Beat the Press

Beat the press por Dean Baker

Beat the Press is Dean Baker's commentary on economic reporting. He is a Senior Economist at the Center for Economic and Policy Research (CEPR). To never miss a post, subscribe to a weekly email roundup of Beat the Press. Please also consider supporting the blog on Patreon.

Many people have become very concerned about the economy because of the stock market’s plunge in the last two weeks. While the spread of the coronavirus gives us very good reason to worry about the state of the economy, the plunge in the stock market does not. In fact, those folks who are very concerned about wealth inequality can celebrate because the wealth of the top 1 percent has just dropped by around 10 percent, while the wealth of the bottom 50 percent has barely been touched. (I tend to focus on income inequality, in large part for this reason.)

Anyhow, the stock market does not generally provide us with very good insight into the future of the economy, except when it looks like more of the same. It’s sort of like hearing the weather forecaster tell you it’s sunny, as you step outside into the sunlight. You didn’t really need them for this purpose. When it comes to telling about the storm just around the corner, the stock market is a much worse predictor than weather forecasters.

We don’t have to look to ancient history to see this point. In October of 2007, the S&P 500 hit what was at the time a record high. That was less than two months before the beginning of the worst recession since the Great Depression. The stock market did not give us much warning on that one.

As I noted last week, the run-up in the stock market in the last few years had pushed price-to-earnings ratios to unusually high levels. I did not argue that this necessarily implied a market plunge, but I did point out that as a matter of logic, high price-to-earnings ratios virtually guarantee low returns in the future. For this reason, a sharp market downturn should not be a surprise, even if the specific cause is.

If the stock market is not a very good predictor of the economy’s future, it is also not generally a causal factor. There is a sort of fairy tale story that a high stock market is good for the economy because it means that companies can effectively borrow cheaply by issuing new shares. In this fairy tale, that means that they can more easily raise money for investment, which means more growth and higher productivity and wages.

The problem with this story is that companies rarely issue new shares of stock to finance investment. Most often large share issues are done to allow early investors to cash out some of their holdings. Companies will also issue shares to adjust their debt position. For example, if they issued bonds that pay a high interest rate, high share prices may give a company an opportunity to issue shares and use the money to retire some of its debt. However, it is rare that a company issues shares to directly finance investment.

The one major exception to this rule was during the stock bubble of the late 1990s. In that bubble, new companies, many of which did not even know how they could make a profit, were often able to raise hundreds of millions, or even billions, on initial public offerings. In that context, the plunge in the market from 2000 to 2002 did lead to a sharp reduction in investment, as this channel of financing largely disappeared. (The NASDAQ, where most of these new companies were listed, lost more than 80 percent of its value from peak to trough.)

The plunge in the market in 2000-2002 also had a major impact on consumption, as more than $10 trillion in stock wealth (roughly $20 trillion relative to today’s economy) was destroyed. Stock wealth was clearly driving consumption at the end of the 1990s boom, as savings rates fell to what were then record lows. (The housing bubble pushed the savings rate even lower.) It was not only the wealth itself that drove consumption but the expectations of future stock rises. It was common at the time for otherwise sane people to expect that the stock market would produce double-digit nominal returns for the indefinite future.

Anyhow, this sort of causation from a stock plunge to a recession is not plausible today. Investment is already weak and clearly not being driven by the stock market. And, savings rates are considerably higher than they were in the years of either the housing or the stock bubble. Losing 10 percent of the market’s wealth will surely have some negative impact on consumption, but almost certainly not enough to cause a recession.

In short, those who don’t have a lot of money in the stock market should view its ups and downs as you would any other spectator sport. It doesn’t have a lot to do with you. (Even those who do have lots of money in the market can be consoled by the fact that lower prices today mean higher future returns – not exactly a disaster story.)

 

The Coronavirus and the Economy

 

While the drop in the market by itself may not be bad news, the prospect of the spread of the coronavirus certainly is. In addition to the very serious health risk it poses to tens of millions of potential victims, it also could have a very large economic impact.

There already has been much written about how the efforts to contain the disease in China have led to the shutdown of many factories, leading to shortages of important production inputs here. This can force factories to curtail production until alternative sources of supply can be found or Chinese suppliers are back up and running. But this is just the beginning of the sorts of economic disruptions that we may see if the coronavirus spreads quickly across the United States.

In a Huffington Post piece, Hayley Miller and Arthur Delaney examine the economic consequences of the sort of school closures that we have seen in Japan and elsewhere. A large percentage of the affected workers will be forced to stay home since they will be unable to make alternative child care arrangements. This could mean millions of workplaces are unable to maintain normal operations since they are understaffed. Look to longer wait times at everything from restaurants and barbershops to doctors’ offices and hospitals. The lines at the latter will also be affected by the increased demand from people who either are infected with the virus or are worried that they could be.

And, many people who miss days of work will also be missing days of pay, since they don’t have paid sick leave. That will mean less demand in the economy since these people will have less money to spend. And of course, another effect of the lack of paid sick leave is that many people will go to work sick, causing the virus to spread more widely.

If the coronavirus becomes very widespread, we could see enormous economic impacts. If people become very worried that they can catch the disease if they go out in public, this will mean many fewer people will go to restaurants, sports events, movie theaters, and concerts, or anyone else where they are likely to be in close proximity to large numbers of people. Many of these businesses are likely to shut down, at least until the major threat of the virus has passed.

Plane travel will also be drastically curtailed, as few people will want to be on a crowded plane, which could include several people with the virus. That will be a huge blow to the tourism industry, as people put off vacations, until the threat lessons.

There are few areas of the economy that would not be affected if the virus becomes as widespread as was the case in Wuhan China and possibly now in parts of Japan. It would be good if the United States had an effective public health team that could take the necessary steps to limit the spread of the virus. The Center for Disease Control (CDC) does have top-notch experts in this area.

However, it is not clear that they will be making the big decisions. Trump has placed Vice-President Pence in charge of the response to the epidemic. Pence is a person who does not believe in evolution or climate change. In other words, science is not his strong suit.

Furthermore, it is clear that Trump and Pence are more worried about the politics around Coronavirus than effective steps to stop its spread. They have demanded that all public statements about the disease must first be cleared with Pence. They have already acted to punish a whistleblower who called attention to the fact that passengers exposed to the virus on a cruise ship were greeted by people without protective gear and without medical training.

We may still get lucky, and the spread of the virus may be fairly limited in the United States.  But with the containment effect being led by a bunch of vindictive clowns, people are quite right to be worried about the public’s health and prospects for the economy.

Many people have become very concerned about the economy because of the stock market’s plunge in the last two weeks. While the spread of the coronavirus gives us very good reason to worry about the state of the economy, the plunge in the stock market does not. In fact, those folks who are very concerned about wealth inequality can celebrate because the wealth of the top 1 percent has just dropped by around 10 percent, while the wealth of the bottom 50 percent has barely been touched. (I tend to focus on income inequality, in large part for this reason.)

Anyhow, the stock market does not generally provide us with very good insight into the future of the economy, except when it looks like more of the same. It’s sort of like hearing the weather forecaster tell you it’s sunny, as you step outside into the sunlight. You didn’t really need them for this purpose. When it comes to telling about the storm just around the corner, the stock market is a much worse predictor than weather forecasters.

We don’t have to look to ancient history to see this point. In October of 2007, the S&P 500 hit what was at the time a record high. That was less than two months before the beginning of the worst recession since the Great Depression. The stock market did not give us much warning on that one.

As I noted last week, the run-up in the stock market in the last few years had pushed price-to-earnings ratios to unusually high levels. I did not argue that this necessarily implied a market plunge, but I did point out that as a matter of logic, high price-to-earnings ratios virtually guarantee low returns in the future. For this reason, a sharp market downturn should not be a surprise, even if the specific cause is.

If the stock market is not a very good predictor of the economy’s future, it is also not generally a causal factor. There is a sort of fairy tale story that a high stock market is good for the economy because it means that companies can effectively borrow cheaply by issuing new shares. In this fairy tale, that means that they can more easily raise money for investment, which means more growth and higher productivity and wages.

The problem with this story is that companies rarely issue new shares of stock to finance investment. Most often large share issues are done to allow early investors to cash out some of their holdings. Companies will also issue shares to adjust their debt position. For example, if they issued bonds that pay a high interest rate, high share prices may give a company an opportunity to issue shares and use the money to retire some of its debt. However, it is rare that a company issues shares to directly finance investment.

The one major exception to this rule was during the stock bubble of the late 1990s. In that bubble, new companies, many of which did not even know how they could make a profit, were often able to raise hundreds of millions, or even billions, on initial public offerings. In that context, the plunge in the market from 2000 to 2002 did lead to a sharp reduction in investment, as this channel of financing largely disappeared. (The NASDAQ, where most of these new companies were listed, lost more than 80 percent of its value from peak to trough.)

The plunge in the market in 2000-2002 also had a major impact on consumption, as more than $10 trillion in stock wealth (roughly $20 trillion relative to today’s economy) was destroyed. Stock wealth was clearly driving consumption at the end of the 1990s boom, as savings rates fell to what were then record lows. (The housing bubble pushed the savings rate even lower.) It was not only the wealth itself that drove consumption but the expectations of future stock rises. It was common at the time for otherwise sane people to expect that the stock market would produce double-digit nominal returns for the indefinite future.

Anyhow, this sort of causation from a stock plunge to a recession is not plausible today. Investment is already weak and clearly not being driven by the stock market. And, savings rates are considerably higher than they were in the years of either the housing or the stock bubble. Losing 10 percent of the market’s wealth will surely have some negative impact on consumption, but almost certainly not enough to cause a recession.

In short, those who don’t have a lot of money in the stock market should view its ups and downs as you would any other spectator sport. It doesn’t have a lot to do with you. (Even those who do have lots of money in the market can be consoled by the fact that lower prices today mean higher future returns – not exactly a disaster story.)

 

The Coronavirus and the Economy

 

While the drop in the market by itself may not be bad news, the prospect of the spread of the coronavirus certainly is. In addition to the very serious health risk it poses to tens of millions of potential victims, it also could have a very large economic impact.

There already has been much written about how the efforts to contain the disease in China have led to the shutdown of many factories, leading to shortages of important production inputs here. This can force factories to curtail production until alternative sources of supply can be found or Chinese suppliers are back up and running. But this is just the beginning of the sorts of economic disruptions that we may see if the coronavirus spreads quickly across the United States.

