imports

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Inflation, Jobs and Trade: Yawn!

If we are looking for gripping stories now that the epic Chilean mine rescue is successfully complete we should avoid the economy. Dull dominates the scene everywhere there.

There are three reports to note, none great.

First, producer prices rose at a 0.4% rate last month. That appears to be quite a jump at first sight, and potentially a portent of higher consumer prices down the road as businesses pass this jump along in the form of higher retail prices. Not so fast! The largest component of the increase was in the notoriously jumpy energy cost index where natural gas prices rose dramatically. Since energy prices are always volatile the September increase needs to be adjusted to look at the underlying trend if we want to predict the possible trajectory of consumer prices. There find a different story. Non-energy producer prices edged up only0.1%, which makes it 7 out of the last 10 months that we have seen that low an increase. Clearly there is no need to be worried about a burst of inflation around the corner.

This is important because the Fed is very close to launching a new round of quantitative easing and one of the sources of concern for the Fed has been the low level of price inflation which is now well below their target range. It is ironic that the Fed has to be worried about inflation being too low. For those of us who have followed the Fed for a while the persistent drum beat from policy makers has been the fear of rampant, not non-existent, inflation. Such is the jolt to normality this crisis has delivered that we find ourselves in this new, and strange, policy world.

The second report of note today was the weekly data on new claims for unemployment assistance. The markets all obsess over this data not just because it is issued weekly, but also because it gives us such a good insight into the employment, and hence, business conditions situation. So much for that. Today’s report was something of a shock: claims rose 13,000 on top of a 4,000 upwards revision to last week’s number. This is not good however you explain it. Clearly the economy is drifting without any clear momentum. But we knew that already. One of these days something will break. But without the political will to set a more urgent policy agenda, I strongly advise not holding your breath.

Lastly, trade. The latest figure we have is for August – trade numbers always take a while to collect – and it is not good. The trade gap widened sharply to $46.3 billion on the back of a surge of imports from China. That surge took Chinese exports to the US to a record of $28 billion for just one month. So there is no let up in the trade problem we have with China which will fuel anger in Washington, and could stoke even the supine Obama administration into action. Or more likely discussions about potential action. The significance of the trade gap widening in this way is that it could cause third quarter GDP to come in at an even lower pace than we all thought. Recall that one cause of the sluggish second quarter pace was that imports had grown strongly. Back then we all thought that the second quarter surge was a one time adjustment associated with inventory corrections. The July figures appeared to support that notion. Now, it seems, it is July we need to look at as the odd month, and thus we need to alter our view of the impact trade will have.

If this pace of imports keeps up we should downgrade our expectations for the third quarter GDP. Since I didn’t have high expectations to begin with I will stick with a 1.5% to 2.0% range as my estimate. But given the continued mediocrity of today’s data that may quickly become optimistic.

I hope not.

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Snippets: Columbus Day Style

Well the grumpy mood continues after the recent IMF meetings, and the economy lingers in the penumbra not quite sure whether to surge into sunlight or scuttle back into the dark. These are strange times. So, in no particular order some snippets from today’s news:

  1. The Nobel Prize for economics was awarded over the weekend to three economists who all worked on issues to do with unemployment. Obviously they didn’t come with a fix. But, hey, who said that economists have to get their hands dirty in the real world? Anyway: Peter Diamond of MIT; Dale Mortensen of Northwestern; and Christopher Pissarides of the London School of Economics [yea!] all have written extensively on the way in which unemployment can persist even in healthy economies. Presumably all three deserve the prize, although I must admit that my cursory reading of some of Diamond’s work this morning left me decidedly unimpressed. His contribution seems to be more a tweak of the already insanely irrelevant macroeconomics models that dominate policy making, rather than anything startlingly new. Which reminds me: far too much work that is considered “breakthrough” in economic theory is simply a statement of some commonplace knowledge. The breakthrough then consists of the revelation that the real world bears little of no resemblance to the fantasy world of orthodox economics. Basically economists need to get out more and live a little. Then they would not treat these breakthroughs as being of any consequence. I mean: is it really stunning that wages do not instantly change in the face of unemployment increases? Or that workers are not always unemployed voluntarily? Or that technology may have something to do with economic growth? The list goes on. Economics is a shambles and an embarrassment. That markets don’t work well all the time should not be prize worthy thinking.
  2. Oh, and that “Nobel Prize” is not actually a Nobel Prize. Technically it is an award sponsored by the Swedish Central Bank, and is only administered by the Nobel committee. Economists yearn to be treated as true scientists, and so elide the reality of the prize. Which is odd given their predilection for pseudo precision in their theorizing.
  3. Those IMF meetings ended in official accord, but in unofficial discord. The problem is the looming trade and currency war. As countries realize the depths to which we have sunk, courtesy of the big banks, they are reaching for ever more desperate counter measures. Sooner or later a trade war was likely. This is particularly true when we consider China and its persistent rigging of its currency. The spat between the US and China will only get more heated. Ultimately the Chinese are going to have to allow their currency to rise in value. Their position right now hurts not just the US but all its trading partners: China, by fixing its currency value to the dollar – unofficially – prevents the normal process of adjustment to occur when a surplus or deficit opens up. That normal process is the revaluation of a currency in order to maintain balance between two trading partners. In our case the dollar should fall and the remnimbi rise until the bilateral trade deficit is eliminated. That is to say that goods manufactured using remnimbi should rise in price when their cost is translated into dollars. That reduces Chinese competitiveness here in the US and therefore reduces the trade gap between the two countries. By refusing to allow that adjustment, the Chinese are artificially inflating their export businesses at the expense of their domestic businesses. In effect they are exporting unemployment. Since unemployment is our number one issue their position is becoming untenable from our point of view. Hence the tension. Multiply this problem across many countries and many trade imbalances and we quickly enter the twilight zone of trade war. The problem is, of course, that no one really wins in such a war since everyone tries to outdo the other. A “race for the bottom” ensues that culminates in the loss of trade, and jobs, for everyone. This is something we all need to avoid. Trade is essential for global wealth creation since it allows resources around the world to be more advantageously employed than would be the case were everyone to meet local needs only from local resources. This general rule of comparative advantage is well established in economics, but is routinely forgotten and set aside. It is also one that needs constant vetting to ensure it does not open up the possibility of exploitation. We have a system of rules that govern trade and attempt to even pout the playing field, but those rules are too often tilted to favor the more advanced nations at the expense of the poorer economies. Nonetheless trade has its benefits and is worth protecting from the kind of rigging practiced by the Chinese.
  4. Krugman makes a fine point this morning: there is much talk in the media about increasing “big government” under Obama. The problem is that the facts do not support the claim. In fact there are about 350,000 fewer government workers now than when he came into power. The problem is that most of this reduction is at the state and local level – mainly teachers, police, and fire workers fired to help state budget cuts – and so the illusion of bigger government pervades at the national level even though it is fictional. When we look at the “big” programs of the last few years, the biggest expansion of government spending was the defense and Medicare programs of the Bush era. Bush was also responsible for bailing out the banks and TARP. The only new programs under Obama have been health car reform, which hasn’t kicked in yet and so hasn’t enlarged government; and the stimulus of early 2009. The stimulus didn’t increase government either, since most of the cash went into tax cuts or state and local government aid. There are no new government jobs programs and no government departments have expanded. Which only goes to show how effective the fact less and made up claims of the Republicans have been able to stick. Alternatively it also shows how ineffective the Obama team has been in communicating what it is doing. It is tough to run a good democracy in the absence of truthful information. Voters need to be better informed if they are to avoid making mistakes. Don’t hold your breath.
  5. Next, the banks continue to whine about the undue attention they are getting from regulators. Tough. They are responsible for the crisis, and, in my opinion have not yet paid for the problems they created. On the contrary regulators have trodden lightly compared with what should have been done. Nowhere have the mega banks been broken up, which is the single solution to the instability of finance. Nothing remotely draconian has been done. So-called stress tests were hardly stressful. Capital increases have been mandated, but will be implemented at a snail’s pace, and appear too low in any case. Bonuses are being attacked, but there is no international coordination mainly because the US is seeking to protect bankers who are very large campaign contributors to both parties. So banker power is still way too high for the safety of the global economy. Nonetheless bankers cry foul whenever their pay is called into question. I would too were I still in the industry. One interesting snippet today coms from the Financial Times Op-Ed page. The issue is this: should we force bankers to be paid their bonuses in stock options. In theory this ties them to the bottom line and should force them to behave less anti-socially. But: stock options have no value when the strike price is below market price. In this circumstance the incentive is perverse. Options out of the money can be forced back into value by reckless behavior. Workers who see their options without value may follow even more risky deals in order to pump up profits. It is interesting to note that the two biggest failures of the crisis: Lehman and Bear Stearns, both had very large management participation in their respective stocks. Both gambles recklessly in order to restore stock values for management. Not such a good idea. So maybe we need the payment of bonuses to be in the form of debt. Put management on the same footing as the secured creditors. That would eliminate equity participation and thus the incentive to pursue risky strategies and, at the same time, force managers to take a long term view.
  6. Oh! Wait. That won’t work either because banks are always bailed out and their creditors thus protected. So there would be no better alignment of incentives and bankers would still be able to trash the economy without punishment. That’s why we need to break the banks up and make them insignificant. That way they can fail, which is what the deserve if they are incompetent the way Bear Stearns and Lehman were. My problem is that the others, the ones we bailed out, never learned their lesson. They are still gambling away merrily and relying on us to create the conditions in which they can make big bonuses for themselves. Our safety net reduces investor risk and thus funding costs. This widens spreads and thus profits. We, the taxpayers, are underwriting those bonuses. The bankers are not earning them on merit. They are earning them on welfare. A nice scam if you can get in on it. And they still whine. What children. They should grow up and act as smartly as they keep telling us they are – without the training wheels.

