As Clinton Seeks Gas Tax Break for Summer, Obama Says No - New York Times

Times are tough for American consumers. Rising food and fuel prices have increased the proportion of household incomes that must be allocated towards these two necessities, both for which demand is highly inelastic, meaning that as their prices rise, the quantity demanded by consumers remains relatively high.

In response to the pinching of Americans’ pocketbooks, two presidential candidates are advocating action at the federal level.

Senator Hillary Rodham Clinton lined up with Senator John McCain, the presumptive Republican nominee for president, in endorsing a plan to suspend the federal excise tax on gasoline, 18.4 cents a gallon, for the summer travel season.

Sounds like a good idea, right? If Americans are finding it burdensome to pay more at the pump, and the government can do something to relieve that burden, why shouldn’t they do it?

Let’s do a little calculation here: At 18.4 cents per gallon, how much per fill-up will Americans save?

I drive a ‘94 Toyota pick-up, has a 15 gallon tank and gets notoriously poor mileage. I’ll save $2.76 per tank of gas I buy. I usually fill up my truck about once a week during the summer, meaning I’ll save that much each week. McCain wants to suspend the gas tax from Memorial Day until Labor Day, or for a total of about 12 weeks. If Clinton and McCain get their way, I could very well save as much as $33.12 this year! ASTOUNDING!! What a deal for Americans!

Clearly, repealing the gas tax will have only a minor impact on disposable incomes in America. Obama seems to understand this better than the other candidates:

Senator Barack Obama, Mrs. Clinton’s Democratic rival, spoke out firmly against the proposal, saying it would save consumers little and do nothing to curtail oil consumption and imports…

Mr. Obama derided the McCain-Clinton idea of a federal tax holiday as a “short-term, quick-fix” proposal that would do more harm than good, and said the money, which is earmarked for the federal highway trust fund, is badly needed to maintain the nation’s roads and bridges.

The decision to suspend or not suspend federal gas taxes is essentially a cost-benefit decision. The benefit? Well, apparently around $30 per driver, or about half a tank of gas, compliments of the US government. The cost? Read on…

The highway trust fund that the gas tax finances provides money to states and local governments to pay for road and bridge construction, repair and maintenance. Mr. McCain and Mrs. Clinton propose to suspend the tax from Memorial Day to Labor Day, the peak driving season, which would lower tax receipts by roughly $9 billion and potentially cost 300,000 highway construction jobs, according to state highway officials.

There you have it; $9 billion dollars and hundreds of thousands of jobs that won’t be created in order to put half a tank of gas in each American’s car, which if you think about it, will only lead to Americans driving more this summer. Repealing the gas tax may actually induce Americans who weren’t planning road trips to go ahead and take one, increasing the overall demand for gas and driving the price up to the level it would have been with the tax.

And what about the much needed government revenue the tax creates? Hillary has another plan for recouping that loss:

Mrs. Clinton would replace that money with the new tax on oil company profits, an idea that has been kicking around Congress for several years but has not been enacted into law. Mr. McCain would divert tax revenue from other sources to make the highway trust fund whole.

Clearly, Mrs. Clinton needs a refresher course in basic microeconomics. If she had paid attention in AP Economics (did she even take AP Econ?), Clinton would know that a tax on producers of a highly inelastic good such as oil can be passed almost entirely onto the consumers. In this case, the oil companies, when faced with additional federal taxes on profits, will respond by restricting output, which reduces overall supply in oil market, raising the price of the main input for gasoline. Higher input costs for gasoline refineries will reduce overall supply of gasoline, increasing the price paid by consumers at the pump, negating any price-reduction induced by the suspension of the gas tax.

Ultimately, all taxes are borne by the consumers of an inelastic product: gasoline in this case. Whether the tax is levied on drivers directly, or the oil companies “upstream” in the production process, the outcome is the same: supply is restricted and price is higher.

The suspension of a gas tax that only costs Americans $30 over 3 months appears to impose a much greater cost to society than benefit. At least Obama seems to understand the basic economic reasoning behind this fact.

Obama on State Gas Tax Suspension

Forbes.com to Launch Business and Finance Blog Network - Forbes.com

A few weeks ago I received an invitation to join the Forbes.com Business and Finance Blog Network. The network is set to launch this month:

Today Forbes.com, home page for the world’s business leaders, announced the creation of a Business and Finance Blog Network, comprised of a community of pre-screened, influential business and financial blogs.

