The black population is not equally distributed across the United States: not equally across regions of the country, nor within metropolitan areas. This unequal distribution is in substantial part a result of historical event and policy decisions, many of them rooted in racism. As a result, policies that affect certain regions of the country more than others, or certain parts of metropolitan areas more than others, will inevitably have disparate racial effects.
Bradley L. Hardy, Trevon D. Logan, and John Parman lay out the evidence and arguments for these and related claims in \”The Historical Role of Race and Policy for Regional Inequality,\” which appears as a chapter in Place-Based Policies for Shared Economic Growth, edited by Jay Shambaugh and Ryan Nunn (Hamilton Project at the Brookings Institution, September 2018)
Here\’s a map showing the share of the population that is black on a county-by-county basis across the United States. As the figure shows, most of the predominantly black counties are in the southeastern region.
If you compare this map of counties with a high share of black residents with a map showing poverty rates by county, you find considerable overlap. If you compare this map of counties with a high share of black resident with a map showing \”economic mobility\” rates by county, you also find high overlap.
As a measure of economic mobility, the authors cite evidence on \”the mean income rank of black children growing up in a household at the 25th income percentile.\”
\”Under complete economic mobility, the expected income rank of the child will simply be the mean income rank for the population, the 50th percentile. If there is no mobility, the expected income rank of the child will be that of their parents, the 25th percentile in this case. … In counties with a majority black population, a black child born to parents in the 25th income percentile achieves a mean income rank of only 32, barely any movement up the income ladder, while white children from the same counties achieve a mean income rank of 43. Not only do black households tend to live in regions with low incomes, but these regions also experience lower levels of economic mobility, potentially exacerbating regional inequality from one generation to the next. … [B]lack children growing up in the 25th income percentile reach much lower rungs on the income ladder relative to white children growing up at the same income level in the same commuting zone. …\”
The black population is also distributed unequally across metro areas.
\”These black–white differences vary across regions. In the South white and black households are roughly equally likely to live in metropolitan areas: 83 percent of white individuals and 86 percent of black individuals live in metropolitan areas. However, the Northeast and Midwest regions present stark differences in the locations of white and black households. Metropolitan areas contain 96 percent of the black population in the Midwest and 99 percent of the black population in the Northeast. These shares are far lower for the white population, particularly in the Midwest where only 75 percent of the white population lives in metropolitan areas.\”
These differences in the concentration of the black population are of course linked closely to historical patterns. For example, the prevalence of rural counties in the south with a high share of black resident of course echoes the patterns set in the aftermath of slavery. The authors write:
\”As of 1880, 90 percent of the black population still lived in the South and 87 percent of the black population lived in a rural area. In contrast, only 24 percent of the white population lived in the South, and 72 percent of the white population lived in rural areas. This meant that black individuals were disproportionately affected by constraints on economic opportunity in the rural South. Over the second half of the 19th century, incomes in the South and the North diverged significantly, with average income in the South only half of the national average by 1900 ,,, The destruction caused by the Civil War and the emergence of northern manufacturing while the southern economy remained predominantly agricultural contributed to these trends. The black population therefore found itself in a region with far less economic opportunity than the rest of the nation.\”
As the authors also note, the lack of opportunity for rural southern blacks was reinforced by racism by individuals, employers, social institutions and government, which affected education, labor markets, and political participation.
This lack of opportunity stirred what is called the \”Great Migration\” of blacks from the American south to northern cities, a pattern that lasted into the 1960s and which helped to reduce black-white gaps in income and other areas. But when blacks arrived in northern cities, there was rising segregation by race. Some of this was flight of white residents to suburbs outside central cities. When whites moved, the main locations of employers often moved with them.
Another factor was covenants in housing deeds that blocked houses from being sold to non-whites. For the record, such covenants were not \”unenforcable until Supreme Court’s Shelley v. Kraemer decision in 1948. However, racial restrictions were often still written into deeds until it became illegal to do so in 1968 with the passage of the Fair Housing Act.\” It was also common to link the risk of mortgage lending to the racial composition of a neighborhood, which had long-lasting effects on property values and city housing and economic patterns.
In turn, these patterns of black-white segregation within metro areas have been reflected in other social patterns, like inner-city schools with high shares of black students that do not seem to perform very well, and conflicts in inner cities between areas with a high share of black residents that have high levels of conflict with police and high rates of incarceration. As the authors write:
\”Neighborhoods with a significant share of blacks in America’s major cities have lagged white neighborhoods on key socioeconomic indicators since at least the 1970s, including earnings, poverty, educational attainment, and employment. These gaps in neighborhood amenities and neighborhood quality persist into the 2000s.\”
There are complex interactions in between economic forces, social forces, individual decisions and location choices, employer decisions, intentionally racist policies, policies not necessarily rooted in racism but with disparate racial effects, and so on. The authors are suitably restrained in making any attempt in this essay to attempt a grand synthesis. But they are not so much building a specific model as making a broader point. As they write, \”the majority of historical discriminatory policies are off the books.\” But the geographic location patterns of the current black population was heavily shaped over the last century-and-a-half by those policies. Moreover, the geographic location patterns of the black population are closely linked to the continuing inequalities of outcomes experienced by the black population.
International tourism is counted in the official economic statistics as an export industry. We don\’t always think about it that way. But when, say, Chinese tourists in the US purchase goods and services, then Chinese consumers are buying goods and services produced in the United States–which is what \”exports\” means.
\”In 2016, 3.0 million Chinese travelers visited the U.S., an increase of 15 percent from 2015.\”
\”China was the third-largest overseas inbound travel market to the U.S. in 2016.\” Apparently, 12% of all overseas tourist visits to the US originate from the United Kingdom, 9% from Japan, and 8% from China.
\”Travel exports to China (ie: spending by Chinese visitors and students in the U.S., and on U.S. airlines) reached $33.2 billion in 2016, significantly higher than any other country. This includes $12.5 billion in education-related spending by Chinese students in the U.S.\”
\”Average spending per Chinese visitor was $6,900 in 2016, the highest of all international visitors.\” If I\’m reading the footnotes correctly, this number doesn\’t include spending on education.\”
\”Travel is the largest U.S. industry export to China, accounting for nearly 20 percent of all exports of U.S. goods and services to China.\”
As the trade conflicts between the US and China continue, what is the likelihood that China might retaliate by making it harder for Chinese tourists to reach the US? After all, China has used limitations on tourism to put pressure on South Korea, Taiwan, and others.
At least one commenter in the travel industry thinks it unlikely, for several reasons. Many Chinese firms are involved in the Chinese tourism industry, so limiting tourism would hurt them, too. China has been choosing its tariff retaliation targets with some eye to hitting states that supported the election of President Trump, but limits on Chinese tourism to the US would have the biggest effects in California, New York, Illinois, and Massachusetts–none of them Trump strongholds. Finally, cutting Chinese travel to the US would also affect a lot of Chinese firms operating in the US and world markets, as well as Chinese students at US colleges and universities, which does not appear to be a goal of China\’s government.
