By Doug Gentry, on July 21st, 2011
The country pulled together to fight in WWII – stimulating economic growth
When we study the Great Depression, and the double dip recession of 1937-38, the class discussion inevitably ends up with the role that World War II played in bringing an end to a decade’s worth of poor economic performance. Which leads us to the question – is going to war good for economic growth, and if it is should we adopt war as an economic growth strategy?
The simple answer is, “no” - war just diverts a nation’s scarce resources from one activity to another. Even if some resources are idle, the gain is short-lived and a poor investment in long term growth. (Think of a tank burning in the Iraqi desert versus a fleet of trucks hauling freight for 20 years.) In the case of the Depression and World War II, the threat of Nazi Germany and, later, Japan, gave Congress and the President political cover to use deficit spending which in turn stimulated the economy. Ultimately, though, the country’s economic growth came from private investment and private demand after the war.
 No worries about the government borrowing money (through the sale of bonds) in the face of an enemy This brings us to the “Broken Window Fallacy”. With a hat tip to econ major Ryan Chaddock, there’s a nice summary of this parable here. The fallacy poses a similar question – should we go around breaking windows in order to generate more work for glaziers?
Bastiat’s point, in a way, is about opportunity cost- unless resources are idle, they must be shifted away from one activity in order to be shifted toward another.
[...] Even if breaking the window were to increase production in the short run, the act cannot maximize capital or wealth in the long run simply because it will always be better to not break the window and spend resources making valuable new stuff than it is to break the window and spend those same resources replacing something that already existed.
By Eldon Mast, on August 25th, 2010
The economic stimulus package may have added as many as 3.3 million jobs to the economy during the second quarter of this year and according to the independent Congressional Budget Office (CBO) may have prevented the nation from lapsing back into recession. The report was released by the CBO on Tuesday.
The details of the CBO report said that the stimulus lowered the unemployment rate by between 0.7 and 1.8% in the second quarter and increased the number of people employed by between 1.4 million and 3.3 million.
The budget office said the act also increased the nation’s GDP by between 1.7% and 4.5% in the second quarter of the year.
By Claus Vistesen, on July 30th, 2010
I am a great believer in divergence when it comes to the talking about the economy and her markets because it allows you to take a slightly more nuanced perspective than the risk off/risk on debate that has dominated the discourse for the past two years now.
The Global Economy
Still, there is much to suggest that when it comes to global economic discourse whatever your take on things is it follows an easily identifiable framework (click for better viewing).
It is my bet that whatever your position is on global growth, markets, the future of the Eurozone, the prospects of a bubble in China, inflation in India, the price of base commodities (etc etc) you will find yourself comfortably positioned somewhere in the matrix above. In fact, it is hard to form an opinion today on the global economy and its sub-components without taking a decisive stands along the spectrums above. Naturally though, there is more than meets the eye.
Note in particular that I take “excessively” loose monetary policy as given since here we find another case of divergence. Essentially, the debate is currently raging between those who advocate fiscal austerity as a precondition to securing future growth and those see it as a repetition of the same mistakes that were made in in 1937 as policy makers in the US assumed that the recovery was already a reality. Yet, when it comes to monetary policy it is taken as given that rates will stay near zero in the G3 for at least the next 8-12 months. Again, we have divergence here; divergence between policy positions and debates, but also divergence between global monetary policy regimes since you can just ask Reserve Bank of India Governor Duvvuri Subbarao what he thinks of loose monetary policy as he recently headed a 0.5% upward move in the base rate which widens the spread to the G3 even further.
Divergence here of course plays to the disadvantage of both monsieurs Trichet/Bernanke and Subbarao since the money created by the former won’t stay to help their ailing economies but, in stead, race off to India (and elsewhere) fuelling an already raging inflation bonfire. Recently, the IMF downgraded its forecast for global growth (relative to pre-crisis levels) and thus in some sense lowered the bar for the natural speed limit of the global economy. It would however be too pessimistic to interpret this as secularly bad news since divergence will be the key word going forward on the macro level. Especially, the divergence between those economies with sufficient domestic demand capacity to reach “escape velocity” and those whose domestic economic momentum is essentially deflationary is a key theme.
