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Economic Myths Debunked Debunked V

Penultimate Myth from Mother Jones:

Myth #5 Obama is Debasing the Dollar

There’s just no basis to the claim that Obama has debased the currency. And that’s unfortunate. As economist Dean Baker is fond of pointing out, if we want to get our national savings rate up and our long-term budget deficit down, there’s only one way to do it: by fixing our massive trade deficit. We have to import less and export more, and one way to make that happen is with a weaker dollar. A weaker dollar makes foreign goods more expensive, so we’ll buy less of them, and makes American goods cheaper, so others will buy more of them.

There are two arguments here, firstly, that the dollar has not been debased, and secondly, that our currency should be debased to make our manufactured goods more attractive internationally.

Money supply is a very complicated subject and one I really don’t want to tackle in this series. There are arguments for and against a weakening American dollar. The primary argument for a debased dollar stems from an increase in m1, m2 and/or currency supplies, as measured by the fed (which could be meaningless, or not) and the huge increase in gold, silver, wheat, corn, copper and other commodity prices. It appears the US Dollar has lost some ground (i.e. been debased) and it is likely the result of the Fed’s quantitative easing.

However, should the US be actively debasing the Dollar? To explain exactly what is going on here, I suggest going through the Khan Academy Currency playlist that should illuminate the subject a bit better. The primary point I would want to make here about purposefully debasing your currency to support your manufacturing sector is: there is no free lunch.

Destroying your currency helps manufacturers, but it hurts everyone else. Wealth is basically stolen. Everyday, the currency in your pocket will be able to buy fewer and fewer goods. All of the evils of inflation eventually surface. It’s even possible world banks will turn away from using the Dollar as a reserve currency. It’s not something you should take lightly. There’s a lot of hubris at work in even suggesting the road to prosperity starts with a weakening dollar, and a weakened dollar is something that might have contributed to the premature end of several presidencies since Nixon decoupled the dollar from gold.

Great F.A. Hayek Video

Economic Myths Debunked Debunked IV

Mother Jones says:

Myth 4: Regulatory Uncertainty is Clogging the Economy

In its most recent quarterly survey (PDF) of small-business trends, the National Federation of Independent Business reports that sales—i.e., lack of demand—is the No. 1 concern, beating out taxes, regulations, inflation, and everything else. This is backed up by another survey by the Small Business Majority, in which nearly half of respondents said economic uncertainty was one of their business’ top problems; 13 percent said regulation.

There are two problems with this ‘debunking’, the first is, according to the BEA, aggregate demand has returned to pre-recession levels.

People, please look at the data. They are conveniently available to one and all at the website maintained by the Commerce Department’s Bureau of Economic Analysis, the outfit that generates the national income and product accounts for the United States.

According to these data, real personal consumption expenditure recovered from its recession decline by the fourth quarter of 2010. Continuing to grow, it now stands (as of the most recent data, for the second quarter of 2011) even farther above its pre-recession peak.

The second problem is the survey has its own inherent selection bias. Two parties have not been included in this survey. The first group represents those small business owners who are no longer in business; the second those people who intended to create a business and couldn’t, for whatever reason.

The problem with only asking existing businesses about their current problems is they are almost always going to say “low sales” whether the economy is good or not. The pressure to make sales is constant in business. Also, existing businesses have successfully navigated the regulatory barriers start-ups often encounter and existing businesses have yet to be put out of business by either government taxes and regulation or lack of sales (among many other reasons businesses fail).

And look at the survey results:

Government, either through taxes or regulation, represents the #1 problem for 36% of respondents, which is higher than the 23% worried about their sales. In fact, inflation and cost of labor could also be tacked on to the “government is a big problem” list.

This survey does nothing to help the Mother Jones point of view that more stimulus spending is needed to help small businesses. At best, the results are mixed. Government is still a big problem to small businesses, more so than their larger corporate competitors or even a lack of sales.

Economic Myths Debunked Debunked III

Finally we get into some real statistical meat in the third part of this series. (Part I/Part II/Original MJ Post)

Myth 3: Lower Taxes are the Best Way to Grow the Economy

No one likes paying higher taxes. But do lower taxes actually spur economic growth? Bruce Bartlett, an economist in the Reagan administration, has compared tax rates in various rich countries in 1979 to each country’s growth rate since then. His conclusion? There’s virtually no correlation. Recent US history backs this up too.