The Blog Network’s content will focus on senior business decision makers and high-net-worth investors. Topics will be relevant to the banking, trading, hedge fund management, affluent investing, and senior business decision-making communities. Participation in the network is by invitation only, and all blogs are vetted by Forbes.com editors for appropriate content, and to ensure that they are in keeping with the Forbes editorial brand.

I guess the folks at Forbes.com figured that even billionaire investors needed to be educated in the basic Economic concepts! So now Welker’s Wikinomics will cater to the following audiences:

• 17-18 year old IB and AP Economics students
• Teachers of IB and AP Economics
• University students in Principles of Economics courses
• Hedge fund managers
• Billionaire investors
• Warren Buffet

I’m honored to be a part of this network; and don’t worry, the blog will continue to focus on communicating Economics news in a way accessible and educationally appropriate for students in a principles of Economics course. After all, that is my comparative advantage!

BBC NEWS | Business | Q&A: Strong pound - winners and losers

Here’s another great article to help you understand the advantages and disadvantages of a strong currency. The British pound reached an all time high against the dollar late last year ($2.08 per pound, or 48 pence per dollar!!). So who are the winners and losers from a strong British pound, anyway?

Here’s a quick run-down… to read about why, click the link and read the article.

• Winners: Brits traveling and shopping in the US, US businesses, British airlines, British consumers, British drivers
• Losers: Americans traveling in Britain, small businesses in the UK, British exporting firms, British airlines, shareholders in certain companies.

Discussion Questions:

1. Why may British airlines benefit AND lose with a stronger British pound?
2. Who else will benefit from the strengthening pound that is not mentioned by the article? Refer to your notes from class.
3. Who else will be harmed by the stronger pound that is not mentioned?

Powered by ScribeFire.

Yes, but it’s a bit more complicated than it might seem at first. This podcast looks at the impact of the falling dollar on the aerospace industry, in which manufacturing for the industry’s largest firms is sourced to hundreds of smaller companies each with factories in countless countries from North America to Europe to Asia.

The recent fluctuations in the US dollar exchange rate has wreaked havoc for firms located in the US and trying to compete in this competitive market. In some cases, the outcome has been positive, but as you’ll hear, not always.

Listen to this podcast then discuss the questions below:

 

 Weak Dollar Can Bode Well for Manufacturers [5:18m]: Play Now | Play in Popup | Download

Discussion Questions:

1. How has the weaker dollar helped the Connecticut firm Kamatics?
2. How has Kamatics been hurt by the weaker dollar?
3. Why do fluctuations in the dollar make “business more unstable”?
4. How does the impact of currency swings become more ambiguous “as the economies of the world become more intertwined”?
5. Why did EchoAir stop manufacturing products in Romania? What impact would a revaluation of the Chinese Yuan have on EchoAir’s current manufacturing decisions?

Carmen submitted the following through the “Econ Help Desk“

Please help me with a student question. If the FED pursues expansionary monetary policy, lowering the nominal interest rate in hopes of spurring investment and increasing aggregate demand, how does this connect to the loanable funds market? If nominal interest rates are down, won’t real ones go down too, causing people to save less? In this case, where will the supply of loanable funds to meet investment demand come from?

Below is my reply to Carmen:

Good question… here’s my understanding, so take it as you will…

To expand the money supply the Fed will buy bonds on the open market. This increases demand for bonds, raises their prices, lowering the effective interest rate on bonds, making these securities less attractive to investors, who will sell them back to the Fed in exchange for liquid money that is now part of the money supply.

Investors will put some of their new money into banks, where interest rates are now relatively more attractive than the declining rates on government bonds. Some of the new money created by the Fed’s purchase of bonds therefore ends up in the loanable funds market, shifting the supply of loanable funds out, lowering real interest rates, increasing the quantity demanded of funds for investment and consumption, hence the expansionary impact on Aggregate Demand.

If any readers has another take on the transition from expansionary monetary policy to a decline in the real interest rate in the LF market, please leave your ideas in a comment below.