The papers focus is on monetary and fiscal policy, and mostly don\’t seek to provide an even broader overview of economic evolution in these countries. But the nonspecialist reader interested in general patterns and trends in these countries will still find much of interest. For example, here\’s a snippet from Diego Restuccia on \”The Case of Venezuela\”:
\”In the post-war era, Venezuela represents one of the most dramatic growth experiences in the world. Measured as real gross domestic product (GDP) per capita in international dollars, Venezuela attained levels of more than 80% of that of the US by the end of 1960. It has also experienced one of the most dramatic declines, with levels of relative real GDP per capita reaching less than 30% of that of the US nowadays. …
\”The last period, from 2006 to 2016 deserves special discussion. This is because the crisis that is unfolding is much more closely aligned with the typical crises in Latin America … that is, the link between systematic government deficits, the eventual inability to finance those deficits, and subsequent seigniorage and inflation. This is also a period in which distortions to economic activity have accumulated since the late 1990s and were drastically expanded during this period of time.
\”There are several aspects of the economic environment that are worth mentioning. First, there is extreme intervention of the public sector in economic activity through expropriation of private enterprises and government intervention of goods distribution systems. Decline in private production and the failure of expropriated enterprises have exacerbated the dependence of the economy on imports. Second, this is a period of rising debt, both internal and external, with the internal debt becoming the majority of new debt as external sources of financing have become more limited toward the end of the period. Third, there is a decline in the transparency of debt statistics, as a substantial portion of new debt is not accounted in official statistics, for instance, loans in exchange of future oil (e.g., China) and newly rising debt of the state-owned oil company (PDVSA). Fourth, there was a partial reform of the Central Bank allowing for the discretionary use of foreign reserves. Fifth, there is a changing role of PDVSA’s activities involving large transfers … for social programs; in addition, government intervention in the company’s activities has meant shrinking production capacity and cash flows. As a consequence of these characteristics, and despite one of the largest oil-price booms in recent history, the government has found it harder to obtain new loans with mounting fiscal deficits, resorting to much more substantial seigniorage. This is a period also in which real GDP per capita and labor productivity are contracting, for example, real GDP per capita is essentially the same in 2013 as in 2007, and declined between 2013 to 2016 by 30%.\”
Here\’s the list of papers, with abstracts and links:
___________________________ WORKING PAPER The Case of Argentina Francisco Buera, Sam B. Cook Professor of Economics, Department of Economics, Washington University Juan Pablo Nicolini, Senior Research Economist, Federal Reserve Bank of Minneapolis
In this paper, we review the monetary and fiscal history of Argentina for the period 1960–2017, a time during which Argentina suffered several balance of payments crises, three hyperinflations, two defaults on government debt, and three banking crises. All told, between 1979 and 1991, after several monetary reforms, thirteen zeros had been removed from its currency. We argue that all these events are the symptom of a recurrent problem: Argentina’s unsuccessful attempts to tame the fiscal deficit. An implication of our analysis is that the future economic evolution of Argentina depends greatly on its ability to develop institutions that guarantee that the government does not spend more than its genuine tax revenues over reasonable periods of time. DOWNLOAD PDF WORKING PAPER The Case of Bolivia Timothy J. Kehoe, Advisor, Federal Reserve Bank of Minneapolis Carlos Gustavo Machicado, Senior Researcher, Institute for Advanced Development Studies, Bolivia José Peres Cajías, Professor, Economic History Department, University of Barcelona
After the economic reforms that followed the National Revolution of the 1950s, Bolivia seemed positioned for sustained growth. Indeed, it achieved unprecedented growth during 1960–1977. Mistakes in economic policies, especially the rapid accumulation of debt and a fixed exchange rate policy during the 1970s, led to a debt crisis that began in 1977. From 1977 to 1986, Bolivia lost almost all the gains in GDP per capita that it had achieved since 1960. In 1986, Bolivia started to grow again, interrupted only by the financial crisis of 1998–2002, which was the result of a drop in the availability of external financing. Bolivia has grown since 2002, but government policies since 2006 are reminiscent of the policies of the 1970s that led to the debt crisis, in particular, the accumulation of external debt and the drop in international reserves due to a fixed exchange rate. DOWNLOAD PDF WORKING PAPER The Case of Brazil Márcio Garcia, Associate Professor, PUC-Rio, CNPq and FAPERJ; Coordinator, Brazil Project João Ayres, Research Economist, Inter-American Development Bank Diogo Guillén, Global Head Economist, Itaú Asset Management Patrick Kehoe, Consultant, Federal Reserve Bank of Minneapolis; Frenzel Professor of International Economics, University of Minnesota
Brazil had a long period of high inflation. It peaked around 100% per year in 1964, and accelerated again in the 1970s, reaching levels above 100% on average between 1980 and 1994. This last period coincided with severe balance of payments problems and economic stagnation that followed the external debt crisis in the early 1980s. We show that the high-inflation period (1960-1994) was characterized by a combination of deficits, passive monetary policy, and constraints to debt financing. The transition to the low-inflation period (1995-2016) was characterized by improvements in all those instances, but it did not lead to significant improvements in economic growth. In addition, we document a strong correlation between inflation rates and seigniorage revenues, but observing that the underlying inflation rates are too high for the modest levels of seigniorage revenues. Finally, we discuss the role of monetary passiveness and indexation in accounting for the unique features of the inflation dynamics in Brazil in comparison to the other Latin American countries. DOWNLOAD PDF WORKING PAPER The Case of Chile Rodrigo Caputo, Senior Economist, Central Bank of Chile Diego Saravia, Manager of Economic Research, Research Department of the Central Bank of Chile;
Chile has experienced deep structural changes in the last fifty years. In the 1970s a massive increase in government spending, not financed by an increase in taxes or debt, induced high and unpredictable inflation. Price stability was achieved in the early 1980s, after a fixed exchange rate regime was adopted. This regime, however, generated a sharp real exchange rate appreciation that exacerbated the external imbalances of the economy. The regime was abandoned and nominal devaluations took place. This generated the collapse of the financial system that had to be rescued by the government. There was no debt default, but in order to service the public debt, the fiscal authority had to generate surpluses. Since 1990, this was a systematic policy followed by almost all administrations and helped achieve two different, but related, goals. It contributed to reducing the fiscal debt and enabled the Central Bank to pursue an independent monetary policy aimed at reducing inflation. DOWNLOAD PDF WORKING PAPER The Case of Colombia David Perez-Reyna, Assistant Professor, Department of Economics of Universidad de los Andes, Colombia Daniel Osorio-Rodríguez, Junior Researcher, Monetary and International Investment Division, Banco de la Republica (the Central Bank of Colombia)
In this paper we characterize the joint history of monetary and fiscal policies in Colombia since 1960. We divide our analysis into three periods, which are differentiated by the finance structure of the fiscal deficit, the institutional framework of monetary and fiscal policies, and the levels of inflation: 1960-1970, when both inflation and the fiscal deficit were low on average; 1971-1990, when both inflation and the fiscal deficit increased; and 1991-2017, when despite the highest average fiscal deficit and the worst recession of the century, inflation kept a downward trend in the context of a newly independent Central Bank and increasingly flexible exchange markets. The first two periods were characterized by fiscal dominance, with larger fiscal deficits leading to increased inflation in the context of a nonindependent monetary policy. After 1991, the Constitution enshrined monetary dominance via an independent Central Bank. We observe that although large fiscal deficits, macroeconomic swings and monetary imbalances were rare in Colombia, average economic growth was comparable to other Latin American countries that experienced higher macroeconomic volatility. DOWNLOAD PDF WORKING PAPER The Case of Ecuador Simón Cueva, Regional Academic Director, Laureate Latin America Julían P. Díaz, Assistant Professor, Quinlan School of Business, Loyola University Chicago
We document the main patterns in Ecuador’s fiscal and monetary policy during the 1950-2015 period, and conduct a government’s budget constraint accounting exercise to quantify the sources of deficit financing. We find that, prior to the oil boom of the 1970s, the size of the government and its financing needs were small, and the economy exhibited high growth rates and low inflation. The oil boom led to a massive increase in government spending. The oil prices crash of the early 1980s was not accompanied by any substantial fiscal correction, and the government considerably relied on seigniorage as a source of revenue. This coincided with almost three decades of high inflation rates and stagnant output. The dollarization regime, implemented in 2000, removed the ability of the government to resort to seigniorage to cover its imbalances. Indeed, in spite of large deficits registered since 2007, inflation has remained at historically low levels. However, the recent policies of inflated spending and the heavy borrowing needed to finance it remind those that led to the collapse of the economy during the 1980s and 1990s, and generate concerns regarding the long-term sustainability of the dollarization regime, and of the benefits it has provided.
