Finding the Right Wires

February 14, 2021

by Steve Stofka

Since WW2, households have traditionally held more debt than the federal government as a percent of GDP. I’ll call it %Debt. The biggest component of household debt is mortgages, and includes car loans, student loans, credit card debt, etc. A decade ago, Federal %Debt surpassed households, effectively allowing households to reduce their debt level and put it on the federal balance sheet.

Federal debt spiked during the pandemic while household debt levels have risen only 1.5%. For decades, deficit hawks have long warned that rising federal debt levels could cause an economic implosion that would make the Great Depression look tame by comparison. They may be right – finally.

There are two ways that the federal %Debt can go down. The first is to grow the economy; that’s the GDP in the denominator of Debt / GDP. The second way is to reduce the level of Debt, the numerator. It is unlikely that Congress is going to raise taxes enough to reduce the debt, so that leaves only one way to reduce %Debt – grow the economy faster than the growth in federal debt.

To do that, consumers need to spend money because their spending makes up 70% of GDP. There are three ways to increase spending. The first is to increase incomes faster than economic growth but that has not been happening for several decades. The real growth in middle class incomes over the past 30 years is only 15%, or 1/2% per year average.

The non-partisan Congressional Budget Office projects that total incomes will increase by an average of $33B per year over the next decade if the minimum wage is raised to $15 over the next five years (CBO, 2021). That increase of 1.5% in GDP will not change the federal %Debt by much.

The second way to increase GDP is for consumers to take on more debt. A rise in housing prices has lifted the net worth of many households, who can tap into that equity to increase their spending. However, households are already choked with debt. The two largest generations, the Millennials and the Boomers are offsetting each other’s spending. Older Boomers are reducing spending as Millennials increase their purchases. The Millennials have been crushed by the financial crisis a decade ago and again with the Covid crisis. Many feel like they came along at the wrong time in history and are cautious. When consumers pay down debt, they spend less and that lowers GDP growth.

The third way is probably the trend of the future. The federal government will continue to pile debt on its balance sheet and shift income onto households in the hopes that consumers will spend money and grow the economy faster than the rise in federal debt. There is a concept called the multiplier and economists argue over its value. It is the total effect of spending in an economy when the government spends $1. That depends on consumer and business confidence, which depends on the amount of debt each sector holds. The IMF estimates that the multiplier is about 1.5, so that $1 of spending equals $1.50. If so, deficit spending might grow the economy faster than the federal debt grows.

I’ll return to a proposal I discarded earlier – increasing taxes, particularly on the top 10% who don’t spend as much of their incomes on consumer goods as the bottom 90%. Under the Budget Reconciliation rule in the Senate, the Democrats could pass tax legislation that undoes the 2017 tax cuts that the Republicans passed using that reconciliation process. In his campaign proposals, President Biden limited any tax increases to those making $400,000 or more, a small sliver of the population.

Income distribution is skewed toward the upper 5%, who will fight vigorously to keep what they have. They will complain – and they have a point – that they are already paying higher taxes in the form of lost income because interest rates are so low. Those with savings are being paid a paltry amount in interest but the low rates reduce the interest on the debt that the federal government pays each year. Boomers on fixed incomes are having to reduce their savings faster  to meet monthly expenses.

The structure of income distribution is weak. No, it’s not a problem with capitalism, as some like to claim. This is a problem with political policy which pre-dates capitalism. A small group of people in a nation take command of the distribution levers and direct more of the nation’s income to themselves. In the 1700s, the problem was thought to originate with monarchy and aristocracy. Democracy was going to cure the problem, but it didn’t. Communism was going to cure the problem and it didn’t. Socialism – the middle way between capitalism and communism – was going to solve the problem, but the EU demonstrates that socialism simply slows growth, increases structural unemployment, and does little to solve the persistent problem of distributional inequalities.

Governments worry about exogenous factors like Covid, war, or a dramatic shift in commodity prices. While those do produce crises, they do so because of endogenous factors – weaknesses in a nation’s political and economic system that award property rights in such a way as to exacerbate social tensions. The Great Depression and Financial Crisis were examples.

Since the Financial Crisis a decade ago, people in nations around the world have been raising their fists and their voices. The productivity gains that capitalism promoted had ameliorated the centuries old problem of political oligarchies, but no economic system can solve what is fundamentally a political problem.

Those who voted for former President Trump in 2016 did so thinking that he was a political outsider who could “drain the swamp,” i.e., bust up the political oligarchy that controls Washington. He became part of that oligarchy, feeding the monster, because it relied on his lack of political expertise.

Those who voted for President Biden hope that his decency and moderation will help craft legislation that unlooses the grip that the oligarchy has on our political process. Which wires do we pull to disconnect the oligarchy?

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Photo by Victor Barrios on Unsplash

Congressional Budget Office (CBO). (2021, February 08). The budgetary effects of the raise the Wage act of 2021. Retrieved February 13, 2021, from https://www.cbo.gov/publication/56975

Tax Policy Center. (2020, May). What is reconciliation? Retrieved February 13, 2021, from https://www.taxpolicycenter.org/briefing-book/what-reconciliation

Thanksgiving Leftovers

December 1, 2019

by Steve Stofka

My wife and I were visiting dear friends in Cedar Falls, Iowa, a college town surrounded by farms, small industrial businesses and several Amish communities. The people are friendly, the town is bucolic, and the downtown area has been revitalized after a flood several years ago. I was introduced to Hurts Donuts, a franchise of cake style donuts that just opened in Cedar Falls (KWWL, 2019). Yum, yum.

