Archive for July 2016


Trump channels Gerald Ford: There is no Russian domination of the Ukraine

From Business Insider:

ABC host George Stephanopoulos corrected Donald Trump after the Republican presidential nominee claimed that Russia was “not going to go into Ukraine.”

In an interview on ABC’s “This Week” that aired Sunday, Trump asserted that Russian President Vladimir Putin was not going to invade Ukraine, where pro-Russian rebels — and some Russian special forces — have been operating for several years despite Putin’s reluctance to acknowledge any role.

“He’s not going into Ukraine, just so you understand. He’s not going to go to Ukraine,” Trump said.

You might recall that in the famous 1976 debate with Carter, the reporter actually gave Ford a chance to correct himself.  Stephanopolous was just as polite:

“Well, he’s already there, isn’t he?” Stephanopoulos replied.

George is a better man than I am. I would have been . . . I think the technical term is “ROFL”

Trump responded by simultaneously criticizing the US’s decision not to intervene to stop the annexation of Crimea, a former Ukrainian territory seized by Russia in 2014, and noting that many citizens of Crimea were allegedly supportive of Russia’s decision to invade.

And what does that actually mean?  What are we to think of all this?

“Well, he’s there in a certain way, but I’m not there. You have Obama there,” Trump said. “And frankly that part of the world is mess, under Obama. With all the strength that you’re talking about, and with all the power of NATO, and all of this, in the mean time, [Putin] takes Crimea.”

Well thanks for clearing that up!

So Obama is to be criticized for not trying to stop Putin.  He did use economic sanctions, so presumably Trump is referring to military steps that he thinks Obama should have used.  And his justification for arguing that Obama was too weak is:

He added: “You know the people of Crimea, from what I’ve heard, would rather be with Russia than where they were, and you have to look at that also.”

I think the technical term here is “SMH”.

I can’t wait to see how the great deal maker does in his first face to face negotiation with Putin.  “You’re not in the Ukraine?  That’s good to know.”

PS.  Ford made one blooper, and lost narrowly to Carter.  Trump makes similar bloopers every single day, and is tied in the polls.

Britain needs an NGDP futures market

There’s a lot of discussion about whether Britain will have a recession as a result of Brexit.

There has been a pronounced tone-change among UK economics analysts since the EU Referendum: They are in unanimous agreement that the UK will sink into recession in the second half of this year.

They disagree only on the details and depth.

Call it the Silence of the Bulls: no one — literally, no one — is making a bullish case for the post-Brexit economy.

That is what is so scary about this recession. Usually, analysts and economists like to hedge their bets. Their opinions are spread over a range, with outright disagreements. They talk about “the risk” of something happening; they don’t say “this will happen.”

But right now everyone is saying the same thing. Bank of America Merrill Lynch’s Robert Wood put out a note last week whose title says it all: “It’s not looking good.”

There is one glimmer of hope, the FTSE 250 stock index has fully recovered from the Brexit shock.

Screen Shot 2016-07-31 at 11.18.53 AMBut there are two considerations that cut in the other direction.  First, although the FTSE 250 is supposed to be a “domestic” stock index, unlike the multinational dominated FTSE 100, it still has a substantial exposure to international corporations:

As financial markets approach the relatively quiet trading month of August, investors appear equally equivocal about the country’s prospects, in spite of this week’s surprise rebound in the FTSE 250 stock index — seen as a barometer of domestic UK companies — to pre-referendum levels.

Tempting as it is to read the FTSE 250’s rise as proof that all is well, Garfield Kiff, UK fund manager at M&G, cautions that the advance hides a less positive story.

“Put simply, despite the steady aggregate numbers, the stock market has concluded the UK is heading for a sharp economic slowdown,” he says.

The revival of the FTSE 250 looks like a vote of confidence for UK plc, but within the index there has been a clear divergence between the outperformers, which have been largely overseas earners, and domestic businesses such as housebuilders, retailers, and challenger banks.

In addition, British long term interest rates have fallen sharply since Brexit, thus even if future profits are expected to be lower, those profits are being discounted at a lower interest rate.  So maybe the drop in the pound and lower bond yields are masking weaker growth expectations.

