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

Edward Hugh, RIP

I’m still not here,* but do want to note the official confirmation that One of the Good Ones

Some Great Reads on a Wintery Night

Been taking some time to recoup from back surgery (8 inch gash Lumbar area), catch my breath, and find some more interesting topics on which to write. There are some awesome reads out there if you just take some time to search for them.

Another Christmas gift from Dean Baker; The Effort to Divert Class War Into Generational War: Lessons On Economics You Won’t Get from Jeff Bezos In 5-Easy Lessons, Dean Baker takes apart the Washington Post’s Catherine Rampell’s Drunkenmiller-style rant on how baby boomers are ripping off the younger generations. Prof. Baker gives some sound explanations on SS/Medicare, PPACA, National Debt, the Economy, and Global Warming. Hat tip to Commenter Sandi for pointing to this Christmas Day article.

Obama, the Job Killer Paul Krugman compares Job Creation during Obamas and Bush’s Presidential tenures to date.

Charles Dickens on Seeing the Poor Tim Taylor at Conversable Economist uses Dickens Household Words journal reporting on poverty during a textile strike and a scene at a workhouse. “I know that the unreasonable disciples of a reasonable school, demented disciples who push arithmetic and political economy beyond all bounds of sense (not to speak of such a weakness as humanity), and hold them to be all-sufficient for every case, can easily prove that such things ought to be, and that no man has any business to mind them. Without disparaging those indispensable sciences in their sanity, I utterly renounce and abominate them in their insanity;.” “A Nightly Scene in London;” Charles Dicken. Excellent read if you are of a Dicken’s mind. You can also catch Tim Taylor’s other Charles Dicken’s article; “Management vs. Labor.”

– Paul Krugman writes an article Checking up on Obamacare. It appears the “sky is falling” conservatives have been wrong so far on the PPACA coming apart at the seams. Enrollments appear to be up if you also read Charles Gaba’s blog

” As of today, we should be appx. 1.9 million ahead of last year…but as you note, the question now is whether it will continue to stay ahead of last year *proportionately*.

11.2M vs. 9.3M = appx. 20% ahead. My 14.7M projection assumes 25% growth over 11.7M. It’s that 5% difference I’m concerned about (again, see the final week).

20% growth by 1/31 would be just over 14.0 million even. Again, I’m holding out for the Week 8 numbers before making any adjustments.”

– I had written about Brooksley Born, “The messenger wore a skirt,” says Marna Tucker, “Could Alan Greenspan take that?” a couple of years back and her efforts to regulate the derivatives market as the head of the CFTC. Greenspan, Rubin, Summers, Gramm and others fought to block her and were successful in doing so. I ran across this article by Bill McBride telling the story of Tanta, a blogger and another woman whose Calculated Risk articles were spot-on in detailing the issues leading up to the 2008 collapse. Tanta was widely read by many on the blogosphere as well as the news media.

Tanta, alias Doris Dungey, as a co-author at Bill McBride’s Calculated Risk blog had taken up reporting on the mortgage market (an industry in which she had 20 years experience) and pointing out their risky behavior prior to 2008. Here are some of her words on “piggyback mortgages, mortgage insurers, under pricing-risk, etc. (and I have already said too much) as taken from Calculated Risk (“Remembering Tantra”):

“Back to business: the mortgage insurers can raise rates all day long and it won’t do dog for them or anyone else. The whole problem is, precisely, that the “piggyback” mortgage was designed to get around MI. As long as there are second-lien lenders willing to price them cheaper than MI–and perhaps we’re seeing the beginning of the end of that–the MIs just lose business entirely in a credit bubble, since they’ve been burned before and haven’t been willing to follow the pricing down to ruin again. They remember the early 90s better than the regulators do (or did, maybe).

The real point is they have two dogs in this fight: they have lost market share because competitors (second lien and 100% lenders) have been willing to underprice risk, and they are at risk for the book of business they do have because increasing foreclosures and bubble-deflating in their market areas drag down values on insured as well as uninsured collateral. A lot of lenders and RE brokers have been dismissing the MIs for years now on the grounds that they’re just crying over lost business, but in my unhumble opinion the MIs have been pretty good risk managers in an irrational market for a long time, meaning they’re damned if they do and damned if they don’t. The fact that their interest in all this isn’t quite public-spirited altruism doesn’t mean they aren’t right. (If you remember, I’ve often made that argument about Fannie and Freddie.)

