Published in Standard-Examiner, Ogden, Utah, November 12, 2009.
By Vijay K. Mathur
The health insurance industry is regulated primarily by states. Over the last two decades, mandates of benefits, providers and covered persons in health insurance have proliferated. In 2008 there were 1,961 total state mandates, while Utah had only 12 mandated benefits. Mandated benefits, according to the Council for Affordable Insurance, are partly responsible for increasing the cost of basic health coverage "from a little less than 20 percent to more than 50 percent, depending on the state and its mandates." But a detailed literature review of various actuarial and statistical studies by the Rutgers Center for State Health Policy for the state of New Jersey found no clear cut evidence for an adverse effect of mandates.
Even though the evidence is murky, insurance companies have responded to cost increases of state mandates, for example, by increasing insurance premiums, deductibles, co-pays, and denying insurance for pre-existing conditions. The House bill, passed recently, contains federal-mandated benefits as well.
Aside from insurance companies and providers, most people do not raise objections against mandated benefits, providers and covered persons. To alleviate asymmetric information problems, when patients have limited information about medical procedures and quality of treatments, the states mandate benefits and quality of care. Also, certain minimum benefits and quality requirements are deemed important, because a healthy society is in the public interest.
In 1986 Congress passed the Emergency Medical Treatment and Active Labor Act (EMTALA), as part of the Omnibus Budget Reconciliation Act. It mandated that participating hospitals and ambulance services provide emergency health care to anyone needing the services. Those who accept payment from the Department of Health and Human Services, Centers of Medicare and Medicaid Services, are considered participating hospitals. Exceptions are Shriners hospitals, Veterans Affairs hospitals and Native American health service. Besides increasing cost to providers of emergency care, this mandate by EMTALA provides the incentive to people not to buy health insurance. Hence,those who are uninsured and do not have Medicare or Medicaid, and can afford to buy insurance, impose cost on others when they get sick and show up in emergency clinics. This is the "free-rider problem." The difference between this mandate and mandated benefits in health coverage, as pointed out above, is that free choice in insurance in light of EMTALA imposes cost of health care of noninsured on those who do buy health insurance.
The right of freedom of choice does not come with the right of freedom to impose cost on others of one's personal decisions. That is the reason why the House of Representatives proposed in their bill that most people have to buy health insurance. It is supported by incentives of penalties for those who do not comply and subsidies to those who cannot afford insurance as based upon the income test.
According to the Centers for Medicare and Medicaid Services (CMMS), 55 percent of emergency care is uncompensated. Kaiser Commission on Medicare and Medicaid found that in 2004 the cost of uncompensated care was $40.7 billion in community hospitals. Current Population Report (CPR) data shows that almost 75 percent of the uninsured in 2008 are within the age group of 18 to 44. If most in this younger age group were part of insurance pools, it would lower health risk factors and hence insurance premiums.
According to CPR, 38 percent of uninsured had household income of $50,000 or more in 2008. CMMS data shows that in 2006 private health insurance expenditure in the U.S. was 6.65 percent of personal income. It would be preferable that everyone must buy affordable insurance, with penalties equivalent to the annual cost of insurance -- to put some teeth in the mandate. No one should be allowed to game the system. In Switzerland cash subsidies are provided to people when insurance expenditure is more than 8 percent of personal income, but the health care system produces better health outcomes with lower per capita expenditure than the U.S. To implement the subsidy cut off point in the U.S., the Swiss model could be used as a benchmark for personal spending on health insurance by all earning Americans, including the uninsured.
The contemplated Senate bill provides an option for states to opt out of the national public health insurance plan. Differences in state plans will result in inequities in insurance coverage. The cost to taxpayers will increase due to the duplication of insurance plans at the federal and state levels. Moreover, differences in state plans will make them less portable across state lines. Lack of portability deters mobility of labor and hence disrupts efficient functioning of labor markets. The mandated federal public option will be more cost effective and equitable.
It is hoped that the legislators are paying attention to the best features of the Swiss and Dutch models and design an efficient and equitable health care system which elicits responsible behavior from Americans.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also adjunct professor of economics at Weber State University. He resides in Ogden.
Thursday, November 19, 2009
Thursday, October 22, 2009
Spending priorities to build a solid economic foundation
Published in Standard-Examiner, Ogden, Utah, October 17, 2009
By Vijay K. Mathur
It is disturbing to watch the news media and see our leaders make false and illogical statements on many of the policy issues facing the country. The economy is undergoing some fundamental economic changes. Unless we implement a strategy which builds our shattered financial and industrial base, our future will not be merciful on our standard of living. Disagreement over policies to stimulate growth and employment is expected in a democracy. However, abusive slogans, name-calling, and racial slurs only dissuade us from making sound decisions to solve problems collectively.
The U.S. faces the near-term problems of anemic economic growth and high unemployment rate and the long-term problems of depletion of human capital stock due to neglect in funding for education and diminished industrial base.
In the near term we face anemic and slow recovery. However, even if the economy's growth picks up at 2 percent to 3 percent in 2010 or 2011, according to some forecasts, the unemployment problem -- especially for young adults -- will be with us for some time to come. Federal Reserve Bank of Cleveland reports that in the Blue Chip survey 80 percent of the respondents predict that unemployment rate, which is close to 9.8 percent (not counting discouraged workers who dropped out of the labor market), "will not fall back below 7 percent until the second half of 2012 ...."
Government may have to address the problem of unemployment by implementing policies like investment tax credit and generous depreciation allowance to businesses (provided they promote investment in the U.S.), a payroll tax holiday (as recommended by former labor secretary Robert Reich) to small- and medium-size businesses, two-tier system of minimum wages, and permanent reduction in personal income tax rates for the middle class.
The service sector usually responds to the growth in manufacturing sector. From the long-run perspective, we have not made the required significant investments in new industries of the future to replace traditional manufacturing capacity. Therefore, outsourcing of manufacturing capacity would also lead to outsourcing of business and technical services over time.
If we wish to create an industrial base which carves out comparative advantage in order to compete in the world markets and solve the long term structural unemployment problem, our future lies in developing technologies, products and services in the fields of renewable energy, environment, information technologies, bio technologies, education and health care. And none of the innovations in the above areas will materialize without investment in the educational system to build human capital stock.
Many conservatives contend that the Obama administration is spearheading too many new initiatives: health care, education, cap and trade to limit CO2 emissions, renewable and alternative energy other than oil. But if one rationally examines the current economic situation facing the country, one would conclude that neglect of these issues now will haunt us in the future. Fiscal conservatives who are worried about the burden on future generations should support initiatives for long term investments now, so that we leave a prosperous economy for generations to come. Note, that besides the amount, efficient allocation of investment also matters for economic growth.
Fiscal conservatism is a virtue when the macro economy is growing and those who want to work have satisfying jobs. But when the economy is in shambles and we as a nation are determined to fight others' wars, fiscal balance is the main casualty. Fiscal stimulus to finance investment rather than current consumption is precisely the right medicine at this point in the economy, even with the rise in deficits, because the economic consequences of postponing such investment could be disastrous. The benefit-payoff of investments, especially in new technologies and new products' development and in education, has a long lead time. Hence, it requires patience and sacrifice of current consumption.
We are still enjoying the benefits of the innovation of electricity in 1880, investment in highway network in the 50s, public investment in Internet technology in 1969. Due to high risks involved in investments like basic science and technologies, education, renewable energy, power network, transportation systems, environment and health care, it will require a private-public partnership. In addition, a concerted effort has to be made by the private sector in partnership with the public sector to facilitate commercialization of technologies to build the industrial base.
I hope that our political leaders provide accurate information to the voters about the perils our economy faces and sacrifices they have to make to build a strong economic foundation that can support sustainable economic growth. Growth with prosperity shared by all Americans in the near term and in the future, will assure us economic, social and political stability. In addition, as Professor Benjamin Friedman of Harvard would argue, an added advantage of shared prosperity due to economic growth is that it makes a society more tolerant.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also adjunct professor of economics at Weber State University, Ogden, Utah. He resides in Ogden.
By Vijay K. Mathur
It is disturbing to watch the news media and see our leaders make false and illogical statements on many of the policy issues facing the country. The economy is undergoing some fundamental economic changes. Unless we implement a strategy which builds our shattered financial and industrial base, our future will not be merciful on our standard of living. Disagreement over policies to stimulate growth and employment is expected in a democracy. However, abusive slogans, name-calling, and racial slurs only dissuade us from making sound decisions to solve problems collectively.
The U.S. faces the near-term problems of anemic economic growth and high unemployment rate and the long-term problems of depletion of human capital stock due to neglect in funding for education and diminished industrial base.
In the near term we face anemic and slow recovery. However, even if the economy's growth picks up at 2 percent to 3 percent in 2010 or 2011, according to some forecasts, the unemployment problem -- especially for young adults -- will be with us for some time to come. Federal Reserve Bank of Cleveland reports that in the Blue Chip survey 80 percent of the respondents predict that unemployment rate, which is close to 9.8 percent (not counting discouraged workers who dropped out of the labor market), "will not fall back below 7 percent until the second half of 2012 ...."
Government may have to address the problem of unemployment by implementing policies like investment tax credit and generous depreciation allowance to businesses (provided they promote investment in the U.S.), a payroll tax holiday (as recommended by former labor secretary Robert Reich) to small- and medium-size businesses, two-tier system of minimum wages, and permanent reduction in personal income tax rates for the middle class.
The service sector usually responds to the growth in manufacturing sector. From the long-run perspective, we have not made the required significant investments in new industries of the future to replace traditional manufacturing capacity. Therefore, outsourcing of manufacturing capacity would also lead to outsourcing of business and technical services over time.
If we wish to create an industrial base which carves out comparative advantage in order to compete in the world markets and solve the long term structural unemployment problem, our future lies in developing technologies, products and services in the fields of renewable energy, environment, information technologies, bio technologies, education and health care. And none of the innovations in the above areas will materialize without investment in the educational system to build human capital stock.
Many conservatives contend that the Obama administration is spearheading too many new initiatives: health care, education, cap and trade to limit CO2 emissions, renewable and alternative energy other than oil. But if one rationally examines the current economic situation facing the country, one would conclude that neglect of these issues now will haunt us in the future. Fiscal conservatives who are worried about the burden on future generations should support initiatives for long term investments now, so that we leave a prosperous economy for generations to come. Note, that besides the amount, efficient allocation of investment also matters for economic growth.
Fiscal conservatism is a virtue when the macro economy is growing and those who want to work have satisfying jobs. But when the economy is in shambles and we as a nation are determined to fight others' wars, fiscal balance is the main casualty. Fiscal stimulus to finance investment rather than current consumption is precisely the right medicine at this point in the economy, even with the rise in deficits, because the economic consequences of postponing such investment could be disastrous. The benefit-payoff of investments, especially in new technologies and new products' development and in education, has a long lead time. Hence, it requires patience and sacrifice of current consumption.
We are still enjoying the benefits of the innovation of electricity in 1880, investment in highway network in the 50s, public investment in Internet technology in 1969. Due to high risks involved in investments like basic science and technologies, education, renewable energy, power network, transportation systems, environment and health care, it will require a private-public partnership. In addition, a concerted effort has to be made by the private sector in partnership with the public sector to facilitate commercialization of technologies to build the industrial base.
I hope that our political leaders provide accurate information to the voters about the perils our economy faces and sacrifices they have to make to build a strong economic foundation that can support sustainable economic growth. Growth with prosperity shared by all Americans in the near term and in the future, will assure us economic, social and political stability. In addition, as Professor Benjamin Friedman of Harvard would argue, an added advantage of shared prosperity due to economic growth is that it makes a society more tolerant.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also adjunct professor of economics at Weber State University, Ogden, Utah. He resides in Ogden.
