Inequality and the current crises

Mainstream economists (like Brad DeLong) can’t seem to find any connections between growing inequality and the current crises. But it’s not a problem for Federal Reserve Board Governor Sarah Bloom Raskin.

Yes, this is the same Raskin who recently decided to look beyond capitalism for a solution to the current crises. In an extension of those remarks, she set out to examine how “economic marginalization and financial vulnerability, associated with stagnant wages and rising inequality, contributed to the run-up to the financial crisis and how such marginalization and vulnerability could be relevant in the current recovery.”

Here’s her argument in a nutshell:

at the start of this recession, an unusually large number of low- and middle-income households were vulnerable to exactly the types of shocks that sparked the financial crisis. These households, which had endured 30 years of very sluggish real-wage growth, held an unusually large share of their wealth in housing, much of it financed with debt. As a result, over time, their exposure to house prices had increased dramatically. Thus, as in past recessions, suffering in the Great Recession–though widespread–was most painful and most perilous for low- and middle-income households, which were also more likely to be affected by job loss and had little wealth to fall back on.

Moreover, I am persuaded that because of how hard these lower- and middle-income households were hit, the recession was worse and the recovery has been weaker. The recovery has also been hampered by a continuation of longer-term trends that have reduced employment prospects for those at the lower end of the income distribution and produced weak wage growth.

This is a remarkable thesis, better than 99 percent of what we have heard from mainstream economists throughout this sorry spectacle (although Raskin does stumble a bit in repeating the mainstream penchant to invoke “technological change that favors those with a college education and globalization” as the causes of inequality).

And Raskin is well aware of how novel her thesis is, at least in mainstream circles:

To be clear, my approach of starting with inequality and differences across households is not a feature of most analyses of the macroeconomy, and the channels I have emphasized generally do not play key roles in most macro models. The typical macroeconomic analysis focuses on the general equilibrium behavior of “representative” households and firms, thereby abstracting from the consequences of inequality and other heterogeneity across households and instead focusing on the aggregate measures of spending determinants, including current income, wealth, interest rates, credit supply, and confidence or pessimism. In certain circumstances, this abstraction might be a reasonable simplification. For example, if the changes in the distribution of income or wealth, and the implications of those changes for the overall economy, are regular features of business cycles, then even an aggregate model without an explicit focus on distributional issues would capture those historical regularities.

However, the narrative I have emphasized places economic inequality and the differential experiences of American families, particularly the highly adverse experiences of those least well positioned to absorb their “realized shocks,” closer to the front and center of the macroeconomic adjustment process. The effects of increasing income and wealth disparities–specifically, the stagnating wages and sharp increase in household debt in the years leading up to the crisis, combined with the rapid decline in house prices and contraction in credit that followed–may have resulted in dynamics that differ from historical experience and which are therefore not well captured by aggregate models. How these factors have interacted and the implications for the aggregate economy are subject to debate, but I have laid out some possible channels through which there could be effects and that I believe represent some particularly fruitful areas for continued research.

I’m certainly not going to hold my breath—and I doubt Raskin is, either—until mainstream economists decide to actually pursue these lines of research.

Economist of the day

Daniel Alpert gets it just about right:

The Fed is engaged in “trickle-down monetary policy,” said Daniel Alpert, managing partner of Westwood Capital, an investment bank. “This type of monetary policy is making the wealthy wealthier and hoping that it trickles down to the shop floor.”

But “trickle down has never worked,” he said. “The wealthy don’t need to consume. And when there is oversupply of capacity, the wealthy don’t need to invest in new capacity.”

Economist of the day

What began as a routine report before the Senate Finance Committee Tuesday ended with [Federal Reserve chairman Ben] Bernanke passionately disavowing the entire concept of currency, and negating in an instant the very foundation of the world’s largest economy.

“Though raising interest rates is unlikely at the moment, the Fed will of course act appropriately if we…if we…” said Bernanke, who then paused for a moment, looked down at his prepared statement, and shook his head in utter disbelief. “You know what? It doesn’t matter. None of this—this so-called ‘money’—really matters at all.”

“It’s just an illusion,” a wide-eyed Bernanke added as he removed bills from his wallet and slowly spread them out before him. “Just look at it: Meaningless pieces of paper with numbers printed on them. Worthless.”

According to witnesses, Finance Committee members sat in thunderstruck silence for several moments until Sen. Orrin Hatch (R-UT) finally shouted out, “Oh my God, he’s right. It’s all a mirage. All of it—the money, our whole economy—it’s all a lie!”

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Debt, unemployment, and alternatives to capitalism

This is by far the best piece I’ve seen by Mark Thoma.

Building on a recent speech by Federal Reserve Governor Sarah Raskin, Thoma takes a clear stand against the idea that the national debt is our most important problem. We need to focus, instead, on “reversing the polarization of the labor market – the hollowing out of the middle class and the associated rise in inequality over the last thirty years or so.”

As everyone surely knows by now, the last few decades have not been kind to workers in the middle and lower parts of the income distribution. Technological change, globalization, and the decline of unions that gave workers political clout and countervailing power in negotiations over wages, benefits, and working conditions have eroded the economic opportunity and security that the post World War II era brought to working class households.

During that time it was possible, with little formal education, to get a relatively secure job offering decent pay and benefits. But those days are mostly gone, and changes in labor market conditions during the recent recession highlight the longer-term trends. Consider, for example, four facts from a recent speech by Federal Reserve Governor Sarah Raskin.

