Full text of Forefront (Federal Reserve Bank of Cleveland) : Fall 2014, Vol. 5, No. 2

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

FALL 2014
Volume 5 Number 2

F refront
New Ideas on Economic Policy from the FEDERAL RESERVE BANK
of CLEVELAND

The Things Our
Neighbors Care About

F refront

New Ideas on Economic Policy from the FEDERAL RESERVE BANK
of CLEVELAND

Amy Koehnen
Editor

FALL 2014

Volume 5 Number 2

CONTENTS
1 Path to the Presidency

Five years after the worst recession in decades officially
ended, Americans remain anxious. They worry about
their homes, their jobs, their finances, and their futures.
Consider this: The August numbers from the Survey of
Consumers by Thomson Reuters/University of Michigan
reveal only 21 percent of all consumers expect the economy
to improve in the year ahead, while 26 percent expect
overall economic conditions to worsen.
While much of our research at the Cleveland Fed is
focused on making informed contributions at the Federal
Open Market Committee to help formulate national
monetary policy, our researchers also study matters that
are commonplace in everyday life: the well-being of our
neighborhoods, the level of our household debt, the
security of our retirement. We’re driven to study these
and other day-to-day issues because we know that the
more you know about your economy, the better you can
make choices that enhance your futures, and those of
your communities.
In that spirit, I offer you this issue of Forefront. In it, we
cover many of the things our neighbors (and yours) care
about: foreclosures, the shale gas boom, inflation and
wages, household finances, and more. I invite you to read
our coverage, then share your own experiences.
Tweet us at @ClevelandFed,
upload a video on YouTube then share it with us,
post a picture at facebook.com/clevelandfed,
or just send me a note at akoehnen@clev.frb.org.

The views expressed in Forefront are not necessarily those of the
Federal Reserve Bank of Cleveland or the Federal Reserve System.
Content may be reprinted with the disclaimer above and credited
to Forefront. Send copies of reprinted material to the Public Affairs
Department of the Cleveland Fed.
Forefront
Federal Reserve Bank of Cleveland
PO Box 6387
Cleveland, OH 44101-1387
forefront@clev.frb.org
clevelandfed.org/forefront

2 Upfront

Costly coins; the latest stress test results

4 The Prices We Pay

Four reasons why many economists believe that inflation is poised to rise.

10 Policy Watch: Zombie Properties

Can a fast-track process help to mitigate the impact of vacant foreclosures?

12 Hot Topic: Running Out of Options?
One outlook for the long-term unemployed

14 Getting Our House in Order

US households are saving less and borrowing more than they did right after
the Great Recession.

18 Municipal Bankruptcy’s Tug-of-War

When a municipality files Chapter 9, questions abound.

22 Deep Wells, Deep Pockets, and Deep Impact

The shale gas industry is here, and with it come costs and benefits.

26 Measuring America: Interview with Erica Groshen

The Bureau of Labor Statistics commissioner gives Forefront the stats on
inflation and unemployment, and the many hands it takes to produce them.

32 Book Review

The Divide: American Injustice in the Age of the Wealth Gap

President and CEO: Loretta J. Mester
Editor: Amy Koehnen
Writer: Michelle Park Lazette
Associate Editors:
Michele Lachman
Maureen O’Connor
Art Director: Michael Galka
Video Production:
Lou Marich
Tony Bialowas
Contributors:
Bruce Fallick
Laura A. James
Matt Klesta
Abigail R. Zemrock
Iris Cumberbatch, Vice President, Public Affairs
Mark Schweitzer, Senior Vice President, Research
Lisa Vidacs, Senior Vice President, Public Affairs and Outreach
Illustrator:
Robert Neubecker

Path to the
Presidency
Meet Loretta Mester,
the Cleveland Fed’s
new President and CEO

Loretta Mester attends Bel Air High School in
Bel Air, Maryland. In 2010, Bel Air was home to
a little more than 10,000 people.

1980

Graduates summa cum laude with a BA in math
and economics from Barnard College of Columbia
University

Graduates with a PhD in economics from Princeton
University, the same place she earned her master’s.
Her thesis title? “Three Essays on Industrial Organization:
An Empirical and Theoretical Analysis of the Structure
and Behavior of Savings and Loans.”

1985

Starts her career with the Federal Reserve System
as an economist for the Philadelphia Fed

Begins teaching at the University of Pennsylvania’s
Wharton School, first as a lecturer and presently as an
adjunct professor of finance

1988

Becomes senior vice president and director of
research for the Philadelphia Fed

2000

Serves for four months as a visiting Reserve Bank
officer in the Division of Monetary Affairs at the
Board of Governors of the Federal Reserve System

2009

Becomes executive vice president and director
of research for the Federal Reserve Bank of
Philadelphia, serving as chief economic advisor
to the Bank’s president

2010

Assumes a three-year term as co-editor of the
International Journal of Central Banking

2013

June 1 Becomes the 11th president and CEO of the
Federal Reserve Bank of Cleveland, and a member
of the Federal Open Market Committee

2014

“Explaining the factors that influence the changes
in the outlook and FOMC policy decisions, as well
as how the FOMC plans to conduct policy, can
help the public make informed expectations as
the economy evolves and monetary policy travels
back to normal.”
—September 4, 2014

F refront

1

Upfr nt

Costly
Coins
Eight consecutive years.
That’s how long the unit cost of producing and distributing pennies and
nickels has been more than they’re
worth in commerce, according to the
US Mint’s 2013 annual report. Last
fiscal year alone, the Mint says, those
unit costs generated a $104.5 million
loss.
Beginning this March and concluding
in June, the Mint solicited input from
coin industry stakeholders, of which
the Federal Reserve is one, about the
impact of changing the characteristics
of our coins, including weight, electromagnetic signature, and color, if coin
material (i.e., the metals in coins) were
changed.
The US Mint is required to report its
research to Congress in December.
Also this June, a hearing before
the US House of Representatives’
Financial Services Subcommittee on
Monetary Policy and Trade examined,
in part, how the rising costs of
commodity metals have made it
significantly more expensive for the
Mint to produce its coins, especially
pennies and nickels.

For several years, the cost of producing and distributing the penny and
the nickel has been higher than their face values. Recently, the US Mint
sought comment on change to … change.
“That cost is borne by the taxpayer,”
explains Dan Littman, senior payments research consultant with the
Federal Reserve Bank of Cleveland.

value, the circulating coins issued
by the Mint, and distribute new and
circulated coin to depository institutions to meet public demand.

“This is a common problem across
many countries: Their lowest denomination coins are not cost effective.
They’ve lost their commercial value
because of gradual inflation and
because of the cost of metals,”
Littman says.

In a statement submitted to the
Subcommittee on Monetary Policy
and Trade on June 11, 2014, Louise
Roseman, director of the Federal
Reserve Board’s Division of Reserve
Bank Operations and Payment
Systems, explained that changing
the metal content of pennies and
nickels, which could change the
weight and electronic signature of
the coins, could affect businesses
that use coin-accepting machines
or sorting equipment. Among
those that could be affected are the
vending industry, some commercial
banks, and armored carriers.

Some say we’ve reached a point
where pennies have lost their
circulating usefulness to Americans.
When was the last time, they ask,
that you paid for a loaf of bread with
a fistful of pennies?
The Royal Canadian Mint stopped
minting its penny in February 2012
and stopped distributing it a year
later.
Though the Federal Reserve does
not issue coins into circulation, nor
determine annual coin production
(that’s the Mint’s purview), the
Reserve Banks do influence the
process by providing the Mint with
monthly coin orders and a 12-month,
rolling coin-order forecast. The
Reserve Banks purchase, at face

Did you know?
Though the penny and nickel cost more to make than their face value, all coins’ total
unit costs dropped in fiscal year 2013 compared to the prior fiscal year.

2013
2012
2011

PENNY

NICKEL

DIME

QUARTER

1.83¢
2.00¢
2.41¢

9.41¢
10.09¢
11.18¢

4.56¢
4.99¢
5.65¢

10.50¢
11.30¢
11.14¢

Source: 2013 Annual Report, US Mint.

2

Fall 2014

As for the Fed, Roseman explained
that changing the metal content
of pennies and nickels would not
have a material adverse effect on the
Reserve Banks’ operations, but could
affect Reserve Bank coin terminal
operations because operators generally weigh incoming deposits.
— Michelle Park Lazette

Put to the Test
In its latest round of stress tests, the Federal Reserve assessed the capital
plans of the 30 largest banking firms in the country. Here’s what that means.

Since stress-testing began, capital
levels have climbed
Percent
12
10

Thirty of the nation’s largest bank
holding companies participated in
an intensive capital stress test earlier
this year.
Based on the review, the Federal
Reserve objected to the capital plans
submitted by five participants and
did not object to the plans for the
remaining 25 firms.* An objection
signals that weaknesses are noted in
the firm’s capital-planning processes,
particularly its ability to determine
the capital needed to withstand
severe economic conditions. Bank
holding companies receiving an
objection may pay cash dividends
or complete stock redemptions only
with prior Federal Reserve approval.
Under the annual stress test, known
as the Comprehensive Capital Analysis
and Review, participant firms are
required to report their capital stress
test results under projected baseline
(business as usual) and hypothetical,
stressed economic scenarios. The
Federal Reserve uses this information
to evaluate the capital adequacy of

each firm and also the strength of
their capital-planning processes. The
annual review is an integral part of
the Federal Reserve’s efforts to ensure
the financial resiliency of the nation’s
largest banking organizations.
“The Federal Reserve’s heightened
focus on capital planning at the
nation’s largest financial institutions
helps to ensure these important firms
have a thorough understanding
of their key risks and how capital
levels may be impacted under severe
economic conditions,” says Jeffery
Hirsch, a banking supervisor at the
Federal Reserve Bank of Cleveland
who worked as a co-deputy for one
of the national assessment teams
that support the annual review.
“The goal of forward-looking capital
planning is to ensure each firm’s
board of directors is well informed
when making important capital
decisions, such as setting capital
goals or authorizing stock dividends,”
Hirsch explains.

* See www.federalreserve.gov for the latest updates.

8
6
4
2
0

2009

2010

2011

2012

2013

Source: Board of Governors of the Federal Reserve System.

