In my previous post "Capital Flow Bonanzas and Their Aftermath", I discussed the strong correlation found in recent research between abnormal net capital inflows (large current account deficits) and the incidence of financial crises, with budget deficits not being strongly correlated with financial crises. In this post, I look at some relevant data for the US in this context.
As I remarked in my previous post, the US had both budget and current account deficits in the years preceding the crisis and the Oregon Office of Economic Analysis has recently shown that the aftermath of the financial crisis in the US is broadly comparable in many ways to what one would expect from the research of Reinhart and Rogoff - with the silver lining that, perhaps due to some of the policies followed since late 2008, the depth of the grave unemployment problem we face is not as bad as what was observed in the previous 5 worst cases studied. That's not saying much given the unemployment problem we have is substantially worse than what we've seen in the aftermath of past recessions in the U.S., but it is a data point to keep in mind. What I'd like to explore a bit more is some of the data on US trade balances and debt.
US Debt to GDP
The problem of rising debt to GDP in the US in the post WWII-era has, as it turns out, been largely a phenomenon accompanying Republican Presidential administrations, starting in the early 1980s. As this chart from Wikimedia Commons shows, the rising trend in public and private debt began in the Ronald Reagan era and was in reversal or tempered during the latter part of the Bill Clinton era, but returned to an unfavorable rising trajectory during the George W Bush era, culminating in an 'explosion' upwards due to the financial meltdown that started at the end of the Bush II era and extended into the Obama era. Thus, the only period of time in the last 30 years when US debt to GDP was in decline was during the second half of the Clinton administration, when there was a focus on driving to a fiscal budget surplus.
US Trade Balance
Given the importance of capital flows, it's instructive to see what happened to the trade balance (and associated current account) in the US as well. Trading Economics, Data 360 and the US Census Bureau have pertinent data on this. The chart shown by Data 360 reveals that the US trade balance:
- First started to turn negative in the late 1970s and picked up intensity in the Reagan era
- Moderated considerably towards neutral in the George H W Bush era
- Started to turn more negative in the Clinton era and more so since 1998
- Became extremely negative during the George W Bush era
That trend was accompanied by a declining personal savings rate since the early 1980s as documented in the paper "The Decline in the U.S. Personal Saving Rate: Is It Real and Is It a Puzzle?" by Massimo Guidolin and Elizabeth A. La Jeunesse of the Federal Reserve Bank of St. Louis.
Here's a chart I put together based on US Census Data from 1992:
The post-1997 trajectory is rather interesting. It turns out there was at least one important, and misguided, tax law change in the US at the time, whereby the top capital gains tax rate was dropped by 28% to 20% and the 15% bracket was lowered to 10%. This occurred at a time where an internet-fueled stock market boom was just beginning. It is possible that the lower tax impact on capital gains was a factor in the rise of capital inflows into the US, which were further sustained by the poor tax and monetary policies of the Bush II administration.
There are some nuances to consider, however, as discussed by John Robertson of the Federal Reserve Bank of Atlanta in this Macroblog post "The pull between spending and saving". I'm going to excerpt some of the charts shown in Robertson's blog post and emphasize certain observations from his commentary in bold text.
First, notice that the Debt to GDP ratio for the US Non-Financial Sector (households, nonfinancial businesses and governments) was more or less flat during the Clinton era. It had risen initially in the Reagan/Bush II era and then exploded upwards during the Bush II era.
Robertson notes that:
Much of the increase in total debt during the 2000s was in the form of real estate debt, and most of that was by households and unincorporated businesses (mostly sole proprietorships and partnerships). During the 1990s the mortgage debt of households was relatively stable at around 45 percent of GDP, but it increased to a peak of 76 percent of GDP in 2009. Over the same period, mortgage debt for unincorporated businesses increased from around 12 percent of GDP to almost 20 percent.
Robertson's post has charts showing each category of debt, but it appears unincorporated business contributed to a significant part of the debt increase during the latter half of the Clinton years. Also, consistent with my observation at the top of this post, the Debt to GDP ratio of the Federal Government was also in decline during the Clinton years, as Robertson shows using this chart:
The impact of the financial collapse of 2008 on the growth in government borrowing is clear, but one of the takeaways from these charts is that the last 30 years were not tied to a set of near-similar or identical policies, as people like Robert Reich like to keep saying. Outside of the deregulatory environment and reduction in capital gains taxes during the second half of the Clinton presidency, there were some notably different policies enacted during the Clinton era compared to the Reagan and Bush II eras - including a significant increase in income tax rates, especially for the top bracket, and the earned income tax credit for low income earners. Contrary to Robert Reich's lamentations that "...in the Great Regression from 1981 to the present day — growth slowed, median wages stagnated and we suffered giant downturns….", there are some key facts to consider. For instance, Paul Krugman has noted that:
....if we’re talking about incomes and employment, the Clinton years were pretty good for middle-income Americans — and especially good for middle-income Midwesterners.
and that:
One other thing that’s striking from the report, by the way, is that over the 26 years the estimates span, the only significant gains for the bottom two quintiles, and most of the gains for the middle quintile, took place during the Clinton years. Exactly why is an interesting question, but the empirical fact is that over the past generation the only good years for lower and middle income families were when a Democrat was in the White House. This is an example of a broader, and honestly mysterious, correlation identified by Larry Bartels in his paper “Partisan politics and the U.S. income distribution.”
We'll return to this topic in a future post, but the main points I want to make for now are:
-
There is evidence that the financial crisis and its aftermath in the US has been comparable to experiences in other countries in the past
-
There is growing evidence that abnormally large capital inflows ("bonanzas") may be a key trigger for creating conditions that eventually result in massive financial crises, especially when there are "sudden stops" to the inflows
-
It would not make sense to treat the last 30 years in the US as if there had been a consistent set of policies that led us to the hole we are in - the one period during which there were notably different policies and not-so-negative results was the era of the Clinton administration (which is not to say there were no bad policies during that era - for example, President Clinton himself has acknowledged he made a big mistake with some of the deregulation, especially in the derivatives market, and as I observed earlier, the capital gains tax cut was a significant mistake)
Comments