Macro Roundup

InAccounting for the U.S. Earnings and Wealth Inequality(2002) the authors present a theory of earnings and wealth inequality based on the “optimal choices of ex-ante identical households who face uninsured idiosyncratic shocks to their endowments of efficiency labor united accounts for the U.S. earnings and wealth inequality almost exactly.” The author’s model succeeds in accounting for observed earnings and wealth inequality in spite of the disincentives created by the mildly progressive U.S. income and estate tax system. In fact they find that even though the, “roles played by intergenerational transmission of earning ability and the life cycle profile of earnings are quantitatively significant, they are not crucial to accounting for the U.S. earnings and wealth inequality.”

The language basically means that this model is an alternative to explaining consumption and income distribution in the U.S. opposed to say Pikett’s r > g.

One of the more interesting conclusions is:

We find that abolishing estate taxation brings about an increase in steady-state output of 0.35 percent and an increase in the steady-state stock of capital of 0.87 percent. Along every other dimension, the differences between the benchmark and the No Estate Tax model economies are negligible. If anything, we find that abolishing estate taxation brings about a very small increase in wealth inequalitySpecifically, the Gini index of wealth increases from 0.79 to 0.80, and the share of total wealth owned by the top quintile increases from 81.97 percent to 82.33 percent. We conjecture that the main reason that justifies these findings is that, given the demographics of our model economy, the role played by the estate tax rate in determining the after-tax rate of return of the economy is quantitatively very small.

They also note:

Our findings also indicate that we can account for the earnings and wealth inequality observed in the U.S. without having to model the poor and the rich as being different. Instead, the poor and the rich can be though of as being essentially the same type of people, that have been subject to a different set of circumstances.

Castaneda, Ana and Javier Diaz-Gimenez and Jose-Victor Rios-Rull, “Accounting for the U.S. Earnings and Wealth Inequality,” Journal of Political Economy, August 2002

Available at:http://www.econ.umn.edu/~vr0j/papers/maxrefin.pdf

In a new NBER paper Bob Hale attempt to quantify the extent to which the post 2007 decline in output, the “output gap” has been “supply side” driven or “demand side” driven. Hale calculates the demand shortfall from a pre-2007 trend at 13.3 percent of GDP. His conclusions are worth quoting at length, (italics are mine):

No reason to expect that the cumulative shortfall in productivity growth of 3.4 percentage points of output could be reversed by a sudden increase in product demand.That shortfall seems to be the result of a period of reduced innovation, possibly the result of the crisis. The level of technology is a state variable, and this not moveable by immediate policy. These statements are not intended as a forecast about productivity growth, however. Productivity forecasts have had no success historically. Productivity growth is a noisy process. Whether the return to a normal economy will result in a catchup in productivity growth in the longer term is an unsettled question of growth economics.

The conclusions for the capital stock are the most focused in the paper. It is unambiguous that the capital stock is an important state variable of the economy. It is responsible for the largest part of the output shortfall, 5.0 percentage points.It can’t respond immediately to a boost to product demand, but a boost would probably trigger an accelerator response that would close some part of the shortfall. In the longer run, the strong mean reversion in the historical capita/output ration should work to close the entire gap.

Employment was held back in the post-crisis period by high unemployment, which can be seen as a reduction in the labor supply. Unemployment dropped slowly to 1.3 percentage points above normal in 2013, contributing 0.9 percentage points to the shortfall in output in that year.The return to normal has been slower than in previous post-recession episodes because the crisis shifted the composition of jobseekers towards those with low job-finding rates and low exit rates from unemployment. An increase in product demand would accelerate the remaining move back to normal. Mean reversion of unemployment is a well-established feature of the U.S. economy and there seems little reason to think that the crisis would affect the unemployment rate in any highly persistent way.

Labor-force participation fell substantially after the crisis, contributing 2.5 percentage points to the shortfall in output.The decline showed no sign of reverting as of 2013. Part is demographic and will stabilize, and part reflects low job-finding rates, which should return to normal slowly. But an important part may be related to the large growth in beneficiaries of disability and food stamp programs. Bulges in their enrollments appear to be highly persistent. Both programs place high taxes on earnings and so discourage labor-force participation among beneficiaries. The bulge in program dependence is a state variable arguably resulting from the crisis that may impede output employment growth for some years into the future.

So according to Hale the slowdown in productivity growth (3.4%) reduction in the capital stock (5.0%) unemployment (0.9%) and labor force participation (2.5%) make up the vast majority (11.8%) of the 13.3% of GDP output gap - these headwinds are structural and thus not easily offset by state intervention, either fiscally or monetarily.