The Devastating Impact of New York's Minimum Wage on its Restaurant Sector

A survey of the effects of minimum wage increases on the New York City restaurant scene, prepared by the NYC Hospitality Alliance, has prompted a sharp debate at the popular economics blog, Econbrowser.

Menzie Chinn, Professor of Economics at the University of Wisconsin and the chief poster at the blog, thinks New York City’s stiff minimum wage hikes have had no effect on restaurant employment. We disagree. Wage hikes have set the full service restaurant industry back by more than any recession has in the last quarter century.

The Data Sources

The NYC Labor Market Information Service (NYCLMIS) provides labor market analysis for the New York public workforce system. One of their reports describes the New York restaurant business, including employment levels. These correspond to employment figures given by

• Industry Groups: Full-Service Restaurants (NAICS 7221), or SMU36935617072251101SA in the code used by the US Federal Reserve database, FRED, and

• Limited-Service Eating Places (NAICS 7222) , or SMU36935617072259001SA in the code used by the US Federal Reserve database, FRED.

We use these numbers in our analysis below.

Restaurants and Employment

Restaurants have been a growth business in New York City — predominantly Manhattan — for a very long time. Employment in the sector has more than doubled since 2000, rising from 132,000 to 278,300 in late 2017. By contrast, New York City’s population has grown less than 8% during that period. As incomes increase, a greater share of New Yorkers’ budgets has been devoted to eating out.

All is not well, however, in the restaurant business. New York government’s decision to raise the minimum wage to $15 / hour by steps has eviscerated the full service restaurant sector.

From the end of the Great Recession in 2009 until mid-2015, the full service restaurant sector added approximately 8,600 jobs per year. The increase of the minimum wage to $10.50 / hour in 2016, however, slowed growth to 4,300 per year.

When the minimum range was raised to $13 / hour from the beginning of 2018, the full service sector cratered, with employment falling by 8,000 (-4.6%) from its November 2017 high through January of this year. By contrast, the full service restaurant sector lost only 2,700 jobs (-2.4%) during the Great Recession. Put another way, the effect of raising the minimum wage in 2018 was twice as bad as the harm incurred in the biggest economic downturn since the Great Depression.

The cost is greater than just the jobs losses, however. Under normal circumstances, we would have expected the full service sector to grow by 6,000 - 8,600 jobs in 2018, which was the strongest year for the economy in quite some time. Consequently, these forgone jobs have to be added to the total. In all, an increased minimum wage can be credited with the loss of up to 16,000 jobs in the full service restaurant sector from late 2017 through January of this year. That’s two-thirds of the total employment Amazon promised to New York City over a number of years.

Interestingly, the limited service restaurant sector, including establishments like McDonald’s and Chipotle, has not been hit as hard. This is not altogether surprising. With wage hikes raising meal prices, some customers have no doubt moved down-market, from full service to a limited service restaurants. As a result, sales losses to full service establishments may have resulted in sales gains to limited service eateries.

Further, many limited service restaurants are already staffed lean. A typical Subway sandwich restaurant, for example, may have only two or three counter employees, hard to reduce and still retain a reputation for ‘fast food’. As a consequence, limited service restaurant employment fell for only two months, in late 2017, and actually grew during 2018. Notwithstanding, growth was less than the historical average. We estimate that the limited service sector grew by 2,600 fewer employees than expected.

The impact on the fast food sector may be longer in coming, but ultimately more profound. If restaurant chains determine their business model does not work at a high minimum wage, they may eventually exit certain locations in the city altogether.

Taken together, New York’s $13 / hour minimum wage has cost approximately 16,000 - 19,000 jobs in New York City’s restaurant sector since November 2017. This, of course, excludes reductions in hours and restructurings of pay packages.

Nor is the outlook brighter. With a $15 / hour minimum wage in effect from the beginning of the year, the New York City restaurant sector can look forward to a grueling 2019.

Three Ways to End Illegal Immigration

Migrant labor constitutes a black market: Central Americans want to sell their labor to US employers; the US government is trying to stop it. This conflict creates a black market in labor.  Whether in alcohol, gambling or migrant labor, there are three approaches to try to beat a black market.

Suppress Supply

Without fail, governments try to suppress black markets by focusing on supply, arresting drug dealers or detaining hotel maids and berry pickers attempting to sneak across the US border.  Supply suppression is used because it externalizes the problem -- it's the Mexicans' fault! -- and there is nothing more politically expedient than blaming someone else.

Supply suppression has never worked, because enforcement provides the incentive for its own undoing.  When supply is suppressed, prices go up and competition goes down.  For example, on the coastal areas of the Carolinas, restaurants are so short on labor that they are both cutting hours and increasing wages, up to $16 / hour for unskilled labor.  That's 16 times the Honduran wage, the equivalent of paying an American $500,000 to wash dishes in Acapulco.  Would there be any shortage of takers, even if they had to cross the border illegally?

Nevertheless, prohibitions are as politically stable as they are socially destructive--because whatever bad is happening can be billed as someone else's fault.  

Suppress Demand

​Note to conservatives: Suppressing demand actually works.  It worked for hard drugs in Japan and Singapore.  And for undocumented labor in Arizona.  Arizona brought in tough anti-illegal labor laws in 2007 and reduced their undocumented population by half.  Not only that, they have kept the numbers down.  How?  By closing businesses that use undocumented labor.  

But is it a good idea?  Unlike alcohol -- which was banned during Prohibition -- migrants actually add to GDP.  Alcohol today is the third leading cause of preventable death in the US and leads to a loss of $250 bn / year of GDP.  By contrast, undocumented migrants directly add $200 bn of GDP in their wages alone and nearly $500 bn in enabled economic activity.  

