my doxy

2004-02-11T15:23:00.000-08:00

Why isn't the US at full employment?

No one thinks that the US is currently at full employment--job growth well below population growth, rising long-term unemployment, and stagnant wages would seem to make this clear. But why? When have US monetary and fiscal policy ever been looser than they are now?

I am not certain that anyone knows the answer to this question, but I think we need to look at the usual suspect, "price-stickiness", or perhaps price-stickiness enhanced by other kinds of stickiness.

First, people are well-known to exhibit price-stickiness in the wages they will accept--they have an idea of how much their work is worth, and are not inclined to take jobs which pay significantly less than that. It may be that some people's notion of their value was inflated during the strong economy of the 1995-2000 period. It may be that wages in their sector of the economy are being deflated by domestic or foreign competition, or by technological change. In any case, unless they are in dire straits, people are not likely to quickly take a job which does not meet their expectations, even if their expectations no longer correspond to reality.

Second, people are well-known to exhibit sector-stickiness--an industrial worker is unlikely to consider switching to a health-care job until other industrial options are exhausted. Also, credentials and experience in one sector are likely not easily transferrable to another.

Third, the American population is aging, and very likely is less likely to migrate within the US for employment reasons than in the past--we could call this geographic stickiness. In the 80's we saw the "black tag people" moving from Michigan to Texas for work, because the Michigan economy was very depressed and Texas was booming, but now there don't seem to be any really strong regional job markets in the US, so even if people were so inclined, they might not know where to go.

It may also be that the relative strength in the asset markets (especially the residential property market) may enable people to live without work for longer than has historically been the case.

Now the thing about stickiness arguments is that stickiness isn't expected to last forever--people get retrained, expectations adjust, geographic attachments wane--but there isn't really any way to know how long those things might take. And as the economy keeps shifting, we can expect that people will continue to go through this process. The US does have some programs in place to help, but it seems clear that they are inadequate--I suspect that if widespread concern about trade and outsourcing are not to completely screw up the world economy, the US needs to get a better system of worker assistance in place.

2003-06-05T18:22:00.000-07:00

Easings appear to be on schedule

As was expected, the ECB eased a half-point today, and I just read that the T-bill has a 93% chance of a .25 % easing in June priced in.

I suspect there will be more to come.

2003-06-04T18:58:00.000-07:00

Avoid Treasuries

Note: My wife hates it when I give investment advice--I can't help it today.

If you are not a central bank or a trader, buying T-notes or bonds at current quotes is unwise. If you can't stand not owning bonds, buy a short corporate fund--it will stink less. You can buy TIPS if you want--the return isn't too good down here, but it would be safer.

The only way buying T-securities at these prices could be a good idea is if there is deflation or near-deflation for quite a while. That is doubtful (see previous post). Presumably the reason rates have gotten this low is that central banks (including the Fed) are buying them. They don't need to make profits, but I presume you would prefer to. This is not the way.

In the early eighties, when bonds had double-digit yields, people avoided them--the experience of the 70's said they were "certificates of confiscation". Now, most likely, they really will be.

2003-06-02T20:13:00.000-07:00

Deflation in the US--I think not

There has been a lot of talk in the press about the possibility of a general deflation in the US; even Fed Chairman Greenspan has lent it credence,although as a remote possibility.

It is possible this could happen if nothing was being done about it, but I do not think that is likely.

One of the benefits of the federal government issuing TIPS is that it gives us an easy way of telling what the market thinks inflation is going to be, by looking at the rate spread between regular Treasury securities and their inflation-protected equivalents. Currently, the market seems to be pricing in an inflation rate of 1.5% - 2%, so it appears that market participants do not expect deflation.

The Fed has made it clear that they will use whatever means are necessary to prevent deflation. It is possible that they would not be willing to live with the consequences of those means, but my current presumption is that when the Fed prints a lot of money, and the dollar continues to fall, the Europeans, Japanese, and Chinese will not want their currencies to rise too much against the dollar, and will have to inflate their currencies as well. We have already seen Japan intervene to keep the yen from rising too much, and it would not be surprising to see a ECB rate cut next week. China and much of the rest of Asia is maintain a de facto currency peg to the dollar, and you would probably see increased Asian central bank purchases of US debt used to recycle the excess dollars those countries accumulate.

