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Record stock buybacks—driven in part by the corporate tax changes in the Tax Cuts and Jobs Act (TCJA)—have sparked a media and political furor. Unfortunately, they’ve also created a great deal of confusion. To help elevate the debate, here are three things you should know.

1. Repatriated overseas profits are the main way TCJA is boosting buybacks

By slashing corporate taxes, TCJA will boost after-tax profits and cash flow. Companies will use some of that cash to buy back shares. But that is not the main way TCJA is fueling today’s record buybacks.

The big reason is the “liberation” of around $3 trillion in overseas profits. Our old system taxed the earnings of foreign affiliates only when the domestic parent company made use of them. To avoid that tax, many companies left those earnings in their affiliates. They could reinvest them in their foreign operations or hold them in U.S. financial institutions and securities, but they couldn’t use them for dividends to parent company shareholders or stock buybacks.

By imposing a one-time tax on those accumulated profits, the TCJA freed companies to use the money wherever they wanted, including in the United States. And multinational firms are leaping at the chance. Cisco, for example, says they are repatriating $67 billion and buying back more than $25 billion in stock.

Cisco’s response reflects a broader trend. Repatriated profits will account for two-thirds of this year’s increase in stock buybacks, according to JP Morgan. Stronger earnings, due to both improved before-tax profits and lower taxes, make up only one-third.

2. Buybacks do not mechanically increase stock prices

Buybacks can help shareholders. But it’s not as simple as much commentary suggests.

The common story is that buybacks boost stock prices by reducing the number of shares outstanding. That sounds like basic economics: Reduce supply, increase price. But buybacks have a second effect that pushes the other way.

When companies pay out cash, their value falls. This effect is easy to see when companies pay dividends. On the morning after a dividend, a company’s stock price usually drops. One day the stock price reflects the company’ s operating value plus the cash it will use for the dividend. The next day it’s just the operating value.

That also happens when a company buys back stock. It spends its cash, so the value of each share declines. But this decline isn’t conspicuous. It doesn’t happen on an announced day (as with a dividend payment), and it happens at the same time the supply effect is pushing the other way. So commentators tend to overlook the stock price hit from cash going out the door.

How do the two effects net out? It depends. For starters, suppose we live in a frictionless (and mythical) world. There are no taxes, everybody is well informed, executives are perfect agents of shareholders, and it’s costless to raise new capital. In that world, the two effects exactly offset. The decline in the stock price from paying out cash matches the increase in the stock price from having fewer shares outstanding. And the stock price does not change.

In this world, a dollar on the company’s balance sheet has the same value for investors—one dollar—as a dollar on the investors’ own balance sheets. Stock buybacks simply move some dollars from the company to its investors. But they don’t create or destroy any value.

Of course, the real world isn’t frictionless. Taxes matter, as do imperfect information, misaligned incentives, and the cost of raising capital. The question is how do they matter. Is a dollar on a company’s balance sheet worth more than an investor’s dollar? Less? The same?

It depends. Suppose a company has many promising investment opportunities. If raising capital is expensive, a dollar inside the company may be worth more than a dollar outside. Investors value the ability to pursue good opportunities without the burden of raising new capital. In this case, a (misguided) stock buyback would drive the value of the stock down, not up.

Another company might have few promising investment opportunities. Shareholders might worry executives will squander extra cash, perhaps through empire building, executive perks, or just taking their eye off the ball. Investors might therefore treat a dollar of cash inside this company as worth less than a dollar, perhaps 90 cents or even as little as 40 cents. In these cases, stock buybacks would drive the value of the stock up.

On average, stock buybacks are more common in the second scenario than the first. So buybacks do tend to lift stock prices. Not because of the mechanical link between supply and price, but because shareholders value a dollar on their own balance sheets more than a dollar inside the companies buying back stock.

3. Today’s buyback furor reflects a much larger debate about shareholder capitalism.

Concern about buybacks didn’t start with the TCJA. Some commentators have long worried that shareholders can be shortsighted. They may focus too much on next quarter and too little on next decade. If so (there is much debate), shareholders may undervalue cash inside companies. Buybacks may thus be too large, hurting shareholders themselves and the broader economy.

Others object to shareholder capitalism more fundamentally. Comparing the value of dollars inside and outside a company presumes those dollars belong to shareholders. Our system largely works that way today. But what if workers and other stakeholders also have a claim? If so (again there is much debate), buybacks may allow shareholders to capture all the value from what should be shared resources. This concern animates Senator Cory Booker’s recent proposal to limit stock buybacks.

