Marx's "On 'The Jewish Question'"

Over at Crooked Timber, Corey Robin has a very short post suggesting that "Islam is the 21st Century's Jewish Question," which has attracted a long and perhaps predictably heated comments thread. Some of the more agitated commenters at CT apparently think that such comparisons are inherently dishonest or immoral.  To me, it seems obvious that, however you weigh the similarities and differences in this particular case, the historical experience of anti-semitism is an important reference point for thinking about the way various Others are regarded today.

I don't want to relitigate that comment thread here -- except, again, to say that I don't see anything unreasonable or offensive about the comparison Corey is making. No, the reason I'm writing this is that Corey's mention of it reminded me of what a brilliant and profound, and profoundly misunderstood, essay Marx's "On 'The Jewish Question'" is.

The essay is a response to Bruno Bauer - note the additional quote marks in the title. Bauer is responding to demands for emancipation of Germany's Jews from the various legal restrictions they were subject to. Bauer has two objections. First, he says, there are no citizens in Germany, only different classes of subjects with their own distinct privileges and assigned roles. Jews have one set, Christians have another, but no one is free. Second, even if freedom were possible in Germany, Jews could only become citizens if they were willing to limit their Jewisness to private life -- no special accomodations for religious observance, no maintaining their own institutions. "The Jew must retreat behind the citizen."

Marx replies: All that is true as far as it goes. But that only shows the limitations of the liberal conception of freedom. It is true, as Bauer says, that political emancipation requires the Jews (like everyone else) to make their religion a purely private matter, but all that shows is how far short political emancipation falls of human emancipation.

Human emancipation would recognize that we exist only in relation to myriad other people, and in these relationships we are conscious, moral, rational beings, making choices about our collective lives. Political emancipation, by contrast, isolates our conscious collective life in the political sphere, leaving us disconnected egoists in our private life.

Where the political state has attained its true development, man ... leads a twofold life, a heavenly and an earthly life: life in the political community, in which he considers himself a communal being, and life in civil society, in which he acts as a private individual, regards other men as a means, degrades himself into a means, and becomes the plaything of alien powers. ... In his most immediate reality, in civil society, man is a secular being. Here, where he regards himself as a real individual, and is so regarded by others, he is a fictitious phenomenon. In the state, on the other hand, where man is regarded as a species-being, he is the imaginary member of an illusory sovereignty, is deprived of his real individual life and endowed with an unreal universality.

Political emancipation allows people to participate in collective decision-making but only on condition that they give up or deny any concrete, organic identity or connections they have beyond abstract citizenship. While in private life people are free to be really ourselves, but disconnected from the society we continue to depend on, we experience this freedom as being "the plaything of alien powers." 

This connects directly back to the Jewish Question: Judaism is the kind of community or collective identity that people must give up to become citizens in the liberal state. Or rather, pretend to give up:

Man, as the adherent of a particular religion, finds himself in conflict with his citizenship and with other men as members of the community. This conflict reduces itself to the secular division between the political state and civil society. For man as a bourgeois, “life in the state” is “only a semblance or a temporary exception to the essential and the rule.” Of course, the bourgeois, like the Jew, remains only sophistically in the sphere of political life, just as the citoyen only sophistically remains a Jew or a bourgeois. But, this sophistry is not personal. It is the sophistry of the political state itself. The difference between the merchant and the citizen, between the day-laborer and the citizen, between the landowner and the citizen, between the merchant and the citizen, between the living individual and the citizen. The contradiction in which the religious man finds himself with the political man is the same contradiction in which the bourgeois finds himself with the citoyen, and the member of civil society with his political lion’s skin.

While liberal political life is organized on the principle of reasoned debate between disinterested equals, it is not actually the case that inequality and particular interests disappear. One important thing to note in this passage: Here, as elsewhere, Jewishness is only one of various examples of a particular identity. Which should make clear: This is an essay about the limits of political freedom in the liberal state, not an essay about Jews. It's an essay about "The Jewish Question," not about the Jewish Question.

So: Under the bourgeois state (of which Marx already recognizes the northern US as offering the purest example) religion goes from being the most public question, to the most private. "Religion ... is no longer the essence of community, but ... the expression of man's separation from his community ... It is only the abstract avowal of specific perversity, private whimsy, and arbitrariness." It is, in short, now just a matter of taste. 

In the private sphere we are all just automatic pleasure-and-pain machines; our capacity for moral and rational action is limited to the political sphere. Just look at the distinction the French Revolution made between the "rights of the citizen" and the "rights of man":

The rights of man, ... as distinct from the rights of the citizen, are nothing but the rights of a member of civil society, the rights of egoistic man, separated from other men and from the community. ... It is the question of the liberty of man as an isolated monad. ... The rights of man appear as "natural" rights because conscious activity is concentrated on the political act. ... Political emancipation is the reduction of man, on the one hand, to a member of civil society, to an egoistic, independent individual, and on the other, to a citizen, a juridical person.

Economics, perhaps even more than other social sciences, has taken this distinction and made it doctrine. A core methodological assumption of economics is that private choices are purely arbitrary, they are given natural facts. We can't discuss them, debate them, subject them to reason: De gustibus non est disputandum. In private life, we are animals or not even, we are mechanical objects. Where economics poses a choice, it is invariably: What should the State do?