Such a policy mix is not sustainable, and probably will have various drawbacks in the longer-term, but it is almost certain to prevent deflation.

The strongest objection to this scenario that I am aware of is the fact that Japan has tried to reflate and it hasn't been able to--some would say it is in a liquidity trap where monetary policy is ineffective.

There are three main reasons why I think Japan is different:

Japan was first

Japanese production and consumption patterns are very different

Japanese demographics are very different

but going into those details will require a separate post.

2003-03-18T05:13:00.000-08:00

WorldCom writedowns--dumb money or victim of technology

Brad DeLong references the New York Times discussion of WorldCom's recent writedown of $80 billion, including $35 billion in tangible assets. The basic question is: why was capital so badly misallocated?

Gretchen Morgenson in the Times doesn't appear to have a view on that, except that it was "dumb money". DeLong seems to think it was technological change, specifically the advent of DWDM. It could have been either of these things, but if we look at when WorldCom actually spent the money, we have to lean toward the "dumb money" argument, probably with some fraud thrown in. WorldCom had capital expenditures of over $31 billion from 1998 to 2001. Using Google, we can determine that Ciena complained in early 1998 their orders were going to be weaker because "WorldCom's long-distance capacity deployment currently is ahead of schedule due to aggressive DWDM rollout during 1997." So we can't really believe this was unknown to Worldcom while they were spending that additional $31 billion.

Of course, we also know that WorldCom charged billions of dollars of current expenses to its capital accounts, so the numbers I am using for capex may be inflated relative to what WorldCom actually bought, but it still appears that the bulk of WorldCom's capital investment was made after they knew about DWDM. Dumb.

2003-01-11T15:41:00.000-08:00

Milton Friedman's dividend tax alternative

I don't generally expect to agree with Milton Friedman on policy issues, as our philosophies differ quite a bit, but if this description of his views in Gene Epstein's column on the Bush tax proposal in the January 13 Barron's is correct, I completely agree with him on the following:

"Milton Friedman describes a much fairer approach: Abolish the corporate income tax, whicle taxing interest income to bondholders at ordinary rates. And require stockholders to pay a personal income tax on their pro rata share of the company's earnings, regardless of how much is paid as dividends and how much retained."

This is essentially the same way that S corporations are currently taxed. The main argument against this was that accounting for the phantom (reported but necessarily received) income seemed like a pain, but compared to the problems in accounting for how much US corporate tax was paid on the earnings being paid as a dividend or, worse, embedded in a capital gain over an arbitrary number of years, as the Bush proposal would require, it seems like a walk in the park, and has the advantage, as one would expect of a proposal by Prof. Friedman, of being economically defensible.

It would also make shareholders less willing to let corporations reinvest earnings, which based upon historical observation is probably all to the good. Under the Bush plan and the current system, shareholders have an incentive to prefer corporations keep their excess cash, which they hope will morph into lightly-taxed capital gains. Unfortunately, cash hoards tend to be converted into unsuccessful expansions or dumb acquisitions--what Peter Lynch calls di-worse-ification--as corporate managers tend to prefer increasing the size of their domains to maximizing shareholder returns.

2003-01-05T13:31:00.000-08:00

Why oil prices aren't so interesting

As promised in the previous post, a short discussion of why oil prices are less important to the US economy than some people seem to think they are. (I may be referring to people who seem to think that taking over Iraqi oil fields would be an economic boon to the US.).

The US uses about 20M barrels of oil/day, or about 7300M barrels/yr. This means that a $10 increase in crude price increases the price of crude by $73B. That sounds like a lot of money, and it is. But remember a few things:

1) About half of that is a transfer inside the US--primarily from the Northeast and drivers to oil companies. It shouldn't be expected to have a major impact on overall economic activity.

2) High crude prices tend to depress refining margins, so the oil companies tend to give some of it back to consumers.

