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Inequality: Obama’s Speech, Detroit’s Bankruptcy, Taxes

by Linda Beale

Inequality: Obama’s Speech, Detroit’s Bankruptcy, Taxes
Was Obama’s speech on inequality really what Michael Lind claims in “The Day the Right Lost the Economic Argument” Salon.com (July 25, 2013)?

The right, both here and internationally, has been pushing for austerity for most while those at the top reap unparalleled rewards from upward-moving stocks and their interests in private equity and other financial assets.  The problem with austerity is that it puts all the burden on those who can least bear it, and rewards those with capital assets (mostly, people who grew up from birth onwards with incredible advantages).  The problem with austerity as the prescribed path to prosperity is that it doesn’t work.

Obama’s speech, says Lind, gave “a capsule summary” of mainstream progressivism.

In the period after World War II, a growing middle class was the engine of our prosperity. Whether you owned a company, swept its floors, or worked anywhere in between, this country offered you a basic bargain – a sense that your hard work would be rewarded with fair wages and benefits, the chance to buy a home, to save for retirement, and, above all, to hand down a better life for your kids.

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Productivity really is demand constrained

To find out if productivity is really demand constrained, let’s look to see what happens when productivity is up against the effective demand limit. We will find that productivity stops and sits for a number of years. First we get the data and build the model.

The data will come from this graph at FRED. The graph shows real GDP (Y), effective demand (E) and total labor hours (L) all indexed to 2005=100.

Prod graph 11
Graph #1

The light orange line is labor hours (nonfarm business sector), which are still at the same level of 15 years ago. Yet, real GDP (blue line) has risen over that time. So the basic story is that we have been more productive with the same labor hours. Here is a graph to show that real GDP used to rise with increased labor hours. However, since the 1990’s, real GDP has increased even though labor hours have not (total plot 1967 to 2013).

Prod graph 12
Graph #2

OK… then how can productivity be demand constrained when real GDP keeps rising in spite of the fact that labor is not increasing their hours to earn more income? In other words, wouldn’t a demand constraint be dependent upon labor hours? Well, no…

Productivity is normally determined by dividing real GDP output (Y) by total labor hours (L).

Productivity = Y / L

Now to show when productivity is constrained by effective demand, we divide effective demand (E) by total labor hours (L) to get the effective demand limit per labor hour. The reason is that what is produced in an hour cannot surpass the hourly effective demand limit. We will check the data to see if this reasoning holds up.

Real hourly effective demand = E / L

(Note: Effective demand has the equation,  E = Y * e/T …………. e = effective labor share, T = TFUR, total factor utilization rate (employment rate * capital utilization)

Real hourly effective demand, E / L = Y / L * e/T

Real hourly effective demand, E / L = productivity * e/T

Real hourly effective demand allows us to compare effective demand with hourly measurements, like productivity, real hourly compensation, capital used per hour, etc.

Now, what happens if we graph productivity (Y/L) against real hourly effective demand (E/L)? (Data in graph is given by quarters from 1967 to 2013.)

Prod graph 13
Graph #3

This graph is a scatter plot using the data from graph #1. Let’s first look at the red line which represents the effective demand limit. A basic principle of effective demand is that real GDP is constrained below effective demand. Thus the red line sets the theoretical effective-demand limit for productivity.

The blue line is how productivity has moved with real hourly effective demand. Productivity is how much production is produced (in real 2005 dollar terms) per hour. Real hourly effective demand is the potential demand per hour for hourly production.  In theory, productivity per hour should be limited by the hourly effective demand limit; Production would not go over the demand constraint. Thus, the plot in graph #3 should stay below the red line. In other words, productivity should stay below the effective demand constraint.

And what do we see in graph #3? The plot of productivity does in fact stay below the effective demand limit (red line). Productivity will bounce along the effective demand limit.

Using effective demand gives a wonderful way to view the behavior of productivity. Normally real GDP is plotted against effective demand. However, productivity moves differently than real GDP because of the variability in labor hours.