There is a more direct connection with economics, too. While individuals in civil society are conceived of as monads, they do still relate to each other, through the medium of property. Marx:

The practical application of man's right to liberty is man's right to private property ..., the right to enjoy one's property ... without regard to other men, independently of society, the right of self-interest. This individual liberty ... makes every man see in other men not the realization of his own freedom, but the barrier to it.

Social life, to take another tack, is a series of hugely complicated coordination problems. When these problems are solved through norms or tradition, or through rational debate, we experience their resolution as freedom. We see ourselves doing what is right, because it is right. When they are solved by markets or other forms of coercion, we experience unfreedom. One person decides and the rest of us comply.

At the start of the essay, Marx poses the question: "Does the standpoint of political emancipation give the right to demand from the Jew the abolition of Judaism?" Here towards the end, it's clear that Marx's answer is, No. A democratic politics that allows us to act as rational beings only by denying our particular identities is no true democracy. And a private life that allows us our individuality only as arbitrary personal tastes, and in which have no organic ties or moral duties to anyone else, offers no true freedom. Marx does hope and expect that Judaism, like all religions, will eventually disappear. But that's only possible once the separation of political life and civil society has been transcended. We will be able to dispense with religion only once we are able to act as moral agents in our daily lives. Or as he says:

Only when the real, individual man reabsorbs in himself the abstract citizen, and as an individual human being has become a species-being in his everyday life, and in his particular situation, only when man has recognized and organized his own powers and, consequently, no longer separates power from himself in the shape of political power, only then will human emancipation have been accomplished.

What Comes Before Capital?

"The wealth of those societies in which the capitalist mode of production prevails, presents itself as an immense accumulation of commodities.'"

Everyone knows that line. If your intellectual formation is like mine, it has approximately the same status as "In the beginning God created the heavens and the earth."

The rabbis, I'm told, used to like to point out that in Hebrew the first letter of "In the beginning..." looks like a box with three sides, and only one opening. This was to convey the message, don't ask what happened before, or what might be happening somewhere else. The only story we care about starts here.

We all have our rabbis. But we keep asking anyway, what comes before? What comes before that first sentence of Capital, what's happening elsewhere? What form does wealth (claims on the good life) take in societies where the capitalist mode of production doesn't prevail? And apart from how it appears, or presents itself, what can we say about what it really is?

I think the biggest problem with how people read Capital is, they don't take the subtitle seriously: It really is a "critique of political economy." There's an overarching irony, the whole thing is written under the sign of the hypothetical. (In general, I think this irony is one of the most important, and hardest, things that students have to learn in any field.) The whole book is written to show that even if everything Ricardo said was true, capitalism would still be an unjust and inhumane (and unstable, though that doesn't come til later) economic system. But that's not the same as saying that everything Ricardo says really is true. In my opinion -- people I respect disagree -- everything Marx says about the Labor Theory of Value is preceded by an implicit "even if..." It shouldn't be interpreted as a set of positive claims about the world.

So what does Marx positively believe? For this, I think we have to turn to the early writings. I know these are deep waters, on which I am innocently paddling about in my little water wings. But in my opinion, the Economic and Philosophic Manuscripts of 1844 are the essential "before" to Capital.

In Capital, exploitation is defined in terms of the share of the product (already quantifiable; the transformation of the infinitely heterogeneous content of human activity into a mass of commodities has already taken place) to which claims accrue as a result of wage labor. But in the Manuscripts, he says

A forcing-up of wages (disregarding all other difficulties, including the fact that it would only be by force, too, that the higher wages, being an anomaly, could be maintained) would ... be nothing but better payment for the slave, and would not conquer either for the worker or for labour their human status and dignity.

Or equivalently, “The alienation of the product of labour merely summarizes the alienation in the work activity itself.” What's important is exhausting one's creative powers on alien ends. How many channels you have on tv afterward doesn't matter.

Alienated labor means (to take various of Marx's definitions):  “the work is external to the worker”; the worker "does not fulfill himself in his work”; the worker “does not develop freely his mental and physical energies”; “work is not voluntary, but imposed, forced labour”; work “is not the satisfaction of a need, but a means for satisfying other needs”; the worker “does not belong to himself but to another person.” This is the non-quantifiable fact about life under life under capitalism for which questions about the distribution of commodities are a stand-in. Everything that happens in Capital, happens after this.

"The Labouring Classes Should Have a Taste for Comforts and Enjoyments"

McDonald's model budget for its minimum-wage employees -- along with the smug, fatuous, those-people-aren't-like-us-dear defenses of it -- has been the target of well-deserved scorn.

This kind of thing has been around forever (or at least as long as capitalism). Two hundred years ago, liberal reformers offered "Promoting Sobriety and Frugality, and an Abhorrence of Gaming"as the solution to the collapse of wages following the Napoleonic wars, and gave workers instruction on "the use of roasted wheat as a substitute for coffee." You could make an endless list of these helpful suggestions to the poor to better manage their poverty.

To be fair, liberals today do mostly see this stuff as, at best, an effort by low-wage employers to divert attention from their own compensation policies to the personal responsibility of their workers. And at worst, when the budget help includes assistance enrolling in Medicaid or the EITC, as a way of getting the public to subsidize low-wage employment.

