Basic Economic Theory Moment

The Federal Reserve is a corporation.

The Federal Reserve raised the interest rate another quarter percent
Wednesday, 7/25/23. Who is the Fed that is making credit cards, housing
mortgages, car loans, and many other things more expensive? The Fed is not part of the Executive Branch of the government. Instead, it is a quasi-public corporation with stockholders. Quasi means, unlike a public corporation, the owners do not elect the management board. The following explains the Fed from Ask Fact Check, Brooks Jackson, March 2008.

“The twelve regional Federal Reserve Banks, which Congress established as the operating arms of the nation’s central banking system, are organized much like private corporations– possibly leading to some confusion about “ownership.” For example, the Reserve Banks issue shares of stock to member banks. However, owning Reserve Bank stock differs from owning private company stock. The Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the System. The stock may not be sold, traded, or pledged as security for a loan; dividends are, by law, 6 percent per year. About 38 percent of the nation’s more than 8,000 banks are members of the System and thus own the Fed banks. The rest are affiliate members or keep their money in a member bank and are thus controlled by the Fed.

But the banks don’t necessarily run the show. Nationally, the Federal Reserve System is led by a Board of Governors whose seven members are appointed by the President and confirmed by the Senate. They have fourteen-year, staggered terms. Only one seat comes up for election every two years. No president can appoint more than three to ensure political control, and members serve across several administrations.

The private banks also have a voice in regulating the nation’s money supply and setting targets for short-term interest rates, but it’s a minority voice. The Federal Open Market Committee makes those decisions, with a dozen voting members, only five of whom come from
the banks. The remaining seven, a voting majority, are the Fed’s Board of Governors who, as mentioned, are appointed by the President, and confirmed by the Senate.

The Chairman of the Board of Governors is appointed by the President of the United States and confirmed by the Senate. Chairman Powell’s term is four years, and he was reelected to a second term.
The Board members are independent and meant to look after the whole economy, not a particular political person or party.
Trump attempted to appoint several unqualified persons to the Fed Board, and the Senate rejected them. One of the best-known was Judy Shelton.”

She acknowledged some of her views are well outside the economic
mainstream, especially her support for the gold standard. Tying the
dollar to physical gold is a relic of the last century and would sharply
limit the amount of money in circulation (Herbert Hoover learned that
lesson the hard way). Shelton also questioned the very mission of the
central bank – to promote maximum employment, along with stable
prices.

The next moment will show the Fed uses banks to impact your
economic behavior. Moment #5 is titled, How Banks Work and make
money.

That’s five hundred and fifty-two words.

Basic Economic Theory Moment

The Business Cycle

I was on a roller coaster at Great America in St. Louis once. At the
top, we began to drop hundreds of feet and one thousand miles an
hour (well, it felt like a thousand). My glasses flew off, and I yelled,
“Stop the Coaster!” A lot of good that did!

The economic roller coaster is a bit different. It’s true that if the
government does not interfere with the economic business cycle roller
coaster, it will go through ups (inflation), downs (Depression), and all
stages in between the peaks (Hyperinflation) and Troughs (Depression).
The complete cycle averages eight point four years without
government action.

Adam Smith describes the concept in his book The Wealth of
Nations in 1776 and says there should be as little government as
possible (Laissez Faire).

John Maynard Keynes, the father of modern economics, points out the government should adjust the coaster with off ramps using monetary (interest rates, money supply) and fiscal policy (taxation, government spending).

A depression occurs when unemployment rises above ten percent, you have high underemployment (people in jobs with much higher skill
levels than required, e.g., Aeronautical engineer driving an Uber), and
prices are falling. The remedy is lowering interest rates, increasing the
money supply, reducing taxes, and increasing government spending.
Interest rates during the pandemic were near zero, and the money
supply was significantly increased.

Creeping inflation is the stage we all want to stay in. Prices are
rising from zero to six percent, we are near full employment, and
business activity (GNP) is increasing. The Fed currently sets the target
price level at two percent. The current consumer price index is a little
over four.

“Nearly all FOMC participants expect that it will be appropriate to raise interest rates somewhat further by the end of the year,” Powell said in early July before the House Financial Services Committee.”

Hyperinflation is defined as prices rising over ten percent, near full
employment, and the price system is beginning to lose the rationing
function. In January 2021, the inflation rate was one point four
percent, and the Fed lowered the interest rate to near zero. In June
2022, the rate of inflation was nine-point seven percent.

Last week, the Federal Open Market Committee left its benchmark lending rate unchanged at 5% to 5.25%, following a series of rate increases, but raised the median rate outlook for 2023 through 2025.

As you can see, the Fed was worried about hyperinflation and
increased the rate dramatically in June 2022. Hence, your credit cards,
housing, food, cars, and everything else costs you more.

A recession is defined as falling prices, rising unemployment, and
two quarters of falling Gross National Product.

A stage we hardly ever see is Stagflation, which is the worst of all
the worlds. It is defined as raising prices, high employment, and high
underemployment.

Today, the Fed is trying to achieve a “Soft landing.” They want to
prevent hyperinflation and avoid or shorten a recession. So far, they
have done a great job preventing a significant downturn and ramping
down inflation.

In memo two next week, I’ll show you how the Fed controls a
bank, how they increase the money supply, and how it impacts you.

Uh oh, five hundred and fifty-eight words. The End.

Several of my high school cheerleader classmates got together to compete in a SENIOR pomp competition in response to an internet article. They sent lovely pictures to the classmates of them dressed as Hobart High School cheerleaders (aged 78). When they got to the
competition, it turned out it was for current high school seniors (age 18). The story’s moral is to be careful of what you read on the web.

