Monday, July 24, 2017

No Reason to Worry About the U.S.' Trade Deficit with Germany (Or Any Other Trade Deficit)

As the cliché goes, "there is always too much of a good thing." Germany might be experiencing that with its current trade surplus, something that has caught the ire of U.S. President Donald Trump. The trade surplus has not only caught the attention of Trump. It has been covered by such media outlets as Bloomberg and the New Yorker as bad news. In its Article IV Consultation of Germany, the International Monetary Fund (IMF) also expressed concern over the trade surplus, and I can see why. When we hear a phrase such as "trade deficit," our minds are lead to believe that a deficit is bad. A deficit is an excess of spending, and in this case, is one in which the amount of imports exceeds exports. "Surplus = good. Deficit = bad." But can trade balance be that simple? I think we should answer an even more important question: Is there any reason we should even care about running a trade deficit with Germany? Should we care about trade deficits at all?

When people say that the United States has a trade deficit with Germany, it means that the United States has purchased more German goods than the Germans have purchased American goods. It is not a value judgement, but rather an accounting measure illustrating a macroeconomic trend. Trade deficit as an accounting measure is a part of the greater GDP. The GDP, which I covered three years ago in detail, can be summarized as consumption (C), investment (I), government spending (G), and the trade balance (exports minus imports: X-M), or as expressed as an equation:

GDP = C + I + G + (X-M)

As World Bank data show, trade only accounted for 28 percent of the U.S.' GDP in 2015, which means there are other larger factors that drive the economy aside from the trade balance. Let's contextualize it a bit further. In 2016, our trade deficit with Germany was $64 billion. Our overall trade balance in 2016 was $504 billion. Contrast that to the size of the entire United States GDP for 2016, which was $18.68 trillion. And this is keeping in mind that the trade balance is factored into the  GDP. 

Going back to the GDP formula, trade deficits don't matter. As Tim Worstall as Forbes illustrates, "I have a terrible bilateral deficit with the supermarket, they never buy anything at all from me. This still seems to be a useful and stable arrangement though." No one would expect the supermarket to buy an equal amount back from the customer to "even out the balance." What matters with trade is what Americans get to consume. And what did Americans consume when the United States imported $114 billion worth of German goods in 2016? Automobiles, industrial machinery, pharmaceuticals, chemical goods, food products. It's not as if the U.S. threw away $114 billion for nothing. The American people enhanced their quality of life by purchasing these German goods. Another point is that imports lower prices for domestic consumers and provide greater competition in markets, which increases purchasing power. As Cato Institute scholar Daniel Ikenson puts it:

Exports are not the reason we trade; they are the means by which we acquire imports. It is imports, not exports, that allow Americans to enjoy a higher standard of living. Exports without imports are like jobs without a paycheck.

Even better, it doesn't look like reducing the trade deficit or aiming for a trade surplus does any favors. Per the survey results from expert economists with the University of Chicago's IGM Forum, decreasing trade deficits would not improve quality of life. If we took Trump's misguided notion that imports are bad, we should simply ban imports. But doing that would undoubtedly worsen economic welfare and quality of life in the United States.

I have some other news for Trump. The United States has run a trade deficit every year since 1975. Did the United States' economy fall flat on its face over the past 42 years? Not at all! What happened was that the size of the economy tripled, the value of the manufacturing sector quadrupled, and the number of jobs doubled, the latter of which killing the notion that the trade deficit costs jobs. These facts remind us that trade deficits do not indicate much when it comes to the health of the overall economy.

Basic accounting dictates that a deficit in one place implies that there is a credit in another place. Germany is not just going to sit on the money. What does Germany do with the dollars they earn in their trade surplus? Germans can buy goods and services from the United States, buy dollar-denominated assets, or exchange the dollar for other currencies. If we go back to the GDP equation, we see what happens with savings (S) and investment:

GDP = C + I + G + (X-M)
(GDP - Tax - C) + (Tax - G) - I = (X-M)
S - I = X - M 

What the macroeconomic formulas above show is that if there is a trade deficit, the money will come back to the United States in the form of investment in the United States, which is illustrated by the $2.9 trillion in foreign direct investment in the United States and the multiple German companies operating in the U.S., including T-Mobile, Volkswagen, and Trader Joe's. As a matter of fact, U.S. affiliates of foreign companies (also known as "insourcing" companies) outperform U.S.-based companies (Ikenson, 2013). It's the sort of investment inflow that allows for the U.S. economy to grow the way it has. Another way of framing the "issue" is that the trade deficit is financed by inflows of foreign capital used to purchase U.S. assets. Since the flows are determined by national rates of savings and investment, trade policy would not do much to mitigate trade deficit. 