Sunday, October 4, 2009
Impact negligible from malpractice cap
Published in Standard-Examiner, Ogden, Utah, October,3,2009
By Vijay K. Mathur
In the current debate on health care reform some people are critical of the Congress and the President for not paying much attention to medical malpractice tort liability reform. Some claim that we have reached a crisis in medical tort liability. Even though others dispute the crisis claim, there is no denying the fact that medical malpractice tort liability reform should be an essential part of health care reform. It must also be recognized that national caps on non-economic damage awards will neither remedy frequency of malpractice law suits nor will it solve the overall problems in health care.
Tort liability law is mainly a civil law and is based upon common law tort system. If the patient is harmed by the negligent behavior of a physician or other medical care provider, the victim is entitled to recover for all losses, both financial and for pain and suffering. Financial losses include medical and household expenses and lost earnings. Pain and suffering include loss of enjoyment of life of the patient and the family due to disability. The most heated debate is on the magnitude of claims for pain and suffering. The current law is tort-fault liability law, as opposed to no-fault liability (strict liability) law (as in New Zealand) and a very limited no-fault law applicable to infants in the states of Virginia and Florida.
Many Republican politicians, including Senator Hatch of Utah, and many physician groups argue that huge damage awards are driving the insurance cost of health care providers and the cost of health care due to the practice of defensive medicine. Therefore, to deal with this problem they are proposing a federal cap on damage awards, especially for pain and suffering, to a maximum of $250,000. California was the first to cap such damage awards to $250,000 in 1972 and now 30 other states have such caps.
Using data from National Practitioners Data Bank, the study by A. Chandra, S. Nundy and S. Seabury in the journal Health Affairs, May 31, 2005, finds that the inflation adjusted average payment amount (court judgments and out of court settlements) increased from $173,018 to $263,101 (average growth of 3.55 percent per year), and the average payment amount for top 10 percent of all payments increased from $867,792 to $1,155,031 (average growth of 2.41 percent per year) from 1991 to 2003. These estimates are not indicative of a crisis requiring Federal intervention.
Estimates also show that defensive medicine accounts for only 5 percent to 9 percent of total health care cost. This wide range indicates that it is hard to measure defensive medicine. There is a great deal of variation in procedures and medical tests among physicians, states, and regions of states and partly because of widespread variation in medical practice guidelines. Perhaps national uniformity in up-to-date guidelines would help mitigate this problem. Moreover, emphasis on diagnostic techniques based upon new but expansive technologies has substituted diagnostic skills of physicians. Emphasis on diagnostic skills in medical schools would curtail the use of tests and cost of health care.
The current tort liability system has not deterred the medical error rate. The Institute of Medicine's 2000 report found 44,000 to 98,000 hospital deaths per year due to medical errors. The consensus evidence is that medical malpractice problem is driven partly by extreme claims cost, insurance premiums driven by poor returns on investment of insurance premiums, and by poor pricing strategies of insurance companies. A cap on non-economic damage awards will not significantly reduce the cost of malpractice insurance for certain medical specialties and thus health care cost.
There are a few other issues which must also be considered. First, medical malpractice problem is concentrated in a few states; 50 percent of total paid claims in the U.S. were concentrated in 8 States in 2007. Second, the problem varies among specialties. It is more severe, for example, in surgery and obstetrics-gynecology, where insurance premiums have skyrocketed since 1960's. Third, The New York Times reported in 2005 that the study of 22 states for the years 1992, 1996 and 2001 by Professor Catherine Sharkey, Columbia Law School, found no significant difference in average damage awards among states with or without caps -- perhaps a result of change in tactics by plaintiff lawyers. Fourth, a cap on non-economic damages may discriminate against stay-at-home mothers or fathers, who have no work history, lower income people and/ or poor. In fact, lawyers may not even take legitimate malpractice cases for such people. Finally, a national cap would violate state control of tort law, thus breaking historical tradition.
States primarily regulate malpractice insurance and implement rules governing tort liability law. Therefore, a call for a national cap is unwarranted. Rather, federal guidance and help to states in handling malpractice issues would be more productive. Successful outcomes of ongoing experiments in states may show us the path to an efficient solution to this problem without national legislation on caps.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also adjunct professor of economics at Weber State University, Ogden. He resides in Ogden. His articles also appear at vijaykmathur.blogspot.com
By Vijay K. Mathur
In the current debate on health care reform some people are critical of the Congress and the President for not paying much attention to medical malpractice tort liability reform. Some claim that we have reached a crisis in medical tort liability. Even though others dispute the crisis claim, there is no denying the fact that medical malpractice tort liability reform should be an essential part of health care reform. It must also be recognized that national caps on non-economic damage awards will neither remedy frequency of malpractice law suits nor will it solve the overall problems in health care.
Tort liability law is mainly a civil law and is based upon common law tort system. If the patient is harmed by the negligent behavior of a physician or other medical care provider, the victim is entitled to recover for all losses, both financial and for pain and suffering. Financial losses include medical and household expenses and lost earnings. Pain and suffering include loss of enjoyment of life of the patient and the family due to disability. The most heated debate is on the magnitude of claims for pain and suffering. The current law is tort-fault liability law, as opposed to no-fault liability (strict liability) law (as in New Zealand) and a very limited no-fault law applicable to infants in the states of Virginia and Florida.
Many Republican politicians, including Senator Hatch of Utah, and many physician groups argue that huge damage awards are driving the insurance cost of health care providers and the cost of health care due to the practice of defensive medicine. Therefore, to deal with this problem they are proposing a federal cap on damage awards, especially for pain and suffering, to a maximum of $250,000. California was the first to cap such damage awards to $250,000 in 1972 and now 30 other states have such caps.
Using data from National Practitioners Data Bank, the study by A. Chandra, S. Nundy and S. Seabury in the journal Health Affairs, May 31, 2005, finds that the inflation adjusted average payment amount (court judgments and out of court settlements) increased from $173,018 to $263,101 (average growth of 3.55 percent per year), and the average payment amount for top 10 percent of all payments increased from $867,792 to $1,155,031 (average growth of 2.41 percent per year) from 1991 to 2003. These estimates are not indicative of a crisis requiring Federal intervention.
Estimates also show that defensive medicine accounts for only 5 percent to 9 percent of total health care cost. This wide range indicates that it is hard to measure defensive medicine. There is a great deal of variation in procedures and medical tests among physicians, states, and regions of states and partly because of widespread variation in medical practice guidelines. Perhaps national uniformity in up-to-date guidelines would help mitigate this problem. Moreover, emphasis on diagnostic techniques based upon new but expansive technologies has substituted diagnostic skills of physicians. Emphasis on diagnostic skills in medical schools would curtail the use of tests and cost of health care.
The current tort liability system has not deterred the medical error rate. The Institute of Medicine's 2000 report found 44,000 to 98,000 hospital deaths per year due to medical errors. The consensus evidence is that medical malpractice problem is driven partly by extreme claims cost, insurance premiums driven by poor returns on investment of insurance premiums, and by poor pricing strategies of insurance companies. A cap on non-economic damage awards will not significantly reduce the cost of malpractice insurance for certain medical specialties and thus health care cost.
There are a few other issues which must also be considered. First, medical malpractice problem is concentrated in a few states; 50 percent of total paid claims in the U.S. were concentrated in 8 States in 2007. Second, the problem varies among specialties. It is more severe, for example, in surgery and obstetrics-gynecology, where insurance premiums have skyrocketed since 1960's. Third, The New York Times reported in 2005 that the study of 22 states for the years 1992, 1996 and 2001 by Professor Catherine Sharkey, Columbia Law School, found no significant difference in average damage awards among states with or without caps -- perhaps a result of change in tactics by plaintiff lawyers. Fourth, a cap on non-economic damages may discriminate against stay-at-home mothers or fathers, who have no work history, lower income people and/ or poor. In fact, lawyers may not even take legitimate malpractice cases for such people. Finally, a national cap would violate state control of tort law, thus breaking historical tradition.
States primarily regulate malpractice insurance and implement rules governing tort liability law. Therefore, a call for a national cap is unwarranted. Rather, federal guidance and help to states in handling malpractice issues would be more productive. Successful outcomes of ongoing experiments in states may show us the path to an efficient solution to this problem without national legislation on caps.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also adjunct professor of economics at Weber State University, Ogden. He resides in Ogden. His articles also appear at vijaykmathur.blogspot.com
Saturday, August 1, 2009
Cap and trade a sound market principle
Published in Standard-Examiner, July, 16, 2009
VIJAY K. MATHUR
The U.S. House of Representatives just passed cap and trade legislation limiting CO2 emissions. Opposition to this legislation misses the fundamental economic reason for cap and trade.
First, those who object to any kind of government regulation oppose the legislation because restrictions on CO2 emissions of industries using fossil fuels will impose significant cost on all of us. Second, those who are skeptics of climate change oppose it because they suspect that the legislation will not have much effect on global warming, especially when other large CO2-emitting countries like China, Russia and India will continue using fossil fuels in the foreseeable future to meet their energy needs.
Most Americans also would not be very enthusiastic about this legislation if they themselves do not see direct benefits from it. Many Americans do not realize that cap and trade policy is in their self-interest, is based upon market principles, and would directly benefit them more than the cost of such legislation.
Let me first discuss why government has to intervene by legislating CO2 emissions. There are two types of goods which we consume: private goods and public goods. Private goods benefit those who pay the price for those goods, for example, cars, food, and clothing. There is no leakage of consumption benefits to others who do not pay the price for private goods. Therefore, people who pay the price have property rights to those goods and their benefits. When property rights emerge and are enforced, markets will arise for those goods.
Private property rights can not be defined and enforced for public goods, since benefits of public goods can not be completely appropriated by persons who may be willing to pay the price. If goods are provided, it would also benefit those who do not pay for the goods. Therefore, there is no incentive for individuals to buy the goods and hence there will not be any supply of the goods. Private markets for the goods will not emerge. Hence, public goods have to be provided collectively; it implies that government has to be assigned the property rights, and it is the government that enforces and allocates those rights for all of us. For example, national defense is provided by the government because it is a public good, and our taxes support its provision.
Clean air is a public good and air pollution is a "public bad." Since government has the property right to the resource clean air on behalf of Americans, it can allow the use of that resource either by direct regulation of CO2 emissions (quantity control), or a tax-price per unit of CO2 emissions, or a combination of quantity control and a tax- price, or capping the quantity of emission rights and creating a market to regulate the allocation of rights (cap and trade). Self-interest of Americans demands that we all breathe clean air because our life depends upon it. Therefore, all of us must be willing to pay the price to obtain clean air.
Cap and trade policy is meant to create a market for CO2 emissions, where given emission rights are traded at a positive price. It is better than outright quantity control and better in many ways than a tax, because it removes uncertainty about the level of CO2 emissions, allows the market and its price mechanism to allocate rights, and as Paul Krugman argues, it is effective in achieving international cooperation. Also in a democracy, changing tax levels is time consuming if quantity goals are not met. Businesses that object to paying for emission rights want to be free riders. The public is paying for their use of the resource by tolerating depletion of air quality, property damages, and adverse health affects.
Monitoring and management costs will be minimized if this policy applies to major polluting industries. Cap and trade will cause prices of private goods to increase, but not by the full amount of the price of emission rights.
Competition in the private goods' markets will determine the extent of shifting the cost of emission rights to consumers. Substitutes emerge in the market to reduce price shifting. For example, the evidence in the case of gasoline shows that demand is very sensitive to price change in the long run, hence there is less shifting on consumers of any price increase.
Air quality is too precious a resource to waste. Utahns are frequently reminded of the scarcity of this resource with air pollution alerts. It is in the self interest of Americans to support cap and trade policy to obtain cleaner air and maintain healthy life styles.
Mathur is professor emeritus of economics at Cleveland State University, Cleveland, OH and adjunct professor of economics at Weber State University, Ogden, UT. His articles can be read at vijaykmathur.blogspot.com. He resides in Ogden.
VIJAY K. MATHUR
The U.S. House of Representatives just passed cap and trade legislation limiting CO2 emissions. Opposition to this legislation misses the fundamental economic reason for cap and trade.
