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

Wealth vs Income

Usually my articles present facts and data and try to drive down to a conclusion. This time, I’m going to drive down to a couple of questions.

Recently, Noah Smith had a post on the subject of economic models titled Filling a hole or priming the pump?  It did quite a bit to restore my lack of faith in the pseudoscience of Economics, but that is more or less beside the point.  Roger Farmer, cited in the post, left a long comment that Noah hoisted up the main page.  Farmer concludes:

My reading of the evidence is that consumption depends primarily on wealth rather than income. That was the lesson of work by Ando and Modigliani, Modigliani, and Friedman in the 1950s. It is for that reason that I support interventions in the asset markets that try to jump-start the economy and reduce unemployment by boosting private wealth. That, in my view, is what quantitative easing has done.

Ok – I’m taking on decades of economic research here, but my first question relates to: “My reading of the evidence is that consumption depends primarily on wealth rather than income.”

First, let’s remember that wealth distribution is on the order of the top 1% owning 40% of the wealth, and the bottom 80% owning 7% of the wealth. And that 7% is not evenly distributed.  There are significant fractions of the population who have a) no wealth at all, or b) negative net worth. Either way, they are living hand to mouth.  This suggests that 1) they have unmet needs, and 2) will spend the next available dollar trying to satisfy one of them. 

So far, this is just a thought experiment.  Let’s take a look at how personal consumption expenditures track disposable income.  Here is percent change from previous year:

Both in the grand sweep and in the year-to-year detail, the curves are pretty much in lock-step.

 Here is the data on a Log Scale:

That’s coordination about as close as you could ever hope to see in real world data.

And if wealth – or it’s perception – were the determinant, wouldn’t you expect some sort of a consumption bump during the housing bubble, when people felt wealthier than their incomes justified?  Let’s look at consumption expenditures per capita.

Here, there is a slope increase, mid last decade, but it’s not great, and it’s no greater than the slope of the late 90’s.  I suppose the tech boom must have had some people feeling wealthy then, as well.  But they weren’t that bottom 80%.  Note that the first graph indicates the personal disposable income was up in those periods as well.  In fact, they were the only up periods since about 1980.

There was also relatively low unemployment in those times, and thus more people with incomes.

Also, it just seems counter-intuitive in a world where, if real people think about money at all, it’s in a personal cash flow context, not in terms of wealth aggregates.  Consuption decision reasoning, to the the extent that it even occurs, is along the lines of: “If I buy this thing, can I still afford to feed my cat?”

So, here is question number 1:

Since to most people “wealth” is miniscule, non-existant, or worse, and given empirical data that closely links consumption to income, how can consumption depend “primarily on wealth rather than income?”

Now let’s look at Excess Reserves of Depository Institutions.

There’s 1.6 trillion QE dollars.  Any left-overs have gone to leveraged speculation causing commodity inflation.

But Farmer says: “I support interventions in the asset markets that try to jump-start the economy and reduce unemployment by boosting private wealth. That, in my view, is what quantitative easing has done.”

If any wealth has been boosted here, it is in the upper reaches of the already wealthy, not among the working stiffs who are highly inclined to spend the next dollar rather than hide it away in Luxombourg or the Cayman Islands.

So, here is question number 2:

How can QE money help the economy when it is either sitting idle or inflating commodity prices?

I have nothing in particular against Roger Farmer, about whom I know nothing, but I am also prompted to ask economists in general:

What in the hell is the matter with you?

So maybe my lack of faith in Economics is the point, after all.

Cross-posted at Retirement Blues.

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Where Has All The Money Gone, Pt I, Corporate Profits


1) Rethug Speaker of the House John Boehner says that as a nation, “we’re broke“; Rethug presidential candidate Ron Paul claims America “should declare bankruptcy.”  I say these two are liars, and at least one of them is crazy.

2) Tyler Cowan says “we are poorer than we think we are,” due to mis-measurement of value, which might be true.  I believe his prescription for recovery is generally very bad, though.

