Friday, January 31, 2014

Miscellaneous Perot: Capital Requirements

From Chapter Four of Ross Perot's 1992 book United We Stand, under the heading Create New Jobs:
Free up credit. The deregulation of our banks and savings and loans was poorly thought through and poorly executed. Now we have to repair the damage. Our small businesses are starved for credit. People with good ideas can't get loans. The regulators came to a recent board meeting of a savings and loan to read a message from the administration telling them to start making loans. The board listened with utter bafflement. The day before the same regulators had required them to tighten their capital requirements, which meant they couldn't make any new loans.

There are many things one might take from this. My take is that you can't have tighter capital requirements and increase your lending, both. Not under the circumstances of the 1980s and 1990s. And probably not since the crisis.

If the conflict was already coming to a head in the 1980s, how much worse was it in 2008? And why do we think we can solve the problem today just by tightening capital requirements -- again.

What I've heard of Capital Requirements is that "reserves" are not an effective way to limit borrowing, and something else (a higher capital requirement) is needed.

According to Perot's tale, capital requirements are a particularly effective way to limit lending.

But there is a problem with limiting lending, because (as Perot said in 1992) people are starved for credit. We can't get as much credit as we need. But... but... Does that make sense? I mean, how much debt did we have, anyway?

357% of GDP at peak, according to this 2010 graph from the Wall Street Journal. More than three and a half times GDP. That's how much credit we had in use.

Why would we even want more?

Every dollar of debt is a dollar of credit that somebody borrowed and presumably spent. The borrowed money went off into circulation. From the borrower's point of view, that money remains in circulation until the borrower grabs a dollar from his paycheck and pays it back to the lender, extinguishing the borrowed dollar.

Every dollar of debt is a dollar of credit in use.

Here's what I think. When we say somebody is "starved for credit" it means they can't borrow any more now. It certainly does not mean they don't have any debt. When somebody is starved for credit, they want to use more credit now, but they can't get it. Perhaps because they have too much credit in use already.

What I'm thinking is this: Maybe people can't get new credit to use, because we have so much credit already in use. If we paid down some of our debt -- our debt, private debt -- we would free up some credit and make it available to borrow again. If we paid down some of our debt, we'd reduce our debt-to-income ratios and make ourselves more appealing to lenders. If we paid down some debt, we might become more willing to increase our borrowing again.

If we paid down some debt, we'd have less debt. And who doesn't want that???

Thursday, January 30, 2014

Miscellaneous Perot: Faster than "too slow" must be too fast

Here's the whole paragraph, including the three sentences we looked at yesterday, from Ross Perot's 1992 book United We Stand:

President Reagan had a reason for the deficit spending that occurred in his Administration. He wanted to bankrupt the Soviet Union, and he did it by accelerating the arms race. In the last several years, our debt has grown for no reason. Government spending has risen to a record 25 percent of our gross national product, and it hasn't bought us much.

Just the last sentence this time. Just the first part of it. (I don't care about Perot's opinion whether all that spending "bought us much".) Here's the focal point:

Government spending has risen to a record 25 percent of our gross national product

Government spending is growing faster than our economy, he says. Got it?

Next, look at a sentence where Perot identifies the problem. From the Introduction:
Our economic growth has been sluggish for nearly two decades.

And another, from Chapter One:
Before the early 1970s, our standard of living doubled every generation and a half. Now it will take twelve generations for our standard of living to double!

The problem Perot identifies is slow economic growth. The economy is growing too slowly. Back in the early 1990s, when we still used "gross national product" instead of GDP, even then the economy was growing too slowly. Even way back then.

I quoted Perot's opening the other day:
We add about $1 billion in new debt every 24 hours.
Does anyone think the present recession just fell out of the sky?

Perot sees excessive Federal spending as the cause of slow economic growth. He says fast-growing Federal spending is the reason the economy grows so slowly.

His only evidence is that Federal spending grows faster than our slow-growing economy. But this is not evidence that Federal spending is growing too fast. It is evidence only that Federal spending growth is not also too slow.

Federal spending growth may be faster than "too slow", but that does not mean it is too fast. It doesn't mean anything, really. And yet Congressional debate since the time of Clinton has centered on the growth of Federal spending: vindictive, but otherwise empty argument: tales told by idiots, full of sound and fury, signifying nothing.


Related post.

Wednesday, January 29, 2014

Miscellaneous Perot: "for no reason"

Under the heading "How Did It Happen?" in Chapter One of Ross Perot's 1992 book United We Stand:

President Reagan had a reason for the deficit spending that occurred in his Administration. He wanted to bankrupt the Soviet Union, and he did it by accelerating the arms race. In the last several years, our debt has grown for no reason.

The thing that bothers me most in that quote is the last bit of it: "In the last several years, our debt has grown for no reason."

Debt doesn't grow for no reason. The Federal debt, I mean. What Perot was writing about. The Federal debt grows because there is some impediment that hinders the normal growth of the private economy.

The Federal debt grows because something is interfering with economic growth. Looking at it that way, you can see that Federal debt growth is a result of failing private-sector growth. That is to say, the Federal debt is a result, not a cause of the decline of economic growth.

Gee willikers, it's not Federal debt that hinders growth. It's all the other debt.

Tuesday, January 28, 2014

Non sequitur

The opening words of Chapter One of Ross Perot's 1992 book United We Stand:
In June, 117000 more Americans were thrown out of work. While we were putting the finishing touches on this book in July, eight companies announced they were shedding 23,000 jobs. Those were just the announced layoffs.

The Federal debt is now $4 trillion. That's 4,000,000,000,000. Our political leaders will add over $330 billion to that debt in 1992 alone.

We add about $1 billion in new debt every 24 hours.

Does anyone think the present recession just fell out of the sky?

Monday, January 27, 2014

Sumner engages the crystal ball

Marcus Nunes brings up an old Sumner post. Old Sumner (from 27 May 2009) says interest rates a few years in the future will be either still near zero, or else they will have gone up to maybe 3.75%. Sumner says:

If I looked into the ball and saw 0.25% fed funds rates in 2011, I would have a sickening feeling—like I’d been punched in the solar plexus. Krugman would be right, we’d be another Japan.

In contrast a 3.75% fed funds rate would put a big smile on my face, as it would indicate nominal GDP growth had bounced back strongly. It would have been a V-shaped recovery.

In my view, promising year after year of near zero rates is like promising year after year of sub-par nominal growth.

I get his point. Policy is promising to keep rates low until economic pressures indicate that higher rates are called for. So if rates are still low in the future, it means higher rates are not needed. Sumner would rather they print even more money than they are printing, enough to push nominal GDP up enough that the economic pressures indicate higher rates are called for. Something like that.

Okay? Now, a question: What are the economic pressures that indicate higher interest rates are called for?

Inflation. That's it, really. People borrowing too much and spending too much, creating upward pressures on prices, leading to inflation.

Oh, and since we know that "inflation is always and everywhere a monetary phenomenon", we know that it was all the money created by all the borrowing that allowed all the spending, that caused the upward pressure on prices. We know that much.

