Romnomics Redux

May 15th, 2012 at 8:27 am

Recent news items lead me to repost this piece from a few months back.

This morning’s WaPo, for example, raises the question of what Gov Romney’s private equity experience will play out in the next few months.  The Post’s fact checker linked to the piece below in regards to this theme, and I also heard former Obama official Steve Ratner commenting on the issue this AM, arguing that it was unfair for the President’s campaign to criticize Bain’s record on jobs.

I don’t speak to the campaigning—not my bailiwick.  But this piece, written during the R’s primary, when Gingrich and Perry were gettin’ all up in Romney’s face re Bain Capital, tries to get at the fundamental economic issues in play.

What Does it Mean When Romney Says “I Understand the Economy?”

Jan 13, 2012

This whole dust up over candidate Mitt Romney’s tenure at the private equity firm Bain Capital has been surreal.  Obviously—I think it’s obvious—his R competitors who are attacking him, like Perry and Gingrich, are faux OWS’ers—it’s awfully hard to imagine they really have a problem with Bain and others like them.

But other than the fact that politicians can be hypocrites, is there anything voters can learn from this episode (and I suspect most of us already knew about the hypocrite thing)?

I think there is, and it has to do with how Gov. Romney thinks about economics.  He keeps stressing how he understands the economy, while President Obama does not.  But I submit to you that few people know what a person means when they claim to “understand the economy.”   I know I don’t.  Do you understand the economy like Arthur Laffer understands it or like Paul Krugman understands it?

For example, here’s an interchange that conveys a certain understanding—a not uncommon one, but a profoundly incomplete one.

A woman at a campaign stop complained that because her company moved out of state, she now faces a five-hour commute to work.   What, she asked, would Gov Romney do to keep good jobs in Iowa?

According to this account: “Sometimes it’s counterintuitive,” replied Romney, a former businessman, explaining that businesses often invent new, more efficient ways to compete.

“The term is called productivity. Output per person,” he said. “Our productivity equals our income.”

I’m not playing “gottcha” here—his response wasn’t a gaffe.  There are many in business, and many in economics, who believe this or something close to it—productivity is really output (or aggregated national income) divided by hours worked.   And more output per hour provide the potential for higher living standards.

But here’s the rub: for decades, for most American workers, that potential has not been realized.  Our productivity has anything but “equaled our income.”

In the decade of the 2000s, productivity grew 28% while real median household income fell 7%.  Since 1979, productivity is up 84% and real median compensation, including fringe benefits,* rose 12%.

To me, and not just based on this snippet, of course, it sounds like Romney probably really does understand the part of the economy he’s come to know in his business career.  It’s an economy whose metrics are return on investment, rates of profit, and particularly in the PE world, leverage, or debt financing, since a) profit margins for the PE guys are significantly amplified if they can borrow their investment capital, and b) there’s a huge tax advantage since they can deduct interest payments as a business expense.

You will note that the word “jobs” isn’t on that list.  And the reason for that is very simple: the metric of job creation is not how PE firms measure their success.   Grading PE firms on job creation is like grading chess masters on their ability to dunk the basketball.  It’s a non-sequitur.   Here’s one of Mitt’s former colleagues, quoted recently in the LA Times:

Bain managers said their mission was clear. “I never thought of what I do for a living as job creation,” said Marc B. Walpow, a former managing partner at Bain who worked closely with Romney for nine years before forming his own firm. “The primary goal of private equity is to create wealth for your investors.”

The economy that Gov Romney understands is the economy of Wall St., not Main St., and it’s by no means the only economy you want your president to understand.  In today’s America, the president needs to understand the economy measured by middle-class incomes, paychecks, the quantity and quality of jobs, rates of poverty, income gaps.

And sure, the president must also understand that part of the economy measured by productivity and profits.  But if he thinks understanding the latter is “understanding the economy,” he is dangerously wrong.

*It’s important to add benefits to this type of calculation so you’re not leaving off an important and growing part of the wage bill.  To construct median compensation for this calculation, I multiplied the median wage by the ratio of aggregate compensation to aggregate wages.  This essentially assigns the average benefit package to the median worker, which is too generous.  And you still get the large gap stressed in the text.

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10 comments in reply to "Romnomics Redux"

  1. save_the_rustbelt says:

    Being a CEO of anything is not a good indicator of being a good president. Being a Governor more so.

    One thing most politicians and economists have in common is they have never “been in the game” of business or done much in the real economy. Like sports writers, they sit on the sidelines and critique and criticism those who do the real work. (Sorry Jared)

    We are faced with electing one of two lousy candidates. It will be another long four years.

    • N. Nyberg says:

      The point here is that there is more than just one game. Very few CEOs and private equity folks have ever been in the game of living paycheck to paycheck, or working an extra part-time job to make ends meet. In fact, the very notion of calling making a living a “game” is completely antithetical to the way the vast majority of the country views the economy. Perhaps few politicians have been in “the game” you refer to. Where we differ is in thinking that’s a bad thing — few Americans over all are in that game, and being in it apparently distorts one’s views to the detriment of the vast majority of Americans. Putting profits before people, profits before public good, and profits in place of perspective produces problems. . .

