Author: Lara Merling

Lara discovered the legacy of Hyman Minsky and the research of the Levy Institute during her undergraduate studies at Bard College. Lara went on to study post-Keynesian economics at the Levy Economics Institute. She is currently finishing her PhD dissertation at the Bucharest University of Economics, in her home country of Romania. Her goal is to deepen her understanding of post-Keynesian economics and to advocate for a change in how economic policy is drafted. Lara works as a Policy Advisor at the International Trade Union Confederation and is a Senior Research Fellow at the Center for Economic and Policy Research in Washington DC.

Germany Does Have Unfair Trade Advantages

In one of Donald Trump’s rants, he claimed the reason why there are so many German cars in the U.S. is that their automakers do not behave fairly. The German economy’s prompt response was that “the U.S. just needs to build better cars.” However, this time, probably without even realizing it, Donald Trump was on to something – Germany’s currency setup does give it unfair trade advantages.

While China is commonly accused of currency manipulation to provide cheap exports, the IMF has recently decided the renminbi (RMB) is no longer undervalued and added it in its reserve currency basket, along with other major currencies. However, an IMF analysis of Germany’s currency found “an undervaluation of 5-15 percent” for the Euro in the case of Germany. Thus for Germany, the Euro has a significantly lower value than a solely German currency would have.

Since the Euro was introduced, Germany has become an export powerhouse. This is not because after 2000 the quality of German goods has improved, but rather because as a member of the Eurozone, Germany had the opportunity to boost its exports with policies that allowed it to maintain an undervalued currency.

Germany and France are the largest Eurozone economies. Prior to joining the Eurozone, both countries had modest trade surpluses.

In the above figure we can see how following the implementation of the Euro, the trade balances of Germany and France completely diverged. The French moved to having a persistent trade deficit (importing more than they export), while Germany’s surplus exploded (exporting much more than they import). After a brief decline in the surplus in the immediate aftermath of the crisis, it is now again on the rise.

In the early 2000s Germany undertook several national policies to artificially hold wages down. These measures were seen as a success for Germany globally. By being part of the Eurozone and holding down wages, the Germans could export at extremely competitive prices globally. Had they not been part of the Eurozone, their currency would have appreciated, and they would not have the same advantages.

In the aftermath of the European debt crisis, Germany took a tough stance on struggling debtor countries. Under German leadership, the European Commission imposed draconic austerity measures on countries such as Greece to punish them for spending irresponsibly. Spearheaded by Germany, The EU (along with the IMF) offered a bailout to Greece so that it could pay the German and French banks it owed money to.

This bailout came with strict conditions for the Greek government that was forced to impose harsh austerity. The promise was that if the government cut its spending, the increased market confidence would help the economy recover. As a member of the Eurozone, Greece had very limited monetary policy tools it could use. Currency devaluation was no longer an option, the country was stuck with a currency that was too strong for its economy.

Meanwhile Germany prospered and enjoyed the perks of an undervalued currency. Being able to supply German goods at relatively low prices, Germany’s exports flourished. At the same time, Greeks, and other countries at the periphery of the union, were only left with the choice to face a strong internal devaluation, which meant letting unemployment explode and wages collapse until they become attractive destinations for investment.

Germany consistently broke the rules of the currency area, without ever being punished. When it first broke the deficit limits agreed upon by Eurozone members in 2003, the European Commission turned a blind eye. Germany is often considered to have set an example for other EU nations by practicing sound finance, and having a growing, healthy economy.

Greece, on the other hand is blamed for spending too much on social services, and many of its problems are blamed on being a welfare state. When you compare the actual numbers, however, Greece’s average social spending is much less than that of Germany. Between 1998 and 2005, Greece spent an average of 19 percent of GDP, while Germany spent as much as 26 percent.

To address these vast differences in the trade patterns of the EU nations, the European Commission introduced the so-called “six-pack” in 2011. These regulations introduced procedures to address “Macroeconomic Imbalances.” However, as found in the Commission’s country report “Germany has made limited progress in addressing the 2014 country-specific recommendations.”

