The Matrix: The Intersection of War, Economic Theory, and the Economy

Vincent Portillo and I are working on a new book, The Matrix: The Intersection of War, Economic Theory, and the Economy.  So far it is still remains an exploration rather than a finished research project.  We intend to post our progress from time to time, hoping to initiate some comments and conversation.

Thank you in advance.

Here is the link.

http://michaelperelman.files.wordpress.com/2012/08/matrix2.pdf

Romney-Ryan v. Obama Long-term Fiscal Policy – More Mankiw Endorsed Spin

Greg Mankiw plays for Team Romney by sending us to Keith Hennessey:

Here is your tax levels cheat sheet. • Over the past 50 years federal taxes have averaged 18% of GDP. • Governor Romney proposes taxes “between 18 and 19 percent” of GDP. • The House-passed (“Ryan”) budget proposes long-term taxes of 19% of GDP. • President Obama’s budget proposes long-term taxes at 20% of GDP.* • The Bowles-Simpson plan proposes long-term taxes at 21% of GDP. I put an asterisk after the Obama line. The Ryan and Bowles-Simpson plans would stabilize debt/GDP in the long run, while President Obama’s would not. Since President Obama has not proposed a long-term fiscal policy solution, we don’t know whether his long-term fiscal solution, if he had one, would raise taxes above 20% of GDP.

Maybe it is fair to put an asterisk after the Obama line but to claim that Paul Ryan’s “budget” would eventually stabilizes the debt/GDP ratio strikes me as a very ill informed statement. The spending path that Ryan asked CBO to simulate pretended we could reduce everything the Federal government spends outside of Social Security, Medicare, and Medicaid to less than what Mitt Romney wants to spend on defense spending along. And we have all seen lots of discussions on how both Obama and Ryan want to curb the growth of Medicare spending in ways Romney has rejected. In other words, we need magic asterisks to make Ryan’s spending path come to something that can be financed with taxes = 19% of GDP. As far as either Romney or Ryan getting taxes to be anything close to 19% of GDP requires an exercise in high order fuzzy math as they are proposing substantial tax cuts without specifying the tax offset spelled out in Bowles-Simpson. I know Chris Christie said something last night about shared sacrifices and tough choices in terms of “respect”, which to me says that Romney-Ryan is not respecting American voters. But to just flat out lie about Romney-Ryan being fiscally responsibly is the height of disrespect.

Governor Romney’s Employment Record

Team Romney is boosting that as governor of Massachusetts (January 2003 to January 2007), he lowered the state’s unemployment rate to 4.7%. He fails to put this in perspective in several ways. When he became governor, the state unemployment rate was only 5.6% as compared to the national unemployment rate, which was 5.8%. And when he was leaving office, the national unemployment rate had declined to 4.6%. In other words, he presided during a period when the overall economy was finally recovering from the 2001 recession.

Our graph shows another important qualification to Romney’s boost. The state’s labor force (LF) grew by a meager 0.4% during his tenure so employment (EM) only had to rise by 1.5% to lower the unemployment rate. Nationwide, employment growth (per the payroll survey) grew by 5.25%. In other words, there is not much to really brag about as far as employment in Massachusetts during Mitt Romney’s tenure as governor.

Sinnlos

One of the more painful spillovers from the Eurozone crisis is that, from time to time, I have to try to make sense of the writings of Hans-Werner Sinn.  Since he is the creator of a questionnaire that asks managers about their business outlook, he is regarded as an oracle by much of the German press.  Unfortunately, his writing, which is ostensibly about economics, only randomly and sporadically intersects normal economic reasoning.

He has been on a rampage for over a year regarding the Target2 system, under which national central banks in the euro area are credited and debited for transfers between them.  Because of the large surplus run up by the Bundesbank, which corresponds to deficits at the Banks of Greece, Spain and other southern realms, Sinn thinks that hardworking Germans are financing a “stealth bailout” of nearly a trillion euros.  The fact that all euros are claims against the European Central Bank, and not against individual CB’s of eurozone countries, seems lost on him.  Somehow, allowing euro transactions to clear despite capital flight from Madrid and Athens to Frankfurt or Munich constitutes a raid on German wealth (rather than the economies of the countries from which capital is fleeing).

But I digress.  In his latest screed on the topic, Sinn writes

Germany agreed to relinquish the Deutsche Mark on the condition that the new currency area would not lead to direct or indirect socialization of its members’ debt, thus precluding any financial assistance from EU funds for states facing bankruptcy. Indeed, the new currency was conceived as a unit of account for economic exchange that would not have any wealth implications at all.

Take a look at this second sentence, which I’ve bolded for emphasis.  It seems to say that, in some magical way, the euro was designed to facilitate exchange without ever serving as an asset.  A money that is not an asset.  This is coming to you from the most influential “economist” in the German-speaking world.  Am I missing some other way to assign a meaning to this sentence that is remotely compatible with elementary economics?

Glenn Hubbard and Tim Kane’s New Blog – For Team Romney

Greg Mankiw calls this competition. So why do I suspect there is more coordination to put forth the Republican view that we need less taxes? Not only did Greg post this:

Adjustments based upon spending cuts are much less costly in terms of output losses than tax-based ones. Spending-based adjustments have been associated with mild and short-lived recessions, in many cases with no recession at all. Tax-based adjustments have been associated with prolonged and deep recessions.

But Glenn’s new blog starts by touting this argument:

Our view of balanced fiscal policy is more in line with Christina Romer, the first chair of Obama’s Council of Economic Advisers. In 2010, she published a study in the American Economic Review that said, “Tax increases appear to have a very large, sustained, and highly significant negative impact on output.” Romer found that, on average, every tax increase of one percent of GDP is linked to a three percent drop in real GDP over the next 10 quarters. A tax increase is the false mother to prosperity.

Where to begin? Of course, we should note that Glenn is misrepresenting the views of Christina Romer – a foul that Brad DeLong called on Greg Mankiw earlier. Glenn Hubbard and Tim Kane also love to use the term “balance” when they describe their views on fiscal policy. Sort of like Fox News call itself “fair and balanced”. I guess as we watch the Republican convention, we should now enjoy the fact that Team Romney now has two economist blogs.

David Brooks on the Romney-Ryan Medicare Plan

Can David read Mitt Romney’s mind?