To Pick or not to Pick
Another case of divergence which I recently picked up on is the growing discomfort among value investors that the gains from stock picking is being traded away. This is a long running theme on FT Alphaville and this week it is running two stories which push this point of view. The first is the coverage by Izabella of this piece in which Toronto-based money manager Friedberg Mercantile describes the pain of seeing its long time old and faithful market neutral strategy collapsing due to the correlation of everything. Of course this is not a cry-baby defence piece and it tracks its issues to a lack of dispersion between stocks due, in part, to the rise of exchange traded funds (ETFs) designed to mimic an index or specific asset class.
But this is not all and Ms Kaminska continues her coverage on this by pointing to a piece from Barclays Capital equity research people which lays out the same story. I especially like the point that while equity correlation remains a function of volatility the increasing run to index traded products increases the base level of correlation.
To summarize, in our opinion, while equity correlation continues to be highly dependent on volatility, the rise in indexation has led to a permanent increase in its “base” level. Thus while we do believe that the current high levels of realized and implied correlations are unsustainable, the eventual drop is not likely to be as high as some market participants might expect.
I think this is a very interesting point.
I do also find it almost ironic since one could arguably point to the fact that an increasing focus on buying the market (or a specific asset exposure/class) would mean that value investors got better prospects of carving out niches for them to excel in.
As for the divergence in all of this, you should by no means think that the value investor narrative is dead and buried. Today, Greg Donaldson (the director of Portfolio Strategy of Donaldson Capital Management) has penned a story over at Seeking Alpha in which he specifically suggests that retail investors go for single stocks and not “the economy”.
What retail investors may be missing is that they are not investing in the economy. They are investing in companies. And, some – even many – companies can do quite well even during weak economies.
This point was recently given a run in the always excellent research from BCA (no link available) where they made a classic analysis of the SP500 sectors adjusting weightings based on valuation metrics and thus that positive returns were to be found in a market which traded sideways or even corrected downwards. Of course, they did talk about sectors but still the message was very much one of divergence based on fundamentals despite overall head winds to the economy. Similarly and despite the almost non-event of the recent Eurozone stress test one theme which emerged was indeed that investors could now discriminate between banks based on on their disclosure of sovereign debt holdings. Intuitively, this makes sense too I think, but if everything is correlated should you willingly allocate funds to such a strategy?
Where do you belong?
As ever, picking the right strategy or formulating your own and informed opinion on global economic and financial matters is just as much a question of where you don’t fit in as where you fit in. Be it a question of the main fault lines of the global economy, the right between loose/tight monetary and fiscal policy or the right investment strategy divergence is the name of the game and choosing the right side of the fence is not only important for your own intellectual satisfaction, but also may be important for your portfolio.
By Eldon Mast, on May 26th, 2010
Existing home sales soared in April as existing home buyers rushed to take advantage of the tax credit that expired at the end of the month.
On Monday, the National Association of Realtors reported that existing home sales jumped 7.6% last month to a seasonally adjusted annual rate of 5.77 million units, up from a rate of 5.36 million in March. Sales year-over-year were up 22.8%.
Even though the jump was widely anticipated, it still beat forecasts. The consensus among economists was that resales in April would only rise at an annual rate of 5.65 million units.
The median price of all existing homes also rose in April. Existing home sales tally the number of previously constructed homes, condominium and co-ops in which a sale closed during the month.
Details of the report show comparable gains for both single-family homes, up 7.4%, and condos, up 9.1%. The Northeast led the regional breakdown of gains.
By Eldon Mast, on February 17th, 2010
Many of you have emailed us with the Organizing for America’s chart on job savings and creation since the stimulus bill was passed last year.
I’ve recreated their chart here:
We all know there is a long way to go and many Americans are still struggling to find jobs, but there is certainly cause for optimism depicted in this chart.
No doubt many of you were reminded of the chart we’ve been tracking with linear fit trending since October. Perhaps the Obama administration took note of how we presented these same facts in our earlier post!?
Thanks to all for the emails. Keep them coming.
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By Eldon Mast, on February 11th, 2010
Treasury Secretary Timothy Geithner said the country’s debt rating is not at risk because of the trillions of dollars of government spending to shore up the economy.
Asked on ABC’s “This Week” Sunday whether the government would lose its triple AAA sovereign debt rating, Geithner said: “Absolutely not and that will never happen to this country.”
Geithner said there was less risk now that the economy would slip back into recession, a pattern known as a “double-dip” recession.
“We have much, much lower risk of that today than at any time over the last 12 months,” Geithner said.
