August 2009 – Page 3 – Donald Marron

Budget Deficit Likely Lower Than Forecast

As I’ve noted in a series of posts, the budget deficit this year will be gigantic. Indeed, it’s already reached almost $1.3 trillion. That’s big money, even in Washington.

As Stan Collender points out over at Capital Gains and Games, however, the absolute amount of the deficit is not the only thing that matters politically. Also important is how the deficit stacks up relative to expectations. And, as Stan says, there’s good reason to believe that the deficit will come in less than original forecasts.

Back in May, the Obama administration projected that this year’s deficit would come in at $1.84 trillion, assuming enactment of the President’s policies. In June, the Congressional Budget Office came up with a very similar estimate.

Now it’s looking as though the deficit could come in several hundred billion dollars lower than that.

The evidence for this is two-fold:

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Turning Guantanamo into Hong Kong

At the TED conference in Oxford last month, Paul Romer put forward a big idea: charter cities. His basic vision is that the best way to promote growth in developing countries may be to start over. Of course, you can’t just sweep away the existing system of economic and political institutions; they may be killing growth, but they are well-entrenched. So do the next best thing: clear some ground and build new charter cities.

Those cities will have rules — indeed, economic history teaches that they must have rules — but they will be focused on providing an environment that promotes economic growth. In short, property rights and the rule of law are in, corruption and political patronage are out.

His provocative example: If the U.S. gives up on Guantanamo, Raul Castro should invite the Canadians to help manage the area as a charter city. Over time, perhaps Guantanamo could become the Hong Kong of the Caribbean.

To illustrate how prosperity varies around the globe, Romer uses the increasingly popular approach of showing night time satellite photos. North Korea is a sea of darkness next to South Korea, illustrating the perils of too much government control. The darkness of Haiti, as compared to its neighbor the Dominican Republic, similarly illustrates the perils of too little government or, at least, too little governance.

As Romer frames it, development is a classic Goldilocks problem of finding the right set of rules — not too hot, not too cold — and then allowing people to make the choices that eventually lead to prosperity.

Federal Deficit Up to $1.3 trillion

On Thursday, the Congressional Budget Office released its latest snapshot on the federal budget. The headlines:

The budget deficit was almost $1.3 trillion during the first ten months of the fiscal year (through July). That’s up from $389 billion at this point last year.

Spending has risen 21% over last year, while tax revenues have fallen by 17%.

CBO estimates that $125 billion of the increased spending and decreased revenues are the result of this year’s stimulus act.

The chart shows the main drivers of the exploding deficit:

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A Less-Bad Jobs Report

The headlines in today’s jobs report were better than expected:

Payrolls fell by “only” 247,000 in July, somewhat smaller than the 325,000 that analysts had anticipated.
The unemployment rate ticked down to 9.4%.

If you dig into the numbers a bit further, you find some other encouraging nuggets:

Job losses in May and June were 43,000 smaller than BLS had previously estimated.
The average work week ticked up from 33.0 hours in June to 33.1 hours in July. That may seem like a small change, but it’s a good sign that hours have bounced off the record low recorded in June.
Average hourly earnings increased 0.2%. Again not a huge change, but clearly pointing in the right direction.
The U-6 measure of unemployment, which includes workers who are discouraged or working part-time for economic reasons, declined from 16.5% to 16.3%:

UE July

Losing 247,000 jobs is not a good month in the job market. But it is the best month since last August, before the fall of Lehman.

Big Salaries at Netflix

The slide deck describing the culture at Netflix has some real gems (ht kottke.org).

For example, here are three elements of the company’s compensation practices:

Unlike many companies, we practice “adequate performance gets a generous severance package.” (slide 26)

Netflix vacation policy and tracking: “there is no policy or tracking” (“There is also no clothing policy at Netflix, but no one has come to work naked lately.”) (slide 68)

Big salary is the most efficient form of compensation. (No bonuses, no free stock options, etc.) (slide 106)

Well worth a read.

Sub-Debt = Senior Debt?

