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

Kerry’s proposed $7 minimum wage

John Kerry is proposing setting the minimum wage at $7.

This graph provides a nice time series of the nominal v. real value of the minimum wage over time with real done in terms of 1999$ (this series ends in 2001). With the price level in 2003 being 8% higher than it was in 1999, the real value of the minimum wage had dropped to $4.77, which was almost as low as it had dropped to during the late 1980’s. Assuming we passed Kerry’s idea now and inflation in 2004 is 2%, the real value would be bumped up to around $6.36, which would still be lower than where it was in 1968 ($7.07 in terms of 1999$).

Bush, on the other hand, wants a much more gradual increase over time in the nominal minimum wage. Bush is concerned that increasing the minimum wage will increase costs for small business. How gradual? He did not say but maybe he simply wants the nominal wage to keep pace with inflation so it’s real value stays at $4.77 in real terms.

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Postcards from Old Europe – Policy Traction

Last week’s installment saw me try to do some Fed-watching, this week sees me hop back to the other side of the Atlantic to briefly examine the differing effects of monetary policy in Europe and the US.

The difference revolves around the efficacy of the so-called monetary policy transmission mechanism in the EU vs. the US. One of the key questions in this regard is “how quickly does a change in short term interest rates influence the rates that are being paid by borrowers in the economy as a whole?” It stands to reason that monetary policy would be almost worthless if a cut or hike in interest rates didn’t actually change anything in the real world.

A recent study by the OECD was nice enough to examine the difference between the “traction” of monetary policy in the US and Europe and came to the conclusion that monetary policy is a less effective tool in the Euro-Area than it is in the US.

The main reasons for this discrepancy can be found in the answer to the question posed above. US capital markets are larger, deeper and more competitive than the European capital market(s). Take mortgage lending for example: the US has transformed a formerly regional market for mortgages to a national market by way of securitizing loans and entire loan portfolios. This has made the mortgage rate much more responsive to changes in market rates than in times past where rates were much more “sticky”. Increased competition amongst lenders has led to aggressive marketing of new products and lower costs as well. This has in turn enabled consumers to actively use credit products to unlock equity tied up in their homes thereby exposing them to any change in rates (whether this is always wise will remain to be seen).

Another difference between the US and Europe lies in the fact that bank lending (vs. financing via capital markets) constitutes a much larger source of finance for companies in Europe than in the US. As banks tend to behave very much in line with the business cycle, i.e. expand lending in good and decrease lending in bad times, any policy response will have to be greater in Europe to dampen the effects of bank’s behavior.

If we take a step back and look at the entire picture we can see than other factors play a role as well. Markets for labor and goods are the place where we usually observe inflation in the first place. If these markets are highly regulated and/or inflexible we shouldn’t expect inflation rates to change quickly. This description fits Europe pretty well.

What does it all mean? If you have an economy with flexible markets and quick transmission of monetary policy the central bank will find that monetary policy is a very effective tool. An economy with rigid markets will find that policy rates will not change as often as inflation is much slower to react to any change in interest rates. This smoothing of the rate cycle may sound good, but it actually robs a central bank of one of the main tools to kick-start a recessionary economy.

Europe has been feeling the effects of sticky prices in labor markets for a while now, companies are not prepared to employ people if the economy doesn’t start looking better and the economy isn’t going to start looking better until more people have a job. The central bank knows that changing rates won’t do much to solve this dilemma so the focus should be upon making markets for labor and products more flexible. We’ll just have to see if there is real political will behind this goal.

If you are looking for more posts on capital markets be sure to visit CurryBlog!

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Were They Wrong?

In a semi-apologia for backing the Iraq Invasion titled Were We Wrong?, The New Republic editors write

But saying he was a threat does not mean he was a threat urgent enough to require war. We lack John Kerry’s confidence that waiting to confront Iraq would have produced a broader coalition for attack. France, Russia, and China would likely always have feared a U.S. beachhead in the Arab world more than they feared Saddam. But waiting to confront Iraq would have allowed the United States to confront more immediate dangers. In late 2002, Al Qaeda was regrouping in southern Afghanistan and launching a campaign to destabilize not only the government in Kabul, but also the nuclear-armed government in Islamabad. In Iran, evidence was mounting that a regime with far closer terrorist ties than Saddam’s, really was trying to build a nuclear bomb. In North Korea, a regime with a record of trading nuclear secrets, was building several.