First, those who object to any kind of government regulation oppose the legislation because restrictions on CO2 emissions of industries using fossil fuels will impose significant cost on all of us. Second, those who are skeptics of climate change oppose it because they suspect that the legislation will not have much effect on global warming, especially when other large CO2-emitting countries like China, Russia and India will continue using fossil fuels in the foreseeable future to meet their energy needs.
Most Americans also would not be very enthusiastic about this legislation if they themselves do not see direct benefits from it. Many Americans do not realize that cap and trade policy is in their self-interest, is based upon market principles, and would directly benefit them more than the cost of such legislation.
Let me first discuss why government has to intervene by legislating CO2 emissions. There are two types of goods which we consume: private goods and public goods. Private goods benefit those who pay the price for those goods, for example, cars, food, and clothing. There is no leakage of consumption benefits to others who do not pay the price for private goods. Therefore, people who pay the price have property rights to those goods and their benefits. When property rights emerge and are enforced, markets will arise for those goods.
Private property rights can not be defined and enforced for public goods, since benefits of public goods can not be completely appropriated by persons who may be willing to pay the price. If goods are provided, it would also benefit those who do not pay for the goods. Therefore, there is no incentive for individuals to buy the goods and hence there will not be any supply of the goods. Private markets for the goods will not emerge. Hence, public goods have to be provided collectively; it implies that government has to be assigned the property rights, and it is the government that enforces and allocates those rights for all of us. For example, national defense is provided by the government because it is a public good, and our taxes support its provision.
Clean air is a public good and air pollution is a "public bad." Since government has the property right to the resource clean air on behalf of Americans, it can allow the use of that resource either by direct regulation of CO2 emissions (quantity control), or a tax-price per unit of CO2 emissions, or a combination of quantity control and a tax- price, or capping the quantity of emission rights and creating a market to regulate the allocation of rights (cap and trade). Self-interest of Americans demands that we all breathe clean air because our life depends upon it. Therefore, all of us must be willing to pay the price to obtain clean air.
Cap and trade policy is meant to create a market for CO2 emissions, where given emission rights are traded at a positive price. It is better than outright quantity control and better in many ways than a tax, because it removes uncertainty about the level of CO2 emissions, allows the market and its price mechanism to allocate rights, and as Paul Krugman argues, it is effective in achieving international cooperation. Also in a democracy, changing tax levels is time consuming if quantity goals are not met. Businesses that object to paying for emission rights want to be free riders. The public is paying for their use of the resource by tolerating depletion of air quality, property damages, and adverse health affects.
Monitoring and management costs will be minimized if this policy applies to major polluting industries. Cap and trade will cause prices of private goods to increase, but not by the full amount of the price of emission rights.
Competition in the private goods' markets will determine the extent of shifting the cost of emission rights to consumers. Substitutes emerge in the market to reduce price shifting. For example, the evidence in the case of gasoline shows that demand is very sensitive to price change in the long run, hence there is less shifting on consumers of any price increase.
Air quality is too precious a resource to waste. Utahns are frequently reminded of the scarcity of this resource with air pollution alerts. It is in the self interest of Americans to support cap and trade policy to obtain cleaner air and maintain healthy life styles.
Mathur is professor emeritus of economics at Cleveland State University, Cleveland, OH and adjunct professor of economics at Weber State University, Ogden, UT. His articles can be read at vijaykmathur.blogspot.com. He resides in Ogden.
Saturday, July 4, 2009
Health care reform can be a net win for all parties
Published in Standard-Examiner, August 1, 2008
Vijay K. Mathur
During President Bill Clinton’s administration health care controversy began with an intelligent and serious debate among its supporters and opponents about the merits and demerits of the proposal to reform health care. However, as time progressed the debate degenerated into a politicized, “caricaturized” circus sideshow with Harry and Louise in a television commercial as its main characters.
Interest groups championing their own self interests lost sight of the main issues in the debate, like how to provide health insurance, quality medical care, drugs at a reasonable price. My intent here is to point out that the parties involved in the debate and the general electorate must take lessons from the “prisoners’ dilemma game” so that they do not repeat the same mistakes when the new President takes over and makes a health care reform proposal.
Game theory – a branch of mathematics – is the study of conflict and strategic interactions between thoughtful, rational, “untrusting”, and sometimes deceitful and uncooperative opponents motivated by self interest. Prisoners’ dilemma game, an experimental game, was invented in 1950 at the Rand Corporation. Simply put, the game demonstrates that self interests of two criminals, partners in a crime, who know their guilt (charged with the same crime and held separately), persuade them to adopt the strategy of confessing to the crime and thus suffering heavier punishment. Had these criminal trusted each other and adopted a cooperative strategy of not confessing to the crime, both could have gotten off with lighter sentences.
The parties in the health care reform debate are politicians, small businesses, big businesses, insurance industry, doctors, hospitals, AMA, drug industry, right-to-life and right-to choice groups, religious institutions, and other consumer groups like AARP, women’s groups and labor.
If these groups defect from the reform and pursue their self interests we will all face escalating medical care cost, insurance cost and inadequate care. Decisions based on self interests in the market place promote individual as well as society’s welfare only when private decisions do not impose significant costs or benefits on others (labeled as spillover effects). Health care market fails due to spillover effects, because many individual decisions on health care impose costs and benefits on the rest of the society. For example, those who do not buy health insurance and show up in emergency care increase insurance cost of others. Hence, health care reform requires a cooperative strategy.
There are many prisoners’ dilemma games in the on-going debate. For example, small businesses do not want employer mandates, but big businesses consider them “free riders”; many religious groups would not want abortion as part of the health care or health insurance packages, but certain women’s groups would like it to be included; AMA would like its members’ merger activities and price fixing activities to be exempt from antitrust laws, but insurance industry may oppose the idea. If the parties involved do not follow a cooperative strategy, they and the general public will lose and end up facing higher costs for same or less health care.
Health care reform does not have to be a “zero sum game”, like a recreational game where one party wins and the other loses. With a cooperative strategy, reform could be a “net win” for all parties concerned, especially in the long run. In addition, unlike the prisoners’ dilemma problem where criminals have to make the decision to confess or not confess to the crime unaware of the others’ decision, the parties in the health care reform game do not face this problem. They can see the benefits of their cooperative strategy as well as the losses if any one defects.
Society is better off if all parties surrender their narrow self-interests in order to gain the security of health care at reasonable costs to all. Conservatives and liberals alike in and out of Congress have to realize that the way out of the prisoners’ dilemma is to adopt a cooperative strategy, because defection from health care reform could be tragic to the nation. Prosperity of a nation over the long run is closely tied to human capital formation, and health of the people is the primary input in that formation.
Mathur is former professor of economics and chair, and currently professor emeritus of economics in the economics department of Cleveland State University, Cleveland, Ohio. At present he resides in Ogden Utah.
Vijay K. Mathur
During President Bill Clinton’s administration health care controversy began with an intelligent and serious debate among its supporters and opponents about the merits and demerits of the proposal to reform health care. However, as time progressed the debate degenerated into a politicized, “caricaturized” circus sideshow with Harry and Louise in a television commercial as its main characters.
Interest groups championing their own self interests lost sight of the main issues in the debate, like how to provide health insurance, quality medical care, drugs at a reasonable price. My intent here is to point out that the parties involved in the debate and the general electorate must take lessons from the “prisoners’ dilemma game” so that they do not repeat the same mistakes when the new President takes over and makes a health care reform proposal.
Game theory – a branch of mathematics – is the study of conflict and strategic interactions between thoughtful, rational, “untrusting”, and sometimes deceitful and uncooperative opponents motivated by self interest. Prisoners’ dilemma game, an experimental game, was invented in 1950 at the Rand Corporation. Simply put, the game demonstrates that self interests of two criminals, partners in a crime, who know their guilt (charged with the same crime and held separately), persuade them to adopt the strategy of confessing to the crime and thus suffering heavier punishment. Had these criminal trusted each other and adopted a cooperative strategy of not confessing to the crime, both could have gotten off with lighter sentences.
The parties in the health care reform debate are politicians, small businesses, big businesses, insurance industry, doctors, hospitals, AMA, drug industry, right-to-life and right-to choice groups, religious institutions, and other consumer groups like AARP, women’s groups and labor.
If these groups defect from the reform and pursue their self interests we will all face escalating medical care cost, insurance cost and inadequate care. Decisions based on self interests in the market place promote individual as well as society’s welfare only when private decisions do not impose significant costs or benefits on others (labeled as spillover effects). Health care market fails due to spillover effects, because many individual decisions on health care impose costs and benefits on the rest of the society. For example, those who do not buy health insurance and show up in emergency care increase insurance cost of others. Hence, health care reform requires a cooperative strategy.
There are many prisoners’ dilemma games in the on-going debate. For example, small businesses do not want employer mandates, but big businesses consider them “free riders”; many religious groups would not want abortion as part of the health care or health insurance packages, but certain women’s groups would like it to be included; AMA would like its members’ merger activities and price fixing activities to be exempt from antitrust laws, but insurance industry may oppose the idea. If the parties involved do not follow a cooperative strategy, they and the general public will lose and end up facing higher costs for same or less health care.
Health care reform does not have to be a “zero sum game”, like a recreational game where one party wins and the other loses. With a cooperative strategy, reform could be a “net win” for all parties concerned, especially in the long run. In addition, unlike the prisoners’ dilemma problem where criminals have to make the decision to confess or not confess to the crime unaware of the others’ decision, the parties in the health care reform game do not face this problem. They can see the benefits of their cooperative strategy as well as the losses if any one defects.
Society is better off if all parties surrender their narrow self-interests in order to gain the security of health care at reasonable costs to all. Conservatives and liberals alike in and out of Congress have to realize that the way out of the prisoners’ dilemma is to adopt a cooperative strategy, because defection from health care reform could be tragic to the nation. Prosperity of a nation over the long run is closely tied to human capital formation, and health of the people is the primary input in that formation.
Mathur is former professor of economics and chair, and currently professor emeritus of economics in the economics department of Cleveland State University, Cleveland, Ohio. At present he resides in Ogden Utah.
Health care reform must address problems
Published in Standard-Examiner, June 30,2009, Ogden, UT
VIJAY K. MATHUR
The vigorous debate in the U.S. Congress and in the public arena seems to indicate that there are good chances of passage of a health care reform bill this year. I hope President Obama, before signing the bill, makes sure that the final bill represents reform not in name only, but as a fundamental change from the status-quo.
According to the most recent published data for 2000-2006, unadjusted for price changes, growth rate in total national health care expenditure has averaged 8 percent per year as opposed to 5 percent average growth rate of Gross Domestic Product (GDP); public expenditure grew at the rate of 8.6 percent per year. In relation to our capacity to pay, total expenditure increased from 13.8 percent to 16 percent of GDP. A report issued by the Council of Economic Advisors (CEA) on June, 2009 states that if health care cost keeps rising at historical rates, its share of GDP will reach 34 percent by 2040, an obviously unsustainable burden on the economy. Hence President Obama has stated two main goals of health care reform, 1) cost containment and 2) covering all uninsured people.
Health care faces four different market-inefficiency problems which require government intervention. Those who are fearful of encroaching socialism lack understanding of these problems. The first is "free-rider problem" where those who do not buy insurance get a free ride on emergency health care either in hospitals or in free clinics. It results in higher premiums for the insured and requires more tax revenue to support other medical care institutions supported by Medicaid funds.
Free rider problem could be mitigated if all people are required to buy insurance, the so-called mandate. Even low income household should be required to pay for insurance according to their ability to pay and the difference between the market price for insurance and their payment could be subsidized. This could ultimately eliminate the need for the Medicaid program. This universal insurance program would also ameliorate costs imposed by uninsured on insured when they spread infectious diseases.
