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Tag Archives: monetary policy

Those Stubborn Facts: A High Cost of Easy Money?

03 Monday Aug 2020

Posted by Alan Tonelson in Uncategorized

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bailouts, capitalism, corporate finance, debt, interest rates, monetary policy, Ruchir Sharma, stimulus, The Wall Street Journal, Those Stiubborn Facts, zombie companies

Share of publicly traded companies in the U.S. that were zombie companies*, 1980s: 2 percent

Share of publicly traded companies in the U.S. that were zombie companies, “by the eve of the pandemic”: 19 percent

*”[C]ompanies that, over the previous three years, had not earned enough profit to make even the interest payments on their debt.”

(Source: “The Rescues Ruining Capitalism,” by Ruchir Sharma, The Wall Street Journal, July 24, 2020, https://www.wsj.com/articles/the-rescues-ruining-capitalism-11595603720 )

 

(What’s Left of) Our Economy: No, the Fed Isn’t Terribly Worried About a Trade-Mageddon

23 Thursday Aug 2018

Posted by Alan Tonelson in (What's Left of) Our Economy

≈ 2 Comments

Tags

agriculture, consumption, Federal Open Market Committee, Federal Reserve, FOMC, inflation, interest rates, investment, Jobs, Mainstream Media, monetary policy, tariffs, Trade, Trump, {What's Left of) Our Economy

OK, let’s get away from John Brennan, and public view of Russia, and get back to something uncontroversial only by comparison – President Trump’s tariff-heavy trade policies. (Don’t worry – I’m sure I’ll get to the Trump-related Michel Cohen and Paul Manafort legal results as soon as I can figure out something distinctive to say about them.)

As known by RealityChek regulars, the national media has been filled with articles reporting that Mr. Trump’s actual and threatened tariffs on aluminum and steel, and on products from China, have already started backfiring on the U.S. economy in any number of ways: leading to job and production cuts in industries that use the two metals as key inputs, and creating major uncertainty throughout the economy among sectors dependent on Chinese products as parts, components, and materials for their goods, and on selling Chinese final products to consumers.

The official U.S. data on economic growth and employment, as I’ve reported, have shown that, so far, exactly the opposite has been true for the metals-using industries. Yesterday afternoon, another important indicator was made public that casts major doubt that the economy is currently experiencing a “trade-mageddon,” or is bound to any day now. I’m referring to the minutes of the July 31-August 1 meeting of the Federal Reserve’s Federal Open Market Committee (FOMC) – the members of the central bank’s board of governors who vote on monetary policy.

Most Mainstream Media newspaper headlines claimed that latest version of these minutes – which contain separate detailed analyses of the nation’s economic and financial situation by the FOMC members and the Fed’s staff of economists alike – contained sobering warnings about the “escalating trade war” posing “a big threat” to the current American recovery. And the members (I’ll focus on their analysis, given that they actually decide on the Fed’s moves) did definitely express trade-related concerns. Here’s how they put it:

“all participants [FOMC members] pointed to ongoing trade disagreements and proposed trade measures as an important source of uncertainty and risks. Participants observed that if a large-scale and prolonged dispute over trade policies developed, there would likely be adverse effects on business sentiment, investment spending, and employment. Moreover, wide-ranging tariff increases would also reduce the purchasing power of U.S. households. Further negative effects in such a scenario could include reductions in productivity and disruptions of supply chains. Other downside risks cited included the possibility of a significant weakening in the housing sector, a sharp increase in oil prices, or a severe slowdown in EMEs [emerging market economies].

But here’s what the members also said:

>Despite the above concern about consumer purchasing power suffering from tariff hikes, “Indicators of longer-term inflation expectations were little changed, on balance.”

>Several members commented that “prices of particular goods, such as those induced by the tariff increases” would likely fuel some “upward pressure on the inflation rate” but that these pressures would be “short-term” and had multiple causes. Further, depressed agricultural prices – due partly to recent trade developments, as noted below – would exert downward pressure on domestic inflation.

>Despite concerns about the impact of trade-induced uncertainty, “incoming data indicated considerable momentum in spending by households and businesses” and that levels of household and business confidence (regarded as key forward looking economic indicators) remained “high.”

>“Business contacts in a few Districts reported that uncertainty regarding trade policy had led to some reductions or delays in their investment spending.” Yet “a number of participants indicated that most businesses concerned about trade disputes had not yet cut back their capital expenditures or hiring….” And the possibility that prolonged trade tensions would change this picture was only described as a possibility.

>Although “Several participants observed that the agricultural sector had been adversely affected by significant declines in crop and livestock prices over the intermeeting period,” some FOMC members observed that this deterioration only “likely” and “partly flowed from trade tensions.”

And perhaps most important, the FOMC members “viewed the recent data [including trade-related information] as indicating that the outlook for the economy was evolving about as they had expected” and that their stated determination to raise the federal funds rate gradually, in order to sustain the expansion but discourage economic overheating, remained fully intact.

As the Fed participants always say, their analyses and policy decisions will be data-dependent. But it’s clear that the real message of these minutes is that the data justify no trade war-related alarmism now, and little for the foreseeable future.

(What’s Left of) Our Economy: Why Investors Shouldn’t Blame U.S. Workers for Inflation

14 Wednesday Feb 2018

Posted by Alan Tonelson in (What's Left of) Our Economy

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bonds, budget deficits, Federal Reserve, Financial Crisis, inflation, interest rates, manufacturing, monetary policy, quantitative easing, recession, recovery, stock market, stocks, wage inflation, {What's Left of) Our Economy

Thanks to the U.S. government’s new inflation data, we can cross one often fingered culprit off the list of developments being blamed for the recent turbulence in American, and therefore global, financial markets – wage inflation. For by a crucial indicator, real hourly pay in the United States is not only failing to lead prices upward – it’s been trailing overall inflation recently and indeed has been in recession lately by one commonsense standard.

