March 02, 2010
Net Fiscal Stimulus
From the abstract to "On the ease of overstating the fiscal stimulus in the US, 2008-9", by (my sometime coauthor) Joshua Aizenman and Gurnain Kaur Pasricha:
This note shows that the aggregate fiscal expenditure stimulus in the United States, properly adjusted for the declining fiscal expenditure of the fifty states, was close to zero in 2009. While the Federal government stimulus prevented a net decline in aggregate fiscal expenditure, it did not stimulate the aggregate expenditure above its predicted mean. ...
Posted by Menzie Chinn at March 2, 2010 09:45 AMdigg this | reddit
Look at all of the dislocation inherent in substituting federal spending for state and local spending. This was the idea behind Jim Hamilton's proposal that a sensible federal stimulus package would be a federal check to state governments.
Posted by: MDueker at March 2, 2010 10:20 AM
Actually, doesn't that graph show the consolidated number increased 8%? Less than the Federal number alone, but hardly "close to zero."
Posted by: Bob_in_MA at March 2, 2010 11:54 AM
I have two problems with your presentations on the fiscal stimulus: (1) they're blindly subservient to government numbers (unnervingly, even the advance numbers seem to cause you no pause); and the information presented seems very asymmetrical.
Now, some government numbers are more reliable than others, and not all of them have been abused by previous and current political leaders as to be rendered almost worthless (certainly the GDP and CPI numbers are the most abused, for political self serving reasons, and the unemployment numbers are a close second).
Over the last couple of years we've seen tremendous revisions, such as the GDP Q3 2009 went from 3.5% down to 2.2%--a very hefty downward revision (and not to mention that the advance GDP numbers almost always comes in around consensus); and then we get the massive revisions on household wealth in the Federal Reserve's Z1 report, and so and so on.
I'm just curious: at what point do you actually begin to critically look at the data you seem to be just blindly devouring?
However, on a more maro-econ level, all of your "assessments" of the fiscal stimulus seem to imply that debt in the economy is irrelevant, or at least your presentations seem to ignore it, sometimes not even allowing for the prospect of debt mattering being an issue--not just public debt, but private as well, because ultimately, public debt becomes private debt as governments have to raise that money somehow.
So, if we look at the stimulus, the Cash for Clunkers program: is in not in the least bothering that the vehicles bought under that program were not only at full sticker price, but sometimes even higher? And the financing interest rates were high as well? These care payments now are a drag on the economy for the simple fact that the vehicle's purchased price did not adequately reflect the economic situation, and now many are probably burdened with unsustainable car payments.
Or the housing tax credit, which was nothing more than a scam involving the government--where anyone who supported such a policy at least has to have their intentions questioned. Why? Because housing prices still have a ways to go (unless of course we get hyperinflation)--and Mr. Geithner and Mr. Bernanke led many to believe that housing had reached a bottom. When many of those mortgages are underwater, or the buyers loose their jobs, I expect many defaults to come out of that program.
And then let's look at the transfer payments picked up or created by the fiscal stimulus. Those transfer payments now seem to have become structural in nature, so not how to unwind this position without causing more carnage? Don't tell me that you would seriously propose that every year the Federal government keep all those transfer payments in place?
So, my question is: do you seriously consider debt in the economy a non issue? Let's forget public debt for a moment, and I'll just ask about private debt?
Also, I'm not always certain economist really understand the implication of an effective zero interest rate policy. Luckily, Mr. Krugman has become a laughing stock in the private world, but yet this zero interest rate policy is supported by many in the academic world, or those who come from it. But those who have run a business now it's true destruction, and it's not solely inflation.
When you set interest rates effectively at zero, what you are basically saying is that loanable capital is worthless! This is an utter absurdity. Not only are the banks not lending because their balance sheets are impaired, they have a capital shortage, and lack of demand from credit worthy borrowers; but you're also saying that what capital they do have to loan is worthless. So what in effect happens, and what is happening now, is that the smaller healthier banks will NOT lend because they have a more profitable course to pursue, that is, wait for a larger bank to come and buy you out and take the lump some of money and run (with the larger banks, proprietary trading is more profitable).