Okay, and our plan is to push interest rates up enough to make people borrow a little less, so that there is less upward pressure on prices. That's the plan. Milton Friedman's plan, and Scott Sumner's plan, and maybe Bill Mitchell's plan.

But look what happened in the time between the zero rates and the 3.75% rates: Spending picked up. Spending picked up because the quantity of money increased, because of the growth of lending. So there is more money in the economy, more credit-money, the money created by lending. And there is more interest cost in the economy because of this increased lending.

By the time policymakers notice inflation is picking up, there is already too much of that money in the economy. Must be, right? I mean, if there is already inflation.

So what the policymakers do then is, they slow the further increase of money by raising interest rates. Or, in Bill Mitchell's case, by raising taxes. Now that's interesting, because Mitchell actually takes some money out of the private economy. (Presumably, the government sits on it instead of spending it, so the money stays out of the economy until inflation abates.)

But the other guys don't take money out of the economy. They leave all the money in the economy, even though it was causing inflation, and they raise interest rates. So they don't fix the problem that was making prices go up. Instead they aggravate the problem by increasing the cost of borrowing.

And if they don't do things exactly right, if they slow the growth of money a bit too much, then they create a recession. A "hard landing". We still have our increased interest costs to deal with, and we still have our increased debt to repay. But now we have fewer jobs and fewer people working.

If we do it Mitchell's way, taxing more instead of raising interest rates, then we have less money. But we still have our increased interest costs to deal with, and we still have our increased debt to repay. Mitchell slows growth, too. And he would have to raise interest rates, or people would just borrow the money they need.

I have a different way to fight inflation. I want to fight inflation by getting people to pay back the money they borrowed, faster. My plan is to accelerate the repayment of debt. If we do it my way, we don't aggravate the problem by raising interest rates. If we do it my way we address the problem directly, by reducing the quantity of money created by lending. So we no longer have our increased debt to repay, because we repaid it as a way to fight inflation.

We also reduce the interest we have to pay, which helps to lower costs. But we don't raise interest rates, so we don't choke off new borrowing and we don't kill off growth.

Sunday, January 26, 2014

Checking Maynard's arithmetic

In the previous post I quoted Keynes on the growth of capital. He said $1 grew into $100,000 in 350 years. (He actually used Pound signs, but I'm lazy.)

He said it was a growth rate of about 3.25 percent.

He also said 250 years, but that was a mistake. After I got confidence that it was 350 years and I understood it right, I looked at the numbers:

In an Open Office spreadsheet
I put the value 1 in cell A1.
I put the value 1.0325 in cell B1.
I put the formula =A1*$B$1 in cell A2.
I copied cell A2 to the range of cells starting with A3 and ending with A350.

I know, it's only 349 years...

I had to increase the growth rate value in cell B1.

For a growth rate multiplier of 1.0335 I get 98,709.25 in cell A350, just a bit under the 100,000 target value.

For a growth rate multiplier of 1.0336 I get 102,099.29 in cell A350, just a bit over the target value.

I get a growth rate between 3.35% and 3.36%, close enough to the given number 3¼.

I recreated the thing in a Zoho spreadsheet so I could post it here. You can fiddle with it, change any numbers you want. If you mess it up too much, just refresh the page, and Zoho will reload my original sheet for you.

To look at what I'm trying to show you, just tweak the 1.0325 number in the yellow cell, cell B1. Change that number to 1.0335 and you should get 98,709.25 like I got in the OpenOffice sheet. Change it to 1.0336 and you should get 102,099 and change. So you know the growth rate number is somewhere between 1.0335 and 1.0336.

The other yellow cell is for checking what I quoted from the Japanese translation, in a comment on the previous post.

The guy said "250 square of 1.0325" is "about three thousand". I got 2968 and change: about 3000.

Then he increased the start-value from 1.0 to 40 thousand pounds, multiplied his "about 3000" by 40,000, and realized that the answer (120 with six zeroes after it) was nowhere near Keynes's 4 billion number.

Here's the Zoho sheet:

The thing I love most about Zoho is that it includes the formula bar. So you can click on a cell that you want to know about, then look at the formula bar and see the formula in that cell. Usually you can't do that online. Zoho is great!

"£40,000 accumulating at 3¼ per cent compound interest approximately corresponds to the actual volume of England's foreign investments at various dates"

From Economic Possibilities for our Grandchildren, in Essays in Persuasion (1931) by John Maynard Keynes:
The modern age opened, I think, with the accumulation of capital which began in the sixteenth century. I believe—for reasons with which I must not encumber the present argument—that this was initially due to the rise of prices, and the profits to which that led, which resulted from the treasure of gold and silver which Spain brought from the New World into the Old. From that time until to-day the power of accumulation by compound interest, which seems to have been sleeping for many generations, was re-born and renewed its strength. And the power of compound interest over two hundred years is such as to stagger the imagination.

Let me give in illustration of this a sum which I have worked out. The value of Great Britain's foreign investments to-day is estimated at about £4,000,000,000. This yields us an income at the rate of about 6½ per cent. Half of this we bring home and enjoy; the other half, namely, 3¼ per cent, we leave to accumulate abroad at compound interest. Something of this sort has now been going on for about 250 years.

For I trace the beginnings of British foreign investment to the treasure which Drake stole from Spain in 1580. In that year he returned to England bringing with him the prodigious spoils of the Golden Hind. Queen Elizabeth was a considerable shareholder in the syndicate which had financed the expedition. Out of her share she paid off the whole of England's foreign debt, balanced her Budget, and found herself with about £40,000 in hand. This she invested in the Levant Company—which prospered. Out of the profits of the Levant Company, the East India Company was founded; and the profits of this great enterprise were the foundation of England's subsequent foreign investment. Now it happens that £40,000 accumulating at 3¼ per cent compound interest approximately corresponds to the actual volume of England's foreign investments at various dates, and would actually amount to-day to the total of £4,000,000,000 which I have already quoted as being what our foreign investments now are. Thus, every £1 which Drake brought home in 1580 has now become £100,000.

Saturday, January 25, 2014

Another look at inflation

Graph #1: via Random Eyes

Now I know why they call it the Great Inflation

Prices on a Log Scale:

Friday, January 24, 2014

Compensation and Output

Via Random Eyes...

Graph #1: A Comparison of Compensation (blue) and Output (red)
The two lines have to meet in 2009, because they both have the value 100 that year. But the two lines don't have to be getting closer together since 1970. That's just bad policy.

Graph #2: The Line Falls Since 1970, as Compensation Fails to Keep Up with Output
National ruin takes time, as Gavin Kennedy says.

Thursday, January 23, 2014


From Winterspeak:

A married, mid-career professional couple will find themselves making over $250,000, comfortable by any standard and likely in the 1% or close, but such a "prudent clean and sober" couple is not driving inequality in the US. That's being driven by the Finance industry, which is growing primarily on debt and derivatives. The latter can be outlawed, and the former can be more accurately priced by banning securitization and forcing sound credit management by requiring debt to be held on the issuer's books to maturity.

I like that, and I was gonna let it stand on its own. But Winter tacked on one more sentence --

Manage resulting credit contraction through fiscal action.

