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Consumption by capital income will decrease further even as wages perk up

On a day that news comes out about wage growth perking up, the stock markets fall. (link to Dean Baker’s post) At the moment, the Dow is down 1.18% and the Nasdaq is down 1.81% for the day. The Dow has fallen below my attractor level of 16,800. A day when the stock market falls tends to make capitalists think a little more before they spend money on personal consumption. It might be better to just save the money. The market will not recover like it did in preceding years.

So all the waiting to get unemployment down so that wages could rise, so that consumption would strengthen… can be undermined by the peaking of the markets. Consumption by capital income will decrease further even as we see wage growth perking up. Firms have pushed their profit margins to high limits supported by easy monetary policy. Labor has been left behind. Labor demand, or better said, Labor appreciation, has been low.

In my view, we let capital income get too large. Now they have the capacity to significantly undermine the benefits of wage growth near the end of the business cycle.

This day tells the story…

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Shortage of labor by rejecting wage offers

This posts refers to an article written by Gary Burtless, Unemployment and the “Skills Mismatch” Story: Overblown and Unpersuasive.

Mr. Burtless says that businesses are complaining about a skills shortage in an environment of lots of job openings. What kind of model might describe this situation? I have one… (link to model)

ED and labor shortage

Labor share represents the strength of real wages to entice workers. The employment rate represents the percentage of workers that will be employed at that labor share. If labor share/real wages fall, less workers are willing to supply their efforts at that wage level. Yet firms will demand more workers… or better said, firms will expect workers to be just as likely to accept lower wages.

Now Mr. Burtless sees this situation and suggests to firms…

“It is cheap for employers to claim qualified workers are in short supply. It is a bit more expensive for them to do something to boost supply. Unless managers have forgotten everything they learned in Econ 101, they should recognize that one way to fill a vacancy is to offer qualified job seekers a compelling reason to take the job. Higher pay, better benefits, and more accommodating work hours are usually good reasons for job applicants to prefer one employment offer over another. When employers are unwilling to offer better compensation to fill their skill needs, it is reasonable to ask how urgently those skills are really needed.”

I agree with Mr. Burtless. Employers expect there to be enough workers who will take whatever wage is offered them. The solution is to offer better wages and benefits. And the aggregate data is showing that firms are not raising wages much.

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Yes, there is trouble in Japan

Just yesterday I posted about how weak real wages in Japan spells trouble for Abenomics. (link) Today we see by way of Stanley White and Leika Kihara at Reuters that output in Japan might be showing recession.

“Output is clearly weakening, enough to make you even wonder if the economy is OK,” said Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute.”

I said yesterday in the comments section of my post that GDP growth will slow down…

I keep something in mind… From my view, Japan is already up against the effective demand limit. How do I know? Capacity utilization has been falling all year while unemployment ticks down. So GDP growth will not keep rising as much as in the 1stQ 2014.

Disposable personal income is weak…
household spending got weaker too… You see a jump before the taxes in this graph.
If household spending simply returns to zero% growth, it will be trending on a lower path now after a few months of decline. We would need to see household consumption rise more than that.


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Output Gap not so large… just for the record

Janet Yellen said today that there is still considerable slack in the economy in terms of labor and capital. So there is less pressure to tighten monetary policy earlier.

Just for the record, from my own research there is little spare capacity left… Here is my graph… Warning! The potential GDP used in the graph below is not the CBO Potential. It is my own determination of potential GDP based on Effective Demand.

 update output gap

I measure the output gap as a % difference between capacity utilization and effective labor share.

For most of the past 40 some years, my measurement was close to the CBO measurement of the output gap, as seen in the following graph. (Blue line is real GDP – CBO potential).

update output gap comp

Janet Yellen must officially follow the blue line. She must see a large output gap. Yet I am seeing the output gap already filled in and real GDP nearing its natural limit. Inflation is ticking up. Unemployment is dropping faster. Stock market is hitting new highs. Profit rates have stopped rising.

update profit rate

Some speculation… What if the CBO projection of potential GDP is much too large? Well the economy will heat up much faster than the Fed expects, as seems to be happening now. Most likely they will be caught behind the curve. In which case, nominal interest rates would either have to rise sooner than expected, or be stuck at the zero lower bound as the instability of the economy warns against a nominal rate rise. In other words, the economy is more sensitive to a nominal rate rise now than it was say 2 years ago. Conceivably, the Fed may not want to tighten monetary policy, if the markets start decaying by the 2nd quarter of 2015. We could possibly head toward the next recession with the zero lower bound.

There looks to be a drama unfolding in monetary policy.

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Update on Consumption by Capital income

One economic variable that I track is the percentage of capital income used for consumption. It is not an exact number but an estimate in order to see trends over time. With the new revisions to GDP out today, I will update this variable.

I have previously said that consumption by capital income would drop this year as the stock market hits a plateau. In April, I said that the Dow Jones would rise to around 16,800 and move around that level. Some 3 months later, I look at the Dow right now and see it is at 16,851… Still within range.

A drop in consumption by capital income would offset increases in consumption by labor income.

So what is happening to the use of capital income for consumption?

update perc capital consump c

The most recent data, which will be subjected to further revisions later,  is showing a drop in consumption by capital income. How much money would this represent?

update gross capital consump a

This graph estimates a drop from $1.108 trillion to $882 billion from 1stQ to 2ndQ. This is a drop of $226 billion. The estimated consumption by labor income rose by $292 billion. So there was a net rise in consumption of $66 billion from 1stQ to 2ndQ.