Evaluating these concerns is a job for another day. For now, remember that the stock buyback debate boils down to three basic questions. When do investors think money inside a company is less valuable than outside? How well do investors make that judgment? Should investors be the only ones with a claim on a company’s money? Debate over those questions will continue long after today’s focus on the TCJA.

This post originally appeared on TaxVox, the blog of the Tax Policy Center.

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How fast will the US economy grow? When mainstream forecasters consult their crystal balls, they typically see real economic growth around 2 percent annually over the next decade. The Congressional Budget Office (CBO) and midpoint estimates of Federal Reserve officials and private forecasters cluster in that neighborhood.

When President Trump looks in his glowing orb, he sees a happier answer: 3 percent.

That percentage point difference is a big deal. Office of Management and Budget director Mick Mulvaney recently estimated the extra growth could add $16 trillion in economic activity over the next decade and almost $3 trillion in federal revenues.

But could our economy really grow that fast? Maybe, but we’d need to be both lucky and good. We’ve grown that fast before. But it’s harder now because of slower population growth and an aging workforce. And there are signs that productivity growth has slowed in recent years.

To illustrate the challenge, I’ve divvied up past and projected economic growth (measured as the annual growth rate in real gross domestic product) into three components: the growth rates of population, average working hours, and productivity.

d_marron_20170807

The link between population and growth is simple: more people means more workers generating output and more consumers buying it. Increased working hours have a similar effect: more hours mean more output and larger incomes. Hours go up when more people enter the labor force, when more workers find jobs, and when folks with jobs work more.

Productivity measures how much a worker produces in an hour. Productivity depends on worker skills, the amount and quality of capital they use, managerial and organizational capability, technology, regulatory policy, and other factors.

As the first column illustrates, the US economy averaged 3 percent annual growth over more than six decades. Healthy growth in population and productivity offset a slight decline in average hours. Of course, that six-decade average includes many ups and downs. The Great Recession and its aftermath dragged growth down to only 1.4 percent over the past decade. In the half century before, the United States grew faster than 3 percent.

Mainstream forecasters like the CBO and the Federal Reserve expect slower future growth along all three dimensions. People are having fewer children, and more adults are moving beyond their child-rearing years, so population growth has slowed. Our workforce is aging. Baby boomers are cutting back hours and retiring, and younger workers aren’t fully replacing them, so average working hours will decline. Productivity growth has slowed sharply in recent years, for reasons that are not completely clear. Productivity is notoriously difficult to forecast, but recent weakness has inspired many forecasters to expect only moderate growth in the years to come.

Proponents of President Trump’s economic agenda offer a rosier view. Four prominent Republican economic advisers—John F. Cogan, Glenn Hubbard, John B. Taylor, and Kevin Warsh—recently argued that policy, not just demographic forces, has brought down recent growth. They claim supply-side policy reforms—cutting tax rates, trimming regulation, and reducing unproductive spending—can bring it back up. They argue that encouraging investment, reinvigorating productivity growth, and drawing enough people into the labor force to offset the demographic drag would generate persistent 3 percent growth.

Many analysts doubt such supply-side efforts can get us to 3 percent growth (e.g., here, here, here, and here). Encouraging investment and bringing more people into the labor force could certainly help, but finding a full percentage point of extra growth from supply-side reforms seems like a stretch. Especially if you plan to do it without boosting population growth.

The most direct supply-side policy would be expanding immigration, especially among working-age adults (reducing our exceptional rates of incarceration could also boost the noninstitutional population). But the Trump administration’s antipathy to immigration, and that of some Republicans in Congress, pushes the other way. Cutting legal immigration in half over the next decade could easily take 0.2 percentage points off future growth (see this nifty interactive tool from ProPublica and Moody’s Analytics). Three percent growth would then be even more of a stretch.

Another group of economists believes that demand-side policies—higher spending and supportive monetary policy—could lift growth above mainstream forecasts.

One trio of economists took a critical look at past efforts to forecast potential GDP growth, a key driver of long-run growth forecasts. They conclude that forecasters, including those at the Federal Reserve and the CBO, have overreacted to temporary economic shocks, overstating potential growth when times are good and understating it when times are bad. We’ve recently had bad times, so forecasters might be underestimating potential GDP almost 10 percent. If so, policies that boost demand could push up growth substantially in coming years. (For a related argument, see here.)

So where does that leave us?

Well, every crystal ball (and glowing orb) is cloudy. We should all be humble about our ability to forecast the economy over the next decade. Scarred by the Great Recession and its aftermath, forecasters may be inadvertently lowballing potential growth. Good luck and good supply- and demand-side policies might deliver more robust growth than they anticipate. But those scars remind us we can’t always count on good policy, and luck sometimes runs bad.