-- and I have to look at it. I cannot imagine a "fiscal action", an increase in government spending, large enough to compensate for the credit contraction our economy requires. We need to cut debt at least by half, and that means a credit contraction of at least $29 trillion, or close to TWO TIMES GDP.

Nobody wants that much government spending.

What we have to do is prune back the incentives that encourage borrowing and lending, and create new incentives that encourage the repayment of debt. We can have a nice, gradual decompression, but that's not really the right word. We can have a gentle change from excessive reliance on credit, to reliance on the dollar. And all the while that change is taking place, things will be getting better, and people will notice that things are getting better.

If we borrow less, if we prune back finance, then the central bank will be able -- willing and able, I'm sure -- to increase the quantity of actual money we have in the economy. And this is exactly what needs to happen. But it cannot happen as long as Congress and the Fed continue to think that we need more incentives for lending and for borrowing.

Granted, since the crisis it may be more difficult to do it my way. But then, since the crisis, everything is more difficult.


Related remarks: The One-Page Guide

Here's a thought

If you want to make finance a smaller part of our economy -- which, by the way, is the one essential step -- here's how to do it: Eliminate the tax deduction for interest expense from business income tax forms. This way, no business -- not even financial business -- gets to deduct interest expense.

It will have a much bigger effect on financial business than productive business.

Wednesday, January 22, 2014

Yeah right, a housing bubble, that's the problem.

Yesterday I showed a picture of home mortgage debt compared to total credit market debt:

Graph #1: Home Mortgage Debt as a Percent of Total Credit Market Debt
A big increase in the 1950s. After that, it's up-and-down, up-and-down to the present day. Maybe a little higher after 2000 than before, but only a little. Not what I would call a bubble. Mortgage debt was just keeping up with all the other debt we have in the U.S.A.

But hey, you want to see an increase in debt? I'll show you an increase in debt:

Graph #2: Home Mortgage Debt as a Percent of Total Credit Market Debt (blue) and
Domestic Financial Debt as a Percent of Total Credit Market Debt (red)

The blue line shows the same data on both graphs. The red line -- financial debt -- shows increase.

Tuesday, January 21, 2014

Housing bubble?

Here's a picture of home mortgage debt:

Graph #1: Home Mortgage Debt

Here's a picture of home mortgage debt in context:

Graph #2: Home Mortgage Debt as a Percent of Total Debt
There, that little triangle up above the 20.0 level, the high point before the crisis -- That was the housing bubble??

What is that peak, two percentage points above the normal range?

Looks to me like the context number must have been going up, too. Looks like the growth rate of housing debt was only a little faster or only a little slower than the growth rate of total debt, for a long time. Let's see how that stands up to scrutiny:

Graph #3: Growth Rate of Home Mortgage Debt less Growth Rate of Total Debt
In the mid-1950s, yes, home mortgage debt grew five to ten percent faster than total debt. But since the latter 1950s a five-percent difference seems to be the limit. Where the blue line is above the zero line, mortgage debt grew faster than total debt. But it is pretty well contained below the 5 percent line.

Where the blue line is below the zero line, mortgage debt grew slower than total debt. But here, the difference is pretty well contained by the -5 percent line. Even in the years since the crisis, remarkably, it bottoms out near -5 percent.

Granted, the low in the 1990s is not very low. And the high in the 2000s is higher than the two previous peaks. But not much.

Housing bubble? Mortgage debt bubble?? Total debt bubble, without a doubt.

Hey, if debt was increasing it had to go somewhere. There had to be something the money was being spent on. And yes, maybe it went to into housing this time. But if debt was increasing, the money had to go somewhere.

The problem is not the housing bubble. The problem is excessive debt. Period.

Monday, January 20, 2014

So I looked at my change, and...

I frankly hesitate to support any organization when I don't know what they're up to. But this at first glance looks promising. So I'm willing to link to them. (Click the dollar image.)

Sunday, January 19, 2014

Chris Brightman: The Profits Bubble

Chris Brightman's The Profits Bubble at Research Affiliates might be worth a read:

Profits are dangerously elevated by all reasonable measures... The dramatic rise in income inequality is a direct consequence of this spectacular reallocation of income to capital and away from labor.

For nearly a quarter century, we have experienced profits growing at a faster clip than GDP... Capital’s share cannot rise in perpetuity; social and political forces, if not economic developments, will cause it—sooner or later— to revert to a more usual level.

Brightman presents some eye-catching facts (without links to sources, sadly) and a lot of quotable lines. Most remarkably, he writes:

This period of globalization and the inflation of our profits bubble has been facilitated in part by a corporate capture of government policy, inhibiting competition, depressing investment, and promoting rent seeking. Rent seeking may be more extreme within our very own financial industry than in any other.

Brightman sees where the problem lies, and is forthright about it. This is something to be treasured, cultivated, and shared.

A gradual rise (in the 1990s)

Last in a series

Two notes on Graph #4 from yesterday (here renumbered):

Graph #1: Monetary Interest Paid by Domestic Business, relative to Total Labor Cost
1. The latter half of the graph shows three highs, but these seem to be of three different types:
 a. A sustained high (in the 1980s)
 b. A gradual rise (in the 1990s), and
 c. A sharp rise to peak.

The middle one, b, corresponds to the good years, when productivity was up and the Federal budget got balanced: the "macroeconomic miracle" years. Goldilocks.

2. I wonder if there is some relation between these peaks and Ed Lambert's "effective demand".

Saturday, January 18, 2014

Can that be right?

Second in a series

Unit Labor Cost (ULC) is figured by taking Total Labor Cost (TLC) and dividing it by real output (RGDP):

Work backwards and multiply both sides by real output to get Total Labor Cost:

I put that number on a FRED graph along with the Monetary Interest Paid number from yesterday:

Graph #1: Oops!

Ouch. Labor cost dwarfs interest cost.

Can that be right??

No, I messed up. Read the units in the left-hand border. It's an "index" (the Unit Labor Cost number is an index) times billions of chained 2009 dollars, for the blue line. But the 2009 value of the index is 100. So Graph #1, for 2009, shows a number that is 100 times what it should be. For all the years, 100 times what it should be.

I have to take the ULCNFB*GDPC1 formula (in the top border of Graph #1) and divide it by 100:

Graph #2: Total Labor Cost (blue) and Monetary Interest Paid by Domestic Business (red)
Yeah, that's more like it.

Still, the cost of labor is far more than the cost of interest.

Fair enough. And I should hope so! Nonetheless, I argue that it is the increasing cost of interest that is the source of our economic troubles, going back to the 1960s or before.

High numbers on a graph like this squeeze the low numbers down near zero and you lose the detail. You can't see what's happening in the early years. So, to compare the two lines, divide one by the other:

Graph #3: Total Labor Cost relative to Monetary Interest Paid by Domestic Business
What the comparison shows is that Total Labor Cost was growing much more slowly than interest cost all the while, until 1981 or so. It's an important detail that has disappeared from Graph #2.

Graph #3 look familiar? Looks just like yesterday's Graph #4, Unit Labor Cost relative to Unit Monetary Interest Cost.

Well, yeah. It's only a slight re-arrangement of the same source numbers.

