"Expansion Is Now Nation's Longest"
John M. Berry
Washington Post, February 1, 2000, page E1
"107 Months, and Counting"
Louis Uchitelle
New York Times, January 30, 2000, Section 3, page 1
Both of these articles examine the '90s expansion, as it passes the length of the '60s expansion to become the longest period of uninterrupted growth in the history of the United States. While both articles provide valuable analysis of the expansion (particularly the Times article), both include misleading statements.
For example, at one point the Post article notes the fact that the United States' large trade deficit is being financed by large capital inflows from abroad. The article warns that "if the confidence of foreign investors is shaken by some event, interest rates might have to rise sharply to keep the needed capital flowing into the United States."
In fact, there is no reason that interest rates would have to rise at all under such circumstances. The immediate impact of a loss of investor confidence in the United States would be a fall in the value of the dollar. If the dollar were allowed to fall freely, then at some point, investors would become convinced that it will eventually rebound and start holding dollars, even if the interest rate were no higher than it is at present.
Furthermore, the decline in the dollar would make imports more expensive and U.S. exports cheaper to foreigners. This effect would significantly reduce the size of the trade deficit and therefore lessen the nation's need to attract foreign capital. The Federal Reserve Board may instead opt to raise interest rates to keep the dollar from falling, but this would be a policy decision, not a necessary outcome of a loss of investor confidence.
The Post article also characterizes concern over household debt as being overblown, "since the bulk of their debt is in the form of fixed-rate home mortgages." Actually, even if mortgage debt is ignored, other forms of household debt (mostly on cars and credit cards) far exceed previous records when measured as share of disposable income. The growth in reported debt actually understates the growth of consumer debt in this cycle, since there has been a boom in car leasing in the last ten years. (Just under one in three new cars is now leased.) Leasing acts as a substitute for debt, since it also incurs a financial obligation.
At one point the Times article asserts that "limits to economic growth and prosperity still exist at the turn of the century, but they are not the stunted ones of the '70s, '80s and early '90s." It is not clear whether the economy's growth potential is greater at present than in these prior periods, or whether it is simply the Federal Reserve Board's policy that has changed. In these earlier periods, the Federal Reserve Board raised interest rates to clamp down on growth as soon at it saw the first hints of inflation, or became concerned that the unemployment rate was falling too low. The Federal Reserve Board has been more restrained in the last few years, allowing the unemployment rate to fall to 4.0 percent. It is not clear that the economy could not have expanded considerably more rapidly in the prior quarter century if the Federal Reserve Board had not raised interest rates enough to restrain growth.
Later, the Times article refers to a 2.25 percent speed limit on the annual growth rate that the Federal Reserve Board and other economists believed to exist based on evidence from the '60s, '70s, and '80s. In fact, there was no evidence that supported any specific speed limit on the rate at which the economy could grow. Only the unemployment rate, not the growth rate, mattered in the statistical evidence which provided the basis for the view that the economy's growth potential was severely limited.
This view held that the unemployment rate could not fall below 6 percent without experiencing rising inflation; a 1 percent growth rate at a time when the unemployment rate was 5 percent was seen as more inflationary than a 4 percent growth rate during a period when unemployment was above 8 percent. (See Congressional Budget Office, 1994, The Economic and Budget Outlook: An Update, pp. 59-64; Gordon, R.J., 1982. "Inflation, Flexible Exchange Rates and the Natural Rate of Unemployment," in M.N. Baily, ed., Workers, Jobs and Inflation, The Brookings Institution; and Gordon, R.J., 1990; "What Is New-Keynesian Economics?" Journal of Economic Literature, 9/90, pp. 1115-1171.)
Both articles include a series of charts comparing the economy's performance across decades. These charts are somewhat misleading because the measurement techniques used over this time has changed. Specifically, the methods of measuring GDP and productivity growth since 1978 raise the measured rate of growth by approximately 0.2 percentage points compared with the measures used in the period prior to 1978. This means that it would be necessary to raise the annual rate of reported growth in '60s and '70s by approximately 0.2 percentage points to make these numbers comparable to the numbers reported for the '80s and '90s. Making this adjustment would significantly increase the extent to which the growth in both categories in these decades exceeds the growth in the '80s and '90s. The methodology used to measure inflation in the '90s also would cause the inflation rate to appear lower in that decade than in prior decades.
