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

Productivity in the short run is a residual.

 Ken Houghton retweeted this letter…from the Financial Times; Unused Capacity:

“My brothers and I run a relatively small family business with a turnover of below £20m. We could easily cope with a 20 per cent increase in business with no extra staff, and even a 50 per cent increase might require only a 10 per cent increase in staff. This would mean a huge growth in productivity, and I strongly the suspect the same is true for most smaller and even many larger businesses across the UK.

For most wholesalers and retailers it is much the same. Walk into practically any shop and it’s clear they could cope with more customers with few, if any, additional employees. Even on Oxford Street or in Brent Cross or Westfield, rarely would you have to wait so long for service or to pay that you would walk out. A few restaurants and hairdressers are always full, but the sectors as a whole have huge unused capacity and they represent a very large part of the economy.

The economic models currently in use have failed to explain why wages have not increased as unemployment has fallen so low. These same models are incorrect in their conclusions about productivity growth — indeed these two failures are linked.

My conclusion based on observing actual businesses is that if nominal demand were to continue to grow then both productivity and real wages would start to grow more quickly, and economists and statisticians would again be left scratching their heads wondering why their models were wrong.”

Howard BogodLondon W9, UK

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Trump Fails To Certify JCPOA Iran Nuclear Deal

Trump Fails To Certify JCPOA Iran Nuclear Deal

I wish to be very precise here on this extremely important matter. President Trump has not “decertified” the JCPOA Iran nuclear deal.  Now Congress must ultimately be responsible. He has, after a lot of discussion and intervention by his national security team, failed to certify the deal.  This is not something that was part of the deal, but an epiphenomenon put in place by the US Congrees as part of a deal agreed to by former President Obama to get the deal through, a matter of every 90 days the US president certifying that Iran is complying with the agreement.  Two times running, President Trump certified it, confronted by the hard fact that Iran has been complying with the deal according to every official body in the world.  But, he has said he would not certify it, and reportedly he has blown up over this matter with screaming fits his c.  So his NatSec team has cooked up this partial save: OK, boy, fail to certify, putting it on Congress to really undo the deal.

In the face of way more to say than I shall here, let me point out odd items most will not. So one of those is a positive.  Even if the Congress fails to do what is right and reasonable and keeps the deal going, probably Iran will not pursue an active nuclear weapons acquisition program.  There are two reasons for this, which could easily be undone if Trump continues to insanely go after them.

The first is that this whole negotiation with Iran was an unnecessary farce to begin with.  Vilayet-al-faqih Ayatollah Ali Khamenei was issuing fatwas against the building of nuclear weapons as far back as the G.W. Bush admin.  Pres Bush even accepted two official National Intelligence Estimates (NIEs) that declared that Iran was not actively pursuing a nuclear weapons program. He did it twice.  The fatwas by Khomeini were the ultimate reason why these hard fought and deeply studied NIEs came forth, representing after all a consensus of every one of 17 plus US intelligence agencies, who have a wide variety of perspectives, some of them almost insanely hawkish.  But twice during the G.W. Bush presidency they came together to make this super official certification: Iran did not have an active nuclear weapons program, even though it had one earlier, one that dated back to the Eisenhower admin when the US supported their program under the Shah.  But, the bottom line is that while Khamenei is alive, there will be no Iranian nuclear program.

What this means is that ultimately Obama’s massive effort to negotiate a halt to the nonexistent Iranian nuclear program was ultimately a worthless empty exercise, much as I have on occasion praised it.  I mean, it was a noble and heroic and difficult effort,  Obama supported John Kerry in getting the Russians and the Chinese, as well as the EU and other obvious US allies, to go along with economic sanctions, which actually had an effect, given that Iran is actually a semi-democratic regime, so that even the hardliners associated with Khameini went along and agreed.  And beyond Iran, it was a big deal, the UN officially supporting it along with the Russia, China, UK, France, Germany, and the UN Security Council (oh, sorry, a part of the UN), as well as most of the rest of the world, aside from a handful of countries (not to be listed, although in most cases their intel/military support it).

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Enslaved to an Individualist View of Social Change

Enslaved to an Individualist View of Social Change

I note with some interest the debate over whether it is ethically necessary to refer to slaveholders as “enslavers” in order to convey our disapproval over their actions.  The obsessive use of the enslaving terminology in The Half Has Never Been Told (Baptist) bothered me at the time, and now I see he was part of a trend.

I understand the motivation—up to a point.  Anyone who participated in the slave system had a share in the responsibility for it.  It is not anachronistic to look at it this way, since many members of slave-owning households had the same feeling and chose to opt out.  Of course, this moral judgment applies not only to those who directly owned slaves, but also those whose livelihood was predicated on enslavement, which includes financiers accepting slaves as collateral and business owners producing goods for slave maintenance and exploitation.  To some extent, in my opinion, it even applies to workers for those slavery-based businesses: I’d like to think that I would never have taken such a job if I had been around back then.

