First of all, I should apologize for readers for probably the longet hiatus ever on this blog. I am still trying to balance a busy day job with having time to pen blog posts. I am sure that I will manage to get a nice rythm going at some point.
As such, I thought that I would return to a topic that I actually do know a little about and this interesting piece in the WSJ by Carl Bialik on US fertility and the idea of a crisis driven birth collapse in the US.
A recent report said the U.S. birth rate has dipped to a record low level. But another measure of the nation’s fertility remains comfortably above its historic low. The mismatch shows that even in a country with comprehensive birth statistics, summarizing population trends is far from straightforward.
The article makes no judgement either way and essentially keeps to lining up the arguments without making a statement about which measures are most correct. The main debate is driven by reports that the US birth rate has plummeted since the financial crisis and that this negative shock could have a lasting impact on US population dynamics.
However, as the article suggests, measuring fertility is not straightforward and indeed while the article builds its discussion around the notion of total births per 1000 women (crude birth rate) and the total fertility rate (average children born to women in their childrearing age), no mention is given of total cohort fertility which is the completed fertility per cohort. Arguably, this last measure is the most important one, but also the most difficult one to observe since we can only see this after the fact (although we can make qualified guesses of where this is headed for a given cohort based on the interaction between tempo and quantum effects of fertility).
So, what is the story in the US? Well, the crude birth rate recently hit all time lows, but the total fertility rate remains stable and close to replacement levels and this latter point is, in my view, giving too little credence in relation to the most recent concerns raised on US fertility.
However, there is no doubt that the financial crisis appears to have had a noticeable impact on US fertility patterns. In theory, an economic recession should not have a lasting impact on completed fertility. This is mainly because a normal economic recession does not have a lasting impact of families’ life course trajectory and decisions to have children. It may lead to an increase in postponement, but that effect should be reversed once the recession ends.
The key question is whether this particular economic crisis is different and whether we can expect a lasting impact on fertility in the US (and perhaps elsewhere)?
I would venture a hesitant no here, but the jury is still out, and there is no doubt that the specific nature of the recent economic crisis as one of being associated with a structural level of too much debt is a worry. A prolonged period of deleveraging which now appears to have begun the US and elsewhere in the OECD could lead to a permanent and irreversible postponement of fertility decisions in the US, but so far the fact that US fertility remains close to replacement levels (and never dipped below) is a definite positive that has, so far, received too little attention I think.
Grantham Lays Down the Gauntlet on US Growth and Demographics
If Carl Bilak’s article does little to come up with an argument for or against the notion of the sturdiness of US demographic fundamentals a recent piece from GMO by Grantham is much more vocal in its worry that the US economy may be headed for zero growth and that demographics are to blame.
First of all, Grantham is fundamentally pointing to falling trend growth in the US. This is the case not only in the US but across the OECD. Indeed, trend growth if measured with a very broad stroke is probably falling in all major global economies, developed as well as so called emerging economies. The reasons for this are pretty simple. All the things we use to calculate or account for growth are slowing down; demographics, capital formation and technology/productivity although this last bit is surrounded by a huge uncertainty and could surge or slump. Most economists would see productivity as a part of the process (i.e. it is endogenous) and thus something we can affect, but technological progress does tend to have an unpredictable and disruptive cycle which is difficult to account for.
Still, to take such a broad sweep at growth and apply equally across global economies is too general a narrative to hold up to closer scrutiny.
Enter US population dynamics and its coming “growth” effect.
On US demographics, I think Grantham focuses on long term trends of working age population growth which are obviously down in the US. However, they are down for all countries and over such a long time frame that it becomes meaningless to discuss them without some aspect of relativity. Retiring baby boomers are a drag on US growth and the lack of rising female labour force participation (because it has already happened) is also a minus, but this is also pushing the narrative a little bit.
