Obama is in for 4 more years!

The results are in, mostly. Barack Obama will reside in the White House for 4 more years, democrats will retain control of the Senate and republicans will keep the House of Representatives. After what seemed like an endless campaigning war, did the electorate provide a clear mandate? On the surface, it would seem like we went through this whole exercise and came out changing nothing. After all, the composition of the government has not changed as a result of this election. However, I find myself more optimistic for the following reasons:

(1) In re-electing Barack Obama, the electorate has made a clear choice on who they think would be more adept at the country’s helm now. This is important considering that Obama won re-election in an economy with the unemployment rate at 7.9%. To find an incumbent who won under such conditions would require us to go back to the days of FDR. In exit polls throughout the country, voters identified the policies of George Bush as the main reason for our current economic woes. To me, this indicates either a more informed electorate.

(2) Anyone who looks at the margins of victory in both presidential and congressional races will agree that the country is extremely polarized. As a result, the composition of government has not changed a lot. Most moderate candidates were either forced to retire (for instance, Olympia Snowe) or were ousted in the 2010 elections/2012 primaries (Richard Lugar, for example). While this is disappointing, it also forces us to find new ways of compromise. Either democrats and republicans will learn to forge working solutions together or more independent candidates will/should likely be elected in the future. The northeast has already provided us with two such examples in the Senate.

(3) In a controversial decision in 2010, the US Supreme Court cleared the way for large undisclosed contributions to further muddy the already distasteful process of electoral campaigns. The current election cost nearly $ 6 billion (a small stimulus package), almost two-thirds of which was spent by super PACs! In light of the current results, I hope these donors conduct a cost-benefit analysis of their investments. I also hope that this misadventure will pave the way for some necessary electoral reforms.

Overall, I was happy with the results, especially in the presidential election. It’s time to take a deep breath and begin anew.


It’s Election Day!

The day is finally upon us…the last day on which ads ending with “I am so and so, and I approve this message” will end…until they start campaigning for the 2014 midterm elections!… It’s time to vote!

Obama’s Performance On The Economy

This election is a referendum on Obama’s stewardship of the economy. What has Obama done on the economy? To address this question, I first considered a few numbers that inform the conditions under which he assumed office: (1) On Jan 20, 2009, the day of Barack Obama’s inauguration, the S&P500 closed at 805.22 and had lost about 40% of its value over the previous 6 months; (2) According to the Bureau of Labor Statistics, the unemployment rate in February 2009 stood at 8.3%; only a year ago, in February 2008, the unemployment rate had been 4.9%; (3) In January 2009 alone, employers in the private sector had shed 818,000 jobs, and they would cut 2.2 million more jobs over the next 3 months; (4) The federal deficit for the fiscal year 2009 was $1.4 trillion, whereas the deficit for 2008 was $440 billion.

Together, these numbers define the challenge on Obama’s hands. The challenge becomes even more tenuous when one considers that Obama had no money at his disposal. For years, his predecessor, George W. Bush had been running budget deficits. The wars in Afghanistan and Iraq cost about $1.5 trillion dollars during his tenure, to which his tax cuts added another $1.8 trillion. Moreover, due to the recession, government revenue from individual and corporate taxes in 2009 dropped by 20% and 54%, respectively, compared to the previous year. Taking this into account, it becomes obvious that no matter what Obama did, he wouldn’t be able to avoid increasing the federal deficit.

So what did Obama do? Many things! In this post, I will focus on one example. On February 17, 2009, less than a month after taking office, Obama signed into law the American Recovery and Reinvestment Act, better known as “the stimulus”. With a goal to create and save jobs, the bill disbursed a total of $840 billion into the following areas:

  • $297.8 billion went into various tax benefit programs. Some major highlights include: (1) the American opportunity tax credit that allowed individuals to claim on undergraduate educational expenses for either themselves or for their dependents; (2) a first time homebuyer’s tax credit, which was an attempt to stabilize the collapsing housing market which had largely contributed to the recession in the first place (3) a $400 tax credit for working individuals, and (4) Numerous tax incentives for businesses that hired new employees, including veterans.
  • $244.3 billion went towards various government contracts, loans and grants. The biggest chunk of the funds in this department went towards providing aid to states and preventing them from cutting back on education services (about $91 bilion). Other major recipients were grants to improve transportation and infrastructure (highways, bridges, railroads, airports, expanding broadband infrastructure etc).
  • $235.7 billion went towards entitlement services. Again the biggest chunk of this money was given to states to allow them continue providing services for medicaid recipients (about $90 billion). About $60 billion went towards providing unemployment benefits for those who lost their jobs during the recession. Another $43 billion went towards providing assistance to needy families, including food stamps, child care, and foster care and adoption assistance.

One impressive aspect regarding the recovery act is that the Obama administration has provided extremely detailed information on how the money was exactly spent. In fact, projects that were funded by this act can be searched by zipcode.

