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

Oh hail the Great Cactus

Looking for some back articles and wanting to try out posting with our new setup I found this one by Mike Kimel (formally known as Cactus) from July, 2010.   It is always fun to look back.*

He presents his data and argument regarding where we’re going and concludes:

This time, I’m not as comfortable; given where and how the Fed has been putting Money I just don’t see increases in the real money supply as being quite as effective as normal. The money is going to fill in a big hole the financial industry created in its collective balance sheet, and isn’t necessarily leading to a lot of additional spending. Furthermore, with all the talk of austerity, it wouldn’t be surprising if the Federal Government starts cutting back on spending.

Given that the weight of the evidence seems almost equally balanced on both sides, this little thing tips it slightly for me: unless and until the Fed starts removing money from the system, I don’t think we’re going into a second dip. But given the Federal Government’s current policies, I don’t expect much more than mediocre growth for the next few quarters either.

Hey Cactus, you thinking of doing a hedge fund by any chance? : )

*Read the post and then the comments to get the greatest fun factor effect.

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Why Economists (On Average) are Terrible Forecasters

by Mike Kimel

Why Economists (On Average) are Terrible Forecasters

My colleague, Rebecca Wilder, had a post at her site entitled Economists are terrible forecasters – why trust them anyway?. The reason why economists as a general rule are lousy forecasters is obvious: there are no penalties to being wildly wrong.

Prominent examples abound. Dow 36,000 anyone? No housing bubble in 2005. I can go on forever, but these aren’t even as as it gets. At least these are bad forecasts of the future. There are plenty of bad forecasts of the past, or even the hypothetical past, too. My favorite example, in fact, of a bad forecast came in 2002, when a group of prominent policy economists, advisors to the then President, told the world that barring the 2001 recession, the US would have enjoyed double digit growth in fiscal 2002. And nobody said peep. It wasn’t front page in the newspapers. It wasn’t in the newspapers at all! Nobody involved paid any price for it, except the public who had to endure the policies “supported” by such an incredibly inane analysis. In fact, just about everyone involved went on to bigger and better things – Governor of Indiana, Dean of the Business School at Columbia, etc.

If there are no penalties to being wrong, there also usually aren’t any benefits to being right. Consider, well, me for example. Regular readers know I don’t make predictions often, but I like to be right when I do make ’em. I can’t think of anyone else who called both the start and end of the Great Recession, in both cases running against the grain, but you aren’t likely to see me on TV any time soon. (I will admit my forecasts weren’t perfect: I misunderestimated the stupidity of the policy responses of both Bush and Obama and thus didn’t expect it to be quite as bad as it turned out.) I can even think of two forecasts made for a then employer that I suspect together cost me a job, despite the fact that the forecasts turned out to be spectacularly right.

Its been said its better to be wrong in the same way as everyone else than to be right alone. That’s certainly true for economists. Unfortunately, that is a bad thing for anyone who listens to economists.

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Presidents, Tax Burdens, and the Subsequent Economic Growth

by Mike Kimel

Presidents, Tax Burdens, and the Subsequent Economic Growth

Over the years, I’ve posted variations of the graph below a few times:

Figure 1

The graph shows the change in the tax burden (i.e., current federal receipts / GDP) from the year before an administration took office to its second year in office on one axis, and the annualized growth in real GDP from its second year to its last year in office on the other axis. So, to use GW as an example, the graph shows the change in Federal Receipts / GDP from 2000 to 2002 on one axis and the growth rate in real GDP from 2002 to 2008 on the other axis.

JFK and LBJ are bunched together because LBJ took over during JFK’s term, and the two together served eight years. Ditto Nixon/Ford. Truman, on the other hand, took over less than three months into FDR’s fourth term, and then served just shy of eight years on his own. I figured that was enough to qualify as Truman’s own administration. FDR’s 12 years in office are broken into two administrations: through 1940, and 1941 – 1944. 1941-1944, being the World War 2 years, are sufficiently different in terms of focus and goals to qualify as a different administration.

The graph is rather busy. Removing the names of the Presidents (I’ve left 3 for which reasons which will become evident later), and using Excel to add a trendline may make things a bit more clear.

Figure 2.

