13th annual Municipal Finance Conference


13th annual Municipal Finance Conference


Hutchins Roundup: Inflation expectations, US economic growth and higher education, and more

Finn Schüle,
Finn Schuele - Senior Research Assistant
Finn Schüle PhD candidate - Brown University, Former Senior Research Assistant - Hutchins Center on Fiscal & Monetary Policy, The Brookings Institution
Joseph Figueroa, and
Joseph Figueroa Research Intern - Hutchins Center on Fiscal & Monetary Policy, The Brookings Institution
Louise Sheiner
Sheiner Headshot Square
Louise Sheiner The Robert S. Kerr Senior Fellow - Economic Studies, Policy Director - The Hutchins Center on Fiscal and Monetary Policy

July 12, 2018

Studies in this week’s Hutchins Roundup find that improved communication with firms and households could provide central banks with a powerful policy tool, higher education explains why the U.S. became an economic superpower in the 20th century, and more.

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Improved communication with firms and households could provide central banks with a powerful policy tool

While central banks have made a concerted effort to improve communication over recent decades, their communication strategies still mostly target professional forecasters and financial markets. Households and firms, on the other hand, remain inattentive to monetary policy and aggregate inflation dynamics, write Olivier Coibion of the University of Texas at Austin and coauthors. Nevertheless, households and firms do adjust their inflation expectations when provided explicit information about inflation or monetary policy, and households increase their consumption when their inflation expectations rise. This suggests that improving communication with firms and households could provide a powerful stabilization tool during periods when the nominal interest rate is near its effective lower bound, the authors say. For instance, they argue that central banks could use social media and targeted ad campaigns to communicate directly with households, and could emphasize the inflation target, recent inflation rates, or the price changes of specific goods to move inflation expectations in the desired direction. Modifying firms’ inflation expectations could pose a larger challenge because they are currently poorly measured. Therefore, the authors recommend designing and implementing better surveys of firms’ expectations.

Higher education explains why the United States became an economic superpower in the 20th century

Prior to 1860, U.S. per capita gross domestic product (GDP) lagged behind that of the United Kingdom. This changed in the second half of the 19th century as U.S. growth accelerated; U.S. GDP per capita surpassed that of the UK in 1905. Adam Cook of the State University of New York at Fredonia and Isaac Ehrlich of the State University of New York at Buffalo note that, in the 142-year period between 1871 and 2012, annual growth of per capita GDP averaged 1.9 percent in the U.S and 1.4 percent in the UK. The authors argue that differences in the availability of higher education explain this divergent growth. In particular, the Morrill Act of 1862, which used Federal land grants to incentivize U.S. states to build universities, rapidly increased the availability of university education in the later part of the 19th century. The trend continued with the expansion of the U.S. secondary education system from 1910 to 1940, which prepared a greater number of students for university enrollment, and the subsequent GI Bill of 1944, which helped cover the expenses of nearly 2.3 million college-bound veterans after the Second World War. As a result, the U.S. established and maintained a lead in higher education throughout the late-19th and 20th centuries, which in turn boosted human capital and growth.

Current expansionary fiscal policy is unlikely to boost growth significantly

The Tax Cuts and Job Acts (TCJA) is providing a substantial fiscal stimulus at a time when the U.S. economy is already booming. Tim Mahedy and Daniel J. Wilson of the San Francisco Federal Reserve suggest that estimates foreseeing large increases in GDP growth because of the fiscal stimulus are overly optimistic. The authors turn to an extensive literature that argues that the fiscal multiplier, the effect of fiscal policy on GDP growth, is close to zero when the economy is booming. In addition, the literature finds that individuals’ marginal propensity to consume, how much more people spend when they get an additional dollar of income, falls by 20 to 30 percent during expansionary periods. Therefore, current academic understanding of fiscal policy suggests that the TCJA will boost GDP growth by less than 1 percent, and could possibly have no effect on growth whatsoever, the authors argue.

Chart of the week: More people in the US are working past the age of 65

Civilian Labor Force Participation Rate for those over 65 has been rising since 2009.

Quote of the week:

“[A]nybody with market experience would say inverted yield curve is just bad for business, right. Bad things happen. You get into a recession. … The question is now what about [a] flattening curve? … [L]ong-term interest rates have been going down over a very long period of time. Inflation has been coming down. This is a global phenomenon. More capital has been coming to the U.S. in the sense that emerging-market economies—people around the world who are wealthier are looking for safe places to invest.  … [W]ith lower long-term interest rates, and in a rising short-term environment, you’re going to naturally get a flattening yield curve,” says Charles Evans, president of the Federal Reserve Bank of Chicago.

The current two-year/10-year spread of about 30 basis points… how unusually small is that against this secular change in those spreads? …I still would be happier with a steeper yield curve, no doubt about it. But translating from what we’ve seen to … what our economic outlook is is still highly uncertain at the moment, and we still think the economy is strong. … [I]f you think the market sees something that we don’t have embedded in our structural determinants for the outlook, then that would be meaningful. But I think that they’re looking at the same thing, and I don’t quite see it at the moment.”