CMP Associates Regulation Blog: The Global Growth Recession, 25 to 30 Million in Job Stress, Falling Real Wages and Financial Risk Aversion

The Global Growth Recession, 25 to 29 Million in Job Stress, Falling Real Wages and Financial Risk Aversion

Carlos M. Pelaez

Executive Summary

I The Global Growth Recession

IA Global Growth Slowdown

IB United States Growth Slowdown

II 25 to 30 Million Unemployed or Underemployed

III Falling Real Wages

IV Financial Risk Aversion

IVA World Financial Markets

IVB European Sovereign Risk

IVC United States Risk and Credit Rating Downgrade

V Global Inflation

VI Valuation of Risk Financial Assets

VII Economic Indicators

VIII Interest Rates

IX Conclusion

References

Executive Summary

There are multiple sources of vulnerability in world financial markets and the global economy. The most evident are sovereign risk uncertainties in Europe, downgrade of US debt and tradeoff of growth and inflation in China. There is an ongoing event that is related to these sources of vulnerability but dominates financial turbulence and possible effects on output. Growth in the world economy is decelerating throughout all regions.

A worrisome aspect of current economic indicators is the monotonous reference of the worst readings since sometime in the third quarter of 2009. The Business Cycle Dating Committee of the National Bureau of Economic Research (NBER) concluded: “the committee determined that a peak in economic activity occurred in the US economy in December 2007” (NBER 2008Peak, 1). At a meeting on Sep 20, 2010, “the committee determined that a trough in business activity occurred in the US economy in Jun 2009” (NBER 2010Trough, 1). Many key indicators of economic activity are registering the lowest levels in the expansion since around the third quarter of 2009 when recovery began.

Current advance indicators of the world economy are the indexes produced by JP Morgan and Markit in association with ISM and IFPSM: JP Morgan Global Manufacturing and Services PMI^TM (JP Morgan 2011Aug3MS), JP Morgan Global Services PMI^TM (JP Morgan 2011Aug3GS) and the JP Morgan Global Manufacturing PMI^TM (JP Morgan 2011Aug1M). These indicators provide an advance view of the world economy, manufacturing and services that has been tracking world growth slowdown. The critical conclusion is that the world economy continues to expand in Jul 2011, which is the first month of the third quarter. There is high association in the past 13 years between global GDP and the JP Morgan Global Manufacturing and Services PMI^TM (JP Morgan 2011MS, 1). Expansion is a reading above 50.0 and contraction a reading below 50.0. The JP Morgan Global Manufacturing and Services PMI^TM rose from 52.3 in Jun to 52.6 in Jul, which means that world overall output, manufacturing and services, expanded at a faster rate (JP Morgan 2011MS, 1). Output activity in the JP Morgan Global Services PMI^TM (JP Morgan 2011Aug3GS) rose from 52.2 in Jun to 53.1 in Jul, meaning that global services grew at a faster rate in Jul, compensating for decline in the JP Morgan Global Manufacturing PMI^TM from 52.3 in Jun to 50.6 in Jul, signaling that manufacturing was expanding at a slower rate in Jul (JP Morgan 2011Aug1M). The index of new orders of the JP Morgan Global Manufacturing and Services PMI^TM fell from 52.0 in Jun to 51.1 in Jul, signaling expansion at a slower rate. Input prices continue to rise but at a slower rate, with the index of input prices falling from 58.6 in Jun to 56.3 in Jul. The employment index continues to increase at a slower rate, falling from 52.5 in Jun to 51.2 in Jul (JP Morgan 2011MS, 1).

Growth slowdown is more evident in manufacturing. The JP Morgan Global Manufacturing PMI^TM fell from 52.3 in Jun to 50.6, which registers expansion at a slower rate (JP Morgan 2011Aug1M, 1). Perhaps the highest concern is with the index of new orders falling from 51.0 in Jun to 49.9 in Jul, registering contraction in a change of direction. Input prices of manufacturing and employment continue to rise but at a slower rate. The 50.6 level of the JP Morgan Global Manufacturing PMI^TM is at the lowest level since Jul 2009, during the first month of the current cyclical recovery. The index has been increasing during 25 consecutive months but has fallen to the lowest level back to Jul 2009. The data for Jul indicate that the growth rate of international trade is unchanged for two months after falling to the lowest level in two years. Net export growth fell moderately for emerging markets and declined further for advanced economies.

The chair of the ISM Manufacturing Business Survey Committee Bradley J. Holcomb summarizes the Manufacturing ISM Report on Business (http://ism.ws/ISMReport/MfgROB.cfm):

The Markit Eurozone Composite PMI^®, which combines manufacturing and services for the euro area, fell from 53.3 in Jun to 51.1 in Jul, which is the lowest reading since Sep 2009 (Markit 2011Aug3EC). This index also registers lows going back close to the beginning of recovery. France’s index registered 53.2, which is the lowest in 23 months since Aug 2009, and Germany’s index of 52.5 was the lowest in 21 months since Oct 2009. Italy registered 49.1, which is a high in two months but still in contraction territory. Spain’s index of 46.1 was the lowest in 19 months.

The Markit/CIPS UK Manufacturing PMI^® repeats the common occurrence of return of manufacturing to the beginning of recovery: fall from 51.4 in Jun to 49.1 in Jun, which is the lowest level since Jun 2009. The driving force of the slowdown was the fall of the level of new orders.

In an article in the Financial Times, Martin Feldstein (2011Jul25) finds that the true issue in the US is jobs. The problem is the fractured labor market. Feldstein (2011Jul25) calculates 29 million Americans who are unable to find the job they desire. The number of people in job stress not seasonally adjusted is estimated in section II 25 to 30 Million Unemployed or Underemployed as at least 25 million and likely as high as 29.577 million in Jul 2011. A recurring phrase in the stagflation of the 1970s was the term “growth recession” (http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html). A working definition of growth recessions in these times is growth of economic activity that is insufficient to move the economy to full employment of humans, machines and productive resources. The event of these times is the global growth recession.

I The Global Growth Recession. Subsection IA Global Growth Slowdown shows the recent information on the weakening world economy in Jul. Subsection IB United States Growth Slowdown analyzes the personal income and consumption report, confirming growth slowdown in the US.

IA Global Growth Slowdown. Current advance indicators of the world economy are the indexes produced by JP Morgan and Markit in association with ISM and IFPSM: JP Morgan Global Manufacturing and Services PMI^TM (JP Morgan 2011Aug3MS), JP Morgan Global Services PMI^TM (JP Morgan 2011Aug3GS) and the JP Morgan Global Manufacturing PMI^TM (JP Morgan 2011Aug1M). These indicators provide an advance view of the world economy, manufacturing and services that has been tracking world growth slowdown. The critical conclusion is that the world economy continues to expand in Jul 2011, which is the first month of the third quarter. There is high association in the past 13 years between global GDP and the JP Morgan Global Manufacturing and Services PMI^TM (JP Morgan 2011MS, 1). Expansion is a reading above 50.0 and contraction a reading below 50.0. The JP Morgan Global Manufacturing and Services PMI^TM rose from 52.3 in Jun to 52.6 in Jul, which means that world overall output, manufacturing and services, expanded at a faster rate (JP Morgan 2011MS, 1). Output activity in the JP Morgan Global Services PMI^TM (JP Morgan 2011Aug3GS) rose from 52.2 in Jun to 53.1 in Jul, meaning that global services grew at a faster rate in Jul, compensating for decline in the JP Morgan Global Manufacturing PMI^TM from 52.3 in Jun to 50.6 in Jul, signaling that manufacturing was expanding at a slower rate in Jul (JP Morgan 2011Aug1M). The index of new orders of the JP Morgan Global Manufacturing and Services PMI^TM fell from 52.0 in Jun to 51.1 in Jul, signaling expansion at a slower rate. Input prices continue to rise but at a slower rate, with the index of input prices falling from 58.6 in Jun to 56.3 in Jul. The employment index continues to increase at a slower rate, falling from 52.5 in Jun to 51.2 in Jul (JP Morgan 2011MS, 1).

Growth slowdown is more evident in manufacturing. The JP Morgan Global Manufacturing PMI^TM fell from 52.3 in Jun to 50.6, which registers expansion at a slower rate (JP Morgan 2011Aug1M, 1). Perhaps the highest concern is with the index of new orders falling from 51.0 in Jun to 49.9 in Jul, registering contraction in a change of direction. Input prices of manufacturing and employment continue to rise but at a slower rate. The 50.6 level of the JP Morgan Global Manufacturing PMI^TM is at the lowest level since Jul 2009, during the first month of the current cyclical recovery. The index has been increasing during 25 consecutive months but has fallen to the lowest level back to Jul 2009. The data for Jul indicate that the growth rate of international trade is unchanged for two months after falling to the lowest level in two years. Net export growth fell moderately for emerging markets and declined further for advanced economies.

Output/activity of the JP Morgan Global Services PMI^TM rose from 52.2 in Jun to 53.1 in Jul, growing at a faster rate for the highest reading in four months (JPMorgan 2011Aug2GS, 1). The growth trend is fragile because the acceleration is accompanied by erosion of existing business. The new business index fell from 53.3 in Jun to 51.5 in Jul while the index of work backlogs fell from 48.7 in Jun to 46.4 in Jul. The moderation in commodities prices resulted in decline of the input price index from 58.0 to 55.8 but the employment index fell from 52.2 in Jun to 51.1 in Jul.

The Institute for Supply Management (ISM) finds that “economic activity in the manufacturing sector expanded in Jul for the 24^th consecutive month, and the overall economy grew for the 26^th consecutive month” (http://ism.ws/ISMReport/MfgROB.cfm). The chair of the ISM Manufacturing Business Survey Committee Bradley J. Holcomb summarizes the Manufacturing ISM Report on Business (http://ism.ws/ISMReport/MfgROB.cfm):

“The PMI [purchasing managers’ index] registered 50.9 percent, a decrease of 4.4 percentage points, indicating expansion in the manufacturing sector for the 24^th consecutive month, although at a slower rate of growth than in June. Production and employment also showed growth in Jul, but at slower rates than in Jun. The New Orders Index registered 49.2 percent, indicating contraction for the first time since June of 2009, when it registered 48.9 percent. The rate of increase in prices slowed for the third consecutive month, dropping 9 percentage points in Jul to 59 percent. In the last three months combined, the Prices Index has declined by 26.5 percentage points, dropping from 85.5 percent in Apr to 59 percent in Jul. Despite relief in pricing, however, several comments suggest a slowdown in domestic demand in the short-term, while export orders continue to remain strong.”

The deceleration of US manufacturing growth in 2011 is clearly shown in Table 1. The 12 months rates of growth of manufacturing not seasonally adjusted fell from the high rates beginning in Apr 2010 to Mar 2011 in the range of 4.9 to 8.2 percent to 3.6 percent in Jun 2011. The Jul 15 release of the data by the Federal Reserve analyzes the most recent data (http://www.federalreserve.gov/releases/g17/current/):

“Industrial production increased 0.2 percent in June after having edged down 0.1 percent in May. For the second quarter as a whole, total industrial production increased at an annual rate of 0.8 percent. Manufacturing output was unchanged in June. In the second quarter, supply chain disruptions following the earthquake in Japan curtailed the production of motor vehicles and parts and restrained output in related industries; the production index for overall manufacturing was little changed for the quarter. The output of mines rose 0.5 percent in June, while the output of utilities climbed 0.9 percent. At 93.1 percent of its 2007 average, total industrial production in June was 3.4 percent above its year-earlier level. The capacity utilization rate for total industry remained unchanged at 76.7 percent in June, a rate 2.2 percentage points above the rate from a year earlier but 3.7 percentage points below its average from 1972 to 2010.”

Table 1, 12 Months Growth Rates of US Manufacturing NSA ∆%

	2011	2010	2009
Jan	6.2	0.7	-16.5
Feb	6.2	0.6	-16.0
Mar	5.9	3.8	-17.1
Apr	4.6	6.1	-18.0
May	3.5	7.8	-17.4
Jun	3.6	8.2	-17.4
Jul		6.9	-14.9
Aug		6.6	-13.3
Sep		4.9	-12.1
Oct		6.2	-8.9
Nov		5.3	-5.9
Dec		6.2	-3.2

Source: http://www.federalreserve.gov/releases/g17/table1_2.htm

There appears to be an effect from the supply disruptions created by the earthquake/tsunami in Japan on Mar 11 and aftershocks. Weak growth, stagnation of real disposable income and resulting weak consumption may be more important than supply disruptions in explaining the slowdown in US manufacturing. Table 2 shows that value added by manufacturing to US GDP was 12.3 percent in 2006 before the global recession and slightly lower at 11.7 percent in 2010 (for the use of these data see Donahoe et al. 2010). The hope for future dynamism in the US economy, as the JP Morgan Global Manufacturing and Services PMI^TM shows, is in the continuing growth of the nonmanufacturing sector.

Table 2, Value Added by Industry as a Percentage of US Gross Domestic Product %

	2006	2010
GDP	100.0	100.0
Private Industries	87.6	86.6
Agriculture	0.9	1.1
Mining	1.7	1.9
Utilities	1.8	1.9
Construction	4.9	3.4
Manufacturing	12.3	11.7
Durable	6.9	6.6
	5.4	5.2

Private industries includes: utilities; wholesale trade; retail trade; transportation and warehousing; information; finance, insurance, real estate, rental and leasing; professional and business services; educational services, health care, and social assistance; arts, entertainment, recreation, accommodation, and food services; and computer systems design and related services.

Source: http://www.bea.gov/iTable/iTable.cfm?ReqID=5&step=1

Anthony Nieves, chair of the Institute for Supply Management Non-manufacturing Business Survey Committee, analyzes the Non-manufacturing ISM (NMI) Report on Business (http://ism.ws/ISMReport/NonMfgROB.cfm):

"The NMI registered 52.7 percent in July, 0.6 percentage point lower than the 53.3 percent registered in June, and indicating continued growth at a slower rate in the non-manufacturing sector. The Non-Manufacturing Business Activity Index increased 2.7 percentage points to 56.1 percent, reflecting growth for the 24th consecutive month and at a faster rate than in June. The New Orders Index decreased by 1.9 percentage points to 51.7 percent. The Employment Index decreased 1.6 percentage points to 52.5 percent, indicating growth in employment for the 11th consecutive month, but at a slower rate than in June. The Prices Index decreased 4.3 percentage points to 56.6 percent, indicating that prices increased at a slower rate in July when compared to June. According to the NMI, 13 non-manufacturing industries reported growth in July. Respondents' comments remain mixed; however, for the most part they indicate that business conditions are flattening out."

The Markit Eurozone Composite PMI^®, which combines manufacturing and services for the euro area, fell from 53.3 in Jun to 51.1 in Jul, which is the lowest reading since Sep 2009 (Markit 2011Aug3EC). This index also registers lows going back close to the beginning of recovery. France’s index registered 53.2, which is the lowest in 23 months since Aug 2009, and Germany’s index of 52.5 was the lowest in 21 months since Oct 2009. Italy registered 49.1, which is a high in two months but still in contraction territory. Spain’s index of 46.1 was the lowest in 19 months. Growth of the private sector in the euro area moved in Jul, which is the first month of IIIQ2011, toward stagnation. Markit (2011Aug3EC, 1) identifies standstill of inflows of new business as the main cause of weakening growth of output. New manufacturing export business, including trade within the euro zone, fell for the first time in two years. Price pressures moderated in Jul with the decline of commodity prices.

The HSBC China Manufacturing PMI^TM compiled by Markit fell from 50.1 in Jun to 49.3 in July, which indicates contraction, change in direction (HSBC 2011Aug1CM). New orders fell close to stagnation because of weak global demand. Also in China the index fell to the lowest level since Mar 2009. New export orders fell for the third consecutive month. Employment fell for the fifth consecutive month. The HSBC China Services PMI^TM with Composite PMI Data compiled by Markit fell from 51.6 percent in Jun to near stagnation levels of 50.4 in Jul (HSBC 2011Aug3CS, 1). Manufacturing activity declined more rapidly in Jul while the service sector expanded more slowly. The Business Activity Index of services fell from 54.1 in Jun to 53.5 in Jul. Growth of services new business registered a level close to the 28-month level reached in Apr. Inflation continued to be high but accelerating less rapidly. Growth of employment was at the lowest rate in more than two years.

Japan’s manufacturing continues recovery in V shape. The Markit/JMMA Purchasing Managers’ Index^TM rose from 50.7 in Jun to 52.1 in Jul, which is a five-month high level since Feb (Markit 2011Jul29JM). New business inflow rose for the first time in the past five months. Domestic demand was the driver of business growth while new export orders declined for the fifth consecutive month with falling demand from China and the US. Inventory building was an important source of growth. Employment grew for the first time since the earthquake/tsunami in Mar. The Markit Japan Services PMI^TM business activity segment fell mildly from 45.4 in Jun to 45.3 in Jul (Markit 20113JS, 1). Service providers have experienced six consecutive months of decline in new business. The rate of decline was not as sharp as during Mar and Apr. Composite manufacturing and service data registered the fifth consecutive month of contraction of business activity. Domestic demand for services has been weak. New orders for services combined with new orders for manufacturing fell slightly. The economy seems to be returning to a “two-speed” path before the earthquake/tsunami with manufacturing growing faster while services contract because of weak internal demand for services.

The Markit/CIPS UK Manufacturing PMI^® repeats the common occurrence of return of manufacturing to the beginning of recovery: fall from 51.4 in Jun to 49.1 in Jun, which is the lowest level since Jun 2009. The driving force of the slowdown was the fall of the level of new orders. New business fell in two of the past three months and at the fastest rate in more than two years. The Markit/CIPS UK Services PMI^® rose from 53.9 in Jun to 55.4 in Jul with activity at the highest level in four months, rising above the average (2011Aug3UKS, 1).

IB United States Growth Slowdown. The data on personal income and consumption have been revised back to 2003 as it the case of the national accounts (GDP revisions are covered in http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html). All revisions are incorporated in this subsection. There are two types of very valuable information on income, consumption and prices in Table 3, showing monthly, and annual equivalent percentage changes, seasonally adjusted, of current dollar or nominal personal income (NPI), current dollars or nominal disposable personal income (NDPI), real or constant chained (2005) dollars DPI (RDPI), current dollars nominal personal consumption expenditures (NPCE) and constant or chained (2005) dollars PCE. First, the difference between NDPI and RDPI (NDPI/RDPI) and NPCE and RPCE (NPCE/RPCE) indicates inflation. Let the rate of inflation be π, the percentage change in nominal value NV and the change in real value rv. Then:

(1+π)(1+rv) = (1+NV) (1)

Thus, if we know (1+NV) and (1+rv), simple rearrangement provides (1+π):

(1+π) = (1+NV)/(1+rv) (2)

The growing gap between NDPI/RDPI and NPCE/RPCE is inflation and accelerating from the final quarter of 2010 to the first six months of 2011 but a declining rate since the drop in commodity prices beginning in May. The gap becomes more evident in the cumulative percentages Jan-Jun 2011 and IVQ2010 and their annual equivalents Jan-Jun 2011 AE and IVQ2010 AE. The gap of NDPI/RDPI in Jan-Jun 2011 in Table 3 is 3.1 percent (1.039/1.008), which is much higher than in IVQ2010 of 2.5 percent (1.045/1.02). The gap NPCE/RPCE in Jan-Jun 2011 in Table 3 is 3.1 percent (1.039/1.008), which is much higher than 2.4 percent (1.057/1.037) in IVQ2010. Inflation in the deflator of personal income and outlays is moving toward 3 percent per year. That is, the government is benefitting from a tax known as the inflation tax. By issuing money through its central bank the government buys goods and services. In a situation of sizeable deficits and inflation, the government gains by purchasing before effects of issuing money that causes increases in prices (see http://cmpassocregulationblog.blogspot.com/2011/05/global-inflation-seigniorage-monetary.html http://cmpassocregulationblog.blogspot.com/2011/05/global-inflation-seigniorage-financial.html Pelaez and Pelaez, International Financial Architecture (2005), 201-12). This is a hidden but actually felt contribution of monetary accommodation to financing bloated government expenditures. The new inflation tax argument is not by increases in inflation resulting from increasing monetary aggregates but by the rise in valuations of assets such as commodities induced through the carry trade of near zero interest rates.