When you look at Mitt Romney through this prism, you see surprising passion. By picking Paul Ryan as his running mate, Romney has put Medicare at the center of the national debate. Possibly for the first time, he has done something politically perilous. He has made it clear that restructuring Medicare will be a high priority. This is impressive. If you believe entitlement reform is essential for national solvency, then Romney-Ryan is the only train leaving the station. Moreover, when you look at the Medicare reform package Romney and Ryan have proposed, you find yourself a little surprised. You think of them of as free-market purists, but this proposal features heavy government activism, flexibility and rampant pragmatism. The federal government would define a package of mandatory health benefits. Private insurers and an agency akin to the current public Medicare system would submit bids to provide coverage for those benefits. The government would give senior citizens a payment equal to the second lowest bid in each region to buy insurance. This system would provide a basic health safety net. It would also unleash a process of discovery. If the current Medicare structure proves most efficient, then it would dominate the market. If private insurers proved more efficient, they would dominate. Either way, we would find the best way to control Medicare costs. Either way, the burden for paying for basic health care would fall on the government, not on older Americans. (Much of the Democratic criticism on this point is based on an earlier, obsolete version of the proposal.)

Uh David – Romney has made everything Ryan has said on Medicare obsolete. The truth is that Ryan and Obama have the same basic goal of capping the growth of Medicare over the next 10 years but Romney has decided that he doesn’t want any such reductions. Which by the way makes David’s close another lie:

The priority in this election is to get a leader who can get Medicare costs under control. Then we can argue about everything else. Right now, Romney’s more likely to do this. All of which causes you to look over to the Democrats and wonder: Why don’t they have an alternative? Silently, a voice in your head is pleading with them: Put up or shut up. If Democrats can’t come up with an alternative on this most crucial issue, how can they promise to lead a dynamic growing nation?

Again David – Obamacare strives to curb Medicare spending growth over the next 10 years by as much as the Ryan proposal wanted to do AND Romney said no! Now there is a big difference in the out years as Ryan proposes an underfunded voucher system that would lead to rising total health care cost rising for seniors but with less help from the government. So to say “we would find the best way to control Medicare costs. Either way, the burden for paying for basic health care would fall on the government, not on older Americans” makes two lies in just two sentences. David Warsh writes:

Brooks is a prestidigitator, that wonderful word borrowed from the French, descended from the Latin, meaning juggler, deceiver.

Me thinks Mr. Warsh is being way too kind to Mr. Brooks.

Some Frank Talk About Carbon Taxes

Good that Robert Frank wants to put climate change back on the agenda and points to the necessity of pricing carbon.  No matter which way the political winds are blowing, this problem is too important to ignore.

Nevertheless, it doesn’t help that mainstream economists keep getting this issue wrong.  They reinforce assumptions that dealing with carbon will dramatically lower the living standards of ordinary people, and they play into the kinds of political stereotypes that have stymied progress for two decades.

The good news is that we could insulate ourselves from catastrophic risk at relatively modest cost by enacting a steep carbon tax.

Presenting the necessary policy as a carbon tax makes the job nearly impossible right from the start.  Why lead with the promise/threat to tax people?  Pricing carbon is only a means, not an end.  The logical way to begin is to call for a system of carbon permits, just like we have hunting and fishing permits so that elk and trout aren’t harvested to extinction.  Auction off the permits and you put a price on carbon, but the means-end distinction remains transparent.  For one thing, you discuss tightening or loosening a permit system in terms of how many permits you want to issue, not on cost.  Our carbon policy should be calibrated in terms of the atmospheric carbon concentration we are targeting, not on how much revenue should be collected from a carbon tax.

Aside from its political virtues, a permit system has technical advantages that I discussed in a previous post.

A carbon tax would also serve....other goals. First, it would help balance future budgets. Tens of millions of Americans are set to retire in the next decades, and, as a result, many budget experts agree that federal budgets simply can’t be balanced with spending cuts alone. We’ll also need substantial additional revenue, most of which could be generated by a carbon tax.

Using carbon revenues to reduce income taxes is a terrible idea that hammers low and middle income people.  A price on carbon functions like a consumption tax and is regressive.  Using it to offset even mildly progressive income taxes is just one more way to bring about upward redistribution.  We’ve got enough of that already.  If you return the money as an equal rebate to all citizens, you’ve got downward redistribution.  What is most interesting from my point of view is that the issue of distribution doesn’t seem to matter to Frank at all; at least he never brings it up in this op-ed piece.

Incidentally, because a carbon tax is a consumption tax imposed on a very small subset of goods (essentially fossil fuels as consumed directly and indirectly), it is highly volatile compared to revenue from a tax on all the income we receive, regardless of how we spend or don’t spend it.

High unemployment persists in part because businesses, sitting on mountains of cash, aren’t investing it because their current capacity already lets them produce more than people want to buy. News that a carbon tax was coming would create a stampede to develop energy-saving technologies. Hundreds of billions of dollars of private investment might be unleashed without adding a cent to the budget deficit.

Yes, making fossil fuels more expensive will spur new investment in energy-saving technology.  But arguing that a radical change in relative prices is economically stimulative makes as much sense as saying that a natural disaster like Hurricane Katrina is an economic blessing.  Destroy capital and there is demand for new capital, but common sense suggests that there is also a cost involved, perhaps much greater.  In the case of carbon, if large parts of the capital stock become uneconomic, the livelihoods of millions of people will be at stake.  When Bill McKibben points out that 80% of the fossil fuels now known to be recoverable under the ground has to stay there, it is clear that enormous, wrenching price adjustments are required.

Take the case of cars.  Getting to adequate carbon targets will mean not only much more efficient cars, but a lot less driving as well.  It will also mean less replacement of older cars, since as much of the carbon impact comes from production as operation.  This will be bad news for auto workers, auto-dependent communities and economies propped up by the employment and profits of the auto industry.  (Germany take note.)  Everyone knows this.  That is why there is great political resistance to taking the sort of forceful action we would need to limit global temperature increases to 2º C or so.

Pretending the problem doesn’t exist doesn’t help.  The only way to make progress politically is to recognize the issue and link action against climate change to other measures that can make the transition bearable.  Make economic commitments to workers and regions at risk.  Propose infusions of public investment sufficient to absorb those displaced by high fossil fuel prices.  Discuss these issues openly and forge alliances with unions and other organizations that represent those at risk.  Happy talk like Frank’s goes nowhere.