But there's a nagging sense in these conversations that, disingenuous as McDonald's is here, still, at the end of the day, frugality, living within one's means, is a virtue; that the ability to prioritize expenses and make a budget is a useful skill to have. Against that view, here's Ricardo on wages:

It is not to be understood that the natural price of labour, estimated even in food and necessaries, is absolutely fixed and constant. ... It essentially depends on the habits and customs of the people. An English labourer would consider his wages under their natural rate, and too scanty to support a family, if they enabled him to purchase no other food than potatoes, and to live in no better habitation than a mud cabin; yet these moderate demands of nature are often deemed sufficient in countries where 'man's life is cheap', and his wants easily satisfied. Many of the conveniences now enjoyed in an English cottage, would have been thought luxuries at an earlier period of our history. 

The friends of humanity cannot but wish that in all countries the labouring classes should have a taste for comforts and enjoyments, and that they should be stimulated by all legal means in their exertions to procure them. ... In those countries, where the labouring classes have the fewest wants, and are contented with the cheapest food, the people are exposed to the greatest vicissitudes and miseries.

In a world where the price of labor power depends on its cost, there's no benefit to workers from budgeting responsibly, from learning to get by on less. The less people can live on, the lower wages will be. On the other hand, to the extent that former luxuries -- a decent car, some nice clothes, dinner out once in a while, whatever consumer electronics item the scolds are going on about now -- come to be seen as necessities, such that it's not worth putting up with the bullshit of a job if you still can't afford them, then wages will have to rise enough to cover that too.

For much of the 20th century, it seemed like we had left Ricardo's world behind. Among economists, it became a well-established stylized fact that it's the wage share, not the real wage that is relatively fixed. To even sympathetic critics of Marx, the failure of real wages to gravitate toward a (socially determined) subsistence level looked like a major departure of modern economies from the capitalism he described.

These days, though, the world is looking more Ricardian. For the majority of workers without credentials or other shelter from the logic of the labor market, real wages look less like a technologically-fixed share of output than the minimum necessary to keep people participating in wage labor at all. In the subsistence-wage world of industrializing Britain, workers' "frugality, discipline or acquisitive virtues brought profit to their masters rather than success to themselves."  Conversely, in that world, which may also be our world, profligacy, waste and irresponsibility could be a kind of solidarity.

I would never presume to tell someone surviving on a minimum-wage paycheck how to live their life. I know that being poor is incredibly hard work, in a way that those of us who haven't experienced it can hardly imagine.  But as a friend of humanity, I do worry that the biggest danger isn't that people can't live on the minimum wage, but that they can. In which case we're all better off if McDonald's employees throw the bosses' helpful budget advice away.

The Exception and the Rule

MERCHANT: To assume that the Coolie would not strike me down at the first opportunity would have been to assume he had lost his reason.

JUDGE: You mean you assumed with justification that the Coolie must have had something against you. You may, then, have killed a man who possibly was harmless -- because you couldn't know he was harmless.

MERCHANT: One must go by the rule, not by the exception.

JUDGE: Then I pronounce the verdict. The Court regards it as proven that the Coolie approached his mater not with a stone but with a water flask. But even when this is granted, it is more credible that the Coolie wished to kill his master than that he wished to give him something to drink. The Merchant did not belong to the same class as his carrier. He had therefore to expect the worst from him. The Merchant could not believe in an act of comradeship on the part of a carrier whom, as he has confessed, he had brutalized. Good sense told him he was threatened in the highest degree. The accused acted, therefore, in justifiable self-defense -- it being a mater of indifference whether he was threatened or must feel himself threatened. In the circumstances he had to feel himself threatened. The accused is therefore acquitted.

The Cash and I

Martin Wolf in the FT the other day:

The third challenge is over the longer-term sources of demand. I look at this issue in terms of the sectoral financial balances – the balances between income and spending – in the household, business, external and government sectors. The question, then, is where expansion will come from. In the first quarter of this year the principal offset to fiscal contraction was the declining household surplus. 

What is needed, as well, is a big swing towards surplus in the US current account or a jump in corporate investment, relative to retained profits. Neither seems imminent, though the second seems more likely than the first. The worry is that the only way to balance the economy will be via big new bubbles. If so, this is not the fault of the Fed. It is the fault of structural features of the domestic and global economies...

This is a good point, which should be made more. If we compare aggregate expenditure today to expenditure just before the recession, it is clear that the lower level of demand today is all about lower  consumption. But maybe that's not the best comparison, because during the housing boom period, consumption was historically high. If we take a somewhat longer view, what's unusually low today is not household consumption, but business investment. Weak demand is about I, not C.

This is especially clear when we compare investment by businesses to what they are receiving in the form of profits, or, better cashflow from operations -- after-tax profits plus depreciation. [1] Here is the relationship over the past 40 years:

Corporate Investment and Cashflow from Operations as Fraction of Total Assets, 1970-2012

The graph shows annualized corporate investment and cashflow, normalized by total assets. Each dot is data from one quarter; to keep the thing legible, I've only labeled the fourth quarter of each year. As you can see, there used to be a  clear relationship between corporate profitability and corporate investment. For every additional $150, more or less, that a corporation took in from operations, it would increase capital expenditures by $100. This relationship held consistently through the 1960s (not shown), the 1970s, the 1980s and 1990s.

But now look at the past ten years, the period after 2001Q4.  Corporate investment rates are substantially lower throughout this period than at any earlier time (averaging around 3.5% of total assets, compared with 5% of assets for 1960-2001). And the relationship between aggregate profit and investment rates has simply disappeared.