Of course, market turmoil (like most big developments) springs from several, overlapping reasons. The first is one I discussed last Friday, and which I consider the most important: Investors fear that the Federal Reserve and other world central banks will start tightening monetary policy faster than expected, in order to prevent (more of) the kinds of reckless investments that tend to mushroom when credit is super cheap, and that can often trigger financial crises like the near global meltdown roughly a decade ago. (Happy Anniversary!)

If credit becomes more expensive, then economic growth and corporate profits will struggle to maintain their current rates of increase, and stocks will become less attractive investments, all else equal. In addition, the very increase in interest rates almost certain to result from such central bank “tightening” heightens the appeal of bonds and dims that of equities.

To complicate matters further, another engine of higher rates might be a combination of the great increase in federal budget deficits likely from the new tax cuts proposed by the Trump administration and passed by Congress, and the big-spending budget deal reached by the lawmakers and the President. The consequent budget gap will boost federal borrowing needs (and all else equal, push up the rates Washington will need to pay lenders for all this new debt) at a time when the U.S. central bank has started selling the ginormous amount of government bonds it’s been purchasing and holding since late 2008 (a practice called “quantitative easing) in order to halt the Great Recession and speed up recovery . This version of tightening – which also stems from financial stability concerns – will raise the supply of bonds even further.

The second reason for the turmoil is investor concern that rising inflation will spur central banks to raise rates regardless of the above financial stability concerns – because excessive inflation can produce its own economic disaster. And in fact, the proximate cause of the current bout of market instability seems to be those very inflation fears, and in particular, the possibility of wage inflation.

Higher compensation costs could deal their own blow to stock prices by reducing corporate profits; or by sending upward price pressures rippling throughout the entire economy (as companies tried to pass higher costs on to their customers either elsewhere in the business world or in consumer ranks); or through some combination of the two. (Interestingly, the chances seem pretty low that companies could absorb higher wages through greater efficiency, as productivity improvement has been very slow at best recently.)

So that’s why today’s widely anticipated (to put it mildly) U.S. government inflation data is so important. The inflation figures were somewhat “hotter” than most investors were predicting. But it couldn’t be clearer that wage inflation has nothing to do with these higher prices.

The numbers that most observers – whether investors or not – are looking at are the year-on-year numbers, and they do seem to signal some wage inflation. From January, 2017 to last month, the Labor Department’s headline reading showed a 2.14 percent rise in prices nationwide, and a 1.85 percent increase in “core” prices (which stripped out from the headline food and energy prices because they’re considered so volatile in the short-term that they can generate readings regarded as somewhat misleading).

During that same year, wages adjusted for inflation for the overall private sector were up 0.75 percent – which means they rose faster than overall prices. Moreover, between previous Januarys, real wages actually declined fractionally (by 0.09 percent). So in principle, investors (and other economy watchers) have reasons to be nervous about wage inflation.

But a more recent time frame tells a very different story. For since last May, private sector wages have been down on net. Although the cumulative decline is only 0.19 percent, this means that on a technical basis, real wages are in recession. (I feel justified in using this term because when economists talk about growth, a decline for two consecutive quarters is defined as a recession. So a six-month cumulative downturn seems close enough.) Indeed, more accurately, real wages are still in recession, since this development was apparent last month, too.

And the latest month-to-month figures indicate that real wage pressure is weakening, not strengthening. From December to January alone, they dropped by 0.19 percent, after rising by that amount from November to December.

The picture looks even grimmer when you go back to the start of the current economic recovery – in mid-2009. Since then, real private sector wages have risen by only 4.07 percent. And that’s over more than eight years!

But private sector real wages are practically torrid when they’re compared with inflation-adjusted pay in manufacturing. Such compensation has been in technical recession for two full years, as it’s fallen by 0.09 percent since January, 2016. On a monthly basis, after-inflation manufacturing pay plummeted by 0.46 percent in January, its worst such performance since August’s 0.64 percent tumble. At least the December figure was revised up – though only from a 0.09 percent dip to a 0.09 percent increase.

Over the current economic recovery’s eight-plus years, real manufacturing wages have risen by a mere 0.37 percent – less than a tenth as fast as those of the private sector overall.

Yet although inflation – and especially wage inflation – doesn’t seem to warrant a quicker pace of Federal Reserve interest rate hikes (or even the current, “gradual” pace), a case can still be made for tightening on a financial stability basis. And those massive federal deficits, which will need to be funded by equally massive increases in bond supplies, seem here to stay for many years. So as has been the case for so long, assuming these moves do slow U.S. economic growth, American workers appear certain to pay many of the costs for disastrous policy mistakes they never made.

(What’s Left of) Our Economy: What’s with Those Financial Markets?

09 Friday Feb 2018

Posted by Alan Tonelson in (What's Left of) Our Economy

≈ 1 Comment

Tags

bonds, bottom-line, budget deficits, central banks, correction, debt, Federal Reserve, Financial Crisis, financial markets, Great Recession, interest rates, leverage, monetary policy, profits, stocks, tax cuts, top-line, {What's Left of) Our Economy

Heckuva week on the world’s financial markets, eh? This post isn’t intended to provide any investment advice, but rather to shed some light on what strikes me as the most interesting question posed by the stock market correction and the related spike in bond yields: Why is it happening as evidence keeps emerging that the world economy (including America’s) is entering its best stretch of growth since the last (Great) recession ended in mid-2009?

Right off the bat, in the interests of full disclosure, the vast majority of my investments are in bonds (mainly munis) and bond proxies (high-dividend stocks whose share prices are relatively stable, so that their main value is spinning off income). This means that my main hope is that bonds keep doing well (notwithstanding their recent slump).

That said, it seems clear to me that the answer is that investors are worried that the stronger growth seen globally isn’t sustainable. Indeed they seem fearful that it’s about to come to an ugly end because the world’s central banks look more determined than in many years to at least limit the easy money conditions they created to fight the financial crisis (and ensuing recession), and to try to spark something of a recovery.