Table 3, Percentage Change from Prior Month Seasonally Adjusted of Personal Income, Disposable Income and Personal Consumption Expenditures %

	NPI	NDPI	RDPI	NPCE	RPCE
2011
Jun	0.1	0.1	0.3	-0.2	0.0
May	0.2	0.2	0.0	0.1	-0.1
Apr	0.4	0.4	0.1	0.2	-0.1
Mar	0.4	0.4	0.0	0.6	0.2
Feb	0.5	0.4	0.0	0.8	0.4
Jan	1.1	0.4	0.0	0.4	0.0
Jan- Jun 2011	2.7	1.9	0.4	1.9	0.4
Jan- Jun 2011 A	5.5	3.9	0.8	3.9	0.8
2010
Dec	0.5	0.5	0.2	0.4	0.1
Nov	0.1	0.1	0.0	0.4	0.3
Oct	0.5	0.5	0.3	0.6	0.4
IVQ10	1.1	1.1	0.5	1.4	0.8
IVQ010 A	4.5	4.5	2.0	5.7	3.2

Notes: NPI: current dollars personal income; NDPI: current dollars disposable personal income; RDPI: chained (2005) dollars DPI; NPCE: current dollars personal consumption expenditures; RPCE: chained (2005) dollars PCE; A: annual equivalent; IVQ2010: fourth quarter 2010; A: annual equivalent

Percentage change month to month seasonally adjusted

Source: http://www.bea.gov/newsreleases/national/pi/2011/pdf/pi0611.pdf

Second, while division in quarters is arbitrary, Table 3 shows reduction in the rates of growth of RDPI from 2.0 percent AE in IVQ2010 to 0.8 percent AE in Jan-Jun 2011 and of growth of RPCE from 3.2 percent AE in IVQ2010 to 0.8 percent AE in Jan-Jun 2011. There is no evidence of trend but rather the appearance of a slowing rate of growth that is captured by GDP growth of 0.4 percent in IQ2011 and1.3 percent in IIQ2011 and economic indicators in IIQ2011 and now also for Jul. There may have been a slowdown because of the interruption of the supply chain by the earthquake in Japan but the economy was already weak as shown by virtually flat real disposable income.

Further information on income and consumption is provided by Table 4. The 12-month rates of increase of RDPI and RPCE in the past eight months show a trend of deterioration of RDPI from over 3 percent in the final four months of 2010 to less than 3 percent in IQ2011 and then collapsing to 1.1 percent in Jun and May in IIQ2011. RPCE fell less markedly from close to 3 percent in IVQ 2010 to 1.8 percent in Jun and 2.0 percent in May. Markets were concerned with data in Table 3 showing no growth of RPCE in Jun after consecutive declines of 0.1 percent in Apr and May. Personal income and consumption have sharply weakened. Goods and especially durable goods have been driving growth of PCE as shown by the much higher 12-months rates of growth of real goods PCE (RPCEG) and durable goods real PCE (RPCEGD) than services real PCE (RPCES). The faster expansion of industry in the economy is derived from growth of consumption of goods and in particular of consumer durable goods while growth of consumption of services is much more moderate.

Table 4, Real Disposable Personal Income and Real Personal Consumption Expenditures Percentage Change from the Same Month a Year Earlier %

	RDPI	RPCE	RPCEG	RPCEGD	RPCES
2011
Jun	1.1	1.8	3.6	7.2	1.0
May	1.1	2.0	3.9	7.6	1.1
Apr	1.7	2.4	4.7	9.2	1.3
Mar	2.3	2.6	4.5	9.3	1.7
Feb	2.6	2.9	5.9	12.8	1.4
Jan	2.7	2.9	5.8	12.0	1.5
2010
Dec	3.2	2.8	5.4	10.2	1.6
Nov	3.6	3.2	5.9	10.2	1.9
Oct	3.8	2.9	6.1	12.2	1.3
Sep	3.1	2.7	5.6	10.5	1.4

Notes: RDPI: real disposable personal income; RPCE: real personal consumption expenditures (PCE); RPCEG: real PCE goods; RPCEGD: RPCEG durable goods; RPCES: RPCE services

Numbers are percentage changes from the same month a year earlier

Source: http://www.bea.gov/newsreleases/national/pi/2011/pdf/pi0611.pdf

Personal income and its disposition are shown in Table 5. An important adversity is shown in Table 5 in the form of a fall by $2.6 billion in Jun relative to May. Monthly increases in wages and salaries have been declining from $43.7 billion in Jan 2011 relative to Dec 2010, $14.5 billion in May relative to Apr and finally the decline of $2.6 billion in Jun.

Table 5, Personal Income and its Disposition, Seasonally Adjusted at Annual Rates $ Billions

	Personal Income	Wages & Salaries	Personal Taxes	DPI	Savings Rate %
Jun	12,982.2	6,629.9	1,389.2	11,592.9	5.4
May	12,963.5	6,632.5	1,386.9	11,576.6	5.0
Change Jun/ May	18.7	-2.6	2.3	16.3
Apr	12,940.3	6,618.0	1381.3	11,559.0	4.9
Change May/ Apr	23.2	14.5	5.6	17.6
Mar	12,887.4	6,591.1	1,374.2	11,513.2	4.7
Change Apr/ Mar	52.9	26.9	7.1	45.8
Feb	12,832.0	6,563.2	1,364.3	11,467.7	4.9
Change Mar/ Feb	55.4	27.9	9.9	45.5
Jan	12,769.2	6,525.1	1,351.2	11,418.1	5.2
Change Feb/Jan	62.8	38.7	13.1	49.6
Dec 2010	12,625.0	6,481.4	1,247.6	11,377.3	5.2
Change Jan/ Dec	144.2	43.7	103.6	40.8

Source: http://www.bea.gov/newsreleases/national/pi/2011/pdf/pi0611.pdf

II 25 to 30 Million Unemployed or Underemployed. The Bureau of Labor Statistics (BLS) released the employment situation report on Fri Aug 5 showing decrease in the seasonally adjusted rate of unemployment, or unemployed as percent of the labor force, from 9.2 percent in Jun 2011 to almost unchanged 9.1 percent in Jul 2011 (http://www.bls.gov/news.release/pdf/empsit.pdf). The number of people unemployed or underemployed in Table 6 is 25.1 million in Jul, compared with 25.3 million in Jun and 24.7 million in May. The number of unemployed or underemployed of 25.1 million in Jul

is composed of 13.9 million unemployed (of whom 6.2 million, or 44.4 percent, unemployed for 27 weeks or more) compared with 14.1 million unemployed in Jun (of whom 6.3 million, or 44.6 percent, unemployed for 27 weeks or more), 8.4 million employed part-time for economic reasons (who suffered reductions in their work hours or could not find full-time employment) compared with 8.5 million in Jun and 2.8 million who were marginally attached to the labor force (who were not in the labor force but wanted and were available for work) compared with 2.7 million in Jun.

Table 6, People in Job Stress, Millions and % SA

	Jul	Jun	May
Unemployed Millions	13.931	14.087	13.914
Unemployed >27 weeks Millions	6.185	6.289	6.200
Unemployed >27 weeks %	44.4	44.6	44.6
Part Time Economic Reasons Millions	8.396	8.552	8.548
Marginally Attached Labor Force Millions	2.785	2.680	2.206
Job Stress Millions	25.112	25.319	24.668
Unemploy- ment Rate	9.1	9.2	9.1

Job Stress = Unemployed + Part Time Economic Reasons + Marginally Attached Labor Force

Source:

http://www.bls.gov/news.release/pdf/empsit.pdf

http://www.bls.gov/news.release/archives/empsit_05062011.pdf

http://www.bls.gov/news.release/archives/empsit_04012011.pdf

In an article in the Financial Times, Martin Feldstein (2011Jul25) finds that the true issue in the US is jobs. The problem is the fractured labor market. Feldstein (2011Jul25) calculates 29 million Americans who are unable to find the job they desire. Comments in this blog have been providing a calculation of unemployed or underemployed in the US of around 29 million. Additional information provides deeper insight on the fractured job market of the US. Table 7 consists of data and additional calculations using the BLS household survey, illustrating the possibility that the actual rate of unemployment could be 11.5 percent and the number of people in job stress could be closer to 30 million. The first column provides for 2006 the yearly average population (POP), labor force (LF), participation rate or labor force as percent of population (PART %), employment (EMP), employment population ratio (EMP/POP %), unemployment (UEM), the unemployment rate as percent of labor force (UEM/LF Rate %) and the number of people not in the labor force (NLF). The numbers in column 2006 are averages in millions while the monthly numbers for Jul 2010 and Jun and Jul 2011 are in thousands, not seasonally adjusted. The average yearly participation rate of the population in the labor force was in the range of 62.0 percent minimum to 67.1 percent maximum between 2000 and 2006 with the average of 66.4 percent (ftp://ftp.bls.gov/pub/special.requests/lf/aa2006/pdf/cpsaat1.pdf). The objective of Table 7 is to assess how many people could have left the labor force because they do not think they can find another job. Row “LF PART 66.2 %” applies the participation rate of 2006, almost equal to the rates for 2000 to 2006, to the population in Jul 2010 and Jun and Jul 2011 to obtain what would be the labor force of the US if the participation rate had not changed. In fact, the participation rate fell to 65.3 percent by Jul 2010 and was 64.5 percent in Jun 2011 and 64.6 percent in Jul 2011, suggesting that many people simply gave up on finding another job. Row “∆ NLF UEM” calculates the number of people not counted in the labor force because they could have given up on finding another job by subtracting from the labor force with participation rate of 66.2 percent (row “LF PART 66.2%”) the labor force estimated in the household survey (row “LF”). Total unemployed (row “Total UEM”) is obtained by adding unemployed in row “∆NLF UEM” to the unemployed of the household survey in row “UEM.” The row “Total UEM%” is the effective total unemployed “Total UEM” as percent of the effective labor force in row “LF PART 66.2%.” The results are that: (1) there are an estimated 3.850 million unemployed who are not counted because they left the labor force on their belief they could not find another job (∆NLF UEM); (2) the total number of unemployed is effectively 18.278 million (Total UEM) and not 14.428 million (UEM) of whom many have been unemployed long term; (3) the rate of unemployment is 11.5 percent (Total UEM%) and not 9.3 percent, not seasonally adjusted, or 9.1 percent seasonally adjusted; and (4) the number of people in job stress is close to 30 million by adding the 3.850 million leaving the labor force because they believe they could not find another job. The last row of Table 7 provides the number of people in job stress (“In Job Stress) not seasonally adjusted at 29.577 million in Jul 2011, adding the total number of unemployed (“Total UEM”), plus those involuntarily in part-time jobs because they cannot find anything else (“Part Time Economic Reasons”) and the marginally attached to the labor force (“Marginally attached to LF”). The employment population ratio “EMP/POP %” dropped from 62.9 percent on average in 2006 to 58.9 percent in Jul 2010, 58.5 percent in Jun 2011 and 58.6 percent in Jul 2011 and the number of employed (EMP) dropped from 144 million to 140 million. What really matters for labor input in production and wellbeing is the number of people with jobs or the employment/population ratio, which has declined and does not show signs of increasing. There are almost four million fewer people working in 2011 than in 2006 and the number employed is not increasing. The number of hiring relative to the number unemployed measures the chances of becoming employed. The number of hiring in the US economy has declined by 17 million and does not show signs of increasing (http://cmpassocregulationblog.blogspot.com/2011/03/slow-growth-inflation-unemployment-and.html see section IV Hiring Collapse in http://cmpassocregulationblog.blogspot.com/2011/06/increasing-risk-aversion-analysis-of.html).

Table 7, Population, Labor Force and Unemployment, NSA

	2006	Jul 2010	Jun 2011	Jul 2011
POP	229	237,890	239,489	239,671
LF	151	155,270	154,538	154,812
PART%	66.2	65.3	64.5	64.6
EMP	144	140,134	140,129	140,384
EMP/POP%	62.9	58.9	58.5	58.6
UEM	7	15,137	14,409	14,428
UEM/LF Rate%	4.6	9.7	9.3	9.3
NLF	77	82,620	84,951	84,859
LF PART 66.2%		157,483	158,542	158,662
∆NLF UEM		2,213	4,004	3,850
Total UEM		17,350	18,413	18,278
Total UEM%		11.0	11.6	11.5
Part Time Economic Reasons		8,737	8,738	8,514
Marginally Attached to LF		2,622	2,680	2,785
In Job Stress		28,709	29,831	29,577

Pop: population; LF: labor force; PART: participation; EMP: employed; UEM: unemployed; NLF: not in labor force; ∆NLF UEM: additional unemployed; Total UEM is UEM + ∆NLF UEM; Total UEM% is Total UEM as percent of LF PART 66.2%; In Job Stress = Total UEM + Part Time Economic Reasons + Marginally Attached to LF

Note: the first column for 2006 is in average millions; the remaining columns are in thousands; NSA: not seasonally adjusted

The labor force participation rate of 66.2% in 2006 is applied to current population to obtain LF PART 66.2%; ∆NLF UEM is obtained by subtracting the labor force with participation of 66.2 percent from the household survey labor force LF; Total UEM is household data unemployment plus ∆NLF UEM; and total UEM% is total UEM divided by LF PART 66.2%

Sources:

ftp://ftp.bls.gov/pub/special.requests/lf/aa2006/pdf/cpsaat1.pdf

http://www.bls.gov/news.release/archives/empsit_12032010.pdf

http://www.bls.gov/news.release/pdf/empsit.pdf

Total nonfarm payroll employment seasonally adjusted (SA) rose by 117,000 in Jun and private payroll employment rose by 154,000. Table 8 the monthly change in jobs seasonally adjusted in the prior strong contraction of 1981-1982 and the recovery in 1983 into 1984 and in the contraction of 2008-2009 and in the recovery in 2009 to 2011. All revisions have been incorporated in Table 8. The data in the recovery periods are in relief to facilitate comparison. There is significant bias in the comparison. The average yearly civilian noninstitutional population was 174.2 million in 1983 and the civilian labor force 111.6 million, growing by 2009 to an average yearly civilian noninstitutional population of 235.8 million and civilian labor force of 154.1 million, that is, increasing by 35.4 percent and 38.1 percent, respectively (http://www.bls.gov/cps/cpsaat1.pdf). Total nonfarm payroll jobs in 1983 were 90.280 million, jumping to 94.530 million in 1984 while total nonfarm jobs in 2010 were 129.818 million declining from 130.807 million in 2009 (http://www.bls.gov/webapps/legacy/cesbtab1.htm ). What is striking about the data in Table 8 is that the numbers of monthly increases in jobs in 1983 are several times higher than in 2010 even with population higher by 35.4 percent and labor force higher by 38.1 percent in 2009 relative to 1983 nearly three decades ago and total number of jobs in payrolls rose by 39.5 million in 2010 relative to 1983 or by 43.8 percent. Professor Michael Boskin of Stanford, former Chairman of the CEA, provides analysis of growth in cyclical expansions in an article for the Wall Street Journal (http://professional.wsj.com/article/SB10001424052748703882304575465462926649950.html ). The critical historical perspective is that average quarterly rates of growth in the expansions after a severe recession were incomparably higher than during the current expansion: 6.2 percent in the first four quarters and 4.5 percent in the first 12 quarters after the trough in the second quarter of 1975, 7.7 percent in the first four quarters and 5.8 percent in the first 12 quarters after the trough in the first quarter in 1983 and only 3 percent in the first four quarters and 2.9 percent forecast in the first 12 quarters after the trough in the third quarter of 2009. GDP grew at the SA quarter-on-quarter yearly-equivalent rate of 3.9 percent in IQ2010, 3.8 percent in IIQ2010, 2.5 percent in IIIQ2010, 2.3 percent in IVQ2010, 0.4 percent in IQ2011 and 1.3 percent in IIQ2011. . Growth has been mediocre in the six quarters of expansion beginning in IIIQ2009 in comparison with earlier expansions http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html http://cmpassocregulationblog.blogspot.com/2011/07/causes-of-2007-creditdollar-crisis.html http://cmpassocregulationblog.blogspot.com/2011/06/financial-risk-aversion-slow-growth.html http://cmpassocregulationblog.blogspot.com/2011/05/slowing-growth-global-inflation-great.html http://cmpassocregulationblog.blogspot.com/2011/05/mediocre-growth-world-inflation.html http://cmpassocregulationblog.blogspot.com/2011/03/slow-growth-inflation-unemployment-and.html http://cmpassocregulationblog.blogspot.com/2011/02/mediocre-growth-raw-materials-shock-and.html) and also in terms of what is required to reduce the job stress of at least 25 million persons but likely close to 30 million. Some of the job growth and contraction in 2010 in Table 8 is caused by the hiring and subsequent layoff of temporary workers for the 2010 census.

Table 8, Monthly Change in Jobs, Number SA

Month	1981	1982	1983	2008	2009	2010	Private
Jan	95	-327	225	13	-820	-39	-42
Feb	67	-6	-78	-83	-726	-35	-21
Mar	104	-129	173	-72	-796	192	144
Apr	74	-281	276	-185	-660	277	229
May	10	-45	277	-233	-386	458	48
Jun	196	-243	378	-178	-502	-192	65
Jul	112	-343	418	-231	-300	-49	93
Aug	-36	-158	-308	-267	-231	-59	110
Sep	-87	-181	1114	-434	-236	-29	109
Oct	-100	-277	271	-509	-221	171	143
Nov	-209	124	352	-802	-55	93	128
Dec	-278	-14	356	-619	-130	152	167
			1984			2011	Private
Jan			447			68	94
Feb			479			235	261
Mar			275			194	219
Apr			363			217	241
May			308			53	99
Jun			379			46	80
Jul			312			117	154
Aug			241
Sep			311
Oct			286
Nov			349
Dec			127

Source: http://data.bls.gov/PDQ/servlet/SurveyOutputServlet

http://www.bls.gov/webapps/legacy/cesbtab1.htm

http://www.bls.gov/schedule/archives/empsit_nr.htm#2010

http://www.bls.gov/news.release/pdf/empsit.pdf

Important aspects of growth of payroll jobs from Jul 2010 to Jul 2011, not seasonally adjusted (NSA), are provided in Table 9. Total nonfarm employment increased by 1,351,000, consisting of growth of total private employment by 1,810,000 and decline by 459,000 of government employment. Monthly average growth of private payroll employment has been 150,833, which is mediocre relative to 25 to 30 million in job stress, while total nonfarm employment has grown on average by only 97,583 per month. Manufacturing employment increased by 112,583 while private service providing employment grew by 1,497,000. An important feature is that jobs in temporary help services increased by 163,000. This episode of jobless recovery is characterized by part-time jobs. An important characteristic is that the losses of government jobs have been high in local government, 158,000 jobs lost, because of the higher number of employees in local government, 13.2 million relative to 4.8 million in state jobs and 2.9 million in federal jobs. The high loss of census jobs in Jun, Jul and Aug 2010 is now reflected in federal government job losses from Jul 2010 to Jul 2011.

Table 9, Employees in Nonfarm Payrolls Not Seasonally Adjusted in Thousands

	Jul 2010	Jul 2011	Change
A Total Nonfarm	129,569	130,920	1,351
B Total Private	108,252	110,062	1,810
B1 Goods Producing	18,104	18,417	313
B1a Manu-facturing	11,611	11,791	180
B2 Private service providing	90,148	91,645	1,497
B2a Temporary help services	2,066	2,199	163
C Government	21,317	20,858	-459
C1 Federal	3,077	2,862	-215
C2 State	4,854	4,768	-86
C3 Local	13,386	13,228	-158

Note: A = B+C, B = B1 + B2, C=C1 + C2 + C3

Source:

http://www.bls.gov/news.release/pdf/empsit.pdf

The NBER dates recessions in the US from peaks to troughs as: IQ80 to IIIQ80, IIIQ81 to IV82 and IVQ07 to IIQ09 (http://www.nber.org/cycles/cyclesmain.html). Table 10 provides total annual level nonfarm employment in the US for the 1980s and the 2000s, which is different from 12 months comparisons. Nonfarm jobs rose by 4.853 million in 1982 to 1984, or 5.4 percent, and continued rapid growth in the rest of the decade. In contrast, nonfarm jobs are down by 7.780 million in 2010 relative to 2007 and fell by 989,000 in 2010 relative to 2009 even after six quarters of GDP growth. Monetary and fiscal stimuli have failed in increasing growth to rates required for mitigating job stress. The initial growth impulse reflects a flatter growth curve in the current expansion

Table 10, Total Nonfarm Employment in Thousands

Year	Total Nonfarm	Year	Total Nonfarm
1980	90,528	2000	131,785
1981	91,289	2001	131,826
1982	89,677	2002	130,341
1983	90,280	2003	129,999
1984	94,530	2004	131,435
1985	97,511	2005	133,703
1986	99,474	2006	136,086
1987	102,088	2007	137,598
1988	105,345	2008	136,790
1989	108,014	2009	130,807
1990	109,487	2010	129,818

Source: http://www.bls.gov/webapps/legacy/cesbtab1.htm

The highest average yearly percentage of unemployed to the labor force since 1940 was 14.6 percent in 1940 followed by 9.9 percent in 1941, 8.5 percent in 1975, 9.7 percent in 1982 and 9.6 percent in 1983 (ftp://ftp.bls.gov/pub/special.requests/lf/aa2006/pdf/cpsaat1.pdf). The rate of unemployment remained at high levels in the 1930s, rising from 3.2 percent in 1929 to 22.9 percent in 1932 in one estimate and 23.6 percent in another with real wages increasing by 16.4 percent (Margo 1993, 43; see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 214-5). There are alternative estimates of 17.2 percent or 9.5 percent for 1940 with real wages increasing by 44 percent. Employment declined sharply during the 1930s. The number of hours worked remained 29 percent in 1939 below the level of 1929 (Cole and Ohanian 1999). Private hours worked fell in 1939 to 25 percent of the level in 1929. The policy of encouraging collusion through the National Industrial Recovery Act (NIRA), to maintain high prices, together with the National Labor Relations Act (NLRA), to maintain high wages, prevented the US economy from recovering employment levels until Roosevelt abandoned these policies toward the end of the 1930s (for review of the literature analyzing the Great Depression see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 198-217).

