The Politics of Compassion

July 14, 2019

by Steve Stofka

It was a busy week in Washington. Jerome Powell, the chair of the Federal Reserve, testified before a House subcommittee. His dovish remarks signaled Wall Street traders that the Fed would almost certainly lower interest rates at their next meeting on July 30-31 (Note #1). The market rallied to new highs even as investors continued to transfer funds from stocks to bonds during the past month (Note #2).

Not so dovish was the atmosphere at a House subcommittee hearing this week on immigration proceedings at the southern border. Very emotional testimony from several freshman House members who had visited immigrant detention facilities in Texas. The former head of ICE under Presidents Obama and Trump testified about the challenges that border patrol officers face under the surge of immigrants. Human and drug trafficking along the southern border has been at crisis levels for many months. Patrol officers are not trained to be social workers or medical attendants but find that most of their time is spent caring for people who lack the physical stamina necessary to navigate the harsh conditions of the deserts of northern Mexico.

Many immigrants are sick or injured after a long treacherous journey from Central America. The crowded facilities pose a challenge even for healthy immigrants. They are certainly no place for mothers with young children, but neither was Ellis Island (Note #3). However, most of the immigrants at Ellis left the building after several hours (Note #4).

I was reminded of my grandmother and aunt who were turned away twice for whooping cough and pink eye. It was easy to pick up contagious diseases on the 7-10 day journey in third-class quarters on a crowded transatlantic steamer a century ago. Processing hundreds of immigrants a day, doctors at Ellis Island were quick to reject those with even the hint of TB or trachoma (Note #5). In the years before World War I the northern states needed workers and government officials were largely forgiving of many disabilities and illnesses. Less than 2% of immigrants were deported. My family was one of the unlucky ones – twice. My grandfather waiting on the Manhattan shore a few miles away must have been confused and angry.

Some Americans are insistent that immigrants should follow our Constitution, but our founding document has little to say about immigration. Article 1, Section 8 states that the Congress shall “establish a uniform rule of naturalization.” End of story. For the first hundred years of our nation’s existence, each state processed immigrants. Many immigrants did not present any paperwork or pass a medical examination. State and Federal governments simply took an immigrant’s word as to their name and personal information. Those who insist most loudly that immigrants follow our laws may be descended from people who followed no laws when they immigrated into our country.

In 1891, Republican President William Henry Harrison signed into law the Immigration Act of 1891 passed by a Congress dominated by Republicans (Note #6). Republicans represented the interests of northern businesses who needed able bodied workers who were unlikely to become dependent on government for their care. The flood of immigrants into the northern states gave Republicans additional congressional seats and an edge over Democratic majorities in the southern states.

The founding documents of this country were forged in the fires of heated debate and hard bargaining (Note #7). In 230 years, the debate has not cooled. Today, Democratic majority states like California and New York stand to gain Congressional seats as they welcome and champion the rights of immigrants. While the Senate has a filibuster rule, only the Democratic Party can fix our broken immigration laws because they are the only ones capable of securing a filibuster-proof majority in the Senate. The Republican Party has not enjoyed such a majority since Senators were first popularly elected in 1914. If Republicans are ever going to take the lead on contentious issues, they will have to abandon the Parliamentary filibuster that chokes most legislation to death in the Senate.

Why didn’t the Democratic Party address the issue of immigration while they had a filibuster-proof majority in the Senate and controlled the Presidency and House? Was it not important then? Nancy Pelosi was House Speaker then and now. She is known for her political ability to “count votes.” Perhaps she would be more effective if she looked further than votes. In a deeply divided nation with a constitutional architecture that resists change, a resolution of our most intractable problems is a formidable challenge for any leader.

After the Financial Crisis in 2008, Pelosi helped patch together two large pieces of legislation under Obama’s first term. ARRA was an $800B stimulus package passed in February 2009 that did help keep unemployment from getting even worse but was ineffective in many areas because the stimulus was diluted over several years (Note #8). That and the passage of the controversial ACA, dubbed “Obamacare,” cost the Democrats dearly in the 2010 midterm elections. Obamacare has withstood both legislative and judicial assault but may fall sometime this year to yet another judicial challenge that was just heard by the 5th Circuit Court of Appeals. That’s a topic for next week’s blog.

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Notes:

  1. Schedule of Fed meetings
  2. ICI flow of funds
  3. Crowded main hall at Ellis Island
  4. Relatively short processing time at Ellis Island
  5. Medical examinations of immigrants at Ellis Island
  6. Immigration Act of 1891
  7. Michael J. Klarman’s “The Framer’s Coup” is a thorough account of the construction of our nation’s Constitution. The audio book
  8. ARRA – the American Recovery and Reinvestment Act of 2009

Working Class Blues

July 7, 2019

by Steve Stofka

This week I had a chance to watch two documentaries hosted by journalist Bill Moyers several years ago (Note #1). They featured the shifting fortunes of two blue-collar working-class families in Milwaukee. Each family had enjoyed the security and benefits of middle-class life – a house and dreams that they would send their kids to college one day. When each breadwinner lost their jobs in the manufacturing industry, they realized just how precarious their situation was.

