US (1960-2100) If Things are so Great, Why is Hardship in the US Increasing?

 

Measurable Hardship in the US (graphic above), is increasing and projected to increase until 2025. If US economic performance is so great, why is this happening? And, why does Hardship decrease after 2025 in the estimated model (see the Boiler Plate) above?

Quantitative Counterfactual Analysis indicates that impacts from growth in the World System are driving Hardship in the US. Decline in Hardship after 2025 is the effect of slowing growth in the World System. In other words, Growth in the World System has increased Hardship in the US even though the US is the Hegemonic leader of the World-System.

Part of the reason is that the current US Administration (Trump II) is cutting benefits for SNAP (Food Stamps) and other US Welfare programs. Why "millions of Americans" have to be on food assistance in the first place is a question that bothers me and the answer has to do with World-System forces.

The graphic at the beginning of this post is a forecast driven by outputs from the WL20 model. To determine the effect of World System forces, we can rerun the forecast with the BAU model (no input from the World System).

The BAU model shows Hardship reaching a high-level plateau after 2100. The Trump II Administration's actions to withdraw from the World-System and their attempts to cut US Welfare programs is an attempt to bring this Hardship Future into being. Increasing Hardship in the US was one of the prices of Hegemonic Leadership. 

The peak and decline of the World System would benefit the US if it still stays connected to the World-System. High levels of Hardship and World-System isolation are possibly a benefit to some elements of the US Right-Wing elite, but not most of the US Public. The Hardship Future will likely also be one of Conflict and Chaos--another potential benefit to the Right-Wing.

You can experiment yourself with the USL20 Hardship model here. For comparison, the System Matrices for the the USL20 Hardship model with World Input are presented in the Notes. Bootstrap 98% Confidence intervals for coefficients in the Systems Matrix (F) are provided in the code. Both models are stable.

Is there anything in the US Economy that controls Hardship or is it primarily driven by World System conditions? Economic theory doesn't have much (or anything) to say about Hardship. Controlling Hardship is essentially a Political Systems problem (among a lot of there things here), but current Neoliberal Ideology seems to rely on Economic growth to resolve all problems. In a future post, I'll investigate the topic of what (if anything) controls Hardship.

Notes

Hardship Index

The following indicators (from Shefner,  Roland and Pasdirtz, 2015) were used to construct the HARD (Hardship) Index. All data were taken from the World Development Indicators (WDI).

In addition to HARD1, two other indexes were constructed, HARD2 (dominated by Unemployment) and HARD3 (dominated by Inflation). Each index explained another 10% (0.841% and  0.933%, respectively) in the indicators. So, indeed, Unemployment and Inflation were important components of US Hardship, but the other indicators also played a role. Whether the US Electorate made a good choice in electing the TRUMP II administration to resolve their issues with hardship will have to wait and be seen over the next four years.

The Measurement Models for the WL20 Index and the US_HARD index are presented above. The time series forecast plots are presented below. The WL20 index first:

Growth in the World System (W1) peaks in 2040 and is forecast to decline after that. The Food-Market Index (W2=(LP+P.Wheat.-TEMP) declines throughout the period because Global Temperature is increasing and the Oil- Market-Environmental Index (W3=(P.OIL+P.WHEAT-OIL-EF-Earths) increases to a plateau in 2075.

And the the WL20 HARD index:

 

Overal Hardship (W1) increases through the period while W2 (Unemployment) and W3 (Poverty) are cyclical.

World-System (1950-2050): A Range of Forecasts for US Growth

 

UPATE: All three major credit rating firms no longer give the United States their best rating.

Economic Forecasting during and after the Great Recession took a devastating hit (here and here). Some of the criticism was deserved, others was not. The work of the IPCC provides a way forward. Let me apply the IPCC approach to forecasting the future of the US Economy.

First, when faced with the problem of predicting the future of Climate Change for the World-System, the IPCC acknowledges that the future is unknowable. If something is done to address Climate Change, the future must be different than we can envision it right now. Policy must be able to change the future, but it well might fail. So, instead of making "best" forecasts, the IPCC constructed Emission Scenarios. Each of the scenarios is considered equal likely depending on what policy options are pursued (see the Boiler Plate for examples and links).

My approach to forecasting is a little different but conducted in the same spirit. I have a number of different models of the US Economy with different variables and covering different time periods (here). The models are based on Systems Theory (as are the IPCC Emission Scenarios--again covered in the Boiler Plate). The models produce many different output paths (forecasts) when different assumptions about input variables and estimated model coefficients are made.

For this post, I'm just going to group a few of these outputs into three categories: Steady State, Growth-and-Collapse and Collapse. The time paths for these Business-as-Usual (BAU) models is presented in the graphic above. 

