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Archive for the ‘growth’ Category

This week the Congressional Budget Office released The Budget and Economic Outlook: 2014-2024. From the press coverage, one would have guessed the report was either entitled Obamacare: the Job Killer that is Almost as Bad as Benghazi or Obamacare: Ending the “Job Lock” and Opening the Door to Leisure. In reality, the impact of the Affordable Care Act was only a small part of the report—largely restricted to the appendix—and arguably the least troublesome.

Here are a few highlights. I will quote from the CBO report, since most of the media coverage will only address the shiny objects connected to the Affordable Care Act (for an exception, see Ron Fournier’s piece in National Journal).

Economic Growth

  • “[T]he economy will grow at a solid pace in 2014 and for the next few years…Beyond 2017, CBO expects that economic growth will diminish to a pace that is well below the average seen over the past several decades. That projected slowdown mainly reflects long-term trends—particularly, slower growth in the labor force because of the aging of the population.” (p. 1)
  • “The unemployment rate is expected to edge down from 5.8 percent in 2017 to 5.5 percent in 2024.” (p. 5)

The Debt

  • “[T]he deficit is projected to decrease again in 2015—to $478 billion, or 2.6 percent of GDP. After that, however, deficits are projected to start rising—both in dollar terms and relative to the size of the economy— because revenues are expected to grow at roughly the same pace as GDP whereas spending is expected to grow more rapidly than GDP.” (p. 1)

The Consequences (p. 18)

  • “The nation’s net interest costs would be very high (after interest rates moved up to more typical levels) and rising.”
  • “National saving would be held down, leading to more borrowing from abroad and less domestic investment, which in turn would decrease income in the United States compared with what it would be otherwise.”
  • “Policymakers’ ability to use tax and spending policies to respond to unexpected challenges—such as economic downturns, natural disasters, or financial crises—would be constrained. As a result, unexpected events could have worse effects on the economy and people’s well-being than they would otherwise.”
  • “The likelihood of a fiscal crisis would be higher. During such a crisis, investors would lose so much confidence in the government’s ability to manage its budget that the government would be unable to borrow funds at affordable interest rates.”

Beyond 2024, things only get worse

  • “Although long-term budget projections are highly uncertain, the aging of the population and rising costs for health care would almost certainly push federal spending up significantly relative to GDP after 2024 if current laws remained in effect. Federal revenues also would continue to increase relative to GDP under cur- rent law, reaching significantly higher percentages of GDP than at any time in the nation’s history—but they would not keep pace with outlays. As a result, public debt would reach roughly 110 percent of GDP by 2038, CBO estimates, about equal to the percentage just after World War II. Such an upward path would ultimately be unsustainable.” (pp. 25-26)

Of course,  the core driver in these projections is the aging of the population.  Policymakers have the ability to reform key policies to reduce the long-term impact of the demographic shift, and the earlier these reforms are introduced, the less dramatic they need to be. But given the endless campaign and the struggle over the news cycle, who can even contemplate serious entitlement and tax reform.  It is far easier to focus on the shiny objects than to acknowledge the core message of the CBO’s report.

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Against Natalism

There seems to be very little disagreement among market-oriented economists that the optimal number of people on the planet is much larger than the number of people currently alive (see here, here, and here for examples). Here are some reasons for skepticism about that claim.

