Thursday, December 31, 2009

Thursday, December 24, 2009

Recession slammed domestic migration

Earlier this year, I compared US migration with that in Canada - one healthy, the other not so much. As a sequel to the story, the Census released its figures for migration into 2009, and the pattern in the US has worsened (you can download the data here).

The picture of American mobility is one of people/workers/households with essentially nowhere to go. Unemployment is ubiquitously high, and the housing market is lousy - can't sell your home, can't get a job. This Great Recession dragged net-domestic migration (moving within the US borders) down in all regions of the country.

Here are some of the headline results according to the Wall Street Journal:
The recession has had a profound effect on migration patterns in the U.S., reversing the flow of people to former housing-boom states such as Florida and Nevada, the latest data from the Census Bureau show.

In the year ending July 1, 2009, Florida -- once the top draw for Americans in search of work and warmer climes -- lost more than 31,000 residents to other states, the Census Bureau reported Wednesday. Nevada lost nearly 4,000. The numbers are small compared with the states' populations, but they reflect a significant change in direction: In the year ending July 2006, Florida and Nevada attracted net inflows 141,448 and 41,640 people, respectively.

There's no place to go. If you are in Michigan, for example, which state has the better prospects? And furthermore, homeowners are likely to find it very difficult to sell. It is worthwhile to compare the current experience with the cyclical downturn of 2001, when the unemployment rate increased for two years into 2003.

The chart below illustrates the net-domestic migration rate in 2003 and 2009 for each state, excluding the outliers which are listed in the text box. This is the state-level compliment of the first chart, which lists changes in migration patterns by region.

A 45-degree line is drawn: states above the line are seeing higher net-migration compared to 2003, while those below the line are posting lower net-migration than in 2003. Also, positive numbers indicate net-immigration (more people entering the state than leaving), while negative numbers indicate net-emigration (more people leaving the state than entering).

The first observation is that the "usual suspects", Nevada, Florida, and Arizona, are the outliers. Nevada, for example, saw its net-domestic immigration rate of roughly 20% in 2003 turn negative by 2009, -1.5%. And compared to the previous recovery, which saw rising unemployment through the middle of 2003, states like Colorado, Oklahoma, Louisiana, and Utah are experiencing increased migration into their states. However, a larger share of states are seeing migration patterns slowing or even turning negative. And finally D.C., home to the US government, is experiencing large migration inflows compared to the last recession, -17.8% to +7.5% in 2009. Best to be near the spending.

In the first chart, there is clearly a negative correlation between years in which the unemployment rate is rising (2003) and net-domestic migration across regions. But this time around, the magnitude is much larger - the labor market was hit harder and the housing market is in shambles.

A more flexible migration pattern would further the structural shift that is underway in the labor market (generally out of manufacturing and financial services and into alternate industries). It will take some time for the migration clog to free up, and the structural re-balancing of production and jobs will likely take some time. There's just no quick fix.

Rebecca Wilder

Tuesday, December 22, 2009

Gravity will drag the $US

The US dollar ($US) is on a roller coaster. And since S&P downgraded Greece to BBB+, the dollar has been on the rise. One can attribute the recent shift in the $US to many things - improving US economic conditions, return to risk, or relative weakness in other G7 countries, whatever. But what is clear, is that the dollar's gaining some strength, 4.7% since the beginning of December on a trade-weighted basis.

But this is not sustainable. As economic recoveries diverge (i.e., the G7 recovery is expected to be slower than that in key emerging markets), the dollar will likely fall. That's just gravity, and a necessary condition for sorting out global trade flows.

The chart illustrates the effective value of the $US, which is a composite index of the value of the $US against US trading partners (one source for this data is the Bank of England). As recently as November, the $US slid to its lowest value since March 2008. At that time - and really anytime the $US initiates a descent - Washington gets all worked up; but why? One of the necessary conditions for the re-balancing of trade flows between major trading partners is dollar depreciation.

Just look at the contribution to GDP growth from exports in 2006 and 2007, when not coincidentally the dollar was sliding.

The chart illustrates export growth and the contribution to GDP growth, as released by the Bureau of Economic Analysis. Note: an easy way to get this data is to simply download the excel file in the right sidebar of the release page.

A weak dollar can drive economic growth - especially as trade resumes, and emerging markets see a much quicker rebound than that expected for the G7. According to the Financial Times, its already happening - Asia ex-Japan is moving Japan's export market:
Japanese exports continued to increase in November because of robust demand from Asia, easing concerns about the strength of the country’s economic recovery.

Real exports were up by 0.6 per cent on October, according to Bank of Japan data. This was the eighth consecutive monthly rise, although the pace of increase was the slowest since exports began to recover in April.
A weaker dollar is a big part of the story for a re-balancing of trade flows. And its not just a US and China problem. According to the IMF, the 2007 US current account deficit was $731 billion, while the value of China's surplus was just half that, $372 billion. It's much of Asia and the Middle East that are likewise driving imbalances (of course, the US is not an innocent bystander here). The dollar will see weakness again on a trade-weighted basis; that's gravity.

Rebecca Wilder

Sunday, December 20, 2009

The 2010 Census: economic impact probably overrated

This year the US government is hiring for its 2010 Census. According to its job website, 2010 Census Jobs, "Hundreds of thousands of census takers are needed nationwide to help locate households and conduct brief personal interviews with residents". And in response, Rebecca Blank at the Department of Commerce (via the NY Times), expects the monthly unemployment rate to drop about 1/2 of a percent. As I discuss below, the Census is not the economic boon that some will have you believe.

