Macro Roundup

Chinese President Xi Jinping likes to boast, “The East is rising, the West is declining.” When the rivalry was limited to China and the U.S., this had some resonance: At current rates of growth, China will surpass the U.S. as the world’s largest economy as soon as 2030 despite U.S. gains in the last year. But with China partnered with Russia and the West more united than ever, this is turning into a contest of alliances, and Xi couldn’t be more wrong...By itself, China accounted for 18% of global gross domestic product at current exchange rates last year, based on International Monetary Fund data. Adding Russia and their assorted allies brings the total to just 20%. The U.S., meanwhile, accounted for 24%, and adding its allies vaults the total to 59%

Greg Ip, "How the West Can Win a Global Power Struggle,"Wall Street Journal, March 18, 2022, https://www.wsj.com/articles/how-the-west-can-win-a-global-power-struggle-11647615557

How the West Can Win a Global Power Struggle

In the years preceding its invasion of Ukraine, Russia set out to sanction-proof its economy by developing local substitutes for key foreign products, such as microprocessors. The only problem: Since it lacks advanced semiconductor fabrication capacity, production of these Russian-designed chips was outsourced, mainly to Taiwan Semiconductor Manufacturing Co. After the invasion of Ukraine, Taiwan joined the U.S. in banning the export of sensitive technology to Russia. TSMC immediately promised to comply.

Russia may be an energy superpower but Taiwan is a semiconductor superpower, and semiconductors are harder to replace than oil. Therein lies a critical insight about the emerging Cold War between Russia and China on one side and the West—the U.S. and its democratic allies—on the other. This Cold War will be much more of an economic contest than the first, and the balance of economic power favors the U.S. and its allies. And it’s not even close.

Chinese President Xi Jinping likes to boast, “The East is rising, the West is declining.” When the rivalry was limited to China and the U.S., this had some resonance: At current rates of growth, China will surpass the U.S. as the world’s largest economy as soon as 2030 despite U.S. gains in the last year.

But with China partnered with Russia and the West more united than ever, this is turning into a contest of alliances, and Xi couldn’t be more wrong. In this framing, “East” and “West” are not geographic, but geopolitical, labels. If “the East” is defined as those countries with which China is closely aligned (it eschews formal alliances), only China is any sense rising. Russia was a stagnating petrostate even before sanctions eviscerated its economy. The others, such as Kazakhstan, Belarus, Pakistan, North Korea, Cambodia and Laos, are poor, slow-growing, or both. The West, defined as the European Union, the anglosphere (the U.S., Australia, Canada, Britain and New Zealand) and East Asia’s three big, rich democracies, Japan, South Korea and Taiwan, may not be growing rapidly, but it is growing and has a gigantic head start. As former U.S. Treasury Secretary Henry Paulson said a Chinese official once told him: “You have all the good allies.”

By itself, China accounted for 18% of global gross domestic product at current exchange rates last year, based on International Monetary Fund data. Adding Russia and their assorted allies brings the total to just 20%. The U.S., meanwhile, accounted for 24%, and adding its allies vaults the total to 59%.

While sanctions on Russia demonstrate the West’s control of the global financial system, long-run economic advantage will come from technology and knowledge. In pure science—such as space travel and atomic energy—Russia and China certainly hold their own. But in commercially useful technology, Western companies lead in almost every field, from commercial aviation and biotechnology to semiconductors and software.

“If you have a coherent strategy across the major democracies, you’re in an enormously robust position in terms of financial, economic and technological leverage,” said former Australian Prime Minister Kevin Rudd, now president of the Asia Society think tank.

Of course the East plays a central role in the global economy. As recent market turmoil illustrates, Russia is a key supplier of not just oil and gas but metals such as palladium, used in catalytic converters, and nickel. China dominates manufacturing of countless goods whose value became abundantly clear during the pandemic, when demand for some, such as protective personal equipment, skyrocketed.

To a great extent these strengths reflect Russia’s comparative advantage in geology and China’s in factory labor. The West’s comparative advantage is in knowledge. That’s why Russia and China court Western investment. For example, to develop a complex liquefied natural gas (LNG) project in the Arctic, Russia relied on Norwegian, French and Italian contractors for essential expertise, research firm Rystad Energy notes.

Catching up with the West is no easy task, as semiconductors illustrate. Western companies dominate all the key steps in this critical and highly complex industry, from chip design (led by U.S.-based Nvidia, Intel, Qualcomm and AMD and Britain’s ARM) to the fabrication of advanced chips (led by Intel, Taiwan’s TSMC and South Korea’s Samsung ) and the sophisticated machines that etch chip designs onto wafers (produced by Applied Materials and Lam Research in the U.S., the Netherlands’ ASML Holding and Japan’s Tokyo Electron ).

Russia and China have made efforts to reduce this dependence. Russia developed locally designed microprocessors called Elbrus and Baikal to run data centers, cybersecurity operations and other applications. Though neither has achieved significant market share, they “represent the pinnacle of local design capability,” said Kostas Tigkos, principal at Jane’s, a defense intelligence provider. Russia hoped that they would eventually displace chips made by Intel and AMD, he said. “This would not only have been the foundation for diversifying their installed base, but a stepping stone for exports of those processors to other friendly nations.” But without manufacturers like TSMC to make the chips, Russia is facing “the complete disintegration of their aspirations to develop their own industry.”

China has a much bigger semiconductor industry than Russia, and its partly state-owned national champion, Semiconductor Manufacturing International Co. (SMIC), could in theory make Russia’s chips, but that would take at least a year, Mr. Tigkos said. Moreover, its efforts to catch up to its Taiwanese competitor have been set back by sanctions. In 2020 the U.S. required companies using American technology to obtain a license to sell to SMIC. This effectively limited its ability to acquire advanced equipment from Netherlands’ ASML, which is critical for “any country that wants to have a competitive semiconductor industry,” Mr. Tigkos said.

Why does all this matter to the outcome of the geopolitical contest? Over time economic weight, strength and vitality are what allow countries to sustain military capability, achieve and maintain technological superiority, and remain attractive partners for other countries.

Yet GDP does not automatically equate to strategic influence. To win a Cold War, it’s not enough for the West to hold the best economic cards, it has to know how to play them. Economic statecraft, as this is called, does not come naturally to the West: Its institutions are built on the assumption that companies are private enterprises, not instruments of the state. They do business wherever it’s profitable, regardless of their home countries’ strategic interests.

No such division exists in Russia and China. Russian President Vladimir Putin used state control of key industries such as natural gas to reward or threaten neighbors. The Chinese Communist Party insists that state-owned and even private enterprises give priority to the state’s interests. In return, China tilts the playing field in those companies’ favor at home and abroad. Chinese state-sponsored hackers steal commercial secrets from Western companies, the U.S. has alleged. China is a master of economic coercion, punishing countries such as Australia or Lithuania or companies that cross its diplomatic red lines by depriving them of access to the Chinese market, knowing other countries and companies will eagerly take their place.

China has also learned how to play companies and countries in the West off against one another—favoring whoever promises to share more of its technology with Chinese partners, or avoids criticism of China.

Western governments, such as Germany, exaggerate China’s economic power and underappreciate their own, said Luke Patey, an expert on China’s international economic strategy at the Danish Institute for International Studies. “Germany has a full house when it comes to geoeconomics but plays like it has a pair of threes,” Mr. Patey said. The West frets that Chinese companies lead in fifth-generation telecommunications equipment—such as Huawei Technologies—and electric vehicle batteries. But, he said, “We sell short the fact that up there with Huawei are Ericsson, Nokia and Samsung,” based in Sweden, Finland and South Korea, respectively. Meanwhile Japan’s Panasonic and South Korea’s LG “are making the most sophisticated electric vehicle batteries in the world.”

For the West to play this game, it will have to more skillfully employ its ample economic assets toward geopolitical ends. The sanctions on Russia show that it can: The West showed a remarkable breadth and unity in its willingness to sustain significant economic discomfort in order to punish Russia. When the Trump administration imposed export controls on China, Taiwan did not join in but its companies were forced to comply because they use U.S. technology. This time Taiwan itself locked arms with the U.S. “Taiwan strongly condemns Russia’s invasion of Ukraine. Our country joins the U.S., EU & other like-minded partners in sanctioning Russia,” its Ministry of Foreign Affairs tweeted.

Still, in one sense this is an easy test. Will the West’s unity persist if Ukraine slips from the headlines and economic pain mounts? More important, could it muster the same effort with China, a critical market and supplier to many companies and countries in the West?

If China attacks Taiwan, which it considers a renegade province, ostracizing it from the global economy would be next to impossible. Nonetheless, Western governments have begun circumscribing business ties with China in response to its more aggressive behavior toward its neighbors and “Made in China 2025,” an economic blueprint for dominance in key technologies. Germany and Italy are applying more stringent criteria to foreign investment in their companies, wary of advanced technology being transferred to Chinese competitors. Japan is now debating an economic security law to safeguard supply chains and screen foreign investment and equipment used in sensitive infrastructure. Companies that had prioritized expansion on China are now boosting their Western presence. TSMC is building fabrication plants in Arizona and Japan while Intel has announced new or expanded facilities in Ohio, France, Germany and Italy.

Western cooperation in such efforts, though nascent, is growing. When the U.S. and European Union settled a long-running dispute over each others’ subsidies to Boeing and Airbus last year, they also agreed to develop a common approach toward “non-market economies,” i.e. Russia and China, on civil aircraft. For example, they agreed those countries cannot make investment in their aviation sectors contingent on “the transfer of technology or jobs to the detriment” of the U.S. and Europe.

Sustaining an economic edge also requires continuous reinvestment. At present, the West holds a comfortable lead. Based on purchasing power rather than current exchange rates, China and Russia spent $570 billion on research and development in 2019, the latest figures available; the U.S. and its largest democratic allies spent more than twice as much, $1.5 trillion, according to the Organization for Economic Cooperation and Development.

When it comes to human capital, the lead narrows slightly: Russia and China have 2.5 million researchers, the U.S. and its allies about 5.2 million. It’s in the future talent pool that the gap really starts to close. China alone awards more science and engineering undergraduate degrees than the U.S., Britain, France, Germany, Japan and South Korea combined. Students in China are more likely to pursue science and engineering than in other countries. This pool of talent is a formidable engine for domestic innovation and a magnet for foreign and domestic investment. The lack of a similar pool constrains American efforts to bring critical manufacturing back to the U.S. In a speech in Taiwan last year Morris Chang, the founder of TSMC, complained that American engineers “don’t want to work in the manufacturing industry…Taiwan’s superiority in this is that it has a large number of excellent and dedicated engineers willing to throw themselves into manufacturing.”

The West makes up for the shortage of homegrown talent through immigration. A study by the Peking University Institute of International and Strategic Studies earlier this year lamented that 34% of China’s top artificial intelligence talents worked in China while 56% worked in the U.S., whose “relatively relaxed and innovative scientific research environment is…favored by scientific and technological talents.” Tech entrepreneurs are motivated by freedom and wealth, both of which are slipping out of reach in China and Russia.

Thus a key factor in whether the West can sustain its edge is whether it can remain a magnet for talent. Yet the West’s openness to trade and immigration and even its commitment to democracy have come under stress. In the last decade support in Europe and the U.S. has surged for right-wing populists opposed to immigration and free trade, skeptical of NATO, and admiring of Mr. Putin. These include Marine Le Pen, a contender for president in France’s elections this spring, and former U.S. President Donald Trump, who may seek the White House again in 2024. Democracy has backslid in Hungary, Poland and the U.S., according to the think tank Freedom House.

