Friday, April 27, 2012

European Austerity vs. 'Growth' and the Real Problem

In the last few days, various economists and experts have been quoted declaring "Austerity in Europe has failed." For some examples of this see the following on CNBC:
Spain Downgrade Proof Austerity Not Working
Published: Friday, 27 Apr 2012

The problem with this argument is that neither "austerity" nor "stimulus" will help Europe recover until the real problem with the EU national economies can be addressed: they are anti-business, anti-innovation, and anti-growth.

You can spend all the money (stimulus) imaginable, but if national policies dissuade or punish private innovation and job creation, the stimulus cannot and will not create permanent growth. When the stimulus ends, job losses and declines will resume.

Likewise, you cannot cut (austerity) your way to prosperity if you do nothing to revitalize industry and job creation. Cutting government is good, but pointless if you aren't also encouraging business investment and lasting employment policies.

The debate over European policies is absurd because no one is talking about solving the business and innovation deficits of the EU.

According to the Wall Street Journal:
Greece ranks 100th on the World Bank's most recent rankings of "ease of doing business"—right behind Yemen.
— The Chaos of Greece: What happens to countries that choose economic decline. February 14, 2012.
As a result of anti-business policies, the employer of last (only) resort throughout much of Europe is government. This leads to a situation in which only stimulus spending, and more national debt, can create jobs. But, eventually, that money will run dry. Because these same governments have been anti-business, there will be a total economic meltdown.

Small and medium business should be the backbone of an economy. When you have decimated the "moderately wealthy" with a mix of horrible policies and anti-wealth propaganda, there's little hope for self-sustained economic growth.

Austerity, likewise, is going to be disastrous without labor reforms, for many of the same reasons stimulus will (or would) fail.

Progressives will claim austerity failed, which is why we should still pursue stimulus in the United States. The problem with that argument is that stimulus couldn't work long-term in Europe, either.

Labor reform is key to growth in Europe and the United States. Without a fluid labor market able to change and evolve, no economy can recover and sustain itself. Unfortunately, labor is likely to respond to the economic downturn with calls for more protections, more anti-business policies, and more disastrous results.

Monday, April 23, 2012

Europe Going Gray: Why Stimulus will Likely Fail

When Paul Krugman and other progressives talk about the risks of austerity in Europe, they are forgetting a basic fact: Europe and Japan are getting grayer and grayer. There are more retirees than young people, and that means lower and lower rates of productivity.

I often cite two authors willing to confront this truth: Megan McArdle and Robert Samuelson. In the April 2012 issue of The Atlantic, McArdle bluntly assesses the issue of a graying population in the Western nations. It is a problem the United States will soon experience, too.

First, a few paragraphs from the lengthy McArdle piece. You absolutely should read the entire article. (If you don't read The Atlantic, you should.)

Europe's Real Crisis
The Continent's problems are as much demographic as financial. They won't go away soon.
Italy's fertility rate has actually been inching up from its 1995 low of 1.19 children for every woman, but it is still only about 1.4—well below the number needed to replenish its population (2.1). As a result, even with some immigration, Italy's population growth has been very slow. It will soon stall, and eventually go into reverse. And then, one by one, the rest of Europe's nations will follow. Not one country on the Continent has a fertility rate high enough to replace its current population. Heavy debt and a shrinking population are a very bad combination. 
SINCE THE INVENTION of birth control and antibiotics, country after country has gone through a fairly standard shift. First, the mortality rate drops, especially among the young and the aging, and that quickly translates into a bigger workforce. Then, birthrates drop, as families realize that they no longer need to birth a basketball team to ensure that a couple members will survive to adulthood. A falling birthrate means that parents can invest more in each child; with fewer mouths to feed, more and better food can nourish each of them, and children can spend more years in school, causing worker productivity to rise from one generation to the next. As the burden of bearing and rearing children lightens, mothers can do more work outside the home, boosting both household resources and the national economy. 
In 1984, when Ronald Reagan spoke of "morning in America," he was at least demographically accurate. The youngest members of America's vast Baby Boom were in college; the oldest were on the brink of their peak earning power. America was about to reap what the economists David Bloom and David Canning have dubbed the "demographic dividend" of rising labor supply and productivity. Bloom and Canning's analysis of East Asia and Ireland attributes a substantial fraction of the recent economic booms in those places to this dividend. 
But the dividend does not last forever. Eventually, the baby bulge reaches retirement age, the labor force stops growing, and older workers start spending their savings, depleting the nation's supply of capital. The virtuous cycle turns vicious. This is what is happening right now in much of southern Europe.