The labor market which was under significant strain last year at this time is now on the cusp of creating a substantial number of new jobs. The unemployment rate is already beginning to reflect that turn falling from 10% in Dec to 9.7% in Jan.
“We had a huge shock to the American economy and we’re still living with the aftershocks,” Geithner said. “You’re seeing the first signs now of business starting to take some risks again.”
Geither went on to dismiss earlier comments by Sen. Scott Brown (R-Mass.) — calling his assessment of the $787 billion stimulus package — “Flat wrong!”
After winning the Massachusetts election, Brown was quoted as saying that the stimulus did not create or save any jobs.
“I don’t think there is any basis for that judgment,” Geithner said.
The White House and independent economists (including our job charts here) have illustrated that the stimulus package has saved at least several million jobs and is on the verge of creating several million more by later this year.
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By Eldon Mast, on December 7th, 2009
President Obama convened a “jobs summit” at the White House Thursday morning. It was likely one of the more brilliant moves of his presidency.
One of the most notable early promises from Obama was that the massive stimulus measure signed into law earlier this year would save or create 3.5M American jobs. The President and the White House have continued to defend that claim vigorously since stimulus spending began.
The biggest challenge for them has been that even though spending has reduced the number of jobs losses, net job losses have continued and thus the unemployment rate continued to rise… until this week.
For months business groups, financial blogs, labor leaders, think tanks and lawmakers were lining up to offer the President their ideas about creating jobs. The Left arguing that more spending is required, while those on the Right argue that the government intervention and spending programs have been wrong all along.
So why hold a “jobs summit,” and underscore a 10.2% unemployment rate right at the dawn of an congressional election year? The move is brilliantly timed.
Based on the job loss data that we’ve been tracking here, we’ve said repeatedly that a return to net jobs growth will be real and measurable in the data by Christmas. This week showed more evidence that economic activity has now resumed to such a level that the unemployment rate has peaked, joblessness has started to fall, and jobs growth is now resuming.
So the timing could not have been better for Obama to go on record on Thursday: “We are going to be bringing together people from all across the country — business, labor, academics, not-for-profits, entrepreneurs, small and large businesses — to explore how we can jump-start the hiring that typically lags behind economic growth, but we don’t want to wait. We want to see if we can accelerate it.”
The summit came one day ahead of the government’s latest jobs report, which showed job losses all but ended during November and that the unemployment rate is now starting to fall from its peak level of 10.2%. Congressional Democrats who have been bracing for a rough election year in 2010 (owing in part to the weak jobs market), could not be more pleased to see a trend line that now clearly points to jobs creation in the months leading up to those elections.
The $787 billion economic stimulus package has now conservatively saved more than one million jobs — a point highlighted again by Vice President Joe Biden on Tuesday. And more projects are in the pipeline that will put Americans to back to work, including very exciting new infrastructure, Internet broadband, and high-speed rail initiatives.
As these new programs actually ramp up, as economic recovery continues to gain momentum, and as jobs growth resumes, Obama can now point to a stimulus plan that got the economy back on track, a TARP program that saved our large banks, and a December 2009 jobs summit that was the catalyst to employment creation in 2010. Perfectly timed.
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By Rok Spruk, on December 4th, 2009
From Alberto Alesina and Silvia Ardagna (link):
“We examine the evidence on episodes of large stances in fiscal policy, both in cases of fiscal stimuli and in that of fiscal adjustments in OECD countries from 1970 to 2007. Fiscal stimuli based upon tax cuts are more likely to increase growth than those based upon spending increases. As for fiscal adjustments, those based upon spending cuts and no tax increases are more likely to reduce deficits and debt over GDP ratios than those based upon tax increases. In addition, adjustments on the spending side rather than on the tax side are less likely to create recessions. We confirm these results with simple regression analysis”
By Thersites, on November 19th, 2009
President Barack Obama’s success as reflected in the recent gubernatorial races appears ever more staked on the state of the economy. Unemployment recently reached 10.2%, though the more honest measure of U-6 shows the nation running unemployment at a Depression-like 17.5%. In response to these numbers, Barack Obama has said that “I will not rest until all Americans who want work can.” Yet Mr. Obama’s policies belie his words. In fact, what his administration is doing will ensure massive unemployment and endless economic stagnation.
 To understand why I would make such a sweeping assertion, it is instructive to understand how our economy ended up in this predicament in the first place. For this, I must give a cursory explanation of the Austrian theory of the business cycle.