This points to the final and perhaps biggest challenge for Western nations. Having shown how effectively they can sever ties with Russia, can they be equally effective in strengthening ties with each other and unaligned players like India, Brazil and Vietnam—and thus be an attractive alternative to the autocratic East?

After World War II the U.S. used trade to strengthen other democracies and bind allies, and its reward was a democratic and prosperous West. Yet since the 2000s Americans have soured on this model, as expanded trade with the likes of China brought economic turmoil and little geopolitical benefit. Mr. Trump saw trade as a zero-sum game and hit allies and adversaries alike with tariffs. He pulled the U.S. out of the Trans-Pacific Partnership with 11 other Pacific rim countries, a pact covering not just tariffs but investment, intellectual property, data and the behavior of state-owned enterprises, intended as an alternative to China. Mr. Biden has resolved tariff disputes but pushed to expand “Buy American” regulations that penalize imports. He has offered no trade-agreement analog to his expanded military ties with allies in Europe and Asia, although he has promised a less ambitious “Indo-Pacific Economic Framework.”

Meanwhile, China is fast cultivating its own economic sphere of influence, via foreign investment, its “Belt and Road” infrastructure initiative, and trade agreements, even applying to join the TPP, renamed the Comprehensive and Progressive Agreement for Trans-Pacific Partnership.

“China has studied very carefully the American postwar model of how their global and regional military domination was augmented by financial and economic domination,” said Mr. Rudd. China, he said, seeks to achieve its foreign policy aims by making countries throughout Asia, including American allies, dependent on its trade and investment, and eventually its currency. Mr. Rudd urged the U.S. to return to the TPP and revive a similar pact with Europe. The U.S. needs to recognize where its strategic advantage lies, “which is through free trade, open commerce and open capital flows.”

Michael Sasso and Alexandre Tanzi, "The ‘Great Retirement’ Disconnect That Puzzles U.S. Economists,"Bloomberg, March 23, 2022, https://www.bloomberg.com/news/articles/2022-03-23/the-great-retirement-disconnect-that-puzzles-u-s-economists

The ‘Great Retirement’ Disconnect That Puzzles U.S. Economists

The pandemic pushed millions of older Americans out of the labor force. It should have spawned a surge in Social Security benefits applications — but it hasn’t. Perhaps because they aren’t retired.

The disconnect has economists wondering how many of these baby boomers might come back to the workforce — a key question when job openings have remained near record levels for months now.

Here’s a look at the data and the debate it has spurred:

Under the U.S.’s federal retirement program, eligible workers receive a percentage of their pre-retirement income in monthly payments from the government. Workers can start receiving Social Security payments at age 62, with full benefits coming at age 66 or 67 depending on their date of birth.

Despite the surge in baby boomers saying in surveys they retired, applications for Social Security benefits have been fairly flat, based on calculations by the Boston College Center for Retirement Research. Around 0.1% of the U.S. population 55 and older have applied each month, which is consistent with what was happening before the pandemic.

The lack of Social Security filings is a bit of a mystery for Laura Quinby, a senior research economist at the Center for Retirement Research. Older Americans often feel the need to apply for benefits in person, so the closure of the Social Security Administration's local offices during the pandemic might have dissuaded some from applying.

The surge in assets made this an “opportune time for some workers to step out of the labor force and stay out of the labor force,” said Lowell R. Ricketts, data scientist for the Institute for Economic Equity at the St. Louis Fed.

“But we’re still expecting a steady, steady trend that some might want to come back,” he said, especially with the advent of remote and hybrid work, which may lure seniors back to the job market.

Unlike in other developed countries, retirement isn’t necessarily a permanent shift in the U.S. Before Covid, it wasn’t uncommon that Americans would “un-retire,” out of financial hardship or personal choice. It’s too early to tell whether the pandemic has changed that dynamic permanently or not.

The Social Security Administration’s Office of the Chief Actuary suggested older people may have “retired” from one job and continued working in another. That would explain why they’re not applying for benefits.

And people under 62 wouldn’t qualify for Social Security anyway. Among them is Hope Cabot, 61, who left her teaching job in Roswell, Georgia, in December. The stress of caring for a mother and of having to teach virtually pushed her to retire sooner than she anticipated. She plans to be a substitute teacher to stay busy and bring in some extra cash to help keep up with high inflation, she said.

“During the pandemic, it was crazy,” she said. “I was not planning on retiring until the end of this year or the end of next year.”

So far Bureau of Labor Statistics data on labor participation show that some baby boomers have come back, while many are remaining on the sidelines.

It’s possible that Covid-19 has led to a reckoning for a generation that reached retirement age when a global pandemic hit their age group disproportionally and threatened life as we knew it. It makes it even more difficult to predict if and when they might look for a job again.

The pandemic pushed millions of older Americans out of the labor force. It should have spawned a surge in Social Security benefits applications — but it hasn’t. Perhaps because they aren’t retired....The retired share of the population is now substantially higher than before Covid-19, according to a Federal Reserve analysis. About 2.6 million older workers retired above ordinary trends since the start of the pandemic two years ago, based on estimates by Miguel Faria e Castro, an economist at the Federal Reserve Bank of St. Louis....Despite the surge in baby boomers saying in surveys they retired, applications for Social Security benefits have been fairly flat, based on calculations by the Boston College Center for Retirement Research. Around 0.1% of the U.S. population 55 and older have applied each month, which is consistent with what was happening before the pandemic....So far Bureau of Labor Statistics data on labor participation show that some baby boomers have come back, while many are remaining on the sidelines.

Nearly 5 million Americans say they have moved since 2020—and 18.9 million more are planning to do so—on account of remote work, according to a survey released this past week by Upwork….In the U.S., nearly a quarter of all full work days will happen at home after the pandemic ends, as opposed to 5% before the pandemic, according to survey data published in December that was gathered by economists at Stanford University, University of Chicago and the Instituto Tecnológico Autónomo de México....The surge in pandemic-induced remote work happened to coincide with another phenomenon, years in the making, according to data from Brookings: a decade or more of increased investment in tech firms clustered in cities outside regions that typically consume the lion’s share of investment and talent. The result of the convergence of these two reinforcing trends is that, in 2021, six of nine rising-star cities all saw growth in the number of postings for tech jobs, a proxy for future employment in those cities. During the same period, postings in Boston, the Bay Area, New York and Los Angeles declined, according to data from Brookings.

Christopher Mims, "How the Pandemic Broke Silicon Valley’s Stranglehold on Tech Jobs," Wall Street Journal, March 12, 2022, https://www.wsj.com/articles/how-the-pandemic-broke-silicon-valleys-stranglehold-on-tech-jobs-11647061211

How the Pandemic Broke Silicon Valley’s Stranglehold on Tech Jobs

Silicon Valley, make way for Silicon U.S.A.

In a feedback loop that could transform the economic geography of the U.S., millions of Americans are moving, and companies are following them—tech companies in particular. In turn, this migration of companies and investment is attracting more workers to places that in the past usually lost talent wars. This is a reversal of a decadelong trend in the opposite direction. It could have big implications for which parts of the U.S. will prosper and for income inequality, and so possibly also for politics, innovation and America’s overall ability to compete.

For decades, the success of America’s so-called “superstar cities” was driven by the tendency of the nation’s most productive workers and firms to cluster in a handful of places such as Silicon Valley. Now, in the economic equivalent of the blink of an eye—the two-year span of the pandemic—that has begun changing.

Until very recently, evidence for this shift has been mostly anecdotal and preliminary. But a cornucopia of Research has yielded eyebrow-raising statistics documenting the scale and speed of this change in how people with jobs that can be done remotely work and live:

Nearly 5 million Americans say they have moved since 2020—and 18.9 million more are planning to do so—on account of remote work, according to a survey released this past week by Upwork, a platform connecting employers and freelance workers.

In the U.S., nearly a quarter of all full work days will happen at home after the pandemic ends, as opposed to 5% before the pandemic, according to survey data published in December that was gathered by economists at Stanford University, University of Chicago and the Instituto Tecnológico Autónomo de México.

A paper from researchers at Oxford Universify, the OECD Economics Department and Indeed, the job-postings site, found that as of December 2021, the proportion of job listings in 20 countries that mentioned the possibility of remote work had more than tripled from before the pandemic, to 8.5% from 2.5%. The same researchers also tracked how such postings changed as pandemic restrictions ebbed and flowed, and found evidence these figures are unlikely to budge after pandemic restrictions end.

Yet another paper published this past week, from economists at Stanford, MIT Sloan, Princeton University and other institutions, makes the case that the U.S. government has undercounted the share of Americans working remotely by 33 percentage points, and about half of all U.S. workers currently perform their jobs remotely at least some of the time.

Finally, research out this past week from the Brookings Institution provides fresh evidence that the rise of work-from-anywhere as both a technological and cultural phenomenon is driving a mass migration of capital, companies and workers. They are heading to a diverse array of cities that for decades saw their best and brightest drained away to places like the San Francisco Bay Area, New York City and Seattle. These new “rising star” cities include Atlanta, Dallas, Denver, Kansas City and St. Louis, according to Brookings.

“We knew remote work was feasible, and we knew job seekers wanted it, but it was the pandemic that made it an actual day-to-day experience, and once it happened it stuck,” she adds.

The surge in pandemic-induced remote work happened to coincide with another phenomenon, years in the making, according to data from Brookings: a decade or more of increased investment in tech firms clustered in cities outside regions that typically consume the lion’s share of investment and talent.

The result of the convergence of these two reinforcing trends is that, in 2021, six of nine rising-star cities all saw growth in the number of postings for tech jobs, a proxy for future employment in those cities. During the same period, postings in Boston, the Bay Area, New York and Los Angeles declined, according to data from Brookings.

Commentators and local boosters have been proposing for decades, perhaps wishfully, that this sort of thing might happen. From the “Silicon Prairie” to “Philicon Valley,” it’s been a slow build to the present inflection point, and some regional tech hubs are growing more quickly than others.

The movement of capital, talent and companies has typically been a relatively slow process, and can take decades, says Margaret O’Mara, a professor of history at the University of Washington and author of “The Code,” a history of Silicon Valley. The development of America’s existing superstar tech hubs are the clearest example of that—after all, the term “Silicon Valley” was coined a half-century ago.

“One of the secrets of Silicon Valley is time,” says Dr. O’Mara. “No mayor or county executive wants to hear that answer, which is why I don’t have a multimillion-dollar economic-development consulting career.”

The ascension of these new tech hubs is hardly an apocalypse for America’s superstar cities or the tech companies and tech workers in them, says Mark Muro, who conducted the research for Brookings. But it does seem to be the first full-year data in a shift that is just getting under way. Data in 2022 and beyond should show an even more profound shift in employment away from what have in the past been dominant cities for tech, he adds, especially as a number of tech companies, such as Oracle and Tesla, transfer workers as a result of moving their headquarters out of the Bay Area.

After the rise of remote work and the growth of more tech hubs, a third underlying trend could also be driving this geographic shift: the maturation of some of the technologies that for decades have underpinned Silicon Valley and other hubs, in particular the microchip and the internet itself.

The “silicon” in Silicon Valley is, after all, a reference to what microchips are made of. The first commercially available integrated circuit was produced in 1961 by Fairchild Semiconductor, in Santa Clara, Calif. The PC revolution and later the internet created the tech giants of today, mostly in and around the Bay Area and Seattle.

