 above, the wiggly worm ran low in the years before 1977, and then high till the year 2000. Running low before 1977, it makes the Federal debt look falsely high. (Low as it is in those years on Graph #4, it is falsely high.) Running high between 1977 and 2000, it makes the Federal debt look falsely low.

I'm saying that the growth of Federal debt was less than we think in the years before 1977, and more than we think in the years after. We are deceived. Why are we deceived? Because we think of the Federal debt in comparison to the wiggly path of actual GDP.

But now we can fix that. We can use the "constant growth rate" approximation of GDP in place of actual GDP. This will give us a version of Federal debt relative to GDP that is similar to Graph #4, without the distortions arising from variations in GDP growth.

Graph #5, below, shows in red the same "relative to actual GDP" data that we see on Graph #4: In particular, the red line shows the increase beginning around 1982, the increase Noah calls "the explosion in U.S. government debt".

The blue line on #5, which shows the same Federal debt but shows it relative to the "constant growth rate" approximation of GDP, shows that increase beginning around 1975. That is the same difference we noticed above, comparing Graphs #2 and #3.

The Federal debt, relative to actual GDP (red), and relative to a constant-growth approximation of GDP (blue):

Graph #5
The two lines are very similar. That says the two measures of GDP are very similar. And we would want that to be true, so we can have confidence in the approximation.

But the two lines also differ. In the years before 1977 the blue line is lower. In the years between 1977 and 2000, the blue line is higher. But look also at the transition from downtrend in the 1960s to uptrend in the 1980s. The red line (using actual GDP) hits bottom around 1974 and runs flat until 1982, and then suddenly starts on its upward journey.

We know that, of course: Noah pointed it out.

The transition from downtrend to uptrend is different for the blue line. It is earlier. Instead of going suddenly flat in 1974 like the red line, the blue line begins its uptrend there. That uptrend is definitely stronger after 1982; so if you were wanting to blame Reagan for the big increase in Federal debt I guess you can still do that. But 1982 is not where the uptrend starts. Not for the blue line. Not for the Federal debt.

And the only difference between the red and blue lines is that the red line is shaped by vagaries in both debt growth and GDP growth. The blue line is not. The blue line is the better measure of Federal debt growth.

And the postwar increase in Federal debt growth started before 1982.


The Excel file at Google Drive

Sunday, August 23, 2015

And you thought Milton Friedman wasn't funny!

Milton Friedman:
The price system is the mechanism that performs this task without central direction, without requiring people to speak to one another or to like one another.
- Free to Choose, Chapter One

Saturday, August 22, 2015

Oh, no. This again?

If you look at Noah's graph of debt relative to GDP, it certainly looks like the big increase started around 1982:

Graph #1: Noah's Graph

Noah's graph shows the Federal debt as a percent of GDP. I called up GDP (red) and the Federal debt (blue) as two separate series, and looked at the growth rates for those two series. Sure enough, the blue line is way up high in the 1980s:

Graph #2. Click Graph for FRED Source Page
But that's not the only thing I see. The blue line is way up high in the 1980s, and it is way down low in the 1950s and into the mid-1960s. It was low before the mid-1960s, and high after the early 1980s.

From the mid-1960s to the early 1980s, the blue line, debt growth, changes from very low to very high. Between the mid-60s and the early '80s, the growth of debt went from low to high. So it doesn't make sense to me that Noah says a deficit explosion began after the early 1980s. The explosion started in the mid-1960s and ended in the early 1980s. Noah has it wrong.

And if you look at the blue line on Graph #2, yes, debt growth reaches a high point in the early 1980s. But the trend was downhill from that moment to the year 2000.

Why does Noah's graph show increase beginning arount 1982? Why does it show the debt essentially flat all through the 1970s, while Graph #2 shows increasing debt since the mid-1960s?

Well, because Noah's graph does not show debt. It shows debt divided by GDP. That's not the same thing. Graph #2 shows the growth rates separately, so that we can better evaluate what we see on Noah's graph.

On #2 the blue line runs below the red for almost all the years before 1982. Then, the blue line runs above the red for almost all the years since 1982. So the Federal debt was growing more slowly than GDP before 1982, and faster than GDP after 1982.

This transition, this change that happened around 1982, affects the appearance of Graph #1. It pushes the debt-to-GDP ratio lower before 1982, and higher afterwards. This is one of the reasons Noah thinks he sees an "explosion" of deficits beginning in the early 1980s. There was a decrease in the growth of GDP. Noah has it wrong.