So how did Arizona's enforced prohibition on migrant labor work out?  In terms of employment, it's a train wreck.

Back in 2007, Arizona had the 16th best unemployment rate among the states.  Today, it's in 45th place -- even worse than perennial laggard Mississippi, for example.  In fact, Arizona has the second worse relative record (change in rank) of all the states since 2007.  Moreover, six of the seven states which enacted restrictive laws regarding use of undocumented labor have seen their relative rank, in terms of unemployment rate, deteriorate compared to the other states.

Only South Carolina has bucked the trend, and indeed, done so spectacularly, with the most improved unemployment rate since 2007 in the country.  But look for enforcement there, and one finds less than enthusiasm​: Only 2 percent of businesses in South Carolina were audited in 2017, and 17 percent of that sample were found not to be using the system. None of the scofflaws, however, were fined. 

​Google can find no mention of the ​respective ​South Carolina law in the press in the last five years.​  Indeed, the only story which turns up i​s a​ Republican-backed initiative to provide in-state tuition for long-time South ​Carolina​​ undocumented residents.​  ​So much for conservative resolve.

If conservatives want to take a ​principled, ​hard line ​stance against illegal immigration, then they need to take a hard line against employers using that labor.  Conservatives like Dan Bognino or Chris Buskirk should call to shut down meat and poultry processing, much of the ​dairy business, virtually all US fruit and vegetable production, and half of construction.  We import our TVs, why not our meat, fruit and dairy?  If you're a conservative -- and you really believe that migrant labor is bad -- then you should go after the employers.  Arizona -- and the history of black markets otherwise -- show​​ that it can work.

But it's not free, neither in terms of the economy or national politics.

Legalize and Tax

Once again, the standard prescription for a black market is to legalize and tax it, as we did with alcohol, gambling and now, marijuana.  It does not make all the problems go away -- alcohol is still a huge health issue -- but it eliminates the related black market pathology, which is inevitably far worse than the contraband item itself.

Although a legalized system will not end all the problems associated with poor, unskilled Latin American migrants, it can vastly reduce their impact.  For example, a market-based system can greatly reduce the number of dependents and effectively end birth tourism (for non-tourist migrants) -- these two items represent the major fiscal burdens of illegals today.  And such a system can ensure the US is properly compensated for providing labor market access, instead of being grossly under-compensated as it is today in the current H-2A visa system.  

A legalized, market-based system is unambiguously the right approach, and one which could help the Trump administration score some much needed points.

*****

If you want to end illegal immigration, there are three ways to do it: suppress supply, suppress demand or legalize and tax the activity.  Suppressing supply, by building a wall for example, is politically attractive but will inevitably result in policy failure.  Suppressing demand by shutting down employers will work, but it is not cheap in either financial or political capital.  And finally, black markets can be finished by legalizing and taxing the activity.  While such an approach will not solve every problem, it will solve most major issues and close the matter from the electorate's perspective, just as we note in our white paper.

Enforcing Bans on Employing Undocumented Migrants

The Southwest Border is Open and Unprotected

Apprehensions data from US Customs and Border Patrol speak to a rapid increase in attempts to cross the US southwest border illegally.

But more than that, they speak to distinct trends by migrant type. Adults apprehended by themselves have increased only 20% over the last year--in line with expectations given the strength of the economy. Unaccompanied minors have increased sharply, +54% over the first five months of FY 2018. Most critically, the number of families apprehended has skyrocketed, up an astounding 338% in a single year.

The differences among categories cannot be explained by either the strength of the US economy or safety concerns in the migrants' home countries. Rather, the data speak to the wholesale collapse of immigration control for minors traveling alone and, especially, for adults traveling with children. With Judge Sabraw's ruling in last June preventing the separation of minors from their parents and the recent omnibus bill cutting funding for detention beds, migrants can enter the US on demand if accompanied by a child--and they know it. They are taking advantage of the opportunity, with the rate of apprehensions of family units rising since last summer by almost 3,000 / month, and nearly 4,000 / month in total if unaccompanied minors and single adults are included.

By any measure, this constitutes the collapse of immigration control at the southwest border, and the numbers could -- and most likely will -- deteriorate further. The Washington Post writes: "The number of migrants taken into custody last year jumped 39 percent from February to March, and a similar increase this month would push levels to 100,000 detentions or more." This seems like hyperbole -- our forecast for March apprehensions is already absurdly high at 82,500 -- but it is not inconceivable. Migrants will surely believe the opening will not last and therefore will make every effort to enter the US before Congress and the administration can act. This in turn could drive a major increase in monthly crossing attempts heading into the summer. In this context, the Washington Post forecast may well prove accurate.

Oddly, neither the Congress nor the President seem to be focusing on the issue. The President continues to call for a border wall, when in fact a wall would have no impact on families presenting themselves for arrest by Border Patrol and subsequently claiming asylum.  Meanwhile, Democrats’ imagination appears limited to haranguing DHS Secretary Nielsen about whether fenced detention areas constitute 'cages' that are somehow inferior to walled or barred jail cells.  Democrats’ ire appears to be directed principally at the detentions of 245 children the New York Times identifies as having been removed from their families since the court ordered the government to halt routine separations under last spring’s “zero tolerance” border enforcement policy.  This constitutes 0.2% of those apprehended in family units during the period in question.