Some people might say that the problem is in the financial system, that even profitable businesses can't borrow because of a breakdown in intermediation, a shortage of liquidity, an unwillingness of risk-averse investors to hold their debt, etc. I don't buy this story for a number of reasons, some of which I've laid out in recent posts here. But it at least has some certain prima facie plausibility for the period following the great financial crisis. Not for for the whole decade-plus since 2001. Saying that investment is low today because businesses can't find anyone to buy their bonds is merely wrong. Saying that's why investment was low in 2005 is absurd.

(And remember, these are aggregates, so they mainly reflect the largest corporations, the ones that should have the least problems borrowing.)

So what's a better story?

I am going to save my full answer for another post. But regular readers will not be surprised that I think the key is a shift in the relationship between corporations and shareholders. I think there's a sense in which the binding constraint on investment has changed from the terms on which management can get funds into the corporation, from profits or borrowing, to the terms are on which they can keep them from going out, to investors. But the specific story doesn't matter so much here. You can certainly imagine other explanations. Like, "the China price" -- even additional capacity that would be profitable today won't be added if it there's a danger of lower-cost imports entering that market.

The point of this post is just that corporate investment is historically low, both in absolute terms and relative to profitability. And because this has been true for a decade, it is hard to attribute this weakness to credit constraints, or believe that it will be responsive to monetary policy. (This is even more true when you recall that the link between corporate borrowing and investment has also essentially disappeared.) By contrast, household consumption remains high. I have the highest respect for Steve Fazzari, and agree that high income inequality is a key metric of the fucked-upness of our economy. But I don't think it makes sense to think of the current situation in terms of a story where high inequality reduces demand by holding down consumption.

Consumption is red, on the right scale; investment is blue, on the left. Both as shares of GDP.

As I say, I'll come back in a future post to my on preferred explanation for why a comparably profitable firm, facing comparable credit conditions, will invest less today than 20 or 30 years ago.

In the meantime, one other thing. That first graph is a nice tool for showing how a Marxist thinks about business cycles.

If you look at the graph carefully, you'll see the points follow counterclockwise loops. It's natural to see this as cycles. Like this:

Start from the bottom of a cycle, at a point like 1992. A rise in profits from whatever source leads to higher investment, mainly as a source of funds and but also because it raises expectations of future profitability. That's the lower right segment of the cycle. High investment eventually runs into supply constraints, typically in the form of a rising wage share.[1] At that point profits begin to fall. Investment, however, continues high for a while, as the credit system allows firms to bridge a growing financing gap. That's the upper right segment of the cycle. Eventually, though, if profits don't recover, investment will follow them downward. This turning point often involves a financial crisis and/or abrupt fall in asset values, like the collapse of tech stocks in 2000. This is the upper left segment of the cycle.  Finally, in the  lower left, both profits and investment are low. But after some time the conditions for profitability are restored, and we move toward the right and begin a new cycle. This last step is less reliable than the others. It's quite possible for the economy to come to rest at the lower left and wobble there for a while without any sustained change in either profits or investment. We see this in 2002-2003 and in 1988-1991.

(I think the investment boom of the late 70s and the persistent slump of the early 1990s are two of the more neglected episodes in recent economic history. The period around 1990, in particular, seems to have all the features that are supposed to be distinctive to the current macroeconomic conjuncture. At the time, people even called it a balance-sheet recession!)

For now, though, we're not interested in the general properties of cycles. We're interested in how flat and low the most recent two are, compared with earlier ones. That is the structural feature that Martin Wolf is pointing to. And it's not a new feature of the post financial crisis period, it's been the case for a dozen years at least, only temporarily obscured by the housing bubble.



UPDATE: In comments, Seth Ackerman asks if maybe using total assets to normalize investment and profits is distorting the picture. It's a good question, but the answer is no. Here's the same thing, with trend GDP in the denominator instead:

As you can see, the picture is basically the same. Investment in the 200s is still visibly depressed compared with earlier decades, and the relationship between profits and investment is much weaker. Of course, it's always possible that current high profits will lead an investment boom in the next few years...



[1] Cash from operations is better than profits for at least two reasons. First, from the point of view of aggregate demand, we are interested in gross not net investment. A dollar of investment stimulates demand just as much whether it's replacing old equipment or adding new. So our measure of income should also be gross of depreciation. Second, there are major practical and conceptual issues with measuring depreciation. Changes in accounting standards may result in very different official depreciation numbers in economically identical situations. By combining depreciation and profits, we avoid the problem of the fuzzy and shifting line between them, making it more likely that we are comparing equivalent quantities.

[2] A rising wage share need not, and often does not, take the form of rising real wages. In recent cycles especially, it's more likely to combine flat real wages with a rising relative cost of wage goods.

New Keynesians Don't Believe Their Models

Here's the thing about about saltwater, New Keynesian economists: They don't believe their own theory.

