The bubble of 2000 reflected the dramatic expansion of technology companies. A complete saturation even if many of these companies did indeed play a pivotal role in enhancing the nation’s capital stock. But corporate balance sheets expanded dramatically to a point where the gap between tech-heavy capital spending budgets and internally generated funds surged to unprecedented levels. The bears of 1998 and 1999 weren’t exactly wrong as much as being early.
The bubble of 2007 reflected the rapid expansion of the housing stock (not a productive asset) and the speculative leverage that ignited the boom. This was about a radical expansion in two balance sheets at the same time ? household balance sheets and banking sector balance sheets. The extent of the excess leverage made the previous debt-induced dot-com bubble look like a mild affair in comparison.
I think that this distinction may go some distance in explaining the difference in the employment situation between the recessions that followed each of the bubbles. The tech bubble enhanced capital stock; the housing bubble expanded housing stock. Enhanced capital stock set the stage for at least some further expansion which prevented employment from collapsing to its pre-bubble levels. The housing bubble did no such thing.
I believe that I can answer the question asked here by Greg Ip:
What this clearly means is that Treasury can easily remain current on existing debt, provided it is willing to suspend some non-interest outlays. Does it have the authority to do so? What is the relative seniority of creditors of the United States government? States often specify the relative seniority of their bondholders either in their constitution or statute; in California, for example, bond holders stand ahead of all creditors except schools. Illinois has remained current on its bond debt while racking up some $6 billion in unpaid bills to other creditors.
I have yet to find a similar ranking for the federal government.
The federal government can avoid default virtually indefinitely by delaying or reducing other “mandatory” outlays. Social Security payments, for example, can be reduced practically ad libitum by any number of bookkeeping changes. Or they can be delayed. They’re not an enforceable right.
That is not to say that a political price wouldn’t be paid for doing so. To my mind that’s the more interesting question: what strategy for avoiding default (in the unlikely event of a failure to raise the debt ceiling) would result in the lowest political cost to the Administration? To Democrats? To Republicans?
I think that raising the debt ceiling as the debt grows without constraints probably continues to present the least risk to all of the parties above while increasing the risk to the country. That’s why we’ve adopted that strategy all along.
Some of those spending cuts could be implemented almost invisibly. For instance, Social Security runs a surplus for the time being; it invests that money in special non-marketable Treasury securities, which count as Treasury debt.
Yesterday I proposed potential solutions for the national unemployment problem. Today I’ll turn my eye to Illinois’s fiscal problem.
Here are the reactions of Illinois’s Comptroller and sole Republican holding statewide office, Judy Baar Topinka, to the recent actions of Illinois’s legislature:
These echo my reactions and those of Chicago’s Mayor Richard Daley.
Lawmakers last year passed an aggressive two-tier pension system with less generous pensions for new hires and reformed the state Medicaid system. Quinn says he has cut appropriations over the last two years by nearly $3 billion.
[…]
Lawmakers must poke and prod the pension and health-care benefits for existing and retired state employees to look for savings. Though the state Constitution appears to protect benefits already accrued, there are steps the state can take that potentially don’t run afoul of the constitution, such as increasing how much employees contribute toward their pensions, raising the retirement age and reducing the annual cost-of-living increase. State retirees who pay nothing for their health care now also should begin to contribute.
We’ll leave to the Tax Foundation and other data outfits the task of calibrating precisely how much more uncompetitive Illinois becomes if the Senate passes and Gov. Pat Quinn signs this fiasco into law. Quinn and the rank-and-file Democrats who launched the enormous tax grab will own what happens next. So will House Speaker Michael Madigan and Senate President John Cullerton. Governors such as Mitch Daniels of Indiana and Scott Walker of Wisconsin, their treasuries already enriched by refugee employers who’ve fled Illinois, should send the Springfield Democrats orchids and champagne.
Those Illinois Democrats have, for two do-little years, dodged a choice: Reduce spending, raise taxes, or enact some mix of the two. Cutting overhead would offend their friends in the public employee unions and other pet constituencies. Ask retired state workers to pay something for their health care? Cap employee pensions? Perish the thought.
So — get this — not only are they raising taxes to avoid budget cuts, they’re including a provision to let their spending continue to rise — year after year.
The fatuousness of the legislature’s pledge to hold spending increases to 2% is underscored by the reality that so much of the state’s budget is composed of healthcare and public employees’ pensions that the only thing that needs to happen to exceed that aspirational cap is for those things to grow at the expected rate.