~Jason Welker

Order the DVD - Two Million Minutes

Just how flat is the world? I was chatting with a friend from my youth via Facebook’s new chat feature last night. We went to Carmel High School together in the upscale suburbs of Indianapolis, Indiana, until I moved to Kuala Lumpur, Malaysia during my sophomore year. It has been 12 years since I had chatted with this friend. It turns out she’s become an elementary school teacher herself in Indianapolis, and she was surprised and excited to hear that I’d become a teacher and was working here in Shanghai.

Sarah directed my attention to a film she had just seen that she thought I might be interested in. I am posting the trailer here, because I’m dying to know if anyone out there has seen this film. I am particularly interested in it because it features students from both Carmel High School, where I did my first year and a half of my own “2 million minutes” (the name of the film refers to the number of minutes in the four years it takes to get through high school) before moving overseas as a 10th grader, as well as students here in Shanghai and Bangalore, India. The theme appears to be the vast divide in the content covered in the US vs. in developing countries with whom tomorrow’s graduates will be competing in the global economy.

Here’s the trailer. If anyone’s seen this film, please leave your comments here. I am ordering the DVD myself as I write this!

Two Million Minutes Trailer

Throughout the year I’ve been developing SMARTBoard lessons for every topic in the AP Economics class. These lessons have now all been turned into .pdf files available for download in the “AP/IB Exam Prep” page of this blog. Check it out for links study guides for the nine units we’ve covered this year, as well as links to the wiki pages where the students have created their own, collaborative resource for AP exam preparation.

If you download and use the .pdf files, all I ask is that you leave a comment on the page telling me where you are, what school you go to or work for, and how you plan to use the study guides as part of your review!

Thanks, and good luck in preparing for the upcoming exams!

FT.com / World / Americas - US economy threatens Dominican Republic

Trade based on comparative advantage… the theory originally articulated by Adam Smith, later fine-tuned by David Ricardo, the theory that suggests that if each nation specializes its economic activity on the products for which it faces the lowest opportunity cost, then trades with its neighbors, total world output and efficiency can be maximized: today this theory represents the philosophical underpinning of all free trade agreements signed between and among the nations of the world.

Through trade, countries can exchange their extra output with other nations for the goods specialized in by others, enabling all nations to enjoy a level of consumption beyond what they’d be able to achieve if they tried to produce all goods domestically.

For many developing countries, with their abundance of either land or labor, comparative advantages tend to lie in either agricultural goods or low-skilled manufactured goods. Since global prices for food are highly unstable and dependency on healthy harvests, good weather, and stable rainfall are all highly risky endeavors for a poor country, developing nations prefer to foster the growth of manufacturing sectors in their path towards economic development.

Strategies for economic growth available to developing nations include export-oriented and inward-oriented growth. A country like the Dominican Republic, the largest economy in the Caribbean, has pursued a predominantly export-oriented growth strategy, promoting through “free zones” the growth of a textile industry aimed at producing goods for consumers in developed countries, primarily the US.

To the Domincans, producing textiles for export to America has successfully given the people of this poor nation a grip on a rung of the ladder towards economic development. The import of capital has taken previously unproductive workers out of agriculture and put them into an industry where productivity, thus income, has risen, leading to improvements in living standards. Export-led growth, however, runs some serious risks of its own, as is being realized by the people of the Dominican Republic today.

It had been clear for some time that Luis Caraballo’s textile factory, in one of the Dominican Republic’s largest “free zones”, was struggling.

Finally, last December, he closed the factory gates for the last time: cut-throat competition from China and Vietnam, a weakening US dollar and unsustainable costs had become too much.

Once a hot destination for American companies looking for a cheap place to “off-shore” production of labor intensive textiles, the Dominican Republic today faces new competition, and is finding its comparative advantage slip slowly away from textiles…

The Dominican Republic depends heavily on the US, which is the destination of more than 85 per cent of exports. But textile exports – these days accounting for less than a third of total exports – fell by 32 per cent over 2007.

Although other countries in the Caribbean are also suffering from Asian competition – with Chinese textile exports to the US tripling between 2000 and 2005, while Vietnam’s multiplied almost 117 times – the Dominican Republic has been worst hit.

Here’s the thing: a nation’s comparative advantage may shift over time (from land to labor to capital intensive goods) as the structure of the global economy evolves. Once an economy like the Dominican Republic’s has undergone a period of structural adjustment, away from agriculture and towards industry, the flow of low wage workers from farm to factory begins to slow to a trickle, leading to rising wages and increased competition from countries with more abundant supplies of cheap labor.

