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.

Richard Reeves and

While that is true, the point is that ending the deduction means that rich people in blue states now face much higher tax rates. This gives them more incentive to not live in blue states. To get an idea of the money involved, California has a top tax bracket of 13.0 percent. If someone had an income of $2.2 million a year, they would be paying around $200,000 a year in state taxes. (The top rate applies on income above $1.2 million.) The loss of the deduction would mean that their federal tax bill is now $74,000 a year higher than it had been previously. (They would be in the 37 percent bracket.)

The research on tax-induced mobility is mixed, but that is in part because it would be a hard effect to measure. There are plenty of reasons that people would want to live in a place like California or New York, rather than Arkansas, even if the tax rate is much higher. The issue is, given the benefits of living in California or New York relative to Arkansas, how many people would move if they now had to pay a considerably higher tax rate.

And, keep in mind, no one thinks this happens all at once. New York doesn’t raise its taxes in May and all the rich people move to Florida in June. This would be a process that takes place over time, leaving fewer rich people to tax in New York.

If you are inclined to trivialize this impact, think about differences in housing costs. An additional tax payment of $74,000 a year would be roughly equivalent to a 4 percent mortgage on a home selling for $1,850,000. If a rich person were looking at two roughly identical homes and one cost $1,850,000 more than the other, do we think they would be more likely to choose the cheaper one?

Being an old-fashioned economist, I am inclined to think they would opt for the cheaper one. And, since I don’t think that taxes are a unique cost that rich people for some reason don’t care about, it seems very plausible to me that the higher effective tax rate without the federal deduction will cause more rich people to move out of state, meaning they will have less money to pay for education, infrastructure, and social services.

On this last point, Reeves and Pulliam add a line that belongs on the Comedy Channel, not a NYT column:

“But if the goal is for the federal government to provide additional support to state and local governments, far better to do so directly, rather than by the roundabout route of offering a tax break to the rich.”

I suppose that it is hard to learn about what is going on in Congress at the Brookings Institution, but everyone outside of this esteemed center of learning knows that ain’t going to happen.

Richard Reeves and

While that is true, the point is that ending the deduction means that rich people in blue states now face much higher tax rates. This gives them more incentive to not live in blue states. To get an idea of the money involved, California has a top tax bracket of 13.0 percent. If someone had an income of $2.2 million a year, they would be paying around $200,000 a year in state taxes. (The top rate applies on income above $1.2 million.) The loss of the deduction would mean that their federal tax bill is now $74,000 a year higher than it had been previously. (They would be in the 37 percent bracket.)

The research on tax-induced mobility is mixed, but that is in part because it would be a hard effect to measure. There are plenty of reasons that people would want to live in a place like California or New York, rather than Arkansas, even if the tax rate is much higher. The issue is, given the benefits of living in California or New York relative to Arkansas, how many people would move if they now had to pay a considerably higher tax rate.

And, keep in mind, no one thinks this happens all at once. New York doesn’t raise its taxes in May and all the rich people move to Florida in June. This would be a process that takes place over time, leaving fewer rich people to tax in New York.

If you are inclined to trivialize this impact, think about differences in housing costs. An additional tax payment of $74,000 a year would be roughly equivalent to a 4 percent mortgage on a home selling for $1,850,000. If a rich person were looking at two roughly identical homes and one cost $1,850,000 more than the other, do we think they would be more likely to choose the cheaper one?

Being an old-fashioned economist, I am inclined to think they would opt for the cheaper one. And, since I don’t think that taxes are a unique cost that rich people for some reason don’t care about, it seems very plausible to me that the higher effective tax rate without the federal deduction will cause more rich people to move out of state, meaning they will have less money to pay for education, infrastructure, and social services.

On this last point, Reeves and Pulliam add a line that belongs on the Comedy Channel, not a NYT column:

“But if the goal is for the federal government to provide additional support to state and local governments, far better to do so directly, rather than by the roundabout route of offering a tax break to the rich.”

I suppose that it is hard to learn about what is going on in Congress at the Brookings Institution, but everyone outside of this esteemed center of learning knows that ain’t going to happen.

On the days when he is not celebrating his friendship and trade deals with China’s president Xi Jinping, Donald Trump has sought to hype China as the United States’ major enemy in the world. This has meant not only absurd allegations about the pandemic (top Trump economic adviser Peter Navarro has claimed that China deliberately sent infected people to the U.S. to spread the virus and damage the U.S. economy), but also sanctions, tariffs, and hints of military confrontations. While much of this silliness will go away if Donald Trump is defeated, the idea that the United States is involved in an intense global rivalry with China has gained serious credence among elite types. This is both wrong and dangerous.

First, just to clear the deck of some obvious points, China is not a democracy and it does not respect human rights. Critics of the government face serious risks of persecution and imprisonment. It has engaged in large-scale abuses against minority populations in Tibet and the Uygur population in Xinjiang. It also is reversing commitments it made to respect the autonomy of Hong Kong.

Saying that we should not be engaging in a Cold War with China does not imply approval of these actions. It is simply a recognition of two facts.

First, many of the people who are most vigorous in touting abuses in China seem just fine with serious abuses in U.S. allies. Saudi Arabia, a close U.S. ally, tolerates no open dissent and has an explicit policy of treating women as second-class citizens. It recently had a U.S. resident suffocated and torn to pieces in its Turkish embassy. The U.S. government gave open support to a coup in Bolivia and raised no objection to the repression that followed, most of which was directed against its indigenous population.

There is no shortage of places around the world where the United States has tolerated or even actively supported human rights abuses. It is simply not plausible that Donald Trump or most other politicians are genuinely concerned about human rights when they make complaints against China. They are pursuing an agenda of hostility against China for other reasons.

The other point is that it is not clear how those who push this agenda hope that their hostile actions will improve the human rights situation in China. If we assume, for the moment, that the human rights critics don’t intend to go to war to overthrow China’s current government, and then install a regime that will respect human rights, we should ask how we think a stance of growing hostility to China will improve the prospects for the people who we hope to help?

China is not some small country that is dependent on the economic and political support of the United States. It has almost 1.4 billion people. It also has an economy that is larger than ours. As a result of its extraordinary growth over the last four decades, its economy is almost one third larger than the U.S. economy.

While we can impose tariffs, investment bans, and other measures, the impact on China’s economy will be limited. In fact, the Trump tariffs have had relatively little impact on China to date, as almost all of their cost has been borne by people in the United States. (The link shows that the prices that China gets for the goods it sells to the United States have barely changed over the last year. If China was paying for tariff, the price of the goods they sell would fall by almost the amount of the tariff.) 

It is worth noting that it is possible that we could have done more to influence China’s political system back in 2000, when we made the decision to admit the country into the WTO. At that time, China’s economy was a bit more than one-third the size of the U.S. economy. However, back then the political leadership in the United States, including President Bill Clinton and most leading Republicans in Congress, was adamantly opposed to demanding any conditions on human or labor rights in exchange for China’s admission to the WTO.

Ironically, many of these same people are now pushing the line about needing to take a stand against China. Oh well, no one expects politicians or leading intellectual figures to be consistent.

 

The New Cold Warriors

There are many different groups that we are likely to see pushing the New Cold War against China. At the top of the list are the people who stand most directly to benefit from an arms race: the people who sell arms. The military contractors, their lobbyists, and the intellectuals they support in think tanks and universities can be expected to push the need to have ever greater levels of military spending to protect against China.

Some have already talked about spending China’s economy into the ground, as we ostensibly did in the first Cold War with the Soviet Union. There is a simple problem with this plan, apart from its enormous potential human and environmental costs. While the Soviet economy was roughly half the size of the U.S. economy at the peak of its power, the Chinese economy will be close to twice the size of the U.S. economy by the end of the decade. Spending China into the ground might be a rather difficult task.

There are also the Henry Kissinger wannabes. These are the people who want the United States to be the world’s big superpower so that they can play grand chess games with other countries around the world. Many of the people deciding U.S. foreign policy fit this bill.