The formulas above also show that the trade balance reflects a low level of savings, a high level of investment, or both. Countries that are growing faster than its trading partners attract foreign investment, which is another way to cause a trade deficit. Alternative reasons as to the trade imbalance could be reckless fiscal policy, low level of competitiveness, or a consumption binge. In the case of Germany, its high savings rate boosts its trade surplus, which means that excess capital flows to other countries. Since many Germans are saving for retirement, investment from both the public and private sectors are its best chance of ameliorating the situation. 

Another facet to consider is the balance of payments. Balance of payments is the macroeconomic accounting mechanism that reminds us that the goods and services (CA), as well as assets (KA) of the United States (or whichever domestic country) is approximately identical equal to the amount of goods, services, and assets that foreigners (ORT) buy from the United States (or whichever domestic country). In the event that there is a different, the change in foreign reserves accounts for the remainder of the difference. So in theory, the formula should look like this:

Balance of Payments = CA + KA + ORT = 0

This brings us to another point, which is the issue with Germany is not trade flows, but capital flows (Jacoby, 2017). The ECB needs to raise interest rates, stop quantitative easing, and remove Euro Zone budget restrictions that would allow for more expansionary fiscal policy. Instead of heavily relying on trade, Germany could reduce taxes on labor and consumption or reduce national savings [by increasing investment]. Other countries should work on debt sustainability. The United States could focus on its own affairs by dealing with the zero bound issue, the problem when central banks are close enough to 0 percent interest rates where it stymies their capabilities and creates a liquidity trap.

The head of the Germany Council of Economic Experts is not worried because he views the surplus as being caused by short-term factors that should fade over time, such as the European Central Bank's quantitative easing and low oil prices, which is why it should be no surprise that the German trade surplus is expected to have already hit its peak.

Since there was a lot of information covered, here is a summary of the findings:
  1. There is more to an economy than just the trade balance. 
  2. A country running a trade deficit is not just throwing away money. It acquires goods and services that improves consumers' lives, creating a mutually beneficial relationship between the two countries. 
  3. The United States has run a trade deficit for the past 41 years, and yet, its economy has grown just fine. 
  4. The trade deficit is not a good metric of economic health. 
  5. Even if the trade deficit were an issue, the focus would need to be on savings, investment, and capital flows, not trade flows. 
Trump wants to blame the trade deficit in hopes of passing an "American First" trade policy. While Trump could use this as a pretense to increase tariffs or other measures on Germany, Trump would be pursuing a solution without a problem. Even better, Germany ranked fifth for most foreign direct investment (FDI) in the United States in 2014, and is also the fifth largest importer of U.S. goods. If Trump wants to make America great again, it would be wise for him to lay off the protectionist banter and focus on ways to better the American economy.

Thursday, July 20, 2017

How Deregulating Land Use Restrictions Would Proliferate the Housing Market

We, the people, have a right to life, liberty, and the pursuit of happiness in the United States, at least according to the Declaration of Independence. The right to property.....that one is trickier. The Fifth Amendment of the Constitution covers the protection of private property under the Takings Clause. Within this Clause, it states that "private property [shall not] be taken for public use, without just compensation." The Constitution is not the only legal basis for limiting right to property. The majority of local municipalities use what are referred to as land-use regulations.

In general terms, land-use restrictions are government-enforced restrictions on the development and use of private property that are in accordance with public policy goals. As this report on land-use regulations from the libertarian Mercatus Center points out, land-use restrictions really did not kick in until the early twentieth century when concerns regarding tall buildings resulted in height restrictions and setback requirements. Land-use is not confined to urban areas. The suburban sprawl came as a result of land-use in the hopes that it would promote civil and moral virtue. Land-use restrictions became more restrictive in the 1960s when the environmentalist movement went into full swing and was restricting property owners and their right to build. As it has evolved, land-use restrictions can take many forms, including the more traditional regulation of zoning or the idea of "smart growth," the urban planning theory that suggests that [amongst other things] mixes land use in order to minimize urban sprawl.

If we use zoning laws as an example, zoning laws act as a de facto production quota since they limit the amount of housing that can be produced in a given area. Basic microeconomic theory tells us what is to happen when these laws are enacted: supply of housing is limited, economic growth is limited, and the cost of housing skyrockets.

