By B.P.T., on August 19th, 2010
At 8:30 AM EDT, the U.S. government will release its weekly Jobless Claims report. The consensus is that there were 480,000 new jobless claims last week, which would would be an slight increase in claims from last week’s number, which was the highest since February.
At 10:00 AM EDT, the Leading Indicators report for July will be released. The consensus is that this index increased by 0.1% last month as mixed signals about the economy continue.
Also at 10:00 AM EDT, the Philadelphia Fed Survey report for August will be released. The consensus is that the index will be at 7, which would be an increase of 2 points, though still lower than June’s index value.
At 10:30 AM EDT, the weekly Energy Information Administration Natural Gas Report will be released, giving an update on natural gas inventories in the United States.
At 4:30 PM EDT, the Federal Reserve will release its Money Supply report, showing the amount of liquidity available in the U.S. economy.
Also at 4:30 PM EDT, the Federal Reserve will release its Balance Sheet report, showing the amount of liquidity the Fed has injected into the economy by adding or removing reserves.
By B.P.T., on August 18th, 2010
By Winton Bates, on August 18th, 2010
Over the last few years quite a few political commentators have been saying that no-one really knows any more what the Australian Labor Party stands for. Some of them contrast modern Labor’s apparent absence of philosophical underpinnings with ‘the light on the hill’ that former prime minister, Ben Chifley, spoke of in 1949.
I imagined that Chifley must have been talking about the socialist objective – nationalisation of the means of production, distribution and exchange – that Australian Labor dispensed with a long time ago.
However, when I looked, what Chifley actually said about the ‘light on the hill’ seems to have much more contemporary relevance:
‘I try to think of the Labour movement, not as putting an extra sixpence into somebody’s pocket, or making somebody Prime Minister or Premier, but as a movement bringing something better to the people, better standards of living, greater happiness to the mass of the people. We have a great objective – the light on the hill – which we aim to reach by working the betterment of mankind not only here but anywhere we may give a helping hand. If it were not for that, the Labour movement would not be worth fighting for’ ( Speech by Ben Chifley at the ALP conference in 1949).
Now, if you leave out the mention of the ‘Labour movement’, that statement doesn’t seem to me to define anything peculiar to the Labor Party. If anything, it seems to have a Benthamite liberal flavour to it. I can’t see how the meaning of ‘greater happiness to the mass of the people’ could differ much from ‘the greatest happiness of the greatest number’. The ‘betterment of mankind’ sounds like a phrase that John Stuart Mill might have used. The internationalist flavour of ‘anywhere we may give a helping hand’ does not seem to me to express a sentiment that is peculiar to the Labor Party.
I don’t think that Labor ever had sole ownership of Chifley’s light on the hill. Chifley made a great speech but it didn’t define what Labor stood for in the way that Menzies ‘forgotten people’ speech a few years earlier still defines a lot of what the Liberal Party stands for. The idea of ‘bringing something better to the people’ was just as much a Menzies objective as a Chifley objective. Today, it is just as relevant to Tony Abbott as to Julia Gillard.
When a political party doesn’t have a guiding philosophy voters are largely left in the dark about how it is likely to respond to the problems it will face in government, other than that it is unlikely to bite the hand that feeds it (trade unions in the case of the Labor Party). The policies that the parties take to an election tell only a very small part of the story of what they are likely to do in government. Tony Abbott has written books about his guiding philosophy (his latest was reviewed on this blog last year). Like him or loathe him, voters do at least know where Abbott is coming from.
I think Julia Gillard could probably give Labor something distinctive to stand for – something to move forward to – if she sets her mind to it either as prime minister or leader of the opposition. There could be the germ of a distinctive objective for a social democratic party in moving toward more equal opportunity for children in some of the things that Gillard has been saying about education. But those ideals, if they exist, remain hidden beneath endless outpourings of meaningless verbiage.
By Ajay Shah, on August 18th, 2010
Tom Wright and Siobhan Gorman in the Wall Street Journal on new thinking by Pakistan’s ISI about who is enemy #1.