The Bureau of Labor Statistics (BLS) makes yearly revisions of its establishment survey (Harris 2011BA):

“With the release of data for January 2011, the Bureau of Labor Statistics (BLS) introduced its annual revision of national estimates of employment, hours, and earnings from the Current Employment Statistics (CES) monthly survey of nonfarm establishments. Each year, the CES survey realigns its sample-based estimates to incorporate universe counts of employment—a process known as benchmarking. Comprehensive counts of employment, or benchmarks, are derived primarily from unemployment insurance (UI) tax reports that nearly all employers are required to file with State Workforce Agencies.”

The number of not seasonally adjusted total private jobs in the US in Dec 2010 is 108.464 million, declining to 106.079 million in Jan 2011, or by 2.385 million, because of the adjustment of a different benchmark and not actual job losses. The not seasonally adjusted number of total private jobs in Dec 1984 is 80.250 million, declining to 78.704 million in Jan 1985, or by 1.546 million for the similar adjustment. Table 11 attempts to measure job losses and gains in the recessions and expansions of 1981-1985 and 2007-2011. The final ten rows provide job creation from May 1983 to May 1984 and from May 2010 to May 2011, that is, at equivalent stages of the recovery from two comparable strong recessions. The row “Change ∆%” for May 1983 to May 1984 shows an increase of total nonfarm jobs by 4.9 percent and of 5.9 percent for total private jobs. The row “Change ∆%” for May 2010 to May 2011 shows an increase of total nonfarm jobs by 0.7 percent and of 1.7 percent for total private jobs. The last two rows of Table 11 provide a calculation of the number of jobs that would have been created from May 2010 to May 2011 if the rate of job creation had been the same as from May 1983 to May 1984. If total nonfarm jobs had grown between May 2010 and May 2011 by 4.9 percent, as between May 1983 and May 1984, 6.409 million jobs would have been created in the past 12 months for a difference of 5.457 million more total nonfarm jobs relative to 0.952 million jobs actually created. If total private jobs had grown between May 2010 and May 2011 by 5.9 percent as between May 1983 and May 1984, 6.337 million private jobs would have been created for a difference of 4.539 million more total private jobs relative to 1.798 million jobs actually created.

Table 11, Total Nonfarm and Total Private Jobs Destroyed and Subsequently Created in Two Recessions IIIQ1981-IVQ1982 and IVQ2007-IIQ2009, Thousands and Percent

	Total Nonfarm Jobs	Total Private Jobs
06/1981 #	92,288	75,969
11/1982 #	89,482	73,260
Change #	-2,806	-2,709
Change ∆%	-3.0	-3.6
12/1982 #	89,383	73,185
05/1984 #	94,471	78,049
Change #	5,088	4,864
Change ∆%	5.7	6.6
11/2007 #	139,090	116,291
05/2009 #	131,626	108,601
Change %	-7,464	-7,690
Change ∆%	-5.4	-6.6
12/2009 #	130,178	107,338
05/2011 #	131,753	108,494
Change #	1,575	1,156
Change ∆%	1.2	1.1
05/1983 #	90,005	73,667
05/1984 #	94,471	78,049
Change #	4,466	4,382
Change ∆%	4.9	5.9
05/2010 #	130,801	107,405
05/2011 #	131,753	109,203
Change #	952	1,798
Change ∆%	0.7	1.7
Change # by ∆% as in 05/1984 to 05/1985	6,409*	6,337**
Difference in Jobs that Would Have Been Created	5,457 = 6,409-952	4,539 = 6,337-1,798

*[(130,801x1.049)-130,801] = 6,409 thousand

**[(107,405)x1.059 – 107,405] = 6,337 thousand

Source: http://data.bls.gov/pdq/SurveyOutputServlet

III Falling Real Wages. The wage bill is the average weekly hours times the earnings per hour. Table 12 provides the estimates by the BLS of earnings per hour seasonally adjusted, increasing from $22.61/hour in Jul 2010 to $23.13/hour in Jul 2011, or by 2.3 percent. There is disappointment in financial markets about the pace of wage increases because of rising food and energy costs that inhibit consumption and thus sales. Average private weekly earnings increased slightly by $20.10 from $773.26 in Jul 2010 to $793.36 in Jul 2011 or by 2.6 percent. Earnings per hour fell from $20.10 in May 2011 to $22.99 in Jun 2011 and average weekly earnings declined from $791.89 in May, 2011 to $789.93 in Jun, 2011 but increased to $793.36 in Jul 2011. The number of average weekly hours rose from 33.5 in Jul 2010 to 33.6 in Jul 2011, or by 0.3 percent. The wage bill before taxes rose by 2.9 percent (1.026 times 1.003). The wage bill rose 0.9 percent in the 12 months ending in Jun, 2011 {[(wage bill in Jun 2011)/(wage bill in Jun 2010)-1 = ($23.03x33.6)/($22.57x34.1)-1]100} while CPI inflation was 3.6 percent in the 12 months ending in Jun 2011 for an inflation-adjusted wage-bill decline of 2.6 percent {[(1.009/1.036)-1]100}. Energy and food price increases are similar to a “silent tax” that is highly regressive, harming the most those with lowest incomes. There are concerns that the wage bill would deteriorate in purchasing power because of the raw materials shock in the form of increases in prices of commodities such as the 25.9 percent steady increase in the DJ-UBS Commodity Index from Jul 2, 2010 to Aug 5, 2011. The charts of four commodity price indexes by Bloomberg show steady increase since Jul 2, 2010 that was interrupted briefly only in Nov with the sovereign issues in Europe triggered by Ireland, in Mar by the earthquake and tsunami in Japan and in the beginning of May by the decline in oil prices and the sovereign risk difficulties in Europe (http://www.bloomberg.com/markets/commodities/futures/).

Table 12, Earnings per Hour and Average Weekly Hours SA

Earnings per Hour	Jul 2010	May 2011	Jun 2011	Jul 2011
Total Private	$22.61	$23.02	$23.03	$23.13
Goods Producing	$24.06	$24.41	$24.39	$24.46
Service Providing	$22.27	$22.68	$22.71	$22.81
Average Weekly Earnings
Total Private	$773.26	$791.89	$789.93	$793.36
Goods Producing	$952.78	$978.84	$973.16	$973.51
Service Providing	$737.14	$752.98	$753.97	$757.29
Average Weekly Hours
Total Private	33.5	33.6	33.6	33.6
Goods Producing	40.3	40.9	40.9	40.9
Service Providing	32.3	32.3	32.4	32.4

Source: http://www.bls.gov/news.release/pdf/empsit.pdf

Average hourly earnings in the first four months of 2007, 2010 and 2011 are shown in Table 13 together with their 12-months percentage change, CPI 12 month inflation and 12-month percentage changes in CPI inflation-adjusted average hourly earnings. Nominal changes of hourly earnings in 2007 were high and compensated for CPI inflation as shown by positive changes in 12 months real or CPI inflation-adjusted average hourly earnings. In 2010 and 2011, real average hourly earnings have been falling with acceleration in Mar because of the high headline CPI inflation of 2.7 percent, accelerating in Apr to 3.2 percent and in May and Jun to 3.6 percent. Headline CPI inflation in the first six months of 2011 accumulated to an annual equivalent 3.7 percent. CPI inflation excluding food and energy accumulated to annual equivalent 2.6 percent in the first six months of 2011. As shown in Table 13, inflation-adjusted average hourly earnings have been decreasing by 1.4 percent in Apr and 1.6 percent in May and 1.6 percent in Jun. A fractured labor market with falling numbers of hiring does not offer opportunities for wage and salary improvements.

Table 13, Average Hourly Earnings Nominal and Inflation Adjusted, Dollars and % NSA

	AHE ALL	12 Month Nominal ∆%	∆% 12 Month CPI	12 Month Real ∆%
2007
Jan*	$20.70*	4.2*	2.1	2.1*
Feb*	$20.79*	4.1*	2.4	1.7*
Mar	$20.78	3.6	2.8	0.8
Apr	$20.85	3.5	2.6	0.7
May	$20.89	3.8	2.7	1.1
Jun	$21.00	3.8	2.7	1.1
Jul	$21.04	3.7
2010
Jan	$22.44	1.9	2.6	-0.7
Feb	$22.48	1.9	2.1	-0.2
Mar	$22.48	1.8	2.3	-0.5
Apr	$22.52	1.8	2.2	-0.4
May	$22.57	1.9	2.0	-0.1
Jun	$22.57	1.8	1.1	0.7
Jul	$22.61	1.8	1.1	0.7
2011
Jan	$22.86	1.9	1.6	0.3
Feb	$22.88	1.8	2.1	-0.3
Mar	$22.89	1.8	2.7	-0.9
Apr	$22.93	1.8	3.2	-1.4
May	$23.02	1.9	3.6	-1.6
Jun	$23.03	1.9	3.6	-1.6
Jul	$23.13	2.3

Note: AHE ALL: average hourly earnings of all employees; CPI: consumer price index; Real: adjusted by CPI inflation; NA: not available

*AHE of production and nonsupervisory employees because of unavailability of data for all employees

Source: http://data.bls.gov/cgi-bin/surveymost?bls

ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

IV Financial Risk Aversion. This section considers continuing risk aversion in the world economy in subsection IVA World Financial Markets. Subsection IVB European Sovereign Risk analyzes new events in the euro zone. Subsection IVC United States Risk and Credit Rating Downgrade focuses on the new risks in the United States.

IVA World Financial Markets. The past three months have been characterized by unusual financial turbulence. Table 14, updated with every comment in this blog, provides beginning values on Aug 1 and daily values throughout the week ending on Aug 5. All data are for New York time at 5 PM. The first five rows provide three key exchange rates versus the dollar and the percentage cumulative appreciation (positive change or no sign) or depreciation (negative change or negative sign). Positive changes constitute appreciation of the relevant exchange rate and negative changes depreciation. Financial turbulence was dominated by reactions to the new program for Greece (see section IB in http://cmpassocregulationblog.blogspot.com/2011/07/debt-and-financial-risk-aversion-and.html), doubts on the larger countries in the euro zone with sovereign risks, the growth recession in the US, worldwide deceleration of economic growth and continuing inflation. The dollar/euro rate is quoted as number of dollars USD per one euro EUR, USD 1.440/EUR in the first row block in Table 14 for Jul 29. Table 14 defines a country’s exchange rate as number of units of domestic currency per unit of foreign currency. USD/EUR would be the definition of the exchange rate of the US and the inverse [1/(USD/EUR)] is the definition in this convention of the rate of exchange of the euro zone, EUR/USD. A convention is required to maintain consistency in characterizing movements of the exchange rate in Table 14 as appreciation and depreciation. The first row shows the exchange rate at 5 PM New York time; the second row provides the cumulative percentage appreciation or depreciation of the exchange rate from the rate on the last business day of the prior week, in this case Jul 29, to the last business day of the current week, in this case Aug 5; and the third row provides the percentage change from the prior business day to the current business day. For example, the USD appreciated (positive sign) by 0.8 percent from the rate of USD 1.440/EUR on Jul 29 to the rate of USD 1.428 on Aug 5 and depreciated by 1.3 percent from the rate of USD 1.4100 on Aug 4 to USD 1.428 on Aug 5. The political “game of chicken” in the US ended with predictable outcome of an increase in the Treasury debt ceiling (http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html ), with mild if any impact on risk aversion except by investors exercising abundance of caution in the unlikely case a of deciding player in the “chicken game” jumping in the abyss of selective default of US debt. Even the downgrade of the credit rating of US debt by Standard & Poor’s for the first time in over seven decades had been warned and was widely anticipated but is having an unexpected shock of deception. The cumulative appreciation of the dollar by 0.8 percent from the rate of USD 1.440/EUR on Jul 29 to USD 1.428/EUR on Aug 5 is more likely influenced by (1) sudden realization of the low growth recession of the US revealed by release on Fri Jul 29 of GDP growth of 0.4 percent in the US in IQ2011 and the preliminary estimate of 1.3 percent in IIQ2011; (2) frustrating fracture of the US job market in the employment situation report released on Aug 5; (3) evidence of growth recession worldwide in the purchasing managers’ indexes and multiple economic indicators; (4) flattening growth of personal income with resulting collapse of personal consumption expenditures; (5) and turbulence in financial markets as the crisis spreads to much larger countries in Europe. New developments of these issues during the week are discussed in greater detail in subsection IVB European Sovereign Risk and subsection IVC United States Risk and Credit Rating Downgrade. The drivers of financial turbulence are combinations of renewed fears of default, downgrades of Ireland, Cyprus, Greece and Spain, rise in sovereign bond spreads, declining bank stocks in Italy, weak employment report, growth recession of the US and worldwide and expected downgrading of US debt now materialized even after increase of the federal debt limit. Markets recovered with the expectation and then statement by the Council of the European Union (2011Jul21) announcing formally the Greek program (see http://cmpassocregulationblog.blogspot.com/2011/07/debt-and-financial-risk-aversion-and.html).

Table 14, Daily Valuation of Risk Financial Assets

	Aug 1	Aug 2	Aug 3	Aug 4	Aug 5
USD/ EUR 1.440	1.4225 1.2% 1.2%	1.4195 1.4% 0.2%	1.4316 0.6% -0.8%	1.4100 2.1% 1.5%	1.428 0.8% -1.3%
JPY/ USD 76.77	77.2380 -0.6% -0.6%	77.0865 -0.4% 0.2%	77.0395 -0.3% 0.1%	77.095 -3.0% -2.7%	78.39 -2.1% 0.9%
CHF/ USD 0.788	0.7836 0.6% 0.6%	0.7659 2.8% 2.2%	0.7694 2.4% -0.4%	0.7672 2.6% 0.3%	0.763 3.2% 0.5%
CHF/ EUR 1.1314	1.1170 1.3% 1.3%	1.0872 3.9% 2.6%	1.1015 2.6% -1.3%	1.0818 4.4% 1.8%	1.0945 3.3% -1.2%
USD/ AUD 1.0990	1.0966 -0.2% -0.2%	1.0791 -1..8% -1.6%	1.0754 -2.2% -0.3%	1.0464 -5.0% -2.8%%	1.045 -5.1% 0.0%
10 Year T Note Yield 2.795	2.75	2.60	2.61	2.42	2.566
2 Year T Note Yield 0.36	0.37	0.32	0.33	0.26	0.289
10 Year German Bond Yield 2.54	2.45	2.42	2.40	2.30	2.35
DJIA 12143.24	-0.1% -0.1%	-2.3% -2.2%	-2.0% 0.3%	-6.3% -4.3%%	-5.8% 0.5%
DJ Global 2088.82	-0.7% -0.7%	-2.8% -2.1%	-3.5% -0.8%	-7.5% -4.1%	-8.7% -1.3%
DAX 7158.77	-2.9% -2.9%	-5.1% -2.3%	-7.2% -2.3%	-10.4% -3.4%	-12.9% -2.8%
DJ Asia Pacific 1407.05	1.5% 1.5%	-0.2% -1.7%	-2.2% -2.0%	-4.2% -2.1%	-7.7% -3.6%
Nikkei 9833.03	1.3% 1.3%	0.1% -1.2%	-2.0% -2.1%	-1.8% 0.2%	-5.4% -3.7%
Shanghai 2701.73	0.1% 0.1%	-0.8% -0.9%	-0.9% -0.03%	-0.7% -0.2%	-2.8% -2.1%
WTI $/b 95.920	95.25 -0.7% -0.7%	93.250 -2.8% -2.1%	92.030 -4.1% -1.3%	86.440 -9.9% -6.1%	87.030 -9.3% 0.7%
Brent $/b 116.610	117.71 0.2% 0.2%	115.990 -0.5% -0.7%	113.260 -2.8% -2.3%	107.430 -7.9% -5.1%	109.30 -6.3% 1.7%
Gold $/ounce1628.60	1621.90 -0.4% -0.4%	1659.60 1.9% 2.3%	1662.50 2.1% 0.2%	1653.30 1.5% -0.6%	1663.60 2.1% 0.6%

Note: For the exchange rates the percentage is the cumulative change since Fri the prior week; for the exchange rates appreciation is a positive percentage and depreciation a negative percentage; USD: US dollar; JPY: Japanese Yen; CHF: Swiss Franc; AUD: Australian dollar; B: barrel; for the four stock indexes and prices of oil and gold the upper line is the percentage change since the past week and the lower line the percentage change from the prior day;

Source: http://www.bloomberg.com/markets/

http://professional.wsj.com/mdc/page/marketsdata.html?mod=WSJ_hps_marketdata

Major central banks intervened to prevent appreciation of their currencies in case of new monetary policy easing by the US. The Japanese yen depreciated by 2.1 percent during the week reaching JPY 78.39/USD by Fr Aug 5, which is still quite strong even after intervention by the Bank of Japan on behalf of the ministry of finance of Japan (http://www.boj.or.jp/en/announcements/press/danwa/dan1108a.htm/): “The Bank of Japan strongly expects that the action taken by the Ministry of Finance in the foreign exchange market will contribute to stable price formation in the market.” Past interventions have not been very successful (Pelaez and Pelaez, The Global Recession Risk (2007), 107-9). The JPY is used as safe haven from world risks even after a downgrade of its sovereign credit rating because of the country’s internal generation of savings to pay for its high debt. The Bank of Japan also decided to increase its program of quantitative easing that could have the added effect of depreciating the JPY (http://www.boj.or.jp/en/announcements/release_2011/k110804a.pdf):

“At the Monetary Policy Meeting held today, the Policy Board of the Bank of Japan decided, by a unanimous vote, to enhance monetary easing by increasing the total size of the Asset Purchase Program by about 10 trillion yen2 from about 40 trillion yen to about 50 trillion yen.”

The Swiss National Bank lowered its policy rate to zero in an effort to arrest the inflow of foreign funds that appreciated its currency, depriving the country of international competitiveness in trade with adverse effects on the Swiss economy (http://www.snb.ch/en/mmr/reference/pre_20110803/source/pre_20110803.en.pdf):

“The Swiss National Bank (SNB) considers the Swiss franc to be massively overvalued at present. This current strength of the Swiss franc is threatening the development of the economy and increasing the downside risks to price stability in Switzerland.

The SNB will not tolerate a continual tightening of monetary conditions and is therefore taking measures against the strong Swiss franc.

Effective immediately, the SNB is aiming for a three-month Libor as close to zero as possible, narrowing the target range for the three-month Libor from 0.00–0.75% to 0.00– 0.25%. At the same time, it will very significantly increase the supply of liquidity to the Swiss franc money market over the next few days. It intends to expand banks’ sight deposits at the SNB from currently around CHF 30 billion to CHF 80 billion. Consequently, with immediate effect, the SNB will no longer renew repos and SNB Bills that fall due and will repurchase outstanding SNB Bills, until the desired level of sight deposits has been reached.”

The Swiss franc traded at CHF 0.763/USD on Fri Aug 5, which reflects risk aversion by funds flowing away from risk positions to temporarily benefitting from safe haven in a strong deposit and investment market. Table 14 now includes also the rate of exchange between the Swiss franc and the euro, which appreciated by 3.3 percent to CHF 1.0945/USD by Fri Aug 5.

The Australian dollar, AUD, is considered a “commodity currency,” fluctuating in carry trades from lower interest rates in countries such as Japan to high interest rates in Australia and New Zealand but also in large volumes from zero interest rates in the US to commodities and other risk financial assets (see Pelaez and Pelaez, Globalization and the State, Vol. II (2009b), 202-4, Government Intervention in Globalization (2009c), 70-4). The Australian dollar is quoted in dollars per unit of Australian dollar, USD/AUD. Table 14 provides the standard quote in the market in terms of USD/AUD but calculates the movement in terms of units of Australian dollar per dollar, or AUD/USD. The AUD reversed its appreciation with depreciation by 5.1 percent to USD 1.045/AUD by Fri Jul 29. In an article in the Financial Times, Mansoor Mohi-uddin (2011Aug3) analyzes the increasing use of “shadow currencies,” of S3, which are the Canadian dollar, Swiss franc and Australian dollar, in currency strategies on the direction of the G3 economies of the US using the Canadian dollar, Europe with the Swiss franc assuming the old role of the Deutsche mark and China with the Australian dollar.