Surely, a boost in growth from increasing female labour force participation can only happen once and is not strictly a “drag” on growth when it ends. Crucially however, Grantham interprets exhibit 1 depicting growth in the US working age population in a “glass half empty” kind of way. We are told to focus on the declining trend, but I would note the remarkable fact that the US working age population is set to enjoy positive growth beyond 2030. That is a major relative tailwind compared to the rest of the developed world and indeed emerging markets. All countries in the world have a large challenge in the context of the compatibility between ageing and a market economy with pension schemes and health care systems, but the US seems in a relatively good position to cope with this from the point of view of demographics.
Going back to the discussion on fertility, I am surprised that Grantham does not focus a bit more on the fact that it never slumped massively below replacement level in the US which augurs for strong tailwinds to household formation. If you combine this with intra-US labour mobility you get a strong foundation for growth I think. Or at least, you get a more nuanced view of the US compared to for example many other OECD economies (Japan and Europe) where demographics are much more decisively manifesting themselves in the form of headwinds.
Two charts from the GMO piece that should make us worry a bit though are ex 2 and 3. Working less hours and falling labour force participation (and it is falling not only for women) are poison for growth because it reduces the potential growth rate per unit rate of inflation. Popular speaking, it reduces the natural level of output before the output gap turns positive (and you get excess inflation and no real growth). This is a huge challenge in the US and the persistently falling labour force participation rate in the US in a post crisis is a worrying development which needs some sort of structural/reform response as it is completely unrealistic to expect the Fed’s quanto easing policies to lead to a structurally better labour market.
In the end, I would say that it is difficult to disagree with the overall narrative set out by Grantham because it really sticks to the straight and narrow and basically says what we already know, name that trend growth will fall.
Critically however, Grantham notes the concept of “zero growth” and thus refers to the idea that trend growth in the US may fall to zero. I don’t see that and this is an important qualifier.
I think there are a lot of economies in the OECD where “trend growth” as defined by conventional economic models and theories may be zero (Japan, Italy, Spain and some parts of Eastern Europe). But I would not put the US in that group and demographics represent one of the main reasons for this. There may be many reasons why the US economy may slump to zero growth in the future, but demographics aren’t one of them.
I have been enjoying myself in the Austrian Alps last week and hence the lower output. Here is my look though, of a number of notable news stories and contributions.
Benoît Cœuré, Member of the Executive Board of the ECB has penned a speech (and argument) on global (excess) liquidity. Izabella likes it and I agree with her that it is a good piece. I am not sure though that it is that much different than the Savings Glut argument put forward by Bernanke, but I may be missing the fine print (i.e. need to read it more carefully). The biggest problem I have is that he assumes that the lack of safe government (i.e. AAA rated assets) is cyclical and due to market failure or other “temporary” factors. Izabella interprets it as follows,
What’s the solution to this vicious liquidity circle? Simple, says Cœuré. The euro area needs to regain its role as a global supplier of safe assets. Something which could be achieved by a) ensuring that Eurozone countries have become fiscally sound and b) diverting excess liquidity from other zones back into “programme countries” by way of the IMF.
I disagree. The failure of euro zone economies and indeed large parts of the OECD edifice in general to provide “safe haven” assets is deeply structural and tied to population ageing. Unfortunately, there is little prospect that the euro zone economies will be able to supply AAA rated securities for a long time and herin lies the rub. Of course, if we are talking euro bonds, but then again. I will believe it when I see it.
Japan and the currency wars
A recent Bloomberg article suggested that Japan has been “secretly” selling JPY to try to stem the tide and force through depreciation of the Yen.
Japan used so-called stealth intervention in November as the government sought to stem yen gains that hammered earnings at makers of exports ranging from cars to electronics.Finance Ministry data released today showed Japan conducted 1.02 trillion yen ($13.3 billion) worth of unannounced intervention during the first four days of November, after selling a record 8.07 trillion yen on Oct. 31, when the yen climbed to a post World War II high of 75.35 against the dollar. The currency’s strength has eroded profits at exporters such as Sharp Corp. and Honda Motor Co., just as faltering global growth undermines demand.