Tamal Bandyopadhyay in the Mint on the campaign against C. B. Bhave. Also see Ashok Desai and Mahesh Vyas on these issues.
A. K. Bhattacharya in the Business Standard on the crisis of project management in government. This is what animates Nandan Nilekani’s TAGUP group and I hope this induces fundamental change in Indian public administration. Also see.
Fascinating new research by Devesh Kapur, Chandra Bhan Prasad, Lant Pritchett and Shyam Babu, written by Ila Patnaik in the Financial Express.
Jayanth Varma is dismayed at RBI’s lack of modern finance knowledge in thinking about CDS.
India on the FATF high table by K. P. Krishnan, in the Economic Times.
Neelasri Barman and Parnika Sokhi in DNA about the most important question in RBI reforms: that of HR practices. Roughly 30
years ago, RBI used to do direct recruitment at middle management levels. When the union became powerful and recruitment became restricted to the entry level, it had greatly damaging consequences on the organisation’s capability. If the HR falls
into place with really top quality people, then all the needed RBI reforms will rapidly get done.
William Dalrymple in the New York Times on Sufis.
Jeffrey Goldberg in the Atlantic magazine about the task of stopping Iran’s nuclear capability.
Jeff Frankel says that we have a lot to learn from small countries.
Damon Darlin in the New York Times tells the story about how Netflix worked on video over the net even though this directly
competed with its profitable DVD-by-post business.
Javier Blas and Greg Farrell in the Financial Times on the interesting role of agricultural commodity futures in the recent
flareup of prices.
By B.P.T., on August 18th, 2010
The Mortgage Bankers’ purchase index was released at 7:00 AM EDT, and there was a week to week decrease of 3.4% in the Purchase Index and a week to week increase of 17% in the Refinance Index due to low interest rates.
At 10:30 AM EDT, the weekly Energy Information Administration Petroleum Status Report will be released, giving investors an update on oil inventories in the United States.
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By Claus Vistesen, on August 17th, 2010
It has been a while since I have had a round of these and in the current macro/market environment I thought it an excellent occasion to take some pot-shots at the market discourse. So, read on if you want to see what it looks like when I am being (excessively) smug, an econometric model of Eurozone industrial production and a look at them US treasury yields which have gotten an awful lot of attention lately.
Don’t ya just love it when you are right?
Well I do and while this is not making a killer profit kind of right I still take comfort in the fact that the themes I am talking and thinking about also seem to be moving much closer to the center of the financial market discourse. First off, do you remember my notion of the Old Maid in the context of G3 currency markets?
Old Maid is a card game where the simple task is to avoid holding a given card (often the queen of spades) at the end. Even in the company of good friends however, holding Old Maid at the end is not fun. Often, you have to buy the drinks, drop a piece of clothes, or endure other travails. And as it turns out, the global FX market is not unlike this good old game of cards where the Old Maid is proxied by having a strong currency on whose shoulders the correction of global macroeconomic imbalances must invariably fall. In this way, and although one sometimes get the feeling that everyone believes that everybody may actually export their way out of their current misery, buying one country’s currency means selling another and thus, someone (be it an individual economy or a group/basket of economies) must end up holding Old Maid.
I hope the, albeit convoluted, introduction above will give you an idea of where I am going with this. Never mind of course that I was not entirely right in terms of which currency that would turn out Old Maid since I predicted the USD to strengthen (it has against the Euro) consistently in 2010 and while I believe this to come through eventually, the story so far has been a bit more complicated. First off, the USD did start 2010 holding Old Maid as tensions in the Eurozone saw the Euro plummet, but contrary to expectations, the remarkable strength of the JPY is becoming a story which cannot be ignored; in particular, its ill-recovered role as safe haven currency of choice in times of risk-off sentiment is something I did not expect.
