Where I answer Janet Yellen’s question about inequality

From my new The Week column:

Now you can add Federal Reserve Chair Janet Yellen to the list of policy-makers fretting about the gap between the rich and everybody else. “The extent of and continuing increase in inequality in the United States greatly concern me,” she said last week. “I think it is appropriate to ask whether this trend is compatible with…the high value Americans have traditionally placed on equality of opportunity.”

Let me answer Yellen’s question: So far, yes, rising inequality seems to fit just fine with an American society that puts great importance on improving your lot in life through smarts and hard work. A highly regarded study earlier this year found, after examining millions of tax records, that children entering the job market today have the same chance of climbing the income ladder as children born in the 1970s — that despite rising inequality. Indeed, the economists found little correlation between income mobility and high-end income inequality between the 1 percent and 99 percent.

The rich getting richer isn’t what keeps people from climbing the success ladder. In fact, having lots of super-rich people can create more opportunity for everybody. Well, at least the right kind of super-rich. Not so much old money scions or CEOs with lucrative stock options. But entrepreneurs are a different breed of billionaire. We want risk-takers creating new businesses that offer innovative and amazing new goods and services. And we want those start-ups to grow and grow and hire lots of people.

Pethokoukis, Economics, U.S. Economy

The latest on Lockheed Martin’s possible nuclear fusion breakthrough

MIT Technology Review’s David Talbot offers some helpful perspective on that Lockheed Martin announcement of a breakthrough in nuclear fusion. The company says it’s on track to sell a small, very powerful reactor within a decade. Not surprisingly, the piece gives room to the skeptics to make their case, although they don’t have much info on the details of what Lockheed is doing:

Ian Hutchinson, a professor of nuclear science and engineering at MIT and one of the principal investigators at the MIT fusion research reactor, says the type of confinement described by Lockheed had long been studied without much success.Hutchinson says he was only able to comment on what Lockheed has released—some pictures, diagrams, and commentary, which can be found here. “Based on that, as far as I can tell, they aren’t paying attention to the basic physics of magnetic-confinement fusion energy. And so I’m highly skeptical that they have anything interesting to offer,” he says. “It seems purely speculative, as if someone has drawn a cartoon and said they are going to fly to Mars with it.”

But it’s not just Lockheed on the case, by the way:

Lockheed joins a number of other companies working on smaller and cheaper types of fusion reactors. These include Tri-Alpha, a company based near Irvine, California, that is testing a linear-shaped reactor; Helion Energy of Redmond, Washington, which is developing a system that attempts to use a combination of compression and magnetic confinement of plasma; and Lawrenceville Plasma Physics in Middlesex, New Jersey, which is working on a reactor design that uses what’s known as a “dense plasma focus.”

Another startup, General Fusion, based in Vancouver, British Columbia, tries to control plasma using pistons to compress a swirling mass of molten lead and lithium that also acts as a coolant, absorbing heat from fusion reactions and circulating it through conventional steam generators to spin turbines (see “A New Approach to Fusion”).

And as I have written before, Silicon Valley has a growing interest in the technology.

Economics, Pethokoukis, U.S. Economy

Reality check: As activists push for a higher minimum wage, McDonald’s automates

Image Credit: Shutterstock

Image Credit: Shutterstock

The economic impact of the minimum wage is one of the most studied public-policy topics I’ve run across. But sometimes these analyses have an air of unreality about them. At an AEI event earlier this year, Heidi Shierholz — then an EPI think tanker, now the US Labor Department’s chief economist – argued in favor of President Obama’s plan to raise the minimum wage. Shierholz also said she was “not so worried” about the possibility that dramatically raising the minimum wage might worsen the competitive position of low-skill humans versus machines. “It’s an unknown,” she added, what will happen in the future.

Well, perhaps the future is here. Here is an interesting tidbit from McDonald’s earning conference call yesterday (via The Wall Street Journal):

By the third quarter of next year, McDonald’s also plans to fully roll out new technology in some markets to make it easier for customers to order and pay digitally and to give people the ability to customize their orders, part of what the company terms the “McDonald’s Experience of the Future” initiative.