Open market operations to sell domestic currency are so old school. Didn’t they get the memo in Japan? In a world where all major central banks are either at or very close to the zero bound, it is central bank balance sheet expansion (quantitative easing) that matters. On this note, both Japan and the Fed are being left decisively behind by the ECB and BOE (at least in the past six months). Of course, even the usage of “standard” measures in Japan is being contested and as long as this is the case, the Yen will continue to strengthen.
Don’t bet on deflation with the current team of global central bankers
Elsewhere, I am wondering where all the deflation, let alone disinflation, is. I am a sworn deflationist and I believe in the main thesis of the deleveraging/depression/deflation crowd. However, I have the utmost respect for the inflationist bias of global central banks and with the current batch of policy makers at the helm, deflation is a very remote risk.
The latest data show that inflation in China recently quickened as well as producer prices in the UK increased in the week that the BOE announced another round of QE. Of course, this is not all clear cut. Chinese real M1 (YoY) recently moved into negative territory for the first time since 1996 and in the UK, it is noteworthy that core inflation (ex food, beverages, tobacco and petroleum) came in noticeably lower in January.
I will change my views on the basis of changing data, but I am beginning to think that the bout of global headline disinflation we are expecting as a result of the global slowdown will reverse itself much, much quicker than many (including me) have expected. Arguably, we still need decisive easing in emerging markets and QE3 from the Fed, but it is more a matter of when and not if this happens and as such, global central bankers remain fully committed to creating inflation.
The main problem so far for those arguing for strong central bank action (including me) is the absence of nominal growth in output in excess of consistently rising headline inflation. Could this be a result of doing too little, perhaps, but at the moment stagflation remains the best way to describe our current economic situation and thus inflation in all forms is a drag on growth. Should the genie finally come out of the bottle in the form of consistent wage increases central bankers may find that they got more than they bargained for even if the alternative is equally painful.
The Greek experiment is about to end
Greece remains the main talking point and also the only thing that appears to prevent equity markets ripping to new highs. Greece is bankrupt and while I understand that the patience of the rescue committee will run out at some point, I am astounded that anyone expects this hideous experiment to end well. Greece will see its fifth year of contraction this year and for what? A membership of a currency union that does not work anyway?
We are told by the Troika, the EU and the IMF that failure to reach a deal would be catastrophic and thus that Greece has no way out but to take the medicine. However, Greece has a real choice and the stronger she is pushed the more obvious the end result is. Internal devaluation and decades of austerity don’t work; not in Greece and not elsewhere. This remains the KEY issue that the euro area politicians and the ECB have not understood. The social fabrics of society won’t stand the pressure and strain. Textbooks tell us that the cure is simple when you can’t devalue, but practical experience have now shown otherwise.
I am neither on the Greeks’ nor the IMF/Troika’s side, but I simply point out the obvious destiny of current events; failure! Even if Greece manages to appease its creditors with austerity, the end result in terms of Greek macroeconomic balances is still unsustainable and thus the underlying problems will not have been solved.
The ECB and the IMF will likely face significant drawdowns on their Greek bondholdings regardless of whether they use such drawdowns as ”carrot” for Greece to push through austerity measures. This is what the establishment has not yet understood.
MF Global investigation fails to uncover illegal activity?
Megan McArdle has an amazing article suggesting that the investigation on the failure of MF Global is finding it difficult to uncover anything illegal.
Megan quotes a piece from Reuters (no link available)
Lawyers and people familiar with the MF Global investigation of the firm that was run by former Goldman Sachs head Jon Corzine say that even though the hunt is still on to find out whether or not officials at MF Global intended to pilfer customer money in a desperate bid to keep the brokerage from failing, the trail at this point is growing cold.
This seems very odd to me even if I have not followed the aftermath in detail. I completely agree with the sentiment expressed by Megan.
I don’t understand how this could be true. To be clear, I am not saying that it couldn’t be true-only that I don’t understand how such a thing could have happened. There is more than a billion dollars missing from supposedly segregated client accounts. I understand that it was chaotic, but what kind of chaos causes you to accidentally move money out of money that any moderately sophisticated compliance system should have automatically flagged for approval?
