Tag Archives: boost

Spiking Pensions in Arizona

Phoenix’s former City Manager repeatedly turned down annual raises. But the Arizona Republic reports, behind the scenes, Mr. Fairbanks was instead tacking on unused vacation and sick days, as he accepted salary hikes along the way to boost his final three years of salary to $1.3 million. As a result Mr. Fairbanks will retire with an annual pension of $246,813 a year. These actions were perfectly acceptable under the rules of Phoenix’s pension system, in contrast to the plans operated by the state government. Due to its design Phoenix’s pension plan is slated to cost the city $93.7 million this year, the equivalent of its parks budget.

Councilman Sal DiCiccio would like to see the system changed but thinks the only way it can happen is by citizen intitiative. The law prohibits the city from increasing the employee contribution, and prevented Mr. DiCiccio from stopping his own pension benefits when he left office.

Is it Possible that the President thinks Economists Agree That Spending is the Answer?

[W]ith respect to aggregate demand, I don’t know any economist — including, I think, Martin — who would argue that we are more likely to get a bump in aggregate demand from $700 billion of borrowed money going to people like those of us around this table who I suspect if we want a flat-screen TV can afford one right now and are going out and buying one.

If we were going to spend $700 billion, it seems that we’d be wiser having that $700 billion going to folks who would spend that money right away if we were going to boost aggregate demand.

That is President Obama, responding to a question from Martin Feldstein about extending the Bush tax cuts. Note, first of all, that though the president is talking about whether or not we will allow taxes on high-income Americans to rise, he easily slips into the language of spending. In his vernacular, we are “spending $700 billion” when we choose not to raise taxes by $700 billion.

More to the point, however, the quote suggests that the president is under the impression that economists unanimously believe spending increases are wiser than tax cuts. It would be a shame if the president’s advisors gave him this impression.

In 2009, the University of Chicago’s Harold Uhlig reviewed the most-recent literature on this question. By Uhlig’s count, the following studies conclude that, in terms of boosting GDP, tax cuts have a larger impact than spending increases:

Shortly after Uhilg wrote this, Alesina and Ardagna (2009) also found that stimuli based on tax cuts tend to be more effective than stimuli based on spending increases.   

Aside from the spending boost vs. tax cut debate is the question of magnitude. On this score, the Administration’s assumptions are well-outside of the range found in the most-recent studies. According to Uhlig:

With the exception of Gali [,Lopez-Salido, and Valles] (2007), the fiscal multipliers for government spending also typically seem to be considerably more modest than the [Administration assumes].

To this list, I would add Barro and Redlick (2010).

This is not to mention work such as the recent IMF study by Freedman, Kumhof, Laxton, Muir, and Mursula (2010) that finds short-run positive effects from stimuli, but medium-term deleterious effects.

It would be one thing to know about this evidence and to dismiss it. The president, however, seems not to have heard of it.

Is Boosting Teacher Pay a Legitimate Use of the Stimulus?

That is the question raised by a recent headline from Fairfax County:

“Fairfax Teachers Fight for Raises Funded by Stimulus”

Now I don’t know whether teachers in Fairfax are underpaid or overpaid. And there may very well be good reason to boost their salaries (or at least to boost those of the top performers). But it makes little sense to argue that a salary boost right now would serve the original purpose of the stimulus (which was intended to stimulate the economy, for those who are still paying attention). 

Let’s try to look at this the way a Keynesian would. As Brian Caplan explained a few months back, an important element in the Keynesian model is the notion of wage rigidity. Here, according to Keynesians, is how it works:

  1. Trouble begins when aggregate demand falls (usually because animal spirits have caused a sharp decrease in investment).
  2. As this happens, firms have less revenue with which to pay salaries. They might be able to maintain employment, however, if they could convince their employees to take a real wage cut. 
  3. The problem, however, is that nominal wages are “sticky.” Employees do not want to accept lower wages and even if they did, employers would rather fire some people than lower everyone’s wage and have a disgruntled workforce.