The interest rate is a price signal, no different from the price tag on any good. In a free market (which the US most certainly does not have), the interest rate — the cost of capital — is determined by the supply of and demand for capital. Individuals choose to consume or invest, and this dictates the amount of loanable funds in the economy, which businesses will use to undertake projects to bring goods to market for future consumption.
However, when a central bank like the Federal Reserve prints money, artificially lowering the interest rate and expanding the loanable pool of funds, producers are left with a false price signal. The interest rate will tell producers that consumers want them to undertake long term projects to bring goods to market. This artificially lowered interest rate will induce consumers to save less and borrow and spend more as debt is cheaper.
Resources are misallocated because of the conflicting demands of consumers and undertakings of producers, caused by the government-distorted (the Fed though nominally private is clearly an apparatus of the state) price signal of the interest rate. This leads to the bust, manifested for example in the empty houses and office buildings throughout the country.
Logically, one might think that the best way to fix this mess would be to liquidate the malinvestments of businesses, pay down our debts and start fresh. One might say that we must allow for the market mechanism to correct the imbalances and distortions created during the artificial boom.
Only neanderthals (i.e. policymakers in the pre-Depression era) would advocate the above. The enlightened Barack Obama and his team of trusty economic advisers, along with the ever-compliant Messrs Bernanke and Geithner have other ideas. Practically every single policy they have enacted is intended to stop the market from clearing out the wastes and excesses of the boom. The government has undertaken programs to encourage greater home ownership and keep people in homes that they cannot currently afford, and to buy more cars, fictiously propping up GDP numbers. They have bailed out failing enterprises. They have abrogated contractual obligations. They have created make-work, politically oriented and naturally often fraudulent and wasteful public works projects. They have also increased the money supply at an unprecedented rate, easing the Federal Reserve-controlled interest rate to a ridiculous 0%. They have done all of this while exponentially expanding a national debt which was already egregiously large.
All of these policies in their own way have prevented and will continue to prevent any sort of recovery. They are designed to stop markets from reflecting reality, continuing the distortions already created by government tinkering. History seems to be repeating itself, with Obama following Hoover and FDR’s favorite anti-Depression prescriptions.
There are major costs to these programs. Besides the fact that government is prolonging the downturn by not allowing the gears of the markets to function, the government has created a major moral hazard in bailing out failed companies, hurt those successful companies who have been forced to subsidize the failed ones, and also in propping up failing enterprises, prevented entrepreneurs from putting the assets being tied up in unproductive businesses to better use. The government has also completely misled both businesses and their investors by running roughshod over contracts in both the case of the AIG bonuses and in the relationship between debtor and creditor in the GM boondoggle.
The government has also used its largess to “save or create 600,000 jobs,” a number which is not only dubious but also fallacious. As Frederic Bastiat told us, the good economist examines not only what is seen, but the unseen. This arbitrary number of 600,000 hides the fact that government make-work projects and propping up of unsound ventures stops new and more profitable industries from springing up given the diversion of land, labor and capital in projects that would otherwise not exist. This prevents new job opportunities from being created, and also prevents workers from learning new skills to become viable employees in new and profitable businesses. At best, if there was no politicization, corruption, waste and the government was able to build things both solid and aesthetically pleasing, the government can merely divert resources. They will not be meeting any type of demand of the consumer like a private enterprise because they lack a price mechanism of the market when undertaking their projects, and are not responding to the demands of consumers. They are responding to the demands of political interests. Put more succinctly, we don’t know how many jobs have been lost because of the ones that have theoretically been saved or created.
Not to mention the fact that the resources that are paying to save or create these jobs (and for all of the other bailouts and programs enacted by the government) have to come from somewhere. They come from bilking the taxpayer, or future generations of taxpayers. Ventures that private individuals choose not to undertake with their own capital are instead created by the government.
In addition, low interest rates have not only kept banks alive which would have failed, but allowed them to generate profits on the taxpayer dime by borrowing from the government at 0% and either lending it back to the Federal Reserve or pumping it into the financial markets, where we see the results of continued monetary inflation in the increase in stock, bond and commodity prices. What this represents is a massive wealth transfer from the American people to the financial system, whose participants it should be noted prop up the government itself by underwriting and creating markets in its debt. Most important of all, in keeping interest rates artificially low, the government continues to distort the price signaling mechanism, which caused the whole crisis in the first place.