As a WSJ editorial put it, ” … consumers better get used to the idea of ordering their Big Macs on a touchscreen.” Now McDonald’s has been frequently attacked by minimum wage proponents. Although CEO Don Thompson has suggested the company would support Obama’s call for a $10.10 wage, that’s not good enough for advocates who want the minimum set at $15 an hour.

But there is a better way to help low-skill workers, at least over the near term: expand the Earned Income Tax Credit or tack on some other sort of new wage subsidy. As AEI economist Michael Strain has put it:

Liberals, in supporting minimum-wage increases, implicitly argue that the employers of low-skill workers, together with consumers of the products and services the workers help provide, should bear the burden of ensuring that low-skill workers don’t live in poverty. Conservatives should reject this argument, insisting that all of society is responsible for helping the working poor — to escape poverty, to earn their own success, to flourish.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Economics, Monetary Policy, Pethokoukis, U.S. Economy

Why attacking the Fed for making inequality worse is mostly wrong


Fed Chair Janet Yellen is worried about inequality. As she said in a speech last week:

The extent of and continuing increase in inequality in the United States greatly concern me. I think it is appropriate to ask whether this trend is compatible with values rooted in our nation’s history, among them the high value Americans have traditionally placed on equality of opportunity.

Now some Fed critics found Yellen’s concerns ironic or even hypocritical. After all, haven’t the Fed’s actions made inequality worse? Hasn’t quantitative easing pumped up the stock market to the benefit of wealthier Americans who have more of their assets in stocks than do the 99%? To this criticism, Boston Fed boss Eric Rosengren offers a spot-on response in a chat with the WaPo’s Matt O’Brien:

There’s no disputing the fact that asset prices have gone up as a result of what we’re doing,” Rosengren acknowledged, and that “disproportionately helps somebody who has enough wealth that they have, for example, stocks.” But “on balance” he “thinks the net benefits outweigh the net costs in terms of income inequality” for a simple reason: “the one thing that really contributes to income inequality is to have no income at all.”

Or, as he put it, “being unemployed is the ultimate inequality. It not only destroys your income, but probably destroys your wealth, and frequently has big impacts on your entire family.” And that means, “to the extent that QE and the other tools that we’re using bring the unemployment rate down, that disproportionately helps people at the lower end of the [income] distribution.” Furthermore, “if you think about who’s the lender and the creditor, the creditor who’s lending the funds tends to be at the upper end of the distribution.” So “low interest rates are good for the people at the bottom of the distribution” who need to borrow to go school or buy a car or a house.

Really, you have to consider the counterfactual, as Rosengren does. The US economy likely would look a whole lot more like the depressed eurozone right now if the Fed had mimicked the ECB and followed similar tight money policies. If the price for avoiding a multiyear depression is higher inequality, then so be it. Don’t forget that inequality dropped sharply during the Great Recession, though America was hardly better for it.

Now of course, the Fed could have theoretically followed a more egalitarian path by foregoing a bond-buying program that supports asset prices and instead doing a “helicopter drop.” Economist David Beckworth describes how that ideally might work:

First, the Fed adopts a NGDP level target. Doing so would better anchor nominal spending and income expectations and therefore minimize the chance of ever entering a liquidity-trap. In other words, if the public believes the Fed will do whatever it takes to maintain a stable growth path for NGDP, then they would have no need to panic and hoard liquid assets in the first place when an adverse economic shock hits.

Second, the Fed and Treasury sign an agreement that should a liquidity trap emerge anyhow and knock NGDP off its targeted path, they would then quickly work together to implement a helicopter drop. The Fed would provide the funding and the Treasury Department would provide the logistical support to deliver the funds to households. Once NGDP returned to its targeted path the helicopter drop would end and the Fed would implement policy using normal open market operations. If the public understood this plan, it would further stabilize NGDP expectations and make it unlikely a helicopter drop would ever be needed.