3) In comments to my previous Angry Bear post, Bob McManus directed us to the writings of Michael Hudson, where we find his post Democracy and Debt.  This is must reading.  The relevant point here is that the increasing capture of wealth, as rents, by a creditor class impoverishes society in general, and this eventually leads to severe repression, major social upheaval, or both.  I whole-heartedly agree.

4) Jon Hammond’s guest post at Angry Bear shows that a more-or-less continuous decrease in real investment has occurred during the post WW II era.

In this series of posts, I intend to show that we are a wealthy nation, but that our wealth  has been increasingly captured by elite creditors, who, in my opinion, are strangling the economy by 1) extracting excessive rents and 2) diverting this wealth to financial tail chasing, rather than real investment.


Here is a look at average hourly earnings, the typical income of a working stiff, presented on a log scale.

Like almost every time series you can imagine, including GDP, it exhibits a break near 1980.   The break is always to lower growth.  But, compared to most other data series, this break is especially sharp.

Hear is the same series compared to GDP, an approximate measure of the income of the nation, on a linear scale.  For this graph, each is normalized to a value of 100 in Q1, 1965.

While earnings have grown less than 8 times in 47 years, GDP has grown more than 20 times.

Clearly, the money has not gone to compensation of the workers whose labor actually creates the wealth of the nation.  That might explain some of the alleged envy.


As a first step in finding where the money has gone, let’s consider the growth of corporate after-tax profits since about 1950.  You can see it in this FRED graph.   It’s on a log scale, so constant growth would be a straight line.  There are lots of wiggles, but I see an increasing slope over time, and it’s not an optical illusion.

There are a lot of ways to parse this.  One is to connect the dip bottoms with straight lines.  I’ve done that with alternating red and blue to show the slope increasing over time.  The problem is selecting which bottoms to connect.  Some alternate choices are indicated in yellow.  The yellow lines define times of above normal profit growth: 1970 to 1980, 1986 to 1998, and 2001 through 2007.  Each of them leads to a correction, indicated by a purple line across the top of the decline.

After I did all that, it occurred to me to let Excel throw an exponential best fit line on the data set, and you can see that as well.

I see now that I could have included another yellow line from 1961 to 1967.  Notice that with each yellow line, the data set advances above the exponential best fit line before a sideways correction takes it below again.  After the correction is complete, profits increase again until the best fit curve is breached.  Or, they did until now.

Remember that on a log scale constant growth rate is represented by a straight line, and that the growth compounds, so that the underlying increase is exponential.  Sooner or later, that has to end.  Nothing in the real word can go to infinity.  Here we see an exponential curve on a log scale.  This demonstrates an increasing growth rate.  Therefore, the underlying increase is greater than exponential.  If exponential growth is unsustainable, what would you say about greater than exponential growth?

In fact, the whole trend might now be falling apart, as the last blue line has a much lower slope.  Also, for the first time following a correction, profits have stayed below the trend line, and the gap is increasing.

To show the extent of national income capture by corporations, here is a graph of corporate profits as a percentage of GDP.   I’ve divided the set into two segments: 1951 to 1979, and 1980 on, and had Excel place a linear trend line on each.  This division is somewhat arbitrary, but almost every economic time series you can find has a break point within a few years of 1980.  Division between ’79 and ’80 is the least favorable to my point that Profits/GDP had no trend in the post WW II Golden Age, but have trended sharply upward during the Great Stagnation period.

Profit/GDP growth was unusually poor from 1980 through 1986.  Then from late 2001 through early 2006 it exhibited the greatest growth ever.  But remember the denominator effect.  Nominal GDP growth increased rapidly following the ’80-’82 double recession; while GDP growth in this century has been generally slow.  The financial melt-down of 2008 caused a dip that was sharp and brief, but the rebound has not gone to a new high.  But even now, in the midst of anemic recovery, profit/GDP is hovering in the 9 to 10% range, far above historical norms.


