Relevant and even prescient commentary on news, politics and the economy.

Bush’s Tax Increases

Max speaks and we should all listen:

There are no tax cuts. Banish that phrase from your mind. You haven’t seen any. Republican control of the White House and Congress has yielded trillions in tax increases since January of 2001. How can this be? Simple. When you spend more, and when you pass laws that commit the government to spending more in the future, you increase taxes, sooner or later. Spending not financed by current taxes will be financed by future taxes. A debt increase is the present value of future increased taxes. If taxpayers merely pay interest on the debt incurred, forever, the present value of the interest payments is the initial increase in debt.

Read the whole post – as Max is 100% correct (as usual).

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FED Rate Increase Disappoints Me and Kudlow for Different Reasons

James Hamilton provided an interesting discussion of monetary policy in advance of today’s FED decision with some good links that did not include Mark Thoma:

Thus, according to the CBOT 30-Day Federal Funds futures contract, there is a 100% chance the target rate will increase .25% to 3.50%, and a 9% chance it will increase an additional .25% to 3.75%.

It seems the FED raised this rate to only 3.5%, but that likely disappoints Lawrence Kudlow who probably was hoping for no increase:

If you prefer a commodity-price-rule approach to monetary policy, the following will beg your attention. The Commodity Research Bureau’s spot commodity index (which excludes oil and gold) has been flat for about 19 months, stretching all the way back to early 2004. This commodity flattening follows the sharp commodity recovery of 2002-03, which itself followed a protracted period of commodity deflation that reached back to the 1997-2001 period. So it’s been a bumpy ride for Federal Reserve policy. But the key point, insofar as Fed strategy should be concerned, is simply that the central bank has succeeded in removing most, if not all, of the excess liquidity they created following 9/11 and the vicious deflation that preceded the terrorist attacks. In my view, the Fed should declare victory and stop their auto-pilot restraining actions before they completely flatten or invert the yield curve.
While I may agree with the policy recommendation, I’m not a fan of the commodity-price-rule approach. But to be fair, Kudlow is at least finally articulating his preferred monetary rule. But doesn’t it seem odd that one would wish to have the FED run easier monetary policy during go-go periods such as the late 1990’s and tighter monetary policies during weak labor markets such as what the U.S. experienced from late 2001 through 2003?

I was hoping the FED would not raise interest rates as I see the labor market is still being rather weak. Kudlow, however, thinks the labor market is quite strong. I know why I’m disappointed in today’s news that the Federal Fund rate was increased – but as Mark notes, it could have been worse. I bet Kudlow is also disappointed – but the reason for his disappointment is likely to be different than mine.

Update: Mark Thoma has more on the news from the FED as does Bill Polley. Also see Bill’s post that proceeded the news.

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Judith Miller, Robert Novak, Cokie Roberts, and the WSJ op-ed page

Cokie Roberts on ABC’s This Week suggested that the Novak blow-up showed that we need a “press shield law”. It seems the WSJ op-ed folks have sounded a similar theme:

we warned that the media would regret their demand for a special counsel to discover Mr. Novak’s sources, since that same counsel would eventually turn on them. And so the special counsel has, sending Judith Miller of the New York Times to jail for contempt. The members of the liberal press pack owe Mr. Novak an apology, nt vice versa.

Joshua Marshall goes after the earlier nonsense in this WSJ op-ed. Maybe Ms. Roberts should have read what Joshua provided here before going on This Week:

JUDY MILLER MET with Scooter Libby on July 8th 2003 to discuss Valerie Plame.

Ms. Miller is not protecting a source. She is protecting Scooter Libby as the entire purpose of that July 8, 2003 meeting was Libby’s attempt to get Ms. Miller to out a CIA agent for a partisan agenda. Her only defense – and it’s a weak one at that – is that she did not do the dirty work leaving that to Mr. Novak. I guess Ms. Roberts was a shield law for reporters to assist corrupt government officials.

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Accounting 101 for Donald Luskin

Brad DeLong catches Donald Luskin failing to understand that “deficit” means the annual increase in “debt”:

When an American (1) labors or invests to earn money, (2) chooses to spend that money on foreign goods, and (3) the foreign maker of those goods doesn’t spend that money on American goods, somehow debt is created. I don’t see it. Where’s the debt? Or at least, where is the debt that arises uniquely in virtue of the trade deficit?