Certainly a more populist approach to monetary policy. Yet I doubt many Fed critics, at least those on the right, would like this alternate option any better than QE. But unless you wanted a repeat of the 1930s, doing nothing and letting the financial crisis “burn itself out” hardly seems realistic.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Economics, Financial Services, Pethokoukis

Is breaking up the megabanks back on the Washington agenda?

meagankirk /

meagankirk /

Shape up or break up. That’s the message Federal Reserve Bank of New York President William Dudley gave to Wall Street yesterday. Too much risk taking and law breaking means government will have to take action without some big changes by the megabanks. From the Wall Street Journal:

His comments, at a closed-door meeting at the New York Fed with big bank executives, continue his campaign of publicly and privately criticizing what he sees as Wall Street’s ongoing ethical lapses. Mr. Dudley said that if big banks don’t make significant changes to improve their ability to comply with laws, pressure to break up the banks will only increase.

“The inevitable conclusion will be reached that your firms are too big and complex to manage effectively,” he said. “In that case, financial stability concerns would dictate that your firms need to be dramatically downsized and simplified so they can be managed effectively.”

Almost a decade, now, after the start of the Financial Crisis, this issue isn’t going away. The megabanks are getting bigger and the US financial system more concentrated. Too Big To Fail is still here, despite the Dodd Frank financial reform law. As Guggenheim analyst Jaret Seiberg puts it in a morning note:

– We believe this is consistent with our view that the mega banks are still facing increased policy risk, including pressure to break themselves up.

– In our view, regulators would like investors to pressure the biggest banks to shrink and to clean up their act so the agencies do not have to actively break up the mega banks. Yet we believe it would be a mistake to confuse this preference with an unwillingness to act. More mega bank scandals may compel regulators to impose structural punishments on the mega banks.

Dudley had some specific recommendations, too, such as the creation of a “performance bond” that senior management would forfeit if the bank got hit with a big fine. Also, he suggests building a central database to track lower level employees so bad eggs don’t keep getting fired and rehired across the industry. The point here is to wring short-term thinking out of megabank management.

I am all for that goal generally, not just on Wall Street but across Corporate America. But this would seem a losing or at least insufficient battle as long as investors believe the government backstop still exists. That presumed support not only makes yet another financial crisis more likely but also makes the US economy less innovative and productive. A next-stage financial reform agenda might include thing like much higher equity funding levels (which might cause banks to shrink on their own) and/or avoiding the deflationary consequences of megabank failures through “helicopter drop” monetary policy and fast-tracking the approval of new banks. But whatever your policy preference, Dodd Frank certainly has not ended the debate about US financial reform.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.


Wow. 5 years into a recovery, 65% think the US is on the ‘wrong track,’ while 64% say things are ‘out of control’


Which of these polls is more depressing? This one:

The depressive donkey in A.A. Milne’s “Winnie the Pooh” stories pretty much matches the mood of Americans lately, according to the new Wall Street Journal/NBC News poll released last week. When 1,000 potential voters were asked whether they think the nation is on the right or wrong track, 65% of them said the country had taken a wrong turn, and only 25% said the U.S. was on the right path.

The only time the public has felt worse was in October 2008, during the first, deep spasms of the recession. Then, 78% said the nation was on the wrong track, and only 12% felt good about the country’s direction. The last time “right direction” beat out “wrong track” was in January 2004 — and the last election cycle where that was the case was 2002.

Or this one:

An overwhelming majority of voters in the most competitive 2014 elections say it feels as if events in the United States are “out of control” and expressed mounting alarm about terrorism, anxiety about Ebola and harsh skepticism of both political parties only three weeks before the Nov. 4 midterms.

In a POLITICO poll testing the hardest-fought states and congressional districts of the year, two-thirds of likely voters said they feel that the United States has lost control of its major challenges. Only 36 percent said the country is “in a good position to meet its economic and national security” hurdles.

