Home » 2010 (Page 12)
Yearly Archives: 2010
Housing market is dreadful
New home sales is making new historical lows,
and existing home sales reached the lowest level since 1996.
(click to enlarge; graph courtesy of Calculatedrisk)
After the expiration of home buying credit, this was expected. But the magnitude of decline still shocked people. Due to slow sales, inventory of unsold homes starts to ramp up again.
And this is happening despite historically low mortgage rate. Two things might be working against potential home buyer’s psychology: 1) Is my job secure? 2) Will the house price keep falling?
(click to enlarge; graph courtesy of Northern Trust)
Is America in paradigm shift?
Long recession, high unemployment. Will the long ailing economy eat away American optimism?
Almost 3 years into recession (technically, the recession may have ended in summer of 2009), the current recovery looks much dimmer than previous ones (see details in the following article). In 1970s, there was also a lot of pessimism. Back then, the problem was high inflation and high unemployment, or the so-called “stagflation”. Now, we are facing a much worse scenario, the threat of deflation combined with high unemployment. With current employment trend, we will probably still be stuck with 9% unemployment rate by the mid of the next year. People started to feel the dent psychologically, and this pessimism is so easy to spread, believe me.
For contrarian investors out there, this is your best time looking out for opportunities. But before that, let’s take a minute to read this nice piece from the Journal, “The End of American Optimism“, by Mortimer Zuckerman:
Our brief national encounter with optimism is now well and truly over. We have had the greatest fiscal and monetary stimulus in modern times. We have had a whole series of programs to pay people to buy cars, purchase homes, pay off their mortgages, weatherize their homes, and install solar paneling on their roofs. Yet the recovery remains feeble and the aftershocks of the post-bubble credit collapse are ongoing.
We are at least 2.5 million jobs short of getting back to the unemployment rate of under 8% promised by the Obama administration. Concern grows that we are looking at a double-dip recession and hovering on the brink of a destructive deflation. Things are bad enough for Federal Reserve Chairman Ben Bernanke to have characterized the economic outlook late last month as “unusually uncertain.”
Are we at the end of the post-World War II period of growth? Tons of money have been shoveled in to rescue reckless banks and fill the huge hole in the economy, but nothing is working the way it normally had in all our previous crises.
Rather, we are in what a number of economists are referring to as the “new normal.” This is a much slower-growing economy that, recent surveys have revealed, is causing many Americans to distance themselves from the long-held assumption that their children will have it better than they.
What was thought to be normal in the context of post-World War II recoveries? One is that four quarters into the recovery, real GDP would expand at an annual rate over 6%. We are coming out of the current recession at a 2.4% growth rate.
We did enjoy a GDP boost from a buildup of inventories anticipating a recovery at normal speed, but it didn’t happen. David Rosenberg, chief economist of Gluskin Sheff, regards it as “frightening” that whereas the “normal” rate of increase in final sales is 4% annually, this time sales have averaged only 1.2%, the weakest revival in recorded history.
At this point after the onset of a recession, employment payrolls have typically exceeded 700,000 jobs above the previous peak. In this recession, we are still down roughly eight million jobs from the December 2007 peak. As for consumer confidence, the Conference Board survey shows an average a full 20 points below the average lows of previous recessions.
There seems to be a structural change in the American economy. The relationship of household debt to income has proven unsustainable. The ratio is normally established somewhere below 100%, but in 2007 the debt ratio hit 131% of income. It has now fallen to 122%, but at this pace it would take another five years to bring it under 100%. The pre-bubble norm was 70%. To get to this ratio again, debt would have to be reduced by about $6 trillion.
In the meantime, we may well be looking at a vicious cycle of defaults that in turn would produce credit tightening and still more economic weakness—compounding the caution among borrowers, lenders and public financial authorities.
The most obvious source of distress right now is lack of payroll growth, and it’s likely to get worse. Real unemployment today is well above the headline number of 9.5%. That number held steady only because 1,115,000 people gave up hope of finding work and left the labor force in the last three months. Otherwise the headline unemployment rate would have been around 10.4%.
Now there are at least 14.5 million Americans still searching for work: 1.4 million of them have been jobless for more than 99 weeks, 6.5 million have been jobless for over 27 weeks. This is a stunning reflection of the longer-term unemployment we are coping with.
…The Obama administration projects the unemployment rate will drop to 8.7% by the end of next year and 6.8% by 2013. That is totally unrealistic. It means we would have to add nearly 300,000 jobs a month over the next three years. At the rate we’re going, it will take anywhere from six to nine years to climb out of this hole. The labor market may be improving, but the pace is glacial.
If there is one great policy failure of this recession, it’s that we have not used the crisis to introduce structural reforms. For example, we have a gross mismatch of available skills and demonstrable needs. Businesses struggle to find the skills and talents that are needed to compete in this new world. Millions drawing the dole to sit around should be in training for the jobs of the future that require higher educational skills.