The NY Times article refers to the 2010 Census hiring as a $2.3 billion "injection into the economy". Mark Zandi at Moody's says:
“It’s a form of stimulus. It’s like infrastructure spending, or W.P.A. in the Depression. It effectively does the same thing. It’s not on the same scale, but it is large enough, and it will make a difference.”
I disagree. The $2.3 billion figure is misleading; it is simply earned income (about 800,000 jobs X $25/hour X 20 hours/week X 6 weeks), rather than direct spending. A worker that earns temporary income from a six-week job is more apt to save the income rather than spend it - that's why rebates don't work. Not much stimulus there.

And don't forget the other side of the Census hiring story: the inevitable laying off of workers following the peak Census month.
The chart illustrates annual growth in government employment according to the establishment survey. Like clockwork, the Census survey grows government jobs to a peak 2.5%-4.5% annual pace in April or May of the census year. This means a peak impact of 800k-900k new jobs created in April or May 2010 (I use the average annual growth rate of 3.8% and a historical monthly average to forecast the payroll until April). All else equal, the unemployment rate will drop.

But consider this. It is likely that a very large share of the monthly 800,000 hires will simply be unemployed when the Census culminates - hence, the unemployment rate will rise in the early summer. And it's very possible that the increase in the unemployment rate will be larger than its decrease. If any discouraged workers - those who have not searched for employment recently and are counted as "not in the labor force" - are hired and do not secure new employment after the six-week job is over, then they will join the ranks of "unemployed".

We'll see; but the economic impact of the 2010 Census, to me, is questionable.

Rebecca Wilder

Saturday, December 19, 2009

This week's Greek tragedy

An article I wrote for Angry Bear: This week's Greek Tragedy

Rebecca

Market eye candy for the day

I just can't get over the run that the bond markets have had, especially in emerging and US high yield markets.

I indexed the four composites to 100 for comparability.

Rebecca

Sunday, December 13, 2009

US FDI, growth, and the capital stock abroad

The precipitous drop in world trade is well documented (see one of my previous posts for a look at nose-diving exports in Asia); but the adverse effects on FDI is overlooked, in my view.

Foreign direct investment (FDI) is an important conduit to economic growth in the US and abroad. As an example, let's look at what's going on in Alabama, according the local paper Al.com (bold font by yours truly):
BAY MINETTE, Ala. -- Things are quiet at a 3,000-acre industrial megasite northeast of town, but events in China are moving an eco-friendly auto plant closer to reality, a company executive and local economic recruiter said last week.

Charles Huang, vice chairman of Hybrid Kinetic Motors, said company leaders including Chairman Yung "Benjamin" Yeung, are finishing several agreements for design and production of components for the Alabama-built autos.


HK Motors announced in September that th
e $4.3 billion plant would employ about 5,800 at full capacity, producing 1 million vehicles annually by 2018.
If and when the HK Motors plant opens up, with the onset of production comes jobs, new income, and a growing capital stock (i.e., the machines and buildings). In the developing world, the effects are magnified since incomes and capital stocks start at a relatively low levels.

But this recession has dropped FDI markedly. According to the Q3 2009 Flow of Funds Accounts of the United States, outward FDI (US firms building plants in non-US economies) rebounded to a 3.8% annual pace, while inward FDI (foreign firms building plants in the US) slowed to a meager 1.7% rate.

In spite of the rebound in outward FDI, the growth rate of the stock of capital stemming from FDI is suffering.

The chart above illustrates the growth of the stock of capital resulting from FDI in and out of the US. The stock of capital is constructed using a simple dynamic equation, which includes investment each period (from the Flow of Funds Accounts, Table L.229) and the non-depreciated existing capital stock.

Since their peaks, capital formation stemming from outward FDI has slowed 40% to an 8.1% annual growth rate, while that stemming from inward FDI slowed 32% to a 9.2% annual rate. The global problem here is: even though US outward FDI rebounded in Q3, the production-generating FDI stock of capital growth is falling to its slowest annual pace since since 1995.

Going forward, the stock will depreciate further; and it will take new FDI to bring it back. This is critical for emerging markets that depend on FDI to foster economic growth.

Rebecca Wilder

Saturday, December 12, 2009

US Flow of Funds: wealth recovery fully underway, China?

This week the Federal Reserve reported the Q3 2009 Flow of Funds accounts. The headline indicators show household net worth improving and private debt burden falling.

The private sector - households and firms - is dropping leverage.

Update: This chart has been modified slightly - the leverage level data (highlighted in blue, red, and green) has been updated.
Either by default or by growing saving, the private sector is de-leveraging. According to the D.1 table, households and nonfinancial businesses dropped debt a further 2.6% q/q annualized, while financial sector debt fell another 9.3%. However, total debt (of the domestic nonfinancial sector) grew 2.8%, as the federal and state and local governments grew debt 20.1% and 5.1%, respectively.

Household wealth grew $2.7 billion trillion for a cumulative gain of $4.9 billion trillion since wealth hit a cyclical low in Q1 2009. To put this gain in perspective, household net-worth dropped $17.5 billion trillion from Q3 2007 to Q1 2009, 3.5 x the recent gain. Wealth to disposable income, a statistically significant factor of the personal saving rate, rests right around it long-term (1952-1007) average, 4.9.

The chart illustrates the wealth-effect as the ratio of net-worth to disposable income. The direct and adverse impact of the wealth loss on consumption probably peaked last quarter; however, the lagged effects are ongoing.

Notice that the ratio shifted discretely in the 1990's, not coincidentally when China's current account surplus took off.

Most likely, the wealth to personal income ratio has mean-reverted, and will not rise back to its 5.7 1997-2007 average. A necessary condition is that global portfolio flows rebalance - i.e., China saves less and the US saves more. However, this will not happen tomorrow - de-leveraging is a process that takes years. The increase in international saving (i.e., falling current account deficits) will take some time, and by definition includes the general government eventually dropping its debt burden. Not to mention the political rhetoric and growing trade barriers suggest that a long-term economic shift is a ways off.