This kind of monetary policy tightening – or even a further slowdown in or halt to the loosening, which is what’s most likely in the near future – could create a pair of closely connected economic and financial dangers. First, slower growth could imperil the sales and profits of companies that issue stocks, which could depress their prices. And P.S.: Despite the record central bank stimulus, growth has been unimpressive enough. How much tightening is needed to tip the economy back into recession?

Of course, businesses all around the world have performed magnificently in boosting profits in a slow-growth environment, and this also goes for non-financial companies that haven’t been able to enjoy the full benefits of borrowing from central banks at super-cheap rates and lending at higher rates. But precisely because growth even during the recovery’s best periods so far has been sluggish despite the gargantuan stimulus, much of the profit improvement has come from improvements in the bottom line, keyed by cost-cutting (including keeping the lid on employee paychecks). Top-line growth – that is, stronger sales of products and services – has been more difficult to come by.

Since costs can’t be cut completely, and possibly not much further, a growth slowdown could greatly reduce these firms’ potential to increase profits going forward, and turn them into much less attractive buys for investors. And tighter monetary policy, including raising interest rates, historically has been pretty effective at slowing growth.

Just as important, low interest rates per se have super-charged stock prices. The reason? They greatly depress the total return on bonds, and thus greatly boost the appeal of stocks.

Of course, this raises the question of why central banks would take such actions, or even think (out loud) about them. The reasons are that they’re worried that all this easy money will ignite a new round of dangerous inflation, and that they’re concerned that, because money has been so cheap for so long, borrowing consequently so easy, and mistakes therefore so easy to withstand, too much capital has been poured into risky investments. Central bankers are rightly concerned that this “mal-investment” eventually could imperil the entire financial system and hence the real economy just as it did during the previous decade. So they’re hoping they can wean the world off this sugary diet.

The challenge they face is making sure “the patient survives,” or doesn’t become gravely ill again. After all, the previous decade’s financial crisis showed that when dubious investments reach a certain level, creditors can start doubting borrowers’ ability to repay or even service their debt even when the cost of money is very low. When they start to pull in their bets, panic can easily set in – and did.

These dangers become much greater when the cost of money starts to rise, which is exactly the situation the nation and world are in now. Just one indication of heavily indebted businesses are: According to Standard & Poor’s, one of the financial ratings agencies, in 2007 (just before the global bubble burst), 32 percent of the world’s non-financial companies were “highly leveraged” (i.e., up to their ears in debt). The latest figure? Thirty seven percent.

This corporate debt, of course, is relatively easy to service and manage when interest rates are very low. In a higher rate environment? Not so much. And don’t think creditors don’t know this. So that’s another reason that companies could start looking less appealing to investors, and if major debt servicing (much less repayment) problems emerge, credit channels could start seizing up just as they did ten years ago. On top of this prospect, all else equal, rising rates tend to be trouble for stock prices, as more and more investors decide to opt for (higher) guaranteed returns on bonds rather than riskier equities.

P.S. If you’re wondering whether higher rates could significantly increase the debt burden on the U.S. government, even without the immense new borrowing that will be needed thanks to the Trump administration’s tax cuts and the new big-spending Congressional budget compromise, the answer is, “You bet!”

Not that reasons for optimism about stocks in particular can’t be identified. Because the big ramp up in federal budget deficits that’s on the way will inject massive new resources into the economy, more growth will result. In principle, that new growth could convince the Federal Reserve to speed up its tightening – but perhaps not enough to offset the fiscal boost. Moreover, anyone who’s positive that the Fed will keep tightening in the face of either future stock market turbulence and/or weaker economic growth hasn’t been paying attention to its record in recent decades. The central bank has been, in the view of many, all too willing to keep the economic party going at all costs, and may well do so again.

One more bullish possibility for stocks – as they did during the previous decade, the leaders of stock-issuing companies decide to use most of their tax cut windfall to buy more shares of their own stock. The result would not only would prop up the share price, but in many cases boost their own compensation (which not so coincidentally is often based on that share price).

The most vexing aspect of both the investment and the economic situation is that, even though both may suffer in the short run, both urgently need to end their addiction to central bank stimulus and create the kind of foundation that will promote healthier, and thus longer-lasting (even if not faster) growth. Moreover, the longer the addiction lasts, the worse the cold turkey experience.

Because I doubt that either the Federal Reserve or the rest of the U.S. government has the spine to administer the needed policy medicine, I remain pretty bearish long-term on both the markets and the real economy, and will stay very conservatively invested. But the short term can be surprisingly long lasting; in fact, I’m surprised that the Fed’s high wire act has lasted this long. So I’m anything but an infallible guide to either. I’m just trying to be prepared for major trouble – whenever it decides to arrive.

 

(What’s Left of) Our Economy: The Republican Tax Plans’ Biggest Flaw

06 Wednesday Dec 2017

Posted by Alan Tonelson in (What's Left of) Our Economy

≈ 1 Comment

Tags

Alan Greenspan, Barack Obama, Bill Clinton, budget deficits, business spending, capital gains, corporate taxes, dividends, Federal Reserve, fiscal policy, George W. Bush, House, income taxes, monetary policy, multinationals, non-residential fixed investment, Paul Volcker, repatriation, Republican tax bills, Ronald Reagan, Senate, tax cuts, taxes, {What's Left of) Our Economy

The tax bills passed by the Republican-controlled House and Senate and strongly supported by President Trump (despite some important differences between them) can be fairly criticized for any number of big reasons: the mess of a drafting process in the Senate, the impact on already bloated federal budget deficits and the national debt, the cavalier treatment of healthcare reform, the seemingly cruel hits to graduate students and to teachers who buy some of their students’ school supplies.

