Archive for the Category Forecasting


No workers = no growth

Today’s jobs report showed the unemployment rate falling to 4.3%.  That’s lower than at any time during the housing boom.  It’s almost as low as the peak of the tech boom.  Indeed, other than during a brief period around 2000, it’s the lowest unemployment rate since the 1960s.  Even the U-6 rate is back to the levels of the summer of 2006.

So we must be producing lots of jobs, right?  No, payroll employment rose by just 138,000 in May, well below the pace of the previous 7 years.  Yes, one month is not significant, but job growth over the past three months has averaged only 121,000. Companies cannot find workers.

In 2018, we’ll look back on these job gains as boom numbers, as things are going to get even worse.  And if Trump cracks down on immigration, growth will slow to a near standstill.  The second quarter GDP numbers are expected to be strong, but don’t be fooled by that (seasonal) head fake—we are entering a very slow growth period.

After Trump was elected there was a big “reflation trade” and the 10-year bond yield rose to over 2.6%,  Today it’s down to 2.17%, as the yield curve gets flatter and flatter.  At the time, I thought people were forgetting about monetary offset. But even I missed the fact that Trump was too incompetent to get his supply side package through Congress.  I expected a few tenths of a percent more RGDP growth, now I doubt even that.

So why are stocks doing well?  In my view it’s the same story as what we’ve seen since 2009:

1.  Markets are gradually realizing that ultra low interest rates are the new normal.

2.  In the “FANG” economy, American corporations don’t need fast growth to make big profits.


1. This will end up being the longest economic expansion in American history.

2. This will end up being the weakest economic expansion in American history.

3.  Interest rates will stay low.

4.  Unemployment will fall to 4%.

5.  Inflation will stay low (because the Phillips Curve model is wrong.)

6.  Janet Yellen will end up producing the most stable rate of NGDP growth of any Fed chair in American history.

PS.  Unlike during 2008-14, there’s nothing wrong with the current stance of monetary policy—the problem is the regime.


Lars Christensen’s new market monetarist newsletter

Lars Christensen has a new newsletter called the Global Monetary Conditions Monitor, which I highly recommend for people interested in international monetary policy.  It is by subscription at this link, but Lars is allowing me to quote from the newsletter.  (There is a discount for academic users and think tanks.)

Lars has constructed a monetary conditions index for a wide range of currencies. This basically measures whether the current stance of monetary policy is too easy or too tight to hit the target.  (A value of zero means right on target.)

On pages 8 and 9 of the May issue there is a discussion of policy credibility:

The approach here is to evaluate a central bank’s credibility based on our monetary conditions indicators.

We consider a central bank to be credible if it succeeds over time in keeping the monetary indicator close to zero. This can be measured by how long each central bank keeps the indicator within a range between -0.25 and 0.25 over a rolling five year period. This also means a central bank’s credibility can and will change over time.

By this criterion, the central bank of New Zealand has the highest credibility:

This can be illustrated by looking at developments in New Zealand over the past five years.

If monetary policy is (highly) credible, we would expect monetary conditions to be ‘mean-reverting’ – meaning that if the monetary conditions indicator is above (below) zero, we should expect it to decline (increase) in the subsequent period.

This is precisely the case for New Zealand. The graph below shows monetary conditions in New Zealand six months ago and how they changed over the following six months.

The line should go through zero, with most of the points being in the upper left and lower right quadrants.  To give you a sense of what a lack of credibility looks like—consider Turkey, one of the least credible central banks:

Maybe Lars will eventually incorporate the Hypermind NGDP forecast into his analysis.

Hard data beats sentiment in Q1

For the past 3 months there’s been a raging battle between the Atlanta Fed and the New York Fed.  The Atlanta Fed relies mostly on hard data when predicting GDP growth, whereas the New York Fed puts relatively more weight on consumer sentiment.  Republicans became much more optimistic after Trump was elected, so the sentiment indicators pointed to much stronger growth than the hard data indicators.  The following graph shows the huge divergence that developed in recent weeks:

Screen Shot 2017-04-28 at 10.14.15 AMThe actual growth was only 0.7%, which was much closer to the bearish Atlanta Fed’s 0.2%, than the New York’s Fed’s bullish 2.8%.  This reminds me a bit of the post-Brexit vote growth in the UK.

I don’t like either hard data or sentiment; I like market forecasts.  Unfortunately we lack a NGDP futures market (I’m working on setting one up again, and will have an announcement soon), but we do have some market indicators.  The preceding graph and the following quotation were from an April 12 article:

Tying in with the earlier point, the rally in the ten-year bond is consistent with the Atlanta Fed’s forecast for low growth in Q1.

So the bond market seemed to sense that growth was weakening.