Graph #3 here is better though. The numbers on the vertical scale are better. The high point of the blue line here is between 70 and 80. On yesterday's graph it was between 7000 and 8000. Yesterday, I didn't even know what the numbers meant.

The reason these numbers are lower? Because I divided by 100 to fix my error. 7000 divided by 100 is 70, and 8000 divided by 100 is 80, so that's how the numbers changed. And suddenly the numbers become meaningful.

Back before the 1950s, total labor cost was about 70 times the total cost of interest paid by domestic US businesses. From 1980 to the crisis it was generally less than 10 times as much. That means that for every $70 US business paid to labor in the late 1940s, they had one dollar of interest cost. Since 1980, for every $70 US business paid to labor, they've had about $7 to $10 of interest cost, maybe more. That's what the graph says.

Here, let me invert the ratio:

Graph #4: Monetary Interest Paid by Domestic Business, relative to Total Labor Cost
Before the mid-1950s, there was less than two cents of interest cost for each dollar of labor cost. By the mid-1960s it had doubled to four cents per dollar of labor cost, and by the mid-1970s doubled again, to eight cents per dollar. After that it doubled again, and went even higher, but till now has not yet gone back below the eight-cent number.

If we had kept the interest cost to US business at four cents per dollar of labor cost, there would have been a whole lot of money left over to boost business profits. The economy would have grown like gangbusters.

Some of those boosted profits could have been spent giving people raises. That would have increased aggregate demand and living standards... and would likely have quelled the anger that vents itself these days in politics.

If interest costs were restrained, the financial sector would not have grown so much. Finance would today be a smaller segment of GDP. But then, with higher profits in the nonfinancial sector, GDP would have grown much more.

Friday, January 17, 2014

Unit Monetary Interest Cost

First of three in a series

An old post opens with a definition of Unit Labor Cost:

unit labor cost business definition

An important measure of productivity calculated by dividing total labor compensation (including benefits) by real output. An increase in unit labor costs will result in a reduction in profitability unless a firm can pass along higher labor costs to its customers. Economists view increases in unit labor costs as an important indicator of potential inflation.

An actual cost -- ie, not an inflation-adjusted cost -- is divided by the inflation-adjusted measure of output. That division skews the resulting number upward along a path comparable to the path of rising prices. Economists practice this sort of self-deception all the time. Let's go along with it this time.

Here's Unit Labor Cost (ULC) for Nonfarm Business:

Graph #1: Unit Labor Cost
ULC goes up, along a path comparable to the path of prices. They tell you it means labor costs drive inflation. I say their arithmetic is corrupt.

The definition of ULC says "An increase in unit labor costs will result in a reduction in profitability unless a firm can pass along higher labor costs to its customers." Sure. But an increase in any cost will result in a reduction of profitability unless bla bla bla, just the same.

An increase in any cost. For example, an increase in interest cost would result in a reduction of profitability bla bla. Here's a picture of monetary interest paid by domestic US business. The "sector" is not exactly the same as the "nonfarm business sector" of Graph #1, but it's as close as I could find:

Graph #2: Monetary Interest Paid: Domestic Business
The Unit Labor Cost is figured by dividing a particular cost (labor) by real output. I will figure the "Unit Monetary Interest Cost" (UMIC) similarly -- by dividing the Monetary Interest Paid number by real output:

Graph #3: Unit Monetary Interest Cost
You should note the units shown in the left-hand border: Billions of dollars, divided by billions of inflation-adjusted dollars. Right away this should tell you the graph is garbage. Of course, it's the same units as the Unit Labor Cost graph. But on the ULC graph, that important piece of information is lost.

Oh, well.

So now we have a unit cost we can compare to the unit cost of labor. To make the comparison, I look at the unit cost of labor relative to the unit cost of monetary interest:

Graph #4: Unit Labor Cost relative to Unit Monetary Interest Cost
Labor cost was high in the early years, relative to interest cost, high but falling. Since around 1980, labor cost has been on the low side. Basically, the ratio was falling all the while interest rates were rising. Then the ratio got stuck low while interest rates were falling, because business debt kept growing.

The economy was good when the ratio was high. Since the ratio went low, the economy sucks.

Oh, and the ratio fell all through the Great Inflation. Labor cost fell, relative to interest cost, all through the Great Inflation.

Do you still think labor cost is the cost that drives inflation?

Thursday, January 16, 2014

This is why I don't focus on inequality

After five consecutive posts on inequality, all I could come up with was an opinion.

And anyway, as has been pointed out to me a thousand times, you can't see inequality in aggregated data. You have to break up that data. But when you do, you can easily break it down from macro to micro, to the individual, personal level. And then it has to go like this.

Sometimes it seems like I'm the only person doing macro.

Wednesday, January 15, 2014

Mosler gets interesting

Warren Mosler, 31 December 2013:

[Mainstream economists] say the GDP/private sector would have grown by 4% if the fiscal drag hadn’t taken away 2%, and so without the govt again taking away 2%, the private sector will resume its ‘underlying’ 4% rate of growth.

I say the GDP/private sector would have grown by 4% that included the 6%/$900 billion net spending contribution by govt, if govt hadn’t cut back that contribution to $600 billion.

That is, they say the govt ‘took away’ from the ‘underlying’ 4% growth rate, and I say the govt ‘failed to add’ to the ‘underlying’ 2% growth rate ...

Tuesday, January 14, 2014

Operational differences between credit and debt

Excerpted & revised from mine of 5 Feb 2013


By the end of this year, the federal debt held by the public will probably be something like 78% of GDP. That may not be high enough to exert a serious drag on growth, but it's getting pretty close.

Seventy-eight percent of GDP, huh? You can see that at the right end of the blue line in the graph below:

Graph #1: Federal Debt (blue) and Everyone Else's Debt (red)
(Both relative to GDP) (Federal "held by the public" per McArdle)
Click Graph for FRED Source Page

78% is about where everybody else's debt (the red line) was in the early 1950s. Since then, everybody else's debt went up. If Federal debt at 78% is getting pretty close to being a serious drag on growth, as McArdle says, then how about other debt at 100% or 200% or 300% of GDP? Of course it is a serious drag on growth! All debt is a drag on growth.

You might say but Federal debt doesn't produce anything!

No debt produces anything. New uses of credit can sometimes be for productive purposes. But after that money is spent, nothing remains but the evidence that it was credit we were spending: Nothing remains but the debt.

Debt is evidence of credit use. Debt is the cost associated with credit use.

Borrow a dollar today, spend it today, and boost the economy today. Tomorrow, nothing remains but a dollar of debt, the cost of interest on that debt, and the cost of repayment. These costs do not boost the economy. Just the opposite, in fact. This is true no matter who borrowed the money. It is true, no matter what the money was used for.

Clearly, the bigger debt is the bigger problem.

To boost the economy, a new use of credit must be large enough to completely offset the drag created by existing debt, and then some.

But using credit makes existing debt bigger. See the problem?

Monday, January 13, 2014

You'll have to imagine my response. I deleted it.

Mark J. Perry, the inimitably bad thinker, shows a graph of population by income group. The graph shows that the percentage of poor people is increasing, and the percentage of rich people is increasing.