The corporate profit growth picture looks unsustainable, and that is troubling.  What it means for the future is anybody’s guess.  But, what we get from it is the first partial answer to the question, “Where has all the money gone?”

Gone to profits, everyone.

A slightly different version is posted at Retirement Blues.

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Telling the Right Story, or Economists Catching Up Round One

Anyone who was in the MBS market and not working for a primary originator can tell you that the MBS securitization market ended around Halloween 2006. (Those of us who were at places with origination go a few more months, but had no flow by February.)

Only economists were fooled by what I’ve been calling a Xmas Miracle, and even they (via Mark Thoma) are starting to wise up:

The blue line is the usual measure of GDP, which is obtained by adding up total spending. When you read the newspapers, this is the number they report. But the Fed’s Jeremy Nailewaik has convincingly shown that red line—which is the sum of all income—is the more reliable measure. In theory the two lines should be identical—one person’s spending is another’s income—but in practice, the measurements differ. I’ve also plotted the peak, trough, and latest reading of each measure.
Focus on the red line, and you’ll see that the recession began in the final quarter of 2006, not the end of 2007.

You can sustain a bubble as long as more funds are coming into the system. Sell the 1BR on the West Side, reinvest the profits on the 2BR in Park Slope while that seller reinvests in 2,600 square feet in Summit or Hasting-on-Hudson who…

Until the incomes stop moving—transaction costs slow the margin, generally just after a few of the easier lenders demonstrate the flaws of their “business model” and the infrastructures have been built up at other firms based on those chimeric profits, when fixed costs and narrowing margins make better and better firms look worse and worse.

Economics has caught up with finance. What will they think of next?

Note: Subtitle added as I realized this may become a series. – klh, 10 June 2011

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The other measure of income, GDI, shows faster growth and an oversized profit contribution

There are two measures of income: the spending side (Gross Domestic Product, or GDP) and the income side (Gross Domestic Income, GDI). I’d like to see what GDI is telling us about the Y/Y recovery, since it’s a better predictor of turning points, according to FRB economist Jeremy J. Nalewaik.

The chart illustrates the contribution to Y/Y GDI growth coming from each of the main income components. (Click to enlarge.)The series is deflated using the GDP deflator, since the BEA only releases the nominal numbers. All references to GDP and GDI below refer to the real series.

Observations I note:

1. The Y/Y growth rate of GDI surpassed that of GDP in Q2 2010, continuing into Q3 2010. In Q3 2010, GDI grew at a 3.6% annual clip, while GDP marked a lesser 3.2% rate. Don’t know what this means, exactly; but it could imply that the economy is expanding more rapidly than the GDP measure would suggest.

(more after the jump)

2. The Q3 2010 corporate profit contribution to annual income growth, 2.2%, is overwhelming that from wages and salary accruals (labor income), 0.73%. This oversized contribution is rather remarkable, given that domestic corporate profits are just 8% of GDI, while that of wages and salaries is 55%. This will probably even out, though, as history shows a more balanced contribution between profits and wages.

3. The chart illustrates the ‘stickiness’ of labor income. The corporate profit contribution turned negative in Q4 2006, while that of wages and accruals turned negative in Q3 2008. That’s a near 2-yr lag from profits to wages. Wages are recovering now; but there will be further quarters of weak wage growth relative to profits, as claims remain elevated above the 350k mark.

4. The contribution to GDI growth from net interest payments is in negative territory. Low rates are dragging this component.

5. Supplements to wages and salaries – government transfer payments like unemployment insurance, for example – contributed 0.3% to annual GDI growth in Q3 2010. Interesting thing about this, is that the average contribution spanning the 2000-2004 period, 0.5%, outweighs that during the 2005-2010 period, 0.14%. I say interesting because the labor decline was far deeper in this cycle compared to the previous cycle. (See Calculated Risk chart from 12.3.2010)

Overall, the GDI report implies that the economy may be improving more quickly than the GDP report suggests. There’s plenty of room for improvement in this picture, however, as the labor wages remain stuck in the mud with corporate profits strong.

