Economic Trends
By Peter Coy
Less Chance to Rise in Life
While the U.S. prides itself on being the land of opportunity, economists have grown less optimistic about the ability of American children to leap ahead of their parents' station in life. A six-figure income remains beyond the grasp of all but 14% of American households (chart). And recent research has found a higher-than-expected correlation between people's position on the income ladder and the rung their parents once occupied.
In the 1980s, studies concluded that, on average, only about 20% of the earnings gap between any two people would persist a generation later as an earnings gap between their children. That would have indicated a society with lots of mobility. However, estimates were later raised to around 40%. Now, research by Bhash Mazumder, an economist at the Federal Reserve Bank of Chicago, concludes that fully 60% of the income gap in one generation persists into the next generation, on average. That would mean that children of poor families would tend to be poor as well.
Mazumder and others reach their more pessimistic conclusions by studying longer stretches of earnings history than in previous studies, thus filtering out chance fluctuations in income that temporarily gave children much higher or lower incomes than their parents. The lower level of mobility suggests that the rise in income inequality over the past two decades "may persist for several generations," says Mazumder.
What's the solution? Mazumder suggests that more access to educational loans might help. He says many poor people who have children with great potential can't raise enough money to send them to good schools, so the children never take home the incomes they're capable of earning.
Money-Market Meltdown?
Remember those old submarine movies where rivets would start to pop as the sub dove too deep? Goldman, Sachs & Co. senior economist John Youngdahl worries that a few rivets in the financial system could pop if interest rates sink too far. He's concerned about money-market mutual funds, which hold more than $2 trillion worth of safe, short-term financial instruments issued by nonfinancial corporations, banks, the Treasury, and loan buyers such as Fannie Mae (FNM
). These funds didn't exist until the mid-1970s, yet today they account for one-quarter of M3, the broadest measure of U.S. money supply.
According to Youngdahl, money-market funds could lose a big share of their assets if the interest rates they pay keep falling. Today, money-market funds are among the biggest buyers of commercial paper from large companies such as General Electric (GE
), General Motors (GM
), and IBM (IBM
). But if they lose assets, the funds won't be such aggressive buyers--and that could disrupt the flow of credit. The key question is whether banks and other suppliers of credit to corporations will step up rapidly to take the money funds' place.
There's little doubt that low rates are already harming money funds. This year, for the first time since 1985, money-market funds are likely to experience a net outflow. Their assets were down 3% through Oct. 22 after growing 24% last year, according to iMoneyNet Inc., a data collector in Westborough, Mass.
The danger is that banks, which are getting cash that used to be in money-market funds, may not recirculate it quickly enough by stepping up their business lending. "If there was a tidal wave of money moving into the bank deposit base, how would the banks deal with that, in rechanneling it back to the borrowers?" Youngdahl asks. Lately, banks have shown little appetite for the risks of corporate lending. In the past year, their commercial and industrial loans have fallen 8%, while their holdings of Treasury and agency securities have risen 20%.
Many economists say there's nothing to worry about. They say banks have every incentive to lend out new deposits--and that corporate borrowing demand is so soft anyway, there's plenty of money to satisfy it. Then again, no one can be sure how the financial system will respond to the lowest interest rates of this era. Hmmm...is that the sound of rivets loosening?
Chipping Away at Paper Checks
In the age of the Internet, it's a little amusing and a little appalling that the U.S. financial system still depends on airplanes and trucks carrying boxes of paper checks from bank to bank. The Federal Reserve has been trying for years to reduce the use of costly, inefficient checks.
There's new evidence that it's finally beginning to succeed. The Fed reported recently that the number of checks written annually appears to have peaked sometime in the late 1990s. Although checks remain the most frequently used form of payment--accounting for 59% of payments, excluding cash and very large electronic transactions--credit and debit cards are rapidly catching up, rising from 18% in 1995 to 33% in 2000 (chart). There's also a growing niche for electronic payments between banks, such as direct deposit of paychecks and preauthorized payments of monthly bills. They accounted for 8% of payments in 2000.
The cost of processing paper checks could be eased by proposed legislation, supported by the Fed, that would give electronic versions of checks the same legal standing as paper ones. The initiative gained urgency after September 11, 2001, when the temporary paralysis of the transportation system threatened to bring the financial system to a halt as well. The legislation would give banks the option of not returning canceled checks to their customers in physical form.
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Copyright 2002, by The McGraw-Hill Companies Inc. All rights reserved.
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