There’s a new financial transaction tax proposal in town. Here’s why that’s good news.

March 1st, 2019 at 7:41 am

The 2017 Trump tax cut committed at least two fiscal sins. By delivering most of its cuts to those at the top of the wealth scale, it worsened our already high-levels of pretax inequalities. And in so doing, it robs the Treasury of much needed revenues; based on our aging population, we’re going to need more, not less, revenues for the next few years.

Now, along comes an idea that pushes back against both of these problems (and one other one!): a small tax on financial transactions (FTT). Sen. Schatz (D-HI) and Cong. DeFazio (D-OR) are planning to introduce a tax of one-tenth-of-one-percent, or 10 basis points (100 basis points, or bps, equals 1 percentage point), on securities trades, including stocks, bonds, and derivatives, one that would raise $777 billion over 10 years (0.3 percent of cumulative GDP a decade), according to CBO (by the way, 10 bps on a $1,000 trade comes to a dollar).

Numerous articles have gotten into the arguments for and against an FTT. I’ve got one from a few years back that covers similar ground. My colleague Dean Baker has long argued on behalf of FTTs as has Sarah Anderson of IPS. Importantly, FTTs exist in various countries, including the UK and France, with Germany considering the tax (also, Brazil, India, South Korea, and Argentina). The UK is a particularly germane example, where an FTT has long co-existed with London’s vibrant, global financial market (though we’ll see if Brexit changes that).

In fact, we have an FTT here too! The SEC funds its operating budget through a tiny FTT of 0.23 basis points on securities transactions and $0.0042 per transaction for futures trades.

The pro-FTT argument focuses on the reversing the two fiscal sins noted above, along with raising the cost of high-frequency trading. In a Vox interview, Sen. Schatz was particularly motivated by this latter aspect of the tax: “High-frequency trading is a real risk to the system, and it screws regular people; that’s the main reason to do this. If in the process of solving that problem we happen to generate revenue for public services, that’s an important benefit, but that’s not the main reason to pass this into law.”

Because the value of the stock holdings is highly skewed toward the wealthy, the FTT is highly progressive: The TPC estimates that 40 percent of the cost of the tax falls on the top 1 percent (which makes sense as they hold about 40 percent of the value of the stock market and 40 percent of national wealth).

Finally, on the pro-side, there’s a certain justice in taxing the pumped-up transactions of a financial sector that not only played a key role in inflating the housing bubble that led to the Great Recession, but thanks to government bailouts, recovered from it well before the median household. In this expansion, corporate profits and the securities markets that rise and fall on such profitability have mostly boomed while workers’ wages have only recently caught a bit of a buzz.

So, as my grandma used to say, “What’s not to like?”

Opponents raise numerous concerns, some of which should be taken more seriously than others. The high-speed traders correctly note that even a small FTT would upend their business model. Unlike most such squawking of those effected by tax proposals, in this case I suspect they’re right. While a dollar on a $1,000 trade doesn’t sound like much, when your industry is running 4 billion trades a day, 10 bps can be a prohibitive increase in the cost of transactions.

But again, on this point, opponents and advocates agree. We just have different goals. Someone could make an argument that high-frequency trading improves capital allocation, but it would be a steep, uphill argument.

The more serious objection is that the FTT catches more than just the “flash boys” in its net, raising transaction costs for plain vanilla traders. This is, by definition, true, and because of this effect, FTTs tend to reduce trading volumes. But too often, opponents stop there, as if this is some sort of coup de grace for the tax.

That’s only the case, however, if current trading volumes are somehow optimal, or if diminished volumes create markets that are too thin to reveal price signals to buyers and sellers. But in markets where half the daily trades are high frequency, reduced volume does not necessarily translate into reduced liquidity or dampened price signaling. There’s such a thing, it turns out, as too much volume (you’ve heard heavy metal, right?).

In fact, work by economists Thomas Philipon and Rajiv Sethi have documented ways in which something unusual has occurred. As transaction costs have fallen—quite dramatically, given the rise of electronic trading and its diminished marginal transaction costs—financial markets have not become more efficient. One reason is that falling transaction costs have been offset by higher “intermediation costs,” meaning the incomes of the brokers and dealers in the industry (Sethi provides compelling examples of “superfluous financial intermediation”).

It is therefore plausible, as Sen. Schatz believes, that an FTT will reduce “rent seeking” in the finance sector (economese for excess profits beyond those they’d get under normal, competitive conditions), unproductive financial “innovation,” and speculative bubbles.