As I have been saying for years now, the reports from the MI companies ought to scare the crap out of Alt-A RMBS holders, but it never seems to. If the sector of the industry whose whole function is to underwrite default risk won’t touch that stuff at the (then) current market price, what makes anyone think the risk is adequately managed by a structured security? What are we going to do here, “make it up on volume”? (Inside joke: mortgage lenders always think they can keep slicing off risk premiums and ‘make it up on volume.’)”

What makes the story of Tanta interesting are several things:

– Her articles on Calculated Risk are crystal clear and go right to the heart of the issue which took me months of reading many difference sources and I still do not have as clear a picture as Tanta did. The articles are still there for those who wish to gain insight.

– “One of the criticisms of the movie ‘The Big Short’ is there are no women lead characters. That is a huge oversight, especially since Tanta was a key source for understanding the mortgage industry for many hedge fund managers!” Here was an expert right in the midst of us.

– Bloomberg’s “Odd Lots” has picked up on this missing and important element of a person’s story sounding the alarm of the coming collapse. Odd Lots: How One Woman Tried To Warn Everyone About The Housing Crash Joe Wisenthal and Tracy Alloway report on Tanta, “Tanta,” a pseudonymous mortgage industry professional who was trying to blow the whistle on the problems she saw emanating from her industry.”

I never got to know this Cassandra, Tanta, or read her words till much later than 2008 when she died and I had later joined Angry Bear. It is a great read by an interesting and very real person who was on the mark with what she reported on the mortgage market. Bloomberg took the time to recognize her as well as the WSJ, Boston Globe, WaPo, NYT, etc.

A conversation I was having with a PPACA expert:

“Reform is a process and not an event (I was complaining of the lack of reality by commenters) — and the process is happening. By about 2020 I think we will see results that will begin to make you & I, (not to mention folks like Elliot Fisher, Don Berwick, Diane Meier, etc. happy)

Medicare is beginning to negotiate better pricing (paying hospitals and docs for value, to volume) and in 2-3 years it will refuse to pay for many overpriced drugs. (This will make many Americans angry. They think they should have any drug that they think they need–or that their doctor tells them they need (even though their doc hasn’t read any medical research in 15 years) and that the rest of us should pay for it. Eventually, people will adjust.”

Much of the issue with healthcare is the uncontrolled cost of it. Pharma, hospital supplies, and doctors pretty much charge what they want to with little interference due to Congress. Whether it is a two-tier system of public and private funded healthcare or single payer; the control has to be put in place to administer cost and pricing the same as other advanced countries do. There is no magic bullet and it is un-nerving to me the insistence Single Payer is the magic bullet without the cost controls in place.

T.S.A. Moves Closer to Rejecting Some State Driver’s Licenses for Travel Not all Driver’s Licenses meet the requirements of being used for air travel identification. You may be pushed into a passport or a TSA Travel ID

U.S. Corporations Don’t Need Tax Breaks on Foreign Profits

Yves here. Notice that the justification for tax breaks so that corporations can show more profits is “competitiveness” that we’ve debunked repeatedly. As we wrote last year:

. . . ” Those provisions also serve corporations and the wealthy generally, since they further the use of tax reduction as an illusory economic stimulus. In fact, the main effect is a race to the bottom on corporate taxes, which results in a shifting of the tax burden to regressive consumption taxes and not-very-progressive personal income taxes. In other words, tax avoidance has long been a means for redistributing income to the capitalist classes.”

Sandwichman’s Lump-of-Labor Odyssey Part II ” Sneering at the so-called Luddite fallacy under the conviction that productivity would inevitably create more jobs than it destroyed used to be known as the ‘economic law’ that ‘supply creates its own demand’ — a faith that was once said, by John Kenneth Galbraith, to have “sank without trace” in the wake of John Maynard Keynes’s refutation of it.” A different view and one in which I agree.

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NAWRU III Hysteresis

This is the third of a series of posts on the non accelerating wage inflation rate of unemployment (NAWRU) estimated by the European Commission. In the first, I argue that this estimate is very important because it is used to implement the Stability and Growth Pact. In the second, I argue that the NAWRU is not well defined if there are anchored expectations or if there is downward nominal rigidity, and that there is strong evidence of both in 21st century Italian data (and therefore no hint at all that the NAWRU is a concept useful for those attempting to estimate the current Italian output gap). This post was a general overview and promise of future blogging.