Some would argue that the main driver of housing prices is a lack of land. MIT Professor Albert Saiz found that geographical detriments play a considerable role. He also found that greater housing regulation was more likely to result in less housing and higher prices (Saiz, 2010, p. 1261). What's more is that Professor Saiz is not the only one who finds issues with housing regulations:
  • A paper at the National Bureau for Economic Research found that housing constraints lowered aggregate growth by 50 percent between 1964 and 2009 (Hsieh and Moretti, 2017). Removing these regulations in New York, San Francisco, and San Jose would have meant the US GDP in 2009 would have been 8.9 percent higher, which would have meant an average $8,775 per worker (ibid., p. 24). 
  • In its report on government failures, the Right-leaning Heritage Foundation found that removing land-use regulations would save American households a whopping $209 billion a year (Furth, 2015).
  • A paper from the London School of Economics found that land-use regulations drove up land prices, as well as confirmed that landowners of already-developed land are the ones that are in favor and benefit since these landowners benefit from the artificially high prices (Hilbert and Robert-Nicoud, 2013).
  • Manhattan apartments sold for nearly double (134 percent more expensive) the engineering costs because of land-use regulation (Glaeser et al., 2003). Minimum lot sizes and other land-use regulations made housing expensive in Boston (Glaeser and Ward, 2009). Land-use regulations accounted for Florida real estate to be 7 percent more expensive (Ihlandfeldt, 2007).
  • Land-use regulations cause stronger boom-and-bust housing cycles, which is unsurprising when supply is incapable of responding to demand (Huang and Tang, 2010).
  • A 2003 report from the Federal Reserve Bank analyzed the effect of building restrictions. Amongst its findings was that Cleveland had as much available land as San Diego, but San Diego was considerably more expensive due to land-use regulations. 
  • Using environmentally motivated land-use regulations to make land artificially expensive ends up turning more farmland into residential space than would have happened in a free market (Glaeser, 2009).

Life is more complicated than the simplified supply-demand graphs used in Econ 101, but the general results from those graphs play out in real life. Land-use regulations do a bang-up job by restricting housing supply and driving up housing prices, which makes it especially difficult for those who are not wealthy to afford a house.

As the centrist Brookings Institution points out in its recent essay arguing for land-use reform, land-use regulations are very much at the local level. The Department of Housing and Urban Development (HUD) doesn't have jurisdiction, which means that it is the state-level government that can best put pressure on cities to lay off with the land-use regulations. One can also switch from taxing structures to taxing land could reduce incentives to build less housing. However a solution potentially plays out, what I do know is that there is more than ample evidence that land-use restrictions cause much harm and making it more difficult for lower-income households to afford homes while preventing negligible risk, and making it more difficult to live the American dream should be unacceptable to every American citizen.

Monday, July 17, 2017

Why Jeff Sessions Should Just Say No to the D.A.R.E. Program

Attorney General Jeff Sessions is at it again with his "tough on crime" stance. Sessions spoke at a training conference for D.A.R.E. (Drug Abuse Resistance Enforcement) last week saying that he wanted to restore D.A.R.E. to its former glory. He opined that it is the "best remembered anti-drug program today."

D.A.R.E. is a non-profit that started in 1983 with the intention of fighting the War on Drugs. Its notoriety gained sufficient attention to earn various amounts government funding over the years. It was a demand-side initiative to educate children in order to prevent the use of controlled substances. The idea behind D.A.R.E. was simple: tell children how bad drugs are and they will be deterred and scared enough to not use them. It has become widespread where it reaches 75 percent of schools in the United States. The question on all of our minds, and that should be on Jeff Sessions' mind, is whether D.A.R.E. is a successful in cutting back drug use.

Courtesy of the National Institute on Drug Abuse (NIDA) funding the survey Monitoring the Future, we can already observe a couple of issues with correlation between D.A.R.E. and drug use (see below). One is that drug use was dropping before D.A.R.E. even started. The other is that by the time D.A.R.E. became commonplace in the 1990s, drug use among teens climbed back up.

Looking at the graph below might not be convincing unto itself. After all, correlation is not the same as causation. So let's take a look at the empirical evidence on D.A.R.E.:

  • A 10-year follow-up of the program conducted by the American Psychological Association found few differences between the DARE group and the comparison group in terms of drug use, perceptions, or self-esteem (Lynam et al., 1999).
  • The Government Accountability Office (GAO) conducted a study in 2003, which found that "no significant differences in illicit drug use between D.A.R.E. and non-D.A.R.E. students." 
  • The Surgeon General concluded in 2001 that D.A.R.E. was insignificant, as did a multivariate meta-analysis of 20 controlled studies (Pan and Bai, 2009). 
  • The Bureau of Justice Assistance, an organization that would be more inclined to agree with the D.A.R.E. program's mission, discovered in its 2009 study that the effects of D.A.R.E. on drug use were negligible. 
  • George Mason University's Center for Evidence-Based Crime Policy reviewed multiple studies on D.A.R.E.'s effectiveness. After reviewing the empirical evidence, the Center classified D.A.R.E. as "what doesn't work." 
    • One of the studies even found negative effects on alcohol and tobacco use (Sloboda et al., 2009). 

D.A.R.E.'s more recently developed "Keepin' It Real" program is shown to have modest success. The reason for its success, however, is because this new program is different both in content and form. Rather than bombard children with scaremongering lectures on drugs, this program focuses on communication and decision-making skills. The reason why it only had modest success in certain instances? Because police officers are not equipped to handle what is largely a health issue. If we are to address drug abuse, it should be done by experts in trauma and mental health. Plus, police officers symbolize authority, which is exactly what children and early teenagers are gearing to rebel against. It could explain why Penn State University's Wharton Public Policy Initiative expresses doubts about this latest D.A.R.E. program. Between that and the straight-up fear-mongering, is it a wonder that D.A.R.E. is so ineffective?