Unfortunately, the state is hamstrung by its lack of control over healthcare expenses, constitutional provisions governing public employee pensions, and federal government mandates governing Medicaid and, consequently, attempting to bring the state’s budget under control solely by adjusting those items it can control demands more draconian cuts than would otherwise be necessary. We’ve got to change the rules.
1. Convene a constitutional convention.
The state needs to convert more fully from defined benefits public employee compensation plans to defined contribution plans and that can only be effected via changing the constitution. There should also be anti-gerrymandering provisions (Illinois is among the most gerrymandered of states), controls on spending increases and tax increases similar to those in other states, and a host of other measures aimed at transferring power from the legislature which has shown itself unwilling to control itself to the people.
2. Constrain the state’s healthcare costs burden.
Illinois should petition the federal government for exemptions from regulations governing Medicaid. Failing that it should abandon the program altogether. The federal government dropped the ball on controlling healthcare costs. The PPACA will only increase the burden that uncontrolled healthcare costs will impose on the states. It is not only elections that have implications. So does legislation.
3. Include revenue increases in the solution but don’t kid yourself into believing it’s the whole solution.
Illinois should constrain the personal income tax increase to 4% (from the 5% the legislature enacted), the rate that Gov. Quinn ran on, and abandon the increase in the business income tax entirely. Reducing economic activity in Illinois won’t solve Illinois’s fiscal problems. Don’t drive businesses and consumers into neighboring states.
4. Recognize that we aren’t as rich as we thought we were.
Public employee compensation should be rolled back to levels commensurate with the income and revenues we have rather than the income and revenues they thought we were going to have. The same is true for the expansions to welfare put into place by now-impeached Gov. Rod Blagojevich.
I note that I didn’t offer any prescriptions for solving the problem that I discussed in my recent post on unemployment. That’s no accident: I don’t think there are any quick or easy solutions to the mess we’re in now. It’s taken us 30 years to get into it; it may well take us 30 years to get out of it.
I’ve already sketched my general preferences for bringing fiscal sanity to the federal budget in this post. Unfortunately, while those things might end some of the distortions that currently plague our economy I don’t have an great confidence that of itself that will create jobs for all of the people who are unemployed, at least not in the near term.
IMO in the aftermath of two bubbles, the policies that caused the bubbles and those intended to remediate their consequences, and 80 years of distorting policy decisions in defense, healthcare, banking, trade, and agriculture we are faced with a Gordian knot that presents us with only two alternatives: unravel it thread by thread or cut it with unknown, frightening, and, likely, cruel consequences.
I think there are four things that we must do.
1. Rationalize our relationship with China.
China’s foreign exchange reserves are nearing $3 trillion. That’s either a third or three-fifths of China’s GDP depending on how you determine GDP, purchasing power parity or official exchange rate. The closest competitors are Japan, whose foreign exchange reserves are a quarter or a fifth of their total GDP depending on how you calculate it, and the EU taken as a whole, whose foreign exchange reserves are 5% of GDP taken as a whole.
China’s policy is deeply destabilizing to our economy and, let’s be frank, every American does not have the ability to be a physician, lawyer, or engineer. Most do not. We can’t export all of our manufacturing jobs to China and all our lower echelon white collar jobs to India and expect there to be jobs for average people here. We managed for a bit more than a decade by creating bubbles. That’s not a sustainable policy.
We need more people involved in direct production because those are the jobs they can do and we can’t have more direct production in the United States until we rationalize our relationship with China.
2. Recognize that we’re not as rich as we thought we were.
For a decade we thought we were a lot richer than we proved to be. During that decade a lot of people got raises that we just can’t afford. Total payroll is what I’m talking about here. In private industry, unfortunately, the way a reduction in payroll is usually realized is by firing people. Private industry has cut jobs to the tune of something like 11 million over the last three years.
The public sector has yet to reduce payroll. My preference for doing this would be to roll back payscales, particularly in the federal government, to 2000 levels. We should also convert benefits to defined contribution rather than defined benefit plans but I’ve already expressed my preferences for those. In preemptive response to those who complain that pay levels need to be maintained to compete with private industry I wish them Godspeed.
3. Stop importing an unskilled or semi-skilled workforce.
I have no opposition to immigrants or immigration. We should be accepting as many highly skilled workers from overseas as are willing to come here. I see no reason whatever to import an unskilled or semi-skilled workforce. We have plenty of people here already who are unskilled or semi-skilled. The effect of importing more unskilled or semi-skilled workers will be to further reduce the wages of those already here below their already low levels.
