1. The U.S. Treasury issues bills/bonds when it needs to borrow money.
2. Buying a bond is lending money. Banks, insurance companies, and other financial intermediaries buy bonds with reserves. They also make other types of loans. (Banks only keep a fraction of all reserves (deposits) on hand to meet the liquidity demands of their depositors. They loan out most reserves in order to earn a profit on the interest rate spread - pay one rate of interest to depositors and charge another, higher, rate to borrowers).
3. Bond prices and interest rates move in opposite directions. Why?
Because buying a bond is lending money. An increase in the demand for bonds will, like an increase in the demand for apples, put upward pressure on the price of bonds and send interest rates lower. Or, look at it this way. Someone buys a $100 bond and the interest rate is 10% so that at the end of one year the bond can be redeemed for $100 plus $10 in interest. Then, right after buying the bond, interest rates fall to 3%. Now the holder of that bond can sell the $100 bond for something more than $100... because current interest rates are only 3%.
4. Treasury Bond/Bill maturities vary. One month, three month, 6 month, one year...
5. Monetary stimulus: The Fed, the central bank, typically buys and sells short-term bonds when conducting monetary policy. When the Fed buys bills (short term bonds) it creates the money to do so. Roughly, it credits the bondholder (bank) by increasing the reserves that the bank has at the regional Fed (member banks have accounts at the Fed. The Fed is the bankers' bank, the lender of last resort). The bank, the seller of the bond, now has cash, excess reserves that it is free to lend to a borrower in the private sector. When the Fed demands bonds it sends the price of bonds higher and interest rates lower. It is increasing liquidity, creating money.
6. Liquidity trap: When interest rates are very low as they are now (short term rates are as low as they can go), then it might be that conventional monetary policy does not stimulate increased lending and borrowing. If the Fed buys short-term bonds that pay less than 1% per year then the bank has merely substituted one low yield asset, a Treasury Bill, for another - cash reserves. Lenders, in a time of uncertainty and credit risk, are reluctant to lend - liquidity is trapped. Banks might choose to hold excess reserves instead of making more loans. Monetary stimulus doesn't stimulate.
7. Fed has more bullets: The Fed can also buy agency debt - bonds issued by the likes of Fannie Mae and Freddie Mac (google TALF). Again the Fed can create money to buy bonds (lend to GSE's). The Fed can, and will, buy longer term Treasury bonds. Again, this sends the price of those bonds up and longer term interest rates down. This should increase liquidity that can then be used to loan to riskier borrowers (everyone is riskier than the U.S. government).
Notes:
Bernanke is a great scholar of the Great Depression. Milton Friedman's great contribution was his assertion that the Great Depression was primarily a monetary phenomenon. The Fed, according to Friedman, failed at the onset of the downturn to act as the lender of last resort. They allowed banks that were otherwise solvent to fail via bank runs. They should have added liquidity. The money supply contracted. Interest rates rose. The recession quickly deepened.
As the money supply fell prices fell - deflation. Big problem, two actually. With falling prices it becomes rational, for banks and people, to horde money. Banks don't lend; holding money has a positive return. People don't spend; better to wait for prices to fall further. Second problem - the real value of debt increases. Suppose you owe $10,000. As prices and wages fall the real value of your debt increases.
I think the Fed has a very healthy fear of deflation and buying long-term Treasuries - increasing the money supply substantially - is inflationary. Mortgage interest rates should fall. Re-finance activity should increase.
I refinanced about six weeks ago and went from 6.25% on a 30 year note to 4.75%. This will save me nearly $200 per month. Multiply this by many households and you're talking about a real stimulus. Falling housing prices are a real problem. People lose equity and consumption falls. If housing prices increase nominally, not in real terms (they increase at the rate of prices and wages generally) then that should help to stabilize the economy.
