The worldwide debate over fiscal policy and austerity was turned upside down last week by a paper co-authored by a University of Massachusetts grad student Thomas Herndon and two professors, Michael Ash and Robert Pollin (HAP). The paper uncovered serious calculation in errors in an important paper by Harvard professors Carmen Reinhart and Ken Rogoff (R&R).

The Reinhart and Rogoff paper, “Growth in a Time of Debt,” has been widely cited in policy debates in the United States and around the world as providing the basis for cutting deficits even at a time when the economy is suffering from large amounts of unemployment and interest rates are extraordinarily low. Ordinarily economists would argue that these are exactly the circumstances in which governments should undertake aggressive stimulus measures. Government spending can both boost growth and increase employment in the short-run, and also lead to long-run benefits insofar as the stimulus takes the form of investment in infrastructure, research and development, and education.

The Reinhart and Rogoff paper was used to argue against increased spending because it purports to show that high ratios of debt-to-GDP lead to large falloffs in growth. The implication of the paper is that the United States and other wealthy countries are at debt levels near a tipping point where further increments of debt can lead to decades of slow growth.

The moral of the Reinhart and Rogoff analysis is that we have no choice but to live with the pain of high unemployment and slow growth now, since the eventual cost in terms of a prolonged period of slow growth and high unemployment would be so awful. This is the sort of reasoning behind the austerity plans that are leading to double-digit unemployment across Europe and slow growth and high unemployment in the United States.

The paper by HAP was a body blow to the intellectual foundations for these policies. When corrected, the R&R analysis provides no basis for the concerns about a high debt cliff that they had been pushing for the last three and half years.

April 2013, John Schmitt and Janelle Jones

Dean Baker
Caixin Online, April 23, 2013

In February, the United Nations confirmed that a Canadian serving with the United Nations Police contingent of MINUSTAH had been accused of sexually and physically assaulting a Haitian woman. Yesterday, Marie Rosy Kesner Auguste Ducena, a lawyer with the Haitian National Human Rights Defense Network, told CBC news that, though the victim reported the assault to police, “nothing will happen... Women who will go to complain, you will see that maybe somebody will take the complaint and will say to her you will be called after. But in fact, the case will just be closed.” CBC notes that the “day after the incident, the man boarded a flight back to Canada, where he remains.”

This is but the latest in a series of sexual abuse allegations leveled against MINUSTAH personnel in Haiti. According to U.N. data, since 2007 there have been 70 allegations of sexual abuse and exploitation against MINUSTAH members, but as CBC news points out, “not one has ended up in a Haitian court.”

The lack of accountability of U.N. military and police personnel in Haiti has “undermined” the organizations reputation and its ability to carry out its mandate, according to Mark Schneider of the International Crisis Group (ICG). "The UN should ensure that in the agreement with the troop-contributing countries, that there is an understanding of what will happen if an abuse occurs — that there will be a full investigation, and that there will be appropriate action taken," Schneider added.

According to the CBC, the current case is complicated by the fact that the Canadian was serving as a UN Police agent. The CBC reports:

Soldiers can be tried in a military court, but under UN rules, civilian staff — including police officers — are immune from criminal prosecution in the country where the alleged offence occurred. Once back in Canada, they cannot be charged for a crime committed abroad.

The Bureau of Economic Analysis (BEA) will adopt a new methodology for measuring GDP this summer. The methodology will treat research and development and the creation of artistic works as forms of capital that depreciate through time rather than one-time expenditures. This will lead to an increase in measured GDP of close to 3.0 percent according to BEA's analysis.

There are three points worth making on this change. First, for you conspiracy buffs, this one has been in the works for close to two decades. The government didn't just come up with it to make President Obama look better. Go back to digging up the Real Story about the plunge in gold prices.

The second point is that the methodology for this will inevitably be very troubling. If Pfizer has a patent for a great new cancer drug we will now pick this up as an increase in the investment component of GDP. Suppose Merck develops a drug that does the exact same thing, except that it gets around Pfizer's patent. According to the new methodology this would further increase GDP.

Of course, this is a battle over rents, not actually an increase in total output. That is a problem. Expenditures for rent-seeking don't make us richer in aggregate. In fact, this is already a problem now, it's just likely to be more of a problem in the future. Consider the situation where a software developer makes their great new software available for free. Our friends over at BEA won't show any gain to GDP even though our living standards will certainly be improved by much more than if they had patented the software and charged for it.

The renewed interest in breaking up too-big-to-fail (TBTF) banks may remind people about the extraordinary influence that banks and financial institutions hold over our economy. The financial industry has experienced substantial growth over the last few decades. The financial sector’s share of corporate output (gross value added less Fed profits[1]) has grown rather steadily from 5.7 percent in 1960 to 14.1 percent in 2006 (see Graph 1).  Yet, the financial sector’s share of total corporate profits (net operating surplus less Fed profits) soared from slight losses to 22 percent (corresponds to an increase of $142 billion in 2006) in the same timeframe. This increase in finance’s share of profits far exceeded its gain in the share of corporate production. In the years leading up to the financial collapse (2001-2006), the financial industry enjoyed profits that were hugely disproportionate to their share of output. The disparity between the share of profits and production peaked in 2003 at a difference of 8.3 percentage points. The financial sector’s share of total corporate business profits has been very erratic over the last few decades with a general upward trend, contrasting to a more gradual increase for its share of output. It is important to remember that the high pay and bonuses of top executives and traders, which can run into the millions or tens of millions a year, do not count as profits.

