Macro Challenges Ahead

In yesterday’s New York Times, economics, writer David Leonhardt wrote a provocative column about the macro challenges facing the newly elected Congress. I thought it was good enough to reprint in its entirety. There are lots of topics for a Discussion Board post.

November 8, 2006
Economix
Election’s Over. Now to Tackle the Realities.
By DAVID LEONHARDT

For everyone who is worried about the country’s big economic problems — energy policy, health care, the budget deficit — today is a good day.
It should be a good day regardless of whether you’re elated or disappointed by last night’s results, because a campaign that included almost no serious discussion of these issues has now ended. Today marks the start of the 2008 presidential race.

Unlike midterm elections, presidential races tend to revolve largely around economic plans, be it Bill Clinton’s 1992 promises to the “forgotten middle class” or George W. Bush’s vow in 2000 to cut taxes. As Gene Sperling, a former Clinton adviser, says, “In presidential campaigns, there is a premium on new ideas.”

We could use some fresh economic ideas right now. An honest accounting of the budget deficit would show it to be even larger than the government says it is. High oil prices have helped finance extremist governments across the Middle East, while the five warmest years on record have all occurred in the last decade. Health care costs, like the numbers of the uninsured, keep rising. Wages for most Americans have failed to keep pace with inflation over the last five years.

In some cases, the outlines of a potential — even bipartisan — solution have already begun to take shape outside of Washington. In other cases, the two parties each have a chance to claim a big issue as their own. With an eye toward Nov. 4, 2008, here is a breakdown of the four biggest:

THE DEFICIT When the latest budget numbers came out this summer and they showed a drop in the estimated deficit, I called some former Bush aides — Glenn Hubbard, Greg Mankiw, Doug Holtz-Eakin, Andrew Samwick — to give them a chance to gloat. But not one of them was in the mood.

They all said that the decline was obscuring a much bigger problem: the enormous long-term deficit caused by future Social Security and Medicare payments. “The real big problem is a decades-long generational issue,” Mr. Mankiw said. “That basic challenge often gets forgotten when the short-term situation is getting better.”

Fortunately, imagining a bipartisan agreement on Social Security isn’t all that difficult. Small groups of economists from both parties, including Mr. Samwick, have already negotiated some hypothetical deals.
Republicans might compromise by agreeing to increase the amount of income that is subject to the payroll tax — now $94,200 — and by cutting benefits for high earners. “We have a problem,” Mr. Hubbard says, “and the most well-off among us ought to bear the biggest burden.”
Democrats could then clear the way for an expansion of personal retirement accounts. Even people who hated Mr. Bush’s failed plan for personal accounts should be able to agree that more individual savings would be a good thing.

HEALTH CARE There are two main problems with American health care today, and they tend to get confused. The first is that far too many people don’t have health insurance. If you are not insured through your job, buying a policy is incredibly expensive, because insurers know that the people in the market for a policy are the ones who expect to get sick.
A few states — like Arkansas, Massachusetts and New Mexico, all with ambitious governors — are trying to address this problem by pooling together their uninsured residents into one buying group, much as a company spreads its medical costs across sick and healthy workers. It’s a great idea.

But it won’t solve the second problem: soaring health care costs, which are a much larger part of the long-term deficit than Social Security. Reining in these costs will require cutting back on expensive drugs and procedures that haven’t been proved to make a real difference. This issue is about the toughest one around, and I would be surprised if its political moment had yet arrived. We’ll probably have to wait for health care spending to go even higher.

GLOBAL WARMING Two weeks ago, Sir Nicholas Stern, a top economics official in the British government, released a report that should change the debate over climate change. Sir Nicholas and his staff concluded that without sharp reductions in greenhouse gases, global warming — and the droughts, hurricanes and floods that it brings — will probably reduce the world’s economic output by at least 5 percent a year. “The benefits of strong and early action far outweigh the economic costs of not acting,” the Stern report stated.

