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From the way markets reacted, the trillion-dollar rescue package hurled by European leaders at the continent’s growing debt crisis might well have been code-named Panacea. Stocks rose all over the place while Greek bond yields tumbled on Monday. But this is far from the end of the story. The rescue package alleviated the growing Eurozone liquidity crisis, but the solvency crisis remains. While the acute problem (liquidity) was a serious threat, so is the chronic problem of excessive indebtedness that besets Greece, Portugal, Spain and Ireland. The rescue plan cannot address the central problem, which is that countries with very different fiscal cultures (and earnings potential) are yoked to the same currency. The idea was that this would help the profligate keep in line, but instead it’s shaping up as a way for them to ship their liabilities to their fitter neighbors. How long will voters in rich countries stand for this? Perhaps not much longer than the voters in the debtor countries will stand for the austerity measures imposed on them. The entire rescue plan presumably rests on the assumption that, with more time, the Eurozone’s problem countries can get their fiscal houses in order—and Europe can somehow grow its way out of trouble. But Greece and some of the other major European debtors are seriously uncompetitive. And the… Read More

The good news on U.S. employment is that we added 290,000 nonfarm jobs in April. The bad news is that unemployment rose as well, to 9.9%, because more people entered the labor force and many more returned to seeking work. So unfortunately, the employment picture remains grim, with a level of unemployment we might have found horrifying just a couple of years ago. Many of us agree that the government has a role to play in creating more jobs, but nobody is paying much attention to the best kinds of jobs Washington should create. As it turns out, they’re not the kinds of high-paying jobs most of us would want. But they are the kind that would help the most people—and get taxpayers the biggest bang for their buck. How can the government accomplish these twin goals? My Levy Institute colleagues Rania Antonopoulos, Kijong Kim, Thomas Masterson, and Ajit Zacharias studied this question and came up with a surprising answer. The best jobs for Washington to create don’t involve repairing bridges and digging subway tunnels, worthy as those initiatives may be. Nor do they involve wind power or other green technologies, although those too are fine undertakings. No, the best jobs government could possibly create are what we’ll call “social sector” jobs—roughly speaking, work taking care of people. We’re talking… Read More

I’m Italian, and I’m an economist, so as European leaders work feverishly to save the Euro, I’ve been wondering: what would happen if the feared contagion occured and my own country saw its finances melt down just as Greece’s have? The short answer is that this would generate a fatal shock to the Euro, given the size of Italian public debt and the fact that a large share is owned by other Euro countries. Of course, such an event is by no means a foregone conclusion. But I can’t help noticing an ominous correlation. The country in Europe with the biggest untaxed, or “shadow,” economy as a proportion of GDP is Greece. Next is (gulp) Italy. Then Portugal and Spain. On the chart below, in fact, the bars look unsettlingly like dominoes. Much of the problem in these countries in Europe, in other words, is tax evasion. As the chart shows, the size of the shadow economy in Italy and Greece is much larger than in other developed countries, inside and outside the Euro area. Massive tax evasion helps produce large public-sector deficits. Let’s make some simple back-of-the-envelope calculations: if the shadow economy is adding 25 percent to GDP, with income going untaxed, and if the average tax rate on such income is a conservative 20 percent, recovering such tax revenues would imply… Read More

The Bureau of Labor Statistics released its monthly Employment Situation Report this morning. The headlines will announce an increase of 290,000 in nonfarm payroll employment and a jump in the unemployment rate to 9.9%. While employment grew, the labor force grew faster than usual, with 195,000 lured back into looking for work by better prospects in the job market. Even without these re-entrants, the labor force grew by 610,000 in April. So while trends are pointing in the right direction, the unemployment rate will continue to look bleak for quite awhile.

With the recent financial turmoil in Greece, the press has turned its attention away from the bailouts of Citigroup, AIG, Fannie Mae, Freddie Mac, and other major U.S. financial corporations. Less than a month ago, though, Gretchen Morgenson noted in the New York Times that a Treasury Department estimate of the costs of the main financial bailouts probably understated their total costs to the economy. Around the same time, federal officials and others pointed to the government’s investment in Citigroup as a relatively successful venture that could make a profit—perhaps $11 billion plus $8 billion in interest and fees. (The company’s stock has fallen somewhat since then.) Bailouts are of course intended to benefit the economy as a whole, and it is certainly hoped that such benefits will greatly exceed the return to the government on its investment. A large part of the return went to investors who have increased their wealth by owning the shares of Citigroup since it was saved by the government. The market capitalization of Citigroup is now very roughly $90 billion, after subtracting the U.S. government’s stake of about $32 billion. (The latter figure may overstate the size of the government’s share, because it may include stock that has been sold by the government this year.) Predictions of a good return on the Citigroup bailout… Read More

Financial regulation might stifle financial innovation. And that would be a good thing. But is it likely to happen?