But beyond those who directly benefit from a hostile rivalry with China, there are also many less obvious economic interests who will be cheering on the battle. At the top of this list are the people who benefit from stronger protections for “our” intellectual property that China is ostensibly trying to steal.

It is important to step back from the standard reporting on this issue to understand what is going on here. Unlike property in land or buildings, intellectual property is not inherently exclusive. While two people can’t sit in the same spot at the same time, an infinite number of people can listen to the same song, see the same movie, and use the same software at the same time. The ability to exclude people is created by the government as a way to allow creative workers and innovators to profit from their work.

While patent and copyright monopolies are one way to finance innovation and creative work, they are not the only way, and there are good reasons for thinking they are not the best way. I have written extensively on alternative mechanisms (see Rigged chapter 5 [it’s free] and here). Patent and copyright monopolies create enormous distortions in the market, they are equivalent to tariffs of many thousand percent. They are a recipe for dishonesty and corruption, such as drug companies lying about the addictiveness of the new generation of opioids.

Patents and copyrights also lead to an enormous amount of upward redistribution. People like Bill Gates can get incredibly rich from the patents and copyrights that the government gives them on software. We will spend over $500 billion this year on prescription drugs that would almost certainly cost us less than $100 billion. The difference of $400 billion is more than five times the annual food stamp budget.

When economists and other policy types say that technology is causing inequality, they actually mean that government-granted patents and copyrights are causing inequality. The people who are getting rich off various new technologies are doing so because the government designed the system so that they will get rich. We could design it differently. A different design can mean much less money going to the beneficiaries of patent and copyright monopolies and much more going to the rest of us.

As China’s economy surges past the U.S. economy, with many of its key sectors equal to, or even superior to, their U.S. counterparts, it would be a great time to redesign mechanisms for innovation. We can design systems that are based on open research and sharing of results rather than secreting off innovations to ensure that a small clique has large benefits. This would be a huge benefit to the vast majority of people in the United States, China, and the rest of the world. But the beneficiaries of the current system don’t want to see their incomes threatened. They prefer to have the rest of us fight for them, under the illusion that “our” intellectual property is at stake.

The development of a coronavirus vaccine provides a great example of the problem. If we approached the issue with the idea of helping people, both in the United States and the rest of the world, we would be making all findings fully public as quickly as possible. We would have any successful vaccines available to all as generics, as soon as they are developed. This means that any manufacturer anywhere in the world could produce as much as their facilities will allow, without paying a penny to the innovators. This would allow for the development of a vaccine as quickly as possible and for its quick distribution throughout the world. (It would still be necessary to have some assistance for the poorest countries, for whom the cost of even a generic vaccine would be a substantial burden.)

Of course, we do have to pay the innovators for their work and that is exactly what we are doing. Except we are both doing it upfront, with direct payments, and then doing it again at the back end with patent monopolies. Moderna will walk away with close to a billion government dollars in upfront payments for its efforts, even if it never produces a usable vaccine. It stands to make even more by taking advantage of its patent monopoly on the vaccine. Several of its top executives have already made tens of millions of dollars selling stock that has become hugely more valuable as a result of taxpayers’ largesse.

While the U.S. government pursued the profit-maximizing path for Moderna, it looks like it is coming at the expense of the health, and possibly lives, of hundreds of thousands of people in the United States. At the moment, it seems that China is ahead of the United States in the development process. This could mean that we will have access to a vaccine perhaps a month or two later, or even more, because we chose the path of competitive patent monopoly rather than cooperation.

If our infection rate remains at 40,000 a day and our death rate at 1,000 a day, a two-month delay means almost a quarter-million additional infection and more than 60,000 additional deaths. That’s a high price to pay for furthering the patent system. (People die in poor countries all the time because of patent monopolies, but it is unusual to see this sort of toll in the United States.)

If we had gone the alternative route, we would have had to try to enlist China’s government in a commitment to open-source research. We would also want other wealthy countries, like France and Germany, to share in the cost. Obviously, there would be issues that would be fought over in negotiations, but it is hard to believe that the U.S. government could not push through some sort of deal.

After all, this would benefit everyone. Also, in the face of the pandemic, no deal has to be perfect. We just need to establish some general principles. If the U.S. spent $200 million too much or too little, who cares? We almost certainly gave more money than that to well-connected companies in the pandemic bailouts.

It is also worth briefly ridiculing the idea that the U.S. lacks power in this sort of negotiation. We get other countries to go along with Donald Trump’s temper tantrums all the time, like his sanctions against Iran after he pulled out of the nuclear pact. Surely, we could get buy in from other countries on something that will actually benefit them.

This discussion of the development of a coronavirus vaccine is a bit of digression, but it should make the point that the people of the United States do not in general have an interest in pressing China or anyone else to respect the patent and copyright monopolies of U.S. corporations. We have an interest in negotiating the sharing of research costs and this may be done in a way that is far less costly to our economy and far less generous to the top one percent, or ten percent, than is currently the case.

 

Other Issues in Trade

 

If we recognize that the yelping over China not respecting patent and copyright monopolies is largely the concern of the wealthy, and not the typical person, there are still other trade issues that should be on the table. China has deliberately kept down the value of its currency, in order to make its goods and services more competitive internationally. It also directly subsidizes many industries to further their advantage.

This was a huge issue before the Great Recession, it is less so today. The reason it was a huge issue before the Great Recession is that back then, manufacturing provided a large number of good-paying jobs to people with less education. This is less of an issue today because many of these jobs have been lost to imports, largely from China.

We lost more than 3.5 million manufacturing jobs, more than 20 percent of the total, between December of 1999 and December of 2007, the start of the Great Recession. We lost another 2 million in the Great Recession. While roughly half of these Great Recession losses had come back before the pandemic hit, the jobs that came back paid much less than the jobs we lost. In 1999, the average hourly wage of a production worker in manufacturing was about 2 percent higher than for the private sector as a whole, by 2019 it was about 6.0 percent lower.

Higher benefits for manufacturing workers likely mean that total compensation is still higher but the gap in pay is not large. A new hire in an auto parts factory may be doing no better than a new hire in an Amazon fulfillment center.

This is largely attributable to the loss of union jobs in manufacturing. Even as we have added more than 1 million manufacturing jobs since 2010, the number of union members in the industry has fallen by almost 120,000, more than 8 percent. As a result, the jobs that we have been adding, for the most part, have not been good jobs.

The reason for this digression is to make the point that it does not matter as much as it used to that China is effectively subsidizing its exports. We no longer have many good-paying jobs at risk. We still should be pressing China not to prop up the dollar against its currency, and not to provide subsidies to favored industries, but the stakes for U.S. workers are far less than they were fifteen or twenty years ago.

 

The U.S. -China Confrontation: A Battle for Elites, not Ordinary People

To sum up, most of us have little at stake in the outcome of the big battle of the super-powers, except that it is taking place. It would be great if the human rights situation in China improved, but there is little reason to believe that many of the politicians complaining about abuses really care, or have any serious plan to bring them to an end.

The vast majority of workers have no stake in the battle to protect U.S. patents and copyrights. In fact, these policies are major factors in the increase in inequality over the last four decades. We certainly have an interest in agreements under which China, the U.S., and other countries share in the cost of open-source research, but our politicians and the interest groups they represent are not looking at all in this direction.

Finally, the labor market would be better off if China did not subsidize its exports with an under-valued currency and other mechanisms, but this matters much less today than it did two decades ago. Most of the good-paying jobs in manufacturing have been lost and there is little reason to believe they will come back in the absence of major structural changes, most importantly, higher unionization rates.

The U.S.-China confrontation is a game for the elites. The rest of us would be best served by sitting this one out.

On the days when he is not celebrating his friendship and trade deals with China’s president Xi Jinping, Donald Trump has sought to hype China as the United States’ major enemy in the world. This has meant not only absurd allegations about the pandemic (top Trump economic adviser Peter Navarro has claimed that China deliberately sent infected people to the U.S. to spread the virus and damage the U.S. economy), but also sanctions, tariffs, and hints of military confrontations. While much of this silliness will go away if Donald Trump is defeated, the idea that the United States is involved in an intense global rivalry with China has gained serious credence among elite types. This is both wrong and dangerous.