But the outsourcing of electronics manufacturing and the rise of cloud services have made it much easier to build a tech startup anywhere. The dispersal of the knowledge required to build companies, and the precipitous drop in the cost to launch a startup in the tech industry, are both hallmarks of what historians call a “mature” set of technologies. This doesn’t mean these technologies are done evolving, just that the rate of breakthroughs has slowed enough that companies built far from where they were first invented can now participate in their development.

Some historians and economists have declared our current age the “fourth industrial revolution.” If that’s so, then in some ways it might be following the path of past industrial revolutions, says Dr. O’Mara. From England’s 18th-century Industrial Revolution—which quickly became America’s, after the requisite expertise and technologies were transplanted across the Atlantic—to the rise of Detroit, history is full of new technologies that started in one place, made those who lived there enormously wealthy, and eventually became global phenomena, leading to specialized hubs of knowledge and production all across the world.

While it’s impossible to precisely copy the formula that worked for the Bay Area and build the “next Silicon Valley,” regional tech hubs can prosper by finding their own niches, she adds.

Atlanta is a good example of these trends. While it was largely left out of the early decades of the rise of the PC and the internet, the presence of corporate headquarters and the Georgia Institute of Technology meant it had both demand for the products of enterprise tech startups and the talent to build them.

America’s ninth-largest metro area has quietly become an assembly line for tech unicorns, with five of its startups topping $1 billion valuations in 2021 alone, including Calendly, which streamlines the process of scheduling meetings, and Stord, which helps businesses with fulfillment and logistics. The result of successive waves of startup exits, followed by mentorship and reinvestment from startup founders, plus the proximity of potential customers in the headquarters of Fortune 500 companies like Home Depot and United Parcel Service, means that the city has built up all the elements necessary to churn out tech startups.

Combined with the relatively low cost of living and the availability of housing—both in sharp contrast to superstar cities—Atlanta has attracted workers in a way that gives it a talent pool ready-made for new startups, says Adam Steinberg, a serial entrepreneur in the Atlanta area and CEO of Fetch, a startup that allows individuals and small businesses to rent trucks and utility vans by the hour.

Mr. Steinberg went through the storied startup-accelerator program Y Combinator, where he was advised he would have better access to funding and talent if he moved his company to the Bay Area. But other variables, such as his existing professional network in Atlanta, being close to family and friends, and the fact that he could sustain his company longer on the same amount of investment because of Atlanta’s lower costs, kept him in that city.

The pandemic has made finding talent easier, he adds, because with the rise of the remote-first work culture across the tech industry, he can hire workers anywhere in the world.

Also, he felt that for a truck-rental company it was important to start in a city typical, in its layout and demographics, of most of America: “We figured if we could make it in Atlanta, we could make it anywhere.”

Brian Riedl, "Presidents as Economic Managers,"National Affairs, Spring 2022, https://www.nationalaffairs.com/publications/detail/presidents-as-economic-managers

Presidents as Economic Managers

It has become a regular theme of op-eds and news analysis: Democratic presidents create economic booms and job gains, while Republican presidents bring recessions and job losses.

In 2016, economists Alan Blinder and Mark Watson released a study indicating higher average economic-growth rates under Democratic presidents. More recently, David Leonhardt of the New York Times wrote a column that ranked the last 14 presidents by jobs and economic growth during their administrations, with Democrats generally ranking higher than Republicans. Political commentators frequently post colorful charts on social media showing that Democrats Bill Clinton and Barack Obama oversaw faster job and economic growth than did Republicans George H. W. Bush, George W. Bush, and Donald Trump. They are already pointing to the 5.7% economic-growth rate in 2021 under President Joe Biden — coming on the heels of the previous year's 3.4% contraction under Trump — as yet more evidence that Democratic presidents have superior economic policies. Most succinctly, critics note that 10 of the 11 recessions since 1950 began during a Republican presidency.

So is the case closed? Are Democratic presidents really better managers of the economy than their Republican counterparts?

The short answer is no. We're all taught never to confuse correlation with causation, especially when small data sets are involved. After all, the past 125 years have shown a strong correlation between short-term stock-market performance and the position of Mars in the sky. There is also a strong yearly correlation between the number of accidental swimming-pool drownings and the number of movies featuring actor Nicolas Cage. Empty correlations represent the beginning of an investigation, not the conclusion.

And of course, misleading partisan correlations can go in both directions. For instance, more than 97% of America's war deaths over the past 150 years have come from four wars (World War I, World War II, the Korean War, and the Vietnam War) that either took place or saw America's role heavily escalated under Democratic presidents. Yet it would be partisan nonsense to conclude that this figure somehow reflects a systematic failure of Democratic foreign policy, or that the party cannot be trusted on international affairs today. Presidents respond to the unique challenges of their times; they cannot control external events.

Along those same lines, several recessions during Republican terms have been driven by events beyond the reach of presidential policy, such as the Covid-19 pandemic. Other recessions were the product of timing. Perhaps most surprisingly, recent recessions have in part resulted from a relatively unexplored phenomenon that effectively flips the popular narrative on its head.

At bottom, the assertion that Democratic presidents bring booms and Republican presidents create recessions not only overinterprets a correlation from a small data set, it is rooted in a flawed view of the chief executive's capacity to influence a complex world.

THE INHERITED ECONOMY

Much of this GOP tilt is the natural result of Republicans holding the White House for 16 of these 23 years. And while the 1961-1968 Democratic presidencies were recession-free, the economic overheating toward the end of that period played a major role in the light recession that followed in 1969 — Richard Nixon's first year in office. Other recessions of the era were largely driven by factors outside the president's control, such as Federal Reserve policy and the OPEC oil embargo. These "Republican recessions" were also bookended by "Democratic recessions" in 1948 and 1980 under presidents Harry Truman and Jimmy Carter, respectively. In short, there is no real evidence that presidential policies significantly drove the recessions that took place during this period.

The post-1976 era is even more interesting. President Carter, a Democrat, oversaw a recession in 1980. The subsequent five recessions took place under Republican presidents. Again, some of these downturns were caused by discrete events lying largely outside of the president's control — such as the housing-market crash and the global pandemic. Others were the product of timing. Ronald Reagan, for instance, found himself in a recession within six months of entering office following a Democratic term — well before his own policies could have been enacted, implemented, and caused a recession. Similarly, the recession that occurred during the first year of George W. Bush's presidency began just weeks after Clinton's term came to a close. Both of these recessions were driven by events that had taken shape before those presidents took office; they could have easily occurred a few months earlier under their Democratic predecessors. (In fact, the 1981 Reagan recession was in many ways a continuation of the 1980 recession under Carter.)

Indeed, Republican and Democratic presidents have entered office under vastly different economic circumstances — often at opposite ends of the business cycle — since the 1980s. More precisely, Republican presidents during this period have typically inherited economic booms, while Democrats have always entered the White House during or shortly after recessions. This pattern all but guarantees that Republicans will hold the White House when booms turn to recessions, while Democrats will hold office during recoveries.

Understanding this phenomenon requires abandoning the presumption that each new president inherits a steady-state economy that is expected to continue on its current rate of growth. This perspective leads many voters to blame presidents for declining economies and hail them as heroes for generating growth. It also leads to poor economic analysis that simply ranks presidents by economic growth or employment rates — which, again, are largely outside executive control.

A more rigorous analysis of the correlation would take into account the fact that new presidents inherit a spot in the business cycle. Traditional business-cycle analysis holds that economic expansions eventually overheat, slow down, or hit an exogenous shock that brings about a recession. These recessions then typically self-correct, transforming back into an economic expansion after a period of six to 18 months. Although the Federal Reserve can influence the business cycle (more so than stimulus legislation, which is often implemented after a recession has already ended), this cycle occurs largely independent of political actions.

A new president, therefore, inherits either an expanding economy that is likely to eventually slow down or a recessionary economy that is likely to recover relatively soon unless sabotaged by destructive policies. This points toward a paradoxical conclusion: While each presidency and each business cycle is different, history suggests that we should expect presidents who enter office during or shortly following a recession to oversee more job creation and economic growth than those who enter office well into a mature economic boom.

The job numbers bear this out. Since 1977, there have been 11 four-year presidential terms. Six of those terms began during a weak economy (with an unemployment rate between 7.3% and 8.0%), while five began during a strong economy (with an unemployment rate between 4.2% and 5.4%). Sure enough, the terms that inherited a weak economy saw an average of 7.7 million new jobs created, while the terms that inherited a strong economy saw an average of just 2.8 million.

This finding makes intuitive sense: Presidents who inherit a weak economy typically ride the natural recovery upward as millions of unemployed workers eagerly return to work, while presidents who inherit a strong economy have effectively run out of unemployed people to employ. In fact, an economy that has reached its peak may soon begin decelerating and shedding jobs of its own accord.

In a similar vein, the terms that inherited a weak economy saw an average of 2.8% economic growth annually, versus 2.4% for the terms that inherited a strong economy. This growth gap would be nearly three times as large if not for two outliers: Clinton's second term, which overachieved with fast economic growth despite inheriting a strong economy, and Obama's first term, which underachieved with slow economic growth despite inheriting a weak economy (more on these later).

Voters, of course, tend to valorize the presidents elected during a recession, who subsequently oversee the more or less inevitable recoveries, and look down on those elected during economic booms, who are held hostage to the inevitable deceleration. In reality, they are not judging presidential performance as much as they are judging the business cycle.

PARTISAN INHERITANCES

Why do Republican presidents typically inherit stronger economies while Democrats tend to inherit weaker ones?

As it turns out, over the past several decades, voters have consistently elected and re-elected Republican presidents during economic booms, then swapped in Democratic presidents during downturns. In other words, the causation described by the prevailing wisdom is at least partially reversed: Presidential parties do not drive economic performance; rather, economic performance appears to play a role in determining which party holds the presidency. The actions of the presidents themselves, meanwhile, have had surprisingly little to do with the economy's performance.

Consider, for instance, Ronald Reagan's 1980 election, which represents the last time a Republican president was elected shortly after a recession. Following a second downturn from 1981 to 1982, he oversaw the recovery that unfolded over his two terms in office. Republicans managed to hold the presidency for four additional years of strong economic performance until a slight recession likely played a part in motivating voters to elect Bill Clinton, a Democrat, in 1992.

Clinton subsequently presided over the economic recovery that occurred over the succeeding eight years. Then, as the 2000 economy boomed, voters elected Republican George W. Bush in the next open-seat election. Bush overcame a small recession in early 2001 to keep the presidency in Republican hands until another Democrat, Barack Obama, rode the deep 2008 recession into office.

Like Clinton and Reagan before him, Obama oversaw the recovery that occurred over the course of his two terms in office. Then, as the economy boomed through 2016, voters elected Republican Donald Trump in the next open-seat election. Trump inherited this economic boom but, in the midst of the pandemic-driven 2020 recession, was replaced by Democrat Joe Biden after only one term. As the pandemic has receded — albeit unevenly — the economy has largely rebounded.

In sum, whenever the economy has been booming in an open-seat presidential election (1988, 2000, 2016), voters elected Republicans, and continued re-electing them until a recession hit, at which point they elected Democrats (1992, 2008, 2020). Those Democrats were re-elected to a second term largely due to their overseeing the recovery, then Republicans won the next open seat.

Voters, of course, have not acted purely on the basis of their assessments of the economy; other factors have played significant roles in driving these elections as well. The point of highlighting the pattern is not to propose an alternative mode of economic determinism to explain recent elections, but to suggest that the familiar story underplays the significance of the business cycle.