My main concern is different, though. I could see an argument for the main thrust of the bills – even taking into account most of the above flaws – if they boasted the potential to achieve its most important stated aim. In Mr. Trump’s words, “We’re going to lower our tax rate to the very competitive number of 20 percent, as I said. And we’re going to create jobs and factories will be pouring into this country….” Put less Trump-ishly and more precisely, the idea is that by slashing tax rates for corporations and so-called pass-though entities, along with full-expensing of various types of capital investment, American businesses will build more factories, labs, and other productive facilities; buy more equipment, materials and software; hire more workers and increase their pay (since the demand for labor will soar).

Actually, since automation will surely keep steadily reducing the direct hiring generated by all this promised productive investment, let’s focus less on the jobs promise (keeping in mind that manufacturing in particular generates lots of indirect jobs per each direct hire), and more on the business spending that will boost output – since faster growth is the ultimate key to robust employment and wage levels going forward.

Unfortunately, after spending the last few days crunching some relevant numbers, I can’t see the GOP tax plans living up to their billing – which makes their flaws all the more damning.

What I’ve done, essentially, is look at inflation-adjusted business spending during American economic recoveries (to ensure apples-to-apples data by comparing similar stages of the business cycle) going back to the Reagan years of the 1980s, and examine whether or not individual and especially business tax cuts have set off a factory etc building spree. And I didn’t see anything of the kind, except possibly over the very short term. Moreover, even these increases may have had less to do with the tax cuts than with other influences on such investments – like the overall state of the economy and the monetary policies carried out by the Federal Reserve (which help determine the cost of credit).

Let’s start with the expansion that dominated former President Ronald Reagan’s two terms in office – lasting officially from the fourth quarter of 1982 through the second quarter of 1990 (by which time he had been succeeded by George H.W. Bush). The signature Reagan tax cuts, which focused on individuals, went into effect in August, 1981 – when a deep recession was still underway.

Interestingly, business investment kept falling dramatically through the middle of 1983 – when an even stronger rebound kicked in through the end of 1984. Indeed, that year, corporate spending (known officially as private non-residential fixed investment surged by 16.66 percent. But this growth rate then began slowing dramatically – and through 1987 actually dropped in absolute terms.

A major tax reform act was signed into law by the president in October, 1986, and individuals were its focus as well. Two provisions did affect business, but appeared to be at least somewhat offsetting in their effects, in line with the law’s overall aim of eliminating incentives and disincentives for specific kinds of economic activity. They were a reduction in the corporate rate and a repeal of the investment tax credit – whose objective was precisely to foster capital spending. Other provisions had major effects on business but principally by encouraging more companies to change over to so-called pass-through entities, not (at least directly) on investment levels. Business spending recovered, but its peak for the rest of the decade (5.67 percent of real GDP in 1989) never approached the earlier highs.

Arguably, fiscal and monetary policy were much more influential determinants of business spending, along with the recovery’s dynamics. The depth of the early 1980s recession practically ensured that the rebound would be strong, as did the massive swelling of federal budget deficits, which strengthened the economy’s overall demand levels, and their subsequent reduction.

Perhaps most important of all, the Federal Reserve under Chairman Paul Volcker cut interest rates dramatically from the stratospheric levels to which he drove them in order to tame double-digit inflation. And yet for most of 1984, when business spending soared, the federal funds rate (FFR) was rising steeply. Capex also strengthened between 1987 and mid-1989, which also witnessed a scary stock market crash (in October, 1987).

The story of the long 1990s expansion, which mainly unfolded during Bill Clinton’s presidency, was simultaneously simpler and more mysterious from the standpoint of business taxes – and macroeconomic policy. Following a shallow recession, Clinton raised both personal and corporate tax rates while government spending was so restrained that the big budget deficits he inherited actually turned into surpluses by the late-1990s. For good measure, the FFR began rising in late 1993, from 2.86 percent, and between early 1995 and mid-2000, stayed between just under six percent and just under 6.5 percent.

And what happened to capital spending? In late 1993, right after the tax-hiking, spending- cutting, deficit-shrinking Omnibus Budget Reconciliation Act was passed, and the Fed was tightening, businesses went on a capex spending spree began that saw such investment reach annual double-digit growth rates in 1997 and stay in that elevated neighborhood for the next three years.

It’s true that Clinton and the Republican-controlled Congress passed tax cut legislation in August, 1997, that among other measures lowered the capital gains rate. But the acceleration of business spending began years before that. And although we now know that much of this capital spending went to internet-centered technology hardware for which hardly any demand existed then at all, from a tax policy perspective, the key point is that this category of spending rose strongly – not whether the funds were spent wisely or not.

The expansion of the previous decade casts major doubt on whether any policy moves can significantly juice business spending. Just look at all the stimulative measures put into effect, tax-related and otherwise. The recovery lasted from the end of 2001 to the end of 2007, and during this period, on the tax front, former President George W. Bush in June, 2001 signed a bill featuring big cuts for individuals, and in May, 2003 legislation that sped up the phase-in of those personal cuts and added reductions in capital gains and dividends levies. For good measure, in October, 2004, the “Homeland Investment Act” became law. It aimed to use a tax “holiday” (i.e., a one-time dramatically slashed corporate rate) to bring back (i.e., “repatriate“) to the U.S. economy for productive investment hundreds of billions of dollars in profits earned by American companies from their overseas operations.

In addition, under Bush, the federal budget balance experienced its biggest peacetime deterioration on record, and starting in the fall of 2000, the Federal Reserve under Alan Greenspan cut the FFR to multi-decade peacetime lows, and didn’t begin raising until mid-2004.

The business investment results underwhelmed, to put it mildly. Such expenditures fell significantly throughout 2001 and 2002, and grew in real terms by only 1.88 percent the following year. Thereafter, their growth rate did quicken – to 5.20 percent rate in 2004, 6.98 percent in 2005, and 7.12 percent in 2006. But they never achieved the increases of the 1990s and by 2007, that expansion’s final year, business investment growth had slowed to 5.91 percent.