Or maybe all the pundits are wrong.  After all, recessions are really hard to predict, especially those that involve substantial increases in unemployment.  It will be an interesting 6 months, as we await the impact of an unusually large “uncertainty shock.”  I’m on record as being somewhat agnostic on this issue, but to avoid being called a coward I have forecasted a 50 basis point increase in the UK unemployment rate.  You might call that a “mini-recession”, or a “phony recession”. My hunch is that employment will hold up better than RGDP.

I was also surprised when the BoE did not move at its first meeting after the Brexit vote:

Markets were wrongfooted on July 14 when the Monetary Policy Committee voted 8-1 to leave policy unchanged. But the minutes of that meeting said “most members . . . expect monetary policy to be loosened in August”, leading market participants to believe with near certainty that action will come on Thursday.

The BoE’s forecasts and policy decision will have to be made in the absence of hard data on how the vote has affected the economy — most of which will not be published until September. In deciding what action to take, the MPC will weigh up the risk of not doing enough against the risk of depleting its limited firepower before knowing exactly what is required.

Hmm, I wonder what sort of futures market would allow the BoE to avoid waiting until September to respond to a shock that occurred in June?  The FT article also speculates that the BoE will lower its growth forecast to roughly zero:

The Bank of England will this week downgrade its growth forecasts following the vote to leave the EU and explain what action it will take in response.

Governor Mark Carney said before the referendum that a Leave vote could result in a “technical recession” — two quarters in a row of the economy shrinking — and Thursday’s announcements will reveal whether or not policymakers think this is the most likely outcome. Growth forecasts are expected to be cut close to, and perhaps below, zero.

The IMF has a more specific forecast:

The International Monetary Fund has already knocked 0.2 percentage points off its forecast for growth in 2016 since the referendum, and 1 percentage point off for 2017.

That’s both very large and very small, depending on one’s perspective.  It’s very large in the sense that it’s quite rare for a single political action to immediately chop so much off the consensus near-term growth forecast. Even electing Trump would probably have only a trivial impact on growth forecasts. And yet it’s small in the sense that the IMF prediction would probably result in only a very small rise in unemployment.  Indeed it looks more like Japan’s three recent “phony recessions, or the UK phony recession from a few years back (when unemployment did not rise), than it does like the actual recessions of 2008-09, when unemployment rose sharply in Japan and Britain.

There are also hints that the BoE will lean a bit in the NGDP targeting direction:

Most independent forecasters predict the recent depreciation of sterling will push inflation up to about 3 per cent next year — well above the BoE’s 2 per cent target. But the MPC is expected to look through this and focus instead on stabilising medium-term output.

However, I’d caution readers that the higher CPI inflation may come from the weaker pound, and that the GDP deflator may not show a similar increase.  Indeed I still expect NGDP growth to slow substantially.

PS.  Over at Econlog I look at Brexit’s near-term impact from a political angle, which is a much more depressing story.

Another BOJ flop

During the first several years of Abenomics, the BOJ actively pushed monetary stimulus.  Their announcements were often more aggressive than expected, and the yen depreciated sharply on this news.  The inflation rate rose from negative territory up close to the 2% target.  This year, however, the BOJ seems to have given up on monetary stimulus.  Most of the recent announcements have been less aggressive than the markets expected, and the yen has appreciated from a low of about 125 to the dollar, to 105 as of yesterday.  Today the BOJ produced another disappointing announcement, much less than markets expected, and the yen plunged another 3%, to 102.  This is not rocket science,  If the BOJ allows a strong yen they will fail to hit their target.  If they do enough stimulus to dramatically weaken the yen, they can hit their target.  So why don’t they?

This also shows why we cannot rely on policy discretion.  Policymakers simply are not willing to carry out their instructions.  A CPI or NGDP futures targeting regime (level targeting) would solve the “problem”. Which is probably why it won’t be adopted.

Why did the BOJ allow this to happen?

Screen Shot 2016-07-29 at 1.30.12 PMPS.  It’s amazing how similar Abenomics is to FDR’s policies.  You have highly successful monetary stimulus which is abandoned for no good reason.  You have a weird mixture of fiscal stimulus and austerity.  And you have the government putting the cart before the horse, by trying to pressure firms to raise wages:

Openly pushing companies to raise wages is just one of the unorthodox economic policies attempted under the Abe government to jump-start an economy that seems stuck in a long-term rut.