One of my readers sent me an article citing IRS Aggregate Income Statistics proving the Trump tax reductions benefited the middle class and were progressive. The trouble is the conclusion needs to be corrected. The article states:

IRS data proves Trump tax cuts benefited middle, working-class Americans most.

A careful analysis of the IRS tax data, one that includes the effects of tax credits and other reforms to the tax code, shows that filers with an adjusted gross income (AGI) of $15,000 to $50,000 enjoyed an average tax cut of 16 percent to 26 percent in 2018, the first year Republicans’ Tax Cuts and Jobs Act went into effect and the most recent year for which data is available. Filers who earned $50,000 to $100,000 received a tax break of about 15 percent to 17 percent, and those earning $100,000 to $500,000 in adjusted gross income saw their personal income taxes cut by around 11 percent to 13 percent.

By comparison, no income group with an AGI of at least $500,000 received an average tax cut exceeding 9 percent, and the average tax cut for brackets starting at $1 million was less than 6 percent. (For more detailed data, see my table published here.) That means most middle-income and working-class earners enjoyed a tax cut that was at least double the size of tax cuts received by households earning $1 million or more.

Hill’s Analysis
I computed the tax for 2018 at the average of the stated income levels.
I have also included a graphic I use in class at the bottom of this memo to explain the Federal Income tax system. The government does not see your income as X dollars. It views it as buckets of money and takes different amounts per bucket. The sum of what goes out of the spickets is the amount the government boat collects. The computed amount of taxes paid for each average income level listed in the article
was based on Married filing jointly rates. I then multiplied the taxes paid by the listed Trump savings.

Total tax paid Trump taxes saved AGI Average-
$ 5,245 $ 1,101.45 $ 32,500
$ 14,595 $ 2,335.20 $ 75,000
$ 79,347 $ 8,728.17 $ 300,000
$ 283,737 $ 25,536.33 $ 750,000

The long and short of it is the income saved by the top brackets is ten times the amount saved by middle-class people ($67,521 is the average US income). Nine percent of $25K is a lot more than 21% (average of the savings for the 75K income bracket) of $2.3K.

Additionally, the savings for the top ten percent incomes are around 12% ($90K for $750K income), and the middle-class savings rate is about 3% ($1050 for $35K income). The capital gains tax decreased from 38% to 21%. Guess which class owns the bulk of the stock bought from savings. (Only 49% of us own stock). That means the $750K person gets a Trump
gift that keeps coming on the $90K in savings, investments, and long-term capital gains.

Let us remember the corporation income taxes were significantly reduced too. The money was supposed to be spent on new machines and hiring labor but was spent on increasing dividends and repurchasing stock to increase the price. Obviously, the more dividends the
wealthy receive, the more significant the gap between low-income and high-income groups.

One of the benefits of requiring the Basic Macroeconomics of all students is that they learn the basics. The following graphic is used in my classes for Scrooge McDuck, with an assumed income of $1M and updated tax rates.

I encourage all of you to ask Economic and Investment questions and guarantee you a response in Hill Comments (HillLa@Lewisu.edu).

Current Economic Question Moment

Supreme Court Ruling Effecting Minority Groups Will Have A Negative Economic Impact

The Supreme Court ruled in the 303 Creative case where the website developer owner denied a man who wanted a website for gay marriage. As I understand the ruling, the Court ruled the Designer’s free speech and religious freedom allowed her to refuse. Many believe this opens the door to allowing anyone to start a religion or, worse, use words to discriminate against whatever group they choose. Economically this is a step back to the 1960s or longer.

Do you want to hear a Hill story?

I come from an all-white town in the 1960s. Like most of you, I had to work summers to pay for my college education (tuition was $6 an hour, but wages were $2.38 an hour). During the first two summers out of high school, I was a laborer for United States Steel. My assistant foreman, Earl Washington, was a fifty-plus-year-old African American who had worked at the mill since his teens. He knew that mill forward and backward. Yet, the golden rule was an African American could not be a foreman or higher management.

Assistant foreman Earl had every reason to discriminate against a white teenager from an all-white town working in an all-white summer college student labor gang. Earl never saw me as a white college student and gave me double shifts at increased pay, allowing me to work six days and gave me every break in the books. The man had every right to be bitter, to reduce productivity, take advantage of work conditions, and discriminate against the white kid.

Instead, he took the time to teach me about the mill and see that I had opportunities to fulfill my dreams. The man taught me more about discrimination than any course, book, or seminar (I’ve been to dozens of them over the years). As educators, I firmly believe it’s our responsibility to help everyone that needs it regardless of color, religion, or sex preference. I also received that
training at home but seeing it in the real world makes a difference.

Enough with personal views; what about the economic impacts of discrimination?
Productivity Decreases.

We know that Gross National Product is the sum of the value of all goods made in a given year for the domestic and world economies. The value is equal to the number of goods produced times the real price of the goods.

GNP = Quantity produced times real prices

Where: Real prices are nominal (Current money prices) prices divided into a base year set of prices.

The base year is chosen for steady prices. (I’ll cover this in another
moment due to word limitations).

Quantity equals the worker’s productivity times the number of workers.

Discrimination limits productivity
Discrimination limits the ability of the worker to maximize productivity and lowers the quantity produced. In Earl’s case, he needed to have the authority to maximize the knowledge of the mill.

Wage Growth is Reduced
Since supply is limited by discrimination (reduced by limiting productivity), there will be less income, and discretionary spending will be reduced.

Innovation Impacts
Demand for goods are decreased since there are lower wages and less goods. The need for more innovations is limited. The incentive to invest in research and development at the corporate level is reduced due to reduced profits.

I could go on, but I’m out of words 560+.