Don Boudreaux links to that graph in the same post where he says "income inequality is neither as great nor as insurmountable and stifling as 'Progressives' would have us think." I guess he can't quite force out the phrase "inequality is not increasing".

In the same post, he says the new rich "work hard and are responsible; therefore, they enjoy larger monetary rewards than they’d get were they less hard-working and less responsible." Sounds like he knows them all personally.

Mr. James Lott in the photo – one of the “new rich.” He’s the son of Nigerian immigrants. He obviously works hard and acts responsibly. He doesn’t moan about what he doesn’t have, and he didn’t sit around envying other people and hoping and waiting for the government to give him someone else’s money in order to make his income more on par with that of “the rich.”

So, Don, are you saying that I don't work hard? That I don't act responsibly? That I moan about what I don't have, and that I sit around envying other people and hoping and waiting for the government to give me someone else's money?

Sunday, January 12, 2014

FDR, Perot, and Hayek

That FDR quote from yesterday reminded me of something.

In Chapter Four of his 1992 book United We Stand, Ross Perot discusses his plan to have "An America that Prospers". Under the heading "Put Government on the Side of Jobs and Growth" he says

Don't worry about our businesses getting too big; worry about our businesses getting too small.

No, I'm with FDR on this one. The growth of private power is a problem.

That sentence from Perot confuses two separate concepts. First is the concern expressed by FDR, captured in yesterday's post: the concern that businesses getting too big is harmful to freedom. Perot dismisses that one.

The second concept is economic decline, which he expresses as businesses "getting too small". But Perot approaches this concept from a microeconomic perspective: He wants to improve the incentives offered to businesses.

Perot just completely misses the "Let's analyze the problem" approach. He wants a policy solution for every damned symptom he sees. That's what we've been doing for 40 years. There is no better way to find your way to the end of civilization.

Oh, and speaking of big business interfering with freedom, here's my favorite line from Friedrich A. Hayek's The Road to Serfdom:

... it is not the source but the limitation of power which prevents it from being arbitrary.

Saturday, January 11, 2014



Some interesting images at the source site. Here's another one.

Friday, January 10, 2014

One more on Milton Friedman

Thinking of it in economic terms, conceptually, it is perfectly valid to take actual-price GDP and strip away the price changes, and then compare inflation-adjusted GDP to anything you want. It makes perfect sense.

It doesn't matter.

Mathematically, if you divide something by inflation-adjusted GDP, and the "something" is not also inflation-adjusted, the result you get is just as if you divide by actual GDP and multiply by prices.

GDP provides the context. Multiplying by prices distorts the "something" into a prices-like shape, generating pseudo-evidence you can use to claim that the "something" is the cause of inflation. For example, Milton Friedman used this technique to support his claim that inflation is always and everywhere a monetary phenomenon.

Thursday, January 9, 2014

One more on inequality

From the old Krugman post, quoted in an old Interfluidity post... Something finally hit me when I was re-reading the paragraph:

It’s true that at any given point in time the rich have much higher savings rates than the poor. Since Milton Friedman, however, we’ve know that this fact is to an important degree a sort of statistical illusion. Consumer spending tends to reflect expected income over an extended period. If you take a sample of people with high incomes, you will disproportionally include people who are having an especially good year, and will therefore be saving a lot; correspondingly, a sample of people with low incomes will include many having a particularly bad year, and hence living off savings.

Look at the first sentence in that quote:

It’s true that at any given point in time the rich have much higher savings rates than the poor.

That's the important part. It makes the Marginal Propensity to Consume a correct interpretation of the facts. The rest is bullshit.

The rest of the paragraph, the reiteration of Milton Friedman, makes it sound as if, in any sample of people with high incomes, most of them will be poor people who by chance are having a good year. It doesn't really say that, of course. It says a "disproportionally" high percentage of them will be poor people having a good year.

That disproportionally high number might be two percent.

At Cafe Hayek, Boudreaux quotes from some report:

Fully 20 percent of U.S. adults become rich for parts of their lives...

The new rich have household income of $250,000 or more at some point during their working lives, putting them — if sometimes temporarily — in the top 2 percent of earners….

The excerpt also says the temporary new rich remain in the top 2% "for at least a year". I take that to mean that most of them drop out of the top 2% after little more than a year. For if most of them stayed for three years or more, the excerpt would have said that the temporary new rich remain in the top 2% for at least three years.

That, they didn't say.

Boudreaux reiterates: "fully 20 percent of Americans are, for some portion of their working lives, in the top two percent of income earners in America." (Emphasis his.)

He also quotes this, from the same report:

Even outside periods of unusual wealth, members of this group generally hover in the $100,000-plus income range, keeping them in the top 20 percent of earners.

In other words, most of these new rich, most of the 20% of earners that get a year or so in the top 2% at some point in their career, most of them come from the top 20% of earners.

Statistically, then, everybody in the top 20% gets a year or so in the top 2% and also, maybe 2% of everybody else.

"If you take a sample of people with high incomes," Krugman says, "you will disproportionally include people who are having an especially good year..."

Disproportionally, yeah. But few.

In my opinion it is ridiculous to suppose that people moving briefly into the top 2% are the only ones who save more than average.

Wednesday, January 8, 2014

Here's a difference

Following up on yesterday's post... or, actually, gathering notes for yesterday's post, I came across the following remarks from Steve Waldman, here:
You won't get an argument from me re the debilitating role of expanding finance. But I think that's complimentary to, rather than an alternative to, the inequality and demand story. Because you have to explain, so, suppose thieves in bankers' suits suddenly steal 5% of the money. That's going to be bad for the economy somehow, but how? You could argue a supply-side explanation: productive people are demoralized, the fruits of their labor are worth less, so they choose to produce less. But then you wouldn't expect to see disinflation and involuntary unemployment. After all, the money the bankers steal isn't burned, but it should be burning a hole in their pockets, they should be converting it into real goods and services and bidding up the prices of things, if people aren't producing as much. That's not what we see -- we see involuntary unemployment and sluggish prices. Somehow all of this thieving has not (just) interfered with supply, but it has diminished demand! But why should bankers not buy as much as whoever else might have had that money? They've no need to hide the loot in mattresses; their theft was perfectly legal. The cops guard their moneybags.

My explanation is that it's because the bankers are rich already. They don't use their marginal dollar to buy goods and services, they hold the income for the status and safety they experience by being rich. The channel by which finance diminishes rather than merely redistributing demand is, I claim, inequality. Income to the already rich is a drag on demand.

Suppose instead of finance, a reinvigorated union movement were to effectively organize, or from an economist's perspective cartelize, labor, such that ordinary workers all received raises and labor's take was an extra 5% of GDP. Would that "cost" translate to a collapse of demand the way that finance's vig has? Obviously not, I say, but what say you?

I agree.

Waldman's remarks concern the Marginal Propensity to Consume, a Keynesian concept that makes good sense to me: As income increases, people tend to save an increasing portion of it.

In the quoted text, Steve applies the high income share to "bankers" and the low income share to ordinary workers. But it is still the Marginal Propensity to Consume (MPC) that he is describing. Why does demand diminish, he asks, when bankers make lots of money?