4. Stop subsidizing people who don’t need subsidies.
This should go without saying but apparently not. It’s not just that we’re subsidizing the healthcare and retirements of those who don’t need subsidies but that we’re subsidizing lawyers, bankers, and who knows how many other people who don’t need help. We may well need to save banks; why do we need to save bankers while we’re at it?
Okun’s Law tells us that labour productivity, crudely measured as GDP/employment, and ignoring subtleties like hours worked and quality of labour, normally falls in a recession. Because the percentage fall in GDP will be two or three times as big as the percentage fall in employment. And it did fall in all the other countries. But in the US it didn’t fall at all. Labour productivity actually increased. GDP fell a little over 4%, peak to trough, and employment fell nearly 6%, so the GDP/employment ratio increased by over 1%.
The US is an even bigger puzzle if you think that business cycles are caused by productivity shocks. Sure, you could always argue that US firms and workers were expecting even bigger productivity growth, so when it actually came in at only 1%, that was a negative shock to productivity. But you would have to work hard to convince me that that’s plausible. And what were all the other countries expectations for productivity growth — chopped liver?
Why did US productivity increase during the recession? Why doesn’t your explanation also apply to the other 6 countries?
Why is the US an exception?
Over the last few months I’ve presented a host of explanations for why this might be including the consequences of high levels of corporate bureaucracy and demographics. I think that demographics remains the most likely answer.
Let me suggest a few other possible others. Is it possible that in an environment of nearly free and virtually instantaneous communication and highly portable means of production that Okun’s rule of thumb no longer holds? Is it possible that there’s something wrong with the way we’re calculating GDP and that the U. S. for reasons of scale, differences in the structure of our economy, or what have you reflects that while no other country does?
If the comments to Doug Mataconis’s post at OTB on the possibility of a reduction in the U. S. credit rating are any gauge, there’s a considerable amount of confusion about the difference between the debt ceiling and debt-worthiness. Think of it this way. Let’s say you’ve got a drinking problem. You decide to limit yourself to just one beer. Does that change the likelihood that you’ll drink until you pass out? Frankly, I doubt it. It’s a self-imposed limit. After that one beer you’ll want another. And another.
If you were serious, you’d cut yourself off completely.
The debt ceiling is the resolution to limit ourselves and borrowing is the beer.
Since we obviously don’t have the resolve to avoid borrowing, failing to raise the debt ceiling would do us considerable damage—we wouldn’t be able to pay our bills—but raising the debt ceiling does not solve our fiscal problems. The only way we can do that is to strike a more prudent balance among public spending, public borrowing, public revenue, and the national income.
Right now the federal public debt is inching dangerously close to 100% of GDP and towards a third of world GDP. Investors are right to wonder whether we’re using too much credit.
Gov. Pat Quinn said today he will sign a major income tax increase as soon as it hits his desk and rejected criticism that he had misled taxpayers by saying during his campaign that he would only sign a smaller increase.
With no votes to spare and no Republican support in either the House or Senate, the Democratic-controlled General Assembly sent the measure to the Democratic governor early this morning after hours of bombastic debate. The action came in the waning moments of the lame-duck session just before a new General Assembly is sworn in.
The measure would raise the personal income tax-rate by 67 percent and the business income tax rate by 46 percent.
Besides the increases in the personal income tax and the business income tax the bill calls for increased borrowing (to pay the owed payment into the public employees’ pension fund) and some wishful thinking on controlling spending:
In addition, the measure would attempt to limit spending in each of the next four budget years — $36.8 billion in the 2012 budget year, $37.5 billion in 2013, $38.3 billion in 2014 and $39 billion in 2015. The state’s auditor general would determine if lawmakers and the governor exceed those spending limits. If the limits are exceeded, the higher income tax rates would revert to current levels.
“This is not a game, not a trick. It’s a real spending cap,†Cullerton said. “We’re really trying to handcuff ourselves and the governor in our spending.â€
But Republicans contended the limits would still allow growth in spending at a rate of 2 percent a year over the next four years, rather than require specific cuts to programs in the state budget.
Worse yet the 2011 Illinois legislature does not have the power to constrain the actions of the 2012 Illinois legislature—the bill could be amended to remove the tax rate reversion if spending limits aren’t met by a simple majority in both houses.
Mayor Richard Daley today predicted the increase in the corporate income tax rate passed by state lawmakers overnight will prompt a quiet exodus of jobs to neighboring states.
“Businesses don’t have press conferences like this and announce they’re moving 50 people out, 60 people out, 70 people,” Daley said.
The comments of the Democratic mayor, who is not seeking re-election in February, echoed those made by Republican lawmakers as the Legislature sent the tax increase to Gov. Pat Quinn overnight with just the votes of Democrats who control the House and Senate. Quinn, a fellow Democrat, is expected to sign it.