I was flipping through a report from the Bank for International Settlements (BIS) recently (ht Torsten Slok) and came across this fascinating six-pack of charts:

The charts show how much banks have had to pay in interest on their senior, subordinated, and guaranteed debt, relative to the interest rates of comparable government bonds. For example, the chart shows that banks in the United Kingdom have recently had to pay about 250 basis points (i.e., 2.5 percentage points) more on their senior debt than the UK government pays on its debt.

There are many interesting stories spread across these charts. For example, the red lines suggest that the first wave of investors in guaranteed bank debt in the United States and France did well for themselves (since the decline in yields implies an increase in bond prices).

But the thing that really caught my eye was the behavior of the senior debt (green) and sub-debt (blue) lines. In the five European countries, you see what you might expect: the sub-debt trades at a higher spread than the senior debt. That makes sense, since the sub-debt faces greater risk of losses. Investors demand compensation — a higher yield — for bearing that risk.

And then there’s the United States.

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Collapsing Tax Revenues

The Office of Debt Management at Treasury has released another fascinating set of charts about the government’s finances and debt outlook. One that particularly caught my eye was this depiction of the collapse in tax revenues:

Fittingly, the red lines represent the current fiscal year.

As you can see, corporate income taxes are lagging far behind the pace of recent years, as are non-withheld individual tax payments (those payments typically stem from capital gains, other investment income, and business income rather than regular wages and salaries).

Refunds have also increased (denoted by a larger negative figure — i.e., larger cash outflows). Refunds also spiked in the middle of last year due to the first economic stimulus.

Treasury: More Borrowing, Less Short-Term

The Treasury released its quarterly update on its borrowing needs yesterday. The headline is that Treasury expects to borrow $406 billion during July, August, and September. That’s a gigantic figure, but it is down from the roughly $530 billion that Treasury borrowed during those three months last year.

When combined with $1.4 trillion in borrowing during the previous nine months, the $406 billion will bring total borrowing to $1.8 trillion during this fiscal year (Oct. 2008 to Sept. 2009).

The Treasury release includes a number of fascinating charts about the size and composition of our nation’s debt. One that particularly caught my eye was this chart showing the percentage of outstanding debt that is scheduled to mature in the next 12, 24, or 36 months:

As you can see, Treasury has relied heavily on very short-term maturities to finance the recent burst of borrowing. Most notably, the fraction of debt that matures within 12 months (the blue line) reversed its decline and rose to levels not seen since the mid-1980s.

Students of financial crises, past and present, will recall that over-reliance on short-term debt is a classic precursor of financial distress. Think, for example, of the major financial firms that had to roll over significant fractions of their financing every week … or even every day.

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Payroll Employment Ticks Up 1

I am happy to report that I will be a Visiting Professor at the Georgetown Public Policy Institute during the 2009-2010 academic year. It will be fun to return to the classroom after an eleven-year hiatus.

Given everything I’ve learned in the intervening years, I think I will teach economics quite differently. For example, I think it’s essential to include some insights from behavioral economics in my basic microeconomics course.

Suggestions welcome for fun examples, articles, blog postings, etc. that you think public policy students might enjoy in a micro course.

Note: I’ll provide a link once GPPI has time to add me to their web site. At the moment, linking over there would make it look like I am making this up.

Still Not the Great Depression 2.0

One of my first posts cautioned against comparing the current economic downturn to the Great Depression. Our economy is certainly in terrible shape, as Friday’s GDP data confirmed. Indeed, it’s the worst downturn since World War II. But it still pales in comparison to the horror of the Great Depression.

Since we received fresh data on Friday, it seems like an auspicious time to present a new version of my chart making this point:

The green bar is the current recession. Most forecasters expect the economy to grow, albeit tepidly, in coming quarters. If they are right, the estimated peak-to-trough GDP decline in this downturn is 3.9%. (If you believe that forecasters are too rosy, feel free to add on your own estimate of further declines in the quarters ahead.)

The chart has three main messages:

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