Absent full employment or a bubble, middle class income and wealth will fall.

September 15th, 2014 at 8:45 am

Robert Samuelson covers some useful ground this morning, reviewing income and net worth trends from the recent Survey of Consumer Finances, a triennial (it comes out every three years) survey of family income and wealth. I wanted to add a few points regarding timing of the trends he cites.

First, Samuelson notes that if you look at the endpoints 1989 and 2007, real median family income rose 14%, or 0.7% per year. But it’s worth pointing out, as the figure below reveals (red line, which if you know the DC subway system, is an appropriate color choice), that this growth was wholly a 1990s phenomenon.

That’s important for two reasons. First, I’ve often emphasized the relationship between the 1990s full employment labor market and higher median incomes, as both hourly wages and hours worked rose significantly over that period. Such favorable labor market dynamics were notably absent in the 2000s.

Second, while Samuelson stresses the damage done by the Great Recession, it’s important to recognize that in fact, middle incomes have stagnated or worse now since 2000, almost a decade and a half, such that they’re now back to their 1989 level.

Real net worth (assets, including home values, minus debts), on the other hand, rose strongly for the middle class in the 2000s, up 60%, 1989-2007 (blue line in the figure). But the 2000s growth in net worth for the middle class was a function of the housing bubble, and when in burst in 2007, net worth fell so sharply that by 2013, middle-class (median) net worth was actually lower by $3,600 than in 1989 (see Samuelson’s table for the numbers).

So, roughly speaking, over the last few decades, two phenomena have driven middle class well-being: full employment in the 1990s and a housing bubble in the 2000s. Absent either one, the current recovery has meant steady losses in both middle incomes and net worth.

scf_med_14b

Source: SCF

Update: Apparently, that line for real median family income is orange, not red. My bad, but I’m color blind for that part of the spectrum…and ftr, friends tell me the Orange Line has issues too.

The Self-Fulfilling Function of Political Dysfunction

September 13th, 2014 at 6:01 pm

Here’s an engaging oped by Jon Grinspan that makes one of my favorite points, one which is obvious but under-appreciated, I think: generalized and pervasive negativity about government perpetuates broken government.

As Grinspan (a name that sounds like the answer to the crossword puzzle clue: “happy central banker”) puts it:

First, we need to realize that surging anger at Washington favors those who would like to drown government in a bathtub. When Democrats blame politicians as a group, they support the idea that our system can’t be trusted to make positive change in Americans’ lives, while pushing candidates into a quiet reliance on big donors.

During the latest installment of the debt ceiling crisis, I wrote:

I’m reminded of a particularly pernicious rule of today’s politics: the self-fulfilling prophecy of dysfunction.  Many of today’s conservatives run for office on a platform that government doesn’t work.  And when they’re elected, they work their hardest to prove it true.  They say, “we’re Greece!” when of course we’re nothing like Greece, then they threaten default to make us Greece.

This is an alarmingly simple ploy, but once you tune into it you see it everywhere.  The prophets of dysfunction must convince us a spending crisis, an entitlement crisis, and debt crisis despite their factual inaccuracies.  It there’s no crisis—if, as is clearly the case [and this is even more the case now than when I wrote this over a year ago]—our fiscal challenges can actually be met with reasonable policies involving analysis (e.g., squeezing inefficiencies out of health care delivery) and compromise (spending cuts and revenue increases), these hair-on-fire-slash-and-burners have no use.

An important job of progressives throughout history is the exposure of such false prophets.  Of course, these prophets have huge profits riding on their ruse, so they won’t leave quietly.  But we must expose them nevertheless.  Our system is broken because a broken system works for the false prophets of dysfunction.  It doesn’t work for the rest of us.

To be completely candid, I myself play into this by occasionally and lazily inveighing against “Congress” as if it’s a monolith and “gridlock” as if everyone is equally implicated. I well know—because I interact with them—that there are members on both sides of the aisle who want to work together to accurately diagnose and try to solve problems. And members who decidedly do not.

In this regard, those of us who believe that there’s an essential role for government in meeting the challenges that private markets cannot—pollution externalities, risk pooling, social insurance, safety nets, countercyclical policies, enforcement of fair trade, education, public infrastructure, financial and product market regulation—must name names and have the courage to ruffle feathers (Grinspan drops the ball a bit here too, I thought).

Sweeping broadsides against the institution are both wrong and play right in the hands from which the keys to good government must be taken.

The 10-Year Yield Climbs a Bit: Whussup with That?

September 12th, 2014 at 7:09 pm

Like others, I’ve wondered why bond yields have remained so low in recent months. Yes, of course the Fed is in the game big time but what with the taper, the on-going recovery, and forward leaning expectations, I’ve been expecting yields to climb.