Beyond that, this pattern has several implications. The first is that Democrats have generally benefitted from being elected at the point where the business cycle is about to turn upward. Thanks in part to this accident of timing, they are re-elected to a second term as a reward for the (largely inevitable) economic recovery.

The second, as noted above, is that if Republican presidents are elected during economic expansions (especially in the later stages), then by extension, they will be in office when the boom turns to recession, even if it takes a decade or more. Being elected in an economy that has reached the top of the business cycle and is poised to decelerate leads to a comparatively negative economic record.

Critics may still insist that Republican mismanagement, not the business cycle, drove the recessions, but they would be hard-pressed to match correlation with causation. The 1980s Reagan-Bush economy produced a historically strong recovery after the Carter recession before running out of gas in 1990, as the natural business cycle would predict was inevitable. Despite a short recession in early 2001, the economy held steady under George W. Bush until the housing market crashed — an event that was not rooted in any presidential act. (In fact, between 2001 and 2007, the Bush administration repeatedly implored Congress to rein in Fannie Mae and Freddie Mac before they contributed to a mortgage meltdown.) The Trump economy thrived until a global pandemic caused a largely unavoidable worldwide recession during his final year in office. None of these three recessions (or four, if one includes the 2001 downturn that occurred early in Bush's term) were triggered by the policies of the president who happened to be in office at the time.

On the flip side, Biden is the third consecutive Democratic president to take office during or in the immediate aftermath of a recession. And like the previous two, he will likely ride the natural business cycle back up and receive credit for the recovery (aided by the fact that the vaccine required to disrupt the pandemic had been produced and was being distributed when he took office). By that point, the Federal Reserve and the Congressional Budget Office (CBO) were already projecting significant economic growth through 2021. The Biden economy has not performed markedly different from those original expectations.

In sum, it appears the best way to judge the economy under a given president is to consider its performance relative to the economic trajectory that president inherited. Over the past 44 years, there have been just three notable outliers — Clinton's overachievement, Obama's underachievement, and Trump's overachievement, all relative to their inherited trajectories.

Clinton's second term began with a booming economy and a 5.3% unemployment rate. But instead of decelerating, the economy added 9.5 million more jobs to further reduce the jobless rate to 4.2%. No other presidential term in the last 44 years that began with a strong economy saw even 2.5 million jobs created. And of the five presidential terms since 1976 that began with a sub-5.5% unemployment rate, Clinton's second term was the only one that escaped a recession. In fact, the average annual economic-growth rate of 4.5% in those years was the highest of any presidential term during that era.

Obama's first term was an outlier in the other direction. Since 1976, every presidential term that began with an unemployment rate between 7% and 8% ended up seeing the economy add between 6 and 10 million new jobs over the course of those four years. The only exception was Obama's first term, during which just 1 million jobs were added; in fact, the unemployment rate rose slightly, from 7.8% to 8.0%. Even adjusting for the severity of the 2007-2008 recession, this was the weakest economic recovery since the Great Depression, widely missing the jobs and economic-growth benchmarks set by the White House as well as the CBO, Federal Reserve, and blue-chip forecasts. The economy grew at an average annual rate of just 1% over those four years, peaking at 2.6% in 2010.

Trump, meanwhile, inherited the second-lowest unemployment rate of any president since 1976. Yet his term saw that already low 4.7% rate plummet further, to a 50-year low of 3.5%, as 6.6 million jobs were created during his first three years in office. This performance blew away the projections of the CBO and economic forecasters, which had merely hoped for a "soft landing" rather than a full recession at that point in the business cycle. The pandemic, of course, caused the bottom to fall out in 2020. Though Trump arguably mishandled the response, even the most competent policy could not have kept America's economy out of the attendant global recession.

The economic performances of the other eight presidential terms since 1977 were generally in line with the pattern described earlier. When the inherited jobless rate was 7% or above, the rate eventually rebounded, and the economy posted a strong recovery. When it was 5.4% or below, job creation slowed down and the unemployment rate rose, with an 80% chance of a recession at some point during the term. Both economics and history, therefore, suggest that the recession inherited by President Biden should transform into a healthy economic recovery, almost regardless of any decision his administration makes. Nevertheless, the president will surely be given credit for the strong recovery, contributing to the narrative that Democratic presidents have some sort of Midas touch when it comes to economic policy.

In reality, the Democrats' touch appears to be a matter of timing: The public elects Republican presidents during the latter stages of economic expansions, waits however long it takes for the next recession, and then hands the White House to a Democrat just in time for the economy to recover. And in politics, as in show business, timing is everything.

DEFICIT TRENDS

Along with growth and jobs, political observers like to compare presidential economic records by pointing to budget deficits as measures of fiscal responsibility. In reality, just as with jobs and economic growth, the largest determinant of a president's budget-deficit record is what he inherits from his predecessor.

Each president inherits a 10-year budget baseline showing the default annual projected levels of tax revenues, spending, and deficits. Over the past two decades, these baselines have ranged from a cumulative $5.6 trillion surplus to a $12.3 trillion deficit.

Presidents have limited power to significantly alter spending, revenue, and deficit levels from these baselines, as fully two-thirds of all spending, along with nearly the entire tax code, are on long-term autopilot; they can be changed only to the extent that Congress acts to alter programs and rates. The remaining third of spending (so-called "discretionary" appropriations) are negotiated annually between the White House and Congress, but they rarely shift enough to drastically alter budget deficits. Even the budget-deficit baseline itself is filled with false expirations and unrealistic assumptions that make it a flawed starting point for analysis. And of course, significant events like wars and recessions require some presidents to spend more than others. The natural business cycle described above plays a large role in automatically increasing and reducing deficits as well. Thus, total budget deficits during a presidential term — or even their trajectory — tell us little about a president's commitment to fiscal responsibility.

In fact, much of the narrative claiming that Democrats tend to reduce the deficit more so than Republicans reflects the same economic story described above, with national-security developments sprinkled in. The rising budget deficits under George H. W. Bush, for instance, were largely a function of the 1990-1991 recession that was driven by Middle East conflicts and American corporate restructuring. The fiscal improvement that followed was largely unrelated to the policies of President Clinton (or House Speaker Newt Gingrich). Between 1992 and 2000, the federal budget improved from a deficit of 4.5% to a surplus of 2.3% of GDP. More than 80% of this fiscal improvement was directly attributable to either the end of the 1991 recession and the late 1990s economic bubble or the defense-budget savings from the end of the Cold War.

The remaining 20% is more attributable to policy choices, most notably Clinton's 1993 tax increases and the spending cuts championed by the Republican Congress to which Clinton agreed. While these choices mattered, crediting Clinton for the historic budget improvement would require also giving him credit for America's victory over the Soviet Union, an economic recovery that began before he took office, and a technological boom that few would argue was driven by his administration's policies. Both economically and in terms of national security, Clinton was in the right place at the right time.

The same factors that drove the late 1990s budget surpluses — a bubble economy and significantly reduced defense costs — reversed in 2000-2001, plunging Washington back into deficit as George W. Bush's presidency was gearing up in 2002. No reasonable analyst would blame Bush for the technological bubble bursting in 2000, the 9/11 attacks the following year, or the housing crash and recession of 2007-2008. Yet those factors drove much of the budget decline during his presidency.

To be sure, Bush owns the 2001 and 2003 tax cuts, as well as the increased defense spending on the War on Terror. Yet without the bubble bursting and the housing crash, the budget would have remained roughly balanced, even with the Bush tax cuts and the war. None of this is to suggest that Bush's fiscal policies were particularly responsible, only that much of the fiscal decline was driven by developments beyond his control.

While Bush presided over the declining business cycle, Obama caught the rebound. Those who highlight the budget deficit falling from $1.4 trillion to $585 billion between 2009 and 2016 overlook the fact that Obama's own stimulus law inflated the 2009 starting point. Additionally, by January 2009, the CBO had already projected that even if the new president were to do nothing, the recession economy would recover and drive the deficit back down to $264 billion by 2012. Instead, Obama signed legislation cumulatively adding $5 trillion in debt over the decade, inflating annual deficits well above the long-term baseline levels that the CBO projected in January 2009 and slowing the deficit reduction that should have come from the economic recovery.

Similarly, after Trump was elected in 2016, he added to the deficit with tax cuts and discretionary-spending increases. However, he also confronted a massive 2020 budget deficit brought on by the global pandemic — an event that did not originate with his actions — and the bipartisan legislative response.

Republican presidents George H. W. Bush, George W. Bush, and Donald Trump, therefore, each saw massive final-year budget deficits driven by external factors (a recession, a housing crash, and a global pandemic) over which they had essentially no control. Yet those inflated final-year figures fed the misleading narrative that Republican presidents' rising deficits were the result of tax cuts and unjustified defense-spending increases. Meanwhile, Democratic presidents Bill Clinton, Barack Obama, and Joe Biden inherited deficits inflated by these temporary factors. They were then able to claim credit for the deficit reductions that would have occurred on their own.

To be sure, neither Republican nor Democratic presidents have been particularly responsible on budget issues. Yet the general trend of deficits falling under Democratic presidents and rising under Republican ones has not been a function of partisan differences in economic-policy approaches, but rather of chance events occurring in the final year of Republican administrations, leaving new Democratic administrations to take credit for those short-term events concluding on their own. Measured purely by the cost of legislation signed into law across their presidencies, Obama and George W. Bush had comparable impacts on the deficit. President Biden's spending is on pace to exceed both.

Accurately assessing blame for long-term budget deficits requires looking past temporary economic fluctuations, national-security emergencies, and public-health crises that presidents have little control over. The evidence suggests that the growth of the deficit since the mid-1970s has been largely a function of decisions made before these events occurred. Economist Charles Blahous has written that long-term budget deficits have been driven primarily by a series of entitlement creations and expansions enacted between 1965 and 1972, which resulted in social-welfare spending leaping from 5.3% to 13.3% of GDP between 1965 and 2019. Because much of this increase occurred on autopilot as part of the budget baseline, presidents were largely powerless to stop rising costs without congressional action. They could only (partially) control discretionary spending, which fell from 11% to 6.3% of GDP during this period — mostly due to defense cuts following the ends of the Vietnam War, the Cold War, and the wars in Afghanistan and Iraq.

Democratic presidents were the strongest opponents of reining in this 8% of GDP growth in entitlements. However, they championed the 4% GDP decline in defense spending. On the opposite side of the ledger, tax revenues generally remained close to the 17.3% of GDP average, as Republican tax cuts every 15 to 20 years offset real bracket creep (the automatic growth in tax revenues as a share of the economy that results from real-income growth pushing families into higher marginal tax brackets). In short, both parties played a key role in expanded structural deficits: Democrats blocked nearly every attempt to prevent the automatic growth of entitlements, while Republicans refused to let tax revenues rise as a share of the economy to finance the higher spending levels.

PRESIDENTS AND THE ECONOMY

Purely partisan narratives are often wrong; the familiar cliché that the economy is stronger when Democrats are elected president is no exception. Pointing to a simple correlation over a small number of presidential terms to assert that Democratic presidents are better stewards of the economy is as lazy as assuming that Democrats are worse on foreign policy because the vast majority of post-1865 war casualties have occurred on their watch.

In exploring the question of partisan differences in presidential management of the economy, it is important to emphasize the small degree of control federal policymakers really have in this arena. The U.S. economy is a $23 trillion machine powered by 330 million Americans and influenced by billions of people around the world. The effect of most federal policies on short-term economic performance is, at best, marginal.