More importantly, did the stimulus succeed in its objectives? A clear majority of studies conducted by leading economists (7/9) arrived at the conclusion that the stimulus did in fact spur economic growth and may have saved and created thousands of jobs. In addition, a number of these studies have attempted to quantify the success of the stimulus by trying to estimate how many dollars of economic activity was produced for every 1$ in stimulus spending (a.k.a how much bang for the buck?). Here is an estimate from a paper by Alan blinder (Princeton University) and Mark Zandi (Moody’s Analytics):

It is interesting to note that of all the policies that were part of Obama’s stimulus, spending measures such as food stamps, aid to state governments, increased infrastructure spending, and extending unemployment benefits were found to produce the most effective  results. On the other hand, measures such as making the Bush tax cuts permanent, cutting  corporate taxes, capital gains taxes, and the alternative minimum taxes, all of which are the central tenets of Mitt Romney’s plan for economic growth were found to be the least effective.

Finally, what of those numbers that I mentioned at the beginning of the post? How have they changed? (1) On Friday, the S&P500 closed at 1414.20, a 175% gain over its close on Jan, 20, 2009; (2) The latest jobs report on Friday found the unemployment rate at 7.9%; (3) the economy added about 171000 jobs this October. Here is a chart depicting job creation numbers over the last 4 years:

Overall, given the economic circumstances under which he assumed office, the political climate, and the extent of control a president can have over the economy, I personally think that Obama has performed rather well, especially during his first year in office. Are there things that could have been done better? Certainly. Is there room for improvement in the president’s policies? Absolutely. But are republicans under Mitt Romney poised better poised to grow the economy and employment? I think not.

The Misdiagnosis Of Our Economic Malaise

A comparison of tax rates, economic growth, and unemployment rates over the last 50 years has allowed me to reach the following conclusions regarding the tax cuts that are the core of Mitt Romney’s economic plan:

  • Tax cuts have little effect on either unemployment rates or the economic growth rate in the long run.
  • Making either the Bush tax cuts permanent, or worse, enacting new tax cuts now will significantly increase the deficit.

However, their approach towards taxes also illuminates a more fundamental difference between Romney and Obama, and it pertains to what each candidate has diagnosed as the problem with our economy today. And understanding this difference is key to making a decision on whose policies now are more likely to spur economic growth in the long run.

So what is the rationale for additional tax cuts? The essence of Romney’s argument as outlined throughout the presidential debates and during the primaries is as follows – cutting taxes will free up the money that businesses would normally pay the government, and they would instead use this money to expand their operations and create more jobs. The underlying implication is that a heavy tax burden and government hindrance is preventing businesses from acquiring sufficient capital to expand and create more jobs. Are there economic indicators that we can we look at to verify whether this claim is actually true?

As a first step, I looked at how the various US stock market indices have fared under Obama. As an example, I have included a chart depicting the value of the S&P 500, which is an index of the top 500 publicly traded US companies, over the last 5 years:

At its lowest point on March 2, 2009, the S&P500 closed at 683.38. Four days ago, it closed at 1411.94, indicating an almost complete recovery to the highs in 2007. This suggests that businesses have gradually accumulated value over the last 4 years. However, this has not translated into a corresponding increase in employment.

To further understand whether corporations have the resources to expand and hire new employees, I looked at cash reserves of US corporations over the last 5 years:

As of 2010, companies were sitting on more than a trillion dollars in cash, yet they had not utilized that money to significantly increasing their hiring. In addition to this, the federal reserve has cut interest rates to almost zero and intends maintain low interest rates until at least mid-2015. This allows companies to borrow the money they need to expand at much lower interest rates than they normally would. Furthermore, as I mentioned before, Obama has maintained all the Bush tax cuts during his first term. So businesses haven’t been burdened by higher taxes during the last 4 years.

Together, these economic indicators suggest that companies already have abundant resources to expand their operations, if they wish. For the same reason, it is improbable that freeing up more money by cutting taxes further will stimulate companies to hire more workers. So why aren’t companies hiring? Answering this question requires us to first ask why companies hire in the first place. Companies hire only when they see that there is a demand for their products and that meeting that demand requires them to hire more people. And what determines demand? Our incomes do – we shop when we have the money and when our incomes grow, we tend to shop more. Likewise, when incomes shrink, as they do in a recession, we hold back. Demand falls. Why then would companies increase their payrolls? They wouldn’t. So the problem with the economy has to do with demand. Can/Should government do anything to boost demand? And has Obama done enough? We shall examine this in the next post.

Revisiting “W” and Tax Cuts as a Political Philosophy

In my last two posts, I compared the top tax rates over the last 60 years and found that tax cuts correlate neither with economic growth nor with reduction in the unemployment rate. Does this mean tax cuts have no place in a president’s budget? Certainly not. However, the trouble arises when democrats and republicans hem tax policies into their core philosophies in ways that prevent them from coming to an agreement on how the government can support the economy, particularly during and after a recession. In this regard, the two tax cuts enacted by George W. Bush in 2001 and 2003 are particularly revealing.