Economists have (or should have) expertise that helps address these issues.  The starting point is knowing that they exist.

The Romney-Ryan Energy Plan and Jed Clampett

Take a listen to this Earl Scruggs tune as we read the Romney-Ryan Energy Plan. They are promising energy independence on a platform that is essentially “drill baby drill” - as they cite some claim from the Institute for Energy Research that we have 1.4 trillion barrels of technically recoverable oil, which they claim would satisfy U.S. energy needs for the next two centuries. The Institute also notes a speech by Thomas Donohue of the Chamber of Commerce:

Our nation is on the cusp of an energy boom that is already creating hundreds of thousands of jobs, revitalizing entire communities, and reinvigorating American manufacturing. Unconventional oil and natural gas development is on pace to create more than 300,000 jobs by 2015 in Ohio, New York, Pennsylvania, and West Virginia alone. Take a look at what’s happening in North Dakota. The state is booming. Unemployment is at 3.4%. Oil production just surpassed that of Ecuador—one of the members of OPEC. Energy is a game changer for the United States. It is, as the saying goes, “the next big thing.” With the right policies, the oil and natural gas industry could create more than 1 million jobs by 2018. Not only can we create jobs, but we can cut our dependence on overseas imports while adding hundreds of billions of dollars to government coffers in the coming years.

Yep – in 8 years, we will all be like Jed Clampett loading up our trucks and moving to Beverly:

Come and listen to a story about a man named Jed / A poor mountaineer, barely kept his family fed / Then one day he was shootin at some food / And up through the ground came a bubblin crude. / Oil that is, black gold, Texas tea.

Oil bubbling up in everyone’s backyard does sound like a stretch and what the Institute is claiming differs sharply from what this Congressional Research Service report notes:

U.S. proved reserves of oil total 19.1 billion barrels, reserves of natural gas total 244.7 trillion cubic feet, and natural gas liquids reserves of 9.3 billion barrels. Undiscovered technically recoverable oil in the United States is 145.5 billion barrels, and undiscovered technically recoverable natural gas is 1,162.7 trillion cubic feet. The demonstrated reserve base for coal is 488 billion short tons, of which 261 billion short tons are considered technically recoverable.

But what does “undiscovered technically recoverable” even mean. This document puts this in perspective:

Excluding the United States, the world holds an estimated 565 billion barrels (bbo) of undiscovered, technically recoverable conventional oil; 5,606 trillion cubic feet (tcf) of undiscovered, technically recoverable conventional natural gas; and 167 billion barrels of undiscovered, technically recoverable natural gas liquids (NGL), according to a new assessment by the U.S. Geological Survey (USGS) released today ... All of these numbers represent technically recoverable oil and gas resources, which are those quantities of oil and gas producible using currently available technology and industry practices, regardless of economic or accessibility considerations. This assessment does not include reserves – accumulations of oil or gas that have been discovered, are well-defined, and are considered economically viable.

So we have 20 percent of the undiscovered, technically recoverable conventional oil reserves in the world that may not be economically viable. I’m not sure that Romney-Ryan quite grasp the figures that they are touting. The private sector would certainly have to consider the private marginal cost of discovering and extracting any such oil, which likely would seriously understate the social marginal cost of producing oil. I wonder if Romney-Ryan has forgotten about the BP Gulf Oil Spill?

Consolidation in the Health Insurance Market

Dealbook notes the acquisition of Coventry Health Care by Aetna as a trend in this sector:

Aetna’s acquisition of Coventry is the latest deal in an industry that has been spurred to consolidation in part because of the Obama administration’s sweeping expansion of health care coverage in the country. Last month, WellPoint agreed to buy Amerigroup for about $4.9 billion.

Before Mitt Romney decided that Medicare cost containment was something to dishonestly campaign against, Paul Ryan and President Obama were both proposing that cost containment was a good idea. The difference perhaps was that the President’s idea for doing so involved price controls while the Republicans wanted to rely on more competition. Consolidation, however, is often a euphemism for the larger players to increase their market share on the hope of reducing competition. If these Republicans are serious about relying on competition – shouldn’t they be condemning this consolidation? Update: A hat tip to a devoted reader of Mark Thoma’s blog named Anne for providing us with a link to James C. Robinson who discusses the consolidation in the hospital sector.

George Will Makes Fool Of Self While Beating Dead Apocalypse Horse

In this Sunday's Washington Post, George Will excoriates the 1972 book, Limits to Growth (LtG) for making failed forecasts that we would run out of various nonrenewable natural resources by now, bringing up Paul Ehrlich's losing bet with the late Julian Simon about metals prices in the 1980s.  He then argues that we can therefore pay no attention to anything anybody was worried about at the recent Rio Earth Summit, and, btw, that Obama's current science adviser, John Holdren, was once an adviser of Paul Ehrlich's, eeeeek!

First we should recognize that LtG was seriously flawed, and from Day One its problems were noted by such figures as Robert Solow and Joseph Stiglitz.  The main flaw they pointed out, also argued by Simon, was the over-aggregation in the model: five variables at the global level, population, food, natural resources, industrial production, and pollution.  Indeed, the model simply ignored the sorts of microeconomic adjustments that can occur for individual resources, such as mercury (demand for which has fallen 98% since 1972). 

Second, they made their forecasts of running out of specific resources by simply looking at "measured reserves" and seeing how long those would last at then current usage rates.  The problem with this, which they really should have known, is that those reserves are not at all estimates of how much of any resource there really is.  They are what are known with high certainty to be there and also can be extracted profitably at current prices with existing technology.  In fact, for most of these resources, measured reserves have risen over time.

But, this does not get Will off the hook, as this is all old news, and he has not caught up.  Sure, Paul Ehrlich lost his bet with Simon in the 1980s, but he would have won the same bet if it had been made in 2000.  Furthermore, at Rio and elsewhere it is now understood that the real problems are not that we are going to run of tin and mercury, but that we may deplete our fisheries and destroy our forests and croplands through such things as climate change.  This latter was not discussed at all in LtG, and Will conveniently ignores it in his column.  Amusingly, he cites Bjorn Lomborg in dumping on LtG about all those metals, but fails to mention that Lomborg has changed his position about climate change from it not being that big of a problem to that it is a serious problem.

