Adair Turner: Is it Debt Deleveraging or the Fall in Labor Share?
Adair Turner was interviewed by INET about his new book which I have to buy and read. The book came out this week. It is called, Between Debt and the Devil. Here is the interview. (link)
He lays out an exquisite analysis of economics on many layers.
- How the crisis was not expected due to economic theories that thought they had solved macroeconomic problems.
- How debt is dragging down the global economy.
- How debt monetization is the best solution to the current sluggish economic growth.
- How the rise in the Swedish interest rate a few years ago did not stop speculation in housing but hurt other industries instead.
- and more
Yet I question him… Is it truly deleveraging debt along side fiscal consolidation that is making some economies sluggish? It is an easy concept to grasp and accept. A larger portion of the economy would rather pay down debt than borrow to invest or consume. So the economy becomes sluggish.
But let me play the devil’s advocate…
I look at another cause for economic sluggishness… the fall in labor share. It is not a concept so easy to accept. If you pay labor less, business should be able to grow faster right? You have lowered business costs. You have made it easier for firms to project higher profits, right?
Yet, I see the fall in labor share as a fall in effective demand, which has lowered economic potential and the social benefits in the economy. The drying up so to speak of labor share of income has caused firms to seek out profits in other channels where money is circulating. Firms are able to survive, but labor continues to suffer.
We can say that deleveraging debt and the fall in labor share both contribute to the economic sluggishness. But since Adair Turner did not talk about the fall in labor share, I will.
The Channels of Money Flow for Business
Here is a simple diagram of the basic channels of money flows into and out of firms.
Let’s say that there are four basic channels for moving money. Firms can make money in each of those four channels. Firms can make money from the financial sector from lower interest rate costs and increased funds for investment. They can make money from the government from lower effective taxes, higher subsidies and higher govt. purchases. They can make money from labor by paying lower wages and increasing sales to labor income. They can make money in the foreign markets by lowering overhead costs overseas, increasing exports and selling more imports.
After the 2001 recession, labor share of income began falling to never before seen lows. Consequently relative sales to labor also decreased because labor had less income relative to production. So overall money flows between labor and firms has been growing slow. Firms have had less ability to profit from labor due to decreased overall money flows with labor. So in response, how did firms compensate for the decreased flows with labor?
Firms began to open up new ways to increase profits through the channels of the Financial sector, government and foreign markets. Interest rates have been falling. Money is cheaper. Effective tax rates have been falling. Outsourcing increased. Sales in foreign countries increased. Firms became less dependent upon domestic labor’s income.
So firms have increased money flows in other channels other than with labor. What has been the result? Firms have been able to increase after tax profits in real terms to new records after the 2001 recession. (link to graph)
Firms do not need labor’s income much anymore to obtain their profits. This is a major problem that is dragging down the social benefits of the economy for labor. Firms have been receiving social benefits, but not labor.
The Lack of Productive Investment
Adair Turner recognizes the lack of productive investment. Is it really due to deleveraging like he says? With all the great respect for Adair Turner that I have, I could also say that the lack of productive investment is due to weak labor income for buying production. A greater percentage of profits is being obtained in other ways besides serving the consumption desires of labor.
Incentive to increase production is weakened when effective tax rates are lowered, when interest rates are lowered, and when sales increase through overseas operations. A firm has less incentive to invest in production when effective demand is lower. Productive investment if done is done elsewhere because foreign countries are competing for production capabilities to serve the US consumer.
Is there Deleveraging?
Households are deleveraging. (link to FRED graph)
Are corporations deleveraging? Well, corporations have relatively more of their own funds to finance their activities. This graph “is calculated by using debt as the numerator and capital and reserves as the denominator. It is a measure of corporate leverage the extent to which activities are financed out of own funds.” (link to FRED graph)
It may appear as though corporations are deleveraging since total debt to equity is falling. However, their level of liabilities with debt securities in real terms is rising. (link to FRED graph)
And why not increase debt? Borrowing costs are so low. Why not stock up on cheap cash even if it adds to total debt? You could loan it out at a higher interest rate in the future or just use it to pay back debt liabilities when necessary.