First, just to clear the deck of some obvious points, China is not a democracy and it does not respect human rights. Critics of the government face serious risks of persecution and imprisonment. It has engaged in large-scale abuses against minority populations in Tibet and the Uygur population in Xinjiang. It also is reversing commitments it made to respect the autonomy of Hong Kong.

Saying that we should not be engaging in a Cold War with China does not imply approval of these actions. It is simply a recognition of two facts.

First, many of the people who are most vigorous in touting abuses in China seem just fine with serious abuses in U.S. allies. Saudi Arabia, a close U.S. ally, tolerates no open dissent and has an explicit policy of treating women as second-class citizens. It recently had a U.S. resident suffocated and torn to pieces in its Turkish embassy. The U.S. government gave open support to a coup in Bolivia and raised no objection to the repression that followed, most of which was directed against its indigenous population.

There is no shortage of places around the world where the United States has tolerated or even actively supported human rights abuses. It is simply not plausible that Donald Trump or most other politicians are genuinely concerned about human rights when they make complaints against China. They are pursuing an agenda of hostility against China for other reasons.

The other point is that it is not clear how those who push this agenda hope that their hostile actions will improve the human rights situation in China. If we assume, for the moment, that the human rights critics don’t intend to go to war to overthrow China’s current government, and then install a regime that will respect human rights, we should ask how we think a stance of growing hostility to China will improve the prospects for the people who we hope to help?

China is not some small country that is dependent on the economic and political support of the United States. It has almost 1.4 billion people. It also has an economy that is larger than ours. As a result of its extraordinary growth over the last four decades, its economy is almost one third larger than the U.S. economy.

While we can impose tariffs, investment bans, and other measures, the impact on China’s economy will be limited. In fact, the Trump tariffs have had relatively little impact on China to date, as almost all of their cost has been borne by people in the United States. (The link shows that the prices that China gets for the goods it sells to the United States have barely changed over the last year. If China was paying for tariff, the price of the goods they sell would fall by almost the amount of the tariff.) 

It is worth noting that it is possible that we could have done more to influence China’s political system back in 2000, when we made the decision to admit the country into the WTO. At that time, China’s economy was a bit more than one-third the size of the U.S. economy. However, back then the political leadership in the United States, including President Bill Clinton and most leading Republicans in Congress, was adamantly opposed to demanding any conditions on human or labor rights in exchange for China’s admission to the WTO.

Ironically, many of these same people are now pushing the line about needing to take a stand against China. Oh well, no one expects politicians or leading intellectual figures to be consistent.

 

The New Cold Warriors

There are many different groups that we are likely to see pushing the New Cold War against China. At the top of the list are the people who stand most directly to benefit from an arms race: the people who sell arms. The military contractors, their lobbyists, and the intellectuals they support in think tanks and universities can be expected to push the need to have ever greater levels of military spending to protect against China.

Some have already talked about spending China’s economy into the ground, as we ostensibly did in the first Cold War with the Soviet Union. There is a simple problem with this plan, apart from its enormous potential human and environmental costs. While the Soviet economy was roughly half the size of the U.S. economy at the peak of its power, the Chinese economy will be close to twice the size of the U.S. economy by the end of the decade. Spending China into the ground might be a rather difficult task.

There are also the Henry Kissinger wannabes. These are the people who want the United States to be the world’s big superpower so that they can play grand chess games with other countries around the world. Many of the people deciding U.S. foreign policy fit this bill.

But beyond those who directly benefit from a hostile rivalry with China, there are also many less obvious economic interests who will be cheering on the battle. At the top of this list are the people who benefit from stronger protections for “our” intellectual property that China is ostensibly trying to steal.

It is important to step back from the standard reporting on this issue to understand what is going on here. Unlike property in land or buildings, intellectual property is not inherently exclusive. While two people can’t sit in the same spot at the same time, an infinite number of people can listen to the same song, see the same movie, and use the same software at the same time. The ability to exclude people is created by the government as a way to allow creative workers and innovators to profit from their work.

While patent and copyright monopolies are one way to finance innovation and creative work, they are not the only way, and there are good reasons for thinking they are not the best way. I have written extensively on alternative mechanisms (see Rigged chapter 5 [it’s free] and here). Patent and copyright monopolies create enormous distortions in the market, they are equivalent to tariffs of many thousand percent. They are a recipe for dishonesty and corruption, such as drug companies lying about the addictiveness of the new generation of opioids.

Patents and copyrights also lead to an enormous amount of upward redistribution. People like Bill Gates can get incredibly rich from the patents and copyrights that the government gives them on software. We will spend over $500 billion this year on prescription drugs that would almost certainly cost us less than $100 billion. The difference of $400 billion is more than five times the annual food stamp budget.

When economists and other policy types say that technology is causing inequality, they actually mean that government-granted patents and copyrights are causing inequality. The people who are getting rich off various new technologies are doing so because the government designed the system so that they will get rich. We could design it differently. A different design can mean much less money going to the beneficiaries of patent and copyright monopolies and much more going to the rest of us.

As China’s economy surges past the U.S. economy, with many of its key sectors equal to, or even superior to, their U.S. counterparts, it would be a great time to redesign mechanisms for innovation. We can design systems that are based on open research and sharing of results rather than secreting off innovations to ensure that a small clique has large benefits. This would be a huge benefit to the vast majority of people in the United States, China, and the rest of the world. But the beneficiaries of the current system don’t want to see their incomes threatened. They prefer to have the rest of us fight for them, under the illusion that “our” intellectual property is at stake.

The development of a coronavirus vaccine provides a great example of the problem. If we approached the issue with the idea of helping people, both in the United States and the rest of the world, we would be making all findings fully public as quickly as possible. We would have any successful vaccines available to all as generics, as soon as they are developed. This means that any manufacturer anywhere in the world could produce as much as their facilities will allow, without paying a penny to the innovators. This would allow for the development of a vaccine as quickly as possible and for its quick distribution throughout the world. (It would still be necessary to have some assistance for the poorest countries, for whom the cost of even a generic vaccine would be a substantial burden.)

Of course, we do have to pay the innovators for their work and that is exactly what we are doing. Except we are both doing it upfront, with direct payments, and then doing it again at the back end with patent monopolies. Moderna will walk away with close to a billion government dollars in upfront payments for its efforts, even if it never produces a usable vaccine. It stands to make even more by taking advantage of its patent monopoly on the vaccine. Several of its top executives have already made tens of millions of dollars selling stock that has become hugely more valuable as a result of taxpayers’ largesse.

While the U.S. government pursued the profit-maximizing path for Moderna, it looks like it is coming at the expense of the health, and possibly lives, of hundreds of thousands of people in the United States. At the moment, it seems that China is ahead of the United States in the development process. This could mean that we will have access to a vaccine perhaps a month or two later, or even more, because we chose the path of competitive patent monopoly rather than cooperation.

If our infection rate remains at 40,000 a day and our death rate at 1,000 a day, a two-month delay means almost a quarter-million additional infection and more than 60,000 additional deaths. That’s a high price to pay for furthering the patent system. (People die in poor countries all the time because of patent monopolies, but it is unusual to see this sort of toll in the United States.)

If we had gone the alternative route, we would have had to try to enlist China’s government in a commitment to open-source research. We would also want other wealthy countries, like France and Germany, to share in the cost. Obviously, there would be issues that would be fought over in negotiations, but it is hard to believe that the U.S. government could not push through some sort of deal.

After all, this would benefit everyone. Also, in the face of the pandemic, no deal has to be perfect. We just need to establish some general principles. If the U.S. spent $200 million too much or too little, who cares? We almost certainly gave more money than that to well-connected companies in the pandemic bailouts.

It is also worth briefly ridiculing the idea that the U.S. lacks power in this sort of negotiation. We get other countries to go along with Donald Trump’s temper tantrums all the time, like his sanctions against Iran after he pulled out of the nuclear pact. Surely, we could get buy in from other countries on something that will actually benefit them.