Taxation is one part of an enormously complex economic ‘equation.’ There are many factors that go into whether an economy expands or contracts. Taxation, regulation, government spending, entitlement programs, natural resources, corruption, behavior, culture, diversity, monetary policy, immigration, the list goes on. The ‘market’ is organic; three hundred million people interacting throughout an entire continent, making billions of decisions everyday. And then we must consider the global economy, which is six billion people participating in trade across borders. Finding one factor amidst all that complexity will be tough.

Beyond the complexity inherent in economic analysis, discussing taxation also presents us with a major confound. Taxation changes behavior. We all experience this. Every tax season millions of us pay money to accountants in order to pay what we owe, and not a penny more. I have to imagine the number of people who go to a tax preparer and say “find out what I owe, then we’ll give ‘em an extra ten percent” is really, really low. The mortgage deduction enables and encourages homebuying. Cigarette taxes reduce the amount people smoke and reduce the total percent of the population who smoke. People will commit incredible financial and behavioral acrobatics to avoid paying taxes. Black markets, gray markets, flea markets, all are products of the drive to avoid taxes and regulation.

And thus, if people change their behavior based on taxes in order to minimize what they pay, we can assume there might be some difficulty in doing a straight-up comparison between tax rates and GDP growth.

This current liberal talking point, that taxes don’t have consequences, is based on a ridiculously simplistic attitude towards the economy. It’s nonsense. Anyone who thinks a 99% income tax won’t hurt the economy can kindly stop voting, forever. People would simply stop working and support themselves in ways not reported to the IRS.

The Mother Jones people do give us an interesting graph comparing effective income tax rates to a rolling average GDP growth:

I like the use of a rolling average for GDP growth because it eliminates a lot of the noise found in the year-to-year numbers. Captain Capitalism, a blog that should a daily read, looked at the relationship between the rolling GDP growth and another huge economic factor, government spending:

And wouldn’t you know it, the more our government has spent, the more slowly our economy has grown. Is this something we see elsewhere? Oh yes:

So yes, while trying to pin down specifics regarding tax rates and tax methods is very difficult, and economies are really complex and it’s hard to find a single big factor affecting how it grows, we do see an obvious pattern where the larger government is as a percent of the whole economy, the slower that economy grows.

Controlling the percent of the economy the government represents is thus a huge goal, if you care about economic growth.

Economic Myths Debunked Debunked II

I introduce this series in the first post here. Basically, I’m tackling a Mother Jones post that I believe exemplifies the differences in philosophy between liberals and conservatives when it comes to the economy.

Myth 2: The Deficit is our Biggest Problem right now.

It’s true that we need to address our long-term deficit problem—a problem almost entirely due to Medicare and other health care expenditures. But that’s in the long term. Right now, our problem is a sluggish economy and too many people out of work. And let’s not forget that the Bush tax cuts, not stimulus spending, will also fuel deficits for the foreseeable future.

The real answer to future deficits is to spend money now to get the economy growing again. Yields on federal bonds are at record lows. That means, as University of California-Berkeley economist J. Bradford DeLong has calculated, that the government could inject a big stimulus into the economy at an unbeatably low price: Spend $1 trillion but (because of low interest rates and the tax revenue from a faster-growing economy) borrow only $400 billion. Act now!

Act Now! or not.

There are a few problems here. Firstly, who are they quoting? Who is suggesting this? I know conservatives are concerned with the deficit and growing national debt. But watch the Republican debates, do they talk more about deficits, or the economy? Obviously the big problem is the anemic growth of the economy. Conservatives believe the job market will improve with the economy, and both liberals and conservatives believe the deficit issue will be easier to tackle in a vibrant economy. Liberals may wish the conservatives were obsessed only with the deficit, but this is not the case.