Yes, the Limits to Growth presented a deeply flawed model that in retrospect looks pretty silly.  But beating it over the head as a dead horse is seriously irrelevant to the current problems that we face.  Unfortunately, this sort of approach to arguing is all too typical of Will.

The Baker-Mankiw Solution to the Impending Doctor Shortage

Uwe Reinhardt lays out what seems to be a central theme in the conservative critique of ObamaCare as he cites this NYTimes discussion:

The Association of American Medical Colleges estimates that in 2015 the country will have 62,900 fewer doctors than needed. And that number will more than double by 2025, as the expansion of insurance coverage and the aging of baby boomers drive up demand for care. Even without the health care law, the shortfall of doctors in 2025 would still exceed 100,000. Health experts, including many who support the law, say there is little that the government or the medical profession will be able to do to close the gap by 2014, when the law begins extending coverage to about 30 million Americans. It typically takes a decade to train a doctor ... The Obama administration has sought to ease the shortage. The health care law increases Medicaid’s primary care payment rates in 2013 and 2014. It also includes money to train new primary care doctors, reward them for working in underserved communities and strengthen community health centers.

Textbook economics suggests that the market addresses shortages by increases in prices – which in this case is the compensation for doctors. Uwe notes this National Review critique of ObamaCare:

Physicians say they simply won’t practice under Obamacare rules that strip away much of their autonomy, drown them in bureaucracy, and leave them even more exposed to lawsuits. Health care already is one of the most highly-regulated industries in the country, and doctors and nurses are forced to devote a significant amount of their day to detailed paperwork, adding to their frustration and taking away from time with patients. Reporting requirements will increase significantly under the health overhaul law, and the penalties for those who run afoul of the avalanche of new rules also will increase. The supply of doctors will dwindle as demand for services reaches an all-time high. Fewer of those in private practice are taking patients on Medicare, and even fewer can afford to see the millions of new patients likely to be enrolled in Medicaid. By increasing demand for care without a comparable increase in the supply of doctors to treat the additional infusion of patients, the law will exacerbate the current physician shortage

Whether government policy is trying to alleviate this predicted shortage or is exacerbating it, the tone of these criticisms is that we cannot increase the supply of doctors quickly. As far as the critiques being pitched in terms of some concern for the poor, I love this snark from Uwe:

the strange theory that having no insurance coverage and ability to pay for care is better than having insurance coverage but having to wait for a doctor’s appointment to get non-emergency care.

These critiques are missing something important, which we noted here. Simply put, doctors in the U.S. are already receiving much higher compensation than highly trained doctors in other nations for reasons noted by both Dean Baker and Greg Mankiw. As Dean notes:

We could have designed trade policy to make it as easy as possible for smart kids from China, India and elsewhere to study to U.S. standards and then practice medicine, law, and economics in the United States. This would put the same downward pressure on the wages of these professions as we have seen for manufacturing workers and non-college educated workers in general.

Allowing highly qualified doctors to immigrate to the U.S. would alleviate this shortage and perhaps allow the market place to lower the monetary cost of hiring a doctor.

On Those Ryan Spending “Cuts”

Paul Krugman mocks the idea that Paul Ryan is a fiscal hawk by evaluating what his policy proposals mean for the next decade:

So if we look at the actual policy proposals, they look like this: Spending cuts: $1.7 trillion Tax cuts: $4.3 trillion This is, then, a plan that would increase the deficit by around $2.6 trillion.

But would Romney-Ryan really reduce the size of government at all. Paul?

approximately $800 billion comes from converting Medicaid into a block grant that grows only with population and overall inflation – a big cut compared with projections that take into account rising health-care costs and an aging population (since the elderly and disabled account for most Medicaid expenses). Another $130 billion comes from doing something similar to food stamps. Then there are odds and ends – Pell grants, job training. Be generous and call all of this $1 trillion in specified cuts. On top of this we should add the $700 billion in Medicare cuts that Ryan denounces in Obamacare but nonetheless incorporates into his own plan.

Romney is now saying that these Obama-Ryan proposed reductions in Medicare will not happen if he is President. OK! Barkley had this to say about the Medicaid proposal:

the part of the Ryan plans that is most potentially destructive both fiscally and economically, which I do not see repudiated by the Romney version, even if it is less clearly stated, is neither of the above, is what it/they do to Medicaid. This is to fix the amount sent to the states and then send it to the states as a block grant.

As I noted:

The numerical importance of this is right there in the document Ryan instructed CBO to produce. CBO predicts by 2050 under the current system that Federal spending for Medicaid and CHIP will be 4.25% of GDP. Ryan's budget would reduce this to 1% of GDP. Will the states pick up the 3.25% of GDP difference? If so, it would have to be with increases in what are traditionally regressive taxes.

Romney-Ryan are not proposing to reduce the long-term tax burden at all. They are just deferring it either to state governments or the future.

Will Obama’s Approach to Containing Medicare Costs Lead to Shortages?

The Weekly Standard quotes Paul Ryan’s claim that it will:

Medicare’s non-partisan chief actuary, Richard Foster, has been clear on this point: Going from 6 percent growth down to the President’s targets, using only the blunt tools that his law gives to IPAB, would simply drive Medicare providers out of business, resulting in harsh disruptions and denied care for seniors … You cannot control costs by using price controls, which impose painful cuts within a fundamentally broken framework.

Ezra Klein provided a link to this Weekly Standard post towards the end of an important discussion:

You’re not allowed to demand a “serious conversation” over Medicare unless you can answer these three questions: 1) Mitt Romney says that “unlike the current president who has cut Medicare funding by $700 billion. We will preserve and protect Medicare.” What happens to those cuts in the Ryan budget? 2) What is the growth rate of Medicare under the Ryan budget? 3) What is the growth rate of Medicare under the Obama budget? The answers to these questions are, in order, “it keeps them,” “GDP+0.5%,” and “GDP+0.5%.” Let’s be very clear on what that means: Ryan’s budget — which Romney has endorsed — keeps Obama’s cuts to Medicare, and both Ryan and Obama envision the same long-term spending path for Medicare. The difference between the two campaigns is not in how much they cut Medicare, but in how they cut Medicare.