Brad seems to be wondering if Luskin really is the stupidest person alive given all the competition from his National Review colleagues, but I’d rather help this clearly confused person out as well as to see if he has any point in his confused rant. In a way, one has to start at the beginning with the simple notion that to intelligently opine on any issue first requires one understands the concepts including the appropriately terminology and then one has to know how to apply these concepts to real world data. Brad is noting that Luskin has skipped the freshman college lecture on the concepts before jumping into application. So forgive me for some rather obvious balance sheet and income statement ideas that apply to nations as well as to individuals.

One’s wealth can be thought of as the sum of one’s real assets and one’s net financial wealth. Savings (S) represents the flow increase in wealth with investment (I) representing the flow increase in real assets. The difference, often defined as a surplus, represents the flow increase in financial wealth. If a person – or a nation – investments more than it saves, then its financial wealth declines over time. In one way, a nation is a collection of individuals with one caveat (which will be important later) being that the nation’s population likely is growing over time. For a nation, the current account is defined as S – I, that is, national savings minus investment.

Luskin may be trying to argue what some conservatives claimed over 20 years ago – that the large current account deficits of the early 1980’s were not bad as they represented strong investment relative to moderate savings. If one goes back to 1980, the U.S. was described as the world’s largest creditor as our net financial wealth was quite high. Five years later, however, our net financial wealth was virtually zero. And we have continued to experience current account deficits, which implies that our net financial position is one of substantial debt. But haven’t we accumulated substantial real assets in the process according to Luskin’s “logic”.

To see why his logic does not apply well to the American economy, let’s consider a couple of hypothetical examples as we also remember what James Hamilton noted. In both of our examples, assume net national product is $10 trillion and consider the implications of a current account deficit equal to $0.5 trillion. In the first example, assume national savings is $3 trillion so investment is $3.5 trillion. In the second example, assume national savings is $0.3 trillion so investment is $0.8 trillion. Luskin seems to be talking about the first example where real assets are growing rapidly even relative to a growing population. While a net investment to NNP ratio may be a good description of the Chinese economy, the U.S. economy is more akin to the second example where real asset growth barely matches population growth. On a per capita basis, our real asset to worker ratio is not rising but our indebtedness to the rest of the world is.

Hamilton does a very nice job of explaining what the issues are. If an economy is investing a lot with most of its investment being from savings, then what Luskin has tried to express – albeit poorly – might make sense. But Luskin really does need to understand the real world point that U.S. savings is quite low.

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Krugman: That Hissing Sound

Dr. Paul Krugman writes in Monday’s NY Times:

This is the way the bubble ends: not with a pop, but with a hiss.

Housing prices move much more slowly than stock prices. There are no Black Mondays, when prices fall 23 percent in a day. In fact, prices often keep rising for a while even after a housing boom goes bust.

So the news that the U.S. housing bubble is over won’t come in the form of plunging prices; it will come in the form of falling sales and rising inventory, as sellers try to get prices that buyers are no longer willing to pay. And the process may already have started.

We can look back at historical data and confirm Dr. Krugman’s point. Here are the nominal price declines for three busts: Los Angeles in the early ’90s, San Antonio in the mid ’80s (the oil patch bust) and Hartford starting in ’89. The peaks of all three housing booms are aligned on the left and the relative price declines are plotted by quarter after the local market’s price peak.

Click on graph for larger image.

Prices did not collapse, rather they declined “with a hiss” over a number of years. For the declines in real terms (adjusted by CPI less shelter), see this previous post. Back to Krugman:

Bubbles end when people stop believing that big capital gains are a sure thing. That’s what happened in San Diego at the end of its last housing bubble: after a rapid rise, house prices peaked in 1990. Soon there was a glut of houses on the market, and prices began falling. By 1996, they had declined about 25 percent after adjusting for inflation.

And that’s what’s happening in San Diego right now, after a rise in house prices that dwarfs the boom of the 1980’s. The number of single-family houses and condos on the market has doubled over the past year. “Homes that a year or two ago sold virtually overnight – in many cases triggering bidding wars – are on the market for weeks,” reports The Los Angeles Times. The same thing is happening in other formerly hot markets.

Rising inventories is the story in much of the country. If the process has already started, as Krugman suggests, the next step will be a drop in transaction volumes followed by the slow, steady decline in prices over many years.

Krugman concludes:

Meanwhile, the U.S. economy has become deeply dependent on the housing bubble. The economic recovery since 2001 has been disappointing in many ways, but it wouldn’t have happened at all without soaring spending on residential construction, plus a surge in consumer spending largely based on mortgage refinancing. Did I mention that the personal savings rate has fallen to zero?

Now we’re starting to hear a hissing sound, as the air begins to leak out of the bubble. And everyone … should be worried.

That is my biggest concern: the impact of the deflating housing bubble on the US economy.