Given that nearly eight in 10 new jobs, according to the administration, will require work-force training or higher education, it furthermore makes no sense that we have reversed the traditional American policy of welcoming skilled immigrants and integrating them into our economy. Because of a recrudescent nativism, we send home thousands upon thousands of foreign students who have gotten masters and doctoral degrees in the hard sciences at American universities. These are people who create jobs, not displace them. The incorporation of immigrants used to be one of the core competencies of our economy. It’s time to return to that successful model.
Higher education is another critical issue. As President Obama pointed out last week in his speech at the University of Texas, we have fallen from first to 12th in college graduation rates for young adults. The unemployment rate for those who have never gone to college is almost double what it is for those who have.
Education may be the key economic issue of our time, Mr. Obama said in his speech, for “countries that out-educate us today . . . will out-compete us tomorrow.” To improve our performance will involve massive increases in scholarship support for higher education, and an increase in H-1B visas for foreign students who get M.A.s and Ph.D.s in the hard sciences.
But if the economic scene these days is daunting, the political scene is downright depressing. We have a paralyzed system. Neither the Democrats nor the Republicans seem able to find common ground to address what is clearly going to be an ongoing employment crisis. Finding that common ground is a job opportunity for real leaders.
Now let’s watch this interview of PIMCO’s El-Erian, the pioneer of the fancy phrase “New Normal”.
Update 1. David Rosenberg WSJ interview, in which Rosenberg explains his position of why the risk of US economy faltering is quite high, and what’s the best solution to revitalize the economy (this is a very informative piece, will be very useful for the macro-type).
So, if America is in a paradigm shift, what does this mean for China? In the past couple of months, I have been traveling in China, talking with fellow economists. There seemed to be a consensus that this recession is also the historical dividing line on China’s economic development path – China is also in a paradigm shift, moving away from a heavily export-oriented economy to a more consumption-domestic oriented economy.
The world is changing fast…
Summer retreat in Fontainbleau
I am in Fontainbleau, France, attending my department's strategic meeting at INSEAD. The discussion will be how to position economics department inside a business school, which I know nothing about. But I won't miss the chance to come to France for some good food. Having lived overseas for just over ten years now, I feel French food is the only cuisine who could rival Chinese in terms of variety and sophistication. Some other cuisine are sometimes very good, like Italian and Thai, but they lack variety. Another pleasure to travel in France is that you can always find a good café to sit down and sip a cup of coffee, while resting your tired legs.
Deflation Fears
How real is deflation threat? Why do economists worry more about deflation than inflation? Where should investors put their money during deflationary environment. On Point, my favorite program of WBUR, discusses these questions (source: NPR).
I also include a background chart:
(click to enlarge; source: CalculatedRisk)
Inflation (core CPI) in historical perspective:
(click to enlarge; source: St. Louis Fed)
Double dippin’
Bad time doesn’t mean we can’t have fun:
What yield curve tells us about the current economy
Inverted yield curve is a very powerful predictor for upcoming recession. I still remember vividly back in 2006, the yield curve was inverted, but the economy looked bright and robust. Alan Greenspan thought "this time is different", and hypothesized that the yield curves was inverted because of global savings glut, with Asian central bankers heavily buying US long-term treasuries – this phenomenon is the so called "Greenspan Conundrum". But eventually recession hit us in December 2007, and still we are not completely out of it.
So what the current yield curve tells us about the economy – analysis from WSJ:
There's no surefire way to forecast recessions. But watching the "yield curve" comes awfully close.
Essentially the difference between long term and short term U.S. government debt yields, the yield curve is a powerful harbinger of recessions and recoveries. Nearly every time the yield on short-term debt has surpassed the yield on long-term debt—what's known on Wall Street as an "inversion"—a recession has followed.
![[AOT]](https://sg.wsj.net/public/resources/images/MI-BF244_AOT_NS_20100815183216.gif)
Meanwhile, a "steep" yield curve, when long-term rates are much higher than short-term ones, usually augurs strong economic growth. Back in February, the difference in yields on the 10-year and two-year Treasury notes hit 2.929 percentage points—a record high. That also helped fuel the V-shaped rebound in the Conference Board's index of leading economic indicators. Little wonder investors felt good about recovery prospects at the time.
The yield curve has since flattened, but at about 2.16 percentage points it remains pretty steep by historical standards. That is a key reason why many economists still see a fairly small chance of a "double dip."
Yet some caution that the yield curve is distorted at the moment by the Federal Reserve's unusual degree of interference in the Treasury market. For example, by holding short-term rates near zero, the Fed has all but ruled out the possibility of an inversion. The yield curve "may not presently be an accurate signal," San Francisco Fed researchers said in a recent paper. Excluded from calculation of the Conference Board's index, they found, "generates far more pessimistic forecasts," which puts the odds of recession during the next two years above 50-50.
So if July's index of leading indicators, which includes the yield curve, posts a small gain as expected when the figures are released Thursday, investor reaction may be understandably muted. But they shouldn't ignore the yield curve altogether. After all, when the curve inverted back during the boom in late 2005, there were similar dismissals of its predictive power. At the time, it was said to be distorted by large-scale foreign purchases of U.S. government debt. Yet by December 2007, the economy was in recession.