The Keynesian solution to this dilemma is to somehow boost aggregate demand to get people spending again. As Brian has more-recently pointed out, an alternative solution that is completely consistent with the Keynesian diagnosis of the problem would be to make sure that all prices—including wages—are as fluid as possible. If we could reduce nominal wage stickiness and get people to accept lower wages during a recession, then we could lower the unemployment rate.

Somehow in practice, however, Keynesian policy usually ends up increasing nominal wage stickiness and the Fairfax teacher story is a case in point.

Addendum: My colleague, Veronique de Rugy, weighs in at NRO, noting that the Administration changed the rules in February to permit stimulus funds to be used for such a purpose.

How Long is the Long-Run?

The arguments for fiscal stimulus are essentially short-run. Most Keynesian economists concede that fiscal stimulus is not free and that we pay for it in the long run (here is one estimate of the tradeoff between short-run gains and long-run costs; here is another). Because fiscal stimulus relies on a short-run/long-run tradeoff, many in Washington are trying very hard right now to extol the virtues of short-sightedness. We should worry about boosting the economy today, their argument goes, and worry about the economic cost of that boost at some later, unspecified, date (presumably when the laws of public choice are repealed and politicians have all become far-sighted, benevolent omniscients).

A new study, however, suggests that the long-run may not be all that long in coming:

We examine the ability of the government to increase consumption by evaluating the impact of the 2009 “Cash for Clunkers” program on short and medium run auto purchases.  Our empirical strategy exploits variation across U.S. cities in ex-ante exposure to the program as measured by the number of “clunkers” in the city as of the summer of 2008. We find that the program induced the purchase of an additional 360,000 cars in July and August of 2009.  However, almost all of the additional purchases under the program were pulled forward from the very near future; the effect of the program on auto purchases is almost completely reversed by as early as March 2010 – only seven months after the program ended.  The effect of the program on auto purchases was significantly more short-lived than previously suggested.  We also find no evidence of an effect on employment, house prices, or household default rates in cities with higher exposure to the program.

 

Can Government Put Idle Resources to Good Use?

“Big chunk of economic stimulus yet to be spent by state, local governments”

This is according to the Washington Post. They write:

The $862 billion package was divided roughly in thirds among tax cuts, aid to states and the unemployed, and investments in infrastructure, health care and other areas. The first two have delivered most of their boost, but much of the investment spending is moving far more slowly. At the end of July, nearly 18 months after the stimulus passed, more than half of the $275 billion in investments had yet to be spent.

Meanwhile, from up in Alaska, I read that that state is slated to receive a piece of the new state aid passed last week, despite the fact that it doesn’t seem to need it:

Alaska is eligible to receive $23.5 million dollars of the $10 billion total, according to the U.S. Department of Education. Alaska’s allocation comes despite a healthy revenue surplus this year that has allowed the state to actually increase school funding.

So money is not being spent that should be spent; meanwhile, other money is being spent that shouldn’t be. Stimulus defenders will say that any time a big organization spends a lot of money, mistakes are bound to be made. And they are right. But I would argue that these sorts of mistakes are far more likely when the organization in question is the government.

Remember the Keynesian story: remove idle resources from the private sector, put them to work, and the economy will grow (provided government borrowing doesn’t crowd-out valuable private investments and provided consumers don’t hold back in anticipation of future tax increases). But the whole Keynesian idea rests on the notion that governments can effectively put resources to higher-valued use than the private sector. This requires government to know what is and is not valuable; to know when and where to spend the money; and to know that – had it been borrowed by someone else in the private sector – the money wouldn’t have been put to better use. Moreover, government has to do all of this without the benefit of the signals that help the private sector allocate resources: no profits, no losses, (almost) no price mechanism.

Unemployment Insurance, Take II

In response to my post earlier this week about unemployment insurance being stimulative, Harry Moroz over at Huffington Post, makes a good point

I had cited evidence showing that—contrary to conventional Keynesian expectations—those with lower net wealth and those with lower incomes actually have lower marginal propensities to consume compared with high-wealth, high-income people.