The graph makes a point that would be controversial if people were aware of it, namely that in general, the more an administration reduced tax collections during its first two years in office, the faster the growth rate during its remaining years in office. (Rdan…One word correction)

This result contradicts the beliefs of most people who have taken an economics course in this country, and anyone who listens to Rush Limbaugh or watches Fox News. But the fit is surprisingly tight considering how few variables are involved. It doesn’t matter who believes it, or whether we are happy with this result. I personally would much prefer to see lower taxes leading to faster economic growth than slower economic growth, but reality is what it is, not what we want it to be.

Now, if this is true, how does it work? Well, it could be that changes in the tax burden in years 0 to 2 economic growth in later years. (That isn’t controversial, even if the direction that the data is.) But I suspect there is more at stake. The tax burden often moves, sometimes by quite a bit, even when there has been no change in marginal tax rates. I think a lot of the change has to do with regulation and enforcement. An administration that cuts tax burdens is reducing regulatory tax burdens and perhaps cutting enforcement, and not just at the IRS. A big part of that has to do with the ideology of the administration, which in turn affects who it places in key positions. The people GW brought into his administration are very different from the people FDR selected. And a tiger doesn’t change its stripes… an administration staffed by people who believe in reducing regulation in year 1 is going to be staffed by people who believe in reducing regulation in year 7.

Sadly, I now have to repeat something that keeps coming up every time I make this point. I get comments and/or e-mails and/or even people telling me in person that what is happening is that slower growth is leading to lower tax collections. Returning to the GW illustration, if you really believe that mediocre growth from 2002 to 2008 caused the reduction in tax burdens from 2000 to 2002, you may have what it takes to write for the National Review or the Heritage Foundation. I’m not impressed by arguments based on time travel, nor am I in a position to hire.

Before we go on, some housecleaning. Nominal and real GDP come from the Bureau of Economic Analysis. GDP was first computed in 1929, so the first complete administration for which we have data is FDR I. Data on the Federal government’s tax receipts comes from the Bureau of Economic Analysis’ NIPA Table 3.2.

In addition to indicating that the administrations that produced faster growth tended to be the ones that started off by raising tax burdens, the graphs tells us a few things. Many of these things are about the media and the education system in this country, as what the data shows tends to be a surprise to most people. The fastest growth occurred during World War 2, which is also when the economy could best be described as a command economy. (Think tax rates above 90%, rationing, government directives, etc.) The years from 1932 – 1940, widely perceived as being a period of slow growth, actually had the fastest peace time growth for any period for which we have data. (The economic collapse of the Great Depression occurred before FDR took office.)

But is this all an anomaly? Some artifact of the data? Unfortunately, I don’t think so. See, the graphs provide a bit of evidence that indicates the theory is actually more robust than it looks. Consider the following reasonable assumptions:

1. changes in the tax burden are indicative of behavior of the administration
2. the sorts of policies and behavior that affect of the economy don’t change over the length of an administration (i.e., the tiger doesn’t change its stripes)
3. the economy is affected by more than just the current administration’s behavior
4. some policies can take a while to have an effect

Assuming all of that, one would think that the longer an administration was in office, the more likely it is that its growth would tend toward what “it should be” given its policies. Put another way, the biggest outliers should be the four year administrations. A glance at Figure 2 tells you immediately that this is, indeed, the case. FDR’s WW2 years, Bush 1, and Carter are the outliers. And eliminating those outliers and focusing exclusively on the eight year administrations does, indeed, strengthen the model, as theory would suggest:

Figure 3.

So what we’re left is increasing evidence that the more an administration cuts the tax burden in its first two years in office, the slower the growth it produces thenceforth. And again, you don’t have to like this result (I personally don’t) for it to be true.

All of which brings us back to Barack Obama, who is not on any of these graphs. Now, Obama inherited an economic disaster, but that’s the past. He campaigned for the right to be the one making the decisions, and he got it. And what matters is whether he makes things better. FDR inherited a much worse economic mess, and went on to produce growth the likes of which haven’t seen since. So… any chance Obama is going to pull an FDR? In a word, no. Whereas FDR raised the tax burden by more than any other President for whom we have data during his first two years in office, Obama has reduced the tax burden by about 1.2 percentage points. That puts him between Ike and Nixon/Ford when it comes to changes in the tax burden over the first two years. And both Ike and Nixon/Ford went on to produce subpar growth. So, barring some fortuitous change that has nothing to do with Obama, we can’t expect much more than mediocre growth for the remainder of Obama’s time in office. But I don’t expect his eventual challenger to learn anything from the three figures in this post either. None of this bodes well for America.