In a Huffington Post piece, Hayley Miller and Arthur Delaney examine the economic consequences of the sort of school closures that we have seen in Japan and elsewhere. A large percentage of the affected workers will be forced to stay home since they will be unable to make alternative child care arrangements. This could mean millions of workplaces are unable to maintain normal operations since they are understaffed. Look to longer wait times at everything from restaurants and barbershops to doctors’ offices and hospitals. The lines at the latter will also be affected by the increased demand from people who either are infected with the virus or are worried that they could be.

And, many people who miss days of work will also be missing days of pay, since they don’t have paid sick leave. That will mean less demand in the economy since these people will have less money to spend. And of course, another effect of the lack of paid sick leave is that many people will go to work sick, causing the virus to spread more widely.

If the coronavirus becomes very widespread, we could see enormous economic impacts. If people become very worried that they can catch the disease if they go out in public, this will mean many fewer people will go to restaurants, sports events, movie theaters, and concerts, or anyone else where they are likely to be in close proximity to large numbers of people. Many of these businesses are likely to shut down, at least until the major threat of the virus has passed.

Plane travel will also be drastically curtailed, as few people will want to be on a crowded plane, which could include several people with the virus. That will be a huge blow to the tourism industry, as people put off vacations, until the threat lessons.

There are few areas of the economy that would not be affected if the virus becomes as widespread as was the case in Wuhan China and possibly now in parts of Japan. It would be good if the United States had an effective public health team that could take the necessary steps to limit the spread of the virus. The Center for Disease Control (CDC) does have top-notch experts in this area.

However, it is not clear that they will be making the big decisions. Trump has placed Vice-President Pence in charge of the response to the epidemic. Pence is a person who does not believe in evolution or climate change. In other words, science is not his strong suit.

Furthermore, it is clear that Trump and Pence are more worried about the politics around Coronavirus than effective steps to stop its spread. They have demanded that all public statements about the disease must first be cleared with Pence. They have already acted to punish a whistleblower who called attention to the fact that passengers exposed to the virus on a cruise ship were greeted by people without protective gear and without medical training.

We may still get lucky, and the spread of the virus may be fairly limited in the United States.  But with the containment effect being led by a bunch of vindictive clowns, people are quite right to be worried about the public’s health and prospects for the economy.

This was in an early morning tweet. Trump actually said that, when it comes to interest rates, “we should be paying less,” but that also means that we should be receiving less. In fact, our interest rates would be expected to be higher than in places like the eurozone, since our inflation rate is also roughly 1.0 percentage point higher.

But Trump is right that the Fed should lower interest rates, but it probably makes little difference whether it does so now or waits until its meeting later this month. Long-term rates, which are what has the most impact on the economy, have already tumbled to record lows. It’s likely that Trump’s whining has made Fed Chair Jerome Powell less likely to act early since he does not want to appear to be responding to Trump’s complaints.

This was in an early morning tweet. Trump actually said that, when it comes to interest rates, “we should be paying less,” but that also means that we should be receiving less. In fact, our interest rates would be expected to be higher than in places like the eurozone, since our inflation rate is also roughly 1.0 percentage point higher.

But Trump is right that the Fed should lower interest rates, but it probably makes little difference whether it does so now or waits until its meeting later this month. Long-term rates, which are what has the most impact on the economy, have already tumbled to record lows. It’s likely that Trump’s whining has made Fed Chair Jerome Powell less likely to act early since he does not want to appear to be responding to Trump’s complaints.

Yes, I’m talking about its news section, not its opinion pages, where populists are always bashed. Today, the Post gave us a major piece telling us how Bernie Sanders and Donald Trump are two sides of the same populist coin. While the piece is confused in many ways, the one point it makes very clear is that the Washington Post really dislikes Bernie Sanders.

The piece is determined to tell people the problem is just one of perceptions:

“Each is powered by a disdain for elites they perceive as having flourished while other Americans suffered, a rejection of the establishment and the figures who have controlled it, and a contempt for the institutions that over the decades have blunted, as they see it, the success of efforts like theirs.”

Okay, let’s do a fact check. Elites have in fact flourished over the last four decades. The share of national income going to the richest one percent has gone from 10 percent to 20 percent. The next four percent (the 95th to the 99th percentiles of the income distribution) have also seen a large increase in their share of national income. As a result of this sharp upward redistribution of income, families at the middle and bottom of the income distribution have seen few gains over the last four decades. That is reality, not just a problem of perceptions.

The establishment figures that the Post is unhappy the populists are rejecting are folks like former Fed Chair Alan Greenspan, who could not see the $8 trillion housing bubble ($16 trillion relative to today’s economy), the collapse of which sank the U.S. economy. They also reject people like Larry Summers who also dismissed people who tried to warn of the bubble and pushed a trade opening to China that cost millions of manufacturing workers their jobs. Those are facts, not problems of perception.

In terms of institutions acting to blunt populism, Greenspan, Summers, and others who got it completely wrong can count on far more visibility in major media outlets than the people who got these issues right. Again, that is fact, not an issue of perception.

The piece also gives us this head-scratcher:

“Meanwhile, left-wing populism and self-described democratic socialists are gaining power throughout Europe and the Americas, at times replacing an older guard of liberals who embraced globalization.”

It’s not clear which “self-described democratic socialists” it sees gaining power throughout Europe and the Americas, but parties that call themselves “social democrats” have long been in governments in places like Germany, France, Sweden, Denmark, and elsewhere in Europe. There are left-wing populist parties that position themselves to the left of the social democratic traditional parties, but only in Greece have they taken power, although some have been the minority party in coalitions elsewhere.

As far as globalization, the article should have said that the older guard of liberals “claimed” to embrace globalization. Virtually none of them has sought to liberalize barriers that prevent foreign doctors and other workers in highly paid professionals from working in the United States and driving down the pay of U.S. professionals. These older guard liberals only seem interested in globalization when it is structured to reduce the pay of less-educated workers.

The “globalization” favored by the old guard also involves using trade deals to increase protectionist barriers in the form of longer and stronger patent and copyright monopolies. These protectionist barriers, which are equivalent to tariffs of many thousand percents, have the effect of redistributing income upward.

More recently, the old guard liberals have taken to using trade deals to lock in the protection enjoyed by Facebook and other intermediaries from the same liability that traditional media outlets face if they pass along false and libelous material. This policy is easy to understand if the goal is to make Mark Zuckerberg and people like him even richer, but it has nothing obvious to do with globalization.

Anyhow, this piece is a great example of the Post’s willingness to use its news section to press its case against populism. It also shows why populists would distrust a news outlet like the Washington Post.  

 

Yes, I’m talking about its news section, not its opinion pages, where populists are always bashed. Today, the Post gave us a major piece telling us how Bernie Sanders and Donald Trump are two sides of the same populist coin. While the piece is confused in many ways, the one point it makes very clear is that the Washington Post really dislikes Bernie Sanders.

The piece is determined to tell people the problem is just one of perceptions:

“Each is powered by a disdain for elites they perceive as having flourished while other Americans suffered, a rejection of the establishment and the figures who have controlled it, and a contempt for the institutions that over the decades have blunted, as they see it, the success of efforts like theirs.”

Okay, let’s do a fact check. Elites have in fact flourished over the last four decades. The share of national income going to the richest one percent has gone from 10 percent to 20 percent. The next four percent (the 95th to the 99th percentiles of the income distribution) have also seen a large increase in their share of national income. As a result of this sharp upward redistribution of income, families at the middle and bottom of the income distribution have seen few gains over the last four decades. That is reality, not just a problem of perceptions.

The establishment figures that the Post is unhappy the populists are rejecting are folks like former Fed Chair Alan Greenspan, who could not see the $8 trillion housing bubble ($16 trillion relative to today’s economy), the collapse of which sank the U.S. economy. They also reject people like Larry Summers who also dismissed people who tried to warn of the bubble and pushed a trade opening to China that cost millions of manufacturing workers their jobs. Those are facts, not problems of perception.

In terms of institutions acting to blunt populism, Greenspan, Summers, and others who got it completely wrong can count on far more visibility in major media outlets than the people who got these issues right. Again, that is fact, not an issue of perception.

The piece also gives us this head-scratcher:

“Meanwhile, left-wing populism and self-described democratic socialists are gaining power throughout Europe and the Americas, at times replacing an older guard of liberals who embraced globalization.”

It’s not clear which “self-described democratic socialists” it sees gaining power throughout Europe and the Americas, but parties that call themselves “social democrats” have long been in governments in places like Germany, France, Sweden, Denmark, and elsewhere in Europe. There are left-wing populist parties that position themselves to the left of the social democratic traditional parties, but only in Greece have they taken power, although some have been the minority party in coalitions elsewhere.

As far as globalization, the article should have said that the older guard of liberals “claimed” to embrace globalization. Virtually none of them has sought to liberalize barriers that prevent foreign doctors and other workers in highly paid professionals from working in the United States and driving down the pay of U.S. professionals. These older guard liberals only seem interested in globalization when it is structured to reduce the pay of less-educated workers.

The “globalization” favored by the old guard also involves using trade deals to increase protectionist barriers in the form of longer and stronger patent and copyright monopolies. These protectionist barriers, which are equivalent to tariffs of many thousand percents, have the effect of redistributing income upward.

More recently, the old guard liberals have taken to using trade deals to lock in the protection enjoyed by Facebook and other intermediaries from the same liability that traditional media outlets face if they pass along false and libelous material. This policy is easy to understand if the goal is to make Mark Zuckerberg and people like him even richer, but it has nothing obvious to do with globalization.

Anyhow, this piece is a great example of the Post’s willingness to use its news section to press its case against populism. It also shows why populists would distrust a news outlet like the Washington Post.  

 

In spite of completely missing the crash of the stock bubble in 2000-2002 and the housing bubble in 2007-2010, people tend to think that the big actors in the stock market have great insight into the economy’s prospects. While I won’t claim to have a crystal ball that predicts the future of the economy (I had warned of both of those crashes), I did learn arithmetic in third grade.

There are some simple and important statements we can make about future stock returns, based on nothing more than arithmetic and the generally accepted projections for the economy’s performance. The basic story is that if we accept the projections for future profit growth from the Congressional Budget Office or other official forecasters, then we are almost certain to see a decade of extraordinarily low returns to stockholders.