Via John Cochrane, here is a great example. In the NBER Macroeconomics Annual a couple years ago, Gauti Eggertson laid out the canonical New Keynesian case for the effectiveness of fiscal policy when interest rates are at the Zero Lower Bound. In the model Eggertson describes there -- the model that is supposed to provide the intellectual underpinnings for fiscal stimulus -- the multiplier on government spending at the ZLB is indeed much larger than in normal conditions, 2.3 rather than 0.48. But the same model says that at the ZLB, cuts in taxes on labor are contractionary, with a multiplier of -1. Every dollar of "stimulus" from the Making Work Pay tax credit, in other words, actually reduced GDP by a dollar. Or as Eggertson puts it, "Cutting taxes on labor ... is contractionary under the circumstances the United States is experiencing today. "

Now, obviously there are reasons why one might believe this. For instance, maybe lower payroll taxes just allow employers to reduce wages by the same amount, and then in response to their lower costs they reduce prices, which is deflationary. There's nothing wrong with that story in principle. No, the point isn't that the New Keynesian claim that payroll tax cuts reduce demand is wrong -- though I think that it is. The point is that nobody actually believes it.

In the debates over the stimulus bill back at the beginning of 2009, everyone agreed that payroll tax cuts were stimulus just as much as spending increases. The CBO certainly did. There were plenty of "New Keynesian" economists involved in that debate, and while they may have said that tax cuts would boost demand less than direct government spending, I'm pretty sure that not one of them said that payroll tax cuts would actually reduce demand. And when the payroll tax cuts were allowed to expire at the end of 2012, did anyone make the case that this was actually expansionary? Of course not. The conventional wisdom was that the payroll tax cuts had a large, positive effect on demand, with a multiplier around positive 1. Regardless of good New Keynesian theory.

As a matter of fact, even Eggertson doesn't seem to believe that raising taxes on labor will boost demand, whether or not it's what the math says. The "natural result" of his model, he admits, is that any increase in government spending should be financed by higher taxes. But:

There may, however, be important reasons outside the model that suggest that an increase in labor and capital taxes may be unwise and/or impractical. For these reasons I am not ready to suggest, based on this analysis alone, that raising capital and labor taxes is a good idea at zero interest rates. Indeed, my conjecture is that a reasonable case can be made for a temporary budget deficit to finance a stimulus plan... 

Well, yeah. I think most of us can agree that raising payroll taxes in a recession is probably not the best idea. But at this point, what are we even doing here? If you're going to defer to arguments "outside the model" whenever the model says something inconvenient or surprising, why are you even doing it?


EDIT: I put this post up a few days ago, then took it down because it seemed a little thin and I thought I would add another example or two of the same kind of thing. But I'm feeling now that more criticism of mainstream economics is not a good use of my time. If that's what you want, you should check out this great post by Noah Smith. Noah is so effective here for the same reason that he's sometimes so irritatingly wrong -- he's writing from inside the mainstream. The truth is, to properly criticize these models, you have to have a deep knowledge of them, which he has and I do not.

Arjun and I have a piece in an upcoming Economics and Politics Weekly on how liberal, "saltwater" economists share the blame for creating an intellectual environment favorable to austerian arguments, however much they oppose them in particular cases. I feel pretty good about it -- will link here when it comes out -- I think for me, that's enough criticism of modern macro. In general, the problem with radical economists is they spend too much time on negative criticism of the economics profession, and not enough making a positive case for an alternative. This criticism applies to me too. My comparative advantage in econblogging is presenting interesting Keynesian and Marxist work.

One thing one learns working at a place like Working Families, the hard thing is not convincing people that shit is fucked up and bullshit, the hard thing is convincing them there's anything they can do about it.  Same deal here: The real challenge isn't showing the other guys are wrong, it's showing that we have something better.

That Safe Asset Shortage, Continued

Regular readers of the blog will know that we have been having a contradiction with Brad DeLong and the rest of the monetarist mainstream of modern macroeconomics.

They think that demand constraints imply, by definition, an excess demand for money or "safe assets." Unemployment implies disequilibrium, for them; if everyone can achieve their desired transactions at the prevailing prices, then society's productive capacity will always be fully utilized. Whereas I think that the interdependence of income and expenditure means that all markets can clear at a range of different levels of output and employment.

What does this mean in practice? I am pretty sure that no one thinks the desire to accumulate safe assets  directly reduces demand for current goods from households and nonfinancial businesses. If a safe asset shortage is restricting demand for real goods and services, it must be via an unwillingness of banks to hold the liabilities of nonfinancial units. Somebody has to be credit constrained.

So then: What spending is more credit constrained now, than before the crisis?

It's natural to say, business investment. But in fact, nonresidential investment is recovering nicely. And as I pointed out last week, by any obvious measure credit conditions for business are exceptionally favorable. Risky business debt is trading at historically low yields, while the volume of new issues of high-risk corporate debt is more than twice what it was on the eve of the crisis. There's some evidence that credit constraints were important for businesses in the immediate post-Lehmann period, if not more recently; but even for the acute crisis period it's hard to explain the majority of the decline in business investment that way. And today, it certainly looks like the supply of business credit is higher, not lower, than before 2008.

Similarly, if a lack of safe assets has reduced intermediaries' willingness to hold household liabilities, it's hard to see it in the data. We know that interest rates are low. We know that most household deleveraging has taken place via default, as opposed to reduced borrowing. We know the applications for mortgages and new credit cards have continued to be accepted at the same rate as before the crisis. And this week's new Household Credit and Debt Report confirms that people are coming no closer than before the crisis, to exhausting their credit-card credit. Here's a graph I just made of credit card balances and limits, from the report:

Ratio of total credit card balances to total limits (blue bars) on left scale; indexes of actual and trend consumption (orange lines) on right scale. Source: New York Fed.