At the same time, let’s keep in mind the possibility that the increase in non-financial corporation debt securities may reflect some businesses on the edge of going out of business. They need debt to stay in business. A depressed Fed rate is essential to keep these businesses alive because they may be stacking debt liabilities. In other words, increasing debt to cover past debt.
Firms are lowering future interest rates by stocking up on cash and increasing debt. It looks as though low interest rates have made money so cheap that the demand for money will be satiated for some time into the future.
The Fed rate being low may fuel more debt. Debt is increasing, even while debt to equity is falling. The Fed rate will stay depressed. Adair Turner recognizes this issue in the interview. I see the Fed rate staying depressed all the way to the next recession. Strange times these are…
Solutions
Adair Turner says that we need to lean against excesses in lending. But corporations have gathered lots of funds and debt for whatever they may want to do. It is harder to have a regulatory mechanism now.
Corporations are less dependent upon the money flows from labor. They have less incentive to invest in productive activities.
For me, the solution lies in making firms more dependent upon the money flows with labor. That means reversing the policies that increased profits through money channels other than with labor. That means tightening the flows with the financial sector. That means raising the effective tax rates with the government. The result will be to force firms to divert overall money flows into the labor channel. Firms will have to realize that labor share of income must be raised because increased volume of business with labor would allow for better profits.
Firms would be making more of their profits serving the needs of domestic labor. Isn’t this how the economy is supposed to function?
I respect Adair Turner and I need to read his new book. His book may answer the differences that I have with him. (link to book)
This analysis well summarizes and explains in one diagram what needs to be done. Bernie proposes these actions piecemeal based on moral grounds. This analysis makes Bernie’s policies coherent macroeconomics as a whole.
Some substantial portion (I don’t know if the number is 10%, 20%, or 80%) of the debt offerings by public companies and by companies owned by private equity is used to pay dividends or otherwise repay investors. To some degree this is normal capital structure balancing, but to some degree it is also caused by the unwillingness by large companies to repatriate foreign earnings to make their dividend payments.
William Leigh – You say:
“This analysis makes Bernie’s policies
coherent macroeconomics as a whole.”
Just curious – Who’s Bernie??
EL – In the Solutions part you say:
“That means raising the effective
tax rates with the government.”
I don’t understand that one. The US already has the highest marginal tax rate on corporate income in the G10. The imbalance is is a main driver of why manufacturing has left the country. It is the reason why Trillions of earnings have been retained outside the US.
There are many papers on this topic from both sides of the political spectrum, Google: “Benefits of lower corporate tax rates”.
Some of the benefits of lower corporate taxes would be:
1. Cutting the corporate tax rate will promote higher long-term economic growth.
2. Cutting the corporate tax rate will improve U.S. competitiveness.
3. Cutting the corporate tax rate will lead to higher wages and living standards.
4. Cutting the corporate tax rate will boost entrepreneurship, investment, and productivity.
5. Cutting the corporate rate lowers the tax burden on low-income taxpayers and seniors.
6. Cutting the corporate rate will lower the overall dividend tax rate and taxes on capital.
7. Cutting the corporate tax rate can attract foreign direct investment (FDI).
http://taxfoundation.org/article/ten-benefits-cutting-us-corporate-tax-rate
Yet you go 100% in the opposite direction. Funny economics…….
Edward,
First, there was some deleveraging by households from Q3 2008 ($12.675Trillion) to Q2 2013 ($11.153Trillion). But in 1999 total household debt was only $4.54Trillion. And in Q2 2015 that debt had increased back to $11.853Trillion. So the run up in total household debt was very large and the deleveraging has been relatively small. Unfortunately your Fred graph is only showing household debt to GDP from Q1 2009.