  2. Sandwichman says:


    I would be very interested to hear your response to a critique by Duncan Foley in South Atlantic Quarterly of the Obama economic strategy that singles out Christina Romer’s and your projection of 8% unemployment in the absence of the 2009 stimulus.

    The political debacle of Barack Obama’s administration in the United States reveals the dangers inherent in thinking of macroeconomic performance and policy in excessively narrow terms. Obama’s economic advisers tended to operate in a discourse in which the economy is the central concept. In this discourse the economy has its own laws and behavior, reflected in the movement of a statistical index—“real,” that is, inflation-corrected, gross domestic product (GDP)…

    Obama’s economic advisers not only internalized these views but made the terrible political error of publicly proclaiming them, assuring the public that a recovery of the economy was inevitable and even venturing to quantify its dimensions, for example, in the prophecy that the US unemployment rate would, even in the absence of fiscal stimulus, peak at 8 percent.

  3. D. C. Sessions says:

    Wouldn’t productivity and profit be much greater if American companies could use slave labor? It’s not a new idea — in fact it’s Biblical: if you can’t pay your debts, your creditors get you as collateral and you belong to them until your labor pays off the debts.

    The laws to do that might have to be carefully arranged to get around the 13th Amendment, but the Supreme Court has already exempted the military draft and prison labor so I don’t think the problem is insuperable.

    • jonathan says:

      Productivity under slavery was significantly lower than wage based employment. This is a major reason why the South, which was wealthier, became poorer overall by the Civil War. The South’s balance sheet looked great but that reflected the value of property, meaning human beings. When the Atlantic Slave Trade ended in 1805, the availability of domestic markets in the Southern interior dramatically increased the value of slave production, meaning breeding people to be slaves. Even in the South, non-slave production was more efficient because productivity was higher. This is partly due to the inherent inefficiency in a slave system and also due to the greater training, education, etc. given to wage workers – who might include free blacks. It was illegal in the South to teach a slave to read.

  4. jonathan says:

    The private buyout game is rooted in finding companies with cash flow and then borrowing to the limit of that cash flow. That coupled with asset sales allows the buyer to cash out up front and then forces the company to restructure by cutting costs, selling more assets, etc.

    Couple of observations:

    1. It relies on tax benefits of debt. If acquisition and post-acquisition debt weren’t deductible, the industry would not exist.
    2. It makes a mockery of the idea that more money creates jobs and that more money, meaning lower taxes, is an effective incentive. Romney’s industry relied on squeezing companies to the margin of their existence and then claiming that focused them more clearly on what they needed to do. In Romney’s non-political world, companies lost their way with too much cash; they made dumb investments that needed to be dumped, over-expanded, etc. It was only the strictures imposed by debt that created necessary focus. This is nearly the exact opposite of the usual dogma that putting more money in pockets is more efficient. But I can’t expect logical consistency.

    • perplexed says:

      Great points! I think that what Romney probably meant to say is that “I understand how to extract money from the economy by exploiting loopholes in tax laws and capturing the gains for investors with high risk tolerance.”

      I wonder if anyone has calculated the increased liabilities the PBGC has taken on (and the subsequent losses to pensioners who lost a major portion of their pensions) that resulted from Romney’s experiments with increasing “productivity?” These people assume a level of gullibility that would astound our grandparents and the news/entertainment business does nothing to stop them.

  5. Misaki says:

    If you assume that the government gives welfare to people to prevent them from dying, then higher productivity and GDP is a sufficient condition to choose one policy option over another. Measuring “middle-class incomes, paychecks, the quantity and quality of jobs, rates of poverty, income gaps” is not necessary since extra income is just fluff.

    If for example, people need more than the minimum income to be able to afford education, then jobs and poverty rates might become important to achieve high productivity and GDP, but in the final analysis it’s very possible that more education won’t help. (earlier version of same article and slightly shorter)

    On the other hand, if the government doesn’t give people welfare and they have to resort to illegal methods to sustain themselves or otherwise leads to negative effects, then ‘productivity’ and ‘GDP’ are not the sole goal but it [seems to be] up to society to decide whether any negative effects of high unemployment outweigh possible losses from a strategy to reduce unemployment; for example, people might feel emotional distress if the GDP of the US dropped below that of China.

    • Misaki says:

      (Replying to a comment awaiting moderation)

      Actually… it still doesn’t make sense, does it. Highest GDP would result from more fiscal stimulus, so people must not think it’s important. (And polls suggest a lower bound to the number of people who think that taxes + spending would raise GDP but that the government should not take this course of action.)

      And with high unemployment, the inherently inefficient government is tasked with ‘creating’ jobs or at least distributing welfare, with no inherent mechanisms to ensure this is done “efficiently”. So people must actually mean that they want productivity in the private sector to be as high as possible. Because in their opinion the government doesn’t actually “produce” anything, it just provides public services and funding to private/separate organizations that do the actual producing (like universities).

      The optimum situation from their perspective, then, is that “private sector productivity is as high as possible, while the government only does the minimum for the unemployed that voters require it to do.” While government services and the additional spending that welfare allows may increase GDP, it doesn’t ‘count’ because if it did the government could just spend arbitrarily much and productivity would become meaningless as a measure of achievement.

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