Real returns will almost certainly be less than 5.0 percent annually. This compares to a long period average of close to 7.0 percent. And this assumes no plunge in the market over the decade. Of course, if the market does plunge, real returns will be considerably lower.

The reason that returns will almost certainly be low in the next decade is that stock prices are high. If we look at Robert Shiller’s calculations of the price of the S&P 500 relative to ten years of trailing earnings, it was at 31.5 for February to date. That compares to an average of 20.6 in the 1960s, 12.7 in the 1970s, and 11.5 in the 1980s. A high price to earnings ratio means that people buying or holding stock are paying a high price for each dollar of earnings.

To see what this means more concretely, we can take the most recent price to earnings figures from Shiller’s data. Taking February’s prices over December’s earnings, we get a ratio of 23.7. Taking a somewhat broader, but somewhat dated measure, the value of all corporate equities was $49.6 trillion at the end of the third quarter. After-tax corporate profits were $1,869 billion, giving a price to earnings ratio for the market as a whole of 26.5.[1]

The fact that these two figures are close should give us confidence that we are looking at the right numbers. It would not be surprising that the whole market would have a higher PE than the S&P 500. The index is by design composed of older well-established companies. Many smaller and newer companies may have high valuations based on growth prospects rather than current profits.

Anyhow, we can work from the slightly lower PE reported by Shiller for the S&P 500. The ratio of 23.7 implies an earnings-to-price ratio of 4.2 percent. This means that for each dollar a shareholder is paying for stock, they get 4.2 cents in earnings.

Companies pay out a portion of their earnings to shareholders as either dividends or share buybacks. (There are some differences between these mechanisms for tax purposes, but that really does not matter for this analysis.) Suppose that they pay 70 percent of their profits out to shareholders, which would be the high end of the recent range. This would mean that shareholders could get annual returns from direct payouts of 2.94 percent (0.7 * 4.2).

The other component of returns is capital gains. The actual course of the market over the next decade is anyone’s guess, but one thing we can say with absolute certainty is that if the price to earnings ratio remains constant, then share prices will rise at the same pace as corporate profits. And, we do have projections for the growth of corporate profits over the next decade.

The Congressional Budget Office projects that before-tax corporate profits will grow at an average annual rate of 4.15 percent over the decade from 2020 to 2030. It makes sense to use before-tax profits because we don’t know what will happen to the corporate tax rate over this period. The 2017 tax cut hugely reduced corporate taxes, however, it is possible that if Trump is re-elected he will seek to reduce corporate taxes even further. On the other hand, all the leading contenders for the Democratic presidential nomination have pledged to raise corporate taxes, in most cases by quite a bit. Without knowing the outcome of these political battles, it is probably safest to assume the tax rate remains where it is currently.

This gives us an average annual nominal capital gain of 4.15 percent.  The average inflation rate projected for this period, as measured by the consumer price index, is 2.4 percent, which gives an average real capital gain of 1.75 percent. If we add that to the 2.94 percent return from dividends or buybacks, it comes to 4.69 percent. This is considerably below the 7.0 percent historic real return on stocks, that many investors bank on.

Of course, these are very crude calculations. No one knows that the price to earnings ratio will stay stable. Suppose it were to keep rising enough to give 7.0 percent real returns over the next decade. In that case, using the CBO profit projections, the price to earnings ratio for the S&P 500 would be over 30 by 2030. That is not obviously impossible, but the 70 percent dividend/buyback payout would get shareholders just 2.3 percent of the share price. That would mean to sustain a 7.0 percent real return, price to earnings ratios would have to rise even more rapidly in the following decade.

The situation would look even worse with the broader market. Starting with a price to earnings ratio of 26.5 to 1, the price to earnings ratio for the market as a whole would be over 35 by 2030. That would provide a dividend/buyback payout of just 2.0 percent.

It is possible that profits could grow more rapidly. For example, the Trump administration could be proven right and maybe we will see 3.0 percent real growth over the next decade, but there are not many people betting on that being the case. We could see a further shift to profit shares, although, with profit shares already at an unusually high level, that does not seem likely. There could be further cuts in corporate taxes, but with the effective corporate tax rate projected at less than 11.0 percent in 2020, that seems unlikely even if the Republicans remain in power. In short, it seems almost inevitable that real stock returns over the next decade will be considerably lower than their long period average of 7.0 percent.

However, the 4.7 percent real returns that would be consistent with a constant price-to-earnings ratio is not necessarily bad in the current interest rate environment. Historically, the real return on long-term Treasury bonds has been close to 3.0 percent. By contrast, the current interest rate on a 30-year Treasury bond is roughly 2.0 percent, putting it slightly under the inflation rate. A 4.7 percent real return on stocks does not look bad in a context where the long-term Treasury bonds are providing a zero or small negative real return.

But even if a 4.7 percent real return might be reasonable in the current interest rate environment, it is not clear that it is consistent with investors’ expectations. Many investors are undoubtedly looking at the far higher returns of the years since the Great Recession and expect double-digit returns to continue for at least the immediate future. They may be very disappointed if this turns out not to be the case.

The other part of this story that stockholders have to consider is that there are good reasons for thinking that future after-tax profits might be considerably lower than CBO has projected. On the before-tax side, there was a large shift in income shares from labor to capital in the immediate aftermath of the Great Recession. As the labor market has tightened, there has been some shift back towards labor. The CBO projections assume that this reversal does not continue. In fact, the projections assume that the profit share of national income actually increases slightly over the decade.

The other key factor in determining after-tax profits is the corporate tax rate. This is, of course, a political decision. While Republicans are unlikely to raise corporate income taxes to any substantial extent, they also are unlikely to lower them further. By contrast, there is widespread agreement among Democrats that corporations should pay more in taxes. Whatever the outcome of the 2020 elections, there is at least a reasonable prospect that corporate taxes will increase at some point over the next decade.

With the possibility of further shifts back from capital to labor and future increases in the corporate income tax, stockholders should view their investment as somewhat risky. If the labor share were to rise back to its pre-recession level, profits would drop by 10 percent, if price to earnings ratios were unchanged. That would wipe out more than two years of returns, as calculated above.

The same would be true if there was a 9.0 percentage point rise in the effective tax rate to 20.0 percent, roughly the level prior to the 2017 tax cut. That would also lead to a 10 percent drop in share prices, assuming a constant price to earnings ratio.

And, the interest rate on government bonds could rise. Most economists have been surprised that long-term interest rates have remained this low for as long as they have. The low rates could continue, but no one can rule out that they will rise back to their historic average of 3.0 percent real rates. If that were to be the case, a 4.7 percent real return in the stock market may not look very good.

In short, there are good reasons for thinking that the current valuations in the stock market are high. That doesn’t mean that prices will plummet any time soon, but it does seem unlikely that anything like the recent growth will continue far into the future.

[1] The value of corporate equities comes from the Federal Reserve Board’s Financial Accounts of the U.S. Economy, Table L. 223, Line 10. After-tax corporate profits are taken from the Bureau of Economic Analysis’ National Income and Product Accounts, Table 1.12, Line 15.

In spite of completely missing the crash of the stock bubble in 2000-2002 and the housing bubble in 2007-2010, people tend to think that the big actors in the stock market have great insight into the economy’s prospects. While I won’t claim to have a crystal ball that predicts the future of the economy (I had warned of both of those crashes), I did learn arithmetic in third grade.

There are some simple and important statements we can make about future stock returns, based on nothing more than arithmetic and the generally accepted projections for the economy’s performance. The basic story is that if we accept the projections for future profit growth from the Congressional Budget Office or other official forecasters, then we are almost certain to see a decade of extraordinarily low returns to stockholders.

Real returns will almost certainly be less than 5.0 percent annually. This compares to a long period average of close to 7.0 percent. And this assumes no plunge in the market over the decade. Of course, if the market does plunge, real returns will be considerably lower.

The reason that returns will almost certainly be low in the next decade is that stock prices are high. If we look at Robert Shiller’s calculations of the price of the S&P 500 relative to ten years of trailing earnings, it was at 31.5 for February to date. That compares to an average of 20.6 in the 1960s, 12.7 in the 1970s, and 11.5 in the 1980s. A high price to earnings ratio means that people buying or holding stock are paying a high price for each dollar of earnings.

To see what this means more concretely, we can take the most recent price to earnings figures from Shiller’s data. Taking February’s prices over December’s earnings, we get a ratio of 23.7. Taking a somewhat broader, but somewhat dated measure, the value of all corporate equities was $49.6 trillion at the end of the third quarter. After-tax corporate profits were $1,869 billion, giving a price to earnings ratio for the market as a whole of 26.5.[1]

The fact that these two figures are close should give us confidence that we are looking at the right numbers. It would not be surprising that the whole market would have a higher PE than the S&P 500. The index is by design composed of older well-established companies. Many smaller and newer companies may have high valuations based on growth prospects rather than current profits.

Anyhow, we can work from the slightly lower PE reported by Shiller for the S&P 500. The ratio of 23.7 implies an earnings-to-price ratio of 4.2 percent. This means that for each dollar a shareholder is paying for stock, they get 4.2 cents in earnings.

Companies pay out a portion of their earnings to shareholders as either dividends or share buybacks. (There are some differences between these mechanisms for tax purposes, but that really does not matter for this analysis.) Suppose that they pay 70 percent of their profits out to shareholders, which would be the high end of the recent range. This would mean that shareholders could get annual returns from direct payouts of 2.94 percent (0.7 * 4.2).

The other component of returns is capital gains. The actual course of the market over the next decade is anyone’s guess, but one thing we can say with absolute certainty is that if the price to earnings ratio remains constant, then share prices will rise at the same pace as corporate profits. And, we do have projections for the growth of corporate profits over the next decade.

The Congressional Budget Office projects that before-tax corporate profits will grow at an average annual rate of 4.15 percent over the decade from 2020 to 2030. It makes sense to use before-tax profits because we don’t know what will happen to the corporate tax rate over this period. The 2017 tax cut hugely reduced corporate taxes, however, it is possible that if Trump is re-elected he will seek to reduce corporate taxes even further. On the other hand, all the leading contenders for the Democratic presidential nomination have pledged to raise corporate taxes, in most cases by quite a bit. Without knowing the outcome of these political battles, it is probably safest to assume the tax rate remains where it is currently.