The conditions in which Bush assumed office were as follows: the economy had witnessed an expansion not seen in decades; the federal budget was yielding surpluses; unemployment had dropped below the 5% mark (indicating “full employment”); poverty levels were on the decline; and the US was even apportioning some of its revenue to pay down the national debt. Given this scenario, what were the tax cuts exactly supposed to accomplish? Bush and his fellow republicans (who controlled both houses of congress) knew well that these tax cuts would significantly add to the deficit. Passing the bill required them to overcome democrat opposition, which they did by employing an arcane budgeting maneuver called “reconciliation”. Even then, because the bill would add to the deficit, senate rules required them to stipulate a 10-year limit (hence they were originally set to expire in 2010). The 2001 tax cuts were soon followed by the tragic events of 9/11 and the engagement of the US in Afghanistan. War is an expensive endeavor in many ways, including financially. Yet Bush did not seek for financial resources to pay for the war and did not roll back/suspend his tax cuts. Instead, he passed another round of tax cuts in 2003 and then engaged in another war with Iraq. Whether he was right to attack Iraq is another issue altogether; however, his reluctance to increase government revenue to offset the spending on wars unveils the troubling patterns in politics today. For it conveys that no circumstances, not even war, justifies a government to collect more revenue.

Is it surprising then that 95% of all republican congressmen and republican candidates who ran for president in this election, including Mitt Romney, lined up to sign Grover Norquist’s pledge not to increase taxes under any conditions? Or that Mitt Romney raised his hand when asked in the republican primaries if he would not accept even a $1 increase in tax revenue for every $10 in spending cuts?

Going back to “W”, in his final months as president, George Bush would pass yet another spending package worth $700 billion (known as TARP), this time to save the entire financial sector from extinction. It marked the beginning of a recession which rivaled the Great Depression. Like with the Iraq war, we could debate what really caused the most recent recession. However, there is no doubt that the government would have been better equipped to pass TARP, the stimulus, and numerous tax incentives if its financial resources had not been squandered in the Bush tax cuts. Likewise, Mitt Romney’s new rounds of tax cuts would further weaken the ability of the government to provide the necessary support not only during the current recovery, but also in future economic crises. The country needs a different course.

Tax Cuts and the Unemployment Rate

In my previous post, I tried to find correlations between the top marginal tax rate and the economic growth rate and suggested that the growth rate is largely independent of tax rates. However, it is interesting to note that the candidates rarely mention the growth rate. Instead, they mostly mention creating jobs, strengthening the middle class, etc. Why? Perhaps, because they have learned that issues like the unemployment rate, household income, and poverty rate, are the economic indicators that really matter to the electorate. So I examined how the unemployment rate has behaved over the last 50 years or so. I obtained this graph from an article in the Washington Post:

In this graph, the blue line shows the unemployment rate over time, and the vertical yellow lines indicate recessions – the thicker the line, the more severe the recession. The dark horizontal line in the middle indicates the 5% mark, a traditional threshold for “full employment” (i.e. If the unemployment rate falls below this mark, the economy has achieved “full employment”).

Some trends are easy to notice in this chart. For instance, the unemployment rate ticks up in every recession. In addition, relative to the duration of the recession itself, it takes much longer for the unemployment rate to reach its pre-recession levels. Note that the most recent recession is perhaps the most severe one we’ve had over the last 60 years (only the one in the early 1970s comes close). Now looking at how unemployment rates have reversed following recessions historically, what would we estimate to be the duration of our recovery from this recession? And how much control do we think the president of the Unites States have over this timeline? These are obviously questions to consider before voting. However, my reason for putting up this chart is to now see if there are correlations between the tax rates and trends in the unemployment rate over the same time. For this, I plotted the top marginal tax rates since 1948 based on information from Tax Policy Center:

Here too, some trends are really easy to notice. For instance, we have some of the lowest tax rates today since world war II. Also, since 1980, US tax policy has been heavily biased towards tax cuts, except for the Clinton years (1993-2000).

Now let’s compare the two charts. Going back to the first chart, between 1948 and 1975, the economy went into recession 6 times. And it witnessed 5 more recessions between 1975 and now. Yet, the behavior of the unemployment rate has been very different during these periods. Between 1948-75, despite those recessions, the unemployment rate remained quite low and there were long periods during which the economy maintained “full employment”. On the other hand, unemployment rates have risen more dramatically in the recessions since 1975 and the recovery from these recessions have been slower, resulting in prolonged periods with high unemployment. How do these trends correlate with the top tax rates in the second chart? Interestingly, the top tax rates were much higher between 1948-1975 than they were between 1975-2012. More importantly, for all the emphasis on tax cuts over the last 30 years, tax cuts have made it neither more difficult for the economy to enter into recessions, nor have they made it easier to recover from them.

Together, based on what I have found and described over the last two posts, it is hard to see how yet another round of tax cuts, which seems to be the cornerstone of Gov. Romney’s plan, are a solution to the country’s current economic problems.