Krugman and company look back to the 1940s and 50s and attribute all sorts of explanations to American prosperity. They credit employee unions, the G.I. bill, expanding social programs, and dozens of other factors, but there are some simple truths:

  • Two World Wars left Europe and other U.S. competitors hobbled for several decades. "Winning" economically doesn't mean much if you're the only real competitor in the ring. 
  • America was "young" and energetic, while Europe was already "aging" after the two wars. Baby Boomers propelled our growth as much as any other factor: youth defeats age, at least in economics.
  • "Conservative" economic policies, namely creating and saving a surplus, might have helped prepare for the aging future… but it could be too late.

I've argued that our national debt, contrary to Krugman's assertions, does matter. Why? Because we are a graying nation that must save now for an impending tidal wave of retirees and the associated expenses of an elderly population. Once we have more citizens over 60 than under 21, the fiscal tipping point is near.

Why won't stimulus work? Because that money is already promised to our aging citizens. Debt is only manageable if you believe growth is inevitable, but growth is less and less likely. Productivity gains are slowing: technology can only replace so many people and older workers are, somewhat naturally, less likely to contribute to productivity gains.

In theory, some debt and investment is reasonable. But, that assumes future growth of 3 to 6 percent. The United States, like Europe, would need dramatic growth that seems unlikely as our citizens age. Some economists even suggest we need 7 percent growth. I cannot imagine sustained economic expansion over 4 percent in the next decade.

Growth requires more workers, more youth. Other than immigration, nothing is going to spur the dramatic growth that would support deficit spending.

Allow me to offer the following metaphor:

When you are twenty, going into debt for a college degree is an investment. A 30-something entrepreneur is comfortable risking money on a new business idea. Even at 40, some debt for a new house or car might be reasonable. But what about at the age of 60 or 70? Debt doesn't make sense. You worry about living expenses and basic needs. Risk? That's not logical.

Well, the United States is approaching middle-age. The above metaphor is how nations evolve, much like individuals. When you have a young, energetic population, investing in the future makes sense, even if there are risks involved. In sunset years? Risk is to be avoided.

America's relative youth was a benefit in the 40s and 50s. Today, our graying is a liability. No matter how much we raise the retirement age or adjust benefits, there is a point at which most humans are not productive workers.

Our older citizens aren't going to let us cut the social safety net that was promised to them. Yet, with fewer young workers, who will pay these expenses? That's a serious question and one that will directly affect national growth. It is time to be honest and admit there is a structural problem in our economy that no amount of stimulus will solve.

A baby boom might help, though.

Saturday, April 21, 2012

Not Dead… Moving Again

For those wondering, we have not stopped blogging and nothing horrible has happened to either me or my wife.

We're not dead… we're moving again.

Unlike last summer, when we moved from one state to another, this time we are moving about two miles from our temporary residence to a new home in the same little Pennsylvania township.

The move will give us plenty of material for our blogs. Moving is stressful and chaotic. Moving raises economic issues, especially in this housing market. Moving means shifting our beloved books again. Most of all, it cuts into our creative "me/us" time necessary to recharging and regrouping.

There will be new blog posts. This has been a hectic few years.

Of course, we're moving right as my students have finals, my wife has to take a business trip, and a cat is having health issues. The long list of things happening in our lives merely reminds us how overwhelmed we are until the end of May or June. Beyond May we will be renovating our current house to make it a nice place for another family.

So, blogging is a bit down our list at the moment, at least until we're slightly more settled in the new house. I'll do what I can to get some thoughts posted weekly, but please be patient.

Friday, April 6, 2012

Education and the Reproduction of Privilege

As a university professor, I obviously believe in the value of higher education. However, I also remind my students that education alone is only part of the equation when you seek entry into the elite circles of our nation or any culture.

In any system, the elites end up together. The problem for the United States is that we aren't supposed to be governed exclusively by Harvard or Yale graduates. We are supposed to reject the Cambridge and Oxford model of British leadership and definitely be "better" than the supposedly merit-based system of the French.

The French system openly resists the "lower classes" by refusing to consider personal backgrounds in admissions. While I don't embrace affirmative action quotas, trying to block qualified candidates from the middle and lower classes is absurd. The Conference of Grandes Ecoles, leaders of the 23 leading French universities, continues to resist orders from Pres. Sarkozy to admit at least 30 percent of students from "humble" backgrounds — which includes having parents without college degrees.