Two other market failure problems in health care are "adverse selection" and "moral hazard." Insurance premiums increase due to adverse selection when an insurance company ends up with people in the pool who require more than average medical care. In other words, the health risk is not diversified with an appropriate mix of young and old people. Data show that during 2005-06, the highest percentage of uninsured Americans were 18 to 34 years old. On average, young people do not require more frequent medical care as do those above the age of 60. Hence, young people lack incentive to buy insurance, not only due to high cost of insurance but also because they can free ride on emergency care. A broader mix of people in the insurance pool will reduce risk and insurance premiums.
Moral hazard also contributes to higher insurance cost. If the insurance coverage is generous relative to premiums, insured people have a tendency to engage in risky behavior resulting in adverse health outcomes, e.g., smoking, obesity. If the insurance coverage is less relative to premiums, insured people will bear most of the health risk and hence will opt out of the insurance market. Thus, we will face increasing ranks of uninsured and less than efficient level of coverage for insured. Insurance companies in general pass costs of risky behavior by increasing deductibles and co-pays.
Besides deductibles and co-pays in insurance contracts, any reform proposal must relax laws so that insurance companies are encouraged to provide more positive incentives to the insured to make lifestyle changes, e.g., to reduce the incidence of cardiovascular diseases, obesity, diabetes. Even under current laws, self-insured Safeway Inc. is successful in implementing such an incentive program and reducing cost of medical care.
The last problem source is the "principal-agent" problem. A physician is supposed to be the agent of his or her patient (principal), representing the patient's interests in dispensing quality care at least cost. However, the fee-for-service compensation structure creates divergence of interests between patients and doctors, thus resulting in high cost without significant changes in the quality of medical care.
The principal-agent problem is more acute when physicians have commercial interests in clinics, hospitals and pharmaceutical companies. Evidence-based medicine, doctors on salaries, fixed payment for a bundle of services, capitated payments over a specified period of time and payments based upon health outcomes are attempts to minimize this problem and control cost. This problem also occurs when employer is the sponsor of a health insurance plan and employees have little choice in picking an insurance plan which suits their needs.
The health-exchange proposal should provide choice to all, including employers, between private and public insurance, with the added feature of portability within and across state lines. If private health insurance industry is more efficient in its service they need not fear public insurance and if they are not, they should become more efficient.
Congress must take the bold step in solving this lingering health care problem which is gradually eating away our material and human wealth.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also an adjunct professor of economics at Weber State University, Ogden, UT. He resides in Ogden, UT.
VIJAY K. MATHUR
The vigorous debate in the U.S. Congress and in the public arena seems to indicate that there are good chances of passage of a health care reform bill this year. I hope President Obama, before signing the bill, makes sure that the final bill represents reform not in name only, but as a fundamental change from the status-quo.
According to the most recent published data for 2000-2006, unadjusted for price changes, growth rate in total national health care expenditure has averaged 8 percent per year as opposed to 5 percent average growth rate of Gross Domestic Product (GDP); public expenditure grew at the rate of 8.6 percent per year. In relation to our capacity to pay, total expenditure increased from 13.8 percent to 16 percent of GDP. A report issued by the Council of Economic Advisors (CEA) on June, 2009 states that if health care cost keeps rising at historical rates, its share of GDP will reach 34 percent by 2040, an obviously unsustainable burden on the economy. Hence President Obama has stated two main goals of health care reform, 1) cost containment and 2) covering all uninsured people.
Health care faces four different market-inefficiency problems which require government intervention. Those who are fearful of encroaching socialism lack understanding of these problems. The first is "free-rider problem" where those who do not buy insurance get a free ride on emergency health care either in hospitals or in free clinics. It results in higher premiums for the insured and requires more tax revenue to support other medical care institutions supported by Medicaid funds.
Free rider problem could be mitigated if all people are required to buy insurance, the so-called mandate. Even low income household should be required to pay for insurance according to their ability to pay and the difference between the market price for insurance and their payment could be subsidized. This could ultimately eliminate the need for the Medicaid program. This universal insurance program would also ameliorate costs imposed by uninsured on insured when they spread infectious diseases.
Two other market failure problems in health care are "adverse selection" and "moral hazard." Insurance premiums increase due to adverse selection when an insurance company ends up with people in the pool who require more than average medical care. In other words, the health risk is not diversified with an appropriate mix of young and old people. Data show that during 2005-06, the highest percentage of uninsured Americans were 18 to 34 years old. On average, young people do not require more frequent medical care as do those above the age of 60. Hence, young people lack incentive to buy insurance, not only due to high cost of insurance but also because they can free ride on emergency care. A broader mix of people in the insurance pool will reduce risk and insurance premiums.
Moral hazard also contributes to higher insurance cost. If the insurance coverage is generous relative to premiums, insured people have a tendency to engage in risky behavior resulting in adverse health outcomes, e.g., smoking, obesity. If the insurance coverage is less relative to premiums, insured people will bear most of the health risk and hence will opt out of the insurance market. Thus, we will face increasing ranks of uninsured and less than efficient level of coverage for insured. Insurance companies in general pass costs of risky behavior by increasing deductibles and co-pays.
Besides deductibles and co-pays in insurance contracts, any reform proposal must relax laws so that insurance companies are encouraged to provide more positive incentives to the insured to make lifestyle changes, e.g., to reduce the incidence of cardiovascular diseases, obesity, diabetes. Even under current laws, self-insured Safeway Inc. is successful in implementing such an incentive program and reducing cost of medical care.
The last problem source is the "principal-agent" problem. A physician is supposed to be the agent of his or her patient (principal), representing the patient's interests in dispensing quality care at least cost. However, the fee-for-service compensation structure creates divergence of interests between patients and doctors, thus resulting in high cost without significant changes in the quality of medical care.
The principal-agent problem is more acute when physicians have commercial interests in clinics, hospitals and pharmaceutical companies. Evidence-based medicine, doctors on salaries, fixed payment for a bundle of services, capitated payments over a specified period of time and payments based upon health outcomes are attempts to minimize this problem and control cost. This problem also occurs when employer is the sponsor of a health insurance plan and employees have little choice in picking an insurance plan which suits their needs.
The health-exchange proposal should provide choice to all, including employers, between private and public insurance, with the added feature of portability within and across state lines. If private health insurance industry is more efficient in its service they need not fear public insurance and if they are not, they should become more efficient.
Congress must take the bold step in solving this lingering health care problem which is gradually eating away our material and human wealth.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He is also an adjunct professor of economics at Weber State University, Ogden, UT. He resides in Ogden, UT.
Wednesday, June 10, 2009
An economic explanation for subsidizing FrontRunner
Published in Standard-Examiner, Ogden, UT, June 10, 2009
By VIJAY K. MATHUR
Professor Michael Ransom, in his opinion piece "The economics of FrontRunner" in the Standard-Examiner on May 9, came to the conclusion that "riders are subsidized to the tune of $1000 to $1500 per month, depending upon what we think ridership actually is." This estimate of the subsidy is based upon the difference between the monthly pass price of $162 and the average monthly roundtrip total cost per rider (consisting of capital cost and operational cost) of $1144 to $1850. Professor Ransom questions the benefits of FrontRunner to Utahns given the magnitude of the subsidy and hence does not consider it as sound economic investment. There are others who concur with Professor Ransom's point of view.
My purpose here is not to debate the cost estimates of Professor Ransom but to point out that there are economic justifications for subsidizing FrontRunner. Mass transit system is like a natural monopoly, in the same sense as a local public utility. In order to make the case for subsidy, the notion of natural monopoly and its cost characteristics need to be clarified. A natural monopoly can supply the product or service to the entire market at a lower cost, as opposed to the cost in a market structure consisting of many competing firms.
Natural monopoly arises when there are economies of scale. The scale economies in a mass transit system result primarily due to very high capital cost of building a heavy rail system (a cost which is invariant to the level of ridership) and very low marginal cost (additional cost per additional rider). In the case of FrontRunner, capital cost was very large but additional cost per extra rider is relatively low.
Therefore, with scale economies cost per rider (average cost) and marginal cost decline as the number of riders on FrontRunner increase. However, marginal cost falls more than the decline in average cost as ridership increases.
The question is, do we have to subsidize ridership on FrontRunner? If FrontRunner charges a price based upon average cost as implied by Professor Ransom, there will not by any need for subsidy; however at that price it would be operating the service at an economically inefficient level.
The most well understood economic principle is that a company should produce that level of output or service where the marginal benefit to the consumer is the same as marginal cost. In the FrontRunner case economic efficiency requires a level of ridership where the price (marginal benefit) is equal to marginal cost, and since marginal cost is lower than the average cost per rider, the subsidy per rider is equal to the difference between average and marginal costs.
The subsidy level would in general increase if ridership demand falls due, for example, to the decrease in gasoline prices, as is currently the case. The fact remains that as long as marginal cost is below the average cost per rider, subsidy is economically justified.
External benefits provided by FrontRunner riders is another reason for a subsidy to FrontRunner. Drivers on our highway system not only incur private costs of driving their automobiles, e.g., fuel cost, finance charges, insurance costs, maintenance and repair costs, but they also cause external costs like congestion cost (other drivers' time lost in delays during peak hours) and pollution cost associated with air, water and noise pollution. For example, passenger vehicles are estimated to contribute almost two-thirds of the total CO2 emissions of the transportation sector. Automobile travel is underpriced because the average highway commuter does not pay for these external costs.
The case for FrontRunner is further strengthened if one adds other costs, such as costs associated with violence due to road rage, damages to property and loss of life due to highway accidents during peak and off-peak times. In Utah 287 people were killed in motor vehicle crashes in 2006, a 1.8 percent increase from 2005.
Riders on FrontRunner provide benefits to motor vehicle drivers and others in the form of reduction in congestion, pollution and traffic accident costs.
Therefore, economic efficiency requires that motor vehicle commuters and others pay a higher tax on gasoline. The tax revenue can be used to subsidize FrontRunner.
FrontRunner is a significant asset both to the counties involved and to the state of Utah because it complements the general transportation network. In order to provide transportation service at minimum social cost, it should be supported and expanded to meet current as well as future growth in demand.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University in Cleveland, Ohio. He is also an adjunct professor of economics at Weber State University, Ogden, UT. His articles can also read at vijaykmathur.blogspot.com. He resides in Ogden.
By VIJAY K. MATHUR
Professor Michael Ransom, in his opinion piece "The economics of FrontRunner" in the Standard-Examiner on May 9, came to the conclusion that "riders are subsidized to the tune of $1000 to $1500 per month, depending upon what we think ridership actually is." This estimate of the subsidy is based upon the difference between the monthly pass price of $162 and the average monthly roundtrip total cost per rider (consisting of capital cost and operational cost) of $1144 to $1850. Professor Ransom questions the benefits of FrontRunner to Utahns given the magnitude of the subsidy and hence does not consider it as sound economic investment. There are others who concur with Professor Ransom's point of view.
My purpose here is not to debate the cost estimates of Professor Ransom but to point out that there are economic justifications for subsidizing FrontRunner. Mass transit system is like a natural monopoly, in the same sense as a local public utility. In order to make the case for subsidy, the notion of natural monopoly and its cost characteristics need to be clarified. A natural monopoly can supply the product or service to the entire market at a lower cost, as opposed to the cost in a market structure consisting of many competing firms.
Natural monopoly arises when there are economies of scale. The scale economies in a mass transit system result primarily due to very high capital cost of building a heavy rail system (a cost which is invariant to the level of ridership) and very low marginal cost (additional cost per additional rider). In the case of FrontRunner, capital cost was very large but additional cost per extra rider is relatively low.
Therefore, with scale economies cost per rider (average cost) and marginal cost decline as the number of riders on FrontRunner increase. However, marginal cost falls more than the decline in average cost as ridership increases.
The question is, do we have to subsidize ridership on FrontRunner? If FrontRunner charges a price based upon average cost as implied by Professor Ransom, there will not by any need for subsidy; however at that price it would be operating the service at an economically inefficient level.