DOWNLOAD PDF WORKING PAPER The Case of Mexico Felipe Meza, Researcher, Centro de Analisis e Investigacion Economica (CAIE); Professor of Economics, Instituto Tecnologico Autonomo de Mexico (ITAM)
The objective of this paper is to analyze the monetary and fiscal history of Mexico using a model of the consolidated budget constraint of the Mexican government as the framework. I assume a small open economy in which the government exports oil. I study the period 1960-2016. I evaluate the ability of the model to explain the crises of 1982 and 1994, and while the model can explain the 1982 debt crisis, it cannot explain the 1994 crisis. A constitutional change in the relationship between the federal government and Banco de México, and policy choices made in the aftermath of the 1994 crisis, are consistent with a transition from fiscal dominance to an independent Central Bank. Inflation fell persistently after 1995, reaching values of 3% per year in mid-2016. That number is the target of the Central Bank. After a long transition following the 1982 crisis, Mexico succeeded in controlling inflation. I discuss forces that reduced inflation over time: a long sequence of primary surpluses, the constitutional change that gave independence and a goal to the Central Bank, and the current inflation targeting regime. On the fiscal side, I observe a change in the downward trend of the total debt-to-GDP ratio, as it fell from the 1980s to 2009, the year in which it started growing persistently until 2016. DOWNLOAD PDF WORKING PAPER The Case of Paraguay Javier Charotti, Researcher, Central Bank of Paraguay Carlos Fernández Valdovinos, President, Central Bank of Paraguay Felipe Gonzalez Soley, Researcher, Central Bank of Paraguay
In this paper we analyze the monetary and fiscal history of Paraguay between 1960 and 2016. The analysis is divided into four periods: Golden years and large external shocks (1962-1980), Fiscal imbalances and nominal instability (1981-1990), Deregulation and financial crisis (1991-2003), and finally, the Period of structural reforms (2004-2016). We observe that the monetary and fiscal policy maintained a conservative stance relative to other Latin American countries with some episodes of fiscal or monetary imbalances. These were a consequence of different factors depending on the period of analysis, among which we can quote: reform of the legal framework of the Central Bank, stabilization plans, credit market, and structural reforms. Finally, compared to most countries in Latin America, Paraguay has not experienced large macroeconomic imbalances, but remains among the countries with the lowest income per capita levels. DOWNLOAD PDF WORKING PAPER The Case of Peru Cesar Martinelli, Professor of Economics, George Mason University Marco Vega, Deputy Manager of Economic Research, Economic Studies Depart., Central Reserve Bank of Peru; Professor, Pontificia Universidad Católica del Perú
We show that Peru’s chronic inflation through the 1970s and 1980s was a result of the need for inflationary taxation in a regime of fiscal dominance of monetary policy. Hyperinflation occurred when further debt accumulation became unavailable, and a populist administration engaged in a counterproductive policy of price controls and loose credit. We interpret the fiscal difficulties preceding the stabilization as a process of social learning to live within the realities of fiscal budget balance. The credibility of policy regime change in the 1990s may be linked ultimately to the change in public opinion, which gave proper incentives to politicians, after the traumatic consequences of the hyper stagflation of 1987- 1990. DOWNLOAD PDF WORKING PAPER The Case of Uruguay Gabriel Oddone, Economic Historian, Universidad de la Republica, Uruguay Joaquín Marandino, Researcher, Universidad Torcuato Di Tella, Argentina
This paper analyzes the monetary and fiscal history of Uruguay between 1960 and 2017. The aim is to explore the links between unfavorable fiscal and monetary policies, nominal instability, and macroeconomic performance. The 1960s is characterized by high inflation and sustained large deficits, and a large banking crisis in 1965. Since the mid-1970s, the government liberalized the economy and attempted to stop the money financing of deficits that prevailed in the previous decade. During the transition to a more open economy, Uruguay encountered two major crises in 1982 and 2002: the former was very costly in fiscal terms and brought back the monetization of deficits, while the latter had significantly lower effects on deficit and inflation. The evidence collected suggests governments have slowly understood the importance of fiscal constraints to guarantee nominal stability. DOWNLOAD PDF WORKING PAPER The Case of Venezuela Diego Restuccia, Professor of Economics, University of Toronto; Research Associate, National Bureau of Economic Research (NBER)
I document the salient features of monetary and fiscal outcomes for the Venezuelan economy during the 1960 to 2016 period. Using the consolidated government budget accounting framework of Chapter 2, I assess the importance of fiscal balance, seigniorage, and growth in accounting for the evolution of debt ratios. I find that extraordinary transfers, mostly associated with unprofitable public enterprises, and not central government primary deficits, account for the increase in financing needs in recent decades. Seigniorage has been a consistent source of financing of deficits and transfers—especially in the last decade—with increases in debt ratios being important in some periods. DOWNLOAD PDF
When the first trans-Atlantic telegraph message was sent in 1858, the tough question was how to follow up on the famous terse line that Samuel Morse had sent in 1844 over the telegraph between Baltimore and Washington: \”What hath God wrought?\”
On August 18, 1858, the \”official\” first message to cross the Atlantic by telegraph was \”\”Glory to God in the highest; on earth, peace and good will toward men.\” Actually, with the various test messages that were sent back and forth, this was the 129th message to cross the Atlantic. It took about 17 hours to send. Then Queen Victoria and US President James Buchanan got involved. The Queen sent a 98-word message that took 16 hours to transmit. Buchanan responded with a 149-word message that took 10 hours to transmit. Part of the problem was that the signals were weak, and needed to be confirmed and repeated a number of times. One engineer thought that the solution was to boost the voltage, which blew out the insulation on the cable after only 400 messages had been sent.