Graph 1
(Click for a larger version)

The growth in the size of the financial industry provides an interesting juxtaposition to the growing inequality over the last few decades. Between 1970 and 2006, the bottom 40 percent of households’ share of aggregate income fell by almost 3 percentage points while the shares of the top 20 percent and 5 percent rose 7 and 6 percentage points, respectively. Many of the highest incomes were earned in the financial sector. (The pay of top executives and traders are counted as wages rather than profits in the National Income Accounts.)

When toxic assets threatened the operations of those prominent banks and financial institutions, bailout funds provided them liquidity. The total amount lent at below market interest rates was well over $10 trillion; although most of the loans were relatively short-term. These subsidized loans enabled the financial sector to return to its pre-recession profit levels by 2009. In contrast, American households are still recovering from income shocks, unemployment stints and wealth shocks.

Mark WeisbrotThe Guardian Unlimited, April 22, 2013En Español

Mark WeisbrotFolha de São Paulo (Brazil), 20 de abril, 2013En Inglés | En Portugués

Mark WeisbrotFolha de São Paulo (Brazil), 20 de abril, 2013Em inglês | Em espanhol

Mark WeisbrotFolha de São Paulo (Brazil), April 20, 2013Em Português | En Español

Dean Baker
Truthout, April 22, 2013

That is quite literally what he told us in his column. His second paragraph tells readers:

"Among economists, there is no consensus on policies. Is “austerity” (government spending cuts and tax increases) self-defeating or the unavoidable response to high budget deficits and debt? Can central banks such as the Federal Reserve or the European Central Bank engineer recovery by holding short-term interest rates near zero and by buying massive amounts of bonds (so-called “quantitative easing”)? Or will these policies foster financial speculation, instability and inflation? The public is confused, because economists are divided."

See, we don't know what to do, so we just can't do anything. All those suckers who are unemployed or seeing stagnant wages, well we just don't know. And the fact that those on the top are getting rich with 60-year high shares of national income, well what can we do about that? It's just too confusing.

While Samuelson may be very confused by economics, those who understood their intro econ have little difficulty explaining the current situation. The housing bubble was driving the economy prior to its collapse. The collapse eliminated more than $600 billion in demand from residential construction and more than $500 billion in demand from consumption. There was also demand lost from a collapse of a smaller bubble in non-residential construction and from state and local government cutbacks forced by a loss of tax revenue. This is not complicated and it was predicted.

The NYT appears to be following the pattern of journalism practiced by the Washington Post in openly editorializing in its news section. Today the news section features a diatribe against the Danish welfare state that is headlined, "Danes Rethink a Welfare State Ample to a Fault." There's not much ambiguity in that one. The piece then proceeds to present a state of statistics that are grossly misleading and excluding other data points that are highly relevant.

The first paragraphs describe the generosity of the welfare state, then we get this ominous warning in the 5th paragraph:

"But Denmark’s long-term outlook is troubling. The population is aging, and in many regions of the country people without jobs now outnumber those with them."

Oooooh, scary! Yeah people are living longer in Denmark, that's something that's been happening for a couple of hundred years or so. Like every other wealthy country, people live longer in Denmark than in the United States. While they are projected to continue to see gains in life expectancy and further aging of the population, the increase is actually going to much slower than in the United States.

The NYT has difficulty finding pundits who can write knowledgeably about economics. Thomas Friedman made this point in his Sunday column. At one point he quotes Gary Green, the president of Forsyth Technical Community College, in Winston-Salem, N.C.:

"'We have a labor surplus in this country and a labor shortage at the same time,' Green explained to me. Workers in North Carolina, particularly in textiles and furniture, who lost jobs either to outsourcing or the recession in 2008, often 'do not have the skills required to get a new job today' in the biotech, health care and manufacturing centers that are opening in the state.

"If before, he added, 'you just needed a high school shop class or a short postsecondary certificate to work in a factory, now you need an associate degree in machining,' a two-year program that requires higher math, I.T. and systems skills. In addition, some employers are now demanding that you not only have an associate degree but that nationally recognized skill certifications be incorporated into the curriculum to show that you have mastered the skills they want, like computer-integrated machining."

Actually there are simple ways to identify labor shortages. First and foremost we should be seeing rapidly rising wages. If employers cannot get the workers they need then they raise the wages they offer to pull workers away from other employers. This is how markets work. (We should also see longer workweeks and increased vacancies.)

In fact there is no major sector of the economy where wages are rising rapidly. This shows rather conclusively that workers do not have skill shortages although it may be the case that many managers are so ignorant of markets that they don't know that the way to attract better workers is to raise wages. Of course that would suggest the need to better train managers, not workers.