Sessions is having nostalgia for a 1980s that never existed, the one where he erroneously believes "tough on crime" worked back then. The truth is that "tough on crime" failed, and that D.A.R.E.'s initial model of scaremongering did not do anything significant to prevent drug use. Why Sessions wants to go back to that model is beyond me. Addiction is not a criminal issue; it's a health issue. Until Sessions realizes that, it will simply be more of the same failed "tough on crime" policy from the Attorney General's Office.

Thursday, July 13, 2017

Illinois' Budgetary Mismanagement Is a Ticking Time Bomb Waiting to Go Off

I love the state of Illinois. It's where I grew up, and because of that, I have good memories associated with Illinois. That's why it pains me to see what has become of Illinois as a result of years of state-level budgetary mismanagement. The latest attempt to pass a state budget show just how much of a mess it really is. Last week, the State of Illinois passed a budget. Passing a state budget is significant in this case since the State had not passed one since FY2015. This is even in spite of the fact that Republican Illinois Governor Bruce Rauner attempted to veto the bill. The veto was overturned because passing a budget was more important to the Democratic-dominated legislature than the content of the budget. One of the major reasons that Rauner vetoed the bill in the first place is because it hikes the state income tax from 3.75 percent to 4.95 percent, which is a hike of 32 percent. As high as 4.95 percent sounds, it is not even the highest state marginal income tax rate in the United States (see Tax Foundation infographic below).



If the Illinois state income tax isn't even the highest in the country, why should I be so worried about the fiscal affairs of Illinois? Because I end up worrying when I take a look at the bigger picture:

  • When combining state and local taxes, the average sales tax in Illinois is 8.64 percent, which is the seventh highest in the nation (Tax Foundation). This is exacerbated by other municipalities increasing sales tax that were effective on July 1. Illinois is also in the Top 20 list for state corporate tax rate (Tax Foundation).   
    • Here's another gem from the Tax Foundation: During the last decade (which is the time period for which there is the most recent data), Illinois experienced one of the largest migration of personal income, which is a metric that shows how people have been fleeing from Illinois. This finding can be extended into this decade since we see the downward trend in migration through 2015. 
  • Illinois also has one of the highest property taxes in the country, right behind New Jersey. One in six mortgages in Illinois are already underwater, and the State's temporary property tax freeze, which is riddled with exemptions, won't do Illinois any favors.  
  • Finance services provider WalletHub found that Illinois has the ninth highest tax burden in the United States, and also found that the average Illinois household pays more in taxes than in any other state. 
  • The Mercatus Center ranks states by fiscal condition using five main factors: cash solvency, budget solvency, long-run solvency, service-level solvency, and and trust fund solvency. Where did Illinois rank overall? In 49th place! Last year, it was ranked 47th, which tells you how bad it is getting in Illinois. Read report for further details here.


  • The Cato Institute has a Freedom In the 50 States Index, which includes both economic and personal freedoms. Where does Illinois rank on this Index? In 44th place! Fiscal, economic, occupational, and lawsuit freedoms are major drags on Illinois' ranking in this Index.
  • The Cato Institute is not the only entity that ranks states. Using data from consulting firm McKinsey, U.S. News has an Overall Best States Ranking. Illinois is ranked 29th, and that is because such features as health care, government, and economy weigh its ranking down.  
  • Another major issue with Illinois' budget is that of unfunded pension liabilities. According to the American Legislative Exchange Council (ALEC), Illinois has the third worst funded ratio of public plans (ALEC, p. 6), which is another way of saying "Illinois has a major issue with funding pensions." Pew Research, which has more a more optimistic view than ALEC, still shows Illinois having major issues (see below). 
    • Illinois' unfunded pension liabilities of $130 billion-plus have gotten so bad that Moody's downgraded Illinois' credit rating from Baa2 to Baa3. Even better, if the Chicago Public Schools (CPS) gets downgraded to B3, it will be one step away from junk bond status in large part due to lavish pensions for CPS employees. 


It should be no surprise that Illinois has the worst credit rating from Moody's amongst the fifty states in this country. Its trend of credit rating downgrading dates back at least since 2009, and does not look like it will get any better. Passing a budget for the first time in three years won't save Illinois, nor will temporary tax freezes or other tax increases. Illinois had to suspend its lottery because its budget in that bad of shape. Without some major pension reform, Illinois could very well be in bad enough shape where the federal government might bail out Illinois. Add Illinois to the list of case studies of what happens when you combine high taxes and unions that have so much power that unfunded pension liabilities that they drive the budget into the ground.