The claim in boldface seems a bit dubious. Does France, like Russia and China, “fear a US beachead in the Arab world?” While France had historical problems with Algeria and is generally more pro-Palestinian than the US, unlike Russia and China they have no border with a primarily Arabic Muslim nation. Also, France is a NATO member and, freedom fries and related incidents notwithstanding, is an ally of the US. And what precisely does France have to fear from a US beachead in the Middle East, anyway?

Next question: when will the New Republic apoligize for endorsing Joe Lieberman?


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Another Inflation Indicator Ticks Higher

Regarding this morning’s PPI report:

WASHINGTON (Reuters) – A bigger-than-expected rise in U.S. producer prices in May, the largest in 14 months, and falling jobless claims last week provided fresh evidence Thursday of strength in the world’s largest economy.

Prices received by farms, factories and refiners shot up a hefty 0.8 percent last month, the biggest increase since March 2003, the Labor Department said.

While food and energy prices both rose sharply, the department’s core Producer Price Index, which strips out those volatile costs, also rose a larger-than-expected 0.3 percent, adding to inflation jitters on Wall Street.


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Iraq and Al-Qaeda, part II

A USA Today article makes a very nice follow-up point to some of Bush’s comments this morning about the link between Iraq and Al-Qaeda. Picking up where I left off in the previous post, here’s some more of the statement that Bush made this morning about Al-Qaeda ties to Iraq (from the same yahoo news story):

“This administration never said that the 9-11 attacks were orchestrated between Saddam and al-Qaida,” he said.

“We did say there were numerous contacts between Saddam Hussein and al-Qaida, for example, Iraqi intelligence agents met with (Osama) bin Laden, the head of al-Qaida in the Sudan.”

The USA Today article directs our attention to the text of the letter that Bush sent to the Speaker of the House and President of the Senate on the day that he started the war in Iraq, explaining to Congress his legal authority for invading Iraq:

March 18, 2003

Dear Mr. Speaker: (Dear Mr. President:)

Consistent with section 3(b) of the Authorization for Use of Military Force Against Iraq Resolution of 2002 (Public Law 107-243), and based on information available to me, including that in the enclosed document, I determine that:

(1) reliance by the United States on further diplomatic and other peaceful means alone will neither (A) adequately protect the national security of the United States against the continuing threat posed by Iraq nor (B) likely lead to enforcement of all relevant United Nations Security Council resolutions regarding Iraq; and

(2) acting pursuant to the Constitution and Public Law 107-243 is consistent with the United States and other countries continuing to take the necessary actions against international terrorists and terrorist organizations, including those nations, organizations, or persons who planned, authorized, committed, or aided the terrorist attacks that occurred on September 11, 2001.



The administration really never suggested that Iraq had anything to do with 9/11? Really?


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Bush Sticks Up For His Boss

Bush was faced this morning with the prospect of either:

(1)agreeing that the 9/11 Commission’s conclusions – reached after painstaking, non-partisan examination of mountains of evidence – about the non-existence of an Iraq link to Al-Qaeda are probably correct, while simultaneously admitting that Cheney was wrong when he insisted the other day on the mythical link between Iraq and Al-Qaeda;

or (2) ignoring the factual evidence, further shredding Bush administration credibility, and siding with Vice President Cheney.

Can guess which one he chose?

WASHINGTON (AP) – President Bush on Thursday disputed the Sept. 11 commission’s finding that there was no “collaborative relationship” between Saddam Hussein and the al-Qaida terrorist network responsible for the attacks.

“There was a relationship between Iraq and al-Qaida,” Bush insisted following a meeting with his Cabinet at the White House.