The blue bars show total credit card debt outstanding, divided by total credit card limits. As you can see, borrowers did significantly draw down their credit in the immediate crisis period, with balances rising from about 23% to about 28% of total credit available. This is just as one would expect in a situation where more people were pushing up against liquidity constraints. But for the past year and a half, the ratio of credit card balances to limits has been no higher than before the crisis. Yet, as the orange lines show, consumption hasn't returned to the pre-crisis trend; if anything, it continues to fall further behind. So it looks like a large number of household were pressing against their credit limit during the recession itself (as during the previous one), but not since 2011. One more reason to think that, while the financial crisis may have helped trigger the downturn, household consumption today is not being held back a lack of available credit, or a safe asset shortage.

If it's credit constraints holding back real expenditure, who or what exactly is constrained?

Tell Me About that "Safe Asset Shortage" Again

From today's FT:

US Junk Debt Yield Hits Historic Low

The average yield on US junk-rated debt fell below 5 per cent for the first time on Monday, setting yet another milestone in a multiyear rally and illustrating the massive demand for fixed income returns as central banks suppress interest rates. 

Junk bonds and equities often move in tandem, and with the S&P 500 rising above 1,600 points for the first time and sitting on a double digit gain this year, speculative rated corporate bonds are also on a tear. ... With corporate default rates below historical averages, investors are willing to overlook the weaker credit quality in exchange for higher returns on the securities, analysts said. ... The demand for yield has become the major driver of investor behaviour this year, as they downplay high valuations for junk bonds and dividend paying stocks. 

“Maybe the hurdles of 6 per cent and now 5 per cent on high-yield bonds are less relevant given the insatiable demand for income,” said Jim Sarni, managing principal at Payden & Rygel. “People need income and they are less concerned about valuations.”

In other words, the demand for risky assets is exceptionally high, and this has driven up their price. Or to put it the other way, if you are a high-risk corporate borrower, now is a very good time to be looking for a loan.

Here's the same thing in a figure. Instead of their absolute yield, this shows the spread of junk bonds over AAA:

Difference between CCC- and AAA bond yields

See how high it is now, over on the far right? Yeah, me neither. But if the premium for safe assets is currently quite low, how can you say that it is a shortage of safe assets that is holding back the recovery? If financial markets are willing to lend money to risky borrowers on exceptionally generous terms, how can you say the problem is a shortage of risk-bearing capacity?

Now, the shortage-of-safe-assets story does fit the acute financial crisis period. There was a period in late 2008 and early 2009 when banks were very wary of holding risky assets, and this may have had real effects. (I say "may" because some large part of the apparent fall in the supply of credit in the crisis was limited to banks' unwillingness to lend to each other.) But by the end of 2009, the disruptions in the financial markets were over, and by all the obvious measures credit was as available as before the crisis. The difference is that now households and firms wished to borrow less. So, yes, there was excess demand for safe assets in the crisis itself; but since then, it seems to me, we are in a situation where all markets clear, just at a lower level of activity.

This is a perfect illustration of the importance of the difference between the intertemporal optimization vision of modern macro, and the income-expenditure vision of older Keynesian macro. In modern macro, it is necessarily true that a shortfall of demand for currently produced goods and services is equivalent to an excess demand for money or some other asset that the private sector can't produce. Or as DeLong puts it:

If you relieve the excess demand for financial assets, you also cure the excess supply of goods and services (the shortfall of aggregate demand) and the excess supply of labor (mass unemployment).

Because what else can people spend their (given, lifetime) income on, except currently produced stuff or assets? If they want less of one, that must mean they want more of the other.

In the Keynesian vision, by contrast, there's no fixed budget -- no endowment -- to be allocated. People don't know their lifetime income; indeed, there is no true expected value of future income out there for them to know. So households and businesses adjust current spending based on current income. Which means that all markets can clear at a various different levels of aggregate activity. Or in other words, people can rationally believe they are on their budget constraint at different levels of expenditure, so there is no reason that a decline in desired expenditure in one direction (currently produced stuff) has to be accompanied by an increase in some other direction (safe assets or money).

(This is one reason why fundamental uncertainty is important to the Keynesian system.)

For income-expenditure Keynesians, it may well be true that the financial meltdown triggered the recession. But that doesn't mean that an ongoing depression implies an ongoing credit crisis. Once underway, a low level of activity is self-reinforcing, even if financial markets return to a pristine state and asset markets all clear perfectly. Modern macro, on the other hand, does need a continued failure in financial markets to explain output continuing to fall short of potential. So they imagine a "safe asset shortage" even when the markets are shouting "safe asset glut."


EDIT: I made this same case, more convincingly I think, in this post from December about credit card debt. The key points are (1) current low demand is much more a matter of depressed consumption than depressed investment; (2) it's nonsense to say that households suffer from a shortage of safe assets since they face an infinitely-elastic supply of government-guaranteed bank deposits, the safest, most liquid asset there is; (3) while it's possible in principle for a safe-asset shortage to show up as an unwillingness of financial intermediaries to hold household debt, the evidence is overwhelming that the fall in household borrowing is driven by demand, not supply. The entire fall in credit card debt is accounted for by defaults and reduced applications; the proportion of credit card applications accepted, and the average balance per card, have not fallen at all.

Don't Touch the Yield

There's a widespread idea in finance and economics land that there's something wrong, dangerous, even unnatural about persistently low interest rates.