Yet, the United States is heading in the direction of France.

The New York Times political blogs included this story in March:

The Reproduction of Privilege
Instead of serving as a springboard to social mobility as it did for the first decades after World War II, college education today is reinforcing class stratification, with a huge majority of the 24 percent of Americans aged 25 to 29 currently holding a bachelor's degree coming from families with earnings above the median income. 
Seventy-four percent of those now attending colleges that are classified as "most competitive," a group that includes schools like Harvard, Emory, Stanford and Notre Dame, come from families with earnings in the top income quartile, while only three percent come from families in the bottom quartile. 
Anthony Carnevale, director of the Georgetown University Center on Education and the Workforce and co-author of "How Increasing College Access Is Increasing Inequality, and What to Do about It," puts it succinctly: "The education system is an increasingly powerful mechanism for the intergenerational reproduction of privilege."

Three-quarters of the students at the best research and most elite colleges and universities are from the upper-class, defined as the top 25% of household incomes in this research. (The IRS and Census define the upper-income range as the top quintile, not the top quartile.)

The result of this trend is that the children of the rich are segregated into the elite universities. They meet each other, network, and go on to hire each other. We tend to socialize and work with people like ourselves, and people definitely form social bonds based on their university loyalties. Alumni of Harvard and Yale hire other alumni from Harvard and Yale.

There are some test score differences between classes, and those are increasing.

The "income achievement gap" – differences in standard test scores and grade point averages – between children from families in the top 10 percent of the income distribution and those from families in the bottom ten percent has been growing. Reardon has found that the income achievement gap between children from the highest and lowest income deciles is roughly 30 to 40 percent larger among children born in 2001 than among those born in 1976.

Is this all about test scores, though? Not exclusively. While the rich can and do seek test preparation and have other benefits when taking standardized tests, we can ask what about the middle-income and low-income students with great test scores and high grade point averages. Do grades and test scores get you through the locked gates of the elite universities?

Contrary to those who say that this is the meritocracy at work, differences in scores on standardized tests do not fully explain class disparity in educational outcomes. When high-scoring students from low-income families are compared to similarly high-scoring students from upper-income families, 80 percent of the those in the top quarter of the income distribution go on to get college degrees, compared to just 44 percent of those in the bottom quarter.

It isn't enough to be a great student with high test scores. You apparently have to be part of the "club" to pass through the gates to our elite universities. That's not a good trend, especially if you do believe in meritocracy and the promise of class mobility.

Student bodies in competitive colleges and in community colleges reflect two very different economic worlds. At the 1,044 competitive colleges, 76 percent of the freshman came from families in the upper half of the income distribution. In the nation's 1,000-plus community colleges, almost 80 percent of the students came from low-income families.

I was from a "humble" background and was able to attend two major universities, one private and one public. These institutions rely on endowments to attract and retain students from varied backgrounds. At the public research university, I obtained what was called a "Diversity of Views and Experiences" fellowship, funded by several outside foundations. The DOVE Fellowship program was essential to my attending a university and earning my doctorate.

Other students from backgrounds like mine must contemplate staggering debt. This debt is acceptable if you are in a good field, such as engineering. I would never encourage a student like me to pursue an English degree at an expensive, elite university without a full-tuition scholarship.

Fear of debt and financial responsibility to families might explain the following situation:

Source: College Board, cited in the New York Times 
There is a substantial body of evidence that the system is failing to reward students with high test scores who come from low-income families. In a 2005 report, the College Board found that among those scoring highest in math tests in 1992, just under three-quarters of students from families in the highest quartile went on to get bachelor's degrees by the year 2000. Among those from families in the bottom quartile, less than half that number, 29 percent, went on to get degrees. 
As the value of a college degree has nearly doubled, in terms of future earnings, the percentage of low income college students actually graduating by age 24 has grown by only 2.1 points, from 6.2 percent in 1970 to 8.3 percent in 2009. Among students from families in the highest income quartile, the graduation rate by age 24 has surged by 42.2 percentage points, doubling from 40.2 percent to 82.4 percent over the last four decades.

We tell our students that a college degree, any college degree, is somehow a promise of future earnings and class mobility. That's simply not borne out by the research. I read an article recently that compared graduate with the "same degrees" but from different types of institutions. A social work degree from a state university might enable you to land a job as a social worker for $40,000 or less in most states. The same degree from an elite school was several times more likely to result in hiring as a supervisor or director in a social services department, at twice the pay. That difference in starting salary expands throughout your career.