  • The main advantage of more people is a deepening of the market and the division of labor. More people means more ideas and more specialization. But the law of diminishing marginal productivity suggests that each additional unit of labor and of human capital is of less value. Furthermore, in a world of 7 billion people we are going to get roughly as many outlier geniuses as we do in a world of 9, 10, or 15 billion.
  • Along with diminishing marginal benefits of people, there are rising marginal costs. The human footprint on the natural environment increases with population, and intrudes ever more into ever scarcer (and more socially valuable) undisturbed habitats. Some free-market types like Ron Bailey suggest that this is not the case by pointing to the possibility of peak farmland in the near future. But peak farmland is only achievable (if it is) through ever more intensive applications of synthetic fertilizer and pesticide. In one sense this capital-intensive agriculture may be “sustainable,” in the sense that human ingenuity will always find new fertilizers and new pesticides to keep agricultural productivity growing, but the negative externalities of these methods are considerable. The economic costs alone of invasive species are immense: think about the costs associated with the chestnut blight, Dutch elm disease, hemlock woolly adelgid, and emerald ash borer in North America alone. They run into the billions. A lot of people look around and say, “Well, I see a lot of green, so the environment must be doing OK.” But 91% of all land in the United States consists of human-disturbed habitats. Disturbed habitats are not necessarily bad for biodiversity, but undisturbed habitats are also important — and the fewer there are, the more valuable each remaining one is. More people means more disturbance, more invasions, more “dead zones,” and the like. And yes, the costs are not just economic, but aesthetic. I have no shame in admitting that I aesthetically value the environment, that other people do as well, and that those values should matter in any schedule of “social welfare.” Is a world without butterflies a world worth living in?
  • People don’t like being crowded. Part of the reason why people move to suburbs and exurbs is not just high crime and costs in central cities, but distance from other people. Where do people go to “get away”? Generally rural and wilderness areas. The U.S. still has a lot of open space and could perhaps tolerate 50% more population without feeling intolerably dense, but even in this country, much or most of the wilderness is found in areas with little water or harsh climates.
  • More people in a country mean more agency problems with the government. The people find it more difficult to constrain their rulers when their rulers don’t pay attention to individual voices, or even small clusters of people. As a country of over 300 million, the U.S. would face severe agency problems were it not for the federal system — and even so, agency problems are significant. In essence, the rulers are less constrained by the people. Higher populations around the world will mean more prevalent problems with mass democracy and mass dictatorship.
  • More people will mean more infectious disease. It is a basic principle of ecology that a higher population of a species encourages greater parasitism on that species. As human populations have increased, so have human diseases. Epidemics of influenza have become more frequent. These viral infections are difficult to prevent and treat. Of course, as medical technology proceeds, humans will fight better against infectious diseases of all kinds. But organisms adapt, and medical technologies will of necessity focus on life-threatening diseases rather than chronic and periodic diseases that are not life-threatening. But even the common cold significantly decreases human well-being. In a future world much more densely populated, we could expect human beings to spend much of their lives ill with minor diseases.

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I have just posted a couple of my working papers to SSRN for those who are interested. They are as follows:

  1. Public Policy and Quality of Life: An Empirical Analysis of Interstate Migration, 2000-2012
    Abstract:
    Individuals and households choose their political jurisdiction of residence on the basis of expected income differentials and jurisdiction-specific characteristics covered by the general term “amenities.” In addition to fixed characteristics like climate and terrain, amenities may include public policies, as in the well-known Tiebout model of migration. Do Americans reveal preferences for certain public policies by tending to migrate toward jurisdictions that offer them? This article tests whether state government involvement in fiscal policy, business regulation, and civil and personal liberties more often reflects an amenity or a disamenity for Americans willing to move. As identification strategies, the article estimates spatial, matched-neighbors, and dyadic models of net interstate migration for all 50 states, covering the years 2000-2012. The evidence suggests that cost of living, which is in turn strongly correlated with land-use regulation, strongly deters in-migration, while both fiscal and regulatory components of “economic freedom” attract new residents. There is less robust evidence that “personal freedom” attracts residents.
  2. Civil Libertarianism-Communitarianism: A State Policy Ideology Dimension
    Abstract:
    This paper investigates the existence of a second dimension of state policy ideology orthogonal to the traditional left-right dimension: civil libertarianism-communitarianism. It argues that voter attitudes toward nonviolent acts that are sometimes crimes, particularly weapons and drugs offenses, are in part distinct from their liberal or conservative ideologies, and cause systematic variation in states’ policies toward these acts. The hypotheses are tested with a structural equation model of state policies that combines “confirmatory factor analysis” with linear regression. The existence of a second dimension of state policy essentially uncorrelated with left-right ideology and loading onto gun control, marijuana, and other criminal justice policies is confirmed. Moreover, this dimension of policy ideology relates in the expected fashion to urbanization and the strength of ideological libertarianism in the state electorate. The results suggest that the libertarian-communitarian divide represents an enduring dimension of policy-making in the United States.