“We have a new governor-elect in Wisconsin, a lot of competition comes from Wisconsin. (Gov.) Mitch Daniels from Indiana, a lot of competition,” Daley said at a City Hall news conference to announce that downtown building owners have been asked to illuminate their properties with blue lights next week to signify peace in honor of Martin Luther King Jr.’s birthday.
Illinois has experienced substantial out-migration over the last ten years and the legislature’s failure to deal seriously with both sections of the balance sheet will do little to stem the exodus.
Sadly, I think the income tax hike was necessary. Even more sadly I don’t think it’s sufficient. Unless Illinois’s economy improves dramatically over the next year (unlikely), they’ll be in precisely the same fix next year as this year even with the tax hike. Like most states Illinois primarily depends on three factors for income: retail sales, property values, incomes. When all of those decline or are stagnant, it presents problems for the state’s revenues.
Illinois’s two largest expense items are healthcare and public employee pensions. Between them they comprise about half of the state’s budget and unless their growth can be limited the legislature will need to increase rates year after year.
In Illinois passing legislation only requires a simple majority in each house of the legislature and that the bill be signed by the governor. The Democratic Party has controlled both houses of the legislature and the governor’s mansion for a decade. Illinois’s problem isn’t a partisan deadlock as that term is generally understood.
It’s more like incumbents don’t want to fall on their swords. Like the increased state budget for healthcare and public employee pensions that won’t be any different next year.
Many years ago I served on a parish council. Like most parishes ours was strapped for cash. At one meeting an elderly (and very high-powered) tax accountant who also served on the council somberly paged through the parish’s books. After a long pause he said “You’ve got to sell more.”
This is, indeed, part of Illinois’s problem. As mentioned above Illinois, like most states, is dependent on retail sales, property values, and incomes for its revenues. Retail sales are lacklustre, property values have declined and likely to remain that way for some time, and incomes are a fragile twig on which to hang the state’s revenues. Personal incomes have been growing quite slowly in Illinois and much of that growth has been on the part of the highest income earners—those most able to leave the state or manage their incomes so as to avoid the tax.
Illinois’s per capita personal income has grown by about 30% in nominal dollars. Based on CPI that’s about a 5% real increase over ten years or, said another way, incomes aren’t growing much here. A sharp increase in taxes means that taxes will reduce the level of economic activity in the state below what it otherwise would have been by virtue of deadweight loss.
The state’s contribution to public pensions are not an extraordinary expense or a capital expense. It is an ordinary operating expense and borrowing to pay it is a sucker’s game.
The state’s two largest budget items, healthcare and public employees’ pensions, comprise nearly 50% of the budget and are expected to rise at between 8% and 10% for the foreseeable future. By my back-of-the-envelope calculation if half of the budget rises 10% it already exceeds the 2% cap they’ve established. Why do legislators believe that if they’re not willing or able to cut the state’s other programs (the portion of the state’s budget over which they do have control) to offset healthcare and pensions (the portion of the state’s budget over which they do not have control) today, what will give them the will or ability next year?
Illinois’s legislators aren’t kicking the can down the road. They’re pretending there is no can.
IMO the time has come for a constitutional convention in Illinois. Illinois’s legislators refuse to address the state’s fiscal problems seriously and Illinois really has no other alternative.
The referendum on secession from the north currently going on in southern Sudan has reached the critical 60% participation level and is expected to succeed. What then? The separation would create two countries, an impoverished country with a seacoast in the north and another impoverished but oil rich and landlocked country in the south. To my eye Africa’s experience with its many landlocked countries has been a tragic one. Does being landlocked create conditions ripe for famine, civil unrest, and massacre or do the conditions that resulted in the countries being landlocked have those consequences? Or is it just because they’re in Africa?
I’ve been working on this post for some time, trying to identify a good way to introduce the subject. The graphic above, kindly furnished by The Big Picture, is as good a place to start as any. The unemployment situation is different in this recession than in other post-war economic downturns. Jobs are simply not returning at the rate that would have been expected. That unemployment remains a significant story is borne out by President Obama’s Thursday remarks on the subject:
President Obama today called the job numbers released this morning “positive news†but said there still is work to be done on the economy. The numbers showed a drop in the nation’s unemployment rate to 9.4 percent in December.
“Overall, the decline in the unemployment rate is positive news, but it only underscores the importance of us not letting up on our efforts,†President Obama said from the floor of Thompson Creek Manufacturing factory in Landover, Maryland.
“We know these numbers can bounce around from month to month, but the trend is clear,†Obama added, noting that this marks 12 straight months of private-sector job growth for the first time since 2006. “The economy added 1.3 million jobs last year, and each quarter was stronger than the previous quarter, which means that the pace of hiring is beginning to pick up.â€
The year 2010 ended on a disappointing note, as the economy added just 103,000 jobs in December, suggesting that economic deliverance will not arrive with a great pop in employment.
Signs still point to a long slog of a recovery, with the unemployment rate likely to remain above 8 percent — it sits at 9.4 percent after Friday’s report — at least through the rest of the president’s four-year term.
That the president, Congressmen, newspaper editors, and bloggers like me pore over each of these reports like the entrails of an ox underscores the ongoing concern. President Obama’s re-election prospects are likely to rise and fall on the employment picture. As should be self-evident the economy as a whole and unemployment are in a deadly embrace. There’s no way we’ll see a robust recovery without a reduction in unemployment and there’s no way we’ll see a reduction in unemployment without a robust economic recovery.
In this post I’m going to reflect on a number of unemployment scenarios we might see.
There is little doubt that something is different. Over what is different and why it is different there is significant disagreement. The Keynesian or Neo-Keynesian view is that the present unemployment is cyclical in nature, there is presently inadequate aggregate demand, employment won’t grow to its former levels until aggregate demand returns to its former levels, and that the federal government as the consumer of last resort and unburdened (as state and local government in general are) by the constraints that balancing its budget might bring should be spending at a level high enough to boost aggregate demand to its former heights.
Paul Krugman is the dean of those who see the situation in this light. I won’t bother citing a specific column—that’s the message of practically every column he’s written over the period of the last eighteen months. It may even be a majority position among economists.
However, it is not the only view. It’s hard not to see the loss of jobs in the residential construction business including some of the associated jobs, e.g. realtors, plumbers, electricians, and so on, as not being structural in nature. With the enormous inventory of unsold new and existing houses (not to mention the significant number of foreclosures we should be expecting) is it likely that we will we see that many jobs in residential construction for the foreseeable future?
Additionally, propelled by the housing bubble and the attendant use of home equity for ordinary retail spending, the retail sector surely must have been larger as a consequence of that bubble than it otherwise would have been. Under the circumstances it seems to to me that the return of many of those retail sector jobs in the foreseeable future is pretty unlikely.
I think there’s another way we should be thinking about structural unemployment. More about that later.
I mentioned the good, the bad, and the ugly in the title of this post and it’s about time we get around to it. First, consider this graph.
The graphic above is from David Leonhardt’s year-end review for 2010 in the New York Times and it illustrates how long it would take to recover the jobs lost during the recession with three different rates of job increse: 300,000 additional jobs per month, 250,000 additional jobs per month (the pace during the mid-1990s, the period of the dot-com bubble), and 200,000 additional jobs per month.
Calculated Risk, among others, envisions job growth over the next several years at the rate of 250,000 additional jobs per month (the number of jobs added last month was about 100,000). That would appear to me to be the good, the optimistic scenario. If jobs grow at that pace and taking into account the roughly 125,000 new workers that come into the market each month, we would put those who are unemployed back to work some time in 2017, a period of about 72 months.
According to the NBER, the official scorekeeper for such things, the median post-war expansion was 45 months. Since the recession has been determined to have ended in June, 2009, the present expansion has been going on for 19 months. The last three expansions, the expansion of the 1980s, the expansion of the late 1990s, the the expansion of the Aughts, were 92 weeks, 120 weeks, and 73 weeks in length, respectively, and the last two of those at least were fueled by bubbles. During the last expansion we saw job growth at roughly 150,000 per month.
How long would it take to recover the jobs lost at that rate of increase? We’d never recover them. The next downturn would surely take place before the jobs had returned.
Let me repeat this: if you believe we are going to create 250,000 jobs per month for long enough to put those who are unemployed as of the start of the recession back to work you believe that we are going to experience the equivalent of another bubble economy and it will persist for at least five years. I don’t find that credible.
That brings us to the bad: the prospect that jobs are created at too low a rate to accomplish a return to full employment and we maintain chronically high unemployment. This is the situation that much of Europe has experienced for decades. The European solution to the problem has been to put much higher government support in place for those who are unemployed than has typically been the case in the U. S. This would certainly be bad, at least if you value the United States as it has been.
However, the alternative, chronically high unemployment without a system of government support for those who are unemployed because there are no jobs to be had, could be pretty ugly.
The Watcher’s Council has announced its winners for last week. First place in the Council category was Bookworm Room’s 