Further, and this is the real damage, is that healthy businesses are driven under. Let's say I borrowed a few years back at 6% to buy my capital goods and expand my payroll, and my business is doing well enough that I can afford the 6% interest. But now another similar business comes along and does the same thing, but at 3% interest--this now gives the new business a huge competitive advantage. What in effect has happened is all my capital goods purchased at 6% interest has been devalued! of course this is what is referred to as bad money chasing out good. So now what happens is that the older, healthy business goes under, and the new business takes over; but remember, that business is going to expand and stretch itself out on interest rates at 3%. The problem is, that interest rates are set artificially low, and so this business acts as if their is loanable funds valued at 3%, that is, there is capital savings valued this low (which would mean there's a lot), and therefore there's supposedly some production behind those loanable funds.
This is important because it will ultimately determine the sustainability of the new business growing into the economy on 3% loanable funds. If that 3% mark is way off, then you're more than likely to expand right into a bust as the demand for your goods and services fall off.
The typical argument I hear from economists is that the old business can remain competitive by restructuring their loan from 6% to 3%. Of course this is an utter misunderstanding of how the world works. First, there are fees involved in restructuring loans, and those need ot be paid upfront. Second, for small business this is not an option because it makes no sense for a bank to lower the interest rates on a loan you're currently paying.
Furthermore, most small business owners usually have to use their home equity to secure the loan, or capital investments in their business, if it's established. Well, most home equity is underwater or depreciating, so that's not going to work. And in an economic downturn like this, banks are very reluctant to give loans secured by capital investments in a business because their concern is what would they be able to do with it if your weren't able to sale it.
I bring up interest rates because their kept low, or they have to be, for a fiscal stimulus to have maximum effect; but ultimately all that's being accomplished is that the fiscal stimulus props up the old decayed aspects of the previous economy (for it to be distributed, and obviously it's decayed or else it wouldn't have collapsed), while in the meantime effective zero interest rates rip the economy apart, or at least the healthy parts.
For these reasons we will continue to see unemployment rise, and economic activity to fall off, even if the media and.or consensus continue to find these results "unexpected". until the malinvestments are corrected, and the debt overhang is cleared (and not merely shifted), economic collapse will continue. However, policies that will only increase malinvestments and the debt overhand seem to be the in vogue ideology amongst economists and political leaders--and in this regards, Ms. Chinn, you seem to be in the camp of making the problem bigger, as if that is its solution.
Posted by: Brian at March 2, 2010 05:12 PM
In the micro world ,the area between the Federal and consolidated fiscal expenditures, used to be called the cash burning ratio.
Posted by: ppcm at March 2, 2010 10:20 PM
Are you always this pompous, or just when you enjoy the cover of the web?
On the assumption that we cannot assess fiscal policy without using numbers, then we are stuck using numbers. Since you have not provided an alternate set of numbers from those available through the government, you are coming very close to saying "don't analyze fiscal policy" when you chastise our host for using numbers from the only available source. I'd also note that you haven't provided a shred of evidence that fiscal data are untrustworthy. You just assume it to be so, and then get all high and mighty about those who don't accept your view as infallible.
Come back when you are ready to have an adult conversation.
Posted by: kharris at March 3, 2010 04:45 AM
Brian- Thank you for your clear and compelling arguement of why the current "work out" of the credit crisis is doomed to extend rather than ameliorate the recession. You're hitting the nail on the head with your criticism that the current policies have more to do with propping up the current incumbants than with clearing out the credit burden that is hobbling the economy. WELL DONE!
Posted by: MarkS at March 3, 2010 05:28 AM
Brian: Me thinks you are talking through your hat. What is your problem? Do you lack experience working with statistical data?
Posted by: GNP at March 3, 2010 09:57 AM
Brian: Let me first say "...is in not in the least bothering that ..." is not grammatically correct in my universe. I suspect the word you seek is "bothersome". Conjoining that to some verb-subject construct might be useful.