What message then is in the yield curve fortune cookie? For now, it seems to be: dimmer recovery, but not quite lights out.
update 1. Yield curve dynamics
Watch this fantastic movie clip on how yield curve (to be more precise, the term structure of interest rates) evolved during the past few years. (ht: Jim Hamilton).
How different is the US from Japan?
A nice piece from WSJ compares how the current economic situation in the US is different from Japan during the same period after the big housing bubble burst:
By MICHAEL DARDA
Mr. Darda is the chief economist, chief market strategist and director of research for MKM Partners.
Despite record doses of monetary and fiscal support, the U.S. recovery appears to be stumbling. First-time claims for jobless benefits are on the rise and economic growth estimates for the April-June quarter have fallen to just over 1%. Many are now asking if we are on our way to a double-dip recession or even a Japanese-style "lost decade."
These concerns are not without merit. Although the Federal Reserve expanded its balance sheet massively in 2008-2009, most of the high-powered money (currency plus bank reserves) that it's provided has piled up as excess bank reserves on deposit at the Fed.
Growth in commercial bank credit and broad money (which consists of currency plus bank reserves plus deposits in the banking system) is decidedly weak. That's a reminder that interest-rate cuts and money printing don't have the same traction when households are debt- and savings-constrained, and financial institutions are uncertain about the value of the collateral underpinning their loans.
But there are key differences between where we are now and where Japan was 50 months after the 1990 peak in its real-estate market. These differences make it less likely that we'll succumb to a deflationary double-dip recession or a lost decade.
For example, industrial commodity prices are about 75% above comparable levels in Japan just over four years from the peak of its real-estate bubble, suggesting a lower risk of a deflationary slump here. Corporate profits in the U.S. are more than 50% above where earnings were at this point of the cycle in Japan, despite the fact that the S&P 500 is actually lower than the Nikkei 225 was at this point in Japan.
Although broad money is currently expanding slowly in the U.S., the level of the broad money stock is 20% higher here than it was in Japan 50 months from the peak in its real estate market. This gap owes to the more aggressive early efforts of the Fed as compared with the Bank of Japan.
Those concerned about a Japanese-style lost decade occurring here will point out that the Treasury yield-curve spread (the gap between long-term interest rates and short-term interest rates) is actually narrower in the U.S. now than it was in Japan 50 months from its real estate peak. This gap not only gives us a picture of monetary policy, it also tells us about the behavior of inflation expectations. The yield-curve spread actually widened after the Fed announced the planned purchases of $1.75 trillion in agency, mortgage and Treasury debt in early 2009, as deflation expectations were replaced with expectations for modest inflation.
But the yield-curve spread peaked in February 2010—the same month the level of the monetary base peaked—and has since narrowed sharply. Treasury Inflation Protected Security (TIPS) spreads have compressed during this period. These indicators suggest the need for the Fed to remain accommodative, as the Fed statement on Tuesday suggested would be the case.
The current economic situation looks like the first few years of economic recovery following the 1990-91 U.S. recession, which were also characterized by weak broad-money growth and a contraction in bank lending. The M2 money supply (a measure of broad money) expanded by only 1.4% per annum through 1994 from 1992, but the velocity of money (the frequency with which a unit of money circulates) turned higher, allowing real GDP growth to average 3.7% per year nonetheless.
Putting fiscal policy on a sustainable, pro-growth track may help reduce uncertainty and improve velocity now.
One problem that dogged Japan during its lost decade was a stop-and-go fiscal policy in which stimulus packages were administered in an "on again, off again" fashion and taxes were lowered and then raised. There is a risk that the U.S. could fall into this trap in an effort to strike a balance between short-term fiscal support and long-term budget integrity.
This strongly suggests that congressional leaders of both parties should embrace a pro-growth fiscal reform that would help to create long-run fiscal stability and foster certainty about future tax rates. With the 2001-2003 tax cuts set to expire at the end of 2010, the time is now to move ahead with broad-based reform.
A good starting point would be the bipartisan Wyden-Gregg tax reform bill. This bill is not incredibly bold, but is probably the best we could do in the current environment and is much better than the current tax code.
Wyden-Gregg would be revenue-neutral; it would simplify the tax code by reducing the number of personal income tax brackets to three from six and would do so without raising marginal income tax rates. The bill also would cut the top corporate tax rate to 24% from 35% in exchange for eliminating corporate tax loopholes.
This would surely be preferable to raising marginal tax rates at a time of high economic anxiety. Raising tax rates on capital, which will occur if the 2003 tax cuts expire at the end of this year, generally has not been an effective source of revenue for the Treasury and could do damage to the recent strong productivity trends the U.S. has enjoyed.
The most likely course for the U.S. economy from here is for a choppy recovery cycle to continue until households have increased their savings and reduced their financial obligations to sufficient levels and financial institutions have more confidence that loan losses have peaked.
Avoiding policy mistakes during this period will be critical. While the Fed is the ultimate source of liquidity and thus "demand," congressional leaders could help reduce uncertainty and increase confidence by embracing a bipartisan tax reform that focuses on broadening the tax base and preserving incentives for growth.