There’s no doubt that something needs to be done to boost business spending nowadays, which has lagged for most of the current recovery and turned negative last year – even though the federal funds rate remained near zero for most of that time and the Federal Reserve’s resort to unconventional stimulus measures like quantitative easing as well, despite unprecedented budget deficits (though they began shrinking dramatically in 2013), and despite the continuation of all the Bush tax cuts (except the repatriation holiday, and the imposition of a small surcharge on all investment income to help pay for Obamacare). Business investment’s record during the current recovery has been even less impressive considering a Great Recession collapse that was the worst in U.S. history going back to the early 1940s, and that should have generated a robust bounceback.

But if history seems to teach that tax cuts and even other macroeconomic stimulus policies haven’t been the answer, what is? Two possibilities seem well worth exploring. First, place productive investment conditions on any tax cuts and repatriation (the 2004 tax holiday act did contain them) and then actually monitor and enforce them (an imperative the Bush administration neglected). And second, put into effect some measures that can boost incomes in some sustainable way – and thus convince business that new, financially healthy customers will emerge for the new output from their new facilities. To me, that means focusing less on ideas like raising the national minimum wage to $15 per hour (though the rate should, at long last, be linked to inflation), and more on ideas like trade policies that require business to make their products in the United States if they want to sell to Americans, and immigration policies that tighten labor markets and force companies to start competing more vigorously for available workers by offering higher pay.

In that latter vein, the 20 percent excise tax on multinational supply chains contained until recently in the House Republican tax plan could have made a big, positive difference. Sadly, it looks like it’s been watered down to the point of uselessness, and the original has little support in the Senate. The House Republican tax plan also had included a border adjustment tax that would have amounted to an across-the-board tariff on U.S. imports (and a comparable subsidy for American exports), but the provision was removed from the legislation partly due to (puzzling) Trump administration opposition.

Mr. Trump clearly has acted more forcefully to relieve immigration-related wage pressures on the U.S. workforce, but it’s unclear how quickly they’ll translate into faster growing pay.  If such results don’t appear soon, and barring Trump trade breakthroughs, expect opponents of the Republican tax plan to keep insisting that it’s simply a budget-busting giveaway to the rich, and expect these attacks to keep resonating as the off-year 2018 elections approach.   

 

Those Stubborn Facts: The Times, They are…Uncertain

05 Thursday Jan 2017

Posted by Alan Tonelson in Uncategorized

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2016 election, Federal Reserve, monetary policy, Those Stubborn Facts, Trump

Number of references to “uncertainty” in minutes* of last Fed Open Market Committee meeting before Trump election: 5

Number of references to “uncertainty” in minutes* of first Fed Open Market Committee meeting after Trump election: 36

*excluding charts

(Sources: “Minutes of the Federal Open Market Committee, November 1-2, 2016,” 2016 Monetary Policy Releases, News & Events, Board of Governors of the Federal Reserve System, https://www.federalreserve.gov/monetarypolicy/files/fomcminutes20161102.pdf and “Minutes of the Federal Open Market, December 13-14,” ibid., https://www.federalreserve.gov/monetarypolicy/files/fomcminutes20161214.pdf)

(What’s Left of) Our Economy: Is This It?

09 Wednesday Mar 2016

Posted by Alan Tonelson in (What's Left of) Our Economy

≈ Leave a comment

Tags

Federal Reserve, Financial Crisis, Great Recession, Immigration, Larry Summers, monetary policy, negative interest rates, Populism, recovery, secular stagnation, trade policy, {What's Left of) Our Economy

I’m sure that all of you out in RealityChek Reader-Land are familiar with the idea of lowering expectations, or “lowering the bar.” The standard justification for this practice is fostering greater realism about what’s possible in politics, business, sports and many other fields, and sometimes it’s essential. But of course it’s easily turned into an unjustified excuse for subpar performance, and lately I’ve noticed that a specific version has become inordinately popular. It’s the burst of claims that, whatever problems the U.S. or world economies have encountered lately, they’re not on the brink of a 2008-style meltdown. A less dramatic variant: Neither America nor the world is heading into a recession.

Which interpretation is most convincing? And to which audiences? The answer will shape the future not only of American prosperity, but of American politics.

If you doubt the popularity of the “not 2008” argument, just Google the phrase. You’ll come up with examples like:

>“For anyone who lived through the [2008] financial crisis, the depth of the declines, and the way they are rolling across multiple markets, is cause for alarm. Early on in that meltdown, too many people thought troubles would be akin to the 1998 Russian debt crisis or the 2001 dot-com bust. Those views proved disastrously wrong.

“There is less a chance of things playing out the same way today….For now, the [stock market] storm doesn’t appear to have the force of a cataclysm.” (The Wall Street Journal, January 17, 2016)

>”You can’t just look at low commodity prices and assume that means that we are headed for something like 2008 or a big downturn in the global cycle.” (Scott Mather of investment firm PIMCO, January 14, 2016)

>”[F]ormer bulls see more pain ahead for the markets, [but] they have yet to discover evidence that suggests the world is heading for the kind of disaster experienced in 2008 or the Great Depression.” (Barron’s, January 30, 2016)

>”Without arguing that all is well, it is nonetheless clear that little in the present environment resembles 2008.” (Milton Ezrati of investment firm Lord, Abbett & Co., January 11, 2016)

>[Bank of England Governor] Mark Carney last night painted a bleak picture of the global economy – but said: ‘This is not 2008.”

>”At a time when The Big Short is an Academy Awards front-runner, perhaps many are beginning to wonder if another financial crisis is emerging from the shadows of Wall Street. And there’s a simple answer here: No. “ (Forbes, January 20, 2016)

>”Recession talk has increased, but real economic data in most countries don’t look especially bad….This is not a situation like 2008, when markets doubted banks’ solvency, banks struggled to fund themselves, and credit markets collapsed.” (The Economist, February 11, 2016)

>”[W]ith many in the markets always on the look out for ‘the next 2008’, it’s worth noting that this probably isn’t it…. (BBC, August 24, 2015)

>”Mixed signals from our indicators leave us more cautious regarding the U.S. economy and global financial markets over the near-term. However, in our view, the current situation in 2016 does not look like it will be a repeat of 2008.” (ETF Trends, February 22, 2016)

As should be clear, many of the “not 2008” crowd aren’t complacent about the odds of continued (however slow) economic improvement in the United States or the world at large. But many are, as should be clear from this Financial Times article – which describes the views of specialists at the Peterson Institute of International Economics, an always reliable barometer of economic conventional wisdom inside the Washington, D.C. Beltway.