All this misses the point. Immigration control over the southwest border has collapsed, and the US is being overrun principally by economic migrants abusing US asylum law. This will be apparent to the US public -- Republican and Democratic voters alike -- by July. President Trump is correct in deeming this a 'national emergency', but it is not related to the wall, but to a catastrophic failure of US asylum policy. To restore order, the US has a handful of options, but the gist has to be preventing migrants from entering the US interior before their asylum claims can be adjudicated. This should be the focus of the President's efforts. Meanwhile, the Democrats should understand that just now the President is looking like a genius for highlighting the perils of illegal immigration and that the voters will likely -- and justifiably -- blame the Democrats for this rapidly evolving fiasco.

February Border Apprehensions: At Crisis Levels

In February, Border Patrol apprehended 66,450 persons attempting to cross the unsecured border between official crossing points. This was an increase of 18,557 (+39%) over the previous month and 39,784, a whopping 150%, over the same month last year.

We have updated our annual forecast for apprehensions for calendar year 2019, which stood at 606,000 as of last week. Based on the first two months of the year, our 2019 calendar year forecast is raised to 841,000. This would be the highest since 2006, almost double last year's level, and more than three times the number of apprehensions in 2017.

The sudden increase in crossing is driven entirely by a surge in family units. While there a jobs aplenty in the US, current legislation and judicial rulings have created a highly permissive environment for migrants from the Northern Triangle countries traveling with children. As a result, the rush is on, and month after month, more and more family units are attempting to cross the border and claiming asylum if they are caught.

Crossings are now clearly at crisis levels, and the pressure will be on Democrats in Congress to tighten asylum laws if they intend to hold the House in 2020. ​I would note that migrants are also certainly aware of this, and therefore apprehension numbers could rise substantially heading into the summer months as migrants rush to cross the border before new legislation can be prepared. My advice to Nancy Pelosi would be to block out some time over the weekend and have a bill ready on Monday morning. This doesn't get better, and very likely could get a lot worse, with the Democrats rightly blamed for this fiasco.

Turning to February inadmissibles: These numbers remain elevated, but nothing too out of the ordinary.

Migrant Victimization Spreadsheet - March 2019 Version

Migrant Victimization Spreadsheet - March 2019 Version

How many migrants are making it successfully over the border?

We know how many migrants are apprehended trying to make it over the border illegally, but how many actually make it across successfully?

As it turns out, this is not an easy calculation.  Notwithstanding, we forecast successful, illegal entry into the US across the southwest border in calendar year 2019 at 260,000 - 500,000, assuming 70% and 55% apprehension rates, respectively.

Assumed apprehension rates in the literature cover the spectrum, from 20% to 90%.   Surveys conducted by the Mexican Migration Project, a collaboration of Princeton and Guadalajara Universities, suggest that apprehension rates have never risen above 40%.  This 40% rate is historically consistent with a 2017 DHS study until 2013, after which the rate rises to the 55% which we have used in most of our analyses  (see page 8).  I have heard rates of 70% recently from experts in the field, and while I consider this the high end of plausible, I am inclined to stay closer to our lower number.

To understand why a 55% rate seems more reasonable, we have to consider how migrants think about jumping the border.  They do not try just once, and having failed, simply give up.  For migrants, there is huge difference between success and failure.  We estimate the all-in, risk-adjusted cost of a crossing at $12,000, of which $4,000 or more will be the coyote fee.  Even in Mexico, $4,000 represents almost two years' wages, and in the Northern Triangle countries, it effectively constitutes one's life savings. If one makes it to the US, the payback period, by our estimation, is 6-9 months, not too bad all things considered.  If one fails, the setback will last many years.  Taking a shot at a border is a big decision, and migrants have every incentive to persist once they have elected to try a crossing.  Therefore, in many cases, if migrants are caught and deported, they try again, and perhaps a third time.  

I have heard reports of coyotes guaranteeing up to three tries for their fee, which suggests that almost everyone gets through upon the third attempt.  At a 70% apprehension rate, that just would not happen.  Indeed, about 40% of attempted crossers would never make it through, and that's a big deal.  If 40% of crossers lost their life savings--the number consistent with a 70% apprehension rate--we should see many related stories in the press, and none pops up.  This leads us to believe that most migrants are still making it across, at substantial expense and with a couple of tries, but they are still making it through.  

The border apprehensions data below also suggests greater ease in crossing the border.  In 2016, for example, apprehensions hit multiyear highs in the run-up to the US presidential election.  Migrants were worried about a Trump victory and accelerated their crossings before the election -- and then deferred them once Trump took office.  Similarly, in the last half year or so, the pace of apprehensions has accelerated rapidly, presumably due to strength in the US economy.  The data are suggestive of a fluid and well-functioning market able to react on a few weeks' or months' notice to changing economic conditions.   The numbers do not feel, from the analyst's perspective, like a market in which 40% of the crossers are wiped out.

Consequently, while a 70% apprehension rate cannot be precluded, the available data suggest a rate in the 55-58% range is more likely.  (In the interest of completeness, I would also note that a 40% apprehension rate is also unlikely, as it would imply that 660,000 migrants made it through successfully to the US in 2016.  Such a high number is incompatible with undocumented immigrant estimates from Pew Research.)  

If we accept a 55% apprehension rate, then 80% of migrants make it through, trying an average of 1.8 times for a successful crossing.  This, incidentally, is consistent with Border Patrol claims that, "on most of the border, you're looking at a 90 percent-plus apprehension rate, meaning if you cross that southwest border unlawfully, over 90 percent chance you're being apprehended."  Our analysis suggests that's actually true statistically (apprehensions/number of persons attempting a crossing), but it is also consistent with 80% of migrants making it through within three tries (see the 'Apprehensions' tab in our updated Migrant Predation and Victimization spreadsheet for the model and math).