Third, if you are going to use an honorific in your discourse, I would appreciate "Mr.".
Posted by: Menzie Chinn at March 3, 2010 12:02 PM
There is no evidence of any political distortion of macro data, none. You had better provide a serious source for that claim if you wish to push it further. There certainly are some data that are more reliable than others and some that get revised later because the better data takes time to be gathered. Household wealth is one of those. Exports and imports data is another.
The Cash for Clunkers was not a part of the main fiscal stimulus package. It was a separate deal, now over. Most economists did not think much of it and do not defend it. Dumping on it to attack the main fiscal stimulus package is just a distracting sideshow, with no relevance at all to the problem of state budgets falling into crisis due to a combo of falling revenues due to the recession and strict balanced budget rules for current budgets (although some have avoided those by getting themselves into ungovernable knots, most notably California).
Your argument about interest rates is a total self-contradiction. If debt were "a problem," it would manifest itself in higher interest rates, which is not happening. The Fed controls short-run rates, but does not control long-run rates, which are much more set by the private capital markets. If those saw default risks rising, we would see rising long-run rates to cover the rising risk premia. We don't.
So, of course, you turn the low interest rates into their own problem, telling us a sob story about "old" businesses that borrowed at higher rates in the past and are for whatever reason unable to refi. Well, interest rates go up and down all the time, so this sort of thing goes on all the time. I suspect that for most of these companies their real problem is not an inability to refi at lower rates, although I am sure that is affecting some companies (given the length and intensity with which you addressed this issue, do you just happen to be the owner of such a business?), it is the lack of business at the final end in terms of sales and revenues that is the problem. If the economy would get going and these companies could sell more, this refi issue would not be such a big deal, and for better or worse, lower interest rates are more likely to bring that on (as well as a fiscal stimulus) than holding interest rates high so that older businesses with leftover loans do not suffer some sort of capital loss if they wish to sell their real capital stock.
Oh, and he is Professor Chinn, Ph.D.
Posted by: Barkley Rosser at March 3, 2010 12:25 PM
I've worked with the people at the BEA and the BLS for years now through 5 administrations. They are dedicated civil servants doing a tough job gathering up all the disparate information about the gigantic US economy. They do it well in my professional judgment.
Revisions are an inherent part of the task. New information comes in 30, 60, and so forth days later. So the results get revised. That is what all business executives do with new data that completes or fills in the old. Z.1 data similarly. Imagine putting a dollar value on something like all the homes in America correctly the first go 'round. Price indices, especially seasonal adjustment factors, change and hence data like this changes. Moreover there are benchmark revisions that can capture most of the universe in question rather than first estimates which are from much smaller samples.
Those of us who deal first-hand with the economy certainly do look at debt levels. In fact the more perspicacious of us look at the flows and changes in those flows too. Debt and credit is very important stuff.
Zero interest rate policy is part of what saved the global financial system from collapse. Nor was it enough. All the most-informed people in the country including the Treasury Secretary, the Federal Reserve staff, Wall Street CEOs, investors like Buffett and Soros and J. Paulson, unanimously believe that without both ZIRP and the many innovative new Fed facilities and the vast expansion of the monetary base above and beyond ZIRP that the global financial system would have collapsed, triggering a global Depression and who knows what social strife and unrest. Prescient people like Roubini and some of the top economists at the BIS who saw this coming and were vocal about it, are part of the even broader community of agreement on this. ZIRP and the other policy actions saved the global business community from potentially massive destruction. These policy changes, especially all the monetary policy changes along with the TARP, were the exact opposite of destructive, though having to be made in real time just like decisions on a battlefield, they were of course far from perfect. Read Hank Paulson's On The Brink to get further insight on what really happened and why.
Indeed, smaller banks are holding back on lending. Almost entirely because regulatory authorities are requiring more regulatory capital than is necessary in this eventful time. You can prove this to yourself by talking with a community bank CEO yourself. Or two or three if you need more proof. Believe me, they are not looking to get bought out. Those who made prudent loans and investments in the years leading up to the crisis want to see their net worth recover from the abyss it has fallen into before they ever sell out. And proportionately few would want to sell out in any case. This is what they do for a living.
You are correct about some businesses being driven under. But the healthy ones are not. It's the marginal businesses in this severe economic clime who are in jeopardy. Many of these marginal firms could get loans if regulators took a different approach, lowering capital requirements at this point in time, instead of doing the exact opposite counterproductive thing they are doing. The vast majority of community banks and credit unions ran good banks, but many are now letting assets (read loans) run off to stay on the good side of the regulatory fence. It is not these banks businesses should look to as the problem, it is the dysfunctional regulatory system both federal and state. The not-for-profit administrative mentality does not get the point I am making. And this goes all the way to the top where the buck stops. (I do not here address the credit crisis as it originally evolved, only the situation as of now.) Far more actors including the Fed were in the blind going into this crisis, but have now had their eyes opened by these tumultuous events and they now get it.
In the current economic environment, cash is king. In the lending community, the binding and operative constraint is capital condition. (Hence the pressing need for regulators in Washington to change their policies wrt healthy and especially marginally-healthy banks.) Any healthy non-financial business with a loan at 6% possibly coming due is far better off than some start-up business trying to get off the ground with borrowed capital at 3%. That new business is the one that won't get the loan, not the one already in business. The risk of funding entrepreneurs is way too high for lenders to take in this environment unless lots of high-quality collateral gets put up. And in effect that collateral is then the "cash" that is king. Indeed you are right, banks will NOT lower the rate on a performing loan per your example. But they will on a marginally-performing loan if they judge that business is a viable one and the loan modification will be what it takes to keep that firm from going under. This is the exact kind of professional judgment bank lenders make day in and day out in good times or in bad. Banks have no desire to drive their customers out of business, or be even partially responsible for doing so. The bank wants to avoid the certain loss involved in not being repaid full principal value of the earlier loan. The small 3 percentage point interest rate differential you cite is a much secondary and merely microcosmic aspect of what is going on. Are some firms going to go out of business when their loans come due? Certainly. Are new firms going to come into existence in that same line of business (again per the assumption in your argument)? Probably not so many, and those that do will have huge collateral backing. Other entrepreneurial start-ups in new and different lines of business with new business models and new technology or new products they are trying to bring to the market are a different story altogether.
Now let me put my finger squarely on the point. You are absolutely correct that some businesses are being hurt by today's low interest rate regime. But far, far more are being saved by the concomitant vast liquidity being provided to the system, by the steeply sloped yield curve inherent in ZIRP which is helping banks replenish their capital, and helping homeowners with ARMs as well as new home buyers, indeed helping all interest-sensitive sectors across the entire economy. For those hurt, it is sad. But capitalism is a profit and loss system, and businesses that do not make it through this were either (a) overextended with debt in the first place or (b) were in a marginal and declining industry such as always have had disproportionate casualties in a recession.
The main reasons we will see continuing high unemployment (it has already peaked by the way barring a weather-related number for February) are: (a) the large amount of uncertainty in the business community due to the perceived higher costs of doing business if health care reform and cap-and-trade are passed, (b) the aforementioned mistake bank regulators are making in not lowering bank capital requirements for all those who have run a prudent book of loans and investments, and (c) the dire expectational effects of the huge federal deficits projected over the coming decade including exponential growth of interest on the federal debt. The mistakes being made by Congress, this administration, and the regulators should be the focus of your attention, not the Fed's zero interest rate policy which I have tried to make clear is actually very salubrious.
I hope you get some clarity from this, and would like to commend you for the concern you evidence in your post here.
Posted by: JBH at March 3, 2010 01:56 PM
JBH- Thank you for your conciliatory tone in responding to Brian's comments. I do however, take issue with your characterization of increased bank capital requirements for small banks being excessive. Its precisely because effective reserve and capital requirements became so low, that the international banking system risked collapse. Excessive leverage and inadequate capital to cover losses is the Achilles heel of banking, as it is for every business.