Is it too early to attribute any of this to Trump?  I’d say so.  But the Trumpistas all crowed in early February when the strong January jobs report came in.  This was attributed to the magic powers of Trump, despite the fact that he had not even taken office when the January survey was conducted.  I don’t know how they’ll reconcile this GDP report with their dreamy predictions of 4% growth as far as the eye can see, but I’m sure they’ll think of something.

There’s likely to be some bounce back in Q2 (poorly measured seasonality depressed Q1), but I’m sticking with my view that America’s new trend RGDP growth rate is 1.2%, or 1.5% if Trump succeeds in getting his supply-side reforms passed.

PS.  Core PCE is up 2% over the past year, so the Fed is hitting both its price and employment targets.  For the moment, they are fulfilling their dual mandate. That’s a problem for Trump, who needs some Arthur Burns-style recklessness to paper over his personal incompetence when it comes to developing supply-side policy reforms.

Update:  I got the core PCE inflation data from the FT.  Ant1900 points out the true figure is 1.7%, still below target.

PPS.  I have a new post at Econlog explaining job shortages.

Print the legend

As I get older, I become increasingly interested in the mythological folktales that are believed by most economists.  For instance the idea that LBJ refused to pay for his guns and butter program, ran big deficits, and kicked off the Great Inflation.  All you need to do is spend 2 minutes checking deficit data on FRED to know that this is a complete myth, but apparently most economists just can’t be bothered.

Screen Shot 2016-05-04 at 10.23.16 AMDuring the 1960s, the budget deficit exceeded 1.2% of GDP only once, in fiscal 1968 (mid-1967 to mid-1968.  LBJ responded with sharp tax increases in 1968, and the deficit immediately went away.

The LBJ guns, butter and deficits story is too good to drop now, it’s in all the textbooks. It would be like admitting that the textbooks were wrong when they tell students that the classical economists believed that money was neutral and that wages and prices were flexible.  We can’t do that, it’s too confusing.

Another one I love is that monetary policy impacts the economy with “long and variable lags”.

I’ve talked about this before, but today I have a bit more evidence.  The idea that monetary policy affects RGDP with long and variable lags has three components, one or more of which must be true for the theory to hold:

1.  Monetary policy affects NGDP expectations with a long and variable lag.

2.  Changes in NGDP expectations affect actual NGDP with a long and variable lag.

3.  Changes in actual NGDP affect actual RGDP with a long and variable lag.

All three are false.  The third claim is obviously false; NGDP and RGDP tend to move together over the business cycle.  So the entire theory of long and variable lags boils down to the relationship between monetary policy and NGDP.

The first claim is also obviously false, as it would imply a gross failure of the EMH. Now the EMH is clearly not precisely true, but it’s also obvious that market expectations respond immediately to important news events.  Even EMH critics like Robert Shiller don’t claim that an earnings shock hits stocks two week later; it hits stock prices within milliseconds of the announcement. That part of the EMH is rock solid.  There is no lag between policy shocks and changes in expectations of future NGDP growth.

So the entire long and variable lags theory rests on the second claim, that NGDP responds with a lag to changes in future expected NGDP.  Unlike the first and third claim, that’s possible.  But it’s also highly, highly unlikely.  While we don’t have an NGDP futures market, the markets we do have strongly suggest that markets (and hence expectations) move with the business cycle, not ahead of the cycle.

Perhaps the best period to test this theory is the 1930s.  That decade saw massive RGDP and NGDP instability, which was clearly linked to asset price changes.  Put simply, the Great Depression devastated the stock market.  Here’s the correlation between stock prices and industrial production, from my new book:

Screen Shot 2016-05-04 at 10.42.33 AMThe stock market is clearly not a leading or lagging indicator; it’s a coincident indicator.  And that’s not just true in the 1930s; it’s also true today:

Screen Shot 2016-05-04 at 10.48.03 AMThe onset of the recession lines up, as does the steep part of the recession.  The stock recovery in 2009 did lead by a few months, but the recent slump in IP led stocks by a few months.  In any case, there are no long and variable lags; it’s basically a roughly coincident indicator when there are massive changes in NGDP.

If there actually were long and variable lags between changes in expected NGDP and changes in actual NGDP (and RGDP), then forecasters would be able to at least occasionally forecast the business cycle.  But they cannot.  A recent study showed that the IMF failed to predict 220 of the past 220 periods of negative growth in its members.  That sounds horrible, but in a strange way it’s sort of reassuring.