If we do nothing, the CBO predicts that Medicare spending , which is now running at 3.25% of GDP will grow to 6.5% of GDP by 2050. Both the Obama and Ryan plans propose to limit this growth so that Medicare spending will be only 4.75% of GDP by 2050. As Ezra notes:

Romney would give Medicare beneficiaries a voucher permitting them to choose between traditional Medicare and private plans. Romney’s people tell me his plan will use competitive bidding, in which the value of the voucher is tied to the lowest-cost (or, in some versions, second-lowest cost) plan. If beneficiaries want a more expensive plan, they’ll have to pay the difference out of pocket. On his Web site, however, it just says that Romney “is exploring different options for ensuring that future seniors receive the premium support they need while also ensuring that competitive pressures encourage providers to improve quality and control cost.” ... Republicans believe the best way to reform Medicare is to fracture the system between private plans and traditional Medicare and let competition do its work.

If we had perfect competition in the provision of health care, the traditional model predicts that price controls will lead to shortages. But the evidence is clear that we don’t live in this ideal world of perfect competition in terms of the supply of doctors, the supply of pharmaceuticals and medical devices, or in the provision of insurance. On the first issue, Romney and Ryan should talk to Greg Mankiw on how much doctors make in the U.S. versus abroad. Dean Baker once criticized Greg for hiding the role that government plays in this upward distribution of income towards doctors:

We could have designed trade policy to make it as easy as possible for smart kids from China, India and elsewhere to study to U.S. standards and then practice medicine, law, and economics in the United States. This would put the same downward pressure on the wages of these professions as we have seen for manufacturing workers and non-college educated workers in general.

To be fair, Greg has made the same recommendation. But let’s also note this from Dean:

the fact that drugs are expensive is entirely due to government-granted patent monopolies. We spend about $300 billion a year on drugs that would cost less than $30 billion a year in a free market.

Is it generally true that the cost of production is only 10 percent of revenues? Johnson & Johnson – a company that produces both pharmaceuticals and medical devices – might quibble that their cost of production is 30% of revenues but that still represents an enormous amount of market power. Finally, insurance companies tend to pay out around 80% of their premium revenues in terms of benefits keeping the other 20% to cover their bloated administrative costs and provide for rather generous returns to investment. In a world of imperfect competition, price controls can reduce costs without reducing the benefits to consumers. Maybe there are market means for reducing this market power but we have not seen any such proposals from Romney-Ryan. As far as I can tell, their approach will allow the providers of health care to continue to enjoy high incomes even as those that rely on Medicare will end up paying more for their health care.

Medicaid: The Most Fiscally And Economically Destructive Part of Romney-Ryan

Admittedly this has become hard to say now that there are at least three, if not four, such versions.  There were at least two Ryan budget plans, if not three, with the earlier one(s) more radical than the one passed by the House this year, and there is the much vaguer Romney plan, which is now supposedly ruling in the case of Medicare: do nothing for ten years (including repeal the Medicare savings part of ACA, which the Ryan plans agree with), and then, maybe, go to some sort of Ryanesque voucher/premium support plan. 

Of course, they both support tax cuts for the rich and tax increases of some sort for the poorer, although things are fuzzier on details in the Romney version than in the Ryan versions.  However, they are also both stunningly vague on the tax expenditure savings or loophole/deductions that they intend to remove that are supposed to magically raise revenues somewhere down the road (along with, of course, in typical supply-side fantasyland, all that extra growth the tax cuts for the rich are supposed to generate).

However, the part of the Ryan plans that is most potentially destructive both fiscally and economically, which I do not see repudiated by the Romney version, even if it is less clearly stated, is neither of the above, is what it/they do to Medicaid.  This is to fix the amount sent to the states and then send it to the states as a block grant.  While the voucher version of Medicare sticks extra costs directly on elderly recipients, this sticks the rising cost of medical care for the poor on the states.  We have already seen such rising costs for the state shares rising dramatically over past years and wreaking havoc on state budgets around the country.  This will make it worse, and as seen by the response of many states led by GOP governors, they are unwilling to extend Medicaid as asked for in the ACA, arguably the largest source of expansion of coverage for health care of uninsured Americans of any part of the ACA.

Furthermore, in terms of the overall economic impact, during the last two years the hardest hit sector of the US economy in terms of employment loss has been state and local governments, still laying off people at a rate of 9,000 workers per month as of the latest report.  Throwing the responsibility for covering Medicaid  even more fully onto the states is simply going to aggravate this already severe problem.  It is fiscal/economic lunacy.

As it is, the federal government should be assuming full responsibility for Medicaid, rather than shoving it more heavily onto the overburdened state and local governments.  Obama is not supporting this, which should be done simply without any conditions to even the playing floor across states.  As it is, there have been some rumbles by a few in Congress about a possible trade: feds take over Medicaid while states take over transportation and education, which almost balance out currently.  I am not in favor of that either, but it would be superior to either the status quo, and certainly far superior to the nonsense that one finds on Romney-Ryan, or at least some versions of it.

Team Romney Responds to Paul Krugman but not to Brad DeLong

Greg Mankiw lets us know that John Taylor has responded to a brief critique from Paul Krugman. John tells us that “Paul Krugman is Wrong”. Odd that neither Greg nor John addressed the savage review from Brad DeLong. It would have been impossible to miss Brad’s critique since Paul not only linked to it but based much of what he wrote on Brad’s review. So what are we to make of this omission from Team Romney? Do they agree with everything Brad said? Or are they just not willing to have an open and honest debate on the issues?

The Ryan Fiscal Plan and That CBO Document

Karen Tumulty and Dean Baker are squabbling over how to describe Paul Ryan’s long-term spending proposals. Karen writes:

First, the Ryan plan would overhaul the entitlement programs that have grown to consume about 40 percent of the budget, reshaping Medicare coverage for the elderly, and cutting deeply into Medicaid, food stamps and other programs for the poor. Second, he would rewrite the tax code, slashing the rates paid by corporations and the wealthy. Finally, Ryan would cut spending on other federal programs and agencies, with the exception of the Pentagon … "The Congressional Budget Office [CBO] estimates it [the Ryan Budget] would not bring the federal books into balance until around 2040. And most of its savings come from the long-term restructuring of entitlement programs."