We can hope that luck and good policy lift growth to 3 percent. But it’s prudent to plan for 2 percent, and pray we don’t fall to 1 percent.

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How big is the underground sex economy in the United States and how does it work? The Urban Institute is out with a big study today that offers some answers. Here’s a brief summary of the full study (see also the accompanying feature).

Our study focused on eight US cities— Atlanta, Dallas, Denver, Kansas City, Miami, Seattle, San Diego, and Washington, DC. Across cities, the 2007 underground sex economy’s worth was estimated between $39.9 and $290 million. While almost all types of commercial sex venues—massage parlors, brothels, escort services, and street- and internet-based prostitution—existed in each city, regional and demographic differences influenced their markets.

Pimps and traffickers interviewed for the study took home between $5,000 and $32,833 a week. These actors form a notoriously difficult population to reach because of the criminal nature of their work. Our study presents data from interviews with 73 individuals charged and convicted for crimes including compelling prostitution, human trafficking and engaging in a business relationship with sex workers.

Pimps claimed inaccuracy in media portrayals. Most pimps believed that the media portrayals exaggerated violence. Some even saw the term “pimp” as derogatory, despite admitting to occasional use of physical abuse for punishment. Although pimps may have underreported the use of physical violence, they did cite frequent use of psychological coercion to maintain control over their employees.

Pimps manipulate women into sex work. From discouraging “having sex for free” to feigning romantic interest, pimps used a variety of tactics to recruit and retain employees. Some even credited their entry into pimping with a natural capacity for manipulation. Rarely, however, were pimps the sole influence for an individual’s entry into the sex trade.

Women, family, and friends facilitate entry into sex work. Female sex workers sometimes solicited protection from friends and acquaintances, eventually asking them to act as pimps. Some pimps and sex workers had family members or friends who exposed them to the sex trade at a young age, normalizing their decision to participate. Their involvement in the underground commercial sex economy, then extends the network of those co-engaged in the market even further.

Unexpected parties benefit from the commercial sex economy.  Pimps, brothels, and escort services often employed drivers, secretaries, nannies, and other non-sex workers to keep operations running smoothly. Hotel managers and law enforcement agents sometimes helped offenders evade prosecution in exchange for money or services. Law enforcement in one city reported that erotic Asian massage parlors would purchase the names of licensed acupuncturists to fake legitimacy. Even feuding gang members occasionally joined forces in the sex trade, prioritizing profit over turf wars. The most valuable network in the underground sex economy, however, may be the Internet.

The Internet is changing the limitations of the trade. Prostitution is decreasing on the street, but thriving online. Pimps and sex workers advertise on social media and sites like Craigslist.com and Backpage.com to attract customers and new employees, and to gauge business opportunities in other cities. An increasing online presence makes it both easier for law enforcement to track activity in the underground sex economy and for an offender to promote and provide access to the trade.

Child pornography is escalating. Explicit content of younger victims is becoming increasingly available and graphic. Online child pornography communities frequently trade content for free and reinforce behavior. Offenders often consider their participation a “victimless crime.”

The underground sex economy is perceived as low risk. Pimps, traffickers, and child pornography offenders believed that their crimes were low-risk despite some fears of prosecution. Those who got caught for child pornography generally had low technological know-how, and multiple pimp offenders expressed that “no one actually gets locked up for pimping,” despite their own incarcerations.

Policy and practice changes can help combat trafficking and prostitution.

  • Cross-train drug, sex, and weapons trade investigators to better understand circuits and overlaps.

  • Continue using federal and local partnerships to disrupt travel circuits and identify pimps.

  • Offer law enforcement trainings for both victim and offender interview techniques, including identifying signs of psychological manipulation.

  • Increase awareness among school officials and the general public about the realities of sex trafficking to deter victimization and entry.

  • Consistently enforce the laws for offenders to diminish low-risk perception.

  • Impose more fines for ad host websites.

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In a lengthy piece on “The Future of Jobs“, the Economist cites some estimates of the risk that IT will eliminate jobs over the next 20 years:

Bring on the Personal Trainers - Economist

So Keynes was right: Economists should aspire to be like dentists.

P.S. Actual Keynes quote: “If economists could manage to get themselves thought of as humble, competent people on a level with dentists, that would be splendid.”

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Because macroeconomists have messed it up for every one else , says Noah Smith at The Week:

To put it mildly, economists have fallen out of favor with the public since 2008. First they failed to predict the crisis, or even to acknowledge that such crises were possible. Then they failed to agree on a solution to the recession, leaving us floundering. No wonder there has been a steady flow of anti-economics articles (for example, this, this, and this). The rakes and pitchforks are out, and the mob is ready to assault the mansion of these social-science Frankensteins.