When estimating the NAWRU the European Commission staff imposes the assumption that it shifts exogenously. The assumption is that the NAWRU is I(2) that is that the first difference of the first difference of the NAWRU is stationary. This implies that the NAWRU will almost certainly *not* remain in the interval from 0% to 100%. This makes no sense, but, in this post I will focus on the assumption that the disturbance terms which shift the level and the trend of the NAWRU are independent of all other variables. This means that the NAWRU is assumed to be genuinely exogenous — not just exogenous to the model but exogenous to the economy, and, in particular, not affected by monetary or aggregate fiscal policy. This means that when unemployment is decomposed by total unemployment = NAWRU + cyclical unemployment, the conditional distrubtion of the NAWRU depends on past NAWRU but is independent of current and past cyclical unemployment.

The assumption that these shifts are exogenous is extremely important. An alternative view (discussed in 1960 in the second major article on the Phillips curve) is that structural unemployment is not exogenous because, with time, cyclical unemployment can become structural. This possibility was discussed and named “hysteresis” by Blanchard and Summers in 1986. They and Eugenio Cerutti have returned to the topic and presented massive evidence that it is important in (pdf warning) 2015.

The assumption that the NAWRU is not affected by aggregate demand is not easily reconciled with the fact that, in the 21st century, the estimate NAWRU closely tracks total unemployment. This must be true of estimated NAWRUs as inflation has remained stable in Eurozone countries (warning same pdf to which I linked in an earlier post).

The hypothesis that the NAWRU is exogenous can be tested by embedding the model used by the Commission in a more flexible model. One possibility (actually explored by the commissions DG EcFin) is to allow the acceleration of wage inflation to depend on lagged shifts in total unemployment. I have estimated both the official model and this more flexible model by maximum likelihood. My impression (that is the output of a program I wrote but don’t swear by) is that the null of the official model is strongly rejected against the alternative. In any case, Blanchard, Cerutti and Summers present strong evidence that recessions often appear to have long lasting effects. The general pattern of European unemployment and wage inflation from 1980 on is of huge long lasting shifts in unemployment and a single huge decline in wage inflation in the 80s.

The assumption that the NAWRU is exogenous and must simply be accepted by fiscal authorities is critically important. If austerity causes an increase in the NAWRU, it can be self defeating. There is now overwhelming evidence that, especially when the safe short term interest rate is near zero, reduced government spending causes lower GDP and higher unemployment (pdf warning). If cyclical unemployment becomes structural, this implies a long lasting reduction in revenues and a long lasting increase in social insurance transfers. As noted by DeLong and Summers (pdf warning), this can imply that reduced government spending causes a higher long run debt to GDP ratio. The technical assumption that the NAWRU is exogenous has fundamentally important policy implications. It can be tested.

The econometricians at the Commissions DG EcFin are placed in a difficult position. They are required to look at data to apply the stability and growth pact, but they are not allowed to estimate parameters which suggest that the stability and growth pact causes instability and stagnation.

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Merry Christmas Bears, Commenters, Visitors, and Yes even Trolls . . .

3:00 PM Eastern Std Time.

Christmas Eve and my wife has made raviolis which will be our dinner along with salad and her home made Italian Dressing. Even with being achy and tired from the events impacting me this year; I am still fortunate to be enjoying a home cooked meal this year safe from the violent incursions affecting so many, to be home and not overseas staying alive while being short and counting the days to fly out, to have food on my table when so many go hungry or wait in lines at the shelters, to have a warm home in which to live with my family, to be employed making greater than median income and have other companies chasing me for my expertise, to have healthcare insurance in which to fall back upon when ill for the umpteenth time, etc. I am sure there are so many stories to be told here amongst us of how each of us are more fortunate than what we have written about, experienced, seen and know of, etc.

Merry Christmas, be safe with family, and enjoy the holiday

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Inventories to Sales Ratio Rising

By way of JimH in the comments section, the ratio of inventories to sales has been rising through 2015.

invent to sales

(link to graph)

Through the 1990’s and into the 2000’s, inventories were dropping with such things as advances in supply chain management and point of sale inventory control. However since the crisis, that trend is reversing. Businesses are keeping more inventory. And especially in 2015, the ratio increased quite a bit.

  • So why is the trend reversing?
  • Is China dumping products?
  • Are oil reserves rising as oil producers pump more and more to maintain cash flow?
  • Are businesses becoming less efficient?
  • Is the economy making businesses less efficient?
  • What effect might this increase have on inflation and employment?
  • To what extent might this new trend be a concern?

Please leave your opinion in the comments section below.

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Checking in on Consumption for Capital and Labor

Periodically I present updated information about consumption from capital and labor income. Using the NIPA accounts and labor share, I can separate consumption by capital and labor.