Monday, July 10, 2017

Israel and India: A Match Made in Heaven or a Marriage of Convenience?

Political alliances and diplomatic relationships have a funny way of ebbing and flowing, evolving with the times. The relationship between Israel and India seems to be a good example of that. Last week, Indian Prime Minister Narendra Modi visited the state of Israel. This visit was significant because Modi was the first sitting Prime Minister of India to do so. Part of Modi's visit was to sign $4.3 billion in agreements, thereby bolstering relations between the two countries. You would think that the two countries would have had more solidified relations by now. After all, Israel and India are democratic, non-Muslim majority countries surrounded by authoritarian regimes. They have both experienced rule under the heel of British colonialism. Both are countries marred by terror, and can better understand the other's national security needs.

At the same time, we have to remember that India has not always gotten along with Israel. Far from it. India was the first non-Muslim majority country to recognize Palestine back in the 1980s. India did not even have any formal diplomatic relations with Israel until 1992, which is 42 years after recognizing Israel. Part of it is that India could be sensitive about colonialism, even the appearance of it (let's remember that Palestine is not "occupied" or there is not apartheid in Palestine, which is why I say "appearance of it"). I think that the major drive behind past bilateral relations is the fact that India has a substantial Muslim population. Latest Indian Census data has Muslims as 14.7 percent of the population, or about 172 million people. In more recent times, India's left-of-center Congress Party limited diplomatic relations with Israel from 2004 to 2014. Fortunately for India and Israel, if Modi's latest visit reminds us of anything, it's that bilateral relations are in a much more positive direction (see India's Ministry of External Affairs brief here).

The first positive aspect is that of defense. India is Israel's biggest arms market. In April, India signed a $2 billion contract with Israel to provide India with missile defense and cyber-technology. Considering that Israel only received $599 million last year in defense contracts, this tripling of defense contract payments represents a trend in Israel providing more defense services and expertise to India as India guards its border with Pakistan.  For more on the history of Indio-Israeli military relations, click here or here.

Second is that of trade. Looking at UN Comtrade data (India Department of Commerce estimates below), trade flows between Israel and India plateaued in 2013. However, there are ways that Indio-Israeli trade relations can improve. Israel has expertise in  defense, technology, and agriculture and water preservation. India has, amongst other assets, a large manufacturing presence and considerable human capital. These countries can develop collaborative projects on agriculture and water technologies. As many as 12 strategic pacts amongst Israeli and Indian CEOs were made as a result of this trip, which would amount of $4.3 billion in business. Tourism has also grown recently. If the two nations can keep to its goal of increasing bilateral trade by 25 percent over the next four years, we should expect to see trade flows between them rise significantly in upcoming years.



Third is that of ideology. Modi and Netanyahu have similar ideologies with free-market capitalism, nationalism, and religious conservatism shaping cultural norms. Being ideologically on the same page will make it easier for bilateral relations to improve, especially given their history. The evolving bromance between Modi and Netanyahu will help developing soft power between the two nations.

Speaking of which, this moment shows Israel's improved diplomatic relations (see more here). Modi broke away from the country's history, and while imperfect, has been able to increase bilateral agreements since his regime. Netanyahu has been able to break away from diplomatic isolation and diversify its relations, which is important because a) certain prominent European elements are becoming more antagonistic to Israel due to increased support to Palestine and the BDS movement, and b) non-Western powers are gaining clout in an increasingly multilateral world. We have seen India be less antagonistic towards Israel, particularly when changing its stance in the United Nations. Normally, India would vote against Israel in various UN Resolutions, but it has lately abstained to better maintain a relationship with Israel while not upsetting Palestine. Having this soft power and developing goodwill will not just minimize antagonism towards Israel, but show the greater world that Israel is a positive force in the world that has and will continue to contribute to the betterment of mankind.

The question that lingers is whether this is a new beginning for Indio-Israeli relations. The outcome remains to be seen. There are some factors limiting the potential for success. One is that India has strong ties to Iran, which remains problematic since Israel's main enemy is Iran. Another has to do with militaristic strategy. While Israel is a help to India's defense system, Israel and India don't have an explicit common enemy, which makes it more difficult to ally. Also, Israel has developed stronger ties to China, which presents a problem since China and India aren't exactly getting along these days.

The other big impediment is India's stance of attempting to keep both Israel and Palestine content, especially in light of India's large Muslim population. I understand India's pragmatism in trying to placate both sides to maximize its position in the region. However, as India develops rapport with Israel, it will prove increasingly difficult. Case in point, Palestine was not thrilled with Modi's visit to Israel. Although Modi did receive Mahmoud Abbas in India back in May, Modi opted not to visit Abbas during his trip. More to the point, Modi did not chide Netanyahu about Palestine or mention negotiations for a two-state solution.

