August 29, 2005

$37 TRILLION AND DEFLATION, WELCOME TO GOOD TIMES:

Measuring the Economy May Not Be as Simple as 1, 2, 3 (Jonathan Weisman, August 29, 2005, Washington Post)

The Census Bureau tomorrow will release the latest statistics on poverty in the United States, the income level of an average household and the number of Americans still lacking health insurance.

Don't believe the numbers.

A growing chorus of experts and politicians is raising questions about the data that frame Americans' understanding of their nation's well-being. [...]

From the conservative Heritage Foundation to the more liberal Brookings Institution, economists agree the government's basic measurement of consumer price changes is overstating inflation. As a result, tax collection has been depressed, since tax brackets rise with inflation. Government spending on programs like Social Security has been excessive, since such programs enjoy annual cost-of-living adjustments based on the current consumer price index. And labor contracts have been distorted by built-in inflation protections.

The Labor Department's standard consumer price index measures the cost of a basket of goods in urban areas as they rise over time. But since 2000, the department's Bureau of Labor Statistics has also tracked more realistic spending patterns, allowing for the substitution of products when prices spike. This "chained" CPI, for example, might substitute a pound of chicken for a pound of beef one month if steak prices have shot upward, said David S. Johnson, assistant BLS commissioner for consumer prices and price index.

Switching to this more sophisticated measurement from now through 2014 would cut $70 billion from Social Security payments while raising income tax collection by $83 billion, according to Brookings Institution economists. Yet Congress has made no effort to change the official inflation measurement, in part because lawmakers have no desire to slow the growth of either tax bracket increases or Social Security benefits.

"This is a political decision, and no one wants to make it," said Fritz Scheuren, president of the American Statistical Association.

More recently, a debate has begun over the nation's savings rate, which officially hovers just above zero. When Congress returns in September, the House Ways and Means Committee will try to put together legislation to raise personal savings through tax credits and other incentives. But according to David Malpass, chief global economist at Bear Stearns & Co., the United States is accumulating savings hand over fist. The country's pool of liquid savings grew by $1.5 trillion last year, he said, and U.S. households remain the world's largest creditor, with $37 trillion in financial assets.

The problem, Malpass said, is that the official savings rate measure does not consider economic gains from patents, innovation, capital gains or land appreciation.

"We may be throwing billions of dollars at a problem that isn't there," said [Rahm] Emanuel, who has advocated savings proposals.


Nothing costs more than it used to and we all live better than our parents did, so you know the numbers are bogus.

Posted by Orrin Judd at August 29, 2005 11:38 AM
Comments

Savings are liquid assets. Land appreciation is not liquid. Capital gains are not real until they are realized. If everyone tried to realize their capital gains at once, they would evaporate.

Innovation is an income producing asset, but its value is reflected in income statistics. Savings reflects the portion of that income that is saved and not spent. Weisman is trying to twist the meaning of savings to include these other sources of wealth.

The point is well taken. Savings is not the only, or even primary measure of wealth. It is stored wealth that can be tapped immediately with little loss in value, and so it serves a purpose both as an economic cushion against short-term disruptions in income or liquidity, and as a source of investment. We have too many eggs in the illiquid baskets, we need more stored savings. It is only prudent to do so.

Posted by: Robert Duquette at August 29, 2005 1:09 PM

Liquidity only matters when you're going out of business. we're an ownership society.

Posted by: oj at August 29, 2005 1:19 PM

Liquidity is what keeps you from going out of business when you hit a soft spot. The grasshopper never learns.

Posted by: Robert Duquette at August 29, 2005 1:37 PM

The grasshopper was liguid. The ants owned.

Posted by: oj at August 29, 2005 1:41 PM

No, the opposite. The ants saved, the grasshopper lived off of current income and didn't plan for a downturn. It had nothing to do with ownership. The grasshopper "owned" what food he collected. Even if he owned the field of grass, he couldn't make it produce food over the winter. Ownership is only as secure as the assets owned.

Posted by: Robert Duquette at August 29, 2005 1:54 PM

Owning is saving. What you're holding in your hand is liquid.

Posted by: oj at August 29, 2005 3:17 PM

Owning is saving.

Tell that to the Depression-era farmers.
Tell that to the dot.com stockholders.

Robert Duquette is completely correct.

Capital gains should be considered along with savings, but at a discount, to reflect the risk of not being able to realize the full nominal value of the underlying assets.

Discounting by 50% seems very conservative; some might want to discount by only 33%.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 29, 2005 4:37 PM

There was nothing to own in the dot.coms.