The challenge for policy makers is to manage the structural changes as they come, minimizing the deleterious impact such global shifts of productive resources has on the citizens of a country like the D.R. Clearly, it is in the country’s interest to prepare its citizens for a “new economy”, one in which skilled labor will play a larger role. The problem is, this requires a solid education system, which the D.R., it turns out, does not yet have:

There is widespread acceptance of the need to develop a better-educated workforce, but so far education spending has been inadequate.

“The government simply doesn’t have enough resources,” said Mr Montás. About 40 per cent of its budget goes on debt obligations and another 15 per cent is dished out through subsidies. Just 1.5 per cent goes towards education.

It also turns out that this is a balance of payments story:

Mr Montás calculated that for every percentage point the US economy contracted, the Dominican Republic’s GDP would shrink by 0.4 per cent.

Not only will exporters be hit, but also the huge tourism sector and remittance flows…

One possible result of the decline in exports and flows of remittances from the US will be a depreciation of the D.R. peso, as demand for pesos by Americans falls. A weaker peso might make the country’s exports attractive once again, assuming the exchange rate is allowed to adjust on foreign exchange markets. A weaker peso should help slow the decline in the D.R.’s exports to the US, at least until new competition emerges, perhaps elsewhere in Asia, maybe even from Africa or other Latin American countries.

In all likelihood, given the increased competition from Asian textile manufacturers, continued economic growth in the Dominican Republic will depend on the country’s ability to educate and train its workforce to adapt to a more capital, technology and information-based economy, which, if successful, will eventually lead to rising incomes and higher standards of living for the people of the this rising Caribbean nation.

Comparative advantages evolve with the emergence of new competition among developing and developed countries. The negative impacts this evolution has on a particular economy can be managed if wise policy actions are taken to assure a country’s workforce is educated and trained to participate in tomorrow’s economy, rather than yesterday’s or today’s.

US balance of payments deficit hits another record - WSWS.org - 16 March 2006

As I was looking for news stories about the balance of payments, which we started studying in AP Economics today, I stumbled upon a story from over two years ago, published on the World Socialist Website, of all places. The reason I am blogging about it today, 25 months later, is that it contains some ominously prophetic messages about what the future (now the past) could hold for the US based on the economic data at the time. Read below to see what I mean:

The extent of the imbalances in the global economy and the fact that normal growth patterns will not correct them has been underlined by the latest US balance of payments deficit. The current account deficit reached $225 billion in the fourth quarter of 2005, up from $185.4 billion in the third. For the year 2005 the deficit was $805 billion, equivalent to 6.4 percent of gross domestic product.

The latest figures show that rather than being closed, the payments gap is widening. This was the seventh year out of the last eight in which the deficit hit a new record.

“The bottom line is that a current account deficit of this unparalleled magnitude is unsustainable and there is no hope of it being painlessly resolved through higher exports alone,” Paul Ashworth, an analyst at Capital Economic told the Financial Times.

Total US exports would need to increase by 70 percent to eliminate the payments gap. “This is clearly not going to happen,” Ashworth continued. “Instead it will require a big dollar depreciation alongside much weaker domestic demand for imports.”

In other words, the only way the deficit would start to fall is through a major recession in the US.“a big dollar depreciation” would almost certainly lead to a sharp interest rate rise, as international banks and financial institutions demanded bigger compensation for placing their funds in dollar assets. And a significant interest rate rise would bring a downturn in the economy.

On the other hand, On the one hand, “weaker domestic demand for imports” could be achieved only by a severe contraction of the US economy.

This is because the very structure of the US economy, in which imports of goods and services are some 59 percent higher than exports, means that normal economic growth automatically increases the deficit.

So far almost everything the article has mentioned has actually happened, except for the increase in US interest rates. In fact, the Fed has lowered interest rates as the economy has approached recession, indicating that it considers a slowdown in growth a bigger threat than a weaker dollar and the accompanying inflation. In fact, expansionary monetary policy in the US (i.e. lower interest rates) has accelerated the dollar’s decline as foreign investors have pulled their money out of the US assets as interest rates in Europe and other markets have become more attractive.