What's more, presidents do not control the business cycle, even if the business cycle plays a part in the outcomes of presidential elections. Since 1990, their economic records have instead been dominated by four events: the 1990-1991 recession, the late-1990s bubble bursting, the 2007-2008 housing crash, and the 2020 pandemic. None of these events was fundamentally a function of presidential policy, yet all four occurred at times that fed the perception that Democrats bring better economic news than Republicans. With the pandemic economy sure to recede, President Biden is set to become the next beneficiary of this accident of timing.

Ultimately, the notion that there is a simple partisan pattern to the health of the economy is an extension of the exaggerated politicization of our understanding of contemporary American life. Presidents are chief executives of the federal government; they are not masters of the universe. They can play a role in setting the direction of public policy, and can shape how our government responds to events. In short, presidents matter, but partisan narratives are no substitute for economic analysis.

presidents inherit a spot in the business cycle....... In sum, it appears the best way to judge the economy under a given president is to consider its performance relative to the economic trajectory that president inherited. Over the past 44 years, there have been just three notable outliers — Clinton's overachievement, Obama's underachievement, and Trump's overachievement, all relative to their inherited trajectories.Clinton's second term began with a booming economy and a 5.3% unemployment rate. But instead of decelerating, the economy added 9.5 million more jobs to further reduce the jobless rate to 4.2%. No other presidential term in the last 44 years that began with a strong economy saw even 2.5 million jobs created. And of the five presidential terms since 1976 that began with a sub-5.5% unemployment rate, Clinton's second term was the only one that escaped a recession. In fact, the average annual economic-growth rate of 4.5% in those years was the highest of any presidential term during that era. Obama's first term was an outlier in the other direction. Since 1976, every presidential term that began with an unemployment rate between 7% and 8% ended up seeing the economy add between 6 and 10 million new jobs over the course of those four years. The only exception was Obama's first term, during which just 1 million jobs were added; in fact, the unemployment rate rose slightly, from 7.8% to 8.0%. Even adjusting for the severity of the 2007-2008 recession, this was the weakest economic recovery since the Great Depression, widely missing the jobs and economic-growth benchmarks set by the White House as well as the CBO, Federal Reserve, and blue-chip forecasts. The economy grew at an average annual rate of just 1% over those four years, peaking at 2.6% in 2010. Trump, meanwhile, inherited the second-lowest unemployment rate of any president since 1976. Yet his term saw that already low 4.7% rate plummet further, to a 50-year low of 3.5%, as 6.6 million jobs were created during his first three years in office. This performance blew away the projections of the CBO and economic forecasters, which had merely hoped for a "soft landing" rather than a full recession at that point in the business cycle.The pandemic, of course, caused the bottom to fall out in 2020. Though Trump arguably mishandled the response, even the most competent policy could not have kept America's economy out of the attendant global recession.

Children today are half as likely to live below the official poverty threshold as were children in 1996. Deep child poverty (with resources less than half the official poverty threshold) has been nearly eliminated.Among single-parent families, deep poverty fell from around 5 percent before reform to less than 1 percent today....The Personal Responsibility and Work Opportunity Reconciliation Act introduced the principle of reciprocity to the welfare system, requiring beneficiaries to take positive steps toward self-support in exchange for assistance..According to the official “money income”-based poverty measure, welfare reform had little discernable effect on child poverty. Both before and after reform, the official child poverty rate was largely flat with modest fluctuations according to the business cycle. Overall, the official child poverty rate has hovered in a range between 14.0 percent and 22.7 percent since the late 1960s, generally increasing during economic downturns and for some time afterwards but eventually recovering as during the later stages of economic expansions. (See Chart 1.) By contrast, the more accurate expenditure-based poverty measure shows that welfare reform marked the beginning of a period of substantial reduction in child poverty. Before reform, the rate is largely flat; after reform, it generally moves down. Children today are half as likely to reside in families with reported spending below the official poverty threshold as were children in 1996....In reality, deep child poverty has been rare for a quarter of a century. It averaged 2.4 percent in the decade before welfare reform for all children and dropped sharply during the welfare reform period. Today less than 1 percent of children reside in families with reported spending below half of the official poverty threshold. (See Chart 3.)

Jamie Hall, "Child Poverty Has Been Cut in Half Since 1996 Welfare Reform,"The Heritage Foundation, March 14, 2022, https://www.heritage.org/welfare/report/child-poverty-has-been-cut-half-1996-welfare-reform

We propose a new measure of the rate of poverty we call the Supplemental Expenditure Poverty Measure, or SEPM. It is based on total current expenditure in the Consumer Expenditure survey and treats expenditures in that survey as a measure of resources available to the household to purchase the minimum bundle necessary to meet basic needs. An augmented poverty measure based on Liquid Available Resources, which adds resources available from liquid assets and accessible, but unused, borrowing, is also presented. Our expenditure poverty measure differs from conventional income poverty measures and from consumption poverty measures in both concept and measurement, and we argue it is superior to both. We find that poverty rates using what we call our Current Expenditure measure are slightly greater than those of the most preferred income-based poverty rate produced by the Census Bureau, the Supplemental Poverty Measure (SPM). However, both have trended downward at approximately the same rate for the last 10 years. But the relative levels of our SEPM poverty rates and those of the Census income-based measures are very sensitive to the choice of threshold. Our augmented poverty measure based on Liquid Available Resources shows lower poverty rates than the SPM but we are only able to present a range of estimates of the difference, not a point estimate. At maximum, we find poverty rates to be lowered by about two percentage points.But our Current Expenditure SEPM and Liquid Available Resources SEPMshow the same decline as the Census income-based SPM quite closely. There are no available consumption poverty measures that are comparable to our SEPM, so we are not able to compare our SEPM levels or trends to such a measure…. Given the dramatic differences in the way the SIPM is constructed from the Official measure, the surprise in Figure 1 is how little they differ...Consumption poverty estimates are less standardized and differ from study to study. Those show in Figure 1 are drawn from Meyer and Sullivan (2019), which updates the estimates in Meyer and Sullivan (2012)….Table 2 illustrates the importance of the threshold by showing gross and net SEPM and SIPM poverty rates for what are called, in the literature, “Deep Poverty” and “Near Poverty.” The first is calculated as the fraction of the population which is less than 50 percent of the threshold, and the latter is calculated as the fraction of the population which is less than 150 percent of the threshold. These are generally regarded as important alternatives because the threshold itself has certain arbitrary elements in its definition, and it helps to see more of what the full distribution looks like at the bottom, not just the fraction above and below one particular point. But, for our purposes, Table 2 reveals that SEPM poverty rates are lower than those for the SIPM when looking at Deep Poverty, but much higher than those for the SIPM when looking at Near Poverty. For net poverty rates, the SEPM Deep Poverty rate is 1.5 percent compared to a 4.1 rate for SIPM Deep Poverty, while the SEPM Near Poverty rate is 32.6 percent as against the 25.5 percent for SIPM Deep Poverty. The Deep Poverty rates capture more directly the effects of possible underreporting of income, while the Near Poverty rates show how many more US households have low—but not extremely low—expenditures.

John Fitzgerald and Robert Moffitt, "The Supplemental Expenditure Poverty Measure: A New Method for Measuring Poverty,"Brookings Papers On Economic Activity, March 2022, https://www.brookings.edu/wp-content/uploads/2022/03/SP22_BPEA_FitzgeraldMoffitt_conf-draft.pdf

Core Finding, "...We implement our SEPM on the Consumer Expenditure survey data from 2004 to 2019.We find that what we call gross SEPM poverty rates—based just on total household expenditures in a period—were smaller in 2019 than those estimated with income data from the CPS. However, expenditure poverty rates depend critically on exactly where the poverty line is drawn because there is a large mass of low-expenditure households whose expenditures are just below and above the most preferred threshold used by the Census Bureau. As a consequence, for example, netting out certain costs from expenditures moves more into poverty using our SEPM expenditure measure than netting those same costs out of income, making SEPM net poverty rates higher than those using income. Also, moving the poverty line up slightly to capture those households who are “almost” poor but not quite, also makes SEPM poverty rates higher than those using income. Overall, we find that there are many more low-expenditure households in the U.S. than low-income households, in percentage terms. We also assess the ability of households to escape poverty by drawing on available liquid bank balances and by using available, but unused, credit debt to finance purchases of basic goods. Many low-income households already do that, but some do not use all the potential borrowing they could. We find that bank balances are quite small and, when counted toward ability to escape poverty, make only a small 1 percentage point difference in reducing poverty rates. But we find that available credit card borrowing could potentially lower poverty rates further by up to 2 percentage points. But these estimates are highly uncertain and much more research is needed on credit cards as an available resource over a relevant time horizon before any definite conclusion can be reached….”
The Evidence

Current Expenditure SEPM Results

“…Table 1 shows the building blocks for our SEPM poverty rate using the CE and the SIPM using the CPS for 2019. The first rows present statistics on the distributions of gross CE expenditure and gross Adjusted CPS income. In the whole population, CE mean and median expenditures are much lower than those in the CPS, but this deserves little attention because it is the lower tails of each that are relevant to poverty measurement. A key result is that the income distribution in the CPS has a much longer left-hand tail than the expenditure distribution in the CE, and the difference gets larger, the lower in the distribution one goes. The best explanation for this is simple underreporting of income in the CPS but, whatever the cause, it implies that poverty rates may differ simply because of this difference…”

“…Trends in Gross and Net SIPM and SEPM poverty rates from 2004 to 2019 are shown in Figure 4. We show both Net and Gross since there are some differences between them, as there were in 2019. The Gross SEPM poverty rate was approximately 11 percent in 2004, fell to about 8 percent in 2007, then rose through 2010 to about 12 percent (no doubt because of the Great Recession), and then began a gradual decline to its 2019 value of 8.7 percent (the decline coinciding with a general economic growth period in the country).The Gross SIPM poverty rate shows lower values in the 2004-2007 period, a somewhat sharper rise from 2007 to 2011, and then a sharper fall through 2019, ending at its final value of 8.8 percent, almost identical to that for the SEPM. We view these results as altering to some extent the 2019 results, for at least over the last 10 years the Gross SEPM has been below the SIPM for almost all of that period, even though both have fallen from the Great Recession peaks. When moving to the Net Poverty rates, both the SEPM and SIPM shift upward, as already discussed, and the shift upward results in a somewhat similar pattern of time trends of each over the entire 2004-2019 period. Both continue to have declined since the Great Recession, for example. However, as in 2019, the Net SEPM is above the Net SIPM, and for all years since 2009. Once again, the reason is the larger mass of expenditures just above the poverty threshold than the fraction of income observations there, so that reductions in both increase expenditure poverty rates more than income poverty rates….”

roughly 2.6 million Americans who retired earlier than expected between February 2020 and October 2021, according to estimates from Federal Reserve Bank of St. Louis senior economist Miguel Faria-e-Castro....Now many are returning to work at rates not seen since 2020....In February, the share of retired workers re-entering the workforce climbed to around 3% of total retirees, its highest level since early March 2020, according to an Indeed analysis of federal labor data.

Kathryn Dill, "It Isn’t Just Tom Brady—More People Are Coming Out of Retirement,"Wall Street Journal, March 30, 2022, https://www.wsj.com/articles/it-isnt-just-tom-bradymore-people-are-coming-out-of-retirement-11648596306

It Isn’t Just Tom Brady—More People Are Coming Out of Retirement

Millions of U.S. workers retired during the pandemic. Now many are returning to work at rates not seen since 2020.

Tom Brady, it turns out, has good company in reconsidering hanging up the proverbial cleats: In February, the share of retired workers re-entering the workforce climbed to around 3% of total retirees, its highest level since early March 2020, according to an Indeed analysis of federal labor data.