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Bob Higgs has used the concept of “regime uncertainty” to explain why the Great Depression lasted so long. In brief, the argument is that FDR’s escalatingly anti-capitalist rhetoric in the mid- to late-1930s spooked investors, who were uncertain whether they would be allowed to enjoy the future fruits of their investments. Therefore, investment declined, provoking a slump in 1938 and generally prolonging the Depression.

Some have argued that the prolonged period of high unemployment and anemic growth the United States has experienced in the wake of the 2007-9 “Great Recession” is also due to regime uncertainty. They blame the Obama Administration and Democrats in Congress for fostering a regulatory environment hostile to business.

But if that explanation of poor growth in 2009-10 is right, how can it explain poor growth in 2011-12, after Republicans took the House of Representatives? Under divided government, regime uncertainty is nil. The 2011-12 Congress is on pace to be the least productive since 1947 in terms of passing laws. Libertarians say gridlock is good — well, we definitely have gridlock, so where are all the benefits?

Here’s the evidence:

The chart shows inflation-corrected personal income, excluding transfers from the government. Real personal income today still stands below its level at the start of 2008. If these figures were divided by population, they would look worse still. There has been a very weak recovery.

Why should we not blame House Republicans as much as Democrats and Obama for the bad economy? (more…)

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In my last post on this topic, I described an ideal system of federalism and its advantages and disadvantages. One of the concerns that progressives often have about this kind of federalism, which I wish to take seriously, is that it will lead to a growing gap between the incomes of rich and poor regions (such as states in the U.S.). In this post, I’m going to summarize my findings on the empirical evidence on the relationship between federalism and inequality.

What I want to explain here is the extent to which different countries feature regional convergence or divergence in per capita incomes. That is, in some countries rich regions grow faster than poor ones, and in others poor regions grow faster than rich ones. The way to measure that is with the “annual rate of convergence,” which represents the average rate at which the differences in per capita income between a poor economy and a rich economy disappear, all else equal. A figure of 2% would mean that 2% of the average income difference between a rich and poor economy disappears each year. Even when convergence is happening, that does not mean that measured inequality between regions necessarily goes down, because random shocks can intervene (such as oil discoveries or real estate busts). But it’s a key question whether federalism can cause regional economies to convergence faster or more slowly (or even diverge).

Here is how some countries differ in their measured rate of regional convergence over the 1995-2005 period, the longest and most recent period for which consistent data are available (regions are defined as the subnational tier of government enjoying the greatest economic self-rule, which is in turn defined below: states in the U.S., autonomous communities in Spain, provinces in Canada, Laender in Germany, counties in Denmark, etc.):

Some countries actually experience regional divergence, in which richer regions grow faster than poorer ones: Slovakia, Poland, Ireland, Hungary, the Netherlands, and Japan, most notably. The fastest converger in the sample is the European Union (the 15-member EU prior to the entry of the postcommunist states and Cyprus). In other words, the gap between poorer EU states and richer EU states was erased at a 5% annual clip between 1995 and 2005. Much of this remarkable performance had to do with the steep rise of Ireland, but even when Ireland is excluded, the EU is a star performer among these “countries.”

In the chart above, there is no clear relationship between how (more…)

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Constitutional debates swirling around the PPACA’s individual mandate have much to do with federalism. The core issue the Supreme Court is addressing is whether the federal government has essentially unlimited authority in economic policy, or whether they are yet some areas of economic policy-making (such as whether to compel commerce) exclusive to the states. As someone who believes that constitutions ought to be read according to – I don’t know – what their actual words say, I think the entire act is obviously unconstitutional. Article I, section 8 of the U.S. Constitution permits Congress to legislate in order to “regulate commerce…among the several states.” Thus, Congress has the authority to regulate interstate commerce. Not “anything that might be related somehow to interstate commerce,” plus “anything necessary and proper to any of those things.” Of course, no one on the Supreme Court, except perhaps Clarence Thomas on issues like this one, shares my judicial philosophy.