Rebecca Wilder

Tuesday, December 8, 2009

India: fdi and saving are key....

India's in the headlines today.

From Bloomberg:
J. Kumar Infraprojects Ltd. plans to raise as much as 1.01 billion rupees selling 5.6 million shares to large investors, according to a share-sale document.
From Bloomberg:
GE Hitachi Nuclear Energy, which plans to build an atomic power plant in India, said as much as 70 percent of the components may be made locally to reduce costs and also exported to customers in Europe and the U.S.
From the Financial Times:
International power companies from Russia, France, the UK, the US and Canada are flocking to India seeking opportunities to help one of the world’s fastest-growing economies meet its energy demands. The contribution of nuclear energy in India is forecast to rise from 4,000MW to as much as 470,000MW over the next 40 years.
India's hot. And accordingly, multinationals around the world want to set up shop and produce directly in the world's second most populated country, 1.16 billion and growing (foreign direct investment, or FDI).

As is illustrated in the graph above, foreign domestic investment facilitates the growth of the capital stock that would be unattainable given its relatively lower domestic saving. FDI, or inward fixed investment, is one of the most important factors in facilitating growth for a developing economy (one whose investment growth is not subject to diminishing returns).

Recently, India has made much progress in attracting new FDI - its growth surged in 2009 in spite of the global economic recession.

The chart illustrates the inflow (not net) of foreign direct investment to Brazil, India, and Russia. Stemming partially from big FDI (hence capital investment), India grew quickly in 2009 - 3Q growth was reported to be a huge 7.9% y/y.

And the OECD recently hailed India for its efforts to lower barriers to entry:
The OECD’s Investment Policy Review of India says India has designed policies to encourage investment as part of market-oriented reforms since 1991 that have paved the way for improved prosperity.

“Restrictions on large-scale investment have been greatly relaxed. Many sectors formerly reserved to the public sector have been opened up to private enterprise. Import substitution and protectionism have been replaced by an open trade regime,” the OECD report notes.

But further reforms are needed. India’s policy framework for FDI still remains restrictive compared with most OECD countries. Meanwhile, its investment needs remain massive, with poor infrastructure holding back improvements in both living conditions and productivity.
Point: India recently made great headway in opening borders to direct investment, but more is needed. For example, India's foreign direct investment levels are similar to the other BRIC countries (ex China in the first chart), but per-capita income is by far the smallest.

Going forward, saving (including the government, which poses a very large risk, and for another post) and investment are critical to the outlook of the economy. It's up to policymakers in India to keep the economy on a sustainable growth path.

The Wall Street Journal posted a nice article today on the need to stimulate opportunistic entrepreneurs in India. Interesting stuff.

Rebecca Wilder

Sunday, December 6, 2009

Too efficient NOT to consolidate

Here’s yet another historical record broken in 2009:
“Only three insured institutions were chartered in the [third] quarter, the smallest quarterly total since World War II.”
This fact is from the FDIC’s latest Quarterly Banking Profile. There are probably non-economic reasons for this, i.e., the application process to qualify as a new charter institution (see the types of charters here) is likely much more stringent than in previous years; but nevertheless, this fact reiterates the trend in the number of banking institutions, most definitely down.

The FDIC is awash in problem institutions. The well reported number of bank failures jumped to 132 in 2009 (as of November 20, and you can find the data here). However, that’s just share of the much larger “problem”. According to the same quarterly profile, there are now 552 “Problem” institutions in the FDIC charter system holding $346 billion of assets on balance – that’s 2.4% of nominal GDP.

As such, it seems that consolidation is all but a foregone conclusion. But watch out, because the new 4-letter-style phrase, “too big to fail”, is heavy on the tongues of US policymakers. Senator Bernard Sanders (Vermont) introduced the “Too Big To Fail Is Too Big to Exist” bill last month, which defines such an institution as (see the bill here):
"any entity that has grown so large that its failure would have a catastrophic effect on the stability of either the financial system or the United States economy without substantial Government assistance."
Ahem, so how big is that? Peter Boone and Simon Johnson at the Baseline Scenario define “too big to fail” as bank liabilities amounting to 2% of GDP (roughly):
"So to us, 2 percent of G.D.P. seems about right. This would mean every bank in our country would have no more than about $300 billion of liabilities.

A large American corporation would still be able to do all its transactions using several banks. They would even be better off — competition would ensure that margins are low and the banks give the corporates a good deal. This would help end the situation where banks take an ever-increasing share of profits from our successful nonfinancial corporations (as seen in the rising share of bank value added in G.D.P. in recent decades)."
But there are economic efficiencies, like scale economies, that need to be considered. David C. Wheelock and Paul W. Wilson at the St. Louis Fed find statistically significant increasing returns to scale (i.e., bigger banks, lower costs) in the US banking system. They use a non-parametric estimator to estimate a model of bank costs and find the following (link to paper, and bolded font by yours truly):
"The present paper adds to a growing body of evidence that banks face increasing returns over a large range of sizes. We use nonparametric local linear estimation to evaluate both ray-scale and expansion-path scale economies for a panel data set comprised of quarterly observations on all U.S. commercial banks during 1984-2006. Using either measure, we find that most U.S. banks operated under increasing returns to scale. The fact that most banks faced increasing returns as recently as 2006 suggests that the U.S. banking industry will continue to consolidate and the average size of U.S. banks is likely to continue to grow unless impeded by regulatory intervention. Our results thus indicate that while regulatory limits on the size of banks may be justified to ensure competitive markets or to limit the number of institutions deemed too-big-to-fail, preventing banks from attaining economies of scale is a potential cost of such intervention."
Better put: the cost of consumer and firm loans will be higher in the long run if too much intervention prevents the banking system from capturing scale economies. Furthermore, they suggest that even the largest institutions experience increasing returns (i.e., these).