While my professional responsibilities are confined to the smooth running of a macro research product I sit in an office, and work, with asset managers and ever since the failure of MF global I would imagine that their general level of concern has increased. This is understandable. If your main counterparty as an asset manager (i.e. your prime broker) essentially decides to steal your deposits and/or allocate them to losing trades against the principle of segregated accounts, it really does not matter what you do. No matter the tightness of the shop run on the asset managers’ end, he will face significant and perhaps even fatal losses.
Obviously counterparty risk is as old as finance itself and any decent asset manager today will deal with more than one broker and even have a strategy on how to manage counterparty risk. Ultimately though, mutual trust between asset managers and their prime brokers is a commodity which has been severely impaired by the MF Global failure and this is an issue for all players in financial markets.
Dealing with vintage data in economic forecasts using instrument variables (wonkish!)
A recent note from the George Washington University points to an interesting study from Warwick University on the forecasting of data vintages in the context of US output and inflation forecasts. The problem is as follows;
Consider a simple benchmark autoregressive model that a forecaster might use to forecast an economic variable yt. In order to estimate the parameters to be used for the forecast, typically the forecaster will obtain the most recently updated data on yt (i.e. the vintage of yt available at that time) and estimate the model using those data. However, the data in this single time series may in fact be coming from different data generating processes. The data some time back in the series have gone through monthly revisions, annual revisions, and perhaps several benchmark revisions. The most recent data, however, have been only “lightly revised,” as Clements and Galvão term it. Therefore, Clements and Galvão argue that the data in a single vintage are of“different maturities.” Forecasters may want to forecast future revisions to data as well as exploit any forecast ability of data revisions to improve forecasts of future observations. In their article, Clements and Galvão suggest that a multiple-vintage vector autoregressive model (VAR) is a useful approach for forecasters working with data subject torevisions. This comment discusses the importance of taking revisions into consideration and compares the multiple-vintage VAR approach of Clements and Galvão to a state-space approach.
This is a significant issue but remember; if the following holds, we need not worry too much about it.
If the revisions are unpredictable and the early data are efficient estimates of future data, then we may not need to be concerned about the different vintages.
Most economists assume that the statement above is true and simply force through their model. Being a great believer in practical usability when it comes to empirical economics, I would argue that in most cases this will not cause too many problems in most cases. However, a growing body of evidence suggest two important issues to consider. Firstly, revisions are predictable and thus provide important ex-ante information which should be incorporated into the the forecast. Secondly, even if revisions are unpredictable, the manner in which data is revised may itself provide important information on future data readings.
I agree, but the problem is potentially much more severe. Another issue then concerns that situation where you try to forecast Y(t) as a function of X(t) where both variables may be subject to revisions. Normally, we would solve this issue by restricting X(t) to variables where revisions are minimal (or absent alltogether). One way to do this is to use market based data (market prices, closing values of securities etc) which are, by definition, not revised. However, in the context of the e.g the classical leading indicators framework pioneered by Geoffrey H Moore, this issue re-emerges X(t) is cast in the form of real economic variables (themselves potentially subject to revision).
We have replicated and refined many of the LEIs described by Moore et al and applied it to various economic data series with specific fitting of a time series regression in each case. However, such an approach may still suffer from vintage data issues (as described above. One solution that I been thinking about is to imagine two forms of right hand variables. X(t, economic) and X(t, market based); if the latter is unrevised it might be possible to find an instrument for X(t, economic) (final revision!) using a variation of X(t, market based). This would, in my opinion, constitute an elegant way to solve the issue of data revisions in your explanatory variables.
In practice, you could also try to replace Y(t, economic) with Y(t, market based), but this is probably too a-theoretical and ad-hoc.
I am not sure the OECD’s better life index is meant to be fun. But I have had some fun playing with it. The index is interactive. The fun comes from giving different weight to 11 different criteria (or topics as they are described by the OECD) and then observing how this affects rankings of well-being of OECD countries.