Second, I agree with Adair Turner that the government should have been leaning against increasing debt especially from about 1996. And perhaps that was what the Fed was doing when they raised interest rates and sent the economy into the 2001 recession. Their action was like firing a sawed off shotgun. They were going to hit almost everything in the economy. One of these days some academic will do a study which will point out that regulation of credit default swaps (CDS) would have done a better job of leaning against increasing debt. CDSs are essentially insurance against risk. Risk is always present and seemingly separating the risk from the profit is bound to cause reckless behavior. But Alan Greenspan, Larry Summers, Robert Rubin and others had very effectively torpedoed any regulation of CDSs in the late 1990s.
Now there is too much debt in the economy. But moving it around does not solve anything. Government has tried to address our economic problems and only put itself more in debt while delaying the inevitable decline in discretionary consumption.
Stating the obvious, at some point households must generate enough income to repay their debt. Any solution which does not directly address that issue is a distraction. Moreover, if all household debt was forgiven tomorrow, households would start to run up more debt the day after that. Personal incomes are too low to support the consumption that we have come to expect. (Whether expected by consumers or businesses.)
I believe that we agree that raising labor share is the answer. Not because of morality or ethics but because a modern economy can not exist without consumers with adequate incomes.
BKrasting,
The effective tax rate is what I mention in the post. That is the rate that corporations actually pay. It has fallen from over 30% in the past to around 13% to 16% now. That difference has raised corporations’ after tax profits. That is money that corporations do not need to work for by selling to labor.
And your list is lacking a lot of insight.
Long-term growth is dependent upon any factors. There are times yes that low corp taxes boost growth, yet there are also times when industries mature and need to be taxed to fulfill their promise of social benefits.
And we can all see that cutting corp taxes did not lead to higher wages, nor higher living standards.
Cutting the corp tax rate does not boost productivity. Raising the effective demand will.
Cutting corp tax rates does not lower the tax burden on low incomes. Just look at the New Haven where Yale is. Yale does not pay taxes, yet New Haven is the 7th poorest city in the US.
JimH,
You and Turner are right. There is too much debt. Why? One reason is that the wages in the labor channel were insufficient, so money flows to the financial sector were increased to compensate… meaning that lending to consumers had to increase as well. So the debt problem resulted in part from the drop that was forming in labor share.
The best way to fix a problem is to fix the root cause. The drop in labor share is one of the root causes of too much debt, from the household and the firms’ perspective.
I like what you say about the “modern” economy. To me that is an economy that is mature. Growth has taken place. Now it is time to fulfill the promise of much higher social benefits. That happens through higher labor share.
here is a graph that I made in 2013 showing how the optimal labor share has been rising over time. But actual labor dropped.
http://effectivedemand.typepad.com/.a/6a017d42232dda970c017c386b6620970b-pi
Things were good up until about the 1991 recession. Then labor share started to become sub-optimal.
Here is the link to the post…
http://effectivedemand.typepad.com/ed/2013/04/super-macroeconomic-potential-real-gdp.html
The drop in labor share below optimality since the 1980’s has been progressively more visible. And I think we are far below what an optimal labor share should be. We have a long road ahead of us to raise labor share back up.
EL – Huh?
“The property taxes the University does pay — more
than $4.3 million for the golf course and University
Properties retail locations — make Yale one of the
five largest taxpayers in the city, according to
Lauren Zucker, Yale’s assistant director for
New Haven and state affairs.”
http://yaledailynews.com/blog/2014/02/21/who-pays/
Krasting New Haven has an annual budget of $750 million. Top five doesn’t meaning pulling your economic weight, what do you think direct expenses are for the city to provide roads etc serving Yale employees etc.
http://cityofnewhaven.com/Finance/pdfs/FY%2015-16%20Executive%20Summary.pdf
BKrasting,
Then Richard Wolf is not telling the truth in this video at around the 19 minute point where it starts…
Wolf made the point that Yale pays no Federal Taxes on its investment income. What’s Fed IRS income got to do with New Haven? Fact is no University pays federal taxes on investment income. Wolf is blowing smoke with this.