Tomorrow we’ll see the Q4 2010 GDP report – consensus forecast is for 3.5% Q/Q SAAR.

Rebecca Wilder

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Who’s bringing home the dough?

…Corporations. Since earnings season is now well underway, I decided to look at the breakdown of aggregate domestic income (gross domestic income). Corporate profits are up 44.7% since the outset of the US recovery, while wages and salary accruals are up just 0.9%.

The chart above illustrates the peak-trough losses (total loss), trough-Q2 2010 gains (total gain), and peak-Q2 (relative to peak) deviations of nominal gross domestic income, disaggregated by income type.

First up, wages and salaries (employer contributions for employee pension and insurance funds and of employer contributions for government social insurance) and private enterprises net of corporate profit incomes grew in sum spanning the recession (private enterprises net of corporate profits includes proprietor’s income, which did fall). Furthermore, the drop in wage and salary accruals, -3.6%, was small compared to the drop in corporate profits, -18.1%.

Second, the corporate profit gains during the recovery massively outweigh the wage and salary gains over the same period, 44.7% versus 0.9%. Corporate profits are now 18.5% above the peak in 2007 IV, while wages and salaries hover 2.8% below.

The problem here is, that the deleveraging cycle is heavily weighted on the household sector (the workers at the corporations) – if corporate profit gains do not translate into hiring and wage gains, or even to further capital spending, economic growth will suffer going forward.

Better put, at the very minimum, the recent surge in corporate profits is not sustainable if firms do not distribute the gains to the real economy. Also, meager wage gains does make healthy deleveraging difficult for household sector. Therefore, the recent surge in gross domestic income (hence, it’s spending counterpart, GDP) is not sustainable if corporate profits are not recycled.

Rebecca Wilder

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The money quandary

The Federal Reserve, the Bank of England, and the Bank of Japan are considering further quantitative easing. It’s an explicit statement, as with the Federal Reserve and the Bank of England, or implied by the fact that the foreign exchange intervention will eventually be sterilized if the policy rule is not changed, as with the Bank of Japan. Why more easing?

In response to this question, BCA Research (article not available) presented a version of the quantity theory of money. They looked at the simple linear relationship between the average rate of money supply growth (M2) and nominal GDP growth (P*Y).

The chart is a reproduction of that in the BCA paper, but with a sample back to 1959 (they went back to the 1920’s when M2 was not measured). The relationship illustrates the 5-yr compounded annual growth rate of money (M2) against that of nominal GDP, and has an R2 equal to 50% – okay, but not perfect.

Nevertheless, the implication is pretty simple: the current annual growth rate of M2, 2.8% in August 2010, corresponds to an average annual income growth just shy of 4%. Sitting beneath a behemoth pile of debt relative to income, 4% nominal GDP growth is unlikely provide sufficient nominal gains for households to deleverage quickly or “safely“.

However, notice the 2000-2005 and 2005-2009 points, where the relationship between M2 and nominal GDP growth deviated away from the average “quantity theory” relationship. Would a broader measure of money account for the weak(ish) relationship in the chart above? Yes, partially. (Note: the relationship almost fully breaks down at an annual frequency.)

These days it’s all about credit. I’m sitting in Cosi right now – bought a sandwich and charged the bill on my credit card. Actually, I prefer to use cards. But M2 doesn’t account for this transaction as money if the balance is never paid in full. M2 is essentially currency, checking deposits, saving and small-denomination time deposits, and readily available retail money-market funds (see Federal Reserve release).

One can argue about the merits of including credit cards balances as “money”, per se. However, the sharp reversal of revolving consumer credit, and likely through default (see the still growing chargeoff rates for credit card loans), would never be captured in M2. The hangover from the last decade of households using their homes as ATM’s (i.e., home equity withdrawal) and running up credit card balances to serve as a medium of exchange is dragging nominal income growth via a sharp drop in aggregate demand.