As a note, David Wheelock wrote a very interesting piece a while back about the inefficiencies of mortgage foreclosure moratoria during the Great Depression …interesting stuff (paper link here).

Rebecca Wilder

Sunday, October 11, 2009

Blogging Intermission

I just wanted to update you all on some changes that have occurred in my life that prevent me from blogging regularly over the near term. Recently, my career path shifted from economic research and forecasting to emerging market fixed income asset management; and as such, I am spending a lot of time learning and a lot less time blogging.

As I derive quite a bit of utility from blogging, I will not be away for too long. Please give me a month or so to sort out the bond markets before I commit myself once again to the "Daily analysis of global economic and financial conditions with a focus on the U.S. TBA."

By the way, I am open to sharing this website with another blogger or two. Eventually, my thoughts are certainly going to shift toward countries other than those of the G7, so an economics focus on the G7 (or any one country) would be perfect.

If you are interested, send me an email with a short proposal (just a paragraph or two) and a link to your work. I am open to new ideas.

Best and thank you for your patience, Rebecca

Saturday, October 3, 2009

G7 vs. G5 in charts

These are interesting times in global economics, especially from the policy perspective. And although there was a sense of global urgency across the G7 (Canada, France, Germany, Japan, Italy, UK, and US) and the G5 (Brazil, People's Republic of China, India, Mexico, and South Africa) late in 2008 and early in 2009, policy makers now face very different economic circumstances. The global downturn was (mostly) ubiquitous, but the upswing will not be. The G5 are likely to initiate explicit exit strategies before the G7, as growth, domestic demand, and inflation rebound first.

The downturn in the developed world was very severe, as illustrated by the sharp contraction of GDP of the G7 countries. And across the G5, some countries experienced similar declines, however given the nose-dive that was global trade, the economic resilience via expansionary policy in India and China has been rather remarkable.









Domestic demand, underpinned by robust fiscal and monetary policy pushed auto sales forward in the G5 and simply offset some of the decline in retail sales in the G7 (see charts below). I used auto sales in the G5 as a proxy for retail sales, as I could not access a retail sales in India (not even sure they offer the statistic). Impressively, though, retail sales remained strong in the UK. Auto sales in China, Brazil, and India have been hot - the real question here is: what is the underlying demand for goods and services in these countries, especially in China.

Monetary policy - driving down interest rates in order to stimulate consumption via the credit markets - was very successful in the G5, but much less so in the ailing G7.








And finally, inflation has been quite resilient in some countries, notably in the UK and India. As such, the Bank of England has a real trade-off with which to contend: inflation (as measured by the CPI), 1.6% over the year, remains sticky and remarkably close to target, 2.0%. The Reserve Bank of India is seeing food prices drive inflation steadily upward. Some expect India to be one of the first emerging markets to start tightening (The Bank of Israel was the first).








There are a lot of question marks right now - the biggest is when central banks and fiscal authorities start to pull back. Especially in the G7, too early and one risks the feared W, but too late, and inflation becomes an issue.

Across the G7, rate hikes are unlikely to occur until well-into 2010, and maybe even 2011 for some. Across the G5, however, late 2010 is more likely an upper limit, however, some countries like Mexico are seriously struggling and policy will remain loose for some time. (See RGE Monitor Nouriel Roubini's latest, "Thoughts on Where We Are" - unfortunately, a subscription is required.)

Rebecca Wilder

Monday, September 28, 2009

The Fed draining reserves?

Prof. Jim Hamilton at Econbrowser (thanks Mark Thoma for the link) addresses one of the Fed’s standard methods of draining liquidity from the banking system: reverse repurchase agreements. Basically, the Fed will transfer some of its assets to the banking system via short-term loans taken out with its Primary Dealers, presumably offering standard (Treasuries) and less standard (MBS or agency bonds) assets as collateral.

Reverse repurchase agreements simply slosh around the assets (MBS, agencies, and Treasuries) between the Fed and the Primary Dealers, rather than removing the assets from the Fed’s balance sheet permanently. Eventually, though, the Fed must sell the securities outright onto the open market – we are far, far from that!

This is all hot air for now. How can the Fed soak up the expansionary liquidity, let alone unwind $1 trillion in assets, when the banking system is still shedding pounds?

The Fed is considering another route, too: conducting the same repurchase agreements with the money-market mutual fund industry in tandem. An excerpt from the FT:
The Federal Reserve is looking to team up with the money-market mutual fund industry as part of its strategy to ensure that its unconventional policies to stimulate the economy do not produce a bout of post-crisis inflation.

The central bank envisages eventually draining liquidity from the financial system by engaging in trades called “reverse repos” with the deep-pocketed money-market funds. In these, the Fed would pledge mortgage-backed securities and Treasuries acquired during the crisis as collateral for short-term loans from the funds.

The obvious counterparties for reverse repo deals are the Wall Street primary dealers. However, the Fed thinks they would only have balance sheet capacity to refinance about $100bn of assets. By contrast, the money-market funds have $2,500bn in assets, which means they could plausibly refinance as much as $500bn in Fed assets. Officials think there would be appetite on the part of the funds, which are under pressure from regulators and investors to stick to low-risk liquid investments.
The Fed is solely attempting to assuage inflation angst at this time; it’s still very premature to talk about an exit of expansionary policies when credit markets still crimp the stimulus that the Fed so desperately wants to get into the open market (much of the base, roughly $855 billion on September 23, 2009 and up from $2 billion in August 2008, remains on balance with the Fed in the form of “excess reserves). Just look at the crunch in the consumer credit space (chart to left).