As an end goal, Hirsch says, the Fed
wants to make certain these firms
are well positioned to absorb losses
in good times and bad and are able
to maintain ready access to funding
(in the form of consumer deposits
and wholesale funds); meet the
obligations of their creditors and
counterparties; and continue to lend.
These are important roles played by
banks within the local and national
markets they serve.
“Ensuring effective capital planning,
including rigorous stress testing,
is a key component in the Federal
Reserve’s financial stability efforts,”
Hirsch says. ■
— Forefront Staff

F refront

3

The Prices We Pay
Many economists believe that inflation is poised to
rise. Here are four reasons why.

Michelle Park Lazette
Staff Writer

Today’s millennials may have little to no firsthand
recollection of a time when inflation reached double-digit
rates, but those who lived it might remember the year
Gerald Ford declared inflation “public enemy number one”
and the mass-produced “Whip Inflation Now” buttons
that followed.

4

Fall 2014

“Not only was inflation very much on the minds of ordinary consumers, but ordinary consumers started judging
the economy through the lens of inflation,” explains
Richard Curtin, director since 1976 of the Thomson
Reuters/University of Michigan Surveys of Consumers.
“If you talk to the consumer about the current economy,
they almost invariably bring up employment. In the late
’70s, they would invariably bring up inflation and how it
affected them.”
Today, the American public is much more preoccupied
with something else.
“The impact of the recession on a variety of things, including
employment, has kept the consumer focus on jobs and
wage growth more than inflation,” Curtin explains.
That may be, but the Federal Reserve Bank of Cleveland
remains concentrated on inflation, and for good reason. It
still matters in today’s environment, and arguably always will.
“Not only does price stability make the economy work
more efficiently because households and businesses don’t
have to worry about the value of their money … it also
promotes maximum employment, the other part of the
(Fed’s) dual mandate,” says new Cleveland Fed president
and CEO Loretta Mester. “The only entity that can deliver
on price stability is the central bank.”
Just this spring, the Cleveland Fed published an essay
in its annual report about why inflation is low and why
it matters. It also launched its Inflation Central website,
which offers a daily “nowcast,” or estimate of the current
rate, of inflation. This May, it also convened economists
and business people for its “Inflation, Monetary Policy,
and the Public” conference. A key takeaway? Keeping
an eye on inflation—both where it is today and where it
is headed—is critical to guiding sound policy decisions
and making sure Americans have confidence in the stability
of prices.
The reality is that even though inflation has moved up
from its very low 2013 levels, it remains low. In a press
conference following the Federal Open Market Committee
meeting in June, Federal Reserve Chair Janet Yellen noted
that inflation continues to run below the FOMC’s 2 percent
objective and that the FOMC remained mindful that
inflation running persistently lower could pose risks to
economic performance.

Recent evidence, Yellen added, suggested that inflation
is moving up toward that 2 percent objective, in line with
where the Committee expected inflation to be.
Like the FOMC, many economists expect inflation to
gradually rise in the near term to around that 2 percent
objective. Below, we break out some of the
main reasons why.

Workers’ wages
As many an economist
will tell you, wage
growth is highly
correlated with inflation.
Put simply, if businesses must
pay their workers higher wages
and workers’ salaries rise faster
than their productivity, the
increased wages cut into
firms’ profits. So what’s a
company likely to do?
Raise prices.

Mark Zandi, chief economist for Moody’s Analytics, is not
alone in predicting that wage growth will increase, and he
expects it to be a slow build.
“Labor costs are the most important costs for most businesses, particularly obviously on the service side of the
economy,” he says. “As the job market improves, as the
unemployment rate declines … we’re going to get to a
point, probably two and a half, three years down the road,
where the labor market will be tight enough so that workers
will be able to demand and get bigger pay increases.”

F refront

5

If inflation rises from around 2 percent to 3 percent, it may
not make a significant difference if it persists for a year or
two years. But if it’s a one-point difference for three, five,
even 10 years, people start to feel it.

Wage growth data has been somewhat of a mixed bag,
according to Edward S. Knotek II, vice president of
economic fore­casting at the Federal Reserve Bank of
Cleveland and co-author of its 2013 Annual Report essay
on why inflation has been very low.
“You’re seeing pretty modest wage growth,” he notes. “Some
of the data have a flat trajectory in wage compensation
pressures, but there are a couple that are starting to show
some increases. But again, they are still at low levels.”
Cleveland Fed economist Saeed Zaman notes that as the
economy improves, unemployment will decline further
and the potential for wage increases will likely grow.
“If, in my neighborhood, there were two households
looking for jobs before, they have jobs now,” he says of the
potential future. “More jobs just means they are going to
go buy more stuff, which they probably had cut off
because they were not getting income. Now they
have income to spend. Demand for products is
going to push prices up.”
If a manufacturer, for example, sees the demand for his
product triple, he’s able and likely to raise his prices,
Zaman explains.

6		
8 Fall 2014
2011

The cost of shelter
Zandi of Moody’s Analytics expects shelter costs, or rents,
to rise much more quickly going forward. Such an acceler­
ation in shelter costs will help push up inflation, too.
“We’re going from an environment in the bubble where
we had a surfeit of housing, just overbuilding everywhere,
to an environment where there’s just a real shortage of
housing,” says Zandi. “We have a lot of 20-somethings that
are graduating, going back into the workforce, and they’re
going to rent and they’re going to need a place to live.
“Most people spend 30, 35, 40 percent of their income
either on renting a place where they live or through the
cost of owning a home,” he adds. “So, if that cost is rising
quickly or more quickly, that’s a higher rate of inflation
cutting into their living standard.”

Overall, Zandi projects the inflation rate will accelerate
slowly, peaking close to 3 percent in 2017.
If inflation rises from around 2 percent to 3 percent, it may
not make a significant difference if it persists for a year or
two, he says. But if it’s a one-point difference for three, five,
even 10 years, people start to feel it.
That’s because if wages don’t rise in lockstep with inflation,
people’s purchasing power is diminished, Zandi says.

“I think if inflation remains in the ballpark of my forecast,
it’s not really going to matter a whole lot to people,” he
notes. “They’re going to be much more focused on, ‘Do I
have a job?’ and ‘If I have a job, am I getting a pay increase?’
If, though, inflation were to accelerate meaningfully
more—5 or 6 percent—then that’s a problem for people.
It really does cut into their purchasing power and into
their standard of living.”

Bet your bottom dollar:
Why inflation, and its trajectory, matter
“Inflation is kind of a signal of
how the economy is doing. When
you see inflation rates of around
1 percent, that might suggest that
the economy is not firing on all
cylinders. When you see inflation
get too high, that might mean the
economy is overheating. The goal
is to have inflation that’s not too
high and not too low.”
— Edward S. Knotek II, vice president
Federal Reserve Bank of Cleveland

“Generally people have kind of
forgotten about inflation as an issue.
You go back into the ’70s and the
early ’80s when inflation was raging,
that was on everyone’s top of mind.
People still worry about it, particularly
in the context of the prices for certain
things, like the price of gasoline, or
rent, or food. Generally, they’re not
really focused on it because inflation
has been low and relatively stable. I
think it’s important, though, for
people to remain focused on it
because there’s always the chance
that inflation could begin to accelerate more than anticipated. [It’s]
very likely inflation over the next five
years is going to be a lot higher than
inflation over the past five years.”
— Mark Zandi, chief economist
Moody’s Analytics

“If I were to ask you, ‘When you
retire 20 years from now, 30 years
from now, you’re going to be living
in a 2,000-square-foot home. Is that
a good-sized home?’ you could
answer immediately, ‘Yeah,’ because
you understand what that is. But if
I were to say, ‘20 years from now,
you’re going to be getting a retirement income of $30,000 a year. Is
that a good retirement income?’
now you’ve got to think harder. You
don’t know exactly what this thing
we call a dollar is going to be able to
purchase in that period of time.”
— Michael Bryan, vice president
and senior economist
Federal Reserve Bank of Atlanta

“Most households are forwardlooking. Their actions today are
based on what they think about the
future. If they think there’s going
to be more inflation one year from
now, that means things will be more
expensive, so they will accordingly
buy things now. On the other hand,
if they think inflation is going to be
low next year, they would postpone
some of their consumption. Inflation
affects their consumption behavior,
which affects the overall economy.
That’s why central banks would like
to maintain a stable inflation rate.”

“If your income is going up faster
than the inflation rate … you don’t
really have to cut back on things that
are more expensive, from eating
more expensive cuts of meat to less
expensive, buying store-brand rather
than name-brand. But when your
income is stagnant and inflation is
still rising, you have to make these
judgments almost every month.
And depending on your situation, you
may be subject to a higher inflation
rate than other households. You
may suffer some medical setbacks,
and you have to buy drugs that have
a higher inflation rate than other
goods; or you’re a young person and
trying to buy a home and find that
even these small increases in home
values can shut you off from the
home market.”
— Richard Curtin, director
Thomson Reuters/University of
Michigan Surveys of Consumers

— Saeed Zaman, economist
Federal Reserve Bank of Cleveland
F refront

7

Commodities are tightly linked to geopolitical factors,
are tightly linked to weather factors, are tightly linked to
things that are really out of our control.

Commodity prices
Commodities—examples are oil, copper, lumber, and
food—can and do swing up and down. They play a role
in inflation broadly and also in people’s perceptions.
“Commodities are tightly linked to geopolitical factors,
are tightly linked to weather factors, are tightly linked
to things that are really out of our control,” explains the
Cleveland Fed’s Knotek.
Said another way: It’s hard to predict in the short term
exactly what they will do.
Recently, there have been increases in the prices of food,
gas, and oil, Knotek notes. The general sense is that some
of that is short-term volatility, he adds, citing drought and
swine flu as examples of special factors that have driven
up food prices. Consider, too, the unrest in Iraq, which
unexpectedly helped push up the price of oil in the early
part of this summer.
Overall, Knotek expects inflation to gradually rise to
2 percent by the end of 2016. He notes an uptick since the
beginning of 2014, following a downward trend in inflation
that had persisted since late 2011 or early 2012, depending
on the measure one uses.
His anticipation of a slightly higher inflation
rate is also rooted in his belief that inflation
expectations will continue to be stable, and
that the economy will improve.
Speaking of commodities, the Cleveland
Fed’s Zaman notes the complex connections
between commodity prices, global economic
conditions, the value of the dollar, and the
inflation rate.

8		Fall 2014

For example, improvements in economic prospects
abroad tend to bid up the prices of commodities such as
oil and iron by increasing the demand for them, he says.
Meanwhile, movements in the value of the dollar are
another wild card in forecasting inflation, because they
can affect the prices of commodities and many of the
imported goods Americans purchase.
An unexpected surge in commodity prices could boost
inflation here in the US, which is a perennial possibility.
But Zaman expects that moderate increases in commodity
prices should help bring inflation back toward the FOMC’s
2 percent objective.