The Federal Reserve discontinued its release of M3 in 2006, which among other things included bank repurchase agreements (repos). Including M3, rather than M2, in the estimation improves the the R2 over 30 percentage points (to 81%).

This is a very small sample, and removing the latest data point from the original estimation improves the R2 slightly to 64%; but clearly there’s something going on here. I think that it’s fair to say that we may be disappointed by the M2 implied average nominal GDP growth rate over the next 5 years (4%).

According to John Williams’ Shadow Statistics website, M3 is still contracting at (roughly because I don’t subscribe to the data) 4% over the year. The relationship in the second chart implies that nominal GDP will fall, on average, about 4.5% per year. Japan’s nominal GDP never contracted more than 2.08% annually during its lost decade, but the implication is that “things” may not be as rosy as the M2 measure of money suggests.

Rebecca Wilder

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The Texas Miracle, Yet Again

We keep hearing about the Texas Miracle.  It’s been mythic since “openly gay” Governor Rick Perry declared that Texas was in great shape, in no need of stimulus monies at all—after receiving enough to turn his state’s fourteen-figure budget deficit into a surplus. (UPDATE: Links added. And that final link was rather prophetic.)

So when the WSJ’s Economics Blog listed the Personal Income gains for major metropolitan areas (and some that wish they were), it came as no surprise that the great state of Texas has four areas on the list that show no decrease in Personal Income over each of the past two years.  After all, there are only 85 areas of the 367 listed by the WSJ that show non-declines in Personal Income both from 2007 to 2008 and from 2008 to 2009.

Such an accomplishment certainly could not be matched by states with Severe Crises, such as Illinois or California, could it?

ca and il

Oops.  Four for each state.  Well, at least all of those started (and ended) well below the National Average.  Surely, Texas, with Austin and Dallas and Houston will show greater growth.


Oh, well.  In fact, looking at the Bottom 10—the lowest total Personal Income areas that show no loss in each of the past two years, we find:


The bottom two and three of the bottom seven are in Texas.  So the only one of the four that actually grew from a decent start is the one that has had a major influx in the form of the growth of Fort Hood.  Let’s hear it for Private Enterprise!

But still four areas that didn’t decline (well, much; McAllen drops $1, but that’s rounding error) over the two years.  Only a few states can match that.  In addition to California and Illinois, they are:

  • Georgia
  • Indiana
  • Maryland
  • Michigan
  • Missouri, and
  • Illinois

Meanwhile, two states have more than four metropolitan areas of growth.  I fully expect to hear about the “miracle” of five areas of West Virginia:


but fear there will be little about that bastion of Northeastern Liberalism, Pennsylvania and its seven areas with two straight years of Personal Income growth—including the Pittsburgh area, which is notably above the national average after trailing it in 2007.


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The Rich *Are* Different

by Tom Bozzo

Yesterday, run75441 sent an e-mail to the Bears touching off a bit of a discussion on the perennial question of what constitutes the “middle class” or a “middle-class income.” Run’s touchstone was the AMT, which has been turned by bad legislation (not indexing the zero bracket; interactions with the Bush-era changes to the ordinary income tax) and 40 years of inflation into something that “requires” — in the sense of avoiding the actual or perceived political catastrophe of raising taxes on a (fairly) large number of (mostly) upper-middle income taxpayers with high propensities to vote — annual patches to keep it mainly an upper-upper-middle-income tax. While there are horror stories about middle-income taxpayers with unusual circumstances being hit with AMT (e.g. due to exceptional numbers of exemptions for dependents), the patches mainly serve to keep AMT off the backs of low-six-figure earners who, despite being relatively well-to-do, nevertheless don’t have sufficient income to be in line for tax increases under Obamanomics.

