That’s what folks must have been speculating about when they read Neil Irwin’s account of the Fed’s decision to put off a hike in interest rates this week. Near the end of the piece Irwin tells readers:
“As Stanley Fischer, the Fed vice chairman, said in a television interview last month, if the Fed waits until it is absolutely certain it is time to raise rates, it will probably be too late.
“In other words, Fed officials inevitably have to make a decision based on what their models predict, not on cold hard evidence.”
Huh? What exactly is the bad thing that happens if it’s “too late” when the Fed acts? In the models I know, we start to see some acceleration of inflation. Given that the inflation rate has been well below the Fed’s target for most of the last six years, the Fed should want the inflation rate to accelerate, at least if it is following its stated policy of targeting a 2.0 percent average rate of inflation. (This rate is too low, according to folks like I.M.F. chief economist Olivier Blanchard.) The inflation rate could average 3.0 percent over the next four years and still be consistent with the Fed’s stated target.
None of the standard models shows a rapid acceleration of inflation as a result of the Fed being “too late.” They show the inflation rate increasing very gradually. According to the most recent projections from the Congressional Budget Office being a full percentage point below full employment for a full year would lead to just a 0.3 percentage point rise in the rate of inflation. This would appear to be the cost of being too late in the standard models.
Perhaps Irwin could tell readers what Mr. Fischer was thinking about in giving his warning.
Addendum:
The headline writer for this piece deserves some grief for writing that “Yellen blinked” in reference to her decision not to support an interest rate hike. The implication is that this decision was due to a lack of will as opposed to good judgement. This is not the job of the headline writer to determine, nor the implication of the piece. Thanks Jeff for pointing this out.
That’s what folks must have been speculating about when they read Neil Irwin’s account of the Fed’s decision to put off a hike in interest rates this week. Near the end of the piece Irwin tells readers:
“As Stanley Fischer, the Fed vice chairman, said in a television interview last month, if the Fed waits until it is absolutely certain it is time to raise rates, it will probably be too late.
“In other words, Fed officials inevitably have to make a decision based on what their models predict, not on cold hard evidence.”
Huh? What exactly is the bad thing that happens if it’s “too late” when the Fed acts? In the models I know, we start to see some acceleration of inflation. Given that the inflation rate has been well below the Fed’s target for most of the last six years, the Fed should want the inflation rate to accelerate, at least if it is following its stated policy of targeting a 2.0 percent average rate of inflation. (This rate is too low, according to folks like I.M.F. chief economist Olivier Blanchard.) The inflation rate could average 3.0 percent over the next four years and still be consistent with the Fed’s stated target.
None of the standard models shows a rapid acceleration of inflation as a result of the Fed being “too late.” They show the inflation rate increasing very gradually. According to the most recent projections from the Congressional Budget Office being a full percentage point below full employment for a full year would lead to just a 0.3 percentage point rise in the rate of inflation. This would appear to be the cost of being too late in the standard models.
Perhaps Irwin could tell readers what Mr. Fischer was thinking about in giving his warning.
Addendum:
The headline writer for this piece deserves some grief for writing that “Yellen blinked” in reference to her decision not to support an interest rate hike. The implication is that this decision was due to a lack of will as opposed to good judgement. This is not the job of the headline writer to determine, nor the implication of the piece. Thanks Jeff for pointing this out.
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The Washington Post is apparently disappointed that the Fed did not decide to raise interest rates and slow the pace of economic growth. Its editorial told readers:
“But there are risks [from not raising rates], too, such as the formation of asset bubbles and the sheer loss of credibility the Fed suffers every time it flirts with a new interest rate policy and then doesn’t deliver. The latter risk may have been compounded by the Fed’s so openly acknowledging that its decisions are subject to the vagaries of China’s economic “rebalancing,” and the non transparent policy processes in Beijing upon which that depends.”
The second part of this paragraph seems to suggest that the Post is unhappy that Yellen would take into account the impact of the world economy on the United States in her decisions on interest rates. That’s an interesting criticism.