Total consumption is trending steadily upward.

update total consumption

Even with consumption trending steadily, in 2013 consumption by capital income began to move sideways, while consumption by labor income began to rise. It may be that labor-income consumption has returned to its pre-1999 trend. (In the graph below the amount of consumption is an estimate. The purpose of the graph is to show how the consumption is trending overtime. The actual amount may be above or below what is shown.)

Capital-income consumption is at a historically high level but leveled since 2013.

update cap and labor real consump

National income has been shared with labor in the last couple of years to the extent that labor has been able to use less of their income for consumption than just after the crisis.

update cap and labor consump rate a

I watch to see if capital consumption is declining, which is one signal of an approaching recession. No decline yet as of 3rd Q 2015… Capital income was still enjoying their tremendous bounty since the crisis.

To support the graphs above, consumption per employee began rising in 2013… and has been recently coming down. So rises in labor income are going less than 1-for-1 into consumption. (link)

update cons per employ

The returns to business for raising labor income may be diminishing.

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Dean Baker: “An Aging Society Is No Problem When Wages Rise”

The argument behind MJ.ABW in relation to Social Security (More Jobs. At Better Wages) by real economist and mentor Dean Baker of CEPR. Also an implicit underpinning of the Northwest Plan for a Real Social Security Fix. The whole thing is short if you want to read through: An Aging Society Is No Problem When Wages Rise

The past increases in the Social Security tax have generally not imposed a large burden on workers because real wages rose. The Social Security trustees project average wages to rise by more than 50 percent over the next three decades. If most workers share in this wage growth, then the two or three percentage point tax increase that might be needed to keep the program fully funded would be a small fraction of the wage growth workers see over this period. Of course, if income gains continue to be redistributed upward, then any increase in the Social Security tax will be a large burden.

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NAWRU II . There is no such thing as a NAWRU

This is the first of five posts I promised to write in this post.

NAWRU stands for the Non Accelerating Wage inflation Rate of unemployment. It is a concept used by the European Commission when deciding how much to allow Treasuries adhering to the Stability and Growth Pact to spend. The commission considers cyclical adjustments based on, among other things, unemployment minus the NAWRU. The Commission gives mere elected officials some slack if unemployment is above the NAWRU as estimated by Commission staff.

Unemployment is never far above the estimated NAWRU. The estimated NAWRU has dramatically increased in countries whose unemployment rates have increased. Estimates for Spain vary from 21% to 25%.

I think it is clear that there is something very wrong with the estimates. I think the approach has five fatal defects and should not be accepted as an area for further exploration let alone a basis for dictates to member countries. The first fatal defect of estimates of the NAWRU is that the hypothesis that there is such a thing has been rejected by the data. The concept survives only by changing the 1968 natural rate hypothesis into a natural rate model which is used without any assertion that it has testable implications which have not been rejected by the data.

The NAWRU is a meaningful concept only if the acceleration of wage inflation is a function of the unemployment rate. This might or might not be true. The logic was that wage settlements are made aiming for a real wage, so expected price inflation is incorporated one for one into wage inflation. It is assumed that all recognize that the nominal wage doesn’t matter, so there is no particular problem with cutting nominal wages when expected price inflation is negative. The opinions on this question of everyone who has ever had any role in negotiating wages were considered irrelevant. The argument went on that people won’t make forecasting mistakes with the same sign forever, so the coefficients of expected inflation on lagged inflation must add to one. Oh yes, it was assumed that expected inflation was a linear function of lagged inflation, because, uh, that makes the math easier. It was decided to cut out the middle periods and make the coefficient on once-lagged inflation one. Finally, somehow, lagged wage inflation took the place of lagged price inflation (I can’t even imagine a bad argument for this step, but the Commission took it).

The concept requires both that only the difference between nominal wage growth and expected inflation matter. This means that there is no downward nominal rigidity, that is there there is nothing special about nominal wage increases of zero nor any difference between wage inflation near zero and far from zero.

It also requires that expectations can not be anchored. Expectations which are sometimes anchored and sometimes not anchored are not a linear function of past outcomes. They are absolutely a feature of expectations elicited in experiments. When presented with random walks, people usually forecast mean reversion. However a series of increases in a row causes them to forecast further increases (Barberis, Nicholas, Andrei Shleifer, and Robert Vishny, 1998, A model of investor sentiment,  Journal of Financial Economics 49, 307–343). This is a robust result.