3) The US economy is really big. GDP is more than $10000B/yr. The US merchandise trade deficit in 2002 hasn't been released yet, but it was certainly over $400B. The deficit for fuels (mostly oil) was probably about $100B. It isn't plausible that the $10/barrel change of $35B-$40B would make much difference to the US economy.

4) People may be confused because it used to be more important. In 1978, (not chosen at random) US oil use was almost as high as it is today--about 18.5M barrels/day, but the GDP was only about $2300B. Oil was around $14/bbl, soon to double. That amounted to a $94B hit, or almost 4% of GDP (actually it was a bit less, as consumption declined, but close enough). To get a 4% hit today, you would need more than a $50 change in the price of oil.

So while lower oil prices would be a net positive for the US (and would deprive certain odious regimes of income, which wouldn't be a bad thing either) it probably wouldn't have an very noticible effect on the US economy, and hence shouldn't be expected to be a major stimulating factor in 2003.

2003-01-05T12:05:00.000-08:00

My New Year's blog resolution is to get one article posted each week. That may not happen, but here's one for this week.

US unemployment will almost certainly rise in 2003.

I don't have any very profound reason for believing this--it is pretty obvious. However, if it isn't yet obvious to you, you might want to read this.

The world economy stinks.

On the same day that the ISM report was released, a truly awful report was released from Germany, and the rest of Europe doesn't look all that much better. Japan isn't recovering, and although it may start to clean up its sick banks, that isn't going to be over with soon enough to help much with this year. With slack throughout the world, any increased demand in the US will be diffused throughout the world economy, reducing its effect in the US.

US data doesn't currently support the idea of a strong recovery this year.

The best indicators I am aware of for this are published by the Economic Cycles Research Institute. Their leading indicators show us skirting a second recession, but there is nothing there to indicate that we will be doing any kind of rapid growing either.

State governments are really hurting.

Because almost all states have some kind of balanced-budget requirement, it is certain that there will be both net losses of jobs in state employment and reductions in state purchases.

Monetary policy is probably pretty much played out.

Short-term interest rates are already very low, and further cuts could increase the risk of a dollar crash, so further Fed cuts are not to be expected at this time. There are other means, such as buying assets other than the Treasury securities they usually buy to pump money into the system, that the Federal Reserve could resort to, but these are untried and unless there is an actual second recession, I doubt they will be tried this year. If they are tried, it will mean the economy is doing even worse than I am predicting.

The Administration stimulus package probably won't be very stimulative.

The Administration has even decided not to call it a stimulus package--the official term is now a "growth" package, and although it isn't clear exactly what its provisions will be, it looks like a big chunk of it will be spent on dividend tax relief which we can expect to provide essentially no stimulus. There some talk of providing new support to the states, which would help, but it appears to be spread over 10 years, which should pretty much render it meaningless this year. Policies which would be immediately helpful such as a payroll tax reduction seem to have been ruled out.

Technology spending doesn't appear ready to pick up

The Goldman Sachs survey, which has been pretty accurate, showed that corporate executives expect a sharp downturn in technology spending in 2003, presumably because corporate budgetting has been done and they didn't end up with as much money for such purchases as they had expected earlier. It should be noted that this survey correctly picked up the increase in such spending in the 4th quarter.

Strong productivity growth isn't helping employment.

US productivity is growing rapidly, and although that should be good news in the long run, in the short run, it means that a given amount of economic growth produces fewer new jobs than it would otherwise. In the 60's, Okun's Law said that 3% growth was the dividing line between unemployment rising and falling. In 2002, growth appears to have been 3% or more, yet unemployment rose. I expect that it would probably take at least 4% growth in 2003 to stabilize unemployment, and I think we will get less than that.

Exogenous shocks are unlikely to be helpful.