But the first part is the fun part. The Post is worried about bubbles? This is a paper that hosted James K. Glassman, co-author of Dow 36,000, through the stock bubble years. In the housing bubble years its main commentator on the real estate market was David Lereah, the chief economist of the National Association of Realtor and the author of the 2005 classic, Why the Housing Boom Will not Bust and How You Can Profit from It.
It would be interesting if the Post’s editorial board had evidence of a bubble threatening the economy. If they do, they didn’t bother sharing it with their readers. It would be reasonable to expect such evidence before demanding that the Fed raise interest rates to keep workers from getting jobs and pay raises.
The Washington Post is apparently disappointed that the Fed did not decide to raise interest rates and slow the pace of economic growth. Its editorial told readers:
“But there are risks [from not raising rates], too, such as the formation of asset bubbles and the sheer loss of credibility the Fed suffers every time it flirts with a new interest rate policy and then doesn’t deliver. The latter risk may have been compounded by the Fed’s so openly acknowledging that its decisions are subject to the vagaries of China’s economic “rebalancing,” and the non transparent policy processes in Beijing upon which that depends.”
The second part of this paragraph seems to suggest that the Post is unhappy that Yellen would take into account the impact of the world economy on the United States in her decisions on interest rates. That’s an interesting criticism.
But the first part is the fun part. The Post is worried about bubbles? This is a paper that hosted James K. Glassman, co-author of Dow 36,000, through the stock bubble years. In the housing bubble years its main commentator on the real estate market was David Lereah, the chief economist of the National Association of Realtor and the author of the 2005 classic, Why the Housing Boom Will not Bust and How You Can Profit from It.
It would be interesting if the Post’s editorial board had evidence of a bubble threatening the economy. If they do, they didn’t bother sharing it with their readers. It would be reasonable to expect such evidence before demanding that the Fed raise interest rates to keep workers from getting jobs and pay raises.
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Andrew Ross Sorkin has a good piece today pointing out that Jeb Bush’s tax plan calls for ending the deductibility for corporate interest payments. Under the current system the tax code effectively gives encouragement for companies to borrow, since the interest they pay is tax deductible.
Private equity companies take advantage of this provision, routinely having the companies they acquire borrow as much as possible, often to make payments to the private equity company. This leaves the acquired company vulnerable to any business downturn, which is why many acquired companies go bankrupt.
The interest deduction is a large part of private equity profits in many cases. Since some private equity partners are among the richest people in the country, ending this deduction would be enormously progressive. It would put an end to a practice that has allowed many private equity partners to make hundreds of millions or even billions by gaming the tax code.
Andrew Ross Sorkin has a good piece today pointing out that Jeb Bush’s tax plan calls for ending the deductibility for corporate interest payments. Under the current system the tax code effectively gives encouragement for companies to borrow, since the interest they pay is tax deductible.
Private equity companies take advantage of this provision, routinely having the companies they acquire borrow as much as possible, often to make payments to the private equity company. This leaves the acquired company vulnerable to any business downturn, which is why many acquired companies go bankrupt.
The interest deduction is a large part of private equity profits in many cases. Since some private equity partners are among the richest people in the country, ending this deduction would be enormously progressive. It would put an end to a practice that has allowed many private equity partners to make hundreds of millions or even billions by gaming the tax code.
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The Wall Street Journal decided to take Senator Bernie Sanders’ presidential campaign seriously enough to calculate the cost of the programs that he proposed. Their price tag was $18 trillion over the next decade. This is presumably supposed to scare people because, let’s face it $18 trillion is a really big number.
Much of the fright factor disappears when we realize that $15 trillion of this $18 trillion comes from the WSJ’s estimate of the cost of Sanders’ universal Medicare program. That is a considerable chunk of change, but as Kevin Drum and others have pointed out this will not be new money out of people’s pockets. For the most part this is money that employers are now paying for their workers’ health care insurance. Instead, under a universal Medicare system the government would get this money in tax revenue. Since Canada and the other wealthy countries with universal Medicare-type systems all have much lower per capita health care costs than the United States (the average is less than half the cost), in all probability we would be paying less for our health care under the Sanders’ system than we do now.
