The “Great Moderation” Lives

There’s an important paper you ought to read by an “only in America” pair of economists–one from France and one from Ukraine–who teach at US universities on the east and west coasts (William and Mary for Prof. Coibion and UC-Berkeley for Prof. Gorodnichenko). It’s short, fairly easy to read and is based on their longer and more complex article on the same topic, which will be in a forthcoming issue of the American Economic Review.

They conclude that we are likely to see a return to moderate growth with low inflation for many years to come as a result of better monetary policy since the Paul Volcker-led FOMC dramatically reduced inflation in the 1979-1984 period. Of course, it took two dramatic recessions (the 6-month one in 1980 and the 16-month one in 1981-1982) to accomplish the goal.

Since my long-term forecast is also for moderate growth (3.2 percent a year over the next decade) and accompanying low inflation (1.1 percent a year over the same horizon), this article resonates with me. I hope you enjoy it.

Consumers: Can Bad News Be a Harbinger of Great News?

On October 27 the Conference Board told us that their measure of consumer confidence fell from 53.4 (1985=100) in September to 47.7 in October. Even worse, the part of the index that measures what consumers think about current conditions fell to 20.7 from 23.0 in September, the lowest since the 17.5 of February 1983.

Both these results are undoubtedly due to the high rate of unemployment. That was 9.8 percent in October compared to 10.4 percent in February 1983. Click here to read the full post and comment (Insights subscribers) »

Update to the Outlook

This piece was written for a customer who deemed it too long for his use. So, since I hate to waste 2000 words–enjoy! Regular readers will note that there is some repetition here for you, but that’s because you’ve already learned this stuff while new clients haven’t.

It’s a hard cruel world out there with much economic turmoil and concern. Since August 9, 2007, the day that the huge French bank BNP Paribas (one of the 10 largest in the world with assets in excess of $1.3 trillion) told owners of shares in three of its mutual funds they could not redeem them “because we own bonds based on U.S. subprime mortgages that we can’t put a value on right now,” financial panic has spread around the world.

Nothing makes an investor madder or more scared than being unable to cash out his or her investment from a fund. This problem has recurred many times throughout history. A comprehensive documentation that is also a most delightful and interesting book to read is Manias, Panics, and Crashes: A History of Financial Crises (5th Edition) by Charles P. Kindleberger and Robert Aliber (ISBN 978-0-471-46714-4). This wonderful book, which has always been a huge hit with my MBA students in the several second-year elective courses when I’ve used it, covers the history of financial panics around the world from Kipper-und-Wipperzeit of 1619-1622 and the Dutch tulip bulb episode in 1636-1637 through the Asian collapse in 1997 as well as the Russian default and the collapse of Long Term Capital Management in 1998 and the corporate scandals of 2001-2003 (Enron, Worldcom and so on).

The Wall Street Journal had a lead editorial on September 16, 2008 (“Surviving the Panic”) referring to the usefulness of this book in understanding the current situation. You’ll feel better if you get a copy of the book and peruse it carefully.

Few people were sorry to see 2008 pass into history at the stroke of midnight on December 31. Many will be happy to see the end of 2009 as well because it has seen the largest decline in global economic output and international trade since the end of World War II.

The International Monetary Fund (IMF) in its October World Economic Outlook expects world output to shrink by 1.1 percent in 2009 after having grown 3.0 percent in 2008. They expect global growth of 3.1 percent in 2010 and for growth to average 4.4 percent a year in the 2011-2014 period. Click here to read the full post and comment (Insights subscribers) »

Yes, We’re Definitely in a Recovery, But…

In the jargon of business cycle analysts, economies are in expansion until they hit a peak (that was December 15, 2007) and then in a recession until they hit the trough. The evidence from the four-week moving average of first-time (initial) claims for unemployment insurance, which still shows a peak for the week ended April 4, 2009, points to May 15 as the trough. Other forecasters prefer June, July or even August 15, but in any case the overwhelming majority of forecasters believe we are now past the trough or bottom of the recession.