Germany’s trade competitiveness comes at the price of making other members of the Eurozone less competitive. This is something that Germany needs to be aware of when responding to the problems other economies are facing. Currently Germany is demanding punishments for countries whose have few policy tools available to stimulate growth as Eurozone members.

However, Germany should keep in mind that the Euro is preventing the currency adjustments that would take away its trade competitiveness. Without a struggling EU periphery, there wouldn’t be a flourishing Germany.

Rigged: How Mainstream Economics Failed Us All

Econ 101 operates under the observation that “households and firms interacting in markets act as if they are guided by an invisible hand that leads them to desirable market outcomes.” Thus the role of the economist is “to understand how this invisible hand works its magic,” a role limited to developing and employing models to illustrate the magic workings of this invisible hand. Dean Baker’s latest book, “Rigged: How Globalization and the Rules of the Modern Economy Were Structured to Make the Rich Richer,” tells a different story. The “invisible hand,” guiding the market, is actually the hand of the financial and political elites, who work to ensure the market works in their favor and to facilitate upwards distribution of income.

In the late 19th century neoclassical economics transformed the subject into “the Calculus of Pain and Pleasure,” by introducing the concept of utility, and creating a theory based on the assumption that each individual aims to maximize their own utility. By introducing a mathematical component, the new theory offers, as Baker states, “a basis for distributing income that is independent of political decisions or moral judgments.” The discussions about class struggle and distribution of wealth, which previously dominated the economics debate, became obsolete. Ever since the mathematical component has become the norm in mainstream economics.

“Rigged: How Globalization and the Rules of the Modern Economy Were Structured to Make the Rich Richer” very skillfully proves that textbook economics is far removed from the world we actually live in. Baker shows how the distribution of income in our society has little to do with merit and how postulates of neoclassical economics are selectively invoked to prevent any actions that do not benefit elites. Interventions that promote upwards distribution of incomes are never criticized, while inequality and unemployment are left for the invisible hand to fix.

Head-on the book addresses the myth of the free market: “markets are never just given. Neither God nor nature hands us a worked-out set of rules determining the way property relations are defined, contracts are enforced, or macroeconomic policy is implemented. These matters are determined by policy choices.” It is active policy and not some magical invisible hand that lead to the unequal society in which we live. Baker then goes on to address some of the main policies that actively intervened in the economy to distribute income upwards.

Mainstream economics heavily criticizes government regulation and intervention, yet “almost no proponent of deregulation argued against the bailouts that saved Wall Street in the financial crisis.” Regulation is criticized when it threatens profit opportunities but welcomed in instances where it provides government-backed insurance. The financial sector, which has significantly ballooned in the past decades, has enormously profited from bailouts, yet without suffering any consequences for the harm it caused to the rest of the economy in the aftermath of the financial crisis. The large wages in the financial sector effectively constitute rents for those who manage it and offer no incentive to reform and reduce its size. A “ballooned” financial system where the waste “provides income for some of the highest earners in the economy” that takes government bailouts when it fails is a good example that there is no invisible hand moving things towards optimal outcomes.

Another form of government intervention that is heavily critiqued by mainstream economics is protectionism. The recent debates on trade deals have brought the issue of protecting U.S workers from competition from abroad to the forefront. Many of the people “remarking on the narrow-mindedness and sense of entitlement of manufacturing workers” that are refusing to quietly take a hit on their pay to make goods cheaper for everyone else “earn comfortable six-figure salaries.” And while trade deals open up competition for manufacturing workers, they actually offer protections for those at the top of the income distribution. These deals usually propose strict enforcement of copyright and patent protections that secure monopolies and high incomes for many companies and their top earners.

Furthermore, while manufacturing workers are exposed to competition from abroad, professionals are shielded from it. “Developing countries also have tens of millions of smart and ambitious people willing to work as doctors and lawyers in the United States for a fraction of the pay of the ones we have now.” They are not allowed to do so and there are many restrictions in place that bar those people from working in the United States. Yet, these policies are not being labelled as protectionism. Again, intervention is considered unacceptable to protect those who are vulnerable but acceptable when it benefits those in political power.