Food for thought.

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Jobs; Trade; Banks … Ho Hum And Bun Fights

This is getting dull. Really dull. The economy refuses to shift gears. Wall Street twitters on about nothing in particular. Central Bankers are even more confused and surly than usual. Businesses are sitting on piles of cash and complaining that no one cares about them. Banks are in a snit over being asked to play nicely. Consumers have all but disappeared. Government policy makers wring their hands and smile at the same time. The dark clouds of currency wars have rolled into view. And we go nowhere fast.

Welcome to the crisis part 2.

Oh: the very slightly good news is that new claims for unemployment assistance fell again last week. Whoopee. The drop was by 11,000 all the way to 445,000, which, in normal times, would be viewed as hopelessly inadequate, or a mere blip not worth mentioning, but was the reason that Wall Street roared briefly to life this morning. We exist – I won’t dignify our current state by using the word “live” – in such diminished times that even the most modest step in the right direction can be viewed as a triumph of the first order. Our era has so perverted our language that we no longer can use the word “modest” without feeling slightly apologetic. Personally I blame corporate America for its incessant hyperbole that has undermined the value of words that used to mean something.Modest used to mean, well, modest. Now it means a mix of useless and wimpy. Thus when we run into a putrid performance we have and reach for a proper descriptor we are apt to bring pablum out of our bag. This ends up confusing everyone, and allows the incompetent folks who buy and sell stocks for a living to justify anything. Thus today’s new claims data, which can only be described as the greyest of greys, is greeted in the manner once reserved for the returning Caesars of Rome.

My advice: ignore the hoopla. The claims number represents one of a long series of indifferent and indistinguishable data points, none of which tells us much other than that our malaise continues. Allow me to repeat: we need that claims number to be under 400,000. Better yet, we need it to drop to the mid 300,000 range before we reach for the celebratory fireworks.

Meanwhile ignore Wall Street. Remember they are the folks who trashed the place in the first place. The one fact we have at present is that they know nothing worth our learning.

In other news we are reading a great deal about the brewing trade and currency wars about to blight the world.