Yale pays 4.5m in property taxes. It also voluntarily pays an additional $8m
to the city. It proves free health care to city residents ($12m). Yale provides thousands of jobs. Yale is the best thing New Haven has going for it.
http://onhsa.yale.edu/economic-growth-and-fiscal-impact
Go back to where this silliness started. You said:
“Cutting corp tax rates does not lower the tax burden
on low incomes. Just look at the New Haven where
Yale is. Yale does not pay taxes, yet New Haven is
the 7th poorest city in the US.”
Yale is not a corporation. Cutting or raising federal corporate taxes has no consequence to New Haven or to Yale. You used Yale as an example of how federal corporate taxes are unjust. Yale has nothing to do with this debate and is a bad example to make your point.
Krasting what would Yale’s property tax bill be if taxed at highest and fair use? Which is the main metric that would respond to the claim “Yale does not pay taxes, yet New Haven is the 7th poorest city in the US”. You engage in hand waving pointing out that other universities don’t pay taxes on investment income and that Yale in addition to its property tax bill on separate income earning property (per you) pays “an additional $8m” (with no cite or explanation) and also “provides free health care” (ditto) and then forward the stale old “hey we provide jobs, take the taxes from them” schtick. But never get to the issue: if Yale paid property tax like any other major employer would New Haven still be among the 7 poorest cities in the country? That its incidence of tax on its endowment is no different in kind than any other university sitting on billions in accumlated tax free gains is neither here nor there.
BKrasting,
Yale is a non-profit corp, right?
And look at the article you linked to. People are upset that Yale pays such low municipal taxes for what it has. Apparently Yale is not paying for the benefits that it receives from New Haven. The govt had to give money to New Haven.
And if Yale has so many good jobs, why is the town 7th poorest in the country?
Take the issue to Wamart who gives employees applications for govt services because Walmart does not want to pay enough to its employees.
Do you think it is correct for middle income people to pay a higher effective tax rate than the very rich like warren Buffet pointed out about his secretary?
Also, firms in the past used to share their profits with the employees once the firm reached its goals. That was payback for years of service together. That wise mentality has disappeared largely.
BKrasting,
The US government unilaterally disarmed itself when it reduced tariffs. Corporations then did what all egocentrics do. They took advantage of the situation to enrich themselves to the detriment of the rest of us. Specifically they moved their production to the countries with the lowest wages and sent their products to the United States while paying low tariffs.
The idea that governments should have to compete for corporations locating there, is a sign of an awful problem. Sooner or later people will owe their allegiance to corporations, who hold the power of employment, instead of elected governments. Only a complete and utter fool would see that as an improvement.
If we had higher tariffs then corporations would be forced to decide whether they wanted to be a part of the American economic community or not. If not then they could move overseas and pay the higher tariffs when their products were sent to the United States.
Corporate leaders should remember that what has been done to advantage them, can be undone.
Until then, I pray that the Chinese steal all their intellectual property. The sooner the better. That will mean more competition and cheaper products. What has loyalty go to do with it anyway?
JimH:
There is a difference between tariffs and paying the taxes they would have paid if operations were in the US, the Overhead. Specifically, this is why companies take their operations overseas to avoid the Overhead which as a percentage is greater than the direct and indirect labor. Collecting those taxes as they enter the largest consumer market globally to sell their wares is a tad different than tariffs which are meant to restrict trade. Taxing a company for its intentional operations overseas is not a restriction to trade.