At the core of mainstream economics is the idea that pay is related to productivity. This claim is refuted in the chapter that addresses the pay of executives in the United States. It is hard to explain the sharp increase in the pay of top executives based on their actual productivity. Baker points out that in the 1960s, CEO pay was 20-1 compared to their average worker. In 2015 that ratio was 276-1. Significantly, stories like that of Home Depot’s Robert Nardelli, who walked out with a significant payout after leaving the company in worse shape, prove that his pay had little to do with the value added to the company. “The pay of top executives is not determined in anything resembling a normal market” but is decided by corporate boards with little incentive to restrict it. To make matter worse, the high pay of CEOs spills out to other top executives, including those working in the non-profit sector. All this while wages for most other workers have virtually stagnated in the past decades. The story of workers being paid based on their marginal productivity just does not hold.

Perhaps the most important issue in Baker’s book is pointing out the problem of unemployment as a deliberate policy choice. A full-employment economy is clearly beneficial to workers and “the key element in assuring the benefits of growth are shared equally throughout the income distribution.” In a full employment economy, workers have the necessary bargaining power to ensure they also enjoy the gains from growth. Persistent unemployment is proof that the invisible hand is not taking the economy towards full employment.

The financial industry, as well as some powerful business interests, would be the only potential losers in a full employment situation. For financial intermediaries, the risk of inflation is damaging to any lending activities. For business, high bargaining power of workers means more money paid towards wages. The non-interventionist principles of mainstream economics are aggressively used to argue against any type of expansionary policy that promotes full-employment. The same elites that benefit from all the non-market mechanisms that distribute income upwards, selectively invoke the dangers of intervention when it is not in their favor.

Average people are scared into opposing any type of expansionary government policy through predictions of hyperinflation that would destroy the economy. Weimar and Zimbabwe are brought up as examples of what happens when a government decides to print money. However, neither of those stories are appropriate comparisons to the current situation the US finds itself in. For the US government, the purpose of printing money would be stimulating weak demand. Zimbabwe and Weimar simply printed money to pay their bills because they were broke. A policy “that insists on balanced budgets or low deficits is a policy designed to keep unemployment high” but sold as one that is meant to protect everyone from the dangers of inflation.

The policies presented by Baker in his book prove that the society we live in “is not laissez-faire or the free market” but it “is operating the government to benefit a select group.” This group cites the wisdom of neoclassical economics when it aligns with their interests but does not follow the same principles in other circumstances. Clearly, textbook economics is far removed from how the real world works.

Baker proves our economy is rigged in favor of the rich. To ensure economic gains are shared by all, it is essential to deepen our understanding of economics to more than just one failed theory. Mainstream economic models all failed to see the crisis and housing bubble, while Baker and non-mainstream economists, such as Hyman Minsky were able to see it coming. While Minsky’s work, in relation to the financial system, has gained many followers since the crisis, his ideas aimed at addressing poverty and reaching full-employment, are still overlooked. Maybe it is finally time to consider other non-mainstream proposals and make out-of-the-box economic approaches accessible to all, so we can all participate in an informed debate on policy issues.

The book “Rigged: How Globalization and the Rules of the Modern Economy Were Structured to Make the Rich Richer” is available in PDF form for free. You can also order a hard copy from Amazon.

Paid Leave and Daycare: Luxuries of the Wealthy

The U.S. trails the rest of the world in benefits available to families. Currently, the only industrialized country that does not guarantee paid maternity leave for new mothers is the United States. While other countries offer generous paid parental leave and some form of childcare subsidies, the U.S. does not. This lack of policies to support working families widens economic inequality and limits opportunities of children not born in wealthy households.

Deficit hawks often use their concern for future generations as a basis to argue in favor of cutting entitlement programs such as Social Security. Instead of talking about cutting entitlements, the story should be about expanding them with programs that will actually help children, such as providing paid family leave for parents and addressing the rising costs of childcare. If our children are so important to deficit hawks, then why do they oppose policies that would actually have a positive impact on their future?

Various studies have pointed out the positive impact of paid parental leave on both the child and family’s health. Some of the known benefits are lower child mortality, lower rates of post-natal depression in mothers, and a greater likelihood that mothers will return to work. Particularly interesting is a study that points to higher educational attainments and incomes for children whose mothers had taken maternity leave.