As Prof. Hamilton suggests, the mechanisms of the reverse repos should successfully sterilize the base before it starts to become inflationary (with either the Primary Dealers and/or the Mutual Funds industry). However, one of the programs through which the Fed utilized previously to sterilize its liquidity, and to which Prof. Hamilton refers, – the Supplementary Financing Program – is unlikely to be an avenue for removing liquidity.

In fact, it’s quite the opposite. The Treasury already announced its imminent plan to liquidate the bulk of its $200 billion account with the Fed. There’s another $200 billion in excess reserves with which the Fed must contend (see my previous post here).

It’s easy to get the liquidity into the financial system. But getting it out without collapsing the economy or allowing inflation pressures to build? Well, that’s a different story.

Rebecca Wilder

Friday, September 25, 2009

The Fed's moving target: NAIRU

This is the article that I wrote on Angry Bear today.

Neal Soss and Henry Mo at Credit Suisse published a very interesting article, "Where is full employment in a more volatile macroeconomy?", where they argue that the natural (long run) rate of unemployment may be shifting (they do this by showing that the Beveridge curve, which plots the the job vacancy rate against the unemployment rate, is shifting upward). I cannot provide a link, but here are their conclusions pertaining to monetary policy:
In the case of rising NAIRU [RW: this is the rate of unemployment that does not grow inflation, often called the long-run rate] and higher economic volatility, the monetary policy implication is complicated.

On the one hand, a higher NAIRU suggests that it would require a strong and prolonged recovery for the unemployment rate to return to the level attained in the past two decades. This scenario argues for a long period of low interest rates, because the economy’s structure will make it harder to get unemployment back to the low levels of recent business expansions.

On the other hand, a higher NAIRU suggests higher inflation pressure, as the output gap is smaller than otherwise would be the case. In other words, the Fed would have to normalize its policy stance sooner than would have been the case warranted by a stable NAIRU.

The burden of this is likely to be several years of quite low short-term interest rates by any modern standard other than the zero-ish levels of today. Even if the NAIRU is deteriorating, it is likely to be several years before the economy generates enough of a drop in unemployment to get to the new NAIRU, presumably above the levels of the last 20 years but surely below the current 9.7% unemployment rate. Between now and then, high unemployment is likely to remain the focus of policy attention. Labor market policies, such as job retraining for the unemployed, to improve the inflation unemployment trade-off, would make the central bank’s job a lot easier as that longer-run unfolds.
Basically, if the long-run level of unemployment, which the Fed targets implicitly under their dual mandate (maximum sustainable employment and stable prices), is changing then the Fed’s job becomes that much more difficult. Policy is only as good as the model’s calibration: they need to confidently estimate and target a level of employment that may be very much in flux. A simple Taylor Rule estimation illustrates this point.

Note: The Taylor Rule is a policy rule that relates the federal funds target to inflation and the output gap: roughly speaking, as inflation rises relative to the output gap, the Fed should tighten (raise its target); and as the output gap rises relative to inflation, then Fed should ease (lower its target). I estimate the relationship, and you can view my data here, and Wells Fargo's forecast here.

On one hand, the CBO projects that NAIRU is 4.8%. In this case, the Taylor Rule policy drops the fed funds target to -4.6% by the end of the year. Put it this way: the output gap is so big that policy is very, very aggressive but bound by zero.

On the other hand, if NAIRU has shifted to something more like 6% - this is roughly its level in the 1980’s - then the policy prescription is less aggressive. The output gap remains wide, but the implied target rises to -3% rather than almost -5% - still negative, but suggestive of a more benign policy strategy. Inflation pressures would start to build earlier than under the 4.8% case.

This complexity has been documented by the Fed in the minutes of their August 2009 meeting:
Though recent data indicated that the pace at which employment was declining had slowed appreciably, job losses remained sizable. Moreover, long-term unemployment and permanent separations continued to rise, suggesting possible problems of skill loss and a need for labor reallocation that could slow recovery in employment as the economy begins to expand.
Note: this not the same thing as a jobless recovery – the unemployment rate may very well fall with economic growth (no jobless recovery), but then settle at a structurally higher level.

Rebecca Wilder

P.S. I will not be able to respond to comments until tomorrow.


Thursday, September 24, 2009

Unemployment insurance rate: still a leading indicator of the national unemployment rate

Every morning I give my economic spiel to the bond group – this morning, the Department of Labor reported that the number of weekly initial claimants fell 21k to 530k, dragging the 4-wk moving average down 11k to 553.5k. Also in the release, the insured unemployment rate (number of employees claiming unemployment insurance divided by the stock of employees that qualify for unemployment insurance under the regular 26-week (generally) state programs), which is seen as a leading indicator of the unemployment rate, dipped 0.1% to 4.6% in the week ending September 12. A downward trend here normally leads the national unemployment rate.

But in times like these, when the actual number of insured rests around 9 million and exceeds the 6.1 million in the regular state programs, does the insured unemployment rate still indicate trends in the national unemployment rate? (The chart to the left illustrates the total unemployed claiming insurance benefits under the regular state programs (the calculation of the aforementioned unemployment insurance rate) + claimants under the emergency programs, EUC 2008 and Extended Benefits (see the release here).)

It looks like the relationship remains rather strong. The chart below illustrates the estimated relationship between the monthly average of the insured unemployment rate and the national unemployment rate (currently 9.7%) since 1981.

The simple equation has an R2 = 0.858, which is respectable. And the most recent data points, July and August in green and red, respectively, rest very close to the fitted line – August is right on the fitted line. If the insured unemployment rate continues to decline, the relationship suggests that so, too, will the unemployment rate.

However, the initial claims numbers will be dropping as well, and initial claims are the most current information out there (besides the daily Treasury receipts). Initial claims remain well above any level that would suggest a decline in the unemployment rate (around 350k-400k).

I don't believe that the economy will see a jobless recovery - i.e., the job loss that occurred for almost two years following the end of the 2001 recession (November 2001).

