Earlier this year we did an analysis of CEO compensation in the health insurance industry to see if it was affected by the cap on deductibility imposed by the Affordable Care Act (ACA). One of the provisions of the ACA limited the amount of CEO pay that health insurers could deduct on their taxes to $500,000, beginning in 2013.

This provision effectively raised the cost of CEO pay to insurers by more than 50 percent. Prior to 2013, the deduction in effect meant that the government was picking up 35 cents of every dollar of CEO pay, while the companies were paying just 65 cents.^[1] With the new provision in place, insurers are now paying 100 cents of every dollar of CEO pay in excess of $500,000.

If the pay reflects the value of the CEO to the company, we should expect this change to reduce the pay of CEOs in the insurance industry. For example, if a CEO gets paid $20 million a year, this should mean that she delivers roughly $20 million in additional value to shareholders.

When the CEO’s pay was fully deductible, the $20 million paid to the CEO actually only cost the company $13 million. This would presumably be the number that matters to shareholders since they care about how much money comes out of their pockets, not the number on the CEO’s paycheck.

Donald Trump's tendency to make things up as he goes along naturally prompts a strong reaction from people who try to approach issues in a serious way. But serious people can sometimes get carried away in this reaction.

Glenn Kessler, the Washington Post's fact checker, got a bit carried away in trying to set readers straight on Trump's bizarre claim we have a $100 billion trade deficit with Canada. (We do have a trade deficit, but it is closer to $20 billion.) In his Fact Check piece, Kessler asserts:

"If overall trade increases between nations, people in each country gain, no matter the size of the trade deficit."

This is not necessarily true. Let me go through two cases, one in which the countries are below full employment and one in which they are at full employment.

Suppose in the first case one country, let's say Denmark, decided to subsidize $100 billion of exported cars to the United States, displacing $100 billion of domestic production. The immediate effect of the increased imports from Denmark is a loss of output and employment in the United States.

In principle, the Danes have another $100 billion to buy goods and services from the United States, but suppose they don't like anything we sell. In the textbook story, they would dump their $100 billion on world currency markets, driving down the value of the dollar. This would make US goods and services relatively cheaper, thereby causing us to export more and import less, possibly fully offsetting the $100 billion in increased imports.

But suppose the evil Danish central bank used these dollars to buy up US government bonds, as many countries have done over the last two decades. This would keep the dollar from falling. The purchase of US bonds would have some effect in lowering US interest rates, but this would be just like the Fed's quantitative easing policy. The lower interest rates would boost demand, but not nearly enough to offset the $100 billion increase in our trade deficit.

So, in this below full employment story we end up with a situation where trade has increased by $100 billion, but the US is left with lower employment and output. It sure looks like it has been hurt by more trade.

June 12, 2018

June 12, 2018 (Prices Byte)

No, this one is not at all a joke. Harvard Professor and former AIG director (yes, the one the government bailed out in 2008) Martin Feldstein wants the Fed to stop worrying about unemployment and just focus on inflation. His Wall Street Journal column argues for ending the Fed's dual mandate and instead just having an inflation target.

Before getting to the substance, it is worth a short digression on Feldstein's track record. Feldstein was sitting on AIG's board of directors as the insurer issued hundreds of billions of dollars worth of credit default swaps on mortgage-backed securities at the peak of the housing bubble. Mr. Feldstein apparently saw no problem with this. While the company had to be saved from bankruptcy by a massive government bailout, Feldstein was pocketing well over $100,000 a year for his oversight work as a director.

While Feldstein missed the bubble that sank the economy, he did manage to finger a bubble that didn't exist. Four years ago he wrote a column with former Citigroup honcho (yes, the one the government bailed out in 2008) Robert Rubin, his Democratic counterpart as a purveyor of wisdom from the financial sector. The column urged the Fed to raise interest rates in order to deflate the bubble they saw building in financial markets. (Here is my comment at the time.) Had the Fed taken their advice, the unemployment rate would almost certainly be several percentage points higher today and tens of millions of workers would not have seen the modest real wage gains they've experienced in the last four years.

The fact that someone with a track record as consistently bad as Martin Feldstein can get a column in the country's leading financial paper (he also argued in the 1993 that Clinton's tax increase wouldn't raise any revenue) shows what a great country we have. But let's get to the substance.

Dean Baker
Truthout, June 11, 2018

OMG! It's the Mother of All Credit Bubbles!. That's not my line, Steven Pearlstein is beating the drums in the Washington Post telling us we should be very afraid because a number of corporations are taking on too much debt.

His basic story is that corporate America is getting heavily leveraged, with many companies likely finding themselves in a situation where they can't repay their loans. I wouldn't dispute the basic story, but there are few points worth noting.

First, companies have an incentive to borrow a lot because interest rates remain at historically low levels even though as Pearlstein tells us that the Republican tax cut is "crowding out other borrowing and putting upward pressure on interest rates." The interest rate on 10-year Treasury bonds is under 3.0 percent. By contrast, it was in a range between 4.0 to 5.0 percent in the late 1990s when the government was running budget surpluses.

Much of his complaint is that many companies are borrowing while buying back shares. I'm not especially a fan of share buybacks, but I don't quite understand the evil attached to them. Would we be cool if these companies paid out the same money in dividends? There are issues of timing, where insiders can manipulate stock prices with the timing of buybacks, but they actually can do this with announcements of special dividends also. Anyhow, to me the issue is companies are not investing their profits, I don't really see how it matters whether they pay out money to shareholders through buybacks or dividends.

June 2018, Ravi Katari, Alex Provan, and Dean Baker