Even with these obstacles, I see great potential for Israel and India to grow. Arab countries are losing clout due to decreased influence of oil. Also, Sunni countries are trading more with Israel to counter Iran and other Islamist threats, which means India will gain less backlash from the international community when it improves Indio-Israeli relations. If these two countries want to solidify relations on a more long-term basis, they need to collaborate and develop as much trade interdependence as possible. That way, if there is a significant regime change in either country, it will be more difficult for India to backtrack to its former antagonism towards Israel. If the Modi and Netanyahu regimes continue to foster relations and deepen ties, what I would guess is that these bilateral relations will transcend a marriage of convenience and one in which the two nations can become great allies.


Thursday, July 6, 2017

Fear-Mongering About Thousands Dying From Obamacare Repeal Is Unfounded

It doesn't matter who is in the White House. What I do know is that there is no shortage of political grandstanding, much like we see with the current health care debate. A couple of weeks ago, Senator Elizabeth Warren (MA-D) was on the warpath about the repeal of the Affordable Care Act (ACA), saying that a repeal of Obamacare means that "people will die." This idea is based on findings from Congressional Budget Office (CBO) reports on the various renditions of Obamacare repeal. The most recent version, the Senate's version, illustrates that 22 million less people will have coverage (CBO, 2017, p. 4). Left-leaning think-tank Center for American Progress finds that nearly 28,000 people could die in 2026 from such a repeal. The Washington Post puts the estimate at an even-higher 42,000 people. Warren, along with CAP and the Washington Post, believes that this loss in coverage will translate into loss of life. How much basis does such a claim have?
  • First, I have to wonder if Warren bothered to ask herself why the loss in coverage would occur. Under the ACA, the individual mandate required people to either to purchase health insurance or pay a fine. What does the individual mandate have to do with coverage loss? The CBO report that says 22 million less people will have coverage also points out that most of the loss in coverage would be due to the removal of the individual mandate, and people voluntarily choosing to drop their coverage (CBO, 2017, p. 4).  Since these people would willingly make the choice to leave the exchanges, it makes little sense to think of repeal as "killing."
    • I also have to wonder if the CBO's assumption about the power of the individual mandate, and not just because of the CBO's history of overestimating ACA enrollment numbers (see below). The individual mandate penalty was small enough where Jonathan Gruber, the "Obamacare architect," did not find it was impactful at getting people to sign up for health insurance (Gruber et al., 2016).


  • As Charles Blahous brings up in his wonderful analysis on the topic, the ACA is a drag on economic growth (CBO, 2016, p. 20). If there is less economic growth, the nation is collectively poorer. The CBO found that the ACA caused a 1.9 percent decrease in full-time equivalent hours worked (CBO, 2016, p. 18). Since lower income correlates with lower life expectancy (Chetty et al., 2016) and unemployment correlates with health issues, this would mean that the ACA is more likely causing lives to be shorter than longer. Speaking of which.....
  • If repealing the ACA is so awful, then the inverse of the ACA being wonderful for mortality should also be true. This would mean that if a lack of health insurance were killing people, a reduction in the mortality rate would be the optimal metric to show the ACA's success. 
    • Looking at the results from the CDC's WONDER database (see below), we see that the age-adjusted mortality rate has been on a steady decline. What do we see in 2015, which the first year after the major effects of the ACA take effect? The mortality rate increases for the first time this century, not to mention a drop in life expectancy. I understand that looking at one year of data does not constitute a trend, and I also know that other factors drove up the mortality rate (e.g., diabetes, opioid epidemic). But if the ACA were really this wonderful, much-needed overhaul to the health care system, I would have expected a greater decline in the mortality rate or at least a more modest decrease. But we don't even get that. We get more death. We can see what 2016 looked like when the CDC releases the 2016 data, but in the meantime, we work with what we have.
Source: CDC
  • The aforementioned figures from CAP and the Washington Post come from a well-respected study based on the health reform experiment in Massachusetts. However, that same study was clear in explicitly stating "Massachusetts results may not generalize to other states," which the authors acknowledge is most probably due to factors specific to Massachusetts (p. 591). Another study minimized the Massachusetts studying showing that the health care reforms really didn't do all that much to minimize the mortality rate (Kaestner, 2015).
  • The Massachusetts study measures the impact of private insurance. This is significant because, as this Manhattan Institute briefing points out, much of the increase in enrollment since the enactment of the ACA was due to Medicaid. There have been multiple studies on Medicaid effectiveness, but the gold-standard, randomized Oregon Medicaid experiment shows that Medicaid has not had any real effects on physical health (Baicker et al., 2013; also see Courtemanche et al., 2017 for effects of Medicaid). With the effects of Medicaid and how the ACA has disproportionately increased Medicaid enrollment, it is difficult to believe that the ACA is improving physical health quality. Plus, here is this little beaut showing that health care access is not a major detriment for the life expectancy for low-income individuals (Chetty et al., 2016).