With more education and skills, these blue-collar workers could have made a better transition. Higher education is certainly a solution for some but how will more education help the butcher, the baker and the candlestick maker? These professions play a part in our complex society and the marketplace has not found a viable solution for those workers and their families.

What is the middle class? The Census Bureau defines it as the middle three quintiles of income (Note #2). What does that mean? If incomes range from $0 to $100 the range of the middle class is from $20 to $80. Some economists use $25 and $75 as the upper and lower bounds of the middle class. A hundred years ago the middle class was a small sliver of the population in the middle. They were between the working class who relied almost entirely, if not exclusively, on work for their income, and the upper class whose major source of income was not work – profits, interest, dividends and rents.

When economists talk about the middle class, it is usually the lower middle-class or working class that they use to represent the fortunes of a wide range of people with far different circumstances, education and skills. Both videos focused on that working-class segment because the stories are poignant and the solutions difficult, if not intractable.

The Golden Age of the working class was after World War II when unions were strong and blue-collar incomes grew much faster than inflation. After the productive capacity of much of developed world had been destroyed during World War II, America was the factory for the world. The workers in those factories enjoyed strong bargaining power and could command a good benefit package and wage gains from employers.

Until the Roosevelt administration established housing and mortgage programs during the decade of the Great Depression, most families had to put a third to a half down on a house and pay off the mortgage in five to ten years. The FHA (1934) and FNMA (1938) lowered those requirements to as low as 10% (Note #3). The GI bill that was passed in 1944 promised returning GIs a home for little to nothing down and low-interest long-term mortgages.  Residential construction boomed.

As the European nations and Japan recovered in the 1960s and 70s American firms were challenged by low cost imported goods. As their pricing power eroded, they became more resistant to wage and benefit demands by working-class unions. Protectionist policies guarded against competition from foreign auto makers, but consumer buying power in America was a magnet for appliances and electronics from Japan and Germany, and foodstuffs from France, Spain, Italy and Mexico (Note #4).

The 1970s was beset by a series of bitter strikes in both private industry and in government service. The benefit and wage packages that union workers had negotiated in the 50s and 60s proved uncompetitive in the revived private international marketplace. Those who could afford the higher taxes to pay city workers began to move out of the cities to the suburbs. Cities like New York suffered under successive waves of strikes by fire, police, sanitation and transportation workers. If the firefighters got a 4% raise, other city workers wanted a similar wage package.

Rather than invest in refurbishing decades-old factories, manufacturers built new factories abroad, where labor costs were much cheaper. The savings more than offset the shipping costs of finished products back to America. Those shipping costs had been drastically reduced in 1955 when a transport owner and an engineer designed a shipping container that could be stacked and survive the rigors of an ocean voyage. They gave away the patent and the world adopted the new containers (Note #5).

As the manufacturing plants in the northern states, particularly the Rust Belt, began to shutter their doors, some families moved. Many families who had bought homes now found that the value of their homes had depreciated. Some with strong ties to the community and a lack of savings struggled on at lower paying jobs. Some lost their houses, their cars, their dreams. The two families that Bill Moyers interviewed exemplified this broad trend. 

For some journalists and economists, this short-lived post-War era became a benchmark for the way it should be. That benchmark may have been a historical anomaly, an aftermath of a global war.

What is to be done? Since the Johnson Administration ushered in the War on Poverty fifty years ago, the percentage of the population in poverty has not changed (Note #2). 42% of children born into poverty remain in poverty. Either the programs have been poorly designed, or the problems are complex and resist solutions.

Will raising taxes on the rich help? Most of the capital gains go to the upper class who pay lower taxes on those gains. Is that the solution? To fund their retirement, millions of seniors each year are selling some of their IRAs and 401Ks, and incurring capital gains when they do so. Will politicians change the rules in midstream on a generation of Boomers? Old people vote in high percentages. Probably not.

Some suggest that the government stop subsidizing rich people and give that money to people who need it. This would include means testing Social Security, but also include a plethora of “gimmes” that pass unnoticed to most of us from government to those who are well-off. Some farmers receive a check from the government to not grow crops in order to control the supply. “Dear Santa, do not give me money this year.” Who is going to write that note?

Some have suggested we implement a Universal Basic Income (UBI) program, a program which would give $1000, for example, to everyone. That would be a nice subsidy for Walmart and McDonald’s who could then pay their workers even less than they do now. Some economists argue that there are even more problems (Note #6).

What about a higher Federal minimum wage? $15 is a popular suggestion on the campaign trail. A $15 wage in Los Angeles has much less buying power than it does in Alamosa, CO. Why not implement something indexed to the median wage in each area? The BLS, the same agency that produces the employment report each month, has the data to implement such an idea. Why a one size fits all minimum wage? Those who prefer local solutions are not without compassion.

History tells us that large government solutions can exacerbate the very problems they were meant to solve. The housing assistance and student loan programs are examples of the bureaucratic bramble that characterizes active Federal programs. Given that caveat, I do think that a Job Guarantee program that operated at the state and local level but was funded by the Federal government would provide stability to the more vulnerable in our work force. It would reduce the cyclical and structural unemployment that corrodes our society (Note #7). There are several proposals to implement some trial programs in the states and I support those efforts. What do you think?