The three sovereign bond yields in Table 14 capture renewed risk aversion in the flight away from risk financial assets toward the safety of US Treasury securities and German securities. The 2-year US Treasury note is highly attractive because of minimal duration or sensitivity to price change but its yield fluctuated in a new broad range between 0.26 percent and 0.37 percent, trading at 0.289 percent on Fri Aug 5. (The entire yield curve is analyzed in Section III US Risk and the Chicken Run in http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html ). There was last week generalized expectation in financial markets, shown by only somewhat weaker bid/coverage ratios in the auctions of two, five and seven year US Treasury notes and the yields, that there would not be default of US debt because of political failure to raise the debt limit. The expectation of a downgrade is also quite generalized without much discernible turbulence in the market for Treasury securities. Markets will confirm or not this perception during trading in the new week. Much the same is true of the 10-year Treasury note with yield collapsing to 2.566 percent on Fri Aug 5 with Treasury securities still providing safe haven in the midst of high volatility in world financial markets. The 10-year bond of the government of Germany traded at 2.35 percent by Fri Aug 5 in a flight to safety throughout Europe. The strong yield of the 10-year government bond of Germany could be reflecting fears of spread of the sovereign risk doubts to larger countries. Markets can still become volatile under perceptions of challenges in the sovereign rescue program of Europe and/or downgrade of the credit rating of the US. Section VI Valuation of Risk Financial Assets provides more details and comparisons of performance in peaks and troughs.

The upper row in the stock indexes in Table 14 measures the percentage cumulative change to Aug 5 since the closing level in the prior week on Jul 29 and the lower row measures the daily percentage change. Performance of equities markets deteriorated significantly. The DJ Global index dropped 8.7 percent in the week as a result of the weakening world economy. All six indexes in Table 14 registered sharp losses throughout the week. The advanced economies are jointly moving toward a slow growth recession plagued with vulnerabilities of sovereign risks in Europe, slow growth with 29.6 million in job stress in the US that is embarking in an unsustainable debt path and troubling inflation/growth tradeoff in China.

The final block of Table 14 shows collapse of oil prices. Brent lost 6.3 percent in the week to $109.30/barrel but WTI dropped 9.3 percent to $87.030/barrel. Gold gained 2.1 percent by Fri Aug 5 with some investors believing gold can hedge vulnerabilities in world financial markets.

IVB European Sovereign Risk. There are euro zone countries that are relatively sound in terms of fiscal situations and financial variables, especially spreads of sovereign bonds and government debts and deficits, such as France and Germany. The test of the euro may depend on the redistribution process of bailouts analyzed by professors Zingales and Perotti (2011Jul27). The bailouts ultimately consist of (1) redistribution of wealth and income from taxpayers in the financially stronger countries to the bailed out countries; and (2) redistribution of wealth and income from the taxpayers in the financially stronger countries to creditors and shareholders of banks. Three euro zone countries have engaged in bailouts within the mechanism created by the European Union, IMF and European Central Banks: Portugal, Ireland and Greece. The combined GDPs of Portugal, Ireland and Greece add to $739 billion, which represents only 6.1 percent of the euro zone GDP of $12,192.8 billion, shown in Table 15. The problem is in the exposure of European banks to the bailed out countries and of banks worldwide to the bailed out countries and to the European banks. These exposures are much more important in relative terms of speed in propagating financial stress than the combined GDP of the bailed out countries. The turmoil during the past weeks manifested in the form of increases in the sovereign bond spreads and declines in the stock markets and bank stocks of Spain and Italy. The addition of the GDP of Spain and Italy to the bailed-out countries totals $4204 billion, which is equivalent to 34.5 percent of euro zone GDP. David Cottle writing on Jul 12 on “Italy fears rattle Europe’s markets” published by the Wall Street Journal (http://professional.wsj.com/article/SB10001424052702303812104576441302547119220.html?mod=WSJPRO_hpp_LEFTTopStories) informs that Italy’s “total capital market debt” is €1598 billion, approximately $2.2 trillion, which is the largest in the euro zone and the third largest in the world after the US and Japan. There is a cushion in that only €88 billion mature in 2011 and €190 billion mature in 2012. Perhaps the major source of concern for propagation of turbulence in Italy is that French banks had $392.6 billion in Italian government and private debt at the end of 2010, according to Bank for International Settlements (BIS) data, as informed by Fabio Benedetti-Valentini, writing on Jul 12, 2011, on “French banks face greatest Italian risk” published by Bloomberg (http://www.bloomberg.com/news/2011-07-12/france-s-bnp-credit-agricole-on-frontline-with-italian-risk.html). The international financial system could suffer major stress through the exposures to European banks.

Table 15, World and Selected Regional and Country GDP and Fiscal Situation

	GDP USD 2010 USD Billions	Primary Net Lending Borrowing % GDP 2010	General Government Net Debt % GDP 2010
World	57,920.3
Euro Zone	12,192.8	-3.6	64.3
Portugal	229.3	-4.6	79.1
Ireland	204.3	-29.7	69.4
Greece	305.4	-3.2	142.0
Spain	1,409.9	-7.8	48.8
Major Advanced Economies G7	31,891.5	-6.9	74.4
United States	14,657.8	-10.6	64.8
UK	2,247.5	-8.6	69.4
Germany	3,315.6	-3.3	53.8
France	2,582.5	-7.7	74.6
Japan	5,458.9	-9.5	117.5
Canada	1,574.1	-5.5	32.2
Italy	2,055.1	-4.6	99.6
China	5,878.3	-2.6	17.7
Cyprus	23.2	-5.4	61.6

Source: http://www.imf.org/external/pubs/ft/weo/2011/01/weodata/index.aspx

Charles Forelle, writing on Aug 5 on “New focus of fears on Italy sends officials scrambling,” published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424053111903366504576488404141888630.html) provides information and analysis of the hurdles in a bailout of Spain and Italy. The increase in resource of the European Financial Stability Facility (EFSF http://www.efsf.europa.eu/about/index.htm) to €440 billion would provide temporary funds to support Spain but not Italy. The increase in EFSF would only be effective after capital markets transactions that are not feasible until Sep because of the holidays in Aug in Europe. Italy announced that is has €60 billion available, which is more than required for redemptions of long-term debt in 2011. Turbulence continued to plague Italy’s financial markets with 10-year government bond yields rising to 6.2 percent on Aug 5 compared with 4.8 percent a month earlier. The FTSE MIB index has lost about 25 percent in the past 52 weeks (http://www.bloomberg.com/apps/quote?ticker=FTSEMIB:IND). Forelle finds that Italy’s redemption of government debt in Aug is €36 billion, which is about equal to Greece’s redemptions for the full year. Italy will require €340 to €350 billion per year in the next five years to pay maturing debts and fund deficits, according to IMF estimates quoted by Forelle. Redemptions of Italian government debt in 2012 amount to about €200 billion and the budget deficit to €50 billion. Forelle calculates that Portugal and Greece will absorb €186 billion from the EFSF, which will hardly have sufficient funding for Italy during one year but there are also Spain and perhaps other countries. Christopher Emsden and Charles Forelle, writing on Aug 5 on “Italy speeds its path to balanced budget,” published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424053111903366504576489793090784296.html?mod=WSJPRO_hpp_LEFTTopStories), inform on the consultations in Europe and with the US on Italy. The Italian Prime Minister Silvio Berlusconi announced the country’s pledge to anticipate the balance of the budget and other market reforms. The issue is now within the consultations of the G7 and the G20. Brian Blackstone, writing on Aug 6 on “Europe central bank signals wider bond purchases,” published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424053111903366504576490662869530734.html?mod=WSJPRO_hpp_LEFTTopStories) informs that the European Central Bank (ECB) is willing to purchase Italian and Spanish government bonds. Italy and Spain jointly issue about €600 billion of government bonds a year, which is about 7.5 times the total acquisition to date by the ECB of €80 billion of Greek, Portuguese and Irish government bonds. Three members of the ECB board of 23 members, including the German central bank, opposed the acquisition of Portuguese and Irish bonds on Aug 4. Yields on 10-year government bonds of Spain and Italy rose above 6 percent, which is considered by analysts as an indication of unsustainable debt.

Industrial production in Italy, as shown in Table 16, has been underperforming, as almost everywhere in the world economy. The 12-month rate of increase has collapsed to 0.2 percent in Jun 2011 from 6.3 percent in Dec 2010. Industrial production fell 0.6 percent in Jun after an equal fall of 0.6 percent in May. The Jan-Jun annual equivalent rate is only 0.5 percent.

Table 16, Italy, Industrial Production

	Month ∆%	12 Months ∆%
Jun	-0.6	0.2
May	-0.6	2.0
Apr	1.1	3.8
Mar	0.7	3.4
Feb	1.4	2.4
Jan	-1.7	0.4
Jan-Jun Annual Equivalent	0.5
Dec 2010	0.0	6.3

Source: http://www.istat.it/salastampa/comunicati/in_calendario/prodind/20110805_00/testointegrale20110805.pdf

A longer perspective of Italy’s GDP growth is provided in Table 17. Quarterly GDP growth relative to the same quarter a year earlier has dropped from 1.5 percent in IVQ2010 to 0.8 percent in IIQ2011. The rates of yearly decline in 2009 were quite pronounced and have not been compensated by subsequent growth. IIQ2011 growth has risen to 0.3 percent after nearly stalling by 0.1 percent in the two consecutive quarters of IV2010 and IQ2011.

Table 17, Italy, GDP ∆%

	Quarter ∆% Relative to Preceding Quarter	Quarter ∆% Relative to Same Quarter Year Earlier
IIQ2011	0.3	0.8
IQ2011	0.1	1.0
IVQ2010	0.1	1.5
IIIQ2010	0.3	1.4
IIQ2010	0.5	1.4
IQ2010	0.6	0.7
IVQ2009	0.0	-3.0
IIIQ2009	0.4	-4.9
IIQ2009	-0.3	-6.3
IQ2009	-3.0	-6.7
IVQ2008	-2.0	-3.4
IIIQ2008	-1.1	-1.8
IIQ2008	-0.7	-0.4
IQ2008	0.4	0.3

Source: http://www.istat.it/salastampa/comunicati/in_calendario/stimapil/20110805_00/testointegrale20110805.pdf

Spain’s 12-month rates of industrial growth, adjusted or not for calendar days, fell by 2 percent in Jun 2011, as shown in Table 18. Growth was stronger in Jan and Feb but collapsed after Apr.

Table 18, Spain, Industrial Production in 12 Months ∆%

	Original Index	Calendar Adjusted Index
Jun 2011	-2.7	-2.0
May	1.2	0.0
Apr	-4.0	-1.5
Mar	1.3	-0.5
Feb	3.3	3.6
Jan	5.0	2.8
Dec 2010	0.4	-0.3
Nov	3.4	3.0
Oct	-3.5	-1.7
Sep	-1.1	-1.7
Aug	3.4	1.6
Jun	-2.3	-0.1
Jul	3.2	3.1

Source: http://www.ine.es/en/daco/daco42/daco422/ipi0611_en.pdf

Spain had a strong impact from the recession as shown by high rates of GDP decline in 2009, shown in Table 19. Recovery actually did not begin until IVQ2010 and IQ2011 but has been insufficient to compensate for the significant declines in 2009. Collapse of Spanish real estate, as in the US and Ireland, has been a major drag on the economy and financial markets.

Table 19, Spain, Growth of GDP Quarter on Same Quarter a Year Earlier ∆%

	Quarter on Same Quarter a Year Earlier ∆%
IQ2011	0.7
IVQ2010	0.6
IIIQ2010	0.0
IIQ2010	0.2
IQ2010	-1.4
IVQ2009	-2.6
IIIQ2009	-4.0
IIQ2009	-4.5
IQ2009	-3.8
IVQ2008	-1.1
IIIQ2008	0.8
IIQ2008	1.7
IQ2008	2.0

Source: http://www.ine.es/jaxiBD/menu.do?L=1&divi=CNTR&his=0&type=db

The rate of unemployment of Spain fell to 20.9 percent in IIQ2011, as shown in Table 20. This is one of the highest rates of unemployment in the world. The employment/population ratio at 47.6 percent and the labor force participation rate at 60.1 percent are several percentage points lower than, say, in the US. There are 4.834 million people unemployed out of a labor force of 23.137 million.

Table 20, Spain, Population, Labor Force, Employment and Unemployment

	IIQ2011
Population 16 Years and Older Millions	38.481
Labor Force Millions	23.137
Participation Rate %	60.1
Employed Millions	18.303
Employment/Population %	47.6
Unemployed Millions	4.834
Unemployment Rate %	20.9

Source: http://www.ine.es/en/daco/daco42/daco4211/epa0211_en.pdf

IVC United States Risk and Credit Rating Downgrade. The financial reform of the United States around the proposal of a national bank by Alexander Hamilton (1780) to develop the money economy with specialization away from the barter economy is credited with creating the financial system that brought prosperity over a long period (see Pelaez 2008). Continuing growth and prosperity together with sound financial management earned the US dollar the role as reserve currency and the AAA rating of its Treasury securities. The “chicken run to the edge of the abyss” (http://cmpassocregulationblog.blogspot.com/2011/07/growth-recession-debt-financial-risk.html) terminated with the passage by Congress and signing into law by the President of the Budget Control Act of 2011 (http://www.gpo.gov/fdsys/pkg/BILLS-112s365enr/pdf/BILLS-112s365enr.pdf). The process still needed analysis and action by credit rating agencies.

Moody’s Investors Service (2011Aug2) decided on Aug 2 to confirm the Aaa government bond rating of the United States after the deal to raise the statutory debt limit. On Jul 13, Moody’s had decided to place US debt rating on “review for possible downgrade” because of the possibility of default resulting from failure of increasing the debt limit. The Budget Control Act of 2011 raises the debt limit by $900 billion with commitment to further increase by $1.2 billion to $1.5 billion at year end. Moody’s analyzes the increase in the debt limit as part of a process to maintain debt sustainability in the long run that will require further measures. The Budget Control Act of 2011 entrusts a congressional committee with the task of recommending further reduction of $1.5 trillion and that in case of failure of an agreement spending reductions of $1.2 trillion will be automatically enacted. Moody’s finds four risks to the US debt rating: (1) erosion of fiscal discipline in 2012; (2) failure to adopt new measures of fiscal consolidation; (3) deterioration of the economic outlook; and (4) significant increase of US government funding costs above expectations.

Fitch (2011Aug2) finds that the agreement on raising the debt ceiling is consistent with the AAA rating of the US, resulting in “extremely low” risk of default. In the view of Fitch, there are still tough tax and spending decisions in the US, as well as in Europe, in a weak economic environment, which are required to place deficits and debts in medium term “safer levels.” Fiscal soundness requires implementation of a credible deficit reduction plan over multiple years. Fitch (2011Aug2) projects that under current trends general US government debt, adding that of states and local governments to federal debt, could reach 100 percent of GDP by year-end 2012, rising continuously in the medium term. Fitch (2011Aug2) does not find that such a debt trajectory could warrant AAA sovereign rating for the United States.

On Aug 5 after the close of markets, Standard & Poor’s (2011Aug5) ended the 70 years of AAA-rating enjoyed by US government debt by lowering the long-term sovereign credit rating of the US from AAA to AA+, affirming the A-1+ rating for short-term debt. In the view of Standard & Poor’s, the agreement by Congress and the Administration on fiscal consolidation is insufficient in stabilizing the medium-term debt trajectory of US debt. In assigning negative outlook to US debt on Apr 18, 2011, Standard & Poor’s had raised doubts, believed now to be confirmed (Standard & Poor’s (2011Aug5), about the “effectiveness, stability and predictability of American policymaking and political institutions” when action is required during fiscal and economic challenges. Polarization of views among political parties, according to Standard & Poor’s (2011Aug5), raises doubts on fiscal consolidation required to stabilize the trajectory of debt. Standard & Poor’s (2011Aug5) is also placing the sovereign debt of the US on negative outlook, which means that it could lower the rating to AA within two years if (1) spending is higher than under the agreement; (2) interest rates rise; or (3) new fiscal events cause an accelerated debt trajectory than in the agency’s base case.

Damian Paletta and Matt Phillips, writing on Aug 6 on “S&P strips US of top credit rating,” published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424053111903366504576491421339802788.html?mod=WSJ_Home_largeHeadline), analyze several possible effects. (1) Costs of borrowing of companies and states could increase because of downgrades or perceptions of risk. (2) Hidden problems could surface. (3) Confidence by investors, consumers and business could be shaken at a time when the rhythm of recovery is slowing. (4) Foreign buyers of US Treasury securities may reduce their holdings. (5) The Federal Reserve and the other bank supervisors and regulators immediately issued a statement that there would not changes in risk weight of US government debt (http://www.federalreserve.gov/newsevents/press/bcreg/20110805a.htm):

“Earlier today, Standard & Poor's rating agency lowered the long-term rating of the U.S. government and federal agencies from AAA to AA+. With regard to this action, the federal banking agencies are providing the following guidance to banks, savings associations, credit unions, and bank and savings and loan holding companies (collectively, banking organizations).

For risk-based capital purposes, the risk weights for Treasury securities and other securities issued or guaranteed by the U.S. government, government agencies, and government-sponsored entities will not change. The treatment of Treasury securities and other securities issued or guaranteed by the U.S. government, government agencies, and government-sponsored entities under other federal banking agency regulations, including, for example, the Federal Reserve Board's Regulation W, will also be unaffected.”

(6) Money market funds invest in short-term securities that are not affected by the downgrade. (7) Paletta and Phillips quote estimates by analysis of JP Morgan Chase & Co that about $4 trillion of US Treasury security are pledged as collateral in transactions by banks and derivatives traders. There could be requirements to increase the collateral with more securities or cash because of the downgrade. Such increases could result in offsetting transactions that could provoke declines in prices of securities, which is equivalent to increases in borrowing costs. The answer to the effects on financial markets will not be known until the news is processed throughout markets.

The fiscal game of chicken of who jumps first has two dare factors. First, the “read my lips” no tax promise is at perceived as having been toxic in presidential elections. Second, there is an equally politically toxic issue of what expenditures to cut. The fiscal situation of the US is even more complex because of the structure of outlays for 2011 shown in Table 21. Mandatory expenditures are 57.5 percent of total outlays and 14.5 percent of GDP. Discretionary expenditures are 37.1 percent of total outlays but $908 billion are national security expenditures out of total discretionary of $1416 billion. An even more important constraint is that the expenditures for Social Security, Medicare and Medicaid are $1506 billion equivalent to 9.9 percent of GDP and 39.4 percent of total outlays. The Sep 2010 projections of the Centers for Medicare and Medicaid (CMS) estimate 2011 Federal expenditures on health, including CHIP (Children’s Health Insurance Program) of $989.6 billion (http://www.cms.gov/NationalHealthExpendData/downloads/NHEProjections2009to2019.pdf).

Table 21, Outlays of 2011 in the White House Budget Proposal in $ Billions and Percents of GDP and Total Outlays

	2011
Discretionary	1416
Percent of GDP	9.4
Percent of Total Outlays	37.1
Security	908
Non-security	507
Mandatory	2194
Percent of GDP	14.5
Percent of Total Outlays	57.5
Social Security	742
Medicare	488
Medicaid	276
Subtotal	1506
Percent of GDP	9.9
Percent of Total Outlays	39.4
Net Interest and Disaster	209
Total Outlays	3819
Percent of GDP	25.3
GDP	15,080

Source: http://www.whitehouse.gov/sites/default/files/omb/budget/fy2012/assets/tables.pdf Page 173, Table S-3.

Note: there are discrepancies between outlays and receipts and the deficit between Table S-1 used for Table 1 in this writing and Table S-4 used for Table 2 in this writing.

V Global Inflation. There is inflation everywhere in the world economy, with slow growth and persistently high unemployment in advanced economies. There is high association in the past 13 years between global GDP and the JP Morgan Global Manufacturing and Services PMI^TM (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8416). Expansion is a reading above 50.0 and contraction a reading below 50.0. The JP Morgan Global Manufacturing and Services PMI^TM rose from 52.3 in Jun to 52.6 in Jul, which means that world overall output, manufacturing and services, expanded at a faster rate (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8416). Output activity in the JP Morgan Global Services PMI^TM (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8417) rose from 52.2 in Jun to 53.1 in Jul, meaning that global services grew at a faster rate in Jul, compensating for decline in the JP Morgan Global Manufacturing PMI^TM from 52.3 in Jun to 50.6 in Jul, signaling that manufacturing was expanding at a slower rate in Jul (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8379). The index of new orders of the JP Morgan Global Manufacturing and Services PMI^TM fell from 52.0 in Jun to 51.1 in Jul, signaling expansion at a slower rate. Input prices continue to rise but at a slower rate, with the index of input prices falling from 58.6 in Jun to 56.3 in Jul. The employment index continues to increase at a slower rate, falling from 52.5 in Jun to 51.2 in Jul (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8416).