In this country, neither political party is serious about the problem. Instead, both have trotted out laundry lists of futuristic alternative-energy programs. No one can know which ones will actually work, and the planet will keep getting hotter in the meantime.

There are only two ways to slow global warming. One is to raise the cost of putting carbon dioxide into the atmosphere, through an energy tax. From Alan Greenspan and Mr. Mankiw on the right to Al Gore and Larry Summers on the left, there is enormous support for this idea, which would do far more to spur research than the current hodgepodge of alternative-energy tax credits.

That said, none of the big advocates of an energy tax are running for office right now. The second idea — less efficient but perhaps more politically palatable — relies on regulations like higher mileage standards for vehicles and limits on carbon use by companies. Senator John McCain says he favors such caps. I suspect we’ll hear more from him in the next couple of years.

LIVING STANDARDS Ben Bernanke, the Federal Reserve chairman, recently noted that sweeping economic changes threatened the livelihoods of many workers, and he warned that rising inequality could set off a political reaction. Henry M. Paulson Jr., Mr. Bush’s Treasury secretary, said that “many Americans simply aren’t feeling the benefits” of the current expansion. Nancy Pelosi, the Democratic leader in the House, puts it this way, “For the first time in generations, parents worry that their children will not be better off than they are.”
So where are the bold new solutions?
Republicans like to talk about education, skipping over the question of how better schools could help struggling workers in their 40s and 50s. Democrats have become fond of trade barriers, which don’t exactly have a good record of lifting a country’s living standards.

I’m not suggesting the answers are easy. But if we can agree that globalization and technological innovation have made the country richer — and they have, enormously — then we should be able to talk about how the winners can do a better job of compensating the losers.

An immigration policy that lets in fewer low-wage workers, but more doctors and scientists, might be a start, notes Benjamin M. Friedman, the author of “The Moral Consequences of Economic Growth.” So might tax cuts for the middle class — paid for by tax increases on the well-off, who have done very nicely of late.

There will, inevitably, be huge fights over the solution to any one of these issues. At times, the fights will get nasty, and people will come forward to decry the lack of civility in American politics. So be it. Economies, like democracies, can thrive without civility. They don’t thrive if they try to ignore their biggest problems forever.

Extra Credit: What is the current amount of the national or public debt of the United States? If you are the first student to send me an e-mail (kwoodward@saddleback.edu) with the answer, you will be rewarded with two extra credit Discussion Board points. Only two points extra credit per student can be earned in any given week from the blog questions.

The rising wealth of nations

Robert Schiller, a Professor at Yale University, is one of the most creative macroeconomists around today. Lately he has been pretty gloomy about the short run prospects for the U.S. economy in part because of the unwinding of “irrational exuberance” in the housing market. While waiting for the Fed announcement today, I came across this interesting piece that was written by Schiller and was published in the Japan Times. I was surprised that Shiller has an optimistic outlook for worldwide GDP growth in coming decades:

The rising wealth of nations

By ROBERT J. SHILLER

NEW HAVEN, Connecticut -- The new Penn World Table, Version 6.2, comparing standards of living across countries, has just been released. The latest figures are for 2004, and, because of data lags, not all countries are included. Yet these numbers are valuable because they are of exceptional quality and they correct systematically for relative price differences across countries, which sometimes leads to surprising results.

Among the 82 countries for which 2004 data are now available, there is good news: Real per capita gross domestic product rose by an average of 18.9 percent between 2000 and 2004, or 4.4 percent per year. People generally were a lot better off than they were just a few years earlier. At that rate, real per capita GDP will double every 16 years.

Many people who could not afford a car in 2000 had one in 2004, and people who could afford only one car in 2000 had two. People who could not afford to send their children to a good school or college could. And so it was with many different goods and services that people consume.

One surprise is that there was relatively little change in the ranking of countries by real per capita GDP after 2000. Despite all the talk about the Chinese economic miracle, China's ranking rose only slightly, from 61st (out of 82 countries in 2000) to 60th in 2004 -- even though per capita real GDP grew by 44 percent between 2000 and 2004, or 9.6 percent a year, the highest of the major countries.