The most well understood economic principle is that a company should produce that level of output or service where the marginal benefit to the consumer is the same as marginal cost. In the FrontRunner case economic efficiency requires a level of ridership where the price (marginal benefit) is equal to marginal cost, and since marginal cost is lower than the average cost per rider, the subsidy per rider is equal to the difference between average and marginal costs.
The subsidy level would in general increase if ridership demand falls due, for example, to the decrease in gasoline prices, as is currently the case. The fact remains that as long as marginal cost is below the average cost per rider, subsidy is economically justified.
External benefits provided by FrontRunner riders is another reason for a subsidy to FrontRunner. Drivers on our highway system not only incur private costs of driving their automobiles, e.g., fuel cost, finance charges, insurance costs, maintenance and repair costs, but they also cause external costs like congestion cost (other drivers' time lost in delays during peak hours) and pollution cost associated with air, water and noise pollution. For example, passenger vehicles are estimated to contribute almost two-thirds of the total CO2 emissions of the transportation sector. Automobile travel is underpriced because the average highway commuter does not pay for these external costs.
The case for FrontRunner is further strengthened if one adds other costs, such as costs associated with violence due to road rage, damages to property and loss of life due to highway accidents during peak and off-peak times. In Utah 287 people were killed in motor vehicle crashes in 2006, a 1.8 percent increase from 2005.
Riders on FrontRunner provide benefits to motor vehicle drivers and others in the form of reduction in congestion, pollution and traffic accident costs.
Therefore, economic efficiency requires that motor vehicle commuters and others pay a higher tax on gasoline. The tax revenue can be used to subsidize FrontRunner.
FrontRunner is a significant asset both to the counties involved and to the state of Utah because it complements the general transportation network. In order to provide transportation service at minimum social cost, it should be supported and expanded to meet current as well as future growth in demand.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University in Cleveland, Ohio. He is also an adjunct professor of economics at Weber State University, Ogden, UT. His articles can also read at vijaykmathur.blogspot.com. He resides in Ogden.
Monday, May 18, 2009
It's the wrong time for 'tea parties'
Published in Standard-Examiner, Ogden, UT, May 17, 2009
By Vijay K. Mathur
It is ironic that the tea party movement is taking place now when our country is facing a severe financial crisis, housing market collapse and worst recession in memory. The main grievances of the political leaders of the movement, like former House majority leader Dick Army and other conservative tea-party-leaders, are not clear.
The catch phrases heard in the news media are burden of national debt on children, less tax and spending and limited government. These phrases may sound appealing to those hurt by the current recession and/or sympathetic to conservative causes. However a close scrutiny of facts will show that these protests at this time represent an emotional outburst and hence can not be logically justified.
Americans should have started protesting against the national debt during the Reagan administration. During 1981-89 federal debt held by the public, as a percentage of Gross Domestic Product (GDP), increased from 26 percent to 42 percent. This upward trend in debt reversed only during Clinton administration, but gained upward momentum again under President George W. Bush; debt increased from 27.8 percent to 41.3 percent when the inflation — adjusted GDP was growing at the average rate of 2.4percent per year. This was the time to have mass rallies against debt and spending on the Iraq war and other mandated programs.
President Obama, confronted with the economic crisis and the legacy of large debt, is making a bold attempt in his proposed budget to reduce the ratio of budget deficits to GDP during the next four years. Austerity measures in the federal budget at this time could lead the economy in a downward spiral, causing more harm to future generations than the accumulation of more debt at this time. Debt will decrease once the economy is growing, and Congress uses that opportunity to make some hard choices in mandatory and discretionary spending programs, and tax havens and subsidies.
In this recession most people have realized that government has a significant role even in the market based economy and thus, requires revenues. Over time people and businesses have placed more demand on government services and support programs including national defense. Individual income tax is the largest generator of revenues followed by payroll tax and corporate income tax. The progressive nature of income tax draws the ire of many conservatives. Progressivity of the tax (marginal tax rates) increases the average tax rate (tax as proportion of income), assuming no changes in exemptions, deductions and tax credits.
Computations by the Tax Policy Center (TPC) of the Urban Institute and Brookings Institution show that marginal tax rate declined from 23.7 percent to 15 percent and average tax rate declined from 11.79 percent to 9.38 percent during Reagan administration (1981-89) for a four-person median income family at the same relative income distribution. Rates also declined for lower and higher income families. Basically, the downward trend in average tax rates for all income groups continued in all administrations since 1989.
President Obama has proposed a reduction in the tax burden on middle and lower middle income families. The proposal reverts top two marginal tax rates back to pre-2001 level, but lowers tax rates for couples earning less than $250,000 and individuals earning less than $200,000 per year. In all likelihood the average tax burden will fall. At present the grievance that Americans pay too much tax does not hold water when compared to many other countries.
As regards to direct government spending, now is the time to spend when the economy is suffering financial and housing crises and a severe recession with unemployment rate of more than 8 percent and climbing. It is hard to imagine that without fiscal and monetary policy, markets could revive themselves to full health in the foreseeable future. Some estimate full recovery in 2011. The time for reduced spending and balanced budgets will come when the economy has robust economic growth and full employment.
Since 1962 the mandatory portion of Federal government spending controlled by laws is increasing. According to TPC, in Fiscal 2007 mandatory spending, discretionary spending and interest was 53 percent, 38 percent and 9 percent respectively; of the discretionary spending 53 percent was on national defense. Hence, there is less room for spending cuts unless Congress changes and/or modifies laws and reduces defense spending. During all the Republican administrations, from Reagan in 1981 to George W. Bush in 2008, the federal budget deficit to GDP ratio has gone up significantly. It seems there is disconnect between conservative rhetoric and action.
Tea party leaders and supporters should reexamine their actions and join the current administration in implementing policies which will help this nation recover from the deep recession. Tea party time will come when the economy has fully recovered. Limited government is a fine idea as long as people and businesses are willing to diminish their expectations for government services and subsidies, and act responsibly to pay their fair share of taxes without engaging in tax-dodging behavior and seeking tax havens. As former Sen. Barry Goldwater said, “A government that is big enough to give you all you want is big enough to take it all away.”
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
By Vijay K. Mathur
It is ironic that the tea party movement is taking place now when our country is facing a severe financial crisis, housing market collapse and worst recession in memory. The main grievances of the political leaders of the movement, like former House majority leader Dick Army and other conservative tea-party-leaders, are not clear.
The catch phrases heard in the news media are burden of national debt on children, less tax and spending and limited government. These phrases may sound appealing to those hurt by the current recession and/or sympathetic to conservative causes. However a close scrutiny of facts will show that these protests at this time represent an emotional outburst and hence can not be logically justified.
Americans should have started protesting against the national debt during the Reagan administration. During 1981-89 federal debt held by the public, as a percentage of Gross Domestic Product (GDP), increased from 26 percent to 42 percent. This upward trend in debt reversed only during Clinton administration, but gained upward momentum again under President George W. Bush; debt increased from 27.8 percent to 41.3 percent when the inflation — adjusted GDP was growing at the average rate of 2.4percent per year. This was the time to have mass rallies against debt and spending on the Iraq war and other mandated programs.
President Obama, confronted with the economic crisis and the legacy of large debt, is making a bold attempt in his proposed budget to reduce the ratio of budget deficits to GDP during the next four years. Austerity measures in the federal budget at this time could lead the economy in a downward spiral, causing more harm to future generations than the accumulation of more debt at this time. Debt will decrease once the economy is growing, and Congress uses that opportunity to make some hard choices in mandatory and discretionary spending programs, and tax havens and subsidies.
In this recession most people have realized that government has a significant role even in the market based economy and thus, requires revenues. Over time people and businesses have placed more demand on government services and support programs including national defense. Individual income tax is the largest generator of revenues followed by payroll tax and corporate income tax. The progressive nature of income tax draws the ire of many conservatives. Progressivity of the tax (marginal tax rates) increases the average tax rate (tax as proportion of income), assuming no changes in exemptions, deductions and tax credits.
Computations by the Tax Policy Center (TPC) of the Urban Institute and Brookings Institution show that marginal tax rate declined from 23.7 percent to 15 percent and average tax rate declined from 11.79 percent to 9.38 percent during Reagan administration (1981-89) for a four-person median income family at the same relative income distribution. Rates also declined for lower and higher income families. Basically, the downward trend in average tax rates for all income groups continued in all administrations since 1989.
President Obama has proposed a reduction in the tax burden on middle and lower middle income families. The proposal reverts top two marginal tax rates back to pre-2001 level, but lowers tax rates for couples earning less than $250,000 and individuals earning less than $200,000 per year. In all likelihood the average tax burden will fall. At present the grievance that Americans pay too much tax does not hold water when compared to many other countries.
As regards to direct government spending, now is the time to spend when the economy is suffering financial and housing crises and a severe recession with unemployment rate of more than 8 percent and climbing. It is hard to imagine that without fiscal and monetary policy, markets could revive themselves to full health in the foreseeable future. Some estimate full recovery in 2011. The time for reduced spending and balanced budgets will come when the economy has robust economic growth and full employment.
Since 1962 the mandatory portion of Federal government spending controlled by laws is increasing. According to TPC, in Fiscal 2007 mandatory spending, discretionary spending and interest was 53 percent, 38 percent and 9 percent respectively; of the discretionary spending 53 percent was on national defense. Hence, there is less room for spending cuts unless Congress changes and/or modifies laws and reduces defense spending. During all the Republican administrations, from Reagan in 1981 to George W. Bush in 2008, the federal budget deficit to GDP ratio has gone up significantly. It seems there is disconnect between conservative rhetoric and action.
Tea party leaders and supporters should reexamine their actions and join the current administration in implementing policies which will help this nation recover from the deep recession. Tea party time will come when the economy has fully recovered. Limited government is a fine idea as long as people and businesses are willing to diminish their expectations for government services and subsidies, and act responsibly to pay their fair share of taxes without engaging in tax-dodging behavior and seeking tax havens. As former Sen. Barry Goldwater said, “A government that is big enough to give you all you want is big enough to take it all away.”
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
Sunday, April 26, 2009
Keeping deficits and debt within limits
Published in Standard-Examiner, Ogden, UT, April 7, 2009
By VIJAY K. MATHUR
The relevant part of federal public debt is privately held public debt, a concept of debt used in this discussion. It is similar to the often-used concept called "net public debt." Here I discuss the role of budget deficit in the conduct of tax and expenditure policy (fiscal policy) and its limits.
Budget deficit in any given year consists of interest payment on last year's public debt plus the difference between government spending and tax revenue net of transfer payments in the current year (called primary budget deficit if positive and surplus if negative); all variables are adjusted for inflation. Note that the official measure overstates budget deficits, not realizing that with positive inflation rate the Treasury makes payments to the debt holders with cheaper dollars.
Since the 1930s, budget deficits have been more common than surpluses. Budget deficits tend to increase in recessions and decrease in boom times. However, addition of discretionary spending in recessions and/or significant reduction in tax rates without compensating reduction in spending in boom times may aggravate the deficit problem. For example, during President Reagan's presidency (1981-89) budget deficit as a percent of Gross Domestic Product increased until 1983. But it remained significantly high in spite of the robust average economic growth of output of 3.7 percent per year during 1983-89.
It makes economic sense to balance the budget over the business cycle -- deficits during recession years and surpluses during boom times. Automatic stabilizers like income tax, payroll tax, corporate tax, unemployment compensation, Medicaid, food stamps and housing subsidies are built into the budget by law, and therefore they change with the state of the economy. For example, progressive income tax burden increases in boom times and decreases in recession years, thus providing stability to consumption expenditures and the economy. In recessions, discretionary spending and /or reduced tax rates, and automatic stabilizers contribute to budget deficits meant to boost the economy.