I wish they’d go back to trying to raise NGDP, that’s the only durable way to get higher wages.

PPS.  Here is a typical media report on the BOJ:

But the truth is, at this stage, three years into his radical program to restart Japan, the BOJ might just be a spent force.

Face palm.

Yeah, the BOJ is out of ammo.  Maybe they can borrow some ammo from Zimbabwe.

My 3% NGDP trend prediction, 2 years later

Back in July 2014, I made a prediction that 3% NGDP growth was the new normal, as soon as unemployment fell to the natural rate. At the time, that prediction raised some eyebrows.  The 12-month NGDP growth rate was running 4.5% in the second quarter of 2014, and rose to 4.9% in Q3.  The Fed’s estimate of the long-term growth trend was considerably higher than 3%, as were private forecasters.  But look what’s happened since:

Screen Shot 2016-07-29 at 9.14.56 AMThe NGDP growth rate has fallen below 2.5% over the past 12 months.  That’s partly due to the falling oil prices, and I expect inflation to bounce back a bit. But I also expect the unemployment rate to stop falling soon, so I’m sticking with 3%, which looks increasingly likely as a long run NGDP trend.

Here’s what I said in July 2014:

3.  The Fed has a big NGDP problem.  It’s becoming increasingly clear that when the labor market recovers, RGDP growth will be very slow, maybe 1.2%.  Add in about 1.8% on the GDP deflator, and 3% NGDP growth looks like the new normal, assuming the Fed intends to stick with 2% PCE inflation targeting.  Bill Woolsey wins!!  Here’s the problem.  The Fed wants to do both of these things:

a.  Continue targeting inflation at 2%.

b.  Continuing to use interest rates as the instrument of policy.

But it won’t work.  At 3% trend NGDP growth, nominal interest rates will fall to zero in every single recession going forward.  The Fed will be spinning their wheels just when monetary stimulus is most needed.  At some point they will need a new policy instrument/target.  Lars Christensen has a very good post discussing a clever idea by Bennett McCallum, but in my view this idea works better for small countries than for the US, which is likely to follow the global business cycle.  NGDP futures anyone?  Level targeting?

4.  Unemployment is likely to fall to the natural rate (estimated by the Fed at 5.6%) quite quickly. There will be a debate about what to do next.  It will be the wrong debate.  The debate needs to be about where the Fed wants to go in the long run.  First figure out where you want to go in the long run, then adjust your short run policy as needed.  Otherwise the blogosphere debate will be like a bunch of drunken frat boys arguing about which street to take, when they can’t even agree on which bar they are going to.

As I expected, unemployment did fall to 5.6% fairly quickly, more rapidly than the Fed predicted.  And growth in both nominal and real GDP was slower than the Fed predicted.  So how was I able to beat the highly skilled Fed forecasters at their own game?

The answer is simple.  Way back in 2011 I noticed that this was a “job-filled non-recovery”, while most pundits were still talking about a jobless recovery.  That is, I noticed that RGDP was not recovering as expected, but the unemployment rate was falling rapidly.  And this process has continued up until the present.  By 2014 I had seen enough to regard this strange pattern as more than a fluke, rather as the new normal.  The asset markets (long term bond yields) were clearly signaling more slow NGDP growth ahead. Thus I figured that if the unemployment rate is falling rapidly, and NGDP growth is still only about 4%, you know that when the unemployment rate stops falling, the NGDP growth rate will slow dramatically.  And that’s exactly what happened.  The trick was to take the data seriously, and not assume we were going to return to some mythical “normal” level of NGDP growth.

Unfortunately, monetary policy remains just as dysfunctional as I feared.  The Fed still relies on interest rate adjustments in a world where we are going to be permanently close to zero rates, and at or below zero in every single recession where we need stimulus.  They have not adopted any of the new procedures suggested by elite economists (including Bernanke) for such a world, such as a higher inflation target or level targeting.  They are very reluctant to admit the obvious; their current policy regime is not working.