Putting the constitutional issues to one side, however, I want to address the desirability of the kind of federal system that classical liberals — and, perhaps, Justice Thomas — favor. We can summarize that federal system as follows:

  1. The primary regulatory authorities in the country are state and local governments.
  2. The economic role of the federal government is to ensure a common market: to prevent states from levying barriers to the free flow of goods, services, people, and capital, from tariffs to invidious regulations to local preferences in government procurement.
  3. The national court system protects basic human rights and civil liberties from infringement by federal, state, and local governments.
  4. State and local governments fund their activities almost exclusively out of their own resources. The federal government should not, in general, provide grants to state and local governments.
  5. State governments are politically autonomous, constitutionally sovereign, and independently elected. They may legislate freely within the bounds expressed above.
  6. State governments are permitted to form compacts to deal with externalities. For instance, states may choose to adopt uniform regulations on insurance so that companies can sell the same product in multiple states with a quicker approval process. Because states retain their sovereignty, they are free to enter and withdraw from such compacts at any time.

OK – so what are the arguments against this kind of system? (I go over some of the arguments and evidence in favor here.) One common objection to “states’ rights” is that state governments may violate the civil rights of some of their citizens. I share this concern, one reason I don’t think the term “states’ rights” is appropriate for my position; nevertheless, the concern is addressed with point 3 above. Another objection might be that problems like pollution and endangered species can cross state boundaries. Given a sufficiently small number of states, however, I do not see why they cannot contract with each other to solve their commons problems. What else?

There are two concerns about fiscal federalism that many progressives share that I take seriously: that inter-jurisdictional competition under federalism will undermine the welfare state, and that the system will lead to greater inequality among regions. The first concern (more…)

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Since the East Asian financial crisis of the late 1990s, a consensus among even free-market economists has been developing: financial liberalization for developing countries usually don’t make sense. The financial crisis of 2008 and the ongoing Eurozone crisis have only fortified this consensus. The mainstream economic position seems to be that, at least for developing countries with smaller markets and poorly trained regulators, restrictions on capital account transactions in liquid portfolio assets often make sense.

Even the usually reliably free-market, pro-globalization economist Jagdish Bhagwati writes in his popular book, In Defense of Globalization, that the East Asian financial crisis

…was a product of hasty and imprudent financial liberalization, almost always under foreign pressure, allowing free international flows of short-term capital without adequate attention to the potentially potent downside of such globalization. There has been no shortage of excuses and strained explanations blaming the victims… [T]he motivation underlying these specious explanations is a desire to continue to maintain ideological positions in favor of a policy of free capital flows or to escape responsibility for playing a central role in pushing for… gung-ho international financial capitalism. (199-200)

Strong words! And then there’s this (more…)

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I want to piggy-back here on Mark’s great post on urban planning and the poor. I’ve been playing around with some state-level data on local land-use regulations and cost of living. The last decade in the U.S. has been one of very slow productivity growth. As a result, fast-growing states tend to be those with low growth in cost of living. This explains not just states like Texas but North Dakota as well (and at the other end, California). Take a look at the list of states with highest annualized real personal income growth over 2000 to 2007 (the deflator, a state cost of living index, comes from the newest, 2009 Berry et al. data, which explains why the series ends at 2007):

1. Louisiana – 2.8%
2. Wyoming – 2.8%
3. North Dakota – 2.6%
4. South Dakota – 2.1%
5. Oklahoma – 1.9%
6. Arkansas – 1.8%
7. Mississippi – 1.5%
8. Nebraska – 1.5%
9. Montana – 1.5%
10. Kansas – 1.4%

Surprised? These are hardly “knowledge economies.” In some cases, mining or energy accounts for strong growth, and indeed in multiple regression mining share of GDP in 2000 does strongly explain subsequent real personal income growth (per capita or total). And in Louisiana’s case Hurricane Katrina chased away a lot of low-income people. But part of the story is elastic housing supply leading to low growth in house prices during the 2000-2007 bubble. A better measure of state economic success is arguably total rather than per capita income growth, which rewards states that attract people. Here are those numbers:

1. Wyoming – 3.6%
2. Nevada – 3.1%
3. Florida – 3.0%
4. South Dakota – 2.8%
5. Arizona – 2.8%
6. Arkansas – 2.6%
7. Texas – 2.6%
8. North Dakota – 2.6%
9. Oklahoma – 2.5%
10. Louisiana – 2.5%