The weather, Korea, Iraq, Venezuela, and al-Qaeda are all more likely to be negative rather than positive factors during 2003, if only because uncertainty tends to restrain spending and investment. The only good thing that is likely to happen is that oil prices may drop somewhat. Despite frequently heard blather to the contrary, oil price fluctuations within their range of the past decade or two (as opposed to oil supply disruptions) are just not that important to most of the US economy anymore. I will try to find the time to do some rough calculations on the impact of oil price reductions in a separate post, but I don't expect even a rapid and successful war in Iraq to make a big difference in the US economy this year.

Conclusion: Unemployment is headed up.

Between the overall economic weakness and the severe state budget problems, I am confident that unemployment will continue to rise for much if not all of 2003, and I'm guessing it will reach 7% by the end of the year.

2002-10-24T09:56:00.000-07:00

Once again, Brad DeLong addresses the telecom problem, this time specifically regarding WorldCom. Again, the economics of the situation are clear, but WorldCom appears to have been seriously fraudulent. Without the fraud, it would never have achieved the market position it did, because no one would have lent them the money to build out their network.

Now, if allowed to come out of bankruptcy debt-free, or nearly so, it will certainly bankrupt Sprint (probably doomed anyway) ATT, and possibly the Baby Bells. Is this really a desirable outcome? Is it fair? What will the impact be on future investment in this sector?

On the other hand, the bondholders would probably be better off with the company as a going concern than
if the parts are sold off, and there is no reason to punish the bondholders. Except that they invested in what appears to have been a criminal enterprise. They didn't know that at the time, but neither did the shareholders.

2002-09-23T13:35:00.000-07:00

Brad DeLong suggests that the standard economic doctrine would be that Europe should be encouraging the debt-ridden telecom companies to go bankrupt, extinguish the existing shareholders, and let the bondholders take over, so the companies can be run as ongoing enterprises rather than as accidents waiting to happen.

While probably the only remedy, this hasn't exactly happened with blinding speed in the US either. Naturally there are numerous problems. Under ordinary circumstances we would see healthier telecoms buying weaker ones to get their customers, even though they don't need the additional capacity. Then they would
combine operations, improve efficiency, and reduce overall capacity, and gradually the telecom market would come back into some kind of equilibrium.

Unfortunately, all the players in this game (except IDT, which has been buying up some of the smaller distressed companies) are already so indebted that they can't handle any more debt, so they can't buy each other until after they are restructured. But it is likely that once a firm has restructured, it will be super-competitive (because of the lack of debt) and will start rapidly bankrupting the other players. People (banks are people too) are nervous about bankrupting an entire industry, and who can blame them--the assets that will need to be written down may be their own. And in Europe you have the additonal complication of companies being partially owned by the government --how do you liquidate a golden share?

2002-09-21T20:36:00.000-07:00

The Washington Post has a piece on possible consequences of the newly announced national security doctrine

I think I agree with the arguments as to why this doctrine could be dangerous, but I found the apparently-included-for-balance, contrary argument dubious:

"Brussels-based analyst Robert Kagan believes the dangers of the new doctrine can be overstated.

'I don't think we're moving into the age of preemption, ' Kagan said. 'I don't think other nations are being restrained from taking action by the fact that no one has set the precedent of preemption. That's not why China is not attacking Taiwan. That's not why India is not attacking Pakistan.'

'They're making calculations based on their own national interest and the relationships of international power,' he said."

Well, true enough. But perhaps whether one's behavior is considered normal or aberrant might have some impact on calculations of that behavior's impact on "national interest and the relationships of international power?" For instance, if the use of chemical weapons were an accepted part of modern warfare, wouldn't that affect the behavior of states? Wouldn't Iraq's diplomatic position be considerably better? Isn't it much less likely that the UN would have required Iraq to destroy its chemical weapons?

I claim that the idea that international norms are irrelevant to these calculations is nonsense. The idea that the US can promote (and I do mean promote, not just abide by quietly) a significant new doctrine justifying pre-emptive attack without affecting such norms is also nonsense. That doesn't mean that the "age of preemption" is upon us, but it certainly doesn't mean we can exclude the possibility either, especially with a US Administration seemingly eager to get that age started ASAP. And it isn't obvious that the US will end up more secure in such an age than it was before, for the reason I mentioned yesterday, for the reasons in the WP article, and for other reasons I hope to get to in the future.

