United States Commercial Banks Assets and Liabilities, Collapse of United States Dynamism of Income Growth and Employment Creation, Squeeze of Economic Activity by Carry Trades Induced by Zero Interest Rates, Peaking Valuations of Risk Financial Assets, World Economic Slowdown and Global Recession Risk
Carlos M. Pelaez
© Carlos M. Pelaez, 2010, 2011, 2012, 2013
Executive Summary
I United States Commercial Banks Assets and Liabilities
IA1 Transmission of Monetary Policy
IA2 Functions of Banks
IA3 United States Commercial Banks Assets and Liabilities
IA4 Theory and Reality of Economic History and Monetary Policy Based on Fear of Deflation
IB Collapse of United States Dynamism of Income Growth and Employment Creation
II United States Industrial Production
III World Financial Turbulence
IIIA Financial Risks
IIIE Appendix Euro Zone Survival Risk
IIIF Appendix on Sovereign Bond Valuation
IV Global Inflation
V World Economic Slowdown
VA United States
VB Japan
VC China
VD Euro Area
VE Germany
VF France
VG Italy
VH United Kingdom
VI Valuation of Risk Financial Assets
VII Economic Indicators
VIII Interest Rates
IX Conclusion
References
Appendixes
Appendix I The Great Inflation
IIIB Appendix on Safe Haven Currencies
IIIC Appendix on Fiscal Compact
IIID Appendix on European Central Bank Large Scale Lender of Last Resort
IIIG Appendix on Deficit Financing of Growth and the Debt Crisis
IIIGA Monetary Policy with Deficit Financing of Economic Growth
IIIGB Adjustment during the Debt Crisis of the 1980s
Executive Summary
ESI Collapse of United States Dynamism of Income Growth and Employment Creation. There are four major approaches to the analysis of the depth of the financial crisis and global recession from IVQ2007 (Dec) to IIQ2009 (Jun) and the subpar recovery from IIIQ2009 (Jul) to the present IVQ2012: (1) deeper contraction and slower recovery in recessions with financial crises; (2) counterfactual of avoiding deeper contraction by fiscal and monetary policies; (3) counterfactual that the financial crises and global recession would have been avoided had economic policies been different; and (4) evidence that growth rates are higher after deeper recessions with financial crises. A counterfactual consists of theory and measurements of what would have occurred otherwise if economic policies or institutional arrangements had been different. This task is quite difficult because economic data are observed with all effects as they actually occurred while the counterfactual attempts to evaluate how data would differ had policies and institutional arrangements been different (see Pelaez and Pelaez, Globalization and the State, Vol. I (2008b), 125, 136; Pelaez 1979, 26-8). Counterfactual data are unobserved and must be calculated using theory and measurement methods. The measurement of costs and benefits of projects or applied welfare economics (Harberger 1971, 1997) specifies and attempts to measure projects such as what would be economic welfare with or without a bridge or whether markets would be more or less competitive in the absence of antitrust and regulation laws (Winston 2006). Counterfactuals were used in the “new economic history” of the United States to measure the economy with or without railroads (Fishlow 1965, Fogel 1964) and also in analyzing slavery (Fogel and Engerman 1974). A critical counterfactual in economic history is how Britain surged ahead of France (North and Weingast 1989). These four approaches are discussed below in turn followed with comparison of the two recessions of the 1980s from IQ1980 (Jan) to IIIQ1980 (Jul) and from IIIQ1981 (Jul) to IVQ1982 (Nov) as dated by the National Bureau of Economic Research (NBER http://www.nber.org/cycles.html). These comparisons are not idle exercises, defining the interpretation of history and even possibly critical policies and institutional arrangements. There is active debate on these issues (Bordo 2012Oct 21 http://www.bloomberg.com/news/2012-10-21/why-this-u-s-recovery-is-weaker.html Reinhart and Rogoff, 2012Oct14 http://www.economics.harvard.edu/faculty/rogoff/files/Is_US_Different_RR_3.pdf Taylor 2012Oct 25 http://www.johnbtaylorsblog.blogspot.co.uk/2012/10/an-unusually-weak-recovery-as-usually.html, Wolf 2012Oct23 http://www.ft.com/intl/cms/s/0/791fc13a-1c57-11e2-a63b-00144feabdc0.html#axzz2AotsUk1q).
(1) Lower Growth Rates in Recessions with Financial Crises. A monumental effort of data gathering, calculation and analysis by Professors Carmen M. Reinhart and Kenneth Rogoff at Harvard University is highly relevant to banking crises, financial crash, debt crises and economic growth (Reinhart 2010CB; Reinhart and Rogoff 2011AF, 2011Jul14, 2011EJ, 2011CEPR, 2010FCDC, 2010GTD, 2009TD, 2009AFC, 2008TDPV; see also Reinhart and Reinhart 2011Feb, 2010AF and Reinhart and Sbrancia 2011). See http://cmpassocregulationblog.blogspot.com/2011/07/debt-and-financial-risk-aversion-and.html. The dataset of Reinhart and Rogoff (2010GTD, 1) is quite unique in breadth of countries and over time periods:
“Our results incorporate data on 44 countries spanning about 200 years. Taken together, the data incorporate over 3,700 annual observations covering a wide range of political systems, institutions, exchange rate and monetary arrangements and historic circumstances. We also employ more recent data on external debt, including debt owed by government and by private entities.”
Reinhart and Rogoff (2010GTD, 2011CEPR) classify the dataset of 2317 observations into 20 advanced economies and 24 emerging market economies. In each of the advanced and emerging categories, the data for countries is divided into buckets according to the ratio of gross central government debt to GDP: below 30, 30 to 60, 60 to 90 and higher than 90 (Reinhart and Rogoff 2010GTD, Table 1, 4). Median and average yearly percentage growth rates of GDP are calculated for each of the buckets for advanced economies. There does not appear to be any relation for debt/GDP ratios below 90. The highest growth rates are for debt/GDP ratios below 30: 3.7 percent for the average and 3.9 for the median. Growth is significantly lower for debt/GDP ratios above 90: 1.7 for the average and 1.9 percent for the median. GDP growth rates for the intermediate buckets are in a range around 3 percent: the highest 3.4 percent average is for the bucket 60 to 90 and 3.1 percent median for 30 to 60. There is even sharper contrast for the United States: 4.0 percent growth for debt/GDP ratio below 30; 3.4 percent growth for debt/GDP ratio of 30 to 60; 3.3 percent growth for debt/GDP ratio of 60 to 90; and minus 1.8 percent, contraction, of GDP for debt/GDP ratio above 90.
For the five countries with systemic financial crises—Iceland, Ireland, UK, Spain and the US—real average debt levels have increased by 75 percent between 2007 and 2009 (Reinhart and Rogoff 2010GTD, Figure 1). The cumulative increase in public debt in the three years after systemic banking crisis in a group of episodes after World War II is 86 percent (Reinhart and Rogoff 2011CEPR, Figure 2, 10).
An important concept is “this time is different syndrome,” which “is rooted in the firmly-held belief that financial crises are something that happens to other people in other countries at other times; crises do not happen here and now to us” (Reinhart and Rogoff 2010FCDC, 9). There is both an arrogance and ignorance in “this time is different” syndrome, as explained by Reinhart and Rogoff (2010FCDC, 34):
“The ignorance, of course, stems from the belief that financial crises happen to other people at other time in other places. Outside a small number of experts, few people fully appreciate the universality of financial crises. The arrogance is of those who believe they have figured out how to do things better and smarter so that the boom can long continue without a crisis.”
There is sober warning by Reinhart and Rogoff (2011CEPR, 42) on the basis of the momentous effort of their scholarly data gathering, calculation and analysis:
“Despite considerable deleveraging by the private financial sector, total debt remains near its historic high in 2008. Total public sector debt during the first quarter of 2010 is 117 percent of GDP. It has only been higher during a one-year sting at 119 percent in 1945. Perhaps soaring US debt levels will not prove to be a drag on growth in the decades to come. However, if history is any guide, that is a risky proposition and over-reliance on US exceptionalism may only be one more example of the “This Time is Different” syndrome.”
As both sides of the Atlantic economy maneuver around defaults the experience on debt and growth deserves significant emphasis in research and policy. The world economy is slowing with high levels of unemployment in advanced economies. Countries do not grow themselves out of unsustainable debts but rather through de facto defaults by means of financial repression and in some cases through inflation. The conclusion is that this time is not different.
Professor Alan M. Taylor (2012) at the University of Virginia analyzes own and collaborative research on 140 years of history with data from 14 advanced economies in the effort to elucidate experience preceding, during and after financial crises. The conclusion is (Allan M. Taylor 2012, 8):
“Recessions might be painful, but they tend to be even more painful when combined with financial crises or (worse) global crises, and we already know that post-2008 experience will not overturn this conclusion. The impact on credit is also very strong: financial crises lead to strong setbacks in the rate of growth of loans as compared to what happens in normal recessions, and this effect is strong for global crises. Finally, inflation generally falls in recessions, but the downdraft is stronger in financial crisis times.”
Alan M. Taylor (2012) also finds that advanced economies entered the global recession with the largest financial sector in history. There was doubling after 1980 of the ratio of loans to GDP and tripling of the size of bank balance sheets. In contrast, in the period from 1950 to 1970 there was high investment, savings and growth in advanced economies with firm regulation of finance and controls of foreign capital flows.
(2) Counterfactual of the Global Recession. There is a difficult decision on when to withdraw the fiscal stimulus that could have adverse consequences on current growth and employment analyzed by Krugman (2011Jun18). CBO (2011JunLTBO, Chapter 2) considers the timing of withdrawal as well as the equally tough problems that result from not taking prompt action to prevent a possible debt crisis in the future. Krugman (2011Jun18) refers to Eggertsson and Krugman (2010) on the possible contractive effects of debt. The world does not become poorer as a result of debt because an individual’s asset is another’s liability. Past levels of credit may become unacceptable by credit tightening, such as during a financial crisis. Debtors are forced into deleveraging, which results in expenditure reduction, but there may not be compensatory effects by creditors who may not be in need of increasing expenditures. The economy could be pushed toward the lower bound of zero interest rates, or liquidity trap, remaining in that threshold of deflation and high unemployment.
Analysis of debt can lead to the solution of the timing of when to cease stimulus by fiscal spending (Krugman 2011Jun18). Excessive debt caused the financial crisis and global recession and it is difficult to understand how more debt can recover the economy. Krugman (2011Jun18) argues that the level of debt is not important because one individual’s asset is another individual’s liability. The distribution of debt is important when economic agents with high debt levels are encountering different constraints than economic agents with low debt levels. The opportunity for recovery may exist in borrowing by some agents that can adjust the adverse effects of past excessive borrowing by other agents. As Krugman (2011Jun18, 20) states:
“Suppose, in particular, that the government can borrow for a while, using the borrowed money to buy useful things like infrastructure. The true social cost of these things will be very low, because the spending will be putting resources that would otherwise be unemployed to work. And government spending will also make it easier for highly indebted players to pay down their debt; if the spending is sufficiently sustained, it can bring the debtors to the point where they’re no longer so severely balance-sheet constrained, and further deficit spending is no longer required to achieve full employment. Yes, private debt will in part have been replaced by public debt – but the point is that debt will have been shifted away from severely balance-sheet-constrained players, so that the economy’s problems will have been reduced even if the overall level of debt hasn’t fallen. The bottom line, then, is that the plausible-sounding argument that debt can’t cure debt is just wrong. On the contrary, it can – and the alternative is a prolonged period of economic weakness that actually makes the debt problem harder to resolve.”
Besides operational issues, the consideration of this argument would require specifying and measuring two types of gains and losses from this policy: (1) the benefits in terms of growth and employment currently; and (2) the costs of postponing the adjustment such as in the exercise by CBO (2011JunLTO, 28-31) in Table 11. It may be easier to analyze the costs and benefits than actual measurement.
An analytical and empirical approach is followed by Blinder and Zandi (2010), using the Moody’s Analytics model of the US economy with four different scenarios: (1) baseline with all policies used; (2) counterfactual including all fiscal stimulus policies but excluding financial stimulus policies; (3) counterfactual including all financial stimulus policies but excluding fiscal stimulus; and (4) a scenario excluding all policies. The scenario excluding all policies is an important reference or the counterfactual of what would have happened if the government had been entirely inactive. A salient feature of the work by Blinder and Zandi (2010) is the consideration of both fiscal and financial policies. There was probably more activity with financial policies than with fiscal policies. Financial policies included the Fed balance sheet, 11 facilities of direct credit to illiquid segments of financial markets, interest rate policy, the Financial Stability Plan including stress tests of banks, the Troubled Asset Relief Program (TARP) and others (see Pelaez and Pelaez, Financial Regulation after the Global Recession (2009b), 157-67; Regulation of Banks and Finance (2009a), 224-7).
Blinder and Zandi (2010, 4) find that:
“In the scenario that excludes all the extraordinary policies, the downturn continues into 2011. Real GDP falls a stunning 7.4% in 2009 and another 3.7% in 2010 (see Table 3). The peak-to-trough decline in GDP is therefore close to 12%, compared to an actual decline of about 4%. By the time employment hits bottom, some 16.6 million jobs are lost in this scenario—about twice as many as actually were lost. The unemployment rate peaks at 16.5%, and although not determined in this analysis, it would not be surprising if the underemployment rate approached one-fourth of the labor force. The federal budget deficit surges to over $2 trillion in fiscal year 2010, $2.6 trillion in fiscal year 2011, and $2.25 trillion in FY 2012. Remember, this is with no policy response. With outright deflation in prices and wages in 2009-2011, this dark scenario constitutes a 1930s-like depression.”
The conclusion by Blinder and Zandi (2010) is that if the US had not taken massive fiscal and financial measures the economy could have suffered far more during a prolonged period. There are still a multitude of questions that cloud understanding of the impact of the recession and what would have happened without massive policy impulses. Some effects are quite difficult to measure. An important argument by Blinder and Zandi (2010) is that this evaluation of counterfactuals is relevant to the need of stimulus if economic conditions worsened again.
(3) Counterfactual of Policies Causing the Financial Crisis and Global Recession. The counterfactual of avoidance of deeper and more prolonged contraction by fiscal and monetary policies is not the critical issue. As Professor John B. Taylor (2012Oct25) argues the critically important counterfactual is that the financial crisis and global recessions would have not occurred in the first place if different economic policies had been followed. The counterfactual intends to verify that a combination of housing policies and discretionary monetary policies instead of rules (Taylor 1993) caused, deepened and prolonged the financial crisis (Taylor 2007, 2008Nov, 2009, 2012FP, 2012Mar27, 2012Mar28, 2012JMCB; see http://cmpassocregulationblog.blogspot.com/2012/06/rules-versus-discretionary-authorities.html) and that the experience resembles that of the Great Inflation of the 1960s and 1970s with stop-and-go growth/inflation that coined the term stagflation (http://cmpassocregulationblog.blogspot.com/2012/06/rules-versus-discretionary-authorities.html 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 and Appendix I).
The explanation of the sharp contraction of United States housing can probably be found in the origins of the financial crisis and global recession. Let V(T) represent the value of the firm’s equity at time T and B stand for the promised debt of the firm to bondholders and assume that corporate management, elected by equity owners, is acting on the interests of equity owners. Robert C. Merton (1974, 453) states:
“On the maturity date T, the firm must either pay the promised payment of B to the debtholders or else the current equity will be valueless. Clearly, if at time T, V(T) > B, the firm should pay the bondholders because the value of equity will be V(T) – B > 0 whereas if they do not, the value of equity would be zero. If V(T) ≤ B, then the firm will not make the payment and default the firm to the bondholders because otherwise the equity holders would have to pay in additional money and the (formal) value of equity prior to such payments would be (V(T)- B) < 0.”
Pelaez and Pelaez (The Global Recession Risk (2007), 208-9) apply this analysis to the US housing market in 2005-2006 concluding:
“The house market [in 2006] is probably operating with low historical levels of individual equity. There is an application of structural models [Duffie and Singleton 2003] to the individual decisions on whether or not to continue paying a mortgage. The costs of sale would include realtor and legal fees. There could be a point where the expected net sale value of the real estate may be just lower than the value of the mortgage. At that point, there would be an incentive to default. The default vulnerability of securitization is unknown.”
There are multiple important determinants of the interest rate: “aggregate wealth, the distribution of wealth among investors, expected rate of return on physical investment, taxes, government policy and inflation” (Ingersoll 1987, 405). Aggregate wealth is a major driver of interest rates (Ibid, 406). Unconventional monetary policy, with zero fed funds rates and flattening of long-term yields by quantitative easing, causes uncontrollable effects on risk taking that can have profound undesirable effects on financial stability. Excessively aggressive and exotic monetary policy is the main culprit and not the inadequacy of financial management and risk controls.
The net worth of the economy depends on interest rates. In theory, “income is generally defined as the amount a consumer unit could consume (or believe that it could) while maintaining its wealth intact” (Friedman 1957, 10). Income, Y, is a flow that is obtained by applying a rate of return, r, to a stock of wealth, W, or Y = rW (Ibid). According to a subsequent restatement: “The basic idea is simply that individuals live for many years and that therefore the appropriate constraint for consumption decisions is the long-run expected yield from wealth r*W. This yield was named permanent income: Y* = r*W” (Darby 1974, 229), where * denotes permanent. The simplified relation of income and wealth can be restated as:
W = Y/r (1)
Equation (1) shows that as r goes to zero, r →0, W grows without bound, W→∞.
Lowering the interest rate near the zero bound in 2003-2004 caused the illusion of permanent increases in wealth or net worth in the balance sheets of borrowers and also of lending institutions, securitized banking and every financial institution and investor in the world. The discipline of calculating risks and returns was seriously impaired. The objective of monetary policy was to encourage borrowing, consumption and investment but the exaggerated stimulus resulted in a financial crisis of major proportions as the securitization that had worked for a long period was shocked with policy-induced excessive risk, imprudent credit, high leverage and low liquidity by the incentive to finance everything overnight at close to zero interest rates, from adjustable rate mortgages (ARMS) to asset-backed commercial paper of structured investment vehicles (SIV).
The consequences of inflating liquidity and net worth of borrowers were a global hunt for yields to protect own investments and money under management from the zero interest rates and unattractive long-term yields of Treasuries and other securities. Monetary policy distorted the calculations of risks and returns by households, business and government by providing central bank cheap money. Short-term zero interest rates encourage financing of everything with short-dated funds, explaining the SIVs created off-balance sheet to issue short-term commercial paper to purchase default-prone mortgages that were financed in overnight or short-dated sale and repurchase agreements (Pelaez and Pelaez, Financial Regulation after the Global Recession, 50-1, Regulation of Banks and Finance, 59-60, Globalization and the State Vol. I, 89-92, Globalization and the State Vol. II, 198-9, Government Intervention in Globalization, 62-3, International Financial Architecture, 144-9). ARMS were created to lower monthly mortgage payments by benefitting from lower short-dated reference rates. Financial institutions economized in liquidity that was penalized with near zero interest rates. There was no perception of risk because the monetary authority guaranteed a minimum or floor price of all assets by maintaining low interest rates forever or equivalent to writing an illusory put option on wealth. Subprime mortgages were part of the put on wealth by an illusory put on house prices. The housing subsidy of $221 billion per year created the impression of ever increasing house prices. The suspension of auctions of 30-year Treasuries was designed to increase demand for mortgage-backed securities, lowering their yield, which was equivalent to lowering the costs of housing finance and refinancing. Fannie and Freddie purchased or guaranteed $1.6 trillion of nonprime mortgages and worked with leverage of 75:1 under Congress-provided charters and lax oversight. The combination of these policies resulted in high risks because of the put option on wealth by near zero interest rates, excessive leverage because of cheap rates, low liquidity because of the penalty in the form of low interest rates and unsound credit decisions because the put option on wealth by monetary policy created the illusion that nothing could ever go wrong, causing the credit/dollar crisis and global recession (Pelaez and Pelaez, Financial Regulation after the Global Recession, 157-66, Regulation of Banks, and Finance, 217-27, International Financial Architecture, 15-18, The Global Recession Risk, 221-5, Globalization and the State Vol. II, 197-213, Government Intervention in Globalization, 182-4).
There are significant elements of the theory of bank financial fragility of Diamond and Dybvig (1983) and Diamond and Rajan (2000, 2001a, 2001b) that help to explain the financial fragility of banks during the credit/dollar crisis (see also Diamond 2007). The theory of Diamond and Dybvig (1983) as exposed by Diamond (2007) is that banks funding with demand deposits have a mismatch of liquidity (see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 58-66). A run occurs when too many depositors attempt to withdraw cash at the same time. All that is needed is an expectation of failure of the bank. Three important functions of banks are providing evaluation, monitoring and liquidity transformation. Banks invest in human capital to evaluate projects of borrowers in deciding if they merit credit. The evaluation function reduces adverse selection or financing projects with low present value. Banks also provide important monitoring services of following the implementation of projects, avoiding moral hazard that funds be used for, say, real estate speculation instead of the original project of factory construction. The transformation function of banks involves both assets and liabilities of bank balance sheets. Banks convert an illiquid asset or loan for a project with cash flows in the distant future into a liquid liability in the form of demand deposits that can be withdrawn immediately.
In the theory of banking of Diamond and Rajan (2000, 2001a, 2001b), the bank creates liquidity by tying human assets to capital. The collection of skills of the relationship banker converts an illiquid project of an entrepreneur into liquid demand deposits that are immediately available for withdrawal. The deposit/capital structure is fragile because of the threat of bank runs. In these days of online banking, the run on Washington Mutual was through withdrawals online. A bank run can be triggered by the decline of the value of bank assets below the value of demand deposits.
Pelaez and Pelaez (Regulation of Banks and Finance 2009b, 60, 64-5) find immediate application of the theories of banking of Diamond, Dybvig and Rajan to the credit/dollar crisis after 2007. It is a credit crisis because the main issue was the deterioration of the credit portfolios of securitized banks as a result of default of subprime mortgages. It is a dollar crisis because of the weakening dollar resulting from relatively low interest rate policies of the US. It caused systemic effects that converted into a global recession not only because of the huge weight of the US economy in the world economy but also because the credit crisis transferred to the UK and Europe. Management skills or human capital of banks are illustrated by financial engineering of complex products. The increasing importance of human relative to inanimate capital (Rajan and Zingales 2000) is revolutionizing the theory of the firm (Zingales 2000) and corporate governance (Rajan and Zingales 2001). Finance is one of the most important examples of this transformation. Profits were derived from the charter in the original banking institution. Pricing and structuring financial instruments was revolutionized with option pricing formulas developed by Black and Scholes (1973) and Merton (1973, 1974, 1998) that permitted the development of complex products with fair pricing. The successful financial company must attract and retain finance professionals who have invested in human capital, which is a sunk cost to them and not of the institution where they work.
The complex financial products created for securitized banking with high investments in human capital are based on houses, which are as illiquid as the projects of entrepreneurs in the theory of banking. The liquidity fragility of the securitized bank is equivalent to that of the commercial bank in the theory of banking (Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 65). Banks created off-balance sheet structured investment vehicles (SIV) that issued commercial paper receiving AAA rating because of letters of liquidity guarantee by the banks. The commercial paper was converted into liquidity by its use as collateral in SRPs at the lowest rates and minimal haircuts because of the AAA rating of the guarantor bank. In the theory of banking, default can be triggered when the value of assets is perceived as lower than the value of the deposits. Commercial paper issued by SIVs, securitized mortgages and derivatives all obtained SRP liquidity on the basis of illiquid home mortgage loans at the bottom of the pyramid. The run on the securitized bank had a clear origin (Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 65):
“The increasing default of mortgages resulted in an increase in counterparty risk. Banks were hit by the liquidity demands of their counterparties. The liquidity shock extended to many segments of the financial markets—interbank loans, asset-backed commercial paper (ABCP), high-yield bonds and many others—when counterparties preferred lower returns of highly liquid safe havens, such as Treasury securities, than the risk of having to sell the collateral in SRPs at deep discounts or holding an illiquid asset. The price of an illiquid asset is near zero.”
Gorton and Metrick (2010H, 507) provide a revealing quote to the work in 1908 of Edwin R. A. Seligman, professor of political economy at Columbia University, founding member of the American Economic Association and one of its presidents and successful advocate of progressive income taxation. The intention of the quote is to bring forth the important argument that financial crises are explained in terms of “confidence” but as Professor Seligman states in reference to historical banking crises in the US the important task is to explain what caused the lack of confidence. It is instructive to repeat the more extended quote of Seligman (1908, xi) on the explanations of banking crises:
“The current explanations may be divided into two categories. Of these the first includes what might be termed the superficial theories. Thus it is commonly stated that the outbreak of a crisis is due to lack of confidence,--as if the lack of confidence was not in itself the very thing which needs to be explained. Of still slighter value is the attempt to associate a crisis with some particular governmental policy, or with some action of a country’s executive. Such puerile interpretations have commonly been confined to countries like the United States, where the political passions of democracy have had the fullest way. Thus the crisis of 1893 was ascribed by the Republicans to the impending Democratic tariff of 1894; and the crisis of 1907 has by some been termed the ‘[Theodore] Roosevelt panic,” utterly oblivious of the fact that from the time of President Jackson, who was held responsible for the troubles of 1837, every successive crisis had had its presidential scapegoat, and has been followed by a political revulsion. Opposed to these popular, but wholly unfounded interpretations, is the second class of explanations, which seek to burrow beneath the surface and to discover the more occult and fundamental causes of the periodicity of crises.”
Scholars ignore superficial explanations in the effort to seek good and truth. The problem of economic analysis of the credit/dollar crisis is the lack of a structural model with which to attempt empirical determination of causes (Gorton and Metrick 2010SB). There would still be doubts even with a well-specified structural model because samples of economic events do not typically permit separating causes and effects. There is also confusion is separating the why of the crisis and how it started and propagated, all of which are extremely important.
In true heritage of the principles of Seligman (1908), Gorton (2009EFM) discovers a prime causal driver of the credit/dollar crisis. The objective of subprime and Alt-A mortgages was to facilitate loans to populations with modest means so that they could acquire a home. These borrowers would not receive credit because of (1) lack of funds for down payments; (2) low credit rating and information; (3) lack of information on income; and (4) errors or lack of other information. Subprime mortgage “engineering” was based on the belief that both lender and borrower could benefit from increases in house prices over the short run. The initial mortgage would be refinanced in two or three years depending on the increase of the price of the house. According to Gorton (2009EFM, 13, 16):
“The outstanding amounts of Subprime and Alt-A [mortgages] combined amounted to about one quarter of the $6 trillion mortgage market in 2004-2007Q1. Over the period 2000-2007, the outstanding amount of agency mortgages doubled, but subprime grew 800%! Issuance in 2005 and 2006 of Subprime and Alt-A mortgages was almost 30% of the mortgage market. Since 2000 the Subprime and Alt-A segments of the market grew at the expense of the Agency (i.e., the government sponsored entities of Fannie Mae and Freddie Mac) share, which fell from almost 80% (by outstanding or issuance) to about half by issuance and 67% by outstanding amount. The lender’s option to rollover the mortgage after an initial period is implicit in the subprime mortgage. The key design features of a subprime mortgage are: (1) it is short term, making refinancing important; (2) there is a step-up mortgage rate that applies at the end of the first period, creating a strong incentive to refinance; and (3) there is a prepayment penalty, creating an incentive not to refinance early.”
The prime objective of successive administrations in the US during the past 20 years and actually since the times of Roosevelt in the 1930s has been to provide “affordable” financing for the “American dream” of home ownership. The US housing finance system is mixed with public, public/private and purely private entities. The Federal Home Loan Bank (FHLB) system was established by Congress in 1932 that also created the Federal Housing Administration in 1934 with the objective of insuring homes against default. In 1938, the government created the Federal National Mortgage Association, or Fannie Mae, to foster a market for FHA-insured mortgages. Government-insured mortgages were transferred from Fannie Mae to the Government National Mortgage Association, or Ginnie Mae, to permit Fannie Mae to become a publicly-owned company. Securitization of mortgages began in 1970 with the government charter to the Federal Home Loan Mortgage Corporation, or Freddie Mac, with the objective of bundling mortgages created by thrift institutions that would be marketed as bonds with guarantees by Freddie Mac (see Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 42-8). In the third quarter of 2008, total mortgages in the US were $12,057 billion of which 43.5 percent, or $5423 billion, were retained or guaranteed by Fannie Mae and Freddie Mac (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 45). In 1990, Fannie Mae and Freddie Mac had a share of only 25.4 percent of total mortgages in the US. Mortgages in the US increased from $6922 billion in 2002 to $12,088 billion in 2007, or by 74.6 percent, while the retained or guaranteed portfolio of Fannie and Freddie rose from $3180 billion in 2002 to $4934 billion in 2007, or by 55.2 percent.
According to Pinto (2008) in testimony to Congress:
“There are approximately 25 million subprime and Alt-A loans outstanding, with an unpaid principal amount of over $4.5 trillion, about half of them held or guaranteed by Fannie and Freddie. Their high risk activities were allowed to operate at 75:1 leverage ratio. While they may deny it, there can be no doubt that Fannie and Freddie now own or guarantee $1.6 trillion in subprime, Alt-A and other default prone loans and securities. This comprises over 1/3 of their risk portfolios and amounts to 34% of all the subprime loans and 60% of all Alt-A loans outstanding. These 10.5 million unsustainable, nonprime loans are experiencing a default rate 8 times the level of the GSEs’ 20 million traditional quality loans. The GSEs will be responsible for a large percentage of an estimated 8.8 million foreclosures expected over the next 4 years, accounting for the failure of about 1 in 6 home mortgages. Fannie and Freddie have subprimed America.”
In perceptive analysis of growth and macroeconomics in the past six decades, Rajan (2012FA) argues that “the West can’t borrow and spend its way to recovery.” The Keynesian paradigm is not applicable in current conditions. Advanced economies in the West could be divided into those that reformed regulatory structures to encourage productivity and others that retained older structures. In the period from 1950 to 2000, Cobet and Wilson (2002) find that US productivity, measured as output/hour, grew at the average yearly rate of 2.9 percent while Japan grew at 6.3 percent and Germany at 4.7 percent (see Pelaez and Pelaez, The Global Recession Risk (2007), 135-44). In the period from 1995 to 2000, output/hour grew at the average yearly rate of 4.6 percent in the US but at lower rates of 3.9 percent in Japan and 2.6 percent in Germany. Rajan (2012FA) argues that the differential in productivity growth was accomplished by deregulation in the US at the end of the 1970s and during the 1980s. In contrast, Europe did not engage in reform with the exception of Germany in the early 2000s that empowered the German economy with significant productivity advantage. At the same time, technology and globalization increased relative remunerations in highly-skilled, educated workers relative to those without skills for the new economy. It was then politically appealing to improve the fortunes of those left behind by the technological revolution by means of increasing cheap credit. As Rajan (2012FA) argues:
“In 1992, Congress passed the Federal Housing Enterprises Financial Safety and Soundness Act, partly to gain more control over Fannie Mae and Freddie Mac, the giant private mortgage agencies, and partly to promote affordable homeownership for low-income groups. Such policies helped money flow to lower-middle-class households and raised their spending—so much so that consumption inequality rose much less than income inequality in the years before the crisis. These policies were also politically popular. Unlike when it came to an expansion in government welfare transfers, few groups opposed expanding credit to the lower-middle class—not the politicians who wanted more growth and happy constituents, not the bankers and brokers who profited from the mortgage fees, not the borrowers who could now buy their dream houses with virtually no money down, and not the laissez-faire bank regulators who thought they could pick up the pieces if the housing market collapsed. The Federal Reserve abetted these shortsighted policies. In 2001, in response to the dot-com bust, the Fed cut short-term interest rates to the bone. Even though the overstretched corporations that were meant to be stimulated were not interested in investing, artificially low interest rates acted as a tremendous subsidy to the parts of the economy that relied on debt, such as housing and finance. This led to an expansion in housing construction (and related services, such as real estate brokerage and mortgage lending), which created jobs, especially for the unskilled. Progressive economists applauded this process, arguing that the housing boom would lift the economy out of the doldrums. But the Fed-supported bubble proved unsustainable. Many construction workers have lost their jobs and are now in deeper trouble than before, having also borrowed to buy unaffordable houses. Bankers obviously deserve a large share of the blame for the crisis. Some of the financial sector’s activities were clearly predatory, if not outright criminal. But the role that the politically induced expansion of credit played cannot be ignored; it is the main reason the usual checks and balances on financial risk taking broke down.”
In fact, Raghuram G. Rajan (2005) anticipated low liquidity in financial markets resulting from low interest rates before the financial crisis that caused distortions of risk/return decisions provoking the credit/dollar crisis and global recession from IVQ2007 to IIQ2009. Near zero interest rates of unconventional monetary policy induced excessive risks and low liquidity in financial decisions that were critical as a cause of the credit/dollar crisis after 2007. Rajan (2012FA) argues that it is not feasible to return to the employment and income levels before the credit/dollar crisis because of the bloated construction sector, financial system and government budgets.