Some now are returning to work to shore up their finances. Others have been presented with another career challenge—much like former Starbucks Corp. CEO Howard Schultz, who will temporarily take the reins of the coffee chain again next week. Labor shortages, a recent stock-market rout, plus the widespread availability of remote-work options, could lure more early retirees back to the job market in the coming months, too, they predict.

When Steve Katelman retired from Omnicom Media Group in February 2021, many of his colleagues bet it wouldn’t be for long. They were right—his retirement lasted barely a year.

“I’m the world’s worst retired person,” says the 57-year-old Mr. Katelman, who, after months of feeling bored and isolated, starts a new job in April leading strategic partnerships at a software maker.

He is among the roughly 2.6 million Americans who retired earlier than expected between February 2020 and October 2021, according to estimates from Federal Reserve Bank of St. Louis senior economist Miguel Faria-e-Castro. But Mr. Katelman says he soon realized he wasn’t ready to give up a full-time career. The San Francisco executive had spent much of his career traveling the globe to meet with clients, something he found himself missing after quitting and moving to Omaha, Neb., to care for his aging mother.

So when a company he had been advising, a compliance-software company, asked whether he would come on board, he agreed—as long as he could keep Omaha as his home base.

“Wheeling and dealing was in my blood,” he says. “Not working, it felt wrong. I’m not a good golfer.”

Others now quitting early retirement realize they weren’t as financially prepared to live without a steady paycheck as they hoped.

With elderly parents, a new grandchild on the way and a blossoming woodworking business on the side, Marvin Pace retired in February 2020 at 55 from his job as a customer experience executive. He had hoped his savings would be enough to support him and his family into his later years, and at first, he relished his newfound freedom. But he worried his finances wouldn’t sustain his family’s standard of living over the long-term, and after 18 months, he reluctantly started to hunt for a new job.

It took him about six months of networking, applying and interviewing to land his next job—longer, he says, than he had expected to find a job he felt was the right fit.

He returned to work, in a similar role at an IT service management company, in February and says he has been pleasantly surprised: His co-workers value the experience he brings, he says, and he feels a sense of confidence from having left the workforce in his 50s and returning to a job he likes.

“I’m not looking to advance, but I want to make sure I have an impact in what I do,” says Mr. Pace, who lives in Texas and says he plans to work another five to seven years before retiring for good.

Others say the plans they made to remain active in retirement have morphed into a second career. John Broschak, 58, retired in February from his job in utility operations after the pandemic grounded him. He had been accustomed to crisscrossing Michigan to visit plants, inspect machinery and check in with staff and found remote work monotonous.

“All of a sudden, I’m staring at a screen using Zoom,” he says. “Any last joy in the work that I was doing got sucked out in the ensuing 18 months.”

To ease the transition to retirement, he opened a martial arts school franchise and began construction on a second home in Arizona. His new work has been so invigorating, he says, that he has also launched a consulting business, providing leadership coaching and technical consulting for the utilities industry. He now works essentially full-time, but with better balance, he says.

“I have so much more latitude,” said Mr. Broschak. “There’s a lot of things on the to-do list, but I control it now, rather than someone else controlling me.”

Many older workers who made early exits from the workforce after losing jobs or finding themselves unable to work in the early months of the pandemic have retired mostly because they haven’t been able to find suitable work since. Researchers say that is especially the case among those who did manual work, such as truck driving, hospitality or in cleaning services.

Some early retirees, though, are being courted by companies in need of workers with in-demand skills and experience. Many, like 57-year-old Patti Key of Durham, N.C., say they are finding work with more flexibility than they had before the pandemic.

She had retired in May 2020 from her position as head of global sales at the Ixia Solutions Group at Keysight Technologies, in part to quit a grueling travel schedule. Last spring, though, a former colleague asked if she would be interested in coming out of retirement to become chief revenue officer at a private-equity owned company attempting a turnaround.

The role didn’t require international travel and had a clear three-year timeline. Plus, she would earn what she had been paid previously, with financial incentives for success.

The opportunity seemed too good to pass up, she says.

“It’s just reiterated how important it is to have connectivity to people,” Ms. Key says of her brief retirement. “For me, I like being on a team.”

Though many of the pandemic distortions are common to other countries,we show that U.S. inflation has risen more quickly and increasingly diverged from inflation in other...Organisation for Economic Co-operation and Development...countries. In seeking an explanation, we turn to the combination of direct fiscal support introduced to counteract the economic devastation caused by the pandemic. Importantly, we trace the effect of these measures over time. The interplay between when assistance was delivered and how households responded to successive COVID waves created complicated dynamics in the economy. Building these dynamics into a simple model suggests that they may have contributed to about 3 percentage points of the rise in U.S. inflation through the end of 2021.... The blue line in Figure 1 displays the year-over-year percent changes in U.S. core CPI inflation. The figure also shows the median (red line) and the range between the 25% and 75% largest values (also known as the interquartile range and shown by the shaded area) of inflation for our OECD sample. A tighter range indicates that most OECD countries in our sample experienced inflation rates similar to each other. The figure shows that, before the pandemic, U.S. core CPI inflation remained, on average, about 1 percentage point above the OECD sample average. By early 2021, however, U.S. inflation increasingly diverged from the other countries. U.S. core CPI grew from below 2% to above 4% and stayed elevated throughout 2021. In contrast, our OECD sample average increased at a more gradual rate from around 1% to 2.5% by the end of 2021. These differences in inflation readings cannot be explained by measurement issues....Figure 2 shows an index for per capita inflation-adjusted disposable personal income—real disposable income, for short—for the United States and for the median and interquartile range across the sample of OECD economies. The figure shows that, throughout 2020 and 2021, U.S. households experienced significantly higher increases in their disposable income relative to their OECD peers....In particular, we calculate what inflation would have been if U.S. pandemic support measures had been as moderate as the passive group of countries. Figure 3 reports actual U.S. core CPI inflation against this scenario... suggests that U.S. income transfers may have contributed to an increase in inflation of about 3 percentage points by the fourth quarter of 2021.

Òscar Jordà, Celeste Liu, Fernanda Nechio, and Fabián Rivera-Reyes, "Why Is U.S. Inflation Higher than in Other Countries?"Federal Reserve Bank Of San Francisco, March 28 2022, https://www.frbsf.org/economic-research/publications/economic-letter/2022/march/why-is-us-inflation-higher-than-in-other-countries/

Why Is U.S. Inflation Higher than in Other Countries?

Inflation rates in the United States and other developed economies have closely tracked each other historically. Problems with global supply chains and changes in spending patterns due to the COVID-19 pandemic have pushed up inflation worldwide. However, since the first half of 2021, U.S. inflation has increasingly outpaced inflation in other developed countries. Estimates suggest that fiscal support measures designed to counteract the severity of the pandemic’s economic effect may have contributed to this divergence by raising inflation about 3 percentage points by the end of 2021.

Few people would question the devastating economic consequences of the COVID-19 pandemic, which resulted in a dramatic collapse in economic activity and loss in employment worldwide. The United States introduced unprecedented fiscal and monetary policy responses to provide rapid economic relief. The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law in March 2020. In the same month, the Federal Reserve lowered the target range for the federal funds rate to 0-¼% and introduced additional measures to ease liquidity.

As we begin the third year since the start of the pandemic, the U.S. economy has rebounded at an astonishing rate. Unemployment recovered from a high of 14.7% in April 2020 to 3.8% in February 2022. Meanwhile, the gap between actual GDP and its potential rate has nearly closed to less than 0.5%, as calculated by the Congressional Budget Office. However, global supply chain distortions persist, and subsequent waves of COVID-19 infections continue to disrupt service-oriented industries.

There are many reasons to expect inflation to be higher than normal (Barnichon, Oliveira, and Shapiro 2021; Bianchi, Fisher, and Melosi 2021; Shapiro 2021a,b). In this Economic Letter we widen the Analysis with an international comparison. Though many of the pandemic distortions are common to other countries, we show that U.S. inflation has risen more quickly and increasingly diverged from inflation in other OECD (Organisation for Economic Co-operation and Development) countries. In seeking an explanation, we turn to the combination of direct fiscal support introduced to counteract the economic devastation caused by the pandemic. Importantly, we trace the effect of these measures over time. The interplay between when assistance was delivered and how households responded to successive COVID waves created complicated dynamics in the economy. Building these dynamics into a simple model suggests that they may have contributed to about 3 percentage points of the rise in U.S. inflation through the end of 2021.

U.S. inflation is now higher than abroad

One way to illustrate what has happened with U.S. inflation is to compare it with the average rate of inflation across a group of OECD economies: Canada, Denmark, Finland, France, Germany, Netherlands, Norway, Sweden, and the United Kingdom. We rely on core inflation measures, which remove the more volatile food and energy prices. To align with what is available in all the countries in our study, we use consumer price index (CPI) inflation instead of the personal consumption expenditures price index, the preferred measure of inflation used by the Federal Reserve.

The blue line in Figure 1 displays the year-over-year percent changes in U.S. core CPI inflation. The figure also shows the median (red line) and the range between the 25% and 75% largest values (also known as the interquartile range and shown by the shaded area) of inflation for our OECD sample. A tighter range indicates that most OECD countries in our sample experienced inflation rates similar to each other. The figure shows that, before the pandemic, U.S. core CPI inflation remained, on average, about 1 percentage point above the OECD sample average. The small difference between U.S. and OECD inflation during this period is well known as many of the OECD countries struggled to get inflation up to target following the Global Financial Crisis and subsequent euro-area sovereign debt crisis.

U.S. direct fiscal transfers are also higher than abroad

While all countries have been affected by the COVID-19 pandemic, policy responses have varied considerably. Beyond efforts to limit the spread of the virus, the availability of testing, and vaccine distribution, how countries handled providing economic support differed primarily in terms of size and scope. It is difficult to tally the measures adopted across all countries. Even within the United States, different states had varying degrees of unemployment assistance, direct household transfers, child support, business loans, and other pandemic assistance programs.

One way to get a read on this tangle of support programs is to directly measure disposable personal income in each country. This measures the amount individuals have left to spend or save after paying taxes and receiving government transfer payments. It is a relatively comparable measure across countries that incorporates the overall magnitude of net pandemic transfers.

Figure 2 shows an index for per capita inflation-adjusted disposable personal income—real disposable income, for short—for the United States and for the median and interquartile range across the sample of OECD economies. The figure shows that, throughout 2020 and 2021, U.S. households experienced significantly higher increases in their disposable income relative to their OECD peers.

Did more disposable income turn into more inflation?

Figures 1 and 2 suggest that the higher rate of inflation in the United States may relate in part to its stronger fiscal response. One way to assess the possible connection is using a Phillips curve framework.

In the Phillips curve, inflation is frequently expressed as a function of inflation expectations, lagged inflation, and a measure of a gap in economic activity. That is, inflation reflects a combination of the public’s views on future inflation, inflation inertia, and how hot the economy is running. Because of the array of policy measures introduced during the pandemic to counterbalance the economic effects of lockdowns, common labor market statistics, such as the unemployment gap, are not as reliable. Therefore, we turn to real disposable income to better capture the demand side of the economy. Moreover, the fiscal measures introduced to fight the pandemic were somewhat unexpected in that their passage, size, and scope were not known with certainty.