The 4-wk average to date is starting to look that way, but there is just so much spare capacity - August 2009 capacity utilization rate was just 69.6% compared to 73.5% in November 2001. I just don't see why a firm would opt to buy new capital before it uses its excess capacity - that means hiring workers.

Rebecca Wilder

Tuesday, September 22, 2009

Central bank rates one year from now...FF up 52 bps

The core inflation rate has dropped to 1.4%, while the unemployment rate surged to 9.7%....to date. And barring some unforeseen and positive economic surprise, like renewed confidence driving consumer spending more quickly than anticipated, these variables that define the Fed's dual mandate are likely to remain outside the Fed's comfort zone into next year. Therefore, policy is likely to be quite expansionary in the foreseeable future (which in forecasting terms, that is 2010). But how far into the future; and what will be its exit strategy?

I just wanted to chime in on this issue of Fed exit strategy, specifically with rate hikes (or, as some of you will properly identify, target rate hikes). The Fed has a ton of policy to unwind, over a $trillion in direct asset purchase: >$800 in billion MBS, soon to be $300 billion in Treasuries, and soon to be $200 billion in agency debt. Furthermore, the Fed dropped its target rate (the federal funds rate, ff rate) to practically 0%. Therefore, there are several permutations of exit strategy to consider. Here are the main ones:
  1. The Fed unwinds the assets first, and then raises its target rate
  2. The Fed unwinds its assets after raising its target rate
  3. The Fed mixes exits: unwinding assets while contemporaneously raising its target rate
Timing is key here, and NOBODY expects the Fed to raise tomorrow. The Fed will monitor financial markets and the economy, and decide which action is appropriate. But given the obvious interdependence between financial markets and the economy, my bet's on a contemporaneous rate hike and asset sell-off. But let's be real, even the Fed hasn't mapped out its exit strategy in full.

The MBS market is tricky. Unless the housing market is plugging away, it will be difficult for the Fed to inundate the MBS market with its very huge supply of MBS (11% of the market as of June 2009, and counting). Therefore, it is likely that the Fed exits in a more weighted way: more quickly selling off assets, but also raising its target rate.

According to Morgan Stanley and the overnight indexed swap curve, the Fed’s target rate is expected to be just 52.9 bps higher than it is today (see cum in the chart below) in June 2010, or about 0.75%.

Given that consensus expects the unemployment rate to be in the 9%-10% range by then, I’d say that 75 bps is more of an upper bound. Unless inflation gets a push forward – at the core level, this is very unlikely given the long lags in price fluctuations – the economy will be just too weak. The decline in all measures of prices (including wages) will keep inflation very much in check, with some upside risk on the back of emerging market growth and energy price gains.

So there you have it. Is the market correct? 75 bps next year? That's still a lot of stimulus left in the system.

Rebecca Wilder

Sunday, September 20, 2009

Links for Sunday (September 20, 2009)

I wrote this article over at Angry Bear and know that some of you all might be interested in the read: Policy and housing: someone's gotta give.

Also, please visit David Beckworth's blog, Macro and Other Market Musings. He writes a really nice article on the equation of exchange - I plan to comment on this, but you all should read it as a heads up!

Finally, did you know that "UFO sightings have reached record levels in 2009"? The Telegraph ties this to the surging unemployment rate.

Rebecca Wilder

Saturday, September 19, 2009

Thursday, September 17, 2009

Flow of funds: not a shock, but interesting nevertheless

I always get excited when the Federal Reserve releases its quarterly Flow of Funds Tables. I will keep this short, as it is 9:30pm and my husband is about to scream.

First things first: household net worth is stable. A very good representation of the "wealth effect" is seen in the ratio of household net worth to personal disposable income (income net of taxes). This ratio is negatively correlated with the saving rate: as consumer wealth rises relative to income, the incentive to save (spend more now) falls.

As the chart illustrates, the ratio of net worth to disposable income rested quietly between 4 and a little over 5 spanning much of the measured series (1951, not shown, to about 1996); it now sits inside that band, 4.87 in Q2 2009. According to this relationship, spending and saving should stabilize, with households paying down debt and increasing consumption accordingly with income generation.

The point of income generation is not the topic here. But since wage growth is down to record lows (see Mark Thoma's post here), it seems that there is no way to go but up once the labor market turns around.

Households are taking a beating in credit markets, finding return only in the riskier equity markets.


And finally, the federal government owned nearly 15% of all securities in the GSE-backed MBS market. The Fed accumulated 11% of that!

It's going to take a much healthier economy than this one to withstand an unwinding of the Fed's balance sheet. Like I said, not surprising but interesting nevertheless.

Rebecca Wilder

Wednesday, September 16, 2009

$1 trillion in excess reserves on the horizon!

The Fed's effort to sterilize its expansionary policies is going bye bye. According to the Treasury:
"Treasury currently anticipates that the balance in the Treasury's Supplementary Financing Account will decrease in the coming weeks to $15 billion, as outstanding Supplementary Financing Program bills mature and are not rolled over. This action is being taken to preserve flexibility in the conduct of debt management policy."
On balance September 9, the Fed holds $199,932 million in liabilities to the Treasury under the Supplementary Financing Account, of which $199,932 - $15,000 = $184,932 million will be paid to the Treasury. How much do you wanna bet that the liquidation of the Treasury's account ends up in excess reserves, increasing the balance from $823,201 million on September 9 to $1,008,133 million (yup, that's $trillions).

Rebecca Wilder

Tuesday, September 15, 2009

Consumer spending on the mend?

There is some evidence out there that consumer spending has dropped so low, that with confidence anew (see national Consumer Confidence and Sentiment surveys), consumers are taking baby steps back into the spending picture. According to Gallup, consumers spent and average $66/day on 9/13/09, up from $59/day at the end of August.