What we, the public, expect
According to the Thomson Reuters/University of
Michigan Surveys of Consumers in August, the year-ahead
inflation expectation was 3.2 percent.
“Change in prices is something that people confront every
day, and it’s really a good part of their economic lives, and
they are quite aware of inflationary trends,” Curtin says.
“I think that’s somewhat surprising to observers of the
national economy: Each consumer has their own inflation
expectation, and when you combine it, aggregate it across all
households, that’s where you get the accurate predictions.”
Economists pay a lot of attention to inflation expectations.
Many surveys suggest that people believe the recent, very
low inflation readings to be temporary. The expectation
that inflation will rise will help raise actual inflation.
“Today’s inflation rate depends a lot on what you expect
inflation to be in the future,” the Cleveland Fed’s Knotek
says. “We spend a lot of time thinking and looking at what
people expect inflation to be.
“If all workers believed that prices would start to rise, they
might say, ‘I need to be paid more to compensate for that,’
which then would lead to higher wages, and firms might
increase prices,” Knotek explains.

Each consumer has their own inflation expectation, and
when you combine it, aggregate it across all households,
that’s where you get the accurate predictions.

The same is true of people who own businesses or firms.
“If I expect the prices of coal and iron ore to rise because
my inflation expectations have risen, I’m going to try to
pass those [increases] along,” Knotek says.
People’s short-term inflation expectations are very sensitive
to movements in oil prices, he adds.
“It’s well known that movements in oil and gas prices
impact how we think about inflation,” Knotek says.
Of course, forecasting is uncertain. It is trying to predict
the future, after all. Knotek puts it this way: “At the end
of the day, there are inherent limits to the knowability of
the future, especially when little events can happen that
have big consequences in some markets and big impacts
on prices.” ■

On the reel
Forefront hits the streets of Cleveland to ask people which direction they
expect inflation to go. Plus economists and business people explain why
this unusual environment is exactly the time to pay keen attention to
inflation. Watch now: www.clevelandfed.org/forefront
Read more
Find daily inflation nowcasts and more on the Cleveland Fed’s Inflation
Central website: www.clevelandfed.org/inflation-central
Tweet us
Is inflation on your radar now? Why or why not?
Tweet us @ClevelandFed. Use the hashtag: #inflationcentral

F refront

9

P licy Watch

Zombie Properties
Michelle Park Lazette
Staff Writer

Many familiar with the foreclosure process have argued
for some time that there’s a need for speed—particularly
when what’s foreclosed on is vacant property that may sap
neighbors’ property values and be exploited by criminals.
This April, one fast-track option took another step forward
when the Ohio House of Representatives unanimously
passed a bill.
It remains to be seen, however, whether Amended Substitute House Bill 223, which authorizes municipal corporations
to file for summary foreclosure on vacant and abandoned
residential properties, will make it through the Ohio Senate
before December 31, the end of the 130th General Assembly.
If it does not, legislators would need to reintroduce the bill
in 2015 for consideration in both the House and Senate.
Neither the bill nor the Cleveland Fed’s attention to vacant
foreclosures—so called zombie properties— is new.

Vacant, foreclosed properties cost creditors tens
of millions of dollars, draw crime to neighborhoods,
and drain municipalities. Can a fast-track process
earn approval—and can it help?

The initial bill was introduced in June 2013, a month after
the Cleveland Fed released a white paper titled “Policy
Considerations for Improving Ohio’s Housing Markets,”
which suggested implementing a fast-track foreclosure for
vacant and abandoned properties.
As Forefront went to press, the bill was pending in the
Senate Finance Committee.
In March, Cleveland Fed researchers found that in 2013,
the fast-tracking of vacant foreclosures could have
saved creditors $24 million to $129 million in Ohio and
$24.3 million to $54 million in Pennsylvania. In both states,
courts handle foreclosures.
That same month, the issue took center stage during a
one-day seminar called “Getting Back in Gear: Better Ways
to Move Stalled and Vacant Foreclosures Forward” at the
Federal Reserve Bank of Cleveland.
Roughly 125 people, including community leaders, lenders
and servicers, and foreclosure attorneys attended, and the
Cleveland Fed streamed the conference to an additional
120 people in 11 states and Canada. Speaking at the
start of the seminar, Paul Kaboth noted an anomaly in
foreclosure numbers.
“The number of homes and loans entering foreclosures is down,” said Kaboth, vice president of
community development at the Cleveland Fed.
“They’re still elevated, but the numbers have
declined. Yet, the time that loans and homes
stay in foreclosure has increased.

10

Fall 2014

“We just don’t understand why this is the case,” he continued.
“There could be a variety of reasons.”
It could be that loan modifications have not been effective,
or have sometimes been introduced into futile situations,
he told the crowd. In some such situations, borrowers
couldn’t afford the modified mortgage payments, period;
in others, they could initially, but later couldn’t because of
subsequent shocks, such as job loss.
Also, he asked, where are the bottlenecks in the judicial
foreclosure process?
“We ask ourselves these questions, but it’s really hard to
get around the answer,” Kaboth added. “And then finally—
and really the impetus for today’s session—is: Are there
more productive ways that we can address this foreclosure
issue and this delay? It’s a problem for everyone.”
Just ask Benjamin Brown with the building department of
Warrensville Heights, Ohio, who shared his perspective at
the “Getting Back in Gear” event.
“One of the biggest problems we have, and one of the most
frustrating problems we have, is the properties that have
been charged off on and they’re vacant,” he explained.
“So now we have a property that’s sitting dilapidated; we
can’t establish contact with the owner; and we just have a
property that’s sitting in limbo.”
In one recent case, a vacant condo began developing mold
that affected adjoining units, Brown said, so the city had to
step in, tear out drywall, and replace the roof.
When it comes to properties in foreclosure, it takes an
average of one to two years for mortgage loans to go from
delinquency through the foreclosure process in Ohio,
according to the Cleveland Fed’s May 2013 white paper.
And this appears a widely accepted truth among creditors,
municipal leaders, and researchers: The longer properties
sit vacant, the more collateral damage they inflict.
There’s the carrying cost to creditors, which includes
ongoing maintenance, code-violation citations, repairs, and
taxes for properties that sit in creditors’ real-estate-owned,
or REO, portfolios. (That’s industry-speak for foreclosed
property owned by institutions.)
Nationally, creditors’ carrying costs are estimated at
between $25 and $100 a day, though conversations with
loan servicers working in Ohio and Pennsylvania suggest
costs closer to $50 to $100 a day, according to the Cleveland
Fed’s Tom Fitzpatrick, assistant vice president for credit risk
management, and Kyle Fee, economic analyst.

But the costs to creditors don’t tell the whole story; for many,
the greatest benefit of fast-tracking vacant foreclosures is
what it spares neighborhoods and municipalities.
“We measured the cost to creditors because that’s what
we can do,” Fitzpatrick explains. “The cost to communities
and municipalities is likely much larger.”
Those costs, which are harder to measure with any specificity, include the drag of foreclosed, empty houses on
neighboring property values and the crime introduced by
those who capitalize on abandoned properties to steal or
to conduct illicit business.
“The societal cost of these zombie properties is enormous,”
says Rep. Mike Curtin (D-Columbus), who introduced
House Bill 223 with Rep. Cheryl Grossman (R-Grove City).
Even if fast-tracking foreclosures gets the Senate’s blessing
and Ohio joins the other states that allow it, Fitzpatrick
stresses that the features of whatever process is created
are what counts. In some states where fast-tracking already
exists, practitioners aren’t actually using it because they
don’t find it to be pragmatic.
“It appears if this is done effectively and in a way that gets
everybody’s voice heard at the table, there are some real
benefits to be gained,” Fitzpatrick says.
Through efforts like the “Getting Back in Gear” event, the
Community Development function of the Federal Reserve is
working to bring those voices to the collective table, and is
positioned to do so through its mission and its relationships
with a broad array of stakeholders. ■

On the reel
There was some heated disagreement at the Cleveland Fed’s seminar,
“Getting Back in Gear: Better Ways to Move Stalled and Vacant Foreclosures Forward,” in March. We ask the Cleveland Fed’s Tom Fitzpatrick
to explain why emotions ran high, and where most groups’ interests tend
to align. Watch now: www.clevelandfed.org/ff /ZombieProperties/
Did you know?
Sometimes, nobody—not even a lienholder, such as a bank—wants to
take possession of an abandoned property. Read “The Face of a Policy
Issue.” http://tinyurl.com/qzo3y2x
Tweet us
How do you see the challenge of vacant foreclosures abating or
continuing to impact your community? Tweet us @ClevelandFed.
Use the hashtag: #zombieproperties

F refront

11

H t Topic
Running out of Options?
One Outlook for the
Long-Term Unemployed
The long-term unemployed are people who have been jobless for 27 weeks or more, as defined by
the Bureau of Labor Statistics. There were 3.2 million long-term unemployed Americans as of July,
or 33 percent of the total of 9.7 million unemployed. Over the past year, the number of long-term
unemployed has declined by more than a million people, but stories of hardship still abound. Loss
of housing, retirement savings, healthcare, and more are all fears or, worse, realities. To learn more
about the realities and the outlook for these people, Forefront talked with the Cleveland Fed’s
Bruce Fallick, an expert in labor markets and displaced workers.

Forefront: Why are so many people still
unemployed, and for so long?
Fallick: As I see it, the main thing is

that the macroeconomy is not yet
fully recovered; there are simply not
as many jobs available as our workforce needs. During the recession,
the unemployment rate peaked at
10 percent, which is very high, and
has come down painfully slowly.
There may also be some structural
problems, such as a mismatch of skills
and demand, but I don’t think that’s
the main problem at this point. For
one thing, long-term unemployment
remains elevated pretty much across
the board: across age groups, industries, and education levels.

12

Fall 2014

Forefront: It’s generally agreed that
the longer someone is unemployed, the
harder it becomes for them to find a job.
Why do you think this is?

Forefront: What is your outlook for the
long-term unemployed? Do you see
hope for these people?