(4) Historically Sharper Recoveries from Deeper Contractions and Financial Crises. Professor Michael D. Bordo (2012Sep27), at Rutgers University, is providing clear thought on the correct comparison of the current business cycles in the United States with those in United States history. There are two issues raised by Professor Bordo: (1) lumping together countries with different institutions, economic policies and financial systems; and (2) the conclusion that growth is mediocre after financial crises and deep recessions, which is repeated daily in the media, but that Bordo and Haubrich (2012DR) persuasively demonstrate to be inconsistent with United States experience.
Depriving economic history of institutions is perilous as is illustrated by the economic history of Brazil. Douglass C. North (1994) emphasized the key role of institutions in explaining economic history. Rondo E. Cameron (1961, 1967, 1972) applied institutional analysis to banking history. Friedman and Schwartz (1963) analyzed the relation of money, income and prices in the business cycle and related the monetary policy of an important institution, the Federal Reserve System, to the Great Depression. Bordo, Choudhri and Schwartz (1995) analyze the counterfactual of what would have been economic performance if the Fed had used during the Great Depression the Friedman (1960) monetary policy rule of constant growth of money(for analysis of the Great Depression see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 198-217). Alan Meltzer (2004, 2010a,b) analyzed the Federal Reserve System over its history. The reader would be intrigued by Figure 5 in Reinhart and Rogoff (2010FCDC, 15) in which Brazil is classified in external default for seven years between 1828 and 1834 but not again until 64 years later in 1989, above the 50 years of incidence for “serial default”. This void has been filled in scholarly research on nineteenth-century Brazil by William R. Summerhill, Jr. (2007SC, 2007IR). There are important conclusions by Summerhill on the exceptional sample of institutional change or actually lack of change, public finance and financial repression in Brazil between 1822 an 1899, combining tools of economics, political science and history. During seven continuous decades, Brazil did not miss a single interest payment with government borrowing without repudiation of debt or default. What is really surprising is that Brazil borrowed by means of long-term bonds and even more surprising interest rates fell over time. The external debt of Brazil in 1870 was ₤41,275,961 and the domestic debt in the internal market was ₤25,708,711, or 62.3 percent of the total (Summerhill 2007IR, 73).
The experience of Brazil differed from that of Latin America (Summerhill 2007IR). During the six decades when Brazil borrowed without difficulty, Latin American countries becoming independent after 1820 engaged in total defaults, suffering hardship in borrowing abroad. The countries that borrowed again fell again in default during the nineteenth century. Venezuela defaulted in four occasions. Mexico defaulted in 1827, rescheduling its debt eight different times and servicing the debt sporadically. About 44 percent of Latin America’s sovereign debt was in default in 1855 and approximately 86 percent of total government loans defaulted in London originated in Spanish American borrowing countries.
External economies of commitment to secure private rights in sovereign credit would encourage development of private financial institutions, as postulated in classic work by North and Weingast (1989), Summerhill 2007IR, 22). This is how banking institutions critical to the Industrial Revolution were developed in England (Cameron 1967). The obstacle in Brazil found by Summerhill (2007IR) is that sovereign debt credibility was combined with financial repression. There was a break in Brazil of the chain of effects from protecting public borrowing, as in North and Weingast (1989), to development of private financial institutions. According to Pelaez 1976, 283) following Cameron:
“The banking law of 1860 placed severe restrictions on two basic modern economic institutions—the corporation and the commercial bank. The growth of the volume of bank credit was one of the most significant factors of financial intermediation and economic growth in the major trading countries of the gold standard group. But Brazil placed strong restrictions on the development of banking and intermediation functions, preventing the channeling of coffee savings into domestic industry at an earlier date.”
Brazil actually abandoned the gold standard during multiple financial crises in the nineteenth century, as it should have to protect domestic economic activity. Pelaez (1975, 447) finds similar experience in the first half of nineteenth-century Brazil:
“Brazil’s experience is particularly interesting in that in the period 1808-1851 there were three types of monetary systems. Between 1808 and 1829, there was only one government-related Bank of Brazil, enjoying a perfect monopoly of banking services. No new banks were established in the 1830s after the liquidation of the Bank of Brazil in 1829. During the coffee boom in the late 1830s and 1840s, a system of banks of issue, patterned after similar institutions in the industrial countries [Cameron 1967], supplied the financial services required in the first stage of modernization of the export economy.”
Financial crises in the advanced economies were transmitted to nineteenth-century Brazil by the arrival of a ship (Pelaez and Suzigan 1981). The explanation of those crises and the economy of Brazil requires knowledge and roles of institutions, economic policies and the financial system chosen by Brazil, in agreement with Bordo (2012Sep27).
The departing theoretical framework of Bordo and Haubrich (2012DR) is the plucking model of Friedman (1964, 1988). Friedman (1988, 1) recalls “I was led to the model in the course of investigating the direction of influence between money and income. Did the common cyclical fluctuation in money and income reflect primarily the influence of money on income or of income on money?” Friedman (1964, 1988) finds useful for this purpose to analyze the relation between expansions and contractions. Analyzing the business cycle in the United States between 1870 and 1961, Friedman (1964, 15) found that “a large contraction in output tends to be followed on the average by a large business expansion; a mild contraction, by a mild expansion.” The depth of the contraction opens up more room in the movement toward full employment (Friedman 1964, 17):
“Output is viewed as bumping along the ceiling of maximum feasible output except that every now and then it is plucked down by a cyclical contraction. Given institutional rigidities and prices, the contraction takes in considerable measure the form of a decline in output. Since there is no physical limit to the decline short of zero output, the size of the decline in output can vary widely. When subsequent recovery sets in, it tends to return output to the ceiling; it cannot go beyond, so there is an upper limit to output and the amplitude of the expansion tends to be correlated with the amplitude of the contraction.”
Kim and Nelson (1999) test the asymmetric plucking model of Friedman (1964, 1988) relative to a symmetric model using reference cycles of the NBER and find evidence supporting the Friedman model. Bordo and Haubrich (2012DR) analyze 27 cycles beginning in 1872, using various measures of financial crises while considering different regulatory and monetary regimes. The revealing conclusion of Bordo and Haubrich (2012DR, 2) is that:
“Our analysis of the data shows that steep expansions tend to follow deep contractions, though this depends heavily on when the recovery is measured. In contrast to much conventional wisdom, the stylized fact that deep contractions breed strong recoveries is particularly true when there is a financial crisis. In fact, on average, it is cycles without a financial crisis that show the weakest relation between contraction depth and recovery strength. For many configurations, the evidence for a robust bounce-back is stronger for cycles with financial crises than those without.”
The average rate of growth of real GDP in expansions after recessions with financial crises was 8 percent but only 6.9 percent on average for recessions without financial crises (Bordo 2012Sep27). Real GDP declined 12 percent in the Panic of 1907 and increased 13 percent in the recovery, consistent with the plucking model of Friedman (Bordo 2012Sep27). Bordo (2012Sep27) finds two probable explanations for the weak recovery during the current economic cycle: (1) collapse of United States housing; and (2) uncertainty originating in fiscal policy, regulation and structural changes. There are serious doubts if monetary policy is adequate to recover the economy under these conditions.
Lucas (2011May) estimates US economic growth in the long-term at 3 percent per year and about 2 percent per year in per capita terms. There are displacements from this trend caused by events such as wars and recessions but the economy then returns to trend. Historical US GDP data exhibit remarkable growth: Lucas (2011May) estimates an increase of US real income per person by a factor of 12 in the period from 1870 to 2010. The explanation by Lucas (2011May) of this remarkable growth experience is that government provided stability and education while elements of “free-market capitalism” were an important driver of long-term growth and prosperity. The analysis is sharpened by comparison with the long-term growth experience of G7 countries (US, UK, France, Germany, Canada, Italy and Japan) and Spain from 1870 to 2010. Countries benefitted from “common civilization” and “technology” to “catch up” with the early growth leaders of the US and UK, eventually growing at a faster rate. Significant part of this catch up occurred after World War II. Lucas (2011May) finds that the catch up stalled in the 1970s. The analysis of Lucas (2011May) is that the 20-40 percent gap that developed originated in differences in relative taxation and regulation that discouraged savings and work incentives in comparison with the US. A larger welfare and regulatory state, according to Lucas (2011May), could be the cause of the 20-40 percent gap. Cobet and Wilson (2002) provide estimates of output per hour and unit labor costs in national currency and US dollars for the US, Japan and Germany from 1950 to 2000 (see Pelaez and Pelaez, The Global Recession Risk (2007), 137-44). The average yearly rate of productivity change from 1950 to 2000 was 2.9 percent in the US, 6.3 percent for Japan and 4.7 percent for Germany while unit labor costs in USD increased at 2.6 percent in the US, 4.7 percent in Japan and 4.3 percent in Germany. From 1995 to 2000, output per hour increased at the average yearly rate of 4.6 percent in the US, 3.9 percent in Japan and 2.6 percent in Germany while unit labor costs in USD fell at minus 0.7 percent in the US, 4.3 percent in Japan and 7.5 percent in Germany. There was increase in productivity growth in Japan and France within the G7 in the second half of the 1990s but significantly lower than the acceleration of 1.3 percentage points per year in the US. Long-term economic growth and prosperity are measured by the key indicators of growth of real income per capita, or what is earned per person after inflation. A refined concept would include real disposable income per capita, or what is earned per person after inflation and taxes.
Table IB-1 provides the data required for broader comparison of the cyclical expansions of IQ1983 to IVQ1985 and the current one from 2009 to 2012. First, in the 13 quarters from IQ1983 to IQ1986, GDP increased 19.6 percent at the annual equivalent rate of 5.7 percent; real disposable personal income (RDPI) increased 14.9 percent at the annual equivalent rate of 4.4 percent; RDPI per capita increased 11.9 percent at the annual equivalent rate of 3.5 percent; and population increased 2.7 percent at the annual equivalent rate of 0.8 percent. Second, in the 14 quarters of the current cyclical expansion from IIIQ2009 to IVQ2012, GDP increased 7.5 percent at the annual equivalent rate of 2.1 percent. In the 14 quarters of cyclical expansion real disposable personal income (RDPI) increased 7.0 percent at the annual equivalent rate of 2.0 percent; RDPI per capita increased 4.4 percent at the annual equivalent rate of 1.3 percent; and population increased 2.5 percent at the annual equivalent rate of 0.7 percent. Third, since the beginning of the recession in IVQ2007 to IVQ2012, GDP increased 2.5 percent, or barely above the level before the recession. Since the beginning of the recession in IVQ2007 to IVQ2012, real disposable personal income increased 5.0 percent at the annual equivalent rate of 0.9 percent; population increased 4.1 percent at the annual equivalent rate of 0.8 percent; and real disposable personal income per capita is 0.9 percent higher than the level before the recession. Real disposable personal income is the actual take home pay after inflation and taxes and real disposable income per capita is what is left per inhabitant. The current cyclical expansion is the worst in the period after World War II in terms of growth of economic activity and income. The United States grew during its history at high rates of per capita income that made its economy the largest in the world. That dynamism is disappearing. Bordo (2012 Sep27) and Bordo and Haubrich (2012DR) provide strong evidence that recoveries have been faster after deeper recessions and recessions with financial crises, casting serious doubts on the conventional explanation of weak growth during the current expansion allegedly because of the depth of the contraction from IVQ2007 to IIQ2009 of 4.7 percent and the financial crisis.
Table IB-1, US, GDP, Real Disposable Personal Income, Real Disposable Income per Capita and Population in 1983-85 and 2007-2011, %
| # Quarters | ∆% | ∆% Annual Equivalent | |
| IQ1983 to IVQ1986 | 13 | ||
| GDP | 19.6 | 5.7 | |
| RDPI | 14.9 | 4.4 | |
| RDPI Per Capita | 11.9 | 3.5 | |
| Population | 2.7 | 0.8 | |
| IIIQ2009 to IVQ2012 | 14 | ||
| GDP | 7.5 | 2.1 | |
| RDPI | 7.0 | 2.0 | |
| RDPI per Capita | 4.4 | 1.3 | |
| Population | 2.5 | 0.7 | |
| IVQ2007 to IVQ2012 | 21 | ||
| GDP | 2.5 | 0.5 | |
| RDPI | 5.0 | 0.9 | |
| RDPI per Capita | 0.9 | 0.2 | |
| Population | 4.1 | 0.8 |
RDPI: Real Disposable Personal Income
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm
There are seven basic facts illustrating the current economic disaster of the United States: (1) GDP maintained trend growth in the entire business cycle from IQ1980 to IV1985 and IQ1986, including contractions and expansions, but is well below trend in the entire business cycle from IVQ2007 to IVQ2012, including contractions and expansions; (2) per capita real disposable income exceeded trend growth in the 1980s but is substantially below trend in IVQ2012; (3) the number of employed persons increased in the 1980s but declined into IVQ2012; (4) the number of full-time employed persons increased in the 1980s but declined into IVQ2012; (5) the number unemployed, unemployment rate and number employed part-time for economic reasons fell in the recovery from the recessions of the 1980s but not substantially in the recovery after IIQ2009; (6) wealth of households and nonprofit organizations soared in the 1980s but declined into IVQ2012; and (7) gross private domestic investment increased sharply from IQ1980 to IVQ1985 but gross private domestic investment and private fixed investment have fallen sharply from IVQ2007 to IVQ2012. There is a critical issue of whether the United States economy will be able in the future to attain again the level of activity and prosperity of projected trend growth. Growth at trend during the entire business cycles built the largest economy in the world but there may be an adverse, permanent weakness in United States economic performance and prosperity. Table IB-2 provides data for analysis of these five basic facts. The six blocks of Table IB-2 are separated initially after individual discussion of each one followed by the full Table IB-2.
1. Trend Growth.
i. As shown in Table IB-2, actual GDP grew cumulatively 18.9 percent from IQ1980 to IQ1986, which is relatively close to what trend growth would have been at 20.3 percent. Rapid growth at 5.7 percent annual rate on average per quarter during the expansion from IQ1983 to IQ1986 erased the loss of GDP of 4.8 percent during the contraction and maintained trend growth at 3 percent over the entire cycle.
ii. In contrast, cumulative growth from IVQ2007 to IVQ2012 was 2.5 percent while trend growth would have been 16.8 percent. GDP in IVQ2012 at seasonally adjusted annual rate is estimated at $13,656.8 billion by the Bureau of Economic Analysis (BEA) (http://www.bea.gov/iTable/index_nipa.cfm) and would have been $15,564.8 billion, or $1,908 billion higher, had the economy grown at trend over the entire business cycle as it happened during the 1980s and throughout most of US history. There is $1.9 trillion of foregone GDP that would have been created as it occurred during past cyclical expansions, which explains why employment has not rebounded to even higher than before. There would not be recovery of full employment even with growth of 3 percent per year beginning immediately because the opportunity was lost to grow faster during the expansion from IIIQ2009 to IVQ2012 after the recession from IVQ2007 to IIQ2009. The United States has acquired a heavy social burden of unemployment and underemployment of 30.8 million people or 19.0 percent of the effective labor force (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) that will not be significantly diminished even with return to growth of GDP of 3 percent per year because of growth of the labor force by new entrants. The US labor force grew from 142.583 million in 2000 to 153.124 million in 2007 or by 7.4 percent at the average yearly rate of 1.0 percent per year. The civilian noninstitutional population increased from 212.577 million in 2000 to 231.867 million in 2007 or 9.1 percent at the average yearly rate of 1.3 percent per year (data from http://www.bls.gov/data/). Data for the past five years cloud accuracy because of the number of people discouraged from seeking employment. The noninstitutional population of the United States increased from 231.867 million in 2007 to 243.284 million in 2012 or by 4.9 percent while the labor force increased from 153.124 million in 2007 to 154.975 million in 2012 or by 1.2 percent and only by 0.3 percent to 153.617 million in 2011 while population increased 3.3 percent from 231.867 million in 2007 to 239.618 million in 2011 (data from http://www.bls.gov/data/). People ceased to seek jobs because they do not believe that there is a job available for them (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html). Structural change in demography occurs over relatively long periods and not suddenly as shown by Edward P. Lazear and James R. Spletzer (2012JHJul22).
| Period IQ1980 to IQ1986 | |
| GDP SAAR USD Billions | |
| IQ1980 | 5,903.4 |
| IQ1986 | 7,016.8 |
| ∆% IQ1980 to IQ1986 (19.6 percent from IVQ1982 $5866.0 billion) | 18.9 |
| ∆% Trend Growth IQ1980 to IQ1986 | 20.3 |
| Period IVQ2007 to IVQ2012 | |
| GDP SAAR USD Billions | |
| IVQ2007 | 13,326.0 |
| IVQ2012 | 13,656.8 |
| ∆% IVQ2007 to IVQ2012 Actual | 2.5 |
| ∆% IVQ2007 to IVQ2012 Trend | 16.8 |
2. Decline of Per Capita Real Disposable Income
i. In the entire business cycle from IQ1980 to IQ1986, as shown in Table IB-2 trend growth of per capita real disposable income, or what is left per person after inflation and taxes, grew cumulatively 15.7 percent, which is close to what would have been trend growth of 13.2 percent.
ii. In contrast, in the entire business cycle from IVQ2007 to IVQ2012, per capita real disposable income grew 0.9 percent while trend growth would have been 10.9 percent. Income available after inflation and taxes is about the same as before the contraction after 14 consecutive quarters of GDP growth at mediocre rates relative to those prevailing during historical cyclical expansions. In IVQ2012, real disposable income grew at seasonally adjusted annual rate (SAAR) of 6.2 percent, which the BEA explains as: “Personal income in November and December [2012] was boosted by accelerated and special dividend payments to persons and by accelerated bonus payments and other irregular pay in private wages and salaries in anticipation of changes in individual income tax rates. Personal income in December was also boosted by lump-sum social security benefit payments” (page 2 at http://www.bea.gov/newsreleases/national/pi/2013/pdf/pi1212.pdf http://www.bea.gov/newsreleases/national/pi/2013/pdf/pi0113.pdf http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). Without these exceptional increases of realization of incomes in anticipation of higher taxes in Jan 2013, per capita disposable real income would likely not be higher in IVQ2012 relative to IVQ2007.
| Period IQ1980 to IQ1986 |
| Real Disposable Personal Income per Capita IQ1980 Chained 2005 USD | 18,938 |
| Real Disposable Personal Income per Capita IQ1986 Chained 2005 USD | 21,902 |
| ∆% IQ1980 to IQ1986 | 15.7 |
| ∆% Trend Growth | 13.2 |
| Period IVQ2007 to IVQ2012 |
| Real Disposable Personal Income per Capita IVQ2007 Chained 2005USD | 32,837 |
| Real Disposable Personal Income per Capita IVQ2012 Chained 2005 USD | 33,143 |
| ∆% IVQ2007 to IVQ2012 | 0.9 |
| ∆% Trend Growth | 10.9 |
3. Number of Employed Persons
i. As shown in Table IB-2, the number of employed persons increased over the entire business cycle from 98.527 million not seasonally adjusted (NSA) in IQ1980 to 107.819 million NSA in IVQ1985 or by 9.7 percent.
ii. In contrast, during the entire business cycle the number employed fell from 146.334 million in IVQ2007 to 143.060 million in IVQ2012 or by 2.2 percent. There are 30.8 million persons unemployed or underemployed, which is 19.0 percent of the effective labor force (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html).
| Period IQ1980 to IVQ1985 |
| Employed Millions IQ1980 NSA End of Quarter | 98.527 |
| Employed Millions IVQ1985 NSA End of Quarter | 108.063 |
| ∆% Employed IQ1980 to IVQ1985 | 9.7 |
| Period IVQ2007 to IVQ2012 |
| Employed Millions IVQ2007 NSA End of Quarter | 146.334 |
| Employed Millions IVQ2012 NSA End of Quarter | 143.060 |
| ∆% Employed IVQ2007 to IVQ2012 | -2.2 |
4. Number of Full-Time Employed Persons
i. As shown in Table IB-2, during the entire business cycle in the 1980s, including contractions and expansion, the number of employed full-time rose from 81.280 million NSA in IQ1980 to 88.757 million NSA in IVQ1985 or 9.2 percent.
ii. In contrast, during the entire current business cycle, including contraction and expansion, the number of persons employed full-time fell from 121.042 million in IVQ2007 to 115.079 million in IVQ2012 or by minus 4.9 percent.
| Period IQ1980 to IVQ1985 |
| Employed Full-time Millions IQ1980 NSA End of Quarter | 81.280 |
| Employed Full-time Millions IV1985 NSA End of Quarter | 88.757 |
| ∆% Full-time Employed IQ1980 to IV1985 | 9.2 |
| Period IVQ2007 to IVQ2012 |
| Employed Full-time Millions IVQ2007 NSA End of Quarter | 121.042 |
| Employed Full-time Millions IVQ2012 NSA End of Quarter | 115.079 |
| ∆% Full-time Employed IVQ2007 to IVQ2012 | -4.9 |
5. Unemployed, Unemployment Rate and Employed Part-time for Economic Reasons.
i. As shown in Table IB-2 and in the following block, in the cycle from IQ1980 to IVQ1985: (a) the rate of unemployment was virtually the same at 6.7 percent in IQ1985 relative to 6.6 percent in IQ1980; (b) the number unemployed increased from 6.983 million in IQ1980 to 7.717 million in IVQ1985 or 10.5 percent; and (c) the number employed part-time for economic reasons increased 49.1 percent from 3.624 million in IQ1980 to 5.402 million in IVQ1985.
ii. In contrast, in the economic cycle from IVQ2007 to IVQ2012: (a) the rate of unemployment increased from 4.8 percent in IVQ2007 to 7.6 percent in IVQ2012; (b) the number unemployed increased 60.7 percent from 7.371 million in IVQ2007 to 11.844 million in IVQ2012; (c) the number employed part-time for economic reasons increased 71.9 percent from 4.750 million in IVQ2007 to 8.166 million in IVQ2012; and (d) U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA increased from 8.7 percent in IVQ2007 to 14.4 percent in IVQ2012.
| Period IQ1980 to IVQ1985 |
| Unemployment Rate IQ1980 NSA End of Quarter | 6.6 |
| Unemployment Rate IVQ1985 NSA End of Quarter | 6.7 |
| Unemployed IQ1980 Millions End of Quarter | 6.983 |
| Unemployed IVQ1985 Millions End of Quarter | 7.717 |
| Employed Part-time Economic Reasons Millions IQ1980 End of Quarter | 3.624 |
| Employed Part-time Economic Reasons Millions IVQ1985 End of Quarter | 5.402 |
| ∆% | 49.1 |
| Period IVQ2007 to IVQ2012 |
| Unemployment Rate IVQ2007 NSA End of Quarter | 4.8 |
| Unemployment Rate IVQ2012 NSA End of Quarter | 7.6 |
| Unemployed IVQ2007 Millions End of Quarter | 7.371 |
| Unemployed IVQ2012 Millions End of Quarter | 11.844 |
| ∆% | 60.7 |
| Employed Part-time Economic Reasons IVQ2007 Millions End of Quarter | 4.750 |
| Employed Part-time Economic Reasons Millions IVQ2012 End of Quarter | 8.166 |
| ∆% | 71.9 |
| U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA | |
| IVQ2007 | 8.7 |
| IVQ2012 | 14.4 |
6. Wealth of Households and Nonprofit Organizations.
i. The comparison of net worth of households and nonprofit organizations in the entire economic cycle from IQ1980 (and also from IVQ1979) to IVQ1985 and from IVQ2007 to IIIQ2012 is provided in the following block and in Table IB-2. Net worth of households and nonprofit organizations increased from $8,326.4 billion in IVQ1979 to $14,395.2 billion in IVQ1985 or 72.9 percent or 69.3 percent from $8,502.9 billion in IQ1980. The starting quarter does not bias the results. The US consumer price index not seasonally adjusted increased from 76.7 in Dec 1979 to 109.3 in Dec 1985 or 42.5 percent or 36.5 percent from 80.1 in Mar 1980 (using consumer price index data from the US Bureau of Labor Statistics at http://www.bls.gov/cpi/data.htm). In terms of purchasing power measured by the consumer price index, real wealth of households and nonprofit organizations increased 21.3 percent in constant purchasing power from IVQ1979 to IVQ1985 or 24.0 percent from IQ1980.
ii. In contrast, as shown in Table IB-2, net worth of households and nonprofit organizations fell from $66,118.3 billion in IVQ2007 to $66,071.7 billion in IVQ2012 by $46.6 billion or 0.1 percent. The US consumer price index was 210.036 in Dec 2007 and 229.601 in Dec 2012 for increase of 9.1 percent. In purchasing power of Dec 2007, wealth of households and nonprofit organizations is lower by 8.4 percent in Dec 2012 after 14 consecutive quarters of expansion from IIIQ2009 to IVQ2012 relative to IVQ2007 when the recession began. The explanation is partly in the sharp decline of wealth of households and nonprofit organizations and partly in the mediocre growth rates of the cyclical expansion beginning in IIIQ2009. The average growth rate from IIIQ2009 to IVQ2012 has been 2.1 percent, which is substantially lower than the average of 6.2 percent in cyclical expansions after World War II and 5.7 percent in the expansion from IQ1983 to IVQ1985 (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). The US missed the opportunity of high growth rates that has been available in past cyclical expansions. US wealth of households and nonprofit organizations grew from IVQ1945 at $710,125.9 million to IIIQ2009 at $64,768,835.3 million or increase of 9,020.8 percent. The consumer price index not seasonally adjusted was 18.2 in Dec 1945 jumping to 231.407 in Sep 2012 or 1,171.5 percent. There was a gigantic increase of US net worth of households and nonprofit organizations over 67 years with inflation adjusted increase of 617.3 percent. The combination of collapse of values of real estate and financial assets during the global recession of IVQ2007 to IIQ2009 caused sharp contraction of US household and nonprofit net worth. Recovery has been in stop-and-go fashion during the worst cyclical expansion in the 67 years when US GDP grew at 2.1 percent on average in 14 quarters between IIIQ2009 and IVQ2012 in contrast with average 5.7 percent from IQ1983 to IVQ1985 and average 6.2 percent during cyclical expansions in those 67 years.
| Period IQ1980 to IVQ1985 | |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ1979 | 8,326.4 |
| IVQ1985 | 14,395.2 |
| ∆ USD Billions | +6,068.8 |
| Period IVQ2007 to IIIQ2012 | |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ2007 | 66,118.3 |
| IVQ2012 | 66,071.7 |
| ∆ USD Billions | -46.6 |
7. Gross Private Domestic Investment.
i. The comparison of gross private domestic investment in the entire economic cycles from IQ1980 to IVQ1985 and from IVQ2007 to IVQ2012 is provided in the following block and in Table IB-2. Gross private domestic investment increased from $778.3 billion in IQ1980 to $965.9 billion in IVQ1985 or by 24.1 percent.
ii In the current cycle, gross private domestic investment decreased from $2,123.6 billion in IVQ2007 to $1,921.7 billion in IVQ2012, or decline by 9.5 percent. Private fixed investment fell from $2,111.5 billion in IVQ2007 to $1894.4 billion in IVQ2012, or decline by 10.3 percent.
| Period IQ1980 to IVQ1985 | |
| Gross Private Domestic Investment USD 2005 Billions | |
| IQ1980 | 778.3 |
| IVQ1985 | 965.9 |
| ∆% | 24.1 |
| Period IVQ2007 to IVQ2012 | |
| Gross Private Domestic Investment USD Billions | |
| IVQ2007 | 2,123.6 |
| IVQ2012 | 1,921.7 |
| ∆% | -9.5 |
| Private Fixed Investment USD 2005 Billions | |
| IVQ2007 | 2,111.5 |
| IVQ2012 | 1,894.4 |
| ∆% | -10.3 |
Table IB-2, US, GDP and Real Disposable Personal Income per Capita Actual and Trend Growth and Employment, 1980-1985 and 2007-2012, SAAR USD Billions, Millions of Persons and ∆%
| Period IQ1980 to IQ1986 | |
| GDP SAAR USD Billions | |
| IQ1980 | 5,903.4 |
| IQ1986 | 7,016.8 |
| ∆% IQ1980 to IQ1986 (19.6 percent from IVQ1982 $5866.0 billion) | 18.9 |
| ∆% Trend Growth IQ1980 to IQ1986 | 20.3 |
| Real Disposable Personal Income per Capita IQ1980 Chained 2005 USD | 18,938 |
| Real Disposable Personal Income per Capita IQ1986 Chained 2005 USD | 21,902 |
| ∆% IQ1980 to IQ1986 | 15.7 |
| ∆% Trend Growth | 13.2 |
| Employed Millions IQ1980 NSA End of Quarter | 98.527 |
| Employed Millions IV1985 NSA End of Quarter | 108.063 |
| ∆% Employed IQ1980 to IVQ1985 | 9.7 |
| Employed Full-time Millions IQ1980 NSA End of Quarter | 81.280 |
| Employed Full-time Millions IVQ1985 NSA End of Quarter | 88.757 |
| ∆% Full-time Employed IQ1980 to IVQ1985 | 9.2 |
| Unemployment Rate IQ1980 NSA End of Quarter | 6.6 |
| Unemployment Rate IVQ1985 NSA End of Quarter | 6.7 |
| Unemployed IQ1980 Millions NSA End of Quarter | 6.983 |
| Unemployed IVQ1985 Millions NSA End of Quarter | 7.717 |
| ∆% | 10.5 |
| Employed Part-time Economic Reasons IQ1980 Millions NSA End of Quarter | 3.624 |
| Employed Part-time Economic Reasons Millions IVQ1985 NSA End of Quarter | 5.402 |
| ∆% | 49.1 |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ1979 | 8,326.4 |
| IVQ1985 | 14,395.2 |
| ∆ USD Billions | +6,068.8 |
| Gross Private Domestic Investment USD 2005 Billions | |
| IQ1980 | 778.3 |
| IVQ1985 | 965.9 |
| ∆% | 24.1 |
| Period IVQ2007 to IVQ2012 | |
| GDP SAAR USD Billions | |
| IVQ2007 | 13,326.0 |
| IVQ2012 | 13,656.8 |
| ∆% IVQ2007 to IVQ2012 | 2.5 |
| ∆% IVQ2007 to IVQ2012 Trend Growth | 16.8 |
| Real Disposable Personal Income per Capita IVQ2007 Chained 2005USD | 32,837 |
| Real Disposable Personal Income per Capita IVQ2012 Chained 2005 USD | 33,143 |
| ∆% IVQ2007 to IVQ2012 | 0.9 |
| ∆% Trend Growth | 10.9 |
| Employed Millions IVQ2007 NSA End of Quarter | 146.334 |
| Employed Millions IVQ2012 NSA End of Quarter | 143.060 |
| ∆% Employed IVQ2007 to IVQ2012 | -2.2 |
| Employed Full-time Millions IVQ2007 NSA End of Quarter | 121.042 |
| Employed Full-time Millions IVQ2012 NSA End of Quarter | 115.079 |
| ∆% Full-time Employed IVQ2007 to IVQ2012 | -4.9 |
| Unemployment Rate IVQ2007 NSA End of Quarter | 4.8 |
| Unemployment Rate IVQ2012 NSA End of Quarter | 7.6 |
| Unemployed IVQ2007 Millions NSA End of Quarter | 7.371 |
| Unemployed IVQ2012 Millions NSA End of Quarter | 11.742 |
| ∆% | 59.3 |
| Employed Part-time Economic Reasons IVQ2007 Millions NSA End of Quarter | 4.750 |
| Employed Part-time Economic Reasons Millions IVQ2012 NSA End of Quarter | 8.166 |
| ∆% | 71.9 |
| U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA | |
| IVQ2007 | 8.7 |
| IVQ2012 | 14.4 |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ2007 | 66,118.3 |
| IVQ2012 | 66,071.7 |
| ∆ USD Billions | -46.6 |
| Gross Private Domestic Investment USD Billions | |
| IVQ2007 | 2,123.6 |
| IVQ2012 | 1,921.7 |
| ∆% | -9.5 |
| Private Fixed Investment USD 2005 Billions | |
| IVQ2007 | 2,111.5 |
| IVQ2012 | 1,894.4 |
| ∆% | -10.3 |
Note: GDP trend growth used is 3.0 percent per year and GDP per capita is 2.0 percent per year as estimated by Lucas (2011May) on data from 1870 to 2010.
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm US Bureau of Labor Statistics http://www.bls.gov/data/. Board of Governors of the Federal Reserve System. 2012Sep20. Flow of funds accounts of the United States. Washington, DC, Federal Reserve System.
The Congressional Budget Office (CBO 2013BEOFeb5) estimates potential GDP, potential labor force and potential labor productivity provided in Table IB-3. The average rate of growth of potential GDP from 1950 to 2012 is estimated at 3.3 percent per year. The projected path is significantly lower at 2.2 percent per year from 2012 to 2023. The legacy of the economic cycle with expansion from IIIQ2009 to IVQ2012 at 2.1 percent on average in contrast with 6.2 percent in prior expansions of the economic cycle in the postwar (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html) may perpetuate unemployment and underemployment estimated at 30.8 million or 19.0 percent of the effective labor force in Feb 2013 (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) with much lower hiring than in the period before the current cycle (http://cmpassocregulationblog.blogspot.com/2013/03/recovery-without-hiring-ten-million.html).