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Notes:

  1. Frontline’s Two American Families and Moyers & Co. Surviving the New American Economy
  2. A 2018 Census Bureau presentation (PPT) of income and poverty in the U.S.
  3. History of Government housing programs
  4. In 1964, the Johnson Administration enacted the “chicken tax,” a 25% import tax on imported autos
  5. History of Shipping Containers and the free of patent innovation that changed international commerce
  6. Economist Daron Acemoglu argues against a UBI program
  7. Search for Job Guarantee and choose the depth that you want to explore on this topic. On Twitter, #JG for many sources.

A Nation of Farm Kids

June 30, 2019

by Steve Stofka

This week the Supreme Court ruled that the administration had not provided an adequate reason to include a proposed citizenship question on the 1920 census. Here’s a snapshot of that section of the census form (Note #1).

This week I’ll look at past census questions through the lens of personal family history – completed copies of census pages. In 1850, the Census first asked people their place of birth and naturalization status. For a hundred years, the census asked the question until the topic was dropped for the 1960 census (Note #2).

In 1860, just before the Civil War, some of my family ancestors were farmers in Mississippi. All forty people listed on that census page had been born in a southern state, most from Mississippi or Alabama.  The Education section of the census did not yet ask whether a person could read and write; only whether each person had attended school in the past year. Fourteen out of forty people listed on that census page had gone to school. There was only one child of school age who had not attended school. A rural farming community in the deep south with limited resources made sure that their children could read and write. That was an essential part of the American project.

In drafting the 14th and 15th Amendments after the Civil War, there was some discussion about adding an English language requirement for voting. At that time, German was the second language of America and was the most taught foreign language in schools. Considering the industriousness and good character of German men, lawmakers decided against such an exclusion. Fifty years later, in the midst of the WW1, Americans would excoriate the hated “Hun” and demean the character of many German immigrants. War changes attitudes.

Let’s skip ahead to the 1900 census taken in a Texas county east of Dallas. The question can you read and write had been added to the census. In a rural farming community, only four out of fifty people listed on that census page could not read and write. All were adults. One was over fifty. All the children aged eight and above were literate.

Let’s travel in time and space to an environment that couldn’t be more unlike rural Texas – the lower east side of Manhattan for the 1930 census. Of the fifty people listed, all adults were immigrants, most of them from eastern Europe. The earliest on that page had arrived in 1890; the latest was just a year earlier, in 1929. All except four people from Russia could read and write. The census asked the language spoken in the home before they came to America. Most people on that page answered Yiddish, except my grandparents, who spoke Slovak. My grandmother, a woman from a rural farming community, could read three languages. It was all part of growing up in the Austro-Hungarian Empire. By the time she died, she had added English to that list. I imagine that the Yiddish speakers had some familiarity with German and Hebrew. How many of us today can read several languages?

The farmers from western Europe had spilled out into the farms of America during the 19th century. In a second wave near the turn of the century, many farmers from eastern and southern Europe found work in the rural communities of the northern states. Many, like my grandparents, crowded into the dense streets of New York City when they first arrived. They worked hard because farm kids learn about hard work as they grow up.

A new generation of farm kids is arriving, but not by ship. They are coming from areas to the south that have been hit hard with drought, violence and political corruption. They come from hard work for little pay (Note #3). They have not waited in line for years to come into this country. Instead, they are showing up at the southern border just as many of our ancestors showed up at Ellis Island and other eastern ports.

Most of us in this country are the descendants of farmers who made sure their kids could read and write. That is the heart of the American spirit: character, hard work and education. Maybe the Congress needs to rewrite the laws so that they conform with the rules that we carry in our hearts and our guts from our parents and their parents and their parents…

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Notes:

  1. Some background on the 2020 census question from Pew Research
  2. Short history of census questions and index of past census questions
  3. See the six part series “Borderland” ( https://www.imdb.com/title/tt3300988/ for info). Six Americans follow the routes of migrants from Central America. An Idaho farmer experiences grueling work for little pay and understands the attraction of his farm to these migrants where they can make 5x as much or more harvesting crops.

Interest Rate Ceiling

June 23, 2019

by Steve Stofka

After the Federal Reserve meeting this week, traders are betting on a cut in interest rates in July and the market hit all-time highs. Is a cut in interest rates warranted at this time? Such an action is usually taken in response to weak employment numbers, a decline in retail sales or sluggish GDP growth. Let’s review just how good the economy is.

Unemployment is at 50-year lows. The percent of people unemployed more than fifteen weeks is near the lows of the late 1990s. At almost 18 million vehicles, auto sales are near all-time highs. Real retail sales continue to grow more than 1% annually. In the first quarter of this year, real GDP growth was over 3%. Ongoing tariffs may cause real GDP to decline one percent but a growth rate above 2% is above average for this recovery after the financial crisis.

