Thursday, August 22, 2019

U.S. Is First Casualty of Trade War: Tariffs Politically Popular, but Economically Damaging

The Dow Jones Industrial Average plunged by 304 points just after President Trump announced his intent to impose a 10% tariff on $300 billion of Chinese goods imported into the U.S.  

Set to begin September 1, these duties are on top of his 2018 tariffs on $200 billion of imports from China. In opposition to sound economic theory and U.S. equity markets, President Trump assumes his actions against Chinese imports will reduce the nation's trade deficit and force some U.S. companies producing in China to move production back to the U.S.

Since enacting tariffs in 2018, the trade deficit has increased by almost 15% from $114 billion in the first quarter (Q1) of 2018 to $130 billion in Q1, 2019.  

Contrary to President Trump's goal of reducing the trade deficit, a smaller trade deficit normally accompanies a U.S. recession. For example, in the 2008-09 recession, the trade deficit fell by 52.2% from $180 billion in Q1, 2008 to $86 billion in Q1, 2009. Over the last four decades, the U.S. achieved a trade surplus only twice, 1981 and 1991, both recession years. Thus, a U.S. recession, instead of tariffs, would be a more effective way of reducing the trade deficit.

Furthermore, instead of seeing the trade deficit with China as "bad," Chinese imports have provided U.S. consumers with high quality goods at a low price. At the same time the Chinese return the U.S. consumer dollars spent on Chinese imports by purchasing U.S. Treasury bonds, thus lowering U.S. interest rates.  

It is correct that the Chinese have "stolen" U.S. patents and technology. Reducing this is a goal that could and should be pursued, not reducing trade deficit. Targeting the Chinese trade deficit with tariffs will punish U.S. consumers and producers.

But the pain of the tariffs has not been shared uniformly. Since tariffs were enacted, due to retaliation from trading partners, the U.S. export of agricultural goods has fallen by 12.2%. The U.S. market for U.S. agricultural goods and most manufactured products is not big enough for the output of the most productive firms and farmers on the face of the earth.  

Furthermore, economic history points to more financial pain for U.S. consumers, manufacturers and farmers as the trade war escalates. When politics and economics collide, economics lose.  

Ernie Goss

Wednesday, July 17, 2019

Does the U.S. Federal Debt Really Matter? Interest Rates Fall as Debt Load Soars

The three largest global economies, the U.S., China and Japan, currently have federal debt loads as a percent of gross domestic product (GDP) of 108%, 248%, and 236%, respectively. At the same time, interest rates on long-term government bonds in each of the three global powers are 2.1% in the U.S., 3.1% in China, and minus 0.1% in Japan.  
 
We economists teach in our classes that as the government competes with consumers and businesses for investment dollars, interest rates rise. Are our models wrong, or have they lost relevance?
  
Noting the seeming disconnect between public debt and interest rates, several candidates for the Democrat presidential nomination have called for the passage of massive spending programs from Medicare for All to the Green New Deal (GND).  
 
Democrat representative Alexandria Ocasio-Cortez (AOC), too young to be a presidential candidate, but too old to remember anything from her Boston University economics classes, argues that the $40 trillion GND can be paid for with $8 trillion in taxes on the wealthy. She contends that the other $32 trillion would come from debt, or the dollar printing press. Again, no recognition of the link between size of the debt and interest rates.

Look to Greece for economic parallels. Over the past 200 years, Greece has reneged seven times on the repayment of its national debt. And in 2017, Greece once again teetering on default but, by agreeing to austerity measures, was bailed out by the European Central Bank (ECB) and the International Monetary Fund (IMF).  
 
What has, and will, bail the U.S. government out of its overspending and debt accumulation?
 
  1. The U.S. dollar is, and will continue to be, the global reserve currency. This means that foreign investors remain willing to lend to the U.S. despite the heavy debt load and current rock bottom interest rates.
     
  2. The U.S. Federal Reserve stands ready to buy U.S. government bonds regardless of the size of the debt. This Fed action boosts the money supply, increases inflationary pressures, and reduces the size of the inflation-adjusted debt.
     
  3. The U.S. Treasury can always open the dollar spigot to pay interest and principal on maturing notes, again adding to inflationary pressures and diminishing the size of the inflation-adjusted debt load.
     
  4. The federal government can raise federal taxes to cover government over-spending.
The outcome from each of these actions for a younger generation will be a combination of higher interest rates, greater inflation, and higher taxes. Will this happen? To quote economist Herbert Stein, former chairman of the Council of Economic Advisors, in 1976 in testimony before Congress, " If something cannot go on forever, it will stop."


Sunday, June 23, 2019

Buy Low, Sell High, or Buy High, and Sell Higher: Which Is the Best Stock Buying Strategy?