Friday, August 21, 2015

DEF: Inflation

I was going to find Milton Friedman's definition of inflation. I thought that would be a good place to go next. But before I even got started, I got email from Greg. If you leave a comment on the blog, I get it as email so I don't miss it. And Greg left a comment on the blog:

Actually Art inflation is most commonly defined as a sustained rise in the general price level over time.

So there ya go. That's pretty much word-for-word what I was attributing to Friedman. I'm still looking for that one. But meanwhile, I found this from Investopedia:

Inflation is defined as a sustained increase in the general level of prices for goods and services. It is measured as an annual percentage increase. As inflation rises, every dollar you own buys a smaller percentage of a good or service.

The value of a dollar does not stay constant when there is inflation. The value of a dollar is observed in terms of purchasing power... When inflation goes up, there is a decline in the purchasing power of money. For example, if the inflation rate is 2% annually, then theoretically a $1 pack of gum will cost $1.02 in a year.

Okay. Except a pack of gum is still a nickel, right?

The company did not raise the original five cent price of a five-stick package of Wrigley's Spearmint, Juicy Fruit, and Doublemint gums until 1971. Management reluctantly did so by creating a seven-stick package and charging a dime for it.

Oh. Never mind. Come to think of it, I probably haven't bought gum since the 1960s.

Thursday, August 20, 2015

Four Measures of Inflation, and Five Interest Rates

The inflation measures are blue. The Interest rates are red.

The one causes the other? They move together?? They don't??? What do you see? I'll tell you what I see. I'm not nit-pickin it. Just a quick look.

On the way up, in the 1960s and 1970s, rising inflation snuck up on inflation expectations and closed the gap with interest rates. We didn't expect the inflation we were getting.

On the way down, in the 1980s and 1990s, falling inflation again surprised inflation expectations, and the gap with interest rates grew. We didn't expect the disinflation we were getting.

Doesn't say much about the relation between interest and inflation, does it?

Says a lot about expectations, though.

Wednesday, August 19, 2015

Three? Make that four

There it is. Mid-June of this year. I thought it was recent, but not that recent.

Three measures of inflation:

Graph #1: Three Measures of Inflation: CPI, the GDP Deflator, and the PCE Index

I knew about the Consumer Price Index and the GDP Deflator for a long time. I still have photocopies of Statistical Abstract tables from the early 1980s. (They cost 25 cents apiece, at the library.) But I never heard of the PCE price index till just a few years ago.

Now the other day, I read Brian Romanchuk's response to Nathan Tankus. Romanchuk writes:

Yes, economists who argue that "inflation" reduces the burden of debt are using consumer price inflation as a proxy for "generalised inflation" (which I describe below). This is technically incorrect. But as the chart below shows, there's a fairly strong correlation between CPI inflation and wage inflation, for very good reasons

What follows is most interesting. "A divergence between the two has implications for the wage and profit shares of national income," he writes. I won't quote any more of that; if you missed it you should definitely go there and read it.

So anyway, Brian Romanchuk's chart compares consumer price inflation to U.S. wage inflation. For wage inflation he uses "average hourly earnings". Something I never thought of, to be sure. But I like it.

So I picked two series out of the 267,000 FRED offers, and managed to satisfy myself that I had duplicated Romanchuk's graph:

Graph #2 (After Romanchuk) Earnings = FRED AHETPI and CPI = FRED CPILFESL
He didn't identify his data. But I got a good match by using AHETPI and CPILFESL.

Now I have four price series to look at:

Graph #3: Four Price Series
I don't usually use price series that exclude food and energy prices. To me it doesn't make sense. But that's what Romanchuk used, so I went with it for this graph.

By the way -- on that last graph, the green line runs with the low group in the 1980s, then accelerates up to the higher line and even goes above it after 2010. That line shows the fastest increase of any in the last 25 years.

That line is Average Hourly Earnings, the one I got from Romanchuk.

If you happen to be a Nathan Tankus fan (I am not) you might want to follow up on this with Brian Romanchuk. Wages are going up faster than prices? Is that with or without benefits? Either way, how can it be? Why doesn't Romanchuk point it out? and Was there no more realistic series he could have used to shoot holes in Nathan Tankus's post?

Tuesday, August 18, 2015

Less simple, but there is no reason to complicate it

Following up on yesterday's post...

My annotations