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Competition in Action

So for the last few years, Yahoo mail has been basically unchanged. In fact, the only change was that they were shrinking the storage allocations of new accounts in order to encourage users to upgrade to paid accounts (a perfectly reasonable objective.) Enter competition from Google and things change direction. This is what I now see when I log into my Yahoo account, which I’ve abandoned in favor of Google’s Gmail:

In my case, this is too little, too late. But it should serve Yahoo well when Gmail becomes open to the public.


P.S. I still have an invite or two left if any readers want one.

UPDATE: All gone. I’ll let you know if I get more.

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Grover Norquist

AFter 10 or so years of having his crazy statements go unchallenged, Republican strategist Grover Norquist must think he can just say anything and no one will call him on it. Least of all a CNN reporter. Here’s the latest, courtesy of The Daily Show‘s Lewis Black:

BLACK: There’s a movement headed up by the Ronald Reagan Legacy Project to get Ronald Reagan’s face on the ten dollar bill. Project head Grover Norquist explained why we needed to dump that slacker Alexander Hamilton.

[cut to Norquist on CNN]

NORQUIST: Alexander Hamilton has been on the ten since 1928. He’s been well honored by the country. He was a great Secratary of The Treasury. But of all the people on the currency, the only one who isn’t a president …

[cut back to Lewis Black]

BLACK: He’s the only non-president on the currency? Really? The only one? I’ll bet you a hundred bucks you’re wrong!

If anyone saw this in real time, I’d like to know whether the CNN interviewer pointed Grover’s error out to him.


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IP and Capacity Utilization

The Fed released the figures for May this morning. Both industrial production and capacity utilization showed healthy increases. I have been particularly impressed by the increase in capacity utilization in manufacturing over the past few months. It has now clawed its way back to where it was during George W. Bush’s 3rd month in office, April 2001.

By the way, pursuant to the discussion about yesterday’s CPI data, this recent rise in capacity utilization is why I am no longer worried about possible deflation in the US. I think we’ll continue to see inflation rising as capacity utilization grows further over the next few months. Not that this will continue indefinitely; I still fear for the sustainability of this recovery. But time will tell.


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What’s the Best Way to Change Interest Rates?

This question came to me as I was reading this CNN/Money piece discussing possible Fed action on interest rates this year. The article basically poses the question of whether interest rates will have to rise a lot or a little over this year.

But the title of the article raises another interesting question. Suppose that Greenspan thinks that interest rates will need to be at least, say, 2.5% a year from now. Currently the Fed Funds rate is at 1%. Should he plan to get to that 2.5% goal by enacting six quarter-point increases in interest rates, coming every month or two? Or instead, would it be better to plan to do it in just 2 or 3 large movements of .5% or even .75%? For example, he could move them up .75% this summer while simultaneously announcing that there will be no more increases for the rest of the year.

As I see it, the main benefit of the incremental approach is that it allows for caution and adaptation to continual economic developments, and may therefore reduce the chances of overshooting the economy’s ideal interest rate. The problem that I have with this argument is that it is typically estimated to take at least 6 months for an interest rate change to have measurable effects on the economy. So it’s not clear to me that the incremental approach gains you increased accuracy in getting to the appropriate interest rate; if you’re raising rates every month or two, then with each further increase you’re reacting based on the effect of an increase that you made 3 moves ago – you haven’t yet seen the effect of the previous couple of increases on the economy. So actually, I wonder if this could make it more likely that you overshoot the economy’s ideal interest rate?

The main benefits of the “bang and stop” approach – a relatively sharp rise in interest rates now followed by no further increases for a considerable time (I’m open to a better name than “bang and stop”, if you have one) – are that it provides greater certainty to businesses and consumers as they try to predict the course of interest rates over coming months; and that the long time of no further policy action gives the Fed enough time to better evaluate the effect of its first interest rate increase on the economy before it becomes necessary to have another rate increase.

The more I think about it, the less I like the incremental approach. If you think that interest rates need to rise (and I’m not quite convinced that they do, yet), then get it over and done with and move on.


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