Webb – I did provide the source, You just didn’t look at it.
http://onhsa.yale.edu/economic-growth-and-fiscal-impact
But let’s just assume you are right. Yale is EVIL. Yale steals from the people in New Haven. Yale is responsible for economic and social deprivation. Yale should be shuttered for its anti social actions. The same can be said for all of the Universities in the country.
HOWEVER
What ever EVIL Yale is responsible for it has nothing whatsoever to do with the Federal tax rate on corporations.
EL connected Yale to Corporate taxes. There is no connection. Got that?
You and EL want to go on believing that Yale is bad for New Haven then go ahead. But don’t try to connect this with federal corporate taxes. You’re too smart to connect those dots.
Yale does pay property tax on commercial property; but like any other college/university, its $2.5 billion assessed valuation (2013) educational property is tax exempt. Then too, whether taxing those properties would increase the cost of an education is suspect as much of what has increased the cost of an education faster than the cost of healthcare has nothing to do with taxation (side note). If one were to apply fair market valuation (the same as what is proposed by Jason Delisle for student loans, which have no risk) which most assessments do not take into consideration and recalculate the tax revenue which could be achieved, I suspect it might be more.
As it now stands by state law, New Haven is supposed to receive state funds to make up for tax exempt property within its boundaries to the tune of 77 cents on every dollar they lose from tax-exempt colleges and hospitals. The payment was supposed to be $105.3 million or more than 20 percent of the city’s current operating budget for fiscal year 2013-’14. This payment would include state building also.
In 2014, New Haven received ~$43 Million or less than half of what it is owed by the state for tax exempt properties. So Yale kicking into New Haven’s coffer’s for tax exempt properties is well deserved. The same as with state worker pensions, the state government has applied funds to other projects rather than fund obligations it has on the books without assessing the state and has kicked the can down the road. In essence, the state’s actions are malfeasant.
If we follow Republican and Tea-Party logic, should colleges/universities be self supporting? Would you not want them to be under the same scrutiny as what you, Andrew Biggs, Jason Delisle, Matt Chinagos, Beth Akers, etc. desire for Social Security and Student Loans? Where is the risk assessment, which measures the loss of revenue, etc. to the community and the state? But wait a minute, these institutions have political clout amongst US Senators and Representatives so all of that Republican spouted “kool-aid” which their constituents drink placates the silly masses.
And we have not even touched upon the untaxed university hedge fund and overseas investments. I doubt Yale is suffering anywhere near the highly taxed New Haven is suffering.
Yes Krasting Yalies as a group have no influence on national tax policy. And I never said ‘Evil’ or implied it. And you were the dope that brought up the fact that the largest entity in New Haven is only the fifth largest taxpayer and contributes about 1/2 of 1% of property tax revenue based on the fact that they ALSO own a golf course and a shopping center.
And no you don’t get credit for providing a source from a flack for Yale.
8. Cutting the corporate tax rate can cure rift valley fever.
We’ve already cut the corporate tax rate, and we still have rift valley fever. The as-paid corporate tax rate, back when our living standards were rising, was 50%. The cutting the corporate tax rate experiment has failed. It’s high time we tried something different.
Webb – I get no credit for a link to @Yale.EDU?? You think Yale is lying? Please….
Possibly you can help. Can you find a Non Profit University that does pay full value property taxes? Can you find a University that pays Federal income taxes on its investment income?
Why single out Yale? Between the Yale hospital and the University Yale hires 35,000 people. This city would be dead without Yale.
bk:
Yale only tells part of the story, the part which benefits them. There is more. Why not Yale? They are one of the exclusive ones in the US. They are not a state university like UW Madison or UI Champaign-Urbana or MSU Lansing.
So if Yale pays $4.3 million in property taxes and has 35,000 employees, they only pay $122 per employee per year. or about $10 per month per employee. Interesting….What might the average pay per employee be per month?… $3000?
What is $10/$3000 = 0.3% of payroll.
Interesting…
EL – You use some numbers and conclude “interesting”. But as per usual you use numbers that have no relevancy. Your conclusions are not interesting, they are irrelevant.
