People’s views have a greater effect on the economy these days since consumers are more likely to act on their feelings, experts said. So if they are worried about their financial well-being, they’ll be more likely to pull back on their spending. This, in turn, hurts the economy.

“If there is a bit of a dark cloud, the impact on the real economy is bigger than it was in 2001,” said Michael Rizzo, economics professor at the University of Rochester. “Whether justified or not, expectations matter. It puts a brake on the economy.” 

I am not the expert to say that consumers are more or less likely to act on their feelings. What I do believe is that the impact of expectations on the real economy might be greater today than in recent years. It’s not because I think there has been a sea-change in economic behavior, but rather that the growth of access to information has enabled more people to form expectations, and my personal sense is that this has generated greater momentum swings in both the positive and negative directions. So, if people now convince themselves that house prices will fall forever, then this expectation may induce potential buyers to sit tight until something changes to alter these expectations.

For the record, I do not believe that spending is an important indicator at all – for two reasons. First, spending is at best a barometer for how well and how much “we” are producing. Spending does not drive the economy, production does. You cannot spend unless there are goods and services to spend it on. This is a major issue I have with the way GDP accounts are presented. Second, if all Americans wish to spend less, because spending less makes them happier, how is that a problem? If this non-spending happens in an environment where people wish to spend more in the future, then this non-spending will be translated into saving, investment and future spending opportunities that are more favorable than today’s. If this non-spending happens in an environment where people wish to permanently spend at a lower level, then there will be a reduction in overall economic activity – today and tomorrow. But this is what the people wanted. We are willing to exchange the purchase of goods and services for more leisure time. If this is a choice individuals are freely making, how can that be a bad thing?

I spent some time this morning putting together 2005 data for New York State. New York has 698 school districts, but the plot below includes data only for 628 because of data issues (not reporting of districts, or no students taking a math regents … is that even possible?). The data come from 2005 because all of the data is not available yet for more recent years, and even then, I am not any good at extracting Access data (older data is in Excel).  The chart below plots on the X-axis (the horizontal one) a measure of the poverty level in the school district (the New York State Education Department calculates an index for every district) and on the Y-axis plots the percentage of students passing a Math regents exam in the 10th grade.

The yellow line indicates a simple regression line through the data points. It says that school districts that have less poverty have a higher share of students passing the Math regents. This is completely unsurprising (the equation is in the box). Schools that are represented in dots above the line are those that have a higher share of students passing the regents than would be predicted by the level of poverty in their district (again, I warn that this is a simple regression controlling for nothing else), and those represented by dots below the regression line are those that have a smaller share of students pass the Math Regents than would be predicted by their level of poverty.

In summary, those districts above the line are over-performing while those below are under-performing. But the interesting question Arnold poses is how do expenditures per student compare for those districts that are over-performing versus those that are underperforming? Is the better performance because those schools have more money? You judge for yourself:

• Districts above the line spent, on average in 2005, $14,047 per student;
• Districts below the line spent, on average in 2005, $13,979 per student;

The over-performers outspent the under-performers by about the cost of a social studies textbook.