When raises are based on percentages, such as a 2.1 percent annual cost of living allowance (COLA), the person starting at twice the pay rapidly moves further away from his or her colleagues. The elite university degree sets you on a path apart from others, and not merely in terms of income.

If you do not attend a good university (and graduate) you are not going to rise as quickly in the evolving technology-based economy. Attending a second-tier (or lower) university? You are extremely unlikely to gain any significant social mobility. A college degree from For-Profit U or from We Accept U is not comparable to a degree from the top universities. It isn't even close.

The class-reinforcing trends of higher education pose an acute dilemma for the American political system. "The built-in tension between postsecondary selectivity and upward mobility is particularly acute in the United States. Americans rely on education as an economic arbiter more than do other modern nations," Carnevale wrote in "How Increasing College Access Is Increasing Inequality, and What to Do About It."
"Americans always have preferred education over the welfare state as a means for balancing the equality implicit in citizenship and the inequality implicit in markets."

It doesn't surprise me that some students from humble backgrounds are giving up, unwilling to challenge the system. I would never allow the system to defeat me, emotionally, but I do understand that is precisely what is happening. When you see few students like yourself entering the elite universities and gaining access to the elite leadership class of this nation, it is reasonable to wonder if you can beat the odds with effort alone.

The data show that a disproportionately large percentage of young adults from working-class families who, according to their test scores and grade point averages, are equipped to earn a B.A., are either not going to college, or failing to finish — relegating them to a life of stagnant or declining wages. There is a reservoir of resentment over this fate waiting to be tapped by either party.

I don't have any answers. More financial aid isn't going to change the class differences that pose larger obstacles than we care to admit. I am unlike the people I meet from the "elite" class. I don't share their interests or their passions, and that is a barrier for a student from humble roots.

As a professor, I know the best I can do is promise my students a little bit more mobility. Ideally, their children will in turn have a little bit more, too. It is a multigenerational process, unfortunately, because culture plays such an important role in the divisions I observe.

I recall some colleagues I met at a great university. They were busy talking about places they have been, the foods they enjoy, their hobbies, and so on. One professor complained about making only one trip abroad for the year. A graduate student discussed flying to New York to shop at her favorite clothing stores. Those are only two examples of their view of what constitutes "normal." It was then that I realized I wouldn't "fit in" on some campuses, good test scores or not. Maybe that is one explanation of the self-segregation effect. It was like being an anthropologist on a strange planet. With nothing to bond us together, of course those elites wouldn't seek to admit me into their club.

Our elite universities risk becoming homogenous. That's not good for our economy, our politics, or the general future of this nation.

Monday, April 2, 2012

April Fools? The Buffett Rule: Political Theatrics

For his Saturday address to the nation on March 31, the day before April Fools, Pres. Obama once again called of passage of the "Buffet Rule" guaranteeing a "minimum tax" of 30 percent on millionaires.

The problem with this? It's political theatrics and genuine foolishness if the administration hasn't considered what the Buffet Rule would actually do to the tax system. Believe it or not, if the Buffet Rule were to replace the Alternative Minimum Tax (AMT), the federal government could collect less revenue, not more! So, either this is a joke, foolishness, or blatant deception. Whichever of the three it is, the call for the Buffet Rule reveals how poorly Americans (and the media) understand our complicated and often stupid tax code.

Let us start by looking back a few months.

Buffett Rule's impact? W.H. won't say
By: Josh Boak
January 26, 2012 07:42 PM EST
From Politico:
President Barack Obama has left unanswered a major question about his Buffett Rule tax on millionaires: Just how much money would it raise? 
Administration officials are not releasing projected revenues from the much-hyped plan named after billionaire investor Warren Buffett. During the State of the Union address, Obama tied his proposal — which would tax those earning $1 million at a minimum of 30 percent — to cutting a deficit estimated to top $1.1 trillion for the fourth straight year. 
But for the moment, the White House wants to keep the attention focused on Obama's argument that it's unfair to tax Buffett's secretary at a higher rate than her boss.