What is worrisome is the fact that since the 1980s deficits are not only persisting, but are increasing irrespective of the states of the economy, except during Clinton presidency. Higher debt is the result of past deficits, and therefore to stabilize debt the government must run budget surpluses equal to interest payments. However, since the economy tends to grow over time it is advisable to focus on debt to GDP ratio (debt per dollar of economy's income). A fruitful approach to understand the relationship between the debt to GDP ratio and budget deficits is proposed by economist Olivier Blanchard.
Blanchard shows that debt-GDP ratio would increase when real interest rate (adjusted for inflation) is higher than the inflation-adjusted economic growth, and/or the primary budget deficit (excluding interest payment on debt) to GDP ratio increases. During 2000-2008 privately held public debt has grown at the rate of 9 percent per year.
Using estimates from The Economist on nominal interest rate on long term Treasury bonds, inflation rate, GDP growth rate and OMB estimate of budget deficit to GDP ratio in 2009, I tentatively estimate that PHPD-GDP ratio of 41 percent in 2008 would grow to be 46 percent in 2009.
Obviously this 12 percent growth rate in the ratio cannot be sustained for a long time. Large deficits and hence debt may cause an increase in inflationary pressures and increase in interest rates, thus crowding out private investment, reducing consumption spending and economic growth, in turn making deficits as a fiscal policy tool unsustainable.
Note that using taxes as opposed to deficits to finance spending in recessions reduce consumption and work effort, thus diminishing the expansionary effect of spending on economic growth. In addition, changing tax rates from time to time to balance the budget is cumbersome and creates uncertainty in consumption and investment plans. Tax smoothing requires budget deficits in recessions and surpluses in boom times.
Obama's administration is facing a difficult task of fighting a very severe recession which requires expansionary fiscal policy and budget deficits. At the same time the President is facing the prospect of unsustainable growth in public debt. In order to decrease the budget deficits over time and therefore the debt-GDP ratio, it is crucial that:
* 1) policies in place generate robust economic growth higher than the real interest rates the Treasury has to pay to bond holders and
* 2) the federal government starts reducing over time the primary budget deficits-GDP ratio and perhaps moving toward budget surpluses when the economy is on the path of robust growth.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
By VIJAY K. MATHUR
The relevant part of federal public debt is privately held public debt, a concept of debt used in this discussion. It is similar to the often-used concept called "net public debt." Here I discuss the role of budget deficit in the conduct of tax and expenditure policy (fiscal policy) and its limits.
Budget deficit in any given year consists of interest payment on last year's public debt plus the difference between government spending and tax revenue net of transfer payments in the current year (called primary budget deficit if positive and surplus if negative); all variables are adjusted for inflation. Note that the official measure overstates budget deficits, not realizing that with positive inflation rate the Treasury makes payments to the debt holders with cheaper dollars.
Since the 1930s, budget deficits have been more common than surpluses. Budget deficits tend to increase in recessions and decrease in boom times. However, addition of discretionary spending in recessions and/or significant reduction in tax rates without compensating reduction in spending in boom times may aggravate the deficit problem. For example, during President Reagan's presidency (1981-89) budget deficit as a percent of Gross Domestic Product increased until 1983. But it remained significantly high in spite of the robust average economic growth of output of 3.7 percent per year during 1983-89.
It makes economic sense to balance the budget over the business cycle -- deficits during recession years and surpluses during boom times. Automatic stabilizers like income tax, payroll tax, corporate tax, unemployment compensation, Medicaid, food stamps and housing subsidies are built into the budget by law, and therefore they change with the state of the economy. For example, progressive income tax burden increases in boom times and decreases in recession years, thus providing stability to consumption expenditures and the economy. In recessions, discretionary spending and /or reduced tax rates, and automatic stabilizers contribute to budget deficits meant to boost the economy.
What is worrisome is the fact that since the 1980s deficits are not only persisting, but are increasing irrespective of the states of the economy, except during Clinton presidency. Higher debt is the result of past deficits, and therefore to stabilize debt the government must run budget surpluses equal to interest payments. However, since the economy tends to grow over time it is advisable to focus on debt to GDP ratio (debt per dollar of economy's income). A fruitful approach to understand the relationship between the debt to GDP ratio and budget deficits is proposed by economist Olivier Blanchard.
Blanchard shows that debt-GDP ratio would increase when real interest rate (adjusted for inflation) is higher than the inflation-adjusted economic growth, and/or the primary budget deficit (excluding interest payment on debt) to GDP ratio increases. During 2000-2008 privately held public debt has grown at the rate of 9 percent per year.
Using estimates from The Economist on nominal interest rate on long term Treasury bonds, inflation rate, GDP growth rate and OMB estimate of budget deficit to GDP ratio in 2009, I tentatively estimate that PHPD-GDP ratio of 41 percent in 2008 would grow to be 46 percent in 2009.
Obviously this 12 percent growth rate in the ratio cannot be sustained for a long time. Large deficits and hence debt may cause an increase in inflationary pressures and increase in interest rates, thus crowding out private investment, reducing consumption spending and economic growth, in turn making deficits as a fiscal policy tool unsustainable.
Note that using taxes as opposed to deficits to finance spending in recessions reduce consumption and work effort, thus diminishing the expansionary effect of spending on economic growth. In addition, changing tax rates from time to time to balance the budget is cumbersome and creates uncertainty in consumption and investment plans. Tax smoothing requires budget deficits in recessions and surpluses in boom times.
Obama's administration is facing a difficult task of fighting a very severe recession which requires expansionary fiscal policy and budget deficits. At the same time the President is facing the prospect of unsustainable growth in public debt. In order to decrease the budget deficits over time and therefore the debt-GDP ratio, it is crucial that:
* 1) policies in place generate robust economic growth higher than the real interest rates the Treasury has to pay to bond holders and
* 2) the federal government starts reducing over time the primary budget deficits-GDP ratio and perhaps moving toward budget surpluses when the economy is on the path of robust growth.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
Thursday, April 16, 2009
On Roosevelt and the Depression
Published in Standard-Examiner, Ogden, UT, March, 3, 2009
By VIJAY K. MATHUR
In the media, among both politicians and the general public, the Great Depression is a hot topic. The Great Depression accelerated in October 1929 with the stock market crash and lasted almost three and a half years.
Recently questions have been raised about the efficacy of New Deal policies under President Franklin D. Roosevelt aimed at pulling the economy out of depression. Economists Harold Cole and Lee Ohanian argued (Wall Street Journal Feb. 2) that some of the New Deal policies on prices and wages were responsible for prolonging the depression.
This skepticism about the effectiveness of the New Deal has spilled over to the current debate on the stimulus package signed by President Obama. Hence, it might be instructive to put this skepticism to the test of empirical evidence before and during the time of the New Deal.
Let me first point out that during the economic depression (1929-1933), President Hoover increased income taxes to raise revenues and pursued protectionist policies to curb imports, which led to retaliation by other countries and shrinkage of world trade.
President Roosevelt served from 1933 to 1945. Many believe that it was World War II and not Roosevelt's New Deal that got us out of the Great Depression. In order to ascertain the effectiveness of the New Deal, let us compare the evidence based upon the data on several economic indicators for the periods 1929-33 and 1933-39 (just before WWII). My main sources of the data are U.S. Bureau of Economic Analysis, Macroeconomics by Robert Gordon, American Economic History by Jonathan Hughes, and America's Greatest Depression 1929-1941 by Lester Chandler.
One of the most important indicators of economic activity is real GDP (Gross Domestic Product adjusted for prices). It measures the real value of output in the economy. Real GDP (in 1929 prices) declined from $103.7 billion in 1929 to $76.1 billion in 1933 and rose to $114 billion in 1939. Hence, the average growth rate went from negative 7.4 percent per year under Hoover (1929-33) to positive 7.1 percent per year during (1933-39) under Roosevelt.
Most official and non-official data sources, including the ones above, overestimate the unemployment rates from 1929 to 1943. Economist Michael Darby's estimates, published in the Journal of Political Economy (1976), are based on analytically sound methodology. He found that the unemployment rate peaked at 20.6 percent in 1933and declined to 11.2 percent by 1939.
Other measures of economic activity, for example, personal consumption expenditure, fixed investment, net exports (exports minus imports), and annual real earnings of employed, rose sharply during the New Deal, more than offsetting the decline between 1929 and 1933. As measured by Consumer Price Index (1929 = 100), deflation of 25 percent in Hoover's time changed to inflation of 7.4 percent during 1933-39, providing incentive for businesses to grow. In money and financial markets, money supply -- a measure of liquidity -- decreased 27 percent from 1929 to 1933 but increased 74 percent during 1933-39. Long-term interest rates also declined more during 1933-39 than during the Hoover period. Even the stock market started rebounding significantly during Roosevelt's presidency.
President Roosevelt's mistake was to support the passage of the National Industrial Recovery Act of 1933, later ruled to be unconstitutional by the Supreme Court. It was designed to reduce competition in products and labor markets. It may have contributed to slower recovery, but the economy did rebound significantly, if not completely, during 1933-39. In those days economic policy was in its infancy. However, we have learned that in recessions and/or depressions one does not fix prices and wages, raise taxes or decrease public spending.
President Obama's stimulus package is not economically ideal due to political reasons, but it is based on sounder economic principles than followed in the past. The evidence from the New Deal provides us encouragement that the stimulus, in conjunction with other policies, has a great probability of success in combating this severe recession.
It may be advisable that politicians, media pundits and many so-called experts in the media reduce their rhetoric on the stimulus package and engage in constructive criticisms and/or present alternate solutions to handle the current crisis, not based on ideology but based on robust evidence and cogent arguments. It serves no productive purpose if leaders in all walks of life and the media feed on the fear of common citizens about their well being, because it leads to a vicious circle of fear. Americans are resilient people but the resiliency should be supported, and not stymied, by the burden of fear.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
By VIJAY K. MATHUR
In the media, among both politicians and the general public, the Great Depression is a hot topic. The Great Depression accelerated in October 1929 with the stock market crash and lasted almost three and a half years.
Recently questions have been raised about the efficacy of New Deal policies under President Franklin D. Roosevelt aimed at pulling the economy out of depression. Economists Harold Cole and Lee Ohanian argued (Wall Street Journal Feb. 2) that some of the New Deal policies on prices and wages were responsible for prolonging the depression.
This skepticism about the effectiveness of the New Deal has spilled over to the current debate on the stimulus package signed by President Obama. Hence, it might be instructive to put this skepticism to the test of empirical evidence before and during the time of the New Deal.
Let me first point out that during the economic depression (1929-1933), President Hoover increased income taxes to raise revenues and pursued protectionist policies to curb imports, which led to retaliation by other countries and shrinkage of world trade.
President Roosevelt served from 1933 to 1945. Many believe that it was World War II and not Roosevelt's New Deal that got us out of the Great Depression. In order to ascertain the effectiveness of the New Deal, let us compare the evidence based upon the data on several economic indicators for the periods 1929-33 and 1933-39 (just before WWII). My main sources of the data are U.S. Bureau of Economic Analysis, Macroeconomics by Robert Gordon, American Economic History by Jonathan Hughes, and America's Greatest Depression 1929-1941 by Lester Chandler.
One of the most important indicators of economic activity is real GDP (Gross Domestic Product adjusted for prices). It measures the real value of output in the economy. Real GDP (in 1929 prices) declined from $103.7 billion in 1929 to $76.1 billion in 1933 and rose to $114 billion in 1939. Hence, the average growth rate went from negative 7.4 percent per year under Hoover (1929-33) to positive 7.1 percent per year during (1933-39) under Roosevelt.
Most official and non-official data sources, including the ones above, overestimate the unemployment rates from 1929 to 1943. Economist Michael Darby's estimates, published in the Journal of Political Economy (1976), are based on analytically sound methodology. He found that the unemployment rate peaked at 20.6 percent in 1933and declined to 11.2 percent by 1939.
