Economics Reporting Review Week of March 31 to April 6 By: DEAN BAKER OUTSTANDING STORIES OF THE WEEK "For the Boss, Happy Days Are Still Here," by David Leonhardt in the New York Times, April 1, 2001, Section 4, page 1. "Leaving Shareholders in the Dust," by David Leonhardt in the New York Times, April 1, 2001, Section 4, page 1. "CEO's Compensation Remains at Record High Despite Plunging Stock Prices," by Kathleen Day in the Washington Post, March 31, 2001, page H1. These articles examine patterns in CEO pay over the last year. They point out that CEO pay has continued to rise rapidly, even as the stock market has plummeted. Earlier in the decade, CEOs of major corporations enjoyed huge increases in compensation largely as a result of the fact that they were paid primarily in stock options and the stock market was soaring. At that time their high pay was rationalized by the fact they were making even more money for shareholders. Now that the stock market run-up is being reversed, companies are paying CEOs directly in stock or re-pricing options so that they are continuing to get very high salaries, even though they are losing stockholders trillions of dollars. "Argentina's Economic Woes Devastate Its Middle Class," by Anthony Faiola in the Washington Post, April 3, 2001, page A12. This article reports on the impact of Argentina's prolonged economic downturn on its middle class. "Mired in Debt and Seeking a Path Out," by Peter T. Kilborn in the New York Times, April 1, 2001, Section 1, page 1. This article examines the situations of some of the families that have declared bankruptcy in recent years. It points out that most of these families were forced to declare bankruptcies as a result of health problems or losing a job. Families that simply run up large debts that they subsequently can't pay appear to be exceptions. GREENSPAN AND THE ECONOMY "Once Unthinkable, Criticism Is Raised Against Greenspan," by Richard W. Stevenson in the New York Times, April 2, 2001, page A1. This article discusses the drop in Federal Reserve Board Chairman Alan Greenspan's stature as a result of the recent downturn in the stock market and the slowdown in the economy. The article presents some of the criticisms that have been raised against Greenspan in recent months, including that he failed to take action to stem the growth of a stock market bubble. In Greenspan's defense, the article asserts that Greenspan felt that he should not put his own assessment of the stock market ahead of the beliefs of millions of individuals investors, and therefore it could not be determined that the market had a bubble. If Greenspan had this sort of deference to the views of investors in the market, then he must have also accepted the views about the economy that were implied by stock prices. It would have been necessary for the economy to sustain real growth rates of more than 5 percent annually for the indefinite future in order to rationalize the prices that the stock market hit at its peak in early 2000. Greenspan never publicly indicated that he thought such growth rates were a realistic possibility, and in fact suggested that the maximum sustainable growth rate was in the 3.5 to 4.0 percent range. His rationale for raising rates was that the 4.0 to 5.0 percent growth rate of 1999-2000 was too fast and could not be sustained. The article also implies that Greenspan's only tool to attack the stock market bubble was raising interest rates. The Federal Reserve Board directly controls the margin requirement, the amount of collateral that investors must put up when buying stock on credit. If Greenspan had raised the margin requirement, it would have sent a powerful message to the market, in addition to making it more difficult to buy stock on credit. Greenspan probably could have also prevented the bubble simply by talking about it. He is enormously respected in financial circles. The existence of a stock bubble could be demonstrated with simple arithmetic. (The dividend yield had fallen so much due to higher price-to-earnings ratios, that stocks could not possibly give a reasonable return, based on plausible projections of profit growth.) If Greenspan made a clear demonstration of the basic facts in his congressional testimony, the bubble would probably never have grown to the extent that it did in the last four years. THE STOCK MARKET "Stocks End Gloomy First Quarter as Investors Look to Next," by Alex Berenson in the New York Times, March 31, 2001, page B1. This article reports on the stock market's poor performance in the first quarter of the year. At one point, it presents the view of some market analysts that the stock market is likely to rebound soon, and reports their assertion that "on a price-earnings basis, the overall market is no longer expensive." According to data from the Federal Reserve Board, at the end of 2000 the total value of equities of