In the United States, the Family Medical Leave Act (FMLA) offers 12 weeks of job-protected unpaid leave to eligible employees. To qualify for unpaid leave under the FMLA, an employee needs to have been working for over 12 months for a company that hires at least 50 people. While this might be a start, it leaves about half of the workers uncovered. Even for those who are covered by the FMLA, they must afford giving up their paychecks for those 12 weeks. The act does little to help those who are left out or cannot afford to renounce their paychecks. This adds pressure on people at the lower end of the income distribution that might be pushed below the poverty line if forced to give up their incomes.

California, New Jersey, and Rhode Island are the only three states that offer paid family leave by building onto existing disabilities programs. These states labeled pregnancy as a “temporary disability,” which offered a path to receiving a wage replacement for up to 6 weeks. An extensive study from the Center for Economic and Policy Research found that introducing the policy had a positive or no noticeable effect on 89 percent of the businesses surveyed. However, these policies are very modest compared to the rest of the world, with countries sometimes offering more than 50 weeks of paid leave.

Despite the lack of a federal mandate, some employers voluntarily provide paid family leave. While prestigious companies boast generous leave policies, they are usually only available to highly skilled and highly paid workers. The BLS estimates that about 13 percent of all workers in the US have access to paid family leave. However, there are very large discrepancies between types of workers. Twenty-five percent of those working in the management, business, and financial sector benefit from paid family leave, compared to only 7 percent of those working in the service industry.

The above figure shows the striking differences in access to paid leave by wage level. Top-earners are more than 4 times likelier than those at the lower end to be offered paid family leave by their employer. The data illustrate how mandating paid leave would help those who need it the most and are least likely to afford to take unpaid leave.

Another issue that disproportionately affects lower-income families is the cost of childcare. The Economic Policy Institute found that minimum wage workers would have to spend most of their income on childcare. Another shocking finding is that in 33 states the cost of infant care exceeds average tuition at a public 4-year university. While conversations about college affordability and the debt some students have to incur to cover the costs are common, the issue of daycare affordability is discussed much less. The quality of daycare affects the future outcomes for children, putting those whose parents cannot afford high-quality childcare at a clear disadvantage.

It is fairly common practice in many other countries for the government to subsidize childcare. The generous leave policies, along with childcare subsidies seem to be working for other countries that are catching up with the US in terms of female labor force participation. Surprisingly enough, at some point in its history, the US had a government funded universal childcare program. During World War II, the Lanham Act provided funds to enable women to participate more actively in the labor market. Despite the positive impact the program had, it was abandoned once the war ended and the men who returned took back their jobs. If such a program was possible then, it is most certainly possible now, when a high percentage of women are in the labor market.

With childcare costs outpacing overall inflation, while wages not at the top of the distribution have been stagnating, the burden of raising children falls disproportionately on families that are not wealthy. Paid leave and affordable daycare would help children grow up to their full potential. By lowering financial strain on the parents and improving outcomes for the children, these policies would also tackle the growing income inequality. Instead of focusing on reducing the deficit, which would actually hurt future generations, the U.S should expand entitlements to children to show it is really concerned with their future.

The Trans-Pacific Partnership, Trade Deals and Income Inequality

When Oxfam’s 2016 Davos Report revealed that 62 people own half of the global wealth many were shocked by this finding and attributed it to high poverty levels in low-income countries. However, wealth inequality is also a problem in rich countries like the US. The OECD found that the wealthiest 10% of US households own 76% of the total wealth, while those at the bottom 40% of the distribution have no wealth at all. To make matters worse, the 2008 Great Recession wiped out the wealth of many American families, and they failed to regain it in the ensuing recovery. Research done by Levy Institute’s Pavlina Tcherneva found that in the aftermath of the Great Recession, real incomes of those in the bottom 90% of the US income distribution have fallen, while those in the top 10% have enjoyed all the gains of the recovery.