The chart illustrates the 14-day moving average of daily expenditures on everything except housing, bills, and car purchase, as surveyed by Gallup. I guess that they view this to be discretionary spending, although autos could be viewed as such. There are a couple of things to note here. First, the trend has been down - falling from around $100/day in the first half of 2008 to below $60/day in the first half of 2009. To be sure, growth rates can be big off of lows - returning to $100/day could mean a >50% surge in spending in the national accounts (obviously, this is a gross over-simplification). Second, the series is not likely seasonally adjusted, so the difference could simply be cost of energy (depending on what is classified as "normal household bills").

However, if consumer discretionary spending is forming a bottom, which another private survey confirms, the employment picture is key. Spending fueled by debt is likely dead for a while at least, and good old income growth is the only means by which consumers can increase spending (i.e., satisfy pent-up demand) while contemporaneously save a larger share of income (4.2% in July). But credit will flow again to those worthy borrowers that demand as such - it's just back to basics in banking, with due diligence on lending and underwriting standards.

Rebecca Wilder

Friday, September 11, 2009

What would Friedman say?

I have argued that the ECB didn't do enough to support the Eurozone (a few examples here, here, here) - further monetary policy was warranted. As the financial crisis abates and key economies mend, I want to revisit this issue just one more time. Now, it seems that the Fed could beef up its lending, as the money supply growth rate turns red.

To be fair, the ECB's balance sheet is large relative to the size of the Eurozone, but nevertheless, its monetary support has relatively small compared to the BoE and the Fed (they did provide credit support by purchasing covered bonds, but nothing of the quantitative easing flare like in the US and the UK).

The chart illustrates the size of the central bank balance sheet as a % of GDP for the Federal Reserve (Fed), the Bank of England (BoE), and the European Central Bank (ECB) as of September 2, 2009. Relative to the size of its economy, the Fed and the BoE engaged in large expansionary policies by growing their balance sheets in order to stablilize the financial system. On the other hand, the ECB, while dropping its rate to 1% and supporting the credit system through its covered bond purchase program, did not.

However, credit is still quite restricted (see previous post on the US credit crunch) - so much so that the 3-month annualized growth rate of the money supply - M4 in the UK, M3 in the Eurozone, and M2 in the US - is low, even negative.

I wonder what Friedman would say....more deflation is on the way? It's way too early to turn off the money valve - the lack of credit flow precludes much money growth right now. Just look at how weak was the consumer credit report.

Rebecca Wilder

Wednesday, September 9, 2009

Consumer credit will come back when the labor market turns

The Federal Reserve Board released its consumer credit for the month of July:
Consumer credit decreased at an annual rate of 10-1/2 percent in July 2009. Revolving credit decreased at an annual rate of 8 percent, and nonrevolving credit decreased at an annual rate of 11-3/4 percent.
This report describes the full non real estate consumer lending space – securitized, loans from finance companies, government lending, as well as commercial bank, credit union, and saving institutions lending - it's much bigger than the Fed's commercial bank weekly lending series. This month, the broad drop in credit was a shock to the downside, but not unexpected given that the unemployment rate is more than double that which the CBO deems to be the long-run level (see the NAIRU level of unemployment, 4.8%).

On a seasonally adjusted basis, total consumer credit tumbled at a 7.1% 3-month annualized pace (a little more smoothed than the monthly series).

The chart illustrates the 3-month annualized growth rate of consumer credit (total = revolving + non-revolving) and the unemployment rate. The negative correlation is very strong during periods when the unemployment rate is rising quickly - this time around is no exception.

Why is consumer credit falling? Is it due to tight lending standards? Or rather is it precipitously falling consumers demand for credit? That information is not available in the data, however, the Federal Reserve’s Senior Loan Officer Survey an increasing share of banks reported falling demand for consumer credit in the second quarter of 2009. Standards are still tightening, but a falling share of banks report having done so.

My bet's that the demand-side is driving the credit at this point in the cycle. But I have also argued that the revolving credit lines (i.e., credit cards) took a hit in response to recent credit card regulation. As an anecdote, I saw two of my cards canceled for inactivity, and others have seen their credit limits slashed. Would I have used those cards had they not been canceled? Point: in some cases, consumers are being forced to reduce revolving credit.

It's all about the labor market and renewed confidence. As the domestic stimulus further underpins the economy, and as the US reaps the benefits of big, big global stimulus, confidence will, more likely than not, re-emerge.

Rebecca Wilder

Tuesday, September 8, 2009

New rankings on country competitiveness: Singapore is number 3!

The World Economic Forum released its Global Competitiveness Report for 133 countries. The top headline: US is out, Switzerland is in (number 1, that is); Singapore grabbed third place, pushing out Denmark.

The chart illustrates the change in rankings across the top 30 competitive economies in 2009-2010. Countries below the dotted line increased their ranking from last year, and countries above decreased their ranking. As you can see, the majority of (developed) economies dropped in their competitiveness rankings. The world banking crisis and financial institution regulation (whose epicenter was the US) were clearly major factors.

Here are some bullet points from the report (in the highlights report) on the top three competitive countries (the bottom are also included):
Switzerland’s economy continues to be characterized by an excellent capacity for innovation and a very sophisticated business culture, ranked 3rd for its business sophistication and 2nd for its innovation capacity. The country is characterized by high spending on R&D.

The United States falls one place and is ranked 2nd this year. The country continues to be endowed with many structural features that make its economy extremely productive and that place it on a strong footing to ride out business cycle shifts and economic shocks. However, a number of escalating weaknesses have taken their toll on the US ranking this year…. More generally, given that the financial crisis originated in large part in the United States, it is hardly surprising that there has been a weakening of the assessment of its financial market sophistication, dropping from 9th last year to 20th overall this year in that pillar.