In his book, How to Make Money in Stocks, William J. O’Neil argues that, “What seems too high and risky to the majority generally goes higher, and what seems low and cheap generally goes lower.” Is this a basis for profitable investing?

What makes a stock cheap or expensive? The most commonly used metric is the stock price of the target company for each $1.00 of earnings of the same company. That is, how much do you have to pay for each dollar of earnings? For example, three years ago, June 2016, the median stock price to one dollar of earnings, referred to as the Price/Earnings (P/E) ratio of the Dow 30 stocks was 18.1. That is, of the 27 Dow 30 stocks with valid earnings data in June 2016, the mid-point P/E ratio was UnitedHealth Group (UNH) with a P/E of 18.1.

Of the 13 companies more pricey than UNH, the most expensive was Verizon (VZ) with a price of $74.80 for every dollar of earnings. Of the 13 low cost companies, the least costly was JP Morgan (JPM) with a price of $14.60 per dollar of earnings.

But more importantly, how did each group perform in terms of the growth in price adjusted for dividends and stock splits? The accompanying table summarizes the performance for the last three years.

Two potential limitations of applying the analysis in table 1 to the broader U.S. stock markets. First, it is based on the Dow 30 stocks and the time period June 2016 to June 2019. However, data in Table 1 support the hypothesis that buying high and selling higher works better the shorter the time period. For longer, time periods, returns are higher for a buy low, and sell high strategy.

Wednesday, May 22, 2019

Politicians Pander to Education Bureaucracy: Student Loan Forgiveness Will Boost Administration Growth

Senator Elizabeth Warren's campaign for the presidential nomination of the Democrat Party took a turn from theatre to absurd as she proposed to wipe out student debt. Under her plan, up to $50,000 in student loan debt would be completely erased for Americans with a household income under $100,000. Instead of forgiving student loans, perhaps a more equitable approach is to require colleges and universities to share the burden of these loan defaults instead of placing it on the taxpayer.

Over the last 10 years, U.S. student debt has ballooned by 163.9%, or almost five times the pace of growth of the overall economy. These "loans," which now amount to $1.5 trillion or $33,000 for each of the 44 million student borrowers, have enabled colleges to raise tuition at a rate almost three times that of overall consumer prices over the same decade.

What accounts for this excessive growth? Not instructional support!

Over the last five years, the number of college administrators has expanded at a pace more than three times that of college professors. For example, the University of Michigan has added almost 100 diversity administrators. Colleges have not only exploded the number of administrators, they have expanded the bureaucracy to the point where the 2018 average salary of college administrators was 35.7% above that of college faculty members.

Ultimately, a high share of the benefits of student loan forgiveness programs will incentivize higher tuition, which will result in more bloat in college bureaucracy. Colleges and universities should be on the hook for a large share of loans and loan defaults.
Ernie Goss

Thursday, April 18, 2019

Obama’s Economy Versus Trump’s Economy: Which Is Tops?

Supporters of President Obama argue that President Trump has benefited from the economic policies from his predecessor, rather than from his own policies. How does the economic performance compare between the last 24 months of the Obama Administration, and the first 24 months of the Trump Administration across important economic metrics?

Overall Economy. For the first two years of the Trump Administration, gross domestic product (GDP) expanded by 9.9%. This compares to 6.4% GDP growth for the last two years of the Obama Presidency. In terms of inflation adjusted (real) GDP growth, Obama’s GDP growth was 4.8% versus Trump’s advance of 7.5%. Advantage Trump.

Jobs. For the first two years of the Trump Administration, total non-farm jobs expanded by 3.3%. This compares to 3.6% non-farm job growth for the last two years of the Obama Presidency. In terms of manufacturing job growth, Obama’s growth was 0.5% versus Trump’s advance of 3.7%. Advantage Obama Overall Job Growth; Trump Advantage Manufacturing Job Growth.

Unemployment. For the first two years of the Trump Administration, the unemployment rate declined by eight-tenths of one percentage point. This compares to a fall of nine-tenths of one percentage point for the Obama Presidency. Advantage Obama.

Wages and Salaries. For the first two years of the Trump Administration, non-farm wages and salaries rose by 9.4%. This compares to a lower gain of 8.2% for the last two years of the Obama Presidency. Advantage Trump.

Federal Spending and Taxes. For the first two years of the Trump Administration, federal spending as a percent of GDP fell by approximately one-half of one percentage point. This compares to an increase of approximately one-half of one percentage point for the final two years of the Obama. For the last two years of the Obama Administration, federal taxes as a percent of GDP expanded by 0.225% while they declined by 1.22% for the first two years of the Trump Presidency. Advantage Trump.