At the time, cotton was the major US export, and about 70% of all US cotton was shipped to Great Britain–much of it by way of the port of New York City. But how could the merchants of New York know how much to send, and at what price? The trans-Atlantic cable provided the information. Fessenden writes:
\”Most cotton was sent to U.S. ports for export, with New York City as the most important hub linking U.S. producers to importers in England. In turn, British textile workers spun raw cotton into finished cloth, which was sold for domestic consumption and for export. Prior to the transatlantic cable, however, there was often a lag between the price of cotton quoted in Liverpool and what was quoted in New York, often by a week or more, depending entirely on ship travel. One common problem was that the information on foreign demand that New York merchants got from Britain was outdated, so it was difficult to make accurate purchasing decisions. Moreover, foreign demand fluctuated considerably, especially on the European continent. (Building up storage capacity could only partly address this issue, due to the fire hazard posed by cotton and prohibitive construction costs.) In short, this was a classic case of information frictions causing inefficiencies in trade. …
In several recent papers, Massachusetts Institute of Technology economist Claudia Steinwender has studied the effects of the transatlantic telegraph breakthrough of July 1866, as a critical positive shock to cotton markets. … Whereas the average difference between New York and Liverpool prices was 2.56 pence per pound of cotton prior to the cable, it fell to 1.65 pence per pound — a drop of more than a third — right after. Furthermore, the transatlantic price differences were much less subject to major swings.
In turn, thanks to more timely and accurate information, New York traders were better able to adjust export volumes to meet fluctuations in foreign demand. Rather than spend money on costly storage, which required leaving some of their product idle, exporters could calibrate their shipments more efficiently. In Steinwender\’s calculations, this boosted average daily cotton exports by 37 percent. The variance in daily volume increased even more, by 114 percent — reflecting the fact that exporters were able to make these adjustments quickly. Overall, she concluded, the cotton trade experienced an 8 percent efficiency gain in annual export value, mostly from the reduced variations in price differences due to the cable. Put another way, this efficiency gain was equivalent to a 20 percent drop in storage costs, or the elimination of a 7 percent ad valorum tariff.\”
There were a number of other efficiency gains from the trans-Atlantic telegraph. In general, trans-Atlantic trade rose because of improved information about supply and demand. New regions could be developed for US cotton production. Stock and bond prices on either side of the Atlantic converged. Fassenden notes efficiency gains within the US economy, too. For example, in the past it had been necessary to have two train tracks between locations–one outbound and one inbound. But when it became possible to have information on the location of other trains, it was possible to have only one track that, with shared information, could be used for trains using the track at different times to go both directions.
Our modern world of extremely rapid flows of information and communication is a lot more than a convenience. It\’s also a driver of economic efficiency from local markets to global supply chains.
The US economy, because of its enormous internal domestic market, is actually much less exposed to the effects of international trade than smaller economies around the world. For the world economy as a whole, the ratio of imports/GDP is about 28%, using World Bank data. For the US economy, the ratio of imports/GDP is 15%, about the same as Japan. For China, the import/GDP ratio is 18%; for Korea, it\’s 38%; for Germany, with all of its within-the-European-Union trade, the import/GDP ratio is 40%.
For the other North American countries, the import/GDP ratio is 33% for Canada and 40% for Mexico. The only fairly large economy I know with a lower import/GDP ratio than the US is Brazil, where the import/GDP ratio is 12%.
For example, Americans are less likely to feel that \”trade is good,\” and more likely to be concerned about adverse effects on jobs and wages. However, Americans are more likely to believe that trade helps to keep prices low.
However, one of the intriguing results from this survey is that Americans area apparently have much more positive attitudes about how trade affects jobs and wages than they did in 2014. For example, The Pew results suggest that the two countries where attitudes about trade, jobs, and wages have shifted most positively since 2014 are the US and Poland.
Here are the overall shifts in US attitudes toward trade from 2014 to 2018.
When looking at public and political discussions about international trade in the US, it does not seem to reflect a public where three-quarters believe that \”trade is good.\” What\’s going on here?
1) One issue in this kind of political opinion surveys is that people bring their partisan leanings to the poll. When President Trump was elected, based in part on expressing strong anti-trade sentiments. many individuals who identify as Democrats suddenly rediscovered the virtues of trade. I wrote about this dynamic in a post last year, one shift in \”US Polling on Attitudes Toward Trade\” (April 12, 2017).
2) There is a pattern across many countries that when an economy is doing well, attitudes toward trade tend to be more positive. At the moment, US economic growth rates and unemployment rates look better than in 2014 (or 2008-9). Again, attitudes on the economic merits of trade tend to be fluid, based on factors not much related to trade.
3) Those who protest against trade tend to be louder than those who support it, and news coverage may reflect this reality.
4) It\’s perhaps worth noting that most economists don\’t view trade as having much effect on the total number of jobs in an economy, either positive or negative. With the US unemployment rate at 4.5% or less since March 2017, it would seem peculiar to believe that trade has a strong effect in reducing the total number of jobs. The usual claim of economists is that trade reshuffles jobs, toward the sectors and skills where the US has a comparative advantage and away from others. Trade can reshuffle wages, too, higher in some areas and lower in others. But if you asked me whether trade leads overall to net job creation, taking gains and losses into account, I\’d say \”no.\” The case for international trade is that it leads to a reshuffling of economic resources that improves overall output, not that it is a net creator of jobs.
There is a long-standing debate over the goals of corporations. Should they focus mostly or exclusively on earning profits? Should they be willing to take on broader social missions? Should they be required to do so? What follows are some notes and snippets on this controversy, from various angles.
At least among economists, the usual starting point for these discussions is an essay written by Milton Friedman in the New York Times on September 13, 1970, called \”A Friedman doctrine — The Social Responsibility of Business is to Raise its Profits.\” As with many things written by Friedman, it is a starting point both for those who agree and who disagree, because of the clarity and pungency with which his views are expressed. The essay can be tracked down through the NYT archives and at various places on the web (like here).
Friedman makes the point that most people who run companies don\’t own the company; instead, they are managing the firm on behalf of someone else. Here\’s a snippet:
In a free-enterprise, private-property system, a corporate executive is an employe of the owners of the business. He has a direct responsibility to his employers. That responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom. …
What does it mean to say that the corporate executive has a \”social responsibility\” in his capacity as businessman? If this statement is not pure rhetoric, it must mean that he is to act in some way that is not in the interest of his employers. For example, that he is to refrain from increasing the price of the product in order to contribute to the social objective of preventing inflation, even though a price increase would be in the best interests of the corporation. Or that he is to make expenditures on reducing pollution beyond the amount that that is in the best interests of the corporation or that is required by law in order to contribute to the social objective of improving the environment. Or that, at the expense of corporate profits, he is to hire the \”hard-core\” unemployed instead of better-qualified available workmen to contribute to the social objective of reducing poverty …
Insofar as his actions in accord with his \”social responsibility\” reduce returns to shareholders, he is spending their money. Insofar as his actions raise the price to customers, he is spending the customers\’ money. Insofar as his actions lower the wages of some of his employes, he is spending their money.