Again, these states have in common slow growth in housing prices during the bubble. And what explains slow growth in housing prices? Land-use regulation. I use the Gyourko et al. land-use regulation variable to predict both cost of living in 2000 and growth in cost of living over 2000-2007. It is an extremely strong predictor of both (statistical significance>99.99%). When net 2000-2007 in-migration (% of 2000 population) is regressed on both 2000 cost of living and the land-use regulation index along with controls (economic and personal freedom, 2000 accommodations GDP per capita), both are highly statistically significant and negative. When total personal income growth is regressed on migration, controls, and the land-use regulation index, land-use regulation is insignificant while migration is highly significant and positive. No surprise there – land-use regulation doesn’t reduce total factor productivity, but it does discourage labor inflows.

So here’s the big story of growth in those states that have experienced it in the last decade: lack of land-use regulation –> slow growth in cost of living –> more in-migration –> more income growth. Highly regulated states like California (-0.4% annual growth), Oregon (0.1%), Massachusetts (0.1%), and New Jersey (0.3%) could learn something. If we are entering a “great stagnation,” we may have to squeeze increases in living standards out of lower prices rather than innovation for a while.

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Nobel Prize-winning economist Joseph Stiglitz argued recently that both the economic downturn of the last two years and the looming debt crisis are the fault of “a powerful ideology—the belief in free and unfettered markets,” whose “30-year ascendance” has “brought the world to the brink of economic ruin.”

As an economist, I can’t hold a candle to Stiglitz. Still I am puzzled by a couple of Stiglitz’s claims.

The first is his claim that the last thirty years has seen the ascendance of “deregulated capitalism.” It is not immediately obvious to me how to measure, and thus evaluate, a claim like that, but a few likely indicators seem to point against Stiglitz. For example, measured in constant dollars, government spending, both federal and combined federal, state, and local, have increased every single year during Stiglitz’s window (he said “the early 1980′s to 2007″; I represent below 1980 to 2007). Here is total spending:

As a percentage of GDP for the same period, total spending has remained fairly flat:

I could not find detailed numbers on regulatory burdens and costs before 1995, but in reports compiled by the U.S. Small Business Administration (a federal government entity) in 1995, 1998, 2001, 2005, and 2010 (all available here), total cost of regulatory burdens increased each year. Moreover, according to economists Veronique de Rugy and Melinda Warren, both total budget outlays of regulatory agencies and staffing of such agencies has steadily increased since 1980, outpacing both inflation and population growth. And economic regulation in particular—which may be what Stiglitz is primarily thinking of—has also increased throughout the period.

All of this is difficult to explain on Stiglitz’s hypothesis.

The second claim of Stiglitz’s that puzzles me is that during the last 30 years, “most Americans saw their incomes decline or stagnate year after year.” But whether measured in nominal or real terms, most incomes across the classes have increased since 1980, even if modestly. Here is income distribution from 1947 to 2007 in constant 2007 dollars:

Here is real median household income in constant 2009 dollars by race:

File:US real median household income 1967 - 2009.png

This indicates that most incomes have risen when measured in real dollar income. But even that leaves out the important fact that what those incomes can buy in terms of goods and services has increased dramatically. Because the cost of most goods and services tends to go down over time, and because innovation not only finds more efficient ways of bringing current goods and services to market but also produces new goods and services, what people can buy with their money—even if their incomes stayed relatively flat—has increased. Consider just one conspicuous example, the sharp decline in the price of computing power.

That point leads to my final comment on Stiglitz’s essay. Consider this passage, in which he offers his remedies for the fiscal challenges we face:

The remedies to the US deficit follow immediately from this diagnosis: put America back to work by stimulating the economy; end the mindless wars; rein in military and drug costs; and raise taxes, at least on the very rich.

Many people, including the president again just last night, have been calling for raising taxes on the rich as at least one part of the way out of the morass. The president suggested that by “the rich” he meant those making over $250,000 per year, which is about 1.5% of American households.