The article doesn’t hold out much hope for rising exports helping the US out of the predicted recession:

The only way the US could export its way out of the crisis would be if economic growth in the rest of the world proceeded at a significantly higher rate than the American economy. But here a vicious circle is in operation because economic growth in the rest of the world is itself highly dependent on an expanding US market. This is especially the case in Asia where economic growth is increasingly being fuelled by exports to China where goods are manufactured for the American market.

Today in class we introduced the determinants of exchange rates. One way Americans have been able to import so much more from China and other countries (remember, the US has trade deficits with 13 of its 15 largest trading partners!!) has been through foreign purchase of financial and real assets in the US, including government bonds:

In fact, the US is becoming increasingly dependent on foreign sources to support its current account and budget deficits. Foreign lenders have been financing 80 percent of the increase in the federal budget deficit, and foreign holdings of treasury securities increased by $108 billion in the last quarter of 2005.

As Stephen Roach noted, with a foreign capital inflow of $3 billion every business day—up from $2 billion in 2003—the external dependency of the US “is simply without precedent in the annals of globalization and international finance”.

I found it interesting that most of what this article predicted would happen has already transpired, or is in the process of transpiring as we speak. The dollar has depreciated by 18% to the RMB, and even more to other major currencies, the US has entered a recession, raising questions as to the degree to which the economies of Europe and Asia have “de-coupled” from the US economy.

Discussion Questions:

1. Define “US balance of payments deficit“. What accounts make up a country’s balance of payments?
2. In what ways would “a big dollar depreciation alongside much weaker domestic demand for imports” help achieve more balanced trade between the US and its trading partners?
3. Explain the statement: “weaker domestic demand for imports could be achieved only by a severe contraction of the US economy“
4. Which of the determinants of exchange rates that we learned in class (remember “SIPIT”) is referred to in the following claim: “The only way the US could export its way
   out of the crisis would be if economic growth in the rest of the world
   proceeded at a significantly higher rate than the American economy“.

UN chief warns world must urgently increase food production - Yahoo! News

So you don’t say things that make you sound stupid to people who have studied economics, i.e. AP Econ students. Here’s UN chief Ban Ki Moon speaking at a UN conference in Ghana this week:

“One thing is certain, the world has consumed more (food) than it has produced” over the last three years, he said.

Ban blamed a host of causes for the soaring cost of food, including rising oil prices, the fall of the U.S. dollar and natural disasters.

He said he would put together a special task force to help deal with the problem and called on the international community to help…

“We need a real world and not the world of economic theories,” Ban said. “I will work on this right now with a sense of urgency.”

You know who says things like that? People who don’t understand the basic economic theories. Sadly, the theory Mr. Moon is missing here is one of our science’s most basic and simple to understand: that of supply and demand.

First of all, I’d just like to point out the absurdity of his first statement, that “the world has consumed more than it has produced.” Mr. Moon, I’d like to ask you this: If our world has not produced all the food we’ve consumed, then whose world DID produce it? Can’t we just call up the world where all the extra food we’ve consumed was grown and ask them to send us more?

Next, regarding Mr. Moon’s “task force” that he plans to form to deal with the problem, my question is this: What can a handful of bureaucrats accomplish around a table in New York that the market can’t do on its own? Rising food prices send signals to farmers who grow food; a signal that sends a very clear message: “GROW MORE FOOD!”

I’m sorry, but Mr. Moon and his “task force” can spend all the time and money they want brainstorming ways to get farmers to grow more food, but in the mean time the invisible hand of the market, guided by price signals sent from consumers to producers, will work its magic to allocate more resources towards food production and away from alternative uses of grain crops such as ethanol production, eventually shifting the supply curve of food out, stabilizing food prices.

Mr. Moon’s intentions are honorable, but his means of achieving his goal are misguided in an era of the market mechanism, which underpins most of the world’s agricultural economies today.

Live from Shanghai - OnPoint with Tom Ashbrook

The 21st century has been called “China’s Century”. With the Olympics in Beijing in a couple of months, the torch relay touring the worlds’ major cities has been met with fierce anti-China protests as angry activists have accused China of countless offenses from human rights violations to oppression of democracy movements to environmental destruction. Although it may be “China’s Century”, it sometimes seems that the rest of the world is not too happy about China’s emergence as a global superpower.