Dean counters:

Actually, in percentage terms by far the biggest savings in the Ryan budget comes from essentially shutting down the federal government, except for Social Security, health care programs and the military. The CBO analysis of his budget [Table 2] shows that all other areas of federal spending falls to 4.75 percent of GDP by 2040 and 3.75 percent of GDP by 2050. Military spending is currently more than 4.0 percent of GDP and Representative Ryan has indicated that he wants to keep spending at its current levels or raise it. This means that under the Ryan Budget, by 2040 there will be almost no money left for national parks, education, the State Department, the Food and Drug Administration, federal courts and all the other activities currently supported by the federal government. By 2050 there will be no money left for these activities. The Post has seriously misrepresented Representative Ryan's agenda by not pointing out thus fact to readers.

Let’s review this CBO document starting with its opening line:

At the request of the Chairman of the House Budget Committee, Congressman Paul Ryan, the Congressional Budget Office (CBO) has calculated the long-term budgetary impact of paths for federal revenues and spending specified by the Chairman and his staff.

In other words, this is not the CBO’s analysis of some detailed set of Republican policy proposals – these are assumptions as to the path of spending specified by Congressman Ryan. Dean asks us to examine table 2, which compares the fantasy paths specified by Ryan to an “extended baseline scenario”. Notice in particular, that both scenarios have Social Security being 6% of GDP from 2030 to 2050. In other words, Romney-Ryan have yet to go after this program. George W. Bush tried to bamboozle us back in 2005 and hopefully the Republicans learned their lesson back then. While the baseline scenario has Federal spending on health care growing to 10.75% of GDP by 2050, Ryan claims that replacing Medicare as we know it with a poorly funded voucher system and the virtual elimination of Medicaid and CHIP can magically reduce this share to only 5.75%. So yes – part of the big difference between Ryan’s proposal and what Democrats propose is in the area of health care. Then again – Mitt Romney is shying away from Ryan’s budget and other Republicans are criticizing President Obama on any proposed Medicare cost containments. So who knows? Even if Ryan’s draconian cuts to health care spending were to become reality, we would not see the asserted reduction of Federal spending to a mere 15.5% unless we did eliminate the rest of the Federal government. While the baseline scenario has other spending (defense and nondefense) at 7.75% of GDP, Ryan’s fantasy scenario has this at 3.75% of GDP even though Romney has promised that defense spending alone will be 4% of GDP. So maybe Dean is being generous when he claims we would have to eliminate the rest of the government as the Romney-Ryan plan asserts we can have negative spending on the rest of the Federal government. They must have some secret new fuzzy math! Or maybe this is why Romney is promising to keep Federal spending at 20% of GDP rather than Ryan’s assertion that it will be only 16% of GDP. Then again – Romney-Ryan are promising to balance the budget even as they cut all sorts of tax rates. Ryan asserted to the CBO that his tax plan would generate revenues equal to 19% of GDP even though under current tax rates, revenues in 2011 were less than 16% of GDP. While I trust we will eventually have economic recovery, the last time we tried Laffer Curve tax policies, taxes as a share of GDP fell. I wish I understood this secret new fuzzy math that leads Romney and Ryan to think this time will be different.

Teach Your Children (Probability Theory) Well

So here we are, in the waning weeks of summer 2012, facing a remarkable paradox: on the one hand, we have a record-shattering drought, crop failures and a threat to global food security, and on the other not a whisper of climate change or its challenges in a political contest on track to suck as much as $2 billion into advertising.

There is a political economy dimension to this mess, of course: disruption of the carbon cycle remains an inconvenient problem, especially for those who profit mightily from it.  A part of our paralysis, however, can be chalked up to the fact that the twentieth century’s most important cognitive revolution, the shift from deterministic to probabilistic thinking, is still confined to a tiny sliver of the population.

Although the foundations stones of probability theory were set in earlier centuries, it was not until the first decades of the twentieth that the practical uses of probability, in forecasting and hypothesis testing, emerged.  At the same time, humans acquired vast new powers to manipulate nature and each other—powers that could be understood and regulated only through an understanding of probabilistic relationships.  Whether the topic is food additives, air pollution, or the effect of propaganda campaigns of various intensities and expense on voter behavior, intelligent discussion is impossible without a familiarity with the nature of stochastic processes.

Yet most people think in much simpler terms.  A either causes B or it doesn’t.  If you can point to an A without a corresponding B, there’s no cause—end of story.  Poverty doesn’t hold back promising students; just look at all the kids who succeed despite their background.  Don’t worry about the warning label on the package: smoking can’t cause cancer because I know someone who is almost 90, in great health and still smokes a pack a day.

I know that there are studies that tie beliefs about climate change to value systems, political affiliation and so on, but just listen to the debate between worriers and deniers on its own terms.  The worriers, like me, point to the increasing likelihood of catastrophic impacts; it means something to us to say that, while a specific climate event cannot be tied deterministically to carbon loading, droughts and other severe impacts are now more likely to occur.  The deniers point to individual exceptions like periods of cooler weather and say, see, you can’t prove causation—it’s all a hoax.

Thinking probabilistically isn’t something we’re born with.  It has to be taught; in fact it has to be taught over and over because it seems to go against our natural cognitive tendencies.  A lot of readers of this blog (insofar as a high percentage of a low number can be “a lot”) are teachers.  Whatever your subject, there is no more important goal you can strive for.

Maximize the Likelihood of Being Profitable, Not Profits

I hope Joe Nocera is right in today’s New York Times when he says that the wheel is turning, and the primacy of shareholder value is beginning to return to the muck from whence it came.  He is right to say, however, that any alternative framework that aims to take its place must be capable of being distilled into a simple, compelling insight.  Here I modestly offer my own candidate: firms should maximize the likelihood of being profitable, not profits.  In this way they will be viable, lasting instruments for the wider purposes they ought to serve.

Hassett on Valuation and Tax Policy: Emphasizing Benefits and Ignoring Costs

Let’s pick up on something Brad DeLong noted about Kevin Hassett’s DOW 36,000 claim:

Suppose that you had told me, 15 or 30 years ago, that there was an economist who did not understand the Gordon equation for stock market valuation: somebody who, instead of knowing that the Gordon equation was P=D/(r-g) (where P is the value of the stock index, D is the dividend paid on the index, and r and g are the required rates of return and expected dividend growth rates respectively) thought instead that it was P=E/(r-g) (where E is the account earnings of the index). Suppose you had told me that that somebody would be a respected senior economic adviser to Republican presidential candidates.