Table 22 updated with every post, provides the latest annual data for GDP, consumer price index (CPI) inflation, producer price index (PPI) inflation and unemployment (UNE) for the advanced economies, China and the highly-indebted European countries with sovereign risk issues. The table now includes the Netherlands and Finland that with Germany make up the set of northern countries in the euro zone that hold key votes in the enhancement of the mechanism for solution of the sovereign risk issues (http://www.ft.com/cms/s/0/55eaf350-4a8b-11e0-82ab-00144feab49a.html#axzz1G67TzFqs). The HSBC China Manufacturing PMI^TM compiled by Markit fell from 50.1 in Jun to 49.3 in July, which indicates contraction, change in direction (http://www.markit.com/assets/en/docs/commentary/markit-economics/2011/aug/CN_Manufacturing_ENG_1108_PR.pdf). New orders fell close to stagnation because of weak global demand. Also in China the index fell to the lowest level since Mar 2009. New export orders fell for the third consecutive month. Employment fell for the fifth consecutive month. The HSBC China Services PMI^TM with Composite PMI Data compiled by Markit fell from 51.6 percent in Jun to near stagnation levels of 50.4 in Jul (http://www.markit.com/assets/en/docs/commentary/markit-economics/2011/aug/CN_Services_ENG_1108_PR.pdf). Manufacturing activity declined more rapidly in Jul while the service sector expanded more slowly. The Business Activity Index of services fell from 54.1 in Jun to 53.5 in Jul. Growth of services new business registered a level close to the 28-month low level reached in Apr. Inflation continued to be high but accelerating less rapidly. Growth of employment was at the lowest rate in more than two years. China’s rate of growth of industrial production rose from 13.3 percent in May to 15.1 percent in Jun. Both official data and the PMI have tracked slowing export growth in China that peaked in early 2010 (http://www.markit.com/assets/en/docs/commentary/markit-economics/2011/jul/CN_NOTE_21_07_11.pdf). Economic conditions have worsened for smaller companies relative to larger ones. Aaron Back and Jason Dean writing on Jul 9, 2011 on “China price watchers predict another peak” published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424052702304793504576433443699064616.html?mod=WSJ_hp_LEFTWhatsNewsCollection) inform that China’s CPI inflation jumped to 6.4 per cent in Jun relative to a year earlier, much higher than 5.5 percent in May but many economists believe that inflation could decline in the second half of the year. Comparisons with high rates of CPI inflation late in 2010 will likely result in lower 12 months rates of inflation later in 2011. Jamil Anderlini writing on Jul 9, 2011, on “China inflation hits three-year high” published by the Financial Times (http://www.ft.com/intl/cms/s/0/693daad2-aa1d-11e0-958c-00144feabdc0.html#axzz1Repz5K5o) informs that food prices increased 14.4 percent in the 12 months ending in Jun. Core non-food prices increased 3 percent in the 12 months ending in Jun, which is the highest rate in five years, suggesting inflation is spreading in the economy. Headline CPI inflation rose 0.3 percent in Jun relative to May but prices excluding food were stable, which could signal decelerating inflation. Aaron Back writing on Jul 6, 2011 on “China raises interest rates” published by the Wall Street Journal Asia Business (http://professional.wsj.com/article/SB10001424052702303544604576429393824293666.html?mod=WSJ_hp_LEFTWhatsNewsCollection) informs that the People’s Bank of China raised the one-year lending rate from 6.31 percent to 6.56 percent and the one-year deposit rate to 3.5 percent from 3.25 percent. This was the fifth increase in interest rates in 2010 and 2011. The People’s Bank of China has raised the reserve requirements of banks six times in 2011. The concern with inflation in China is that it could be a factor in a “hard landing” of the economy with growth lower than 7 percent. The lending rate may not be negative in real terms if during the next 12 months inflation falls below the yearly rate of 6.5 percent. An issue is China is the use of generous credit growth to prevent the impact of the global recession on China. Deposit rates of 3.5 percent are likely to be lower than forward inflation, stimulating the purchase of speculative assets such as housing and also goods that may rise more than expected inflation. Martin Vaughan writing on July 5, 2011 on “Moody’s warns on China debt” published by the Wall Street Journal (http://professional.wsj.com/article/SB10001424052702304803104576427062691548064.html?mod=WSJ_hp_LEFTWhatsNewsCollection) informs of the warning by Moody’s Investors Service that China’s National Audit Office (NAO) understated CNY 3.5 trillion or $541 billion of bank loans to local governments. That portion of loans has poor documentation and highest exposure to delinquencies. NAO has concluded that banks have lent CNY 8.5 trillion to local government. A critical issue in China is the percentage of those loans that could become nonperforming and the impact that could occur on bank capital and solvency. The report by Moody’s Investors Service “estimates that the Chinese banking system’s economic nonperforming loans could reach between 8% and 12% of total loans, compared to 5% to 8% in the agency’s base case, and 10% to 18% in its stress case” (http://www.moodys.com/research/Moodys-Scale-of-problem-loans-to-Chinese-local-governments-greater?lang=en&cy=global&docid=PR_222068). A hard landing in China could have adverse repercussions in the regional economy of Asia and throughout the world’s financial markets and economy. The combination of a hard landing in China with sovereign risk difficulties in Europe and further slowing of the US economy could have strong, unpredictable effects. Jamil Anderlini writing from Shanghai on Jul 10, 2011 on “Trade data show China economy slowing” published by the Financial Times (http://www.ft.com/intl/cms/s/0/eeedc000-aabc-11e0-b4d8-00144feabdc0.html#axzz1Repz5K5o) informs that Chinese imports grew at 19.3 percent in June 2011 relative to Jun 2010, which is significantly below the 12-month rate of 28.4 percent in May. China’s industrial activity appears to be decelerating as suggested by lower imports of commodities such as crude oil, aluminum and iron ore, all falling in the 12 months ending in Jun 2011. China’s imports of crude oil fell 11.5 percent in Jun 2011 relative to Jun 2010 and copper imports grew in Jun but were lower than a year earlier. China’s exports grew 17.9 percent in Jun from a year earlier to a monthly record of $162 billion. The trade surplus of China in Jun of $22.3 billion was higher than $13 billion in May and may reignite the complaints about China’s exchange rate policy. Simon Rabinovitch writing on Jul 12 on “China’s foreign reserves climb by $153 billion” published by the Financial Times (http://www.ft.com/intl/cms/s/0/13c382e6-ac59-11e0-bac9-00144feabdc0.html#axzz1Repz5K5o) informs that China’s foreign reserves rose by $153 billion in IIQ2011 after increasing $197 billion in IQ2011, reaching $3197 billion, which is around 50 percent of GDP and three times higher than reserves by any other country. The trade surplus contributed $47 billion of the increase of reserves of $153 billion in IIQ2011 with the remainder originating mostly in investment inflows and interest earnings. Aaron Back writing on Jul 13 on “China growth suggests tightening ahead” published by the Wall Street Journal (http://professional.wsj.com/article/SB10001424052702304223804576443493415667206.html?mod=WSJ_hp_LEFTWhatsNewsCollection) analyzes new data on China showing fast expansion of the economy that could signal further tightening measures. China’s GDP grew at 9.5 percent in IIQ2011, which is lower than 9.7 percent in IQ2011. Most countries report GDP growth as seasonally adjusted quarterly rates converted in annual equivalent. The adjustment of Chinese data for seasonality in annual equivalent results in GDP growth of 9.1 in IIQ2011 compared with 8.7 percent growth in IQ2011. The growth rate of GDP of China in IIQ2011 increased slightly to 2.2 percent in that quarter. Industrial production rose to the 12-month rate in Jun of 15.1 percent, which is higher than 13.3 percent in May. Real estate investment in Jan-Jun 2011 rose to CNY 2.625 trillion, equivalent to about $405 billion, which is higher by 32.9 percent relative to Jan-Jun 2010. Sales of commercial and residential property sales in Jan-Jun 2011 rose 24.1 percent relative to 2010, which is higher than 18.1 percent in Jan-May.

Table 22, GDP Growth, Inflation and Unemployment in Selected Countries, Percentage Annual Rates

	GDP	CPI	PPI	UNE
US	2.9	3.6	7.0	9.2
Japan	-0.7***	0.2	2.5	4.6
China	9.5	6.4	6.8
UK	1.8	4.5* RPI 5.2	5.9* output 18.5* input 13.1**	7.7
Euro Zone	2.5	2.5	5.9	9.9
Germany	4.8	2.4	5.6	6.0
France	2.2	2.3	6.1	9.5
Nether-lands	3.2	2.5	9.1	4.2
Finland	5.8	3.4	7.2	7.8
Belgium	3.0	3.4	9.0	7.3
Portugal	-0.7	3.3	5.9	12.4
Ireland	-1.0	1.2	5.2	14.0
Italy	1.0	3.0	4.7	8.1
Greece	-4.8	3.1	6.3	15.1
Spain	0.8	3.0	6.7	20.9

Notes: GDP: rate of growth of GDP; CPI: change in consumer price inflation; PPI: producer price inflation; UNE: rate of unemployment; all rates relative to year earlier

*Office for National Statistics

PPI http://www.statistics.gov.uk/pdfdir/ppi0811.pdf

CPI http://www.statistics.gov.uk/pdfdir/cpi0611.pdf

** Excluding food, beverage, tobacco and petroleum

http://epp.eurostat.ec.europa.eu/cache/ITY_PUBLIC/4-04042011-AP/EN/4-04042011-AP-EN.PDF

***Change from IQ2011 relative to IQ2010 http://www.esri.cao.go.jp/jp/sna/sokuhou/kekka/gaiyou/main_1.pdf

Source: EUROSTAT; country statistical sources http://www.census.gov/aboutus/stat_int.html

Table 22A provides the forecasts of the Federal Reserve Board Members and Federal Reserve Bank Presidents for the FOMC meeting in Jun. Inflation by the price index of personal consumption expenditures (PCE) was forecast for 2011 in the Apr meeting of the FOMC between 2.1 to 2.8 percent. Table 22A shows that the interval has narrowed to PCE headline inflation of between 2.3 and 2.5 percent. The FOMC focuses on core PCE inflation, which excludes food and energy. The Apr forecast of core PCE inflation was an interval between 1.3 and 1.6 percent. Table 22 shows the revision of this forecast in Jun to a higher interval between 1.5 and 1.8 percent. The Statement of the FOMC meeting on Jun 22 analyzes inflation as follows (http://www.federalreserve.gov/newsevents/press/monetary/20110622a.htm):

“Inflation has moved up recently, but the Committee anticipates that inflation will subside to levels at or below those consistent with the Committee's dual mandate as the effects of past energy and other commodity price increases dissipate. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations.

To promote the ongoing economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent. The Committee continues to anticipate that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate for an extended period.”

Table 22A, Forecasts of PCE Inflation and Core PCE Inflation by the FOMC, %

	PCE Inflation	Core PCE Inflation
2011	2.3 to 2.5	1.5 to 1.8
2012	1.5 to 2.0	1.4 to 2.0
2013	1.5 to 2.0	1.4 to 2.0
Longer Run	1.7 to 2.0

Source: http://www.federalreserve.gov/monetarypolicy/files/fomcprojtabl20110622.pdf

The 12-month rates of increase of PCE price indexes are shown in Table 23. These data are released at the end of the month while the CPI and PPI are released in mid month. Headline 12-month PCE inflation (PCE) has accelerated from slightly over 1 percent in the latter part of 2010 to 2.2 percent in Apr and 2.5 percent in May and in Jun. Monetary policy uses PCE inflation excluding food and energy (PCEX), at 1.3 percent in Jun, on the basis of research showing that current PCEX is a better indicator of headline PCE a year ahead than current headline PCE inflation. The explanation is that commodity price shocks are “mean reverting,” returning to their long-term means after spiking during shortages caused by climatic factors, geopolitical events and the like. Inflation of PCE goods (PCEG) has accelerated sharply reaching 4.5 percent in Jun, in spite of 12-month negative inflation of PCE durable goods (PCEG-D) while PCE services inflation (PCES) has remained around 1.6 percent. The last two columns of Table 23 show PCE food inflation (PCEF) and PCE energy inflation (PCEE) that have been rising sharply, especially for energy. Monetary policy expects these increases to revert with its indicator PCEX returning to levels that are acceptable for continuing monetary accommodation.

Table 23, Percentage Change in 12 Months of Prices of Personal Consumption Expenditures ∆%

	PCE	PCEG	PCEG -D	PCES	PCEX	PCEF	PCEE
2011
Jun	2.6	4.5	-0.5	1.6	1.3	3.9	20.8
May	2.6	4.4	-1.0	1.6	1.3	3.6	21.9
Apr	2.3	3.9	-1.4	1.6	1.2	3.3	19.8
Mar	2.0	3.0	-1.8	1.5	1.0	3.1	16.5
Feb	1.8	2.1	-1.8	1.6	1.1	2.4	11.9
Jan	1.5	1.2	-2.3	1.6	1.0	1.8	7.9
2010
Dec	1.4	1.0	-2.5	1.5	0.9	1.3	8.3
Nov	1.2	0.4	-2.4	1.5	1.0	1.3	4.1
Oct	1.3	0.6	-2.1	1.6	1.0	1.3	6.3
Sep	1.4	0.4	-1.7	1.9	1.2	1.3	4.1
Aug	1.5	0.4	-1.4	1.9	1.4	0.7	3.8

Notes: percentage changes in price index relative to the same month a year earlier of PCE: personal consumption expenditures; PCEG: PCE goods; PCEG-D: PCE durable goods; PCES: PCE services; PCEX: PCE excluding food and energy; PCEF: PCE food; PCEE: PCE energy goods and services

Source: http://www.bea.gov/newsreleases/national/pi/2011/pdf/pi0611.pdf

The role of devil’s advocate is played by data in Table 24. Headline PCE inflation (PCE) has jumped to 1.5 percent cumulative in the first six months of 2011, which is equivalent to 3.0 percent annual, with PCEG jumping to 3.0 percent cumulative and 7.4 percent annual equivalent, PCEG-D rising 0.9 percent cumulative or 1.9 percent annual, and PCES rising to 1.1 percent cumulative and 2.2 percent annual. PCEX, used in monetary policy, rose to 1.0 percent cumulative or 2.0 percent annual. PCEF has increased by 3.2 percent cumulative, which is equivalent in a full year to 6.6 percent. PCEE has risen to 5.9 percent cumulative or 12.3 percent annual equivalent with decline by 1.2 percent in May and decline by 4.5 percent in Jun.

Table 24, Monthly and Jan-Jun PCE Inflation and Annual Equivalent Jan-Jun 2011 and Sep-Dec 2010 ∆%

	PCE	PCEG	PCEG -D	PCES	PCEX	PCEF	PCEE
2011
Jan-Jun 2011	1.5	3.0	0.9	1.1	1.0	3.2	5.9
Jan-Jun 2011 AE	3.0	7.4	1.8	2.2	2.0	6.6	12.3
Jun	-0.2	-0.5	0.2	0.0	0.1	0.1	-4.5
May	0.2	0.0	0.1	0.3	0.2	0.3	-1.2
Apr	0.3	0.6	0.3	0.2	0.2	0.4	2.3
Mar	0.4	0.8	0.0	0.2	0.1	0.9	3.7
Feb	0.4	0.8	0.2	0.2	0.2	0.8	3.5
Jan	0.4	0.8	0.1	0.2	0.2	0.7	2.3
Sep-Dec 2010	0.7	1.2	-1.0	0.4	0.2	0.5	8.4
Sep-Dec 2010 AE	2.1	3.7	-2.9	1.2	0.6	1.5	7.4
Dec	0.3	0.6	-0.4	0.1	0.0	0.1	4.1
Nov	0.1	0.0	-0.2	0.1	0.1	0.0	0.1
Oct	0.2	0.4	-0.2	0.1	0.1	0.1	2.8
Sep	0.1	0.2	-0.2	0.1	0.0	0.3	1.2

Notes:AE: annual equivalent; percentage changes in a month relative to the same month for the same symbols as in Table.

Source: http://www.bea.gov/newsreleases/national/pi/2011/pdf/pi0611.pdf

An important argument advanced in favor of current monetary policy is that inflation is unlikely to pick up because the weak labor market and idle capacity in the economy would not permit increases in wages and salaries and non-labor inputs that can be passed on as increases in consumer prices. Table 25 provides the evidence available from the employment cost index (ECI) of the Bureau of Labor Statistics (BLS). Quarterly changes seasonally adjusted are provided for IVQ10 and IQ11 and 12 months changes not seasonally adjusted are provided for Mar 2011 and Jun 2011. There are three categories: private industry, state/local and civilian that is a combination of private and state/local. Increases in wages and salaries are 1.6 percent in 12 months for the civilian aggregate and 1.6 percent in the 12 months ending in Mar 2011 for the private sample and also 1.6 percent for the 12 months ending in Jun 2011. Benefits have been rising at higher 12 months and quarterly rates, around 3 percent, while health benefits rose at 5.0 percent in the 12 months ending in Dec 2010, 3.0 percent in the 12 months ending in Mar 2011 and 3.6 percent in the 12 months ending in Jun 2011 (http://www.bls.gov/ect/sp/echealth.pdf).

Table 25, Employment Cost Index Quarterly and 12 Months Changes %

	IQ11 SA	IIQ11 SA	12 months Mar 2011 NSA	12months Jun 2011 NSA
Civilian
Comp	0.6	0.7	2.0	2.2
Wages/ Salaries	0.4	0.4	1.6	1.6
Benefits	1.1	1.3	3.0	3.6
Private
Comp	0.5	0.8	2.0	2.3
Wages/ Salaries	0.4	0.5	1.6	1.7
Benefits	1.2	1.6	3.0	4.0
Health Benefits			3.4	3.6
State local Govt
Comp	0.5	0.4	1.8	1.7
Wages/ Salaries	0.4	0.4	1.2	1.2
Benefits	0.9	0.5	3.3	3.0

Notes: Civilian includes private industry plus state and local government; SA: seasonally adjusted; NSA: not seasonally adjusted; Comp: compensation; Govt: government

Source: http://www.bls.gov/news.release/pdf/eci.pdf

http://www.bls.gov/ect/sp/echealth.pdf

Twelve months rate of increase of the UK’s index of output prices are shown in Table 26. The percentage change of the index of all prices jumped from 4.2 percent in Dec 2010 to over 5 percent in the first seven months of 2011, rising by 5.9 percent in Jul. The percentage change in the total index excluding food, beverage and petroleum jumped from 2.7 percent in Dec 2010 to over 3 percent in the first seven months of 2011, with 3.3 percent in Jul. Inflation of the total index excluding duties jumped from 4.0 percent in Dec 2010 to 5 percent or higher in the first seven months of 2011, showing 6.0 percent in Jul.

Table 26, UK Output Prices 12 Months ∆% NSA

	All	Excluding Food, Beverage and Petroleum	All Excluding Duty
2011
Jul	5.9	3.3	6.0
Jun	5.7	3.2	5.8
May	5.4	3.4	5.5
Apr	5.6	3.6	5.8
Mar	5.6	3.1	5.5
Feb	5.3	3.1	5.2
Jan	5.0	3.3	5.0
Dec 2010	4.2	2.7	4.0

Source: http://www.statistics.gov.uk/pdfdir/ppi0811.pdf

http://www.statistics.gov.uk/pdfdir/ppi0711.pdf

http://www.statistics.gov.uk/pdfdir/ppi0611.pdf

UK’s input prices rose at the 12-month rate of increase of 18.5 percent in Jul and at 13.1 percent excluding food, tobacco, beverages and petroleum, as shown in Table 27. There has been an acceleration of input prices similar to that of output prices but the gap in rates of increase suggests a possible squeeze in profit margins. The highest rate of increase had occurred in Apr with 17.9 percent for the total index and 12.2 percent with the exclusions but rates for Jul were higher. The decline in commodity prices especially petroleum appears to have had effects on the rhythm of increase of input prices. The index with exclusion is showing that food and petroleum increases are causing acceleration of inflation of core input prices.