This idea takes its perhaps most reasonable form in arguments that the fundamental cause of the Great Financial Crisis was rates that were "far too low for far too long," and that continued low interest rates, going forward, will only encourage speculation and new asset bubbles. Behind, or anyway alongside, these kinds of claims is a more fundamentally ideological view, that owners of financial assets are morally entitled to their accustomed returns, and woe betide the society or central banker that deprives them of the fruit of their non-labor. You hear this when certain well-known economists describe low rates as the "rape and plunder" of bondowners, or when Jim Grant says that the real victims of the recession are investors in money-market funds.

I want to look today at the "reaching for yield" version of this argument, which Brad Delong flagged as PRIORITY #1 RED FLAG OMEGA for the econosphere after it was endorsed by the Federal Reserve's Jeremy Stein. [1] In DeLong's summary:

Bankers want profits. ... And a bank has costs above and beyond the returns on its portfolio. For each dollar of deposits it collects, a bank must spend 2.5 cents per year servicing those deposits. In normal times, when interest rates are well above 2.5 percent per year, banks have a normal, sensible attitude to risk and return. They will accept greater risk only if they come with returns higher enough to actually diminish the chances of reporting a loss. But when interest rates fall low enough that even the most sensible portfolio cannot reliably deliver a return on the portfolio high enough to cover the 2.5 cent per year cost of managing deposits, a bank will "reach for yield" and start writing correlated unhedged out-of-the-money puts so that it covers its 2.5 percent per year hurdle unless its little world blows up. Banks stop reducing their risk as falling returns mean that diversification and margin can no longer be counted on to manage them but instead embrace risks. 

It is Stein's judgment that right now whatever benefits are being provided to employment and production by the Federal Reserve's super-sub-normal interest rate policy and aggressive quantitative easing are outweighed by the risks being run by banks that are reaching for yield. 

Now on one level, this just seems like a non-sequitur. "Banks holding more risky assets" is, after all, just another way of saying "banks making more loans." In fact, it's hard to see how monetary policy is ever supposed to work if we rule out the possibility of shifting banks' demand for risky private assets. [1] An Austrian, I suppose, might follow this logic to its conclusion and reject the idea of monetary policy in general; but presumably not an Obama appointee to the Fed.

But there's an even more fundamental problem, not only with the argument here but with the broader idea -- shared even by people who should know better -- that low interest rates hurt bank profits. It's natural to think that banks receive interest payments, so lower interest means less money for the bankers. But that is wrong.

Banks are the biggest borrowers as well as the biggest lenders in the economy, so what matters is not the absolute level of interest rates, but the spread -- the difference between the rate at which banks borrow and the rate at which they lend. A bank covers its costs as reliably borrowing at 1 percent and lending at 4, as it does borrowing at 3 percent and lending at 6. So if we want to argue that monetary policy affects the profitability of bank lending, we have to argue that it has a differential effect on banks funding costs and lending rates.

For many people making the low-rates-are-bad-for-banks argument, this differential effect may come from a mental model in which the main bank liabilities are non-interest-bearing deposits. Look at the DeLong quote again -- in the world it's describing, banks pay a fixed rate on their liabilities. And at one point that is what the real world looked like too.

In 1960, non-interest-bearing deposits made up over two-thirds of total bank liabilities. In a system like that, it's natural to see the effect of monetary policy as mainly on the asset side of bank balance sheets. But today's bank balance sheets look very different: commercial banks now pay interest on around 80 percent of their liabilities. So it's much less clear, a priori, why policy changes should affect banks interest income more than their funding costs. Since banks borrow short and lend long (that's sort of what it means to be a bank), and since monetary policy has its strongest effects at shorter maturities, one might even expect the effect on spreads to go the other way.

And in fact, when we look at the data, that is what we see.

Average interest rate paid (red) and received (blue) by commercial banks. Source: FDIC

The black line with diamonds is the Federal Funds rate, set by monetary policy. The blue line is the average interest rate charged by commercial banks on all loans and leases; the solid red line is their average funding cost; and the dotted red line is the average interest rate on commercial banks' interest-bearing liabilities. [3] As the figure shows, in the 1950s and '60s changes in the federal funds rate didn't move banks' funding costs at all, while they did have some effect on loan rates; the reach-for-yield story might have made sense then. But in recent decades, as banks' pool of cheap deposit funding has dried up, bank funding costs have become increasingly sensitive to the policy rate.

Looking at the most recent cycle, the decline in the Fed Funds rate from around 5 percent in 2006-2007 to the zero of today has been associated with a 2.5 point fall in bank funding costs but only a 1.5 point fall in bank lending rates -- in other words, a one point increase in spreads. The same relationship, though weaker, is present in the previous two cycles, but not before. More generally, the correlation of changes in the federal funds rate and changes in bank spreads is 0.49 for 1955-1980, but negative 0.38 for the years 1991-2001. So Stein's argument fails at the first step. If low bank margins are the problem, then "super-sub-normal interest rate policy" is the solution.

