Which Letter Will Describe This Recovery?

Popular Economics Weekly

Conference-board.org

The Conference Board’s consumer confidence survey should help to predict the shape of this economic recovery from COVID-19. Economists usually described it as a letter in the alphabet, and I believe it will mirror the degree of “uncertainty” felt by consumers. Looking at past pandemics hints at what its shape might be.

In the words of Lynn Franco, Senior Director of Economic Indicators, “Following two months of rapid decline, the free-fall in Confidence stopped in May…Short-term expectations moderately increased as the gradual re-opening of the economy helped improve consumers’ spirits. However, consumers remain concerned about their financial prospects…While the decline in confidence appears to have stopped for the moment, the uneven path to recovery and potential second wave are likely to keep a cloud of uncertainty hanging over consumers’ heads.”

Economists are therefore trying to determine if the US economy sinks back into recession in a second wave of infections in the fall, or even a third wave nest spring, as in past pandemics. Right now, some economists are predicting a ‘V’ shaped recovery with GDP growth gaining traction after two quarters of negative growth.

Just under half of 45 economists responding to a Reuters poll earlier this month said the U.S. economic recovery would be “U” shaped, which probably means at least two quarters of negative growth, but a very slow recovery. Ten of those polled said it would be “V” shaped, and five said it would be “W” shaped.

Fed Chairman Powell in recent comments at a press conference following the U.S. central bank’s latest policy meeting indicated he sees even more disruption than even the “W” camp. Powell said he believes the economy may go through a series of peaks and troughs for at least a year or more as the world battles to keep the virus under control.

“John Kenneth Galbraith famously said that economic forecasting exists to make astrology look respectable,” said Powell. “We are now experiencing a whole new level of uncertainty, as questions only the virus can answer complicate the outlook.”

This happened with the 1918-20 Spanish Flu pandemic that killed some 700-900,000 Americans. Its fall resurgence in deaths after a summer created an 18-month recession from January 1920 to July 1922. It was considered a mild recession with GNP growth falling approximately 8 percent.

seekingalpha.com

A chart of the Spanish flu combined with the DOW-Jones Index shows how the stock market behaved during that time—the DOW fell with every resurgence of deaths. It wasn’t until the third death rate spike began to subside in early spring of 1919 that the DOW rose, though economic growth didn’t resume until the end of the recession in 1922, and the decade became known as the “roaring twenties”.

Two lesser-known pandemics based on bird flus in 1958 and 1968 caused more than 100,000 deaths in the US.

In February 1957, a new influenza A (H2N2) virus emerged in East Asia, triggering a pandemic (“Asian Flu”). It was first reported in Singapore in February 1957, Hong Kong in April 1957, and in coastal cities in the United States in summer 1957. The estimated number of deaths was 1.1 million worldwide and 116,000 in the United States.

Several short and mild recessions followed the two pandemics; the first in 1958 when GDP growth was a negative -1.54 percent in Q1 1958. GDP growth began to plunge again in Q1 1968 following the second Avian flu pandemic that killed approximately100,000 in the US, and ended with the 1970 recession.

The point is pandemics have always caused a substantial drop in GDP growth, and this pandemic is shaping into another Great Recession lasting at least two quarters, before beginning to recover in the fall or winter.

That is why Dr. Fauci has been so vocal in supporting continued vigilance and preparedness for an additional outbreak.

And Dr. Rick Bright, the recently transferred director of Biomedical Advanced Research and Development Authority director at HHS said, “The mortality of the pandemic could be “unprecedented” and ultimately outstrip the 50 million casualties of the 1918 influenza epidemic without a science-based national response to the pandemic.”

It’s going to be a difficult call, in other words, as to which letter will better describe the length of this recession due to the novel coronavirus.

Harlan Green © 2020

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen

Let’s Bring Back American Jobs

Popular Economics Weekly

It’s well-known that American job formation isn’t keeping up with economic growth, but not why. It’s mostly because corporations have been retaining more of their profits and sharing less with their employees, so that household incomes have fallen to historic lows as a share of national income. That has to be reversed, if we are to get back to full employment, and employees are again paid a living wage.

It makes sense economically, since households consume some 70 percent of what is produced, diminished incomes have reduced the public’s demand for the very goods and services that would create more jobs.