And the drunken frat boy metaphor still applies.  There are all these meaningless debates about whether to raise interest rates, with no consideration of what sort of NGDP growth rate is appropriate.  No debate about level targeting.  What are we trying to achieve? As a result, inflation has averaged well below 2% during the period of high unemployment, whereas under the Fed’s dual mandate inflation should average above 2% during slumps, and below 2% during booms.  They have things backwards and don’t even seem to realize it.

The Fed has thrown in the towel and admitted that they will not raise rates 4 times this year.  (The markets predicted 2 times, which itself may be an overestimate.)  How long will it take for the Fed to throw in the towel and admit that under its current operating procedure 3% NGDP growth is the new normal?  (Bullard will probably get there first–he has an open mind, and takes the data seriously.)  And how long until they realize that this sort of NGDP growth rate makes interest rate targeting almost useless as a monetary policy instrument?

PS. Think about this for a moment—the US real GDP grew about 1.2% over the past year, and the unemployment rate fell.  This disconnect between growth and unemployment also explains why I don’t expect the UK unemployment rate to rise very much after Brexit (I predicted a 50 basis point increase.)  My hunch is that Brexit will hurt UK GDP more than it hurts their job market.

PPS.  Another Trump lie, another promise broken.  But hey, the GOP convention is over now.  (Just to be clear, I do not think candidates should be required to release tax returns.  But if they campaign for the nomination on a pledge to release them before the election, then they should honor that pledge.  Now watch the Trumpistas tell me how naive I am.  “All candidates lie that they will release their tax returns, and then renege on the promise.  Don’t you understand that.”  Oh really, which ones specifically?

HT:  Tom Brown

Is price flexibility stabilizing?

Rajat directed me to a post by Miles Kimball, entitled “Pro Gauti Eggertsson”. Over at Econlog I discussed one paragraph from his post.  Here I’ll discuss another:

Gauti has also taken a lead in applying the same principles he applied to the Great Depression to the Great Recession. A hallmark of his papers is very careful discussion of how they relate to key controversies in the academic literature, and indeed, they go to the heart of some of the biggest issues in the study of business cycles and stabilization policy. Price flexibility and advance anticipation of inflation are often said to be the keys to monetary policy having no real effect on the economy. But along with Saroj Bhattarai and Raphael Schoenle, Gauti argues in “Is Increased Price Flexibility Stabilizing? Redux” that, short of perfect price flexibility, greater price flexibility is likely to be destabilizing. This idea has a long history, but had not been fully addressed within the context of Dynamic New Keynesian models without investment. Along with Marc Giannoni, Gauti argues in “The Inflation Output Trade-Off Revisited” that contrary to the idea that anticipated inflation does not matter, it can matter greatly when raising expected inflation loosens the zero lower bound. The argument is made in a very elegant and clear way.

In my view, higher expected inflation is  not expansionary, holding NGDP expectations constant.  Thus if NGDP is expected to grow at 5%, then higher inflation is associated with lower real GDP growth.  The proponents of the alternative view would claim that I’m missing the point, that higher inflation expectations will cause higher NGDP growth expectations.  I don’t think that’s right. A more expansionary monetary policy may cause both inflation and NGDP growth expectations to rise.  On the other hand, supply shocks can affect inflation expectations without impacting NGDP expectations. Never reason from a price level change—always reason from a NGDP growth change.

In 1929-32, President Hoover discouraged companies from cutting wages.  This made the Great Contraction of 1929-32 even worse than it otherwise would have been.  In contrast, wages were cut sharply during the severe deflation of 1920-21. Some free market purists make too much of this comparison, suggesting that tight money is not a problem if the government allows wages to be flexible.  Not true, the 1921 depression was quite deep.

But also pretty short.  And one reason it was so short is that in 1921 and 1922, wages adjusted quickly to the lower price level.  If Hoover (and FDR) had allowed wages to adjust in the 1930s, the Great Depression would have been much shorter.

Stable NGDP growth and non-intervention in wages and prices, these policies work together like a hand and glove.

PS.  I encourage people to read Giles Wilkes’s new piece on blogging.  Wilkes was nice enough to include me in with a group of much more deserving bloggers.  I was also pleased to see him talk about Steve Waldman, a wonderful blogger and also a good example of how the blogosphere is a meritocracy, where professional credentials do not matter.

PPS.  Trump?  Still  . . . an . . . idiot.

HT:  Tyler Cowen, Tom Brown