Why are the migrants coming in such numbers?

JOLTS, a monthly survey of the US job market prepared by the US Bureau of Labor Statistics, provides insight.  The JOLTS numbers are just as stunning as border apprehensions data in the last few months.  Since the Republican tax cut took effect, the number of jobs openings has soared, but hires have failed to keep pace.  As a result, JOLTS is showing a record excess of openings over hires.  Moreover, quits are also running near record levels as incumbent employees leave for better paying jobs in more senior positions.  Together, these suggest a vast number of open positions at the low end of the wage scale -- exactly the niche covered by undocumented migrants.  In fact, our analysis on a segment-by-segment basis suggests there may be 2 million open US jobs in the unskilled migrant category.  That's why they are coming, and even at a 500,000 / year pace, it would take years to fill available openings.   This suggests apprehensions, and by extension illegal entry into the US, may well run hot this year, and indeed, might rival some of the go-go years of the Clinton administration prospectively.

Does this constitute an 'emergency'?  The President is arguably correct that migrant numbers are increasing rapidly, and, if we allow this year's forecast of 500,000 new entrants, are material in magnitude.  Moreover, both business cycle factors and underlying US demographics suggest the trend is likely to persist.

On the other hand, migrants are here to provide goods and services which Americans require -- hence the job openings.  

The question, therefore, appears to be more about the conditions of migrants' presence than the actual fact of it.  Americans are right to worry about millions of undocumented aliens roaming the country; the lack of order, transparency and safety in the migrant labor market; the impact of so many low income migrants on US political and governance culture; and the burden they may represent to the US taxpayer.  All these are legitimate concerns, but we do not need a wall to resolve them.  All these issues can be addressed, quickly and effectively.  It's not that hard to do, if leadership is willing to implement those policies which have worked in the past.

Migrant Predation and Victimization Spreadsheet - Feb. 2019 Version

Migrant Predation and Victimization Spreadsheet - Feb. 2019 Version

January Border Apprehensions: A Complete Blowout

Customs and Border Patrol has issued stunning January numbers for the US southwest border.  CBP reported 47,893 apprehensions, an increase of nearly 22,000 (+84%) over last year (which was not depressed by Trump effect which prevailed in 2017).  More impressively, January apprehensions were up 12,000 (+33%) on our November forecast.  As the graph below shows, there is nothing modest about our forecast, which called for a 31% increase in apprehensions in 2019 over 2018.  And the January actuals were 33% above that!  

Nor were inadmissibles spared.  January inadmissibles came in at 10,314, 4% over last year's high base, and 3,135 (+44%) above our November forecast for the month.

The January numbers do not yet warrant an upward revision in our forecast of 606,000 apprehensions in 2019.   But we are on notice.  Buckle your seat belts: 2019 could be a wild ride at the southwest border.

White Paper - Feb. 2019 Version

A Market-based Approach to Address Illegal Immigration (Feb. 2019)

Trump can end it all with a tweet

President Trump could end the shutdown and fix illegal immigration with a tweet like the one below.  

This statement is entirely feasible.  Market-based visas would generate net $30 bn to the Treasury annually -- more than enough to build the wall every year.  And as it would provide on-demand access for Mexican migrant labor to the US market (for a hefty fee), the Mexican government would essentially be forced to cave to associated US demands, which could include partial funding for a wall.

Of course, the entire point of market-based visas is to close the border without a wall, but if conservatives want a wall, illegal immigrants are the obvious source of funds.  Indeed, we forecast that approximately 400,000 illegal immigrants will make it successfully over into the US this year, even as the New York Times just this week reported that coyotes are charging $7,000 / person to guide migrants across the border.  Do the math, and Trump could set up an admissions booth in Tijuana and generate nearly $3 bn from just those migrants who will successfully enter the US through the unsecured border this year anyway, with the difference that migrants would pay the US government instead of the cartels.

That the President is serious about tackling illegal immigration is laudable.  On the other hand, shutting down the government for a wall that neither a majority of the public or Congress wants is likely to hand the President a stinging defeat.  He's working on the right topic, but with the wrong approach.  

With the right approach -- market-based visas -- the President could chalk up a much-needed win by ending the shutdown and focusing on a policy most Americans will support.  A Trump tweet is a good place to start.

Migrant Predation and Victimization Spreadsheet - Dec. 2018 Version

Migrant Predation and Victimization Spreadsheet - Dec. 2018 Version

November Apprehensions: High, at Expectations

Border Patrol detained 51,586 persons trying to cross the border illegally in November.  This is up 3.7% (+1,855) over October, but in line with our recent forecast and on track for 600,000 border apprehensions in 2019.  November border crossings were the highest since 2006, that is, before the Great Recession.  On the one hand, this can be interpreted as a failure of immigration policy; on the other, it signals that the Great Recession (the China Depression) is over, even if it took a decade.  This in turn implies that politics are likely to move back to center, just as the November election results suggest.

Inadmissibles, those trying to cross at official checkpoints without papers, were up a bit but nothing too exciting.

Italy: Oil, the Euro and Populism

Oil influences the economy, and the state of the economy influences the balance of ideologies, which in turn establishes the boundaries of the politically possible.  Italy in particular is in the news lately, with worries about its rising populism and a potential exit from the Euro.  Much of the analysis is frankly wrong in our opinion.  Given our traditional expertise in oil and years’ experience in Central Europe, we thought to weigh in.