The reason is simple: practically every government facing a domestic crisis has written into its escape plan that it will grow out of crisis by pumping up exports. Those of you with an eye for detail will notice that there is a slight problem with this. Someone has to import. Not everyone can export. Whoops. In the old days the game was extremely simple. Japan, Germany, and China exported. The US and the UK imported. That meant that German, Japanese, and Chinese workers lived below their means while Americans and Brits lived above theirs. A better way to look at this is that the Germans, Japanese and Chinese exported unemployment by deliberately under-consuming goods that they made. The surplus was sent abroad. Further: the spare cash that this generated for those economies was recycled back into the US and UK where it pumped up asset prices. This “surplus” of savings on world markets created by the deliberate under consumption in the exporting nations was a major factor in the real estate bubble. At least that’s one theory doing the rounds. Bernanke is a leader of that train of thought.

Now, in the depths of crisis, the importers need to rebalance their economies and reduce the import inflow. But that implies the exporters have to adjust as well. Therein lies the source of tension. The exporters do not want to change their game. Too many local jobs depend on trade. In the case of China, whole industries depend on it, which means millions of recently displaced agricultural workers do too. That’s a big social problem waiting to burst if exporters have to change course. China’s middle class is insufficient to buy all those goods. At least not yet. So they need to keep on exporting. To us.

Which is why they rig their currency and try to play beggar-thy-neighbor with the rest of the world, and particularly with the US. If China were to allow its currency to float by unfixing its relationship with the dollar, it would be revalued upwards. That would make Chinese goods more expensive in foreign markets like the US and would thus reduce their exports. The displaced goods would have to be sold internally within China or those factories would have to close down. Either way the adjustment could be difficult. It would cramp Chinese growth which has averaged 8% a year for a while now. A slowdown from that pace would – potentially – hit their agricultural and poor workers the most since it would remove their opportunity to earn higher wages. The result? Civil unrest. The entire structure of the Chinese elite would feel the strain. It has already been hit by waves of strikes as workers lobby for better conditions and wages. Add in the loss of export industry jobs and the country gets shaky quickly.

Hence the current stand off.

Of course this scenario is being played out across the globe as countries seek to devalue their currencies to dampen Chinese and other exports and boost their own. It is particularly acute in Europe where the German refusal to rebalance their economy is weighing heavily on places like Spain. Since Spain and Germany use the same currency the poor Spanish cannot devalue. They have only one option which is to throw themselves into massive austerity programs. The Germans meanwhile preach such austerity, apparently oblivious that their failure to boost domestic demand created the excess cash that blew Spanish real estate into its bubble – all those German second homes on the Mediterranean coast, not to mention the tourists and their wads of Euros – and is now exporting unemployment along with those BMW’s.

I won’t mention the dire straits the poor Irish are in. Suffice to say that they make the Icelanders look like amateurs when it comes to self destruction.

So, all of a sudden, attention worldwide is on how to rebalance the flow of trade so that excess cash doesn’t slop about creating bubbles, and the exporting nations don’t foist unemployment on everyone else. The recipe for a full blown trade war is nearly complete. Which is very worrisome, since one of the factors that made the Great Depression truly “great” was the trade war of the 1930’s.

And, finally, on a more comical note: the banks are at it again.

This time they are all in a huff over the new capital regulations introduced by the folks in Basel, which is where the organization that dictates these things is based.

The banks argue, rightly, that higher capital implies less credit available. This is correct because capital is held in proportion to assets. So if that proportion is forced higher, the banks have two choices: they can raise more capital and not deploy it as loans; or they can keep their current capital, and reduce the amount of loans from where they now are. Either way the level of lending will drop. The entirely neutral analysts at Goldman Sachs tell us that the drop could cut about 1% off of GDP over the next few years. Conveniently we are not told how much GDP was destroyed by the excess lending of the last few years – that would mess up the story. In any case, the bleating from the banks is now very loud. Fewer loans means lower profits. And we all know what that means: lower bonuses. So I think we can ignore the warnings of lower GDP and cut straight to the one thing we know they care about: that fifth New York apartment. Or: how awful that they might have to forgo the Hamptons home and the Aspen retreat. How mean spirited of us to force such choices on the poor dears. Now this is a true national policy issue.