Table IB-3, US, Congressional Budget Office History and Projections of Potential GDP of US Overall Economy, ∆%
| Potential GDP | Potential Labor Force | Potential Labor Productivity* | |
| Average Annual ∆% | |||
| 1950-1973 | 3.9 | 1.6 | 2.3 |
| 1974-1981 | 3.3 | 2.5 | 0.8 |
| 1982-1990 | 3.1 | 1.6 | 1.5 |
| 1991-2001 | 3.1 | 1.3 | 1.8 |
| 2002-2012 | 2.2 | 0.8 | 1.4 |
| Total 1950-2012 | 3.3 | 1.5 | 1.7 |
| Projected Average Annual ∆% | |||
| 2013-2018 | 2.2 | 0.6 | 1.6 |
| 2019-2023 | 2.3 | 0.5 | 1.8 |
| 2012-2023 | 2.2 | 0.5 | 1.7 |
*Ratio of potential GDP to potential labor force
Source: CBO (2013BEOFeb5).
Chart IB-1 of the Congressional Budget Office (CBO 2013BEOFeb5) provides actual and potential GDP of the United States from 2000 to 2011 and projected to 2024. Lucas (2011May) estimates trend of United States real GDP of 3.0 percent from 1870 to 2010 and 2.2 percent for per capita GDP. The United States successfully returned to trend growth of GDP by higher rates of growth during cyclical expansion as analyzed by Bordo (2012Sep27, 2012Oct21) and Bordo and Haubrich (2012DR). Growth in expansions following deeper contractions and financial crises was much higher in agreement with the plucking model of Friedman (1964, 1988). The unusual weakness of growth at 2.1 percent on average from IIIQ2009 to IVQ2012 during the current economic expansion in contrast with 6.2 percent on average in postwar cyclical expansions (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html) cannot be explained by the contraction of 4.7 of GDP from IVQ2007 to IIQ2009 and the financial crisis. Weakness of growth in the expansion is perpetuating unemployment and underemployment of 30.8 million or 19.0 percent of the labor as estimated for Jan 2013 (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) and the collapse of hiring (http://cmpassocregulationblog.blogspot.com/2013/03/recovery-without-hiring-ten-million.html).
Chart IB-1, US, Congressional Budget Office, Actual and Projections of Potential GDP, 2000-2024, Trillions of Dollars
Source: Congressional Budget Office, CBO (2013BEOFeb5).
ESII Squeeze of Economic Activity by Carry Trades from Zero Interest Rates to Costs of Commodities. Deterioration of prices received by producers relative to prices of inputs is occurring worldwide as a result of carry trades from zero policy interest rates to exposures in commodity futures and multiple financial risk assets. This deterioration of relative prices clouds risk/return decisions in the real sector of the economy as well as in financial markets. Data for Japan’s Corporate Goods Price Index and the Philadelphia Fed Survey of Current Business verify deterioration of prices received from production relative to prices of inputs.
There was milder increase in Japan’s export corporate goods price index during the global recession in 2008 but similar sharp decline during the bank balance sheets effect in late 2008, as shown in Chart ESII-1 of the Bank of Japan. Japan exports industrial goods whose prices have been less dynamic than those of commodities and raw materials. As a result, the export CGPI on the yen basis in Chart ESII-1 trends down with oscillations after a brief rise in the final part of the recession in 2009. The export corporate goods price index fell from 104.8 in Jun 2009 to 94 in Feb 2012 or minus 10.3 percent and increased to 105.9 in Feb 2013 for a gain of 12.7 percent relative to Feb 2012 and 1.0 percent relative to Jun 2009. The choice of Jun 2009 is designed to capture the reversal of risk aversion beginning in Sep 2008 with the announcement of toxic assets in banks that would be withdrawn with the Troubled Asset Relief Program (TARP) (Cochrane and Zingales 2009). Reversal of risk aversion in the form of flight to the USD and obligations of the US government opened the way to renewed carry trades from zero interest rates to exposures in risk financial assets such as commodities. Japan exports industrial products and imports commodities and raw materials.
Chart ESII-1-1, Japan, Export Corporate Goods Price Index, Monthly, Yen Basis, 2008-2013
Source: Bank of Japan
http://www.stat-search.boj.or.jp/index_en.html
Chart ESII-2 provides the export corporate goods price index on the basis of the contract currency. The export corporate goods price index on the basis of the contract currency increased from 97.9 in Jun 2009 to 102.3 in Feb 2012 or 4.5 percent but dropped to 101.5 in Feb 2013 or minus 0.8 percent relative to Feb 2012 and gained 3.7 percent relative to Jun 2009.
Chart ESII-2, Japan, Export Corporate Goods Price Index, Monthly, Contract Currency Basis, 2008-2013
Source: Bank of Japan
http://www.stat-search.boj.or.jp/index_en.html
Japan imports primary commodities and raw materials. As a result, the import corporate goods price index on the yen basis in Chart ESII-3 shows an upward trend after the rise during the global recession in 2008 driven by carry trades from fed funds rates collapsing to zero into commodity futures and decline during risk aversion from late 2008 into beginning of 2008 originating in doubts about soundness of US bank balance sheets. More careful measurement should show that the terms of trade of Japan, export prices relative to import prices, declined during the commodity shocks originating in unconventional monetary policy. The decline of the terms of trade restricted potential growth of income in Japan. The import corporate goods price index on the yen basis increased from 93.5 in Jun 2009 to 106.4 in Feb 2012 or 13.8 percent and to 120.4 in Feb 2013 or gain of 13.2 percent relative to Feb 2012 and 28.8 percent relative to Jun 2009. Recent depreciation of the yen relative to the dollar explains the increase in imports in domestic yen prices.
Chart ESII-3, Japan, Import Corporate Goods Price Index, Monthly, Yen Basis, 2008-2013
Source: Bank of Japan
http://www.stat-search.boj.or.jp/index_en.html
Chart ESII-4 provides the import corporate goods price index on the contract currency basis. The import corporate goods price index on the basis of the contract currency increased from 86.2 in Jun 2009 to 115.8 in Feb 2012 or 34.3 percent and to 114.9 in Feb 2013 or minus 0.8 percent relative to Feb 2012 and gain of 33.3 percent relative to Jun 2009. There is evident deterioration of the terms of trade of Japan: the export corporate goods price index on the basis of the contract currency increased 3.7 percent from Jun 2009 to Feb 2012 while the import corporate goods price index increased 33.3 percent. Prices of Japan’s exports of corporate goods, mostly industrial products, increased only 3.7 percent from Jun 2009 to Feb 2012, while imports of corporate goods, mostly commodities and raw materials increased 33.3 percent. Unconventional monetary policy induces carry trades from zero interest rates to exposures in commodities that squeeze economic activity of industrial countries by increases in prices of imported commodities and raw materials during periods without risk aversion. Reversals of carry trades during periods of risk aversion decrease prices of exported commodities and raw materials that squeeze economic activity in economies exporting commodities and raw materials. Devaluation of the dollar by unconventional monetary policy could increase US competitiveness in world markets but economic activity is squeezed by increases in prices of imported commodities and raw materials. Unconventional monetary policy causes instability worldwide instead of the mission of central banks of promoting financial and economic stability.
Chart ESII-4, Japan, Import Corporate Goods Price Index, Monthly, Contract Currency Basis, 2008-2013
Source: Bank of Japan
http://www.stat-search.boj.or.jp/index_en.html
Further insight into inflation of the corporate goods price index (CGPI) of Japan is provided in
Table ESII-1 provides the Bank of Japan’s Corporate Goods Price indexes of exports and imports on the yen and contract bases from Jan 2008 to Feb 2013. There are oscillations of the indexes that are shown vividly in the four charts above. For the entire period from Jan 2008 to Feb 2013, the export index on the contract currency basis increased 2.3 percent and fell 8.3 percent on the yen basis. For the entire period from Jan 2008 to Feb 2013, the import index increased 14.1 percent on the contract currency basis and increased 1.2 percent on the yen basis. The charts show sharp deteriorations in relative prices of exports to prices of imports during multiple periods. Price margins of Japan’s producers are subject to periodic squeezes resulting from carry trades from zero interest rates of monetary policy to exposures in commodities.
Table ESII-1, Japan, Exports and Imports Corporate Goods Price Index, Contract Currency Basis and Yen Basis
| Month | Exports Contract | Exports Yen | Imports Contract Currency | Imports Yen |
| 2008/01 | 99.2 | 115.5 | 100.7 | 119 |
| 2008/02 | 99.8 | 116.1 | 102.4 | 120.6 |
| 2008/03 | 100.5 | 112.6 | 104.5 | 117.4 |
| 2008/04 | 101.6 | 115.3 | 110.1 | 125.2 |
| 2008/05 | 102.4 | 117.4 | 113.4 | 130.4 |
| 2008/06 | 103.5 | 120.7 | 119.5 | 140.3 |
| 2008/07 | 104.7 | 122.1 | 122.6 | 143.9 |
| 2008/08 | 103.7 | 122.1 | 123.1 | 147 |
| 2008/09 | 102.7 | 118.3 | 117.1 | 137.1 |
| 2008/10 | 100.2 | 109.6 | 109.1 | 121.5 |
| 2008/11 | 98.6 | 104.5 | 97.8 | 105.8 |
| 2008/12 | 97.9 | 100.6 | 89.3 | 93 |
| 2009/01 | 98 | 99.5 | 85.6 | 88.4 |
| 2009/02 | 97.5 | 100.1 | 85.7 | 89.7 |
| 2009/03 | 97.3 | 104.2 | 85.2 | 93 |
| 2009/04 | 97.6 | 105.6 | 84.4 | 93 |
| 2009/05 | 97.5 | 103.8 | 84 | 90.8 |
| 2009/06 | 97.9 | 104.9 | 86.2 | 93.5 |
| 2009/07 | 97.5 | 103.1 | 89.2 | 95 |
| 2009/08 | 98.3 | 104.4 | 89.6 | 95.8 |
| 2009/09 | 98.3 | 102.1 | 91 | 94.7 |
| 2009/10 | 98 | 101.2 | 91 | 94 |
| 2009/11 | 98.4 | 100.8 | 92.8 | 94.8 |
| 2009/12 | 98.3 | 100.7 | 95.4 | 97.5 |
| 2010/01 | 99.4 | 102.2 | 97 | 100 |
| 2010/02 | 99.7 | 101.6 | 97.6 | 99.8 |
| 2010/03 | 99.7 | 101.8 | 97 | 99.2 |
| 2010/04 | 100.5 | 104.6 | 99.9 | 104.6 |
| 2010/05 | 100.7 | 102.9 | 101.7 | 104.9 |
| 2010/06 | 100.1 | 101.6 | 100 | 102.3 |
| 2010/07 | 99.4 | 99 | 99.9 | 99.8 |
| 2010/08 | 99.1 | 97.3 | 99.5 | 97.5 |
| 2010/09 | 99.4 | 97 | 100 | 97.2 |
| 2010/10 | 100.1 | 96.4 | 100.5 | 95.8 |
| 2010/11 | 100.7 | 97.4 | 102.6 | 98.2 |
| 2010/12 | 101.2 | 98.3 | 104.4 | 100.6 |
| 2011/01 | 102.1 | 98.6 | 107.2 | 102.6 |
| 2011/02 | 102.9 | 99.5 | 109 | 104.3 |
| 2011/03 | 103.5 | 99.6 | 111.8 | 106.3 |
| 2011/04 | 104.1 | 101.7 | 115.9 | 111.9 |
| 2011/05 | 103.9 | 99.9 | 118.8 | 112.4 |
| 2011/06 | 103.8 | 99.3 | 117.5 | 110.5 |
| 2011/07 | 103.6 | 98.3 | 118.3 | 110.2 |
| 2011/08 | 103.6 | 96.6 | 118.6 | 108.1 |
| 2011/09 | 103.7 | 96.1 | 117 | 106.2 |
| 2011/10 | 102.9 | 95.1 | 116.6 | 105.6 |
| 2011/11 | 101.9 | 94.8 | 115.4 | 105.4 |
| 2011/12 | 101.5 | 94.5 | 116.1 | 106.2 |
| 2012/01 | 101.8 | 94 | 115 | 104.3 |
| 2012/02 | 102.3 | 95.8 | 115.8 | 106.4 |
| 2012/03 | 102.9 | 99.2 | 118.3 | 112.9 |
| 2012/04 | 103 | 98.6 | 119.5 | 113.1 |
| 2012/05 | 102.2 | 96.2 | 118.1 | 109.9 |
| 2012/06 | 101.2 | 94.9 | 115.2 | 106.7 |
| 2012/07 | 100.6 | 94.1 | 112.3 | 103.8 |
| 2012/08 | 100.9 | 94.2 | 112.6 | 103.8 |
| 2012/09 | 101.1 | 94.2 | 114.9 | 105.5 |
| 2012/10 | 101 | 94.7 | 114 | 105.4 |
| 2012/11 | 101 | 96 | 113.5 | 106.8 |
| 2012/12 | 100.8 | 98 | 113.8 | 109.9 |
| 2013/01 | 101.1 | 102.5 | 114.2 | 115.8 |
| 2013/02 | 101.5 | 105.9 | 114.9 | 120.4 |
Source: Bank of Japan http://www.stat-search.boj.or.jp/index_en.html
Further insight into inflation of the corporate goods price index (CGPI) of Japan is provided in Table ESII-2. Petroleum and coal with weight of 5.7 percent increased 3.6 percent in Feb 2013 and increased 8.7 percent in 12 months. Japan exports manufactured products and imports raw materials and commodities such that the country’s terms of trade, or export prices relative to import prices, deteriorate during commodity price increases. In contrast, prices of production machinery, with weight of 3.1 percent, increased 0.0 percent in Feb 2013 and increased 1.0 percent in 12 months. In general, most manufactured products have been experiencing negative or low increases in prices while inflation rates have been high in 12 months for products originating in raw materials and commodities. Ironically, unconventional monetary policy of zero interest rates and quantitative easing that intended to increase aggregate demand and GDP growth deteriorated the terms of trade of advanced economies with adverse effects on real income.
Table ESII-2, Japan, Corporate Goods Prices and Selected Components, % Weights, Month and 12 Months ∆%
| Feb 2013 | Weight | Month ∆% | 12 Month ∆% |
| Total | 1000.0 | 0.4 | -0.1 |
| Food, Beverages, Tobacco, Feedstuffs | 137.5 | 0.1 | 0.5 |
| Petroleum & Coal | 57.4 | 3.6 | 8.7 |
| Production Machinery | 30.8 | 0.0 | 1.0 |
| Electronic Components | 31.0 | 0.1 | -1.9 |
| Electric Power, Gas & Water | 52.7 | -0.5 | 3.8 |
| Iron & Steel | 56.6 | 0.2 | -8.2 |
| Chemicals | 92.1 | 0.8 | 1.0 |
| Transport | 136.4 | 0.0 | -2.2 |
Source: Bank of Japan http://www.stat-search.boj.or.jp/index_en.html http://www.boj.or.jp/en/statistics/pi/cgpi_release/cgpi1302.pdf
Percentage point contributions to change of the corporate goods price index (CGPI) in Feb 2013 are provided in Table ESII-3 divided into domestic, export and import segments. In the domestic CGPI, increasing 0.4 percent in Feb 2013, the energy shock resulting from carry trades is evident in the contribution of 0.25 percentage points by petroleum and coal products in new carry trades of exposures in commodity futures. The exports CGPI increased 0.4 percent on the basis of the contract currency with contribution of 0.16 percentage points by chemicals & related products and 0.12 percentage points by metals & related products. The imports CGPI increased 0.6 percent on the contract currency basis. Petroleum, coal & natural gas added 0.48 percentage points because of new carry trades into energy commodity exposures while other primary products and manufactured goods added 0.03 percentage points. Shocks of risk aversion cause unwinding carry trades that result in declining commodity prices with resulting downward pressure on price indexes. The volatility of inflation adversely affects financial and economic decisions worldwide.
Table ESII-3, Japan, Percentage Point Contributions to Change of Corporate Goods Price Index
| Groups Feb 2013 | Contribution to Change Percentage Points |
| A. Domestic Corporate Goods Price Index | Monthly Change: |
| Petroleum & Coal Products | 0.25 |
| Nonferrous Metals | 0.07 |
| Chemicals & Related Products | 0.07 |
| Agriculture, Forestry & Fishery | 0.04 |
| Scrap & Waste | 0.04 |
| Electric, Power, Gas & Water | -0.03 |
| B. Export Price Index | Monthly Change: |
| Chemicals & Related Products | 0.16 |
| Transportation Equipment | 0.06 |
| Metals & Related Products | 0.05 |
| Other Primary Products & Manufactured Goods | 0.04 |
| C. Import Price Index | Monthly Change: 0.6 % contract currency basis |
| Petroleum, Coal & Natural Gas | 0.48 |
| Metals & Related Products | 0.05 |
| Other Primary Products & Manufactured Goods | 0.03 |
Source: Bank of Japan
http://www.stat-search.boj.or.jp/index_en.html http://www.boj.or.jp/en/statistics/pi/cgpi_release/cgpi1302.pdf
Chart ESII-5 of the Business Outlook Survey of the Federal Reserve Bank of Philadelphia Outlook Survey provides the diffusion index of current prices paid or prices of inputs from 2006 to 2013. Recession dates are in shaded areas. In the middle of deep global contraction after IVQ2007, input prices continued to increase in speculative carry trades from central bank policy rates falling toward zero into commodities futures. The index peaked above 70 in the second half of 2008. Inflation of inputs moderated significantly during the shock of risk aversion in late 2008, even falling briefly into contraction territory below zero during several months in 2009 in the flight away from risk financial assets into US government securities (Cochrane and Zingales 2009) that unwound carry trades. Return of risk appetite induced carry trade with significant increase until return of risk aversion in the first round of the European sovereign debt crisis in Apr 2010. Carry trades returned during risk appetite in expectation that the European sovereign debt crisis was resolved. The various inflation waves originating in carry trades induced by zero interest rates with alternating episodes of risk aversion are mirrored in the prices of inputs after 2011, in particular after Aug 2012 with the announcement of the Outright Monetary Transactions Program of the European Central Bank (http://www.ecb.int/press/pr/date/2012/html/pr120906_1.en.html). Subsequent risk aversion caused sharp decline in the index of prices paid.
Chart ESII-5, Federal Reserve Bank of Philadelphia Business Outlook Survey Current Prices Paid Diffusion Index SA
Source: Federal Reserve Bank of Philadelphia
http://www.philadelphiafed.org/index.cfm
Chart ESII-6 of the Federal Reserve Bank of Philadelphia Outlook Survey provides the diffusion index of current prices received from 2006 to 2013. The significant difference between the index of current prices paid in Chart IV-1 and the index of current prices paid in Chart IV-2 is that increases in prices paid are significantly sharper than increases in prices received. There were several periods of negative readings of prices received from 2010 to 2013 but none of prices paid. Prices paid relative to prices received deteriorate most of the time largely because of the carry trades from zero interest rates to commodity futures. Profit margins of business are compressed intermittently by fluctuations of commodity prices induced by unconventional monetary policy of zero interest rates, frustrating production, investment and hiring decisions of business, which is precisely the opposite outcome desired by unconventional monetary policy.
Chart ESII-6, Federal Reserve Bank of Philadelphia Business Outlook Survey Current Prices Received Diffusion Index SA
Source: Federal Reserve Bank of Philadelphia http://www.philadelphiafed.org/index.cfm
ESIII Global Financial and Economic Risk. The International Monetary Fund (IMF) provides an international safety net for prevention and resolution of international financial crises. The IMF’s Financial Sector Assessment Program (FSAP) provides analysis of the economic and financial sectors of countries (see Pelaez and Pelaez, International Financial Architecture (2005), 101-62, Globalization and the State, Vol. II (2008), 114-23). Relating economic and financial sectors is a challenging task both for theory and measurement. The IMF (2012WEOOct) provides surveillance of the world economy with its Global Economic Outlook (WEO) (http://www.imf.org/external/pubs/ft/weo/2012/02/index.htm), of the world financial system with its Global Financial Stability Report (GFSR) (IMF 2012GFSROct) (http://www.imf.org/external/pubs/ft/gfsr/2012/02/index.htm) and of fiscal affairs with the Fiscal Monitor (IMF 2012FMOct) (http://www.imf.org/external/pubs/ft/fm/2012/02/fmindex.htm). There appears to be a moment of transition in global economic and financial variables that may prove of difficult analysis and measurement. It is useful to consider a summary of global economic and financial risks, which are analyzed in detail in the comments of this blog in Section VI Valuation of Risk Financial Assets, Table VI-4.
Economic risks include the following:
1. China’s Economic Growth. China is lowering its growth target to 7.5 percent per year. China’s GDP growth decelerated significantly from annual equivalent 9.9 percent in IIIQ2011 to 7.0 percent in IVQ2011 and 6.1 percent in IQ2012, rebounding to 8.2 percent in IIQ2012, 9.1 percent in IIIQ2012 and 8.2 percent in IVQ2012. (See Subsection VC at http://cmpassocregulationblog.blogspot.com/2013/01/recovery-without-hiring-world-inflation.html and earlier at http://cmpassocregulationblog.blogspot.com/2012/10/world-inflation-waves-stagnating-united_21.html).
2. United States Economic Growth, Labor Markets and Budget/Debt Quagmire. The US is growing slowly with 30.8 million in job stress, fewer 10 million full-time jobs, high youth unemployment, historically-low hiring and declining real wages.
3. Economic Growth and Labor Markets in Advanced Economies. Advanced economies are growing slowly. There is still high unemployment in advanced economies.
4. World Inflation Waves. Inflation continues in repetitive waves globally (http://cmpassocregulationblog.blogspot.com/2013/03/recovery-without-hiring-ten-million.html and earlier http://cmpassocregulationblog.blogspot.com/2013/02/world-inflation-waves-united-states.html).
A list of financial uncertainties includes:
1. Euro Area Survival Risk. The resilience of the euro to fiscal and financial doubts on larger member countries is still an unknown risk.
2. Foreign Exchange Wars. Exchange rate struggles continue as zero interest rates in advanced economies induce devaluation of their currencies.
3. Valuation of Risk Financial Assets. Valuations of risk financial assets have reached extremely high levels in markets with lower volumes.
4. Duration Trap of the Zero Bound. The yield of the US 10-year Treasury rose from 2.031 percent on Mar 9, 2012, to 2.294 percent on Mar 16, 2012. Considering a 10-year Treasury with coupon of 2.625 percent and maturity in exactly 10 years, the price would fall from 105.3512 corresponding to yield of 2.031 percent to 102.9428 corresponding to yield of 2.294 percent, for loss in a week of 2.3 percent but far more in a position with leverage of 10:1. Min Zeng, writing on “Treasurys fall, ending brutal quarter,” published on Mar 30, 2012, in the Wall Street Journal (http://professional.wsj.com/article/SB10001424052702303816504577313400029412564.html?mod=WSJ_hps_sections_markets), informs that Treasury bonds maturing in more than 20 years lost 5.52 percent in the first quarter of 2012.
5. Credibility and Commitment of Central Bank Policy. There is a credibility issue of the commitment of monetary policy (Sargent and Silber 2012Mar20).
6. Carry Trades. Commodity prices driven by zero interest rates have resumed their increasing path with fluctuations caused by intermittent risk aversion
A competing event is the high level of valuations of risk financial assets (http://cmpassocregulationblog.blogspot.com/2013/01/peaking-valuation-of-risk-financial.html). Matt Jarzemsky, writing on Dow industrials set record,” on Mar 5, 2013, published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424127887324156204578275560657416332.html), analyzes that the DJIA broke the closing high of 14164.53 set on Oct 9, 2007, and subsequently also broke the intraday high of 14198.10 reached on Oct 11, 2007. The DJIA closed at 14514.11 on Fri Mar 15, 2013, which is higher by 2.5 percent than the value of 14,164.52 reached on Oct 9, 2007 and higher by 2.2 percent than the value of 14,198.10 reached on Oct 11, 2007. Values of risk financial are approaching or exceeding historical highs. The highest valuations in column “∆% Trough to 3/22/13” of Table ESIII-1 are by US equities indexes: DJIA 49.8 percent and S&P 500 52.3 percent, driven by stronger earnings and economy in the US than in other advanced economies but with doubts on the relation of business revenue to the weakening economy and fractured job market. DAX of Germany is now 39.5 percent above the trough. The overwhelming risk factor is the unsustainable Treasury deficit/debt of the United States (http://cmpassocregulationblog.blogspot.com/2013/02/united-states-unsustainable-fiscal.html).
Before the current round of risk aversion, almost all assets in the column “∆% Trough to 3/22/13” had double digit gains relative to the trough around Jul 2, 2010 followed by negative performance but now some valuations of equity indexes show varying behavior: China’s Shanghai Composite is 2.3 percent below the trough; Japan’s Nikkei Average is 39.8 percent above the trough; DJ Asia Pacific TSM is 19.9 percent above the trough; Dow Global is 24.4 percent above the trough; STOXX 50 of 50 blue-chip European equities (http://www.stoxx.com/indices/index_information.html?symbol=sx5E) is 17.2 percent above the trough; and NYSE Financial Index is 29.2 percent above the trough. DJ UBS Commodities is 11.3 percent above the trough. DAX index of German equities (http://www.bloomberg.com/quote/DAX:IND) is 39.5 percent above the trough. Japan’s Nikkei Average is 39.8 percent above the trough on Aug 31, 2010 and 8.3 percent above the peak on Apr 5, 2010. The Nikkei Average closed at 12338.53 on Fri Mar 22, 2013 (http://professional.wsj.com/mdc/public/page/marketsdata.html?mod=WSJ_PRO_hps_marketdata), which is 20.3 percent higher than 10,254.43 on Mar 11, 2011, on the date of the Tōhoku or Great East Japan Earthquake/tsunami. Global risk aversion erased the earlier gains of the Nikkei. The dollar depreciated by 8.9 percent relative to the euro and even higher before the new bout of sovereign risk issues in Europe. The column “∆% week to 3/22/13” in Table ESIII-1 shows that there were decreases of valuations of risk financial assets in the week of Mar 15, 2013 such as 1.8 percent for Japan’s Nikkei Average. China Shanghai Composite increased 2.2 percent in the week. DJ UBS Commodities decreased 0.3 percent. Dow Global decreased 1.2 percent in the week of Mar 22, 2013. The DJIA changed 0.0 percent and S&P 500 decreased 0.2 percent. DJ Asia Pacific fell 1.5 percent. DAX of Germany decreased 1.6 percent. NYSE Financial decreased 1.7 percent. The USD appreciated 0.7 percent. There are still high uncertainties on European sovereign risks and banking soundness, US and world growth slowdown and China’s growth tradeoffs. Sovereign problems in the “periphery” of Europe and fears of slower growth in Asia and the US cause risk aversion with trading caution instead of more aggressive risk exposures. There is a fundamental change in Table ESIII-1 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 3/22/13” that provides the percentage change from the peak in Apr 2010 before the sovereign risk event to Mar 22, 2013. Most risk financial assets had gained not only relative to the trough as shown in column “∆% Trough to 3/22/13” but also relative to the peak in column “∆% Peak to 3/22/13.” There are now several equity indexes above the peak in Table ESIII-1: DJIA 29.5 percent, S&P 500 27.9 percent, DAX 24.9 percent, DJ Asia Pacific 5.0 percent, NYSE Financial Index (http://www.nyse.com/about/listed/nykid.shtml) 2.9 percent, Nikkei Average 8.3 percent, Dow Global 1.5 percent. There are two equity indexes below the peak: Shanghai Composite by 26.4 percent and STOXX 50 by 0.7 percent. DJ UBS Commodities Index is now 4.8 percent below the peak. The US dollar strengthened 14.2 percent relative to the peak. The factors of risk aversion have adversely affected the performance of risk financial assets. The performance relative to the peak in Apr 2010 is more important than the performance relative to the trough around early Jul 2010 because improvement could signal that conditions have returned to normal levels before European sovereign doubts in Apr 2010. Kate Linebaugh, writing on “Falling revenue dings stocks,” on Oct 20, 2012, published in the Wall Street Journal (http://professional.wsj.com/article/SB10000872396390444592704578066933466076070.html?mod=WSJPRO_hpp_LEFTTopStories), identifies a key financial vulnerability: falling revenues across markets for United States reporting companies. Global economic slowdown is reducing corporate sales and squeezing corporate strategies. Linebaugh quotes data from Thomson Reuters that 100 companies of the S&P 500 index have reported declining revenue only 1 percent higher in Jun-Sep 2012 relative to Jun-Sep 2011 but about 60 percent of the companies are reporting lower sales than expected by analysts with expectation that revenue for the S&P 500 will be lower in Jun-Sep 2012 for the entities represented in the index. Results of US companies are likely repeated worldwide. It may be quite painful to exit QE→∞ or use of the balance sheet of the central together with zero interest rates forever. The basic valuation equation that is also used in capital budgeting postulates that the value of stocks or of an investment project is given by:
Where Rτ is expected revenue in the time horizon from τ =1 to T; Cτ denotes costs; and ρ is an appropriate rate of discount. In words, the value today of a stock or investment project is the net revenue, or revenue less costs, in the investment period from τ =1 to T discounted to the present by an appropriate rate of discount. In the current weak economy, revenues have been increasing more slowly than anticipated in investment plans. An increase in interest rates would affect discount rates used in calculations of present value, resulting in frustration of investment decisions. If V represents value of the stock or investment project, as ρ → ∞, meaning that interest rates increase without bound, then V → 0, or
![clip_image016[1]](http://lh6.ggpht.com/-vV7YxT45tC4/UU_HW9m7IDI/AAAAAAAASxo/KYFUvIbT3xk/s1600-h/clip_image016%25255B1%25255D%25255B2%25255D.gif "clip_image016[1]"){kind=small}
declines. Equally, decline in expected revenue from the stock or project, Rτ, causes decline in valuation. An intriguing issue is the difference in performance of valuations of risk financial assets and economic growth and employment. Paul A. Samuelson (http://www.nobelprize.org/nobel_prizes/economics/laureates/1970/samuelson-bio.html) popularized the view of the elusive relation between stock markets and economic activity in an often-quoted phrase “the stock market has predicted nine of the last five recessions.” In the presence of zero interest rates forever, valuations of risk financial assets are likely to differ from the performance of the overall economy. The interrelations of financial and economic variables prove difficult to analyze and measure.
