The Skeptical Optimist

USA's debt burden drops again

For the second consecutive month, the USA's debt burden decreased, this time to 64.6%, from last month's 64.9%.  Reason: GDP has been growing at a faster rate than the federal debt has been growing.  By the way, the Bureau of Economic Analysis says real GDP is growing at 3.48%, but I think 3.62% is a better projection, based on the "2-Quarter Climbing Limo" forecasting model I discovered a few weeks ago.

Below is this month's National Debt Thermometer.  (Note: The CIA has updated their World Factbook; as a result, several countries' debt burden percentages have changed slightly.  As always, I'm using the latest numbers I can find from the OECD or the CIA World Factbook.)

Click to enlarge.

[Origin of National Debt Thermometer]
[Full history of USA's debt burden]

Bid These with Partner: 21-May-05

Call your bridge partner.  Then click on the red group below, while partner clicks on the blue group.  Each of you bids your two visible hands.  When finished, you can both discuss the hands using double dummy.  (Origin.)

•SouthWest, •NorthEast, and •DoubleDummy
(Click on a color group.)

Bush should sign the highway bill

Today (May 17, 2005), by a vote of 89-11, the Senate approved the highway bill.  It’s $11 billion more than the administration said it would accept, and the administration is threatening to veto the bill on the grounds of so-called fiscal responsibility.  But the logic is faulty.  The highway bill is a good investment (as I'll explain below); consequently, the administration should be eager to sign the bill on the grounds of fiscal responsibility.

Here’s an excerpt from today’s AP article:

The Republican-controlled Senate brushed aside a presidential veto threat Tuesday and passed a $295 billion highway bill, arguing that massive spending on bigger and better roads was necessary to fight congestion and unsafe roadways.

The administration, while pressing Congress to pass a new highway bill, said the Senate version was too expensive in a time of war and debt and could result in the first veto of the Bush presidency. . .

White House press secretary Scott McClellan repeated the veto threat Tuesday, saying the president was "very serious" about following a fiscally responsible budget.

"Fiscal responsiblity"
Conventional wisdom says that it’s fiscally responsible to keep the debt down.  But this is where I part company with conventional wisdom.  The number we should be concerned about is not the debt per se; it is the debt burden.  Here are the numbers: Today’s debt is $7.763 trillion; today’s debt burden (the ratio of debt-to-GDP) is 64.9%.  Historically our debt burden has had its ups and downs, but today we’re in relatively good shape compared to other countries, and also compared to where we’ve been in the past. 

One obvious way to decrease the debt burden is to decrease the debt (the numerator of the ratio); unfortunately, conventional wisdom mistakenly stops there.  Another way—less-publicized, and therefore less understood—is to increase the debt (the numerator) at a slower rate than GDP (the denominator) grows.  The math is simple, but the concept continues to elude the conventional wisdom about "fiscal responsibility."  Nonetheless, growth eases the debt burden, and good investments induce growth. 

The highway bill is an infrastructure investment; it promises to grow GDP by at least enough extra to keep the debt burden from increasing.  If past experience is indicative of the future, it will yield significant extra efficiencies in the private sector.  From the same AP article: 

There was no dispute over the need for a new highway program: Poor road conditions are a factor in one-third of the 42,000 traffic fatalities every year, and road congestion costs the nation billions in productivity and wasted fuel, studies indicate.

Good investments generate future returns that offset their financing costs. Successful private sector businesses are well aware of that, and they know how to use leverage—a measured amount of borrowing to help finance good investments—to make their creditors and shareholders wealthier.  So, why is it so difficult to admit that the same principle can apply to government finances?

The highway bill will cause GDP to grow more than it would have otherwise; because of that, tax receipts will do the same.  Sufficient extra GDP growth would more than offset the debt growth, with the net result of a neutral or slightly reduced debt burden.  Growing the economy while reducing the debt burden is the proper definition of fiscal responsibility. 

Capitalists, of all people, should understand the growth-through-leverage phenomenon.  The debt burden, not the debt, is the number to watch and to manage.  President Bush should sign the growth-enhancing highway bill, not veto it.  It’s the fiscally responsible thing for growth-conscious capitalists to do.

There goes the no-hitter

Jim Glass spotted this: "First Manhattan stagecoach accident of the century."

Ten presidents’ worth of economic growth

Most of us in private sector business management are familiar with this little gem of wisdom:

Effective management requires effective measurement.