This discussion of the development of a coronavirus vaccine is a bit of digression, but it should make the point that the people of the United States do not in general have an interest in pressing China or anyone else to respect the patent and copyright monopolies of U.S. corporations. We have an interest in negotiating the sharing of research costs and this may be done in a way that is far less costly to our economy and far less generous to the top one percent, or ten percent, than is currently the case.

 

Other Issues in Trade

 

If we recognize that the yelping over China not respecting patent and copyright monopolies is largely the concern of the wealthy, and not the typical person, there are still other trade issues that should be on the table. China has deliberately kept down the value of its currency, in order to make its goods and services more competitive internationally. It also directly subsidizes many industries to further their advantage.

This was a huge issue before the Great Recession, it is less so today. The reason it was a huge issue before the Great Recession is that back then, manufacturing provided a large number of good-paying jobs to people with less education. This is less of an issue today because many of these jobs have been lost to imports, largely from China.

We lost more than 3.5 million manufacturing jobs, more than 20 percent of the total, between December of 1999 and December of 2007, the start of the Great Recession. We lost another 2 million in the Great Recession. While roughly half of these Great Recession losses had come back before the pandemic hit, the jobs that came back paid much less than the jobs we lost. In 1999, the average hourly wage of a production worker in manufacturing was about 2 percent higher than for the private sector as a whole, by 2019 it was about 6.0 percent lower.

Higher benefits for manufacturing workers likely mean that total compensation is still higher but the gap in pay is not large. A new hire in an auto parts factory may be doing no better than a new hire in an Amazon fulfillment center.

This is largely attributable to the loss of union jobs in manufacturing. Even as we have added more than 1 million manufacturing jobs since 2010, the number of union members in the industry has fallen by almost 120,000, more than 8 percent. As a result, the jobs that we have been adding, for the most part, have not been good jobs.

The reason for this digression is to make the point that it does not matter as much as it used to that China is effectively subsidizing its exports. We no longer have many good-paying jobs at risk. We still should be pressing China not to prop up the dollar against its currency, and not to provide subsidies to favored industries, but the stakes for U.S. workers are far less than they were fifteen or twenty years ago.

 

The U.S. -China Confrontation: A Battle for Elites, not Ordinary People

To sum up, most of us have little at stake in the outcome of the big battle of the super-powers, except that it is taking place. It would be great if the human rights situation in China improved, but there is little reason to believe that many of the politicians complaining about abuses really care, or have any serious plan to bring them to an end.

The vast majority of workers have no stake in the battle to protect U.S. patents and copyrights. In fact, these policies are major factors in the increase in inequality over the last four decades. We certainly have an interest in agreements under which China, the U.S., and other countries share in the cost of open-source research, but our politicians and the interest groups they represent are not looking at all in this direction.

Finally, the labor market would be better off if China did not subsidize its exports with an under-valued currency and other mechanisms, but this matters much less today than it did two decades ago. Most of the good-paying jobs in manufacturing have been lost and there is little reason to believe they will come back in the absence of major structural changes, most importantly, higher unionization rates.

The U.S.-China confrontation is a game for the elites. The rest of us would be best served by sitting this one out.

Our elites work hard to cover up for each other even if it means an almost Trumpian denial of reality. We got another taste of this effort in a New York Times piece on Joe Biden’s actions with regard to China over the years. The piece talks about the massive job loss of manufacturing jobs due to trade in China and then tells us the problem of the Great Recession was about the financial system:

“From 1999 to 2011, competition from China cost the United States more than two million factory jobs, according to academic research. In the midst of that, flaws in the U.S. financial system set off a global economic crisis. In 2008 and 2009, as Mr. Biden took the reins of the second most powerful office in the United States, the major G.M. and Chrysler plants in his state shuttered.”

In fact, the housing bubble had been driving the economy since 2002. It led a to massive construction boom, which collapsed when the bubble burst. It also led to a massive surge in consumption, as people spent based on their bubble created equity. When the bubble burst, there was nothing to replace a loss of annual demand in excess of 6.0 percent of GDP ($1.2 trillion in today’s economy). If the story was actually the financial crisis then the economy should have been close to normal by 2010 when most aspects of the financial system were operating just fine.

It is useful to policy types to perpetuate the myth that the problem was the financial crisis because finance can be complicated. We have all sorts of exotic financial instruments, many of which are not publicly recorded anywhere. Our policy elite decided that they could be forgiven for not keeping track of such a complex system.

By contrast, the housing bubble and its impact on the economy was easy to see. We saw an unprecedented run up in house prices, with no remotely corresponding increase in rents. Vacancy rates were hitting record highs. And, it was apparent from the GDP data, which is released every quarter, that this bubble was driving the economy.

It was 100 percent predictable that the bubble would burst and lead to a serious recession when it did. Unfortunately, this point is almost never made in polite circles because there is a great interest in pretending the story is complicated to excuse such an enormous policy failure.

Our elites work hard to cover up for each other even if it means an almost Trumpian denial of reality. We got another taste of this effort in a New York Times piece on Joe Biden’s actions with regard to China over the years. The piece talks about the massive job loss of manufacturing jobs due to trade in China and then tells us the problem of the Great Recession was about the financial system:

“From 1999 to 2011, competition from China cost the United States more than two million factory jobs, according to academic research. In the midst of that, flaws in the U.S. financial system set off a global economic crisis. In 2008 and 2009, as Mr. Biden took the reins of the second most powerful office in the United States, the major G.M. and Chrysler plants in his state shuttered.”

In fact, the housing bubble had been driving the economy since 2002. It led a to massive construction boom, which collapsed when the bubble burst. It also led to a massive surge in consumption, as people spent based on their bubble created equity. When the bubble burst, there was nothing to replace a loss of annual demand in excess of 6.0 percent of GDP ($1.2 trillion in today’s economy). If the story was actually the financial crisis then the economy should have been close to normal by 2010 when most aspects of the financial system were operating just fine.

It is useful to policy types to perpetuate the myth that the problem was the financial crisis because finance can be complicated. We have all sorts of exotic financial instruments, many of which are not publicly recorded anywhere. Our policy elite decided that they could be forgiven for not keeping track of such a complex system.

By contrast, the housing bubble and its impact on the economy was easy to see. We saw an unprecedented run up in house prices, with no remotely corresponding increase in rents. Vacancy rates were hitting record highs. And, it was apparent from the GDP data, which is released every quarter, that this bubble was driving the economy.

It was 100 percent predictable that the bubble would burst and lead to a serious recession when it did. Unfortunately, this point is almost never made in polite circles because there is a great interest in pretending the story is complicated to excuse such an enormous policy failure.

Washington Post reporter Heather Long has a series of useful charts comparing the economy’s performance under Presidents Obama and Trump. Most of the discussion is quite good, but one item that raised my eyebrow was in the section on deficits, where it told readers:

“Many economists say the bulge in spending after the Great Recession and pandemic recession were necessary and unavoidable, but they fault Obama and Trump for not doing more to right the federal budget during the good economic years.”

I’m sure many economists do fault Obama and Trump for not having lower deficits, but many also feel that at least Obama, was too aggressive in reducing the deficit. The problem of an excessive budget deficit is that it creates too much demand in the labor market, leading to rapidly rising wages, which then leads to spiraling inflation. Alternatively, if the Fed raises rates to prevent excessive demand, then we would see high-interest rates, which would reduce investment and net exports.

Inflation remained low in the Obama years as did interest rates. There is no evidence that the economy was suffering the harmful effects predicted from excessive budget deficits. The fact that Trump was able to substantially increase the budget deficit with his tax cuts, and still not trigger any problem with inflation, suggests that the deficits were too low under Obama, not too high.

As a result of deficits that were too small, job growth and wage growth was less than it could have been. If Obama had run larger deficits, we would have seen lower unemployment and more rapid wage growth.