Other measures of economic activity, for example, personal consumption expenditure, fixed investment, net exports (exports minus imports), and annual real earnings of employed, rose sharply during the New Deal, more than offsetting the decline between 1929 and 1933. As measured by Consumer Price Index (1929 = 100), deflation of 25 percent in Hoover's time changed to inflation of 7.4 percent during 1933-39, providing incentive for businesses to grow. In money and financial markets, money supply -- a measure of liquidity -- decreased 27 percent from 1929 to 1933 but increased 74 percent during 1933-39. Long-term interest rates also declined more during 1933-39 than during the Hoover period. Even the stock market started rebounding significantly during Roosevelt's presidency.
President Roosevelt's mistake was to support the passage of the National Industrial Recovery Act of 1933, later ruled to be unconstitutional by the Supreme Court. It was designed to reduce competition in products and labor markets. It may have contributed to slower recovery, but the economy did rebound significantly, if not completely, during 1933-39. In those days economic policy was in its infancy. However, we have learned that in recessions and/or depressions one does not fix prices and wages, raise taxes or decrease public spending.
President Obama's stimulus package is not economically ideal due to political reasons, but it is based on sounder economic principles than followed in the past. The evidence from the New Deal provides us encouragement that the stimulus, in conjunction with other policies, has a great probability of success in combating this severe recession.
It may be advisable that politicians, media pundits and many so-called experts in the media reduce their rhetoric on the stimulus package and engage in constructive criticisms and/or present alternate solutions to handle the current crisis, not based on ideology but based on robust evidence and cogent arguments. It serves no productive purpose if leaders in all walks of life and the media feed on the fear of common citizens about their well being, because it leads to a vicious circle of fear. Americans are resilient people but the resiliency should be supported, and not stymied, by the burden of fear.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
Wednesday, April 15, 2009
Clarifying certain issues related to public debt
Published in Stabdard-Examiner, Ogden, UT, March 30, 2009
By VIJAY K. MATHUR
Concern about the rising public debt is currently a hot topic. The fear and outrage against public debt is driven by misunderstanding of the role public debt plays in public policy. The historical role of public debt in financing wars is well understood, but many may not understand its role as a fiscal (tax and expenditure) policy tool of the federal government to fight depression and/or recessions.
President Franklin D. Roosevelt used it effectively for the first time to fight the Great Depression in 1930s. In this opinion piece I address certain measurement issues and matters of concern to many people about the federal debt. The issue of deficit financing as a fiscal policy tool and its limits will be discussed in another opinion article.
Let me first clarify the notion of public debt. Public debt of the federal government, as opposed to private debt, is incurred when the Treasury and other government agencies borrow money from willing private investors and public institutions by issuing securities to finance their spending. They promise to pay interest and principal at the end of the maturation period of securities of different duration. Note that the data reported by the Office of Management and Budget, Federal Reserve Board and the Treasury Bulletin are not exactly the same and are reported differently. I find Treasury data less confusing.
According to the Treasury Bulletin, March 2009, total public debt (TPD) comprises only outstanding Treasury securities, excluding securities issued by other federal agencies. In December 2008, the official TPD was $10,699.8 billion, which is 99.8 percent of the total federal government securities outstanding. The TPD is overstated by slightly over 2 percent because it is not adjusted for inflation.
Outstanding Treasury securities (TPD) are held by private parties (privately held public debt or PHPD), by the Federal Reserve System and by other intergovernmental agencies. Foreign ownership is 29.4 percent of the TPD. Many commentators and federal policy watchers tend to confuse TPD with PHPD, hence the confusion among the general public. It is more relevant to focus on the size of the PHPD ($5893.4 billion on December 2008 and overstated by 2 percent) because it is the confidence of private investors in Treasury securities that matters to the government.
Foreign ownership of PHPD (55 percent of PHPD, December 2008) is a matter of concern to many politicians and the general public. While criticizing the Omnibus Appropriations Act of 2009, Sen. Evan Bayh, D-Ind., expressed his worry in the March 4 Wall Street Journal. Even though foreign ownership represents claims on our resources and leakage of income, the benefits outweigh the cost of the leakage if debt financing is used productively. In fact, despite the current severe recession Treasury securities are still considered valuable long-term investment by both domestic and foreign investors, reflecting confidence and growth potential of our economy. Moreover, if foreign ownership is worrisome to Americans, they should save more, consume less, and invest more in physical and human capital to build this economy.
Is public debt like personal debt? The answer is no. Federal budget and the economy continue beyond our lifetimes. A politically stable and healthy economy would have the capacity to pay interest and principal on outstanding securities at maturity.
Matured securities could be paid by issuing new securities. Unlike tax financing, there is no reduction in current private consumption and saving when debt is refinanced by issuing new securities. Buyers who hold Treasury securities are asset rich and willingly sacrifice current consumption to earn a higher return in the future.
Does public debt burden future generations? If the future generation is taxed to pay for the interest and principal, their income and consumption is reduced. This represents a distribution of income from the future generation to the current generation, unless generations overlap. However, if the deficit financing is used to finance productive investment to stimulate the economy or to finance wars to secure the nation, future generations benefit from such investments and/or expenditures; hence they should be willing to pay part of the debt financing costs.
Alexander Hamilton called public debt a blessing if it is reasonable, and James Madison called it a curse. Curse or blessing, debt financing has been used in the past and will be used in the future.
It is an effective financing tool in both private and public sectors if it is used within limits of the capacity to pay debt holders.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
By VIJAY K. MATHUR
Concern about the rising public debt is currently a hot topic. The fear and outrage against public debt is driven by misunderstanding of the role public debt plays in public policy. The historical role of public debt in financing wars is well understood, but many may not understand its role as a fiscal (tax and expenditure) policy tool of the federal government to fight depression and/or recessions.
President Franklin D. Roosevelt used it effectively for the first time to fight the Great Depression in 1930s. In this opinion piece I address certain measurement issues and matters of concern to many people about the federal debt. The issue of deficit financing as a fiscal policy tool and its limits will be discussed in another opinion article.
Let me first clarify the notion of public debt. Public debt of the federal government, as opposed to private debt, is incurred when the Treasury and other government agencies borrow money from willing private investors and public institutions by issuing securities to finance their spending. They promise to pay interest and principal at the end of the maturation period of securities of different duration. Note that the data reported by the Office of Management and Budget, Federal Reserve Board and the Treasury Bulletin are not exactly the same and are reported differently. I find Treasury data less confusing.
According to the Treasury Bulletin, March 2009, total public debt (TPD) comprises only outstanding Treasury securities, excluding securities issued by other federal agencies. In December 2008, the official TPD was $10,699.8 billion, which is 99.8 percent of the total federal government securities outstanding. The TPD is overstated by slightly over 2 percent because it is not adjusted for inflation.
Outstanding Treasury securities (TPD) are held by private parties (privately held public debt or PHPD), by the Federal Reserve System and by other intergovernmental agencies. Foreign ownership is 29.4 percent of the TPD. Many commentators and federal policy watchers tend to confuse TPD with PHPD, hence the confusion among the general public. It is more relevant to focus on the size of the PHPD ($5893.4 billion on December 2008 and overstated by 2 percent) because it is the confidence of private investors in Treasury securities that matters to the government.
Foreign ownership of PHPD (55 percent of PHPD, December 2008) is a matter of concern to many politicians and the general public. While criticizing the Omnibus Appropriations Act of 2009, Sen. Evan Bayh, D-Ind., expressed his worry in the March 4 Wall Street Journal. Even though foreign ownership represents claims on our resources and leakage of income, the benefits outweigh the cost of the leakage if debt financing is used productively. In fact, despite the current severe recession Treasury securities are still considered valuable long-term investment by both domestic and foreign investors, reflecting confidence and growth potential of our economy. Moreover, if foreign ownership is worrisome to Americans, they should save more, consume less, and invest more in physical and human capital to build this economy.
Is public debt like personal debt? The answer is no. Federal budget and the economy continue beyond our lifetimes. A politically stable and healthy economy would have the capacity to pay interest and principal on outstanding securities at maturity.
Matured securities could be paid by issuing new securities. Unlike tax financing, there is no reduction in current private consumption and saving when debt is refinanced by issuing new securities. Buyers who hold Treasury securities are asset rich and willingly sacrifice current consumption to earn a higher return in the future.
Does public debt burden future generations? If the future generation is taxed to pay for the interest and principal, their income and consumption is reduced. This represents a distribution of income from the future generation to the current generation, unless generations overlap. However, if the deficit financing is used to finance productive investment to stimulate the economy or to finance wars to secure the nation, future generations benefit from such investments and/or expenditures; hence they should be willing to pay part of the debt financing costs.
Alexander Hamilton called public debt a blessing if it is reasonable, and James Madison called it a curse. Curse or blessing, debt financing has been used in the past and will be used in the future.
It is an effective financing tool in both private and public sectors if it is used within limits of the capacity to pay debt holders.
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. At present he resides in Ogden.
Sunday, April 12, 2009
Focused and robust stimulus needed for economic recovery
Published in the Standard-Examiner, Ogden, UT, Feb. 6, 2009
Recently the House of Representatives passed the $819 billion stimulus package. It contains $244 billion for tax cuts, $217 billion for state and local governments, $104 billion for infrastructure (public capital expenditures), $120 billion to provide for a safety net, $59 billion for energy-efficiency projects and $54.6 billion for expenditures on human capital (education and training). At the aggregate level a third is devoted to tax cuts of various types and the rest is for direct government spending.
In order to put this stimulus package into perspective, let me briefly point out the genesis of this financial meltdown and the severe recession that could be worse than the recession of the 1980s, which lasted 16 months from peak to trough.
The current crisis started when the housing-market bubble burst and housing prices started plunging accompanied by defaults and foreclosures. That led to the decline in mortgage based securities and other related derivatives. Banks and financial institutions, loaded with those securities, started facing mounting debt and loss of confidence in their survival; that led the investors to pull out money from these institutions, and hence the precipitous decline in stock prices followed. The decline in equity capital and the inability to raise money in the bond market led to the financial meltdown.
The financial collapse dried up the credit flows to consumers and investors and thus the financial crisis spread to the real sector, which produces goods and services. Faced with high mortgage and other debts, homeowners were unable to find refinancing, thus causing defaults and foreclosures. This was followed by decline in consumption spending, retail sales, business contraction, layoffs and increasing unemployment.
The package passed by the House addresses neither the root cause of the crisis, nor is it sufficient in amount and focused to handle the severity of the recession. I am sympathetic to the idea of income tax cuts, payroll tax cuts and spending on safety net programs, but they (excluding unemployment compensation) do not belong in the stimulus package. A separate bill could quickly deal with these taxes and safety net issues. Supply-siders' argument that income tax cuts and payroll tax cuts would provide significant stimulus to the economy is not convincingly supported by any rigorous empirical evidence.
Even though the Fed and Treasury are contemplating actions I am about to propose, I do not notice a sense of urgency. The Fed, in collaboration with the Treasury, should stop the cycle of defaults and foreclosures in the housing market by mandating banks to renegotiate home mortgage loans. They could also insure losses on new loans. A "Bank of Recovery" could be set up to buy toxic assets at book value. On Jan. 20, the Wall Street Journal reported that expected loss rate of total troubled U.S. assets is about 14 percent ($1.3 trillion); it is much smaller for U.S. banks. Buying troubled assets of banks at book value would improve balance sheets of banks and would also infuse more capital. Given these actions, the Treasury could then require banks to unfreeze credit flows from the accumulating excess reserves.
As far as the fiscal policy is concerned, I would like to see the following in the stimulus package:
* corporate tax cut for three years,
* capital gains tax holiday for three years to those who buy stocks and/or corporate bonds in 2009, which would boost equity and/or debt capital,
* continue the postponement of mandatory withdrawals from 401(k) plans for three years to stop the leakage of private capital,
* investment tax credit for new investments over three-year period,
* expanding unemployment compensation for two years,
* and investment on infrastructure, for example, highways, bridges, schools and colleges, broadband, modern electricity grid, promotion of new technologies in energy to reduce oil dependence, health care and medical care technologies, mass transit systems and modernization of airports.