According to Moroz, I “wholly conflated ‘the poor’ with ‘the unemployed.’ ” Fair enough. Unemployment and low income are not the same. But research by the Center for Labor Market Studies at Northeastern University shows that the correlation is extremely strong (in fact, as Veronique de Rugy has pointed out, the blogosphere has lit up lately with posts about the high unemployment rates among low-income people):

 

So: low income people are more likely to be unemployed; and according to the Sahm, Shapiro, and Slemrod study, low-income workers seem not to have high marginal propensity to consume. Putting these two facts together, I would be surprised if unemployment insurance were particularly stimulative.   

In my mind, the central argument comes down to three points:

  1. Keynesians will argue that transfer payments to the unemployed will—through the magic of the multiplier—lead to a boost in aggregate demand. I tend not to put a ton of stock in this because many estimates of the multiplier are relatively low and the latest estimates of the multiplier are even lower. Also, as I argued in my last post, I don’t see a lot of evidence to indicate that the unemployed or the poor have really high marginal propensities to consume (and probably no higher than those from whom the revenue is obtained through taxation or borrowing). The bottom line: We can quibble about which estimate is right but it seems that many proponents of stimulus are over-confident in their assessment that fiscal stimulus works. Given the ambiguities in both the theoretical and empirical research, I’d say a little humility is in order.    
  2. Even if we take the Keynesian multiplier arguments at face value, we must acknowledge that there are other forces at work. In the most basic economic model, if you tax work and subsidize non-work, then on the margin you should expect less work. And, indeed, numerous studies have found that increasing the length of potential unemployment benefit duration increases the average length of the unemployment spell. We may not like this result, but as Alan Blinder notes, we have to acknowledge what this is what the research shows. This must be weighed against the Keynesian result in #1 above. 
  3. The final point is a long-term one. Compared with other countries, the U.S. has significantly lower long-term unemployment rates. Moreover, the unemployed in the U.S. tend to remain so for shorter periods than in other countries. At the same time, U.S. unemployment insurance replaces a much smaller fraction of income and does not last as long (see charts below). Numerous studies have found this is no coincidence: the difference in European and U.S. unemployment experiences seems to be due to the relative dynamism of the U.S. labor market. Compared with Europe, we have relatively low taxes on labor, limited regulation of employment, and limited duration of unemployment benefits. I believe that if we really want to decrease the likelihood of unemployment and the length of the average person’s unemployment spell, then the best thing we can do is ensure that ours continues to be a dynamic labor market.  Ironically, extending unemployment benefits may very well make that more difficult. 

 

Harrison N.J. and the Red Bull Arena

Major League Soccer has a new stadium. The 25,000 seat Red Bull Arena opens today in Harrison, New Jersey. Home to New York’s Red Bulls,the $200 million stadium was launched 13 years ago.The project was envisioned as a way to spur redevelopment in the former manufacturing town of Harrison. The 250 acres around the arena was to be developed into 6500 housing units, with commercial and retail space. But the recession changed that. So far a hotel and a 313-unit condominium complex have been completed. More construction is slated to follow this year.

Harrison, like the rest of the nation, is facing a budget crunch and drop in revenues. Their immediate worry is how to pay back the $40 million bond it floated to buy the land for the stadium. The town’s  first payment of $3.2 million is due in December. Will it payoff? Economists generally agree public investment to spur stadium construction doesn’t stimulate economies.

Using the public purse to boost economic activity owes its origin to John Manyard Keynes. This notion has been used to justify government involvement in any number of projects, including the Olympic Games.The costs of development tend to far outweigh the potential profits.Vancouver is a recent example. The city is $1 billion in debt from bailout of Olympic Village.

For more on the economics of sports check out Playbooks and Checkbooks by economist Stefan Szymanski.

Razzle Dazzle in a Recession

New York faces one of the largest state budget shortfalls in the country, but so far legislators are not looking to TV and film tax incentives as a place to cut spending.

Business Week explains:

As television and film studios line up for a 20-percent boost in their tax credit — one of the few windfalls proposed during New York’s fiscal crisis — the return on what is now a $350 million tax credit remains out of focus.