I shall make no comment about the economic sense of the president’s proposed policy, or about what seems to be his zero-sum-game conception of wealth. But let us try to gain some perspective on this definition of “the rich” by comparing it to worldwide standards. People making over $250,000 in annual income are, by any worldly standards—whether measured by the rest of the world today or, even more so, in historical terms—wealthy to a degree that would have been unimaginable just a few generations ago. But then again, everyone in America is.

For most of human history, people survived on something like $1–3 per day in current dollars. Over the last seven generations of humanity, however, that has increased by something like sixteen-fold (read McCloskey’s latest for the data). Average per capita income in the U.S. in 2010 was $47,200, approximately fifty times the average for most of human history. Not a fifty percent increase, not a five hundred percent increase, but a five thousand percent increase. Worldwide, average income in 2010 was $11,200—an astonishing increase by historical standards, but only one-fourth that of the United States.

Indeed, the proportion of the American citizenry whose income is above that of the current worldwide average is . . . do you have a guess? What would you have guessed? It is eighty percent. Eighty percent of Americans earn an annual income higher than the worldwide average, which includes about two-thirds of those Americans who currently pay no federal income tax at all. Today, effectively zero percent of Americans have incomes equal to or lower than double the average worldwide income for human beings throughout most of their history.

All Americans are rich—indeed, we are rich at unprecedented levels. We are not equally rich, but we are all rich. Perhaps therein lies the rub, what really is bothering Stiglitz and others? What if it turned out that the only way we could all have these unprecedented levels of wealth is if we allowed great inequality?

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Is liberty an “amenity” that people find attractive? We know that people do not necessarily tend to vote for liberty, in part because they are politically ignorant or even irrational, but when it comes to where they choose to live, people can be expected to pay close attention to how the laws in different places affect their quality of life. Economists model migration rates across jurisdictions as a function of economic opportunities (real income differentials) and “amenities” (example). Thus, it is standard practice in the literature to use inter-state migration rates in the U.S. (adjusted for the component predicted by economic growth) as a proxy for the desirability of different states as places to live. The question I address here is whether liberty is an amenity; in other words, do states with more freedoms attract more people?*

My study with William Ruger, Freedom in the 50 States, addressed this issue briefly. We find that both economic and personal freedom are associated with net inter-state migration over the 2000-2009 period. In other words, freer states attract people from less free states. The relationship holds when we control for climate, measured as average January temperature in a state’s largest city. We also find that real personal income growth (total, not per capita) over 2000-2007 is positively associated with economic but not personal freedom. Thus, it remains an open question whether economic freedom attracts people because people find it desirable for its own sake, or whether it attracts people by promoting economic growth. However, it does appear that people are attracted to personal freedom for its own sake.

This blog post offers a first look at a much more sophisticated analysis of the issue, bringing in more control variables and more advanced, appropriate estimation methods. (more…)

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Interesting piece on Robert Barro in today’s Telegraph.  Money quotes:

On the stimulus package:

Turning to the $600bn (£373bn) to $800bn US package, he added it was “mainly a waste of money”. Stimulus programmes, he said, offer little more than “rearranging the timing” of economic growth. “Possibly you could make an argument that it’s worth it. But it’s going to be a negative-sum thing overall, so you have to think it’s a big benefit for boosting the recovery.”

Stimulus, when necessary, should only direct funds to programs that can be justified on their merits.

“The lesson is you want government spending only if the programmes are really worth it in terms of the usual rate of return calculations. The usual kind of calculation, not some Keynesian thing. The fact that it really is worth it to have highways and education. Classic public finance, that’s not macroeconomics.”

But in the long-run, such programs may impose greater costs than benefits:

Mr Barro argued that, taken over the long term, for every £1 spent, the cost to the economy will be more than £1 – creating what he called a negative fiscal multiplier. Orthodox thinking is that current stimulus programmes have a positive multiplier effect by creating growth.

Barro will be delivering the Institute of Economic Affairs Annual Hayek Memorial Lecture. I am looking forward to reading the transcript.

Update: A recording of Barro’s lecture is available here.

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While the U.S. economy has been officially out of recession for a while and growing at a decent clip (1.8% at a seasonally adjusted annual rate in the first quarter of this year, 3.1% in the last quarter of 2010 – see chart), unemployment remains very unusually high, 9.0% in April 2011 (seasonally adjusted), compared to just 4.5% five years ago. The Economist wonders whether the U.S. has caught the European disease of “structural unemployment.” What can be done to get unemployment down fast?