Those who fear mounting deficit at this time may recall that, when the economy was growing after the 2001 recession, we were running budget deficits. This is not the time to wobble on budget deficits. This is the time to take bold action and implement a robust stimulus package. I would prefer a $3 trillion package over a three-year period, with $1 trillion for each year and three-year freeze on CEO salaries, bonuses, other perks and dividends in those businesses who receive tax credits and/or direct subsidies.
Actions in the financial sector and the real sector have to be comprehensive and aggressive, followed by regulatory supervision and enforcement. The stimulus package should stick to programs that genuinely provide jobs in the short run as well as stimulate the private sector to provide jobs in the future.
Conquering this severe recession requires calculated risktaking without fear or timidity. As Mark Twain once said, "Courage is the mastery of fear, not the absence of fear."
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He resides in Ogden.
Recently the House of Representatives passed the $819 billion stimulus package. It contains $244 billion for tax cuts, $217 billion for state and local governments, $104 billion for infrastructure (public capital expenditures), $120 billion to provide for a safety net, $59 billion for energy-efficiency projects and $54.6 billion for expenditures on human capital (education and training). At the aggregate level a third is devoted to tax cuts of various types and the rest is for direct government spending.
In order to put this stimulus package into perspective, let me briefly point out the genesis of this financial meltdown and the severe recession that could be worse than the recession of the 1980s, which lasted 16 months from peak to trough.
The current crisis started when the housing-market bubble burst and housing prices started plunging accompanied by defaults and foreclosures. That led to the decline in mortgage based securities and other related derivatives. Banks and financial institutions, loaded with those securities, started facing mounting debt and loss of confidence in their survival; that led the investors to pull out money from these institutions, and hence the precipitous decline in stock prices followed. The decline in equity capital and the inability to raise money in the bond market led to the financial meltdown.
The financial collapse dried up the credit flows to consumers and investors and thus the financial crisis spread to the real sector, which produces goods and services. Faced with high mortgage and other debts, homeowners were unable to find refinancing, thus causing defaults and foreclosures. This was followed by decline in consumption spending, retail sales, business contraction, layoffs and increasing unemployment.
The package passed by the House addresses neither the root cause of the crisis, nor is it sufficient in amount and focused to handle the severity of the recession. I am sympathetic to the idea of income tax cuts, payroll tax cuts and spending on safety net programs, but they (excluding unemployment compensation) do not belong in the stimulus package. A separate bill could quickly deal with these taxes and safety net issues. Supply-siders' argument that income tax cuts and payroll tax cuts would provide significant stimulus to the economy is not convincingly supported by any rigorous empirical evidence.
Even though the Fed and Treasury are contemplating actions I am about to propose, I do not notice a sense of urgency. The Fed, in collaboration with the Treasury, should stop the cycle of defaults and foreclosures in the housing market by mandating banks to renegotiate home mortgage loans. They could also insure losses on new loans. A "Bank of Recovery" could be set up to buy toxic assets at book value. On Jan. 20, the Wall Street Journal reported that expected loss rate of total troubled U.S. assets is about 14 percent ($1.3 trillion); it is much smaller for U.S. banks. Buying troubled assets of banks at book value would improve balance sheets of banks and would also infuse more capital. Given these actions, the Treasury could then require banks to unfreeze credit flows from the accumulating excess reserves.
As far as the fiscal policy is concerned, I would like to see the following in the stimulus package:
* corporate tax cut for three years,
* capital gains tax holiday for three years to those who buy stocks and/or corporate bonds in 2009, which would boost equity and/or debt capital,
* continue the postponement of mandatory withdrawals from 401(k) plans for three years to stop the leakage of private capital,
* investment tax credit for new investments over three-year period,
* expanding unemployment compensation for two years,
* and investment on infrastructure, for example, highways, bridges, schools and colleges, broadband, modern electricity grid, promotion of new technologies in energy to reduce oil dependence, health care and medical care technologies, mass transit systems and modernization of airports.
Those who fear mounting deficit at this time may recall that, when the economy was growing after the 2001 recession, we were running budget deficits. This is not the time to wobble on budget deficits. This is the time to take bold action and implement a robust stimulus package. I would prefer a $3 trillion package over a three-year period, with $1 trillion for each year and three-year freeze on CEO salaries, bonuses, other perks and dividends in those businesses who receive tax credits and/or direct subsidies.
Actions in the financial sector and the real sector have to be comprehensive and aggressive, followed by regulatory supervision and enforcement. The stimulus package should stick to programs that genuinely provide jobs in the short run as well as stimulate the private sector to provide jobs in the future.
Conquering this severe recession requires calculated risktaking without fear or timidity. As Mark Twain once said, "Courage is the mastery of fear, not the absence of fear."
Mathur is former chairman of the economics department and professor emeritus of economics at Cleveland State University, Cleveland, Ohio. He resides in Ogden.
Saturday, April 11, 2009
Mass-transit and the highway system need not be substitutes but complements
Standard-Examiner, 9/29/2008, Ogden, UT
The Coalition for Accountable Government recently complained that the investment in FrontRunner is a waste of investment, and the planned extension of the system from Salt Lake to Provo should be dropped. The Coalition claims that so far FrontRunner has not reduced the congestion on I-15. However, the editorial “ Rail is necessary and valuable” of September 9, 2008 in the Standard-Examiner, argues against the views of the Coalition and ends the editorial with the statement, “Commuter rail is a good thing. It’s expensive, but we need it.” I am glad that the editorial recognizes the importance of the mass-transit system and the folly of the policy of meeting demand for commuting and mobility only by building more highways.
In an opinion piece on August 29, 2008 in the Standard-Examiner, I argued that the traditional response to highway congestion has been to increase the supply of more highways by building new highways and/or expanding the capacity of existing ones. When resources like oil, raw materials, space, and air quality are plentiful and available at a reasonably low price commensurate with income of the state and its people, it made economic sense to build highways. But, now we are finding out that shortage of oil, raw materials, space, congestion and air quality are driving up the social cost of construction and commuting; it is time that we plan for other modes of transportation.
The main purpose of any transportation department is to provide mobility to people and goods such that it maximizes net-benefit to the society (the difference between benefit and cost). Utah Department of Transportation (UDOT) should not be concerned only with building the transportation system at minimum cost but also in efficiently allocating users of the system among different modes of transportation. If the highway system is congested and leads to more pollution, it may be cheaper for society to divert users to another mode of transportation. Mass-transit complements the highway system because it reduces the congestion and pollution costs on Utah’s highways.
The nonprofit foundation TRIP reported in 2006 that for the top 10 most congested sections of the Utah highways system, congestion costs (extra fuel used and time spent in congestion) varied from $621 to $1275 per motorist per year. Among the top 10, 8 most congested sections are in Utah County and Salt Lake County. Total congestion cost per motorist per year was $4321 in the 5 sections of Utah County.
TRIP also found that during 1990-2004 vehicle traffic in Utah increased by 69%, 4th highest rate in the nation, while population increased by only 40%. Reason Foundation finds that trips in Salt Lake area take 28% longer to complete during rush hours as compared to non-rush hours. By 2030 the average rush hour trip will take 59% longer to complete if transportation system capacity is not expanded.
Another cost associated with driving on the highways is the pollution cost. Victoria Transport Policy Institute estimates that in 2002 an average car in the US imposed 6.2 cents per mile in pollution cost of greenhouse emissions during peak hours of driving. This implies that an average motorist imposed approximately $775 in pollution cost per year by undertaking a 50 mile roundtrip each working day during peak hours. Cost of riding mass-transit will be substantially less as compared to all costs of driving, including congestion and pollution costs.
One way to finance mass transit and at the same time reduce congestion and pollution costs to Utahns is to impose congestion pricing. This means that people will pay to drive during peak hours on congested Utah highways. It would encourage people to take mass- transit during peak hours. This would result in efficient allocation of users of the transportation network. Congestion pricing is tried successfully in cities like London, Stockholm and Singapore. According to Environmental Defense Fund, Singapore was the first to implement congestion pricing in 1975. It resulted in a 20% increase in the use of public transportation and 45% reduction in traffic. Similar results were found in London and Stockholm.
Given Utahns love for open spaces and clean environment, it is imperative that leaders at UDOT and the legislature take bold steps to build a transportation network with minimum social costs and maximum social benefits.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University in Cleveland Ohio. At present he resides in Ogden.
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The Coalition for Accountable Government recently complained that the investment in FrontRunner is a waste of investment, and the planned extension of the system from Salt Lake to Provo should be dropped. The Coalition claims that so far FrontRunner has not reduced the congestion on I-15. However, the editorial “ Rail is necessary and valuable” of September 9, 2008 in the Standard-Examiner, argues against the views of the Coalition and ends the editorial with the statement, “Commuter rail is a good thing. It’s expensive, but we need it.” I am glad that the editorial recognizes the importance of the mass-transit system and the folly of the policy of meeting demand for commuting and mobility only by building more highways.
In an opinion piece on August 29, 2008 in the Standard-Examiner, I argued that the traditional response to highway congestion has been to increase the supply of more highways by building new highways and/or expanding the capacity of existing ones. When resources like oil, raw materials, space, and air quality are plentiful and available at a reasonably low price commensurate with income of the state and its people, it made economic sense to build highways. But, now we are finding out that shortage of oil, raw materials, space, congestion and air quality are driving up the social cost of construction and commuting; it is time that we plan for other modes of transportation.
The main purpose of any transportation department is to provide mobility to people and goods such that it maximizes net-benefit to the society (the difference between benefit and cost). Utah Department of Transportation (UDOT) should not be concerned only with building the transportation system at minimum cost but also in efficiently allocating users of the system among different modes of transportation. If the highway system is congested and leads to more pollution, it may be cheaper for society to divert users to another mode of transportation. Mass-transit complements the highway system because it reduces the congestion and pollution costs on Utah’s highways.
The nonprofit foundation TRIP reported in 2006 that for the top 10 most congested sections of the Utah highways system, congestion costs (extra fuel used and time spent in congestion) varied from $621 to $1275 per motorist per year. Among the top 10, 8 most congested sections are in Utah County and Salt Lake County. Total congestion cost per motorist per year was $4321 in the 5 sections of Utah County.
TRIP also found that during 1990-2004 vehicle traffic in Utah increased by 69%, 4th highest rate in the nation, while population increased by only 40%. Reason Foundation finds that trips in Salt Lake area take 28% longer to complete during rush hours as compared to non-rush hours. By 2030 the average rush hour trip will take 59% longer to complete if transportation system capacity is not expanded.
Another cost associated with driving on the highways is the pollution cost. Victoria Transport Policy Institute estimates that in 2002 an average car in the US imposed 6.2 cents per mile in pollution cost of greenhouse emissions during peak hours of driving. This implies that an average motorist imposed approximately $775 in pollution cost per year by undertaking a 50 mile roundtrip each working day during peak hours. Cost of riding mass-transit will be substantially less as compared to all costs of driving, including congestion and pollution costs.
One way to finance mass transit and at the same time reduce congestion and pollution costs to Utahns is to impose congestion pricing. This means that people will pay to drive during peak hours on congested Utah highways. It would encourage people to take mass- transit during peak hours. This would result in efficient allocation of users of the transportation network. Congestion pricing is tried successfully in cities like London, Stockholm and Singapore. According to Environmental Defense Fund, Singapore was the first to implement congestion pricing in 1975. It resulted in a 20% increase in the use of public transportation and 45% reduction in traffic. Similar results were found in London and Stockholm.
Given Utahns love for open spaces and clean environment, it is imperative that leaders at UDOT and the legislature take bold steps to build a transportation network with minimum social costs and maximum social benefits.
Mathur is former chair of the economics department and professor emeritus of economics at Cleveland State University in Cleveland Ohio. At present he resides in Ogden.
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