Best Regards, CR Calculated Risk

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Rising Mortgage Obligations

CNN/Money reports:

On average, homeowners have 56.3 percent equity in their homes, according to Demos, a public-interest research group. In 1973, equity averaged 68.3 percent; in the 1950s, it was upwards of 80 percent. Two main factors are at work:

Homeowners are starting off further behind. In the past, the standard downpayment was 20 percent. A 2003 National Association of Realtors survey reported than less than half of all home buyers now put that much down; many obtain 100 percent, even 103 percent, financing.

Homeowners are yanking out cash. From 2001 through 2004, Americans took $330 billion in equity out of their homes, according Freddie Mac. In 2005 alone, they’ll pull out as much as $160 billion.

Demos’s senior research associate and author of A House of Cards: Refinancing the American Dream, Javier Silva, said that, even in the absence of a real estate crash, many families “are facing a financial crisis,” partially because they’ve taken on more mortgage debt. Already, the average American’s financial obligations ratio (FOR) – all your regular bills you must pay each month compared with income – has expanded to 18.45 percent. That’s up from about 15.5 percent in the early 1980s, and among the highest since the Federal Reserve began calculating the statistic.

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Bush Defends Tax Cuts as Deficit Reducing

Mark Thoma listens to the President’s Saturday morning address so we don’t have to – and provides this link:

”The tax relief stimulated economic vitality and growth and it has helped increase revenues to the Treasury,” Bush said in his weekly radio address. “The increased revenues and our spending restraint have led to good progress in reducing the federal deficit.”

How did his speechwriter cram so much dishonesty in two short sentences? If we have had spending restraint and strong growth – how does one explain the fact that Federal spending as a share of GDP has risen from 19% in 2000 to 20.3% in 2004? To be fair, real spending has increased only 17% – but also note that real GDP has increased by a mere 9.6% over this four year period. In the meantime, real tax revenues have fallen by 12% with the revenue to GDP ratio now being only 16.8% as of 2004 as compared to 20.9% in 2000.

In many households, the kids are watching cartoons as President Bush delivers his Saturday radio address. Let me suggest that their parents would be better advised to join their kids than to listen to such clownish discussion of our nation’s fiscal policy.

Given that this President is so willing to buy into free-lunch supply-side spin, is it any surprise that he’s also willing to buy into Palmeiro-Rove spin?

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Moderately Strong Employment Growth

The Employment Situation report for July 2005 has several pieces of good news. Payroll employment rose by 207,000. The increase in employment as measured by the household survey was enough to have the employment to population ratio rise to 62.8% from 62.7%. The unemployment rate did not change as the labor force participation rate rose from 66.0% to 66.1%. In short, the weak labor market is slowly improving.

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Ohio Republicans: Money Grows on Trees

I should have but I did not follow that special Congressional election in Ohio that carefully. But I did watch a couple of Ohio Republicans on the Wednesday edition of Hardball. One was Jean Schmidt who strikes me as a Karl Rove puppet only capable of repeating the talking points:

The people in Ohio are very smart. They understand the sacrifice that these men and women are making on our behalf. But they also want to talk about other issues, issues like taxes and tax reform, like a strong energy policy. They want to talk about national issues, including Iraq, but also border patrol and border security. And yesterday, as I stood outside the polls for 13 hours, I never heard people talking about the war. They talked about issues that were more important and more local to them … And if the Republican Party grasps that, then we will go about the business of reestablishing the line of distinction between Republicans and Democrats, particularly on fiscal matters, because the Democrats don’t represent change … They’re not saying they want to cut taxes and grow our economy and create jobs. They’re not saying they want a right-size government to make sure that we check runaway state government spending and put more emphasis on the private sector. So, they don’t represent any change but the change of being from the outside to the inside. And so, Republicans that are going to be successful next year are Republicans that show a real distinction between the status quo and getting our economy moving again by cutting taxes and right size in government.

Let’s repeat for the millionth time – Bush has shifted taxes not cut them. Of course, the GOP loves to talk about “right size in government”, which seems to mean increase spending so the kids have to pay more taxes down the line. Later, Chris Matthews allowed Secretary of State Ken Blackwell to babble without challenge:

Let me just say to you, Chris, that what I said was that Ronald Reagan and George Bush cut taxes and they started to restrain state government spending.

Does Blackwell even know the difference between the role of state governments and the Federal government? The best he could do is to say “started to restrain” as he then noted state spending not Federal spending precisely because his party does not reduce Federal spending to pay for these alleged tax cuts. Of course, GOP guests on Hardball know they can get away with this spin as the host is as clueless as they hope the voters are.

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