This gives us an average annual nominal capital gain of 4.15 percent.  The average inflation rate projected for this period, as measured by the consumer price index, is 2.4 percent, which gives an average real capital gain of 1.75 percent. If we add that to the 2.94 percent return from dividends or buybacks, it comes to 4.69 percent. This is considerably below the 7.0 percent historic real return on stocks, that many investors bank on.

Of course, these are very crude calculations. No one knows that the price to earnings ratio will stay stable. Suppose it were to keep rising enough to give 7.0 percent real returns over the next decade. In that case, using the CBO profit projections, the price to earnings ratio for the S&P 500 would be over 30 by 2030. That is not obviously impossible, but the 70 percent dividend/buyback payout would get shareholders just 2.3 percent of the share price. That would mean to sustain a 7.0 percent real return, price to earnings ratios would have to rise even more rapidly in the following decade.

The situation would look even worse with the broader market. Starting with a price to earnings ratio of 26.5 to 1, the price to earnings ratio for the market as a whole would be over 35 by 2030. That would provide a dividend/buyback payout of just 2.0 percent.

It is possible that profits could grow more rapidly. For example, the Trump administration could be proven right and maybe we will see 3.0 percent real growth over the next decade, but there are not many people betting on that being the case. We could see a further shift to profit shares, although, with profit shares already at an unusually high level, that does not seem likely. There could be further cuts in corporate taxes, but with the effective corporate tax rate projected at less than 11.0 percent in 2020, that seems unlikely even if the Republicans remain in power. In short, it seems almost inevitable that real stock returns over the next decade will be considerably lower than their long period average of 7.0 percent.

However, the 4.7 percent real returns that would be consistent with a constant price-to-earnings ratio is not necessarily bad in the current interest rate environment. Historically, the real return on long-term Treasury bonds has been close to 3.0 percent. By contrast, the current interest rate on a 30-year Treasury bond is roughly 2.0 percent, putting it slightly under the inflation rate. A 4.7 percent real return on stocks does not look bad in a context where the long-term Treasury bonds are providing a zero or small negative real return.

But even if a 4.7 percent real return might be reasonable in the current interest rate environment, it is not clear that it is consistent with investors’ expectations. Many investors are undoubtedly looking at the far higher returns of the years since the Great Recession and expect double-digit returns to continue for at least the immediate future. They may be very disappointed if this turns out not to be the case.

The other part of this story that stockholders have to consider is that there are good reasons for thinking that future after-tax profits might be considerably lower than CBO has projected. On the before-tax side, there was a large shift in income shares from labor to capital in the immediate aftermath of the Great Recession. As the labor market has tightened, there has been some shift back towards labor. The CBO projections assume that this reversal does not continue. In fact, the projections assume that the profit share of national income actually increases slightly over the decade.

The other key factor in determining after-tax profits is the corporate tax rate. This is, of course, a political decision. While Republicans are unlikely to raise corporate income taxes to any substantial extent, they also are unlikely to lower them further. By contrast, there is widespread agreement among Democrats that corporations should pay more in taxes. Whatever the outcome of the 2020 elections, there is at least a reasonable prospect that corporate taxes will increase at some point over the next decade.

With the possibility of further shifts back from capital to labor and future increases in the corporate income tax, stockholders should view their investment as somewhat risky. If the labor share were to rise back to its pre-recession level, profits would drop by 10 percent, if price to earnings ratios were unchanged. That would wipe out more than two years of returns, as calculated above.

The same would be true if there was a 9.0 percentage point rise in the effective tax rate to 20.0 percent, roughly the level prior to the 2017 tax cut. That would also lead to a 10 percent drop in share prices, assuming a constant price to earnings ratio.

And, the interest rate on government bonds could rise. Most economists have been surprised that long-term interest rates have remained this low for as long as they have. The low rates could continue, but no one can rule out that they will rise back to their historic average of 3.0 percent real rates. If that were to be the case, a 4.7 percent real return in the stock market may not look very good.

In short, there are good reasons for thinking that the current valuations in the stock market are high. That doesn’t mean that prices will plummet any time soon, but it does seem unlikely that anything like the recent growth will continue far into the future.

[1] The value of corporate equities comes from the Federal Reserve Board’s Financial Accounts of the U.S. Economy, Table L. 223, Line 10. After-tax corporate profits are taken from the Bureau of Economic Analysis’ National Income and Product Accounts, Table 1.12, Line 15.

A New York Times article on the status of France’s president Emmanuel Macron gave him some free public relations work touting the decline in France’s unemployment rate to 8.1 percent. It tells readers:

“The intractable unemployment rate, slayer of his predecessors, appears finally to be bending to a French president’s touch, recently reaching its lowest rate in 12 years at 8.1 percent.”

This is a 1.4 percentage point drop from when Macron took office in May of 2017. In the same period, unemployment in Finland declined by 2.1 percentage points to 6.6 percent. In the Netherlands, the unemployment rate declined by 1.9 percentage points to 3.2 percent. Unemployment in Italy dropped by 1.6 percentage points to 9.8 percent. In short, this was a period of declining unemployment throughout western Europe and France’s performance was not especially strong.

Furthermore, France’s unemployment rate was already on a slow downward path at the time Macron took office. The unemployment rate had fallen 1.1 percentage points in the prior two years.

In short, it is very hard to look at the data and conclude that Macron’s policies had any major effect in reducing unemployment.

A New York Times article on the status of France’s president Emmanuel Macron gave him some free public relations work touting the decline in France’s unemployment rate to 8.1 percent. It tells readers:

“The intractable unemployment rate, slayer of his predecessors, appears finally to be bending to a French president’s touch, recently reaching its lowest rate in 12 years at 8.1 percent.”

This is a 1.4 percentage point drop from when Macron took office in May of 2017. In the same period, unemployment in Finland declined by 2.1 percentage points to 6.6 percent. In the Netherlands, the unemployment rate declined by 1.9 percentage points to 3.2 percent. Unemployment in Italy dropped by 1.6 percentage points to 9.8 percent. In short, this was a period of declining unemployment throughout western Europe and France’s performance was not especially strong.

Furthermore, France’s unemployment rate was already on a slow downward path at the time Macron took office. The unemployment rate had fallen 1.1 percentage points in the prior two years.

In short, it is very hard to look at the data and conclude that Macron’s policies had any major effect in reducing unemployment.

I have often gone after the media on printing large numbers that are meaningless to almost all their readers. The point is that when you throw out numbers in the millions, billions, and trillions, very few readers have any idea what these numbers mean. It is possible to make them meaningful by simply adding some context, such as expressing them relative to the size of the economy or as a per person amount.

I actually got Margaret Sullivan, then the NYT Public Editor, to completely agree with me on this point. In her column, she also enlisted the enthusiastic agreement of then Washington editor David Leonhardt. But then nothing changed.

We see the fruits of this failure in a NYT article that compares the tax and spending plans of the leading Democratic contenders. It gives a a true orgy of really big numbers in the form of trillions of dollars of additional taxes and spending, providing readers with no context that would let them know how much impact these taxes are likely to have on the economy and/or their pocketbook.

We are told that:

“Even Mr. Bloomberg, a billionaire himself, would raise taxes on the rich and corporations by an estimated $5 trillion, which is about 50 percent more than Mr. Biden would.”

A bit later we get:

“Mr. Sanders’s policy agenda is by far the most expensive of the leading candidates, though estimates vary. The cost of his policy plans on just a handful of topics — health care, higher education, housing and climate change — could exceed $50 trillion over 10 years. By contrast, the federal government is currently projected to spend roughly $60 trillion over the next decade.” [Total federal spending is some context.]

….

“In addition to a Medicare for all program that would require an estimated $20.5 trillion in new federal spending over 10 years, Ms. Warren’s proposals include a sweeping set of new programs addressing areas like Social Security, climate change, higher education, K-12 schools and housing. Taken together, those proposals and her Medicare for all plan have an estimated 10-year price tag of more than $30 trillion.”

Since most readers probably don’t have a very good idea of how much money $30 trillion would be over the next decade, a useful starting point might be the projected size of the economy. The Congressional Budget Office puts GDP over this ten year period at roughly $280 trillion. That means $30 trillion in additional taxes and spending would be a bit less than 11 percent of projected GDP. Mr. Bloomberg’s projected $5 trillion in taxes would by roughly 1.8 percent of projected GDP.

To get a bit more context, the tax take projected for 2020 is 16.4 percent of GDP. By contrast in the late 1990s boom, tax revenue was over 19 percent of GDP, peaking at 20 percent in 2000. This means that Bloomberg’s proposed increase in taxes would still leave us with revenues that are far smaller as a share of GDP than what we paid in the late 1990s.

The proposals from Warren and Sanders would raise above the late 1990s level, but perhaps by less than the really big numbers in this piece might lead readers to believe. If we increased taxes by 11 percent of GDP it would raise them to a bit more than 27 percent of GDP, roughly 7 percentage points about the 2000 peak.

The Sanders proposals would imply an increase in taxes of roughly 18 percentage points of GDP, putting us at a bit over 34 percent of GDP. That is considerably more than the 2000 peak, but still much lower than in most other wealthy countries. (To get a full comparison we have to add in state and local taxes. This is difficult to do, since many of Sanders’ proposed federal expenditures [e.g. Medicare for All] would in part replace spending currently being undertaken by state and local governments.

These proposals can certainly be discussed in considerably more detail, but a piece like this could at least try to put the numbers in some context that would make them meaningful to readers, rather than just tossing around “trillions” like it is some sort of mantra. The reality is that the Biden-Bloomberg proposals are not terribly big deals in terms of the budget and what we have done historically. Clearly the Warren and Sanders proposals are more ambitious. Readers can decide whether they think the potential benefits are worth the cost, taking a few minutes to add a little context would give readers an idea of what is at stake.

I have often gone after the media on printing large numbers that are meaningless to almost all their readers. The point is that when you throw out numbers in the millions, billions, and trillions, very few readers have any idea what these numbers mean. It is possible to make them meaningful by simply adding some context, such as expressing them relative to the size of the economy or as a per person amount.

I actually got Margaret Sullivan, then the NYT Public Editor, to completely agree with me on this point. In her column, she also enlisted the enthusiastic agreement of then Washington editor David Leonhardt. But then nothing changed.

We see the fruits of this failure in a NYT article that compares the tax and spending plans of the leading Democratic contenders. It gives a a true orgy of really big numbers in the form of trillions of dollars of additional taxes and spending, providing readers with no context that would let them know how much impact these taxes are likely to have on the economy and/or their pocketbook.