Nevertheless, the insistence on language that parcels out responsibility to each participating individual implicitly distracts attention from the systemic, collective basis for slavery.  In what sense was an individual slaveholder an enslaver, personally responsible for the enslavement of his or her chattel?  An individual is responsible for whether they will be the one with the whip, but not whether individuals will be placed in bondage to someone.  The institutions of slavery, which encompassed the political, legal and financial mechanisms that defined, enforced and managed enslavement, took care of this.  Language that foregrounds individual responsibility backgrounds the institutional basis of the system.

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How Amazon’s Accounting Makes Rich People’s Income Invisible

By Steve Roth  (originally published at Evonomics)

How Amazon’s Accounting Makes Rich People’s Income Invisible

Image you’re Jeff Bezos, circa 1998. You’re building a company (Amazon) that stands to make you and your compatriots vastly rich.

But looking forward, you see a problem: if your company makes profits, it will have to pay taxes on them. (At least nominally, in theory, 35%!) Then you and your investors will have to pay taxes on them again when they’re distributed to you as dividends. (Though yes, at a far lower 20% rate than what high earners pay on earned income.) Add those two up over many years, and you’re talking tens, hundreds of billions of dollars in taxes.

You’re a very smart guy. How are you going to avoid that?

Simple: don’t show any profits (or, hence, distribute them as dividends). Consistently set prices so you constantly break even. This has at least three effects:

1. You undercut all your competitors’ prices, driving them out of business. Nobody who’s trying to make a profit can possibly compete.

2. You control more and more market share.

3. You build a bigger and bigger business.

Number 3 is how you monetize this, personally. The value of the company (its share price/market cap) rises steadily. Obviously, a business with $136 billion in revenues (2016) is going to be worth more than one with $10 or $50 billion in revenues — even if it never shows a “profit.” You take your profits in capital gains.

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IMF Fiscal Monitor: Progressive Taxation Need Not Deter Growth

IMF Fiscal Monitor: Progressive Taxation Need Not Deter Growth

The latest from the IMF is a must read for progressives even if it runs contrary to the nonsense coming out of the White House:

At the global level, inequality has declined substantially over the past three decades, but within national boundaries, the picture is mixed: some countries have experienced a reduction in inequality while others, particularly advanced economies, have seen a significant increase that has, among other things, contributed to growing public backlash against globalization. Excessive levels of inequality can erode social cohesion, lead to political polarization, and ultimately lower economic growth, but whether inequality is excessive depends on country-specific factors, including the growth context in which inequality arises, along with societal preferences. This Fiscal Monitor focuses on how fiscal policy can help governments address high levels of inequality while minimizing potential trade-offs between efficiency and equity. It documents recent trends in income inequality, including inequality both between and within countries, then examines the redistributive role of fiscal policies over recent decades and underscores the importance of appropriate design to minimize any efficiency costs. It then focuses on some key components of fiscal redistribution: progressivity of income taxation, universal basic income, and public spending policies for achieving more equitable education and health outcomes. The analysis relies on the existing theoretical and empirical literature, IMF work on inequality and fiscal policy, country experiences, and new analytical work, including various static microsimulation analyses based on household survey data. Simulations using a dynamic general equilibrium model calibrated to country-specific data and behavioral parameters illustrate the potential impact of alternative budget-neutral tax and transfer measures on income inequality and economic growth.

(Dan here…see also Yves Smith)

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Hassett’s Evidence on Transfer Pricing and the U.S. Trade Deficit

Hassett’s Evidence on Transfer Pricing and the U.S. Trade Deficit

In my last post, I questioned Kevin Hassett’s claim that transfer pricing manipulation was responsible for half of our trade deficit and asked what was the paper he referenced. We have the text of his speech:

There is another important factor to consider when thinking about how these changes will affect the economy. A recent NBER working paper (Guvenen, Mataloni, Raisser and Ruhl 2017) argues that profit shifting by large multinational firms causes part of their economic activity to be attributed to their foreign affiliates, leading to an understatement of U.S. GDP. Moreover, this profit-shifting activity has increased significantly since the mid-1990s, resulting in an understatement of measured U.S. aggregate productivity growth. The authors correct for this mismeasurement by “reweighting” the amount of consolidated firm profit that should be attributed to the U.S. under a method of formulary apportionment. Under this method, the total worldwide earnings of a multinational firm are attributed to locations based upon apportionment factors that aim to capture the true location of economic activity. The authors use equally weighted labor compensation and sales to unaffiliated parties as proxies for economic activity. Applying the formulary adjustment to all U.S. multinational firms and aggregating to the national level, the authors calculate that in 2012, about $280 billion would be reattributed to the U.S. Given that the trade deficit was equal to about $540 billion, this reattribution would have reduced the trade deficit by over half in 2012.