So no, Obamacare repeal is not going to kill thousands upon thousands of people. This is more political rhetoric to keep people scared. Plus, equating those who want Obamacare repeal with murderers is as divisive as it is disingenuous.  I haven't been a fan of Obamacare replacement bills (see here and here), but I am even less of a fan of manipulating fears to score political points. No one has a monopoly on compassion, certainly not Senator Warren. I hope we can have a debate on the merits of health care reform instead of ensuing in mudslinging just because you can't withstand having your ideas or policies criticized.

Monday, July 3, 2017

Seattle and Denmark: More Proof of Minimum Wage's Harm to Low-Wage Workers

The minimum wage battle continues. In June, three newsworthy studies on the minimum wage were released, which is quite a bit in such a short time. One of the reports was on minimum wage in Denmark, and the other two were on the effects of minimum wage in Seattle. We'll get back to the Denmark report, but the Seattle reports merit background information. In 2014, the City of Seattle was the first city to pass a bill to raise the minimum wage to $15/hour. Beforehand, the minimum wage was $9.47/hr. It was raised to $11/hr in 2015, to $13/hr in 2016, and reached $15/hour as of January 1, 2017.

To show the effects of Seattle's minimum wage hike, its City Council hired economists from the University of Washington (UW) to conduct the study (Jardim et al., 2017). It's not as if University of Washington is some second-rate school. US News ranks its graduate-level economics program 35th in the country, which is not terrible by any means. It's a reputable institution, but yet is was still a problem, a problem which had nothing to do with the institution's reputation.

City Council member Kshama Sawant, who is a Socialist politician, did not like the results of the initial draft of the study. Sawant claimed the research methodology was flawed, although renowned economist David Autor found the UW study to be "very credible." The last thing a politician needs is a failed newsworthy policy months before municipal elections. Ideology and election season help explain why Sawant decided to contact Michael Reich, an anti-capitalist professor at the University of Berkeley. Fox News obtained emails between Reich and the City Council to schedule the release of the Berkeley paper (Reich et al., 2017) before the UW paper in attempts to discredit the UW paper.   (Side Note: The Albany-Union Times also found that the Berkeley research team has coordinated with minimum wage advocates to create supportive reports, so it's not just a Fox News conspiracy).

Yes, it is true that UW had some conflicts with the City Council beforehand, but this is still an example of selection bias. The City Council did not like the results they wanted to hear, so they sought out a Left-leaning, anti-capitalist economist at the University of Berkeley to get the desired results. What was so upsetting about the UW minimum wage findings? And how does the Denmark minimum wage report relate to the Seattle incident?

Before delving into the studies and their findings, I want to add this caveat: Given the nature of minimum wage, there are going to be more methodological issues than other public policy studies. Why? Because economists are trying to figure out how the minimum wage interacts with the greater economy. Much like I explained with Kansas' tax cuts last month, there are multiple factors in play, including taxes, regulations, economic performance of surrounding areas, industrial composition of a given city, the list goes on. As we'll see shortly, we'll find shortcomings for these studies. That does not, however, mean we cannot draw meaningful conclusions from the findings.

University of Washington Findings
The UW study was not flattering because it had a number of findings that were flattering for minimum wage proponents, including:
  • The second wage increase to $13 reduced hours worked in low-wage jobs by 9 percent.
  • Although the hourly wage increased by 3 percent, overall wages decreased by $125 per month for low-wage workers, which would mean a $1,500 per annum pay cut per person, or a $120 million loss for the City of Seattle (not huge, but also still worth noting with a city that has a $231 billion economy).
  • A loss of 3.5 million hours worked per calendar quarter, which is an annual total of 14 million hours lost. 
  • Low-wage jobs declined by 6.8 percent, which means a loss of 5,000 jobs. 
  • Low-wage labor demand has an elasticity of -3.0 (p. 35), which is the economic way of saying "low-wage labor is easily replaceable."
If I were for an advocate for minimum wage, I would want to discredit this study to no avail, much like the Left-leaning Center for American Progress (CAP) and Economic Policy Institute (EPI) attempted (see criticism of EPI's criticism here), which is even more hilarious considering that one of the economists on the UW research team is a former EPI employee. The most valid and prominent complaint the Left-leaning think tanks had was that it excluded many multi-site firms, which removes 48 percent of low-wage earners. At first glance, this comes off as a huge misstep on UW's part. Fortunately for UW, they covered the reason for this omission (p. 14). Not only that, the omission does not negate the findings, or at least the magnitude of the findings, since multi-site firms were more likely to plan and implement staff reduction as a result of the minimum wage (p. 15). The only way that way the exclusion of multi-site firms would negate the results is if they massively expanded operations, which again, is implausible given the reported staff reductions. CAP also brings up that Seattle's tech boom is causing the increase of its higher-wage jobs, which means the adverse results of the minimum wage hike are overstated. This would be backwards because if Seattle's economy is growing faster than expected, imagine what we we would see if the economy were not booming, much like during the Great Recession.