Not really.

A cursory review of Hyman Minsky and his financial instability hypothesis tells us that less lending is a very good thing. It reduces long run volatility because more of the economy’s wealth relies on equity funding and not debt. That makes it less susceptible to the swings of interest rates and thus more stable. This is good. Very good. The cost for getting this stability is that we will generate less wealth on paper. GDP will, indeed, grow less quickly. But, as we recently learned, wealth that relies on debt is often an illusion – just as illusory as Lehman’s asset values were.

Frankly we could do with less illusion and more reality. Hence we should gird ourselves to ignore the weeping and wailing of Wall Street, even if they have a technically correct point. After all our economy is not theirs to play with. It’s ours.

Not only that, but we want it back.

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GDP Revised Sideways; Jobs Edge Up

Todays has seen a little flurry of news, so lets’ just take a look:

The latests revision of GDP was released, and showed practically no change. At 1.7%, GDP growth was mediocre in the second quarter to say the least. The details are worth looking at because they give us insight into the probable course of the third quarter.

  • Personal Consumption contributed +1.5%
  • Investment contributed 2.9% [Fixed Investment being +2.1%; Inventories being +0.8%]
  • Net Trade contributed -3.5% [Exports grew 1.1%; offset by Imports growing 4.6%]
  • Government Expenditures contributed +0.8% [Federal growth being +0.7%; State growth being +0.1%]

The clear story here is that consumption is growing slowly, certainly not enough to push the economy out of the doldrums, but enough to prevent the onset of renewed recession. Add in the growth in investment, particularly in fixed investment, and the basic private sector is chugging along at a slow but decent pace. One spot of concern is that we have reached the end of the inventory cycle, so the addition to growth from that activity is declining quite sharply from the levels we saw at the end on 2009. That’s fine as long as fixed investment takes up the slack as it appears to have done in the second quarter, but we need to keep close watch on this in the coming months.

The other big news was the big shift in trade. Exports ticked up moderately which reflects the recovery going on around the world. Unfortunately there was a very large growth in imports that swamped exports and took a lot of the steam out of GDP overall. A couple of things seem to be going on there. One is that importers of finished goods appear to have brought in an unusually large amount of goods, possibly to re-stock shelves in anticipation of growth, all at once. Another is that the pick up in GDP generally always has the effect of sucking in things like oil: as the economy moves up a notch, so too do such imports. I doubt that the surge in imports will be repeated in the third quarter, so that alone will tend to boost GDP beyond its second quarter level.

The last factor to note is that government spending at the state level shifted into a positive gear, albeit at very low levels. One thing I try to point out relentlessly is that government spending at the Federal level is stimulative – its adds growth – but at the state level it has been negative as states try to balance their budgets. So much of the stimulus that attracts the eye of voters and media alike has been offset or neutralized by this state level contraction. In effect the states have worked against the Federal government and its effort to get the economy going. This is one reason that I have advocated allowing states to run deficits and have the Feds write checks to pay for them. That way local services and jobs are not sacrificed, and the national stimulus is not neutralized. I doubt that the positive shift at the state level can be maintained for long and thus expect the local drag on the economy to re-assert itself either this quarter or next.

Overall, this report is a sideways revision from the last release of data. We learned very little we didn’t know already. The economy is not declining, nor is it brimming with health. Most importantly there is no sign of sufficient health to get job creation out of its cellar dwelling existence.

Speaking of which:

Today’s release of the weekly numbers on new claims for unemployment assistance was a modest pleasant surprise. New claims declined by 16,000 to 453,000. While the absolute level is still way too high for this point in a recovery, we should acknowledge the modest progress. This is the third week of very slight improvement, which is better, obviously, than the alternative.

Nonetheless, businesses are now reporting weaker sales forecasts and are reacting by downgrading their hiring expectations. This is just awful news.