We are told that:

“Even Mr. Bloomberg, a billionaire himself, would raise taxes on the rich and corporations by an estimated $5 trillion, which is about 50 percent more than Mr. Biden would.”

A bit later we get:

“Mr. Sanders’s policy agenda is by far the most expensive of the leading candidates, though estimates vary. The cost of his policy plans on just a handful of topics — health care, higher education, housing and climate change — could exceed $50 trillion over 10 years. By contrast, the federal government is currently projected to spend roughly $60 trillion over the next decade.” [Total federal spending is some context.]

….

“In addition to a Medicare for all program that would require an estimated $20.5 trillion in new federal spending over 10 years, Ms. Warren’s proposals include a sweeping set of new programs addressing areas like Social Security, climate change, higher education, K-12 schools and housing. Taken together, those proposals and her Medicare for all plan have an estimated 10-year price tag of more than $30 trillion.”

Since most readers probably don’t have a very good idea of how much money $30 trillion would be over the next decade, a useful starting point might be the projected size of the economy. The Congressional Budget Office puts GDP over this ten year period at roughly $280 trillion. That means $30 trillion in additional taxes and spending would be a bit less than 11 percent of projected GDP. Mr. Bloomberg’s projected $5 trillion in taxes would by roughly 1.8 percent of projected GDP.

To get a bit more context, the tax take projected for 2020 is 16.4 percent of GDP. By contrast in the late 1990s boom, tax revenue was over 19 percent of GDP, peaking at 20 percent in 2000. This means that Bloomberg’s proposed increase in taxes would still leave us with revenues that are far smaller as a share of GDP than what we paid in the late 1990s.

The proposals from Warren and Sanders would raise above the late 1990s level, but perhaps by less than the really big numbers in this piece might lead readers to believe. If we increased taxes by 11 percent of GDP it would raise them to a bit more than 27 percent of GDP, roughly 7 percentage points about the 2000 peak.

The Sanders proposals would imply an increase in taxes of roughly 18 percentage points of GDP, putting us at a bit over 34 percent of GDP. That is considerably more than the 2000 peak, but still much lower than in most other wealthy countries. (To get a full comparison we have to add in state and local taxes. This is difficult to do, since many of Sanders’ proposed federal expenditures [e.g. Medicare for All] would in part replace spending currently being undertaken by state and local governments.

These proposals can certainly be discussed in considerably more detail, but a piece like this could at least try to put the numbers in some context that would make them meaningful to readers, rather than just tossing around “trillions” like it is some sort of mantra. The reality is that the Biden-Bloomberg proposals are not terribly big deals in terms of the budget and what we have done historically. Clearly the Warren and Sanders proposals are more ambitious. Readers can decide whether they think the potential benefits are worth the cost, taking a few minutes to add a little context would give readers an idea of what is at stake.

Serious people have long known the Washington Post as a pathetic propaganda organ when it comes to trade. After all, it was so shameless in its promotion of NAFTA that it ran an editorial back in 2007 claiming that NAFTA had been so great for Mexico that its GDP had quadrupled in the twenty years since 1987. The actual figure was 84.2 percent. (This has never been corrected.) It also has repeatedly run fantasy pieces about how NAFTA is creating a thriving middle class in Mexico, even though the period since NAFTA has been one of historically slow growth in Mexico.

For this reason, it was not surprising to see a piece by Fareed Zakaria touting the virtues of the trade deficit. While his point that the trade deficit has risen under Trump, contrary to his promise of a lower deficit, is correct, most of the rest of the piece is not.

Most importantly, he implies that there is no reason for anyone to be bothered by the trade deficit. As the trade deficit exploded in the years from 2000 to 2007 (before the Great Recession), the economy lost 3.4 million manufacturing jobs. That was 20 percent of total manufacturing employment. We also lost 40 percent of unionized manufacturing jobs. Anyone who gives a damn about the well-being of the country’s middle class should have been very worried about the trade deficit in these years. (There are some people who blame this massive job loss on technology. These people are known as “liars.” )

The impact of the trade deficit matters less on middle class living standards today than it did two decades ago, primarily because the effect of trade has substantially eroded manufacturing’s status as a source of relatively high-paying jobs for workers without college degrees. Manufacturing jobs actually pay slightly less than the private sector average, although if we factor in benefits and adjust for age and education, there likely is still a modest premium.

The trade deficit also matters from the standpoint of aggregate demand. Our current deficit of roughly 3.0 percent of GDP ($616.8 billion in 2019) means that we are generating demand in Europe, China, and elsewhere with our spending, not the United States. This is a large part of the story of “secular stagnation,” where we don’t have enough demand in the U.S. economy to push it to levels of  output high enough to sustain full employment.

We can offset the demand lost as a result of the trade deficit with larger budget deficits, but then people, like the Washington Post editors, start hyperventilating about large budget deficits. If we did not face political obstacles to large budget deficits, secular stagnation would not be a problem, but we do.

The problems with Zakaria’s logic go much further. He implies that the fact that we have a surplus in trade in services is somehow helped by the fact that we have a deficit in goods:

“In fact, while the United States has a deficit in manufactured goods with the rest of the world, it runs a huge surplus in services (banking, insurance, consulting, etc.). And remember that 80 percent of American jobs are in the service sector. (Jobs in manufacturing as a percentage of overall jobs have been declining for 70 years at about the same pace.) The United States is also the world’s favorite destination to invest capital, by a large margin. As Martin points out, when you look at this entire picture, ‘the trade deficit should be something to brag about rather than denounce.'”

Actually, there is no logical connection between the two. If we had a stronger manufacturing sector, we would also see more demand from manufacturing for services, like computer technologies, innovations in biology and chemistry, and logistics. By implying that there is some sort of trade-off between having a strong service sector and a strong manufacturing sector, Zakaria is pushing a non sequitur.

It is also worth noting that our surplus on services was just $249.2 billion last year (1.2 percent of GDP). This surplus mattered much less to the service sector (80 percent of GDP) than the $867 billion trade deficit in goods (4.3 percent of GDP) mattered to the manufacturing sector (around 12 percent of GDP).

While Zakaria would have us believe that our service jobs are high-paying and high tech, the largest category of service exports is travel. This sector produced $214.1 billion in exports last year, more than a quarter of all service exports. These are largely jobs in hotels and restaurants, not generally thought of as high-paying high productivity employment.

One of the other major items in services was “charges for the use of intellectual property.” This earned the country $129.1 billion last year or roughly 0.6 percent of GDP. The irony of Zakaria, who is ostensibly a committed free trader, touting this export is that it is 100 percent protectionism. The U.S. gets money for the “use of intellectual property” because we give companies patent and copyright monopolies and require other countries to respect them. These monopolies raise the price of items like prescription drugs, medical equipment, and software by many thousand percent above their free market price.

Anyone who is upset by tariffs of 10 percent or 25 percent on items like imported cars or steel, should be apoplectic over what are effective government created barriers that are tens  or even hundreds of times larger. Apparently Zakaria is just fine with these barriers, perhaps because he and his friends at the Washington Post are in the class of people that benefit from them, as opposed to tariffs on cars or steel.

Another major item in our service exports is financial services, which came to $113.9 billion last year (0.5  percent of GDP). This is largely money going to the folks on Wall Street. As with intellectual property, this is a major source of inequality in the U.S. economy. Again Zakaria might be happy about this (I know, we can count on hand-wringing columns decrying inequality), but there is little reason for most of us to applaud the financial industry getting even richer.

Anyhow, in the Jeff Bezos owned Washington Post, Zakaria’s column passes for a serious analysis of trade. That’s America in 2020.

 

 

Serious people have long known the Washington Post as a pathetic propaganda organ when it comes to trade. After all, it was so shameless in its promotion of NAFTA that it ran an editorial back in 2007 claiming that NAFTA had been so great for Mexico that its GDP had quadrupled in the twenty years since 1987. The actual figure was 84.2 percent. (This has never been corrected.) It also has repeatedly run fantasy pieces about how NAFTA is creating a thriving middle class in Mexico, even though the period since NAFTA has been one of historically slow growth in Mexico.

For this reason, it was not surprising to see a piece by Fareed Zakaria touting the virtues of the trade deficit. While his point that the trade deficit has risen under Trump, contrary to his promise of a lower deficit, is correct, most of the rest of the piece is not.

Most importantly, he implies that there is no reason for anyone to be bothered by the trade deficit. As the trade deficit exploded in the years from 2000 to 2007 (before the Great Recession), the economy lost 3.4 million manufacturing jobs. That was 20 percent of total manufacturing employment. We also lost 40 percent of unionized manufacturing jobs. Anyone who gives a damn about the well-being of the country’s middle class should have been very worried about the trade deficit in these years. (There are some people who blame this massive job loss on technology. These people are known as “liars.” )

The impact of the trade deficit matters less on middle class living standards today than it did two decades ago, primarily because the effect of trade has substantially eroded manufacturing’s status as a source of relatively high-paying jobs for workers without college degrees. Manufacturing jobs actually pay slightly less than the private sector average, although if we factor in benefits and adjust for age and education, there likely is still a modest premium.

The trade deficit also matters from the standpoint of aggregate demand. Our current deficit of roughly 3.0 percent of GDP ($616.8 billion in 2019) means that we are generating demand in Europe, China, and elsewhere with our spending, not the United States. This is a large part of the story of “secular stagnation,” where we don’t have enough demand in the U.S. economy to push it to levels of  output high enough to sustain full employment.

We can offset the demand lost as a result of the trade deficit with larger budget deficits, but then people, like the Washington Post editors, start hyperventilating about large budget deficits. If we did not face political obstacles to large budget deficits, secular stagnation would not be a problem, but we do.

The problems with Zakaria’s logic go much further. He implies that the fact that we have a surplus in trade in services is somehow helped by the fact that we have a deficit in goods:

“In fact, while the United States has a deficit in manufactured goods with the rest of the world, it runs a huge surplus in services (banking, insurance, consulting, etc.). And remember that 80 percent of American jobs are in the service sector. (Jobs in manufacturing as a percentage of overall jobs have been declining for 70 years at about the same pace.) The United States is also the world’s favorite destination to invest capital, by a large margin. As Martin points out, when you look at this entire picture, ‘the trade deficit should be something to brag about rather than denounce.'”