This still leaves $3 trillion for us to get frightened over, and this still looks like a really big number. As a point of reference, GDP over the next decade is projected at roughly $240 trillion. This makes the cost of the rest of Sanders’ plans equal to less than 1.3 percent of GDP.
Should we worry about that? The increase in annual military spending from 2000 to the peaks of Iraq/Afghanistan wars was roughly 1.8 percent of GDP. This was also the size of military buildup that took place under President Reagan. Jeb Bush is proposing to cut taxes by roughly this amount if he gets elected.
In short, the additional spending that Senator Sanders has proposed is not trivial, but we have seen comparable increases in the past for other purposes. We can clearly afford the tab, the question is whether free college, rebuilding the infrastructure, early childhood education and the other items on the list are worth the price.
The Wall Street Journal decided to take Senator Bernie Sanders’ presidential campaign seriously enough to calculate the cost of the programs that he proposed. Their price tag was $18 trillion over the next decade. This is presumably supposed to scare people because, let’s face it $18 trillion is a really big number.
Much of the fright factor disappears when we realize that $15 trillion of this $18 trillion comes from the WSJ’s estimate of the cost of Sanders’ universal Medicare program. That is a considerable chunk of change, but as Kevin Drum and others have pointed out this will not be new money out of people’s pockets. For the most part this is money that employers are now paying for their workers’ health care insurance. Instead, under a universal Medicare system the government would get this money in tax revenue. Since Canada and the other wealthy countries with universal Medicare-type systems all have much lower per capita health care costs than the United States (the average is less than half the cost), in all probability we would be paying less for our health care under the Sanders’ system than we do now.
This still leaves $3 trillion for us to get frightened over, and this still looks like a really big number. As a point of reference, GDP over the next decade is projected at roughly $240 trillion. This makes the cost of the rest of Sanders’ plans equal to less than 1.3 percent of GDP.
Should we worry about that? The increase in annual military spending from 2000 to the peaks of Iraq/Afghanistan wars was roughly 1.8 percent of GDP. This was also the size of military buildup that took place under President Reagan. Jeb Bush is proposing to cut taxes by roughly this amount if he gets elected.
In short, the additional spending that Senator Sanders has proposed is not trivial, but we have seen comparable increases in the past for other purposes. We can clearly afford the tab, the question is whether free college, rebuilding the infrastructure, early childhood education and the other items on the list are worth the price.
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Paul Krugman rightly criticizes the proponents of austerity for claiming Spain as a success story. As Krugman points out, its economy is growing, but it has a long way to go to make up the ground lost in its downturn.
He makes this point in a graph showing log GDP, but this picture is actually too generous. We should care about GDP per capita, and here the story is even worse.
Spain’s per capita GDP is still more than 7 percent below its peak in 2007. In fact the current level is roughly the same as in 2003, translating into 11 years of zero growth in per capita GDP. By comparison in 1940, 11 years after the onset of the Great Depression, per capita disposable income was 7 percent higher than its level in 1929.
So with its austerity agenda Spain is doing considerably worse than the United States in its recovery from the Great Depression. Apparently, this now counts at success among the honchos in the euro zone.
Paul Krugman rightly criticizes the proponents of austerity for claiming Spain as a success story. As Krugman points out, its economy is growing, but it has a long way to go to make up the ground lost in its downturn.
He makes this point in a graph showing log GDP, but this picture is actually too generous. We should care about GDP per capita, and here the story is even worse.
Spain’s per capita GDP is still more than 7 percent below its peak in 2007. In fact the current level is roughly the same as in 2003, translating into 11 years of zero growth in per capita GDP. By comparison in 1940, 11 years after the onset of the Great Depression, per capita disposable income was 7 percent higher than its level in 1929.
So with its austerity agenda Spain is doing considerably worse than the United States in its recovery from the Great Depression. Apparently, this now counts at success among the honchos in the euro zone.