But it is also possible that both assets and trading volumes will be more negatively affected than I and other advocates of the tax believe to be the case. Design issues can help here. Sweden’s FTT worked badly as it was set at a high rate but with a relatively narrow base, so avoidance was rampant. The Schatz/DeFazio bill avoids this pitfall with a low rate and a broad base. It’s notable in this regard that the CBOs revenue estimate of a plan upon which the new proposal is modeled includes the budget office’s guesstimates of these dynamic responses (e.g., reduced volumes), and it still raises serious revenues.

Given the uncertainty, here’s what I think should guide our thinking regarding an FTT. First, there is no perfect tax. In every case, you can come up with stories, some of which will be true (most of which will be hugely exaggerated) about some person or sector who is going to get hurt. In this case, the tax is small and there’s a plausible argument that its sectoral impact could be benign or useful. Second, we need the revenues. Third, we need the progressivity.

In other words, if the Trump tax cuts committed fiscal and distributional sins, the FTT looks potentially corrective and meritorious. I’d say it’s time we give it a Schat(z).

What does it mean when both stock and bond prices are falling?

February 25th, 2019 at 8:33 am

Just a quick comment on this recent NYT piece that scratches its head about an ongoing, simultaneous rally in both stock and bond prices. “Stock and bond prices are not supposed to rise and fall in tandem,” claims the writer.

Consider the grid below. I don’t have the relative frequencies for each box but I’ve seen them, and while the boxes on the diagonal get fewer hits than the others, my recollection is that periods with price movements in those boxes isn’t that unusual (bond yields move inversely to their prices). But correct me if I’m wrong about that.

 

Stock Prices
+
Bond Prices + B+, S+ B+, S-
B-, S+ B-, S-

The Times piece focuses on the upper left box. In the near term, being there is largely a function of the Fed deciding to pause, mixed with an argument between stock and bond investors. The former expect at least trend growth (maybe not 3% real GDP, but at least 2%), solid corporate profitability, even more share buybacks, and a truce in the trade war with China (Trump’s weekend decision to suspend the start date of higher Chinese tariffs is a point for this team). The latter are more focused on predictions of slower GDP growth; e.g., they may be looking at the Atlanta Fed’s GDPNow estimate for Q4 of 1.9%. And, of course, many of these investors are the same person, buying bonds as a hedge in case the equity market loses the argument.

The next box over (B+, S-) typically signals weak expected growth, leading to an equity sell off and flight to the safety of bonds.

B-, S+, conversely, implies positive growth news (flight from safety), and the other diagonal (B-,S-), implies a Fed that’s more hawkish than it should be from the markets perspective. Equity markets, in particular, have come to disdain a hawkish Fed, in no small part because it is, in recent years, a very unfamiliar creature to them.

Now, consider the intersection of the upper-left box (B+, S+), “secular stagnation” (the notion that without monetary or fiscal stimulus, economies won’t achieve their potential in expansions), and inequality. In a piece I’ve got in today’s WaPo, I note that it took just a pretty small increase in the Fed funds rate and the forthcoming withdrawal of fiscal stimulus (along with a bunch of other stuff, of course, but there’s always other stuff) to significantly downgrade expectations about the strength on the U.S. economy. As I wrote, we’re too much like a bike that cruises along at a decent clip until it hits the slightest hill, and then, without a push, starts to wobble.

Even at low growth, however, corporate profitability has remained solid and boosted equity markets. This, in turn, is a symptom of the weak bargaining clout of labor such that even at low unemployment, workers have a harder time than they should claiming more of the growth they’re helping to generate (to be clear, we’ve definitely started to see some real wage gains; the pressure of full employment still works!). And that’s just another way of talking about inequality.

So, I wonder if part of what we’re seeing when we see a bullish stock market amidst a low, falling bond yields is not just an argument between equities and fixed incomes about the near-term data flow, but a longer-term debate about structurally slow growth and high inequality.

Real wage gains and energy prices

February 14th, 2019 at 2:19 pm

Readers know I’m a huge booster of the impact of low unemployment rates on wage gains, especially for middle and low-wage workers. This dynamic is alive and well in current data and those of us on team Full Employment should elevate and tout it!

But, when it comes to real wage gains in “high frequency data,” which have been notable of late–as in, beating productivity growth–it’s important to also parse out the role of low energy prices.

The most recent CPI report showed a low topline inflation rate of 1.6 percent over the past 12 months (core CPI inflation rose 2.2 percent). The main factor pushing down on price growth was energy, down 5 percent, with gas prices (a sub-category of energy), down 10 percent.

In my recent write-ups of the jobs and other reports with wage info, I’ve mentioned the role of low energy prices in real wage growth, but here I’d like to formalize the analysis a bit to try to get a more accurate feel of the importance of this factor.