None of the forecasts from my models would be considered acceptable by economic commentators. However, some forecasting models (for example the Atlanta Fed GDPNow model, which is based on an approach similar to mine), are starting to forecast collapsing growth rates (quarterly percentage change in GDP) for the US Economy. 

My models begin forecasting in the year 2000 while the GDPNow models are as current as possible. Predicting collapse scenarios before the Subprime Mortgage Crisis should not be taken as predictions of Economic Crises. The Crises are largely unpredictable shocks to the system that should be presented along with any forecast using shock decomposition diagrams. The shocks are external to the model and cannot be predicted but the effects can be explored (I'll do that in a future post).

I don't know what information economic decision makers actually have or use. But, some of the current extreme policy measures being pursued by the Trump II Administration may (charitably) be interpreted as desperate measures taken in anticipation of growth-and-collapse scenarios for the US Economy.

Notes

If you would like to experiment with my models, the computer code is available here and can be run in a web browser presented with each code Snippet. Explanations about model construction are available in the Boiler Plate.

No, Q3-2017 3% GDP growth does not support Big Tax Cuts!

The Washington Post recently published an article titled Third quarter's strong economic growth could boost GOP tax effort. The article predicts the Trump administration will make the case that if you want economic growth to keep increasing to 4% (President Trump's goal), we need tax cuts. The Financial Forecast Center (here) predicts GDP Growth Rates out to the end of 2017 (graphic above). The forecast graph does not even have room for 3%, let alone 4%, GDP growth this year. Who is right?

The GOP tax cut plan is based on a long chain of reasoning. Tax cuts are supposed to increase investment and consumption (I = iY - T and C = cY - T). Investment and consumption are supposed to increase National income (as does Government expenditure and the Balance of Payments, Y = I + C + G + BOP). On the other hand, tax cuts increase the deficit D = G - T which is supposed to crowd out investment through the interest rate effect (increased interest rates discourage borrowing). Any one of these effects could fail to materialized or provide only a short term boost to the economy when the Deficit chickens come home to roost.

Let's ask a more systemic question: What kind of growth rate is the US economy capable of sustaining? Another way to state the question is to ask what is the attractor path for GDP growth? The  attractor path for the annualized growth of US GDP (based on quarterly data, here) is displayed above. Out to 2030, the attractor path (the dashed red line based on the state of the US economy from the USL20 model*) is stable at around 2%. The 98% bootstrap prediction intervals (the dashed green and blue lines) suggest that numbers from 1.5% to 2.5% are probable. Growth rates above 3.5% or even negative are possible but the economy will return over time to around 2%. This is the growth rate that the US Economy can reasonably sustain given the current physical structure and economic organization. 

The real growth of the US economy, Q = f(K,L,Tech), is based on how capital, labor and technology are combined. Changes in who has money may or may not make a difference to the physical structure and economic organization of the US economy. The excess money available from tax cuts (especially if directed at the wealthy) can be spent on luxury goods or stock market speculation, neither of which will build economic capacity through investment and employment. 

If the fractured GOP is able to legislate tax cuts, time will tell how the US economy is affected. The most likely prediction is that high growth rates, if they happen at all, would be very temporary.

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* The best model (determined by the AIC criterion) is ag(GDPQ)(t) =  (F)ag(GDPQ)(t-1) + G(S)(t-1) + Qe(t), where ag() is annualized growth, F, G and Q are coefficient matrices, S is the state vector from the USL20 model and e(t) is random error. The current upsurge in US GDPQ is driven by e(t).

Is the US Printing Too Much Money?

The Federal Reserve, the central bank of the US, has the power to print money. The US has just been through the Financial Crisis of 2007-2008. As a result of the Financial Crisis, the US Federal government has gone into debt both to maintain operations in the face of decreased tax revenue and to stimulate the economy. The Federal Reserve could simply print money to erase the Federal Debt but the fear is that printing money will lead to inflation. 

In this post, I look at this issue using statistical models based on Complex Systems Theory and World-Systems Theory. The models show that the US has not printed too much money (but could at some point in the future and has at times in the past) and that the money supply has historically had little to do with inflation as measured but the Consumer Price Index (CPI). Other forces in the world-system are at work here, not just the policies of the US Federal Reserve.

Printing money has been a contentious issue throughout US History and the current episode is no different (if you want to read in more detail type Is the US printing too much Money into the Google search engine). Monetary theory is also a contentious area in macroeconomics. If I tried to summarize  the area, you would instantly stop reading this post. 