Some of the most misleading oil markets analysis tends to come from Bloomberg, this time in an op-ed by Nathaniel Bullard, who writes, "demand for oil consumed for transportation is already waning in certain markets and segments...there’s Italy, where demand for gasoline has fallen by nearly half since 2005."

Bullard seems to think collapsing oil consumption is a virtue.  It is not.

It is true that oil consumption per capita in Italy has fallen by 40% since Italy entered the Euro Zone in 1999.  But how was this achieved?

As the graph below shows, Italy’s oil consumption was relatively steady from 1980 until about 2004.  In 2004, however, the global oil supply stalled and oil prices started a swift rise from around $38 / barrel (in 2017 dollars) to $80 / barrel by 2007.  Italian oil demand began to crumble.  Then, in 2008, oil prices spiked to historical highs, contributing to the greatest downturn since the Great Depression of the 1930s.  Italy’s GDP fell by 8%.  Oil consumption plunged.

With the country in recession through early 2009, Italy’s oil demand continued to drop, even as oil prices fell. 

When the Great Recession officially ended in mid-2009, oil prices remained low and the global economy rallied. Italy caught its breath as GDP recovered a bit and oil consumption stabilized.

Underlying oil supply-demand fundamentals were essentially unchanged, however, and the return of global growth brought rising oil and commodity prices.  This ultimately precipitated the 2011 Arab Spring and oil supply outages in various OPEC countries.  Oil prices rebounded to historical highs on a sustained basis.  Europe was again plunged into a recession, one which would last until Q1 2013 by official cycle dating.  Italy’s oil consumption resumed its dive and GDP fell another 6 percentage points, bottoming in 2014 at 12 percent below its 2007 high.  So, yes, Italy was able to reduce per capita oil consumption by 40%, at the cost of 12% of per capita GDP.  If that’s success, well, call Italy a success.

Italy’s plight, of course, was not unique.  Greece was worse.  In fact, the entire OECD took it on the nose.

As the graph below shows, OECD oil consumption fell steadily from 2005 until 2014.  During the initial phase from 2005 to the 2008 oil price shock, oil consumption fell by 4% or 2 mbpd (million barrels per day).  But the real damage came the next year, in 2009, when the developed world was in deep recession and OECD oil consumption fell another 4 percent – an additional 2 mbpd – in a single year.

With lower oil prices in late 2009 and 2010, advanced country demand recovered briefly, only to be hammered again by the Arab Spring, which by 2014 had knocked another 0.6 mbpd off of OECD oil consumption. 

How was this achieved?  In every case, by high oil prices.  There was no peak demand, just unrelenting price pressure, and the OECD economies were either in recession or suffering stagnation the whole time.

Now, where did all that OECD oil go? Only in 2009 did the oil supply dip briefly, and that was due to OPEC cuts in the face a collapsed oil prices. Otherwise, the oil supply saw no decline, and mostly growth, between 2005 and 2018.  So where then did the ceded OECD oil consumption go?  Of course, it’s obvious: to the non-OECD countries, principally to China.

Indeed, the entire 2005 to 2014 period can be characterized as a reallocation of global oil consumption from the developed economies to the emerging markets, with high prices stripping the advanced economies of their energy supply.  During this time, OECD consumers provided a material share of China’s and other emerging economies’ increased oil consumption.  Indeed, as the graph below shows, OECD consumers provided 80% of non-OECD oil consumption growth from 2005 to 2009.  That is, 4 of every 5 incremental barrels consumed by, say, China did not originate in increased oil production, but by bidding away the oil consumption of the mature economies.  Given the importance of oil, particularly as a monopoly fuel for transportation, the loss of oil consumption precipitated a major advanced economy recession.  Notably, all the countries which experienced a financial crisis were net contributors of oil from consumers; none of the net recipients of oil suffered a financial crisis.

This reallocation lasted a long time.  To the extent the stress has abated, the cause is clear: US shale oil production growth.  The pressure for OECD consumers to cede consumption was mitigated by shale production growth rising to such a level that both the OECD and non-OECD economies had enough oil to go around.  Indeed, US shales by themselves will represent, through 2019, 65% of global supply growth since 2005.  Shales are not the icing on the cake, they are the cake.  OPEC, Russia, Brazil and Canada are the icing.  OPEC in particular will have added a meager 2.9 mbpd in the 2005-2019 stretch—an annual contribution of 0.2 percentage points of growth—and of this, about half was added only due to low oil price pressures resulting from US shale production growth.

Surging US oil production catalyzed an oil consumption and economic recovery for Italy (Figure 1) and for the OECD (Figure 2).  After falling by 4.6 mbpd from 2005 to 2014, the US Energy Information Administration (EIA) sees OECD oil demand recovering from its trough by 2 mbpd through 2019.  OECD oil consumption had little to do with ‘peak demand’, and everything to do with the oil price.  Ample oil supplies allow Italy and the rest of the OECD to grow.

With this background, we can turn back to the particulars of Italy.  Having entered the Euro Zone in 1999 (although tied to the ERM earlier), Italy was not in a position to devalue its currency when the recession hit.  Instead, the Euro remained – and remains – a composite of the relative strengths of the Euro Zone countries, favorable to well-governed nations like Germany or the Netherlands, but brutal to the weak southern tier countries like Italy, Spain, and in particular, Greece.   As a result, Italy could not solve its problems the historically convenient way, by devaluing the lira.  Instead, it has had to cram down imports and attempt internal deflation.

