9. Detrended GDP per Person 16‐64 1959‐I to
2009‐I
110
Period Average = 100
105
100
95
* Quarterly trend growth: 0.45%
90
1959-I 1965-I 1971-I 1977-I 1983-I 1989-I 1995-I 2001-I 2007-I
9
10. Now There Is Hard Theory
• Given productivity, population, and taxes:
– Predicted and actual paths of the aggregate
variables coincide
– All using dynamic economic theory to
construct models consistent with national
account and other data find same thing
– We find monetary policy had little
consequence
10
11. Contractions: Detrended GDP
per Person 16‐64 1959‐I to 2009‐I
110
Period Average = 100
105
100
95
* Quarterly trend growth: 0.45%
90
1959-I 1965-I 1971-I 1977-I 1983-I 1989-I 1995-I 2001-I 2007-I
11
12. Contractions
• Biggest contraction was 11.2% from 1978‐IV to
1982‐IV
– First two years of it, money was loose– low
real interest rate
– Last two years and beyond, money was tight
• The contraction beginning in 1999‐IV was
bigger than figure indicates because
– There was a huge amount of unmeasured
investment in the second half of the 1990s
12
13. Expansions
• Big expansion of early 1960s was technology
driven
• The 1995‐2000 expansion was technology driven
– And in fact was significantly bigger and
longer than standard statistics indicate
– Reason: Huge unmeasured intangible
investment (R&D, launching new products)
• The second biggest and the longest expansion
was in the 1980s and was due to cuts in
marginal tax rates
13
14. Expansions: Detrended GDP
per Person 16‐64 1959‐I to 2009‐I
110
Period Average = 100
105
100
95
* Quarterly trend growth: 0.45%
90
1959-I 1965-I 1971-I 1977-I 1983-I 1989-I 1995-I 2001-I 2007-I
14
15. What Depressed the U.S. Economy in
2008‐IV and 2009‐I?
• Fed did what it should given the situation
– Big increase in reserves
• Fed is not the cause of the recent drop in
U.S. GDP (4.0% trend corrected and probably
another 1.0% this quarter)
• Not the financial crisis
• Not lack of borrowing
15
16. Liabilities of Households and of
their Nonfinancial Businesses
End 2007 End 2008
Total Liabilities
(billions $) 31,875 32,341
Composition Share
Mortgages 44.9% 44.4%
Other Loans 18.0% 18.5%
Corporate Bonds 11.2% 12.0%
Security credit 1.0% 0.5%
Trade payable 8.2% 8.5%
Other 16.8% 16.1%
16
17. Then What Depressed the U.S. Economy in
2008‐IV and 2009‐I‐II?
• Fact: Investment became depressed
• There are 25 million small businesses in the
U.S. – 5 million of them have employees
• Their owners feared higher tax rates
– Rationally cut investment
– Rationally cut employment
– Took more cash out of business
• Workers fearing job loss rationally cut auto
buying
17
19. What Happened after Financial Crises?
Sometimes bad things
and
Sometimes good things
Numbers are trend corrected so flat line is
growing at trend
19
20. Experiences Very Different
GDP per Capita Detrended at 2% 1992 = 100
140
Finland
120
100
80
Japan
Source: GGDC (PPP-EKS)
60
1990 1994 1998 2002 2006
20
21. GDP per Capita Detrended at 2% 1980 = 100
140
Chile
120
100
Mexico
80
Source: GGDC (GK-PPP)
60
1980 1984 1988 1992 1996 2000 2004
21
23. Evidence that High Marginal Tax Rates
Depress an Economy
• This uses the simple methodology developed in
my American Economic Association 2002 Ely
Lecture
• Factors other than the marginal tax rate
matter
• Also errors in measuring hours worked
23
24. Predicted vs. Actual Weekly Hours
predicted
30.0
Japan
28.0 Australia
New Zeland Iceland
26.0
Ireland
Portugal Romania
Spain
24.0 U.S.
U.K.
22.0 Canada
20.0 France Germany Denmark
Italy
18.0
16.0
16.0 18.0 20.0 22.0 24.0 26.0 28.0 30.0
actual 24
25. Effective Measures Against the
Depression in U.S. Economy
• Cut marginal tax rates
• Become more open
• Follow pro‐productivity policies
25
26. Openness and Spain’s GDP Per Capita
Relative to U.S.
Moderately Integrated Before 1930 42%
Little Integrated 1940‐54 22%
Moderately Integrated 1965 36%
Becomes EU Member 1981 49%
Highly Integrated 2007 61%
26
29. Why Japan’s Lost a Decade of Growth?
• Some blamed China
• Others blamed the Bank of Japan
• Still others blamed fiscal policy
– Said Japan needed even bigger deficits
• Hayashi and Prescott in “Japan’s Lost
Decade of Growth” find the problem was
lack of productivity growth!
29
30. Why Low Productivity Growth?
• Hayashi and I conjectured: banks subsidizing
inefficiencies
– Loans were being made to pay interest on
existing loans
– Banks’ liabilities exceeded assets
• Subsidizing inefficient businesses deters
productivity growth
30
31. Japan’s Reaction
• Cabinet Research Office invited me to talk in
2002
• Signaled Prime Minister Koizumi was buying
into the productivity story
• Takenaka, new head of Financial Services,
instituted banking reforms
31
32. Banking Reforms
• Wrote off bad loans
• Refinanced insolvent banks
• Required honest accounting when meeting
capital requirements
32
33. What Happened After Reforms
• Productivity growth rebounded
– No helicopter drops of money
– No big increases in spending
– No Chinese collapse
• Reason for rebound
– Making the banking system sound again
33
34. Detrended GDP per Capita
110
US
100
90
Japan
80
70
EU - 15
60
1991 1993 1995 1997 1999 2001 2003 2005
34
Source: GGDC
38. Financial Intermediation Serves No
Purpose
• Financial intermediation is when a limited
liability business borrows from one group and
lends to another, and is highly leveraged
• It is just gambling on a grand scale
• When financial intermediaries get big, the
taxpayers bail them out when they fail
• As a taxpayer, I don’t like bailing out
Goldman Sachs, AIG, and Deutsche Bank
38
40. What Other Ways?
• Use more equity
• Use more mutual lending
– Mutual insurance companies
– Venture capital group
– REITS
– Mutual pension funds
– Hedge funds that do not borrow
• With this reform, all commercial bank lending
to government
40
42. • European hours per working‐age person 70% of
other advanced industrial countries
• Why? Their marginal effective tax rate is 60%
versus 40% elsewhere
• In early 1970s tax rate was 40% and they
worked the same amount
• Danger: U.S. will increase its tax rate
42
45. Welfare
• Because of taxes, the value of time on
margin is twice as high as in the
market sector as outside market sector
• Nonmarket time is valuable
• Welfare gains lifetime consumption
equivalents per year are …
45
47. What Matters Are Real Factors
• Tax RATES – low rates good
• Openness – more is better
• Productivity – higher is better
• Problem is not lack of borrowing
• Some banks are refusing deposits in the U.S.
47
48. Poor Prospects for U.S.
Productivity Growth: Why?
• Recent abandonment of cost‐benefit analysis
for evaluation of new regulations
• Government ownership of auto and banks
• Congress and the White House management of
businesses
48
50. I Expect Not
• Things were going well for the U.S. economy
until the fourth quarter of 2008 – rapid
productivity growth
• Economic knowledge has advanced so much that
it will effectively constrain the
policymakers
• But, I fear a lost decade of growth for the
U.S. because of tax rate increases and low
productivity growth
50