Hutchins Roundup: Current account deficit, Medicaid expansions, and more

Studies in this week’s Hutchins Roundup find that relying on foreign savings to finance investment often results in lower growth in the long run, Medicaid expansions had no immediate effect on employment of childless adults, and more.

Financing investment out of foreign savings is risky and lowers long term growth

Using data on 145 countries during 1970-2013, Eduardo Cavallo of the Inter-American Development Bank, Barry Eichengreen of the University of California, Berkeley, and Ugo Panizza of the Graduate Institute, Geneva, conclude that countries that finance a significant portion of domestic investment with foreign savings experience slower economic growth and higher output volatility in the long run than countries that rely on domestic savings. This is because episodes of large and sustained current account deficits often end badly, with a sharp compression of the current account, real exchange rate depreciation, and a slowdown in investment.

Medicaid expansions have not reduced employment among childless adults

Some analysts expected the Affordable Care Act to reduce employment among low-income adults because it loosened “employment lock”—the situation in which people work primarily to secure health insurance coverage. Pauline Leung of Cornell and Alexandre Mas of Princeton examine this question by comparing employment changes in states that chose to expand access to Medicaid with those that chose not to. They find that, although Medicaid coverage among childless adults increased by 3 percentage points, there was no effect on employment. The authors warn, however, that not enough time has passed to judge the medium- and long-term effects of the Medicaid expansions on employment.

The Fed may be more prepared to respond to a future recession than is sometimes assumed

David Reifschneider of the Federal Reserve Board argues that judging the ability of the Fed to respond to a future recession solely by the room it has for cutting the policy rate may be misleading because this approach ignores the Fed’s proven ability to use forward guidance and large-scale asset purchases, also known as quantitative easing. Using a model of the U.S. economy to simulate the effects of adverse shocks, he shows that the Fed can use QE and very explicit forward guidance to compensate for its limited ability to lower the interest rate, even in a severe recession, though a situation where the Fed is unable to provide the desired accommodation is nevertheless possible.

Chart of the week: Wealth inequality has increased over time

Quote of the week: “[M]any remain concerned about a lack of job opportunities for the middle class,” says New York Fed official William Dudley

“Indeed, growth of middle-wage jobs has been lackluster for the past few decades, with gains occurring disproportionately in higher-wage and lower-wage sectors. This long-term hollowing out of jobs in the middle of the wage distribution has helped fuel rising wage inequality, and has contributed to a growing sense for some that they are being left behind in the current economic expansion… [But] the tide has begun to turn. For the first time in quite a while, gains in middle-wage jobs actually outnumber gains in higher- and lower-wage jobs nationwide. These middle-wage jobs include teachers, construction workers, mechanics, administrative support personnel and truck drivers, just to name a few.”

— William Dudley, President, New York Fed