Friedman has no objection, as he states later in the essay, if the owner of a business wants to act in accordance with an idea of social responsibility. He recognizes that certain kinds of social expenditures can raise corporate profits–but points out that in such cases, calling for profit-maximization works just as well. Friedman is of course supporting the idea that corporations follow both legal obligations, and also ethical obligations. He is pointing out that if social responsibility has additional costs, someone pays for those costs.
A point Friedman does not state explicitly in this essay, but is implicit to many economists, is that the \”social value\” of a corporation lies partly in the way that it uses know-how and work to organize and combine various resources–workers, physical capital, and knowledge that can range from breakfast recipes to pharmaceutical formulas. By acting in this way, a corporation provides a service that customers believe is worth their money and jobs that workers believe are worth accepting, as well as buying inputs and supplies from other businesses and thus supporting them as well. If a company consistently makes losses and does not earn profits, these benefits will be lost. On the other side, a company that earns profits then has access to finance that could be used to expand in a way that satisfies more customer and hires more workers.
It seems to me that many discussions of the \”social responsibility\” of firms do not pay sufficient attention to these gains from pleasing customers and paying workers and suppliers. Such gains should not be taken for granted.
\”Friedman recognizes that most people, when they invest, look not only at their financial returns but at other dimensions of their investment. However, he also makes an assumption that social activity and business activity are completely separable.
That assumption holds true in the case of donations. If you want to donate a lot of money to your alma mater, you can do it directly through the corporation, or you can distribute the money to shareholders and let the shareholders decide if and how they want to donate it. There is no value destroyed by the donation being made at the shareholder level, and because there is more flexibility in that route—and because I have a different alma mater than many of my fellow shareholders, and we all have different ideas about where our money should go—it is better to push that decision down to the shareholder level rather than doing it at the corporate level. So, if the only social activity we were talking about were corporate donations, Friedman’s principle would be absolutely correct.
However, for most social activities, there are some synergies to decision-making at the corporate level. For example, let’s say I really care about the environment, and I am willing to sacrifice some of my profits to have better management of oil spills. … It costs much more to manage oil spills at the shareholder level than at the corporate level. So maximizing shareholder value and maximizing shareholder welfare are not the same thing. People care about more than just money, and there are things for the sake of which people are willing to forgo some money. …
There are plenty of funds that abstain from investing in certain stocks for reasons unrelated to financial return. Environmentally friendly funds, for instance, don’t invest in oil companies. But while investing in a fund like that might save your soul, it doesn’t save the planet. If everyone who cares about the environment doesn’t invest in a particular company, it will be controlled entirely by people who don’t care about the environment, and they’ll run the company in the most environmentally unfriendly way. If you care about the environment, why not create an environmentally friendly index fund that includes oil companies, and then go to shareholder’s meetings and vote for board members who care about the environment too?
Although Zingales is a strong advocate of giving shareholders a bigger voice to express a broader range of corporate goals, he is also suitably pessimistic about how much this might actually end up accomplishing. An accompanying article in the Chicago Booth Review talks about \”impact investors\” and the \”double bottom line\” strategy when a company sets explicit goals both for profits and also for other objectives, like level of carbon emitted.
Also, it\’s worth remembering that the ultimate decisions about how corporations should pursue social responsibility will be made by corporate executives, who are not a representative group and are not accountable to a democratic process. Marianne Bertrand says:
The main thing that Friedman is worried about is that we would not want to be in an environment where the CEOs of companies, just because they happen to be the CEOs, are deciding for us as a society, as an electorate, which social objectives we care about and which we don’t. We hope that we have a political process in place where the preferences of the electorate about spending on schools or spending on alleviating homelessness would be expressed through the political system, but I think there is a concern that without some guidance as to what social goals companies should be pursuing, especially when those social goals are no longer fully aligned with long-term valuation, we might give corporations too much power.
Or as Zingales adds:
On the one hand, I recognize the gigantic failure of the political system, and so I would like corporations to do more. On the other hand, it’s a risky business because corporations, as Sue was saying, don’t represent all the people. They represent a subset of people. So, if we give them a huge amount of political power, I’m not so sure that they’ll fix the problems the right way.
Here\’s a random assortment of some other thoughts about corporations and social value that have been piling up in my files.
The growth of the liberal market, I would argue, promotes virtue, not vice. Most of the clerisy—themselves, as Bismarck described them with disdain, having “no property, no trade, no industry”—think the opposite: that it erodes virtue. And yet we all take happily what the market gives—polite, accommodating, energetic, enterprising, risk-taking, trustworthy people with property, trade, and industry; not bad people. Sir William Temple attributed the honesty of Dutch merchants in the seventeenth century “not so much [to] . . . a principle of conscience or morality, as from a custom or habit introduced by the necessity of trade among them, which depends as much upon common-honesty, as war does upon discipline.” In the Bulgaria of socialism, the department stores had a policeman on every floor—not to prevent theft but to stop the customers from attacking the arrogant and incompetent staff charged with selling shoddy goods that fell apart instantly. The way a salesperson in an American store greets customers makes the point: “How can I help you?” The phrase startles some foreigners. It is an instance in miniature of the bourgeois virtues.
\”[I]f we’re going to have any possibility of intellectual development we’re going to have to have jobs offering stimulating and challenging opportunities for problem solving, discovery, exploration and so on. And capitalism, like it or not, has so far been an extraordinary engine for generating creative workplaces in which that sort of personal growth and personal development is possible; perhaps not for everybody but for an appreciable number of people, so if you think that it’s a human right to have that kind of a life, then you have on the face of it a justification for capitalism. There has to be something pretty powerful to overturn or override that.”
Yes, businesspeople are flawed human beings. But they are the least-flawed major segment of society. If any such segment deserves our admiration, gratitude, and sympathy, it is businesspeople. …
My prima facie case begins with this basic fact: Businesses produce and deliver virtually all of the wonderful, affordable products that we enjoy. Contrary to millennia of economic illiterates, businesses rarely do so by “exploiting” their workers. Instead, businesses provide gentle but much-needed leadership. Left to our own economic devices, most of us are virtually useless; we don’t know how to produce much, and we don’t know how to find customers. Businesspeople solve these problems: They recruit workers, organize them to vastly raise their productivity, then put these products in the hands of customers all over the world. Yes, they’re largely in it for the money; but – unlike every government on Earth – business rarely puts a gun to your head. Businesses assemble teams of volunteers to meet the needs of willing consumers – and succeed wildly….