Table 27, UK Input Prices 12 Months ∆% NSA

	Materials and Fuels Purchased	Excluding Food, Tobacco, Beverages and Petroleum
2011
Jul	18.5	13.1
Jun	16.8	12.6
May	16.2	11.3
Apr	17.9	12.2
Mar	14.8	10.3
Feb	14.9	10.7
Jan	14.2	10.5
Dec 2010	13.1	9.0

Source: http://www.statistics.gov.uk/pdfdir/ppi0811.pdf

http://www.statistics.gov.uk/pdfdir/ppi0711.pdf

http://www.statistics.gov.uk/pdfdir/ppi0611.pdf

Table 28 provides the monthly rates of increase of UK output and input prices. The impact of the drop in oil prices is shown in an increase of output prices by only 0.2 percent in May and drop of input prices by 1.6 percent. This behavior is observed in other advanced economies such as the US. Moreover, price increases moderated in Jun with 0.1 percent for output prices and 0.4 percent for input prices and also in Jul with 0.2 percent for output prices and 0.6 percent for input prices. If future inflation rates were to oscillate in the same fashion as in the first seven months of 2011, yearly inflation would be 7.6 percent for output prices and 17.4 percent for input prices, as shown by the annual equivalent rates Jan-Jul in the first row of Table 28.

Table 28, UK Output and Input Prices ∆% NSA

	Output Prices	Input Prices
Annual Equivalent Jan-Jul	7.6	17.4
Jul	0.2	0.6
Jun	0.1	0.2
May	0.2	-1.6
Apr	1.1	2.8
Mar	1.1	3.8
Feb	0.5	1.4
Jan	1.1	2.3

Source: http://www.statistics.gov.uk/pdfdir/ppi0811.pdf

http://www.statistics.gov.uk/pdfdir/ppi0711.pdf

Euro zone industrial producer prices changed 0 percent in Jun and rose 5.9 percent in 12 months as shown in Table 29. The total excluding energy rose a high 4.2 percent in 12 months and 0.1 percent in Jun. Energy fell 0.3 percent in Jun but was 10.7 percent higher in 12 months. There were milder increases in prices of durable goods, 1.7 percent in 12 months and 0 percent in Jun, but prices of non-durable consumer goods rose 0.1 percent in Jun and 3.7 percent in 12 months.

Table 29, Euro Zone Industrial Producer Prices ∆%

	Jun	12 months Jun
Total excluding construction	0.0	5.9
Total excluding construction and energy	0.1	4.2
Intermediate goods	0.1	6.4
Energy	-0.3	10.7
Capital goods	0.2	1.4
Durable consumer goods	0.0	1.7
Non-durable consumer goods	0.1	3.7

Source: http://epp.eurostat.ec.europa.eu/cache/ITY_PUBLIC/4-02082011-AP/EN/4-02082011-AP-EN.PDF

Monthly rates of producer prices inflation in the euro zone are shown in Table 30. Headline inflation, excluding construction, fell 0.2 percent in May and was flat in Jun, after high rates of increase in the first four months of 2011. The annual equivalent rate is 7.4 percent. Total excluding construction and energy rose more moderately, falling to increases of only 0.2 percent in May and 0.1 percent in Jun. The annual equivalent rate is 5.3 percent.

Table 30, Euro zone Industrial Producer Prices ∆%

	Total Excluding Construction	Total Excluding Construction and Energy
Jun	0.0	0.1
May	-0.2	0.2
Apr	0.9	0.5
Mar	0.8	0.3
Feb	0.8	0.6
Jan	1.3	0.9
Jan-Jun Annual Equivalent ∆%	7.4	5.3

Source: http://epp.eurostat.ec.europa.eu/cache/ITY_PUBLIC/4-02082011-AP/EN/4-02082011-AP-EN.PDF

Germany has successfully restructured its economy toward competitiveness in international trade. Table 31 provides the 12 months rate of increase of imports of Germany in Jan to May of 2011. The high rates of increases in nominal values contain an important inflation component that is led by food, raw materials and semi finished products. The rates of growth of imports fell substantially in May with the decline of commodity prices.

Table 31, Germany, Imports 12 Months ∆%

	Total	Food	Ind	Raw Mat	Semi-Fin	Fin Prod
May	14.3	8.9	13.0	10.7	15.3	13.0
Apr	18.7	13.8	17.6	40.2	30.7	12.2
Mar	15.6	14.8	15.9	28.3	26.8	12.8
Feb	25.7	19.3	28.9	48.9	43.6	24.1
Jan	22.8	19.1	27.0	45.1	38.8	22.8
Dec 2010	26.4	9.7	25.7	30.5	47.4	22.4

Ind: Industry; Raw Mat: raw materials; Semi Fin: Semi-finished products; Fin Prod: finished products

Source: http://www.destatis.de/jetspeed/portal/cms/Sites/destatis/Internet/EN/Content/Statistics/TimeSeries/EconomicIndicators/ForeignTrade/Content100/ahl110a,templateId=renderPrint.psml

A similar pattern is found in Germany’s 12 months rates of increase of exports shown in Table 32. The high double-digit increases in nominal values include an inflation component. Export growth began to decelerate in Mar and Apr but picked up in May.

Table 32, Germany, Exports 12 Months ∆%

	Total	Food	Ind	Raw Mat	Semi-Fin	Fin Prod
May	19.0	8.4	18.7	34.9	16.1	18.7
Apr	12.4	15.2	11.1	43.2	7.3	11.0
Mar	14.7	13.6	15.2	64.4	30.5	13.7
Feb	20.0	17.5	21.5	62.2	28.6	20.5
Jan	23.2	18.5	25.5	71.4	44.9	23.7
Dec	21.0	13.0	20.4	49.9	46.5	18.6

Ind: Industry; Raw Mat: raw materials; Semi Fin: Semi-finished products; Fin Prod: finished products

Source: http://www.destatis.de/jetspeed/portal/cms/Sites/destatis/Internet/EN/Content/Statistics/TimeSeries/EconomicIndicators/ForeignTrade/Content100/ahl210a,templateId=renderPrint.psml

The terms of trade measure export prices relative to import prices. Deterioration of the terms of trade, with import prices rising faster than export prices, causes decline of real national income. Table 33 shows that the unit value of German imports has been rising much faster than the unit value of German exports with a mild reversal in May. The final column in Table 33 shows the 12 months rates of deterioration of Germany’s terms of trade at very high percentage rates with mild reversal in May. The advanced economies are experiencing deteriorations in their terms of trade resulting from the increase in commodity prices. Zero interest rates encourage carry trade in the form of shorting short-term debt and the dollar and going long in leveraged positions with derivatives on commodities and other risk financial assets. The resulting surge of commodity prices actually tends to worsen economic conditions in countries following unconventional monetary policy of zero interest rates that cause deterioration in the terms of trade.

Table 33, Germany, Unit Value of Imports and Exports and Terms of Trade 12 Months ∆%

	Imports Unit Value	Exports Unit Value	Terms of Trade
2011
May	4.6	4.7	0.1
Apr	8.7	4.5	-3.9
Mar	11.9	4.6	-6.6
Feb	7.9	4.5	-3.1
Jan	9.3	4.7	-4.3
2010
Dec	10.5	6.4	-3.8
Nov	11.6	5.4	-5.5
Oct	8.2	4.0	-3.8
Sep	7.6	3.9	-3.5
Aug	6.3	2.8	-3.3
Jul	5.6	2.4	-3.0

Source: http://www.destatis.de/jetspeed/portal/cms/Sites/destatis/Internet/EN/Content/Statistics/TimeSeries/EconomicIndicators/ForeignTrade/Content75/ahl310a,templateId=renderPrint.psml

The Markit Eurozone Composite PMI^®, which combines manufacturing and services for the euro area, fell from 53.3 in Jun to 51.1 in Jul, which is the lowest reading since Sep 2009 (http://www.markit.com/assets/en/docs/commentary/markit-economics/2011/aug/EZ_Composite_ENG_1108_PR.pdf). Table 34 shows the disappointing performance of retail sales in the euro zone, with decline of 1.3 percent in May and sales in May 2011 lower by 2.3 percent relative to May 2010. Sales rebounded in Jun with an increase of 0.9 percent, reducing the 12 month rate of decline to only 0.4 percent. The annual equivalent decline of sales in Jan-Jun is minus 0.1 percent.

Table 34, Retail Sales in Euro Zone ∆%

	Month ∆%	12 Months ∆%
Jun	0.9	-0.4
May	-1.3	-2.3
Apr	0.7	0.9
Mar	-0.8	-1.5
Feb	0.2	1.1
Jan	0.2	0.6
Jan-Jun ∆%	-0.1

Source: http://epp.eurostat.ec.europa.eu/cache/ITY_PUBLIC/4-03082011-AP/EN/4-03082011-AP-EN.PDF

The Markit Eurozone Composite PMI^®, which combines manufacturing and services for the euro area show the German index registering 52.5, which is the lowest in 21 months since Oct 2009 (http://www.markit.com/assets/en/docs/commentary/markit-economics/2011/aug/EZ_Composite_ENG_1108_PR.pdf). Industrial production in Germany fell 0.9 percent in Jun, rising only 0.9 percent in 12 months, as shown in Table 35.

Table 35, Germany, Industrial Production ∆%

	12 Months NSA	Month SA
Jun	0.9	-0.9
May	21.0	1.4
Apr	7.1	0.1
Mar	10.7	1.1
Feb	17.0	1.5
Jan	17.1	0.6
Annual Equivalent		7.8
Dec	17.5	0.1

Source: http://www.destatis.de/jetspeed/portal/cms/Sites/destatis/Internet/EN/Navigation/Statistics/TimeSeries/Indicators/ShortTermIndicators__nk.psml;jsessionid=B2D2E6CA9FB4B40EDD4471964401DCB6.internet2

Manufacturing in Germany fell 1.0 percent in Jun and rose only 0.9 percent in 12 months as shown in Table 36. Durable goods output fell 6.3 percent in Jun and fell 11.0 percent in 12 months. The only increases in Jun were in intermediate goods and energy.

Table 36, Germany Industrial Production ∆%

	Jun Month ∆% SA	12 Months ∆% NSA
Industry	-0.9	0.9
Manufacturing	-1.0	1.0
Intermediate Goods	0.3	1.0
Investment Goods	-2.0	2.5
Durable Goods	-6.3	-11.0
Nondurable Goods	-0.1	-1.9
Energy	0.7	-8.8

The JP Morgan Global Manufacturing PMI^TM finds global manufacturing moving toward stagnation (http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=8379). Growth of international trade volumes in Jul in the JP Morgan index did not change from Jun, which was the lowest in two years. Trade growth slowed in advanced economies with emerging economies showing moderate growth. Germany’s manufacturing orders in Table 37 confirm weakening international demand. Foreign manufacturing orders in Germany fell 6.0 percent in May relative to Apr while domestic or home manufacturing orders jumped by 10.7 percent. Foreign sales rebounded strongly by 13.7 percent in Jun, but are rising in 12 months at a lower rate of 6.8 percent. In contrast, home sales fell 1.8 months in Jun and fell by 10.8months in 12 months. Manufacturing orders are highly volatile because of the influence of large-value items in individual months. The second row of Table 37 “AE Jan-Jun” shows the annual equivalent rates for the first six months and also for the first four months, excluding May and Mar. Weakening world demand for goods and services could have adverse effects on growth of the world economy.

Table 37, Germany Manufacturing Orders ∆%

	Total 12 M	Total M	Foreign 12 M	Foreign M	Home 12 M	Home M
AE Jan-Jun		16.8 Exclud-ing Mar 28.6		22.2 Exclud-ing May and Mar 77.7		9.6 Exclud-ing Jun and Mar 74.9
Jun	3.0	1.8	6.8	13.7	-1.8	-10.8
May	22.5	1.5	15.7	-6.0	30.5	10.7
Apr	7.3	2.9	10.5	3.5	3.4	2.2
Mar	8.8	-2.7	11.6	-2.9	5.5	-2.6
Feb	21.1	1.9	24.8	1.7	16.9	2.1
Jan	20.1	2.5	23.6	1.2	16.0	4.3
Dec 2010	22.2	-3.0	27.3	-3.1	15.8	-2.9

AE: annual equivalent; M: month

Source: http://www.destatis.de/jetspeed/portal/cms/Sites/destatis/Internet/EN/Content/Statistics/TimeSeries/EconomicIndicators/KeyIndicators/OrdersRecieved/liste__aeverg,templateId=renderPrint.psml

Inflation and unemployment in the period 1966 to 1985 is analyzed by Cochrane (2011Jan, 23) by means of a Phillips circuit joining points of inflation and unemployment. Chart 1 for Brazil in Pelaez (1986, 94-5) was reprinted in The Economist in the issue of Jan 17-23, 1987 as updated by the author. Cochrane (2011Jan, 23) argues that the Phillips circuit shows the weakness in Phillips curve correlation. The explanation is by a shift in aggregate supply, rise in inflation expectations or loss of anchoring. The case of Brazil in Chart 1 cannot be explained without taking into account the increase in the fed funds rate that reached 22.36 percent on Jul 22, 1981 (http://www.federalreserve.gov/releases/h15/data.htm) in the Volcker Fed that precipitated the stress on a foreign debt bloated by financing balance of payments deficits with bank loans in the 1970s; the loans were used in projects, many of state-owned enterprises with low present value in long gestation. The combination of the insolvency of the country because of debt higher than its ability of repayment and the huge government deficit with declining revenue as the economy contracted caused adverse expectations on inflation and the economy. This interpretation is consistent with the case of the 24 emerging market economies analyzed by Reinhart and Rogoff (2010GTD, 4), concluding that “higher debt levels are associated with significantly higher levels of inflation in emerging markets. Median inflation more than doubles (from less than seven percent to 16 percent) as debt rises from the low (0 to 30 percent) range to above 90 percent. Fiscal dominance is a plausible interpretation of this pattern.”

The reading of the Phillips circuits of the 1970s by Cochrane (2011Jan, 25) is doubtful about the output gap and inflation expectations:

“So, inflation is caused by ‘tightness’ and deflation by ‘slack’ in the economy. This is not just a cause and forecasting variable, it is the cause, because given ‘slack’ we apparently do not have to worry about inflation from other sources, notwithstanding the weak correlation of [Phillips circuits]. These statements [by the Fed] do mention ‘stable inflation expectations. How does the Fed know expectations are ‘stable’ and would not come unglued once people look at deficit numbers? As I read Fed statements, almost all confidence in ‘stable’ or ‘anchored’ expectations comes from the fact that we have experienced a long period of low inflation (adaptive expectations). All these analyses ignore the stagflation experience in the 1970s, in which inflation was high even with ‘slack’ markets and little ‘demand, and ‘expectations’ moved quickly. They ignore the experience of hyperinflations and currency collapses, which happen in economies well below potential.”

Chart 1, Brazil, Phillips Circuit 1963-1987

©Carlos Manuel Pelaez, O cruzado e o austral. São Paulo: Editora Atlas, 1986, pages 94-5. Reprinted in: Brazil. Tomorrow’s Italy, The Economist, 17-23 January 1987, page 25.

DeLong (1997, 247-8) shows that the 1970s were the only peacetime period of inflation in the US without parallel in the prior century. The price level in the US drifted upward since 1896 with jumps resulting from the two world wars: “on this scale, the inflation of the 1970s was as large an increase in the price level relative to drift as either of this century’s major wars” (DeLong, 1997, 248). Monetary policy focused on accommodating higher inflation, with emphasis solely on the mandate of promoting employment, has been blamed as deliberate or because of model error or imperfect measurement for creating the Great Inflation (http://cmpassocregulationblog.blogspot.com/2011/05/slowing-growth-global-inflation-great.html http://cmpassocregulationblog.blogspot.com/2011/04/new-economics-of-rose-garden-turned.html http://cmpassocregulationblog.blogspot.com/2011/03/is-there-second-act-of-us-great.html). As DeLong (1997) shows, the Great Inflation began in the mid 1960s, well before the oil shocks of the 1970s (see also the comment to DeLong 1997 by Taylor 1997, 276-7). Table 38 provides the change in GDP, CPI and the rate of unemployment from 1960 to 1990. There are three waves of inflation (1) in the second half of the 1960s; (2) from 1973 to 1975; and (3) from 1978 to 1981. In one of his multiple important contributions to understanding the Great Inflation, Meltzer (2005) distinguishes between one-time price jumps, such as by oil shocks, and a “maintained” inflation rate. Meltzer (2005) uses a dummy variable to extract the one-time oil price changes, resulting in a maintained inflation rate that was never higher than 8 to 10 percent in the 1970s. There is revealing analysis of the Great Inflation and its reversal by Meltzer (2005, 2010a, 2010b).

Table 38, US Annual Rate of Growth of GDP and CPI and Unemployment Rate 1960-1982

	∆% GDP	∆% CPI	UNE
1960	2.5	1.4	6.6
1961	2.3	0.7	6.0
1962	6.1	1.3	5.5
1963	4.4	1.6	5.5
1964	5.8	1.0	5.0
1965	6.4	1.9	4.0
1966	6.5	3.5	3.8
1967	2.5	3.0	3.8
1968	4.8	4.7	3.4
1969	3.1	6.2	3.5
1970	0.2	5.6	6.1
1971	3.4	3.3	6.0
1972	5.3	3.4	5.2
1973	5.8	8.7	4.9
1974	-0.6	12.3	7.2
1975	-0.2	6.9	8.2
1976	5.4	4.9	7.8
1977	4.6	6.7	6.4
1978	5.6	9.0	6.0
1979	3.1	13.3	6.0
1980	-0.3	12.5	7.2
1981	2.5	8.9	8.5
1982	-1.9	3.8	10.8
1983	4.5	3.8	8.3
1984	7.2	3.9	7.3
1985	4.1	3.8	7.0
1986	3.5	1.1	6.6
1987	3.2	4.4	5.7
1988	4.1	4.4	5,3
1989	3.6	4.6	5.4
1990	1.9	6.1	6.3

Note: GDP: Gross Domestic Product; CPI: consumer price index; UNE: rate of unemployment; CPI and UNE are at year end instead of average to obtain a complete series

Source: ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

http://www.bea.gov/national/nipaweb/TableView.asp?SelectedTable=2&ViewSeries=NO&Java=no&Request3Place=N&3Place=N&FromView=YES&Freq=Year&FirstYear=2009&LastYear=2010&3Place=N&Update=Update&JavaBox=no

http://www.bls.gov/web/empsit/cpseea01.htm

http://data.bls.gov/pdq/SurveyOutputServlet

There is a false impression of the existence of a monetary policy “science,” measurements and forecasting with which to steer the economy into “prosperity without inflation.” Market participants are remembering the Great Bond Crash of 1994 shown in Table 39 when monetary policy pursued nonexistent inflation, causing trillions of dollars of losses in fixed income worldwide while increasing the fed funds rate from 3 percent in Jan 1994 to 6 percent in Dec. The exercise in Table 39 shows a drop of the price of the 30-year bond by 18.1 percent and of the 10-year bond by 14.1 percent. CPI inflation remained almost the same and there is no valid counterfactual that inflation would have been higher without monetary policy tightening because of the long lag in effect of monetary policy on inflation (see Culbertson 1960, 1961, Friedman 1961, Batini and Nelson 2002, Romer and Romer 2004). The pursuit of nonexistent deflation during the past ten years has resulted in the largest monetary policy accommodation in history that created the 2007 financial market crash and global recession and is currently preventing smoother recovery while creating another financial crash in the future. The issue is not whether there should be a central bank and monetary policy but rather whether policy accommodation in doses from zero interest rates to trillions of dollars in the fed balance sheet endangers economic stability.