Table ESIII-1, Stock Indexes, Commodities, Dollar and 10-Year Treasury
| Peak | Trough | ∆% to Trough | ∆% Peak to 3/22/ /13 | ∆% Week 3/22/13 | ∆% Trough to 3/22/ 13 | |
| DJIA | 4/26/ | 7/2/10 | -13.6 | 29.5 | 0.0 | 49.8 |
| S&P 500 | 4/23/ | 7/20/ | -16.0 | 27.9 | -0.2 | 52.3 |
| NYSE Finance | 4/15/ | 7/2/10 | -20.3 | 2.9 | -1.7 | 29.2 |
| Dow Global | 4/15/ | 7/2/10 | -18.4 | 1.5 | -1.2 | 24.4 |
| Asia Pacific | 4/15/ | 7/2/10 | -12.5 | 5.0 | -1.5 | 19.9 |
| Japan Nikkei Aver. | 4/05/ | 8/31/ | -22.5 | 8.3 | -1.8 | 39.8 |
| China Shang. | 4/15/ | 7/02 | -24.7 | -26.4 | 2.2 | -2.3 |
| STOXX 50 | 4/15/10 | 7/2/10 | -15.3 | -0.7 | -0.9 | 17.2 |
| DAX | 4/26/ | 5/25/ | -10.5 | 24.9 | -1.6 | 39.5 |
| Dollar | 11/25 2009 | 6/7 | 21.2 | 14.2 | 0.7 | -8.9 |
| DJ UBS Comm. | 1/6/ | 7/2/10 | -14.5 | -4.8 | -0.3 | 11.3 |
| 10-Year T Note | 4/5/ | 4/6/10 | 3.986 | 1.931 |
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://professional.wsj.com/mdc/page/marketsdata.html?mod=WSJ_hps_marketdata
I United States Commercial Banks Assets and Liabilities. Selected assets and liabilities of US commercial banks, not seasonally adjusted, in billions of dollars, from Report H.8 of the Board of Governors of the Federal Reserve System are provided in Table I-1. Data are not seasonally adjusted to permit comparison between Feb 2012 and Feb 2013. Total assets of US commercial banks grew 4.2 percent from $12,753.7 billion in Feb 2012 to $13,264.7 billion in Feb 2013. US GDP in 2012 is estimated at $15,681.5 billion (http://www.bea.gov/iTable/index_nipa.cfm). Thus, total assets of US commercial banks are equivalent to around 85 percent of US GDP. Bank credit grew 4.4 percent from $9561.2 billion in Feb 2012 to $9982.4 billion in Feb 2013. Securities in bank credit increased 6.3 percent from $2556.7 billion in Feb 2012 to $2718.4 billion in Feb 2013. A large part of securities in banking credit consists of US Treasury and agency securities, growing 6.1 percent from $1750.9 billion in Feb 2012 to $1857.5 billion in Feb 2013. Credit to the government that issues or backs Treasury and agency securities of $1857.7 billion in Feb 2013 is about 18.6 percent of total bank credit of US commercial banks of $9982.4 billion. Mortgage-backed securities, providing financing of home loans, grew 3.4 percent, from $1293.3 billion in Feb 2012 to $1337.2 billion in Feb 2013. Loans and leases were less dynamic, growing 3.7 percent from $7004.5 billion in Feb 2012 to $7264.0 billion in Feb 2013. The only dynamic class is commercial and industrial loans, growing 11.4 percent from Feb 2012 to Feb 2013 and providing $1531.0 billion or 21.1 percent of total loans and leases of $7264.0 billion in Jan 2013. Real estate loans increased only 0.3 percent, providing $3547.7 billion in Feb 2013 or 48.8 percent of total loans and leases. Consumer loans increased only 2.4 percent, providing $1120.2 billion in Feb 2013 or 15.4 percent of total loans. Cash assets are measured to “include vault cash, cash items in process of collection, balances due from depository institutions and balances due from Federal Reserve Banks” (http://www.federalreserve.gov/releases/h8/current/default.htm). Cash assets in US commercial banks increased 7.3 percent from $1728.9 billion in Feb 2012 to $1854.5 billion in Feb 2013 but a single year of the series masks exploding cash in banks as a result of unconventional monetary policy, which is discussed below. Bank deposits increased 8.2 percent from $8551.0 billion to $9255.1 billion. The difference between bank deposits and total loans and leases in banks increased from $1546.5 billion in Feb 2012 to $1999.1 billion in Feb 2013 or by $444.6 billion, which is similar to the increase in securities in bank credit by $161.7 billion from $2556.7 billion in Feb 2012 to $2718.4 billion in Feb 2013 and to the increase in Treasury and agency securities by $106.8 billion from $1750.9 billion in Feb 2012 to $1857.7 billion in Feb 2013. Loans and leases increased $259.5 billion from $7004.5 billion in Feb 2012 to $7264.0 billion in Feb 2013. Banks expanded both lending and investment in lower risk securities partly because of the weak economy and credit disappointments during the global recession that has resulted in an environment of fewer sound lending opportunities. Lower interest rates resulting from monetary policy may not necessarily encourage higher borrowing in the current loss of dynamism of the US economy with real disposable income per capita in IVQ2012 higher by 0.9 percent than in IVQ2007 (Table IB-1 and earlier http://cmpassocregulationblog.blogspot.com/2013/02/recovery-without-hiring-united-states.html) in contrast with 10.9 percent higher if the economy had performed in long-term growth of per capita income in the United States at 2 percent per year from 1870 to 2010 (Lucas 2011May) and growth of real disposable income by 15.7 percent in the cycle from IQ1980 to IQ1986 that was higher than trend growth of 13.2 percent.
Table I-1, US, Assets and Liabilities of Commercial Banks, NSA, Billions of Dollars
| Feb 2012 | Feb 2013 | ∆% | |
| Total Assets | 12,735.7 | 13,264.7 | 4.2 |
| Bank Credit | 9561.2 | 9982.4 | 4.4 |
| Securities in Bank Credit | 2556.7 | 2718.4 | 6.3 |
| Treasury & Agency Securities | 1750.9 | 1857.7 | 6.1 |
| Mortgage-Backed Securities | 1293.3 | 1337.2 | 3.4 |
| Loans & Leases | 7004.5 | 7264.0 | 3.7 |
| Real Estate Loans | 3538.4 | 3547.7 | 0.3 |
| Consumer Loans | 1093.6 | 1120.2 | 2.4 |
| Commercial & Industrial Loans | 1373.8 | 1531.0 | 11.4 |
| Other Loans & Leases | 998.7 | 1065.1 | 6.6 |
| Cash Assets* | 1728.9 | 1854.5 | 7.3 |
| Total Liabilities | 11,279.9 | 11,761.3 | 4.3 |
| Deposits | 8551.0 | 9255.1 | 8.2 |
Note: balancing item of residual assets less liabilities not included
*”Includes vault cash, cash items in process of collection, balances due from depository institutions and balances due from Federal Reserve Banks.”
Source: Board of Governors of the Federal Reserve System http://www.federalreserve.gov/releases/h8/current/default.htm
Seasonally adjusted annual equivalent rates (SAAR) of change of selected assets and liabilities of US commercial banks from the report H.8 of the Board of Governors of the Federal Reserve System are provided in Table I-2 annually from 2007 to 2012 and for Jan 2013 and Feb 2013. The global recession had strong impact on bank assets as shown by declines of total assets of 6.0 percent in 2009 and 2.7 percent in 2010. Loans and leases fell 10.2 percent in 2009 and 5.8 percent in 2010. Commercial and industrial loans fell 18.6 percent in 2009 and 9.0 percent in 2010. Unconventional monetary policy caused an increase of cash assets of banks of 158.3 percent in 2008, 48.2 percent in 2009, 47.9 percent in 2011 followed by decline by 2.4 percent in 2012 and at the SAAR of 22.4 percent in Aug 2012 but contraction by 49.6 percent in Sep 2012 and 6.3 percent in Oct 2012 followed by increase of 56.0 percent in Nov 2012, minus 7.8 percent in Dec 2012, 39.4 percent in Jan 2013 and 66.6 percent in Feb 2013. Acquisitions of securities for the portfolio of the central bank injected reserves in depository institutions that were held as cash and reserves at the central bank because of the lack of sound lending opportunities and the adverse expectations in the private sector on doing business. The truly dynamic investment of banks has been in securities in bank credit, growing at the SAAR of 15.4 percent in Jul 2012, 2.6 percent in Aug 2012, 5.3 percent in Sep 2012, 4.7 percent in Oct 2012, 1.7 percent in Nov 2012 and 20.5 percent in Dec 2012 with declines at 2.5 percent in Jan 2013 and 3.2 percent in Feb 2013. Throughout the crisis banks allocated increasing part of their assets to the safety of Treasury and agency securities, or credit to the US government and government-backed credit, with growth of 15.3 percent in 2009 and 15.2 percent in 2010 and at the rate of 16.3 percent in Jul 2012, declining to the rate of 3.4 percent in Aug 2012, 2.1 percent in Sep 2012 and 0.7 percent in Oct 2012 but falling at the rate of 0.8 percent in Nov 2012, increasing at 17.2 percent in Dec 2012 but falling at 6.1 percent in Jan 2013 and 3.3 percent in Feb 2013. Deposits grew at the rate of 10.5 percent in Jul 2012, with the rate declining as for most assets of commercial banks to the rate of 6.2 percent in Aug 2012 but increasing to 7.2 percent in Sep 2012, 8.4 percent in Oct 2012, 5.7 percent in Nov 2012, 18.7 percent in Dec 2012, 2.6 percent in Jan 2013 and 4.5 percent in Feb 2013. The credit intermediation function of banks is broken because of adverse expectations on future business and is not easily mended simply by monetary and fiscal policy. Incentives to business and consumers are more likely to be effective in this environment in recovering willingness to assume risk on the part of the private sector, which is the driver of growth and job creation.
Table I-2, US, Selected Assets and Liabilities of Commercial Banks, Seasonally Adjusted Annual Rate, ∆%
| 2008 | 2009 | 2010 | 2011 | 2012 | Jan 2013 | Feb 2013 | |
| Total Assets | 7.9 | -6.0 | -2.7 | 5.4 | 2.4 | 8.4 | 9.0 |
| Bank Credit | 2.1 | -6.6 | -2.8 | 1.8 | 3.9 | 3.5 | 0.6 |
| Securities in Bank Credit | -2.0 | 6.8 | 6.7 | 1.7 | 7.4 | -1.2 | -3.2 |
| Treasury & Agency Securities | 3.1 | 15.3 | 15.2 | 2.9 | 8.5 | -6.1 | -3.3 |
| Other Securities | -8.3 | -4.9 | -7.2 | -0.8 | 5.0 | 9.6 | -3.3 |
| Loans & Leases | 3.3 | -10.2 | -5.8 | 1.8 | 2.7 | 5.3 | 2.1 |
| Real Estate Loans | -0.2 | -5.6 | -5.5 | -3.7 | -1.1 | 3.3 | -2.3 |
| Consumer Loans | 5.1 | -3.3 | -7.1 | -0.7 | 1.1 | -1.0 | 3.1 |
| Commercial & Industrial Loans | 12.9 | -18.6 | -9.0 | 9.5 | 11.4 | 12.6 | 6.6 |
| Other Loans & Leases | 1.8 | -23.3 | 0.3 | 19.4 | 6.3 | 8.6 | 8.6 |
| Cash Assets | 158.3 | 48.2 | -7.9 | 47.9 | -2.4 | 39.4 | 66.6 |
| Total Liabilities | 10.6 | -7.2 | -3.4 | 5.5 | 2.2 | 12.6 | 4.2 |
| Deposits | 5.4 | 5.2 | 2.4 | 6.6 | 7.1 | 2.6 | 4.5 |
Source: Board of Governors of the Federal Reserve System http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-1 of the Board of Governors of the Federal Reserve System provides quarterly seasonally adjusted annual rates (SAAR) of cash assets in US commercial banks from 1973 to 2013. Unconventional monetary policy caused an increase in cash assets in late 2008 of close to 500 percent at SAAR and also in following policy impulses. Such aggressive policies were not required for growth of GDP at the average rate of 5.7 percent in 13 quarters of cyclical expansion from IQ1983 to IV1985 while the average rate in 14 quarters of cyclical expansion from IIIQ2009 to IVQ2012 has been at the rate of 2.1 percent (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). The difference in magnitude of the recessions is not sufficient to explain weakness of the current cyclical expansion. Bordo (2012Sep27) and Bordo and Haubrich (2012DR) find that growth is higher after deeper contractions and contractions with financial crises. There were two consecutive contractions in the 1980s with decline of 2.2 percent in two quarters from IQ1980 to IIIQ1980 and 2.7 percent from IIIQ1981 to IVQ1982 that are almost identical to the contraction of 4.7 percent from IVQ2007 to IIQ2009 (Table I-3 below). There was also a decade-long financial and banking crisis during the 1980s. The debt crisis of 1982 (Pelaez 1986) wiped out a large part of the capital of large US money-center banks. Benston and Kaufman (1997, 139) find that there was failure of 1150 US commercial and savings banks between 1983 and 1990, or about 8 percent of the industry in 1980, which is nearly twice more than between the establishment of the Federal Deposit Insurance Corporation in 1934 through 1983. More than 900 savings and loans associations, representing 25 percent of the industry, were closed, merged or placed in conservatorships (see Pelaez and Pelaez, Regulation of Banks and Finance (2008b), 74-7). The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA) created the Resolution Trust Corporation (RTC) and the Savings Association Insurance Fund (SAIF) that received $150 billion of taxpayer funds to resolve insolvent savings and loans. The GDP of the US in 1989 was $5482.1 billion (http://www.bea.gov/iTable/index_nipa.cfm), such that the partial cost to taxpayers of that bailout was around 2.74 percent of GDP in a year. US GDP in 2012 is estimated at $15,681.5 billion, such that the bailout would be equivalent to cost to taxpayers of about $429.7 billion in current GDP terms. A major difference with the Troubled Asset Relief Program (TARP) for private-sector banks is that most of the costs were recovered with interest gains whereas in the case of savings and loans there was no recovery.
Chart I-1, US, Cash Assets, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-2 of the Board of Governors of the Federal Reserve System provides quarterly SAARs of bank credit at US commercial banks from 1973 to 2013. Rates collapsed sharply during the global recession as during the recessions of the 1980s and then rebounded. In both episodes rates of growth of bank credit did not return to earlier magnitudes.
Chart I-2, US, Bank Credit, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-3 of the Board of Governors of the Federal Reserve System provides deposits at US commercial banks from 1973 to 2013. Deposits fell sharp during and after the global recession but then rebounded in the cyclical expansion.
Chart I-3, US, Deposits, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
There is similar behavior in the 1980s and in the current cyclical expansion of SAARs holdings of Treasury and agency securities in US commercial banks provided in Chart I-4 of the Board of Governors of the Federal Reserve System for the period 1973 to 2013. Sharp reductions of holdings during the contraction were followed by sharp increases.
Chart I-4, US, Treasury and Agency Securities in Bank Credit, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-5 of the Board of Governors of the Federal Reserve System provides SAARs of change of total loans and leases in US commercial banks from 1973 to 2013. The decline in the current cycle of SAARs was much sharper and the rebound did not recover earlier growth rates. Part of the explanation originates in demand for loans that was high during rapid economic growth at 5.7 percent per year on average in the cyclical expansion of the 1980s in contrast with lower demand during tepid economic growth at 2.1 percent per year on average in the current weak expansion.
Chart I-5, US, Loans and Leases in Bank Credit, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
There is significant difference in the two cycles of the 1980s and the current one in quarterly SAARs of real estate loans in US commercial banks provided in Chart I-6 of the Board of Governors of the Federal Reserve System. The difference is explained by the debacle in real estate after 2006 compared to expansion during the 1980s even in the midst of the crisis of savings and loans and real estate credit. In both cases, government policy tried to influence recovery and avoid market clearing.
Chart I-6, US, Real Estate Loans in Bank Credit, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
There is significant difference in quarterly SAARs of change of consumer loans in US commercial banks in the 1980s and during the current cycle as shown in Chart I-7 of the Board of Governors of the Federal Reserve System. Quarterly SAARs of consumer loans in US commercial banks fell sharply during the contraction of 1980 and oscillated with upward trend during the contraction of 1983-1984 but increased sharply in the cyclical expansion. In contrast, SAARs of consumer loans in US commercial banks collapsed to high negative magnitudes during the contraction and have increased at very low magnitudes during the current cyclical expansion.
Chart I-7, US, Consumer Loans in Bank Credit, Commercial Banks, Seasonally Adjusted Annual Rate, Monthly, 1973-2013, ∆%
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Table I-3 provides the data required for broader comparison of the cyclical expansions of IQ1983 to IVQ1985 and the current one from 2009 to 2012. First, in the 13 quarters from IQ1983 to IQ1986, GDP increased 19.6 percent at the annual equivalent rate of 5.7 percent; real disposable personal income (RDPI) increased 14.9 percent at the annual equivalent rate of 4.4 percent; RDPI per capita increased 11.9 percent at the annual equivalent rate of 3.5 percent; and population increased 2.7 percent at the annual equivalent rate of 0.8 percent. Second, in the 14 quarters of the current cyclical expansion from IIIQ2009 to IVQ2012, GDP increased 7.5 percent at the annual equivalent rate of 2.1 percent. In the 14 quarters of cyclical expansion real disposable personal income (RDPI) increased 7.0 percent at the annual equivalent rate of 2.0 percent; RDPI per capita increased 4.4 percent at the annual equivalent rate of 1.3 percent; and population increased 2.5 percent at the annual equivalent rate of 0.7 percent. Third, since the beginning of the recession in IVQ2007 to IVQ2012, GDP increased 2.5 percent, or barely above the level before the recession. Since the beginning of the recession in IVQ2007 to IVQ2012, real disposable personal income increased 5.0 percent at the annual equivalent rate of 0.9 percent; population increased 4.1 percent at the annual equivalent rate of 0.8 percent; and real disposable personal income per capita is 0.9 percent higher than the level before the recession. Real disposable personal income is the actual take home pay after inflation and taxes and real disposable income per capita is what is left per inhabitant. The current cyclical expansion is the worst in the period after World War II in terms of growth of economic activity and income. The United States grew during its history at high rates of per capita income that made its economy the largest in the world. That dynamism is disappearing. Bordo (2012 Sep27) and Bordo and Haubrich (2012DR) provide strong evidence that recoveries have been faster after deeper recessions and recessions with financial crises, casting serious doubts on the conventional explanation of weak growth during the current expansion allegedly because of the depth of the contraction from IVQ2007 to IIQ2009 of 4.7 percent and the financial crisis.
Table I-3, US, GDP, Real Disposable Personal Income, Real Disposable Income per Capita and Population in 1983-85 and 2007-2011, %
| # Quarters | ∆% | ∆% Annual Equivalent | |
| IQ1983 to IVQ1986 | 13 | ||
| GDP | 19.6 | 5.7 | |
| RDPI | 14.9 | 4.4 | |
| RDPI Per Capita | 11.9 | 3.5 | |
| Population | 2.7 | 0.8 | |
| IIIQ2009 to IVQ2012 | 14 | ||
| GDP | 7.5 | 2.1 | |
| RDPI | 7.0 | 2.0 | |
| RDPI per Capita | 4.4 | 1.3 | |
| Population | 2.5 | 0.7 | |
| IVQ2007 to IVQ2012 | 21 | ||
| GDP | 2.5 | 0.5 | |
| RDPI | 5.0 | 0.9 | |
| RDPI per Capita | 0.9 | 0.2 | |
| Population | 4.1 | 0.8 |
RDPI: Real Disposable Personal Income
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm
Chart I-8 of the Board of Governors of the Federal Reserve System provides cash assets in commercial banks not seasonally adjusted in billions of dollars from 1973 to 2013. Acquisitions of securities for the portfolio of the central bank were processed by increases in bank cash reserves. There is no comparable experience in US economic history and such flood of money was never required to return US economic growth to trend of 3 percent per year and 2 percent per year in per capita income after events such as recessions and wars (Lucas 2011May). It is difficult to argue that higher magnitudes of monetary and fiscal policy impulses would have been more successful. Discovery of such painless and fast adjustment by gigantic impulses of monetary policy of zero interest rates and trillions of dollars of bond buying would have occurred earlier with prior cases of successful implementation. Selective incentives to the private sector of a long-term nature could have been more effective.
Chart I-8, US, Cash Assets in Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-9 of the Board of Governors of the Federal Reserve System provides total assets of Federal Reserve Banks in millions of dollars on Wednesdays from Dec 18, 2002 to Feb 20, 2013. This is what is referred as the leverage of the central bank balance sheet in monetary policy (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 157-62, Regulation of Banks and Finance (2009b) 224-27). Consecutive rounds of unconventional monetary policy increased total assets by purchase of mortgage-backed securities, agency securities and Treasury securities. Bank reserves in cash and deposited at the central bank swelled as shown in Chart I-8. The central bank created assets in the form of securities financed with creation of liabilities in the form of reserves of depository institutions.
Chart I-9, US, Total Assets of Federal Reserve Banks, Wednesday Level, Millions of Dollars, Dec 18, 2002 to Feb 20, 2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h41/current/h41.htm#h41tab1
Chart I-10 of the Board of Governors of the Federal Reserve System provides deposits in US commercial banks not seasonally adjusted in billions of dollars from 1973 to 2013. Deposit growth clearly accelerated after 2001 and continued during the current cyclical expansion after bumps during the global recession.
Chart I-10, US, Deposits in Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-11 of the Board of Governors of the Federal Reserve System provides Treasury and agency securities in US commercial banks, not seasonally adjusted, in billions of dollars from 1973 to 2012. Holdings stabilized between the recessions of 2001 and after IVQ2007. There was rapid growth during the global contraction especially after unconventional monetary policy in 2008 and nearly vertical increase without prior similar historical experience during the various bouts of unconventional monetary policy. Banks hoard cash and less risky Treasury and agency securities instead of risky lending because of the weakness of the economy and the lack of demand for financing sound business projects.
Chart I-11, US, Treasury and Agency Securities in Bank Credit, US Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-12 of the Board of Governors of the Federal Reserve System provides total loans and leases in US commercial banks not seasonally adjusted in billions of dollars from 1973 to 2013. Total loans and leases of US commercial banks contracted sharply and have stalled during the cyclical expansion.
Chart I-12, US, Loans and Leases in Bank Credit, US Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-13 of the Board of Governors of the Federal Reserve System provides real estate loans in US commercial banks not seasonally adjusted in billions of dollars from 1973 to 2013. Housing subsidies and low interest rates caused a point of inflexion to higher, nearly vertical growth until 2007. Real estate loans have contracted in downward trend partly because of adverse effects of uncertainty on the impact on balance sheets of the various mechanisms of resolution imposed by policy. Nick Timiraos, writing on “Push for cheaper credit hits wall,” on Dec 24, 2012, published in the Wall Street Journal (http://professional.wsj.com/article/SB10001424127887324660404578197782701079650.html), provides important information and analysis on housing finance. Quantitative easing consists of withdrawing supply of mortgage-backed securities by acquiring them as assets in the Fed balance sheet. Lending banks obtain funds for mortgages by bundling them according to risk and other characteristics and selling them to investors, using the proceeds from the sale to provide the loans to homebuyers or refinancing homeowners. Banks earn net revenue to remunerate capital required for operations from the spread between the rate received from mortgage debtors and the rate implicit in the yield of the mortgage-backed securities. Nick Timiraos (Ibid) finds that the spread was around 0.5 percentage points before the financial crisis of 2007, widening to 1 percentage point after the crisis but jumping to 1.6 percentage points after the Fed engaged in another program of buying mortgage-backed securities, oscillating currently around 1.3 percentage points. The spread has widened because banks have higher costs originating in regulation, litigation on repurchasing defaulted mortgages, loss in case of default and more prudent but more costly scrutiny of property appraisals and income verification. As a result, even if quantitative easing does lower yields of mortgage-backed securities there would not be proportionate reduction in mortgage rates and even less likely construction and sales of houses.
Chart I-13, US, Real Estate Loans in Bank Credit, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-14 of the Board of Governors of the Federal Reserve System provides consumer loans in US commercial banks not seasonally adjusted in billions of dollars from 1973 to 2013. Consumer loans even increased during the contraction then declined and increased vertically to decline again. There was high demand for reposition of durable goods that exhausted and limited consumption again with increase in savings rates in recent periods.
Chart I-14, US, Consumer Loans in Bank Credit, Not Seasonally Adjusted, US Commercial Banks, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart I-15 of the Board of Governors of the Federal Reserve System provides commercial and industrial loans not seasonally adjusted in billions of dollars from 1973 to 2013. Commercial and industrial loans fell sharply during both contractions in 2001 and after IVQ2007 and then rebounded with accelerated growth. Commercial and industrial loans have not reached again the peak during the global recession.
Chart I-15, US, Commercial and Industrial Loans in Bank Credit, US Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
Chart II-16 is quite revealing in analyzing the state of bank credit in the US economy. The upper curves are deposits and loans and leases in bank credit. Historically since 1973, the level and rate of change of deposits and loans and leases in bank credit were almost identical. The lower two curves are Treasury and agency securities in bank credit and cash assets with treasury and agency securities moving closely with cash assets until the 1990s when Treasury and agency securities exceeded cash assets. The shaded area of the recession from IV2007 to IIQ2009 shows a break in the level and rate of movement of the series. Deposits continued to expand rapidly through the recession and the following expansion period. Loans and leases fell and barely recovered the level before the recession while deposits moved nearly vertically well above the level before the recession. While Treasury and agency securities in bank credit continued to expand at a higher rate, reaching a level well above that before the recession, cash assets jumped as the counterpart of excess reserves in banks that financed quantitative easing or massive outright purchases of securities for the balance sheet of the Fed. Unconventional monetary policy of zero interest rates and outright purchases of securities has result in sharp increases of deposits, cash assets and Treasury and agency securities in bank credit but not in loans and leases. Much is said about the almost impossible task of evaluating monetary policy in terms of costs and benefits. Before the financial crisis, Chairman Greenspan (2004) analyzes monetary policy and its limitations (see Pelaez and Pelaez, The Global Recession Risk (2007), 13-4, 212-13) that do not differ from those of private financial institutions:
“The Federal Reserve's experiences over the past two decades make it clear that uncertainty is not just a pervasive feature of the monetary policy landscape; it is the defining characteristic of that landscape. The term "uncertainty" is meant here to encompass both "Knightian uncertainty," in which the probability distribution of outcomes is unknown, and "risk," in which uncertainty of outcomes is delimited by a known probability distribution. In practice, one is never quite sure what type of uncertainty one is dealing with in real time, and it may be best to think of a continuum ranging from well-defined risks to the truly unknown.
As a consequence, the conduct of monetary policy in the United States has come to involve, at its core, crucial elements of risk management. This conceptual framework emphasizes understanding as much as possible the many sources of risk and uncertainty that policymakers face, quantifying those risks when possible, and assessing the costs associated with each of the risks. In essence, the risk management approach to monetary policymaking is an application of Bayesian decision making.
This framework also entails devising, in light of those risks, a strategy for policy directed at maximizing the probabilities of achieving over time our goals of price stability and the maximum sustainable economic growth that we associate with it. In designing strategies to meet our policy objectives, we have drawn on the work of analysts, both inside and outside the Fed, who over the past half century have devoted much effort to improving our understanding of the economy and its monetary transmission mechanism. A critical result has been the identification of a relatively small set of key relationships that, taken together, provide a useful approximation of our economy's dynamics. Such an approximation underlies the statistical models that we at the Federal Reserve employ to assess the likely influence of our policy decisions.
However, despite extensive efforts to capture and quantify what we perceive as the key macroeconomic relationships, our knowledge about many of the important linkages is far from complete and, in all likelihood, will always remain so. Every model, no matter how detailed or how well designed, conceptually and empirically, is a vastly simplified representation of the world that we experience with all its intricacies on a day-to-day basis.
Given our inevitably incomplete knowledge about key structural aspects of an ever-changing economy and the sometimes asymmetric costs or benefits of particular outcomes, a central bank needs to consider not only the most likely future path for the economy but also the distribution of possible outcomes about that path. The decision makers then need to reach a judgment about the probabilities, costs, and benefits of the various possible outcomes under alternative choices for policy.”
“Whale” trades at official institutions do not receive the same media attention as those in large private banking institutions such as the teapot storm over JP Morgan Chase.
Chart I-16, US, Deposits, Treasury and Government Securities in Bank Credit and Loans and Leases in Bank Credit, US Commercial Banks, Not Seasonally Adjusted, Monthly, 1973-2013, Billions of Dollars
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/h8/current/default.htm
IIA4 Theory and Reality of Economic History and Monetary Policy Based on Fear of Deflation. Fear of deflation as had occurred during the Great Depression and in Japan was used as an argument for the first round of unconventional monetary policy with 1 percent interest rates from Jun 2003 to Jun 2004 and quantitative easing in the form of withdrawal of supply of 30-year securities by suspension of the auction of 30-year Treasury bonds with the intention of reducing mortgage rates (for fear of deflation see Pelaez and Pelaez, International Financial Architecture (2005), 18-28, and Pelaez and Pelaez, The Global Recession Risk (2007), 83-95). 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/2011/01/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
If the forecast of the central bank is of recession and low inflation with controlled inflationary expectations, monetary policy should consist of lowering the short-term policy rate of the central bank, which in the US is the fed funds rate. The intended effect is to lower the real rate of interest (Svensson 2003LT, 146-7). The real rate of interest, r, is defined as the nominal rate, i, adjusted by expectations of inflation, π*, with all variables defined as proportions: (1+r) = (1+i)/(1+π*) (Fisher 1930). If i, the fed funds rate, is lowered by the Fed, the numerator of the right-hand side is lower such that if inflationary expectations, π*, remain unchanged, the left-hand (1+r) decreases, that is, the real rate of interest, r, declines. Expectations of lowering short-term real rates of interest by policy of the Federal Open Market Committee (FOMC) fixing a lower fed funds rate would lower long-term real rates of interest, inducing with a lag investment and consumption, or aggregate demand, that can lift the economy out of recession. Inflation also increases with a lag by higher aggregate demand and inflation expectations (Fisher 1933). This reasoning explains why the FOMC lowered the fed funds rate in Dec 2008 to 0 to 0.25 percent and left it unchanged.
The fear of the Fed is expected deflation or negative π*. In that case, (1+ π*) < 1, and (1+r) would increase because the right-hand side of the equation would be divided by a fraction. A simple numerical example explains the effect of deflation on the real rate of interest. Suppose that the nominal rate of interest or fed funds rate, i, is 0.25 percent, or in proportion 0.25/100 = 0.0025, such that (1+i) = 1.0025. Assume now that economic agents believe that inflation will remain at 1 percent for a long period, which means that π* = 1 percent, or in proportion 1/100 =0.01. The real rate of interest, using the equation, is (1+0.0025)/(1+0.01) = (1+r) = 0.99257, such that r = 0.99257 - 1 = -0.00743, which is a proportion equivalent to –(0.00743)100 = -0.743 percent. That is, Fed policy has created a negative real rate of interest of 0.743 percent with the objective of inducing aggregate demand by higher investment and consumption. This is true if expected inflation, π*, remains at 1 percent. Suppose now that expectations of deflation become generalized such that π* becomes -1 percent, that is, the public believes prices will fall at the rate of 1 percent in the foreseeable future. Then the real rate of interest becomes (1+0.0025) divided by (1-0.01) equal to (1.0025)/(0.99) = (1+r) = 1.01263, or r = (1.01263-1) = 0.01263, which results in positive real rate of interest of (0.01263)100 = 1.263 percent.
Irving Fisher also identified the impact of deflation on debts as an important cause of deepening contraction of income and employment during the Great Depression illustrated by an actual example (Fisher 1933, 346):
“By March, 1933, liquidation had reduced the debts about 20 percent, but had increased the dollar about 75 percent, so that the real debt, that is the debt measured in terms of commodities, was increased about 40 percent [100%-20%)X(100%+75%) =140%]. Unless some counteracting cause comes along to prevent the fall in the price level, such a depression as that of 1929-1933 (namely when the more the debtors pay the more they owe) tends to continue, going deeper, in a vicious spiral, for many years. There is then no tendency of the boat to stop tipping until it has capsized”
The nominal rate of interest must always be nonnegative, that is, i ≥ 0 (Hick 1937, 154-5):
“If the costs of holding money can be neglected, it will always be profitable to hold money rather than lend it out, if the rate of interest is not greater than zero. Consequently the rate of interest must always be positive. In an extreme case, the shortest short-term rate may perhaps be nearly zero. But if so, the long-term rate must lie above it, for the long rate has to allow for the risk that the short rate may rise during the currency of the loan, and it should be observed that the short rate can only rise, it cannot fall”
The interpretation by Hicks of the General Theory of Keynes is the special case in which at interest rates close to zero liquidity preference is infinitely or perfectly elastic, that is, the public holds infinitely large cash balances at that near zero interest rate because there is no opportunity cost of foregone interest. Increases in the money supply by the central bank would not decrease interest rates below their near zero level, which is called the liquidity trap. The only alternative public policy would consist of fiscal policy that would act similarly to an increase in investment, increasing employment without raising the interest rate.
An influential view on the policy required to steer the economy away from the liquidity trap is provided by Paul Krugman (1998). Suppose the central bank faces an increase in inflation. An important ingredient of the control of inflation is the central bank communicating to the public that it will maintain a sustained effort by all available policy measures and required doses until inflation is subdued and price stability is attained. If the public believes that the central bank will control inflation only until it declines to a more benign level but not sufficiently low level, current expectations will develop that inflation will be higher once the central bank abandons harsh measures. During deflation and recession the central bank has to convince the public that it will maintain zero interest rates and other required measures until the rate of inflation returns convincingly to a level consistent with expansion of the economy and stable prices. Krugman (1998, 161) summarizes the argument as:
“The ineffectuality of monetary policy in a liquidity trap is really the result of a looking-glass version of the standard credibility problem: monetary policy does not work because the public expects that whatever the central bank may do now, given the chance, it will revert to type and stabilize prices near their current level. If the central bank can credibly promise to be irresponsible—that is, convince the market that it will in fact allow prices to rise sufficiently—it can bootstrap the economy out of the trap”
This view is consistent with results of research by Christina Romer that “the rapid rates of growth of real output in the mid- and late 1930s were largely due to conventional aggregate demand stimulus, primarily in the form of monetary expansion. My calculations suggest that in the absence of these stimuli the economy would have remained depressed far longer and far more deeply than it actually did” (Romer 1992, 757-8, cited in Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 210-2). The average growth rate of the money supply in 1933-1937 was 10 percent per year and increased in the early 1940s. Romer calculates that GDP would have been much lower without this monetary expansion. The growth of “the money supply was primarily due to a gold inflow, which was in turn due to the devaluation in 1933 and to capital flight from Europe because of political instability after 1934” (Romer 1992, 759). Gold inflow coincided with the decline in real interest rates in 1933 that remained negative through the latter part of the 1930s, suggesting that they could have caused increases in spending that was sensitive to declines in interest rates. Bernanke finds dollar devaluation against gold to have been important in preventing further deflation in the 1930s (Bernanke 2002):
“There have been times when exchange rate policy has been an effective weapon against deflation. A striking example from US history is Franklin Roosevelt’s 40 percent devaluation of the dollar against gold in 1933-34, enforced by a program of gold purchases and domestic money creation. The devaluation and the rapid increase in money supply it permitted ended the US deflation remarkably quickly. Indeed, consumer price inflation in the United States, year on year, went from -10.3 percent in 1932 to -5.1 percent in 1933 to 3.4 percent in 1934. The economy grew strongly, and by the way, 1934 was one of the best years of the century for the stock market”
Fed policy is seeking what Irving Fisher proposed “that great depressions are curable and preventable through reflation and stabilization” (Fisher 1933, 350).