Corporate profits have been strong. In fact, that may account for the volatility of the past two decades. The chart below is after tax corporate profits (CP) as a percent of GDP. The multi-decade norm is in the range of 5-8% but the past twenty years have been above that trend except for the plunge in profits and GDP during the GFC.

Companies have paid part of those extra profits as dividends to shareholders who tend to be cautious pension funds or older, wealthier and more cautious individuals.  Some profits have been used to buy back shares and boost the return to existing shareholders.

Despite the above average profits, investors still have a strong thirst for lower yielding government debt. Why? The Federal Reserve has kept interest rates below a market equilibrium, which is currently about 3.8%, far above the current 2.4% federal funds rate (Note #1). As with any price ceiling, the below-market price creates a shortage. In this case, the shortage is in the capital investors want to supply to governments to meet the demand for capital. Consequently, investors have been searching for alternative substitutes or near-substitutes. That distortion is being reflected in stock market prices.

Despite a strong economy and corporate profits, the SP500 has gained less than 5% from its peak high in February 2018 after the passage of the 2017 tax cuts. Including dividends, the SP500 has gained just 5.7% in 16 months. If we turn the clock back a few weeks to the end of May, the total return of the SP500 during the past fifteen months was a big, flat zero. Those gains of the past sixteen months have come in the past three weeks on the hope and the hint of rate cuts.

An intermediate bond ETF like Vanguard’s BIV has returned 5.2% in the same period. On a scale of increasing risk 1-5, with 1 being a safe investment, BIV is rated a 2. The SP500 is rated a 4. Investors buying the broad stock market have not been rewarded for the additional risk they are taking.  How long will this situation persist? For as long as the Fed keeps a price ceiling on interest rates.

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Notes: A popular model of equilibrium interest rates is the Taylor rule proposed in 1993 by John B. Taylor, a member of the Council of Economic Advisors under three presidents. The Atlanta Fed has a utility that calculates the current rate and allows the reader to change the parameters. Click on the graph icon, accept the default parameters and the utility graphs the equilibrium rate and the historical Fed funds rate.

The Federal Risk Reserve

June 16, 2019

by Steve Stofka

What if the federal government offered competitive products that help individuals and businesses manage risk? Today, the government insures many Americans through a variety of programs and a potpourri of agencies. I am proposing that the government do more risk management through a separate and independent agency like the Federal Reserve.

Well, doesn’t the financial industry already act as a risk broker? It does – and it doesn’t. It picks the risks that it wants to broker – and leaves those it doesn’t want to the government. The 1986 S&L crisis, the 1987 stock market crash, the 1998 Asian financial crisis, the 2002 Enron crisis and the 2008 financial crisis indicate that Wall Street is not an efficient risk manager.

Let’s look at some common risks that the government already manages. The federal government insures mortgage risk through an umbrella agency called the Federal Housing Finance Agency, or FHFA (Note #1). Financial companies do not want the risk of loaning money to people for thirty years at a low fixed rate. Why? People’s circumstances and the housing market change over such a long period of time. Finance companies might prefer a shorter time period – say five years – so that they could renegotiate the terms of the mortgage. Many mortgages are bundled by banks and mortgage companies, then sold to investors with guarantees from the government.

The government manages the risk of poor asset management by its member banks. In the late 1920s, the onset of the Great Depression caused the failure of many banks and millions of people lost their life savings. Who would insure a bank against its own lack of judgment or improper management? The government became the insurer of last resort when the Federal Deposit Insurance Corporation (FDIC) was created in 1933 (Note #2).

There were a lot of bank failures during the 2008 financial crisis. Through the FDIC, the federal government handled the transition of each one. No depositors lost money. California, Georgia, Florida, Illinois and Minnesota have each had more than twenty failures in the past decade (Note #3).

Bank failures since 2007

In many cases, the FDIC stepped into a failed bank at closing time on Friday evening, closed the institution and fired the management. Over the weekend they did a thorough accounting of the bank’s assets and liabilities, packaged and sold the bank’s performing loans to another bank which re-opened the following Monday under a new name. Nothing to worry about here, folks. Go on about your business. The FDIC has proved itself an efficient and prudent risk supervisor.

The government manages the risk of natural disasters. Insurance companies are reluctant to cover damage from “acts of God.” Homeowner’s insurance does not cover flooding, for example (Note #4). If they did, it would be prohibitively expensive. Instead, the government insures flood damage through the National Flood Insurance Program (Note #5). Because the program is subject to much political influence, it lacks fiscal prudence. The program’s greatest expenses are recurrent repairs to structures in areas that are prone to flooding, but the program can not charge the premiums reflecting those increased risks. An independent agency with a long-term outlook would act less rashly.

Employee risks are managed by state and federal government agencies which deploy government funds to pay unemployment claims. For employees injured on the job, private insurers are reluctant to pay for replacement wages for an injured employee. Even after medical bills are paid, the employee may need retraining after the injury – an additional expense that private insurers want to avoid. Furthermore, employers wanted to avoid the risk of being sued by their employees for unsafe working conditions. Many states have Workmen’s Compensation programs that are either government agencies or independent agencies set up by law (Note #6).