Yet, the most interesting part of this graph is how productivity behaves when it is close to the effective demand limit. Productivity stalls for a number of years… 3 to 4 years. We find that during those 3 to 4 years, productivity does not increase much at all. Effective demand will not move much either.

It is impossible to see in the graph, but there are numerous dots all bunched together in the spots where productivity stalls at the effective demand limit. I only count the dots up against the red line. You cannot see them all in the graph. For example, between 1994 and 1997, you see what looks like two dots peaking over the red line. There are actually 16 dots in that little space between those two dots; that is 16 quarters… 4 years of productivity being completely stationary and demand constrained.

If you look at the spot of 1977 to 1979, you will see a line that heads straight toward the effective demand limit and comes straight back. There are in fact 20 dots in that little line that sticks out. That is 20 quarters or 5 years worth of data. In other words, productivity and hourly effective demand moved in a perfectly straight little line to the effective demand limit and back over 5 years. This relationship between productivity and effective demand has never been seen before. It certainly is interesting.

When productivity increases up and toward the left in the graph (meaning hourly effective demand is declining while productivity increases), productivity eventually hits the effective demand limit and stops. Productivity sits against the effective demand limit  for a number of years until the tide turns and effective demand starts to increase. Then productivity can start increasing. In effect, effective demand has to start increasing first in order for productivity to start increasing. Then, hourly effective demand and productivity will increase together moving in the direction of the effective demand limit (red line).

Lots of words to describe a simple process. Let me boil it down. Productivity is often constrained by effective demand.

Let’s look at current data at the end of the plot. We see that productivity has come close to the effective demand limit again and has stalled out in the same spot for 2 years. Productivity itself has stalled for over 3 years. I will state three conclusions…

  1. Productivity is being compressed by the effective demand limit again.
  2. Productivity is not going to be increasing soon unless effective demand reverses its decline.
  3. For those, like Ray Dalio, who say that productivity will increase as the economy recovers, they will be disappointed. The implication is that the economy instead will have to grow upon an increase in credit-fueled consumption.

 

Other relate posts at Effective Demand blog

Demand determined output: Getting the definition correct

Productivity is Demand Constrained

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Playing Minesweeper

Lifted from Robert’s Stochastic Thoughts:

Minesweeper in the Washington Post.

“It’s like Minesweeper,” former Wyden staffer Jennifer Hoelzer told The Washington Post’s Ezra Klein in June, referring to the computer game in which players slowly probe unknown territory, looking for bombs. “You just have to ask questions to try to get the outlines of what they’re not telling you. Because they can’t tell you what they’re not telling you.”

[skip]

Instead of targeting just the calls of terrorism suspects, the program records “metadata” for millions of calls between average Americans. This includes the numbers dialed and the duration of calls, but not the content of calls. Intelligence officials have defended this program, saying their ability to connect phone numbers has led them to disrupt dozens of terrorist plots in the United States and overseas.

Notice that “intelligence officials” didn’t say that meta data from US to US phone calls has been useful in disrupting a terrorist plot.   Note that the officials didn’t say how many plots were in the USA or whether they are counting the guy who planned to bring down the Brooklyn Bridge with a blowtorch.

I think it is safe to assume that they would have stressed such highly relevant facts if the facts didn’t prove the opposite of their claim.  Recall how intelligence officials described useful data obtained from the high value detainee interrogation program (the program which eventually involved “enhanced interrogation”) and neglected to mention that the information was obtained *before* the interrogation was “enhanced.”

 

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Added information to the context for NSA legislation

Wired points to lawsuits fizzling so far, but also more secrecy and claims it is off limits to courts.

The Obama administration for the first time responded to a Spygate lawsuit, telling a federal judge the wholesale vacuuming up of all phone-call metadata in the United States is in the “public interest,” does not breach the constitutional rights of Americans and cannot be challenged in a court of law.