In other words, to guide a business entity effectively into the future, managers need objective measures that explain past and present results.  Objective appraisal of the past requires objective measures of the past.  Unsurprisingly, that’s not only true in the business world, it’s also true when we try to draw inferences about past presidents' and administrations' effects on our nation's economic growth. 

But it’s difficult to sustain a cool objectivity when we assess past presidents, isn’t it?   Each of us has a favorite or two, and that makes it tempting to begin our thought process with the conclusion (“president X was the greatest...”), then go find the “objective” statistics that “prove” our point.  Or we can do the converse: pick a president we dislike—usually because we favor a different ideology—then cherry-pick the economic stats to illustrate what a worthless jerk that guy was.  [By the way, the thought process I’m describing has a name: Confirmation Bias.  It’s human nature, we’re all guilty of it, it’s impossible to eradicate, but it’s important to at least be conscious of it.] 

So, whether you’re a Bush-hater, a Liberal-baiter, or none-of-the-above, I’m going to arm you with some economic statistics that will enable you to steer your discussions about past presidents toward objectivity.  (Or, should you choose to go over to the dark side, they’ll enable you to cherry-pick “just the right stats” to back up your point, thereby proving your ideological opponents to be the incompetents you always said they were.) 

First I’ll explain why I chose growth stats from the BEA’s website.  My schtick in the blogosphere is economic growth.  The reason: It gets far too little attention in the media—in spite of its overwhelming importance.  (Why?  Is it politically incorrect to talk of “growth”?  Do journalists think it’s something that just happens, something osmotic that we can’t do anything about?  Do they ignore it because they think redistributing existing wealth should be higher on the agenda than creating new, incremental wealth?  I don’t know, and I frankly don’t care; in MY blog, the primary topic will be economic growth.) 

In any case, the Bureau of Economic Analysis does a terrific job compiling statistics about the state of our nation’s economy; their website is a goldmine.  Based on my experience, the two best statistics for tracking our growth progress are real GDP (Gross Domestic Product) and real DPI (Disposable Personal Income). 

The following graphic charts ten presidents’ worth of economic growth, explains why I zeroed in on the two statistics shown, and shows the two choices we have for attributing a timeframe of economic results to any given presidential administration.  (Note: There are ten presidents, but only eight “administrations” in my analysis; 8 years of JFK/LBJ, and 8 years of Nixon/Ford account for the difference.) 

Click to enlarge.

The next chart ranks the administrations highest-to-lowest, and assumes that a one-year lag is best for attributing economic results to presidents.  Read from them what you want; these are the objective results. 

Click to enlarge.

If you think any given president was responsible for the economic results that happened “on his watch,” starting with the year he was inaugurated, then you might want to give the following “Zero-lag” chart more weight (...I don’t, but you might, so here it is) . . .

Click to enlarge.

Lastly, here’s a full table of various real-growth statistics.  Use it to keep your discussions objective, please.  (If you’re one of the dark-side cherrypickers, don’t be surprised if this chart is used against you, to place your argument in a different context than you had intended.) 

Although comments are not open on this website (read why here), I welcome any comments you'd care to send via email.  Go to my "Suggestion Box" for my email address. 

Good economic news will cure Wall Street’s neurosis

I subscribe to Brian Wesbury’s email alerts (you should, too); they’re summaries of key economic stats as they are announced, followed by Brian’s take regarding their implications.  This week’s alerts were almost exclusively good news (...almost but not quite; there are still signs of inflation).  But good news predominated.  Here’s an example:

If there was a "soft patch," it wasn't all that soft, nor did it last for long. . . While March data was slightly weak on many fronts, the frenzy of apocalyptic warnings was completely unwarranted.

Here’s another example.  I went out on a limb last week by suggesting that the BEA’s method of estimating GDP growth was too jerky, and that their estimate the previous week (3.1%) was too low.  Consequently, I was not surprised by another of Brian’s good-news comments:

. . . our models forecasts first quarter real GDP will be revised to 3.9% from the preliminary 3.1%.

With good news predominating, the market can go nowhere but up.  That, at least, was what I was thinking on Thursday.  Then, Friday happened.

Investors abandoned blue chips and other large-cap stocks Friday as a lower-than-expected consumer confidence report fed into Wall Street's fears of an economic slowdown.

"Consumer confidence"?  I thought consumer confidence was an effect, not a cause, of economic conditions.  In any case, I’m chalking up Friday’s drop to Wall Street’s day-to-day neurosis.  The overall economy is in good shape, and getting better. 