Federal Deficit and Debt. For the first two years of the Trump Administration, the federal deficit as a per-cent of GDP fell by 68 basis points or 68 hundredths of one percentage point. This compares to a decline of 36 basis points for the final two years of the Obama. For the last two years of the Obama Administration, the total federal debt as a percent of GDP expanded by 424 basis points, while they declined by 110 basis points for the first two years of the Trump Presidency. Advantage Trump.

The president’s influence on the overall economy is limited with other factors such as global growth and Federal Reserve policy playing significant roles. Nonetheless, there is evidence that Trump’s economic policies of less regulation and lower taxes since taking office are pushing most economic metrics in a more favorable direction than experienced in the 2.0 years before Trump assuming the presidency.
Ernie Goss

Monday, March 18, 2019

Can the U.S. Afford Medicare for All? Federal Budget & Debt Already Soaring

Almost all of the major Democrat candidates for the party's presidential nomination support expanding Medicare to cover all U.S. residents. Medicare is already the second largest program in the federal budget.

The Congressional Budget Office (CBO) projects it costs $583 billion in FY 2018, representing 14 percent of total federal spending. Adding to this burden, the Mercatus Center at George Mason University estimated that this "Medicare for All" would cost taxpayers approximately $3.3 trillion per year, or 75% of total federal spending of $4.4 trillion in 2019.

Even without this program expansion, excessive federal spending has ballooned this year's October to January federal deficit by 77% over the deficit for the same period last year.

Central to the soaring deficit problem is the growth in programs such as food stamps (SNAP), Medicare, and Medicaid. The Congressional Budget Office has estimated these three programs will skyrocket by two and one-half times the expansion in the overall U.S. economy to almost $1.4 trillion in 2020. And this is without expanding Medicare coverage to younger Americans.

Interest on the accumulated debt for these three programs alone will amount to almost $50 billion in 2020. Interest payment on the U.S. debt was $843 billion in 2018, or approximately $5,600, for each worker in the nation.

As bad as the Medicare expansion policy is on the debt and deficit, the proposed method of paying for it is even worse. New York Congressional Rep (D) Alexandria Ocasio-Cortez has proposed that spending growth on social programs can be paid for by printing more money and/or raising income taxes.

Of course, there really are only three ways to pay for the Medicare expansion: 1) Printing more money and spurring excessive or hyper-inflation, 2) Issuing more debt and ballooning interest rates, and 3) Raising the tax burden on workers. All three outcomes would slow investment and economic growth.

The oddity of Medicare for All is that the biggest supporters are young citizens, the same individuals that will have to pay for the rocketing debt burden with either excessive inflation, higher interest rates, higher taxes, or a combination of all three.
Ernie Goss

Thursday, February 21, 2019

Who Pays for the Green New Deal (GND)? Income Tax Rates and Income Inequality Rise with GND

Democrats, including presidential candidates Senators Warren, Harris, and Booker, have endorsed the Green New Deal (GND), a federal spending program to address income inequality, and climate change with an estimated cost between $2 trillion and $5.7 trillion. New York Democrat Representative Alexandria Ocasio-Cortez (AOC) seeks to include basic income programs, and universal health care programs into GND, thus pushing the cost of the program to the higher limits.

Rep. AOC also advocates a 70% tax on high income earners to pay for this diverse program. She argues, incorrectly, that this would return tax brackets to the pre-Reagan tax cuts. According to the Tax Foundation, the latest income tax data show that:

 the top 50% of income earners paid 97.3% of income taxes with the bottom half of income earners paying only 2.7% of income tax collections.
 Furthermore, the top 1% of income earners paid an individual income tax rate of 27.1%, which was more than seven times higher than that of the bottom 50% of earners that had an average individual income tax rate of 3.5%.

Thus, a tax to support the GND that differentially supports low, and middle-income taxpayers would further distort a tax system that already punishes educational achievement, innovation, and entrepreneurship which lead to income growth.

The GND list includes goals like “eliminating greenhouse gas emissions from the manufacturing, agricultural and other industries” and “meeting 100% of national power demand through renewable sources by 2030.” Contrary to its advocates’ rhetoric, an increase in income tax rates on high incomes will increase, not reduce income inequality. In 1980, the top 10% of income earners paid 49.3% of total individual income tax collections, while the bottom 50% paid 7.1% of collections. More than three decades later, the share of income taxes paid by the top 10% soared to 70.9%, as the bottom half’s share sank to 2.8%. What happened to income inequality during that time span? As measured by the Gini coefficient, income inequality climbed by 12%.

Thus, empirical economic data indicate that the proposed GND will increase taxes, discourage educational attainment, and increase income inequality.

Ernie Goss