Thursday’s response marks the first time the administration has officially answered one of at least four lawsuits challenging the constitutionality of a secret U.S. snooping program the Guardian newspaper disclosed last month. The administration’s filing sets the stage for what is to be a lengthy legal odyssey — one likely to outlive the Obama presidency — that will define the privacy rights of Americans for years to come.

By the numbers also from Wired.

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Proposals for Cutting the IRS Budget

by Linda beale
Proposals for Cutting the IRS Budget

As the  budget battles loom again in our dysfunctional Congress, one of the targets of the right is, not unexpectedly, funding for the IRS.  Sequestration is already hampering the IRS’s ability to perform its functions.  See $6 collected for every $1.  But the right wants to cut funding for the IRS to a mere three-fourths of its current level.  See Rubin,  GOP Proposes Reducing IRS Budget by 24%, Bloomberg, July 9, 2013, at Accounting Today.

It’s worth thinking about what this kind of budget reduction for the IRS–one of the biggest “too big to fail” financial institutions in the country–would mean.  Remember that the IRS performs essential governmental functions–enforcing the tax laws and collecting necessary government revenues.  In connection with these enforcement and collection functions, the IRS has implement a number of congressional policies (often with very little guidance) and, working with others in Treasury, provide guidance in the form of revenue rulings and regulations for many different types of taxpayers, as well as internal procedural guidelines for revenue officers.  It has to determine eligibility of numerous organizations for the various “tax-exempt” categories Congress has created.  It has to track information received from the myriad tax-reporting provisions.  It has to ferret out tax scams and shelters invented by high-paid accountants and law firms and in-house counsel.  It has to examine and audit and negotiated with taxpayers who are often better resourced and therefore able to “outgun” the agency.  It has to provide information and testimony to Congress.  It has to interact with tax lawyers in their professional organizations, such as the ABA Tax Section and the NYSBA Tax Section.  And, to do its job decently well, it must spend considerable effort recruiting and training employees and overseeing them.

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National Security at Any Cost

We do have Fourth Amendment Rights. Fourth Amendment Rights are for everyone: Tea Partiers, Republicans, Democrats, Independents…. The Obama administration is moving us step by step towards a totalitarian regime, where the interests of the few over-ride the democracy of the many. Read the Fourth Amendment carefully:

The right of the people to be secure in their persons, houses, papers, and effects against unreasonable searches and seizures, shall not be violated, and no Warrants shall issue but upon probable cause, supported by Oath or affirmation, and particularly describing the place to be searched, or the things to be seized.

Those who plead National Security at all costs are no different and no less dangerous that Joseph McCarthy. He, too, pleaded National Security, as he destroyed countless lives and reputations. Nor are those who plead National Security at all costs any different from J. Edgar Hoover who spied on Martin Luther King in the name of National Security.

Do you really think that the kind of free hand the NSA is asking will protect us from the likes of McCarthy and J. Edgar Hoover? I do not think so.

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Senators promised 50 years of secrecy on their tax reform proposals

by Linda Beale

Senators promised 50 years of secrecy on their tax reform proposals

There continues to be more blather about the need for “tax reform, and buddies GOP Dave Camp and skin-deep Dem Max Baucus seem to be intent on accomplishing something “big”.  And that’s what’s worrying me.

The Republicans have been arguing that we need tax reform to “simplify” the Code, but that’s close to ludicrous.  Most of the complicating portions of the Code exist for two reasons:  (1) to provide some anti-abuse provisions to counter the tax avoidance techniques of wealthy, sophisticated taxpayers (including multinational corporations) and (2) to provide special tax subsidies through tax expenditures, again mostly for the wealthy (think capital gains preference) and industries with clout (consider the various subsidies for the natural resources extractive industries), accompanied by a few good ones that benefit the poor and marginalized individuals (such as the Earned Income Tax Credit).  We shouldn’t get rid of the anti-abuse provisions or of those tax expenditures that support lower-income families or favor emerging industries like wind power.  That leaves getting rid of the subsidies for Big Oil, Big Pharm, etc as the only simplifying moves that make much sense.  Something tells me that’s not what will come of the Camp-Baucus rewrite.