Fallick: All else equal, employers do

term unemployment has not remained
a major problem once the overall
economy has recovered from a recession. So I’m hopeful that the skills of
the long-term unemployed have not
been seriously compromised and that,
as the macroeconomy recovers more
fully, employers will start hiring more
of them.

seem to prefer people who are currently employed or who have been
unemployed for a shorter duration.
I think this is partly because they can’t
know why someone has been out of
work for so long. For instance, have
you been out of a job for months or
years because you’re an unproductive
worker—or because of the luck of the
draw? Some employers prefer not to
take a chance.
There are analysts who think that being
unemployed for a long time hurts
your skills. I personally don’t believe
that happens often. It doesn’t make
you a worse worker because you’ve
been out of work. But some employers
believe it does, and that is another
reason why they might choose not
to hire someone who has been
unemployed for a while.

Fallick: Historically, in the US, long-

But we’ve never before seen such high
numbers of long-term unemployment
—or such long durations among the
long-term unemployed—in the postwar period, so things could be different
this time.

Forefront: In her June 2014 press conference, Federal Reserve Chair Janet Yellen
said that while she expects both the
long-term unemployed and discouraged
workers who are out of the labor force
to be drawn back in again eventually,
“it is conceivable that there is some
permanent damage, to them, to their
own well-being, their families’ well-being,
and the economy’s potential.” How
would you respond to this?
Fallick: The longer you’re unemployed,

the more options you run out of. You
can run down your savings. Go into
debt. Lose your housing. And that’s
not just homeowners. There is a lot of
conversation about people losing the
homes they own, but another conversation we should be having more often
is about renters who can no longer
afford their rent. The damage to the
economy’s potential comes if the longterm unemployed find themselves
permanently shut out of the labor
force.

Forefront: Where do you think the
government should focus its efforts when
it comes to helping out unemployed
Americans?
Fallick: I think the main focus should

be on steps that will improve the
health of the economy generally.
That includes steps that may not be
obviously connected to unemployment,
like tending to the country’s fiscal
health and investing in infrastructure.
Getting the macroeconomy into
better shape is really what’s going to
help unemployed Americans the most.

Forefront: What about in the short term?
There has been a lot of debate over how
long unemployment compensation should
last.
Fallick: One thing I do suspect has

helped many unemployed persons is
Medicaid expansion. The expansion
(technically called “Increasing Access
to Affordable Care”) ended the exclusion of low-income, childless adults
from Medicaid coverage, and while
we don’t have data yet on how many
unemployed workers have benefitted,
the numbers overall are pretty compelling [see box below]. Not all states

have supported the coverage though.
As of June, only 25 states have decided
to move forward with the expansion.
Forefront: What can the Federal Reserve
do to help guide policymakers’ decisions?
Are there knowledge gaps that you can
fill? Research you can conduct?
Fallick: Yes, and we are. There is a lot of

research being done around the Federal
Reserve System pertaining to the
causes and consequences of long-term
unemployment. Here at the Cleveland
Fed, we’re doing research on outcomes
for displaced workers, the impact of
plant closings, workforce development,
and mortgage foreclosures, among
other topics. For example, we are
collaborating with the Ohio Housing
Finance Agency to evaluate a federal
program that provides mortgage
payment assistance to unemployed
homeowners. The goal is to estimate
the impact of this temporary mortgage
assistance on the re-employment of
program participants and subsequent
housing stability. And, of course, we’re
conducting a lot of research on a
macroeconomic level. ■
— Amy Koehnen

More on Medicaid
How many unemployed people have signed up for
Medicaid following its expansion in more than two dozen
states? It’s hard to say, given the data available. However,
it’s clear that more people, period, are signing up.
The state of Ohio, which expanded the threshold for
Medicaid as of January 1, expected that 366,000 people
who had previously been ineligible for healthcare through
the program would sign up by July 1, 2015.
By the end of July 2014, however, the state was already
nearly there, with 338,707 newly eligible people signed up,
according to the Ohio Department of Medicaid. The state
did not have data about how many of those who’ve signed
up are unemployed.

More broadly, a recent report from the Centers for
Medicare and Medicaid Services reveals that the 25 states
that had implemented the Medicaid expansion by June 2014
saw an increase of more than 18.5 percent in enrollments
in Medicaid and the Children’s Health Insurance Program
for June 2014, compared to their average monthly enrollment in a July–September 2013 baseline period.
And states that had not implemented the Medicaid
expansion by June 2014? They reported an increase of
approximately 4 percent over the same baseline period.
— Michelle Park Lazette

F refront

13

Getting Our House in Order
US households are saving less and borrowing
more than they did right after the Great Recession.
But economists and others say balance sheets
have improved, and that’s good news for entire
communities.

14

Fall 2014

Michelle Park Lazette
Staff Writer

Many Americans continue to try to save more money than
they did before the economic downturn, and they have less
debt, too. Whether they’re still saving and deleveraging as
much as they did during and immediately following the
maelstrom is another story.
Here’s what has happened: American households—
scared and reeling from the Great Recession—socked
away more and deleveraged, or paid down debts.
The personal savings rate, measured as the share of
disposable income that people save, rose to 6.7 percent in
June 2009 (the official end of the recession)—more than
double its 3 percent in December 2007 (the beginning of
the greatest downturn since the Great Depression).
Decades ago, in July 1975, the savings rate topped
12 percent.
“During a period, mid-1980s through about 2007 or so,
while savings were declining, our use of credit skyrocketed,”
explains LaVaughn M. Henry, vice president and senior
regional officer for the Federal Reserve Bank of Cleveland.
“Basically, we became a nation of dis-savers. It was easier
to expand our credit lines than it was to cut back on
consumption.”
What resulted was trillions and trillions of dollars in
household debt and a collapse of savings.
Following the recession, though, households curbed their
borrowing sharply. Lenders contributed to the deleveraging,
too, by tightening credit standards —which blocked some
from borrowing even if they wanted to —and by charging
off bad loans.
Specifically, from the third quarter of 2008 through the
second quarter of 2013, total household debt, which
includes mortgages, credit card balances, student loans,
and auto and other debts, fell for 17 of 19 quarters.

Now, nearly six years later, here’s what is happening:
Debt is rising again. Total household debt has increased for
the past three quarters, reaching $11.7 trillion, according
to research published on July 1 by the Cleveland Fed’s
Emre Ergungor, assistant vice president and economist,
and Daniel Kolliner, research analyst. That $11.7 trillion
figure remains 7.9 percent lower than household debt’s
peak of $12.7 trillion in the third quarter of 2008.
Total balance of accounts is rising: Deleveraging is over
Billions of dollars
1500

Trillions of dollars
10

1200

8
6

Mortgages
(left axis)

Auto loans
(right axis)

4

900
Student loans
(right axis)

2
0

2000

2005

Bank card
accounts
(right axis)

600
300
0

2010

Note: Shaded bars indicate recessions.
Source: Federal Reserve Bank of New York’s Consumer Credit Panel/Equifax.

And while the savings rate actually rose from 4.1 percent
in December 2013 to 5.7 percent this July, it’s down from
its December 2012 peak of the past decade of 10.5 percent,
according to the Federal Reserve Bank of St. Louis.
While low interest rates may de-motivate people from
squirreling away their money for marginal profits, the
rates are not likely the primary driver of the recent decline
in savings, Henry asserts. If low rates were the driver, then
savings rates should have declined, not increased, during
the recession, when rates were at historic lows.
Does our saving less than we did right after the recession
indicate the American public didn’t learn from the recession?
No, Henry says.

F refront

15

“Income levels have been very stagnant in this country
for at least the last 10 to 15 years; nonetheless, the cost of
living continues to rise,” he says. “But yet, we’re still saving
a greater percentage (than before the recession). What that
implies to me is that we have learned.”

Striking a balance
Consider, for one, the household debt service ratio, which
is tracked by the Federal Reserve Board, Henry says. The
ratio of total required household debt payments to total
disposable income had climbed to 13.18 percent by the
fourth quarter of 2007. In the first quarter of this year, it
registered 9.94 percent.

Whether debt continues to climb as it has in recent
quarters depends on another balance—between supply
and demand—says the Cleveland Fed’s Ergungor. If
consumers are to borrow, they need willing lenders; they
also need to believe their income growth will bear the cost
of whatever debt they might assume. In the case of home
equity loans and lines of credit, they need home equity, too,
which dropped significantly during the foreclosure crisis.
On the lender, or supply, side, it’s a question of how much
income growth lenders expect in the future and how much
lenders believe households can sustain. There’s also the
changing regulatory cost of lending, Ergungor explains.

The personal savings rate spiked in 2012
and has dropped since
Percent
10
8

By most accounts, household deleveraging seems to be
over, say Ergungor and Kolliner, pointing to how auto and
student loan lending have been strong throughout the
recovery and the way mortgage lending is beginning to
turn the corner.

6
4
2
0

“We also have to recognize that while we want to promote
saving, there is a cost in the short term,” Henry notes. “More
saving means lower consumption, and lower consumption
means slower economic growth. It’s a fine balance.”

2007

“When was the last time we saw 9.94 percent since 1980?
Never,” Henry reveals. “That’s the lowest it’s been since
this ratio started to be measured in 1980.

But when they calculate the same data in inflation-adjusted
terms (paying like it’s 1999), they find that mortgage
balances, which in nominal terms are up to their 2007
level and increasing, are still flat at their 2005 level. And
while recent growth in auto loan balances looks strong in
nominal terms, the balances still lurk below their pre-crisis
peak in real terms.

“My point is, the ability of households to support debt
service is much better now than it’s been in 30 years,”
Henry adds. “We have gotten, and continue to get, our
personal financial houses in order. We’re saving more with
an eye toward increasing our consumption for the long
run, while not burdening ourselves with substantial debt
in the short run.

While some studies show a reduction in household debt,
executives with Neighborhood Housing Services of
Greater Cleveland, which provides programs and services
to help people achieve and sustain homeownership, see
alarming levels of student loan debt and unsecured debts
such as payday loans, says David Rothstein, director of
resource development and public affairs.

2008

2009

2010

2011

2012

2013

2014

Source: Federal Reserve Bank of St. Louis.

Nominal interest rate: Interest rate, before taking inflation into account.
Put another way, nominal interest rate = real interest rate + inflation rate.
Real interest rate: Interest rate that has been adjusted to remove the
effects of inflation to reflect the real cost of funds to a borrower and the
real yield to a lender.

16

Fall 2014

“From what I can gather from our clients, both qualitatively
and quantitatively, our clients’ wages are down,” says
Rothstein.
“Wages are down and benefits are less—healthcare and
retirement,” he adds. “What that tells us is it’s going to be
harder for families to get by when the main income coming
into them is less than it was before. (And) it seems to me
that there are a lot of things that have not gone down in
price. So, when your wages are down, and the other costs
have gone up since the recession, it makes budgeting very
challenging.”
In fact, 24 percent of Americans have no emergency savings
at all, according to the Financial Security Index poll for
June by Bankrate, a leading aggregator of financial rate
information.