Using the Phillips curve logic, we can reasonably compute the effect of pandemic support measures on the inflation forecast. The idea is to compare countries that, like the United States, introduced aggressive support measures, which we call the policy “active” group, versus the less aggressive, or policy “passive,” group before and after the pandemic. Dividing the data by time and by country is a common statistical strategy used to find the effects of a policy. The intuition is that those countries with a less generous policy response act as a control group before and after the pandemic. If the measures introduced by the United States and other countries in the active group had no effect on inflation, the set of passive and active countries should exhibit similar inflation paths. The extent to which they do not can help us measure the effect of active policies on inflation in that country.

For the model, we measure inflation using core CPI and construct one-year-ahead inflation expectations for each country by predicting CPI future observations from a history of 20 years of inflation data as in Hamilton et al. (2016). We construct the real disposable income gap by removing the historical trend from the data and comparing it with a scenario that extends the pre-pandemic trend through to the pandemic period. In addition, since households do not immediately spend the income they receive, we smooth the data using a four-quarter rolling average of the detrended series. Finally, our estimation method accounts for common variation over time in the evolution of the pandemic and the policies implemented, while allowing for differences in inflation across countries.

With these elements in place, we estimate our model and use it to construct an inflation path scenario. In particular, we calculate what inflation would have been if U.S. pandemic support measures had been as moderate as the passive group of countries. Figure 3 reports actual U.S. core CPI inflation against this scenario. The green shaded area shows the degree of uncertainty around our estimates. This version of the Phillips curve performs reasonably well and is comparable to historical estimates using measures of slack based on the deviation of output from its potential or unemployment from its natural rate. Importantly, however, our model allows for potential shifts in how inflation responded to economic slack during the pandemic.

Our estimates fall in the upper range of findings from other recent research, although those findings fall well within our estimated confidence range. As Bianchi et al. (2021) point out, alternative modeling frameworks can result in different estimates. Barnichon et al. (2021), for example, indirectly find a much smaller, though statistically significant, contribution from fiscal measures using historical U.S. data and relying on a new measure of labor market slack. Our analysis expands on past studies by using a different sample, a different measure of slack—the disposable income gap—for an international sample, and allowing for the possibility that the pandemic shifted traditional economic relationships.

Conclusion

The United States is experiencing higher rates of inflation than other advanced economies. In this Economic Letter we argue that, among other reasons explored by the literature, the sizable fiscal support measures aimed at counteracting the economic collapse due to the COVID-19 pandemic could explain about 3 percentage points of the recent rise in inflation. However, without these spending measures, the economy might have tipped into outright deflation and slower economic growth, the consequences of which would have been harder to manage.

Òscar Jordà is a senior policy advisor in the Economic Research Department of the Federal Reserve Bank of San Francisco.

Celeste Liu is a research associate in the Economic Research Department of the Federal Reserve Bank of San Francisco.

Fernanda Nechio is a vice president in the Economic Research Department of the Federal Reserve Bank of San Francisco.

Fabián Rivera-Reyes is a research associate in the Economic Research Department of the Federal Reserve Bank of San Francisco.

References

Barnichon, Regis, Luiz Oliveira, and Adam Shapiro. 2021. “Is the American Rescue Plan Taking Us Back to the ’60s?” FRBSF Economic Letter 2021-27 (October 18).

Bianchi, Francesco, Jonas D.M. Fisher, and Leonardo Melosi. 2021. “Some Inflation Scenarios for the American Rescue Plan Act of 2021.” Chicago Fed Letter 453, April.

Hamilton, James D., Ethan S. Harris, Jan Hatzius, and Kenneth D. West. 2016. “The Equilibrium Real Funds Rate: Past, Present, and Future.” IMF Economic Review 64(4, November),pp. 660-707.

Shapiro, Adam H. 2021a. “Weighing the Role of Supply Bottlenecks in Core PCE Inflation.” SF Fed Blog, May 18.

Shapiro, Adam H. 2021b. “What’s Behind the Recent Rise in Core Inflation?” SF Fed Blog, June 18.

“…The major story of the U.S. balance of payments in 2021 has been the surge in net financing from abroad through “other investment”. This is a grab-bag category that includes borrowing and lending between local offices of foreign banks and their HQs, cross-border repos, foreign transactions with the Federal Reserve (including holdings of physical U.S. currency), and loans to U.S. borrowers from foreign banks. In 2021, “other investment” provided $719 billion in net financing to Americans—the most ever, by far. Since the start of the pandemic, the number is $986 billion….”

Foreigners financed an unprecedented boom in U.S. spending on goods, services, stocks, and corporate bonds in 2021—and they did so more or less for free. The $861 billion U.S. trade deficit and the $455 billion net U.S. investment abroad in risky assets was matched by net financial inflows of more than $1.3 trillion from abroad. Essentially the entire net inflow was covered by the issuance of ultra-low-yielding deposits, repos, physical currency, and U.S. Treasury debt. Even more remarkably, this occurred during a broad-based global recovery and during a surge in U.S. inflation that should have made dollar-denominated cash equivalents singularly unattractive....The $403 billion net purchases of stocks, investment fund shares, and corporate bonds by U.S. investors in 2021 is unprecedented. The previous 12-month high was $244 billion. The net number represents the sum of four distinct sets of financial flows: U.S. purchases of foreign stocks and investment fund shares, U.S. purchases of foreign corporate bonds, foreign purchases of U.S. stocks and investment fund shares, and foreign purchases of U.S. corporate bonds.While American investment in foreign fixed income broke records in 2021, the bigger factor has been the sharp drop in foreign purchases of U.S. assets.... The major story of the U.S. balance of payments in 2021 has been the surge in net financing from abroad through “other investment”. This is a grab-bag category that includes borrowing and lending between local offices of foreign banks and their HQs, cross-border repos, foreign transactions with the Federal Reserve (including holdings of physical U.S. currency), and loans to U.S. borrowers from foreign banks. In 2021, “other investment” provided $719 billion in net financing to Americans—the most ever, by far.5 Since the start of the pandemic, the number is $986 billion. The following chart breaks this down into the most important components.

Matthew Klein, "Last Looks at the Pre-War World (3): The Return of "Exorbitant Privilege"?,"The Overshoot, March 29, 2022, https://theovershoot.co/p/last-looks-at-the-pre-war-world-3

Last Looks at the Pre-War World (3): The Return of "Exorbitant Privilege"?

Foreigners financed an unprecedented boom in U.S. spending on goods, services, stocks, and corporate bonds in 2021—and they did so more or less for free.

The $861 billion U.S. trade deficit and the $455 billion net U.S. investment abroad in risky assets was matched by net financial inflows of more than $1.3 trillion from abroad. Essentially the entire net inflow was covered by the issuance of ultra-low-yielding deposits, repos, physical currency, and U.S. Treasury debt.

Even more remarkably, this occurred during a broad-based global recovery and during a surge in U.S. inflation that should have made dollar-denominated cash equivalents singularly unattractive. If there were ever such a thing as “exorbitant privilege”, this is what it might look like.

The limited data we have so far suggests that at least some of the key patterns have persisted into the first quarter of 2022.

The Uniqueness of 2021

The 2021 U.S. balance of payments picture was decidedly different from the recent past.

In 2020, Americans financed their comparatively modest spending by selling far more stocks and corporate bonds to foreign investors than they accumulated abroad. These are higher-yielding assets that represent claims on real productive capacity. Returns on both U.S. stocks and U.S. corporate bonds were strong in both 2020 and 2021, which means that the financing that covered the U.S. current account deficit in 2020 came at a real cost to Americans. Foreigners sold modest amounts of U.S. Treasury and agency debt over the course of 2020, while foreign investment in U.S. cash and equivalents was essentially matched by American outward investment.

The first time that Americans experienced anything close to the 2021 experience was in the 1950s and 1960s, back when Valéry Giscard d’Estaing, French finance minister under President Charles de Gaulle, first coined the term “exorbitant privilege”. America ran a trade surplus in those years, unlike now. But U.S. investors were able to buy far more foreign assets than would have been expected because foreigners were hoovering up zero-yielding dollar claims.2

With that in mind, compare the chart above to this decomposition of the 2021 U.S. balance of payments.

Foreigners bought about $496 billion of U.S. Treasury and agency debt in 2021.3 Another $470 billion in net financing can be attributed to the $333 billion increase in borrowing by U.S. banks and the U.S. nonbank private sector via deposits and repos and the $137 billion decline in U.S. deposits held abroad and in repo lending to foreign counterparties. Then there was the $108 billion in financing that came in through foreign purchases of Federal Reserve liabilities such as physical U.S. currency.4

Let’s look closer at what happened.

Americans Pivoted to “Risk On”. Sort Of.

The $403 billion net purchases of stocks, investment fund shares, and corporate bonds by U.S. investors in 2021 is unprecedented. The previous 12-month high was $244 billion.

Foreigners Ramped Up Short-Term Lending Abroad. Americans Didn’t.

The major story of the U.S. balance of payments in 2021 has been the surge in net financing from abroad through “other investment”. This is a grab-bag category that includes borrowing and lending between local offices of foreign banks and their HQs, cross-border repos, foreign transactions with the Federal Reserve (including holdings of physical U.S. currency), and loans to U.S. borrowers from foreign banks. In 2021, “other investment” provided $719 billion in net financing to Americans—the most ever, by far.5 Since the start of the pandemic, the number is $986 billion.

The following chart breaks this down into the most important components.

So what happened?

A big part of the story, as I have noted before, is that U.S. offices of foreign banks have borrowed a lot from their headquarters, mostly to buy reserves issued by the Fed. “Net due to related foreign offices”6 reached almost $400 billion by the end of 2021, up from about $100 billion before the pandemic. As it happens, the weekly data from the Fed suggests that this form of borrowing continued to increase in 2022, with a $92 billion spike in the week immediately following the invasion of Ukraine.

Will Americans continue to seek out foreign risk assets, or was the 2021Q4 liquidation of stocks a harbinger of what’s to come?

How will inflation and monetary tightening normalization affect both U.S. and foreign asset allocation preferences and willingness to invest abroad?

And the biggest question: Will foreigners’ eagerness to hold the lowest-yielding dollar-denominated assets persist after Russia’s invasion of Ukraine and the emergence of unrestricted financial warfare?

The weekly banking data so far suggest that the answer is “yes”, at least for those who matter, as does the dollar’s appreciation against most major currencies since the attack began. But it’s something to keep an eye on.

1 For the purposes of the balance of payments, corporate bonds includes private-label mortgage-backed securities and asset-backed securities.

2 In practice, the “exorbitance” of this “privilege” was severely constrained by the option to convert those paper assets into limited physical gold. Much more on all this in Chapter 6 of Trade Wars Are Class Wars. Europeans started converting their paper claims into physical gold as early as 1957 but the basic features of the Bretton Woods system nevertheless survived until 1971. By that point, about half of the U.S. gold stock had been liquidated to meet redemptions.

3 Foreigners bought $601 billion in U.S. Treasury notes and bonds, sold $57 billion in U.S. Treasury bills, and sold about $48 billion in agency debt. In 2020, foreigners sold $389 billion in notes and bonds, bought $311 billion in bills, and sold $47 billion in agency debt.

4 This seems like an understatement to me given the surge in foreign usage of the Fed’s reverse repo facility in 2021, but perhaps there are definitional or methodological differences that would explain the difference.

5 I am excluding Special Drawing Right (SDRs) allocations from the International Monetary Fund in all of these numbers. In the U.S., these are counted as “other investment” liabilities and are offset by an equal increase in U.S. reserve assets. The U.S. recorded a $113 billion “inflow” due to the SDR allocation in August.