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The trend in US corporate profits is what you think it is

by Rebecca Wilder

The trend in US corporate profits is what you think it is

In my research for an article about the cross section of national income, I ran across this piece in Forbes by Tim Worstall. In this article, he uses proprietary Bloomberg and WSJ data for 2012 corporate offshore cash holdings to assess that corporate profits abroad are driving a reasonable share of the increase in the BEA’s measure of corporate profits: (see my post from Monday, or Ed Dolan’s post from June):

“there’s a simple enough explanation for at least part of it: simply globalisation.

Now what is it that we know about American companies and their profits? Something that has rather changed over the past decade or so? Yes, that’s right, we’re in a huge period of globalisation. So much so that US companies are now making very large profits outside the US economy. Apple AAPL -1.58% is making phones (or having made for it) in China and selling them in Europe. This isn’t, in any real sense, part of the US economy. The same goes for Google GOOG -1.53%, Microsoft MSFT -11.37% and however many other companies you want to study. Profits are being made offshore, out there in the global economy.”

But this is just wrong. According to the Bureau of Economic Analysis (see Table 12 of the BEA Q1 2013 release), aggregate corporate “rest of the world” profits – i.e., large US corporations with earnings abroad – declined $8.9 billion in 2012.

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Productivity is Demand Constrained

I was watching a video from the World Economic Forum 2013  in Davos, Switzerland. The video is a panel discussion on the subject, “No growth, easy money, the new normal”. The World Economic Forum 2013 took place in January 2013. It is basically a discussion of monetary policy in dealing with the crisis.

In the video (about 20 minute point), Ray Dalio who founded Bridgewater Associates says that future growth will have to be low-debt growth. The issue then becomes productivity and how countries become competitive. The next speaker, Brian Moynihan, CEO of Bank of America, then says that the labor force that an American business employs in the United States is not related to its business prospects due to the nature of globalization. Labor and sales are found globally. In effect, businesses can fulfill their demand and their general business plan globally.

After the 30 minute point, Brian Moynihan says the economic issue is really becoming a demand issue. There is plenty of liquidity within the financial sector, but the demand for production is not there. Ray Dalio then supports that idea by saying that the liquidity will somehow make its way into purchases… purchases of goods and services, equities, gold, you name it.

Ray Dalio (47 minute point) states 3 conditions for a good recovery that “debt doesn’t rise faster than income, that income doesn’t grow faster than productivity and productivity grows at a decent pace”.

Their argument is based on productivity increasing. But productivity is a complicated issue. Even in the United states, productivity has flat-lined for the past 3 years. Let’s look at some of the headwinds using 2 equations for productivity.

Productivity = National income / Total labor hours

We can see that if national income increases, then productivity will increase. But in order for productivity to rise faster than national income, total labor hours must increase but increase slower than national income. Thus economic growth will be productivity-led and not debt-led. This is what Ray Dalio describes.

There is a careful balance here between making the economy more productive with machines and computers, and also employing more labor. The tricky part is that machines and computers are requiring less labor. So certain companies may be more productive with machines, but if this becomes an overall trend, it may be very hard to increase total labor hours enough that growth will not be debt-led.

The second equation for productivity…

Productivity = Real hourly compensation / Labor share

There is a problem here. In order for productivity to increase, real hourly compensation must rise relative to labor share. They can both fall, it is just that real hourly compensation must then fall slower.

Can we even imagine wages and such falling more?… Yes.

At the 3:40 minute point, the panel member from France says that France is going forward with a plan to reduce labor costs by 4% in 2013, 6% in 2014, in order to be more competitive. The panel members generally agree that competitiveness is key to each country moving forward. We can assume that there is pressure to keep labor costs controlled in each country to maintain their competitiveness.