The entire outlook hinges on business expectations. As long as the prospect of weak demand lingers, so too will the prospect of a poor job market. Eventually the two interplay with each other and the poor job market creates the conditions in which businesses see poor sales. The economy is operating well below its potential, which is based upon the amount that could be produced were we at full employment and businesses were producing at or near full capacity. The gap between where we are and where we could be is now between 6% and 8% of GDP. That’s almost $1 trillion in lost wealth this year alone. Assuming that it will take us a while to get back to close to potential, this recession will end up costing us more than $6 trillion in lost wealth. We should be willing to spend, and borrow if need be, in order to reduce that lost wealth total. That’s one reason why people who wring their hands about the cost of the stimulus are wrong: they are looking only at the cost. They ignore the payback from that debt. The payback being the decrease in wealth lost as we recover.

The social benefit of stimulus far exceeds the social cost. We should think of it as an investment in our future. As long as the job market stays in its current funk we should be willing to endorse any plan to get it moving. If that means borrowing, so be it. The benefits outweigh the costs. By a lot.

I am tired of saying this: we need more stimulus.

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Not So Bad

I have been arguing all along that we will avoid a double dip recession. I must admit I have been concerned throughout the summer as the news became relentlessly poor. But I still maintain that, while GDP could be weak over the next few quarters, we are going to keep on growing. Not that it matters much if we don’t create jobs.

Today we have two reports that support my “weak growth” forecast:

New claims for unemployment assistance declined by 27,000 last week to 451,000. This was a larger drop than most analysts has expected so it generated a modest positive buzz around Wall Street. My take is that we should simply yawn. As I have said here before the entire summer of this data series has been messed up by the oddity of the seasonal adjustment. The big US auto makers kept a full complement of workers throughout the summer instead of furloughing as usual. That skewed the numbers because the government applies a seasonal factor based upon history before it releases the data. So just as the early summer figure was worse than the underlying raw data suggested the late summer data will be somewhat better. We have to wait another week or so before we can identify real trends.

What we can say unequivocally is that the numbers are way off where we need them to be. Setting aside the quirks of adjustments we know that any figure higher than 400,000 id simply not good enough. Clearly the job market is stuck in the doldrums and shows little sign of breaking out.

The other middling-to-good news was the monthly trade report which showed a much reduced deficit on the trade balance. If you recall the last GDP numbers were strongly reduced by a surge in imports that chopped a significant percentage off domestic growth. I reported at the time that the import surge looked to be a one time phenomenon and that the third quarter should benefit from a return to a more normal path. So the news that July’s deficit shrank by 14% to $42.8 billion is not a great surprise. Imports dropped by 2.1% to $196.1 billion, while exports jumped 1.8% to $153.3 billion, their highest level in a year.

What do we make of the trade figures?

There are three points to note:

First: the export number clearly reflects the worldwide economic revival earlier this year. Unfortunately, as the OECD just reported, that global recovery is starting to show signs of wear and is likely to fall away over the next few months. US exports will therefore drop slightly and may not be able to keep up July’s improvement.

Second: the export number included a strong set of order figures for the aircraft industry, Boeing in particular did well. These orders tend to be highly “chunky” and thus volatile. So we should look for a drop in the export figures next month simply due to that chunkiness.

Third: and this was my point last month, the import figure dropped due to the oddity of the surge in June when importers appeared to have re-stocked aggressively. Because of this surge, July was almost certain to be better than June under any circumstance.

Take these three factors together and we are forced to take a more moderate view for trade. While it’s nice to see a shift, we have to expect only modest improvements as the year goes on and not a continuance of July’s sharp change.

What this implies is that third quarter GDP will be lifted by the reduction in the trade deficit – just as the second quarter was depressed by it. This pick up in trade will offset some of the slowdowns we are expecting in other sectors and thus GDP could increase.

As I said at the beginning: this simply supports my forecast of weak growth. If everything holds up the way it is now – a big if I agree – then third quarter GDP will be positive and higher than the second quarter number of 1.6%. This leaves growth well below the threshold of around 2.5% at which level we usually see improvements in unemployment. In other words we will continue to recover from recession, and yet continue not to feel as if we are.

That’s not good. But it could be worse.

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