"My explanation is that it's because the bankers are rich already," he writes. Demand diminishes because they spend less, because they save more, because they are rich already, he says. That's the MPC.

I also agree with Thomas Philippon that the "sum of all profits and wages paid to financial intermediaries" is unduly large. And with Simon Johnson, who says "I know of no evidence that says you are better off with a financial sector at 8% rather than, say, 4% of GDP."

But I'm pretty sure that cutting in half the wages and profits of the financial sector, cutting in half the number of banks and bankers, does go hand in hand with cutting in half our reliance on credit.

The bankers' take, the wages and profits of the financial sector, the size of that sector as a share of GDP, this is not what I mean by "finance".

If you look at things the way Adam Smith did, bankers' income is wages. Bankers go to work in the morning. They go home at night. They work for a living. And they get paid for working, just like the rest of us.

Okay, maybe they get paid better.

Still, the money they get paid for their work is wages. If they also own the company, or part of it, then they get profit, too. Profit, that's another of Adam Smith's cost categories. I wrote of this before:

By contrast, credit or bank money does involve real factors of production. Those are the factors Thomas Philippon has in mind when he says, "The sum of all profits and wages paid to financial intermediaries represents the cost of financial intermediation."

But wages are wages, and profits are profits. Completely separate from those payments to labor and capital, there is the payment to finance: interest.

Wages is wages. Profit is profit. Finance is finance. A person of high income is liable to save more than a person of low income, yes. But even a person of low income may be able to save. In both cases, the income-earner takes money received in exchange for his contribution to production, takes some of it out of the productive sector, and deposits it into the financial sector.

By contrast, income from finance arises in the financial sector.1  And, unless you take some of that money and dis-save -- take it out of the financial sector and spend it into the productive sector -- unless you dis-save, that money stays in finance. This is a massively different circumstance than applies to wages and profit.

The difference, then, when income is received, is whether it is received into circulation or received into savings.

My paycheck comes to me by way of circulation. By definition, my paycheck is M1 money, circulating money:

M1 includes funds that are readily accessible for spending. M1 consists of: (1) currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions; (2) traveler's checks of nonbank issuers; (3) demand deposits; and (4) other checkable deposits ...

By way of contrast, the interest on my savings is credited to my savings account. It is part of M2 (circulating money plus savings), but not part of M1 (circulating) money.

So it seems that both kinds of money circulate, the kind that is received into circulation, and the kind that is received into savings.

Both types circulate, but have exceedingly different personalities of circulation. It occurs to me that money received into circulation is "medium of exchange" money; and money received into savings is "medium of account" money.


1. "The income from finance arises in the financial sector." But it is still a cost to the productive sector. The quoted sentence here is a description of how the saver receives the interest he earns. It doesn't come to you as a check, which would be M1 money. It is deposited (or credited) directly to your savings.

Tuesday, January 7, 2014

Inequality and debt (3): SRW: Inequality drives Debt

Yesterday we reviewed Clonal's thoughts on inequality and debt:

  1. For the 90%, real wages stagnated.
  2. Their debt load increased.
  3. The interest on this increased debt load went to the top 1%.
  4. Debt drives inequality

I like it because it is short and easy to grasp. And I like it because Clonal says it's debt that drives the inequality, not the other way around.

Okay. It's both ways, to be sure. People getting shorted by income inequality find themselves borrowing when they'd rather not. Their inequality drives their debt. Sure. That happens, too.

Today I reconsider Steve Waldman's Inequality and demand from a year ago. Steve's thoughts are similar to Clonal's, but Steve presents a longer, more fully developed argument.

1. For the 90%, real wages stagnated.

"Let’s start with the obvious," Waldman writes. " ... In the US we’ve seen inequality accelerate since the 1980s, and until 2007 we had robust demand [and] decent growth ..."

(I think robust and decent is an exaggeration, but hey.)

He points out that "the rich do in fact save more" than the rest of us. "So how," he asks, "do we reconcile the high savings rates of the rich with the US experience of both rising inequality and strong demand over the 'Great Moderation'?"

In other words: If income increasingly accrues to the rich, who spend little of it, what accounts for the strong demand during the Great Moderation? Where did the money come from, that people were spending?

2. Their debt load increased.

It came from the growth of debt, Waldman says: "Sure enough, we find that beginning in the early 1980s, household borrowing began a secular rise that continued until the financial crisis." He shows household debt relative to GDP:

Graph #1: Steve Waldman's FRED Graph of Household Debt relative to GDP

He says the graph "shows household borrowing as a fraction of GDP". Actually, it shows household debt as a fraction of GDP. Debt is the accumulation of borrowings.

It's tempting to think that each year's increase on the graph is due to "borrowing". But that's not the whole story, as JW Mason points out. "Changes in debt-income ratios reflect a number of macroeconomic variables," Mason says. But I made that point six months back, and I don't mean to harp on it now.

It's a good story, Steve Waldman's story: We used more credit because our income was falling behind. Turbocharged by credit, our spending created Waldman's "robust" and "decent" economy, but our debt accumulated. It was unsustainable.

3. The interest on this increased debt load went to the top 1%.

At this point, Clonal's story and Steve Waldman's go in different directions. Clonal points out that the increasing cost of that debt translated into increasing income for savers -- for the rich, then, because "the rich do in fact save more" than the rest of us. Clonal sees interest cost and interest income as the vehicle moving income from those with less income to those with more income. He sees debt as a driver of income inequality.

Steve Waldman looks at interest rates instead of interest costs. He points out "the slow and steady decline in real rates that began with but has outlived the 'Great Moderation'". He says

My explanation is that growing inequality required ever greater inducement of ever less solvent households to borrow in order to sustain adequate demand, and central banks delivered.

In other words, the Fed pushed interest rates down to get people to borrow more, to stimulate the economy and keep aggregate demand where they wanted it. Makes sense to me; that's what the Fed does. But in Steve's view it's inequality that drives the growth of debt -- just the opposite of Clonal's view.

I should say, there is no conflict between Steve Waldman's story and Clonal's. Both could be true. To my way of thinking, both are true.

But observe that in Waldman's story the inequality comes first. The increase in borrowing comes next, as a way to compensate for incomes failing to keep up. Falling interest rates are applied as needed, to induce increased borrowing. And all of this begins, according to Waldman, in the 1980s: "In the US we’ve seen inequality accelerate since the 1980s", he writes. And "beginning in the early 1980s, household borrowing began a secular rise".

That's where my problem lies.

Clonal sees debt as a problem because it drives inequality.

Steve Waldman sees household borrowing as a bad solution because it isn't sustainable under conditions of deepening income inequality.

I agree: Inequality is a problem because it drives debt, and because increasing income inequality isn't sustainable. Debt is a problem because it drives inequality, and because debt growth isn't sustainable.

But if household borrowing began its secular rise before the early 1980s -- before the acceleration of inequality since the 1980s -- and if debt is a problem, then maybe, just maybe, debt is the problem that initiated the rise of inequality.

What was it Clonal said? Debt drives inequality. If that's true, you don't have to have inequality to start with. You can create inequality just by accumulating too much debt.