The Post article includes the assertion that "virtually no one is forecasting the expansion will end any time soon." Immediately below the article, there is a blurb for a page 3 column by Newsweek Wall Street editor Allan Sloan, which reads "the boom could go kaboom."
"Tuesday's Big Test: How Deep in the Heart of Taxes"
Richard W. Stevenson
New York Times, January 30, 2000, Section 4, page 3
This article discusses public attitudes towards tax cuts. At one point it reports poll results showing that "respondents regularly say their top priorities are putting Social Security and Medicare on sound footing for the retirement of the baby boom generation." It is worth noting that Social Security is already on a very sound footing for the retirement of the baby boom generation. The Social Security trustees report shows that the program can pay all scheduled benefits, with no changes whatsoever, through the year 2034. At that point, the oldest of the baby boomers will be 88 and the youngest will be 70.
The projections from the non-partisan Congressional Budget Office (CBO) show the program to be even stronger. (Four of the six trustees for both Social Security and Medicare are political appointees of the Clinton administration.) CBO shows a cumulative surplus through 2010 (the end of its projections period) that is $500 billion higher than what the Social Security trustees project. Given the larger surplus projected for the next decade, and carrying through CBO's assumptions about economic growth, the fund would probably be fully solvent through at least 2040, at which point the oldest baby boomers will be 94 and the youngest will be 76.
CBO also projects a much brighter picture for Medicare than do the trustees of the program. The cumulative surplus projected by CBO for the Medicare trust fund as of 2010 is more than $250 billion greater than that projected by the trustees. While the Medicare trustees project that the program will run short of money by 2015, the CBO projections imply that fund should be fully solvent for at least 20 years into the future.
It is worth noting that the changes (tax increases or benefit cuts) needed to keep both programs fully solvent well into the future, under either set of projections, are not large relative to changes implemented in prior decades. Nor are these costs larger than other major public sector commitments of recent decades, such as building schools for the baby boomers or the Reagan-era military build-up.
"Economy's Pace Makes Fed Action Seem Likely"
Robert D. Hershey Jr.
New York Times, January 29, 2000, page B1
"Stocks May Be Facing Worst January in Years"
Jonathan Fuerbringer
New York Times, January 29, 2000, page B1
These articles discuss the state of the economy, as indicated by the GDP report for the 4th quarter of 1999, and the market's reaction to it. Both articles include assertions that the Federal Reserve Board will "have" to raise interest rates because of evidence of rising inflation. If the Federal Reserve Board raises interest rates, it will be a policy choice, just as when it chooses to lower interest rates. It is not forced to make either decision.
The Hershey article, which is written about the economy, not financial markets, relies exclusively on economists associated with financial institutions for its sources.
"2 U.S. Institutions Separated by an Uncommon Bond Policy"
Gretchen Morgenson
New York Times, February 1, 2000, page C1
This article discusses the tightening policy of the Federal Reserve Board and the bond-buying policy of the U.S. Treasury. The article suggests that these policies appear to be contradictory, since the Federal Reserve Board is trying to raise interest rates, while the Treasury's policy of buying back government bonds to retire to the national debt is lowering interest rates. The article points out that this has led to a situation, which it characterizes as an "oddity," where the interest rate on two-year government notes is higher than the interest rate on 30-year bonds.
Although longer-term bonds ordinarily offer higher interest rates, the reverse is normal in a period when the Federal Reserve Board is trying to slow the economy. When the Fed acted to slow the economy in 1969, the average yield three-year bonds was 7.02 percent, while the yield on ten-year bonds (the longest issue in existence at the time) was 6.67 percent. The same inversion took place in 1980 when the yield on three-year bonds was 11.55 percent, compared to 11.27 on 30-year bonds. In 1989 the yield on three year bonds averaged 8.55 percent, while the yield on 30-year bonds averaged 8.45 percent (Economic Report of the President, 1999, table B-73).
Short-term rates will tend to exceed long-term rates in a period when the Federal Reserve Board is tightening because the markets do not anticipate that the high short-term rates will persist. Investors are willing to temporarily hold long-term bonds that provide a lower rate of interest than shorter-term notes if they believe that these bonds provide an opportunity to lock in a relatively high rate of interest on their money well into the future. This logic is almost certainly the main factor behind the current inversion in the yield curve. The impact of the Treasury's bond buy-backs is small by comparison.