To that end I feel vindicated in my overall theme and as such I welcome the Economist on my side of the fence as they articulate, this week, the idea of a race to the bottom among G3 currencies. I like the following in particular;
A cheap currency is especially prized now, when aggregate demand in the rich world is so scarce and exports to emerging markets seem the best hope of economic salvation. (…) The battle for a cheap currency may eventually cause transatlantic (and transpacific) tension: not everyone can push down their exchange rates at once. For now, though, the dollar holds the cheap-money prize.
Now, I am ready to repeat this almost to the degree of my readers potentially reaching insanity; the G3 are now effeftively dependent on exports to grow and since they are all looking to the same customers you end up with too much supply (of savings) relative to demand. Or … we can turn it around and say that there is too much demand for yield (excess supply of savings) relative to supply (capacity to absorb it). See, this is not so difficult.
The important part of course and where it all comes together is that this export dependency/propensity to save is not a deus ex macina but has a concrete and real driving force. In that vein, two recent contributions to the debate are very important. First off, we have Előd Takáts’ BIS paper on ageing and asset prices which provides evidence to show how ageing, in the context of real estate prices, are deflationary [1]. Now, I might take issue with the theoretical framework being a life cycle and not a life course model (wonk alert!) and I might also take issue with the empirical framework, but I wholeheartedly support the paper’s conclusion.
The estimates show that demographic factors affect real house prices significantly. Combining the results with UN population projections suggests that ageing will lower real house prices substantially over the next forty years. The headwind is around 80 basis points per annum in the United States and much stronger in Europe and Japan. Based on the analysis, global asset prices are likely to face substantial headwinds from ageing.
Note here his sample is only the OECD and thus global is somewhat a misnomer here.
Secondly, I welcome no other than almighty Goldman Sachs on my side of the fence (hat tip FT Alphaville) with their recent exposition on how global imbalances might not actually get better, but worse, and how all this is down to demographics.
Up to the age of 35, the population appears to be a drag on the current account position—in other words, people invest more than they save, on average. Between ages 35 and 69, people on average appear to save more than they invest. These are the so-called ‘prime savers’, and having more of them in the population would tend to improve the current account position …
In Alpha.Sources land this is a well known tune and while it may actually be a little more complicated than this I find it extraordinarily refreshing to be arguing alongside the Illuminati in the future. Now, I should make it immediately clear here that Goldman’s final conclusion is problematic;
These shifts could push towards a cleaner split between EM (mostly in surplus) and DM (mostly in deficit) than is the case in the current, more complex picture. In particular, demographic pressures could see the largest DM surplus countries (Japan and Germany) move into deficit and the largest EM deficit countries (Brazil, India and Turkey) move into surplus.
Well actually, they are just plain wrong here. Basically, they are scratching in the right places but end up with the wrong conclusions because they neglect the effect from ageing on aggregate demand. The argument above hinges on a link between dissaving and external deficits which is difficult to reconcile with rational economic behaviour. Finally though, and as a perspective I have only recently started to think about the role of (lagged) capital deepening in emerging markets is very, very significant as well.
What about that double-dip then?
So, Eurozone industrial production took a turn for the worse in June with the drop driven by weakness in durable consumer goods such as furniture and home appliances according to Bloomberg. To that end I thought that I would try to asses the potential for a double dip (in Europe) based on Alpha.Sources’ (only) proprietary econometric model.
I remain bearish on the macro environment in Europe and indeed I think that deflation will ultimately be a continent wide outcome, but timing is of the essence here. We learned today that Germany put in an all time excellent economic performance in Q2-10 which does indeed seem to be paving the way for a downward turn in H2 2010 (especially since my guess is much of this was driven by inventories). This view is somewhat supported by the evolution in industrial production which seems to be signalling a turning point in the annual change. This is consistent with mean reversion of the index in annual changes and, in economic terms, with a slowdown in momentum. This is interesting as the turning point would occur at a point where the level of industrial production was still some 10-15% lower than pre-crisis peaks and indeed still lower than in 2005 (2005 = 100 in the charts above).