The reason China did not rise higher is that other countries were growing too, and because the gaps between countries were enormous. The range between the poorest and the richest countries in the world is a factor of more than 100. The average real per capita GDP of the top 25 percent of countries is 15 times that of the bottom 25 percent.

Watching these countries progress is like watching a marathon. At first, one is impressed by most of the runners, almost all of whom seem to be going fast. As they pass by, all spread out, one sees that some runners seem to be gaining rapidly. And yet they do not often overtake one another, because the distances between them are so large. Indeed, other runners are out of sight, perhaps miles ahead.

China isn't the only success story. Other big winners in terms of real per capita GDP between 2000 and 2004 were Lithuania (up 48 percent), Romania (up 41 percent), Estonia (up 40 percent), Chile (up 33 percent), Hungary (up 32 percent), Greece (up 31 percent), New Zealand (up 28 percent), Australia (up 25 percent), South Korea (up 23 percent), Ireland (up 23 percent), South Africa (up 23 percent), and Nigeria (up 22 percent).

Some of the worst performers among the major countries were Israel (a beleaguered country, with real per capita GDP up only 2 percent between 2000 and 2004) and Argentina (hit by a terrible financial crisis in 2001-2002, up only 9 percent between 2000 and 2004).

Economic performance in several Latin American countries was relatively weak in this period, with Uruguay's real GDP per capita actually recording a fall by a fraction of a percent. But the overall picture was amazingly good. If such growth rates continue, we will see relatively poor countries like India, Indonesia, the Philippines or Nicaragua reach the average levels currently enjoyed by advanced countries in 50 years. But, of course, they will not have caught up with these countries, for those countries will have moved ahead too.

It is hard to imagine now what that world will be like with a doubling or quadrupling of just about every country's GDP. What will all these countries do with all that money?

In 1958, the economist John Kenneth Galbraith wrote the best-selling book "The Affluent Society," in which he argued that the advanced world as typified by the United States had by that year finally emerged from "grim scarcity," when dire necessity dictated our lives, to a "world of affluence."

He wrote: "So great has been the change [in standards of living] that many of the desires of the individual are no longer even evident to him. They become so only as they are synthesized, elaborated and nurtured by advertising and salesmanship, and these, in turn, have become among our most important and talented professions."

Real per capita GDP in the United States is now three times higher than it was in 1958. What have people been spending all that extra money on? Is it all dictated by advertisers and salesmen who are inventing needs?

According to my calculations comparing 1958 and 2005 data from the U.S. Department of Commerce, Americans spent 27 percent of the huge increase in income between 1958 and 2005 on medical care, 23 percent on their homes, 12 percent on transportation, 10 percent on recreation, and 9 percent on personal business activities.

The kinds of things that advertisers and salesmen typically promote were relatively unimportant. Food got only 8 percent of the extra money, clothing only 3 percent, and personal care 1 percent.

Unfortunately, idealistic activities also received little of the extra money: 3 percent for welfare and religious activities, and a similar share for education. Thus most of the extra money was spent on health, a nice home, travel and relaxation, and doing a little business.

Maybe that is the way it will be around the world. As long as we can keep worldwide growth going at its current rate, billions of people can look forward to the same kind of improvement. And that should be truly inspirational.”

Robert J. Shiller is professor of economics at Yale University, chief economist at MacroMarkets LLC, which he cofounded (see macromarkets.com), and author of "Irrational Exuberance and the New Financial Order: Risk in the 21st Century." Copyright Project Syndicate 2006 (www.project-syndicate.org )

Read Chapters 6 and 8 in your text for more information on economic growth.

Extra Credit: What major country had the fastest growth in its standard of living between 2000-2005? If you are the first student to send me an e-mail (kwoodward@saddleback.edu) with the answer, you will be rewarded with two extra credit Discussion Board points. Only two points extra credit per student can be earned in any given week from the blog questions.