More plain vanilla, please
Why should those who can save and can borrow care
that others cannot? Sources say the potential fallout of
the inability of others to save and borrow is not limited
to single households, but instead can pervade entire
communities.
Indeed, that very fact is one takeaway of the housing crisis,
says NHS of Greater Cleveland’s Rothstein.
“One thing we quickly learned from the (foreclosure) crisis:
Your neighbor’s pocketbook can really impact the entire
block,” he says. “If that house goes into foreclosure, it
makes it harder for you to sell, makes it harder for you to
get cash out of your house.

24 percent of Americans have no emergency savings at all.

“The same thing applies to savings,” Rothstein adds.
“If people’s ability to fully participate in the economy is
inhibited by a bad balance sheet, that’s going to impact the
community and the broader economy.”
All of us are subject to income shocks, notes the Cleveland
Fed’s Ergungor.
“You may lose your job, your significant other may lose
his or her job,” he says. “Credit is one way to smooth
consumption, or savings is one way to smooth consumption,
so you don’t lose your quality of life for a short duration
of unemployment.
“You want people to be able to live through a short episode
of unemployment without neglecting their houses, or, in
the extreme, without being forced to vacate their property,”
Ergungor adds.
Some say there is more to be done to bolster household
balance sheets. The Cleveland Fed’s Henry believes the
Fed can work to further spread financial literacy so more
people understand how to save and why it’s important.
Rothstein’s recommendations begin with increasing
people’s access to “more plain vanilla savings accounts”
so that it’s easier to open and maintain one. (NHS execs
have noticed a decline in the number of banks that offer
stand-alone savings accounts, he says.) He also advocates
a less arduous process for buying savings bonds. ■

On the reel
The numbers say that households are borrowing more than they did
after the Great Recession. But everyday Americans told us a different
story. Watch Forefront’s latest Man on the Street video:
www.clevelandfed.org/ff /HouseInOrder

Tweet us
From your perspective, what are ways to strengthen household balance
sheets? Do you have best practices that have worked for your own
finances? Tweet us @ClevelandFed. Use the hashtag: #householdfinance

F refront

17

Municipal Bankruptcy’s
Tug-of-War
When a municipality files for bankruptcy under Chapter 9 of the US Bankruptcy Code,
questions abound: How does federal bankruptcy law intersect with state laws?
And are modifications to pensions permitted to allow a city to make a fresh start?

Laura A. James
Attorney

18

Fall 2014

The often-misunderstood process and unpredictable outcomes of municipal bankruptcy cases create uncertainty
for all involved. But as more municipalities are faced with
increasingly higher unfunded public-pension liabilities,
taxpayers, public sector employees, and retirees should
be concerned about which law—state or federal—rules
in bankruptcy court and how court rulings may set legal
precedents for who gets paid, how much, and when.
Here at the Cleveland Fed, we’re interested, too. Conceived
in 2011, the Public Pension and State and Local Government Financial Monitoring Team, or Muni FMT, has
been following developments in municipal finance. Our
goal: a better understanding of how issues of state and
local government finance might affect not only municipal
bond investors and public sector employees and retirees,
but also the stability of the broader financial system.
At the center of the current debate on municipal bankruptcies is how federal bankruptcy law supersedes state law.
Two recent high-profile cases—in Stockton, California,
and Detroit, Michigan—have shed light on whether certain
pension obligations protected by a state’s constitution can

be modified through Chapter 9 bankruptcy. Though there
is no final determination as to how pension obligations
will be treated in specific municipal bankruptcies, if the
initial outcomes of these cases are any indication, federal
law allowing for the impairment of pensions may prevail.

The law of the land
The 10th Amendment to the US Constitution reserves
certain powers to the states, but this autonomy is moderated by two clauses in the Constitution. The Supremacy
Clause dictates that federal law is the supreme law of the
land, notwithstanding state laws to the contrary, while the
Uniformity Clause authorizes Congress to enact uniform
bankruptcy laws.
It seems that the combined power of the Supremacy and
Uniformity clauses would leave little room for conflict
over bankruptcy matters. Not surprisingly, several court
cases have concluded that when a state law conflicts with
federal bankruptcy law, the state law is preempted.

For example, in County of Orange v. Merrill Lynch & Co.,
the court settled a dispute as to whether a California
statute was applicable in the county’s bankruptcy case,
despite the fact that it contradicted federal bankruptcy
law. The state statute attempted to create a special class of
creditors who would receive priority, which was in direct
conflict with the priority scheme set forth in federal bankruptcy law. The court held that to the extent the California
statute conflicted with the priority scheme set forth in
federal law, it was preempted.

The law of the state
Despite the fact that the Supremacy Clause and the
Uniformity Clause seemingly prevent states from creating
their own creditor-priority schemes in relation to municipal
bankruptcy, the Supreme Court has held that federal law
does not preempt all state laws in other contexts. For
example, state environmental laws, foreclosure laws, and
bona fide purchaser statutes have been held not to be
preempted by
federal law.

Within the Chapter 9
bankruptcy context, there
is at least one example of
a state law that purports to
trump federal law. In July 2011,
the Rhode Island state legislature
passed a law giving priority to general
obligation bondholders in a Chapter 9 bankruptcy.
In the subsequent bankruptcy of Rhode Island’s
Central Falls, pensions were reduced by approximately
55 percent, while general-obligation bondholders received
100 percent of what was owed. The constitutionality of
this law remains to be seen as a lawsuit challenging the law
is pending in Rhode Island.

F refront

19

The judge overseeing the Stockton bankruptcy has made
his view clear—federal bankruptcy law trumps state law.
Judge Christopher Klein’s comments in the Stockton bankruptcy makes it evident that he could impair CalPERS’s
contract rights and is unconvinced that California state law
protects public pensions over the claims of other creditors.
An October 2014 date has been set for Judge Klein to
hear arguments over the legal status of CalPERS’s claim.

The Stockton Bankruptcy
Stockton filed for bankruptcy in the spring of 2012. The
bankruptcy judge ruled that Stockton was eligible to file
for bankruptcy, over the objection of the city’s largest
creditor, the California Public Employees’ Retirement
System (CalPERS). CalPERS challenged the filing despite
the fact that Stockton was not proposing to impair pensions
and vowed to keep making its required payments to
CalPERS. California state law requires members of
CalPERS to make regular payments to the pension fund;
federal bankruptcy law arguably allows municipalities to
renegotiate their contracts to reduce pension obligations.

Even if it is determined that Stockton is legally allowed
to impair its pension obligations to CalPERS despite the
California constitutional protections, city officials will be
forced to consider whether Stockton will impair pensions
in its final plan of adjustment. Although Judge Klein has
openly stated that the city could impair pensions, Stockton
has proposed a final plan of adjustment that does not
include any cuts to pensions. Currently, Stockton is in the
midst of a legal battle over an objection from a bondholder
that would recover only 1 percent of what it is owed, while
pensioners would get 100 percent. Thus, at this time, it is
unclear whether or not the court will be forced to address
the issue squarely.

Stockton
Lessons learned from Stockton and Detroit

What’s at stake

The Chapter 9 bankruptcy filings of Stockton, California,
and Detroit, Michigan, continue to shed light on how the
10th Amendment, Supremacy Clause, and Uniformity
Clause (and other state-specific laws and state constitutions)
can affect both a municipality’s eligibility for bankruptcy
and the order in which creditors are paid.

In all bankruptcy cases, whether or not vested public
pension benefits are impaired, some creditors “win” and
some creditors “lose.” On the one hand, while the plight
of pensioners usually makes headlines, most municipal
bonds are held by individual investors, many of whom
hold them as part of their retirement planning. In fact, US
households hold $1.6 trillion, or 44 percent, of the nearly
$3.7 trillion in outstanding municipal bonds. Mutual funds
hold an additional $1 trillion, or 27 percent, of these bonds.
On the other hand, public employees were promised
these benefits and may have accepted lower salaries
during their careers or saved less for retirement in private
accounts based upon those promises. Moreover, there is
no universal pension insurance scheme for public pensions,
as there is for private pensions, and many public employees
are not eligible for social security.

Several creditors, in fact, have relied upon the 10th
Amendment to contest the eligibility of these cities to
file Chapter 9 bankruptcy. Regarding the order in which
creditors are paid: On the one hand, those who oversee
pension funds argue that there are state constitutional
protections preventing cities from impairing pensions.
On the other hand, bondholders argue that federal
bankruptcy law should trump various state constitutional
provisions that protect pensions from being reduced, so
that the priority-of-payment scheme set forth in federal
law would apply uniformly.

20

Fall 2014

The Detroit Bankruptcy
Detroit’s experience is similar to Stockton’s. Before Detroit
filed for bankruptcy, several state-court lawsuits were filed
by Detroit’s creditors to prevent the city from even being
able to file for bankruptcy protection. Detroit’s pension
funds relied upon a state constitutional provision that
prohibits pensions from being impaired, arguing that the
mere filing for bankruptcy protection allowed for the
potential for pensions to be impaired.

The federal bankruptcy court determined that Detroit was
in fact eligible for bankruptcy. With this ruling, creditors’
arguments that relied on the state constitutional provision
which they claimed made pensions impervious—incapable
of ever being reduced—were rejected. Similar to Judge
Klein’s comments in the Stockton bankruptcy case,
Judge Steven Rhodes in Detroit stated that bankruptcy
is the business of impairing contract rights. The judge
went so far as to comment in his eligibility ruling that the
bankruptcy court had the power to impair public pension
benefits.
Detroit’s emergency manager submitted a plan of adjustment that was approved in July by a majority of the city’s
creditors, including pensioners. The final plan of adjustment
provides for comparatively small cuts to pensions so
long as pensioners vote in favor of the plan. The city is
also working to finalize agreements with public sector
employees that will result in some reductions in pension
and healthcare benefits, but whether the judge approves
the reductions will be determined when the bankruptcy
trial that is scheduled to begin in September concludes.

Detroit

The choices municipalities make with their money may
have an even further reach than individual pensioners or
investors; a municipality’s ability to continue providing the
basic services could also be at risk. While the obligations
a municipality has to its residents and tax base do not
disappear with a Chapter 9 bankruptcy filing, if the
municipal entity is overly burdened repaying prior obligations, it may simply be unable to provide basic services.
This could lead to further erosion of its tax base, continuing
a downward spiral.