Table 39, Fed Funds Rates, Thirty and Ten Year Treasury Yields and Prices, 30-Year Mortgage Rates and 12-month CPI Inflation 1994

1994	FF	30Y	30P	10Y	10P	MOR	CPI
Jan	3.00	6.29	100	5.75	100	7.06	2.52
Feb	3.25	6.49	97.37	5.97	98.36	7.15	2.51
Mar	3.50	6.91	92.19	6.48	94.69	7.68	2.51
Apr	3.75	7.27	88.10	6.97	91.32	8.32	2.36
May	4.25	7.41	86.59	7.18	88.93	8.60	2.29
Jun	4.25	7.40	86.69	7.10	90.45	8.40	2.49
Jul	4.25	7.58	84.81	7.30	89.14	8.61	2.77
Aug	4.75	7.49	85.74	7.24	89.53	8.51	2.69
Sep	4.75	7.71	83.49	7.46	88.10	8.64	2.96
Oct	4.75	7.94	81.23	7.74	86.33	8.93	2.61
Nov	5.50	8.08	79.90	7.96	84.96	9.17	2.67
Dec	6.00	7.87	81.91	7.81	85.89	9.20	2.67

Notes: FF: fed funds rate; 30Y: yield of 30-year Treasury; 30P: price of 30-year Treasury assuming coupon equal to 6.29 percent and maturity in exactly 30 years; 10Y: yield of 10-year Treasury; 10P: price of 10-year Treasury assuming coupon equal to 5.75 percent and maturity in exactly 10 years; MOR: 30-year mortgage; CPI: percent change of CPI in 12 months

Sources: yields and mortgage rates http://www.federalreserve.gov/releases/h15/data.htm CPI ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.t

Table 40, updated with every blog comment, provides in the second column the yield at the close of market of the 10-year Treasury note on the date in the first column. The price in the third column is calculated with the coupon of 2.625 percent of the 10-year note current at the time of the second round of quantitative easing after Nov 3, 2010 and the final column “∆% 11/04/10” calculates the percentage change of the price on the date relative to that of 101.2573 at the close of market on Nov 4, 2010, one day after the decision on quantitative easing by the Fed on Nov 3, 2010. Prices with new coupons such as 3.63 percent in recent auctions (http://www.treasurydirect.gov/instit/annceresult/press/preanre/2011/2011.htm) are not comparable to prices in Table 40. The highest yield in the decade was 5.510 percent on May 1, 2001 that would result in a loss of principal of 22.9 percent relative to the price on Nov 4. The Fed has created a “duration trap” of bond prices. Duration is the percentage change in bond price resulting from a percentage change in yield or what economists call the yield elasticity of bond price. Duration is higher the lower the bond coupon and yield, all other things constant. This means that the price loss in a yield rise from low coupons and yields is much higher than with high coupons and yields. Intuitively, the higher coupon payments offset part of the price loss. Prices/yields of Treasury securities were affected by the combination of Fed purchases for its program of quantitative easing and also by the flight to dollar-denominated assets because of geopolitical risks in the Middle East, subsequently by the tragic earthquake and tsunami in Japan and now again by the sovereign risk doubts in Europe and the growth recession in the US. The yield of 2.566 percent at the close of market on Fr Aug 5, 2011, would be equivalent to price of 100.5175 in a hypothetical bond maturing in 10 years with coupon of 2.625 percent for price loss of 0.7 percent relative to the price on Nov 4, 2010, one day after the decision on the second program of quantitative easing. If inflation accelerates, yields of Treasury securities may rise sharply. Yields are not observed without special yield-lowering effects such as the flight into dollars caused by the events in the Middle East, continuing purchases of Treasury securities by the Fed, the tragic earthquake and tsunami affecting Japan and recurring fears on European sovereign credit issues. The realization of a growth recession is also influencing yields. Important causes of the rise in yields shown in Table 40 are expectations of rising inflation and US government debt estimated to exceed 70 percent of GDP in 2012 (http://cmpassocregulationblog.blogspot.com/2011/02/policy-inflation-growth-unemployment.html http://cmpassocregulationblog.blogspot.com/2011/04/budget-quagmire-fed-commodities_10.html), rising from 40.8 percent of GDP in 2008, 53.5 percent in 2009 (Table 2 in http://cmpassocregulationblog.blogspot.com/2011/04/budget-quagmire-fed-commodities_10.html) and 69 percent in 2011. On Aug 3, 2011, the line “Reserve Bank credit” in the Fed balance sheet stood at $2851 billion, or $2.8 trillion, with portfolio of long-term securities of $2623 billion, or $2.6 trillion, consisting of $1548 billion Treasury nominal notes and bonds, $66 billion of notes and bonds inflation-indexed, $112 billion Federal agency debt securities and $897 billion mortgage-backed securities; reserve balances deposited with Federal Reserve Banks reached $1645 billion or $1.6 trillion (http://www.federalreserve.gov/releases/h41/current/h41.htm#h41tab1). There is no simple exit of this trap created by the highest monetary policy accommodation in US history together with the highest deficits and debt in percent of GDP since World War II. Risk aversion from various sources, discussed in section I, has been affecting financial markets for several weeks. The risk is that in a reversal of risk aversion that has been typical in this cyclical expansion of the economy yields of Treasury securities may back up sharply.

Table 40, Yield, Price and Percentage Change to November 4, 2010 of Ten-Year Treasury Note

Date	Yield	Price	∆% 11/04/10
05/01/01	5.510	78.0582	-22.9
06/10/03	3.112	95.8452	-5.3
06/12/07	5.297	79.4747	-21.5
12/19/08	2.213	104.4981	3.2
12/31/08	2.240	103.4295	2.1
03/19/09	2.605	100.1748	-1.1
06/09/09	3.862	89.8257	-11.3
10/07/09	3.182	95.2643	-5.9
11/27/09	3.197	95.1403	-6.0
12/31/09	3.835	90.0347	-11.1
02/09/10	3.646	91.5239	-9.6
03/04/10	3.605	91.8384	-9.3
04/05/10	3.986	88.8726	-12.2
08/31/10	2.473	101.3338	0.08
10/07/10	2.385	102.1224	0.8
10/28/10	2.658	99.7119	-1.5
11/04/10	2.481	101.2573	-
11/15/10	2.964	97.0867	-4.1
11/26/10	2.869	97.8932	-3.3
12/03/10	3.007	96.7241	-4.5
12/10/10	3.324	94.0982	-7.1
12/15/10	3.517	92.5427	-8.6
12/17/10	3.338	93.9842	-7.2
12/23/10	3.397	93.5051	-7.7
12/31/10	3.228	94.3923	-6.7
01/07/11	3.322	94.1146	-7.1
01/14/11	3.323	94.1064	-7.1
01/21/11	3.414	93.4687	-7.7
01/28/11	3.323	94.1064	-7.1
02/04/11	3.640	91.750	-9.4
02/11/11	3.643	91.5319	-9.6
02/18/11	3.582	92.0157	-9.1
02/25/11	3.414	93.3676	-7.8
03/04/11	3.494	92.7235	-8.4
03/11/11	3.401	93.4727	-7.7
03/18/11	3.273	94.5115	-6.7
03/25/11	3.435	93.1935	-7.9
04/01/11	3.445	93.1129	-8.0
04/08/11	3.576	92.0635	-9.1
04/15/11	3.411	93.3874	-7.8
04/22/11	3.402	93.4646	-7.7
04/29/11	3.290	94.3759	-6.8
05/06/11	3.147	95.5542	-5.6
05/13/11	3.173	95.3387	-5.8
05/20/11	3.146	95.5625	-5.6
05/27/11	3.068	96.2089	-4.9
06/03/11	2.990	96.8672	-4.3
06/10/11	2.973	97.0106	-4.2
06/17/11	2.937	97.3134	-3.9
06/24/11	2.872	97.8662	-3.3
07/01/11	3.186	95.2281	-5.9
07/08/11	3.022	96.5957	-4.6
07/15/11	2.905	97.5851	-3.6
07/22/11	2.964	97.0847	-4.1
07/29/11	2.795	98.5258	-2.7
08/05/11	2.566	100.5175	-0.7

Note: price is calculated for an artificial 10-year note paying semi-annual coupon and maturing in ten years using the actual yields traded on the dates and the coupon of 2.625% on 11/04/10

Source:

http://online.wsj.com/mdc/public/page/mdc_bonds.html?mod=mdc_topnav_2_3020

VI Valuation of Risk Financial Assets. The financial crisis and global recession were caused by interest rate and housing subsidies and affordability policies that encouraged high leverage and risks, low liquidity and unsound credit (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 157-66, Regulation of Banks and Finance (2009b), 217-27, International Financial Architecture (2005), 15-18, The Global Recession Risk (2007), 221-5, Globalization and the State Vol. II (2008b), 197-213, Government Intervention in Globalization (2008c), 182-4). Several past comments of this blog elaborate on these arguments, among which: http://cmpassocregulationblog.blogspot.com/2011/07/causes-of-2007-creditdollar-crisis.html http://cmpassocregulationblog.blogspot.com/2011/07/causes-of-2007-creditdollar-crisis.html http://cmpassocregulationblog.blogspot.com/2011/01/professor-mckinnons-bubble-economy.html http://cmpassocregulationblog.blogspot.com/2011/01/world-inflation-quantitative-easing.html http://cmpassocregulationblog.blogspot.com/2011/01/treasury-yields-valuation-of-risk.html http://cmpassocregulationblog.blogspot.com/2010/11/quantitative-easing-theory-evidence-and.html http://cmpassocregulationblog.blogspot.com/2010/12/is-fed-printing-money-what-are.html

Table 41 shows the phenomenal impulse to valuations of risk financial assets originating in the initial shock of near zero interest rates in 2003-2004 with the fed funds rate at 1 percent, in fear of deflation that never materialized, and quantitative easing in the form of suspension of the auction of 30-year Treasury bonds to lower mortgage rates. World financial markets were dominated by monetary and housing policies in the US. Between 2002 and 2008, the DJ UBS Commodity Index rose 165.5 percent largely because of the unconventional monetary policy encouraging carry trade from low US interest rates to long leveraged positions in commodities, exchange rates and other risk financial assets. The charts of risk financial assets show sharp increase in valuations leading to the financial crisis and then profound drops that are captured in Table 40 by percentage changes of peaks and troughs. The first round of quantitative easing and near zero interest rates depreciated the dollar relative to the euro by 39.3 percent between 2003 and 2008, with revaluation of the dollar by 25.1 percent from 2008 to 2010 in the flight to dollar-denominated assets in fear of world financial risks and then devaluation of the dollar by 19.8 percent by Fri Aug 5, 2011. Dollar devaluation is a major vehicle of monetary policy in reducing the output gap that is implemented in the probably erroneous belief that devaluation will not accelerate inflation. The last row of Table 40 shows CPI inflation in the US rising from 1.9 percent in 2003 to 4.1 percent in 2007 even as monetary policy increased the fed funds rate from 1 percent in Jun 2004 to 5.25 percent in Jun 2006.

Table 41, Volatility of Assets

DJIA	10/08/02-10/01/07	10/01/07-3/4/09	3/4/09- 4/6/10
∆%	87.8	-51.2	60.3
NYSE Financial	1/15/04- 6/13/07	6/13/07- 3/4/09	3/4/09- 4/16/07
∆%	42.3	-75.9	121.1
Shanghai Composite	6/10/05- 10/15/07	10/15/07- 10/30/08	10/30/08- 7/30/09
∆%	444.2	-70.8	85.3
STOXX EUROPE 50	3/10/03- 7/25/07	7/25/07- 3/9/09	3/9/09- 4/21/10
∆%	93.5	-57.9	64.3
UBS Com.	1/23/02- 7/1/08	7/1/08- 2/23/09	2/23/09- 1/6/10
∆%	165.5	-56.4	41.4
10-Year Treasury	6/10/03	6/12/07	12/31/08	4/5/10
%	3.112	5.297	2.247	3.986
USD/EUR	6/26/03	7/14/08	6/07/10	08/05 /2011
Rate	1.1423	1.5914	1.192	1.428
CNY/USD	01/03 2000	07/21 2005	7/15 2008	08/05 2011
Rate	8.2798	8.2765	6.8211	6.4407
New House	1963	1977	2005	2009
Sales 1000s	560	819	1283	375
New House	2000	2007	2009	2010
Median Price $1000	169	247	217	203
	2003	2005	2007	2010
CPI	1.9	3.4	4.1	1.5

Sources: http://online.wsj.com/mdc/page/marketsdata.html

http://www.census.gov/const/www/newressalesindex_excel.html

http://federalreserve.gov/releases/h10/Hist/dat00_eu.htm

ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

http://federalreserve.gov/releases/h10/Hist/dat00_ch.htm

Table 41A extracts four rows of Table 41 with the Dollar/Euro (USD/EUR) exchange rate and Chinese Yuan/Dollar (CNY/USD) exchange rate that reveal pursuit of exchange rate policies resulting from monetary policy in the US and capital control/exchange rate policy in China. The ultimate intentions are the same: promoting internal economic activity at the expense of the rest of the world. The easy money policy of the US was deliberately or not but effectively to devalue the dollar from USD 1.1423/EUR on Jun 26, 2003 to USD 1.5914/EUR on Jul 14, 2008, or by 39.3 percent. The flight into dollar assets after the global recession caused revaluation to USD 1.192/EUR on Jun 7, 2010, or by 25.1 percent. After the temporary interruption of the sovereign risk issues in Europe from Apr to Jul, 2010, shown in Table 43 below, the dollar has devalued again to USD 1.428/EUR or by 19.8 percent. Yellen (2011AS, 6) admits that Fed monetary policy results in dollar devaluation with the objective of increasing net exports, which was the policy that Joan Robinson (1947) labeled as “beggar-my-neighbor” remedies for unemployment. China fixed the CNY to the dollar for a long period at a highly undervalued level of around CNY 8.2765/USD until it revalued to CNY 6.8211/USD until Jun 7, 2010, or by 17.6 percent and after fixing it again to the dollar, revalued to CNY 6.4407/USD on Fri Aug 5, 2011, or by an additional 5.6 percent, for cumulative revaluation of 22.2 percent.

Table 41A, Dollar/Euro (USD/EUR) Exchange Rate and Chinese Yuan/Dollar (CNY/USD) Exchange Rate

USD/EUR	6/26/03	7/14/08	6/07/10	08/05 /2011
Rate	1.1423	1.5914	1.192	1.428
CNY/USD	01/03 2000	07/21 2005	7/15 2008	08/05 2011
Rate	8.2798	8.2765	6.8211	6.4407

Source: Table 41.

Dollar devaluation did not eliminate the US current account deficit, which is projected by the International Monetary Fund (IMF) at 3.2 percent of GDP in 2011 and also in 2012, as shown in Table 42. Revaluation of the CNY has not reduced the current account surplus of China, which is projected by the IMF to increase from 5.7 percent of GDP in 2011 to 6.3 percent of GDP in 2012.

Table 42, Fiscal Deficit, Current Account Deficit and Government Debt as % of GDP and 2011 Dollar GDP

	GDP $B	FD %GDP 2011	CAD %GDP 2011	Debt %GDP 2011	FD%GDP 2012	CAD%GDP 2012	Debt %GDP 2012
US	15227	-10.6	-3.2	64.8	-10.8	-3.2	72.4
Japan	5821	-9.9	2.3	127.8	-8.4	2.3	135.1
UK	2471	-8.6	-2.4	75.1	-6.9	-1.9	78.6
Euro	12939	-4.4	0.03	66.9	-3.6	0.05	68.2
Ger	3519	-2.3	5.1	54.7	-1.5	4.6	54.7
France	2751	-6.0	-2.8	77.9	-5.0	-2.7	79.9
Italy	2181	-4.3	-3.4	100.6	-3.5	-2.9	100.4
Can	1737	-4.6	-2.8	35.1	-2.8	-2.6	36.3
China	6516	-1.6	5.7	17.1	-0.9	6.3	16.3
Brazil	2090	-2.4	-2.6	39.9	-2.6	-2.9	39.4

Note: GER = Germany; Can = Canada; FD = fiscal deficit; CAD = current account deficit

Source: http://www.imf.org/external/pubs/ft/weo/2011/01/weodata/index.aspx

There is a new carry trade that learned from the losses after the crisis of 2007 or learned from the crisis how to avoid losses. The sharp rise in valuations of risk financial assets shown in Table 41 above after the first policy round of near zero fed funds and quantitative easing by the equivalent of withdrawing supply with the suspension of the 30-year Treasury auction was on a smooth trend with relatively subdued fluctuations. The credit crisis and global recession have been followed by significant fluctuations originating in sovereign risk issues in Europe, doubts of continuing high growth and accelerating inflation in China, events such as in the Middle East and Japan and legislative restructuring, regulation, insufficient growth, falling real wages, depressed hiring and high job stress of unemployment and underemployment in the US now with realization of slow growth recession. The “trend is your friend” motto of traders has been replaced with a “hit and realize profit” approach of managing positions to realize profits without sitting on positions. There is a trend of valuation of risk financial assets driven by the carry trade from zero interest rates with fluctuations provoked by events of risk aversion. Table 43, which is updated for every comment of this blog, shows the deep contraction of valuations of risk financial assets after the Apr 2010 sovereign risk issues in the fourth column “∆% to Trough” and the sharp recovery after around Jul 2010 in the last column “∆% Trough to 08/05/11,” which is now stalling or reversing amidst profound risk aversion. Recovering risk financial assets are in the range from 5.4 percent for the Nikkei Average of Japan and 25.9 percent for the DJ UBS Commodity Index. The European stocks index STOXX 50 is now 0.7 percent below the trough on Jul 2, 2010 and the NYSE Financial Index is only 1.6 above the trough on Jul 2, 2010. Japan has improved performance rising 5.4 percent above the trough on Aug 31, 2010 but is 18.4 percent below the peak on Apr 5, 2010. The Nikkei Average closed at 9299.88 on Fri Jul 5, which is 9.3 percent below 10,254.43 on Mar 11 on the date of the earthquake and 1.0% percent above the lowest Fri closing on Mar 18 of 9206.75. Global risk aversion erased the earlier gains of the Nikkei. The dollar depreciated by 19.8 percent and even higher before the new bout of sovereign risk issues in Europe. The column “∆% week to 08/05/2011” shows negative performance of all financial assets with DAX losing 12.9 percent and STOXX 50 dropping 9.2 percent. The Dow Global lost 8.7 percent with losses in all stock indexes in Table 43. The Nikkei Average dropped 5.4 percent. The DJIA fell 5.8 percent, S&P lost 7.2 percent and NYSE Financial fell 8.8 percent. There are still high uncertainties on European sovereign risks, US debt/growth recession and China’s growth and inflation tradeoff. The DJ UBS Commodity Index fell 4.1 percent in the week. Sovereign problems in the “periphery” of Europe and fears of slower growth in Asia and the US cause risk aversion with caution instead of more aggressive risk exposures. There is a fundamental change in Table 43 from the relatively upward trend with oscillations since the sovereign risk event of Apr-Jul 2010. Performance is best assessed in the column “∆% Peak to 8/05/11” that provides the percentage from the peak in Apr 2010 before the sovereign risk event to Jul 29. Most financial risk assets had gained not only relative to the trough as shown in column “∆% Trough to 8/05/11” but also relative to the peak in column “∆% Peak to 8/05/11.” Only two indexes are now above the peak, DJIA by 2.1 percent and DJ UBS Commodity Index by 7.7 percent. There are several indexes well below the peak: NYSE Financial Index (http://www.nyse.com/about/listed/nykid.shtml) by 19.0 percent, Nikkei Average by 18.4 percent, Shanghai Composite by 17.0 percent and STOXX 50 by 15.9 percent. The factors of risk aversion have adversely affected the performance of financial risk assets. The performance relative to the peak in Apr is more important than the performance relative to the trough around early Jul because improvement could signal that conditions have returned to normal levels before European sovereign doubts in Apr 2010.

Table 43, Stock Indexes, Commodities, Dollar and 10-Year Treasury

	Peak	Trough	∆% to Trough	∆% Peak to 8/ 05/11	∆% Week 8/ 05/11	∆% Trough to 8/ 05/11
DJIA	4/26/ 10	7/2/10	-13.6	2.1	-5.8	18.2
S&P 500	4/23/ 10	7/20/ 10	-16.0	-1.5	-7.2	17.3
NYSE Finance	4/15/ 10	7/2/10	-20.3	-19.0	-8.8	1.6
Dow Global	4/15/ 10	7/2/10	-18.4	-8.7	-8.7	11.9
Asia Pacific	4/15/ 10	7/2/10	-12.5	-0.6	-7.7	13.5
Japan Nikkei Aver.	4/05/ 10	8/31/ 10	-22.5	-18.4	-5.4	5.4
China Shang.	4/15/ 10	7/02 /10	-24.7	-17.0	-2.8	10.2
STOXX 50	4/15/10	7/2/10	-15.3	-15.9	-9.2	-0.7
DAX	4/26/ 10	5/25/ 10	-10.5	-1.5	-12.9	9.9
Dollar Euro	11/25 2009	6/7 2010	21.2	5.6	0.8	-19.8
DJ UBS Comm.	1/6/ 10	7/2/10	-14.5	7.7	-4.1	25.9
10-Year Tre.	4/5/ 10	4/6/10	3.986	2.566

T: trough; Dollar: positive sign appreciation relative to euro (less dollars paid per euro), negative sign depreciation relative to euro (more dollars paid per euro)

Source: http://online.wsj.com/mdc/page/marketsdata.html .