Active fiscal and monetary policy are short-term remedies. Long-run growth is not achieved via tinkering with the money supply and by engaging in massive deficit spending. Indeed there are costs associated - inflation and paying down the debt. Long run growth, for any country, is achieved via improvements in techology, improvements in human capital (health and education), stable prices (good monetary policy), fiscal discipline, respect for property rights, and through free and fair markets.
I think Bernanke will be seen as a great Fed chairman in years to come. We'll see. Obama? Depends on one's perspective. If GDP is growing and unemployment is down two years from now he'll cruise to re-election. Supporters will claim his fiscal stimulus worked while others will say that it didn't hinder recovery a great deal.
On Keynesian economics: According to a recent Amer. Economic Association survey of PhD economists, 90% believe that fiscal policy can be used to stimulate an economy in recession. 85% believe, as did Keynes, that the budget should be balanced over the course of the business cycle. That is to say that deficit spending should be employed at the onset of a downturn but the debt should be re-paid when growth returns. In other words, fiscal policy should be used to smooth the business cycle.
Wednesday, March 18, 2009
Friday, February 27, 2009
A humble attempt to provide some clarity on the question of taxes
Harvard economist Greg Mankiw posts data (2005 data) on the average federal tax rates (tax liability / income). It shows that the top quintile (20%) pays an average tax rate about 6 times what the bottom quintile pays, 25.5% versus 4.3% This is all federal taxes - income, payroll, and excise taxes. This is so because we have a progressive tax system - the higher your income the greater percentage of that income is paid in taxes. But, it is only the income tax that is progressive.
Some more data though adds clarity. That same year the highest quintile (20%) of households earned about 55.1% of all income. They paid about 68.7% of all federal taxes. The lowest quintile earned about 4% of all income and paid about 1% of all taxes. Still progressive. However, if you add state and local taxes - sales and property taxes and in some cases an income tax - it is less progressive. Sales and property taxes are not progressive and only some states have a progressive income tax. (A good graph can be found here but I can't find the source and am curious to see if it is accurate) Simple interpretation, while rich folks pay a higher percentage of their income than do less affluent people on income taxes, less affluent people tend to pay higher percentage than rich people on payroll and sales taxes.
It should be noted that there is progressivity on the spending side - poorer folks benefit disproportionally from the spending - at least as measured by direct transfers.
My comment: We'll waste all kinds of energy and emotion on debating and provoking with respect to "taxes on the rich" (how progressive our income tax code should be) when the more important argument should be had on tax simplification and role and size of government. Eliminating the more distortionary taxes - capital gains and the payroll tax - in a tradeoff for higher income taxes all around would help. I'd throw in a higher gas tax too to help offset the increase in income taxes. A simple and predictable flat tax on income beyond a certain level of income (the bottom quintile pays no income tax right now anyway) would increase efficiency and clarity.
Consider for a moment the distortionary nature of the mortgage interest deduction. It is a subsidy that goes to rich and middle income alike yet the idea is to encourage home ownership. Does anyone thing that higher income people would not own a home were it not for mortgage interest deductibility? It increased home prices; that's what subsidies do. It encouraged people to buy more house - get a bigger mortgage - than they otherwise would have. It encouraged people to borrowing against their house in order to consume - so much for eliminating the deductibility of consumer loans. It is bad energy policy; bigger homes use more energy.
Some more data though adds clarity. That same year the highest quintile (20%) of households earned about 55.1% of all income. They paid about 68.7% of all federal taxes. The lowest quintile earned about 4% of all income and paid about 1% of all taxes. Still progressive. However, if you add state and local taxes - sales and property taxes and in some cases an income tax - it is less progressive. Sales and property taxes are not progressive and only some states have a progressive income tax. (A good graph can be found here but I can't find the source and am curious to see if it is accurate) Simple interpretation, while rich folks pay a higher percentage of their income than do less affluent people on income taxes, less affluent people tend to pay higher percentage than rich people on payroll and sales taxes.
It should be noted that there is progressivity on the spending side - poorer folks benefit disproportionally from the spending - at least as measured by direct transfers.