I mean, the Ebola outbreak is scary, but more than five years into an economic recovery, and most Americans think the country is on the “wrong track” and “out of control.” Maybe it’s time for another Washington pep talk about how bad the economy was in January 2009 …

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Pethokoukis, Economics, U.S. Economy

Here’s another way Yellen’s big inequality speech was a missed opportunity


The apparent decline in US startups is bad news for two reasons. First, it means fewer potential Googles and Apples and Twitters and other high-impact businesses. Second, it also means fewer small businesses that — while they may not make their owners millions or billions — might provide a rung or two up the economic ladder. Although I had many problems with Fed Chair Janet Yellen’s inequality speech last week, at least she did address the business formation issue:

For many people, the opportunity to build a business has long been an important part of the American dream. In addition to housing and financial assets, the SCF shows that ownership of private businesses is a significant source of wealth and can be a vital source of opportunity for many households to improve their economic circumstances and position in the wealth distribution. …

Owning a business is risky, and most new businesses close within a few years. But research shows that business ownership is associated with higher levels of economic mobility. However, it appears that it has become harder to start and build businesses. The pace of new business creation has gradually declined over the past couple of decades, and the number of new firms declined sharply from 2006 through 2009. The latest SCF shows that the percentage of the next 45 that own a business has fallen to a 25-year low, and equity in those businesses, adjusted for inflation, is at its lowest point since the mid-1990s. One reason to be concerned about the apparent decline in new business formation is that it may serve to depress the pace of productivity, real wage growth, and employment. Another reason is that a slowdown in business formation may threaten what I believe likely has been a significant source of economic opportunity for many families below the very top in income and wealth.

Still, while Yellen had plenty to stay about public funding and education, she had nothing to say about how regulation is sapping our startup culture. I mean, not even a word about the terrible burden of occupational licensing on lower-income Americans. What a missed opportunity to bring some light to an issue that plenty of folks across the political spectrum agree on.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Pethokoukis, Economics, U.S. Economy

What happened to our entrepreneurial society?



I have written a lot about the secular decline in US entrepreneurship. As economist Ian Hathaway noted in a podcast with me:

If you look at the number of freshly launched firms in a given year and you take that as a share of all firms, that rate declined from about 15 percent or so in the late ’70s to about 8 percent in 2012, which is our latest data. We actually just had a data release yesterday.  So the startup rate has declined by about half over that period.

What’s more, the number of young tech firms—the kinds of firms generating new ideas, products, services, and jobs—has fallen below 80,000 from a high of 113,000 in 2001. Blame the tech bubble if you want, but that was 14 years ago. And as Irving Wladawsky-Berger noted in the Wall Street Journal earlier this month (h/t to Jone Dearie), this is supposed to be an age of entrepreneurship:

Five years ago, The Economist published a special report on entrepreneurship. “Entrepreneurialism has become cool,” it said, and called it “An idea whose time has come.” The Economist concluded that “The rise of the entrepreneur, which has been gathering speed over the past 30 years, is not just about economics. It also reflects profound changes in attitudes to everything from individual careers to the social contract. It signals the birth of an entrepreneurial society.”

Moreover, as plenty of books and articles remind us, it’s never been easier to become an entrepreneur and start your own company. Digital technologies are inexpensive and ubiquitous, startups have access to all kind of cloud-based business services, and customers can now be easily reached and supported over mobile devices. What happened to our entrepreneurial society?

I have my theories.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Economics, International economy, Pethokoukis

Why the days of superfast Chinese economic growth may be over

Back in 2010, there was an issue ad showing a “Chinese professor” in the year 2030 lecturing his students about America’s collapse. “Why do great nations fail?” he asked. “The ancient Greeks, the Rome Empire, the British Empire, the United States of America — they all make the same mistakes, turning their back on the principles that made them great.”

Sure, America faces some big economic challenges. But what about the other side of that equation? Does China have the right principles and institutions to dominate the 21st century?