(This is the testimony of Levy Institute Senior Scholar James K. Galbraith before the Senate Subcommittee on Crime, Senate Judiciary Committee, May 4, 2010.) Chairman Specter, Ranking Member Graham,  Members of the Subcommittee, as a former member of the congressional staff it is a pleasure to submit this statement for your record. I write to you from a disgraced profession.  Economic theory, as widely taught since the 1980s, failed miserably to understand the forces behind the financial crisis. Concepts including “rational expectations,” “market discipline,” and the “efficient markets hypothesis” led economists to argue that speculation would stabilize prices, that sellers would act to protect their reputations, that caveat emptor could be relied on,  and that widespread fraud therefore could  not occur. Not all economists believed this – but most did. Thus the study of financial fraud received little attention. Practically no research institutes exist; collaboration between economists and criminologists is rare; in the leading departments there are few specialists and very few students. Economists have soft-pedaled the role of fraud in every crisis they examined, including the Savings & Loan debacle, the Russian transition, the Asian meltdown and the dot.com bubble.  They continue to do so now.  At a conference sponsored by the Levy Economics Institute in New York on April 17, the closest a former Under Secretary of the Treasury,… Read More

There is nothing lovable about Goldman Sachs, and its recent grilling by the ominously named Senate Permanent Subcommittee on Investigations understandably drew a lot of attention. We should not, however, obscure the reality. Goldman Sachs is a bank, and except for questions about the Abacus deal, in which it’s accused of disclosure failings, Goldman was doing what modern banks do. In collateralized debt obligations and credit default swaps, it wasn’t the biggest player. So question for Congress isn’t whether Goldman did the right thing. The real question is, why on earth were banks allowed to do the things that Goldman was doing? The late Hyman Minsky had something to say about this. In a paper from 1993, he was clear-eyed about the role of institutions like Goldman: Essentially these operators have superior knowledge about their customers who need financing. . . and their customers who have a need for outlets in which money can be placed. They turn this private knowledge of the conditions under which funds are desired and the conditions under which funds are available to their own advantage, even as they perform the social function of selecting the investments that the economy makes. Each of these financial intermediaries, Minsky well knew, “has an agenda of its own: they are not charitable institutions.” But they play a crucial… Read More

On reading a recent post by Ed Dolan at Economonitor with some evidence of the lack of a strong Phillips relationship for consumer-price inflation in US data, it occurred to me to try a measure of total compensation per hour with recent data. The wage relationship estimated over all available quarters, using averaged monthly observations for the civilian unemployment rate, is shown above, with a scatter plot and an estimated regression line. Like the relationship estimated by Dolan, the regression line above suffers from a rather loose fit (constant: 6.87; slope coefficient: -.29; R-squared = .02). A complete explanation of inflation is complicated and of course also involves other costs, including raw materials such as fuel. The latter costs are subject of course to “cost-push”-type inflation at times, as are wages. Exchange rates of course affect these costs. A time series graph below displays both series over the entire sample period, 1948q1 to 2014q1. As some have observed, the exceedingly high unemployment rates of the post-financial-crisis era (blue line) have resulted in very weak or negative compensation growth rates (red line). The latter are not adjusted for inflation in the figures, since we are focusing on nominal data in this post.  The downward trend in nominal wage growth in the right side of the figure (red line) helps to explain… Read More

Previously we have argued that “taxes drive money” in the sense that imposition of a tax that is payable in the national government’s own currency will create demand for that currency. Sovereign government does not really need revenue in its own currency in order to spend. This sounds shocking because we are so accustomed to thinking that “taxes pay for government spending.” This is true for local governments, provinces, and states that do not issue the currency. It is also not too far from the truth for nations that adopt a foreign currency or peg their own to gold or foreign currencies. When a nation pegs, it really does need the gold or foreign currency to which it promises to convert its currency on demand. Taxing removes its currency from circulation making it harder for anyone to present it for redemption in gold or foreign currency. Hence, a prudent practice would be to constrain spending to tax revenue. But in the case of a government that issues its own sovereign currency without a promise to convert at a fixed value to gold or foreign currency (that is, the government “floats” its currency), we need to think about the role of taxes in an entirely different way. Taxes are not needed to “pay for” government spending. Further, the logic is reversed:… Read More

“The biggest obstacle to a sustainable recovery,” according to the Levy Institute’s newest strategic analysis of the US economy, “is the inequality in the distribution of income.” In their latest, Dimitri Papadimitriou, Michalis Nikiforos, Gennaro Zezza, and Greg Hannsgen begin with a familiar point: the Congressional Budget Office has been predicting fairly rosy economic growth rates for the coming years (rising to 3.4 percent in 2015 and ‘16)—rosy, that is, given the CBO’s expectation that government budgets will remain tight, and get even tighter, over this period (with the federal budget deficit shrinking to 2.6 percent of GDP by 2015). As Papadimitriou et al. point out, the only way to make these growth and budget forecasts both come true, assuming there are no significant changes in net exports (a safe assumption), is if the private sector substantially increases its indebtedness. There really isn’t any other option. If we don’t see a return to ballooning private debt-to-income ratios, then either government budgets will have to be loosened or we won’t get the growth rates the CBO is telling us to expect. Now, there are reasons to think that the reappearance of accelerated growth in private debt is unlikely (a theme the authors dealt with in their last US strategic analysis), but if it does happen, rising private debt ratios—which played the… Read More

Pavlina Tcherneva participated in a conference on youth unemployment at Middlebury College and shared her ideas for a youth employment safety net (beginning at 38:45): [iframe src=”//player.vimeo.com/video/89719577?title=0&amp;byline=0&amp;portrait=0″ width=”450″ height=”253″ frameborder=”0″ webkitallowfullscreen mozallowfullscreen allowfullscreen></iframe]