Home > Uncategorized > Resolutions to improve debates on economic policy in 2019

Resolutions to improve debates on economic policy in 2019

from Dean Baker

Okay, it’s that time of year when we are all supposed to commit ourselves to performing nearly impossible tasks over the next twelve months. I will play the game. Here is the list of areas where I will try to bring economics into economic policy debates in 2019.

1) Patent and copyright monopolies are government policies:

This one is pretty simple, but that doesn’t mean it is easy. It should be pretty obvious that these and other forms of intellectual property are government policies explicitly designed to promote innovation and creative work. We can (and have) make them stronger and longer, or alternatively make them shorter and weaker, or not have them at all. We can also substitute other mechanisms for financing innovation and creative work, including expanding those already exist. (Anyone hear of the National Institutes of Health?)

Incredibly, most policy debates, especially those on inequality, treat these monopolies as though they were just given to us by the gods. It is endlessly repeated that technology has allowed people like Bill Gates to get incredibly rich, while leaving less-educated workers behind. But that’s not true. It is our rules on patents and copyrights that have allowed people to get enormously wealthy from technological developments. With a different set of rules, Bill Gates would still be working for a living. 

There are a few pieces on the topic herehere, and here (chapter 5).

2) Patent and copyright rents are equivalent to interest payments on government debt:

This is a point that directly follows from the recognition that patent and copyright monopolies are government policies. We can think of granting these monopolies as alternatives to direct government spending.

This is clearest in the case of prescription drugs. Currently the federal government spends roughly $40 billion a year to finance biomedical research through NIH and other government agencies. Suppose it instead spent $100 billion, largely displacing the private pharmaceutical industry. This money would support not only the development and testing of new drugs, but bringing them through the FDA approval process. Then almost new drugs could be sold at generic prices, which would generally be less than one-tenth the price of a patent protected drug.

In this scenario we would all recognize the $60 billion in additional research spending as an addition to the debt which would lead to interest payments in future years. But we treat the patent rents that the drug industry receives (currently around $360 billion a year or 1.8 percent of GDP) as somehow being free to the country.

Well, fans of economics should see the drain from $360 billion in patent rents to the drug industry as being equivalent to the drain from an additional tax burden of $360 billion. After all, it really doesn’t matter to most people whether the government has a tax on drugs that comes to $360 billion annually or the industry can use its patent monopolies to raise prices by this amount.

For some reason this point never comes up in debates on the budget deficit and debt. That makes zero sense.

3) Austerity has costs

It is now widely accepted among economists that governments around the world were overly concerned about budget deficits following the Great Recession. The United States, the euro zone, and the United Kingdom all turned towards deficit reduction in 2011, following an initial period of stimulus. This turn to austerity slowed growth and needlessly kept millions of people from having jobs. It also contributed to an upward redistribution of income, especially in the United States, as high unemployment reduced workers bargaining power and prevented them from securing real wage gains.

Not only did austerity have a large short-term effect, it also had a substantial long-term effect. One result of millions of people being unemployed for long periods of time is that some number will become unemployable, as they no longer have the necessary skills to get work or develop problems with alcoholism and other issues. The children of unemployed workers also tend to do less well in school. And, lower levels of output will lead to less public and private investment, which means the economy will be less productive in the future.

The lasting impact of unnecessary austerity can easily be several percentage points of GDP. While this loss is huge compared to the impact of other policies, for some reason the perpetrators of the policy of unnecessary austerity are never held accountable in public debates.

The best comparison here is the treatment of proponents of protectionism. Donald Trump and his followers in pursuing a trade war are routinely derided in both the opinion and news sections for needlessly jeopardizing the health of the economy. Yet, the proponents of austerity back in 2011, which includes pretty much the entire Republican party, along with “fiscal responsibility” groups like those sponsored by Peter Peterson, advocated and implemented policies that were far more damaging to the economy.

The same is true in the United Kingdom, where the austerity imposed by the conservative government beginning in 2011 has done far more damage to the country’s economy than can be expected from an orderly Brexit. Yet, the latter are routinely derided in the media, while the damage done by the former goes largely unnoticed.

I am not an advocate of foolish protectionist policies (although some of the policies associated with “free trade” are in fact protectionist, like longer and stronger patent and copyright protections), but I do like to see serious discussions of economic issues. Tariffs and other trade restrictions generally hurt growth, but needless austerity hurts growth much more. If the people advocating trade restrictions are foolish, then the austerity proponents are really really foolish. It would be great if these issues were reported in a consistent manner.