The result: Italy’s GDP / capita today remains 8% below its 2007 high.  Indeed, following IMF forecasts, the country’s GDP may not return to 2007 levels until the late 2020s – twenty years of stagnation.  There is nothing unique about this.  For example, the IMF forecasts that Puerto Rico, which is in a currency union with the United States, will see its 2024 GDP at 25% below the 2004 level.  The Great Recession was most assuredly not a recession, but a depression.  In many parts of the world, it persists as a practical matter to this day, as it does in Italy.

What then should Italy do?  In southern tier European countries, the public distrusts their politicians, their government and their entire governance structure.  For them, the Euro means Europe, the visible symbol that they are civilized people like Germans or Danes.  Leaving the Euro would mark the Italians as a lesser people, behind not only the Germans and Dutch, but also the Spanish, the Slovaks and even countries like Romania and Bulgaria, which are signed up as eventual Euro members in the ERM II program.  Euro membership is therefore first and foremost a matter of national pride and self-respect in Italy in a way it is not for, say, Switzerland, Norway or Great Britain.  The Euro is a proxy for European governance.

The cost of such fealty, however, is an economy whose glory days are behind it.  For this, the Italian public blames Brussels and Rome.  For them, European math doesn’t work, as Italy’s GDP / capita is no higher today than when the country entered the Euro Zone almost twenty years ago.

If the traditional left and right are impotent, if Euro membership has brought only economic hardship, where should the public turn?  Clearly, they are turning to unconventional solutions, to populists for example.  These politicians promise that Italy can both retain the Euro and grow a heavily indebted economy with even more debt.   The populists promise that they can defy the laws of arithmetic, and because conventional math has failed, Italians will give it a try.

If US shales can continue to grow production at their current pace for the next four years or so, then populism will likely fade and Italy will find some footing, even within the Euro Zone.

On the other hand, if US shale production under-performs, Italy may well fall into the oscillating extreme left and right populism which alt-right provocateur Steve Bannon sees as the wave of the future.  A lack of oil for growth will provide ample room for populists to offer inherently contradictory, but superficially appealing, policies.  Leaving the Euro Zone would be a better option in such an event.

In a recent debate with Bannon, conservative intellectual David Frum rejected Bannon’s populist apocalypse and stepped up to defend western liberalism.  “It is absolutely clear that liberal democracy is in trouble now,” Frum said, “[but] the failures of a good system are not a reason to turn to an evil one.  We have to review and repair.” 

What should we review and repair, exactly?  Is democracy the problem, or a lack of cheap oil?

Frum should have said, “Let’s hope US shales can supply as much oil as the world needs, for western liberalism hangs in the balance.”  That would be closer to the truth.

October Illegal Immigration: Soaring (but not Nielsen's fault)

Apprehensions at the US southwest border for October came in at 50,975, up 23% over the previous month and a whopping 19,400 (+38%) over our mid-year projection.

We had stated in our earlier reports that illegal immigration could go a lot higher, to 45,000-65,000 per month, and at 51,000, the October data falls right into that range.  October apprehensions reached the highest level since 2007, which is significant because it suggests a return to pre-recession levels, which were much, much higher than recent numbers.

Our November forecast for southwest border apprehensions for full year 2018 now stands at 465,000, an 85% gain over the 251,000 booked in 2017.  In October 2017, we forecast apprehensions to double in 2018, and we were not far off.  

Our initial forecast for 2019 sees border apprehensions rising another 30% to just over 600,000 next year.  

Our forecasts and actuals on an annual basis can be seen on the graph below.  Next year is likely to see the highest level of apprehensions at the southwest border in a decade.

Turning to inadmissibles, those trying to cross at official entry points without proper documentation, October numbers came in near historical averages and at expectations.

While one can understand President Trump's dissatisfaction with illegal immigration numbers, firing Secretary Nielsen without a swift and credible replacement would expose DHS as a rudderless institution just as a migrant onslaught is hitting the country.  It would not reflect well on the President. 

Definitions of Ideologies

On several occasions in the media recently, ideological terms have been used incorrectly, in our opinion.  Given that we link economics to ideology and on to public policy, we have decided to draft a quick glossary of these terms as we use them and believe they are correctly, if idiosyncratically, defined:

Populist

Populism is not an ideology.  It’s an approach to marketing an ideology. 

As an adjective, the term populist means emphasizing the benefits of policy without mentioning the costs.  It is possible to be a populist conservative, or a populist progressive, fascist or socialist.    On the right, populist rhetoric includes phrases like “tax cuts will pay for themselves”, mathematically impossible except at very high levels of taxation and worth about $500 bn of deficit this coming year.  On the left, populist rhetoric includes “free education” and “free healthcare”.  Neither of these is free, not by a long shot.

Populism, therefore, implies policies which are inherently contradictory, insupportably expensive, or detrimental to the economy and society in the long run.  The more extreme the ideology or proposed policy, the greater the need for populism.  Populism will flourish when the economy is in distress and the elites are discredited, most notably during depressions.

In the media today, populism is regularly conflated with fascism.  They are distinct, although we have been seeing the emergence of populist fascism.

Liberal and Libertarian

Prior to 1929 in the US (1917 in the UK), and to the present in economics, liberal meant pertaining to the rights and perspective of the individual, that is, to personal freedom.  Historically, egalitarians (progressives, socialists) cohabited as the junior partner of the liberals on the left (not the right).  With the rise of communism in Soviet Russia and the welfare state under FDR, the classical liberals were forced to the right to join the anti-communist coalition, but the term liberal stayed with the left, now meaning egalitarian.