Actually, there is no logical connection between the two. If we had a stronger manufacturing sector, we would also see more demand from manufacturing for services, like computer technologies, innovations in biology and chemistry, and logistics. By implying that there is some sort of trade-off between having a strong service sector and a strong manufacturing sector, Zakaria is pushing a non sequitur.

It is also worth noting that our surplus on services was just $249.2 billion last year (1.2 percent of GDP). This surplus mattered much less to the service sector (80 percent of GDP) than the $867 billion trade deficit in goods (4.3 percent of GDP) mattered to the manufacturing sector (around 12 percent of GDP).

While Zakaria would have us believe that our service jobs are high-paying and high tech, the largest category of service exports is travel. This sector produced $214.1 billion in exports last year, more than a quarter of all service exports. These are largely jobs in hotels and restaurants, not generally thought of as high-paying high productivity employment.

One of the other major items in services was “charges for the use of intellectual property.” This earned the country $129.1 billion last year or roughly 0.6 percent of GDP. The irony of Zakaria, who is ostensibly a committed free trader, touting this export is that it is 100 percent protectionism. The U.S. gets money for the “use of intellectual property” because we give companies patent and copyright monopolies and require other countries to respect them. These monopolies raise the price of items like prescription drugs, medical equipment, and software by many thousand percent above their free market price.

Anyone who is upset by tariffs of 10 percent or 25 percent on items like imported cars or steel, should be apoplectic over what are effective government created barriers that are tens  or even hundreds of times larger. Apparently Zakaria is just fine with these barriers, perhaps because he and his friends at the Washington Post are in the class of people that benefit from them, as opposed to tariffs on cars or steel.

Another major item in our service exports is financial services, which came to $113.9 billion last year (0.5  percent of GDP). This is largely money going to the folks on Wall Street. As with intellectual property, this is a major source of inequality in the U.S. economy. Again Zakaria might be happy about this (I know, we can count on hand-wringing columns decrying inequality), but there is little reason for most of us to applaud the financial industry getting even richer.

Anyhow, in the Jeff Bezos owned Washington Post, Zakaria’s column passes for a serious analysis of trade. That’s America in 2020.

 

 

To my knowledge, he hasn’t said anything like that, but Buttigieg did say that he doesn’t accept the “fashionable” view that current deficits are not a problem. When he made this comment, many progressives denounced him for supporting deficit reducing policies that will slow growth and raise unemployment. Since most plans for deficit reduction also involve cuts to social programs (it’s compromise land), this is likely to mean additional hardships for the poor and elderly who are the primary beneficiaries of these programs.

The response of many centrists to these attacks (e.g. here) was to say that Buttigieg was just using campaign rhetoric, he doesn’t really mean it. Guessing what is in any politician’s head is always difficult, but it is especially hard with someone like Buttigieg, with a very short track record and few clear ideological convictions.

But whatever may be in Buttigieg’s head, we can certainly look at his words. He didn’t just indicate he disagreed with a view on deficits that has been largely embraced by the mainstream of the economics profession, he implied that this view was frivolous – a fashion that could change at any time.

This is more than a little annoying for those of us who have spent a lot of time in budget debates, especially in the dozen years since the collapse of the housing bubble gave us the Great Recession. The view that large deficits, like the one the country is now running, are not a problem came about as a result of an analysis of the evidence.

Ever since the collapse of the housing bubble, the economy has suffered from a persistent shortfall in demand. The loss of demand from the collapse of the bubble was enormous. At its peak in 2005, housing investment was 6.7 percent of GDP. In the most recent quarter it was just 3.8 percent of GDP. The difference of 2.9 percentage points of GDP translates into more than $600 billion in lost annual demand.

In addition, there was a falloff in consumption demand associated with the collapse of the housing bubble. The ephemeral wealth created by the housing bubble led to a surge in consumption spending, as people spent based on the newly generated wealth in their homes. At the peak in 2005, households consumed 97.5 percent of their disposable income. When the bubble burst and the housing wealth disappeared, so did the bubble driven consumption. In the most recent quarter, households were consuming just 92.3 percent of their disposable income. The difference in consumption shares translates into more than $800 billion annually of lost demand in today’s economy.

If we add the loss in annual demand from the falloff in housing investment and reduced consumption, it comes to more than $1,400 billion. As we have painfully learned since the Great Recession, there is no easy mechanism to replace this lost demand. The view formerly held by many economists, that the Fed could just lower interest rates and bring the economy back to full employment, has been shown to be clearly wrong. Even with the Fed’s interest rate at zero for seven years, the economy still did not rebound to anything like full employment.

This is the context in which much of the mainstream of the economics profession came to embrace the view that large budget deficits could be sustained for long periods of time. Given a persistent shortfall in demand in the economy (a.k.a. “secular stagnation”), there is no other sector that could provide the boost to growth necessary to bring the economy to full employment.

Rather than being a liability, large deficits are needed to lower the unemployment rate. And, low unemployment rates are especially important to African Americans, Hispanics and other disadvantaged groups in the labor market, since they disproportionately are the job gainers as the labor market tightens. In a tight labor market, employers have no choice but to employ people who would otherwise be the victims of discrimination. With the unemployment rate now well under 4.0 percent, there are accounts of employers even reaching out to people with criminal records who they might otherwise never consider employing.

Tight labor markets also give workers at the middle and bottom of the wage distribution the bargaining power needed to achieve wage gains. After seeing declines in real wages in the years immediately following the Great Recession, workers at the middle and bottom of the wage distribution have been seeing real gains of more than 1.0 percent annually over the last five years.

If we had smaller budget deficits, we would have seen less demand in the economy and less growth. This would have meant fewer jobs, higher unemployment, and less bargaining power for workers. That is the Pete Buttigieg world. He may not know this or he may not care, but we should be clear, this is what his call for lower budget deficits means.

 

The Story of Evil Deficits I

The conventional story of the evils of budget deficits is that they lead to higher interest rates, which then crowd out investment. Less investment (both public and private) is bad news because it means that productivity growth will be slower, leaving us poorer in the future than we would otherwise be.

This story clearly does not fit the current situation. The interest rate on 10-year Treasury bonds is just 1.6 percent. That compares to interest rates of 4.0-5.0 percent back in the late 1990s when we were running budget surpluses. With interest rates at historically low levels for the last decade, it is pretty hard to make the case that the deficit has been crowding out investment.

The conventional story would also hold that large deficits could lead to inflation, if the Fed failed to act by pushing up interest rates. This story also does not fit with the data. The inflation rate, as measured by the Consumer Price Index was 2.5 percent over the last year, but this reflects jumps in energy prices last fall. The inflation rate in the core personal consumption expenditure deflator, the rate targeted by the Federal Reserve Board, has been just 1.6 percent over the last year.

This is well below the Fed’s 2.0 percent target, which is meant to be an average. That means that the Fed would like to see the inflation rate occasionally be somewhat above 2.0 percent in order to balance out the periods of below 2.0 percent inflation. From the Fed’s standpoint, the problem has been that the inflation rate has been too low, not too high.

In short, we are not seeing either of the short-term problems usually attributed to large budget deficits. Interest rates are at historically low levels, so we can’t tell a story about deficits crowding out investment, and inflation has been consistently below its targeted rate, so there is no basis for complaints about the deficits causing inflation. So, if Buttigieg has a story about deficits doing harm to the economy, it is not one of the conventional stories economists tell.

 

The Story of Evil Deficits II

The other story often told about the budget deficit is that it will be a burden on our children, since they will have to pay interest on the debt. The story goes that our current publicly held debt of $16.9 trillion (79.2 percent of GDP) will impose an enormous burden as future generations struggle to pay it off. There are three points to be made on this.

First, these interest payments are an intragenerational issue, not an inter-generational issue. The debt is overwhelmingly held domestically. This means that the interest payments will be made by some of our children to the children of other people. In twenty or thirty years, ordinary workers may be paying taxes to pay the interest on the bonds held by the children of Bill Gates and Jeff Bezos. That could be a problem, but it is one that is easily solved by taxing the children of Bill Gates and Jeff Bezos. This is just saying that inequality can be a problem, which is obviously true, and if Bill Gates and Jeff Bezos’ kids hold lots of government bonds, the interest they get on those bonds could be part of the problem.

The second point is, that in spite of the large debt, the interest burden is relatively low, due to the extraordinarily low interest rates we have seen in recent years. The latest projections from the Congressional Budget Office show that interest payments, net of remittances from the Federal Reserve Board, will be just 1.4 percent of GDP in 2020. This compares to payments of more than 3.0 percent of GDP in the early and mid-1990s. It is pretty hard to get too upset about a burden that is less than half as large as what we faced three decades ago. And, that burden did not prevent the 1990s from being a relatively prosperous decade.

The final reason the debt interest burden argument richly deserves our ridicule is that it is very selective in choosing what burdens to consider and what burdens to ignore. Direct spending is only one mechanism the government uses to pay for things it wants done. It also gives out patent and copyright monopolies. These government-granted monopolies can be thought of as private taxes that the government allows companies to collect from the public in exchange for innovation and creative work.

The amount of money at stake in the rents from patent and copyright monopolies swamps payments of interest on the debt. In the case of prescription drugs alone the rents are going to be in the neighborhood of $400 billion in 2020 (1.8 percent of GDP). If we add in the rents from these monopolies in medical equipment, computer software, recorded music, movies, and video games, we are almost certainly over $1 trillion, or close 5.0 percent of GDP.

It doesn’t make any sense to hyperventilate about an interest burden of 1.3 percent of GDP, while ignoring rents from patent and copyright monopolies that are more than three times as large. If Buttigieg wants to make a big deal about the interest burden from the debt, then it is clearly not due to any objective reality. He is either appealing to prejudices or simply reflecting his own ignorance of budget and economic realities.

 

Yes, People Who Care About Economic Policy Should be Offended by Buttigieg’s Budget Comments

Only Buttigieg knows his actual motives for dismissing the lack of concern about budget deficits as a “fashion.” However, this lack of concern is based on hard data and clear theoretical thinking. Whatever reason Buttigieg has for saying that we should be concerned about budget deficits, those of us who have done our homework have every reason to be angry at Buttigieg, just as serious climate scientists are justified in their anger at the climate denialists.

To my knowledge, he hasn’t said anything like that, but Buttigieg did say that he doesn’t accept the “fashionable” view that current deficits are not a problem. When he made this comment, many progressives denounced him for supporting deficit reducing policies that will slow growth and raise unemployment. Since most plans for deficit reduction also involve cuts to social programs (it’s compromise land), this is likely to mean additional hardships for the poor and elderly who are the primary beneficiaries of these programs.