6 If you want more details on the definitions, history, and implications, I recommend this primer from the Fed.

Basic takeaway is within five years out from the appointment of a manager with an MBA wages downtick 6% and the labor share by 5pp in the US, and by 3% and 3pp in Denmark, “…We explore the effect of business managers on wages and the labor share using matched employer-employee datasets from the US and Denmark. In both countries, business managers reduce the wages of their employees. For example, five years after the appointment of a business manager, wages decline by 6% and the labor share by 5 percentage points in the US, and 3% and 3 percentage points in Denmark (relative to firms operated by non-business managers). Our evidence suggests that business managers are not more productive: firms appointing business managers are not on differential trends and do not enjoy higher sales, productivity, investment, or employment growth following their accession….Figure 3 presents our main event-study figures for the US, using specifications that control for industry × year fixed effects, firm size quintile × year fixed effects, and state × year fixed effects. The first panel shows a negative impact of a switch from a non-business manager to a business manager on log annual wage. These negative effects are significant, and five years after the switch, the annual income of affected workers has declined by 6.7% (standard error = 2.5%). Notice that this specification includes worker × firm fixed effects, and thus the wage impacts are not driven by compositional changes. The second panel depicts a similarly large and negative impact on the labor share. Since we do not observe value added in the US Census data, the labor share is defined as wage bill divided by sales. Five years after the switch to a business manager, the share of labor in sales is 1.8 percentage points lower, which is a 9% decline relative to the average sales-based labor share of 20%, or, if we convert this to the standard labor share in value added, it is equivalent to a 5 percentage point decline.Notably, before the switch, there is no differential pre-trend in either wages or the labor share. The bottom two panels show that the switch from a non-business to a business manager is not associated with an increase in sales, employment, or investment. Some of the estimates are less precise than our wage results, but in all cases we find no evidence of either differential trends before or any divergence after the switch to a business manager. Similar changes in employment and output also imply no significant changes in labor productivity. This may be either because business managers implement no meaningful improvements, or because any positive effects they have are canceled by other negative consequences of their wage policies (such as less cooperation with workers or greater quits by some high-skilled workers, which we document later). In any case, the absence of any firm growth or productivity effects make the interpretation of our wage results more straightforward…Using manager retirements and deaths and an IV strategy based on the diffusion of the practice of appointing business managers within industry, region, and size quartile cells, we provide additional evidence that our results correspond to the causal effects of managers with a business degree. Our IV strategy is appealing not just because our instrument is orthogonal to changes in our core outcomes before the appointment of business managers or in other variables before or after managerial transitions; it is also attractive because it captures the broader spread of practices associated with business education within groups of firms with similar characteristics. Arguably reflecting this broader spread, our IV estimates are about 50% larger than our event-study or OLS estimates. Both sets of estimates imply that the contribution of managers with business education to the decline in the labor share in Denmark and in the US is sizable, but still no more than 20%-30% of the overall change….”

American

“…Figure 3 presents our main event-study figures for the US, using specifications that control for industry year fixed effects, firm size quintile year fixed effects, and state year fixed effects. The first panel shows a negative impact of a switch from a non-business manager to a business manager on log annual wage. These negative effects are significant, and five years after the switch, the annual income of affected workers has declined by 6.7% (standard error = 2.5%). Notice that this specification includes worker firm fixed effects, and thus the wage impacts are not driven by compositional changes. The second panel depicts a similarly large and negative impact on the labor share. Since we do not observe value added in the US Census data, the labor share is defined as wage bill divided by sales. Five years after the switch to a business manager, the share of labor in sales is 1.8 percentage points lower, which is a 9% decline relative to the average sales-based labor share of 20%, or, if we convert this to the standard labor share in value added, it is equivalent to a 5 percentage point decline. Notably, before the switch, there is no differential pre-trend in either wages or the labor share. The bottom two panels show that the switch from a non-business to a business manager is not associated with an increase in sales, employment, or investment. Some of the estimates are less precise than our wage results, but in all cases we find no evidence of either differential trends before or any divergence after the switch to a business manager. Similar changes in employment and output also imply no significant changes in labor productivity. This may be either because business managers implement no meaningful improvements, or because any positive effects they have are canceled by other negative consequences of their wage policies (such as less cooperation with workers or greater quits by some high-skilled workers, which we document later). In any case, the absence of any rm growth or productivity effects make the interpretation of our wage results more straightforward. Some of the individual estimates in Figure 3, especially for the labor share, are imprecise because we allow the effect of business managers to be completely unrestricted over time. In Panel B of Table 1 below, we impose a constant coefficient for all post-treatment periods and estimate it by OLS in the same sample of rms experiencing a single transition from non-business manager to business manager. We now see precisely estimated effects both for average wage and the labor share: -0.063 (standard error = 0.011) for the former and -0.023 (standard error = 0.003) for the latter in our baseline specification…”

“.. Figure 4 presents analogous results for Denmark.Panel (a) depicts precise and sizable effects on the hourly wage. In Denmark, we also have data on workers' annual income, showing very similar patterns. In particular, five years after the switch to a business manager, the annual income of affected workers is 3.6% lower (standard error = 0.6%). Likewise, hourly wages are lower by 2.8% (standard error = 0.5%). The second panel shows that the labor share also declines, though the estimates are less precise in this case. Our point estimate after five years indicates a 2.9 percentage point impact on the labor share (equivalent to a 4% decline starting from a base of 68%). The bottom two panels again con rm that business managers appear to have no impact on productivity or other economic outcomes we see no differential trends in value added, sales, employment, and investment. In addition, in all cases, there are no differential pre-trends before the switch to a business manager. Panel B of Table 2 shows even more precisely estimated and strongly significant results when we impose constant effects: -0.029 (standard error = 0.006) for average wage and -0.024 (standard error = 0.007) for the labor share. The results are robust to using rm average wage (Figure A1 in the Appendix) and varying the fixed effects we control for (Table A1)…”

“…Who benefits from having a business manager? We start by looking at changes in firm profitability, measured by return on assets (ROA). Since business managers do not change the growth or productivity of firms, lower wages paid to workers should imply higher profits. Figure 8 shows that following a switch to business manager, ROA increases by about 3 percentage pointsin the US, and by about 1.5 percentage point in Denmark. Higher profits also translate into higher stock market prices. We match our US firms to Compustat and explore the effects of appointing a business manager on stock market valuations.Panel C of Figure 8 shows a significant increase in shareholder returns following the appointment of a business manager. Hence, one clear group of beneficiaries from the practices brought about by business managers are shareholders…”

Outcomes

Key Findings:"... The first is our headline result: in both the US and Denmark, when a chief executive officer with a business degree ("business manager" for short) takes over from a non-business manager, there is a significant decline in wages and the labor share of the firm (relative to non-business-manager firms). With our event-study design, we find a 5 percentage point decline in the labor share and a 6% decline in wages in the five years following the appointment of a business manager in the US. The same approach in Denmark yields similar and only slightly smaller results: a 3 percentage point decline in the labor share and a 3% decline in wages. In neither country do we see any differential trends in the labor share, wages, employment, output, or investment before the term of the business manager begins. Nor do we detect much of an employment, output, investment, or productivity response, which suggests that business managers are not more productive than their non-business peers...... Taken at face value, our estimates suggest that the effects of business managers are sizable but not implausibly large. In the US, for example, where the fraction of workers employed by business managers has increased from 26% to 43% between 1980 and 2020, our estimates indicate that business managers can explain about 20% of the decline in the labor share. They also account for approximately 15% of the slowdown of wage growth since 1980. In Denmark, where the increase in the fraction of workers employed by business managers is smaller (rising from 11% in 1995 to 19% in 2011), our mechanism accounts for 6% of the decline in the labor share. The reduction in wages following the accession of a business manager leads to an increase in profits: the return on assets (ROA) increases by 3 percentage points in the US and by 1.5 percentage points in Denmark. In the US, we also find an increase of about 5% in the stock market values of companies that appoint business managers. We further show that all else equal, managers with business degrees earn more than non-business managers. In addition to the lack of pre-trends in various firm outcomes, we augment our event-study and difference-in-differences estimates by showing that a switch from one non-business manager to another non-business manager has zero impact on all of the outcomes we focus on. We also find no impact on these outcomes due to a switch from a non-college manager to one with a college degree. Hence, our estimates are not capturing mechanical "Hawthorne" effects associated with the arrival of a new manager or the reign of a more educated leader..."
“…Our second major result identifies changes in rent-sharing as the major mechanism for our results. To identify how rent-sharing differs in companies run by business managers, we focus on plausibly exogenous variation in firm profits driven by firm-specific export demand shocks in Denmark. In particular, we adopt a strategy first proposed by Hummels, and isolate changes in a firm's export demand driven by differential changes in the imports of six-digit products by their main exporting destinations. Put differently, this strategy focuses on firms that export to different foreign markets and exploits the differential evolution of overall (non-Danish) imports in these markets. Using this strategy, we explore how business-manager and non-business-manager firms respond to export shocks. We find no major differences in terms of productivity, sales, employment, or investment responses to export demand shocks thus no compelling evidence that business managers are more productive or adaptable in this context either. Consistent with our previous results, non-business managers share the resulting rents with their workers. Our rent-sharing elasticity estimates suggest that a 10% increase in value added per worker is associated with a 1.9% increase in wages. Alternately, a 10% increase in pro t per worker is associated with a 1% increase in wages. In contrast, business managers do not share these export-driven rents with their employees, and for the firms they run, we find a precise zero impact on wages following such an increase in exports. This differential rent-sharing response explains the entirety of our event-study estimates. Further explorations reveal that this effect itself is almost completely driven by positive export shocks: following an exogenous decline in exports, business and non-business managers behave similarly, presumably because cutting wages is challenging even for business managers who prioritize cost reductions. However, following a positive export shock, non-business managers share the resulting rents and raise wages, whereas business managers do not…”

“…Third, in the Danish data we explore whether business manager effects are due to the selection of individuals who are more prone to take a hard line against labor into business degrees, or whether instruction and socialization in business degree programs produce managers who do not share rents with their employees. To answer this question, we exploit the presence of "role model" effects in the choice of college major whereby individuals are more likely to follow the choices of their role models…for general discussion…We collect the high school records of Danish managers and de ne the role models for each individual as students in the same high school and with similar academic performance, but one year ahead. We confirm that role models matter for college choice, with a 10% increase in the fraction of role models pursuing a business degree associated with a 1%{3% increase in a student's likelihood of enrolling in a business program. Exploiting this source of variation, we estimate that most of the wage and labor share results we present can be explained as the treatment effect of business education rather than a selection effect….”

The Evidence

"CRT was dreamed up by legal scholars explicitly seeking to subvert the Civil Rights Act and the US Constitution…Let's put this into perspective. Requiring prayer or pledges of allegiance in school has been illegal for decades. If a school can't require your child to pledge allegiance to the American flag, it certainly cannot require a teacher in training or a child in a classroom to pledge allegiance to anti-racism.But schools are doing just that. And they are doing it in direct violation of the First Amendment..When a public school requires students or teachers to say something they don't wish to say or endorse a belief that they don't agree with,then it has unconstitutionally compelled speech. The law here is well settled: Schools can't make teachers affirm a belief in a professional training, and they can't make students affairs a belief in a classroom..”

Kimberly Hermann, "The Critical Race Theory Fight Isn't "Culture War;" It's Constitutional War, American Enterprise Institute, April 2022, https://www.aei.org/wp-content/uploads/2022/04/The-Critical-Race-Theory-Fight-Isn%E2%80%99t-%E2%80%9CCulture-War%E2%80%9D-It%E2%80%99s-Constitutional-War.pdf