Suppose that the business cycle is random, unforecastable, as I claim.  And suppose that declines in GDP occurred one out of every five years, on average.  In that case, the rational forecast would always be growth.  As an analogy, if I were asked to forecast a “green outcome” in roulette, I never would.  Each spin of the wheel I’d forecast red or black.  I’d end up forecasting 220 consecutive “non-greens” outcomes.  And yet, there would probably end up being about 11 or 12 green outcomes during that period, and I’d miss them all.  A 100% failure to predict greens.  Because I’m smart.

Of course if there really were long and variable lags, say 6 to 18 months, then there would be occasions where the IMF would notice extremely contractionary monetary policy, and accurately predict recessions a year later.  I’m not saying they’d always be accurate. The lags are “variable” (a cop-out to cover up the dirty little secret that there are no lags, just as astrologers cover their failures with the excuse that their model is complicated, and doesn’t always work.)  No, they would not always be successful, but they’d nail at least some of those 220 recessions.  But they predicted none of them. And that’s because there are no lags.  Because recessions begin immediately after the thing that causes recessions happens.

That’s the message the markets are sending loud and clear.  But economists can’t be bothered; they have their comforting stories. Who can forget this line from The Man Who Shot Liberty Valance:

Ranson Stoddard: You’re not going to use the story, Mr. Scott?

Maxwell Scott: No, sir. This is the West, sir. When the legend becomes fact, print the legend.

As expected, low rates for as far as the eye can see

It wasn’t expected by everyone, but MMs have been predicting this for quite some time (although they are even lower than I expected):

World markets may have recovered their poise from a torrid start to the year, but their outlook for global growth and inflation is now so bleak they are betting on developed world interest rates remaining near zero for up to another decade.

Even though the U.S. Federal Reserve has already started what it expects will be a series of interest rate rises, markets appear to have bought into a “secular stagnation” thesis floated by former U.S. Treasury Secretary Larry Summers.

Of course Summers was a latecomer to this idea; I’ve been talking about slower trend growth and low interest rates as the new normal for many years.  Tyler Cowen’s book entitled “The Great Stagnation” also preceded Summers.

If you believe the press (and many economists), this period of low interest rates represents “easy money”,  That’s right, the implied claim is that the “liquidity effect” (normally very transitory) has now lasted for a decade. And there’s more to come:

Take overnight interest rate swaps. They imply European Central Bank policy rates won’t get back above 0.5 percent for around 13 years and aren’t even expected to be much above 1 percent for at least 60 years.

Japan‘s main interest rate won’t reach 0.5 percent for at least 30 years, they suggest, and even U.S. and UK rates are set to remain low for years. It will be six years before U.S. rates return to 1 percent, and a decade until UK rates reach that level.

“Although interest rates are low, they’re not accommodative,” said Harvinder Sian, global rates strategist at Citi in London. “The era of zero rates will be with us for years and years, it wouldn’t surprise me if we’re looking at another five to 10 years.”

Sixty more years!?!?!  At least there is one guy dissenting from the view that low rates mean easy money.  It will be interesting to see how long it takes the others to figure this out.  Let’s hope it’s not 60 years.

Update:  Commenter BC pointed out that the US interest rate data looks fishy, given that 5 year T-notes currently yield well over 1%.  So the article I cited may not be accurate.

And as predicted by MMs, the Swiss decision to revalue the franc has backfired. Now that markets understand that the Swiss are willing to let the SF appreciate over time, Swiss interest rates are forced below the already very low eurozone rates (due to the interest parity condition.)  In contrast, the Danes fought the speculators off, and are now reaping the (admittedly small) benefits, of having slightly higher bond yields than Germany:

The five countries or economic blocs currently with negative deposit rates have yields below zero on all their bonds from a minimum of five years’ maturity (Denmark) to a maximum of 20 years (Switzerland).

The pro-revaluation crowd thought that the SF would no longer be expected to appreciate, if speculators could be placated with a revaluation upwards.  But that was like feeding meat to sharks, it just increased their appetites.

PS.  Here’s what Tyler Cowen said 13 months ago, about the ability of the Danes to fight off speculators:

I would bet against them [the Danes], in any case this will be a neat test case for our judgments of Switzerland.

PPS.  Lars Christensen says the US may be about to enter a recession.  Possibly, but I’m less confident than he is.  BTW, here’s the track record of IMF economists in predicting downturns:

As The Economist noted, between 1999 and 2014, the International Monetary Fund, in its April forecasts, failed to predict every one of the 220 instances in which one of its members suffered negative annual growth in the next year.

Ouch!  I wonder if they ever predicted anyone will have negative growth?  Kudos to Lars for going out on a limb.

PPPS.  Tyler Watts sent me a music video on “Tall Paul” (Volcker), which might be fun to use in undergrad money/macro classes.

Update:  Timothy Lee has a great post on Draghi’s screw-up today.