"Europe's Central Bank Raises Interest Rate"
Anne Swardson
Washington Post, February 4, 2000, page E3
This article reports on the decision of the European Central Bank to raise its short-term interest rate by a quarter of a percentage point. The article notes that the apparent motivation for the rate hike was to raise the value of the euro. The euro has fallen by more than 15 percent against the dollar over the last year. The article attributes this decline to the faster growth in the U.S. economy, asserting that "investors prefer to put their money into a faster-growing economy."
Actually, there is no direct relationship between an economy's rate of growth and where investors choose to place their money. The dollar fell by more than 10 percent in the period from 1977 to 1979, a period in which growth averaged 4.1 percent annually. It fell by close to 30 percent from 1985 to 1988, a period in which growth averaged 3.5 percent. From 1993 to 1995 the dollar fell by close to 10 percent, as growth averaged 3.0 percent. In each of these cases, the growth rate in the United States was the same or higher than that of its major trading partners, yet its currency suffered a substantial decline.
Investors care about getting the highest return on their money. There is no direct relationship between an economy's growth rate and the return provided to investors.
This article includes quotes from three sources, all of whom were employed by financial corporations in Europe.
"In a Rare Move, Japan Turns to Direct Loans From Banks"
Stephanie Strom
New York Times, January 29, 2000, page A1
This article reports on the decision by the Japanese government to borrow money through bank loans instead of by issuing new bonds. The article views this decision as "a striking demonstration of how precarious Japan's financial situation has become." The article also asserts that "the government's debts now match the country's GDP."
It is not clear that Japan's financial situation is especially precarious at all just now, nor that this move would be a reasonable response if it were. The market interest rate on Japan's long-term government debt is hovering near 2.0 percent. By comparison, the interest rate of U.S. government bonds is over 6.0 percent. The relatively low interest rate paid on Japanese bonds suggests that investors do not feel a great need to be compensated for the risk of default.
In addition, in spite of the wishes of the Japanese government, the yen has actually been rising in recent weeks against the dollar. If the markets feared that the Japanese government was going to have difficulties paying its debt, one would expect that the yen would be falling in value, not rising. Also, by the standard method of calculating debt used by the OECD (Employment Outlook, 6/99, Annex Table 35), Japan's net national debt is less than 40 percent of its GDP.
If Japan were facing a credit crisis, it is not clear how borrowing from banks would help it. The article implies that this move could allow Japan to deceive investors about the extent of the country's indebtedness. This would only be possible if market actors were extraordinarily ill-informed and did not have access to publications like the New York Times.
The article notes that the interest rate on these bank loans is approximately 0.5 percentage points higher than the rates on government bonds. The difference will accrue to the banks, who are the main purchasers of Japanese government bonds. It is possible that the government may have chosen this route of borrowing as a mechanism to provide assistance to banks that have not yet fully recovered from the collapse of Japan's stock and real estate market in 1990.
"Think Tanks: Corporations' Quiet Weapon"
Dan Morgan
Washington Post, January 29, 2000, page A1
This article reports on how a major Washington think tank, Citizens for a Sound Economy, has had a practice of writing reports on specific tax or regulatory issues that were of particular interest to the corporations that underwrote the work.
"Something Borrowed May Leave Market Blue"
Gretchen Morgenson
New York Times, January 30, 2000, Section 3, page 1
This article examines the extraordinary growth of margin debt in the last few years. It points out that the large volume of outstanding debt on stock purchases could add to instability if the market were to enter a downturn.
"Study Documents Homelessness in American Children Each Year"
Nina Bernstein
New York Times, February 1, 2000, page A12
This article reports on the findings of a new study on homelessness by the Urban Institute. The study found that 65 percent more people were homeless at some point in 1996 than in 1987.
Dean Baker is an economist and the co-director of the Center for Economics and Policy Research (CEPR). His latest book (co-authored with Mark Weisbrot) is Social Security: The Phony Crisis (University of Chicago Press). ERR is a joint project of FAIR and CEPR.
ERR is edited by Jim Naureckas.
Recent articles can be found on the websites of the New York Times and Washington Post.FAIR's critique of these outlets can be found at http://www.fair.org/media-outlets/nyt.html and http://www.fair.org/media-outlets/wpost-newsweek.html.
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