The question, then, is whether it is correct to say that "beginning in the early 1980s, household borrowing began a secular rise". Let's look at a graph.

Graph #2 shows the same debt relative to the same GDP as Steve Waldman's graph shows. But #2 shows the change in that debt, the increase or decrease in billions of dollars. Not the gross accumulation of that debt. It's the change in debt that shows new borrowing. So: When did the secular rise in household borrowing begin?

Graph #2: Change in Household debt (in Billions) as a Percent of Nominal GDP
The red line is the Hodrick-Prescott trend line for the quarterly data (Lambda = 1600)
The blue line shows lows aligned with the 1970 recession, the 1974 recession, the 1980 recession and the 1982 recession (as this FRED graph shows). But between the recessions, during times of growth, there is a definite increase in borrowing from the late 1960s to the early 1970s to the late 1970s -- all well before the acceleration of inequality and borrowing in the 1980s. And in fact, there was a definite increase in the early 1960s, as compared to the 1950s. But that increase was interrupted in the late 1960s.

The red line shows the trend of quarterly debt growth consistently below one percent of GDP until the early 1970s, and consistently above one percent of GDP from the early 1970s to the early 1990s.

There is no sudden, secular rise in household borrowing that begins in the early 1980s. There is only a large cyclical interruption of the rising rate of borrowing, due to the double-dip recession of the early 1980s.

There is no sudden, secular rise in borrowing that offsets the acceleration of inequality. If there was, then maybe economic growth would have been as good after 1980 as it was before.

So, okay. Robust and decent was an exaggeration. The economy wasn't so good after 1980 because of inequality and debt, and because new borrowing did not fully compensate for the acceleration of inequality. I buy all of that. It makes me shudder to think of the growth of debt as insufficient, but the story makes sense.

But the timing is wrong. The increase in borrowing did not begin in response to the rise of inequality. The growth of borrowing began first. It began in the early 1970s, or the early 1960s maybe, well before the acceleration of inequality.

So it is possible that the growth of borrowing, the growth of financial cost in the 1960s and 1970s was the problem that created the rise of inequality.

It's possible. But it's not that direct and simple, in my view. The growth of financial cost, like the growth of any cost, hindered the production of output and lowered profits. Meanwhile, the growth of financial income provided an appealing alternative to productive activity. Finance drew investment away from the productive side. But this only increased the growth of financial cost, further reducing profit.

Business responded by squeezing wages, which became the acceleration of inequality. Policymakers responded with supply-side economics, protecting and reinforcing the growth of inequality.

But the problem didn't begin with inequality in the 1980s. It began with the excessive borrowing, insufficient repayment, and the excessive accumulation of debt in the 1960s and '70s.

Monday, January 6, 2014

Inequality and debt (2): Clonal: Debt drives Inequality

In comments near a year ago, Clonal said the growth of debt drives inequality:

The implication of the curve is that it drives inequality. For the 90%, real wages stagnated. Their debt load increased. The interest on this increased debt load went to the top 1%

The growth of debt drives inequality. I didn't appreciate it when Clonal said it. My thoughts were elsewhere. But if inequality increases, there must be a mechanism by which that increase is effectuated. Debt is the mechanism.

"The net worth of the bottom 99% stagnated while the top 1% reaped all the benefits," Clonal added. "In my way of thinking, the growth in debt is the path through which it happened."

The growth of debt is the path we followed on our way to greater inequality: Debt is the mechanism.

Then, as if to emphasize that by "debt" he mostly means private debt, Clonal adds: "The interest on the Government debt also disproportionately goes to the top 1%".

If your focus is inequality of wealth and income, I would ask you to pause for a moment and consider how the inequality came about. What drives inequality? What is the mechanism that effectuates inequality? Is this mechanism not the cause of the inequality upon which you focus? Is the cause of the problem not worthy of your attention?

If inequality is the problem, and excessive private debt is the cause of inequality, then excessive private debt is the problem.

Thanks, Clonal.

Sunday, January 5, 2014

Inequality and debt (1): Winterspeak and the 1%

Lots of activity lately on the topic of income inequality, as I noted the other day. But do you really suppose we could have such inequality without all the debt?

I don't.


Who is the 1%?

Glad to see the Economist focus on the actual makeup of the 1% in America by wealth and income and find that it's the financial sector. While CEOs are often targetted in the press, the game has moved on:

Steve Kaplan of the University of Chicago thinks finance explains much of the rise in inequality...
In 2009 the richest 25 hedge-fund investors earned more than $25 billion, roughly six times as much as all the chief executives of companies in the S&P 500 stock index combined.
Within the 1% then are three groups -- well paid professionals (doctors, lawyers), business people, and finance folks (including a subset of Wall Street oriented lawyers). The top end of the 1% is very skewed towards finance.

"The top end of the 1% is very skewed towards finance."

Saturday, January 4, 2014


Pure logic won the day here. But pure logic should be taken with a grain of empirical salt, because what logicians ignore can matter more than logical deductions made from what they consider. If the data contradicts the logic, then the logicians have ignored something crucial in their otherwise convincing argument.

You see it all the time -- in analysis after analysis that evaluates everything in terms of government debt. As if debt other than government debt was a ceteris paribus constant without cost or consequence.

(click here to see how this data was compiled – as well as a longer term estimate for US debt that extends back to 1834: the data is downloadable from here)

The first of these two links brings you to Business Spectator, where Steve Keen reviews his data sources and his method of fitting various data series together. To me, it was fascinating.

Keen's second link gets you an Excel file. One sheet, six columns: household debt, business debt, private debt, government debt, GDP, and the date.

Most interesting? Date. Keen provides monthly data, but the month-and-year value is expressed as a decimal number. Same values as feet-and-inches, if you know inch values divided by 12.

No, huh?

Anyway, we end up with over 2,600 rows of data. Well, since 1790... 200 years to 1990... 210 years to 2000... 222 years to 2012... 222 times 12 is 2664. Plus a few months of 2013.

201 years from 1790 to 1990, if we include 'em both. 223 years total. Times 12 is 2676. Plus 7 entries for 2013 is 2683. Plus the row of category titles, 2684. Yup.

Keen's spreadsheet starts out as shown at right. As you can see, row 2 contains the first value for 1790. Row 14 contains the first value for 1791. And Row 13 contains the last value for 1790. The "917" there, that's 11 divided by 12. If it was 6 feet 11 inches it would be 6.917 feet (though I use two decimal places when I use such numbers at work: 6.92 feet. It's much easier to think in two decimals than three.)

The odd thing with Keen's date numbering is that his 11 value, his "917" represents the 12th month of the year. Not the 11th month.

The first month of the year 1790 is given in Row 2: 1790 point zero. The second month is in Row 3, point oh eight three, which is ONE divided by 12.

It doesn't matter much, I guess. His numbering system works. It's just odd, that's all. To me, it looks like he ended up doing it like that because of the way Excel works. It's just odd.

Personally, I'd rather use quarterly values or (if we're going back so many years) annual values. It's easier to work with and easier to understand.

Friday, January 3, 2014

JW Mason's Debt and Demand (2): Door number one, door number two, or...