I love businesses because they treat me the way I like to be treated. When businesses want me to buy their products, they almost never nag, shame, preach, condescend, or troll. They make offers, politely say “If you have any questions, you can reach me here” – and then leave me in peace. I know business doesn’t love me, but it would be awkward if it did. What I seek is common decency – and that’s what business almost always offers. …
Many will think me naive, but there are few more disillusioned than I am. I don’t believe that good or truth wins out in the end. I don’t believe in the American system of government. I don’t believe in the wisdom of the American people. I don’t believe in religion. I don’t believe in the media. I certainly don’t believe in our education system. I believe in my immediate family, my closest friends, my own ideas. And business. It’s not perfect, but it’s still nothing short of a miracle.
I\’ll add one more observation. When a person lives their life among college students, as I do, it\’s pretty common to hear talented young adults say with considerable emphasis that they want to work for a non-profit. If the time seems right, I sometimes try to start a conversation about this emphasis. After all, both for-profits and non-profits face budget constraints. Both have reasons to hold down costs and act efficiently, although both may fail to do so. Both need sources of finance, and may need to tap banks or capital markets to get it.
The classic argument why some sectors may be non-profit is that for-profits may be tempted to sacrifice quality: for example, we might be suspicious of have privately owned prisons, because we fear that they will not meet a minimum standard of how to treat people. We might be suspicious of for-profit colleges or for-profit hospitals for related reasons. The concern is a fair one. But it\’s also worth remembering that markets often deliver certain kinds of quality quite well, from food in a supermarket to a smartphone. And some nonprofits may lack incentives to raise their game and improve quality of output, while providing highly paid jobs to some top executives.
For those concerned with protecting the environment, or providing food and housing to the poor, or other social responsibility goals, there is always a choice about working within the market system or outside it. One of my friends who has a strong interest in recent immigrants helped created a market for them to sell their handicrafts through a string of stores in several cities. Another one of my strong environmentalist friends worked for giant real estate developers as a hydro-geologist, trying to make sure that such projects would do as little to damage the water table as possible–or maybe even do some good. When it comes to the for-profit/non-profit distinction, and the issues of how to contribute to the many goals embodied in the label of \”social responsibility,\” it seems important to me to dig deeper than quick-twitch reactions of approval and disapproval.
About 25-30% of all US workers are in a job that requires an occupational license; for comparison, 10.7% of US wage and salary workers are in a union. The usual justification given for occupational licenses is that they are needed to protect the health and safety of the public. But economists going all the way back to Adam Smith in 1776 (who focused on the issue of how overly long apprenticeships limit labor market competition in Book I, Chapter 10 of the Wealth of Nations) have harbored the suspicion that they also might serve to reduce competition in the labor market and thus help those who have the license achieve higher pay.
Occupational licenses are typically granted at the state level, which offers an interesting insight into these issues. If high quality service is the main reason for occupational licensing, then it should be pretty easy for someone who is qualified in one state to work in another state. If blocking labor market competition is the main reason for occupational licensing, then it will be pretty hard for someone who is qualified in one state to work in another state. In practice, it\’s often pretty hard to move between states. The Federal Trade Commission examines this issue in \”Policy Perspectives: Options to Enhance Occupational License Portability\” (September 2018).
The FTC cites the substantial economic literature which makes the point that \”while licensing may increase the wages of licensees at the expense of higher prices paid by consumers, studies show that it does not improve quality.\” On the issue of those with an occupation license working in another state, the FTC notes (footnotes omitted):
\”It is particularly hard to justify licensing-related barriers to entry when a practitioner qualified and licensed by one state wishes to provide identical services in another state. Because licensing rules are almost always state-based, it can be difficult for a qualified person licensed by one state to become licensed in another state. For some occupations, state licensing standards vary considerably, so applicants licensed in one state may need additional education or training to qualify to practice in another state. Even when a profession’s underlying standards are national and state licensing requirements are similar throughout the United States, the process of obtaining a license in another state is often slow, burdensome, and costly. Indeed, a recent study shows that occupational licensure requirements may substantially limit the interstate mobility of licensed workers, especially for occupations with state-specific licensing requirements.
\”State-based licensing requirements are particularly burdensome for licensees who provide services in more than one state, and thus need multistate licensing. They are also especially hard on military families, because trailing spouses often follow service members who are required to move across state lines, and therefore must bear the financial and administrative burdens of applying for a license in each new state of residence. The need to obtain a license in another state can sometimes even lead licensees to exit their occupations when they must move to another state.
\”Multistate licensing requirements can also limit consumers’ access to services. For example, licensure requirements can prevent qualified service providers from addressing time-sensitive emergency situations across a nearby state line or block qualified health care providers from providing telehealth services to consumers in rural and underserved locations.\”
Some professions in some states have addressed this issue. Some states have joined interstate compacts so that those licenses in one state would be able to work i other states in the compact: for example, such agreements exist for nursing, physicians, physical therapists, and others. Another approach is to write a model law or rule for occupational licenses, so that qualifying in one state will be the same as qualifying in another state, an approach followed by accountants, pharmacists, and some others. Related to these options, some states have provisions that allow mutual recognition of certain occupational licenses from the other state, or expedited licenses in one state for those who already have a similar license in another state.
But substantial issues remain. The canaries in the mineshaft here are the working spouses of those in the military. About 35% of them work in jobs that require occupational licenses, and they are often shifting between US states every 2-4 years. Teachers, as one common example, often find it hard to shift their licensing between states. The US economy would benefit from greater mobility and fewer workers feeling stuck in place.
Postscript: For those who find themselves prone to dismiss anything that smacks of deregulation, especially if it arrives from a Trump/Republican administration, it\’s perhaps worth noting that the FTC has been studying this issue and expressing concerns going back at least to 1990. Indeed, economists in the Obama administration raised essentially the same concerns about occupational licensing and the importance of portability across state lines. For a flavor of the earlier discussion, see \”Occupational Licensing and its Discontents\” (August 5, 2015).
My focus here is on the notion that if we \”don\’t trade anymore–we win big. It\’s easy!\”
If this statement is true, then it seems to me that the Trump administration is wasting our time with wishy-washy economic diplomatic incentives to reduce imports from other countries, like tariffs and talks over trade rules. If no trade is a big win, then a serious trade policy sounds like this: Let the US announce that trucks or ships or planes carrying exports from other countries to the US will be destroyed by the US military if they approach US borders. We will extend multiple warnings and give those imports a chance to turn back. But if they do not, then carry through on the threat. After all, the goal is slashing imports. It\’s easy to win! We win big!
However, it stands to reason that if the US economy wins big from not receiving imported products from other countries, then presumably the economies of those other countries would win big from not receiving US exports, either. If imported products hurt the recipient nation, then a literal military war against trade seems certain to be beneficial for all–rather like many countries coordinating in a public health effort to wipe out a disease that crosses national borders.
I suppose the other response is to argue that President Trump and his advisers are only opposed to trade imbalances, and would support balanced trade. But the argument that \”no trade beats trade imbalances\” doesn\’t much affect the case for a physical war against trade. After all, the United States could allow imports as long as US exports exceed imports, but then threaten to destroy all imports above that level. I\’ve tried to explain why this view of trade imbalances is benighted (among other places, here and here), and won\’t go through it again here. But the lack of recognition of gains from trade is quite remarkable.