Despite unanswered questions about how Chapter 9
bankruptcies will play out in the courts, municipalities
that are faced with dire financial conditions have the
chance to get a fresh start—to readjust debts in order
to provide for residents and obtain long-term financial
stability. ■

On the reel
Pension obligations could drain money for municipal services, such as
fire, police, and education, according to several experts who spoke at
the Cleveland Fed’s 2013 conference, “Public Pension Underfunding:
Closing the Gaps.” One speaker even says broader economic growth
could be squeezed: www.clevelandfed.org/ff /MuniBankruptcy/

F refront

21

Deep Wells,
Deep Pockets, and
Deep Impact
The shale gas industry brings both costs and benefits
to the communities it pervades. But thought must be
given, and plans should be laid, for when the industry
leaves town.

Matt Klesta
Research Analyst

Imagine:

You live in a small rural
community. Its once-thriving main street is
now pockmarked with deserted storefronts.
Its population, steadily dwindling. Its factories, shuttered by manufacturing’s
decline. These problems, badly exacerbated by the Great Recession, have left
your town reeling from high unemployment and shrinking tax revenues.
Now imagine that an industry with deep pockets walks in, promising to
create jobs, replenish city coffers, and build wealth in your region.
If this sounds too good to be true, it’s because it just might be.

22

Fall 2014

These promises—coming from the oil and gas industry—have a price. In exchange for jobs, tax revenue, and wealth
creation, the community must cope with costs like increased traffic, the potential for more expensive housing, and
the risk of environmental degradation; combined, they can change the dynamics of the community.

What’s to be done?
Communities across the country increasingly face this
dilemma as the oil and gas industry, using new technology,
has been aggressively pursuing previously unrecoverable
deposits and igniting a boom in shale gas. This has been
especially true in parts of the region the Cleveland Fed
serves. Ohio, Pennsylvania, and West Virginia—each
state can claim communities at various stages of the
extraction process. The breakneck speed at which this
development occurs makes it all the more important for a
community to consider the long-run implications before
drilling begins.

Immediate impact
Drilling for oil and gas is not necessarily new to Ohio,
Pennsylvania, and West Virginia, where thousands of
conventional wells have been drilled since the mid-1800s.
What is new is that the rate of drilling and volume of production have increased dramatically since unconventional
drilling began a few years back (see figure 1). For example,
a conventional vertical well produces around 250 cubic
feet of natural gas per day. A hydraulically fractured well,
though exponentially more expensive, produces four to
five million cubic feet per day.
Costs. Although increased production is a boon for the
oil and gas industry, it subjects communities to more
concentrated, intense drilling than ever before. For example,
a shale gas well typically requires hundreds of trucks to
ferry water, sand, pipe, and other supplies back and forth.
This traffic rapidly degrades roads and bridges, congests
streets, and increases the risk of accidents.
Often, outside of states such as Texas and Oklahoma,
which have historically been centers of oil and gas drilling
expertise, a region’s workforce lacks the skills the industry
requires. Out-of state workers must be imported, filling
hotels, campgrounds, and the few available rental units. In
rural communities, the increased demand for scarce rentals
may raise rents, pricing current residents out of the market.

In addition, nearby residents may experience noise, light,
air, and water pollution: Drilling occurs around the clock,
exposing communities to the din of diesel compressors and
intensified light at night. In certain circumstances, natural
gas may be flared off and burned, and large amounts of the
water, sand, and chemical mixture used in the hydraulic
fracturing process may eventually be stored on-site in large
retention ponds with the potential to leak.
Figure 1: Natural gas production has exploded in recent years,
especially in Pennsylvania
Annual production per well in millions of cubic feet
45
40
35
30
25
20
15

Ohio

Pennsylvania

West Virginia

10
5
0
2007

2008

2009

2010

2011

2012

Note: Includes production from both conventional and unconventional wells.
Source: US Energy Information Association.

Benefits. The increased production can also be a boon for
some community residents. The terms for leasing mineral
rights typically include a signing bonus and a royalty
percentage awarded to landowners, based on the volume
of oil and gas recovered on the property. According to
a case study of Carroll County by Policy Matters Ohio,
signing bonuses could be up to $5,800 per acre and royalty
payments to at least 12.5 percent. Landowners, some of
whom became millionaires overnight, are paying off mortgages and buying farm equipment and other durable goods.

F refront

23

Figure 2: Growth in sales tax revenue in Ohio shale counties
easily surpasses the rest of the state
Percent change
20
15

Shale counties

Rest of state

What can a community do?

10
5
0
–5

2009

2010

2011

2012

2013

Source: Ohio Department of Taxation.

The influx of workers from outside the region fills local
restaurants and hotels and can create new businesses or
enable existing ones to expand. This beefed-up purchasing
can bolster sales tax revenues, and the leasing of land by
cities and school districts can ease tight budgets. Figure 2
shows the change in sales tax revenue for the eight Ohio
counties where most of the state’s drilling occurs, compared
with the rest of Ohio. Even though the eight counties
accounted for only 3.8 percent of the state’s total revenue
in 2013, that share was 0.6 percentage points larger than
four years earlier and has been increasing at a faster rate
since 2012.

Longer-term implications
Two specific issues have the potential to jolt a community
in the long run: the boom–bust cycle and what is known
as the natural resource curse. Because the supply of shale
is finite, it tends to create a boom‒bust cycle with three
stages: First, a flurry of activity as drilling begins and infrastructure is built. Next, a period of slower development
as drilling slows while production plateaus and enters a
maintenance period. And finally, the bust, when production stops and the industry moves out of the region.
The natural resource curse is the tendency for a region’s
strong dependence on one industry to crowd out investment in others. It also increases economic volatility as the
region is tied to the success of a single commodity, such as
coal, oil, or natural gas and subject to international price
fluctuations. For example, the presence of the oil and
gas industry may move investment into industries that

24

Fall 2014

supply the products it needs; the well-paid jobs it offers
may induce workers to migrate out of other industries.
The problems arise when the dominant industry exits the
region, leaving behind underdeveloped industries and few
job opportunities for the newly unemployed workers.
An extensive body of literature has examined the impact
of natural resource extraction on communities from many
angles: sociologically, economically, environmentally, and
politically. Impacts vary among regions, each managing
its economic development in its own way. That said, the
literature suggests next steps that are applicable to most
regions. For one, communities need to consider the
industry’s likely long- and short-run impacts.
In the short run. Joe Campbell, a research associate at
the Ohio State University Extension, recently examined
how communities in Jefferson County, Ohio, are coping
with short-run growth in shale drilling as the early flurry
of leasing slows and drilling begins. There, it has been
important to identify the key players who will be affected
by the growth and to convene regular meetings among
them. Players include elected officials, business leaders,
citizens, and community groups.
Other lessons learned are the importance of understanding
that the oil and gas industry moves quickly and is dependent
on global prices, not necessarily on local concerns. However,
it is still important to engage regularly with industry
representatives, ideally with a united community voice,
to understand their plans and cultivate a relationship that
may help the community in the future.
In the long run. Planning for the long run is more difficult.
A community’s resources tend to be stretched during the
boom, leaving little time to plan for the future. The unpredictable length of the boom also introduces uncertainty
about how far ahead the community needs to plan.
Communities would benefit from thinking about how they
can retain wealth from the natural resource boom and to
prepare for life after the drilling and extraction ends. One
approach is for communities to develop ways to diversify
their economies so that the oil and gas industry’s departure
does not lead to a mass exodus of population and capital,
leaving communities with expanded and underutilized
infrastructure to maintain.

Another idea that has already had some success is to
develop programs to teach residents the skills they will
need for relatively high-paying jobs in the oil and gas
industry. One regional program that facilitates this effort
is ShaleNET, which was developed at Westmoreland
County Community College in southwest Pennsylvania
using a $5 million grant from the US Department of
Labor.
ShaleNET consulted with the industry’s major employers
to develop a curriculum that fits their hiring needs. This
highly regarded program has since expanded to include
four community colleges in three states (Ohio, Pennsylvania, and Texas). According to its website, ShaleNET has
trained more than 5,000 participants, 3,400 of whom
have found employment. Given the uncertainty about
the lifespan and labor requirements of the shale boom,
entities like ShaleNET must be nimble enough to adjust
their programs to meet the industry’s needs.
Another approach is to establish a future fund, at the state
level, that will tax the industry according to the volume
of gas and oil extracted, setting the proceeds aside for
economic development, environmental remediation, and
re-energizing a community’s economy after the boom
ends. An example is North Dakota’s Legacy Fund, which,
as of April 2014, had a balance of nearly $2 billion. This
fund will continue to accumulate until June 2017, when
state lawmakers will decide how to utilize it. Currently,
Ohio is considering changes to the structure of its oil and
gas taxes, which would set aside a small percentage to
create a legacy fund for use after 2025.
Lastly, a region may capitalize on existing industries’ ability
to take advantage of the proximity and range of chemical
components that can be extracted and used in the chemical
and plastics manufacturing industries. Several of the region’s
metropolitan areas (see figure 3) have above-average
employment in those industries, and expanding them may
help to retain more wealth in the region. It is still too early
to tell how much these industries in the region will benefit.

Figure 3: MSAs with high levels of chemical, rubber, and plastics
manufacturing employment may be better able to retain wealth
Erie
3.07
Cleveland
1.73

Williamsport
2.19

Scranton
1.21

Akron
3.09

Allentown
1.29
Lebanon
1.82

Wheeling
1.91

Lancaster
1.76

Reading
1.47

Parkersburg
4.99

Charleston
1.54

Location quotient
1.21

4.99

Note: Location quotients based on average employment from 2001 to 2012.
Source: Bureau of Labor Statistics.

