Frank’s Case Book

A important notion inherent in the Conservative political perspective, often incomprehensible to Liberals, is the intimate link between money and freedom. Money, as a broad measure of economic wherewithal, provides choices. With money a person can decide where to live, what to wear and eat, where to travel to, what recreational and educational activities to engage in, and even what opportunities to provide children. The more money the broader the scope of choices in our lives. Money is so important that most of us willing trade the precious commodity of time for money in our jobs.

Personal transportation is also a measure of freedom. Sure there are some people who take special pride and interest an automobiles or manage to travel from place to place via public transportation. However, for the most part, a car allows ordinary people to control their lives like few other possessions. Cars permit us broad discretion in where to live. We are not limited to high-traffic corridors that may be serviced by mass transportation. Cars have made possible for many the achievement of the American dream of a house and yard.

Cars allow us to plan our day more independently of the schedules of others. We can on a given day, deviate from a work-route to pick up a child from baseball practice or purchase groceries.

Cars also provide a sense of possibility. One can spontaneously choose to simply jump into the car and visit grandma in the next state. One can tour and view the country more intimately from a car. The freedom of the open road underpins much of our culture and literature from the TV show Route 66, the movie The Open Road, and the book Blue Highways.

No one wonder Americans are in love with their cars. No wonder car use has increased in European countries, even those with significant mass transportation alternatives. No wonder that as both China and India have become more affluent, the population has raced to own and drive cars.

The recent tremendous increase in gas prices has robbed Americans both of a measure of both economic and transportation freedom. People feel pressure but their scope of choice as been reduced and Americans are apprehensive that it might be reduced further.

The salient political point to understand is that Americans will embrace solutions that allows them to maintain their transportation freedom. There are some on the Left who are smugly happy with high prices because they feel Republicans will be blamed and because they believe it will push people away from cars. Americans will resent this loss of freedom, even if the Left believes it is for their own good of people

There are many possible ways to alleviate the current problem including: the movement to higher mileage gs automobiles, substitution of hybrid and electric vehicles for solely gas powered cars, improving the road infrastructure to reduce eneregy-wasting bottlenecks, and increasing oil production. All will likely play an important and necessary role. However, the option to use high prices to ween people from their cars will not be politically sustainable over the long term. If the Left attacks personal freedom, they will ultimately pay a price. For example, banning offshore oil drilling can be popular when oil is $22 a barrel, less so at $130 a barrel oil.

During the 2004 presidential elections, Democrats tried to persuade the American public that job creation was the worst since the Great Depression and the country was in a downward economic spiral. In order to make the case, Democrats had to employ statistics creatively. We could no longer look at the unemployment rate, the traditional measure, because it was too good. Instead, they used other Bureau of Labor statistics that notoriously lag the economic growth that was beginning even in 2003 and 2004.

There was a downturn beginning in late 2000 and early 2001 as the country entered a mild recession. This was cyclical response to the growth at the end of the 1990s and the collapse of the “Dot.Com Bubble.” Then after the terrorist attacks of September 11, the downturn grew deeper as the national mood soured and the stock market plunged. The combination of a loose money supply provided by the Federal Reserve and President Bush’s tax cuts pulled us back to prosperity. Inflation stayed low, unemployment fell, the economy roared back and since 2003 stock market values have reached new highs. In 2004, the fullness of the recovery was not yet as obvious as it is now. Democrats can no longer complain that the overall economy was not doing well. Instead, they have to try to provoke class warfare with erroneous complaints that the benefits of economic growth have not been wide spread. These statistics on income and wealth inequality cited are just as misleading that those previously used by Democrats to disguise rebounding employment.

There is at least one other economic index whose rebound has been hidden. One of the largest complaints by the Democrats now was that tax cuts increased the federal deficit. Now the size of the deficits may be large, they are not large with respect to the economy. Indeed, as a fraction of the Gross National Product (GNP) they have already been decreasing. Unfortunately, relative measures, though more meaningful, are more difficult to explain. It seems now that federal receipts are growing so rapidly that the nominal deficit may soon disappear and the one remaining Democratic economic complaint will evaporate.

The value of the nominal federal deficit over last decade is shown below. This is a plot of the twelve-month running average in the federal deficit in billions of dollars. The month-to-month numbers are noisy. Note, that the plot shown is a “following” running average. The value for the current month is the total deficit for the last 12 months. This plot would tend to be a lagging indicator.

The combination of loose monetary policies, spending restraint and growth accounted for the surplus in the latter half of the 1990s, President Clinton’s second term. The year 2001 would have seen a decrease in the surplus in any case, but after September 11, the plunge was precipitous. The budget deficit reached its largest value at the end of 2003. Since then the deficit has been steadily disappearing. Steve Conover of the Skeptical Optimist has been carefully tracking the federal deficit. In his plot below, he fits a trend to the budget surplus/deficit data since January 2005. By his extrapolation, the nominal federal deficit should disappear in the middle of 2008. The exact point of zero deficit depends on precisely how one does the fit. If one begins the fit in January 2004 when the deficit first began to decrease, the crossover point to zero nominal deficit occurs in 2009. The longer the fit period, the more statistically significant the linear fit and projection are. However, the shrinking of the deficit has been accelerating and since the twelve-month running average is a lagging indicator perhaps Conover’s projection is most accurate. Conover concedes noisiness in the extrapolation of current trends. This collapse of the federal deficit is amazing and a testament to the power of tax cuts. The deficit is decreasing despite an expensive war in Iraq, a period of little spending restrain, and the introduction of prescription drug plan for seniors, a new entitlement. It suggests that rapid growth is perhaps the only realistic way of balancing the federal budget, whether in real or nominal terms. You can tell that the economy is doing well when Democrats stop talking about it.The Democrats’ position has been out-of-phase with reality: complaining about unemployment just as employment accelerates or complaining about the deficit just as it is about to disappear. Are they equally as out-of-phase with respect to other issues?You can tell that Iraq is not going well, or is at least perceived as not going well, when the Democrats incessantly talk about it. Unfortunately, Democrats now have a vested political interest in failure in Iraq. It is not that they really want failure, but they are in the uncomfortable position of knowing that good news for Americans in Iraq is bad news for Democratic political ambitions. If the surge of forces in Iraq works, Democrats may find themselves conspicuously wrong again — just before an election. They will then have to rely on the traditional method of concealing and ignoring success.