Secondly, who is going to invest in a country that has a government in debt and getting deeper into debt everyday? Especially when there are better places to put that money? We can’t keep looking at America in vacuo. There are other countries with growing economies, more available labor, friendlier tax environments and more rational energy policies. It’s going to be hard enough to attract capital to America under these circumstances without having a government on the verge of bankruptcy. Here was see the very real possibility that running a high government deficit retards economic growth. Investors know money borrowed today must be repayed eventually, and sending money to places where there is not a lot of debt results in a smaller chance of losing future gains to inflation or taxation.

Thirdly, there’s no reason why the current government can’t set about making longterm changes to our entitlement programs and other deficit drivers and do other things as well. Liberals are trying to give a false choice, care about the economy or care about the deficit. It’s quite possible to do both. And that means creating an America good for business.

The current liberal attitude towards the economy has nothing to do with creating a competitive regulatory and tax environment, nor is it concerned with how wealth is created. Their underlying assumption is the best way to create wealth is for the government to use the nation’s credit card, get money circulating so businesses and people are fooled into thinking things are okay. But fooling people is getting difficult.

As I explained in the first post in this series, we can’t simply plug government spending into economic models and expect the multiplier effect to appear. The assumptions behind those models are wrong.

Economic Myths Debunked Debunked

Several Facebook friends of mine continuously post articles from Mother Jones, a progressive non-profit news organization. I do appreciate some of the stuff posted as there are occasional graphs, suggesting an attempt at real analysis instead of blathering ideological rationalizations. This MJ post presents a case against six economic “myths” being perpetrated by the corporate media (or something along those lines). Here’s my take:

Myth 1: “The Stimulus Failed”

Everyone from the nonpartisan Congressional Budget Office (PDF) to private-sector forecasting firms have concluded that the 2009 stimulus package increased economic growth, reduced unemployment, and put millions of people back to work. It just wasn’t big enough, or long-lasting enough.

I looked into both the private-sector and CBO reports, and both use economic modeling to reach their conclusions. Here’s what the CBO said about their methods:

If you happen to be skeptical of the magical Keynesian multiplier effect, these reports are useless. Instead, there needs to be some empirical analysis. Counting things. What do these studies suggest? That the stimulus bombed. Here’s what the AP found:

The Obama administration has argued that it’s unfair to count construction jobs in any one county because workers travel between counties for jobs. So, the AP looked at a much larger universe: The more than 700 counties that got the most stimulus money per capita for road construction, and the more than 700 counties that received no money at all.

For its analysis, the AP reviewed Transportation Department data on more than $21 billion in stimulus projects in every state and Washington, as well as the Labor Department’s monthly unemployment data. Working with economists and statisticians, the AP performed statistical tests to gauge the effect of transportation spending on employment activity.

There was no difference in unemployment trends between the group of counties that received the most stimulus money and the group that received none, the analysis found.

Here’s another empirical analysis using slightly different methods:

Incoming data will reveal more in coming months, but the data available so far tell us that the government transfers and rebates have not stimulated consumption at all, and that the resilience of the private sector following the fall 2008 panic–not the fiscal stimulus program–deserves the lion’s share of the credit for the impressive growth improvement from the first to the second quarter. As the economic recovery takes hold, it is important to continue assessing the role played by the stimulus package and other factors. These assessments can be a valuable guide to future policy makers in designing effective policy responses to economic downturns.

And another:

For our analysis, we looked at the 435 congressional districts in the United States plus the District of Columbia, but excluded Puerto Rico, the U.S. Virgin Islands, and foreign stimulus recipients, such as Canada. The average number of awards per district is 128, and the average dollar amount awarded per district is $355,103,891.

There are 177 districts represented by Republicans and 259 represented by Democrats. On average, Democratic districts received 1.6 times more awards than Republican ones. The average number of awards per Republican district is 94, while the average number of awards per Democratic district is 152.

Democratic districts also received 1.89 times more stimulus dollars than Republican districts. The average dollars awarded per Republican district is $232,047,857, while the average dollars awarded per Democratic district is $439,200,100. In total, Democratic districts received 73.47 percent of the total stimulus funds awarded. In terms of numbers of awards, Republican districts received 29.77 percent of the total, while Democratic districts received 70.22 percent.

Controlling for the percentage of the congressional district that was employed in the construction industry, we find that there is no statistical correlation between the median income in that district and the unemployment rate. This is true for all relevant unemployment indicators. (See Figures 1 and 2.)