Let's walk through this again. The thing that banks care about is the difference between what it costs them to borrow, and what they can charge to lend. Wider spreads mean lending is more profitable, narrower spreads mean it's less so. And if banks need a minimum return on their lending -- to cover fixed costs, or to pay executives expected bonuses or whatever -- then when spreads get too narrow, banks may be tempted to take underprice risk. That's "reaching for yield." So turning to the figure, the spread is the space between the solid red line and the solid blue one. As we can see, in the 1950s and '60s, when banks funded themselves mostly with deposits, the red line -- their borrowing costs -- doesn't move at all with the federal funds rate. So for instance the sharp tightening at the end of the 1960s raises average bank lending rates by several points, but doesn't move bank borrowing rates at all. So in that period, a high federal funds rate means wide bank spreads, and a low federal funds rate means narrower spreads. In that context the "reaching for yield" story has a certain logic (which is not to say it would be true, or important.) But since the 1980s, the red line -- bank funding costs -- has become much more responsive to the federal funds rate, so this relationship between monetary policy and bank spreads no longer exists. If anything, as I said, the correlation runs in the opposite direction.

Short version: When banks are funded by non-interest bearing deposits, low interest rates can hurt their profits, which makes them have a sad face. But when banks pay interest on almost all their liabilities, as today, low rates make them have a happy face. [4] In which case there's no reason for them to reach for yield.

Now, it is true that the Fed has also intervened directly in the long end, where one might expect the impact on bank lending rates to be stronger. This is specifically the focus of a speech by Stein last October, where he explicitly said that if the policy rate were currently 3 percent he would have no objection to lowering it, but that he was more worried about unconventional policy to directly target long rates. [5] He offers a number of reasons why a fall in long rates due an expectation of lower short rates in the future would be expansionary, but a fall in long rates due to a lower term premium might not be. Frankly I find all these explanations ad-hoc and hand-wavey. But the key point for present purposes is that unconventional policy does not involve the central bank setting some kind of regulatory ceiling on long rates; rather, it involves lowering long rates via voluntary transactions with lenders. The way the Fed lowers rates on long bonds is by raising their price; the way it raises their price is by buying them. It is true, simply as a matter of logic, that the only way that QE can lower the market rate on a loan from, say, 4 percent to 3.9 percent, is by buying up enough loans (or rather, assets that are substitutes for loans) that the marginal lender now values a 3.9 percent loan the same as the marginal lender valued a 4 percent loan before. If a lender who previously would have considered a loan at 4 percent just worth making, does not now consider a loan at 3.9 percent worth making, then the interest rate on loans will not fall. Despite what John Taylor imagines, the Fed does not reduce interest rates by imposing a ceiling by fiat. So the statement, "if the Fed lowers long rates, bank won't want to lend" is incoherent: the only way the Fed can lower long rates is by making banks want to lend more.

Stein's argument is, to be honest, a bit puzzling. If it were true that banks respond to lower rates not by reducing lending or accepting lower profit margins, but by redoubling their efforts to fraudulently inflate returns, that would seem to be an argument for radically reforming the bank industry, or at least sending a bunch of bankers to jail. Stein, weirdly, wants it to be an argument for keeping rates perpetually high. But we don't even need to have that conversation. Because what matters to banks is not the absolute level of rates, but the spread between their borrowing rate and their lending rate. And in the current institutional setting, expansionary policy implies higher spreads. Nobody needs to be reaching for yield.

[1] The DeLong post doesn't give a link, but I think he's responding to this February 7 speech.

[2] As Daniel Davies puts it in comments to the DeLong post:

If the Federal Reserve sets out on a policy of lowering interest rates in order to encourage banks to make loans to the real economy, it is a bit weird for someone's main critique of the policy to be that it is encouraging banks to make loans. If Jeremy Stein worked for McDonalds, he would be warning that their latest ad campaign carried a risk that it might increase sales of delicious hamburgers.

[3] Specifically, these are commercial banks' total interest payments from loans and leases divided by the total stock of loans and leases, and total interest payments divided by total liabilities and interest-bearing liabilities respectively.

[4] Why yes, I have been hanging around with a toddler lately. 

[5] Interesting historical aside: Keynes' conclusion in the 1930s that central bank intereventions could not restore full employment and that fiscal policy was therefore necessary, was not -- pace the postwar Keynesian mainstream -- based on any skepticism about the responsiveness of economic activity to interest rates in principle. It was, rather, based on his long-standing doubts about the reliability of the link from short rates to long rates, plus a new conviction that central banks would be politically unable or unwilling to target long rates directly.

Planned Service Changes

[Edit, 4-30-14: I put this post up a week ago and then took it down after a few hours because, seriously, there is no way I am going on hiatus. But apparently it's bad form to put a post up and then delete it, so in the interests of historical integrity I'm putting it back.]

This blog has never had a high volume of posts, but it's going to drop to zero for the next few months.

As some of you know, I'm in the final stages of my PhD at UMass-Amherst (the Gondor of the austerity wars). I've been working on this thing for quite a few years, and could happily work on it quite a few more -- except, damn it, I went and got a job. Starting next fall, I'll be an assistant professor in the economics department at Roosevelt University in Chicago.

It's a good job. I like the department a lot: it's unapologetically heterodox and serves mostly working-class students; I like my new colleagues and I don't mind moving back to Chicago, where I lived for most of the '90s. Of course my mother thinks I should be at Harvard, and I do harbor fantasies of teaching at the PhD level. But that's not going to happen, and short of that, Roosevelt is about ideal for me. So I'm happy.

But! I do have to get the dissertation done and defended before then. So, rewarding as this blog is -- and it really is rewarding; I think I have the best readers in the econosphere -- I need to shut it down. Next post you see from me, will be after the thesis is submitted. slow the pace of posting, from its already low levels.

Honestly, you probably won't even notice the difference.