As always, if you want my spreadsheets, drop me a line at my first name (mike) period my last name (kimel – with one m only) at gmail period com. I should also point out, you can find a lot more of this sort of analysis in Presimetrics, the book I wrote with Michael Kanell.

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Employment report follow up

By Spencer,

Yesterday in describing the employment report I said:

Moreover, the manufacturing work week rose from 39.5 to 39.8 hours and overtime hours were 2.9 hours versus 2.8 in the second quarter. Much of this was auto and confirms the other reports that at least auto output is rebounding.

I was criticized and accused of political bias because I was placing too much emphasis on the auto industry. According to my critics the increase in the auto hours worked should be ignored because it was due to government interference and did not reflect what was really happening in the economy.

Moreover, it was implied that the auto industry was atypical and was not representative of the rest of the economy. The BLS publishes the hours worked for ten sub industries of durable manufacturing. So what happened to them? In nine of the ten industries the work week expanded last month and four industries switched from falling hours worked to rising hours worked.

Moreover, in the private service providing industries, hours worked expanded 0.3%, the first monthly increase since August, 2008. Just to put this in perspective, employment in the private service providing industries is 112,788,000 or roughly ten times employment of 11,817,000 in all manufacturing:

So the criticism that the hours worked just reflected the impact of the cash for clunkers on the working of the economy is obviously completely wrong.

Yes, as I pointed out the hours worked increase was impacted by the auto sector, but it was widespread through out the economy. The improvement in the service sector was particularly significant and that had nothing to do with the auto sector.

Moreover, I specifically pointed out that hours worked is a leading indicator of future employment. At no time did I say that the recession was over. That was the reason I characterized the employment report as encouraging. Compared to many other private
analysts, especially on Wall Street, I thought my analysis was very tempered.

I do not see where it was politically biased, and the argument that hours worked expanded only because of the auto sector just reflects ignorance.

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employment report

By Spencer,

The employment report was very encouraging.

Most importantly, aggregate hours worked were unchanged at 91.1 as compared to 104.1, 101.7 and 99.7 over the last three quarters. An unchanged reading is a massive improvement from the 8% to 9% rate of decline over the past three quarters. With positive productivity this impies that thrird quarter real GDP growth could easily be positive..

Moreover, the manufacturing work week rose from 39.5 to 39.8 hours and overtime hours were 2.9 hours versus 2.8 in the second quarter. Much of this was auto and confirms the other reports that at least auto output is rebounding. The hours worked together with productivity strongly impies that manufacturing output rose in July — to be reported about mid-month. Moreover, the average workweek and overtime hours are traditional leading indicators.

Wage growth improved, but not enough to reverse the sharp slowing in average hourly earnings growth.

With hours worked stable and hourly earnings rising average private weekly earnings rose from $611.49 to 614.34.
The improvement in weekly earnings is a welcome sign for what I consider the greatest risk to the recovery, the unprecedented decline in nominal, repeat nominal, income so far this year. For a sustained recovery nominal and real income growth has to improve at some point. Normally, real income growth is a lagging indicator at bottoms but it also kicks in soon after the bottom. Tax cuts are offsetting some of this weakness but a sustained recovery requires growth in real income.

The consensus forecast is for a very weak recovery. But the consensus forecast is always for a weak recovery. The actual historic record is for recoveries to be proportional to the recession. That is, severe recessions have strong recoveries and mild recessions have weak recoveries.
I’m not making a forecast or taking a position that the consensus is wrong, or that those who expect no recovery are wrong either. But at every bottom economists always have a long list of reasons why this recovery will be weak. And they are usually wrong. In 1981, I won the National Association of Business Economists annual forecasting contest by forecasting an average or normal recovery from the 1980 recession. It was the strongest forecast in the competition.

Footnote. Despite the increase in the minimum wage the teenage unemployment rate actually fell.

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