My comment: We'll waste all kinds of energy and emotion on debating and provoking with respect to "taxes on the rich" (how progressive our income tax code should be) when the more important argument should be had on tax simplification and role and size of government. Eliminating the more distortionary taxes - capital gains and the payroll tax - in a tradeoff for higher income taxes all around would help. I'd throw in a higher gas tax too to help offset the increase in income taxes. A simple and predictable flat tax on income beyond a certain level of income (the bottom quintile pays no income tax right now anyway) would increase efficiency and clarity.
Consider for a moment the distortionary nature of the mortgage interest deduction. It is a subsidy that goes to rich and middle income alike yet the idea is to encourage home ownership. Does anyone thing that higher income people would not own a home were it not for mortgage interest deductibility? It increased home prices; that's what subsidies do. It encouraged people to buy more house - get a bigger mortgage - than they otherwise would have. It encouraged people to borrowing against their house in order to consume - so much for eliminating the deductibility of consumer loans. It is bad energy policy; bigger homes use more energy.
Thursday, February 26, 2009
Race, partisanship, and self-interest
If Bobby Jindal's mom was pregnant before she came from India to the United States, does that make him an "anchor baby" in the GOP's eyes?
A local bloggger and Democratic activist (Braisted) asked that question yesterday. I challenged it by opining that the immigration debate did not break cleanly along partisan lines. The blogger insisted that his take was accurate. Another blogger and Dem activist challenged echoed the first...
The GOP can throw all of the brown faces out there it wants. That doesn’t change the fact that there’s a huge racist faction within the Republican Party. Until they acknowledge it and deal with it, it won’t be going away.
This is bizarre.
If the GOP has a large racist faction that they want to appease why would they "throw a brown face out?" Put another way, couldn't "throwing Jindal's brown face out" be interpreted as trying to attract more minorities? Is the elevation of Michael Steele a signal that the Republican party is not dealing with "a huge racist faction?"
And what of immigration and race considerations?
"Every hour sees the black man elbowed out of employment by some newly arrived emigrant."
That's Frederick Douglass. What about Booker T. Washington?
"The continual stream of well-trained European laborers flowing into the West," warned educator Booker T. Washington in an 1882 speech, "leaves Negroes no foothold."
Marcus Garvey in 1920 speaking in favor of tighter immigration...
"We will be out of jobs, and we will be starving."
My suspicion is that the districts who voted most heavily for Obama are also the districts most in favor of immigration restrictions. But the more important point is that it is often not about race but economic self-interest.
A local bloggger and Democratic activist (Braisted) asked that question yesterday. I challenged it by opining that the immigration debate did not break cleanly along partisan lines. The blogger insisted that his take was accurate. Another blogger and Dem activist challenged echoed the first...
The GOP can throw all of the brown faces out there it wants. That doesn’t change the fact that there’s a huge racist faction within the Republican Party. Until they acknowledge it and deal with it, it won’t be going away.
This is bizarre.
If the GOP has a large racist faction that they want to appease why would they "throw a brown face out?" Put another way, couldn't "throwing Jindal's brown face out" be interpreted as trying to attract more minorities? Is the elevation of Michael Steele a signal that the Republican party is not dealing with "a huge racist faction?"
And what of immigration and race considerations?
"Every hour sees the black man elbowed out of employment by some newly arrived emigrant."
That's Frederick Douglass. What about Booker T. Washington?
"The continual stream of well-trained European laborers flowing into the West," warned educator Booker T. Washington in an 1882 speech, "leaves Negroes no foothold."
Marcus Garvey in 1920 speaking in favor of tighter immigration...
"We will be out of jobs, and we will be starving."
My suspicion is that the districts who voted most heavily for Obama are also the districts most in favor of immigration restrictions. But the more important point is that it is often not about race but economic self-interest.