Let me just mention one theory that is easy to understand and applies to the question at hand (most monetary theory doesn't). The theory is Milton Friedman's k-percent rule. Simply put, the central government should increase the money supply at some fixed percent, the k-percent. Contrast Friedman's theory to Keynesian counter-cyclical policy: the money supply should be increased during recessions to stimulate the economy and decreased after the recession to prevent inflation. The problem with each of these theories is "how much." How much should k-percent be or how much should the money supply be increased during a recession and decreased afterwards?

The "how much" question could be rephrased in a way that would be understandable to Stock Market Analysts who used technical analysis. The figure above is the US M1 Money supply (the definition of the money supply that is under government control) taken from the Financial Forecast Center (FFC). It includes actual data starting in April 2012 and a forecast that starts in 2015. The forecast is made using artificial intelligence techniques, not economic theory. A simple form of technical analysis would just connect the high and the low points for M1 over a period of time (the dashed green and blue lines). The argument is that if M1 goes outside this range, it is changing too much. Using this form of analysis, what tends to scare analysts (the red arrow in the graph) is when M1 increases rapidly as it did after Dec-2014. A problem with the graph above is its limited historical scope. We'd really like to look further back to set reasonable ranges and decide how M1 has fluctuated historically. In any event, the FFC is forecasting a peak in M1 for 2015.

The figure above shows M1NS (M1 not seasonally adjusted) from the Federal Reserve. We can see that the money supply expanded during the Dot-com Bubble but remained fairly flat until 2009. Why did M1 increase during the Dot-com Bubble and what would have happened had continued increasing (line A) rather than flattening out until 2010? Were the sharp increases in the money supply (lines B and C) after the Financial Crisis justified or something to be feared? And, what are the dashed green, red, and blue lines in the figure?

The dashed green and blue lines are the 98% bootstrap prediction intervals for the dashed red line, which is the attractor path for M1. The attractor path is the simulated time path of M1 derived from a state space model of the US economy. It shows what M1 would have been (a fictional line) without random shocks (the black line is the fact line). The attractor path is the line to which M1 will return without random shocks. The conclusion is that from before 1980 until 2000, M1 was too high. After 2000, until 2012, M1 was too low. As of 2012, M1 was right on the attractor path; if it stays there increasing at k-percent per year, M1 will be just right and it cannot be said that the US is printing too much money.

Now let's look at the US Inflation Rate as measured but the Consumer Price Index (CPI). The graph above is another forecast from the Financial Forecast Center (FFC), this time looking at the rate of change in the CPI. There have been a lot of increases and decreases in the CPI since Apr-12. Each increase (solid red arrow) could have been used by commentators to trigger fears of inflation. Technical analysis shows that the swings are increasing but have never peaked much over 2% while the FFC forecast is for essentially zero inflation after Dec-2014. Had the US been printing too much money and had all that money printing created inflation, we should have seen it here and we don't.

The forecast above is for CPIAUCNS (CPI for All Urban CoNSumers), again from the Federal Reserve. In this case, the model is forecasting the level of the CPI not the rates of change. It's very easy to see that the CPI is on the attractor path and well within the 98% prediction intervals, unlike the M1. You can pick particular blips (for example the red arrow) and become worried about inflation but the blips are random variation, all within probable ranges. 

The fact that the dynamics of M1 and the CPI are very different means they are being driven by different forces. The M1 is best explained by the state of the US economy and the CPI is best explained by the state of the World system. This should make some sense since the US is a globalized economy that controls its currency through the Federal Reserve and is at the same time the hegemonic leader of the World-system. These issues seem to escape most monetary models and economic models of inflation.

NOTE: In case you are wondering how good the state-space models are at predicting M1 one-month into the future (the typical criteria for econometric models), the forecast graph is presented below.

The models do an excellent job with very tight prediction intervals, getting wider of course into the future. The two models used for the forecasts are the USL20 model and the WL20 model. The USM1 models is here and the US CPI model is here. Explanations for how to use the models are available here.

QUESTIONS FOR FUTURE POSTS:

1. What are the forces in the US Economy and the World System that drive monetary policy?
2. Why was the M1 too high during the Dot-com Bubble and too low afterwards?
3. During the Financial Crisis of 2007-2008, M1 growth was pretty flat. Was the US Federal Reserve trying to pop the Subprime Mortgage Bubble?
4. What would be a reasonable value for Friedman's k-percent? In 2015, the annualized growth rate of the M1 attractor was about 5%. Should the value of k-percent increase, decrease or stay the same in the future?
5. What are the forces in the World System that drive inflation?
6. Did the US recently go through a Debt Crisis similar to ones in Europe and Latin America?
7. Would harsher Austerity Policies produced a better or worse outcome in the US? Are stronger Austerity Policies needed in the future? 
8. What about the performance of Federal Reserve policy instruments such as the Fed Funds Rate?
9. What about the behavior of interest rates and the Zero Lower Bound problem?