Formulary apportionment can take on many forms. One form is to allocate taxable profits by sales but this approach would likely lead to a different allocation of income than a true arm’s length approach especially for a nation that imported a lot of sourced produced abroad. Wasn’t this realization central to that debate over the Destination Based Cash Flow Tax idea? This NBER paper, however, does something else as noted by this summary:

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Puerto Rico, Transfer Pricing, and Kevin Hassett

Puerto Rico, Transfer Pricing, and Kevin Hassett

Scott Greenberg provided a nice summary of what section 936 was and how its expiration had contributed to Puerto Rico’s economic and fiscal difficulties:

beginning in 1976, section 936 of the tax code granted U.S. corporations a tax exemption from income originating from U.S. territories. In addition to section 936, the Puerto Rican corporate tax code gave significant incentives for U.S. corporations to locate subsidiaries on the island. Puerto Rican tax law allowed a subsidiary more the 80% owned by a foreign entity to deduct 100% of the dividends paid to its parent. As such, subsidiaries in Puerto Rico had no corporate income tax liability as long as their profits are distributed as dividends. When section 936 was in effect, U.S. corporations benefited greatly from locating subsidiaries in Puerto Rico. Income generated by these subsidiaries could be paid to U.S. parents as dividends, which were not subject to U.S. corporate income tax under section 936, and were deductible from Puerto Rico’s corporate income tax. Because of these generous tax incentives for business, Puerto Rico grew rapidly throughout the 20th century and developed a substantial manufacturing sector, though it remained relatively poor compared to the U.S. mainland. However, because section 936 made foreign investment in Puerto Rico artificially attractive – creating, in effect, an economic bubble – it left the island vulnerable to a crash if the tax provisions were ever to be repealed.

The story is that starting in 2006, the IRS would treat the Puerto Rican affiliates of life science companies as contract manufacturers which would greatly reduce the transfer pricing manipulation made legal under section 936. Greenberg notes:

2006 also marked the beginning of a deep recession for Puerto Rico, which has lasted until today. Puerto Rico’s high corporate taxes on domestic corporations along with low taxes on U.S. subsidiaries had skewed the Puerto Rican economy toward foreign investment from the U.S. When section 936 was repealed in 2006, foreign investment began to flee. Without a strong domestic corporate presence to fill the void, the economy began to contract, along with tax revenues.

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One more scene from the September jobs report: late cycle deceleration continues

One more scene from the September jobs report: late cycle deceleration continues

The rate of year over year job growth is probably the single best mid-expansion indicator, in part because there is very little noise in the Establishment survey jobs data YoY. But, as the below graph shows, going back all the way to 1948, while it is noisier the Household survey YoY jobs data also traces out the same pattern with very few exceptions (notable the early 1950s and the mid 1960s):

Even a cursory glance at the graph shows that we are on the decelerating side of that indicator. Here’s a close-up of the last 10 years:

Although the Establishment and Household numbers moved in very different directions this month, viewed in context both show a significant downshift in 2017 from the last few years.

Yesterday I noted that if leisure and hospitality jobs had grown by their 12 month average of +27,000 in September vs. their actual -111,000, the September Establishment survey would have grown by a relatively weak 105,000 (yes I know it is more complicated than that, but it is a good K.I.S.S. estimate). Since in September 2016 jobs grew by +249,000, even with that hurricane adjusted estimate, YoY job growth would have decelerated to 1.3%.

In the past-WW2 era, typically late-cycle deceleration was accompanied by (and generally caused by) an increase in inflation and an increase in Fed interest rates to chase after it. The few times there were multiple YoY peaks in job growth (the 1960s, 1980s, and 1990s), the Fed engineered “soft landings” where it lowered rates after initial raises.

Per Tim Duy, who has a good record of Fed-watching, even in the absence of rising inflation, they seem bound and determined to raise rates again in December. A December rate hike shouldn’t be enough to push the economy into a later recession, but it should put further downward pressure on job growth in 2018.

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Does Kevin Hassett Understand Transfer Pricing?

Does Kevin Hassett Understand Transfer Pricing?

Howard Gleckman does:

It is true that bringing US corporate rates in line with our trading partners may reduce incentives for improper transfer pricing. But there is a flaw in Hassett’s argument: While these practices are aimed at reducing tax lability, they do not represent real economic activity. And limiting income shifting won’t significantly increase domestic employment.

He was noting this presentation:

Kevin Hassett, chair of President Trump’s Council of Economic Advisers, argued today that the corporate tax cuts in the Sept. 27 Republican Unified Framework would boost overall economic growth. How? In large part because its corporate tax rate reductions would encourage firms to shift jobs from overseas to the US. But the claim is unsupported by the evidence. In a speech at the Tax Policy Center today, Hassett said that the GOP plan would not only increase domestic employment but also raise worker wages by an average of $7,000. That is quite a promise, but after unpacking his argument, it seems improbable at best. His claim: Making statutory US corporate tax rates competitive with the rest of the developed world would encourage firms to stop inappropriate transfer pricing, corporate inversions, and other income-shifting practices. Half of the US trade deficit, he said, results from transfer pricing.

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