So the why is not something we see in everyday headlines. WSJ Marketwatch has said that if 175,000 jobs are added in Friday’s Labor Department unemployment report, then the 135 million jobs total will just bring it back to mid-2008 levels during the Great Recession.

Why have corporations been able to rack up such profits? The conventional wisdom is because of strong global demand, cheap global labor, and low interest rates, while American workers muddle along, their significance to these companies greatly diminished by a worldwide market for goods and people.

But it’s more than that. American workers have not been able to share in that prosperity. Economist John Kenneth Galbraith pointed out as early as the 1960s in The Affluent Society, among other writings, that labor was no longer an equal partner in the Big Business, Government, Labor triumvirate. Thanks to business-friendly legislation—such as the deregulation of whole industries and Wall Street finance, corporations began to grow beyond government’s power to control their behavior.

Most American workers today are paid a barely living wage, as household incomes have declined steadily since the 1970s, while labor productivity has soared. This is while labor friendly laws were weakened that gave corporations more power to hire and fire. And Right to Work laws enabled states to inhibit or even prohibit collective bargaining, which prevented workers from negotiating for their own wages.

U.S. companies today give wage and salary earners the least amount of vacation and, health care coverage, while working the longest hours, of any developed country. The American employee has lost the ability to control their own destiny, in other words.

The New York Times highlighted the divergence of record corporate profits from the meager jobs formation, and income gains. Corporate profits have risen 20 percent annually since the end of 2008, while disposable (after tax) incomes have risen just 1.4 percent. This trend has in fact been happening since the 1970s, but especially since 2000 and the concerted push of Republicans to increase corporate and investment tax breaks, which pushed more of the tax burden on ordinary households.

Graph: The Atlantic

“We went almost a century where the labor share was pretty stable and we shared prosperity,” says Lawrence Katz, a labor economist at Harvard. “What we’re seeing now is very disquieting.” For the great bulk of workers, labor’s shrinking share is even worse than the statistics show, when one considers that a sizable — and growing — chunk of overall wages goes to the top 1 percent: senior corporate executives, Wall Street professionals, Hollywood stars, pop singers and professional athletes.

Corporate power in America is now becoming egregious, as corporations continue to consolidate power over everyday life. Corporate lobbying groups such as ALEC now write states’ legislation that limits voters’ rights and environmental regulation, as well as pushing for even less gun regulations that now endanger children.

ALEC, the American Legislative Exchange Council is the corporate-funded organization that allows global corporations like Wal-Mart and ideological special interests like the National Rifle Association (NRA) to give state legislators changes to the laws they desire. ALEC "model bills" have served as the template for voter ID laws that swept the country in 2011, for the "voucher" programs that privatize education, for anti-environmental deregulatory bills, and for the wave of anti-union legislation in Wisconsin, Ohio, and most recently, Michigan.

So it turns out taking away the voice of American employees is really taking away democracy for the majority of Americans, something that cannot be tolerated if America is to remain a prosperous democracy.

Harlan Green © 2013

Follow Harlan Green on Twitter: www.twitter.com/HarlanGreen

Goldman’s Defense--Innocent Fraud?

Financial FAQs

The U.S. Senate has finally begun debate on financial reform, but only after eye-opening testimony at Senator Carl Levin’s Permanent Subcommittee on Investigations by Goldman Sachs’ executives, who claimed that hedging their bets on subprime mortgages was perfectly legal, while not believing that telling clients what they thought of the securities or derivatives sold to them was relevant.

Why their belief that they were innocent of any fraud? This is when economic theory gets mixed up with ideological belief systems. Economist John Kenneth Galbraith labeled it “The Economics of Innocent Fraud” in his book of that title (2004, Houghton Mifflin, Boston). “Most progenitors of innocent fraud…are not deliberately in its service. They are unaware of how their views are shaped, how they are had. No clear legal question is involved. Response comes not from violations of law but from personal and social belief. There is no serious sense of guilt; more likely, there is self-approval.”