I do, however, find merit with CAP's critique that the UW study is just one study that covers one city. It does not automatically denounce minimum wage increases. It could simply apply to Seattle in general or Seattle in this specific time period. I would say there is enough academic literature to support the idea that the UW study findings can be broadly applicable, but I think there is an even more important point that gives the UW study more weight than past minimum wage studies. This study was unique in that it was able to do something past studies were not able to do: permit the direct observation of hourly wages (Jardim et al., p. 34). Previous studies used proxies to get at that data on hours and wages. Thus, the study allows for more direct and precise measurement of the effects of minimum wage that past studies did not have.

While it is just one study on one city that does come with methodological flaws (because honestly, what study doesn't have methodological flaws?), it still carries with it a good amount of credence in terms of showing the effects that minimum wage hikes can have on an economy because it is conducted by an apolitical group and is done so with superior data.

UC-Berkeley Study on Seattle
The UC-Berkeley study shows the opposite results of the UW study, which is that minimum wage hikes have no real effect on employment or hours worked for low-wage workers. I am already skeptical of the UC-Berkeley study based on the politicizing that went into making the study a possibility. The study suffers from more flaws than the political, the major one being that it only looks at the restaurant industry. It is hypocritical for Reich to criticize the UW study for omitting 48 percent of low-wage workers while Reich himself omits 70 percent of low-wage workers in his own study by analyzing restaurants only.

But the Left could argue that looking at the restaurant industry has been standard in conducting minimum wage research. That standard came from the Card-Kruger study in 1994, which has been since scrutinized (see here, here, and here). Interestingly enough, when the UW economists looked at the restaurant industry by itself, it came to similar conclusions that Card-Kruger came to in 1994 and that Reich came to in his Seattle study, which is that there are little net effects in the restaurant industry (Jardim et al., 2017, p. 35).

The UC-Berkeley study is inferior for two reasons besides the political contentiousness surrounding its creation. One is that Berkeley uses data from the food industry only, which represents a fraction of low-wage workers in Seattle. Much of past minimum wage literature suffers from only looking at one industry or looking at one demographic (e.g., teenagers), which makes it tenuous. The second, as previously mentioned, is that the UW-research team had detailed work hours data that the UC-Berkeley team did not have. The Berkeley study is nothing more than a political ploy to allow Seattle politicians give themselves a pat on the back before their re-elections.

Denmark Minimum Wage Study
In early June, The Centre for Economic Policy Research released a study (Kreiner et al., 2017) on Denmark's minimum wage, specifically with regards to youth minimum wage. Denmark has a peculiar minimum wage law in which the minimum wage increases for a Dane by 40 percent when they reach their eighteenth birthday. What happens in this case? Unemployment for this age demographic drops, and it takes two years before the age-specific employment rate is recovered (see below). What is even eerier about these findings is that it takes college and apprenticeships into account (p. 18), which is to say the drop in employment is pretty much due to the minimum wage hike (p. 3). Much like with the UW study, CEPR had similarly granular data to come to its conclusions. This study is also significant because it shows a) the negative effects of a sudden increase in minimum wage, and b) the minimum wage disproportionately affects youth [because they have less skills and experience] (p. 1).



Postscript
The Denmark study might focus on youth employment, but the connection between the Seattle and Denmark cases studies is the following. When you raise the minimum wage modestly, you'll have modest impact on the economy. When you raise the minimum wage more drastically, the effects will be more drastic. For those who are fiscally conservative, this comes as no shock. As conventional economics teaches, when the cost of a good, input or service is increased (e.g., carbon tax), the consumer (or employer) wants to consume less. The same goes with the minimum wage: when you increase the cost of labor, the employer hires less workers (or alternatively, increases product price on consumers, reduces workers' benefits, or reduces hours worked).

What is worrisome about the Seattle study is that the UW researchers did not even measure the impact of the full hike yet because the hike to $15 only took place this past January, so we do not even know the extent of the economic damage the hike will cause. By raising the minimum wage from $9.47 to $13 (or 37 percent) in a matter of a couple of years, we already see the economic impact. It is no surprise that a significant increase in minimum wage significantly hurts the very people minimum wage laws were meant to help. While neither Seattle study has been peer-reviewed, it is clear that the results will have implications for the minimum wage debate across the country. If I had to take an educated guess, things just got a lot more difficult for minimum wage advocates, especially in light of the more detailed wage and hour data that was available in the UW study that has not been available in past minimum wage research. At the very least, this should put the kibosh on the "Fight for $15" advocates, and at the most, this should be the beginning of minimum wage advocates to re-examine the magnitude of the negative impacts that minimum wage laws generate.