The President of the Federal Reserve Bank of Chicago argues that (Charles Evans 2010):
“I believe the US economy is best described as being in a bona fide liquidity trap. Highly plausible projections are 1 percent for core Personal Consumption Expenditures (PCE) inflation at the end of 2012 and 8 percent for the unemployment rate. For me, the Fed’s dual mandate misses are too large to shrug off, and there is currently no policy conflict between improving employment and inflation outcomes”
There are two types of monetary policies that could be used in this situation. First, the Fed could announce a price-level target to be attained within a reasonable time frame (Evans 2010):
“For example, if the slope of the price path is 2 percent and inflation has been underunning the path for some time, monetary policy would strive to catch up to the path. Inflation would be higher than 2 percent for a time until the path was reattained”
Optimum monetary policy with interest rates near zero could consist of “bringing the price level back up to a level even higher than would have prevailed had the disturbance never occurred” (Gauti Eggertsson and Michael Woodford 2003, 207). Bernanke (2003JPY) explains as follows:
“Failure by the central bank to meet its target in a given period leads to expectations of (and public demands for) increased effort in subsequent periods—greater quantities of assets purchased on the open market for example. So even if the central bank is reluctant to provide a time frame for meetings its objective, the structure of the price-level objective provides a means for the bank to commit to increasing its anti-deflationary efforts when its earlier efforts prove unsuccessful. As Eggertsson and Woodford show, the expectations that an increasing price level gap will give rise to intensified effort by the central bank should lead the public to believe that ultimately inflation will replace deflation, a belief that supports the central bank’s own objectives by lowering the current real rate of interest”
Second, the Fed could use its balance sheet to increase purchases of long-term securities together with credible commitment to maintain the policy until the dual mandates of maximum employment and price stability are attained.
In the restatement of the liquidity trap and large-scale policies of monetary/fiscal stimulus, Krugman (1998, 162) finds:
“In the traditional open economy IS-LM model developed by Robert Mundell [1963] and Marcus Fleming [1962], and also in large-scale econometric models, monetary expansion unambiguously leads to currency depreciation. But there are two offsetting effects on the current account balance. On one side, the currency depreciation tends to increase net exports; on the other side, the expansion of the domestic economy tends to increase imports. For what it is worth, policy experiments on such models seem to suggest that these effects very nearly cancel each other out.
Krugman (1998) uses a different dynamic model with expectations that leads to similar conclusions.
The central bank could also be pursuing competitive devaluation of the national currency in the belief that it could increase inflation to a higher level and promote domestic growth and employment at the expense of growth and unemployment in the rest of the world. An essay by Chairman Bernanke in 1999 on Japanese monetary policy received attention in the press, stating that (Bernanke 2000, 165):
“Roosevelt’s specific policy actions were, I think, less important than his willingness to be aggressive and experiment—in short, to do whatever it took to get the country moving again. Many of his policies did not work as intended, but in the end FDR deserves great credit for having the courage to abandon failed paradigms and to do what needed to be done”
Quantitative easing has never been proposed by Chairman Bernanke or other economists as certain science without adverse effects. What has not been mentioned in the press is another suggestion to the Bank of Japan (BOJ) by Chairman Bernanke in the same essay that is very relevant to current events and the contentious issue of ongoing devaluation wars (Bernanke 2000, 161):
“Because the BOJ has a legal mandate to pursue price stability, it certainly could make a good argument that, with interest rates at zero, depreciation of the yen is the best available tool for achieving its mandated objective. The economic validity of the beggar-thy-neighbor thesis is doubtful, as depreciation creates trade—by raising home country income—as well as diverting it. Perhaps not all those who cite the beggar-thy-neighbor thesis are aware that it had its origins in the Great Depression, when it was used as an argument against the very devaluations that ultimately proved crucial to world economic recovery. A yen trading at 100 to the dollar is in no one’s interest”
Chairman Bernanke is referring to the argument by Joan Robinson based on the experience of the Great Depression that: “in times of general unemployment a game of beggar-my-neighbour is played between the nations, each one endeavouring to throw a larger share of the burden upon the others” (Robinson 1947, 156). Devaluation is one of the tools used in these policies (Robinson 1947, 157). Banking crises dominated the experience of the United States, but countries that recovered were those devaluing early such that competitive devaluations rescued many countries from a recession as strong as that in the US (see references to Ehsan Choudhri, Levis Kochin and Barry Eichengreen in Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 205-9; for the case of Brazil that devalued early in the Great Depression recovering with an increasing trade balance see Pelaez, 1968, 1968b, 1972; Brazil devalued and abandoned the gold standard during crises in the historical period as shown by Pelaez 1976, Pelaez and Suzigan 1981). Beggar-my-neighbor policies did work for individual countries but the criticism of Joan Robinson was that it was not optimal for the world as a whole.
Is depreciation of the dollar the best available tool currently for achieving the dual mandate of higher inflation and lower unemployment? Bernanke (2002) finds dollar devaluation against gold to have been important in preventing further deflation in the 1930s (http://www.federalreserve.gov/boarddocs/speeches/2002/20021121/default.htm):
“Although a policy of intervening to affect the exchange value of the dollar is nowhere on the horizon today, it's worth noting that there have been times when exchange rate policy has been an effective weapon against deflation. A striking example from U.S. history is Franklin Roosevelt's 40 percent devaluation of the dollar against gold in 1933-34, enforced by a program of gold purchases and domestic money creation. The devaluation and the rapid increase in money supply it permitted ended the U.S. deflation remarkably quickly. Indeed, consumer price inflation in the United States, year on year, went from -10.3 percent in 1932 to -5.1 percent in 1933 to 3.4 percent in 1934.17 The economy grew strongly, and by the way, 1934 was one of the best years of the century for the stock market. If nothing else, the episode illustrates that monetary actions can have powerful effects on the economy, even when the nominal interest rate is at or near zero, as was the case at the time of Roosevelt's devaluation.”
Should the US devalue following Roosevelt? Or has monetary policy intended devaluation? Fed policy is seeking, deliberately or as a side effect, what Irving Fisher proposed “that great depressions are curable and preventable through reflation and stabilization” (Fisher, 1933, 350). The Fed has created not only high volatility of assets but also what many countries are regarding as a competitive devaluation similar to those criticized by Nurkse (1944). 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.
The producer price index of the US from 1947 to 2013 in Chart I-17 shows various periods of more rapid or less rapid inflation but no bumps. The major event is the decline in 2008 when risk aversion because of the global recession caused the collapse of oil prices from $148/barrel to less than $80/barrel with most other commodity prices also collapsing. The event had nothing in common with explanations of deflation but rather with the concentration of risk exposures in commodities after the decline of stock market indexes. Eventually, there was a flight to government securities because of the fears of insolvency of banks caused by statements supporting proposals for withdrawal of toxic assets from bank balance sheets in the Troubled Asset Relief Program (TARP), as explained by Cochrane and Zingales (2009). The bump in 2008 with decline in 2009 is consistent with the view that zero interest rates with subdued risk aversion induce carry trades into commodity futures.
Chart I-17, US, Producer Price Index, Finished Goods, NSA, 1947-2013
Source: US Bureau of Labor Statistics
Chart I-18 provides 12-month percentage changes of the producer price index from 1948 to 2013. The distinguishing event in Chart I-18 is the Great Inflation of the 1970s. The shape of the two-hump Bactrian camel of the 1970s resembles the double hump from 2007 to 2013.
Chart I-18, US, Producer Price Index, Finished Goods, 12-Month Percentage Change, NSA, 1948-2013
Source: US Bureau of Labor Statistics
Annual percentage changes of the producer price index from 1948 to 2012 are shown in Table I-4. The producer price index fell 2.8 percent in 1949 following the adjustment to World War II and fell 0.6 percent in 1952 and 1.0 percent in 1953 around the Korean War. There are two other mild decline of 0.3 percent in 1959 and 0.3 percent in 1963. There are only few subsequent and isolated declines of the producer price index of 1.4 percent in 1986, 0.8 percent in 1998, 1.3 percent in 2002 and 2.6 percent in 2009. The decline of 2009 was caused by unwinding of carry trades in 2008 that had lifted oil prices to $140/barrel during deep global recession because of the panic of probable toxic assets in banks that would be removed with the Troubled Asset Relief Program (TARP) (Cochrane and Zingales 2009). There is no evidence in this history of 65 years of the US producer price index suggesting that there is frequent and persistent deflation shock requiring aggressive unconventional monetary policy. The design of such anti-deflation policy could provoke price and financial instability because of lags in effect of monetary policy, model errors, inaccurate forecasts and misleading analysis of current economic conditions.
Table I-4, US, Annual PPI Inflation ∆% 1948-2012
| Year | Annual |
| 1948 | 8.0 |
| 1949 | -2.8 |
| 1950 | 1.8 |
| 1951 | 9.2 |
| 1952 | -0.6 |
| 1953 | -1.0 |
| 1954 | 0.3 |
| 1955 | 0.3 |
| 1956 | 2.6 |
| 1957 | 3.8 |
| 1958 | 2.2 |
| 1959 | -0.3 |
| 1960 | 0.9 |
| 1961 | 0.0 |
| 1962 | 0.3 |
| 1963 | -0.3 |
| 1964 | 0.3 |
| 1965 | 1.8 |
| 1966 | 3.2 |
| 1967 | 1.1 |
| 1968 | 2.8 |
| 1969 | 3.8 |
| 1970 | 3.4 |
| 1971 | 3.1 |
| 1972 | 3.2 |
| 1973 | 9.1 |
| 1974 | 15.4 |
| 1975 | 10.6 |
| 1976 | 4.5 |
| 1977 | 6.4 |
| 1978 | 7.9 |
| 1979 | 11.2 |
| 1980 | 13.4 |
| 1981 | 9.2 |
| 1982 | 4.1 |
| 1983 | 1.6 |
| 1984 | 2.1 |
| 1985 | 1.0 |
| 1986 | -1.4 |
| 1987 | 2.1 |
| 1988 | 2.5 |
| 1989 | 5.2 |
| 1990 | 4.9 |
| 1991 | 2.1 |
| 1992 | 1.2 |
| 1993 | 1.2 |
| 1994 | 0.6 |
| 1995 | 1.9 |
| 1996 | 2.7 |
| 1997 | 0.4 |
| 1998 | -0.8 |
| 1999 | 1.8 |
| 2000 | 3.8 |
| 2001 | 2.0 |
| 2002 | -1.3 |
| 2003 | 3.2 |
| 2004 | 3.6 |
| 2005 | 4.8 |
| 2006 | 3.0 |
| 2007 | 3.9 |
| 2008 | 6.3 |
| 2009 | -2.6 |
| 2010 | 4.2 |
| 2011 | 6.0 |
| 2012 | 1.9 |
Chart I-19 provides the consumer price index NSA from 1913 to 2013. The dominating characteristic is the increase in slope during the Great Inflation from the middle of the 1960s through the 1970s. There is long-term inflation in the US and no evidence of deflation risks.
Chart I-19, US, Consumer Price Index, NSA, 1914-2013
Source: US Bureau of Labor Statistics http://www.bls.gov/cpi/data.htm
Chart I-20 provides 12-month percentage changes of the consumer price index from 1914 to 2013. The only episode of deflation after 1950 is in 2009, which is explained by the reversal of speculative commodity futures carry trades that were induced by interest rates driven to zero in a shock of monetary policy in 2008. The only persistent case of deflation is from 1930 to 1933, which has little if any relevance to the contemporary United States economy. There are actually three waves of inflation in the second half of the 1960s, in the mid 1970s and again in the late 1970s. Inflation rates then stabilized in a range with only two episodes above 5 percent.
Chart I-20, US, Consumer Price Index, All Items, 12- Month Percentage Change 1914-2013
Source: US Bureau of Labor Statistics http://www.bls.gov/cpi/data.htm
Table I-5 provides annual percentage changes of United States consumer price inflation from 1914 to 2013. There have been only cases of annual declines of the CPI after wars: (1) World War I minus 10.5 percent in 1921 and minus 6.1 percent in 1922 following cumulative increases of 83.5 percent in four years from 1917 to 1920 at the average of 16.4 percent per year; (2) World War II: minus 1.2 percent in 1949 following cumulative 33.9 percent in three years from 1946 to 1948 at average 10.2 percent per year (3) minus 0.4 percent in 1955 two years after the end of the Korean War; and (4) minus 0.4 percent in 2009. The decline of 0.4 percent in 2009 followed increase of 3.8 percent in 2008 and is explained by the reversal of speculative carry trades into commodity futures that were created in 2008 as monetary policy rates were driven to zero. The reversal occurred after misleading statement on toxic assets in banks in the proposal for TARP (Cochrane and Zingales 2009). There were declines of 1.7 percent in both 1927 and 1928 during the episode of revival of rules of the gold standard. The only persistent deflationary period since 1914 was during the Great Depression in the years from 1930 to 1933 and again in 1938-1939. Fear of deflation on the basis of that experience does not justify unconventional monetary policy of zero interest rates that has failed to stop deflation in Japan. Financial repression causes far more adverse effects on allocation of resources by distorting the calculus of risk/returns than alleged employment-creating effects or there would not be current recovery without jobs and hiring after zero interest rates since Dec 2008 and intended now forever in a self-imposed forecast growth and employment mandate of monetary policy.
Table I-5, US, Annual CPI Inflation ∆% 1914-2012
| Year | Annual |
| 1914 | 1.0 |
| 1915 | 1.0 |
| 1916 | 7.9 |
| 1917 | 17.4 |
| 1918 | 18.0 |
| 1919 | 14.6 |
| 1920 | 15.6 |
| 1921 | -10.5 |
| 1922 | -6.1 |
| 1923 | 1.8 |
| 1924 | 0.0 |
| 1925 | 2.3 |
| 1926 | 1.1 |
| 1927 | -1.7 |
| 1928 | -1.7 |
| 1929 | 0.0 |
| 1930 | -2.3 |
| 1931 | -9.0 |
| 1932 | -9.9 |
| 1933 | -5.1 |
| 1934 | 3.1 |
| 1935 | 2.2 |
| 1936 | 1.5 |
| 1937 | 3.6 |
| 1938 | -2.1 |
| 1939 | -1.4 |
| 1940 | 0.7 |
| 1941 | 5.0 |
| 1942 | 10.9 |
| 1943 | 6.1 |
| 1944 | 1.7 |
| 1945 | 2.3 |
| 1946 | 8.3 |
| 1947 | 14.4 |
| 1948 | 8.1 |
| 1949 | -1.2 |
| 1950 | 1.3 |
| 1951 | 7.9 |
| 1952 | 1.9 |
| 1953 | 0.8 |
| 1954 | 0.7 |
| 1955 | -0.4 |
| 1956 | 1.5 |
| 1957 | 3.3 |
| 1958 | 2.8 |
| 1959 | 0.7 |
| 1960 | 1.7 |
| 1961 | 1.0 |
| 1962 | 1.0 |
| 1963 | 1.3 |
| 1964 | 1.3 |
| 1965 | 1.6 |
| 1966 | 2.9 |
| 1967 | 3.1 |
| 1968 | 4.2 |
| 1969 | 5.5 |
| 1970 | 5.7 |
| 1971 | 4.4 |
| 1972 | 3.2 |
| 1973 | 6.2 |
| 1974 | 11.0 |
| 1975 | 9.1 |
| 1976 | 5.8 |
| 1977 | 6.5 |
| 1978 | 7.6 |
| 1979 | 11.3 |
| 1980 | 13.5 |
| 1981 | 10.3 |
| 1982 | 6.2 |
| 1983 | 3.2 |
| 1984 | 4.3 |
| 1985 | 3.6 |
| 1986 | 1.9 |
| 1987 | 3.6 |
| 1988 | 4.1 |
| 1989 | 4.8 |
| 1990 | 5.4 |
| 1991 | 4.2 |
| 1992 | 3.0 |
| 1993 | 3.0 |
| 1994 | 2.6 |
| 1995 | 2.8 |
| 1996 | 3.0 |
| 1997 | 2.3 |
| 1998 | 1.6 |
| 1999 | 2.2 |
| 2000 | 3.4 |
| 2001 | 2.8 |
| 2002 | 1.6 |
| 2003 | 2.3 |
| 2004 | 2.7 |
| 2005 | 3.4 |
| 2006 | 3.2 |
| 2007 | 2.8 |
| 2008 | 3.8 |
| 2009 | -0.4 |
| 2010 | 1.6 |
| 2011 | 3.2 |
| 2012 | 2.1 |
Source: US Bureau of Labor Statistics http://www.bls.gov/cpi/data.htm
Friedman (1969) finds that the optimal rule for the quantity of money is deflation at a rate that results in a zero nominal interest rate (see Ireland 2003 and Cole and Kocherlakota 1998). Atkeson and Kehoe (2004) argue that central bankers are not inclined to implement policies that could result in deflation because of the interpretation of the Great Depression as closely related to deflation. They use panel data on inflation and growth of real output for 17 countries over more than 100 years. The time-series data for each individual country are broken into five-year events with deflation measured as average negative inflation and depression as average negative growth rate of real output. Atkeson and Kehoe (2004) find that the Great Depression from 1929 to 1934 is the only case of association between deflation and depression without any evidence whatsoever of such relation in any other period. Their conclusion is (Atkeson and Kehoe 2004, 99): “Our finding thus suggests that policymakers’ fear of anticipated policy-induced deflation that would result from following, say, the Friedman rule is greatly overblown.” Their conclusion on the experience of Japan is (Atkeson and Kehoe 2004, 99):
“Since 1960, Japan’s average growth rates have basically fallen monotonically, and since 1970, its average inflation rates have too. Attributing this 40-year slowdown to monetary forces is a stretch. More reasonable, we think, is that much of the slowdown is the natural pattern for a country that was far behind the world leaders and had begun to catch up.”
In the sample of Atkeson and Kehoe (2004), there are only eight five-year periods besides the Great Depression with both inflation and depression. Deflation and depression is shown in 65 cases with 21 of depression without deflation. There is no depression in 65 of 73 five-year periods and there is no deflation in 29 episodes of depression. There is a remarkable result of no depression in 90 percent of deflation episodes. Excluding the Great Depression, there is virtually no relation of deflation and depression. Atkeson and Kehoe (2004, 102) find that the average growth rate of Japan of 1.41 percent in the 1990s is “dismal” when compared with 3.20 percent in the United States but is not “dismal” when compared with 1.61 percent for Italy and 1.84 percent for France, which are also catch-up countries in modern economic growth (see Atkeson and Kehoe 1998). The conclusion of Atkeson and Kehoe (2004), without use of controls, is that there is no association of deflation and depression in their dataset.
Benhabib and Spiegel (2009) use a dataset similar to that of Atkeson and Kehoe (2004) but allowing for nonlinearity and inflation volatility. They conclude that in cases of low and negative inflation an increase of average inflation of 1 percent is associated with an increase of 0.31 percent of average annual growth. The analysis of Benhabib and Spiegel (2009) leads to the significantly different conclusion that inflation and economic performance are strongly associated for low and negative inflation. There is no claim of causality by Atkeson and Kehoe (2004) and Benhabib and Spiegel (2009).
Delfim Netto (1959) partly reprinted in Pelaez (1973) conducted two classical nonparametric tests (Mann 1945, Wallis and Moore 1941; see Kendall and Stuart 1968) with coffee-price data in the period of free markets from 1857 to 1906 with the following conclusions (Pelaez, 1976a, 280):
“First, the null hypothesis of no trend was accepted with high confidence; secondly, the null hypothesis of no oscillation was rejected also with high confidence. Consequently, in the nineteenth century international prices of coffee fluctuated but without long-run trend. This statistical fact refutes the extreme argument of structural weakness of the coffee trade.”
In his classic work on the theory of international trade, Jacob Viner (1937, 563) analyzed the “index of total gains from trade,” or “amount of gain per unit of trade,” denoted as T:
T= (∆Pe/∆Pi)∆Q
Where ∆Pe is the change in export prices, ∆Pi is the change in import prices and ∆Q is the change in export volume. Dorrance (1948, 52) restates “Viner’s index of total gain from trade” as:
“What should be done is to calculate an index of the value (quantity multiplied by price) of exports and the price of imports for any country whose foreign accounts are to be analysed. Then the export value index should be divided by the import price index. The result would be an index which would reflect, for the country concerned, changes in the volume of imports obtainable from its export income (i.e. changes in its "real" export income, measured in import terms). The present writer would suggest that this index be referred to as the ‘income terms of trade’ index to differentiate it from the other indexes at present used by economists.”
What really matters for an export activity especially during modernization is the purchasing value of goods that it exports in terms of prices of imports. For a primary producing country, the purchasing power of exports in acquiring new technology from the country providing imports is the critical measurement. The barter terms of trade of Brazil improved from 1857 to 1906 because international coffee prices oscillated without trend (Delfim Netto 1959) while import prices from the United Kingdom declined at the rate of 0.5 percent per year (Imlah 1958). The accurate measurement of the opportunity afforded by the coffee exporting economy was incomparably greater when considering the purchasing power in British prices of the value of coffee exports, or Dorrance’s (1948) income terms of trade.
The conventional theory that the terms of trade of Brazil deteriorated over the long term is without reality (Pelaez 1976a, 280-281):
“Moreover, physical exports of coffee by Brazil increased at the high average rate of 3.5 per cent per year. Brazil's exchange receipts from coffee-exporting in sterling increased at the average rate of 3.5 per cent per year and receipts in domestic currency at 4.5 per cent per year. Great Britain supplied nearly all the imports of the coffee economy. In the period of the free coffee market, British export prices declined at the rate of 0.5 per cent per year. Thus, the income terms of trade of the coffee economy improved at the relatively satisfactory average rate of 4.0 per cent per year. This is only a lower bound of the rate of improvement of the terms of trade. While the quality of coffee remained relatively constant, the quality of manufactured products improved significantly during the fifty-year period considered. The trade data and the non-parametric tests refute conclusively the long-run hypothesis. The valid historical fact is that the tropical export economy of Brazil experienced an opportunity of absorbing rapidly increasing quantities of manufactures from the "workshop" countries. Therefore, the coffee trade constituted a golden opportunity for modernization in nineteenth-century Brazil.”
Imlah (1958) provides decline of British export prices at 0.5 percent in the nineteenth century and there were no lost decades, depressions or unconventional monetary policies in the highly dynamic economy of England that drove the world’s growth impulse. Inflation in the United Kingdom between 1857 and 1906 is measured by the composite price index of O’Donoghue and Goulding (2004) at minus 7.0 percent or average rate of decline of 0.2 percent per year.
Simon Kuznets (1971) analyzes modern economic growth in his Lecture in Memory of Alfred Nobel:
“The major breakthroughs in the advance of human knowledge, those that constituted dominant sources of sustained growth over long periods and spread to a substantial part of the world, may be termed epochal innovations. And the changing course of economic history can perhaps be subdivided into economic epochs, each identified by the epochal innovation with the distinctive characteristics of growth that it generated. Without considering the feasibility of identifying and dating such economic epochs, we may proceed on the working assumption that modern economic growth represents such a distinct epoch - growth dating back to the late eighteenth century and limited (except in significant partial effects) to economically developed countries. These countries, so classified because they have managed to take adequate advantage of the potential of modern technology, include most of Europe, the overseas offshoots of Western Europe, and Japan—barely one quarter of world population.”
Cameron (1961) analyzes the mechanism by which the Industrial Revolution in Great Britain spread throughout Europe and Cameron (1967) analyzes the financing by banks of the Industrial Revolution in Great Britain. O’Donoghue and Goulding (2004) provide consumer price inflation in England since 1750 and MacFarlane and Mortimer-Lee (1994) analyze inflation in England over 300 years. Lucas (2004) estimates world population and production since the year 1000 with sustained growth of per capita incomes beginning to accelerate for the first time in English-speaking countries and in particular in the Industrial Revolution in Great Britain. The conventional theory is unequal distribution of the gains from trade and technical progress between the industrialized countries and developing economies (Singer 1950, 478):
“Dismissing, then, changes in productivity as a governing factor in changing terms of trade, the following explanation presents itself: the fruits of technical progress may be distributed either to producers (in the form of rising incomes) or to consumers (in the form of lower prices). In the case of manufactured commodities produced in more developed countries, the former method, i.e., distribution to producers through higher incomes, was much more important relatively to the second method, while the second method prevailed more in the case of food and raw material production in the underdeveloped countries. Generalizing, we may say -that technical progress in manufacturing industries showed in a rise in incomes while technical progress in the production of food and raw materials in underdeveloped countries showed in a fall in prices”
Temin (1997, 79) uses a Ricardian trade model to discriminate between two views on the Industrial Revolution with an older view arguing broad-based increases in productivity and a new view concentration of productivity gains in cotton manufactures and iron:
“Productivity advances in British manufacturing should have lowered their prices relative to imports. They did. Albert Imlah [1958] correctly recognized this ‘severe deterioration’ in the net barter terms of trade as a signal of British success, not distress. It is no surprise that the price of cotton manufactures fell rapidly in response to productivity growth. But even the price of woolen manufactures, which were declining as a share of British exports, fell almost as rapidly as the price of exports as a whole. It follows, therefore, that the traditional ‘old-hat’ view of the Industrial Revolution is more accurate than the new, restricted image. Other British manufactures were not inefficient and stagnant, or at least, they were not all so backward. The spirit that motivated cotton manufactures extended also to activities as varied as hardware and haberdashery, arms, and apparel.”
Phyllis Deane (1968, 96) estimates growth of United Kingdom gross national product (GNP) at around 2 percent per year for several decades in the nineteenth century. The facts that the terms of trade of Great Britain deteriorated during the period of epochal innovation and high rates of economic growth while the income terms of trade of the coffee economy of nineteenth-century Brazil improved at the average yearly rate of 4.0 percent from 1857 to 1906 disprove the hypothesis of weakness of trade as an explanation of relatively lower income and wealth. As Temin (1997) concludes, Britain did pass on lower prices and higher quality the benefits of technical innovation. Explanation of late modernization must focus on laborious historical research on institutions and economic regimes together with economic theory, data gathering and measurement instead of grand generalizations of weakness of trade and alleged neocolonial dependence (Stein and Stein 1970, 134-5):
“Great Britain, technologically and industrially advanced, became as important to the Latin American economy as to the cotton-exporting southern United States. [After Independence in the nineteenth century] Latin America fell back upon traditional export activities, utilizing the cheapest available factor of production, the land, and the dependent labor force.”
The experience of the United Kingdom with deflation and economic growth is relevant and rich. Table I-6 provides yearly percentage changes of the composite index of prices of the United Kingdom of O’Donoghue and Goulding (2004). There are 73 declines of inflation in the 145 years from 1751 to 1896. Prices declined in 50.3 percent of 145 years. Some price declines were quite sharp and many occurred over several years. Table I-6 also provides yearly percentage changes of the UK composite price index of O’Donoghue and Goulding (2004) from 1929 to 1934. Deflation was much sharper in continuous years in earlier periods than during the Great Depression. The United Kingdom could not have led the world in modern economic growth if there were meaningful causality from deflation to depression.
Table I-6, United Kingdom, Negative Percentage Changes of Composite Price Index, 1751-1896, 1929-1934, Yearly ∆%
| Year | ∆% | Year | ∆% | Year | ∆% | Year | ∆% |
| 1751 | -2.7 | 1797 | -10.0 | 1834 | -7.8 | 1877 | -0.7 |
| 1753 | -2.7 | 1798 | -2.2 | 1841 | -2.3 | 1878 | -2.2 |
| 1755 | -6.0 | 1802 | -23.0 | 1842 | -7.6 | 1879 | -4.4 |
| 1758 | -0.3 | 1803 | -5.9 | 1843 | -11.3 | 1881 | -1.1 |
| 1759 | -7.9 | 1806 | -4.4 | 1844 | -0.1 | 1883 | -0.5 |
| 1760 | -4.5 | 1807 | -1.9 | 1848 | -12.1 | 1884 | -2.7 |
| 1761 | -4.5 | 1811 | -2.9 | 1849 | -6.3 | 1885 | -3.0 |
| 1768 | -1.1 | 1814 | -12.7 | 1850 | -6.4 | 1886 | -1.6 |
| 1769 | -8.2 | 1815 | -10.7 | 1851 | -3.0 | 1887 | -0.5 |
| 1770 | -0.4 | 1816 | -8.4 | 1857 | -5.6 | 1893 | -0.7 |
| 1773 | -0.3 | 1819 | -2.5 | 1858 | -8.4 | 1894 | -2.0 |
| 1775 | -5.6 | 1820 | -9.3 | 1859 | -1.8 | 1895 | -1.0 |
| 1776 | -2.2 | 1821 | -12.0 | 1862 | -2.6 | 1896 | -0.3 |
| 1777 | -0.4 | 1822 | -13.5 | 1863 | -3.6 | 1929 | -0.9 |
| 1779 | -8.5 | 1826 | -5.5 | 1864 | -0.9 | 1930 | -2.8 |
| 1780 | -3.4 | 1827 | -6.5 | 1868 | -1.7 | 1931 | -4.3 |
| 1785 | -4.0 | 1828 | -2.9 | 1869 | -5.0 | 1932 | -2.6 |
| 1787 | -0.6 | 1830 | -6.1 | 1874 | -3.3 | 1933 | -2.1 |
| 1789 | -1.3 | 1832 | -7.4 | 1875 | -1.9 | 1934 | 0.0 |
| 1791 | -0.1 | 1833 | -6.1 | 1876 | -0.3 |
Source:
O’Donoghue, Jim and Louise Goulding, 2004. Consumer Price Inflation since 1750. UK Office for National Statistics Economic Trends 604, Mar 2004, 38-46.
Lucas (2011May) estimates US economic growth in the long-term at 3 percent per year and about 2 percent per year in per capita terms. There are displacements from this trend caused by events such as wars and recessions but the economy then returns to trend. Historical US GDP data exhibit remarkable growth: Lucas (2011May) estimates an increase of US real income per person by a factor of 12 in the period from 1870 to 2010. The explanation by Lucas (2011May) of this remarkable growth experience is that government provided stability and education while elements of “free-market capitalism” were an important driver of long-term growth and prosperity. The analysis is sharpened by comparison with the long-term growth experience of G7 countries (US, UK, France, Germany, Canada, Italy and Japan) and Spain from 1870 to 2010. Countries benefitted from “common civilization” and “technology” to “catch up” with the early growth leaders of the US and UK, eventually growing at a faster rate. Significant part of this catch up occurred after World War II. If deflation causes depressions as embedded in the theory of unconventional monetary policy, the United Kingdom would not have been a growth leader in the nineteenth century while staying almost half of the time in deflation.
Nicholas Georgescu-Rogen (1960, 1) reprinted in Pelaez (1973) argues that “the agrarian economy has to this day remained a reality without theory.” The economic history of Latin America shares with the relation of deflation and unconventional monetary policy a more frustrating intellectual misfortune: theory without reality. MacFarlane and Mortimer-Lee (1994, 159) quote in a different context a phrase by Thomas Henry Huxley in the President’s Address to the British Association for the Advancement of Science on Sep 14, 1870 that is appropriate to these issues: “The great tragedy of science—the slaying of a beautiful hypothesis by an ugly fact.”