The inherent conflict in Goldman’s case was that of the classic inside trader, who believed that free, unregulated market forces should determine investor behavior. We now know that unregulated ‘free markets’ are a vehicle for manipulation by insiders. Goldman had inside information that their buyers didn’t—i.e., that there was a great likelihood the underlying subprime mortgages might have very high default rates. And as ‘market-makers’, their function as a pure trader was to find buyers for sellers and vice versa, without evaluating the underlying worth of the assets being traded.

Of course there were other conflicts of interest. Goldman was both an unregulated securities’ trader and an investment bank regulated by the Federal Reserve, which gave them a source of very cheap funds (i.e., because tax payer guaranteed). Until the Depression era Glass-Steagall Act was repealed in 2000, commercial banks regulated by the Fed could not also be securities’ traders. The reason was that stock, bond, and derivatives’ trading was a very risky business where caveat emptor prevailed—‘buyer beware’, in other words.

This was precisely why Senate members used the Las Vegas casino analogy at the Goldman hearings. Bets were being placed on which direction the subprime market would go, without the bettors having any ‘skin’ in the game—i.e., no equity or ownership interest in the underlying securities—just like placing a horse racing bet. It was gambling, in a word, but Las Vegas gamblers knew they were gambling as Nevada’s Senator John Ensign said at the hearings, whereas Wall Street investors did not at the time.

And, more importantly, because derivatives’ trading was unregulated, no one knew how much was bet for or against subprime mortgages at the time. It was being transacted through a shadow-banking system specifically set up to escape regulation. Whereas horse race bettors know exactly what the odds are, because regulations require the odds to be publicly posted.

The result was that traders’ profited, but those pension funds and foreign banks that had no real knowledge of the risks inherent in such trades did not. That is why this ‘last bastion of free enterprise’, as some traders call it has to become more transparent. Financial markets are now as interconnected as our environment. What happens in one part of the financial environment can affect other parts not directly involved.

The environmental analogy is apt here. Financial markets have become an internationally connected financial ecosystem subject to ‘pollution’ with toxic securities, just as our environment has become polluted with toxic chemicals. The world has become ‘flat’ and interconnected, said columnist and author Thomas Friedman, precisely because information is now transmitted at light speeds in our new digital world.

The Darwinian world’s survival of the fittest analogy was true 100 years ago when Capitalism was an infant struggling to survive in a post-feudal age world where ownership was still in the hands of the few—whether monarchs or military dictators. But once the Industrial Revolution prevailed over the feudal age, laws regulating private property rights and controlling predatory behavior became necessary.

In fact, markets only function well when there is transparency. Otherwise assets become mispriced, bubbles formed, and greater losses ensue. Nobelist George Akerlof knew this best when he did ground-breaking research on how asset markets really function. He studied the Lemon used-car market, of all things, which before it became regulated meant buyers had no knowledge whether a new or used car was a lemon—had some undetectable defect, in other words. And because buyers therefore discounted the price of those unguaranteed cars, it drove sellers with vehicles of better quality out of the market.

And that is why state vehicle Lemon Laws now require some guarantee or warranty of quality for each vehicle for sale. Professor Akerlof’s seemingly innocuous research, along with that of Joseph Stiglitz and Michael Spence won them the 2001 Nobel Prize in the Economic Sciences “for their analysis of markets with asymmetric information”, and proved that insider trading will always harm markets, if not regulated.

Professor Akerlof, also the co-author with behavioral economist Robert Shiller of “Animal Spirits”, has been very vocal about the need for regulations and laws to keep up with financial innovations. One of his favorite sayings first appeared in a New York Times editorial.

“If you let your toddler out of her playpen, you need to watch her more carefully. This wisdom is known by every American parent but has been systematically ignored in economic deregulation…Now is the time to remember the lessons of the playpen: increased scope for action must be accompanied by increased regulatory oversight.”

JK Galbraith’s innocent fraud is the reason ideology may trump economic reality. Those AAA ratings on subprime mortgage securities were an illusion, fostered by Goldman’s traders that generated tremendous profits. There is a ‘snake oil’ element in all financial markets that free market ideologues are loath to admit. “…those employed or self-employed who tell of the future financial performance of an industry or firm, given the unpredictable but controlling influence of the larger economy, do not know and normally don’t know they do not know.” Those predictions “are thought to reflect economic and financial expertise. And there is no easy denial of an expert’s foresight.”

Harlan Green © 2010