Bernanke (2010WP) and Yellen (2011AS) reveal the emphasis of monetary policy on the impact of the rise of stock market valuations in stimulating consumption by wealth effects on household confidence. Table 44 shows a gain by Apr 29, 2011 in the DJIA of 14.3 percent and of the S&P 500 of 12.5 percent since Apr 26, 2010, around the time when sovereign risk issues in Europe began to be acknowledged in financial risk asset valuations. There were still fluctuations. Reversals of valuations are possible during aggressive changes in interest rate policy and other market events. The stock market of the US then entered a period of six consecutive weekly declines interrupted by a week of advance and then another decline in the week of Jun 24. In the week of May 6, return of risk aversion, resulted in moderation of the valuation of the DJIA to 12.8 percent and that of the S&P 500 to 10.6 percent. There was further loss of dynamism in the week of May 13 with the DJIA reducing its gain to 12.4 percent and the S&P 500 to 10.4 percent. Further declines lowered the gain to 11.7 percent in the DJIA and to 10.0 in the S&P 500 by Fri May 20. By Fri May 27 the gains were further reduced to 11.0 percent for the DJIA and 9.8 percent for the S&P 500. In the fifth consecutive week of declines in the week of Fri June 3, the DJIA fell 2.3 percent, reducing the cumulative gain to 8.4 percent, and the S&P 500 also lost 2.3 percent, resulting in cumulative gain of 7.3 percent. The DJIA lost another 1.6 percent and the S&P 500 also 2.2 percent in the week of Jun 10, reducing the cumulative gain to 6.7 percent for the DJIA and of 4.9 percent for the S&P 500. The DJIA gained 0.4 percent in the week of Jun 17, to break the round of six consecutive weekly declines, rising 7.1 percent relative to Apr 26, 2010, while the S&P moved sideways by 0.04 percent, with gain of 4.9 percent relative to Apr 26, 2010. In the week of Jun 24, the DJIA lost 0.6 percent and the S&P lost 0.2 percent. The DJIA had lost 6.8 percent between Apr 29 and Jun 10, 2011, and the S&P 500 lost 6.9 percent. The losses were almost gained back in the week of Jul 1 with the DJIA gaining 12.3 percent and the S&P 500 10.5 percent. There were gains of 0.6 percent for the DJIA and 0.3 percent in the week of Jul 8 even with turmoil around sovereign risk issues in Europe and an abnormally weak employment situation report released on Fri Jul 8. The DJIA closed on Fri Jul 8 only 1.2 percent lower than the closing on Fri Apr 29 and the S&P 500 closed only 1.5 percent below the level of Apr 29. Continuing risk aversion as a result of sovereign risk uncertainty in Europe influenced the loss of 1.4 percent by the DJIA in the week of Jul 15, reducing the cumulative gain to 11.4 percent and much sharper loss by the S&P 500 of 2.1 percent with reduction of the cumulative gain by 8.6 percent. Improved risk moods as a result of the program for Greece raised the valuation of the DJIA to 13.2 percent on Jul 22 and that of the S&P 500 to 10.9 percent. The realization of the growth recession in the week of Jul 29 together with some effects of the “game of chicken” with the debt ceiling caused another drop of the DJIA and the S&P 500 by 4.2 percent and 3.9 percent, respectively. The cumulative gain fell to 8.4 percent for the DJIA and to 6.6 percent for the S&P 500. The DJIA fell 5.8 percent in the week of Aug 5 and is now only 2.1 percent above the value on Apr 26, 2010 but the loss of 7.2 percent in the week by the S&P 500 resulted in a decline of 1.0 percent relative to Apr 26.

Table 44, Percentage Changes of DJIA and S&P 500 in Selected Dates

2010	∆% DJIA from earlier date	∆% DJIA from Apr 26	∆% S&P 500 from earlier date	∆% S&P 500 from Apr 26
Apr 26
May 6	-6.1	-6.1	-6.9	-6.9
May 26	-5.2	-10.9	-5.4	-11.9
Jun 8	-1.2	-11.3	2.1	-12.4
Jul 2	-2.6	-13.6	-3.8	-15.7
Aug 9	10.5	-4.3	10.3	-7.0
Aug 31	-6.4	-10.6	-6.9	-13.4
Nov 5	14.2	2.1	16.8	1.0
Nov 30	-3.8	-3.8	-3.7	-2.6
Dec 17	4.4	2.5	5.3	2.6
Dec 23	0.7	3.3	1.0	3.7
Dec 31	0.03	3.3	0.07	3.8
Jan 7	0.8	4.2	1.1	4.9
Jan 14	0.9	5.2	1.7	6.7
Jan 21	0.7	5.9	-0.8	5.9
Jan 28	-0.4	5.5	-0.5	5.3
Feb 4	2.3	7.9	2.7	8.1
Feb 11	1.5	9.5	1.4	9.7
Feb 18	0.9	10.6	1.0	10.8
Feb 25	-2.1	8.3	-1.7	8.9
Mar 4	0.3	8.6	0.1	9.0
Mar 11	-1.0	7.5	-1.3	7.6
Mar 18	-1.5	5.8	-1.9	5.5
Mar 25	3.1	9.1	2.7	8.4
Apr 1	1.3	10.5	1.4	9.9
Apr 8	0.03	10.5	-0.3	9.6
Apr 15	-0.3	10.1	-0.6	8.9
Apr 22	1.3	11.6	1.3	10.3
Apr 29	2.4	14.3	1.9	12.5
May 6	-1.3	12.8	-1.7	10.6
May 13	-0.3	12.4	-0.2	10.4
May 20	-0.7	11.7	-0.3	10.0
May 27	-0.6	11.0	-0.2	9.8
Jun 3	-2.3	8.4	-2.3	7.3
Jun 10	-1.6	6.7	-2.2	4.9
Jun 17	0.4	7.1	0.04	4.9
Jun 24	-0.6	6.5	-0.2	4.6
Jul 1	5.4	12.3	5.6	10.5
Jul 8	0.6	12.9	0.3	10.9
Jul 15	-1.4	11.4	-2.1	8.6
Jul 22	1.6	13.2	2.2	10.9
Jul 29	-4.2	8.4	-3.9	6.6
Aug 05	-5.8	2.1	-7.2	-1.0

Source: http://online.wsj.com/mdc/public/page/mdc_us_stocks.html?mod=mdc_topnav_2_3004

Table 45, updated with every post, shows that exchange rate valuations affect a large variety of countries, in fact, almost the entire world, in magnitudes that cause major problems for domestic monetary policy and trade flows. Joe Leahy writing on Jul 1 from São Paulo on “Brazil fears economic fallout as real soars” published in the Financial Times (http://www.ft.com/intl/cms/s/0/8430cd36-a40c-11e0-8b4f-00144feabdc0.html#axzz1Qt9Zxqcy) informs that the Brazilian real traded at the strongest level relative to the dollar since floating in 1999 with the strong currency eroding the country’s competitiveness in industrial products. Dollar devaluation is expected to continue because of zero fed funds rate, expectations of rising inflation and the large budget deficit of the federal government (http://professional.wsj.com/article/SB10001424052748703907004576279321350926848.html?mod=WSJ_hp_LEFTWhatsNewsCollection) but with interruptions caused by risk aversion events.

Table 45, Exchange Rates

	Peak	Trough	∆% P/T	Aug 5, 2011	∆T Aug 5 2011	∆P Aug 5 2011
EUR USD	7/15 2008	6/7 2010		8/05 2011
Rate	1.59	1.192		1.428
∆%			-33.4		16.5	-11.4
JPY USD	8/18 2008	9/15 2010		8/05 2011
Rate	110.19	83.07		78.39
∆%			24.6		5.6	28.9
CHF USD	11/21 2008	12/8 2009		8/05 2011
Rate	1.225	1.025		0.763
∆%			16.3		25.6	37.7
USD GBP	7/15 2008	1/2/ 2009		8/05 2011
Rate	2.006	1.388		1.639
∆%			-44.5		15.3	-22.4
USD AUD	7/15 2008	10/27 2008		8/05 2011
Rate	1.0215	1.6639		1.045
∆%			-62.9		42.5	6.3
ZAR USD	10/22 2008	8/15 2010		8/05 2011
Rate	11.578	7.238		6.889
∆%			37.5		4.8	40.5
SGD USD	3/3 2009	8/9 2010		8/05 2011
Rate	1.553	1.348		1.216
∆%			13.2		9.8	21.7
HKD USD	8/15 2008	12/14 2009		8/05 2011
Rate	7.813	7.752		7.805
∆%			0.8		-0.6	0.1
BRL USD	12/5 2008	4/30 2010		8/05 2011
Rate	2.43	1.737		1.587
∆%			28.5		8.6	34.7
CZK USD	2/13 2009	8/6 2010		8/05 2011
Rate	22.19	18.693		16.883
∆%			15.7		9.7	23.9
SEK USD	3/4 2009	8/9 2010		8/05 2011
Rate	9.313	7.108		6.47
∆%			23.7		8.9	30.5
CNY USD	7/20 2005	7/15 2008		8/5 2011
Rate	8.2765	6.8211		6.4407
∆%			17.6		5.6	22.2

Symbols: USD: US dollar; EUR: euro; JPY: Japanese yen; CHF: Swiss franc; GBP: UK pound; AUD: Australian dollar; ZAR: South African rand; SGD: Singapore dollar; HKD: Hong Kong dollar; BRL: Brazil real; CZK: Czech koruna; SEK: Swedish krona; CNY: Chinese yuan; P: peak; T: trough

Note: percentages calculated with currencies expressed in units of domestic currency per dollar; negative sign means devaluation and no sign appreciation

Source: http://online.wsj.com/mdc/public/page/mdc_currencies.html?mod=mdc_topnav_2_3000

http://federalreserve.gov/releases/h10/Hist/dat00_ch.htm

VII Economic Indicators. Table 46 provides the data on consumer credit in the Fed report. The rate of growth of total consumer credit in IIQ2011 was a high 4.3 percent, with reasonable rates of 2.8 percent in Apr and 2.5 percent in May and a very high 7.7 percent in Jun. Growth originated mostly in nonrevolving credit increasing at the annual equivalent rate of 7.6 percent in Jun while revolving credit finally recovering at the annual rate of 7.9 percent. There is here a combination of the effects of the Credit Card Accountability Responsibility and Disclosure Act of 2009 (CARD) (http://www.gpo.gov/fdsys/pkg/PLAW-111publ24/pdf/PLAW-111publ24.pdf) that reduced credit limits and increased interest rates for most cardholders while cards of many debtors with lower credit scores were cancelled together with the flight to thriftiness by debtors because of economic and tax uncertainties. Revolving credit grew by 5.1 percent annual equivalent in May while the rate of growth of non-revolving credit fell to 1.3 percent.

Table 46, Consumer Credit Seasonally Adjusted Annual Percentage Rate and Billions of Dollars

	IIQ2011	Apr	May	Jun
∆%
Total	4.3	2.8	2.5	7.7
Revolving	3.9	-1.3	5.0	7.9
Non-revol -ving	4.6	4.8	1.3	7.6
$ Billions
Total	2446.1	2425.5	2430.6	2446.1
Revolving	798.3	789.8	793.1	798.3
Non-revol -ving	1647.8	1635.8	1637.5	1647.8

Source: http://www.federalreserve.gov/releases/g19/current/g19.htm

Table 47 shows the total value of manufacturers’ shipments and new orders, seasonally adjusted. Factory orders are very volatile because of strong oscillations caused by large-value items, such as civilian aircraft. Markets were disappointed by the drop in new orders of 0.8 percent from May into Jun. The percentages changes for the second quarter are weak. The last row shows, for example, the wide swing in new orders for nondefense aircraft that fell 29.0 percent in Apr/Mar, rose 36.5 percent in May/Apr and fell 28.9 percent in Jun/May. Automobiles show decline of 7.9 percent in shipments in Apr/Mar probably as a result of the interruption of supplies from Japan because of the earthquake.

Table 47, Value of Manufacturers’ Shipments and New Orders, SA, %

	Jun/May ∆%	May/Apr ∆%	Apr/Mar ∆%
Total
S	0.2	0.0	-0.4
NO	-0.8	0.6	-0.9
Excluding Transport
S	0.3	0.0	0.0
NO	0.1	0.0	0.2
Excluding Defense
S	0.2	0.0	-0.3
NO	-0.7	0.4	-0.9
Durable Goods
S	0.5	0.5	-1.4
NO	-1.9	2.0	-2.5
Transport Equipment
S	-0.4	-0.6	-3.7
NO	-8.6	5.8	-9.3
Automobiles
S	0.0	-0.4	-7.9
Motor Vehicles
S	-2.8	1.4	-6.2
NO	-2.7	1.6	-6.2
Nondefense Aircraft
S	3.7	-1.5	-2.0
NO	-28.9	31.4	-29.0

Note: S: shipments; NO: new orders; Transport: transportation

Source: http://www.census.gov/manufacturing/m3/prel/pdf/s-i-o.pdf

Table 48 provides the percentage change of the value of manufacturers’ shipments and new orders, not adjusted for seasonality or price, in Jan through Jun 2011 relative to Jan through Jun 2010. Automobiles rose by only 4.9 percent, raising the issue of whether part of the deceleration of manufacturing originates in supply interruptions caused by the earthquake/tsunami of Japan on Mar 11. The double-digit percentage increases of nominal values suggest that part of growth is inflation.

Table 48, Value of Manufacturers’ Shipments and New Orders, NSA, %

	Jan-Jun 2011/Jan-Jun 2010 ∆%
Total
S	11.6
NO	12.5
Excluding Transport
S	12.5
NO	12.8
Excluding Defense
S	12.5
NO	13.1
Durable Goods
S	7.6
NO	9.5
Transport Equipment
S	4.2
NO	10.1
Automobiles	4.9

Motor vehicles
S	7.6
NO	8.2
Nondefense Aircraft
S	8.0
NO	28.2

Note: S: shipments; NO: new orders; Transport: transportation

Source: http://www.census.gov/manufacturing/m3/prel/pdf/s-i-o.pdf

The value of construction put in place in the US in seasonally adjusted annual equivalent rate rose 0.2 percent in Jun relative to May and residential construction fell 0.3 percent, as shown in Table 49. Nonresidential construction rose 0.5 percent and private construction increased 0.8 percent.

Table 49, Value of Construction Put in Place in the United States

	Jun SAAR $ B	∆%
Total	772.3	0.2
Residential	243.9	-0.3
Nonresidential	528.4	0.5
Total Private	493.4	0.8
Total Public	278.9	-0.7

SAAR: seasonally adjusted annual rate; B: billions

Source: http://www.census.gov/const/C30/release.pdf

Table 50 shows the disappointing performance of the value of construction put in place in the US. Monthly rates have been negative except for the second quarter and 12-months rates show construction in 2011 below the levels in the same month a year earlier.

Table 50, Percentage Change in Value of Construction Put in Place, ∆%

	Month ∆%	12 Months ∆%
Jun 2011	0.2	-4.7
May	0.3	-5.0
Apr	0.7	-8.9
Mar	-0.2	-7.5
Feb	-1.0	-6.3
Jan	-1.0	-7.6
AE ∆%	-2.0
Dec 2010	-3.2	-6.8

Source: http://www.census.gov/const/C30/prpdf.html various reports using final data

The value of construction put in place in the US, not seasonally adjusted, from Jan to Jun fell 5.4 percent in 2011 relative to 2010, as shown in Table 51. The contraction of construction has been quite profound: a fall in the first six months of the year in 2011 by 37.3 percent relative to 2006 and by 31.9 percent relative to 2005.

Table 51, Value of Construction Put in Place in the United States, Not Seasonally Adjusted, $ Billions and ∆%

Jan-Jun 2011 $ B	357.5
Jan-Jun 2010 $ B	377.9
∆% to 2011	-5.4
Jan-Jun 2006 $ B	570.1
∆% to 2011	-37.3
Jan-Jun 2005 $ B	524.8
∆% to 2011	-31.9

Source: http://www.census.gov/const/C30/release.pdf

http://www.census.gov/const/C30/pr200706.pdf

http://www.census.gov/const/C30/pr200606.pdf

Crude oil input in refineries rose to 15,422 thousand barrels per day on average in the four weeks ending on Jul 29 from 15,379 thousand barrels per day in the four weeks ending on Jul 22, as shown in Table 52. The rate of capacity utilization in refineries continues at a high level close to 90 percent. Imports of crude oil fell from 9,474 barrels per day on average to 9,294 barrels per day. Rising utilization with increasing imports still resulted in an increase of commercial crude oil stocks by one million barrels from 354.0 million on Jul 22 to 355 million on Jul 29. Gasoline stocks rose by 1.7 million barrels and stocks of fuel oil by 0.5 million barrels. The most worrisome fact is that supply of gasoline fell from 9,406 barrels per day on Jul 30, 2010, to 9,065 barrel per day on Jul 29, 2011, or by 3.6 percent, while fuel oil supply rose 1.7 percent. Part of the fall in consumption of gasoline is due to higher prices and part to the growth recession. Table 52 also shows increase in the world oil price by 53.4 percent from Jul 30, 2010 to Jul 29, 2011. Gasoline prices rose by 35.7 percent from Aug 2, 2010 to Aug 1, 2011.

Table 52, Energy Information Administration Weekly Petroleum Status Report

Four Weeks Ending Thousand Barrels/Day	07/29/11	07/22/11	07/30/10
Crude Oil Refineries Input	15,422	15,379	15,506
Refinery Capacity Utilization %	89.0	88.7	90.9
Motor Gasoline Production	9,119	9,215	9,471
Distillate Fuel Oil Production	4,565	4,519	4,416
Crude Oil Imports	9,294	9,474	9,977
Motor Gasoline Supplied	9,065	9,088	9,406
Distillate Fuel Oil Supplied	3,546	3,482	3,487
	07/29/11	07/22/11	07/30/10
Crude Oil Stocks Million B	355.0	354.0	358.0
Motor Gasoline Million B	215.2	213.5	223.0
Distillate Fuel Oil Million B	152.3	151.8	169.7
World Crude Oil Price $/B	114.59	113.87	74.69
	08/01/11	07/25/11	08/02/10
Regular Motor Gasoline $/G	3.711	3.699	2.735

B: barrels; G: gallon

Source: http://www.eia.gov/pub/oil_gas/petroleum/data_publications/weekly_petroleum_status_report/current/pdf/highlights.pdf

Initial claims for unemployment insurance seasonally adjusted fell 1,000 to reach 400,000 in the week of Jul 30 from 401,000 in the week of Jul 23, as shown in Table 53. Claims not seasonally adjusted, or the actual estimate, fell 29,939 to reach 339,348 in the week of Jul 30 from 369,287 in the week of Jul 23.

Table 53, Initial Claims for Unemployment Insurance

	SA	NSA	4-week MA SA
Jul 30	400,000	339,348	407,750
Jul 23	401,000	369,287	414,500
Change	-1,000	-29,939	-6,750
Jul 16	422,000	470,077	422,250
Prior Year	474,000	402,140	459,250

Note: SA: seasonally adjusted; NSA: not seasonally adjusted; MA: moving average

Source: http://www.dol.gov/opa/media/press/eta/ui/current.htm

VIII. Interest Rates. It is quite difficult to measure inflationary expectations because they tend to break abruptly from past inflation. There could still be an influence of past and current inflation in the calculation of future inflation by economic agents. Table 54 provides inflation of the CPI. In Jan-Jun 2011, CPI inflation for all items seasonally adjusted was 3.7 percent in annual equivalent, that is, compounding inflation in the first six months and assuming it would be repeated during the second half of 2011. In the 12 months ending in Jun, CPI inflation of all items not seasonally adjusted was 3.6 percent. The second row provides the same measurements for the CPI of all items excluding food and energy: 2.6 percent annual equivalent in Jan-Jun and 1.6 percent in 12 months. Bloomberg provides the yield curve of US Treasury securities at 8:34PM New York time Aug 7 (http://www.bloomberg.com/markets/rates-bonds/government-bonds/us/). The lowest yield is 0.02 percent for three months or virtually zero, 0.04 percent for six months, 0.11 percent for 12 months, 0.27 percent for two years, 0.47 percent for three years, 1.24 percent for five years, 1.92 percent for seven years, 2.58 percent for ten years and 3.90 percent for 30 years. The Irving Fisher definition of real interest rates is approximately the difference between nominal interest rates, which are those estimated by Bloomberg, and the rate of inflation expected in the term of the security, which could behave as in Table 54. Real interest rates in the US have been negative during substantial periods in the past decade while monetary policy pursues a policy of attaining its “dual mandate” of (http://www.federalreserve.gov/aboutthefed/mission.htm):

“Conducting the nation's monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates”

Negative real rates of interest distort calculations of risk and returns from capital budgeting by firms, through lending by financial intermediaries to decisions on savings, housing and purchases of households. Inflation on near zero interest rates misallocates resources away from their most productive uses and creates uncertainty of the future path of adjustment to higher interest rates that inhibit sound decisions.

Table 54, Consumer Price Index Percentage Changes 12 months NSA and Annual Equivalent Jan-May 2011 ∆%

	∆% 12 Months Jun 2011/Jun 2010 NSA	∆% Annual Equivalent Jan-Jun 2011 SA
CPI All Items	3.6	3.7
CPI ex Food and Energy	1.6	2.6

Source: http://www.bls.gov/news.release/pdf/cpi.pdf

IX Conclusion. Fiscal consolidation commitments for the long-run are appropriate for most advanced economies. Growth recession does not necessarily lead to another contraction

(Go to http://cmpassocregulationblog.blogspot.com/ http://sites.google.com/site/economicregulation/carlos-m-pelaez)

http://www.amazon.com/Carlos-Manuel-Pel%C3%A1ez/e/B001HCUT10 ).

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The Global Growth Recession, 25 to 30 Million in Job Stress, Falling Real Wages and Financial Risk Aversion

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