IB Collapse of United States Dynamism of Income Growth and Employment Creation. There are four major approaches to the analysis of the depth of the financial crisis and global recession from IVQ2007 (Dec) to IIQ2009 (Jun) and the subpar recovery from IIIQ2009 (Jul) to the present IVQ2012: (1) deeper contraction and slower recovery in recessions with financial crises; (2) counterfactual of avoiding deeper contraction by fiscal and monetary policies; (3) counterfactual that the financial crises and global recession would have been avoided had economic policies been different; and (4) evidence that growth rates are higher after deeper recessions with financial crises. A counterfactual consists of theory and measurements of what would have occurred otherwise if economic policies or institutional arrangements had been different. This task is quite difficult because economic data are observed with all effects as they actually occurred while the counterfactual attempts to evaluate how data would differ had policies and institutional arrangements been different (see Pelaez and Pelaez, Globalization and the State, Vol. I (2008b), 125, 136; Pelaez 1979, 26-8). Counterfactual data are unobserved and must be calculated using theory and measurement methods. The measurement of costs and benefits of projects or applied welfare economics (Harberger 1971, 1997) specifies and attempts to measure projects such as what would be economic welfare with or without a bridge or whether markets would be more or less competitive in the absence of antitrust and regulation laws (Winston 2006). Counterfactuals were used in the “new economic history” of the United States to measure the economy with or without railroads (Fishlow 1965, Fogel 1964) and also in analyzing slavery (Fogel and Engerman 1974). A critical counterfactual in economic history is how Britain surged ahead of France (North and Weingast 1989). These four approaches are discussed below in turn followed with comparison of the two recessions of the 1980s from IQ1980 (Jan) to IIIQ1980 (Jul) and from IIIQ1981 (Jul) to IVQ1982 (Nov) as dated by the National Bureau of Economic Research (NBER http://www.nber.org/cycles.html). These comparisons are not idle exercises, defining the interpretation of history and even possibly critical policies and institutional arrangements. There is active debate on these issues (Bordo 2012Oct 21 http://www.bloomberg.com/news/2012-10-21/why-this-u-s-recovery-is-weaker.html Reinhart and Rogoff, 2012Oct14 http://www.economics.harvard.edu/faculty/rogoff/files/Is_US_Different_RR_3.pdf Taylor 2012Oct 25 http://www.johnbtaylorsblog.blogspot.co.uk/2012/10/an-unusually-weak-recovery-as-usually.html, Wolf 2012Oct23 http://www.ft.com/intl/cms/s/0/791fc13a-1c57-11e2-a63b-00144feabdc0.html#axzz2AotsUk1q).
(1) Lower Growth Rates in Recessions with Financial Crises. A monumental effort of data gathering, calculation and analysis by Professors Carmen M. Reinhart and Kenneth Rogoff at Harvard University is highly relevant to banking crises, financial crash, debt crises and economic growth (Reinhart 2010CB; Reinhart and Rogoff 2011AF, 2011Jul14, 2011EJ, 2011CEPR, 2010FCDC, 2010GTD, 2009TD, 2009AFC, 2008TDPV; see also Reinhart and Reinhart 2011Feb, 2010AF and Reinhart and Sbrancia 2011). See http://cmpassocregulationblog.blogspot.com/2011/07/debt-and-financial-risk-aversion-and.html. The dataset of Reinhart and Rogoff (2010GTD, 1) is quite unique in breadth of countries and over time periods:
“Our results incorporate data on 44 countries spanning about 200 years. Taken together, the data incorporate over 3,700 annual observations covering a wide range of political systems, institutions, exchange rate and monetary arrangements and historic circumstances. We also employ more recent data on external debt, including debt owed by government and by private entities.”
Reinhart and Rogoff (2010GTD, 2011CEPR) classify the dataset of 2317 observations into 20 advanced economies and 24 emerging market economies. In each of the advanced and emerging categories, the data for countries is divided into buckets according to the ratio of gross central government debt to GDP: below 30, 30 to 60, 60 to 90 and higher than 90 (Reinhart and Rogoff 2010GTD, Table 1, 4). Median and average yearly percentage growth rates of GDP are calculated for each of the buckets for advanced economies. There does not appear to be any relation for debt/GDP ratios below 90. The highest growth rates are for debt/GDP ratios below 30: 3.7 percent for the average and 3.9 for the median. Growth is significantly lower for debt/GDP ratios above 90: 1.7 for the average and 1.9 percent for the median. GDP growth rates for the intermediate buckets are in a range around 3 percent: the highest 3.4 percent average is for the bucket 60 to 90 and 3.1 percent median for 30 to 60. There is even sharper contrast for the United States: 4.0 percent growth for debt/GDP ratio below 30; 3.4 percent growth for debt/GDP ratio of 30 to 60; 3.3 percent growth for debt/GDP ratio of 60 to 90; and minus 1.8 percent, contraction, of GDP for debt/GDP ratio above 90.
For the five countries with systemic financial crises—Iceland, Ireland, UK, Spain and the US—real average debt levels have increased by 75 percent between 2007 and 2009 (Reinhart and Rogoff 2010GTD, Figure 1). The cumulative increase in public debt in the three years after systemic banking crisis in a group of episodes after World War II is 86 percent (Reinhart and Rogoff 2011CEPR, Figure 2, 10).
An important concept is “this time is different syndrome,” which “is rooted in the firmly-held belief that financial crises are something that happens to other people in other countries at other times; crises do not happen here and now to us” (Reinhart and Rogoff 2010FCDC, 9). There is both an arrogance and ignorance in “this time is different” syndrome, as explained by Reinhart and Rogoff (2010FCDC, 34):
“The ignorance, of course, stems from the belief that financial crises happen to other people at other time in other places. Outside a small number of experts, few people fully appreciate the universality of financial crises. The arrogance is of those who believe they have figured out how to do things better and smarter so that the boom can long continue without a crisis.”
There is sober warning by Reinhart and Rogoff (2011CEPR, 42) on the basis of the momentous effort of their scholarly data gathering, calculation and analysis:
“Despite considerable deleveraging by the private financial sector, total debt remains near its historic high in 2008. Total public sector debt during the first quarter of 2010 is 117 percent of GDP. It has only been higher during a one-year sting at 119 percent in 1945. Perhaps soaring US debt levels will not prove to be a drag on growth in the decades to come. However, if history is any guide, that is a risky proposition and over-reliance on US exceptionalism may only be one more example of the “This Time is Different” syndrome.”
As both sides of the Atlantic economy maneuver around defaults the experience on debt and growth deserves significant emphasis in research and policy. The world economy is slowing with high levels of unemployment in advanced economies. Countries do not grow themselves out of unsustainable debts but rather through de facto defaults by means of financial repression and in some cases through inflation. The conclusion is that this time is not different.
Professor Alan M. Taylor (2012) at the University of Virginia analyzes own and collaborative research on 140 years of history with data from 14 advanced economies in the effort to elucidate experience preceding, during and after financial crises. The conclusion is (Allan M. Taylor 2012, 8):
“Recessions might be painful, but they tend to be even more painful when combined with financial crises or (worse) global crises, and we already know that post-2008 experience will not overturn this conclusion. The impact on credit is also very strong: financial crises lead to strong setbacks in the rate of growth of loans as compared to what happens in normal recessions, and this effect is strong for global crises. Finally, inflation generally falls in recessions, but the downdraft is stronger in financial crisis times.”
Alan M. Taylor (2012) also finds that advanced economies entered the global recession with the largest financial sector in history. There was doubling after 1980 of the ratio of loans to GDP and tripling of the size of bank balance sheets. In contrast, in the period from 1950 to 1970 there was high investment, savings and growth in advanced economies with firm regulation of finance and controls of foreign capital flows.
(2) Counterfactual of the Global Recession. There is a difficult decision on when to withdraw the fiscal stimulus that could have adverse consequences on current growth and employment analyzed by Krugman (2011Jun18). CBO (2011JunLTBO, Chapter 2) considers the timing of withdrawal as well as the equally tough problems that result from not taking prompt action to prevent a possible debt crisis in the future. Krugman (2011Jun18) refers to Eggertsson and Krugman (2010) on the possible contractive effects of debt. The world does not become poorer as a result of debt because an individual’s asset is another’s liability. Past levels of credit may become unacceptable by credit tightening, such as during a financial crisis. Debtors are forced into deleveraging, which results in expenditure reduction, but there may not be compensatory effects by creditors who may not be in need of increasing expenditures. The economy could be pushed toward the lower bound of zero interest rates, or liquidity trap, remaining in that threshold of deflation and high unemployment.
Analysis of debt can lead to the solution of the timing of when to cease stimulus by fiscal spending (Krugman 2011Jun18). Excessive debt caused the financial crisis and global recession and it is difficult to understand how more debt can recover the economy. Krugman (2011Jun18) argues that the level of debt is not important because one individual’s asset is another individual’s liability. The distribution of debt is important when economic agents with high debt levels are encountering different constraints than economic agents with low debt levels. The opportunity for recovery may exist in borrowing by some agents that can adjust the adverse effects of past excessive borrowing by other agents. As Krugman (2011Jun18, 20) states:
“Suppose, in particular, that the government can borrow for a while, using the borrowed money to buy useful things like infrastructure. The true social cost of these things will be very low, because the spending will be putting resources that would otherwise be unemployed to work. And government spending will also make it easier for highly indebted players to pay down their debt; if the spending is sufficiently sustained, it can bring the debtors to the point where they’re no longer so severely balance-sheet constrained, and further deficit spending is no longer required to achieve full employment. Yes, private debt will in part have been replaced by public debt – but the point is that debt will have been shifted away from severely balance-sheet-constrained players, so that the economy’s problems will have been reduced even if the overall level of debt hasn’t fallen. The bottom line, then, is that the plausible-sounding argument that debt can’t cure debt is just wrong. On the contrary, it can – and the alternative is a prolonged period of economic weakness that actually makes the debt problem harder to resolve.”
Besides operational issues, the consideration of this argument would require specifying and measuring two types of gains and losses from this policy: (1) the benefits in terms of growth and employment currently; and (2) the costs of postponing the adjustment such as in the exercise by CBO (2011JunLTO, 28-31) in Table 11. It may be easier to analyze the costs and benefits than actual measurement.
An analytical and empirical approach is followed by Blinder and Zandi (2010), using the Moody’s Analytics model of the US economy with four different scenarios: (1) baseline with all policies used; (2) counterfactual including all fiscal stimulus policies but excluding financial stimulus policies; (3) counterfactual including all financial stimulus policies but excluding fiscal stimulus; and (4) a scenario excluding all policies. The scenario excluding all policies is an important reference or the counterfactual of what would have happened if the government had been entirely inactive. A salient feature of the work by Blinder and Zandi (2010) is the consideration of both fiscal and financial policies. There was probably more activity with financial policies than with fiscal policies. Financial policies included the Fed balance sheet, 11 facilities of direct credit to illiquid segments of financial markets, interest rate policy, the Financial Stability Plan including stress tests of banks, the Troubled Asset Relief Program (TARP) and others (see Pelaez and Pelaez, Financial Regulation after the Global Recession (2009b), 157-67; Regulation of Banks and Finance (2009a), 224-7).
Blinder and Zandi (2010, 4) find that:
“In the scenario that excludes all the extraordinary policies, the downturn continues into 2011. Real GDP falls a stunning 7.4% in 2009 and another 3.7% in 2010 (see Table 3). The peak-to-trough decline in GDP is therefore close to 12%, compared to an actual decline of about 4%. By the time employment hits bottom, some 16.6 million jobs are lost in this scenario—about twice as many as actually were lost. The unemployment rate peaks at 16.5%, and although not determined in this analysis, it would not be surprising if the underemployment rate approached one-fourth of the labor force. The federal budget deficit surges to over $2 trillion in fiscal year 2010, $2.6 trillion in fiscal year 2011, and $2.25 trillion in FY 2012. Remember, this is with no policy response. With outright deflation in prices and wages in 2009-2011, this dark scenario constitutes a 1930s-like depression.”
The conclusion by Blinder and Zandi (2010) is that if the US had not taken massive fiscal and financial measures the economy could have suffered far more during a prolonged period. There are still a multitude of questions that cloud understanding of the impact of the recession and what would have happened without massive policy impulses. Some effects are quite difficult to measure. An important argument by Blinder and Zandi (2010) is that this evaluation of counterfactuals is relevant to the need of stimulus if economic conditions worsened again.
(3) Counterfactual of Policies Causing the Financial Crisis and Global Recession. The counterfactual of avoidance of deeper and more prolonged contraction by fiscal and monetary policies is not the critical issue. As Professor John B. Taylor (2012Oct25) argues the critically important counterfactual is that the financial crisis and global recessions would have not occurred in the first place if different economic policies had been followed. The counterfactual intends to verify that a combination of housing policies and discretionary monetary policies instead of rules (Taylor 1993) caused, deepened and prolonged the financial crisis (Taylor 2007, 2008Nov, 2009, 2012FP, 2012Mar27, 2012Mar28, 2012JMCB; see http://cmpassocregulationblog.blogspot.com/2012/06/rules-versus-discretionary-authorities.html) and that the experience resembles that of the Great Inflation of the 1960s and 1970s with stop-and-go growth/inflation that coined the term stagflation (http://cmpassocregulationblog.blogspot.com/2012/06/rules-versus-discretionary-authorities.html 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 and Appendix I).
The explanation of the sharp contraction of United States housing can probably be found in the origins of the financial crisis and global recession. Let V(T) represent the value of the firm’s equity at time T and B stand for the promised debt of the firm to bondholders and assume that corporate management, elected by equity owners, is acting on the interests of equity owners. Robert C. Merton (1974, 453) states:
“On the maturity date T, the firm must either pay the promised payment of B to the debtholders or else the current equity will be valueless. Clearly, if at time T, V(T) > B, the firm should pay the bondholders because the value of equity will be V(T) – B > 0 whereas if they do not, the value of equity would be zero. If V(T) ≤ B, then the firm will not make the payment and default the firm to the bondholders because otherwise the equity holders would have to pay in additional money and the (formal) value of equity prior to such payments would be (V(T)- B) < 0.”
Pelaez and Pelaez (The Global Recession Risk (2007), 208-9) apply this analysis to the US housing market in 2005-2006 concluding:
“The house market [in 2006] is probably operating with low historical levels of individual equity. There is an application of structural models [Duffie and Singleton 2003] to the individual decisions on whether or not to continue paying a mortgage. The costs of sale would include realtor and legal fees. There could be a point where the expected net sale value of the real estate may be just lower than the value of the mortgage. At that point, there would be an incentive to default. The default vulnerability of securitization is unknown.”
There are multiple important determinants of the interest rate: “aggregate wealth, the distribution of wealth among investors, expected rate of return on physical investment, taxes, government policy and inflation” (Ingersoll 1987, 405). Aggregate wealth is a major driver of interest rates (Ibid, 406). Unconventional monetary policy, with zero fed funds rates and flattening of long-term yields by quantitative easing, causes uncontrollable effects on risk taking that can have profound undesirable effects on financial stability. Excessively aggressive and exotic monetary policy is the main culprit and not the inadequacy of financial management and risk controls.
The net worth of the economy depends on interest rates. In theory, “income is generally defined as the amount a consumer unit could consume (or believe that it could) while maintaining its wealth intact” (Friedman 1957, 10). Income, Y, is a flow that is obtained by applying a rate of return, r, to a stock of wealth, W, or Y = rW (Ibid). According to a subsequent restatement: “The basic idea is simply that individuals live for many years and that therefore the appropriate constraint for consumption decisions is the long-run expected yield from wealth r*W. This yield was named permanent income: Y* = r*W” (Darby 1974, 229), where * denotes permanent. The simplified relation of income and wealth can be restated as:
W = Y/r (1)
Equation (1) shows that as r goes to zero, r →0, W grows without bound, W→∞.
Lowering the interest rate near the zero bound in 2003-2004 caused the illusion of permanent increases in wealth or net worth in the balance sheets of borrowers and also of lending institutions, securitized banking and every financial institution and investor in the world. The discipline of calculating risks and returns was seriously impaired. The objective of monetary policy was to encourage borrowing, consumption and investment but the exaggerated stimulus resulted in a financial crisis of major proportions as the securitization that had worked for a long period was shocked with policy-induced excessive risk, imprudent credit, high leverage and low liquidity by the incentive to finance everything overnight at close to zero interest rates, from adjustable rate mortgages (ARMS) to asset-backed commercial paper of structured investment vehicles (SIV).
The consequences of inflating liquidity and net worth of borrowers were a global hunt for yields to protect own investments and money under management from the zero interest rates and unattractive long-term yields of Treasuries and other securities. Monetary policy distorted the calculations of risks and returns by households, business and government by providing central bank cheap money. Short-term zero interest rates encourage financing of everything with short-dated funds, explaining the SIVs created off-balance sheet to issue short-term commercial paper to purchase default-prone mortgages that were financed in overnight or short-dated sale and repurchase agreements (Pelaez and Pelaez, Financial Regulation after the Global Recession, 50-1, Regulation of Banks and Finance, 59-60, Globalization and the State Vol. I, 89-92, Globalization and the State Vol. II, 198-9, Government Intervention in Globalization, 62-3, International Financial Architecture, 144-9). ARMS were created to lower monthly mortgage payments by benefitting from lower short-dated reference rates. Financial institutions economized in liquidity that was penalized with near zero interest rates. There was no perception of risk because the monetary authority guaranteed a minimum or floor price of all assets by maintaining low interest rates forever or equivalent to writing an illusory put option on wealth. Subprime mortgages were part of the put on wealth by an illusory put on house prices. The housing subsidy of $221 billion per year created the impression of ever increasing house prices. The suspension of auctions of 30-year Treasuries was designed to increase demand for mortgage-backed securities, lowering their yield, which was equivalent to lowering the costs of housing finance and refinancing. Fannie and Freddie purchased or guaranteed $1.6 trillion of nonprime mortgages and worked with leverage of 75:1 under Congress-provided charters and lax oversight. The combination of these policies resulted in high risks because of the put option on wealth by near zero interest rates, excessive leverage because of cheap rates, low liquidity because of the penalty in the form of low interest rates and unsound credit decisions because the put option on wealth by monetary policy created the illusion that nothing could ever go wrong, causing the credit/dollar crisis and global recession (Pelaez and Pelaez, Financial Regulation after the Global Recession, 157-66, Regulation of Banks, and Finance, 217-27, International Financial Architecture, 15-18, The Global Recession Risk, 221-5, Globalization and the State Vol. II, 197-213, Government Intervention in Globalization, 182-4).
There are significant elements of the theory of bank financial fragility of Diamond and Dybvig (1983) and Diamond and Rajan (2000, 2001a, 2001b) that help to explain the financial fragility of banks during the credit/dollar crisis (see also Diamond 2007). The theory of Diamond and Dybvig (1983) as exposed by Diamond (2007) is that banks funding with demand deposits have a mismatch of liquidity (see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 58-66). A run occurs when too many depositors attempt to withdraw cash at the same time. All that is needed is an expectation of failure of the bank. Three important functions of banks are providing evaluation, monitoring and liquidity transformation. Banks invest in human capital to evaluate projects of borrowers in deciding if they merit credit. The evaluation function reduces adverse selection or financing projects with low present value. Banks also provide important monitoring services of following the implementation of projects, avoiding moral hazard that funds be used for, say, real estate speculation instead of the original project of factory construction. The transformation function of banks involves both assets and liabilities of bank balance sheets. Banks convert an illiquid asset or loan for a project with cash flows in the distant future into a liquid liability in the form of demand deposits that can be withdrawn immediately.
In the theory of banking of Diamond and Rajan (2000, 2001a, 2001b), the bank creates liquidity by tying human assets to capital. The collection of skills of the relationship banker converts an illiquid project of an entrepreneur into liquid demand deposits that are immediately available for withdrawal. The deposit/capital structure is fragile because of the threat of bank runs. In these days of online banking, the run on Washington Mutual was through withdrawals online. A bank run can be triggered by the decline of the value of bank assets below the value of demand deposits.
Pelaez and Pelaez (Regulation of Banks and Finance 2009b, 60, 64-5) find immediate application of the theories of banking of Diamond, Dybvig and Rajan to the credit/dollar crisis after 2007. It is a credit crisis because the main issue was the deterioration of the credit portfolios of securitized banks as a result of default of subprime mortgages. It is a dollar crisis because of the weakening dollar resulting from relatively low interest rate policies of the US. It caused systemic effects that converted into a global recession not only because of the huge weight of the US economy in the world economy but also because the credit crisis transferred to the UK and Europe. Management skills or human capital of banks are illustrated by financial engineering of complex products. The increasing importance of human relative to inanimate capital (Rajan and Zingales 2000) is revolutionizing the theory of the firm (Zingales 2000) and corporate governance (Rajan and Zingales 2001). Finance is one of the most important examples of this transformation. Profits were derived from the charter in the original banking institution. Pricing and structuring financial instruments was revolutionized with option pricing formulas developed by Black and Scholes (1973) and Merton (1973, 1974, 1998) that permitted the development of complex products with fair pricing. The successful financial company must attract and retain finance professionals who have invested in human capital, which is a sunk cost to them and not of the institution where they work.
The complex financial products created for securitized banking with high investments in human capital are based on houses, which are as illiquid as the projects of entrepreneurs in the theory of banking. The liquidity fragility of the securitized bank is equivalent to that of the commercial bank in the theory of banking (Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 65). Banks created off-balance sheet structured investment vehicles (SIV) that issued commercial paper receiving AAA rating because of letters of liquidity guarantee by the banks. The commercial paper was converted into liquidity by its use as collateral in SRPs at the lowest rates and minimal haircuts because of the AAA rating of the guarantor bank. In the theory of banking, default can be triggered when the value of assets is perceived as lower than the value of the deposits. Commercial paper issued by SIVs, securitized mortgages and derivatives all obtained SRP liquidity on the basis of illiquid home mortgage loans at the bottom of the pyramid. The run on the securitized bank had a clear origin (Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 65):
“The increasing default of mortgages resulted in an increase in counterparty risk. Banks were hit by the liquidity demands of their counterparties. The liquidity shock extended to many segments of the financial markets—interbank loans, asset-backed commercial paper (ABCP), high-yield bonds and many others—when counterparties preferred lower returns of highly liquid safe havens, such as Treasury securities, than the risk of having to sell the collateral in SRPs at deep discounts or holding an illiquid asset. The price of an illiquid asset is near zero.”
Gorton and Metrick (2010H, 507) provide a revealing quote to the work in 1908 of Edwin R. A. Seligman, professor of political economy at Columbia University, founding member of the American Economic Association and one of its presidents and successful advocate of progressive income taxation. The intention of the quote is to bring forth the important argument that financial crises are explained in terms of “confidence” but as Professor Seligman states in reference to historical banking crises in the US the important task is to explain what caused the lack of confidence. It is instructive to repeat the more extended quote of Seligman (1908, xi) on the explanations of banking crises:
“The current explanations may be divided into two categories. Of these the first includes what might be termed the superficial theories. Thus it is commonly stated that the outbreak of a crisis is due to lack of confidence,--as if the lack of confidence was not in itself the very thing which needs to be explained. Of still slighter value is the attempt to associate a crisis with some particular governmental policy, or with some action of a country’s executive. Such puerile interpretations have commonly been confined to countries like the United States, where the political passions of democracy have had the fullest way. Thus the crisis of 1893 was ascribed by the Republicans to the impending Democratic tariff of 1894; and the crisis of 1907 has by some been termed the ‘[Theodore] Roosevelt panic,” utterly oblivious of the fact that from the time of President Jackson, who was held responsible for the troubles of 1837, every successive crisis had had its presidential scapegoat, and has been followed by a political revulsion. Opposed to these popular, but wholly unfounded interpretations, is the second class of explanations, which seek to burrow beneath the surface and to discover the more occult and fundamental causes of the periodicity of crises.”
Scholars ignore superficial explanations in the effort to seek good and truth. The problem of economic analysis of the credit/dollar crisis is the lack of a structural model with which to attempt empirical determination of causes (Gorton and Metrick 2010SB). There would still be doubts even with a well-specified structural model because samples of economic events do not typically permit separating causes and effects. There is also confusion is separating the why of the crisis and how it started and propagated, all of which are extremely important.
In true heritage of the principles of Seligman (1908), Gorton (2009EFM) discovers a prime causal driver of the credit/dollar crisis. The objective of subprime and Alt-A mortgages was to facilitate loans to populations with modest means so that they could acquire a home. These borrowers would not receive credit because of (1) lack of funds for down payments; (2) low credit rating and information; (3) lack of information on income; and (4) errors or lack of other information. Subprime mortgage “engineering” was based on the belief that both lender and borrower could benefit from increases in house prices over the short run. The initial mortgage would be refinanced in two or three years depending on the increase of the price of the house. According to Gorton (2009EFM, 13, 16):
“The outstanding amounts of Subprime and Alt-A [mortgages] combined amounted to about one quarter of the $6 trillion mortgage market in 2004-2007Q1. Over the period 2000-2007, the outstanding amount of agency mortgages doubled, but subprime grew 800%! Issuance in 2005 and 2006 of Subprime and Alt-A mortgages was almost 30% of the mortgage market. Since 2000 the Subprime and Alt-A segments of the market grew at the expense of the Agency (i.e., the government sponsored entities of Fannie Mae and Freddie Mac) share, which fell from almost 80% (by outstanding or issuance) to about half by issuance and 67% by outstanding amount. The lender’s option to rollover the mortgage after an initial period is implicit in the subprime mortgage. The key design features of a subprime mortgage are: (1) it is short term, making refinancing important; (2) there is a step-up mortgage rate that applies at the end of the first period, creating a strong incentive to refinance; and (3) there is a prepayment penalty, creating an incentive not to refinance early.”
The prime objective of successive administrations in the US during the past 20 years and actually since the times of Roosevelt in the 1930s has been to provide “affordable” financing for the “American dream” of home ownership. The US housing finance system is mixed with public, public/private and purely private entities. The Federal Home Loan Bank (FHLB) system was established by Congress in 1932 that also created the Federal Housing Administration in 1934 with the objective of insuring homes against default. In 1938, the government created the Federal National Mortgage Association, or Fannie Mae, to foster a market for FHA-insured mortgages. Government-insured mortgages were transferred from Fannie Mae to the Government National Mortgage Association, or Ginnie Mae, to permit Fannie Mae to become a publicly-owned company. Securitization of mortgages began in 1970 with the government charter to the Federal Home Loan Mortgage Corporation, or Freddie Mac, with the objective of bundling mortgages created by thrift institutions that would be marketed as bonds with guarantees by Freddie Mac (see Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 42-8). In the third quarter of 2008, total mortgages in the US were $12,057 billion of which 43.5 percent, or $5423 billion, were retained or guaranteed by Fannie Mae and Freddie Mac (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 45). In 1990, Fannie Mae and Freddie Mac had a share of only 25.4 percent of total mortgages in the US. Mortgages in the US increased from $6922 billion in 2002 to $12,088 billion in 2007, or by 74.6 percent, while the retained or guaranteed portfolio of Fannie and Freddie rose from $3180 billion in 2002 to $4934 billion in 2007, or by 55.2 percent.
According to Pinto (2008) in testimony to Congress:
“There are approximately 25 million subprime and Alt-A loans outstanding, with an unpaid principal amount of over $4.5 trillion, about half of them held or guaranteed by Fannie and Freddie. Their high risk activities were allowed to operate at 75:1 leverage ratio. While they may deny it, there can be no doubt that Fannie and Freddie now own or guarantee $1.6 trillion in subprime, Alt-A and other default prone loans and securities. This comprises over 1/3 of their risk portfolios and amounts to 34% of all the subprime loans and 60% of all Alt-A loans outstanding. These 10.5 million unsustainable, nonprime loans are experiencing a default rate 8 times the level of the GSEs’ 20 million traditional quality loans. The GSEs will be responsible for a large percentage of an estimated 8.8 million foreclosures expected over the next 4 years, accounting for the failure of about 1 in 6 home mortgages. Fannie and Freddie have subprimed America.”
In perceptive analysis of growth and macroeconomics in the past six decades, Rajan (2012FA) argues that “the West can’t borrow and spend its way to recovery.” The Keynesian paradigm is not applicable in current conditions. Advanced economies in the West could be divided into those that reformed regulatory structures to encourage productivity and others that retained older structures. In the period from 1950 to 2000, Cobet and Wilson (2002) find that US productivity, measured as output/hour, grew at the average yearly rate of 2.9 percent while Japan grew at 6.3 percent and Germany at 4.7 percent (see Pelaez and Pelaez, The Global Recession Risk (2007), 135-44). In the period from 1995 to 2000, output/hour grew at the average yearly rate of 4.6 percent in the US but at lower rates of 3.9 percent in Japan and 2.6 percent in Germany. Rajan (2012FA) argues that the differential in productivity growth was accomplished by deregulation in the US at the end of the 1970s and during the 1980s. In contrast, Europe did not engage in reform with the exception of Germany in the early 2000s that empowered the German economy with significant productivity advantage. At the same time, technology and globalization increased relative remunerations in highly-skilled, educated workers relative to those without skills for the new economy. It was then politically appealing to improve the fortunes of those left behind by the technological revolution by means of increasing cheap credit. As Rajan (2012FA) argues:
“In 1992, Congress passed the Federal Housing Enterprises Financial Safety and Soundness Act, partly to gain more control over Fannie Mae and Freddie Mac, the giant private mortgage agencies, and partly to promote affordable homeownership for low-income groups. Such policies helped money flow to lower-middle-class households and raised their spending—so much so that consumption inequality rose much less than income inequality in the years before the crisis. These policies were also politically popular. Unlike when it came to an expansion in government welfare transfers, few groups opposed expanding credit to the lower-middle class—not the politicians who wanted more growth and happy constituents, not the bankers and brokers who profited from the mortgage fees, not the borrowers who could now buy their dream houses with virtually no money down, and not the laissez-faire bank regulators who thought they could pick up the pieces if the housing market collapsed. The Federal Reserve abetted these shortsighted policies. In 2001, in response to the dot-com bust, the Fed cut short-term interest rates to the bone. Even though the overstretched corporations that were meant to be stimulated were not interested in investing, artificially low interest rates acted as a tremendous subsidy to the parts of the economy that relied on debt, such as housing and finance. This led to an expansion in housing construction (and related services, such as real estate brokerage and mortgage lending), which created jobs, especially for the unskilled. Progressive economists applauded this process, arguing that the housing boom would lift the economy out of the doldrums. But the Fed-supported bubble proved unsustainable. Many construction workers have lost their jobs and are now in deeper trouble than before, having also borrowed to buy unaffordable houses. Bankers obviously deserve a large share of the blame for the crisis. Some of the financial sector’s activities were clearly predatory, if not outright criminal. But the role that the politically induced expansion of credit played cannot be ignored; it is the main reason the usual checks and balances on financial risk taking broke down.”
In fact, Raghuram G. Rajan (2005) anticipated low liquidity in financial markets resulting from low interest rates before the financial crisis that caused distortions of risk/return decisions provoking the credit/dollar crisis and global recession from IVQ2007 to IIQ2009. Near zero interest rates of unconventional monetary policy induced excessive risks and low liquidity in financial decisions that were critical as a cause of the credit/dollar crisis after 2007. Rajan (2012FA) argues that it is not feasible to return to the employment and income levels before the credit/dollar crisis because of the bloated construction sector, financial system and government budgets.
(4) Historically Sharper Recoveries from Deeper Contractions and Financial Crises. Professor Michael D. Bordo (2012Sep27), at Rutgers University, is providing clear thought on the correct comparison of the current business cycles in the United States with those in United States history. There are two issues raised by Professor Bordo: (1) lumping together countries with different institutions, economic policies and financial systems; and (2) the conclusion that growth is mediocre after financial crises and deep recessions, which is repeated daily in the media, but that Bordo and Haubrich (2012DR) persuasively demonstrate to be inconsistent with United States experience.
Depriving economic history of institutions is perilous as is illustrated by the economic history of Brazil. Douglass C. North (1994) emphasized the key role of institutions in explaining economic history. Rondo E. Cameron (1961, 1967, 1972) applied institutional analysis to banking history. Friedman and Schwartz (1963) analyzed the relation of money, income and prices in the business cycle and related the monetary policy of an important institution, the Federal Reserve System, to the Great Depression. Bordo, Choudhri and Schwartz (1995) analyze the counterfactual of what would have been economic performance if the Fed had used during the Great Depression the Friedman (1960) monetary policy rule of constant growth of money(for analysis of the Great Depression see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 198-217). Alan Meltzer (2004, 2010a,b) analyzed the Federal Reserve System over its history. The reader would be intrigued by Figure 5 in Reinhart and Rogoff (2010FCDC, 15) in which Brazil is classified in external default for seven years between 1828 and 1834 but not again until 64 years later in 1989, above the 50 years of incidence for “serial default”. This void has been filled in scholarly research on nineteenth-century Brazil by William R. Summerhill, Jr. (2007SC, 2007IR). There are important conclusions by Summerhill on the exceptional sample of institutional change or actually lack of change, public finance and financial repression in Brazil between 1822 an 1899, combining tools of economics, political science and history. During seven continuous decades, Brazil did not miss a single interest payment with government borrowing without repudiation of debt or default. What is really surprising is that Brazil borrowed by means of long-term bonds and even more surprising interest rates fell over time. The external debt of Brazil in 1870 was ₤41,275,961 and the domestic debt in the internal market was ₤25,708,711, or 62.3 percent of the total (Summerhill 2007IR, 73).
The experience of Brazil differed from that of Latin America (Summerhill 2007IR). During the six decades when Brazil borrowed without difficulty, Latin American countries becoming independent after 1820 engaged in total defaults, suffering hardship in borrowing abroad. The countries that borrowed again fell again in default during the nineteenth century. Venezuela defaulted in four occasions. Mexico defaulted in 1827, rescheduling its debt eight different times and servicing the debt sporadically. About 44 percent of Latin America’s sovereign debt was in default in 1855 and approximately 86 percent of total government loans defaulted in London originated in Spanish American borrowing countries.