The criteria used in the index are: housing, income, jobs, community (individuals’ perceptions of the quality of their support networks), education, environment (air pollution by tiny particulate matter), governance (voting and transparency), health, life satisfaction, safety (assaults and homicide) and work-life balance (working mothers, total hours worked and leisure).
Under the default setting, with all criteria being given equal weight, the countries that come out on top are Australia, New Zealand, Canada and Sweden. If you suppress all criteria other than income, Luxembourg is a long way ahead of the field, followed by the United States and Switzerland. The income measure used in the study (reflecting household financial income and wealth) has Australia in 14th place and New Zealand in 25th place.
The substantial difference between the outcomes of these weighting systems is interesting. In a previous post I observed that all well-being indicators tend to tell similar stories about well-being levels in different countries. The two observations are actually consistent. My research covered a larger number of countries, including many poor countries as well as the wealthy democracies of the OECD. Well-being indicators tend to tell a similar story when wealthy countries are compared with poor countries, but can tell different stories when wealthy countries are compared to each other.
Equal weighting of a range of indicators and a focus on income alone seems to me to be equally arbitrary approaches to well-being comparisons. Well-being is obviously affected by factors other than income, but it would be difficult to argue that all relevant factors are equally important. Value judgments have to be made to determine appropriate weights. An appropriate weighting system might be derived by conducting surveys to obtain weights reflecting the values of people in different countries. Alternatively, surveys could be used to obtain weights reflecting the values of people with different political views in particular countries, or across the whole of the OECD.
In the absence of such survey evidence, I have looked at the rankings for three somewhat extreme political groups drawn from my own imagination: Scrooges, Socioholics and Warm Fuzzies. As I imagine them, all three groups perceive governance and safety as being important to well-being. The Scrooges add income as the only additional factor. The Socioholics add housing, jobs, education and health in addition to income. The Warm Fuzzies exclude income and all the additional factors added by the Socioholics, but replace those factors with community, environment, life satisfaction and work-life balance.
So, which countries come out on top of the welfare rankings according to the values of these three political groups?
Scrooges: The countries that come out on top are Australia, Luxembourg and the United States. New Zealand is placed about 8th, behind Sweden, Austria, Canada and UK.
Socioholics: Australia and Canada come out on top, followed by New Zealand and the United States.
Warm Fuzzies: Australia, Denmark and Sweden are on top, followed by New Zealand, Canada and Norway.
What do I get out of this? My main observation is that Australia seems to come out fairly well, whatever coloured political lenses you use. The well-being of New Zealanders also looks fairly good, particularly if you adopt either a Socioholic or Warm Fuzzy perspective.
Having had some fun, the more serious question that comes to mind is whether a focus on the OECD’s well-being indicators (and other similar constructions) is likely to distract political attention away from much-needed economic reforms to improve the economic strength of some economies. For example, if well-being indicators suggest that people in some lovely country (New Zealand comes to mind) tend to enjoy living standards substantially higher than other countries with comparable per capita GDP levels, there may be a tendency for the government of that country to become complacent about establishing conditions more favourable to further improvement of living standards.
Yours truly is actually a macroeconomist, indeed with a knack for financial markets, but still; a macroeconomist nonetheless. However, you would not have gotten that impression from the writings here end last week where I worried a lot about the worry of financial markets. I still do, worry that is, mostly because we are in a very delicate situation where a severe shock in financial markets can easily and quickly be transmitted into the real economy. Moreover and as Edward eloquently conveys in his recent post the structural challenges we face are complex and difficult.
Yet, in terms of the immediate evolution in the real economy, and in case you had not noticed, the recovery is coming along just fine.