Understanding the difference between dividend growth and earnings growth is one of the most basic concepts in the valuation of enterprises. Sure faster dividend growth in a steady state drives up the enterprise’s valuation but for most companies, faster earnings growth has both a benefit and a cost. Growing companies tend to pay out dividends that are less than their earnings because part of their earnings is devoted to the accumulation of capital required to sustain growing sales. If one ignores this cost, one will assuredly overestimate the value of the enterprise. Anyone foolish enough to do so has no business selling himself as an expert in the valuation of enterprises. But let’s apply similar reasoning to the analysis of tax policy and long-term economic growth. The Laffer school of macroeconomics – which Kevin Hassett and his fellow Romney economists – apparently adhere to have an incredibly incomplete view of how tax policy affects economic growth as they have an incredibly incomplete model of the after-tax cost of capital. We should grant that if one can reduce the after-tax cost of capital, then we could enjoy an increase in investment demand. The Laffer school of macroeconomics argument that reducing tax rates will lower this after-tax cost of capital assumes that such changes in tax rates have no effect on real interest rates. Such an argument might have credibility if the overall fiscal policy change were deficit neutral, which would require base broadening so as to be revenue neutral or offsetting reductions in government consumption. We should note, however, that the early Reagan fiscal policy was not deficit neutral and the aftermath of his 1981 tax cuts was a reduction in national savings and a rise in real interest rates. This is a point that Greg Mankiw made many years ago but that was before he joined Team Republican as a policy consultant. The problem many of us have with the Romney fiscal promises is that they seem to be offering us the same free lunch that we got over 30 years ago – reductions in the tax rates on capital income without telling us how they would pay for these reductions. As such, their policy proposal appears to be very similar to the 1981 fiscal fiasco, which of course led to less long-term growth not more. But what would you expect from a team of economists that include Kevin Hassett who has a habit of emphasizing benefits and ignoring costs?

Senator McConnell Tells One Revealing Truth and Then Goes Back to Lying

Brian Beutler captures this from the Senate Republican leader:

“[T]he American people have never given us the kind of hammerlock on Congress that Democrats had during the New Deal, that they had during the Great Society, and that they had in 2009 and 2010” … In other words, just wait until we have a filibuster-proof majority and then we’ll make our move. It explains, by implication, why Republicans didn’t do more when George W. Bush was president to cut or phase out safety net programs through the filibuster-proof budget process. But if Republicans take over Congress and the White House next year, even with thin majorities, conservatives will be clamoring to streamline major changes to popular programs like Social Security and Medicare anyhow.

In other words, voting for Republicans means good bye to Social Security, Medicare, and even ObamaCare. Glad we cleared that up! But now the great lie from the Senator:

And the Democrats have had Congress, sometimes with whopping majorities, most of the time since the New Deal. And that’s a great disappointment — I think that’s the reason the country has the kind of debt and deficit that it has

Wrong. The government debt fell relative to GDP from the time of the Truman Administration to the end of the Carter Administration. It exploded under Ronald Reagan because of the great Laffer lie. Under the Clinton Administration we saw declines in government debt relative to GDP but the administration of George W. Bush threw that all away. And the great Laffer lie is the centerpiece of Mitt Romney fiscal plan. In case Senator McConnell has forgot, Reagan, Bush, and Romney are Republicans.

Ignoring Their Critics, Romney’s Economists Have Lined Up Their Next Spin

Brad DeLong had exposed the White Paper from Romney’s economic team (Kevin Hassett, Glenn Hubbard, Greg Mankiw, and John Taylor) to be a collection of things that don’t follow, things that are wrong, and things that are just plain false if not lies. Something tells me that the Romney economists are not going to rush out and acknowledge Brad’s many and excellent points. Instead we see Greg Mankiw show casing something John Diamond provided to the Romney campaign. Diamond claims that the Romney tax reforms will add 5.4 percent to GDP over the next decade. Contrast this prediction to what Brad wrote:

The CBO currently estimates potential real GDP at the end of 2022—what we would expect without policy changes to boost economic growth—to be $18.5 trillion real dollars. Current real GDP is $13.5 trillion. Applying HHMT’s lower-range growth numbers produces an end-of-2012 real GDP not $2.1 trillion higher than CBO projects but rather $0.6 trillion higher. $1.5 trillion of their claims thus arise not from faster growth of the economy’s productive potential but from an implicit—and unmotivated—assumption that under Romney policies aggregate demand in 2022 is equal to potential output, but under other policies it is not.

Interestingly, 5.4% of CBO’s $18.5 trillion in potential GDP would represent a $1.0 trillion improvement. But how does Diamond get there. He assumes a specific policy of tax rate reductions with tax revenue offsets (“base broadening”). His model also ignores any crowding-out effects which must mean that any failure to offset the rate reductions were paid for by cuts in government spending. Again, let’s turn the microphone back over to Brad:

Similarly, Romney has not even the outlines of a plan for how to reduce federal spending to 20% of GDP, or how he could possibly broaden the tax base to keep his tax cuts for the rich revenue-neutral. If you do indeed fear uncertainty about tax and regulatory policy, you need to vote against Romney as you would vote against the plague—and urge everybody you know to vote against Romney, and urge them in the strongest possible terms.

I’m sure Team Romney will tout the results of the paper from Diamond but something tells me that they are not going to be so willing to address the legitimate questions about whether their alleged policy proposals match the assumptions made in this paper. If they don’t – this is not a real policy debate. It is just propaganda dressed up to look like economics. Didn’t we see this movie back some 32 years ago?

Laffer’s Case for Fiscal Ineffectiveness

Laffer writes:

If you believe, as I do, that the macro economy is the sum total of all of its micro parts, then stimulus spending really doesn't make much sense. In essence, it's when government takes additional resources beyond what it would otherwise take from one group of people (usually the people who produced the resources) and then gives those resources to another group of people (often to non-workers and non-producers).

Brad DeLong does a nice rebuttal on the logic here so let me take up Laffer’s “evidence”, which includes a table and this discussion:

It worked miserably, as indicated by the table nearby, which shows increases in government spending from 2007 to 2009 and subsequent changes in GDP growth rates. Of the 34 Organization for Economic Cooperation and Development nations, those with the largest spending spurts from 2007 to 2009 saw the least growth in GDP rates before and after the stimulus. The four nations—Estonia, Ireland, the Slovak Republic and Finland—with the biggest stimulus programs had the steepest declines in growth.