The response of many centrists to these attacks (e.g. here) was to say that Buttigieg was just using campaign rhetoric, he doesn’t really mean it. Guessing what is in any politician’s head is always difficult, but it is especially hard with someone like Buttigieg, with a very short track record and few clear ideological convictions.

But whatever may be in Buttigieg’s head, we can certainly look at his words. He didn’t just indicate he disagreed with a view on deficits that has been largely embraced by the mainstream of the economics profession, he implied that this view was frivolous – a fashion that could change at any time.

This is more than a little annoying for those of us who have spent a lot of time in budget debates, especially in the dozen years since the collapse of the housing bubble gave us the Great Recession. The view that large deficits, like the one the country is now running, are not a problem came about as a result of an analysis of the evidence.

Ever since the collapse of the housing bubble, the economy has suffered from a persistent shortfall in demand. The loss of demand from the collapse of the bubble was enormous. At its peak in 2005, housing investment was 6.7 percent of GDP. In the most recent quarter it was just 3.8 percent of GDP. The difference of 2.9 percentage points of GDP translates into more than $600 billion in lost annual demand.

In addition, there was a falloff in consumption demand associated with the collapse of the housing bubble. The ephemeral wealth created by the housing bubble led to a surge in consumption spending, as people spent based on the newly generated wealth in their homes. At the peak in 2005, households consumed 97.5 percent of their disposable income. When the bubble burst and the housing wealth disappeared, so did the bubble driven consumption. In the most recent quarter, households were consuming just 92.3 percent of their disposable income. The difference in consumption shares translates into more than $800 billion annually of lost demand in today’s economy.

If we add the loss in annual demand from the falloff in housing investment and reduced consumption, it comes to more than $1,400 billion. As we have painfully learned since the Great Recession, there is no easy mechanism to replace this lost demand. The view formerly held by many economists, that the Fed could just lower interest rates and bring the economy back to full employment, has been shown to be clearly wrong. Even with the Fed’s interest rate at zero for seven years, the economy still did not rebound to anything like full employment.

This is the context in which much of the mainstream of the economics profession came to embrace the view that large budget deficits could be sustained for long periods of time. Given a persistent shortfall in demand in the economy (a.k.a. “secular stagnation”), there is no other sector that could provide the boost to growth necessary to bring the economy to full employment.

Rather than being a liability, large deficits are needed to lower the unemployment rate. And, low unemployment rates are especially important to African Americans, Hispanics and other disadvantaged groups in the labor market, since they disproportionately are the job gainers as the labor market tightens. In a tight labor market, employers have no choice but to employ people who would otherwise be the victims of discrimination. With the unemployment rate now well under 4.0 percent, there are accounts of employers even reaching out to people with criminal records who they might otherwise never consider employing.

Tight labor markets also give workers at the middle and bottom of the wage distribution the bargaining power needed to achieve wage gains. After seeing declines in real wages in the years immediately following the Great Recession, workers at the middle and bottom of the wage distribution have been seeing real gains of more than 1.0 percent annually over the last five years.

If we had smaller budget deficits, we would have seen less demand in the economy and less growth. This would have meant fewer jobs, higher unemployment, and less bargaining power for workers. That is the Pete Buttigieg world. He may not know this or he may not care, but we should be clear, this is what his call for lower budget deficits means.

 

The Story of Evil Deficits I

The conventional story of the evils of budget deficits is that they lead to higher interest rates, which then crowd out investment. Less investment (both public and private) is bad news because it means that productivity growth will be slower, leaving us poorer in the future than we would otherwise be.

This story clearly does not fit the current situation. The interest rate on 10-year Treasury bonds is just 1.6 percent. That compares to interest rates of 4.0-5.0 percent back in the late 1990s when we were running budget surpluses. With interest rates at historically low levels for the last decade, it is pretty hard to make the case that the deficit has been crowding out investment.

The conventional story would also hold that large deficits could lead to inflation, if the Fed failed to act by pushing up interest rates. This story also does not fit with the data. The inflation rate, as measured by the Consumer Price Index was 2.5 percent over the last year, but this reflects jumps in energy prices last fall. The inflation rate in the core personal consumption expenditure deflator, the rate targeted by the Federal Reserve Board, has been just 1.6 percent over the last year.

This is well below the Fed’s 2.0 percent target, which is meant to be an average. That means that the Fed would like to see the inflation rate occasionally be somewhat above 2.0 percent in order to balance out the periods of below 2.0 percent inflation. From the Fed’s standpoint, the problem has been that the inflation rate has been too low, not too high.

In short, we are not seeing either of the short-term problems usually attributed to large budget deficits. Interest rates are at historically low levels, so we can’t tell a story about deficits crowding out investment, and inflation has been consistently below its targeted rate, so there is no basis for complaints about the deficits causing inflation. So, if Buttigieg has a story about deficits doing harm to the economy, it is not one of the conventional stories economists tell.

 

The Story of Evil Deficits II

The other story often told about the budget deficit is that it will be a burden on our children, since they will have to pay interest on the debt. The story goes that our current publicly held debt of $16.9 trillion (79.2 percent of GDP) will impose an enormous burden as future generations struggle to pay it off. There are three points to be made on this.

First, these interest payments are an intragenerational issue, not an inter-generational issue. The debt is overwhelmingly held domestically. This means that the interest payments will be made by some of our children to the children of other people. In twenty or thirty years, ordinary workers may be paying taxes to pay the interest on the bonds held by the children of Bill Gates and Jeff Bezos. That could be a problem, but it is one that is easily solved by taxing the children of Bill Gates and Jeff Bezos. This is just saying that inequality can be a problem, which is obviously true, and if Bill Gates and Jeff Bezos’ kids hold lots of government bonds, the interest they get on those bonds could be part of the problem.

The second point is, that in spite of the large debt, the interest burden is relatively low, due to the extraordinarily low interest rates we have seen in recent years. The latest projections from the Congressional Budget Office show that interest payments, net of remittances from the Federal Reserve Board, will be just 1.4 percent of GDP in 2020. This compares to payments of more than 3.0 percent of GDP in the early and mid-1990s. It is pretty hard to get too upset about a burden that is less than half as large as what we faced three decades ago. And, that burden did not prevent the 1990s from being a relatively prosperous decade.

The final reason the debt interest burden argument richly deserves our ridicule is that it is very selective in choosing what burdens to consider and what burdens to ignore. Direct spending is only one mechanism the government uses to pay for things it wants done. It also gives out patent and copyright monopolies. These government-granted monopolies can be thought of as private taxes that the government allows companies to collect from the public in exchange for innovation and creative work.

The amount of money at stake in the rents from patent and copyright monopolies swamps payments of interest on the debt. In the case of prescription drugs alone the rents are going to be in the neighborhood of $400 billion in 2020 (1.8 percent of GDP). If we add in the rents from these monopolies in medical equipment, computer software, recorded music, movies, and video games, we are almost certainly over $1 trillion, or close 5.0 percent of GDP.

It doesn’t make any sense to hyperventilate about an interest burden of 1.3 percent of GDP, while ignoring rents from patent and copyright monopolies that are more than three times as large. If Buttigieg wants to make a big deal about the interest burden from the debt, then it is clearly not due to any objective reality. He is either appealing to prejudices or simply reflecting his own ignorance of budget and economic realities.

 

Yes, People Who Care About Economic Policy Should be Offended by Buttigieg’s Budget Comments

Only Buttigieg knows his actual motives for dismissing the lack of concern about budget deficits as a “fashion.” However, this lack of concern is based on hard data and clear theoretical thinking. Whatever reason Buttigieg has for saying that we should be concerned about budget deficits, those of us who have done our homework have every reason to be angry at Buttigieg, just as serious climate scientists are justified in their anger at the climate denialists.

The New York Times had an interesting piece about three generations of an African American family, focusing on a man who moved from the South to Chicago in the mid-1950s. He had enjoyed a reasonably comfortable working class life in the city, but one of his daughters moved to the suburbs, because she saw it as a safer place to raise her daughter. The daughter eventually moved to Houston where she had better career prospects. This is given as an example of the outflow of African Americans from the city, which has numbered roughly 200,000 in the last five years.

At two important points the piece includes numbers, that are not adjusted for inflation, and therefore provide the bulk of its readers with no useful information. In one case it tells readers that Mr. White, the central figure in the piece, lost a job in a meat packing factory that paid $13.60 in 1992. Since most readers do not have a good idea of inflation over the last three decades, they likely would not realize that this was a relatively good-paying job. Prices have risen by more than 80 percent since 1992, which means that this job would have paid roughly $25.00 an hour in 2020 dollars.

The other number that likely makes little sense to readers is the $23,500 price that Mr. White, and his wife Velma, paid for their house in 1967. Since prices have risen by more than 580 percent since 1967, this would be equivalent to roughly $160,000 in today’s dollars.

This was obviously a piece that involved considerable time investigating. There is no reason that the reporter, or a staffer at the paper, could not have taken the ten minutes needed to put these numbers in a context that would be meaningful to its readers.

The New York Times had an interesting piece about three generations of an African American family, focusing on a man who moved from the South to Chicago in the mid-1950s. He had enjoyed a reasonably comfortable working class life in the city, but one of his daughters moved to the suburbs, because she saw it as a safer place to raise her daughter. The daughter eventually moved to Houston where she had better career prospects. This is given as an example of the outflow of African Americans from the city, which has numbered roughly 200,000 in the last five years.

At two important points the piece includes numbers, that are not adjusted for inflation, and therefore provide the bulk of its readers with no useful information. In one case it tells readers that Mr. White, the central figure in the piece, lost a job in a meat packing factory that paid $13.60 in 1992. Since most readers do not have a good idea of inflation over the last three decades, they likely would not realize that this was a relatively good-paying job. Prices have risen by more than 80 percent since 1992, which means that this job would have paid roughly $25.00 an hour in 2020 dollars.

The other number that likely makes little sense to readers is the $23,500 price that Mr. White, and his wife Velma, paid for their house in 1967. Since prices have risen by more than 580 percent since 1967, this would be equivalent to roughly $160,000 in today’s dollars.

This was obviously a piece that involved considerable time investigating. There is no reason that the reporter, or a staffer at the paper, could not have taken the ten minutes needed to put these numbers in a context that would be meaningful to its readers.