Further evidence today comes from the overall Flash estimate of Q2-10 European GDP which shows that Germany remains the only real stellar growth story. Over the quarter both EU27 and EU16 grew an impressive 1.0% driven by strong growth rates in Germany and France. Greece on the other hand saw its contraction accelerating and over the year both Greece and Spain saw contractions (Spain saw a 0.2 expansion over the quarter).
In this sense, European growth remains very skittish and I think we will see a double dip in the Eurozone in H2-10 while the US should just avoid one. Finally, I maintain my view that although growth will slow to the detriment of risk assets, there is almost no risk of a global double dip due to continuing strong growth in Asia and Latin America.
Where goes them US treasury yields?
Probably the most hotly debated lately has been the relentless decline in US treasury yields and by extension the idea that deflation has become an entrenched reality at the same time as stock markets have soared. Now, there are a lot of ways to skin this cat which should be evident on the basis of the absolute storm of punditry on this issue lately. A couple of important general points are worth mentioning here. First of all, this is closely tied to the the prospects of a double-dip recession in the US where some commentators have recently flagged the issue that while conventional recession indicators point to sustained growth these very same indicators rely heavily on the slope of the yield curve (e.g. Albert Edwards from Soc Gen and BCA have recently made this point in their research). The point is that since short term rates (and by derivative yields) are already close to zero there is no way that the yield curve can invert (a traditional harbringer of recession) even if a recession is imminent. Secondly, it would be nice to be able to argue on the basis of some simple arithmetic rule here such as e.g. mean reversion, but the problem is that even when deflated by the annual change in CPI the real yield on US treasuries (2y and 10y in this case) are still trending (downwards).
I will neatly sidestep any discussion about whether this is end of the bull market in government bonds since this is a chicken-and-egg type of discussion. If you believe in perma-deflation, short term yields will hover around zero and, c.f. the latest from Rosenberg, the Fed will try flatten the yield curve by moving in on the long end. I am leaning towards this scenario for 2011 and thus lower yields are here to stay (at least in nominal terms). If we take the current message from the 2y and 10 year yields at face value and assume, naively, that the average inflation rate for 2010 will prevail as an average over the next 10 years the outlook is poor with real yields on the 2y notes negative and only slightly positive for the 10y horizon. Going back to Rosenberg, what he is essentially saying is that bringing on additional QE might serve to flatten yield curve from the long end of the spectrum as the Fed begins to massage yields at longer maturity.
Indeed, as a result of record low yields on 2y notes the 10y2y curve has never been steeper than is currently the case and while we would expect short term interest rate to flatten it as we move into recovery, this time might be different (going back to Rosenberg’s argument again even though 10y is not long term in the ultimate sense of the word when talking about treasury yields).
So where do they go? Let me answer that question with another (rhetorical) question. Do I believe that QEI, II, III etc will work and ward off deflation in the US? Yep, I do and as such I see higher yields going forward, but for now I am very comfortable with the call that short term yields will remain low for at least the next 12 months and that Rosenberg is likely to be right. So, not quite time yet to take a random pot sho(r)t at them bonds.
—
[1] – Link this to the notion that global imbalances are driven by real estate price fluctuations and housing market dynamics and you should have that fuzzy feeling by now.
Data is from the ECB and FRED (St. Louis Fed)
By Ajay Shah, on August 17th, 2010
Raghuram Rajan’s book Fault Lines (Princeton University Press for the international edition, and Harper Collins for an Indian
edition with a special chapter on India) is possibly the most thought-provoking contribution in the aftermath of the economic and
financial crisis that has engulfed the West after 2007 with significant global repercussions.
The epilogue of the book summarizes its punch line:
The crisis has resulted from a confusion about the
appropriate roles of the government and the market. We need to find
the right balance again, and I am hopeful we will.
The key idea of Fault Lines is to focus on slow-moving tectonic plates in the global economy: consumption by borrowing in
countries with fiscal deficits, excess savings in exporting countries that are fiscally in surplus, and growing sophistication of the
financial sector. None of these movements might seem dangerous in itself, but when these plates come together and collide, the global economy can get badly shaken. To most players focused narrowly on their own positions, leave alone the movements of the plate they stand on, the earthquake – like this crisis – may seem an unfortunate happenstance. In the analytical framework of Fault Lines, the crisis was not a pure accident and that more severe crises could arise in future unless the root causes are addressed sufficiently soon.