There are also major costs due to the debt that the government issues in financing their intervention. The massive increase in our debt undermines the creditworthiness of the country which will ultimately lead to an increase in interest rates as people lose faith in our government and in the viability of our economy to generate the funds necessary to pay down these crushing debts. The only way for the government to pay off these debts since they cannot do it honestly by directly taxing will be through the indirect tax of inflation, which as I have mentioned they have been doing since this crisis began and at an absurdly fast rate ever since the Federal Reserve was instituted. And again, this will continue the price-signal distortion.
So just to review, the government is preventing markets from adjusting, preventing businesses from going belly-up and their assets being put to better uses by more competent businessmen and women, creating wasteful public works projects, all while ruining the nation’s creditworthiness and debauching the currency.
There is a last point which must be made. Besides the fact that the government’s policies inherently either encourage non-productivity or reward bad actors which weakens the moral fabric of the people, as during FDR’s presidency, market entrepreneurs (as opposed to the political ones who profit from the aforementioned government swindling) are genuinely afraid of this administration. To say that the GM bailout in addition to the coercion of the banks and most notably Ken Lewis had a chilling effect is an understatement. People in business do not know how arbitrary or onerous government regulations will be.
As the government runs from one whimsical plan to another, all market participants can be sure of is that regarding regulation and intervention, there will be more, and that they will be soaked by taxes either direct or indirect. With businesses unsure of the economic environment but most likely rightfully anticipating (though in my opinion underestimating) an increase in outright socialism in the economy, this will surely quell economic growth.
Thus, we see that Obama’s policies are not only misguided but also incredibly destructive. If we fail to work through the carnage caused by the government-induced boom, and instead try to continue down the path of unsustainability; if instead of letting the economy adjust and liquidate, painful as it may be, we try to continue the illusory boom, we will be doomed to years of unemployment, stagnation and ultimately the “crackup boom” of the economy. And this isn’t even to mention the threats to our economy posed by national healthcare, cap-and-tax and even scarier Mr. Obama’s foreign policy.
The only way to create jobs and fix a broken economic model is to release the entrepreneurial forces of America. Each and every one of these policies retards the necessary adjustment, depriving businesses of valuable assets that can be put to more profitable lines of work and consumers of receiving the products they seek.
By Eldon Mast, on November 11th, 2009
Sales of previously owned homes rose across the country during the third quarter, according to a report released Tuesday by the National Association of Realtors.
Nationally, sales were up 5.9 percent from the third quarter of last year. Previously owned homes changed hands at a seasonally adjusted annual rate of 5.3 million, according to the report. NAR attributed much of the jump to continued affordable prices and a federal income tax credit. Congress and President Obama legislated an extension and expansion of the tax credit program last week.
Home sales rose in 32 states and Washington, D.C., from the third quarter of 2008 to the third quarter this year. Sales jumped in 45 states, and in Washington, D.C., from the second to the third quarter.
There was no lack of media enthusiasm for the news on Tuesday as local media outlets across the country finally picked up on the good news…
1. Home sales up nearly 79.6% in October in Orlando
2. Pittsburgh home prices rise in third quarter
3. US Home Sales Rise to Two-Year High
4. Home prices seen stabilizing in North Jersey
5. NJ homes sales jump 11 percent in quarter
6. DC Area housing sales jump
7. Las Vegas Home Sales On The Rise
8. Florida home sales up for fifth straight quarter
9. Houston-area home prices rise in third quarter
10. Ohio home sales rose during the third quarter
11. Nashville home sales climb first time in three years
12. Lehigh Valley home sales rise 30 percent in October
13. Illinois Third Quarter Home Sales a Bright Spot in 2009
14. Home Prices Are Suddenly Hot in Some Areas…
Back in June we pointed out a dozen housing markets that were showing pricing improvement. August revealed a dozen more.
While some year over year comparisons continue to show price erosion recent jumps in the national S&P/Case-Shiller Home Price Index further clarifies that the price drops of the past few years are now over. The 20-city index is now consistently rising quarter-over-quarter.
Three independent sources, the National Association of Realtors, the Federal Housing Finance Agency and Case Shiller are now all showing housing price improvement.
Repeatedly we’ve said that the strength of this recovery will be measured in part by how well the housing industry fares. Tuesday was further strong evidence that this recovery continues unabated.
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