If there is downward nominal rigidity or expectations can be anchored, then there may be no well defined NAWRU. This doesn’t mean that it is impossible to calculate a number and call it the NAWRU. Rather it implies that there is a range of unemployment rates such that wage inflation does not accelerate. If that is the case, cyclical fluctuations of unemployment within that range will be incorrectly identified as fluctuations in the NAWRU. I think it is clear that, for Italy, this range stretches at least from 8% to 13%, since wage inflation has remained roughly constant as unemployment rose from 8% to over 13%. Wage inflation didn’t increase back when Italian unemployment was 8% nor did it decrease after unemployment rose to over 13%.

The simple fact is that, in the 21st century, there is almost exactly precisely zero correlation between the Italian unemployment rate and the change in Italian wage inflation. To calculate a NAWRU year after year with such data requires heroic data processing.

Here is a Phillips scatter of unemployment and wages for Italy



Data from FRED. There is one observation per month from February 1980 through February 2015. Winf is the percent increase in LCWRIN01ITM661S the “Hourly Wage Rate: Industry for Italy©: Seasonally adjusted” over the preceding year (so the series for Winf consists of overlapping 12 month intervals). Unem is LRHUTTTTITM156S”Harmonized Unemployment: Total: All Persons for Italy©:Seasonally Adjusted” from January 1983 on but is ITAURHARMMDSMEI “Harmonized Unemployment Rate: All Persons for Italy© : Seasonally Adjusted” for 1980-1982. I have no idea why one series is available only after January 1983 or why the other is available only before August 2012 or how they differ (in the period when both are available, they are very similar but not identical).

I think it is obvious that the graph doesn’t look as a Phillips curve should. Since January 2000, the unemployment rate has varied from 5.8% to 13.2 % yet wage inflation has varied only from 1.1% to 4.8%. 21st century changes in Italian wage inflation are dwarfed by the huge declines in the 1980s. According to the accelerationist Phillips curve, Italian wage inflation should have remained in double digits in the 80s and 90s or declined to well below zero by now.

It is possible to pick an arbitrary series of numbers and call them the highly variable NAWRU, that is, it is impossible to prove that no NAWRU exists (as it is impossible to prove a negative) but there is clearly no more evidence that Italy has a NAWRU than that it is haunted by ghosts.

Here is the graph for the 21st century



There is, perhaps, some hint of higher wage inflation at lower unemployment rates, but no clear acceleration. Nothing much seems to have happened to wage inflation as unemployment rose from around 8% to 13.2%.

The NAWRU refers to the acceleration of wage inflation. I consider the difference between wage inflation in one month and 12 months earlier (so it is an annual difference of an annual difference and the data refer to overlapping 24 month intervals)


This is an extremely impressively horizontal scatter. There is no sign of any association of unemployment and accelerating wage inflation at all. Here is a regression (with uncorrected standard errors)

. gen awinf = winf-winf[_n-12]

. reg awinf unem if month>2000

Number of obs = 181
F( 1, 179) = 0.00
Prob > F = 1.0000
R-squared = 0.0000
Adj R-squared = -0.0056

awinf | Coef. Std. Err. t
unem | 3.30e-07 .0396278 0.00
_cons | .0270689 .3569347 0.08

So “almost exactly precisely zero correlation ” means a correlation coefficient of 0.00 something and a regression coefficient of 0.00000033 . The T-statistic is not correct, the standard errors should be corrected for the 24 periods of overlap. But I don’t think that a T-statistic which is biased away from zero and equal to 0.00 really needs to be corrected. The almost exactly complete absence of any evidence of any effect of unemployment on the acceleration of wage inflation is extraordinary. It is extremely unlikely that two independent series would happen to have such low correlation.

This is the first regression I estimated with Italian data. Using the full sample I get a (statistically insignificantly) upward sloping accelerationist Phillips curve.

. reg awinf unem

awinf | Coef. Std. Err. t
unem | .0373827 .076396 0.49
_cons | -.8178216 .7054678 -1.16

I just now think that, maybe I should lead wage inflation acceleration (or lag unemployment)

awinf2 = winf[_n+12]-winf

. reg awinf2 unem if month>2000

awinf2 | Coef. Std. Err. t
unem | .0211333 .0482586 0.44
_cons | -.1483054 .4191373 -0.35

That doesn’t make much difference does it ?

There is no hint in the Italian data that there is such a thing as a NAWRU. Those with firm faith can still believe in the NAWRU, but their faith receives no assistance at all from the data.

update: typos corrected thanks to Reason and Marco Fioramanti. An explanation was revised aiming for comprehensibility following advice from Marco Fioramanti.

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