But before you start throwing the torches, there is something I must tell you: The people you are mad at are only a small fraction of the economics profession. When people in the media say “economists,” what they usually mean is “macroeconomists.” Macroeconomists are the economists whose job is to study business cycles — booms and busts, unemployment, etc. “Macro,” as we know it in the profession, is sort of the glamor division of econ — everyone wants to know whether the economy is going to do well or poorly. Macro was what Keynes wrote about, as did Milton Friedman and Friedrich Hayek.

The problem is that it’s hard to get any usable results from macroeconomics. You can’t put the macroeconomy in a laboratory and test it. You can’t go back and run history again. You can try to compare different countries, but there are so many differences that it’s hard to know which one matters. Because it’s so hard to test out their theories, macroeconomists usually end up arguing back and forth and never reaching agreement.

Meanwhile, there are many other branches of economics, doing many vital things.

What are those vital things? Some economists find ways to improve social policies that help the unemployed, disabled, and other vulnerable populations. Others design auctions for Google. Some evaluate development polices for Kenya. Others help start-ups. And on and on. Love it or hate it, their work should be judged on its own merits, not lumped in with the very different world of macroeconomics.

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Raghuram Rajan, soon to be India’s chief central banker, has an excellent piece today dissecting “The Paranoid Style in Economics” and counseling humility for folks engaged in economic policy. A short excerpt:

All of this implies that economic policymakers require an enormous dose of humility, openness to various alternatives (including the possibility that they might be wrong), and a willingness to experiment. This does not mean that our economic knowledge cannot guide us, only that what works in theory – or worked in the past or elsewhere – should be prescribed with an appropriate degree of self-doubt.

But, for economists who actively engage the public, it is hard to influence hearts and minds by qualifying one’s analysis and hedging one’s prescriptions. Better to assert one’s knowledge unequivocally, especially if past academic honors certify one’s claims of expertise. This is not an entirely bad approach if it results in sharper public debate.

The dark side of such certitude, however, is the way it influences how these economists engage contrary opinions. How do you convince your passionate followers if other, equally credentialed, economists take the opposite view? All too often, the path to easy influence is to impugn the other side’s motives and methods, rather than recognizing and challenging an opposing argument’s points.

The whole piece is worth a read.

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Economists often ignore politics when analyzing policy issues or view politics as a problem to overcome rather than as fundamental. When evaluating a carbon tax, for example, I try to tote up its potential environmental benefits, its hit to consumers and producers, what happens to the revenues, etc. I might also ponder what policy tweaks could facilitate a political coalition willing to enact such a tax. But I don’t typically worry about how a carbon tax would change the balance of power among coal, oil, nuclear, natural gas, and nuclear interests or between energy consumers and producers.

In the latest Journal of Economic Perspectives, Daron Acemoglu and James Robinson argue that this approach is short sighted, sometimes dangerously so. They argue that economic policy analysts should evaluate how policy decisions might change the future balance of political power and, thereby, the efficiency and fairness of future economic decisions:

There is a broad—even if not always explicitly articulated—consensus amongst economists that, if possible, public policy should always seek ways of reducing or removing market failures and policy distortions. In this essay, we have argued that this conclusion is often incorrect because it ignores politics. In fact, the extant political equilibrium may crucially depend on the presence of the market failure. Economic reforms implemented without an understanding of their political consequences, rather than promoting economic efficiency, can significantly reduce it.

Our argument is related to but different from the classical second-best caveat of Lancaster and Lipsey (1956) for two reasons. First, it is not the interaction of several market failures but the implications of current policy reforms on future political equilibria that are at the heart of our argument. Second, though much work still remains to be done in clarifying the linkages between economic policies and future political equilibria, our approach does not simply point out that any economic reform might adversely affect future political equilibria. Rather, building on basic political economy insights, it highlights that one should be particularly careful about the political impacts of economic reforms that change the distribution of income or rents in society in a direction benefiting already powerful groups. In such cases, well-intentioned economic policies might tilt the balance of political power even further in favor of dominant groups, creating significant adverse consequences for future political equilibria.

Our argument is that economic policy should not just focus on removing market failures and correcting distortions but, particularly when it will affect the distribution of income and rents in society in a direction that further strengthens already dominant groups, its implications for future political equilibria should be factored in. It thus calls for a different framework, explicitly based in political economy, for the analysis of economic policy. Much of the conceptual, theoretical, and empirical foundations of such a framework remain areas for future work.

They offer several examples, including the allocation of natural resource rights (an Australian approach promoted democracy, while one in Sierra Leone did not) and financial and banking regulation / deregulation in the United States.

Well worth a read.

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