U.S. corporations was $17.2 trillion. After-tax corporate profits for the fourth quarter were $647 billion (at an annualized rate) making the price to earnings ratio 26.5. The market fell by approximately 15 percent in the first quarter, which means that the current price to earnings ratio would be 22.6, assuming earnings have not changed. Historically, the price-to-earnings ratio has averaged 14.5. This means that stock prices would have to fall by another 35 percent to restore their historic relationship with corporate earnings. "A Plan for Growth and Income," by Stan Hinden in the Washington Post, April 1, 2001, page H1. This article gives investment advice to new retirees. It recommends that people keep their money in the stock market, commenting at one point that "when you sell at the bottom, you lock in losses." The article does not indicate how it has determined that current stock prices are a bottom. Since current price-to-earnings ratios are still approximately 35 percent higher than their historic average, it is reasonable to conclude that stocks are still highly over- valued. At another point, it refers to what stock prices will do over the next 15 or 20 years: "history is clear on this point. Sooner or later, stocks will recover and prices will rise." Actually, history (and arithmetic) show the opposite. When people buy into a bubble, for example the Japanese market in 1989 or the U.S. market in 1929, they can easily go 20 years without recovering their money. With current stock prices and dividend yields, and the generally accepted projections for future economic growth, it is virtually impossible to project a path of stock market returns that will significantly exceed the returns on government bonds over the next 15 to 20 years. GLOBAL WARMING "Hemisphere Conference Ends In Discord on Global Warming," by Douglas Jehl in the New York Times, March 31, 2001, page A9. This article reports on a conference of environmental ministers from the western hemisphere. At one point it refers to the collapse of international negotiations in The Hague on controlling climate change. It attributes this collapse to "Europe's refusal to accept an American-backed proposal allowing the trading of emissions reductions." While there were disagreements over the trading system being proposed by the United States, the major obstacle to an agreement was the insistence by the United States that its emissions ceilings be increased, based on the carbon dioxide pulled out of the atmosphere by its forests and farms, as was widely reported at the time. (See "Envoys Could Not Agree on Value of Forests to World Environment," by Andrew Revkin, New York Times, November 26, 2000, Section 1, page 16; and ERR, December 4, 2000.) ENERGY EFFICIENCY REQUIREMENTS "Clinton Energy-Saving Rules Are Getting a Second Look," by Matthew L. Wald in the New York Times, March 31, 2001, page A9. This article discusses the Energy Department's review of a series of energy efficiency requirements for appliances that were put in place under the Clinton Administration. At one point the article refers to the payback time for these appliances, reporting that the appliance industry estimated that it would take 9 to 14 years for a consumer to save enough electricity to cover the additional cost of making a more efficient air conditioning system. It is worth noting that energy prices have just risen sharply in many states, for example electricity prices jumped by 46 percent in California last week. If the industry had calculated their estimates of payback periods before the latest round of price hikes, then the payback periods based on current prices would be far shorter. THE LONG-TERM BUDGET "U.S. Treasury: No Lending," by Jonathan Fuerbringer in the New York Times, April 6, 2001, page C1. This article discusses the impact that the large federal surpluses of recent years are having on the Treasury market, and the market's future, as the supply of outstanding government debt dwindles. At one point the article refers to projections from the Congressional Budget Office (CBO) and other agencies that "deficits are likely to return as the full force of these retirements [baby boomers] takes hold in the late 2020s, straining the Social Security and Medicare systems." CBO and the other agencies did not project that deficits are "likely" to return. They projected a budget scenario that assumes that the federal government never raises taxes. There has been no twenty-year period in the post-war era where the federal government did not raise taxes. For example, in the last twenty years Congress passed sets of tax increases in 1982, 1983, 1990, and 1993. CBO did not attempt to evaluate the probability of future tax increases. It simply made projections which assumed that future Congresses, unlike past Congresses, will not raise taxes in response to budgetary shortfalls. It did not claim that this