These trends are the result of neoliberal “free-market” policies implemented since the 80s, which emphasized tax cuts, deregulation, and weakening of labor protections, all under the guise of increasing efficiency. Trade deals, while not the sole culprit, have played an important part in the downward pressure on wages for American workers and the loss of numerous domestic manufacturing jobs. The rise in global trade has created severe competition for many American workers, many of whom have lost their jobs or been forced to accept pay cuts. Trade agreements put in place by the US offer corporations the necessary legal protections to safely relocate their business overseas. While proponents of trade agreements continue to insist these will create new jobs for American workers, the opposite has been true. For example, the Economic Policy Institute estimates that almost 700,000 jobs have been lost as result of the North American Free Trade Agreement (NAFTA), despite it promising to create 200,000 new jobs for American workers.

The Trans-Pacific Partnership (TPP), an agreement between 12 countries, which together make up for 40% of world trade, is considered by Obama a key element of his legacy and follows a “pro-market” approach similar to most policies of the neoliberal era. This pact will eliminate tariffs, and impose and enforce stronger patent protections overseas while also reducing restrictions for tech companies to enter foreign markets. Obama’s administration promises the deal will “level the playing field for American workers & American businesses,” and “strengthen the American middle class.” However, a closer reading of the provisions of the agreement offers a different interpretation. The TPP will strengthen the power of multinational corporations, expand their influence over governments, and increase profit margins at the expense of American workers.

Amongst the most concerning provisions of the TPP is one that gives corporations an easy path towards suing governments and thus undermining their sovereignty. The treaty agrees to establish an Investor-State Dispute Settlement (ISDS), through which corporations can challenge domestic laws in countries that are part of the TPP. These challenges would be resolved through arbitration, rather than traditional courts. The arbitration process is led by panels composed of three corporate lawyers, only one of whom is government appointed. As Elizabeth Warren warned in this Op-Ed, the provision “would allow big multinationals to weaken labor and environmental rules.”

Those arguing in favor of the TPP claim it will allow the US to write the rules on how trade with Asia should be conducted. Yet this argument fails to mention that it’s American corporate interests that will write the rules. Free trade with the countries participating in the TPP is already established, and this agreement does not open up new opportunities for trade; rather it sets the terms in favor of business interests. The TPP will further erode bargaining power of American workers, who will face increased legal scrutiny over protections they enjoy. By solidifying the legal power corporations enjoy abroad, the agreement will facilitate smooth relocation and outsourcing of more and more jobs. This additional threat to job security for American workers will increase downward pressure on their wages, while the profits of corporations will grow, thus upholding the trend of rising income inequality. It is not a coincidence that as the global influence of corporations increases, so does disparity of wealth.

The positive impacts the TPP might have on the economy would be absorbed by the wealthy, while average American workers would suffer the negative consequences. The TPP protects large multinational corporations; yet offer few safeguards for lower-skilled domestic workers. Overall, it is reasonable to argue that the TPP would only further exacerbate income inequality by tilting the balance even further in favor of big companies. However, it is also unrealistic to argue that by rejecting the TPP and other trade agreements the US can bring back all the manufacturing jobs it lost.

American policymakers need to realize that it is vital to draft agreements that take into account the needs of working people, and not just of corporations; that there is an active need for policies that can once again strengthen the American middle class. Otherwise, the discontent of workers who continue to see their incomes decline and job prospects worsen will allow fringe candidates such as Donald Trump, who foster racist and xenophobic rhetoric, to rise to power. Although the solutions offered by Trump make little economic sense, he gains in popularity by recognizing that American workers have been disadvantaged by various trade deals.

It is urgent for policymakers to stop pushing for policies that expand income inequality, and to look for strategies to reverse this trend. In the late 1970s full employment was abandoned as a policy goal, labor protections were eroded, finance deregulated, and taxes for the wealthy reduced. Seeing the consequences of these changes in the falling living standards of most Americans and exploding income inequality, it is time to take action and work to rolling back these policies. Pushing for more agreements amongst those same lines, such as the TPP, will only make matters worse.

By Lara Merling
Illustration by Heske van Doornen

Why is Austerity Still Being Prescribed?

After years of strict austerity and a worsening crisis, the Greek economy is still in a slump.