(This post originally appeared on my Patreon page.) Last month George Soros had a New York Times column arguing that Mark Zuckerberg should not be running Facebook. (Does the NYT reserve space on its opinion page for billionaires?) The gist of Soros’ piece is that Zuckerberg has made a deal with Trump. He will allow all manner of outrageous lies to be spread on Facebook to benefit Trump’s re-election campaign. In exchange, Trump will defend Zuckerberg from efforts to regulate Facebook.

Soros is of course right. Zuckerberg has said that Facebook will not attempt to verify the accuracy of the political ads that it runs. This is a greenlight for any sleazebag to push the most outrageous claims that they want in order to further the election of their favored candidate.

This will almost certainly benefit Donald Trump’s re-election, since the one area where he can legitimately take credit is in pushing outlandish lies. No one has pushed more lies more effectively than Donald Trump. The free rein promised by Zuckerberg is a re-election campaign contribution of enormous value.

While Soros is right on the substance of the issue, he is wrong to focus on the personality of Mark Zuckerberg. It would be good if we had a responsible forward-thinking person, who cared about the future of democracy, running Facebook, but that is not the normal course of things in a capitalist economy.

Businesses are run to make money. And, the bottom line here is that Facebook stands to make much more money spreading outlandish lies that help Trump’s campaign, than screening ads for their veracity. In this context, we should not be surprised that Facebook is taking the lie-spreading route. The problem is not that Zuckerberg is acting like a normal businessperson, the problem is that we made the lie-spreading route profitable.

In this respect it is worth pointing out that we don’t have the same problem with other media outlets. We don’t have to beg CNN, the New York Times, and other major news outlets to not take ads that they know to be false. They won’t do it, perhaps in part out of principle, but also because they could be sued for libel if they spread claims that were false and damaging.

For example, if I wanted to take out an ad asserting that Donald Trump is a rapist (which is likely true), most major news outlets would refuse to run it. Donald Trump could not only sue me for libel, he could also sue any news outlet that carried the ad. If I could not show that the claim was true, the news outlet that published the ad could be forced to pay substantial damages. For this reason, traditional news outlets do try to screen political ads for accuracy, and will not run an ad that they know to be false.

Facebook does not feel the same need to protect against libel because a law passed by Congress exempts it from the same sort of liability faced by traditional media outlets. Section 230 of the 1996 Communications Decency Act, protects Internet intermediaries from the liability rules that apply to traditional media outlets.

The logic that was used to justify this provision is that Internet intermediaries should be treated the same way as common carriers, like a phone company or the mail service. A common carrier does not have control over the content it carries, nor does it profit from specific content, except insofar as it increases demand for its service.

This was arguably an accurate description of Internet intermediaries in the early years of the web. For example, we would not have expected AOL to be responsible for whatever people chose to post in its chatrooms. But the web in general, and Facebook in particular, have evolved hugely in the years since Section 230 was put into law.

Facebook has complete control over content. It allows people to pay to have their posts sent to as many people as they choose. It allows them to target the recipients, based on location, age, education, gender, and any number of other characteristics. It is very hard to see how an outlet like CNN or the NYT can be held responsible for spreading libelous material, but Facebook should be exempt.

Whether or not Section 230 made sense in 1996, it clearly does not in era of Facebook. In effect it gives Facebook, and other Internet outlets, a special privilege that is not available to their broadcast or print competitors.

Of course, Zuckerberg will claim that it is not possible for Facebook to monitor the hundreds of millions of items that get posted every day. But the standard need not be that Facebook prevents libelous material from being posted. Rather, Facebook can be required to remove libelous material after it has been called to its attention. Furthermore, since Facebook’s system allows it to know exactly who has opened a post, it can be required to send a correction to anyone who originally received the libelous material.

Zuckerberg has also argued that they cannot be responsible for preventing false material from being spread through Facebook because they shouldn’t be in the position of determining what is true. Determining truth may seem hard for Zuckerberg, but this is precisely what every traditional media outlet does all the time, both when deciding on editorial content and when making decisions about accepting ads. If Zuckerberg’s team is that much less competent than those at traditional media outlets they can look to hire competent people away from these other outlets.      

There really is nothing terribly complicated about Facebook’s situation, nor any grand questions of freedom of speech and freedom of the press that don’t come up all the time with traditional media. The basic story is that Facebook is now gaming a provision of a quarter-century old law to pretend it is a common carrier when that is clearly not the case.

If Facebook wants to be treated like a common carrier, then it should become one. That would mean not profiting from ads and boosted posts. It would also mean not selling personal information from its users. If it wants to be a common carrier then it can simply allow people to post as they please and not try to profit from content or personal information.

However, this is obviously not Facebook in its current form. Facebook is no more a common carrier than any major media outlet. As such it has to be subject to the same rules as other media outlets. That will require much more spending to police its network for false and libelous information, which will mean that Facebook will be much less profitable and Mark Zuckerberg will be much less rich.

But that is Mr. Zuckerberg’s problem. We should not be in the position of begging Zuckerberg to do the right thing as the CEO of Facebook or hoping that a more socially responsible person takes over the company. The law must be adjusted to take away Facebook’s special status. It is a media outlet and it is long past time that it be treated like one.    

(This post originally appeared on my Patreon page.) Last month George Soros had a New York Times column arguing that Mark Zuckerberg should not be running Facebook. (Does the NYT reserve space on its opinion page for billionaires?) The gist of Soros’ piece is that Zuckerberg has made a deal with Trump. He will allow all manner of outrageous lies to be spread on Facebook to benefit Trump’s re-election campaign. In exchange, Trump will defend Zuckerberg from efforts to regulate Facebook.

Soros is of course right. Zuckerberg has said that Facebook will not attempt to verify the accuracy of the political ads that it runs. This is a greenlight for any sleazebag to push the most outrageous claims that they want in order to further the election of their favored candidate.

This will almost certainly benefit Donald Trump’s re-election, since the one area where he can legitimately take credit is in pushing outlandish lies. No one has pushed more lies more effectively than Donald Trump. The free rein promised by Zuckerberg is a re-election campaign contribution of enormous value.

While Soros is right on the substance of the issue, he is wrong to focus on the personality of Mark Zuckerberg. It would be good if we had a responsible forward-thinking person, who cared about the future of democracy, running Facebook, but that is not the normal course of things in a capitalist economy.

Businesses are run to make money. And, the bottom line here is that Facebook stands to make much more money spreading outlandish lies that help Trump’s campaign, than screening ads for their veracity. In this context, we should not be surprised that Facebook is taking the lie-spreading route. The problem is not that Zuckerberg is acting like a normal businessperson, the problem is that we made the lie-spreading route profitable.

In this respect it is worth pointing out that we don’t have the same problem with other media outlets. We don’t have to beg CNN, the New York Times, and other major news outlets to not take ads that they know to be false. They won’t do it, perhaps in part out of principle, but also because they could be sued for libel if they spread claims that were false and damaging.

For example, if I wanted to take out an ad asserting that Donald Trump is a rapist (which is likely true), most major news outlets would refuse to run it. Donald Trump could not only sue me for libel, he could also sue any news outlet that carried the ad. If I could not show that the claim was true, the news outlet that published the ad could be forced to pay substantial damages. For this reason, traditional news outlets do try to screen political ads for accuracy, and will not run an ad that they know to be false.

Facebook does not feel the same need to protect against libel because a law passed by Congress exempts it from the same sort of liability faced by traditional media outlets. Section 230 of the 1996 Communications Decency Act, protects Internet intermediaries from the liability rules that apply to traditional media outlets.

The logic that was used to justify this provision is that Internet intermediaries should be treated the same way as common carriers, like a phone company or the mail service. A common carrier does not have control over the content it carries, nor does it profit from specific content, except insofar as it increases demand for its service.

This was arguably an accurate description of Internet intermediaries in the early years of the web. For example, we would not have expected AOL to be responsible for whatever people chose to post in its chatrooms. But the web in general, and Facebook in particular, have evolved hugely in the years since Section 230 was put into law.

Facebook has complete control over content. It allows people to pay to have their posts sent to as many people as they choose. It allows them to target the recipients, based on location, age, education, gender, and any number of other characteristics. It is very hard to see how an outlet like CNN or the NYT can be held responsible for spreading libelous material, but Facebook should be exempt.

Whether or not Section 230 made sense in 1996, it clearly does not in era of Facebook. In effect it gives Facebook, and other Internet outlets, a special privilege that is not available to their broadcast or print competitors.

Of course, Zuckerberg will claim that it is not possible for Facebook to monitor the hundreds of millions of items that get posted every day. But the standard need not be that Facebook prevents libelous material from being posted. Rather, Facebook can be required to remove libelous material after it has been called to its attention. Furthermore, since Facebook’s system allows it to know exactly who has opened a post, it can be required to send a correction to anyone who originally received the libelous material.

Zuckerberg has also argued that they cannot be responsible for preventing false material from being spread through Facebook because they shouldn’t be in the position of determining what is true. Determining truth may seem hard for Zuckerberg, but this is precisely what every traditional media outlet does all the time, both when deciding on editorial content and when making decisions about accepting ads. If Zuckerberg’s team is that much less competent than those at traditional media outlets they can look to hire competent people away from these other outlets.      

There really is nothing terribly complicated about Facebook’s situation, nor any grand questions of freedom of speech and freedom of the press that don’t come up all the time with traditional media. The basic story is that Facebook is now gaming a provision of a quarter-century old law to pretend it is a common carrier when that is clearly not the case.

If Facebook wants to be treated like a common carrier, then it should become one. That would mean not profiting from ads and boosted posts. It would also mean not selling personal information from its users. If it wants to be a common carrier then it can simply allow people to post as they please and not try to profit from content or personal information.

However, this is obviously not Facebook in its current form. Facebook is no more a common carrier than any major media outlet. As such it has to be subject to the same rules as other media outlets. That will require much more spending to police its network for false and libelous information, which will mean that Facebook will be much less profitable and Mark Zuckerberg will be much less rich.

But that is Mr. Zuckerberg’s problem. We should not be in the position of begging Zuckerberg to do the right thing as the CEO of Facebook or hoping that a more socially responsible person takes over the company. The law must be adjusted to take away Facebook’s special status. It is a media outlet and it is long past time that it be treated like one.    

Want to search in the archives?

¿Quieres buscar en los archivos?

Click Here Haga clic aquí