Singapore moves up two ranks to 3rd place, remaining the highest-ranked country from Asia. The country’s institutions continue to be ranked as the best the world; at a time when confidence in governments in many countries has diminished, they are assessed even more strongly than in past years. Singapore places 1st for the efficiency of its goods and labor markets and 2nd for its financial market sophistication, ensuring the proper allocation of these factors to their best use. Singapore also has world-class infrastructure (ranked 4th), leading the world in the quality of its roads, ports, and air transport facilities. In addition, the country’s competitiveness is propped up by a strong focus on education, providing highly skilled individuals for the workforce. In order to strengthen its competitiveness further, Singapore could encourage even stronger adoption of the latest technologies—especially broadband Internet—as well as the innovative capacity of its companies.
And here is what co-author Xavier Sala-i-Martin (venerable macroeconomist at Columbia) says about the rankings.



Rebecca Wilder

Sunday, September 6, 2009

Serious credit crunch remains; and it will until the labor market turns

In July, the Kansas City Fed reported - they measure the Kansas City Financial Stress Index (KCFSI), which is an composite index of 11 financial variables that reflects stress in the financial system - that the financial system is much improved since late last year, however, financial strain remains above the previous peak on October 1998 (Russian default).

What does this imply about credit flow right now? It's anemic; except for revolving home equity lines of credit, credit extended across all loan types is just a few %-points higher than in January 2008 (nearing two years ago), and falling.

Remarkably, the Federal Reserve Bank (see H.8 Tables here) reports that the U.S. commercial banking system is growing credit over the year, 0.5% in July. However, history foretells that credit extension will fall well after the recession has ended, only recovering after job gains have gotten underway.

It's normal for the banking system not to extend credit when the worthiness of borrowers is questionable. The historical relationship does suggest that the credit crunch will remain in place for some time, with annual credit growth easily falling into negative territory soon. However, history also suggests that a 180-degree turn in credit growth is possible.

Rebecca Wilder

Friday, September 4, 2009

Just so you know, per capita income in Qatar is $103,500...

..as seen on this really cool link (hat tip, reader Jerry):


The data is compiled using the CIA World Factbook. Of course, not every citizen in Qatar is benefiting from that oil money.

Rebecca Wilder

Error correction: the article incorrectly stated that the unit measured was $US when it is $PPP.

Thursday, September 3, 2009

This week’s 'weekly' data shows much of the same: consumer stress

Going forward, it is my very strong belief that the labor market is going to be the key to the re-emergence of consumer spending. This time around, consumer balance sheets are not able to sustain much dissaving (i.e., borrowing from future income). However, consumers can save if income growth comes back. And if the labor market comes back, so too will income growth.

Last week, the BEA reported that salaries and wages grew for the first time since February – with some of that, consumers can increase spending, while at the same time maintain a higher rate of average saving. Of course, the opposite is also true: income growth anew presents a situation where consumers could save even more, i.e., the marginal propensity to save rises – this would wreak havoc, again, on consumer spending.

I tend to “believe” the former (nobody actually knows how consumers will react). But consumption has been pounded in the last year, and I just don’t know how much further it can fall without driving its own demand. Cash for clunkers re-iterated that people want to buy…they might just be smarter about it. It’s all back to income growth.

Consumer-spending-pertinent reports:
Claims and Taxes

Initial Claims are still very, very elevated.

The four week moving average of initial unemployment claims turned positive again this week, growing 4,000. In the four full weeks of August (8/8-8/29), average claims rose 3 out-of 4 times. This is not a good sign, and a clear indication that the labor market might be falling less quickly (its second derivative, that is), but certainly not growing. I still expect a pretty big drop in claims going forward and into the fourth quarter of 2009.

The weak labor market is keeping tax receipt growth in negative territory.

Workers are paying less in taxes, which is a slight reprieve, but look for a positive growth in these daily tax receipts to indicate that labor conditions are markedly improving; that hasn’t happened yet. On September 1, the annual growth rate (of the cumulative sum) in tax receipts jumped above zero, but has been below zero for most days since April. Notably, the number of positive growth points in tax receipts, although still few and far between, and are growing in size.

Rebecca Wilder

Tuesday, September 1, 2009

ISM: a very positive report with strings

The August ISM purchasing manager’s survey today reported that the manufacturing industry is now expanding, with a reading of 52.9%. Yeah!

There are strings, though: the optimism has not yet presented itself in the data quite yet. The index is a diffusion index, which is calculated from a pretty crude survey of manufacturing managers. They are asked how conditions have changed over the month, with answers being categorized according to improved, unchanged, or worsened (or something similar across each of the components).

But the reading above 50, 52.9%, does indicate that the managers surveyed (it does not control for firm size) are now weighted toward the view that the manufacturing sector is generally expanding.

Some responses to the survey:
  • "Production is picking up as demand [for] orders is being accelerated." (Nonmetallic Mineral Products)
  • "Demand from automotive manufacturers increasing thanks to 'Cash for Clunkers.'" (Fabricated Metal Products)
  • "In addition to improved business come the complications of a supply chain drained of inventory." (Paper Products)
  • "The sudden increase in customer demand, plus the low inventories held at services centers, is causing a shortage in the supply of raw steel." (Transportation Equipment)
  • "[It] appears customers' inventories are getting low, and they are cautiously placing orders." (Apparel, Leather & Allied Products)
The components of the survey are also improving, where those circled are very positive, i.e., conditions are improving at a quickening rate. Notably the employment index is still very low, however, consistent with the nonfarm payroll report, the labor market is contracting less quickly.

Still a ways to go before we can break out the champagne – I would like to see industrial production numbers to go along with the survey responses. And remember, expanding is what it is – all one needs is a little growth. From the bottom, that’s relatively easy to get.


Rebecca Wilder