The liberals were forced onto the island of ‘libertarianism’, a loathsome term for three reasons.  First, it’s awkward to pronounce.  Second, the left misappropriated the name of the true liberals and egalitarianism is most decidedly not liberal.  And third, libertarianism typically ignores public goods and externalities which are an integral part of classical liberalism, essentially as laid down by Adam Smith.  When using the term ‘liberal’, we typically mean ‘classical liberal’, but ‘classical’ will usually be added to the term for clarity.

Conservative

If liberal means pertaining to the individual, conservative means pertaining to the group and the rights and obligations of the group with respect to its members.  Liberal means player, conservative means team.  This is an idiosyncratic definition, as ‘conservative’ is usually taken to be ‘white, Christian and male’, but confusingly, can also be ‘Arab, Muslim and male’ in, say, Saudi Arabia.   We avoid this problem by framing the concept of ‘conservative’ in terms of group vs individual dynamics, rather than as relating to any specific race, religion or organization.

Conservatism deals with rules, standards and norms which apply universally throughout the group (but not outside it).  Respect, propriety and deference are all conservative values, and they apply to all members of the group, for example.

Fascist

Fascism is an extreme form of conservatism and implies that certain members of the group receive preferential or discriminatory treatment based inherent characteristics, typically race or religion.   By this standard, both affirmative action and the Holocaust fall under fascism, although of course many feel that affirmative action has positive benefits and the Holocaust was the embodiment of hatred and evil.   As we use the term, fascist does not mean Nazi or a member of a political party, but rather an ideology which deliberately discriminates against some group based upon unalterable characteristics, but without necessarily specifying the nature of the associated discriminatory policies.  Fascism is based fundamentally on the concept of distinguishing ‘us’ from ‘them’.  Whereas conservative deals with universal principles applicable to all members of a given group or society, fascism is particular in whom it favors and marginalizes.  “No shoes, no shirt, no service.”  That’s conservative.  “No Mexicans.”  That’s fascist.

Both conservatism and fascism give priority to the group over the individual and can be ‘illiberal’ as such.  For conservatives, it is about who is allowed to steer the boat, where it is taking the passengers, and norms and standards on board.  It is that for fascists, too, but fascists are throwing some of the passengers into the sea.  As such, fascism is incompatible with ordinary civil rights, and involves, if pushed to its logical conclusion, the ceding of dictatorial powers to society’s leader.  It also tends to devolve into open conflict, as those passengers slated for the waves are apt to rise up in rebellion.

All people have some fascist tendencies.  We tend to prefer to live with and be governed by people like ourselves.  This is the essence of self-determination, itself a fascist concept. 

Egalitarian

If fascists define society in terms of inside/outside, egalitarians define it as up/down.  Egalitarians want to increase the wealth and income of those below the median by taking it from those above the median.  This makes good theoretical sense in a static world of declining marginal utility, that is, a poor man benefits more by gaining a dollar than a rich man loses by ceding it.  Under such conditions, society as a whole is better off with redistribution because the gains to low income individuals are greater than the losses to high income persons.  In a dynamic world, of course, redistribution reduces the incentive to work and conform to social norms, and converts income which would have been invested into income which was consumed. 

Egalitarians come in ‘soft’ and ‘hard’ versions.  Social democrats and progressives do not see wealth or a market economy as intrinsically bad, but want to move some of the gains at the top to help the bottom.  By contrast, socialists and communists see wealth as inherently evil, and equality is as much about punishing the wealthy as helping the poor.  Like fascism, socialism and communism involve coercion, because individuals are prevented from transacting voluntarily. 

Egalitarianism has both liberal and conservative versions.  Liberal egalitarianism takes the classically liberal ‘freedom to’ and modifies it with egalitarian ‘freedom from’.  FDR’s famous Four Freedoms embodies just this extension.  These included classically liberal freedom of speech and worship, augmented with the egalitarian ‘freedom from want’, the logic of which underpinned the expansion of the welfare state in the US.

Compassionate conservatism is the conservative version of egalitarianism.  In this case, redistribution is top down from the hierarchy rather than bottom up from a proletariat revolution or taxation passed through a left-dominated legislature.  All types of egalitarianism lead to high levels of social spending, but arise from differing motivations.  One is about confiscation, the other about social obligation.   Conservative egalitarians are often referred to as RINO’s, Republicans in Name Only.

Ideologies as Fundamental to the Human Condition

There is a tendency to equate ideology with political parties or team identity, Republicans versus Democrats or liberals versus conservatives.

We treat ideologies as the game theoretic result of social groups characterized by increasing returns to scale.  If working as a team is better than working alone, then teams will exist, and they will require leadership, organization and an associated allocation of effort, risk and reward.  The group member will routinely be conflicted between ‘being a team player’ and ‘looking out for Number One’.  Duty and desire frequently clash, and there is no permanent resolution one way or the other. 

Those at the bottom half of society who struggle to keep up will sooner or later turn to suasion in the hopes of influencing leadership to allocate some of the society’s resources their way.  Whining is the strategy of the egalitarian. 

Conservatism, liberalism and egalitarianism exist because of increasing returns to scale.  The resulting politics are inherent to any group or organization.  The challenge, therefore, is not to defeat a competing ideology, but to manage a portfolio of ideologies.  It is possible to turn conservatives into fascists, and fascists into liberals.  It’s all about understanding how the levers work.

Mexico Remittances and the End of Fascism

Fascist tendencies -- xenophobia, intolerance and the desire for a strong leader -- tend to peak when the economy finds itself in a prolonged downturn.  With fewer resources and an uncertain outlook, citizens feel they can ill afford to extend themselves for outsiders.  At times like this, in the last several years as well as during the Great Depression of the 1930s, people want to close the border and expel foreigners.  