Last week, NPR’s Tom Ashbrook, journalist and host of the OnPoint radio program, visited Shanghai and featured daily stories about China in the world today. Below is an excerpt from the first of these stories, which caught my attention because it shared a minor fact that I had never heard before but which I find extremely interesting. Ashbrook’s guest, David Lampton, is a leading scholar on China’s re-emergence as a global superpower. Listen to what he says here:

 

 China's Challenge - OnPoint with Tom Ashbrook: Play Now | Play in Popup | Download

“Re-claim their share of global GDP?” you might be asking? Here’s the thing… for much of the last 2,000 years, China was THE leading superpower in the world. In fact, up to the 1430’s, China had the largest navy in the world, had established tributary relations with dozens of kingdoms from Southeast Asia to India to Africa, had established and secured trade routes stretching overland to Europe and by sea as far away as East Africa, and some even think Chinese explorers had made it to North America seventy years before Columbus! While Europeans were dying of the plague by the millions and struggling under absolute poverty in a feudal society where the idea of national unity was still a century off, China had grown to be the largest empire the world had ever seen, first under the Yuan Dynasty and then the Ming.

As professor Lambert says, China’s GDP, or its total output of goods and services, accounted for ONE THIRD of the world’s output during much of the common era. This fact shocked me, but made sense once I thought about it. China truly was the greatest example of a global superpower the world had known by the 15th Century. Much of its wealth and power was a result of its efforts to globalize, or to integrate itself with the economies of the foreign nations, empires and kingdoms. Trade with its neighbors, near and far, had helped enrich China, but also built among China’s leaders a rightful sense of superiority over the other peoples of the world.

It was this sense of superiority that would lead to a long period of decline in Chinese dominance of the global economy. In 1432, the Ming emperor ordered the trading vessels of Admiral Zheng He destroyed. 3,000 of the largest ships the world had ever seen were sunk to the bottom of the Yangtze river and the East China Sea. The emperor declared China as “The Middle Kingdom” and ordered that all links with the outside world be severed, as China had no need for trade with others. China, the emperor claimed, was totally “self-sufficient” and could flourish without trade with the “barbarian” outsiders.

What followed was a long period of decline in China’s superpower status. From 1432, through the fall of the Ming in 1644 throughout the subsequent Qing Dynasty, into the 20th Century which saw repeated shifts in power between KMT, the Japanese and finally the CCP, China for the most part resisted attempts by its own and by foreigners to open its doors to the world, welcome trade, and encourage globalization of China’s rapidly dwindling domestic economy. The belief that China was “self-sufficient” endured while China’s share of total economic activity in the world dwindled to nearly nothing.

In the mean time, Europeans “discovered” the New World, philosophized about the gains from trade, integrated their own markets and later the markets of the colonies in Asia, America, and Africa, and grew wealthy as a result of these global exchanges. All the while, China stuck to its path of isolationism and self-sufficiency, as its influence and power slipped ever deeper into obscurity.

This period of isolation essentially lasted until the death of Mao Zedong, who could basically be called China’s last emperor. Since 1978, China has followed a new path, one that has attempted to reverse the mistakes of past dynasties, based on the doctrine of isolation and protection of domestic markets. Since its re-emergence as a global economic superpower, China has rapidly seen its share of global GDP increase from less than 2% in the 1970’s to around 16% today; a rebound achieved only through year after year of rapid economic growth, fueled by exports to the rest of the world. Isolation, it appeared, was not the path to wealth and power. China had discovered a new path, one that has done wonders for it income and standing in today’s circles of global power.

China’s re-emergence was made possible by one simple shift in doctrine and philosophy among its leaders: the belief that trade is good. While today the country still has many obstacles to overcome, such as the environmental challenges posed by growth, achieving a more equal distribution of wealth and income, fostering the growth of a domestic market to lessen its dependence on exports, and the challenges relating to human rights and demands for democratization, it would be wrong to say that China has not benefited from economic globalization in many ways.

A little history lesson is sometimes necessary to better understand where China is coming from and where it is going on its path towards re-emerging as a superpower in the global economy. The West, in the mean time, should pause to consider the rightful place the Chinese people believe is theirs based on their long history of economic power and dominance that for hundreds of years placed China at the pinnacle of power in the world economy.