How much money could the Buffet Rule raise, assuming nothing else changed?
One outside analysis by the non-partisan Tax Foundation indicates the rule would generate another $36.7 billion a year in revenue — far from enough to make a serious dent in a national debt of $15 trillion.
You would imagine $36.7 billion would be a lot of money, but it isn't. The national debt increases an average of $4 billion *per day* currently. That means that $36.7 billion is less than ten days of debt. So, the Buffet Rule would offset the debt increase for ten days out of 365 in a year. We'd still be adding $4.25 to $5 billion in debt per day after that in the 2013 budget.

If you want to really bring in serious money, you have to tax every American more, not merely the top one-half of one percent. (Technically, millionaires are in the top two-tenths of a percent. The "One Percent" starts at either $357,000 or $600,000, depending on how you calculate annual earnings versus taxable income.)

This need for extra money is why the AMT was passed in the 1960s, mainly to fund the rapid expansion of social programs while paying for a war in Vietnam. Sound familiar?

The Buffett Rule would not be the first time the government demanded the well-heeled pony up their fair share. Congress passed the Alternative Minimum Tax in 1969, after then Treasury Secretary Joseph Barr testified that 155 Americans earned more than $1.2 million in today's dollars and didn't owe the government a dime in income taxes. 
The AMT's pull weakened with each edit of the tax code. Some have jokingly called it the "Bethesda tax," since it now hits the upper middle class living places like the D.C. suburbs instead of those with extreme wealth. 
After the State of the Union, Linda M. Beale, a tax law professor at Wayne State University in Michigan, blogged about that the Buffett Rule sounded familiar. 
"Funny," she wrote, "that is what the original Alternative Minimum Tax (for individuals, and one for corporations) was supposed to achieve."

The real purpose of the Buffet Rule proposal, which is meaningless to the national budget from a statistical standpoint, is to appeal to popular anger against "the rich" — of course, this excludes the wealthy of the left, even though that is a majority of the wealthy.

Politico remind us:
In the State of the Union, Obama pitted the Buffett Rule against being forced to carve up government funding for education, medical research and the military, saying it was choice between tax cuts for the wealthiest Americans and "investments in everything else.
But, if you read my previous explanation and math closely, you realize that the Buffet Rule doesn't do anything meaningful to cut the debt, manage the annual deficit, or pay for new programs. It's less than two weeks' interest on our debt. The president is lying, to be blunt. He isn't merely getting the fact slightly wrong. He is intentionally deceiving voters.

Even worse, the Buffet Rule is almost certain to reduce federal revenues and not contribute one dime to debt reduction. Why? Because people in the million and billion range can do all sorts of things to move money around, shifting it from earned income to other forms of compensation. Trust me, a millionaire can afford tax attorneys and business consultants to reduce his or her tax liability. There is a reason Steve Jobs and some other executives accept "salaries" of $1 per year or even a salary under $150,000 but with all manner of special perquisites.

On average, someone hauling in $1 million a year might have fork over another $50,000 to Uncle Sam. That's a sizable tab for individuals but not a lot for the government, said David Logan, an economist at the Tax Foundation, a Washington, D.C. think tank. 
"It's an insignificant revenue gain," he said. "I view it more as a political tool than anything else, because it doesn't raise enough revenue to dent the deficit or the debt." 
And the prospect losing $50,000 to the government could cause the wealthiest Americans to burrow deeper into tax havens. 
"This will give huge incentives for people to hide their money or lower their incomes beneath the $1 million threshold," Logan warned.

But the administration has promised us the Buffet Rule would increase revenues, even though it would likely mean a repeal or revision of the AMT. That's simply untrue, no matter how you analyze the numbers. Repealing the AMT to pass the Buffet Rule? A fiscal mess would result.

The Wall Street Journal offered this perspective: 
A new study by the nonpartisan Tax Policy Center highlights the impossibility of literally substituting a Buffett Rule for the AMT. 
The study shows that repealing the AMT would cost the government at least $1.2 trillion in tax revenues over the coming decade, while the current legislative version of the Buffett Rule would raise only about $114 billion. And that assumes that the Bush tax cuts expire at the end of 2012, something that few people think will actually happen. (Extending the Bush tax cuts makes the cost of AMT repeal much higher.) 
In a blog post, the Tax Policy Center points out that the AMT generates so much more revenue than the millionaire tax because it "simply hits a much bigger chunk of taxpayers…96% of AMT taxpayers have incomes under $1 million, accounting for 77% of all AMT revenue."
So, is the president the fool or is he playing the public for fools? Tough question without a good answer.

Sadly, I doubt our next president will be any more honest about our fiscal situation. Prepare for many more April Fools addresses from our elected leaders.