But it doesn't last.  Sooner or later, the economy recovers and the need for affordable labor overwhelms the fear of strangers.

We can see this dynamic in remittances (including both legal and illegal migrants) from the US to Mexico.  From 1990 to 2007, remittances to Mexico grew at an annualized rate of 13% and declined only once, during the 1991 recession.  The 2001 dot.com bust barely registered for migrant Mexicans, with remittances up 9% that year (and 50% the following).  

All this ended in 2007.  With the Great Recession, remittances fell, and fell hard, bottoming in mid-2013 at 25% below the 2007 peak in real terms.  Indeed, remittances only recovered their 2007 inflation-adjusted value this past summer -- eleven years later. 

Population changes parallel remittances.  Pew Research estimates that that the unauthorized Mexican population by 2016 was 19% below its 2007 peak (and probably not much recovered to the present).  If the Great Recession was bad for US citizens, it was a disaster for the undocumented Mexican community.  Indeed, as we have argued before, had the US southern border been completely unenforced during the last decade, the undocumented Mexican population would be lower than it is today.  More Mexicans would have taken advantage of the opportunity to get out, confident in their ability to return in better times.

Sources: Bank of Mexico, FRED, Pew Research, Princeton Policy analysis

For the purposes of migrant policy, there are a few important conclusions:  

First, as during the 1930s, a prolonged downturn will generate resentment of foreigners and hostility from the host population.  When the economy is doing poorly, immigrants are likely to take a disproportionate share of the blame.  On the other hand, when the economy recovers, the will to act harshly towards migrants dissipates as labor shortages capture the public's attention.  Hatred and conflict are exhausting and hard to maintain when objective conditions improve.  Conditions have improved, and with it, the moment has passed for those hoping for a wall or large scale deportation.  

Second, remittances are growing quickly, rising at a 10% annual pace.  This suggests that wages are again above the Relocation Wage.  This explains the surge in border apprehensions in August and September.  Coming to the US is a business proposition again.  

For President Trump, this is all bad news.  In 2019, he is likely to preside over the highest level of illegal immigration since the Great Recession even as voters -- and with them, Congress -- show an increasing indifference to entire matter.

Third, the window is closing on a market-based approach as well.  The default policy for illegal immigration in the US is, ultimately, indifference and the blind eye.  The costs and benefits are asymmetrical, with the Mexicans taking most of the cost.  The extraordinary pathology of illegal immigration across the US southwest border — second only to Venezuela as a humanitarian crisis in our hemisphere — is entirely stable and condoned.  We have lived with this invisible human tragedy for fifty years and, as a matter of policy and public taste, are willing to live with it for another fifty. Those of us who value order and decency above ideology are in hardly better shape than our more conservative colleagues who long for a wall.  The window is closing.

But the window is not closed yet.  Trump will do a deal.  If asked, he will sign a bill to put migrant labor on a market basis.  It would be his crowning achievement.  

If he's asked.

September: Blowout Month for Illegal Immigration

US southwest border apprehensions came in at 41,486 for the month of September, nearly 4,000 above the previous month and a whopping 12,750 (31%) above our forecast of just three months ago.  This was the highest September count in a decade.  

The only comparable year in recent times was 2016, and numbers were elevated then due to an acceleration of migrants crossing in anticipation of President Trump winning the election and clamping down on migrants as he took office in early 2017.  The surge we are seeing now is pure economic strength, presaged by rapidly rising remittances to Mexico reported for July and August.

Assuming the global economy holds together, we should anticipate that apprehensions will recover to the 45,000 - 65,000 / month level which prevailed prior to the Great Recession.  From the migrant perspective, the good times are back.

Inadmissibles, those who try to cross at official entry points without proper documentation, remained range-bound in September.

Remittances to Mexico and the Fed Funds Rate

Sources: Banco de Mexico, FRED, Pew Research, Princeton Policy analysis

Experts swiftly reject 22 million illegals count

Leading US experts have flatly rejected a new estimate of 22 million illegal immigrants residing in the US.

On Friday, a team from the Yale School of Management released a report which estimated the illegal immigration population in the US at 22 million, nearly double the accepted value of 11.3 million.

Condemnation from all sides was swift.

The Pew Research Center discounted the results as "completely inconsistent with basic demographic data sources in the US and Mexico."  Pew's estimates of the illegal immigrant population constitute the gold standard in the business and are widely accepted by both pro and anti-immigration advocates.  

While we consider Pew as generally sympathetic to migrants, the Center for Immigration Studies (CIS) is not.  The CIS has historically supported restrictions on immigration.  Nevertheless, CIS Director of Research Steven Camarota  was swift to reject the Yale teams' findings as 'unsupportable'.  In a Saturday note, Camarota writes that a 22 million estimate "requires accepting that every Census Bureau survey missed huge numbers of people and that most administrative data from the federal government is woefully incomplete. There is no body of research that corroborates such a claim."

Nor did the Yale study find any help from a team at the non-partisan Migration Policy Institute.  They note: "[P]eople leave footprints that are seen in statistical records—namely in birth, death, school enrollment, housing, and other records...We believe these new numbers [from Yale] represent at most an interesting academic exercise, but are ultimately greatly off-base and thus counterproductive to the public’s very real need to understand the true scope of illegal immigration and how best to address it."

These three think tanks -- Pew, CIS and MPI -- materially comprise US expertise in illegal immigrant demographics.  That they universally and rapidly rejected the claims of the Yale team suggest that the 22 million estimate is unlikely to gain traction in policy circles.