If we have a Great Depression you're right and owning your home won't be much help. Otherwise the example is inane.

Posted by: oj at August 29, 2005 4:45 PM

Let me just say, for the record, the OJ is entirely in the right here.

If any of you are going to financial advisors who, in the intake interview, tells you that he's not interested in the equity in your house, or your stock holdings, or the other property you own, but only wants to know about your savings accounts and CDs, because only those are savings, go ahead and fire him immediately.

Posted by: David Cohen at August 29, 2005 5:52 PM

There was nothing to own in the dot.coms.

Interestingly, that's not what you say here.

I wrote: "There are plenty of internet companies whose stock is still valuable. Amazon, Yahoo, Google, Earthlink, Overstock, Priceline, eBay, Apple, et al..."

To which you replied:

"Apple sells computers. Amazon sells books. Computers and books have instrinsic value. The internet is a medium. [...] The retailers who used the internet as a mere medium are still here and doing fine."
You then go on to defend service jobs as having "intrinsic value".

So, you have agreed that all of the companies that I named were and are valuable, and implicit in your defense of service jobs is the realization that any company offering a good or service over the 'net is as valuable as any brick 'n mortar company doing the same.

So, whence comes this "no value" rubbish ?

By your logic, even companies that failed, like Webvan, or your favorite, Pets.com, were intrinsically valuable, since they were retailers using the internet as a medium. The fact that they failed doesn't mean that they never had a chance, since even bricks 'n mortar chains like K-Mart and Montgomery Ward go belly-up from time to time.

What of Peapod ?

From their website:

2003 - Peapod achieves profitability in four out of five markets
In July, Peapod delivers its 5 millionth order, to a customer in Chicago

Are they worth nothing, despite having a large customer base and operating profits ?

If we have a Great Depression you're right [...] Otherwise the example is inane.

"Inane" must mean "right on point" in the Orrinverse.

Many, MANY times since the Great Depression, both stocks and real estate have declined in both real and nominal value.

1987 ring any bells ?

Also, consider the Southern California real estate market in the 90s.
Since we've been over this SEVERAL times, it's surprising that you would still make this fundamental error.

For instance:

Tom Witkowski, Boston Business Journal, Aug. 7, 2005:

Inventory of single-family houses is piling up in Greater Boston in a sure sign the residential real estate market is slowing. Sellers [...] are growing increasingly frustrated as their houses sit on the market for weeks and months. [...] Price reductions from $20,000 to $60,000 are not unusual [...] The number of listings of single-family houses in 17 towns in Greater Boston was up 25 percent or more last week compared with one year ago. [...] Needham, for example, had [...] an 87 percent increase from the same day last year.

We've been having this argument for a year now, but 11 months ago you wrote:

"We're agnostic on the notion of real estate as an investment...

Posted by Orrin Judd at September 11, 2004"

The closer the real estate markets get to dropping, the more positive you've become that nobody can get hurt - a classic symptom of a mania.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 29, 2005 7:43 PM

Michael:

No, as I say, I have relatively little interest or opinion on real estate as an investment. But if you're in it as an investment you can afford to lose the money. Most of us are in it for a home and we'll be unaffected by a brief price correction in a few markets. The ants aren't looking to sell.

Yes, Wal-mart could make good use of the web. Web companies couldn't. There was no there there.

Posted by: oj at August 29, 2005 7:51 PM

Wal-mart could make good use of the web. Web companies couldn't.

Are you back to claiming that Amazon, Yahoo, Google, Earthlink, Overstock, Priceline, and eBay are intrinsically worthless ?

They're all "web companies".

In the late 90s, investors got overexcited about the possibilities of internet commerce, but as we can now see, the concept does work well.

Do K-Mart and Montgomery Ward prove that there's no there there to the department store concept ?

Posted by: Michael Herdegen [TypeKey Profile Page] at August 29, 2005 8:10 PM

Yes, I suspect that Google, Yahoo, etc., are pretty much worthless in real terms. Though it's conceivable that they can function like tv channels--charging foir ads based on viewership. The Internet works well as a medium, badly as a product in itself. Someone will always come along to offer the same product free.

Posted by: oj at August 29, 2005 8:29 PM

..."It (savings) is stored wealth that can be tapped immediately with little loss in value."...

Robert, if you had (a lot) of everyone tap into the savings, what you would get is a run on the banks. Which, from what we know from Great Depression and from '80s Farm Crisis history, is a whole lot worse than a mere fire sale of "illiquid" assets.

Posted by: Brad S at August 29, 2005 8:39 PM

I suspect that Google, Yahoo, etc., are pretty much worthless in real terms. Though it's conceivable that they can function like tv channels--charging for ads based on viewership.