4) We can have trade in highly paid professional services

One of the standard lines in the story of globalization is that manufacturing workers in rich countries have lost out because hundreds of millions of people in the developing world can do the same work for a fraction of the pay. This is true, but it is also true that there are tens of millions of smart and hardworking people in the developing world who would be prepared to work as doctors, dentists, and in other highly paid professions in the rich countries at a fraction of the pay of the people now in those positions. We structured our trade policy so manufacturing workers have to compete with workers in the developing world and doctors and dentists mostly do not.

This is again a policy choice. We can design trade deals to have clear standards that professionals in the developing world would have to meet to work in their profession in the United States, but having met these standards, they would be able to work in the United States with the same freedom as a native born citizen. The gains from adopting this approach would be enormous (it’s the same argument for gains from trade generally), my calculation is that it would be close to $100 billion a year (0.5 percent of GDP) in the case of foreign trained doctors alone.[1]

Given the power of the lobbies of doctors and other highly paid professionals, we are unlikely to see much progress in trade liberalization in this area any time soon. But, we should at least be clear in telling the story of globalization. Manufacturing and other less-educated workers have been hurt by globalization because we designed it to put them in competition with low paid workers in the developing world. Doctors, dentists, and other highly paid professionals have not been hurt because we decided to leave in place barriers that protect them from such competition.

5) Shareholders have an interest in reducing CEO pay

CEO pay has skyrocketed in the last four decades. Somehow, the conventional story is that shareholders are in cahoots with the CEOs to give them ever larger paychecks. This makes zero sense.

CEO pay is a subtraction from profits in the same way that pay for assembly line workers, retail clerks, or custodians is a subtraction from profits. Shareholders are usually not happy if their retail clerks get higher pay, with no corresponding increase in productivity, compared with clerks in other companies. For the same reason, they should have no desire to see their CEOs get more money than necessary for their performance.

There is overwhelming evidence that CEO pay does not correspond to the return they provide shareholders. I did a short study on this issue with Jessica Schieder at EPI, where we looked at the impact of the limit of the tax deductibility of CEO pay for health insurers, that was part of the Affordable Care Act (ACA). We used a wide variety of specifications and in none of them were we able to find any negative impact on pay. This is in spite of the fact that the ACA unambiguously raised the cost of a dollar of CEO pay to shareholders, which should mean that CEO pay would fall after adjusting for earnings growth, revenue growth, share prices growth, and other factors.

The most plausible reason why CEO pay doesn’t fall is the corruption of the corporate governance structure, with top executives essentially picking the board, which then determines their pay. Unlike the shareholders, the board has little incentive to reduce the pay of their friend the CEO.

Contrary to what is often asserted in the media, shareholders actually have not done well as a group in recent years. After adjusting for inflation, returns have averaged just 4.5 percent annually over the last two decades. This compares to a long period average of more than 7.0 percent. Reducing CEO pay could up this by 0.1-0.2 percentage points.

While stock shares are disproportionately held by the rich, it is better to see money go to shareholders than CEOs. Middle class people hold stock through their 401(k)s, as do pension funds. By contrast, every dollar going to a CEO is going to someone in the top 0.01 percent of the income distribution.

But more important than the distribution between shareholders and CEOs is the impact on the wage structure more generally. We would likely be in a very different world if CEOs were earning $2-$3 million a year instead of $20 to $30 million.

Getting CEO to ordinary worker pay ratios back to the levels of 1960s or 1970s will be a huge battle, but an essential first step is realizing that shareholders are allies in this battle. The story is pretty straightforward arithmetic, which unfortunately means that it will be difficult for economists to understand it.

6) A large financial sector is a drain on the economy

The financial sector plays an important role in a modern economy. It allocates capital from savers to those who wish to borrow. A poorly functioning financial sector is a drag on growth. The same is true of a bloated financial sector.

The financial industry is an intermediate sector, like trucking. This means that it does not directly provide benefits to households, like a housing, health care, or education. For this reason, we should want a financial sector that is as small as possible for carrying through its function, just as we would want the trucking sector to be as small as possible to deliver the goods in a timely manner.

Over the last four decades the narrow financial sector (securities and commodity trading and investment banking) has more than quadrupled as a share of the economy. It would be difficult to argue that capital is being better allocated or that savings are more secure today than 40 years ago.

This means we have little to show for this enormous expansion of the financial sector. It would be comparable to seeing the size of the trucking sector quadruple with nothing to show in the form of faster deliveries or reduced wastage. Finance is of course also the source of many of the highest incomes in the economy.

These facts make for a strong case for measures that reduce the size of the sector, like financial transactions taxes, reduced opportunities for tax gaming, and increased openness in pension fund and endowment contracts. In any case, it is important to recognize that a big financial sector (as in Wall Street) is bad for the economy, not the sort of thing that we should be proud of.

7) Putting numbers in context

Okay, this is not actually economic policy, but rather reporting on economics. It is standard practice for reporters to tell readers that we will spend $70 billion next year on food stamps or $20 billion on Temporary Assistance to Needy Families (TANF), the federal government’s main cash welfare program. Almost no one has any idea what these numbers mean, just that they are very large. The problem is compounded when we get numbers over multiple years, like the $867 billion farm bill, when it is often not even made clear that the spending is over ten years.

This is a serious political problem because when people see really big numbers going to foreign aid, food stamps, TANF, and other categories of social spending, they think this is the bulk of their taxes. In reality, these items are small change in the whole budget. Food stamps are about 1.8 percent of the budget, TANF less than 0.5 percent.

Yes, I know that many people think all their tax money goes to these programs because they are racist and want to believe that all their tax dollars are going to black and brown people who benefit from these programs. But the reality is that many people who are not racist also believe that a grossly disproportionate share of their tax dollars go to social spending of various sorts.

It is difficult to believe that this misperception does not undermine support for these programs. For my part, if I thought that 20 percent of the budget went to TANF I sure as hell would not support the program. If we spent that large a share of the budget on TANF and still had so many people living in or near poverty, it clearly is not a very effective program. Incredibly, the groups that work on these issues in Washington seem completely unconcerned about the reporting on these programs.

The most absurd part of this story is that there is no other side. Everyone in the news business knows that no one has any idea how much money $70 billion for food stamps is or $867 billion over ten years. And, it only takes a few second to add context, like the share of the federal budget or the spending per person or family.

I thought I scored a big victory on this issue when Margaret Sullivan, then the Public Editor of the New York Times, completely endorsed this point in a column. She got the wholehearted agreement of David Leonhardt, who was the paper’s Washington editor at the time. I assumed this meant a change in policy, which given the NYT’s role in the media hierarchy, would soon be followed by other news outlets.

But, nothing changed. We still get really big numbers which are absolutely meaningless to almost everyone who sees or hears them. This can and must change.

Happy 2019?

Okay, so those are my New Year’s resolutions for 2019, I want to change policy debates in these six areas and reporting on budget numbers and other big numbers that are not understandable to the media’s audience. Do I have much chance of succeeding? Well, how many smokers will give up cigarettes? How many people will start exercising and lose 20 pounds? I’ll do my best and we’ll see.

 

[1] We can easily deal with the “brain drain” issue. We know the countries these professionals come from. We can compensate for their loss so that they can train two or three professionals for everyone that comes here. This is the sort of compensation that trade economists always talk about, with the winners making payments to the losers.

  1. EDWARD K ROSS
    January 1, 2019 at 8:26 pm

    reply to Dean Baker I am a mature age pensioner whose life was spent in the real world that included hard physical work where I witnessed people struggling to survive. What really concerns me now is that many people of all ages are now are really struggling to survive.

    From this observation your new year resolutions make sense, not only to me but to the millions of people trying to cope with daily life. HERE I am not advocating the elimination of academic conversation in general. But without a doubt I believe it is time to begin conversations with genuine observations in the real world, before indulging in what amounts to presenting irrelevant hypothesis to booster their prestige.

    Thus in my opinion Helen Sakho’s comment sums up the situation very well with ‘garbage in garbage out’. Therefore let the economists and academics heed Dean Baker’s request to refocus academic conversations to the issues that affect real people in the real world Ted.

  2. January 2, 2019 at 9:04 am

    The stated purposes of the American Economic Association in 1923 were:
    1. The encouragement of economic research, especially the historical and statistical study of the actual conditions of industrial life.
    2. The issue of publications on economic subjects.
    3. The encouragement of perfect freedom of economic discussion. The Association as such will take no partisan attitude, nor will it commit its members to any position on practical economic questions. (1923 incorporation papers.)

    You won’t find these anywhere on the website of the AEA today. Nor will you find the examples of proper economic research from even earlier in the AEA’s history (1896). Which included the betterment of all people in the world and improving economic regulation and laws. And ensuring reasonable equality of opportunity and affluence in the world. Awe, the good old days!

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