Bid These with Partner: 14-May-05

Call your bridge partner.  Then click on the red group below, while partner clicks on the blue group.  Each of you bids your two visible hands.  When finished, you can both discuss the hands using double dummy.  (Origin.)

•SouthWest, •NorthEast, and •DoubleDummy
(Click on a color group.)

Navigation Aid

GDP growth is 3.4%, not 3.1%

[UPDATE: Click here for a brief, explicit summary of the math.]

Last week, the BEA (Bureau of Economic Analysis) said this:

Real gross domestic product -- the output of goods and services produced by labor and property located in the United States -- increased at an annual rate of 3.1 percent in the first quarter of 2005, according to advance estimates.

That sent the market (DJI) into a 128-point tumble.  Ouch.

"The market digested the economic data and wasn't at all pleased that the GDP numbers came in at a lower-than-expected rate," said Gordon Fowler, Jr., chief investment officer at The Glenmede Trust Co.

Good news: It isn't really that bad
I know how the BEA calculates the annual growth rate, and I’ve tested it against some simple alternatives.  (I have some private-sector experience in forecasting, and I've done this type of analysis many times.)  Based on those tests, I’ve concluded that there’s a better way to estimate growth—and it says the GDP growth rate is 3.4%, not 3.1%.  Three-tenths of a growth point isn't chump change.  It's 10% more than we'd thought, and a ten percent difference can move markets.  To borrow a cogent sentence from President Bush: That's a lot.

The BEA's method for calculating growth uses the change in GDP over a single quarter.  (Divide “GDP now” by “GDP last qtr,” raise the result to the fourth power, subtract one, multiply by 100, and voila: that's the growth rate.) 

The diagram below illustrates why a two-quarter approach seems to work better for GDP growth estimates than the BEA's one-quarter method.  To illustrate the concept, I’ve used the analogy of a stretch limo climbing a mountain. 

Click to enlarge.

The next chart shows the specific GDP numbers from last week’s BEA release, and shows how I arrived at the 3.4% estimate.

Click to enlarge.

Why do I think 3.4% is a better estimate?  Because I went back to 1948’s data and tested the BEA’s current one-quarter method against the two-quarter method, quarter-by-quarter, all the way to the present.  I awarded one “matchpoint” to whichever method yielded a better forecast for GDP looking 3 quarters into the future. 

Result: In the 226 quarters since Q4 of 1948, the two-quarter method beat the BEA’s one-quarter method by a score of 124-102, or 55% to 45%.  Better yet, since Q1 of 1993, it won by a score of 31-18, or 63% to 37%.  Below is a table showing how the backtesting turned out. 

That’s it.  That’s why I think the real economy is growing at a rate of 3.4%, instead of the “official” number of 3.1%.

Final footnote:  I minimized the image below on purpose.  If you are not interested in the math behind this analysis, you don’t need to proceed any further.  However, if you’d like to see the math or check the calculations for yourself, click on the image. 

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UPDATE, 5-10-2005:  Ironman (Craig Eyermann) has provided a web-based calculator for anyone who'd like to calculate the GDP growth rate using the "Climbing Limo" method described above.  Click here to go to Craig's calculator. 

Tax reform, sooner or later

After the Social Security debate, it’s a good bet that tax reform will become the next big item on the domestic agenda.  No doubt it will be another political fight that has an ideological dimension larger than its economic dimension; nonetheless, simplification of the tax code would yield big efficiencies in the private sector, so the battle will be worth fighting. 

I’ve seen firsthand the magnitude of resources expended by individuals and by businesses large and small—all trying to comply with the current system, while at the same time not overpaying.  It’s a huge waste.  Tax simplification would free up significant resources for growth-inducing, job-creating ventures—which, as a side benefit, would generate incremental tax revenues. 

Two recent articles—one in The Economist about what’s right with the Flat Tax idea, and the other by Bruce Bartlett about what’s wrong with the National Sales Tax idea—both suggest to me that dusting off one or two of my books on the subject might be a good idea.  (Better yet, if I can find their Adobe eBook versions, I’ll buy the books again; I like being able to e-search for words and phrases.) 

In any case, links to the two books I’ll be rereading in the near future are below.  Either book is a good summary of the pros and cons of the major alternatives our politicians would be considering whenever the tax reform debate moves to the top of the list. 

[related article: The Flat Tax is Progressive]