That's exactly how they make their billions.
Why else would you have Google ads on your site ?

Would you like to claim that newspapers, radio stations, and broadcast TV networks are worthless in real terms ?

If not, then you'd have to take notice of the fact that internet companies are eating the newspapers' lunch, which would tend to validate the intrinsic value of companies like Craigslist.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 29, 2005 8:51 PM

Exactly. Now that the internet is understood to be merely a medium there are old and established business models that can be aped. The stocks folks were buying of companies that thought the Web was something more proved valueless, to the tune of a few trillion dollars.

Posted by: oj at August 29, 2005 9:00 PM

Most of us are in it for a home and we'll be unaffected by a brief price correction in a few markets. The ants aren't looking to sell.

Except, of course, "brief" could equal TEN YEARS, and the average household moves every seven years or so, so they'll be selling at a loss regardless of what they're looking for, as we went over a few days ago:

Orrin assumes that 99% of homeowners will choose not to sell during the downturn, or will not have to. That position cannot be supported by the behavior of any group of homeowners during any market downturn in any American city since WW II. For instance, during the last real estate downturn in SoCal, it took between 11 and 12 years, depending on location, to BREAK EVEN, in real terms. Also, at the nadir, all of the gains for the previous ten years had been wiped out, in real terms, except for Los Angeles County, where by 1996 the median home price was the same as it had been in 1983, in real terms. Since the average American family moves every seven years, another market move that behaves the same way will cause losses for three cycles of homeowners, which would include the vast majority of them.

- Michael Herdegen, August 25, 2005

Michael: More than 1% will sell--all will buy other homes.

- oj, August 25, 2005

Even you acknowledge that many families will have to sell into a market downturn, locking in their losses.

Buying another home to ride back up with only works if you buy in another frothy market.
If you sell in Southern California at a loss, and buy in Salt Lake City, you'll be waiting a LONG time for your new home to appreciate enough to match the pre-downturn real price of you old home.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 29, 2005 9:18 PM

Yes, but you'll have a home. Demand for homes isn't going to change much, though some folks in a few places will lose some money. If there's a ten year economic doiwnturn in the United States the housing market is going to be the least of everyones concerns.

You'll likely have noticed that even the Tech Bubble, where folks lost all of their investment had almost no effect on the capacity of the economy to grow generally nor on standards of living.

Posted by: oj at August 29, 2005 9:23 PM

Yes, it's the "some folks in a few places will lose some money" part that ought to concern us.

Comparing it to the dot.com crash is correct, since the dot.com crash ushered in an economic slowdown that took unemployment up two percentage points.

There wasn't a ten year national economic downturn in the 90s, and yet it took people who bought homes in SoCal between 1990 - 1992 until 2000 or later to BREAK EVEN, in real terms.

You'll likely have noticed that even the Tech Bubble, where folks lost all of their investment had almost no effect [...] on standards of living.

Except, of course, that it DID have an effect on the standards of living for millions of unemployed people, and led to a period of, at best, no growth in the economy.

Believing that people could lose a trillion dollars worth of nominal equity from their homes without it having an effect on the American economy is simply wrong.

The housing industry is now the most powerful driver of the economy.
A slowdown in that sector could drop a full percentage point from U.S. GNP.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 30, 2005 12:33 AM

Slow growth. It'll be an unpleasant blip.

Posted by: oj at August 30, 2005 12:37 AM

There we agree.

Posted by: Michael Herdegen [TypeKey Profile Page] at August 30, 2005 12:55 AM

Yes. You just seem to think that droves of IT guys ended up in Hoovervilles or something.

Posted by: oj at August 30, 2005 7:57 AM

Brad S,
Yes, in the old days there would be a run on the bank. Nowadays the Federal Reserve would step in to provide banks with the needed liquidity. If people trust that the money will be there and the system won't collapse, then they won't have a need to withdraw their savings. The Fed also provides added liquidity during stock market panics, but that just lets investors sell their stock for pennies on the dollar.

David, no financial planner would say that, and you are right that if one did you should leave his office immediately. If you re-read my comments I made no such statements. I'm just making the point that savings are a necessary component of a sane financial plan. Noone should have all of their money tied up in illiquid assets. Everyone should have the ability to go at least 6 months without a paycheck without having to hock their furniture.

Of course the HELOC seems to be the preferred source of liquidity nowadays, but it is only as secure as the equity is. Equity is more volatile than cash.

Posted by: Robert Duquette at August 30, 2005 9:33 AM
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