scenario was likely. THE BUSH BUDGET "Budget Trims Take Parts of Clinton Vision," by Amy Goldstein and Glenn Kessler in the Washington Post, April 1, 2001, page A6. This article reports on some of the spending cuts and increases that President Bush is proposing in his budget. At one point the article reports that Bush plans to "add $25 billion to insure more poor children through Medicaid, and spend an extra $94 billion on nutrition programs for women and children." These figures presumably refer to cumulative increases over the next ten years, although this is not clear from the information presented in the article. It would also have been helpful if these and other budget numbers were expressed as a share of the budget, rather than just in dollar terms. ESTATE TAX "Black Group Seeks Repeal of Estate Tax," by Glenn Kessler in the Washington Post, April 2, 2001, page A4. "Black Business Leaders Campaign Against Estate Tax," by Irvin Molotsky in the New York Times, April 5, 2001, page A14. These articles report on the efforts of a group of black businesspeople to have the estate tax repealed. The articles note the group's claim that the tax helps widen the wealth gap between blacks and whites. While the Post article notes that the tax is only paid by 2 percent of families, neither article points out that the large disparity in wealth between whites and blacks means that a much smaller percentage of black families will be subject to the tax. It is also worth noting that the amount of an estate that is exempt from taxation is already scheduled to rise to $1 million per person ($2 million for a couple) by 2006, at which point only about 1 percent of estates would be subject to the tax. According to data from the Federal Reserve Board, the average wealth of white families is more than five times greater than the average wealth of black families (State of Working America, 2000-2001, by Mishel, Bernstein, and Schmitt, Cornell University Press, page 263). While it would be necessary to get a more detailed breakdown of the distribution of wealth among black families to know exactly how many will be subject to the estate tax, this figure suggests that it might be less than 0.2 percent of all black families. There is probably no tax that so disproportionately favors black families as the estate tax. Insofar as the revenue from this tax is replaced by taxes from another source, the net effect will be extremely detrimental to blacks. It is questionable whether this group of 49 individuals deserved the attention given to it in these articles. It is not difficult to find people who would like more money from the government. This group's main claim to notoriety appears to be that it bought ads in the New York Times and Washington Post. THE ECONOMIC OUTLOOK "Reports Offer Positive Economic News," by John M. Berry in the Washington Post, April 3, 2001, page E1. This article discusses two new economic reports, the University of Michigan's consumer confidence index and the monthly survey produced by the National Association of Purchasing Management (NAPM). The article characterizes both reports as "positive." This is a dubious characterization of the new information provided. The consumer confidence index the end of March at 91.5 was up slightly from its February level of 90.6, but it was lower than the 91.8 level that was reported for the middle of month. All of these readings are far below the peaks of last year, which were over 110.The NAPM index was 43.1, which is up slightly from the prior two months, but it still indicates that the manufacturing sector is contracting at a rapid rate. (The NAPM shows the percentage of purchasing managers that see a more positive outlook this month than the prior month. Any reading below 50 means that, on average, they see the economy as looking worse this month than last month.) COPYRIGHT PROTECTION "Harry Potter and the Court Battle Over Creativity," by David D. Kirkpatrick in the New York Times, April 1, 2001, Section 1, page 1. This article reports on the increasing number of lawsuits which contesting the ownership of popular books, movies, and songs. The article reports the views of a number of legal experts on this issue. It would have been helpful if it had also presented an economic perspective. These sorts of lawsuits are one of the sources of waste that results from copyright protection. In the absence of copyright protection, there may still be acts of plagiarism, but there would be far less incentive for plagiarism than is provided by the copyright system. There would also be no incentive to pursue frivolous lawsuits in the hope of convincing a jury or judge that one's work had been stolen. You can sign up to receive ERR via email every week at htpp://www.cepr.net/columns/subbaker.htm. You can find the latest ERR at: http://www.tompaine.com/news/2001/04/09/1.html and archived at http://www.fair.org/err/.