Don’t misunderstand me. It’s great that the odds against Financial Crisis 2.0 and the ensuring Great Recession unfolding anytime soon (at least) seem pretty high. But the notion that current levels of growth and living-wage employment are remotely satisfactory – especially considering how much debt has been created, largely by the Federal Reserve – is positively pernicious. In fact, it sounds like nothing so much as the “secular stagnation” theory being pushed by former Clinton-era Treasury Secretary and chief Obama economic adviser Larry Summers.

As I’ve explained, this idea holds that “the U.S. economy has become so lifeless that only inflating dangerous borrowing and spending bubbles can spur even adequate (much less robust) production and hiring.” In fact, his analysis has led Summers to suggest that “the best real interest rate for the United States (and for other high-income countries he believes are stuck in the same predicament) is negative – a situation in which lenders essentially pay borrowers to borrow after adjusting for inflation. That is, even at the current level of zero for the critical federal funds rate set by the Federal Reserve,  money is too expensive to fuel satisfactory growth in early 21st century America.”

The growing popularity around the world of these negative rates, the U.S. Federal Reserve’s own clear receptivity to this approach, and this back patting from the economic policy establishment for avoiding the abyss, are send a clear signal: Barring major political change, Americans and populations of other high-income countries can expect more of the same from their governments – perhaps combined with some more infrastructure spending.

Yet masses of voters are no longer buying this strategy. That’s being signaled loudly by the growing popularity in the United States and Europe of populist leaders touting better trade and/or immigration policies as jump-starters of faster growth.

Policy overhaul on both these fronts can also produce higher-quality growth – i.e., less reliant on endless debt creation. That’s why everyone wanting a genuinely healthier American economy should be rooting, and voting, for the populists. But it’s also why they should also be rooting for those populists to start raising their game.

(What’s Left of) Our Economy: Beyond the Fed Tightening Debate

28 Wednesday Oct 2015

Posted by Alan Tonelson in (What's Left of) Our Economy

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Ben Bernanke, bubbles, Employment, Federal Reserve, Financial Crisis, inflation, interest rates, Janet Yellen, Jobs, monetary policy, moral hazard, recovery, zero interest rate policy, ZIRP, {What's Left of) Our Economy

The latest “Fed Day” has now come and gone. The Federal Reserve’s decision-making Open Market Committee has issued its latest monthly pronouncement on where it will set the short-term interest rate it directly controls. (It will stay near zero, where it’s been since the end of 2008). In the process, the central bank revealed a lot about how cheap or expensive the cost of borrowing will be in the U.S. economy at least until its next meeting, in mid-December.

And as always, the effects of this Fed Day will surely ripple much wider, as many investors, businessmen, and consumers look to each new central bank monetary policy statement for clues as to the economy’s health and prospects; for indications of how the Fed will act in the foreseeable future; and for a sense of what kind of rate environment financial markets will face – a key determinant of their performance.

The run-up to today’s Fed statement generated somewhat less suspense or anxiety (take your pick) than lately has been the case. After all, the recent slowing of the American and global economies seemed certain to have eliminated the chance of the Fed raising rates from their current levels just above zero. Chair Janet Yellen and other leading Fed lights, at least, have worried that such tightening could choke off too much growth and therefore hiring, while boosting the odds that a dangerous deflationary cycle could take hold and weaken the economy still further. (Employment and price levels are the Fed’s two main official statutory concerns – its “dual mandate.”)

Yet today’s statement is likely to keep raging the fierce debate in the economics, business, finance, and political communities over what the Fed should do – and what its recent unprecedentedly easy money policies have and have not accomplished so far. For the record, I favor beginning to tighten as soon as possible, for two related reasons.

First, I’ve feared that the artificial life support provided by years of Fed stimulus has so effectively masked the economy’s real weakness that the excesses that built up during the previous bubble decade (also largely enabled by the Fed) can’t undergo painful but necessary corrections. Therefore, the hard work of creating a truly durable foundation for American prosperity keeps getting postponed.

Second, even if the Fed’s gargantuan support prevented a 1930s-style depression, the credit flood it continues to supply is now actually encouraging further excesses – for reasons I spelled out in a post last month. So I’m worried that the United States – and by extension, the world, given America’s still outsized role – can’t avoid another financial crisis without tightening (i.e., starting to normalize) monetary and credit conditions; reimposing genuine market disciplines on economic activity; and making sure that risk is accurately priced (and indeed priced at all).

But as far as I’m concerned, my own views on tightening now or later are much less interesting than what this debate reveals about how well the economy’s ills are understood by both supporters and opponents of the Fed’s record these last few years. I’m simplifying a bit here, but I worry that the looser money advocates – include the apparent majority of Fed officials – are too focused on supporting growth (and hiring) literally at all costs, without thinking about the quality and sustainability of that growth. Weirdly, they appear to understand fully just how weak the economy remains, but seem to believe that all that’s possible is to prop up growth and employment indefinitely with monetary steroids.

I’m also, however, concerned about tightening arguments. Its champions seem to understand the intertwined economic and financial dangers of fostering low quality growth. But most of them appear to overestimate the economy’s underlying strength, and seem to believe that raising interest rates (at whatever pace, to whatever heights) will quickly restore genuine economic health.

Unless this paradox is somehow resolved, it’s hard to imagine recipes for solid recovery emerging that are properly targeted and based on realistic expectations of turnaround.