The federal government manages health risks. It plays a large role in the health insurance market and in the health delivery market through the Medicare, Medicaid and tax subsidy programs. The federal government pays almost half of all health care costs in the U.S. through these programs (Note #7).  In 2017, this amounted to 8% of the entire GDP of the country.

In summary, the federal government is already heavily involved in insuring risk. Private industry has taken the gravy and dumped the risks that they don’t want to insure on the government. If the government assumed some of the lucrative insurance products, it would help offset the costs of these other risks. Let’s get government in the capitalism business. Let an independent government agency start offering some competitive financial insurance products and see if they can attract some market share.

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Notes:

  1. Federal Housing Finance Agency encloses several formerly independent government finance agencies
  2. History of the Federal Deposit Insurance Corporation
  3. The map of bank failures is from the FDIC site
  4. Homeowner’s insurance and the distinction between flooding caused by wind (may be insured) and that caused by rain (not insured). Allstate
  5. National Flood Insurance Program
  6. Workmen’s Compensation Insurance

The Voting Market

June 9, 2019

by Steve Stofka

One hundred years ago, Congress passed the 19th Amendment giving women the right to vote (Note #1). Despite the ratification of the amendment, many African Americans and those from Asian countries faced barriers to voting (Note #2). During the 18th and 19th centuries, America and other developed nations denied women civil and legal rights through marriage and coverture laws (Note #3). Some Islamic nations like Saudi Arabia continue to exclude women from the rights enjoyed by men.

Two-hundred thirty years ago, the Declaration of Independence stated a natural right that all people are created equal.  Unlike our sentiments, 18th and 19th century Americans regarded natural rights as separate from legal and civil rights. When drafting the 14th Amendment following the Civil War, Republicans based their case for black citizenship on natural rights. Such a strategy, however, strengthened the claims of women who wanted the right to vote. Republican lawmakers added Section 2, which specified male persons (Note #4).    

Human societies have a long history of restricting the freedoms of some members of their society. Why? There’s a profitable payoff. The American Medical Society restricts the number of doctors who can be licensed. The result is that American general practitioners enjoy the highest earnings among all nations – double the average of developed countries (Note #5).

Established suppliers of a product or service enjoy less competition and greater profits if they can convince lawmakers to restrict entry into that market. Hundreds of occupational licensing laws reduce the threat of more competitive pricing and cost consumers billions of dollars (Note #6). Older people may remember the Blue Laws preventing the conduct of some business on Sunday (Note #7).  Most Blue Laws today concern the sale of alcohol on Sunday but some states, including Colorado and some Midwest states, prohibit the sale of automobiles on Sunday. Most banks are closed on Sunday, but some states have begun to relax those rules (Note #8). Post Office branches used to offer savings accounts, but these were discontinued in the 1960s (Note #9). To help those who are largely unbanked, post offices could start offering simple banking services again (Note #10).

Each vote is a lottery ticket to choose who has political power. Most votes cancel each other out so there is an incentive for those with similar voting preferences to join forces to make voting easier for their group and difficult for those with different preferences.  

The first debates between Democratic contenders for the 2020 election begin this month. In the coming year, watch for even more strategies designed to restrict or liberalize voting. The election officials in some counties will not operate enough polling places so that lines are long, and voting is inconvenient for some of its citizens, particularly for those who are likely to vote the Democratic ticket. Some states will have vigorous voter registration drives to draw in more voters for the Democratic ticket.

To counter these efforts, Republican lawmakers in some states have passed laws making it more difficult to validate last minute registrations (Note #11). They argue that the integrity of the vote is their only concern and they point out that many Republican led legislatures have implemented DMV registration to make registration easier. Several states are instituting registration at social agencies as well (Note # 12). Democratic organizations characterize any restrictions as voter suppression.

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Notes:

  1. Background on 19th Amendment
  2. Citizenship and voting restrictions in the first half of the 20th century
  3. Marriage and coverture laws denying women the right to own property separate from their husbands
  4. Drafting the 14th Amendment
  5. Comparison of doctors’ earnings
  6. Occupational Licensing laws
  7. Blue Laws
  8. Banks open on Sunday
  9. US Postal Service savings accounts
  10. Proposals to have postal service offer banking services
  11. Laws to restrict voter registration
  12. 36 states are taking steps to modernize voter registration

Budget Perspective

June 2, 2019

by Steve Stofka

How does your spending compare with others in your age group? Working age readers may compare their budgets with widely published averages that are misleading because they include seniors as well as those who are still living at home with their parents or are going to college. Let’s look at spending patterns classified by working age consumers 25-65 and seniors whose spending patterns change once they retire.

The Bureau of Labor Statistics collects data on consumer behavior by conducting regular surveys of household spending (Note #1). These surveys provide the underlying data for the computation of the CPI, the Consumer Price Index. Social Security checks and some labor contracts are indexed to this measure of inflation.