External economies of commitment to secure private rights in sovereign credit would encourage development of private financial institutions, as postulated in classic work by North and Weingast (1989), Summerhill 2007IR, 22). This is how banking institutions critical to the Industrial Revolution were developed in England (Cameron 1967). The obstacle in Brazil found by Summerhill (2007IR) is that sovereign debt credibility was combined with financial repression. There was a break in Brazil of the chain of effects from protecting public borrowing, as in North and Weingast (1989), to development of private financial institutions. According to Pelaez 1976, 283) following Cameron:
“The banking law of 1860 placed severe restrictions on two basic modern economic institutions—the corporation and the commercial bank. The growth of the volume of bank credit was one of the most significant factors of financial intermediation and economic growth in the major trading countries of the gold standard group. But Brazil placed strong restrictions on the development of banking and intermediation functions, preventing the channeling of coffee savings into domestic industry at an earlier date.”
Brazil actually abandoned the gold standard during multiple financial crises in the nineteenth century, as it should have to protect domestic economic activity. Pelaez (1975, 447) finds similar experience in the first half of nineteenth-century Brazil:
“Brazil’s experience is particularly interesting in that in the period 1808-1851 there were three types of monetary systems. Between 1808 and 1829, there was only one government-related Bank of Brazil, enjoying a perfect monopoly of banking services. No new banks were established in the 1830s after the liquidation of the Bank of Brazil in 1829. During the coffee boom in the late 1830s and 1840s, a system of banks of issue, patterned after similar institutions in the industrial countries [Cameron 1967], supplied the financial services required in the first stage of modernization of the export economy.”
Financial crises in the advanced economies were transmitted to nineteenth-century Brazil by the arrival of a ship (Pelaez and Suzigan 1981). The explanation of those crises and the economy of Brazil requires knowledge and roles of institutions, economic policies and the financial system chosen by Brazil, in agreement with Bordo (2012Sep27).
The departing theoretical framework of Bordo and Haubrich (2012DR) is the plucking model of Friedman (1964, 1988). Friedman (1988, 1) recalls “I was led to the model in the course of investigating the direction of influence between money and income. Did the common cyclical fluctuation in money and income reflect primarily the influence of money on income or of income on money?” Friedman (1964, 1988) finds useful for this purpose to analyze the relation between expansions and contractions. Analyzing the business cycle in the United States between 1870 and 1961, Friedman (1964, 15) found that “a large contraction in output tends to be followed on the average by a large business expansion; a mild contraction, by a mild expansion.” The depth of the contraction opens up more room in the movement toward full employment (Friedman 1964, 17):
“Output is viewed as bumping along the ceiling of maximum feasible output except that every now and then it is plucked down by a cyclical contraction. Given institutional rigidities and prices, the contraction takes in considerable measure the form of a decline in output. Since there is no physical limit to the decline short of zero output, the size of the decline in output can vary widely. When subsequent recovery sets in, it tends to return output to the ceiling; it cannot go beyond, so there is an upper limit to output and the amplitude of the expansion tends to be correlated with the amplitude of the contraction.”
Kim and Nelson (1999) test the asymmetric plucking model of Friedman (1964, 1988) relative to a symmetric model using reference cycles of the NBER and find evidence supporting the Friedman model. Bordo and Haubrich (2012DR) analyze 27 cycles beginning in 1872, using various measures of financial crises while considering different regulatory and monetary regimes. The revealing conclusion of Bordo and Haubrich (2012DR, 2) is that:
“Our analysis of the data shows that steep expansions tend to follow deep contractions, though this depends heavily on when the recovery is measured. In contrast to much conventional wisdom, the stylized fact that deep contractions breed strong recoveries is particularly true when there is a financial crisis. In fact, on average, it is cycles without a financial crisis that show the weakest relation between contraction depth and recovery strength. For many configurations, the evidence for a robust bounce-back is stronger for cycles with financial crises than those without.”
The average rate of growth of real GDP in expansions after recessions with financial crises was 8 percent but only 6.9 percent on average for recessions without financial crises (Bordo 2012Sep27). Real GDP declined 12 percent in the Panic of 1907 and increased 13 percent in the recovery, consistent with the plucking model of Friedman (Bordo 2012Sep27). Bordo (2012Sep27) finds two probable explanations for the weak recovery during the current economic cycle: (1) collapse of United States housing; and (2) uncertainty originating in fiscal policy, regulation and structural changes. There are serious doubts if monetary policy is adequate to recover the economy under these conditions.
Lucas (2011May) estimates US economic growth in the long-term at 3 percent per year and about 2 percent per year in per capita terms. There are displacements from this trend caused by events such as wars and recessions but the economy then returns to trend. Historical US GDP data exhibit remarkable growth: Lucas (2011May) estimates an increase of US real income per person by a factor of 12 in the period from 1870 to 2010. The explanation by Lucas (2011May) of this remarkable growth experience is that government provided stability and education while elements of “free-market capitalism” were an important driver of long-term growth and prosperity. The analysis is sharpened by comparison with the long-term growth experience of G7 countries (US, UK, France, Germany, Canada, Italy and Japan) and Spain from 1870 to 2010. Countries benefitted from “common civilization” and “technology” to “catch up” with the early growth leaders of the US and UK, eventually growing at a faster rate. Significant part of this catch up occurred after World War II. Lucas (2011May) finds that the catch up stalled in the 1970s. The analysis of Lucas (2011May) is that the 20-40 percent gap that developed originated in differences in relative taxation and regulation that discouraged savings and work incentives in comparison with the US. A larger welfare and regulatory state, according to Lucas (2011May), could be the cause of the 20-40 percent gap. Cobet and Wilson (2002) provide estimates of output per hour and unit labor costs in national currency and US dollars for the US, Japan and Germany from 1950 to 2000 (see Pelaez and Pelaez, The Global Recession Risk (2007), 137-44). The average yearly rate of productivity change from 1950 to 2000 was 2.9 percent in the US, 6.3 percent for Japan and 4.7 percent for Germany while unit labor costs in USD increased at 2.6 percent in the US, 4.7 percent in Japan and 4.3 percent in Germany. From 1995 to 2000, output per hour increased at the average yearly rate of 4.6 percent in the US, 3.9 percent in Japan and 2.6 percent in Germany while unit labor costs in USD fell at minus 0.7 percent in the US, 4.3 percent in Japan and 7.5 percent in Germany. There was increase in productivity growth in Japan and France within the G7 in the second half of the 1990s but significantly lower than the acceleration of 1.3 percentage points per year in the US. Long-term economic growth and prosperity are measured by the key indicators of growth of real income per capita, or what is earned per person after inflation. A refined concept would include real disposable income per capita, or what is earned per person after inflation and taxes.
Table IB-1 provides the data required for broader comparison of the cyclical expansions of IQ1983 to IVQ1985 and the current one from 2009 to 2012. First, in the 13 quarters from IQ1983 to IQ1986, GDP increased 19.6 percent at the annual equivalent rate of 5.7 percent; real disposable personal income (RDPI) increased 14.9 percent at the annual equivalent rate of 4.4 percent; RDPI per capita increased 11.9 percent at the annual equivalent rate of 3.5 percent; and population increased 2.7 percent at the annual equivalent rate of 0.8 percent. Second, in the 14 quarters of the current cyclical expansion from IIIQ2009 to IVQ2012, GDP increased 7.5 percent at the annual equivalent rate of 2.1 percent. In the 14 quarters of cyclical expansion real disposable personal income (RDPI) increased 7.0 percent at the annual equivalent rate of 2.0 percent; RDPI per capita increased 4.4 percent at the annual equivalent rate of 1.3 percent; and population increased 2.5 percent at the annual equivalent rate of 0.7 percent. Third, since the beginning of the recession in IVQ2007 to IVQ2012, GDP increased 2.5 percent, or barely above the level before the recession. Since the beginning of the recession in IVQ2007 to IVQ2012, real disposable personal income increased 5.0 percent at the annual equivalent rate of 0.9 percent; population increased 4.1 percent at the annual equivalent rate of 0.8 percent; and real disposable personal income per capita is 0.9 percent higher than the level before the recession. Real disposable personal income is the actual take home pay after inflation and taxes and real disposable income per capita is what is left per inhabitant. The current cyclical expansion is the worst in the period after World War II in terms of growth of economic activity and income. The United States grew during its history at high rates of per capita income that made its economy the largest in the world. That dynamism is disappearing. Bordo (2012 Sep27) and Bordo and Haubrich (2012DR) provide strong evidence that recoveries have been faster after deeper recessions and recessions with financial crises, casting serious doubts on the conventional explanation of weak growth during the current expansion allegedly because of the depth of the contraction from IVQ2007 to IIQ2009 of 4.7 percent and the financial crisis.
Table IB-1, US, GDP, Real Disposable Personal Income, Real Disposable Income per Capita and Population in 1983-85 and 2007-2011, %
| # Quarters | ∆% | ∆% Annual Equivalent | |
| IQ1983 to IVQ1986 | 13 | ||
| GDP | 19.6 | 5.7 | |
| RDPI | 14.9 | 4.4 | |
| RDPI Per Capita | 11.9 | 3.5 | |
| Population | 2.7 | 0.8 | |
| IIIQ2009 to IVQ2012 | 14 | ||
| GDP | 7.5 | 2.1 | |
| RDPI | 7.0 | 2.0 | |
| RDPI per Capita | 4.4 | 1.3 | |
| Population | 2.5 | 0.7 | |
| IVQ2007 to IVQ2012 | 21 | ||
| GDP | 2.5 | 0.5 | |
| RDPI | 5.0 | 0.9 | |
| RDPI per Capita | 0.9 | 0.2 | |
| Population | 4.1 | 0.8 |
RDPI: Real Disposable Personal Income
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm
There are seven basic facts illustrating the current economic disaster of the United States: (1) GDP maintained trend growth in the entire business cycle from IQ1980 to IV1985 and IQ1986, including contractions and expansions, but is well below trend in the entire business cycle from IVQ2007 to IVQ2012, including contractions and expansions; (2) per capita real disposable income exceeded trend growth in the 1980s but is substantially below trend in IVQ2012; (3) the number of employed persons increased in the 1980s but declined into IVQ2012; (4) the number of full-time employed persons increased in the 1980s but declined into IVQ2012; (5) the number unemployed, unemployment rate and number employed part-time for economic reasons fell in the recovery from the recessions of the 1980s but not substantially in the recovery after IIQ2009; (6) wealth of households and nonprofit organizations soared in the 1980s but declined into IVQ2012; and (7) gross private domestic investment increased sharply from IQ1980 to IVQ1985 but gross private domestic investment and private fixed investment have fallen sharply from IVQ2007 to IVQ2012. There is a critical issue of whether the United States economy will be able in the future to attain again the level of activity and prosperity of projected trend growth. Growth at trend during the entire business cycles built the largest economy in the world but there may be an adverse, permanent weakness in United States economic performance and prosperity. Table IB-2 provides data for analysis of these five basic facts. The six blocks of Table IB-2 are separated initially after individual discussion of each one followed by the full Table IB-2.
1. Trend Growth.
i. As shown in Table IB-2, actual GDP grew cumulatively 18.9 percent from IQ1980 to IQ1986, which is relatively close to what trend growth would have been at 20.3 percent. Rapid growth at 5.7 percent annual rate on average per quarter during the expansion from IQ1983 to IQ1986 erased the loss of GDP of 4.8 percent during the contraction and maintained trend growth at 3 percent over the entire cycle.
ii. In contrast, cumulative growth from IVQ2007 to IVQ2012 was 2.5 percent while trend growth would have been 16.8 percent. GDP in IVQ2012 at seasonally adjusted annual rate is estimated at $13,656.8 billion by the Bureau of Economic Analysis (BEA) (http://www.bea.gov/iTable/index_nipa.cfm) and would have been $15,564.8 billion, or $1,908 billion higher, had the economy grown at trend over the entire business cycle as it happened during the 1980s and throughout most of US history. There is $1.9 trillion of foregone GDP that would have been created as it occurred during past cyclical expansions, which explains why employment has not rebounded to even higher than before. There would not be recovery of full employment even with growth of 3 percent per year beginning immediately because the opportunity was lost to grow faster during the expansion from IIIQ2009 to IVQ2012 after the recession from IVQ2007 to IIQ2009. The United States has acquired a heavy social burden of unemployment and underemployment of 30.8 million people or 19.0 percent of the effective labor force (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) that will not be significantly diminished even with return to growth of GDP of 3 percent per year because of growth of the labor force by new entrants. The US labor force grew from 142.583 million in 2000 to 153.124 million in 2007 or by 7.4 percent at the average yearly rate of 1.0 percent per year. The civilian noninstitutional population increased from 212.577 million in 2000 to 231.867 million in 2007 or 9.1 percent at the average yearly rate of 1.3 percent per year (data from http://www.bls.gov/data/). Data for the past five years cloud accuracy because of the number of people discouraged from seeking employment. The noninstitutional population of the United States increased from 231.867 million in 2007 to 243.284 million in 2012 or by 4.9 percent while the labor force increased from 153.124 million in 2007 to 154.975 million in 2012 or by 1.2 percent and only by 0.3 percent to 153.617 million in 2011 while population increased 3.3 percent from 231.867 million in 2007 to 239.618 million in 2011 (data from http://www.bls.gov/data/). People ceased to seek jobs because they do not believe that there is a job available for them (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html). Structural change in demography occurs over relatively long periods and not suddenly as shown by Edward P. Lazear and James R. Spletzer (2012JHJul22).
| Period IQ1980 to IQ1986 | |
| GDP SAAR USD Billions | |
| IQ1980 | 5,903.4 |
| IQ1986 | 7,016.8 |
| ∆% IQ1980 to IQ1986 (19.6 percent from IVQ1982 $5866.0 billion) | 18.9 |
| ∆% Trend Growth IQ1980 to IQ1986 | 20.3 |
| Period IVQ2007 to IVQ2012 | |
| GDP SAAR USD Billions | |
| IVQ2007 | 13,326.0 |
| IVQ2012 | 13,656.8 |
| ∆% IVQ2007 to IVQ2012 Actual | 2.5 |
| ∆% IVQ2007 to IVQ2012 Trend | 16.8 |
2. Decline of Per Capita Real Disposable Income
i. In the entire business cycle from IQ1980 to IQ1986, as shown in Table IB-2 trend growth of per capita real disposable income, or what is left per person after inflation and taxes, grew cumulatively 15.7 percent, which is close to what would have been trend growth of 13.2 percent.
ii. In contrast, in the entire business cycle from IVQ2007 to IVQ2012, per capita real disposable income grew 0.9 percent while trend growth would have been 10.9 percent. Income available after inflation and taxes is about the same as before the contraction after 14 consecutive quarters of GDP growth at mediocre rates relative to those prevailing during historical cyclical expansions. In IVQ2012, real disposable income grew at seasonally adjusted annual rate (SAAR) of 6.2 percent, which the BEA explains as: “Personal income in November and December [2012] was boosted by accelerated and special dividend payments to persons and by accelerated bonus payments and other irregular pay in private wages and salaries in anticipation of changes in individual income tax rates. Personal income in December was also boosted by lump-sum social security benefit payments” (page 2 at http://www.bea.gov/newsreleases/national/pi/2013/pdf/pi1212.pdf http://www.bea.gov/newsreleases/national/pi/2013/pdf/pi0113.pdf http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). Without these exceptional increases of realization of incomes in anticipation of higher taxes in Jan 2013, per capita disposable real income would likely not be higher in IVQ2012 relative to IVQ2007.
| Period IQ1980 to IQ1986 |
| Real Disposable Personal Income per Capita IQ1980 Chained 2005 USD | 18,938 |
| Real Disposable Personal Income per Capita IQ1986 Chained 2005 USD | 21,902 |
| ∆% IQ1980 to IQ1986 | 15.7 |
| ∆% Trend Growth | 13.2 |
| Period IVQ2007 to IVQ2012 |
| Real Disposable Personal Income per Capita IVQ2007 Chained 2005USD | 32,837 |
| Real Disposable Personal Income per Capita IVQ2012 Chained 2005 USD | 33,143 |
| ∆% IVQ2007 to IVQ2012 | 0.9 |
| ∆% Trend Growth | 10.9 |
3. Number of Employed Persons
i. As shown in Table IB-2, the number of employed persons increased over the entire business cycle from 98.527 million not seasonally adjusted (NSA) in IQ1980 to 107.819 million NSA in IVQ1985 or by 9.7 percent.
ii. In contrast, during the entire business cycle the number employed fell from 146.334 million in IVQ2007 to 143.060 million in IVQ2012 or by 2.2 percent. There are 30.8 million persons unemployed or underemployed, which is 19.0 percent of the effective labor force (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html).
| Period IQ1980 to IVQ1985 |
| Employed Millions IQ1980 NSA End of Quarter | 98.527 |
| Employed Millions IVQ1985 NSA End of Quarter | 108.063 |
| ∆% Employed IQ1980 to IVQ1985 | 9.7 |
| Period IVQ2007 to IVQ2012 |
| Employed Millions IVQ2007 NSA End of Quarter | 146.334 |
| Employed Millions IVQ2012 NSA End of Quarter | 143.060 |
| ∆% Employed IVQ2007 to IVQ2012 | -2.2 |
4. Number of Full-Time Employed Persons
i. As shown in Table IB-2, during the entire business cycle in the 1980s, including contractions and expansion, the number of employed full-time rose from 81.280 million NSA in IQ1980 to 88.757 million NSA in IVQ1985 or 9.2 percent.
ii. In contrast, during the entire current business cycle, including contraction and expansion, the number of persons employed full-time fell from 121.042 million in IVQ2007 to 115.079 million in IVQ2012 or by minus 4.9 percent.
| Period IQ1980 to IVQ1985 |
| Employed Full-time Millions IQ1980 NSA End of Quarter | 81.280 |
| Employed Full-time Millions IV1985 NSA End of Quarter | 88.757 |
| ∆% Full-time Employed IQ1980 to IV1985 | 9.2 |
| Period IVQ2007 to IVQ2012 |
| Employed Full-time Millions IVQ2007 NSA End of Quarter | 121.042 |
| Employed Full-time Millions IVQ2012 NSA End of Quarter | 115.079 |
| ∆% Full-time Employed IVQ2007 to IVQ2012 | -4.9 |
5. Unemployed, Unemployment Rate and Employed Part-time for Economic Reasons.
i. As shown in Table IB-2 and in the following block, in the cycle from IQ1980 to IVQ1985: (a) the rate of unemployment was virtually the same at 6.7 percent in IQ1985 relative to 6.6 percent in IQ1980; (b) the number unemployed increased from 6.983 million in IQ1980 to 7.717 million in IVQ1985 or 10.5 percent; and (c) the number employed part-time for economic reasons increased 49.1 percent from 3.624 million in IQ1980 to 5.402 million in IVQ1985.
ii. In contrast, in the economic cycle from IVQ2007 to IVQ2012: (a) the rate of unemployment increased from 4.8 percent in IVQ2007 to 7.6 percent in IVQ2012; (b) the number unemployed increased 60.7 percent from 7.371 million in IVQ2007 to 11.844 million in IVQ2012; (c) the number employed part-time for economic reasons increased 71.9 percent from 4.750 million in IVQ2007 to 8.166 million in IVQ2012; and (d) U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA increased from 8.7 percent in IVQ2007 to 14.4 percent in IVQ2012.
| Period IQ1980 to IVQ1985 |
| Unemployment Rate IQ1980 NSA End of Quarter | 6.6 |
| Unemployment Rate IVQ1985 NSA End of Quarter | 6.7 |
| Unemployed IQ1980 Millions End of Quarter | 6.983 |
| Unemployed IVQ1985 Millions End of Quarter | 7.717 |
| Employed Part-time Economic Reasons Millions IQ1980 End of Quarter | 3.624 |
| Employed Part-time Economic Reasons Millions IVQ1985 End of Quarter | 5.402 |
| ∆% | 49.1 |
| Period IVQ2007 to IVQ2012 |
| Unemployment Rate IVQ2007 NSA End of Quarter | 4.8 |
| Unemployment Rate IVQ2012 NSA End of Quarter | 7.6 |
| Unemployed IVQ2007 Millions End of Quarter | 7.371 |
| Unemployed IVQ2012 Millions End of Quarter | 11.844 |
| ∆% | 60.7 |
| Employed Part-time Economic Reasons IVQ2007 Millions End of Quarter | 4.750 |
| Employed Part-time Economic Reasons Millions IVQ2012 End of Quarter | 8.166 |
| ∆% | 71.9 |
| U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA | |
| IVQ2007 | 8.7 |
| IVQ2012 | 14.4 |
6. Wealth of Households and Nonprofit Organizations.
i. The comparison of net worth of households and nonprofit organizations in the entire economic cycle from IQ1980 (and also from IVQ1979) to IVQ1985 and from IVQ2007 to IIIQ2012 is provided in the following block and in Table IB-2. Net worth of households and nonprofit organizations increased from $8,326.4 billion in IVQ1979 to $14,395.2 billion in IVQ1985 or 72.9 percent or 69.3 percent from $8,502.9 billion in IQ1980. The starting quarter does not bias the results. The US consumer price index not seasonally adjusted increased from 76.7 in Dec 1979 to 109.3 in Dec 1985 or 42.5 percent or 36.5 percent from 80.1 in Mar 1980 (using consumer price index data from the US Bureau of Labor Statistics at http://www.bls.gov/cpi/data.htm). In terms of purchasing power measured by the consumer price index, real wealth of households and nonprofit organizations increased 21.3 percent in constant purchasing power from IVQ1979 to IVQ1985 or 24.0 percent from IQ1980.
ii. In contrast, as shown in Table IB-2, net worth of households and nonprofit organizations fell from $66,118.3 billion in IVQ2007 to $66,071.7 billion in IVQ2012 by $46.6 billion or 0.1 percent. The US consumer price index was 210.036 in Dec 2007 and 229.601 in Dec 2012 for increase of 9.1 percent. In purchasing power of Dec 2007, wealth of households and nonprofit organizations is lower by 8.4 percent in Dec 2012 after 14 consecutive quarters of expansion from IIIQ2009 to IVQ2012 relative to IVQ2007 when the recession began. The explanation is partly in the sharp decline of wealth of households and nonprofit organizations and partly in the mediocre growth rates of the cyclical expansion beginning in IIIQ2009. The average growth rate from IIIQ2009 to IVQ2012 has been 2.1 percent, which is substantially lower than the average of 6.2 percent in cyclical expansions after World War II and 5.7 percent in the expansion from IQ1983 to IVQ1985 (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). The US missed the opportunity of high growth rates that has been available in past cyclical expansions. US wealth of households and nonprofit organizations grew from IVQ1945 at $710,125.9 million to IIIQ2009 at $64,768,835.3 million or increase of 9,020.8 percent. The consumer price index not seasonally adjusted was 18.2 in Dec 1945 jumping to 231.407 in Sep 2012 or 1,171.5 percent. There was a gigantic increase of US net worth of households and nonprofit organizations over 67 years with inflation adjusted increase of 617.3 percent. The combination of collapse of values of real estate and financial assets during the global recession of IVQ2007 to IIQ2009 caused sharp contraction of US household and nonprofit net worth. Recovery has been in stop-and-go fashion during the worst cyclical expansion in the 67 years when US GDP grew at 2.1 percent on average in 14 quarters between IIIQ2009 and IVQ2012 in contrast with average 5.7 percent from IQ1983 to IVQ1985 and average 6.2 percent during cyclical expansions in those 67 years.
| Period IQ1980 to IVQ1985 | |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ1979 | 8,326.4 |
| IVQ1985 | 14,395.2 |
| ∆ USD Billions | +6,068.8 |
| Period IVQ2007 to IIIQ2012 | |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ2007 | 66,118.3 |
| IVQ2012 | 66,071.7 |
| ∆ USD Billions | -46.6 |
7. Gross Private Domestic Investment.
i. The comparison of gross private domestic investment in the entire economic cycles from IQ1980 to IVQ1985 and from IVQ2007 to IVQ2012 is provided in the following block and in Table IB-2. Gross private domestic investment increased from $778.3 billion in IQ1980 to $965.9 billion in IVQ1985 or by 24.1 percent.
ii In the current cycle, gross private domestic investment decreased from $2,123.6 billion in IVQ2007 to $1,921.7 billion in IVQ2012, or decline by 9.5 percent. Private fixed investment fell from $2,111.5 billion in IVQ2007 to $1894.4 billion in IVQ2012, or decline by 10.3 percent.
| Period IQ1980 to IVQ1985 | |
| Gross Private Domestic Investment USD 2005 Billions | |
| IQ1980 | 778.3 |
| IVQ1985 | 965.9 |
| ∆% | 24.1 |
| Period IVQ2007 to IVQ2012 | |
| Gross Private Domestic Investment USD Billions | |
| IVQ2007 | 2,123.6 |
| IVQ2012 | 1,921.7 |
| ∆% | -9.5 |
| Private Fixed Investment USD 2005 Billions | |
| IVQ2007 | 2,111.5 |
| IVQ2012 | 1,894.4 |
| ∆% | -10.3 |
Table IB-2, US, GDP and Real Disposable Personal Income per Capita Actual and Trend Growth and Employment, 1980-1985 and 2007-2012, SAAR USD Billions, Millions of Persons and ∆%
| Period IQ1980 to IQ1986 | |
| GDP SAAR USD Billions | |
| IQ1980 | 5,903.4 |
| IQ1986 | 7,016.8 |
| ∆% IQ1980 to IQ1986 (19.6 percent from IVQ1982 $5866.0 billion) | 18.9 |
| ∆% Trend Growth IQ1980 to IQ1986 | 20.3 |
| Real Disposable Personal Income per Capita IQ1980 Chained 2005 USD | 18,938 |
| Real Disposable Personal Income per Capita IQ1986 Chained 2005 USD | 21,902 |
| ∆% IQ1980 to IQ1986 | 15.7 |
| ∆% Trend Growth | 13.2 |
| Employed Millions IQ1980 NSA End of Quarter | 98.527 |
| Employed Millions IV1985 NSA End of Quarter | 108.063 |
| ∆% Employed IQ1980 to IVQ1985 | 9.7 |
| Employed Full-time Millions IQ1980 NSA End of Quarter | 81.280 |
| Employed Full-time Millions IVQ1985 NSA End of Quarter | 88.757 |
| ∆% Full-time Employed IQ1980 to IVQ1985 | 9.2 |
| Unemployment Rate IQ1980 NSA End of Quarter | 6.6 |
| Unemployment Rate IVQ1985 NSA End of Quarter | 6.7 |
| Unemployed IQ1980 Millions NSA End of Quarter | 6.983 |
| Unemployed IVQ1985 Millions NSA End of Quarter | 7.717 |
| ∆% | 10.5 |
| Employed Part-time Economic Reasons IQ1980 Millions NSA End of Quarter | 3.624 |
| Employed Part-time Economic Reasons Millions IVQ1985 NSA End of Quarter | 5.402 |
| ∆% | 49.1 |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ1979 | 8,326.4 |
| IVQ1985 | 14,395.2 |
| ∆ USD Billions | +6,068.8 |
| Gross Private Domestic Investment USD 2005 Billions | |
| IQ1980 | 778.3 |
| IVQ1985 | 965.9 |
| ∆% | 24.1 |
| Period IVQ2007 to IVQ2012 | |
| GDP SAAR USD Billions | |
| IVQ2007 | 13,326.0 |
| IVQ2012 | 13,656.8 |
| ∆% IVQ2007 to IVQ2012 | 2.5 |
| ∆% IVQ2007 to IVQ2012 Trend Growth | 16.8 |
| Real Disposable Personal Income per Capita IVQ2007 Chained 2005USD | 32,837 |
| Real Disposable Personal Income per Capita IVQ2012 Chained 2005 USD | 33,143 |
| ∆% IVQ2007 to IVQ2012 | 0.9 |
| ∆% Trend Growth | 10.9 |
| Employed Millions IVQ2007 NSA End of Quarter | 146.334 |
| Employed Millions IVQ2012 NSA End of Quarter | 143.060 |
| ∆% Employed IVQ2007 to IVQ2012 | -2.2 |
| Employed Full-time Millions IVQ2007 NSA End of Quarter | 121.042 |
| Employed Full-time Millions IVQ2012 NSA End of Quarter | 115.079 |
| ∆% Full-time Employed IVQ2007 to IVQ2012 | -4.9 |
| Unemployment Rate IVQ2007 NSA End of Quarter | 4.8 |
| Unemployment Rate IVQ2012 NSA End of Quarter | 7.6 |
| Unemployed IVQ2007 Millions NSA End of Quarter | 7.371 |
| Unemployed IVQ2012 Millions NSA End of Quarter | 11.742 |
| ∆% | 59.3 |
| Employed Part-time Economic Reasons IVQ2007 Millions NSA End of Quarter | 4.750 |
| Employed Part-time Economic Reasons Millions IVQ2012 NSA End of Quarter | 8.166 |
| ∆% | 71.9 |
| U6 Total Unemployed plus all marginally attached workers plus total employed part time for economic reasons as percent of all civilian labor force plus all marginally attached workers NSA | |
| IVQ2007 | 8.7 |
| IVQ2012 | 14.4 |
| Net Worth of Households and Nonprofit Organizations USD Billions | |
| IVQ2007 | 66,118.3 |
| IVQ2012 | 66,071.7 |
| ∆ USD Billions | -46.6 |
| Gross Private Domestic Investment USD Billions | |
| IVQ2007 | 2,123.6 |
| IVQ2012 | 1,921.7 |
| ∆% | -9.5 |
| Private Fixed Investment USD 2005 Billions | |
| IVQ2007 | 2,111.5 |
| IVQ2012 | 1,894.4 |
| ∆% | -10.3 |
Note: GDP trend growth used is 3.0 percent per year and GDP per capita is 2.0 percent per year as estimated by Lucas (2011May) on data from 1870 to 2010.
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm US Bureau of Labor Statistics http://www.bls.gov/data/. Board of Governors of the Federal Reserve System. 2012Sep20. Flow of funds accounts of the United States. Washington, DC, Federal Reserve System.
The Congressional Budget Office (CBO 2013BEOFeb5) estimates potential GDP, potential labor force and potential labor productivity provided in Table IB-3. The average rate of growth of potential GDP from 1950 to 2012 is estimated at 3.3 percent per year. The projected path is significantly lower at 2.2 percent per year from 2012 to 2023. The legacy of the economic cycle with expansion from IIIQ2009 to IVQ2012 at 2.1 percent on average in contrast with 6.2 percent in prior expansions of the economic cycle in the postwar (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html) may perpetuate unemployment and underemployment estimated at 30.8 million or 19.0 percent of the effective labor force in Feb 2013 (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) with much lower hiring than in the period before the current cycle (http://cmpassocregulationblog.blogspot.com/2013/03/recovery-without-hiring-ten-million.html).
Table IB-3, US, Congressional Budget Office History and Projections of Potential GDP of US Overall Economy, ∆%
| Potential GDP | Potential Labor Force | Potential Labor Productivity* | |
| Average Annual ∆% | |||
| 1950-1973 | 3.9 | 1.6 | 2.3 |
| 1974-1981 | 3.3 | 2.5 | 0.8 |
| 1982-1990 | 3.1 | 1.6 | 1.5 |
| 1991-2001 | 3.1 | 1.3 | 1.8 |
| 2002-2012 | 2.2 | 0.8 | 1.4 |
| Total 1950-2012 | 3.3 | 1.5 | 1.7 |
| Projected Average Annual ∆% | |||
| 2013-2018 | 2.2 | 0.6 | 1.6 |
| 2019-2023 | 2.3 | 0.5 | 1.8 |
| 2012-2023 | 2.2 | 0.5 | 1.7 |
*Ratio of potential GDP to potential labor force
Source: CBO (2013BEOFeb5).
Chart IB-1 of the Congressional Budget Office (CBO 2013BEOFeb5) provides actual and potential GDP of the United States from 2000 to 2011 and projected to 2024. Lucas (2011May) estimates trend of United States real GDP of 3.0 percent from 1870 to 2010 and 2.2 percent for per capita GDP. The United States successfully returned to trend growth of GDP by higher rates of growth during cyclical expansion as analyzed by Bordo (2012Sep27, 2012Oct21) and Bordo and Haubrich (2012DR). Growth in expansions following deeper contractions and financial crises was much higher in agreement with the plucking model of Friedman (1964, 1988). The unusual weakness of growth at 2.1 percent on average from IIIQ2009 to IVQ2012 during the current economic expansion in contrast with 6.2 percent on average in postwar cyclical expansions (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html) cannot be explained by the contraction of 4.7 of GDP from IVQ2007 to IIQ2009 and the financial crisis. Weakness of growth in the expansion is perpetuating unemployment and underemployment of 30.8 million or 19.0 percent of the labor as estimated for Jan 2013 (http://cmpassocregulationblog.blogspot.com/2013/03/thirty-one-million-unemployed-or.html) and the collapse of hiring (http://cmpassocregulationblog.blogspot.com/2013/03/recovery-without-hiring-ten-million.html).