There is of course an issue of what the money is used for. If we had run larger deficits to fund child care or clean energy we would have lasting economic and social benefits. By contrast, the increase in the deficits due to the Trump tax cuts, which went disproportionately to the rich, will have little lasting benefit to the economy.

It’s also worth mentioning that the pattern of wage growth is slightly different than indicated in the piece. It had been accelerating towards the end of  Obama’s term, hitting 2.7 percent at the end of 2016. It slowed slightly in 2017 and then began to accelerate again in 2018, peaking at 3.5 percent in 2019. It then began to slow again and had fallen back to 3.0 percent just before the pandemic hit.

In short, there is not much of a story of wage growth being better under Trump than under Obama. The acceleration under Obama continued, albeit unevenly, into the Trump years until it was reversed in the half year prior to the impact of the pandemic.

 

Addendum

Since inflation was lower in the last two years of the Obama administration than in the first three years of the Trump administration, real wages were actually rising more rapidly under Obama than under Trump.

Washington Post reporter Heather Long has a series of useful charts comparing the economy’s performance under Presidents Obama and Trump. Most of the discussion is quite good, but one item that raised my eyebrow was in the section on deficits, where it told readers:

“Many economists say the bulge in spending after the Great Recession and pandemic recession were necessary and unavoidable, but they fault Obama and Trump for not doing more to right the federal budget during the good economic years.”

I’m sure many economists do fault Obama and Trump for not having lower deficits, but many also feel that at least Obama, was too aggressive in reducing the deficit. The problem of an excessive budget deficit is that it creates too much demand in the labor market, leading to rapidly rising wages, which then leads to spiraling inflation. Alternatively, if the Fed raises rates to prevent excessive demand, then we would see high-interest rates, which would reduce investment and net exports.

Inflation remained low in the Obama years as did interest rates. There is no evidence that the economy was suffering the harmful effects predicted from excessive budget deficits. The fact that Trump was able to substantially increase the budget deficit with his tax cuts, and still not trigger any problem with inflation, suggests that the deficits were too low under Obama, not too high.

As a result of deficits that were too small, job growth and wage growth was less than it could have been. If Obama had run larger deficits, we would have seen lower unemployment and more rapid wage growth.

There is of course an issue of what the money is used for. If we had run larger deficits to fund child care or clean energy we would have lasting economic and social benefits. By contrast, the increase in the deficits due to the Trump tax cuts, which went disproportionately to the rich, will have little lasting benefit to the economy.

It’s also worth mentioning that the pattern of wage growth is slightly different than indicated in the piece. It had been accelerating towards the end of  Obama’s term, hitting 2.7 percent at the end of 2016. It slowed slightly in 2017 and then began to accelerate again in 2018, peaking at 3.5 percent in 2019. It then began to slow again and had fallen back to 3.0 percent just before the pandemic hit.

In short, there is not much of a story of wage growth being better under Trump than under Obama. The acceleration under Obama continued, albeit unevenly, into the Trump years until it was reversed in the half year prior to the impact of the pandemic.

 

Addendum

Since inflation was lower in the last two years of the Obama administration than in the first three years of the Trump administration, real wages were actually rising more rapidly under Obama than under Trump.

Of course that would be having open research that was freely shared. That would immediately make theft impossible, since there would be nothing to steal.

This simple and obvious point is not mentioned once in a piece describing efforts by Russia and China to gain access to vaccine research being done at U.S. universities and private companies. Since the whole world is struggling to get a vaccine as quickly as possible to bring the pandemic under control, it might have made sense to have a cooperative effort, where all research would be freely shared and any vaccines that are developed could be produced by any manufacturer with the capability to make it.

Instead, we went the route of restricting research access, which is both likely to slow down the development of effective vaccines and also lead to otherwise pointless security costs. It also is likely to mean that any vaccines that are developed will be expensive, since the producers will own patent monopolies that allow them to restrict access.

 

Of course that would be having open research that was freely shared. That would immediately make theft impossible, since there would be nothing to steal.

This simple and obvious point is not mentioned once in a piece describing efforts by Russia and China to gain access to vaccine research being done at U.S. universities and private companies. Since the whole world is struggling to get a vaccine as quickly as possible to bring the pandemic under control, it might have made sense to have a cooperative effort, where all research would be freely shared and any vaccines that are developed could be produced by any manufacturer with the capability to make it.

Instead, we went the route of restricting research access, which is both likely to slow down the development of effective vaccines and also lead to otherwise pointless security costs. It also is likely to mean that any vaccines that are developed will be expensive, since the producers will own patent monopolies that allow them to restrict access.

 

Donald Trump routinely says outlandish things and then when he is called on them, he or his staff insist he was just joking. To take some recent favorites, people may recall his “joke” about injecting people with disinfectant at a press conference a few months back. And then there was the joke about telling his aides to slow down testing so that there would be fewer reported infections with the coronavirus. Just this week, we heard Trump quite explicitly tell his supporters in North Carolina to vote by mail and then go in and try to vote in person, in other words, commit election fraud.

In these three cases, and many others, Trump and/or his staff insisted he didn’t really mean the things he said. Now we are getting the same game with Trump’s plan to end the payroll tax.

Donald Trump said quite explicitly that he wants to end the payroll tax that supports the Social Security program. He said that it would mean $5,000 in savings to a typical worker, which is roughly correct. Of course, if we had no money coming into Social Security then the program could not pay benefits, under current law.

The Biden campaign picked up on this and said that Trump wants to end the Social Security program, since his plan would quickly drain the program’s trust fund. Glenn Kessler, the Washington Post’s fact-checker gave the Biden campaign four Pinocchios, saying that Trump has always promised to protect Social Security.

While the Biden campaign may be stretching things a bit, it is not a long stretch. After all, Trump is promising workers a $5,000 a person tax cut. He is not proposing any tax increase to make up for the lost revenue. So is he planning to just increase the annual budget deficit by $1 trillion  (5 percent of GDP)? You don’t have to be a deficit hawk (certified non-hawk here) to see that as a problem.

The basic story here is that Trump is making absurd and contradictory promises. He will not be able to sustain the Social Security program if he eliminates the payroll tax without some substantial offsetting tax increase. Since he has not even hinted at what such a tax could be, it is reasonable to assume that he is not proposing one and therefore he would not be able to pay for Social Security.

Donald Trump may lack the policy understanding of other presidents or candidates, but that is not an excuse to give him special treatment. The Biden campaign is perfectly reasonable in highlighting a possible implication of a policy that Trump has explicitly advocated.

Donald Trump routinely says outlandish things and then when he is called on them, he or his staff insist he was just joking. To take some recent favorites, people may recall his “joke” about injecting people with disinfectant at a press conference a few months back. And then there was the joke about telling his aides to slow down testing so that there would be fewer reported infections with the coronavirus. Just this week, we heard Trump quite explicitly tell his supporters in North Carolina to vote by mail and then go in and try to vote in person, in other words, commit election fraud.

In these three cases, and many others, Trump and/or his staff insisted he didn’t really mean the things he said. Now we are getting the same game with Trump’s plan to end the payroll tax.

Donald Trump said quite explicitly that he wants to end the payroll tax that supports the Social Security program. He said that it would mean $5,000 in savings to a typical worker, which is roughly correct. Of course, if we had no money coming into Social Security then the program could not pay benefits, under current law.

The Biden campaign picked up on this and said that Trump wants to end the Social Security program, since his plan would quickly drain the program’s trust fund. Glenn Kessler, the Washington Post’s fact-checker gave the Biden campaign four Pinocchios, saying that Trump has always promised to protect Social Security.

While the Biden campaign may be stretching things a bit, it is not a long stretch. After all, Trump is promising workers a $5,000 a person tax cut. He is not proposing any tax increase to make up for the lost revenue. So is he planning to just increase the annual budget deficit by $1 trillion  (5 percent of GDP)? You don’t have to be a deficit hawk (certified non-hawk here) to see that as a problem.