To be fair, neither side in this debate, much less Fed officials themselves, believes that monetary policy alone can fix the economy. Of course, the favored policies vary widely, but everyone I’m familiar with emphasizes the need for the rest of the government to start doing its part. But this observation brings up another concern. Undoubtedly, the forces that have produced and maintained D.C. gridlock are strong, and show few signs of weakening. But arguably, one of these has been the Fed itself – which may be creating a form of moral hazard in American politics.

For just as overly indulgent policies in economics and finance can convince businesses that, however massively they mess up, Uncle Sam will come to the rescue, it’s certainly possible that, at least in the backs of their minds, U.S. politicians are convinced that they can continue grandstanding unproductively because the Fed will keep the economy slogging along acceptably enough to prevent major voter backlash – and thus keep them in office.

In this vein, it’s fascinating – and a little disturbing – that former Fed Chair Ben Bernanke has also just suggested a belief that the Fed can and should back stop dysfunctional governing systems. In an interview last week with the Financial Times, Bernanke stated that “One of the Federal Reserve’s key functions is to act quickly and proactively when the legislative process is too slow.” Although the central bank was structured to be independent of short-term political considerations and pressures from office-holders, I’ve never heard anyone ever aver that the Fed should in any way substitute for elected politicians.

Does Bernanke’s successor, Yellen, agree? She’s scheduled to appear before Congress in early December. Maybe someone could ask?

(What’s Left of) Our Economy: Bernanke Flunks Crisis History 101

26 Monday Oct 2015

Posted by Alan Tonelson in (What's Left of) Our Economy

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Ben Bernanke, bubble decade, bubbles, Federal Reserve, finance, Financial Crisis, Great Recession, Lehman Brothers, monetary policy, recovery, regulation, Wall Street, zero interest rate policy, ZIRP, {What's Left of) Our Economy

Because America is unlikely to avoid a rerun of the last financial crisis and recession without recognizing why they broke out in the first place, it can’t be good news that former Fed Chair Ben Bernanke still apparently hasn’t learned the main lesson of this near-catastrophe (and its still punishing aftermath): The crisis was rooted ultimately not in failures of the American financial system, but in weaknesses in the real economy that remain largely neglected.

I say “apparently” because this judgment is based on interviews Bernanke has granted to tout his new memoir on the crisis, and I haven’t read the volume. But it must be significant that both Bernanke and the leading financial journalists who questioned him have concentrated exclusively on the role played by Wall Street’s behavior and structures on the one hand, and lax regulation on the other, in nearly destroying the global economy. No attention whatever has been paid to the deteriorating ability of the Main Street economy to generate adequate levels of real wealth and income; to decisions made going back to the early 2000s to mask these deficiencies with crackpot credit-creation practices; or to the reckless lending and investment patterns to which this artificial credit glut led.

Not that Bernanke is the last word in crisis-ology. Yes, he spearheaded Washington’s efforts to contain the meltdown and spark recovery. But since his tenure at the central bank began in 2002, just about when the bubbles began inflating, and his Chairmanship began in 2006, just before they started bursting, he clearly was as much part of the problem as he’s been part of what’s so far passed for a solution. So his memoir is obviously an opportunity for reputation-burnishing. But finance has so completely dominated America’s views of the crisis and its origins that Bernanke’s perspective can’t simply be dismissed as self-serving.

Here’s a typical Bernanke comment presenting his view that the crisis was rooted in a panic in the unregulated, uninsured non-bank portion of the financial system that had grown so large that it became capable of endangering an otherwise healthy non-financial economy:

“The previous six months [before Lehman Brothers failed], the economy had been growing, house prices had fallen moderately. After Lehman, the economy just went into a death spiral. The fourth quarter of 2008 and the first quarter of 2009 was among the sharpest declines in the economy in U.S. history. Once the crisis went into a new gear, house prices started falling more quickly, and that had a feedback mechanism. Absent the broad-based panic that froze credit markets, caused asset prices to drop sharply and punctured confidence, we wouldn’t have had nearly so bad a recession.”

Bernanke has even appeared to deny that the economy during the previous decade was bubble-ized by overly easy Fed monetary policy. Asked whether the central bank had kept interest rates too low for too long – in fact long after the shallow recession of 2001 had ended – Bernanke responded:

“The first part of a response is to ask whether monetary policy was, in fact, a major contributor to the housing bubble and all that happened. Serious studies that look at it don’t find that to be the case. People such as Bob Shiller [a Nobel laureate currently serving as a Sterling professor of economics at Yale University], who has a lot of credibility on this topic, says that: it wasn’t monetary policy at all; it came from a mania, a psychological phenomenon, that took off from the tech boom and moved into housing.”

Here’s the immensely big picture that Bernanke is missing. The 2001 to 2007 economy was indeed growing, but the growth was energetically propped up by artificial – and, as it turned out, completely unsustainable – government stimulus. In fact, as shown in this (admittedly complicated) chart I made up while that previous recovery was proceeding, the federal funds rate – the short-term rate directly controlled by the Fed – had been plunged to multi-decade lows during that period, whether in inflation-adjusted or current dollar terms. At the same time, within a few short years, George W. Bush’s administration and the Congresses it worked with drove the federal budget from its biggest surplus in decades as a share of the total economy into deep deficit.

But did this unprecedented peacetime stimulus result in unprecedented peacetime growth? As the chart shows, anything but. And the discrepancy between Washington’s herculean efforts and the the economy’s mediocre results could not have made clearer that the nation’s engines of real (not financial) wealth creation, and thus real prosperity, had broken down.

As I’ve written repeatedly, American leaders could have responded with programs to strengthen that real economy, and therefore the real spending power of American workers. Instead, they tried to create the illusion of prosperity by enabling consumer spending that was not remotely justified by consumer incomes.

Fast forward to 2015, and despite the literally trillions of dollars of stimulus poured into the economy by the Fed under Bernanke and his successor, Janet Yellen, U.S. incomes continue to lag and the current recovery has seen even weaker growth than that of the bubble decade. It’s true, as Bernanke and others have argued, that expansion today is being slowed by a significant reduction in federal deficits. But it’s even more important to recognize that the economy will never truly heal unless the private sector leads. And let’s not forget that, thanks to the zero interest rate policy put in effect by Bernanke’s Fed in December, 2008, credit in America has never been cheaper.