We found no correlation between economic indicators and stimulus funding. Preliminary results find no effect of unemployment, median income, or mean income on stimulus funds allocation.

Then, we checked for the correlation between political indicators and stimulus funding. With the exception of the district’s party affiliation (whether the district’s representation was Republican or Democrat), we found no effect of political variables on stimulus funds allocation.

Stimulus funds were not allocated equally throughout the country. Some congressional districts got more money, some counties got more money, others less and this information was public. Thus, the Obama stimulus bill (ARRA) was a natural experiment. If you went out and tracked down the actual numbers, instead of using economic models, you failed to find a real effect.

I prefer those analyses actually counting outcomes, rather than the analyses using textbook equations to come to politically convenient conclusions. Thus, we can confidently conclude the stimulus failed.

I’ll be taking a look at the rest of these “myths” over the coming week.

Milton Friedman on the Gold Standard

100,000

Sweet. And it only took 1230 days, that’s 3 years, 4 months and 13 days, to get there on WordPress (and that is a bit faster than blogger).

Best Copy I’ve Read Today

And maybe the best economic copy I’ve read this week:

This assumption that people behaved in reliable, predictable ways was often equivalent to assuming that people in the economy were stupid and could be repeatedly fooled. If you wanted to spur the economy, just apply a burst of stimulus spending or pump up the money supply. When the economic agents in the economy—say, gullible store owners—saw customers coming through the door, flush with the new cash, they would conclude that happy days were here again and ask their suppliers to ramp up production; the economy would then spring to life. Those store owners wouldn’t stop to ask whether the stimulus would be paid for by higher future taxes, or whether the newly printed money would cause inflation, thereby undercutting its value. They would just suffer the rude surprises later on.

In rational expectations models, the people are smarter; they know what’s going on. If you offer them goodies today, paid for by taxes tomorrow, they look at both sides of the ledger, not just one. To the dismay of graduate students, this makes the math much harder. It also undercuts some of the old verities. At a dinner with Sims, when I was just coming out of graduate school, I made some mention of aggregate demand. He asserted that there was no such thing. This was deeply unsettling, even after my exposure to teachers like Sargent and John Taylor. More importantly, the rational expectations approach implies that the challenges are much greater for the economic policy maker, who now needs to worry about savvy economic counterparties who understand the game.

Why should we set aside our old, nice, simple economic models in favor of ornate new ones? Only because the old ones were not working very well.

Read the whole golshderned thing.

Twins Budget

There’s some question about how much money the Twins are going to spend on payroll next year. They’re on the hook for about 80 million dollars, and they spent $115 million this year (2011) on players. In order to properly plan for next year, the number crunchers in the Twins frontoffice need to guess at how much money they’ll make next year. This is not easy, as winning produces its own revenue. But you need to win a lot. If you can’t guarantee about 90 wins, your gate receipts won’t go up (see previous post on this topic).

Some will say the new stadium will keep attendance high, but this is a fallacy. Attendance did drop a bit this year, and it will drop even more next year as the standard new stadium honeymoon is about two years (source 1, source 2 p28). Unless the Twins are at or near the top of the AL Central Division all year, the Twins should expect a precipitous drop in attendance.

And I don’t see the Twins being able to win 90+ games next year even if they spent a bunch of money and Morneau/Span/Mauer came back completely healthy. If I were the Twins frontoffice number cruncher, I would be pessimistic. I would predict a 10% decline in gate receipts (about $10 million). In order to preserve the current EBITDA, the Twins shouldn’t spend more than $105 million on payroll. In fact, I would suggest aiming for the $100 million mark. Thus, the Twins will have less than $20 million dollars to spend on free agents.

That’s if I were the analyst. If I were the GM, I would take a completely different direction and start reconstructing the organization. I would spend next to nothing on free agent players (though I would bid up Clint Barmes). I’d be trading veterans and some of the lesser prospects (Ben Revere) and I would be openly relying on AAA/AAAA players all year. The organization is completely dry and the Twins can’t afford to get into a situation where they spend all their money on free agents to reload every year. They will lose this strategy. Smith needs to start planning longterm.

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