The basic story here is that Trump is making absurd and contradictory promises. He will not be able to sustain the Social Security program if he eliminates the payroll tax without some substantial offsetting tax increase. Since he has not even hinted at what such a tax could be, it is reasonable to assume that he is not proposing one and therefore he would not be able to pay for Social Security.

Donald Trump may lack the policy understanding of other presidents or candidates, but that is not an excuse to give him special treatment. The Biden campaign is perfectly reasonable in highlighting a possible implication of a policy that Trump has explicitly advocated.

I was happy to see Michael Sandel’s piece in the NYT arguing that it is still acceptable to have negative views of less-educated people because of their lack of education. Sandel makes the lonely argument that rather than focusing on improving the lives of people without college degrees, policy debates have been centered on increasing opportunities for people to become more educated:

“We should focus less on arming people for a meritocratic race and more on making life better for those who lack a diploma but who make important contributions to our society — through the work they do, the families they raise and the communities they serve. This requires renewing the dignity of work and putting it at the center of our politics.”

This argument is very well-taken. It should also be warmly embraced by anyone concerned about racial inequality because even if our most ambitious plans for improving the plights of minority children prove successful, people of color will still disproportionately hold lower-paying jobs for decades into the future.

But there is one point where I have to take serious issue with Sandel. He refers to “A global economy that outsources jobs to low-wage countries has somehow come upon us and is here to stay.” While this is presented as a mainstream viewpoint, Sandel also seems to accept that this is something that happened, rather than something we did. 

As I argued in Rigged [it’s free] and elsewhere, it was not the natural forces of globalization and technology that made the less-educated big losers, it was how we structured these forces. We made sure that our steelworkers and autoworkers had to compete against low paid workers in the developing world, with predictable results. We largely protected our doctors and dentists from the same competition. We made our patent and copyright monopolies longer and stronger to ensure that a disproportionate share of the gains from technology went to people like Bill Gates and Mark Zuckerberg, rather than the average high school grad.

In short, Sandel is exactly right, but his case is even stronger than he presents here. Not only do the elites have contempt for the less-educated, but they actively designed policies to screw them. And, they won’t tell you that in the New York Times.

I was happy to see Michael Sandel’s piece in the NYT arguing that it is still acceptable to have negative views of less-educated people because of their lack of education. Sandel makes the lonely argument that rather than focusing on improving the lives of people without college degrees, policy debates have been centered on increasing opportunities for people to become more educated:

“We should focus less on arming people for a meritocratic race and more on making life better for those who lack a diploma but who make important contributions to our society — through the work they do, the families they raise and the communities they serve. This requires renewing the dignity of work and putting it at the center of our politics.”

This argument is very well-taken. It should also be warmly embraced by anyone concerned about racial inequality because even if our most ambitious plans for improving the plights of minority children prove successful, people of color will still disproportionately hold lower-paying jobs for decades into the future.

But there is one point where I have to take serious issue with Sandel. He refers to “A global economy that outsources jobs to low-wage countries has somehow come upon us and is here to stay.” While this is presented as a mainstream viewpoint, Sandel also seems to accept that this is something that happened, rather than something we did. 

As I argued in Rigged [it’s free] and elsewhere, it was not the natural forces of globalization and technology that made the less-educated big losers, it was how we structured these forces. We made sure that our steelworkers and autoworkers had to compete against low paid workers in the developing world, with predictable results. We largely protected our doctors and dentists from the same competition. We made our patent and copyright monopolies longer and stronger to ensure that a disproportionate share of the gains from technology went to people like Bill Gates and Mark Zuckerberg, rather than the average high school grad.

In short, Sandel is exactly right, but his case is even stronger than he presents here. Not only do the elites have contempt for the less-educated, but they actively designed policies to screw them. And, they won’t tell you that in the New York Times.

That’s a theme we have been hearing for decades. Japan is a huge embarrassment for the deficit hawks. It has a debt to GDP ratio of close to 250 percent, more than twice as high as in the United States, yet it has none of the problems that the deficit hawks tell us will come from high debt.

It currently pays 0.05 percent interest on its long-term bonds. Much of its debt carries a negative interest rate so that its debt burden is currently near zero. This means that in spite of its high debt, the country neither has interest rates nor faces a crushing debt burden.

It also does not have an inflation problem. Inflation over the last year has been 0.5 percent. The country has actually been struggling to raise its inflation rate.

Nonetheless, the NYT quotes an expert telling us that Japan cannot stay on its current course:

“‘When it comes to work style change and faster introduction of digitalization, the shock that came from corona probably made a bigger impact’ than Mr. Abe’s policies, said Takuji Okubo, the North Asia director of the Economist Corporate Network.

“With the economy in crisis, Japan’s next leader ‘needs to move in a different direction,’ he said. ‘The next prime minister will not be able to use monetary policy that much. The room for further expansion, for further easing, is very limited.'”

While Japan’s economy clearly has problems, like all economies, it is not clear what limits it presently faces. Its growth in per capita GDP and labor productivity is not very different than in the United States.

When people want to hold up Japan as a country that is suffering because of high debt, it is mostly just hand waving.  There is little evidence to support this view.

 

That’s a theme we have been hearing for decades. Japan is a huge embarrassment for the deficit hawks. It has a debt to GDP ratio of close to 250 percent, more than twice as high as in the United States, yet it has none of the problems that the deficit hawks tell us will come from high debt.

It currently pays 0.05 percent interest on its long-term bonds. Much of its debt carries a negative interest rate so that its debt burden is currently near zero. This means that in spite of its high debt, the country neither has interest rates nor faces a crushing debt burden.

It also does not have an inflation problem. Inflation over the last year has been 0.5 percent. The country has actually been struggling to raise its inflation rate.

Nonetheless, the NYT quotes an expert telling us that Japan cannot stay on its current course:

“‘When it comes to work style change and faster introduction of digitalization, the shock that came from corona probably made a bigger impact’ than Mr. Abe’s policies, said Takuji Okubo, the North Asia director of the Economist Corporate Network.

“With the economy in crisis, Japan’s next leader ‘needs to move in a different direction,’ he said. ‘The next prime minister will not be able to use monetary policy that much. The room for further expansion, for further easing, is very limited.'”

While Japan’s economy clearly has problems, like all economies, it is not clear what limits it presently faces. Its growth in per capita GDP and labor productivity is not very different than in the United States.

When people want to hold up Japan as a country that is suffering because of high debt, it is mostly just hand waving.  There is little evidence to support this view.

 

This simple and important question does not get anywhere near the attention it deserves. And, just to be clear, I don’t mean are they worth $20 million in any moral sense. I am asking a simple economics question; does the typical CEO of a major company add $20 million of value to the company that employs them or could they hire someone at, say one-tenth of this price ($2 million a year) who would do just as much for the company’s bottom line?

This matters not only because a thousand or so top executives of major corporations might be grossly overpaid. The excessive pay of CEOs has a huge impact on pay structures throughout the economy. If the CEO is getting $20 million it is likely the chief financial officer (CFO) and other top tier executives are getting in the neighborhood of $8-12 million. The third echelon may then be getting paid in the neighborhood of $2 million.

And these pay structures carry over into other sectors. It is common for university presidents to get paid in the neighborhood of $1 million a year. The same applies to the heads of major charities and foundations, including those that have combatting inequality as part of their mission.

This story would look very different if CEOs got paid 20 to 30 as much as a typical worker, as would have been the case in the 1960s or 1970s. In that case, CEOs would be getting $2-3 million a year. The CFOS and other top-level executives would presumably make $1.5 to $2 million, with the third tier likely getting high six figures. In that world, the presidents of universities and top executives of major foundations would likely earn $400 -$500 thousand a year.

More for the Top Means Less for Everyone Else

If it is not obvious, more for those at the top means less for everyone else. If their pay is not actually justified by their productivity, they are taking a larger chunk of the same pie. This means smaller slices for everyone else.

As I like to point out, if the minimum wage had kept pace with productivity growth since 1968, as it did from 1938 to 1968, it would be $24 an hour today. In that world, a full-time minimum wage worker would be earning $48,000 a year. A two minimum wage earner couple would be earning $96,000 a year.