The BLS also provides an analysis of consumer purchasing by household characteristics, including age, race, education, type of family, and location (Note #2). Spending and income patterns by age contained some surprises (Note #3). The average income of 130,000 people surveyed in 2017 was $73K. Seniors averaged $25K in Social Security income. Younger workers aged 25-34, the mid-to-late Millennials, earned $69K, near the average of all who were surveyed. Following the Great Financial Crisis, this age group – what were then the early Millennials in 2010 – earned only $58K, so the growing economy has lifted incomes for this age group by 20% in seven years.

Home ownership is around 62% for the whole population, but far above that average for older consumers. 78-80% of people 55 and older own their own homes. More than 50% of those have no mortgage but too many seniors do not have enough savings. In many states, property taxes are the chief source of K-12 education funding and older consumers have the fewest children in school. Older consumers on fixed budgets resist higher property taxes to fund local schools and they vote in local elections at much higher rates than younger people. Since 2000, per pupil spending has grown more than 20% but most of that gain came in the 2000s.  In the past twelve years, real per pupil spending has barely increased (Note #4). Below is a chart from the Dept. of Education showing per pupil inflation adjusted spending.

Graph link: https://nces.ed.gov/fastfacts/display.asp?id=66

Saving is an expense and working age consumers aged 25-65 are saving 9-12% of their after-tax income, twice as much as the 5.6% average. Wait – isn’t saving the process of not spending money? How can it be an expense?  Call it the imaginary expense, as fundamental to our life cycle as i, the imaginary square root of -1, is to the mathematics of cyclic phenomena. Let’s compare today’s savings percentage with the panic years of 2009-10 just after the financial crisis. Workers in the 25-34 age group – who should have been spending money on furniture and cars and eating out – were saving 20% of their after-tax income (Note #5). That age group will probably carry the lessons – and caution – learned as they began their working career after the financial crisis.

Workers 25-65 spend 28-32% of their after-tax income on housing. Until they are 65, people spend a consistent 12% of their income on food, both at and away from home. Seniors spend less on food but most of that change is because they spend less money eating out at restaurants. Working age consumers spend more on transportation than they do on food – a consistent 15% of after-tax income.

People 65 and older are entitled to Medicare but they spend more on health insurance than working people and the dollar amount of their spending on health care rises by 50%. As a percent of after-tax income, seniors spend 15% while people of working age spend about 6%. Ouch. I’m sure many seniors are not prepared for those additional expenses.

Those of working age should compare their budget averages to other workers, not to the national averages, which include older people and those under 25. Summing up the major expense categories: workers are averaging 30% for housing, 15% for transportation, 12% for food, 11% for personal insurance, pensions and Social Security contributions, 10% for savings and 6% for healthcare.

As Joey on the hit TV show Friends would often say, “So how you doin’?”

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Notes:

  1. Explanation of Consumer Expenditure Survey
  2. Consumption patterns – list Table 1300
  3. The most recent detailed analyses available are for 2017.
  4. Dept of Ed data
  5. Spending and income levels for those aged 25-34 2009-2010.

Tax Reform Winners and Losers

May 26, 2019

by Steve Stofka

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Did your head just explode? That’s how the tax code appears to many of us. This spring, many taxpayers sat down with their tax accountants and were informed that they were among the losers created by the tax reform act that went into effect for the 2018 tax year. Among the losers were employees who claim business expenses. In the western states, many in the construction trades may take a temporary job that is located a few hours from home. Instead of driving home every day, they share hotel rooms or live in campers during the work week and travel home on weekends to be with their family. Some employers pay per-diem expenses, but many smaller employers don’t. Under the old tax laws, an employee could deduct meals, lodging and ordinary living expenses away from home. Under the new law, employee business expenses are subject to a threshold that equals 2% of gross income (Note #1).

An employee with business expenses who has a family of four has discovered that they are the losers this tax filing season, the first one under the new tax law. Under the old law, that family of four used to get $12K standard deduction and $16K in personal exemptions. Now they get a $24K standard deduction and no personal exemption (Note #2). If they have employee business expenses that meet the threshold test, it may not be enough to exceed the new higher standard deduction. Some tax accountants report that their clients are shocked when they learn how much they owe in this first tax year under the new law.

In the future, some workers may be able to negotiate higher pay on these away jobs. Some will have to turn down such jobs.   

Corporate America was a big winner in the tax reform bill. In addition to lowered tax rates, low interest rates during the past decade have helped many publicly held companies buy back their own stock. The stock buybacks have accelerated this past year, with a record 25% of companies in the SP500 buying back their own stock, according to a Wall St. Journal analysis published this week. 

Don’t companies have a better use for the money? Apparently not. When companies buy back stock, they reduce the number of shares outstanding and increase the profit per share reported. In the first quarter of 2019, these buybacks lifted per-share profits by 4%. The share buybacks have distracted investors from the fact that corporate profits have flatlined since 2012.

Corporate profits flatlined during the Reagan administration in the 1980s. Investors bid up stocks on the promise that trickle-down policies and tax reform would break the cycle. Before profits did start to rise again, stock prices shook off their speculative pricing on Black Monday in October 1987. Let’s hope we don’t have a similar phenomenon this time.  