JW Mason writes:

Changes in debt-income ratios reflect a number of macroeconomic variables, and until you have a specific story about which of those variables is driving the debt-income ratio, you can't say what relationship to expect between that ratio and demand.

Figure 1 shows the trajectory of household debt for the US since 1929, along with federal debt and non financial business debt. (All are given as fractions of GDP.) As we can see, there have been three distinct episodes of rising household debt ratios since World War II: one in the decade or so immediately following the war, one in the mid-1980s, and one in the first half of the 2000s.

Here, let me mark up his graph:

Wow, that was tedious. I have to find a better way to mark up graphs than Paint.

Anyway, in green I show (roughly) the "three distinct episodes of rising household debt" noted by Mason in the excerpt. In red I show the two intermissions between those episodes, and label the intermissions with "specific stories" about which variables are driving the debt/income ratio.

I considered the intermission labeled "The Great Inflation" in my Debt is a red herring post, and I suppose in all of my stuff on the erosion of debt by inflation.

I considered the second intermission several times also... The slowdown in debt growth that began in the mid-1980s in A second look at the heteconomist post... The increase in the rate of money growth in The Money Growth Component... The superior growth of real GDP in the latter 1990s in Assimilate This...

Mason is right: There are many variables because of which the debt/income ratio may change. But more than that: There are secrets hidden within those variables, secrets that can open the door to improved economic growth on a more-or-less permanent basis.

If only we pick the right door.

JW Mason's Debt and Demand (1): Particle Economics

JW Mason writes:

The relationship between leverage -- especially household debt -- and aggregate demand was explored in a number of papers around the time of the last US credit crisis, in the late 1980s...

For most of these writers, the important point was that the effect of debt on demand is two-faced: new borrowing can finance additional expenditure on real goods and services, but on the other hand debt service payments (in the presence of credit constraints) subtract from the funds available for current expenditure.

Yup, exactly. There is a story that I can't document, about some real or imaginary theoretical particles in physics, where these particles emerge from nothingness in pairs, and cease to exist again only when a pair re-combines.

I don't know if I have that story right. But a story very much like that is the right story for the economy. (Maybe it's the "endogenous money" story; that's something else I don't know. I just know what I see.)

Borrowing a dollar creates a dollar of new money and a dollar of new debt. Not all kinds of borrowing create new money. That's okay. We're looking at the kind of borrowing that *does* create new money.

New borrowing creates new money and new debt. The new money and new debt are like the two new particles that emerge from nothingness in physics. Except money and debt don't emerge from nothingness. They emerge from available credit. (The act of putting credit to use is what creates the two new economic particles.)

Mason writes, "new borrowing can finance additional expenditure on real goods and services". For me, to say "borrowing can finance" something just doesn't pin it down clearly. It is the new money created by the new borrowing that allows the additional expenditure on real goods and services. Isn't that simple?

But new money is not the only economic particle created by new borrowing. New debt is also created. And new debt is unstable, particularly when it is gathered into a large enough mass. Like plutonium, I'm thinking.

Maybe it's just the morals of borrowers, wanting to repay... or the greed of lenders wanting repayment. It doesn't matter. That's the part of economics that doesn't matter. The fact is, debt is unstable and wants to return to the nothingness from whence it came.

But unless there is some sort of massive explosion, some sort of crisis, debt doesn't disappear on its own. Typically, a particle of debt re-combines with a particle of money and both go out of existence together, quietly. For example, when you make the monthly mortgage payment.

In the normal economy, the particles that emerge from the nothingness that we call available credit -- the new money and new debt -- cease to exist when a pair combines. When a pair combines, it means you are taking a dollar of your income and using it, not to buy something you might want, but to pay for something you already bought. You take that dollar, combine it with a dollar of debt, and the two cease to exist.

But you didn't get anything for that dollar today. You didn't buy anything with it. You didn't add to aggregate demand today. You didn't stimulate the economy. You didn't use it for "additional expenditure on real goods and services".

I mean, you paid down your debt with that dollar instead of spending it. And it's not like the dollar still exists. So you didn't get coffee, and the guy at the coffee shop didn't get your dollar. And then the coffee shop guy doesn't buy new socks, so JC Penny doesn't get that dollar. And then JC doesn't buy floor wax for the guy with the mop, so the floor wax supplier doesn't get that dollar, either. And then...

Nobody gets that dollar anymore, because that particle no longer exists. Or, as JW Mason puts it: "debt service payments (in the presence of credit constraints) subtract from the funds available for current expenditure."


Brad DeLong's Once and Future Ages of Diminished Expectations

Below is a substantial excerpt from Brad DeLong
I. Once and Future Ages of Diminished Expectations
Back in 1990 Paul Krugman wrote a little book--a very nice little book--called The Age of Diminished Expectations. The central point was that the long era of more than a century during which Americans could expect 2%/year growth on average in their real per capita incomes and standards of living was over. This era stretched back to the immediate aftermath of the Civil War. This era saw each generation attain a level of material wealth and well-being twice that of its predecessors: 2%/year growth for 35 years is a doubling. And, Krugman wrote, the slow growth from 1973-1990--during which real GDP per worker had been a mere 1%/year--was a harbinger of a new, more pessimistic future: an age in which Americans' formerly-great expectations of the future would have to be diminished.

FRED Graph St Louis Fed 4

Two years after the book was published, the American economy entered a phase in which growth in output per worker roared back to 2%/year and stayed that way for a decade and a half. I was only one of those who thought in the early 2000s that we might even shift to a phase in which our new normal was 2.5%-3.0%/year in average real GDP growth--and that would be 3.0%-4.%/year in total real GDP growth.

FRED Graph St Louis Fed 2

But now, after the financial crisis, in the Lesser Depression, after four years of substantially sub-par recovery, there is great talk that the great era of 2%/year growth in output per worker is over, that America's future expectations are diminished, and that our long-run economic future is, well, not-so-great.

That is the opening of a much longer post which reviews the thoughts of three economists on why we don't get growth. I'm not the least bit interested in those thoughts; I see our inability to grow as a cost problem or, more specifically, a cost-of-debt problem. I'm not looking for answers to that question.

I present DeLong's opening for its analysis of per-worker output. First time I've seen it done that way, and done so well.

But let me go off topic for a moment here, and just go off. After DeLong's opening, the first of the three thoughts he considers is Brink Lindsey's Why Growth Is Getting Harder. Here's a bit of the excerpt DeLong provides:

For over a century, the trend line for the long-term growth of the U.S. economy has held remarkably steady... Consider the four constituent elements... Over the course of the 20th century, these various components fluctuated.... The fluctuations, however, tended to offset each other.... In the 21st century... all growth components have fallen off simultaneously.... It is difficult to resist the conclusion that the conditions for growth are less favorable than they used to be.

"It is difficult to resist the conclusion that the conditions for growth are less favorable than they used to be."

Stroke of genius, that.

Here, read this again.

Thursday, January 2, 2014

FDR Faces Debt

Photo: John T. Bethell, Frank Roosevelt at Harvard
Graph: Previous Post
If only FDR had lived a couple years more, he might have pushed debt-per-dollar down far enough to get around that chin.

Related post: Paul Krugman Faces Debt