Most economists who have examined the correlation between fiscal stimulus and real GDP growth show precisely the opposite of what Laffer claims here. For example, Estonia and Ireland were supposed to be examples of how austerity was supposed to be expansionary according to the right wing camp that Laffer belongs to. Of course, the 1st column Laffer’s table (government spending/GDP) is a horrible measure of fiscal stimulus. For example, the rise in this ratio for the U.S. was more from the recession itself and not fiscal stimulus.

White Paper on the Romney Economic Boom

Jon Ward reports that Glenn Hubbard, Greg Mankiw, and John Taylor joined with Kevin (DOW 36000) Hassett to produce white paper that should be fun reading for us of all:

Mitt Romney's campaign released a paper by four of its top economic advisers on Thursday to back up its assertion that Romney's tax reform and fiscal plan would create "millions of jobs," as an adviser earlier in the day had stated … "The Romney economic program will change the direction of policy to focus on economic growth," the advisers wrote. "Its pro-growth effects will work in two basic ways: It will speed up the recovery in the short run, and it will create stronger sustainable growth in the long run." The paper was less actuarial work with raw data and specific numbers, however, and more of an economic philosophy argument based largely on the premise that simply by undoing much of what President Obama has done since taking office, the economy would recover at a faster pace than it has been from the recession that began in late 2008. "By changing course away from the policies of the current administration and ending economic uncertainty, as proposed by the Romney plan, we expect that the current recovery will align with the average gains of similar past recoveries," the advisers stated. "History shows that a recovery rooted in policies contained in the Romney plan will create about 12 million jobs in the first term of a Romney presidency."

Past recoveries have relied on monetary expansion. I guess these four have not figured out we currently are in a liquidity trap. The bit about policies that are both good for the short-run and the long-run have been standard talking points from Team Romney for quite a while. To be honest – I still need to read this paper but before I do, let me tick off four such possibilities. The first two are proposals from the Obama Administration which have been stonewalled by Congressional Republicans: (1) accelerating public investment in infrastructure; and (2) using Federal revenue sharing to insure that state & local governments don’t cut public education. The other two rely on encouraging private investment, which is admittedly still low. We could ask the Federal Reserve to lower interest rates – oh wait, that liquidity trap thing again. Finally, Team Romney is doing its best imitation of Art Laffer saying that tax cuts for high income individuals will somehow encourage investment even as negative real interest rates have not fully succeeded. Isn’t this what the Reagan Administration argued some 30 years ago – which prompted the critique from one of the authors of this white paper that the claim was from “cranks and charlatans”. But let’s also take a read of this white paper and see if there is anything new worth considering.

Mixed Message on the Labor Front

BLS released its Employment Situation Summary for July. The payroll survey showed an increase in employment of $163 thousand but that unemployment rate rose to 8.3%. So what was the deal from the household survey? Actually the labor force participation rate fell from 63.8% to 63.7% so the small rise in the unemployment rate masks the fact that the employment to population rate fell from 58.6% to 58.4%. The household survey indicates that employment dropped by 195 thousand last month. So I’m sure the political hacks will have lots to debate on this news. But one thing is crystal clear – we are still far below full employment. This Administration and the Federal Reserve need to do a lot more in terms of stimulus. Of course the Republicans are proposing even more fiscal austerity. Go figure!

Who Has the Rosy Scenario About GDP Growth?

On Tuesday, Greg Mankiw gives this lecture to the Obama Administration:

Of course, the Administration's optimistic forecast feeds directly into its budget projection. If we get the slower growth that private forecasters predict, we will get less tax revenue and larger budget deficits than the Administration projects.

I was tempted to fire off a post yesterday taking perhaps a couple of different approaches. One approach might have been – we’ll let’s hope that the weak economy recovers faster than the private forecasters predict. But then I remembered that macroeconomy policy has been stuck in this dysfunctional nonsense leading to short-term austerity. The second approach might have been to scoff at the idea that anyone from Team Republican could toss this reality at a Democrat as it is Team Republican that gave us the Laugher Curve back in 1981. But to be fair to Greg Mankiw – he did not serve Reagan’s Administration and once called the Lafferites “crooks and charlatans”. He did work for George W. Bush, however, but let’s stick with the 2012 election. No one from Team Romney would ever overestimate economic growth – would they? I woke up this morning, however, to read this from Paul Krugman:

And the Romney people respond with deep voodoo, invoking the supposed fabulous growth effects from his tax cuts. And who could argue? Remember how the economy tanked after Clinton raised taxes? Remember how great things were after Bush cut them? Oh, wait.

Paul links to this:

“This is just another biased study from a former Obama staffer that ignores critical parts of Governor Romney’s tax reform program, which will help the middle class and promote faster economic growth,” Chen wrote in a statement Monday evening in response to the study by the Tax Policy Center released earlier in the day. “The study analyzes only half of Governor Romney’s tax program, ignoring the reforms that would make America’s corporations more competitive by moving from the highest corporate tax rate in the industrialized world to one that is comparable to our trading partners. And the study ignores the positive benefits to economic growth from both the corporate tax plan and the deficit reduction called for in the Romney plan. These glaring gaps invalidate the report’s conclusions."

Lanhee Chen omitted the fact that the other co-author was Adam Looney who served on Bush41’s team. But mull over the premise that a gigantic tax cut for the rich somehow leads to more economic growth because it allegedly reduces the deficit. This was exactly the Laugher nonsense that Greg Mankiw once attributed to crooks and charlatans. Funny thing – we haven’t seen Greg mocked this rosy scenario. At least yet. Greg? Update: Glenn Hubbard argues that a mix of more austerity with a few supply-side sprinkles will produce the following results:

the Romney reform program is expected by the governor's economic advisers to increase GDP growth by between 0.5% and 1% per year over the next decade. It should also speed up the current recovery, enabling the private sector to create 200,000 to 300,000 jobs per month, or about 12 million new jobs in a Romney first term, and millions more after that due to the plan's long-run growth effects.

Dare I say that Glenn must be drunk on the Kool-Aid.