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Notes:

  1. Workplace expense deductions
  2. Tax law winners and losers.

The Pace of Growth

May 19, 2019

by Steve Stofka

We are living in an economy that is fundamentally different than the ones our parents and grandparents grew up in. Some of us want a return to those days. More goods were made in the U.S.A. Each family spent more on food, clothing, furniture and the other necessities of life but the money circulated in our economy, not among the workers of Asia. Union membership was stronger but there were crippling strikes that affected the daily lives of many families. In 2016, the current President promised a return to those days of stronger but more erratic growth. Almost half of voters bet on him to undo the changes of the past several decades. Let’s look at some data that forms the bedrock of consumer confidence.

GDP is the most frequently used measure of the nation’s economic activity. Another measure, Final Sales of Domestic Product excludes changes in business inventories. In the graph below is a chart of the annual change in Final Sales after adjusting for inflation (Note #1). Compare the right and left rectangles. The economy of post-WW2 America was more erratic than the economy of the past thirty-five years (Note #2).

The two paces of growth

In the first 35 years following WW2, growth averaged 3.6%. Since the Financial Crisis there have only been five quarters with growth above 3%. Let’s include the annual change in disposable personal income (Note #3). That’s our income after taxes. Much of the time, the two series move in lockstep and the volatility in each series is similar.

However, sometimes the change in personal income holds steady while the larger economy drops into recession. A moderate recession in 1970 is a good example of this pattern.

1982 was the worst recession since the 1930s Great Depression. Unemployment soared to more than 10% but personal incomes remained relatively steady during the downturn.

In the 1990, 2000 and 2008 recessions, personal incomes did not fall as much as the larger economy. Here’s the 2008 recession. While the economy declined almost 3%, personal income growth barely dipped below zero.

In the last 35 years, annual growth in Final Sales has averaged only 2.8%, far below the 3.6% average of the first 35-year period. After the recession, the growth of the larger economy stabilized but the change in personal incomes became very erratic. In the past eight years, income growth has been 2.5 times more volatile than economic growth (Note #4). Usually the two series have similar volatility. In the space of one year – 2013 – income growth fell from 5% to -2.5%, a spread of 7.5%. In the past sixty years, only the oil crisis and recession of 1974 had a greater swing in income growth during a year! (Note #5)

When income growth is erratic, people grow cautious about starting new businesses. Banks are reluctant to lend. Despite the rise in home prices in many cities, home equity loans – a popular source of start-up capital for small businesses – are about half of what they were at the end of the financial crisis (Note #6). The Census Bureau tracks several data series for new business applications. One of these tracks business start-ups which are planning to become job creators and pay wages. That number has been flat after falling during the Great Recession (Note #7).

Census Bureau – see Link in Notes

Businesses borrow to increase their capacity to meet expected demand. Since the beginning of 2016, banks have reported lackluster demand for loans from large and medium businesses as well as small firms (Note #8). For a few quarters in 2018, small firms showed stronger loan demand but that has turned negative this year. This indicates that business owners are not betting on growth. Here’s a survey of bank loan officers who report strong demand for loans from mid-size and larger firms. While few economists predicted the last two recessions, the lack of demand for business loans forecast the coming downturns.

There is an upside to slow growth – less chance of a recession. Periods of strong growth promote excess investment into one sector of the economy. In the early 2000s, the economy took several years to recover from the money poured into the internet sector. The Great Financial Crisis of 2008 and the recession of 2007-2009 was a reaction to over-investment and lax underwriting in the housing sector. On the other hand, weak growth can leave our economy vulnerable to a shock like the heightening of the trade war with China, or a military conflict with Iran.

Can a President, a party or the Federal Reserve undo several decades of slow to moderate growth? None of us want a return to the crippling inflation of the 1970s and early 1980s, but we may long for certain aspects of those yesteryears. An older gentleman from North Carolina called into C-Span’s Washington Journal and lamented the shuttering of the furniture and textile plants in that area many decades ago (Note #9). Many of those areas have still not recovered. Another caller commented that the Democratic Party long ago stopped caring about the jobs of rural folks in the south. Contrast those sentiments about the lack of opportunity in rural America with those who live in crowded urban corridors and struggle to keep up with the feverish pace and high costs of urban housing, insurance and other necessities.  Two different realities but a similar human struggle.

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Notes:

  1. Real Final Sales of Domestic Product FRED series A190RO1Q156NBEA
  2. Standard Deviation of first 35 years was 2.44. In the second 35-year period it was only 1.56.
  3. Real Disposable Personal Income FRED series DPIC96
  4. Since 2010, the standard deviation of economic growth has been .7 vs 1.75 for income growth.
  5. In the decade following WW2, people had similar large swings in income growth as the country and the Federal Reserve adjusted to an economy dominated by domestic consumption.
  6. Home Equity Loans FRED series RHEACBW027SBOG totaled $610 billion in the spring of 2009. It was $341 billion in the spring of 2019, ten years later
  7. Census Bureau data on new business start-ups
  8. Senior Loan Officer Surveys: Large and medium sized businesses FRED series DRSDCILM. Small businesses FRED series DRSDCIS.
  9. C-Span’s Washington Journal. C-Span also has a smartphone app.