(click on pictures for better viewing)
If ever there was a clearer sign of a v-shaped recovery I’d like to see it. On an annual basis the EMU industrial production index rose 11.6% in Q1 2010 and on the quarter the increase was 4%. Despite the emerging crisis in the Eurozone and with reservations for the final number of Q2-10, this suggests that the turnaround is intact so far. Naturally, the level of industrial production is still very low compared to before the crisis and, as I have argued, this is an important gauge in terms of the overall strength of the momentum. But, the recovery remains real at this point
Of course, it is not difficult to pick the positive discourse apart and this applies especially to the Eurozone there is a bound to be notable divergence between the growth rate of economies. In particular, it does not take much Roubinesque imagination to see what awaits the famed Eurozone periphery (Spain, Portugal and Greece) who are now about to embark on a very brutal spell of internal devaluation; kind of like in the Baltics who are undergoing the same .
This comparison may of course be inappropriate for a number of reasons, but it provides a good yardstick with which to look ahead into especially 2011 where the first part of austerity measures will really start to bite. Whether the Eurozone “core” remains enough momentum to pull the Eurozone forward is really not the important issue here. The real problem here is that from here on imbalances (not just external) will compound. In the lingo of development economics the convergence which was thought inevitable and on track is now about to unravel. In this respect, the comparison with key parts of Eastern Europe is well chosen I think.
And not just Europe…
Yet, if the outlook for Europe is still very uncertain the global outlook is positive for the remainder of 2010 even if the momentum appears to be flattening out;
On an annual basis leading indicators for the major emerging economies as well as the OECD are coming in very strongly for Q1-10 and also over the quarter (i.e. from Q4-10) do we observe growth with the notable exception of China where activity seems to levelling off a tad going into 2010 on the back of continuing measures by the government to restrain the economy.
It is difficult to deny that the leading indicators tracked by the OECD seems to be flattening moving into Q2-10 and it will naturally be interesting to see whether momentum will be sustained. As ever, divergence both in levels and actual growth rates will be paramount to factor in, but I am very confident that we are not going to see a double dip recession in for example the US let alone the emerging market edifice in 2010. In Europe, the tug-of-war will between growth in France and Germany (with the latter exporting to EMs as the only real source of growth) and a continuing slump in Southern Europe. However, since 2010 budgets are already passed to indicate very stimulative policies throughout Europe the growth momentum will be strong in 2010 although the medium to long term look decidedly awful.
Event Risk still High
As a natural finishing point it should not escape market participants and analysts alike that event risk is currently at a very high level. In many ways, we already have an event in so far as goes the crisis in Europe but I can think of plenty of more sources of potential market destabilisers. The point here is then that at the current juncture the transmission between market distress and the real economy is likely to be strong and relatively quick. In this sense, the recent news that the interbank market is freezing over once again is indicative that not all is well and I am watching this very closely.
As such I maintain my somewhat bearish inclination and deep skepticism for where aggregate demand is actually going to come from in the medium to long term; this especially the case in Europe whereas I am much more constructive on emerging economies who are, for all intent and purposes, doing well (indeed almost too well in some cases).
A number of well known proverbs spring to mind here; is the glass half full or half empty? Is this the end of the beginning or the beginning of the end? Whatever methaphor you prefer forward looking indicators point to strong growth in the first half of 2010 (at least). The key message on the real economy will thus be one of divergence and especially how some economies are doomed to deflation and negative growth in nominal GDP (in the context of internal devaluation) while others will fly on the back of excess global liquidity. For me, this is the main meta-discourse currently describing the global economy.
 – Q1-10 GDP is only available for Lithuania so for the two others the calculations ends with Q4-09.
Israel graduated into OECD. Theirs is an interesting saga.
In 1977, they liberalised the capital account, and got themselves into a mess. This opening of the capital account was then reversed.
In the 1990s, they got back to this issue, and by this time, the `impossible trinity’ was better understood. By 2003, all capital controls had been removed, alongside a shift to a floating exchange rate and inflation targeting. Capital outflows were liberalised as well, so their typical configuration involves large capital inflows alongside large capital outflows, which avoids one-way pressures on the exchange rate.
The next few `accession candidate countries’ for OECD are Estonia, Russia and Slovenia. Here is the list of existing members.