30 December 2010

Are Republicans or Democrats Better for the Economy? -- A 3rd Cut

In my last email on this subject, "SES X" shed additional light on the question by matching changes in the growth of per capita GDP to an innovative metric that combined each party's majorities in Congress with Presidential administrations.  The most unusual part of that analysis is the relatively poor performance during the Eisenhower Administration, which contrasted with the successful reduction of national debt during that period as shown in the first message on this subject (here), not to mention the general memory of a nostalgic sense of spreading well-being.  

But as my good friend Werther points out below, this has less to do with the analytical method of "SES X" than the fact that GDP can be questioned as a measure of economic well-being.

Re: Are Republicans or Democrats 
Better for the Economy?

“SES X” used “real” GDP per capita to address this question, but I am skeptical of using “real” GDP to measure well-being; indeed, it may be a very misleading indicator of economic welfare.  I say this for the following reasons:

1. All manner of extraneous and potentially misleading economic inputs go into GDP. Everyone knows the story about how cleaning up after a hurricane or repairing a crashed automobile adds to GDP, but no one hopes for more hurricanes or automobile crashes to grow the economy (the "broken window theory" of economic growth).  Privatization of prisons stimulates business investment and creates jobs and therefore adds to GDP, but does increasing crime rates or increasing the number of crime subject to imprisonment  and the severity of sentences, which increases demand for private prisons and law enforcement jobs and therefore GDP,  measure an increase in the general wellbeing of a society? 

2. Many other economic activities augment GDP, but may not help the real economy, which I define as the application of technological innovation to produce real, tangible goods and services. Real estate flipping and packaging mortgage backed securities and other financial innovations (e.g., credit default swaps)  may have technically augmented GDP by increasing profits, investments, and jobs in financial institutions since 1980, but they are to the real economy as cocaine is to nutrition.

3. The data may not be consistent over time. The US government went from GNP to GDP (late 1960s?), and I wonder if the data have been correctly normalized back to the Truman era. This may be significant, because of the activities of US companies abroad (many of the largest flagship US corporations now get most of their profits from foreign operations), and the activities of foreign companies with operations in the US (who might repatriate their profits home). This was far less a factor 50-60 years ago; it may artificially inflate business activity supposedly indicating prosperity without showing up in the consumer's pocket.  Similarly, as John Williams has shown in shadow statistics, economic measures, like inflation,  have been manipulated for political reasons over time and distorted measures like inflation-adjusted GDP

4. There are other issues as well, such as arithmetic average. Of particular importance is the effect of the trend toward sharply rising income inequality.  What is the average of your income, my income, and Bill Gates' income? Using the average would lead to a totally misleading conclusion about our incomes. While not as extreme as that, average per capita GDP could slant things in a similar direction. Since the 1980s, there has been a large increase in Americans with extremely high incomes, at the same time that median household income has stagnated (while the bottom two quintiles have shown real decline).   That is the case even though these extremely rich people still constitute only a tiny percentage of all Americans. Many of the rich, in fact, are so off the charts that I believe it skews the entire picture of national well-being (using, admittedly, a different measure of well-being -- wealth rather than income -- we see that in 2005, the Walton family had a net wealth of $86 billion: the same as the net wealth of the bottom 40 percent of all Americans).  The pioneering work analyzing the changing patterns of income inequality by Emmanual Saez is particularly important in this regard, and I recommend it to your readers. 

5. There are all manner of subjective issues pertaining to "how well is the economy doing" that do not show up in statistics. In the 1950s, household income might have appeared constrained in our 50+ year retrospective look because in most cases there was only one worker per household. Now it takes, in most cases, two people working full time because wages have stagnated, which then magnifies itself by creating additional demand for more low-wage jobs related to child care.  The attached figure on real hourly wages may be of interest in this regard. Note how there is a consistent increase through the 1950s. Note how they stagnated after 1972.

The reason for this discourse is my astonishment at how badly the Eisenhower administration shows up in SES X's analysis of the statistics. Granted that people's feelings are subjective, but I don't think the entire American public was suffering from mass hallucination in the 1950s. There was a broad and deep popular sentiment that things were getting better, and that the economy was booming (there was an exception in the recession year of 1958). But unless I am greatly mistaken, the Zeitgeist was one of economic optimism -- certainly not something we've seen lately.

* Werther is the nom de plume of a Northern Virginia based analyst.