A 1600 SF house built in the 1950s can be had for less than $200K. I priced one house in Cedar Falls that would have sold in Denver for $350-$400K. Asking price was $180K. We helped a friend move into a townhome with 1100 SF living area and a garage. Rent? $850 per month, half of what I could rent a townhome in Denver.

Do the residents make considerably less? Not according to Best Places (n.d.). Their median household income and average income are almost exactly the national average. Cedar Falls sister city is Waterloo, which has the largest population of African-Americans in Iowa. At about 10,000, that’s less than 2% of the state’s population. That’s half of the black population in a neighborhood two miles from where I grew up in New York City. Iowa doesn’t do black. New York City does.

The city made the local news this year when the financial web site 24/7 ranked the city as the worst place in America to be African-American. Ouch. A reporter with the Waterloo-Cedar Falls Courier dug deeper into the Census Bureau numbers used by 24/7 and confirmed that the data was not skewed or taken out of proper context (Steffen, 2019).

Presidential candidates visit the twin city area frequently. Elizabeth Warren was going to be back in Cedar Falls on December 1st, but we couldn’t stay there. Candidates for either party pound the rostrum and offer solutions for big problems. The biggest problems are the small ones next door to us.

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Works Cited:

Best Places. (n.d.). Cedar Falls, Iowa. [Web page]. Retrieved from https://www.bestplaces.net/economy/city/iowa/cedar_falls

KWWL. (2019, November 6). Hurts Donut open today in Cedar Falls. [Web page]. Retrieved from https://kwwl.com/news/top-stories/2019/11/06/hurts-donuts-open-today-in-cedar-falls/

Steffen, A. (2019, February 2). Waterloo Confronts List’s Label as Worst Area to Be Black. Waterloo-Cedar Falls Courier. [Web page]. Retrieved from https://www.usnews.com/news/best-states/iowa/articles/2019-02-09/waterloo-confronts-lists-label-as-worst-area-to-be-black

Wikipedia. (n.d.). Bayside, Queens. [Web Page]. Retrieved from https://en.wikipedia.org/wiki/Bayside,_Queens

Median and the Mean

The mean or average is a different animal than the median, yet the two are sometimes confused.  The median is the middle of a data set – 50% of the data are below that middle, 50% are above.  The median housing price for an area is more representative of the area than the average price, which is skewed higher by really expensive homes.

A revealing look at an overall trend in wages is the following table from the Social Security Administration, showing the growing disparity between the median wage and the average wage for the past two decades.  Adjusting for inflation, the median wage, in 1990 dollars, has increased 11% from $14,498 to $16,095 ($26,514 in 2008 dollars).  The average wage, however, has increased 19% – from $20,172 to $24,071 ($39,652 in 2008 dollars).  In the far right column of the table, we can see the ratio of median to average wage declining, showing that the top half of income earners are seeing significantly better progress than the lower half.

Stock market wags repeat the mantra that a rising tide raises all boats.  The tide of the past two decades has left half of the boats stuck in the mud.  

Income Disparity

Beth referred me to a Slate article by

This article has a decided “liberal” slant.  The graph showing disparities in income leaves out “transfers of income”.  In July 2010, the BEA reported that transfer payments were 1/6 of total personal income, or about 30% of what people got paid in wages and salaries.  Transfer payments include Social Security, unemployment insurance, back to work welfare programs, pell grants, etc, etc.  There is disparity of income but Paul Krugman and others who have a strong political agenda pick out the data that most strongly shows their case.  Income is income.  In the early part of the 20th century there were no social safety net programs and few transfer payments.  Now, they comprise a significant part of income for a growing part of the population and should be included for comparison.

A final note:  There will always be disparities in income, disparities in circumstance, disparities in ability.  James Madison, the primary architect of the Constitution, was well aware of this and wrote in Federalist #10:
 

The diversity in the faculties of men, from which the rights of property originate, is not less an insuperable obstacle to a uniformity of interests. The protection of these faculties is the first object of government. From the protection of different and unequal faculties of acquiring property, the possession of different degrees and kinds of property immediately results; and from the influence of these on the sentiments and views of the respective proprietors, ensues a division of the society into different interests and parties.

Those who hold and those who are without property have ever formed distinct interests in society. Those who are creditors, and those who are debtors, fall under a like discrimination. A landed interest, a manufacturing interest, a mercantile interest, a moneyed interest, with many lesser interests, grow up of necessity in civilized nations, and divide them into different classes, actuated by different sentiments and views. The regulation of these various and interfering interests forms the principal task of modern legislation, and involves the spirit of party and faction in the necessary and ordinary operations of the government.

The violence of factions had brought down previous republics like Greece and Rome.  What can remedy this natural tendency of people to form factions?

There are two methods of curing the mischiefs of faction: the one, by removing its causes; the other, by controlling its effects.
There are again two methods of removing the causes of faction: the one, by destroying the liberty which is essential to its existence; the other, by giving to every citizen the same opinions, the same passions, and the same interests.

Realizing that the cures for faction are worse than the disease of faction, Madison constructed a Constitution by which the different factions in this country would push and pull for power.  Unlike utopians who dream of a better world if only people weren’t so self-interested, Madison understood that self-interest was natural to people and developed a legislative structure that could hopefully balance those competing interests.
Today we have become a country of factions fighting for federal largesse:  farmers who want price supports, the unemployed who want benefit extensions, students wanting more generous student loan programs and grants, industrial towns wanting government support to bring businesses to their area, banks and car companies wanting bailouts, consumers wanting ever more protections, seniors wanting generous cost of living adjustments to their pensions, people wanting more regulations, people wanting less regulations, etc, etc.  We are turning into a country of supplicants raising our voices in a cacophony of “Gimme” and “It’s mine.” 
And we call ourselves a great nation.