First, around two-thirds of the jobs lost during the recession were in moderate-wage occupations, but more than one-half of subsequent job gains have been in low wage jobs. As she says, recent job gains have been largely concentrated in lower-wage occupations. Second, since 2010 the average wage for new hires has actually declined. Third, about one-quarter of all workers are “low wage” (just over $23,005 per year in 2011 dollars). Finally, involuntary part-time work is increasing, and more than a quarter of the net employment gains since the end of the reces-sion involve part-time work.

But then Thoma misses what is probably the most important—and certainly most surprising—part of Raskin’s speech: her support for alternatives to capitalism.

Yes, that’s right: after acknowledging the limits to Federal Reserve policy (“while monetary policy can help, it does not address all of the challenges that low- and moderate-income workers are confronting”), Raskin looks beyond capitalism for a solution:

The Evergreen Cooperative in Cleveland, Ohio, is an example of a network of worker-owned businesses, launched in low-income neighborhoods, to support local anchor institutions. The cooperatives were initially established to provide services to local hospitals and universities that had agreed to make their purchases locally. This model is effective because it capitalizes on local production, and because it forges a local business development strategy that effectively meets many of the anchor institutions’ own needs.

It’s also effective because, in the midst of the Second Great Depression, the model of worker-owned businesses represents an alternative to the economic and social system that has failed us so badly in recent years.

Cartoon of the day

Special mention

Hiding their heads in the sand

We now know, thanks to the release of the minutes of the 7 August 2007 meeting of the Federal Open Market Committee, that those in attendance were acting like ostriches: foolishly ignoring the mounting economic problems, while hoping they would magically vanish.

Here, for example, is William Poole, president of the Federal Reserve Bank of St. Louis:

My own bet is that the financial market upset is not going to change fundamentally what’s going on in the real economy. First of all, bank capital is not impaired. So unlike in some past cases, when losses on real estate impaired bank capital and thus affected the lending in areas that had nothing to do with real estate, I don’t think that’s the case this time. Second, the fact that some LBO deals fall through isn’t going to change what those companies are producing. The fact that the ownership hasn’t changed doesn’t change the company’s profit-maximizing level of production in the short run. Obviously, that could change, but it seems to me that the best information that we now have is that this financial market upset is going to settle out and not have major repercussions on the real economy, putting the housing part aside. Thank you. (p. 57)

As it turns out, the Board of Governors of the Fed performed a similar ostrich-like move back in February 1929.* As you can see from the extracts pasted below, Adolph C. Miller was clearly aware of increased speculation in the stock market (a month before the crash in March) but he and a majority of the other members of the board chose not to make a public statement.

Apparently, the officials in charge of the Federal Reserve acted—in 2007 as in 1929—like ostriches with their heads in the sand, hoping the accumulating stresses and strains in the economy would magically vanish.

And, of course, they didn’t—leaving us in both cases on the road to a great depression.

 

*The minutes of the 2 February meeting are available as a pdf file here.

Cartoon of the day

Special mention

 

Ben “The Cookie Monster” Bernanke

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I haven’t found much insightful analysis of yesterday’s announcement by Ben Bernanke of a third round of so-called quantitative easing.*

For now, Heidi S. Moore seems to have come up with the best analogy:

A lot of people are wondering whether this third round of quantitative easing will help out the jobs situation here in the U.S., but the fact of the matter is, the Fed is really just helping the markets, because that’s all it can do — it has no power over the economy. Think of the Fed as the Cookie Monster. It’s giving the markets a sugar rush.

*John Carney does explain the three features of the new policy that mark a departure from past practices. And according to Felix Salmon, the “real innovation here is that the Fed is moving aggressively into the world of words rather than deeds.”

Politics, economics, and business cycles

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In the midst of the Second Great Depression, mainstream economists continue to heap scorn on one another concerning the relative merits of their “screw-the-unemployed” monetary-policy-has-no-effect and “hydraulic Keynesian” IS-LM-in-the-liquidity-trap models.

And they continue to ignore the “political-business-cycle” model of Michal Kalecki, which I wrote about a year ago, and which has been rediscovered by Steve Waldman.

Here is Kalecki describing with preternatural precision the so-called “Great Moderation”, and its limits:

The rate of interest or income tax [might be] reduced in a slump but not increased in the subsequent boom. In this case the boom will last longer, but it must end in a new slump: one reduction in the rate of interest or income tax does not, of course, eliminate the forces which cause cyclical fluctuations in a capitalist economy. In the new slump it will be necessary to reduce the rate of interest or income tax again and so on. Thus in the not too remote future, the rate of interest would have to be negative and income tax would have to be replaced by an income subsidy. The same would arise if it were attempted to maintain full employment by stimulating private investment: the rate of interest and income tax would have to be reduced continuously.

Dude wrote that in 1943.

What we’re watching right now is a race to the bottom, with both interest rates and income taxes, in an attempt to boost private consumption and investment. The result is that corporate profitability and income inequality continue to rise and, yet, full employment remains as elusive as ever.

*The graph shows the real (deflated) Federal Funds Rate, which is the interest rate at which banks trade with each other (usually overnight, on an uncollateralized basis) the balances they hold at the Federal Reserve. This is the rate Casey Mulligan got wrong in his initial post, and later had to correct.

Cartoon of the day

Special mention