Moreover, when someone takes the positions that 1) no trade at all would be a big win; 2) pretty much all imports should be made in the US regardless of cost; and 3) international trade is a scoreboard where exports are points for the home team and imports are the points for the opposition; and 4) the US should ignore all existing trade agreements like the World Trade Organization in favor of bilateral tariffs–well, it requires greater mental plasticity than I can achieve to believe that their ultimate goal is to increase gains from trade by reducing barriers to movement of goods and services across international borders.
In the world of the web, perhaps it is necessary to close by adding that I do not favor a war on trade, either tariff-driven or military. I offer this rumination about a physical war on trade in the hope that it will make the anti-trade agenda look less attractive, rather than more so.
It was 10 years ago in September 2008 that the worst of the financial panic crashed through the US economy. Where might the next financial crash be lurking? In a speech last week, Federal Reserve Governor Lael Brainard pointed to some possible candidates. She said:
\”The past few times unemployment fell to levels as low as those projected over the next year, signs of overheating showed up in financial-sector imbalances rather than in accelerating inflation. The Federal Reserve\’s assessment suggests that financial vulnerabilities are building, which might be expected after a long period of economic expansion and very low interest rates. Rising risks are notable in the corporate sector, where low spreads and loosening credit terms are mirrored by rising indebtedness among corporations that could be vulnerable to downgrades in the event of unexpected adverse developments. Leveraged lending is again on the rise; spreads on leveraged loans and the securitized products backed by those loans are low, and the Board\’s Senior Loan Officer Opinion Survey on Bank Lending Practices suggests that underwriting standards for leveraged loans may be declining to levels not seen since 2005.\”
A few points are worth emphasizing here. As Brainard is pointing out, the last couple of decades suggest that the primary risk of recession in the US economy is not likely to arise from a jolt of inflation. Instead, the last two recessions were associated with financial market stress: the end of the dot-com boom in 2001, and the end of the housing price boom in 2008-2009.
Since the Great Recession, a number of steps have been taken to assure that banks are safer and more resilient (higher capital requirements, stress testing, and the like). But the US financial system is a lot bigger than just the banks, and financial troubles can come from a number of directions. What about the two risks that Brainard specifically mentions: corporate debt and leveraged loans?
\”Now, 12 years later, it’s happening again. This time, however, it’s not households using cheap debt to take cash out of their overvalued homes. Rather, it is giant corporations using cheap debt — and a one-time tax windfall — to take cash from their balance sheets and send it to shareholders in the form of increased dividends and, in particular, stock buybacks. As before, the cash-outs are helping to drive debt — corporate debt — to record levels. As before, they are adding a short-term sugar high to an already booming economy. And once again, they are diverting capital from productive long-term investment to further inflate a financial bubble — this one in corporate stocks and bonds — that, when it bursts, will send the economy into another recession.\”
\”[I]f companies in Western Europe and China were to match the appetite of US corporations for bond financing, their markets would double and triple in size, respectively. … A shift toward bond financing has been observed in all regions. In the United States, bonds accounted for 19 percent of all corporate debt financing in 2000; by 2016, that share had jumped to 34 percent. … Companies in the United States still lead the world in issuance with $860 billion issued in 2017 …\”
A larger share of US corporate bonds are being issues with lower ratings, and by companies that already have higher levels of debt. These bonds promise to pay high interest rates (to make up for their higher risk of default), and a large volume of such bonds will need to be refinanced in the next few years:
\”In the United States, almost 40 percent of all nonfinancial corporate bonds are now rated BBB, just a few steps above noninvestment grade, up from 22 percent in 1990 and 31 percent in 2000, according to Morgan Stanley. Overall, BBB-rated US nonfinancial corporate bonds outstanding total $1.9 trillion—almost twice the size of the high-yield bond market. Issuers are also more heavily indebted than before. The net leverage ratio for BBB issuers rose from 1.7 in 2000 to 2.9 in 2017 … Noninvestment-grade bonds carry higher default risk, which increases the vulnerability of the corporate bond market.15 In the coming years, a record amount of speculative-grade corporate bonds could need refinancing. In the United States, for instance, the share of maturing bonds that are high yield is expected to grow from 11 percent in 2017 to 27 percent in 2020. The absolute amount—at least $180 billion of high-yield bonds coming due in 2020—will be almost three times the amount in 2017. If current high-yield issuance trends continue, that share will rise even more.\”
Behind the scenes, what\’s happening here is that with bank regulation tightening up and interest rates so low, companies have turned to borrowing with bonds, including higher risk bonds that promise higher interest rates. There are dangers here for past investors in these bonds. But perhaps the bigger danger for the economy is that US companies have become accustomed in the last few years to the idea that they can raise large sums in corporate debt markets at relatively low cost. If investors decide that these corporate bonds actually are riskier than they had thought, the amount of capital flowing to the corporate sector could dry up rather quickly. This is a scenario discussed by William Cohan in an interview at the Wharton School on the topic: \”How Dangerous is the Corporate Debt Bubble?\” (August 20, 2018). Cohan says:
\”One never knows what the catalyst is going to be for the next financial crisis. … But the truth is nobody rings a bell at the top of the market and says, `That’s it. It’s over. It’s been fun, guys. It’s all downhill from here.\’ When I was a banker 27 years ago, the management of United Airlines (UAL) was trying to take it private in what was then one of the largest management buyouts of all time. They had got the commitment letter from Citibank to finance that deal. But suddenly Citibank went back to the management and said, we can’t finance this deal, the market is not there for this buyout. This was in 1991, four years after the stock market crash of 1987. It became a huge problem and shut down the credit markets for the next two or three years. The fact that the UAL buyout could not be financed in the market was the signal that the party was over, and that we were now heading into a severe credit crunch. Anything could be a catalyst. Maybe Tesla trying to go private will be a catalyst for this market shutting down. And that is when real trouble happens. Because people who had nothing to do with it, with the excess, can’t get access to capital.\”
If this kind of scenario emerges, it will be made more difficult by the archaic ways in which corporate bonds are still traded, which makes it more difficult for them to be easily bought and sold in liquid markets. The McKinsey report notes:
\”Bond markets need to enter the digital age. Despite being worth $11.7 trillion, the market is surprisingly antiquated, with little transparency or efficiency. While equities can be traded at the click of a button, buying and selling corporate bonds often requires a phone call to a trading desk at an investment bank, and there is little transparency on the price the buyer is quoted. This method of trading still accounts for more than 80 percent of volume in the United States.\”
Concerns about leveraged loans have been around for a few years now: for example, here are some comments I made back in 2014. The issues here also relate to corporate debt, but in the loan market, rather than the bond market. In the case of leveraged loans, a group of banks get together and make a loan to a company. The banks then package this loan (or a group of similar loans) into financial securities that are then re-sold to investors across all financial markets. Those who remember the experiences of 2008, when mortgages from subprime housing loans were packaged together and sold to investor and financial institutions around the world, will see some worrisome parallels.