Consider: China currently has a $9 trillion economy vs. $17 trillion for America. It makes a great deal of difference how fast China grows in the future. For instance: If China were to grow as fast the next two decades as it did 2000-2010, about 9.7% a year, its GDP would grow to $60 trillion by 2033. Such an increase, Lant Pritchett and Larry Summers write in their new paper “Asiaphoria Meets Regression to the Mean,” would mean a gain in GDP “more than three times as large as the current U.S. economy. The continuation of current growth rates would make China far and away the world’s dominant economy.” This is the future depicted in the Chinese professor ad.

But most economists don’t think that scenario as likely as a slowdown. So let’s knock off a couple, three percentage points and figure 7% growth. If that were to happen, China GDP would grow to $36 trillion by 2033.

But Pritchett and Summers are even more pessimistic. As they calculate, historical trends suggests Chinese growth of just 3.9%, meaning a 2033 China GDP of $21 trillion, not $60 trillion. By contrast, US GDP — modestly assuming 2% real growth and 2% inflation — would be $36 trillion. America would remain the world’s dominant economy.

Here is why Pritchett and Summers are gloomy about China (and India for that matter):

Consensus forecasts for the global economy over the medium and long term predict the world’s economic gravity will substantially shift towards Asia and especially towards the Asian Giants, China and India. While such forecasts may pan out, there are substantial reasons that China and India may grow much less rapidly than is currently anticipated.

Most importantly, history teaches that abnormally rapid growth is rarely persistent, even though economic forecasts invariably extrapolate recent growth. Indeed, regression to the mean is the empirically most salient feature of economic growth. It is far more robust in the data than, say, the much-discussed middle-income trap.

Furthermore, statistical analysis of growth reveals that in developing countries, episodes of rapid growth are frequently punctuated by discontinuous drop-offs in growth. Such discontinuities account for a large fraction of the variation in growth rates. We suggest that salient characteristics of China—high levels of state control and corruption along with high measures of authoritarian rule—make a discontinuous decline in growth even more likely than general experience would suggest. 

In other words, not only does history suggest superfast growth is tough to maintain, but that finding may especially be true of nations with awful institutions. Authoritarian states or those with statist macroeconomic policies rife with crony capitalism are typically not the sort able to generate dynamic growth over the long term. (You need to think about this, too, Washington.)

This is hardly good news, though. The faster China and India grow, the faster the global economy grows and the faster millions of people move out of poverty. What’s more, slower growth might affect the stability of the Chinese regime with unpredictable consequences:

 … much geopolitical analysis has focused on the implications of a rising China, and certainly Chinese international relations theorists have extensively studied past rising powers. Contingency planning should also embrace scenarios in which Chinese growth slows dramatically, presumably bringing with it a range of domestic and international political implications.

Then again, without regime change China may be unable to transition to a more organic, free enterprise-driven economy capable of better generating and using innovation. I think I have a few questions for that Chinese professor.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.


What are the most and least conservative cities in America?

This chart, via boingboing, is from the MIT paper “Representation in Municipal Government” by Chris Tausanovitch and Christopher Warshaw:

"Representation in Municipal Government"

“Representation in Municipal Government”

And from the paper’s summary, which challenges the idea that there isn’t a liberal or conservative way to collect the trash:

Municipal governments play a vital role in American democracy, as well as in governments around the world. Despite this, little is known about the degree to which cities are responsive to the views of their citizens. In the past, the unavailability of data on the policy preferences of citizens at the municipal level has limited scholars’ ability to study the responsiveness of municipal government.

We overcome this problem by using recent advances in opinion estimation to measure the mean policy conservatism in every U.S. city and town with a population above 20,000 people. Despite the supposition in the literature that municipal politics are non-ideological, we find that the policies enacted by cities across a range of policy areas correspond with the liberal-conservative positions of their citizens on national policy issues.

In addition, we consider the influence of institutions, such as the presence of an elected mayor, the popular initiative, partisan elections, term limits, and at-large elections. Our results show that these institutions have little consistent impact on policy responsiveness in municipal government. These results demonstrate a robust role for citizen policy preferences in determining municipal policy outcomes, but cast doubt on the hypothesis that simple institutional reforms enhance responsiveness in municipal governments.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.