The first figure below shows recent trends in real hourly wages of mid-level workers (the production, non-sup series from the Establishment survey) deflated by both the topline CPI and CPI less energy. Of course, given volatile energy prices, wages deflated by the sans-energy deflator are smoother and have been gradually climbing since 2015, hitting 1.3 percent last month. The other series hit 1.8 percent, suggesting the difference–0.5 percent–is due to low energy prices.

REAL WAGE GROWTH, YR/YR, DEFLATE BY CPI AND CPI-SANS-ENERGY

Source: BLS

How important is this energy-price effect? Well, a year ago, real wage growth for this series was 0.4 percent, meaning real growth has accelerated by 1.4 percent. But back then, rising energy prices were pushing the other way, i.e., slightly crimping real wage growth. Thus, the change in the energy effect–the difference in difference between the values in the two series above over the past year–is 0.8 percent. That means that 56 percent of the acceleration in real wages over the past year is due to falling energy prices. (See note for details)

That’s a sizable impact, but look back at 2015 to see even bigger effects. In Jan, 2015, energy prices were 20 percent below their year-ago level. That month, real wages were up a strong 2.2 percent, and acceleration of 1.5 percent over their year-ago level. The energy price effect more than explains that change.

Such findings do not undercut the longer-term full employment/wage growth connection, as both nominal and real gains are correlated with tighter job markets (I’ve argued non-linearities are in play but others find that not to be the case). Note, again, the smooth acceleration in real wages since 2015 using the non-energy deflator in the figure above.

But they’re also a reminder of the important role of energy prices in near-term, real wage trends. For what it’s worth, which isn’t a lot, the general consensus is that oil prices, while not expected to fall further, should stay roughly around where they are going forward, as strong global supply meets middling demand. However, there are some noises about OPEC constraining supply, so stay tuned.

Data note: What I’m calling the “energy effect” here is: d_rw_c – d_rw_ne, where the first term is the 12 month log change in the real wage deflated by the top line CPI and the second term is the 12 month log change in the real wage deflated by the CPI less energy. The acceleration calculations first difference d_rw_c and d_rw_ne with their values one year ago and then difference those differences to get the change in the energy effect.

Foreign holdings of US debt have been coming down a bit. Is that a problem?

February 7th, 2019 at 11:27 am

I remember when foreign ownership of U.S. government debt amounted to very little, as shown on the left end of the figure below (the share of total publicly held debt owned by foreigners).

Source: US Treasury

I next remember that this share was growing rapidly, closing in on half about a decade ago. What I didn’t know was that the share has been falling back a bit. In fact, it’s about 10 percentage points off of its peak.

I discovered this because I went to look at the data as part of the broader conversation I’ve been engaged in regarding the lack of attention to and concern about our growing fiscal imbalances, an unusual dynamic what with the economy closing in on full employment.

In the course of that conversation, some have raised the concern that because a significant share of our debt is held be foreign investors, we face risks that were not invoked in earlier decades.

There’s the “sudden stop” scenario that’s been deeply damaging to emerging economies, when foreign inflows quickly shut down, slamming the currency and forcing painful interest rate hikes.

There’s a less pressing but still concerning risk that foreign investors’ demand for US debt would fall at a time like the present, when the Treasury needs to borrow aggressively to finance our obligations in the face of large tax cuts and deficit spending. That scenario could lead to “crowd out,” as public debt competes with private debt for scarce funds, pushing up yields.

At the very least, it leads to more national income leaking out in debt service than when those shares in the figure were lower.

How serious are these concerns?

In contemplating this question, I see the WSJ has an interesting piece out this AM on this very question. One factor in play they note is that China’s share of our sovereign debt has fallen by half, from 14 to 7 percent. That reflects both China’s decline in dollar reserve holdings, and more internal investment. Also, the piece notes the role of the stronger dollar and the resulting increased price of holding dollar assets.

But the key point re our own debt and rate dynamics is this one:

“Deficit hawks have suggested government bond yields could jump if foreign investors shed their holdings of U.S. debt, which in turn could push up the cost of other debt throughout the economy, such as mortgages and business loans. Those warnings haven’t come to pass.”

The fact that Treasury yields remain low confirms that part of the story. Also, as Krugman and others have maintained, it just doesn’t make a ton of sense that countries with large dollar holdings would undertake actions, like dumping US debt, to debase their holdings. And, if they did, the cheaper dollar would make our exports more competitive.

So, while I worry more about our weird, upside-down fiscal stance right now than most progressives, the declining trend at the end of the figure above doesn’t give me too much pause.

January Jobs: Another upside surprise shows the benefits of closing in on full employment.