Now I compare the rates at which labor and capital incomes consume. (Labor consumption is orange. Capital consumption is blue.)

update cap and labor consump rate a

We see the drop in capital income consumption below. The rate of consumption by labor income is trending just a bit upward, but holding quite steady. Since the 1980s, the rate of consumption by labor income tends to bloom upward after a recession, then begin a soft rise before the next recession.

Just one more graph to show that the savings rate of capital income rose in 2nd quarter.

update capital saving rate a

Past trends have shown that once capital income starts preserving itself through increased saving, a path to a recession forms. There has been a floor of 58% since the 1980s. The plot hit that floor twice recently and has moved up to 64%. It now looks to be possibly rising. The implication would be that the end of the business cycle is upon us and we have turned a corner toward an eventual recession.

Of course, the above graphs will be revised in the following months, but at least we get a preliminary look at an important trend. I am expecting the trends to continue developing a path to the next recession.

It is important to read the movements of capital income as they tend to have more insight into the trends of the economy.

Related Posts…

Lambert, Edward. How to calculate capital income’s consumption rate for recession forecasting. Angry Bear blog. September 4, 2013.

Lambert, Edward. Consumption by Capital Income could be falling… Look out. Angry Bear blog. May 30, 2014.


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The BRICS and the Bretton Woods Twins

by Joseph Joyce

The BRICS and the Bretton Woods Twins

The World Cup was not the only event of global significance to take place in Brazil this summer. The leaders of Brazil, Russia, India, China and South Africa met in the city of Fortaleza and announced the formation of two new financial institutions. One is the New Development Bank (NDB), which will finance “sustainable development” projects, with an eventual $100 billion in capital. The second is the Contingent Reserve Arrangement (CRA), which will make $100 billion available to lend to members in financial distress.

If these stated aims seem familiar, they should: they copy the missions of the Bretton Woods “Twins,” the World Bank and the IMF. Why, then, would we need another set of institutions with these mandates? A possible answer could be that these institutions will operate on a smaller scale, and therefore fill a gap between national organizations and international ones.  The principle of subsidiarity states that decisions should be made at the appropriate level, i.e., national policymakers address domestic needs, regional organizations deal with issues of regional relevance, and international institutions address global problems.  In this case, it might be argued that these middle-income nations are better able to make decisions on their level than in a larger forum.

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Medicare report shows Obamacare is bending the cost curve

The 2014 Medicare Trustees Report has just been released, and it shows that the program is on noticeably sounder financial footing than it was just a year ago. One of the biggest signs of this is that the projected depletion date of the Hospital Insurance (Part A) Trust Fund has been pushed back by four years just since last year’s report.

Indeed, Sarah Kliff points out that Part A actually spent $600 million less in 2013 than in 2012, even though it insured 1.6 million more people. As she emphasizes, the big news in this is that per capita Medicare Part A spending has been falling. This is a great sign that there is forward movement in controlling the actual cost of care.


Source:, link above

This is a big deal because not only are Baby Boomers like myself inching towards Medicare eligibility in large numbers, but hospitals and other providers (unfortunately, these two groups are merged in OECD statistics) account for most of the excess of US health care spending compared to other industrialized nations. In fact, comparing the United States to Canada, specifically, I found that payments to providers made up 85% of the per capita cost difference between the two countries.

Moreover, as Kliff points out, even when you include Part B and Part D into the calculation, Medicare’s per capita cost showed no increase in 2013. Zero.

Indeed, if you want to see a very graphic demonstration in the change in the cost curve, Louise Sheiner and Brendan M. Mochouk of the Brookings Institute (h/t Matt Yglesias) have just what you’re looking for.

Source: Brookings Institute, link above

Yes, in just five years, the estimated federal health expenditure has dropped by more than 2 percentage points of GDP by 2035, what would be a difference of $320 billion per year today.

Of course, the Patient Protection and Affordable Care Act cannot take all the credit for this improvement. But, as the Washington Post reported, the law “is slowing payments to Medicare Advantage” and, as also mentioned here, the penalty for hospitals with high re-admission rates has produced a substantial fall in the 30-day re-admission rate, from about 19% in 2011 to less than 18% in 2013. With better care, fewer re-admissions means lower costs.

Thus, while no phenomenon this complex can have a single cause, it is clear that Obamacare is having an impact beyond insuring 10.3 million uninsured, working as designed to improve health outcomes and reduce costs.

Cross-posted from Middle Class Political Economist.

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Policy Prefs: I’m Right at the Peak of the Common Man’s Bell Curve. Where Are You?

The idea of democracy is to give the people what they want, right?

Ezra Klein points us to a great study by Ray LaRaja and Brian Schnaffer examining policy preferences by political donors (5% of the population) vs. non-donors (95%).

Here’s my rendition of the results:

Screen shot 2014-07-29 at 10.48.43 AM

Whose preferences would you say are embodied in our current government?

Non-donors as a group are pretty coherent, and seem to give a good representation of what Americans want.

Donors, perceived as an entity, not so much — the group is downright schizophrenic, in particular due to that anomalous bulge at the right. And that 5% or .5% determines what we get — not the 95%. (Money? Pernicious? Feh.)

Now: ask yourself where the self-professed liberals and conservatives that you know land on the left-hand graph.

Just sayin’.

Cross-posted at Asymptosis.

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