Use your numbers. 35k employees earning an average of 30k per year.
That means that total payroll is $1,260,000,000 per year!.
– On that income Yale pays 6.7% for its share of withholding taxes = 84,200,000.
– Those employed pay the the other half of withholding = 84,200,000
– Those employed pay an average of 5% income tax to the State of CT = 63,000,000.
– The employees pay Federal income tax of 15% = 189,000,000.
The total comes to $420,000,000 every year.
You try to sell yourself as some deep thinking economist. Yet you look at Yale and conclude “$10 a month – interesting”. Your analysis is flawed, your thinking is flawed.
PS You asked if Wolf was lying. In the video he goes on about how Yale relies on the City of New Haven for fire protection and pays nothing for that service. Actually Yale pays New Haven $8,000,000 a year for fire protection. So Wolf did lie.
BKrasting,
I appreciate your numbers for the other types of tax. The thing I found interesting was how little actually goes to New Haven.
Do you think taxes are too federal in nature and not enough local? I ask sincerely.
State and local by Yale… $4.3 million + $63 million = $67.3 million
Federal and withholding… 2 x $82 million + $189 million = $353 million
One problem with the banking industry was that local banks became more centrally located in places like New York. Such that money saved on communities was being siphoned to New York away from the communities. There are efforts now to reverse that trend.
Would it be good to divert more taxes to the local level? What do you think?
The 35k employed by Yale live in and around New Haven. They either rent, or own. Either way, those people are contributing to the local tax base. It is the jobs and the revenue that Yale creates that is important. New Haven gets its share from the underlying property taxes that are paid.
Should more go to the States? I don’t think that is an easy answer. Consider CT, since you brought up that state. State residents pay federal taxes, and through a variety of transfers the States get some of that money back. For example:
NY pays $250b and gets $146B
Texas pays $265B and gets $147B
California pays $369B and gets $248B
These big states are paying much more than the get.
In New England the smaller states have the following results:
New Hampshire pays $11.5B and gets $8.5B
Rhode island pays 13.9B and gets $8.4B
Vermont pays $4.3B and gets $4.7B. Vermont gets more than it pays.
Massachusetts pays $100B and gets $68B.
Connecticut pays $57.7B and gets $65B. Connecticut “wins” the regional record!
The question is not should states get more, but why do some states get much more than others?
In the case of CT it goes back a long way. The industrial cities of Hartford/ New Haven were busted by the decline in local manufacturing. All sorts of jobs went overseas. Blame the global wage differentials, blame NAFTA., blame a strong dollar – but don’t blame Yale.
https://en.wikipedia.org/wiki/Federal_taxation_and_spending_by_state
BK:
“The 35k employed by Yale live in and around New Haven. They either rent, or own. Either way, those people are contributing to the local tax base. It is the jobs and the revenue that Yale creates that is important. New Haven gets its share from the underlying property taxes that are paid.”
You are deflecting and hiding behind the same argument as purported for corporations and it is a big “so-what.” The University the same as corporations is a burden upon the infrastructure of the community, the state, and the nation. They have to pay for what they consume in the same manner as what citizens do. I did not look; but, I am assuming Yale is incorporated and there fore a legal entity the same as you and I and furthermore entitled to the same taxation and liabilities as any legal citizen.
BK, your argument is weak.
BKrasting
Thank you for those numbers. I appreciate your work to find them. They are very helpful to understand the issue. The European Union is lacking this kind of federal transfer system from one state to another mostly based on need. I am grateful for the US system. It still works better than Europe.
Run – You want tax non profit colleges and Universities. You want to increase the cost of education. Bad plan.
Following the same reasoning you want to tax the thousands of not for profit hospitals. You want to increase the cost of health care. Bad plan.
Next you would suggest that houses of worship also pay your taxes. Silly plan.
And you think my position is weak?