Country Roads and the Election

May 12, 2019

by Steve Stofka

I spent the past week traveling with my sister to a family reunion near Dallas, Texas. In our travels, we passed through rural counties in southeast Colorado, western Oklahoma, and northwest and central Texas. In contrast to the signs of a brisk economy in the larger cities, some rural communities show signs of stress. Some roads leading off the main route need repair; some houses could use a fresh coat of paint; some stores have delayed maintenance. In some small towns most of the stores remain boarded up ten years after the financial crisis.

Candidates for the 2020 Presidential election must speak to the two Americas. The Americans who produce the food we eat and the power that lights our businesses and homes are not doing as well as those in the urban corridors. Young people in rural America leave for the larger cities to find a job or pursue an education. Older people with medical needs must move to larger cities with hospital facilities available in an emergency.

Let’s turn to a proposal on the list of issues for the 2020 election – an increase in the Federal minimum wage. A person making a minimum wage of $15 an hour in Los Angeles earns a bit more than half of L.A.’s median household income (MHI). She may work 2-1/2 weeks to pay the rent on a one-bedroom apartment (Note #1). The MHI in rural America is about 20% less than the national average. In Limon, Colorado (population less than 1500), the MHI is about half of the national average (Note #2). $15 an hour in Limon is the MHI.

In 2009 and 2010, the Democrats controlled the Presidency, the House and had a filibuster proof majority in the Senate. They could have enacted a federal minimum wage that was indexed to the living costs in each county or state. Why didn’t they fix the problem then? Because Democrats use the minimum wage as an issue to help win elections. If Congress passes a minimum wage of $15 an hour this year, they will have something new to run on in five years – a raise in the minimum wage to $17 an hour. Voters must begin asking their elected representatives for practical and flexible solutions, not political banners like a federal mandated one-size-fits-all $15 minimum wage.

For decades after World War 2, Democratic Party politicians who controlled the House refused to allow legislation that would index tax rates to inflation. This resulted in “bracket creep” where cost of living wage increases put working people in higher tax brackets automatically (Note #3). The problem became acute during the high inflation decade of the 1970s and the issue helped Ronald Reagan take the White House on a promise to fix the problem.

A week ago, I heard a Democratic Senator running for President say that they knew all along that Obamacare was just a start. The program was poorly drafted and poorly implemented and now we learn that Democrats knew all along that it was bad legislation? Will Medicare For All also be built on poor foundations and require a constant stream of legislative and agency fixes? This provides a lot of work for the folks in Washington who draft a lot of agency rules that require a lot of administrative cost to implement. Democrats are fond of federal solutions but show little expertise in managing the inevitable bloated bureaucracy that such solutions entail.

Some Democratic Party candidates are promising to fix the harsh sentencing guidelines that they themselves passed in the 1990s, which fixed sentencing guidelines enacted 25 years earlier by Democratic politicians in the 1960s and 1970s. This party’s platform consists of fixing its earlier mistakes.

According to a Washington Post analysis of election issues (Note #4), some candidates are concerned about corporate power. A Democratic president would have to work with the Senate’s Democratic Leader Chuck Schumer whose main support comes from large financial corporations based in his home state, New York. While a President Elizabeth Warren might propose regulatory curbs on corporate power, Mr. Schumer would be gathering campaign donations from the large banks who needed protection from those same regulations.

Large scale industrial power production has a significant effect on the climate. The few blue states that supported a Democratic candidate for President in the 2016 election also consume most of the final product of that power production. Have any candidates proposed solutions that lower the demand for power? Temperature control systems in commercial buildings could be set to a few degrees warmer in the summer and a few degrees cooler in the winter. That would have a significant impact on carbon production. Some candidates propose solutions that regulate the production and supply of power – not the demand for power. Most of that production occurs in states that supported a Republican candidate in the 2016 election. Proposals to install wind and wave generating stations in Democratic leaning coastal states in the northeast and northwest have been met with local resistance. Voters in the blue states want green solutions to be implemented in the red states, but not inconvenience residents of the blue states. Voters in the red states see through that hypocrisy.

A viable Democratic candidate must convince independent voters who are wary of political solutions from either party.  Donald Trump won the Presidency without visiting rural folks on their home turf. He landed his plane near a staged rally and the folks came from miles around to hear him. Compare that approach with former Republican candidate Rick Santorum who visited many small towns in Iowa in the months before the 2012 Iowa primary. In small restaurants and rural post offices, Santorum listened to the concerns of voters. Trump’s approach was successful. Santorum was not. Go figure.

Trump convinced rural folks that he was going to go to Washington and drain the swamp. This in turn would help the economy in small town America so that those folks could get themselves a new roof, or a new pickup truck, fix the fence or get a few potholes patched. From what I saw, those folks are still waiting. Some rural folks may run out of patience with Trump by next year. The success of any Democratic candidate depends on that.

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Notes:

  1. One week’s take home pay of $550 x 2.5 weeks = $1375. A 1 BR in L.A. averages $1350 L.A. Curbed
  2. Areavibes.Com assessment of Limon, Colorado.
  3. Tax indexing
  4. Washington Post article on various election issues