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Josh Barro had an interesting piece where he asked several prominent public finance economists for their assessment of the growth impact of the tax cuts put forward by Jeb Bush as part of his presidential campaign. Barro noted a wide range of opinions, with some expecting little impact and others arguing that it would have a large positive impact on growth.
One of the people in the latter category was Boston University economist Larry Kotlikoff. According to Barro:
“He thought the Bush plan, especially its provision allowing companies to fully and immediately deduct capital expenses from their taxes, would have large and swift economic effects. He said he thought the plan would grow the economy by more than 5 percent, and he thought most of those effects would be felt within the first decade, pointing to Ireland as an example of a country that experienced rapid economic growth after cutting corporate income taxes.”
It’s interesting that Kotlikoff would seize on the expensing provisions for new investment as being especially important for boosting growth. President Obama actually included expensing of capital investment as part of his stimulus package. He originally continued a limited 50 percent expensing provision that had been part of President Bush’s 2008 stimulus package. He then expanded this in 2010 to a full expensing provision for 2011 and 2012.
While equipment investment grew at a 12.2 healthy pace in these years, that is not especially impressive since it was still recovering from a drop of nearly 30 percent in 2008 and 2009. By comparison, in the years 2004–2006, equipment investment grew at an 8.6 percent annual rate. This was in the absence of any comparable tax provision and no remotely comparable recession falloff from which to recover. (In 2012, equipment investment was 4.6 percent above the pre-recession peak in 2007. By comparison, in 2006 it was 19.9 percent higher than its 2000 peak.)
It is also worth noting that a temporary credit is likely to provide more of a boost than a permanent credit. Firms have a strong incentive to move their investment plans forward to take advantage of a temporary tax credit. This incentive would not exist with a permanent credit. Therefore it is reasonable to believe that the boost to investment we saw from changing the tax provision for new investment in 2011-2012 would be larger than the boost we would receive from permanently changing the provision, as Jeb Bush has proposed.
Note: Typos and dates corrected.
Josh Barro had an interesting piece where he asked several prominent public finance economists for their assessment of the growth impact of the tax cuts put forward by Jeb Bush as part of his presidential campaign. Barro noted a wide range of opinions, with some expecting little impact and others arguing that it would have a large positive impact on growth.
One of the people in the latter category was Boston University economist Larry Kotlikoff. According to Barro:
“He thought the Bush plan, especially its provision allowing companies to fully and immediately deduct capital expenses from their taxes, would have large and swift economic effects. He said he thought the plan would grow the economy by more than 5 percent, and he thought most of those effects would be felt within the first decade, pointing to Ireland as an example of a country that experienced rapid economic growth after cutting corporate income taxes.”
It’s interesting that Kotlikoff would seize on the expensing provisions for new investment as being especially important for boosting growth. President Obama actually included expensing of capital investment as part of his stimulus package. He originally continued a limited 50 percent expensing provision that had been part of President Bush’s 2008 stimulus package. He then expanded this in 2010 to a full expensing provision for 2011 and 2012.
While equipment investment grew at a 12.2 healthy pace in these years, that is not especially impressive since it was still recovering from a drop of nearly 30 percent in 2008 and 2009. By comparison, in the years 2004–2006, equipment investment grew at an 8.6 percent annual rate. This was in the absence of any comparable tax provision and no remotely comparable recession falloff from which to recover. (In 2012, equipment investment was 4.6 percent above the pre-recession peak in 2007. By comparison, in 2006 it was 19.9 percent higher than its 2000 peak.)
It is also worth noting that a temporary credit is likely to provide more of a boost than a permanent credit. Firms have a strong incentive to move their investment plans forward to take advantage of a temporary tax credit. This incentive would not exist with a permanent credit. Therefore it is reasonable to believe that the boost to investment we saw from changing the tax provision for new investment in 2011-2012 would be larger than the boost we would receive from permanently changing the provision, as Jeb Bush has proposed.
Note: Typos and dates corrected.
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