Chart IB-1, US, Congressional Budget Office, Actual and Projections of Potential GDP, 2000-2024, Trillions of Dollars
Source: Congressional Budget Office, CBO (2013BEOFeb5).
II United States Industrial Production. Industrial production increased 0.2 percent in Sep, fell 0.2 percent in Oct, rebounded 1.5 percent in Nov, increased 0.3 percent in Dec, changed 0.0 percent in Jan 2013 and increased 0.7 percent in Feb 3013, as shown in Table II-1, with all data seasonally adjusted. The report of the Board of Governors of the Federal Reserve System states (http://www.federalreserve.gov/releases/g17/current/):
“Industrial production increased 0.7 percent in February after having been unchanged in January. Manufacturing output rose 0.8 percent in February, and the index revised up for the previous two months. In February, the output of utilities advanced 1.6 percent, as temperatures for the month were near their seasonal norms after two months of unseasonably warm weather. The production at mines declined 0.3 percent, its third consecutive monthly decrease. At 99.5 percent of its 2007 average, total industrial production in February was 2.5 percent above its level of a year earlier. “
In the six months ending in Feb 2013, United States national industrial production accumulated increase of 2.5 percent at the annual equivalent rate of 5.1 percent, which is higher than 2.5 percent growth in 12 months. Business equipment decreased 0.4 percent in Sep, decreased 1.2 percent in Oct, increased 3.1 percent in Nov, increased 0.5 percent in Dec, fell 1.3 percent in Jan, and increased 2.5 percent in Feb 2013, growing 3.2 percent in the 12 months ending in Feb 2013 and at the annual equivalent rate of 6.4 percent in the six months ending in Feb 2013. Capacity utilization of total industry is analyzed by the Fed in its report (http://www.federalreserve.gov/releases/g17/current/): “The capacity utilization rate for total industry increased to 79.6 percent [in Feb 2013], a rate that is 0.6 percentage points below its long-run (1972--2012) average.” United States industry is apparently decelerating with some strength at the margin.
Table II-1, US, Industrial Production and Capacity Utilization, SA, ∆%, %
| 2012-2013 | Feb 13 | Jan | Dec 12 | Nov | Oct | Sep | Feb 13/ Feb 12 |
| Total | 0.7 | 0.0 | 0.3 | 1.5 | -0.2 | 0.2 | 2.5 |
| Market | |||||||
| Final Products | 1.1 | -0.1 | 0.2 | 1.9 | -0.9 | 0.2 | 2.9 |
| Consumer Goods | 0.7 | 0.2 | 0.2 | 1.6 | -0.8 | 0.4 | 2.0 |
| Business Equipment | 2.5 | -1.3 | 0.5 | 3.1 | -1.2 | -0.4 | 6.6 |
| Non | 1.0 | 0.8 | 0.1 | 1.7 | -0.4 | -0.1 | 2.1 |
| Construction | 1.5 | 1.2 | 1.2 | 2.5 | -0.2 | 0.3 | 2.9 |
| Materials | 0.3 | -0.1 | 0.4 | 1.1 | 0.5 | 0.3 | 2.3 |
| Industry Groups | |||||||
| Manufacturing | 0.8 | -0.3 | 1.3 | 1.7 | -0.7 | 0.0 | 2.0 |
| Mining | -0.3 | -1.0 | 0.5 | 0.9 | 1.5 | 1.9 | 3.4 |
| Utilities | 1.6 | 4.9 | -6.4 | 0.6 | 1.3 | -0.8 | 5.8 |
| Capacity | 79.6 | 79.2 | 79.3 | 79.2 | 78.1 | 78.4 | 1.7 |
Sources: Board of Governors of the Federal Reserve System http://www.federalreserve.gov/releases/g17/current/
Manufacturing increased 0.8 percent in Feb 2013 seasonally adjusted, increasing 2.2 percent not seasonally adjusted in 12 months, and increased 3.0 percent in the six months ending in Feb 2013 or at the annual equivalent rate of 6.1 percent. A longer perspective of manufacturing in the US is provided by Table II-2. There has been evident deceleration of manufacturing growth in the US from 2010 and the first three months of 2011 into more recent months as shown by 12 months rates of growth. Growth rates appeared to be increasing again closer to 5 percent in Apr-Jun 2012 but deteriorated. The rates of decline of manufacturing in 2009 are quite high with a drop of 18.4 percent in the 12 months ending in Apr 2009. Manufacturing recovered from this decline and led the recovery from the recession. Rates of growth appeared to be returning to the levels at 3 percent or higher in the annual rates before the recession but the pace of manufacturing fell steadily in the past six months with some strength at the margin.
Table II-2, US, Monthly and 12-Month Rates of Growth of Manufacturing ∆%
| Month SA ∆% | 12-Month NSA ∆% | |
| Feb 2013 | 0.8 | 2.2 |
| Jan | -0.3 | 2.3 |
| Dec 2012 | 1.3 | 2.8 |
| Nov | 1.7 | 3.3 |
| Oct | -0.6 | 1.9 |
| Sep | 0.1 | 3.1 |
| Aug | -0.8 | 3.7 |
| Jul | 0.3 | 4.3 |
| Jun | 0.4 | 5.1 |
| May | -0.6 | 5.1 |
| Apr | 0.7 | 5.7 |
| Mar | -0.7 | 4.3 |
| Feb | 0.9 | 5.9 |
| Jan | 1.1 | 4.9 |
| Dec 2011 | 1.5 | 4.4 |
| Nov | 0.0 | 4.0 |
| Oct | 0.5 | 4.3 |
| Sep | 0.4 | 4.0 |
| Aug | 0.2 | 3.4 |
| Jul | 0.8 | 3.2 |
| Jun | 0.1 | 3.1 |
| May | 0.2 | 2.9 |
| Apr | -0.6 | 4.1 |
| Mar | 0.7 | 6.0 |
| Feb | 0.3 | 6.3 |
| Jan | 0.4 | 6.3 |
| Dec 2010 | 1.0 | 6.6 |
| Nov | 0.2 | 5.5 |
| Oct | 0.1 | 6.6 |
| Sep | 0.3 | 6.7 |
| Aug | 0.0 | 7.1 |
| Jul | 0.8 | 7.3 |
| Jun | 0.0 | 9.0 |
| May | 1.4 | 8.3 |
| Apr | 1.1 | 6.5 |
| Mar | 1.1 | 4.2 |
| Feb | 0.2 | 0.6 |
| Jan | 1.0 | 0.5 |
| Dec 2009 | 0.1 | -3.7 |
| Nov | 0.9 | -6.6 |
| Oct | 0.0 | -9.4 |
| Sep | 0.8 | -10.7 |
| Aug | 1.1 | -13.7 |
| Jul | 1.3 | -15.3 |
| Jun | -0.4 | -17.8 |
| May | -1.2 | -17.8 |
| Apr | -0.7 | -18.4 |
| Mar | -1.9 | -17.5 |
| Feb | 0.0 | -16.3 |
| Jan | -2.9 | -16.6 |
| Dec 2008 | -3.3 | -14.1 |
| Nov | -2.4 | -11.4 |
| Oct | -0.6 | -9.1 |
| Sep | -3.5 | -8.8 |
| Aug | -1.4 | -5.3 |
| Jul | -1.1 | -3.8 |
| Jun | -0.6 | -3.2 |
| May | -0.5 | -2.5 |
| Apr | -1.1 | -1.3 |
| Mar | -0.4 | -0.7 |
| Feb | -0.4 | 0.8 |
| Jan | -0.4 | 2.1 |
| Dec 2007 | 0.2 | 1.9 |
| Nov | 0.5 | 3.2 |
| Oct | -0.4 | 2.7 |
| Sep | 0.6 | 2.9 |
| Aug | -0.4 | 2.6 |
| Jul | 0.3 | 3.4 |
| Jun | 0.3 | 2.9 |
| May | -0.2 | 3.1 |
| Apr | 0.8 | 3.6 |
| Mar | 0.7 | 2.5 |
| Feb | 0.6 | 1.7 |
| Jan | -0.5 | 1.4 |
| Dec 2006 | 2.8 | |
| Dec 2005 | 3.4 | |
| Dec 2004 | 4.0 | |
| Dec 2003 | 1.8 | |
| Dec 2002 | 2.3 | |
| Dec 2001 | -5.5 | |
| Dec 2000 | 0.4 | |
| Dec 1999 | 5.4 | |
| Average ∆% Dec 1986-Dec 2012 | 2.3 | |
| Average ∆% Dec 1986-Dec 1999 | 4.3 | |
| Average ∆% Dec 1999-Dec 2006 | 1.3 | |
| Average ∆% Dec 1999-Dec 2012 | 0.4 | |
| ∆% Peak 102.9843 in 06/2007 to 93.8394 in 12/2012 | -8.9 | |
| ∆% Peak 102.9843 on 06/2007 to Trough 80.2365 in 4/2009 | -22.1 | |
| ∆% Trough 80.2365 in 04/2009 to 93.8394 in 12/2012 | 16.9 |
Source: Board of Governors of the Federal Reserve System http://www.federalreserve.gov/releases/g17/current/
Chart II-1 of the Board of Governors of the Federal Reserve System provides industrial production, manufacturing and capacity since the 1970s. There was acceleration of growth of industrial production, manufacturing and capacity in the 1990s because of rapid growth of productivity in the US (Cobet and Wilson (2002); see Pelaez and Pelaez, The Global Recession Risk (2007), 135-44). The slopes of the curves flatten in the 2000s. Production and capacity have not recovered to the levels before the global recession.
Chart II-1, US, Industrial Production, Capacity and Utilization
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/ipg1.gif
The modern industrial revolution of Jensen (1993) is captured in Chart II-2 of the Board of Governors of the Federal Reserve System (for the literature on M&A and corporate control see Pelaez and Pelaez, Regulation of Banks and Finance (2009a), 143-56, Globalization and the State, Vol. I (2008a), 49-59, Government Intervention in Globalization (2008c), 46-49). The slope of the curve of total industrial production accelerates in the 1990s to a much higher rate of growth than the curve excluding high-technology industries. Growth rates decelerate into the 2000s and output and capacity utilization have not recovered fully from the strong impact of the global recession. Growth in the current cyclical expansion has been more subdued than in the prior comparably deep contractions in the 1970s and 1980s. Chart II-2 shows that the past recessions after World War II are the relevant ones for comparison with the recession after 2007 instead of common comparisons with the Great Depression (http://cmpassocregulationblog.blogspot.com/2013/03/mediocre-gdp-growth-at-16-to-20-percent.html). The bottom left-hand part of Chart II-2 shows the strong growth of output of communication equipment, computers and semiconductor that continued from the 1990s into the 2000s. Output of semiconductors has already surpassed the level before the global recession.
Chart II-2, US, Industrial Production, Capacity and Utilization of High Technology Industries
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/ipg3.gif
Additional detail on industrial production and capacity utilization is provided in Chart II-3 of the Board of Governors of the Federal Reserve System. Production of consumer durable goods fell sharply during the global recession by more than 30 percent and is still around the level before the contraction. Output of nondurable consumer goods fell around 10 percent and is some 5 percent below the level before the contraction. Output of business equipment fell sharply during the contraction of 2001 but began rapid growth again after 2004. An important characteristic is rapid growth of output of business equipment in the cyclical expansion after sharp contraction in the global recession. Output of defense and space only suffered reduction in the rate of growth during the global recession and surged ahead of the level before the contraction. Output of construction supplies collapsed during the global recession and is well below the level before the contraction. Output of energy materials was stagnant before the contraction but has recovered sharply above the level before the contraction.
Chart II-3, US, Industrial Production and Capacity Utilization
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/ipg2.gif
United States manufacturing output from 1919 to 2012 on a monthly basis is provided by Chart II-4 of the Board of Governors of the Federal Reserve System. The second industrial revolution of Jensen (1993) is quite evident in the acceleration of the rate of growth of output given by the sharper slope in the 1980s and 1990s. Growth was robust after the shallow recession of 2001 but dropped sharply during the global recession after IVQ2007. Manufacturing output recovered sharply but has not reached earlier levels and is losing momentum at the margin.
Chart II-4, US, Manufacturing Output, 1919-2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/
Manufacturing jobs increased 14,000 in Feb 2013 relative to Jan 2013, seasonally adjusted and increased 12,000 in Feb 2013 relative to Jan 2013, not seasonally adjusted, as shown in Table II-3. There are effects of the weaker economy and international trade together with the yearly adjustment of labor statistics. In the six months ending in Feb 2013, United States national industrial production accumulated increase of 2.5 percent at the annual equivalent rate of 5.1 percent, which is higher than 2.5 percent growth in 12 months. Capacity utilization for total industry in the United States increased 0.4 percentage points in Feb 2013 to 79.6 percent from 79.2 percent in Jan, which is 0.6 percentage points lower than the long-run average from 1972 to 2012. Manufacturing decreased 0.8 percent in Feb 2013 seasonally adjusted, increasing 2.2 percent not seasonally adjusted in 12 months, and increased 3.0 percent in the six months ending in Feb 2013 or at the annual equivalent rate of 6.1 percent. Table II-3 provides national income by industry without capital consumption adjustment (WCCA). “Private industries” or economic activities have share of 86.3 percent in US national income in IIQ2012 and 86.4 percent in IIIQ2012. Most of US national income is in the form of services. In Feb 2013, there were 133.603 million nonfarm jobs NSA in the US, according to estimates of the establishment survey of the Bureau of Labor Statistics (BLS) (http://www.bls.gov/news.release/empsit.nr0.htm Table B-1). Total private jobs of 111.432 million NSA in Feb 2013 accounted for 83.4 percent of total nonfarm jobs of 133.603 million, of which 11.866 million, or 10.7 percent of total private jobs and 8.9 percent of total nonfarm jobs, were in manufacturing. Private service-producing jobs were 93.345 million NSA in Feb 2013, or 70.0 percent of total nonfarm jobs and 83.8 percent of total private-sector jobs. Manufacturing has share of 11.2 percent in US national income in IIQ2011 and 11.1 percent in IIIQ2012, as shown in Table II-3. Most income in the US originates in services. Subsidies and similar measures designed to increase manufacturing jobs will not increase economic growth and employment and may actually reduce growth by diverting resources away from currently employment-creating activities because of the drain of taxation.
Table II-3, US, National Income without Capital Consumption Adjustment by Industry, Seasonally Adjusted Annual Rates, Billions of Dollars, % of Total
| SAAR | % Total | SAAR IIIQ2012 | % Total | |
| National Income WCCA | 13,833.6 | 100.0 | 13,976.7 | 100.0 |
| Domestic Industries | 13,586.3 | 98.2 | 13,733.6 | 98.3 |
| Private Industries | 11,933.2 | 86.3 | 12,075.0 | 86.4 |
| Agriculture | 131.7 | 0.9 | 138.6 | 1.0 |
| Mining | 208.3 | 1.5 | 205.3 | 1.5 |
| Utilities | 214.6 | 1.6 | 216.6 | 1.6 |
| Construction | 583.7 | 4.2 | 589.3 | 4.2 |
| Manufacturing | 1548.1 | 11.2 | 1548.9 | 11.1 |
| Durable Goods | 894.3 | 6.5 | 892.8 | 6.4 |
| Nondurable Goods | 653.8 | 4.7 | 656.1 | 4.7 |
| Wholesale Trade | 853.5 | 6.2 | 837.8 | 6.0 |
| Retail Trade | 951.9 | 6.9 | 957.4 | 6.9 |
| Transportation & WH | 414.5 | 3.0 | 415.5 | 3.0 |
| Information | 499.1 | 3.6 | 504.4 | 3.6 |
| Finance, Insurance, RE | 2237.5 | 16.2 | 2330.6 | 16.7 |
| Professional, BS | 1971.7 | 14.3 | 2003.4 | 14.3 |
| Education, Health Care | 1378.1 | 10.0 | 1385.6 | 9.9 |
| Arts, Entertainment | 540.4 | 3.9 | 539.4 | 3.9 |
| Other Services | 400.0 | 2.9 | 402.3 | 2.9 |
| Government | 1653.0 | 11.9 | 1658.6 | 11.9 |
| Rest of the World | 247.3 | 1.8 | 243.1 | 1.7 |
Notes: SSAR: Seasonally-Adjusted Annual Rate; WCCA: Without Capital Consumption Adjustment by Industry; WH: Warehousing; RE, includes rental and leasing: Real Estate; Art, Entertainment includes recreation, accommodation and food services; BS: business services
Source: US Bureau of Economic Analysis http://www.bea.gov/iTable/index_nipa.cfm
Chart II-5 of the Board of Governors of the Federal Reserve provides output of motor vehicles and parts in the United States from 1972 to 2013. Output has stagnated since the late 1990s.
Chart II-5, US, Motor Vehicles and Parts Output, 1972-2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/
Motor vehicle sales and production in the US have been in long-term structural change. Table II-4 provides the data on new motor vehicle sales and domestic car production in the US from 1990 to 2010. New motor vehicle sales grew from 14,137 thousand in 1990 to the peak of 17,806 thousand in 2000 or 29.5 percent. In that same period, domestic car production fell from 6,231 thousand in 1990 to 5,542 thousand in 2000 or -11.1 percent. New motor vehicle sales fell from 17,445 thousand in 2005 to 11,772 in 2010 or 32.5 percent while domestic car production fell from 4,321 thousand in 2005 to 2,840 thousand in 2010 or 34.3 percent. In Jan-Feb 2013, light vehicle sales accumulated to 2,235,352, which is higher by 8.4 percent relative to 2,062,722 a year earlier (http://motorintelligence.com/m_frameset.html). The seasonally-adjusted annual rate of light vehicle sales in the US reached 15.38 million in Feb 2013, higher than 15.29 million in Jan 2013 and higher than 14.50 million in Feb 2012 (http://motorintelligence.com/m_frameset.html).
Table II-4, US, New Motor Vehicle Sales and Car Production, Thousand Units
| New Motor Vehicle Sales | New Car Sales and Leases | New Truck Sales and Leases | Domestic Car Production | |
| 1990 | 14,137 | 9,300 | 4,837 | 6,231 |
| 1991 | 12,725 | 8,589 | 4,136 | 5,454 |
| 1992 | 13,093 | 8,215 | 4,878 | 5,979 |
| 1993 | 14,172 | 8,518 | 5,654 | 5,979 |
| 1994 | 15,397 | 8,990 | 6,407 | 6,614 |
| 1995 | 15,106 | 8,536 | 6,470 | 6,340 |
| 1996 | 15,449 | 8,527 | 6,922 | 6,081 |
| 1997 | 15,490 | 8,273 | 7,218 | 5,934 |
| 1998 | 15,958 | 8,142 | 7,816 | 5,554 |
| 1999 | 17,401 | 8,697 | 8,704 | 5,638 |
| 2000 | 17,806 | 8,852 | 8,954 | 5,542 |
| 2001 | 17,468 | 8,422 | 9,046 | 4,878 |
| 2002 | 17,144 | 8,109 | 9,036 | 5,019 |
| 2003 | 16,968 | 7,611 | 9,357 | 4,510 |
| 2004 | 17,298 | 7,545 | 9,753 | 4,230 |
| 2005 | 17,445 | 7,720 | 9,725 | 4,321 |
| 2006 | 17,049 | 7,821 | 9,228 | 4,367 |
| 2007 | 16,460 | 7,618 | 8,683 | 3,924 |
| 2008 | 13,494 | 6,814 | 6.680 | 3,777 |
| 2009 | 10,601 | 5,456 | 5,154 | 2,247 |
| 2010 | 11,772 | 5,729 | 6,044 | 2,840 |
Source: US Census Bureau http://www.census.gov/compendia/statab/cats/wholesale_retail_trade/motor_vehicle_sales.html
Chart II-6 of the Board of Governors of the Federal Reserve System provides output of computers and electronic products in the United States from 1972 to 2013. Output accelerated sharply in the 1990s and 2000s and has surpassed the level before the global recession beginning in IVQ2007.
Chart II-6, US, Output of Computers and Electronic Products, 1972-2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/
Chart II-7 of the Board of Governors of the Federal Reserve System shows that output of durable manufacturing accelerated in the 1980s and 1990s with slower growth in the 2000s perhaps because processes matured. Growth was robust after the major drop during the global recession but appears to vacillate in the final segment.
Chart II-7, US, Output of Durable Manufacturing, 1972-2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/
Chart II-8 of the Board of Governors of the Federal Reserve System provides output of aerospace and miscellaneous transportation equipment from 1972 to 2013. There is long-term upward trend with oscillations around the trend and cycles of large amplitude.
Chart II-8, US, Output of Aerospace and Miscellaneous Transportation Equipment, 1972-2013
Source: Board of Governors of the Federal Reserve System
http://www.federalreserve.gov/releases/g17/current/
The Empire State Manufacturing Survey Index in Table II-5 provides continuing deterioration that started in Jun 2012 well before Hurricane Sandy in Oct 2012. The current general index has been in negative contraction territory from minus 3.78 in Aug 2012 to minus 7.78 in Jan 2012. There was a jump from contraction in Jan 2013 to expansion at 10.04 in Feb 2013 and continuing expansion at 9.24 in Mar 2013. The index of current orders has also been in negative contraction territory from minus 4.63 in Aug 2012 to minus 7.18 in Jan 2013 with exception of 2.93 in Nov 2012 but jumped to expansion at 13.31 in Feb 2013 and 8.18 in Mar 2013. Number of workers and hours worked have registered negative or declining readings since Sep 2012 but with increase to 8.08 in expansion territory for number of workers in Feb 2013 and 3.23 in Mar 2013. There is improvement in the general index for the next six months to 10.75 in Jan 2013 from 1.08 in Dec 2012 but marginal decline to 2.15 in Mar 2013 and in new orders to 34.94 in Mar 2013 from 29.11 in Feb 2013.
Table II-5, US, New York Federal Reserve Bank Empire State Manufacturing Survey Index SA
| General | New Orders | Shipments | # Workers | Average Work-week | |
| Current | |||||
| Mar 2013 | 9.24 | 8.18 | 7.76 | 3.23 | 0.0 |
| Feb | 10.04 | 13.31 | 13.08 | 8.08 | -4.04 |
| Jan | -7.78 | -7.18 | -3.08 | -4.30 | -5.38 |
| Dec 2012 | -7.30 | -3.44 | 11.93 | -9.68 | -10.75 |
| Nov | -4.31 | 2.93 | 14.18 | -14.61 | -7.87 |
| Oct | -6.75 | -7.21 | -6.48 | -1.08 | -4.30 |
| Sep | -7.54 | -10.60 | 7.30 | 4.26 | -1.06 |
| Aug | -3.78 | -4.63 | 6.37 | 16.47 | 3.53 |
| Jul | 7.08 | -2.27 | 11.52 | 18.52 | 0.00 |
| Jun | 4.15 | 2.28 | 6.34 | 12.37 | 3.09 |
| May | 14.52 | 8.99 | 23.11 | 20.48 | 12.05 |
| Apr | 6.40 | 4.81 | 4.51 | 19.28 | 6.02 |
| Mar | 18.00 | 6.55 | 15.97 | 13.58 | 18.52 |
| Feb | 18.31 | 7.93 | 19.90 | 11.76 | 7.06 |
| Jan | 12.12 | 11.21 | 21.69 | 12.09 | 6.59 |
| Dec 2011 | 9.6 | 6.35 | 18.94 | 2.33 | -2.33 |
| Nov | 1.82 | -0.97 | 23.77 | -3.66 | 2.44 |
| Oct | -7.39 | 1.51 | 11.34 | 3.37 | -4.49 |
| Sep | -4.75 | -4.31 | 2.46 | -5.43 | -2.17 |
| Six Months | |||||
| Mar 2013 | 2.15 | 34.94 | 41.60 | 19.35 | 2.15 |
| Feb | 8.08 | 29.11 | 26.82 | 15.15 | 11.11 |
| Jan | 10.75 | 25.11 | 23.86 | 7.53 | 3.23 |
| Dec 2012 | 1.08 | 17.19 | 22.46 | 10.75 | 5.38 |
| Nov | 5.62 | 15.96 | 25.67 | -1.12 | 0.00 |
| Oct | 4.30 | 22.79 | 17.39 | 0.00 | -11.83 |
| Sep | 5.32 | 27.85 | 23.35 | 8.51 | 2.13 |
| Aug | 2.35 | 14.34 | 21.16 | 3.53 | -8.24 |
| Jul | 3.70 | 19.85 | 21.60 | 6.17 | -4.94 |
| Jun | 1.03 | 26.02 | 22.18 | 16.49 | 2.06 |
| May | 12.05 | 31.26 | 26.00 | 12.05 | 8.43 |
| Apr | 19.28 | 38.95 | 40.75 | 27.71 | 10.84 |
| Mar | 13.58 | 39.18 | 41.64 | 32.10 | 20.99 |
| Feb | 15.29 | 39.25 | 40.92 | 29.41 | 18.82 |
| Jan | 23.08 | 45.70 | 44.12 | 28.57 | 17.58 |
| Dec 2011 | 3.49 | 42.20 | 40.36 | 24.42 | 22.09 |
| Nov | 6.10 | 30.89 | 33.01 | 14.63 | 8.54 |
| Oct | 4.49 | 19.71 | 22.65 | 6.74 | -2.25 |
| Sep | 8.70 | 23.52 | 22.89 | 0.00 | -6.52 |
Source: http://www.newyorkfed.org/survey/empire/empiresurvey_overview.html
The Business Outlook Survey Diffusion Index of the Federal Reserve Bank of Philadelphia in Table II-6 also shows deterioration followed with improvement. The general index fell deeper into contraction territory of minus 12.5 in Feb 2013 with improvement to 2.0 in Mar 2012 and the index of new orders fell to minus 7.8 with improvement to 0.5 in Mar 2013. Employment segments also show weakness in Mar 2013: 2.7 for number of workers and minus 12.9 for hours worked. Expectations for the next six months are brighter with the general index increasing to 34.5 in Mar 2013 and the index of new orders at 31.2.
Table II-6, FRB of Philadelphia Business Outlook Survey Diffusion Index SA
| General Index | New Orders | Ship- | # of Workers | Average Workweek | |
| 11-Jan | 15.0 | 19.1 | 11.1 | 13.9 | 8.0 |
| 11-Feb | 25.6 | 15.7 | 24.0 | 19.6 | 6.9 |
| 11-Mar | 36.1 | 33.2 | 28.1 | 16.1 | 7.3 |
| 11-Apr | 13.7 | 12.6 | 23.0 | 9.9 | 15.1 |
| 11-May | 4.0 | 6.8 | 5.4 | 22.2 | 2.8 |
| 11-Jun | -1.1 | -1.2 | 5.7 | 3.4 | 3.7 |
| 11-Jul | 9.4 | 4.7 | 9.0 | 12.6 | -0.8 |
| 11-Aug | -19.0 | -18.6 | -4.7 | -0.5 | -7.6 |
| 11-Sep | -10.0 | -4.5 | -7.4 | 9.4 | -2.8 |
| 11-Oct | 9.7 | 8.8 | 11.2 | 7.8 | 5.2 |
| 11-Nov | 5.0 | 3.6 | 6.9 | 10.9 | 6.8 |
| 11-Dec | 4.2 | 5.9 | 6.2 | 8.0 | -0.3 |
| 12-Jan | 4.7 | 9.0 | 4.4 | 9.6 | 3.9 |
| 12-Feb | 5.0 | 5.3 | 8.6 | 0.9 | 5.7 |
| 12-Mar | 8.6 | -0.7 | 0.2 | 5.9 | -0.6 |
| 12-Apr | 6.5 | -0.8 | 0.5 | 13.4 | -3.4 |
| 12-May | -4.9 | -0.6 | 2.7 | -0.2 | -6.4 |
| 12-Jun | -12.8 | -13.1 | -13.8 | 2.3 | -16.9 |
| 12-Jul | -9.1 | -2.1 | -7.5 | -4.7 | -13.9 |
| 12-Aug | -1.7 | -0.8 | -5.9 | -7.6 | -9.9 |
| 12-Sep | 1.4 | 2.5 | -10.4 | -4.9 | -2.9 |
| 12-Oct | 4.2 | -0.5 | -3.5 | -7.6 | -6.5 |
| 12-Nov | -8.9 | -4.7 | -6.3 | -6.9 | -7.4 |
| 12-Dec | 4.6 | 4.9 | 14.7 | -0.2 | 0.4 |
| 13-Jan | -5.8 | -4.3 | 0.4 | -5.2 | -8.3 |
| 13-Feb | -12.5 | -7.8 | 2.4 | 0.9 | -1.6 |
| 13-Mar | 2.00 | 0.5 | 3.5 | 2.7 | -12.9 |
| Future | General Index | New Orders | Ship- ments | # of Workers | Average Workweek |
| 10-Dec | 42.1 | 41.9 | 14.5 | 28 | 22.0 |
| 11-Jan | 35.9 | 39.8 | 10.3 | 29.1 | 19.6 |
| 11-Feb | 38.6 | 42.7 | 14.2 | 22.6 | 11.8 |
| 11-Mar | 53.6 | 52.3 | 12.6 | 25.2 | 13.0 |
| 11-Apr | 26.6 | 33.5 | 8.8 | 32.3 | 15.9 |
| 11-May | 22.4 | 26.1 | 3.8 | 20.9 | 12.5 |
| 11-Jun | 9.6 | 7.7 | -4.7 | 7.2 | 4.2 |
| 11-Jul | 35.0 | 31.0 | 8 | 16.2 | 6.6 |
| 11-Aug | 26.4 | 22.8 | 3.5 | 13.9 | 2.4 |
| 11-Sep | 26.6 | 27.0 | 6 | 13.4 | 5.7 |
| 11-Oct | 29.8 | 31.0 | 5.3 | 17.5 | 8.2 |
| 11-Nov | 36.2 | 34.0 | 8.9 | 27.9 | 4.5 |
| 11-Dec | 37.7 | 31.6 | 4.4 | 7.9 | 2.0 |
| 12-Jan | 43.9 | 46.1 | 13.0 | 17.8 | 6.8 |
| 12-Feb | 32.2 | 26.3 | 5.7 | 20.2 | 8.7 |
| 12-Mar | 34.4 | 28.6 | 6 | 19.2 | 8.0 |
| 12-Apr | 34.8 | 29.6 | 5.6 | 23.6 | 6.9 |
| 12-May | 30.2 | 26.0 | 10.1 | 11.8 | 1.2 |
| 12-Jun | 35.5 | 35.6 | 6 | 19.1 | 5.0 |
| 12-Jul | 30.8 | 24.7 | 6.5 | 15.3 | 14.6 |
| 12-Aug | 25.3 | 17.3 | 4.8 | 14.5 | 8.8 |
| 12-Sep | 52.0 | 42.8 | 12.6 | 21.2 | 13.8 |
| 12-Oct | 22.6 | 22.7 | 8.6 | 9.8 | 10.5 |
| 12-Nov | 23.2 | 24.9 | 2.7 | 7.0 | 8.20 |
| 12-Dec | 28.3 | 28.0 | 2.7 | 11.2 | 14.4 |
| 13-Jan | 32.5 | 38.9 | 2.9 | 10.7 | 8.90 |
| 13-Feb | 38.0 | 30.3 | 4.3 | 14.9 | 6.50 |
| 13-Mar | 34.5 | 31.2 | 6.60 | 8.10 | 3.40 |
Source: Federal Reserve Bank of Philadelphia http://www.philadelphiafed.org/index.cfm
Chart II-9 of the Federal Reserve Bank of Philadelphia is very useful, providing current and future general activity indexes from Jan 1995 to Jun 2012. The shaded areas are the recession cycle dates of the National Bureau of Economic Research (NBER) (http://www.nber.org/cycles.html). The Philadelphia Fed index dropped during the initial period of recession and then led the recovery, as industry overall. There was a second decline of the index into 2011 followed now by what hopefully appeared as renewed strength from late 2011 into Jan 2012 with decline to negative territory of the current activity index in Nov 2012 and return to positive territory in Dec 2012 with decline of current conditions into contraction in Jan-Feb 2013 and rebound to expansion in Mar 2013.
Chart II-9, Federal Reserve Bank of Philadelphia Business Outlook Survey, Current and Future Activity Indexes
Source: Federal Reserve Bank of Philadelphia
http://www.philadelphiafed.org/index.cfm
The index of current new orders of the Business Outlook Survey of the Federal Reserve Bank of Philadelphia in Table II-10 illustrates the weakness of the cyclical expansion. The index weakened in 2006 and 2007 and then fell sharply into contraction during the global recession. There have been nine readings into contraction and generally weak readings with some exceptions.
Chart II-10, Federal Reserve Bank of Philadelphia Current New Orders Diffusion Index
Source: Federal Reserve Bank of Philadelphia
http://www.philadelphiafed.org/index.cfm
© Carlos M. Pelaez, 2010, 2011, 2012, 2013
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