2002-09-21T19:31:00.000-07:00

For those of you who thought that just because you were too smart or too honest to fall for the Nigerian money transfer fraud, it would never cost you any money, here is a story that might make you think twice. Apparently a woman sent $2.1 million dollars of her law firm's clients' money to fraudsters, without anyone noticing anything amiss.

2002-09-20T21:25:00.000-07:00

People interested in the rebuilding Iraq idea should also probably look at the James Fallows article in the Atlantic on this subject. I wish I believed that the US had the determination to stick with a project like this for the long, long time it would probably take. But I don't see it.

2002-09-20T20:38:00.000-07:00

I am trying to understand how the policy enunciated in the national security policy document released today is going to be a good idea. I'm OK with the idea that new times may require new measures, but the policy that this document appears to outline has tremendous potential to undermine US interests.

For example, in conjunction with this interpretation of Donald Rumsfeld's press conference on the 16th this seems to me like a large incentive to covert nuclear proliferation, either by internal development or transfer of actual weapons. (Why? Because previously states that didn't actually attack anyone could assume that they wouldn't be attacked by the US. Now they can't assume that, but if possessing nuclear weapons will deter preemptive US action, this increases the desirability of having them substantially. Of course, you have to not get caught, but that was probably true already.)

If nothing else, since this document is unlikely to convince anyone who isn't already with the program, why even release it? It seems a lot more dangerous than telling us how many people are being held at Guantanamo.

I'll probably have more to say about this after I have time to give it additional thought.

2002-09-20T20:11:00.000-07:00

Steven den Beste responded to my objections in my last post in an update to his post of the 18th. I take his point on the restrictions on the free flow of information, but while I think we still disagree about some of the specifics--how "restrictive" the religion was, and perhaps what it means to accept responsibility for collective failure--I don't think that is in fact the key difference in our thinking here.

Japan was a functioning society which had already made the transition to modernity, and although it had some serious and destructive quirks, fixing it didn't require creating a whole new way of life and thinking on top of a pre-modern base. Nor did the reconstruction of Germany.

It seems to me that a better comparison might be US governance of the Phillippines (certainly did some good, not enough) or perhaps our time in Haiti (completely useless). Something like Puerto Rico might be a possible goal, but that has been a century in the making, it is a lot smaller and nearer, and it is still massively subsidized after 100 years.

So I continue to think that making Iraq (and then apparently much of the rest of the region) into a functioning society is probably both beyond our capabilities and our attention span.

2002-09-18T19:39:00.000-07:00

Steven DenBeste suggests at length that more-or-less the whole Arab world needs to be remade, and until then we will not be safe from al-Queda type threats. He then uses the rebuilding of Japan as an example of how such a threat was removed. The points he makes to support the idea that this is necessary are debatable, but what I found surprising was the idea that we had the power to do this remaking.

He lists 7 major problems of the Arab world that lead to its current difficulties, as per Ralph Peters:

Restrictions on the free flow of information.

The subjugation of women.

Inability to accept responsibility for individual or collective failure.

The extended family or clan as the basic unit of social organization.

Domination by a restrictive religion.

A low valuation of education.

Low prestige assigned to work.

As far as I can tell, post-Meiji Restoration, pre-war Japan didn't have any of these problems, except the subjugation of women (to a lesser extent than is common in the Arab world now) and possibly restrictions on the free flow of information--I'm not quite sure what that is supposed to mean. Japan was already a highly-functional society before we attempted to change its institutions. I strongly suspect that what we mostly did in Japan was encourage the Japanese to agree with an idea that most of them already had--that militarism had been tried and failed, and that commerce would be a more successful avenue of competition and enrichment.

I don't see how that could translate to the Arab world, which is basically uncompetitive in all areas. I would suggest that it is unlikely that we know how to fix the Arab world, or would be willing to put the effort required into it if we did. So I hope I am right in thinking that it won't be necessary.

2002-05-02T17:52:00.000-07:00

This is the first post

One small post for me, one giant change of state for this blog.