The book presents two important government distortions in the global economy and their underlying causes. These are (i) the push for universal home ownership in the United States, and (ii) export-led growth in countries such as Germany and China. Together,
these policies have led to massive “global imbalances”, with some countries such as the United States, the United Kingdom and
Spain persistently being in deficit, and borrowing from the surplus, exporting nations. While pursuit for home ownership affordability and growth do not necessarily have to be distortionary, the book makes the sharp observation that these have been occurring at the expense of something more important but subtle.
In the United States, there has been growing income inequality, which combined with a relatively feeble safety net for the poor and
unemployed, has created pressure on politicians to find quick ways to bridge the inequality. Instead of improving the long-run
competitiveness of labor force for a global market with a changing mix of industries and required skills, governments have adopted the short-run option “let them eat credit” (the title of Chapter One). The presence of government-sponsored financial firms in
the United States (Fannie Mae and Freddie Mac, in particular) enabled exercising such an option readily through a push for priority
lending to the low-income households (sub-prime mortgages).
In case of surplus countries, it has been the problem of exporting to grow (the title of Chapter Two). Their single-minded focus on exports has led governments to ignore the domestic sector, preventing sufficient redeployment of surplus for internal development, and somewhat perversely, even boosted domestic savings rates significantly due to lack of adequate safety nets (at
least in case of China, if not in case of Germany). As someone mentioned in a recent dinner conversation: Each child in China is
saving to fund post-retirement expenses not just of two parents but also of four grandparents. These savings have thus had no place to go but outside, giving rise to massive capital inflows that fueled the housing sector expansion in the US, the UK and Spain.
What is fascinating is that Fault Lines explains how these lop-sided government policies of two separate sets of countries have
interacted with each other – and with the financial sector – in fueling the expansion to levels of unsustainable housing bubbles. The
idea here is that the invisible hand operating through the price when the price is distorted can also lead to massive distortions in the
allocation of capital. The financial sector in developed world is so sophisticated and amoral (a great choice of word by the author) that its dispassionate pursuit of profits leads it to direct capital to wherever there is a relative mis-pricing. So if governments are
subsidizing home ownership, efforts will be made to deploy all free capital of the world to the housing sector. If some governments are finding it cheap to borrow because savings are seeking them out, the financial sector will grow at a sufficient rate to absorb and support expansion of housing credit through these capital inflows.
Clearly there have been incentive-based distortions in the financial sector, especially due the short-term nature of accounting-based compensation that ignores true long-term risks. The book explains, however, that the bigger issue was something else: that the imbalance of capital flows and the ease of pushing sub-prime home ownership – both due to government distortions – meant the
financial sector was essentially a conduit to making happen what the rest of the world was seeking to achieve. In the process, banks made a ton of bad loans (but the governments were happy with that till it all really blew up). And some parts of the financial sector pursued this role even more aggressively than one could have imagined due to the steady entrenchment of too-big-to-fail expectations — large banks being repeatedly bailed out through government forbearance and enjoying Central-Bank monetary stimulus each time markets turned south.
Some may question the basis of this argument by saying – why did we see credit expansion across board and not just in low-income
households? Here, Fault Lines focuses on a rather fascinating phenomenon that recoveries from recent recessions, especially in the
United States, have remained “jobless” for extended periods of time. Perhaps as a subconscious response to this (or due to
ideologies in other cases), Central Banks have tended to provide massive monetary stimulus to get the financial sector to push the
household consumption and real sector investment harder and harder through greater lending and intermediation. Such stimulus,
unfortunately, again serves to transfer rents from households to the financial sector (by keeping interest rates low) and produces
mispriced risk. Thus, the economy moved “from bubble to bubble” (the title of Chapter Five), until the most recent bubble could not be mopped up by anyone, not even the most innovative Central Bank of all, despite its own best efforts.