Wednesday, February 25, 2009
Required reading for liberals
Liberals are more optimistic about the capacity of individual reason and the government’s ability to execute transformational change. They have more faith in the power of social science, macroeconomic models and 10-point programs.
That's David Brooks in the New York Times offering a pretty darn good summary of the difference between liberals and conservatives in an age where making meaningful distinctions has become more difficult.
I disagree with his last point, that the success or failure of the Obama administration will solve the question of who has it right, liberals or conservatives. It will not be easy to make definitive judgments with respect to the success of the myriad initiatives. Besides, we'll not know how things would have turned out with an alternative approach.
That's David Brooks in the New York Times offering a pretty darn good summary of the difference between liberals and conservatives in an age where making meaningful distinctions has become more difficult.
I disagree with his last point, that the success or failure of the Obama administration will solve the question of who has it right, liberals or conservatives. It will not be easy to make definitive judgments with respect to the success of the myriad initiatives. Besides, we'll not know how things would have turned out with an alternative approach.
Tuesday, February 24, 2009
The Good, the Bad, and the Ugly
Obama looked good. No surprise there. The contrast - Biden and Pelosi sitting behind him - helped.
Bad: On energy... when is a major political figure going to propose the single most important policy to improve national and economic security - a higher gas tax? A third rail? Not so. Offset it with a decrease in the payroll tax. Jindal gets points for promoting domestic energy production.
Good: On healthcare... Obama didn't use the term but what he described at one point sounded like Health Savings Accounts. Yes! Expand high deductible insurance combined with savings accounts which are tax free that can be tapped to pay for routine care.
Bad: No mention of transitioning away from employer based health care in the private sector. This stifles job creation and decreases dramatically the mobility of labor. How many people stay in jobs they otherwise hate because they depend on the health benefits?
Good (Great even): Obama plugged charter schools. Do progressives now have cover to support charter schools? Can mayors start pushing them more aggressively? Will the Tennessee legislature expand the option so that kids not from "failing" schools can go to a charter school? Jindal was even better here. He talked of enabling children to go to parochial schools.
Bad: Enough with the obsession with the goal that everyone should go to college. Cite all the statistics you want on income but correlation is not causation. You can be a very productive citizen without ever stepping foot onto a college campus. Subsidies for college have enabled colleges to increase tuition far above the rate of inflation for long enough.
Really Bad: Subsidizing early education is a joke. Where does it say that putting four year olds in classrooms is the only way to educate them? Talk about a power grab. This is government reaching toward the cradle. Is it now a radical idea to think that families are more capable and better suited to raise kids? Show me one shred of evidence that suggests that kids scribbling in classrooms has any long-term positive impact.
Good: Jindal acknowledged the reality that Republicans lost credibility on fiscal discipline.
Good: Two smart guys spoke, were positive, and laid out fundamental differences. Bobby Jindal, Mark Sanford, and Tim Pawlenty impress me as worthy candidates. Nothing against Sarah Palin; she has a great story and I can relate to her on many levels but she is not in the same league.
Bad: On energy... when is a major political figure going to propose the single most important policy to improve national and economic security - a higher gas tax? A third rail? Not so. Offset it with a decrease in the payroll tax. Jindal gets points for promoting domestic energy production.
Good: On healthcare... Obama didn't use the term but what he described at one point sounded like Health Savings Accounts. Yes! Expand high deductible insurance combined with savings accounts which are tax free that can be tapped to pay for routine care.
Bad: No mention of transitioning away from employer based health care in the private sector. This stifles job creation and decreases dramatically the mobility of labor. How many people stay in jobs they otherwise hate because they depend on the health benefits?
Good (Great even): Obama plugged charter schools. Do progressives now have cover to support charter schools? Can mayors start pushing them more aggressively? Will the Tennessee legislature expand the option so that kids not from "failing" schools can go to a charter school? Jindal was even better here. He talked of enabling children to go to parochial schools.