Your explanations for high unemployment, (health care, cap-and-trade, bank capital requirements, and the Federal deficit), have only marginal credibility. Employment growth is almost entirely driven by growth in demand and income. Because the economy has excessive capacity (due to imprudent previous credit expansion) and stagnant or shrinking disposable income (due to high debt servicing requirements), most businesses have no reason to expand production and employment.
Take Simon Johnson's tip and ( http://www.theatlantic.com/magazine/archive/2009/05/the-quiet-coup/7364/4/ )and break up the oligarchs.
Posted by: MarkS at March 4, 2010 11:39 AM
The global banking system nearly collapsed because of the arcane but gigantic repo market through which much of the shadow banking system financed itself. Investment banks like Bear and Lehman being big players. Quote St. Louis Fed president Bullard: "Smaller banks did not cause the crisis and do not need to be re-regulated." What he could also have said but didn't is precisely my point. That for the banks that have been managed prudently, it is now time to lower capital requirements, not raise them as bank regulators are doing. The analogy -- again not at all well understood -- is saving for a rainy day and then drawing down on your savings when that day comes. Banks who still have plenty of capital (4, 5, 6% against assets) are in some cases being shut down! The regulatory system is counter-productively causing the very thing they are trying to prevent, because the officials at the top don't understand the vital point I've made. Call a few community bank CEOs and see what you learn.
Indeed employment growth is directly proportional to economic growth. You quite correctly have the horse in front of the cart on this. Hence growing the economy must be the focus. The cart of job growth will follow. I've given ways that will absolutely help the economy do just that. There are few businessmen or women in this country who would disagree with me on the actions I've stated need to be taken. (Quite the contrary for most academics and government officials.) Those businessmen who would disagree mostly fall into the camp of benefiting from the proposed changes in health care or cap-and-trade or greater government spending that would generate revenue in their specific marketplace. GE is an example of the latter regarding cap-and-trade. Excess capacity has very little to do with this. Capacity is not a cutting edge variable at this juncture. The important thing to businesses right now is cash flow; their number one problem is poor sales and many are in survival mode and would be able to survive if bank credit was more forthcoming. Regulatory bank capital is the system's main bottleneck, and since that is not part of orthodoxy most of the economics profession doesn't get it yet. Some of the best work on this is being done at the Bank for International Settlements. Pathbreaking and of Nobel quality. All of economics is going to be rewritten in this regard (as well as in other regards), a full interweaving of the financial sector with the real sector. Businesses want cryingly to expand production but aggregate demand is being stultified by poor policy out of Washington. The economy is in recovery despite have to fight these headwinds.
What to do about the big banks and shadow banks that were at the heart of the crisis with their overleveraged books is another matter. My comments here address the broader notion of what can be done to get the economy moving faster. And the essence is to remove the impediments, mostly bad policy in Washington, so that the natural forces of ordinary people and businessman wanting a better life can take over.
Posted by: JBH at March 5, 2010 03:29 PM
JBH- Thanks again for your comity in responding to my remarks of March 4. I do share your contempt of investment banking and its preditory penetration of commercial banking. However, I am not sanguine about the BLS, IMF or FRB, despite their recent research papers dissecting causes for the financial crisis. On the whole, all these institutions enabled the structural institutional changes that imperil the economy, and continue to be controlled by the same mega-banks responsible for the dysfunction.
As for the small to medium size banks, I do have pitty. However, about a third of them are in trouble precisely because they are over-extended in commercial real estate loans. Refinancing of that debt over the next four years will be extremely difficult. Hence the FDIC's heavy hand in increasing capital requirements.
As I've said many times before -ad nauseam-, prosperity resulting from the natural forces of ordinary people and businessmen wanting a better life can only occur when excessive debt burdens are removed. This "Jubilee" happens when losses are realized and debts are cleared.
Posted by: MarkS at March 6, 2010 07:15 AM