\”But the leveraged loan boom is storing up some nasty problems. In their desperation to gobble up higher-yielding loans from riskier borrowers, investors have — initially reluctantly so, but recently with reckless abandon — accepted fewer and fewer of the legal protections that typically guard their rights. These `covenants\’ restrict how much a creditor can pay shareholders in dividends, how much more debt they can take on, or what security lenders can seize in a bankruptcy. But the average covenants are now `distressingly weak\’, according to Moody’s. Indeed, the rating agency’s index that measures the average quality of legal protections hit its worst-ever level this year. …
\”Before the financial crisis, about a quarter of the leveraged loan market was termed “covenant-lite”; today it stands at almost 80 per cent, according to Moody’s. Almost two-thirds of the entire market now has a lowly credit rating of B2 or worse, up from 47 per cent in 2006. In other words, an already junky market has deteriorated further. … Christina Padgett, senior vice-president at Moody’s, warned: “The combination of aggressive financial policies, deteriorating debt cushions, and a greater number of less creditworthy firms accessing the institutional loan market is creating credit risks that foreshadow an extended and meaningful default cycle once the current economic expansion ends.” …
\”Specialised investment vehicles known as “collateralised loan obligations” are the biggest buyers of leveraged loans. Issuance of CLOs reached $69bn in the first half of the year, leading S&P to lift its full-year forecast to a record $130bn. But there are a multiplying number of mutual funds and ETFs dedicated to leveraged loans. At the start of 2000 there were only 15 such funds. On the eve of the financial crisis there were less than 90. Today, there are 272 different loan mutual funds, and another eight ETFs that buy loans, according to AllianceBernstein. These have sucked in more than $84bn just since 2010. This looks like an accident waiting to happen. While CLOs have locked-up investor money, mutual funds and ETFs promise investors the ability to redeem whenever they like, despite the underlying loans trading rarely. Even the trade settlement process takes weeks. A loan market downturn could therefore escalate into a severe “liquidity mismatch” between the investment vehicles and their underlying assets, which turns a fire-sale into an inferno.\”
Dealing with financial stresses before they turn into crises is hard to do. But not doing so can have harsh consequences, as I hope we learned 10 years ago in the Great Recession.
Aaron Steelman interviews Chad Syverson in Econ Focus (Federal Reserve Bank of Richmond, Second Quarter 2018, pp. 22-27). The interview ranges from broader discussion of slower aggregate productivity growth to comments about productivity in specific industries: health care, car production, ready-made concrete, big box and mom-and-pop retail, major auditing firms, investment choices in Mexico\’s social security system, and others. Here are a few of the many points that caught my eye.
Should we be concerned about artificial intelligence replacing human labor?
\”We have always found things for people to do. If you go back to the middle of the 19th century, more than 60 percent of the workforce was employed in farming. Now it\’s about 2 percent. Well, we figured out something for the rest of us to do. So I don\’t worry about that very much. That said, if I could invent a machine that made everything we consume now and we didn\’t have to work an hour, I would take that. That\’s not a bad thing. It does create a distributional issue. Are you going to give all that output to the person or persons who own the machine? I think we could agree that\’s not a good outcome. So we would have to figure out how to distribute the productivity gains that would arise. But inherently, we shouldn\’t think of it as a problem.\”
Why are productivity differences rising among firms in the same industry?
\”An important fact is that the skewness of everything is increasing within industries. Size skewness, or concentration, is going up. Productivity skewness is going up. And earnings skewness is going up. To describe why our earnings are stretching out like this, why there is a bigger gap between the right tail and the median, I think you have to understand the phenomenon of increasing skewness in productivity and size. Is that technological? Is it policy? Is it a little bit of both? I don\’t think we really know the answer. That said, I think it\’s less of a mystery now than it was when I started working on this many years ago back in graduate school. …
\”The biggest change is the amount of work that has been done on management practice … and there\’s no doubt productivity is correlated with certain kinds of management practices. People have also developed more causal evidence. There have actually been some randomized controlled trials where people intervened in management practices and saw productivity effects. Is that all of the story? No, I don\’t think so. If I had to guess, it\’s probably 15 to 25 percent of the story. There\’s a lot more going on. I think part of it has to do with firm structure. I have done work on that. …
\”But I do think the fact that management is often just mistaken is a nontrivial factor. … Also, I think even if you know you have a problem, a lot of firms can\’t simply say, well, we see this competing company over there has an inventory management tracking system that seems really useful, so we\’ll install it on our computers and our problems will be solved. That\’s not how it works. …
\”An example I talk about in class a lot is when many mainline carriers in the United States tried to copy Southwest and created little carriers offering low-cost service. For instance, United had Ted and Delta had Song. They failed because they copied a few superficial elements of Southwest\’s operations, but there was a lot of underlying stuff that Southwest did differently that they didn\’t replicate. I think that presents a more general lesson: You need a lot of pieces working together to get the benefits, and a lot of companies can\’t manage to do that. It also typically requires you to continue doing what you have been doing while you are changing your capital and people to do things differently. That\’s hard.\”
Is vertical ownership more about data and management than about actual goods?
\”[W]e found that most vertical ownership structures are not about transferring the physical good along the production chain. Let\’s say you are a company that owns a tire factory and a car factory. When you look at instances analogous to that, most of the tires that these companies are making are not going to the parent company\’s own car factory. They are going to other car factories. In fact, when you look at the median pair, there\’s no transfer of goods at all. So the obvious question becomes: Why do we observe all this vertical ownership when it\’s not facilitating the movement of physical goods along a production chain? What we speculated, and then offered some evidence for, was that most of what\’s moving in these ownership links are not tangible products but intangible inputs, such as customer lists, production techniques, or management skills.
\”If that story is right, it suggests a reinterpretation of what vertical integration is usually about in a couple of ways. One, physical goods flow upstream to downstream, but it doesn\’t mean intangibles have to flow in the same direction. Management practices, for instance, could just as easily go from the downstream unit to the upstream unit.
\”The second thing is that vertical expansions may not be as unique as we have thought. They may not be particularly different from horizontal expansions. Horizontal expansions tend to involve firms starting operations in a related market, either geographically or in terms of the goods produced. We\’re saying that also applies to vertical expansion. A firm\’s input supplier is a related business, and the distributor of its product is a related business. So why couldn\’t firms take their capital and say, well, we think we could provide the input or distribute the product just as well too? So, conceptually, it\’s the same thing as horizontal expansion. It\’s just going in a particular direction we call vertical because it\’s along a production chain. But it\’s not about the actual object that\’s moving down the chain.
\”We were able to look at this issue, by the way, because we had Commodity Flow Survey microdata, which were just amazing. It\’s a random sample of shipments from a random sample of establishments in the goods-producing and goods-conveying sectors of the U.S. economy. So, if you make a physical object and send it somewhere, you\’re in the scope of the survey. We get to see, shipment by shipment, what it is, how much it\’s worth, how much it weighs, and where it\’s going. And then we can combine that with the ownership information in the census to know which are internal and which are external.\”
For those who want more, here are links to a few examples of Syverson\’s work published in the Journal of Economic Perspectives, where I labor in the fields as Managing Editor:
