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    The Two Sides of ZIRP

    Aug 23 • Economic Debates, Money and Monetary Policy • 462 Views

    Hearing economists discuss the Fed’s zero-interest-rate policy, Harry Truman would again search for a one-handed economist.

    On the one hand…if you can borrow money cheaply, you are more likely to expand your business and buy a house or a car. Especially during a recession, low interest rates can encourage business expansion and consumer loans. As a source of economic stimulus, many believe that zirp is desirable.

    On the other hand…households and businesses that have income based on interest rates are suffering. Historically, savers have been able to earn an average of 3 percent. Now, they receive close to 0% when they invest in such financial instruments as short term treasury securities, The problem? If we look at what they could have earned, savers have lost a total of $350 billion annually–350 billion that would have been saved or spent.

    For countries also, there are two sides. According to the Bank for International Settlements (BIS), countries with zirp, such as the U.S., can borrow money very cheaply. Also though, other nations such as Australia that pay higher interest rates, can lure investors away from lower yielding securities elsewhere.

    The Economic Lesson

    The interest rate is the price of money. When an economy experiences rapidly rising prices, central banks usually increase the price of money to constrain spending. Recession, by contrast, requires a lower price of money (interest rate) in order to stimulate business and consumerr spending. 

    The Federal Reserve has three traditional tools to affect interest rates in the U.S. 1) It can change the amount of money that banks have to keep in reserve. 2) It can change the interest rate that it charges banks when they borrow the Fed’s money. 3) It can enable banks to have less to lend by selling them securities or more money to lend by buying securities from banks.

    During the recent recession, the Federal Reserve expanded the contents of its monetary policy “toolbox”.

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    Apples, Oranges, and Government Pay

    Aug 22 • Government, Labor, Thinking Economically • 383 Views

    Hearing that federal employees earn more than people working in the private sector, how should we respond? Let’s look at the facts.

    Assessing someone’s earnings involves salaries and benefits.  According to the BEA (Bureau of Economic Analysis) at $81,258, the average federal worker earns 60% more than someone in the private sector. Looking at benefits, the gap grows larger with federal workers getting $41,791 and private workers at $10,589. Combining salaries and benefits, we have federal workers with total average compensation of $123,049 compared to privately employed workers at $61,051.

    We can also look at raises and inflation. Between 2000 and 2009, the average federal worker’s salary increased by 33% more than inflation. Including benefits which primarily refer to pensions for federal employees, average compensation, adjusted for inflation, is up 36.9%. By contrast, privately employed workers are receiving 8.8% more.

    Looking at salary data, Democrats and Republicans disagree about whether we are comparing “apples to oranges” or “apples to apples”. Saying “apples to oranges”, people who believe that the federal pay scale is appropriate emphasize that many federal jobs require a more highly skilled worker. Those who disagree say we are comparing similar issues, especially when focusing on yearly salary increases where percent increases can be compared.

    The Economic Lesson

    Having looked at the public/private sector pay gap and the debate that surrounds it,  as economists, we should return to cost and benefit. To consider why there is a public/private sector pay gap, we can identify the opportunity cost experienced by private businesses and the federal government.

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    Preventing a ‘Flash Crash’

    Aug 21 • Businesses, International Trade and Finance, Regulation • 439 Views

    Do you remember the ‘flash crash‘? On Thursday, May 6, for close to 20 minutes, markets everywhere wildly fluctuated.  It began at 2:23 when certain stock prices started moving oddly. With Apple trading at approximately $250 a share, at 2:44, the stock plunged $23 while at another moment one share was selling for $100,000. At 2:47, Accenture PLC shares dove to 1 cent from $40 a share. During that day, the Dow Jones Industrial Average opened at 10,862, dropped to 9869.62, and then closed at 10,520. Some say it felt like a roller coaster.

    Financial markets are not supposed to feel like roller coasters. Instead, at the NY Stock Exchange, for example, different “specialists” oversee the buying and selling of different firms’ stocks. Historically, the specialists’ job was to maintain an “orderly market” by buying or selling the stocks themselves when price was not gradually moving up or down. So, if everyone wanted to sell a stock and there was no one to buy it, the specialist (in theory) stepped in to buy it temporarily so that price could change smoothly. 

    Now though, with computerized trading, worldwide markets selling the same companies’ stocks and bonds, and a group of firms called “quants‘ that speed trade based on complex computer models, it appears to be impossible for one group to maintain an orderly market. Yes, much of the time, markets tend toward rational ups and downs. However, during the ‘flash crash’, they did not.

    The Economic Lesson

    Why should we care?

    Accenture says it all. If one stock, for no apparent reason, can drop from $40 to 1 cent in seconds, then investors will be less willing to allocate their savings to stocks. However, our market economy needs dependable financial markets for savers and businesses. We need to invest in order to save for college, for retirement, for emergencies. Correspondingly, businesses need investors’ money as start-ups, when they expand, and for everyday operations.

    Knowing that the continued possibility of a ‘flash crash’ diminishes investor confidence, a final report from the SEC and Commodities Futures Trading Commission should be completed during the next several months.

    Please note that for Accenture PLC and other firms that experienced an erratic stock fluctation on May 6, those trades were canceled.


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    The World’s Biggest Economies

    Aug 20 • Developing Economies, International Trade and Finance, Macroeconomic Measurement • 339 Views

    The Chinese leader Deng Xiaoping said, “It doesn’t matter what color a cat is as long as it catches mice.” Explained in the Teaching Company’s “Why Economies Rise or Fall,” Deng cared about results more than economic ideology as he propelled the Chinese economy toward capitalism.

    Through Deng’s leadership, China allowed farmers to keep and sell excess crops, productivity swiftly rose, and agricultural markets evolved. Then, as infrastructure emerged to connect these markets with factories, and education and technology developed, “Made in China” became a household term in the U.S. Throw in currency control, low wages, and you get a country whose economy is now #2 in the world.

    Ranked by GDP, the U.S is #1 (close to $15 trillion), China is #2 (close to $5 trillion), and Japan is #3 (close to $5 trillion but less than China). Completing a list of the top 10, then we have Germany, France, the U.K., Italy, Brazil, Canada, and Russia.

    If China continues to grow at a 10% rate while the U.S. growth rate remains close to 3%, then China will be #1 in 2 to 3 decades. However, the Chinese per capita GDP and average standard of living will still be far behind most of the world’s largest economies.

    The Economic Lesson

    It can be tough to compare economies. Even if GDP comparisons use the same components (consumer spending, business investment, government spending, and exports minus imports), still we have to remember that purchasing power differs. Also, we can use per capita (per person) comparisons and other indiviudal standard of living yardsticks.

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    Unopened Stimulus Packages

    Aug 19 • Economic History, Economic Thinkers, Government • 327 Views

    Economists recently have been debating whether the $787 billion 2009 stimulus package has helped the economy. Perhaps first they should ask what has been spent.

    For a variety of reasons, recipients of stimulus money are not spending it. Dollars destined for energy efficiency in Detroit have barely been used.  Worried that next year they might not be able to afford teachers hired with stimulus money, school districts in NJ, Texas, NYC, and CA have said that they are not spending it. Other places have just not figured out what to do with their money.

    Responding to criticism about slow spending, the Obama Admnistration points out that the stimulus package had 3 sections. They say that: 1) $360 billion in tax breaks and other help for businesses and individuals has been paid out. 2) The $296 billion that targeted unemployment assistance, food stamps, and other aid programs has mostly been spent. 3) $170 billion meant for infrastructure projects has not been spent while $66 billion has.

    You might want to look at the Obama administration’s stimulus website to identify local projects. Have you seen any spending near your home?

    The Economic Lesson

    Fiscal policy includes government spending, taxing, and borrowing. During the 1930s Great Depression, President Roosevelt and the Congress used fiscal policy to try to stimulate economic growth and to create jobs through the TVA and other government funded projects.



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