And so they have, with the yield on the 10 year up almost 30 basis points since late August (see chart). What explains the increase?

Since we’re looking at a long term bond, there’s a rising “term premium” in play. That’s the additional yield investors’ demand for holding longer-term securities as opposed to just rolling over a series of shorter term securities. If investors believe the economy is gaining steam, they incur “interest rate risk” when locking their money up in a long-term bond, as new issuances with higher yields come onto the market. The term premium is one way bond buyers try to insulate themselves from that risk.

There’s also evidence that all those asset purchases by the Fed reduced term premiums–that was their point–so as the Fed tapers off their assert buys, the term premium should rise.

Expected inflation can also push up yields. But I’m all in with Krugman on this one, as inflation expectations remain well-anchored, as per the Cleveland Fed’s monthly estimates.

That leaves, as noted above, the Fed themselves. We’ll know a bit more about the central bank’s thoughts on all this later next week, including new projections and the connect-the-dots graphs regarding the board’s thoughts about when to expect lift off on rates. But expectations have been a bit more hawkish and that too is nudging on yields.

So I think a rising term premium and expectations regarding higher short term rates as the era-of-zero winds down are pushing up the ten year, and while one never knows, and barring negative shocks, I expect that trend to at least mildly persist.

 

10yr_fri

Source: MarketWatch

Friday Musical Interlude: BBK!

September 12th, 2014 at 9:07 am

Could it be that I’ve never featured BB King in a musical interlude…unforgivable! Here’s the man gettin’ down to bizness with Lucille (that’s his guitar’s name) and here’s his great explanation as to why he sings the blues. Both of these are from an album–as in vinyl–that I got in 1969!…now get the hell off my lawn!

Whatever made us break up, baby, I don’t know til today
But if it was my fault, I swear I’ll change my ways!

What we would do if we wanted to reduce America’s excessive share repurchasing problem.

September 11th, 2014 at 6:14 pm

You’ve hopefully heard about, if not read, this revealing analysis by William Lazonick on the sharp rise in public corporations using their profits to boost their share price through stock buybacks as opposed to re-investment.

I won’t summarize the findings, as Harold Meyerson amply does so here. As he writes:

From the end of World War II through the late 1970s major U.S. corporations retained most of their earnings and reinvested them in business expansions, new or improved technologies, worker training and pay increases. Beginning in the early ’80s, however, they have devoted a steadily higher share of their profits to shareholders.

Lazonick looked at the 449 companies listed every year on the S&P 500 from 2003 to 2012. He found that they devoted 54 percent of their net earnings to buying back their stock on the open market…they devoted another 37 percent of those earnings to dividends. That’s a total of 91 percent of their profits that America’s leading corporations targeted to their shareholders, leaving a scant 9 percent for investments, research and development, expansions, cash reserves or, God forbid, raises.

What I wanted to tackle here is a question someone asked me the other day: what could be done about this significant problem of underinvestment in the long-term in the interest of boosting near-term share prices, stock options, and stock-based CEO pay?

Lazonick offers three ideas.

First, change back the SEC rule that facilitated the growth of stock repurchases. Back in the early 1980s the SEC gave corporate leaders the permission to repurchase large amounts of their companies’ outstanding shares, with only nominal oversight against stock price manipulation. Lazonick suggests the SEC change the rule back to sharply limit allowable repurchases.

Second, put some restrictions on stock-based compensation. For example, implement a six-month holding period for exercised stock options so executives can’t immediately flip shares when a buyback spikes the price.

Third, implement corporate governance changes that give some different stakeholders seats on the board, like worker representatives. This is a common German practice, and their corporations certainly plough more profits back into their companies than ours do (though this is but one of many difference in governance and corporate culture).

I’d add: do not provide government subsidies and tax breaks to companies that engage in large scale and frequent open market repurchases (as opposed to “tender offers,” which tend to be smaller, less frequent, and more benign). If the best use you can think of for your retained earnings is dividend payouts and share buybacks, why should the taxpayer subsidize your R&D or equipment purchases?

Pfizer and other American drug companies defend their patents and profits by saying how essential they are for research. Yet from 2003-12, they spent 146% (!) of their net income on dividends and buybacks. I should also note here that Pfizer paid 3% of its worldwide income in taxes in 2012. If reading that makes you feel like a tax-paying chump who neglected to get lawyered up, join the club.

Finally, the fact that tax rates on dividends and capital gains are lower than those on ordinary income exacerbates this problem.

And no, none of these sorts of changes are likely to occur anytime soon. But when you think about how these regulatory and tax issues have facilitated this short-sighted trend—one which exacerbates inequality and slows investment-led growth—you get an important insight into ways policy changes shape economic outcomes.