February 1st, 2019 at 9:46 am

The US labor market just keeps on rolling along, turning in one good jobs report after another. Payroll gains continue to outpace expectations, wages are handily beating inflation while not pushing it up much, participation continues to suggest more room-to-run than most economists expected, and even the slight uptick in the unemployment rate last month, to 4 percent, was likely a temporary blip caused by the government shutdown (more detail on that below). The underemployment rate, which also spiked last month, was another temporary victim of the shutdown, causing a sharp, temporary increase in involuntary part-timers (those working part-time who want to work full-time). These measures of increased slack should fully reverse in coming months, assuming the government remains open, of course.

Payrolls were up 304,000 in the first month of 2019, well ahead of economists’ expectations for a gain of about 170,000, and the jobless rate ticked up a tenth to 4 percent. As noted, the uptick in the jobless rate is likely due to the shutdown and should fully reverse next month. The big jobs number for December was revised down significantly, from 312K to 222K, and other revisions to today’s report (e.g., a small annual benchmark revision) suggest that we should smooth out the monthly data to better discern the underlying signal.

In other words, cue the JB/KB (Kathleen Bryant, who does all the work on this report) monthly smoother! It shows average monthly payroll gains over the past 3 months to be a very robust for this stage of the expansion: 241,000. The other bars, which take monthly averages over longer periods, are around the same height, implying an underlying monthly trend slightly north of 200,000. This is well above what most economists believed sustainable, given estimates of “supply-side constraints,” i.e., the size of the available labor pool. Importantly, it appears this constraint is less binding than many thought, meaning there’s more room-to-run in the job market, and that we’re closing in on, but not yet at, full employment.

Participation measures are a bit hard to compare this month because of changes to the population weights in the survey (the weights are used to make the survey sample representative of the national population), but data provided in the report suggest participation ticked up in January to 63.2 percent, the highest rate since September 2013. The closely watched prime-age employment rate ticked up significantly for men, from 86.1 to 86.5 percent, and was up one-tenth of a point for women as well, from 73.4 to 73.5 percent (again, this monthly number should be handled with care due to the weighting change, but the underlying, positive trend is real and important).

The tight job market continues to generate near-cyclical highs in terms of year-over-year wage gains. Overall private hourly wage growth fell back slightly to 3.2 percent, from 3.3 percent in both November and December. For middle-wage workers–the 80 percent of the workforce in blue-collar or non-managerial jobs–wage growth was 3.4 percent. My estimate for January inflation (the official change does not get released until later this month) is 1.6 percent, driven down by low energy prices. That implies mid-level, real wage gains of 1.8 percent, a solid increase in buying power for these workers, many of whom have long been left behind (of course, we’re talking averages here, and we know that even now, significant pockets of labor slack still persist in some places around the country).

This positive trend in wage growth is captured in the figures below, which use 6-month moving averages to smooth out the jumpy, underlying series. The acceleration is notable. The third figure, which includes my inflation forecast, zeros in on the growing gap between rising nominal wage gains for mid-wage workers and falling price movements. The gap between the two lines represents the real gains touted above.

This gap will like close somewhat as energy prices rise, but I expect some level of real wage gains to persist. Another important point about these real gains: given that productivity growth is running at around 1 percent, when real wages grow faster than output per hour, the share of national income shifts from profits to compensation. As much research has revealed, this share has long shifted in the other direction–the wage share has been historically low, meaning the profit share has been high. In other words, the current tight labor market appears to be delivering a long awaited re-balancing of these shares.

As noted, the government shutdown is likely playing a small, temporary role in today’s report, though mostly in the unemployment rate. In terms of direct impact, the BLS reports that both furloughed and unpaid federal government workers should be counted in the payroll data, though furloughed workers should be counted as temporarily unemployed in the household data, the survey which yields the unemployment rate. Indirect, or spillover effects, such as a private-sector restaurant worker on temporary layoff because she works near a national park that was closed during the shutdown, could also be in play in today’s data. That said, the strong topline jobs number underscores the BLS commissioner’s statement today: “Our evaluation of the establishment survey data indicates that there were no discernible impacts of the partial federal government shutdown on the January estimates of employment, hours, or earnings.”

I’ll have more to say later about some of the guts of the report, but especially once we remove temporary shutdown effects from some of the household survey indicators, we’re left with unequivocal evidence of a few very important facts. First, in an economy with too little worker bargaining power and too much inequality, the benefits of closing in on full employment are powerful and equalizing. And second, Chair Powell and the FOMC were smart to put interest-rate hikes on hold. There’s non-inflationary room-to-run in this job market!