However, Eurozone officials continue to prescribe the medicine of austerity. The diagnosis for the Greek crisis was the fiscal profligacy of its government, and thus to restore the health of its economy, Greece simply had to slash its spending. As with any prescription, some short-term side effects were expected. However, year after year the side effects have gotten worse, with unemployment and poverty at all-time highs and demand at all-time lows. Meanwhile, the economy, in a deepening recession, is far from being cured. To make matters worse, despite the reduced fiscal deficits, the shrinking economy means the debt-to-GDP ratio is nevertheless growing.

In the aftermath of the Global Financial Crisis, Europe embraced austerity as the best medicine to cure its damaged economies. Conservative economists and leading institutions such as the European Central Bank (ECB) and International Monetary Fund (IMF) promoted the concept of austerity. The EU imposed spending cuts on all its members. It is using the dire situation of Greece as a warning against the accumulation of more debt. A council of Eurozone ministers, spearheaded by Germany, aggressively pushed for more austerity. Meanwhile, despite complying with the prescribed “medicine,” the health of the Greek economy grew increasingly worse…

However, the theoretical justification behind austerity is questionable. The fear of government deficits was backed by studies such as “Growth in a time of debt” by Carmen Reinhart and Kenneth Rogoff. This paper, published in 2010 predicted catastrophic economic consequences for any country surpassing a debt-to-GDP ratio of more than 90%. Backed by this research, high-ranking European officials made their case to abruptly cut government spending.

While Reinhart and Rogoff’s study created a buzz amongst conservative politicians when it was published. However, it was mostly ignored by the same politicians when it was discredited. In 2013, it was shown that the spreadsheet used for the calculations in the study was laden with mistakes. Its results were gravely exaggerated. After the errors were fixed, some correlation between government debt and slow growth remained but not one sufficient to establish causation. It is plausible to assume that slow growth is the cause of the increase in government debt. A summary of this controversy can be found.

In the early 2000s, the Greek government began to accumulate massive amounts of debt. By 2009, the government debt had reached almost 135% of GDP. The government quickly enacted extreme spending cuts. So, it is resulting in a ratio decrease that lasted until 2011. However, the Greek economy, in the midst of a deep recession. It did not respond very well to these cuts which came coupled with the added bonus of tax hikes. Domestic demand collapsed and unemployment soared. Moreover, overall confidence in the economy faded. Greek GDP fell, and the debt-to-GDP ratio exploded. Currently, that ratio is at about 180% of GDP and is projected to reach 200% by 2020. (OECD) The Greek economy is on a downward spiral in which imposed spending cuts reduce incomes, reduce spending, and further contract the economy, and limit its ability to repay its debts.

Despite the academic case for austerity weakening, the Greek parliament is forced to impose even deeper spending cuts to receive more funds from European institutions. Without additional loans, Greece would be unable to make the payments on its previous debt. However, most of the bailout money received by Greece has gone on payments for maturing loans.

The Greek sovereign debt has turned into a ponzi scheme. New loans are obtained to make interest payments on older ones, while the principals rise and the economy shrinks. The IMF, initially a main proponent of austerity, has recently come out in favor of restructuring Greece’s debt and allowing for some economic stimulus. It appears that EU officials are finally willing to listen, at least in respect, to debt restructuring. Last week, the council of Eurozone ministers agreed to discuss some debt relief. However, this comes with the same condition attached: more and even harsher austerity.

For a sick economy such as Greece, it is difficult to see how even aggressive spending cuts could nurse it back to health. After austerity has failed year after year in reducing Greek debt and revitalizing its economy, it is time to try a different medicine. Under EU agreements, countries are required to be fiscally conservative. Moreover, EU officials, under German direction, have refused to change their stance on weakening the austerity imposed on Greece. Greece’s suffering has become an example of what happens when those rules are broken.

However, if the EU wants Greece to repay its debt and recover, it needs to stop punishing it and give it room for growth. The European officials who continue to force austerity on Greece should take a step back and realize that the best way to reduce the Greek debt-to-GDP ratio and make it sustainable, is to allow for its economy to grow. Clearly, austerity measures have not brought about the desired growth and health. Greece needs a different prescription. One that would indeed stimulate its economy and not keep it locked in an ICU.

Written by Lara Merling
Illustrations by Heske van Doornen