While that may sound pretty good to many of us, it is not possible in an economy where the CEOs are getting $20 million, when they only add $2 million to the company’s bottom line, and the next in line get $8-$12 million, and university and foundation presidents pocket more than $1 million a year. This is a story where we would see excessive demand in the economy, leading to serious problems of inflation.

If we want to raise pay for the bottom in a big way, we have to drive down pay at the top. This would be a problem if we actually had to pay the CEOs $20 million to get them to perform well, from the standpoint of producing profits for the company or returns to shareholders, but the evidence is that we don’t.

Evidence of Whether CEOs Earn Their Keep

The best place to start on the evidence is the great book by Lucian Bebchuk and Jesse Fried, Pay Without Performance. While this book is now somewhat dated (it was published in 2004) it compiles much of the literature available at the time on the relationship of CEO pay to returns to shareholders. It includes many studies that show CEOs pay often bear little resemblance to what they do for shareholders. For example, the pay of oil executives skyrockets when the world price of oil rises, an event for which they presumably are not responsible. Another study found that CEOs tend to get big pay increases when they appear on the cover of a major business magazine, even though returns to shareholders generally lag the overall market.

A more recent study found that corporate boards seem to have stock option illusion. (This is a variation of the concept of “money illusion” which economists often argue is a problem for workers not recognizing the impact of inflation on their wages.) Corporate boards did not reduce the number of options issued to CEOs and top executives in the 1990s, even as the rising stock market caused their value to soar. Another study of a large number of companies over a ten-year period found a negative relationship between CEO pay and shareholder returns, implying that the high pay of CEOs and other top executives was coming at the expense of returns to shareholders.

A couple of years ago, Jessica Schieder and I did a study where we looked at the impact of the Affordable Care Act’s (ACA) limit on the deductibility of CEO pay for health insurance executives on their pay. Since the corporate tax rate at the time was 35 percent, the ACA’s cap on deductibility effectively raised the cost of CEO pay to the company by more than 50 percent. (Before the ACA, a dollar of additional CEO pay cost the company 65 cents. When it was no longer deductible, it cost the company $1.00.)

We tried every plausible specification for regressions, controlling for profit growth, revenue growth, stock appreciation, and anything else that might reasonably be expected to affect CEO pay. We could not find any evidence that the loss of the deduction had any negative impact at all. This means that each dollar of CEO pay cost the company 50 percent more, the companies were still paying CEOs just as much as before.

If we accept that CEOs are not producing returns to shareholders consistent with their $20 million paychecks, the question is why? After all, would we expect to see companies paying cashiers or dishwashers $200,000 a year when the going rate in other companies is one-tenth as much?

 

Why Is CEO Pay Out of Whack?

 

The problem is with the governance structure of the corporation. CEO pay is most immediately determined by corporate boards, who largely owe their jobs to top management. Furthermore, keeping their jobs depends almost entirely on keeping other board members happy. Board members who are nominated for re-election win well over 99 percent of the time. Since these jobs typically pay several hundred thousand dollars a year for a few hundred hours of work, board members generally want to keep their jobs.

One sure way of pissing off other board members is asking questions like, “can we get another CEO, who is just as good, for half the pay?” It is a safe bet that this sort of question is almost never asked in corporate board rooms, even though this is supposed to be precisely the question that they should be asking all the time.

In principle, the board’s primary responsibility is to ensure top management is not ripping off shareholders. In reality, their allegiance is instead overwhelmingly to top management, as detailed in Steven Clifford’s great book, the CEO Pay Machine. Clifford was the CEO at a mid-sized company who later sat on several corporate boards, so he has much first-hand experience of the process. 

In this story, the problem is that we have the CEO’s pay, and that of other top executives, being determined by a board that is loyal to them rather than shareholders. The most obvious remedy is to find a mechanism that will give more control of the CEO’s pay to shareholders, so that it can be brought back down to earth.

To be clear, I am not talking about fundamentally changing control of corporations. Many people, including Senator Elizabeth Warren, have proposed giving workers a substantial say on corporate boards. This is a reasonable proposal. Germany has had a system in place for decades that gives workers half the seats on corporate boards, with no obvious ill-effects for its economy.

But this is not the issue I am raising here. I am simply saying that shareholders should have more control over what the CEOs and other top executives get paid. My personal favorite is a modest change to the “Say on Pay” referendums that were put in place in the Dodd-Frank financial reform legislation.

Under this provision, the shareholders get to vote on the compensation package for their CEO every three years. This is a simple yes or no proposition. There is no direct consequence for the CEO, the board, or the pay package of losing a say on pay vote. It is non-binding. As it stands, more than 97 percent of pay packages are approved.

The rules for Say on Pay could be changed so that there are explicit consequences. Suppose the directors sacrificed their own pay if a CEO’s pay package was voted down. With the vast majority of pay packages being approved, most directors would likely think they have nothing to fear. However, when a few packages did get voted down, it is likely that directors would start to ask whether they could get away with paying their CEO less. This could put some serious downward pressure on CEO pay.

This may not be sufficient to get CEO pay back to earth, but it seems like a good place to start. From a political perspective, it seems hard to argue with the idea that shareholders should be able to determine what they pay their CEO and top management.

If this was successful in bringing down CEO pay, we would be in a very different world. As noted earlier, we would see pay scales at the top reduced across the board. Not only would the top echelons of the corporate hierarchy get paid less, but we would see lower pay at the top of other institutions as well.

It is sort of striking that conservative economists can get completely bent out of shape over the idea that some workers may get paid a dollar or two above the market wage, because of the minimum wage. But, few progressive economists seem especially troubled by CEOs getting paid many millions above the market wage because of a corrupt corporate governance structure. Paying a bit more attention to the market here might be a good idea.  

In response to the mass protests following the police killing of George Floyd, there has been a renewed interest in opening doors to Blacks and other disadvantaged groups so that they have more opportunities to get higher paying and higher prestige jobs. While these efforts are important, seeing the little progress we have made in the last half-century, it is hard to believe that longstanding barriers will be eliminated any time soon.

As much as we need to eliminate racism and other forms of discrimination, the consequences will be much less in a world where the university president is getting $400,000 a year and the custodian is getting $48,000 a year than the world we have today. There is certainly no excuse for rigging the market in ways that redistribute money from everyone else to those at the top. This disproportionately hurts Blacks and other victims of discrimination now, but even if we managed to somehow eradicate racism there is no reason to rig the system so that it needlessly forces so many people to live miserable lives.

 

This simple and important question does not get anywhere near the attention it deserves. And, just to be clear, I don’t mean are they worth $20 million in any moral sense. I am asking a simple economics question; does the typical CEO of a major company add $20 million of value to the company that employs them or could they hire someone at, say one-tenth of this price ($2 million a year) who would do just as much for the company’s bottom line?

This matters not only because a thousand or so top executives of major corporations might be grossly overpaid. The excessive pay of CEOs has a huge impact on pay structures throughout the economy. If the CEO is getting $20 million it is likely the chief financial officer (CFO) and other top tier executives are getting in the neighborhood of $8-12 million. The third echelon may then be getting paid in the neighborhood of $2 million.

And these pay structures carry over into other sectors. It is common for university presidents to get paid in the neighborhood of $1 million a year. The same applies to the heads of major charities and foundations, including those that have combatting inequality as part of their mission.

This story would look very different if CEOs got paid 20 to 30 as much as a typical worker, as would have been the case in the 1960s or 1970s. In that case, CEOs would be getting $2-3 million a year. The CFOS and other top-level executives would presumably make $1.5 to $2 million, with the third tier likely getting high six figures. In that world, the presidents of universities and top executives of major foundations would likely earn $400 -$500 thousand a year.

More for the Top Means Less for Everyone Else

If it is not obvious, more for those at the top means less for everyone else. If their pay is not actually justified by their productivity, they are taking a larger chunk of the same pie. This means smaller slices for everyone else.