Business cycles by definition run from peak to peak with only one trough. That makes a “W,” which would have two troughs, impossible.

Some people refer to the recession that lasted from January to July, 1980 and the one from July 1981 to November 1982 as a single “W” experience, but that is just wrong. There were two separate recessions separated by one year of strong growth.

A “recovery” is the part of an expansion that tracks from the trough until all the ground lost in the recession has been made up. In this case, that could take a very long time.

The new data that revised GDP all the way back to 1929 show that real GDP, which is now measured in 2005 dollars, peaked in the second quarter of 2008 at $13,415.3 billion. After four consecutive quarters of decline, a record for the period since the advent of quarterly data in 1947, real GDP stood at $12,892.4 billion in the second quarter of 2009. That’s a plunge of $522.9 billion or 3.9 percent from the peak. That’s the deepest recession since 1937-1938 and thus the worst in the memory of all but the very oldest people in the US.

The overwhelming consensus is that it will take at least until the end of 2010 to make up that decline. Many forecasters expect it will be 2012 or 2013 before we see new economic records being set. Click here to read the full post and comment (Insights subscribers) »

Don’t Bet On Anyone’s Forecast

If you want to be thoroughly befuddled about where the US economy is going, just ask three or more forecasters. Any experienced professional who tells you that he or she is quite positive about the path of the US or global economy over the next two or three years should be looked at with a very jaundiced eye.

In a recent survey of 43 forecasters, only eight of us did not have negative numbers for real GDP this quarter and two of these people had a highly improbable (it’s only happened once in our 237 quarters of history) 0.0 as their prediction. For the thrid quarter, only 11 people had a negative number and only four people expected a negative number for the fourth quarter of 2009.

Over the year ending in March 2010, the range was from a drop of 1.9 percent to an increase of 3.2 percent. That’s my forecast and I’m sticking to it, but you should be aware it’s one of the most optimistic out there.

A similar split showed up in the survey released by the National Association for Business Economics (NABE). There were 45 of us in this panel. The median forecast was for a drop of 1.8 percent this quarter and increases of 0.7 percent and 1.8 percent for the third and fourth quarters respectively. The five lowest forecasts were for -4.2 percent, -1.8 percent and 0.0 percent for those three quarters. The five highest were 2.8 percent, 3.3 percent and 4.0 percent for the same three quarters. That’s a huge split. Click here to read the full post and comment (Insights subscribers) »

In Defense of Chirpy Forecasts

The March 30 edition of Newsweek had an article by Kenneth Rogoff and Carmen Reinhart entitled, “Don’t Buy the Chirpy Forecasts.” He’s a professor at Harvard and a former, well-regarded chief economist for the IMF. She’s a professor at Maryland. They have a forthcoming book, This Time Is Different: Eight Centuries of Financial Folly, which sounds interesting. Related work can be found on Rogoff’s Harvard faculty contact page.

Here’s their main point: “The recessions that follow in the wake of big financial crises tend to last far longer than normal downturns, and to cause considerably more damage. If the United States follows the norm of recent crises, as it has until now, output may take four years to return to its pre-crisis level. Unemployment will continue to rise for three more years, reaching 11-12 percent in 2011.”

As you know, I put a great deal of emphasis on historical precedents. My favorite book on this subject remains Manias, Panics, and Crashes. Reading it should convince you that we’ll only have such a dire outcome if policymakers make mistakes as bad as those their predecessors made after the Panic of 1907 (the Federal Reserve System
wasn’t created until December 1913) or in 1929-1932 (there was no bank deposit insurance, the Fed allowed the money supply to shrink by 1/3, Congress enacted the catastrophic Smoot-Hawley tariff and kept raising taxes as government revenues declined). Click here to read the full post and comment (Insights subscribers) »