In essence, Fault Lines connects the dots visible to all of us in a rather ingenious manner to provide an explanation of what brought about the perfect storm we have recently weathered.While the book is worth it even just for its explanation of why we had a crisis now rather than at some other points of time, it goes the extra mile and proposes valuable reforms, focusing on all three
issues: building a better safety net in the United States (see in particular, the suggestions to improve education access to all and
extend a greater level of unemployment insurance), reducing the global imbalances, and improving the regulation of the financial sector so that it (and its financiers) pay for mopping up of bubbles it fueled, rather than governments and Central Banks passing on these costs to taxpayers.
The book also helps understand why export-based Chinese and German growth, and their effective vendor financing of consumption in the US and Euro-zone countries, may ultimately face limits as consumption slows. These countries are now being forced to become the stimulators of growth and run the risk of planting seeds of bubbles in their own economies. This is how hidden fractures still threaten the world economy, as the book’s subtitle goes. It also leads one to reconsider that India’s slower growth rate than China, while not entirely faultless, might however be more balanced given its lack of extreme export reliance.
Raghuram Rajan’s writings are always cogent and based in sound set of facts. But this book is special in the sense that here he paints on a much larger canvas, covering bases from distributional issues within income strata of society, to the persistent capital imbalances across large countries of the world, and the ruthless profit-maximizing incentives of modern market-based financial sector.
There is a lot going on in the book. But it is written with great examples and cases – almost lyrical at times (even has a fascinatingpoem recounted in the chapter “The Fable of the Bees Replayed”), and should be accessible to one and all. It willcertainly question some long-held biases about current state ofeconomic conditions in Western countries. But it is hard to not take a deep breath and ponder once you have read it all. In many ways, it shows that when economic conditions so demand or induce, the developed world behaves much the same way as the developing world: they are both after all driven by choices of human beings and the book lays out somecommon patterns of global economic behavior – in households, marketsand governments.
By B.P.T., on August 17th, 2010
At 7:45 AM EDT, the weekly ICSC-Goldman Store Sales report will be released, giving an update on the health of the consumer through this analysis of retail sales.
At 8:30 AM EDT, the Housing Starts report for July will be released. The consensus is that construction on 565,000 new homes were started last month, which would continue the downward trend in the housing market since the end of the housing stimulus.
Also at 8:30 AM EDT, the Producer Price Index for July will be released. The consensus is that the index increased 0.2% over last month, and increased 0.1% when food and energy are excluded.
At 8:55 AM EDT, the weekly Redbook report will be released, giving us more information about consumer spending.
At 9:15 AM EDT, the Industrial Production report for July will be released. The consensus is that there will be an increase 0f 0.6% in production and an increase of 0.4% in industrial capacity utilization.
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By Eldon Mast, on August 16th, 2010
The big banks are now openly seeking out deals to back once again. And in response, some savvy private equity firms have sought to accelerate what they do best — acquiring firms and then reselling those companies at a premium.
Following retrenchment in activity in 2009, this year buyout firms have been seeking to put their billions of dollars in untapped investor capital to use by taking on additional risk.
For instance on Friday, the Blackstone Group, one of the largest private equity holding companies, agreed to buy Dynegy, the Houston power company. The price tag — $4.7B — the largest of the year.
According to Thomson Reuters that brings the total for leveraged buyouts to just over $42B in calendar year 2010.
Friday’s transaction continues to remind us that big money is betting on a world economy that grows steadily well into next year.
By Ajay Shah, on August 16th, 2010
RBI has a discussion paper on opening up banking for entry by private banks. See responses by Jayanth Varma in the Financial Express and by Ila Patnaik in the Indian Express. Also, a less coherent response from me on TV.
A nice feature of the above RBI URL is that it also links to the January 1993 guidelines on entry of new private banks and the January 2001 guidelines.
Striking a balance between avoiding crooks and theft, and ensuring competition, is hard. It’s easy to go to either extreme, but the puzzle lies in finding the middle road. These are the political and governance challenges that India must now grapple with.
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