Click “Continue Reading” to view the Sorens Deficit-Neutral Plan to Slash Unemployment (SDNPSU – catchy acronym, right? Try pronouncing it like “sudden Sue”): (more…)

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I am currently blogging from Roatán, Honduras, where I am participating in the “Future of Free Cities” conference, sponsored by Universidad Francisco Marroquín. The conference is about the economic and political preconditions for the establishment of free-enterprise zones in developing countries, as well as the internal governance of these territories. In his opening talk last night, Michael Strong used the rapid growth of Hong Kong, Singapore, Dubai, and Shenzhen to argue that economic freedom is an essential prerequisite to the elimination of poverty, and eliminating poverty is a moral imperative.

Much of the discussion here has revolved around a recent constitutional amendment passed in Honduras to establish “special development regions.” Here is a summary of the features of this amendment:

  • The government of Honduras has the option to create one or more REDs, but is not required to do so.
  • To create an RED and establish its basic system of governance, the amendment requires that the Congress pass a piece of enabling legislation that they call a Constitutional Statute. This requires a two-thirds majority to pass. A subsequent Congress can change this enabling legislation only with the same two-thirds majority and approval by referendum from the citizens living in the RED.
  • The REDs would be areas with their own legal personality and jurisdiction, their own administrative systems and laws. An RED can also negotiate international treaties with partner countries or organizations. Congress would need to ratify these international treaties with a simple majority.
  • Judges for its judicial system will be nominated by the governing authority in the RED but subject to approval by a 2/3rds majority in the Congress. The judicial arrangement would allow the use of an external body that acts as the court of final appeal for judicial decisions from the zone.
  • Laws developed by the governing authority of the RED require a ratifying vote by the Congress. This vote would be a simple vote to approve or reject. Approval requires only a simple majority.

From discussions with people here, I have gathered that (more…)

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The latest Economist has an interesting feature on inequalities among regions within countries. The article compares countries on their ranges in GDP per head (the ratio of richest region to poorest). Thus, we get charts like the following:

But range is an extremely crude concept for measuring inequality. In the U.S., the District of Columbia is by far the “richest” “state,” because its large number of commuter workers generate large GDP without figuring into the denominator. Moreover, the use of the range to illustrate dynamics over time is misleading:

This chart makes it appear that the U.S. has rapidly growing regional inequalities. But the increase here is being driven by D.C. again. The growth of the federal government has concentrated ever more GDP in the District, causing its numbers to look increasingly out of whack with the rest of the country.

A better approach is to compare rates of regional GDP per head convergence. Convergence is the phenomenon whereby poorer economies tend to “catch up” to richer ones. A rough-and-ready benchmark for “good” convergence is an annual rate of about 2%. Econometricians derive rates of convergence in GDP per capita by regressing annualized GDP per capita growth on initial GDP per capita for a dataset of economies. I have calculated regional convergence rates for Canada (provinces and territories), the U.S. (states and D.C.), and the European Union (member states before 2006) over various periods. Here are the results:

The “equalization” column indicates whether the federal system has extensive equalization payments that give grants to poorer regions. The EU does have a nominal equalization program, but it does not redistribute much money. Of these systems, only Canada has a truly extensive equalization program.

Despite this, Canada’s convergence record is the worst of these systems, although the differences between the U.S. and Canada are small. Over the entire 1981-2005 period, U.S. states converged at 1.9% per year, while Canadian provinces did so at 1.6% per year. The EU clearly has the best convergence record, with a massive 8.0% annual convergence rate during the 1995-2005 period, which saw the rapid rise of Ireland, Greece, Spain, and Portugal, relative to the rest of the EU. (Eastern European countries are not included in these numbers, because they had not joined the EU yet.)

This evidence suggests that decentralized federal systems do a pretty good job of getting rid of regional inequalities, even without equalization programs. In a paper currently under “revise-and-resubmit” at an economic geography journal, I present much more formal and systematic evidence to this effect. If and when it is published, I will revisit the topic.

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