Bad: Enough with the obsession with the goal that everyone should go to college. Cite all the statistics you want on income but correlation is not causation. You can be a very productive citizen without ever stepping foot onto a college campus. Subsidies for college have enabled colleges to increase tuition far above the rate of inflation for long enough.
Really Bad: Subsidizing early education is a joke. Where does it say that putting four year olds in classrooms is the only way to educate them? Talk about a power grab. This is government reaching toward the cradle. Is it now a radical idea to think that families are more capable and better suited to raise kids? Show me one shred of evidence that suggests that kids scribbling in classrooms has any long-term positive impact.
Good: Jindal acknowledged the reality that Republicans lost credibility on fiscal discipline.
Good: Two smart guys spoke, were positive, and laid out fundamental differences. Bobby Jindal, Mark Sanford, and Tim Pawlenty impress me as worthy candidates. Nothing against Sarah Palin; she has a great story and I can relate to her on many levels but she is not in the same league.
Who cares?
The nation not only needs the injection of money, it needs to see that somebody somewhere cares about what is happening.
That from yesterday's staff editorial in the Tennessean defending the federal fiscal stimulus. Hard to argue such a point - that it is important, necessary even, for people to understand that government cares - but the argument is worthwhile nonetheless. However, it is not so much a matter of whether to care or not but rather how that caring manifests itself. Let's assume that the primary purpose of the stimulus is to alleviate suffering rather than to "jumpstart" economic growth. Seems there is a powerful argument to be made that the massive spending is not focused enough on alleviating suffering, that it is unclear how spending designed to bring alternative energy to market or weatherize government buildings does little, in the short term, to alleviate suffering.
Also noteworthy is that some folks are doing well due to the downturn. Dollar General revenue is way up, shoe repair services are doing a brisk business, and seed companies are selling more seeds (I just placed my order). Apparently Breyer's is selling more ice cream. Used car salesmen are very busy.
Defending the fiscal stimulus package is one thing but shouldn't there be some mention of the trade off? Some mention that some sectors of the economy are counter-cyclical, that the market does work and we see plenty of evidence?
The notion that people who favor and promote free markets don't care has to be challenged. At times like this it is helpful to listen to a smart Jew and a dumb Irish-Catholic.
That from yesterday's staff editorial in the Tennessean defending the federal fiscal stimulus. Hard to argue such a point - that it is important, necessary even, for people to understand that government cares - but the argument is worthwhile nonetheless. However, it is not so much a matter of whether to care or not but rather how that caring manifests itself. Let's assume that the primary purpose of the stimulus is to alleviate suffering rather than to "jumpstart" economic growth. Seems there is a powerful argument to be made that the massive spending is not focused enough on alleviating suffering, that it is unclear how spending designed to bring alternative energy to market or weatherize government buildings does little, in the short term, to alleviate suffering.
Also noteworthy is that some folks are doing well due to the downturn. Dollar General revenue is way up, shoe repair services are doing a brisk business, and seed companies are selling more seeds (I just placed my order). Apparently Breyer's is selling more ice cream. Used car salesmen are very busy.
Defending the fiscal stimulus package is one thing but shouldn't there be some mention of the trade off? Some mention that some sectors of the economy are counter-cyclical, that the market does work and we see plenty of evidence?
The notion that people who favor and promote free markets don't care has to be challenged. At times like this it is helpful to listen to a smart Jew and a dumb Irish-Catholic.
Friday, February 20, 2009
Are you biased?
You're invited to watch this short video. Watch it and count how many times the players in white shirts pass the ball. See if you can get the right answer. Do this before reading further. Don't cheat.
Now watch the video again.
Now watch the video again. This time don't bother counting anything just try to get the big picture. See anything now that you didn't notice before? Did you see the stimulus bill, I mean animal, passing through?
Now watch the video again.
Now watch the video again. This time don't bother counting anything just try to get the big picture. See anything now that you didn't notice before? Did you see the stimulus bill, I mean animal, passing through?
Subscribe to:
Posts (Atom)