So, by looking at the second equation above, if real hourly compensation falls and productivity is expected to rise, then labor share would have to fall even further. The result would be more profits for corporations. But there is an even more troubling problem. If you lower real compensation, you tend to lower demand. Yet, they already said above that the issue going forward is demand.

Hmmmm…..

OK… let’s hope that real hourly compensation rises at least in the United States. My view is that labor share has already anchored into an effective labor share of 73.4%. So labor share is now a constant. This is based on the following graph…

Monetary polciy 8
Graph #1

The lines come from an equation to analyze the relationship between labor share and the TFUR (labor utilization * capital utilization). The line goes to zero when effective labor share (els) and TFUR are equal.

Reflective Fed rate curve = els*(els-TFUR)/(1+TFUR)

The green line in graph #1 shows that effective labor share was anchored around 80% through all business cycles from 1975 to 2001. Since 2001, the line has shifted to the blue line, which now shows an effective labor share anchor of 73.4%. The point is that labor share is now anchored into the dynamics of the present business cycle and will be hard to shift up or down from here. The reason is competitiveness. As productivity grew, labor share dropped in order for business to stay competitive with real hourly compensation under control.

So, it will be hard to raise labor share due to a need for competitiveness. But then where is the demand going to come from? Ray Dalio (46:20 minute point) says that spending can be in money or credit. He says that if credit picks up, then money, meaning the liquidity in the system, can decrease. Central banks want to decrease the liquidity at some point to prevent inflation. While he says spending is the important thing, he basically says that the spending has to be balanced with the productivity growth rate. However, he also said that national income has to rise faster than debt. So there seems to be a problem in his argument, because he is pointing to the rise in credit/debt as part of the excess liquidity solution, but debt has to grow slower than income growth.

Now, if real hourly compensation has to be controlled for competitiveness, and labor share has already anchored in for this business cycle, then demand will somehow have to be increased with credit. However, as the economy starts to pick up, there will be a rise in some interest rates. We have already seen a rise in mortgage rates. A rise in interest rates related to purchases will be a headwind against demand.

Then, how does effective demand play into this? The problem is that effective demand is already putting a limit on productivity. I have already said above that labor share dropped so that productivity could be competitive by keeping real hourly compensation under control. Yet, there is a limit to how far labor share can drop, because effective demand also drops. And if effective demand drops all the way to real GDP, the economy will come to a screeching halt. Effective demand is already so low that we do have a new normal at a lower level of labor and capital utilization.

So labor share has found a niche to sit in… effective labor share anchoring in at 73.4% or so. The effective demand limit has anchored in. If labor share were to fall more, the economy would screech to a halt. If labor share were to rise, real hourly compensation would have to rise to keep productivity constant or rising. Yet, a rise in real hourly compensation will be difficult in an environment of high unemployment and global competitiveness.

Ray Dalio says that productivity must rise, but the only way to express an increase in productivity is through a rise in real hourly compensation. Labor share is already anchored in. Well then, this will be interesting. How many countries are going to raise their real hourly compensation?

In conclusion, there are many contradictions in what the panel members say. They are hopeful, but… the constraints of demand, credit, productivity, competitiveness and labor compensation are going to be very tricky to work out just right. The economy is in a delicate balance going forward. The question now lies in which countries will respond to social unrest with higher wages. And then how will business respond to maintain their competitiveness?

(Note: Competitiveness means profit maximization for corporations. Higher wages contradict maximum profits. Wages have been set according to the private costs of business, instead of the social costs of labor. Somehow societies will have to find a way to raise wages to a level corresponding to the social cost of labor. Meanwhile both Wal-mart and McDonalds are fighting the living wage.)

 

Source

HODMRD. Davos 2013 Bloomberg) No Growth, Easy Money The New Normal. youtube.com. 7/18/2013. Retrieved from https://www.youtube.com/watch?v=R90-qXhyw5E

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