Paul Krugman, op-ed writer for the New York Times and economics professor at Princeton University, once boasted about his algebraic understanding. Whereas most political and social commentators speak or write of unquantifiable philosophical notions, coming from an economic background, Krugman is adept at algebraic symbol manipulation. Economists try to model their social science on the physical sciences like physics or chemistry, whose universal language is mathematics. Indeed, Krugman was correct in writing, “There are important ideas in [economics] that can be expressed in plain English, … [b]ut there are also important ideas that are crystal clear if you can stand algebra, and very difficult to grasp if you can’t.” Krugman concedes his impatience with those less precise in thought and presentation than he fancies himself to be. The danger, of course, is that after having postured so, someone will challenge Krugman on his own terms.

Alan Reynolds, of the Libertarian Cato Institute, did not write Income and Wealth as a specific rebuttal to Krugman. However, Krugman has been so argumentative and prolific in writing about the economic demise of the middle class and poor at the expense of the affluent and has done so via the exploitation of sloppy statistics that he provides convenient and oft-mentioned examples of the misuse of statistics. Krugman’s professional background makes it impossible to plausibly plead ignorance to their misuse. None one who seriously wants to understand income and wealth and how it has changed over time in the United States, can be ignorant of the concepts explained by Reynolds in Income and Wealth.

The fundamental problem for Liberal economists is history. In the 1970’s under a regime of high tax rates, the economy suffered high inflation, high interest rates, high unemployment, and low growth. Then President Ronald Reagan arrived and slashed marginal tax rates by half. After a relatively short transition period, the economy radically improved with high growth rates, low inflation, low interest rates, and low unemployment. Clinton marginally increased tax rates but only modestly and, with the help of a Republican Congress, passed the North American Free Trade Agreement (NAFTA). Clinton’s free trade policies were in direct conflict with trade unions, a traditional member of the Democratic electoral coalition. The economy was buoyant in the 1990s. After the short recession caused by the attacks of September 11, Bush’s tax cuts have revived the economy. Moreover, those industrialized countries in Europe that have adhered to a high-tax strategy, the policy advocated by Liberal economists, are burdened with low growth and high unemployment. The Conservative prescriptions for the economy are conspicuously successful.

The response from the Left is to concede the high growth, low unemployment, low inflation, and low interest rates; but to argue a series of “Yes, buts.” Yes, but the real median wages have remained static for the last twenty-five years. Yes, but only the rich have experienced increasing incomes as the expense of the poor. Yes, but the rich have increased their wealth more than others. Yes, but income and wealth inequality have grown.

Unfortunately for the rhetorical convenience of the Left, in order to make such claims, it is necessary to make any number of rather simple errors. Reynolds systematically explains the real nature of the data. For example:

Real wages have only remained static if you use an obsolete measure of inflation. With more modern measures, median wages have risen by over a third.

Median wages only include the wages of those who are employed. In the late 1970’s, the base period often used for comparisons, unemployment was high. The least skilled and the lowest paid were laid off first, ironically increasing median wages for those still employed during that period. However, no one would reasonably want to increase unemployment to increase median wages.

Wages measure only a part of compensation. Medical and retirement benefits have become an increasingly large part of total compensation. Counting only wages neglects this important component. Also ignored are transfer payments to the lower income quintile such as Social Security or in-kind assistance like food stamps.

The Gini index is a broad measure of inequality. People often point to the increase in inequality as measured by the Gini index during the 1990s. Of course, it is often neglected that for technical reasons the Census Department altered the way it computed the index in the early 1990s. This resulted in a one time jump in the Gini index that did not reflect any change in the economy. Without this jump, the Gini index has remained relatively stable.

In measuring the distribution of wealth, many studies only include immediately accessible wealth, i.e., liquid financial instruments. Counting in this ignores the enormous increase in the wealth of the middle class from increasing housing values and increasing asset value of 401(k) or 403(b) retirement plans.

In addition, the demographic composition of the United States has aged dramatically over the last two-and-half decades. Typically, young people are rich in human capital, with the prospect of earning income over many years. Older people have less human capital, but have accumulated a lifetime of assets and savings. By conventional measures, the older people are wealthier than younger ones. Changes in wealth distribution in large measure represent a change in the age distribution rather than a direct economic change.

Reynolds explains that the single biggest discriminator on which households occupy different income quintiles is the number of people who work in the household. Two income households fill the top quintile, while the bottom quintile usually has no worker or only a part-time worker, perhaps a single mother. Family structure is highly correlated with economic success.

The media is too full of glib and incorrect assertions about who has and has not benefited from explosive economic growth of the last two-and-half decades. Reynolds sorts through the errors and the rhetoric in a readable style. And in the end who could disagree with his conclusion:

“No matter what one thinks ought to be done about taxes, spending, unions, immigration, trade, minimum wage laws, and so on, the first thing that needs to be done is to get the facts right. If that happens there will still be plenty of room for lively debates about all sorts of public policies. And they will be honest debates.”