Bernanke by no means deserves all or even most of the blame for the nation’s recent economic malaise. The last time I checked, the president and Members of Congress have been cashing paychecks all this time as well. But since leaving the Fed last year, Bernanke has been outspoken enough to make clear his ambition to remain a major economic voice. Judging from his take on why the financial crisis broke out, however, he doesn’t have much of value to teach.

(What’s Left of) Our Economy: The Fed’s Dangerous Can-Kick

21 Monday Sep 2015

Posted by Alan Tonelson in (What's Left of) Our Economy

≈ 2 Comments

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China, debt, Federal Open Market Committee, Federal Reserve, Financial Crisis, Great Recession, inflation, interest rates, Janet Yellen, Jobs, leverage, monetary policy, recovery, unemployment, yield, {What's Left of) Our Economy

Reverberations continue from the Federal Reserve’s decision last Thursday to keep the short-term interest rate directly controlled by the central bank at the so-called zero bound – after strong hints most of the spring and well into the summer that the financial crisis-born policy of super easy money would finally start coming to an end. Most of the commentary has focused on the incredibly convoluted rationale for delay presented by Fed Chair Janet Yellen at a press conference held following the “stand pat” announcement. That’s entirely understandable, as I’ll explain below. What worries me even more, though, is how the kinds of financial stability threats that triggered the 2007-08 crisis have apparently dropped off the Fed’s screen completely.

It’s not necessary to believe that the U.S. economy is performing well to be puzzled by the Fed decision – which was nearly unanimous. That’s because the Fed majority itself clearly believes it’s performing well. Here’s how Yellen described the recovery from the Great Recession:

“The recovery from the Great Recession has advanced sufficiently far, and domestic spending appears sufficiently robust, that an argument can be made for a rise in interest rates at this time. We discussed this possibility at our meeting.” A little later, Yellen emphasized, “You know, I want to emphasize domestic developments have been strong.”

The Chair did spotlight areas of continued economic weakness, including sluggish wage growth that was contributing to overall inflation rates remaining well below the levels characteristic of a truly healthy economy; the stubbornly high number of Americans who remained out of the workforce, which takes much of the sheen off of the major reduction seen in the headline unemployment rate; and weakening economies in China and elsewhere abroad, which roiled stock markets in the United States and overseas in August.

But she persisted in describing weak prices as mainly due to “transitory” factors, like the depressed global energy picture and the strong dollar (which makes imported goods bought by Americans cheaper). More important, Yellen repeatedly emphasized points like “I do not want to overplay the implications of these [and other] recent developments, which have not fundamentally altered our outlook. The economy has been performing well, and we expect it to continue to do so.” 

Moreover, and most important, the record makes clear that most of the voting members of the Fed’s leadership – the Open Market Committee – “continue to expect that economic conditions will make it appropriate” to raise interest rates “later this year.” All of which inevitably and justifiably has raised the question of why, if most Fed policymakers remain confident that the U.S. and even world economies will remain on a course encouraging enough to warrant slightly tighter monetary policy by year end (i.e., in three months), all except one decided that the conditions of these economies are too fragile now to withstand rates even the slightest bit higher than their current emergency, mid-crisis levels.

Nor is this question answered adequately by Yellen’s claim that it’s crucial not to raise rates too early because such actions could snuff out the recovery’s momentum. Indeed, the Chair herself stated that she buys one of the most compelling reasons to hike sooner rather than later – because the delay between the approval of a monetary policy decision like a rate hike and the appearance of its effects on the economy means that inflation could overheat if the Fed waits too long to step on the brakes.

As a result of these contradictory messages, it’s hard to avoid the conclusion either that the Fed is genuinely confused about the real state of the economy and how it can strengthen it; or that despite its expressed confidence, it still believes that even the kind of minimal rate hike it’s been telegraphing – which Yellen further has intimated will still leave monetary policy “highly accommodative for quite some time” – could bring the recovery to its knees. No wonder investors are confused, too – and increasingly nervous.

And this is only the set of problems on which the economic and financial chattering classes are concentrating. The problem they’ve overlooked for now is even more disconcerting: The Fed’s latest statements about the future of its super-easy money policies contain no mention of the big reason to be genuinely scared of super-easy money policies: They’ve shown a strong tendency to encourage reckless financial practices that tend to end in oceans of tears.

The reason should be pretty obvious, especially since it played out just a few short years ago and nearly blew up the American and global economies. When money is for all intents and purposes free and in glut conditions, incentives to use it responsibly vanish. After all, by definition, it’s no longer precious: If you lose some in a bad investment, you feel confident that more will be easy to get.

At very best, then, nothing like market forces exist to discipline lending and investing, and thereby increase the odds that credit will be used in productive ways that bring the greatest, most durable benefits to the entire economy and society. In fact, too many investors will view the strongest incentives as those fostering a thirst for yield – which drives them into ever riskier assets simply because safer choices offer so little return. At worst, borrowers take on amounts of debt that become ruinous whenever interest rates do finally rise – and threaten the entire financial system and economy.

The Fed’s reluctance to raise rates may in fact stem in part from fears about that latter scenario. It’s true that the economy is less leveraged these days than it was during the previous bubble decade. But that doesn’t mean there’s not a lot of bad, vulnerable debt out there – including that wracked up by the federal government. Worse, precisely because the longer the Fed waits, the more dubious debt will accumulate, the more painful any rate hikes are bound to be.

What’s genuinely sobering about can-kicking by the Fed is that the central bank is structured to be insulated from politics and its obsession with short-run gratification. If the Fed is so reluctant to bite this bullet, and impose some near-term costs on the economy to place it on a sounder footing, where will America’s adult supervision come from?

 

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