Infrastructure to transport gas is still being constructed,
and decisions about processing facilities are still being
made. However, Ohio’s economic development agency is
working with a local university to better understand how
the shale gas boom can leverage the region’s expertise in
plastics and chemical manufacturing.
Over the next year, the Cleveland Fed will host roundtables
in communities across southeastern Ohio and southwestern
Pennsylvania, where the oil and gas industry has been most
active. Our purpose is to begin a conversation among key
stakeholders that will continue as the impact of the oil and
gas industry matures. ■

Online exclusive
All this oil and gas production can revitalize communities, and so, too,
can anchor institutions, says one known expert on community wealth
building. Ted Howard of the Democracy Collaborative says such anchors
—generally large, place-based, nonprofit institutions (for example,
hospitals and universities)—can take purposeful action to benefit
neighborhoods, but there can be unintended consequences. Read the
Forefront interview: www.clevelandfed.org/ff /Howard
Tweet us
Because the supply of shale gas is finite, it tends to create a boom-bust
cycle. How do you believe communities could handle the boom and the
bust? Tweet us @ClevelandFed. Use the hashtag: #shaleboom

F refront

25

Measuring America
Interview with Erica Groshen
Commissioner
US Department of Labor,
Bureau of Labor Statistics
The commissioner gives
Forefront the stats on inflation
and unemployment, and the many
hands it takes to produce them.

26

Fall 2014

Schweitzer: Skeptics often ask us why

Schweitzer: What is the difference

the public should have confidence in

between inflation and the cost of living?

our inflation measures. How would you

Groshen: I think it really comes down

answer them?
Groshen: We at the BLS collect the

information in ways that are designed
to be accurate.

F

ew data sets are tracked more

closely than those on inflation and
unemployment, with journalists,
economists, households, and others
marking the release dates on their
calendars. But before the estimates
are published and appear in the
nightly news reports, data must
be collected, analyzed, and disseminated. Since 1884, the Bureau
of Labor Statistics (BLS) has been
doing just that.
The Senate confirmed Erica Groshen
as the 14th BLS commissioner in
January 2013. She is steeped in
research and statistics knowledge,
having come through the Federal
Reserve System and having served
on advisory boards for the BLS and
the US Census Bureau.
Groshen was a speaker at the
Federal Reserve Bank of Cleveland’s
inaugural conference on Inflation,
Monetary Policy, and the Public on
May 29–30, 2014. Cleveland Fed
Research Director Mark Schweitzer,
who is Groshen’s former colleague,
interviewed her after the conference.
An edited transcript follows.

We have on-staff statisticians who
have a huge amount of expertise to
help us design exactly the right way
to measure inflation. We do it in an
open and transparent way, so all our
methodology is completely open to
public scrutiny. Reporters occasionally
come with us into the field so that
they can understand how it is we do
what we do.
We are also an agency that is independent of the political process. I am the
only person at the Bureau of Labor
Statistics who has a presidential
appointment, and I am appointed
for a set term. Everybody else at the
BLS is a professional civil servant.
We operate in this independent way
according to the principles set up
for the National Statistical Agencies
by the Office of Management and
Budget. All of these steps that we take
are intended to make sure that the
public can trust us and our measures.

to the cost of living being a personal
concept. It’s something experienced
by people. It’s going to be different
from person to person, but you can
get an average across people. It’s still
ultimately how you experience price
changes on a personal basis, whereas
inflation is really more of a theoretical
concept. It is the part of price changes
that is driven by monetary policy. And
there’s clearly a relationship between
the two of them, but they don’t have
to be exactly the same; certainly, you
wouldn’t expect them to be the same
from person to person.
Schweitzer: What do you think is the
public’s most frequent misunderstanding
regarding the Consumer Price Index (CPI)
or other inflation measures?
Groshen: One thing that I hear fairly

often is “Why did you take food and
energy out of the CPI? Those things
matter to me!” I heard that just a couple
of weeks ago. This is always surprising
to me because the full CPI does include
the influence of food and energy
prices, but because different people
have different things that they use our
inflation measures for, we give them
the information that they need to make
indexes that are appropriate to the
questions that they have. Some people
want to understand underlying inflation
trends and so they would like to look
at what’s happening to the part of the
CPI that isn’t being determined by the
highly volatile food and fuel prices.

F refront

27

Schweitzer: The chained CPI is getting
a lot of attention. Can you describe this
measure and its advantages?
Groshen: Sure. It helps to contrast it

with the regular CPI—the CPI-U
(Consumer Price Index for All Urban
Consumers). They are the same in
that they use the same market prices.
They differ in that the weights that are
used for the chained CPI-U are for
the same two months for which we
are comparing prices, and the weights
for the CPI-U are much older. In an
inflation measure, the market basket is
important because it determines how
you weight different price changes.
So if it’s a large part of your market
basket, then you weight that price
change highly, and if it’s a small part,
you weight it less. The chained CPI
and the CPI-U use the same set of
weights, but for the chained CPI, we
use ones that are much more current.
So in the final chained CPI, we use
the weights that are concurrent with
when we collect the prices, and that
gives us a really important advantage.
For one thing, if you have trends in
what people are spending their money
on, then we’re going to be much more
up to date.
The other part that concurrent weights
help with is called “substitution bias.”
Substitution bias is actually a fairly
simple idea: In a market economy,
people react to changes in prices, and
that’s how they make their decisions
on how much to buy. That’s a good
thing, but imagine a world where
there’s no inflation at all and all you had
were these changes in relative prices.

28

Fall 2014

Let’s say we estimate the cost of living
at one point, then a little later we
measure the cost of living again and,
between these two points in time, we
had some changes in relative prices.
Some people would buy less of the
things where the prices had gone up
and buy more of the things where the
prices had gone down. They would
have changed their market basket
between the two periods. When we
don’t change the market basket, then
we’re giving too high a weight to the
goods whose prices have gone up and
too little weight to the goods whose
prices have gone down. So that would
tend to overestimate inflation and make
you think that inflation had actually
gone up when inflation had stayed
the same. The chained CPI, by using
concurrent weights and then a formula
that’s designed to take advantage of
using these concurrent weights, gets
rid of the substitution bias.
Schweitzer: Are there any disadvantages
to using the chained CPI?
Groshen: It takes us a long time to

actually collect the information on the
market basket. Turns out that’s harder
to do than measuring the prices. So
our very first release of the chained
CPI is an estimate, and it’s not until
two years later that we get the final
measure of what the chained CPI was
for the period before. That makes it
difficult to use for some purposes, although there are some workarounds.

Schweitzer: Can you tell me a little bit
about current research at the BLS in
your price measurement areas?
Groshen: One huge effort that we have

underway is redesigning the Consumer
Expenditure Survey. The last time it
had a total redesign was some time in
the 1980s. Many things have changed
since then, for instance, how people
spend money and what kind of records
they have of their expenditures. So
we want to redesign this survey—
which is fairly burdensome—to make
it less burdensome and also make it
as accurate as possible. It’s been five or
six years now that we’ve been working
on what this redesign will look like.
We brought in experts: We had a
National Academy of Sciences panel
to advise us on doing this, and they
gave us recommendations. We now
have a plan for the redesign. It’s up on
the web and people can take a look
at it. It will use much more electronic
data capture, which will make the
information more accurate and less
burdensome. So that’s one effort.
We’re also doing research on how to
measure medical prices better. That’s a
challenge for us because, first of all, it’s
a large part of people’s expenditures,
so it matters. Also, there’s a lot of
innovation in that area, so we want to
get that right. One form of innovation
that’s problematic for us is capturing

the cost of treating a disease when
the treatment moves from things like
surgery to medication or to physical
therapy. The cost to a patient for a
surgical treatment may be far greater
than the cost of a pharmaceutical
treatment. It’s difficult for us, with our
current set-up, to include those price
decreases. So we are working on how
to account for those variables.
Schweitzer: How does the BLS collect
data from the ever-changing set of
possible purchases on the internet?
Groshen: Items that are purchased

on the internet have, like any other
consumer purchase, a chance of being
selected for our survey. As consumer
spending patterns and methods change,
we capture those in our Telephone
Point of Purchase Survey, which is
used to identify the establishments
and web sites we will use to track the
prices that consumers pay.
Schweitzer: It’s a challenging and
changing retail world, and consumers are
making use of the internet, so it’s got to
be accounted for.
Groshen: I agree and we are.

We’re also doing research on how to measure medical prices better.
That’s a challenge for us.
Schweitzer: Do you have any data that
the BLS thinks the public ought to be
paying more attention to?
Groshen: One thing I find very

interesting is within the realm of a
survey we call the Current Population
Survey, which gives us the unemployment rate. We publish the gross flows
information, and this very often helps
us better understand what’s going on
in the labor market and why the rate
has moved up or down.
For instance, in April, we had a fairly
large drop in the unemployment rate,
and that was not due to more people
having jobs, but to fewer people being
unemployed. The reason we had fewer
people being unemployed was not
because they had found jobs, but
because we had an increase in the
people that are out of the labor market.
When you hear that, you might think
“Oh, all these unemployed people
gave up looking and exited the labor
market.” But if you look at the flows,

you’ll find that it wasn’t that we had
this exit of people from the labor
market. We actually had a lack of
people transitioning out of the labor
market into unemployment. That’s
what drove this. So we reported this in
the release.
The next thing we want to know is why
the numbers showed fewer people
transitioning into unemployment.
So the first thing we ask is what was
unusual about this month.
Well, Easter was late, and so we ended
up doing our survey before the holiday,
when normally we do it after. What
often happens at Easter is that a lot of
people say “After Easter I’m going to
start looking for my Fall job or the job
that I’m going to have when I graduate.” They don’t start doing it before
Easter because they know for a week
they’re not going to be around. Then

Erica L. Groshen
Position

Former positions

Education

Commissioner, US Department of Labor,
Bureau of Labor Statistics

Vice president in the Research and Statistics
Group at the Federal Reserve Bank of New York

University of Wisconsin-Madison, BA
Harvard University, PhD

Visiting assistant professor of economics,
Barnard College at Columbia University
Economist, Federal Reserve Bank of Cleveland
Visiting economist, Bank for International
Settlements (Basel, Switzerland)

F refront

29

our seasonal adjustment may have led
to this expectation of people joining
unemployment when they didn’t. And
if that’s true, then next month or the
month after, this effect is just going to
go away. So it gives us a conjecture. It
will be another few months before we
see if it’s true or not.
Schweitzer: There are a lot of questions
about unemployment and whether
or not we’re accurately representing
everybody who’s out of the labor market.
What are your thoughts about using
the unemploy­ment rate versus the
alternative measures?
Groshen: We publish six different

measures of labor market utilization.
The headline number, which we fondly
call U3 (on a scale of U1 to U6), has
some big advantages. It’s got the longest
time series, so it’s the most comparable
over time and it’s most comparable to
what other countries publish, so you
get better comparability to what other
countries are doing. It’s also based
on fairly well-defined criteria: To be
in the labor market, you must have
looked for work within the past 30
days and be ready, willing, and able
to work right now.
The other measures have different
criteria. For instance, U6, which is
the broadest measure, counts under­
utilized labor—anybody who says
they want work, even if they haven’t
done anything to search for it in the
last month. Now, they’re clearly different from somebody who says they