I’ve viewed the $200K or $250K-ish threshold for who’s rich enough to be subject to so much as the statutory income-tax rates of the 1990s as a mutant offspring of behavioral economics and tax politics. It’s a figure that happens to be enough money that people who will never make $100K (but don’t know it) won’t worry that raised upper-income taxes will affect themselves, or something like that. Based on criteria such as ability to pay without major hardship, I’m with Felix Salmon that the boundary of the “rich” is being set too high.

That said, there is an interesting qualitative change in the structure of income that starts to happen around this cutoff for the “rich” which actually suggests that taxpayers above that threshold are rich in most important ways. The most recent (2007) tax stats from the IRS now reflect the peak of the late bubble and show that the $100K-$200K AGI bucket is the last one that more-or-less resembles middle-income categories in their dependence on labor as the all-but exclusive source of income. (Think of pensions and proceeds of retirement accounts as representing deferred wages or salaries.) This graph shows the shares of AGI from some major income sources, and the average incomes for various brackets. (*)

Sources of Individual Income, 2007 SOI Tax Stats
(May be embiggened by clicking here.)

Starting with the $200-500K category, the share of earnings from labor begins a marked decline. By the time you hit mid-six figures, average earnings from income, dividends, and capital gains become high enough to provide middle-class or better incomes without (necessarily) working. Tax returns in the upper-six-figure bucket, on average, show more income from other sources collectively than from salaries, and at the top of the income scale even interest and dividend income exceeds wages and salaries. (**) I suggest that if you can provide yourself with a better-than-average living without working, a very rare luxury indeed, you are in fact rich.

(Revised and slightly expanded.)

(*) That some of the shares sum to more than 100 percent is not an error. Some sources of income, notably nontaxable Social Security benefits, are not part of AGI. If average incomes by bracket are not plotted on a log scale, that line looks like everyone except the super-rich makes nothing.

(**) Moreover, high-earners are negligibly dependent on Social Security and pensions for retirement income, in case anyone wonders about the origins of the long-running war on social insurance.

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World Health, Poverty and development brought alive

By divorced one like Bush

Hello everyone. Things have been hectic, so no time to blog. But, I thought these two videos would be of interest. They are Hans Rosling presenting his data via his program that animates the changing statistics.

Even the most worldly and well-traveled among us will have their perspectives shifted by Hans Rosling. A professor of global health at Sweden’s Karolinska Institute, his current work focuses on dispelling common myths about the so-called developing world, which (he points out) is no longer worlds away from the west. In fact, most of the third world is on the same trajectory toward health and prosperity, and many countries are moving twice as fast as the west did.

The first is his introduction of his program while discussing the relationship of wealth and health. His take is that health has to come before wealth to make real wealth progress. This second presentation makes it clearer as you see the change over time as a race between US, Japan and Sweden. He also relates it to climate change in that no nation has made progress without effecting climate.

His goal is to make data more readily available in a form that makes it easier to interpret. He works with the UN.

The videos are about 20 minutes each.
The first video is: Hans Rosling shows the best stats you’ve ever seen

The second video is: Hans Rosling’s new insights on poverty

These come to you via: TED

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Election Story Interlude

In contrast to Mankiw’s attitude (see cactus’s post below*), my favorite election story of the year comes from Ms. Mochi_tsuki:

So they started explaining to me what an absentee ballot is and how to fill one out. I pointed out that I’d spent 11 years of my adult life overseas and was very familiar with the process. One of them pointed to the other and said, “He’s been overseas as well. He’s a retired Admiral.” WTF?

You may know this, but by law, there are never more than about 200 Admirals in service. Really rare creatures, those. This one? Retired last month. And he’s spending his weekends working on the GOTV effort in rural Virginia.

But I guess retired Admirals don’t need the motivations that economics professors do.

*In fairness to Mankiw, he knows his numbers are b.s. The giveaway: “In a sense, putting the various pieces of the tax system together, I would be facing a marginal tax rate of 93 percent. [italics mine]” Not to mention the corporate tax free finesse, and the assumption that r=0.10, but lets sidebar those.

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