State Comptroller Thomas DiNapoli issued a report Tuesday showing the film and TV industry, which includes production of television’s “Gossip Girl” and “Law & Order” and several films, paid a total of $3.3 billion in wages to 36,000 people in 2008, the latest data available.

[…]

The proposed increase comes as the state faces a current deficit now estimated at $2.1 billion, and a $9.2 billion gap projected in the budget due April 1.

But Matt Anderson, Paterson’s budget spokesman, said the film industry supports billions of dollars in economic activity and tens of thousands of jobs. He said the tax credit sustains long-term investments, permanent production facilities and jobs.

The trend of such subsidies from states is growing, but a Tax Foundation report explains that these tax incentives are not an answer to state budget problems or to economic growth. Unlike competition between firms, this competition between states to attract TV and film is unproductive. While billed to create jobs, such policies actually increase citizens’ tax burden and favor film and television over businesses that could be productive without subsidization.

Policymakers who support film and television tax breaks miss the unseen in these rules. Subsidizing specific industries through tax incentives distorts the states’ economies and diverts resources from their most productive uses.

Public Transit 2010: Higher Fares and Less Service

The Wall Street Journal reports higher fares and less frequent service will hit public transit systems nationwide this year. About $8.4 billion of the $787 billion stimulus  meant to boost state and local budgets and prevent transit cuts has only pushed forward tough decisions by 11 months. Chicago will furlough some transit workers. San Francisco is raising fares to close a $129 million budget gap. And New York is cutting service. Transit riders may well be frustrated in 2010, but ultimately that’s because riders aren’t customers, they are beneficiaries of a subsidized service. As Sam Staley writes at Planetizen, only one-third of transit’s revenues come from fares, the bulk comes from tax revenues and federal grants. Urban transit systems have evolved as a product of political lobbying not in response to rider needs.

The crisis in budgets has a silver lining. More cities and states may be forced to pursue fundamental reform. Leonard Gilroy writes in the Reason Foundation’s  23rd Annual Privatization Report, Chicago leased its parking meters and Dunwoody, Georgia is contracting out non-safety-related services. Given the revenue outlook for local and state governments 2010 may be the year that cities finally try and fix what ails public transit.

Municipal Bond Woes

With the recent exception of the Dubai World financial crisis, fall 2009 has been relatively kind to the stock market, which is comprised of the financial investments that generally get the most widespread media attention. The same is not true for the municipal bond market, however, whose index has fallen 5% since its September peak.

At present, Detroit looks to be the city with the most significant debt problem. Business Week reports:

A few years ago, Detroit struck a derivatives deal with UBS and other banks that allowed it to save more than $2 million a year in interest on $800 million worth of bonds. But the fine print carried a potentially devastating condition. If the city’s credit rating dropped, the banks could opt out of the deal and demand a sizable breakup fee.

[…]

The seeds of this looming disaster were sown during the credit boom, when Wall Street targeted cities big and small with risky financial products that promised to save them money or boost returns. Investment bankers sold exotic derivatives designed to help municipalities cut borrowing costs.

Last year, Jefferson County, Alabama made headlines for coming close to defaulting on its bonds but has managed to continue making payments. Now, the county has filed suit against JPMorgan for underwriting this debt, asserting that the investment bank sold the county financial instruments of little value.

The common angle in this all too common story is to come down harshly against Wall Street, which is taking heat for issuing debt with fine print attached that gives banks the right to vary their offerings depending on municipalities’ bond ratings.

Another, lesser examined take is that city, county, and state officials are taking ever-increasing risks with taxpayer money, which could either benefit or harm the people whose money they are spending. For an individual this would be an expression of a higher risk tolerance, but it is unclear whether or not the same option should be open to those in charge of the public coffers.

In the subprime mortgage crisis, banks took flack for loaning money to consumers who did not understand the fine print in the contracts that they signed. Even if we can excuse this ignorance in consumers, can we really do the same for public officials?

Rather than being angry at Wall Street for underwriting municipal debt, taxpayers should hold their politicians accountable for lacking the diligence or competency to understand the debt that they issue.