30		 Fall 2014

Schweitzer: You’ve been BLS commissioner now for more than a year. What
do you think the public ought to know
about the BLS?
Groshen: I think the first thing they

don’t want work at all, but there are
different reasons why someone says
they want a job but aren’t looking for
one. It’s much more open to interpretation and problematic.
The other people whom we include
in our U6 measure are those who are
part-time for economic reasons. They
are involuntarily part-time workers and
they’d rather have a full-time job. So
that is a measure of underutilization.
U6 gives you a broader measure of
unemployment.
The key thing about all of the measures
is what question you’re asking. Are
you asking how far away we are from
normal? Any one of them, U1 through
U6, is going to tell you the same thing.
They move almost exactly together
over time. So it doesn’t matter which
one you look at if you want to know
how far we are out of the recession,
but it does matter if you want to know
what the total amount of distress in
the labor market is and you want to
define it in a different way.

should know is that the staff that I
have the privilege of working with is
made up of the most dedicated public
servants that I think anybody would
meet anywhere. They are totally
driven by the mission of making sure
that their fellow citizens know what
labor market conditions are, what prices
are, what productivity and working
conditions are. It’s just in the DNA
of the BLS. So it’s just an honor and a
pleasure to be working with them.
The second thing they ought to know
is just how important this information
is to everybody in the country—that
these data are the pure public good.
If we didn’t know what the unemployment rate was and what the inflation
rate was, we’d have a lot more people
arguing about the facts instead of
discussing what they should be discussing, which is what the correct policy
decision is, given those facts.
Our policymakers really need this
information, and our households
really need this information because
they have to make the right decisions
for themselves and their families. Our
businesses need this information so
they can make the right decisions for
their prices, for their purchases, for
where they locate their companies.

This is just really, really important
information and we hear every day
how much people value it. These data
have this really important impact.
Let me go one step further. Most
people don’t realize that our surveys
are voluntary, so the people who are
responding to our surveys are performing a civic duty that everybody in the
country benefits from. They trust us
to keep their information confidential
and it’s protected by law. We have never
given it up for any purpose, and it is
used solely for our statistical mission.
It’s not used for any type of enforcement activity or programmatic use.
It is only about the statistical purpose,
and everybody in the country benefits.
That’s part of the reason we have the
really high response rates that we do.
We get response rates that are way
higher than any private sector survey
does because people understand that
they’re performing a public service.
The respondents are helping everybody in the country every time that
they do that because their experience
is being represented well. And the only
way their experience can be represented
well is if they participate in our surveys.
We are so thankful that so many of
them do.

Our policymakers really need this information, and our households really
need this information because they have to make the right decisions
for themselves and their families. Our businesses need this information
so they can make the right decisions for their prices, for their purchases,
for where they locate their companies.
Schweitzer: At the BLS, what’s your

Schweitzer: You started your career at

best seller?

the Federal Reserve Bank of Cleveland.

Groshen: Our best seller is the

What did you learn from your experiences

Occupational Outlook Handbook,
which we put out every two years.
It’s a detailed listing of more than 300
occupations: the wages, the projected
job growth for the occupations, what
the duties involve, what the nature of
the work is, and what the educational
requirements are for the jobs. This is
used by every secondary and postsecondary school in the country to
give people career advice and by career
counselors of all sorts. It’s based on
a survey we do—the Occupational
Employment Survey—and most
people don’t realize the main information they use to make career decisions
comes out of the Bureau of Labor
Statistics.

here?
Groshen: To be honest, when I came

to the Cleveland Fed, I didn’t know
anything about monetary policy. I had
been an empirical labor economist.
I had studied a lot about the labor
market and was keen to learn more,
but I really didn’t know anything about
central banking and its relationship to
the regional economy. I learned how
important it is for the central bank to
have a deep and close connection with
the regional economy in order to understand how inflation and economic
growth is manifested in the economy,
and also so that they can have ongoing
communication with the people in
the region about the importance of
the work of central banking.
Schweitzer: Thanks so much. ■

— May 30, 2014

On the reel
Watch clips from Forefront’s interview with Erica
Groshen: www.clevelandfed.org/ff /Groshen

F refront

31

Book Review

The Divide:
American Injustice in
the Age of the Wealth Gap
by Matt Taibbi
Spiegel & Grau, 2014

This book, our reviewer says, is not a comfortable
read. It asserts that the selective leniency and
corruptibility of the American judicial framework has
created a rift in which fair and equitable treatment is
no longer a right but a luxury afforded to a chosen few.
Reviewed by
Abigail R. Zemrock
Executive Communications Coordinator

Modern America is often characterized as a dog-eat-dog
society. We pride ourselves on working harder, pushing
further, and moving faster than any other nation on the
planet, and we glorify independence and socioeconomic
success above all else—to a highly competitive degree.
Some might say that Americans who have “made it” show
similarities to the alpha-predators of the natural world,
having a ruthless, almost animalistic drive to win.
And for those who haven’t made it, well…where there are
predators, there must be prey.
This is the two-sided ecosystem that Matt Taibbi lays out
in his latest book, aptly titled The Divide. A former Rolling
Stone contributor/journalistic watchdog, Taibbi has made
a career out of exposing what he views as the carnivorous
practices of Wall Street and the financial industry. He is

32

Fall 2014

adept at peeling back his characters’ layers to expose them
for what he believes them to be: gluttonous, self-involved,
imperfect. And, all too often, downright corrupt.
Income inequality is a timely topic—debates about the
minimum wage, the rising costs of higher education, and
the like are making headlines almost daily. Taibbi tackles
this subject in a unique way: by examining it under the
lens of the American judicial system. His thesis is clear:
The wealth gap and the justice gap have spilled over into
each other, creating a complex, dual problem in which
neither issue can be fully resolved without first reforming
the other. This is the survival of the fittest taken to a new
dimension, in which the affluent are buoyed by virtually
unlimited oceans of wealth, while those without means
simply struggle to stay afloat in the judicial system.

Taibbi’s book offers contrasting examples of “justice” as
it relates to both the poor and the privileged, and demonstrates two types of laws—the written and the unwritten.
He explores the concept of “collateral consequences,” the
often unintended results of poor decisionmaking that have
an uncanny way of snowballing. This concept may result
in a multimillion-dollar severance package for one type of
individual and financial penalties or even incarceration for
another.
Roughly half the book is dedicated to those occupying
the high end of the income curve. Taibbi assembles a
laundry list of white-collar financial crime from the financial
crisis of 2008–09. Fraud. Larceny. Falsifying records.
Embezzlement. Tax evasion. Pick your poison, and Taibbi
can show you a lineup of some of the major players in the
financial industry during the meltdown—none of whom,
he notes, were ever prosecuted or served any time for
their alleged misdeeds.
Consider Taibbi’s skepticism about deferred prosecution and
non-prosecution agreements, tools that allow companies to
continue operating during an investigation, while avoiding
a criminal charge: “They often read like agreements hashed
out in friendly meetings by likeminded legal colleagues
from similar cultural backgrounds…exactly what they are.”
For corporate leaders, collateral consequences tend toward
slaps on the wrist, golden parachutes, and soft landings.
While Taibbi’s case against corporate greed is strong, his
empathy and determination in telling the stories of the
other side of the wealth curve are stronger. His portrayals of
the “little fish” that wound up tangled in the unsympathetic
net of the judicial system are compelling and heartbreaking.
These are individuals desperately clinging to life at the
bottom—and being routinely hassled for their efforts.
Taibbi notes that collateral consequences affect this
group too, often manifested in seemingly endless court
appearances, rapidly compounding fines or fees, lost
jobs, and the struggle to make bail. What are often simple
inconveniences for the upper class can mean financial
ruin and scarring social stigma for those unlucky enough
to be caught up in the dragnet—whether they are, in fact,
guilty or not.

Through these firsthand accounts of life on the wrong
side of the divide, Taibbi illustrates his view of how an
unbalanced, corruptible justice system plays a key role in
perpetuating and accelerating the downward spiral of
poverty. He interviews a variety of subjects, but their stories
are variations on the following theme: A poor neighborhood
attracts a heavier police presence; overzealous policing
results in higher levels of incarceration; more people in jail
means fewer are working; and lower employment and lost
tax revenue breeds even more poverty, more police, more
down-on-their-luck people left wondering where things
went wrong.
Have we reached the point where we are capable of
criminalizing citizens who don’t, or can’t, achieve the
American Dream?
At its most basic, The Divide is a story about rich people
and poor people, a split society of winners and losers
where fair and equitable treatment is no longer a right
but a luxury afforded to a chosen few. On another plane,
it offers a healthy criticism of the selective leniency and
corruptibility of the American judicial framework that allowed such a rift to occur in the first place. And it poses a
disturbing question: Have we reached the point where we
are capable of criminalizing citizens who don’t, or can’t,
achieve the American Dream?
The Divide is not a comfortable read—Taibbi’s reporting
reveals shocking inequalities that are likely to sink your
faith in the phrase “justice for all.” But it’s an important
critical work, worth reading for the author’s re-examination
of our country’s policymaking approach. To succeed in
breaking the cycle of poverty and closing the wealth gap,
he suggests, we need to get back the fundamentals of
democracy—developing policies and laws that apply
to all Americans, not just those who can pay up front and
in cash. ■
Online exclusive
When the majority of Americans see no improvement in their living standards,
one macroeconomist asserts the outcome spills beyond singular households.
In an interview with Forefront, Benjamin Friedman of Harvard University
explains how sustained income stagnation leads to unfortunate tendencies
in our society today. Hint: Dysfunctional governance is one of them.
www.clevelandfed.org/ff /Friedman

F refront

33

PRSRT STD
U.S. POSTAGE PAID
CLEVELAND, OH
PERMIT NO. 385

FEDERAL RESERVE BANK of CLEVELAND

PO Box 6387
Cleveland, OH 44101

Return Service Requested:
Please send corrected mailing label
to the above address.

Socialize with us

[find us at facebook.com/clevelandfed and @ClevelandFed on Twitter].

Pin, tweet & upload your pictures and videos
[we’re ClevelandFed on Pinterest and YouTube, too].

Write us a letter

[forefront @ clev.frb.org].

Share.

To subscribe, request copies, or sign up for web feeds of Forefront, visit www.clevelandfed.org/forefront.

Follow the Cleveland Fed on