As I like to point out, if the minimum wage had kept pace with productivity growth since 1968, as it did from 1938 to 1968, it would be $24 an hour today. In that world, a full-time minimum wage worker would be earning $48,000 a year. A two minimum wage earner couple would be earning $96,000 a year.

While that may sound pretty good to many of us, it is not possible in an economy where the CEOs are getting $20 million, when they only add $2 million to the company’s bottom line, and the next in line get $8-$12 million, and university and foundation presidents pocket more than $1 million a year. This is a story where we would see excessive demand in the economy, leading to serious problems of inflation.

If we want to raise pay for the bottom in a big way, we have to drive down pay at the top. This would be a problem if we actually had to pay the CEOs $20 million to get them to perform well, from the standpoint of producing profits for the company or returns to shareholders, but the evidence is that we don’t.

Evidence of Whether CEOs Earn Their Keep

The best place to start on the evidence is the great book by Lucian Bebchuk and Jesse Fried, Pay Without Performance. While this book is now somewhat dated (it was published in 2004) it compiles much of the literature available at the time on the relationship of CEO pay to returns to shareholders. It includes many studies that show CEOs pay often bear little resemblance to what they do for shareholders. For example, the pay of oil executives skyrockets when the world price of oil rises, an event for which they presumably are not responsible. Another study found that CEOs tend to get big pay increases when they appear on the cover of a major business magazine, even though returns to shareholders generally lag the overall market.

A more recent study found that corporate boards seem to have stock option illusion. (This is a variation of the concept of “money illusion” which economists often argue is a problem for workers not recognizing the impact of inflation on their wages.) Corporate boards did not reduce the number of options issued to CEOs and top executives in the 1990s, even as the rising stock market caused their value to soar. Another study of a large number of companies over a ten-year period found a negative relationship between CEO pay and shareholder returns, implying that the high pay of CEOs and other top executives was coming at the expense of returns to shareholders.

A couple of years ago, Jessica Schieder and I did a study where we looked at the impact of the Affordable Care Act’s (ACA) limit on the deductibility of CEO pay for health insurance executives on their pay. Since the corporate tax rate at the time was 35 percent, the ACA’s cap on deductibility effectively raised the cost of CEO pay to the company by more than 50 percent. (Before the ACA, a dollar of additional CEO pay cost the company 65 cents. When it was no longer deductible, it cost the company $1.00.)

We tried every plausible specification for regressions, controlling for profit growth, revenue growth, stock appreciation, and anything else that might reasonably be expected to affect CEO pay. We could not find any evidence that the loss of the deduction had any negative impact at all. This means that each dollar of CEO pay cost the company 50 percent more, the companies were still paying CEOs just as much as before.

If we accept that CEOs are not producing returns to shareholders consistent with their $20 million paychecks, the question is why? After all, would we expect to see companies paying cashiers or dishwashers $200,000 a year when the going rate in other companies is one-tenth as much?

 

Why Is CEO Pay Out of Whack?

 

The problem is with the governance structure of the corporation. CEO pay is most immediately determined by corporate boards, who largely owe their jobs to top management. Furthermore, keeping their jobs depends almost entirely on keeping other board members happy. Board members who are nominated for re-election win well over 99 percent of the time. Since these jobs typically pay several hundred thousand dollars a year for a few hundred hours of work, board members generally want to keep their jobs.

One sure way of pissing off other board members is asking questions like, “can we get another CEO, who is just as good, for half the pay?” It is a safe bet that this sort of question is almost never asked in corporate board rooms, even though this is supposed to be precisely the question that they should be asking all the time.

In principle, the board’s primary responsibility is to ensure top management is not ripping off shareholders. In reality, their allegiance is instead overwhelmingly to top management, as detailed in Steven Clifford’s great book, the CEO Pay Machine. Clifford was the CEO at a mid-sized company who later sat on several corporate boards, so he has much first-hand experience of the process. 

In this story, the problem is that we have the CEO’s pay, and that of other top executives, being determined by a board that is loyal to them rather than shareholders. The most obvious remedy is to find a mechanism that will give more control of the CEO’s pay to shareholders, so that it can be brought back down to earth.

To be clear, I am not talking about fundamentally changing control of corporations. Many people, including Senator Elizabeth Warren, have proposed giving workers a substantial say on corporate boards. This is a reasonable proposal. Germany has had a system in place for decades that gives workers half the seats on corporate boards, with no obvious ill-effects for its economy.

But this is not the issue I am raising here. I am simply saying that shareholders should have more control over what the CEOs and other top executives get paid. My personal favorite is a modest change to the “Say on Pay” referendums that were put in place in the Dodd-Frank financial reform legislation.

Under this provision, the shareholders get to vote on the compensation package for their CEO every three years. This is a simple yes or no proposition. There is no direct consequence for the CEO, the board, or the pay package of losing a say on pay vote. It is non-binding. As it stands, more than 97 percent of pay packages are approved.

The rules for Say on Pay could be changed so that there are explicit consequences. Suppose the directors sacrificed their own pay if a CEO’s pay package was voted down. With the vast majority of pay packages being approved, most directors would likely think they have nothing to fear. However, when a few packages did get voted down, it is likely that directors would start to ask whether they could get away with paying their CEO less. This could put some serious downward pressure on CEO pay.

This may not be sufficient to get CEO pay back to earth, but it seems like a good place to start. From a political perspective, it seems hard to argue with the idea that shareholders should be able to determine what they pay their CEO and top management.

If this was successful in bringing down CEO pay, we would be in a very different world. As noted earlier, we would see pay scales at the top reduced across the board. Not only would the top echelons of the corporate hierarchy get paid less, but we would see lower pay at the top of other institutions as well.

It is sort of striking that conservative economists can get completely bent out of shape over the idea that some workers may get paid a dollar or two above the market wage, because of the minimum wage. But, few progressive economists seem especially troubled by CEOs getting paid many millions above the market wage because of a corrupt corporate governance structure. Paying a bit more attention to the market here might be a good idea.  

In response to the mass protests following the police killing of George Floyd, there has been a renewed interest in opening doors to Blacks and other disadvantaged groups so that they have more opportunities to get higher paying and higher prestige jobs. While these efforts are important, seeing the little progress we have made in the last half-century, it is hard to believe that longstanding barriers will be eliminated any time soon.

As much as we need to eliminate racism and other forms of discrimination, the consequences will be much less in a world where the university president is getting $400,000 a year and the custodian is getting $48,000 a year than the world we have today. There is certainly no excuse for rigging the market in ways that redistribute money from everyone else to those at the top. This disproportionately hurts Blacks and other victims of discrimination now, but even if we managed to somehow eradicate racism there is no reason to rig the system so that it needlessly forces so many people to live miserable lives.

 

Yep, that’s its big story for the day, although people probably saw the number $62 million in the headline. The program spent a total of $525 billion to keep small businesses alive and workers being paid in the period where the economy was largely shutdown. It was a rushed program that was completely improvised, since nothing had ever been done like this before.

It was inevitable that there would be some fraud, since the safeguards were obviously far from perfect. In fact, we can be sure that the $62 million uncovered by the Justice Department to date is just the tip of the iceberg. However, rather than implying to readers that this figure is evidence of widespread fraud, it actually is the opposite. It is a very small amount of fraud given the size of the program and the rush to get money out the door. Even if the final tally for fraud ends up being one hundred times this amount, it would be pretty good for a huge program  that was put together from scratch.

Yep, that’s its big story for the day, although people probably saw the number $62 million in the headline. The program spent a total of $525 billion to keep small businesses alive and workers being paid in the period where the economy was largely shutdown. It was a rushed program that was completely improvised, since nothing had ever been done like this before.

It was inevitable that there would be some fraud, since the safeguards were obviously far from perfect. In fact, we can be sure that the $62 million uncovered by the Justice Department to date is just the tip of the iceberg. However, rather than implying to readers that this figure is evidence of widespread fraud, it actually is the opposite. It is a very small amount of fraud given the size of the program and the rush to get money out the door. Even if the final tally for fraud ends up being one hundred times this amount, it would be pretty good for a huge program  that was put together from scratch.

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